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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
/X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1997
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: 1-12727
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SENTRY TECHNOLOGY CORPORATION
(EXACT NAME OF THE REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 96-11-3349733
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(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
350 WIRELESS BOULEVARD, HAUPPAUGE, NEW YORK 11788
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(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (516) 232-2100
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Securities registered pursuant to Section 12(b) of the Act:
NAME OF EACH EXCHANGE
TITLE OF EACH CLASS: ON WHICH REGISTERED:
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Common Stock, $.001 par value American Stock Exchange
Class A Preferred Stock, $.001 par value American Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None
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 the 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. |_|
At March 26, 1998, the aggregate market value of the voting stock held by
non-affiliates of the Registrant was approximately $11,644,000, based upon
the closing price of such securities on the American Stock Exchange on that
date. At March 26, 1998, the Registrant had outstanding 9,750,760 shares of
Common Stock and 5,079,244 shares of Class A Preferred Stock.
DOCUMENTS INCORPORATED BY REFERENCE
None.
PART I
ITEM 1. BUSINESS.
FORMATION OF THE COMPANY
At a special meeting of shareholders of Knogo North America Inc., a
Delaware corporation ("Knogo"), and a special meeting of shareholders of Video
Sentry Corporation, a Minnesota Corporation ("Video"), each held on February 12,
1997, the shareholders of Knogo and the shareholders of Video, respectively,
approved the Amended and Restated Agreement and Plan of Reorganization and
Merger, dated as of November 27, 1996, as subsequently amended (the "Merger
Agreement"), by and among Knogo, Video, Sentry Technology Corporation, a
Delaware corporation (the "Registrant," the "Company" or "Sentry"), Strip Merger
Corp., a Delaware corporation, and Viking Merger Corp., a Minnesota corporation,
and the transactions contemplated thereby.
Pursuant to the Merger Agreement, on February 12, 1997 (the "Effective
Date"), each of Knogo and Video became a wholly-owned subsidiary of Sentry, with
(a) each former Knogo shareholder being entitled to receive one share of Sentry
Common Stock, par value $.001 per share ("Sentry Common Stock"), and one share
of Sentry Class A Preferred Stock, par value $.001 per share ("Sentry Class A
Preferred Stock"), for each 1.2022 shares held of Knogo Common Stock, par value
$.01 per share, and (b) each former Video shareholder being entitled to receive
one share of Sentry Common Stock for each share held of Video Common Stock, par
value $.01 per share. This series of transactions is referred to herein
collectively as the "Merger."
The Merger was accounted for under the purchase method of accounting.
Although Video shareholders received a majority voting interest in Sentry based
upon their common stock ownership percentage, generally accepted accounting
principles requires consideration of a number of factors, in addition to voting
interest, in determining the acquiring entity for purposes of purchase
accounting treatment. As a result of these factors, further described in Note 1
to the Consolidated Financial Statements, and solely for accounting and
financial reporting purposes, the Merger was accounted for as a reverse
acquisition of Video by Knogo. Accordingly, the financial statements of Knogo
are the historical financial statements of Sentry and the results of Sentry's
operations include the results of operations of Video Sentry after the Effective
Date.
GENERAL
Sentry, incorporated in October 1996, is a holding company for Video and
Knogo and their respective subsidiaries. Accordingly, the business of Sentry is
the business conducted by Video and Knogo and their respective subsidiaries.
Prior to the Effective Date, Sentry had not conducted any business activities,
other than those incident to its formation, its execution of the Merger
Agreement and related agreements, and the taking of other actions in connection
with the Merger.
VIDEO
Video designs, manufactures, markets, installs and services a programmable
traveling closed circuit television ("CCTV") surveillance system that delivers a
high quality video picture which is used in a wide variety of applications.
Video also acts as a system integrator of conventional CCTV products that it
markets, installs and services. Video's predecessor was founded in 1990 and made
its first sales in 1992.
Video's proprietary CCTV system, called SentryVision(R), is well suited for
loss prevention surveillance in retail stores and distribution centers and
security surveillance for monitoring and deterring illegal and unsafe activities
in a variety of other locations such as parking garages, correctional facilities
and public transit terminals. The SentryVision(R) system may also be employed in
a broad range of operational and process monitoring applications in commercial
manufacturing and industrial settings. As of December 31, 1997, 815
SentryVision(R) systems had been installed in approximately 322 customer
locations nationwide. Current customers include Lowe's Home Centers, Target
Stores, Eckerd Corporation, Mills Fleet Farm, Winn Dixie, Estee Lauder, Kohl's
Department Stores and Marsh Supermarket. The Company believes that, by expanding
surveillance coverage, the SentryVision(R) systems have enabled customers to
significantly reduce inventory shrinkage, increase theft apprehension rates and
improve merchandising flexibility. Based on the price of its system and the
experience of Video's customers to date, the Company believes the
SentryVision(R) system is a cost-effective loss prevention solution which can
improve the profitability of its customers.
The Company believes that the SentryVision(R) system is the only proven,
commercially accepted, traveling CCTV system currently available. The
SentryVision(R) system consists of two CCTV cameras mounted on a camera carriage
assembly designed to move horizontally through a tinted enclosure that conceals
the camera's location. The system's unique, cable-free design allows the camera
to move freely and rapidly through the enclosure while transmitting a continuous
video signal to provide increased surveillance coverage. The Company believes
the major advantage of the SentryVision(R) traveling surveillance system over
conventional fixed-mount or pan/tilt/zoom ("PTZ") dome surveillance cameras is
the system's ability to provide uninterrupted security monitoring and
surveillance over large areas and over areas which have numerous visual
obstructions, often at a lower system cost. The SentryVision(R) system permits
the monitoring of activities in areas that traditionally have been difficult to
monitor, such as aisles with overhead signs, hidden corridors, areas between
vehicles, and other obstructed areas. The system is configured to meet each
customer's specific surveillance needs and is often integrated with the
customer's existing peripheral surveillance equipment.
KNOGO
Knogo is engaged in the design, manufacture, sale, installation and
servicing of a complete line of electronic article surveillance ("EAS")
equipment. Knogo was incorporated in Delaware in October 1996, while its
corporate predecessors had been in business for over 30 years. Knogo's immediate
predecessor, also named Knogo North America, Inc. (the "Knogo Predecessor") was
created in connection with an Amended and Restated Agreement and Plan of Merger
(the "Sensormatic Merger Agreement"), dated as of August 14, 1994, among
Sensormatic Electronics Corporation ("Sensormatic"), Knogo Corporation ("Old
Knogo") and the Knogo Predecessor. Pursuant to the Sensormatic Merger Agreement,
Old Knogo merged with and into Sensormatic on December 29, 1994 (the
"Sensormatic Merger"). Immediately prior to the Sensormatic Merger, Old Knogo
contributed to the Knogo Predecessor all of Old Knogo's operations in the United
States, Canada and Puerto Rico (the "Territory") and distributed all of the
stock of the Knogo Predecessor to the former shareholders of Old Knogo (the
"Spinoff").
Certain information in this Annual Report on Form 10-K is presented as if
the Sensormatic Merger and Spinoff were consummated on March 1, 1993. In
addition, certain information reflects that, at the time of the Spinoff, the
Knogo Predecessor changed its fiscal year end from February 28 to December 31.
The EAS systems which Knogo manufactures are based upon three distinct
technologies. One system, the Swept Radio Frequency ("Knoscape RF(TM)") system,
uses medium frequency transmissions in the two to nine megahertz range. The
second system, the Dual Radio Frequency ("Ranger(TM)") system, uses ultra-high
frequency radio signals in the 902 megahertz and 928 megahertz bands. The third
system, Micro-Magnetics ("Knoscape MM(TM)"), uses very low frequency
electromagnetic signals in the range of 218 hertz to nine kilohertz. Knogo also
manufactures a non- electronic dye-stain pin ("KnoGlo(TM)"). In addition, prior
to the Effective Date, Knogo marketed a CCTV system, known as "The KNOGO
Surveillor(TM)." Effective April 1, 1996, Knogo became an authorized distributor
of the library security systems and related products of Minnesota Mining and
Manufacturing Company ("3M").
The principal application of Knogo's products is to detect and deter
shoplifting and employee theft in supermarket, department, discount, specialty
and various other types of retail stores including bookstores, video, liquor,
drug, shoe, sporting goods and other stores. The use of these products reduces
inventory shrinkage by deterring shoplifting, increases sales potential by
permitting the more open display of greater quantities of merchandise, reduces
surveillance responsibilities of sales and other store personnel and, as a
result, increases profitability for the retailer. In addition, Knogo's EAS
systems are used in non-retail establishments to detect and deter theft, in
office buildings to control the loss of office equipment and other assets, in
nursing homes and hospitals for both asset and patient protection, and in a
variety of other applications.
Knogo has also devoted resources to the development of its asset protection
business in non-traditional areas, particularly in the area of manufactured hard
goods such as printed circuit boards, computer processor and memory chips and
related components. While no significant revenue has been received to date in
connection with this line of business, the Company believes the potential for
growth in this market may be considerable.
THE SENTRYVISION(R) SYSTEM
The SentryVision(R) system consists of a camera carriage unit, a continuous
track with a tinted enclosure and electronic control equipment. The carriage
unit moves within the enclosure and carries two pan/tilt/zoom CCTV cameras,
electronic transmission components and motor drives. The carriage track and
enclosure are designed to custom lengths for more complete viewing. Using
Video's patented transmission technology, the carriage unit transmits a video
signal from the camera(s) through two copper conductors running inside the
enclosure to a receiver unit located at one end of the carriage track. The
copper conductors also carry power to the camera carriage, eliminating the need
for power or communication cables. From the receiver unit, the video signals are
relayed to a central monitoring location by wire or fiber optics, where a system
operator can position or move the camera carriage to obtain the best vantage
point while viewing and recording the continuous, live video pictures. The
system design supports conventional peripheral devices, such as videocassette
recorders, alarm inputs, fixed cameras, PTZ dome cameras, switches/multiplexers,
and voice intercom systems.
The SentryVision(R) system typically employs two high resolution cameras
facing opposite directions and operates at variable speeds up to 15 feet per
second. The system is designed to allow three control modes: manual control,
automated control or automatic patrol. This configuration enables the system to
respond to control commands provided externally to the system through a serial
interface port. In addition, the SentryVision(R) system utilizes the RS-232
communication protocol, which allows the SentryVision(R) carriage control to be
integrated with any industry standard controller. In the manual control mode,
the combination of carriage movement, camera PTZ features, and the ability to
view from each side of the enclosure, enables the user to manually follow and
record persons engaging in suspected activities from a central control station.
Under the automated control mode, the system operates as a component in an
automated control system. When engaged in the automatic patrol mode, which is
still under development by the Company, the carriage is expected to
automatically travel through pre-programmed "tours" of a facility, affording
precise camera views of intended target locations. The Company anticipates that
such tours may be programmed for full end-to-end facility observation, random
view facility observation, or user-defined facility observation with a series of
stops at precise locations focusing on precise views.
RETAIL MARKET APPLICATIONS. Video sold its first systems in 1992 for
installation in parking garage security surveillance applications, but quickly
moved its market focus into the retail sector. In this sector, the Company has
identified a number of specific market segments for which the SentryVision(R)
systems are well suited for loss prevention surveillance, including home
centers, mass merchandise chains, supermarkets and drug stores, as well as
related distribution centers. The key application is inventory loss prevention
in the stores, stock rooms and distribution centers.
The SentryVision(R) system is typically installed in retail stores which
use a checkout area at the front of the store and product display configurations
and high merchandise shelving which form rows and aisles. Video specializes in
designing system applications which are customized to fit a customer's specific
needs and which integrate the customer's existing surveillance equipment (PTZ
dome and fixed-mount cameras) with the SentryVision(R) system. The flexibility
of the system allows the customer to specify target-coverage areas ranging from
stock rooms to total store coverage and focus on shoplifting or employee theft.
The SentryVision(R) system is installed near the ceiling along the rows of cash
registers and between the ends of the merchandise aisles. This allows the
retailer to easily observe both the cash handling activities of cashiers in the
checkout area and customer activities between the merchandise rows, despite the
presence of hanging signs and other obstructions. The entire sales floor can be
monitored efficiently by focusing up and down the aisles and by moving the
carriage horizontally from aisle to aisle, or from cash register to cash
register. In addition, with the use of camera tilt and zoom lens features,
activities in each area can be monitored in greater detail. Results from Video's
current installations indicate significant improvements in detecting shoplifting
and employee theft. Customers using the SentryVision(R) system have reported
significant reductions in theft-related inventory shrinkage.
- HOME CENTERS. Video has installed 588 systems in 220 store
locations for six customers in the home center segment of
the retail market. Home centers represent Video's fastest
growing market segment. In the past three years, the
SentryVision(R) system has been installed in 192 locations
for Lowe's Home Centers, a 445 store chain, and in 23
locations for Mills Fleet Farm, a 32 store regional
hardware, home supply and discount retail chain. Both
companies required systems for total floor coverage, with
Lowe's Home Centers choosing to integrate track cameras with
PTZ dome and fixed-mount cameras, while Mills Fleet Farm
chose to use only the track camera system. Video received
SECURITY magazine's "Best" award for New Security
Installation in June 1994 for its installation in the Mills
Fleet Farm store in Brooklyn Park, Minnesota.
According to industry publications, the home centers market
consists of approximately 5,100 companies operating over
20,000 stores in the United States, with the top ten
companies operating over 5,500 stores. Typical systems for
home centers installations range in price from $20,000 to
$30,000 for smaller stores and from $80,000 to $150,000 for
larger stores requiring more carriage runs to provide
adequate coverage.
- MASS MERCHANDISE CHAINS. Video has installed 48 systems in
24 store locations for ten customers in this segment,
including Target Stores and TJ Maxx. The targeted coverage
varies extensively in these installations from only stock
rooms to total store coverage. According to industry
publications, in 1996 the mass merchandise market in the
United States had approximately 140 companies operating over
10,000 store locations, with the top nine companies
operating approximately 7,400 of these stores. Typical
systems for mass merchandise stores range in price from
$20,000 to $30,000 for smaller stores or target coverage
areas and from $90,000 to $130,000 for large systems.
