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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-K
[X] Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934.
For the fiscal year ended SEPTEMBER 30, 2002.
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OR
[ ] Transition Report under Section 13 or 15(d) of the Securities Exchange Act
of 1934.
For the transition period from _____________ to _____________.
Commission File Number: 001-05270
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AMERICAN INDEPENDENCE CORP.
(FORMERLYSOFTNET SYSTEMS, INC.)
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(Exact name of registrant as specified in its charter)
DELAWARE 11-1817252
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
485 MADISON AVENUE, NEW YORK, NEW YORK 10022
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (212) 355-4141
Securities registered pursuant to Section 12(b) of the Act: NONE
Securities registered pursuant to Section 12(g) of the Act: COMMON STOCK, PAR
VALUE $0.01 PER SHARE
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in the definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [X]
The aggregate market value of the voting stock held by non-affiliates of the
registrant at OCTOBER 31, 2002, was approximately $38,608,000.
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
CLASS OUTSTANDING ATOCTOBER 31, 2002
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COMMON STOCK, $0.01 PAR VALUE 25,183,701
DOCUMENTS INCORPORATED BY REFERENCE:
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Proxy Statement for Registrant's 2003 Annual Meeting of Stockholders (Part III)
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PART I
ITEM 1. BUSINESS
This Annual Report on Form 10-K contains forward-looking statements that involve
risks and uncertainties. The actual results of American Independence Corp. and
subsidiaries could differ significantly from those set forth herein. Factors
that could cause or contribute to such differences include, but are not limited
to, those discussed in "Factors Affecting the Company's Operating Results" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" as well as those discussed elsewhere in this Annual Report on Form
10-K. Statements contained herein that are not historical facts are
forward-looking statements that are subject to the safe harbor created by the
Private Securities Litigation Reform Act of 1995. Words such as "believes",
"anticipates", "expects", "intends", "estimates", "likelihood", "unlikelihood",
"assessment" and "foreseeable", and other similar expressions are intended to
identify forward-looking statements, but are not the exclusive means of
identifying such statements. A number of important factors could cause our
actual results to differ materially from the statements and those expressed or
implied in any forward-looking statements made by us, or on our behalf. We
undertake no obligation to release publicly the results of any revisions to
these forward-looking statements that may be made to reflect events or
circumstances after the date hereof or to reflect the occurrence of
unanticipated events.
On July 30, 2002, SoftNet Systems, Inc., and subsidiaries (collectively referred
to as the "Company") entered into an agreement to acquire First Standard
Holdings Corp. from SSH Corp. and Independence Holding Company ("IHC") for
$31,920,000 in cash. Subsequently at the Special Meeting of Stockholders on
November 14, 2002, the Company's stockholders approved the stock purchase
agreement between the Company, SSH Corp. and IHC (the "Purchase Agreement"), and
approved the Company's name change to American Independence Corp. Also on
November 14, 2002, the Company consummated the transactions contemplated by the
Purchase Agreement and First Standard Holdings Corp. changed its name to
Independence American Holdings Corp. ("IAHC"). IAHC and its wholly-owned
subsidiaries are engaged in the insurance and reinsurance business. The
Company, which was a holding company principally engaged in providing Internet
services, had previously wound down its Internet related businesses and as a
result of the acquisition of IAHC has become an insurance holding company.
Additionally, due to the acquisition of IAHC, the Company has decided to close
its offices in San Francisco, terminate all but one of its employees, and enter
into a services agreement with IHC under which the Company's operations will be
directed by IHC management and employees. The transaction is more fully
described in the Company's Definitive Proxy/Prospectus Statement on Schedule 14A
as filed with the Securities Exchange Commission on September 30, 2002.
In a separate transaction on July 30, 2002, IHC acquired Pacific Century
Cyberworks Limited's ("PCCW") entire interest in the Company consisting of
5,000,000 common stock shares at $3.00 per share for a total value of
$15,000,000. As a result of this transaction, PCCW's appointees Linus W.L.
Cheung and Jeffrey A. Bowden resigned from the Company's Board of Directors, and
Edward Netter, Chairman of IHC, and Roy T.K. Thung, President and Chief
Executive Officer of IHC, were appointed to the Company's Board of Directors.
Additionally, upon closing of the purchase of IAHC, IHC has agreed to make a
cash tender offer at $3.00 per share for at least 3,000,000 outstanding common
stock shares of the Company, subject to certain limitations, by no later than
February 18, 2003.
On May 17, 2002, the Company received a Nasdaq Staff Determination Letter
stating that the Company's common stock was no longer eligible for continued
listing on the Nasdaq National Market as a result of the Company ceasing the
operations of its last business segment, Intellicom, and that the Company
therefore did not meet the requirements for continued listing set forth in
Marketplace Rules 4300 and 4330. Subsequently, the Company requested and was
granted an oral hearing before a Nasdaq Listing Qualifications Panel to appeal
the Nasdaq Staff Determination Letter, which stayed the delisting of the
Company's common stock pending the outcome of the hearing. On July 12, 2002,
the Company appeared before the Nasdaq Listing Qualifications Panel to present
the Company's plan to acquire IAHC, which would allow the Company to comply with
the Marketplace Rules 4300 and 4330. On August 15, 2002, the Nasdaq Listing
Qualifications Panel informed the Company that the Company will remain listed on
Nasdaq, subject to meeting various conditions, including the completion of the
acquisition of IAHC by December 31, 2002. Nasdaq has also informed the Company
that if it does remain listed on Nasdaq, following the acquisition of IAHC, the
Company will be required to meet Nasdaq's initial listing requirements as well
as Nasdaq's continued listing requirements.
-1-
As of September 30, 2002, the Company had substantially completed the wind down
of its Internet services related subsidiaries, ISP Channel, Inc. ("ISP
Channel"), Intelligent Communications, Inc. ("Intellicom"), and Aerzone
Corporation ("Aerzone"), including Laptop Lane Limited ("Laptop Lane"), as a
result of the following:
On December 7, 2000, the Company's Board of Directors approved a plan to
discontinue its ISP Channel operations because of (1) the consolidation in the
cable industry made it difficult for ISP Channel to achieve the economies of
scale necessary to provide such services profitably, and (2) the Company was no
longer able to bear the costs of maintaining the ISP Channel. Subsequently on
December 19, 2000, the Company's Board of Directors approved a plan to
discontinue its Aerzone, including Laptop Lane, business in light of, among
other things, significant long-term capital needs and the difficulty of securing
the necessary financing because of the financial markets. In conjunction with
discontinuing the ISP Channel and Aerzone businesses, the Company's Board of
Directors on December 28, 2000, approved a plan to reduce its corporate
headquarters staff.
On March 29, 2002, the Company and its wholly-owned subsidiary, Intellicom,
entered into an agreement to sell its operating business and certain assets to
Loral Cyberstar, Inc. Following the sale of its operating business and certain
assets to Loral Cyberstar, Inc., the Company's Board of Directors unanimously
agreed to cease the operations of Intellicom on April 3, 2002. Subsequently on
April 22, 2002, Intellicom entered into an agreement to sell certain assets to
Native Intellicom, Inc., a wholly-owned subsidiary of the Pinoleville Band of
Pomo Indians, for cash, subject to the termination of Intellicom's lease for its
facility in Livermore, California. On August 1, 2002, Intellicom terminated the
agreement with the Pinoleville Band of Pomo Indians and is negotiating to sell
those assets to another group of Native Americans.
EMPLOYEES
The Company had 9 employees at October 31, 2002.
FACILITIES
The Company's principal executive office is located at 485 Madison Avenue, New
York, New York 10022. The Company is currently in negotiations to sublease its
previous principal executive office located at 650 Townsend Street, Suite 225,
San Francisco, California 94103.
-2-
INDEPENDENCE AMERICAN HOLDINGS CORP.
Prior to its acquisition by the Company, Independence American Holdings Corp., a
Delaware corporation, and it subsidiaries (collectively referred to as "IAHC"),
were an indirect wholly-owned subsidiary of IHC. IAHC is engaged principally in
the health insurance and reinsurance business through its wholly-owned
subsidiaries; Independence American Insurance Company ("Independence American"),
formerly First Standard Insurance Corp.; IndependenceCare Holdings LLC and its
subsidiaries (collectively referred to as "IndependenceCare"); and Risk
Assessment Strategies, Inc. ("RAS").
PRINCIPAL PRODUCT AND SERVICES
Independence American Insurance Company
Independence American, which is domiciled in Delaware, is licensed to write
property and/or casualty insurance in 24 states, and has a B+ (Very Good) rating
from A.M. Best & Company, Inc ("A.M. Best"). An A.M. Best rating is assigned
after an extensive quantitative and qualitative evaluation of a company's
financial condition and operating performance, and is also based upon factors
relevant to policyholders, agents, and intermediaries, and is not directed
toward protection of investors. A.M. Best ratings are not recommendations to
buy, sell or hold securities of IAHC.
Independence American reinsures employer medical stop-loss insurance for
self-insured group medical plans. Self-insured plans permit employers
flexibility in designing employee health coverages at a cost that may be lower
than that available through other health care plans provided by an insurer or
Health Maintenance Organization ("HMO"). Employer medical stop-loss insurance
allows self-insured employers to manage the risk of excessive health insurance
costs under self funded plans by limiting the employer's health care expenses to
a predetermined amount. This stop-loss coverage is available on either a
"specific" or a "specific and aggregate" basis. Specific stop-loss coverage
reimburses employers from large claims incurred by an individual employee or
dependent. When an employee or dependent's covered claims exceed the specific
stop-loss deductible, covered amounts in excess of the deductible are
reimbursable to the employer under the specific stop-loss policy. The specific
stop-loss deductible is selected based on the number of covered employees, the
employer's capacity to assume some of the risk, and the medical claim experience
of the plan. Aggregate stop-loss coverage protects the employer against
fluctuations due to claim frequency. The employer's overall claim liability is
limited to a certain dollar amount, often referred to as the attachment point.
An aggregate stop-loss policy usually provides reimbursement when covered claims
for the plan as a whole exceed the attachment point. Approximately 50% of the
stop-loss policies Independence American reinsures cover specific claims only.
Employer medical stop-loss is a "short-tail" business which means that
substantially all claims will have been paid within eighteen months after
inception of a policy.
Independence American has entered into reinsurance treaties with Standard
Security Life Insurance Company of New York ("Standard Life") and Madison
National Life insurance Company, Inc. ("Madison Life") pursuant to which
Standard Life and Madison Life, respectively, will cede, at treaty renewals, at
least 15% of their employer medical stop-loss business to Independence American.
Standard Life and Madison Life are wholly-owned subsidiaries of IHC. The
reinsurance treaties between Independence American and Standard Life, on the one
hand, and Independence American and Madison Life, on the other hand, terminate
December 31, 2014, unless sooner terminated by Independence American. Standard
Life, which is domiciled in New York, has an A (Excellent) rating from A.M.
Best, and is licensed as an insurance company in all 50 states, the District of
Columbia, the Virgin Islands and Puerto Rico. Madison Life, which is domiciled
in Wisconsin, has an A- (Excellent) rating from A.M. Best, is licensed to sell
insurance products in 46 states, the District of Columbia and the Virgin
Islands, and is an accredited reinsurer in New York. Standard Life and Madison
Life market employer medical stop-loss insurance nationally through a network of
managing general underwriters ("MGUs"), who are non-salaried contractors that
receive administrative fees. Standard Life currently markets this product
through 11 MGUs, including IndependenceCare and RAS. Madison Life currently
markets through 2 MGUs. MGUs are responsible for establishing an employer's
conditions for coverage in accordance with guidelines formulated and approved by
Standard Life and Madison Life, billing and collecting premiums from the
employers, paying commissions to third party administrators ("TPAs") and/or
brokers, and adjudicating claims. Standard Life and Madison Life are
responsible for selecting MGUs, establishing underwriting guidelines,
maintaining approved policy forms and reviewing and medically managing
employers' claims for reimbursement, as well as establishing appropriate
accounting procedures and reserves.
