UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended December 31, 1996
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 0-15596
SPECTRUM INFORMATION TECHNOLOGIES, INC.
(Exact name of registrant as specified in its charter)
Delaware 75-1940923
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
2700 Westchester Avenue, Purchase, New York 10577
(Address of principal executive offices) (Zip Code)
(914) 251-1800
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 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
------ ------
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the close of the latest
practicable date.
Common stock, $.001 par value, 76,675,448 outstanding at January
31, 1997.
<PAGE>
SPECTRUM INFORMATION TECHNOLOGIES, INC. AND SUBSIDIARIES
(Debtors in Possession)
FORM 10-Q
DECEMBER 31, 1996
INDEX
PART I. FINANCIAL INFORMATION Page No.
Item 1. Financial Statements
Consolidated Balance Sheets 1
Consolidated Statements of Operations 3
Consolidated Statements of Cash Flows 4
Notes to Consolidated Financial Statements 5
Item 2. Management's Discussion and
Analysis of Financial Condition
and Results of Operations 11
PART II. OTHER INFORMATION 18
<PAGE>
Spectrum Information Technologies, Inc. and Subsidiaries
(Debtors in Possession)
Consolidated Balance Sheets
(Amounts in thousands)
December 31, March 31,
Assets 1996 1996
- ---------------------------------------------------------------------
(Unaudited)
Current assets:
Cash and cash equivalents $ 5,051 $13,002
Marketable securities 4,843 873
Accounts receivable (net of
allowance for doubtful
accounts of $80) 344 1,437
Prepaid expenses and other
current assets 424 229
-------- --------
Total current assets 10,662 15,541
-------- --------
Furniture, fixtures and
equipment, net 222 204
-------- --------
Intangible assets, net 340 360
-------- --------
Total assets $11,224 $16,105
======== ========
See accompanying notes to consolidated financial statements.
1
<PAGE>
Spectrum Information Technologies, Inc. and Subsidiaries
(Debtors in Possession)
Consolidated Balance Sheets
(Amounts in thousands)
Liabilities and December 31, March 31,
Stockholders' Equity 1996 1996
- ---------------------------------------------------------------------
(Unaudited)
Current Liabilities
Accounts payable $ 2,126 $ 3,643
Accrued liabilities 554 1,386
-------- --------
Total current liabilities 2,680 5,029
-------- --------
Liabilities subject to
compromise:
Accounts payable and
accrued liabilities 1,455 1,485
Reserve for litigation 4,719 4,719
Reserve for restructuring 1,934 2,067
Net liabilities of discontinued
operations - 531
Other liabilities 185 185
-------- --------
Total liabilities subject
to compromise 8,293 8,987
-------- --------
Total liabilities 10,973 14,016
-------- --------
Commitments and contingencies
Stockholders' Equity:
Common stock, $.001 par value,
110,000 shares authorized 76,675
issued, respectively 77 77
Paid-in capital 63,961 63,961
Accumulated deficit (63,483) (61,501)
-------- --------
555 2,537
Treasury stock, 100 shares at cost (300) (300)
Unrealized loss on marketable
securities (4) (148)
-------- --------
Total stockholders' equity 251 2,089
-------- --------
Total liabilities and
stockholders' equity $11,224 $16,105
======== ========
See accompanying notes to consolidated financial statements.
2
<PAGE>
Spectrum Information Technologies, Inc. and Subsidiaries
(Debtors in Possession)
Consolidated Statements of Operations
Three months Nine months
(Amounts in thousands, ended ended
except per share amounts) December 31, December 31,
--------------- --------------
(Unaudited) 1996 1995 1996 1995
---- ---- ---- ----
Revenues:
Licensing revenue $ 95 $ 379 $ 1,432 $ 1,758
Merchandise sales, net 110 125 232 445
------- ------- ------- -------
Total revenues 205 504 1,664 2,203
------- ------- ------- -------
Operating costs and expenses:
Cost of revenues 47 67 88 258
Selling, general and
administrative 1,136 1,821 3,683 5,368
Total operating costs
------- ------- ------- -------
and expenses 1,183 1,888 3,771 5,626
------- ------- ------- -------
Operating loss (978) (1,384) (2,107) (3,423)
------- ------- ------- -------
Chapter 11 administrative
expenses (214) (686) (602) (2,464)
------- ------- ------- -------
Other income (expense), net 129 (60) 196 1,662
------- ------- ------- -------
Loss from continuing
operations (1,063) (2,130) (2,513) (4,225)
------- ------- ------- -------
Discontinued operations:
Gain on liquidation of
Data One 531 - 531 -
Gain on disposal of
Computer Bay - - - 2,539
Gain on sale of
Spectrum Global - 773 - 773
Income from operations
of Spectrum Global - 74 - 790
------- ------- ------- -------
Income from discontinued
operations 531 847 531 4,102
------- ------- ------- -------
Net Loss $ (532) $(1,283) $(1,982) $ (123)
======= ======= ======= =======
Net income (loss) per
common share:
Loss from continuing
operations $ (.01) $ (.03) $ (.03) $ (.05)
Income from discontinued
operations - .01 - .05
------- ------- ------- -------
Net Loss $ (.01) $ (.02) $ (.03) $ -
======= ======= ======= =======
See accompanying notes to consolidated financial statements.
3
<PAGE>
Spectrum Information Technologies, Inc. and Subsidiaries
(Debtors in Possession)
Consolidated Statements of Cash Flows
(Amounts in thousands)
(Unaudited)
Nine months ended December 31, 1996 1995
- ---------------------------------------------------------------------------
Cash flow from operating activities:
Net Loss $(1,982) $ (123)
Adjustments to reconcile net loss to net
cash used by continuing activities:
Depreciation and amortization 101 288
Gain on liquidation of Data One (531) -
Gain on Chapter 7 conversion of Computer Bay - (2,539)
Gain on sale of building - (86)
Gain on sale of Spectrum Global - (773)
Gain on sale of Axcell product line - (1,616)
Deferred income - (817)
Loss on sale of equipment - 279
(Increase) decrease in:
Accounts receivable 1,093 (1,172)
Prepaid expenses and other assets (195) 1,513
Increase (decrease) in:
Accounts payable, accrued liabilities
and other liabilities (2,349) 2,667
Liabilities subject to compromise (163) (69)
------- -------
Net cash used by continuing operations (4,026) (2,448)
Net cash used by discontinued operations (121) (1,801)
- ---------------------------------------------------------------------------
Net cash used by operating activities (4,147) (4,249)
- ---------------------------------------------------------------------------
Cash flows from investing activities:
Proceeds from sale of Axcell product line - 3,000
Proceeds from sale of building - 734
Proceeds from sale of Spectrum Global - 4,549
Purchase of marketable securities (3,826) (21)
Purchase of property and equipment (99) (58)
------- -------
Net cash (used) provided by
continuing operations (3,925) 8,204
Net cash used by discontinued
operations - (57)
- ---------------------------------------------------------------------------
Net cash (used) provided by
investing activities (3,925) 8,147
- ---------------------------------------------------------------------------
Cash flow from financing activities:
Net cash (used) provided by
continuing operations - -
Net cash used by discontinued
operations - (3)
- ---------------------------------------------------------------------------
Net cash provided (used) by
financing activities - (3)
- ---------------------------------------------------------------------------
Net increase (decrease) in cash and
cash equivalents (8,072) 3,895
Cash and cash equivalents, unrestricted,
beginning of year 13,123 4,409
Cash and cash equivalents, unrestricted,
end of period 5,051 8,304
Cash and cash equivalents, restricted,
end of period - 291
- ---------------------------------------------------------------------------
Total cash and cash equivalents, end of
period (including cash amounts in net
assets of discontinued operations) $ 5,051 $8,595
======= =======
Supplemental disclosures of cash flow
information:
Cash paid during the year for interest $ - $ -
Cash paid during the year for income taxes $ 2 $ 2
See accompanying notes to consolidated financial statements.
4
<PAGE>
Spectrum Information Technologies, Inc. and Subsidiaries
(Debtors in Possession)
Notes to Consolidated Financial Statements
1. Summary of Significant Accounting Policies
(a) Business
Spectrum Information Technologies, Inc., a Delaware
corporation ("Spectrum"), and its subsidiaries (collectively, the
"Company") own a portfolio of patents ("legacy assets") relating
to commercially practicable methods of wireless data transmission
over circuit-switched cellular networks. Since January 1995,
Spectrum's new management has been implementing strategies to
resolve the many financial, legal and litigation problems
inherited from prior years and to refocus the business direction
of the Company. While continuing to rely on license fees,
royalties and the sale of products related to its patents for
revenues (the "legacy business"), Spectrum's business objective
is to become a leading provider of value-added remote access
communications software and related products. Spectrum's current
proprietary wireless data transmission technology enables
transmission of data between portable computer devices over
existing analog cellular telephone networks. Spectrum licenses
its technology to leading manufacturers of integrated circuits,
modems and other related data communications product providers.