- SUPERMARKETS. Video has installed 24 systems in 23 store
locations for seven supermarket customers. The targeted
coverage in most of these installations has been the entire
retail space. The supermarket segment of the market is very
fragmented in the United States. According to industry
publications, in 1996 approximately 2,000 companies operated
nearly 35,000 stores, with over half of those companies
having fewer than four stores. The top 28 companies operate
more than half of the total stores. Typical systems for
supermarket installations range in price from $15,000 to
$20,000 for smaller stores to $40,000 to $50,000 for larger
stores.
- DRUG STORES. Video has installed 23 systems in 23 store
locations for two drug store customers, including a major
national drug store chain of approximately 1,750 stores. The
targeted coverage area for these customers is the entire
store. According to industry publications, in 1996 the drug
store market consisted of approximately 1,500 companies
operating approximately 21,000 stores. Typical systems for
the drug store market range in price from $15,000 to $25,000
for smaller stores and from $40,000 to $50,000 for larger
stores.
- DISTRIBUTION CENTERS. Video also provides loss prevention
surveillance for retail distribution centers and warehouses,
and has installed 54 systems in 27 distribution centers for
18 different customers. Traveling through a facility from an
overhead position, the SentryVision(R) system can monitor
activities occurring between the stacked rows of cartons or
lines of hanging garments. The system can also move a
surveillance camera into position to monitor shipping and
receiving docks and parked delivery trucks. To achieve
surveillance capabilities equivalent to those of the
SentryVision(R) system, a conventional PTZ dome system or
fixed-mount CCTV camera would have to be installed at every
desired vantage point, requiring numerous cameras,
additional equipment and wiring and increased installation
and operating costs. Even though the potential number of
retail distribution centers is much smaller than the related
number of store locations, the Company believes that such
distribution center installations, in addition to providing
an important revenue source, provide a potential point of
entry into the retail stores of a number of major retailers.
Typical systems for distribution center installations range
in price from $40,000 to $50,000 for a small system to over
$200,000 for a large system.
- SECURITY SURVEILLANCE. Video has installed 74 systems in
three parking garages for two customers. The coverage area
is the total parking ramp including in and around the parked
cars. In addition, Video has installed one system in a bus
terminal to provide coverage of the maintenance area of the
garage. In 1997, the Company installed systems at the U.S.
Postal Service, the Federal Reserve System and two systems
at the Texas Department of Criminal Justice, the first
correctional facility customer for the Company. The Company
has made additional proposals to correctional facilities,
airport terminals, airport baggage handling and baggage
claim areas as well as airport parking facilities.
While the security surveillance and operation and process monitoring
markets may significantly benefit from the increased security, surveillance and
monitoring provided by the SentryVision(R) system, such applications have been
limited to date. The Company believes future orders in these additional markets
may be characterized by long lead times between proposals and shipments, and
that marketing and other related expenses may be incurred in periods prior to
the recognition of any matching sales.
CONVENTIONAL CCTV SYSTEM
Conventional CCTV is cost effective and the most widely used loss
prevention system in North America. Conventional CCTV uses all the basic
components of the video surveillance industry including fixed and dome cameras,
VCR's, monitors, switches, multiplexers and controllers. As all of this
equipment is manufactured for Video by outside vendors, the Company can provide
its customers with state-of-the-art equipment for specific applications at
favorable costs. The Company believes that, while less profitable than
SentryVision(R) and traditional EAS products, the CCTV products complement the
Company's other surveillance systems and provide retailers with further
protection against internal theft and external shoplifting activities. CCTV
systems can also be electronically connected to EAS systems, causing a video
record to be generated when an alarm is triggered.
Remote video surveillance or remote digital CCTV is another potential
growth area for Video. These systems allow customers to monitor remote sites
using existing communication lines and a PC-based system. Video camera images
are stored and manipulated digitally, substituting the PC for the VCR and
eliminating the videotape. Video markets the Remote Watch(TM) Pro system with
software developed by Alpha Systems Lab, a third-party vendor.
Video's customers include ten of the top 20 United States retailers.
According to STORES magazine, the top 20 retailers have approximately 45,000
stores. The Company's strategy is to build upon Video's initial retail sales by
implementing a direct sales program targeting the retail market, including the
top 100 United States retailers.
EAS SYSTEMS
EAS systems consist of detection devices which are triggered when articles
or persons tagged with wafers or tags pass through the detection device. The
principal application of the Knoscape RF(TM) and Ranger(TM) systems is to detect
and deter theft of soft goods such as clothing, while the Knoscape MM(TM)
systems are primarily used to detect and deter the theft of hard goods including
packaged goods and books.
At December 31, 1997, the approximate number of Knogo's Knoscape RF(TM) and
Ranger(TM) systems sold or leased in the Territory exceeded 13,700. At that
date, the approximate number of Knogo's Knoscape MM(TM) systems sold or leased
in the Territory exceeded 9,300.
SWEPT AND DUAL RADIO FREQUENCY DETECTION SYSTEMS
Knogo manufactures and distributes the Knoscape RF(TM) system, the
principal application of which is to detect and deter shoplifting and employee
theft of clothing in retail establishments. Knogo also manufactures and
distributes the Ranger(TM) system, which the Company believes is a particularly
useful and cost efficient EAS system for soft-goods retail stores with wide
mall-type exit areas which ordinarily would require multiple Knoscape RF(TM)
systems for adequate protection. The Knoscape RF(TM) and Ranger(TM) systems
consist of radio signal transmission and monitoring equipment installed at exits
of protected areas, such as doorways, elevator entrances and escalator ramps.
The devices are generally located in panels or pedestals anchored to the floor
for a vertical arrangement or mounted in or suspended from the ceiling and
mounted in or on the floor for a horizontal arrangement. The panels or pedestals
are designed to harmonize with the decor of the store. The monitoring equipment
is activated by tags, containing electronic circuitry, attached to merchandise
transported through the monitored zone. The circuitry in the tag interferes with
the radio signals transmitted through the monitoring system, thereby triggering
alarms, flashing lights or indicators at a central control point, or triggering
the transmission of an alarm directly to the security authorities. By means of
multiple installations of horizontal Knoscape RF(TM) systems or installation of
one or more Ranger(TM) systems, the Company's products have the ability to
protect any size entrance or exit.
Tags are manufactured in a variety of sizes and types and are attached
directly to the articles to be protected by means of specially designed fastener
assemblies. A tag is removed from the protected article, usually by a clerk at
the checkout desk, by use of a decoupling device specially designed to
facilitate the removal of the fastener assemblies with a minimum of effort.
Removal of the tag without a decoupler is very difficult and unauthorized
removal will usually damage the protected article and thereby reduce its value
to a shoplifter. Optional reminder stations automatically remind the store
clerk, by means of audiovisual indicators, to remove the tag when the article is
placed on the cashier's desk.
Knoscape RF(TM) and Ranger(TM) systems generally have an economic useful
life of six years (although many of Knogo's systems have been operating for
longer periods), have a negligible false alarm rate and are adaptable to meet
the diversified article surveillance needs of individual retailers.
MAGNETIC DETECTION SYSTEMS
The primary application of Knoscape MM(TM) systems is to detect and deter
theft in "hard goods" applications such as supermarkets, bookstores and in other
specialty stores such as video, drug, liquor, shoe, record, sporting goods and
similar stores.
Knoscape MM(TM) systems use detection monitors which are activated by
electromagnetically sensitized strips. The MM targets are typically attached to
the articles to be protected when price tags are affixed and are easily
camouflaged on a wide array of products. The detection monitors used by the
Knoscape MM(TM) systems are installed at three to five foot intervals at the
exits of protected areas. The magnetic targets can be supplied in many forms and
are attractively priced, making them suitable for a variety of retail
applications. In addition, the MM targets can be manufactured to be activated
and deactivated repeatedly while attached to the articles to be protected, which
the Company believes is a particularly desirable feature for use with items such
as compact discs, CD-Roms and videotapes, which may be "checked-out" and later
returned. Accurate deactivation is also very important when the item to be
protected is a personal accessory that will be carried by its owner from place
to place, such as pocket books, pens, lipstick, shoes, camera film and cameras.
The Knoscape MM(TM) system offers retailers several features not available
in Knoscape RF(TM) and Ranger(TM) systems. Since the target is very small,
relatively inexpensive and may be inserted at the point of manufacture or
packaging, it provides retailers with a great deal of flexibility and is
practical for permanent attachment to a wide variety of hard goods, especially
low profit-margin products. The target can be automatically deactivated at
check-out, eliminating the risk of triggering alarms when merchandise leaves the
store and saving sales personnel valuable time. Since the targets can be
incorporated directly into a price tag, they are convenient to use.
OTHER LOSS PREVENTION PRODUCTS
KNOGLO(TM)
KnoGlo(TM), a non-electronic, dye-stain pin, releases an indelible liquid
when tampered with. Used with passive locking mechanisms without electronics,
KnoGlo(TM) is often a retailer's first step in loss prevention. KnoGlo(TM) is
also employed in stores with EAS systems as an extra layer of protection. Such
protection is useful in problem areas (near mall door openings, for example) or
where users must maximize selling space.
BOOKINGS
Of Sentry's bookings in the Territory for the year ended December 31, 1997,
approximately 46% were attributable to the SentryVision(R) system, 15% to the
CCTV system, 14% to the Knoscape RF(TM) system, 9% to 3M library security
systems, 8% to the Knoscape MM(TM) system, 6% to the Ranger(TM) system and 2% to
KnoGlo(TM). For the year ended December 31, 1996 approximately 23% were
attributable to the CCTV system, 15% to the Knoscape RF(TM) system, 14% to 3M
library security systems, 30% to the Knoscape MM(TM) system, 16% to the
Ranger(TM) system and 2% to KnoGlo(TM). For the year ended December 31, 1995
approximately 12% were attributable to CCTV system, 21% to the Knoscape RF(TM)
system, 48% to the Knoscape MM(TM) system, 13% to the Ranger(TM) system, 2% to
KnoGlo(TM) and 4% to the Express system (a self-check system for libraries
("Express") which was sold by the Knogo Predecessor in March 1996).
MAJOR CUSTOMERS
Although the composition of the Company's largest customers has changed
from year to year, a significant portion of the Company's revenues has been
attributable to a limited number of major customers. Sales to Sensormatic
accounted for 10%, 20% and 41% of total revenues in 1997, 1996 and 1995
respectively. In 1997, Lowe's Home Centers accounted for 18%, and in 1996
Goody's Family Clothing accounted for 13%, of total revenues, respectively. No
other customers accounted for more than 10% of the Company's sales during 1997,
1996 or 1995. While the Company believes that one or more major customers could
account for a significant portion of the Company's sales for at least the next
two years, the Company anticipates that its customer base will continue to
expand and that in the future the Company will be less dependent on major
customers.
PRODUCTION
VIDEO
Video's manufacturing operations consist primarily of the assembly of its
camera carriages and control units using materials and manufactured components
purchased from third parties. Video is not dependent upon any particular
supplier for these materials or components. Some parts are stock,
"off-the-shelf" components, and other materials and system components are
designed by Video and manufactured to Video's specifications. Final assembly
operations are conducted at the Company's facilities in Cidra, Puerto Rico or
Hauppauge, New York. System components and parts include cameras, circuit
boards, electric motors and a variety of machined parts. Each system component
undergoes a quality assurance check by Video prior to its shipment to an
installation site. Video is not subject to any state or federal environmental
laws, regulations or obligations to obtain related licenses or permits in
connection with its manufacturing and assembly operations.
Product installation and service are performed and monitored by the
Company's customer service department. Installations typically take from three
days to three weeks and consist of mounting the enclosures, installing the
controller unit, installing the carriage assembly, and connecting control and
transmission cables to the central monitoring location. Items such as high
voltage power termination wiring are typically the responsibility of the end
user.
KNOGO
Knogo produces at the Company's facilities in Cidra, Puerto Rico and, to a
lesser extent, Hauppauge, New York, or purchases through suppliers, its Knoscape
RF(TM), Ranger(TM), Knoscape MM(TM), KnoGlo(TM) and CCTV systems, or their
components. Production consists of assembling electronic and mechanical
components and printed circuitry which Knogo purchases from various suppliers.
Knogo's specially designed tools, plastic cases for the tags, and the target
bands used in Knogo's system for patient and personnel control, are produced to
Knogo's specifications by independent contractors using existing molds and
tooling. Knogo is not dependent on any one supplier or group of suppliers of
components for its systems. The Company's policy is to maintain Knogo's
inventory at a level which is sufficient to meet projected demand for its
products. The Company does not anticipate any difficulties in continuing to
obtain suitable components for Knogo at competitive prices in sufficient
quantities as and when needed.
In January 1996, Knogo acquired a controlling interest in K&M Converting
Corp. ("KMCC"). KMCC is a joint venture entered into with Marian Rubber Products
Co., Inc. ("Marian"). KMCC is the exclusive converter of magnetic material into
disposable targets or labels used in Knogo's EAS systems.
MARKETING
The Company markets its products for Video and Knogo, jointly, through the
direct efforts of approximately 30 salespersons located in select metropolitan
areas across the United States and Canada, as well as through participation in
trade shows, advertising in trade publications and by targeted direct mailings.
The Company's customers include some of the major retail stores and store chains
in North America.
VIDEO
To date, all SentryVision(R) and conventional CCTV Systems have been sold
on a direct sale basis. Typical billing arrangements for SentryVision(R) systems
have been invoicing 50% of total cost upon shipment of the product and 50% on
the completion of the installation. In 1998, the Company expects to also
introduce a leasing program for customers, using a third party leasing company.
While most of the current SentryVision(R) and conventional CCTV sales have
been made to home centers, retail chains and distribution centers, the Company's
1998 marketing plan for Video also emphasizes correctional facilities, public
and private garages and commercial and industrial prospects.
Beginning in late 1997, the Company began marketing its SentryVision(R)
product line in selected territories in the United States and Canada through
independent sales representatives. The Company intends to hire up to 11 sales
representatives in 1998 who will be compensated on a commission only basis.
In addition, the Company began to market SentryVision(R) internationally
using independent distributors. The distribution agreements generally appoint a
distributor for a specified term as the exclusive distributor for a specified
territory. The agreements require the distributor to purchase a specified dollar
amount of the Company's product during the term of the agreement. The Company
sells its products to independent distributors at prices below those charged to
end-users because distributors typically make volume purchases and assume
marketing, customer training, installation, servicing and financing
responsibilities. During 1997, agreements were made with independent
distributors for South America, Central America, the Caribbean, South Africa and
Korea.
During 1997 Video placed in service 148 SentryVision(R) systems and 1,812
CCTV cameras and peripherals.
