SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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 December 31, 2001
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ________ to ___________
Commission file number: 0-21479
I-SECTOR CORPORATION
(Exact name of Registrant as specified in its charter)
Delaware 76-0515249
(State of Incorporation) (I.R.S. Employer Identification No.)
6401 Southwest Freeway
Houston, TX 77074
(Address of principal executive offices) (Zip code)
Registrant's telephone number including area code: (713) 795-2000
Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to section 12(g) of the Act:
COMMON STOCK, $.01 Par Value
(Title of Class)
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 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, based upon the closing price of the Common Stock on March 18,
2002, as reported on NASDAQ Small Cap Market, was approximately $1,235,007.
The number of shares of Common Stock, $.01 Par Value, outstanding as of
March 18, 2002 was 3,849,525.
DOCUMENTS INCORPORATED BY REFERENCE
PART I
Item 1. Business
SPECIAL NOTICE REGARDING FORWARD-LOOKING STATEMENTS
THIS ANNUAL REPORT ON FORM 10-K CONTAINS FORWARD-LOOKING STATEMENTS WITHIN THE
"SAFE HARBOR" PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF
1995. ALL STATEMENTS INCLUDED IN THIS ANNUAL REPORT, OTHER THAN STATEMENTS THAT
ARE PURELY HISTORICAL ARE FORWARD-LOOKING STATEMENTS. FORWARD-LOOKING STATEMENTS
MAY BE IDENTIFIED BY WORDS INCLUDING, BUT NOT LIMITED TO, "ANTICIPATE,"
"APPEAR," "BELIEVE," "COULD," "ESTIMATE," "EXPECT" "HOPE," "INDICATE," "INTEND,"
"LIKELY," "MAY," "MIGHT," "PLAN," "POTENTIAL," "SEEK," "SHOULD," "WILL,"
"WOULD," AND OTHER VARIATIONS OR NEGATIVE EXPRESSIONS THEREOF. THESE FORWARD-
LOOKING STATEMENTS ARE SUBJECT TO KNOWN AND UNKNOWN RISKS AND UNCERTAINTIES.
NUMEROUS FACTORS, INCLUDING FACTORS THAT THE COMPANY HAS LITTLE OR NO CONTROL
OVER, MAY AFFECT MAY CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THOSE
EXPRESSED IN THE FORWARD-LOOKING STATEMENTS CONTAINED HEREIN. IN EVALUATING SUCH
STATEMENTS, READERS SHOULD CONSIDER THE VARIOUS FACTORS IDENTIFIED IN THIS
ANNUAL REPORT ON FORM 10-K, INCLUDING MATTERS SET FORTH IN ITEM 1. "RISKS
RELATED TO OUR BUSINESS STRATEGY," WHICH COULD CAUSE ACTUAL EVENTS, PERFORMANCE
OR RESULTS TO DIFFER MATERIALLY FROM THOSE INDICATED BY SUCH STATEMENTS.
GENERAL
I-Sector Corporation is a holding company and conducts substantially
all of its operations through its subsidiaries. Our subsidiaries are engaged in
various aspects of information and communications technology business. In 2001,
our revenue from continuing operations was derived through three primary
subsidiary companies:
o Allstar Solutions, Inc provides information technology solutions
including: technical staff augmentation for IT helpdesk operations;
turnkey outsourcing of the IT helpdesk function; helpdesk solutions
consulting services; information technology systems consulting and
project management services, on site and carry-in computer repair;
application support; operating system and network design and
implementation; and turnkey systems support.
o Internetwork Experts, Inc is a network professional services and
integration organization with areas of practice that include: network
design and implementation; turnkey support; security audits and
firewall design; and network infrastructure management and consulting
services.
o Stratasoft, Inc. develops and is engaged in marketing software products
for computer-telephony integration, including products for professional
call center and other high volume calling applications.
INDUSTRY CHANGES
The market for information and communications technology products and
services has experienced tremendous growth over the past decade and the industry
has changed significantly as the market has evolved. Reselling of popular
computing hardware and software products, and the support and maintenance of
such products, which was one of the high growth segments in this industry
sector, has matured. Other information technology industry sectors are still in
a somewhat early stage while yet other sectors are in their infancy. As the
information technology market has evolved, both challenges and opportunities
have been created for industry participants.
Our former Computer Products business had been struggling with numerous
challenges related to the evolution of the computer reselling industry. Major
product manufacturers changed their business models by selling products directly
to the consumer through the Internet which resulted in lower gross margins
throughout the computer product reselling industry. The proliferation of new
products created an increasingly complex operating environment. These changes
are, in part, modifying the purchasing habits of corporations related to both
information technology products and services.
At the same time, we believe the market for information technology
services has grown increasingly larger, and increasingly more complex and
varied. Only a few short years ago, it was normal for a mid-sized corporation to
utilize a single-source provider for all of its information technology services,
but that has changed. The increasing number of software and hardware providers,
combined with the increasing diversity of, and complexity of, computing and
communication technology used by organizations today demands that superior
information technology service providers specialize. Focus and specialization
create improved quality, productivity and operational effectiveness. Today
organizations realize this and increasingly look to specialized providers for
their needs.
Recently, during 2000 and continuing through 2001, the overall
information technology industry experienced a marked slowdown. This slowdown has
been in conjunction with and is most likely related to, the overall slowdown in
the U.S. economy that began at approximately the same time and was made more
severe following the events of September 11, 2001. The communications equipment
sector has experienced a greater than average slowdown due to capital budget
constraints in the telecom service provider sector.
RECENT SALES OF CERTAIN BUSINESS SEGMENTS
All monetary amounts discussed in Items 1 through 7 are in thousands.
Disposition of IT Staffing Business
On November 6, 2001 we determined to exit the IT Staffing business,
which had been unprofitable and because we believed that the technical staffing
industry was most likely to remain weak for the foreseeable future. Effective
December 31, 2001, the business was sold to Echelon Staffing, Inc., a
corporation owned by our former employee. Under the terms of the sale I-Sector
received a note receivable for $52, of which $50 was for the ongoing operations
and $2 for certain fixed assets relating to this business. The note receivable
bears interest at 5% per annum and is collectible in installments based on the
total monthly revenue of the buyer over 24 months beginning in March 2002. A
disposal loss of $11 (net of tax of $5), including an estimated loss for the
operating results from the measurement date, November 6, 2001 to the closing
date of the sale of $37, and estimates for impairment of assets caused by the
disposal decision of $34 was recognized in 2001. Net loss from discontinued
operations was $43, $107 and $167 (net of taxes of $22, $55 and $87) in 1999,
2000 and 2001, respectively. I-Sector retained accounts receivable of
approximately $82, net of reserves and liabilities related to the IT Staffing
business at December 31, 2001. Revenue for the IT Staffing business for the
years ended December 31, 1999, 2000 and 2001 was $1,191, $1,242 and $967,
respectively.
Disposition of Computer Products Business
On March 16, 2000 we entered into an agreement to sell certain assets
of and the ongoing operations of our Computer Products Division, along with
certain assets and operations of our IT Services Division related to our El Paso
branch office. That sale closed on May 19, 2000 after shareholder and other
required approvals were obtained. Under this agreement, assets and operations
were sold to Amherst Computer Products Southwest, L.P., an affiliate of Amherst
Technologies, L.L.C. The terms of the agreement included cash consideration of
$14,779, plus the possibility of receiving a future payment of up to $500 from
an escrow account. I-Sector realized a gain of approximately $3,700, net of
taxes, on the sale. The proceeds of the sale were used to reduce debt. The
discontinued operations of the Computer Products Division produced income of
$1,343 and $302 in 1999 and 2000, respectively (net of taxes of $688 and $156 in
1999 and 2000, respectively). We retained accounts receivable of $20,266, net of
reserves, fixed assets of $255 and liabilities related to the Computer Products
Division. At December 31, 2001, accounts receivable related to the Computer
Products Division had either been collected or written off. Fixed assets were
redeployed in continuing operations. In connection with the sale of the Computer
Products Division, I-Sector also sold a portion of the IT Services business
located in El Paso, Texas. The El Paso branch office portion of the IT Services
business accounted for revenues of $2,012, $955 and $(1) for the years ended
December 31, 1999, 2000, and 2001, respectively. For financial accounting
presentation the El Paso services business was included in the corporate segment
of continuing operations for the years ended December 31, 1999, 2000 and 2001.
Sale of Telecom Systems Business
On November 2, 1999 we determined to exit the Telecom business and on
March 16, 2000, we sold the Telecom Systems segment to Communications World
International, Inc. ("CommWorld"), a publicly traded company (OTC Bulletin
Board: CWII). Under the terms of the sale, for the inventory and operations of
Telecom Systems, we received $250 cash. A disposal loss, including an estimate
of the operating results from the measurement date, November 2, 1999, to the
closing date of the sale of $580, and estimates for impairment of assets caused
by the disposal decision of $558, totaling $1,138 (net of an income tax saving
of $586) was recognized. The loss from discontinued operations (net of income
tax savings of $505, was $981 in 1999. We retained accounts receivable of $1.4
million, net of reserves, fixed assets of $30 and liabilities related to Telecom
Systems. At December 31, 2001, the Company had no net accounts receivable
related to the Telecom Systems segment. Fixed assets were redeployed in the
continuing operations.
BUSINESS STRATEGY
Mindful of the manner in which the information technology industry was
evolving, we evaluated our situation in 1999 and decided that change was
prudent. We decided that we should exit our Telecom Systems business both
because we had been unable to attain profitability since we began Telecom
Systems in 1994 and because the business of selling and installing traditional
business telephone systems was a mature industry that we believed offered less
opportunity for growth than other areas. We decided to sell our Computer
Products Division because, in spite of the fact that Computer Products had been
a profitable business for us until that time, we believed that this segment was
declining and that we could deploy the proceeds from a sale of Computer Products
in other ways that we believed would ultimately create greater stockholder
value. We consummated the sale of each of those businesses in the first half of
2000 and during the second half of the 2000 we restructured and reorganized the
remaining company for the future.
After the sale of these two businesses, which had accounted for
approximately 90% of our historical revenues, we planned to utilize our capital
resources to build a portfolio of focused subsidiary companies, each of which
would be involved in some facet of information and/or communications technology.
We believe that we can produce higher rates of growth, and better financial
performance, by providing our products and services through focused, specialized
companies, each branded to pursue a specialized mission and each led by a
separate, focused, management team with personal financial incentives tied to
their company's financial performance. We plan to continue to expand each of our
three current subsidiary companies through internally generated sales and
possibly through the acquisition of compatible and synergistic companies. We
will also continue to evaluate the possibility of entering new lines of business
either by starting new subsidiary companies or by acquiring other companies. We
intend to focus our growth efforts in niche industry areas that we believe hold
the greatest opportunity for growth and profitability. Each of our three current
subsidiary companies is executing its own unique business strategy.
