SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-Q
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934.
FOR THE QUARTERLY PERIOD ENDED August 2, 1997 .
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 0-15991
Intelligent Electronics, Inc.
-----------------------------
(Exact name of registrant as specified in its charter)
Pennsylvania 23-2208404
- ------------------------------- ------------------
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
411 Eagleview Boulevard, Exton, PA 19341
---------------------------------------------------
(Address of principal executive offices) (Zip Code)
(610) 458-5500
--------------
(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 latest practicable date: 41,786,137 shares of
Common Stock, par value $0.01 per share were outstanding at September 5,
1997.
<PAGE>
INTELLIGENT ELECTRONICS, INC. and Subsidiaries
INDEX
Page No.
--------
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets
August 2, 1997 and February 1, 1997 3
Consolidated Statements of Operations
Three and Six Months Ended August 2, 1997 and August 3, 1996 4
Consolidated Statements of Cash Flows
Six Months Ended August 2, 1997 and August 3, 1996 5
Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 11
PART II. OTHER INFORMATION
Item 2. Change in Securities 14
Item 4. Submission of Matters to a Vote of Security Holders 14
Item 6. Exhibits and Reports on Form 8-K 15
SIGNATURES 16
<PAGE>
<TABLE>
<CAPTION>
PART I - FINANCIAL INFORMATION FORM 10-Q
INTELLIGENT ELECTRONICS, INC. and Subsidiaries
Consolidated Balance Sheets
(in thousands, except share-related data)
August 2, February 1,
1997 1997
----------- -----------
(unaudited)
Assets
Current assets:
<S> <C> <C>
Cash and cash equivalents $ 44,513 $ 42,881
Escrow receivables 45,313 -
Accounts receivable, net 42,305 149,107
Inventory 4,100 311,669
Prepaid expenses and other current assets 1,810 4,834
Deferred income taxes 7,617 11,861
----------- -----------
Total current assets 145,658 520,352
Property and equipment, net 7,835 58,712
Intangible assets, primarily goodwill, net 44,835 91,914
Other assets 20,736 28,103
----------- -----------
Total assets $219,064 $699,081
=========== ===========
Liabilities and Shareholders' Equity
Current liabilities:
Short-term debt $ 4,283 $ 3,486
Accounts payable 33,081 430,107
Accrued liabilities 58,990 50,034
Long-term debt reclassified as current - 55,000
----------- -----------
Total current liabilities 96,354 538,627
----------- -----------
Long-term debt 5,103 3,496
Other long-term liabilities 16,907 11,015
Commitments and contingencies
Minority interest 10,963 10,472
Shareholders' equity:
Series B Convertible Preferred stock $50 par value per share:
Authorized 200,000 shares, issued and outstanding:
4,000 and 15,000 shares 200 750
Common stock $.01 par value per share:
Authorized 100,000,000 shares,
issued: 45,617,796 and 41,352,973 shares 456 413
Additional paid-in capital 285,826 284,666
Treasury stock (66,847) (67,311)
Accumulated deficit (129,898) (83,047)
----------- -----------
Total shareholders' equity 89,737 135,471
----------- -----------
Total liabilities and shareholders' equity $219,064 $699,081
=========== ===========
See accompanying notes to the consolidated financial statements.