KNOGO
Knogo EAS systems are marketed on both a direct sales and lease basis, with
direct sales representing the majority of the business. The terms of the
standard leases are generally from one to five years. The sales prices and lease
rates vary based upon the type of system purchased or leased, number and types
of targets included, the sophistication of the system employed and, in the case
of a lease, its term. In the case of the Knoscape MM(TM) systems, detection
targets which are permanently attached to the item to be protected are sold to
the customer even when the system is leased. Therefore, in the case of either a
sale or lease of a Knoscape MM(TM) system, as the customer replenishes its
inventory, additional targets will be required for those items to be protected.
The Company also markets a more expensive, removable, reusable detection tag for
use with the Knoscape MM(TM) systems on certain products such as clothing and
other soft goods.
During the year ended December 31, 1997, Knogo placed in service in the
Territory over 600 Knoscape RF(TM), Ranger(TM), and Knoscape MM(TM) systems. The
Company does not believe that the loss of any one EAS customer would have a
material adverse effect on the Company's business.
The Company believes that the supermarket industry is a significant
potential market in North America for EAS systems, and believes Knogo's
technology and service capabilities give the Company an important advantage in
the supermarket sector.
The Company believes the library market continues to be a significant
growth market for magnetic technology. In March 1996, 3M and the Knogo
Predecessor entered into a strategic alliance to provide universal asset
protection to libraries across North America. The Company believes that this
strategic alliance has strengthened service to library customers. The agreement,
effective April 1, 1996, permits Knogo to act as a distributor of all of 3M's
library products, including the 3M Tattle-Tape(TM) Security Strips, detection
systems, 3M SelfCheck System hardware and software and other 3M library
materials flow management products and accessories to public, academic and
government libraries. In addition, under the agreement 3M provides service and
installation for all new and existing Knogo library customers throughout North
America.
In May 1997, Sentry commenced a joint venture with Talon Medical Ltd.
("Talon") whereby Talon has agreed to serve as Sentry's exclusive distributor of
EAS systems to the healthcare industry in North America. Talon, a Texas- based
medical device company, will promote KIDSTAT(TM), a perimeter control and infant
identification system which can help prevent infant abduction and accidental
infant switching in hospitals. According to reports published by The National
Center for Missing and Exploited Children, infant abductions occur approximately
12 to 18 times per year, and accidental infant switches may occur over 20,000
times per year.
In September 1995, Knogo and Asset Management Technologies ("AMT"), a loss
prevention consultant to the computer industry, signed an exclusive marketing
agreement to provide EAS technology services to the computer industry. The
Company believes that the integration of Knogo's SecureBoard(TM) system into an
overall loss prevention program in the computer industry would significantly
curb thefts of PC boards, memory chips and other computer components. Using
SecureBoard(TM) technology, licensed KNOGO ENABLED(TM) board manufacturers can
embed EAS material into an internal layer of a printed circuit board, making
SecureBoard(TM) the first EAS system to be compatible with high volume printed
circuit board manufacturing processes. While marketing continues, no significant
revenue was produced from this market to date.
BACKLOG
The Company's backlog of orders was approximately $10.3 million at December
31, 1997 as compared with approximately $1.7 million at December 31, 1996. The
increase is due primarily to orders for the Company's SentryVision(R) systems.
The Company anticipates that substantially all of the backlog at the end of 1997
will be delivered during 1998. In the opinion of management, the amount of
backlog is not indicative of intermediate or long-term trends in the Company's
business.
SERVICE
Installation, repair and maintenance services for Video and Knogo are
performed primarily by the Company's personnel. All products sold or leased are
covered either by a short warranty period or an extended warranty period.
Generally, Video's products provide for a one-year warranty and Knogo's products
for a 90-day warranty. After the warranty period, the Company offers to its
customers the option of entering into a maintenance contract with the Company or
paying for service on a per call basis.
COMPETITION
The Company operates in a highly competitive market with many companies
engaged in the business of furnishing security services designed to protect
against shoplifting and theft. In addition to EAS systems using the concept of
tagged merchandise, such services use, among other things, conventional PTZ dome
and fixed mount CCTV systems, mirrors, guards, private detectives and
combinations of the foregoing. The Company competes principally on the basis of
the nature and quality of its products and services and the adaptability of
these products to meet specific customer needs and price requirements.
To the Company's knowledge, there are several other companies that market,
directly or through distributors, traditional closed circuit video systems
and/or EAS equipment to retail stores, of which Sensormatic, Checkpoint Systems,
Inc., Phillips, Inc., Pelco Manufacturing, Inc., and Ultrak, Inc. are the
Company's principal competitors. Many of the Company's competitors have far
greater financial resources, more experienced marketing organizations and a
greater number of employees than the Company.
In connection with the Spinoff and Sensormatic Merger, Knogo agreed with
Sensormatic that Knogo will not compete with Sensormatic in selling EAS and
conventional CCTV products in areas outside of the Territory through the period
ending December 29, 1999. However, the agreement does not affect Sentry's
ability to sell its SentryVision(R) system worldwide.
PATENTS AND OTHER INTELLECTUAL PROPERTY
VIDEO
Video's core United States patent, which expires in 2011, covers the
cable-free transmission of the video signal to and from the carriage. This
technology prevents degradation of the video signal which can result from
movement and prolonged friction caused by the carriage. A U.S. patent
application, filed in 1997, is pending for improvements made to such technology.
Video also has a corresponding Australian patent which was issued in 1995. The
Company also has pending five patents for additional corresponding foreign
patents. The Company intends to seek patent protection on specific aspects of
the SentryVision(R) system. In addition, the Company intends to seek patent
protection in the future for certain aspects of new systems which may be
developed for Video. There can be no assurance that any patents applied for will
be issued, or that the patents currently held, or new patents, if issued, will
be valid if contested or will provide any significant competitive advantage to
Video.
The Company is not aware of any infringement of patents or intellectual
property held by third parties. However, if Video is determined to have
infringed on the rights of others, Video and/or the Company may be required to
obtain licenses from such other parties. There can be no assurance that the
persons or organizations holding desired technology would grant licenses at all
or, if licenses were available, that the terms of such licenses would be
acceptable to the Company. In addition, the Company could be required to expend
significant resources to develop non-infringing technology.
The Company is aware of an Australian patent and an Australian patent
application describing certain aspects of a product which in some respects is
similar to the SentryVision(R) system. The Company's patent attorneys have
advised it that the Australian patent and Australian patent application appear
to have lapsed. To the Company's knowledge, the holder of the Australian patent
is not currently marketing, within the United States or Europe, the product
covered by the Australian patent. In addition, no issued patents or patent
applications corresponding to the Australian patent or the Australian patent
application have been uncovered in the United States or any other foreign
country.
The Company is also aware of a British patent application from a third
party disclosing aspects of a device which is in some respects similar to the
SentryVision(R) system. The Company's patent attorneys have advised it that the
British patent application appears to have lapsed. In addition, no issued
patents or patent applications corresponding to the British patent application
have been uncovered in the United States or any other foreign country. To the
Company's knowledge, the applicant is not currently marketing the product
described in the application.
Video has also relied on the registration of trademarks and tradenames, as
well as on trade secret laws and confidentiality agreements with its employees.
While the Company intends to continue to seek to protect Video's proprietary
technology and developments through patents, trademark registration, trade
secret laws and confidentiality agreements, the Company does not rely on such
protection to establish and maintain Video's position in the marketplace. The
Company's management believes that improvement of Video's existing products,
reliance upon trade secrets and on unpatented proprietary know-how, and the
development of new products will be as important as patent protection in
establishing and maintaining a competitive advantage.
KNOGO
Knogo has 23 United States and Canadian patents and three patent
applications relating to (i) the method and apparatus for the detection of
movement of articles and persons and accessory equipment employed by Knogo in
its Knoscape RF(TM), Ranger(TM) and Knoscape MM(TM) systems, (ii) various
specific improvements used in the Knoscape RF(TM), Ranger(TM) and Knoscape
MM(TM) systems and (iii) various electrical theft detection methods, apparatus
and improvements not presently used in any of Knogo's EAS systems. Although
patent protection is advantageous to Knogo, the Company's management does not
consider any single patent or patent license owned or held by Knogo to be
material to its operations, but believes that Knogo's competitive position
ultimately will depend on its experience, know-how and proprietary data,
engineering, marketing and service capabilities and business reputation, all of
which are outside the scope of patent protection.
Sensormatic and Knogo license certain patent rights and technology of Old
Knogo to each other, for use in their respective territories, pursuant to the
License Agreement dated December 29, 1994, entered into in connection with the
Sensormatic Merger. In addition, Sensormatic has rights to manufacture and sell
SuperStrip within the Territory.
RESEARCH AND DEVELOPMENT
At December 31, 1997, Sentry had 17 employees located in the United States
engaged either full- or part-time in research and engineering and product
development. The Company may from time to time retain consultants for specific
project assistance. For the years ended December 31, 1997, 1996 and 1995,
approximately $1,658,000, $1,686,000 and $1,537,000, respectively, was expended
on Company-sponsored research.
VIDEO
Historically, research and development has been conducted by the Company's
engineering, technical and support staff, and by independent contractors. These
activities have been integrated during 1997 with Knogo's research and
development arm. To date, Video's research and development efforts have focused
on developing and improving its traveling camera CCTV security surveillance
system.
During 1997, the majority of the Company's research and development
expenditures were directed first to the integration of the Video engineering
documentation with Knogo methods and practices and second to an effort to
improve the reliability, performance, and manufacturability of the
SentryVision(R) product. Improvements made to the SentryVision(R) system as a
result of the 1997 research and development effort include the following:
- upgrade of video cameras to one-piece, auto focus digital control
versions
- replacement of mechanical end of track sensors with magnetic sensors
- phase 1 drive mechanism update with belt drive
- phase 2 drive mechanism update using 2 drive motors
- carriage pre-set recall capability for parking garage applications
- improved brush block assembly
- digital carriage to controller communication upgrade
- redesign of major portions of the electronics for lower cost and
improved performance.
The Company believes that as a result of these changes there has been an
over-all improvement in customer satisfaction and a simultaneous reduction in
field service support costs.
While the major effort in 1997 was directed at the SentryVision(R) product,
the Company also supports a large base of previous generation Video Sentry
systems. These systems had been troubled by high failure rates of one particular
PC board on the moving carriage. In 1997 an entirely redesigned replacement for
the problem assembly was developed and the Company believes these problems have
been fully resolved.
While continuing to support and upgrade the installed base of the current
generation SentryVision(R) system and the previous generation systems, the
Company recognizes the need to develop newer versions of these systems which
will offer substantial improvements in cost, performance, and ease of
installation. A two phase approach to this goal is currently being implemented
by the research and development group. The first, and more immediate of these
two efforts will be to build on the improvements already made to the current
SentryVision(R) product while maintaining compatibility with the existing
system. The second, a longer term project, is the development of a substantially
new system which offers better performance and lower cost by exploiting PC
control technologies and dramatic reduction in the size of the carriage and
associated track. Completion of the first of these projects, and significant
progress on the second, is anticipated for 1998.
KNOGO
The Company also continued its research and development activities with
respect to its EAS products. In 1997, these included continued work on the
Knoscape-MM system relating to its introduction into the market, development of
the Knoscope-RF systems for hospital applications and additional retail
environments, and efforts to improve performance of the Ranger(TM) systems.
During 1997, Knogo entered into an agreement with a third party pursuant to
which Knogo is developing a low-cost 8MHz system for lower-tier retail
environments. This work is nearing completion and is expected to be in
production during the second quarter of 1998.
REGULATION
Because Knogo's EAS systems and Video's surveillance and CCTV systems use
radio transmission and electromagnetic wave principles, such systems are subject
to regulation by the Federal Communications Commission ("FCC") under the
Communications Act of 1934. In those instances where it has been required,
certification of such products by the FCC has been obtained. As new products are
developed by the Company, application will be made to the FCC for certification
or licensing when required. No assurance can be given that such certification or
licensing will be obtained or that current rules and regulations of the FCC will
not be changed in an adverse manner.
Sentry's business plan calls for the sale and use of Sentry's products in
domestic markets and, where consistent with contractual obligations, in
international markets. Sentry's products may be subject to regulation by
governmental authorities in various countries having jurisdiction over
electronic and communication use. Sentry intends to apply for certification of
its products to comply with the requirements under the regulations of the
countries in which it plans to market its products. No assurance can be given
that such certification will be obtained or that current rules and regulations
in such countries will not be changed in a manner adverse to Sentry.
The Company believes it is in material compliance with applicable United
States, state and local laws and regulations relating to the protection of the
environment.
EMPLOYEES
At December 31, 1997, the Company and its subsidiaries employed 266
full-time employees, of whom four were engaged in executive capacities, 28 in
administrative and clerical capacities, 16 in engineering, research and
development, 93 in production, 43 in marketing and sales and 82 in customer
service. None of the Company's employees are employed pursuant to collective
bargaining agreements. The Company believes that its relations with its
employees are good.
ITEM 2. PROPERTIES.
The Company's principal executive, sales and administrative offices, and
its United States production, research and development and distribution
facilities are located in Hauppauge, New York, in a 68,000 square foot facility
leased by the Company. The Company owns a 55,000 square foot manufacturing
facility in Cidra, Puerto Rico and a one- story building consisting of
approximately 6,000 square feet in Villa Park, Illinois, where its CCTV design
office is located. The former facilities of Video in Eden Prairie, Minnesota
have been sublet through the period ending with the termination of the overlease
on March 31, 1999.
ITEM 3. LEGAL PROCEEDINGS.
Although the Company is involved in ordinary, routine litigation incidental
to its business, it is not presently a party to any other legal proceeding, the
adverse determination of which, either individually or in the aggregate, would
be expected to have a material adverse affect on the Company's business or
financial condition.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
During the fourth quarter of the fiscal year ended December 31, 1997, there
were no matters submitted to a vote of the Company's security holders, through
the solicitation of proxies or otherwise.
PART II
ITEM 5. MARKET FOR THE COMPANY'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS.
(a) Price Range of Common Stock.
The following table sets forth, for the periods indicated, the high, low
and closing sales prices per share of common stock as reported on the American
Stock Exchange composite tape.
STOCK PRICES
-------------
HIGH LOW CLOSE
---- --- ------
1997
First Quarter (commencing February 13, 1997).......... $3 7/8 $2 1/4 $3 3/8
Second Quarter........................................ 4 1/4 2 1/4 4
Third Quarter......................................... 4 2 7/16 2 5/8
Fourth Quarter........................................ 3 1 5/16 1 1/2
1998
First Quarter (through March 26, 1998)............... $2 $1 3/8 $1 1/2
(b) Holders of Common Stock.
