UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
The Quarter Ended September 30, 1998
Commission File Number 0-4186
CONSOLIDATED TECHNOLOGY GROUP LTD.
(Exact name of registrant as specified in its charter)
New York 13-1948169
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification Number)
160 Broadway, New York, NY 10038
(Address of principal executive offices) (Zip Code)
(212) 233-4500
(Registrant's telephone number, including area code)
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months, (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No ____
Number of common shares outstanding as of November 6, 1998: 49,053,996
1
<PAGE>
Consolidated Technology Group Ltd. and Subsidiaries
Index
Page
Part I: - Financial Information: ----
Item 1. Financial Statements:
Consolidated Balance Sheets - September 30, 1998 and
December 31, 1997 3-4
Unaudited Consolidated Statements of Operations
- Three and Nine Months Ended September 30, 1998 and 1997 5
Unaudited Consolidated Statements of Comprehensive
Income (Loss) - Three and Nine Months Ended September
30, 1998 and 1997 6
Unaudited Consolidated Statements of Cash Flows
- Nine Months Ended September 30, 1998 and 1997 7-8
Unaudited Consolidated Statement of Shareholders'
Equity (Deficit) - Nine Months Ended September 30, 1998 9
Unaudited Notes to Consolidated Financial Statements 10-20
Item 2. Management's Discussion and Analysis of the
Financial Condition and Results of Operations 21-31
Part II - Other Information:
Item 6. Exhibits and Reports on Form 8-K 32
Signatures 33
2
<PAGE>
Consolidated Technology Group Ltd. and Subsidiaries
Consolidated Balance Sheets
<TABLE>
<CAPTION>
September 30,
1998 December 31,
Unaudited 1997
--------- ----
<S> <C> <C>
Assets:
Current assets:
Cash and cash equivalents $ 915,000 $ 1,268,000
Receivables, net of allowances 9,150,000 10,039,000
Marketable securities 5,761,000 --
Excess of accumulated costs over related billings 314,000 642,000
Prepaid expenses and other current assets 523,000 298,000
Net current assets of discontinued segments -- 1,044,000
---------- ---------
Total current assets 16,663,000 13,291,000
---------- ----------
Property, plant and equipment, net 325,000 636,000
------- -------
Other assets:
Capitalized software development costs -- 183,000
Goodwill, net 922,000 776,000
Customer lists, net 2,619,000 5,681,000
Deferred offering costs -- 71,000
Receivables, long-term 98,000 --
Receivables, related parties 425,000 655,000
Marketable securities 2,000 19,000
Investment in unconsolidated affiliate 606,000 --
Other assets 752,000 742,000
Net assets of discontinued segments -- 15,617,000
--------- ----------
Total Other Assets 5,424,000 23,744,000
--------- ----------
Total Assets $ 22,412,000 $ 37,671,000
========== ==========
</TABLE>
See notes to consolidated financial statements
3
<PAGE>
Consolidated Technology Group Ltd. and Subsidiaries
Consolidated Balance Sheets
<TABLE>
<CAPTION>
September 30,
1998 December 31,
Unaudited 1997
--------- ----
<S> <C> <C>
Liabilities and Shareholders' Equity (Deficit):
Current liabilities:
Accounts payable and accrued expenses $ 4,873,000 $ 7,632,000
Accrued payroll and related expenses 2,149,000 1,834,000
Accrued interest 10,000 9,000
Income taxes payable -- 76,000
Interim billings in excess of costs and estimated profits 2,411,000 2,346,000
Current debt obligations 4,194,000 5,651,000
Current portion of subordinated debt 27,000 --
Current portion of capitalized lease obligations 18,000 39,000
Notes payable, related parties -- 10,000
Net current liabilities of discontinued segments 731,000 14,611,000
---------- ----------
Total current liabilities 14,413,000 32,208,000
---------- ----------
Long-term liabilities:
Long-term debt obligations -- 124,000
Capitalized lease obligations 21,000 34,000
Subordinated debt -- 139,000
------ -------
Total long-term liabilities 21,000 297,000
Contingencies (footnotes 11)
Minority interest 6,116,000 15,511,000
--------- ----------
Shareholders' equity (deficit):
Preferred stock 3,000 3,000
Common stock (50,000,000 shares authorized, 49,053,996
and 49,910,996 shares issued and outstanding as of
September 30, 1998 and December 31, 1997, respectively) 491,000 499,000
Additional paid-in capital 57,936,000 52,152,000
Accumulated Other Comprehensive Income (Expense):
Unrealized holding gain (loss) on marketable securities 139,000 (116,000)
Accumulated deficit (56,707,000) (62,883,000)
---------- ----------
Total shareholders' equity (deficit) 1,862,000 (10,345,000)
--------- ----------
Total Liabilities and Shareholders' Equity (Deficit) $ 22,412,000 $ 37,671,000
========== ==========
</TABLE>
See notes to consolidated financial statements
4
<PAGE>
Consolidated Technology Group Ltd. and Subsidiaries
Unaudited Consolidated Statements of Operations
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
------------- -------------
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Revenues $ 19,968,000 $ 23,410,000 $ 63,798,000 $ 69,879,000
Direct Costs 17,524,000 21,370,000 57,290,000 63,987,000
---------- ---------- ---------- ----------
Gross Profit 2,444,000 2,040,000 6,508,000 5,892,000
Selling, General and Administrative 4,055,000 3,539,000 9,467,000 9,402,000
Termination Payments for Executive
Contracts (footnotes 9 and 10) -- -- 2,194,000 --
----------- ----------- ---------- -----------
Loss from Operations (1,611,000) (1,499,000) (5,153,000) (3,510,000)
--------- --------- --------- ---------
Other Income (Expense):
Interest expense (83,000) (342,000) (570,000) (992,000)
Other income (expense), net (77,000) 153,000 90,000 (602,000)
Loss on sale of marketable securities (20,000) (191,000) (30,000) (191,000)
--------- --------- --------- -----------
Other expense, net (180,000) (380,000) (510,000) (1,785,000)
------- ------- ------- ---------
Loss from Continuing Operations Before
Minority Interest and Share of
Unconsolidated Affiliate's Loss (1,791,000) (1,879,000) (5,663,000) (5,295,000)
Minority Interest in Loss of Subsidiaries 129,000 77,000 31,000 584,000
Share of Income (Loss) of Unconsolidated
Affiliate 51,000 -- (83,000) --
----------- ----------- ----------- -----------
Loss from Continuing Operations (1,611,000) (1,802,000) (5,715,000) (4,711,000)
Discontinued Operations:
Income (loss) from operations of
discontinued segments (71,000) 26,000 (529,000) (2,125,000)
Gain (loss) on disposal of segments 10,000 -- 6,793,000 (396,000)
----------- ----------- --------- -----------
Income Loss before Extraordinary Item (1,672,000) (1,776,000) 549,000 (7,232,000)
Extraordinary Gain on Debt Extinguishment
5,627,000 -- 5,627,000 --
--------- ------------- --------- -------------
Net Income (Loss) $ 3,955,000 ($ 1,776,000) $ 6,176,000 ($ 7,232,000)
========= ========== ========= ==========
Basic and Diluted Earnings (Loss) per
Common Share:
Loss from continuing operations ($0.03) ($0.04) ($0.12) ($0.10)
Income (loss) from operations of
discontinued segments * * (0.01) (0.05)
Gain (loss) on disposal of segment * -- 0.14 (0.01)
Extraordinary income 0.12 -- 0.11 --
---- ---- ---- ----
Net income (loss) $0.08 ($0.04) $0.12 ($0.16)
==== ==== ==== ====
Weighted average number of common shares
48,901,974 47,053,320 49,261,472 46,220,542
========== ========== ========== ==========
</TABLE>
* - Less than ($0.01).
See notes to consolidated financial statements
5
<PAGE>
Consolidated Technology Group Ltd. and Subsidiaries
Unaudited Consolidated Statements of Comprehensive Income (Loss)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
------------- -------------
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Net Income (Loss) $ 3,955,000 ($ 1,776,000) $ 6,176,000 ($ 7,232,000)
Other Comprehensive Income:
Unrealized holding gains on available
for sale securities 74,000 161,000 224,000 165,000
Reclassification for realized losses on
available for sale securities 21,000 -- 31,000 --
--------- ------------- --------- ------------
Comprehensive Income (Loss) $ 4,050,000 ($ 1,615,000) $ 6,431,000 ($ 7,067,000)
========= ========= ========= =========
</TABLE>
See notes to consolidated financial statements
6
<PAGE>
Consolidated Technology Group Ltd. and Subsidiaries
Unaudited Consolidated Statements of Cash Flows
<TABLE>
<CAPTION>
Nine Months Ended
September 30,
-------------
1998 1997
---- ----
<S> <C> <C>
Cash Flows from Operating Activities:
Loss from continuing operations ($ 5,715,000) ($ 4,711,000)
Extraordinary Gain on Debt Extinguishment 5,627,000 --
--------- -----------
(88,000) (4,711,000)
Adjustments to reconcile loss from continuing operations to net cash used in
continuing operations:
Depreciation and amortization 528,000 809,000
Minority interest in net loss of subsidiaries (31,000) (749,000)
Extraordinary gain on debt extinguishment (5,627,000) --
Bad debt expense 385,000 424,000
Share of loss of unconsolidated affiliate 83,000 --
Equity method loss in subsidiaries joint venture -- 140,000
Noncash expense from subsidiaries issuance of stock options -- 106,000
Value of stock issued in lieu of cash 80,000 73,000
Value of subsidiaries stock issued in lieu of cash 196,000 --
Loss on sale of marketable securities 30,000 191,000
Write-off deferred offering costs 71,000 162,000
Change in assets and liabilities:
Loss on disposal of fixed assets 40,000 --
(Increase) decrease in assets:
Receivables (1,678,000) (2,171,000)
Excess of accumulated costs over related billings (310,000) (94,000)
Prepaid expense and other current assets (214,000) (52,000)
Increase (decrease) in liabilities:
Accounts payable and accrued expenses (693,000) 2,804,000
Accrued payroll and related expenses 315,000 584,000
Accrued interest 1,000 591,000
Income taxes payable (76,000) (26,000)
Interim billings in excess of costs and estimated profits 1,134,000 329,000
--------- ---------
Net cash used in continuing operations (5,854,000) (1,590,000)
--------- ---------
Loss from discontinued operations (529,000) (2,125,000)
Adjustments to reconcile loss from discontinued operations to net cash used by
discontinued operations:
Depreciation and amortization 743,000 4,700,000
Bad debt expense 338,000 1,902,000
Gain on sale of fixed assets -- (31,000)
(Gain) loss on disposal of segments (6,793,000) 396,000
Net change in assets and liabilities 6,007,000 (4,487,000)
--------- ---------
Net cash provided by (used in) discontinued operations (234,000) 355,000
------- -------
Net cash used in operating activities (6,088,000) (1,235,000)
--------- ---------
(continued)
</TABLE>
See notes to consolidated financial statements
7
<PAGE>
Consolidated Technology Group Ltd. and Subsidiaries
Unaudited Consolidated Statements of Cash Flows
<TABLE>
<CAPTION>
Nine Months Ended
September 30,
-------------
1998 1997
---- ----
<S> <C> <C>
Cash Flows from Investing Activities:
(Increase) decrease in other assets 21,000 (64,000)
Capital expenditures (117,000) (355,000)
Capitalized software development costs -- (462,000)
Investments in marketable securities (8,000,000) (149,000)
Proceeds from sale of marketable securities 2,480,000 62,000
Net proceeds from disposal of segments 14,994,000 --
Acquisition of customer list (413,000) --
Payments for loans made -- (239,000)
Collections for repayment of loans made 132,000 348,000
Cash of affiliate converted to an equity method investment (855,000) --
------- ---------
Net cash provided by (used in) investing activities 8,242,000 (859,000)
--------- -------
Cash Flows from Financing Activities:
Deferred offering costs -- (329,000)
Net advances from (payments to) asset based lender (408,000) 981,000
Proceeds from issuance of debt -- 800,000
Debt repayments (378,000) (15,000)
Proceeds from issuance of subordinated debt -- 139,000
Repayment of subordinated debt (91,000) --
Repayment of discontinued subsidiaries debt (1,620,000) --
Payments on capital lease obligations (10,000) (34,000)
Proceeds from exercise of subsidiary's stock options -- 50,000
----------- ---------
Net cash provided by (used in) financing activities (2,507,000) 1,592,000
----------- ---------
Net Decrease in Cash and Cash Equivalents (353,000) (502,000)
Cash and Cash Equivalents at Beginning of Period 1,268,000 1,185,000
--------- ---------
Cash and Cash Equivalents at End of Period $ 915,000 $ 683,000
======= =======
Supplemental Disclosures of Cash Flow Information:
Cash paid for:
Interest $ 569,000 $ 401,000
======= =======
Income taxes $ -- 26,000
=========== ======
(concluded)
</TABLE>
Supplemental Disclosures of Non Cash Investing and Financing Activities:
During the nine months ended September 30, 1998:
In lieu of cash payment, the Company issued 333,000 shares of common stock
valued at $73,000 and its subsidiary operating in the telecommunications
segment issued shares of its common stock valued at $196,000.