Allstar Solutions, Inc.
Allstar Solutions, Inc. ("Allstar"), which started as the services side
of our former computer reselling organization, has been transforming itself into
a provider of specialized information technology solutions and intends to grow
its revenue by aggressively adding additional specialized solutions offerings as
well as by rapidly expanding its sales force. By offering highly specialized
competence in the niche solutions areas that it operates in, Allstar intends to
be able to gain market share against its competitors by offering better
solutions and better support for such solutions than its competitors. Allstar is
headquartered in Houston and has a branch office in Dallas. In markets where it
does not maintain branch offices, Allstar often subcontracts for necessary
technical personnel, particularly where required for larger scope or prolonged
duration contracts. Allstar typically targets customers that are medium to
larger corporate clients as well as state and local government organizations.
Internetwork Experts, Inc.
Internetwork Experts, Inc. ("INX") intends to rapidly become the
leading regional network professional services organization by offering highly
specialized technical services of the highest quality and competence, thereby
rapidly commanding a significant presence in the network services and equipment
markets. By aggressively positioning itself as the most technically competent
provider of network professional services, INX intends to rapidly be included in
a large percentage of the large network consulting and network implementation
projects in the markets that it serves. By concentrating its efforts on Cisco
technology, INX intends to build loyalty with the leading network equipment
manufacturer and more easily achieve superior technical competence as compared
to the competition. By rapidly increasing its sales staff, INX intends to pursue
a rapid growth path for the foreseeable future. INX is headquartered in Dallas
and has a branch office in Houston. INX typically targets customers that are
large corporate clients and communications firms that utilize large complex
network infrastructures.
Stratasoft Inc.
Stratasoft, Inc. ("Stratasoft") intends to continue to further develop
its existing suite of software products for professional call centers and high
volume calling applications and to further strengthen the market share gains
that it has made over the past several years. By upgrading the software products
to take advantage of newer technology, such as voice-over-IP, Stratasoft is
continuing to increase the features and functionality that it can offer its
clients. Stratasoft markets its products through its own sales account managers
as well as a network of resellers. Stratasoft plans to increase the number of
both sales accounts managers and resellers going forward, thereby driving
expected future revenue growth. In addition, a concentrated effort to sell its
products in markets other than the U.S. is expected to continue to add
incremental new growth opportunities. Stratasoft is headquartered in Houston,
but markets its products nationally and internationally. Stratasoft's customers
are typically call center companies or companies or organizations that operate a
call center, and includes political and non-profit organizations.
PRODUCTS AND SERVICES
We currently provide all of our products and services, and produce all
of our revenue, through our three wholly-owned subsidiary companies, further
details of which are provided below.
Allstar Solutions, Inc.
Allstar offers a variety of service offerings related to the service
and support of computing technology. The services that Allstar offers include:
o Technical staff augmentation for IT helpdesk operations
o Helpdesk solutions consulting
o Turn-key outsourcing of the IT helpdesk function
o Network support and network management
o IT project management
o On site and carry-in computer hardware repair
o Application support
o Operating system and network migration services
o Network design and implementation
o Turnkey systems support
Allstar typically prices its services on a time and materials basis,
under fixed price project pricing or under fixed fee service contracts,
depending on customer preference and the level of service commitment required.
To support and maintain the quality of these services and to maintain the vendor
accreditation necessary to service their significant product lines, Allstar's
technical staff participates in various certification and authorization programs
sponsored by hardware manufacturers and software suppliers.
Internetwork Experts, Inc.
INX is a provider of network infrastructure professional services and
an integrator of network infrastructure products manufactured by Cisco Systems,
Inc. ("Cisco"). INX has developed the following areas of network expertise:
o Network baseline assessment
o Design/architecture
o Implementation
o Network management
o Project management
o Network security
o Knowledge transfer
Specific technologies in which INX offers expertise include:
o Routing
o Switching (LAN/MAN/WAN)
o Virtual Private Networks (VPN)
o Voice over X (VoX)
o Wireless
o Security
o IP Telephony
o Wireless networks
INX's consultants have held critical leadership roles in all major
phases of the project life cycle including analysis, design, implementation,
support, management, and documentation. Their certified experts have also
presented many educational seminars for professional organizations within the
networking industry and are often engaged to provide knowledge transfer for
clients as well as vendors.
Stratasoft, Inc.
Stratasoft develops and markets its proprietary CTI Software, which
integrates business telephone systems and networked computer systems, under the
trade name "Stratasoft." Stratasoft's products are designed to improve the
efficiency of a professional call center or other type of high volume calling
application, for both inbound and outbound calls. Stratasoft's software products
are often customized to suit a customer's particular needs and are sometimes, at
the customer's request, bundled with computer hardware supplied by either
Stratasoft or one of their value added resellers. Stratasoft currently has two
primary computer-telephony software products, which are marketed under the trade
names StrataDial and StrataVoice:
o StrataDial is an inbound/ outbound call center call management system.
The system is used predictive dialing outbound call center applications
such as sales and promotion, collections, surveys, lead generation and
announcements that require personal contact. StrataDial features
inbound/outbound call blending without requiring an automated call
distribution feature of the telephone system. StrataDial collects
campaign specific data during the telephone call and provides
comprehensive on line reporting and statistical analysis of the
campaign data. StrataDial also features open architecture that allows
easy interaction with the customer's other database applications.
StrataDial has enhanced messaging architecture with direct IP
communications, allowing for greater ease in integrating with
off-the-shelf products like collection applications, customer
relationship management applications and market research applications.
A terminal emulator is also core to the StrataDial Agent interface,
thus allowing easier integration to legacy and mainframe systems.
StrataDial(R) Predictive Dialer expands upon its already award winning
platform by leveraging Intel Dialogic's Global Call(R). This has
permitted Stratasoft to support any dialing platform from around the
world, including T-1, E-1, ISDN. This means that StrataDial(R) can make
or receive calls from virtually anywhere in the world. The latest
release of Stratadial will allow us to continue growing our business in
Asia, India and Europe
o StrataVoice is an outbound dialing product designed for high volume
calling applications that do not require human interaction. StrataVoice
applications include appointment confirmation and setting, court
appearance notification, surveys, community notification such as school
closings and emergency evacuation, employee updates, absenteeism
notification, telemarketing and market research. A telephone system
utilizing StrataVoice dials a computerized list of numbers and can ask
the contacted person a number of questions, including branching to
other questions and statements based on responses. StrataVoice also
allows the contacted person to leave messages. Scripting tools are
included that allow the user to develop campaigns. The system builds a
database of respondent data and has comprehensive response reporting
capabilities.
FINANCIAL INFORMATION BY BUSINESS SEGMENT
See Item 7. "Management's Discussion and Analysis of Financial
Condition and Results of Operations" for financial information on revenue and
operating income of each business segment.
SALES AND MARKETING
All of our subsidiary companies utilize sales personnel, including
account managers and customer service representatives, to sell their products
and/or services. These sales personnel are partially compensated, and in some
cases are solely compensated, on either the revenue or the profitability of
sales that they participate in developing. In addition, Stratasoft markets its
products through a network of value added resellers, who typically integrate
their products and services with Stratasoft's software products to provide a
complete solution. The subsidiary companies promote their products and services
through general and trade advertising, participation in trade shows and
telemarketing campaigns. We believe that a significant portion of new customer
relationships have originated through word-of-mouth referrals from existing
customers.
CUSTOMERS
The focus of the various subsidiary companies' marketing efforts
varies, as does the makeup of each company's customer base. Allstar's customer
base consists primarily of small to larger commercial clients as well as state
and local governmental organizations, primarily in Houston and Dallas. INX's
customers are typically larger corporate organizations or communications
companies that utilize large network infrastructures, a majority of which are
located in, or make significant network infrastructure decisions in, Dallas or
Houston, but for which work is performed nationally. Stratasoft's customers are
typically call center companies or companies or organizations that operate a
call center, and includes political and non-profit organizations. A majority of
Stratasoft's customers have historically been located in the United States, but
Stratasoft has increasingly sold and installed its call center systems in
several other countries. In 2001, approximately 42.9% of Stratasoft's revenues,
and 13.2% of consolidated revenues, were with customers outside the U.S,
including customers in India, the United Kingdom, Canada and the Philippines. In
2000 approximately 3.9% of Stratasoft revenues and 1.7% of consolidated revenues
were with customers outside the United States. We had no single customer that
represented 10% or greater of our total continuing revenues in the years ended
December 31, 2001, 2000 or 1999, however we had a group of end user customers
related to a single reseller that represented 10.0% of our total continuing
revenues in 2001.
SUPPLY AND DISTRIBUTION
As a majority of our revenue is derived from providing services, or
from the sale of our own software products, our reliance on supply and
distribution channels is limited. We do, however, purchase limited amounts of
computing and communications equipment that is sold in conjunction with
Stratasoft's software products and by INX as part of turn-key network
infrastructure solutions. We have historically relied on wholesale distributors
to supply a majority of the products that we have sold. We have typically
purchased the majority of our products from three primary suppliers in order to
obtain competitive pricing, better product availability and improved quality
control. INX recently began purchasing Cisco products directly from Cisco. In
addition, Allstar and INX purchase or exchange service parts, such transactions
typically being with the product manufacturer or its authorized parts
distributor.
MANAGEMENT INFORMATION SYSTEMS
We utilize an internally developed, highly customized management
information system ("MIS") to manage most aspects of our business. All of our
subsidiary companies utilize our MIS, which is customized to their specific
needs. We use our MIS to manage accounts payable, accounts receivable and
collections, general ledger, sales order processing, purchasing, service
contracts, service calls and work orders, engineer and technician scheduling and
time tracking, service parts acquisition and manufacturer warranties, and
project management. Reporting can be generated for project profitability,
contract and customer analysis, parts and inventory tracking and employee time
tracking. The system provides for separate company accounting and also for
consolidation of all subsidiary company financial information.
EMPLOYEES
As of December 31, 2001 we employed approximately 168 individuals. Of
these, approximately 36 were employed in sales, marketing and customer service,
81 were employed in engineering and technical positions and 51 were employed in
administration, finance and MIS. We believe that our ability to recruit and
retain highly skilled and experienced technical, sales and management personnel
has been, and will continue to be, critical to our ability to execute our
business plans. None of our employees are represented by a labor union nor are
any subject to a collective bargaining agreement. We believe that our relations
with our employees are good.
