UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT of 1934.
For the quarterly period ended March 31,1998
OR
__ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934.
For the transition period from ________, 19__, to _______, 19__.
Commission File Number: 33-25308-D
CUSIP NUMBER 64121L 10 3
NETWORK SYSTEMS INTERNATIONAL, INC.
(Exact Name of Registrant as Specified in Charter)
Nevada 87-0460247
(State or Other Jurisdiction of (I.R.S. Employer Identification
Incorporation or Organization) Number)
200 North Elm Street, Greensboro, North Carolina 27401
(Address of Principal Executive Offices, Including Zip Code)
(336) 271-8400
(Registrant's Telephone Number, Including Area Code)
AQUA AUSTRALIS, INC.
1901 East University, Suite 200, Mesa, AZ 85023
(Former Name, Former Address and Former Fiscal Year, if Changed)
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 has been subject to such filing requirements for the past 90 days.
X YES ___ NO
There were 7,553,954 shares of the Registrant's .001 par value common
stock and 7,499 shares of Registrant $.001 par value preferred stock
outstanding as of April 30, 1998.
Transitional Small Business Format (check one) Yes __ No X
NETWORK SYSTEMS INTERNATIONAL, INC.
Contents
Part I - Financial Information
Item 1. Financial Statements
Consolidated Balance Sheet 3
Consolidated Statements of Operations
Three months ended March 31, 1998 and 1997 4
Consolidated Statements of Cash Flow
Three months ended March 31, 1998 and 1997 5
Consolidated Statement of Changes in 6
Stockholders' Equity
Notes to Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 15
Part II
Item 2. Changes in Securities 18
Item 4. Submission of Matters to Vote of Security 18
Holders
Item 5. Other Matters 19
Item 6 Exhibits and Reports on Form 8-K 19
Signatures 19
<TABLE>
PART I. FINANCIAL STATEMENTS
Network Systems International, Inc. and Subsidiaries
Consolidated Balance Sheet
March 31, 1998
<CAPTION>
(Unaudited)
<S> <C>
Assets
Current Assets
Cash $1,842,887
Accounts receivable, trade, net of allowance of $631,738 2,759,211
Notes receivable, current portion 30,000
Accounts receivable, related parties 103,936
Other current assets 19,851
Total Current Assets 4,755,885
Property and equipment, net of accumulated depreciation 1,224,430
Other Assets
Notes receivable, net of current portion 125,396
Software development costs, net of accumulated amortization 1,419,124
Other 93,286
1,637,806
$7,618,121
Liabilities and Stockholders' Equity
Current Liabilities:
Notes payable, current portion 31,000
Capital lease obligation, current portion 83,000
Accounts payable, trade 951,930
Other accrued liabilities 87,483
Income taxes payable 288,040
Deferred revenue 427,738
Total current liabilities 1,869,191
Long Term Liabilities:
Deferred income taxes 441,500
Notes payable, net of current maturities 339,744
Capital lease obligation, net of current maturities 120,802
Total long term liabilities 902,046
Stockholders' Equity
Preferred Stock; $.001 par value; authorized 12,500 shares;
issued and outstanding 9,124 shares 9
Common Stock; $.001 par value; authorized 100,000,000
shares; issued and outstanding 7,473,054 shares 7,473
Capital in excess of par value 3,124,348
Retained Earnings 1,715,054
Total stockholders' equity 4,846,884
$7,618,121
</TABLE>
The accompanying notes are an integral part of the consolidated
financial statements.
<TABLE>
Network Systems International, Inc. and Subsidiaries
Consolidated Statements of Operations (Unaudited)
<CAPTION>
Three Months Ended March 31, Six Months Ended March 31,
1998 1997 1998 1997
<S> <C> <C> <C> <C>
Revenue:
Licensing and servicing $1,482,170 $1,343,021 $3,841,372 $2,372,658
revenue
Equipment revenue 1,714,749 561,730 2,584,343 964,956
Total revenue 3,196,919 1,904,751 $6,425,715 3,337,614
Operating expenses
Cost of sales and 1,923,161 905,970 3,137,208 1,553,185
services
Research and development 142,830 71,487 215,575 161,236
General and 570,726 438,123 1,257,821 672,539
administrative
2,636,717 1,415,580 4,610,604 2,386,960
Operating income 560,202 489,171 1,815,111 950,654
Other income (expense)
Interest, Net 13,940 (23,873) 13,729 (40,711)
Other income 15,008 2,848 15,008 3,022
28,948 (21,025) 28,737 (37,689)
Income before income
tax provision 589,150 468,146 1,843,848 912,965
Income tax provision 189,600 160,000 655,500 304,000
Net income $ 399,550 $ 308,146 $1,188,348 $ 608,965
Earnings per common share $ .05 $ .04 $ .16 $ .08
Earnings per common share -
assuming dilution $ .05 $ .04 $ .15 $ .08
</TABLE>
The accompanying notes are an integral part of the consolidated
financial statements.