/TABLE
<PAGE>
<TABLE>
<CAPTION>
INTELLIGENT ELECTRONICS, INC. and Subsidiaries
Consolidated Statements of Operations
(in thousands, except per-share data)
(unaudited)
Three months ended Six months ended
----------------------- ---------------------
August 2, August 3, August 2, August 3,
1997 1996 1997 1996
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
Revenues $186,755 $220,215 $386,207 $408,888
Cost of goods sold 161,747 196,342 336,346 363,311
--------- --------- --------- ---------
Gross profit 25,008 23,873 49,861 45,577
--------- --------- --------- ---------
Operating expenses:
Selling, general and administrative expenses 26,586 25,133 54,165 48,513
Amortization of intangibles, primarily goodwill 1,261 1,267 2,522 2,550
--------- --------- --------- ---------
Total operating expenses 27,847 26,400 56,687 51,063
--------- --------- --------- ---------
Loss from operations (2,839) (2,527) (6,826) (5,486)
Other income (expense):
Investment and other income (expense), net 102 (18) 168 (28)
Interest expense (743) (2,919) (2,357) (4,860)
Loss on XL Transaction (27,194) - (27,194) -
--------- --------- --------- ---------
Loss from continuing operations before income
tax provision (benefit) and minority interest (30,674) (5,464) (36,209) (10,374)
Income tax provision (benefit) 4,277 (1,679) 4,277 (2,853)
--------- --------- --------- ---------
Loss from continuing operations before
minority interest (34,951) (3,785) (40,486) (7,521)
Minority interest (320) - (419) -
--------- --------- --------- ---------
Loss from continuing operations (35,271) (3,785) (40,905) (7,521)
Discontinued operation:
Income (loss) from discontinued operation (net
of tax provision (benefit) of $(1,973)
$1,684, $(6,875) and $2,329) (5,840) 1,409 (12,095) 1,951
Gain on sale of discontinued operation (net
of tax provision of $4,582 and
$4,582) 6,875 - 6,875 -
--------- --------- --------- ---------
Net loss (34,236) (2,376) (46,125) (5,570)
Preferred stock dividend 130 - 355 -
Net loss applicable to common shareholders $(34,366) $ (2,376) $(46,480) $ (5,570)
========= ========= ========= =========
Earnings (loss) per share:
Continuing operations $ (0.92) $ (0.11) $ (1.11) $ (0.22)
Discontinued operation (0.15) 0.04 (0.32) 0.06
Sale of discontinued operation 0.18 - 0.18 -
--------- --------- --------- ---------
Net loss per common share applicable
to common shareholders $ (0.89) $ (0.07) $ (1.25) $ (0.16)
========= ========= ========= =========
Weighted average number of common shares
and share equivalents outstanding: 38,539 34,718 37,303 34,627
See accompanying notes to the consolidated financial statements.
/TABLE
<PAGE>
<TABLE>
<CAPTION>
INTELLIGENT ELECTRONICS, INC. and Subsidiaries
Consolidated Statements of Cash Flows
(in thousands, unaudited)
Six months ended
-------------------------
August 2, August 3,
1997 1996
---------- ----------
CASH FLOWS FROM OPERATING ACTIVITIES:
<S> <C> <C>
Net loss $ (46,125) $ (5,570)
Adjustments to reconcile net loss to net cash
provided by (used for) operating activities:
Depreciation and amortization 6,129 5,769
Write-down of property and equipment 2,720 -
Deferred taxes 2,864 2,392
Provision for losses on trade receivables 4,909 769
Provision for write-down of inventory 2,811 1,690
Minority interest in net income of XLConnect 491 -
(Income) loss from discontinued operation 12,095 (1,951)
Gain on RND Transaction (6,875) -
Changes in assets and liabilities excluding
effects of business sales:
Accounts receivable (12,261) (23,715)
Inventory (8,993) 13,006
Prepaid expenses and other current assets 158 2,126
Accounts payable 6,033 (39,670)
Accrued liabilities 38,065 320
---------- ----------
Net cash provided by (used for) operating activities 2,021 (44,834)
---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of property and equipment, net of disposals (3,705) (1,475)
Proceeds from XL Transaction 135,740 -
Transfers to escrow receivables (50,313) -
---------- ----------
Net cash provided by (used for) investing activities 81,722 (1,475)
---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of long-term debt reclassified as current (55,000) -
Net proceeds from working capital advances - 6,240
Proceeds from exercise of stock options - 1,867
Proceeds from employee stock purchase plan 93 247
Proceeds from loans on cash value of life insurance policies 4,220 -
Proceeds from long-term debt 5,500 -
Reduction in capital lease obligations (559) (371)
---------- ----------
Net cash provided by (used for) financing activities (45,746) 7,983
---------- ----------
Net cash provided by (used for) continuing operations 37,997 (38,326)
Cash provided by (used for) discontinued operation (36,365) 27,652
---------- ----------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 1,632 (10,674)
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 42,881 34,618
---------- ----------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 44,513 $ 23,944
========== ==========
See accompanying notes to the consolidated financial statements.
/TABLE
<PAGE>
INTELLIGENT ELECTRONICS, INC. and Subsidiaries
Notes to Consolidated Financial Statements
(unaudited)
(1) Basis of Presentation
---------------------
The consolidated financial statement information of Intelligent
Electronics, Inc. (the "Company") included herein is unaudited but, in the
opinion of management, reflects all adjustments, consisting of normal
recurring adjustments, necessary for a fair statement of the results for
the interim periods presented. These financial statements should be read
in conjunction with the audited consolidated financial statements and notes
thereto included in the Company's Annual Report on Form 10-K for the year
ended February 1, 1997.
