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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-K
( X ) ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 (FEE REQUIRED) FOR THE FISCAL YEAR ENDED DECEMBER
31, 1997
( ) TRANSITION REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File Number: 33-89476
COMMONWEALTH INCOME & GROWTH FUND II
(Exact name of registrant as specified in its charter)
Pennsylvania 23-2795120
(State or other jurisdiction of (I.R.S. Employer identification No.)
incorporation or organization)
1160 West Swedesford Road
Berwyn, Pennsylvania 19312
(Address, including zip code, of principal executive offices)
(610) 647-6800
(Registrant's telephone number including area code)
Indicate by check mark whether the registrant (i) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months, and (ii) has been subject to such filing requirements
for the past 90 days:
YES [ X ] NO [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K.
DOCUMENTS INCORPORATED BY REFERENCE
(Specific sections incorporated are identified under applicable items herein)
Certain exhibits to the Company's Registration Statement on Form S-1
(File No. 33-89476) are incorporated by reference as Exhibits in Part IV of this
Report.
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PART I
ITEM 1: BUSINESS
GENERAL
Commonwealth Income and Growth Fund II (the "Partnership") was formed on
January 13, 1995, under the Pennsylvania Revised Uniform Limited Partnership
Act. The Partnership began offering $15,000,000 of Units of Limited
Partnership ("Units") to the public on May 12, 1995 (the "Offerings"). On
September 22, 1995, $2,521,380 in subscriptions from investors were released
by the escrow agent and 126,118 Units were admitted as Limited Partners of
the Partnership. The Partnership terminated its offering of Units on May 12,
1997, with 461,817 Units ($9,235,185) admitted as Limited Partners of the
Partnership.
See "The Glossary" below for the definition of capitalized terms not
otherwise defined in the text of this report.
PRINCIPAL INVESTMENT OBJECTIVES
The Partnership was formed for the purpose of acquiring various types of
Equipment, including computer peripheral and other similar capital equipment.
The Partnership utilized the net proceeds of the Offering to purchase IBM and
IBM compatible computer peripheral and other similar capital equipment. The
Partnership utilizes Retained Proceeds and debt financing (not to exceed 30% of
the aggregate cost of the Equipment owned or subject to Conditional Sales
Contract by the Partnership at the time the debt is incurred) to purchase
additional Equipment. The Partnership acquires Equipment which is subject to
lease principally to U.S. corporations and other institutions pursuant
predominantly to Operating Leases. The Partnership retains the flexibility to
enter into Full Payout Net Leases and Conditional Sales Contracts, but has not
done so.
The Partnership's principal investment objectives are to;
(a) acquire, lease and sell Equipment to generate revenues from
operations sufficient to provide quarterly cash distributions to
Limited Partners;
(b) preserve and protect Limited Partners' capital;
(c) use a portion of Cash Flow and Net Disposition Proceeds derived
from the sale, refinancing or other disposition of Equipment to
purchase additional Equipment; and
(d) refinance, sell or otherwise dispose of Equipment in a manner that
will maximize the proceeds to the Partnership.
THERE CAN BE NO ASSURANCE THAT ANY OF THESE OBJECTIVES WILL BE ATTAINED.
Limited Partners do not have the right to vote on or otherwise approve
or disapprove any particular investment to be made by the Partnership.
Although the Partnership has acquired predominately new Equipment, the
Partnership may purchase used Equipment. Generally, Equipment is acquired from
manufacturers, distributors, leasing companies, agents, owner-users,
owner-lessors, and other suppliers upon terms that vary depending upon the
Equipment and supplier involved. Manufacturers and distributors usually furnish
a limited warranty against defects in material and workmanship and some purchase
agreements for Equipment provide for service and replacement of parts during a
limited period. Equipment purchases are also made through lease brokers and on
an ad hoc basis to meet the needs of a particular lessee.
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As of December 31, 1997, all Equipment purchased by the Partnership is
subject to an Operating Lease or an Operating Lease was entered into with a
third party when the Partnership acquired an item of Equipment. The Partnership
may also engage in sale/leaseback transactions, pursuant to which the
Partnership would purchase Equipment from companies that would then immediately
lease the Equipment from the Partnership. The Partnership may also purchase
Equipment which is leased under Full Payout Net Leases or sold under Conditional
Sales Contracts at the time of acquisition or the Partnership may enter into a
Full Payout Net Lease or Conditional Sales Contract with a third party when the
Partnership acquires an item of Equipment.
The Partnership may enter into arrangements with one or more manufacturers
pursuant to which the Partnership purchases from such manufacturers Equipment
which has previously been leased directly by the manufacturer to third parties
("vendor leasing agreements"). The Partnership and manufacturers may agree to
nonrecourse loans to the Partnership from the manufacturers to finance the
acquisition of Equipment secured by the Equipment and the receivables due to the
manufacturers from users of such Equipment. It is expected that the
manufacturers of Equipment will provide maintenance, remarketing and other
services for the Equipment subject to such agreements. As of December 31, 1997,
the Partnership has not entered into any such agreements.
The General Partner has the discretion consistent with its fiduciary duty
to change the investment objectives of the Partnership if it determines that
such a change is in the best interest of the Limited Partners and so long as
such a change is consistent with the Partnership Agreement. The General Partner
will notify the Limited Partners if it makes such a determination to change the
Partnership's investment objectives.
TYPES OF EQUIPMENT
Computer Peripheral Equipment. Computer peripheral equipment consists of
devices used to convey information into and out of a central processing unit (or
"mainframe") of a computer system, such as tape drives, disk drives, tape
controllers, disk controllers, printers, terminals and related control units,
all of which are in some way related to the process of storing, retrieving, and
processing information by computer.
The Partnership acquires primarily IBM manufactured or IBM compatible
equipment. The General Partner believes that dealing in IBM or IBM compatible
equipment is particularly advantageous because of the large IBM customer base,
policy of supporting users with software and maintenance services and the large
amount of IBM and IBM compatible equipment in the marketplace.
Computer technology has developed rapidly in recent years and is
expected to continue to do so. Technological advances have permitted
continued reductions in the cost of computer processing capacity, thereby
permitting applications not economically feasible a few years ago. Much of
the older IBM and IBM compatible computer peripheral equipment has not been
retired from service, because software is generally interchangeable between
older and newer equipment, and older equipment is capable of performing many
of the same functions as newer equipment. The General Partner believes that
historically values of peripheral equipment have been affected less
dramatically by changes in technology than have the values of central
processing units. An equipment user who upgrades to a more advanced central
processor generally can continue to use his existing peripheral equipment.
Peripheral equipment nevertheless is subject to declines in value as new,
improved models are developed and become available. Technological advances
and other factors, including year 2000 issues discussed below in Management
Discussion and Analysis, have at times caused dramatic reduction in the
market prices of older models of IBM and IBM compatible computer peripheral
equipment from the prices at which they were originally introduced.
Other Equipment-Restrictions. The Partnership acquires computer peripheral
equipment, such as tape drives, disk drives, tape controllers, disk controllers,
printers, terminals and related control units, all of which are in some way
related to the process of storing, retrieving and processing information by
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computer. The General Partner is also authorized, but does not presently intend,
to cause the Partnership to invest in non IBM compatible computer peripheral,
data processing, telecommunication or medical technology equipment. The
Partnership may not invest in any of such other types of Equipment (i) to the
extent that the purchase price of such Equipment, together with the aggregate
Purchase Price of all such other types of Equipment then owned by the
Partnership, is in excess of 25% of the total cost of all of the assets of the
Partnership at the time of the Partnership's commitment to invest therein and
(ii) unless the General Partner determines that such purchase is in the best
economic interest of the Partnership at the time of the purchase and, in the
case of non-IBM compatible peripheral Equipment, that such Equipment is
comparable in quality to similar IBM or IBM compatible Equipment. There can be
no assurance that any Equipment investments can be found which meet this
standard. Accordingly, there can be no assurance that investments of this type
will be made by the Partnership.
DIVERSIFICATION
Diversification is generally desirable to minimize the effects of changes
in specific industries, local economic conditions or similar risks. However, the
extent of the Partnership's diversification, in the aggregate and within each
category of Equipment, depends in part upon the financing which can be assumed
by the Partnership or borrowed from third parties on satisfactory terms. The
Partnership's policy not to borrow on a recourse basis will further limit its
financing options. Diversification also depends on the availability of various
types of Equipment. As of December 31, 1997, the Partnership has acquired a
diversified Equipment portfolio which it has leased to 27 different companies
located throughout the United States. Approximately 28% of the Equipment
acquired by the Partnership consists of PrintersApproximately another 26% of the
Equipment acquired by the Partnership consists of Workstations. Approximately
22% of the Equipment acquired by the Partnership consists of tape storage.
Approximately 11% of the Equipment acquired by the Partnership consists of disk
arrays. Approximately 7% of the Equipment acquired by the Partnership
consists of escon drivers. Approximately 6% of the Equipment acquired by the
Partnership consists of communication controllers. During the operational
stage of the Partnership, the Partnership may not at any one point in time to
lease (or sell pursuant to a Conditional Sales Contract) more than 25% of the
Equipment to a single Person or Affiliated group of Persons.
DESCRIPTION OF LEASES
The Partnership to date has purchased, and in the future intends to
continue to purchase only Equipment that is subject to a lease or for which a
lease or similar agreement will be entered into contemporaneously with the
consummation of the Partnership's acquisition of the Equipment. The General
Partner to date has leased and in the future intends to lease most of the
Equipment purchased by the Partnership to third parties pursuant to Operating
Leases. Operating Leases are relatively short-term (12 to 48 month) leases under
which the aggregate noncancellable rental payments during the original term of
the lease are not sufficient to permit the lessor to recover the purchase price
of the subject Equipment. The Equipment may also be leased pursuant to Full
Payout Net Leases. Full Payout Net Leases are leases under which the aggregate
noncancellable rental payments during the original term of the lease are at
least sufficient to recover the purchase price of the subject Equipment. It is
anticipated that the Partnership will enter into few, if any, Full Payout net
Leases. The General Partner may also enter into Conditional Sales Contracts for
Equipment. A Conditional Sales Contract generally provides that the
noncancellable payments to the seller over the term of the contract are
sufficient to recover the investment in such Equipment and to provide a return
on such investment. Under a Conditional Sales Contract, the seller reserves
title to, and retains a security interest in, the Equipment until the Purchase
Price of the Equipment is paid. As of December 31, 1997, the Partnership has not
entered into any Full Payout Net Leases or Conditional Sales Contracts for
Equipment and does not presently intend to do so.
In general, the terms of the Partnership's leases, whether the Equipment is
leased pursuant to an Operating lease or a Full Payout Net Lease, depend upon a
variety of factors, including: the desirability of each type of lease from both
an investment and a tax point of view; the relative demand among lessees for
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Operating or Full Payout Net Leases; the type and use of Equipment and its
anticipated residual value; the business of the lessee and its credit rating;
the availability and cost of financing; regulatory considerations; the
accounting treatment of the lease sought by the lessee or the Partnership; and
competitive factors.
An Operating Lease generally represents a greater risk to the Partnership
than a Full Payout Net Lease, because in order to recover the purchase price of
the subject Equipment and earn a return on such investment, it is necessary to
renew or extend the Operating Lease, lease the Equipment to a third party at the
end of the original lease term, or sell the Equipment. On the other hand, the
term of an Operating Lease is generally much shorter than the term of a Full
Payout Net Lease, and the lessor is thus afforded an opportunity under an
Operating Lease to re-lease or sell the subject Equipment at an earlier stage of
the Equipment's life cycle than under a Full Payout Net Lease. Also, the annual
rental payments received under an Operating Lease are ordinarily higher than
those received under a Full Payout Net Lease.
The Partnership's policy is to generally enter into "triple net leases" (or
the equivalent, in the case of a Conditional Sales Contract) which typically
provide that the lessee or some other party bear the risk of physical loss of
the Equipment; pay taxes relating to the lease or use of the Equipment; maintain
the Equipment; indemnify the Partnership-lessor against any liability suffered
by the Partnership as the result of any act or omission of the lessee or its
agents; maintain casualty insurance in an amount equal to the greater of the
full value of the Equipment and a specified amount set forth in the lease; and
maintain liability insurance naming the Partnership as an additional insured
with a minimum coverage which the General Partner deems appropriate. In
addition, the Partnership may purchase "umbrella" insurance policies to cover
excess liability and casualty losses, to the extent deemed practicable and
advisable by the General Partner. As of December 31, 1997, all leases that have
been entered into are "triple net leases".
The General Partner has not established any standards for lessees to which
it will lease Equipment and, as a result, there is not an investment restriction
prohibiting the Partnership from doing business with any lessees. However, a
credit analysis of all potential lessees is undertaken by the General Partner to
determine the lessee's ability to make payments under the proposed lease. The
General Partner may refuse to enter into an agreement with a potential lessee
based on the outcome of the credit analysis.
The terms and conditions of the Partnership's leases, or Conditional Sales
Contracts, are each determined by negotiation and may impose substantial
obligations upon the Partnership. Where the Partnership assumes maintenance or
service obligations, the General Partner generally causes the Partnership to
enter into separate maintenance or service agreements with manufacturers or
certified maintenance organizations to provide such services. Such agreements
generally require annual or more frequent adjustment of service fees. As of
December 31, 1997, the Partnership has not entered into any such agreements.
BORROWING POLICIES
The General Partner, at its discretion, may cause the Partnership to incur
debt in the maximum aggregate amount of 30% of the aggregate cost of the
Equipment owned, or subject to Conditional Sales Contract (except that the
Partnership may not incur any indebtedness to acquire Equipment until the net
proceeds of the Offering are fully invested, or committed to investment, in
Equipment). The Partnership will incur only non-recourse debt which is secured
by Equipment and lease income therefrom. Such leveraging permits the Partnership
to increase the aggregate amount of its depreciable assets, and, as a result,
potentially increases both its lease revenues and its federal income tax
deductions above those levels which would be achieved without leveraging. There
is no limit on the amount of debt that may be incurred in connection with the
acquisition of any single item of Equipment. Any debt incurred is fully
amortized over the term of the initial lease or Conditional Sales Contract to
which the Equipment securing the debt is subject. The precise amount borrowed by
the Partnership depends on a number of factors, including the types of Equipment
acquired by the Partnership; the creditworthiness of the lessee; the
availability of suitable financing; and prevailing interest rates. The
Partnership is flexible in the degree of leverage it employs, within the
permissible limit. There can be no assurance that credit will be available to
the
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Partnership in the amount or at the time desired or on terms considered
reasonable by the General Partner. As of December 31, 1997, the aggregate
nonrecourse debt outstanding of $1,954,000 was 17% of the aggregate cost of the
Equipment owned.
