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Exhibit 99.2
EXHIBIT 99.2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Certain statements in this Form 8-K and in our future filings with the
Securities and Exchange Commission and our written and oral statements that are
not statements of historical facts are "forward-looking statements" within the
meaning of the Private Securities Litigation Reform Act of 1995. The words
"believe," "expect," "anticipate," "intend," "will" and similar expressions are
examples of words that identify forward-looking statements. Forward-looking
statements include, without limitation, statements regarding our future
financial position, business strategy and expected cost savings. These forward-
looking statements are based on our current beliefs, as well as assumptions we
have made based upon information currently available to us.
Each forward-looking statement reflects our current view of future events
and is subject to risks, uncertainties and other factors that could cause actual
results to differ materially from any results expressed or implied by our
forward-looking statements. Important factors that could cause actual results to
differ materially from the results expressed or implied by any forward-looking
statements include:
. our ability to successfully penetrate the network, application and ASP
markets;
. the consummation of the merger with Cereus Technology Partners, Inc.
("Cereus");
. our ability to dispose of our hospitality services group;
. our ability to fund continuing operating losses and capital
requirements;
. trends for the continued growth of the business of Eltrax and Cereus;
. our ability to successfully access the capital markets to fund the
growth of our business;
. our ability to enhance revenue and earnings growth;
. our ability to continue to successfully market existing products and
services, which may be adversely impacted by competition;
. our ability to integrate our business with Cereus' business and other
prior and subsequent mergers and acquisitions;
. our ability to successfully develop and market new products and
services;
. our ability to expand our market for existing products and services;
. the effects of our accounting policies and general changes in generally
accepted accounting practices;
. general economic and business conditions; and
. other factors disclosed in Form 10-K for the year ended December 31,
1999 and in our other filings with the Securities and Exchange
Commission.
All subsequent forward-looking statements relating to the matters described
in this document and attributable to us or to persons acting on our behalf are
expressly qualified in their entirety by such factors. We have no obligation to
publicly update or revise these forward-looking statements to reflect new
information, future events, or otherwise, except as required by applicable
Federal securities laws, and we caution you not to place undue reliance on these
forward-looking statements.
Restatement
-----------
The following discussion presents the Company's restated management's
discussion and analysis of financial condition and results of operations
previously included our Annual Report on Form 10-K for the year ended December
31, 1999.
General
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Beginning in 1998, the Company began to reposition operations to areas with
higher growth and margin potential. Specifically, the Company consolidated
certain offices and closed other offices that specialized in the lower margin
distribution of products to reseller customers. This decision was implemented in
the first quarter of 1998, which resulted in the write-down of certain
intangible assets in 1997 and significantly reduced 1998 sales. In addition, in
the last two years, the Company's continuing operations have acquired two
businesses, and in 1999 recorded non-recurring merger-related transaction and
reorganization costs totaling $713,000. We believe such events significantly
affect the comparability of the Company's results of operations from year to
year. You should read the following discussion of our results of operations and
financial condition in conjunction with our consolidated financial statements
and related notes thereto included in Exhibit 99.1 of this Form 8-K.
Results of Operations
---------------------
Fiscal Year 1999 Compared with Fiscal Year 1998
For the year ended December 31, 1999, the Company's loss from continuing
operations totaled $5.9 million, or $.25 per share, compared with a loss from
continuing operations of $1.8 million, or $.08 per share, for 1998. The 1999
results included non-recurring merger-related transaction and reorganization
costs totaling approximately $713,000. These charges consisted primarily of
costs related to facilities that will not be utilized fully in the future,
severance for employees terminated, costs related to the recruitment and
relocation of management and administrative personnel to Atlanta, and legal,
accounting and other fees associated with the merger with Windward Technology
Group on March 31, 1999. See footnote 5 to the Company's consolidated financial
statements included in Exhibit 99.1 of this Form 8-K. Excluding these charges,
the net loss for the year ended December 31, 1999 totaled $5.2 million.
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EBITA from continuing operations
Year Ended December 31,
----------------------------
Dollars in thousands 1999 1998 Change
-------------------------------------------------------------
Revenue $61,685 $52,605 17.3%
Cost of Revenue 41,709 39,481 5.6
-------------------
Gross profit 19,976 13,124 52.2
Gross profit percentage 32.4% 24.9%
Direct expenses, including
research and development 19,277 12,159 58.5
-------------------
EBITA $ 699 $ 965 (27.6)
-------------------------------------------------------------
Operating results from continuing operations during the year ended December
31, 1999, reflect the impact of actions taken in the prior year to reposition
operations to areas with higher growth and higher margin potential. Revenues
increased approximately $9.1 million in the year ended December 31, 1999, over
1998, primarily due to increased growth in the focus on the Company's IT
consulting services, network management and customer care services, and the
inclusion of revenue from the Company's customer care operations for a full year
in 1999 compared with only four months in 1998, offset by reduced sales as a
result of the closure of the Company's distribution operations in early 1998.
