SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
(Mark One)
[X] ANNUAL REPORT PUR SUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [Fee Required]
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [No Fee Required]
For fiscal year ended December 31, 1998
Commission file number 001-12671
THE HARTCOURT COMPANIES, INC.
(Exact name of registrant as specified in its charter)
UTAH
(State of incorporation)
87-0400541
(I.R.S. Employer Identification No.)
2049 Century Park East, Los Angeles, California 90067, 310-788-2634
(Address, including zip code, and telephone number, including area code,
of registrant's executive offices)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
None
Name of each exchange on which registered
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock $.001 par value
(Title of class)
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days. Yes X No
Check if disclosure of delinquent filers in response to item 405 of
Regulation S-B is not contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB. [X ]
Issuer's revenues for most recent fiscal year: $23,282,000
State the aggregate market value of voting stock held by nonaffiliates
computed by reference to the price at which the stock was sold, or the average
bid and asked prices of such stock, as of a specified date within the past 60
days: As of March 1, 1999, $8,643,000.
State the number of shares outstanding of each of the issuer's classes
of common equity, as of the latest practicable date: As of March 1, 1999, there
were 20,225,746 shares of common stock outstanding.
1
<PAGE>
THE HARTCOURT COMPANIES, INC.
1998 Form 10-KSB Annual Report
Table of Contents
Page
PART I
Item 1. Description of Business .........................................3
Item 2. Description of Property .........................................11
Item 3. Legal Proceedings......................... ......................12
Item 4. Submission of Matters to a Vote of Security Holders..............12
PART II
Item 5. Market for Common Equity and Related Stockholder Matters.........13
Item 6. Management's Discussion and Analysis or Plan of Operation........16
Item 7. Consolidated Financial Statements................................22
Item 8. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure 22
PART III
Item 9. Directors, Executive Officers, Promoters and Control Persons;
Compliance with Section 16(a) of the Exchange Act................23
Item 10. Executive Compensation...........................................25
Item 11. Security Ownership of Certain Beneficial Owners and Management...26
Item 12. Certain Relationships and Related Transactions...................27
PART IV
Item 13. Exhibits and Reports on Form 8-K.................................29
Signatures.......................................................32
2
<PAGE>
Explanatory Note:
Unless otherwise indicated or the context otherwise requires, all
references herein to the "Company" are to The Hartcourt Companies, Inc., a Utah
corporation, and its wholly owned subsidiaries, Harcourt Investments (USA) Inc.
("Harcourt Investments") and the Hartcourt Pen Factory, Inc. ("Hartcourt Pen").
Pego Systems, Inc. ("Pego") and Electronic Components and Systems, Inc. ("ECS").
All share and per share information contained herein has been adjusted to
reflect a five-for-seven reverse split of the Company's common stock effected on
October 6, 1995, and a one-for five reverse split of the Company's common stock
effected on August 1, 1996.
PART 1
Item 1: Description of Business.
General
Stardust, Inc.-Production-recording-Promotion ("Stardust"), a corporation
organized under the laws of the State of Utah in September 1983, acquired all of
the outstanding shares of Harcourt Investments, a Nevada corporation, for
6,110,337 shares of Stardust common stock (after taking into account a reverse
stock split and stock dividend) pursuant to an Agreement and Plan of
Reorganization dated November 5, 1994. At the time of this acquisition, Stardust
was a "shell" corporation with no assets, business or operations. Subsequent to
the acquisition of Harcourt Investments, Stardust changed its name to "The
Hartcourt Companies, Inc."
Harcourt Investments was organized under the laws of the State of Nevada in
April 1993, to engage in the design, manufacture and sale of writing
instruments. Harcourt Investments entered into a Stock Exchange Agreement dated
August 8, 1994 with Eastern Rocester Limited's 60% interest in Xinhui Harchy
Modern Pens, Ltd. (The "Xinhui JV"), a joint venture located in the Guangdong
province of the People's Republic of China ("China"), in exchange for 250,000
shares of Harcourt Investments common stock, representing 80% of the common
stock of Harcourt Investments outstanding immediately subsequent to the joint
venture agreement governing the Xinhui JV entered into in October 1995, the
Company's interest was reduced to a 52% interest in the Xinhui JV, with the
remaining 48% held by the Xinhui Orient Light Industrial Corp.
Hartcourt Pen was organized under the laws of the State of Nevada in October
1993 to engage in the sale of writing instruments. Hartcourt Pen entered into an
Agreement and Plan of Reorganization dated December 1, 1994 with Harcourt
Investments, pursuant to which Harcourt Investments acquired all of the
outstanding shares of Hartcourt Pen in exchange for 38,625 shares of Harcourt
Investments common stock. In connection with this transaction, 1,000 shares of
Harcourt Investments Original Preferred Stock were issued to Dr. Alan Phan in
consideration of certain intangible assets and services rendered by Dr. Phan in
connection with the establishment of Hartcourt Pen. Through 1995, the Company
conducted certain limited research and development activities in the United
States, but has not engaged in any domestic manufacturing activities.
The Hartcourt Companies, Inc. commenced limited business activities involving
the design, manufacture and sale of writing instruments in December 1994.
Through January 1999 the Company's operations relating to writing instruments
involved the assembly and distribution of writing instruments. In January, 1999
the Company discontinued the operations of Hartcourt Pen and disposed of all its
pen related assets in the United States.
3
<PAGE>
In April 1993, the Xinhui JV commenced construction of a 170,000 square foot
manufacturing plant approximately ten miles north of Xinhui City. The plant
commenced limited operations in December 1994 and was fully operational by July
1995. By July 1996, the plant was operating at approximately 20% of its capacity
and employed approximately 80 people. It was estimated by management that
additional working capital in the amount of approximately $3,000,000 would be
required to permit the plant to operate at full capacity (300,000,000 pens
annually). There was no contractual obligation on the part of the joint venture
partners to provide this additional financing.
In April 1994, the Company entered into a Lease Agreement with Scripto-Toaki
Corporation ("Anja"), for the use of five special ball pen assembly machines by
the Xinhui JV. The lease provided for semi-annual payments of $25,000 over a
ten-year term, subject to adjustment based on future purchases of merchandise by
the Company from the lessor. The machinery that was delivered did not function
properly and the Company and Anja agreed to terminate the lease upon the Company
agreeing to pay Anja a termination fee of $200,000. During 1998, the Company
paid $100,000 on the note. During 1999, the remaining balance was reduced to
$10,000 which was paid.
In September 1996, CKES Acquisitions, Inc. ("CKES"), a corporation organized
under the laws of the State of Nevada in September 1996, a non-affiliate,
acquired the Xinhui JV of the Company's wholly-owned subsidiary Hartcourt
Investments, pursuant to a Purchase and Sale Agreement dated September 27, 1996,
thus replacing the Company as a joint venture partner in the Xinhui JV.
Ownership in the joint venture was transferred to CKES in return for a Secured
Promissory Note in the principal sum of $3,000,000, payable monthly, beginning
October 1998, with accrued compound interest at six percent (6%) per annum. To
date, no payments have been received on the note. The Company has no present
contractual obligation to the Xinhui JV.
In January 1996, the Company entered into a Memorandum of Understanding to
acquire Yafa Pen Company ("Yafa"), a California corporation, with offices in Los
Angeles, California. The purchase price consisted of an initial cash payment of
$285,000 and 80,000 shares (valued at $1.00 per share) of the Company's
preferred stock. Pursuant to the Memorandum of Understanding, the Company
advanced to Yafa a total of $200,000, secured by two promissory notes ($100,000
on January 3, 1996 at 1% over prime due July 3, 1996 and $100,000 on February 9,
1996 at 1% over prime due August 9, 1996), the amount of this advance to be
offset against the purchase price for Yafa. Various disputes arose between the
Company and Yafa, and in September 1996 the parties entered into a confidential
settlement agreement and agreed to terminate the Memorandum of Understanding.
Yafa made all required payments according to the settlement agreement with the
final payment being paid in July 1998.
In August 1996, the Company entered into a Purchase and Sale Agreement with
NuOasis International, Inc. ("NuOasis"), a corporation incorporated under the
laws of the Commonwealth of Bahamas, for the purchase of a commercial real
estate project, consisting of three 5-7 story apartment buildings, commonly
known as the Peony Gardens Property, ("Peony Gardens") located in the eastern
part of Tongxian in Beijing city, mainland China. The purchase price consists of
a Convertible Secured Promissory Note granted to NuOasis, in the principal
amount of $12,000,000, a security interest in the property and the greater of
10,000,000 shares of the Company's common stock, or that number of shares of the
Company's common stock having a market value equal to $10,000,000 immediately
preceding the closing date. On August 8, 1996, an Addendum to the Purchase and
Sale Agreement was agreed to by the Company and NuOasis, by which the Company's
obligation to issue stock to NuOasis was reduced to 4,000,000 shares (valued at
$10,000,000) of its common stock. As of December 31, 1996, the apartment
buildings were approximately 35% complete, and it was anticipated by the Company
that the project would be completed by August 1997. The Company has no
obligation for construction costs or any other costs relating to the project's
completion and may at its option rescind the Purchase and Sale Agreement if
construction is not completed by August 1997. As of
4
<PAGE>
December 31, 1998, the project is still incomplete because the developer has
elected to wait a period of time for the Beijing real estate market to return to
conditions which existed prior to the recent Asian financial crisis. In March
1999, the Company exchanged its interest in the Peony Gardens Project for $10
million of investment securities. See Part 1, Item 1 - Subsequent events and See
Part 1, Item 2, "Description of Property - Real Estate and Operating Data."
In September 1996, the Company entered into a Sales Agreement with Mandarin
Overseas Investment Co., Ltd. ("Mandarin"), an unaffiliated Turks and Caicos
chartered company located in Central Hong Kong, for its undivided 50% interest
in thirty-four State of Alaska mineral lease gold lode claims, known as Lodestar
claims numbered 35-68, consisting of 160 acres each, all located in the
Melozitna mining district near Tanana, Alaska, approximately 300 air-kilometers
west of the City of Fairbanks, Alaska. The Company paid $3,000,000 in shares of
its common stock to Mandarin for its undivided 50% interest in the mineral lease
gold lode claims, all shares were issued pursuant to Regulation "S". The number
of shares were determined by the average price per share over a 10 day period
for the 10 days prior to the execution of this agreement.
In September 1996, the Company entered into a Sales Agreement with Promed
International Ltd. ("Promed"), an unaffiliated Turks and Caicos chartered
company with offices in the British crown colony of Gibraltar, for the purchase
of their undivided 50% interest in thirty-four State of Alaska mineral lease
gold lode claims, known as Lodestar claims numbered 1-34, consisting of 160
acres each, all located in the Melozitna mining district near Tanana, Alaska,
approximately 300 air-kilometers west of the City of Fairbanks, Alaska. The
Company paid $3,000,000 in shares of its common stock to Promed for its
undivided 50% interest in the mineral lease gold lode claims, all shares were
issued pursuant to Regulation "S." The number of shares were determined by the
average price per share over a 10 day period for the 10 days prior to the
execution of this agreement.
In July 1998, the Company filed notice upon Mandarin and Promed requesting
recission of the purchase of the Alaska gold mine mineral leases as the sellers
failed to provide the Company with the required geological evaluations. In
March, 1999 the Company entered into a recission agreement with the sellers,
returning the claims and receiving back 1,298,700 shares of Hartcourt common
stock. See Part 1, Item 1 - Subsequent Events.
During 1996, the Company entered into a Consulting Agreement with American
Equities, LLC, a California Limited Liability Company. The Company intended to
acquire, manage and develop a real estate portfolio through the year 2001. See
Part I, Item 1 - Subsequent Events and Part II, F/S, "Consolidated Financial
Statements, Years Ended December 31, 1998 and 1997 -- Notes to Consolidated
Financial Statements," Note L. "Commitments and Contingencies."
In July 1997, the Company entered into an agreement with Capital Commerce, Ltd.
("Capital") (an Isle of Man Corporation) whereby Capital agreed to provide the
Company $6,000,000 in free trading securities for the purchase of Pego Systems,
Inc. and the formation of Electronic Components and Systems, Inc., a Nevada
corporation. In consideration for the $6,000,000 in securities, the Company
issued to Capital $4,000,000 in Series A and $2,000,000 in Series B, both 9%
convertible preferred stock. See Part I, Item 1 - Subsequent Events and Part II,
F/S "Consolidated Financial Statements, Years Ended December 31, 1998 and 1997
Notes to Consolidated Financial Statements," Notes C and R, "Investments and
Business Acquisitions" and "Capital Stock, respectively.
5
<PAGE>
In March 1997, the Company entered into an agreement with DanAllen Investments,
Inc. (DanAllen) to provide investment banking services to the Company. DanAllen
will make recommendations on the Company's merger and acquisition activities,
especially on financing structure and options. DanAllen will also assist in the
due diligence and negotiation process. The Company issued to DanAllen 100,000
common stock shares, at $1.50 per share, for these services to be performed. The
agreement expired and no services were performed in 1998 for the Company.
In July 1997, the Company agreed to purchase a shopping center located in
Perris, California called Freeway Plaza for a total purchase price of $6.75
million. The building complex has 85,000 square feet with 82 percent leased and
an average income of $620,000 per year. Terms of the transaction include,
$25,000 cash down payment, bank financing of $3,725,000, and 34 of the Company's
68 mineral lease gold lode claims, valued at $3,000,000. As of December 31,
1998, the transaction had been cancelled and the Company was receiving periodic
payments for return of the escrow deposit.
On October 3, 1997, the Company purchased the outstanding shares of Pego
Systems, Inc., a California corporation (Pego) where Pego became a wholly-owned
subsidiary of the Company. Pego, a manufacture's representative organization for
air and gas handling equipment, offers a full line of value added services
including distribution, service and manufacturing of custom process equipment
packages. The acquisition was accounted for using the purchase method of
accounting. In connection with the purchase, the Company paid $500,000 in cash,
issued 450,000 shares of restricted common stock, 1,500 shares of Series "C"
redeemable preferred stock, and entered into a non-compete agreement with Pego's
majority shareholder and director of the registrant. Total value of transaction
was approximately $2,300,000.See Part II, F/S, "Consolidated Financial
Statements, Years Ended December 31, 1998 and 1997 - Notes to Consolidated
Financial Statements, Notes C and R, "Investments and Business Acquisitions" and
"Capital Stock", respectively.
On August 6, 1998, Pego acquired 100% percent of the outstanding common stock of
Pacific Pneumatics, Inc. (PPI), located in Rancho Cucamonga, California. The
purchase price of $215,000 was paid in the form of $200,000 in cash and $15,000
value of The Hartcourt Companies common shares (9,796 shares). PPI manufactures
pneumatic conveying, industrial dust collection and industrial process
electrical controls. PPI has been manufacturing and selling it components under
the trademark names "Pore Poly, "Posit Dust Collectors and Filters" and
"Pow-Air" for over 20 years.
On October 28, 1997, the Company through a wholly-owned subsidiary, acquired
Electronic Components and Systems, Inc., an Arizona Corporation (ECS) and Pruzin
Technologies, Inc., an Arizona corporation , a related entity of ECS. The
acquisition was structured as a tax-free reorganization and was accounted for
using the purchase method of accounting. In connection with the acquisition, the
Company paid $250,000 in cash, issued a note payable for $250,000, issued 3,400
shares of Series "D" convertible preferred stock and 2,500,000 of its common
stock shares. Total value of the transaction was approximately $9,500,000. See
Part I, Item 1 - Subsequent Events, Part II, F/S, "Consolidated Financial
Statements, Years Ended December 31, 1998 and 1997 - Notes to Consolidated
Financial Statements", Notes C and R, "Investments and Business Acquisitions"
and "Capital Stock", respectively.
ECS specializes in high technology contract manufacturing and assembly of
printed circuit boards, phone and cable wires. ECS has three manufacturing
facilities, and contracts with a maquiladora in the free trade zone in Sonora,
Mexico. Annual revenues of ECS are approximately $16.7 million.
6
<PAGE>
On August 24, 1998, the Company and ECS executed an agreement and plan of merger
with Elan Manufacturing, Inc. (Elan) a contract manufacturer of electronic
components similar to ECS, located in the Silicon Valley. Under the agreement,
Elan was merged into and with the Company, thereby ceasing Elan's existence. The
merger was effective September 1, 1998, and the purchase price of $616,240.63
was paid by the Company issuing 724,990 common shares to the three selling
shareholders based at a value of $0.85 per share.
Except for limited operations involving the manufacturer and distribution of
writing instruments in the United States through Hartcourt Pen and its newly
acquired manufacturing businesses, Pego and ECS, the Company's activities to
date primarily have consisted of raising capital, obtaining financing, locating
and acquiring equipment, identifying prospective customers and suppliers,
installing and testing equipment and administrative activities relating to the
foregoing, as well as identifying operating companies and real property for
potential acquisition. The Company's future business, including expansion of its
current limited operations and acquisition plans requires additional equity
and/or debt financing, which may not be available in a timely manner, on
commercially reasonable terms, or at all.
Currently, the Company's primary objective is to acquire established operating
companies with histories of growth and profitability, in order to diversify and
create a multi-dimensional company. The principal executive offices of the
Company are located at 2049 Century Park East, Los Angeles, California 90067.
The Company's telephone number is (310) 788-2634.
See Part III, Item 12, "Certain Relationships and Related Transactions" for
information about the interests of certain directors, executive officers and
promoters of the Company in the formation and reorganization transactions
described above involving Stardust, Harcourt Investments, Hartcourt Pen, Pego
and ECS.
See Part I, Item 2, "Description of Property," for information about the
Company's facilities.
Principal Products, Distribution and Competitive Conditions
The Company includes three subsidiaries, operating three different unrelated
businesses - ECS specializes in higher technology contract manufacturing and
assembly of printed circuit boards, phone and cable wires, coil winding and
plastic injection parts. ECS is also a pioneer in the new technology of
ball-grid array connection for the semi-conductor industry. ECS maintains
manufacturing operations under maquiladora agreements in Nogales, Mexico. The
sole owner of the maquiladora is also the President of ECS and shareholder of
the Company. A substantial amount of ECS's cables and electronic components are
manufactured and assembled at the Mexico facility by the maquiladora. ECS has
smaller manufacturing facilities in Fremont, California and Chandler, Arizona
and a distribution facility in Nogales, Arizona.
Pego is a manufacturer's representative organization and also offers a full line
of value added services including distribution, service, and the manufacturing
of custom process equipment packages. The Company's primary focus is air and gas
handling equipment. Key applications for the products and services that Pego
Systems sell include pneumatic conveying, combustion process air, wastewater
secondary treatment applications of aeration and digester gas mixing, bottle and
can drying, contaminated soil vapor extraction, and landfill gas handling.
Pego's markets include the Petro-Chemical industry combustion process air,
wastewater secondary treatment applications of aeration and digester gas mixing,
bottle can drying, contaminated soil vapor extraction, and landfill gas
handling. Pego's markets include the Petro- Chemical industry, most processing
companies, food industry, brewing industry, cement plants and many general
industrial operations, as well as waste water treatment plants. The
environmental market for pollution control through vapor extraction and other
means is emerging as an area of major focus for Pego.
7
<PAGE>
Hartcourt Pen distributes a wide range of writing instruments from low cost,
popular pens to high-price luxury pens. Popular pens include ball-point pens,
roller pens, white board markers, water color markers, permanent markers,
highlighters, and magic ink pens. Luxury pens include sterling silver fountain
pens, and a variety of ball-point and roller pens made of brass or stainless
steel. In January, 1999 the Company discontinued the operations of Hartcourt Pen
and disposed of all its pen related assets in the United States.
Management believes that the materials and equipment used in the assembly, of
all the Company's products generally are available from multiple sources on
competitive terms. Therefore, the Company does not anticipate any significant
delays in the acquisition, of, or shortages of, either materials or equipment.
The Company believes that the markets for its broad range of products are
relatively fragmented and highly competitive. The Company's ability to compete
successfully will be dependent upon numerous factors, including its ability to
obtain necessary financing in a timely manner and on commercially acceptable
terms, as well as upon the design, quality and price of its products and its
customer service. Many of the Company's competitors have greater experience and
far greater financial and other resources than the Company. There can be no
assurance that the Company will be able to compete successfully in its markets.
