As filed with the Securities and Exchange Commission on September 11, 1998
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------------------------
FORM 10-K/A
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 1997
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 14 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission File No. 0-26392
------------------------------------------
LEVEL 8 SYSTEMS, INC.
(Exact name of registrant as specified in its charter)
New York 11-2920559
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or organization) Identification No.)
1250 Broadway, 35th Floor
New York, New York 10001
(Address of principal executive offices) (Zip Code)
(212) 244-1234
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: Common Stock,
$.01 par value
------------------------------------------
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. [ ]
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No ___.
The aggregate market value of the voting Common Stock held by
non-affiliates of the registrant was $37,560,987 based on the price of the last
reported sale on the over-the-counter National Market System on March 18, 1998
reported by NASDAQ.
As of March 18, 1998, there were 7,049,192 shares of Common Stock, $.01 par
value, outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
The responses to items 10, 11, 12, and 13 herein are incorporated by
reference to certain information in the Company's Definitive Proxy Statement for
its Annual Meeting of Shareholders to be held May 11, 1998.
<PAGE>
Item 6. Selected Financial Data
-----------------------
The selected financial data presented below has been derived from the
Company's Consolidated Financial Statements. This data should be read in
conjunction with "Management's Discussion and Analysis of Financial Condition
and Operations" and the Consolidated Financial Statements.
For 1997, the following data includes ASU, ProfitKey, Level 8 and Level 8
Technologies. For 1996, the following data includes ASU, ProfitKey, Level 8 and
Level 8 Technologies for the full year and Bizware Computer Systems (Canada)
Inc. ("Bizware") until its sale in September 1996. For 1995, the following data
includes ASU, ProfitKey, Level 8 and Bizware for the full year and Level 8
Technologies since its acquisition on April 1, 1995. For 1994, the following
data includes ASU, ProfitKey since its acquisition on October 3, 1994 and
Bizware since its acquisition on October 28, 1994. Periods prior to 1994 include
only the operations of ASU. ProfitKey and Bizware are included with discontinued
operations.
SELECTED STATEMENT OF OPERATIONS DATA
<TABLE>
<CAPTION>
Year Ended December 31,
-----------------------
<S> <C> <C> <C> <C> <C>
1993 1994 1995 1996 1997
---- ---- ---- ---- ----
Revenue from continuing operations $1,312,935 $ 1,660,453 $3,011,851 $7,271,602 $14,679,988
Revenue from discontinued operations 1,936,149 7,127,173 5,803,736 5,545,292
Net income (loss)
Continuing operations (32,712) 25,893 (429,257) (845,285) 1,036,107
Discontinued operations 537,697 1,047,306 (1,524,112) 52,856
Net income (loss) per common and
common equivalent share - basic
Continuing operations ( .01) .01 ( .10) ( .14) .15
Discontinued operations .14 .24 ( .25) .01
Net income (loss) per common and
common equivalent share - diluted
Continuing operations ( .01) .01 ( .10) ( .14) .13
Discontinued operations .14 .24 ( .25) .01
Weighted average common and common
equivalent shares outstanding - basic 3,839,166 3,839,166 4,314,106 6,076,103 6,992,398
Weighted average common and common
equivalent shares outstanding - diluted 3,839,166 3,839,166 4,403,004 6,076,103 7,561,084
SELECTED BALANCE SHEET DATA
At December 31,
1993 1994(1) 1995(1) 1996 1997
---- ---- ---- ---- ----
Working capital (deficiency) $ 290,991 $ (1,679,294) $ 4,103,621 $ 11,007,583 $15,825,883
Total assets 438,340 5,848,838 15,059,108 20,787,075 23,482,687
Long-term debt, net of current maturities 6,771 19,053 43,975 23,297 15,518
Loans from related companies, net of
current maturities 418,900 2,015,165 453,847 330,706 201,751
Shareholders' equity (deficit) (85,407) 489,729 11,498,535 18,300,153 20,371,623
(1) As originally reported, not adjusted for discontinued operations.
</TABLE>
2
<PAGE>
Item 8. Financial Statements and Supplementary Data
-------------------------------------------
REPORT OF INDEPENDENT CERTIFIED
PUBLIC ACCOUNTANTS
Board of Directors
Level 8 Systems, Inc. and Subsidiaries
We have audited the consolidated balance sheet of Level 8 Systems, Inc. and
Subsidiaries as of December 31, 1997, and the related consolidated statements of
operations, shareholders' equity and cash flows for the year then ended. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements 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 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 audit provides a reasonable basis for our opinion.
In our opinion, the 1997 financial statements referred to above present fairly,
in all material respects, the consolidated financial position of Level 8
Systems, Inc. and Subsidiaries as of December 31, 1997, and the consolidated
results of their operations and their consolidated cash flows for the year then
ended, in conformity with generally accepted accounting principles.
We have also audited Schedule II for the year ended December 31, 1997, listed in
the Index at Item 14(b)2. In our opinion, this schedule for the year ended
December 31, 1997 presents fairly, in all material respects, the information
required to be set forth therein.
/s/ GRANT THORNTON LLP
New York, New York
February 23, 1998 (except for Note N, as to which the date is February 27, 1998
and Note H, as to which the date is April 6, 1998)
3
<PAGE>
INDEPENDENT AUDITOR'S REPORT
Shareholders and Board of Directors
Level 8 Systems, Inc.
We have audited the accompanying consolidated balance sheet of LEVEL 8 SYSTEMS,
INC. AND SUBSIDIARIES as of December 31, 1996, and the related consolidated
statements of operations, changes in shareholders' equity, and cash flows for
each of the two years in the period ended December 31, 1996.
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
misstatements. 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 consolidated financial position of LEVEL 8 SYSTEMS,
INC. AND SUBSIDIARIES as of December 31, 1996, and the consolidated results of
their operations and their cash flows for each of the two years in the period
ended December 31, 1996, in conformity with generally accepted accounting
principles.