RECENT ORGANIZATIONAL CHANGES
We sold our Telecom Systems business on March 16, 2000 and we sold our
Computer Products Division on May 19, 2000. In July 2000, we separated our
former IT Services business into three separate businesses, each of which is a
wholly-owned subsidiary corporation. One of these subsidiary companies was IT
Staffing, Inc., which had already been operated as a wholly-owned subsidiary
since 1997. We contributed the non-IT Staffing remaining components of the
former IT Services business to two newly formed corporations, Allstar Computer
Services Inc. and Synergy Helpdesk Solutions, Inc. Effective June 30, 2001, we
merged Synergy Helpdesk Solutions, Inc. into Allstar Computer Services, Inc. and
subsequently renamed the resulting company Allstar Solutions, Inc. In July 2000,
we also formed another wholly-owned subsidiary, Internetwork Sciences
Corporation. In October 2000 Internetwork Sciences Corporation acquired certain
assets and the ongoing operations of an unrelated company, Internetwork Experts,
Inc., and adopted the name of the acquired firm by changing its legal name to
the latter.
RISKS RELATED TO OUR BUSINESS STRATEGY
Our business strategy is to redeploy the proceeds from the sale of our
Computer Products and Telecom Systems businesses to improve the performance of
our existing businesses, make selective acquisitions and pursue selected
business opportunities. This strategy involves many risks including, but not
limited to, the following:
Risks of Potential Future Acquisitions and Investments
Our business may depend in the future on the successful acquisition and
the integration and performance of businesses that we acquire. Our strategy
involves the substantial risk that we will not find suitable businesses to
acquire on terms we believe are commercially reasonable and that the new
businesses we choose to enter will not provide the benefits we expect. Our
future business prospects should therefore be considered in light of the risks,
expenses, problems and delays inherent in acquiring a new business. We cannot be
certain that we will identify and assess these risks. Some of the acquisition
and operating risks that could adversely affect us include the following:
o We may be unsuccessful in identifying new business opportunities,
completing and financing acquisitions and start-ups on favorable terms
and in subsequently operating the businesses profitably.
o Competition for the acquisition of companies in the information and
communication sector will likely be intense. Our competitors for
suitable new businesses may have greater financial, personnel and
technical resources than us, which may put us at a disadvantage in
finding and concluding acquisitions. These competitive limitations may
compel us to select less attractive acquisitions than if we had greater
resources at our disposal.
o Businesses in the information and communication sector are the general
focus of our new business expansion strategy. Businesses in this sector
often have an undeveloped or unproven product, technology or marketing
strategy, which may prove unsuccessful.
o We may choose to acquire or invest in a business that is financially
unstable or that is in the early stages of development, including one
without earnings or positive cash flow, which may require substantial
additional capital infusions to support.
o Because we plan to seek new businesses with growth potential, there is
a substantial likelihood that the new business will be in competition
with much larger, more established and better capitalized competitors,
thus putting it at a competitive disadvantage.
o Our success in a new business will also depend on our ability to
integrate a new business and its personnel with our existing business
and personnel with a minimum of disruption to both existing and new
enterprises, including management information systems. We also may be
unable to attract and retain new, qualified personnel to operate and
grow our new businesses.
o If we choose to make a strategic investment by acquiring a minority
interest in a business, we may lack sufficient control to influence the
operations and strategy of the business and thus will depend on that
entity's management for our success. Additionally, if we choose to make
an investment in a publicly traded company such investment would also
be subject to market risks.
Concentration of international revenues
During 2001 we have recognized revenues on the percentage-of-completion
basis for several projects associated with one reseller in South Asia.
International revenues represent 13.2% of consolidated revenues in 2001. We have
risk to the extent that this group of customers have not paid us or issued
contractual letters of credit up to the level of cost and earnings recognized.
Project completion
Our subsidiary, Stratasoft, recognizes its project revenues on the
basis of percentage-of-completion for projects that have a duration in excess of
three months. The percent complete is calculated based on a ratio of total costs
incurred to estimated total costs for each project. Revisions of estimates are
reflected in the period in which the facts necessitating the revisions become
known. Should one of these projects fail to complete, we have risk that we would
have to reverse some recognized revenues and earnings.
Uncertain Revenue Sources
In order to reach profitability from our existing businesses we will
have to grow the revenues. The relatively high level of operating expenses
remaining after the divestiture of Computer Products has contributed to
operating losses, which were expected to continue until new revenues could be
generated to offset some of the loss of revenues from the businesses that have
been sold. During 2001 we experienced significant revenue growth that resulted
in reductions of our losses each quarter but we were unable to reach
profitability by the quarter ended December 31, 2001.
Possible Need For Additional Financing
We may be required to obtain cash to supplement our available capital
to acquire a new business and for working capital to run existing businesses and
any businesses we acquire. We have no commitments to provide any such additional
capital and we may be unable to raise capital on terms we consider acceptable.
If we use debt financing for our existing businesses or to acquire new
businesses, we will be subject to the risks inherent in debt financing. Some of
these include:
o interest rate fluctuations;
o inability to obtain additional debt financing;
o insufficiency of cash flow to pay interest and principal; and
o restrictive debt covenants imposed by lenders that may limit or
prohibit business activities we consider desirable.
We may seek to raise equity capital to meet our future cash needs. We
may also issue additional shares of our common stock or other equity securities
to acquire new businesses. If we do issue additional equity securities, some of
the possible adverse effects include:
o the percentage of our common stock owned by existing stockholders could
be substantially reduced;
o possible increases in the number of shares of our common stock that are
considered restricted stock for federal and state securities laws
purposes, the actual or potential future sale of which could adversely
affect the price of our common stock; and
o we may be required to issue preferred stock which could have rights,
privileges and preferences superior to those of our existing
stockholders.
Increased Dependence on Service Businesses and Stratasoft
Our existing three subsidiary companies, two of which are primarily
providers of information technology services and one of which develops and
markets software, are currently our only revenue producing business segments.
Because of that, our ability to be successful in these areas of business takes
on a much greater significance to us than in the past. We plan to concentrate
our efforts on growing these businesses. The risk exists that we may be unable
to accomplish this improvement, and the operations of these businesses alone may
not enable us to operate profitably.
Adverse Changes in Our Industry
As described above under the caption "Industry Changes" our industry is
undergoing rapid changes that may adversely affect us. If we do not successfully
adapt our business strategy to these new conditions, there is a growing risk
that we may be unable to compete and be profitable in the future.
Highly Competitive Business
We have been engaged in business activities that are highly competitive
and rapidly changing. Price competition could have a material adverse effect on
our financial condition and results of operations. Our competitors include major
information technology service organizations, resellers and distributors,
including certain manufacturers and distributors that supply products to us.
Other competitors include systems integrators, computer-telephony value-added
resellers and other computer-telephony software suppliers.
U. S. Regional Concentration
For the foreseeable future, we expect that we will continue to derive
most of our revenue from customers located within the geographic regions into
which we market. Accordingly, an economic downturn in any of those metropolitan
areas within the region in general, would likely have a material adverse effect
on our financial condition and results of operations.
Dependence on Key Personnel
Our success for the foreseeable future will depend largely on the
continued services of key members of management, leading salespersons and
technical personnel. We do not maintain key personnel life insurance on any of
our executive officers or salespersons other than our Chairman and Chief
Executive Officer. Our success also depends in part on our ability to attract,
hire, train and retain qualified managerial, technical and sales and marketing
personnel at a reasonable cost, particularly those involved in providing systems
integration, support services and training. Competition for such personnel is
intense. Our financial condition and results of operations could be materially
adversely affected if we are unable to attract, hire, train and retain qualified
personnel.
Dependence on Continued Authorization to Resell and Provide Manufacturer-
Authorized Services
Our future success in our services businesses depends largely on our
continued status as an authorized reseller and/or service provider. We maintain
sales and service authorizations with many industry-leading product
manufacturers. Without such sales and service authorizations, we would be unable
to provide the range of services that we currently offer. In addition, INX's
ability to resell Cisco network products is dependent upon its Cisco
authorization. In general, the agreements between us and our product
manufacturers either have fixed terms or provide for termination on 30 days
prior written notice. Failure to maintain such authorizations could have a
material adverse effect on our financial condition and our results of
operations.
Dependence on Suppliers
Our business depends upon our ability to obtain an adequate supply of
products and parts at competitive prices and on reasonable terms. Our suppliers
are not obligated to have product on hand for timely delivery to us nor can they
guarantee product availability in sufficient quantities to meet our demands. Any
material disruption in our supply of products could have a material adverse
effect on our financial condition and results of operations.
Inventory Obsolescence
The business in which we compete is characterized by rapid
technological change and frequent introduction of new products and product
enhancements. Our success with respect to the product sales portion of our
business depends in large part on our ability to identify and obtain products
that meet the changing requirements of the marketplace. There can be no
assurance that we will be able to identify and offer products necessary to
remain competitive or avoid losses related to obsolete inventory and drastic
price reductions. We attempt to maintain a level of inventory required to meet
our near term delivery requirements by relying on the ready availability of
products from our principal suppliers. Accordingly, the failure of our suppliers
to maintain adequate inventory levels of products demanded by our existing and
potential customers and to react effectively to new product introductions could
have a material adverse effect on our financial condition and results of
operations.
Reliance on MIS
Our success is largely dependent on the accuracy, quality and
utilization of the information generated by our customized MIS, which affects
our ability to manage our sales, projects, accounting and inventory. We
anticipate that we will continually need to refine and enhance our management
information systems as we grow and the needs of our business evolve.
Control by Existing Stockholders
James H. Long, founder, Chairman of the Board, President and Chief
Executive Officer, owns 52.8% of the outstanding Common Stock and Mr. Long will
have the ability to control the election of the members of our board of
directors, prevent the approval of certain matters requiring the approval of
either a majority of stockholders or at least two-thirds of all stockholders and
exert significant influence over our affairs.
Anti-Takeover Considerations
Our Certificate of Incorporation and Bylaws contain certain provisions
that may delay, deter or prevent a change in our control. Among other things,
these provisions authorize our board of directors to issue shares of preferred
stock on such terms and with such rights, preferences and designations as the
board of directors may determine without further stockholder action and limit
the ability of stockholders to call special meetings or amend our Certificate of
Incorporation or Bylaws. Each of these provisions, as well as the Delaware
business combination statute could, among other things, restrict the ability of
certain stockholders to effect a merger or business combination or obtain
control of the company.
Risks Related to Patent Infringement
Stratasoft settled a patent infringement lawsuit in September 2001, and
as part of the settlement agreement has obtained cross-licensing rights on
patents filed by the plaintiff in such lawsuit. It is possible that other
companies may also believe that Stratasoft's products infringe upon their
patents. Patent infringement litigation is complex and expensive and future
assertions of patent infringement by other companies, such could have a material
adverse effect on our financial performance, financial condition and our results
of operations.