Doing Business in China and Mexico
General. The Company's Peony Gardens project is in China and the operation of
facilities in China involves certain risks and special considerations not
typically associated with operations in the United States. These risks generally
related to: (i) social, economic and political uncertainty; (ii) substantial
governmental involvement in and control over the Chinese economy; (iii) the
possibility that the Chinese government could elect to discontinue its support
of the economic reform programs implemented in 1978 and return to a completely
centrally planned economy; and (iv) possible nationalization or expropriation of
assets. Accordingly, government actions in the future could have a significant
effect on economic conditions in China. Such actions and resulting changes in
the Chinese economy, could significantly adversely affect, limit or eliminate
opportunities for foreign investment, the prospects of private sector
enterprises operating in China and the value of the Company's investments in
China.
Under the maquiladora program with the Mexican affiliate, the Company advances
cash to the affiliate for operating expenses. The Company provides the raw
materials, production machinery and equipment for manufacture and assembly. It
is reasonably possible that operations located outside an entity's home country
will be disrupted in the near term, however remote. The Mexican affiliate
operates under Mexican law, which may or may not be similar to those in the
United States. Additionally, operations under the maquiladora program require
that transactions be at arms length and that the affiliate must realize a
minimum 5% profit per year. During 1998, the tax structure in Mexico was changed
to encourage more high technology industry by lowering the tax on maquiladoras
in the electronics industry to zero.
Volatility of Exchange Rates. There has not been significant volatility in the
exchange rates of RMBs to U.S. Dollars in the recent past but future exchange
rates may experience significant volatility.
Environmental Regulation. The Company's United States and Mexican operations are
subject to various governmental laws and regulations. The costs and effects of
compliance with environmental laws and regulations in the United States
(federal, state and local) and Mexico have not been material in the past and are
not anticipated to be material in the future.
8
<PAGE>
Employees
The Company currently employs two full-time employees at its principal executive
offices in the United States. The operations of Hartcourt Pen were located at
this headquarters location. The executive offices provide corporate
administrative services. Pego employs thirty-three full-time people at its three
sites located in Long Beach, Rancho Cucamonga and Novato, California. ECS had
seventy three full-time employees at its four locations: Chandler, Tucson and
Nogales in Arizona and Fremont in California.
Research and Development
The Company has conducted limited research and development activities involving
the creation of ink formulas, as well as the engineering design of pens and
material used for the components of writing instruments. During the fiscal years
ended December 31, 1998 and 1997, $0 and $0, respectively, was expended in
connection with such activities. Management does not anticipate incurring any
significant costs for research and development in the near term.
Subsequent Events
In March, 1999, the Company restructured certain assets and successfully settled
certain litigation matters, as well as certain claims and disputes. The
following is a summary of the restructuring and settlements reached:
1) During 1998, the Company had been unsuccessful in its attempts to raise
required working capital and acquisition cash through the sale of
marketable securities provided by Capital Commerce in exchange for the
Series A & B Preferred Stock. As part of the overall settlement, Capital
Commerce returned all of the outstanding Series A and B Preferred Stock,
plus the AB Preferred Stock issued by the Company as dividends, the Company
returned to Capital Commerce all unsold marketable securities, and as
consideration for the marketable securities sold, the Company issued
1,900,000 shares of common stock, plus a 7.35% interest in ECS to the
authorized agent of Capital Commerce.
2) In July, 1998, the Company served notice of the sellers of certain mineral
rights leases in Alaska goldmines that it intended to rescind the contract
as certain required appraisals had not been provided as required. The
company originally paid 1,298,700 shares of the common stock for these
rights. Upon return of 1,298,700 shares the companies relinquished all
rights to the leases and rescinded the transaction.
3) On October 21, 1998, Mr. James Pruzin, the selling shareholder and
president of Electronic Components and Systems, Inc. (ECS), formally
requested a rescission of the October 28, 1997 acquisition whereby the
Company, through a wholly owned subsidiary, acquired ECS and Pruzin
Technologies, Inc. (Pruzin). Mr. Pruzin has alleged that he is authorized
to request rescission based on an alleged breach of the acquisition
agreement by the Company, which the company denied . However, on November
10,1998 entered into a memorandum of understanding whereby Mr. Pruzin could
reacquire ECS from the Company by returning all Hartcourt Common and
Preferred Stock received, payment to Hartcourt of $1,850,000 during 1999,
negotiating the return of Hartcourt Common Shares issued in the Elan
transaction and a $400,000 fully amortized 5 year note with monthly
payments beginning in 2000.
9
<PAGE>
Subsequently, Mr. Pruzin was unable to meet the terms of the repurchase
agreement and entered into new negotiations with the Company. As a result
of these negotiations, in exchange for his return of 2,000,000 common
shares of the company and 3,400 Series D Preferred Shares, the Company sold
Mr. Pruzin a 30% interest in ECS.
4) On September 3, 1998, American Equities filed suit against the Company for
breach of contract. The Company denied that it had breached any contract
with American Equities and filed a cross-complaint for fraud and
non-performance against American Equities and additional cross-defendants.
As settlement of these matters, the parties agreed that all fees paid to
American Equities were earned and to provide American Equities with a
27.65% interest in ECS and no payments were due to either party.
Additionally, American Equities agreed to provide working capital for ECS.
5) The Company had a subscription receivable for 600,000 common shares sold by
an investment banker and not paid for. In the settlements, the Company
received 600,000 shares back and cancelled both the subscription receivable
and common shares.
6) On March 15, 1999, the Company entered into an Exchange Agreement pursuant
to which the Company agreed to assign its rights under the Purchase and
Sale Agreement dated August 8, 1996 and any and all of its interest in the
Peony Gardens development located in a suburb of Bejing City, China for
investment securities valued at $10 million. Due to restrictions on the
ability to trade the investment securities received, the Company has
recorded an impairment of $5,000,000 as of December 31, 1998.
7) Effective February 1, 1999, pursuant to a Share Purchase Agreement, the
Company acquired one (1) share of common stock of Enova Holdings Inc., a
Nevada corporation ("Enova") representing 100% of the total issued and
outstanding capital stock of Enova, making Enova a wholly-owned subsidiary.
8) Effective March 1, 1999, the Company and Enova executed an Exchange
Agreement (the "Enova Agreement") whereby the Company exchanged all of its
ownership in two wholly-owned subsidiaries, Pego Systems Inc. ("Pego") and
Electronic and Component Systems Inc. ("ECS"), collectively, the
"subsidiaries", for 5,213,594 additional shares of common stock of Enova.
9) On March 24, 1999, the Company entered into a Distribution Agreement
pursuant to which the Company agreed to distribute to all shareholders of
record on March 31, 1999 all of the 5,213,595 shares of common stock of
Enova and to file, within a reasonable period of time following such
distribution, a Registration Statement on Form 10-SB to cause the
distributed shares of Enova to be registered under the Securities Exchange
Act of 1934.
As a result of the Share Purchase Agreement, the Enova Agreement and the
Distribution Agreement, each shareholder of record of the Company on March 31,
1999 will receive one (1) share of Enova for every four (4) shares owned of the
Company. Following the distribution of the Enova shares both the Company and
Enova will continue to operate as separate companies. See Part II, F/S
"Consolidated Financial Statements, Years Ended December 31, 1998 and 1997 -
Notes to Consolidated Financial Statements," Note Z.
10
<PAGE>
Item 2. Description of Property
Principal Plants and Other Property
The Company's principal executive offices are located at 2049 Century Park East,
Los Angeles, California 90067. The premises, which are subleased from an
unaffiliated party, consist of 1,600 square feet of office, and shared use of
approximately 3,000 square feet of conference room, reception and file room
facilities. Monthly rent is $9,500 through June 30, 1999. The Company is
currently in negotiation with the landlord to sublease its former Pen Showroom
and Headquarter facility at 19104 South Norwalk Boulevard, Artesia, California
90701. The premises, which are leased from an unaffiliated party, consist of
5,200 square feet, approximately 2,000 square feet of which was used for
warehousing, approximately 2,000 square feet for assembly of writing
instruments, and approximately 1,200 square feet for executive and clerical
offices. Monthly rent is $1,230 until May 31, 1997, $1,640 from June 1, 1997
through May 31, 1998 and $2,050 for the remainder of the lease term, through May
31, 2001; provided, however, that no rent will be due for the months of June
1999 and June 2000.
ECS operates from four facilities: The location, site size and terms, if leased
are as follows:
Chandler, Arizona - 6532 W. Flint Street, Chandler, AZ 85226 - 16,240 square
feet office and production facility. Lease payments of $12,000 per month triple
net expiring November 2001.
Tucson, Arizona - 2,410 N. Huachuca Drive, Tucson, AZ 85745 - 3,000 square feet
office and production facility. Lease payments of $2,950, including taxes per
month, with annual increases of 5%. Lease expires June 2000.
Nogales, Arizona - 137 E. Baffert Drive, Nogales, AZ 85621 - 37,000 square feet
office and warehouse facility. Lease is month to month with monthly payments of
$9,113 including insurance and taxes.
Fremont, California - 200 Hammond Avenue, Fremont, California 94539, 15,000
square feet office and production facility. Lease payments of $12,000 per month.
Lease expires April 1999.
Pego operates out of three facilities. The principal manufacturing building is
located at 1196 E. Willow Street, Long Beach, California. The Long Beach
building has 23,000 square feet and was purchased by Pego in 1995 for
$1,250,000. Pego owes $1,200,000 on the first mortgage which is payable monthly,
$9,543 principal and interest over 20 years. Additionally, Pego leases a 2,700
square foot office/warehouse facility at 42 Digital Drive, #1, Novato,
California. The terms include monthly payments of $1,800 per month, adjusted
annually for cost of living, expiring May 2003.
Rancho Cucamonga, California - 8576 Red Oak Street, Rancho Cucamonga, California
91730, 11,300 square feet office and production facility. Lease payments of
$4,425 per month. Lease expires April 2000.
See Part I, Item 1, "Description of Business--General" for information about the
manufacturing facilities of Xinhui JV.
The Company believes that its property and equipment are adequate for its
present activities. See Part I, Item 1, "Description of Business--General," and
Part II, Item 6, "Management's Discussion and Analysis or Plan of
Operation--Liquidity and Capital Resources."
11
<PAGE>
Investment Policies
The Company has placed no limitation on the percentage of assets which may be
invested in any one investment. This policy may be changed by the Company's
Board of Directors and without a vote of the Company's security holders. It is
the Company's policy to acquire assets primarily to add to its equity base and
for income.
Real Estate Investments
The Company's investments in real estate are not restricted to developed or
undeveloped properties, or properties of any specific type or location. Any
necessary management services in connection with the Peony Gardens Project will
be compensated, if possible, through the issuance of the Company's common stock.
Real Estate and Operating Data
On September 8, 1996, the Company entered into an agreement to purchase a
commercial real estate project, commonly known as the Peony Gardens Project
("Peony Gardens"), located in mainland China. See Part I, Item 1, "Description
of Business" and "Subsequent Events."
Mineral Lease Gold Lode Claims
In September 1996, the Company, through separate transactions with Mandarin
Overseas Investment Co., Ltd. ("Mandarin") and Promed International, Ltd.
("Promed"), acquired an undivided 50% interest in a total of 68 (34 from each
transaction) mineral lease gold lode claims, consisting of 160 acres each, all
located in the Melozitna mining district near Tanana, Alaska, some 300
air-kilometers west of the City of Fairbanks, Alaska. See Part I, Item 1,
"Description of Business" and "Subsequent Events."
Item 3. Legal Proceedings
At March 31, 1999, neither the Company nor any of its subsidiaries currently is
a party to, or owns property subject to, any pending or threatened legal
proceedings which, in the opinion of management, are likely to have a material
adverse impact on the financial condition of the Company. At December 31, 1998,
the Company was party to certain litigation and other claims, which were settled
in March, 1999. See Part I, Item 1 - Subsequent Events.
Item 4. Submission of Matters of Security Holders
At the annual meeting of shareholders held September 16, 1998, the security
holders elected Mr. Michael Caruana and Mr. James Pruzin to the Board of
Directors, approved the appointment of Harlan & Boettger, LLP as the Company's
independent accountants for the year ended December 31, 1998 and authorized the
Board of Directors to change the domicile of the Company from Utah to Nevada.
12
<PAGE>
PART II
Item 5. Market for Common Equity and Related Stockholder Matters
The common stock is quoted on the bulletin board maintained by the National
Association of Securities Dealers, Inc. The following table sets forth the range
of high and low bid and asked quotations for the common stock during the three
most recent calendar years ended December 31, 1998, 1997 and 1996:
<TABLE>
<CAPTION>
High Bid Low Bid High Asked Low Asked
- -------------------------------- -------------------- -------------------- --------------------- ---------------------
<S> <C> <C> <C> <C>
March 31, 1996 5.75 4.25 6.37 5.00
- -------------------------------- -------------------- -------------------- --------------------- ---------------------
June 30, 1996 5.75 4.62 6.50 5.12
- -------------------------------- -------------------- -------------------- --------------------- ---------------------
September 30, 1996 7.50 3.00 12.25 5.00
- -------------------------------- -------------------- -------------------- --------------------- ---------------------
December 31, 1996 5.00 1.50 6.00 2.75
- -------------------------------- -------------------- -------------------- --------------------- ---------------------
March 31, 1997 3.00 1.50 4.00 3.00
- -------------------------------- -------------------- -------------------- --------------------- ---------------------
June 30, 1997 3.125 2.25 3.375 2.6875
- -------------------------------- -------------------- -------------------- --------------------- ---------------------
September 30, 1997 2.375 .6875 2.6875 .875
- -------------------------------- -------------------- -------------------- --------------------- ---------------------
December 31,1997 3.125 .875 3.375 1.00
- -------------------------------- -------------------- -------------------- --------------------- ---------------------
March 31, 1998 1.922 1.00 1.922 1.00
- -------------------------------- -------------------- -------------------- --------------------- ---------------------
June 30, 1998 1.797 .797 1.797 .797
- -------------------------------- -------------------- -------------------- --------------------- ---------------------
September 30, 1998 1.938 .25 1.938 .25
- -------------------------------- -------------------- -------------------- --------------------- ---------------------
December 31,1998 .563 .25 .563 .25
- -------------------------------- -------------------- -------------------- --------------------- ---------------------
</TABLE>
The above prices were obtained from the National Quotation Bureau, Inc. The
prices shown in the above table represent inter-dealer quotations without retail
mark-up, mark-down or commission, and may not necessarily represent actual
transactions. On December 31, 1998, there were broker-dealers publishing quotes
for the common stock.
All of the Company's issued stock has been issued pursuant to Rule 144 of the
Securities Act and could come into any market which exists under Rule 144.
Approximately 495,000 and 450,000 outstanding Rule 144 shares exist at December
31, 1998 and 1997 held by principal and directors, respectively.
The Company does not anticipate payment of any other stock or cash dividends in
the foreseeable future.
13
<PAGE>
The following information sets forth certain information for all securities the
Company sold during the past three years without registration under the
Securities Act of 1933 (the "Securities Act"). All transactions were effected in
reliance on the exemption from registration afforded by Section 4 (2) of the
Securities Act for transactions not involving a public offering. There were no
underwriters in any of these transactions.
All the transaction hereunder were between the Company and accredited investors
as defined in Section 4(2) of the Securities Act of 1933 or sophisticated
investors that possessed sufficient knowledge and experience in financial and
business matters to be able to evaluate the merits and risks of the investment
and were allowed access to the books and records of the Company.
On February 28, 1996, the Company issued 27,000 shares of its common stock to
former attorney Kevin Quinn for $466,560.
On March 27, 1996, the Company acquired a complete line of cosmetics, including
inventory, valued at $161,250 and marketed under a brand name, for 12,000 shares
of the Company's common stock.
On June 3, 1996, the Company issued 5,000 shares of the Company's common stock
to Cavaform, Inc. for outstanding liabilities, in the amount of $106,775, on
behalf of Xinhui JV. These payments were to increase our investment in Xinhui
and to expedite completion of molds.
On June 3, 1996, the Company issued a total of 1,267 shares of its common stock
for the purchase of inventory valued at $30,145 to Kenneth Johnson/Marvin
Lieberman and Edmund Murray in the amount of 667 shares and 600 shares,
respectively. Inventory consists primarily of beauty products and pen
accessories.
On June 11, 1996, the Company issued 94 shares of the Company's common stock to
Idea International, Inc. in settlement of $2,813 in accounts payable.
Pursuant to a Sales Agreement dated September 17, 1996, the Company agreed to
contingently acquire a fifty percent (50%) interest in thirty four gold lode
claims, valued at approximately $3,000,000 from Promed International, Ltd. for
649,350 shares of the Company's Common stock.
Pursuant to a Sales Agreement dated September 17, 1996, the Company agreed to
contingently acquire a fifty percent (50%) interest in thirty four gold lode
claims, valued at approximately $3,000,000 from Mandarin Overseas Investment
Co., Ltd. for 649,350 shares of the Company's common stock.
On September 30, 1996, pursuant to a Purchase and Sales Agreement, dated July 8,
1996, and its Addendum, dated August 8, 1996, the Company acquired a commercial
real estate project, commonly known as the Peony Gardens Property, located in
mainland China, for 4,000,000 shares at $2.50 per share of the Company's common
stock, and a Convertible Secured Promissory Note. On September 30, 1996, Pacific
Rim Capital received 400,000 shares at $5.00 per share of the Company's common
stock and Philip Cavana received 200,000 shares at $5.00 per share of the
Company's Common stock for $3,000,000 in brokerage fees in connection with this
purchase.
On September 30, 1996, pursuant to a Resolution of the Company's Board of
Directors, the Company issued 425,000 shares at $0.50 per share of the Company's
common stock to Pacific Rim Capital on account of funds advanced in the amount
of $271,395 for working capital during the January 1, 1996 to September 30, 1996
period.
14
<PAGE>
On January 29, 1997, the Company issued 18,672 shares of the Company's common
stock to various vendors in settlement of $40,225 in accounts payable.
Pursuant to an investment banking services agreement with DanAllen Investments,
Inc. dated February 1997, the Company issued 100,000 shares of its common stock
at a value of $1.50 per share for investment banking services. See Part I, Item
1 "Description of Business" for details regarding the investment banking
agreement.
On March 17, 1997 and May 7, 1997, the Company issued 1,000,000 and 138,000
shares, respectively, of the Company's common stock, pursuant to Regulation "S"
to Pacific Rim Capital for $569,000 in cash. Cash was used for working capital
and acquisition of Pego Systems, Inc.
On April 7, 1997 and October 4, 1997, the Company issued 289,000 shares at a
value of $.50/share and 50,000 shares, at a value of $1.00/share of the
Company's common stock to various officers, directors and employees of the
Company as follows:
Dr. Alan Phan 200,000 shares
Directors 35,000 shares
Employees 104,000 shares
Pursuant to an agreement with Capital Commerce Ltd., dated July 31, 1997, the
Company issued to Mercantile Investment Trust, Ltd. 685,715 shares of common
stock valued at $600,000 for services as intermediary, broker and finder with
respect to this agreement.
Pursuant to an agreement with Capital Commerce, Ltd., dated July 31, 1997, the
Company issued 4,000 shares of Series A 9% Convertible Preferred Stock and 2,000
shares of Series B 9% Convertible Preferred Stock. Dividends are declared and
paid monthly. See Part I, Item 1, "Description of Business" for additional
details of the marketable securities agreement.
In connection with the acquisition of Pego Systems, Inc., dated October 3, 1997,
the Company issued 1,500 shares, stated value $1,000 per share, redeemable
preferred stock to Michael Caruana, along with 200,000 shares of the Company's
common stock. Additionally, 250,000 shares of the Company's common stock was
issued to Simerco Trading, Ltd., a British Virgin Island Company. See Part I,
Item 1, "Description of Business" for additional details.
