U.S. Securities and Exchange Commission
Washington, D.C. 20549
Form 10-KSB
(Mark One)
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the fiscal year ended March 31, 1998
[_] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 [No Fee Required]
For the transition period from ...............to.................
Commission file number 0000-23710
Micro-Integration Corp.
(Name of small business issuer in its charter)
Delaware 06-1204847
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
One Science Park
Frostburg, MD 21532
(Address of principal executive offices) (Zip Code)
Issuer's telephone number: 301-689-0800
Securities registered under Section 12(b) of the Exchange Act: None
Securities registered under Section 12(g) of the Exchange Act: Common
Stock, $.01 Par Value
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days.
Yes [X] No [_]
Check if disclosure of delinquent filers in response to Item 405 of
Regulation S-B is not contained in this form, and no disclosure will be
contained, to the best of the registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB. [ ]
Issuer's revenues for its most recent fiscal year: $12,352,132
The aggregate market value of the voting stock held by non-affiliates of
the registrant on June 12, 1998 was approximately $2,350,884 (based on the last
sale price as reported by the Nasdaq Small Cap Market).
The number of shares outstanding of each of the issuer's classes of common
equity as of June 12, 1998: Common Stock, $.01 Par Value - 2,867,811 shares
DOCUMENTS INCORPORATED BY REFERENCE
(1) Definitive Proxy Statement for 1998 Annual Meeting of Stockholders --
Items 9, 10, 11, and 12.
Transitional Small Business Disclosure Format (check one):
Yes [_] No [X]
<PAGE>
Index to Form 10-KSB
Micro-Integration Corp.
Part I
<TABLE>
<S> <C> <C>
Item 1. Description of Business ............................................. 2
Item 2. Description of Properties ........................................... 9
Item 3. Legal Proceedings ................................................... 9
Item 4. Submission of Matters to a Vote of Security Holders ................. 10
Part II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters 11
Item 6. Management's Discussion and Analysis of Financial Condition
and Results of Operations ........................................... 11
Item 7. Financial Statements and Supplementary Data ......................... 13
Item 8. Changes In and Disagreements With Accountants on Accounting
and Financial Disclosure ............................................ 13
Part III
Item 9. Directors, Executive Officers, and Key Personnel
of the Registrant ................................................... 14
Item 10. Executive Compensation .............................................. 14
Item 11. Security Ownership of Certain Beneficial Owners and
Management .......................................................... 14
Item 12. Certain Relationships and Related Transactions ...................... 14
Part IV
Item 13. Exhibits and Reports on Form 8-K .................................... 15
</TABLE>
<PAGE>
Part I
Item 1. Description of Business
EXCEPT FOR HISTORICAL INFORMATION, THE FOLLOWING DESCRIPTION OF THE COMPANY'S
BUSINESS CONTAINS FORWARD-LOOKING STATEMENTS WHICH INVOLVE RISKS AND
UNCERTAINTIES. THE COMPANY'S ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THOSE
SET FORTH IN THESE FORWARD-LOOKING STATEMENTS AS A RESULT OF A NUMBER OF
FACTORS, INCLUDING, WITHOUT LIMITATION, THOSE SET FORTH IN THIS FORM 10-KSB
UNDER THE HEADING, "RISK FACTORS."
Introduction
Micro-Integration Corp. ("MI" or the "Company") is an Information Technology
("IT") Services company that concentrates on providing IT consulting, network
integration and design services, accounting and distribution information
systems, process control information systems, and Internet web site design,
programming, and hosting. The Company also designs, manufactures, and sells a
line of products that provide communications and connectivity between personal
computers ("PCs") and IBM mainframe and midrange AS/400 computers and sells
computers, software, and communications products purchased from others. The
Company provides Internet web hosting, training, desktop management, help-desk,
and maintenance services that complement its consulting and computer and network
software and equipment sales.
John A. Parsons, the Company's current Chairman and CEO, founded the Company's
predecessor, Micro-Integration Inc. in 1978. The Company was formed in 1986 to
hold the stock of Micro-Integration Inc. ("MII") and i.e. Systems, Inc. The two
subsidiaries were merged into the Company in 1988. Since inception, the Company
and its predecessors have designed, developed, marketed, and supported
client-server and PC-to-IBM host communications and connectivity products. In
1995, the Company began to transition to a full-service IT Services provider,
and now concentrates on networking, the Internet, accounting and distribution
systems, and process control data gathering systems through its headquarters
located in Frostburg, Maryland, and through subsidiaries in Ohio and
Pennsylvania.
The Company had a European subsidiary, Micro-Integration Corp. PLC,
headquartered in Birmingham, U.K., with a sales and service office near
Brussels, Belgium, until March 31, 1997, when the majority of the Company's
interest in the subsidiary was sold.
Significant Developments During Fiscal Year 1997-1998
During fiscal year 1997-1998 the Company continued to implement its previously
announced strategy of transitioning itself to an IT Services company from a
PC-to-AS/400 communications product development company.
On October 1, 1997, the Company completed the transfer and sale of its consumer
Internet dial-up customer base to MindSpring, Inc. Revenue for this customer
segment accounted for less than 3% of the Company's consolidated total revenue
for the year ended March 31, 1998.
On December 1, 1997, the Company completed the purchase of SuiteOne Computer
Services, Inc. ("SuiteOne"), a Pittsburgh, PA-based UNIX software and services
company specializing in accounting and distribution systems. SuiteOne accounted
for less than 1% of the consolidated total revenue of the Company for the year
ended March 31, 1998.
During fiscal year 1998, the Company evaluated the recoverability of certain
capitalized software costs based on anticipated future gross revenues and
recorded a $411,000 write-off of capitalized costs in order to state the assets
at their net realizable value.
2
<PAGE>
Subsequent to the end of the fiscal year, the Company completed the purchase of
CompSource, Inc. ("CompSource"), a West Reading, PA-based IT Services company,
on April 1, 1998. CompSource has a division specializing in accounting solutions
and a division specializing in process control data acquisition. CompSource did
not contribute to the Company's results of operations for the fiscal year ended
March 31, 1998.
Business Operations
Business Units
The Company has two principal business units: the IT Services unit and the PC
Connectivity unit. These business units have provided the framework for the
Company's transition to a solution-driven IT Services business from a
product-driven PC Connectivity supplier. The Company also provides various
support and management services to its subsidiaries and business units from a
headquarters support group.
IT Services Unit
Though its IT Services Unit, the Company offers consulting, network integration
and design services, accounting and distribution information systems, process
control data acquisition systems, help-desk, training, desktop maintenance and
management services, and Internet web site design, programming, and hosting
services. These services are provided on a regional basis through IT Services
offices in the Company's headquarters at Frostburg, MD, and at the Company's
subsidiaries, Computer One in Lima, OH, Computer Site in Valley View, OH, and
SuiteOne in Pittsburgh, PA.
In conjunction with its service offerings, the Company supplies a broad
selection of products from major software vendors such as Microsoft, State of
the Art, Software Solutions, Lotus, and Novell, and from communications
equipment, personal computer, and peripheral manufacturers such as Cisco,
Compaq, IBM, and Hewlett-Packard. The Company has sales and/or service
authorizations from Microsoft, Software Solutions, Lotus, Novell, Cisco, IBM,
Compaq, US Robotics, Hewlett-Packard, NEC, Apple, Dell, and others. No
manufacturer's products represented more than 10% of total sales for the year
ended March 31, 1998.
Sales and Marketing: The Company sells its IT Services through sales staffs
located in Frostburg, MD, Lima, OH, Valley View, OH, and Pittsburgh, PA. The
sales people have sales support and technical support staff in each office, and
are also supported by a headquarters support group. The headquarters support
group, located in Frostburg, MD, provides pre- and post-sale support, training,
consulting, installation, and help desk services and Internet web design and
hosting for all three offices. IT Services sales accounted for 74% of the
Company's revenue for the year ended March 31, 1998.
In general, the Company and each of its subsidiaries has one or more areas of
specialization, with the in-house technical expertise to support the
specialization. Unix-based accounting and distribution systems are an area of
specialization at the Company's SuiteOne subsidiary in Pittsburgh, PA. The
Company's headquarters in the Frostburg, MD, location specializes in web design,
programming, and hosting. The Company's Computer One subsidiary in Lima, OH,
specializes in networking and desktop life cycle management, as does the
Company's Computer Site subsidiary in Valley View, OH.
The Company expects to make the services and expertise of all of the Company's
offices available for sale at all of the Company's locations.
Competition: The entire computer industry is characterized by intense
competition, based primarily on quality and breadth of products and services,
availability of pre- and post-sale support, product and service availability,
price, speed of delivery, ability to tailor specific solutions to customer
needs, and quality of customer training.
3
<PAGE>
In the markets where the Company's marketing efforts are focused, there are many
competitors who provide services similar to the Company's. Companies such as
Electronic Data Systems ("EDS") and Andersen Consulting offer such services, but
tend to focus on larger customers than the small- to mid-size organizations on
which the Company's efforts are focused.
Where possible, the Company sells products only as an adjunct to its networking
and consulting services. Competition with vendors that sell directly to large
purchasers and parties that implement other sales methods, such as direct mail,
computer "superstores," and mass merchandisers is limited to those instances
where services are not a significant part of the sale. Mail-order communications
companies such as Black Box and Data Communications Warehouse sell
communications products in competition with the Company, but generally do not
provide on-site consulting, design, and installation services. Mail-order
computer and peripheral companies such as Micro Warehouse and Dell Computers
sell computers and peripherals in competition with the Company, but generally do
not provide network design and installation services. Local computer superstores
such as Best Buy and Comp USA sell computers and peripherals at low prices, but
generally do not provide desktop life cycle management, networking equipment, or
services. Small local computer stores, consultants, and resellers are able to
provide both products and services, but generally do not have the breadth of
staff or expertise of the Company, especially in such areas as distribution
systems and Internet commerce programming.
Backlog: As of March 31, 1998, the Company had a short, but not material,
backlog of services assignments. In the past the Company has been able to shift
technical resources from one location to another to keep backlog to a minimum.
As the demand for services increases and the Company's customer base increases,
the Company expects the services backlog to increase.
The Company stocks a minimal amount of products manufactured by others, relying
on distributors' drop shipping and just-in-time shipping. As a result, the
Company sometimes experiences a short, but not significant, order backlog on
products purchased from distributors. Occasionally, demand may outstrip a
particular manufacturer's ability to produce, which could result in a
significant product backlog for the Company. If this backlog were to affect the
ability of the Company to supply services, it could have a material adverse
effect on the Company's business, financial condition, and results of
operations.
The Company believes that a backlog at any given point in time is not a reliable
indicator of future sales or earnings, although the absence of significant
backlog and variations in the purchasing patterns of the Company's customers
could contribute to variations in the Company's quarterly results of operations.
PC Connectivity Unit
Prior to 1996, the Company's PC-to-IBM midrange (System/36, System/38, and
AS/400) client-server communications products were the Company's primary
business. In the interim these products have become less important as the
Company shifted its focus to IT Services. In the fiscal year ended March 31,
1996, these products accounted for approximately 92% of the Company's total
revenue; in the year ended March 31, 1998, they accounted for 23% of total
revenue. These products continue to supply generous gross margins, however, and
contributed 46% of the Company's total gross margin during the year ended March
31, 1998.
Products: The PC Connectivity products provide PC users with easy access to
computer applications and data on IBM midrange computers. They provide PC-to-IBM
host and Local Area Network ("LAN")-to-IBM host connections using a wide variety
of network and communications system configurations, including several types of
direct and modem connections, multiple LAN operating systems, communications
hardware, and a range of communications servers and gateways.
Sales and Marketing: The Company sells its PC Connectivity products worldwide
through a combination of direct sales and sales through resellers and
distributors. U.S. sales are handled primarily by in-house telesales
representatives. These sales people handle typical reseller and end-user
accounts. The Company does not employ outside sales people in the PC
Connectivity business unit. The Company consults with and supports its resellers
with sales and technical support staff.
4
<PAGE>
Manufacturing: The Company manufactures PC Connectivity computer software kits
and hardware boards in the U.S. Other products are purchased from a variety of
suppliers worldwide.