During the nine months ended September 30, 1997:
Equipment was acquired under capital lease obligations with a net present
value of $18,000. In lieu of cash payment for services rendered, the
Company issued 1,223,225 shares of common stock valued
at $73,000.
A subsidiary of the Company, operating in the contract engineering
services segment, incurred noncash expense from the issuance of stock
options valued at $106,000.
See notes to consolidated financial statements
8
<PAGE>
Consolidated Technology Group Ltd. and Subsidiaries
Unaudited Consolidated Statements of Shareholders Equity (Deficit)
Nine Months Ended September 30, 19987
<TABLE>
<CAPTION>
Stock Issued in
Convert Lieu of Cash
Affiliate Payment for Cancellation
Balance at to an Equity Services of Common
December 31, Method Rendered Stock
1997 Investment (footnote 12) (Footnote 9)
---- ---------- ------------- ------------
<S> <C> <C> <C> <C>
Preferred stock $1.00 par value,
$3.50 and $0.10, Series B and E,
8,000 shares authorized each:
Shares 262 -- -- --
Amounts $ 1,000 -- -- --
Preferred stock, $1.00 par value,
$8.00 subordinated Series F, 6,000
shares authorized:
Shares 2,700 -- -- --
Amounts $ 2,000 -- -- --
----------- --------- ------------- ------------
Total Preferred stock $ 3,000 -- -- --
Common stock, $0.01 par value,
50,000,000 shares authorized:
Shares 49,910,996 -- 333,000 ( 1,190,000)
Amounts $ 499,000 -- $ 3,000 ($ 11,000)
Additional paid-in capital $ 52,152,000 $ 5,696,000 77,000 $ 11,000
Unrealized holding gain (loss) on
marketable securities ($ 116,000) -- -- --
Accumulated deficit ($ 62,883,000) -- -- --
----------- --------- ----------- ----------
Total shareholders' equity (deficit) ($ 10,345,000) $ 5,696,000 $ 80,000 $ --
=========== ========= =========== ==========
(continued)
</TABLE>
See notes to consolidated financial statements.
<PAGE>
Consolidated Technology Group Ltd. and Subsidiaries
Unaudited Consolidated Statements of Shareholders Equity (Deficit)
Nine Months Ended September 30, 19987
<TABLE>
<CAPTION>
Accumulated
Other
Comprehensive Balance
Income - at
Net Unrealized December 31,
Income Holding Gains 1998
------- ---------- ----
<S> <C> <C> <C>
Preferred stock $1.00 par value,
$3.50 and $0.10, Series B and E,
8,000 shares authorized each:
Shares -- -- 262
Amounts -- -- 1,000
Preferred stock, $1.00 par value,
$8.00 subordinated Series F, 6,000
shares authorized:
Shares -- -- 2,700
Amounts -- -- $ 2,000
------- ------- ------------
Total Preferred stock, par -- -- $ 3,000
Common stock, $0.01 par value,
50,000,000 shares authorized:
Shares -- -- 49,053,996
Amounts -- -- $ 491,000
Additional paid-in capital -- -- $ 57,936,000
Unrealized holding gain (loss) on
marketable securities -- -- $ 139,000
Accumulated deficit 6,176,000 -- ($ 56,707,000)
--------- ------- ----------
Total shareholders' equity (deficit) $ 6,176,000 $ 255,000 $ 1,862,000
========= ======= =========
(concluded)
</TABLE>
See notes to consolidated financial statements.
9
<PAGE>
Consolidated Technology Group Ltd. and Subsidiaries
Unaudited Footnotes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
(1) Basis of Presentation - In the opinion of the Company, the accompanying
unaudited financial statements contain all adjustments (consisting of only
normal recurring accruals) necessary to present fairly the financial position of
Consolidated Technology Group Ltd. and Subsidiaries (the "Company"), as of
September 30, 1998 and December 31, 1997, the statement of operations and the
statement of comprehensive income (loss) for the three and nine months ended
September 30, 1998 and 1997, the statement of cash flows for the nine months
ended September 30, 1998 and 1997 and the statement of changes in shareholders'
equity (deficit) for the nine months ended September 30, 1998. At September 30,
1998 and December 31, 1997, the Company owned approximately 40% of the
outstanding common stock of Trans Global Services, Inc. ("Trans Global"), a
public company. At December 31, 1997, the Company and Trans Global shared a
common chief executive officer ("CEO") and chairman of the board, who owned
approximately 4% of Trans Global's common stock and held warrants to purchase
additional shares of Trans Global's common stock. During 1998, the former CEO
and chairman of the board of the Company and Trans Global resigned as an officer
and director of both companies. As of the date of this report, the Company and
Trans Global do not have a common CEO, however, because of the Company's
ownership interest in Trans Global and because the three present directors of
the Company are three of the five directors of Trans Global, Trans Global is
treated as a consolidated subsidiary as of September 30, 1998. See footnote 11
in connection with obligations and potential obligations the Company has to
Trans Global.
(2) Accounting Policies - The accounting policies followed by the Company are
set forth in Note 1 to the Company's financial statements in the December 31,
1997 Form 10-K except as disclosed herein in footnotes 1 and 5.
(3) Interim Results - The results of operations for the three and nine months
ended September 30, 1998 and 1997 are not necessarily indicative of the results
to be expected for the full year.
(4) Earnings (Loss) Per Share - The following reconciles the numerators and
denominators of the basic and diluted earnings (loss) per share computations for
loss from continuing operations.
<TABLE>
<CAPTION>
Loss Shares Per-Share
(Numerator) (Denominator) Amount
----------- ------------- ------
<S> <C> <C> <C>
Nine Months Ended September 30, 1998:
Loss from continuing operations ($ 5,715,000)
Less: Preferred stock dividends
--
---------
Basic Loss per Common Share:
Loss available to common stockholders ($ 5,715,000) 49,261,472 ($0.12)
====
Effect of Dilutive Securities:
Warrants * -- --
--------- ----------
Diluted Loss per Common Share:
Loss available to common stockholders, plus assumed
conversions ($ 5,715,000) 49,261,472 ($0.12)
========= ========== ====
Nine Months Ended September 30, 1997:
Loss from continuing operations ($ 4,711,000)
Less: Preferred stock dividends
--
---------
Basic Loss per Common Share:
Loss available to common stockholders (4,711,000) 46,220,532 ($0.10)
====
Effect of Dilutive Securities:
Warrants * -- --
--------- ----------
Diluted Loss per Common Share:
Loss available to common stockholders, plus assumed
conversions ($ 4,711,000) 46,220,532 ($0.10)
========= ========== ====
</TABLE>
10
<PAGE>
Consolidated Technology Group Ltd. and Subsidiaries
Unaudited Footnotes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
(4) Earnings (Loss) Per Share (continued):
<TABLE>
<CAPTION>
Loss Shares Per-Share
(Numerator) (Denominator) Amount
----------- ------------- ------
<S> <C> <C> <C>
Three Months Ended September 30, 1998:
Loss from continuing operations ($ 1,611,000)
Less: Preferred stock dividends
--
---------
Basic Loss per Common Share:
Loss available to common stockholders ( 1,611,000) 48,901,974 ($0.03)
====
Effect of Dilutive Securities:
Warrants * -- --
--------- ----------
Diluted Loss per Common Share:
Loss available to common stockholders, plus assumed
conversions ($ 1,611,000) 48,901,974 ($0.03)
========= ========== ====
Three Months Ended September 30, 1997:
Loss from continuing operations ($ 1,802,000)
Less: Preferred stock dividends
--
---------
Basic Loss per Common Share:
Loss available to common stockholders ( 1,802,000) 47,053,320 ($0.04)
====
Effect of Dilutive Securities:
Warrants * -- --
--------- ----------
Diluted Loss per Common Share:
Loss available to common stockholders, plus assumed
conversions ($ 1,802,000) 47,053,320 ($0.04)
========= ========== ====
</TABLE>
* - A warrant to purchase 1,000,000 shares of common stock at $0.75 per share
was outstanding for all of the above periods but was not included in the
computation of diluted loss per common share because the warrant's exercise
price was greater than the average market price of the common shares. The
warrant, which expires October 1, 1999, was outstanding at September 30, 1998.