The Common Stock began trading on the American Stock Exchange on February
13, 1997 under the symbol "SKV." Prior to such date, no public market for the
Common Stock existed. As of March 26, 1998, the Company had 9,750,760 shares of
Common Stock issued and outstanding, which were held by 279 holders of record
and approximately 3,714 beneficial owners.
(c) Dividends.
The payment of future dividends will be a business decision to be made by
the Board of Directors of Sentry from time-to-time based upon the results of
operations and financial condition of Sentry and such other factors as the Board
of Directors considers relevant. Sentry has not paid, and does not presently
intend to pay or consider the payment of, any cash dividends on the Common
Stock. In addition, covenants in the Company's credit agreement prohibit the
Company from paying cash dividends without the consent of the lender.
Sentry is required to pay certain annual or semiannual dividends on the
Class A Preferred Stock. No consent of the Company's commercial lender is
required for such payment. The annual dividend rate on each share of the Class A
Preferred Stock has been fixed at five percent (5%) of the $5.00 per share face
value (the "Face Value") of such stock, payable as described below. The holders
of shares of the Class A Preferred Stock are entitled to receive dividends on
the following dates (each, a "dividend payment date"): February 12, 1998 and
1999, August 12, 1999 and 2000, February 12, 2000 and 2001; the 12 month period
ending on each of the first two dividend payment dates is an "annual dividend
period," the six month period ending on each of the next four dividend payment
dates is a "semi- annual dividend period," and each such annual dividend period
or semi-annual dividend period is a "dividend period." Dividends (whether or not
declared) are payable in additional shares of the Class A Preferred Stock during
the two annual dividend periods ending on the first two dividend payment dates
subsequent to issuance of the Class A Preferred Stock, such that holders shall
receive a dividend of 1/20th of a share of Class A Preferred Stock for each
share of Class A Preferred Stock held. The first such dividend was paid on
February 12, 1998. Beginning with the August 12, 1999 dividend, the holders of
shares of the Class A Preferred Stock are entitled to receive, in preference to
dividends on all classes of equity securities of Sentry to which the Class A
Preferred Stock ranks prior (such securities, the "Junior Stock"), and whether
or not declared a dividend payable in cash, out of funds legally available for
the payment of dividends, of $0.25 for each share of Class A Preferred Stock
held, which dividend shall accrue semi-annually and be due in equal installments
on each of the last four dividend payment dates. Each additional share of the
Class A Preferred Stock issued as a dividend shall be valued at the Face Value.
All dividends paid with respect to shares of the Class A Preferred Stock
pursuant to this paragraph shall be paid pro rata to the holders entitled
thereto.
Whenever, at any time or times, any dividend payable shall be in arrears,
the holders of the outstanding shares of Class A Preferred Stock shall have the
right, voting separately as a class, to elect two directors of Sentry no later
than two years after such dividend shall be, and continue, in arrears. Upon the
vesting of such right of the holders of Class A Preferred Stock, the maximum
authorized number of members of the Sentry Board shall automatically be
increased by two and the two vacancies so created shall be filled by vote of the
holders of the outstanding shares of Class A Preferred Stock. The right of the
holders of Class A Preferred Stock to elect two members of the Sentry Board as
aforesaid shall continue until such time as all dividends in arrears shall have
been paid in full, at which time such right shall terminate, except as herein or
by law expressly provided, subject to revesting in the event of each and every
subsequent default of the character above described.
If the Sentry Board declares, and Sentry pays or sets funds apart for
payment of, any dividend on any of the Junior Stock, the holders of the Class A
Preferred Stock shall share equally, share and share alike, in the distribution
of any and all dividends declared on such Junior Stock, provided that for this
purpose each share of Class A Preferred Stock shall be treated as one share of
such Junior Stock.
(d) Redemption Provisions of Class A Preferred Stock.
The shares of Class A Preferred Stock may be redeemed at the option of the
Company beginning February 12, 1998, and are mandatorily redeemable on February
12, 2001. The redemption price is $5.00 per share plus the amount, if any, by
which the average of the closing prices for a share of Common Stock during the
twenty trading-day period before redemption exceeds $5.00 (such aggregate price,
the "Redemption Price").
OPTIONAL REDEMPTION. Subject to the mandatory redemption provisions of the
Class A Preferred Stock summarized below, Sentry may, at its option, redeem the
Class A Preferred Stock for cash at any time in whole at the Redemption Price,
together with accrued and unpaid dividends, if any, thereon. If Sentry completes
a Public Offering (as defined below) or an Acquisition (as defined below) more
than 35 days prior to the Mandatory Redemption Date (as defined below), then
Sentry may, at its option, redeem the Class A Preferred Stock for Common Stock
at the then applicable Redemption Price.
"Public Offering" means an underwritten public offering of Common Stock
with net proceeds resulting therefrom in excess of $12,000,000. "Acquisition"
means an acquisition by Sentry of property of or securities issued by a third
party in which the consideration paid by Sentry (i) consists, in whole or in
part, of shares of Common Stock and (ii) the aggregate value of such shares of
Common Stock exceeds $12,000,000; provided that such aggregate value shall be
based upon the number of such shares of Sentry Common Stock multiplied by the
average of the closing prices for a share of Common Stock during the twenty
trading-day period before the closing date of such Acquisition.
MANDATORY REDEMPTION. On February 12, 2001 (the "Mandatory Redemption
Date"), so long as any shares of the Class A Preferred Stock shall be
outstanding, Sentry shall redeem at the then applicable Redemption Price any
issued and outstanding Class A Preferred Stock at the Redemption Price, together
with accrued and unpaid dividends, if any, thereon, for cash or Common Stock, at
Sentry's option.
For additional information with respect to the Class A Preferred Stock, see
the information set forth under the caption "Description of Capital Stock" in
the Prospectus which forms a part of the Company's Registration Statement on
Form S-4 (Registration no. 333-20135). See also Note 1 to the Consolidated
Financial Statements.
ITEM 6. SELECTED FINANCIAL DATA
The Company was incorporated in October 1996. However, information with
respect to the results of operations of the Company in this Form 10-K is
presented as if the Spinoff and Sensormatic Merger were consummated as of March
1, 1993. The table below sets forth selected consolidated historical financial
data of the Company for the year ended February 28, 1994, the ten-month period
ended December 31, 1994 and the years ended December 31, 1995, 1996 and 1997.
This consolidated financial data includes certain assets and liabilities of
Knogo, on a historical basis, relating to Knogo's operations in the United
States, Canada and Puerto Rico prior to February 12, 1997 and include the
results of operations of Video Sentry after that date. The selected consolidated
historical financial data should be read in conjunction with the audited
Consolidated Financial Statements of the Company included in Item 8 and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" included in Item 7.
(Amounts in thousands except for per share data)
Year ended Ten Months
February Ended Year
28, December 31, Ended December 31,
---------- ------------ ----------------------------------------
1994 1994 1995 1996 1997
========== ============ ========== ============= ==========
SUMMARY OF OPERATIONS DATA:
Sales, service, rentals and other ................ $ 18,243 $ 13,724 $ 17,361 $ 18,612 $ 21,996
Sales to affiliates/Sensormatic .................. 11,375 6,957 12,043 4,651 2,570
Total revenues ................................... 29,618 20,681 29,404 23,263 24,566
Cost of sales .................................... 14,631 10,041 14,425 11,935 12,882
Customer service expenses ........................ 3,984 3,353 3,235 2,932 4,772
Selling, general and administrative
expenses ......................................... 9,227 9,548 8,235 7,345 9,629
Gain on sale of assets ........................... -- -- -- 2,462 --
Write-off of in-process research and
development ...................................... -- -- -- -- 13,200
Income (loss) before income taxes ................ 762 (2,858) 1,941 1,847 (17,743)
Net income (loss) ................................ 123 (2,833) 1,731 1,183 (17,917)
Preferred stock dividends ........................ -- -- -- -- 1,067
Net income (loss) available to
common shareholders .......................... 123 (2,823) 1,731 1,183 (18,984)
Net income (loss) per common share:
basic ....................................... * * 0.37(1) 0.25(1) (2.08)
diluted ..................................... * * 0.35(1) 0.23(1) (2.08)
SELECTED BALANCE SHEET DATA:
(at end of period)
Total assets .................................. $ 34,583 $ 26,522 $ 29,338 $ 32,857 $ 35,937
Property, plant and equipment, net ............ 12,830 9,842 9,081 7,288 6,948
Long term bank debt ........................... -- -- -- -- --
Obligations under capital leases .............. 688 945 748 3,546 3,313
Redeemable cumulative preferred stock......... -- -- -- -- 25,254
Total common shareholders' equity ............. 27,055 20,888 22,669 25,248 1,792
See the notes to the Consolidated Financial Statements included elsewhere
herein.
* Historical per share data for earnings and dividends have not been
presented for periods prior to the year ended December 31, 1995 as Knogo
was not a publicly-held company during these periods.
(1) Restated in order to reflect the effect of the recapitalization of
Knogo common stock for Sentry common stock, as well as the adoption of
Statement of Financial Accounting Standard No. 128 "Earnings per Share".
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
RESULTS OF OPERATIONS
YEAR ENDED DECEMBER 31, 1997 COMPARED WITH YEAR ENDED DECEMBER 31, 1996
Consolidated revenues were 6% higher in the year ended December 31, 1997
than in the year ended December 31, 1996. Revenues from customers other than
Sensormatic were $20,820,000 or 85% of total revenues as compared to $17,525,000
or 75% of total revenues in the prior year. This represents a 19% increase in
revenues from non-Sensormatic customers in 1997 over the prior year. The backlog
of unfilled orders expected to be delivered within 12 months was $10.3 million
at December 31, 1997 compared to $1.7 million at December 31, 1996.
Sales increased 18% primarily as a result of the SentryVision(R) traveling
CCTV surveillance system acquired during the Merger which represented $4.3
million or 24% of sales in 1997. Sales of traditional CCTV products were flat at
$3.6 million in both 1997 and 1996 and represented 20% and 24% of sales,
respectively. Sales of EAS systems declined 23% to $7.7 million or 43% of sales
in 1997 as compared to $9.3 million or 61% in 1996. Sales of 3M library systems
were also flat at $2.3 million in both years representing 13% of sales in 1997
and 15% in 1996. EAS System sales declined as a result of both competitive
pressures and the focus of Knogo's marketing force on the commencement of
SentryVision(R) marketing efforts.
Sales to Sensormatic decreased 45% to $2.6 million in 1997 as compared to
$4.7 million in 1996. During the first six months of 1997 and in the year ended
1996 when the Supply Agreement was in place, Sensormatic did not meet its
minimum order amounts and, accordingly, the Company recorded in other revenues
the cumulative profits on the shortfall payable to the Company pursuant to the
agreement. These amounts represented $1.2 million and $1.1 million in 1997 and
1996. Although the Supply Agreement officially expired as of June 30, 1997 and
minimum purchase obligations ended, Sensormatic continued to purchase certain
EAS products from the Company after that period. Sensormatic has indicated it
will continue to purchase certain EAS products from the Company in the future.
In addition, during 1997, Sentry signed a multi-year agreement with Sensormatic
to be the Company's exclusive distributor of SentryVision(R) systems in Latin
America and the Caribbean. This agreement marks the Company's first venture
outside of North America since the merger between Knogo and Video was
consummated.
The increase in service revenues and other of 18% or $0.6 million in 1997
as compared to 1996 was primarily related to increase in maintenance contracts
from the SentryVision(R) customer base.
Cost of sales to customers other than Sensormatic were 62% of such sales in
1997 as compared to 59% in 1996. The increase in cost of sales percentage is
primarily related to the change in product mix. Although the Company made
significant cost reductions through better vendor sourcing and engineering
improvements to the SentryVision(R) product line since the Merger, these systems
still carry lower margins than traditional EAS products. Cost of sales was also
negatively impacted by lower fixed cost absorption due to lower production
levels during the year at the Company's Puerto Rico manufacturing facility. The
gross margins on sales to Sensormatic under the Supply Agreement was fixed at
35%. Margins on the sales to Sensormatic in the second half of the year after
the agreement expired were substantially the same.
Customer service expenses were 63% greater in 1997 as compared to 1996
due to the addition of the Video customer service staff as well as new hires,
technical updates made to the existing installed Video customer base and cross
training for existing staff on EAS and CCTV (including SentryVision(R)) product
lines.
The increase in selling, general and administrative expenses to $9.6
million in 1997 from $7.3 million in 1996 was primarily a result of higher sales
and marketing costs associated with the promotion of the new SentryVision(R)
systems and the amortization of goodwill and intangibles acquired in the Merger
of $1,429,000 in 1997.
The Company's research and development costs, which remained substantially
the same in dollar terms, were directed primarily towards improvements in the
SentryVision(R) systems during the year.
At the consummation of the Merger in the first quarter of 1997, Sentry
recorded for that period a non- recurring charge of $13,200,000 relating to
purchased in process research and development. The amount was based on the
purchase price allocation and a valuation of existing technology and technology
in-process. The charge for in-process research and development equaled its
estimated current fair value based on risk adjusted cash flows of specifically
identified technologies for which the technological feasibility has not been
established and alternative future uses did not exist.
The Company had net interest expense in the current year as compared to net
interest income in 1996. Interest income was $139,000 in 1997 as compared to
$164,000 in 1996. As a result of the Merger, the Company reduced the amount of
its temporary investments. Interest expense was $307,000 in 1997 as compared to
$144,000 in 1996. The increase is primarily related to the capitalized lease on
the Company's corporate headquarters entered into at the end of 1996.
In the first quarter of 1996, the Company sold certain assets to 3M,
consisting of patents and technology, for a purchase price of $3.0 million. The
proceeds, net of certain costs including patent costs, inventory write downs,
new product training costs, legal and other costs, resulted in a gain of
approximately $2.5 million which is included in the results of that period.
Sentry's income taxes in 1997 represent provisions on the cumulative
earnings of the Puerto Rico manufacturing operations which cannot be offset by
operating losses of other subsidiaries. The higher amount in 1996 was primarily
related to the tax on the gain of assets to 3M which were taxed at the statutory
federal tax rate.