-3-
Managed Care Excess Coverage
Independence American issues and reinsures managed care excess coverages, which
includes provider excess loss insurance and HMO reinsurance.
Provider Excess Loss Insurance and Reinsurance
Independence American issues and reinsures provider excess loss insurance on a
specific loss basis only. This product is marketed to providers, managed care
organizations, including provider hospital organizations, hospital groups,
physician groups and individual practice associations (collectively "MCOs") that
have assumed risk (through capitation by an HMO or otherwise) and desire to
reduce their risk assumption and/or are required to purchase coverage by
contract or regulation.
Independence American is licensed in 24 states and has begun to write provider
excess loss insurance in certain of these states through IndependenceCare and
another MGU that specializes in this product. IndependenceCare and this MGU are
responsible for marketing, underwriting, billing and collecting premiums, and
medically managing, administering and adjudicating claims. Independence
American also reinsures provider excess loss insurance written through
IndependenceCare and this other MGU and issued by Standard Life and other
carriers on a specific loss basis only.
HMO Reinsurance
Independence American reinsures HMO Reinsurance coverage written through
Standard Life and marketed by IndependenceCare. This coverage protects HMO's
against excess losses incurred under an HMO health plan and is marketed to HMO's
who desire to reduce their risk assumption and/or are required to purchase
coverage by contract or regulation.
Managing General Underwriters
IndependenceCare is an MGU for the employer medical stop-loss, provider excess
loss and HMO Reinsurance products of Standard Life and Independence American.
IndependenceCare has agreements with other carriers to write business on its
behalf in the event of marketing conflicts or regulatory requirements. During
the first quarter of 2001, IndependenceCare acquired the business and employees
of two other managed care MGUs and, during the first quarter of 2002, it
acquired the business and employees of a medical stop-loss MGU.
IndependenceCare currently has three operating subsidiaries, IndependenceCare
Underwriting Services - Minneapolis L.L.C., IndependenceCare Underwriting
Services - Tennessee L.L.C. and IndependenceCare Underwriting Services -
Southwest L.L.C. IndependenceCare's experienced staff is responsible for
marketing, underwriting, billing and collecting premiums and medically managing,
administering and adjudicating claims. Final authority for all financial
decisions remains with the carrier.
RAS is an MGU for employer medical stop-loss and group life for Standard Life
and another carrier. RAS, which is based in South Windsor, Connecticut, has
experienced marketing, underwriting and claims personnel.
REINSURANCE INDUSTRY
Reinsurance is an arrangement in which an insurance company, the reinsurer,
agrees to indemnify another insurance company, the ceding company, against all
or a portion of the insurance risks underwritten by the ceding company under one
or more insurance contracts. Reinsurance can provide a ceding company with
several benefits, including a reduction in net liability on individual or
classes of risks, catastrophe protection from large or multiple losses and
assistance in maintaining acceptable financial ratios. Reinsurance also
provides a ceding company with additional underwriting capacity by permitting it
to accept larger risks and write more business than would be possible without an
accompanying increase in capital and surplus. Reinsurance, however, does not
discharge the ceding company from its liability to policyholders.
There are two basic types of reinsurance arrangements: treaty and facultative
reinsurance. In treaty reinsurance, the ceding company is obligated to cede and
the reinsurer is obligated to assume a specified portion of a type of category
of risks insured by the ceding company. Treaty reinsurers do not separately
evaluate each of the individual risks assumed under their treaties and,
consequently, after a review of the ceding company's underwriting practices, are
largely dependent on the original risk underwriting decisions made by the ceding
company. In facultative reinsurance, the ceding company cedes and the reinsurer
assumes all or part of the risk under a single insurance contract. Facultative
reinsurance is negotiated separately for each insurance contract that is
reinsured. Facultative reinsurance normally is purchased by ceding companies
for individual risks not covered by their reinsurance treaties, for amounts in
excess of the dollar limits of their reinsurance treaties and for unusual risks.
-4-
Both treaty and facultative reinsurance can be written on either a pro rata
basis or an excess of loss basis. Under pro rata reinsurance, the ceding
company and the reinsurer share the premiums as well as the losses and expenses
in an agreed proportion. Under excess of loss reinsurance, the reinsurer
indemnifies the ceding company against all or a specified portion of losses and
expenses in excess of a specified dollar amount, known as the ceding company's
retention or reinsurer's attachment point, generally subject to a negotiated
reinsurance contract limit.
Premiums paid by the ceding company to a reinsurer for excess of loss
reinsurance are not directly proportional to the premiums that the ceding
company receives because the reinsurer does not assume a proportionate risk. In
pro rata reinsurance, the reinsurer generally pays the ceding company a ceding
commission. The ceding commission generally is based on the ceding company's
cost of acquiring the business being reinsured (commissions, premium taxes,
assessments and miscellaneous administrative expenses). There is usually no
ceding commission on excess of loss reinsurance.
Reinsurers may purchase reinsurance to cover their own risk exposure.
Reinsurance of a reinsurer's business is called a retrocession. Reinsurance
companies cede risks under retrocessional agreements to other reinsurers, known
as retrocessionaires, for reasons similar to those that cause insurers to
purchase reinsurance: to reduce net liability on individual or classes of risks,
protect against catastrophic losses, stabilize financial ratios and obtain
additional underwriting capacity.
RESERVES AND INVESTMENTS
Independence American's securities portfolio is managed by employees of IHC and
its affiliates, and ultimate investment authority rests with Independence
American's Board of Directors. As a result of the nature of its insurance
liabilities, Independence American endeavors to maintain a significant
percentage of its assets in investment grade securities, cash and cash
equivalents. At December 31, 2001, approximately 100% of the fixed maturities
were investment grade. The internal investment group provides a summary of the
investment portfolio and the performance thereof at the meetings of IAHC's board
of directors.
As required by insurance laws and regulations, Independence American establishes
reserves to meet obligations on policies in-force. These reserves are amounts
which are calculated to be sufficient to meet anticipated future policy
obligations. Premiums and reserves are based upon certain assumptions with
respect to morbidity. Independence American invests its assets, which support
the reserves and other funds in accordance with applicable insurance law, under
the supervision of their respective boards of directors. IAHC manages interest
rate risk seeking to maintain a portfolio with a duration and average life that
falls within the band of the duration and average life of the applicable
liabilities.
Under Delaware insurance law, there are restrictions relating to the percentage
of an insurer's admitted assets that may be invested in a specific issuer or in
the aggregate in a particular type of investment. In addition, there are
qualitative investment restrictions.
COMPETITION AND REGULATION
Independence American competes with many larger insurance and reinsurance
companies and managed care organizations. IndependenceCare and RAS compete with
many other managing general underwriters, insurance companies, HMOs and other
managed care organizations.
IAHC is an insurance holding company; as such, it is subject to regulation and
supervision by the insurance supervisory agencies of Delaware. Independence
American is also subject to regulation and supervision in all jurisdictions in
which it is licensed to transact business. These supervisory agencies have
broad administrative powers with respect to the granting and revocation of
licenses to transact business, the licensing of agents, the approval of policy
forms, the approval of commission rates, the form and content of mandatory
financial statements, reserve requirements and the types and maximum amounts of
investments which may be made. Such regulation is designed primarily for the
benefit of policyholders rather than the stockholders of an insurance company or
holding company.
Certain transactions within the holding company system are also subject to
regulation and supervision by such regulatory agencies. All such transactions
must be fair and equitable. Notice to or prior approval by the insurance
department is required with respect to transactions affecting the ownership or
-5-
control of an insurer and of certain material transactions, including dividend
declarations, between an insurer and any person in its holding company system.
Under Delaware insurance laws, "control" is defined as the possession, directly
or indirectly, of the power to direct or cause the direction of the management
and policies of a person, and is presumed to exist if any person, directly or
indirectly, owns, controls or holds with the power to vote ten percent or more
of the voting securities of any other person. An agreement to acquire control
of an insurer domiciled in Delaware must be approved by the Commissioner of
Insurance of Delaware. In addition, periodic disclosure is required concerning
the operations, management and financial condition of the insurer within the
holding company system. An insurer is also required to file detailed annual
statements with each supervisory agency, and its affairs and financial
conditions are subject to periodic examination.
Risk-based capital requirements are imposed on property and casualty insurance
companies. The risk-based capital ratio is determined by dividing an insurance
company's total adjusted capital, as defined, by its authorized control level
risk-based capital. Companies that do not meet certain minimum standards
require specified corrective action. The risk-based capital ratio for
Independence American exceeds such minimum ratios.
EMPLOYEES
As of October 31, 2002, IAHC has 31 employees.
PROPERTIES
IndependenceCare leases 4,000 square feet of office space in Minneapolis,
Minnesota; 3,800 square feet in Vernon Hills, Illinois; 2,500 square feet in
Franklin, Tennessee; and 1645 square feet in Austin, Texas. RAS leases 4,200
square feet of office space in South Windsor, Connecticut.
LEGAL PROCEEDINGS
There are various lawsuits pending against IAHC in the normal course of its
insurance business. IAHC's management is of the opinion that the ultimate
liabilities arising from such litigation, if any, would not have a material
adverse effect on the financial position of IAHC.
-6-
ITEM 2. PROPERTIES
American Independence Corp., formerly SoftNet Systems, Inc., and subsidiaries
(collectively referred to as the "Company") leases approximately 16,800 square
feet of office space at 650 Townsend Street, San Francisco, California, which
expires on July 31, 2005. The Company is currently in negotiations to
sublease these offices.
IndependenceCare leases 4,000 square feet of office space in Minneapolis,
Minnesota; 3,800 square feet in Vernon Hills, Illinois; 2,500 square feet in
Franklin, Tennessee; and 1645 square feet in Austin, Texas. RAS leases 4,200
square feet of office space in South Windsor, Connecticut.
ITEM 3. LEGAL PROCEEDINGS
On September 26, 2001, Lucent Technologies Inc. ("Lucent") brought an action in
San Francisco Superior Court against American Independence Corp., formerly
SoftNet Systems, Inc., and subsidiaries (collectively referred to as the
"Company"), alleging that the Company breached a contract by failing to purchase
Lucent's shares in Freewire Networks, Inc. ("Freewire") and claiming damages of
approximately $3.5 million, which may increase over time. On December 31, 2001,
the San Francisco Superior Court issued an order to deny Lucent's application
for writ of attachment, finding that Lucent had not shown a substantial
probability that it will prevail on its claim. The Company continues to believe
that Lucent's claims are without merit and will contest these claims vigorously.
On November 9, 2001, Nokia Inc. ("Nokia") commenced an action in San Francisco
Superior Court against the Company and Aerzone Corporation ("Aerzone"), alleging
breach of contract arising out of the Aerzone's proposed operations in certain
airports. Nokia seeks approximately $2.1 million in damages. The Company
believes that Nokia's claims are without merit and intends to contest these
claims vigorously. Additionally, the Company deposited security collateral of
$1,053,000 as required by the performance bond indemnity agreement with the
surety company. In the event that the Company prevails, any balance on the
collateral will be returned by the surety company to the Company.