The Company closed its distribution operations in connection with its
repositioning of operations to areas with higher growth and higher margin
potential. The gross profit percentage increased to 32.4% during the year ended
December 31, 1999, reflecting a change in the mix of sales from lower margin
products and services to higher margin services. An increase in the direct
expenses from continuing operations, including research and development, of
approximately $7.1 million resulted primarily from the inclusion of the customer
care operations of Encore Systems, Inc. for a full year, investment in the
Company's ASP initiatives and continued investment in personnel and related
costs to fuel growth.
Corporate and administrative expenses were approximately $4.4 million for
the year ended December 31, 1999, an increase of approximately $2.2 million
compared to 1998. Corporate and administrative expenses increased due to
increased marketing, and increased finance, human resources and administrative
costs related to promoting and supporting the Company's new strategic direction.
Amortization of intangibles was $1.4 million for the year ended December 31,
1999, an increase of $756,000 compared to 1998, primarily due to the inclusion
of Encore's operations for a full year.
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Fiscal Year 1998 Compared with Fiscal Year 1997
For the year ended December 31, 1998, the Company's loss from continuing
operations totaled $1.8 million, or $.08 per share, compared with loss from
continuing operations of $10.2 million or $.57 per share, for 1997.
EBITA from continuing operations
<TABLE>
<CAPTION>
Year Ended December 31,
------------------------------------
Dollars in thousands 1998 1997 Change
----------------------------------------------------------------------------
<S> <C> <C> <C>
Revenue $52,605 $49,934 5.3 %
Cost of revenue 39,481 41,329 (4.5)
----------------------
Gross profit 13,124 8,605 52.5
Gross profit percentage 24.9% 17.2%
Direct expenses, including
research and development 12,159 9,860 23.3
----------------------
EBITA $ 965 $(1,255) -
----------------------------------------------------------------------------
</TABLE>
Operating results from continuing operations during the year ended December
31, 1998, reflect the impact of actions taken to reposition operations to areas
with higher growth and margin potential. Revenues increased approximately $2.7
million in the year ended December 31, 1998, compared to 1997, primarily due to
the Company's entry into the network services and managed services markets,
offset by reduced sales from the closure of the Company's distribution
operations in early 1998. The gross profit percentage increased to 24.9% during
the year ended December 31, 1998, reflecting a change in the mix of sales from
lower margin products to higher margin services and products. An increase in
operating expenses from continuing operations of approximately $2.3 million in
the year ended December 31, 1998 compared to 1997, was due primarily to the
inclusion of Encore's customer care operations beginning in September 1998.
Corporate and administrative expenses remained relatively constant at
approximately $2.3 million by the year ended December 31, 1998, compared to
approximately $2.4 million for the year ended December 31, 1998. Amortization of
intangibles was approximately $647,000 for the year ended December 31, 1998, an
increase of $212,000 compared to 1997, primarily due to the inclusion of
Encore's operations beginning on September 1, 1998.
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Liquidity and Capital Resources
-------------------------------
Liquidity is the measurement of the Company's ability to have adequate cash
or access to cash at all times in order to meet financial obligations when due
as well as to fund corporate expansion and other activities. Historically, the
Company has met its liquidity requirements through a combination of working
capital provided by operating activities, debt from third party lenders and
issuances of equity securities. The Company's cash and cash equivalents totaled
$613,000 at December 31, 1999, and $7.2 million at December 31, 1998.
Cash used in operations in the year ended December 31, 1999 totaled
approximately $548,000. The Company's use of cash in operations during 1999
resulted primarily from a net loss of $9.8 million and was offset by non-cash
charges for depreciation and amortization of $5.0 million, and cash provided by
operating items of approximately $4.3 million. Cash provided by operations in
1998 totaled approximately $1.8 million.
The Company used cash in investing activities in the year ended December
31, 1999, of approximately $6.4 million, compared to $12.1 million in 1998. Of
such amounts, the Company spent $2.1 million and $1.7 million on capitalized
software costs in 1999 and 1998, respectively, and $4.3 million and $2.1 million
on capital expenditures in 1999, and 1998, respectively. Also, in September
1998 the Company used $8.3 million in cash to purchase Encore.
