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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC. 20549
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FORM 10-KSB
(Mark One)|
|X| Annual report pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934 for the fiscal year ended December 31, 1999 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 0-16580
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TELENETICS CORPORATION
(NAME OF SMALL BUSINESS ISSUER IN ITS CHARTER)
CALIFORNIA 33-0061894
(State or other jurisdiction of (I.R.S. Employer
Incorporation or organization Identification No.)
25111 Arctic Ocean, Lake Forest, California 92630
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
(949) 455-4000
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
Securities registered pursuant to Section 12(b) of the Act:
TITLE OF EACH CLASS NAME OF EXCHANGE ON WHICH REGISTERED
None None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, no par value
(TITLE OF CLASS)
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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 [ ]
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B contained in this form, and no disclosure will be contained, to
the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-KSB or any
amendment to this Form 10-KSB. [ ]
The registrant's revenues for the twelve months ended December 31, 1999 were
$11,912,168.
As of April 10, 2000, the aggregate market value of the voting stock held by
nonaffiliates of the registrant was approximately $50,583,729. The number of
shares outstanding of the registrant's only class of common stock, no par value
per share, was 14,300,416 on April 10, 2000.
DOCUMENTS INCORPORATED BY REFERENCE
Parts of the definitive proxy statement to be filed with the Securities and
Exchange Commission pursuant to Regulation 14A not later than 120 days after the
end of Telenetics Corporation's fiscal year and relating to Telenetics
Corporation's 2000 Annual Meeting of Shareholders are incorporated by reference
into Items 9-12 of Part III of this Form 10-KSB.
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PART I
ITEM 1. DESCRIPTION OF BUSINESS.
FORWARD LOOKING STATEMENTS
Except for historical information, the following description of our
business contains forward-looking statements which involve risks and
uncertainties. Our actual results could differ materially from those set forth
in these forward-looking statements as a result of a number of factors,
including those set forth in this Form 10-KSB under the heading "Risk Factors."
See "Forward-Looking Statements; Cautionary Statement."
COMPANY OVERVIEW
We design and manufacture wireless and landline remote monitoring products
and systems that collect data from industrial devices such as meters, remote
terminal units, traffic controllers, industrial controls, remote sensors and
data loggers. The collected data is sent through wireless cellular and radio
frequency networks or telephone lines to a host site, direct or via the
Internet. We are an innovator of proprietary wireless data-communications
solutions for utility, transportation, oil and gas and other industrial
automation applications. With our recent acquisition of eflex Wireless, Inc.
("eflex"), we have set the goal of building the most advanced, reliable
economical wireless data network for transmission and collection of data in
industrial applications. Our wireless and wired solutions are employed in many
applications. Some of the existing applications of our products and technologies
are as follows:
o Enabling electric utilities to read meters remotely, detect power
outages in seconds, manage peak power consumption and automate power
distribution.
o Assisting municipalities to manage traffic, read and update traffic
controllers remotely, monitor traffic flow and improve road safety.
o Monitoring and reporting failure of a signal on railroad crossing,
turning on a water valve in a major irrigation project and automating
wastewater management plants.
o Monitoring large air-conditioning systems, elevators and medical
equipment, managing energy usage in large facilities and reporting
alarms and irregularities.
o Monitoring and collecting data from devices in oil fields.
During the last two years, we have gradually transformed our business from
manufacturing landline industrial grade communications products to providing
wireless data communications solutions. Prior to this recent change in business
focus and strategy, our business was primarily in the design and manufacturing
of industrial grade modem products.
We were incorporated in California and began our operations in 1984. We
began introducing innovative modem and data communications products for the
personal computer ("PC") market in 1985. As an early pioneer in the modem
market, we introduced the first internal 2400 bits per second modem for PCs,
followed by several other products, including a modem with innovative security
features. Our initial success with these and other innovative products enabled
us to establish viable business relationships at that time with major Fortune
500 corporations, including J. C. Penney, Chrysler Corporation and International
Business Machines.
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During the late 1980s, intense competition from other manufacturers,
coupled with what our current management believes to be a series of managerial,
engineering and production problems, stunted our growth. From 1993 to 1995, we
began a restructuring process under our new and current management, which
ultimately resulted in the implementation of new engineering, sales and
marketing strategies with a focus on the growing industrial automation market.
By 1995, the business of our revitalized company consisted of the design and
manufacture of high quality, industrial grade modems, fiber optic drivers and
radio modems within the industrial automation industry. We also become active in
the design and manufacture of customized modem products for manufacturers of
utility meters, remote terminal units ("RTUs"), electric relays, flow
measurement devices and traffic controllers and for companies within the oil and
gas industry.
Recognizing the importance of emerging wireless data-communications
solutions, from 1996 to 1998 we undertook another initiative and began investing
in the development of wireless products for the market in which we were already
providing products and systems. The result of those two years of research and
development was the introduction in 1998 of the Omega(TM) product line, our
first wireless product.
Our patent pending Omega(TM) products are designed to provide meter
reading, outage detection and reporting and other data acquisition capabilities
through dedicated or shared telephone lines and cellular lines. Each Omega(TM)
unit can be attached to eight utility meters or other similar devices and is
expandable to 32 units with an enhancement. In addition to unlimited two-way
communication capability, our Omega(TM) products can store the serial number or
address of the meter or any other device, and in the case of a power outage or
other alarm conditions, reports to a central host or a web address. Omega(TM)
products are capable of receiving or initiating communications and transmitting
data as frequently as required by the host application
In July 1998, we were successful in signing a major automatic meter reading
("AMR") contract with Duquesne Light Company ("Duquesne"), and its
sub-contractor Sargent Electric. Duquesne is using our Omega(TM) products to
automate the collection of data from its 33,000 commercial and industrial
customers. Between early 1999 and March 2000, several other utilities began
testing and installing our Omega(TM) wireless systems for AMR and substation
automation projects.
In December 1999, FirstEnergy Corp., which provides electricity to 2.2
million customers within 13,200 square miles of northern and central Ohio and
western Pennsylvania, selected our Omega(TM) products for an AMR project.
FirstEnergy will also utilize our Flat-Rate-Cellular(TM) service for three years
for each unit purchased. Subsequently, we received orders from TXU Electric &
Gas, Baltimore Gas & Electric and Central Power and Light Company. In addition,
several other utilities in Pennsylvania, Arizona, Georgia, Ohio, Wisconsin and
Canada are testing our Omega(TM) product as a wireless solution in utility
automation applications.
In addition to the design of the highly successful Omega(TM) product line,
we have undertaken other steps toward development of highly reliable wireless
solutions for the markets we cover. One such step was the acquisition of the
patent pending AirLink(TM) radio frequency technology from Greenland Corporation
in April 1999. Combined with the wide area network capacity of our Omega(TM),
the AirLink(TM) system enables customers to transmit and receive data to and
from remote devices in a fixed network environment. It is a combination of
digital hardware, radio transmission circuitry and software that, when attached
to a remote device such as a meter, will read and store the data and transmit it
back to Omega(TM) and from there to customers' central office. Our acquisition
of the AirLink(TM) technology included all related assets, hardware designs,
software codes, pending patents, trademarks and contracts.
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In the later part of 1999, we redesigned AirLink(TM) to enhance its
performance and plan to apply for two new patents related to the design of
AirLink(TM) by the time the product is ready for beta testing during the third
quarter of fiscal 2000.
During the fourth quarter of fiscal 1999, we approached management of eflex
and began discussions to acquire eflex. Founded by former senior executives of
GTE Wireless and other industry experts, eflex has developed proprietary
technology for sending and receiving data over the existing control channels of
cellular networks. We believe that this technology will support a wide range of
wireless data applications including utility meter reading, remote alarm
monitoring and reporting, messaging, vending automation, vehicle tracking and
remote diagnostics, traffic management and many other remote monitoring and data
acquisition applications.
We believe that wireless telemetry is a large and virtually untapped
market. In that regard, we have been actively evaluating and testing a number of
different technologies in the wireless telemetry field. While each technology
holds certain positive attributes, until eflex's Stealth(TM) technology, none
has been able to fully take advantage of cellular control channels in a way that
will not overburden the channels and will not interfere with cellular voice
channels in large implementations. We believe that eflex's proprietary
technology, together with its seasoned management team with a wealth of
knowledge in wireless applications and network implementation, will assist us in
providing a global wireless telemetry alternative to our customers in the
utility automation, AMR, transportation and other industries. We further believe
that integrating eflex's advanced telemetry technology with our existing and
future products will result in a superior data network and products that permit
fast, repetitive and secured access to millions of devices in a wide range of
markets. Our existing technologies and those of eflex will be combined to
develop what we call our AirWave(TM) products. We believe that a commercial
version of AirWave(TM) will begin to be available during the fourth quarter of
fiscal 2000, although no assurances can be given that we will be successful in
developing this line of products by such time or at all.
Subsequent to our negotiation with and acquisition of eflex, we negotiated
an agreement with GTE Telecommunication Services Inc. ("GTE TSI"), a leading
provider of integrated technology solutions to wireless carriers world-wide, and
formed a strategic business relationship with that company. The relationship was
formed to employ the strengths of both companies in order to offer
state-of-the-art, cost effective wireless data services, including two-way,
wireless monitoring of remote devices, known as telemetry. GTE TSI's Service
Control Point will serve as the Signaling System Seven gateway for data
communications between remote AirWave(TM) devices and our wireless data network
control center.
We believe that our association with GTE TSI brings us together with a
world leader in inter-carrier wireless services. Our goal is to build the most
advanced and commercially viable wireless data network. We recognize that
wireless networks throughout the world provide the best alternative for
delivering telemetry solutions in this rapidly growing, large market-in-waiting.
GTE TSI provides network connectivity and interoperability services to hundreds
of wireless carriers worldwide. By working with GTE TSI, we offer telemetry
customers what we believe to be the best geographic coverage and the highest
reliability.
Although during the last three years our focus in sales, marketing and
product development has been on the utility automation markets, we have also
pursued other segments of the industrial automation markets. One area of
attention and activity has been the traffic management market. Between late 1997
and early 1999, we developed a working relationship with departments of
transportation in several states and sold them communications products. In June
1999, we acquired the assets of a leading supplier of communications products in
this market, Sunnyvale General Devices and Instruments, Inc. ("GDI"). This
acquisition greatly enhances our presence in the traffic and transportation
management industries. We believe the combination of our remote monitoring and
data acquisition products and GDI's fiber optic and microwave solutions, its
strong customer base and its extended applications expertise will provide a
viable solution to the increasing trend toward automation in the traffic and
transportation management industries.
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To further enhance our presence in this market, in July 1999 we acquired
substantially all of the assets and technology of Sierra Digital Communications,
Inc. ("Sierra Digital"), a leading supplier of millimeter wave radio products to
the traffic management market. Sierra Digital designed and built wireless
communication systems and short haul microwave radio communication equipment
operating in the millimeter wave frequency bands for traffic control networks,
industrial automation applications, video surveillance and other video
transmission systems, as well as T1/E1 carrier networks and local area networks.
Sierra Digital's products include complete industrial grade, extended
temperature radio links with built-in antennas in the 23 GHz and 24 GHz
frequency bands. Sierra Digital has an installed base of over 1,500 microwave
radios across the country.
OUR SOLUTION
Our unique response to the data collection and remote monitoring
requirements of the emerging industrial automation industry has evolved into a
total communication solution partnership in the last few years. This approach
includes several layers of product and service offerings.
As we continue to design and make proprietary and customized remote
monitoring and data collection products and systems, we intend to offer a
variety of products that collect data from a large variety of industrial
devices, including meters, RTUs, traffic controllers, industrial controls,
remote sensors, data loggers and flow measurement equipment manufactured by a
wide range of companies in this field.
Our communication solution is based on taking maximum advantage of the
existing wireless and wired networks, including the public switched telephone
network, global cellular networks and terrestrial or satellite networks, to
transmit data collected from remote customer devices through our proprietary
remote monitoring and data collection products, over wireless cellular and radio
frequency networks or telephone lines to a host site, direct or via the
Internet.
We intend to build the most advanced wireless data network that will enable
a wide range of customers to reliably and economically communicate with their
remote devices. At the core of this plan is providing the most advanced and
commercially viable cellular data network utilizing the Stealth(TM) feature of
our AirWave(TM) technology. Our technology provides two-way communications
between remote customer devices such as utility meters, traffic controllers,
industrial equipment, parking meters, and other similar devices located anywhere
within the cellular coverage and our Wireless Data Network Control Center. The
advantage of our technology is that we will not use any cellular voice channels
to communicate. Instead, our proprietary technology will use the little-known
cellular control channels and cellular interoffice signaling networks to
communicate. Control channels are essentially a wireless data link for
communicating between cellular telephones and the cellular systems without
interfering with the carrier's revenue generating voice channels. The control
channels are very robust and work in many areas where cellular voice calls are
unreliable. They are underutilized, cost efficient and ideal for remote
monitoring, data acquisition and data collection applications. We believe the
commercial applications for our technology are unlimited.
We intend to strengthen our Wireless Data Network with the unique
capabilities of our broadband technology. The data collected by our remote
monitoring and data collection devices and transmitted through our Wireless Data
Networks will then become available to our customers either directly or via the
Internet.
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Overall, our unique approach may be summarized as follows:
o BROAD RANGE OF PRODUCTS FOR A WIDE RANGE OF APPLICATIONS. We have
developed a broad range of innovative industrial grade communications
products and modules which are capable of connecting to a wide range of
remote monitoring devices and equipment. These products are designed to
operate in extended temperatures and harsh environments. These products
generally exceed the surge protection standards of the industry and are
adaptive to wide ranges of AC or DC power inputs. The modular design of
our products enables them to either interface or complement one
another. The versatility of this modular concept has enabled us to
offer over 130 different product combinations to our customers. These
variations include customized selection of data speeds, data
interfaces, power inputs, operating temperatures, data formats and
power consumption. In addition, our product line serves both central
site data communications needs and remote access and transmission sites
on both the enterprise-wide and single location level.
o REMOTE ACCESS AND DATA ACQUISITION. Our access and transmission
products provide comprehensive capabilities in order to effectively
control both operations and costs. These capabilities allow effective
communications management through customized configuration,
diagnostics, cost management and capacity planning.
o COMPREHENSIVE CONNECTIVITY. We have invested over fourteen years of
product research and engineering time in the development of our
products. Our products are designed to connect to a broad range of
operation configurations and to connect over a wide range of prevailing
transmission conditions. Our products incorporate a wide range of
standard international connectivity protocols as well as proprietary
protocols.
o WIDE RANGE OF COMMUNICATIONS MEDIUMS. Through technology development
and acquisitions, we have created a communications medium that includes
telemetry cellular control channel technology, data over cellular
analogue and digital voice network, fixed radio frequency bandwidth,
900 MHz and 2.4 GHz spread spectrum, 23 and 24 GHz millimeter microwave
radio, terrestrial satellite based packet switching and public switched
telephone network ("PSTN").
BUSINESS STRATEGY
During the last few years, we undertook a series of strategic initiatives
to revise our business strategy to reposition us as a leading supplier of
industrial automation, data communications and remote monitoring technologies
and products. Our strategy to achieve this repositioning of our company is
comprised of the following elements:
o CONTINUE TO FOCUS ON INDUSTRIAL AUTOMATION AND DATA COMMUNICATIONS AND
REMOTE MONITORING PRODUCT MARKETS. We will continue to focus our
efforts in the utility automation, transportation and traffic
management, oil field monitoring and automation and other industrial
automation product markets and to develop new products and enhancements
to meet or exceed the evolving requirements of both central site and
remote applications of our technologies.
o MAINTAIN WIRELESS TECHNOLOGY LEADERSHIP. We intend to continue to
invest in research and development of wireless technologies and
products to meet our customers' needs. We believe that the expertise we
have developed in creating our existing products will permit us to
enhance these products, develop new products and respond to emerging
technologies in a cost-effective and timely manner.
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o LEVERAGE EXISTING CUSTOMER BASE. We believe that many of our existing
customers will continue to purchase industrial automation and data
acquisition products. We intend to aggressively market new products and
enhancements to our existing customers. We also believe that our
existing customer base represents an important source of references for
new customers.
o DEVELOP AND EXPAND STRATEGIC RELATIONSHIPS. We plan to continue to
develop our strategic relationships with data communications component
and equipment providers and other vendors in order to enhance our
product development activities and leverage shared technologies and
marketing efforts.
MARKETS
We market our products primarily to the industrial automation market. This
market includes several segments, including utility automation and
transportation and traffic management. Industrial automation relies heavily on
the transfer of data from a remote location to a central location for analysis
and processing. Described below are some of the markets in which our products
and technology may be marketed.
UTILITY AUTOMATION MARKET
During the past five years, our primary focus has been on developing new
and unique products for the automation of the electric, gas and water utility
industries. Responding to deregulation and other major changes taking place
within the industry, electric utility companies have become leading advocates
for the implementation of automation and technological advancement as a means of
achieving cost savings. The electric, gas and water utilities and those
manufacturing companies that sell to these industries are among the fastest
segment of the industrial automation market.
The electric power industry in the United States, which is the largest
sector among the three utilities market segments, is a $200 billion per year
business built primarily on electro-magnetic technology that has remained
largely unchanged in the last few decades. At peak operation, the electric power
industry provides a staggering 600,000 Megawatts of electricity to approximately
94 million homes and approximately 12 million commercial sites. Responding to
deregulation and other major changes taking place within the industry, electric
power utility companies have become leading advocates in promoting the
implementation of automation and technological advancement as a means of
achieving cost savings. With the advent of deregulation of the industry,
electric utilities must reduce their operating costs as they enter the
competitive arena. Based on published estimates, we believe that electric power
utilities spent over $500 million on data communications and data acquisition
automation between 1995 and 1999.
The term "utility automation" describes two distinct processes within the
utility industry:
o automation of meter reading systems, or AMR; and
o substation/distribution automation and energy management, or SCADA.
An AMR system is implemented by the installation of equipment and systems
that monitor and control the status of the utility service (e.g., electricity,
water or gas) supplied to residences and commercial/industrial facilities.
According to the 1998 Scott Report on AMR Development ("Scott Report"), the AMR
industry is comprised of over 30 companies competing for a share of over 250
million North American meters. According to the Scott Report, only 6% of meters
are currently read by some type of remote means and the industry is increasing
in size at a rate of 30% or more per year.
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Viewed historically as an aid to billing, AMR is experiencing increasing
application as a primary communications link between the customer and the
utility. In July 1998, we were successful in signing a major AMR contract with
Duquesne, and its sub-contractor, Seargent Electric. Our Omega(TM) wireless
technology has been the core of our AMR solution for commercial and industrial
metering. Our AirWave(TM) wireless system, which is currently in development and
which we believe will be introduced in late 2000, is specifically designed for
hard-to-reach residential meters.
According to PennWell Research Data, a leading utilities industry research
firm, in 1997 the electric utilities in North America, Europe and the Pacific
Rim spent more than $200 million on distribution automation projects and that
amount doubled in 1998. Utility automation is implemented by the installation of
equipment and systems that monitor and control the status of, for example, a
network of distribution substations. Such systems are referred to as SCADA.
The primary pieces of equipment used in energy management systems are RTUs
and intelligent electronic devices. The 1996 PennWell Research study
commissioned for the European market reported planned automation projects worth
$490 million. The total budget for Asian SCADA/EMS projects for the same period
was nearly $1 billion. Central and South American automation projects for
1995-1997 were valued at $600 million. All of these are expected to increase
significantly in the next few years.
Water and wastewater utilities in the United States spent more than $270
million on 469 SCADA projects in 1997, and 1998 expenditures were expected to
exceed $500 million. The computer-based systems at the control center(s) of such
utilities are referred to as master terminal units, or MUTs. An MTU may be a
single computer with display and logging peripherals or, for more demanding
requirements, an MTU may be comprised of multiple computers networked together.