On November 30, 1997, the Company issued 650,000 shares of the Company's common
stock to Mandarin Overseas Investment Co., Ltd. (Mandarin); pursuant to
Regulation S for $520,000 in cash. Cash was used in part for the acquisition of
Electronic Components and Systems, Inc.
On October 28, 1997, pursuant to the reorganization agreement, the Company
issued 3,400 shares of 9% Convertible Preferred Stock, stated value $1,000 per
share, and 2,500,000 shares of the Company's common stock in connection with the
acquisition of Electronic Components and Systems, Inc. See Part I, Item 1,
"Description of Business" for additional details.
During the second quarter of 1998, the Company sold 2,000,000 shares of its
common stock pursuant to regulation S. The Company raised $825,000 of cash and
recorded $301,000 in subscriptions. As part of settlement agreements in March
1999, 600,000 shares of the Company's common stock was returned in settlement of
the subscriptions receivable. See Part1, Item 1 - Subsequent Events.
15
<PAGE>
On June 4, 1998 and July 13, 1998, the Company issued 332,857 and 45,000 shares,
respectively at a value of $.50/share of the Company's common stock to various
officers, directors and employees of the Company as follows:
Dr. Alan Phan 240,571 shares
Directors 101,000 shares
Employees 36,286 shares
On August 6, 1998, Pego acquired 100% percent of the outstanding common stock of
Pacific Pneumatics, Inc. (PPI), located in Rancho Cucamonga, California. The
purchase price of $215,000 was paid in the form of $200,000 in cash and $15,000
value of The Hartcourt Companies common shares (9,796 shares). Under the
acquisition agreement Pego caused PPI to prepay $35,000 of its notes payable to
a selling shareholder. PPI manufactures pneumatic conveying, industrial dust
collection and industrial process electrical controls. PPI has been
manufacturing and selling it components under the trademark names "Pore Poly,
"Posit Dust Collectors and Filters" and "Pow-Air" for over 20 years.
On August 24, 1998, the Company and ECS executed an agreement and plan of merger
with Elan Manufacturing, Inc. (Elan a contract manufacturer of electronic
components similar to ECS, located in the Silicon Valley. Under the agreement,
Elan was merged into and with the Company, thereby ceasing Elan's existence. The
merger was effective September 1, 1998, and the purchase price of $616,240.63
was paid by the Company issuing 724,989 common shares to the three selling
shareholders based at a value of $0.85 per share. The Company and ECS have
guaranteed to the three selling shareholders that the value of such shares shall
be no less than $.85 per share on September 1, 1999. If the value of the shares
does not equal $.85 per share on September 1, 1999, the Company and ECS shall
make up any shortfall by issuing additional free trading shares or cash to the
selling shareholders.
On December 28, 1998, the Company sold 200,000 shares of its common stock
pursuant to Rule 144, raising $25,000 in cash. Another 203,000 shares were sold
on January 4, 1999 for $24,500.
Subsequent to year end, the Board of Directors issued 410,000 shares of Common
Stock at a value of $.25 per share to various officers, directors, and employees
of the Company and as compensation to unaffiliated parties for services rendered
as follows:
Dr. Alan Phan 100,000 shares
Directors 100,000 shares
Employees 5,000 shares
Unaffiliated parties 205,000 shares
Item 6. Management's Discussion and Analysis or Plan of Operation
Overview
Prior to 1997, the Company's primary business had been the assembly and
importing of writing instruments for sale in the U.S. and the establishment of a
real estate portfolio which would include office, commercial, industrial,
residential and raw land. During 1997 and 1998, the Company actively implemented
a plan to acquire operating companies that are in established industries with a
history of growth.
16
<PAGE>
During the third quarter of 1996, the Company acquired Peony Gardens, a
commercial real estate project in the eastern part of Tougxian in Beijing City,
Mainland China, commonly known as the Peony Gardens property. The project, when
completed, will be comprised of three 5-7 story apartment buildings. See Part I,
Item 2, "Description of Property - Real Estate and Operating Data" and Part I,
Item 1 - "Subsequent Events."
During the third quarter of 1996, the Company purchased, in two separate
transactions, an undivided 50% interest in a total of 68 mineral lease gold lode
claims, 34 from each transaction respectively, located in the Melozitna mining
district near Tanana, in southern Alaska. See Part 1, Item 2, "Description of
Property Mineral Lease Gold Lode Claims." In July, 1998, the Company served
notice to the sellers that it intended to rescind the contract as certain
required appraisals had not been provided as required. The company originally
paid 1,298,700 shares of the common stock for these rights. In March, 1998, upon
return of 1,298,700 shares, the Company relinquished all rights to the leases
and rescinded the transaction. See Part I, Item 1 - "Subsequent Events."
In the fourth quarter of 1996, the Company, through its wholly-owned subsidiary,
Harcourt Investments, sold its 52% interest of the Xinhui JV, to CKES, Inc. for
$3,000,000. The Company received a $3,000,000 promissory note which is payable
in installments of $50,000 per month for 60 months, starting October 1, 1998.
Interest accrues at 6% per annum and is payable in full at the end of the loan
period. To date, no payments have been made on the note. The note is secured by
all assets of CKES, Inc.
In October 1997, the Company purchased Pego Systems, Inc. (Pego) from a director
of the Company for common stock and cash. See Part F/S "Consolidated Financial
Statements, Years ended December 31, 1998 and 1997 - Notes to Consolidated
Financial Statements", Note C, "Investments and Business Acquisitions."
In October 1997, the Company acquired Electronic Components and Systems, Inc.
(ECS) and an entity related to ECS for Company stock, cash and a promissory
note. See Part F/S, "Consolidated Financial Statements, Years Ended December 31,
1998 and 1997 - Notes to Consolidated Financial Statements", Note C,
"Investments and Business Acquisitions." and Part 1, Item 1 "Description of
Business, General" and Part I, Item 1 - "Subsequent Events", for additional
details.
During 1998, the Company's subsidiaries Pego and ECS, each acquired a smaller
operating company to garner greater market share. Pego, acquired Pacific
Pneumatics, Inc in August 1998 and ECS acquired Elan Manufacturing, Inc. in
September 1998.
During most of 1998, but primarily during the second half of 1998, the Company
had been attempting to raise cash by the sale of the marketable securities
received from Capital Commerce, Ltd.("Capital") in exchange for the Series A and
B preferred stock. Due to declining market values and other factors, to date the
Company has only been successful in selling securities for cash in the amount of
$1.1 million and on October 7, 1998, the Company demanded that Capital perform
under its guarantee and provide the Company either cash or additional free
trading marketable securities to reach the $6 million minimum cash availability
under the agreement.
This inability to raise needed cash, plus the significant operating losses
experienced by ECS in the 4th quarter of 1998, placed severe strains on the
Company's operations, resulting in the going concern qualification as noted in
Part II, Item 7 Consolidated Financial Statements, Note AA.
In March, 1999, the Company settled its dispute with Capital Commerce and
others. (See Part I, Item 1 "Subsequent Events".
17
<PAGE>
Results of Operations
Beginning in 1996, as discussed previously, the Company made some fundamental
changes in its business direction including the 1997 acquisitions of Pego and
ECS. The following discussion relates to the twelve months ended December 31,
1998, followed by a discussion of the twelve months ended December 31, 1997.
1998
During 1998, the Company's domestic writing instrument operations were
discontinued and sales were minimal due to the continued lack of a comprehensive
marketing program and the Company's refocus of overall objective and corporate
direction. The Company's subsidiary, ECS, has one major customer, General
Instrument Corporation, which provided $10,107,494 in revenue or 43.4% of the
Company's total revenue.
Components of cost of sales were as follows: writing instruments $239,549, Pego,
$4,763,677, 72% as a percent of Pego's sales; and ECS, $13,127,069, 79% as a
percent of ECS's sales. Total cost of sales, $18,130,295 is 78% of total product
revenues.
Components of gross profit were as follows: writing instruments, $(189,466),
Pego, $1,872,643, 28% as a percent of Pego sales; and ECS, $3,458,980, 21% as a
percent of ECS's sales. Total gross profit, $5,152,157 is 22% of total product
revenues. Gross profit as a percent of total revenues did not improve over 1997
because of both ECS and Pego experienced reduced orders in the 4th quarter of
1998. In 1997, the margins were negatively impacted, due to effects of the
required accounting treatment for the inventory acquired in both the Pego and
ECS acquisitions.
Components of selling, general and administrative expenses were as follows:
Pego, $1,741,278, for 1998 compared to $376,774 for 1997 and ECS $3,979,855
compared to $524,339 with the increases due to full year reporting on a
consolidated basis for both entities and increased sales at ECS. General and
administrative expenses for corporate and writing instruments was $1,539,141,
for 1998, compared to $816,317 with the increase due entirely to a full year of
holding company operations. Impairments of $17,083,239 were recorded on both
investments and investments in subsidiaries in 1998.
At year end 1998, as a result of the losses at ECS, the Company determined that
the goodwill at ECS had been impaired and in accordance with FASB 121 reduced
the goodwill carrying value to the amount of the common and preferred shares to
be returned by Mr. James Pruzin in exchange for a 30% interest in ECS.
Additionally, as a result of the return of the marketable securities to Capital
Commerce, the Company determined that Pego's goodwill should be impaired by the
amount of the receivable due Pego by the Company. The remaining unimpaired
goodwill related to the Pego and ECS acquisitions is being amortized over 25
years. Amortization costs of $411,928 were recorded in calendar year 1998.
Although goodwill has been impaired, management still believes the two
acquisitions should generate operating income that will significantly exceed the
goodwill amortization.
During 1998, the Company recorded $127,626 in other income for the forgiveness
of debt with respect to the Scripto-Tokai agreement.
18
<PAGE>
1997
During 1997, the Company's domestic writing instrument operations were limited
due to the continued lack of a comprehensive marketing program and the Company's
refocus of overall objective and corporate direction. Domestic sales for writing
instruments was $156,336 for the year. In addition the Company's total revenues
consist of $1,881,159 of revenue from three months of operations from Pego, and
$2,686,410 of revenue from two months of operations from ECS. Total 1997
revenues from these three sources amounted to $4,723,905. The Company's
subsidiary, ECS, has one major customer, Next Level Systems, Inc., which
provided $1,493,686 in revenue or 32% of the Company's total revenue.
Components of cost of sales were as follows: writing instruments $65,032, Pego,
$1,204,657, 64% as a percent of Pego's sales; and ECS, $2,418,753, 90% as a
percent of ECS's sales. Total cost of sales, $3,688,442 is 78% of total product
revenues.
Components of gross profit were as follows: writing instruments, $91,304, Pego,
$676,502, 36% as a percent of Pego sales; and ECS, $267,159, 10% as a percent of
ECS's sales. Total gross profit, 1,035,463 is 22% of total product revenues.
Gross profit as a percent of total revenues should improve over the next twelve
months following the effects of certain accounting treatment of the acquired
inventory in the Pego and ECS acquisitions.
Gross profits, as a percent of total revenues, for both Pego and ECS were
negatively impacted for the year ended December 31, 1997 due to the effects of
Accounting Principles Board pronouncement number 16 (APB 16), which states that
the inventory of a company being acquired using the purchase method of
accounting, must be stated as fair value at the time of the acquisition.
However, with respect to the inventories, the accounting treatment is to record
beginning inventories at selling prices, less any cost to complete and cost to
sell (including selling profit) for inventories. The result of this accounting
treatment was to increase beginning inventories for both Pego and ECS and
increase cost of sales for the year ended December 31, 1997.
Components of selling, general and administrative expenses were as follows:
corporate, $202,048, writing instruments, $573,711, Pego $417,332, and ECS,
$524,339. Total selling, general and administrative expenses for corporate and
writing instruments, $775,759 for 1997, compared to $1,242,756 during 1996, a
decrease of 38%. This decrease reflects a continued effort by the Company to cut
cost and also due to the sale of the Xinhui JV in 1996. Management believes
selling, general and administrative expenses as a percent of total revenues,
36%, should hold relatively constant over the next twelve months.
Goodwill related to the Pego and ECS acquisition is being amortized over 25
years. Amortization costs of $71,390 were recorded in calendar year 1997.
Management believes the two acquisitions will generate operating income that
will significantly exceed the goodwill amortization.
During 1997, the Company recorded $376,615 in other income for the forgiveness
of debt with respect to the Anja lease agreement. The Company has agreed to pay
Anja $200,000 over five years. In return Anja has agreed to terminate the lease
agreement for the five ball point pen assembly machines. The Company incurred
interest expense of $113,000 during 1997 in connection with mortgages, notes and
lines of credit, $68,000; capital leases, $17,000 and factoring agreement,
$28,000.
19
<PAGE>
Liquidity and Capital Resources
The Company's principal capital requirements during 1998 and 1997 were to fund
the acquisitions of real estate, mineral rights and operating businesses and the
losses at ECS. The Company has historically satisfied its cash requirements
through the issuance of the Company's preferred and common stock. See Part 1,
Item 5, "Market for Common Equity and Related Stockholder Matters" for
additional details regarding stock transactions.
1998
The Company's current ratio at December 31, 1998 was 1.7 compared to 2.4 at
December 31,1997, however if the value of the marketable securities received
from Capital Commerce was excluded from the calculation the ratio would be
reduced to 1.1. The decrease is primarily attributable to the Company's
assumption of liabilities in connection with the acquisition of Pego and ECS.
Concurrently, the Company experienced a decrease in working capital of
approximately $3,472,000 from $7,480,000 at December 31, 1997 to $4,008,000 at
December 31, 1998. The decrease in working capital is primarily due to losses
experienced at ECS during 1998 and the increase in borrowed funds used for
retirement of Preferred Stock and investing activities.
The Company's operating activities consumed cash of approximately $1,408,746 for
the year ended December 31,1998. In 1998, the Company had an operating loss of
approximately $1.5 million, excluding the effects of impairments, settlements,
depreciation, amortization and reserve for bad debts. In addition, increases in
accounts receivable were offset by decreases inventory and current liabilities
including accounts payable and other short term liabilities, which increased
cash by approximately $307,000.
Cash provided by investing activities for the year ended December 31, 1998
totaled $13,082. This amount represents $595,573 in proceeds from the sale of
marketable securities, $206,622 of proceeds from notes receivable less $329,570
used for purchaes of property and equipment and $462,543 paid on acquisitions.
Cash provided by financing activities was $1,702,429 for the year ended December
31, 1998. Funds were provided by the issuance of the Company's common stock,
$875,002, proceeds from line of credit, $1,302,609 and from issuance of
long-term debt $1,792,579. Funds were used redemption of Preferred Stock,
$1,300,000, payments on long term debt, $617,207, payments on capital lease
obligations, and payments on shareholder loans of $209,509.
As a result of the above, the Company experienced an increase in cash from
$78,000 as of December 31, 1997 to $384,000 for the year ended December 31,
1998.
1997
The Company's current ratio at December 31, 1997 was 2.4 compared to 3.8 at
December 31,1996. The decrease is primarily attributable to the Company's
assumption of liabilities in connection with the acquisition of Pego and ECS.
Concurrently, the Company experienced an increase in working capital of
approximately $6,396,000 from $1,084,000 at December 31, 1996 to $7,480,000 at
December 31, 1997. The increase in working capital is primarily due to the
marketable securities agreement entered into with Capital Commerce, Ltd. The
increase in working capital will provide funds for operations and capital for
additional acquisitions.
20
<PAGE>
The Company's operating activities consumed cash of approximately $800,000 for
the year ended December 31,1997. For the year ended 1997, the Company had an
operating loss of approximately $620,000, excluding the effects of depreciation,
amortization and reserve for bad debts. In addition, increases in accounts
receivable and inventory, offset by increases in accounts payable, consumed
additional cash of approximately $180,000.
Cash used for investing activities for the year ended December 31, 1997 totaled
$281,000. This amount represents $750,000 paid in connection with the Pego and
ECS acquisitions and the purchase of property and equipment of $59,000. These
cash outlays were offset by the sale of marketable securities of $525,000.
Cash provided by financing activities was $1,161,000 for the year ended December
31, 1997, consisting primarily of the proceeds from the issuance of the
Company's common stock, $1,063,000, shareholder loans, $110,000, line of credit,
$100,000, and offset by payments on long-term debt, $21,394 and payments on
capital leases of $26,800, and payments with respect to the shareholder loans of
ECS, $84,300.
As a result of the above, the Company experienced an increase in cash from $800
as of December 31,996 to $78,000 for the year ended December 31, 1997.
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 of the Company's
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 disruption of normal business activities.
Based on a recent and ongoing assessment, the Company determined that it will be
required to modify or replace portions of its software and software that has
been sold to customers so that computer systems will function properly with
respect to dates in the year 2000 and thereafter. The Company presently believes
that with the modifications it has made to existing software and conversions to
new software it has eliminated any significant operational problems from the
year 2000 issue.
The Company has initiated communications with its significant suppliers and
major customers and determined that it should have experience any significant
operational problems from any third party's failure to remedy their own Year
2000 issues.
The Company has utilized both internal and external resources to modify, and
replace software for Year 2000 compliance. The Company is currently testing the
modifications and new software and anticipates completing the Year 2000 project
testing by May 31, 1999, which is prior to any anticipated impact on its
operating systems.
The costs of the project have not been material, and the date on which the
Company believes it will complete Year 2000 modification testing are based on
management's best estimates. However, there can be no guarantee that these
estimates will be achieved and actual results could materially differ from those
anticipated.
21
<PAGE>
Effect of Recently Issued Accounting Standards
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 131, "Disclosures about Segments of an
Enterprise and Related Information" ("SFAS 131"). The Company adopted SFAS 131
in its reporting for the Year Ended December 31, 1998. See Part F/S
"Consolidated Financial Statements, Years ended December 31, 1998 and 1997 -
Notes to Consolidated Financial Statements", Note V. No other recently issued
Accounting Standards had an impact on the Company.
Item 7. Consolidated Financial Statements
Financial Statements are referred to in Item 13(a), listed in the Index to
Financial statements and filed and included elsewhere herein as a part of this
Annual Report on Form 10-KSB.
Item 8. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
None
22
<PAGE>
PART III
Item 9. Directors, Executive Officers, Promoters and Control Persons;
Compliance with Section 16(a) of the Exchange Act.
The following table sets forth certain information about the
directors and executive officers of the Company.
Name Age Position
Dr. Alan V. Phan 53 Chairman of the Board,
President, and Chief
Executive Officer
Leonard J. Roman(1) 49 Executive Vice
President, Chief
Financial Officer and
Director
Frederic Cohn(1) 59 Secretary, Treasurer and
Director
(1) As part of a restructuring of The Hartcourt Companies, Inc., Mr. Roman and
Mr. Cohn resigned their positions as Officers and Directors of The
Hartcourt Companies, Inc., remaining as Officers and Directors in similar
capacities of Enova Corporation. See Part I, Item 1 - "Subsequent Events".
Dr. Alan V. Phan is the founder of the Company and has been Chairman,
President, Chief Executive Officer and Chief Financial Officer since
November 1993. He also is the founder of Harcourt Investments and Hartcourt
Pen. See Part I, Item 1, "Description of Business--General." From 1986 to
October 1993, Dr. Phan was the owner of Hartcourt Consulting, an export
management firm and, from 1980 to 1986, he was the Executive Vice President
of EM Kay Group (which owned Magic Marker Industries). In addition to his
activities in the export and writing instrument business, Dr. Phan has been
involved in gold mining operations, as manager in the Philippines
(1971-1972) for Eisenberg Group, a company located in Israel. He was active
in the real estate industry from 1976 until 1982 as owner of Alpha
Development, a California real estate company. Dr. Phan received his
academic training and degrees at Pennsylvania State University (1967), and
Sussex College of Technology, Sussex England (1975).
Leonard J. Roman has been a director since September 1998 and has 28 years
of diversified public and private business management experience. From 1991
to 1994, he was General Manager and Chief Financial Officer of Cosmar
Corporation, from 1995 to 1997 he was President of Trumpets Holdings, Inc.
and was Executive Vice President, Chief Financial Officer of W-C Designs,
Inc. He ia a CPA with a B.S. degree from St. John's University.