Absence of Dividends
We expect to retain any cash generated from operations to support our
cash needs and do not anticipate the payment of any dividends on the Common
Stock for the foreseeable future.
Item 2. Properties
FACILITIES
We do not own any real property and currently lease all of our existing
facilities. We lease our Houston office that is housed in a freestanding
building of approximately 48,000 square feet. On November 30, 1999 the building
was acquired by a corporation owned by the Chairman, Chief Executive Officer and
President of the Company. A new lease at reduced rental rates was signed on
February 1, 2002, which expires on January 31, 2007. Our Dallas office is a
space of approximately 8,960 square feet. The Dallas facility lease term began
July 2000 and expires in July 2003.
Item 3. Legal Proceedings
We are party to litigation and claims that management believes are
normal in the course of our operations; while the results of such litigation and
claims cannot be predicted with certainty, we believe the final outcome of such
matters will not have a material adverse effect on our results of operations or
financial position.
In July 2000, Benchmark Research and Technology, Inc. made a verbal
claim against us, claiming that we breached our contract with Benchmark, that we
were negligent and breached various warranties, committed fraud and violated the
Deceptive Trade Practices Act. The case was mediated in November 2000 but no
agreement was reached. We know of no lawsuit being filed on this matter. We
believe that the claim is without merit and intend to vigorously contest the
demand.
In October, 2000, our wholly-owned subsidiary Stratasoft, Inc. filed
suit in the Harris County Texas County Court of Law against its customer
Accelerated Telemarketing for a remaining balance of $47 on its contract.
Thereafter Accelerated Telemarketing filed a separate legal action claiming
breach of contract, breach of warranty, violation of Deceptive Trade Practices
Act and other claims. The case is in the early stages of discovery, and
therefore we are unable to determine the ultimate costs of this matter. We
believe that this suit is without merit and intend to vigorously defend such
action.
In October 2001, Inacom Corp. wrote a demand letter claiming that we
owed the sum of approximately $570 to Inacom as a result of termination of a
Vendor Purchase Agreement between Inacom and us. At March 18, 2002 we are
unaware of a formal lawsuit being filed, although one has been threatened. We
believe that the demand is without merit and intend to vigorously contest the
demand.
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of security holders, through the
solicitation of proxies or otherwise during the fourth quarter of the fiscal
year covered by this report
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
The Company's shares are traded on the NASDAQ Small Cap Market. Prior
to July 11, 2000 our shares traded under the symbol "ALLS". Upon the change of
our corporate name on July 11, 2000, our stock began trading under the symbol
"ISEC".
High Low
Fiscal 2000
First quarter 5.00 1.375
Second quarter 3.50 1.938
Third quarter 2.438 1.563
Fourth quarter 1.688 0.625
Fiscal 2001
First quarter 1.188 0.875
Second quarter 1.250 0.980
Third quarter 1.100 0.900
Fourth quarter 1.040 0.600
As of March 18, 2001, there were 58 shareholders of record. Management
estimates that there are approximately 947 beneficial holders of our common
stock. We have never declared or paid any cash dividends on our Common Stock. On
March 18, 2002, the closing sales price of our Common Stock as reported by
NASDAQ was $ .70 per share. We currently anticipate that we will retain all
earnings for use in our business operations.
Item 6. Selected Financial Data
The following sets forth the selected data of the company for the five
years ended December 31, 2002.
Year ended December 31,
(In thousands except share and per share amounts)
1997 1998 1999 2000(1) 2001(1)
Operating Data:
Revenue $ 11,719 $ 15,408 $ 17,984 $ 17,087 $ 23,620
Cost of sales and services 7,057 10,078 11,806 12,968 17,325
Gross profit 4,662 5,330 6,178 4,119 6,295
Selling, general and
administrative expenses 4,915 6,637 6,207 9,479 10,573
Operating loss 253 1,307 29 5,360 4,278
Interest and other income, net (43) (41) (23) (239) (316)
Loss from continuing operations
before benefit for income taxes 210 1,266 6 5,121 3,962
(Benefit) provision for income
taxes (74) (415) 20 (1,493) (87)
Net loss from
continuing operations 136 851 26 3,628 3,875
Discontinued Operations (2):
Net income (loss) from
discontinued operations, net
of taxes 1,980 (247) 319 195 (167)
Income (loss) on
disposal, net of taxes (1,138) 3,390 337
Net income (loss) $ 1,844 $ (1,098) $ (845) $ (43) $ (3,705)
Net loss per share:
Basic and diluted:
Net loss from continuing
operations $ (0.02) $ (0.20) $ (0.01) $ (0.90) $ (0.99)
Net income (loss) from
discontinued operations 0.54 (0.05) 0.08 0.05 (0.04)
Loss (gain) on disposal (0.27) 0.84 0.08
Net income (loss) per share $ 0.52 $ (0.25) $ (0.20) $ (0.01) $ (0.95)
Year ended December 31,
(In thousands)
1997 1998 1999 2000 2001
Balance Sheet Data:
Working Capital $ 12,738 $ 9,800 $ 9,567 $ 10,098 $ 5,983
Total Assets 34,855 51,028 54,531 17,142 13,548
Short-term borrowings 1,572 15,958 15,869 -0- 213
Long-term debt -0- -0- -0- -0- 410
Stockholders' equity $ 14,637 $ 12,705 $ 11,830 $ 11,912 $ 8,015
(1) Includes the operations of INX, which was formed in July 2000.
(2) In 1999 we sold our Telecom division. In 2000 we sold our Computer Products
division. In 2001 we sold our IT Staffing business.
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following discussion is qualified in its entirety by, and should be
read in conjunction with, our Consolidated Financial Statements, including the
Notes thereto, included elsewhere in this Annual Report on Form 10-K.
Overview
Through 1999, our revenue was historically derived through four primary
segments, IT Services, CTI Software, Computer Products and Telecom Systems, each
of which were historically reported separately. During the year ended December
31, 1999 we discontinued our Telecom Systems business and during the quarter
ended March 31, 2000 we discontinued our Computer Products business. We sold our
Telecom Systems and Computer Products businesses in separate transactions during
the first quarter of 2000. After the sale of these two businesses, in July 2000,
we separated what had been the IT Services business into three separate
businesses, of which one was IT Staffing ("IT Staffing, Inc") and all of which
are wholly-owned subsidiaries. During 2001 we sold our IT Staffing business. We
contributed the remaining components of the former IT Services business to two
newly formed wholly-owned corporations, Allstar Computer Services, Inc. ("ACS")
and Synergy Helpdesk Solutions, Inc. ("Synergy"). Effective June 30, 2001 we
merged Synergy into ACS and subsequently renamed that business to Allstar
Solutions, Inc. ("Allstar"). In July 2000, we formed another wholly-owned
subsidiary, Internetworking Sciences, Inc. ("INX"), a professional services
organization that focuses on the design, deployment and support of large-scale
network infrastructure requirements. In October 2000 INX acquired certain assets
of an unrelated professional service company in the Dallas area, which had a
similar focus, and subsequently underwent a legal name change to Internetwork
Experts, Inc. Our CTI Software business was not affected by the sale of the
Computer Products and Telecom Systems business units, however we are now
referring to this segment by its corporate name, "Stratasoft" rather than "CTI
Software" as we have in the past.
We market our services businesses in Texas from locations in the
Houston and Dallas-Fort Worth metropolitan areas. Stratasoft markets its
products worldwide through a direct sales force and an authorized dealer
network. By operating through these highly focused wholly-owned subsidiaries, we
believe that we will offer better customer service, and improve our financial
performance.
Cost of sales and services includes the cost of products sold, amounts
paid to outside contractors for services performed that are related to a
particular sale and the wages and related taxes and employee benefits paid to
technical staff that perform the services that we provide to our customers. A
certain component of total technical staff wages and related costs are of a
fixed nature, and therefore gross margin will vary to the extent that services
revenues fluctuate from period to period.
Gross margin varies substantially between each of these business
segments. Over the past three years gross margin in Allstar has ranged between
19.5% and 30.9% and gross margin for Stratasoft has ranged between 46.4% to
54.3%. As a newly formed business, INX experienced negative gross margin of 2.3%
in 2000, but improved its gross margin to 10.3% in 2001.
A significant portion of our selling, general and administrative
expenses relate to personnel costs, some of which are variable and others of
which are relatively fixed. Our variable personnel costs are primarily comprised
of sales commissions, which are typically calculated based upon our gross profit
on a particular sales transaction and thus generally fluctuate with our overall
gross profit. The remainder of our selling, general and administrative expenses
are relatively more fixed and, while still somewhat variable, do not vary with
increases in revenue as do sales commissions.
Discontinued Operations and Sales of Certain Business Units
Sale of IT Staffing
On November 6, 2001, we approved a plan to sell our IT Staffing
subsidiary and as a consequence, the operations of IT Staffing are reported as
discontinued operations. A sale was completed on December 31, 2001. In
connection with the sale of IT Staffing, we recognized a loss from discontinued
operations of $167 (net of tax of $85) on the operations prior to the
measurement date of November 7, 2001 and we recognized a loss on disposal of $11
(net of tax of $5).
Sale of Computer Products
On March 16, 2000 we entered into an agreement whereby we agreed to
sell the ongoing business operations of our Computer Products business, together
with certain key assets of our IT Services business located in El Paso, Texas.
Under the terms of the sale we received cash consideration of $14,779, plus the
possibility of receiving a future payment of up to $500 from an escrow account.
A gain on disposal of the Computer Products business, including an estimate of
the operating results from the measurement date, March 16, 2000, to the closing
date of the sale, May 19, 2000, of $914, and estimates for impairment of assets
caused by the disposal decision of $2,820, totaling $3,734 (net of taxes of
$2,607) was recognized in the year ended December 31, 2000. Our income from
discontinued operations of the Computer Products business was $1,343, and $302
(net of taxes of $688, and $156) in 1999 and 2000, respectively. We retained
accounts receivable related to the Computer Products business of $20,266, net of
reserves, fixed assets of $255 and liabilities related to the Computer Products
business. The accounts receivable collected were used to repay all remaining
liabilities of the Computer Products Division. Fixed assets were redeployed in
the continuing operations. The sale of Computer Products closed on May 19, 2000,
after shareholder and other required consents were obtained. During 2001 we
recognized additional gain on the sale of the Computer Products Division as a
settlement of the escrow account of $346, net of taxes of $179. We experienced
net income on the operations of the Computer Products Division prior to the
measurement date, March 16, 2000, of $302 in 2000, net of taxes of $156 and a
gain on disposal of $3,734, net of taxes of $2,607.