The multiple computer systems provide both added workstations and redundancy
protection against computer failure. Small to medium-sized MTU requirements are
met with the application of high performance PC-type computers running SCADA
software under a real-time operation system. For the very large SCADA system MTU
cases, with measurement databases exceeding 50,000 points, mainframe computers
are needed, again with SCADA-specific software. According to PennWell Research
Data, since 1970, U.S. electric, water and gas/pipeline utilities installed
SCADA systems worth a total of $2.06 billion.
Substation automation is also a fast-growing segment of the utility
automation market. We believe that investment in substation automation within
the United States alone is expected to exceed $300 million over the next four to
five years. During the past four years, our products have become an integral
part of the movement towards automation of distribution and energy management
systems. We have developed close working relationships with many established
companies in the SCADA system and protection and control system manufacturing
business, such as GE/Harris, ABB, Bassler Electric, Beckwith, Cooper Power
Systems, GE Protection, Alstom ESCA, Bristol Babcock, Schwitzer and Siemens.
Manufacturers of relays and other protection equipment are among the largest
suppliers to the utility industry. We believe that most of these companies are
in the process of adding remote communications capabilities to their relay and
control products and represent a significant group of potential customers for
our networking products.
Between 1998 and 1999, we were named in five major utility automation
projects in five countries. In May 1998, we were selected by GE Harris Energy
Systems and China Light and Power ("CLP") to provide a specially designed
digital fast poll modem for the Distribution Automation Project in Hong Kong.
This automation project includes a distribution management system master
station, RTUs and communication systems linking the master stations to RTUs. CLP
has awarded GE Harris a contract for the supply of approximately 6,500 RTUs. In
turn, GE Harris has selected us as the sole supplier of digital fast poll modems
for its RTUs.
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In August 1998, Bailey Network Management ("Bailey"), which was
subsequently acquired by ABB, became the exclusive supplier of utility
automation products including our industrial modem racks in a project for
Mexico's electric utility monopoly, Comision Federal de Electricidad. The
project, which named Bailey as the prime contractor, is one of the largest SCADA
master station automation projects in Mexico, valued at approximately $68
million.
In July 1999, we were selected by Alstom ESCA as the exclusive supplier of
specialized industrial modems and modem racks for a major utility automation
project in Korea. The project, which names Alstom as the prime contractor, is a
major EMS undertaking. The project required an immediate shipment of 50 units of
Telenetics specialized Myriad(TM) modem racks to Alstom. The project will
continue through the year 2000. Alstom subsequently selected our product for a
major energy management system project with Tampa Electric in February 2000.
TRANSPORTATION AND TRAFFIC MANAGEMENT
Commentators have recently suggested that federal, state and local
governments' ability to increase road, highway and railroad infrastructures is
drastically limited by urban development, environmental considerations,
increasing costs and limitations on funding. In the United States, this
evolution has been recognized with the passage of the Transportation Equity Act
for the 21st Century ("TEA 21"). Some municipal authorities have already made
plans to meet the automation and management challenges facing the traffic and
transportation industry in the new century. PennWell Research predicts that in
the next 20 years, well over $50 billion will be spent by transportation
authorities for traffic management, signal improvement and other intelligent
transportation systems.
Special technology applications to be implemented in these projects include
ice detection, traffic counters, alarms, traffic controllers and road
monitoring. In most cases, these projects will require the coordinated
involvement of federal and state departments of transportation and other
transportation agencies, as well as equipment manufacturers and integrators who
specialize in the transportation industry. In anticipation of an increase in
transportation projects, we have established relationships with state
transportation authorities and several such manufacturers and integrators,
including Peek Traffic, Diamond Traffic, IRD and Econolite. We are currently
involved with a number of departments of transportation in California, South
Dakota, North Dakota, Nevada, Pennsylvania, Nebraska, Georgia, Louisiana,
Arizona and Wyoming, which have deployed or are expected to deploy our products.
We also anticipate the use of our products in the railroad safety market as
well. Some of our recent projects include the following:
o In July 1999, Los Angeles Department of Transportation installed a
limited number of our TrafficWach(TM) System for a field trial at
hard-to-reach intersections.
o In August 1999, the City of Charlotte selected our proprietary digital
fast-poll modems to be installed at 137 intersections as part of that
city's advanced traffic management system.
o In September 1999, we received a contract for the integration and
supply of networking and communications equipment that is earmarked to
form the core of Philadelphia's new transportation management operation
center in preparation for the Republican National Presidential
Convention in July 2000.
o In November 1999, the City of Mesa, Arizona and the City of Inglewood,
Colorado selected our proprietary digital fast-poll modems for
automation of 650 to 700 intersections as part of their advanced
traffic management system.
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o In December 1999, the Department of Transportation of State of Arizona
selected our proprietary modem technology to monitor and report traffic
volume and speed on state highways. The project is an ongoing component
of state's Highway Performance Monitoring System ("HPMS"). HPMS data is
now a critical component in the allocation of Federal-aid highway funds
to states as a result of passage of TEA 21. In addition to being an
important source of information for indicators of performance on a
national basis, Arizona's HPMS program is unique in that it considers
local community transportation system condition and performance as
critical knowledge for assisting in transportation planning decisions
at the state and local government levels as well.
OIL AND GAS INDUSTRY
The trend toward automation in the oil and gas (petroleum) and mining
industries has accelerated over the last several years. This trend has resulted
in gas stations becoming increasingly more automated, in remote flow measurement
and leak detection devices being installed in pumping stations and refineries,
and in petroleum distributors implementing remote monitoring and other
industrial automation solutions to increase the safety of their workers. One of
the most significant segments of this market is oil field automation. With well
over 500,000 active oil wells in North America alone and the increasing cost of
manually collecting data from different equipment in each oil field, we believe
the need for remote monitoring and data collection is well established.
To address the automation requirements of this market, we recently signed
an agreement with Remote Management Technologies, Inc. ("RMT") granting RMT the
exclusive right to supply our wireless technology to the oil field automation
and monitoring industry. Under the terms of this agreement, RMT plans to
automate at least 5,000 oil wells using our wireless technology in the first 12
months of the agreement, and the number of installations is expected to reach
minimums of 35,000 and 100,000 by the end of the second and third year,
respectively. In addition to these installation quantity thresholds, RMT has
agreed to certain financial obligations, which include the purchase of
approximately $100 million of remote monitoring products and wireless data
services from us within the next five years.
We are currently in the process of modifying our Omega(TM), AirLink(TM) and
AirWave(TM) wireless products to enable them to collect data from different
devices in oil fields. The collected data will then be transmitted to customers
using our Wireless Data Network.
PLANT AND MANUFACTURING AUTOMATION
Industrial manufacturing at the end of the 20th Century differed
dramatically from industrial manufacturing during prior years. The use of robots
in assembly, material handling and warehousing are no longer just scenes from
science fiction movies, but have now become standard in nearly all segments of
plant and manufacturing facilities. "Process controls," "information-on-demand"
and "total integrated automation" have become the buzzwords of plant managers
and operations directors. The quest for cost savings and efficiency moved the
focus from wage control to automation, energy efficiency and information
management during the last decade of the 20th Century. As the need for
implementation of industrial automation solutions increases worldwide, so does
the need for communication devices for monitoring, control, protection and alarm
reporting and information management applications. Some of the leading
manufacturing and warehousing automation companies, such as Siemens Energy &
Automation, Cutler Hammer and Allen Bradley, are either using or currently
evaluating the use of our products in their manufacturing automation solutions.
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BUILDING AUTOMATION AND ENERGY MANAGEMENT
Building automation, often referred to as BAS, is the process of
integrating systems such as environmental control, closed circuit television,
building access control, elevator and parking supervision and general control
and monitoring of all mechanical and electrical services equipment within a
building. An isolated example of BAS is the monitoring of energy consumption at
an automobile manufacturing plant on an hourly, daily and monthly basis. In the
last decade, there has been an unprecedented surge in the building automation
and energy management industry. Large commercial and residential buildings,
restaurants, retail malls and other large facilities are requiring more
efficient energy management and control. Honeywell, GE and Landis & Gyr are
using or evaluating our products for use with their energy management systems.
One of the leaders in this field, Group Shnider/Square D Company, a pioneer and
standard-setter in BAS, is also one of our customers.
LOTTERY AND GAMING
We believe that our modem products can also be utilized for monitoring,
downloading and access control in the lottery and gaming industries, and we have
established initial contacts with several state lottery operators as well as
with equipment manufacturers and system integrators in this field. In January
1999, our MyriadTM Rack Mount Modem Bank with a PE202T modem was selected by
Autotote Lottery Corporation, a leading provider of lottery systems, for use in
the expansion and upgrade of the Montana State Lottery.
VENDING MACHINE AUTOMATION, ATM AND POS EQUIPMENT MANUFACTURERS
We also believe that consumers will soon see the advent of more advanced,
"intelligent" vending machines, automated teller machines and point-of-sale
equipment that are remotely configured, polled, programmed and monitored, and
that this industry represents another potential market for our modem products.
SALES AND MARKETING
We sell our products primarily through a direct sales force that contacts
firms that are known to be active in each of the above market segments. We also
market our products through a limited network of dealers and distributors and
regional sales representatives. Our sales and marketing activities are divided
into five groups, with some overlapping activities:
o NETWORKING PRODUCTS GROUP. This sales group is responsible for sales
and marketing of all modem products to end-users and OEM customers.
Management of our limited distribution channels is also within the
responsibility of this group. This group is managed by the Director of
Sales and Marketing for Networking Products, with a staff of four sales
executives and application engineers.
o UTILITY AND INDUSTRIAL AUTOMATION GROUP. This group is primarily
responsible for sales and marketing of AMR products, which is conducted
primarily through a direct sales force that contacts firms that are
known to be active in each of the above-mentioned market segments. This
group also markets AMR products through a limited network of regional
sales representatives. This group is managed by the Director of Sales
and Marketing for Utility and Industrial Automation Products, with a
staff of two sales executives.
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o TRAFFIC MANAGEMENT GROUP. This group is built primarily around GDI's
sales organization. This group sells our products primarily through a
network of value added resellers or VARs. The sales and marketing
activities of this group are headed by our Director of Sales for
Traffic Management who reports to the General Manager of the Traffic
Management Group.
o BROADBAND PRODUCTS. Sales of microwave products, which we acquired from
Sierra Digital, are conducted by the Director of Sales of Marketing for
Broadband Products, primarily through a network of VARs and system
integrators.
o OIL INDUSTRY. We recently signed an agreement with RMT to distribute
and sell our products on an exclusive basis to the oil field automation
market.
We generate interest in our products primarily through direct sales efforts
of our sales staff and through trade shows and limited advertising. We promote
our products through sales literature and participation in national industry
trade shows. During 1999, we exhibited at five national trade shows.
During the past 18 months, we have begun to gradually implement a plan to
enhance our international presence by opening an office in China and developing
direct sales contacts in the United Kingdom. In addition to China and the United
Kingdom, we are also directing our international sales and marketing efforts to
Latin America, primarily in Mexico, Argentina, Brazil and Chile, and in South
Africa and Australia. However, international sales are subject to risks,
including various regulatory requirements, political and economic changes and
disruptions, tariffs or other barriers, difficulties in staffing and managing
foreign sales operations, and potentially adverse tax consequences. In addition,
fluctuations in exchange rates may render our products less competitive to local
product offerings or expose us to foreign currency exchange losses.
PRODUCTS
Our products can be classified in the following five categories:
NETWORKING PRODUCTS. These products consist of the traditional industrial
grade modems (dial-up and leased line), fiber optic line drivers and other land
line products. They include Pony Express(TM) (PE) OEM modules, HideAway(TM) line
powered products, Myriad(TM) rack-mount modems, Zodiac(TM) multiport and Fast
Poll products.
OMEGA(TM) WIRELESS PRODUCTS. The patent pending Omega(TM) wireless is
designed by us to provide on-demand meter reading, outage detection and many
other data acquisition capabilities using existing cellular networks. We believe
that our new version of Omega(TM) is the most advanced and versatile cellular
data transport unit in the market today. In addition to unlimited and reliable
high-speed two-way communication capability via cellular networks, Omega(TM) can
store the serial number or address of the meter or any other device, and in the
case of a power outage or other alarm conditions, reports to a central host,
pager or a web address. Omega(TM) is capable of receiving or initiating
communications and transmitting data as frequently as required by the host
application. The new Omega(TM) is designed to work with any type of analog or
digital cellular network.
AIRLINK(TM) FIXED NETWORK PRODUCTS. The AirLink(TM) system enables
customers to transmit and receive data to and from remote devices in a fixed
network environment using an unlicensed radio frequency band. It is a
combination of digital hardware, radio transmission circuitry and software that,
when attached to a remote device such as a meter, reads and stores the data and
transmits it back to an Omega(TM) unit and from there to a customer's central
office. In the later part of 1999, we redesigned AirLink(TM) to enhance its
performance and plan to apply for two new patents related to the design of
AirLink(TM) by the time the product is ready for beta testing during the third
quarter of fiscal 2000.
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AIRWAVE(TM) WIRELESS. AirWave(TM) utilizes the digital control channel of
existing cellular networks to provide a low cost two-way communications solution
to monitor or read devices such as utility meters and remote control and
measurement devices. Unlike other technologies claiming to utilize the control
channels of wireless networks, AirWave(TM) maximizes the benefits to carriers.
We believe that AirWave(TM) is the only technology that leverages the existing
control channels without interfering with a carrier's ability to deliver voice
calls, the lifeblood of a wireless carriers' revenues. AirWave(TM) can reliably
transmit accurate data from any remote device within the cellular coverage to a
customer's host site without using or interfering with voice call delivery.
BROADBAND PRODUCTS. These products consist of wireless communication
systems and short haul microwave radio communication equipment operating in the
millimeter wave frequency bands for traffic control networks, industrial
automations applications, video surveillance and other video transmission
systems, as well as T1/E1 carrier networks and local area networks. These
products include complete industrial grade, extended temperature radio links
with built-in antennas in the 23 GHz and 24 GHz frequency bands. We have an
installed base of over 1,500 microwave radios across the country. We have
successfully developed a new proprietary integrated "Digital Multiplexor" as an
add-on feature to its high performance synthesized microwave wireless broadband
radios. The new technology greatly enhances our current wireless product
offering in the wireless Internet and other networking applications by adding
the capability to format and transmit up to four full T1 or E1 circuits along
with the 10 MB LAN data simultaneously over the same path.
Our advanced microwave radios are a key high-speed link in the emerging
wireless Internet market. We have successfully provided microwave links to
clients who needed wireless connectivity and speeds of several T1 or DSL lines.
With our new integral multiplexor technology, our customers can save substantial
amounts of time and money. We have successfully offered advanced wireless
solutions to the industrial automation markets. With our expanding wireless
broadband technology and product offerings, we intend to bring the same level of
success into the multi billion dollar wireless networking and wireless Internet
industries.
PRODUCT DEVELOPMENT
Our product development efforts are directed toward enhancing existing
products and developing new products in order to meet changing end-user needs
and to support an increasing number of applications. We believe our existing
expertise in modem assembly, modular design and international
standards-compliant interfaces and protocols provide us with a strong technology
base to pursue this objective. Our product development efforts focus on the
following principles:
o DEVELOP NEW PRODUCTS AND TECHNOLOGY. We continually assess market
trends, both domestic and international, with the focus of developing
new products designed to meet emerging market demands. In developing
new products, we attempt to combine our existing technology base with
new technologies to provide a broader range of automation and data
communications and data acquisition solutions to the end-user.
o EMPHASIZE MODULAR TECHNOLOGY. Our products are designed so that they
can easily be expanded or upgraded and can easily be integrated into a
customer's existing hardware infrastructure. A modular architecture
also enables us to develop data communications hardware modules that
address new market needs or comply with changes in data communication
standards without re-engineering an entire hardware product.
o IMPROVE EXISTING TECHNOLOGY. We seek to expand the features and
functionality of our existing product lines through technology
modifications and enhancements to meet the changing needs of our
customers. We continuously review the design and manufacturing process
of our products to determine areas of product cost savings or enhanced
product quality.
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As of December 31, 1999, we employed 12 persons in engineering, 7 of whom
were engaged primarily in product development. Our engineering and product
development expenses increased to $807,000 during the year ended December 31,
1999 from $350,000 during the twelve months ended December 31, 1998, and
decreased as a percentage of net sales from 7.7% during the twelve months ended
December 31, 1998 to 6.8% during the year ended December 31, 1999. We expect
engineering and product development expenses to increase significantly, both in
actual dollars and as a percentage of net sales, during 2000.
We believe our future success will depend, in part, upon our ability to
expand and enhance the features of our existing products and to develop and
introduce new products designed to meet changing customer needs on a
cost-effective and timely basis. Failure by us to respond on a timely basis to
technological developments, changes in industry standards or customer
requirements, or any significant delay in product development or introduction,
could have a material adverse effect on our business and results of operations.
There can be no assurance that we will respond effectively to technological
changes or new product announcements by others or that we will be able to
successfully develop and market new products or product enhancements.
TECHNICAL SUPPORT AND CUSTOMER SERVICE
We are committed to providing quality technical support and customer
service. We believe that our technical support and customer service programs
have been a key factor in our successful growth over the past eighteen months
and distinguish us from many other vendors of similar products. We offer
extensive user documentation and a technical support hotline to our customers.
Our technical analysts answer technical support calls directly and generally
provide same-day or next-day response to questions that cannot be resolved in
the initial phone call. We also provide a support forum through our home page on
the World Wide Web, with technical information to answer hardware and software
compatibility questions and pursuant to which customers can contact our
technical support and customer service personnel via electronic mail.
All products sold by us include a one-year limited warranty that permits
customers to return any product for repair or replacement if the product does
not perform as warranted. To date, we have not encountered material warranty
claims or liabilities. There can be no assurance, however, that warranty claims
will not have a material adverse effect on future operating results.
MANUFACTURING
Our manufacturing operations consist primarily of quality control,
functional testing, final assembly, burn-in and shipping. We use third party
contract manufacturers for certain component and circuit board assembly and
testing and have developed strategic relationships with several qualified and
reliable local assembly houses. For example, we use Astronic, an ISO 9002
certified subcontractor, to provide contract manufacturing to us. This approach
minimizes fixed labor costs and capital expenditures while providing flexibility
in production scheduling and capacity. Accordingly, our management currently
intends to maintain this approach to manufacturing and production for the
foreseeable future. We perform extensive testing and inspection of all of our
products prior to shipment. Due to our expanding business, we have increased the
size of our quality control staff and implemented a number of policy and
procedural changes. Our serialization and revision control policy has been
modified such that all units will be labeled with both a serial number and part
number/revision identification. Furthermore, all units are being stamped with
both a test verification and inspection stamp to demonstrate and permanently
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mark the product. We plan to enhance test procedure comprehensiveness to include
testing of custom requirements as well as standard and default tests.
Certificates of compliance will be issued with each shipment that can be traced
back to the final test technician and inspector. Failure analysis reports will
be issued as a general practice rather than on a request basis. Finally we plan
to continue to add quality control staff to assure continuous improvements in
the quality of our products.
Our products include a large number of components and parts, most of which
are available from multiple sources with varying lead times. We currently
procure all of our components from outside suppliers. We have generally been
able to obtain adequate supplies of all components in a timely manner from
existing sources. Although we believe similar products can be purchased from
other sources, the process of qualifying replacement suppliers, generating the
supporting documentation, performing system-level integration, obtaining
standards-compliant approval for our products, and retraining sales and
marketing personnel would take a significant amount of time and expense. Our
inability to source these components at satisfactory quality and quantity levels
and with the appropriate lead time would adversely affect our business and
operations.