Raw materials for PC Connectivity software kits are obtained on an as-needed
basis, with four to six weeks as the longest lead time from purchase order to
receipt of most materials. All materials used in preparation of these software
kits can be produced by a large number of vendors. The Company currently
contracts with one outside firm in the United States for the production of the
Company's custom hardware boards. This firm purchases and stocks raw materials
and assembles finished boards on the Company's orders. The Company is currently
producing 11 distinct hardware board designs.
The Company maintains an inventory of all items it manufactures which it
believes to be sufficient to meet demand. The Company manufactures or purchases
and maintains inventory of certain high-volume items in larger quantities.
Competitors: The Company currently has three major competitors in the IBM
midrange client-server connectivity and server segment: IBM, Better Online
Solutions, Inc. ("BOS"), and DCI, Inc.
The principal competitive factors affecting the market for the Company's PC
Connectivity products include product functionality, ease of use, quality,
performance, reliability, quality of customer service and support, product
availability, vendor credibility, ability to keep pace with technological
change, and price. The PC Connectivity market is subject to rapidly changing
technology and evolving standards incorporated into the Internet, PCs, networks,
and IBM mainframe and midrange computers. This market is characterized by
significant price competition.
Backlog: The Company typically ships PC Connectivity products on the same day
orders are received. Because of this, the Company believes that a PC
Connectivity product backlog at any given point in time is not a reliable
indicator of future sales or earnings. The absence of significant backlog and
variations in the purchasing patterns of the Company's customers could
contribute to variations in the Company's quarterly results of operations.
RISK FACTORS
IN ADDITION TO OTHER INFORMATION IN THIS FORM 10-KSB, THE FOLLOWING RISK FACTORS
SHOULD BE CAREFULLY CONSIDERED IN EVALUATING THE COMPANY AND ITS BUSINESS
BECAUSE SUCH FACTORS CURRENTLY HAVE A SIGNIFICANT IMPACT OR MAY HAVE A
SIGNIFICANT IMPACT ON THE COMPANY'S BUSINESS, FINANCIAL CONDITION OR RESULTS OF
OPERATION. ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THOSE DISCUSSED IN
FORWARD-LOOKING STATEMENTS CONTAINED IN THIS FORM 10-KSB AS A RESULT OF THE RISK
FACTORS SET FORTH BELOW AND OTHER FACTORS DISCUSSED IN THIS FORM 10-KSB.
Year 2000
The Company, like many other companies, is in the process of assessing its
computer software applications and systems to ensure their functionality with
respect to the millennium change. The Company believes that some of its internal
mission critical systems are not Year 2000 compliant, and has instituted
measures to bring those systems into compliance or replace them with compliant
systems. The Company believes that the remediation costs needed to make all of
its internal applications and systems Year 2000 compliant are not material.
Failure to repair or replace those systems in a timely manner, however, could
have a material adverse effect on the Company's business, financial condition,
and results of operations.
Potential Fluctuations in Operating Results
The Company believes that future operating results will be subject to
fluctuations due to a variety of factors, many of which are beyond the Company's
control. Such factors may include, but are not limited to, demand for the
Company's services, availability of skilled sales and technical personnel,
introduction or enhancements of services by the Company or its competitors,
market acceptance of new service offerings, increased competition, litigation
costs, results of litigation, and general economic conditions.
5
<PAGE>
Since the Company recognizes services revenue only when personnel are engaged on
client projects, the relative utilization of such personnel directly affects the
Company's operating results. In addition, a majority of the Company's services
operating expenses, particularly personnel and related costs, are substantially
fixed in advance of any particular period. As a result, variations in
utilization of personnel may have material adverse effects on operating results.
Termination or completion of engagements in the Company's services business or
failure to obtain additional engagements in its services business could have a
material adverse effect on the Company's business, financial condition, and
results of operations.
Uncertainty of Future Acquisitions
The Company evaluates potential acquisitions on an ongoing basis. No assurance
can be given as to the Company's ability to compete successfully for available
acquisition candidates, to complete future acquisitions, or the financial effect
on the Company of any acquired businesses. Acquisitions by the Company may
involve significant cash expenditures and may result in decreased operating
income, either of which could have a material adverse effect on the Company's
business, financial condition, and results of operations. The inability of the
Company to successfully continue its acquisition strategy could have a material
adverse effect on the Company's business, financial condition, and results of
operations.
Management of Potential Growth
The Company's recent acquisitions have placed, and are expected to continue to
place, a significant strain on its managerial and operational resources. To
manage future potential growth, the Company must continue to implement and
improve its operational and financial systems and to train and manage its
employee base. The Company expects that its operational and management systems
will face additional strains as a result of the Company's recent acquisitions of
SuiteOne and CompSource, as well as a result of possible acquisitions in the
future.
Integration of Acquisitions
As part of its business strategy, the Company expects to continue to seek out
business combinations with other IT Services companies. Such business
combinations involve a number of risks, including, without limitation,
difficulty assimilating the operations and personnel, management time and
expenses associated with the transactions, additional expenses associated with
amortization of acquired intangible assets, the maintenance of standards,
controls, procedures, and policies, the impairment of relationships with
employees and customers as a result of the integration of new management
personnel, and potential unknown liabilities associated with acquired
businesses. There can be no assurance that the Company will be successful in
addressing these risks or any other problems encountered in connection with such
business combinations.
Dependence on Key Personnel
The Company's performance is substantially dependent on the performance of its
senior management and key sales and technical personnel. In particular, the
Company's success depends substantially on the continued efforts of its senior
management team. The Company does not carry key person life insurance on any of
its senior management personnel. The loss of the services of any of its
executive officers or other key employees could have a material adverse effect
on the business, operating results, and financial condition of the Company. The
Company's future success also depends on its continuing ability to attract and
retain highly-qualified sales, technical, and managerial personnel. Competition
for such personnel is intense and there can be no assurance that the Company
will be able to retain its key managerial, sales, and technical employees or
that it will be able to attract and retain additional highly-qualified sales,
technical, and managerial personnel in the future. The inability to attract and
retain the necessary sales, technical, and managerial personnel could have a
material adverse effect upon the Company's business, financial condition, and
results of operation.
6
<PAGE>
Concentration of Stock Ownership
As of March 31, 1998, the present directors, executive officers, greater than 5%
stockholders, and their respective affiliates beneficially owned approximately
48% of the outstanding Common Stock of the Company. As of March 31, 1998, John
A. Parsons, the Company's Chairman and CEO, beneficially owned approximately 44%
of the outstanding Common Stock of the Company. As a result of their ownership,
the directors, executive officers, greater than 5% stockholders, and their
respective affiliates collectively are able to control all matters requiring
stockholder approval, including the election of directors and approval of
significant corporate transactions. Such concentration of ownership may also
have the effect of delaying or preventing a change in control of the Company.
Volatility of Stock Price
The trading price of the Company's Common Stock has been and may continue to be
subject to wide fluctuations in response to a number of events and factors, such
as quarterly variations in operating results, changes in financial estimates and
recommendations by securities analysts, the operating and stock price
performance of other companies that investors may deem comparable to the
Company, and news reports relating to trends in the Company's markets. In
addition, the stock market, in general, and the market prices for IT Services
companies, in particular, have experienced volatility that often has been
unrelated to the operating performance of such companies. These broad market and
industry fluctuations may adversely affect the trading price of the Company's
Common Stock, regardless of the Company's operating performance.
Research and Development
As of March 31, 1998, no employees were engaged in new product development and
testing. The Company spent approximately $78,000 and $201,000, respectively,
during the years ended March 31, 1998, and 1997, on product development,
enhancement, and maintenance.
Patents, Trademarks, and Copyrights
The Company regards its software and hardware as proprietary and relies
primarily on a combination of copyright and trademark laws, trade secrets,
confidentiality procedures, and contractual provisions, including employee and
third-party nondisclosure agreements, to protect its proprietary rights. The
Company seeks to protect its software, documentation, and other written
materials under trade secret and copyright laws, which afford only limited
protection. The laws of some foreign countries do not protect the Company's
proprietary rights to the same extent as do the laws of the United States. The
Company requires its employees to enter into confidentiality agreements.
The Company owns several U.S. patents and U.S. and foreign trademarks, including
the mark "Micro-Integration" in the United States. None of the patents or
trademarks, other than the marks "Micro-Integration" and "MI," are significant
to the Company's business.
No material claims have been made against the Company for infringement of
proprietary rights of third parties. There can be no assurance, however, that
third parties will not assert infringement claims against the Company in the
future. As the number of products in the industry increases and the
functionality of these products further overlaps, the Company believes that
software programs will increasingly become subject to infringement claims. The
Company's strategy to develop Internet-based services may also expose the
Company to infringement claims on software programs, web sites, or web content
in the future. The cost of responding to any such assertion may be material,
whether or not the assertion is valid.
7
<PAGE>
Software License and Warranty Terms
The Company's PC Connectivity products are licensed on a per-user, per-host, or
per-LAN basis. For certain major customers, the Company has made available
enterprise-wide or site licenses. Under the terms of these licenses, the
customer acquires a master copy of the software and documentation and the right
to make and distribute multiple copies of these materials within the enterprise
or site.
The Company provides a one-year limited warranty against defects in hardware and
software products manufactured by the Company. For certain of these hardware
products, the Company provides a limited lifetime warranty when the customer
returns the registration card. It is the Company's experience that the cost of
the extended warranty is immaterial, but there can be no assurance that this
will continue to be the case in the future.
The Company's original equipment manufacturer ("OEM") PC Connectivity customers
generally have non-exclusive licenses to distribute and market certain products
of the Company. The licenses are generally cancelable by the OEM on 90 days
notice and by the Company for cause. The Company receives a license fee or
royalty based on the number of copies of the Company's technology distributed by
the OEM's.
Employees
MI currently has approximately 55 full-time and 7 part-time employees.
Approximately 50% of all employees are employed at MI in Frostburg, Maryland,
29% at Computer Site in Valley View, Ohio, 15% at Computer One in Lima, Ohio,
and 6% at SuiteOne in Pittsburgh, Pennsylvania. Approximately two-thirds of the
Company's employees work in customer sales and service and approximately 17%
work in administration. The remaining employees provide marketing services.
Environmental
The Company owns or leases several parcels of real estate on which its
operations are located. Adjacent to the Company's headquarters building in
Frostburg, Maryland, is a property which was formerly operated as a sanitary
landfill. The Company leases this property from The Cumberland Allegany County
Industrial Foundation ("CACIF"), with an option to purchase. The Company uses
part of this property as a parking lot, the rest of the site being open space.
Although the Company has not performed an environmental assessment on the
property, the Company is not aware of any environmental problems which would
necessitate a cleanup. CACIF has contractually agreed to indemnify the Company
should any environmental cleanup costs arise from the property's pre-existing
condition (excluding consequential damages). In addition, should any
pre-existing environmental condition interrupt or materially impair the
Company's use of the property, the Company has the right through at least the
year 2023 to require CACIF or Allegany County, Maryland, to promptly alleviate
the condition and compensate the Company for any lost use of the property
(again, excluding consequential damages). If either or both fail to satisfy this
requirement, the Company has the right to obligate CACIF and Allegany County to
repurchase the property and reimburse the Company for all improvements made by
the Company. There can be no assurance that CACIF and Allegany County will
fulfill their contractual obligations to the Company. Were environmental
problems to arise with respect to the property, failure by either CACIF or
Allegany County to fulfill its obligations, or the occurrence of consequential
damages, could have a material adverse effect on the Company's business,
financial condition, or results of operation.
Governmental Approval of Hardware Products
All computer hardware products must meet certain radiowave emissions standards
prescribed by the Federal Communications Commission ("FCC") in the United States
and EC Directives in the European Economic Community ("EEC"). The Company's
current PC Connectivity products meet the FCC standards and are certified to
comply with Conformite Europeene ("CE") in the EEC. Although the Company's
products meet current FCC and CE radiowave emissions standards, such products
sold internationally may not meet the standards of, and may not be approved by,
the certification authorities of other countries. If any of the Company's
products were found not to meet the standards of any country, the Company would
be required to incur the expenses of bringing such products in conformance with
those standards or to cease selling the product in that country.