(5) Unconsolidated Affiliated Companies - As of December 31, 1997 and September
30, 1998, the Company owned approximately 36% of the common stock of Netsmart
Technologies, Inc. ("Netsmart"), a publicly held company. As of December 31,
1997, the Company and Netsmart shared two common directors and the same CEO and
chairman of the board, which resulted in the Company having significant
influence over the operations and decisions of Netsmart. Furthermore, the former
CEO and chairman of the board of the Company owned a large block of Netsmart
common stock. Accordingly, as of December 31, 1997, Netsmart was considered a
consolidated affiliate for accounting purposes. During 1998, the former CEO and
chairman of the board of both the Company and Netsmart resigned from both
positions and the two common board directors of both the Company and Netsmart
resigned. Due to the above change in effective control, Netsmart, for the three
and nine months ended September 30, 1998 is presented in the financial
statements as an unconsolidated affiliate. The investment in Netsmart, accounted
for under the equity method, amounted to $606,000 as of September 30, 1998 and
the Company's share of Netsmart's income (loss) amounted to $51,000 and
($83,000) for the three and nine months ended September 30, 1998, respectively.
The results of operations and financial position of Netsmart is summarized as
follows:
(5) Unconsolidated Affiliated Companies (continued):
Condensed Statement of Operations Information:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
------------- -------------
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Net revenues $ 3,540,000 $ 1,831,000 $ 8,881,000 $ 5,144,000
========= ========= ========= =========
Gross profit $ 1,345,000 ($ 87,000) $ 3,441,000 $ 335,000
========= ====== ========= =======
Net income (loss) $ 123,000 ($ 665,000) ($ 234,000) ($ 1,904,000)
======= ======= ======= =========
</TABLE>
11
<PAGE>
Consolidated Technology Group Ltd. and Subsidiaries
Unaudited Footnotes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Condensed Balance Sheet Information:
September 30, December 31,
1998 1997
---- ----
Current assets $ 4,956,000 $ 3,664,000
========= =========
Non-current assets $ 3,380,000 $ 3,676,000
========= =========
Current liabilities $ 5,483,000 $ 4,200,000
========= =========
Shareholders' equity $ 2,854,000 $ 3,140,000
========= =========
(6) Industry Segments - During 1997, the Company discontinued the Medical
Diagnostics, Electro-Mechanical and Electro-Optical Products Manufacturing,
Audio Products Manufacturing, Three Dimensional Products and Services and
Business Consulting Services segments. Additionally, effective January 1, 1998,
Netsmart, an affiliate which represented the Medical Information Services
segment, is no longer a consolidated affiliate and instead is an equity method
investment (see footnote 5). As a result, the Company currently classifies its
operations into two business segments: (i) Contract Engineering Services, which
consists of Trans Global, a subsidiary that provide engineers, designers and
technical personnel on a temporary basis pursuant to contracts with major
corporations and (ii) Telecommunications, which consists of Arc Networks, Inc.
("Arc Networks"), a subsidiary that installs telephonic network systems and buys
and resells local and long-distance telephone service. Corporate and Other
consists of the operating activities of the Company and SISC Capital Corp.
("SISC"), a wholly owned holding company. During 1997, the business segments
also include Medical Information Services since during 1997, Netsmart was still
a consolidated affiliate. Inter segment sales are eliminated and sales outside
the United States are not material.
Information concerning the Company's business segments is as follows:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
------------- -------------
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Revenues:
Contract Engineering $16,343,000 $18,799,000 $53,514,000 $ 57,690,000
Medical Information -- 1,831,000 -- 5,144,000
Telecommunications 3,625,000 2,780,000 10,284,000 7,045,000
--------- --------- ---------- ---------
$19,968,000 $23,410,000 $63,798,000 $ 69,879,000
========== ========== ========== ==========
Gross Profit:
Contract Engineering $ 1,621,000 $ 1,761,000 $ 4,717,000 $ 4,782,000
Medical Information -- (87,000) -- 335,000
Telecommunications 823,000 366,000 1,791,000 775,000
------- --------- --------- -------
$ 2,444,000 $ 2,040,000 $ 6,508,000 $ 5,892,000
========= ========= ========= =========
Operating Income (Loss):
Contract Engineering $ 220,000 $ 688,000 $ 698,000 $ 1,167,000
Medical Information -- (540,000) -- (1,525,000)
Telecommunications (599,000) (297,000) (1,048,000) (943,000)
Corporate and Other (1,277,000) (1,425,000) (4,938,000) (2,434,000)
Intercompany Transactions 45,000 75,000 135,000 225,000
------ ------ ------- -------
($ 1,611,000) ($ 1,499,000) ($ 5,153,000) ($ 3,510,000)
========= ========= ========= =========
(6) Industry Segments (continued)
Three Months Ended Nine Months Ended
September 30, September 30,
------------- -------------
1998 1997 1998 1997
---- ---- ---- ----
Interest Expense:
Contract Engineering $ 99,000 $ 202,000 $ 433,000 $ 584,000
Medical Information -- 89,000 -- 240,000
Telecommunications 7,000 60,000 155,000 196,000
Corporate and Other 3,000 3,000 8,000 5,000
Intercompany Transactions (26,000) (12,000) (26,000) (33,000)
------ ------ ------ -------
$ 83,000 $ 342,000 $ 570,000 $ 992,000
====== ======= ======= =======
Other Income (Expense):
Contract Engineering ($ 10,000) $ 34,000 $ 9,000 $ 96,000
Medical Information -- (35,000) -- (140,000)
Telecommunications -- (5,000) -- (7,000)
Corporate and Other 4,000 246,000 242,000 (293,000)
Intercompany Transactions (71,000) (87,000) (161,000) (258,000)
------ ------- ------- -------
($ 77,000) $ 153,000 $ 90,000 ($ 602,000)
====== ======= ====== =======
</TABLE>
12
<PAGE>
Consolidated Technology Group Ltd. and Subsidiaries
Unaudited Footnotes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
------------- -------------
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Net Income (Loss):
Contract Engineering $ 113,000 $ 521,000 $ 276,000 $ 679,000
Medical Information -- (665,000) -- (1,904,000)
Telecommunications (607,000) (362,000) (1,204,000) (1,146,000)
Corporate and Other (1,297,000) (1,373,000) (4,735,000) (2,924,000)
Minority Interest in Loss Of
Subsidiaries 129,000 77,000 31,000 584,000
Share of Income (Loss) of
Unconsolidated Affiliate 51,000 -- (83,000) --
Income (Loss) from Operations of
Discontinued segments (71,000) 26,000 (529,000) (2,125,000)
Gain (Loss) on Disposal of Segments 10,000 -- 6,793,000 (396,000)
Extraordinary Gain on Debt
Extinguishment 5,627,000 -- 5,627,000
--------- --------- ---------
$ 3,955,000 ($ 1,776,000) $ 6,176,000 ($ 7,232,000)
========= ========= ========= =========
Depreciation and Amortization:
Contract Engineering $ 84,000 $ 191,000 $ 258,000 $ 297,000
Medical Information -- 161,000 -- 440,000
Telecommunications 97,000 22,000 262,000 59,000
Corporate and Other -- 4,000 8,000 13,000
------- ------- ------- -------
$ 181,000 $ 378,000 $ 528,000 $ 809,000
======= ======= ======= =======
Capital Expenditures:
Contract Engineering $ 14,000 $ 55,000 $ 57,000 $ 160,000
Medical Information -- 53,000 -- 137,000
Telecommunications 26,000 52,000 59,000 52,000
Corporate and Other -- 1,000 1,000 6,000
------ ------- ------- -------
$ 40,000 $ 161,000 $ 117,000 $ 355,000
====== ======= ======= =======
</TABLE>
(6) Industry Segments (continued)
September 30, December 31,
Identifiable Assets: 1998 1997
---- ----
Contract Engineering $ 14,046,000 $ 13,943,000
Medical Information -- 7,340,000
Telecommunications 4,779,000 2,793,000
Corporate and Other 8,814,000 23,234,000
Discontinued Segments -- 20,015,000
Intercompany Balances (5,227,000) (29,654,000)
--------- ----------
$ 22,412,000 $ 37,671,000
========== ==========
13
<PAGE>
Consolidated Technology Group Ltd. and Subsidiaries
Unaudited Footnotes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
(7) Concentrations of Credit Risk - The Company's segments extend credit to
customers which result in accounts receivable arising from their normal business
activities and do not require its customers to collateralize their payables to
the segments. The Company's segments routinely assess the financial strength of
its customers and believe that their accounts receivable credit risk exposure is
limited. Such estimate of the financial strength of such customers may be
subject to change in the near future. Trans Global, operating in the Contract
Engineering Services segment, has five clients, which when combined, account for
approximately 74% and 80% of the total revenues of the segment for the three
months ended September 30, 1998 and 1997. These same clients account for
approximately 58% of the outstanding accounts receivable of Trans Global. On a
consolidated basis these five customers represent approximately 61% of the
Company's consolidated revenue for the three months ended September 30, 1998 and
approximately 37% of the Company's consolidated accounts receivable balance at
September 30, 1998.
(8) Discontinued Operations - During 1997, the Company discontinued the Audio
Products Manufacturing, Three Dimensional Products and Services, Medical
Diagnostics, Electro-Optical and Electro-Mechanical Products Manufacturing and
Business Consulting Services segments.
(a) Audio Products Manufacturing - In May 1997, the Company sold all of the
issued and outstanding capital stock of WWR Technology, Inc., ("WWR"), the
subsidiary in which all of the operations of the Audio Products Manufacturing
segment operating activities were conducted, for $100,000. As a result of the
sale, the Company received net proceeds of approximately $62,000 and recorded a
gain of approximately $129,000 on the disposal in the second quarter of 1997.
The revenues of the Audio Products Manufacturing segment through May 1997
approximated $1.2million. The operations of WWR up to the date of the disposal
are classified as loss from the operations of a discontinued segment.
(b) Three Dimensional Products and Services - Effective June 30, 1997, (the "3D
Measurement Date"), the Company formulated a plan to discontinue the operations
of all of the subsidiaries operating in the Three-Dimensional Products and
Services segment. As of the 3D Measurement Date, the Company accrued an estimate
of $250,000 for anticipated losses from the 3D Measurement Date until the date
the disposal is completed, which is expected to be completed during 1998. The
Company has written-off all assets of the Three-Dimensional Products and
Services subsidiaries, consisting primarily of capitalized product development
costs and property, plant and equipment. As of the 3D Measurement Date, it was
not known which liabilities the Company would be obligated to pay on behalf of
the discontinued segment and as of December 31, 1997 all of the segment's
remaining liabilities were recorded as net liabilities of a discontinued
segment. As of September 30, 1998, management estimates that the Company will be
obligated to pay approximately $482,000 of the segment's liabilities and has
written-off the remaining $1.1 million of liabilities. As of December 31, 1997
the estimated loss on disposal was approximately $649,000 and as of September
30, 1998 the Company estimates a gain on disposal of approximately $1.3 million
as a result of the Company's belief that it will not have to pay certain
obligations of the segment. However, because an estimated loss was recorded in
1997, the actual gain recorded by the Company for the disposal during the nine
months ended September 30, 1998 approximates $1.9 million. The revenues of the
Three-Dimensional Products and Services segment were approximately $92,000 and
$252,000 for the three and nine
(8) Discontinued Operations (continued)
months September 30, 1997, respectively. The operations of the Three Dimensional
Products and Services segment are classified as loss from the operations of a
discontinued segment.