Certain components used in our products are and may in the future become
available only from single or limited sources, such as the modem chipsets that
we purchase from Rockwell International. In certain circumstances, despite the
availability of multiple sources, we may select a single source in order to
maintain quality control and develop a strategic relationship with the supplier.
Although we generally buy components under purchase orders and do not have
long-term agreements with our suppliers, we expect our suppliers, most of whom
are large companies, to be able to continue to satisfy our requirements.
Although we believe that alternative sources are available, if our ability to
obtain these components were impaired or interrupted for any reason, there could
be a substantial disruption in the supply of our products, which could adversely
affect our business, financial condition and results of operations.
Although we are not currently certified as an ISO 9000 supplier, we have
established policies and procedures consistent and compliant with the
requirements established by the Industry Standards Organization (ISO). We intend
to seek ISO 9000 certification in the future. There are no assurances that we
will obtain such certification.
COMPETITION
The modem, data and wireless communications products industries are
intensely competitive and are characterized by rapid technological advances and
changes in industry standards, resulting in constant pricing pressures. The
changes in industry standards result in frequent introductions of new products
with added capabilities and features and continuous improvements in the relative
functionality and price of modems and other data communications products. Our
failure to keep pace with technological advances would adversely affect our
competitive position and results of operations.
There are several key competitors in each of the market segments and for
each of the products we offer. In the AMR market, Itron is the leading supplier
of AMR solutions for residential metering. Other competitors in the AMR market
include Cellnet Data System, Whisper and Global Data. In the telemetry market,
Aeris, Telemetrix and Cellemetry offer products that compete with our
AirWave(TM) technology. In the traffic management market, our competition is
primarily from those VARs and system integrators who compete with our VARs and
system integrators for the same contracts. Many of these companies and other
existing and potential competitors have significantly more financial,
engineering, product development, manufacturing and marketing resources than us.
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Our products compete on the basis of product features, price, quality,
reliability, brand name recognition, product breadth, developed sales channels,
product documentation, product warranties and technical support and service. We
believe that we are competitive in each of these areas. However, there can be no
assurance that competitors will not introduce comparable or superior products
incorporating more advanced technology at lower prices, or that other changes in
market conditions or technology will not adversely affect our ability to compete
successfully in the future.
CUSTOMERS
We market our products to a broad range of domestic and foreign
organizations. End users of our products include electric power utility
companies, gas and oil companies, water utility companies, building automation
companies, energy management companies and various manufacturing organizations.
A representative list of customers currently using our products is set forth
below:
Duquesne Light Company Group Shnider/Square D Company
GE/Harris (formerly Harris Controls) CAE Electronics
Itron City of Philadelphia
Alstom ESCA First Energy
Econolite TRW
China Light & Power ABB Power T&D
Cooper Power Systems
Sales to Duquesne, through its subcontractor Sargent Electric Company, and
GE/Harris accounted for approximately 51% and 8%, respectively, of our net sales
for fiscal 1999.
INTELLECTUAL PROPERTY
We currently do not hold any patents. We rely on a combination of
contractual rights, copyrights, trademarks and trade secrets to protect our
proprietary rights. Historically, we believed that because of the rapid pace of
technological change in the modem and data communications industry, the legal
intellectual property protection for many of our products was a less significant
factor in our success than the knowledge, abilities and experience of our
employees, the frequency of our product enhancements, the effectiveness of our
marketing activities and the timeliness and quality of our support services.
However, we now believe that several of our current products and some of our
products in development could benefit from patent protection. As a result, we
have filed patent applications for those products with the United States Patent
and Trademark Office. Although we currently rely to a great extent on trade
secret protection for much of our technology and in the future will also rely on
patents to protect a portion of our technology, there can be no assurance that
our means of protecting our proprietary rights will be adequate or that our
competitors will not independently develop comparable or superior technologies
or obtain unauthorized access to our proprietary technology.
We own, license or have otherwise obtained the right to use certain
technologies incorporated in our products. In addition, we purchase modem
chipsets that incorporate sophisticated modem technology. We may receive
infringement claims from third parties relating to our products and
technologies, such as the patent infringement action filed against us by Aeris
Communications, Inc. See "Legal Proceedings." In that event, we intend to
investigate the validity of any such claims and, if we believe the claims have
merit, to respond through licensing or other appropriate actions. Certain of
these claims may relate to technology included in modem chipsets or other
components purchased by us from third party vendors for incorporation into our
products. In that event, we would forward those claims to the appropriate
vendor. If we or our component manufacturers were unable to license or otherwise
provide any such necessary technology on a cost-effective basis, we could be
prohibited from marketing products containing that technology, incur substantial
costs in redesigning products incorporating that technology, or incur
substantial costs defending any legal action taken against us.
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GOVERNMENTAL REGULATION
All of our products are required to meet United States and Canadian
government regulations, including regulations of the United States Federal
Communication Commission ("FCC") and Industry Canada, which regulates certain
communications equipment, such as modems. The FCC also regulates electromagnetic
radiation emissions. We currently intend to seek and receive approvals for our
existing and new products in other countries as well. The regulatory process in
the United States, Canada and other foreign countries can be time-consuming and
can require the expenditure of substantial resources. In many foreign countries,
obtaining required regulatory approvals may take significantly longer than in
the United States. There can be no assurance that the FCC or foreign regulatory
agencies will grant the requisite approvals for any of our products on a timely
basis, if at all. United States and foreign regulations regarding the
manufacture and sale of modems and other data communications devices are subject
to future change. We cannot predict what impact, if any, such changes may have
upon our business.
BACKLOG
As of December 31, 1999, we had approximately $2.7 million in backlog
orders for our products. The amount of such backlog orders represents revenue
anticipated to be recognized in the future, as evidenced by purchase orders and
other purchase commitments received from customers, but on which work has not
yet been initiated or with respect to which work is currently in progress. The
typical duration from receipt of a purchase order or other purchase commitment
to shipment of the products ordered to the customer ranges from six to eight
weeks depending upon the size of the order. However, there can be no assurance
that we will be successful in fulfilling such orders and commitments in a timely
manner or that we will ultimately recognize as revenue the amounts reflected as
backlog.
WARRANTIES
We typically provide a one-year material and workmanship warranty, in
addition to the pass-through warranties provided by component suppliers and
other vendors, which permit customers to return any product for repair or
replacement if the product does not perform as warranted. Historically, warranty
expenses have not had a material impact on our operations or financial
condition. However, there can be no assurance that this will continue to be the
case or that disputes over components or other materials or workmanship will not
arise in the future.
EMPLOYEES
As of December 31, 1999, we employed approximately 70 people, of whom
approximately 36 were hourly employees and approximately 34 were salaried. We
consider our relations with our employees to be good. None of our employees are
represented by a labor union.
ITEM 2. DESCRIPTION OF PROPERTY.
Our corporate headquarters are located in Lake Forest, California in a
leased corporate and manufacturing facility consisting of 26,232 square feet of
space. The lease has an initial term of five years and one five-year option to
extend. The monthly base rent is $23,871, and the lease includes an annual 3%
rent escalation provision. The lease also provides for certain options for us to
purchase the building, which options are transferable by us independent of our
other rights and obligations under the lease.
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We also maintain facilities in Verdi, Nevada, Sacramento, California and
Brandon, Florida. Each of these facilities are subject to month-to-month leases
with an aggregate monthly rental for all three facilities of approximately
$6,900. Our facilities in Verdi, Sacramento and Brandon consist of 10,500, 4,680
and 1,100 square feet, respectively.
ITEM 3. LEGAL PROCEEDINGS.
On August 18, 1999, Drake & Drummond, a Nevada corporation, initiated an
action in the Orange County Superior Court, Central (Case No. 813430) against us
alleging, among other things, breach of contract, common count and declaratory
relief arising out of a consulting agreement entered into between Drake &
Drummond and us. The complaint seeks damages as follows: (i) cash in the amount
of $535,000, plus interest, and (ii) judicial order directing us to sell to
Drake & Drummond 950,000 shares of our common stock for $.01 per share. On
October 8, 1999, we filed an answer to the complaint and filed a cross-complaint
against Drake & Drummond alleging, among other things, breach of contract,
rescission based upon fraud, and declaratory relief arising out of the same
consulting agreement. The cross-complaint seeks: (i) damages according to proof
at trial, (ii) rescission of the consulting agreement and restitution of all
consideration received by Drake & Drummond, and (iii) a judicial declaration of
the rights and liabilities of the parties. We intend to vigorously defend this
action and pursue our cross-complaint against Drake & Drummond. At this point,
we cannot determine what impact, if any, the ultimate resolution of this matter
would have on our financial position or results of operations.
On October 18, 1999, we initiated an action in the Orange County Superior
Court, Central (Case No. 815922) by filing a complaint against Bibicoff &
Associates, and Harvey A. Bibicoff, its primary shareholder and chief executive
officer, alleging, among other things, breach of contract, rescission based upon
fraud, breach of fiduciary duty and declaratory relief arising out of a
consulting agreement entered into between defendants and us. The complaint seeks
damages according to proof at trial, rescission of the consulting agreement and
restitution of all consideration received by defendants and a judicial
declaration of the rights and liabilities of the parties. On December 6, 1999,
defendants filed an answer to the complaint denying all material allegations
contained therein. Defendants, together with five of our debenture holders and
stockholders affiliated with defendants, concurrently filed a cross-complaint
against us and Michael Armani, who is a director and the President and Chief
Executive Officer of our company, for damages and rescission based upon alleged
misrepresentations, false promises, and non-disclosures by us and Mr. Armani in
connection with the cross-complainants' purchase of their interests in our
company. The cross-complaint also contains breach of contract claims arising out
of the consulting agreement between us and certain of the defendants and
purported oral contracts between us and certain of the cross-complainants. We
and Mr. Armani filed an answer to the cross-complaint denying all material
allegations contained therein. The litigation is in its initial stages, and
discovery has only recently commenced. We intend to vigorously defend the
cross-complaint that was filed against us. At this point, we cannot determine
what impact, if any, the ultimate resolution of this matter would have on our
financial position or results of operations.
On January 28, 2000, Aeris Communications, Inc., a California corporation,
initiated an action in the United States District Court for the Northern
District of California (Case No. C00-00328) against us alleging, among other
things, patent infringement of two United States patents held by Aeris
Communications. The alleged patent infringement relates to certain technology we
acquired in connection with our acquisition of eflex. The litigation is in its
initial stages. We believe that the allegations in the complaint are without
merit and we intend to vigorously defend this action. At this point, we cannot
determine what impact, if any, the ultimate resolution of this matter would have
on our financial position or results of operations.
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ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
During the quarter ended December 31, 1999, no matters were submitted to a
vote of the holders of our securities.
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED SHAREHOLDER MATTERS.
MARKET INFORMATION. Our common stock has been trading on the OTC Electronic
Bulletin Board under the symbol "TLNT" since October 16, 1998. After being
de-listed from the Nasdaq National Market System in 1991 and until October 16,
1998, our common stock had been quoted only sporadically in the over-the-counter
"pink sheets," an ad hoc forum for quotations of securities prices intended to
match potential buyers and sellers, which forum is not monitored or supervised
by any regulatory authority or agency.
Set forth below are the high and low bid prices of our common stock during
each quarter of the nine months ended December 31, 1998 and during each quarter
of the fiscal year ended December 31, 1999, as reported by a member firm of the
NASD that effects transactions in stocks quoted on the OTC Electronic Bulletin
Board and acts as one of the market makers for our common stock. The quotations
listed below reflect interdealer prices, without retail mark-up, mark-down or
commissions, and may not reflect actual transactions. The quotations listed
below reflect our one-for-five reverse stock split effected January 8, 1999.
Between October 1, 1996 and March 31, 1998, the high and low bid prices for our
common stock ranged from $.95 to $.05, as adjusted to reflect our one-for-five
reverse stock split effected January 8, 1999.
1999 1998
------------------ ------------------
LOW HIGH LOW HIGH
--- ---- --- ----
January 1 - March 31 $1.05 $2.69
April 1 - June 30 $1.31 $2.06 $.15 $ .80
July 1 - September 30 $.94 $2.13 $.25 $1.55
October 1 - December 31 $.69 $3.13 $.30 $1.50
SECURITY HOLDERS. As of April 10, 2000, there were approximately 468
shareholders of record of our common stock. Within the holders of record of our
common stock are depositories such as Cede & Co. that hold shares of stock for
brokerage firms which, in turn, hold shares of stock for beneficial owners.
DIVIDENDS. We have never paid cash dividends on our common stock and do not
currently intend to pay cash dividends on our common stock in the foreseeable
future. We currently anticipate that we will retain our earnings, if any, for
use in the continued development of our business.
RECENT SALES OF UNREGISTERED SECURITIES.
Between November 1999 and January 2000, we issued warrants to purchase an
aggregate of 1,250,000 shares of common stock at an exercise price of $1.75 per
share, subject to adjustment. All warrants were exercised in full in February
2000.
In November 1999, we issued 30,000 shares of common stock to a consultant
in exchange for certain consulting services.
In addition, we issued an aggregate of 7,000 shares of common stock to two
employees as year-end bonuses for 1998 and 1999.
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The issuances of our securities in the above-referenced transactions were
effected in reliance upon the exemption from registration under Section 4(2) of
the Securities Act of 1933, as amended (the "Securities Act"), as transaction
not involving a public offering. Exemption from the registration provisions of
the Securities Act is claimed on the basis that such transaction did not involve
any public offering and the purchasers were sophisticated with access to the
kind of information registration would provide.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
The following discussion and analysis should be read in conjunction with
our Financial Statements and Notes thereto included elsewhere in this Form
10-KSB. Except for the historical information contained herein, the following
discussion contains certain forward-looking statements that involve risks and
uncertainties, such as statements of our plans, objectives, expectations and
intentions. The cautionary statements made in this Form 10-KSB should be read as
being applicable to all forward-looking statements wherever they appear in this
Form 10-KSB. See "Forward-Looking Statements; Cautionary Statement." Our actual
results may differ materially from the results discussed in the forward-looking
statements as a result of certain factors including, but not limited to, those
discussed under the heading "Risk Factors" and elsewhere in this Form 10-KSB.
OVERVIEW
We design and manufacture wireless and landline remote monitoring products
and systems that collect data from industrial devices such as meters, remote
terminal units, traffic controllers, industrial controls, remote sensors and
data loggers. The collected data is sent through wireless cellular and radio
frequency networks or telephone lines to a host site, direct or via the
Internet. We are an innovator of proprietary wireless data-communications
solutions for utility, transportation, oil and gas and other industrial
automation applications.
Our results of operations have been and may continue to be subject to
significant fluctuations. The results for a particular period may vary due to a
number of factors, many of which are beyond our control, including the timing
and nature of revenues from product sales that are recognized during any
particular quarter, the impact of price competition upon our average selling
prices, the availability and pricing of components for our products, market
acceptance of new product introductions by us and our competitors, the timing of
expenditures in anticipation of future sales, product returns, the financial
health of our customers, the overall state of the modem, data and wireless
communications industries, and economic conditions generally. In addition, the
volume and timing of orders received during a quarter are difficult to forecast.
We expect that our quarterly operating results will continue to fluctuate in the
future as a result of these and other factors.
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RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, certain
financial data as a percentage of net sales:
<TABLE>
<CAPTION>
Twelve Months Ended Dec. 31, Nine Months Ended Dec. 31,
---------------------------- --------------------------
1999 1998 1998
---- ---- ----
<S> <C> <C> <C>
Net sales.................................... 100.0% 100.0% 100.0%
Cost of sales................................ 68.3 59.3 62.9
------- ------- -------
Gross profit................................. 31.7 40.7 37.1
Operating expenses:
Selling, general and administrative....... 31.0 30.1 28.8
Engineering and product
development............................. 6.8 7.7 8.5
------- ------- -------
Operating income (loss)...................... (6.1) 2.9 (0.2)
Interest expense............................. (2.4) (8.0) (6.8)
Debt termination costs....................... (0.8) - -
Other income................................. - 0.6 -
------- ------- -------
Net loss..................................... (9.3)% (4.5)% (7.0)%
======= ======= =======
</TABLE>
COMPARISON OF TWELVE MONTHS ENDED DECEMBER 31, 1999 AND DECEMBER 31, 1998
(UNAUDITED)
NET SALES. Net sales for the twelve months ended December 31, 1999 were
$11.9 million as compared to $4.5 million for the twelve months ended December
31, 1998, an increase of $7.4 million or 164%. The increase in net sales was
primarily a result of increased purchases of our products by Duquesne, through
its subcontractor Sargent Electric Company, and by G. E. Harris Energy Systems,
and the inclusion of approximately $1.8 million in sales from our GDI division,
which we acquired as of June 1, 1999.
GROSS PROFIT. Gross profit decreased as a percentage of net sales to 31.7%
for the twelve months ended December 31, 1999 as compared to 40.7% for the
twelve months ended December 31, 1998. The decrease in gross margin was
primarily attributable to higher material costs as a percentage of sales in our
new products and unusually large discounts given to two major customers to
secure large contracts. The decrease was also due to the costs of moving our
company to a new larger facility and the associated increase in rent and other
facility-related costs. Gross margin was favorably impacted by higher gross
margins generated on sales from our GDI division.
SELLING GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses increased by $2.3 million or 172%, to $3.7 million
during the twelve months ended December 31, 1999 from $1.4 million during the
twelve months ended December 31, 1998, and increased as a percentage of net
sales to 31% for the twelve months ended December 31, 1999 from 30.1% during the
previous year. The increase in expenses resulted primarily from a significant
increase in professional service expenses, primarily audit, accounting and
legal, associated with our switch to a national auditing firm and our efforts to
upgrade our accounting systems, the cost of producing reports to comply with
securities filing requirements and to support two private placements of
securities. Additionally, we incurred significant costs for public and investor
relations to support our efforts to re-establish communications with the
financial community. The increase was also a result of an increase in salary
expense associated with our rapid internal growth and the addition of personnel
that were previously employed by GDI and Sierra Digital, both of which we
acquired during 1999.
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<PAGE>
ENGINEERING AND PRODUCT DEVELOPMENT. Engineering and product development
expense increased by $457,000 or 131%, to $807,000 during the twelve months
ended December 31, 1999, from $350,000 during the twelve months ended December
31, 1998, but decreased as a percentage of sales from 7.7% during the prior year
to 6.8% during the twelve months ended December 31, 1999. The increase in
engineering and product development expense was primarily attributable to an
increase in salary expense associated with our rapid growth and the addition of
personnel that were employed by GDI, which we acquired in June 1999, and to an
increase in professional services and consulting to support certain product
developments. The decrease as a percentage of net sales in engineering and
product development was due primarily to revenue growing faster than expenses.
INTEREST EXPENSE. Interest expense during the twelve months ended December
31, 1999 decreased by $76,000 to $283,000 or 2.4% of net sales, from $359,000 or
8% of net sales during the twelve months ended December 31, 1998. The decrease
in interest expense resulted primarily from a lower interest rate provided by
our new senior lender, Celtic Capital Corporation. The decrease in interest
expense as a percentage of net sales was primarily a result of rapid revenue
growth.
DEBT TERMINATION COSTS. During the twelve months ended December 31, 1999,
debt termination costs were $96,000, or 0.8% of net sales. There were no debt
termination costs incurred in the twelve months ended December 31, 1998. These
debt termination costs were primarily related to the termination of our
factoring arrangement and the settlement of a related debt issuance obligation.