/s/ LURIE, BESIKOF, LAPIDUS & CO., LLP
Minneapolis, Minnesota
January 31, 1997, except for Note H, as to which the date is April 6, 1998
<PAGE>
<TABLE>
<CAPTION>
Level 8 Systems, Inc. and Subsidiaries
CONSOLIDATED BALANCE SHEETS
December 31, 1997 and 1996
<S> <C> <C>
ASSETS 1997 1996
---- ----
CURRENT ASSETS
Cash and cash equivalents $ 7,062,275 $ 3,318,252
Marketable securities - 6,524,758
Accounts receivable, less allowance for doubtful
accounts of $433,900 and $197,400, respectively 6,455,041 2,410,755
Income taxes receivable 405,525 591,004
Inventory 336,310 -
Prepaid expenses and other assets 421,235 169,533
Net assets of discontinued operation 3,577,292 -
----------- ------------
Total current assets 18,257,678 13,014,302
PROPERTY AND EQUIPMENT 973,747 685,876
OTHER ASSETS
Excess of cost over net assets of businesses
acquired, net 1,793,375 2,215,347
Software development costs, net 2,167,980 1,149,532
Deposits and deferred costs 289,907 47,200
Net assets of discontinued operations - 3,674,818
---------
4,251,262 7,086,897
---------
$23,482,687 $20,787,075
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Current maturities of loan from related company $ 128,000 $ 122,000
Current maturities of long-term debt 7,170 8,593
Accounts payable 1,935,792 862,586
Accrued expenses 224,246 328,931
Net liabilities of discontinued operations - 535,009
Customer deposits 29,687 -
Deferred revenue 12,500 -
Deferred income taxes 94,400 149,600
-----------
Total current liabilities 2,431,795 2,006,719
--------- ---------
OTHER LIABILITIES
Loan from related company, net of current maturities 201,751 330,706
Long-term debt, net of current maturities 15,518 23,297
Deferred income taxes 462,000 126,200
------- -------
679,269 480,203
------- -------
COMMITMENTS - -
SHAREHOLDERS EQUITY
Preferred stock, $.01 par value (authorized -
1,000,000 shares; no shares issued and outstanding) - -
Common stock, $.01 par value (authorized -
15,000,000 shares; issued and outstanding -
7,044,634 and 6,954,366, respectively) 70,446 69,543
Additional paid-in capital 20,603,498 19,506,914
Accumulated deficit (184,212) (1,273,175)
Unearned compensation (118,109) (3,129)
------------- ---------------
20,371,623 18,300,153
---------- ----------
$23,482,687 $20,787,075
========== ==========
The accompanying notes are an integral part of these statements.
</TABLE>
4
<PAGE>
Level 8 Systems, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF OPERATIONS
Years ended December 31,
<TABLE>
<CAPTION>
<S> <C> <C> <C>
1997 1996 1995
---- ---- ----
REVENUE
Consulting and service $10,170,622 $ 5,521,050 $ 2,951,880
Software 4,354,112 1,485,017 -
Other 155,254 265,535 59,971
------------- ------------ --------------
14,679,988 7,271,602 3,011,851
------------- ----------- --------------
COST OF REVENUE
Consulting and service 4,995,133 3,055,840 2,098,132
Software 2,638,479 1,421,669 -
Other 39,966 38,885 53,755
------------- ------------- --------------
7,673,578 4,516,394 2,151,887
------------- ----------- --------------
GROSS MARGIN 7,006,410 2,755,208 859,964
------------- ----------- --------------
OPERATING EXPENSES
Selling, general and administrative 5,435,346 3,497,527 1,171,348
Amortization of goodwill 432,422 421,971 320,827
------------- ------------ --------------
5,867,768 3,919,498 1,492,175
------------
OPERATING INCOME (LOSS) BEFORE GAIN
(LOSS) ON SALE OF BUSINESSES 1,138,642 (1,164,290) (632,211)
Gain on sale of business 60,278 - -
------------- ------------
OPERATING INCOME (LOSS) 1,198,920 (1,164,290) (632,211)
------------- ------------ --------------
OTHER INCOME (EXPENSE)
Interest income 409,792 170,031 121,729
Interest expense (19,905) (25,126) (14,575)
------------- ------------ --------------
389,887 144,905 107,154
------------ --------------
INCOME (LOSS) BEFORE INCOME TAXES 1,588,807 (1,019,385) (525,057)
INCOME TAX EXPENSE (BENEFIT) 552,700 (174,100) (95,800)
--------- --------------
INCOME (LOSS) OF CONTINUING
OPERATIONS 1,036,107 (845,285) (429,257)
------------- ---------
DISCONTINUED OPERATIONS
Income (loss) on discontinued operations, net
of income tax expense of $138,200, $26,400
and $374,500 52,856 (40,051) 1,047,306
Loss on the sale of discontinued operation, net
of income tax expense of $0 - (1,484,061) -
------------- ------------
52,856 (1,524,112) 1,047,306
-------------
NET INCOME (LOSS) $ 1,088,963 $ (2,369,397) $ 618,049
=========== ============ ============
NET INCOME (LOSS) PER COMMON SHARE-
BASIC
Continuing Operations $.15 $(.14) $(.10)
Discontinued Operations .01 (.25) .24
---- ----- ----
Total $.16 $(.39) $.14
==== ====== ====
NET INCOME (LOSS) PER COMMON SHARE-
DILUTED
Continuing Operations $.13 $(.14) $(.10)
Discontinued Operations .01 (.25) .24
---- ---- ----
Total $.14 $(.39) $.14
==== ----- ====
The accompanying notes are an integral part of these statements.
</TABLE>
5
<PAGE>
Level 8 Systems, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF CHANGES IN
SHAREHOLDERS' EQUITY
Years ended December 31, 1997, 1996 and 1995
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C> <C> <C> <C>
Foreign
Additional Retained currency
Common stock paid-in earnings Unearned translation
Shares Amount capital (deficit) compensation adjustments Total
------ ------ ------- --------- ------------ ----------- -----
Balance at December 31, 1994 3,009,119 $16,710 $ -- $ 478,173 $ -- $ (5,154) $ 489,729
Recapitalization -- 10,179 (10,179) -- -- -- --
Common stock issued:
Prior to initial public
offering 394,315 3,943 521,057 -- -- -- 525,000
Level 8 Technologies
acquisition 525,159 5,252 1,570,225 -- -- -- 1,575,477
Conversion of loan from
related company to equity 471,264 4,713 2,045,287 -- -- -- 2,050,000
Initial public offering 1,430,000 14,300 5,913,063 -- -- -- 5,927,363
Conversion of minority
common shares of
ProfitKey 91,344 913 273,119 -- -- -- 274,032
Stock options 1,209 12 988 -- -- -- 1,000
Other 19,801 3,400 -- -- -- -- 3,400
Common stock repurchased (19,801) (198) (3,202) -- -- -- (3,400)
Net income -- -- -- 618,049 -- -- 618,049
Unearned compensation related --
to issuance of stock options -- 68,285 -- (68,285) -- --
Adjustment of unearned
compensation -- -- (7,341) -- 34,962 -- 27,621
Foreign currency translation
adjustment -- -- -- -- -- 10,264 10,264
---------- ------ ---------- --------- --------- ------ ---------
Balance at December 31, 1995 5,922,410 59,224 10,371,302 1,096,222 (33,323) 5,110 11,498,535
Common stock issued:
Candle Corporation 246,800 2,468 2,607,274 -- -- -- 2,609,742
Public offering 705,000 7,050 6,470,147 -- -- -- 6,477,197
Stock options 80,156 801 58,191 -- -- -- 58,992
Net loss -- -- -- (2,369,397) -- -- (2,369,397)
Adjustment of unearned
compensation -- -- -- -- 30,194 -- 30,194
Foreign currency translation -- --
adjustment -- -- -- (5,110) (5,110)
---------- ------ ---------- ---------- ------- ------- ------------
Balance at December 31, 1996 6,954,366 69,543 19,506,914 (1,273,175) (3,129) -- 18,300,153
Stock options and warrants (net 90,268 903 506,549 -- -- -- 507,452
of 29,546 shares surrendered)
Additional public offering costs -- -- (137,365) -- -- -- (137,365)
Net income -- -- -- 1,088,963 -- -- 1,088,963
Unearned compensation related
to issuance of nonemployee
stock options -- -- 263,400 -- (263,400) -- --
Adjustment of unearned
compensation -- -- -- -- 148,420 -- 148,420
Tax benefit from stock plans -- -- 464,000 -- -- -- 464,000
---------- ------ ---------- ---------- --------- ----------
Balance at December 31, 1997 7,044,634 $70,446 $20,603,498 $ (184,212) $(118,109) $ -- $20,371,623
========= ====== ========== =========== ======== ============ ==========
The accompanying notes are an integral part of these statements.