8
<PAGE>
Item 2. Description of Properties
As of March 31, 1998, the Company owned or leased the following facilities:
<TABLE>
<CAPTION>
Approximate Leased or
Location Type of Facility Condition Square Feet Owned
- ---------------------- ----------------------------- ---------- ----------- ---------
<S> <C> <C> <C> <C>
Frostburg, MD Corporate Offices, Excellent 20,000 Owned (1)
Sales/Service and Distribution
Friendsville, MD Vacant Fair 3,750 Owned (2)
Hagerstown, MD Internet Good 1,020 Leased(3)
Lima, OH Sales/Service Good 2,200 Leased(4)
Pittsburgh, PA Sales/Service Good 900 Leased(5)
Valley View, OH Sales/Service Excellent 7,500 Leased(6)
</TABLE>
(1) This property was financed with two separate notes. One is a 20-year,
$215,000 note from Allegany County, Maryland, bearing interest at 7.5%,
payable through August 2013. The other is a 20-year, $1,005,000 note from
the State of Maryland, bearing interest at 5.93%, payable through September
2013. At March 31, 1998, these notes had balances of $193,000 and $893,000,
respectively. Management believes the property is adequately covered by
insurance.
(2) This property is currently vacant and is on the market for sale.
(3) On September 3, 1996, MI entered into a lease agreement with Fedder
Management Corporation for the Hagerstown facility. The rent commencement
date was December 1, 1996. The initial term of the lease shall expire on
November 30, 1999.
(4) Computer One is currently renting office space in Lima, OH, from Duff
Warehouses. The rent commencement date was December 1994. The initial term
of the lease expires in November 2000.
(5) SuiteOne is currently renting office space in Pittsburgh, PA. The rent
commencement date was January 1, 1996. The initial term of the lease
expires in April 1999.
(6) Computer Site is currently renting office space in Valley View, OH. The
rent commencement date was November 1, 1997. The initial term of the lease
expires in October 2004.
Item 3. Legal Proceedings
In February 1998, a defamation lawsuit was filed against the Company and certain
other parties in the U.S. District Court of Maryland by the Company's former
chief financial officer. The plaintiff seeks in excess of $1.0 million for
compensatory damages and in excess of $1.0 million in punitive damages. The
Company believes it has meritorious defenses against the claim and intends to
defend the claim vigorously. The Company believes that the disposition of
matters pending or asserted will not have a materially adverse effect on the
financial position of the Company.
Item 4. Submission of Matters to a Vote of Security Holders
9
<PAGE>
No matters were submitted to a vote of security holders during the fourth
quarter of fiscal year 1997-1998.
Executive Officers and Key Personnel of the Registrant
(a) Executive Officers
The following sets forth information concerning the individuals who
are currently serving as executive officers of the Company:
Name Age Position
------------------ --- -------------------------
John A. Parsons 54 Chairman of the Board,
President, and CEO
Barry S. Wirtanen 44 Vice President, Sales
Terry D. Frost 40 Vice President, Finance
and CEO
John A. Parsons, CDP, the Company's founder, has been President,
Chairman of the Board of Directors, and a director of the Company
since it was founded in 1986. He held the same positions at MII, the
Company's predecessor, from its founding in 1978. Prior to inception
of the Company, Mr. Parsons was an independent consultant and held
positions with Avon Products, Inc. and AT&T. He holds a CDP
(Certificate in Data Processing), awarded in 1977.
Barry S. Wirtanen joined the Company in 1995 as Vice President, Sales.
In 1996, he also became President of the Company's subsidiaries,
Computer Site, Inc. and Computer One of Ohio, Inc. Prior to joining
MI, Mr. Wirtanen was vice president of sales and marketing at MRK
Computer Systems, Inc., based in Cleveland, Ohio. He has extensive
management experience in sales and marketing.
Terry D. Frost is currently the Company's Vice President, Finance and
Chief Financial Officer. Mrs. Frost joined the Company in February
1997 and became CFO in August 1997. Prior to joining the Company, she
was Controller at First Federal Savings Bank of Western Maryland.
(b) Key Personnel
Michael L. Eversole is currently Vice President of the Company's
Computer One of Ohio, Inc. subsidiary. He held the same position at
the subsidiary's predecessor. Prior to that he was Vice President of
Operations and Vice President of Sales.
P. Edward Fisher is currently the Company's Vice President, Technology
Services. Mr. Fisher joined the Company in 1978. Prior to becoming
Vice President, Technology Services in 1997, he was Vice President,
Product Development, Vice President, Special Products, and OEM sales
manager.
J. Michael Lafferty is currently the President of the Company's
SuiteOne Computer Services, Inc. subsidiary. He held the same position
at the subsidiary's predecessor which he founded in January 1996.
Ronald J. Scaletta is currently Vice President of the Company's
Computer Site, Inc. subsidiary. Prior to joining MI, he held senior
sales and marketing positions with MRK Technologies, Ltd. and
BasicComputer Corporation, both major network and systems integrators.
William L. Shomo has been with the Company and its predecessor MII
since 1978. He is currently Vice President, Products. Prior to
assuming his current position in 1995, Mr. Shomo held a variety of
positions with the Company, including Vice President, Customer
Support, and Vice President, Product Development.
10
<PAGE>
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
Since the Company's initial public offering in May 1994, the Common Stock has
been traded on The NASDAQ Stock Market under the symbol MINT.
Set forth below are the high and low closing sales price for the Common Stock as
reported by NASDAQ for the periods indicated.
Fiscal Year Ended March 1998 High Low
------------------------------------ ------- -------
First quarter (June 30, 1997) $ 1.375 $ 1.000
Second quarter (September 30, 1997) 2.500 1.000
Third quarter (December 31, 1997) 4.000 2.250
Fourth quarter (March 31, 1998) 3.063 1.375
The approximate number of record holders of the Common Stock as of March 31,
1998, was 206. The Company estimates that there are approximately 600 beneficial
holders of its Common Stock.
The Company has no present intention of paying dividends in the foreseeable
future as it intends to retain any future earnings to fund operations and the
continued development of its business. The declaration and payment of dividends
and the amount paid, if any, is subject to the discretion of the Company's Board
of Directors and will necessarily be dependent on the earnings, financial
condition, and capital requirements of the Company and any other factors the
Company's Board of Directors may consider relevant.
Item 6. Management's Discussion and Analysis of Financial Condition and Results
of Operations
When used in this discussion, the words "estimate," "project," and similar
expressions are intended to identify forward-looking statements. Such statements
are subject to certain risks and uncertainties that could cause actual results
to differ materially from those projected. Readers are cautioned not to place
undue reliance on these forward-looking statements, which speak only as of the
date hereof. The Company undertakes no obligation to publicly release the result
of any revisions to those forward-looking statements which may be made to
reflect events or circumstances after the date hereof or to reflect the
occurrence of unanticipated events.
The following is Management's discussion and analysis of the consolidated
financial condition and results of operations of the Company. It should be read
in conjunction with the audited consolidated financial statements and related
notes.
Overview
In the past two years, the Company has implemented a strategy and direction
changing the focus of its Frostburg, MD, location to IT Services and acquiring a
total of three other IT Services companies. These changes resulted in an
increase in revenue for the year ended March 31, 1998, to $12.3 million, up 28%
from $9.7 million in the prior year.
During the first nine months of the year, the Company had profits of $202,000,
or $0.08 per share. In the fourth quarter, the Company incurred a loss of
$623,000, primarily as a result of one-time costs associated with the write-off
of the Company's Internet voice and fax product and expenses associated with the
sale of its money-losing European operations in the prior year. For the year,
the Company lost $421,000, or $0.17 per share.
The Company has reduced expenses in its PC Connectivity business to match
declining revenues in that business segment. The Company expects the shift in
business to IT Services from PC Connectivity to continue for the foreseeable
future.
11
<PAGE>
Results of Operations
Comparison of Fiscal Year 1997-1998 to Fiscal Year 1996-1997
The Company's total revenue increased $2.7 million, or 28%, from $9.7 million in
fiscal year 1996-1997 to $12.4 million in fiscal year 1997-1998. IT Services
accounted for an increase of $5.5 million from $3.7 million last fiscal year to
$9.2 million in the current fiscal year, or 74% of total revenue for fiscal year
1997-1998. The increase in IT Services revenue offset the continued decline of
PC Connectivity product and royalty revenues, which decreased $2.8 million (51%)
and $68,000 (31%), respectively, from the 1996-1997 fiscal year.
Gross profit declined to 35.2% in fiscal year 1997-1998 from 47.7% in fiscal
year 1996-1997. The PC Connectivity product margin increased by 5.0% from 62.0%
last year to 67.0% in fiscal 1997-1998. This increase was offset by the lower
margins realized in the Company's IT Services business. The Company expects
gross margins to continue to decline as IT Services make up a larger proportion
of the Company's total business.
The Company's cost-cutting measures reduced selling, general, and administrative
("SG&A") costs by $1.3 million or 24% during the period. Operating expenses were
reduced primarily because of the sale of the MI PLC European subsidiary. The
Company expects SG&A expenses in its IT Services business to increase in the
future as this segment continues to grow, and these increases will partially
offset SG&A reductions in the PC Connectivity segment.
Bad debt expense decreased $450,000 from $563,000 in fiscal 1996-1997 to
$113,000 in fiscal 1997-1998. The $450,000 decrease was offset by an increase in
the allowance for accounts receivable of $77,000 relating to the bad debt due to
MI PLC. The Company's implementation of an aggressive collections program has
lowered the ratio of bad debt to sales.
Depreciation and amortization expenses decreased by $135,000 (31%) to $300,000
in fiscal year 1997-1998 from $435,000 in fiscal year 1996-1997. Included is
deferred compensation amortization of $0 and $113,000 in fiscal year 1997-1998
and fiscal year 1996-1997, respectively. Amortization of deferred compensation
is the annual amortization of the value of stock options that were granted as
inducement for certain key employees to join the Company.
The Company's net other expense decreased $72,000 from $341,000 in fiscal year
1996-1997 to $268,000 in fiscal year 1997-1998. Included in the current year's
net other expense is a gain on the sale of the Company's dial-up Internet
customer base of $210,000, an increase in other income of $45,000, and the
elimination of last year's non-recurring expenses of an impairment loss of
$65,000 and loss on sale of subsidiary of $173,000. This gain is offset by a
loss due to the write-off of capitalized costs of $411,000 and an increase in
interest expense of $10,000.
In fiscal 1997-1998, the Company recorded no income tax expenses. At March 31,
1998, the Company has foreign tax credit carryforwards of approximately
$131,000, a federal net operating loss carryforward of $1,500,000 and a federal
capital loss carryforward of $11,000.
Comparison of Fiscal Year 1996-1997 to Fiscal Year 1995-1996
The Company's total revenue increased $1,876,000, or 24%, from $7.8 million in
fiscal year 1995-1996 to $9.7 million in fiscal year 1996-1997. Product revenue
increased $2.1 million, or 29%. There was a $265,000 (53%) decline in OEM
license revenue.
Gross profit declined to 47.7% in fiscal year 1996-1997 from 68.2% in fiscal
year 1995-1996. The PC Connectivity product margin declined by 6.4% from 66.2%
last year to 62.0% in fiscal 1996-1997. The remainder of the decline was caused
by the lower margins realized in the Company's network integration and
technology services business.
SG&A expenses decreased slightly from $5.5 million in fiscal year 1995-1996 to
$5.4 million in fiscal year 1996-1997. This decrease was the net effect of
cost-cutting measures of $806,000 offset by new costs of $702,000 associated
with the acquisitions of Computer Site and Computer One.
12
<PAGE>
Bad debt expense increased $411,000 from $152,000 in fiscal 1995-1996 to
$563,000 in fiscal 1996-1997. Of the $411,000 increase, $236,000 (57%) was
recorded as a result of allowance for notes receivable relating to the debt
restructure due to the sale of MI PLC and $87,000 (21%) was incurred by MI PLC.
The remaining $88,000 (22%) increase in bad debt expense was incurred by the
Company in the normal course of business.
Depreciation and amortization expenses decreased by $20,000 (4.4%) to $435,000
in fiscal year 1996-1997 from $455,000 in fiscal year 1995-1996. Included is
deferred compensation amortization of $99,000 and $113,000 in fiscal year
1996-1997 and fiscal year 1995-1996, respectively. Amortization of deferred
compensation is the annual amortization of the value of stock options that were
granted as inducement for certain key employees to join the Company. As of March
31, 1997, deferred compensation was fully amortized.