OTHER INCOME. Other income decreased by $27,000 to $1,000 in the twelve
months ended December 31, 1999 from $28,000 in the previous year. Other income
during the twelve months ended December 31, 1998 was primarily attributable to
the resolution of certain liabilities for amounts less than the carrying value
of those obligations.
INCOME TAXES. Income taxes were nominal in both respective periods as the
Company is in a loss carryforward position for federal income tax purposes. At
December 31, 1999, the components of the Company's deferred tax assets and
liabilities were comprised primarily of the future tax benefit of the Company's
net operating loss carryforwards of approximately $1,100,000.
The utilization of the net operating loss carryforwards could be limited
due to restrictions imposed under federal and state laws upon a change in
ownership. The amount of the limitation, if any, has not been determined at this
time. A valuation allowance is provided when it is more likely than not that
some portion or all of the deferred tax assets will not be realized. As a result
of the Company's continued losses and uncertainties surrounding the realization
of the net operating loss carryforwards, management has determined that the
realization of deferred tax assets is not more likely than not. Accordingly, a
valuation allowance equal to the net deferred tax asset amount has been recorded
as of December 31, 1999.
NET LOSS. Net loss for the twelve months ended December 31, 1999 was $1.1
million or 9.3% of net sales as compared to $204,000 or 4.5% of net sales in the
twelve months ended December 31, 1998. The increase in net loss for the twelve
months ended December 31, 1999 was primarily attributable to a significant
reduction in revenue during the third and fourth quarters of fiscal 1999 coupled
with significantly higher operating expenses during those periods. We believe
that the reduction in revenues is primarily attributable to the general concern
over the possibility of Year 2000 problems, and that our increased operating
expenses represent our continued investment in planned future growth.
COMPARISON OF TWELVE MONTHS ENDED DECEMBER 31, 1999 AND NINE MONTHS ENDED
DECEMBER 31, 1998
NET SALES. Net sales for the twelve months ended December 31, 1999 were
$11.9 million as compared to $3.6 million for the nine months ended December 31,
1998, an increase of $8.3 million or 234.7%. The increase in net sales was
primarily a result of the additional three-month period in 1999, increased
purchases of our products by Duquesne, through its subcontractor Sargent
Electric Company, and by G. E. Harris Energy Systems, and the inclusion of
approximately $1.8 million in sales from our GDI division, which we acquired as
of June 1, 1999.
GROSS PROFIT. Gross profit decreased as a percentage of net sales to 31.7%
for the twelve months ended December 31, 1999 as compared to 37.1% for the nine
months ended December 31, 1998. The decrease in gross margin was primarily
attributable to higher material costs as a percentage of sales in our new
products and unusually large discounts given to two major customers to secure
large contracts. The decrease was also due to the costs of moving our company to
a new larger facility and the associated increase in rent and other
facility-related costs. Gross margin was favorably impacted by higher gross
margins generated on sales from our GDI division.
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<PAGE>
SELLING GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses increased by $2.7 million or 260.6%, to $3.7 million
during the twelve months ended December 31, 1999 from $1.0 million during the
nine months ended December 31, 1998, and increased as a percentage of net sales
to 31% for the twelve months ended December 31, 1999 from 28.8% for the nine
months ended December 31, 1998. The increase in expenses resulted primarily from
the additional three-month period in 1999, a significant increase in
professional service expenses, primarily audit, accounting and legal, associated
with our switch to a national auditing firm and our efforts to upgrade our
accounting systems, the cost of producing reports to comply with securities
filing requirements and to support two private placements of securities.
Additionally, we incurred significant costs for public and investor relations to
support our efforts to re-establish communications with the financial community.
The increase was also a result of an increase in salary expense associated with
our rapid internal growth and the addition of personnel that were previously
employed by GDI and Sierra Digital, both of which we acquired during 1999.
ENGINEERING AND PRODUCT DEVELOPMENT. Engineering and product development
expense increased by $506,000 or 168.2%, to $807,000 during the twelve months
ended December 31, 1999, from $301,000 during the nine months ended December 31,
1998, but decreased as a percentage of net sales during the nine months ended
December 31, 1998 to 6.8% from 8.5% during the twelve months ended December 31,
1999. The increase in engineering and product development expense was primarily
attributable to the additional three-month period in 1999, an increase in salary
expense associated with our rapid growth and the addition of personnel that were
employed by GDI, which we acquired in June 1999, and to an increase in
professional services and consulting to support certain product developments.
The decrease as a percentage of net sales in engineering and product development
was due primarily to revenue growing faster than expenses.
INTEREST EXPENSE. Interest expense during the twelve months ended December
31, 1999 increased by $41,000 to $283,000 or 2.4% of net sales, from $242,000 or
6.8% of net sales during the nine months ended December 31, 1998. The increase
in interest expense resulted primarily from the additional three-month period in
1999 which was partially offset by a lower interest rate provided by our new
senior lender, Celtic Capital Corporation. The decrease in interest expense as a
percentage of net sales was primarily a result of rapid revenue growth.
DEBT TERMINATION COSTS. During the twelve months ended December 31, 1999,
debt termination costs were $96,000, or 0.8% of net sales. There were no debt
termination costs incurred in the nine months ended December 31, 1998. These
debt termination costs were primarily related to the termination of our
factoring arrangement and the settlement of a related debt issuance obligation.
OTHER INCOME. Other income was negligible in both the twelve months ended
December 31, 1999 and the nine months ended December 31, 1998.
INCOME TAXES. Income taxes were nominal in both respective periods as the
Company is in a loss carryforward position for federal income tax purposes. At
December 31, 1999, the components of the Company's deferred tax assets and
liabilities were comprised primarily of the future tax benefit of the Company's
net operating loss carryforwards of approximately $1,100,000.
The utilization of the net operating loss carryforwards could be limited
due to restrictions imposed under federal and state laws upon a change in
ownership. The amount of the limitation, if any, has not been determined at this
time. A valuation allowance is provided when it is more likely than not that
some portion or all of the deferred tax assets will not be realized. As a result
of the Company's continued losses and uncertainties surrounding the realization
of the net operating loss carryforwards, management has determined that the
realization of deferred tax assets is not more likely than not. Accordingly, a
valuation allowance equal to the net deferred tax asset amount has been recorded
as of December 31, 1999.
NET LOSS. Net loss for the twelve months ended December 31, 1999 was $1.1
million or 9.3% of net sales as compared to $249,000 or 7.0% of net sales in the
nine months ended December 31, 1998. The increase in net loss for the twelve
months ended December 31, 1999 was primarily attributable to a significant
reduction in revenue during the third and fourth quarters of fiscal 1999 coupled
with significantly higher operating expenses during those periods. We believe
that the reduction in revenues is primarily attributable to the general concern
over the possibility of Year 2000 problems, and that our increased operating
expenses represent our continued investment in planned future growth.
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<PAGE>
LIQUIDITY AND CAPITAL RESOURCES
During the year ended December 31, 1999, we financed our operations and
capital expenditures primarily through working capital, proceeds from the
offering of our Series A 7.0% Convertible Redeemable Preferred Stock, proceeds
from our offering of 10% Subordinated Unsecured Promissory Notes due 2001 and
proceeds under our revolving line of credit. As of December 31, 1999, we had
$2.7 million in backlog orders for our products.
As of December 31, 1999, we had a working capital deficiency of $432,000
and an accumulated deficit of $12.8 million. As of that date, we had a net bank
overdraft of $319,000 and $1.6 million in accounts receivable. We also had
promissory notes outstanding in the aggregate amount of $1.5 million (net of
$39,000 of unamortized discount) as of December 31, 1999, of which $614,000 was
due to related parties.
On April 2, 1999, we secured a revolving line of credit with Celtic Capital
Corporation, a division of Foothill Capital Corporation. The line of credit
bears interest at the greater of prime rate plus 3% (11.5% at December 31, 1999)
or 10.75% per annum, is collateralized by substantially all of our assets and
expires on October 2, 2000. The borrowing base under the line of credit is 80%
of eligible accounts receivable up to a maximum borrowing of $3.0 million. As of
December 31, 1999, we had borrowings of $798,000 under the line of credit.
In April 1999, we sold an aggregate of 628,571 shares of our Series A 7.0%
Convertible Redeemable Preferred Stock at $1.75 per share and five-year warrants
to purchase an aggregate of 628,571 shares of our common stock with an exercise
price of $1.875 per share in a private equity offering to six accredited
investors. The cash proceeds of the offering, net of commissions and offering
costs, were approximately $817,000. In connection with this offering, we also
issued five-year warrants to purchase up to 62,857 shares of common stock at an
exercise price of $2.10 per share to our placement agent.
The cash proceeds from the private equity offering of Series A 7.0%
Convertible Redeemable Preferred Stock and the offering of 10% Subordinated
Unsecured Promissory Notes due 2001, together with current and anticipated
borrowings under our line of credit with Celtic Capital Corporation, have been,
and will continue to be, used as working capital to fund research and
development costs associated with our products, costs associated with
manufacturing and marketing our products and costs associated with our continued
growth and expansion.
Between May 25, 1999 and August 11, 1999, an aggregate of $315,000 of 10%
Subordinated Unsecured Promissory Notes due 2000, 125,820 related warrants and
$36,000 in cash were exchanged for 128,313 shares of Series A 7.0% Convertible
Redeemable Preferred Stock, 125,820 shares of common stock and 94,365 warrants
to purchase common stock at an exercise price of $1.875 in an exchange offering.
In July 1999, we entered into an agreement with Sierra Digital and certain
shareholders of Sierra Digital to purchase Sierra Digital's millimeter waive
radio technology as well as certain other assets in exchange for $110,000 in
cash and an aggregate of 110,594 shares of common stock that are subject to
certain registration rights.
In connection therewith, we acquired substantially all of the claims of
unsecured creditors against Sierra Digital at substantial discounts.
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<PAGE>
In August 1999, we occupied our new corporate and manufacturing facility,
pursuant to a lease with an initial term of five years and one five-year option
to extend. In connection therewith, we have, through December 31, 1999, incurred
costs for tenant improvements of $411,000, and costs for furniture, fixtures and
equipment of $322,000.
Between November 15, 1999 and December 31, 1999, we issued $312,500 of 10%
Subordinated Unsecured Promissory Notes due 2001. We closed the note offering in
January 2000 after issuing additional notes totaling $937,500. Included with the
sale of the notes were warrants to purchase one share of our common stock for
each dollar amount of the notes purchased, with an exercise price of $1.75 per
share. All of the warrants were exercised when we called the warrants in
February 2000 pursuant to their terms, and we received cash proceeds of
$1,591,000.
While we believe that cash flow from operations and our revolving line of
credit with Celtic Capital Corporation will be adequate to fund our continuing
operations for the next twelve months, we further believe that additional
financing will be required to fund our plans to exploit the technology we
obtained in connection with our acquisition of eflex and to fund other plans for
future growth. We will require additional sources of liquidity through debt
and/or equity financing, which we believe we have identified. However, there can
be no assurance that any additional financing will be available to us on
acceptable terms, or at all. The inability to obtain such financing could have a
material adverse effect on our business, financial condition and results of
operations. If additional funds are raised by issuing equity or convertible debt
securities, options or warrants, further dilution to our existing shareholders
may result.
If adequate funds are not available, we may also be required to delay,
scale back or eliminate our product development efforts or to obtain funds
through arrangements with strategic partners or others that may require us to
relinquish rights to certain of our technologies or potential products or other
assets. Accordingly, the inability to obtain such financing could result in a
significant loss of ownership and/or control of our proprietary technology and
other important assets and could also adversely affect our ability to continue
our product development efforts, which we believe contribute significantly to
our competitive advantage. If any of such circumstances were to arise, our
business, financial condition and results of operations could be materially and
adversely affected.
LOOKING AHEAD
We believe that during 2000, a significant portion of revenues will be
realized from certain opportunities that were uncovered and developed during
fiscal 1999 and during the first quarter of 2000. Some of these opportunities
are as follows:
o WIRELESS SOLUTIONS. We believe that a significant portion of our future
revenues will be generated through sales of our wireless products, the
cellular-based Omega(TM) System and the TrafficWatch(TM) and patent
pending AirWave(TM) module. Our acquisition of millimeter wave radio
technology from Sierra Digital is also expected to contribute to this
trend.
o TRANSPORTATION INDUSTRY. We anticipate that our significant activities
within the transportation industry and close work with several
departments of transportation such as CALTRANS, Los Angeles Department
of Transportation, Wyoming Department of Transportation, Pennsylvania
Department of Transportation and several other departments of
transportation that are currently our customers will result in a
significant increase in our business during 2000.
o GROWTH THROUGH ACQUISITIONS. To expand our markets, our business
strategy includes growth through acquisitions. During the year ended
December 31, 1999, we acquired certain assets of Greenland Corporation
as well as all of the assets of GDI and Sierra Digital. In addition, in
January 2000, we acquired all of the outstanding capital stock of
eflex.
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<PAGE>
o DISTRIBUTION. We believe that our on-going aggressive plan in
identifying and hiring distributors, VARs and system integrators will
result in additional revenues in this sector in 2000 and beyond.
o INTERNATIONAL BUSINESS. We anticipate a significant increase in
international business. Current opportunities in China, Mexico, India,
Spain and several other countries that we have been involved with may
result in approximately $2.0 million of revenues during the next 18
months.
FORWARD-LOOKING STATEMENTS; CAUTIONARY STATEMENT
Certain of the statements contained in this report, including those under
"Description of Business," "Management's Discussion and Analysis of Financial
Condition and Results of Operations," and especially those contained under
"Liquidity and Capital Resources" and "Looking Ahead," are "forward-looking
statements" that involve risks and uncertainties. Our actual future results
could differ materially from those statements. Factors that could cause or
contribute to such differences include, but are not limited to, those discussed
under the caption "Risk Factors" and elsewhere in this Form 10-KSB. While we
believe that these statements are accurate, our business is dependent upon
general economic conditions and various conditions specific to the modem and
data communications industry, and future trends and results cannot be predicted
with certainty. In particular:
o Although our business strategy includes growth through acquisitions,
identifying and pursuing acquisition opportunities and integrating
acquired products and businesses requires a significant amount of
management time and skill. There can be no assurance that we will be
able to continue to identify suitable acquisition candidates,
consummate additional acquisitions on acceptable terms or successfully
integrate any acquired business into our operations. There also can be
no assurance that any future acquisition will not have an adverse
effect upon our operating results, particularly in the fiscal quarters
immediately following consummation of the acquisition while the
acquired business is being integrated into our operations.
o In the past, we have experienced problems associated with
under-capitalization, including the inability to ship products in a
timely manner, which in some cases caused customers to cancel a portion
or all of their orders. Although we believe that we have identified
sources of liquidity that will be adequate to fund our operations for
the next twelve months, there can be no assurance that sufficient funds
will be available or that we will not in the future experience problems
associated with under-capitalization.
o We have experienced significant growth during the last 18 months. As a
result of this rapid growth, we have had to raise equity capital to
fund our liquidity needs, the timing of which has, on occasion,
resulted in our being required to purchase product components at less
than optimal price points. As a result, our gross margins on many of
our product lines may fluctuate on a quarterly basis.
o We have limited experience in marketing and selling our products in
international markets. International customs, standards, approvals and
political and economical uncertainties may adversely affect our ability
to ship our products internationally in a timely and profitable manner.
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<PAGE>
o The trading price of our common stock, like other technology stocks, is
subject to significant volatility due to factors impacting the overall
market that are unrelated to our performance. Our historical results of
operations and financial position are not necessarily indicative of
future financial performance. If revenues or earnings fail to meet
securities analysts' expectations, there could be an immediate and
significant adverse impact on the trading price of our common stock.
We have not experienced a material adverse impact of such risks and
uncertainties and do not anticipate such an impact. However, no assurance can be
given that such risks and uncertainties will not affect our future results of
operations or financial position.
YEAR 2000 COMPLIANCE
Many currently installed computer systems and software products are coded
to accept or recognize only two digit entries in the date code field. These
systems may recognize a date using "00" as the year 1900 rather than the year
2000. As a result, computer systems and/or software used by many companies and
governmental agencies may need to be upgraded to comply with such Year 2000
requirements or risk system failure or miscalculations causing disruptions of
normal business activities.
We have operated and evaluated our internal IT and non-IT systems since
January 1, 2000, and have not identified any errors or experienced any system
malfunctions. We have not been informed of any Year 2000 problems experienced by
any of our vendors or other third parties on whom our operations rely. We will
continue to monitor our systems to assess whether we are at risk for any Year
2000 compliance issues. The costs associated with correcting our non-compliant
IT systems and non-IT systems have not been material.
However, it is our opinion that it is too soon to conclude that there will
not be any problems arising from the Year 2000 problem. particularly with
respect to third parties. We are continuing to monitor our operations, our
significant vendors and other third parties for Year 2000 problems. We do not
believe at this time that potential Year 2000 issues will materially affect our
business, although no assurance can be given that this will be the case.
EFFECT OF INFLATION
We believe that inflation has not had a material effect on our net sales or
profitability in recent years.
IMPACT OF NEW ACCOUNTING PRONOUNCEMENTS
In December 1999, the Securities and Exchange Commission ("SEC") issued
Staff Accounting Bulletin ("SAB") 101, "Revenue Recognition in Financial
Statements." In SAB 101, the SEC staff expresses its view regarding the
appropriate recognition of revenue with regard to a variety of circumstances,
some of which are of particular relevance to us. The adoption of SAB 101 is not
expected to have a material impact on us.
RISK FACTORS
In addition to the other information contained in this Form 10-KSB
(including, without limitation, under the captions "Competition" and
"Intellectual Property"), the following factors should be considered carefully
in evaluating our business and prospects.
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<PAGE>
WE HAVE A HISTORY OF LOSSES AND AN ACCUMULATED DEFICIT WHICH MAY CONTINUE IN THE
FUTURE AND WHICH MAY ADVERSELY IMPACT OUR BUSINESS AND OUR SHAREHOLDERS.
We have incurred net losses in each fiscal year since our inception, with
the exception of the fiscal year ended March 31, 1998, in which we realized
nominal net income of $94,000. For the nine month transition period ended
December 31, 1998, we reported a net loss of $249,000. Our accumulated deficit
through December 31, 1999 was $12.8 million, and as of that date we had a total
shareholders' equity of $663,000. We realized a net loss of $1.1 million for the
twelve months ended December 31, 1999, as compared to incurring a net loss of
$204,000 for the twelve months ended December 31, 1998. We expect our losses to
continue for a significant portion of 2000. We also expect that our losses may
continue further into the future, and therefore we cannot assure you that we
will ever maintain profitable operations in the future.
WE MAY NEED AND BE UNABLE TO OBTAIN ADDITIONAL FUNDING ON SATISFACTORY TERMS,
WHICH COULD DILUTE OUR SHAREHOLDERS OR IMPOSE BURDENSOME FINANCIAL RESTRICTIONS
ON OUR BUSINESS.
Historically, we have relied upon cash from financing activities to fund
most of the cash requirements of our operating and investing activities.
Although we have been able to generate some cash from our operating activities
in the past, there is no assurance we will be able to continue to do so in the
future. While we believe that cash flow from operations and our revolving line
of credit with Celtic Capital Corporation will be adequate to fund our
continuing operations for the next twelve months, we further believe that
additional sources of liquidity through debt and/or equity financing will be
required to fund our plans to exploit the technology we obtained in connection
with our acquisition of eflex and to fund other plans for future growth. Any
future financing may not be available on a timely basis, in sufficient amounts
or on terms acceptable to us. Any future financing may also dilute existing
shareholders. Any debt financing or other financing of securities senior to
common stock will likely include financial and other covenants that will
restrict our flexibility. At a minimum, we expect these covenants to include
restrictions on our ability to pay dividends on our common stock. Any failure to
comply with these covenants would have a material adverse effect on our
business, prospects, financial condition and results of operations.