On October 30, 2001, Global Information Distribution GmbH ("GID") commenced a
demand for arbitration against the Company, alleging breach of contract and
warranties relating to the sale of Micrographic Technology Corporation ("MTC")
to GID on September 30, 1999. GID claims approximately $750,000 in damages.
The Company believes GID's claims are without merit and intends to contest these
claims vigorously.
The Company is also involved in other legal proceedings and claims, which arise
in the ordinary course of its discontinued businesses. The Company believes the
results of the above noted legal proceedings, other pending legal proceedings
and claims are not expected to have a material adverse effect on its results of
operations, financial condition or cash flows.
There are various lawsuits pending against IAHC in the normal course of its
insurance business. IAHC's management is of the opinion that the ultimate
liabilities arising from such litigation, if any, would not have a material
adverse effect on the financial position of IAHC.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not Applicable
-7-
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
Since November 15, 2002, the common stock of American Independence Corp.,
formerly SoftNet Systems, Inc., and subsidiaries (collectively referred to as
the "Company") has been listed and traded on the Nasdaq National Market
("Nasdaq") under the symbol "AMIC". From April 14, 1999 through November 14,
2002, the Company's common stock was traded and listed on Nasdaq under the
symbol "SOFN". Prior to that date, the Company's common stock was traded and
listed on the American Stock Exchange ("AMEX") under the symbol "SOF". The per
share range of high and low sale prices for the Company's common stock as
reported on Nasdaq, as applicable, for each three month period over the two
years ended September 30, 2002, are as follows:
HIGH LOW
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YEAR ENDED SEPTEMBER 30, 2001:
December 31, 2000. . . . . . $6.437500 $1.125000
March 31, 2001 . . . . . . . 2.500000 1.062500
June 30, 2001. . . . . . . . 2.150000 1.156250
September 30, 2001 . . . . . 2.100000 1.380000
YEAR ENDED SEPTEMBER 30, 2002:
December 31, 2001. . . . . . $1.880000 $1.290000
March 31, 2002 . . . . . . . 2.220000 1.710000
June 30, 2002. . . . . . . . 2.290000 1.800000
September 30, 2002 . . . . . 2.550000 1.720000
At October 31, 2002, there were 407 record holders of the Company's common
stock. The closing price for the Company's common stock at October 31, 2002,
was $2.39.
On July 30, 2002, the Company's Board of Directors approved a shareholder rights
plan (the "Plan"). Pursuant to the Plan's approval, the Company's Board of
Directors declared a dividend distribution of one Preferred Share Purchase Right
(the "Rights") on each outstanding common stock share. The dividend
distribution of the Rights will be payable to common stock stockholders of
record on August 14, 2002. The Rights distribution is not taxable to
stockholders. Subject to limited exceptions, the Rights will be exercisable if
a person or group acquires or announces a tender offer for 4.99% or more of the
Company's common stock. Under certain circumstances, each Right will entitle
shareholders to buy one one-hundredth of a share of newly created Series A
Junior Participating Preferred Stock of the Company at an exercise price of
$3.00. The Company's Board of Directors will be entitled to redeem the Rights
at $0.01 per Right at any time before a person has acquired 4.99% or more of the
outstanding common stock.
The Rights are designed to inhibit some acquisitions of the Company's common
stock shares that could result in the imposition of limitations on the use of
its Federal net operating loss carryforwards and certain income tax credits.
The Rights are also intended to enable all stockholders to realize the long-term
value of their investment in the Company. The Rights are not being distributed
in response to any specific effort to acquire control of the Company. The
Rights are designed to help protect the tax benefits associated with the
Company's net operating loss carryforwards.
If a person becomes an Acquiring Person, each Right will entitle its holder to
purchase, at the Right's then-current exercise price, a number of the Company's
common shares having a market value at that time of twice the Right's exercise
price. The Rights held by the Acquiring Person will become void and will not be
exercisable to purchase shares at the bargain purchase price. If Company is
acquired in a merger or other business combination transaction which has not
been approved by the Company's Board of Directors, each Right will entitle its
holder to purchase, at the Right's then-current exercise price, a number of the
acquiring company's common shares having a market value at that time of twice
the Right's exercise price.
The Plan will expire on the close of business on the earliest date that (a) a
vote of Company's stockholders does not approve an amendment or an amendment and
restatement of the Company's Certificate of Incorporation proposed by the
Company's Board of Directors providing for limitations on the acquisition of the
Company's common stock in excess of certain percentage amounts, (b) such
restated Certificate of Incorporation is filed with the Secretary of State of
the State of Delaware or (c) the Company's stock purchase agreement with SSH
Corp. and IHC is terminated, subject to the Company's right to extend such date
and the Company's earlier redemption or exchange of such rights or termination
of the Plan.
-8-
Subsequently, as a result of the approval of the Company's amended and restated
Certificate of Incorporation by the Company's stockholders at the Special
Meeting of Stockholders on November 14, 2002, and filing of the restated
Certificate of Incorporation with the Secretary of State of the State of
Delaware, the Plan expired.
Other than restrictions that may be part of various debt instruments, the
Company does not have any legal restriction on paying dividends.
RECENT SALES OF UNREGISTERED SECURITIES
On September 15, 1995, in association with the acquisition of MTC, the Company
assumed $1,800,000 of 6% Convertible Subordinated Secured Debentures due
February 28, 2002. These 6% debentures were subject to redemption at the option
of the Company at face value, provided however, that the Company issued warrants
to purchase common stock shares for the same number of shares as would have been
issued if the debentures were converted. These debentures were convertible into
the Company's common stock at $8.10 per share. These securities were issued in
a non-public offering pursuant to transactions exempt under Section 4(2) of the
Securities Act of 1993, as amended (the "Securities Act"). As of September 30,
1999, the Company issued 140,739 common stock shares pursuant to the conversion
of $1,140,000 of these convertible debentures. Subsequently on November 15,
2000, the remaining principal of $660,000 and accrued interest was paid.
On September 15, 1995, the Company issued $2,856,000 of its 9% Convertible
Subordinated Debentures due September 15, 2000, in conjunction with the
acquisition of MTC. The debentures were issued to the shareholders of MTC as
partial consideration for the acquisition. These 9% debentures had a conversion
price of $6.75. These securities were issued in a non-public offering pursuant
to transactions exempt under Section 4(2) of the Securities Act. As of
September 30, 1999, the Company issued 222,200 common stock shares pursuant to
the conversion of $1,499,000 of these debentures. For the year ended September
30, 2000, the Company issued 1,467 common stock shares pursuant to the
conversion of $63,000 of convertible debt by two separate holders of these
debentures. On September 15, 2000, the Company paid the remaining $1,294,000 of
convertible debt and accrued interest in cash.
On January 2, 1998, the Company issued $1,444,000 principal amount of its 5%
Convertible Subordinated Debentures due September 30, 2002, to Mr. R.C.W.
Mauran, who was at the time of the transaction a beneficial owner of more than
5% of the Company's common stock, in exchange for the assignment to the Company
of certain equipment leases and other consideration, all of which had been
assimilated into the business of Micrographic Technology Corporation. The
debentures were convertible into the Company's common stock at $8.25 per share
after December 31, 1998. These securities were issued in a non-public offering
pursuant to transactions exempt under Section 4(2) of the Securities Act. On
September 30, 2002, the Company paid the principal of $1,444,000 and accrued
interest in cash.
On January 12, 1999, the Company issued $12,000,000 of its 9% Senior
Subordinated Convertible Notes (the "Notes") due January 1, 2001, to a group of
institutional investors. These Notes were convertible into the Company's common
stock with an initial conversion price of $17.00 per share until July 1, 1999,
and, thereafter, at the lower of $17.00 per share (the "Initial Conversion
Price") and the lowest five-day average closing bid price of the Company's
common stock during the 30-day trading period ending one day prior to the
applicable conversion date (the "Conversion Price"). In connection with these
Notes, the Company issued to these investors warrants to purchase an aggregate
of 300,000 shares of the Company's common stock. These warrants have an
exercise price of $17.00 per share and expire in 2003. On April 28, 1999, as a
result of the Company's underwritten secondary public offering (the "Secondary
Offering"), and in conjunction with an anti-dilution provision associated with
the Notes, the Initial Conversion Price was reduced from $17.00 to $16.49 per
share. Furthermore, in order to secure three month lock-up agreements from the
holders of the Notes in conjunction with the Secondary Offering, the Company
entered into a new arrangement with the holders of the Notes to issue all future
interest payments, beginning with the three months ended June 30, 1999, in the
form of convertible notes with substantially the same form and features as the
original Notes. Therefore, the Company issued an additional $549,000 in notes,
representing interest for the six months ended September 30, 1999 (the "Interest
Notes"). The Notes and warrants were issued in a nonpublic offering pursuant
Regulation D under the Securities Act. On October 22, 1999, all of the 9%
Senior Subordinated Convertible Notes, related Interest Notes and accrued
interest were converted into 765,201 common stock shares of the Company.
On February 9, 1999, a wholly owned subsidiary of the Company merged with and
into Intellicom (the "Intellicom Acquisition"). The Intellicom Acquisition was
accounted for under the purchase method, and the results of Intellicom have been
included in the consolidated financial statements since the date of acquisition.
The purchase price of $14,869,000 was comprised of: (i) a cash component of
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$500,000 (the "Cash Consideration"); (ii) a promissory note in the amount of
$1,000,000 bearing interest at 7.5% per annum and due one year after closing
(the "First Promissory Note"); (iii) a promissory note in the amount of
$2,000,000 bearing interest at 8.5% per annum and due two years after closing
(the "Second Promissory Note", together with the First Promissory Note are
defined as "Debt Consideration"); (iv) the issuance of 500,000 shares of the
Company's common stock (adjustable upwards after one year in certain
circumstances), valued at $14.938 per share, for a total value of $7,469,000
(the "Closing Shares"); (v) additional shares of the Company's common stock
issuable upon the first, second and third anniversaries of the closing, valued
at a total of $3,500,000 (the "Anniversary Shares", together with the Closing
Shares are defined as "Equity Consideration"); and (vi) certain direct
acquisition costs totaling $400,000. The Debt Consideration may be partially or
wholly converted into the Company's common stock, under certain circumstances.
The conversion price of the Debt Consideration was based upon the average
closing price of the Company's common stock for the 15 days immediately
preceding the conversion date. In April 1999, the Company paid the First
Promissory Note and related interest in full with a combination of $832,000 in
cash and the remainder, after expenses, with 6,118 common stock shares valued at
$190,000. The Intellicom Acquisition agreement required the Company to issue
$1,500,000 of common stock shares on the first anniversary date of the
Intellicom Acquisition. Accordingly, on February 8, 2000, the Company issued
43,314 common stock shares valued at $1,499,000 and paid $1,000 for fractional
shares to the former Intellicom stockholders. On February 7, 2001, the Company
made an offer to the former Intellicom stockholders to pay a discounted amount
in lieu of the Company's obligation to pay cash and stock for the remaining
consideration, which was to be paid in connection with the Intellicom
acquisition and consisted of (i) a $2,000,000 8.5% promissory note and accrued
interest, (ii) the requirement for the Company to issue $1,500,000 of common
stock shares on the second anniversary date of the Intellicom acquisition, and
(iii) the requirement for the Company to issue $500,000 of common stock shares
on the third anniversary date of the Intellicom acquisition. The parties agreed
to settle the obligation by which the Company paid $2,815,000 (including accrued
interest of $325,000), issued 99,922 common stock shares valued at $199,000, and
recognized a $1,326,000 extraordinary gain on settlements of outstanding
obligations. On February 9, 2002, the Company issued 12,426 common stock shares
to settle the remaining obligations related to the requirement to issue common
stock shares on the third anniversary date of the Intellicom acquisition. Both
the Debt Consideration and the Equity Consideration were issued in a nonpublic
offering pursuant to transactions exempt under Section 4(2) of the Securities
Act.