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Cash provided by financing activities totaled approximately $379,000 in the
year ended December 31, 1999, compared to $8.3 million provided by financing
activities in 1998. Borrowings on the Company's credit line during the year
ended December 31, 1999, totaling approximately $2.3 million and proceeds from
the issuance of common stock totaling approximately $382,000, were offset by
payments on long-term debt totaling $2.3 million. Proceeds from the issuance of
common stock and a term loan during 1998 totaled $7.5 million and $4.0 million,
respectively, and were offset by payments on the credit line and long term debt
totaling $2.8 million, and the purchase of treasury stock of approximately
$387,000.
At December 31, 1999, the Company had approximately $7.8 million
outstanding under its former credit facilities with Citizens Bank (the "Old
Facilities"). During fiscal year 1999, the Company was not in compliance with
certain financial and operating covenants contained in the Old Facilities.
Citizens Bank subsequently waived such non-compliance. The Company was never in
default of payments due under the Old Facility. On March 14, 2000, the Company
obtained a $20.0 million asset based revolving credit facility with PNC Bank
(the "New Facility"). The New Facility is secured by substantially all of the
assets of the Company. The availability under the New Facility at the closing
was approximately $14.6 million. In addition, in the first quarter of fiscal
year 2000, William P. O'Reilly, chairman of the Board, made a bridge loan to the
Company in the amount of $2.6 million, the proceeds of which were used for the
Company's short term working capital needs. The Company used $7.5 million of the
proceeds of the New Facility to repay the Old Facility in full, $2.6 million to
repay the bridge loan to Mr. O'Reilly and approximately $900,000 to repay other
third party debt.
For the quarter ended March 31, 2000, Eltrax was not in compliance with the
cumulative net cash flow covenant in the PNC Bank facility. On May 15, 2000,
PNC Bank waived the non-compliance. In connection with the waiver and the
amendment described below, Eltrax paid PNC Bank a fee of $250,000.
Because the net cash flow covenant is cumulative, and because of additional
losses from continuing and discontinued operations in the second quarter, Eltrax
was not in compliance with the covenant for the quarter ended June 30, 2000. In
addition, Eltrax was not in compliance with a covenant regarding year 2000
capital expenditures and a covenant regarding maximum rental payments under
lease arrangements. On July 27, 2000, PNC Bank waived the non-compliance with
each of these covenants. Also on July 27, 2000, PNC Bank modified the covenants
regarding capital expenditures and rental payments for the balance of fiscal
year 2000. In connection with the waiver, Eltrax agreed to either (i) issue PNC
Bank warrants to purchase 12,532 shares Eltrax common stock with certain
registration rights, or (ii) pay PNC Bank a waiver and consent fee of $50,000.
Eltrax expects to obtain modifications to the financial covenants that
contemplates the planned disposition of HSG, the funding of an additional $5
million under the existing bridge facility between Eltrax and Cereus as well as
the projected results of operations.
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On May 15, 2000 PNC Bank and Eltrax amended the facility to increase the
requirements that Eltrax maintain undrawn availability under the facility from
at least $1.0 million at all times to at least $3.0 million during the first
and third month of each fiscal quarter and at least $2.0 million during the
second month of each fiscal quarter. In connection with the closing of the
bridge facility with Cereus, PNC Bank and Eltrax amended the PNC Bank facility
to modify the undrawn availability covenant to reduce the requirement that
Eltrax maintain undrawn availability under the facility to at least $1.0 million
at all times before October 1, 2000. After that time, the covenant reverts to
the staged requirements discussed above. As a condition to Cereus's obligation
to amend the bridge facility to provide Eltrax with an additional $5.0 million
in borrowing availability under the bridge facility, PNC Bank has been requested
to maintain the undrawn availability covenant at $1.0 million.
On June 29, 2000 Eltrax announced that as part of its effort to prepare for
the merger, it had reorganized operations and eliminated approximately 100
positions held by employees, as well as most positions held by contract
professionals. As a result of these actions, Eltrax recorded restructuring costs
of approximately $1.5 million in the second quarter. Eltrax expects the
reduction in force, along with other costs reduction initiatives implemented in
the second quarter, will result in approximately $12.0 million in annualized
cash savings.
One June 29, 2000, Eltrax sold 180,000 shares of its common stock in a
private placement to an investor for net proceeds of $990,000.
On July 27, 2000, Eltrax entered into an agreement with an investor to
issue $7.0 million of convertible senior subordinated notes ("Convertible
Subordinated Notes" or "Notes"). The Notes are due July 27, 2001 and carry
warrants to purchase 364,584 shares of common stock at an exercise price of
$5.03 per share. The Notes are convertible into Eltrax's common stock at a price
of $4.80 per share. The conversion price is subject to adjustment upon the
occurrence of certain events. The Notes also have certain put and call features.