The Partnership may continue to purchase some items of Equipment without
leverage. If the Partnership may purchases an item of Equipment without
leverage and thereafter suitable financing becomes available, it may then
obtain the financing, secure the financing with the purchased Equipment to
the extent practicable and invest any proceeds from such financing in
additional items of Equipment, or it may distribute some or all of such
proceeds to the Limited Partners. Any such later financing will be on terms
consistent with the terms applicable to borrowings generally. As of December
31, 1997, the Partnership has not exercised this option.
After the net proceeds of the offering are fully invested in Equipment, the
General Partner plans to continue to cause the Partnership to borrow funds,
to the fullest extent practicable, at interest rates fixed at the time of
borrowing.. However, the Partnership may borrow funds at rates which vary
with the "prime" or "base" rate. If lease revenues were fixed, a rise in the
"prime" or "base" rate would increase borrowing costs and reduce the amount
of the Partnership's income and cash available for distribution. Therefore,
the General Partner is permitted to borrow funds to purchase Equipment at
fluctuating rates only if the lease for such Equipment provides for
fluctuating rental payments calculated on a similar basis.
Any additional debt incurred by the Partnership must be nonrecourse.
Nonrecourse debt, in the context of the business to be conducted by the
Partnership, means that the lender providing the funds can look for security
only to the Equipment pledged as security and the proceeds derived from leasing
or selling such Equipment. Neither the Partnership nor any Partner (including
the General Partner) would be liable for repayment of any nonrecourse debt.
Loan agreements may also require that the Partnership maintain certain
reserves or compensating balances and may impose other obligations upon the
Partnership. Moreover, since a significant portion of the Partnership's revenues
from the leasing of Equipment will be reserved for repayment of debt, the use of
financing reduces the cash which might otherwise be available for distributions
until the debt has been repaid and may reduce the Partnership's Cash Flow over a
substantial portion of the Partnership's operating life. As of December 31,
1997, no such agreements existed.
The General Partner and any of its Affiliates may, but are not required to,
make loans to the Partnership on a short-term basis. If the General Partner or
any of its Affiliates makes such a short-term loan to the Partnership, the
General Partner of Affiliate may not charge interest at a rate greater that the
interest rate charged by unrelated lenders on comparable loans for the same
purpose in the same locality. In no event is the Partnership required to pay
interest on any such loan at an annual rate greater than three percent over the
"prime rate' from time to time announced by PNC Bank, Philadelphia, Pennsylvania
("PNC Bank"). All payments of principal and interest on any financing provided
by the General Partner or any of its affiliates are due and payable by the
Partnership within 12 months after the date of the loan.
REFINANCING POLICIES
Subject to the limitations set forth in "Borrowing Policies" above, the
Partnership may refinance its debt from time to time. With respect to a
particular item of Equipment, the General Partner will take into consideration
such factors as the amount of appreciation in value, if any, to be realized, the
possible risks of continued ownership, and the anticipated advantages to be
obtained for the Partnership, as compared to selling such Equipment. As of
December 31, 1997, the Partnership has not refinanced any of its debt.
Refinancing, if achievable, may permit the Partnership to retain an item of
Equipment and at the same time to generate additional funds for reinvestment in
additional Equipment or for distribution to the Limited Partners.
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LIQUIDATION POLICIES
The General Partner intends to cause the Partnership to begin disposing of
its Equipment in approximately January 2006. Notwithstanding the Partnership's
objective to sell all of its assets and dissolve by December 31, 2006, the
General Partner may at any time cause the Partnership to dispose of all its
Equipment and, dissolve the Partnership upon the approval of Limited Partners
holding a Majority in Interest of Units.
Particular items of Equipment may be sold at any time if, in the judgment
of the General Partner, it is in the best interest of the Partnership to do so.
The determination of whether particular items of Partnership Equipment should be
sold or otherwise disposed of is made by the General Partner after consideration
of all relevant factors (including prevailing general economic conditions,
lessee demand, the General Partner's views of current and future market
conditions, the cash requirements of the Partnership, potential capital
appreciation, cash flow and federal income tax considerations), with a view
toward achieving the principal investment objectives of the Partnership. As
partial payment for Equipment sold, the Partnership may receive purchase money
obligations secured by liens on such Equipment. Subject to the General Partner's
discretion the Partnership may extend beyond December 31, 2006, if deemed
beneficial to the Partnership.
MANAGEMENT OF EQUIPMENT
Equipment management services for the Partnership's Equipment is provided
by the General Partner and its Affiliates and by persons employed by the General
Partner. Such services will consist of collection of income from the Equipment,
negotiation and review of leases, Conditional Sales Contracts and sales
agreements, releasing and leasing-related services, payment of operating
expenses, periodic physical inspections and market surveys, servicing
indebtedness secured by Equipment, general supervision of lessees to assure that
they are properly utilizing and operating Equipment, providing related services
with respect to Equipment, supervising, monitoring and reviewing services
performed by others in respect to Equipment and preparing monthly Equipment
operating statements and related reports.
COMPETITION
The equipment leasing industry is highly competitive. The Partnership
competes with leasing companies, equipment manufacturers and their affiliated
financing companies, distributors and entities similar to the Partnership
(including other programs sponsored by the General Partner), some of which have
greater financial resources than the Partnership and more experience in the
equipment leasing business than the General Partner. Other leasing companies and
equipment manufacturers, their affiliated financing companies and distributors
may be in a position to offer equipment to prospective lessees on financial
terms which are more favorable that those which the Partnership can offer. They
may also be in a position to offer trade-in privileges, software, maintenance
contracts and other services which the Partnership may not be able to offer.
Equipment manufacturers and distributors any offer to sell equipment on terms
(such as liberal financing terms and exchange privileges) which will afford
benefits to the purchaser similar to those obtained through leases. As a result
of the advantages which certain of its competitors may have, the Partnership may
find it necessary to lease its Equipment on a less favorable basis than certain
of its competitors.
The computer peripheral equipment industry is extremely competitive.
Competitive factors include pricing, technological innovation and methods of
financing. Certain manufacturer-lessors maintain advantages through patent
protection, where applicable, and through a policy that combines service and
hardware with payment accomplished through a single periodic charge.
The dominant firm in the computer marketplace is International Business
Machines Corporation, and its subsidiary IBM Credit Corporation is the dominant
force in the leasing of IBM equipment. Because of
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IBM's substantial resources and dominant position, revolutionary changes with
respect to computer systems, pricing, marketing practices, technological
innovation and the availability of new and attractive financing plans could
occur at any time. Significant action in any of these areas by IBM or IBM Credit
Corporation might materially adversely affect the Partnership's business or the
other manufacturers with whom the General Partner might negotiate purchase and
other agreements. Any adverse effect on these manufacturers could be reflected
in the overall return realized by the Partnership on equipment from those
manufacturers of from IBM.
Investments
As of March 16, 1998, the Partnership has purchased, or has made the
commitment to purchase, the following Equipment:
<TABLE>
<CAPTION>
EQUIPMENT LIST PURCHASE MONTHLY LEASE
LESSEE MFG DESCRIPTION PRICE PRICE RENT TERM
- ------ --- ----------- --------- --------- --------- ------
<S> <C> <C> <C> <C> <C> <C>
Bellsouth STK (1) 9200-XN3 3,445,720 787,196 17,467 36
Bellsouth STK (1) 9200-XN3 2,635,720 582,671 12,929 36
Southern Pacific IBM (325) 4230-5S3 1,183,975 990,357 24,160 36
Southern Pacific IBM (50) 4028-NS1 187,200 147,963 1,949 36
Chrysler STK (2) 9490-M34 686,158 490,110 12,001 48
Yamaha STK (1) 9490-M34 1,007,413 383,553 9,025 36
ADP IBM (1) 3490-A20 422,900 178,673 4,290 36
Household Intl. STK (3) 9490-M34 671,898 405,628 9,100 36
Timken DEC (1) Alpha server 259,507 204,781 5,308 36
Timken DEC (1) Alpha server 46,657 40,928 1,062 36
Johnson Control HP (13) HP9000-C110 441,415 304,718 7,961 36
Honda R&D SGI Onyx Infinite Reality 323,108 263,498 7,076 36
AT&T IBM (1) 3900 DW1/DW2 746,485 477,466 10,205 36
Federated IBM (38) 3130-020 909,910 600,000 15,162 34
Lucent SUN (1) E6000 server 642,452 461,207 12,042 36
Lucent upgrade SUN Upgrade to server 97,000 69,559 2,046 34
AT&T STK (9) 9490-M34 2,015,694 1,268,909 31,144 36
Avon IBM (75%) (8) 3900-OW1 2,002,710 1,542,485 37,058 36
Chrysler IBM (2) ES3000 1,146,500 778,454 22,844 24
Allied Signal HP (20)C180 workstations 838,339 362,615 11,775 24
Transamerica SUN (2) ES3000 servers 212,730 154,965 3,976 36
Computer Science Corp. SGI (50%)(141) workstations 2,055,893 822,455 21,031 36
Charles Schwab IBM (2) 9032-003 845,043 523,399 11,910 36
Charles Schwab IBM (20%)(6)9032-003 2,479,443 1,509,981 6,989 36
Equitable Life SUN (2) E3000 336,220 244,673 6,491 36
Chase SUN (3) E45D 358,562 249,561 8,386 24
Aetna STK (2) 9490-M34 535,932 193,442 4,395 36
</TABLE>
RESERVES
Because the Partnership's leases are on a "triple-net" basis, no permanent
reserve for maintenance and repairs will be established from the Offering
proceeds. However, the General Partner, in its sole discretion, may retain a
portion of the Cash Flow and Net Disposition Proceeds available to the
Partnership for maintenance, repairs and working capital. There are no
limitations on the amount of Cash Flow and Net Disposition Proceeds that may be
retained as reserves. Since no reserve will be established if available Cash
Flow of the Partnership is insufficient to cover the Partnership's operating
expenses and liabilities, it may be necessary for the Partnership to obtain
additional funds by refinancing its Equipment or borrowing.
General Restrictions
Under the Partnership Agreement, the Partnership is not permitted, among
other things, to:
(a) invest in junior trust deeds unless received in connection with the
sale of an item of
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Equipment in an aggregate amount which does not exceed 30% of the assets of the
Partnership on the date of the investment;
(b) invest in or underwrite the securities of other issuers;
(c) acquire any Equipment for Units;
(d) issue senior securities (except that the issuance to lenders of
notes or other evidences of indebtedness in connection with the financing or
refinancing of Equipment or the Partnership's business shall not be deemed to be
the issuance of senior securities);
(e) make loans to any Person, including the General Partner or any of
its Affiliates, except to the extent a Conditional Sales Contract constitutes a
loan;
(f) sell or lease any Equipment to, lease any Equipment from, or enter
into any sale-leaseback transactions with, the General Partner or any of its
Affiliates; or
(g) give the General Partner or any of its Affiliates an exclusive
right or employment to sell the Partnership's Equipment.
The General Partner has also agreed in the Partnership Agreement to use its
best efforts to assure that the Partnership shall not be deemed an "investment
company" as such term is detained in the Investment Company Act of 1940.
The General Partner and its Affiliates may engage in other activities,
whether or not competitive with the Partnership. The Partnership Agreement
provides, however, that neither the General Partner nor any of its Affiliates
may receive any rebate or "give up" in connection with the Partnership's
activities or participate in reciprocal business arrangements that circumvent
the restrictions in the Partnership Agreement against dealings with Affiliates.
EMPLOYEES
The Partnership has no employees and receives administrative and other
services from the General Partner which has 15 employees.
ITEM 2: PROPERTIES
NOT APPLICABLE
ITEM 3: LEGAL PROCEEDINGS
NOT APPLICABLE
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
NOT APPLICABLE
PART II
ITEM 5: MARKET FOR THE REGISTRANTS COMMON EQUITY AND
RELATED STOCKHOLDER MATTERS
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There is no public market for the Units nor is it anticipated that one will
develop. As of December 31, 1997, there were 501 holders of Units. The Units are
not listed on any exchange or permitted to trade on any over-the-counter market.
In addition, there are substantial restrictions on the transferability of Units.
GENERAL LIMITATIONS
Units cannot be transferred without the consent of the General Partner,
which may be withheld in its absolute discretion. The General Partner monitors
transfers of Units in an effort to ensure that all transfers are within certain
safe harbors promulgated by the IRS to furnish guidance regarding publicly
traded partnerships. These safe harbors limit the number of transfers that can
occur in any one year. The General Partner intends to cause the Partnership to
comply with the safe harbor that permits nonexempt transfers and redemptions of
Units of up to five percent of the total outstanding interest in the
Partnership's capital or profits in any one year.
REDEMPTION PROVISION
Upon the conclusion of the 30 month period following the termination of the
Offering, the Partnership may, at the sole discretion of the General Partner,
repurchase a number of the outstanding Units. After such 30 month period, on a
semi-annual basis, the General Partner, at its discretion, will establish an
amount for redemption, generally not to exceed two percent of the outstanding
Units per year, subject to the General Partner's good faith determination that
such redemptions will not (a) cause the Partnership to be taxed as a corporation
under Section 7704 of the Code or (b) impair the capital or operations of the
Partnership. (The Partnership may redeem Units in excess of the two percent
limitation if, in the good faith judgment of the General Partner, the conditions
imposed in the preceding sentence would remain satisfied.) The redemption price
for Units will be 105% of the selling Limited Partner's Adjusted Capital
Contributions attributable to the Units for sale. Following the determination of
the annual redemption amount, redemptions will occur on a semi-annual basis and
all requests for redemption, which must be made in writing, must be on file as
of the Record Date in which the redemption is to occur. The General Partner will
maintain a master list of requests for redemption with priority being given to
Units owned by estates, followed by IRAs and Qualified Plans. All other request
will be considered in the order received. Redemption requests made by or on
behalf of Limited Partners who are not affiliated with the General Partner or
its Affiliates will be given priority over those made by Limited Partners who
are affiliated with the General Partner or its Affiliates. All redemption
request will remain in effect until and unless canceled, in writing, by the
requesting Limited Partner(s).