On February 22, 1999, the Company entered into a license agreement with Inktomi
Corporation ("Inktomi", the "Inktomi Licensing Agreement") allowing the Company
rights to install certain Inktomi caching technology into the Company's
cable-based Internet network infrastructure. Additionally, the Inktomi
Licensing Agreement allowed the Company to purchase up to 500 additional
licenses during the first four years of the agreement. The Inktomi Licensing
Agreement was valued at $4,000,000 for a total of 500 licenses, of which the
first $1,000,000 was paid with 65,843 common stock shares of the Company and the
remaining amount payable in cash in eight quarterly payments of $375,000. For
the years ended September 30, 2001, 2000 and 1999, total payments amounted to
$750,000, $1,500,000 and $750,000, respectively. Prepaid license fees were
$2,602,000 at September 30, 2000. As a result of the Company discontinuing the
operations of ISP Channel, prepaid license fees were written off and reflected
in the loss on disposition of discontinued operations for the year ended
September 30, 2000. Payments for the year ended September 30, 2001, were
charged directly to the net liabilities associated with discontinued operations
of ISP Channel, Inc. of the accompanying consolidated balance sheet. These
common stock shares were issued in a nonpublic offering pursuant to transactions
exempt under Section 4(2) of the Securities Act.
On March 22, 1999, the Company issued warrants to purchase 3,013 common stock
shares to an institutional lender in connection with a $3,000,000 credit
facility. The credit facility was used to fund certain capital equipment
acquisitions. The warrants have an exercise price of $29.875 and expire on
March 22, 2003. These securities were issued in a nonpublic offering pursuant
to transactions exempt under Section 4(2) of the Securities Act.
In conjunction with offering incentives to launch the Company's ISP Channel
cable-based Internet services, the Company issued common stock to cable
affiliates in return for the exclusive rights to provide Internet services to
their customers. During the year ended September 30, 1999, the Company issued
an aggregate of 13,574 common stock shares valued at $337,000 to eight separate
cable affiliates. During the year ended September 30, 2000, the Company issued
35,160 common stock shares valued at $419,000 to two separate cable affiliates.
In addition, on April 12, 1999, the Company issued 660,000 common stock shares
to an investor for $14,990,000 in cash and a modification of the affiliate
agreement between the Company and Teleponce Cable TV, which is controlled by the
investor; the modification of the affiliate agreement was valued at $8,925,000
as a cable affiliate launch incentive. Further, on November 4, 1999, the
Company entered into various definitive agreements with Mediacom LLC
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("Mediacom"). In exchange for signing an agreement to launch the ISP Channel
services, the Company issued a total of 3,500,000 common stock shares to
Mediacom, of which 3,150,000 common stock shares were restricted. The
restrictions were progressively lifted as Mediacom launched ISP Channel's
services in Mediacom's cable television systems. At September 30, 2000, there
were 2,100,000 common stock shares restricted and unvalued. The unrestricted
1,400,000 common stock shares were valued at $26,513,000 as a cable affiliate
launch incentive. As a result of the Company discontinuing the operations of
ISP Channel, the cable affiliate launch incentive, net of amortization, was
written off and reflected in the loss on disposition of discontinued operations
for the year ended September 30, 2000, and in the net assets associated with
discontinued operations at September 30, 1999. On February 16, 2001, the
Company and ISP Channel entered into agreements with Mediacom, to terminate
Mediacom's affiliate relationship with ISP Channel. As part of these agreements
Mediacom released all obligations under the affiliate agreement with ISP Channel
and returned 1,300,000 restricted common stock shares of the Company, and in
exchange received certain equipment, a $3,768,000 payment from the Company, and
the Company removed restrictions on 800,000 common stock shares valued at
$1,500,000 held by Mediacom. Mediacom currently holds a total of 2,200,000
unrestricted common stock shares of the Company. Pursuant to these agreements,
neither the Company nor ISP Channel has any further material obligation to
Mediacom. These common stock shares were issued in a nonpublic offering
pursuant to transactions exempt under Section 4(2) of the Securities Act.
On December 13, 1999, the Company completed a private placement of 5,000,000
common stock shares for net proceeds of $128,121,000 to Pacific Century
Cyberworks Limited ("PCCW"), and entitled PCCW to designate two persons for
election to the Board of Directors. These common stock shares were issued in a
nonpublic offering pursuant to transactions exempt under Section 4(2) of the
Securities Act. On July 30, 2002, Independence Holding Company ("IHC") acquired
PCCW entire interest in the Company consisting of 5,000,000 common stock shares
at $3.00 per share for a total value of $15,000,000. As a result of this
transaction, PCCW's appointees Linus W.L. Cheung and Jeffrey A. Bowden resigned
from the Company's Board of Directors, and Edward Netter, Chairman of IHC, and
Roy T.K. Thung, Chief Executive Officer of IHC, were appointed to the Company's
Board of Directors. Additionally, IHC has agreed to make a cash tender offer at
$3.00 per share for at least 3,000,000 outstanding common stock shares of the
Company, subject to certain limitations.
On April 21, 2000, the Company acquired Laptop Lane Limited ("Laptop Lane"), a
Washington corporation, under the purchase method of accounting, and the results
of Laptop Lane have been included in the consolidated financial statements since
the date of acquisition. Laptop Lane was a provider of business center services
in airports. The Company paid approximately $21,559,000 consisting of (i)
972,266 common stock shares of the Company valued at $15,107,000, net of
adjustment for expenses paid by the Company on behalf of Laptop Lane, exchanged
for all outstanding common stock shares of Laptop Lane, (ii) direct acquisition
costs of approximately $2,300,000, which included a bonus payment to Laptop Lane
employees of $431,000 in lieu of Laptop Lane stock options, and (iii) 250,000
common stock shares of the Company valued at $3,652,000 issued to former Laptop
Lane stockholders in payment for achieving certain criteria. As part of the
acquisition, an additional 333,333 common stock shares of the Company were to be
distributed to former Laptop Lane stockholders if certain performance goals or
other criteria were met. At September 30, 2000, Laptop Lane achieved three of
the four performance goals; as a result, 249,981 common stock shares of the
Company and cash amounting to $3,652,000 were distributed to the former Laptop
Lane stockholders. In October 2000, Laptop Lane achieved the fourth performance
goal requirement, resulting in the distribution of 81,050 common stock shares of
the Company valued at $332,000 to the former Laptop Lane stockholders. These
common stock shares were issued in a nonpublic offering pursuant to transactions
exempt under Section 4(2) of the Securities Act.
As of September 30, 2002, the Company has granted stock options to seven
separate consultants to purchase an aggregate of 180,500 common stock shares.
The stock options were granted as partial consideration for services rendered.
The stock options typically vest over the period of contracted service. These
stock options have an exercise price range from $7.375 to $23.8125. In the
aggregate, the stock options have a weighted average exercise price of $13.08.
At September 30, 2002, consultant stock options for 15,000 common stock shares
were vested and outstanding. For the year ended September 30, 2002, no stock
options were issued to consultants. These stock options for common stock shares
were granted in a nonpublic offering pursuant to transactions exempt under
Section 4(2) of the Securities Act.
-11-
ITEM 6. SELECTED FINANCIAL DATA
The following selected consolidated financial data should be read in conjunction
with the consolidated financial statements and related notes thereto and
"Management's Discussions and Analysis of Financial Condition and Results of
Operations" included elsewhere in this annual report on Form 10-K. The
consolidated statement of operations data for the years ended and consolidated
balance sheet data as of September 30, 2002, 2001, 2000 and 1999, have been
derived from the American Independence Corp., formerly SoftNet Systems, Inc.,
and subsidiaries (collectively referred to as the "Company") consolidated
financial statements audited by KPMG LLP. The consolidated statements of
operations for the year ended and consolidated balance sheet data as of
September 30, 1998, were derived from the Company's consolidated financial
statements audited by PricewaterhouseCoopers LLP.
YEAR ENDED SEPTEMBER 30,
------------------------------------------------------
2002 2001 2000(b) 1999(c) 1998
--------- --------- ---------- --------- ---------
(In thousands, except per share data)
Consolidated Statement of Operations Data(a):
- ---------------------------------------------
Operating expenses:
Selling and marketing, engineering, and general and
administrative . . . . . . . . . . . . . . . . . . . . $ 7,297 $ 10,016 $ 13,078 $ 7,268 $ 1,866
Depreciation . . . . . . . . . . . . . . . . . . . . . . 189 350 355 175 84
Compensation expense (benefit) related to stock options. 1,466 (807) 14,668 8,173 27
Provision for impaired assets. . . . . . . . . . . . . . 352 - - - -
Restructuring expense. . . . . . . . . . . . . . . . . . 502 3,900 - - -
--------- --------- ---------- --------- ---------
Total operating expenses . . . . . . . . . . . . . . . 9,806 13,459 28,101 15,616 1,977
--------- --------- ---------- --------- ---------
Loss from continuing operations. . . . . . . . . . . . . . (9,806) (13,459) (28,101) (15,616) (1,977)
Other income (expenses):
Interest income. . . . . . . . . . . . . . . . . . . . . 1,802 6,421 11,840 3,617 112
Interest expense . . . . . . . . . . . . . . . . . . . . (72) (107) (526) (4,675) (966)
Gain (loss) on disposition of equity investments, net. . (733) (17,195) 10,157 - -
Equity in net losses of investee companies . . . . . . . - (394) (581) - -
Miscellaneous income (expense) . . . . . . . . . . . . . (21) 216 (396) (1,414) (173)
--------- --------- ---------- --------- ---------
Loss from continuing operations before income taxes. . . . (8,830) (24,518) (7,607) (18,088) (3,004)
Provision for income taxes . . . . . . . . . . . . . . . . - - - - - -
--------- --------- ---------- --------- ---------
Loss from continuing operations. . . . . . . . . . . . . . (8,830) (24,518) (7,607) (18,088) (3,004)
Discontinued operations:
Loss from operations . . . . . . . . . . . . . . . . . . (1,829) (29,557) (85,346) (33,741) (13,998)
Gain (loss) on disposition . . . . . . . . . . . . . . . (4,097) (4,898) (139,400) 1,820 -
Extraordinary item:
Gain on settlements of outstanding obligations . . . . . - 1,326 - - -
--------- --------- ---------- --------- ---------
Net loss . . . . . . . . . . . . . . . . . . . . . . . . . (14,756) (57,647) (232,353) (50,009) (17,002)
Preferred dividends. . . . . . . . . . . . . . . . . . . . - - - (473) (343)
--------- --------- ---------- --------- ---------
Net loss applicable to common shares . . . . . . . . . . . $(14,756) $(57,647) $(232,353) $(50,482) $(17,345)
========= ========= ========== ========= =========
Basic and diluted loss per common share:
Loss from continuing operations. . . . . . . . . . . . . $ (0.35) $ (0.98) $ (0.32) $ (1.46) $ (0.41)
Discontinued operations. . . . . . . . . . . . . . . . . (0.24) (1.38) (9.56) (2.59) (1.89)
Extraordinary item . . . . . . . . . . . . . . . . . . . - 0.05 - - -
Preferred dividends. . . . . . . . . . . . . . . . . . . - - - (0.04) (0.05)
--------- --------- ---------- --------- ---------
Net loss . . . . . . . . . . . . . . . . . . . . . . . . $ (0.59) $ (2.31) $ (9.88) $ (4.09) $ (2.35)
========= ========= ========== ========= =========
Consolidated Balance Sheet Data(a):
- -----------------------------------
Working capital. . . . . . . . . . . . . . . . . . . . . . $ 60,626 $ 70,684 $ 130,067 $133,821 $ 11,817
Total assets . . . . . . . . . . . . . . . . . . . . . . . 70,814 84,500 190,809 193,731 21,810
Long-term liabilities. . . . . . . . . . . . . . . . . . . - - 4,104 20,153 9,048
Redeemable convertible preferred stock . . . . . . . . . . - - - - 18,187
Stockholders' equity (deficit) . . . . . . . . . . . . . . 63,665 76,446 139,914 163,710 (6,171)
______________________________
(a) Reflects business center services, satellite-based Internet services,
cable-based Internet services, document management and telecommunications
segments as discontinued operations.