The Company's net other income/expense increased $298,000 from net other expense
of $43,000 in fiscal year 1995-1996 to net other expense of $341,000 in fiscal
year 1996-1997. This increase is the net effect of a loss on the sale of MI PLC
of $173,000; an impairment loss of $65,000 and other net losses of $76,000
recorded by MI Corp.; and losses of $21,000 and $20,000 for the Computer Site
and Computer One subsidiaries, respectively. These losses were partially offset
by a decrease in MI PLC interest expense of $43,000 and a favorable exchange
rate variance of $14,000.
In fiscal 1996-1997, the Company recorded $51,000 in income tax expenses. At
March 31, 1997, the Company has foreign tax credit carryforwards of
approximately $180,000, a federal net operating loss carryforward of $2,300,000
and a federal capital loss carryforward of $11,000.
Liquidity and Capital Resources
In the fiscal year ended March 31, 1998, the Company satisfied its cash
requirements primarily through the sale of the dial-up Internet customer base,
and short-term borrowings. At March 31, 1998, the Company had $100,000 of the
1995 initial public offering invested in available-for-sale securities and an
additional $177,000 held as cash.
During the year cash used in operations exceeded cash provided by operations by
$458,000. The Company invested $103,000 acquiring property, plant, and
equipment, and $219,000 in capitalized software related to its VFS software and
associated four-channel voice/fax hardware adapter. These activities were funded
by the sale of the dial-up Internet customer base and through the use of
existing cash, in the amounts of $205,000 and $194,000, respectively.
The Company's working capital increased $100,000, from $1.1 million at March 31,
1997, to $1.2 million at March 31, 1998.
The Company has three working capital credit lines with U.S. banks. One credit
line, which is payable on demand, has a $100,000 limit and had an outstanding
balance of $100,000 as of March 31, 1998. Another line, which is also payable on
demand, has a $50,000 limit and had an outstanding balance of $13,000. The last
line is for $300,000, is renewable annually, and is limited to the lesser of
$300,000 or 70% of acceptable domestic accounts receivable. This line is secured
by substantially all of the Company's assets and as of March 31, 1998, had an
outstanding balance of $260,000.
Item 7. Financial Statements and Supplementary Data
The information required by this Item 7 is set forth on pages F-1 through F-23.
Item 8. Changes In and Disagreements With Accountants on Accounting and
Financial Disclosure
None.
13
<PAGE>
Part III
Item 9. Directors, Executive Officers, and Key Personnel of the Registrant
Directors
The information required by Item 9 relating to directors of the Company is
presented under the caption "Nomination and Election of Directors" of the
Company's definitive Proxy Statement for the 1998 Annual Meeting of Stockholders
("Proxy Statement") to be filed with the Securities and Exchange Commission (the
"Commission") not later than 120 days after the end of the fiscal year covered
by this Form 10-KSB, and is hereby incorporated by reference herein.
Executive Officers and Key Personnel
See Part I, Executive Officers and Key Personnel of the Registrant.
Section 16(a) Beneficial Ownership Reporting Compliance
The information required by this Item is presented under the caption "Other
Matters - Compliance with Section 16(a) of the Exchange Act" of the Company's
definitive Proxy Statement to be filed with the Commission not later than 120
days after the end of the fiscal year covered by this Form 10-KSB, and is hereby
incorporated by reference herein.
Item 10. Executive Compensation
The information required by Item 10 is presented under the caption "Section
16(A) Beneficial Ownership Reporting Compliance" of the Company's definitive
Proxy Statement to be filed with the Commission not later than 120 days after
the end of the fiscal year covered by this Form 10-KSB, and is hereby
incorporated by reference herein.
Item 11. Security Ownership of Certain Beneficial Owners and Management
The information required by Item 11 is presented under the caption "Security
Ownership of Certain Beneficial Owners and Management" of the Company's
definitive Proxy Statement to be filed with the Commission not later than 120
days after the end of the fiscal year covered by this Form 10-KSB, and is hereby
incorporated by reference herein.
Item 12. Certain Relationships and Related Transactions
The information required by Item 12 is presented under the caption "Certain
Transactions" of the Company's definitive Proxy Statement to be filed with the
Commission not later than 120 days after the end of the fiscal year covered by
this Form 10-KSB, and is hereby incorporated by reference herein.
14
<PAGE>
Item 13. Exhibits and Reports on Form 8-K
(a) Exhibits.
The Exhibits listed below are filed or incorporated by reference
herein.
EXHIBIT INDEX
Exhibit Description of Document
Number -----------------------
------
3(ii).1 Amended and Restated Bylaws of Micro-Integration Corp., filed as
Exhibit 3(ii).1 to the Company's Registration Statement on Form SB-2,
Registration No. 33-72752, is hereby incorporated by reference.
4.1 Article IV of the Restated Certificate of Incorporation of
Micro-Integration Corp., filed as Exhibit 4.1 to the Company's
Registration Statement on Form SB-2, Registration No. 33-72752, is
hereby incorporated by reference.
4.2 Form of Common Stock Certificate, filed as Exhibit 4.2 to Amendment No.
1 to the Company's Registration Statement on Form SB-2, Registration
No. 33-72752, is hereby incorporated by reference.
4.3 Form of Underwriter's Warrant, filed as Exhibit 4.3 to Amendment No. 1
to the Company's Registration Statement on Form SB-2, Registration No.
33-72752, is hereby incorporated by reference.
10.1 Micro-Integration Corp. Employee Savings and Stock Ownership Plan,
filed as Exhibit 10.1 to the Company's Registration Statement on Form
SB-2, Registration No. 33-72752, is hereby incorporated by reference.
10.2 1994 Stock Plan of Micro-Integration Corp., filed as Exhibit 10.2 to
the Company's Registration Statement on Form SB-2, Registration No.
33-72752, is hereby incorporated by reference.
10.3 Agreement between Micro-Integration Corp., Micro-Integration Europe
n.v., and Gabor Weiner entered into September 28, 1990, filed as
Exhibit 10.3 to the Company's Registration Statement on Form SB-2,
Registration No. 33-72752, is hereby incorporated by reference.
10.4 Agreement between Micro-Integration Corp. and Gabor Weiner entered into
on September 28, 1990, filed as Exhibit 10.4 to the Company's
Registration Statement on Form SB-2, Registration No. 33-72752, is
hereby incorporated by reference.
10.5 Amendment to Agreements between Micro-Integration Corp.,
Micro-Integration Europe n.v., and Gabor Weiner entered into on March
21, 1994, filed as Exhibit 10.5 to the Company's Registration Statement
on Form SB-2, Registration No. 33-72752, is hereby incorporated by
reference.
10.6 Contract of Sale made on August 23, 1995, between CCSAC Federal Credit
Union and Micro-Integration Corp., filed as Exhibit 10.6 to the
Company's Registration Statement on Form SB-2, Registration No.
33-72752, is hereby incorporated by reference.
15
<PAGE>
10.7 Agreement made as of May 20, 1993, between Micro-Integration Corp. and
Lashley Construction, Inc., filed as Exhibit 10.7 to the Company's
Registration Statement on Form SB-2, Registration No. 33-72752, is
hereby incorporated by reference.
10.8 Contract of Sale made on September 16, 1992, between Micro-Integration
Corp., Cumberland Allegany County Industrial Foundation, and the Board
of County Commissioners of Allegany County, Maryland, filed as Exhibit
10.8 to the Company's Registration Statement on Form SB-2, Registration
No. 33-72752, is hereby incorporated by reference.
10.9 Promissory Note dated September 24, 1993, payable by Micro-Integration
Corp. to the Board of County Commissioners of Allegany County, Maryland
or order, filed as Exhibit 10.9 to the Company's Registration Statement
on Form SB-2, Registration No. 33-72752, is hereby incorporated by
reference.
10.10 Promissory Note dated September 24, 1993, payable by Micro-Integration
Corp. to the order of the Board of County Commissioners of Allegany
County, Maryland, filed as Exhibit 10.10 to the Company's Registration
Statement on Form SB-2, Registration No. 33-72752, is hereby
incorporated by reference.
10.11 Revolving Note Agreement dated May 17, 1993, by and between
Micro-Integration Corp. and The First National Bank of Maryland, filed
as Exhibit 10.11 to the Company's Registration Statement on Form SB-2,
Registration No. 33-72752, is hereby incorporated by reference.
10.12 Business Promissory Note dated September 22, 1993, payable by
Micro-Integration Corp. to the order of The First National Bank of
Maryland, filed as Exhibit 10.12 to the Company's Registration
Statement on Form SB-2, Registration No. 33-72752, is hereby
incorporated by reference.
10.13 Agreement and Plan of Reorganization made in April 1986 by and among
Micro-Integration Corp., Micro-Integration Inc., John A. Parsons, i.e.
Systems, Inc., and the Stockholders named therein, filed as Exhibit
10.13 to the Company's Registration Statement on Form SB-2,
Registration No. 33-72752, is hereby incorporated by reference.
10.14 Indemnification Agreements between Micro-Integration Corp. and its
directors and officers, filed as Exhibit 10.14 to the Company's Form
10-KSB for the year ended March 31, 1996, is hereby incorporated by
reference.
21.1 Subsidiaries of Micro-Integration Corp.
23.1 Consent of Independent Accountants.
(b) Reports on Form 8-K.
Form 8-K disclosing the purchase of CompSource, Inc. was filed on
April 15, 1998.
16
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
Dated June 29, 1998 REGISTRANT:
Micro-Integration Corp.
By: /s/ John A. Parsons
-------------------
John A. Parsons
President, Chairman of the Board,
and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant and
in the capacities and on the dates indicated.
By: /s/ John A. Parsons June 29, 1998
-----------------------------
John A. Parsons
President, Chairman of the Board,
and Chief Executive Officer
(principal executive officer)
By: /s/ Terry D. Frost June 29, 1998
-----------------------------
Terry D. Frost
Chief Financial Officer
By: /s/ Maxwell F. Eveleth, Jr. June 29, 1998
-----------------------------
Maxwell F. Eveleth, Jr.
Director
By: /s/ Wayne M. Lee June 29, 1998
-----------------------------
Wayne M. Lee
Director
By: /s/ W. Braun Jones, Jr. June 29, 1998
-----------------------------
W. Braun Jones, Jr.
Director
<PAGE>
Annual Report on Form 10-KSB
Item 14(a)(I) and (2), (c) and (d)
List of Financial Statements and Financial Statement Schedule
Certain Exhibits
Financial Statement Schedule
Year Ended March 31, 1998
Micro-Integration Corp.
Frostburg, MD
<PAGE>
Micro-Integration Corp. and Subsidiaries
Index to Consolidated Financial Statements
Years Ended March 31, 1998, 1997, and 1996
Report of Independent Auditors ..................................... F-2
Audited Consolidated Financial Statements:
Consolidated Balance Sheets .................................... F-4
Consolidated Statements of Operations .......................... F-6
Consolidated Statements of Stockholders' Equity ................ F-7
Consolidated Statements of Cash Flows .......................... F-8
Notes to Consolidated Financial Statements ......................... F-9
Audited Financial Schedule:
Consolidated Financial Statement Schedule:
Schedule II -- Valuation and Qualifying Accounts ............... F-23
All other schedules for which provision is made in the applicable accounting
regulation of the Securities and Exchange Commission are not required under the
related instructions or are inapplicable and therefore have been omitted.
<PAGE>
[LETTERHEAD OF ERNST & YOUNG LLP]
Report of Independent Auditors
The Board of Directors and Shareholders
Micro-Integration Corporation
We have audited the accompanying consolidated balance sheets of
Micro-Integration Corporation and subsidiaries as of March 31, 1998 and 1997,
and the related consolidated statements of operations, shareholders' equity, and
cash flows for each of the three years in the period ended March 31, 1998. Our
audits also included the financial statement schedule listed in the Index at
Item 7. These financial statements and schedule are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements and schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
Micro-Integration Corporation and subsidiaries at March 31, 1998 and 1997, and
the consolidated results of their operations and their cash flows for each of
the three years in the period ended March 31, 1998, in conformity with generally
accepted accounting principles. Also, in our opinion, the related financial
statement schedule, when considered in relation to the basic financial
statements taken as a whole, presents fairly in all material respects the
information set forth therein.