The Partnership will accept redemption requests beginning 30 months
following the termination of the Offering. There will be no limitations on the
period of time that a redemption request may be pending prior to its being
granted. Limited Partners will not be required to hold their interest in the
Partnership for any specified period prior to their making a redemption request.
In order to make a redemption request, Limited Partners will be required to
advise the General Partner in writing of such request. Upon receipt of such
notification, the Partnership will provide detailed forms and instructions to
complete the request.
EXEMPT TRANSFERS
The following six categories of transfers are exempt transfers for purposes
of calculating the volume limitations imposed by the IRS and will generally be
permitted by the General Partner:
(1) transfers in which the basis of the Unit in the hands of the
transferee is determined, in whole or in part, by reference to its basis in the
hands of the transferor (for example, Units acquired by corporations in certain
reorganizations, contributions to capital, gifts of Units, Units contributed to
another partnership, and nonliquidating as well as liquidating distributions by
a parent partnership to its partners of interests in a subpartnership);
10
<PAGE>
(2) transfers at death;
(3) transfers between members of a family (which include brothers and
sisters, spouse, ancestors, and lineal descendants);
(4) transfers resulting from the issuance of Units by the Partnership
in exchange for cash, property, or services;
(5) transfers resulting from distributions from Qualified Plans; and
(6) any transfer by a Limited Partner in one or more transactions
during any 30-day period of Units representing in the aggregate more than five
percent of the total outstanding interests in capital or profits of the
Partnership.
ADDITIONAL RESTRICTIONS ON TRANSFER
Limited Partners who wish to transfer their Units to a new beneficial
owner are required to pay the Partnership up to $50 for each transfer to cover
the Partnership's cost of processing the transfer application and take such
other actions and execute such other documents as may be reasonably requested by
the General Partner. There is no charge for re-registration of a certificate in
the event of a marriage, divorce, death, or trust so long as the transfer is not
a result of a sale of the Units.
In addition, the following restrictions apply to each transfer: (i) no
transfer may be made if it would cause 25% or more of the outstanding Units to
be owned by benefit plans; and (ii) no transfer is permitted unless the
transferee obtains such governmental approvals as may reasonably be required by
the General Partner, including without limitation, the written consents of the
Pennsylvania Securities Commissioner and of any other state securities agency or
commission having jurisdiction over the transfer.
ALLOCATION AND DISTRIBUTION BETWEEN THE GENERAL PARTNER AND THE LIMITED PARTNERS
Cash distributions, if any, are made quarterly on December 31, March 31,
June 30, and September 30 of each year. Distributions are made 99% to the
Limited Partners and one percent to the General Partner until the Limited
Partners have received an amount equal to their Capital Contributions plus the
Priority Return; thereafter, cash distributions will be made 90% to Limited
Partners and 10% to the General Partner. Distributions made in connection with
the liquidation of the Partnership or a Partner's Units will be made in
accordance with the Partner's positive Capital Account balance as determined
under the Partnership Agreement and Treasury Regulations.
The Priority Return is calculated on the Limited Partners' Adjusted Capital
Contributions for their Units. The Adjusted Capital Contributions will initially
be equal to the amount paid by the Limited Partners for their Units. If
distributions at any time exceed the Priority Return, the Adjusted Capital
Contributions will be reduced by the excess, decreasing the base on which the
Priority Return is calculated.
If the proceeds resulting from the sale of any Equipment are reinvested in
Equipment, sufficient cash will be distributed to the Partners to pay the
additional federal income tax resulting from such sale for a Partner in a 39.6%
federal income tax bracket or, if lower, the maximum federal income tax rate in
effect for individuals for such taxable year.
Generally, the General Partner is allocated Net Profits equal to its cash
distributions (but not less than one percent of Net Profits) and the balance is
allocated to the Limited Partners. Net Profits arising from transactions in
connection with the termination or liquidation of the Partnership are allocated
in the following order: (1) First, to each Partner in an amount equal to the
negative amount, if any, of his Capital Account; (2) Second, an amount equal to
the excess of the proceeds which would be distributed to the
11
<PAGE>
Partners based on the Operating Distributions to the Partners over the aggregate
Capital Accounts of all the Partners, to the Partners in proportion to their
respective shares of such excess, and (3) Third, with respect to any remaining
Net Profits, to the Partners in the same proportions as if the distributions
were Operating Distributions. Net Losses, if any, are in all cases allocated 99%
to the Limited Partners and one percent to the General Partner.
Net Profits and Net Losses are computed without taking into account, in
each taxable year of the Partnership, any items of income, gain, loss or
deduction required to be specially allocated pursuant to Section 704(b) of the
Code and the Treasury Regulation promulgated thereunder. No Limited Partner is
required to contribute cash to the capital of the Partnership in order to
restore a closing Capital Account deficit, and the General Partner has only a
limited deficit restoration obligation under the Partnership Agreement.
Quarterly distributions in the following amounts were declared and paid to
the Limited Partners during 1997, 1996 and 1995.
<TABLE>
<CAPTION>
Quarter Ended 1997 1996 1995
- -------------- -------- ----------- --------
<S> <C> <C> <C>
March 31 $211,022 $108,647 --
June 30 226,789 137,297 --
September 30 230,980 164,131 --
December 31 230,836 191,890 $ 83,796
-------- ----------- --------
$899,627 $601,965 $ 83,796
-------- ----------- --------
-------- ----------- --------
</TABLE>
ALLOCATIONS AND DISTRIBUTIONS AMONG THE LIMITED PARTNERS
Except during the Offering Period, Cash Available for Distribution which is
allocable to the Limited Partners is apportioned among and distributed to them
solely with reference to the number of Units owned by each as of the Record Date
for each such distribution. During the Offering Period, Cash Available for
Distribution which is allocable to the Limited Partners was apportioned among
and distributed to them with reference to both (i) the number of Units owned by
each as of each Record Date and (ii) the number of days since the previous
Record Date (or, in the case of the first Record Date, the commencement of the
Offering Period) that the Limited Partner owned the Units.
After the Offering Period, Net Profits, Net Losses and Cash Available for
Distribution allocable to the Limited Partners is apportioned among them in
accordance with the number of Units owned by each. A different convention was
utilized during the Offering Period, whereby Net Profits and Net Losses
allocable to Limited Partners were apportioned among them in the ratio which the
product of the number of Units owned by a Limited Partner multiplied by the
number of days in which the Limited Partner owns such Units during the period
bears to the sum of such products for all Limited Partners.
In addition, where a Limited Partner transfers Units during a taxable year,
the Limited Partner may be allocated Net Profits for a period for which such
Limited Partner does not receive a corresponding cash distribution.
ITEM 6: SELECTED FINANCIAL DATA
The following table sets forth, in summary form, certain financial data for
the Partnership for the year ended December 31, 1997, 1996 and for the period
September 22, 1995 (commencement of operations) to December 31, 1995. This table
is qualified in its entirely by the more detailed information and financial
12
<PAGE>
statements presented elsewhere in this report, and should be read in conjunction
with "Management's Discussion and Analysis of Financial Condition and Results of
Operations" and the financial statements and related notes thereto included
herein.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 PERIOD ENDED
--------------------------- --------------
1997 1996 1995
----------- ------------ -------------
<S> <C> <C> <C>
Lease Income $ 2,444,661 $ 1,123,685 $ 95,538
Net Loss (61,837) (730) (12,065)
Cash Distributions 908,714 608,045 84,642
Net Loss per Unit (.16) (.02) (.09)
Cash Distribution per Unit 2.00 2.00 .55
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31
-------------------------------------------
1997 1996 1995
---------- ------------ ----------
<S> <C> <C> <C>
Total Assets $9,356,409 $6,614,654 $3,373,407
Notes Payable 1,954,120 -- --
</TABLE>
Net loss per unit is computed based upon net loss allocated to the
Limited Partners and the weighted average number of equivalent Units outstanding
during the year. Cash distribution per Unit is computed based upon distributions
allocated to the Limited Partners and the weighted average number of equivalent
Units outstanding during the year.
ITEM 7: MANAGEMENT DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
LIQUIDITY AND CAPITAL RESOURCES
The Partnership satisfied its minimum offering requirements and
commenced operations on September 22, 1995.
The Partnership's primary sources of capital for the years ended
December 31, 1997, 1996 and 1995, were from Partners' contributions of
$1,186,000, $4,371,000 and $3,679,000, and cash from operations of $1,957,000,
$949,000 and $56,000, respectively. The primary uses of cash for the years ended
December 31, 1997, 1996 and 1995, were for capital expenditures for new
equipment totaling $4,179,000, $1,777,000 and $2,850,000, the payment of
acquisition fees of $203,000, $147,000 and $123,000, for the payment of
preferred distributions to partners totaling $909,000, $608,000 and $85,000, and
for the payment of offering costs totaling $130,000, $487,000 and $426,000,
respectively.
Cash is invested in money market accounts that invest directly in
treasury obligations pending the Partnership's use of such funds to purchase
additional computer equipment, to pay Partnership expenses or to make
distributions to the Partners. At December 31, 1997 and 1996 the Partnership had
approximately $258,000 and $2,552,000, respectively, invested in these money
market accounts.
13
<PAGE>
The Partnership's investment strategy of acquiring computer equipment
and generally leasing it under triple-net leases to operators who generally meet
specified financial standards minimizes the Partnership's operating expenses.
Future minimum rentals on noncancellable operating leases increased by 136% from
December 31, 1996 to December 31, 1997, due to additional computer equipment
leases which commenced in 1997. This particular industry has experienced a
decrease in lease rates during this period due to an ongoing decrease in
interest rates. As of December 31, 1997, the Partnership had future minimum
rentals on noncancellable operating leases of $3,402,000 for the year ended 1998
and $3,135,000 thereafter. During 1997, the Partnership incurred debt in
connection with the purchase of computer equipment totaling $2,359,000. At
December 31, 1997, the outstanding debt was $1,954,000, with interest rates
ranging from 6.4% to 8.2% and will be payable through September 2000. The
Partnership intends to continue purchasing additional computer equipment with
existing cash, as well as when future cash becomes available. In addition, the
Partnership may incur debt in purchasing computer equipment in the future.
The Partnership's cash flow from operations is expected to continue to
be adequate to cover all operating expenses, liabilities, and preferred
distributions to Partners during the next 12 month period. If available Cash
Flow or Net Disposition Proceeds are insufficient to cover the Partnership
expenses and liabilities on a short and long term basis, the Partnership will
attempt to obtain additional funds by disposing of or refinancing Equipment, or
by borrowing within its permissible limits. The Partnership may also reduce the
distributions to its Partners if it deems necessary. Since the Partnership's
leases are on a "triple-net" basis, no reserve for maintenance and repairs are
deemed necessary.
RESULTS OF OPERATIONS
1997 and 1996 OPERATING RESULTS
For the year ended December 31, 1997 and 1996, the Partnership
recognized income of $2,540,000 and $1,194,000 and expenses of $2,602,000
and $1,195,000, resulting in net loss of $62,000 and $1,000, respectively.
Lease income increased by 118% over 1996 primarily due to the addition
of operating leases in 1997. In 1997 the Partnership expended approximately
$4,179,000 in cash and assumed debt of $2,359,000 to acquire 11 additional
leases
Interest income increased 36% from $70,000 for the year ended December
31, 1996 to $95,000 for the year ended December 31, 1997, as a result of the
capital contributions and rental income being temporarily invested in money
market accounts.
Operating expenses, excluding depreciation, primarily consist of
accounting, legal, outside service fees and reimbursement of expenses to Com
Cap Corp for administration and operation of the Partnership. The 186%
increase from approximately $57,000 during the year ended December 31, 1996
to $164,000 during the year ended December 31, 1997 is primarily attributable
to an increase in the reimbursable expenses to Com Cap Corp for costs
incurred in connection with the administration and operation of the
Partnership which were not changed by Com Cap Corp in 1996 and for third
party costs incurred for certain periodic filings of the Partnership.
The equipment management fee is equal to 5% of the gross lease revenue
attributable to equipment which is subject to operating leases. The equipment
management fee increased 118% from approximately $56,000 during the year ended
December 31, 1996 to $122,000 during the year ended December 31, 1997, which is
consistent with the increase in lease income.
Depreciation and amortization expenses consist of depreciation on
computer equipment, amortization of organization costs, equipment acquisition
fees and debt placement fees. The 108% increase from approximately $1,082,000
during the year ended December 31, 1996 to $2,247,000 during the year ended
December 31, 1997 is attributable to the 146% increase in the computer equipment
portfolio being leased.
14
<PAGE>
The Partnership sold computer equipment with a net book value of
$43,000 during the year ended December 31, 1997, for a net loss of $32,000.
In 1996, the Partnership adopted FASB Statement No. 121, "Accounting
for the Impairment of Long-Lived Assets and for Long-Lived Assets to be
Disposed Of" and identified specific computer equipment and associated
equipment acquisition costs which were evaluated due to technological
changes.. The adoption of FAS 121 had no effect on the 1997 or 1996 financial
statements.
For the year ended December 31, 1997, the Partnership generated cash
flow from operating activities of $1,957,000, which includes a net loss of
$62,000 reduced by depreciation and amortization expenses of $2,247,000. Other
noncash activities included in the determination of the net loss includes direct
payments of lease income by lessees to banks of $417,000.
1996 and 1995 OPERATING RESULTS
The comparison of the results of operations is for the twelve months
ended December 31, 1996, compared to the period from September 22, 1995
(commencement of operations) through December 31, 1995.
For the year ended December 31, 1996 and the period ended 1995, the
Partnership recognized income of $1,194,000 and $124,000, respectively, and
expenses of $1,195,000 and $136,000, resulting in net loss income of $1,000 and
$12,000, respectively.