<TABLE>
NETWORK SYSTEMS INTERNATIONAL, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOW
(Unaudited)
<CAPTION>
Six Months Ended March 31
1998 1997
<S> <C> <C>
Operating activities
Net income $1,188,348 $ 608,965
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 818,556 607,538
Promotional fees paid with stock 72,000
Provision for bad debts 179,752 82,810
(Increase) in:
Accounts receivable and unbilled (1,272,872) (730,627)
receivables
Prepaid assets, other receivables, and 271,033 (29,033)
other assets
Increase (decrease) in:
Bank overdraft (131,382)
Accounts payable and accrued liabilities 918,392 259,903
Income tax payable 288,040 202,115
Unearned revenue 166,753 69,340
Deferred income taxes (159,800) 56,000
Billings in excess of costs and earnings
on __________ (270,700)
uncompleted contracts
Total adjustments 1,150,472 247,346
Net cash provided by operating activities 2,338,820 856,311
Investing activities
Deposit on equipment (50,000)
Acquisition of property and equipment (312,392) (43,267)
Software development (562,050) (762,314)
Issuance of Note Receivable (200,000)
Payment received on Note Receivable 213,456
Increase in cash surrender value of life insurance (22,473) (19,144)
Net cash (used) by investing activities (883,459) (874,725)
Financing activities
Payment on notes payable, long-term debt and
capital leases (48,986) (82,899)
Net proceeds from issuance of preferred stock 684,690
Dividends paid (54,901) (7,369)
Net (payments) on line of credit ___________ (19,747)
Net cash (used) provided by financing activities (103,887) 574,675
Net increase in cash 1,351,474 556,261
Cash at October 1 491,413 77,487
Cash at March 31 $1,842,887 $ 633,748
Supplemental disclosures of cash flow information
and noncash investing and financing activities
Cash paid during the period for:
Interest $ 26,700 $ 40,711
Taxes $ 468,660 $ 45,800
</TABLE>
During the first quarter of 1998, the Company issued 56,250 shares of
its common stock recorded at $132,000 as payment for promotional
expenditures of which $72,000 was recorded during the first quarter of
1998 and $60,000 during the prior year.
During the second quarter of 1998, 3,185 shares of preferred stock
were converted into 159,250 shares of common stock.
The accompanying notes are an integral part of the financial
statements.
<TABLE>
Network Systems International, Inc. and Subsidiaries
Consolidated Statement of Changes in Stockholders' Equity
Six months ended March 31, 1998
<CAPTION>
Common Stock Preferred Stock
______________________ __________________
$0.001 Capital in
Number of Par $0.001 Excess of Retained
Shares Value # of Par Value Par Value Earnings Total
Shares
<S> <C> <C> <C> <C> <C> <C> <C>
Balance September 7,257,554 $ 7,258 12,309 $ 12 $2,992,560 $ 581,607 $3,581,437
30, 1997
Issuance of 56,250 56 131,944 132,000
common stock
Conversion of 159,250 159 (3,185) (3) (156) 0
preferred stock
Net income for
the six month
period ended 1,188,348 1,188,348
March 31, 1998
Dividends on _________ _______ _______ _______ __________ (54,901) (54,901)
preferred stock
Balance March 31, 7,473,054 $ 7,473 9,124 $ 9 $3,124,348 $1,715,054 $4,846,884
1998
</TABLE>
The accompanying notes are an integral part of the consolidated
financial statements.
Network Systems International, Inc.
and Subsidiaries
Notes to Consolidated Financial Statements
For the Six Months Ended March 31, 1998 and March 31, 1997 (Unaudited)
1. Background Information
Network Systems International, Inc. (the Company), formerly Aqua
Australis, Inc., was incorporated on September 21, 1988 in the state
of Nevada. This corporation was considered a development stage
company whose principal business activity was to seek potential
business ventures and assets, which would warrant involvement or
purchase, by the Company.
On April 22, 1996, the Company completed a reverse triangular merger
whereby two of its wholly owned subsidiary corporations merged with
two North Carolina corporations, with the North Carolina corporations
being the surviving corporations in the merger. Immediately
thereafter, the Company, with the approval of its shareholders, caused
its corporate charter to be amended to change its name to Network
Systems International, Inc. The newly named company is now the parent
company of two wholly owned subsidiary corporations: Network
Information Services, Inc. (NIS) and Network Investment Group, Inc.
(NIG), both North Carolina corporations. Immediately prior to the
merger, the shareholders of the Company also approved a two for one
reverse split of all issued and outstanding shares of the Company's
common stock with a $.001 par value and Network Partners, LLC
effectively merged into NIS. All per share data has been
retroactively restated to show the effects of the two for one reverse
split. In addition, immediately prior to the merger, the then
controlling stockholders of the Company turned in approximately 17.5
million shares of the Company which were then canceled.
As a result of the merger, accounted for as a reverse acquisition
which is similar to the purchase method of accounting, shareholders of
NIS and NIG caused the transfer of all of their shares of common stock
in the companies, which had a total assets value of approximately
$3,800,000, to the Company in exchange for 6,562,720 shares of common
stock of the Company.
NIS was incorporated under the laws of the state of North Carolina on
September 9, 1985 and develops, licenses, and supports software
products primarily for the textile, sewn products and process
manufacturing industries. Operations are concentrated in North and
South Carolina, however, NIS has clients throughout the East Coast of
the United States. It employs approximately 50 full-time employees.
The corporate headquarters is located in Greensboro, North Carolina.