Concurrent with the execution of the agreement, $4.0 million dollars was funded
by the investor. An additional $1.0 million will be funded immediately upon
Eltrax's execution of a definitive agreement to sell all or part of its
hospitality services group for proceeds of at least $8.0 million. The remaining
$2.0 million will be funded upon the closing of the merger with Cereus.
The Company received a loan of $4.0 million from Cereus during the quarter
ended June 30, 2000 pursuant to a $5.0 million bridge facility. Cereus has
agreed to increase the amount available under the bridge facility, prior to the
closing of the merger, from $5.0 million to $10.0 million, subject to PNC Bank
agreeing to certain modifications to the PNC facility. The loan from Cereus is
in the form of a convertible subordinated note. The convertible subordinated
notes bears interest at prime plus 2.0%.
Short-term and Long-term Liquidity
Commencing in the second quarter, due to greater losses than anticipated in
the second quarter and the resultant shortage of available cash, the Company has
not made timely payments to all of its trade and other creditors. As of June 30,
2000, the Company had payables which were more than 30 days past due in the
amount of approximately $4.9 million relating to continuing operations. The
Company has negotiated deferred payment terms with most of these creditors.
7
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The Company expects to meet its short-term working capital needs with
borrowings under the PNC and Cereus facilities, the proceeds from the sale of
all or a portion of HSG, and up to $3.0 million in proceeds from the funding of
the additional Convertible Subordinated Notes. The Company cannot meet its
working capital needs without these capital sources. The Company's ability to
access that capital is contingent on events, most of which are outside the
Company's control. For example, the Company has entered into a letter of intent
with respect to the sale of its lodging and international business and are in
discussions for the sale of the Company's subsidiary, Squirrel Systems, Inc.
However, the consummation of both of those transactions is contingent on the
negotiation and execution of a definitive agreement and the completion of due
diligence and other matters customary in transactions of that sort.
While the Company expects to be able to close both of these transactions,
there can be no assurance that either or both of the transactions will close.
Also, there can be no assurance that the additional $3.0 million of Convertible
Subordinated Notes will be funded because the funding or $1.0 million of the
Notes is contingent on the execution of a definitive agreement for the sale of
all or a portion of HSG for gross proceeds of at least $8.0 million and the
funding of $3.0 million of the Notes is contingent on the closing of the merger
with Cereus.
Similarly, the Company's access to the additional $5.0 million of funding
from Cereus is contingent upon PNC Bank agreeing to certain modifications to the
PNC facility. While the Company expects to obtain the required modifications,
there can be no assurance that it will be successful in obtaining those
modifications. As such, there can be no assurance that the Company will have
access to the additional Cereus funding.
Finally, the Company's ability to access the PNC facility is contingent on
its compliance with the financial and other covenants and terms of that
facility. If the Company is in violation of the PNC facility, or does not have
sufficient eligible accounts receivable to support the level of borrowings it
needs, the Company will be unable to draw on the facility.
If any of these contingencies is not satisfied or the Company is in
violation of the PNC facility so that the Company does not have access to any
one of these sources of capital through the remainder of the 2000 fiscal year,
then the Company's ability to continue to operate would be jeopardized. In this
event, the Company would be forced to seek working capital from other sources to
fund delinquent accounts payable and meet ongoing trade obligations. However,
there can be no assurance that other financing sources will be available to meet
the Company's needs at that time.
Even if the Company is able to meet its short-term capital needs from the
capital sources described above, the Company's ability to meet its long-term
capital needs will be subject to factors outside of its control. Specifically,
unless the price of the Company's common stock increases significantly so that
holders of the Company's convertible debt are likely to convert such debt into
common stock, the Company will be required to restructure that debt or raise
additional equity capital to fund such debt repayment beginning in June 2001.
The principal amount of the convertible debt outstanding at August 10, 2000 was
$9.0 million. If the balance of the Convertible Subordinated Notes and the
additional debt from the Cereus bridge facility is funded (and assuming the
Company's pending merger with Cereus is not completed), the principal amount of
convertible debt outstanding would be $17.0 million. To the extent such debt is
not converted in full, or the Company is not able to restructure the terms of
such debt or obtain the necessary funds to repay it in full, the Company does
not expect that it will be able to meet its long-term obligations.
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QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market Risk
The Company is exposed to various market risks, including changes in
foreign currency exchange rates and interest rates. Market risk is the potential
loss arising from adverse changes in market rates and prices, such as foreign
currency exchange and interest rates. The Company does not enter into
derivatives or other financial instruments for trading or speculative purposes.