OUR OPERATING RESULTS IN ONE OR MORE FUTURE PERIODS ARE LIKELY TO FLUCTUATE
SIGNIFICANTLY AND MAY NEGATIVELY IMPACT OUR STOCK PRICE.
Our quarterly results have varied significantly in the past and will likely
continue to do so in the future due to a variety of factors, many of which are
beyond our control, including the timing and nature of revenues from product
sales that are recognized during any particular quarter, the impact of price
competition on our average selling prices, the availability and pricing of
components for our products, market acceptance of new product introductions by
us and our competitors, the timing of expenditures in anticipation of future
sales, product returns, the financial health of our customers, the overall state
of the modem and wireless communication and device products industry and
economic conditions generally. The volume and timing of orders received during a
quarter are difficult to forecast. As a result, it is likely that in some future
periods our operating results will be below the expectations of securities
analysts and investors. If this happens, the trading price of our common stock
would likely be materially and adversely affected.
OUR OPERATING RESULTS ARE SIGNIFICANTLY DEPENDENT UPON THE ACCEPTANCE BY THE
UTILITY INDUSTRY OF OUR SYSTEM.
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<PAGE>
We offer AMR and other remote monitoring products and services and data
generated from such services to utilities, transportation industry and other
such entities. Our success will be almost entirely dependent upon whether these
parties accept our solution for their AMR or other data acquisition requirements
and whether they allow us to install wireless data networks for servicing a
substantial number of endpoint monitoring devices including utility meters. The
automation of utility meter reading and data distribution is a relatively new
and rapidly changing market. We believe that, as the utility industry becomes
more competitive through various deregulation and privatization initiatives,
there will be an increased need for more accurate, timely and efficient
collection of consumption and other operating data. This will ultimately
accelerate the adoption of AMR, data collection and data distribution systems
and techniques. However, this is entirely dependent upon decisions made by
utilities, other utility industry participants and utility customers over whom
we have no control. We cannot accurately predict the size of this market or our
potential growth. Our system is one possible solution for AMR and data
distribution. It has not been adopted as an industry standard and it may not be
adopted on a broad scale. Competing systems have been and likely will continue
to be selected by utilities and other potential clients. In the event utilities,
other utility industry participants and utility customers do not adopt our
technology or do so less rapidly than expected by us, our future financial
results, including our ability to service our indebtedness and achieve positive
cash flow or profitability, will be materially and adversely affected.
Participants in the utility industry have historically been cautious and
deliberate in making decisions concerning the adoption of new technology. This
process, which can take up to several years to complete, may include the
formation of evaluation committees, a review of different technical options,
technology trials, equipment testing and certification, performance and cost
justifications, regulatory review, one or more requests for vendor quotes and
proposals, budgetary approvals and other steps. Although deregulation and
privatization initiatives may ultimately accelerate the adoption of our
technology, the timing and extent of such adoption cannot be predicted. Only a
limited number of utilities have made a commitment to purchase our products and
services to date. If we do not enter into additional product and/or service
contracts or enter into contracts on terms favorable to us, our business,
operating results, financial condition, cash flows and our ability to service
our indebtedness will be materially and adversely affected.
OUR LACK OF DIVERSIFICATION MAY AFFECT OUR BUSINESS IF DEMAND IS REDUCED.
A substantial portion of our business is centered on the sale of modems and
similar data communication devices, which typically accounts for over 90% of our
total revenues. Although our customers typically standardize the unique or
special components that are manufactured for them by or through us to be
incorporated in the customers' end product, in most cases we do not have
long-term contracts with our customers. Accordingly, we are highly dependent on
the successful sales of these types of products. A significant reduction in
sales of these products resulting from changes in the industry, including the
entry of new competitors into the market, from the introduction of new or
improved technology or an unanticipated shift in the needs of our customers, or
for other reasons, would have a material adverse effect on our business,
prospects, financial condition and results of operations.
WE RELY ON A RELATIVELY LIMITED NUMBER OF CUSTOMERS, AND THE LOSS OF ANY
SIGNIFICANT CUSTOMER COULD MATERIALLY AND ADVERSELY AFFECT OUR BUSINESS AND
FINANCIAL CONDITION.
We derive a significant portion of our revenues from a relatively limited
number of customers. We anticipate that our five or six largest customers will
continue to account for the majority of our revenues for the foreseeable future.
The loss of any one or more of these major customers would likely have a
material adverse effect on our business, prospects, financial condition and
results of operations.
OUR BUSINESS COULD SUFFER IF WE ARE UNABLE TO OBTAIN COMPONENTS OF OUR PRODUCTS
FROM OUTSIDE SUPPLIERS.
-28-
<PAGE>
The major components of our products include circuit boards,
microprocessors, chipsets and memory components. Most of these components are
available from multiple sources. However, certain components used in our
products are currently obtained from single or limited sources. Certain modem
chipsets used in our data communications products have been in short supply and
are frequently on allocation by semiconductor manufacturers. Similar to others
in the modem industry, we have, from time to time, experienced difficulty in
obtaining certain components. We do not have guaranteed supply arrangements with
any of our suppliers, and there can be no assurance that these suppliers will
continue to meet our requirements. Shortages of components could not only limit
our production capacity but also could result in higher costs due to the higher
costs of components in short supply or the need to utilize higher cost
substitute components. An extended interruption in the supply of any of these
components or a reduction in their quality or reliability would have a material
adverse effect on our financial condition and results of operations. While we
believe that with respect to our single source components we could obtain
similar components from other sources, we could be required to alter product
designs to use alternative components. There can be no assurance that severe
shortages of components will not occur in the future that could increase the
cost or delay the shipment of our products and have a material adverse effect on
our financial condition and results of operations. Significant increases in the
prices of these components could also have a material adverse effect on our
results of operations because we may not be able to adjust product pricing to
reflect the increases in component costs.
WE RELY HEAVILY ON OUR KEY EMPLOYEES, AND THE LOSS OF THEIR SERVICES COULD
MATERIALLY AND ADVERSELY AFFECT OUR BUSINESS.
Our success is highly dependent upon the continued services of key members
of our management, including our Chairman of the Board, President and Chief
Executive Officer, Michael A. Armani, and our Chief Financial Officer, David
Stone. The loss of either Mr. Armani or Mr. Stone or one or more other key
members of management could have a material adverse effect on us. We have not
entered into any employment agreement with Mr. Armani or any other executive
officer of our company other than a written employment offer with Mr. Stone. We
do not maintain key-man life insurance policies on any member of management.
THE MARKETS IN WHICH WE COMPETE ARE HIGHLY COMPETITIVE, AND OUR GROWTH PROSPECTS
COULD BE MATERIALLY AND ADVERSELY AFFECTED IF WE ARE UNSUCCESSFUL IN OUR EFFORTS
TO COMPETE.
Electronics, communications and utility product companies are beginning to
develop various wireless network meter reading systems as a result of the
deregulation of the electric utility industry and the potential market for other
applications once a common infrastructure is in place. A number of these systems
currently compete, and others may in the future compete, with our system.
Deregulation will likely cause competition to increase. We believe that at this
time our most significant direct competitor in the marketplace is Itron, an
established manufacturer and seller of hand-held and drive-by AMR equipment for
utilities. Itron is currently providing to customers its Genesis(TM) system, a
wireless radio network marketed as similar to ours for meter reading purposes.
There are other potential alternative solutions to our network meter reading
services, including traditional wireless solutions. Many of our present and
potential future competitors may have substantially greater financial,
marketing, technical and manufacturing resources, name recognition and
experience than us. Our competitors may be able to respond more quickly to new
or emerging technologies and changes in customer requirements or to devote
greater resources to the development, promotion and sale of their products and
services than us. While we believe our technology, including AirWave(TM), is
widely regarded as competitive at the present time, our competitors may
successfully develop products, technologies or software that are better or more
cost effective. In addition, current and potential competitors may make
strategic acquisitions or establish cooperative relationships among themselves
or with third parties that increase their ability to address the needs of our
prospective customers. Accordingly, it is possible that new competitors or
alliances among current and new competitors may emerge and rapidly gain
significant market share. In addition, if we achieve significant success it
could draw additional competitors into the market. Providers of wireless
-29-
<PAGE>
services may in the future choose to enter our markets. Such existing and future
competition could materially and adversely affect the pricing for our products
and services and our ability to sign new services contracts and maintain
existing agreements. Competition for services relating to non-utility
applications may be more intense than competition for network meter reading
services, and additional competitors may emerge as we continue to develop
non-utility applications. We may be unable to compete successfully against
current and future competitors, and any failure to do so would have a material
adverse effect on our business, operating results, financial condition and cash
flows.
OUR INABILITY TO SUCCESSFULLY DEVELOP AND EXPAND OUR SYSTEM COULD MATERIALLY AND
ADVERSELY AFFECT OUR BUSINESS.
Our initial target market is the monitoring, control and automation of
utilities' electric, gas and water meters and distribution networks. Unforeseen
problems may occur with respect to our technology, products or services, and we
may not successfully complete the development and commercial implementation of
our technology on a wide scale. We must continue to expand and upgrade our
ability to implement successfully our wireless networks. We may not be able to
develop successfully a full range of endpoint devices. Our future success will
also depend, in part, on our ability to enhance our existing hardware, software
and wireless communications technology. Significant technological advances occur
rapidly and frequently in the telecommunications industry. The advent of
computer-linked electronic networks, fiber optic transmission, advanced data
digitization technology, cellular and satellite communications capabilities,
specialized mobile radio services and other commercial mobile radio services
have radically expanded communications capabilities and market opportunities.
Future advances may render our technology obsolete or less cost effective than
competitive systems or erode our market position. Competitors may be capable of
offering significant cost savings or other benefits to our customers.
Consequently, we may be unable to offer competitive services or obtain
appropriate new technologies on a timely basis or on satisfactory terms. Our
future performance will also depend significantly on our ability to respond to
future regulatory changes. We must make continued substantial investments to
develop our technology. We have encountered product development delays in the
past affecting both software and hardware components of our system and we expect
to incur such delays in the future.
BECAUSE WE BELIEVE THAT PROPRIETARY RIGHTS ARE MATERIAL TO OUR SUCCESS,
MISAPPROPRIATION OF THESE RIGHTS OR CLAIMS OF INFRINGEMENT OR LEGAL ACTIONS
RELATED TO INTELLECTUAL PROPERTY COULD ADVERSELY IMPACT OUR FINANCIAL CONDITION.
We do not hold any patents. We currently rely on a combination of
contractual rights, copyrights, trademarks and trade secrets to protect our
proprietary rights. Historically, our management believed that because of the
rapid pace of technological change in the modem and wireless communication and
device products industry, the legal intellectual property protection for our
products was a less significant factor in our success than the knowledge,
abilities and experience of our employees, the frequency of our product
enhancements, the effectiveness of our marketing activities and the timeliness
and quality of our support services. However, we now believe that several of our
current products and some products in development could benefit from patent
protection. Accordingly, we have retained the services of a patent and trademark
law firm to file patent applications for those products with the United States
Patent and Trademark Office and have several patents pending. Although we rely
to a great extent on trade secret protection for much of our technology, there
can be no assurance that our means of protecting our proprietary rights will be
adequate or that our competitors or customers will not independently develop
comparable or superior technologies or obtain unauthorized access to our
proprietary technology.
-30-
<PAGE>
We own, license or have otherwise obtained the right to use certain
technologies incorporated in our products, including certain technology we
acquired through our recent acquisition of eflex. In addition, we purchase modem
chipsets that incorporate sophisticated modem technology. We may receive
infringement claims from third parties relating to our products and
technologies, such as the patent infringement action filed against us by Aeris
Communications, Inc. In such event, we intend to investigate the validity of any
such claims and, if we believe the claims have merit, we intend to respond
through licensing or other appropriate actions. Certain of these claims may
relate to technology included in modem chipsets or other components purchased by
us from third party vendors for incorporation into our products. In such event,
we would forward these claims to the appropriate vendor. If we or our component
manufacturers were unable to license or otherwise provide any such necessary
technology on a cost-effective basis, we could be prohibited from marketing
products containing that technology, incur substantial costs in redesigning
products incorporating that technology, or incur substantial costs defending any
legal action taken against us, all of which could have a material adverse effect
on our business, prospects, financial condition and results of operations. See
"Legal Proceedings."
THERE ARE RISKS THAT OUR PRODUCTS MAY BE RETURNED BY OUR CUSTOMERS.
We are exposed to the risk of product returns from our customers as a
result of returns due to defective products or product components. Returned used
products are tested, repaired and used as warranty replacements. Products
returned to us due to faulty work by our subcontractors are returned to the
subcontractors for credit against future purchase orders. Historically, product
returns have not had a material impact on our operations or financial condition.
While we believe that product returns should not be material in future periods,
it is expected that a relatively modest number of returns will continue.
However, there can be no assurance that significant levels of product returns
will not occur in the future, which may have a material adverse effect on our
operations.
OUR FAILURE TO MANAGE GROWTH EFFECTIVELY COULD IMPAIR OUR BUSINESS.
Our strategy envisions a period of rapid growth that may put a strain on
our administrative and operational resources. While we believe that we have
established a significant infrastructure to support growth, our ability to
effectively manage growth will require us to continue to expand the capabilities
of our operational and management systems and to attract, train, manage and
retain qualified engineers, technicians, salesperson and other personnel. There
can be no assurance that we will be able to do so. If we are unable to
successfully manage our growth, our business, prospects, financial condition and
results of operations could be adversely affected.
OUR STOCK PRICE IS SUBJECT TO SIGNIFICANT VOLATILITY WHICH COULD RESULT IN
LITIGATION AGAINST US.
The trading prices of our common stock could be subject to wide
fluctuations in response to quarter-to-quarter variations in our operating
results, material announcements of technological innovations, price reductions,
significant customer orders or establishment of strategic partnerships by us or
our competitors or providers of alternative products, general conditions in the
modem and data communications industry, or other events or factors, many of
which are beyond our control. In addition, the stock market as a whole and
individual stocks have experienced extreme price and volume fluctuations, which
have often been unrelated to the performance of the related corporations. Our
operating results in future quarters may be below the expectations of market
makers, securities analysts and investors. In any such event, the price of our
common stock will likely decline, perhaps substantially. In the past, following
periods of volatility in the market price of a company's securities, securities
class action litigation has occurred against the issuing company. There can be
no assurance that such litigation will not occur in the future with respect to
our company. Such litigation could result in substantial costs and a diversion
of management's attention and resources, which could have a material adverse
effect on our business, prospects, financial condition and results of
operations. Any adverse determination in such litigation could also subject us
to substantial liabilities.
-31-
<PAGE>
ITEM 7. FINANCIAL STATEMENTS.
Our financial statements are filed with this Form 10-KSB beginning on page
F-1 following the signature pages.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURES.
On January 20, 1999, George F. Rombach, C.P.A. resigned as our principal
accountant. During our fiscal year ended March 31, 1998 and the subsequent
interim period preceding the resignation of George F. Rombach, there were no
disagreements with Mr. Rombach on any matter of accounting principles or
practices, financial statement disclosure or auditing scope or procedure which,
if not resolved to the satisfaction of Mr. Rombach, would have caused Mr.
Rombach to make reference to the subject matter of the disagreement in
connection with his report. Mr. Rombach's report on our financial statements for
the fiscal year ended March 31, 1998 did not contain an adverse opinion or
disclaimer of opinion and was not qualified or modified as to uncertainty, audit
scope or accounting principles.
Our decision to accept the resignation of George F. Rombach was approved by
our Board of Directors. Our Board of Directors also approved the engagement of
BDO Seidman, LLP as independent certified public accountants for our company and
to advise us on accounting matters, effective as of January 20, 1999. Prior to
the appointment of BDO Seidman, LLP, we had not consulted with BDO Seidman, LLP
regarding the application of accounting principles.
-32-
<PAGE>
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT.
The information appearing under the caption "Election of Directors,"
including the subcaption "Compliance with Beneficial Ownership Reporting Rules,"
contained in our Proxy Statement for the 2000 Annual Meeting of Shareholders
(the "definitive Proxy Statement") to be filed with the Securities and Exchange
Commission within 120 days after the end of our fiscal year ended December 31,
1999 is incorporated by reference into this item.
ITEM 10. EXECUTIVE COMPENSATION.
The information appearing under the caption "Election of Directors,"
including the subcaption "Executive Compensation," contained in our definitive
Proxy Statement is incorporated by reference into this item.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information appearing under the caption "Election of Directors,"
including the subcaption "Principal Shareholders," contained in our definitive
Proxy Statement is incorporated by reference into this item.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information appearing under the caption "Certain Relationships and
Related Transactions" contained in our definitive Proxy Statement is
incorporated by reference into this item.
-33-
<PAGE>
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K.
(a) EXHIBITS:
3.1 Restated and Amended Articles of Incorporation of the Registrant
(2)
3.2 Certificate of Determination of Rights, Preferences, Privileges
and Restrictions of Series A 7.0% Convertible Redeemable Preferred
Stock of the Registrant (2)
3.3 Certificate of Determination of Rights, Preferences, Privileges
and Restrictions of Series B Convertible Preferred Stock of the
Registrant (2)
3.4 Certificate of Determination of Rights, Preferences, Privileges
and Restrictions of Series C 7.0% Convertible Preferred Stock of
the Registrant (3)
3.5 Restated and Amended By-Laws of the Registrant (2)
10.1 Letter of Intent dated May 28, 1998 by and between Duquesne Light
Company and the Registrant (1)
10.2 Subcontract dated June 10, 1998 between Sargent Electric Company
and the Registrant (1)
10.3 Marketing and Technology Agreement dated July 13, 1998 by and
between the Registrant and Duquesne Light Company (1)
10.4 Loan and Security Agreement dated as of April 2, 1999 between
Celtic Capital Corporation and the Registrant (2)
10.5 Asset Purchase Agreement dated April 5, 1999 between Greenland
Corporation and the Registrant (2)
10.6 Commercial Lease dated April 12, 1999 between Mark IV Capital
Properties, Inc. and the Registrant (2)
10.7 Telenetics Corporation Stock Purchase Warrant between the
Registrant and SMC Communications Group, Inc. (1)
10.8 Amendment to Compromise Agreement and Mutual Release dated
December 30, 1997 by and between the Registrant, SMC
Communications Group, Inc. and Shala Shashani doing business as
SMC Group (1)
10.9 Security Agreement dated December 31, 1997 by and between the
Registrant and SMC Communications Group, Inc. (1)
10.10 Amendment to Security Agreement dated March 30, 1998 by and
between the Registrant and SMC Group (1)
10.11 Technology Transfer Agreement dated October 29, 1997 by and
between the Registrant and SMC Communications Group, Inc. (1)
10.12 Promissory Note dated as of January 7, 2000 from the Registrant in
favor of Saunders & Parker, Inc. for $136,444.90 (4)
-34-
<PAGE>
10.13 Non-Qualified Stock Option dated January 7, 2000 issued by the
Registrant to Edward L. Didion (4)
10.14 Non-Qualified Stock Option dated January 7, 2000 issued by the
Registrant to John D. McLean (4)
10.15 Non-Qualified Stock Option dated January 7, 2000 issued by the
Registrant to Saunders & Parker, Inc. (4)
10.16 Non-Qualified Stock Option dated January 7, 2000 issued by the
Registrant to T. Keith Odom (4)
10.17 Registration Rights Agreement dated January 7, 2000 between the
Registrant and Edward L. Didion (4)
10.18 Registration Rights Agreement dated January 7, 2000 between the
Registrant and John D. McLean (4)
10.19 Registration Rights Agreement dated January 7, 2000 between the
Registrant and Saunders & Parker, Inc. (4)
10.20 Registration Rights Agreement dated January 7, 2000 between the
Registrant and T. Keith Odom (4)
10.21 Registration Rights Agreement between the Registrant and Terry S.
Parker (4)
10.22 Registration Rights Agreement dated January 7, 2000 between the
Registrant and William C. Saunders (4)
10.23 Consulting Agreement dated January 7, 2000 between the Registrant
and Edward L. Didion (4)
10.24 Employment Agreement dated January 7, 2000 between the Registrant
and John D. McLean (4)
10.25 Employment Agreement dated January 7, 2000 between the Registrant
and T. Keith Odom (4)
10.26 Consulting Agreement dated January 7, 2000 between the Registrant
and Saunders & Parker, Inc. (4)
10.27 Promissory Note dated as of January 7, 2000 from the Registrant in
favor of John D. McLean for $107,500 (4)
10.28 Asset Purchase Agreement effective as of June 1, 1999 by and among
the Registrant, Sunnyvale General Devices and Instruments, Inc.
and Frank R. Ribelin (5)
10.29 Stock Purchase Agreement dated as of January 7, 2000 between the
Registrant, Edward L. Didion, John D. McLean, William C. Saunders
and Terry S. Parker (4)
-35-
<PAGE>
10.30 Shareholder Agreement dated as of January 7, 2000 by and among the
Registrant, Michael A. Armani, Dr. George Levy, Shala Shashani,
Thomas Povinelli, Ed Finamore, Terry S. Parker, William C.