Lease income increased 1,040% from December 31, 1995, to December 31,
1996, primarily due to utilizing cash from Partners' contributions for the
purchase of Equipment, which in turn generated more lease income. During 1995,
the Partnership expended approximately $2,850,000 in cash to acquire 5 leases
which generated approximately $99,000 in revenue. During 1996, the Partnership
expended approximately $1,777,000 to acquire 7 leases which together with the
leases acquired in 1995 generated approximately $1,124,000 in revenue.
Interest income increased 180% from $25,000 for the period ended
December 31, 1995 to $70,000 for the year ended December 31, 1996, as a result
of the capital contributions temporarily being invested in money market accounts
until being utilized for Equipment purchases.
Operating expenses, excluding depreciation, primarily consist of
accounting, legal and outside service fees. The increase 147% from approximately
$23,000 during the period ended December 31, 1995 to $57,000 during the year
ended December 31, 1996 is primarily attributable to the increase in the
Partnership's business activities.
The equipment management fee is equal to 5% of the gross lease revenue
attributable to Equipment which is subject to operating leases. The equipment
management fee increased 1,020% from approximately $5,000 during the period
ended December 31, 1995 to $56,000 during the year ended December 31, 1996,
which is consistent with the increase in lease income.
For the year ended December 31, 1996, the Partnership generated cash
flow from operating activities of $949,000, which includes a net loss of $1,000
reduced by depreciation and amortization expenses of $1,082,000.
For the period ended December 31, 1995, the Partnership generated cash
flows from operating activities of $56,000, which included a net loss of $12,000
and depreciation and amortization expenses of $108,000.
Impact of Year 2000
The Year 2000 Issue is the result of computer programs being written using
two digits rather than four to define the applicable year. Any computer
programs that have time-sensitive software may recognize a date using
"00" as the year 1900 rather than the year 2000. This could result in a
system failure or miscalculations causing disruptions of operations,
including, among other things, a temporary inability to process
transactions, send invoices, or engage in similar normal business
activities.
The Partnership does not have any computer programs or systems as all
services required for the management of the Partnership are provided by
the General Partner which receives fees and certain reimbursements for
these services. Therefore, the General Partner is responsible for any
costs associated with Year 2000 issues. Based on a recent assessment, the
General Partner determined that it will be required to modify or replace
portions of its software so that its computer systems will function
properly with respect to dates in the year 2000 and thereafter. The
General Partner presently believes that with modifications to existing
software and conversions to new software, the Year 2000 Issue will not
pose significant operational problems for its computer systems. The
General Partner expects that its modifications will be complete by 1999.
The General Partner and its affiliates will be entitled to reimbursement
for any costs associated with the Year 2000 issue. As of December 31, 1997,
the General Partner has not incurred any significant expenses.
The Partnership and the General Partner are not responsible for ensuring
that the computer peripheral equipment that it leases to customers is
Year 2000 compliant, however, this equipment may be subject to declines
in value or technological obsolescence due to the equipment not being
Year 2000 compliant. The Year 2000 issue may also affect the carrying
value of the equipment when it comes off of lease or be detrimental in
negotiating release rates which may lead to equipment write downs or less
than favorable lease recoveries. Management has considered these factors
in determining the recovery of its equipment at December 31, 1997 in
accordance with FASB Statement No. 121 "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed Of'. Based on
its current assessment the Partnership does not believe that the reduction
in carrying values of equipment, if any, due to the Year 2000 issue will
have a significant effect on operations.
15
<PAGE>
ITEM 8: FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Commonwealth Income & Growth Fund II
Financial Statements
Years ended December 31, 1997, 1996, and for the period September
22, 1995 (commencement of operations) to December 31, 1995
<TABLE>
<CAPTION>
Contents
<S> <C>
Report of Independent Auditors...............................................17
Audited Financial Statements
Balance Sheets...............................................................18
Statements of Operations.....................................................19
Statements of Partners' Capital..............................................20
Statements of Cash Flows.....................................................21
Notes to Financial Statements................................................22
</TABLE>
16
<PAGE>
Report of Independent Auditors
The Partners
Commonwealth Income & Growth Fund II
We have audited the accompanying balance sheets of Commonwealth Income &
Growth Fund II as of December 31, 1997 and 1996, and the related statements
of operations, partners' capital, and cash flows for the years ended December
31, 1997 and 1996, and for the period September 22, 1995 (commencement of
operations) to December 31, 1995. These financial statements are the
responsibility of the Partnership's management. Our responsibility is to
express an opinion on these financial statements 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 financial statements referred to above present fairly, in
all material respects, the financial position of Commonwealth Income & Growth
Fund II at December 31, 1997 and 1996, and the results of its operations and
its cash flows for the years ended December 31, 1997 and 1996, and for the
period September 22, 1995 (commencement of operations) to December 31, 1995,
in conformity with generally accepted accounting principles.
/s/ Ernst & Young LLP
Philadelphia, Pennsylvania
February 6, 1998
17
<PAGE>
Commonwealth Income & Growth Fund II
Balance Sheets
<TABLE>
<CAPTION>
December 31
1997 1996
---- ----
<S> <C> <C>
Assets
Cash and cash equivalents $ 258,167 $ 2,552,352
Lease income receivable 113,500 80,014
Accounts receivable - General Partner 15,821 -
Interest and other receivables 100 19,551
Computer equipment, at cost 11,764,757 4,780,075
Accumulated depreciation (3,175,757) (1,093,535)
-------------- --------------
8,589,000 3,686,540
Organization costs and deferred expenses, net of
accumulated amortization of $232,708 for 1997
and $96,375 for 1996 379,821 276,197
-------------- --------------
Total assets $ 9,356,409 $ 6,614,654
-------------- --------------
-------------- --------------
Liabilities and partners' capital
Accounts payable $ 96,326 $ 92,954
Accounts payable - Commonwealth Capital Corp. 68,265 -
Unearned lease income 217,503 89,780
Equipment payable 502,721 -
Notes payable 1,954,120 -
-------------- --------------
Total liabilities 2,838,935 182,734
Partners' capital:
General partner 1,000 1,000
Limited partners 6,516,474 6,430,920
-------------- --------------
Total partners' capital 6,517,474 6,431,920
-------------- --------------
Total liabilities and partners' capital $ 9,356,409 $ 6,614,654
-------------- --------------
-------------- --------------
</TABLE>
See accompanying notes.
18
<PAGE>
Commonwealth Income & Growth Fund II
Statements of Operations
<TABLE>
<CAPTION>
September 22,
1995
(commencement
of operations) to
Year ended December 31 December 31,
1997 1996 1995
---- ---- ----
<S> <C> <C> <C>
Income:
Lease $ 2,444,661 $ 1,123,685 $ 98,538
Interest and other 95,346 70,429 25,340
----------- ----------- ---------
2,540,007 1,194,114 123,878
Expenses:
Operating, excluding depreciation 163,749 56,707 23,059
Equipment management fee paid to
General Partner 122,233 56,184 4,927
Depreciation 2,107,744 997,708 95,827
Amortization of organization costs and
deferred expenses 139,057 84,245 12,130
Interest 37,106 - -
Loss on sale of computer equipment 31,955 - -
----------- ----------- ---------
2,601,844 1,194,844 135,943
----------- ----------- ---------
Net loss $ (61,837) $ (730) $(12,065)
----------- ----------- ---------
----------- ----------- ---------
Net loss per equivalent limited
partnership unit $ (.16) $ (.02) $ (.09)
----------- ----------- ---------
----------- ----------- ---------
Weighted average number of equivalent
limited partnership units outstanding
during the period 451,712 300,982 151,415
----------- ----------- ---------
----------- ----------- ---------
</TABLE>
See accompanying notes.
19
<PAGE>
Commonwealth Income & Growth Fund II
Statements of Partners' Capital
<TABLE>
<CAPTION>
General Limited
Partner Partner General Limited
Units Units Partner Partners Total
------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Contributions
September 22, 1995
through December 31,
1995 50 183,947 $ 1,000 $ 3,677,960 $ 3,678,960
Offering costs - - - (425,732) (425,732)
Net income (loss) - - 846 (12,911) (12,065)
Distributions - - (846) (83,796) (84,642)
----------- ----------- ----------- ------------- -------------
Partners' capital -
December 31, 1995 50 183,947 1,000 3,155,521 3,156,521
Contributions - through
December 31, 1996 - 218,572 - 4,371,440 4,371,440
Offering costs - - - (487,266) (487,266)
Net income (loss) - - 6,080 (6,810) (730)
Distributions - - (6,080) (601,965) (608,045)
----------- ----------- ----------- ------------- -------------
Partners' capital -
December 31, 1996 50 402,519 1,000 6,430,920 6,431,920
Contributions - through
December 31, 1997 - 59,298 - 1,185,785 1,185,785
Offering costs - - - (129,680) (129,680)
Net income (loss) - - 9,087 (70,924) (61,837)
Distributions - - (9,087) (899,627) (908,714)
----------- ----------- ----------- ------------- -------------
Partners' capital -
December 31, 1997 50 461,817 $ 1,000 $ 6,516,474 $ 6,517,474
----------- ----------- ----------- ------------- -------------
----------- ----------- ----------- ------------- -------------
</TABLE>
See accompanying notes.
20
<PAGE>
Commonwealth Income & Growth Fund II
Statements of Cash Flows
<TABLE>
<CAPTION>
September 22,
1995
(commencement
of operations) to
Year ended December 31 December 31,
1997 1996 1995
-----------------------------------------------------------
<S> <C> <C> <C>
Operating activities
Net loss $ (61,837) $ (730) $ (12,065)
Adjustments to reconcile net loss to net cash
provided by operating activities:
Depreciation and amortization 2,246,801 1,081,953 107,957
Loss on sale of computer equipment 31,955 - -
Other non-cash activities included in
determination of net loss (416,823) (4,290) -
Changes in operating assets and liabilities:
Lease income receivable (33,486) (32,895) (47,119)
Accounts receivable - General Partner (15,821) - -
Interest and other receivables 19,451 (9,975) (9,576)
Accounts payable 3,372 61,955 30,999
Accounts payable - Commonwealth
Capital Corp. 68,265 (148,141) -
Unearned lease income 127,723 52,034 37,746
Organization costs paid to General Partner (12,451) (50,528) (51,491)
Partner
------------- ------------ ------------
Net cash provided by operating activities 1,957,149 949,383 56,451
Investing activities
Capital expenditures (4,179,080) (1,777,488) (2,850,156)
Net proceeds from sale of computer equipment 10,585 - -
Equipment acquisition fees paid to
General Partner (202,760) (147,448) (123,105)
------------- ------------ ------------
Net cash used in investing activities (4,371,255) (1,924,936) (2,973,261)
Financing activities
Partners' contributions 1,185,785 4,371,440 3,678,960
Offering costs (106,556) (406,651) (366,885)
Offering costs paid to General Partner (23,124) (80,615) (58,847)
Distributions to partners (908,714) (608,045) (84,642)
Debt placement fee paid to General Partner (27,470) - -
------------- ------------ ------------
Net cash provided by financing activities 119,921 3,276,129 3,168,586
------------- ------------ ------------
Net (decrease) increase in cash and cash
equivalents (2,294,185) 2,300,576 251,776
Cash and cash equivalents at beginning
of period 2,552,352 251,776 -
------------- ------------ ------------
Cash and cash equivalents at end of period $ 258,167 $ 2,552,352 $ 251,776
------------- ------------ ------------
------------- ------------ ------------
</TABLE>
See accompanying notes.
21
<PAGE>
Commonwealth Income & Growth Fund II
Notes to Financial Statements
December 31, 1997
1. Business
Commonwealth Income & Growth Fund II (the "Partnership") is a limited
partnership. The Partnership was declared effective by the Securities and
Exchange Commission on May 12, 1995, and began offering up to 750,000 units
of the limited partnership at the purchase price of $20 per unit. The
offering terminated on May 12, 1997, after it sold 461,817 units at a price
of $20 per unit. The Partnership was organized in the Commonwealth of
Pennsylvania to acquire, own, lease, and sell various types of computer
peripheral equipment and other similar capital equipment, which will be
leased primarily to U.S. corporations and institutions. The Partnership's
general partner is Commonwealth Income & Growth Fund, Inc. (the "General
Partner"), a Pennsylvania corporation which is an indirect wholly-owned
subsidiary of Commonwealth Capital Corp. Approximately ten years after the
commencement of operations, the Partnership intends to have sold or otherwise
disposed of all of its computer equipment, make final distributions to
partners, and to dissolve. Unless sooner terminated, the Partnership will
continue until December 31, 2006.
Allocations of income and distributions of cash are based on Commonwealth
Income & Growth Fund II, Limited Partnership Agreement (the "Agreement"). The
various allocations prevent any partner's capital account from being reduced
below zero and ensure the capital accounts reflect the anticipated sharing
ratios of cash distributions, as defined in the Agreement. Annual cash
distributions to limited partners have been made at a rate of 10% (Preferred
Distribution) of their original contributed capital. Distributions during
1997 and 1996 reflect an annual return of capital in the amount of
approximately $2.00 per limited partnership unit for units which were
outstanding for the entire year. For a limited partner's unit outstanding
from the Offering's first close on September 22, 1995, distributions during
1995 reflected a return of capital in the amount of approximately $.55 per
limited partnership unit. (For a limited partner's unit acquired during
either 1997, 1996 or 1995, the return of capital would be less than these
amounts.) In the event the Partnership is unable to distribute sufficient
cash to meet the intended preferred distribution, such amounts will be
deferred with no interest until sufficient cash flow is available, as
determined by the General Partner or until the liquidation of the
Partnership. The Partnership may also reduce distributions to its partners if
it deems necessary. Further, ongoing acquisition fees, equipment management
fees, and financing fees payable to the General Partner (Note 4) will also be
deferred until payment of any unpaid Preferred Distribution.
22
<PAGE>
Commonwealth Income & Growth Fund II
Notes to Financial Statements (continued)
2. Accounting Policies
Revenue Recognition
Through December 31, 1997, the Partnership has only entered into operating
leases. Lease revenue is recognized on a monthly basis in accordance with the
terms of the operating lease agreements.
Use of Estimates
The preparation of the 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.
Long-Lived Assets
In 1996, the Partnership adopted FASB Statement No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of"
(FAS 121). The Partnership evaluates its long-lived assets when events and
circumstances indicate that the value of the asset may not be recoverable.