On July 18, 1997, the Company sold its business (the "Indirect Business")
of providing information technology products, services and solutions to
network integrators and resellers to Ingram Micro Inc. ("Ingram") in the
RND Transaction (as defined in Note 3) and, accordingly, the Indirect
Business is treated as a discontinued operation in the accompanying
financial statements. Unless otherwise indicated, amounts and disclosures
referred to herein relate to continuing operations.
(2) New Accounting Standards
------------------------
In February 1997, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 128, Earnings per Share ("SFAS No.
128") which is effective for financial statements issued for periods ending
after December 15, 1997. SFAS No. 128 simplifies the previous standards
for computing earnings per share and requires the disclosure of basic and
diluted earnings per share. For the fiscal year ended February 1, 1997,
and the three and six months ended August 2, 1997 and August 3, 1996, the
amount reported as net loss per share applicable to common shareholders is
no different than that which would have been reported for basic and diluted
net loss per share applicable to common shareholders in accordance with
SFAS No. 128.
(3) Sale of Businesses
------------------
On July 18, 1997, the Company and certain of its direct and indirect
wholly-owned subsidiaries and XLConnect Solutions, Inc. ("XLConnect"), an
80% owned subsidiary, consummated the sale of certain assets under an Asset
Purchase Agreement, as amended (the "Purchase Agreement") with GE Capital
Information Technology Solutions Acquisition Corp. (the "Buyer"), a
subsidiary of GE Capital Information Technology Solutions, Inc. ("GECITS"),
pursuant to which:
(a) The Company sold to the Buyer certain assets related to the Company's
direct computer hardware sales business ("XLSource"), consisting
primarily of the inventory, accounts receivable and customer contracts
relating to 20 of the 24 XLSource locations and real property leases and
fixed assets related to six of such 20 locations; and
(b) XLConnect sold to the Buyer certain specified services contracts
and related assets, consisting principally of accounts receivable and fixed
assets.
The purchase price paid by the Buyer in the transaction pursuant to the
Purchase Agreement (the "XL Transaction") was approximately $136.5 million,
based on the estimated net book value of the assets being sold of
approximately $95.0 million. Of the total purchase price paid in the XL
Transaction, XLConnect received approximately $10.3 million (based on the
estimated net book value of the assets acquired from it of approximately
$5.6 million). The Company delivered a Balance Sheet as of the closing
date (the "Closing Balance Sheet") to the Buyer on August 29, 1997. The
Buyer has thirty days to review the Closing Balance Sheet and communicate
to the Company any disagreements. Of the purchase price, approximately
$102.9 million was paid in cash at closing, with approximately $32.8
million paid into escrow.
Approximately $22.8 million was put into escrow subject to release if and
when the consent of two customers, whose contract with XLSource is being
assigned in the transaction, are obtained. On September 15, 1997,
approximately $19.0 million was released as a result of obtaining
one of the required consents. As of September 16, 1997, the other consent
was still pending and the Company has therefore deferred the recognition
of the premium allocated to that contract, totaling approximately $0.9
million.
The remaining $10.0 million in escrow is to be retained for up to 240 days
to fund purchase price adjustments and obligations of the Company and
XLConnect under the Purchase Agreement, including the obligation to
repurchase from the Buyer any accounts receivable which were sold to the
Buyer and remain uncollected 120 days after the closing date.
As a result of the XL Transaction, the Company has preliminarily recorded a
pre-tax loss of approximately $27.2 million, net of transaction costs, plus
a tax provision of approximately $1.9 million. The tax provision is due to
differences between the tax bases of the assets being sold and their
amounts for financial reporting purposes (primarily goodwill). The loss
from the XL Transaction will be finalized after obtaining the remaining
required consent and resolution of the Closing Balance Sheet, which are
expected to take place in the quarter ending November 1, 1997.
On April 29, 1997, the Company entered into a definitive agreement with
Ingram to sell the stock and related assets and liabilities of the Indirect
Business for $78.0 million (the "RND Transaction"). On July 16, 1997, the
shareholders of the Company approved the sale of the Indirect Business and
on July 18, 1997, the sale was consummated. The purchase price was paid
by assumption of liabilities, based on the estimated balance sheet of the
Indirect Business at the time of closing. The Company paid to Ingram
approximately $4.5 million, which was the amount by which the estimated net
assumed liabilities exceeded the purchase price.