The Company has also not entered into financial instruments to manage and reduce
the impact of changes in foreign currency exchange rates and interest rates. The
Company may enter into such transactions in the future.
Interest Rate Risks
The Company's debt at December 31, 1999, primarily carries interest rates
which vary with the prime rate. Accordingly, any increases in the banks' prime
rate will reduce the Company's earnings. A 1% increase in the prime rate on the
Company's $9.5 million of bank debt at December 31, 1999 would result in an
annual expense increase of approximately $95,000.
Foreign Currency Risks
At December 31, 1999 the Company had foreign currency denominated assets
and liabilities of approximately $10.0 million and $3.4 million, respectively.
9
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Risk Factors
You should carefully consider the following risk factors as well as other
information included in this document. If any of the following events actually
occur, our business, financial condition and results of operations could be
materially adversely affected. In that event, the trading price of our common
stock could decline.
Risks Related to Our Business
-----------------------------
Our stockholders are subject to the following risks related to our business.
We may be unable to meet our future working capital requirements.
Background. For the quarter ended March 31, 2000, we were not in compliance
with the cumulative net cash flow covenant in our bank facility. On May 15,
2000, our bank waived the non-compliance.
Because the net cash flow covenant is cumulative, and because of additional
losses from continuing and discontinued operations in the second quarter, we
were not in compliance with the covenant for the quarter ended June 30, 2000.
In addition, we were not in compliance with a covenant regarding year 2000
capital expenditures and a covenant regarding maximum rental payments under
lease arrangements. On July 27, 2000, the bank waived the non-compliance with
each of these covenants. Also on July 27, 2000, the bank modified the covenants
regarding capital expenditures and rental payments for the balance of fiscal
year 2000.
On July 27, 2000, we entered into an agreement with an investor to issue $7.0
million of convertible senior subordinated notes ("Convertible Subordinated
Notes" or "Notes"). The Notes are due July 27, 2001. The Notes are convertible
into our common stock at a price of $4.80 per share. The conversion price is
subject to adjustment upon the occurrence of certain events. The Notes also have
certain put and call features. Concurrent with the execution of the agreement,
$4.0 million dollars was funded by the investor. An additional $1.0 million will
be funded immediately upon our execution of a definitive agreement to sell all
or part of our hospitality services group for proceeds of at least $8.0 million.
The remaining $2.0 million will be funded upon the closing of the merger with
Cereus.
We received a loan of $4.0 million from Cereus during the quarter ended June
30, 2000 pursuant to a $5.0 million bridge facility. Cereus has agreed to
increase the amount available under the bridge facility, prior to the closing of
the merger with Cereus, from $5.0 million to $10.0 million, subject to our bank
agreeing to certain modifications to our senior bank credit facility. The loan
from Cereus is in the form of a convertible subordinated note. The convertible
subordinated notes bears interest at prime plus 2.0%.
Short-term and long-term liquidity. At June 30, 2000, we had a negative
working capital position (excess of current liabilities over current assets) of
$5.2 million. Our net cash position (deficit), defined as the sum of cash, cash
equivalents and short-term investments less short term borrowings and long-term
debt, was $(17.3 million) at June 30, 2000, compared to $(9.9 million) at
December 31, 1999.
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Commencing in the second quarter, due to greater losses than anticipated in
the second quarter and the resultant shortage of available cash, we have not
made timely payments to all of our trade and other creditors. As of June 30,
2000, we had payables which were more than 30 days past due in the amount of
approximately $4.9 million relating to continuing operations. We have negotiated
deferred payment terms with most of these creditors.
We expect to meet our short-term working capital needs with borrowings under
the bank and Cereus facilities, the proceeds from the sale of all or a portion
of the hospitality services group, and up to $3.0 million in proceeds from the
funding of the additional Convertible Subordinated Notes. We cannot meet our
working capital needs without these capital sources. Our ability to access that
capital is contingent on events, most of which are outside our control. For
example, we have entered into a letter of intent with respect to the sale of our
lodging and international business and are in discussions for the sale of our
subsidiary, Squirrel Systems, Inc. However, the consummation of both of those
transactions is contingent on the negotiation and execution of a definitive
agreement and the completion of due diligence and other matters customary in
transactions of that sort.
While we expect to be able to close both of these transactions, there can be
no assurance that either or both of the transactions will close. Also, there
can be no assurance that the additional $3.0 million of Convertible Subordinated
Notes will be funded because the funding of $1.0 million of the Notes is
contingent on the execution of a definitive agreement for the sale of all or a
portion of our hospitality services group for gross proceeds of at least $8.0
million and the funding of $2.0 million of the Notes is contingent on the
closing of the merger with Cereus.