The Partnership evaluates whether an impairment exists by determining the
estimated undiscounted cash flows to be generated by each asset. If the
undiscounted cash flows are less than the carrying value, then an impairment
exists. The amount of the impairment is determined based on the difference
between the carrying value and the fair value. The fair value is determined
based on estimated discounted cash flows to be generated by the asset. The
adoption of FAS 121 had no effect on the 1997 and 1996 financial statements.
Depreciation on computer equipment for financial statement purposes is based
on the straight-line method over the estimated useful lives of four years.
Other assets, consisting of organization costs and other deferred expenses,
are amortized on a straight-line basis over 2 to 5 year lives. Unamortized
acquisition fees are charged to amortization expense when the associated
leased equipment is sold.
Cash and Cash Equivalents
The Company considers all highly liquid investments with a maturity of three
months or less to be cash equivalents. At December 31, 1997 and 1996, cash
equivalents were invested in a money market fund investing directly in
Treasury obligations.
23
<PAGE>
Commonwealth Income & Growth Fund II
Notes to Financial Statements (continued)
2. Accounting Policies (continued)
Income Taxes
The Partnership is not subject to federal income taxes; instead, any taxable
income (loss) is passed through to the partners and included on their
respective income tax returns.
Taxable income differs from financial statement net income as a result of
reporting certain income and expense items for tax purposes in periods other
than those used for financial statement purposes, principally relating to
depreciation, amortization, and lease income.
Offering Costs
Offering costs are payments for selling commissions of 7% and dealer manager
fees of 2% of the partners' contributed capital, professional fees and other
offering expenses relating to the syndication. These costs are deducted from
partnership capital in the accompanying financial statements.
Net Loss per Equivalent Limited Partnership Unit
The net loss per equivalent limited partnership unit is computed based upon
net loss allocated to the limited partners and the weighted average number of
equivalent units outstanding during the period.
3. Computer Equipment
The Partnership is the lessor of equipment under operating leases with
periods ranging from 22 to 48 months. In general, associated costs such as
repairs and maintenance, insurance, and property taxes are paid by the lessee.
The following is a schedule of future minimum rentals on noncancelable
operating leases at December 31, 1997.
<TABLE>
<CAPTION>
<S> <C>
1998 $ 3,402,000
1999 2,307,000
2000 828,000
---------------------
$ 6,537,000
---------------------
---------------------
</TABLE>
24
<PAGE>
Commonwealth Income & Growth Fund II
Notes to Financial Statements (continued)
3. Computer Equipment (continued)
Lease income from four lessees, each exceeding 10% of lease revenue, aggregated
55% of lease income for the year ended December 31, 1997. Lease income from
three lessees, each exceeding 10% of lease income, aggregated 75% of the lease
income for the year ended December 31, 1996. Lease income from two lessees, each
exceeding 10% of lease revenue, aggregated 93% of lease income for the period
September 22, 1995 to December 31, 1995.
4. Related Party Transactions
Organizational Fee
The General Partner is entitled to be paid an Organizational Fee equal to three
percent of the first $10,000,000 of Limited Partners' Capital Contributions and
two percent of the Limited Partners' Capital Contributions in excess of
$10,000,000, as compensation for the organization of the Partnership. During
1997, 1996, and 1995, such organizational fees of approximately $36,000,
$131,000, and $110,000, respectively, were paid to the General Partner.
Reimbursement of Expenses
The General Partner and its Affiliates are entitled to reimbursement by the
Partnership for the cost of goods, supplies, or services obtained and used by
the General Partner in connection with the administration and operation of
the Partnership from third parties unaffiliated with the General Partner. In
addition, the General Partner and its affiliates are entitled to
reimbursement for certain expenses incurred by the General Partner and its
affiliates in connection with the administration and operation of the
Partnership. During 1997, $110,000 of expenses were reimbursed to the General
Partner. No expenses were reimbursed in 1996 or 1995.
25
<PAGE>
Commonwealth Income & Growth Fund II
Notes to Financial Statements (continued)
4. Related Party Transactions (continued)
Equipment Acquisition Fee
The General Partner is entitled to be paid an Equipment Acquisition Fee of 4%
of the Purchase Price of each item of Equipment purchased as compensation for
the negotiation of the acquisition of the Equipment and the lease thereof or
sale under a Conditional Sales Contract. The fee will be paid upon closing of
the Offering with respect to the Equipment to be purchased by the Partnership
with the net proceeds for the Offering available for investment in Equipment.
If the Partnership acquires Equipment in an amount exceeding the net proceeds
of the Offering available for investment in Equipment, the fee will be paid
when such Equipment is acquired. During 1997, 1996, and 1995, equipment
acquisition fees of approximately $203,000, $147,000, and $123,000,
respectively, were paid to the General Partner.
Debt Placement Fee
As compensation for arranging Term Debt to finance the acquisition of
Equipment by the Partnership, the General Partner is paid a fee equal to 1%
of such indebtedness; provided, however, that such fee shall be reduced to
the extent the Partnership incurs such fees to third parties, unaffiliated
with the General Partner or the lender, with respect to such indebtedness and
no such fee will be paid with respect to borrowings from the General Partner
or its Affiliates. During 1997, debt placement fees of approximately $27,000
were paid to the General Partner. There were no such fees paid to the General
Partner in 1996 or 1995.
Equipment Management Fee
The General Partner is entitled to be paid a monthly fee equal to the lesser
of (i) the fees which would be charged by an independent third party for
similar services for similar equipment or (ii) the sum of (a) two percent of
(1) the Gross Lease Revenues attributable to Equipment which is subject to
Full Payout Net Leases which contain net lease provisions plus (2) the
purchase price paid on Conditional Sales Contracts as received by the
Partnership and (b) 5% of the Gross Lease Revenues attributable to Equipment
which is subject to Operating Leases. During 1997, 1996, and 1995, equipment
management fees of approximately $122,000, $56,000, and $5,000, respectively,
were paid to the General Partner, as determined pursuant to section (ii)
above.
26
<PAGE>
Commonwealth Income & Growth Fund II
Notes to Financial Statements (continued)
4. Related Party Transactions (continued)
Re-lease Fee
As compensation for providing re-leasing services for any Equipment for which
the General Partner has, following the expiration of, or default under, the most
recent lease or Conditional Sales Contract, arranged a subsequent lease or
Conditional Sales Contract for the use of such Equipment to a lessee or other
party, other than the current or most recent lessee or other operator of such
equipment or its Affiliates ("Re-lease"), the General Partner shall receive, on
a monthly basis, a Re-lease Fee equal to the lesser or (a) the fees which would
be charged by an independent third party for comparable services for comparable
equipment or (b) two percent of Gross Lease Revenues derived from such Re-lease.
There were no such fees paid to the General Partner in 1997, 1996, or 1995.
Equipment Liquidation Fee
With respect to each item of Equipment sold by the General Partner (other than
in connection with a Conditional Sales Contract), a fee equal to the lesser of
(i) 50% of the Competitive Equipment Sale Commission or (ii) three percent of
the sales price for such Equipment is payable to the General Partner. The
payment of such fee is subordinated to the receipt by the Limited Partners of
(i) a return of their Capital Contributions and a 10% per annum cumulative
return, compounded daily, on Adjusted Capital Contributions ("Priority Return")
and (ii) the Net Disposition Proceeds from such sale in accordance with the
Partnership Agreement. Such fee will be reduced to the extent any liquidation or
resale fees are paid to unaffiliated parties. There were no such fees paid to
the General Partner in 1997, 1996, or 1995.
27
<PAGE>
Commonwealth Income & Growth Fund II
Notes to Financial Statements (continued)
5. Notes Payable
Notes payable consisted of the following:
<TABLE>
<CAPTION>
1997 1996
------------------------------------
<S> <C> <C>
Installment note payable to a bank; interest at 7.5%;
due in monthly installments of $22,844 including
interest through June 1999 $ 387,852 $ -
Installment note payable to a bank; interest at 7.5%;
due in monthly installments of $31,144 including interest
through May 2000 823,908 -
Installment note payable to a bank; interest at 8.2%;
due in monthly installments of $3,976 including
interest through June 2000 107,518 -
Installment note payable to a bank; interest at 6.4%;
due in monthly installments of $21,028 including
interest through September 2000 634,842 -
----------------- ------------------
$ 1,954,120 $ -
----------------- ------------------
----------------- ------------------
</TABLE>
These notes are secured by specific computer equipment and are nonrecourse
liabilities of the Partnership. Aggregate maturities of notes payable for each
of the three years subsequent to December 31, 1997 are as follows:
<TABLE>
<CAPTION>
<S> <C>
1998 $ 835,208
1999 758,430
2000 360,482
--------------------
$ 1,954,120
--------------------
--------------------
</TABLE>
The fair market value of debt approximates its carrying value at December 31,
1997 and 1996.
28
<PAGE>
Commonwealth Income & Growth Fund II
Notes to Financial Statements (continued)
6. Supplemental Cash Flow Information
Other non-cash activities included in the determination of net loss are as
follows:
<TABLE>
<CAPTION>
1997 1996
------------------------------------
<S> <C> <C>
Lease income, net of interest expense on notes payable
realized as a result of direct payment of principal by
lessee to bank $ 404,913 $ -
Lease income paid to original lessor in lieu of
cash payment for computer equipment acquired 11,910 4,290
---------------- ---------------
Total adjustment to net loss from other non-cash
activities
$ 416,823 $ 4,290
---------------- ---------------
---------------- ---------------
</TABLE>
6. Supplemental Cash Flow Information (continued)
No interest or principal on notes payable was paid by the Partnership because
direct payment was made by lessee to the bank in lieu of collection of lease
income and payment of interest and principal by the Partnership.
Non-cash investing and financing activities include the following:
<TABLE>
<CAPTION>
1997 1996 1995
------------------------------------------------
<S> <C> <C> <C>
Debt assumed in connection with the
purchase of computer equipment $ 2,359,033 $ - $ -
--------------- ------------- ---------------
Accounts payable in connection with the
purchase of computer equipment $ 502,721 $ - $ 148,141
--------------- ------------- ---------------
--------------- ------------- ---------------
</TABLE>
7. Reconciliation of Net Loss Reported for Financial Reporting Purposes to
Taxable Income
<TABLE>
<CAPTION>
1997 1996 1995
------------------------------------------------------
<S> <C> <C> <C>
Net loss for financial reporting purposes $ (61,837) $ (730) $ (12,065)
Adjustments:
Depreciation 387,081 167,614 28,197
Amortization 112,007 68,035 9,373
Unearned lease income 71,392 22,980 -
Loss on sale of computer equipment (7,011) - -
Other 33,265 - -
---------------- ------------ ------------
Taxable income $ 534,897 $ 257,899 $ 25,505
---------------- ------------ ------------
---------------- ------------ ------------
</TABLE>
29
<PAGE>
Commonwealth Income & Growth Fund, Inc.
(an indirect wholly-owned subsidiary of Commonwealth Capital Corp.)
Balance Sheet
February 28, 1997
Contents
<TABLE>
<S> <C>
Report of Independent Auditors.............................................31
Balance Sheet..............................................................32
Notes to Balance Sheet.....................................................33
</TABLE>
30
<PAGE>
Report of Independent Auditors
To the Stockholder
Commonwealth Income & Growth Fund, Inc.
We have audited the accompanying balance sheet of Commonwealth Income &
Growth Fund, Inc. (an indirect wholly-owned subsidiary of Commonwealth
Capital Corp.) as of February 28, 1997. This balance sheet is the
responsibility of the Company's management. Our responsibility is to express
an opinion on this balance sheet based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the balance sheet is free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the balance sheet. An audit also
includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall balance sheet
presentation. We believe that our audit provides a reasonable basis for our
opinion.
In our opinion, the balance sheet referred to above presents fairly, in all
material respects, the financial position of Commonwealth Income & Growth
Fund, Inc. at February 28, 1997, in conformity with generally accepted
accounting principles.
/s/ Ernst & Young LLP
Philadelphia, Pennsylvania
April 28, 1997
31
<PAGE>
Commonwealth Income & Growth Fund, Inc.
(an indirect wholly-owned subsidiary of Commonwealth Capital Corp.)
Balance Sheet
<TABLE>
<CAPTION>
February 28
1997
-----------
<S> <C>
Assets
Cash ......................................................... $ 500
Accounts receivable from Income Funds and
Commonwealth Capital Corp. ............................... 2,069
Investment in Partnerships ................................... 2,000
-----------
$ 4,569
-----------
-----------
Liabilities
Accounts payable to Income Funds and
Commonwealth Capital Corp. ............................... $ 3,469
Stockholders' equity
Common stock at $1 stated value:
Authorized shares--1,000
Issued and outstanding shares--100 ....................... 100
Additional paid-in capital ................................... 1,001,000
-----------
1,001,100
Less: note receivable ........................................ (1,000,000)
-----------
1,100
-----------
$ 4,569
-----------
-----------
</TABLE>
See accompanying notes.
32
<PAGE>
Commonwealth Income & Growth Fund, Inc.
(an indirect wholly-owned subsidiary of Commonwealth Capital Corp.)
Notes to Balance Sheet
February 28, 1997
1. The Company
Commonwealth Income & Growth Fund, Inc. (the "Company") is a wholly-owned
subsidiary of Commonwealth of Delaware, Inc. which in turn is a wholly-owned
subsidiary of Commonwealth Capital Corp. ("CCC"). The Company is the sole
General Partner of Commonwealth Income & Growth Fund I, a Pennsylvania limited
partnership and the sole General Partner of Commonwealth Income & Growth Fund
II, a Pennsylvania limited partnership. On April 28, 1997 the Company
contributed $1,000 in cash to become the sole General Partner of Commonwealth
Income & Growth Fund III, a Pennsylvania limited Partnership. The three limited
partnerships described above are collectively referred to herein as the
"Partnerships."
CCC has provided additional capital by means of a noninterest-bearing demand
note in the amount of $1,000,000, so that the Company will at all times have
a net worth (which includes the net equity of the Company and the demand note
receivable from CCC) of at least $1,000,000. In computing the Company's net
worth for this purpose, its interest in the Partnerships and any amounts and
notes receivable from and payable to the Partnerships will be excluded. The
Company's equity has been reduced by the note receivable from CCC resulting
in net equity of $1,100, which may be different for tax purposes. The
Company's operations will be included in the consolidated federal income tax
return of CCC.