/s/ ERNST & YOUNG LLP
Baltimore, Maryland
June 1, 1998
Ernst & Young LLP is a member of Ernst & Young International, Ltd.
F-2
<PAGE>
This page intentionally left blank.
F-3
<PAGE>
Micro-Integration Corp. and Subsidiaries
Consolidated Balance Sheets
March 31
1998 1997
----------- -----------
ASSETS
Current Assets
Cash $ 176,964 $ 370,598
Marketable securities, available-for-sale 100,000 100,000
Receivables
Trade, net of allowance for doubtful
accounts $153,377 and $76,324 1,650,884 1,872,291
Note 74,880 70,000
Tax refund -- 46,141
Inventory 551,565 596,556
Prepaid expense 101,571 97,576
----------- -----------
Total Current Assets 2,655,864 3,153,162
----------- -----------
Property, Plant, and Equipment
Land 92,962 92,962
Buildings 1,461,357 1,455,518
Equipment 1,418,918 1,384,231
Automobiles 54,955 83,952
Property held for sale, net 76,848 58,794
----------- -----------
3,105,040 3,075,457
Less accumulated depreciation (1,209,082) (1,041,637)
----------- -----------
1,895,958 2,033,820
Cash Surrender Value of Life Insurance
and Other Noncurrent Assets, Net 254,704 298,437
Intangible Assets, Net 468,932 745,912
----------- -----------
$ 5,275,458 $ 6,231,331
=========== ===========
F-4
<PAGE>
Micro-Integration Corp. and Subsidiaries
Consolidated Balance Sheets
March 31
1998 1997
----------- -----------
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities
Accounts payable $ 818,121 $ 933,434
Accrued expenses 176,199 471,137
Demand notes payable 372,542 462,500
Current portion of long-term debt and
capital lease obligations 130,423 196,181
Income tax payable -- 1,800
----------- -----------
Total Current Liabilities 1,497,285 2,065,052
----------- -----------
Long-Term Debt, Less Current Portion 1,162,987 1,210,139
Commitment and Contingencies -- --
Shareholders' Equity
Preferred stock - $.01 par value; authorized
4,000,000 shares; none issued and outstanding -- --
Common stock - $.01 par value; authorized
12,000,000 shares; issued 2,667,349 and
2,641,477 in 1998 and 1997, respectively;
outstanding 2,517,811 and 2,491,939 in
1998 and 1997, respectively 26,673 26,415
Additional capital 5,683,039 5,603,263
Accumulated deficit (2,713,632) (2,292,644)
----------- -----------
2,996,080 3,337,034
Less 149,538 shares held in treasury 380,894 380,894
----------- -----------
2,615,186 2,956,140
----------- -----------
$ 5,275,458 $ 6,231,331
=========== ===========
See Notes to Consolidated Financial Statements.
F-5
<PAGE>
Micro-Integration Corp. and Subsidiaries
Consolidated Statements of Operations
<TABLE>
<CAPTION>
Year ended March 31
1998 1997 1996
------------ ------------ ------------
<S> <C> <C> <C>
Revenues $ 12,352,132 $ 9,659,861 $ 7,784,016
Cost of goods sold 8,420,397 5,056,754 2,471,761
------------ ------------ ------------
Gross profit 3,931,735 4,603,107 5,312,255
Operating Expenses
Selling, general, and administrative 4,083,702 5,393,222 5,497,642
Bad debt 112,656 562,786 152,339
Depreciation and amortization expense 299,967 434,863 454,955
------------ ------------ ------------
4,496,325 6,390,871 6,104,936
------------ ------------ ------------
Operating Loss (564,590) (1,787,764) (792,681)
Other Income (Expense)
Interest expense (141,435) (131,857) (111,533)
Other income 75,230 29,269 68,796
Gain on sale on Internet customer base 209,807 -- --
Impairment loss -- (65,203) --
Loss on sale of subsidiary -- (172,768) --
------------ ------------ ------------
143,602 (340,559) (42,737)
------------ ------------ ------------
Loss before income taxes (420,988) (2,128,323) (835,418)
Income tax expense (benefit) -- 51,159 (34,169)
------------ ------------ ------------
Net Loss $ (420,988) $ (2,179,482) $ (801,249)
============ ============ ============
Basic and Diluted Loss per Common Share $ (0.17) $ (0.89) $ (0.33)
============ ============ ============
</TABLE>
See Notes to Consolidated Financial Statements.
F-6
<PAGE>
Micro-Integration Corp. and Subsidiaries
Consolidated Statements of Stockholders' Equity
<TABLE>
<CAPTION>
Equity
adjustment
Common from
Common stock Retained foreign
stock $0.01 par Additional earnings currency Deferred Treasury Total
shares value capital (deficit) translation compensation stock equity
-------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance, March 31, 1995 2,470,527 $ 24,706 $ 5,502,500 $ 688,087 $(103,428) $ (252,909) $ (240,591) $ 5,618,365
-------------------------------------------------------------------------------------------------------
Aggregate translation
adjustment (72,948) (72,948)
Stock options exercised 44,900 449 449
Stock options cancelled-
unamortized deferred
compensation (41,121) 41,121 --
Deferred compensation
cancelled (56,584) (56,584)
Amortization of deferred
compensation 112,740 112,740
Repurchase of common stock (115,303) (115,303)
Net loss for 1996 (801,249) (801,249)
-------------------------------------------------------------------------------------------------------
Balance, March 31, 1996 2,515,427 25,155 5,404,795 (113,162) (176,376) (99,048) (355,894) 4,685,470
-------------------------------------------------------------------------------------------------------
Aggregate translation
adjustment 176,376 176,376
Stock options exercised 32,212 322 322
Stock issuance 93,838 938 198,468 199,406
Amortization of deferred
compensation 99,048 99,048
Repurchase of common stock (25,000) (25,000)
Net loss for 1997 (2,179,482) (2,179,482)
-------------------------------------------------------------------------------------------------------
Balance, March 31, 1997 2,641,477 26,415 5,603,263 (2,292,644) -- -- (380,894) 2,956,140
-------------------------------------------------------------------------------------------------------
Stock issuance 25,872 258 79,776 80,034
Net loss for 1998 (420,988) (420,988)
-------------------------------------------------------------------------------------------------------
Balance, March 31, 1998 2,667,349 $ 26,673 $ 5,683,039 $(2,713,632) $ -- $ -- $ (380,894) $ 2,615,186
=======================================================================================================
</TABLE>
See Notes to Consolidated Financial Statements.
F-7
<PAGE>
Micro-Integration Corp. and Subsidiaries
Consolidated Statements of Cash Flows
<TABLE>
<CAPTION>
Year ended March 31
1998 1997 1996
------------ ------------ ------------
<S> <C> <C> <C>
Cash Flows from Operating Activities
Net loss $ (420,988) $ (2,179,482) $ (801,249)
Adjustments to reconcile net loss to net cash
(used in) provided by operating activities:
Depreciation and amortization 299,967 578,706 599,998
Loss on sale of subsidiary -- 172,768 --
(Gain) loss on disposal of assets (24,847) 7,558 (2,069)
Write-off of capitalized costs 411,839 -- --
Gain from sale of Internet customer base (209,807) -- --
Increase in cash surrender value of life insurance (30,522) (1,035) (1,976)
Impairment loss -- 65,203 --
Deferred income taxes -- (19,502) 20,699
Other 7,982 (58,133) 449
Change in operating assets and liabilities:
Accounts receivable 223,601 (396,075) 415,482
Note receivable (4,880) -- --
Inventory 44,991 440,339 113,128
Prepaid expense (4,356) (22,233) 111,719
Income taxes receivable 46,141 2,349 667,997
Accounts payable (117,270) 513,815 (481,747)
Accrued expenses (296,476) 274,747 (127,778)
Income taxes payable (1,800) 39,640 1,000
------------ ------------ ------------
Net cash (used in) provided by operating activities (76,425) (581,335) 515,653
Cash Flows from Investing Activities
Acquisition of property, plant, and equipment (89,802) (299,927) (310,852)
Increase in other noncurrent assets (16,748) (199,585) (304,209)
Purchase of available-for-sale securities -- (6,800,000) (12,000,000)
Proceeds from sales of available-for-sale securities -- 7,700,000 12,500,000
Cash received in acquisition of subsidiaries 242 37,432 --
Proceeds from sale of Internet customer base 205,400 -- --
Proceeds from sale of fixed assets 35,380 14,961 14,224
------------ ------------ ------------
Net cash provided by (used in) investing activities 134,472 452,881 (100,837)
Cash Flows from Financing Activities
Issuance of notes payable and long-term debt -- 387,183 --
Repayments of notes payable, long-term debt, and
capital lease obligations (251,661) (341,390) (227,776)
Repurchase of common stock -- -- (115,303)
------------ ------------ ------------
Net cash (used in) provided by financing activities (251,661) 45,793 (343,079)
Effect of exchange rate changes on cash -- (7,615) (37,948)
------------ ------------ ------------
(Decrease) increase in cash (193,614) (90,276) 33,789
Cash at beginning of year 370,598 460,874 427,085
------------ ------------ ------------
Cash at end of year $ 176,984 $ 370,598 $ 460,874
============ ============ ============
Schedule of Noncash Investing Activities:
Due to the acquisitions of SuiteOne during the year ending March 31, 1998, and
Computer Site and Computer One during the year ending March 31, 1997, the
Company had the following noncash investing and financing activities:
Assets acquired, excluding cash $ (36,983) $ (666,278)
Liabilities assumed 39,280 785,023
Goodwill recorded (82,055) (281,041)
Common stock issued 80,000 199,728
------------ ------------
Cash acquired in acquisition $ 242 $ 37,432
============ ============
</TABLE>
See Notes to Consolidated Financial Statements.
F-8
<PAGE>
Micro-Integration Corp. and Subsidiaries
Notes to Consolidated Financial Statements
1. Nature of Operations and Significant Accounting Policies
Nature of Operations
The principal business activity of Micro-Integration Corp. and subsidiaries (the
"Company") is the development, design, marketing, selling, and support of
computer and networking products. Services provided include consulting, network
integration and design services. The Company sells computers and communications
products purchased from others and designs, manufactures, and sells its own
products that provide communications and connectivity between personal computers
and IBM mainframe and midrange AS/400 computers.
Principles of Consolidation
The consolidated financial statements include the accounts of Micro-Integration
Corp. ("MI") and its subsidiaries, Computer Site, Inc. ("Computer Site"),
Computer One of Ohio, Inc. ("Computer One"), and SuiteOne Computer Services,
Inc. ("SuiteOne"). The Company consolidates all subsidiaries in which it has a
controlling interest (greater than 50% owned). All significant intercompany
accounts have been eliminated in consolidation.
Use of Estimates in the Preparation of Financial Statements
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the amounts reported in the financial statements and accompanying notes.
Actual results could differ from those estimates.
Inventory
Inventory is stated at the lower of cost or market. Cost is determined using the
first-in, first-out method.
Property, Plant, and Equipment
Property, plant, and equipment are stated at cost. Depreciation is calculated
using the straight-line method over the estimated useful lives of the assets.
Leasehold improvements are amortized on a straight-line method over the shorter
of the lease term or estimated useful life of the asset.
Intangible Assets
Goodwill consists of the cost in excess of fair value of the net assets of
entities acquired in purchase transactions and is amortized on a straight-line
basis over its estimated useful life.
The Company capitalizes costs associated with new software development and
enhancements in accordance with the guidelines of Statement of Financial
Accounting Standards ("SFAS") No. 86, Accounting for the Costs of Computer
Software to be Sold, Leased, or Otherwise Marketed. Capitalization of software
costs begins upon the establishment of technological feasibility and ceases when
the software is available for general release to customers. The establishment of
technological feasibility and the ongoing assessment of recoverability of
capitalized software costs require considerable judgment by management with
respect to certain external factors, including but not limited to, changes in
software and hardware technologies, anticipated future gross revenues, and
estimated economic life. The Company capitalized $219,000, $193,000, and
$258,000 for 1998, 1997, and 1996, respectively. Amortization of capitalized
software development costs is provided on a product-by-product basis and is
based on unit sales not to exceed a period of three years. The amortization
charged to cost of sales was $78,000, $129,000, and $191,000 for 1998, 1997, and
1996, respectively. During fiscal year 1998, the Company evaluated the
recoverability of certain capitalized software costs based on anticipated future
gross revenues and recorded a $411,000 write-off of capitalized costs in order
to state the assets at their net realizable value.