Similarly, our access to the additional $5.0 million of funding from Cereus is
contingent upon our bank agreeing to certain modifications to the bank credit
facility. While we expect to obtain the required modifications, there can be no
assurance that we will be successful in obtaining those modifications. As such,
there can be no assurance that we will have access to the additional Cereus
funding.
Finally, our ability to access the bank facility is contingent on our
compliance with the financial and other covenants and terms of that facility.
If we are in violation of the bank facility, or do not have sufficient eligible
accounts receivable to support the level of borrowings we need, we will be
unable to draw on the facility.
If any of these contingencies is not satisfied or we are in violation of the
bank facility so that we do not have access to any one of these sources of
capital through the remainder of the 2000 fiscal year, then our ability to
continue to operate would be jeopardized. In this event, we would be forced to
seek working capital from other sources to fund delinquent accounts payable and
meet ongoing trade obligations. However, there can be no assurance that other
financing sources will be available to meet our needs at that time.
Even if we are able to meet our short-term capital needs from the capital
sources described above, our ability to meet our long-term capital needs will be
subject to factors outside of our control. Specifically, unless the price of our
common stock increases significantly so that
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holders of our convertible debt are likely to convert such debt into common
stock, we will be required to restructure that debt or raise additional equity
capital to fund such debt repayment beginning in June 2001. The principal amount
of the convertible debt outstanding at August 10, 2000 was $9.0 million. If the
balance of the Convertible Subordinated Notes and the additional debt from the
Cereus bridge facility is funded (and assuming our pending merger with Cereus is
not completed), the principal amount of convertible debt outstanding would be
$17.0 million. To the extent such debt is not converted in full, or we are not
able to restructure the terms of such debt or obtain the necessary funds to
repay it in full, we do not expect that we will be able to meet our long-term
obligations.
We have a history of losses and may not be profitable in the future.
We have a history of net losses, including a net loss of $31.6 million for
the six months ended June 30, 2000 and a net loss of $9.8 million for the year
ended December 31, 1999. Further, executing our new business strategy and
expanding our services will require significant additional capital and other
expenditures. Accordingly, we may continue to generate net losses in the
future, and we may never become profitable.
Our future results of operations are uncertain because we are significantly
refocusing our business.
We believe that the technology services and ASP markets will grow
significantly over the next five years. As a result, we are refocusing our
business efforts to devote our energy and resources to promote and develop the
technology services group as a full service provider, particularly its ASP
offerings. As part of this process, we are pursuing the disposition of our
hospitality services group. As such, we have begun accounting for the
hospitality services group as a discontinued operation and our historical
results of operations, which are the result of our old business strategy, may
not give you an accurate indication of how we will perform in the future.
Our success depends on the acceptance and increased use of both Internet-based
business software solutions and our new products and services, and we cannot be
sure that this will happen.
Our new business model depends in large part on the adoption of Internet-
based business software solutions by our target market of middle market
commercial users. Our business could suffer dramatically if Internet-based
software solutions are not accepted or are not perceived to be effective. The
market for Internet services, private network management solutions and widely
distributed Internet-enabled packaged application software has only recently
begun to develop, and we believe many of our potential customers are not aware
of the benefit of the outsourced solutions we provide.
The growth of Internet-based business software solutions could also be limited
by:
. concerns over transaction security and user privacy;
. inadequate network infrastructure for the Internet; and
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. inconsistent performance of the Internet.
We cannot be certain that commercial customers will accept and employ
Internet-based software solutions or that this market will grow at the rate we
expect. If this market does not grow or grows more slowly than our predictions
our financial condition and results of operations would be adversely affected.
Additionally, many of our products and services are based on new or improved
technologies that have not previously been available. We will have to overcome
the difficulties inherent in the introduction of new or improved technologies to
the market, including our ability to demonstrate to customers the technical
capabilities and the value of these new technologies, and there is no assurance
that we can do so successfully. Lack of market acceptance of our products and
services would adversely affect our business.
We may not be able to deliver our services if third parties do not provide us
with key components of our infrastructure.
We depend on other companies such as software vendors and equipment
manufacturers to supply us with key components of the computer and
telecommunications equipment and the telecommunications services that we use to
provide our application hosting services. A disruption in our ability to provide
hosting services could prevent us from maintaining the required standards of
service, which would cause us to incur contractual penalties, and would harm our
business. Additionally, if any of our significant software vendors stop making
their products available to us or choose to compete against us, our business
would be harmed. Moreover, our success depends upon the continued popularity of
the product offerings of these vendors and on our ability to establish
relationships with new vendors in the future. If we are unable to obtain
packaged applications from these or comparable vendors or if our vendors choose
to compete with us or the popularity of their products declines, our ability to
customize, implement or host packaged software applications may be adversely
affected.