2. Investment in Partnerships
The Company contributed $2,000 in cash through February 28, 1997 to the
Partnerships for its general partner interests. The Company may, at its sole
discretion, purchase a limited partnership interest in the Partnerships
("Units") for an additional capital contribution of $20 per Unit with a
minimum investment of 125 Units.
3. Related Party Transactions
The Company and its affiliates receive substantial fees and compensation in
connection with the offering of Units and the management of the Partnerships'
assets. See "Compensation of General Partner and Affiliates," and
"Allocations and Distributions" elsewhere in the Prospectus of Commonwealth
Income & Growth Fund III for information with respect to the compensation to
be paid to the Company and its affiliates and the allocations of income,
losses, and cash distributions.
33
<PAGE>
Commonwealth Capital Corp.
Consolidated Balance Sheet
As of February 28, 1997
Contents
<TABLE>
<S> <C>
Report of Independent Auditors...............................................35
Audited Consolidated Balance Sheet...........................................36
Notes to Consolidated Balance Sheet..........................................37
</TABLE>
34
<PAGE>
Report of Independent Auditors
The Stockholder
Commonwealth Capital Corp.
We have audited the accompanying consolidated balance sheet of Commonwealth
Capital Corp. as of February 28, 1997. This balance sheet is the responsibility
of the Company's management. Our responsibility is to express an opinion on this
balance sheet based on our audit.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the balance sheet is free of material misstatement. An
audit includes examining, on a test basis, evidence supporting the amounts and
disclosures in the balance sheet. An audit also includes assessing the
accounting principles used and significant estimates made by management, as well
as evaluating the overall balance sheet presentation. We believe that our audit
provides a reasonable basis for our opinion.
In our opinion, the balance sheet referred to above presents fairly, in all
material respects, the consolidated financial position of Commonwealth Capital
Corp. at February 28, 1997, in conformity with generally accepted accounting
principles.
Ernst & Young, LLP
Philadelphia, Pennsylvania
April 28, 1997
35
<PAGE>
Commonwealth Capital Corp.
Consolidated Balance Sheet
February 28, 1997
<TABLE>
<S> <C>
Assets
Cash and cash equivalents .................................. $ 162,028
Receivables from Income Funds .............................. 308,686
Advances to Income Funds ................................... 317,400
Other receivables .......................................... 134,335
Income taxes receivable .................................... 33,000
Minimum lease payments receivable, net of
unearned interest income of $4,316,972 ................. 9,045,000
Deferred tax asset ......................................... 122,000
Investment in Income Funds ................................. 18,200
Other assets ............................................... 10,976
Office furniture and equipment, net of
accumulated depreciation of $84,668 .................... 32,323
-----------
Total assets ............................................... 10,183,948
-----------
-----------
Liabilities and stockholder's equity
Accounts payable and accrued expenses ...................... 118,144
Nonrecourse obligations .................................... 9,045,000
-----------
Total liabilities .......................................... 9,163,144
Stockholder's equity:
Common stock, $1 par value:
Authorized shares - 1,000
Issued and outstanding shares - 10 .................. 10
Retained earnings ...................................... 1,020,794
-----------
Total stockholder's equity ................................. 1,020,804
-----------
Total liabilities and stockholder's equity ................. $10,183,948
-----------
-----------
</TABLE>
See accompanying notes.
36
<PAGE>
Commonwealth Capital Corp.
Notes to Consolidated Balance Sheet
February 28, 1997
1. Business
Commonwealth Capital Corp. (the Company), through its subsidiary, Commonwealth
of Delaware, Inc. (CDI), is primarily engaged in leasing various types of
computer peripheral equipment and other similar equipment, which are leased
primarily to U.S. corporations and institutions. Certain subsidiaries of CDI
were formed for the purpose of functioning as general partners/managing trustees
which own a 1% interest in limited partnerships/trusts (the "Income Funds"),
which were organized to acquire, own and act as lessor with respect to certain
computer equipment. As of February 28, 1997, the subsidiaries include
Commonwealth Capital Fund 1987-I, Inc., Commonwealth Capital Fund 1988-I, Inc.,
Commonwealth Capital Fund No. 3, Inc., Commonwealth Capital Fund No. 4, Inc.,
Commonwealth Capital Fund V, Inc., Commonwealth Capital Private Fund-I, Inc.,
Commonwealth Capital Fund VI, Inc., Commonwealth Capital Fund VII, Inc.,
Commonwealth Capital Private Fund - II, Inc., Commonwealth Capital Trustee VIII,
Inc., Commonwealth Capital Trustee IX, Inc., Commonwealth Capital Trustee X,
Inc., Commonwealth Capital Private Fund-III, Inc., Commonwealth Income and
Growth Fund, Inc., Commonwealth Capital Private Fund IV, Inc., Commonwealth
Capital Private Fund V, Inc., and Commonwealth Capital Private Fund VI, Inc.
(collectively the "General Partner Subsidiaries"), Commonwealth Capital
Securities Corp., Garden State Facilities Funding, Inc. (GSFF) and Commonwealth
Capital Delaware Trustee, Inc.
2. Accounting Policies
Basis of Presentation
The accompanying consolidated balance sheet includes the accounts of the
Company, its wholly-owned subsidiary, CDI, and its wholly-owned subsidiaries
(Note 1). All significant intercompany accounts and transactions have been
eliminated in the accompanying consolidated balance sheet. The balance sheet is
presented on an unclassified basis in accordance with leasing industry practice.
Use of Estimates
The preparation of the balance sheet in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the amounts reported in the balance sheet and accompanying notes. Actual
results could differ from those estimates.
37
<PAGE>
Commonwealth Capital Corp.
Notes to Consolidated Balance Sheet (continued)
2. Accounting Policies (continued)
Cash and Cash Equivalents
The Company considers all highly liquid investments with a maturity of three
months or less when purchased to be cash equivalents. At February 28, 1997, cash
equivalents were invested in a money market fund investing directly in treasury
obligations.
Office Furniture and Equipment
Office furniture and equipment are carried at cost and are depreciated over the
estimated useful lives of the related assets ranging from 5 to 7 years using
accelerated methods.
Investment in Income Funds
The Company accounts for its 1% interests in the Income Funds by the equity
method. Distributions were received from these Income Funds and approximated the
Company's equity in the income of the Income Funds. Financial information of the
Income Funds as of December 31, 1996 is as follows:
<TABLE>
<S> <C>
Total assets ......................................... $34,502,000
Nonrecourse debt ..................................... 10,450,000
Other liabilities .................................... 2,952,000
Partners' capital .................................... 21,067,000
</TABLE>
The Company has guaranteed the performance of certain non-monetary obligations
of the General Partner Subsidiaries to the respective Income Funds, primarily
the responsibility for management of the Income Funds. In addition, the Company
is responsible for certain capital funding requirements of the General Partner
Subsidiaries and, accordingly, holds noninterest-bearing demand notes of
approximately $4,166,000 at February 28, 1997. Such notes have been eliminated
in the consolidation of the accompanying balance sheet.
The compensation to the Company from the Income Funds includes: (1) Equipment
Acquisition Fees (4% of the purchase price of all equipment purchased by the
Income Funds); (2) Debt Placement Fees (1% of financed equipment by the Income
Funds); (3) Sales Fees Expense (3% of gross proceeds of sold equipment by the
Income Funds); and (4) Equipment Management Fees (5% of the gross operating
lease revenues of the Income Funds). The Company earned approximately $1,509,000
in fees for managing the Income Funds during the year ended February 28, 1997.
38
<PAGE>
Commonwealth Capital Corp.
Notes to Consolidated Balance Sheet (continued)
3. Lease Commitments
GSFF acted as lessor in a series of lease purchase transactions whereby the
underlying assets were funded by investors through certificates of
participation in the lease payments. All of GSFF's rights as lessor were
assigned to a third-party agent which administers the collection of rentals
paid by the lessee. The obligations under the certificates are nonrecourse to
GSFF. Accordingly, any reduction in the minimum lease payments receivable for
uncollectible accounts would result in an equal reduction of the nonrecourse
obligations. Amounts outstanding at February 28, 1997 under the leases and
certificates of participation are approximately $9,045,000. These amounts are
included in minimum lease payments receivable and nonrecourse obligations in
the accompanying balance sheet. Of these amounts, $7,690,000 are secured by
mortgage insurance policies maintained by the lessee. The certificates mature
from 1997 to 2011.
Future minimum lease payments to be received as of February 28, 1997 are as
follows:
<TABLE>
<C> <C>
1998 ........................................................ $ 1,190,923
1999 ........................................................ 1,202,479
2000 ........................................................ 1,190,739
2001 ........................................................ 1,192,935
2002 ........................................................ 972,677
Thereafter .................................................. 7,675,669
-----------
13,425,422
Less amount representing interest 4,380,422
-----------
Total $ 9,045,000
-----------
-----------
</TABLE>
The Company leases an automobile, certain office equipment and office space
under noncancelable operating leases expiring in 1998 through 2000. Future
minimum lease payments under noncancelable operating leases at February 28, 1997
are $184,000 in 1998; $143,000 in 1999; and $3,000 in 2000.
4. Profit-Sharing Plan
The Company has a profit-sharing plan covering all employees with one year of
service and 21 years of age. Profit-sharing contributions are made at the
discretion of management. It is the Company's policy to fund profit-sharing
costs as accrued.
39
<PAGE>
5. Income Taxes
The Company files a consolidated federal income tax return with CDI and its
subsidiaries. The Company has investment tax credit carryforwards of $266,000 at
February 28, 1997. The investment tax credits expire in 1998 through 2001 and
are available to reduce future federal income tax liabilities. The Company also
has state net operating loss carryforwards of approximately $508,000, which
expire during 1997 through 1999.
The Company has a federal deferred tax asset of $259,000 at February 28, 1997,
arising primarily from the carryforward of investment tax credits. At February
28, 1997, the Company recorded a valuation allowance of approximately $137,000
because the Company concluded the future realization of all of the tax benefits
underlying the asset could not be reasonably assured based on current and
expected operating results. The Company believes that the remaining asset of
$122,000 is more likely than not to be realized. In addition, the Company has a
state deferred tax asset of $48,000 at February 28, 1997; however, the future
realization of the tax benefits underlying the state deferred tax asset could
not be reasonably assured and, accordingly, a valuation allowance was recorded
in the amount of $48,000.
6. Related Party Transactions
During 1997, the Company made $373,388 in cash advances to certain Income Funds
to fund cash distributions to limited partners. The remaining advances of
$317,400 are due on demand.
7. Legal Settlement
In 1997, the Company settled a dispute over contract terms with a former lessee,
whereby the lessee agreed to pay $190,000 for release of all future liability.
The Company received $95,000 through February 28, 1997 and the remaining
$95,000, included in other receivables at February 28, 1997, was subsequently
received.
40
<PAGE>
ITEM 9: CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
NOT APPLICABLE
PART III
ITEM 10: DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
GENERAL
The General Partner, a wholly-owned subsidiary of Commonwealth of
Delaware, Inc., a Delaware corporation, which is in turn a wholly-owned
subsidiary of Commonwealth Capital Corp., a Pennsylvania corporation ("Com Cap
Corp."), was incorporated in Pennsylvania on August 26, 1993. The General
Partner also acts as the General Partner for Commonwealth Income and Growth Fund
I and Commonwealth Income and Growth Fund III. The principal business office of
the General Partner is 1160 West Swedesford Road, Suite 340, Berwyn, PA 19312,
and its telephone number is 610-647-6800. The General Partner manages and
controls the affairs of the Partnership and has sole responsibility for all
aspects of the Partnership's operations. The officers of the General Partner
devote such time to the affairs of the Partnership as in the opinion of the
General Partner is necessary to enable it to perform its function as General
Partner. The officers of the General Partner are not required to spend their
full time in meeting their obligations to the Partnership.
The directors and officers of the General Partner and key employees of
Com Cap Corp. are as follows:
<TABLE>
<CAPTION>
NAME TITLE
- ---- ------
<S> <C>
George S. Springsteen Chairman of the Board of Directors and President
of the General Partner and Com Cap Corp.
Kimberly A. MacDougall Executive Vice President, Chief Operating Officer and
Secretary of the General Partner and Com Cap Corp.
David A. Kintzer Vice President and Chief Financial Officer of the
General Partner and Com Cap Corp.
Kathleen S. Enscoe Assistant Vice President and Controller of the
General Partner and Com Cap Corp.
Gregory M. Lorenz Vice President of Com Cap Corp.
Magdalia Cruz Assistant Vice President of Com Cap Corp.
</TABLE>
George S. Springsteen, age 63, is President of both Com Cap Corp. and
the General Partner. Mr. Springsteen is also President of the general partners
or controlling entities of several prior programs sponsored by Com Cap Corp.
with objectives similar to the Partnership's. He has been the sole shareholder
and director of Com Cap Corp. since its formation in 1978. From 1971 to 1978,
Mr. Springsteen was involved in the computer leasing business of Granite
Computer Corporation. Mr. Springsteen served as Vice President of Marketing, in
addition to other capacities, and managed a portfolio of approximately
$120,000,000 of IBM computers and peripherals. In 1978, Granite Computer
Corporation sold its equipment portfolio and left the equipment leasing
business. Mr. Springsteen acquired
41
<PAGE>
a portion of Granite's portfolio, client base, employees and corporate offices
in Jenkintown, Pennsylvania. The new company began operations as Com Cap Corp.
in May of 1978. Mr. Springsteen received a Bachelor of Science degree from the
University of Delaware in 1957.
Kimberly A. MacDougall, age 38, is Executive Vice President, Chief
Operating Officer and Secretary of Com Cap Corp. and the General Partner and
joined ComCap Corp. in 1997. She is also the President of Commonwealth Capital
Securities Corp. From 1980 to 1997, Ms. MacDougall was employed with Wheat First
Butcher Singer, a broker/dealer headquartered in Richmond, Virginia. While at
Wheat First Butcher Singer, Ms. MacDougall, Senior Vice President, served as
Marketing Manager for the Direct Investments Department, with over $450,000,000
of investments under management in real estate, equipment leasing and
energy-related industries. Ms. MacDougall holds Series 7, 63 and 39 NASD
licenses and is a member of the Equipment Leasing Association, Investment
Partnership Association, and International Association for Financial Planning.