NIG was incorporated under the laws of North Carolina on April 7, 1993
and sells computer hardware to manufacturing industries. Operations
are concentrated in North Carolina and South Carolina, however, it has
clients throughout the East Coast of the United States. The corporate
headquarters is located in Greensboro, North Carolina.
The Company changed their year-end from December 31 to September 30 in
1996.
In November of 1996, the Company set aside 625,000 shares of its
unissued common stock to be awarded to key employees of the Company at
a later date.
In December 1996 the Company entered into an agreement with an
underwriter to promote the sale of 15,625 shares of preferred stock in
a private placement stock offering. The Company sold 12,309 shares of
Series A preferred stock at a purchase price of $100 per share. Each
share of preferred stock receives an annual cumulative dividend of
$10, payable monthly, and is convertible into 50 shares of common
stock at the holders discretion. Upon liquidation of the Company, the
holders of this preferred stock are entitled to receive $100 per
share, plus an amount equal to all dividends accrued and unpaid to the
date of final distribution. The preferred stock is redeemable for
cash at the option of the company at any time after January 12, 1998
based on a sliding payment scale over time. Holders of the preferred
stock have no voting privileges.
The Company raised $856,689 in connection with this private placement
offering which is net of offering expenses of $128,011.
On July 16, 1997, the Company entered into a six-month agreement with
a director of the Company to promote its stock. In exchange for the
promoters efforts the Company agreed to issue common stock for
services rendered if the common stock achieved certain minimum bid
price levels. Through March 31, 1998, the promoter earned 56,250
shares valued at $132,000 under the terms of this agreement.
On January 12, 1998 the Board of Directors authorized a five for four
split on the outstanding common and preferred stock of the Company for
stockholders of record as of January 16, 1998. All references in the
accompanying financial statements to the number of shares have been
restated to reflect this transaction.
On April 14, 1998 the Company signed a letter of intent to merge one
of its' wholly owned subsidiaries with Houston based Innovative
Control Concepts, Inc. ("ICC"). ICC is a privately held Company with
five operating offices in various states, and provides engineering
design and control systems to the manufacturing process industry and
operates as a process consultant for specific software applications
including facility planning; property; plant and process design; CAD
services; technical consulting and Year 2000 solution services.
2. Summaries of Significant Accounting Policies
Basis of Preparation:
The financial statements consolidate the Accounts of Network Systems
International, Inc. and its wholly owned subsidiaries Network
Information Services, Inc. and Network Investment Group, Inc.
In the opinion of management, all adjustments, consisting only of
normal recurring adjustments necessary for a fair statement of (a) the
results of operations for the three and six month periods ended March
31, 1998 and 1997, (b) the financial position at March 31, 1998, and
(c) cash flows for the six month periods ended March 31, 1998 and
1997, have been made.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the
date of the consolidated financial statements and the reported amounts
of revenues and expenses during the reporting period. Actual results
could differ from those estimates.
Financial Instruments:
Financial instruments, which potentially subject the Company to
concentrations of credit risk, consist primarily of trade receivables.
The Company performs on-going credit evaluations of its customers'
financial condition.
Cash deposits with one institution are in excess of The Federal
Deposit Insurance Corporations average limit of $100,000.
Property and Equipment:
Property and equipment are recorded at cost. Additions to and major
improvements of property and equipment are capitalized. Maintenance
and repair expenditures are charged to expense as incurred. As
property is sold or retired, the applicable cost and accumulated
depreciation are eliminated from the accounts and any gain or loss is
recorded. Depreciation and amortization are calculated using the
double declining balance and straight-line methods based upon the
assets estimated useful lives as follows:
Building 39
Leasehold improvements 7-39
Furniture and fixtures 7
Office equipment 5-7
Computer equipment 5-7
Computer software 3-5
Computer software equipment under capital 3-5
lease
Software Development Cost:
The Company capitalizes internally generated software development
costs in compliance with Statement of Financial Accounting Standards
No. 86, "Accounting for the Costs of Computer Software to be Sold,
Leased, or Otherwise Marketed". The Company capitalizes the direct
costs and allocated overhead associated with the development of
software products. Initial costs are charged to operations as
research and development prior to the development of a detailed
program design or a working model. Capitalization of computer
software development costs begins upon the establishment of technical
feasibility for the product. Costs incurred subsequent to the product
release are charged to operations. Capitalized software development
costs amounted to $562,050 and $762,314 for the six-month period ended
March 31, 1998 and 1997, respectively. The Company capitalized
software development costs of $226,531 and $371,826 for the three-
month periods ended March 31, 1998 and 1997, respectively.
Amortization of capitalized computer software development costs begins
when the products are available for general release to customers, and
is computed on a product-by-product basis as the greater of a) the
ratio of current gross revenues for a product to the total of current
and anticipated future gross revenues for the product or b) the
straight-line method over the remaining estimated economic life of the
product. The Companies have estimated that the useful economic life
of its products is two years. Amortization expense of capitalized
software cost amounted to $734,719 and $516,914 for the six month
period ended March 31, 1998 and 1997, respectively, and is included in
cost of sales. Amortization expense for the three-month periods ended
March 31, 1998 and 1997 totaled $376,146 and $276,820, respectfully.