(b) Includes Aerzone Corporation as a discontinued operation since its
formation on January 24, 2000, and Laptop Lane Limited as a discontinued
operation since its acquisition on April 21, 2000.
(c) Includes Intelligent Communications, Inc. as a discontinued operation since
its acquisition on February 9, 1999.
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion of the financial condition and results of operations of
the American Independence Corp. and subsidiaries (collectively referred to as
the "Company") should be read in conjunction with, and is qualified in its
entirety by reference to, the Consolidated Financial Statements of the Company
and the related Notes thereto appearing elsewhere in this Annual Report on Form
10-K. This discussion contains forward-looking statements that involve risks
and uncertainties. The actual results of the Company could differ significantly
from those set forth herein. Factors that could cause or contribute to such
differences include, but are not limited to, those discussed in "Business" and
"Factors Affecting the Company's Operating Results" as well as those discussed
elsewhere in this Annual Report on Form 10-K. Statements contained herein that
are not historical facts are forward-looking statements that are subject to the
safe harbor created by the Private Securities Litigation Reform Act of 1995.
Words such as "believes", "anticipates", "expects", "intends", "estimates",
"likelihood", "unlikelihood", "assessment" and "foreseeable", and other similar
expressions are intended to identify forward-looking statements, but are not the
exclusive means of identifying such statements. A number of important factors
could cause our actual results to differ materially from the statements and
those expressed or implied in any forward-looking statements made by us, or on
our behalf. We undertake no obligation to release publicly the results of any
revisions to these forward-looking statements that may be made to reflect events
or circumstances after the date hereof or to reflect the occurrence of
unanticipated events.
OVERVIEW
On July 30, 2002, SoftNet Systems, Inc., and subsidiaries (collectively referred
to as the "Company") entered into an agreement to acquire First Standard
Holdings Corp. from SSH Corp. and Independence Holding Company ("IHC") for
$31,920,000 in cash. Subsequently at the Special Meeting of Stockholders on
November 14, 2002, the Company's stockholders approved the stock purchase
agreement between the Company, SSH Corp. and IHC (the "Purchase Agreement"), and
approved the Company's name change to American Independence Corp. Also on
November 14, 2002, the Company consummated the transactions contemplated by the
Purchase Agreement and First Standard Holdings Corp. changed its name to
Independence American Holdings Corp. ("IAHC"). IAHC and its wholly-owned
subsidiaries are engaged in the insurance and reinsurance business. The
Company, which was a holding company principally engaged in providing Internet
services, had previously wound down its Internet related businesses and as a
result of the acquisition of IAHC has become an insurance holding company.
Additionally, due to the acquisition of IAHC, the Company has decided to close
its offices in San Francisco, terminate all but one of its employees, and enter
into a services agreement with IHC under which the Company's operations will be
directed by IHC management and employees. The transaction is more fully
described in the Company's Definitive Proxy/Prospectus Statement on Schedule 14A
as filed with the Securities Exchange Commission on September 30, 2002.
In a separate transaction on July 30, 2002, IHC acquired Pacific Century
Cyberworks Limited's ("PCCW") entire interest in the Company consisting of
5,000,000 common stock shares at $3.00 per share for a total value of
$15,000,000. As a result of this transaction, PCCW's appointees Linus W.L.
Cheung and Jeffrey A. Bowden resigned from the Company's Board of Directors, and
Edward Netter, Chairman of IHC, and Roy T.K. Thung, President and Chief
Executive Officer of IHC, were appointed to the Company's Board of Directors.
Additionally, upon closing of the purchase of IAHC, IHC has agreed to make a
cash tender offer at $3.00 per share for at least 3,000,000 outstanding common
stock shares of the Company, subject to certain limitations.
On May 17, 2002, the Company received a Nasdaq Staff Determination Letter
stating that the Company's common stock was no longer eligible for continued
listing on the Nasdaq National Market as a result of the Company ceasing the
operations of its last business segment, Intellicom, and that the Company
therefore did not meet the requirements for continued listing set forth in
Marketplace Rules 4300 and 4330. Subsequently, the Company requested and was
granted an oral hearing before a Nasdaq Listing Qualifications Panel to appeal
the Nasdaq Staff Determination Letter, which stayed the delisting of the
Company's common stock pending the outcome of the hearing. On July 12, 2002,
the Company appeared before the Nasdaq Listing Qualifications Panel to present
the Company's plan to acquire IAHC, which would allow the Company to comply with
the Marketplace Rules 4300 and 4330. On August 15, 2002, the Nasdaq Listing
Qualifications Panel informed the Company that the Company will remain listed on
Nasdaq, subject to meeting various conditions, including the completion of the
acquisition of IAHC by December 31, 2002. Nasdaq has also informed the Company
that if it does remain listed on Nasdaq, following the acquisition of IAHC, the
Company will be required to meet Nasdaq's initial listing requirements as well
as Nasdaq's continued listing requirements.
-13-
As of September 30, 2002, the Company had substantially completed the wind down
of its Internet services related subsidiaries, ISP Channel, Inc. ("ISP
Channel"), Intelligent Communications, Inc. ("Intellicom"), and Aerzone
Corporation ("Aerzone"), including Laptop Lane Limited ("Laptop Lane"), as a
result of the following:
On December 7, 2000, the Company's Board of Directors approved a plan to
discontinue its ISP Channel operations because of (1) the consolidation in the
cable industry made it difficult for ISP Channel to achieve the economies of
scale necessary to provide such services profitably, and (2) the Company was no
longer able to bear the costs of maintaining the ISP Channel. Subsequently on
December 19, 2000, the Company's Board of Directors approved a plan to
discontinue its Aerzone, including Laptop Lane, business in light of, among
other things, significant long-term capital needs and the difficulty of securing
the necessary financing because of the financial markets. In conjunction with
discontinuing the ISP Channel and Aerzone businesses, the Company's Board of
Directors on December 28, 2000, approved a plan to reduce its corporate
headquarters staff.
On March 29, 2002, the Company and its wholly-owned subsidiary, Intellicom,
entered into an agreement to sell its operating business and certain assets to
Loral Cyberstar, Inc. Following the sale of its operating business and certain
assets to Loral Cyberstar, Inc., the Company's Board of Directors unanimously
agreed to cease the operations of Intellicom on April 3, 2002. Subsequently on
April 22, 2002, Intellicom entered into an agreement to sell certain assets to
Native Intellicom, Inc., a wholly-owned subsidiary of the Pinoleville Band of
Pomo Indians, for cash, subject to the termination of Intellicom's lease for its
facility in Livermore, California. On August 1, 2002, Intellicom terminated the
agreement with the Pinoleville Band of Pomo Indians and is negotiating to sell
those assets to another group of Native Americans.
The Company reports operating expenses in several categories: (i) selling and
marketing; (ii) engineering; and (iii) general and administrative costs. Also
included in operating expenses are depreciation and non-cash compensation
expense related to stock options. Non-cash compensation expense related to
stock options relates primarily to the amortization of deferred stock
compensation resulting from below market value stock options granted between
October 1998 and March 1999.
The results of operations for the years ended September 30, 2001 and 2000, have
been reclassified for the effects of discontinued operations of Intellicom.
-14-
CRITICAL ACCOUNTING POLICIES
The preparation of consolidated financial statements and related disclosures in
conformity with generally accepted accounting principles in the United States of
America requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosure of contingent assets
and liabilities at the date of the financial statements and the reported amounts
of the revenues and expenses during the reporting period. Actual results could
differ from those estimates. The Company believes the following critical
accounting policies are significantly affected by judgments, assumptions and
estimates used in preparation of its consolidated financial statements. For a
detailed discussion on the application of these and other accounting policies,
see Note 2 to the consolidated financial statements of the Company appearing
elsewhere in this annual report on Form 10-K.
Discontinued Operations
The Company accounts for discontinued operations in accordance to Accounting
Principles Board Opinion No. 30 ("APB 30"), Reporting the Results of Operations
- - Reporting the Effects of Disposal of a Segment of Business, and Extraordinary,
Unusual and Infrequently Occurring Events and Transactions. Under APB 30, the
Company accrued estimates of expected liabilities related to discontinued
operations through its eventual discharge. The estimated remaining liabilities
related to discontinued operations include contract terminations, litigation and
loss from operations subsequent to September 30, 2002. The Company reviews the
estimated closure costs liability on a quarterly basis to determine changes in
the costs of the discontinued operations activities.
Restructuring Expense
The Company recorded restructuring expenses related to an approved plan to
reduce corporate headquarters staff and to relocate its corporate offices in
conjunction with discontinuing the Aerzone, ISP Channel and Intellicom
businesses. These restructuring expenses are based on estimates of the expected
costs associated with employee severance, lease terminations, and facility
relocation. The Company reviews the estimated restructuring costs accrual on a
quarterly basis to determine changes in the costs of the restructuring
activities.
Impairment of Long-lived Assets
The Company evaluates long-lived assets for impairment whenever current events
or changes in circumstances, as defined in 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, indicate that the carrying
value of an asset may not be recoverable based on expected undiscounted cash
flows attributable to that asset. The amount of any impairment is measured as
the difference between the carrying value and the fair value of the impaired
asset.
Short-term Investments
The Company accounts for its short-term investments in debt and equity
securities under Statement of Financial Accounting Standards No. 115 ("SFAS
115"), Accounting for Certain Investments in Debt and Equity Securities.
Short-term investments generally consist of highly liquid securities with
original maturities in excess of three months. The Company has classified its
short-term investments as available-for-sale securities. These short-term
investments are carried at fair value based on quoted market prices with
unrealized gains and losses reported in accumulated other comprehensive loss of
the accompanying consolidated balance sheets. Realized gains and losses on
short-term investments are computed using the specific identification method and
are reported in miscellaneous income (expense), net of the accompanying
consolidated statements of operations. Declines in value judged to be
other-than-temporary is determined based on the specific identification method
and are reported in loss in disposition of equity investments of the
accompanying consolidated statements of operations.