Sale of Telecom Systems
On November 2, 1999, we approved a plan to sell or close our Telecom
Systems Division. The sale was finalized on March 16, 2000. Under the terms of
the sale we received for the sale of the inventory and operations of Telecom
Systems $250 cash. Additionally, the purchaser assumed all of our telephone
equipment warranty obligations up to a maximum of $30, which was reached in
October 2000. All future warranty costs incurred by the purchaser will be billed
to us at an agreed upon rate. An estimate of the cost of future telephone
equipment warranty obligations of $95 is included at December 31, 2000 in the
balance sheet caption "Net liabilities related to discontinued operations". A
disposal loss, including an estimate of the operating results from the
measurement date, November 2, 1999 to the closing date of the sale of $580, and
estimates for impairment of assets caused by the disposal decision of $558,
totaling $1,138 (net of an income tax saving of $586) was recognized. Our loss
from discontinued operations (net of income tax savings of $505) was $981 in
1999. We retained accounts receivable of $1.4 million, net of reserves, fixed
assets of $30 and liabilities related to the Telecom Division. Accounts
receivable, net of reserves, is $0 at December 31, 2001. Fixed assets were
redeployed in the continuing operations. The accounts receivable collected were
used to repay all remaining liabilities of the Telecom Division. During the year
ended December 31, 2000 additional expenses related to the disposal of the
Telecom Division was recognized of $344 (net of taxes of $240).
Results of Operations
The following table sets forth, for the periods
indicated, certain financial data derived from our
consolidated statements of operations. Percentages shown in the table below are
percentages of total company revenue, except for each individual segment's gross
profit, selling, general and administrative expenses, and operating income,
which are percentages of the respective segment's revenue.
Year ended December 31,
1999 2000 2001
Amount % Amount % Amount %
(Dollars in thousands)
Revenue
Allstar $ 10,962 61.0% $ 6,946 40.6% $ 5,668 24.0%
INX 0 0.0 1,874 11.0 10,775 45.6
Stratasoft 4,318 24.0 6,660 39.0 7,257 30.7
Corporate 2,704 15.0 1,640 9.6 (6) 0.0
Eliminations 0 0.0 (33) (0.2) (74) (0.3)
Total 17,984 100.0 17,087 100.0 23,620 100.0
Gross profit
Allstar 3,382 30.9 1,356 19.5 1,265 22.3
INX 0 0.0 (43) (2.3) 1,112 10.3
Stratasoft 2,192 50.8 3,087 46.4 3,939 54.3
Corporate 604 22.3 (269) (16.4) 7 (116.7)
Eliminations 0 0.0 (12) 36.4 (28) 37.8
Total 6,178 34.4 4,119 24.1 6,295 26.7
Selling, general and
administrative expenses
Allstar 3,273 29.9 3,186 45.9 3,077 54.3
INX 0 0.0 935 49.9 3,103 28.8
Stratasoft 1,960 45.4 3,647 54.8 3,021 41.6
Corporate 974 36.0 1,723 105.1 1,400 (NA)
Elimination 0.0 (12) 36.4 (28) 37.8
Total 6,207 34.5 9,479 55.5 10,573 44.8
Operating income (loss)
Allstar 109 (1.0) (1,830) (26.3) (1,812) (32.0)
INX 0 0.0 (978) (52.2) (1,991) (18.5)
Stratasoft 232 5.4 (560) (8.4) 918 12.6
Corporate (370) (13.7) (1,992) (121.5) (1,393) (NA)
Total (29) (0.2) (5,360) (31.4) (4,278) (18.1)
Interest and other income, net (23) 0.1 (239) 1.4 (316) 0.1
Loss from continuing
operations before benefit
for income taxes 6 0.0 5,121 30.0 3,962 16.8
(Benefit) provision for income taxes 20 (0.1) (1,493) (8.7) (87) (0.4)
Net loss from continuing
operations 26 0.1 3,628 21.2 3,875 16.4
Discontinued operations:
Income (loss) from discontinued
operations, net of taxes 319 1.8 195 1.1 (167) (0.7)
Gain (loss) on disposal,
net of taxes (1,138) (6.3) 3,390 19.8 337 1.4
Net loss $ 845 4.7% $ 43 0.3% $ 3,705 15.7%
Year Ended December 31, 2001 Compared to the Year Ended December 31, 2000
(Dollars in thousands)
Revenue. Total revenue increased $6,533 (38.2%) to $23,620 in 2001 from
$17,087 in 2000. International sales accounted for $3,111 or 13.2% of
consolidated revenues in 2001 as compared to 1.7% in 2000, and were primarily
derived from the Stratasoft segment.
Revenue from Allstar, which comprised 24.0% of total revenues, compared
to 40.6% in 2000, decreased $1,278 (18.4%) to $5,668 in 2001 from $6,946 in
2000. The decrease in revenue is attributable to the loss of revenue from
certain customers and the loss of certain categories of revenue associated with
and dependent upon the former Computer Products Division after the sale of the
Computer Products Division in May 2000.
Revenue from INX, which comprised 45.6% of total revenues compared to
11.0% in 2000, increased $8,901 (475.0%) to $10,775 in 2001 from $1,874 in 2000.
INX was formed in July 2000 and exerted intense efforts to introduce itself to
the market in Dallas and Houston and to form customer relationships. INX revenue
growth is expected to continue to increase in 2002, but not at as high a rate as
in 2001. In October 2000 INX acquired an established service business in Dallas.
The purchase included an established customer list, seven engineers and two
sales staff members. In November 2001 INX achieved gold status with Cisco, its
primary product line manufacturer which allows INX to purchase directly from
Cisco at lower pricing levels and enhances INX's relationship with Cisco in the
areas of lead generation, joint marketing and technical support.
Revenue from Stratasoft, which comprised 30.7% of total revenue in
2001, compared to 39.0% in 2000, increased $597 (9.0%) to $7,257 in 2001 from
$6,660 in 2000. The increased revenues from Stratasoft were primarily the result
of increased sales in the international sector, better recognition of Stratasoft
products in the market place, the expansion of the sales staff and dealer
network and to increased advertising and marketing efforts.
The Corporate segment includes both costs related to the operation of
the corporate entity that are not allocated to any subsidiary company, plus
certain operations that are not on-going because of the sale of the Computer
Products Division (see discussion at Item 1. "Disposition of Computer Products
Business"), and including installation revenues that were related to a certain
customer of our Computer Products Division and revenue from our former El Paso
branch office, which ceased because of the sale of the Computer Products
Division. Corporate revenue, which comprised 0.0% of total revenues in 2001
compared to 9.6% in 2000, decreased by $1,646 (100.4%) in 2001 to $(6) compared
to $1,640 in 2000. The decrease is attributable to the sale of the former IT
Services Division operations of the El Paso office, to the loss of a certain
customer of our former IT Services Division in May 2000 due to the sale of the
Computer Products Division and our corporate restructuring.
Gross Profit. Gross profit increased $2,176 (52.8%) to $6,295 in 2001
from $4,119 in 2000, while gross margin increased to 26.7% in 2001 from 24.1% in
2000.
Allstar gross profit decreased by $91 (6.7%) to $1,265 in 2001 from
$1,356 in 2000. Gross margin rates for Allstar were 22.3% in 2001 as compared to
19.5% in 2000. Allstar's cost of service consists primarily of labor cost, which
has a more fixed nature. In periods when service revenue decreases, it becomes
more important to manage labor cost in order to prevent erosion of gross margin.
Subsequent to the separation of the IT Services segment into wholly-owned
subsidiary companies in July 2000, Allstar experienced lower labor utilization
related to lower revenue. In addition to the billable technical staff
utilization issue, Allstar had a single large project in 2000 on which gross
profit margin was about 12% below normal levels, which negatively impacted the
overall margin.
INX gross profit in 2001 was $1,112 as compared to a gross loss in 2000
of $43, an increase of $1,155 (2686.0%) for a gross margin rate of 10.3% in 2001
compared to negative gross margin of 2.3% in 2000. INX was formed in July 2000
and as a newly-formed start-up operation in 2000, INX had to have billable
technical staff in place in order to be able to market their services, but was
unable to utilize that technical staff sufficiently to cover their labor cost.
Stratasoft gross profit increased by $852 (27.6%) to $3,939 in 2001
from $3,087 in 2000. Gross margin rates for Stratasoft were 54.3% in 2001 as
compared to 46.4% in 2000. The increased gross margin was primarily due to
changing the mix of product sales to include a reduced hardware component.
Corporate gross profit increased by $276 (102.6%) to $7 in 2001
compared to a gross loss of $269 in 2000. The El Paso service business that was
sold on May 19, 2000 produced a gross loss of $48 in 2000. We experienced
certain costs related to winding up our service operations in the El Paso branch
office that negatively impacted gross profit. Additionally, the gross margin on
installations for the customer that was lost in the Computer Products Division
sale produced a gross loss of $235 in 2000.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased $1,094 (11.5%) to $10,573 in 2001 from $9,479
in 2000. As a percentage of total revenue, selling, general and administrative
expenses for continuing operations decreased to 44.8% in 2001 from 55.5% in
2000.
Allstar selling, general and administrative expenses decreased $109,
primarily due to planned administrative staff reductions. INX selling, general
and administrative expenses increased $2,168. INX was newly formed in July 2000
and their operations, along with the sales staff, have increased steadily since
that time. The INX increase is offset by a decrease of $626 attributable
primarily to Stratasoft's lower legal expense due to settlement of the eshare
lawsuit. Corporate selling, general and administrative expenses decreased by
$323, also primarily due to planned administrative staff reductions.
Operating Loss. Operating loss decreased $1,082 to an operating loss of
$4,278 in 2001 from a loss of $5,360 in 2000 due primarily to the increase in
gross profit of $2,176 offset by the increase in selling, general and
administrative expenses of $1,094. Allstar's operating loss decreased $18 to
$1,812 in 2001 from $1,830 in 2000. INX's operating loss increased $1,013 to a
loss of $1,991 in 2001 from $978 in 2000. Stratasoft's operating income of $918
in 2001 compares to an operating loss of $560 in 2000, an increase of $1,478.
The operating loss for the Corporate Segment decreased $599 to an operating loss
of $1,393 in 2001 compared to an operating loss of $1,992 in 2000.
Interest and other income, net. Interest and other income, net
increased $77 (32.2%) to income of $316 in 2001 compared to $239 in 2000.