As a result of the foregoing, Sentry has a net loss of $17,917,000 in the
year ended December 31, 1997 as compared to net income of $1,183,000 in the year
ended December 31, 1996.
Preferred stock dividends of $1,067,000 have been accrued in 1997. These
amounts were paid-in-kind as of February 12, 1998. See Note 1 to the
Consolidated Financial Statements.
YEAR ENDED DECEMBER 31, 1996 COMPARED WITH YEAR ENDED DECEMBER 31, 1995
Consolidated revenues were 21% lower in the year ended December 31, 1996
than in the year ended December, 1995. Revenues from customers other than
Sensormatic in 1996 were $17,525,000 or 75% of total revenues as compared
to $17,361,000 or 59% of total revenues in 1995. The increase in 1996 was
attributable to higher sales in the retail and 3M library market segments.
Revenues in 1996 included the minimum lease revenue ($1,500,000) under a
contract with a retail customer which provided for additional revenues if
certain shrinkage reductions are met. Since all of the equipment costs were
included in cost of sales, gross margins were adversely impacted.
Sales by product line to customers other than Sensormatic in 1996 were 61%
EAS, 24% CCTV and 15% in 3M library security systems, compared to 89%, 11% and
0%, respectively, in 1995.
Sales under the Supply Agreement with Sensormatic in 1996 were 4,651,000 or
20% of total revenues as compared to 12,043,000 or 41% of total revenues in
1995. Under the terms of the Supply Agreement, the Company expected a reduction
of approximately $4.0 million in revenues in 1996 compared to 1995. However, in
1996, Sensormatic did not meet its minimum order amounts. The Company recorded
in other revenues $1,087,000 which represented the minimum contractual margins
on the shortfall. Sales represented 85%, and service revenues and other income
15% of total revenues, in 1996 as compared to 91% and 9% in 1995.
Cost of sales to customers other than Sensormatic was 59% of such sales in
1996 as compared to 45% in 1995. The cost of sales percentage is impacted by the
mix of products sold to Knogo's third-party customers. In 1996, Knogo sold a
higher percentage of CCTV equipment and 3M library products to its third-party
customers than in 1995. These products are not manufactured directly by Knogo
and carry lower margins than the traditional EAS products it does produce. In
1996 cost of sales was also impacted by the higher initial costs recorded on the
large retail sale noted above. During 1996, there was a substantially lower
amount of sales to Sensormatic than in 1995. The gross margin on these sales was
fixed at 35% under the Supply Agreement.
Customer service expenses were lower in 1996 as compared to 1995. This was
a result of permanent staff reductions due to more efficient installations and
fewer service calls primarily attributable to the transfer of the Company's
library maintenance obligations to 3M.
The decrease in selling, general and administrative expenses in 1996 as
compared to 1995 was primarily a result of ongoing cost control measures, lower
sales promotional expenses and lower required bad debt and warranty provisions.
The increase in research and development costs in 1996 as compared to
1995 was a result of substantial efforts, particularly in the fourth quarter,
towards improving the SentryVision(R) traveling CCTV surveillance system which
the Company commenced selling in the first quarter of 1997.
The Company's interest income was $164,000 in 1996 as compared to $59,000
in 1995. The increase is due to the investment of proceeds from the sale of
assets at the end of the first quarter of 1996. These amounts are shown net of
interest expense of $144,000 and $90,000 in the respective 1996 and 1995 periods
relating to interest on the settlement of a tax audit in 1996 and payments on
capitalized leases for Knogo's computer equipment in both years.
In 1996, Sentry sold certain assets to 3M, consisting of patents and
technology, for a purchase price of $3.0 million. The proceeds, net of certain
costs including patent costs, inventory write downs, new product training costs,
legal and other costs, resulted in a gain of approximately $2.5 million which is
included in other income in 1996. See Note 16 to the Consolidated Financial
Statements.
Sentry's effective tax rate was 36% for 1996 as compared to 11% in 1995.
The increase in the rate was primarily related to the tax on the gain on the
sale of assets in 1996 which was taxed at the statutory federal tax rate and
represents a significant proportion of the taxable income in the current year.
The lower rate in 1995 was primarily due to the normal provisions on the
earnings of the Puerto Rico manufacturing operations.
As a result of the foregoing, Sentry had net income of $1,183,000 in 1996
as compared to $1,731,000 in 1995.
LIQUIDITY AND CAPITAL RESOURCES
The Company's liquidity needs over the last three years have been related
to acquisitions, working capital and to a lesser extent, capital expenditures.
During this time, it has met these liquidity needs primarily through the
proceeds from the sale and leaseback transaction involving its corporation
headquarters and the sale of certain assets to 3M. During 1997, primarily a
result of the Merger, Sentry used approximately $5.5 million in cash. The
Company utilized $2.1 million to retire acquired Video debt and $2.4 million for
Merger related costs.
At the end of 1997, the Company entered into a two year secured revolving
credit facility with GE Capital Corporation which permits borrowings of up to a
maximum of $8.0 million, subject to availability under a borrowing base formula
consisting of accounts receivable and inventories. The credit agreement expires
on December 31, 1999. The facility is secured by a lien on substantially all of
the Company 's assets. At December 31, 1997, the Company had no borrowings under
the facility.
Going forward, Sentry will require liquidity and working capital to finance
increases in receivables and inventory associated with sales growth and, to a
lesser extent, for capital expenditures. The Company anticipates that its 1998
capital expenditures will approximate $1.0 million for product tooling and
customer service equipment.
The Company believes the liquidity provided by future operations, existing
cash and the financing arrangements described above should be sufficient to meet
the Company's capital requirements for the next twelve months.
RECENTLY ISSUED ACCOUNTING STANDARDS
In June 1997, the Financial Accounting Standards Board issued SFAS No. 130,
"Reporting Comprehensive Income." This Statement requires that changes in
comprehensive income be shown in a financial statement that is displayed with
the same prominence as other financial statements. SFAS No. 130 is effective for
periods beginning after December 15, 1997.
In June 1997, the Financial Accounting Standards Board issued SFAS No. 131,
"Disclosure about Segments of an Enterprise and Related Information." SFAS No.
131 specifies new guidelines for determining a company's operating segments and
related requirements for disclosure. The Company is in the process of evaluating
the impact of the new standard on the presentation of its financial statements
and the disclosures therein. SFAS No. 131 is effective for periods beginning
after December 15, 1997.
In October 1997, the American Institute of Certified Public Accountants
issued Statement of Position ("SOP") No. 97-2, "Software Revenue Recognition."
This Statement specifies certain changes for determining the recognition of
revenue for products that contain computer software. The Company is in the
process of evaluating the impact of the SOP on its revenue recognition policies.
SOP No. 97-2 is effective for periods beginning after December 15, 1997.
YEAR 2000 ISSUE
The Year 2000 Issue is the result of computer programs being written using
two digits rather than four to define the applicable year. On January 1, 2000,
any computer system or other equipment using date sensitive software which uses
only two digits to represent the year, may recognize "00" as the year 1900
rather than the year 2000. This could result in a system failure or
miscalculations causing disruptions of operations, including among other things,
a temporary inability to process transactions, send invoices, or engage in
similar activities.
Recognizing the potential impact, the Company began actively resolving its
Year 2000 compliance issues in early 1997. Using internal and external
resources, the Company analyzed and assessed its business systems, including
computer systems, PC's and network hardware, telephone systems, production
process controllers, access control, office equipment and the products it sells.
Upgrades to both mid-range and network computer hardware, operating systems
and related infrastructures have been completed and are now Year 2000 compliant.
All critical application software has been reviewed and Year 2000 compliant
versions have been obtained. The Company has commenced the process of
retrofitting custom modifications to the upgraded versions.
It is anticipated that all applications with forward scheduling impact will
be Year 2000 compliant by mid- 1998 with the remainder to be completed by
year-end, leaving adequate time to assess and correct any additional issues that
may emerge.
The total cost to the Company of making its systems Year 2000 compliant has
not been and is not anticipated to be material to the Company's financial
position or results of operations in any given year.
INFLATION
The Company does not consider inflation to have a material impact on the
results of operations.
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
The "Management's Discussion and Analysis of Financial Condition and
Results of Operations", and other sections of this Annual Report on Form 10-k
contain "fowrd-looking statements" (as defined in the Private Securities
Litigation Reform Act of 1995 or the "PSLRA") that are based on current
expectations, estimates and projections about the industry in which the Company
operates, as well as management's beliefs and assumptions. Words such as
"expects," "anticipates" and "believes" and variations of such words and similar
expressions generally indicate that a statement is forward-looking. The Company
wishes to take advantage of the "safe harbor" provisions of the PSLRA by
cautioning readers that many important factors discussed below, among others,
may cause the Company's results of operations to differ from those expressed in
the forward-looking statements. These factors include: (i) the risk inherent in
the relatively small number of Video customers, such that any delay or
cancellation of orders from one or more of its customers may have a material
adverse effect on the Company's financial condition; (ii) the risk that
anticipated growth in the demand for EAS products in the supermarket sector, the
commercial and industrial sector (including in the market for protecting
high-value computer-related components) and in the hospital and health care
markets will not develop as expected, whether due to competitive pressures in
these markets or to any other failure to gain market acceptance of the Company's
EAS products; (iii) the risk arising from the large market position and greater
financial and other resources of Sentry's principal competitors, as described
under "Item 1. Business--Competition"; and (iv) the risk resulting from the
limited geographical market in which the Company may offer its EAS products,
exposing the Company to a possible business downturn caused by a general
business decline in that market; this market limitation is contractual and will
continue until December 29, 1999.
ITEMS 8 and 14(a)(1) and 14(a)(2). Financial Statements.
- ---------------------------------- ---------------------
SENTRY TECHNOLOGY CORPORATION AND SUBSIDIARIES
TABLE OF CONTENTS
PAGE
INDEPENDENT AUDITORS' REPORT F-2
CONSOLIDATED FINANCIAL STATEMENTS:
Consolidated Balance Sheets as of December 31, 1997 and 1996 F-3
Consolidated Statements of Operations for the Years Ended
December 31, 1997, 1996 and 1995 F-4
Consolidated Statements of Shareholders' Equity for the Years Ended
December 31, 1997, 1996 and 1995 F-5
Consolidated Statements of Cash Flows for the Years Ended
December 31, 1997, 1996 and 1995 F-6
Notes to Consolidated Financial Statements F-7
SCHEDULE II - Valuation and Qualifying Accounts S-1
INDEPENDENT AUDITORS' REPORT
Board of Directors
Sentry Technology Corporation
Hauppauge, New York
We have audited the accompanying consolidated balance sheets of Sentry
Technology Corporation and subsidiaries (the "Company") as of December 31, 1997
and 1996 and the related consolidated statements of operations, shareholders'
equity and cash flows for each of the three years in the period ended December
31, 1997. Our audits also included the financial statement schedule listed in
the Index at item 14(a)(1) and (2). These financial statements and financial
statement schedule are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements and
financial statement schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of Sentry Technology Corporation and
subsidiaries as of December 31, 1997 and 1996, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 1997, 1996 and 1995 in conformity with generally accepted
accounting principles. Also, in our opinion, such financial statement schedule,
when considered in relation to the basic consolidated financial statements taken
as a whole, presents fairly in all material respects the information set forth
therein.
As discussed in Note 1 to the consolidated financial statements, on February 12,
1997 Sentry Technology Corporation was established to effect the merger of Knogo
North America Inc. and Video Sentry Corporation. The consolidated financial
statements as of, and for all periods prior to December 31, 1996 are the
historical financial statements of Knogo North America Inc.
DELOITTE & TOUCHE LLP
Jericho, New York
March 3, 1998
SENTRY TECHNOLOGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 1997 AND 1996
(IN THOUSANDS, EXCEPT PAR VALUE AMOUNTS)
ASSETS 1997 1996
CURRENT ASSETS
Cash and cash equivalents $ 2,146 $ 7,658
Accounts receivable, less allowance for doubtful
accounts of $752 and $719, respectively 6,323 6,229
Net investment in sales-type leases-current portion 613 1,496
Inventories 8,297 6,926
Prepaid expenses and other current assets 387 389
-------- --------
Total current assets 17,766 22,698
NET INVESTMENT IN SALES-TYPE LEASES - Noncurrent portion 848 1,205
SECURITY DEVICES ON LEASES - Net 151 281
PROPERTY, PLANT AND EQUIPMENT - Net 6,948 7,288
GOODWILL AND OTHER INTANGIBLES, including patent costs,
less accumulated amortization of $1,848 and $292,
respectively 9,796 364
DEFERRED INCOME TAXES - 174
OTHER ASSETS 428 847
-------- --------
$ 35,937 $32,857
======== =======
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 1,982 $ 1,101
Accrued liabilities 2,730 2,268
Obligations under capital leases-current portion 218 392
Deferred income 421 231
-------- --------
Total current liabilities 5,351 3,992
OBLIGATIONS UNDER CAPITAL LEASES-Noncurrent portion 3,095 3,154
MINORITY INTEREST IN CONSOLIDATED SUBSIDIARY 445 463
-------- --------
Total liabilities 8,891 7,609
COMMITMENTS AND CONTINGENCIES (Notes 1, 12 and 13)
REDEEMABLE CUMULATIVE PREFERRED STOCK 25,254 -
COMMON SHAREHOLDERS' EQUITY:
Common stock, $0.001 par value; authorized 40,000
shares, issued and outstanding 9,751 and 4,802
shares, respectively 10 5
Additional paid-in capital 16,785 22,329
Retained earnings (accumulated deficit) (15,003) 2,914
-------- --------
1,792 25,248
-------- --------
$ 35,937 $32,857
======== =======
See notes to consolidated financial statements.
