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
May 7, 1998
Commission File Number 0-18275
ITEX CORPORATION
(Exact Name of Registrant as Specified in its Charter)
Nevada 93-0922994
- -------------------------------- -------------------
State (or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
10300 SW Greenburg Road, Suite 370, Portland, Oregon 97223
-------------------------------------------------------------------------------
(Address of principal executive offices including zip code)
(503) 244-4673
-------------------------------
(Registrant's telephone number including area code)
Indicate by check whether the Registrant: (1) filed all reports required to be
filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the
past 12 months (or for such shorter period that the Registrant was required to
file such reports), and (2) has been subject to such filing requirements for the
past 90 days.
Yes X No
----- -----
Number of Shares of Common Stock, $0.01 Par Value Outstanding
at June 17, 1998:
8,271,000
(This Form 10-Q includes 28 pages)
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ITEX CORPORATION
FORM 10-Q
For the Quarterly Period Ended
May 7, 1998
INDEX
Page
--------
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CONSOLIDATED BALANCE SHEETS AT MAY 7, 1998 AND
JULY 31, 1997 3
CONSOLIDATED STATEMENTS OF OPERATIONS FOR THE TWELVE
AND FORTY WEEK PERIODS ENDED MAY 7, 1998 AND 1997 4
CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE FORTY
WEEK PERIODS ENDED MAY 7, 1998 AND 1997 5
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 6
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF 14
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS 25
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 27
2
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PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
ITEX CORPORATION
CONSOLIDATED BALANCE SHEETS
(In thousands, except share and per share amounts )
May 7, 1998 July 31, 1997
----------------- -----------------
ASSETS
<S> <C> <C>
Current Assets
Cash and cash equivalents............................................. $ 4,346 $ 813
Trade dollars......................................................... 4,139 786
Accounts receivable, net of allowance for doubtful
accounts of $224 and $115............................................ 1,254 1,084
Notes receivable...................................................... 381 285
Prepaids and other current assets..................................... 189 80
----------------- -----------------
Total current assets.............................................. 10,309 3,048
Inventory for Principal Party Trading...................................... 5,905 6,939
Available for Sale Equity Securities....................................... 2,261 7,088
Natural Resource Interests................................................. 6,688 6,576
Investment in Samana Resort ............................................... 7,404 ----
Investments in and Advances to Unconsolidated Entities..................... 5,242 3,092
Goodwill and Purchased Member Lists, net................................... 913 1,075
Notes Receivable, Long-Term Portion........................................ 510 510
Other Assets............................................................... 1,366 1,640
----------------- -----------------
$ 40,598 $ 29,968
================= =================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities
Accounts payable...................................................... $ 191 $ 246
Portion of receivables due to brokers ................................ 601 552
Income taxes payable.................................................. 651 840
Current portion of long-term indebtedness............................. 41 166
Other current liabilities............................................. 462 263
----------------- -----------------
Total current liabilities......................................... 1,946 2,067
----------------- -----------------
Deferred Income Taxes...................................................... 117 101
----------------- -----------------
Long-term Indebtedness..................................................... 153 26
----------------- -----------------
Stockholders' Equity
Series A 5% convertible preferred stock, $.01 par
value; 65,000 shares authorized; 53,500 shares issued
and outstanding in 1998 1 ----
Common stock, $.01 par value; 50,000,000 shares
authorized; 7,590,000 and 7,207,000 shares
issued and outstanding............................................. 76 72
Paid-in capital....................................................... 25,230 19,114
Net unrealized gain on marketable securities.......................... 1,562 60
Treasury stock, at cost (2,000 shares)................................ (10) ----
Retained earnings..................................................... 11,718 8,938
Prepaid printing...................................................... (195) (410)
----------------- -----------------
Total stockholders' equity........................................ 38,382 27,774
----------------- -----------------
$ 40,598 $ 29,968
================= =================
The accompanying notes are an integral part of the consolidated financial statements.
</TABLE>
3
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<TABLE>
<CAPTION>
ITEX CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share amounts)
Twelve Twelve Forty Weeks Forty Weeks
Weeks Ended Weeks Ended Ended Ended
May 7, 1998 May 7, 1997 May 7, 1998 May 7, 1997
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Revenue
Corporate trading revenue............... $ 1,890 $ 2,313 $ 10,736 $ 4,010
Trade exchange revenue.................. 4,090 4,166 15,180 13,779
Other revenue........................... 15 --- 15 ----
------------- ------------- ------------- -------------
5,995 6,479 25,931 17,789
------------- ------------- ------------- -------------
Costs and Expenses
Costs of corporate trading.............. 2,077 950 9,839 2,533
Costs of trade exchange revenue......... 1,990 1,927 6,382 5,657
Costs of other revenue.................. 270 ---- 270 ----
Selling, general, and administrative.... 1,908 1,961 6,910 5,814
------------- ------------- ------------- -------------
6,245 4,838 23,401 14,004
------------- ------------- ------------- -------------
Income (Loss) from Operations............... (250) 1,641 2,530 3,785
Other Income (Expense)
Net gains on sales of investments ---- 4 1,097 20
Interest income (expense) net........... 19 --- 79 ---
Miscellaneous, net...................... 2 --- 2 ---
------------- ------------- ------------- -------------
21 4 1,178 20
------------- ------------- ------------- -------------
Income Before Taxes and Equity in Net Income
of Foreign Affiliate...................... (229) 1,645 3,708 3,805
Provision (Credit) for Income Taxes......... (292) 753 928 1,602
------------- ------------- ------------- -------------
Income Before Equity in Net Income
of Foreign Affiliate...................... 63 892 2,780 2,203
Equity in Net Income of Foreign Affiliate... ---- 1,247 ---- 1,247
------------- ------------- ------------- -------------
Net Income (Loss)........................... $ 63 $ 2,139 $ 2,780 $ 3,450
============= ============= ============= =============
Average Common and Equivalent Shares:
Basic.................................... 7,539 6,926 7,441 6,871
============= ============= ============= ============
Diluted.................................. 9,208 7,279 8,537 7,304
============= ============= ============= ============
Net Income Per Common Share:
Basic.................................... $ 0.01 $ 0.31 $ 0.37 $ 0.50
============= ============= ============= ============
Diluted.................................. $ 0.01 $ 0.29 $ 0.33 $ 0.47
============= ============= ============= ============
The accompanying notes are an integral part of the consolidated financial statements.
</TABLE>
4
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<TABLE>
<CAPTION>
ITEX CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
Forty Weeks Ended Forty Weeks Ended
May 7, 1998 May 7, 1997
----------------- -----------------
<S> <C> <C>
Cash Flows from Operating Activities
Net income............................................ $ 2,780 $ 3,450
Adjustments:
Equity in Net Income of Foreign Affiliate.......... (1,247)
Depreciation and amortization...................... 471 404
Services paid for in stock......................... 778 170
Gain on sales of available-for-sale securities..... (1,097)
----
Net trade revenue earned over trade costs ........ (3,009) (3,260)
Changes in operating assets and liabilities:
Accounts and notes receivable...................... (266) (478)
Deferred taxes..................................... 16 (2)
Prepaids and other assets.......................... 230 97
Accounts payable and other current liabilities..... (165) 114
Portion of receivables due to brokers.............. 49 177
Income taxes payable............................... (189) 270
----------------- -----------------
Net cash provided by (used in) operating
activities................................. (402) (305)
----------------- -----------------
Cash Flows From Investing Activities
Gain on sales of available-for sale securities........ 1,097 ----
Investment in Samana Resort........................... (1,004) ----
Investments in and advances to unconsolidated
entities.......................................... (1,633) (294)
Additions to equipment and information systems........ (100) (71)
----------------- -----------------
Net cash (used in) investing activities......... (1,640) (365)
----------------- -----------------
Cash Flows From Financing Activities
Proceeds from sales of common stock................... 5,576 150
Borrowings under capital leases...................... 131 ----
Repayments of capital leases and notes payable........ (132) (170)
----------------- -----------------
Net cash provided by (used in) financing
activities................................ 5,575 (20)
----------------- -----------------
Net increase (decrease) in cash and equivalents........... 3,533 (690)
Cash and cash equivalents at beginning of period.......... 813 1,301
----------------- -----------------
Cash and Cash Equivalents at End of Period................ $ 4,346 $ 611
================= =================
Supplemental Cash Flow Information
Cash paid for interest.................................... $ 11 $ 19
Cash paid for income taxes................................ 1,222 ----
Non-Cash Investing and Financing Activities
Equipment, inventory, information systems
development services, prepaids, customer lists,
marketable securities and goodwill acquired for
common stock and ITEX trade dollars..................... 469 4,324
The accompanying notes are an integral part of the consolidated financial statements.