-15-
RESULTS OF OPERATIONS FOR THE YEAR ENDED SEPTEMBER 30, 2002, COMPARED TO THE
YEAR ENDED SEPTEMBER 30, 2001
Selling and Marketing. The Company incurred no selling and marketing expenses
- -----------------------
for the year ended September 30, 2002, compared to $182,000 for the year ended
September 30, 2001, as a result of eliminating the public relations department
associated with the December 28, 2000, corporate restructuring plan.
Engineering. The Company incurred no engineering expenses for the year ended
- -----------
September 30, 2002, compared to $551,000 for the year ended September 30, 2001,
as a result of eliminating the corporate technology department associated with
the December 28, 2000, corporate restructuring plan.
General and Administrative. Consolidated general and administrative expenses
- ----------------------------
decreased $1,986,000, or 21%, to $7,297,000 for the year ended September 30,
2002, compared to $9,283,000 for the year ended September 30, 2001, primarily
due to staff reductions associated with the December 28, 2000, corporate
restructuring plan.
Depreciation. Consolidated depreciation expense decreased $161,000, or 46%, to
- ------------
$189,000 for the year ended September 30, 2002, compared to $350,000 for the
year ended September 30, 2001, primarily due to sales and disposal of property.
Non-Cash Compensation Expense/Benefit Related to Stock Options. The Company
- ------------------------------------------------------------------
recognized a non-cash compensation expense related to stock options of
$1,466,000 for the year ended September 30, 2002, compared to non-cash
compensation benefit related to stock options of $807,000 for the year ended
September 30, 2001. For the year ended September 30, 2002 and 2001, non-cash
compensation expense/benefit related to stock options issued to employees
relates primarily to the amortization of deferred stock compensation resulting
from below market value stock options granted between October 1998 and March
1999.
Non-cash compensation benefits are recognized following the reversal of
previously recognized expenses related to terminated unvested stock options with
a cliff vesting feature. Non-cash compensation expense related to stock options
should continue to decrease as the Company reduces its staff as a result of its
discontinued operations and corporate restructuring.
Provision for Impaired Assets. The Company recognized a charge of $352,000 for
- -------------------------------
the year ended September 30, 2002, as a result of writing off its accounting
software. In light of reduced operations, the Company migrated to an
off-the-shelf accounting software.
Restructuring Expense. The Company recognized a restructuring charge for the
- -----------------------
year ended September 30, 2001, related to a plan to downsize its corporate
headquarters staff. The charge in the amount of $3,900,000 was recognized as
restructuring expense and consisted primarily of termination payments for
affected employees. The Company increased the restructuring reserve by $502,000
for the year ended September 30, 2002, as a result of additional estimated lease
termination costs associated with Company headquarters. At September 30, 2002,
a restructuring accrual of $1,446,000 remained outstanding.
Interest Income. Consolidated interest income decreased $4,619,000, or 72%, to
- ----------------
$1,802,000 for the year ended September 30, 2002, compared to $6,421,000 for the
year ended September 30, 2001, as a result of lower interest rates, and decrease
in cash, cash equivalents, and short-term investments, available-for-sale.
Interest Expense. Consolidated interest expense decreased $35,000, or 33%, to
- -----------------
$72,000 for the year ended September 30, 2002, compared to $107,000 for the year
ended September 30, 2001. This decrease is primarily due to the reduction of
interest expense resulting from the retirement of the 8.5% promissory note to
the former Intellicom stockholders.
Loss on Disposition of Equity Investments. The Company recognized a loss on
- ----------------------------------------------
disposition of equity investments of $733,000 for the year ended September 30,
2002, consisting of $253,000 related to the 1,000,000 SkyNet Global Limited
common stock shares and $480,000 related to the 400,000 SkyNet Global Limited
preference stock shares. For the year ended September 30, 2001, the Company
recognized a charge of $17,195,000, consisting of a $768,000 write down of a
note receivable and related interest associated with the sale of Big Sky Network
Canada, Limited common shares to China Broadband Corporation, and $16,427,000 of
write-downs and realized losses related to various short-term and long-term
equity investments.
-16-
Equity in Net Losses of Investee Companies. The Company recognized equity in
- ----------------------------------------------
net losses of investee companies of $394,000 for the year ended September 30,
2001. The Company did not incur any equity in net losses of investee companies
for the year ended September 30, 2002, as a result of the sale and write offs of
investee companies accounted for under the equity method for the year ended
September 30, 2001.
Miscellaneous Expense, Net. The Company incurred consolidated miscellaneous
- ----------------------------
expense of $21,000 for the year ended September 30, 2002, compared to
consolidated miscellaneous income of $216,000 for the year ended September 30,
2001, primarily resulting from the write off of costs associated with a failed
business acquisition.
Income Taxes. The Company made no provision for income taxes for the year ended
- ------------
September 30, 2002 and 2001, as a result of the Company's continuing losses.
Loss Attributed to Discontinued Operations. The Company recognized a $5,926,000
- -------------------------------------------
loss attributed to discontinued operations for the year ended September 30,
2002, compared to a loss of $34,455,000 for the year ended September 30, 2001.
For the year ended September 30, 2002, the loss attributed to discontinued
operations consisted of a $3,120,000 loss on disposition of Intellicom, a
$1,829,000 loss from operations of Intellicom, a $1,127,000 loss on disposition
of Micrographic Technology Corporation ("MTC"), as a result of a preliminary
arbitration decision related to a dispute with Applications Informatiques
Multimedia and a dispute related to the sale of MTC to Global Information
Distribution GmbH ("GID"), a $900,000 gain on disposition of ISP Channel,
resulting from the lower than anticipated costs of closing ISP Channel, and a
$750,000 loss on disposition of Aerzone, resulting from a superior court
decision related to a breach of contract and other legal matters. For the year
ended September 30, 2001, the loss attributed to discontinued operations
consisted of a $29,557,000 net loss from the operations of Intellicom, a
$10,008,000 gain due to the revision of the loss on disposition of ISP Channel,
resulting from lower than anticipated costs of closing ISP Channel, and a
$14,906,000 loss on disposition of Aerzone, resulting primarily from the
reduction of the estimated sales proceeds of Laptop Lane.
Extraordinary Item-Gain on Settlement of Obligation. The Company recognized a
- ------------------------------------------------------
gain of $1,326,000 for the year ended September 30, 2001, resulting from the
cash payment made in lieu of the Company's obligation to pay off the 8.5%
promissory note and interest, and to settle business acquisition liability to
former Intellicom stockholders with common stock.
Net Loss. The Company had a net loss of $14,756,000, or a net loss per share of
- --------
$0.59, for the year ended September 30, 2002, compared to a net loss of
$57,647,000, or a net loss per share of $2.31, for the year ended September 30,
2001.
RESULTS OF OPERATIONS FOR THE YEAR ENDED SEPTEMBER 30, 2001, COMPARED TO THE
YEAR ENDED SEPTEMBER 30, 2000
Selling and Marketing. The Company's selling and marketing expenses decreased
- ------------------------
$1,572,000, or 90%, to $182,000 for the year ended September 30, 2001, compared
to $1,754,000 for the year ended September 30, 2000, primarily as a result of
eliminating the business development and public relations departments as part of
a corporate restructuring.
Engineering. The Company's engineering expenses increased $15,000, or 3%, to
- ------------
$551,000 for the year ended September 30, 2001, compared to $536,000 for the
year ended September 30, 2000.
General and Administrative. The Company's general and administrative expenses
- ---------------------------
decreased $1,505,000, or 14%, to $9,283,000 for the year ended September 30,
2001, compared to $10,788,000 for the year ended September 30, 2000, primarily
as a result of staff reductions as part of a corporate restructuring.
Depreciation. The Company's depreciation expense decreased $5,000, or 1%, to
- -------------
$350,000 for the year ended September 30, 2001, compared to $355,000 for the
year ended September 30, 2000.
Non-Cash Compensation Expense/Benefit Related to Stock Options. The Company
- -------------------------------------------------------------------
recognized a non-cash compensation benefit related to stock options of $807,000
for the year ended September 30, 2001, compared to non-cash compensation expense
related to stock options of $14,668,000 for the year ended September 30, 2000.
For the year ended September 30, 2001, non-cash compensation benefit related to
stock options consisted of $776,000 related to employee stock options and
$31,000 related to non-employee options, and for the year ended September 30,
2000, non-cash compensation expense related to stock options consisted of
$14,407,000 related to employee stock options and $261,000 related to
non-employee options.
-17-
Non-cash compensation benefits are recognized following the reversal of
previously accrued expenses in respect to stock option terminations as result of
corporate restructuring. Non-cash compensation expense related to stock options
were expected to continue to decrease or generate a benefit, as the Company
continued to reduce its staff due to its discontinued operations and corporate
restructuring.
Restructuring Expense. The Company recognized a restructuring expense of
- -----------------------
$3,900,000 for the year ended September 30, 2001, related to a plan to downsize
its corporate headquarters staff. At September 30, 2001, restructuring reserve
of $1,240,000 remained outstanding for corporate.
Interest Income. The Company's interest income decreased $5,419,000, or 46%, to
- ----------------
$6,421,000 for the year ended September 30, 2001, compared to $11,840,000 for
the year ended September 30, 2000, as a result of lower interest rates, and
decrease in cash, cash equivalents, and short-term investments,
available-for-sale.
Interest Expense. The Company's interest expense decreased $419,000, or 80%, to
- -----------------
$107,000 for the year ended September 30, 2001, compared to $526,000 for the
year ended September 30, 2000. This decrease is primarily due to the reduction
of interest expense resulting from the conversion of the 9% senior subordinated
convertible notes, retirement of the 6% subordinated convertible notes and
retirement of the 8.5% promissory note to the former Intellicom stockholders.
Equity in Net Losses of Investee Companies. The Company recognized equity in
- ----------------------------------------------
net losses of investee companies of $394,000 for the year ended September 30,
2001, compared to equity in net losses of investee companies of $581,000 for the
year ended September 30, 2000.
Gain (Loss) on Disposition of Equity Investments, Net. The Company recognized a
- ------------------------------------------------------
charge of $17,195,000 for the year ended September 30, 2001, consisting of a
$768,000 write down of a note receivable and related interest associated with
the sale of Big Sky Network Canada, Limited common shares to China Broadband
Corporation; and $16,427,000 of write-downs and realized losses related to
various short-term and long-term equity investments. The Company recognized a
gain on disposition of long-term equity investments of $10,157,000 for the year
ended September 30, 2000, primarily due to a $10,194,000 gain on an exchange of
50,000 common stock shares of Big Sky Network Canada, Limited for (i) $2,500,000
in cash, (ii) a promissory note in the amount of $1,700,000 bearing interest at
8% per annum due September 29, 2001, and (iii) 1,133,000 common stock shares
valued at $9,630,000 from China Broadband Corporation on September 29, 2000.
Miscellaneous Income (Expense), Net. The Company's miscellaneous income
- ---------------------------------------
increased $612,000 to $216,000 for the year ended September 30, 2001, compared
to consolidated miscellaneous expense of $396,000 for the year ended September
30, 2000. This increase is primarily due to contract termination costs for the
year ended September 30, 2000.
Income Taxes.
- --------------
The Company made no provision for income taxes for the year ended September 30,
2001 and 2000, as a result of the Company's continuing losses.