Spectrum also develops direct connect cellular data transmission
activation kits (cellphone software drivers and cables) and
markets them to some of the Company's licensees. These two
components - development and marketing of activation kits and
technology licensing - are the current primary sources of
operating revenues. The Company expects to continue to experience
operating losses while it (i) evaluates the long term potential
of and considers options regarding its legacy business and (ii)
attempts to successfully develop and market a new line of remote
access communications software and related products. (See Item 2
Management's Discussion and Analysis of Financial Condition and
Results of Operations - Organization and Business Combination and
Risk Factors).
(b) Bankruptcy Proceedings
On January 26, 1995 (the "Petition Date"), as part of
management's effort to stem the Company's substantial
financial losses and focus on developing its core
technology, the Company, together with its wholly-owned
subsidiaries, Computers Unlimited of Wisconsin, Inc., a
Wisconsin corporation d/b/a Computer Bay ("Computer Bay"),
Dealer Services Business Systems, Inc., a Delaware
corporation d/b/a Data One ("Data One") and Spectrum
Cellular Corporation ("Cellular") (collectively, the
"Debtors"), filed petitions for relief under Chapter 11 of
the Federal Bankruptcy Code (the "Chapter 11 proceeding").
Upon motion by the Debtors, the United States Bankruptcy
Court for the Eastern District of New York (the
"Bankruptcy Court") converted the action for Computer Bay
to a case under Chapter 7 of the Bankruptcy Code. A
trustee is overseeing the liquidation of Computer Bay's
assets and the Company no longer has control over the
Computer Bay estate. Data One consummated a separate
liquidating plan of reorganization on October 4, 1996,
which had been unanimously supported by Data One's voting
creditors. (See Note 3).
In March 1996, the Bankruptcy Court approved the Company's
Third Amended Disclosure Statement (the "Disclosure
Statement") with respect to the Third Amended Consolidated
Plan of Reorganization Proposed by Spectrum and Cellular
(the "Plan") dated as of March 18, 1996 finding the
Disclosure Statement adequate for distribution and vote by
interested parties. As contemplated by the Plan, the
bankruptcy estates of Spectrum and Cellular have been
substantively consolidated. The Plan provides all
administrative creditors with full payment (unless a
lesser amount is agreed upon or ordered by the Bankruptcy
Court) and all general unsecured creditors with 100% of
the value of their claims plus 6% interest per annum from
the filing date thereon. It also settles the class action
lawsuits of approximately $676,000,000 filed against the
Company by the payment by the Company of $250,000 and the
delivery of approximately 45% of the equity ownership in
Spectrum to a trustee to be distributed to the members of
the class. In addition, under the settlement, the
plaintiffs are to receive the proceeds, net of certain
fees and expenses, from insurance policies covering the
liabilities of the Company's directors and officers and,
as a result of court supervised negotiations and at the
recommendation of the District Court, approximately
$1,350,000 (in cash or publicly traded securities) from
the various individual defendants in the action plus
$250,000 from the Company. (See Note 3). Although existing
Spectrum shareholders will be substantially diluted under
the terms of the Plan, such shareholders should obtain the
majority of the 45% equity ownership in Spectrum set aside
for existing shareholders and certain creditors. The Plan
also calls for management, employees and non-executive
directors of the Company participating in developing the
Plan to receive the remaining 10% ownership.
On August 14, 1996, the United States Bankruptcy Court of
the Eastern District of New York entered an order
confirming the Plan, as amended. Consummation of the Plan
and its Effective Date remain contingent upon District
Court approval of the Class Action Settlement (See Note
3).
5
<PAGE>
(c) Basis of Presentation
The accompanying consolidated financial statements of the
Company have been prepared on the basis that it is a going
concern, which contemplates the realization of assets and
the satisfaction of liabilities, except as otherwise
disclosed, in the normal course of business. However, as a
result of Chapter 11 proceedings and circumstances
relating to this event, including the Company's recurring
losses from continuing operations, such realization of
assets and liquidation of liabilities is subject to
significant uncertainty. Further, the Company's ability to
continue as a going concern is dependent upon timely
consummation of the Plan (See Note 1(b)), achievement of
the business objectives described in Note 1(a) and
profitable operations therefrom and the ability to
generate sufficient cash from operations and financing
sources to meet the restructured obligations. (See Item 2
- Management's Discussion and Analysis of Financial
Condition and Results of Operations for a discussion of
Risk Factors). Except as otherwise disclosed, the
consolidated financial statements do not include any
adjustments to reflect the possible future effects on the
recoverability and classification of assets or the amounts
and classification of liabilities that may result from the
possible inability of the Company to continue as a going
concern. The Company continues to monitor expenses in
order to conserve cash and is assessing alternatives to
address the continued negative cash flow associated with
its legacy business. In addition, the Plan (See Note 1(b))
contemplates the settlement of all significant litigation.
However, there can be no assurance that these events will
occur according to management's plans. The financial
statements for the quarter ended December 31, 1996 reflect
accounting principles and practices set forth in AICPA
Statement of Position 90-7, "Financial Reporting by
Entities in Reorganization Under the Bankruptcy Code",
which the Company adopted as of January 26, 1995, the date
of the Company's Chapter 11 filing (See Note 3). The net
assets of Spectrum and Cellular, excluding intercompany
payables of approximately $4,516,000, were approximately
$251,000 at December 31, 1996.
As part of the restructuring process, Spectrum has
included in its Plan the consolidation of the Company's
bankruptcy estate with that of Cellular. Spectrum and
Cellular are now conducting the Company's core business on
an operating basis as a single entity. (See Notes 1(b) and
5).
In preparing financial statements in conformity with
generally accepted accounting principles, management is
required to make estimates and assumptions that affect the
reported amounts of assets and liabilities and the
disclosure of contingent assets and liabilities at the
date of the financial statements and revenues and expenses
during the reporting period. Actual results could differ
from those estimates. The unaudited interim consolidated
financial statements have been prepared on a basis
substantially consistent with the audited statements for
the fiscal year ended March 31, 1996. Certain information
and footnote disclosures normally included in financial
statements were prepared in accordance with generally
accepted accounting principles and have been condensed or
omitted pursuant to the rules and regulations of the
Securities and Exchange Commission. The Company believes
that the disclosures contained herein are adequate to make
the information presented not misleading. The unaudited
financial statements should be read in conjunction with
the audited financial statements and accompanying notes in
the Company's annual report on Form 10-K for the fiscal
year ended March 31, 1996.
In the opinion of management, the accompanying unaudited
consolidated financial statements reflect all adjustments
that are necessary to present fairly the Company's
financial position as of December 31, 1996, and the
results of its operations and its cash flows for the
interim periods presented.
(d) Principles of Consolidation
These consolidated financial statements include the
accounts and results of operations of the Company and its
wholly owned subsidiary, Spectrum Cellular, as of and for
the three and nine months ended December 31, 1996 and
1995. Its three former subsidiaries, Spectrum Global
Services, Inc. ("Spectrum Global"), Data One and Computer
Bay, have been reflected as discontinued operations for
all periods presented (See Note 2). All intercompany
transactions have been eliminated.
(e) Long Lived Assets
In March, 1995 the Financial Accounting Standards Board
("FASB") issued Statement of Financial Accounting
Standard ("SFAS") No. 121, Accounting For the Impairment
of Long Lived Assets and for Long Lived Assets to be
Disposed of." The Company has adopted SFAS No. 121 as
of April 1, 1996. The adoption of SFAS No. 121 was not
material to the Company's financial statements.
6
<PAGE>
(f) Income (Loss) Per Common Share
The computation of income (loss) per common share is based
on the weighted average number of common shares
outstanding during the periods presented. The weighted
average number of shares used in the computation of income
(loss) per common share for the quarters and nine months
ended December 31, 1996 and 1995 is 76,675,448.
(g) Stock-Based Compensation
In October 1995, FASB issued SFAS No. 123, "Accounting for
Stock-Based Compensation," SFAS No. 123 establishes a fair
value method for accounting for stock-based compensation
plans either through recognition or disclosure. On April
1, 1996, the Company adopted the employee stock-based
compensation disclosure provisions of SFAS No. 123
retroactive to April 1, 1995. The adoption of this
standard did not impact the Company's consolidated results
of operations, financial position or cash flows.