</TABLE>
5
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ITEX CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - UNAUDITED INTERIM INFORMATION
ITEX Corporation (the "Company" or "ITEX") and its wholly-owned subsidiaries
prepare and report financial results using a fiscal year ending July 31. The
Company closes its books at the end of 13 "accounting cycles", which consist of
four weeks each. The Company reports quarterly results using three quarters,
each consisting of three four-week accounting cycles, and one quarter consisting
of four four-week accounting cycles. Accordingly, the dates for the fiscal ends
of the Company's quarters for public reporting are as follows: first quarter,
November 20; second quarter, February 12; third quarter, May 7; fourth quarter,
July 31. The Board of Directors has determined that commencing with the first
quarter of the fiscal year ending July 31, 1999, the Company will use calendar
quarters with three months each for financial reporting.
This Form 10-Q includes the consolidated financial statements of the Company and
its wholly-owned subsidiaries. The consolidated balance sheet as of July 31,
1997 is excerpted from the Company's audited financial statements for the fiscal
year then ended. The Company's consolidated financial statements included in
this Form 10-Q for the interim periods ended May 7, 1998 and 1997 include all
normal recurring adjustments which, in the opinion of the Company, are necessary
for a fair statement of the results of operations, financial position, and cash
flows as of the dates and for the periods presented. The Company's operating
results for the twelve and forty week periods ended May 7, 1998 are not
necessarily indicative of the results that may be expected for the fiscal year
ending July 31, 1998.
The Notes to Consolidated Financial Statements included in the Company's July
31, 1997 Annual Report on Form 10-K should be read in conjunction with these
consolidated financial statements.
NOTE 2 - TRADE DOLLARS
At May 7, 1998, the Company had earned 4,139,000 ITEX Trade Dollars in excess of
the amount of Trade Dollars expended by the Company. At July 31, 1997, the
Company had earned 786,000 ITEX Trade Dollars in excess of the amount of Trade
Dollars expended by the Company. The Company has classified net positive Trade
Dollar balances as a current asset because the Company expects to utilize the
full amount within the 12 months following the respective balance sheet dates.
NOTE 3 - AVAILABLE-FOR-SALE SECURITIES
During the quarter ended November 20, 1997, the Company sold a portion of its
available-for-sale securities for cash, realizing proceeds of $3,315,000. The
cost of the securities sold was $2,218,000, resulting in net gains totaling
$1,097,000.
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Available for sale securities of $2,261,000 at May 7, 1998 includes securities
with market value totaling $3,290,000, less deferred taxes of $1,029,000 that
would be payable as a result of gains on a presumed sale of the securities. The
available for sale securities at May 7, 1998 was primarily 1,800,000 shares of
common stock of Wade Cook Financial Corporation ("WCFC"). On February 4, 1998,
Associated Reciprocal Traders, Ltd., which is a wholly owned subsidiary of the
Company and the owner of the WCFC stock, filed an action against WCFC seeking,
among other things, an injunction compelling WCFC to perform its obligations
under an agreement between the parties and compensatory damages resulting from
WCFC's failure to deliver and permit transfer of WCFC stock. This matter is
discussed in more detail in Part II, Item 1 of this Form 10-Q.
NOTE 4 - NATURAL RESOURCE INTERESTS
In determining the value of the Company's natural resource interests located on
four mineral properties in the State of Washington, as described in Note 6 to
Consolidated Financial Statements included in the Company's Annual Report on
Form 10-K for the fiscal year ended July 31, 1997, the Company has relied on an
appraisal prepared by a highly qualified independent appraisal firm to
substantiate the value attributed to its investment. The appraisal assumes that
a number of contingencies are resolved. It assumes, among other things, that the
Company locates another entity to mine the property and to pay it royalties,
that the Company is able to obtain access to the entire property at issue, that
the Company purchases certain additional land, and that certain possible issues
regarding ownership of all mineral rights are resolved in the Company's favor.
More specifically, the appraisal utilized the following basic financial
assumptions: ITEX would only generate revenue as a royalty owner and not
participate in any net profits, leasing or other payment arrangements, nor would
ITEX retain rights to deductions for depletion, depreciation or amortization;
ITEX would be liable for no other payments of any kind, with the operator taking
over all costs for holding, developing, and operating the properties; the
properties would be in production within two years; production from each
operation would be limited to the most applicable products to be made from each
deposit and that operations would run for 20 years or less, depending on the
resources available; production tonnage, prices to be received, and royalties to
be paid to ITEX would be the same as those generated from similar operations
currently operating in the Pacific Northwest; and that the applicable blended
tax rate would be 30% and net present value calculations should be based on a
discount rate of 7.5 %.
The appraisal estimates a current value for the mineral properties based on a
projected royalty stream of income. The appraisal is subject to significant
uncertainties inherent in this type of analysis. As a result, actual value may
differ, perhaps materially, from appraised value. As of this filing, none of the
forward-looking assumptions underlying the appraisal have been realized, nor has
the Company completed any material steps toward their realization.
TMENT IN SAMANA RESORT
During October 1997 the Company, through its wholly-owned subsidiary, Associated
Reciprocal Traders, Ltd, ("ART") acquired a 60% interest in 16 acres of improved
but undeveloped resort property known as the Villas Punta Ballena
7
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(Samana) Resort (the "Samana Resort") along with associated plans, engineering
drawings, permits and approvals for the resort. The Company is currently seeking
financing for this project. The transaction was structured as the purchase of a
60% equity interest in Villas Punta Ballena C. por A. ("VPB"), a Dominican
Republic corporation, the holder of the Samana Resort property. The Samana
Resort is located in the northeast corner of the Dominican Republic on the Bay
of Samana. VPB has never had any business operations other than ownership of the
Samana Project.
The Company paid cash of $1,000,000 during the quarter ended November 20, 1997
and agreed to pay additional cash of $250,000 upon the finalization of a credit
facility agreement for funding of the project, which has been included in other
current liabilities. The Company conveyed available-for-sale securities totaling
$5,142,000 from the investment portfolio of ART and also agreed to issue to the
other parties ITEX Corporation common stock with market value of $1,000,000 upon
the substantial beginning of construction on the project. In determining the
value of the Company's interest in the Samana Resort, the Company has relied on
an appraisal prepared by a professional appraising firm of the Dominican
Republic to substantiate the value attributed to its investment in this
property. The appraisal is based on the best and highest use of the property and
assumes that a number of contingencies be resolved. It assumes, among other
things, that the Company will be able to obtain financing for the project, the
property will be constructed as a resort property substantially in accord with
the plans and approvals already completed. It also assumes that the final
construction for the nearby airport is completed timely, and that there is an
adequate market for the resort project.
The appraisal estimates a current value for the Samana Resort property based on
comparisons to the values of other properties, some of which have already been
developed. The appraisal is subject to significant uncertainties inherent in
this type of analysis, including the facts that, within the Dominican Republic,
there exists no true central filing of real estate transactions; such filings
are not regulated, and documented proof of actual prices paid is not attainable.
As a result, actual value may differ, perhaps materially, from appraised value.
As of this filing, none of the forward-looking assumptions underlying the
appraisal have been realized, nor has the Company completed any material steps
toward their realization.
NOTE 6 - INVESTMENTS IN AND ADVANCES TO UNCONSOLIDATED ENTITIES
Business Exchange International Corp. Investments in and advances to
unconsolidated entities includes $4,142,000 and $3,092,000 at May 7, 1998 and
July 31, 1997, respectively, related to the Company's interest in Business
Exchange International Corp. ("BEI"), the operator of the BXI Trade Exchange.
See Note 12 to Consolidated Financial Statements included in this Form 10-Q,
which discusses the completion, on June 25, 1998, of the acquisition of the
remaining 50% interest, making BEI a 100%-owned subsidiary of the Company.