David A. Kintzer, age 38, is Vice President and Chief Financial Officer
of both Com Cap Corp. and the General Partner and has been employed at Com Cap
Corp. since 1991. Mr. Kintzer also serves as Vice President and Chief Financial
Officer of the general partners or controlling entities of several prior
programs sponsored by Com Cap Corp. with objectives similar to the
Partnership's. From 1984 to 1990, Mr. Kintzer was employed by Continental
Computer Leasing Corporation, a computer leasing company with an equipment lease
portfolio of $40,000,000 and annual revenue of $20,000,000. While at
Continental, Mr. Kintzer served as Controller and Chief Financial Officer and
managed its accounting, financial, EDP, banking relationships and personnel
functions. Prior to 1984, Mr. Kintzer was employed by the international public
accounting firm of Ernst & Young LLP. Mr. Kintzer is a member of both the
American Institute of Certified Public Accountants and The Pennsylvania
Institute of Certified Public Accountants. Mr. Kintzer received an A.B. degree
in accounting from Franklin & Marshall College in 1981.
Kathleen S. Enscoe, age 32, is Assistant Vice President and Controller
of Com Cap Corp. and certain of its subsidiaries where she has been employed
since 1992. Ms. Enscoe is an active member of the Equipment Leasing Association.
From 1988 to 1992, Ms. Enscoe was employed as a staff accountant in the
financial reporting department of WWF Paper Corporation. Ms. Enscoe received a
B.S.B.A. degree in 1988 from Geneva College with dual majors in accounting and
business administration.
Gregory M. Lorenz, age 35, is Vice President of Com Cap Corp. and has
been employed by Com Cap Corp. since April of 1994. From 1985 to 1993, Mr.
Lorenz was employed by Daley Marketing Corp. where he served as Vice President
of Marketing and Director of Sales and Marketing. Mr. Lorenz is a member of the
Equipment Leasing Association and received an Associates of Arts degree from
Orange Coast College in 1984.
Magdalia Cruz, age 29, is Assistant Vice President of Com Cap Corp. and
Vice President of Commonwealth Capital Securities Corp. Ms. Cruz has been
employed by ComCap Corp. since 1993. From 1990 to 1993, Ms. Cruz was employed as
Marketing Coordinator for Shaffer DeSouza Brown. Prior to that, as a Computer
Equipment Analyst for the Defense Industrial Supply Center, a government agency
based in Philadelphia. She is completing her studies for a B.S. in Business
Management at West Chester University. Ms. Cruz is a member of the Equipment
Leasing Association, Investment Partnership Association, and holds her Series
22, 63 and 39 NASD licenses.
The directors and officers of the General Partner are required to spend
only such time on the Partnership's affairs as is necessary in the sole
discretion of the directors of the General Partner for the proper conduct of the
Partnership's business. A substantial amount of time of such directors and
officers is expected to be spent on matters unrelated to the Partnership,
particularly after the Partnership's investments have been selected. Under
certain circumstances, such directors and officers are entitled to
indemnification from the Partnership.
42
<PAGE>
ITEM 11: EXECUTIVE COMPENSATION
The following table summarized the types, amounts and recipients of
compensation paid by the Partnership directly or indirectly to the General
Partner and its Affiliates. Some of these fees are paid regardless of the
success or profitability of the Partnership's operations and investments. While
such compensation and fees were established by the General Partner and are not
based on arm's-length negotiations, the General Partner believes that such
compensation and fees are comparable to those which would be charged by an
unaffiliated entity or entities for similar services. The Partnership Agreement
limits the liability of the General Partner and its Affiliates to the
Partnership and the Limited Partners and provides indemnification to the General
Partner and its Affiliates under certain circumstances.
<TABLE>
<CAPTION>
AMOUNT AMOUNT AMOUNT
ENTITY RECEIVING INCURRED INCURRED INCURRED
COMPENSATION TYPE OF COMPENSATION DURING 1997 DURING 1996 DURING 1995
- ---------------- --------------------------------------------------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
OFFERING AND ORGANIZATION STAGE
The General Partner Organizational Fee. An Organization Fee $36,000 $131,000 $110,000
equal to three percent of the first
$10,000,000 of Limited Partners' Capital
Contributions and two percent of the Limited
Partners' Capital Contribution in excess of
$10,000,000, as compensation for the
organization of the Partnership. It is
anticipated that all Organizational and
Offering Expenses which include legal,
accounting and printing expenses; various
registration and filing fees; miscellaneous
expenses related to the organization and
formation of the Partnership; other costs of
registration; and costs incurred in
connection with the preparation, printing
and distribution of this Report and other
sales literature. The General Partner pays
all Organizational and Offering Expenses,
other than Underwriter's Commissions and a
non-accountable expense allowance payable to
the Dealer Manager which is equal to the
lesser of (i) one percent of the Offering
proceeds or (ii) $50,000.
OPERATIONAL AND SALE
OR LIQUIDATION STAGES
The General Partner Reimbursement of Expenses. The General $110,000 $0 $0
and its Affiliates and its Affiliates Partner are entitled to
reimbursement by the Partnership for the
cost of goods, supplies or services obtained
and used by the General Partner in
connection with the administration and
operation of the Partnership from third
parties unaffiliated with the General
Partner. In addition, the General Partner
and its affiliates are entitled to reimbursement
of certain expenses incurred by the General
Partner and its affiliates in connection with
the administration and operation of the
Partnership. The amounts set forth on this
table do not include expenses incurred in the
offering of Units.
The General Partner Equipment Acquisition Fee. An Equipment $203,000 $147,000 $123,000
Acquisition Fee of four percent of the Purchase
Price of each item of Equipment purchased as
compensation for the negotiation of the acquisition
of the Equipment and the lease thereof or sale
under a Conditional Sales Contract. The fee
is paid upon closing of the Offering with
respect to the Equipment purchased by the
Partnership with the net proceeds of the
Offering available for investment in Equipment.
If the Partnership acquires Equipment in an amount
exceeding the net proceeds of the
</TABLE>
43
<PAGE>
<TABLE>
<CAPTION>
AMOUNT AMOUNT AMOUNT
ENTITY RECEIVING INCURRED INCURRED INCURRED
COMPENSATION TYPE OF COMPENSATION DURING DURING DURING
1997 1996 1995
- ----------------- -------------------------------------------------- ----------- --------------- --------------
<S> <C> <C> <C> <C>
Offering available for
investment in Equipment, the fee is paid
when such Equipment is acquired
The General Partner Debt Placement Fee. As compensation for $27,000 $0 $0
arranging Term Debt to finance the
acquisition of Equipment by the Partnership,
a fee equal to one percent of such
indebtedness; provided, however, that such
fee is reduced to the extent the Partnership
incurs such fees to third parties,
unaffiliated with the General Partner or the
lender, with respect to such indebtedness
and no such fee is paid with respect to
borrowings from the General Partner or its
Affiliates.
The General Partner Equipment Management Fee. A monthly fee $122,000 $56,000 $5,000
equal to the lesser of (I) the fees which
would be charged by an independent third
party for similar services for similar
equipment or (ii) the sum of (a) two percent
of (1) the Gross Lease Revenues attributable
to Equipment which is subject to Full Payout
Net Leases which contain net lease
provisions plus (2) the purchase price paid
on Conditional Sales Contracts as received
by the Partnership and (b) five percent of
the Gross Lease Revenues attributable to
Equipment which is subject to Operating
Leases.
The General Partner Re-Lease Fee. As compensation for providing $0 $0 $0
re-leasing services for any Equipment for
which the General Partner has, following the
expiration of, or default under, the most recent
lease or Conditional Sales Contract, arranged a
subsequent lease or Conditional Sales
Contract for the use of such Equipment to a
lessee or other party, other than the
current or most recent lessee or other
operator of such equipment or its Affiliates
("Re-lease"), the General Partner will
receive, on a monthly basis, a Re-lease Fee
equal to the lesser of (a) the fees which
would be charged by an independent third
party for comparable services for comparable
equipment or (b) two percent of Gross Lease
Revenues derived from such Re-lease.
The General Partner Equipment Liquidation Fee. With respect to $0 $0 $0
each item of Equipment sold by the General
Partner (other than in connection with a
Conditional Sales Contract), a fee equal to
the lesser of (I) 50% of the Competitive
Equipment Sale Commission or (ii) three
percent of the sales price fo such
Equipment.
</TABLE>
44
<PAGE>
<TABLE>
<CAPTION>
AMOUNT AMOUNT AMOUNT
ENTITY RECEIVING INCURRED INCURRED INCURRED
COMPENSATION TYPE OF COMPENSATION DURING DURING DURING
1997 1996 1995
- --------------- ---------------------------------------------------- ------------ ------------- ----------------
<S> <C> <C> <C> <C>
The payment of such fee is
subordinated to the receipt by the Limited
Partners of (I) a return of their Capital
Contributions and 10% per annum cummmulative
return, compounded daily, on Adjusted
Capital Contributions ("Priority Return")
and (ii) the Net Disposition Proceeds from
such sale in accordance with the Partnership
Agreement. Such fee is reduced to the extend
any liquidation or resale fees are paid to
unaffiliated parties.
INTEREST IN THE PARTNERSHIP
The General Partner Partnership Interest. The General Partner $9,087 $6,080 $846
has a present and continuing one percent
interest of $1,000 in the Partnership's
items of income, gain, loss, deduction,
credit, and tax preference. In addition, the
General Partner receives one percent of Cash
Available for Distribution until the
Limited Partners have received distributions
of Cash Available for Distribution equal to
their Capital Contributions plus the 10%
Priority Return and thereafter, the General
Partner will receive 10% of Cash Available
for Distribution.
</TABLE>
ITEM 12: SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
NOT APPLICABLE
ITEM 13: CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The Partnership is subject to various conflicts on interest arising out
of its relationships with the General Partner and its Affiliates. These
conflicts include the following:
COMPETITION WITH GENERAL PARTNER AND AFFILIATES: COMPETITION FOR
MANAGEMENT'S TIME
The General Partner and its Affiliate sponsor other investor programs
which are in potential competition with the Partnership in connection with the
purchase of Equipment as well as opportunities to lease and sell such Equipment.
Competition for Equipment has occurred and is likely to occur in the future. The
General Partner and its Affiliates may also form additional investor programs
which may be competitive with the Partnership.
If one or more investor programs and the Partnership are in a position
to acquire the same Equipment, the General Partner will determine which program
will purchase the Equipment based upon the objectives of each and the
suitability of the acquisition in light of those objectives. The General Partner
will generally afford priority to the program or entity that has had funds
available to purchase Equipment for the longest period of time. If one or more
investor programs and the Partnership are in a position to enter into lease with
the same lessee or sell Equipment to the same purchaser, the General Partner
will generally afford priority to the Equipment which has been available for
lease or sale for the longest period of time.
Certain senior executives of the General Partner and its Affiliates
also serve as officers and directors of the other programs and are required to
apportion their time among these entities. The Partnership is, therefore, in
competition with the other programs for the attention and management time of the
General Partner and Affiliates. The officers and directors of the General
Partner are not required to devote all or substantially all of their time to the
affairs of the Partnership.
ACQUISITIONS
Com Cap Corp. and the General Partner or other Affiliates of the
General Partner may acquire Equipment for the Partnership provided that (i) the
Partnership has insufficient funds at the time the Equipment is acquired, (ii)
the acquisition is in the best interest of the partnership and (iii) no benefit
to the General Partner or its Affiliates arises from the acquisition except for
compensation paid to Com Cap Corp., the General Partner or such other Affiliate
as disclosed in this Report. Com Cap Corp., the General Partner or their
Affiliates will not hold Equipment for more than 60 days prior to transfer to
the Partnership. If sufficient funds become available to the Partnership within
such 60 day period, such Equipment may be resold to the Partnership for a price
not in excess of the sum of the cost of the Equipment to such entity and any
accountable Acquisition Expenses payable to third parties which are
45
<PAGE>
incurred by such entity and interest on the Purchase Price from the date of
purchase to the date of transfer to the Partnership. Com Cap Corp., the General
Partner or such other Affiliate will retain any rent or other payments received
for the Equipment, and bear all expenses and liabilities, other than accountable
Acquisition Expenses payable to third parties with respect to such Equipment,
for all periods prior to the acquisition of the Equipment by the Partnership.
Except as described above, there will be no sales of Equipment to or from any
Affiliate of Com Cap Corp.
In certain instances, the Partnership finds it necessary, in connection
with the ordering and acquisition of Equipment, to make advances to
manufacturers or vendors with funds borrowed from the General Partner for such
purpose. The Partnership does not borrow money from the General Partner or any
of its Affiliates with a term in excess of twelve months. Interest is paid on
loans or advances (in the form of deposits with manufacturers or vendors of
Equipment or otherwise) from the General Partner of its Affiliates from their
own funds at a rate equal to that which would be charged by third party
financing institutions on comparable loans from the same purpose in the same
geographic area, but in no event in excess of the General Partner's or
Affiliate's own cost of funds. In addition, if the General Partner or its
Affiliates borrow money and loan or advance it on a short-term basis to or on
behalf of the Partnership, the General Partnership than that which the General
Partner or such Affiliates are paying. The Partnership does not loan money to
any Person including the General Partner or its Affiliates except to the extent
that a Conditional Sales Contract constitutes a loan.
If the General Partner or any of its Affiliates purchases Equipment in
its own name and with its own funds in order to facilitate ultimate purchase by
the Partnership, the purchaser is entitled to receive interest on the funds
expended for such purchase on behalf of the Partnership. Simple interest on any
such temporary purchases is charged on a floating rate basis not in excess of
three percent over the "prime rate" from time to time announced by PNC Bank,
from the date of initial acquisition to the date of repayment by the
Partnership/ownership transfer.