Subsequent to the sale of the Computer Products Division in May 2000 cash
balances were invested in interest bearing overnight deposits. Beginning in
April 2001, such cash balances were invested in Euro dollar interest bearing
deposits. During 2001 interest rates decreased steadily due to attempts by the
national government to stimulate the economy. The effect of interest rate
decreases was offset somewhat by the recognition of other income of $65 relating
to an insurance reimbursement in September 2001.
Net loss from continuing operations. Net loss from continuing
operations was $3,875 in 2001 compared to a loss of $3,628 in 2001. A valuation
allowance against deferred tax assets eliminated the income tax benefit in 2001.
The net loss for 2000 was after an income tax benefit totaling $1,493
(reflecting an effective tax rate of 29.2%).
Discontinued operations. In connection with the sale of IT Staffing, we
recognized a loss from discontinued operations of $167 (net of taxes of $85) on
the operations prior to the measurement date of November 7, 2001 and we
recognized a loss on disposal of $11 (net of taxes of $5). During 2001 we
recognized additional gain on the sale of the Computer Products Division of
$346, net of taxes of $179. We experienced net income on the operations of the
Computer Products Division prior to the measurement date, March 16, 2000, of
$302 in 2000, net of taxes of $156 and a gain on disposal of $3,734, net of
taxes of $2,607. During the year ended December 31, 2000 additional expenses
related to the disposal of the Telecom Division of $344 (net of taxes of $240)
was recognized.
Year Ended December 31, 2000 Compared to the Year Ended December 31, 1999
(Dollars in thousands)
Revenue. Total revenue decreased $897 (5.0%) to $17,087 in 2000 from
$17,984 in 1999.
Allstar revenue, which comprised 40.6% of total revenues compared to
61.0% in 1999, decreased $4,016 (36.6%) to $6,946 in 2000 from $10,962 in 1999.
The decrease in revenue was attributable to the reorganization of our former IT
Services Division into wholly-owned subsidiaries, each of which have a
particular market focus, and one of which is Allstar, together with the loss of
revenue from certain customers and the loss of certain categories of revenue
that were associated with and dependent upon the Computer Products Division
after the sale of the Computer Products Division.
INX revenue comprised 11.0% of total revenues. INX was newly formed in
July, 2000 and INX exerted intense efforts to introduce itself to the market in
Dallas and Houston and to form customer relationships. In October 2000 INX
acquired an established service business in Dallas. The purchase included an
established customer list, seven engineers and two sales staff members.
Stratasoft revenue, which comprised 39.0% of total revenue in 2000,
compared to 24.0% in 1999, increased $2,342 (54.2%) to $6,660 in 2000 from
$4,318 in 1999. The increased revenues from Stratasoft were primarily the result
of better recognition of Stratasoft products in the market place, the expansion
of the sales staff and dealer network and to increased advertising and marketing
efforts.
The Corporate segment includes both costs related to the operation of
the corporate entity that are not allocated to any subsidiary company, plus
certain operations that are not on-going because of the sale of the Computer
Products Division (see discussion at Item 1. "Disposition of Computer Products
Business"), and including installation services revenues that were related to a
certain customer of our former Computer Products Division and the IT Services
Division revenue from our former El Paso branch office, which ceased because of
the sale of the Computer Products Division. Corporate revenue, which comprised
9.6% of total revenues in 2000 compared to 15.0% in 1999, decreased by $1,064
(39.3)% in 2000 to $1,640 compared to $2,704 in 1999. The decrease in 2000 was
due to $1,078 decrease in revenues from the El Paso branch office, offset by $76
higher installation revenues for that certain customer of our Computer Products
Division in spite of the loss of the customer in May, 2000 due to the sale of
the Computer Products Division.
Gross Profit. Gross profit decreased $2,059 (33.3%) to $4,119 in 2000
from $6,178 in 1999, while gross margin decreased to 24.1% in 2000 from 34.4% in
1999.
Allstar gross profit decreased by $2,026 (59.9%) to $1,356 in 2000
compared to $3,382 in 1999. Gross margin rates for Allstar were 19.5% in 2000 as
compared to 30.9% in 1999. Allstar's cost of service consists primarily of labor
cost. Labor has a more fixed nature such that higher levels of service revenue
produce higher levels of gross margin while lower levels of service revenue
produce lower gross margin. In periods when service revenue decreases, it
becomes more important to manage labor cost in order to prevent erosion of gross
margin. Subsequent to the separation of the IT Services segment into
wholly-owned subsidiary companies in July 2000, Allstar experienced lower labor
utilization related to lower revenue due in part to the elimination of certain
categories of services revenues that were dependent upon and related to the
Computer Products Division after the sale of the Computer Products Division. In
addition to the billable technical staff utilization issue, Allstar had a single
large project on which gross profit margin was about 12% below normal levels,
which negatively impacted the overall margin.
INX produced a gross loss was $43 for a gross margin rate of (2.3%).
Since INX was formed in July 2000, there is no history for comparison. As a
newly-formed start-up operation, INX had to have billable technical staff in
place in order to be able to market their services, but was unable to utilize
that technical staff sufficiently to cover their labor cost during their first
partial year of operations.
Stratasoft gross profit increased by $895 (40.8%) to $3,087 in 2000
from $2,192 in 1999. Gross margin rates for Stratasoft were 46.4% in 2000 as
compared to 50.8% in 1999. The decreased gross margin was primarily due to
inventory markdowns along with increased travel costs for technical staff
traveling nationally and internationally for project installations. Gross margin
was also negatively impacted by the mix of sales with a higher proportion of
total systems sales, which include a hardware component, as compared to
software-only sales, which do not have a hardware cost of goods component. The
lower gross margin rates were offset by higher revenues in 2000, thereby
producing increased gross profit.
Corporate gross profit decreased by $873 (144.5%) to a gross loss of
$269 in 2000 compared to a gross profit of $604 in 1999 as revenue decreased by
39.3%. Gross margin rates for the Corporate segment were (16.4%) in 1999 as
compared to 22.3% in 1999. The El Paso service business that was sold on May
19,2000 produced gross profit of $558 in 1999 as compared to a gross loss of $48
in 2000, a decrease of $606. We experienced certain costs related to winding up
our service operations in the El Paso branch office that negatively impacted
gross profit. Additionally, the gross margin on installations for the customer
that was lost in the Computer Products Division sale produced a gross loss of
$(235) in 2000 as compared to gross profit of $46 in 1999, a decrease of $281.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased $3,272 (52.7%) to $9,479 in 2000 from $6,207
in 1999. As a percentage of total revenue, selling, general and administrative
expenses for continuing operations increased to 55.5% in 2000 from 34.5% in
1999.
Of the $3,272 increase, $1,687 was attributable to Stratasoft.
Stratasoft incurred increased sales compensation of $379, accompanied by
increased payroll taxes, employee benefits, and advertising expense, all of
which is consistent with increased revenues of 54.2%. Additionally, Stratasoft's
bad debt expense increased $393, primarily due to more conservative reserve and
write off policies and legal expense increased $551, primarily due to patent
infringement litigation. Adding to the increase from Stratasoft, INX, the new
subsidiary contributed $935 of the increase. Selling, general and administrative
expenses totaling $749 from the Corporate Segment represents the remaining
increase and effective beginning in July 2000 certain of these costs were no
longer allocated out to the operating segments.
Operating Loss. Operating loss increased $5,331 to an operating loss of
$5,360 in 2000 from a loss of $29 in 1999 due primarily to the increase in
selling, general and administrative expenses of $3,272 and the decrease in gross
profit of $2,059 in 2000. The operating loss for the Corporate Segment increased
$1,622 to an operating loss of $1,992 in 2000 compared to an operating loss of
$370 in 1999. Allstar's operating loss of $1,830 in 2000 compares to $109
operating income in 1999, an increase of $1,939. INX experienced an operating
loss of $978 in 2000. For Stratasoft, the operating income of $232 in 1999
decreased $792 to a loss of $560 in 2000.
Interest and other income, net. Interest and other income, net,
increased $216 to income of $239 in 2000 compared to income of $23 in 1999.
Subsequent to the sale of the Computer Products Division cash balances were
invested in interest bearing overnight deposits.
Net loss from continuing operations. Net loss from continuing
operations, after an income tax provision totaling $1,493 (reflecting an
effective tax rate of 29.2% for 2000 as compared to 2.8% for 1999), was $3,628
in 2000 compared to a loss of $26 in 1999.
Discontinued operations. During 2001 we sold our IT Staffing business
and as a consequence, the operations of this business is reported as
discontinued operations for all periods presented. The IT Staffing business
experienced a net loss of $107 (net of taxes of $55) in 2000 as compared to a
net loss of $43 (net of taxes of $22) in 1999. During 2000 we sold the Computer
Products Division and as a consequence, the operations of the Computer Products
Division are reported as discontinued operations. We experienced net income on
the operations of the Computer Products Division prior to the measurement date,
March 16, 2000, of $302 in 2000, net of tax of $156 and a gain on disposal of
$3,734, net of taxes of $2,607. The loss on disposal of the Telecom Division of
$1,138 (net of taxes of $586) was recognized at December 31, 1999. During the
year ended December 31, 2000 additional expenses related to the disposal of the
Telecom Division was recognized of $344 (net of taxes of $240). The income from
discontinued operations in 1999 was $362, net of taxes of $183.
Quarterly Results of Operations
The following table sets forth certain unaudited quarterly financial
information for each of our last eight quarters and, in the opinion of
management, includes all adjustments (consisting of only normal recurring
adjustments) which the company considers necessary for a fair presentation of
the information set forth therein. Our quarterly results may vary significantly
depending on factors such as the timing of large customer orders, timing of new
product introductions, adequacy of product supply, variations in our product
costs, variations in our product mix, promotions, seasonal influences and
fluctuations in competitive pricing pressures. The results of any particular
quarter may not be indicative of results for the full year or any future period.