GlobalTel Resources, Inc. During the quarter ended November 20, 1997, ITEX
invested 200,000 ITEX Trade Dollars and $200,000 cash in GlobalTel Resources,
Inc. ("GlobalTel"), a company that expects to complete an initial public
offering in 1998. ITEX is to receive $200,000 of unregistered stock computed at
the initial public offering price. ITEX also received a "bridge financing" note
receivable for $200,000 with interest at 10%, payable at the earlier of the date
of completion of a firm commitment underwritten public offering providing gross
proceeds of at least $15,000,000 or January 2, 1999. ITEX also received rights
to $200,000 of
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common stock computed at the initial public offering price, which is to be
registered in the offering. ITEX has agreed to a "lock up period" of nine months
after the initial public offering, during which time ITEX may be required to
hold such stock. The Chairman and Chief Executive Officer of GlobalTel is a
Director of ITEX.
Avenir Internet Solutions, Inc. On March 26, 1998, the Company announced the
signing of an agreement to acquire a 45% common equity interest in Avenir
Internet Solutions, Inc. ("Avenir"), an Internet commerce company based in
Waterloo, Ontario, Canada. The Company agreed to pay $750,000 cash and 250,000
ITEX Trade Dollars for its interest, to be provided based on a mutually agreed
upon cash requirements schedule. If Avenir does not use the ITEX Trade Dollars
to acquire goods and services usable in its operations, the Company will replace
the ITEX Trade Dollars with cash on a 1 to 1 basis. Through May 7, 1998, the
Company had provided $350,000 cash to Avenir pursuant to the agreement.
NOTE 7 - BANK LINE OF CREDIT
The Company's primary bank agreed to a new line of credit arrangement with a
term through December 31, 1998. Pursuant to the line of credit, the Company may
borrow up to $250,000 on a short-term basis for working capital purposes. The
interest rate applicable to borrowings pursuant to the facility is equal to the
bank's prime rate of interest plus 1.5%. The maximum amount of cash borrowings
that may be outstanding at any time is determined by a borrowing base formula
related to available collateral. Borrowings are collateralized by the Company's
accounts receivable, fixed assets and inventory. As of May 7, 1998, the Company
had no borrowings outstanding with respect to the line of credit.
NOTE 8 - CAPITAL STOCK
Series A Convertible Preferred Stock. During the quarter ended May 7, 1998, the
Board of Directors authorized up to 65,000 shares of Series A Convertible
Preferred Stock ("Series A Preferred Stock") for sale at $100 per share. The
Series A Preferred Stock is convertible into common stock at the lower of the
average bid price for the five trading days prior to issuance of the preferred
stock or 80% of the average price of the common stock in public trading for the
five days prior to conversion. The Series A Preferred Stock may be converted
into common stock at any time after 41 days from closing. The Company has the
right, but not the obligation, to redeem some or all of the Series A Preferred
Stock in the event that the market price of the Company's common stock is $3.00
per share or less. The redemption price would be 118% of the amount originally
paid for the Series A Preferred Stock. The Series A Preferred Stock earns
dividends at the rate of 5% per annum, which may be paid in cash or common stock
at the discretion of the Company.
On April 3, 1998, the Company closed the sale of 53,500 shares of Series A
Preferred Stock to a small number of non-U.S. persons (as defined in Rule 902 of
the Securities Act of 1933, as amended) located outside the United States in a
non-registered private placement pursuant to Regulation S under the Securities
Act of 1933, as amended. The Company realized gross proceeds of $5,350,000 and
net proceeds, after costs, totaling $4,730,000. The purchasers of the Series A
Preferred Stock agreed not to sell more than 50% of the common stock received
upon conversion until at least 75 days after the closing date. The Company has
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granted registration rights, under limited conditions, to the holders of Series
A Preferred Stock. The primary use of the proceeds is for the acquisition of the
remaining 50% common equity interest in Business Exchange International, Inc.
Subsequent to May 7, 1998, notices for conversion of 17,997 shares of Series A
preferred stock were received, which would result in the issuance of 725,026
shares of common stock.
Stock Option Plan. On September 3, 1997, the Board of Directors adopted a stock
option plan pursuant to which options to purchase up to 965,000 shares of the
Company's common stock may be granted to employees, officers, directors, and
consultants of the Company. Exercise prices for options granted under the plans
are equal to market value on the date of grant and options may be exercisable
for up to ten years from the date of grant. Pursuant to the new stock option
plan, options to purchase 740,000 shares were granted on September 3, 1997 at an
exercise price of $3.19 per share.
The stock option plans that were adopted on December 27, 1996 and September 3,
1997 were approved by the Company's shareholders at the annual meeting of the
Company's shareholders held on January 8, 1998 and reconvened on February 6,
1998. On May 22, 1998, the Company filed a Form S-8 registration with the
Securities and Exchange Commission with respect to the shares of common stock
underlying options to be issued pursuant to the stock option plans that were
adopted on December 15, 1995, December 27, 1996 and September 3, 1997, all of
which have been approved by the Company's shareholders. The filing of the Form
S-8 registration permits optionees to exercise options and sell the shares
received in the open market. The exercise prices on the options registered range
from $3.19 per share to $6.13 per share. As of June 25, 1998, none of such
options had been exercised and there were no sales of underlying shares.
Repurchase of Outstanding Warrants. On March 30, 1998, the Company agreed to
issue 250,000 shares of unregistered common stock in exchange for the retirement
of outstanding warrants to purchase 1,011,000 shares of common stock. The
warrants to be retired had exercise prices ranging from $3.50 per share to $6.12
per share, with expiration dates ranging from June 29, 2000 to April 11, 2006.
The warrants were held by Wycliff Fund, Inc. ("Wycliff") and The Bailey Mutual
Fund, Inc. ("Bailey"). Mr. Terry Neal, the founder of the Company and its former
Chairman and Chief Executive Officer, represented Wycliff and Bailey in this
transaction.
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NOTE 9 - REVENUE
The following table summarizes the cash and trade (consisting of ITEX Trade
Dollars and other noncash consideration) components of revenue for the twelve
and forty week periods ended May 7, 1998 and 1997:
<TABLE>
<CAPTION>
Twelve Twelve Forty Forty
Weeks Ended Weeks Ended Weeks Ended Weeks Ended
May 7, 1998 May 7, 1997 May 7, 1998 May 7, 1997
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
(in thousands)
Corporate Trading Revenue
Trade $ 1,657 $ 2,062 $ 9,532 $ 2,792
Cash 233 251 1,204 1,218
------------- ------------- ------------- ------------
1,890 2,313 10,736 4,010
------------- ------------- ------------- ------------
Trade Exchange Revenue
Trade 1,686 1,750 7,319 5,867
Cash 2,404 2,416 7,861 7,912
------------- ------------- ------------- ------------
4,090 4,166 15,180 13,779
------------- ------------- ------------- ------------
Other Revenue
Trade ---- ---- ---- ----
Cash 15 ---- 15 ----
------------- ------------- ------------- ------------
15 ---- 15 ----
------------- ------------- ------------- ------------
Total Revenue
Trade 3,343 3,812 16,851 8,659
Cash 2,652 2,667 9,080 9,130
------------- ------------- ------------- ------------
$ 5,995 $ 6,479 $ 25,931 $ 17,789
============= ============= ============= ============
</TABLE>
NOTE 11 - INCOME PER SHARE
During the current fiscal year, the Company adopted FASB Statement No. 128,
Earnings Per Share. Statement 128 requires presentation of basic earnings per
share and diluted earnings per share. Basic earnings per share excludes
potential dilution and is computed by dividing income available to common
stockholders by the weighted-average number of common shares outstanding for the
period. Diluted earnings per share reflects the potential dilution that could
occur if securities or other contracts to issue common stock were exercised or
converted into common stock or resulted in the issuance of common stock that
then shared in the earnings of the entity. Diluted earnings per share is
computed similarly to fully diluted earnings per share under previous generally
accepted accounting principles in the United States. All prior period earnings
per share data are restated to conform with Statement 128 for consistent
presentation of all periods.