Software development costs at March 31, 1998 consist of the following:
Software Development Costs 3,262,871
Less Accumulated Amortization (1,843,747)
1,419,124
Revenue:
The Company generates several types of revenue which are accounted for
as follows:
Revenue from the sale of software licenses is recognized after
shipment and fulfillment of all major obligations under the terms of
the licensing agreements. The licensing agreements are typically for
the use of company products and are usually restricted by the number
of copies, the number of users and the term.
Revenue from "time and materials" contracts is recognized when the
services are performed. Services performed that have been authorized
but may not be currently billable are classified as unbilled account
receivables.
Revenues from fixed price contracts are recognized using the
percentage-of-completion method, measured by direct hours. Contract
costs include direct labor combined with allocations of operational
overhead and other direct costs. Provisions for estimated losses on
uncompleted contracts are made in the period in which such losses are
determined. Changes in job performance, job conditions and estimated
profitability which may result in revisions to costs and revenue are
recognized in the period in which the revenues are determined.
Support agreements generally call for the Company to provide technical
support and certain software updates to customers. Revenue on support
and software update rights is recognized ratably over the term of the
support agreement.
The Company provides consulting and educational services to its
customers. Revenue from such services is generally recognized as the
services are performed.
Hardware revenue is recognized when the product is shipped to the
customer.
In October, 1997, the American Institute of Certified Public
Accountants issued Statement of Position Number 97-2 "Software Revenue
Recognition". This statement provides recognition and measurement
guidance in accounting for revenue from selling, leasing or licensing
of software and is effective for transactions entered into in fiscal
years beginning after December 15, 1997. The Company has elected to
adopt this statement. The adoption of this statement does not have a
material effect on the Company's financial statements.
Advertising Costs:
Advertising costs, except for costs associated with direct response
advertising, are charged to operations when incurred. The costs of
direct response advertising are capitalized and amortized over the
period during which future benefits are expected to be received.
Advertising expense amounted to $21,251 and $50,684 for the six-month
periods ended March 31, 1998 and March 31, 1997, respectively.
Advertising expense for the three-month periods ended March 31, 1998
and 1997 totaled $13,922 and $20,195, respectively. No material
amounts were capitalized during the six-month period ended March 31,
1998. Advertising costs of $13,264 were capitalized during the six-
month period ended March 31, 1997.
Income Tax:
Prior to the merger on April 22, 1996, the principal operating
subsidiary of the Company (NIS) was treated as an S corporation for
tax purposes. As such, income and deductions attributable to NIS were
reported by its shareholders, and no tax expense or liability was
recorded by the Company up until such date. Activities of the Company
and its other subsidiary prior to that date did not give rise to a
material liability for income taxes. Beginning in April, 1996, income
taxes are provided for transactions reported in the financial
statements.
Deferred income taxes are provided for when transactions are reflected
in income for financial reporting purposes in a year other than the
year of their inclusion in taxable income. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply to
taxable income in the years in which those temporary differences are
expected to be recovered or settled. The effect on deferred tax
assets and liabilities of a change in tax rates is recognized in
income in the period that includes the enactment date.
Earnings Per Share:
During the period ended March 31, 1998, the Company adopted Statement
of Financial Accounting Standards No. 128 (SFAS 28), "Earnings Per
Share". This statement requires dual presentation of basic and
diluted earnings per share (EPS) for complex capital structures on the
face of the income statement. Basic EPS is computed by dividing
income available to common shareholders by the weighted average number
of common shares outstanding for the period. Diluted EPS reflects the
potential dilution from the exercise or conversion of securities into
common stock. The March 31, 1997 earnings per share is restated to
give effect to the application of SFAS 128 and does not materially
differ from EPS as previously reported under APB Opinion No. 15
"Earnings Per Share".
3. Accounts Receivable, Related Parties.
Accounts Receivable from related parties at March 31, 1998, consist of
amount due from three (3) shareholders of the Company that bear
interest at five percent, are due on demand, and collateralized by
their common stock in the Company.
4. Notes Receivable
Notes Receivable at March 31, 1998 consists of the following:
Notes receivable, 60 monthly principle and interest
payments of $3,563 until September 1, 2002, remaining
balance due at that time, secured by work in progress,
inventory, accounts receivable and personal property $ 155,396
Less amounts shown as current $ 30,000
$ 125,396
5. Property and Equipment
Property and equipment at March 31, 1998 consists of the following:
Land 150,000
Building 569,000
Leasehold improvements 100,043
Furniture and fixtures 123,496
Office equipment 113,475
Computer equipment 357,922
Computer software 67,523
Computer equipment and software under capital lease 324,931
1,806,390
Less accumulated depreciation and amortization (413,780)
Accumulated amortization on computer equipment and
software (168,180)
under capital lease
$1,224,430
6. Notes Payable
Notes payable at March 31, 1998 consist of the following:
Mortgage note payable:
interest at prime plus 0.25%; monthly principal
payments of $2,612 plus interest; balloon payment
due March 10, 2000; collateralized by building;
personally guaranteed by certain stockholders $ 370,744
Less amounts currently due 31,000
$ 339,744
The following is a schedule by year of the principal payments required on
this note payable as of March 31, 1998:
1999 $ 31,000
2000 $ 31,000
2001 $ 308,744
The Company has available a $300,000 bank line of credit to provide
additional short-term working capital. This line of credit is at
prime plus .5% and is collateralized by accounts receivable and
equipment. Additionally, the line is personally guaranteed by certain
stockholders. At March 31, 1998, there were no amounts outstanding on
this line of credit.