Loss Attributed to Discontinued Operations. The Company recognized a
- -----------------------------------------------
$34,455,000 loss attributed to discontinued operations for the year ended
September 30, 2001, compared to $224,746,000 for the year ended September 30,
2000. For the year ended September 30, 2001, the loss attributed to
discontinued operations consisted of a $29,557,000 net loss from the operations
of Intellicom, a $10,008,000 gain due to the revision of the loss on disposition
of ISP Channel, resulting from lower than anticipated costs of closing ISP
Channel, and a $14,906,000 loss on disposition of Aerzone, resulting primarily
from the reduction of the estimated sales proceeds of Laptop Lane. For the year
ended September 30, 2000, the loss attributed to discontinued operations
consisted of a $12,948,000 net loss from the operations of Intellicom, a
$97,200,000 loss on disposition of ISP Channel, a $60,249,000 net loss from the
operations of ISP Channel, a $42,200,000 loss on disposition of Aerzone , and a
$12,150,000 net loss from the operations of Aerzone .
Extraordinary Item - Gain on Settlements of Outstanding Obligations. The
- ---------------------------------------------------------------------------
Company recognized a gain of $1,326,000 for the year ended September 30, 2001,
resulting from the cash payment made in lieu of the Company's obligation to pay
off the 8.5% promissory note and related interest, and to settle the business
acquisition liability to former Intellicom stockholders with common stock.
Net Loss. The Company had a net loss of $57,647,000, or a net loss per share of
- ---------
$2.31, for the year ended September 30, 2001, compared to a net loss of
$232,353,000, or a net loss per share of $9.88, for the year ended September 30,
2000.
-18-
LIQUIDITY AND CAPITAL RESOURCES
Since September 1998, the Company has funded the significant negative cash flows
from its subsidiary operating activities and the associated capital expenditures
through a combination of public and private equity sales, convertible debt
issues and equipment leases. At September 30, 2002, the Company had $62,059,000
in cash, cash equivalents, and short-term investments compared with $75,454,000
at September 30, 2001.
Net cash used in operating activities of continuing operations for the year
ended September 30, 2002, was $7,425,000. This results from a net loss of
$8,830,000 from continuing operations, net increase in operating assets of
$848,000 and a net decrease in operating liabilities of $1,055,000, offset by
several non-cash items including loss on write down of impaired assets of
$352,000, loss on disposition of equity investments of $733,000, provision for
restructuring costs of $502,000, amortization of deferred stock compensation
expense of $1,466,000, and depreciation expense of $189,000. Net cash used in
operating activities of discontinued operations was $4,721,000.
Net cash provided by investing activities of continuing operations for the year
ended September 30, 2002, was $19,841,000, and was primarily provided by
proceeds from maturities and sales of short-term investments, net of purchases.
Net cash used in investing activities of discontinued operations was $2,000.
Net cash used in financing activities of continuing operations for the year
ended September 30, 2002, was $1,444,000, resulting from the payment of the 5%
Convertible Subordinated Debentures due September 30, 2002, to Mr. R.C.W.
Mauran. Net cash used in financing activities of discontinued operations was
$60,000.
The Company believes it has sufficient cash to meet its presently anticipated
business requirements over the next twelve months including the funding of
operating losses, discontinued operations, working capital requirements, and
capital investments. The Company expects significant reductions in cash usages
from its discontinued operating activities for the year ending September 30,
2003.
Acquisition and Discontinued Operations of Intellicom. On February 9, 1999, a
- ---------------------------------------------------------
wholly owned subsidiary of the Company merged with and into Intellicom (the
"Intellicom Acquisition"). The Intellicom Acquisition was accounted for under
the purchase method, and the results of Intellicom have been included in the
consolidated financial statements since the date of acquisition. The purchase
price of $14,869,000 was comprised of: (i) a cash component of $500,000 (the
"Cash Consideration"); (ii) a promissory note in the amount of $1,000,000
bearing interest at 7.5% per annum and due one year after closing (the "First
Promissory Note"); (iii) a promissory note in the amount of $2,000,000 bearing
interest at 8.5% per annum and due two years after closing (the "Second
Promissory Note", together with the First Promissory Note are defined as the
"Debt Consideration"); (iv) the issuance of 500,000 shares of the Company's
common stock (adjustable upwards after one year in certain circumstances),
valued at $14.938 per share, for a total value of $7,469,000 (the "Closing
Shares"); (v) additional shares of the Company's common stock issuable upon the
first, second and third anniversaries of the closing, valued at a total of
$3,500,000 (the "Anniversary Shares", together with the Closing Shares are
defined as the "Equity Consideration"); and (vi) certain direct acquisition
costs totaling $400,000. The Debt Consideration may be partially or wholly
converted into the Company's common stock, under certain circumstances. The
conversion price of the Debt Consideration was based upon the average closing
price of the Company's common stock for the 15 days immediately preceding the
conversion date.
In April 1999, the Company paid the First Promissory Note and related interest
in full with a combination $832,000 in cash and the remainder, after expenses,
with 6,118 common stock shares valued at $190,000. The Intellicom Acquisition
agreement required the Company to issue $1,500,000 of common stock shares on the
first anniversary date of the Intellicom Acquisition. Accordingly, on February
8, 2000, the Company issued 43,314 common stock shares valued at $1,499,000 and
paid $1,000 for fractional shares to the former Intellicom stockholders. On
February 7, 2001, the Company made an offer to the former Intellicom
stockholders to pay a discounted amount in lieu of the Company's obligation to
pay cash and stock for the remaining consideration, which was to be paid in
connection with the Intellicom acquisition and consisted of (i) a $2,000,000
8.5% promissory note and accrued interest, (ii) the requirement for the Company
to issue $1,500,000 of common stock shares on the second anniversary date of the
Intellicom acquisition, and (iii) the requirement for the Company to issue
$500,000 of common stock shares on the third anniversary date of the Intellicom
acquisition. The parties agreed to settle the obligation by which the Company
paid $2,815,000 (including accrued interest of $325,000), issued 99,922 common
stock shares valued at $199,000, and recognized a $1,326,000 extraordinary gain
on settlements of outstanding obligations. On February 9, 2002, the Company
issued 12,426 common stock shares to settle the remaining obligations related to
the requirement to issue common stock shares on the third anniversary date of
the Intellicom acquisition.
-19-
Additionally, the Intellicom Acquisition agreement included a demonstration
bonus ("Demonstration Bonus") of $1,000,000 payable in cash or shares of the
Company's common stock at the Company's option by the first anniversary date of
the Intellicom Acquisition if certain conditions were met. On February 8, 2000,
the opportunity to earn the Demonstration Bonus had expired, and accordingly,
the Demonstration Bonus was not paid or included in the purchase price of
Intellicom.
On March 29, 2002, the Company and its wholly-owned subsidiary, Intellicom,
entered into an agreement to sell its operating business and certain assets to
Loral Cyberstar, Inc. Following the sale of its operating business and certain
assets to Loral Cyberstar, Inc., the Company's Board of Directors unanimously
agreed to cease the operations of Intellicom on April 3, 2002. Subsequently on
April 22, 2002, Intellicom entered into an agreement to sell certain assets to
Native Intellicom, Inc., a wholly-owned subsidiary of the Pinoleville Band of
Pomo Indians, for cash, subject to the termination of Intellicom's lease for its
facility in Livermore, California. On August 1, 2002 Intellicom terminated the
agreement with the Pinoleville Band of Pomo Indians and is negotiating to a sell
those assets to another group of Native Americans. The operating results of
Intellicom have been segregated from continuing operations and are reported as a
loss from discontinued operations on the accompanying consolidated statements of
operations. Although it is difficult to predict the final results, the loss on
disposition from discontinued operations includes management's estimates of
costs to wind down the business, costs to settle its outstanding liabilities,
and the proceeds from the sale of assets. The actual results could differ
materially from these estimates. The assets and liabilities of such operations
are reflected in net liabilities associated with discontinued operations of the
accompanying consolidated balance sheets at September 30, 2002 and 2001. The
Company recorded an estimated loss on disposition of Intellicom of $3,120,000
for the year ended September 30, 2002. The estimated loss on disposition
reserve of Intellicom is reflected in net liabilities associated with
discontinued operations of the accompanying consolidated balance sheets at
September 30, 2002, and the corresponding charge is reflected in loss on
disposition of discontinued operations of the accompanying consolidated
statements of operations for the years ended September 30, 2002.
Formation of Aerzone, Acquisition of Laptop Lane, and Discontinued Operations of
- --------------------------------------------------------------------------------
Aerzone. On January 24, 2000, the Company founded Aerzone (formerly SoftNet
- --------
Zone, Inc.), a Delaware corporation, to provide high-speed Internet access to
global business travelers. As part of the Aerzone business, the Company
acquired Laptop Lane, a Washington corporation, on April 21, 2000. The
acquisition was accounted for under the purchase method, and the results of
Laptop Lane have been included in the consolidated financial statements since
the date of acquisition. Laptop Lane is a leading provider of business center
services in airports. The Company paid approximately $21,559,000 consisting of
(i) 972,266 common stock shares of the Company valued at $15,107,000, net of
adjustment for expenses paid by the Company on behalf of Laptop Lane, exchanged
for all outstanding common stock shares of Laptop Lane, (ii) direct acquisition
costs of approximately $2,300,000, which included a bonus payment to Laptop Lane
employees of $431,000 in lieu of Laptop Lane stock options, and (iii) 250,000
common stock shares of the Company valued at $3,652,000 issued to former Laptop
Lane stockholders in payment for achieving certain criteria. As part of the
acquisition, an additional 333,333 common stock shares of the Company were to be
distributed to former Laptop Lane stockholders if certain performance goals or
other criteria were met. As of September 30, 2000, Laptop Lane achieved three
of the four performance goals; as a result, 249,981 common stock shares of the
Company and cash amounting to $3,652,000 were distributed to the former Laptop
Lane stockholders. In October 2000, Laptop Lane achieved the fourth performance
goal requirement, resulting in the distribution of 81,050 common stock shares of
the Company valued at $332,000 to the former Laptop Lane stockholders.
Additionally, in connection with the acquisition, the Company provided
$6,000,000 in working capital to Laptop Lane, under a secured promissory note.
On December 19, 2000, the Company decided to discontinue the Aerzone business in
light of significant long-term capital needs and the difficulty of securing the
necessary financing because of the current state of the financial markets. The
operating results of Aerzone have been segregated from continuing operations and
are reported as loss from discontinued operations of the accompanying
consolidated statement of operations. The loss from discontinued operations
includes management's estimates of the remaining costs to wind down the business
and costs to settle its outstanding liabilities. The assets and liabilities of
such operations are reflected in net liabilities associated with discontinued
operations of the accompanying consolidated balance sheets at September 30, 2002
and 2001. For the year ended September 30, 2000, the Company recorded an
estimated loss on disposition reserve of Aerzone of $42,200,000. For the year
ended September 30, 2001, the Company increased the estimated loss on
-20-
disposition reserve of Aerzone by $14,906,000, primarily as a result of the
Company reducing the estimated proceeds from the sale of Laptop Lane and
increasing estimated discontinued operating costs. For the year ended September
30, 2002, the Company increased the estimated loss on disposition of Aerzone by
$750,000, as a result of a superior court decision related to a breach of
contract and other legal matters. The estimated loss on disposition reserve of
Aerzone is reflected in net liabilities associated with discontinued operations
of the accompanying consolidated balance sheets at September 30, 2002 and 2001,
and the corresponding charge is reflected in loss on disposition of discontinued
operations of the accompanying consolidated statements of operations for the
years ended September 30, 2002, 2001 and 2000.
