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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED APRIL 30, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER 0-8141
NORSTAN, INC.
(Exact name of registrant as specified in its chapter)
MINNESOTA 41-0835746
(I.R.S. Employer identification
(State of incorporation) No.)
605 NORTH HIGHWAY 169, TWELFTH FLOOR, PLYMOUTH, MINNESOTA 55441
(Address of principal executive offices)
The Company's phone number: 612-513-4500 The Company's internet address:
WWW.NORSTAN.COM
Securities registered pursuant to Section 12(b) of the Act: NONE
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK ($.10 PAR VALUE PER SHARE)
COMMON STOCK PURCHASE RIGHTS
(Title of class)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports) and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
As of July 27, 1998, the aggregate market value of the voting stock held by
non-affiliates of the registrant, computed by reference to the average high and
low prices on such date as reported by the Nasdaq National Market System was
approximately $178,941,000.
As of July 27, 1998, there were outstanding 10,474,281 shares of the
registrant's common stock, par value $.10 per share, its only class of equity
securities.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant's definitive proxy statement to be filed within
120 days after the end of the fiscal year covered by this report are
incorporated by reference into Part III hereof.
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TABLE OF CONTENTS
PAGE
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PART I
ITEM 1. Business.................................................... 1
Summary.....................................................
Industry Overview...........................................
The Norstan Solution........................................
Norstan's Business Strategy.................................
Norstan's Growth Strategy...................................
Products and Services.......................................
Customers and Engagements...................................
Strategic Alliances.........................................
Sales and Marketing......................................... 1
Customer Service............................................
Locations...................................................
Human Resources.............................................
Competition.................................................
Intellectual Property Rights................................
Government Regulation.......................................
Backlog.....................................................
ITEM 2. Properties.................................................. 2
ITEM 3. Legal Proceedings........................................... 3
ITEM 4. Submission of Matters to a Vote of Security Holders......... 3
PART II
ITEM 5. Market for the Company's Common Equity and Related
Shareholder Matters......................................... 4
ITEM 6. Selected Consolidated Financial Data........................ 5
ITEM 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations for the Fiscal Years 1998, 1997,
and 1996.................................................... 6
ITEM 8. Financial Statements and Supplementary Data................. 8
ITEM 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure.................................... 9
PART III
ITEM 10. Directors and Executive Officers of the Registrant.......... 9
ITEM 11. Executive Compensation...................................... 9
ITEM 12. Security Ownership of Certain Beneficial Owners and
Management.................................................. 9
ITEM 13. Certain Relationships and Related Transactions.............. 9
PART IV
ITEM 14. Exhibits, Financial Statement Schedules and Reports on Form
8-K......................................................... 10
SIGNATURES............................................................ 11
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PART I
ITEM 1. BUSINESS.
BUSINESS
SUMMARY
Norstan is a leading provider of communications and information technology
("IT") solutions for over 18,000 customers in the United States, Canada and
England. To address the complex communications requirements of its customers,
Norstan provides a broad range of products and services, including telephone
systems, call center systems, voice processing, network integration, voice and
video conferencing, and facilities management services. Norstan's network of
over 800 field technicians and service consultants delivers communications
services to its customers. In addition, the Company provides a wide array of IT
solutions through Norstan IT Consulting Services. These solutions include the
design, implementation, maintenance and modification of IT applications and
systems. Norstan IT Consulting Services currently employs over 700 consultants
and generated a 70% increase in revenues during fiscal year 1998. As
communications and information technologies converge, Norstan's strategy is to
expand the breadth of its IT services offerings to serve as a single-source
provider of leading technology solutions to its customers.
The Company delivers its products and services through three business
units, Global Services, Communications Solutions and Financial Services, which
accounted for approximately 48%, 50% and 2% of Norstan's fiscal year 1998
revenues, respectively. Global Services includes Norstan IT Consulting Services
and Communications Services. Norstan IT Consulting Services provides IT services
including enterprise resource planning ("ERP") and sales management package
implementation, groupware consulting, Internet/intranet/e-commerce solutions,
computer telephony integration ("CTI") and outsourced facilities management.
Communications Services provides customer support services for communications
systems, including maintenance services, systems modifications and long distance
services. Communications Solutions provides a broad array of solutions including
telephone systems, integrated voice processing, call center technologies and
video/audio/data conferencing solutions. Financial Services supports the sales
process by providing customized financing alternatives. The Company believes
that its breadth of product and service offerings fosters long-term customer
relationships, affords cross-selling opportunities and minimizes the Company's
dependence on any single technology or industry.
The Company operates in 68 locations in 58 cities throughout the United
States and Canada. Norstan has served over 18,000 customers across a broad range
of industries in the last three years and focuses its marketing efforts on
middle-market and Fortune 500 companies with complex technology and
communications requirements. Current customers include British Petroleum, IBM,
Kaiser Permanente, John Deere, US Bancorp, 3M and Harley-Davidson. The Company
believes that its installed base of communications systems customers will offer
extensive opportunities for cross-selling IT consulting services. Management
also believes that Norstan IT Consulting Services customers will be a source of
additional communications business. Norstan's strong emphasis on customer
satisfaction is evidenced by a survey of Norstan's communications customers, in
which Norstan received an overall satisfaction rating of 93% in fiscal year
1998. The Company believes that its outstanding customer service will enable
Norstan to capture a greater portion of each customer's communications and IT
budgets in the future.