7. Obligations Under Capital Leases
The Company has capitalized rental obligations under three leases of
software and equipment. The obligations, which mature in fiscal 2000
and 2001, represent the total present value of future rental payments
discounted at the interest rates implicit in the leases. Future
minimum lease payments under the capital leases are:
Period Ending March 31
1999 97,968
2000 89,490
2001 26,670
2002 10,950
Total minimum lease payments 225,078
Less amount representing interest 21,276
Present value of net minimum lease payments 203,802
Less current portion 83,000
$120,802
8. Retirement Benefit Plan
Effective January 1, 1993, the Company established a retirement plan
which allows participants to make contributions by salary reduction
under Section 401(k) of the Internal Revenue Code. The Company made
matching contributions to the plan of $8,431 and $4,425 for the six
and three months ended March 31, 1998 and 1997, respectively. No
contributions were made to the plan for the six and three months ended
March 31, 1997.
9. Income Taxes
As a result of the reverse acquisition on April 22, 1996, the
Subchapter S status of one of the Company's subsidiaries was
terminated. After that date, the financial statements of the Company
provide for the income tax effect of earnings reported in the
financial statements, including taxes currently due and taxes deferred
because of different accounting methods used for financial and income
tax reporting. Prior to the change in tax status, earnings and losses
were included in the personal tax returns of the stockholders and
taxed depending on their personal tax situations and the Company did
not record an income tax provision. The change in tax status
necessitated the recognition of the cumulative deferred income
existing as of the date of the termination of the S status which
resulted in a one-time charge to deferred tax expense of $435,200.
Net income from operations before income taxes totaled $1,843,848 and
$912,965 for the six months ended March 31, 1998 and 1997,
respectively. The provision for income taxes for the six months ended
March 31, 1998 and 1997 consists of the following components:
1998 1997
Current tax expense $875,700 $302,500
Deferred tax expense (159,800) 40,700
Credit for research and development (60,400) (39,200)
activities
$655,500 $304,000
The significant temporary differences which gave rise to deferred tax
assets and liabilities as of March 31, 1998 and 1997 are as follows:
1998 1997
Deferred tax asset
Bad debt revenue $ 631,700 $ 269,700
Deferred tax liabilities
Software development cost 1,419,100 1,341,200
Book basis of property & equipment
in excess of tax basis 104,500 81,600
Change in tax status 272,900 454,800
$1,796,500 $1,877,600
As of March 31, 1998, the Company has federal loss carryforwards
totaling $77,700 that may be offset against future federal taxable
income. If not used, the carryforward will expire as follows:
Operating
losses
2003 $ 20,600
2009 49,300
2010 7,800
2011 -
2012 -
$ 77,700
No valuation allowance has been recorded against the deferred tax
assets or operating loss or tax credit carryforwards because
recognition of the cumulative deferred income arising from the change
in tax status should be sufficient to offset the remaining tax assets.
The difference between the provision for income taxes and the amounts
obtained by applying the statutory U.S. Federal income tax rate to
income before taxes for the six months ended March 31, 1998 and March
31, 1997 are as follows:
1998 1997
Tax expense at U.S. statutory $626,900 34.0% $ 310,400 34.0%
rates
State and local income tax 88,900 4.8% 21,300 2.3%
Non-deductible expense and other (15,300) (0.8%) - -
Credit for increasing research (45,000) (2.4%) (27,700) (3.0%)
activities
$655,500 35.6% $ 304,000 33.3%
10. Earnings Per Share
<TABLE>
The following data shows the amounts used in computing earnings per
share and the effect on income and the weighted average number of
shares of dilutive potential common stock.
<CAPTION>
Three Months Ended March 31, Six Months Ended March 31,
1998 1997 1998 1997
<S> <C> <C> <C> <C>
Net income $ 399,550 $ 308,146 $1,188,348 $ 608,965
Less preferred stock dividends (25,364) (7,369) (54,901) (7,369)
Income available to common
stockholders $ 374,186 $ 300,777 $1,133,447 $ 601,596
used in basic EPS
Preferred stock dividends 25,364 7,369 54,901 7,369
Income available to common
stockholders $ 399,550 $ 308,146 $1,188,348 $ 608,965
after assumed conversion of
dilutive securities
Weighted average number of
common shares used in basic EPS 7,380,416 7,257,720 7,322,946 7,257,720
Effect of dilutive convertible 548,838 315,617 582,510 156,075
preferred stock
Weighted average number of
common shares and dilutive
potential common stock used in 7,929,254 7,573,337 7,905,456 7,413,795
diluted EPS
</TABLE>
11. Major Customer
For the three-month period ended March 31, 1998, sales to four
customers amounted to approximately $1,764,000. For the three-month
period ended March 31, 1997, sales to three customers amounted to
approximately $906,000. For the six-month period ended March 31,
1998, sales to three customers amounted to approximately $3,172,000.
For the six-month period ended March 31, 1997, sales to three
customers amounted to approximately $1,588,000.