Saunders, John D. McLean and Edward L. Didion (4)
10.31 Secured Promissary Note dated December 30, 1997 from the
Registrant in favor of Shala Shashani for $250,000, as amended by
Amended Secured Promissary Note dated as of April 13, 2000*
16.1 Letter on Change in Certifying Accountant from George F. Rombach
(3)
21.1 Subsidiaries of the Registrant
23.1 Consent of Independent Certified Public Accountants
27.1 Financial Data Schedule
- ------------
* To be filed by amendment.
(1) Filed as an exhibit to the Registrant's Form 10-KSB for the fiscal year
ended March 31, 1998 and incorporated herein by reference.
(2) Filed as an exhibit to the Registrant's Form 10-KSB for the nine months
ended December 31, 1998 and incorporated herein by reference.
(3) Filed as an exhibit to the Registrant's Form 8-K for January 20, 1999
and incorporated herein by reference.
(4) Filed as an exhibit to the Registrant's Form 8-K for January 7, 2000
and incorporated herein by reference.
(5) Filed as an exhibit to the Registrant's Form 8-K for June 30, 1999 and
incorporated herein by reference.
(b) REPORTS ON FORM 8-K.
During the quarter ended December 31, 1999, the Registrant did not file any
reports on Form 8-K.
-36-
<PAGE>
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the Registrant
caused this report to be signed on its behalf by the undersigned thereunto duly
authorized on this 14th day of April, 2000.
TELENETICS CORPORATION
Dated: April 14, 2000 By: /s/ Michael A. Armani
------------------------------------------
Michael A. Armani
Chairman of the Board, President and Chief
Executive Officer
In accordance with the Exchange Act, this report has been signed by the
following persons on behalf of the Registrant and in the capacities and on the
dates indicated.
NAME TITLE DATE
/s/ Michael A. Armani Chairman of the Board, President, April 14, 2000
- ------------------------- Chief Executive Officer and Director
Michael A. Armani (principal executive officer)
/s/ David Stone Chief Financial Officer and April 14, 2000
- ------------------------- Secretary (principal accounting
David Stone officer)
/s/ Thomas Povinelli Director April 14, 2000
- -------------------------
Thomas Povinelli
/s/ Edmund P. Finamore Director April 14, 2000
- -------------------------
Edmund P. Finamore
/s/ George Levy, M.D. Director April 14, 2000
- -------------------------
George Levy, M.D.
/s/ Shala Shashani Director April 14, 2000
- -------------------------
Shala Shashani
-37-
<PAGE>
TELENETICS CORPORATION
INDEX TO FINANCIAL STATEMENTS
PAGE
----
Report of Independent Certified Public Accountants F-2
Balance Sheet as of December 31, 1999 F-3
Statements of Operations for the year ended December 31, 1999
and the nine months ended December 31, 1998 F-5
Statements of Shareholders' Equity (Deficit) for the year ended
December 31, 1999 and the nine months ended December 31, 1998 F-6
Statements of Cash Flows for the year ended December 31, 1999
and the nine months ended December 31, 1998 F-8
Notes to Financial Statements F-10
F - 1
<PAGE>
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
The Board of Directors
Telenetics Corporation
We have audited the accompanying balance sheet of Telenetics Corporation as of
December 31, 1999, and the related statements of operations, shareholders'
equity (deficit) and cash flows for the year ended December 31, 1999 and the
nine months ended December 31, 1998. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Telenetics Corporation at
December 31, 1999, and the results of its operations and its cash flows for the
year ended December 31, 1999 and the nine months ended December 31, 1998 in
conformity with generally accepted accounting principles.
/S/ BDO SEIDMAN, LLP
BDO SEIDMAN, LLP
Orange County, California
March 9, 2000, except as to the
last paragraph of Note 15,
which is as of April 13, 2000
F - 2
<PAGE>
TELENETICS CORPORATION
BALANCE SHEET
DECEMBER 31, 1999
ASSETS (NOTES 6 AND 7)
Current assets:
Cash $ 645
Accounts receivable, net of allowance for doubtful
accounts of $40,395 1,575,631
Receivable from related parties 158,622
Inventories (Note 3) 1,906,239
Prepaid expenses and other current assets 111,439
------------
Total current assets 3,752,576
Property, plant and equipment, net (Notes 4 and 13) 761,663
Goodwill, net of accumulated amortization of $51,052 (Note 2) 386,786
Investments in technology and other intangible assets,
net of accumulated amortization of $37,447 (Note 2) 541,739
Other assets 85,402
------------
$ 5,528,166
============
SEE ACCOMPANYING NOTES TO FINANCIAL STATEMENTS.
F - 3
<PAGE>
TELENETICS CORPORATION
BALANCE SHEET
DECEMBER 31, 1999
(CONTINUED)
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Revolving line of credit (Note 6) $ 797,802
Bank overdraft 318,587
Subordinated unsecured promissory notes (Note 8) 708,510
Current portion of related party debt (Note 7) 126,262
Current portion of obligation under capital leases (Note 13) 29,072
Accounts payable 1,447,396
Accrued expenses 667,362
Advance payments from customers 89,859
-------------
Total current liabilities 4,184,850
Subordinated unsecured promissory notes (Note 8) 309,626
Related party debt, less current portion (Note 7) 312,500
Obligation under capital leases, less current portion (Note 13) 58,262
-------------
Total liabilities 4,865,238
-------------
Commitments and contingencies (Note 13)
Subsequent events (Notes 7, 8, 10, 13 and 15)
Shareholders' equity (Notes 2, 10 and 15):
Preferred stock, no par value. Authorized 5,000,000 shares;
Series A 7% Convertible Redeemable Preferred Stock;
issued and outstanding 756,884 shares (aggregate
liquidation of preference of $1,325,000) 775,976
Series B Convertible Preferred Stock; issued and
outstanding 128,571 shares (aggregate liquidation
preference of $900,000) 249,106
Series C 7% Convertible Preferred Stock; issued and
outstanding 400,000 shares (aggregate liquidation
preference of $600,000) 550,000
Common stock, no par value. Authorized 25,000,000 shares;
issued and outstanding 10,283,773 shares 11,915,579
Unearned compensation (21,080)
Accumulated deficit (12,806,653)
-------------
Total shareholders' equity 662,928
-------------
$ 5,528,166
=============
SEE ACCOMPANYING NOTES TO FINANCIAL STATEMENTS.
F - 4
<PAGE>
TELENETICS CORPORATION
STATEMENTS OF OPERATIONS
Nine Months
Year Ended Ended
December 31, December 31,
1999 1998
------------- -------------
Net sales (Note 14) $ 11,912,168 $ 3,559,539
Cost of sales 8,138,558 2,239,688
------------- -------------
Gross profit 3,773,610 1,319,851
Operating expenses:
Selling, general and administrative 3,698,467 1,025,753
Engineering and product development 807,199 300,952
------------- -------------
Loss from operations (732,056) (6,854)
Interest expense (283,063) (242,299)
Debt termination costs (Note 5) (96,154) --
Other income 925 647
------------- -------------
Loss before income taxes (1,110,348) (248,506)
Income taxes (Note 11) 829 800
------------- -------------
Net loss $ (1,111,177) $ (249,306)
============= =============
Basic and diluted loss per share (Note 12) $ (.12) $ (.03)
============= =============
SEE ACCOMPANYING NOTES TO FINANCIAL STATEMENTS.
F - 5
<PAGE>
<TABLE>
TELENETICS CORPORATION
STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIT)
<CAPTION>
PREFERRED STOCK COMMON STOCK
---------------------- --------------------------- UNEARNED ACCUMULATED
SHARES AMOUNT SHARES AMOUNT COMPENSATION DEFICIT TOTAL
---------- ---------- ------------- ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at March 31, 1998 -- $ -- 8,256,165 $ 10,578,402 $ -- $(11,361,332) $ (782,930)
Stock issued upon exercise of
options (Note 10) -- -- 700,000 55,000 -- -- 55,000
Stock issued upon exercise of
warrants (Notes 7 and 8) -- -- 370,000 220,000 -- -- 220,000
Stock issued upon debt
conversion (Note 9) -- -- 80,000 100,000 -- -- 100,000
Stock and stock options issued
for services -- -- 100,000 38,000 -- -- 38,000
Stock issued for employee
bonuses -- -- 21,000 6,615 -- -- 6,615
Warrants issued with
subordinated promissory
notes (Note 8) -- -- -- 104,365 -- -- 104,365
Net loss -- -- -- -- -- (249,306) (249,306)
---------- ---------- ------------- ------------- ------------- ------------- -------------
Balance at December 31, 1998 -- $ -- 9,527,165 $ 11,102,382 $ -- $(11,610,638) $ (508,256)
---------- ---------- ------------- ------------- ------------- ------------- -------------
SEE ACCOMPANYING NOTES TO FINANCIAL STATEMENTS.
</TABLE>
F - 6
<PAGE>
<TABLE>
TELENETICS CORPORATION
STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIT)(CONTINUED)
<CAPTION>
PREFERRED STOCK COMMON STOCK
-------------------------- ---------------------------
UNEARNED ACCUMULATED
SHARES AMOUNT SHARES AMOUNT COMPENSATION DEFICIT TOTAL
------------ ------------ ------------ ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1998 -- $ -- 9,527,165 $ 11,102,382 $ -- $(11,610,638) $ (508,256)
Series A Preferred Stock,
common stock and warrants
issued in connection with
exchange offer (Note 8) 128,313 224,550 125,820 100,656 -- -- 325,206
Series A Preferred Stock
issued in private equity
offering (Note 10) 628,571 551,426 -- 265,805 -- -- 817,231
Series B Preferred Stock
issued in connection with
acquisition (Note 2) 128,571 249,106 -- -- -- -- 249,106
Series C Preferred Stock
issued in connection with
acquisition (Note 2) 400,000 550,000 -- -- -- -- 550,000
Stock issued in connection
with acquisition (Note 2) -- -- 110,594 190,000 -- -- 190,000
Stock issued upon exercise
of options (Note 10) -- -- 160,000 25,600 -- -- 25,600
Stock issued upon exercise
of warrant (Note 10) -- -- 180,000 -- -- -- --
Stock issued to complete
transactions accounted for
in prior years -- -- 143,194 -- -- -- --
Stock issued for services -- -- 30,000 20,700 -- -- 20,700
Stock issued for employee
bonuses -- -- 7,000 4,970 -- -- 4,970
Compensation for non-
employee stock options
(Note 10) -- -- -- 168,288 -- -- 168,288
Employee stock options
issued as compensation
(Note 10) -- -- -- 33,840 (33,840) -- --
Amortization of unearned
compensation -- -- -- -- 12,760 -- 12,760
Warrants issued with
subordinated promissory
notes (Note 8) -- -- -- 3,338 -- -- 3,338
Dividends on preferred stock -- -- -- -- -- (84,838) (84,838)
Net loss -- -- -- -- -- (1,111,177) (1,111,177)
------------ ------------ ------------ ------------- ------------- ------------- -------------
Balance at December 31, 1999 1,285,455 $ 1,575,082 10,283,773 $ 11,915,579 $ (21,080) $(12,806,653) $ 662,928
============ ============ ============ ============= ============= ============= =============
SEE ACCOMPANYING NOTES TO FINANCIAL STATEMENTS.
</TABLE>
F - 7
<PAGE>
<TABLE>
TELENETICS CORPORATION
STATEMENTS OF CASH FLOWS
<CAPTION>
YEAR NINE MONTHS
ENDED ENDED
DECEMBER 31, DECEMBER 31,
1999 1998
------------- -------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (1,111,177) $ (249,306)
Adjustments to reconcile net loss to cash used in operations:
Depreciation and amortization 237,485 27,922
Compensation for non-employee stock options 168,288 --
Amortization of unearned compensation for employee options 12,760 --
Provision for inventory obsolescence 7,173 22,327
Stock issued for services 20,700 --
Stock issued for employee bonuses 4,970 6,615
Warrants issued in connection with debt to equity conversion 19,522 --
Reduction of subscription receivable for services 75,041 --
Changes in operating assets and liabilities, net of business
acquisitions:
Accounts receivable 499,347 (656,663)
Inventories 1,538,176 (2,368,740)
Prepaid expenses and other current assets (64,878) --
Other assets (9,601) (43,472)
Accounts payable (1,062,684) 1,630,572
Accrued expenses 151,967 86,576
Advance payments from customers (1,318,115) 1,402,549
------------- -------------
Net cash used in operating activities (831,026) (141,620)
------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property, plant and equipment (601,645) (68,102)
Payments for business acquisitions (639,054) --
Amounts collected from (advanced to) related parties (52,260) 22,613
Patent and trademark costs (47,257) --
------------- -------------
Net cash used in investing activities (1,340,216) (45,489)
------------- -------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Bank overdraft 293,477 18,010
Net increase (decrease) in obligations under
factoring agreement (289,627) (391,112)
Net proceeds from revolving line of credit 797,802 --
Repayments of convertible notes payable -- (11,317)
Proceeds from related party debt 163,000 34,500
Repayments of related party debt (40,553) (147,372)
Proceeds from subordinated promissory notes 312,500 650,000
Debt issuance costs (18,340) --
Proceeds from promissory note exchange offer 35,820 --
Repayment of obligation under capital leases (65,144) --
Proceeds from subscription receivable 224,959 --
Proceeds from exercise of stock options 25,600 25,000
Dividends on preferred stock (84,838) --
Proceeds from Series A 7% Preferred Stock offering 817,231 --
------------- -------------
Net cash provided by financing activities 2,171,887 177,709
------------- -------------
</TABLE>
F - 8
<PAGE>
<TABLE>
TELENETICS CORPORATION
STATEMENTS OF CASH FLOWS(CONTINUED)
<CAPTION>
NINE MONTHS
YEAR ENDED ENDED
DECEMBER 31, DECEMBER 31,
1999 1998
------------- -------------
<S> <C> <C>
NET INCREASE (DECREASE) IN CASH 645 (9,400)
Cash, beginning of period -- 9,400
------------- -------------
Cash, end of period $ 645 $ --
============= =============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
CASH PAID DURING THE PERIOD FOR:
Interest $ 293,123 $ 190,334
============= =============
Income taxes $ 800 $ 800
============= =============
SUPPLEMENTAL DISCLOSURES OF NON-CASH INVESTING AND
FINANCING ACTIVITIES:
Issuance of common stock upon exercise of options
in exchange for increase in receivable from related parties $ -- $ 30,000
============= =============
Issuance of common stock upon exercise of warrants in
exchange for reduction in subordinate promissory notes
and related party debt $ -- $ 220,000
============= =============
Issuance of common stock upon conversion of debt $ 100,656 $ 100,000
============= =============
Issuance of common stock for services $ -- $ 38,000
============= =============
Warrants issued in connection with issuance of subordinated
promissory notes $ 3,338 $ 104,365
============= =============
Subordinated promissory notes issued for subscription receivable $ -- $ 300,000
============= =============
Subordinated promissory notes issued upon conversion of note payable $ -- $ 179,050
============= =============
Issuance of Series A 7% Convertible Redeemable Preferred Stock upon
conversion of debt $ 224,550 $ --
============= =============
Issuance of common stock in connection with acquisition $ 190,000 $ --
============= =============
Issuance of preferred stock in connection with acquisition $ 799,106 $ --
============= =============
Property, plant and equipment acquired under capital leases $ 131,744 $ --
============= =============
SEE ACCOMPANYING NOTES TO FINANCIAL STATEMENTS.
</TABLE>
F - 9
<PAGE>
TELENETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1999 AND 1998
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION AND BUSINESS
Telenetics Corporation ("Telenetics" or the "Company") designs and
manufactures high quality wireless and landline remote monitoring products
and systems that collect data from industrial devices such as meters,
remote terminal units, traffic controllers, industrial controls, remote
sensors and data loggers. These products and systems transmit the collected
data through wireless cellular and radio frequency networks or telephone
lines to a host site, direct or via the internet. The Company also provides
proprietary wireless data-communications solutions for utility,
transportation, oil and gas and other industrial automation applications.
FISCAL YEARS
Beginning with the period ended December 31, 1998, the Company changed its
fiscal year end from March 31 to December 31. Accordingly, the accompanying
financial statements include audited financial statements for the year
ended December 31, 1999 and the nine months ended December 31, 1998.
REVENUE RECOGNITION
Revenue is recognized upon shipment, or receipt of the product by the
customer, pursuant to the terms of the respective contractual arrangement.
Cash received in advance of the delivery of products has been recorded as
advance payments from customers in the accompanying balance sheet.
RECEIVABLE FROM RELATED PARTIES
Receivable from related parties is comprised primarily of advances to an
executive officer and director of the Company. Such advances are
non-interest bearing and are payable upon demand.
INVENTORIES
Inventories are stated at the lower of cost (first-in, first-out) or market
(net realizable value).
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are stated at cost, less accumulated
depreciation and amortization. Depreciation and amortization are computed
principally using the straight-line method over the estimated useful lives
of the assets (or lease term, if shorter), which range from three to eight
years.
Maintenance and repairs are expensed as incurred while renewals and
betterments are capitalized.
F - 10
<PAGE>
TELENETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
DEBT ISSUANCE COSTS
The costs related to the issuance of the subordinated promissory notes are
capitalized and amortized over the term of the related debt.
GOODWILL
Goodwill represents the excess of the purchase price over net assets
acquired through a business combination accounted for as purchase and is
amortized on a straight line basis over its estimated useful life of five
years.
INVESTMENTS IN TECHNOLOGY AND OTHER INTANGIBLE ASSETS
Investments in technology and other intangible assets are carried at cost
less accumulated amortization which is calculated on a straight-line basis
over estimated useful lives of five years.
LONG-LIVED ASSETS
The Company reviews the carrying amount of its long-lived assets and
identifiable intangible assets for possible impairment whenever events or
changes in circumstances indicate that the carrying amount of the assets
may not be recoverable. Recoverability of assets to be held and used is
measured by a comparison of the carrying amount of an asset to future
undiscounted net cash flows expected to be generated by the asset. If such
assets are considered to be impaired, the impairment to be recognized is
measured by the amount by which the carrying amount of the assets exceeds
the fair value of the assets. Assets to be disposed of are reported at the
lower of the carrying amount or fair value less costs to sell.