Frederic Cohn has been a director and Secretary since November 1993. From
1990 to 1993, Mr. Cohn was the President and Chief Executive Officer of
Aladdin Enterprises, Inc., an entertainment equipment leasing firm, located
in Santa Monica, California. Mr. Cohn is a graduate of New York Law School
(1978).
23
<PAGE>
Directors serve for a term of one year or until their successors are elected and
qualified. Directors do not receive any cash compensation for serving as such,
although the Company is contemplating the adoption of a plan to compensate
directors through the issuance of shares of common stock. The terms of such a
plan currently are under consideration and there can be no assurance as to when,
if ever, it will be implemented.
Executive officers are appointed by and serve at the will of the Board of
Directors. There are no family relationships between or among any of the
directors or executive officers of the Company.
Rights and Preferences of Preferred Stock
Original Prefered Stock
As the sole holder of the 1,000 outstanding shares of Company Original Preferred
Stock, Dr. Phan is entitled to elect 3/5 of the number of members of the
Company's Board of Directors, whereas the holders of the outstanding shares of
common stock are entitled to elect 2/5 of that number.
Series A 9% Convertible Preferred Stock
Non-voting convertible preferred stock, 4,000 shares authorized with a stated
value of $1,000 per share. Holders of shares shall be entitled to receive
cumulative dividends at a rate equal to 9% per annum. Series A convertible
preferred stock is subject to redemption at any time, at the option of the
Company, at a redemption price equal to $1,000 per share plus accrued and unpaid
dividends to the date of redemption. Holders of Series A Convertible Preferred
Stock may convert their shares into either (A) a number of shares of fully paid
and non-assessable common stock of Electronic Components Systems, Inc., a Nevada
Corporation, equal to .0015% of total outstanding shares of ECS or (B) shares of
fully paid and non-assessable common stock of the Company. Dividends are to be
declared and paid monthly. In connection with settlement of certain litigation
and other claims, all outstanding shares of the Series A Preferred Stock was
returned to the Company and cancelled. See Part I, Item 1 - Subsequent Events.
Series B 9% Convertible Preferred Stock
Non-voting convertible preferred stock, 2,000 shares authorized with a stated
value of $1,000 per share. Holder of shares shall be entitled to receive
cumulative dividends at a rate equal to 9% per annum. Series B convertible
preferred stock is subject to redemption at any time, at the option of the
Company, at a redemption price equal to $1,000 per share, plus accrued and
unpaid dividends to the date of redemption. Holders of Series B convertible
preferred stock may convert their shares into either (A) a number of shares of
fully paid and non-assessable shares of common stock of Pego Systems, Inc., a
California Corporation, equal to .015% of total outstanding shares of Pego or,
(B) shares of fully paid non-assessable common stock of the Company. Dividends
are to be declared and paid monthly. In connection with settlement of certain
litigation and other claims, all outstanding shares of the Series B Preferred
Stock was returned to the Company and cancelled. See Part I, Item 1 - Subsequent
Events.
24
<PAGE>
Series AB 9% Convertible Preferred Stock
Non-voting convertible preferred stock, 25,000 shares authorized with a stated
value of $1,000 per share. Holder of shares shall be entitled to receive
cumulative dividends at a rate equal to 9% per annum. Series AB convertible
preferred stock is subject to redemption at any time, at the option of the
Company, at a redemption price equal to $1,000 per share, plus accrued and
unpaid dividends to the date of redemption. Holders of Series AB convertible
preferred stock may convert their shares into fully paid non-assessable common
stock of the Company. In connection with settlement of certain litigation and
other claims, all outstanding shares of the Series AB Preferred Stock was
returned to the Company and cancelled. See Part I, Item 1 - Subsequent Events.
Series D Convertible Preferred Stock
Voting convertible preferred stock, 10,000 shares authorized with a stated value
of $1,000 per share. Holders of Series D Convertible Preferred Stock shall be
entitled to receive, when declared by the Board of Directors, dividends at a par
with holders of the Company's common stock, as if the Series D Convertible
Preferred Stock had been converted in common stock on the record date for the
payment of dividend. Each outstanding share of Series D Convertible Preferred
Stock shall be convertible, at the option of its holder, at any time, into a
number of shares of common stock of the Company at a conversion rate equal to
$1,000 divided by the market price of the Company's common stock. The Series D
Preferred Stock was retired in March 1999, in connection with the sale of a 30%
interest in ECS to the President, Mr. James Pruzin. See Part I, Item 1 -
Subsequent Events.
By virtue of his activities in founding and organizing the Company, as well as
his beneficial ownership of its voting securities, Dr. Phan may be deemed to be
a "promoter" of the Company.
Item 10. Executive Compensation.
The following summary compensation table sets forth certain information
regarding compensation, required to be paid pursuant to an employment agreement
during each of the three years ended December 31,1998, 1997 and 1996 to the
person serving as the Company's Chief Executive Officer:
Name and Principal Position Fiscal Year Annual Salary
- --------------------------- ----------- --------------
Dr. Alan V. Phan,
Chief Executive Officer 1998 $200,000
1997 $175,000
1996 $100,000
The Company has an employment agreement with its chief executive officer, Alan
Phan. During the years ended December 31, 1997 and 1996, Dr. Phan received 100%
of his salary in additional shares of common stock of the Company. As Dr. Phan
received no cash payments as compensation for his services during 1998, the
Company expects to issue additional common shares to Dr. Phan in 1999.
25
<PAGE>
There are no salary, bonus or incentive plans covering cash or Company stock
except the Company's 1995 Stock Option Plan (the "Plan"). Under the Plan,
incentive and non-qualified stock options may be granted to directors, officers
and key employees to purchase up to 2,000,000 shares of common stock at an
option price not less than the fair market value of the stock at the time the
option is granted; the option period shall not exceed ten years from the date of
grant. Except in the case of the death or disability of an option holder, vested
options lapse 90 days following termination of continuous employment by the
Company. Vested options lapse one year after the death or disability of an
option holder. No options have been granted under the Plan.
Item 11. Security Ownership of Certain Beneficial Owners and Management
The following table sets forth information as of December 31, 1998 with respect
to persons known to the Company to be the beneficial owners of more than 5% of
its voting securities and with respect to the beneficial ownership of such
securities by each director of the Company and by all directors and executive
officers of the Company as a group.
<TABLE>
<CAPTION>
Name and Address of Amount and Nature of Percent of
Beneficial Owner Beneficial Ownership (1) (2) Common stock
- -------------------------------------- ---------------------------- ------------
<S> <C> <C>
Dr. Alan V. Phan 2,891,520(3) 14.3%
19104 South Norwalk Boulevard
Artesia, California 90701
Frederic Cohn 100,000 *
19104 South Norwalk Boulevard
Artesia, CA 90701
James Pruzin and Antoinette Pruzin J/T
931 E. Calle Mariposa
Tucson, AZ 85718 2,500,000(6) 12.4%
Dragon King Investment Services, Ltd.
c/o Fred Luke
4521 Campus Drive
Irvine, CA 92512 880,000(7) 4.4%
C0DE & Co. 6,807,670(5) 33.7%
55 Water Street 2SL
New York, NY 10041
NuOasis International, Inc. 1,300,000(4) 6.4%
2 Park Plaza, Suite 470
Irvine, California 92714
All officers and directors
as a group 2,991,520 14.8%
</TABLE>
*Less than 1%
26
<PAGE>
(1) Except as otherwise indicated, each of the parties listed has sole voting
and investment power with respect to all shares of common stock indicated.
Beneficial ownership is calculated in accordance with Rule 13-d-3(d) under
the Securities Exchange Act of 1934, as amended.
(2) Except as otherwise indicated, shares held are common stock.
(3) Includes (i) an aggregate of 1,000,000 shares issuable upon conversion of
1,000 shares of Original Preferred Stock and (ii) an aggregate of 103,000
shares held by two sons who reside with Dr. Phan when not attending college
and law school, respectively. As the sole holder of the 1,000 outstanding
shares of Original Preferred Stock, Dr. Phan is entitled to elect 3/5 of
the number of members of the Company's Board of Directors.
(4) In August 1996, the Company purchased an apartment complex located near
Beijing, China for $22 million from NuOasis International, Inc. (a wholly
owned subsidiary of Nona Morelli's II). The purchase price included the
issuance of 4 million shares of common stock, valued at $10 million, and a
promissory note to NuOasis for $12 million. The Note is due and payable on
August 17, 1997 or, if construction is not complete, then the note is
extended to the date the certificate of occupance is received. NuOasis is a
non-affiliate of the Company. See Part I, Item 1 - Subsequent Events.
(5) CEDE & Co. Is a deposit trust corporation (stock brokerage company).
(6) James Pruzin and his wife, Antoinette, jointly owned the former Electronic
Components and Systems, Inc. ("ECS"), Arizona Corp. which was acquired by
the Company on October 28, 1997. In March, 1999, Mr. Pruzin and his wife
exchanged 2,000,000 of their common shares and 3,400 of their Series D
Preferred Shares for a 30% interest in ECS. See Part I, Item 1 - Subsequent
Events.
(7) Subsidiary of NuOasis International, Inc.
Other than the arrangements disclosed in Part I, Item 1 - Subsequent Events, the
Company is not aware of any arrangement which might result in a change in
control in the future.
Item 12: Certain Relationships and Related Transactions
Dr. Alan Phan, a director, executive officer and promoter of the Company,
acquired ten shares of Hartcourt Investments for nominal consideration upon its
organization in April 1993. Pursuant to a stock exchange agreement dated August
8, 1994 with Eastern Rocester Limited, Harcourt Investments acquired a 60%
interest in the Xinhui JV in exchange for 250,000 shares of Harcourt Investments
common stock, representing 80% of the common stock of Harcourt Investments
outstanding immediately subsequent to the transaction. After giving effect to
this transaction, Harcourt Investments was held 80% by Eastern Rocester Limited,
3% by Dr. Phan and 18% by Pacific Rim Capital. See Part I, Item I, "Description
of Business-- General" and Part III, Item 9, "Directors, Executive Officers,
Promoters and Control Persons."
The Company acquired all of the outstanding shares of Harcourt Investments in
exchange for 6,110,337 shares of the Company's common stock pursuant to an
Agreement and Plan of Reorganization dated November 5, 1994. In connection with
this transaction, Dr. Phan received 38,625 of such shares. Michael Caruana, who
currently serves as a director of the Company, was Vice President of the Company
at the time of this transaction. See Part I, Item 1, "Description of
Business--General" and Part III, Item 9, "Directors, Executive Officers,
Promoters and Control Persons.
27
<PAGE>
Dr. Phan acquired ten shares of Hartcourt Pen for nominal consideration upon its
organization in October 1993. All of the outstanding shares of Hartcourt Pen
were acquired by the Company pursuant to an Agreement and Plan of Reorganization
dated December 1, 1994. As the sole stockholder of Hartcourt Pen, Dr. Phan
received all 38,625 shares of the Company's common stock and 1,000 shares of
Original Preferred Stock issued by the Company in connection with this
transaction. See Part I, Item 1, "Description of Business--General" and Part
III, Item 9, "Directors, Executive Officers, Promoters, and Control Persons."
During 1994 and 1995, Pacific Rim Capital ("Pacific Rim"), a non-affiliated
financier for the Company advanced a total of $272,416 to the Company. The
advance was unsecured, bearing interest at the rate of 24% per annum and subject
to no fixed repayment terms. On September 30, 1996, Pacific Rim agreed to
convert this loan for 425,000 shares at $0.50 per share of the Company's common
stock.
In August 1996, the Company purchased an apartment complex located near Beijing,
China $22 million from NuOasis International, Inc. (a wholly owned subsidiary of
Nona Morelli's II). The purchase price included the issuance of 4 million shares
of common stock, valued at $10 million, and a promissory note to NuOasis for $12
million. The Note is due and payable on August 17, 1997 or, if construction is
not complete, then the note is extended to the date the certificate of occupance
is received. NuOasis is a non-affiliate of the Company. Under the deposit method
of accounting in accordance with Financial Accounting Standards No. 66 the
promissory note for $12,000,000 is currently being deferred until the complete
consummation of the Peony Gardens sale. Also the 4 million shares of common
stock is recorded as a deposit at December 31, 1998 and 1997. See Part I, Item 1
- - Subsequent Events.
On October 3, 1997, the Company purchased the outstanding shares of Pego
Systems, Inc. (Pego) where Pego became a wholly-owned subsidiary of the Company.
Pego, a manufacturer's representative organization for air and gas handling
equipment, offers a full line of value added services including distribution,
service and manufacturing of custom process equipment packages. In connection
with the purchase, the Company paid $500,000 in cash, issued 450,000 shares of
restricted common stock, 1,500 shares of Series "C" redeemable preferred stock,
and entered into a non-compete agreement with Pego's majority shareholder,
Michael Caruana, who was prior to the acquisition, a director of the Company.
See Part II, F/S, "Consolidated Financial Statements, Years Ended December 31,
1998 and 1997 - Notes to Consolidated Financial Statements, Note A.
"Organization and Summary of Significant Accounting Policies".
At December 31, 1998 and 1997, the Company had outstanding advances to Dr. Alan
Phan, a director, executive officer and promoter of the Company, in the amount
of $142,522 and $96,691, respectively.
At December 31, 1998 and 1997, ECS had outstanding non interest bearing advances
from its President in the amount of $124,206 and $110,000, respectively.
28
<PAGE>
PART IV.
Item 13. Exhibits and Reports on Form 8-K
The following list describes the exhibits filed as part of this Annual Report
Form 10-KSB.
Exhibit No. Description of Document
2.01 Agreement and Plan of Reorganization, dated November 5, 1994 among
Stardust, Inc.-Production- Recording-Promotion, Harcourt Investments (USA)
Inc. ("Harcourt USA") and the shareholders of Harcourt USA. (1)
2.02 Agreement and Plan or Reorganization dated December 1, 1994 Among Harcourt
USA. The Hartcourt Pen Factory, Inc.("Hartcourt Pen") and the Hartcourt Pen
shareholder. (1)
2.03 Agreement between The Hartcourt Companies, Inc. and the shareholder of Pego
Systems, Inc., "Stock Purchase Agreement", dated June 29, 1997 (4)
2.04 Agreement and Plan of Reorganization, dated October 28, 1997, between The
Hartcourt Companies, Inc., Electronic Component and Systems, Inc., and
Pruzin Technologies, Inc. (5)
3.01 Articles of Incorporation of the Company, as amended. (1)
3.02 Bylaws of the Company. (1)
3.03 Amendment to the Bylaws of the Company. (1)
4.01 Articles of Amendment to Articles of Incorporation of the Company regarding
the Creation of Preferred Stock and the Statement of Rights and Preferences
of Common stock, Original Preferred Stock and Class A Preferred Stock. (1)
4.02 Articles of Amendment of the Articles of Incorporation of The Hartcourt
Companies, Inc., Designating Series A 9% Preferred Stock.
4.03 Articles of Amendment of Articles of Incorporation of The Hartcourt
Companies, Inc. Designating Series B 9% Preferred Stock.
4.04 Certificate of Amendment of the Articles of Incorporation of The Hartcourt
Companies, Inc. Designating Series C Preferred Stock.
4.05 Articles of Amendment of the Articles of Incorporation of The Hartcourt
Companies, Inc. Designating Series D Preferred Stock.
10.01Lease between the Company and Larry M. Mitobe for the Company's
headquarters facility, dated April 9, 1996. (1) 10.02 Equipment Lease
between Harcourt USA and Anja Engineering Corporation, dated April 4, 1994.
(1)
10.03Stock Exchange Agreement between Harcourt USA and Eastern Rocester, dated
August 8, 1994. (1)
29
<PAGE>
10.04 1995 Stock Option Plan. (1)
10.05Purchase Contract between The Hartcourt Companies, Inc. and Exceptional
Specialty Products, Inc., dated March 21, 1996. (1)
10.06Purchase and Sale Agreement, dated August 8, 1996, between The Hartcourt
Companies, Inc. and NuOasis International, Inc., and Addendum to Purchase
and Sale Contract. (1)
10.07Convertible Secured Promissory Note, dated August 8, 1996, in connection
with Purchase and Sale Agreement, dated August 8, 1996 between The
Hartcourt Companies, Inc. and NuOasis International, Inc.(1)
10.08Convertible Secured Promissory Note, dated August 8, 1996, in connection
with Purchase and Sale Agreement, dated August 8, 1996 between The
Hartcourt Companies, Inc. and NuOasis International, Inc., as amended. (1)
10.09Sales Agreement, dated September 17, 1996, between The Hartcourt
Companies, Inc. and Promed International, Ltd. (1)
10.10Sales Agreement, dated September 17, 1996, between The Hartcourt
Companies, Inc. and Mandarin Overseas Investment Co., Ltd. (1)
10.11Purchase and Sale Agreement, dated September 27, 1996, between The
Harcourt Companies, Inc. and CKES Acquisitions, Inc. (1)
10.12Secured Promissory Note, dated September 27, 1996, in connection with
Purchase and Sale Agreement between The Hartcourt Companies, Inc. and CKES
Acquisitions, Inc. (1)
10.13Consulting Agreement, dated December 30, 1996, between The Hartcourt
Companies, Inc. and American Equities LLC, a California limited liability
company. (3)
10.14Investment Banking Agreement, dated March 1998, between The Hartcourt
Companies, Inc. and DanAllen Investment Group. (2)
10.16Marketable Securities Agreement, dated July 31, 1997, between The
Hartcourt Companies, Inc. and Capital Commerce, Ltd. (2)
10.17Lease Termination Agreement, dated March 24, 1998, between Hartcourt
Investment (USA) Corporation and Scripto-Tokai Corporation. (2)
21.01 Subsidiaries of the Company.
23.01 Consent of Independent Certified Public Accountants.
27.01Financial Data Schedule. Pursuant to Rule 12b-32 under Securities and
Exchange Act of 1934, as amended.
(1) Previously filed as an exhibit to the Company's Form 10SB, File No.
97636406 and incorporated herein by reference.
30
<PAGE>
(2) Previously filed as an exhibit to the Company's 10-KSB, dated April 13,
1998, File No. 98592254 and incorporated herein by reference.
(3) Previously filed as an exhibit to the Company's 10-KSB, dated April 15,
1997, File No. 97581142 and as amended by the Company's Form 10-KSB40/A,
dated July 3, 1997, File No. 97636294. Incorporate herein by reference.
(4) Previously filed as an exhibit to the Company's Form 8-K, dated October 21,
1997, file No. 97698732 and as amended by the Company's Form 8-K/A, dated
October 27, 1997, File No. 97701302. Incorporated herein by reference.
(5) Previously filed as exhibit to the Company's Form 8-K, dated November 12,
1997, File No. 97715149. Incorporated herein by reference.
b. Reports on Form 8-K
None.
SUPPLEMENTAL INFORMATION TO BE FURNISHED WITH REPORTS FILED PURSUANT TO
SECTION 15(d) OF THE ACT BY REGISTRANTS WHICH HAVE NOT REGISTERED SECURITIES
PURSUANT TO SECTION 12 OF THE ACT.
The Registrant did not send an Annual Report covering the fiscal year ending
December 31, 1996 nor did it send proxy materials to security holders. If such
report and proxy materials are mailed to security holders, the Registrant shall
furnish to the Commission, for its information, four (4) copies of the Annual
Report to security holders and four (4) copies of the proxy materials.
31
<PAGE>
SIGNATURES
In accordance with Section 13 or 15 (d) of the Securities Exchange Act of 1934,
the registrant has duly caused this registration statement to be signed on its
behalf by the undersigned, thereunto duly authorized.
THE HARTCOURT COMPANIES, INC.
Date:April 15, 1998 By: /s/ Alan V. Phan
----------------------------------
Alan V. Phan, 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 and on the dates indicated.