As of September 30, 1998 and December 31, 1997 the liabilities of the
Three-Dimensional Products and Services segment included in the Company's
consolidated balance sheet consisted of the following.
<TABLE>
<CAPTION>
September 30, December 31,
1998 1997
---- ----
<S> <C> <C>
Accounts payable and accrued expenses $ 130,000 $ 1,882,000
Accrued payroll and related expenses 98,000 246,000
Accrued interest 24,000 24,000
Notes payable, related parties 95,000 278,000
Current portion of long-term debt 135,000 175,000
------- -------
Net current liabilities of discontinued segment $ 482,000 $ 2,605,000
======= =========
</TABLE>
14
<PAGE>
Consolidated Technology Group Ltd. and Subsidiaries
Unaudited Footnotes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
(c) Medical Diagnostics - Effective September 1, 1997, the Company formulated a
plan to discontinue the operations of all of the subsidiaries operating in the
Medical Diagnostics segment. Pursuant to such plan, on April 2, 1998, the
Company consummated the sale of substantially all of the assets of International
Magnetic Imaging, Inc. ("IMI"). Such sale resulted in a gain on disposal of
approximately $4.9 million as follows:
Proceeds from Sale of Assets:
Cash $ 19,950,000
Assumption of liabilities 24,904,000
Direct expenses of sale (3,188,000)
---------
Net proceeds from sale of assets 41,666,000
Net Book Value of Assets Sold 21,636,000
----------
Gain on Sale of Assets 20,030,000
Write-off Intangible Assets not Sold 13,380,000
----------
Gain on Sale after Write-off of Intangible Assets 6,650,000
Portion of Gain Attributable to Minority Interest Holders 1,767,000
---------
Gain on Disposal of Segment 4,883,000
=========
The remaining net current liabilities of the Medical Diagnostic segment as of
September 30, 1998, consist of income taxes. The revenues of the Medical
Diagnostics segment approximated $6.8 million through April 1998 and
approximated $7.4 million and $22.5 million for three and nine months September
30, 1997, respectively. The operations of the Medical Diagnostics segment are
classified as loss from the operations of a discontinued segment.
15
<PAGE>
Consolidated Technology Group Ltd. and Subsidiaries
Unaudited Footnotes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
(8) Discontinued Operations (continued)
As of September 30, 1998 and December 31, 1997 the assets and liabilities of the
Medical Diagnostics segment included in the Company's consolidated balance sheet
consisted of the following.
<TABLE>
<CAPTION>
September 30, December 31,
1998 1997
---- ----
<S> <C> <C>
Cash $ -- $ 1,813,000
Accounts receivable, net -- 9,803,000
Loans receivable -- 325,000
Property, plant and equipment -- 9,738,000
Goodwill -- 9,181,000
Customer lists, net -- 4,430,000
Receivable, long-term -- 1,271,000
Other assets -- 735,000
----------
Total assets -- 37,296,000
----------
Accounts payable and accrued expenses -- 3,978,000
Accrued interest -- 814,000
Income taxes payable 249,000 249,000
Subordinated debt related parties -- 924,000
Current portion of long-term debt -- 10,932,000
Current portion of subordinated debt -- 5,721,000
Current portion of capitalized lease obligations -- 1,240,000
Deferred interest -- 498,000
Long-term debt -- 7,710,000
Capitalized lease obligations -- 1,702,000
Subordinated debt -- 8,000
------- ----------
Total liabilities 249,000 33,776,000
------- ----------
Net assets (liabilities) to be disposed of ($ 249,000) $ 3,520,000
======= =========
Presented in the balance sheet as follows:
Net current liabilities of discontinued segment ($ 249,000) ($ 11,916,000)
Net long-term assets of discontinued segment -- 15,436,000
------- ----------
Net assets (liabilities) to be disposed of ($ 249,000) $ 3,520,000
======= =========
</TABLE>
16
<PAGE>
Consolidated Technology Group Ltd. and Subsidiaries
Unaudited Footnotes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
(8) Discontinued Operations (continued)
(d) Electro-Optical and Electro-Mechanical Products Manufacturing - Effective
December 31, 1997, the Company entered into an agreement to sell the
Electro-Optical and Electro-Mechanical Products Manufacturing segment. The loss
on the disposal of the segment approximates $31,000. The revenues of the
Electro-Optical and Electro-Mechanical Products Manufacturing segment were
$841,000 and $2.3 million for the three and nine months September 30, 1997,
respectively. The operations of the Electro-Optical and Electro-Mechanical
Products Manufacturing segment are classified as loss from the operations of a
discontinued segment.
As of December 31, 1997 the assets and liabilities of the Electro-Optical and
Electro-Mechanical Products Manufacturing segment included in the Company's
consolidated balance sheet consisted of the following.
December 31,
1997
----
Cash $ 29,000
Accounts receivable, net 304,000
Inventories 1,820,000
Prepaid and other current assets 4,000
Property, plant and equipment 161,000
Other assets 20,000
---------
Total assets 2,338,000
---------
Accounts payable and accrued expenses 778,000
Accrued payroll and related obligations 34,000
Notes payable, related parties 34,000
Current portion of long-term debt 303,000
Current portion of capitalized lease obligations 54,000
------
Total liabilities 1,203,000
---------
Net assets to be disposed of $ 1,135,000
=========
Presented in the balance sheet as follows:
Net current assets of discontinued segment $ 1,044,000
Net current liabilities of discontinued segment (90,000)
Net long-term assets of discontinued segment 181,000
-------
Net assets to be disposed of $ 1,135,000
=========
(e) Business Consulting Services - Effective December 31, 1997, the Company
entered into an agreement to sell the Business Consulting Services segment. The
loss on the disposal of the segment approximates $1,000. The revenues of the
Business Consulting Services segment were $127,000 and $381,000 for the three
and nine months September 30, 1997, respectively. The operations of the Business
Consulting Services segment are classified as loss from the operations of a
discontinued segment. As of December 31, 1997 assets of the Business Consulting
Services segment consisted of $1,000 of net property, plant and equipment
presented in the balance sheet as net long-term assets of discontinued segment.
17
<PAGE>
Consolidated Technology Group Ltd. and Subsidiaries
Unaudited Footnotes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
(9) Resignation of Registrant's Directors, Chief Executive Officer and Corporate
Secretary on March 30, 1998, the Company and its wholly-owned subsidiary, SISC,
entered into a series of agreements with Lewis S. Schiller ("Schiller"), Grazyna
B. Wnuk ("Wnuk"), E. Gerald Kay ("Kay") and Norman J. Hoskin ("Hoskin").
Pursuant to the agreements:
a) Schiller, Wnuk, Kay and Hoskin resigned as directors and officers of
the Company and its subsidiaries contemporaneously with the closing of
the sale by IMI of substantially all of its assets pursuant to an asset
purchase agreement dated as of January 28, 1998 between IMI and
Comprehensive Medical Imaging, Inc. IMI is a subsidiary of the Company,
which operated in the Medical Diagnostics segment. The sale by IMI is
referred to as the "IMI Sale" (see footnote 8(c)).
b) In consideration for payments of approximately $4.0 million to
Schiller and Wnuk, the Company purchased from Schiller and Wnuk all of
their rights under their respective employment agreements with the
Company and their stock interest in IMI. Such payments represent a
significant discount from the amounts due under their respective
employment agreements. $1.6 million of the above $4 million settlement
relates to Schiller's and Wnuk's stock interest in the IMI sale. The
remainder of $2.4 million relates to obligations of the Company, of
which approximately $600,000 has been previously accrued in the
financial statements, resulting in increased expense of approximately
$1.8 million during 1998.
c) During April 1998, Schiller transferred to the Company 1,190,000
shares of the Company's Common Stock owned by him.
d) The Company transferred to Schiller or his designees for nominal
consideration, certain subsidiaries of the Company. Such subsidiaries
operated at a loss and had, in the aggregate, either a negative or zero
net worth (see footnotes 8(d) and 8(e)).
e) Schiller entered into a three-year consulting agreement with the
Company, for which he will receive annual compensation of $100,000.
Such consulting fees started accruing in April 1998.
f) The Company, its subsidiaries and Schiller, Wnuk, Kay and Hoskin
executed mutual releases and the Company provided Schiller, Wnuk, Kay
and Hoskin with certain indemnification rights.
The negotiations, with respect to these agreements, were conducted with
representatives of shareholders who are not affiliated with the prior management
or with the plaintiffs in certain recent litigation against the Company.
Immediately prior to the completion of the IMI Sale, Schiller, Wnuk, Kay and
Hoskin elected as their successors as directors three individuals who were
designated by the representative of the shareholders.
In April 1998, Schiller notified the Company of his claim that the
aforementioned three year consulting agreement had been breached by the Company
and that the balance of the payments due thereunder were accelerated and
immediately due and payable. The Company has disputed Schiller's contentions
with respect to such claimed breach; however, the Company has accrued $375,000,
which represents an estimate of a proposed settlement to resolve the matter.
18
<PAGE>
Consolidated Technology Group Ltd. and Subsidiaries
Unaudited Footnotes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
(10) Renegotiated Contract with Chief Financial Officer
On April 14, 1998, Mr. George W. Mahoney, the Company's Chief Financial Officer
("CFO"), gave the Company notice that he was exercising his right under his
employment agreement with the Company (the "Original Agreement") to terminate
his employment on ninety days notice. At that time, Mr. Mahoney also advised the
Company that, in his view, the agreement required the Company, as a consequence
of the April 1998 change of control of the Company's management, to pay him a
lump sum equal to his salary for the balance of the term of the agreement, which
was approximately $2.4 million. On June 16, 1998, Mr. Mahoney and the Company
executed an Amended and Restated Employment Agreement (the "Amended Agreement"),
whereby Mr. Mahoney continues to serve the Company as its CFO for a term that
commenced on June 1, 1998 and will expire on May 31, 1999.
The material provisions of the Amended Agreement include the payment to Mr.
Mahoney of an annual salary of $202,000, and the payment by the Company of
$350,000 in settlement of his claims for change of control compensation under
the Original Agreement. The payment was made to Mr. Mahoney on June 19, 1998.
The Company also delivered a general release to Mr. Mahoney simultaneously with
the execution of the Amended Agreement. By its terms, the general release
extinguishes any claims that the Company might have had against Mr. Mahoney,
whether known or unknown, arising from or in conjunction with Mr. Mahoney's
services by, or on behalf of, the Company as an officer, director or
shareholder, or otherwise, prior to and including April 3, 1998.