SENTRY TECHNOLOGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(IN THOUSANDS, EXCEPT PAR VALUE AMOUNTS)
1997 1996 1995
REVENUES:
Sales $ 17,965 $ 15,208 $ 14,625
Sales to Sensormatic 2,570 4,651 12,043
Service revenues and other 4,031 3,404 2,736
-------- -------- --------
24,566 23,263 29,404
-------- -------- --------
COSTS AND EXPENSES:
Cost of sales 11,177 8,897 6,630
Cost of sales to Sensormatic 1,705 3,038 7,795
Customer services expenses 4,772 2,932 3,235
Selling, general and administrative expenses 9,629 7,345 8,235
Research and development 1,658 1,686 1,537
Purchased in-process research and development (Note 1) 13,200 - -
Interest (income) expense 168 (20) 31
-------- -------- --------
42,309 23,878 27,463
-------- -------- --------
OPERATING PROFIT (LOSS) (17,743) (615) 1,941
OTHER INCOME - Gain on sale of assets (Note 16) - 2,462 -
-------- -------- --------
INCOME (LOSS) BEFORE INCOME TAXES (17,743) 1,847 1,941
INCOME TAXES 174 664 210
-------- -------- --------
NET INCOME (LOSS) (17,917) 1,183 1,731
PREFERRED STOCK DIVIDENDS 1,067 - -
-------- -------- --------
NET INCOME (LOSS) AVAILABLE TO
COMMON SHAREHOLDERS $(18,984) $ 1,183 $ 1,731
======== ======= ========
NET INCOME (LOSS) PER COMMON SHARE:
Basic $ (2.08) $ 0.25 $ 0.37
======== ======= ========
Diluted $ (2.08) $ 0.23 $ 0.35
======== ======= ========
WEIGHTED AVERAGE COMMON SHARES:
Basic 9,114 4,796 4,726
===== ===== =====
Diluted 9,114 5,074 4,897
===== ===== =====
See notes to consolidated financial statements.
SENTRY TECHNOLOGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(IN THOUSANDS)
RETAINED TOTAL REDEEMABLE
ADDITIONAL EARNINGS COMMON CUMULATIVE
COMMON STOCK PAID-IN (ACCUMULATED SHAREHOLDERS' PREFERRED
SHARES AMOUNT CAPITAL DEFICIT) EQUITY STOCK
BALANCE, JANUARY 1, 1995
(Restated - Note 1) 4,698 $ 5 $20,883 $ - $20,888 $ -
Net income - - - 1,731 1,731 -
Final distribution of common stock
(Restated-Note 1) 28 - (16) - (16) -
Exercise of stock options
(Restated-Note 1) 32 - 66 - 66 -
----- ----- -------- ------- -------- -------
BALANCE, DECEMBER 31, 1995
(Restated-Note 1) 4,758 5 20,933 1,731 22,669 -
Net income - - - 1,183 1,183 -
Repayment of obligations under
section 16(b) of the Securities and
Exchange Act of 1934 - - 220 - 220 -
Income tax benefit related to
revaluation of corporate
headquarters - - 978 - 978 -
Exercise of stock options
(Restated-Note 1) 44 - 198 - 198 -
----- ----- -------- ------- -------- -------
BALANCE, DECEMBER 31, 1996
(Restated-Note 1) 4,802 5 22,329 2,914 25,248 -
Net loss - - - (17,917) (17,917) -
Shares issued to Video Sentry
shareholders in connection with
the merger (Note 1) 4,842 5 19,449 - 19,454 -
Preferred shares issued to former
Knogo N.A. shareholders in
connection with the merger (Note 1) - - (24,009) - (24,009) 24,009
Shares issued to employee benefit
plan 28 - 83 - 83 -
Repayment of obligations under
Section 16(b) of the Securities and
Exchange Act of 1934 - - 15 - 15 -
Preferred stock dividends (Note 1) - - (1,067) - (1,067) 1,067
Exercise of stock options 79 - (15) - (15) 178
----- ----- -------- ------- -------- -------
BALANCE, DECEMBER 31, 1997 9,751 $10 $16,785 $(15,003) $ 1,792 $25,254
===== === ======= ======== ======= =======
See notes to consolidated financial statements.
SENTRY TECHNOLOGY COORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(IN THOUSANDS)
1997 1996 1995
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $(17,917) $1,183 $1,731
Adjustments to reconcile net income (loss) to net cash provided by
(used in)operating activities:
Write-off purchased in-process recearch and development 13,200 - -
Deprecition and amortization of security devices and property,
plant and equipment 1,166 1,135 1,103
Amortization of intangibles 1,570 60 64
Deferred income taxes 174 (462) 152
Provision for bad debts 73 91 352
Income tax benefit related to the revaluation of coorporate headquarters - 978 -
Other - (58) -
Changes in operating assets and liabilities:
Accounts receivable 537 3,279 (5,209)
Net investment in sales-type leases 1,240 (170) (730)
Inventories (485) (836) 381
Prepaid expenses and other assets 443 33 628
Accounts payable and accrued liabilities (620) (1,895) 1,032
Deferred income 169 (138) 48
------- --------- ---------
Net cash provided by (used in) operating activities (450) 3,200 (448)
------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Payments made to acquire Video Sentry (2,417) - -
Purchase of property, plant and equipment - net (288) (378) (202)
Proceeds from sale of corporate headquaters - 4,536 -
Security devices on lease (2) (56) 21
Intangibles (52) (188) (25)
------- --------- --------
Net cash provided by (used in) investing activities (2,759) 3,914 (206)
------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of acquired debt (2,136) - -
Proceeds from shareholder repayment of obligations under
Section 16(b) of the Securities Exchange Act of 1934 15 220 -
Repayment of obligations under capital leases (428) (283) (245)
Exercise of stock options and warrants 163 198 66
Other 83 - (16)
------- --------- ---------
Net cash provided by (used in)financing activities (2,303) 135 (195)
-------- --------- ---------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (5,512) 7,249 (849)
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 7,658 409 1,258
-------- --------- ---------
CASH AND CASH EQUIVALENTS, END OF YEAR $ 2,146 $7,658 $ 409
========= ========= ==========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the year for:
Interest $ 310 $ 248 $ 86
========= ========= ==========
Income taxes $ - $ 90 $ 26
========= ========= ==========
SUPPLEMENTAL DISCLOSURE OF NONCASH INVESTING AND
FINANCING ACTIVITIES:
Caption lease obligation incurred for the purchase of building, office
equipment and other assets $ 165 $3,081 $ 48
========= ======== ===========
Common stock issued to acquire Video Sentry $19,454 $ - $ -
========= ======== ===========
See notes to consolidated financial statements.
SENTRY TECHNOLOGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
1. BASIS OF PRESENTATION
Sentry Technology Corporation ("Sentry"), a Delaware corporation, was
established to effect the merger of Knogo North America Inc.
("Knogo N.A.") and Video Sentry Corporation ("Video Sentry") which was
consummated on February 12,1997 (the "Effective Date"). The merger resulted
in Knogo N.A. and Video Sentry becoming wholly owned subsidiaries of
Sentry. The term "Company" refers to Sentry as of and subsequent to
February 12, 1997 and to Knogo N.A. prior to such date. Video Sentry is
engaged in the design, developments and marketing of a traveling closed
circuit television security surveillance system primarily in North America.
Pursuant to the merger agreement, Sentry issued one share of common stock
for each one share of Video Sentry common stock outstanding at the
Effective Date. Sentry also issued one share of common stock and one share
of Class A Preferred Stock for each 1.2022 shares of Knogo N.A. common
stock outstanding. The Sentry Class A Preferred Stock has a face value of
$5.00 per share and a cumulative dividend rate of 5.0% (the first two years
of which are paid-in-kind). The preferred stock is non-voting and subject
to mandatory redemption four years from the date of issuance and optional
redemption by Sentry at any time after one year from the date of issuance.
The redemption price will be equal to $5.00 per preferred share (plus
accrued and unpaid dividends as of the redemption date) plus the amount, if
any, by which the market price of Sentry's common stock at the time of
redemption exceeds a hurdle price based on the price of Sentry Common Stock
one year after the Effective Date. The minimum hurdle price is $5.00 per
share and the maximum is $6.50. The preferred stock is non convertible, but
the redemption price may, in certain circumstances, be paid in common stock
at Sentry's option. The total number of Sentry preferred shares authorized
is 10,000,000. Undeclared and unpaid cumulative dividends totaled
approximately $1,067,000 as of December 31, 1997.
The merger was accounted for under the purchase method of accounting and,
accordingly, the acquired assets and assumed liabilities have been recorded
at their estimated fair market values at the date of acquisition. Goodwill
and other intangible assets in the amount of approximately $10,950,000 have
been capitalized and nonrecurring charges of approximately $13,200,000
relating to in-process research and development have been expensed. The
goodwill and other intangibles are being amortized using the straight-line
method over a useful life of seven years. Although Video Sentry
shareholders have a majority voting interest in Sentry based upon their
common stock ownership percentage, generally accepted accounting principles
requires consideration of a number of factors, in addition to voting
interest, in determining the acquiring entity for purposes of purchase
accounting treatment. Such other factors to be considered include: (i) key
Sentry management positions are held by individuals previously holding
similar such positions in Knogo N.A.; (ii) the assets, revenues and net
earnings of Knogo N.A. significantly exceed those of Video Sentry; and
(iii) the market value of the securities received by the former holders of
Knogo N.A. Common Stock significantly exceeds the market value of the
securities received by the former holders of Video Sentry Common Stock. As
a result of these other factors, and solely for accounting and financial
reporting purposes, the merger has been accounted for as a reverse
acquisition of Video Sentry by Knogo N.A.. Accordingly the financial
statements of Knogo N.A. are the historical financial statements of Sentry
and the results of Sentry's operations will include the results of
operations of Video Sentry after the Effective Date. Common stock,
additional paid-in capital and the weighted average common shares have been
retroactively restated to the earliest year presented in order to reflect
the effect of the recapitalization of Knogo N.A. common stock for Sentry
common stock.
The following unaudited pro forma information for the years ended December
31, 1997 and 1996 includes the operations of the Company and Video Sentry
as if the merger had occurred on January 1, 1996. This pro forma
information gives effect to the amortization expense associated with
goodwill and other intangible asset acquired, dividends accrued on the
Sentry Class A Preferred Stock, adjustments related to the fair market
value of the assets acquired and liabilities assumed, and the related
income tax effects. In addition, this pro forma information excludes the
effect of the one-time charges totaling $13,200,000 relating to
purchased in-process research and development.
YEARS ENDED DECEMBER 31,
1997 1996
(In Thousands, Except per Share Amounts)
Revenues $24,619 $25,899
======= =======
Net loss $ 5,378 $ 4,900
======= =======
Net loss available to common shareholders $ 6,596 $ 6,112
======= =======
Net loss per common share $ (0.68) $ (0.64)
======= =======
Weighted average common shares 9,684 9,613
===== =====
The Company anticipates that current cash reserves, cash generated by
operations, and its bank credit facility will be adequate to finance the
Company's anticipated working capital requirements as well as future
capital expenditure requirements for at least the next 12 months.
2. SIGNIFICANT ACCOUNTING POLICIES
BUSINESS - The Company is engaged in one segment and line of business: the
design, manufacture, distribution, installation and service of systems
designed to deter theft and to detect the unauthorized movement of articles
and persons.
PRINCIPLES OF CONSOLIDATION - The consolidated financial statements include
the accounts of the Company and its wholly owned and majority owned
subsidiaries. All intercompany balances and transactions have been
eliminated in consolidation.
REVENUE RECOGNITION - The Company manufactures security devices which it
offers for sale or lease. Revenue related to the sale of equipment is
recorded at the time of shipment or upon acceptance by a third-party
leasing company of a customer lease and the related equipment. In addition,
in accordance with Statement of Financial Accounting Standard ("SFAS") No.
13, "Accounting for Leases," lease contracts which meet the following
criteria are accounted for as sales-type leases: collection is reasonably
assured, there are no important uncertainties, and (l) the present value of
the rental payments over the term of the lease is at least 90% of the fair
value of the equipment or (2) the lease term is equal
to 75% or more of the estimated economic life of the equipment or (3) the
lease contains a bargain purchase option. Under this method, revenue is
recognized as a sale at the time of installation or acceptance by the
lessee in an amount equal to the present value of the required rental
payments under the fixed, noncancellable lease term. The difference
between the total lease payments and the present value is amortized over
the term of the lease so as to produce a constant periodic rate of return
on the net investment in the lease.
The operating method of accounting for leases is followed for lease
contracts not meeting the above criteria. Under this method of accounting,
aggregate rental revenue is recognized over the term of the lease (usually
12-48 months), which commences with date of installation or acceptance by
the lessee.
The Company has sold certain of its lease receivables subject to recourse
to third-party investors. The uncollected principal balance of the
receivables sold totaled approximately $63,000 and $183,000 at December 31,
1997 and 1996, respectively. Receivables sold are supported by the
underlying equipment value and credit worthiness of customers. The Company
records the receivables sold at their estimated net realiabel value.
Service revenues are recognized as earned and maintenance revenues are
recognized ratably over the service contract period. Warranty costs
associated with products sold with warranty protection are estimated based
on the Company's historical experience and recorded in the period the
product is sold.
Included in accounts receivable at December 31, 1997 and 1996 are unbilled
accounts receivable of $1,146,000 and $909,000, respectively.
CASH AND CASH EQUIVALENTS - The Company considers all highly liquid
temporary investments with original maturities of less then ninety days to
be cash equivalents.
INVENTORIES - Inventories are stated at the lower of cost (first-in,
first-out method) or market. Component parts and systems in inventory
available for assembly and customer installation are considered as
work-in-process.
SECURITY DEVICES ON LEASE - Security devices on lease are stated at cost
and consist of completed systems which have been installed.
DEPRECIATION AND AMORTIZATION - Depreciation of security devices on lease
and property, plant and equipment is provided for using the straight-line
method over their related estimated useful lives. The security devices
generally have estimated useful lives of six years, except for
security devices related to operating with leases with purchase options are
depreciated over the life of the lease.
GOODWILL AND OTHER INTANGIBLES - Costs and expenses incurred in obtaining
patents are amortized over the remaining life of the patents, not
exceeding l7 years, using the straight-line method. Goodwill and other
intangibles are amortized over seven years using the straight-line method.
IMPAIRMENT OF LONG-LIVED ASSETS - In accordance with SFAS No. 121,
"Accounting For The Impairment of Long-Lived Assets and For Long-Lived
Assets To Be Disposed Of," the Company reviews its long-lived assets,
including net investment in sales type leases, security devices on lease,
property and equipment, intangible assets and other assets for impairment
whenever events or changes in circumstances indicate that the carrying
amount of these assets may not be fully recoverable. To determine
recoverability of its long-lived assets, the Company evaluates the
probability that future undiscounted net cash flows, will be less than the
carrying amount of the assets. Impairment is measured at fair value.
FAIR VALUE OF FINANCIAL INSTRUMENTS - It is management's belief that the
carrying amounts of the Company's financial instruments (cash and cash
equivalents, accounts receivable, net investment in sales-type leases,
accounts payable and obligations under capital leases) approximate their
fair value at December 31, 1997 and 1996 due to the short maturity of these
instruments or due to the terms of such instruments approximating
instruments with similar terms currently available to the Company.