Three separate escrow accounts were established as part of the RND
transaction. An escrow in the amount of $10.0 million was established for
final settlement of any purchase price adjustments and indemnity claims.
This escrow was funded by an intercompany payable due from the Indirect
Business to the Company, which was paid by Ingram into escrow. A portion
of this escrow (no more than $8.0 million) will be released upon settlement
of the Closing Balance Sheet, to the extent not used to fund any
adjustments. The remaining $2.0 million will remain in escrow for at
least six months after the closing date to cover any indemnity claims.
Another escrow account in the amount of $2.5 million was established
pending resolution of certain issues between the Company and Ingram
relating to pre-closing revenues. This issue is expected to be resolved in
conjunction with the Closing Balance Sheet and the escrow will be disbursed
to the Company to the extent not used to fund any adjustments.
A third escrow account in the amount of $5.0 million was established to
secure the Company's obligations under the Amended and Restated Volume
Purchase Agreement ("Supply Agreement"), as more fully described below.
This escrow will be released after the Company completes its obligations
under the Supply Agreement in three to five years.
As a result of the RND Transaction, the Company has preliminarily recorded
a pre-tax gain of approximately $11.5 million, net of transaction costs,
and a tax provision of approximately $4.6 million. The gain on the RND
Transaction will be finalized after resolution of the Closing Balance
Sheet and the issue relating to pre-closing revenues, which are expected
to take place in the quarter ending November 1, 1997. Results of the
Indirect Business have been reported separately as a discontinued operation
in the accompanying Consolidated Statements of Operations.
The results of operations of the Indirect Business excluded from continuing
operations are summarized as follows (in thousands):
<TABLE>
<CAPTION>
Three months ended Six months ended
--------------------- ----------------------
August 2, August 3, August 2, August 3,
1997 1996 1997 1996
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Revenues $ 319,017 $ 646,485 $ 787,821 $1,335,751
Costs and expenses 326,830 643,392 806,791 1,331,471
---------- ---------- ---------- ----------
Income (loss) before taxes (7,813) 3,093 (18,970) 4,280
Income tax provision (benefit) (1,973) 1,684 (6,875) 2,329
---------- ---------- ---------- ----------
Income (loss) from discontinued operation $ (5,840) $ 1,409 $ (12,095) $ 1,951
========== ========== ========== ==========
</TABLE>
Pro forma results of operations of the Company for the three and six months
ended August 2, 1997 and August 3, 1996, assuming the XL Transaction and
the RND Transaction were consummated on February 4, 1996, are as follows
(in thousands):
<TABLE>
<CAPTION>
Three months ended Six months ended
---------------------- ----------------------
August 2, August 3, August 2, August 3,
1997 1996 1997 1996
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Revenues from continuing operations $ 85,613 $ 82,954 $ 164,910 $ 153,146
Loss from continuing operations (438) (1,439) (2,558) (6,148)
Loss from continuing operations per share (0.01) (0.04) (0.07) (0.18)
</TABLE>
Pro forma financial information presented above is not necessarily
indicative of the results of operations that would have occurred had the XL
Transaction and the RND Transaction taken place at the beginning of the
periods presented or of future results of operations.
Under the terms of the Supply Agreement, XLSource agreed to order 100% of
its product requirements available from Ingram, of no less than $1.8
billion, over a three-year period. If the minimum annual commitment is not
met, the Company may elect to extend this contract for up to two years. In
addition, if in any one year, purchases are below a certain level, an
adjustment may be made to the cost of products purchased from Ingram. The
Company has guaranteed to Ingram performance by XLSource of its obligations
under the Supply Agreement. In connection with the Supply Agreement,
Ingram agreed that certain product purchases by GE Capital Information
Technology Solutions - North America, Inc., an affiliate of the Buyer
("GECITS-NA"), from Ingram which are in excess of GECITS-NA's current
purchases from Ingram will be credited against XLSource's $1.8 billion
purchase commitment under the Supply Agreement. The Company believes that
GECITS-NA is not required to purchase any minimum amount of product from
Ingram. XLSource and the Company have not been released from any of their
obligations regarding the $1.8 billion commitment, and the Company has
delivered to Ingram a $7.5 million irrevocable letter of credit and the
$5.0 million escrow account discussed above to secure the purchase
commitment and other obligations of the Company. At the Company's
election, the $5.0 million escrow account can be replaced by a $5.0
million irrevocable letter of credit.