(11) Contingencies
Series G Preferred Stock - During 1995, the Company issued to Trans Global 1,000
shares of Series G 2% cumulative, convertible, preferred stock, which
automatically converts on September 30, 2000 into such number of shares of the
Company's common stock as shall have a value equaling $2.1 million. The
preferred shares were issued in order to satisfy an intercompany payable that
was owed to Trans Global by WWR, a discontinued subsidiary of the Company. In
March 1998, the Company amended its certificate of incorporation, with the
consent of Trans Global as the sole holder of the Series G Preferred Stock, to
change the rights, preferences and privileges of the holders of the Series G
Preferred Stock. As a result of such amendment, the conversion provisions were
terminated and the Series G Preferred Stock became subject to redemption at the
option of either the Company or the holders of the Series G Preferred Stock at
an aggregate redemption price of $2.1 million. Because Trans Global is a
consolidated subsidiary of the Company, the Series G Preferred Stock is
eliminated in consolidation against Trans Global's investment in the Series G
Preferred Stock. If Trans Global were to become an unconsolidated affiliate, the
Series G Preferred Stock would be classified as an obligation of the Company.
Furthermore, upon the redemption of the Series G Preferred Stock, the Company is
obligated to pay $2.1 million to Trans Global.
Intercompany Debt Obligations - As of September 30, 1998, the Company owes Trans
Global approximately $248,000 in consideration of amounts that were owed to
Trans Global by a discontinued subsidiary of the Company, which formerly
operated in the Three Dimensional Products and Services segment. Additionally,
Arc Networks owes Trans Global approximately $1.2 million for advances made to
Arc Networks by Trans Global. Because Trans Global is a consolidated subsidiary
of the Company, such intercompany obligations are eliminated in consolidation.
If Trans Global were to become an unconsolidated affiliate, the amounts would be
classified as debt obligations. On March 13, 1998, the Company agreed to
guarantee the outstanding indebtedness of Arc Networks to Trans Global. During
September 1998, the Company provided Arc Networks with a $2 million line of
credit collateralized by all assets of Arc Networks and bearing interest at 10%.
As of September 30, 1998, the Company has net advances due from Arc Networks of
approximately $1.6 under the line of credit. All of the aforementioned
intercompany debt obligations are eliminated in consolidation.
19
<PAGE>
Consolidated Technology Group Ltd. and Subsidiaries
Unaudited Footnotes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
(11) Contingencies (continued)
On July 15, 1998, an action entitled "Ronald Feldstein vs. Consolidated
Technology Group Ltd." was commenced in the Circuit Court of the 15th Judicial
Circuit, Palm Beach County, Florida. The complaint in such action seeks
unspecified damages in excess of $15,000 against the Company based upon an
asserted breach of an alleged consulting agreement between the Company and the
plaintiff therein. The Company believes it has meritorious defenses to such
action and intends to vigorously defend the action.
(12) Extraordinary Gain on Extinguishment of Debt
On August 12, 1998, IMI consummated a settlement with the holders of certain
subordinated promissory notes, which were issued by IMI in 1994 in connection
with the acquisition of the Medical Diagnostics segment. The Company paid
approximately $1.9 million, of which approximately $1.6 million was paid in cash
and approximately $324,000 was applied in payment of certain promissory notes
due to IMI by one of the holders of the subordinated promissory notes, in full
settlement and satisfaction of the approximate $7.7 million outstanding balance
of such notes. In connection with the settlement, the Company issued 333,000
shares of its common stock, valued at $80,000, to the holders of the
subordinated promissory notes in satisfaction of IMI's contractual obligations
under the agreements relating to the 1994 acquisition of the Medical Diagnostics
segment. The Company recognized an extraordinary gain on debt extinguishment of
approximately $5.6 million for the three and nine months September 30, 1998.
(13) Subsequent Events
On October 8, 1998, the Company's board of directors authorized the purchase by
the Company in unsolicited open market transactions of up to $500,000 of its
common stock. During October 1998, the Company purchased 82,500 shares for an
aggregate price of $10,000. The Company does not have current plans to retire
the purchased shares and as such in subsequent periods the shares will be
reported as a separate component of stockholders' equity and will be classified
as treasury stock.
. . . . . . . . . . . . . . . . . . . . . . . . . . . . .
20
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
- --------------------------------------------------------------------------------
Forward Looking Statements
Statements in this Form 10-Q that are not descriptions of historical facts may
be forward-looking statements that are subject to risks and uncertainties.
Actual results could differ materially from those currently anticipated due to a
number of factors, including those identified in this Form 10-Q, the Company's
Annual Report on Form 10-K for the year ended December 31, 1997 and in other
documents filed by the Company with the Securities and Exchange Commission.
Financial Condition - Liquidity and Capital Resources
For the three and nine months ended September 30, 1998, (the "1998 3rd Quarter"
and the "1998 Nine Month Period"), the Company generated net income of $4
million and $6.2 million, respectively, however, $10,000 and $6.8 million,
respectively, was generated from gains on disposal of segments and $5.6 million
represents extraordinary income for both periods on the extinguishment of debt.
Additionally, for the 1998 3rd Quarter and 1998 Nine Month Period, approximately
$71,000 and $529,000, respectively, represents loss from operations of
discontinued segments. Excluding the aforementioned nonrecurring activity of
discontinued segments and the extraordinary gain, the Company's loss from
continuing operations for the 1998 3rd Quarter and the 1998 Nine Month Period
approximated $1.6 million and $5.7 million, respectively, and the accumulated
deficit as of September 30, 1998 approximated $56.7 million. Additionally, the
Company has historically, had operating cash flow shortfalls in all of its
segments other than the Contract Engineering Services and the Medical
Diagnostics segment. Furthermore, the Company has contingent obligations
approximating $3.3 million to Trans Global, an affiliated company that is
included in the consolidated financial statements (see "Contingencies" below).
These conditions raise substantial doubt about the Company's ability to continue
as a going concern.
During the past year, the Company has made significant progress in increasing
the Company's ability to continue as a going concern. Effective December 31,
1997, the Company discontinued three of its unprofitable segments for nominal
consideration. Such segments had combined accumulated losses of $15.6 million
through the date of the disposals and had required cash infusions from the
Company in excess of $11 million. Additionally, the disposal of the Medical
Diagnostics segment which provided the Company with approximately $15 million in
net cash and disposed of $13.4 million in intangible assets, $20 million in debt
and capital lease obligations and $5 million in accounts payable and accrued
expenses. Approximately $2.2 million of the net proceeds was used for
termination payments on executive contracts, $2.5 million was used to pay
existing obligations of the Company and $1.6 million was used to extinguish the
remaining obligations of the Medical Diagnostics segment. During the 2nd Quarter
of 1998 approximately $700,000 was used for ongoing operations and during the
3rd Quarter of 1998 approximately $600,000 was used for ongoing operations and
$1.6 million was loaned to the Telecommunications segment pursuant to a loan
agreement, which provides for lending up to $2 million. As of September 30,
1998, the Company has marketable securities approximating $5.8 million in
treasury bills and as of the date of this report does not have any definitive
plan for the use of any substantial portion of such marketable securities, other
than for working capital purposes. However, as disclosed under the caption
"Contingencies" that follows, the Company has contingent obligations, which
represent a significant portion of the Company's cash and marketable securities.
Effective 1998, the Company no longer reports Netsmart as a consolidated
affiliate and instead reports its investment in Netsmart under the equity method
whereby only the Company's proportionate share of income or loss of Netsmart is
reported. See footnote 5 to the financial statements. Future losses on the
Company's investment in Netsmart are limited to the level of investment in
Netsmart, which is currently $606,000.
As a result of the foregoing factors, the Company's ability to continue as a
going concern is dependent upon the success of the Company's remaining two
operating segments -- Contract Engineering Services and Telecommunications.
The Contract Engineering Services segment is represented by Trans Global, a
public company in which the Company has a 40% equity interest. Trans Global
reported income in 1997 for the first time since it was acquired by the Company
in 1994, and reported $276,000 of net income for the 1998 Nine Month Period.
However, to the
21
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
- --------------------------------------------------------------------------------
extent that Trans Global generates cash flow, such cash flow is
not available to the Company to fund its operations and furthermore, the Company
has significant contingent obligations to Trans Global as discussed under the
caption "Contingencies" that follows.
The Telecommunications segment is represented by Arc Networks, a company in
which the Company has a 67% equity interest. Arc Networks has operated at
significant losses and recent attempts to fund the segment through both public
and private financings have not succeeded. In September 1998, the Company
provided Arc Networks with a $2 million line of credit, bearing interest at
prime plus 2% (10% at September 30, 1998), of which $1.6 million has been
advanced. Arc Networks used such proceeds to repay approximately $380,000 of
existing debt obligations and the remainder for operating activities, including
certain past due trade payables. Although the line of credit provides Arc
Networks with substantial funding at an interest rate that is more favorable
than its prior debt obligations afforded, no assurances can be made that such
cash infusions will be adequate or that Arc Networks' future operations will
ultimately be profitable or generate sufficient cash flow to repay the loan to
the Company.
Management is continually evaluating its investment in its operating segments in
order to determine whether to provide additional investment or whether to divest
from its existing affiliates and as a result of the foregoing uncertainties it
is at least possible that the Company could be forced to cease operations in its
current segments.
Working Capital Condition
As of December 31, 1997, the Company had negative working capital of $18.9
million. As of September 30, 1998, the Company has positive working capital of
$2.3 million, representing an increase in working capital of $21.2 million. The
Company's principal working capital consists of cash and cash equivalents and
current marketable securities, consisting of treasury bills, which in the
aggregate were $1.3 million at December 31, 1997 and $6.7 million at September
30, 1998. For the 1998 Nine Month Period, cash used in discontinued operations
amounted to $234,000 and net cash provided by (used in) continuing operations
was as follows:
Contract Engineering Services $ 191,000
Telecommunications ( 524,000)
Corporate and Other ( 5,521,000)
---------
Net Cash Used in Continuing Operations ($ 5,854,000)
=========
Any cash generated by the Contract Engineering Services segment is generated by
Trans Global, a publicly held company, and as such is not necessarily available
to other subsidiaries of the Company. As of September 30, 1998, Trans Global is
owed approximately $1.2 million from advances made to Arc Networks. The cash
used in the operations of corporate and other includes $2.2 million in
termination payments for executive contracts, $2.3 million in payment of
accounts payable and accrued expense obligations that were incurred in prior
periods and $1 million for current operations.
Other Sources and Uses of Cash
Significant sources of cash other than from operations includes $14.9 million
from the disposal of the Medical Diagnostics segment, $2.5 million from
redemption of marketable securities, and $132,000 from the repayment of loans
receivable. Significant uses of cash other than in operations includes $8
million for investment in marketable securities, $1.6 million for the payment of
a discontinued subsidiaries debt obligations, $408,000 in net payments to asset
based lenders, $413,000 for the acquisition of a customer list, $117,000 for
capital expenditures and $479,000 for debt and capital lease payments.