2. Business Dispositions
Spectrum Global
Effective October 17, 1995, the Company sold its Spectrum
Global subsidiary for net proceeds of approximately
$4,549,000, after expenses of $325,000, to a buying group
including certain former members of management. Spectrum
Global was acquired in fiscal 1994 from the nephew of the
former President of the Company for approximately $4,120,000.
Spectrum Global has been reported as a discontinued operation
for all periods presented.
The following table summarizes the net assets of Spectrum
Global for the periods presented:
October 17, 1995 (Amounts in thousands)
-------------------------------------------------
Cash $1,227
Accounts receivable 1,899
Other assets 2,237
Accounts payable (243)
Other liabilities (117)
-------
Net assets $5,003
=======
The summary of Spectrum Global's results of discontinued
operations for the periods presented are as follows:
(Amounts in thousands)
Three months Nine months
ended ended
Periods ended December 31, 1995 1995
-------------------------- ------------ -----------
Revenues $560 $6,877
Net income $ 74 $ 790
Computer Bay
Due to Computer Bay's continuing losses and loss of market
share, the Company officially closed down its Computer Bay
subsidiary on January 25, 1995. Accordingly, Computer Bay has
been reported as a discounted operation, effective January
25, 1995.
Upon conversion of Computer Bay's Chapter 11 case to a case
under Chapter 7 on May 25, 1995, which mandates the
liquidation of Computer Bay, control of Computer Bay has been
transferred from the Company to the Computer Bay trustee. As
a result, the net liabilities of Computer Bay have been
eliminated from the consolidated financial statements of the
Company. As a further result of the conversion of Computer
Bay to a case under Chapter 7, the Company recorded a gain of
$2,539,000 by writing off the net liabilities of Computer
Bay. (See Note 3).
7
<PAGE>
The following table summarizes the net liabilities of
Computer Bay for the periods presented:
May 25, 1995 (Amounts in thousands)
--------------------------------------------
Cash $ 218
Restricted Cash 291
Accounts receivable 1,078
Income taxes receivable 409
Property and Equipment 100
Other assets 129
Accounts payable (3,368)
Other liabilities (1,396)
-------
Net Liabilities $(2,539)
=======
3. Legal Proceedings
Bankruptcy Proceedings
On January 26, 1995 (the "Petition Date"), the Company and
three of its four operating subsidiaries (Computer Bay, Data
One and Cellular) filed petitions for relief under Chapter 11
of the Bankruptcy Code in the United States Bankruptcy Court
for the Eastern District of New York (the "Bankruptcy
Court"), Case Nos. 195 10690 260, 195 10691 260, 195 10692
260 and 195 10693 260, respectively (the "Chapter 11 case").
Spectrum Global did not file for bankruptcy protection. On
February 8, 1995, the United States Trustee appointed an
Official Committee of Unsecured Creditors to represent the
creditors of Spectrum (the "Committee"), and another
committee for Computer Bay to represent the interests of all
unsecured creditors whose claims arose before the Petition
Date. No other committees were appointed. On May 25, 1995,
the Bankruptcy Court, upon motion by the Debtors, converted
the Computer Bay proceeding to a case under Chapter 7 of the
Bankruptcy Code. A trustee has been appointed to oversee
liquidation of the Computer Bay assets. Spectrum and Cellular
have been substantively consolidated in the bankruptcy
proceeding and are continuing to manage their affairs and
operate their business under Chapter 11 as debtors in
possession while awaiting consummation of the Plan (See Note
1(b)). The Bankruptcy Court confirmed the Plan on August 14,
1996. (See Part II, Item I for a description of the Plan).
Consummation of the Plan and its effective date are
contingent upon District Court approval of the Class Action
Settlement becoming final. The District Court has currently
scheduled a fairness hearing for the Class Action Settlement
on February 28, 1997 to decide whether to approve the
settlement. If the Plan is not consummated, the alternatives
include: (a) continuation of the pending Chapter 11 cases;
(b) alternative plans of reorganization; or (c) liquidation
of Debtors under Chapter 7 or Chapter 11 of the Bankruptcy
Code. (See Part II - Item 1 Legal Proceedings for a summary
of the terms of the Plan and the principal proceedings in the
Chapter 11 case.) On October 4, 1996, a separate liquidating
plan of reorganization under Chapter 11 was consummated for
Data One. The hearing regarding the issuance of a final
decree concluding Data One's bankruptcy case is scheduled for
March 4, 1997.
Computer Bay Trustee's Claim
On January 11, 1996 the Computer Bay trustee filed a
complaint commencing litigation against the Company seeking
to substantively consolidate the Computer Bay estate with the
Debtor's estate and, in the alternative, seeking the return
of alleged preferences and fraudulent conveyances in the
amount of $4,351,396 (the "Computer Bay Litigation"). The
Debtors asserted counterclaims against the Computer Bay
estate in the amount of $2,430,436. On March 15, 1996, the
Debtors, the Committee and the Computer Bay trustee agreed to
a settlement of the Computer Bay Litigation, which was
approved by the Bankruptcy Court on March 28, 1996. The
settlement calls for the Computer Bay estate to receive
distributions under the Plan of $600,000 in cash and $300,000
in Spectrum common stock to be distributed approximately one
month after the Plan's effective date. Consummation of the
settlement is contingent upon consummation of the Plan.
Securities Related Proceedings
On February 9, 1994, the class action filed against the
Company and two of its former officers in May 1993 (In re
Spectrum Information Technologies, Inc. Securities
Litigation, United States District Court for the Eastern
District of New York, Civil Action No. 93-2295) (the
"Class Action Suits") was supplemented (i) to extend
the end of the class period from May 21, 1993 to
8
<PAGE>
February 4, 1994, (ii) to add additional claims against
Spectrum and the individual defendants, and (iii) to add
certain of its then officers as party defendants. In April
1994, a Second Consolidated Amended Class Action Complaint
was filed adding additional employees as party defendants.
The class and certain subclasses have been certified. A
similar putative class action filed in the United States
District Court for the Southern District of Texas has been
transferred and consolidated with the Class Action Suits.
The plaintiffs in the Class Action Suits claim to have
purchased the Company's securities at prices which the
Company and the individual defendants allegedly artificially
inflated by, among other things: (i) misrepresenting the
potential value of the patent license agreement the Company
entered into with AT&T; (ii) improperly accounting for
revenues and expenses in connection with certain license and
advertising agreements; (iii) failing to disclose the
existence of an inquiry initiated by the Securities and
Exchange Commission (the "SEC"); and (iv) making misleading
statements regarding the employment of John Sculley. In
addition, there are claims against certain of the individual
defendants for improper insider trading. The Company's former
management, based on the advice of its then counsel, believed
the Company had good and meritorious defenses to the claims
against it.
On July 20, 1994, the Company, certain of its then officers
and directors, and two former officers and directors were
served with a class action complaint. The complaint asserts
that Spectrum knowingly or recklessly made material false
statements or omitted material facts in its financial
reporting relating to Computer Bay prior to announcing the
restatement of earnings for the fiscal year 1992 and the
first three quarters of fiscal 1993 to correct inaccurate
accruals of certain items into income. For pretrial purposes,
this litigation has been consolidated with the Class Action
Suits described above.
In November 1995, the Company announced that an agreement in
principle had been reached on a framework for settlement of
the Class Action Suits (the "Class Action Settlement"). The
Class Action Settlement was approved by the Bankruptcy Court,
but remains contingent upon approval by the District Court
and consummation of Plan. The District Court has scheduled a
hearing regarding approval of the Class Action Settlement for
February 28, 1997. The plaintiffs in the Class Action Suits
filed a claim against the Company in its bankruptcy
proceedings in the amount of approximately $676 million. The
Class Action Settlement, if consummated, will be in
satisfaction of that claim as well as any and all claims of
the individual defendants in that suit against the Company.
Under the terms of the Class Action Settlement, the Company
and the representatives of the Class Action plaintiffs have
agreed to a framework under which the Company, pursuant to
the Plan, will issue to the plaintiffs a number of shares of
its Class A Preferred Stock that would be equal to the number
of shares of Distributable Common Stock available to
Spectrum's stockholders and certain creditors following
confirmation of the Plan. In addition, under the Class Action
Settlement, the plaintiffs are to receive the proceeds, net
of certain fees and expenses, from insurance policies worth
$10 million covering the liabilities of the Company's
directors and officers and, as a result of court supervised
negotiations and at the recommendation of the District Court,
approximately $1,350,000 (in cash or publicly traded
securities) from the various individual defendants in the
action plus $250,000 from the Company.