PRODUCT WARRANTIES
The Company provides warranties for certain of its products for periods of
twelve to eighteen months. Estimated warranty costs are recognized at the
time of the sale.
INCOME TAXES
The Company uses the liability method of accounting for income taxes in
accordance with Statement of Financial Accounting Standards No. 109,
"Accounting for Income Taxes." Deferred income taxes are recognized based
on the differences between financial statement and income tax bases of
assets and liabilities using enacted tax rates in effect for the year in
which the differences are expected to reverse. Valuation allowances are
established, when necessary, to reduce deferred tax assets to the amount
expected to be realized. The provision for income taxes represents the tax
payable for the period and the change during the period in deferred tax
assets and liabilities.
F - 11
<PAGE>
TELENETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
STOCK-BASED COMPENSATION
The Company applies APB Opinion 25, "Accounting for Stock Issued to
Employees," and related interpretations in accounting for its employee
stock-based compensation plans. Accordingly, no compensation cost is
recognized for its employee stock option plans, unless the exercise price
of options granted is less than fair market value on the date of grant. The
Company has adopted the disclosure provisions of Statement of Financial
Accounting Standards No. 123, "Accounting for Stock-Based Compensation."
EARNINGS (LOSS) PER SHARE AND SHARES OUTSTANDING
Earnings (loss) per share is calculated pursuant to Statement of Financial
Accounting Standards No. 128, "Earnings per Share" ("SFAS 128"). Basic
earnings (loss) per share includes no dilution and is computed by dividing
income (loss) available to common shareholders by the weighted average
number of shares outstanding during the period. Diluted earnings (loss) per
share reflects the potential dilution of securities that could share in the
earnings of the Company.
The share and per share information has been adjusted for all periods
presented to reflect a one-for-five reverse stock split which occurred on
January 8, 1999.
FAIR VALUE OF FINANCIAL INSTRUMENTS
Statement of Financial Accounting Standards No. 107, "Disclosures about
Fair Value of Financial Instruments" requires all entities to disclose the
fair value of financial instruments, both assets and liabilities recognized
and not recognized on the balance sheet, for which it is practicable to
estimate fair value. This statement defines fair value of a financial
instrument as the amount at which the instrument could be exchanged in a
current transaction between willing parties. As of December 31, 1999, the
fair value of all financial instruments approximated carrying value.
The carrying amount of accounts receivable, accounts payable and accrued
expenses are reasonable estimates of their fair value because of the short
maturity of these items. The Company believes the carrying amounts of its
related party debt, subordinated promissory notes and obligation under
capital leases approximate fair value because the interest rates on these
instruments approximate market interest rates currently available to the
Company.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those
estimates.
F - 12
<PAGE>
TELENETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
CONCENTRATION OF CREDIT RISK
Financial instruments, which potentially expose the Company to
concentration of credit risk, consist primarily of cash and accounts
receivable. The Company places its cash with high quality financial
institutions. At times, cash balances may be in excess of the amounts
insured by the Federal Deposit Insurance Corporation.
The Company extends credit to its customers based upon an evaluation of the
customer's financial condition and credit history and generally does not
require collateral. Credit losses are provided for in the financial
statements and consistently have been within management's expectations.
RECLASSIFICATIONS
Certain reclassifications have been made to the prior year financial
statements to be consistent with the 1999 presentation.
2. ASSET PURCHASE AGREEMENTS
On April 5, 1999, the Company entered into an agreement with Greenland
Corporation to purchase its AirLink(TM) wireless technology and related
intellectual property rights, as well as assume certain contracts in
exchange for 128,571 shares of the Company's Series B Convertible Preferred
Stock (Note 10). The 128,571 shares of Series B Convertible Preferred Stock
were valued at $249,106 based on the market value of the underlying common
stock on the acquisition date. The total consideration, including certain
transaction costs, aggregated $262,677 and is included in investments in
technology and other intangible assets in the accompanying balance sheet.
The value of this intangible asset is being amortized on a straight-line
basis over the estimated useful life of five years.
Effective June 1, 1999, the Company acquired substantially all of the
assets of Sunnyvale General Devices and Instruments, Inc. ("GDI") used in
GDI's business of manufacturing communications equipment for the traffic
control and transportation industries and assumed certain liabilities of
GDI in exchange for $350,000 in cash and 400,000 shares of the Company's
Series C 7.0% Convertible Preferred Stock. The acquisition has been
accounted for using the purchase method of accounting, and accordingly, the
results of operations of GDI since the acquisition date are included in the
Company's 1999 statement of operations. The 400,000 shares of Series C
Convertible Preferred Stock were valued at $550,000 based on the market
value of the underlying common stock on the acquisition date. The cost in
excess of the net assets acquired was $437,838 and has been presented as
goodwill in the accompanying balance sheet. Goodwill is being amortized on
a straight-line basis over the estimated useful life of five years
F - 13
<PAGE>
TELENETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
2. ASSET PURCHASE AGREEMENTS (CONTINUED)
Effective July 26, 1999, the Company entered into an agreement with Sierra
Digital Communications, Inc. ("SDC") and certain of its shareholders, who
also comprised SDC's senior secured lender and holders of priority wage
claims against SDC. Pursuant to the agreement, the Company acquired the
claims of the secured lender and holders of priority wage claims in
exchange for $110,000 in cash and an aggregate of 110,594 shares of common
stock that are subject to certain registration rights. Through those
creditor rights, the Company acquired SDC's millimeter wave radio
technology as well as certain other assets. No consideration was given for
the rights of shareholders of SDC. In connection therewith, the Company
acquired substantially all of the claims of unsecured creditors against SDC
at substantial discounts. The 110,594 shares of common stock were valued at
$190,000 based on the market value of the common stock on the acquisition
date. The acquisition has been accounted for using the purchase method of
accounting with the net assets acquired recorded at their fair values. The
cost in excess of the net assets acquired was $262,193 and represents the
value of the technology acquired. Such amount is included in investments in
technology and other intangible assets in the accompanying balance sheet
and is being amortized on a straight-line basis over the estimated useful
life of five years.
Subsequent to December 31, 1999, all shares of preferred stock issued
pursuant to the 1999 asset purchase agreements were converted to common
stock (see Note 15).
The pro forma effect of these asset purchases for the year ended December
31, 1999 and the nine months ended December 31, 1998 would not be
materially different than the amounts reported in the accompanying
statements of operations.
3. INVENTORIES
Inventories consist of the following:
December 31,
1999
------------
Raw materials $ 918,000
Work-in-process 694,394
Finished goods 293,845
------------
$ 1,906,239
============
F - 14
<PAGE>
TELENETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
4. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consist of the following:
December 31,
1999
------------
Furniture and fixtures $ 126,673
Equipment 312,778
Leasehold improvements 410,650
Assets held under capital lease obligations 164,389
------------
1,014,490
Accumulated depreciation and amortization (252,827)
------------
$ 761,663
============
Included in accumulated depreciation and amortization is $30,053 of
amortization related to assets held under capital lease obligations.
5. OBLIGATIONS UNDER FACTORING AGREEMENT
In November 1997, the Company entered into a factoring agreement with a
finance company to sell certain accounts receivable due to the Company from
its customers. The finance company had a security interest in substantially
all of the Company's assets. Advances were subject to a 15% per annum
service fee and a 2.5% administrative fee on all accounts receivable
purchased by the factor during the term of the agreement. Factoring costs
which aggregated approximately $56,000 for the year ended December 31, 1999
and $178,000 for the nine months ended December 31, 1998 are included in
interest expense in the accompanying statements of operations.
In February 1999, the Company terminated the factoring agreement with the
finance company and incurred $67,000 in costs relating to the termination
of the agreement and the settlement of a related debt issuance obligation.
Such amount is included in debt termination costs in the accompanying 1999
statement of operations.
6. REVOLVING LINE OF CREDIT
On April 2, 1999, the Company entered into a revolving line of credit
agreement for borrowings of up to $3,000,000, which is collateralized by
substantially all assets of the Company. Borrowings under this revolving
line of credit are based on 80% of eligible accounts receivable. Interest
is payable monthly at the greater of the bank's prime rate plus 3% (11.5%
at December 31, 1999) or 10.75%, with all unpaid principal and accrued
interest due October 2, 2000. Borrowings under the revolving line of credit
were $797,802 at December 31, 1999.
F - 15
<PAGE>
TELENETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
7. RELATED PARTY DEBT
A summary of related party debt follows:
December 31,
1999
------------
Payable to SMC $ 350,000
Payable to Frank Ribelin 88,762
------------
438,762
Current portion (312,500)
------------
$ 126,262
============
SMC AND SMC COMMUNICATIONS GROUP, INC.
Since 1992, Shala Shashani (dba SMC) and SMC Communications Group, Inc.
(which is owned and operated by Shala Shashani, a director of the
Company)(collectively, "SMC") have advanced funds to the Company to
purchase common stock and have provided various products, services and
facilities for the Company .
In October 1998, the outstanding balance due to SMC was reduced by $150,000
in connection with the exercise of a warrant for 300,000 shares of common
stock. In addition, $125,000 of the outstanding SMC loan balance was
converted into a subordinated promissory note with an attached warrant to
purchase shares of common stock. The warrant was exercised immediately by
converting $50,000 of the subordinated promissory note to common stock (see
Note 8). The balance remaining at December 31, 1998 of $250,000 was
incorporated into a note, which as amended, bears interest at 10% with
principal and interest due February 28, 2001.
In October 1999, SMC advanced an additional $100,000 to the Company which
is payable upon demand and bears interest at 10%.
Loans and obligations from SMC are secured by the receivables, inventories
and other assets of the Company pursuant to a security agreement. During
the year ended December 31, 1999 and the nine months ended December 31,
1998, the Company incurred interest of $26,376 and $26,205, respectively,
on the loans and obligations from SMC.
FRANK RIBELIN
In connection with the acquisition of GDI (Note 2), the Company hired the
former president of GDI as an executive officer of the Company. In addition
to the $25,762 obligation due to Mr. Ribelin as of the acquisition date,
the Company received an additional $63,000 advance from Mr. Ribelin during
November 1999. In January 2000, $62,500 of the obligation due was converted
to subordinated promissory notes (see Note 8). Accordingly, such converted
amount has been presented as a non-current liability in the accompanying
balance sheet.
F - 16
<PAGE>
TELENETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
7. RELATED PARTY DEBT (CONTINUED)
ESTATE OF FRANK CURZIO
During the year ended March 31, 1998, the Company and the estate of Frank
Curzio, a past director, stipulated to a judgement to settle various
disputes and legal proceedings relating to amounts owed to Mr. Curzio and
Fredco Productions, Inc. The judgement provided for the payment of an
aggregate sum of $175,000 payable in various installments through May 1999.
As of December 31,1999, all amounts owed had been paid.
8. SUBORDINATED UNSECURED PROMISSORY NOTES
During the fourth quarter of 1999, the Company issued $312,500 of
Subordinated Unsecured Promissory Notes due 2001, including notes
aggregating $50,000 which have been issued to an executive officer of the
Company. The Company closed the private placement in January 2000 after
issuing additional promissory notes totaling $937,500, including notes
aggregating $50,000 which were issued to an executive officer of the
Company (Note 15). The notes bear interest at 10% per annum and such
interest is payable on a quarterly basis. All unpaid principal and accrued
interest is due at maturity on May 15, 2001. Included with the sale of such
notes were warrants to purchase one share of the Company's common stock for
each dollar amount of the notes purchased. The warrants are exercisable at
$1.75 per share, expire on November 15, 2002 and are callable by the
Company upon the occurrence of certain events (see Note 10). The Company
has ascribed an estimated fair value to the warrants issued as of December
31, 1999 aggregating $3,338 ($13,351 for the total offering) and
accordingly has discounted the subordinated unsecured promissory notes
balance as of the date of issuance. Such discount is recognized as
additional interest expense over the life of the notes.
In February 2000, the warrants issued in connection with this offering
were, pursuant to their terms, called by the Company and were all exercised
(see Note 15).
During the nine months ended December 31, 1998, the Company issued
$1,129,050 of Subordinated Unsecured Promissory Notes due 2000, including
notes aggregating $314,500 which have been issued to certain executive
officers and directors of the Company. The notes bear interest at 10% per
annum and such interest is payable on a quarterly basis. All unpaid
principal and accrued interest is due at maturity on September 30, 2000.
Included with the sale of such notes were a total of 451,620 warrants to
purchase the Company's common stock, exercisable at $1 per share and
expiring September 30, 2000 (see Note 10). The Company has ascribed an
estimated fair value to these warrants aggregating $104,365 and accordingly
has discounted the subordinated unsecured promissory notes balance as of
the date of issuance. Such discount is recognized as additional interest
expense over the life of the notes.
F - 17
<PAGE>
TELENETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
8. SUBORDINATED UNSECURED PROMISSORY NOTES (CONTINUED)
As of December 31, 1998, the Company had a subscription receivable from a
consultant aggregating $300,000 relating to the issuance of the
subordinated promissory notes of which $224,959 was received in cash and
the remainder was applied against services rendered during 1999.
During the nine months ended December 31, 1998, the holders of certain
subordinated promissory notes exercised their warrants to purchase 70,000
shares of common stock by exchanging subordinated promissory notes with an
aggregate principal amount of $70,000 (see Note 10).
The subordinated promissory notes include certain non-financial covenants
and also restrict the Company's ability to declare and pay dividends and
redeem or repurchase any of its common stock. The Company was in compliance
with all covenants at December 31, 1999.
EXCHANGE OFFER
Between May 25 and August 11, 1999, the Company conducted an exchange
offering ("Exchange Offering") involving holders of the Company's
Subordinated Unsecured Promissory Notes due 2000 ("Notes") and related
warrants ("Note Warrants"). The Exchange Offering gave each holder who was
an accredited investor the opportunity to (i) exercise such holder's Note
Warrant in full by applying a portion of the principal amount of the Note
toward ("Exercise Adjustment") and/or paying in cash the exercise price and
(ii) exchange the holder's Note for shares of the Company's Series A 7.0%
Convertible Redeemable Preferred Stock (Note 10) at an exchange rate of one
share of Series A 7.0% Convertible Redeemable Preferred Stock for each
$1.75 principal amount of a Note following any Exercise Adjustment. In
addition, each participating holder was issued one common stock purchase
warrant ("Exchange Warrant") to purchase 7,500 shares of the Company's
Common Stock at $1.875 per share, subject to adjustment, for each $25,000
in principal amount of a holder's Note prior to any Exercise Adjustment.
The Exchange Warrants will expire on April 15, 2002. The Company has
ascribed an estimated fair value to these warrants aggregating $19,522,
which has been expensed in connection with the exchange offer. As a result
of the Exchange Offering, an aggregate of $314,550 of Notes, 125,820 Note
Warrants and $35,820 in cash were exchanged for 128,313 shares of Series A
7.0% Convertible Redeemable Preferred Stock, 125,820 shares of Common Stock
and 94,365 Exchange Warrants.
F - 18
<PAGE>
TELENETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
9. CONVERTIBLE NOTES PAYABLE
As of March 31, 1998, the Company had outstanding two convertible notes
aggregating $156,051 which bore interest at 7% per annum and were due and
payable six months from the date of issuance. During the nine months ended
December 31, 1998, one note for $100,000 was converted into 80,000 shares
of common stock and the second note was converted into a subordinated
promissory note with an attached warrant to purchase shares of common stock
(see Note 8).
10. SHAREHOLDERS' EQUITY
PREFERRED STOCK
The Company has authorized 5,000,000 shares of preferred stock, of which
756,884 shares are designated as Series A 7% Convertible Redeemable
Preferred Stock ("Series A Preferred Stock"), 128,571 shares are designated
as Series B Convertible Preferred Stock ("Series B Preferred Stock"), and
400,000 shares are designated as Series C 7% Convertible Preferred Stock
("Series C Preferred Stock").
The Series A Preferred Stock has a liquidation preference of $1.75 per
share and each share is initially convertible into one share of common
stock, subject to certain adjustments and automatically convertible on the
occurrence of certain events. The holders of Series A Preferred Stock are
entitled to receive cumulative dividends at a rate of $0.1225 per share per
year, payable quarterly, which dividends are subject to certain increases.
The Company can redeem all of the outstanding shares of Series A Preferred
Stock at a price of $2 per share plus all accrued and unpaid dividends at
any time three years after issuance.
The Series B Preferred Stock has a liquidation preference of $7 per share,
which is subordinated to the liquidation preference of the Company's Series
A Preferred Stock and on a parity with the liquidation preference of the
Company's Series C Preferred Stock. The holders of Series B Preferred Stock
are not entitled to any dividends. Each share of the Series B Preferred
Stock is initially convertible into one share of common stock, subject to
certain adjustments and automatically convertible on the occurrence of
certain events.
The Series C Preferred Stock has a liquidation preference of $1.50 per
share, which is subordinated to the liquidation preference of the Company's
Series A Preferred Stock and on a parity with the liquidation preference of
the Company's Series B Preferred Stock. Each share of Series C Preferred
Stock is initially convertible into one share of common stock, subject to
certain adjustments, voluntarily beginning on June 1, 2002 or automatically
upon the occurrence of certain events. The holders of Series C Preferred
Stock are entitled to receive cumulative dividends at a rate of $0.105 per
share per year, payable quarterly.
F - 19
<PAGE>
TELENETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
10. SHAREHOLDERS' EQUITY (CONTINUED)
Subsequent to December 31, 1999, all shares of preferred stock were
converted into common stock (see Note 15).
DIVIDENDS
During the year ended December 31, 1999, the Company incurred and paid
dividends aggregating $84,838 due on shares of Series A Preferred Stock and
Series C Preferred Stock.
PRIVATE EQUITY OFFERING
In April 1999, the Company sold an aggregate of 628,571 shares of Series A
Preferred Stock at $1.75 per share and five-year warrants to purchase up to
628,571 shares of common stock at an exercise price of $1.875 per share,
subject to certain adjustments, in a private equity offering. In connection
with the offering, the Company also issued five-year warrants to purchase
up to 62,857 shares of common stock at an exercise price of $2.10 per share
to the placement agent. The Company has ascribed an estimated fair value to
the warrants issued in connection with this offering in the aggregate
amount of $265,805 and accordingly has discounted the Series A Preferred
Stock balance as of the date of issuance. The cash proceeds of this
offering, net of commissions and offering costs, were $817,231.
STOCK OPTIONS AND WARRANTS
In August 1998, the Company's Board of Directors adopted the 1998 Stock
Option Plan (the "Plan"). The Plan is administered by a committee appointed
by the Board of Directors (the "Committee") which determines the recipients
and the terms of the options granted. The Plan provides that options
granted may be either incentive stock options or non-qualified options.
Options may be granted to eligible employees, directors and consultants to
purchase shares of the Company's common stock at a price generally not less
than 100% of the fair market value of the common stock on the date of grant
for incentive stock options and not less than 85% for non-qualified stock
options. The Plan provides for the granting of options for up to 1,000,000
shares of the Company's common stock. Subject to termination of employment,
options may expire up to ten years from the date of grant.
The Company accounts for stock-based compensation for employees under the
"intrinsic value" method. Under this method, no compensation expense is
recorded for these plans and arrangements for current employees whose
grants provide for exercise prices at or above the market price on the date
of grant. Compensation expense for employees is recorded based on intrinsic
value (excess of market price over exercise price on measurement date)
which is accounted for as unearned compensation and is reflected as a
separate component of shareholders' equity until earned. Unearned employee
compensation is amortized to expense over the vesting period and the
expense recognized amounted to $12,760 during 1999.