</TABLE>
6
<PAGE>
Level 8 Systems, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended December 31,
<TABLE>
<CAPTION>
<S> <C> <C> <C>
1997 1996 1995
---- ---- ----
Cash flows from operating activities
Net income (loss) $ 1,088,963 $ (2,369,397) $ 618,049
Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities
(Income) loss from discontinued operations (52,856) 40,051 (1,047,306)
Depreciation 228,394 35,979 22,842
Amortization 559,372 421,971 320,827
(Gain) loss on sale of businesses (60,278) 1,484,061 --
Deferred income taxes 280,600 89,700 (19,800)
Nonemployee stock options expense 120,291 -- --
Accrued interest income -- -- (45,190)
Changes in operating assets and liabilities, exclusive
of those arising from business acquisitions and sales
Accounts receivable (4,044,286) (1,804,053) (456,126)
Income taxes 675,473 (518,071) (88,635)
Inventory (336,310) 4,000 (4,000)
Prepaid expenses and other assets (251,702) (83,221) (58,718)
Deposits and deferred costs (242,707) (18,088) (21,527)
Accounts payable 1,073,206 710,698 80,875
Accrued expenses (104,685) 219,107 88,189
Customer deposits 29,687 -- --
Deferred revenue 12,500 -- --
Change in net assets of discontinued operations 507,485 726,247 1,575,121
----------- ----------- ---------
Net cash provided by (used in) operating activities (516,853) (1,061,016) 964,601
----------- ----------- -----------
Cash flows from investing activities
Purchase of marketable securities (1,998,128) (6,524,758) (1,999,772)
Redemption of marketable securities 8,522,886 2,044,962 --
Purchases of property and equipment (516,265) (412,485) (301,109)
Software development costs (1,155,848) (1,182,010) (203,484)
Employee advances (repayments) -- (101,824) (9,033)
Proceeds from sale of businesses 65,000 156,667 --
Cost of acquisitions -- -- (2,151,302)
Cash acquired in acquisitions -- -- 5,669
Change in net assets of discontinued operations (887,998) (1,191,863) (1,149,336)
----------- ----------- -------------
Net cash provided by (used in) investing activities 4,029,647 (7,211,311) (5,808,367)
----------- ----------- -----------
</TABLE>
7
<PAGE>
Level 8 Systems, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
Years ended December 31,
<TABLE>
<CAPTION>
<S> <C> <C> <C>
1997 1996 1995
---- ---- ----
Cash flows from financing activities
Proceeds from issuance of common stock -- $10,469,800 $ 8,393,400
Cost of issuance of common stock $ (137,365) (1,382,861) (1,937,637)
Proceeds from exercise of stock options 507,452 58,992 1,000
Repurchase of common stock -- -- (3,400)
Payments on loans from related companies (122,918) (118,141) (907,325)
Loans from related companies -- -- 1,513,007
Payments on long-term debt (9,239) (9,613) (18,008)
Proceeds from long-term debt -- -- 52,740
Change in net assets of discontinued operations (6,701) (38,619) (44,687)
---------- ---------- ---------
Net cash provided by financing activities 231,229 8,979,558 7,049,090
---------- ---------- ----------
NET INCREASE IN CASH AND
CASH EQUIVALENTS 3,744,023 707,231 2,205,324
Cash and cash equivalents at beginning of year 3,318,252 2,611,021 405,697
---------- ----------- -----------
Cash and cash equivalents at end of year $ 7,062,275 $ 3,318,252 $ 2,611,021
========== =========== ==========
Supplemental disclosures of cash flow information Cash paid during the year for:
Interest $ 19,905 $ 25,121 $ 14,575
Income taxes 10,610 92,297 315,712
Supplemental disclosures of noncash financing and
investing activities
Acquisitions of Level 8 Technologies (Note B)
Cost of net assets acquired -- -- 3,575,477
Additional direct costs -- -- 151,302
Common stock issued -- -- (1,575,477)
---------- ----------- -----------
Cash cost of acquisition -- -- 2,151,302
Financed the sale of a subsidiary -- 73,333 --
Converted loans from related companies into
471,264 shares of common stock -- -- 2,050,000
Computer equipment acquired through capital lease 60,318 -- --
Deferred unearned compensation related to
issuance of nonemployee stock options 25,000 -- --
The accompanying notes are an integral part of these statements.
</TABLE>
8
<PAGE>
Level 8 Systems, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1997, 1996 and 1995
NOTE A - DESCRIPTION OF THE COMPANY AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES
1. The Company
Level 8 Systems, Inc. (Level 8) develops and sells proprietary
vertical application software packages and provides software
consulting and support services to customers located primarily in the
United States and Canada. Level 8 Technologies, Inc. (Level 8
Technologies), a wholly-owned subsidiary, specializes in
transactional messaging middleware and distributed object technology.
Level 8 Technologies provides consulting services to the financial
services industry and to computer hardware and software providers,
and has begun to package portions of its distributed objects for sale
to the financial services industry. Level 8 Technologies also sells
third-party software through licensing agreements. ProfitKey
International, Inc. (ProfitKey), a wholly-owned subsidiary, provided
computer consulting services and sold turnkey manufacturing resource
planning (MRP II) and scheduling software packages to manufacturing
companies. ProfitKey was sold in 1998. Bizware Computer Systems
(Canada) Inc. (Bizware), a wholly-owned subsidiary until its sale on
September 9, 1996, sold software packages that provided cost
information used by the petroleum and retail industries to manage and
control individual retail outlets and groups of outlets.