Signature Title Date
/s/ Alan V. Phan Chairman of the Board, April 15, 1999
------------------------ President and Chief Executive
Alan V. Phan Officer
/s/ Fred Luke Secretary, and Director April 15, 1999
------------------------
Fred Luke
/s/ Jon Lawver Chief Financial Officer and April 15, 1999
------------------------ Director
Jon Lawver
<PAGE>
THE HARTCOURT COMPANIES INC. AND SUBSIDIARIES
Index to Financial Statements
PAGE
INDEPENDENT AUDITOR'S REPORT ............................................F-1
CONSOLIDATED FINANCIAL STATEMENTS:
Consolidated balance sheets as of December 31, 1998 and 1997..........F-2-F-3
Consolidated statements of operations for the years ended
December 31, 1998 and 1997.........................................F-4
Consolidated statements of changes in shareholders' equity for the years
ended December 31, 1998 and 1997...................................F-5-F-6
Consolidated statements of cash flows for the years ended
December 31, 1998 and 1997.........................................F-7
Notes to consolidated financial statements...........................F-8-F-37
<PAGE>
INDEPENDENT AUDITOR'S REPORT
To the Board of Directors and Shareholders of
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES:
We have audited the accompanying consolidated balance sheets of The Hartcourt
Companies, Inc. (a Utah corporation) and Subsidiaries as of December 31, 1998
and 1997, and the related consolidated statements of operations, changes in
shareholders' equity, and cash flows for the years ended December 31, 1998 and
1997. These consolidated financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
consolidated 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 audits to obtain
reasonable assurance about whether the consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the consolidated 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 these audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of The Hartcourt
Companies, Inc. and Subsidiaries as of December 31, 1998 and 1997, and the
results of their operations and their cash flows for the years then ended in
conformity with generally accepted accounting principles.
The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in Note AA to
the consolidated financial statements, the Company has suffered recurring losses
from operations that raises substantial doubt about its ability to continue as a
going concern. The consolidated financial statements do not include any
adjustments that might result from the outcome of this uncertainty.
/s/ Harlan & Boettger, LLP
San Diego, California March 6, 1999,
except for Note Z, as to which, the date is
March 23, 1999
F-1
<PAGE>
<TABLE>
<CAPTION>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, December 31,
1998 1997
-------------- -------------
<S> <C> <C>
ASSETS
CURRENT ASSETS
Cash $ 384,453 $ 77,688
Accounts receivable, net (Note B) 3,175,305 2,355,647
Inventory (Note D) 2,613,560 3,541,321
Notes receivable, current portion (Note E) 101,523 293,673
Prepaid expenses and other 113,068 130,554
Prepaid consulting fees (Note L) - 664,770
Due from related parties (Note F) 175,907 131,398
------------- -------------
TOTAL CURRENT ASSETS 6,563,816 7,195,051
PROPERTY AND EQUIPMENT, net (Note G) 4,262,120 3,568,507
INVESTMENTS (Note C) 11,030,000 23,381,486
NOTES RECEIVABLE, net of current portion (Note E) - 1,058,267
OTHER ASSETS 18,423 552,289
INTANGIBLES, net (Note H) 5,198,033 9,365,000
------------- ------------
TOTAL ASSETS $27,072,392 $45,120,600
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable $ 2,745,796 $ 2,824,419
Lines of credit (Note J) 1,502,609 200,000
Notes payable - current portion (Note K) 1,631,199 205,245
Capital lease obligations - current portion (Note L) 290,204 200,222
Accrued expenses and other current liabilities (Note M) 478,356 1,061,881
Debentures (Note N) 50,000 50,000
Payables to Mexican affiliate (Note O) 483,572 352,942
Notes payable, related parties - current portion (Note P) 145,000 185,000
Advances from officer (Note F) 124,206 110,000
------------ -------------
TOTAL CURRENT LIABILITIES 7,450,942 5,189,709
NOTES PAYABLE, net of current portion (Note K) 1,739,512 1,334,327
CAPITAL LEASE OBLIGATIONS, net of current portion (Note L) 780,760 612,477
NOTES PAYABLE, RELATED PARTIES, net of current portion (Note P) - 125,000
----------------- -------------
TOTAL LIABILITIES 9,971,214 7,261,513
------------ ------------
COMMITMENTS AND CONTINGENCIES (Notes I, L, and AA) - -
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-2
<PAGE>
<TABLE>
<CAPTION>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Continued)
December 31, December 31,
1998 1997
-------------------- ------------
<S> <C> <C>
SHAREHOLDERS' EQUITY
Preferred Stock:
Original preferred stock, $0.01 par value, 1,000 shares
authorized, issued and outstanding (Note R) 10 10
Series A, $1,000 stated value, 4,000 shares authorized,
issued and outstanding (Note R) 4,000,000 4,000,000
Series B, $1,000 stated value, 2,000 shares authorized,
issued and outstanding (Note R) 2,000,000 2,000,000
Series C, $1,000 par value, 1,500 shares authorized, 0
and 1,500 shares issued and outstanding at December
31, 1998 and 1997, respectively (Note R) - 1,500,000
Series D, $1,000 stated value, 10,000 shares authorized,
3,400 shares issued and outstanding (Note R) 3,400,000 3,400,000
Series AB, $100 stated value, 25,000 shares authorized,
4,050 and 0 shares issued and outstanding at December
31, 1998 and 1997, respectively (Note R) 405,000 -
Class A, no par, 10,000,000 shares authorized,
none issued and outstanding - -
----------------- -----------------
TOTAL PREFERRED STOCK 9,805,010 10,900,010
Common stock, $0.001 par value, 50,000,000
shares authorized; 19,954,382 shares issued and outstanding at
December 31, 1998 and 16,441,739 shares issued and outstanding at
December 31, 1997 19,955 16,442
Stock subscription receivable (301,000) (26,000)
Treasury stock, at cost (24,364 shares in 1998 and 1997) (279,928) (279,928)
Additional paid-in capital 33,257,835 31,083,604
Accumulated deficit (25,400,694) (3,835,041)
------------- ------------
TOTAL SHAREHOLDERS' EQUITY 17,101,178 37,859,087
------------- ------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 27,072,392 $45,120,600
============ ===========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-3
<PAGE>
<TABLE>
<CAPTION>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
For the years ended December 31,
1998 1997
------------- ----------
<S> <C> <C>
NET SALES $ 23,282,452 $4,723,905
COST OF SALES 18,130,295 3,688,442
------------- -----------
Gross profit 5,152,157 1,035,463
------------- -----------
OPERATING EXPENSES
Selling, general and administrative 7,260,274 1,717,430
Depreciation and amortization 477,527 97,154
Impairments (Notes C and H) 17,231,138 -
Settlements 1,212,327 -
-------------- ----------------
TOTAL OPERATING EXPENSES 26,181,266 1,814,584
------------- -----------
LOSS FROM OPERATIONS (21,029,109) (779,121)
------------- ------------
OTHER INCOME (EXPENSES)
Other income 50,374 -
Interest expense (380,023) (113,026)
Forgiveness of debt (Note X) 127,626 376,615
Interest income 42,236 28,184
Exchange gain - 14,676
Loss on disposal of property and equipment (70,419) -
--------------- ----------------
TOTAL OTHER INCOME (EXPENSE) (230,206) 306,449
-------------- ------------
NET LOSS BEFORE INCOME TAXES (21,259,315) (472,672)
Income taxes (Note Q) 36,338 1,700
--------------- -------------
NET LOSS $(21,295,653) $ (474,372)
============ ===========
BASIC AND FULLY DILUTED LOSS PER SHARE (Note T) $ (1.19) $ (.05)
=============== ==============
WEIGHTED AVERAGE NUMBER OF SHARES
OUTSTANDING 18,061,430 12,550,337
============= ===========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-4
<PAGE>
<TABLE>
<CAPTION>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
Common
Additional Stock
Common Stock Preferred Stock Paid-in Subscription
Shares Amount Shares Amount Capital Receivable Shares
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance, December 31, 1996 10,560,352 $10,560 1,000 $ 10 $23,204,260 $ - 24,364
Shares issued for settlement
of payables 18,672 19 - - 40,206 - -
Shares issued for consulting
agreement 100,000 100 - - 149,900 - -
Sale of shares under Regulation S 1,788,000 1,788 - - 1,087,212 (26,000) -
Shares issued to employees 339,000 339 - - 194,161 - -
Shares issued for broker/finder fees 685,715 686 - - 599,314 - -
Shares issued for marketable
securities - - 6,000 6,000,000 - - -
Shares issued in connection with
Pego acquisition 450,000 450 1,500 1,500,000 211,051 - -
Shares issued in connection with ECS
acquisition 2,500,000 2,500 3,400 3,400,000 5,597,500 - -
Dividends on preferred stock - - - - - - -
Net loss - - - - - - -
--------------------------- -----------------------------------------------------------------
Balance, December 31, 1997 16,441,739 $16,442 11,900 $10,900,010 $31,083,604 $(26,000) 24,364
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-5
<PAGE>
<TABLE>
<CAPTION>
Total
Treasury Stock Accumulated Shareholders'
Amount Deficit Equity
<S> <C> <C> <C>
Balance, December 31, 1996 $(279,928) $ (3,225,669) $19,709,233
Shares issued for settlement
of payables - - 40,225
Shares issued for consulting
agreement - - 150,000
Sale of shares under Regulation S - - 1,063,000
Shares issued to employees - - 194,500
Shares issued for broker/finder fees - - 600,000
Shares issued for marketable
securities - - 6,000,000
Shares issued in connection with
Pego acquisition - - 1,711,501
Shares issued in connection with ECS
acquisition - - 9,000,000
Dividends on preferred stock - (135,000) (135,000)
Net loss - (474,372) (474,372)
--------- ----------------- -------------
Balance, December 31, 1997 $(279,928) $(3,835,041) $37,859,087
</TABLE>
F-5(a)
The accompanying notes are an integral part of these financial statements.
<PAGE>
<TABLE>
<CAPTION>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
(Continued)
Common
Additional Stock
Common Stock referred Stock Paid-in Subscription
Shares Amount Shares Amount Capital Receivable
<S> <C> <C> <C> <C> <C> <C>
Balance, December 31, 1997 16,441,739 $16,442 11,900 $10,900,010 $31,083,604 $ (26,000)
Sale of shares under Regulation S 2,000,000 2,000 - - 1,123,002 (300,000)
Stock subscription received - - - - - 25,000
Shares issued to employees and
Board of Directors 377,857 378 - - 196,123 -
Shares issued for purchase of Pacific
Pneumatics, Inc. 9,796 10 - - 14,990 -
Shares issued for purchase of Elan
Manufacturing 724,990 725 - - 615,516 -
Preferred stock redeemed for cash - - (1,300) (1,300,000) - -
Preferred stock exchanged for common
stock 200,000 200 (200) (200,000) 199,800 -
Shares issued to investors 200,000 200 - - 24,800 -
Preferred stock dividend - - 4,050 405,000 - -
Net loss - - - - - -
--------------------------- ----------------------------------------------------
Balance, December 31, 1998 19,954,382 $19,955 14,450 $9,805,010 $33,257,835 $(301,000)
=========== ======= ======= ========== =========== =========
F-5(c)
The accompanying notes are an integral part of these financial statements.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
(Continued)
Total
Treasury Stock Accumulated Shareholders'
Shares Amount Deficit Equity
<S> <C> <C> <C> <C>
Balance, December 31, 1997 24,364$ (279,928)$ (3,835,041) $37,859,087
Sale of shares under Regulation S - - - 825,002
Stock subscription received - - - 25,000
Shares issued to employees and
Board of Directors - - - 196,501
Shares issued for purchase of Pacific
Pneumatics, Inc. - - - 15,000
Shares issued for purchase of Elan
Manufacturing - - - 616,241
Preferred stock redeemed for cash - - - (1,300,000)
Preferred stock exchanged for common
stock - - - 0
Shares issued to investors - - - 25,000
Preferred stock dividend - - (270,000) 135,000
Net loss - - (21,295,653) (21,295,653)
---------------------------------- -------------
Balance, December 31, 1998 24,364 $(279,928) $(25,400,694) $ 17,101,178
=========== ========== ============= =============
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-6
<PAGE>
<TABLE>
<CAPTION>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the years ended December 31,
1998 1997
------------ ------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $(21,295,653) $ (474,372)
Adjustments to reconcile net loss to net cash used in operating activities:
Loss on sale of equipment 70,419 -
Write down on note receivable 1,043,795 -
Depreciation 405,481 73,613
Amortization 411,928 71,390
Allowance for doubtful accounts (27,003) 57,443
Impairments 17,231,138 -
Forgiveness of debt (90,000) (376,615)
Accrued interest income - (26,494)
Stock issued for services 196,501 -
Inventory valuation 50,000 -
Settlements 1,212,327 -
Changes in operating assets and liabilities:
Accounts receivable (731,054) (275,772)
Inventory 923,046 (413,340)
Prepaid expenses and other 13,938 110,790
Accounts payable and accrued expenses (758,243) 562,858
Payables to Mexican affiliate 130,630 (112,001)
Other liabilities (95,996) -
-------------- ----------------
NET CASH USED IN OPERATING ACTIVITIES (1,308,746) (802,500)
------------- ------------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of property and equipment (329,570) (59,239)
Proceeds on sale of equipment 3,000 -
Proceeds on sale of marketable securities 595,573 525,034
Proceeds on notes receivable 206,622 37,990
Payments on notes receivable - (35,000)
Payments on acquisitions (462,543) (750,000)
------------- ------------
NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES 13,082 (281,215)
-------------- ------------
CASH FLOWS FROM FINANCING ACTIVITIES
Common stock subscriptions (15,000) (30,000)
Proceeds on loans from shareholders - 110,000
Proceeds from issuance of common stock 875,002 1,063,000
Net proceeds from line of credit 1,302,609 100,000
Payments on loans from shareholders (209,509) (84,258)
Payments on capital lease obligations (226,045) (26,767)
Payments on long-term debt (617,207) (21,394)
Proceeds from issuance of long-term debt 1,792,579 -
Proceeds on debentures - 50,000
Redeemed preferred stock (1,300,000) -
-------------- ----------------
NET CASH PROVIDED BY FINANCING ACTIVITIES 1,602,429 1,160,581
-------------- -----------
NET INCREASE IN CASH 306,765 76,866
CASH, BEGINNING OF YEAR 77,688 822
--------------- --------------
CASH, END OF YEAR $ 384,453 $ 77,688
============== ===========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-7
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
A. Organization and Summary of Significant Accounting Policies:
Organization and Nature of Operations
Hartcourt Investments (USA), Inc., (Hartcourt Investments) was
incorporated on April 23, 1993. Principal business activities are the
design, manufacture and sale of writing instruments. During its first
two years of operation, Hartcourt Nevada used foreign contract
manufacturers to produce various types of pens and markers which were
then imported for sale in the U.S. market. In August 1994, Hartcourt
Investments acquired a 60% interest in Xinhui Harchy Modern Pens, Ltd.
Joint Venture (Xinhui JV) owned by a Hong Kong corporation for common
stock valued at $2,149,200. Xinhui JV is located in the Guangdong
Province of China. Pursuant to an amendment to the joint venture
agreement governing the Xinhui JV entered into in October 1995, the
Company's interest was reduced to a 52% interest in Xinhui JV. In
September 1996, Hartcourt Investments sold its investment in Xinhui JV
to CKES, Inc. of Sunnyvale, California (Notes C and E).
In November 1994, Stardust, Inc., Production-Recording-Promotion
(Stardust) acquired 100% of the outstanding shares of Hartcourt
Investments for 8,280,000 shares of its common stock in a transaction
accounted for as a recapitalization of Hartcourt Investments with
Hartcourt Investments as the acquiree (reverse acquisition). Therefore,
the historic cost of assets and liabilities were carried forward to the
consolidated entity. In 1995 and 1996, reverse stock splits changed the
number of shares issued and outstanding to 6,110,337, then to 2,735,952.
The consolidated financial statements were restated to reflect this
capital stock transaction. Stardust's name was changed to the "The
Hartcourt Companies, Inc."
Hartcourt Pen Factory, Inc. (Hartcourt Pen) was incorporated in October
1993. Principal business activities are the sale of writing instruments.
In December 1994, Hartcourt Investments acquired 100% of the outstanding
shares of the common stock of Hartcourt Pen for 52,500 shares of its
common stock and 1,000 shares of its original preferred stock in a
transaction accounted for similar to a pooling of interests. In 1995,
stock dividends and a reverse stock split changed the number of shares
issued to 38,625 to acquire Hartcourt Pen. The consolidated financial
statements were restated to reflect these capital stock transactions.
In August 1996, The Hartcourt Companies, Inc. (Company) entered into a
purchase and sale agreement with NuOasis International, Inc. (NuOasis),
a corporation incorporated under the laws of the Commonwealth of the
Bahamas, for the purchase of a commercial real estate project,
consisting of three 5-7 story apartment buildings, commonly known as the
Peony Gardens Property (Peony Gardens), located in the eastern part of
Tongxian in Beijing city, mainland China. The Company issued 4,000,000
shares of its common stock with respect to this purchase (Note C).
In September 1996, the Company entered into a sales agreement with
Mandarin Overseas Investment Co., Ltd. (Mandarin) and Promed
International Ltd. (Promed), both unaffiliated Turks and Caicos
chartered companies, for the purchase of their 50% interest in
sixty-eight mineral lease gold lode claims in the state of Alaska, known
as Lodestar claims 1-68 and consisting of 320 acres. All claims are
located in the Melozitna mining district near Tanana, Alaska. The
Company issued 1,298,700 shares of its common stock with respect to this
purchase (Note C).
F-8
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
A. Organization and Summary of Significant Accounting Policies: (continued)
Organization and Nature of Operations (continued)
In October 1997, the Company purchased the outstanding shares of Pego
Systems, Inc. (Pego) whereby Pego became a wholly-owned subsidiary of
the Company. Pego, a manufacturer's representative organization for air
and gas handling equipment, offers a full line of value added services
including distribution, service and the manufacturing of custom process
equipment packages. In connection with the purchase, the Company paid
$500,000 in cash, issued 450,000 shares of common stock, 1,500 shares of
Series C redeemable preferred stock, and entered into a non-compete
agreement with Pego's majority shareholder (Note C).
On October 28, 1997, the Company, through a wholly-owned subsidiary,
acquired Electronic Components and Systems, Inc. (ECS) and Pruzin
Technologies, Inc. (Pruzin), a related entity of ECS. ECS and Pruzin
specialize in high technology contract manufacturing and assembly of
printed circuit boards, phone and cable wires. ECS has three facilities
in Arizona and one in California and has a service contract with a
maquiladora in the free trade zone in Sonora, Mexico. The Company issued
3,400 shares of Series D convertible preferred stock, 2,500,000 shares
of the Company's common stock, $250,000 in cash and a $250,000
promissory note (Notes C and P).
ECS maintains manufacturing operations under maquiladora agreements in
Nogales, Mexico. The 100% shareholder of the maquiladora is also the
President of ECS. A substantial amount of ECS's cables and electronic
components are manufactured and assembled at the Mexico facility.
Principles of Consolidation
The accompanying consolidated financial statements include the accounts
of The Hartcourt Companies, Inc. and its wholly-owned subsidiaries;
Hartcourt Investments, which includes the accounts of Hartcourt Pen,
Pego Systems, Inc., and Electronic Components and Systems, Inc. For
purposes of these consolidated financial statements, The Hartcourt
Companies, Inc. and its subsidiaries will be referred to collectively as
"the Company". All material intercompany transactions and balances have
been eliminated.
Cash and Cash Equivalents
For purposes of the Statement of Cash Flows, the Company considers all
highly liquid investments purchased with an initial maturity of three
months or less to be cash equivalents.
F-9
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
A. Organization and Summary of Significant Accounting Policies: (continued)
Accounts Receivable
In the normal course of business, the Company extends unsecured credit
to customers located in North America. Credit is extended based on an
evaluation of the customer's financial condition. The allowance for
doubtful accounts is based on management's evaluation of outstanding
accounts receivable at the end of the period. The allowance for doubtful
accounts was $49,474 and $76,477 at December 31, 1998 and 1997,
respectively. It is reasonably possible that the Company's estimate of
allowance for doubtful accounts will change. Such a change could be
material to the consolidated financial statements.
Inventory
Inventory is stated at the lower of cost or market, cost being
determined on the first-in, first-out (FIFO) method, and includes
material, labor, and overhead.