Although the Company believes that its purchases from Ingram and those of
GECITS-NA will satisfy XLSource's purchase obligations under the Supply
Agreement, there can be no assurance in that regard. In the event such
purchase obligations are not satisfied within the original term of the
Supply Agreement or any extension period, certain liquidated damages, in
the amount of 1.5% of any short-fall, are due to Ingram. Although the
Company does not currently believe that the payment of any such liquidated
damages will have a material adverse effect on the Company, there can be
no assurance in that regard.
(4) Management Changes
------------------
As a result of the RND Transaction, the services of Michael A. Norris,
President of the Company and Chief Executive Officer of the Reseller
Network, were determined to be no longer needed in running the day-to-day
operations of the Company. As such, Mr. Norris' employment will be
terminated effective September 30, 1997. Until that date, Mr. Norris will
assist with the closure of issues relating to the RND and XL Transactions.
Effective September 12, 1997, Thomas J. Coffey resigned as Senior Vice
President, Treasurer and Chief Financial and Accounting Officer. Mr.
Coffey has signed a consulting agreement with the Company to assist with
the closure of issues relating to the RND and XL Transactions. This
agreement can be terminated with two weeks' written notice by either party.
Eugene E. Marinelli, Jr. has been appointed Chief Financial and Accounting
Officer. Mr. Marinelli has been employed by the Company since January 1996
as its Director of Taxation. Prior to joining the Company, Mr. Marinelli was
a partner in the accounting firm of Marinelli and Kemmey.
Additionally, Richard D. Sanford, Chairman of the Board and Chief Executive
Officer of the Company has agreed to remain in the Company's employ through
December 31, 1997.
(5) Credit Facilities
-----------------
In April 1996, the Company signed a financing agreement, which has a
rolling eighteen month term and is renewable for six-month periods with the
consent of the lender and allows for total borrowings of up to $225
million, subject to a borrowing base formula. The facility can be used for
inventory financing, equipment financing and working capital purposes. The
Company is currently in negotiations with the lender for a reduced
facility. The Company repaid the $55 million long-term debt reclassified
as current plus all current interest-bearing borrowings with proceeds from
the XL Transaction. This facility imposes certain financial covenants relating
to the Company's current ratio, working capital, and tangible net worth. The
Company was in compliance with these covenants as of August 2, 1997 and
believes that it will remain in compliance during fiscal 1997.
In March 1997, the financing agreement was amended to delete the assets of
XLConnect and XLConnect's subsidiaries from the borrowing base, which in
effect reduces the amount the Company can borrow under this agreement by
$20 million. In conjunction with the March 1997 amendment, XLConnect
entered into a separate secured credit agreement with this lender in the
amount of $25 million, which the Company has guaranteed.
On May 15, 1997, the Company through XLSource, pledged its 80% ownership of
XLConnect's common stock to the above lender as security for the Company's
obligations to such lender. The Company can borrow under the financing
agreement up to 25% of the market value (calculated daily) of the XLConnect
pledged stock.
On July 18, 1997, the Company obtained a $7.5 million irrevocable letter of
credit to secure the Company's obligations under the Supply Agreement. A
portion of the financing agreement has been reserved for the letter of
credit and 120% of the face amount of the letter of credit is subtracted
from the borrowing base.
All borrowings under this agreement are included in accounts payable on the
Company's Consolidated Balance Sheets. As of August 2, 1997, $22.2 million
was available after considering the borrowing base formula (including the
reduction of the $7.5 million irrevocable letter of credit) and trade
payables outstanding to a vendor related to the lender.
On February 28, 1997, XLConnect entered into a transaction with a third
party whereby the third party agreed to provide an unsecured loan of up to
$11 million (the "Loan") to be used for specific business purposes. Up to
$5.5 million was available and has been drawn prior to August 28, 1997.
The remaining amount may be drawn after August 28, 1997 and prior to
February 28, 1998, subject to XLConnect satisfying certain financial
criteria, which have been met. Interest is payable at an initial annual
rate of 4% for the first two years, adjusts to 5% for the next two years
and then adjusts to 6% for the remaining term. Principal payments of $0.75
million will be made quarterly beginning in August 1999 with a final
payment of $1.25 million due on August 28, 2002. As of August 2, 1997,
$5.5 million was outstanding under the Loan. In connection with the Loan,
XLConnect issued to the third party a warrant to purchase up to 325,000
shares of XLConnect's common stock, which becomes exercisable on February
28, 1998, August 28, 1998 or February 28, 2002, depending on the occurrence
of certain events, at a per share exercise price of $6.65, and expires on
February 27, 2007. After considering the effects of the issuance of the
warrant and the resultant discounting of the Loan, the effective interest
rate is 7.4%.