ProfitKey and Bizware are reported as discontinued operations.
Liraz Systems Ltd. and its wholly-owned subsidiaries own
approximately 52% of Level 8's common stock at December 31, 1997.
All disclosures relate to continuing operations unless otherwise
stipulated.
2. Principles of Consolidation
The consolidated financial statements include the accounts of Level
8, its U.S. subsidiaries, ProfitKey and Level 8 Technologies, and its
Canadian subsidiary, Bizware (through September 9, 1996),
collectively referred to as the Company. All intercompany accounts
and transactions are eliminated in consolidation.
3. Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts and disclosures in
these financial statements and accompanying notes. Actual results
could differ from those estimates. Significant management estimates
relate to the capitalization and amortization of software development
costs, amortization periods for intangible assets, the allowance for
doubtful accounts, and the valuation allowance for deferred tax
assets.
4. Foreign Currency Translation
Revenue and expenses of Bizware were translated at the average
exchange rates prevailing during the years.
5. Fair Value of Financial Instruments
The carrying amounts of financial instruments consisting of cash,
marketable securities, receivables, long-term debt, and accounts
payable approximate their fair values. It is not practicable to
determine the fair value of the loan from the related company due to
the related party nature of the transaction.
9
<PAGE>
6. Revenue Recognition
The Company recognizes revenue from the sale of a software and
hardware system at the time of the installation of the system,
provided no significant obligations remain and collection of the
resulting receivable is deemed probable. Revenue from add-on hardware
sales is recognized when the hardware is shipped to the customer.
Revenue related to service contracts is recognized ratably over the
terms of the contracts. Any unearned receipts from service contracts
result in deferred revenue. Consulting and specialized software
development revenue is recognized as services are rendered.
7. Cash Equivalents and Marketable Securities
The Company considers all highly liquid investments purchased with
original maturities of three months or less to be cash equivalents.
Investments with original maturities in excess of three months are
classified as marketable securities based on the maturity date.
Marketable securities at December 31, 1996, consisting of U.S.
Government agency bonds, are considered to be "available for sale,"
and are reported at cost which approximates fair market value.
The Company maintains cash and cash equivalents in bank deposit
accounts which, at times, may exceed federally insured limits. The
Company has not experienced any losses in such accounts and does not
believe it is exposed to any significant credit risk on cash and cash
equivalents.
8. Inventory
Inventory is valued at the lower of cost (first-in, first-out) or
market and consists of purchased computers, software and related
equipment.
9. Property and Equipment
Property and equipment are stated at cost less accumulated
depreciation. Depreciation is provided using primarily the
straight-line method over the estimated useful lives of the assets,
primarily five to seven years.
10. Excess of Cost Over Net Assets Acquired
The excess of the purchase price and related costs over the fair
value of the net assets of businesses acquired (goodwill) is
amortized on a straight-line basis. The goodwill related to the Level
8 Technologies acquisition is amortized over seven years and that
related to the Bizware acquisition was over ten years. The remaining
Bizware goodwill was written off when Bizware was sold. The Company
periodically assesses the recoverability of goodwill by determining
whether the amortization of the balance over its remaining life can
be recovered through undiscounted future operating cash flows of the
acquired operations. Accumulated amortization of goodwill was
$1,160,423 and $738,450 at December 31, 1997 and 1996, respectively.
11. Software Development Costs
The Company capitalizes qualifying software development costs after
having established technological feasibility and ends capitalization
when the product is available for release to customers, consistent
with Statement of Financial Accounting Standards (SFAS) No. 86. The
Company amortizes such costs over a three-year period or the expected
useful life of the product, whichever is shorter. Development costs
which are principally attributable to enhancements and modifications
of existing products, and which are expected to provide little or no
future revenue, are charged to current period operations. Accumulated
10
<PAGE>
amortization was $121,248 at December 31, 1997. Amortization of
in-process software development costs totaling $1,742,063 has not
begun as of December 31, 1997.
12. Accounting for Stock-Based Compensation
The Company accounts for employee stock options under Accounting
Principles Board Opinion (APB) No. 25 and provides the pro forma
disclosures required by SFAS No. 123.
13. Net Income (Loss) Per Common Share
In February 1997, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 128, Earnings per
Share (SFAS 128). SFAS 128 specifies the compilation, presentation
and disclosure requirements for earnings per share for entities with
publicly held common stock or potential common stock. The
requirements of this statement are effective for interim and annual
periods ending after December 15, 1997. All prior years were restated
in accordance with SFAS 128.
Net income (loss) per common share-basic is determined by dividing
the net income (loss) by the weighted average number of shares of
common stock outstanding. Net income (loss) per common share-diluted
is determined by dividing the net income (loss) by the weighted
number of shares outstanding and dilutive common equivalent shares
from stock options and warrants.
14. Research and Development Costs
Research and development costs are expensed when incurred. Research
and development expenses were approximately $1,057,468 and $530,541
for the years ended December 31, 1997 and 1996, respectively.
15. Advertising Expenses
The Company expenses advertising costs as incurred. Sales brochures
and materials are carried as prepaid expenses until they are consumed
or determined to be obsolete. Advertising expenses were approximately
$357,843, $154,434, and $45,366 for the years ended December 31,
1997, 1996 and 1995, respectively.
16. Reclassifications
Certain reclassifications were made to the 1996 and 1995 financial
statements to conform with the 1997 presentation, and other
reclassifications were made for all years to separately present
discontinued operations.
17. Recent Accounting Pronouncement
In June 1997, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 130, Reporting
Comprehensive Income ("SFAS 130"). SFAS 130 establishes standards for
reporting and display of comprehensive income and its components in a
full set of general purpose financial statements. The requirements of
this statement will be effective for both interim and annual periods
beginning after December 15, 1997. Management does not believe the
implementation of SFAS 130 will have a material effect on the
financial statements.
The FASB has issued SFAS No. 131, "Disclosures About Segments of an
Enterprise and Related Information" ("SFAS No. 131"). SFAS No. 131
changes how operating segments are reported in annual financial
statements and requires the reporting of selected information about
operating segments in interim financial reports issued to
shareholders. SFAS No. 131 is effective for periods beginning after
December 15, 1997, and comparative information for earlier years is
to be restated. SFAS No. 131 need not be applied to interim financial
statements in the initial year of its application. The Company is in
the process
11
<PAGE>
of evaluating the disclosure requirements. The adoption of SFAS No.
131 will have no impact on the Company's consolidated results of
operations, financial position or cash flows.
In October 1997, the American Institute of Certified Public
Accountants has issued Statement of Position 97-2 ("SOP 97-2"),
Software Revenue Recognition, which is effective for transactions
entered into in fiscal years beginning after December 15, 1997.
Retroactive application of the provisions of this SOP is prohibited.