Discontinued Operations of ISP Channel. On December 7, 2000, the Company's
- -------------------------------------------
Board of Directors approved a plan to discontinue providing cable-based Internet
services through its ISP Channel subsidiary by December 31, 2000, because of (1)
consolidation in the cable television industry made it difficult for ISP Channel
to achieve the economies of scale necessary to provide such services profitably,
and (2) the Company was no longer able to bear the costs of maintaining the ISP
Channel. The operating results of ISP Channel have been segregated from
continuing operations and are reported as loss from discontinued operations of
the accompanying consolidated statements of operations. The loss from
discontinued operations includes management's estimates of the remaining costs
to wind down the business, costs to settle its outstanding liabilities, and the
proceeds from the sale of assets. The assets and liabilities of such operations
are reflected in net liabilities associated with discontinued operations of the
accompanying consolidated balance sheets at September 30, 2002 and 2001. For
the year ended September 30, 2000, the Company recorded an estimated loss on
disposition reserve of ISP Channel of $97,200,000. For the year ended September
30, 2001, the Company decreased the estimated loss on disposition reserve of ISP
Channel by $10,008,000, primarily as a result of the Company experiencing better
than previously estimated contract settlements. For the year ended September
30, 2002, the Company reduced the estimated loss on disposition reserve of ISP
Channel by $900,000, primarily as a result of the Company experiencing better
than previously estimated contract settlements. The estimated loss on
disposition reserve of ISP Channel is reflected in net liabilities of
discontinued operations of the accompanying consolidated balance sheets at
September 30, 2002 and 2001, and the corresponding benefit and charge is
reflected in loss on disposition of discontinued operations of the accompanying
consolidated statements of operations for the years ended September 30, 2002,
2001 and 2000.
Discontinued Operations of Micrographic Technology Corporation ("MTC")
As a result of a preliminary arbitration decision related to a dispute with
Applications Informatiques Multimedia and a dispute related to the sale of MTC
to Global Information Distribution GmbH ("GID"), the Company recorded a
$1,127,000 estimated loss on disposition reserve of MTC for the year ended
September 30, 2002. MTC was previously owned by the Company, and was sold to
GID on September 30, 1999. The estimated loss on disposition reserve of MTC is
reflected in net liabilities associated with discontinued operations of the
accompanying consolidated balance sheet at September 30, 2002, and the
corresponding charge is reflected in loss on disposition of discontinued
operations of the accompanying consolidated statement of operations for the year
ended September 30, 2002.
-21-
FACTORS AFFECTING THE COMPANY'S OPERATING RESULTS
The risks and uncertainties described below are not the only ones that the
Company faces. Additional risks and uncertainties not presently known to the
Company or that the Company currently deems immaterial may also impair the
Company's business operations. If any of the following risks actually occur,
the Company's business, financial condition or results of operations could be
materially adversely affected. In such case, the trading price of the Company's
common stock could decline, and you may lose all or part of your investment.
COMPANY RISKS
IHC WILL EXERCISE SIGNIFICANT INFLUENCE OVER THE COMPANY'S BUSINESS AND AFFAIRS,
WHICH MAY RESULT IN POTENTIAL CONFLICTS OF INTEREST BETWEEN IHC AND THE COMPANY
The Company's operations are being directed by IHC management and employees,
which may result in potential conflicts of interest between IHC and the Company.
For example, a conflict may arise if IHC were to engage in activities or pursue
corporate opportunities that overlap with the Company's business. Because IHC's
management will also constitute the Company's management, these individuals will
have fiduciary duties to both companies, which could result in conflicts of
interest, including the Company foregoing opportunities or taking actions that
disproportionately benefit IHC. IHC will also have at least two representatives
on the Company's Board of Directors who will have similar conflicts of interest.
These conflicts could harm the Company's business.
THE OCCURRENCE OF VARIOUS EVENTS MAY ADVERSELY AFFECT THE COMPANY'S ABILITY TO
UTILIZE FULLY ITS TAX NET OPERATING LOSS CARRYFORWARDS
One of the potential benefits of the Company's acquisition of IAHC is the
Company's expectation that the Company's U.S. federal tax net operating loss
carryforwards of approximately $264 million may be used against any subsequent
profits from IAHC's business. However, events outside of the control of the
Company or IHC, such as certain acquisitions and dispositions of the Company's
common stock, may limit the use of all or a portion of the Company's tax net
operating loss carryforwards. If such events were to occur, the Company's
expectation of using its tax net operating loss carryforwards against potential
IAHC profits would not be realized and the Company could potentially have a
higher tax liability in the future than it would otherwise have had.
AS A RESULT OF THE COMPANY'S ACQUISITION OF IAHC, THE COMPANY WILL OPERATE IN
THE INSURANCE AND REINSURANCE INDUSTRY, AN INDUSTRY IN WHICH THE COMPANY HAS NOT
PREVIOUSLY OPERATED
The Company has not previously operated in the insurance and reinsurance
industry. As such, the Company is faced with risks that are new to the Company
and which may adversely affect the Company. The Company is relying upon the
management and expertise of officers of IHC who will serve as officers of the
Company post-closing. The Company cannot assure you of the effect this will
have on the Company's future operating results or stock price. These risks
include the following:
IAHC's Results May Fluctuate as a Result of Factors Generally Affecting the
Insurance and Reinsurance Industry
The results of companies in the insurance and reinsurance industry
historically have been subject to significant fluctuations and
uncertainties. Factors that affect the industry in general could also cause
IAHC's results to fluctuate. The industry's and IAHC's financial condition
and results of operations may be affected significantly by:
- Fluctuations in interest rates, inflationary pressures and other
changes in the investment environment, which affect returns on
invested capital and may impact the ultimate payout of loss
amounts;
- Rising levels of actual costs that are not known by companies at
the time they price their products;
- Events like the September l1, 2001 attacks, which affected the
insurance and reinsurance markets generally;
- Changes in reserves resulting from different types of claims that
may arise and the development of judicial interpretations
relating to the scope of insurers' liability; and
- The overall level of economic activity and the competitive
environment in the industry.
-22-
Decrease in Rates for Accident and Health Reinsurance and Insurance Could
Reduce IAHC's Net Income
IAHC primarily writes accident and health insurance and reinsurance. Rates
for accident and health insurance and reinsurance are influenced primarily
by factors that are outside of IAHC's control and historically have been
highly cyclical. Any significant decrease in the rates for accident and
health insurance or reinsurance could reduce IAHC's net income.
If the Rating Agencies Downgrade IAHC's Insurance Company, IAHC's Results
of Operations and Competitive Position in the Industry May Suffer
Ratings have become an increasingly important factor in establishing the
competitive position of insurance companies. IAHC's insurance subsidiary
Independence American Insurance Company ("Independence American") is rated
B+ (Very Good) by A.M. Best Company, Inc., whose ratings reflect its
opinions of an insurance company's financial strength, operating
performance, strategic position, and ability to meet its obligations to
policyholders, and are not evaluations directed to investors. The rating of
Independence American is subject to periodic review by A.M. Best Company,
Inc., and IAHC cannot assure you of the continued retention of this rating.
If A.M. Best Company, Inc. reduces Independence American's ratings from its
current levels, IAHC's business would be adversely affected.
IAHC's Loss Reserves are Based on an Estimate of Its Future Liability, and
if Actual Claims Prove to be Greater Than IAHC's Reserves, Its Results of
Operations and Financial Condition May Be Adversely Affected
IAHC maintains loss reserves to cover IAHC's estimated liability for unpaid
losses and loss adjustment expenses, including legal and other fees as well
as a portion of IAHC's general expenses, for reported and unreported claims
incurred as of the end of each accounting period. Because setting reserves
is inherently uncertain, IAHC cannot assure you that current reserves will
prove adequate in light of subsequent events. If IAHC's reserves are
insufficient to cover its actual losses and loss adjustment expenses, IAHC
would have to augment its reserves and incur a charge to its earnings, and
these charges could be material. Reserves do not represent an exact
calculation of liability. Rather, reserves represent an estimate of what
IAHC expects the ultimate settlement and administration of claims will
cost. These estimates, which generally involve actuarial projections, are
based on IAHC's assessment of facts and circumstances then known, as well
as estimates of future trends in claims severity, frequency, judicial
theories of liability and other factors. These variables are affected by
both internal and external events, such as changes in claims handling
procedures, inflation, judicial trends and legislative changes. Many of
these items are not directly quantifiable in advance. Additionally, there
may be a significant reporting lag between the occurrence of the insured
event and the time it is reported to IAHC. The inherent uncertainties of
estimating reserves are greater for certain types of liabilities,
particularly those in which the various considerations affecting the type
of claim are subject to change and in which long periods of time may elapse
before a definitive determination of liability is made. Reserve estimates
are continually refined in a regular and ongoing process as experience
develops and further claims are reported and settled. Adjustments to
reserves are reflected in the results of the periods in which such
estimates are changed.
IAHC's Inability to Assess Underwriting Risk Accurately Could Reduce Its
Net Income
IAHC's success is dependent on its ability to assess accurately the risks
associated with the businesses on which the risk is retained. If IAHC fails
to assess accurately the risks it retains, IAHC may fail to establish the
appropriate premium rates and IAHC's reserves may be inadequate to cover
its losses, requiring augmentation of IAHC's reserves, which in turn could
reduce IAHC's net income.
If IAHC is Unsuccessful in Competing Against Larger or More
Well-Established Competitors, IAHC's Results of Operations and Financial
Condition Will Be Adversely Affected
IAHC's industry is highly competitive and has experienced severe price
competition from time to time over the last several years. IAHC faces
competition from domestic and international insurance and reinsurance
companies, underwriting agencies, and from diversified financial services
companies that are significantly larger than IAHC. Some of these
competitors have greater financial, marketing and other resources than
IAHC, have been operating longer than IAHC and have established long-term
and continuing business relationships throughout the industry, which can be
a significant competitive advantage. In addition to competition in the
operation of IAHC's business, IAHC faces competition from a variety of
sources in attracting and retaining qualified employees. IAHC cannot assure
you that it will maintain its current competitive position in the markets
in which it operates, or that it will be able to expand its operations into
new markets and compete effectively in the future. If IAHC fails to do so,
its business could be materially adversely affected.
-23-
If IAHC Fails to Comply With Extensive State and Federal Regulations, IAHC
Will Be Subject to Penalties, Which May Include Fines and Suspension and
Which May Adversely Affect IAHC's Results of Operations and Financial
Condition.
IAHC is subject to extensive governmental regulation and supervision. Most
insurance regulations are designed to protect the interests of
policyholders rather than stockholders and other investors. This
regulation, generally administered by a department of insurance in each
state in which IAHC does business, relates to, among other things:
- Approval of policy forms and premium rates;
- Standards of solvency, including risk-based capital measurements,
which are a measure developed by the National Association of
Insurance Commissioners and used by state insurance regulators to
identify insurance companies that potentially are inadequately
capitalized;
- Licensing of insurers and their agents;
- Restrictions on the nature, quality and concentration of
investments;
- Restrictions on the ability of Independence American's insurance
company to pay dividends to IAHC;
- Restrictions on transactions between insurance companies and
their affiliates;
- Restrictions on the size of risks insurable under a single
policy;
- Requiring deposits for the benefit of policyholders;
- Requiring certain methods of accounting;
- Periodic examinations of Independence American's operations and
finances;
- Prescribing the form and content of records of financial
condition required to be filed; and
- Requiring reserves for unearned premium, losses and other
purposes.
State insurance departments also conduct periodic examinations of the
affairs of insurance companies and require the filing of annual and other
reports relating to the financial condition of insurance companies, holding
company issues and other matt