One of the uncertainties surrounding the Class Action
Settlement is that issuers of insurance policies representing
$6 million out of the $10 million of the insurance that may
be available to the class plaintiffs pursuant to the Class
Action Settlement have disclaimed coverage. On July 15, 1996,
the District Court issued a decision favorable to the Company
in this coverage dispute. The insurance carriers have appealed
this decision. (See Other Proceedings).
In May 1993, the SEC initiated a confidential and informal
fact gathering inquiry apparently directed toward statements
the Company purportedly made regarding the potential value of
the patent license agreement it had entered into in fiscal
1994 with AT&T. On December 6, 1993, following the Company's
dismissal of its outside auditors, the SEC issued a formal
order of investigation. In April 1996, the SEC staff informed
the Company that it intended to commence an administrative
proceeding to determine whether during 1993 the Company had
violated certain sections of the Securities Exchange Act of
1934 and rules promulgated thereunder, including violations
of Rule 10b-5, related to accounting and disclosure issues
with respect to certain patent and advertising agreements it
entered into during fiscal 1994. In April 1996, the Company's
current management began discussions with the SEC to resolve
the SEC's ongoing investigation. During these discussions the
SEC informed the Company that it intended to add alleged
violations of the registration provisions of the Securities
Act of 1933 in the administrative proceedings. The
discussions contemplate the entry of an administrative cease
and desist order against the Company, but do not contemplate
the imposition of any financial penalties. The Company's
discussions with the SEC are ongoing.
In connection with this investigation, Salvatore T. Marino, a
current employee and former officer of the Company informed the
Company in April 1996 that the SEC staff intended to commence a
proceeding against him for violations of certain sections of
9
<PAGE>
the Securities Exchange Act of 1934 and rules promulgated
thereunder, including violations of Rule 10b-5, related
to accounting and disclosure issues with respect to
certain patent and advertising agreements the Company entered
into during fiscal 1994 and the exercise of options to
purchase and subsequent sale of Spectrum stock in the
relevant time frame. Mr. Marino has denied any wrongdoing and
responded to the staff's allegations. Upon learning of the
SEC staff's position and pending resolution of this issue,
the Company removed Mr. Marino as an executive officer.
The United States Attorney's Office for the Eastern District
of New York has previously informed the Company that it is
the subject of an investigation regarding violations of
securities laws that may have occurred prior to the
appointment of the Company's current Chief Executive Officer
and Board of Directors. The Company is cooperating fully with
the investigation.
Other Proceedings
On July 21, 1995, The Home Insurance Company of Illinois
("The Home"), the Company's former directors' and officers'
primary insurance carrier, commenced an adversary proceeding
(the "Home Action") in the Company's bankruptcy proceeding.
The Honorable Frederick Block, United States District Judge
of the District Court, subsequently withdrew the reference
with respect to the Home Action such that the litigation is
now pending before him. The Home sought to rescind a renewal
of a directors' and officers' liability and company
reimbursement policy issued in June 1993 to the Company for
the benefit of its directors and officers (the "Renewal
Policy") and alleged certain material misrepresentations
and/or omissions in the application for the Renewal Policy.
The Home also sought a declaration that coverage is not
afforded under the Renewal Policy for the claims made against
the policy by the Company and certain of its officers and
directors.
In addition to the primary policy, the Company obtained three
excess policies for the insurance year at issue in the Home
Action. Two of the excess carriers, the Agricultural Excess
and Surplus Insurance Company ("AESIC") and The Aetna
Casualty and Surety Company ("Aetna") have intervened in the
Home Action. AESIC has agreed to be bound by any final
judicial resolution regarding The Home (a similar agreement
was previously reached with the third excess carrier) and is
no longer actively participating in the Home Action.
On July 15, 1996, the District Court ruled against the
insurance carriers in their attempt to rescind the directors'
and officers' insurance policies at issue in the Home Action.
The Court also ruled that any losses in the Class Action
Suits related to Spectrum's February 1994 restatement of
earnings would be covered by the policies at issue. The Court
concluded that it could not decide, based on the record
before it, whether the policies at issue would cover claims
in the Class Action Suits related to alleged insider trading
by certain of the Company's former officers and alleged
misstatements regarding John Sculley's employment with the
Company. The insurance carriers have appealed certain aspects
of the decision.
Notwithstanding this pending appeal, the parties to the Class
Action Suits and the insurance carriers have agreed to
implement the Class Action Settlement. Under this agreement,
each insurance carrier has agreed to contribute the full
coverage available under its disputed insurance policy, up to
a total of $6 million, if it is unsuccessful in the appeal.
The Class Action Settlement also remains contingent upon
District Court approval and consummation of the Plan. The
Bankruptcy Court confirmed the Plan on August 14, 1996 but
the Plan cannot be consummated until District Court approval
of the Class Action Settlement becomes final. A hearing
regarding the Class Action settlement is scheduled for
February 28, 1997 before the District Court. If the Class
Action Settlement is approved at this hearing, the Company
expects to consummate the Plan on or about March 31, 1997.
From time to time, the Company has been a party to other
legal actions and proceedings incidental to its business. As
of the date of this report, however, the Company knows of no
other pending or threatened legal actions that could have a
material impact on the financial condition of the Company.
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Spectrum Information Technologies, Inc. and Subsidiaries
(Debtors in Possession)
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations
Organization And Business Combination
The Company owns a portfolio of patents relating to
commercially practicable methods to wirelessly transmit data over
circuit-switched cellular networks. Spectrum has been operating
primarily as an intellectual property company generating much of
its revenues from royalties associated with the licensing of its
proprietary technology. Beginning in January 1995, however,
Spectrum's then new management and Board of Directors began
implementing a strategic plan to fundamentally refocus the
Company. Spectrum's current business objective is to become a
leading provider of value added remote access communications
software and related products. Since the Company's January 25,
1995 Chapter 11 bankruptcy filing, Spectrum has redesigned
several aspects of its marketing strategy related to the legacy
business including the licensing program in an effort to increase
product demand and thereby the revenues derived from its existing
proprietary technology. Despite these changes, Spectrum's market
share for cellular data transmission products has not grown. The
royalties that Spectrum is receiving from companies that license
its technology and the revenues that Spectrum generates from the
sale of its activation kit product line continue to be
insufficient to reverse Spectrum's continuing operating losses.
The Company's management is evaluating the long range potential
for this legacy technology and is considering options to reverse
the negative cash flow associated with this business.
Consistent with Spectrum's business objective, the Company
has increased its focus on the development of its remote access
communications software. As the Company's development efforts are
evolving, the Company has expanded the intended functionality of
the software under development to address communications software
solutions in the business and also possibly in the service
provider market. This software would also enable a more efficient
Internet information access over land line and wireless LANs and
WANs. The intended software will not be covered by Spectrum's
existing patent portfolio. (See Risk Factors).
As part of the bankruptcy reorganization process, upon
motion by the Debtors, the Bankruptcy Court substantively
consolidated the Company's bankruptcy estate with that of its
Cellular subsidiary. Spectrum and Cellular are now conducting the
Company's core business as a single corporate entity and the
Company intends to merge Spectrum and Cellular. The discussion of
the business of Spectrum in this report refers to the business
that was formerly conducted by either Spectrum or Cellular.
Spectrum Global, Data One and Computer Bay are reflected in the
consolidated financial statements as discontinued operations.
Chapter 11 Proceedings
On January 26, 1995, the Company together with its
wholly-owned subsidiaries Computer Bay, Data One and Cellular
(collectively, the "Debtors"), filed petitions for relief under
Chapter 11 of the Federal Bankruptcy Code. Upon motion by the
Debtors, the Bankruptcy Court converted the action for Computer
Bay to a case under Chapter 7 of the Bankruptcy Code. A trustee
is overseeing the liquidation of Computer Bay's assets and the
Company no longer has control over the Computer Bay estate. Data
One consummated a separate liquidating plan of reorganization on
October 4, 1996.
Due to the Chapter 11 filing, the Company's cash flow has
been positively affected because the cash requirements for the
payment of accounts payable and other liabilities, which arose
prior to the Chapter 11 filings, are in most cases deferred until
confirmation and consummation of a plan of reorganization. The
positive effect has also been enhanced by the Bankruptcy Court
approved sale of certain assets, but has been offset by the
increased administrative and professional fees associated with
the Chapter 11 filing and resolution of claims subject to
compromise. (See Liquidity and Capital Resources).
On March 14, 1996, the Bankruptcy Court approved the
adequacy and distribution of the Third Amended Disclosure
Statement with respect to the Third Amended Consolidated Plan of
Reorganization Proposed by Spectrum Information Technologies,
Inc. and Spectrum Cellular Corporation, Debtors in Possession,
Dated as of March 18, 1996. The Bankruptcy Court confirmed the
Plan on August 14, 1996. Consummation of the Plan and its
effective date remains contingent upon District Court approval of
the Class Action Settlement. (See Note 3 - Legal Proceedings).