DEFERRED INCOME - Deferred income consist of rentals related
to operating leases and maintenance contracts billed or paid in advance.
INCOME TAXES - The Company accounts for income taxes under SFAS No. 109,
"Accounting for Income Taxes," which requires an asset and liability
approach to financial accounting and reporting for income taxes.
STOCK-BASED COMPENSATION - The Company accounts for stock-based awards to
employees using the intrinsic value method in accordance with Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees."
FOREIGN CURRENCY TRANSLATION - The functional currency of the Company's
foreign entity is the US dollar. Therefore, assets and liabilities of the
foreign entity is translated using a combination of current and historical
rates. Income and expense accounts are translated primarily using the
average rate in effect during the year. Unrealized foreign exchange gains
and (losses) resulting from the translation of this entity are included in
selling, general and administrative expenses and amounted to approximately
$(111,000), $(45,000) and $20,000 for the years ended December 31, 1997,
1996 and 1995, respectively.
USE OF ESTIMATES - The preparation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date
of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from
those estimates.
RECLASSIFICATIONS - Certain amounts in the prior years' consolidated
financial statements have been reclassified to conform to the 1997
presentation.
3. NET INVESTMENT IN SALES-TYPE LEASES AND OPERATING LEASE DATA
The Company is the lessor of security devices under agreements expiring in
various years through 2002. The net investment in sales-type leases consist
of:
1997 1996
(IN THOUSANDS)
Minimum lease payments receivable $1,713 $3,152
Allowance for uncollectible minimum lease payments (86) (157)
Unearned income (195) (324)
Unguaranteed residual value 29 30
------ -------
Net investment 1,461 2,701
Less current portion 613 1,496
------ ------
Noncurrent portion $ 848 $1,205
====== ======
The future minimum lease payments receivable under sales-type leases and
noncancellable operating leases are as follows:
SALES-TYPE OPERATING
YEAR ENDING LEASES LEASES
DECEMBER 31, (IN THOUSANDS)
1998 $ 772 $ 112
1999 598 61
2000 315 42
2001 24 10
2002 4 2
------ -------
$1,713 $ 227
====== =======
4. INVENTORIES
Inventories consist of the following:
1997 1996
(IN THOUSANDS)
Raw materials $2,662 $2,498
Work-in-process 3,765 2,547
Finished goods 1,870 1,881
----- -----
$8,297 $6,926
====== ======
Reserves for excess and obsolete inventory totaled $1,246,000 and
$1,691,000 as of December 31, 1997 and 1996, respectively and have been
included as a component of the above amounts.
5. SECURITY DEVICES ON LEASE
Security devices are stated at cost and are summarized as follows:
DECEMBER 31,
1997 1996
(IN THOUSANDS)
Security devices on lease $ 276 $ 525
Less allowance for depreciation 125 244
------ ------
$ 151 $ 281
====== ======
6. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are stated at cost and are summarized as
follows:
ESTIMATED USEFUL DECEMBER 31,
LIVES (YEARS) 1997 1996
(IN THOUSANDS)
Land $ 506 $ 506
Buildings and improvements 20-25 5,744 5,737
Machinery and equipment 3-10 3,727 3,472
Furniture, fixtures and
office equipment 3-10 3,661 3,467
Leasehold improvements 5-10 11 -
-------- -------
13,649 13,182
Less allowance for
depreciation 6,701 5,894
-------- -------
$ 6,948 $ 7,288
======== =======
On December 24, 1996, the Company completed a sale-leaseback transaction
on the Company's corporate headquarters. (See Note 10.)
7. OTHER ASSETS
In January 1995, the Company sold its guest house in Puerto Rico for
$800,000 which approximated its carrying value. The Company holds notes
with a present value of $236,000 and $389,000 at December 31, 1997 and
1996, respectively, which are receivable in varying amounts through January
2000.
8. ACCRUED LIABILITIES
Accrued liabilities consist of the following:
DECEMBER 31,
1997 1996
(IN THOUSANDS)
Accrued salaries, employee benefits and payroll taxes $ 638 $ 733
Accrued merger costs 359 -
Customer deposits payable 262 237
Accrued warranty costs 237 361
Other accured liabilities 1,234 937
------ ------
$2,730 $2,268
====== ======
9. LINE OF CREDIT
The Company has a revolving line of credit with a financial institution for
maximum borrowings of $8 million through December 31, 1999, which is
subject to certain limitations based on a percentage of eligible accounts
receivable and inventories as defined in the agreement. Interest is payable
monthly at the lender's Index Rate, as defined (5.9% at December 31, 1997),
plus 2.75% per annum. The Company is required to pay a commitment fee of
one quarter of one percent per annum on any unused portion of the line of
credit. Borrowings under the line of credit are secured by substantially
all of the Company's assets. The terms of the agreement, among other
matters, require the Company to maintain certain minimum cash flow and net
worth levels, a minimum working capital ratio, and place restrictions on
capital expenditures and the payment of dividends (other than dividends on
the Series A Preferred Stock described in Note 1). At December 31, 1997,
there were no amounts outstanding under the line of credit.
10. OBLIGATIONS UNDER CAPITAL AND OPERATING LEASES
On December 24, 1996, the Company completed a sale-leaseback transaction on
the Company's corporate headquarters. The Company received net proceeds of
approximately $4.5 million which approximated the carrying amount of the
land and building. The lease covers a period of 20 years with quarterly
payments of $131,000. The lease agreement allows for an increase in lease
payments for years 4 through 20 based on a formula tied to the Consumer
Price Index. Because the fair market value of the land on which the
principal premises is built was greater than 25 percent of the total fair
value of the leased premises at the inception of the lease, the land and
building have been considered separately for the purposes of applying the
criteria of SFAS No. 13. The land portion of the lease has been classified
as an operating lease. Future minimum payments related to the land portion
of the lease are as follows (in thousands):
YEAR ENDING
DECEMBER 31,
1998 $ 148
1999 148
2000 148
2001 148
2002 148
Thereafter 2,076
------
$2,816
======
The building portion of the lease has been classified as a capital lease.
The Company also leases certain computer and office equipment and related
items under noncancellable capital lease arrangements at varying interest
rates expiring through February 2001.
Minimum annual rentals are as follows (in thousands):
YEAR ENDING
DECEMBER 31,
1998 $ 580
1999 549
2000 449
2001 377
2002 376
Thereafter 5,260
------
7,591
Less amount representing interest 4,278
-----
Present value of minimum rentals 3,313
Less current portion 218
------
Noncurrent portion $3,095
======
As a result of the sale-leaseback transaction, a capitalized lease asset
and obligation in the amount of $3,033,000 was recorded at the inception of
the lease. The net book value of the building was $2,881,000 and $3,033,000
at December 31, 1997 and 1996, respectively. The capitalized lease asset is
being amortized on a straight-line basis over the 20-year lease term. The
capitalized lease obligation is being amortized under the interest method
over the 20-year lease period, utilizing an imputed interest rate of
approximately eleven percent.
The computer and office equipment and related items are included in
property and equipment and other assets with a gross value of $1,591,000
and $1,397,000 at December 31, 1997 and 1996, respectively, and a net book
value of $574,000 and $665,000 at December 31, 1997 and 1996, respectively.
11. COMMON SHAREHOLDERS' EQUITY
a. EARNINGS PER SHARE ("EPS") - In 1997, the Company adopted SFAS No.
128, "Earnings Per Share." Basic EPS is determined by using the
weighted average number of common shares outstanding during each
period. Diluted EPS further assumes the issuance of common shares for
all dilutive potential common shares outstanding. The calculation for
earnings per share for the years ended December 31, 1997, 1996 and
1995 are as follows:
1997 1996 1995
(In Thousands, Except per Share Amounts)
Net income (loss) $ (17,917) $1,183 $1,731
Preferred stock dividends (1,067) - -
---------- ------ -------
Net income (loss) available to
common shareholders $ (18,984) $1,183 $1,731
========== ======= =========
Weighted average common shares 9,114 4,796 4,726
========== ======= =========
Basic EPS $ (2.08) $ 0.25 $ 0.37
========== ======= =========
Net income (loss) $ (17,917) $1,183 $1,731
Preferred stock dividends (1,067) - -
---------- ------- ---------
Net income (loss) available to
common shareholders $ (18,984) $1,183 $1,731
========== ======== ===========
Weighted average common shares 9,114 4,796 4,726
Dilutive effect of common stock
options and warrants - 278 171
---------- --------- -----------
Weighted average common and
common equivalent shares 9,114 5,074 4,897
========== ========= ==========
Diluted EPS $ (2.08) $ 0.23 $ 0.35
========== ========= ===========
b. STOCK OPTION PLAN - In February 1997, the Company adopted the 1997
Stock Incentive Plan of Sentry Technology Corporation (the "1997
Plan"). The 1997 Plan provides for grants up to 2,250,000 options to
purchase the Company's common stock. Awards may be granted by the
stock option committee to eligible employees in the form of stock
options, restricted stock awards, phantom stock awards or stock
appreciation rights. Stock options may be granted as incentive stock
options or nonqualified stock options. Such options become exercisable
at a rate of 20% per year over a five-year period and expire ten years
from the date of grant. All outstanding stock options were issued at
the fair value at the date of grant. At December 31, 1997, 2,214,233
common shares were reserved for issuance in connection with the
exercise of stock options.
Stock option transactions for the years ended December 31, 1997, 1996 and
1995 are as follows:
WEIGHTED
AVERAGE
NUMBER EXERCISE
OF SHARES PRICE
Balance, January 1, 1995 207,952 $ 2.40
Granted 233,073 2.91
Exercised (31,941) 2.06
Canceled (55,731) 2.63
------- ----
Balance, December 31, 1995 353,353 2.73
Granted 245,799 6.31
Exercised (27,117) 2.38
Canceled (19,963) 5.07
------- ----
Balance, December 31, 1996 552,072 4.26
Granted 679,500 3.07
Exercised (35,767) 3.17
Canceled (161,988) 5.23
-------- ----
Balance, December 31, 1997 1,033,817 $ 3.36
========= ======
In connection with the merger described in Note 1, employees and
directors who held options to purchase Knogo N.A. common stock were
granted substitute options ("Substitute Knogo N.A. Options") under the
1997 Plan to purchase an aggregate of 552,072 shares of Sentry Common
Stock and 552,072 shares of Sentry Class A Preferred Stock at prices
determined pursuant to the formula set forth in the Merger Agreement.
Employees and directors who held outstanding options to purchase Video
Sentry common stock were granted substitute options under the 1997
Plan to purchase 195,000 shares of Sentry Common Stock at prices
determined pursuant to the formula set forth in the Merger Agreement.
At December 31, 1997, options to purchase an aggregate of 549,317
(which include 509,317 outstanding and exercisable substitute Knogo
N.A. Options) common shares were vested and currently exercisable at a
weighted average exercise price of $4.16 and an additional 484,500
options vest at dates extending through the year 2002. At December 31,
1997, options for 1,180,416 common shares were available for future
grants.
In connection with the divestiture of Knogo N.A. from Knogo
Corporation on December 29, 1994, approximately 28,000 equivalent
shares of Sentry common stock were issued to former Knogo Corporation
employees who were not transferred to Knogo N.A. These shares were
distributed in settlement of the cancellation of their Knogo
Corporation stock options in 1995.
As discussed in Note 2, the Company accounts for its stock-based
awards using the intrinsic value method in accordance with Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees" and its related interpretations. Accordingly, no
compensation expense has been recognized in the financial statements
for employee stock arrangements.
SFAS No. 123, "Accounting for Stock-Based Compensation," requires the
disclosure of pro forma net income and earnings per share had the
Company adopted the fair value method as of the beginning of fiscal
1995. Under SFAS No. 123, the fair value of stock-based awards to
employees is calculated through the use of option pricing models, even
though such models were developed to estimate the fair value of freely
tradable, fully transferable options without vesting restrictions,
which significantly differ from the Company's stock options awards.
These models also require subjective assumptions, including future
stock price volatility and expected time to exercise, which greatly
affect the calculated values. The Company's calculations were made
using the Black-Scholes option pricing model with the following
weighted average assumptions: expected life of five years; stock
volatility, 74.3% in 1997, 67.1% in 1996, and 66.0% in 1995; risk free
interest rates, 6.5% in 1997, 7.5% in 1996, and 6.5% in 1995; and no
dividends during the expected term. The Company's calculations are
based on a multiple option valuation approach and forfeitures are
recognized as they occur. If the computed fair values of the 1997,
1996 and 1995 awards had been amortized to expense over the vesting
period of the awards, pro forma net income (loss) available to common
shareholders would have been $(19,324,000) (($2.12) per diluted share)
in 1997, $1,061,000 ($0.21 per diluted share) in 1996, and $1,710,000
($0.35 per diluted share) in 1995. However, the impact of outstanding
nonvested stock options granted prior to 1995 has been excluded from
the pro forma calculation; accordingly, the 1997, 1996 and 1995 pro
forma adjustments are not indicative of future period pro forma
adjustments, when the calculation will apply to all applicable stock
options.
c. WARRANTS - At December 31,1997, the Company had warrants to purchase
411,250 shares of common stock at exercise prices ranging from $1.33
and $4.95. Such warrants expire through October 1999. During 1997,
warrants to purchase 42,864 shares of common stock were exercised at
an exercise price of $1.17. At December 31, 1997, 411,250 common
shares were reserved for issuance in connection with the exercise of
these warrants.