F-9
<PAGE>
Micro-Integration Corp. and Subsidiaries
Notes to Consolidated Financial Statements
1. Nature of Operations and Significant Accounting Policies (Continued)
Intangible Assets (Continued)
License fees are amounts paid for products designed externally and are amortized
based on unit sales not to exceed a period of three years from the date of the
product release or first sale.
Other intangible assets represent contract rights and customer lists and are
amortized over their estimated useful life (See Note 8 for details).
Revenue Recognition
Revenue is recognized from the sale of goods, including software products, upon
delivery net of product returns and exchanges. Revenue is recognized from
licensing arrangements upon the establishment of the licensing agreement and
royalty arrangements upon delivery of products to third parties.
In December 1997, the Accounting Standards Executive Committee (AcSEC") issued
Statement of Position (SOP) 97-2, Software Revenue Recognition, which is
effective for transactions entered into in fiscal years beginning after December
15, 1997. The SOP supercedes SOP 91-1, Software Revenue Recognition, and
provides revised and expanded guidance on when revenue should be recognized and
in what amounts for licensing, selling, leasing, or otherwise marketing computer
software. Management has not completed a full analysis of the new standard, but
does not anticipate that upon adoption of the SOP in 1999, there will be a
material effect on future results of operations or financial position.
Research and Development
Research and development ("R & D") costs approximating $78,000, $201,000, and
$327,000 were charged to expense for 1998, 1997, and 1996, respectively. R & D
costs are included in selling, general, and administrative expenses.
Stock Based Compensation
The Company records compensation expense for all stock-based compensation plans
using the intrinsic value method prescribed by APB Opinion No. 25, Accounting
for Stock Issued to Employees ("APB No. 25"). Under APB No. 25, if the exercise
price of the Company's employee stock options equal the estimated fair value of
the underlying stock on the grant date, no compensation expense is generally
recognized. Financial Accounting Standards Board Statement No. 123, Accounting
for Stock-based Compensation ("Statement 123") encourages companies to recognize
expense for stock-based awards based on their estimated fair value on the grant
date. Statement 123 requires disclosure of pro forma income and earnings per
share data in the Notes to Consolidated Financial Statements if the new fair
value method is not adopted. The Company has supplementally disclosed in Note 12
the required pro forma information as if the fair-value method had been adopted.
Fair Value of Financial Instruments
The carrying amounts of cash, marketable securities, accounts receivable, notes
receivable, accounts payable, and accrued expenses approximate their fair
values.
F-10
<PAGE>
Micro-Integration Corp. and Subsidiaries
Notes to Consolidated Financial Statements
1. Nature of Operations and Significant Accounting Policies (Continued)
Impairment of Long-Lived Assets
Long-lived assets, including intangible assets, are reviewed for impairment
whenever events or changes in circumstances indicate that the carrying amount of
an asset may not be fully recoverable. During fiscal year 1997, the Company
evaluated the ongoing value of certain computer equipment. The amount of the
impairment loss was determined by evaluating the likely sales proceeds from the
disposition of the assets as compared to their book value. Based on this
evaluation, the Company determined that the equipment was impaired and adjusted
it to its fair value.
Income Taxes
The Company uses the liability method of accounting for income taxes. Under this
method, deferred tax assets and liabilities are determined based on differences
between financial reporting and tax bases of assets and liabilities and are
measured using the enacted tax rates and laws that will be in effect when the
differences are expected to reverse.
Comprehensive Income
In December 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 130, Reporting Comprehensive Income
("Statement 130"), that establishes standards for the reporting and display of
comprehensive income and its components in a full set of general purpose
financial statements. Statement 130 only impacts display as opposed to actual
amounts recorded. Other comprehensive income includes all non-owner changes in
equity that are excluded from net income. The Statement does not apply to an
enterprise that has no items of other comprehensive income in any period
presented. Statement 130 is effective for financial statements for fiscal years
beginning after December 15, 1997. The Company will adopt the provisions of the
new standard in fiscal year 1999.
2. Earnings per Share
In 1997, the Financial Accounting Standards Board issued Statement No. 128,
Earnings Per Share ("Statement 128"). Statement 128 replaced the calculation of
primary and fully diluted earnings per share with basic and diluted earnings per
share. Unlike primary earnings per share, basic earnings per share excludes any
dilutive effects of options, warrants, and convertible securities. Diluted
earnings per share is very similar to the previously reported fully diluted
earnings per share. Earnings per share amounts for all periods have been
presented, and where appropriate, restated to conform to the Statement 128
requirements.
The following table sets forth the computation of basic and diluted earnings
(loss) per share:
Year ended March 31
1998 1997 1996
---------- ----------- ----------
Numerator used in basic and
diluted loss per share:
Net loss $ (420,988) $(2,179,482) $ (801,249)
========== =========== ==========
Denominator:
Weighted average number of
shares of common stock
outstanding during the period 2,502,247 2,455,302 2,467,798
========== =========== ==========
Basic and diluted loss per common share $ (0.17) $ (0.89) $ (0.33)
========== =========== ==========
F-11
<PAGE>
Micro-Integration Corp. and Subsidiaries
Notes to Consolidated Financial Statements
2. Earnings per Share (Continued)
Basic loss per common share is based upon the average number of shares of common
stock outstanding during each period. Dilutive loss per common share is equal to
basic loss per common share because if potentially dilutive securities were
included in the computation, the result would be anti-dilutive. These
potentially dilutive securities consist of stock options and warrants, as
described in Note 12.
3. Supplemental Disclosure of Cash Flow Information
The Company paid interest of $141,000, $132,000, and $112,000 and income taxes
of $0, $24,000, and $1,000 during fiscal years 1998, 1997, and 1996,
respectively.
4. Business Acquisitions
Effective December 1, 1997, the Company acquired all of the outstanding stock of
SuiteOne in exchange for 22,456 shares of common stock valued at $80,000.
SuiteOne is a software design and computer systems service provider located in
Pittsburgh, Pennsylvania. The acquisition was accounted for using the purchase
method of accounting.
The results of operations of SuiteOne for the four months ended March 31, 1998,
are included in the accompanying 1998 consolidated statements of operations.
SuiteOne accounted for less than 1% and 3% of the Company's consolidated total
revenue and net loss, respectively. Goodwill of $82,000 related to the
acquisition is being amortized over its estimated useful life of 15 years.
On August 21, 1996, and November 22, 1996, the Company purchased Computer Site,
Inc. and Computer One of Ohio, Inc., respectively. Both companies acquired are
Ohio-based systems integrators. MI acquired the companies for a common stock
issuance of 93,838 shares (with a market value of $199,000 at acquisition) and
the assumption of liabilities (principally current liabilities) of $785,000.
Each of these acquisitions was accounted for using the purchase method of
accounting. The purchase price of each acquisition was allocated to the net
assets acquired based on their estimated fair value. The excess of the purchase
price over the estimated fair value of the net assets amounted to $281,000 and
is being amortized over fifteen years. The operations of each of these acquired
businesses are included in the accompanying consolidated statements of
operations from the date of the respective acquisition.
5. Disposal of Foreign Operations
On March 31, 1997, the Company disposed of 80% of the net assets of its foreign
subsidiary MI PLC and incurred a disposition loss of $173,000, which was
recognized in fiscal 1997. MI's remaining investment in MI PLC is $44,000. MI
uses the cost method to account for its investment in MI PLC.
6. Marketable Securities
Available-for-sale securities are stated at fair value, with the unrealized
gains and losses, net of tax, reported as a separate component of stockholders'
equity. Realized gains and losses and declines in value judged to be
other-than-temporary on available-for-sale securities are included in investment
income. The cost of securities sold is based on the specific identification
method. Interest on securities classified as available-for-sale is included in
investment income. Available-for-sale securities include obligations of state
municipalities and are stated at fair market value of $100,000 at March 31,
1998, and 1997. These securities mature in August 2026. There were no unrealized
gains/losses with respect to these securities during fiscal year 1998 nor 1997.
F-12
<PAGE>
Micro-Integration Corp. and Subsidiaries
Notes to Consolidated Financial Statements
7. Inventory
Inventory consisted of the following:
March 31
1998 1997
---------- ----------
Parts $ 156,412 $ 129,766
Finished goods 395,153 466,790
---------- ----------
$ 551,565 $ 596,556
========== ==========
8. Intangible Assets
Intangible assets consisted of the following:
March 31
1998 1997
---------- ----------
Gross:
Goodwill $ 363,196 $ 735,736
Capitalized software and design costs 390,881 787,888
Other 199,671 199,284
---------- ----------
$ 953,748 $1,722,908
========== ==========
Net:
Goodwill $ 334,959 $ 273,469
Capitalized software and design costs 36,466 366,336
Other 97,507 106,107
---------- ----------
$ 468,932 $ 745,912
========== ==========
9. Notes Payable and Long-Term Debt
The Company has a $300,000 line of credit with a U.S. bank, secured by accounts
receivable and inventory. Outstanding borrowings are payable on demand and bear
interest at the bank's prime lending rate plus 3/4% (9.25% at March 31, 1998).
There was $260,000 and $377,500 outstanding on this line of credit as of March
31, 1998, and 1997, respectively.
F-13
<PAGE>
Micro-Integration Corp. and Subsidiaries
Notes to Consolidated Financial Statements
9. Notes Payable and Long-Term Debt (Continued)
The provisions of the loan agreement related to this line of credit require the
Company to maintain minimum cash flows to debt service coverage ratios. As a
result of operating losses, the Company was in violation of the minimum cash
flow to debt service coverage covenant at March 31, 1998. The bank has informed
the Company that they intend to renew this credit line and continue the lending
relationship. The Company is not actively seeking alternative financing.
The Company also has two other lines of credit with U.S. banks. One line for
$100,000 is payable on demand and bears interest at the bank's prime lending
rate plus 1.5% (10.0% at March 31, 1998). There was $100,000 and $85,000
outstanding on this line of credit as of March 31, 1998, and 1997, respectively.
The other line for $50,000 is payable on demand, has a fixed interest rate of
11.0%, and had an outstanding balance of $12,542 as of March 31, 1998.
Long-term debt consisted of the following:
<TABLE>
<CAPTION>
March 31
1998 1997
------------ ------------
<S> <C> <C>
Note payable in monthly installments of $364 including principal and
interest at 10.5% through August 1998, secured by real property. $ -- $ 5,731
Note payable in monthly installments of $1,765 including principal and interest
at 7.5% through August 2013, secured by real property.
Interest-only payments paid through March 31, 1994. 193,197 199,621
Note payable in quarterly installments of $22,132 including principal and
interest at 5.93% commencing December 1994 through September 2013, secured by
real property. Interest-only payments from date of
first proceeds payment through initial 15 months. 893,386 927,655
Note payable in monthly principal installments of $6,667 plus interest at 3/4%
above prime through September 1998, secured by assets of the business. 38,233 118,233
Note payable in monthly installments of $1,368 plus interest at 8.5% commencing
January 1995 through January 2001, secured by assets
of the business. 51,450 62,035
Note payable in monthly installments of $623 including principal
and interest at 6.0% commencing January 1995 through December 2000. 23,691 29,558
Note payable in monthly installments of $1,190 plus interest at prime plus 1%
commencing November 1994 through September 2002,
secured by assets of the business. 50,886 62,791
Note payable in monthly installments of $557 including principal and interest at
9.0% commencing January 1997 through December 2001,
secured by assets of the business. 16,242 --
------------ ------------
$ 1,267,085 $ 1,405,624
============ ============
</TABLE>
The fair value of the Company's debt was determined using quoted market prices
and is $1,483,982 at March 31, 1998.