Changes in Other Working Capital Assets and Liabilities
Other significant changes in working capital, other than cash and marketable
securities, includes an increase in accounts receivable of $1.7 million, a
decrease in accounts payable and accrued expenses of approximately $693,000 and
an increase in interim billings in excess of costs and estimated profits of $1.1
million. Of the increase in accounts receivable, $435,000 relates to Contract
Engineering Services and $1.3 million relates to
22
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
- --------------------------------------------------------------------------------
Telecommunications. The decrease in accounts payable and accrued expenses is due
primarily to payments made by the Company with the proceeds from the disposal of
the Medical Diagnostics segment which was partially offset by a $606,000 build
up of payables in the Telecommunications segment and $392,000 in the Contract
Engineering Services segment. The increase in interim billings in excess of
costs and estimated profits is related to contracts of the Telecommunications
segment whereby billing schedules differ from revenue recognition on projects in
progress.
Contingencies
Trans Global has the right to require the Company to redeem $2.1 million of the
Company's Series G Preferred Stock which it holds. Furthermore, the Company's
consolidated subsidiary, Arc Networks, owes Trans Global approximately $1.2
million. See footnote 11 of the financial statements. The three present
directors of the Company are three of the five directors of Trans Global and as
of the date of this report the redemption provision of the Series G Preferred
Stock has not been invoked. On March 13, 1998, the Company agreed to guarantee
the outstanding indebtedness of Arc Networks to Trans Global. If the Series G
Preferred Stock is redeemed and the Company is required to pay the amount that
Arc Networks owes Trans Global, the Company would use approximately $3.3
million, or 49%, of the cash and marketable securities of the Company.
In April 1998, Lewis S. Schiller, the former CEO of the Company, notified the
Company of his claim that the three year consulting agreement between Schiller
and the Company, (see footnote 9 of the financial statements) had been breached
by the Company and that the balance of the payments due thereunder
(approximating $300,000) were accelerated and immediately due and payable. The
Company has disputed Schiller's contentions with respect to such claimed breach,
however, in order to avoid costly litigation, it is estimated that the Company
may pay up to $375,000 to settle such dispute and such amount is accrued in the
Company's financial statements.
On July 15, 1998, an action entitled "Ronald Feldstein vs. Consolidated
Technology Group Ltd." was commenced in the Circuit Court of the 15th Judicial
Circuit, Palm Beach County, Florida. The complaint in such action seeks
unspecified damages in excess of $15,000 against the Company based upon an
asserted breach of an alleged consulting agreement between the Company and the
plaintiff therein. The Company believes it has meritorious defenses to such
action and intends to vigorously defend the action.
Year 2000 Issues
Many existing computer programs use only two digits to identify a year in a date
field. These programs were designed and developed without considering the impact
of the upcoming change in the century. If not corrected, many computer
applications could fail or create erroneous results by or at the year 2000. This
issue is referred to as the "Year 2000 Issue". All of the computer applications
used by the holding companies (i.e. Consolidated and SIS Capital Corp.) are year
2000 compliant. The Company's affiliates have a significant portion of computer
software, particularly the software relating to payroll and other employee
records, that is managed for the affiliates by an outside service company. Such
service company has advised the affiliates that it will be year 2000 compliant.
The Company is in the process of evaluating the potential cost to it in
addressing the year 2000 Issue with respect to its other software and the
potential consequences of an incomplete or untimely resolution of the Year 2000
issue. Although the Company believes it will not incur significant expenses for
its affiliates to become Year 2000 compliant, no assurance can be given that the
Company will not incur significant cost in addressing the Year 2000 Issue or
that the failure to adequately address the Year 2000 Issue will not have a
material adverse effect upon the Company.
Effect of Loan Defaults
Arc Networks received $550,000 of interim financing in February 1997 in
anticipation of an initial public offering ("IPO"). Arc Networks' efforts to
complete an IPO were not successful and the loan remained unpaid as of its April
1, 1998 due date and was in default. During September 1998, Arc Networks
refinanced the loan obligation with a different lendor and in connection
therewith, Arc Networks issued such lender 750,000 shares of its common stock,
valued at $23,000 and Consolidated guaranteed the loan.
23
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
- --------------------------------------------------------------------------------
Results of Operations
During 1997, the Company discontinued five of its operating segments,
Three-Dimensional Products and Services, Medical Diagnostics, Electro-Mechanical
and Electro-Optical Products Manufacturing, Business Consulting Services and
Audio Products Manufacturing segments. Additionally, as of 1998, the Medical
Information Services segment is no longer included in the consolidated results
of operations and instead is reported as an equity method investment, whereby
the Company only reports its proportionate share of income or loss. As a result
of the above, the prior period data has been reclassified to conform to the
above changes in segment reporting.
Loss from Operations of Continuing Segments
Comparing the 1998 3rd Quarter to the three months ended September 30, 1997 (the
"1997 3rd Quarter"), the aggregate increase in loss from operations consisted of
the following:
<TABLE>
<CAPTION>
Income (Loss) from Operations
-----------------------------
1998 1997
3rd 3rd
Quarter Quarter Variance
------- ------- --------
<S> <C> <C> <C>
Contract Engineering Services $ 220,000 $ 688,000 ($ 468,000)
Medical Information Services -- (540,000) 540,000
Telecommunications (599,000) (297,000) (302,000)
Corporate and Other (1,277,000) (1,425,000) 148,000
Intercompany Transactions 45,000 75,000 (30,000)
--------- --------- -------
Loss from Operations ($ 1,611,000) ($ 1,499,000) ($ 112,000)
========= ========= =======
</TABLE>
Comparing the 1998 Nine Month Period to the nine months ended September 30, 1997
(the "1997 Nine Month Period"), the aggregate increase in loss from operations
consisted of the following:
<TABLE>
<CAPTION>
Income (Loss) from Operations
-----------------------------
1998 1997
Nine Nine
Month Month
Period Period Variance
------ ------ --------
<S> <C> <C> <C>
Contract Engineering Services $ 698,000 $ 1,167,000 ($ 469,000)
Medical Information Services -- (1,525,000) 1,525,000
Telecommunications ( 1,048,000) (943,000) (105,000)
Corporate and Other ( 4,938,000) (2,434,000) (2,504,000)
Intercompany Transactions 135,000 225,000 (90,000)
--------- --------- ---------
Loss from Operations ($ 5,153,000) ($ 3,510,000) ($ 1,643,000)
========= ========= =========
</TABLE>
During the1998 3rd Quarter, the Contract Engineering Services segment
experienced a decrease in revenues resulting in decreased gross margins of
$140,000 and incurred increased operating expenses of $328,000 due primarily to
the opening of a new office.
During the 1998 3rd Quarter, the Telecommunications segment generated increased
revenues resulting in increased gross profit of $457,000. However, such
increased gross profit was more than offset by an increase in operating expenses
of $759,000, including increased collection fees and bad debts of $234,000,
increased salaries of $87,000, increased depreciation and amortization of
$75,000 and a $71,000 write-off of deferred offering costs.
During the 1998 Nine Month Period, Corporate and Other loss from operations
includes approximately $1.8 million of expense for the buy out of the former
CEO's employment agreement (see footnote 9 to the financial statements)
24
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
- --------------------------------------------------------------------------------
and $350,000 of expense to settle the Company's CFO's claims for change of
control compensation under the original employment agreement (see footnote 10 to
the financial statements).
Non Operating Components of Continuing Income (Loss)
Interest expense decreased $259,000 and $422,000, respectively, when comparing
both the 1998 and 1997 3rd Quarters and the 1998 and 1997 Nine Month Periods.
The decrease is due primarily to the fact that Netsmart's interest is not
included in the 1998 totals. The interest expense for both the 1998 and 1997
periods was primarily paid to asset based lendors of the Contract Engineering
and Telecommunication segments.
Other expense during the 1997 Nine Month Period approximated $602,000. In
December 1996, the Company acquired Lafayette Industries, Inc. ("Lafayette") and
during 1997 it was determined that certain misrepresentations were made by the
management of Lafayette during the course of the acquisition. As a result, the
Company incurred significant costs in order to formulate a settlement agreement
whereby the acquisition was effectively reversed. Other income (expense) items
were not significant during the 1998 periods and the 1997 3rd Quarter.
During 1998, minority interest in income of subsidiaries represents the minority
share of Trans Global's income, which amounted to $67,000 and $165,000,
respectively for the 1998 3rd Quarter and the 1998 Nine Month Period, offset by
the minority share of Arc Networks' loss, which amounted to $196,000 for both
the 1998 3rd Quarter and 1998 Nine Month Period. During 1997, minority interest
in loss of subsidiaries represents the minority share of both Trans Global's and
Netsmart's income (loss) which in the aggregate amounted to $77,000 and
$584,000, respectively for the 1997 3rd Quarter and the 1997 Nine Month Period.
The share of loss of unconsolidated affiliate represents the Company's
proportionate share of Netsmart's net income (loss), which amounted to $51,000
and ($83,000), respectively, for the 1998 3rd Quarter and the 1998 Nine Month
Period.
Changes in minority interest and the share of loss of unconsolidated affiliates
are a result of the inherent changes in the net income and loss of the related
affiliates from period to period.
Discontinued Operations
The aggregate income (loss) from discontinued operations consists of the
following:
<TABLE>
<CAPTION>
1998 1997 1998 1997
3rd 3rd Nine Month Nine Month
Quarter Quarter Period Period
------- ------- ------ ------
<S> <C> <C> <C> <C>
Medical Diagnostics ($ 71,000) $ 899,000 ($ 529,000) $ 449,000
Audio Products -- -- -- (292,000)
Electro-Mechanical -- (154,000) -- (617,000)
Business Consulting -- (150,000) -- (106,000)
Three Dimensional -- (569,000) (1,559,000)
------------- ------- ------------- ---------
($ 71,000) $ 26,000 ($ 529,000) ($ 2,125,000)
====== ====== ======= =========
</TABLE>
25
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
- --------------------------------------------------------------------------------
The above discontinued segments will not have future operating income or loss.
The gain on disposal of segments during 1998 includes a $1.9 million gain on
disposal of the Three-Dimensional Products and Services segment recorded in the
1998 1st Quarter and a $4.9 million gain on disposal of the Medical Diagnostics
segment recorded in the 1998 2nd Quarter. The loss on disposal recorded in the
1997 Nine Month Period of $396,000 is comprised of the original estimate of the
loss to be incurred on the disposal of the Three Dimensional Products and
Services segment of $525,000 offset by a gain on the disposal of the Audio
Products segment of $129,000.
Consolidated Net Loss
As a result of the foregoing, the Company incurred net income of $4 million and
basic earnings per common share of $0.08 for the 1998 3rd Quarter and a net loss
of $1.8 million and basic loss per common share of $0.04 for the 1997 3rd
Quarter. The Company incurred net income of $6.2 million and basic earnings per
common share of $0.13 for the 1998 Nine Month Period and a net loss of $7.2
million and basic loss per common share of $0.16 for the 1997 Nine Month Period.