The hearing regarding the Class Action Settlement has been
rescheduled several times. These delays in implementing the Class
Action Settlement have delayed consummation of the Plan and have
caused the Company to incur additional professional fees
associated with the Company's pending Chapter 11 proceeding. The
Company expects the hearing to proceed on February 28, 1997, as
scheduled.
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Summary of Operations
The following table sets forth, for the periods indicated,
the percentage relationship that certain items bear to revenue.
This summary provides trend data relating to the Company's normal
recurring operations. Amounts set forth below reflect the
Company's Spectrum Global, Data One and Computer Bay subsidiaries
as discontinued operations.
(Amounts in thousands)
Three Months Ended December 31, 1996 % 1995 %
------- ------- ------- -------
Revenues $ 205 100.0 $ 504 100.0
------- ------- ------- -------
Operating costs and expenses:
Cost of revenues 47 22.9 67 13.3
Selling, general and
administrative 1,136 554.2 1,821 361.3
------- ------- ------- -------
Total operating costs and
expenses 1,183 577.1 1,888 374.6
------- ------- ------- -------
Operating loss $ (978) (477.1) $(1,384) (274.6)
======= ======= ======= =======
(Amounts in thousands)
Nine Months Ended December 31, 1996 % 1995 %
------- ------- ------- -------
Revenues $ 1,664 100.0 $ 2,203 100.0
------- ------- ------- -------
Operating costs and expenses:
Cost of revenues 88 5.3 258 11.7
Selling, general and
administrative 3,683 221.3 5,368 243.7
------- ------- ------- -------
Total operating costs and
expenses 3,771 226.6 5,626 255.4
------- ------- ------- -------
Operating loss $(2,107) (126.6) $(3,423) (155.4)
======= ======= ======= =======
Consolidated Revenues
Consolidated revenues decreased approximately $299,000 or
59% and $539,000 or 24%, respectively, for the three and nine
months ended December 31, 1996 as compared to three and nine
months ended December 31, 1995. Merchandise sales decreased
$15,000 or 12% and $213,000 or 48%, respectively, for the three
and nine months ended December 31, 1996 when compared to the same
periods in the prior year because of limited growth in the market
for the Company's cellular data products and because the Company
withheld selling cables for use with Motorola, Inc. cellular
telephones for a portion of the quarter while the Company was
implementing procedural requirements of the cross-license
agreement with Motorola. Sales further decreased for the nine
months due to the sale of the AXCELL(R) product line in fiscal
1996. AXCELL(R) sales for the nine months ended December 31, 1995
were approximately $132,000.
Licensing revenues decreased $284,000 or 75% and $326,000
or 19%, respectively, for the three and nine months ended
December 31, 1996 as compared to the three and nine months ended
December 31, 1995. Licensing revenue decreased approximately
$256,000 for the quarter ended December 31, 1996 as compared to
the same period the prior fiscal year because the Company was
receiving installment payments attributed to an up front
licensing fee from one of its licensees during the quarter
ended December 31, 1995. The Company received the last
installment payment of this up front fee during the quarter ended
September 30, 1996 and therefore, did not receive any such
payment during the quarter reported. The Company is also required
to pay this licensee a portion of the royalties or revenues that
the Company may receive in certain circumstances in connection
with this license agreement up to an amount not to exceed the
amount of the up front payment. Licensing revenues were
approximately $693,000 lower during the nine month period ended
December 31, 1996 than during the same period the prior fiscal
year because one of the Company's licensees paid Spectrum part of
a disputed royalty associated with its sale of products during
the period ended December 31, 1995, but made no such payments
during the period reported. In March 1996, the Company and this
licensee settled the dispute and converted its license to a paid up
license and therefore was not obligated to make ongoing royalty pay-
ments during the nine months ended December 31,1996. This decrease was
offset by a $135,000 increase during the nine months ended December 31,
1996 in scheduled installment payments of an up front fee made by
another of the Company's licensees. The decrease in licensing
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revenues was further offset during the nine months reported by
the receipt of approximately $214,000 from a different licensee as
partial settlement of a dispute regarding past due royalties.
Operating Costs and Expenses
Operating costs and expenses decreased $705,000 or 37% and
$1,855,000 or 33%, respectively, for the three and nine months
ended December 31, 1996 as compared to the same periods in the
prior year due to decreased selling, general and administrative
expenses of $685,000 or 38% and $1,685,000 or 31%, respectively,
and decreased cost of sales of $20,000 or 30% and $170,000 or
66%, respectively.
The decrease in selling, general and administrative
expenses for the three and nine months ended December 31, 1996
was the result of several factors, including decreases in
non-bankruptcy related legal fees of approximately $390,000 or
75% and $878,000 or 57%, for the three and nine month periods,
respectively. A majority of the non-bankruptcy related legal
matters involving the Company have been settled as part of the
Plan. Outside services decreased $157,000 or 68% and $334,000 or
66%, respectively, for the three and nine months ended December
31, 1996 as compared to the three and nine months ended December
31, 1995 because the Company is no longer using temporary
accounting services and has decreased its use of other
consultants. For the three and nine months ended December 31,
1996 insurance expense decreased approximately $94,000 or 41% and
$311,000 or 40%, respectively, as compared to the same periods in
the prior fiscal year primarily due to a reduction in directors'
and officers' insurance premiums. These decreases were partially
offset by an increase in personnel and related expenses of
approximately $24,000 or 4% and $89,000 or 6%, respectively, for
the three and nine months ended December 31, 1996 as compared to
the three and nine months ended December 31, 1995 primarily due
to the hiring of technical staff in its new technical center in
the Boston, Massachusetts area.
The decrease in cost of sales is a direct result of the
decreased merchandise sales for the three and nine months ended
December 31, 1996 as compared to the three and nine months ended
December 31, 1995.
Operating Loss
For the three and nine months ended December 31, 1996, the
Company's operating loss decreased approximately $406,000 to
$978,000 and $1,316,000 to $2,107,000, respectively, as compared
to $1,384,000 and $3,423,000, respectively, for the three and
nine months ended December 31, 1995. This 29% and 38% reduction
is due to decreased operating costs and expenses of $705,000 or
37% and $1,855,000 or 33%, respectively, offset by decreased
revenues of $299,000 or 59% and $539,000 or 24%, respectively.
The Company expects to continue to incur operating losses while
it (i) evaluates the long term potential of and considers options
regarding its legacy business and (ii) attempts to successfully
develop and market a new line of remote access communications
software and related products. There can be no assurances these
operating losses can be reversed.
Other Income and Expense
Other income increased $189,000 ($60,000 expense for the
three months ended December 31, 1995 compared to income of
$129,000 for the three months ended December 31, 1996) primarily
due to a non-recurring expense that the Company recorded in
December 1995 that was related to a write down of certain fixed
assets. Other income decreased $1,466,000 or 88%, for the nine
months ended December 31, 1996 as compared to the nine months
ended December 31, 1995 primarily because the Company sold its
AXCELL(R) product line in fiscal 1996. This sale resulted in a
gain of approximately $1,616,000 for the quarter ended December
31, 1995.
Discontinued Operations
The Company had recorded a gain of $2,539,000 by writing
off the net liabilities of its Computer Bay subsidiary as a
result of the conversion of Computer Bay's bankruptcy filing into
a Chapter 7. On October 17, 1995, the Company recorded a gain of
$773,000 when it sold its Spectrum Global subsidiary which is
reflected as a discontinued operation. Income from Global's
operations for the three and nine months ended December 31, 1995
was $74,000 and $790,000, respectively. On October 4, 1996, Data
One's liquidation plan was consummated resulting in a gain of
$531,000 for the forgiveness of Data One's remaining liabilities
after administrative expenses and payments to creditors.
13
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Liquidity and Capital Resources
Since inception, the Company has experienced significant
operating losses and operating cash flow deficits which
ultimately caused the Company to file for bankruptcy protection
under Chapter 11 on January 26, 1995. The Company expects
operating losses to continue while it (i) evaluates the long term
potential of and considers options regarding its legacy business
and (ii) attempts to successfully develop and market a new line
of remote access communications software and related products.
The Company continues to review expenses in order to conserve
cash and is evaluating alternatives to address the continued
negative cash flow associated with its legacy business.
During the nine months ended December 31, 1996, working
capital (current assets less current liabilities) decreased by
approximately $2,530,000 to $7,982,000 primarily due to the net
loss from continuing operations.
Net cash used by continuing operations increased from
$2,448,000 to $4,026,000 for the nine months ended December 31,
1995 and 1996, respectively. The increase in net cash used was
primarily attributable to the Company's ability to partly defer
payment of fiscal year 1996 professional fees, associated with
the Company's pending bankruptcy, until fiscal year 1997.