2000 2001
First Second Third Fourth First Second Third Fourth
Quarter Quarter Quarter Quarter Quarter Quarter Quarter Quarter
Revenue
Allstar $ 2,289 $ 1,979 $ 1,412 $ 1,266 $ 1,216 $ 1,178 $ 1,682 $ 1,592
INX 0 0 700 1,174 1,718 2,646 2,876 3,535
Stratasoft 2,473 1,172 1,779 1,236 1,682 1,590 1,687 2,298
Corporate 901 762 (41) 18 (4) 1 (4) 1
Elimination 0 0 (11) (22) (11) (16) (47)
Total 5,663 3,913 3,839 3,672 4,601 5,399 6,241 7,379
Cost of sales and services
Allstar 1,604 1,601 1,246 1,139 1,080 982 1,181 1,160
INX 0 0 735 1,182 1,714 2,326 2,516 3,107
Stratasoft 1,151 674 1,015 733 710 826 841 941
Corporate 603 988 79 239 14 (14) (5) (8)
Elimination 0 0 (11) (10) (11) (1) (34)
Total 3,358 3,263 3,064 3,283 3,507 4,119 4,533 5,166
Gross Profit
Allstar 685 378 166 127 136 196 501 432
INX 0 0 (35) (8) 4 320 360 428
Stratasoft 1,322 498 764 503 972 764 846 1,357
Corporate 298 (226) (120) (221) (18) 15 1 9
Elimination (12) (15) (13)
Total 2,305 650 775 389 1,094 1,280 1,708 2,213
Selling, general and
administrative expenses
Allstar 805 841 690 850 940 741 772 624
INX 0 0 327 608 608 783 729 983
Stratasoft 1,061 747 1,139 700 746 653 715 907
Corporate 339 293 988 103 525 382 301 192
Elimination (12) (15) (13)
Total 2,205 1,881 3,144 2,249 2,819 2,544 2,517 2,693
Operating income (loss)
Allstar (120) (463) (524) (723) (804) (545) (271) (192)
INX 0 0 (362) (616) (604) (463) (369) (555)
Stratasoft 261 (249) (375) (197) 226 111 131 450
Corporate (41) (519) (1,108) (324) (543) (367) (300) (183)
Total 100 (1,231) (2,369) (1,860) (1,725) (1,264) (809) (480)
Interest (income) and other
income, net 15 (50) (100) (104) (96) (61) (116) (43)
Income (loss) before
provision (benefit) for
income taxes 85 (1,181) (2,269) (1,756) (1,629) (1,203) (693) (437)
Provision (benefit) for
income taxes 27 (391) (690) (439) 37 (159) 21 14
Net income (loss) from
continuing operations 58 (790) (1,579) (1,317) (1,666) (1,044) (714) (451)
Discontinued operations:
Net income (loss) from
discontinued operations,
net of tax 286 9 (36) (64) (71) (41) (41) (14)
Gain (loss) on disposal 4,872 (387) (1,095) 348 (11)
Net income (loss) $ 5,216 $ (1,168) $ (2,710) $ (1,381) $ (1,737) $ (737) $ (755) $ (476)
Net Income (loss) per share:
Basic:
Continuing operations $ 0.01 $ (0.19) $ (0.39) $ (0.33) $ (0.41) $ (0.26) $ (0.18) $ (0.12)
Discontinued operations 0.08 0.00 (0.01) (0.01) (0.03) (0.02) (0.02) (0.00)
Gain (loss) on disposal 1.20 (0.10) (0.27) 0.09 (0.00)
Net income (loss) per share $1.29 $ (0.29) $ (0.67) $ (0.34) $ (0.44) $ (0.19) $ (0.20) $ (0.12)
Diluted:
Continuing operations $ 0.01 $ (0.19) $ (0.39) $ (0.33) $ (0.41) $ (0.26) $ (0.18) $ (0.12)
Discontinued operations 0.07 0.00 (0.01) (0.01) (0.03) (0.02) (0.02) (0.00)
Gain (loss) on disposal 1.14 (0.10) (0.27) 0.09 (0.00)
Net income (loss) per share $ 1.22 $ (0.29) $ (0.67) $ (0.34) $ (0.44) $ (0.19) $ (0.20) $ (0.12)
Weighted average number of shares outstanding:
Basic 4,048,964 4,048,525 4,048,525 4,048,096 3,945,842 3,905,944 3,853,607 3,853,607
Diluted 4,287,201 4,048,525 4,048,525 4,048,096 3,945,842 3,905,944 3,853,607 3,853,607
Liquidity and Capital Resources
Historically, until the sale of our Computer Products Division in May
2000, we had satisfied our cash requirements principally through borrowings
under our lines of credit and through operations. We maintained a cash position
sufficient to pay only our immediately due obligations and expenses. Subsequent
to the sale of the Computer Products Division we had sufficient cash on hand to
meet our requirements and have not had to rely on our line of credit. Because of
the significant growth we are experiencing, we have entered into a $2,500 credit
line agreement with Textron Financial Corporation, effective January 31, 2002.
INX is concentrating its sales efforts on Cisco technology. While we do buy
Cisco product through wholesale distributors, INX has begun to buy its product
direct through Cisco as its primary supplier in order to obtain competitive
pricing and better product availability. We have invested our excess cash in
interest bearing overnight deposits. Our working capital was $9,567, $10,098 and
$5,983 at December 31, 1999, 2000 and 2001, respectively. The decrease in
working capital during 2001 is primarily due to the use of working capital to
invest in the growth of our INX subsidiary and their operating losses during
that start-up period. The increase in working capital during 2000 is primarily
due to the collection of receivables related to the discontinued operations of
the Computer Products and the Telecom businesses. The proceeds of the sale of
the Computer Products business were used to pay off our previous line of credit.
At December 31, 2001 we had outstanding non-interest-bearing borrowings related
to our intangible assets and fixed assets totaling $623.
Cash Flows
Operating activities used net cash totaling $4,453 and $2,612 in 2001
and 1999, respectively and provided net cash totaling $5,540 during 2000. During
2001, net cash used by operations resulted from a net loss of $3,705 and an
increase in cost and estimated earnings in excess of billings of $1,695 offset
by a decrease in income taxes receivable of $712 and a decrease in inventory.
During 2000, net cash provided by operations resulted from decreases in accounts
receivable that were offset by reductions in accounts payable and accrued
expenses. During 1999, net cash provided by operations resulted from increases
in accounts payable that offset our increase in accounts receivable.
Accounts receivable increased $1,488 during 1999, respectively and
decreased $30,763 and $171 during 2000 and 2001, respectively. Inventory
decreased $603, $160 and $187 in 1999, 2000 and 2001, respectively. The most
recent two years' reductions were primarily the result of collection of
receivables retained from discontinued operations.
Investing activities used cash totaling $276 and $206 during 1999 and
2001, respectively and provided cash of $14,048 during 2000. Our investing
activities that used cash during these periods were primarily related to capital
expenditures related to leasehold improvements and patent license acquisitions.
In 2000, investing activities primarily related to the proceeds from the sale of
the Computer Products business. During the next twelve months, we do not expect
to incur material capital expenditures.
Financing activities used cash totaling $227, $15,889 and $253 during
1999, 2000 and 2001, respectively. The primary source of cash from financing
activities in1999 was borrowings on our lines of credit when the lines of credit
were used principally to satisfy our cash requirements, including financing
increases in accounts receivable and inventory. During 2000 we used the proceeds
of the sale of the Computer Products business to pay off our line of credit.
During 1999, 2000 and 2001 we used $138, $20 and $195, respectively to
repurchase shares that were held in treasury at the end of 2001.
Asset Management
Our cash flow from operations has been affected primarily by the timing
of our collection of accounts receivable. We have typically sold our products
and services on short-term credit terms and seek to minimize our credit risk by
performing credit checks and conducting our own collection efforts. We had
accounts receivable, net of allowance for doubtful accounts of $4,473 and $4,302
(including $775 and $82 relating to discontinued operations) at December 31,
2000 and 2001, respectively
We attempt to manage our inventory in order to minimize the amount of
inventory held for resale and the risk of inventory obsolescence and decreases
in market value. We attempt to maintain a level of inventory required to reach
only our near term requirements by relying on the ready availability of products
from our principal suppliers.
Credit Facilities
At December 31, 2001, we had no credit facility in place. On January
31, 2002 we entered into a credit agreement with Textron Financial Corporation
("Textron") for a revolving line of credit (the "Textron Facility") that will be
our principal source of liquidity. The total credit available under the credit
facility is $2,500, subject to borrowing base limitations that are generally
computed as 80% of eligible accounts receivable, 90% of identifiable inventory
purchased under this agreement and 40% of all other inventory. Credit available
under this facility for floor plan financing of inventory from approved
manufacturers is $2,500. We may use up to $500 of the line for working capital
advances under approved conditions. Borrowings under the line will accrue
interest at the prime rate plus 2.5% on outstanding balances that extend beyond
the vendor approved free interest period and on working capital advances from
date of advance. Inventory floor plan finance borrowings on the line are
reflected in accounts payable on the accompanying balance sheets.
This agreement, which continues in full force and effect until
terminated by written notice from us, is collaterized by substantially all of
our assets. The agreement contains restrictive covenants, which, among other
things, require us to maintain minimum tangible capital funds and to not exceed
a maximum debt-to-tangible capital funds ratio.
On September 27, 2001 Stratasoft, our subsidiary, signed a note payable
to a third party for $725, payable in monthly installments through February,
2007. The note does not bear interest and we have imputed interest at 5.5% to
record the debt and related patent asset and recorded interest of $9 in 2001.
This note payable is collaterized by Stratasoft's patent assets. Stratasoft has
granted a security interest in its pending patent application and the next two
patent applications filed by Stratasoft. In connection with this note payable,
we have reported short-term debt maturing within one year of $200 and long-term
debt of $388.
In October 2001, we signed an non-interest bearing auto note payable
for $39 payable in monthly installments through October 2004. In connection with
this note payable, we have reported short-term debt maturing within one year of
$13 and long-term debt of $22 at December 31, 2001.
Payments due by Period
Less
than 1-3 4-5 after 5
Contractual Obligations Total 1 year years years years
Long-term debt $ 623 $ 213 $ 315 $ 95 $ 0
Operating Leases 570 1,403 483 0 0
Critical Accounting Policy
Revenue Recognition - Revenue from the sale of products is recognized
when the product is shipped. Service income is recognized as the services are
earned. Revenues resulting from installations of equipment and software
contracts for which duration is in excess of three months and that require
substantial modification or customization are recognized using the
percentage-of-completion method. The percentage of revenue recognized is
determined principally on the basis of the relationship of the cost of work
performed on the contract to estimated total costs. Revisions of estimates are
reflected in the period in which the facts necessitating the revisions become
known; when a contract indicates a loss, a provision is made for the total
anticipated loss.
The following reflects the amounts relating to uncompleted contracts at
December 31, 2000 and 2001:
Costs incurred on uncompleted contracts $ 135 $ 995
Estimated earnings 361 1,930
496 2,925
Less: Billings to date 999 1,158
Cost and estimated earnings in excess of billings $ 0 $1,695
Billings in excess of cost and estimated earnings $ 503 $ 72
During 2001 our subsidiary, Stratasoft, recognized revenues on the
percentage-of-completion basis for several projects associated with one reseller
in South Asia. I-Sector has risk to the extent that this group of customers have
not paid or issued contractual letters of credit up to the level of cost and
earnings recognized. On the projects in South Asia we required a cash payment or
letter of credit from the customer prior to shipping the product.