9. Notes Payable and Long-Term Debt (Continued)
F-14
<PAGE>
Micro-Integration Corp. and Subsidiaries
Notes to Consolidated Financial Statements
Combined maturities for long-term debt by year and in the aggregate consisted of
the following:
March 31
-----------
1999 $ 121,082
2000 86,597
2001 90,010
2002 73,050
2003 55,332
Thereafter 841,014
-----------
$ 1,267,085
===========
During the years ended March 31, 1998, 1997, and 1996, the Company paid interest
related to these borrowings of $91,000, $92,000, and $94,000, respectively.
10. Lease Commitments
The Company leases office space for its subsidiaries Computer Site, Computer One
and SuiteOne. These leases expire in October 2004, November 2000, and April
1999, respectively. The Company leases office space in Hagerstown, MD, to house
its Internet equipment. This lease expires in November 1999. The annual expense
associated with this lease is $10,000. The Company leases equipment and
automobiles under the terms of various capital lease and operating lease
agreements, all of which expire by the year 2000.
Property, plant, and equipment include the following amount for capitalized
leases at the dates indicated:
March 31
1998 1997
-------- --------
Equipment $ 79,906 $ 21,650
Less: Accumulated amortization (40,103) (10,516)
-------- --------
$ 39,803 $ 11,134
======== ========
F-15
<PAGE>
Micro-Integration Corp. and Subsidiaries
Notes to Consolidated Financial Statements
10. Lease Commitments (Continued)
Future minimum payments for these leases by year and in the aggregate consisted
of the following at the dates indicated:
March 31
Capital Operating
Leases Leases
-------- ---------
1999 $ 12,617 $ 148,668
2000 12,617 89,337
2001 6,308 86,750
2002 - 85,500
2003 - 88,625
Thereafter - 147,250
-------- ---------
Total minimum lease payments 31,542 $ 646,130
=========
Less amounts representing interest 5,217
--------
Present value of future minimum
capital lease payments $ 26,325
========
Rent expense related to the operating leases was $183,000, $152,000, and
$179,000 for the years ended March 31, 1998, 1997, and 1996, respectively.
Interest expense recognized and paid on the capital lease obligations was
$1,000, $1,000, and $15,000 during the years ended March 31, 1998, 1997, and
1996, respectively.
11. Income Taxes
Income tax expense (benefit) for the years ended March 31, 1998, and 1997,
consisted of the following:
1998 1997
------- -------
Current:
Federal $ -- $11,133
State -- 2,350
Foreign -- 12,154
------- -------
-- 25,637
------- -------
Deferred:
Federal -- 25,522
State -- --
Foreign -- --
------- -------
-- 25,522
------- -------
$ -- $51,159
======= =======
11. Income Taxes (Continued)
F-16
<PAGE>
Micro-Integration Corp. and Subsidiaries
Notes to Consolidated Financial Statements
Total deferred tax assets and deferred tax liabilities as of March 31, 1998, and
1997, and the sources of the differences between financial statements and tax
basis of the Company's assets and liabilities which give rise to the deferred
tax assets and deferred tax liabilities are as follows:
March 31
1998 1997
----------- -----------
Current deferred taxes:
Allowance for doubtful accounts $ 128,260 $ 109,633
Other 5,085 23,871
----------- -----------
Net current deferred tax asset (liability) 133,345 133,504
Valuation allowance for deferred tax assets (133,345) (133,504)
----------- -----------
$ -- $ --
=========== ===========
Non-current deferred taxes:
Net operating loss carryforward $ 883,620 $ 839,539
Capital loss carryforward 5,345 5,345
Foreign tax carryforward 131,256 132,239
Minimum tax carryforward 13,225 13,225
Charitable contribution carryforward 10,738 10,738
Research and development credit carryforward 37,476 37,476
Research and development expense (26,279) (139,457)
Intangible 21,068 22,047
Investment (64,400) (64,400)
Tax over book depreciation (6,870) 16,128
----------- -----------
Net non-current deferred tax asset 1,005,179 872,880
Valuation allowance for deferred tax asset (1,005,179) (872,880)
----------- -----------
$ -- $ --
=========== ===========
At March 31, 1998, the Company had foreign tax credit carryforwards of
approximately $131,000 which expire in the years 1999 to 2002.
At March 31, 1998, the Company had federal net operating loss carryforwards of
approximately $1,500,000 which expire in the years 2011 and 2012. The state net
operating loss carryforwards vary by states.
At March 31, 1998, the Company had federal capital loss carryforwards of
approximately $11,000 which expire in the year 2000. The state capital loss
carryforwards vary by states.
During the years ended March 31, 1998, and 1997, the Company paid income taxes
of $0 and $24,000, respectively.
11. Income Taxes (Continued)
F-17
<PAGE>
Micro-Integration Corp. and Subsidiaries
Notes to Consolidated Financial Statements
The reasons for the difference between total tax expense and tax computed by
applying the U.S. Federal income tax rates to earnings before income taxes for
the years ended March 31 were as follows:
1998 1997
---- ----
U.S. Federal statutory rate -34.0% -34.0%
State income tax, net of federal income tax benefit -2.7% 0.1%
Non-deductible expenses, net of non-taxable income 2.8% 2.0%
Foreign taxes withheld 0.0% 0.6%
Change in valuation allowance 31.4% 33.9%
Other 2.4% -0.2%
---- ----
0.0% 2.4%
==== ====
12. Stock Options and Warrants
The Company grants certain options to key employees and non-employee directors
under the 1994 Stock Plan. The Plan provides for the granting of qualified and
non-qualified stock options to key employees and non-qualified stock options to
non-employee directors to purchase an aggregate of up to 150,000 shares of
common stock. Vesting provisions for individual awards are at the discretion of
the Compensation Committee.
The following table summarizes the option activity for the three-year period
ended March 31, 1998:
Common Weighted-Average
Stock Exercise Price
------ ---------------
Balance at April 1, 1995 111,764 $1.73
1996 Activity
- -------------
Granted 74,000 3.64
Exercised (44,900) 0.02
Forfeited (30,016) 3.43
-------
Balance at March 31, 1996 110,848 $3.14
1997 Activity
- -------------
Granted 3,000 1.94
Exercised (32,212) 0.01
Forfeited (38,048) 3.87
-------
Balance at March 31, 1997 43,588 $5.00
1998 Activity
- -------------
Granted 3,000 1.69
Exercised -- --
Forfeited (15,588) 5.82
-------
Balance at March 31, 1998 31,000 $4.27
=======
12. Stock Options and Warrants (Continued)
F-18
<PAGE>
Micro-Integration Corp. and Subsidiaries
Notes to Consolidated Financial Statements
All options granted have an exercise price equal to or greater than the fair
value of the Company's common stock on the grant date. Of the outstanding
options at March 31, 1998, 1997, and 1996, 24,250, 23,226, and 40,373,
respectively, were exercisable. Exercise prices for options outstanding as of
March 31, 1998, ranged from $1.69 to $7.00. The weighted-average remaining
contractual life of those options is 7 years. The weighted-average fair value of
options granted during the years ended March 31, 1998, 1997, and 1996 is $1.69,
$1.94, and $3.64, respectively.
The Company has 28,470 warrants outstanding that were issued to the underwriters
of the initial public offering to purchase shares of the Company's common stock.
These shares constitute 4% of the total shares sold in the offering. The
warrants represent the right to purchase the Company's common stock for $9.00
per share. The warrants expire November 25, 1998.
Pro Forma Disclosures Required by Statement 123
To determine the pro forma data required by Statement 123 for 1998 and 1997, the
Company used the Black-Scholes option pricing model to measure the fair value of
options at the date of grant. Options valued using the Black-Scholes option
pricing model assumed the following for 1998 and 1997, respectively: risk-free
interest rate of 5.5% and 6.8%; dividend yields of 0%; volatility factors of .78
and .55; and a weighted-average expected life of the options of 10 years.
The Black-Scholes option pricing model and other models were developed for use
in estimating the fair value of traded options which have no vesting
restrictions and are fully transferable. In addition, option valuation models
require the input of highly subjective assumptions, including the expected stock
price volatility. Because the Company's stock options have characteristics
significantly different from those of traded options and because changes in the
subjective input assumptions can materially affect the fair value estimate, in
management's opinion, the existing models do not necessarily provide a reliable
single measure of the fair value of its stock options.
For purposes of pro forma disclosures, the estimated fair value of the options
is amortized to expense over the options' vesting period. The Company's pro
forma net loss is $423,870 and $2,174,905 for the years ended March 31, 1998,
and 1997, respectively. Pro forma loss per common share and assuming dilution is
$0.17 and $0.89 for the years ended March 31, 1998, and 1997, respectively. The
effect of compensation expense from stock options on 1998 pro forma net loss
reflects the vesting of 1995, 1996, and 1997 awards which, depending on the
individual grant, vest over one year, two years, three years, or four years. Pro
forma net loss in 1998 reflects additional vesting of 1997 awards and the first
year of vesting of 1998 awards. Because most of the options granted vest over a
four-year period, not until 2002 is the full effect of recognizing compensation
expense for stock options representative for the possible effects on pro forma
net income for future years.
13. Industry Segments
The Company operations are classified into two primary business segments: PC
Connectivity and Information Technology ("IT") Services. The PC Connectivity
segment involves AS/400 Connectivity products that allow PC users to access
applications and data on IBM midrange computers. The IT Services segment
provides customers with a broad selection of computer and software products and
services, as well as, computer and network system design and integration,
training and support, Internet commerce programming, help-desk, and desktop
lifecycle management.
F-19
<PAGE>
Micro-Integration Corp. and Subsidiaries
Notes to Consolidated Financial Statements
13. Industry Segments (Continued)
Summarized financial information by business segment for the years ended March
31, 1998, 1997, and 1996 is as follows:
<TABLE>
<CAPTION>
Year Ended March 31
1998 1997 1996
------------ ------------ ------------
<S> <C> <C> <C>
Net Sales and Other Income
PC Connectivity $ 3,200,593 $ 4,518,589 $ 5,629,238
Information Technology Services 9,188,557 3,673,842 --
------------ ------------ ------------
United States 12,389,150 8,192,431 5,629,238
Eliminations - transfers (37,018) 160,861 243,364
------------ ------------ ------------
12,352,132 8,353,292 5,872,602
Europe
Unaffiliated customers -- 1,467,430 2,154,778
Eliminations - transfers -- (160,861) (243,364)
------------ ------------ ------------
$ 12,352,132 $ 9,659,861 $ 7,784,016
============ ============ ============
Operating Income (Loss)
PC Connectivity $ (18,597) $ (1,466,961) $ (326,896)
Information Technology Services (545,993) 60,836 --
------------ ------------ ------------
United States (564,590) (1,406,125) (326,896)
Europe -- (381,639) (465,785)
------------ ------------ ------------
$ (564,590) $ (1,787,764) $ (792,681)
============ ============ ============
Identifiable Assets
PC Connectivity $ 3,360,338 $ 4,287,873 $ 5,458,587
Information Technology Services 1,915,120 1,943,458 --
------------ ------------ ------------
United States 5,275,458 6,231,331 5,458,587
Europe -- -- 1,156,238
------------ ------------ ------------
$ 5,275,458 $ 6,231,331 $ 6,614,825
============ ============ ============
</TABLE>
During the fiscal year ended March 31, 1998, the Company operated in the United
States, through its headquarters in Maryland, two wholly-owned subsidiaries in
Ohio and one wholly-owned subsidiary in Pennsylvania. Through March 31, 1997,
the Company also operated in Europe through its wholly-owned subsidiary in the
United Kingdom, and in Brussels, Belgium, through its sales branch.
The Company does not currently have sales to an individual customer in excess of
10% of its consolidated revenues. Intersegment sales are accounted for at cost.
Operating profit is total revenue less cost of goods sold, operating expenses
(including depreciation and amortization), excluding interest and corporate
expenses. Identifiable assets by geographic location include assets directly
identified with those operations.
14. Segment Reporting
F-20
<PAGE>
Micro-Integration Corp. and Subsidiaries
Notes to Consolidated Financial Statements
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standard No. 131, Disclosure about Segments of an
Enterprise and Related Information ("Statement 131"). Statement 131 supercedes
Financial Accounting Standards Board Statement No. 14, Financial Reporting for
Segments of a Business Enterprise ("Statement 14") and establishes new standards
for the way that public business enterprises report selected information about
operating segments in annual and interim financial statements. It also
establishes standards for the related disclosure about products and services,
geographical areas and major customers. Statement 131 is effective for financial
statements for fiscal years beginning after December 15, 1997.