At March 31, 1998 and 1997 accounts receivable balance included
$1,256,000 and $844,000 due from two and three customers,
respectfully.
12. Lease Commitments
The following is a schedule by year of future minimum rental payments
required under operating leases that have an initial or remaining
noncancelable lease term in excess of one year as of March 31, 1998:
1999 59,702
2000 31,292
2001 4,280
2002 3,667
2003 306
Rent expense amounted to $23,934 and $12,123 for the three months
ended March 31, 1998 and 1997, respectively. Rent expense amounted to
$39,615 and $21,781 for the six months ended March 31, 1998 and 1997,
respectively.
13. Commitments
The Company entered into 20-year employment agreements with five of
its officers calling for annual salaries totaling no less than
$195,000.
14. Segment Information
In June 1997, the Financial Accounting Standards Board issued FASB
#131 "Disclosures about Segments of an Enterprise and Related
Information". This statement establishes standards for the way that
public companies report information about operating segments in annual
financial statements and is required for periods beginning after
December 15, 1997; however earlier application is encouraged. The
Company has elected to adopt this statement.
The Company's operations are classified into two principal industry
segments: Hardware sales and sales of Software Licenses and related
service fees.
The accounting policies of the segments are the same as those
described in the summary of significant accounting policies except
that general and administrative expenses are recognized and measured
on the ratio of salaries of the segment to total salaries.
All intercompany transactions are eliminated for financial reporting
purposes.
The Company's reportable segments are strategic business units that
offer different product of services. They are managed separately
because each business requires different technology and marketing
strategies.
<TABLE>
The following is a summary of segment information for the quarter
ended March 31:
<CAPTION>
1998 1997
Software Software
and and
Service Fees Hardware Corporate Total Service Hardware Corporate Total
Fees
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues from
external $1,482,170 $1,714,749 - $3,196,919 $1,343,021 $561,730 - $1,904,751
customers
Interest 5,928 - 20,312 26,240 602 - 1,906 2,508
revenue
Interest 12,300 - - 12,300 23,873 - - 23,873
expense
Depreciation
and 417,903 510 - 418,413 320,123 488 - 320,611
amortization
Segment 482,592 163,810 (86,200) 560,202 605,644 (19,615) (96,858) 489,171
profit
Expenditures
for segment 31,372 - 269,000 300,372 23,117 - - 23,117
assets
</TABLE>
<TABLE>
The following is a summary of segment information for the six months
ended March 31:
<CAPTION>
1998 1997
Software Software
and and
Service Hardware Corporate Total Service Hardware Corporate Total
Fees Fees
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues from
external $3,841,372 $2,584,343 - $6,425,715 $2,372,658 $964,956 - $3,337,614
customers
Interest 9,430 - 30,999 40,429 1,031 - 1,906 2,937
revenue
Interest 26,700 - - 26,700 40,711 - - 40,711
expense
Depreciation
and 817,645 966 - 818,611 606,561 977 - 607,538
amortization
Segment 1,816,273 158,497 (159,659) 1,815,111 1,063,711 39,336 (152,393) 950,654
profit
Expenditures
for segment 43,392 - 269,000 312,392 93,267 - - 93,267
assets
</TABLE>
<TABLE>
The following is a summary of identifiable assets for each segment:
<CAPTION>
Software Software
and and
Service Fees Hardware Corporate Total Service Hardware Corporate Total
Fees
<C> <C> <C> <C> <C> <C> <C> <C>
4,848,407 864,640 1,905,074 7,618,121 3,842,210 414,163 604,097 4,860,470
</TABLE>
_____________________________________________________________________
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
______________________________________________________________________
This MD&A Contains Some Forward Looking Information. Except for
historical data, the matters discussed in this form 10-QSB contain
forward-looking statements that involve risk and uncertainties.
Results of Operations
Revenue. Total revenue for the three-month period ended March 31,
1998 was $3,196,919. This revenue represents a 68% increase over the
Company's revenues for the three-month comparable period in 1997. For
the six-month period ended March 31, 1998, revenues were $6,425,715 as
compared to $3,337,614 for the same six-month period in fiscal 1997, a
93% increase. The increase in revenue is attributable to the
Company's increase in customer base during the first quarter and its
resultant increase in service related income; the impact of limited
shelf life of existing software products that have been historically
utilized by customers and an upgrading of independent software
products to the Company's integrated net collection package.
In the area of licensing and servicing revenues, the Company
experienced an increase of approximately 10% to $1,482,170 at the
March 31, 1998 quarter end as compared to $1,343,021 in the same
period ending 1997. During the six-month period, licensing and
servicing revenues increased 62% from $2,372,658 in fiscal 1997 to
$3,841,372 during the same period in fiscal 1998. This increase in
the licensing and servicing sectors of the Company's business is a
result of the factors indicated above.
Hardware sales for the three-month period ended March 31, 1998 was
$1,714,749 as compared to $561,730 for the same period in 1997. This
represents a 205% increase. For the six-month period ended March 31,
1998, the Company experienced a 168% increase in hardware sales over
the comparable period in 1997 from $964,956 to $2,584,343. This
increase in hardware sales is directly attributable to customer
upgrades and additional equipment purchases in response to Year 2000
issues.