Accounting Pronouncements
In June 2001, Statement of Accounting Standards ("SFAS"), SFAS No. 141,
"Business Combinations" was approved by the Financial Accounting Standards Board
("FASB"). SFAS No. 141 requires the purchase method of accounting be used for
all business combinations initiated after June 30, 2001. Any resulting goodwill
and certain intangible assets will remain on the balance sheet and not be
amortized. On an annual basis, and when there is reason to suspect that their
values have been diminished or impaired, these assets must be tested for
impairment, and write-downs may be necessary. The adoption of this statement had
no effect on I-Sector's consolidated financial position or its results of
operations.
In June 2001, SFAS No. 142 "Goodwill and Other Intangible Assets" was
approved by the FASB. SFAS No. 142 changes the accounting for goodwill from an
amortization method to an impairment-only approach. Amortization of goodwill,
including goodwill recorded in past business combinations, will cease upon
adoption of this statement. The adoption of this statement had no material
effect on I-Sector's consolidated financial position or its results of
operations.
In June 2001, SFAS No. 143 "Accounting for Asset Retirement
Obligations: was approved by the Financial Accounting Standards Board ("FASB").
SFAS No. 143 requires that the fair value of a liability for an asset retirement
obligation be recognized in the period in which it is incurred. I-Sector is
required to implement SFAS No. 143 on January 1, 2003 and it has not determined
the impact, if any, that this statement will have on its consolidated financial
position or its results of operations.
In August 2001, SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets" was approved by the FASB. SFAS No. 144 supercedes
SFAS No. 121, "Accounting for the Impairment of Long-lived Assets and for Long
Lived Assets to be Disposed of". SFAS No. 144 required recognition of an
impairment loss, measured as the difference between the carrying amount and the
fair value of the asset, only if the carrying amount of a long-lived asset is
not recoverable from its undiscounted cash flows. The adoption of this statement
had no material effect on I-Sector's consolidated financial position or its
results of operations.
Future Trends
We expect continued revenue increases in 2002 and beyond, due primarily
to market share gains. While we expect all three of our subsidiary companies to
produce significant revenue growth in 2002, we expect the newer INX to produce
the most rapid growth rates, although not at the same growth rates experienced
in 2001, their first full year of operations. We expect that this revenue growth
in 2002 will be primarily a result of the investments made in late 2000 and
throughout 2001 in the form of increased sales and marketing staff and marketing
programs.
We expect gross margin to improve in 2002 for both INX and Allstar
Solutions, primarily because of improved utilization of technical staffing
resources in the services component of their revenue bases. We expect gross
margin for Stratasoft to decline somewhat from the higher than normal level
achieved in 2001 due primarily to a more normalized hardware product component
as compared to the lower than normal hardware mix in 2001. A higher mix of
hardware in the Stratasoft package produces lower gross margin. Overall, we
expect total consolidated company gross margin to decline slightly due primarily
to a higher proportion of lower margin INX revenue in the total revenue mix.
We expect to be able to contain the growth in selling, general and
administrative expenses as a percentage of revenue, as revenue continues to grow
because of previous investments in sales and marketing, without a further
commensurate increase in sales and marketing expenses and as the increases in
revenues are spread over a relatively fixed corporate administration expense
base.
For 2002 we expect our business to be positively impacted by a slight
improvement in the depressed general market conditions that we experienced in
2001, due primarily to a likely upswing in the cyclical buying patterns of
customers for technology products. In 2001 we experienced the depressing
combined events of a declining stock market, slowing economy and terrorist
activity.
Tax Refund
On March 9, 2002, President Bush signed into law the Job Creation and
Worker Assistance Act of 2002. The new law provides for the carryback of net
operating losses for any taxable year ending during 2001 or 2002 to each of the
five tax years preceding the loss year. Previously, a net operating loss was
only eligible to be carried back to the two years preceding the year of loss.
This will result in additional tax refunds of approximately $1,000.
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
We may incur certain market risks related to interest rate variations
in the future because as of January 31, 2002 we hold floating rate debt. We have
$2,442 in cash balances in interest bearing accounts. If interest rates decrease
by 1% the net loss will increase by $24. If interest rates increase by 1% the
net loss will decrease by $24.
We have no off-balance sheet arrangements or derivative instruments.
We have experienced no material impact of inflation and changing prices
on net sales and income from continuing operations in the last three years.
Item 8. Financial Statements and Supplementary Data
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Financial Statements:
Independent Auditors' Report 28
Consolidated Balance Sheets at December 31, 2000 and 2001 29
Consolidated Statements of Operations for the years ended
December 31, 1999, 2000 and 2001 30
Consolidated Statements of Stockholders' Equity for the
years ended December 31, 1999, 2000 and 2001 31
Consolidated Statements of Cash Flows for the years ended
December 31, 1999, 2000 and 2001 32
Notes to Consolidated Financial Statements for the years
ended December 31, 1999, 2000 and 2001 33
INDEPENDENT AUDITORS' REPORT
To the Stockholders of I-Sector Corporation.:
We have audited the accompanying consolidated balance sheets of
I-Sector Corporation and subsidiaries ("I-Sector") as of December 31, 2000 and
2001, and the related statements of operations, stockholders' equity and cash
flows for each of the three years in the period ended December 31, 2001. Our
audits also included the financial statement schedule listed in the index at
Item 14(a)(2). These financial statements and the financial statement schedule
are the responsibility of I-Sector's management. Our responsibility is to
express an opinion on these financial statements and the financial statement
schedule based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly,
in all material respects, the financial position of I-Sector as of December 31,
2000 and 2001, and the results of its operations and its cash flows for each of
the three years in the period ended December 31, 2001 in conformity with
accounting principles generally accepted in the United States of America. Also,
in our opinion, such financial statement schedule, when considered in relation
to the basic consolidated financial statements taken as a whole, present fairly
in all material respects the information set forth therein.
/s/ Deloitte & Touche LLP
Houston, Texas
March 18, 2002
I-SECTOR CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
AS OF DECEMBER 31, 2000 AND 2001
(In thousands, except share and par value amounts)
.........
ASSETS 2000 2001
Current Assets:
Cash and cash equivalents $ 8,346 $ 3,434
Accounts receivable, net 4,473 4,302
Accounts receivable - affiliates 303 250
Accounts receivable - other 141 21
Notes receivable 169
Inventory 774 587
Cost and estimated earnings in excess of billings 1,695
Income taxes receivable 863 151
Other current assets 233 302
Total current assets 15,133 10,911
Property and equipment, net 1,579 1,226
Intangible assets 326 1,356
Other assets 104 55
$ 17,142 $ 13,548
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Current portion of long term debt $ $ 213
Accounts payable 1,892 1,772
Billings in excess of cost and estimated earnings 503 72
Accrued expenses 1,635 2,091
Net liabilities related to discontinued operations 869 654
Deferred service revenue 136 126
Total current liabilities 5,035 4,928
Long term debt 410
Deferred credit - stock warrants 195 195
Commitments and Contingencies (See Note 10)
Stockholders' Equity:
Preferred stock, $.01 par value, 5,000,000
shares authorized, no shares issued
Common stock, $.01 par value, 15,000,000
shares authorized, 4,441,325 issued
at December 31, 2000 and 2001,
respectively 44 44
Additional paid in capital 10,182 10,184
Unearned equity compensation (1)
Treasury stock, at cost, 399,800 and
591,800 shares at December 31, 2000
and 2001, respectively (992) (1,187)
Retained earnings 2,679 (1,026)
Total stockholders' equity 11,912 8,015
$ 17,142 $ 13,548
See notes to consolidated financial statements.
I-SECTOR CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 1999, 2000 AND 2001
(In thousands, except share and per share amounts)
Years ended December 31,
1999 2000 2001
Total revenue $ 17,984 $ 17,087 $ 23,620
Cost of goods and services 11,806 12,968 17,325
Gross profit 6,178 4,119 6,295
Selling, general and administrative expenses 6,207 9,479 10,573
Operating loss 29 5,360 4,278
Interest and other income, net 23 239 316
Loss from continuing operations before
benefit for income taxes 6 5,121 3,962
Provision (benefit) for income taxes 20 (1,493) (87)
Net loss from continuing operations 26 3,628 3,875
Discontinued operations:
Net income (loss) from discontinued
operations, net of taxes 319 195 (167)
Gain (loss) on disposal, net of taxes (1,138) 3,390 337
Net loss $ 845 $ 43 $ 3,705
Net income (loss) per share:
Basic and diluted:
Net loss from continuing operations $ (0.01) $ (0.90) $ (0.99)
Net income (loss) from discontinued operations 0.08 0.05 (0.04)
Gain (loss) on disposal (0.27) 0.84 0.08
Net loss per share $ (0.20) $ (0.01) $ (0.95)
Weighted average number of shares outstanding:
Basic and diluted 4,168,140 4,059,618 3,911,019
See notes to consolidated financial statements
I-SECTOR CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1999, 2000 AND 2001
(In thousands, except share and per share amounts)
$.01 par value Additional Unearned
Common Stock Paid-In Treasury Equity Retained
Shares Amount Capital Stock Compensation Earnings Total
Balance at January 1, 1999 4,502,411 $ 45 $ 10,196 $ (834) $ (269) $ 3,567 $ 12,705
Cancellation of restricted stock (61,086) (1) (159) 268 108
Purchase of treasury stock (138) (138)
Net loss (845) (845
Balance at December 31, 1999 4,441,325 44 10,037 (972) (1) 2,722 11,830
Purchase of treasury stock (20) (20)
Fair value of stock options to
Non-employees 145 145
Net loss (43) (43)
Balance at December 31, 2000 4,441,325 44 10,182 (992) (1) 2,679 11,912
Purchase of treasury stock (195) (195)
Satisfaction of restricted stock 1 1
Issuance of restricted stock 2 2
Net loss (3,705) (3,705)
Balance at December 31, 2001 4,441,325 $ 44 $ 10,184 $ (1,187) $ $ (1,026) $ 8,015
See notes to consolidated financial statements.
I-SECTOR CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1999, 2000 AND 2001
(In thousands, except share and per share amounts)
Years ended December 31,
1999 2000 2001
CASH FLOW FROM OPERATING ACTIVITIES:
Net loss $ (845) $ (43) $ (3,705)
Adjustments to reconcile net loss to net
cash provided by (used in) operating activities:
Net (income) loss from discontinued operations (319) (195) 167
(Gain) loss on disposal of discontinued operations 1,138 (3,390) (337)
Depreciation and amortization 850 766 666
Current income tax benefit (87)
Satisfaction of restricted stock 1
Loss on r