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Following is a reconciliation of the numerators of the basic and diluted income
per share:
<TABLE>
<CAPTION>
Twelve Twelve Forty Forty
Weeks Ended Weeks Ended Weeks Ended Weeks Ended
May 7, 1998 May 7, 1997 May 7, 1998 May 7, 1997
------------- ------------- ------------- ------------
(in thousands)
<S> <C> <C> <C> <C>
Net income $ 63 $ 2,139 $ 2,780 $ 3,450
Preferred stock dividends (25) ---- (25) ----
------------- ------------- ------------- ------------
Net income available to
common stockholders $ 38 $ 2,139 $ 2,755 $ 3,450
============= ============= ============= ============
Weighted average shares 7,539 6,926 7,441 6,871
Effect of dilutive securities
Options and warrants 1,036 353 885 433
Convertible preferred stock 633 ---- 211 ----
------------- ------------- ------------- ------------
9,208 7,279 8,537 7,304
============= ============= ============= ============
Basic income per share (based
on weighted average shares $ 0.01 $ 0.31 $ 0.37 $ 0.50
============= ============= ============= ============
Diluted income per share (based
on assumed conversions) $ 0.01 $ 0.29 $ 0.33 $ 0.47
============= ============= ============= ============
</TABLE>
NOTE 12 - ACQUISITION OF REMAINING 50% INTEREST IN BUSINESS EXCHANGE
INTERNATIONAL CORP.
On June 25, 1998, the Company completed the acquisition of the remaining 50%
interest in Business Exchange International Corp. ("BEI"), the operator of the
BXI Trade Exchange, making BEI a 100%-owned subsidiary of the Company. This
transaction was completed pursuant to the terms of an agreement signed by the
parties for the dismissal of all litigation related to the BXI Retail Trade
Exchange and for an alliance between the BXI Retail Trade Exchange and the ITEX
Retail Trade Exchange under the overall corporate umbrella of ITEX Corporation.
The purchase price paid for the remaining 50% interest was $3,725,000 in cash.
During the quarter ended May 7, 1998, the Company paid a nonrefundable advance
of $1,000,000 to be applied against the $3,725,000 purchase price of the
remaining 50% interest in the BXI Trade Exchange. Also during the quarter ended
May 7, 1998, the Company sold to the previous owner of BEI 150,000 shares of
newly issued shares of the Company's common stock (subject to Rule 144) for
$600,000 cash.
In addition, the Company agreed to provide additional consideration by placing
75,000 shares of common stock and warrants to purchase an additional 75,000
shares of common stock at $7 per share into a fund that will be distributed to
current brokers of the BXI Trade Exchange who continue as BXI brokers for a
three-year period after the date of closing. The warrants will be excercisable
for three years after distribution to the brokers.
The total cost of the acquisition of BEI, including amounts paid for the initial
50% interest, as well as the remaining 50% interest, and ancillary costs of the
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acquisition, totaled approximately $7,000,000. The transaction will be accounted
for using the purchase method of accounting.
NOTE 13 - RELATED PARTY TRANSACTIONS
The Company has dealt with Mr. Terry Neal, the founder of the Company and its
former Chairman and Chief Executive Officer, in various transactions in which
Mr. Neal acted as agent or otherwise represented the other parties to the
transactions. Mr. Neal owns (including shares beneficially owned) approximately
205,000 shares of the Company's common stock and holds options to purchase
450,000 shares of the Company's common stock at exercise prices ranging from
$1.94 per share to $6.13 per share. If Mr. Neal exercised all his options and
there were no other stock issuances from exercises of other contingently
issuable shares pursuant to options and warrants held by others or conversions
of preferred stock, Mr. Neal would have had a common equity interest in the
Company of approximately 7.5% at May 7, 1998.
On July 31, 1997, the Company commenced a partial redeployment of its assets and
investment strategy by investing in natural resources located on four mineral
properties in the State of Washington. In exchange for these properties, the
Company issued 130,000 shares of common stock, paid $20,000 in cash and
transferred media inventory, hotel room inventory, and fine art paintings and
sculpture. The total carrying value of the acquired mineral properties of
$6,576,000 has been confirmed in an appraisal by a firm of independent qualified
mining consultants. The four properties contain deposits including limestone and
high-grade calcium carbonate, high-grade and very-high-grade calcium carbonate,
limestone and medium-grade calcium carbonate, quartzite flagstone, and olivine
and dunite. Mr. Terry Neal represented Pacific Mineral Resources, Inc., the
other party, in this transaction. Therefore, this may be considered a related
party transaction.
During the fiscal years ended July 31, 1994, 1995, 1996, and 1997, the Company
reported net income (loss) on the equity method of $632,000, $958,000, ($90,000)
and $1,247,000, respectively, from its 49% investment in Associated Reciprocal
Traders, Inc. ("ART"). During those periods, Newcastle Services, Ltd.
("Newcastle"), the owner of a 5.4% beneficial common equity interest in the
Company, owned the remaining 51% of ART. During that period, the Company dealt
with Mr. Terry Neal in connection with various transactions involving ART and
Newcastle. This included the transaction on July 30, 1997, in which the Company
completed the purchase of the remaining 51% interest of ART from Newcastle,
which is described in Note 17 to Consolidated Financial Statements included in
the Company's Annual Report on Form 10-K for the fiscal year ended July 31,
1997. Therefore, these may be considered related party transactions.
In August 1997 the Company entered into a transaction in which it conveyed to
The Bailey Mutual Fund ("Bailey") 976,000 ITEX Trade Dollars and
available-for-sale securities valued at $1,024,000 in exchange for shares of
Wade Cook Financial Corporation ("WCFC") with market value of $2,000,000.
During the fiscal year ended July 31, 1994, the Company entered into
transactions in which it sold marketable securities to Bailey for an aggregate
amount of 140,000 ITEX Trade Dollars, in which it recognized aggregate net gains
totaling $20,000. During the fiscal year ended July 31, 1995, the Company
13
<PAGE>
entered into transactions in which it sold marketable securities to Bailey for
an aggregate amount of 2,990,000 ITEX Trade Dollars, in which it recognized
aggregate net gains totaling 350,000 ITEX Trade Dollars. During the fiscal year
ended July 31, 1996, the Company entered into transactions in which it sold
marketable securities to Bailey for an aggregate amount of 440,000 ITEX Trade
Dollars, in which it recognized aggregate net gains totaling $8,000. Bailey Fund
owns a beneficial interest of approximately 6.4 % in the Company. In these
transactions, the Company dealt with Mr. Neal as agent for Bailey. Therefore,
these may be considered related party transactions.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
LIQUIDITY AND CAPITAL RESOURCES
At May 7, 1998, the Company's working capital ratio was 5.3 to 1, based on
current assets of $10,309,000 and current liabilities of $1,946,000. Subsequent
to May 7, 1998, the Company expended $2,700,000 cash in acquiring the remaining
50% interest in Business Exchange International Corp. ("BEI"), the operator of
the BXI Trade Exchange. The Company's working capital ratio at July 31, 1997,
was 1.5 to 1, based on current assets of $3,048,000 and current liabilities of
$2,067,000. The improvement in working capital resulted primarily from the
following factors:
(a) An increase in the Company's cash and short-term cash investments
to $4,346000 at May 7, 1998, from the July 31, 1997 total of
$813,000. This was primarily attributed to the sale of
available-for-sale securities in which the Company realized net
proceeds of $3,315,000 and the private placement of series A
preferred stock, from which the Company received net proceeds
totaling $4,730,000.
(b) An increase in the Company's net ITEX retail trade credits
earned, which increased the Company's account in the ITEX Retail
Trade Exchange at May 7, 1998 to 4,139,000 Trade Dollars from
786,000 Trade Dollars at July 31, 1997. The Company has
classified the net positive Trade Dollar balance as a current
asset because the Company expects to utilize the full amount
within the next 12 months.
Total stockholders' equity increased to $38,382,000 at May 7, 1998, from
$27,774,000 at July 31, 1997. The increase in stockholders' equity was primarily
attributable to the following three factors:
(a) Continued profitable operations of the Company.
(b) Completion of the private placement of series A preferred stock,
from which the Company realized net proceeds of $4,730,000.
(c) An increase in the unrealized gain on available-for-sale
securities to $1,562,000 at May 7, 1998 from $60,000 at July 31,
1997. Available for sale securities of $2,261,000 at May 7, 1998
includes securities with market value totaling $3,290,000 less
deferred taxes totaling $1,029,000 that would be payable as a
result of gains on the presumed sale of the securities.
14
<PAGE>
During the first three quarters of fiscal 1998, the Company reported net cash
used in operations of $402,000 in the statement of cash flows, as compared to
cash used in operations of $305,000 in the first three quarters of fiscal 1997.