Net cash used by investing activities for the nine months
ended December 31, 1996 was approximately $3,925,000 primarily
due to the purchase of marketable securities. Net cash provided
by investing activities was approximately $8,147,000 during the
nine months ended December 31, 1995 due to the proceeds received
from the nonrecurring sales of the Company's AXCELL(R) product
line, real estate in Dallas, Texas and Global subsidiary.
Capital expenditures amounted to approximately $99,000
for the nine months ended December 31, 1996. These
expenditures are primarily related to the outfitting of a new
office in the Boston, Massachusetts area. For the remainder of
the fiscal year ended March 31, 1997, capital expenditures are
not expected to be significant.
Consummation of the Company's proposed Plan will adversely
impact the Company's near term capital resources because of the
payments that the Company will make pursuant to the Plan to
holders of secured, administrative and unsecured claims, assuming
the Plan is consummated as confirmed. However, the Company
projects it will have adequate near term capital resources to
fund its operations. Management believes the Company's long term
liquidity is highly dependent upon the Company's ability to
address the operating losses associated with its legacy business
and develop and sell value-added remote access communications
software and related products to generate a positive cash flow
from its reorganized business and, if necessary, its ability to
raise additional capital to accomplish these objectives. Further,
if the Company's proposed Plan is not consummated and no
alternative plan of reorganization is approved, then there will
be substantial doubt about the Company's ability to continue as a
going concern and the Company may be forced to liquidate under
either Chapter 7 or Chapter 11 of the Bankruptcy Code.
Risk Factors
Statements contained in this Management's Discussion and
Analysis of Financial Condition and Results of Operations section
and elsewhere throughout this report contain forward looking
statements that are based on current expectations about
Spectrum's business and its business strategy and management's
beliefs and assumptions. Words such as "expects," "anticipates,"
"intends," "potential", "believes" and similar expressions are
intended to identify forward looking statements. These statements
are not guarantees of future performance and are subject to
significant risk and uncertainty and actual results may differ
materially from what is expressed. A discussion of the risk
factors regarding the implementation of the Company's business
strategy is set forth below. Failure to successfully implement
this strategy will raise substantial doubt about the Company's
ability to continue as a going concern.
Spectrum has suffered significant losses from continuing
operations in each fiscal year since inception. Even after the
Company's recent restructuring, management does not believe that
the sales of its existing products and expected royalty revenues
associated with the licensing of its existing proprietary
technology will be sufficient to reverse losses given the
Company's operating performance and expenses. Management expects
to have a continued negative cash flow while the Company (i)
evaluates the long term potential of and considers options
regarding its legacy business and (ii) attempts to successfully
develop and market a new line of communications software and
related products. This anticipated negative cash flow combined
with the Company's limited capital resources creates a
significant risk that the Company will have difficulty funding
its marketing and development efforts with its existing capital
resources. (See Limited Capital Resources).
14
<PAGE>
Other risks associated with the current strategy include,
but are not limited to, improving support to existing and new
customers and substantially improving the market and financial
performance in the legacy business; overcoming the negative image
Spectrum has developed in the past, and its ability to rebuild
credibility in the marketplace; successfully developing software
products that bring value to remote users of data communications
in business, and possibly, service provider markets; developing
new channels for distribution; hiring key technical and marketing
staff to implement the strategy; competing successfully within
markets where competitors have significantly more resources and
access to capital than the Company; realization of market
forecasts regarding remote access (landline and wireless) market
growth in the business and service provider market segments;
limited capital resources upon exiting Chapter 11; the timeliness
of consummation of the Plan and its effective date; and the ability
of the Company to raise additional capital, if necessary. The
following specific risk factors should be considered in
evaluating Spectrum's ability to achieve a successful turnaround.
Bankruptcy Proceedings. District Court approval of the Class
Action Settlement (See Notes 3 and 4, and Part II - Other
Information Item 1 - Legal Proceedings - Securities Related
Proceeding) is a condition precedent to consummation and the
effective date of the Plan. (See Notes 3 and 4). If the Class
Action Settlement is not approved in a timely manner, it is
highly unlikely that the Plan, as written, will be consummated.
If the Plan is not consummated, the alternatives include: (a)
continuation of the pending Chapter 11 cases; (b) alternative
plans of reorganization; or (c) liquidation of the Debtors under
Chapter 7 or Chapter 11 of the Bankruptcy Code. Each alternative
raises substantial doubts about the Company's ability to continue
as a going concern.
Past Operating History. The Company's future must be considered
in light of the risks associated with the past difficulties and
negative press encountered by the Company. To address these risks,
the Company must, among other things, support existing and new
customers and substantially improve the market and financial
performance in the legacy business, rebuild management and
technical credibility with current and potential customers,
continue to attract, retain and motivate qualified persons, and
continue to upgrade its technologies and commercialize products
and services incorporating such technologies. There can be no
assurance that the Company will be successful in addressing such
risks. The Company has incurred net losses since inception and
expects to continue to operate at a loss for the foreseeable
future.
Changing and Segmented Market; Acceptance of the Company's
Products. The market for the Company's intended software and
related products is substantially and rapidly changing (primarily
due to the Internet phenomena, convergence of computers -
communications - entertainment, deregulation of the
telecommunications industry, and structural changes in the
domestic and global economy) and is characterized by both large
established providers and an increasing number of market entrants
who, exploiting market and technology discontinuities and
segmentation, have introduced or developed remote access software
products. As is typical in the case of a growing and changing
industry, demand and market acceptance for recently introduced
products and services are subject to a high level of uncertainty.
While the Company believes that its software and related products
will offer substantial advantages, there can be no assurance
that the Company's products will be successfully completed or
become widely adopted.
Because the market for the Company's existing products and
prospective software products is rapidly changing, it is
difficult to predict the future segmentation and size of this
market. There can be no assurance that the market segments for
the Company's products will develop or that the Company's
products will be adopted. There is also a risk that remote PC
users in the business sector will significantly increase their
use of other wireless networks such as CDPD for data
communication. If the market segments fail to develop, develop
more slowly than expected or become saturated with competitors,
or if the Company's products do not achieve market acceptance,
the Company's business, operating results and financial condition
will be materially adversely affected.
Competition. The Company's key current competitors in its legacy
business include Megahertz, a subsidiary of U.S. Robotics,
Motorola, Compaq and AT&T prior to its breakup. Effective
September 30, 1996, AT&T completed the divestiture of Lucent
Technologies, Inc. ("Lucent"), which had previously sold its AT&T
Paradyne unit. Spectrum is engaged in discussions with AT&T and
Lucent regarding the effect of the breakup on an intellectual
property license between AT&T and Spectrum. Also, Spectrum is
reviewing the business of the purchaser of Paradyne to assess the
appropriateness of a license. This breakup has provided an
opportunity to discuss modification to the existing license
agreement between Spectrum and AT&T or new relationships with the
entities that were spun off, however, there can be no assurance
that these discussions will result in favorable business
arrangements. The Company currently considers Sierra Wireless and
PCSI (a subsidiary of Cirrus Logic) as other potential
competitors primarily due to their alternative methods of
wireless data signal delivery, such as CDPD.
The market for remote access software is intensely competitive
and subject to rapid technological change. The Company expects
competition to persist, intensify and increase in the future.
Most of the Company's current and potential competitors have
longer operating histories producing software products, greater
name recognition, significant installed customer bases
and significantly greater financial, technical and marketing re-
sources than the Company. Such competition could materially adversely
affect the Company's business, operating results or financial condi-
tion. IBM Corporation has informed the industry that it is developing
15
<PAGE>
software technology that appears to have similar functionality to
certain aspects of the software that the Company is developing.
There can be no assurances that other companies are not
developing similar or competing products satisfying the same
market needs.
It is probable that synergies exist between the Company and its
competitors. Spectrum is engaged in assessing and developing such
synergies and potential partnerships. However, there can be no
assurance that these activities will result in favorable business
arrangements.