The SOP 97-2 provides guidance on applying generally accepted
accounting principles in recognizing revenue on software
transactions. This SOP supersedes SOP 91-1, Software Revenue
Recognition. The effect of adopting this new standard has not been
determined.
18. Deferred Costs
The Company has deferred costs of $178,374 relating to a proposed
acquisition (Note N) and of $51,471 relating to a proposed common
stock offering. The deferred acquisition costs will be recorded as
part of the purchase price of the acquisition, while the offering
costs will be a reduction of the offering proceeds. There can be no
assurance that either transaction will be consummated. If
unsuccessful, the costs will be charged to operations.
NOTE B - ACQUISITION
Effective April 1, 1995, the Company purchased all of the stock of Level 8
Technologies, Inc. (Level 8 Technologies) for cash of $2,000,000 and
525,159 shares of common stock valued at $1,575,477 ($3.00 per share).
Employees and shareholders of Level 8 Technologies also received options
to purchase an aggregate of 39,164 shares at $1.37 per share and an
aggregate of 116,707 shares at $5.00 per share, respectively. Additional
direct costs of the acquisition totaled $132,032. Level 8 Technologies was
incorporated and commenced operations on February 24, 1994. The
acquisition was accounted for as a purchase and, accordingly, the 1995
consolidated statements of operations and of cash flows include the
transactions of Level 8 Technologies since the date of acquisition.
The cost was allocated as follows:
Cash $ 5,669
Accounts receivable 1,826,602
Property and equipment 53,626
Excess of cost over net assets acquired 2,828,391
Accounts payable and accrued expenses (586,811)
Other liabilities, primarily deferred income taxes (552,000)
-----------
Cost of net assets acquired $3,575,477
12
<PAGE>
NOTE C - PROPERTY AND EQUIPMENT
Property and equipment consist of the following:
1997 1996
---- ----
Computer equipment $ 956,894 $ 501,307
Furniture 239,776 208,528
Office equipment 173,658 144,242
Leasehold improvements 50,909 50,909
----------- -----------
1,421,237 904,986
Less accumulated depreciation 447,490 219,110
---------- -----------
$ 937,747 $ 685,876
========= ==========
NOTE D - ACCRUED EXPENSES
Accrued expenses consist of the following:
1997 1996
---- ----
Accrued compensation $ 81,837 $ 54,290
Accrued professional fees 16,928 78,686
Accrued cost on sale of subsidiary 125,481 143,000
Other accrued expenses - 52,955
------- --------
$ 224,246 $ 328,931
======= =======
NOTE E - LONG-TERM DEBT
Long-term debt consists of three equipment obligations with interest
between 11.8% and 18.4%. Future maturities of long-term debt for the years
ending December 31 are as follows: 1998 - $7,170; 1999 - $9,075; 2000 -
$6,443.
NOTE F - TRANSACTIONS WITH RELATED COMPANIES
The Company has a note payable to Liraz Systems, Ltd. (Liraz) due in equal
quarterly installments of $34,822, including interest at 4%. Interest
expense on the loan for the years ended December 31, 1997, 1996, and 1995
was $16,540, $21,132, and $12,319, respectively.
Future maturities of the loan are as follows:
Year Amount
1998 $128,000
1999 133,177
2000 68,574
-------
$329,751
The Company sold a software license to Liraz for $160,000 in 1997.
13
<PAGE>
The Company and Liraz had an agreement for the joint development of
certain software for a Microsoft contract. Liraz and the Company will each
pay 50% of the total project development costs. In exchange for providing
50% of the project development costs, Liraz was to receive royalties of
30% of the first $2,000,000 in contract revenue, 20% of the next
$1,000,000, and 8% thereafter.
On February 16, 1998, the Company and Liraz entered into an amendment to
the original custom computer programming agreement, whereby the original
royalty payment provisions were repealed. Under the new agreement, the
Company will pay Liraz royalties of 3% of Program revenues generated from
January 1, 1998 until December 31, 2000.
In addition, the Company will pay $1,300,000 to Liraz, reflecting Liraz's
expenses incurred in developing the Program. This amount is payable in
three installments as follows:
February 16, 1998 $500,000
February 16, 1999 400,000 + 8% interest
February 16, 2000 400,000 + 8% interest
--------
$1,300,000
In addition, the Company and Liraz were awarded an Israel - U.S.
Binational Industrial Research and Development Foundation ("BIRD") grant
totaling $432,000. The BIRD grant will reimburse up to 50% of the
development costs of the above project. Once the products are sold, BIRD
will be paid a royalty of 2.5% of related sales in the first year and 5%
in subsequent years until BIRD recovers 110% to 150% (depending on the
elapsed time) of its payments. The Company estimates its 50% share of the
revised total project development costs to be $1,200,000 before
reimbursement of its BIRD funds of $216,000. The Company capitalizes the
software development costs associated with the project and reduces the
capitalized costs by any grant funds received from BIRD. At December 31,
1997, the Company had capitalized approximately $1,130,640 after
reimbursement of BIRD funds totaling approximately $216,000.
At December 31, 1997, the Company had accounts receivable of $160,000 and
accounts payable of $14,276 from and to Liraz, respectively.
NOTE G - COMMON STOCK, UNEARNED COMPENSATION, STOCK OPTIONS, AND WARRANTS
1. Preferred Stock
On May 31, 1995, the Board of Directors and on June 16, 1995, the
shareholders authorized the Company to issue up to 1,000,000 shares
of preferred stock, $.01 par value. No shares are issued or
outstanding.
2. Common Stock
On March 10, 1995, the Board of Directors and shareholders voted to
change the no par value common stock to $.01 par value, to increase
the authorized common stock from 200 shares to 8,000,000 shares, and
to declare a stock split resulting in the issuance of 200,000 for
each share outstanding at the time. On May 12, 1995, the Board of
Directors authorized a 1.45593157 to 1 common stock split.
Accordingly, all share information was retroactively adjusted to
reflect the recapitalization and stock splits. On May 31, 1995, the
Board of Directors and on June 16, 1995, the shareholders approved an
increase in the authorized shares of common stock from 8,000,000
shares to 15,000,000 shares.
On April 3, 1995, minority common shares of ProfitKey totaling
1,254,725 were converted into 91,344 common shares of Level 8 at an
exchange rate of 13.74 shares of ProfitKey stock for one share of
Level 8 stock. The effect of the conversion increased net assets on
discontinued operations by $238,854, common stock by $913 and
additional paid-in capital by $273,119, and reduced minority interest
by $35,178.
14
<PAGE>
On July 27, 1995, the Company completed its public offering of
1,430,000 shares (including 30,000 shares sold pursuant to the
underwriter's exercise of its over-allotment option) at a price of
$5.50 per share. The proceeds from the initial public offering
totaled $7,865,000 before costs of $1,937,637.