The increase in cash used in operations was primarily attributable to increased
expenditures in start-up operations including the Company's new foreign
licensing subsidiary, Zoring International Inc., and additional business
development activities.
During the quarter ended November 20, 1997, the Company sold a portion of its
available-for-sale securities for cash, realizing proceeds of $3,315,000,
substantially increasing the liquidity of the Company. The cost of the
securities sold amounted to $2,218,000, resulting in net gains totaling
$1,097,000. Available for sale securities of $2,261,000 at May 7, 1998 includes
securities with market value totaling $3,290,000, less deferred taxes totaling
$1,029,000 that would be payable as a result of gains on a presumed sale of the
securities.
The available for sale securities at May 7, 1998, consisted primarily of
1,800,000 shares of common stock of Wade Cook Financial Corporation ("WCFC"). On
February 4, 1998, Associated Reciprocal Traders, Ltd., which is a wholly owned
subsidiary of the Company and the owner of the WCFC stock, filed an action
against WCFC seeking, among other things, an injunction compelling WCFC to
perform its obligations under an agreement between the parties and compensatory
damages resulting from WCFC's failure to deliver and permit transfer of WCFC
stock. This matter is discussed in more detail in Part II, Item 1 of this Form
10-Q.
The Company believes that cash fees, cash commissions, cash that can be obtained
from the sale of inventories and available-for-sale equity securities at the
discretion of the Company, and cash that would be available from the sale of
equity and debt securities of the Company will be sufficient to fund cash
operating needs of the Company while continuing to follow the strategy of mixing
cash and trade activities so as to maximize long-term equity building and
shareholder value. Furthermore, the Company is presently incurring negative cash
flow with respect to several development projects and developing areas of its
business. At the Company's discretion, it could conserve cash by suspending or
terminating these activities. However, there can be no assurance that adequate
funds from operations or any other sources will continue to be available on
terms acceptable to the Company.
On April 3, 1998, the Company closed the sale of 53,500 shares of Series A
Preferred Stock to a small number of non-U.S. persons (as defined in Rule 902 of
the Securities Act of 1933, as amended) located outside the United States in a
non-registered private placement pursuant to Regulation S under the Securities
Act of 1933, as amended. The Company realized gross proceeds of $5,350,000 and
net proceeds, after costs, totaling approximately $4,800,000. The purchasers of
the Series A Preferred Stock agreed not to sell more than 50% of the common
stock received upon conversion until at least 75 days after the closing date.
The Company has granted registration rights, under limited conditions, to the
holders of Series A Preferred Stock. The primary use of the proceeds is for the
acquisition of the remaining 50% common equity interest in Business Exchange
International, Inc.
15
<PAGE>
Development Activities
BXI Trade Exchange. On April 2, 1998, the Company announced the signing of an
agreement for the dismissal of all litigation related to the BXI Retail Trade
Exchange and for an alliance between the BXI Retail Trade Exchange and the ITEX
Retail Trade Exchange under the overall corporate umbrella of ITEX Corporation.
The Company paid $3,725,000 cash for the remaining 50% common equity interest in
Business Exchange International Corporation ("BEI") not already owned by the
Company. During the quarter ended May 7, 1998, the Company paid a nonrefundable
advance of $1,000,000 to be applied against the $3,725,000 purchase price of the
remaining 50% interest in the BXI Trade Exchange. During the quarter ended May
7, 1998, the Company sold to the owner of the remaining 50% of BEI, 150,000
shares of newly issued shares of the Company's common stock (subject to Rule
144) for $600,000 cash.
The Company also agreed to place 75,000 shares of common stock and warrants to
purchase an additional 75,000 shares of common stock at $7 per share into a fund
that will be distributed to current brokers of the BXI Trade Exchange who
continue as BXI brokers for a three-year period after the date of closing. The
warrants will be excercisable for three years after distribution to the brokers.
Samana Resort Project. During October 1997 the Company, through its wholly-owned
subsidiary, Associated Reciprocal Traders, Ltd, ("ART") acquired a 60% interest
in 16 acres of improved but undeveloped resort property known as the Villas
Punta Ballena (Samana) Resort (the "Samana Resort") along with associated plans,
engineering drawings, permits and approvals for the resort. The Company is
currently seeking financing for this project. The transaction was structured as
the purchase of a 60% equity interest in Villas Punta Ballena C. por A. ("VPB"),
a Dominican Republic corporation, the holder of the Samana Resort property. The
Samana Resort is located in the northeast corner of the Dominican Republic on
the Bay of Samana. VPB has never had any business operations other than
ownership of the Samana Project.
The Company paid cash of $1,000,000 during the quarter ended November 20, 1997
and agreed to pay additional cash of $250,000 upon the finalization of a credit
facility agreement for funding of the project, which has been included in other
current liabilities. The Company conveyed available-for-sale securities totaling
$5,142,000 from the investment portfolio of ART and also agreed to issue to the
other parties ITEX Corporation common stock with market value of $1,000,000 upon
the substantial beginning of construction on the project. In determining the
value of the Company's interest in the Samana Resort, the Company has relied on
an appraisal prepared by a professional appraising firm of the Dominican
Republic to substantiate the value attributed to its investment in this
property. The appraisal is based on the best and highest use of the property and
assumes that a number of contingencies be resolved. It assumes, among other
things, that the Company will be able to obtain financing for the project, the
property will be constructed as a resort property substantially in accord with
the plans and approvals already completed and that the final construction for
the nearby airport is completed timely, and that there is an adequate market for
the resort project.
16
<PAGE>
The Company intends to proceed with construction of the resort facility
substantially in accordance with the plans for development of the property as
previously approved by the relevant authorities. When completed, the Samana
Resort is expected to include approximately 250 condominium and hotel units with
beach front concessions, swimming pools, tennis courts, restaurants, and most
other amenities associated with a quality Caribbean resort.
Foreign Licensing. In fiscal 1998, the Company entered into an agreement with
Kuwait United Company for Advertising & Publishing & Distribution to license
ITEX Retail Trade Exchanges in ten Middle Eastern countries. The countries
covered by this agreement are Kuwait, Saudi Arabia, Bahrain, Qatar, United Arab
Emirates, Oman, Lebanon, Syria, Jordan, and Egypt.
In December 1997 the Company formed Zoring International Inc. ("Zoring"), a 51%
owned subsidiary, to provide international marketing expertise to successful
U.S.-based companies in expanding into other countries. Zoring consults with
client companies in developing international marketing strategy, assessing
in-house needs for support of international expansion, and helps implementing
such strategies by identifying, qualifying, and recruiting master franchisees
and licensees globally. Zoring will provide these same services to the Company,
which has become a client of Zoring. Zoring, which is based in Denver, Colorado,
has been staffed with experts in the fields of international marketing,
franchise development, licensing, countertrade, and networking through
government channels both domestically and abroad. The Company expects moderate
negative cash flow and operating losses to result from its investment of working
capital in Zoring's start up period, after which positive cash flow and
profitability is expected.
Manufacturers Trade Exchange. The Company has an agreement with Manufacturers
Trade Exchange LLC ("MTX"), to serve as a broker to manufacturers nationwide.
Providing its services through referrals from offices of the Manufacturing
Extension Partnership ("MEP"), a program sponsored by the U.S. Department of
Commerce, MTX can offer trade and other noncash exchange solutions to the
approximately 381,000 manufacturers identified by the MEP program.
Communication and Information Systems. During the twelve and forty week periods
ended May 7, 1998, the Company spent a total of $22,000 and $83,000,
respectively, on research and development for its communication and information
systems, all of which was charged to expense.
On March 26, 1998, the Company announced the signing of an agreement to acquire
a 45% common equity interest in Avenir Internet Solutions, Inc. ("Avenir"), an
Internet commerce company based in Waterloo, Ontario, Canada. The Company agreed
to pay $750,000 cash and 250,000 ITEX Trade Dollars for its interest, to be
provided based on a mutually agreed upon cash requirements schedule. If Avenir
does not use the ITEX Trade Dollars to acquire goods and services usable in its
operations, the Company will replace the ITEX Trade Dollars with cash. Through
March 31, 1998, the Company had provided $350,000 cash to Avenir pursuant to the
agreement.