Property and Equipment
Property and equipment are stated at cost or estimated fair market value
on the date of acquisition. Depreciation is provided over the estimated
useful lives of the respective assets on the straight-line basis ranging
from five to twenty years. The Company's policy is to evaluate the
remaining lives and recoverability in light of current conditions. It is
reasonably possible that the Company's estimate to recover the carrying
amount of property and equipment will change.
Investments
Investments are provided for using the deposit method of accounting in
accordance with Statement of Financial Accounting Standards No. 66 (SFAS
No. 66), "Accounting for Sales of Real Estate." The deposit method of
accounting is used until a sale has been consummated. "Consummation"
usually requires that all conditions precedent to closing have been
performed, including that the buildings, in the Peony Gardens
acquisition, be certified for occupancy and that the geological survey
of the Lodestar claims in Alaska have a minimum value of $10,000,000
(Note C).
Intangibles
Goodwill and other intangible assets are amortized on the straight-line
basis over the estimated future periods to be benefitted (not exceeding
25 years). Goodwill, the excess of the Company's purchase price over the
fair value of the net assets acquired, is amortized over 25 years. The
covenant not to compete is amortized on the straight line basis over
five years. It is reasonably possible that the Company's estimate of the
recoverability of goodwill will change. Such a change could be material
to the consolidated financial statements.
F-10
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
A. Organization and Summary of Significant Accounting Policies: (continued)
Advertising Costs
Advertising costs are generally expensed as incurred. Advertising
expense included in selling, general and administrative expenses were
$62,745 and $84,573 for 1998 and 1997, respectively.
Foreign Currencies (Xinhui JV)
Assets and liabilities denominated in foreign currencies are translated
into the currency of U.S. dollars using the exchange rates at the
balance sheet date. For revenues and expenses, the average exchange rate
during the year was used to translate China (RMB) into U.S. dollars.
Translation gains and losses resulting from changes in the exchange rate
are included in the determination of the net loss for the period.
Translation gains and losses are excluded from the consolidated
statements of operations and are credited or charged directly to a
separate component of shareholders' equity.
Accounting for Business Combinations
The acquisitions were recorded as purchases in accordance with
Accounting Principle Board Opinion No. 16 (APB No. 16) "Business
Combinations", and the purchase prices were allocated to the assets
acquired, (except for finished goods and work-in-process inventory), and
liabilities assumed based upon their estimated fair value at the
purchase date. The finished goods and work-in-process inventory
(percentage completed) at the purchase date was valued, in accordance
with APB No. 16, at the "sales price" less reasonable profit allowances
for selling effort consisting of sales profit and selling costs. The
operating results of the acquired entities are included in the Company's
consolidated financial statements from the dates of acquisition.
Income Taxes
Income taxes are provided in accordance with Statement of Financial
Accounting Standards No. 109 (SFAS No. 109), "Accounting for Income
Taxes." A deferred tax asset or liability is recorded for all temporary
differences between financial and tax reporting. Deferred tax expense
(benefit) results from the net change during the year of deferred tax
assets and liabilities. The components of the deferred tax asset and
liability are individually classified as current and non-current based
on their characteristics.
Deferred tax assets are reduced by a valuation allowance when, in the
opinion of management, it is more likely than not that some portion or
all of the deferred tax assets will not be realized. Deferred tax assets
and liabilities are adjusted for the effects of changes in tax laws and
rates on the date of enactment.
Reclassification
Certain 1997 amounts have been reclassified to conform to the 1998
consolidated financial statement presentation. These reclassifications
have no effect on previously reported net loss.
F-11
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
A. Organization and Summary of Significant Accounting Policies: (continued)
Loss Per Share
Net loss per share is provided in accordance with Statement of Financial
Accounting Standard No. 128 (SFAS No. 128) "Earnings Per Share". Basic
earnings per share are computed by dividing earnings available to common
shareholders by the weighted average number of common shares outstanding
during the period. Diluted earnings per share reflect per share amounts
that would have resulted if dilutive common stock equivalents had been
converted to common stock. The net loss per share calculations reflect
the effect of stock dividends and stock splits.
Stock Option Plan
Effective January 1, 1996, the Company adopted a method of accounting
for stock-based compensation plans as required by Statement of Financial
Accounting Standard No. 123 (SFAS No. 123) "Accounting for Stock-Based
Compensation". SFAS No. 123 allows for two methods of valuating
stock-based compensation. The first method allows for the continuing
application of Accounting Principle Board Opinion No. 25 (APB No. 25) in
measuring stock-based compensation, while complying with the disclosure
requirements of SFAS No. 123. The second method uses an option pricing
model to value stock compensation and record as such within the
consolidated financial statements. The Company will continue to apply
APB No. 25, while complying with SFAS No. 123 disclosure requirements
(Note S).
Use of Estimates
The preparation of consolidated financial statements in conformity with
generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosures of contingent assets and liabilities at the
date of the consolidated financial statements, and the reported amounts
of revenues and expenses during the reporting period. Actual results
could differ from those estimates.
Impairment of Long-Lived Assets
The Company has adopted Statement of Financial Accounting Standards No.
121 ("SFAS 121") Accounting for the Impairment of Long-Lived Assets and
for Long-Lived Assets to be Disposed Of. Under the provisions of this
statement, the Company has evaluated its long-lived assets for financial
impairment, and will continue to evaluate them as events or changes in
circumstances indicate that the carrying amount of such assets may not
be fully recoverable.
The Company evaluates the recoverability of long-lived assets not held
for sale by measuring the carrying amount of the assets against the
estimated undiscounted future cash flows associated with them. At the
time such flows of certain long-lived assets are not sufficient to
recover the carrying value of such assets, the assets are adjusted to
their fair values. Accordingly, based on these evaluations, management
has adjusted the carrying value of investments and goodwill in 1998
(Notes C and H).
F-12
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
A. Organization and Summary of Significant Accounting Policies: (continued)
Fair Value of Financial Instruments
The following methods and assumptions were used by the Company to
estimate the fair values of financial instruments as disclosed herein:
Cash and cash equivalents: The carrying amount approximates fair value
because of the short period to maturity of the instruments.
Marketable securities: For marketable securities, the carrying amounts
approximate the remaining guaranteed value.
Notes receivable: The fair value of notes receivable is estimated based
on discounted cash flows using a current risk-weighted interest rate and
on the current rates offered by the Company for notes of the same
remaining maturities.
Short-term borrowings: The carrying amount approximates fair value since
the interest rate fluctuates with the lending banks' prime rate.
Long-term debt: The fair value of long-term debt is estimated based on
interest rates for the same or similar debt offered to the Company
having the same or similar remaining maturities and collateral
requirements.
B. Accounts Receivable:
<TABLE>
<CAPTION>
Accounts receivable consists of the following:
December 31, December 31,
1998 1997
------------ ------------
<S> <C> <C>
Accounts receivable, unassigned $3,224,779 $2,239,065
Accounts receivable, assigned (Note I) - 193,059
---------------- -----------
3,224,779 2,432,124
Less allowance for doubtful accounts (49,474) (76,477)
------------ ------------
$3,175,305 $2,355,647
========== ==========
</TABLE>
F-13
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
C. Investments and Business Acquisitions:
Sale of Xinhui Joint Venture
In September 1996, the Company sold its Xinhui joint venture interest to
CKES, Inc. located in Sunnyvale, California. Hartcourt Investments owned
a 52% interest in Xinhui Harcy Modern Pens, Ltd., a joint venture in the
Peoples Republic of China. The joint venture interest was sold for a $3
million dollar note receivable which is payable in 60 equal monthly
installments of $50,000 each, beginning October 1, 1998. Interest
accrues at 6% per annum and is payable in full at the end of the loan
period. The note receivable is secured by a security agreement and
allows the Company to have a security interest in substantially all
assets of CKES, Inc. (Note E).
Generally accepted accounting principles require the recording of the
note receivable at its fair value when the face amount does not
reasonably represent the value of consideration received. Under
Accounting Principles Board No. 21, the note receivable was discounted
$753,985 to its approximate fair value at December 31, 1996. Per
Financial Accounting Standards No. 114, the note receivable was
considered impaired at December 31, 1996 due to the present operating
condition of the Xinhui plant and the length of time before payment
begins by CKES, Inc. At December 31, 1996, the Company reserved
$1,202,220 of the receivable due to payments being deferred to a later
period. At December 31, 1997, the impairment was increased $364,110 to a
balance of $1,584,330 to offset the amortization of the discounts. At
December 31, 1998, the impairment was increased $1,043,795 to reduce the
carrying value of the note to zero.
Investment in Peony Gardens
In August 1996, the Company purchased an apartment complex located near
Beijing, China for $22 million from NuOasis International, Inc.
(NuOasis). The purchase price included the issuance of 4.6 million
shares of common stock, valued at $10 million, and a promissory note to
NuOasis for $12 million. The Note is due and payable upon completion of
construction and the date the certificate of occupancy is received.
Under the deposit method of accounting in accordance with SFAS No. 66,
the promissory note for $12,000,000 was being deferred until the
complete consummation of the Peony Gardens sale. Additionally, the 4
million shares of common stock was recorded as a deposit at December 31,
1998 and 1997. At December 31, 1997, the construction of the complex has
been halted due to the downturn in the economy in Asia. The Company has
the unilateral option of extending the date for completion of the
contract or rescinding the purchase contract. In March 1999, the Company
exchanged the property for marketable securities (Note Z).
Investment in Alaskan Gold Claims
In September 1996, the Company purchased a 50% interest in 68 gold
mining claims encompassing 320 acres of land in the state of Alaska for
$6 million. The purchase was made by issuing 1,298,700 shares of the
Company's common stock. Under the deposit method of accounting in
accordance with SFAS No. 66, the 1,298,700 shares of common stock was
recorded as a deposit at December 31, 1998 and 1997 pending a formal
geological survey of the land. In March 1999, the Company entered into a
settlement agreement whereby, the property was disposed of (Note Z).
F-14
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
C. Investments and Business Acquisitions: (continued)
Purchase of Pego Systems, Inc.
On October 3, 1997, the Company purchased all the outstanding shares of
Pego Systems, Inc. (Pego). Payment terms of the transaction include a
cash payment of $500,000, the issuance of $450,000 of restricted common
stock and 1,500 shares or $1,500,000 of Series C Redeemable Preferred
Stock. Included in the acquisition price is a covenant not-to compete
(Note H). The excess purchase price over the fair value of the net
assets of $1,326,083 was recorded as goodwill and is being amortized
over 25 years (Note H). In 1999, the Company redeemed the Series C
Preferred Stock.
Purchase of Electronic Components and Systems, Inc. and Pruzin
Technologies, Inc.
On October 28, 1997, the Company acquired Electronic Components and
Systems, Inc. and Pruzin Technologies, Inc. through a tax-free
reorganization. The Company paid $250,000 in cash, issued a note for
$250,000, issued 3,400 shares of Series D 9% Convertible Preferred Stock
and 2,500,000 shares of common stock. The excess purchase price over the
fair value of the net assets of $8,010,307 was recorded as goodwill and
is being amortized over 25 years (Note H). During March 1999, the
Company issued 65% of the common stock in ECS as part of settlement
agreements (Note Z). As part of these transactions, The Hartcourt
Companies will be surrendering control of ECS, and therefore, ECS will
not be consolidated with Hartcourt subsequent to the consummation of the
agreements.
Purchase of Elan Manufacturing, Inc
On August 24, 1998, the Company through its ECS subsidiary, purchased
all outstanding shares of Elan Manufacturing, Inc. (Elan). Payment terms
of the transaction include issuance of 693,224 shares of Hartcourt
common stock with a guaranteed value of $.85 per share for a total of
$559,241. The Company guarantees that the value of the common stock
issued shall be no less than $.85 per share on September 1, 1999. Should
the stock price be below $.85 per share, the Company shall, at the
option of the shareholders, either issue additional unrestricted common
shares or pay the difference in cash. The excess purchase price over the
fair value of the net assets which totaled $892,642 was recorded as
goodwill (Note H). The activity of Elan represents less than 10% of all
activity of the Company.
Purchase of Pacific Pneumatics, Inc.
On August 6, 1998, the Company through its Pego subsidiary, purchased
all outstanding shares of Pacific Pneumatics, Inc. (Pacific). Payment
terms of the transaction include $235,000 of cash and 9,796 shares of
Company common stock valued at $15,000. Included in the acquisition
price is a covenant not-to compete (Note H). The excess purchase price
over the fair value of the net assets which totaled $442,543 was
recorded as goodwill (Note H). The activity of Pacific represents less
than 10% of all activity of the Company.
F-15
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
C. Investments and Business Acquisitions: (continued)
Purchase of Assets of SM Technology, Inc.
On December 17, 1998, the Company through its ECS subsidiary, purchased
a book of business from SM Technology, Inc. (SM) in exchange for cash in
the amount of $10,001 and a note payable due to the majority shareholder
of SM in the amount of $350,000. The value of the intangible assets at
the acquisition date was $10,001. The excess purchase price over the
fair value of the assets which totaled $350,000 was recorded as goodwill
(Note H). Due to certain misunderstanding involving the transaction, the
Company is currently renegotiating the purchase price.
Marketable Securities
In July 1997, the Company entered into an agreement with Capital
Commerce, Ltd. (Capital) (an Isle of Man Corporation) whereby Capital
agreed to provide the Company $6,000,000 in free trading securities for
the purchase of Pego Systems, Inc. and the formation of Electronic
Components and Systems, Inc., a Nevada Corporation. The agreement
stipulates that should the value of the stock received by the Company
decrease, Capital shall compensate the Company for such reduction by
issuing additional shares to equate the total value of $6,000,000. In
consideration for the $6,000,000 in securities, the Company issued to
Capital $4,000,000 in Series A and $2,000,000 in Series B, both 9%
convertible preferred stock (Note R). Dividends are declared and paid
monthly at 9% per annum. Terms of this agreement are over a ten year
period. Included in accrued expenses at December 31, 1997 is accrued
dividends of $135,000 associated with this agreement. Marketable
securities are recorded at the remaining guaranteed value of the
agreement at December 31, 1998 and 1997. Due to the Company's inability
to sell the marketable securities, in March 1999, the Company reached an
agreement to return the remaining securities it had received to Capital
(Note Z).
The following is a summary of investments at December 31, 1998 and 1997
and the result of agreements reached (Note Z):
<TABLE>
<CAPTION>
December 31, December 31,
1998 1997
------------- ------------
<S> <C> <C>
Marketable securities $ 4,894,393 $ 5,474,966
Peony gardens 11,932,500 11,932,500
Alaskan gold mines 5,974,020 5,974,020
------------- ------------
Balance 22,800,913 $23,381,486
------------ ===========
1998 Impairments (Note Z):
Peony Gardens (6,932,500)
Alaskan goldmines (4,838,413)
Total impairments (11,770,913)
Balance at December 31, 1998 11,030,000
1999 Adjustments for return of company stock (Note Z) (6,030,000)
--------------
Balance of assets in March 1999 (Note Z) $ 5,000,000
=============
</TABLE>
F-16
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
D. Inventory:
<TABLE>
<CAPTION>
Inventory consists of the following:
December 31, December 31,
1998 1997
------------ -----------
<S> <C> <C>
Raw materials $2,308,807 $2,756, 923
Work-in-process 158,388 378,602
Finished goods 196,365 405,796
----------- ------------
2,663,560 3,541,321
Less: valuation allowance (50,000) -
------------ ----------------
$2,613,560 $3,541,321
========== ==========
</TABLE>
E. Notes Receivable:
<TABLE>
<CAPTION>
Notes receivable consist of the following:
December 31, December 31,
1998 1997
------------ -------------
<S> <C> <C>
Note receivable from former attorney Kevin Quinn, interest at 9% per
annum; due on demand; secured by real estate. Included in the balance is
accrued interest of $8,871 at December 31, 1998 and 1997. $ 91,523 $111,523
Note receivable from individual, principal and interest at 5% per annum,
due in fourteen monthly installments of $300, then fifty monthly
installments of $622, with the final payment due February 1, 2003;
unsecured. 10,000 30,510
Note receivable from CKES Acquisitions, Inc., $3,000,000 face amount,
interest at 6% per annum, due in monthly principal installments of
$50,000 beginning October 1, 1998; secured by substantially all assets
of CKES; interest and unpaid principal due and payable on October 1,
2003. The note has been fully impaired. (Note C) - 1,043,795
</TABLE>
F-17
<PAGE>
<TABLE>
<CAPTION>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
E. Notes Receivable: (continued)
December 31, December 31,
1998 1997
<S> <C> <C>
Note receivable from Yafa, Inc., interest at 9% per annum, due in
monthly principal installments of $2,000; accrued interest and unpaid
principal due and payable on or before August 15, 1999; secured by
common stock of Yafa, Inc. Included in the balance is accrued interest
of $0 and $18,113 at December 31, 1998 and 1997, respectively.
- 164,112
Other - 2,000
------------ -------------
Total 101,523 1,351,940
Less current portion (101,523) (293,673)
---------- ------------
Notes receivable, net of current portion $ - $1,058,267
=========== ===========
</TABLE>
<TABLE>
<CAPTION>
F. Related Party Transactions:
Related party loans receivable consist of the following:
December 31, December 31,
1998 1997
----------- -----------
<S> <C> <C>
Loan to officer of Hartcourt, unsecured;
non-interest bearing; due on demand. $ 142,522 $ 96,691
Loan to officer of ECS, unsecured;
non-interest bearing; due on demand. 33,385 31,009
Loan to officer of ECS, unsecured;
non-interest bearing; due on demand. - 3,698
----------- -----------
Total related party loans receivable 175,907 131,398
Less current portion (175,907) (131,398)
---------- ----------
$ - $ -
============= =============
</TABLE>
At December 31, 1998 and 1997, the Company has $124,206 and $110,000,
respectively, of advances from the President of ECS which are unsecured,
non interest bearing and due on demand.
The terms were re-negotiated in 1999 (Note Z).
During 1998, the Company issued 377,857 shares of common stock valued at
$196,501 to employees and the Board of Directors of the Company. The
common stock was valued at the market price of the stock on the date of
issuance. Additionally, in February 1999, the Company issued 205,000
shares of common stock to employees of the Company.
F-18
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
G. Property and Equipment:
<TABLE>
<CAPTION>
Property and equipment are summarized as follows: December 31, December 31,
1998 1997
-------------- -------------
<S> <C> <C>
Machinery and equipment $3,125,935 $2,166,792
Building 1,213,571 1,213,571
Furniture and fixtures 95,727 109,706
Office equipment and computers 245,227 104,028
Vehicles 52,109 46,656
Leasehold improvements 35,058 27,781
------------- ------------
4,767,627 3,668,534
Less accumulated depreciation and amortization (505,507) (100,027)
------------ ------------
Property and equipment, net $4,262,120 $3,568,507
========== ==========
</TABLE>
H. Intangibles:
<TABLE>
<CAPTION>
Intangibles are summarized as follows: December 31, December 31,
1998 1997
------------- --------------
<S> <C> <C>
Goodwill $11,021,575 $9,336,390
Covenant not to compete 110,000 100,000
Other 10,001 -
--------------- ----------------
11,141,576 9,436,390
Less accumulated amortization (483,318) (71,390)
-------------- ------------
10,658,258 9,365,000
Impairment of goodwill (5,460,225) -
------------ ----------------
Intangibles, net $ 5,198,033 $9,365,000
=========== ==========
</TABLE>
Goodwill consists of amounts paid in excess of the fair value of the net
assets in the acquisitions. In accordance with Statement of Financial
Accounting Standards No. 121, (SFAS No.121) "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed
of", management has evaluated the recoverability of intangible assets.
Based on the reduction in the Company's ownership interest of ECS and
losses from operations, the Company has recorded an impairment of
$4,469,144 to the goodwill of ECS for the year ended December 31, 1998.
The resulting fair value will be reduced to zero in 1999 upon the
recording of the James Pruzin agreement (Note Z). Additionally, due to
losses from operations of Pego, the Company has recorded an impairment
of $991,081 to the goodwill of Pego for the year ended December 31,
1998. The impairments of goodwill are included in operating expenses in
the accompanying consolidated statements of operations.
The covenant not-to compete agreement is with the former shareholder of
Pego and is in effect for a five year period.