New Product Development and Technological Change. Substantially
all of the Company's current and near term revenues are expected
to be derived from the licensing of its proprietary technology
and sale of its associated activation kit products. Given the
limited revenue being generated and expected to be generated from
this existing business, it is essential for Spectrum to generate
revenues from other sources. The Company's ability to design,
develop, test and support new communications software and related
products and enhancements on a timely basis that meet changing
customer needs and respond to technological developments and
emerging industry standards is also critical to the Company's
long term success. There can be no assurance that the Company
will be successful in developing and marketing new software and
related products and enhancements that meet changing customer
needs and respond to such technological changes or evolving
industry standards. The Company's activation kit products are
designed for use primarily with analog circuit switched cellular
networks and with cellular phones. Future sales and growth of
products in the legacy business will be dependent, in part, on adding
capabilities in support of other types of wireless networks and
wireless peripheral terminals and in supporting remote user data
communications needs anyplace, anytime. Future sales of the
Company's new remote access software products will be dependent,
in part, on software products that add substantial value to end
users and data communications infrastructure providers. The
Company is not aware of any patents covering its new
communications software, but there can be no assurances that the
Company will not need to obtain licenses in the future. The
Company's inability to successfully expand its product offerings
could have a material adverse effect on the Company's business,
operating results or financial condition.
Evolving Distribution Channels. Spectrum has historically sold
its activation kit products to its licensees, most of which are
original equipment manufacturers ("OEMs") in the modem industry.
Given the limited distribution of its products through these
channels, the Company is evaluating different marketing plans as
part of the review of the legacy business. Even if the Company
decides to adopt a different method of distribution for its
legacy products, there are no assurances that its sales
performance will improve or that the business related to
activation kits will become profitable.
Spectrum does not expect that its existing OEM channels
will be the primary channels for distribution of its new line of
communications software that is under development, and will need
to develop new channels that may include other hardware OEM's,
data communications infrastructure providers and software
companies. Spectrum has not previously sold products into these
channels. Failure to identify and develop new channels will
inhibit the Company's ability to generate revenues from the
Company's new software products and will likely result in
continued operating losses and negative cash flow.
The Company plans to develop a limited sales force and
expand its marketing at the appropriate time. There can be no
assurance that such internal expansion will be successfully
completed, that the cost of such expansion will not exceed the
revenues generated, or that the Company's sales and marketing
organization will be able to successfully compete against the
significantly more extensive and well-funded sales and marketing
operations of many of the Company's current or potential
competitors. The Company's inability to effectively manage its
internal expansion could have a material adverse effect on the
Company's business, operating results or financial condition.
Management of Growth. The timely execution necessary for the
Company to fully exploit the market window for its products and
services requires an effective planning and management process.
The Company is continuing to increase its technical staff. To
manage its growth, the Company must continue to implement and
improve its operational and financial systems and to expand,
train and manage its employee base. There can be no assurance
that the Company will be able to successfully implement these
activities on a timely basis. Further, the Company will be
required to manage multiple relationships with various customers
and other third parties. Although the Company believes that it
has made adequate allowances for the costs and risks associated
with this expansion, there can be no assurance that the Company's
systems, procedures or controls will be adequate to support the
Company's operations or that the Company's management will be
able to achieve in a timely manner the expansion necessary to
fully exploit the market window for the Company's products and
services. If the Company is unable to manage growth effectively,
the Company's business, operating results and financial condition
will be materially adversely affected.
Dependence on Key Personnel. The Company is dependent on its
ability to retain and motivate high quality personnel, especially
its management and highly skilled engineering and software
development teams. The loss of the services of any of its
executive officers or other key employees could have a material
adverse effect on the business, operating results or financial
condition of the Company.
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The Company's future success also depends on its continuing
ability to identify, attract, hire, train and retain other highly
qualified technical personnel. Competition for such personnel is
intense, and given Spectrum's past history and delay in
consummation of the Plan, there can be no assurance that the
Company will be able to attract, assimilate or retain other
highly qualified technical and managerial personnel in the
future. The inability to attract and retain the necessary
technical and managerial personnel could have a material adverse
effect upon the Company's business, operating results or
financial condition.
Limited Capital Resources. If the Company successfully emerges
from Chapter 11 bankruptcy, it will have limited capital
resources to invest in product development and marketing and
selling. It is critical, therefore, to the Company's business,
operating results and financial condition that timely product
introduction and market acceptance is achieved. Any delays or
reduction in product shipments will have a material adverse
effect on the Company's business, operating results and financial
condition. As the Company's existing capital resources are
depleted by continuing operations and losses associated with its
legacy business, it becomes increasingly likely that the Company
will need to raise capital to fund the development and marketing
of its new communications software. As part of Spectrum's
bankruptcy reorganization efforts, between October of 1995 and
January of 1996, the Company through its financial adviser
contacted 48 potential investors regarding interest in investing
or developing a strategic relationship with Spectrum, none of
whom expressed an interest at that time when product strategies
were in their early stages. There can be no assurances that
Spectrum's new communications software development efforts will
interest potential investors.
Market Listing; Volatility of Stock Price. Spectrum was delisted
from the NASDAQ National Market in April 1995. Since then, the
Company's common stock has been traded on the NASD OTC Bulletin
Board. If the Company successfully emerges from Chapter 11, there
can be no assurance that an active public market for the common
stock will develop or be sustained. Further, the market
price of the Company's common stock is likely to be highly
volatile and could be subject to wide fluctuations in response to
exiting Chapter 11, quarterly variations in operating results,
announcements of technological innovations or new products by the
Company or its competitors, or other events or factors.
Shares Eligible for Future Sale. The preferred stock that will be
distributed to the plaintiffs in the Class Action Suits pursuant
to the Plan is convertible to common stock upon request of the
holder. Conversion to common stock of a significant number of
shares of preferred stock and a subsequent sale in the public
market could adversely affect the future market price for the
common stock. (See Note 3 and Part II - Other Information Item 1
- - Legal Proceedings - Bankruptcy Related Proceedings).
17
<PAGE>
Spectrum Information Technologies, Inc. and Subsidiaries
(Debtors in Possession)
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Bankruptcy Proceedings
On January 26, 1995 (the "Petition Date"), the Company and
three of its four operating subsidiaries (Computer Bay, Data One
and Cellular) filed petitions for relief under Chapter 11 of the
Bankruptcy Code in the United States Bankruptcy Court for the
Eastern District of New York (the "Bankruptcy Court"), Case Nos.
195 10690 260, 195 10691 260, 195 10692 260 and 195 10693 260,
respectively (the "Chapter 11 case"). Spectrum Global did not
file for bankruptcy protection. On February 8, 1995, the United
States Trustee appointed an Official Committee of Unsecured
Creditors to represent the creditors of Spectrum (the
"Committee"), and another committee for Computer Bay to represent
the interests of all unsecured creditors whose claims arose
before the Petition Date. No other committees have been
appointed. On May 25, 1995, the Bankruptcy Court, upon motion by
the Debtors, converted the Computer Bay proceeding to a case
under Chapter 7 of the Bankruptcy Code. A trustee has been
appointed to oversee liquidation of the Computer Bay assets.
Spectrum and Cellular have been substantively consolidated in the
bankruptcy proceeding and are continuing to manage their affairs
and operate their business under Chapter 11 as debtors in
possession while awaiting Bankruptcy Court approval of their
proposed plan of reorganization. During September 1996, the
Bankruptcy Court authorized Data One to distribute a separate
liquidating plan of reorganization under Chapter 11. All of the
voting creditors supported confirmation of this plan. The
Bankruptcy Court confirmed Data One's liquidating plan on August
6, 1996, which was consummated on October 4, 1996.
The Debtors' Proposed Plan of Reorganization
In March 1996, the Bankruptcy Court approved the Company's
Third Amended Disclosure Statement (the "Disclosure Statement")
with respect to the Third Amended Consolidated Plan of
Reorganization Proposed by Spectrum and Cellular (the "Plan")
dated as of March 18, 1996 finding the Disclosure Statement
adequate for distribution and vote by interested parties. As
contemplated by the Plan, the bankruptcy estates of Spectrum and
Cellular have been substantively consolidated. The Plan provides
all administrative creditors with full payment (unless a lesser
amount is agreed upon or ordered by the Bankruptcy Court) and all
general unsecured creditors with 100% of the value of their
claims plus 6% interest per annum from the filing date thereon.
It also settles the class action lawsuits of approximately
$676,000,000 filed against the Company by the payment of $250,000
and the delivery of approximately 45% of the equity ownership in
Spectrum to a trustee to be distributed to the members of the
class. Although existing Spectrum shareholders will be
substantially diluted under the terms of the Plan, such
shareholders should obtain the majority of the 45% equity
ownership in Spectrum set aside for existing shareholders and
certain creditors. The Plan also calls for management, employees
and non-executive directors of the Company participating in
developing the Plan to receive the remaining 10% ownership.