(6) Preferred Stock
---------------
During the quarter ended May 3, 1997, 1,000 shares of the Company's Series
B Convertible Preferred Stock were converted into 370,362 shares of the
Company's Common Stock.
During the quarter ended August 2, 1997, 10,000 shares of the Company's
Series B Convertible Preferred Stock were converted into 3,894,461 shares
of Common Stock.
Subsequent to August 2, 1997, the remaining 4,000 shares of the Company's
Series B Convertible Preferred Stock were converted into 1,435,163 shares
of the Company's Common Stock.
Assuming the conversion of all shares of the Preferred Stock had taken
place at the beginning of the periods presented, the loss per share from
continuing operations would have been $(0.84) and $(0.98) for the three and
six months ended August 2, 1997, respectively, and $(0.09) and $(0.19) for
the three and six months ended August 3, 1996, respectively.
(7) Supplemental Cash Flow Information
----------------------------------
Cash payments during the six-month periods ended August 2, 1997 and
August 3, 1996 included interest of $3,555,000 and $4,330,000, respectively,
and income taxes of $143,000 and $85,000, respectively.
(8) Contingencies
-------------
In December 1994, several class action lawsuits were filed in the United
States District Court for the Eastern District of Pennsylvania (Civil
Action Nos. 94-3753, 94-CV-7410, 94-CV-7388, and 94-CV-7405) against the
Company and certain directors and officers. These lawsuits were
consolidated with a class action lawsuit filed in 1992 against the Company,
certain directors and officers, and the Company's auditor's in the United
States District Court for the Eastern District of Pennsylvania (Civil
Action No. 92-CV-1905). A derivative lawsuit was also filed in December
1994 in the Court of Common Pleas of Philadelphia County (No. 803) against
the Company and certain of its directors and officers. These lawsuits
alleged violations of certain disclosure and related provisions of the
federal securities laws and breach of fiduciary duties, including
allegations relating to the Company's practices regarding vendor marketing
funds, and sought damages in unspecified amounts as well as other monetary
and equitable relief. The Company has reached a settlement of the class
and derivative actions, without admitting any liability, under which the
class and derivative plaintiffs will receive a total of $10 million. Of
the $10 million, the Company contributed $3.8 million and the balance was
funded by insurance. The amount paid by the Company was accrued in fiscal
1994.
In addition, the Company is involved in various litigation and arbitration
matters in the ordinary course of business. The Company believes that it
has meritorious defenses in and is vigorously defending against all such
matters. Management believes the resolution of these matters will not have
a material adverse effect on the Company's financial position or results of
operations.
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Results of Operations
- ---------------------
Continuing Operations
Revenues declined 15.2% in the quarter ended August 2, 1997 ("Q2 1997")
compared to the quarter ended August 3, 1996 ("Q2 1996"). Revenues from
XLSource declined 21.1% as a result of the uncertainty surrounding the XL
Transaction consummated in July 1997 and the reduced number of locations
after the sale. XLConnect revenues increased 26.1% which was attributable
to growth in all of XLConnect's services disciplines. Revenues for the six
months ended August 2, 1997 also declined when compared to the same period
last year for the reasons explained above.
Gross margin as a percent of revenues was 13.4% and 12.9% for Q2 1997 and
the six months ended August 2, 1997, respectively, compared to 10.8% and
11.1% for Q2 1996 and the six months ended August 3, 1996, respectively.
The increase in the gross margin percent for Q2 1997 and the six months
ended August 2, 1997 compared to the same periods last year was
attributable to a higher proportion of revenues from XLConnect, which
generates a higher gross margin percent than direct hardware sales.
Selling, general and administrative expenses ("SG&A") increased by
approximately $1.5 million in Q2 1997 (14.2% of revenues) as compared to Q2
1996 (11.4% of revenues). SG&A increased by approximately $5.7 million for
the six months ended August 2, 1997 (14.0% of revenues) as compared to the
six months ended August 3, 1996 (11.9% of revenues). These increases were
primarily due to an increase in SG&A of approximately $2.6 million and $6.5
million for Q2 1997 and the six months ended August 2, 1997, respectively,
at XLConnect and severance and other costs for corporate personnel of
approximately $1.5 million, partially offset by savings at XLSource as a
result of the XL Transaction in July 1997. The increases at XLConnect were
due to higher overhead costs to support XLConnect's growth and enable it to
operate as a separate public company, as well as increased facility costs
necessary to support overall personnel growth and new market expansion.