17
<PAGE>
RESULTS OF OPERATIONS
Comparison of Twelve-Week Period Ended May 7, 1998 (Third Quarter of Fiscal
- --------------------------------------------------------------------------------
1998) and Twelve-Week Period Ended May 7, 1997 (Third Quarter of Fiscal 1997)
- -----------------------------------------------------------------------------
Overall Operating Results
Total revenue decreased 7% to $5,995,000 in the third quarter of fiscal 1998
from $6,479,000 in the third quarter of fiscal 1997. The Company had a loss from
operations of $250,000 in the third quarter of fiscal 1998 and income from
operations of $1,641,000 in the third quarter of fiscal 1997. The third quarter
of fiscal 1998 included a net loss of $255,000 from start-up costs of the
Company's newly formed international licensing subsidiary, Zoring International
Inc. ("Zoring"). The Company expects Zoring to contribute profits to operating
results in future periods. Also, the Company's gross margin from corporate
trading revenue decreased to a (loss) of ($187,000) in the third quarter of
fiscal 1998 from $1,363,000 in the third quarter of fiscal 1997. The gross
margin in the third quarter of fiscal 1997 was unusually high because the
Company was able to realize revenue from items on which there was no carrying
value in the balance sheet, resulting in a 100% gross margin for those items. In
the third quarter of fiscal 1998, costs of corporate trading included a charge
of $500,000 related to foreclosure of the first obligation on an office building
in Vista, California on which the Company was the holder of the second deed of
trust.
The Company reported net income of $63,000, or $0.01 per share, in the third
quarter of fiscal 1998 and net income of $2,139,000, or $0.31 per share in the
third quarter of fiscal 1997. Third quarter fiscal 1997 net income was increased
by $1,247,000, or $0.18 per share, as a result of the reversal of a deferred tax
liability related to Associated Reciprocal Traders, Ltd., which had been
recorded during the fiscal year ended July 31, 1996.
18
<PAGE>
Revenue
Total Revenue. Total revenue decreased 7% to $5,995,000 in the third quarter of
fiscal 1998 from $6,479,000 in the third quarter of fiscal 1997. Following is a
summary of the components of revenue for the third quarters of fiscal 1998 and
1997:
Twelve Weeks Ended Twelve Weeks Ended
May 7, 1998 May 7, 1997
-------------------- --------------------
(in thousands)
Corporate Trading Revenue
Trade $ 1,657 $ 2,062
Cash 233 251
-------------- --------------
1,890 2,313
-------------- --------------
Trade Exchange Revenue
Trade 1,686 1,750
Cash 2,404 2,416
-------------- --------------
4,090 4,166
-------------- --------------
Other Revenue
Trade ---- ----
Cash 15 ----
-------------- --------------
15 ----
-------------- --------------
Total Revenue
Trade 3,343 3,812
Cash 2,652 2,667
-------------- --------------
$ 5,995 $ 6,479
============== ==============
Trade Exchange Revenue. In the third quarter of fiscal 1998, the Company's
revenue from its core retail trade exchange business was $4,090,000,
approximately the same level as revenue of $4,166,000 in the third quarter of
fiscal 1997.
The Company has continued its commitment to improved broker training programs
which, in the view of the Company, is having the effect of increased rates of
new clients joining as members of the Exchange and higher performance levels by
brokers. Further, the Company continues to invest in its ongoing broad-based
marketing and advertising program targeted at recruitment of additional brokers
and members of the Exchange.
Corporate Trading Revenue. In the third quarter of fiscal 1998, the Company's
revenue from corporate trading activities decreased to $1,890,000 from
$2,313,000 in the third quarter of fiscal 1997. The decrease was the result of
the timing of closing of transactions and completion of performance requirements
for revenue recognition. The Company expects corporate trading revenue to
increase in future quarters.
Costs, Expenses, and Gross Margins
Costs of Trade Exchange Revenue. Costs of trade exchange revenue increased to
$1,990,000 in the third quarter of fiscal 1998 from $1,927,000 in the third
quarter of fiscal 1997. The gross margin from trade exchange operations was
$2,100,000 in the third quarter of fiscal 1998 as compared to $2,239,000 in the
third quarter of fiscal 1997. Costs of trade exchange revenue were 49% of trade
exchange revenue in the third quarter of fiscal 1998 and 46% in the third
quarter of fiscal 1997.
19
<PAGE>
Costs of Corporate Trading. Costs of corporate trading increased to $2,077,000
in the third quarter of fiscal 1998 from $950,000 in the third quarter of fiscal
1997. the Company's gross margin from corporate trading revenue decreased to a
(loss) of ($187,000) in the third quarter of fiscal 1998 from $1,363,000 in the
third quarter of fiscal 1997. Costs of corporate trading were 110% of trade
exchange revenue in the third quarter of fiscal 1998 and 41% in the third
quarter of fiscal 1997. Costs in the third quarter of fiscal 1998 included a
charge of $500,000 related to foreclosure of the first obligation on an office
building in Vista, California on which the Company was the holder of the second
deed of trust.
The gross margin in the third quarter of fiscal 1997 was unusually high because
the Company was able to realize revenue from items on which there was no
carrying value in the balance sheet, resulting in a 100% gross margin for those
items.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses was at approximately the same level at $1,908,000 in the
third quarter of fiscal 1998 as compared to $1,961,000 in the third quarter of
fiscal 1997. The increase was primarily attributable to costs for personnel
connected with the Company's increasing scope of operations.
Total advertising and promotion expense was $503,000 in the third quarter of
fiscal 1998 as compared to $467,000 in the third quarter of fiscal 1997. One of
the advantages available to barter businesses is the ability to fund a
significant portion of advertising costs using Trade Dollars or by other trade
consideration. During the third quarter of fiscal 1998, the Company paid
$476,000 of its advertising costs by ITEX Trade Dollars or other trade
consideration, representing 95% of total advertising costs for the period.
Comparison of Forty Week Period Ended May 7, 1998 (First Three Quarters of
- --------------------------------------------------------------------------------
Fiscal 1998) and Forty Week Period Ended May 7, 1997 (First Three Quarters of
- --------------------------------------------------------------------------------
Fiscal 1997)
- ------------
Overall Operating Results
Total revenue increased 46% to $25,931,000 in the first three quarters of fiscal
1998 from $17,789,000 in the first three quarters of fiscal 1997. Income from
operations decreased to $2,530,000 in the first three quarters of fiscal 1998
from $3,785,000 in the first three quarters of fiscal 1997. The first three
quarters of fiscal 1998 included a net loss of $255,000 from start-up costs of
the Company's newly formed international licensing subsidiary, Zoring
International Inc. ("Zoring"). The Company expects Zoring to contribute profits
to operating results in future periods. Also, selling, general and
administrative expenses increased to $6,910,000 in the first three quarters of
fiscal 1998 from $5,814,000 in the first three quarters of fiscal 1997. The
increase was primarily attributable to higher costs for personnel connected with
the Company's increasing scope of operations.
During the quarter ended November 20, 1997, the Company sold a portion of its
available-for-sale securities for cash, realizing proceeds of $3,315,000. The
cost of the securities sold amounted to $2,218,000, resulting in net gains
totaling $1,097,000.
20
<PAGE>
Net income decreased to $2,780,000, or $0.37 per share, in the first three
quarters of fiscal 1998, from $3,450,000, or $0.50 per share in the first three
quarters of fiscal 1997. Net income for the first three quarters of 1998 was
increased by net gains on sales of investments of $1,097,000, which increased
net income by $680,000, or $0.09 per share. Net income for the first three
quarters of fiscal 1997 was increased by $1,247,000, or $0.18 per share, as a
result of the reversal of a deferred tax liability related to Associated
Reciprocal Traders, Ltd., which had been recorded during the fiscal year ended
July 31, 1996.