F-19
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
I. Assigned Accounts Receivable:
ECS had a factoring agreement with a finance company with a limit of
$1,500,000 which expired on May 10, 1998. Under the factoring agreement,
the factor purchased substantially all trade accounts receivable for one
of ECS's major customers, Next Level Systems, Inc. ECS was contingently
liable to the factor for merchandise disputes, customer claims, and
other chargebacks on eligible receivables. As collateral, the Company
granted a continuing security interest in substantially all assets of
ECS. The proceeds received from the factor for the year ended December
31, 1998 and 1997 totaled $2,411,329 and $1,694,313, respectively.
J. Lines of Credit:
The Company has a line of credit agreement with a bank with a credit
limit of the lessor of $2,000,000 or 80% of eligible accounts receivable
of ECS. Borrowings are at the discretion of the bank and bear interest
at the bank's prime rate plus 1.5% per annum, 9.25% at December 31,
1998. The agreement is secured by a UCC-1 filing on substantially all
assets of ECS. The agreement shall remain in place until terminated by
30 day notice by either party. The agreement requires the maintenance of
financial covenants which include; tangible net worth not less than
$2,400,000, a ratio of current assets to current liabilities of not less
than 1.0 to 1.0, a ratio of total liabilities to tangible net worth of
not less than 2.5 to 1.0, a ratio of cash flows to fixed charges of 1.25
to 1.0, and a limit on annual capital expenditures. The Company was in
violation of certain covenants at December 31, 1998. Accordingly, the
bank may terminate the agreement without notice. At December 31, 1998,
$1,452,609 was outstanding under this agreement.
The Company has a line of credit agreement with a bank with a credit
limit of $50,000. Borrowings are at the discretion of the bank and bear
interest at the bank's prime rate plus 5.5% per annum, 13.25% at
December 31, 1998. The line of credit is due on demand and is unsecured.
At December 31, 1998, $50,000 was outstanding under this agreement.
The Company has a secured line of credit agreement with a bank which
provides that it may borrow up to $300,000 at the bank's prime rate of
interest, 9% at December 31, 1998. The line of credit is secured by
inventory, equipment, and accounts receivable of Pego. The line of
credit is due on demand. At December 31, 1998, $300,000 was available
under this agreement.
K. Notes Payable:
<TABLE>
<CAPTION>
Notes payable are summarized as follows:
December 31, December 31,
1998 1997
<S> <C> <C>
Note payable, individual, monthly principal and interest payments of
$9,544 including interest at 8.5% per annum; due November 2024; secured
by land and building. $1,197,345 $1,209,528
</TABLE>
F-20
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
<TABLE>
<CAPTION>
K. Notes Payable: (continued)
December 31, December 31,
1998 1997
<S> <C> <C>
Note payable, bank, monthly installments of $34,306 plus interest at the
bank's prime rate plus 2% per annum, 10.5% at December 31, 1998; secured
by substantially all assets of Pego; all unpaid principal and interest
due in full on June 5, 2001. The agreement requires maintenance of
financial covenants on a quarterly basis which include: tangible net
worth not less than $1,400,000, quick assets to current liabilities not
less than 1.75 to 1, cash flow coverage of not less than 1.3 to 1, and
other restrictions of certain assets of the parent company. The Company
was in violation of the restriction provisions of the agreement at
December 31, 1998. Accordingly, the bank may demand payment in full. 1,097,776 -
Note payable, former owner of Pacific Pneumatics, Inc., monthly
principal and interest payments of $3,146 including interest at 6.5% per
annum; due May 2010; unsecured. 300,830 -
Notes payable, former owner of Pacific Pneumatics, Inc., monthly
principal and interest payments of $780 including interest at 6% per
annum; due June 2005; unsecured. 49,724 -
Note payable, former owner of SM Technologies, Inc., monthly principal
payments of $10,000 until paid in full; non-interest bearing; secured by
certain accounts receivable and machinery of ECS. 350,000 -
Note payable, bank, monthly interest payments at the bank's base rate
plus 2%, 9.75% at December 31, 1998; secured by substantially all assets
of the Company; unpaid principal due March 5, 1999. 150,000 -
Note payable, unrelated third party, monthly installments of $4,000
including interest at 12% per annum; unsecured; unpaid principal and
interest due June 1999. 22,000 -
Note payable, former owner of Elan Manufacturing, Inc., interest at
10.3% per annum; unsecured; unpaid principal and interest due April 1,
1999. 92,008 -
Note payable, former owner of Elan Manufacturing, Inc., interest at 10%
per annum; unsecured; unpaid principal and interest due upon demand. 16,195 -
</TABLE>
F-21
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
F-22
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
<TABLE>
<CAPTION>
K. Notes Payable: (continued)
December 31, December 31,
1998 1997
<S> <C> <C>
Note payable, Anja Engineering, interest at 10% per annum, payment of
$100,000 due May 15, 1998, thereafter, quarterly principal and interest
payments of $6,415 beginning August 1998 through May 2003; unsecured.
(Note X) 10,000 200,000
Note payable, financial institution, monthly payments of $8,039
including interest at 12.29%; collateralized by equipment of ECS and
personally guaranteed by the President of ECS; due June 1999. During
1998, certain machinery securing the note was sold which violated the
covenants pursuant to the note agreement. As a result, the lender may
call the note at any time. 59,833 130,044
Other 25,000 -
------------ --------
Total 3,370,711 1,539,572
Less current portion (1,631,199) (205,245)
------------ ------------
Notes payable, net of current portion $ 1,739,512 $1,334,327
=========== ==========
</TABLE>
The following is a summary of principal maturities of notes payable:
Year ending December 31,
1999 $1,631,199
2000 161,217
2001 154,262
2002 47,534
2003 51,056
Thereafter 1,325,443
-----------
Total $3,370,711
L. Commitments and Contingencies:
Operating Leases
The Company leases its facilities under long-term, non-cancelable lease
agreements expiring at various dates through June 2004. The
noncancelable operating lease agreements provide that the Company pays
property taxes, insurance and certain operating expenses applicable to
the leased premises. Rent expense for the years ended December 31, 1998
and 1997 was $596,531 and $68,023, respectively. The Company also
leases vehicles and equipment under various long-term agreements.
F-22
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
L. Commitments and Contingencies: (continued)
The future minimum annual lease payments required under the operating
leases are as follows:
<TABLE>
<CAPTION>
Year ending
December 31, Vehicles Facilities Equipment Total
------------ -------- -------------- --------- -----------
<S> <C> <C> <C> <C> <C>
1999 $22,874 $285,509 $ 55,206 $365,588
2000 15,478 193,200 55,206 265,884
2001 12,536 153,600 55,206 223,343
2002 - 21,600 55,206 78,808
2003 - 21,600 18,402 42,005
Thereafter - 10,800 - 10,800
----------- --------- ------------- ---------
Total future lease payments $50,888 $686,309 $239,226 $986,428
======= ======== ======== ========
</TABLE>
Capital Leases
Pego and ECS lease machinery, equipment and vehicles under capital
leases. The economic substance of the leases is that the Company is
financing the acquisition of the machinery, equipment and vehicles
through the leases, and, accordingly, they are recorded in the Company's
assets and liabilities. The following is an analysis of the book value
of the leased assets included in property and equipment at December 31,
1998:
Cost $1,467,977
Accumulated depreciation (140,017)
$1,327,960
The following is a schedule by year of the future minimum lease payments
required under capital leases together with their present value as of
December 31, 1998:
Year ending
December 31,
1999 $ 379,670
2000 336,289
2001 303,092
2002 189,176
2003 62,157
----------
Total future capital lease payments 1,270,384
Less amount representing interest (199,420)
Net present value of minimum lease
payments 1,070,964
Less current portion of capital
lease obligations (290,204)
-----------
Capital lease obligations, net of
current portion $ 780,760
==========
F-23
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
At December 31, 1998, $1,016,273 of the total capital lease obligations
was personally guaranteed by the President of ECS.
L. Commitments and Contingencies: (continued)
Consulting Agreements
On December 30, 1996, the Company entered into a consulting agreement
with American Equities, LLC (American Equities), a California Limited
Liability Company which expires on December 31, 2001. Pursuant to the
terms of the agreement, the Company issued 1,000,000 common shares at
$1.50 per share as an advance against future fees to be earned by
American Equities. The Company also advanced 300,000 common shares at
$0.50 per share to American Equities for future operating expenses. Both
transactions have been discounted due to the restriction on the shares
issued. During 1997, the Company expensed to operations $385,230 of
consulting fees from the following: $150,000 (300,000 shares at $0.50
per share) of prepaid expenses, $45,230 of prepaid consulting fees from
a 2% financial restructuring fee for the Pego acquisition, and $190,000
of prepaid consulting fees from a 2% financial restructuring fee for the
ECS acquisition. In March 1999, the Company reached an agreement with
American Equities, whereby, it was determined that all fees were earned
(Note Z). Accordingly, the balance of prepaid consulting fees were
written off to operating expenses during the year ended December 31,
1998.
In February 1997, the Company entered into a consulting agreement with
Dan Allen Investment Corporation. Terms of the agreement include
providing consulting services to the Company for locating and purchasing
companies for a one year period. The Company issued 100,000 shares of
common stock at $1.50 per share as a retainer to Dan Allen Investment
Corporation for future acquisitions. This transaction was discounted due
to the restriction on the shares issued. The agreement expired in 1998
and no services were received.
M. Accrued Expenses and Other Current Liabilities:
Accrued expenses and other current liabilities are summarized as
follows:
<TABLE>
<CAPTION>
December 31, December 31,
1998 1997
<S> <C> <C>
Accrued wages $163,143 $ 175,000
Accrued commissions 105,951 42,003
Prepaid credits 84,163 110,202
Accrued sales taxes 23,127 46,488
Accrued dividends (Note R) - 135,000
Accrued brokers fees - 437,000
Other current liabilities 101,972 116,188
--------- ------------
$478,356 $1,061,881
======== ==========
</TABLE>
Accrued broker fees represent amounts payable for services provided for
the acquisition of ECS (Note C).
F-24
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
N. Debentures:
<TABLE>
<CAPTION>
Debentures consist of the following:
December 31, December 31,
1998 1997
<S> <C> <C>
Eighteen-month Series "A" Convertible Debentures, principal due November
1998, interest at 10% per annum and paid at the end of each quarter.
Interest payments can be either cash or shares of Hartcourt common
stock, at the holder's option. Debentures were discounted 35% to $32,500
for cash proceeds held in escrow, $17,500 of interest has been
capitalized and will be amortized over the eighteen month period. $ 50,000 $ 50,000
--------- ---------
Total Debentures 50,000 50,000
Less current portion (50,000) (50,000)
--------- ---------
$ - $ -
========= ============
</TABLE>
O. Payables to Mexican Affiliate:
ECS maintains manufacturing operations under a maquiladora program in
Nogales, Mexico. The maquiladora company (the "Affiliate") is wholly
owned by the President of ECS.
Under the maquiladora program, ECS advances cash to the Affiliate for
operating expenses. ECS provides the raw materials, production machinery
and equipment for manufacture and assembly. Upon completion, the
finished goods are purchased by ECS. Total purchases from the Affiliate
for the year ended December 31, 1998 and 1997 was $4,032,781 and
$800,516, respectively.
At December 31, 1998 and 1997, the unsecured, non-interest bearing, due
upon demand balance payable to the Mexican affiliate was $483,572 and
$352,942, respectively. Additionally, at December 31, 1998, the book
value of the production machinery and equipment and the value of the
inventory provided to the affiliate was $1,956,145 and $1,798,658,
respectively. It is reasonably possible that operations located outside
an entity's home country will be disrupted in the near term; however,
management believes it is remote.
F-25
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
P. Notes Payable, Related Parties:
<TABLE>
<CAPTION>
Notes payable, related parties consist of the following:
December 31, December 31,
1998 1997
<S> <C> <C>
Note payable, President of ECS and shareholder of the Company, interest
at 7% per annum; principal of $125,000 plus accrued interest is due on
July 31, 1998 and July 31, 1999; unsecured. In March 1999, the parties
agreed to amend the terms of the note. (Note Z) $ 125,000 $ 250,000
Note payable, employee, interest at 10% per annum, monthly interest
payments of $167; due on demand; unsecured. 20,000 20,000
Note payable, relative of the President of ECS, interest at 10% per
annum, monthly interest payments of $333; due on demand; unsecured. - 40,000
Total 145,000 310,000
Less current portion (145,000) (185,000)
---------- ----------
Notes payable, related parties, net of current portion $ - $ 125,000
=========== ==========
</TABLE>
Q. Income Taxes:
<TABLE>
<CAPTION>
Provisions for income taxes are summarized as follows:
Year ended
December 31, December 31,
1998 1997
<S> <C> <C>
Current income taxes $36,338 $1,700
------- ------
Provision for income taxes $36,338 $1,700
======= ======
The Company has deferred tax assets for the tax effects of temporary
differences between financial and tax reporting for the years ended
December 31, 1998 and 1997 as follows:
1998 1997
-------------- ---------
Deferred tax assets:
Net operating losses $ 2,202,000 $ 792,000
Impairment of investments 4,120,000 -
Impairment of goodwill 1,911,000 -
Other 49,000 49,000
-------------- -----------
8,282,000 841,000
</TABLE>
F-26
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
<TABLE>
<CAPTION>
<S> <C> <C>
Valuation allowance (8,282,000) (841,000)
------------ ----------
Net deferred tax assets $ - $ -
============ ==========
</TABLE>
Q. Income Taxes: (continued)
Impairment of investments and goodwill are not deductible in 1998 for
income tax purposes. Losses on investments for income tax purposes may
be taken in the year the respective transactions are completed. Goodwill
is amortized over fifteen years for income tax purposes or until the
Company has disposed of its ownership in the entity in which the
goodwill relates. The valuation allowance increased $7,441,000 and
$271,408 for the years ended December 31, 1998 and 1997, respectively.
It is reasonably possible that the Company's estimate of the valuation
allowance will change.
The Company has net operating loss carryforwards of approximately
$6,291,000. The regular net operating loss carryforwards, which are
approximately the same as the alternative minimum tax net operating loss
carryforwards, if not utilized, will expire in varying amounts through
2018. The realization of any future income tax benefits from the
utilization of net operating losses may be limited. Federal and state
tax laws provide that when a more than 50% change in ownership of a
company occurs within a three year period, the net operating loss is
limited.
R. Capital Stock:
In April 1995, the Company's Articles of Incorporation (Articles) were
amended to authorize the issuance of preferred stock. As amended, the
Articles provide that the total number of shares of stock which the
Company shall have the authority to issue is 60,001,000, consisting of
50,000,000 shares of common stock, $0.001 par value; 1,000 shares of
original preferred stock having a par value of $0.01 per share (the
Original Preferred Stock); and 10,000,000 shares of preferred stock,
having a par value of $0.01 per share (the Class A Preferred Stock).
On October 5, 1995 and August 2, 1996, the Company effectuated a five
for seven (5:7) and a one for five (1:5) reverse stock splits,
respectively.
In September and October 1997, the Company's Articles were amended to
authorize the issuance of A, B, C, D, and AB preferred stock. As
amended, the Articles provide that the total number of shares of
preferred series A, B, C, D, and AB stock are 4,000, 2,000, 1,500,
10,000, and 25,000, respectively.
Original Preferred Stock
Until December 31, 2010, with respect to the election of directors,
holders of Original Preferred Stock shall be entitled to elect the
number of directors which constitutes three-fifths (3/5ths) of the
authorized number of members of the Board of Directors and, if such
three-fifths (3/5ths) is not a whole number, then the holders of
Original Preferred Stock shall be entitled to elect the nearest higher
whole number of directors that is at least three-fifths (3/5ths) of such
membership.
The holders of record of shares of Original Preferred Stock shall, at
their option, be entitled to convert each share of Original Preferred
Stock into 1,000 shares of fully paid and non-assessable common stock.
Such shares are owned by the President of the Company.
F-27
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
In the event of liquidation, dissolution, or winding up of the affairs
of the Company whether voluntary or involuntary, the holders of record
shall be entitled to be paid the full par value of Original Preferred
Stock, and no more. The holders of shares of Original Preferred Stock
shall not be entitled to receive any dividends.
R. Capital Stock: (continued)
Class A Preferred Stock
The 10,000,000 shares of authorized and unissued Class A Preferred Stock
may be split with such designations, powers, preferences and other
rights and qualifications, limitations and restrictions thereof as the
Company's Board of Directors elects for a given series. No shares have
been issued.
Series A 9% Convertible Preferred Stock
Non-voting convertible preferred stock, 4,000 shares authorized with a
stated value of $1,000 per share. Holders of shares shall be entitled to
receive cumulative dividends at a rate equal to 9% per annum. Series A
convertible preferred stock is subject to redemption at any time, at the
option of the Company, at a redemption price equal to $1,000 per share
plus accrued and unpaid dividends to the date of redemption. Holders of
Series A convertible preferred stock may convert their shares into
either (A) a number of shares of fully paid and non-assessable common
stock of Electronic Components Systems, Inc., a Nevada Corporation,
equal to .0075% of total outstanding shares of ECS or (B) shares of
fully paid and non-assessable common stock of the Company. Dividends are
to be declared and paid monthly. Dividends totaling $90,000 were accrued
at December 31, 1997 for Series A. During 1998, Series AB preferred
stock was issued as payment of accrued dividends. In March 1999, the
Series A convertible preferred stock was returned and canceled (Note Z).
Series B 9% Convertible Preferred Stock
Non-voting convertible preferred stock, 2,000 shares authorized with a
stated value of $1,000 per share. Holder of shares shall be entitled to
receive cumulative dividends at a rate equal to 9% per annum. Series B
convertible preferred stock is subject to redemption at any time, at the
option of the Company, at a redemption price equal to $1,000 per share,
plus accrued and unpaid dividends to the date of redemption. Holders of
Series B convertible preferred stock may convert their shares into
either (A) a number of shares of fully paid and non-assessable shares of
common stock of Pego Systems, Inc., a California Corporation, equal to
.015% of total outstanding shares of Pego or, (B) shares of fully paid
non-assessable common stock of the Company. Dividends are to be declared
and paid monthly. Dividends totaling $45,000 were accrued at December
31, 1997 for Series B. During 1998, Series AB preferred stock was issued
as payment for accrued dividends. In March 1999, the Series B
convertible preferred stock was returned and canceled (Note Z).
Series C Redeemable Preferred Stock
Non-voting, non-participating redeemable preferred stock, 1,500
authorized, with a par value of $1,000 per share. Series C preferred
stock is junior to the original preferred stock and any other class or
series of capital stock of the Company which are specifically ranked
senior (senior securities). Series C preferred stock is redeemable at
any time, at the discretion of the Company, at a redemption price of
$1,000 per share. During 1998, the Company redeemed the stock for
F-28
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
$1,300,000 in cash and 200,000 shares of Company common stock valued at
$1 per share.
R. Capital Stock: (continued)
Series D Convertible Preferred Stock
Voting convertible preferred stock, 10,000 shares authorized with a
stated value of $1,000 per share. Holders of Series D Convertible
Preferred Stock shall be entitled to receive, when declared by the Board
of Directors, dividends at a par with holders of the Company's common
stock, as if the Series D Convertible Preferred Stock had been converted
into common stock on the record date for the payment of dividend. Each
outstanding share of Series D Convertible Preferred Stock shall be
convertible, at the option of its holder, at any time, into a number of
shares of common stock of the Company at a conversion rate equal to
$1,000 divided by the market price of the Company's common stock. In
March 1999, the Series D convertible preferred stock was returned and
canceled (Note Z).
Series AB Convertible Preferred Stock
Non-voting convertible preferred stock, 25,000 shares authorized with a
stated value of $100 per share. Series AB convertible preferred stock is
subject to redemption at any time, at the option of the Company, at a
redemption price equal to $100 per share plus accrued interest and
unpaid dividends to the date of redemption. Holders of Series AB
convertible preferred stock may convert their preferred shares into
common stock. During 1998, the Company issued 4,050 shares of Series AB
convertible preferred stock in payment of dividends for Series A and B
convertible preferred stock. In March 1999, certain shares of AB
preferred stock were returned and canceled (Note Z).