The Company has reduced the headcount and expenses of its corporate staff,
which is expected to save approximately $2.2 million per quarter. Due to
transitional issues and the timing of these changes, the full effect is not
expected to be realized until the Company's fourth quarter (quarter ending
January 31, 1998). It is anticipated that the decrease in the corporate
staff will somewhat mitigate the continued increase in SG&A related to
XLConnect's growth.
Interest expense decreased for both Q2 1997 and the six months ended August
2, 1997 compared to the same periods last year as a result of the use of
proceeds from the XLConnect initial public offering in October 1996, the
sale of Preferred Stock in October 1996 and January 1997 and the proceeds
from the XL Transaction to repay outstanding debt.
The Company's effective tax rate for Q2 1997 was a 13.9% provision
compared to a 30.7% benefit for Q2 1996. For the six months ended August
2, 1997, the effective tax rate was an 11.8% provision compared to a 27.5%
benefit for the same period last year. These changes were primarily due to
the write-off of non-deductible goodwill as part of the XL Transaction and
an increase in the valuation allowance for deferred tax assets.
As a result of XL Transaction, the Company expects revenues, SG&A,
amortization of intangibles and interest expense to decrease, and gross
margin percent to increase as a higher portion of the Company's revenues
will be generated from XLConnect.
Discontinued Operation
- ----------------------
For Q2 1997 and the six months ended August 2, 1997, the pre-tax loss was
$7.8 million and $19.0 million, respectively, compared to a pre-tax profit
of $3.1 million and $4.3 million, respectively, for the same periods last
year. This change was due to lower revenues and gross margin percent as a
result of increased competitive pressures throughout the industry
primarily due to open-sourcing and the uncertainty of the future of the
Indirect Business. The Indirect Business experienced a trend of declining
sales caused by the Company's inability to retain and attract customers
resulting from a number of factors. These factors included: fewer product
lines offered by the Company compared to its larger competitors; a less
favorable allocation of constrained products (which can command a higher
gross margin) compared to prior periods; increased competition due to open-
sourcing; and continued consolidation in the reseller channel.
Liquidity and Capital Resources
- -------------------------------
The Company has been financed to date from stock offerings, bank and
subordinated borrowings, inventory financing and internally generated
funds. The principal uses of its cash have been to fund its accounts
receivable and inventory, make acquisitions, repurchase common stock,
invest in systems technology, and pay cash dividends.
As of August 2, 1997, the Company had cash and cash equivalents of $44.5
million compared to $42.9 million at February 1, 1997. In addition, the
Company has approximately $45.3 million in escrow classified as a current
asset pending resolution of the Closing Balance Sheets in the XL and RND
Transactions and certain other issues. There is also a $5 million escrow
included in Other assets on the Consolidated Balance Sheets which was
established to secure the Company's obligations under the Ingram Supply
Agreement. On September 15, 1997, the Company received from escrow $19.0
million after receiving one of the required consents in the XL Transaction.
It is anticipated that approximately $21.3 million of the remaining
escrows will be resolved and disbursed to the Company, to the extent not
used to fund any adjustments, by January 31, 1998 (the end of the Company's
fourth fiscal quarter). An additional $5 million in escrow is expected
to be resolved and disbursed to the Company, to the extent not used to fund
any adjustments, by May 2, 1998 (the end of the Company's first fiscal
quarter). The remaining $5 million escrow will be held until the Company
has satisfied its obligations under the Ingram Supply Agreement in three
to five years.
Working capital was $49.3 million at August 2, 1997 compared to negative
working capital of $18.3 million at February 1, 1997. The increase was
primarily due to the cash proceeds from the XL Transaction, net of the
repayment of the $55 million long-term debt reclassified as current.
As of August 2, 1997, the Company had a $225 million financing agreement,
of which $22.2 million was available after considering the borrowing base
formula (including the reduction of the $7.5 million irrevocable letter of
credit to secure the Company's obligations under the Ingram Supply
Agreement) and trade payables outstanding to a vendor related to the
lender.