If we are unable to efficiently integrate and operate recent acquisitions, our
business would be harmed.
During the last few years, we have merged with or acquired numerous companies.
The rapid growth associated with these acquisitions and the difficulties we have
experienced in integrating these businesses has placed, and will continue to
place, a significant strain on our systems, controls and managerial resources.
Our management has expended, and expects to continue to expend, significant time
and effort in integrating the operations of the businesses we acquire and in
expanding our systems and controls to these acquired businesses. If we do not
accomplish these tasks, our results of operations and financial condition may be
materially and adversely affected.
Our growth could be limited if we are unable to attract and retain qualified
personnel.
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We believe that our success depends largely on our ability to attract and
retain highly skilled and qualified technical, managerial and marketing
personnel. Competition for this personnel in the information technology
services industry is intense. The inability to hire or retain qualified
personnel could hinder our ability to implement our business strategy and harm
our business.
The markets we serve are highly competitive and many of our competitors have
much greater resources.
Competition in the information technology services industry is intense and
is expected to increase. Many of our competitors have substantially greater
financial, technical and marketing resources, larger customer bases, longer
operating histories, greater name recognition and more established relationships
in the industry than we do. Additionally, there are relatively few barriers to
entry in our business that would prevent new competitors from entering our
industry. We may not be able to compete effectively and, if we do not, our
financial condition and results of operations may be materially and adversely
affected.
Our success depends on our ability to keep up with rapid technological
developments and evolving industry standards.
The Internet is characterized by rapidly changing technology, evolving
industry standards, and frequent new service and product announcements,
introductions and enhancements. Our future success will depend on our ability to
adapt our services to rapidly changing technologies and evolving industry
standards, to continually improve the performance, features and reliability of
our services and to insure the continued compatibility of our services with
products, services and architectures offered by various vendors or any
prevailing standard. If we do not keep up with those changes, our business may
suffer.
Intellectual property infringement claims against us, even without merit, could
require us to enter into costly licenses or deprive us of technology we require.
Our industry is technology intensive. As the number of software products
in our target markets increases and the functionality of these products further
overlap, third parties may claim that the technology we develop or license
infringes their proprietary rights. Any infringement claims, even without
merit, could require us to enter into costly royalty or licensing agreements to
avoid service implementation delays. If successful, a claim of product
infringement could deprive us of the technology we require altogether. Any of
these outcomes could harm our business.
Failure to protect our intellectual property rights could have a material
adverse effect on our business.
Our success depends in part upon the protection of our proprietary application
software and hardware products. We have taken steps that we believe are adequate
to establish, protect and enforce our intellectual property rights. However, we
cannot assure you that these efforts to safeguard and maintain our proprietary
rights will be successful.
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Furthermore, the laws of many foreign countries in which we do business do not
protect intellectual property rights to the same extent or in the same manner as
do the laws of the United States. Although we have implemented and will continue
to implement protective measures in those countries, these efforts may also not
be successful. Additionally, even if our U.S. and international efforts are
successful, our competitors may independently develop non-infringing
technologies that are substantially similar or superior to our technologies.
We derive a significant portion of our revenue from international operations.
Our international operations represented approximately 13.3% and 18.5% of our
total revenue for the six months ended June 30, 2000 and year ended December 31,
1999, respectively. Historically, the largest portion of this international
revenue is generated in the Pacific Rim Region, which represented approximately
3.9% and 7.4% of our total revenue for the six months ended June 30, 2000 and
year ended December 31, 1999, respectively. Ongoing business in international
markets subjects us to a wide variety of risks, including:
. unexpected changes in legal and regulatory requirements;
. new tariffs or other barriers to certain international markets;
. difficulties in staffing and managing foreign operations;
. regional economic factors including recessions, hyperinflation or other
adverse economic developments;
. longer payment cycles and greater difficulty in collecting accounts
receivable;
. the possibility of expropriation;
. limitations on the repatriation of investment income, capital stock and other
assets;
. unstable political environments;
. potentially adverse tax consequences; and
. gains and losses on foreign currency conversion.
Legal uncertainties and government regulation could add additional costs to
doing business on the Internet and could limit our clients' use of the Internet.
The laws governing the Internet remain largely unsettled. It may take years to
determine whether and how existing laws, such as those governing intellectual
property, privacy, libel, taxation and the need to qualify to do business in a
particular state, apply to the Internet. This legal uncertainty could slow the
growth in Internet use and decrease the acceptance of the Internet as a
commercial medium, which could harm our business.