On July 26, 1996, the Company sold 246,800 shares of common stock to
Candle Corporation at $11.00 per share before costs of sale of
$105,058.
On December 17, 1996, the Company completed a public offering of
705,000 shares (including 45,000 shares sold pursuant to the
underwriter's exercise of its over-allotment option) at a price of
$11.00 per share before 1996 and 1997 costs of $1,277,803 and
$137,365, respectively.
3. Unearned Compensation
Unearned compensation relates to stock options issued to employees
and nonemployees and represents for employees the difference between
the fair market value of the stock at the grant date and the price to
be paid by the individual and for nonemployees the fair market value
of the options granted. Compensation is recognized as an expense over
the service period and totaled $123,420, $30,194, and $27,621 for the
years ended December 31, 1997, 1996, and 1995, respectively.
4. Stock Options
The Company has 1997 and 1995 Stock Incentive Plans, which permit the
issuance of incentive and nonstatutory stock options, stock
appreciation rights, performance shares, and restricted and
unrestricted stock to employees, officers, directors, consultants and
advisors. The Plans reserve 1,500,000 shares of common stock for
issuance upon the exercise of awards and provide that the term of
each award be determined by the Board of Directors.
Under the terms of the Plans, the exercise price of the incentive
stock options may not be less than the fair market value of the stock
on the date of the award and the options are exercisable for a period
not to exceed five years from date of grant. Stock appreciation
rights entitle the recipients to receive the excess of the fair
market value of the Company's stock on the exercise date, as
determined by the Board of Directors, over the fair market value on
the date of grant. Performance shares entitle recipients to acquire
Company stock upon the attainment of specific performance goals set
by the Board of Directors. Restricted stock entitles recipients to
acquire Company stock subject to the right of the Company to
repurchase the shares in the event conditions specified by the Board
are not satisfied prior to the end of the restriction period. The
Board may also grant unrestricted stock to participants at a cost not
less than 85% of fair market value on the date of sale.
Options granted vest at varying periods up to five years and expire
in ten years.
15
<PAGE>
Stock option activity during the years ended December 31, 1997, 1996
and 1995, was as follows:
<TABLE>
<CAPTION>
<S> <C> <C> <C>
1997 1996 1995
---------------------- -------------------------- ------------------------
Weighted- Weighted- Weighted-
average average average
exercise exercise exercise
Options price Options price Options price
Outstanding, beginning of year 783,155 $ 7.31 489,678 $4.23 - -
Granted 444,500 8.14 496,620 9.74 432,459 $4.70
ProfitKey options converted - - - - 72,742 .69
Exercised (91,646) 7.01 (80,156) .73 (1,209) .69
Forfeited (45,705) 11.38 (122,987) 9.10 (14,314) .90
--------- -------- --------
Outstanding, end of year 1,090,304 $ 7.51 783,155 $7.31 489,678 $4.23
========= ====== ======= ==== ======= ====
<S> <C> <C> <C>
1997 1996 1995
------------------------- ---------------------------- ------------------------
Weighted- Weighted- Weighted-
average average average
Options fair Options fair Options fair
granted value granted value granted value
Weighted average grant
date fair value
Option price less than
stock price - - 187,420 $6.36 275,300 $3.88
Option price equals
stock price 444,500 $9.35 309,200 7.15 229,901 1.80
------- ------- ------- -------
444,500 $9.35 496,620 $6.85 505,201 $2.93
======= ======= =======
Options outstanding and exercisable as of December 31, 1997, are as follows:
Options outstanding Options exercisable
------------------- -------------------
Weighted- Weighted-
average Remaining average
Range of exercise exercise contractual exercise
prices Options price life-years Options price
- ----------------- ------- ----- ---------- ------- -----
$ .69 to $ 1.37 41,374 $1.24 7.0 26,426 $1.26
$ 5.00 to $ 5.75 291,220 5.36 7.4 239,346 5.30
$ 8.29 to $12.23 566,176 8.90 9.2 210,364 8.96
$14.73 to $16.03 191,534 8.00 9.8 63,844 8.00
--------- --------
$ .69 to $16.03 1,090,304 $8.31 8.7 539,980 $7.39
========= =======
</TABLE>
If the Company recognized compensation expense based on the fair value at the
grant dates for options under the Plan, consistent with the method prescribed by
Statement of Financial Accounting Standards No.
16
<PAGE>
123, net income (loss) and per share disclosures would change to the pro forma
amounts below:
<TABLE>
<CAPTION>
<S> <C> <C> <C>
1997 1996 1995
-------------------- ----------------------- ---------------
Net income (loss)
As reported $1,088,963 $(2,369,397) $618,049
---------
Pro Forma $820,789 $(3,524,984) $107,698
--------
Net income (loss) per common
share
As reported
Basic $.16 $(.39) $.14
----
Diluted $.14 $(.39) $.14
----
Pro forma
Basic $(.12) $(.58) $.02
------
Diluted $(.11) $(.58) $.02
------
</TABLE>
The fair value of stock options used to compute pro forma net income (loss) and
per share disclosures is the estimated present value at grant date using the
Black-Scholes Option-Pricing model with the following weighted-average
assumptions:
<TABLE>
<CAPTION>
<S> <C> <C> <C>
1997 1996 1995
---- ---- ----
Risk-free interest rate 6.05% 6.44% 6.32%
Expected life 5 years 5 years 5 years
Expected volatility 77% 75% 68%
Expected dividend rate 0% 0% 0%
</TABLE>
5. Stock Warrants
In connection with the initial and secondary public offerings, the
Company issued 140,000 and 110,000 warrants, respectively, to the
underwriter. The warrants are exercisable for four years, commencing
one year from the effective dates of the public offerings at exercise
prices of $7.43 and $14.85 per share, respectively, and have grant
date fair values of $3.82 and $6.85 per share, respectively.
Prior to 1996, the Company issued 6,188 warrants, exercisable at
$6.87 per share and with a grant date fair value of $.53 per share,
which were forfeited on March 31, 1997.
Warrants totaling 18,168 were exercised at an exercise price of $7.43
during the year ended December 31, 1997. There were 231,832 warrants
outstanding and exercisable at December 31, 1997, with a
weighted-average exercise price and grant date fair value of $10.95
and $5.81, respectively.
The weighted average assumptions used to price the grant date fair
value of warrants are as follows:
December 1996 Initial
offering offering
Risk-free interest rate 6.50% 5.88%
Expected life 4 years 4 years
Expected volatility 76% 68%
Expected dividend rate 0% 0%
17
<PAGE>
NOTE H - SALE OF BUSINESSES
Effective December 31, 1997, the Company sold the business and related
assets of the ASU Consulting division for $65,000, resulting in a gain of
$60,278 for the year ended December 31, 1997.