F - 20
<PAGE>
TELENETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
10. SHAREHOLDERS' EQUITY (CONTINUED)
The Company accounts for stock-based compensation for non-employees using
the fair value of the option award on the measurement date. Compensation
for non-employee stock options are recorded in the period earned. The fair
value of non-employee stock options granted in 1999 totaled $289,279, of
which $168,288 was earned and recorded during 1999.
A summary of stock option activity is as follows:
<TABLE>
<CAPTION>
WEIGHTED
AVERAGE
NUMBER OF PRICE PER AGGREGATE EXERCISE
SHARES SHARE PRICE PRICE
--------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Balance, March 31, 1998 600,000 $ 0.05 $ 30,000 $ .05
Options granted 860,000 0.25 - 1.25 759,800 .88
Options exercised (700,000) 0.05 - 0.25 (55,000) .08
--------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1998 760,000 1.06 - 1.25 734,800 .97
Options granted 2,195,000 0.01 - 5.50 4,860,000 2.21
Options exercised (160,000) 0.01 - 0.25 (25,600) .16
Options forfeited/cancelled (364,000) 0.25 - 2.50 (627,400) 1.72
--------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1999 2,431,000 $0.71 - 5.50 $ 4,941,800 $ 2.03
==========================================================================================================================
</TABLE>
The following table summarizes information with respect to stock options
outstanding at December 31, 1999:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
----------------------------------------------- ---------------------------------
WEIGHTED
NUMBER AVERAGE WEIGHTED NUMBER WEIGHTED
RANGE OF OUTSTANDING AT REMAINING AVERAGE EXERCISABLE AT AVERAGE
EXERCISE DECEMBER 31, CONTRACTUAL EXERCISE DECEMBER 31, EXERCISE
PRICES 1999 LIFE (YEARS) PRICE 1999 PRICE
---------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$ .71 to .75 140,000 5.6 $ .74 140,000 $ .74
1.05 to 1.90 1,741,000 7.5 1.42 787,000 1.52
2.18 100,000 9.2 2.18 20,000 2.18
4.00 200,000 9.4 4.00 -- --
5.00 to 5.50 250,000 9.5 5.40 50,000 5.00
---------------------------------------------------------------------------------------------------------------
$ .71 to 5.50 2,431,000 7.8 $ 2.03 997,000 $ 1.60
===============================================================================================================
</TABLE>
F - 21
<PAGE>
TELENETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
10. SHAREHOLDERS' EQUITY (CONTINUED)
If the Company had elected the fair value method of accounting for
stock-based compensation, compensation cost would be accrued at the
estimated fair value of all stock option grants over the service period,
regardless of later changes in stock prices and price volatility. The fair
value at date of grant for options granted during the year ended December
31, 1999 and the nine months ended December 31, 1998 has been estimated
based on a modified Black-Scholes valuation model with the following
assumptions: no dividend yield; expected volatility of 41% to 54% in 1999
and 50% in 1998, based on historical results; risk-free interest rates of
5.7% in 1999 and 4.9% in 1998; and average expected lives of 2.8 years in
1999 and five years in 1998.
The weighted average fair value of the options granted during the periods
was $.40 per share in 1999 and $.62 per share in 1998.
The following table sets forth the net loss and loss per share amounts for
the periods presented as if the Company had elected the fair value method
of accounting for stock options.
NINE MONTHS
YEAR ENDED ENDED
DECEMBER 31, DECEMBER 31,
1999 1998
------------- -------------
NET LOSS
As reported $ (1,111,177) $ (249,306)
============= =============
Pro forma $ (1,216,984) $ (276,388)
============= =============
BASIC AND DILUTED LOSS PER SHARE
As reported $ (.12) $ (.03)
============= =============
Pro forma $ (.13) $ (.03)
============= =============
The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options which have no vesting
restrictions and are fully transferable. In addition, option valuation
models require the input of highly subjective assumptions including the
expected stock price volatility. Because the Company's stock options have
characteristics significantly different from those of traded options, and
because changes in the subjective input assumptions can materially affect
the fair value estimate, in management's opinion, the existing models do
not necessarily provide a reliable single measure of the fair value of its
stock options.
Additional incremental compensation expense includes the excess of fair
values of options granted during the period over any compensation amounts
recorded for options whose exercise prices were less than the market value
at date of grant, and for any expense recorded for non-employee grants.
F - 22
<PAGE>
TELENETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
10. SHAREHOLDERS' EQUITY (CONTINUED)
All such incremental compensation is amortized over the related vesting
period, or expensed immediately if fully vested. The above calculations
include the effects of all grants in the periods presented. Because options
often vest over several years and additional awards are made each year, the
results shown above may not be representative of the effects on net income
(loss) in future years.
A summary of the activity of common stock purchase warrants is as follows:
<TABLE>
<CAPTION>
WARRANT PRICE
NUMBER OF -------------------------------------
SHARES PER SHARE TOTAL
<S> <C> <C> <C>
Balance outstanding, March 31, 1998 500,000 $ .25 - .50 $ 200,000
Warrants issued 451,620 1.00 451,620
Warrants exercised (370,000) .50 - 1.00 (220,000)
-------------- -------------- --------------
Balance outstanding, December 31, 1998 581,620 .25 - 1.00 431,620
Warrants issued 1,098,293 1.75 - 2.10 2,034,380
Warrants exercised (325,820) .25 - 1.00 (175,820)
-------------- -------------- --------------
Balance outstanding, December 31, 1999 1,354,093 $ 1.00 - 2.10 $ 2,290,180
============== ============== ==============
</TABLE>
Included in the warrants exercised during 1999 are 20,000 warrants which
were surrendered in full settlement of the amount due upon exercise of
200,000 warrants. In connection with this transaction, the Company issued
180,000 shares of common stock.
At December 31, 1999, the Company has reserved 5,070,548 shares for
issuance upon the exercise of outstanding stock options and warrants and
conversion of convertible preferred stock.
EMPLOYEE STOCK PURCHASE PLAN
In July 1999, the Company's Board of Directors adopted the 1999 Employee
Stock Purchase Plan, subject to shareholder approval. Eligible employees
may authorize payroll deductions of up to 10% of their salary to purchase
shares of the Company's common stock at 85% of the fair market value of
common stock on the first or last day of the applicable purchase period.
The Company has reserved 600,000 shares of common stock for issuance under
this plan. No shares were issued during 1999.
RESTRICTIONS ON DIVIDENDS
Pursuant to state law, the Company may be restricted from paying dividends
to its holders of common stock as a result of its accumulated deficit as of
December 31, 1999.
F - 23
<PAGE>
TELENETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
11. INCOME TAXES
The provision for income taxes for the year ended December 31, 1999 and
nine months ended December 31, 1998 is comprised of the minimum current
state income tax. Differences between the statutory and effective tax rates
are primarily due to valuation allowances recorded to offset deferred tax
benefits associated with net operating losses.
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial
reporting purposes and amounts used for income tax purposes. Components of
the Company's deferred tax assets and liabilities are comprised primarily
of the future tax benefit of the Company's net operating loss carryforwards
of approximately $1,100,000 at December 31, 1999. Such deferred tax asset
is offset by a valuation allowance equal to the total net deferred tax
asset balance.
As of December 31, 1999, the Company has a federal net operating loss
carryforward of approximately $3,000,000 which expires at various dates
between 2007 and 2019 and a state net operating loss carryforward of
approximately $900,000 which expires at various dates between 2000 and
2004.
The utilization of the net operating loss carryforwards could be limited
due to restrictions imposed under federal and state laws upon a change in
ownership. The amount of the limitation, if any, has not been determined at
this time. A valuation allowance is provided when it is more likely than
not that some portion or all of the deferred tax assets will not be
realized. As a result of the Company's continued losses and uncertainties
surrounding the realization of the net operating loss carryforwards,
management has determined that the realization of deferred tax assets is
not more likely than not. Accordingly, a valuation allowance equal to the
net deferred tax asset amount has been recorded as of December 31, 1999.
F - 24
<PAGE>
TELENETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
12. LOSS PER SHARE
The following table illustrates the computation of basic and diluted loss
per share:
YEAR NINE MONTHS
ENDED ENDED
DECEMBER 31, DECEMBER 31,
1999 1998
------------- -------------
NUMERATOR:
Net loss $ (1,111,177) $ (249,306)
Less: preferred stock dividends 84,838 --
------------- -------------
Loss applicable to common shareholders $ (1,196,015) $ (249,306)
============= =============
DENOMINATOR:
Weighted average number of common shares
outstanding during the period 10,048,264 8,792,088
------------- -------------
Basic and diluted loss per share $ (.12) $ (.03)
============= =============
The computation of diluted loss per share excludes the effect of
incremental common shares attributable to the exercise of outstanding
common stock options and warrants and the potential conversion of preferred
stock because their effect was antidilutive due to losses incurred by the
Company during the periods presented. See summary of outstanding stock
options and warrants and discussion of convertible preferred stock in Note
10.
13. COMMITMENTS AND CONTINGENCIES
LEASES
During 1999, the Company entered into an agreement with an unrelated party
to lease a new corporate and manufacturing facility. The lease has an
initial term of five years and one five-year option to extend. The lease
also provides for certain options for the Company to purchase the building.
The Company previously leased its facilities from SMC, an entity owned and
controlled by a director of the Company through August 1999. The annual
rental was $54,000 and was increased to $78,000 on August 1, 1998.
The Company has acquired certain furniture, fixtures and equipment under
capital leases which are payable in various scheduled monthly installments
through August 2002.
F - 25
<PAGE>
TELENETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
13. COMMITMENTS AND CONTINGENCIES (CONTINUED)
Future minimum lease payments are as follows:
OPERATING CAPITAL
YEAR ENDING DECEMBER 31, LEASES LEASES
------------------------------- ------------- -------------
2000 $ 313,108 $ 38,949
2001 304,033 29,335
2002 309,456 28,864
2003 316,923 --
2004 188,069 --
------------- -------------
Total minimum lease payments $ 1,431,589 97,148
=============
Amount representing interest
at approximately 10% (9,814)
-------------
Present value of future minimum
capital lease obligations 87,334
Current portion (29,072)
-------------
$ 58,262
=============
Total rent expense for the year ended December 31, 1999 and for the nine
months ended December 31, 1998 was $196,900 and $50,500, respectively.
ROYALTIES UNDER STRATEGIC AGREEMENT
In July 1998, the Company entered into a ten-year Marketing and Technology
Agreement ("Strategic Agreement") with Duquesne Light Company ("Duquesne").
The Strategic Agreement has the following objectives: (i) to jointly pursue
the deployment of new technology developed by the Company; (ii) to validate
the Company's new technology developments; and (iii) to take mutual
advantage of the resulting technology advancements through joint efforts to
market the Company's products.
The Strategic Agreement provides, among other things, that Duquesne will
consider the Company as its primary supplier of products for automated
meter reading, substation automation and similar uses and Duquesne, along
with the Company, will promote these products to other utility companies
throughout the United States and abroad.
F - 26
<PAGE>
TELENETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
13. COMMITMENTS AND CONTINGENCIES (CONTINUED)
Pursuant to the Strategic Agreement, the Company is obligated to pay
certain royalties to Duquesne in connection with sales generated through
Duquesne's effort. Royalties earned in 1999 were approximately $42,000. No
royalties were earned through December 31, 1998.
EMPLOYMENT AGREEMENTS
The Company has employment agreements with certain officers which provide
for specified base salaries plus incentive compensation and other benefits.
LITIGATION
The Company is subject to certain legal proceedings, claims and litigation
arising in the ordinary course of business. While the amounts claimed may
be substantial, the ultimate liability cannot presently be determined
because of considerable uncertainties that exit. Therefore, it is possible
the outcome of such legal proceedings, claims and litigation could have a
material effect on quarterly or annual operating results or cash flows when
resolved in a future period. However, based on facts currently available,
management believes such matters will not have a material adverse effect on
the Company's financial position, results of operations or cash flows.
On August 18, 1999, Drake & Drummond, a Nevada corporation, initiated an
action in the Orange County Superior Court, Central (Case No. 813430)
against the Company alleging, among other things, breach of contract,
common count and declaratory relief arising out of a consulting agreement
entered into between Drake & Drummond and the Company. The complaint seeks
damages as follows: (i) cash in the amount of $535,000, plus interest, and
(ii) judicial order directing the Company to sell to Drake & Drummond
950,000 shares of common stock for $.01 per share. On October 8, 1999, the
Company filed an answer to the complaint and filed a cross-complaint
against Drake & Drummond alleging, among other things, breach of contract,
rescission based upon fraud, and declaratory relief arising out of the same
consulting agreement. The cross-complaint seeks: (i) damages according to
proof at trial, (ii) rescission of the consulting agreement and restitution
of all consideration received by Drake & Drummond, and (iii) a judicial
declaration of the rights and liabilities of the parties. The litigation is
in its initial stage, and discovery has only recently commenced. The
Company intends to vigorously defend this action and pursue the
cross-complaint against Drake & Drummond.
F - 27
<PAGE>
TELENETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
13. COMMITMENTS AND CONTINGENCIES (CONTINUED)
On October 18, 1999, the Company initiated an action in the Orange County
Superior Court, Central (Case No. 815922) by filing a complaint against
Bibicoff & Associates and Harvey A. Bibicoff, its primary shareholder and
chief executive officer, alleging, among other things, breach of contract,
rescission based upon fraud, breach of fiduciary duty and declaratory
relief arising out of a consulting agreement entered into between
defendants and the Company. The complaint seeks damages according to proof
at trial, rescission of the consulting agreement and restitution of all
consideration received by defendants and a judicial declaration of the
rights and liabilities of the parties. On December 6, 1999, defendants
filed an answer to the complaint denying all material allegations contained
therein. Defendants, together with five of the Company's subordinated
promissory note holders and stockholders affiliated with defendants,
concurrently filed a cross-complaint against the Company and Michael
Armani, who is director and the President and Chief Executive Officer of
the Company, for damages and rescission based upon alleged
misrepresentations, false promises, and non-disclosures by the Company and
Mr. Armani in connection with the cross-complainants' purchase of their
interests in the Company. The cross-complaint also contains breach of
contract claims arising out of the consulting agreement between the Company
and certain of the defendants and purported oral contracts between the
Company and certain of the cross-complainants. The Company and Mr. Armani
filed an answer to the cross-complaint denying all material allegations
contained therein. The litigation is in its initial stages and discovery
has only recently commenced. The Company intends to vigorously defend the
cross-complaint action.
On January 28, 2000 Aeris Communications, Inc., a California corporation,
initiated an action in the United States District Court for the Northern
District of California (Case No. C00-00328) against the Company alleging,
among other things, patent infringement of two U.S. patents held by Aeris
Communications. The alleged patent infringement relates to certain
technology the Company acquired in connection with the acquisition of eflex
Wireless, Inc. (Note 15). The litigation is in its initial stages.
Management believes that the allegations in the complaint are without merit
and intends to vigorously defend this action.
14. MAJOR CUSTOMER AND SUPPLIER INFORMATION
The Company had sales to one customer which accounted for approximately 51%
of net sales for the year ended December 31, 1999. The accounts receivable
balance from this customer aggregated approximately 12% of total accounts
receivable at December 31, 1999. In addition, one supplier accounted for
approximately 36% of purchases for the year ended December 31, 1999.
The Company had sales to two customers which accounted for approximately
32% and 17%, respectively, of net sales for the nine months ended December
31, 1998. In addition, one supplier accounted for approximately 42% of
purchases for the nine months ended December 31, 1998.
F - 28
<PAGE>
TELENETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
15. SUBSEQUENT EVENTS
ACQUISITION OF EFLEX WIRELESS, INC.
On January 7, 2000, the Company issued 750,000 shares of common stock, with
a fair market value of $2,070,000, in exchange for all the outstanding
common stock of eflex Wireless, Inc. ("Eflex"). The agreement includes a
provision for the issuance up to an additional 6,000,558 shares of common
stock, contingent upon the successful implementation of the technology
acquired and installation of a specified number units ending on the earlier
of December 31, 2004 or the date upon which all shares of additional common
stock have become issuable. In connection with the acquisition, the Company
entered into certain employment and consulting agreements for periods up to
five years with the principals of Eflex which include the granting of
1,150,000 options at $1.75 per share which is at a discount to market.
CONVERSION OF PREFERRED STOCK
All shares of each class of preferred stock were converted to common stock
subsequent to December 31, 1999, pursuant to formula provisions for an
automatic compulsory conversion based on the public trading price of the
Company's common stock. These provisions were met in January 2000 for the
Series A Preferred Stock, in February 2000 for the Series B Preferred Stock
and in March 2000 for the Series C Preferred Stock. In connection with the
conversion of preferred stock, the Company issued an aggregate of 1,285,455
shares of common stock.
SUBORDINATED PROMISSORY NOTE OFFERING AND EXERCISE OF WARRANTS
In January 2000, the Company completed its offering of $1,250,000 of
Subordinated Unsecured Promissory Notes due 2001 (Note 8). In February
2000, conditions enabling the Company to call the warrants issued in
connection with this offering were met. All of the warrants were exercised
for cash in the amount of $1,590,625, reduction in the subordinated
promissory notes of $512,500, and subscriptions receivable of $84,375.
After the exercise of warrants the aggregate amount of notes remaining
outstanding amounted to $737,500.
PRIVATE EQUITY OFFERING
On March 24, 2000, the Company commenced a private equity offering of up to
500,000 shares of common stock at a price of $5.00, $6.00 or $7.00 per
share depending on the date the subscriptions are received through the
closing date on April 21, 2000. The proceeds are to be used for working
capital and other corporate purposes. As of April 13, 2000, the Company
had received subscriptions for 40,000 shares of common stock with gross
proceeds aggregating $200,000.
F - 29
<PAGE>
EXHIBIT INDEX
Exhibit No. Description
- ----------- -----------
21.1 Subsidiaries of the Registrant
23.1 Consent of Independent Certified Public Accountants
27.1 Financial Data Schedule
SUBSIDIARIES OF TELENETICS CORPORATION
eflex Wireless, Inc., a Delaware corporation, is the only subsidiary
of Telenetics Corporation. eflex Wireless, Inc. does not conduct business
under any fictitious business names.
CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
The Board of Directors
Telenetics Corporation
We hereby consent to the incorporation by reference in the Registration
Statement (No. 333-95643) on Form S-3, Registration Statement (No. 333-84125)
on Form S-3 and Registration Statement (No. 333-85027) on Form S-8 of our report
dated March 9, 2000, except as to the last paragraph of Note 15, which is as of
April 13, 2000, relating to the financial statements of Telenetics Corporation
appearing in the Company's Annual Report on Form 10-KSB for the year ended
December 31, 1999.
/s/ BDO SEIDMAN, LLP
BDO SEIDMAN, LLP
Orange County, California
April 13, 2000
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> DEC-31-1999
<CASH> 645
<SECURITIES> 0
<RECEIVABLES> 1,616,026
<ALLOWANCES> 40,395
<INVENTORY> 1,906,239
<CURRENT-ASSETS> 3,752,576
<PP&E> 1,014,490
<DEPRECIATION> 252,827
<TOTAL-ASSETS> 5,528,166
<CURRENT-LIABILITIES> 4,184,850
<BONDS> 0
0
1,575,082
<COMMON> 11,915,579
<OTHER-SE> (12,827,733)
<TOTAL-LIABILITY-AND-EQUITY> 5,528,166
<SALES> 11,912,168
<TOTAL-REVENUES> 11,912,168
<CGS> 8,138,558
<TOTAL-COSTS> 8,138,558
<OTHER-EXPENSES> 4,505,666
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 283,063
<INCOME-PRETAX> (1,110,348)
<INCOME-TAX> 829
<INCOME-CONTINUING> (1,111,177)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (1,111,177)
<EPS-BASIC> (.12)
<EPS-DILUTED> (.12)
</TABLE>