Norstan provides leading-edge technologies in both its IT and
communications operations. The Company has established strategic alliances with
leading IT and communications companies that allow Norstan to offer objective
solutions to its customers. IT strategic alliance partners include IBM, Siebel
Systems, Oracle, Lotus, PeopleSoft, Tivoli, Novell and Microsoft. Communications
strategic alliance partners include Siemens, Aspect, VTEL, PictureTel, Latitude,
Cisco Systems, Sprint, Lucent Technologies (formerly Octel) and Applied Voice
Technology.
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INDUSTRY OVERVIEW
In the current climate of intense global competition and accelerating
technological change, businesses increasingly depend upon technology-based
solutions to enhance their competitive position, and to improve their
productivity and the quality of their products and services. Today's business
environment mandates the availability of efficient voice and video communication
channels and information in formats suited to a wide variety of users.
Accordingly, businesses are looking to a variety of new technologies to enhance
the performance of their communications systems and to allow IT systems to
collect, analyze and communicate information within the enterprise and among
customers and suppliers. An organization's ability to integrate and deploy new
communications and IT technologies in a unified and cost-effective manner has
become critical to competing successfully in today's rapidly changing business
environment.
While organizations recognize the importance of communications and IT
systems in this business environment, the selection, implementation,
customization and maintenance of these systems is becoming more complex and the
resources required to perform these tasks are becoming increasingly scarce.
Faced with a shortage of qualified technical resources and great demands to
implement the latest technology, customers are increasingly relying on outside
vendors to provide the necessary resources. By outsourcing communications and IT
services, companies are able to focus on their core businesses; access
specialized technical skills; implement communications and IT solutions more
rapidly; benefit from flexible staffing; and reduce the cost of recruiting,
training and retaining communications and IT professionals.
As a result of these factors, demand for IT and communications services and
products has grown significantly. In 1998, the worldwide market for IT services
is estimated at $350 billion and is projected to grow to $620 billion by 2002
according to Dataquest. Dataquest also estimates that the market for these
services is projected to grow at a 15% compound annual growth rate. For calendar
year 1998, industry sources estimate that the U.S. market for switching,
networking and application equipment is over $17 billion, and the U.S. market
for telecommunications maintenance and professional services is estimated to be
approximately $4 billion. As customers seek the competitive advantages that
advanced communications and computer telephony integration can deliver, growth
of certain segments of call processing are expected to be particularly strong.
Between 1996 and 2000, the U.S. market for voice mail, interactive voice
response units, networking equipment, and other telecommunications peripherals
and applications is expected to grow at a compound annual growth rate of
approximately 12%. By 2000, the U.S. market for these associated applications
and peripherals is projected to be over $14 billion.
The markets and technologies for communications equipment and IT
applications and systems continue to converge as communications equipment
migrates from proprietary switches to software-driven systems operating on
standardized computer platforms. As a result, businesses are integrating their
communications and IT systems. In addition, many middle-market and Fortune 500
companies rely on multiple, often specialized, providers to help implement and
manage their communications and IT systems. The Company believes that relying on
multiple service providers, where there is no distinct responsible party,
creates vendor relationships that are difficult and expensive to manage and
adversely impacts the quality and compatibility of communications and IT
solutions. As previously separate communications and IT technologies converge
and their interoperability increases, more organizations will seek a unified
technology solution. Norstan believes that these organizations will attempt to
reduce costs and management complexity by establishing relationships with a
small number of providers that offer a broad range of both communications and IT
products and services throughout the full life cycle of a project.
THE NORSTAN SOLUTION
The Company is a single-source provider of a wide range of communications
and IT solutions that enable its customers to compete and succeed in the global
marketplace. The Company has leveraged its established reputation as a provider
of premier communications products and services, along with the capability of
its more than 700 IT consultants, to deliver a unified communications and IT
solution to middle-market and Fortune 500 companies. This broad range of
offerings enables Norstan to serve as a single-source provider of communications
and IT solutions throughout the entire life cycle of a project. Norstan's
ability to serve as a
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single-source provider results in closer integration, reduced risk and greater
management control for the customer. The Company believes that its customer
relationships, its geographic reach and size, and its expertise in providing
both communications and IT solutions will enable it to capitalize on the
continuing growth and convergence of communications and IT needs of
middle-market and Fortune 500 companies.
NORSTAN'S BUSINESS STRATEGY
The Company's objective is to become a leading provider of communications
and IT offerings to middle-market and Fortune 500 companies. The Company's
strategy to achieve this objective includes the following key elements:
Capitalize on the Accelerating Convergence of Communications and
Information Technologies. Norstan's established communications expertise,
coupled with its IT consulting capabilities, positions the Company to exploit
the convergence of voice, video and information technologies onto a single
platform. Norstan believes that it is one of the few firms offering this
combination of skills and services, enabling the Company to serve as a
single-source provider of a unified technology solution.