Discussion of Operations by Segment
The percentage of relative contribution to revenues, gross profit, and selling,
general and administrative expenses by industry segment is shown in the
following tables. Changes within the individual industry segments themselves are
discussed further within the respective industry segment discussions.
Percentage of Total
-------------------
1998 1997
1998 1997 Nine Nine
3rd 3rd Month Month
Quarter Quarter Period Period
------- ------- ------ ------
Revenues:
Contract Engineering Services 82% 80% 84% 83%
Medical Information Services -- 8% -- 7%
Telecommunications 18% 12% 16% 10%
Gross Profit:
Contract Engineering Services 66% 86% 72% 81%
Medical Information Services -- (4%) -- 6%
Telecommunications 34% 18% 28% 13%
Selling, General & Administrative Expense:
Contract Engineering Services 35% 30% 35% 39%
Medical Information Services -- 13% -- 20%
Telecommunications 35% 19% 24% 18%
Corporate and Other 31% 40% 42% 25%
Intercompany Transactions (1%) (2%) (1%) (2%)
Contract Engineering Services
The contract engineering services segment reflects the operations of Trans
Global and its two subsidiaries, Avionics Research Holdings, Inc., ("Avionics"),
and Resource Management International, Inc., ("RMI"). Trans Global is engaged in
the business of providing engineers, designers and technical personnel on a
temporary basis to major corporations.
Revenue from technical temporary staffing services is based on the hourly cost
of payroll plus a percentage. The success of Trans Global's business will be
dependent upon its ability to generate sufficient revenues to enable it to cover
its fixed costs and other operating expenses, and to reduce its variable costs,
principally its interest. Under its agreements with its clients, Trans Global is
required to pay its employees and pay all applicable Federal and state
withholding and payroll taxes prior to receipt of payment from the clients.
Furthermore, Trans Global's payments from its clients are based upon the hourly
rate paid to the employee, without regard to when payroll taxes are payable with
respect to the employee. Accordingly, Trans Global's cost of services is greater
during the first part of the year, when Federal Social Security taxes and state
unemployment and related taxes, which are based on a
26
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
- --------------------------------------------------------------------------------
specific level of compensation, are due. Thus, until Trans Global satisfies its
payroll tax obligations, it will have a lower gross margin than after such
obligations are satisfied. Furthermore, to the extent that Trans Global
experiences turnover in employees, its gross margin will be adversely affected.
For example, in 1998, Social Security taxes are payable on the first $68,400 of
compensation. Once that level of compensation is paid with respect to any
employee, there is no further requirement for Trans Global to pay Social
Security tax for such employee. Since most of Trans Global's employees receive
compensation in excess of that amount, Trans Global's costs with respect to any
employee are significantly higher during the period when it is required to pay
Social Security taxes than it is after such taxes have been paid.
Trans Global had revenues of $16.3 million for the 1998 3rd Quarter, which
reflects a decrease of 13% from $18.8 million for the 1997 3rd Quarter and had
revenues of $53.5 million for the 1998 Nine Month Period, which reflects a
decrease of 7% from $57.7 million for the 1997 Nine Month Period. However,
during the same time periods, gross margins, as measured in direct dollars and
percentages, increased from 9.4% to 9.9% when comparing the 1998 and 1997 3rd
Quarters and increased from 8.3% to 8.8% when comparing the 1998 and 1997 Nine
Month Periods. The decrease in revenues is a result of the conclusion of several
projects, delays in the start of new projects from Trans Global's larger
customers operating in Asia and Trans Global's continued efforts to trim sales
that generate lower gross margins. During the 1998 and 1997 3rd Quarters,
approximately 74% and 80% of the revenue was generated from its five largest
customers; Boeing Corp., Northrup-Gruman, Lockheed-Martin, Bell Helicopter and
Gulfstream Aerospace. These same clients accounted for 58% and 66% of Trans
Global's total outstanding accounts receivable as of September 30, 1998 and
December 31, 1997.
Trans Global's selling, general and administrative expenses increased $328,000,
or 30.5%, when comparing the 1998 and 1997 3rd Quarters and increased $403,000
or 11% when comparing the 1998 and 1997 Nine Month Periods. Trans Global has
focused its attention on the information technology ("IT") market and has put a
greater emphasis on expansion into this market by directing additional resources
towards that objective. The gross margins in the IT market are higher than in
Trans Global's present technical service market. Trans Global has opened an IT
office in Iselin, NJ and is staffing it with personnel to take advantage of that
location's proximity to the financial, insurance and pharmaceutical markets that
utilize IT services. Additionally, Trans Global has incurred costs as it has
begun to market a "Virtual Design Unit" concept, utilizing Vero International
Solid Manufacturing CAD CAM Software under an agreement with Vero which gives
Trans Global exclusivity in the aircraft and automotive industries in Canada and
the United States
On April 23, 1998, Trans Global entered into a two year revolving credit
agreement with Citizens Business Credit Company, a division of Citizen's Leasing
Corporation, ("Citizens"). Pursuant to the credit agreement, the Company can
borrow up to 85% of its qualified accounts receivable at an interest rate of
prime plus 3/4% with a maximum availability of $7.5 million. Trans Global
terminated its lending agreement with its previous lendor wherein terms required
interest of 2% in excess of prime plus 0.03% of the face amount of invoices
financed. As a result of the decreased borrowing rate, Trans Global's interest
expense decreased $103,000 or 51% when comparing the 1998 and 1997 3rd Quarters
and decreased $152,000 or 26% when comparing the 1998 and 1997 Nine Month
Periods, all during time periods when the average borrowing level decreased only
nominally.
As a result of the foregoing, Trans Global earned $113,000 and $521,000,
respectively for the 1998 and 1997 3rd Quarter and $276,000 and $679,000,
respectively, for the 1998 and 1997 Nine Month Periods.
Medical Information Services
The medical information services segment consists of the activity of two
companies, Netsmart and its subsidiary, Creative Socio Medics, Inc. ("CSM"). For
purposes herein, references to Netsmart relate to the operations of both
Netsmart and CSM unless indicated otherwise. Netsmart is engaged in developing,
marketing and supporting computer software designed to enable health service as
well as financial related organizations to provide a range of services in a
network-computing environment. Netsmart has developed proprietary network
technology utilizing smart cards in financial and health care network systems.
Effective 1998, the Company's investment in Netsmart is reported under the
equity method, whereby, only the Company's proportionate share of Netsmart's net
income
27
<PAGE>
(loss) is included in a single financial statement line item. Accordingly, the
following only discusses 1997, the period in which the revenues and expenses of
Netsmart were included in the Company's consolidated statement of operations.
Netsmart's revenue for the 1997 3rd Quarter was $1.8 million and for the 1997
Nine Month Period was $5.1 million. Revenue from Netsmart's health information
systems represented the principal source of revenue accounting for 99% and 96%
of total revenue, respectively, for the 1997 3rd Quarter and 1997 Nine Month
Period. During the 1997 3rd Quarter and 1997 Nine Month Period, data center
(service bureau) revenue was $548,000 and $1.6 million, respectively, turnkey
systems labor revenue was $650,000 and $1.4 million, respectively, maintenance
revenue was $309,000 and $975,000, respectively, third party hardware and
software amounted to $235,000 and $724,000, respectively, and license revenue
was $69,000 and $214,000, respectively. Revenue from contracts with government
agencies represented 40% of total revenue for the 1997 3rd Quarter and 35% for
the 1997 Nine Month Period. For the 1997 3rd Quarter gross margins were a
negative $87,000 due to continuing costs on a contract for which all revenues
had already been recognized. Gross profits amounted to $335,000 or 7% of
revenues for the 1997 Nine Month Period. Selling, general and administrative
expenses were $540,000 and $1.9 million, respectively, during the 1997 3rd
Quarter and 1997 Nine Month Period. Interest expense, payable to Netsmart's
asset based lendor was $89,000 for the 1997 3rd Quarter and $240,000 for the
1997 Nine Month Period. Other expense represents the recognition of a 50% share
of Netsmart's loss on a joint venture, which amounted to $9,000 for the 1997 3rd
Quarter and $140,000 for the 1997 Nine Month Period. As a result of the
foregoing factors, Netsmart incurred a net loss of $665,000 in the 1997 3rd
Quarter and $1.9 million in the 1997 Nine Month Period.
Telecommunications
The telecommunications segment consists of the operations of Arc Networks, which
is engaged in the business of marketing a wide range of telecommunications
services including the resale of local exchange services through Competitive
Access Providers ("CAPs"), the design and installation of end-user networks in
addition to its newly formed debit card services and domestic and international
long distance services.
Revenues for the 1998 3rd Quarter were $3.6 million and $2.8 million for the
1997 3rd Quarter, reflecting an increase of 30%, or $845,000. Revenues for the
1998 Nine Month Period were $10.3 million and $7 million for the 1997 Nine Month
Period, reflecting an increase of 46% or $3.2 million. The following table sets
forth the revenues and percentage of revenues during the 1998 and 1997 Periods
from each of its lines of business.
1998 3rd Quarter 1997 3rd Quarter
---------------- ----------------
Revenue Percent Revenue Percent
------- ------- ------- -------
Telephone services $ 2,670,000 74% $2,000,000 72%
Data cabling installation
Services 955,000 26% 780,000 28%
------- --- ------- ---
Total Sales $ 3,625,000 $2,780,000
========= =========
1998 Nine Month Period 1997 Nine Month Period
---------------------- ----------------------
Revenue Percent Revenue Percent
------- ------- ------- -------
Telephone services $ 7,366,000 72% $5,013,000 71%
Data cabling installation
Services 2,918,000 28% 2,032,000 29%
--------- --- --------- ---
Total Sales $10,284,000 $7,045,000
========== =========
The increase in telephone services revenue is a result of Arc Networks'
continued market penetration into the local telephone market, principally New
York City ("NYC"), which began in the second quarter of 1997. Revenues from the
resale of local telephone services increased to $1.6 million for the 1998 3rd
Quarter from $1.5 million in the 1997 3rd Quarter. Long-distance revenues
increased to $586,000 for the 1998 3rd Quarter compared to $53,000 for the 1997
3rd quarter. During the 1998 Nine Month Period local and long-distance telephone
services amounted to $5.9 million, an increase of $1.9 million from the 1997
Nine Month Period of $4 million. On June 1, 1998, Arc
28
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
- --------------------------------------------------------------------------------
Networks purchased a long distance customer base, which increased revenues in
the 1998 3rd Quarter and 1998 Nine Month Period by $271,000 and $401,000,
respectively. Revenue attributed to the sale of telephone debit calling cards
amounted to $464,000 and $483,000, respectively, for the 1998 and 1997 3rd
Quarters and amounted to $1.5 million and $971,000 in the 1998 and 1997 Nine
Month Periods. Although revenues have increased significantly for telephone
debit calling cards during both comparable periods, Arc Networks is
restructuring this portion of its business and anticipates a decline in revenues
in future periods from this product. Data cabling installation revenues
increased by $175,000 for the 1998 3rd Quarter and increased by $886,000 for the
1998 Nine Month Period as Arc Networks continues to benefit from its
relationship with a prime contractor for New York City schools, and a contract
with New York state as the preferred provider of cabling services in the New
York downstate area.