12. INCOME TAXES
The components of the Company's income tax provisions for the years ended
December 31, 1997, 1996 and 1995 are as follows:
1997 1996 1995
(In Thousands)
Current:
Federal $ - $ 811 $ 51
State - 94 9
Puerto Rico - 221 (2)
------- --------- -------
- 1,126 58
------- --------- --------
Deferred:
Federal - - -
State - - -
Puerto Rico 174 (462) 152
------- --------- --------
174 (462) 152
------- --------- --------
$ 174 $ 664 $210
======= ========= ========
The reconciliation between total tax expense and the expected U.S. Federal
income tax for the years ended December 31, 1997, 1996 and 1995 is as follows:
1997 1996 1995
(In Thousands)
Expected tax expense (benefit) at 34% $(6,033) $ 628 $ 660
Add (deduct):
State taxes - 94 9
Nondeductible expenses 5,024 35 37
U.S. losses producing no tax benefit 767 - -
Benefits of nontaxable income of
Puerto Rico subsidiary/losses
producing no tax benefit 242 74 (510)
Prior years' estimated tax adjustment - (217) -
Other 174 50 14
-------- -------- --------
$174 $ 664 $ 210
======== ======== =========
Significant components of deferred tax assets and liabilities are
comprised of:
DEFERRED TAX ASSETS (LIABILITIES)
DECEMBER 31, DECEMBER 31, DECEMBER 31,
1997 1996 1995
(IN THOUSANDS)
ASSETS:
Accounts receivable $ 278 $ 266 $ 372
Inventories 442 550 523
Accrued liabilities 175 181 315
Property, plant and equipment 46 14 914
Intercompany transactions 16 17 9
Net operating loss carryforwards 4,337 191 -
Tax credit carryforwards 209 209 98
------- -------- -------
Gross deferred tax assets 5,503 1,428 2,231
Less: Valuation allowance (5,455) (1,160) (2,101)
-------- -------- --------
48 268 130
------- -------- -------
LIABILITIES:
Tollgate taxes (37) (74) (409)
Security devices on lease (11) (20) (9)
------- -------- -------
Gross deferred tax liabilities (48) (94) (418)
------- -------- -------
Net deferred tax asset (liability) $ - $ 174 $ (288)
======= ======== ========
The increase in the valuation allowance for the year ended December 31,
1997 was primarily attributable to the increase in net operating loss
carryforwards for which realization was not more likely than not. The
decrease in the valuation allowance for the year ended December 31, 1996
was due to the decrease in deferred tax assets for which realization was
not more likely than not.
The income tax benefit relating to the sale of the Company's corporate
headquarters reduced currently payable taxes and was credited to additional
paid-in-capital. Such amount approximated $978,000 for the year ended
December 31, 1996.
The Company's Puerto Rico manufacturing subsidiary is exempt from Federal
income taxes under Section 936 of the Internal Revenue Code (as amended
under the Small Business Job Protection Act of 1996). Under the current
law, this exemption from Federal income tax will remain in effect through
2001, will be subject to certain limits during the years 2002 through 2005,
and will be eliminated thereafter. Also, the Company was granted a partial
income tax exemption under the provisions of the Puerto Rico Industrial
Incentives Act of l978 from the payment of Puerto Rico taxes on income
derived from marketing certain products manufactured by the subsidiary. The
grant provides for a 90% exemption from Puerto Rico taxes until January 1,
2008. The Company provides tollgate taxes on the earnings of the Puerto
Rico subsidiary which it intends to remit, in the form of a dividend, to
the parent company based upon the applicable rates.
13. COMMITMENTS AND CONTINGENCIES
a. LITIGATION - The Company is a party to litigation arising in the
normal course of business. Management believes the final disposition
of such matters will not have a material adverse effect on the
consolidated financial statements.
b. SUPPLY AGREEMENT - Knogo N.A. had a supply agreement in which
Sensormatic was obligated to purchase products from Knogo N.A. in the
amount of $12,000,000 in 1995, $8,000,000 in 1996 and $4,000,000 in
1997. Such products were priced to yield a 35% gross
margin. In 1997 and 1996, Sensormatic did not meet its minimum order
amounts in accordance with the terms of the supply agreement and,
accordingly, the Company recorded in revenues the cumulative profits
on the shortfall. Although the supply agreement officially expired and
minimum purchase obligations ended as of June 30, 1997, Sensormatic
continued to purchase these products at similar margins from the
Company. Included in accounts receivable at December 31, 1997 and 1996
are amounts due from Sensormatic of $492,000 and $1,212,000,
respectively.
c. LICENSE AGREEMENT - Knogo N.A. entered into a license agreement in
which Knogo N.A. has the exclusive right to manufacture and sell
existing Knogo N.A. products within the Knogo N.A. territory, and
Sensormatic has such rights elsewhere, except that Knogo N.A. and
Sensormatic each have the right to develop and market the SuperStrip
technology in the Knogo N.A. territory.
d. 401(K) PLAN - In January 1997, the Company adopted the Sentry
Technology Corporation Retirement Savings 401(k) Plan (the "Plan").
The Plan permits eligible employees to make voluntary contributions to
a trust, up to a maximum of 15% of compensation, subject to certain
limitations, with the Company making a matching contribution equal to
a designated percentage of the eligible employee's deferral election.
The Company may also contribute a discretionary contribution, subject
to certain conditions, as defined in the Plan. The Company contributed
approximately $215,000, $110,000 and $121,000 to the Plan for the
years ended December 31, 1997, 1996 and 1995, respectively.
e. EMPLOYMENT AGREEMENTS - The Company and several key executives entered
into employment agreements for terms of two to five years for which
the Company will have a minimum commitment of $1,046,000.
14. MAJOR CUSTOMERS AND CREDIT CONCENTRATIONS
The Company grants credit to customers who are principally in the retail
industry and libraries. During 1997, revenues from a single customer
represented approximately 18% of total revenues. During 1996, revenues from
a different customer represented approximately 13% of total revenues. No
other customer accounted for more than 10% of total revenues for fiscal
1997, 1996 and 1995.
15. JOINT VENTURE
In January 1996, the Company acquired a controlling interest in K&M
Converting Corp. ("KMCC"), a newly established joint venture entered into
with Marian Rubber Products Co., Inc. ("Marian"). KMCC is the exclusive
converter of magnetic material into disposable targets or labels used in
the Company's EAS systems. The Company contributed $15,000 in cash,
$430,000 in inventory, and $49,000 in machinery to KMCC and issued
approximately 17,000 equivalent shares of Sentry common stock to Marian in
exchange for 50.001% of KMCC. The acquisition was accounted for under the
purchase
method of accounting and the operating results of KMCC are
included in the consolidated operating results of the Company since the
date of acquisition. Pro forma results of operations assuming KMCC was
acquired as of the beginning of each of the fiscal years ended December 31,
1996 and 1995 would not differ materially from the reported results.
16. OTHER INCOME - SALE OF ASSETS
During 1996, the Company completed the sale of certain assets (primarily
patents and technology) of its library security systems business to
Minnesota Mining and Manufacturing Company ("3M") for a purchase price of
$3,000,000, paid at closing. In connection with such sale, the Company and
3M entered into an agreement pursuant to which the Company has become a
distributor of certain of 3M's library systems products for an initial term
of three years and has agreed not to compete with 3M in the sale of
security systems products (other than closed circuit video systems) in the
library market except as otherwise contemplated by the transaction
documentation. The parties also settled certain patent litigation between
them.
The impact of the transaction resulted in an increase in cash of $3,000,000
and a pretax tax gain of approximately $2,462,000 for the year ended
December 31, 1996. The impact on the Company's historical revenues and net
income from the sale of products covered by the patents and related
technology sold is not material.
SCHEDULE II
SENTRY TECHNOLOGY CORPORATION AND SUBSIDIARIES
SCHEDULE II VALUATION AND QUALIFYING ACCOUNTS
DECEMBER 31, 1997, 1996 AND 1995
(IN THOUSANDS)
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E
--------- --------- --------------------------- ---------- ---------
ADDITIONS
----------------------------
CHARGED TO
BALANCE AT CHARGED TO OTHER BALANCE
BEGINNING COST AND ACCOUNTS DEDUCTIONS AT END OF
DESCRIPTIONS OF YEAR EXPENSES - DESCRIBE - DESCRIBE YEAR
Year ended December 31, 1997:
Allowance for doubtful accounts $ 719 $ 73 $ 8 (1) $ 48 (2) $ 752
======= ======= ======= ======== ========
Allowance for uncollectible minimum
lease payments $ 157 $ (71) $ 86
======= ====== ========
Reserve for excess and obsolete
inventory $ 1,691 $ 444 $ 889 (2) $ 1,246
======= ====== ======== ========
Year ended December 31, 1996:
Allowance for doubtful accounts $ 931 $ 91 $ 8 (1) $ 311 (2) $ 719
======= ====== ====== ======== ========
Allowance for uncollectible
minimum lease payments $ 159 $ (2) $ 157
======= ====== ========
Reserve for excess and obsolete
inventory $ 1,441 $ 470 $ 220(2) $ 1,691
======= ====== ======== ========
Year ended December 31, 1995:
Allowance for doubtful accounts $ 862 $ 352 $ 34 (1) $ 317(2) $ 931
======= ====== ====== ======= ========
Allowance for uncollectible
minimum lease payments $ 111 $ 48 $ 159
======= ====== ========
Reserve for excess and obsolete
inventory $ 1,343 $ 394 $ 296(2) $ 1,441
======= ====== ====== ========
(1) Recoveries of accounts written off.
(2) Amounts written off.
INDEPENDENT AUDITORS' CONSENT
We consent to the incorporation by reference in Registration Statement No.'s
333-34867 and 333-34929 of Sentry Technology Corporation each on Form S-8 of our
report dated March 3, 1998, appearing in this Annual Report on Form 10-K of
Sentry Technology Corporation for the year ended December 31, 1997.
DELOITTE & TOUCHE LLP
Jericho, New York
March 26, 1998
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
Not Applicable.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY.
ITEM 11. EXECUTIVE COMPENSATION.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
Part III information will be set forth in the Company's definitive proxy
statement for the Company's 1998 Annual Meeting of Stockholders.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a) The following documents are filed as a part of this report on
Form 10-K:
(1)(2) Consolidated Financial Statements of Company and its
subsidiaries for the year ended December 31, 1997 and
Financial Statement Schedules required to be filed by Items
8 and 14(d) of Form 10-K. See the Index to Consolidated
Financial Statements of Sentry Technology Corporation and
its subsidiaries.
(3) Exhibits required to be filed by Item 601 of Regulation S-K:
MANAGEMENT CONTRACTS OR COMPENSATORY PLANS OR ARRANGEMENTS:
10.1 1997 Stock Incentive Plan. Incorporated by reference to
Exhibit 10.5 to Company's Registration Statement on Form S-4
(No. 333-20135).
10.2 Retirement Savings 401(k) Plan. Incorporated by reference
to Exhibit 10.6 to Company's Registration Statement on Form
S-4 (No. 333-20135).
10.3 Form of Employment Agreement, dated as of February 12, 1997,
between Company and Thomas A. Nicolette. Incorporated by
reference to Exhibit 10.1 to Company's Registration
Statement on Form S-4 (No. 333-20135)
10.4 Form of Employment Agreement, dated as of February 12, 1997,
between Company and Peter J. Mundy. Incorporated by
reference to Exhibit 10.2 to Company's Registration
Statement on Form S-4 (No. 333-20135).
10.5 Form of Employment Agreement, dated as of February 12, 1997,
between Company and Peter Y. Zhou. Incorporated by reference
to Exhibit 10.3 to Company's Registration Statement on Form
S-4 (No. 333-20135).
OTHER EXHIBITS:
2.1 Amended and Restated Agreement and Plan of Reorganization
and Merger, dated as of November 27, 1996 among Video
Corporation, Knogo North America Inc., Sentry Technology
Corporation, Viking Merger Corp. and Strip Merger Corp., as
amended by Amendment No. 1 to Amended and Restated Agreement
and Plan of Reorganization and Merger, dated as of January
10, 1997. Incorporated by reference to Exhibit 2.1 to
Company's Registration Statement on Form S-4 (No.
333-20135).
3.1 Form of Amended and Restated Certificate of Incorporation
of the Company, together with Form of Certificate of
Designations of Sentry Technology Corporation Class A
Preferred Stock. Incorporated by reference to Exhibit 3.1 to
Company's Registration Statement on Form S-4 (No.
333-20135).
3.2 Form of Bylaws of the Company. Incorporated by reference
to Exhibit 3.2 to Company's Registration Statement on Form
S-4 (No. 333-20135).
10.7 Form of Loan Agreement and related agreements among the
Company, Knogo North America Inc., Video Sentry Corporation
and General Electric Capital Corporation.
10.8 Form of Contribution and Divestiture Agreement dated
December 29, 1994 between Knogo Corporation and Knogo North
America Inc.
10.9 Form of License Agreement dated December 29, 1994 between
Knogo Corporation and Knogo North America Inc.
10.10 Form of Lease Agreement dated December 24, 1996 between
Knogo North America Inc. and NOG(NY) QRS 12-23, Inc.
10.11 Form of Distribution Agreement dated March 26, 1996 between
Knogo North America Inc. and Minnesota Mining and
Manufacturing Company.
21 Subsidiaries of the Company.
23 Consent of Deloitte & Touche LLP
(b) No reports on Form 8-K were filed for the Company during the relevant
period.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Company has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
SENTRY TECHNOLOGY CORPORATION
By: /S/ PETER J. MUNDY
--------------------------
Peter J. Mundy
Vice President-Finance,
Chief Financial Officer,
Secretary and Treasurer
Dated: March 26, 1998
Pursuant to the requirements of the Securities Exchange Act of 1934, this
Annual Report on Form 10-K has been signed below by the following persons in the
capacities and on the date indicated.
SIGNATURE TITLE
/S/ THOMAS A. NICOLETTE President, Chief Executive Officer
- ------------------------ and Director
Thomas A. Nicolette
/S/ ROBERT D. FURST, JR. Director
- ------------------------
Robert D. Furst, Jr.
/S/ PAUL D. MELLIN Director
- -----------------------
Paul D. Mellin
/S/ WILLIAM A. PERLMUTH Director
- -------------------------
William A. Perlmuth
/S/ ROBERT L. BARBANELL Director
- --------------------------
Robert L. Barbanell
/S/ PETER J. MUNDY Vice President-Finance,
- -------------------------- Chief Financial and
Peter J. Mundy Accounting Officer,
Secretary and Treasurer
Dated: March 26, 1998
EXHIBIT INDEX
10.7 Form of Loan Agreement and related agreements among the Company, Knogo
North America Inc., Video Sentry Corporation and General Electric Capital
Corporation.
10.8 Form of Contribution and Divestiture Agreement dated December 29, 1994
between Knogo Corporation and Knogo North America Inc.
10.9 Form of License Agreement dated December 29, 1994 between Knogo
Corporation and Knogo North America Inc.
10.10 Form of Lease Agreement dated December 24, 1996 between Knogo North
America Inc. and NOG(NY)QRS 12-23, Inc.
10.11 Form of Distribution Agreement dated March 26, 1996 between Knogo
North America Inc. and Minnesota Mining and Manufacturing Company.
21 Subsidiaries of the Company.
23. Consent of Deloitte & Touche LLP