Licensing and service revenues represented 46.4% of total revenues for
the quarter end and 59.8% for the first six months of the fiscal year.
Hardware sales were 53.6% of total revenues for the quarter and 40.2%
for the first six months of fiscal 1998.
Cost of Sales and Services. Cost of sales and services amounted to
$1,923,161 and 60% of total revenue during the second quarter of
fiscal 1998 as compared to $905,970 and 48% of total revenue for the
comparable period in fiscal 1997. Cost of sales and services for the
first six months of the year amounted to $3,137,208 and 49% of total
revenue as compared to $1,553,185 and 47% of total revenue for the
comparable 1997 period. The increases in cost of sales are primarily
attributable to the increases in hardware sales for the periods. The
increase in cost of sales and services as a percentage of total
revenue is due to hardware sales carrying a higher percentage of costs
than do licensing and service fees.
Software Development Costs. Software development costs, both
capitalized and expensed as research and development amounted to
approximately $370,000 and $778,000 for the three and six month
periods ended March 31, 1998, as compared to approximately $443,000
and $923,000 for the three and six month periods ended March 31, 1997.
This represents a decrease of 16.4% for the quarter and a 15.7%
decrease for the six-month period. This decrease is primarily
attributable to the Company's new methods of module development while
keeping its commitment to develop new and improved software modules on
a quarterly basis. Of these amounts, approximately $226,000 and
$372,000 were capitalized for the quarters ended March 31, 1998 and
1997, respectively. Approximately $562,000 and $762,000 were
capitalized for the six months ended March 31, 1998 and 1997
respectively. Less software development costs were capitalized in the
comparable periods 1998 versus 1997 due to the Company's strategic
decision to address its third generation product as add-on modules
rather than continued development as a stand-alone product. Research
and development costs increased to approximately $143,000 from $71,000
in the current quarter versus the prior year quarter and to
approximately $216,000 for the six month period ended March 31, 1998
from $161,000 for the six months ended March 31, 1997. It is
anticipated that the Company will experience an increase in software
development costs both capitalized and expensed, as its efforts to
accommodate specific customer needs escalates. Additionally, the
Company intends to continue recruiting and hiring additional software
programmers and to consider additional complementary software
technologies. Whether or not the Company will successfully achieve
these goals cannot be assured since competition to hire programmers
appears to be at an all time high and new technologies are uncertain.
General and Administrative. General and administrative expenses were
18% of revenue in the second quarter of fiscal 1998 as compared to 23%
in the comparable period 1997. For the six months ended March 31,
1998 general and administrative expenses were 20% of revenue and 20%
in the comparable period in the prior year. This percentage decrease
in the current period is directly attributable to increases in overall
revenues.
Provisions for Income Taxes. The income tax provision for the six
months ended March 31, 1998 and March 31, 1997 was $655,500 and
$304,000, respectively. This represents 35.6% and 33.3% of income
before taxes. The increase in the tax rate from March 31, 1998 to
March 31, 1997 is attributable to a higher R&D credit percentage in
1997 since expenditures for R&D and capitalized software were higher
in 1997.
Quarterly Results. Net income for the three and six-month periods
ended March 31, 1998 were $399,550 and $1,188,348 respectively. Net
income for the comparable period ended March 31, 1997 amounted to
$308,146 and $608,965. These increases in net income are attributable
to utilization of Company personnel in the servicing sector as opposed
to utilization of such personnel primarily in the Company's research
and development area. Additionally, the increase in net income for
the six-month period ended March 31, 1998 versus the comparable prior
period is partly attributable to the increase in sales of hardware.
On a per share basis, earnings were $.05 and $.15 for the three and
six months ended March 31, 1998. These per share amounts are up from
the pro forma net income per common share amounts of $.04 and $.08 for
the three and six month periods ended March 31, 1997 for the reasons
explained above.
The Company believes that in the future its results may reflect
quarterly fluctuations resulting from such factors as order deferrals
in anticipation of new product releases, delays in the release of new
products, a slower growth rate in the overall manufacturing industry
or adverse general economic and manufacturing conditions in the
industries in which the Company does business. Rapid technological
change and the Company's ability to develop and market products that
successfully adapt to that change may also have an impact on the
results of operations. Further, increased competition in the design
and distribution of manufacturing software products could also
negatively impact the Company's results of operations.
Due to the factors stated above, the Company's future earnings and
stock price may be subject to significant volatility, particularly on
a quarterly basis. Any shortfall in revenues or earnings from levels
expected by securities analysts could have an immediate and
significant adverse effect on the trading price of the Company's
stock.
Liquidity and Capital Resources. Cash totaled $1,842,887 on March 31,
1998. Cash provided by operating activities amounted to approximately
$2,338,820 for the six months ended March 31, 1998 compared to
$856,311 in the comparable period of 1997. This increase in cash
provided by operations is principally due to increases in net income
and increases in accounts receivable over the prior period.
Long term cash requirements, other than normal operating expenses, are
anticipated for development of new software products and enhancements
of existing products; financing anticipated growth; adding additional
personnel; and the possible acquisition of software products or
technologies complimentary to the Company's business. The Company
believes that its existing cash, cash equivalents, available lines of
credit and anticipated cash generated from continuing operations will
be sufficient to satisfy its currently anticipated cash requirements
for the 1998 fiscal year.