On September 9, 1996, the Company sold Bizware for $230,000, resulting in
a loss on the sale of $1,484,061. The disposition of Bizware was accounted
for as a discontinued operation. The sales price consisted of $120,000 in
cash and $110,000 due in six equal monthly installments through March
1997. In connection with the sale, the Company wrote off goodwill of
$999,126, software development costs of $501,665, property and equipment
of $78,877, and other costs were accrued or expended in connection with
the sale totaling $134,933.
On April 6, 1998, the Company sold substantially all assets and
operations of its wholly owned subsidiary, ProfitKey. The disposition
of ProfitKey was accounted for as a discontinued operation. The
Company received $463,615 at the closing and a $2,000,000 note from
the buyer.
Revenue from discontinued operations is as follows:
1997 $5,542,292
1996 5,803,736
1995 7,127,173
The components of net assets (liabilities) of discontinued operations
is as follows
<TABLE>
<CAPTION>
<S> <C> <C>
1997 1996
---- ----
Cash $184,417 $212,850
Accounts receivable 699,947 566,505
Inventory 123,856 143,874
Prepaid expenses 126,029 91,649
Property and equipment 343,175 -
Service contracts acquired, net 1,689,932 -
Software development costs, net 1,885,354 -
Deposits and deferred costs 4,067 -
Deferred income taxes 633,000 480,800
Accounts payable and accrued expenses (518,331) (477,725)
Customer deposits and deferred revenue (1,540,538) (1,552,962)
Current and long-term debt (53,616) -
-------- --------
Current net assets (liabilities) of discontinued
operations $3,577,292 $(535,009)
========== ==========
Property and equipment, net $ - $ 272,234
Service contracts acquired, net - 1,834,469
Software development costs, net - 1,543,582
Deposits and deferred cost, net - 3,833
Deferred income taxes - 20,700
---------------
Noncurrent net assets of discontinued operations $ - $3,674,818
================ ==========
</TABLE>
18
<PAGE>
NOTE I - INCOME TAXES
Income tax expense (benefit) consists of the following:
<TABLE>
<CAPTION>
<S> <C> <C> <C>
1997 1996 1995
---- ---- ----
Current
Federal $238,900 $ (246,800) $ 12,000
State 42,200 (43,500) 5,500
------
281,100 (290,300) 17,500
-------
Deferred
Federal 230,800 98,800 (96,300)
State 40,800 17,400 (17,000)
------
271,600 116,200 (113,300)
-------
$552,700 $(174,100) $ (95,800)
======= ======== =========
</TABLE>
Income taxes receivable increased by the $464,000 tax benefit derived from
nonqualified stock option transactions, which was credited directly to
additional paid-in capital. The benefit is the tax effected difference between
the market value of the stock issued at the time of exercise and the option
price.
Income tax expense (benefit) reconciled to the statutory federal income tax rate
is as follows:
<TABLE>
<CAPTION>
<S> <C> <C> <C>
1997 1996 1995
---- ---- ----
Tax at statutory Federal rate - 34%:
Continuing Operations $540,200 $(346,600) $(178,500)
Loss on sale of discontinued operation - (468,500)
Discontinued Operations 65,000 (40,700) 488,600
State taxes, net of Federal tax benefit 97,400 300 17,900
Effect of foreign tax rates and credits - 7,500 (126,100)
Change in deferred tax asset
valuation allowance (303,600) 381,000 (129,000)
Rate differences - 14,900 38,800
Nondeductible goodwill amortization 197,300 181,500 159,100
Nondeductible expenses 34,200 14,200 7,600
Nondeductible loss on sale of foreign subsidiary - 106,100 -
Other 60,400 2,600 300
---------
$690,900 $(147,700) $ 278,700
========
Allocated as follows:
Continuing operations $552,700 $(174,100) $(95,800)
Sale of discontinued operation - - -
Discontinued operations 138,200 26,400 374,500
19
<PAGE>
Significant components of the net deferred tax asset (liability) are as follows:
<S> <C> <C>
1997 1996
------------------------------------ ----------------------------
Current Long-term Current Long-term
Deferred tax assets
Allowance for uncollectible
accounts receivable $ 174,400 - $ 80,000 -
Accrued expenses not currently
deductible for tax purposes 11,700 - 15,200 -
Deferred revenue 8,300 - (30,000) -
Loss carryforwards 35,400 $ 399,300 35,200 $ 715,800
Unearned compensation - 72,400 - 22,000
------------
229,800 471,700 100,400 737,800
--------
Deferred tax liabilities
Depreciation and amortization - (930,500) - (476,500)
Change from cash to accrual
basis (3,200) (3,200) (6,400) (6,500)
---------- -------- ---------- ----------
(3,200) (933,700) (6,400) (483,000)
---------- -------- ---------- --------
Deferred tax asset valuation
allowance (321,000) - (243,600) (381,000)
--------
Net deferred tax (liability) $ (94,400) $(462,000) $ (149,600) $(126,200)
========= ======== ========== ========
</TABLE>
At December 31, 1997, the Company has an approximate capital loss carryforward
of $250,000 from the Bizware sale, which expires in 2011.
At December 31, 1997, the Company also has an approximate net operating loss
carryforward of $835,000 from the acquisition of ProfitKey, which may be applied
against future taxable income. Under Internal Revenue Code Section 382, as a
result of the change in controlling interest of ProfitKey, the Company's ability
to utilize the acquired net operating loss carryforward is limited to
approximately $88,000 each year. The carryforward is cumulative if not utilized
each year and expires primarily in 2008.
20
<PAGE>
NOTE J - NET INCOME (LOSS) PER SHARE
Net income (loss) per share is computed as follows:
<TABLE>
<CAPTION>
Year ended December 31,
-----------------------
<S> <C> <C> <C>
1997 1996 1995
---- ---- ----
Net income(loss)(numerator)
Continuing operations $ 1,036,107 $(845,285) $ (429,257)
Discontinued operations 52,856 (1,524,112) 1,047,306
------
$1,088,963 $(2,369,397) $618,049
==========
Net income (loss) per common share-
basic
Weighted average shares outstanding
(denominator) 6,992,398 6,076,103 4,314,106
=========
Per share amount
Continuing operations $.15 $(.14) $(.10)
Discontinued operations .01 (.25) .24
---
Total $.16 $(.39) $.14
====
Net income (loss) per common share -
assuming dilution
Weighted average shares outstanding -
basic 6,992,398 6,076,103 4,314,106
Options and warrants 568,686 - 88,898
------------
Total (denominator) 7,561,084 6,076,103 4,403,004
=========
Per share amount
Continuing operations $.13 $(.14) $(.10)
Discontinued operations .01 (.25) .24
---
Total $.14 $(.39) $.14
=== ==== ===
</TABLE>
Options and warrants to purchase shares of common stock were outstanding and not
included in the computation of per share amounts assuming dilution due to the
following:
<TABLE>
<CAPTION>
Year ended December 31,
<S> <C> <C> <C>
1997 1996 1995
---- ---- ----
Antidulutive shares due to loss - 1,039,343 -
Exercise prices were greater than the
average market price of the common shares 66,742 - -
</TABLE>
NOTE K - COMMITMENTS
1. Operating Leases
The Company has facilities operating lease agreements expiring
through November 2000. The leases provide for base monthly rents plus
an adjustment based on the increase in operating expenses or lessor's
property taxes over the base amounts, as defined in the leases.