Revenue
Total Revenue. Total revenue increased 46% to $25,931,000 in the first three
quarters of fiscal 1998 from $17,789,000 in the first three quarters of fiscal
1997. Following is a summary of the components of revenue for the first three
quarters of fiscal 1998 and 1997:
Forty Weeks Ended Forty Weeks Ended
May 7, 1998 May 7, 1997
------------------- -------------------
(in thousands)
Corporate Trading Revenue
Trade $ 9,532 $ 2,792
Cash 1,204 1,218
------------- ------------
10,736 4,010
------------- ------------
Trade Exchange Revenue
Trade 7,319 5,867
Cash 7,861 7,912
------------- ------------
15,180 13,779
------------- ------------
Other Revenue
Trade ---- ----
Cash 15 ----
------------- ------------
15 ----
------------- ------------
Total Revenue
Trade 16,851 8,659
Cash 9,080 9,130
------------- ------------
$ 25,931 $ 17,789
============= ============
Trade Exchange Revenue. In the first three quarters of fiscal 1998, the
Company's revenue from its core retail trade exchange business increased 10% to
$15,180,000 from $13,779,000 in the first three quarters of fiscal 1997. Trade
exchange revenue included revenue from foreign licenses totaling $256,000 in the
first three quarters of fiscal 1998 and $423,000 in the first three quarters of
fiscal 1997.
The Company has continued its commitment to improved broker training programs
which, in the view of the Company, is having the effect of increased rates of
new clients joining as members of the Exchange and higher performance levels by
brokers. Further, the Company continues to invest in its ongoing broad-based
marketing and advertising program targeted at recruitment of additional brokers
and members of the Exchange.
Corporate Trading Revenue. In the first three quarters of fiscal 1998, the
Company's revenue from corporate trading activities increased to $10,736,000
from $4,010,000 in the first three quarters of fiscal 1997. During the first
quarter of fiscal 1998, the Company, through its wholly-owned subsidiary,
Associated
21
<PAGE>
Reciprocal Traders, Ltd., exchanged a portfolio of available-for-sale securities
totaling $5,142,000 as part of the consideration for the 60% interest in the
Samana Resort property.
Costs, Expenses, and Gross Margins
Costs of Trade Exchange Revenue. Costs of trade exchange revenue increased to
$6,382,000 in the first three quarters of fiscal 1998 from $5,657,000 in the
first three quarters of fiscal 1997. The gross margin from trade exchange
operations was $8,798,000 in the first three quarters of fiscal 1998 as compared
to $8,122,000 in the first three quarters of fiscal 1997. Costs of trade
exchange revenue were 42% of trade exchange revenue in the first three quarters
of 1998 and 41% of corporate trading revenue in fiscal 1997.
Costs of Corporate Trading. Costs of corporate trading increased to $9,839,000
in the first three quarters of fiscal 1998 from $2,533,000 in the first three
quarters of fiscal 1997. The Company's gross margin from corporate trading
revenue was $897,000 in the first three quarters of fiscal 1998 and $1,363,000
in the first three quarters of fiscal 1997. Costs of corporate trading were 110%
of corporate trading revenue in the first three quarters of fiscal 1998 and 63%
in the first three quarters of fiscal 1997. The higher cost in the first three
quarters of fiscal 1998 was primarily attributable to the cost of the portfolio
of available-for-sale securities totaling $5,142,000 that was exchanged in the
transaction in fiscal 1998 in which the Company received the 60% interest in the
Samana Resort property. Also, costs in the first three quarters of fiscal 1998
included a charge of $500,000 related to foreclosure of the first obligation on
an office building in Vista, California on which the Company was the holder of
the second deed of trust.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased to $6,910,000 in the first three quarters of
fiscal 1998 from $5,814,000 in the first three quarters of fiscal 1997. The
increase was primarily attributable to higher costs for personnel connected with
the Company's increasing scope of operations.
Total advertising and promotion expense was $1,388,000 in the first three
quarters of fiscal 1998 as compared to $1,516,000 in the first three quarters of
fiscal 1997. One of the advantages available to barter businesses is the ability
to fund a significant portion of advertising costs using Trade Dollars or by
other trade consideration. During the first three quarters of fiscal 1998, the
Company paid $1,291,000 of its advertising costs by ITEX Trade Dollars or other
trade consideration, representing 93% of total advertising costs for the period.
Discussion of the Year 2000 Issue
- ---------------------------------
Background. The Year 2000 (Y2K) Issue is the result of computer programs being
written using two digits rather than four to define the applicable year. Any of
the Company's computer programs that have date-sensitive software may recognize
a date using "00" as the year 1900 rather than the year 2000. This could result
in a system failure or miscalculations causing disruptions of operations,
including, among other things, a temporary inability to process transactions,
send invoices, or engage in similar normal business activities.
22
<PAGE>
Scope and Impact of the Y2K Issue on the Company. The Company utilizes both
proprietary software and software provided by outside vendors which may be
impacted by the Y2K Issue. Since the efficient operation of the ITEX Retail
Trade Exchange depends upon the proper functioning of this software, Management
has assessed the potential impact of the Y2K Issue on the Company's business,
operations and financial condition. For the reasons set out below, Management
does not believe that the Company's business, operations or financial condition
will be materially impacted by the Y2K Issue as it relates to the Company's
proprietary software. Furthermore, a review of the potential impact of third
parties' failure to remediate those third parties' Y2K issues indicates that
such failure would not have a material impact on the Company's business,
operations or financial condition.
Remediation Plans. The Company has scheduled reprogramming of its AIM and ACCT
proprietary software for August or September 1998. It is estimated that such
reprogramming will require approximately 30 days of programming effort and an
additional 30 to 60 days to verify Y2K compliance. In any event, it is
contemplated that the Y2K project will be completed not later than December 31,
1998. The cost of such reprogramming and verification will not have a material
effect on the Company's results of operations when incurred. With respect to
software supplied by third parties, the Company has determined that such
software is already Y2K compliant or will be compliant well before the year 2000
or, alternatively, that any such software will be replaced at a cost which is
not material to the Company's results of operations.
Uncertainties and Contingencies. The Company presently believes that with
modifications to existing software and conversions to new software, the Year
2000 Issue can be mitigated. However, even if such modifications or conversions
are not made, or are not completed timely, the Company would be able to continue
operations manually as it did during its earliest operations. This would result
in more cumbersome and less efficient operations but would not have a material
effect on the Company's business, operations or financial condition.
There is no guarantee that the software of other companies on which the
Company's software relies will be timely converted, or that a failure to convert
by another company, or a conversion that is incompatible with the Company's
systems, would not have a material adverse effect on the Company and its
operations. However, the Company believes that in such event, the Company would
be able to continue operations, even if at a lower efficiency.
The materiality of the costs of becoming Y2K compliant and the date upon which
the Company plans to complete the Year 2000 modifications are based on
Management's best estimates, which were derived utilizing numerous assumptions
of future events including the continued availability of certain resources,
third party modification plans and other factors. However, there can be no
guarantee that these estimates will be achieved and actual results could differ
from those plans. Specific factors that might cause such differences include,
but are not limited to, the availability and cost of personnel trained in this
area, the ability to locate and correct all relevant computer codes, and similar
uncertainties.
23
<PAGE>
Inflation
- ---------
The Company's results of operations have not been affected by inflation and
management does not expect inflation to have a significant effect on its
operations in the future.
Forward-Looking Information
- ---------------------------
From time to time, the Company or its representatives have made or may make
forward-looking statements, orally or in writing. Such forward-looking
statements may be included in, but not limited to, press releases, oral
statements made with the approval of an authorized executive officer or in
various filings made by the Company with the Securities and Exchange Commission.
Words or phrases "will likely result", "are expected to", "will continue", "is
anticipated", "estimate", "project or projected", or similar expressions are
intended to identify "forward-looking statements" within the meaning of the
Private Securities Litigation Reform Act of 1995 (the "Reform Act"). The Company
wishes to ensure that such statements are accompanied by meaningful cautionary
statements, so as to maximize to the fullest extent possible the protections of
the safe harbor established in the Reform Act. Accordingly, such statements are
qualified in their entirety by reference to and are accompanied by the following
discussion of certain important factors that could cause actual results to
differ materially from such forward-looking statements.
Management is currently unaware of any trends or conditions that could have a
material adverse effect on the Company's consolidated financial position, future
results of operations, or liquidity.
However, investors should also be aware of factors that could have a negative
impact on the Company's prospects and the consistency of progress in the areas
of revenue generation, liquidity, and generation of capital resources. These
include: (i) variations in the mix of corporate trading and trade exchange
revenue, (ii) possible inability of the Company to attract investors for its
equity securities or otherwise raise adequate funds from any source, (iii)
increased governmental regulation of the barter business, (iv) a decrease in the
cash fees and commissions realized by the Company based upon a substantial
decrease in corporate or retail trade exchange transactions, and (v) unfavorable
outcomes to litigation presently involving the Company or to which the Company
may become a party in the future. See Part II, Item 1, Legal Proceedings.