S. Stock Option Plan and Warrants:
Stock Option Plan
In April 1995, the Company adopted a stock option plan (the Plan) to
attract and retain qualified persons for positions of substantial
responsibility as officers, directors, consultants, legal counsel, and
other positions of significance to the Company. The Plan provides for
the issuance of both Incentive Stock Options and Non-Qualified Stock
Options. The Plan, which is administered by the Board of Directors,
provides for the issuance of a maximum of 2,000,000 options to purchase
shares of common stock at the market price thereof on the date of grant.
Such options are generally exercisable over a 10 year period from the
date of grant. Each option lapses 90 days after the optionee has
terminated his continuous activity with the Company, except that if his
continuous activity with the Company terminates by reason of his death,
such option of the deceased optionee may be exercised within one year
after the death of such optionee. Options granted under the Plan are
restricted as to sale or transfer. No options have been granted under
this Plan as of December 31, 1998 and 1997.
F-29
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Warrants
As of December 31, 1998 and 1997 there were 2,000,000 outstanding
warrants to purchase 2,000,000 shares of $.001 par value common stock at
$0.30 - $2.10 per share. No warrants have been exercised as of
December 31, 1998.
T. Loss Per Share:
The following reconciles amounts reported in the financial statements
for the years ended December 31, 1998 and 1997, respectively:
<TABLE>
<CAPTION>
1998
Income (loss) Shares Per-share
(Numerator) (Denominator) Amount
------------------- -------------- ----------
<S> <C> <C> <C>
Income (loss) from continuous operations $(21,295,653) - $ -
Less preferred stock dividends (270,000) - -
--------------
Income (loss) available to common stock-
holders - basic earnings per share (21,565,653) 18,061,430 $(1.19)
======
Effect of dilutive securities - -
------------------ ----------------
Income (loss) available to common stock-
holders - diluted earnings per share $(21,565,653) 18,061,430 $(1.19)
============ ========== ======
1997
Income (loss) Shares Per-share
(Numerator) (Denominator) Amount
Income (loss) from continuous operations $(474,372) - $ -
Less preferred stock dividends (135,000) - -
----------
Income (loss) available to common stock-
holders - basic earnings per share (609,372) 12,550,337 $(0.05)
======
Effect of dilutive securities - -
-------------- ----------------
Income (loss) available to common stock-
holders - diluted earnings per share $(609,372) 12,550,337 $(0.05)
========= ========== ======
</TABLE>
During 1998 and 1997, the Company had 2,000,000 warrants outstanding,
each convertible into one share of common stock. In addition, during
1998 and 1997 the Company had convertible preferred stock outstanding
(Note R), each share convertible into common stock. These instruments
were not included in the computation of diluted earnings per share for
any of the years presented, due to their antidilutive effects based on
the net loss reported each year.
U. Concentrations of Credit Risk:
F-30
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
The Company maintains its cash in bank deposit accounts at various
financial institutions. The balances, at times, may exceed federally
insured limits. The Company has not experienced any losses in such
accounts and believe they are not exposed to any significant credit risk
on cash and cash equivalents.
U. Concentrations of Credit Risk: (continued)
Accounts are guaranteed by the Federal Deposit Insurance Corporation
(FDIC) up to $100,000. A summary of total insured and uninsured cash
balances as of December 31, 1998 is as follows:
Total cash in bank deposit accounts $ 700,293
Portion insured by FDIC (290,017)
Uninsured Cash Balances $ 410,276
=========
V. Segment and Related Information:
Segments
During the year ended December 31, 1998, the Company adopted Financial
Accounting Standards No. 131 (SFAS No. 131), "Disclosures About Segments
of an Enterprise and Related Information." The Company's reportable
business segments are strategic business units that offer different
products and services. Each segment is managed separately because they
require different technologies and market to distinct classes of
customers. The Company has three segments with separate management
groups which are as follows; a) ECS which specializes in high technology
contract manufacturing of printed circuit boards, phone and cable wire;
b) Pego which is a manufacturer's representative organization for air
and gas handling equipment; c) Hartcourt which has limited pen
operations, investments, and runs corporate matters. The segments'
accounting policies are the same as those described in the summary of
significant accounting policies. The following is a summary of the
segments operations:
<TABLE>
<CAPTION>
ECS Pego Hartcourt Total
1998
<S> <C> <C> <C> <C> <C>
Revenues $16,596,049 $6,636,320 $ 50,083 $ 23,282,452
Interest income - 42,236 - 42,236
Interest expense (241,005) (129,832) (9,186) (380,023)
Depreciation and
amortization (367,726) (109,801) - (477,527)
Impairments (4,469,144) (991,081) (11,770,913) (17,231,138)
Segment profit (loss) (5,589,910) (1,092,913) (14,612,830) (21,295,653)
Total assets 11,589,288 5,042,109 10,440,995 27,072,392
Capital expenditures 248,643 80,927 - 329,570
</TABLE>
F-31
<PAGE>
<TABLE>
<CAPTION>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
1997
<S> <C> <C> <C> <C> <C>
Revenues $ 2,686,410 $1,881,159 $ 156,336 $ 4,723,905
Interest income 427 - 27,757 28,184
Interest expense (43,781) (41,109) (28,136) (113,026)
Depreciation and
amortization (59,033) (25,132) (12,989) (97,154)
Segment profit (loss) (359,069) 232,687 (347,990) (474,372)
Total assets 13,997,311 4,663,883 26,459,406 45,120,600
Capital expenditures 59,178 61 - 59,239
</TABLE>
See Note W for segment non-cash activities.
V. Segment and Related Information (continued)
Foreign Operations
Selected financial data for the ECS's foreign operations is as follows:
<TABLE>
<CAPTION>
(Unaudited) (Unaudited)
December 31, 1998 December 31, 1997
------------------ -----------------
<S> <C> <C>
Revenues $ - $ -
Operating loss $ - $ -
Total assets $3,754,803 $3,004,740
</TABLE>
Significant Customers
During the years ended December 31, 1998 and 1997, ECS had one
significant customer, General Instrument Corporation (formerly known as
Next Level Systems, Inc.) Revenue from General Instrument Corporation
for the years ended December 31, 1998 and 1997 totaled $10,107,494 and
$1,493,686, which represents 43% and 32% of net revenue, respectively.
Accounts receivable from this customer amounted to $1,229,065 as of
December 31, 1998.
<TABLE>
<CAPTION>
W. Supplemental Cash Flow Information:
1998 1997
------------ ---------------
<S> <C> <C>
Cash paid for interest and income taxes:
Interest $380,022 $ 113,026
Income taxes 943 37,400
Noncash investing and financing activities:
Hartcourt
Common stock issued for the purchase of Pacific
Pneumatics, Inc. 15,000 -
Common stock issued to settle liabilities - 40,225
Common stock issued for brokerage fees - 600,000
Common stock issued for prepayment of
consulting fees - 150,000
Preferred stock issued for dividends 270,000 -
Preferred stock issued for accrued expenses 135,000 -
Preferred stock converted into common stock 200,000 -
Preferred stock issued for marketable securities - 6,000,000
Stock subscription receivable 275,000 26,000
</TABLE>
F-32
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Common stock issued for assets and liabilities of Elan during 1998 was
as follows:
<TABLE>
<CAPTION>
<S> <C> <C>
Accounts receivable $ 61,599
Inventory 45,286
Prepaid expenses 10,144
Property and equipment 358,633
Goodwill 892,642
Accounts payable (179,975)
Accrued expenses (176,321)
Notes payable (395,767)
----------
$ 616,241
W. Supplemental Cash Flow Information: (continued)
Allocation of common and preferred stock issued for the assets and
liabilities of Pego during 1997 was as follows:
Accounts receivable $ 924,452
Inventory 423,016
Other assets 11,223
Property and equipment 1,309,042
Goodwill 826,083
Non-compete agreement 100,000
Checks drawn in excess of available bank balance (130,348)
Accounts payable (308,548)
Line of credit (100,000)
Accrued expenses (72,876)
Capital lease obligations (11,741)
Note payable (1,213,571)
------------
$ 1,756,732
Allocation of common and preferred stock issued for the assets and
liabilities of ECS during 1997 was as follows:
Accounts receivable $1,121,778
Inventory 2,393,541
Other assets 39,644
Property and equipment 2,017,989
Goodwill 8,010,307
Checks drawn in excess of available bank balance (538,701)
Accounts payable (1,555,686)
Notes payable, related parties (310,000)
Accrued expenses (514,000)
Payable to Mexican affiliate (464,943)
Capital lease obligations (616,684)
Note payable (143,245)
------------
$9,440,000
ECS 1998 1997
---------- -------
Assets purchased through capital leases 484,310 211,041
Notes payable issued for intangible assets 350,000 -
</TABLE>
F-33
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
X. Forgiveness of Debt:
During 1998 and 1997, the Company recognized debt forgiveness of
$127,626 and $376,615, respectively. Included in forgiveness of debt is
$90,000 at December 31, 1998 and $376,615 at December 31, 1997 relating
to a note payable with Anja.
Y. Profit Sharing Plans:
ECS maintains a defined contribution plan (the Plan) for its U.S.
employees that provides for tax deferred benefits under Section 401(K)
of the Internal Revenue Code. The Plan allows employees to make
contributions, 25% of which will be matched by the Company, up to 5% of
an employee's gross salary or the amount allowed by law, as defined. The
Company has made matching contributions to the Plan of approximately
$1,834 and $510 for the years ended December 31, 1998 and 1997,
respectively. The Company pays the administrative costs of the Plan,
which approximates $2,000 per year.
Pego has a contributory profit sharing plan (the Plan) as defined under
Sections 401(a) and 501(a) of the Internal Revenue Code. Under the Plan,
employees may contribute 1% to 15% of their compensation. At the
discretion of the Board of Directors, the Company may contribute
additional amounts to the Plan on behalf of those who actively
participate. Company contributions will vest over a six-year period as
established in the Plan. No employer matching contributions were made to
the Plan for the year ended December 31, 1998 and 1997.
Z. Subsequent Events:
In March 1999, the Company entered into a series of agreements and
transactions that in the aggregate were designed to streamline and
restructure the Company while dissolving the Company of inactive assets
and settle outstanding litigation. The restructuring included settlement
of certain litigation, settlement of certain agreements, and a spin-off
to shareholders of the United States based assets of the Company into a
newly formed public company as further described below. The following is
a summary of the agreements reached in March 1999:
Capital Commerce, Ltd.
In July 1997, the Company entered into an agreement with Capital
Commerce, Ltd. (Capital) whereby, Capital agreed to provide the
Company $6,000,000 in free trading securities in exchange for
$4,000,000 of Series A and $2,000,000 of Series B convertible
preferred stock (Note C). As a result of the settlement agreement,
Capital returned all $4,000,000 of outstanding Series A and
$2,000,000 of Series B convertible preferred stock, plus the AB
preferred stock issued by the Company in 1998 as dividends. The
Company assigned to Capital all unsold marketable securities with a
book value of $4,894,393, a 7.35% ownership interest in ECS, and 1.9
million shares of Company common stock. Simultaneously, Capital then
assigned its rights to the common stock to its authorized agent, who
then assigned 1.3 million shares of the common stock received to
Mandarin Overseas Investment Co., Inc. ("Mandarin") and Promed
International Ltd. ("Promed") and returned 600,000 shares to the
Company in settlement of a subscriptions receivable balance.
F-34
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
In September 1996, the Company purchased 68 gold lode claims from
Mandarin and Promed in exchange for approximately 1.3 million shares
of the Company's common stock (Note C). In conjunction with the above
transaction, the Company elected to rescind the sale-purchase
agreement of the gold mining rights in the state of Alaska pursuant
to the terms of the agreement. In March 1999, Mandarin and Promed
returned to the Company the 1.3 million shares of Company common
stock they received from the agent of Capital in settlement of the
rescission request.
The remaining balance of prepaid commissions in conjunction with the
original securities exchange totaling $547,557, has been written off
to operating expenses for the year ended December 31, 1998. The net
result of the above transaction results in an impairment to the
assets held at December 31, 1998 for the impending loss of $4,838,413
for the year ended December 31, 1998.
James Pruzin
On October 21, 1998, James Pruzin, the selling shareholder and
President of Electronic Components and Systems, Inc. (ECS), formally
requested a rescission of the October 28, 1997 acquisition, whereby,
the Company, through a wholly owned subsidiary, acquired ECS and
Pruzin Technologies, Inc. (Note C) Mr. Pruzin has alleged that he is
authorized to request rescission of the original transaction based on
an alleged breach of the acquisition agreement by the Company which
the Company denied. On November 10, 1998, the Company and Mr. Pruzin
entered into a memorandum of understanding, whereby, he could
reacquire ECS from the Company by returning all Company common and
preferred stock originally issued to him, making payment of
$1,850,000 to the Company during 1999, negotiate the return of
Company common stock issued in the acquisition of Elan Manufacturing,
Inc. (Note C), and issue to the Company a promissory note for
$400,000 amortized over five years with monthly payments beginning in
2000.
Subsequently, Mr. Pruzin was unable to meet the terms of the
memorandum of understanding and entered into new negotiations with
the Company. The Company and Mr. Pruzin have reached an agreement
whereby Mr. Pruzin has agreed to return to the Company 2,000,000
shares of Company common stock representing 80% of the amount
originally issued, and 3,400 shares of Series D preferred stock. The
Company has agreed to assign to Mr. Pruzin a 30% ownership interest
in ECS and has a right to purchase 500,000 shares of Company common
stock held by Mr. Pruzin at $1 per share. As a result of the
transaction, the Company will reduce Series D preferred stock
$3,400,000 and common stock for $1,000,000 in 1999. Additionally, as
part of the agreement, the payment terms for the note payable and
advances were changed to thirty-six monthly payments of $7,083 with
no interest until paid in full.
American Equities
On September 3, 1998, American Equities filed suit against the
Company for breach of contract.
F-35
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
The Company denied that it had breached any contract with American
Equities and filed a cross-complaint for fraud and non-performance
against American Equities and additional cross- defendants. As
settlement of these matters, the parties agreed that all fees paid to
American Equities were earned and American Equities receives a 27.65%
interest in ECS. Additionally, American Equities agreed to loan ECS
up to $500,000. Accordingly, prepaid expenses amounting to $664,770
has been written-off to operating expenses for the year ended
December 31, 1998.
Dragon King
On March 15, 1999, the Company entered into an Exchange Agreement
pursuant to which the Company agreed to assign its rights under the
Purchase and Sale Agreement dated August 8, 1996 and any and all of
its interest in the Peony Gardens development located in a suburb of
Bejing City, China (Note C) for marketable securities. The marketable
securities have subsequently been valued at $5,000,000. Accordingly,
the Company has recorded an impairment to the assets held at December
31, 1998 for the impending loss of $6,932,500 for the year ended
December 31, 1998.
Enova Holdings, Inc.
Effective February 1, 1999, pursuant to a Share Purchase Agreement,
the Company acquired one (1) share of common stock of Enova Holdings
Inc., a Nevada corporation (Enova) representing 100% of the total
issued and outstanding capital stock of Enova, making Enova a
wholly-owned subsidiary. Effective March 1, 1999, the Company and
Enova executed an Exchange Agreement (the "Enova Agreement") whereby
the Company exchanged all of its ownership in two subsidiaries, Pego
Systems Inc. (Pego) and Electronic and Component Systems Inc. (ECS),
collectively, the "subsidiaries", for 5,213,594 additional shares of
common stock of Enova. On March 24, 1999, the Company entered into a
Distribution Agreement pursuant to which the Company agreed to
distribute to all shareholders of record of The Hartcourt Companies,
Inc. on March 31, 1999, all of the 5,213,595 shares of common stock
of Enova and to file, within a reasonable period of time following
such distribution, a Registration Statement on Form 10-SB to cause
the distributed shares of Enova to be registered under the Securities
Exchange Act of 1934. As a result of the Share Purchase Agreement,
the Enova Agreement and the Distribution Agreement, each shareholder
of record of the Company on March 31, 1999 will receive one (1) share
of Enova for every four (4) shares owned of the Company. Following
the distribution of the Enova shares, both the Company and Enova will
continue to operate as separate companies.
The following table presents on a proforma basis the effect of the
restructuring and settlements on the consolidated balance sheet and
statement of operations of the Company and Enova at December 31, 1998:
F-36
<PAGE>
THE HARTCOURT COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
<TABLE>
<CAPTION>
December 31, Proforma Proforma Allocation
1998 Adjustments Total Enova Hartourt
------------------ ---------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Total assets $ 27,072,392 $(17,376,726) $ 9,695,666 $ 4,293,763 $ 5,401,903
Total liabilities 9,971,214 (6,182,026) 3,789,188 3,630,603 158,585
Total equity 17,101,178 (11,194,700) 5,906,478 663,160 5,243,318
Net sales 23,282,452 - 23,282,452 23,232,369 50,083
Impairments (17,231,138) - (17,231,138) (5,460,225) (11,770,913)
Net loss (21,295,653) - (21,295,653) (6,682,823) (14,612,830)
Earnings per share (1.19) - (1.19) (.38) (.81)
</TABLE>
AA. Going Concern:
As shown in the accompanying financial statements, the Company incurred
net losses of $21,295,653 and $474,672 for the years ended December 31,
1998 and 1997, respectively. Additionally, the Company's current
liabilities exceeded its current assets by $887,126 at December 31,
1998. Those factors, as well as the uncertain conditions about the
Company's restructuring plans, negative cash flows from operations, and
ability to meet debt obligations, create an uncertainty about the
Company's ability to continue as a going concern.
As discussed in Note Z, the Company has taken certain restructuring
steps, which in the opinion of management, will provide the necessary
capital to continue its operations. These steps included; 1) the
settlement of certain matters of litigation and disputes; 2) creation of
Enova, a subsidiary to own and operate the U.S. based subsidiaries of
Pego and the remaining 35% ownership in ECS; 3) as part of the
settlement agreements, the Company obtained a commitment for interim
working capital funding for ECS; 4) exchange of its interests in Peony
Gardens for investment securities. Additionally, the Company is seeking
either subordinated debt or equity investments for Pego.
The ability of the Company to continue as a going concern is dependent
on its success in fulfilling its plan. The financial statements do not
include any adjustments that might be necessary if the Company is unable
to continue as a going concern.
F-37
<PAGE>
Exhibit 21.01
SUBSIDIARIES OF THE COMPANY
(1) Harcourt Investment (USA), Inc. a Nevada Corporation. including the
accounts of Hartcourt Pen Factory, Inc., a Nevada Corporation.
(2) Pego Systems, Inc., a California Corporation.
(3) Electronic Components and Systems, Inc., a Nevada Corporation.
<PAGE>
Exhibit 23.01
CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
We consent to the inclusion in this Annual Report Form 10-KSB of
our report dated March 6, 1998, on our audits of the consolidated
financial statements and schedules of Hartcourt Companies, Inc. and
Subsidiaries ("The Company").
/s/ Harlan & Boettger, LLP
San Diego, California
April 15, 1999
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> DEC-31-1998
<CASH> 384,453
<SECURITIES> 4,894,393
<RECEIVABLES> 3,224,779
<ALLOWANCES> 49,474
<INVENTORY> 2,613,560
<CURRENT-ASSETS> 6,563,816
<PP&E> 4,767,627
<DEPRECIATION> 505,507
<TOTAL-ASSETS> 27,072,392
<CURRENT-LIABILITIES> 7,450,942
<BONDS> 0
0
9,805,010
<COMMON> 19,955
<OTHER-SE> 4,167,294
<TOTAL-LIABILITY-AND-EQUITY> 27,072,392
<SALES> 23,282,452
<TOTAL-REVENUES> 4,723,905
<CGS> 18,130,295
<TOTAL-COSTS> 47,690,480
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 380,023
<INCOME-PRETAX> (21,259,315)
<INCOME-TAX> 36,338
<INCOME-CONTINUING> (21,129,109)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (21,295,653)
<EPS-PRIMARY> (1.19)
<EPS-DILUTED> (1.19)
</TABLE>