Certain of these leases contain renewal options. Rent expense was
approximately $378,000, $279,000 and $147,000 for 1997, 1996, and
1995, respectively.
21
<PAGE>
Approximate future minimum lease payments are as follows:
Year Amount
1998 $293,000
1999 212,000
2000 128,000
-------
$633,000
2. Employment Agreements
The Company has employment agreements with three officers of the
Company for salaries totaling $310,000 annually through May 1998,
plus performance bonuses.
NOTE L - EMPLOYEE BENEFIT PLAN
The Company has a 401(k) retirement plan for qualified employees. The
Company has not made any contributions to the plan.
NOTE M - FOREIGN OPERATIONS AND SIGNIFICANT CUSTOMERS
There were no foreign operations in 1997. Foreign operations for 1996 and
1995 consisted of the discontinued Bizware subsidiary sales which were to
customers located in North America. Revenue and operating income (loss)
relating to foreign operations were $363,200 and ($350,000), respectively,
for the year ended December 31, 1996, and $1,405,900 and $581,900,
respectively, for the year ended December 31, 1995. There were no
identifiable assets at December 31, 1996 and $706,600 of identifiable
assets at December 31, 1995.
In 1997 one customer accounted for approximately $2.1 million of the
Company's revenue which represents approximately 10% of the Company
revenue for the year. In 1996 one customer accounted for approximately
$1.3 million of the Company's revenue which represented approximately 10%
of the Company's revenue for the year. No customer accounted for more than
10% of the Company's revenue in 1995.
NOTE N - SUBSEQUENT EVENTS
Pending Acquisition
On February 27, 1998, the Company has signed a contract to acquire
Momentum Software Corporation ("Momentum") in a stock transaction.
Momentum is a privately held independent software vendor. Under the terms
of the agreement, Momentum shareholders will receive 544,866 common shares
of Level 8 stock and warrants for 200,000 shares as well as certain
contingent consideration based on the value of Level 8 stock. This
transaction will be recorded as a purchase for financial reporting
purposes.
NOTE O - FOURTH QUARTER ADJUSTMENTS
During the fourth quarter of 1997, the Company increased its allowance for
doubtful accounts by $275,000 and recorded compensation expense of
approximately $120,000 for options issued to a consultant.
22
<PAGE>
NOTE P - EVENTS SUBSEQUENT TO THE REPORT OF INDEPENDENT CERTIFIED PUBLIC
ACCOUNTANTS (UNAUDITED)
As disclosed in Note H, the Company sold its wholly-owned subsidiary,
ProfitKey. The purchase price is subject to adjustment to reflect any
working capital from a specified amount. The buyer has notified the
Company that it believed there was a variance of $1,466,444, which would
require a reduction in the purchase price of that amount. Based on
information available to the Company at this time, Management believes
that an adjustment, if any, is not determinable and should not have a
material adverse effect on the Company. In connection with the sale, in
1998, the Company recorded a loss from the discontinued operation of
approximately $1.3 million before a tax benefit of $270,000.
23
<PAGE>
Item 14. (a)2. Financial Statement Schedule
SCHEDULE II
LEVEL 8 SYSTEMS, INC. AND SUBSIDIARIES
VALUATION AND QUALIFYING ACCOUNTS
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C> <C>
Column A Column B Column C Column D Column E
-------- -------- -------- -------- --------
Additions
--------------------------------------
Balance at Charged to Balance at
Beginning Costs and Charged to Other Deductions- End of
Description of Period Expenses Accounts-Describe Describe(1) Period
---------------- --------------- --------------------- ----------------- --------------
Year ended December 31, 1995
Deducted from asset accounts:
Allowance for doubtful accounts $ - $ 50,823 $ - ($ 29,823)$ 21,000
================ =============== ===================== ================= ============
Year ended December 31, 1996
Deducted from asset accounts:
Allowance for doubtful accounts $ 21,000 $ 179,000 $ - ($ 2,600) $ 197,400
================ =============== ===================== ================= ============
Year ended December 31, 1997
Deducted from asset accounts:
Allowance for doubtful accounts $ 197,400 $ 335,300 $ - ($ 98,800) $ 433,900
================ =============== ======================================= ============
(1) Uncollectible accounts written off, net of recoveries.
</TABLE>
24
<PAGE>
Item 14. (c) Exhibits
23.1 Consent of Grant Thornton LLP
23.2 Consent of Lurie, Besikof, Lapidus & Co., LLP
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
Level 8 Systems, Inc.
By: /s/ Arie Kilman
----------------------------
Arie Kilman
Chief Executive Officer and
Chairman of the Board
Dated: September 11, 1998
25
<PAGE>
Exhibit 23.1
CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
We have issued our report dated February 23, 1998 (except for
Note N, as to which the date is February 27, 1998, and Note H, as
to which the date is April 6, 1998), accompanying the
consolidated financial statements and schedule included in the
Annual Report of Level 8 Systems, Inc. ("Level 8") on Form 10-K/A
(File No.: 0-26392, filed on September 11, 1998) for the year
ended December 31, 1997, which is incorporated by reference in
the Registration Statements of Level 8 on Form S-8 (File No.:
333-12247, filed on September 19, 1996) and on Form S-3/A (File
No.: 333-22979, filed on March 13, 1997). We consent to the
incorporation by reference in these Registration Statements of
the aforementioned report.
/s/ GRANT THORNTON LLP
New York, New York
September 11, 1998
Exhibit 23.2
INDEPENDENT AUDITOR'S CONSENT
We consent to the incorporation by reference in the Registration
Statements of Level 8 Systems, Inc. on Form S-8 (File No. 333-
12247) and Form S-3/A (File No. 333-22979) of our report dated
January 31, 1997, except for Note H, as to which the date is April
6, 1998, relating to the consolidated financial statements of Level
8 Systems, Inc. and subsidiaries as of December 31, 1996 and for
each of the two years in the period ended December 31, 1996, which
report appears in this December 31, 1997, annual report on Form 10-
K/A of Level 8 Systems, Inc.
/s/ LURIE, BESIKOF, LAPIDUS & CO., LLP
Minneapolis, Minnesota
September 11, 1998