The risks identified here are not all inclusive. Furthermore, reference is also
made to other sections of this report that include additional factors that could
adversely impact the Company's business and financial performance. Moreover, the
Company operates in a very competitive and rapidly changing environment. New
risk factors emerge from time to time and it is not possible for Management to
predict all of such risk factors, nor can it assess the impact of all such risk
factors on the Company's business or the extent to which any factor or
combination of factors may cause actual results to differ materially from those
contained in any forward-looking statements. Accordingly, forward-looking
statements should not be relied upon as a prediction of actual results.
24
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
BXI Litigation. On April 2, 1998, the Company announced the signing of an
agreement for the dismissal of all litigation related to the BXI Retail Trade
Exchange and for an alliance between the BXI Retail Trade Exchange and the ITEX
Retail Trade Exchange under the overall corporate umbrella of ITEX Corporation.
The paid $3,725,000 cash for the remaining 50% common equity interest in
Business Exchange International Corporation ("BEI") not already owned by the
Company. The Company also sold to the previous owner of the remaining 50% of
BEI, 150,000 shares of newly issued shares of the Company's common stock
(subject to Rule 144) for $600,000 cash, which was completed on March 30, 1998.
The Company also agreed to place 75,000 shares of common stock and warrants to
purchase an additional 75,000 shares of common stock at $7 per share into a fund
that will be distributed to current brokers of the BXI Trade Exchange who
continue as BXI brokers for a three-year period after the date of closing. The
warrants will be excercisable for three years after distribution to the brokers.
On June 25, 1998, the Company completed the acquisition of the remaining 50%
interest in Business Exchange International Corp. ("BEI"), the operator of the
BXI Trade Exchange, making BEI a 100%-owned subsidiary of the Company. This
transaction was completed pursuant to the terms of an agreement signed by the
parties for the dismissal of all litigation related to the BXI Retail Trade
Exchange and for an alliance between the BXI Retail Trade Exchange and the ITEX
Retail Trade Exchange under the overall corporate umbrella of ITEX Corporation.
SEC Inquiry. On June 28, 1996, the Company announced in a press release that the
Company was the subject of an informal inquiry from the Securities and Exchange
Commission. Subsequently, the Company received subpoenas for the production of
certain documents pursuant to a formal order of private investigation. In
connection with that investigation, the SEC has also taken the deposition of
several individuals. The Company is cooperating fully with the Securities and
Exchange Commission.
French et al. Litigation. On November 6, 1997, a Settlement Agreement and Mutual
General Release was entered between the Company and Leslie L. and Linda French,
AlphaNet, Inc. and William Bradford Financial Services, Inc. Without either
party admitting liability, the ITEX v. French, et al. and William Bradford v.
ITEX, et al . cases were dismissed in their entirety with each party bearing
his, her or its own costs and attorneys' fees.
WCFC Litigation. On February 4, 1998, Associated Reciprocal Traders, Ltd., a
British Virgin Islands corporation ("ART") which is a wholly owned subsidiary of
the Company, filed an action (the "ART Action") in the Superior Court of the
State of Washington, King County against Wade Cook Financial Corporation, a
Nevada Corporation ("WCFC"). ART seeks a declaratory judgment establishing the
rights of ART and WCFC under an agreement between them which is described in
more detail below; an injunction compelling WCFC to perform its obligations
under that agreement, as amended; compensatory damages resulting from WCFC's
failure to
25
<PAGE>
deliver and permit transfer of WCFC stock owned by ART; and, statutory damages
resulting from WCFC's violation of Washington law.
Also on February 4, 1998, WCFC filed an action (the "WCFC Action") in the
Superior Court of the State of Washington, King County against the Company and
ART. WCFC alleges that ART and the Company have not performed under the same
agreement described below. WCFC seeks a declaratory judgment establishing the
relative rights and obligations of WCFC, the Company, and ART; recission of any
contract between WCFC, the Company, and ART; and an award of WCFC's damages and
litigation costs.
The two cases have been consolidated under the general case number of the WCFC
Action.
The common, underlying facts surrounding the ART Action and the WCFC Action are
as follows: Pursuant to an agreement dated December 29, 1995 (the "1995
Agreement"), ART and Profit Financial Corporation ("PFC"), agreed to an exchange
of PFC stock for certain media credits. PFC subsequently changed its name to
Wade Cook Financial Corporation. PFC, now WCFC, issued 100,000 shares of its
restricted stock to ART. In consideration for issuance of the stock, ART
provided a media due bill (credit) for 20,000 15-second radio airtime
advertising spots.
As of the date of the ART Action and the WCFC Action, the shares issued to ART
had undergone several stock splits and now number 1,800,000 shares. The shares
were initially restricted pursuant to Rule 144 under the Securities Act of 1933.
In October 1997, ART placed an order to sell some of the WCFC shares and
requested that WCFC instruct its stock transfer agent to remove the Rule 144
restrictive legend as permitted at that point in time by Rule 144. WCFC refused
to comply with ART's request and WCFC issued a "stop transfer notice" preventing
sale of the stock by ART.
Pursuant to an amendment to the 1995 Agreement dated January 28, 1998, ART
agreed to provide 20,000 60-second radio airtime spots instead of the 20,000
15-second airtime spots. In return, WCFC confirmed that the 1,800,000 shares
owned by ART could be sold at any time in compliance with Rule 144 and agreed to
instruct its stock transfer agent to remove the stop transfer previously ordered
by WCFC. Notwithstanding that agreement, WCFC subsequently refused and failed
and continues to refuse to direct its stock transfer agent to permit transfer of
the shares.
The Company and ART are vigorously prosecuting their claims against WCFC. In
addition, the Company is fully defending the WCFC Action and considers it to be
without merit. Extensive discovery has been conducted by both parties. A hearing
on the merits of the ART action is scheduled for July 9, 1998.
On April 22, 1998, the Company filed an action in the U.S. District Court for
the District of Nevada against ITEX USA, Inc. of Great Falls, Virginia. The
complaint seeks a declaration of the relative rights of the parties to an
Exclusive Agency Agreement dated September 21, 1994. The litigation is in the
earliest stages and so estimates of positive outcomes are impossible to make. In
any event, however, this litigation does not present scenarios which would be
expected to result in a
26
<PAGE>
materially adverse effect on the Company's financial position or results of
operations.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a. Exhibits
The Exhibits hereto are listed in the accompanying Exhibit Index.
b. Reports on Form 8-K
Filed April 17, 1998 regarding sale of Series A Preferred Stock Filed
April 27, 1998, Form 8-K/A regarding sale of Series A Preferred Stock
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.
ITEX CORPORATION
June 25, 1998 /s/ Graham H. Norris
- --------------------- ------------------------------------------------
Date
Graham H. Norris, Chairman of the Board of
Directors, President and Chief Executive Officer
(principal executive officer and director)
June 25, 1998 /s/ Joseph M. Morris
- --------------------- ------------------------------------------------
Date Joseph M. Morris, Senior Vice President and Chief
Financial Officer (principal accounting officer
and director)
27
<PAGE>
EXHIBIT INDEX
EXHIBIT DESCRIPTION
---------------------- -------------------------------------------
27 Financial Data Schedule for the Forty Weeks
Ended May 7, 1998
28
<PAGE>
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> Jul-31-1998
<PERIOD-END> May-7-1998
<CASH> 4,346,000
<SECURITIES> 2,261,000
<RECEIVABLES> 1,254,000
<ALLOWANCES> 0
<INVENTORY> 5,905,000
<CURRENT-ASSETS> 10,309,000
<PP&E> 0
<DEPRECIATION> 0
<TOTAL-ASSETS> 40,598,000
<CURRENT-LIABILITIES> 1,946,000
<BONDS> 0
0
4,730,000
<COMMON> 33,652,000
<OTHER-SE> 0
<TOTAL-LIABILITY-AND-EQUITY> 40,598,000
<SALES> 0
<TOTAL-REVENUES> 25,931,000
<CGS> 16,221,000
<TOTAL-COSTS> 23,401,000
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 3,708,000
<INCOME-TAX> 928,000
<INCOME-CONTINUING> 2,780,000
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,780,000
<EPS-PRIMARY> 0.37
<EPS-DILUTED> 0.33
</TABLE>