The Partnership does not invest in equipment Limited Partnerships,
general partnerships or joint ventures, except that (a) the Partnership may
invest in general partnerships or joint ventures with persons other that
equipment Programs formed by the General Partner or its Affiliates, which
partnerships or joint ventures own specific equipment; provided that (i) the
Partnership has or acquires a controlling interest in such ventures or
partnerships, (ii) the non-controlling interest is owned by a non-Affiliated,
and (iii) the are no duplicate fees; and (b) the Partnership may invest in joint
venture arrangements with other equipment Programs formed by the General Partner
or its Affiliates if such action is in the best interest of all Programs and if
all the following conditions are met: (i) all the Programs have substantially
identical investment objectives; (ii) there are no duplicate fees; (iii) the
sponsor compensation is substantially identical in each Program; (iv) the
Partnership has a right of first refusal to buy another Program's interest in a
joint venture if the other Program wishes to sell equipment held in the joint
venture; (v) the investment of each Program is on substantially the same terms
and conditions; and (vi) the joint venture is formed either for the purpose of
effecting appropriated diversification for the Programs or for the purpose of
relieving the General Partner or its Affiliates from a commitment entered into
pursuant to certain provisions of the Partnership Agreement.
As of December 31, 1997, the Partnership was indebted to Com Cap Corp.
for approximately $68,000 in connection with the Partnership's reimbursable
expenses. The entire debt was satisfied in 1998.
As of December 31, 1995, the Partnership was indebted to Com Cap Corp.
for approximately $148,000 in connection with the Partnership's acquisition of
Equipment. The entire debt was satisfied in January 1996.
46
<PAGE>
GLOSSARY
The following terms used in this Report shall (unless otherwise expressly
provided herein or unless the context otherwise requires) have the meanings set
forth below.
"Acquisition Expenses" means expenses relating to the prospective selection
and acquisition of or investment in Equipment by the Partnership, whether or not
actually acquired, including, but not limited to, legal fees and expenses,
travel and communication expenses, costs of appraisal, accounting fees and
expenses and other related expenses.
"Acquisition Fees" means the total of all fees and commissions paid by any
party in connection with the initial purchase of Equipment acquired by the
Partnership. Included in the computation of such fees or commissions shall be
the Equipment Acquisition Fee and any commission, selection fee, construction
supervision fee, financing fee, non-recurring management fee or any fee of a
similar nature, however designated.
"Adjusted Capital Contributions" means Capital Contributions of the Limited
Partners reduced by any cash distribution received by the Limited Partners
pursuant to the Partnership Agreement, to the extent such distributions exceed
any unpaid Priority Return as of the date such distributions were made.
47
<PAGE>
"Affiliate" means, when used with reference to a specified Person, (i) any
Person, that directly or indirectly through one or more intermediaries controls
or is controlled by or is under common control with the specified Person, (ii)
any Person that is a director or an executive officer of, partner in, or serves
in a similar capacity to, the specified Person, or any Person of which the
specified Person is an executive officer or partner or with respect to which the
specified Person serves in a similar capacity, (iii) any Person owning or
controlling 10% or more of the outstanding voting securities of such specified
Person, or (iv) if such Person is an officer, director or partner, any entity
for which such Person acts in such capacity.
"Capital Account" means the bookkeeping account maintained by the
Partnership for each Partner.
"Capital Contributions" means in the case of the General Partner, the total
amount of money contributed to the Partnership by the General Partner, and in
the case of Limited Partners, $20 for each Unit, or where the context requires,
the total Capital Contributions of all the Partners.
"Cash Available for Distribution" means Cash Flow plus Net Disposition
Proceeds plus cash funds available for distribution from Partnership reserves,
less such amounts as the General Partner, in accordance with the Partnership
Agreement, causes the Partnership to reinvest in Equipment or interests therein,
and less such amounts as the General Partner, in its sole discretion, determines
should be set aside for the restoration or enhancement of Partnership reserves.
"Cash Flow" for any fiscal period means the sum of (i) cash receipts from
operations, including, but not limited to, rents or other revenues arising from
the leasing or operation of the Equipment and interest, if any, earned on funds
on deposit for the Partnership, but not including Net Disposition Proceeds,
minus (ii) all cash expenses and costs incurred and paid in connection with the
ownership, lease, management, use and/or operation of the Equipment, including,
but not limited to, fees for handling and storage; all interest expenses paid
and all repayments of principal regarding borrowed funds; maintenance; repair
costs; insurance premiums; accounting and legal fees and expenses; debt
collection expenses; charges, assessments or levies imposed upon or against the
Equipment; ad valorem, gross receipts and other property taxes levied against
the Equipment; and all costs of repurchasing Units in accordance with the
Partnership Agreement; but not including depreciation or amortization of fees or
capital expenditures, or provisions for future expenditures, including, without
limitation, Organizational and Offering Expenses.
"Closing Date" means May 12, 1997.
"Code" means the Internal Revenue Code of 1986, as amended, and as may be
amended from time to time by future federal tax statutes.
"Competitive Equipment Sale Commission" means that brokerage fee paid for
services rendered in connection with the purchase or sale of Equipment which is
reasonable, customary, and competitive in light of the size, type, and location
of the Equipment.
"Conditional Sales Contract" means an agreement to sell Equipment to a buyer
in which the seller reserves title to, and retains a security interest in, the
Equipment until the Purchase Price of the Equipment is paid.
"Effective Date" means January 13, 1995, the date on which the Partnership's
Registration Statement on Form S-1 was declared effective by the United States
Securities and Exchange Commission.
"Equipment" means each item of and all of the computer peripheral and
other similar capital equipment purchased, owned, operated, and/or leased by
the Partnership or in which the Partnership has acquired a direct or indirect
interest, together with all appliances, parts, instruments, accessories,
furnishings, or other equipment included therein and all substitutions,
renewals, or replacements of, and all additions, improvements, and accessions
to, any and all thereof.
48
<PAGE>
"Full Payout Net Lease" means an initial Net Lease of the Equipment under
which the non-cancelable rental payments due (and which can be calculated at
the commencement of the Net Lease) during the initial noncancellable fixed
term (not including any renewal or extension period) of the lease or other
contract for the use of the Equipment are at least sufficient to recover the
Purchase Price of the Equipment.
"General Partner" means Commonwealth Income & Growth Fund, Inc. and any
additional, substitute or successor general partner of the Partnership.
"Gross Lease Revenues" means Partnership gross receipts from leasing or
other operation of the Equipment, except that, to the extent the Partnership
has leased the Equipment from an unaffiliated party, it shall mean such
receipts less any lease expense.
"Initial Closing" means September 22, 1995, the date after the Minimum
Subscription Amount was received on which funds to acquire Units were released
from the Escrow Account and distributed to the Partnership for the acquisition
of Units by Limited Partners.
"IRS" means the Internal Revenue Service.
"Limited Partner" means a Person who acquires Units and who is admitted
to the Partnership as a limited partner in accordance with the terms of the
Partnership Agreement.
"Majority in Interest" means, with respect to the Partnership, Limited
Partners holding more than 50% of the outstanding Units held by all Limited
Partners at the Record Date for any vote or consent of the Limited Partners.
"Minimum Subscription Amount" means an aggregate of $2,500,000 in
Subscriptions.
"Net Disposition Proceeds" means the net proceeds realized by the
Partnership from the refinancing, sale or other disposition of Equipment,
including insurance proceeds or lessee indemnity payments arising from the
loss or destruction of Equipment, less such amounts as are used to satisfy
Partnership liabilities.
"Net Lease" means a lease or other contract under which the owner
provides equipment to a lessee or other operator in return for a payment, and
the lessee assumes all obligations and pays for the operation, repair,
maintenance and insuring of the equipment.
"Net Profits" or "Net Losses" shall be computed in accordance with
Section 703(a) of the Code (including all items of income, gain, loss or
deduction required to be stated separately pursuant to Section 703(a)(1) of
the Code) for each taxable year of the Partnership or shorter period prior or
subsequent to an interim closing of the Partnership's books with the
following adjustments: (i) any income of the Partnership that is exempt from
federal income tax and not otherwise taken into account in computing Net
Profits and Net Loss pursuant to this definition shall be added to such
taxable income or shall reduce such taxable loss; (ii) any expenditure of the
Partnership described in Code Section 705(a)(2)(B) or treated as Code Section
705(a)(2)(B) expenditures pursuant to Treasury Regulations Section
1.704-1(b)(2)(iv)(i) and not otherwise taken into account in computing Net
Profits and Net Losses pursuant to this definition shall be subtracted from
such taxable income or loss; (iii) items of income, gain, loss and deduction
specially allocated pursuant to Section 7.3 of the Partnership Agreement
shall not be included in the computation of Net Profits or Net Loss; and if
property is reflected on the books of the Partnership at a book value that
differs from the adjusted tax basis of the property in accordance with
Treasury Regulation Section 1.704-1(b)(2)(iv)(d) or (f), depreciation,
amortization, and gain or loss with respect to such property shall be
determined by reference to such book value in a manner consistent with
Treasury Regulation Section 1.704-1(b)(2)(iv)(g). The terms "Net Profit" or
"Net Losses" shall include the Partnership's distributive share of the profit
or loss of any partnership or joint venture in which it is a partner or joint
venturer.
"Offering" means the initial public offering of Units in the Partnership.
49
<PAGE>
"Offering Period" means the period commencing the Effective Date and
ending the last day of the calendar month in which the Closing Date occurs.
"Operating Distributions" means the quarterly distributions made to the
Partners pursuant to Article 8 of the Partnership Agreement.
"Operating Lease" means a lease or other contractual arrangement under
which an unaffiliated party agrees to pay the Partnership, directly or
indirectly, for the use of the Equipment, and which is not a Full Payout Net
Lease.
"Organizational and Offering Expenses" means the expenses incurred in
connection with the organization of the Partnership and in preparation of the
Offering, including Underwriting Commissions, listing fees and advertising
expenses specifically incurred in connection with the distribution of the
Units.
"Partner(s)" means any one or more of the General Partner and the Limited
Partners.
"Partnership" means Commonwealth Income & Growth Fund II, a Pennsylvania
limited partnership.
"Partnership Agreement" means that Limited Partnership Agreement of
Commonwealth Income & Growth Fund II by and among the General Partner and the
Limited Partners, pursuant to which the Partnership is governed.
"Person" means an individual, partnership, limited liability company,
joint venture, corporation, trust, estate or other entity.
"Priority Return" means an amount equal to a return at a rate of 10% per
annum, compounded daily, on the Adjusted Capital Contribution for all
outstanding Units, which amount shall begin accruing at the end of the
calendar quarter in which such Units are sold by the Partnership.
"Proceeds" means proceeds from the sale of the Units.
"Program" means a limited or general partnership, joint venture,
unincorporated association or similar organization, other than a corporation
formed and operated for the primary purpose of investment in and the
operation of or gain from an interest in Equipment.
"Purchase Price" means, with respect to any Equipment, an amount equal to
the sum of (i) the invoice cost of such Equipment or any other such amount
paid to the seller, (ii) any closing, delivery and installation charges
associated therewith not included in such invoice cost and paid by or on
behalf of the Partnership, (iii) the cost of any capitalized modifications or
upgrades paid by or on behalf of the Partnership in connection with its
purchase of the Equipment, and (iv) solely for purposes of the definition of
Full Payout Net Lease, the amount of the Equipment Acquisition Fee and any
other Acquisition Fees.
"Retained Proceeds" means Cash Available for Distribution, which instead
of being distributed to the Partners is retained by the Partnership for the
purpose of acquiring or investing in Equipment.
"Term Debt" means debt of the Partnership with a term in excess of twelve
months, incurred with respect to acquiring or investing in Equipment, or
refinancing non-Term Debt, but not debt incurred with respect to refinancing
existing Partnership Term Debt.
"Unit" means a limited partnership interest in the Partnership.
50
<PAGE>
PART IV
ITEM 14: EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a)(1) FINANCIAL STATEMENTS.
Commonwealth Income & Growth Fund II
Report of Independent Auditors
Balance Sheet as of December 31, 1997 and 1996
Statements of Operations for the year ended December 31, 1997 and 1996
Statements of Partners' Capital for the year ended December 31, 1997
and 1996
Statements of Cash Flows for the year ended December 31, 1997, and
1996
Notes to Financial Statements
Commonwealth Income & Growth Fund, Inc.
Report of Independent Auditors
Balance Sheet as of February 28, 1997
Notes to Balance Sheet
Commonwealth Capital Corp.
Report of Independent Auditors
Consolidated Balance Sheet as of February 28, 1997
Notes to Consolidated Balance Sheet
(a)(2) SCHEDULES.
Schedules are omitted because
they are not applicable, not required,
or because the required information is included
in the financial statements and notes thereto.
(a)(3) EXHIBITS.
* 3.1 Certificate of Limited Partnership
** 3.2 Agreement of Limited Partnership
** 10.1 Agency Agreement dated as of May 12, 1995 by and
among the Partnership, the General Partner and Wheat,
First Securities, Inc.
27 Financial Data Schedule
* Incorporated by reference from the Partnership's
Registration Statement on Form S-1 (Registration No.
33-89476)
** Incorporated by reference for the Partnership's
Annual Report on Form 10-K for the year ended Decmeber
31, 1995.
(b) REPORTS ON FORM 8-K.
NOT APPLICABLE
(c) EXHIBITS.
51
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 15(d) of the Securities Exchange Act
of 1934, the Registrant has duly caused this Report to be signed on its behalf
on April 9, 1998 by the undersigned thereunto duly authorized.
COMMONWEALTH INCOME & GROWTH FUND II
By: COMMONWEALTH INCOME & GROWTH
FUND, INC., General Partner
By: /s/ George S. Springsteen
George S. Springsteen, President
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 indicated on April 9, 1998.
SIGNATURE CAPACITY
- ------------------------------ ---------------------------
/s/ GEORGE S. SPRINGSTEEN Chairman, President and Sole Director of
- ------------------------------ Commonwealth Income & Growth Fund, Inc.
George S. Springsteen
/s/ KIMBERLY A. MACDOUGALL Executive Vice President,
- ------------------------------ Chief Operating Officer
Kimberly A. MacDougall
/s/ DAVID A. KINTZER Vice President and Chief Financial Officer
- ------------------------------ of Commonwealth Income & Growth
David A. Kintzer Fund, Inc.
/s/ KATHLEEN S. ENSCOE Controller of Commonwealth Income & Growth Fund,
- ------------------------------ Inc.
Kathleen S. Enscoe
52
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