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In response to this legal uncertainty and the growing use of the Internet,
laws and regulations directly applicable to communications or commerce over the
Internet are becoming more prevalent. The adoption or modification of laws or
regulations relating to the Internet and Internet-based businesses could harm
our business.
Our stock price has been volatile.
The stock market in general, and the market for technology and Internet-
related companies in particular, has recently experienced extreme volatility
that has often been unrelated to the operating performance of particular
companies. During the year ended December 31, 1999, the per share sales price
of our common stock on the Nasdaq National Market System has fluctuated from a
low of $3.125 to a high of $9.50. We believe that the volatility of our stock
price does not necessarily relate to our performance and is broadly consistent
with volatility experienced in our industry. Prices for our common stock are
determined in the marketplace and may be influenced by many factors including
factors that are beyond our control, such as prevailing market conditions,
changes in earnings estimates by industry research analysts, and general
economic, industry and market conditions. In addition, in order to respond to
competitive developments, we may from time to time make pricing, service or
marketing decisions that could harm our business. Also, our operating results
in one or more future quarters may fall below the expectations of securities
analysts and investors. In either case, the trading price of our common stock
would likely decline.
We have not paid any dividends in the past and do not expect to pay any
dividends in the foreseeable future.
We have never paid dividends on our common stock and do not anticipate paying
cash dividends in the foreseeable future. We intend to retain any earnings to
finance the development of our business and, consequently, may never pay cash
dividends. Our bank line of credit prohibits the payment of dividends.
Risks Related to Our Business After the Merger
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Assuming the merger with Cereus is consummated, our stockholders will be
subject to the following risks in addition to the ones set forth above.
Cereus is a development stage company and has a limited operating history.
Cereus has only a limited operating history in its e-business and B2B
technology business, and its prospects must be evaluated with a view to the
risks encountered by a company in an early stage of development, particularly in
light of the uncertainties relating to the new and evolving markets in which
Cereus intends to operate and the acceptance of Cereus's business model. In
addition, Cereus's limited operating history in its e-business and B2B
technology business makes the prediction of its future operating results
difficult or impossible.
Cereus has a history of losses and the combined company may not be profitable in
the future.
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Cereus had a net loss of $18.6 million for the six months ended June 30, 2000
and a net loss of $7.2 million for the year ended December 31, 1999. Because
executing the combined company's business strategy and expanding its services
will require significant additional capital and other expenditures, we
anticipate continuing to generate net losses in the future.
The combined company will depend on key personnel.
The combined company will be highly dependent on the services of several key
executive officers and technical employees, many of whom could be difficult to
replace and the loss of any of whom could have a material adverse effect on its
business, financial condition and results of operations. The combined company
will enter into executive employment agreements with each of its Chief Executive
Officer, Chief Operating Officer and Chief Financial Officer. In addition, the
combined company will need to hire additional skilled personnel to support the
continued growth of its business. The market for skilled personnel, especially
those with the technical abilities required by the combined company, is
currently very competitive, and the combined company must compete with much
larger companies with significantly greater resources to attract and retain such
personnel. In addition, the senior officers of the combined company after the
merger have worked together for less than one year. There can be no assurance
that they will function successfully as a management team to implement the
combined company's strategy.
We may be unable to successfully integrate our operations.
The merger involves the integration of two companies that have previously
operated independently. The difficulties of combining the companies' operations
include integrating personnel with diverse business backgrounds and combining
different corporate cultures. The process of integrating operations could cause
an interruption of, or loss of momentum in, the activities of one or more of the
combined company's businesses and the loss of key personnel. The diversion of
management's attention and any delays or difficulties encountered in connection
with the merger and the integration of the two companies' operations could have
an adverse effect on the business, results of operations or financial condition
of the combined company.
We will incur significant merger-related and integration-related expenses.
Merger-related transaction costs will be recorded as a component of the
consideration paid for Cereus. These merger-related transaction costs consist
principally of charges related to investment banking fees, professional
services, registration and other regulatory costs, and are expected to be
approximately $1,223,000. Additional fees and costs may be incurred in
connection with the sale of equity or assets necessary to satisfy a condition to
consummation of the merger. In addition, we expect to incur pre-tax charges to
operations to reflect costs associated with combining the operations of the two
companies. These charges will be determined and recorded after the merger.
Additional unanticipated expenses may be incurred in the integration of our
businesses. Although we expect that the elimination of duplicative expenses as
well as the realization of other efficiencies related to the integration of the
businesses may result in cost savings, we cannot assure you that these benefits
will be achieved in the near term or at all.
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