Direct costs for the 1998 and 1997 3rd Quarters were $3 million and $2.4
million, respectively, and for the 1998 and 1997 Nine Month Periods were $8.5
million and $6.2 million, respectively. Gross profit for all product lines in
the aggregate, as a percent of revenue, increased from 14% for the 1997 3rd
Quarter to 18% for the 1998 3rd Quarter and increased from 12% for the 1997 Nine
Month Period to 17% for the 1998 Nine Month Period. The most significant reason
for the improved margins is due to the increase in long-distance services which
generates margins of 26%. Additionally, the long distance customer base acquired
in June 1998 was initially sourced through a long distance telephone provider
that charged a higher rate than its current provider. Arc Networks' initial
focus in the telephone services segment has been to build its customer base and
market share. In this regard, Arc Networks has absorbed certain costs and
charges relating to signing up new customers, such as waiving installation
charges and acquiring certain equipment needed to make the connection to the
customer. Such costs are being expensed immediately without a corresponding
increase in revenue and would result in lower margins in the initial phase of
the service cycle.
Selling, general and administrative expenses for the 1998 3rd Quarter were $1.4
million, or 39% of total revenues, compared to $663,000, or 24% of total
revenues for the 1997 3rd Quarter. Selling, general and administrative expenses
for the 1998 Nine Month Period were $2.8 million, or 28% of total revenues,
compared to $1.7 million, or 24% of total revenues for the 1997 Nine Month
Period. The most significant portion of selling, general and administrative
expenses is personnel costs, which for the respective 1998 and 1997 3rd Quarters
approximated $480,000 and $393,000 and for the respective 1998 and 1997 Nine
Month Periods approximated $1.2 million and $1.1 million. Depreciation and
amortization for the 1998 and 1997 3rd Quarters amounted to $97,000 and $22,000,
and for the 1998 and 1997 Nine Month periods amounted to $262,000 and $59,000.
In February 1997, Arc Networks, obtained a bridge loan (the "1997 Bridge Loan")
and in connection therewith, issued warrants to purchase shares of common stock,
which were valued at $485,000. During 1998, the 1997 Bridge Loan was refinanced
with another lendor and as a result the 1998 Nine Month Period includes $150,000
of expense to amortize the remaining balance of the warrant value. Additionally,
during the 1998 3rd Quarter, Arc Networks incurred $234,000 in collection fees
and bad debt write-offs.
Arc Networks incurred interest expense of $7,000 and $60,000 for the 1998 and
1997 3rd Quarters, respectively, and $155,000 and $196,000, respectively for the
1998 and 1997 Nine Month Periods. In September 1998, Arc Networks paid off
certain debts and refinanced others by securing a $2 million line of credit from
the Company. The terms of the line of credit allow Arc Networks to borrow up to
85% of eligible receivables up to a maximum of $2 million. Interest on the line
of credit is payable at prime plus 2% (10% at September 30, 1998) and amounted
to $11,000 for September 1998. In addition, Arc Networks issued to the Company
4,500,760 shares of its common stock valued at $135,000 and paid closing and
legal costs of $75,000, all of which were capitalized as loan costs and are
being amortized over the life of the loan.
In September 1998, as a condition to the line of credit, Arc Networks paid the
outstanding balance of $189,000 and $13,000 in early termination fees on an
equipment loan which incurred interest expense for the 1998 and 1997 3rd
Quarters of $8,000 and $14,000, respectively, and for the 1998 and 1997 Nine
Month Periods $46,000 and $52,000, respectively.
29
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
- --------------------------------------------------------------------------------
In connection with the refinancing of the 1997 Bridge Loan, Arc Networks
reversed previously accrued and unpaid interest on the loan amounting to
$61,000. Interest expense on the 1997 Bridge Loan for the 1997 3rd Quarter and
1997 Nine Month Period was $11,000 and $27,000, respectively.
Related party interest charges on intercompany debt, other than the line of
credit from the Company, amounted to $10,000 and $18,000, respectively, for the
1998 and 1997 3rd Quarters and $69,000 and $92,000, respectively for the 1998
and 1997 Nine Month Periods.
Prior to receiving the line of credit from the Company, Arc Networks had a $3
million accounts receivable financing with an asset based lendor with an
outstanding balance of $173,000 which was repaid, along with the remainder of
the 1998 commitment fee of $5,000 in September 1998. Interest expense on the
receivables financing was $10,000 and $9,000, respectively, for the 1998 and
1997 3rd Quarters and was $43,000 and $19,000, respectively for the 1998 and
1997 Nine Month Periods.
As a result of the foregoing, Arc Networks reported a loss of $607,000 and
$362,000, respectively for the 1998 and 1997 3rd Quarters and $1.2 million and
$1.1 million, respectively for the 1998 and 1997 Nine Month Periods.
30
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
- --------------------------------------------------------------------------------
Corporate and Other
Selling, General and Administrative Expense
Corporate selling, general and administrative expenses decreased by $148,000,
from $1.4 million for the 1997 3rd Quarter to $1.3 million for the 1998 3rd
Quarter and increased $2.5 million from $2.4 million for the 1997 Nine Month
Period to $4.9 million for the 1998 Nine Month Period. Such increase is due
primarily to legal fees incurred to settle negotiations with the former CEO who
resigned in 1998 (see footnote 9 of the financial statements) and payments made
to terminate certain consulting agreements. Additionally, during the 1998 1st
Quarter, the salaries paid to the former CEO and the former Corporate Secretary
were higher than the amounts paid during the 1997 1st Quarter which accounts for
a portion of the increased expense for the 1998 Nine Month Period.
Termination payments for executive contracts amounted to $2.2 million for the
1998 Nine Month Period of which $1.8 million relates to the former CEO (see
footnote 9 of the financial statements) and $350,000 relates to the Company's
CFO (see footnote 10 of the financial statements).
Impact of Inflation
The Company is subject to normal inflationary trends and anticipates that any
increased costs would be passed on to its customers.
. . . . . . . . . . . . . . . . . . . . . . . . . . . . .
31
<PAGE>
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
(a) On July 15, 1998, an action entitled "Ronald Feldstein vs. Consolidated
Technology Group Ltd." was commenced in the Circuit Court of the 15th
Judicial Circuit, Palm Beach County, Florida. The complaint in such action
seeks unspecified damages in excess of $15,000 against the Company based
upon an asserted breach of an alleged consulting agreement between the
Company and the plaintiff therein. The Company believes it has meritorious
defenses to such action and intends to vigorously defend the action.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
10.1 - CFO's employment agreement.(1)
10.2 - Asset purchase agreement dated as of January 28, 1998, by and among
Comprehensive Medical Imaging, Inc., International Magnetic Imaging, Inc.
and certain of its subsidiaries, including exhibits and schedules
thereto.(2)
27.1 - Financial Data Schedule.3
99.1 - Agreement dated as of March 30, 1998, by and among the Company, SISC and
Lewis S. Schiller.(4)
99.2 - Agreement dated as of March 30, 1998, by and among the Company, SISC and
Grazyna B. Wnuk.(4)
99.3 - Agreement dated as of March 30, 1998, by and among the Company, SISC and
E. Gerald Kay and Norman J. Hoskin.(4)
99.4 - Agreement dated as of March 30, 1998, by and among the Company, SISC and
Lewis S. Schiller, Grazyna B. Wnuk, E. Gerald Kay and Norman J.
Hoskin.(4)
99.5 - Agreement dated as of July 23, 1998 and Amendment No. 1 to such agreement
by and among IMI Acquisition of Boca Raton Corp., IMI Acquisition of Pine
Island Corp., IMI Acquisition of North Miami Beach Corp., PODC
Acquisition Corp., IMI Acquisition of Orlando Corp., IMI Acquisition of
Kansas Liquidation Corp., MD Ltd. Partner Acq. Corp. and MD Acquisition
Corp., and Stephen A. Schulman and Stephanie S. Schulman, James H. and
Marsha Sternberg and Ashley Kaye. (5)
- -------------
(1) - Incorporated by reference to the June 19, 1998 Form 8-K.
(2) - Incorporated by reference to the January 28, 1998 Form 8-K.
(3) - Filed only in electronic format with the Securities and Exchange
Commission.
(4) - Incorporated by reference to the April 3, 1998 Form 8-K.
(5) - Incorporated by reference to the August 12, 1998 Form 8-K.
(b) Reports on Form 8-K
1. - Filed an 8-K with an earliest date of event of August 12, 1998, reporting
the settlement of the subordinated promissory notes of the Medical Diagnostics
segment.
. . . . . . . . . . . . . . . . . . . . . . . . . . . . .
32
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
CONSOLIDATED TECHNOLOGY GROUP, LTD.
/S/ Chief Executive Officer and Director November 10, 1998
Seymour Richter (Principal Executive Officer)
/S/ Chief Financial Officer November 10, 1998
George W. Mahoney (Principal Financial and
Accounting Officer)
33
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED BALANCE SHEET AND THE CONSOLIDATED STATEMENT OF OPERATIONS
FILED AS PART OF THE QUARTERLY REPORT ON FORM 10-Q AND IS QUALIFIED IN
ITS ENTIRETY BY REFERENCE TO SUCH QUARTERLY REPORT ON FORM 10-Q.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> SEP-30-1998
<CASH> 915,000
<SECURITIES> 5,761,000
<RECEIVABLES> 9,512,000
<ALLOWANCES> 362,000
<INVENTORY> 0
<CURRENT-ASSETS> 16,663,000
<PP&E> 928,000
<DEPRECIATION> 603,000
<TOTAL-ASSETS> 22,412,000
<CURRENT-LIABILITIES> 14,413,000
<BONDS> 0
<COMMON> 491,000
0
3,000
<OTHER-SE> 1,368,000
<TOTAL-LIABILITY-AND-EQUITY> 22,412,000
<SALES> 0
<TOTAL-REVENUES> 63,798,000
<CGS> 0
<TOTAL-COSTS> 57,290,000
<OTHER-EXPENSES> 11,276,000
<LOSS-PROVISION> 385,000
<INTEREST-EXPENSE> 520,000
<INCOME-PRETAX> (5,715,000)
<INCOME-TAX> 0
<INCOME-CONTINUING> (5,715,000)
<DISCONTINUED> 6,264,000
<EXTRAORDINARY> 5,627,000
<CHANGES> 0
<NET-INCOME> 6,176,000
<EPS-PRIMARY> .12
<EPS-DILUTED> .12
</TABLE>