The Company will adopt the provisions of the new standard in fiscal 1999. Under
Statement 14, which is effective until the Company adopts Statement 131, the
Company is considered to operate predominately in two segments. (See Note 13 for
details)
15. Subsequent Event
Effective April 1, 1998, the Company completed the acquisition of all of the
outstanding stock of CompSource, Inc. in exchange for 350,000 shares of common
stock valued at $612,500. CompSource, Inc. is an eastern- and
central-Pennsylvania area business networking and software solutions provider.
The acquisition was accounted for using the purchase method of accounting.
Goodwill of $522,000 related to the acquisition is to be amortized over its
estimated useful life of 15 years.
16. Contingent Liabilities
In February 1998, a defamation lawsuit was filed against the Company and certain
other parties in the U.S. District Court of Maryland by the Company's former
chief financial officer. The plaintiff seeks in excess of $1.0 million for
compensatory damages and in excess of $1.0 million in punitive damages. The
Company believes it has meritorious defenses against the claim and intends to
defend the claim vigorously. The Company believes that the disposition of
matters pending or asserted will not have a materially adverse effect on the
financial position of the Company.
17. Employee Benefit Plans
In 1988, the Company initiated an Employee Stock Ownership Plan ("ESOP"), which
covers all eligible employees. Contributions are made at the Company's
discretion and approval by the Board of Directors after consideration of the
Company's results of operations and other factors. The Company made no
contributions in the years ended March 31, 1998, 1997, and 1996, respectively.
The Company also has an Employee Savings 401(k) Plan, which covers all eligible
employees. Under this plan, employees may contribute to their accounts up to 10%
of their compensation, subject to the rules of Section 401(k) of the Internal
Revenue Code. The Company, at its discretion, matches up to 50% of the
employee's contribution. The Company made no contributions to the plan during
the years ended March 31, 1998, 1997, and 1996, respectively.
18. Quarterly Data (unaudited)
F-21
<PAGE>
Micro-Integration Corp. and Subsidiaries
Notes to Consolidated Financial Statements
The following is a summary of the quarterly results of operations for the years
ended March 31, 1998, 1997, and 1996.
<TABLE>
<CAPTION>
Quarter Ended
June 30 Sept 30 Dec 31 Mar 31
------- ------- ------- -------
(In thousands, except per share data)
<S> <C> <C> <C> <C>
Fiscal year ended March 31, 1998:
Net sales $ 3,359 $ 3,002 $ 2,959 $ 3,032
Cost of sales $ 2,244 $ 1,863 $ 1,796 $ 2,517
Net income (loss) $ 4 $ 112 $ 86 $ (623)
======= ======= ======= =======
Basic and diluted income (loss) per common share $ -- $ 0.05 $ 0.03 $ (0.25)
======= ======= ======= =======
Fiscal year ended March 31, 1997:
Net sales $ 1,575 $ 1,560 $ 2,517 $ 4,008
Cost of sales $ 481 $ 648 $ 1,378 $ 2,550
Net loss before loss on sale of subsidiary $ (179) $ (396) $ (244) $(1,187)
Loss on sale of subsidiary -- -- -- (173)
------- ------- ------- -------
Net loss, as originally reported (179) (396) (244) (1,360)
Adjustment for improperly capitalized expense (1) (80) -- -- 80
------- ------- ------- -------
Net loss $ (259) $ (396) $ (244) $(1,280)
======= ======= ======= =======
Net loss per share before loss on sale of subsidiary $ (0.07) $ (0.17) $ (0.10) $ (0.48)
Net loss per share on sale of subsidiary -- -- -- (0.07)
------- ------- ------- -------
Net loss per share, as originally reported (0.07) (0.17) (0.10) (0.55)
Adjustment, per share, for improperly capitalized expense (1) (0.03) -- -- 0.03
------- ------- ------- -------
Basic and diluted loss per common share $ (0.11) $ (0.17) $ (0.10) $ (0.51)
======= ======= ======= =======
Fiscal year ended March 31, 1996:
Net sales $ 2,207 $ 1,972 $ 1,762 $ 1,843
Cost of sales $ 876 $ 537 $ 442 $ 617
Net (loss) income $ (712) $ (111) $ 15 $ 7
======= ======= ======= =======
Basic and diluted income (loss) per common share $ (0.30) $ (0.04) $ 0.01 $ --
======= ======= ======= =======
</TABLE>
(1) The Company in the fourth quarter of 1997 determined that certain selling,
general, and administrative expenses totaling $80,000 had been improperly
capitalized. The Company corrected the error in its fourth quarter
financial statements.
F-22
<PAGE>
Micro-Integration Corp. and Subsidiaries
Schedule II - Valuation and Qualifying Accounts
<TABLE>
<CAPTION>
Charged to Charged to
Beginning Costs and Other Deductions Ending
Classification Balance Expenses Accounts (1) Balance
- -------------- --------- ----------- ----------- ---------- -------
<S> <C> <C> <C> <C> <C>
Year Ended March 31, 1998:
Deducted from asset
accounts:
Allowance for doubtful
accounts $ 76,324 112,656 -- 35,603 $153,377
-------- -------- ------- -------- --------
Total $ 76,324 112,656 -- 35,603 $153,377
======== ======== ======= ======== ========
Year Ended March 31, 1997:
Deducted from asset
accounts:
Allowance for doubtful
accounts $145,616 122,391 -- 191,683 $ 76,324
-------- -------- ------- -------- --------
Total $145,616 122,391 -- 191,683 $ 76,324
======== ======== ======= ======== ========
Year Ended March 31, 1996:
Deducted from asset
accounts:
Allowance for doubtful
accounts $ 34,669 152,339 -- 41,392 $145,616
-------- -------- ------- -------- --------
Total $ 34,669 152,339 -- 41,392 $145,616
======== ======== ======= ======== ========
</TABLE>
(1) Uncollectible accounts written-off, net of recoveries.
F-23
<PAGE>
Exhibit Index
Exhibit Description of Document
Number -----------------------
------
3(ii).1 Amended and Restated Bylaws of Micro-Integration Corp., filed as
Exhibit 3(ii).1 to the Company's Registration Statement on Form SB-2,
Registration No. 33-72752, is hereby incorporated by reference.
4.1 Article IV of the Restated Certificate of Incorporation of
Micro-Integration Corp., filed as Exhibit 4.1 to the Company's
Registration Statement on Form SB-2, Registration No. 33-72752, is
hereby incorporated by reference.
4.2 Form of Common Stock Certificate, filed as Exhibit 4.2 to Amendment No.
1 to the Company's Registration Statement on Form SB-2, Registration
No. 33-72752, is hereby incorporated by reference.
4.3 Form of Underwriter's Warrant, filed as Exhibit 4.3 to Amendment No. 1
to the Company's Registration Statement on Form SB-2, Registration No.
33-72752, is hereby incorporated by reference.
10.1 Micro-Integration Corp. Employee Savings and Stock Ownership Plan,
filed as Exhibit 10.1 to the Company's Registration Statement on Form
SB-2, Registration No. 33-72752, is hereby incorporated by reference.
10.2 1994 Stock Plan of Micro-Integration Corp., filed as Exhibit 10.2 to
the Company's Registration Statement on Form SB-2, Registration No.
33-72752, is hereby incorporated by reference.
10.3 Agreement between Micro-Integration Corp., Micro-Integration Europe
n.v. and Gabor Weiner entered into September 28, 1990, filed as Exhibit
10.3 to the Company's Registration Statement on Form SB-2, Registration
No. 33-72752, is hereby incorporated by reference.
10.4 Agreement between Micro-Integration Corp. and Gabor Weiner entered into
on September 28, 1990, filed as Exhibit 10.4 to the Company's
Registration Statement on Form SB-2, Registration No. 33-72752, is
hereby incorporated by reference.
10.5 Amendment to Agreements between Micro-Integration Corp.,
Micro-Integration Europe n.v., and Gabor Weiner, entered into on March
21, 1994, filed as Exhibit 10.5 to the Company's Registration Statement
on Form SB-2, Registration No. 33-72752, is hereby incorporated by
reference.
10.6 Contract of Sale made on August 23, 1995, between CCSAC Federal Credit
Union and Micro-Integration Corp., filed as Exhibit 10.6 to the
Company's Registration Statement on Form SB-2, Registration No.
33-72752, is hereby incorporated by reference.
10.7 Agreement made as of May 20, 1993, between Micro-Integration Corp. and
Lashley Construction, Inc., filed as Exhibit 10.7 to the Company's
Registration Statement on Form SB-2, Registration No. 33-72752, is
hereby incorporated by reference.
10.8 Contract of sale made on September 16, 1992, between Micro-Integration
Corp., Cumberland Allegany County Industrial Foundation and the Board
of County Commissioners of Allegany County, Maryland, filed as Exhibit
10.8 to the Company's Registration Statement on Form SB-2, Registration
No. 33-72752, is
<PAGE>
Exhibit Index
hereby incorporated by reference.
10.9 Promissory Note dated September 24, 1993, payable to Micro-Integration
Corp. to the Board of Commissioners of Allegany County, Maryland or
order, filed as Exhibit 10.9 to the Company's Registration Statement on
Form SB-2, Registration No. 33-72752, is hereby incorporated by
reference.
10.10 Promissory Note dated September 24, 1993, payable by Micro-Integration
Corp. to the order of the Board of County Commissioners of Allegany
County, Maryland, filed as Exhibit 10.10 to the Company's Registration
Statement on Form SB-2, Registration No. 33-72752, is hereby
incorporated by reference.
10.11 Revolving Note Agreement dated May 17, 1993, by and between
Micro-Integration Corp. and The First National Bank of Maryland, filed
as Exhibit 10.11 to the Company's Registration Statement on Form SB-2,
Registration No. 33-72752, is hereby incorporated by reference.
10.12 Business Promissory Note dated September 22, 1993, payable by
Micro-Integration Corp. to the order of The First National Bank of
Maryland, filed as Exhibit 10.12 to the Company's Registration
Statement on Form SB-2, Registration No. 33-72752, is hereby
incorporated by reference.
10.13 Agreement and Plan of Reorganization made in April 1986 by and among
Micro-Integration Corp., Micro-Integration Inc., John A. Parsons, i.e.
Systems, Inc. and the Stockholders named therein, filed as Exhibit
10.13 to the Company's Registration Statement on Form SB-2,
Registration No. 33-72752, is hereby incorporated by reference.
10.14 Indemnification Agreements between Micro-Integration Corp. and its
directors and officers, filed as Exhibit 10.14 to the Company's Form
10-KSB for the year ended March 31, 1996, is hereby incorporated by
reference.
21.1 Subsidiaries of Micro-Integration Corp.
23.1 Consent of Independent Accountants.
Exhibit 21.1 - Subsidiaries of Micro-Integration Corp.
Name Jurisdiction
---- ------------
Computer Site, Inc. Ohio
Computer One of Ohio, Inc. Ohio
SuiteOne Computer Services, Inc. Pennsylvania
Exhibit 23.1 - Consent of Independent Auditors
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> MAR-31-1998
<PERIOD-END> MAR-31-1998
<CASH> 176,964
<SECURITIES> 100,000
<RECEIVABLES> 1,845,689
<ALLOWANCES> 153,377
<INVENTORY> 551,565
<CURRENT-ASSETS> 2,700,450
<PP&E> 3,134,508
<DEPRECIATION> 1,238,550
<TOTAL-ASSETS> 5,320,044
<CURRENT-LIABILITIES> 1,541,871
<BONDS> 0
0
0
<COMMON> 26,673
<OTHER-SE> 2,588,513
<TOTAL-LIABILITY-AND-EQUITY> 5,320,044
<SALES> 12,352,132
<TOTAL-REVENUES> 12,352,132
<CGS> 8,008,558
<TOTAL-COSTS> 8,008,558
<OTHER-EXPENSES> 4,383,213
<LOSS-PROVISION> 112,656
<INTEREST-EXPENSE> 141,435
<INCOME-PRETAX> (420,532)
<INCOME-TAX> 456
<INCOME-CONTINUING> (420,988)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (420,988)
<EPS-PRIMARY> (0.17)
<EPS-DILUTED> (0.17)
</TABLE>