The Bankruptcy Court set April 22, 1996 as the deadline for
voting on the Plan. Each class entitled to vote on the Plan
accepted the Plan. Over 97% of Spectrum's voting unsecured
creditors, representing over 99% of the total dollar amount
voted, voted to accept the Plan. Under the Bankruptcy Code, a
class accepts a plan if two-thirds in amount and a majority in
number of the holders of claims voting cast ballots in favor of
acceptance. Holders of Spectrum's common stock representing
approximately 27,600,000 shares returned ballots, with over 95%
of those shares voted in favor of confirmation. A class of equity
interests is deemed to have accepted a plan if the plan is
accepted by holders of at least two-thirds of the allowed
interests that have voted on the plan. On August 14, 1996, the
United States Bankruptcy Court of the Eastern District of New
York entered an order confirming the Plan, as amended.
Consummation of the Plan and its Effective Date remain contingent
upon District Court approval of the Class Action Settlement (See
Note 3).
The Plan, upon its consummation and effective date, will
settle all material litigation now pending and provide all
general unsecured creditors with 100% of the value of their
claims plus 6% interest per annum from the filing date thereon.
The Company has segregated approximately $3.5 million for the
payment of general unsecured claims, the priority non-tax claim
and the Company's cash contribution to the settlement of the
class action lawsuits. To date, the Company has reconciled the
majority of the general unsecured creditor claims, with interest,
in the amount of approximately $2.6 million. A few outstanding
claims remain that the Company is attempting to reconcile before
the effective date of the Plan (the "Effective Date"). The Company
does not believe that the reconciliation of such claims will have
a material effect on the reserve established for payment to
unsecured creditors. The Plan also provides for the payment of
approximately $264,000 on the Effective Date to the holder of
the one priority nontax claim filed against Spectrum. The Plan
will also settle all of the class action lawsuits filed
against the Company by the payment of $250,000 by
18
<PAGE>
the Company and the delivery of approximately 45% of
the equity ownership in reorganized Spectrum to a trustee to be
distributed to the members of the class. (See Securities Related
Proceedings and Note 3). Under the terms of the proposed Plan,
existing shareholders will be substantially diluted but should
obtain the majority of the 45% equity ownership in reorganized
Spectrum set aside for such shareholders and certain creditors.
This should hold true even after the issuance of $300,000 of
stock to the Chapter 7 trustee of Computer Bay in connection with
the recent settlement of his claim and after the issuance of
approximately $112,000 of stock to the Company's former financial
advisor in connection with the settlement of its administrative
claim. Holders of allowed administrative claims (as agreed upon
or ordered by the Bankruptcy Court) will be paid in full under
the Plan.
Although the Bankruptcy Court confirmed the Plan at a
hearing on August 14, 1996, consummation of the Plan and its
Effective Date will remain contingent upon District Court
approval of the Class Action Settlement becoming final. A hearing
regarding this approval has been delayed several times. A hearing
is now scheduled for February 28, 1997 before the District Court.
The Company will amend its certificate of incorporation and
by-laws on the Effective Date. The Amended Certificate contains
certain provisions affecting the rights of shareholders,
corporate governance, and the transferability of Class A
Preferred Stock and Reorganized Spectrum Common Stock (as defined
below). Under the amended certificate of incorporation, the
authorized capital stock of the Company shall be comprised of (i)
10 million shares of reorganized Spectrum common stock
("Reorganized Spectrum Common Stock"), (ii) 1.5 million shares of
Class A preferred stock reserved for issuance in connection with
the settlement of the Class Action that was filed against the
Company in 1993 ("Class A Preferred Stock") and (iii) 2 million
shares of preferred stock ("Preferred Stock"). A description of
the amount of shares that will be issued within each class is set
forth below.
Issued and outstanding shares of the Company's common stock
will be canceled on the Effective Date and replaced with one (1)
share of Reorganized Spectrum Common Stock for each seventy-five
(75) shares of existing common stock. The Company currently has
authorized 110 million shares of common stock, of which
approximately 76.7 million are issued and outstanding. Therefore,
approximately 1 million shares of Reorganized Spectrum Common
Stock will be issued to existing shareholders on the Effective
Date. An additional $300,000 of Reorganized Spectrum Common Stock
will be issued to the Computer Bay trustee in connection with the
settlement of his claim (collectively, the Reorganized Spectrum
Common Stock issued to existing shareholders and the Computer Bay
trustee is defined as "Distributable Common Stock"). The Company
will also issue approximately $112,000 of stock to the Company's
former financial advisor in connection with the settlement of its
administrative claim. Stock options issued under the Company's
existing stock option plans will also be reverse split at a 75 to
1 ratio and repriced accordingly.
Pursuant to the Class Action Settlement, the Company will
issue a number of shares of Class A Preferred Stock equal to the
number of shares of Distributable Common Stock. The Class A
Preferred Stock is convertible to Reorganized Spectrum Common
Stock at any time within two years of its date of issuance and
automatically converts to Reorganized Spectrum Common Stock at
the expiration of two years.
As part of a bonus or success fee to employees, officers
and all non-executive directors for confirming a plan of
reorganization, the Company will also issue Reorganized Spectrum
Common stock pursuant to the two incentive compensation programs
described in the Plan, the Spectrum 1996 Stock Incentive Plan and
the Spectrum 1996 Incentive Deferral Plan, which collectively
authorize the issuance of an aggregate number of shares of
Reorganized Spectrum Common Stock equal to one-ninth (1/9) of the
aggregate number of shares of Distributable Common Stock and
Class A Preferred Stock (i.e., 10% of the reorganized equity
ownership) to directors, officers and employees of the Company on
the Effective Date. Except for 300 shares of Reorganized Spectrum
Common Stock that will be distributed to non-executive directors
on the Effective Date, the distribution of stock to directors,
officers and employees pursuant to such incentive programs shall
be distributed in three equal semi-annual installments following
the effective date. Under the Stock Incentive Plan, employees,
officers and directors will also be eligible to receive future
grants of performance based incentive awards with respect to an
aggregate number of shares equal to an additional one-ninth (1/9)
of the aggregate number of shares of Distributable Common Stock
and Class A Preferred Stock. Also, on the Effective Date, the
Company will distribute a $300,000 success bonus among all
employees.
Consummation of the Plan does not contemplate issuance of
the remainder of the 10 million authorized shares of Reorganized
Spectrum Common Stock, the remainder of the 1.5 million shares of
Class A Preferred Stock, or the 2 million shares of authorized
preferred stock. The details of the Plan, the proposed
recapitalization, and copies of the certificate of incorporation
and by-laws are set forth in detail in the Plan and associated
Disclosure Statement, which the Company filed with the SEC on its
Current Report on Form 8-K dated as of March 26, 1996.
If the Plan is not consummated (consummation is subject to
the District Court's approval of the Class Action Settlement),
the alternatives include: (a) continuation of the pending Chapter
11 cases; (b) alternative plans of reorganization; or (c)
liquidation of Debtors under Chapter 7 or Chapter 11 of the
Bankruptcy Code.
19
<PAGE>
Other Proceedings
A description of other legal proceedings involving the
Company is set forth in Part I, Note 3.
Item 2. Changes in Securities
None
Item 3. Defaults Upon Senior Securities
None
Item 4. Submission of Matters to Vote of Security Holders
None
Item 5. Other Information
None
Item 6. Exhibits and Reports on Form 8-K
A. Exhibits
No.
27 Financial Data Schedule
B. Reports on Form 8-K
None
20
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of
1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereto duly authorized.
Dated: February 7, 1997
SPECTRUM INFORMATION TECHNOLOGIES, INC.
By /s/ Donald J. Amoruso
----------------------------------
Donald J. Amoruso
President, Chief Executive Officer and
Chairman of the Board of Directors
By /s/ Barry J. Hintze
----------------------------------
Barry J. Hintze
Controller and
Principal Accounting Officer
21
<PAGE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM SPECTRUM
INFORMATION TECHNOLOGIES, INC. AND SUBSIDIARIES (DEBTORS IN POSSESSION)
UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS AND IS QUALIFIED IN ITS ENTIRETY BY
REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-END> MAR-31-1997
<CASH> 5,051
<SECURITIES> 4,843
<RECEIVABLES> 424
<ALLOWANCES> 80
<INVENTORY> 0
<CURRENT-ASSETS> 10,662
<PP&E> 525
<DEPRECIATION> 303
<TOTAL-ASSETS> 11,224
<CURRENT-LIABILITIES> 2,680
<BONDS> 0
0
0
<COMMON> 77
<OTHER-SE> 174
<TOTAL-LIABILITY-AND-EQUITY> 11,224
<SALES> 232
<TOTAL-REVENUES> 1,664
<CGS> 88
<TOTAL-COSTS> 88
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> (1,982)
<INCOME-TAX> 0
<INCOME-CONTINUING> (2,513)
<DISCONTINUED> 531
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (1,982)
<EPS-PRIMARY> (.03)
<EPS-DILUTED> (.03)
</TABLE>