Based on the Company's expected level of operations, including plans to
improve the performance of the remaining locations of XLSource, and capital
expenditure requirements, management believes that the Company's cash,
internally generated funds and available financing arrangements, will be
sufficient to meet the Company's cash requirements at least for the next
twelve months. However, if the Company continues to experience losses and
negative operating cash flows, the vendors of XLSource could elect to
restrict product availability and modify credit terms, which could have a
material adverse effect on the Company's liquidity position. In such
circumstances, there can be no assurance that alternative sources of
financing could be obtained.
Inflation and Seasonality
- -------------------------
The Company believes that inflation has not had a material impact on its
operations or liquidity to date. The Company believes that its business is
subject to some seasonality, and that weaker sales in the services part of
the business (XLConnect) may be experienced during the fourth quarter due
to fewer business days. The hardware part of the business (XLSource)
follows a seasonal pattern with peaks occurring near the end of the
calendar year.
Forward-Looking Statements
- --------------------------
The matters discussed in this Form 10-Q that are forward-looking statements
within the meaning of the federal securities laws are based on current
management expectations that involve risks and uncertainties. Potential
risks and uncertainties include, without limitation, the impact of economic
conditions generally and in the industry for microcomputer products and
services; the potential decline generally in the level of demand for the
Company's products and services; the potential termination or non-renewal
of a supply or services agreement with a major vendor or customer; continued
competitive and pricing pressures in the industry; product supply
shortages; open-sourcing of products from vendors; rapid product
improvement and technological change, short product life cycles and
resulting obsolescence risks; legal proceedings; risks associated with the
return of transaction escrows; and risks of unavailability of adequate
products, credit, capital or financing.
<PAGE>
INTELLIGENT ELECTRONICS, INC. and Subsidiaries
Part II - Other Information
Item 2. Changes in Securities
---------------------
(c) During the second quarter ended August 2, 1997, the holder of the
Company's Series B Convertible Preferred Stock ("Preferred
Stock") converted 10,000 shares of Preferred Stock having a
stated value of $10,000,000, together with the accrued premium
thereon of $310,373, into 3,894,461 shares of Common Stock. The
issuance of the shares of Common Stock was exempt from the
registration provisions of the Securities Act of 1933 (the "Act")
pursuant to Section 3(a)(9) for exchanges with existing security
holders. A registration statement covering the resale of the
Common Stock issued upon conversion of the Preferred Stock has
been declared effective under the Act.
Item 4. Submission of Matters to a Vote of Security Holders
---------------------------------------------------
The Annual Meeting of Shareholders of the Company was held on July 16,
1997. Shareholders voted on the following items:
(a) For the approval of the sale of the Company's Reseller Network (the
"Indirect Business"), and the adoption of the Stock Purchase Agreement
providing for the sale of the Indirect Business:
For Against Abstain
-------------------------------------------------
18,745,644 343,420 156,021
(b) For the Election of Directors:
Votes Votes Broker
Director Term Expiration For Withheld Non-Votes
-----------------------------------------------------------------------
Roger J. Fritz 2000 32,015,895 2,191,198 0
Arnold S. Hoffman 2000 31,793,529 2,413,564 0
Michael A. Norris 2000 32,831,054 1,376,039 0
John A. Porter 2000 30,628,074 3,579,019 0
Other directors whose term of office as a director continued after the
meeting were as follows:
Barry M. Abelson
Christopher T.G. Fish
William E. Johnson
Gregory A. Pratt
William L. Rulon-Miller
Richard D. Sanford
Item 6. Exhibits and Reports on Form 8-K
--------------------------------
(a) Exhibits
None
(b) Reports filed on Form 8-K.
The Company's Report on Form 8-K dated July 1, 1997 reporting,
under Item 5, the signing of an Asset Purchase Agreement with
GECITS, pursuant to which the Company agreed to sell certain
assets of its direct computer hardware sales business, and
XLConnect, an 80% owned subsidiary of the Company, agreed to sell
specified services contracts and related assets.
The Company's Report on Form 8-K dated July 18, 1997 reporting,
under Item 2, the consummation of the sale of certain assets of
its direct computer hardware sales business and certain specified
services contracts and related assets of XLConnect to GECITS and
the consummation of sale of the Company's Reseller Network to
Ingram.
<PAGE>
SIGNATURES
----------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Company has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Intelligent Electronics, Inc.
/s/ Eugene E. Marinelli, Jr.
-------------------------------
Eugene E. Marienlli, Jr.
Vice President, Chief
Financial Officer and
Chief Accounting Officer
Date: September 16, 1997
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