Historically, accounts receivable for the Company has been generally
high due to a number of factors. A primary contributor is the nature
of how the Company's customer base pays for the software licensing fee
of the Company's product. The Company records revenues from software
license fees after shipment of the product and the fulfillment of all
major obligations under the terms of the licensing agreement.
Typically, software licenses range from $100,000 to $300,000.
Therefore, the Company often establishes a payment schedule for its
customers. The payment schedules have resulted in a slow turnaround
time in the collection of receivables. Additionally, the textile
industry as a whole tends to experience flat periods which make it
difficult to fully fund major management information systems projects.
For the six month period ended March 31, 1998, the average collection
days on accounts receivables was 62.2 days compared to 78.5 days for
the comparable period in fiscal year 1997. This decrease in
collection days is attributable to the Company's continued focus on
collecting accounts and scheduling customer payments on a more time
sensitive basis.
As a result of the above, the Company monitors its accounts receivable
closely and attempts to make adequate provisions for potentially
uncollectable receivables.
Part II
______________________________________________________________________
Item 2. Changes in Securities
______________________________________________________________________
On January 12, 1998 the Board of Directors authorized a five for four
split in the outstanding common and preferred stock of the Company for
stockholders of record as of January 16, 1998, payable on January 30,
1998.
______________________________________________________________________
Item 4. Submission of Matters to a Vote of Security Holders
______________________________________________________________________
These matters were submitted for a vote of security holders at the
Company's annual meeting of stockholders held on February 20, 1998.
The matters voted upon were:
Election of Directors
Nominee Votes Votes
Cast For Cast Elected
Against
Robbie M. Efird 5,719,409 0 Yes
E.W. "Sonny" Miller, Jr. 5,719,371 38 Yes
David F. Christian 5,719,409 0 Yes
Richard King 5,719,409 0 Yes
James W. Moseley 5,719,409 0 Yes
David P. Reynolds 5,718,909 500 Yes
Rick Tuberosa 5,718,409 1,000 Yes
Ratification of Selection of Independent Auditors
The Board of Directors of the Company selected Pender Newkirk &
Company to continue as its independent auditors for the fiscal year
ending September 30, 1998. The number of votes cast in favor of the
proposal to ratify the selection of Pender Newkirk & Company as
independent auditors was 5,719,239 with 170 votes abstaining.
The Board of Directors recommended the authorization of issuance of up
to 2,500,000 shares of common stock of the Company at a secondary
offering. The number of votes cast in favor of the proposal was
5,708,570, the number of votes against was 10,669 and the number of
votes abstaining from ratification was 170.
Proxy materials were mailed to all security holders pursuant to
Regulation 14A of the Act and there was no solicitation in opposition
to director nominees or other proposals submitted to shareholders.
Reference is made to the proxy materials submitted to the Securities
and Exchange Commission via electronic mail on January 28, 1998.
______________________________________________________________________
Item 5. Other Matters
______________________________________________________________________
(1) The Company made application for listing on NASDAQ Small Cap on
February 17, 1998. The application is currently pending.
_______________________________________________________________________
Item 6 Exhibits and Reports on Form 8-K
_______________________________________________________________________
(a) Exhibits included herewith are:
(27) Financial Data Schedule
(b) Reports on Form 8-K
1. Form 8-K filed with the Securities and Exchange Commission
January 26, 1998 announcing a five for four stock split of common and
preferred stock for shareholders of record as of Friday, January 16,
1998 and a distribution date of Friday, January 30, 1998. This Form 8-
K is incorporated by reference.
2. Form 8-K filed with the Securities and Exchange Commission
April 14, 1998 announcing the signing of a letter of intent with a
privately held Houston based company. This Form 8-K is incorporated
by reference.
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act
of 1934, the registrant has caused this report to be signed on its
behalf by the undersigned, thereto duly authorized.
NETWORK SYSTEMS INTERNATIONAL, INC.
Date: 5/14/98 /s/ Robbie M. Efird
Robbie M. Efird, President
and acting as CFO
Date: 5/14/98 /s/ William C. Ray
William C. Ray, Vice President
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> SEP-30-1998
<PERIOD-END> MAR-31-1998
<CASH> 1,842,887
<SECURITIES> 0
<RECEIVABLES> 3,390,949
<ALLOWANCES> (631,738)
<INVENTORY> 0
<CURRENT-ASSETS> 4,755,885
<PP&E> 1,806,390
<DEPRECIATION> (581,960)
<TOTAL-ASSETS> 7,618,121
<CURRENT-LIABILITIES> 1,869,191
<BONDS> 0
0
9
<COMMON> 7,473
<OTHER-SE> 4,839,402
<TOTAL-LIABILITY-AND-EQUITY> 7,618,121
<SALES> 6,425,715
<TOTAL-REVENUES> 6,425,715
<CGS> 3,137,208
<TOTAL-COSTS> 1,473,396
<OTHER-EXPENSES> 15,008
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 13,729
<INCOME-PRETAX> 1,843,848
<INCOME-TAX> 655,500
<INCOME-CONTINUING> 1,188,348
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,188,348
<EPS-PRIMARY> 0.16
<EPS-DILUTED> 0.15
</TABLE>