Increase Focus on Providing Technology Services. As communications and
information technologies converge, the Company intends to increase its
percentage of revenues derived from technology services, which typically command
higher margins than product sales. Management believes that its increased focus
on technology services will enhance its overall profitability. Over the last
three fiscal years, revenues from Norstan's Global Services business unit
increased at a 27% annual compound growth rate and accounted for over 48% of
revenues in fiscal year 1998.
Offer a Broad Range of Communications and IT Solutions. Norstan's broad
range of voice, video and data solutions allows the Company to serve as a
single-source provider for its customers' communications and IT needs. The
ability to provide consulting services, hardware, software, training and
on-going support enables Norstan to offer a unified communications and IT
solution throughout the life cycle of a project. This capability will become
increasingly important as communications and information technologies continue
to converge and customers look to retain a single-source provider for all their
communications and IT needs.
Attract, Develop and Retain Highly Skilled Professionals. The Company seeks
to attract, develop and retain the highest caliber of communications and IT
consultants. Norstan places a strong emphasis on the career development and
training of its IT consultants through its Team Manager program. Team Managers
provide career guidance and ensure that employees maintain skills in
state-of-the-art technologies. Norstan offers a competitive combination of
employee benefits and incentives, including employee stock option and stock
purchase programs, as well as incentive compensation based on the amount billed
by individual consultants.
Provide Superior Customer Service. Norstan believes its dedication to
providing service beyond its customers' expectations has produced many favorable
customer relationships and resulted in increased exposure to potential
customers. Norstan's strong emphasis on customer satisfaction is evidenced by a
survey of Norstan's communications customers, in which Norstan received an
overall satisfaction rating of 93% in fiscal year 1998. The Company believes
that its reputation for superior service will lead to opportunities for
cross-selling additional products and services to its customer base.
Offer Leading-Edge Technologies. Norstan maintains several strategic
alliances with business partners that allow it to offer leading-edge
technologies. IT strategic alliance partners include IBM, Siebel Systems,
Oracle, Lotus, PeopleSoft, Tivoli, Novell and Microsoft. Communications
strategic alliance partners include Siemens, Aspect, VTEL, PictureTel, Latitude,
Cisco Systems, Sprint, Lucent Technologies (formerly Octel) and Applied Voice
Technology. These strategic alliances provide the Company with access to
training, product support and current technology as well as the use of the
"business partner" designation in marketing the Company's products and services.
The Company intends to strengthen its existing alliances and pursue additional
alliances with leading technology companies.
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NORSTAN'S GROWTH STRATEGY
To achieve its growth objectives, the Company has adopted the following
strategies:
Pursue Complementary IT Services Acquisitions. To capitalize on the highly
fragmented nature of the IT services industry, the Company intends to grow
Norstan IT Consulting Services through acquisitions. Building on its experience
of acquiring communications companies over the last ten years, Norstan has
completed three acquisitions of IT services businesses since 1996. The Company
will target additional acquisitions that provide complementary expertise, expand
its domestic and international geographic presence, diversify its customer base
and increase its consulting resources.
Continue Internal Growth of Norstan IT Consulting Services. The Company
seeks to continue the rapid growth of Norstan IT Consulting Services by opening
branch locations in targeted geographic markets. During fiscal year 1998,
Norstan IT Consulting Services generated 37.5% internal revenue growth and
opened four new branch locations in Atlanta, St. Louis, Chicago and Phoenix.
Norstan has targeted six to eight potential markets for future branch locations
over the next twelve months. In addition, the Company intends to leverage
existing communications locations through cross-selling efforts and the
aggressive recruitment of IT consultants. From the June 1996 acquisition of
Connect through the end of fiscal year 1998, Norstan IT Consulting Services has
increased its number of consultants at a compound annual growth rate of 55.0%,
excluding other acquisitions.
Leverage Existing Customer Relationships. Norstan intends to grow its
technology services business by leveraging the Company's existing base of over
18,000 customers. These relationships provide Norstan with significant
advantages in marketing new communications and IT services and solutions.
Management believes the convergence of communications and information
technologies, together with the Company's high level of customer satisfaction,
will position Norstan to become a preferred provider of both communications and
IT solutions.
PRODUCTS AND SERVICES
Norstan provides customers with a single source for a broad range of
communications and IT products and services to design, develop and implement
technology solutions in a variety of customer environments. These products and
services are delivered through three business units, Global Services,
Communications Solutions and Financial Services.
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Global Services. Global Services, which represented 48% of the Company's
fiscal year 1998 revenues, consists of two operating groups: Norstan IT
Consulting Services and Communications Services. The following table summarizes
the products and services provided by these two groups.
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GLOBAL SERVICES
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NORSTAN IT CONSULTING SERVICES
CATEGORY OF SERVICE DESCRIPTION OF SERVICES
Business Transformation Services - Develop strategic IT plans
- Provide business transformation and process
reengineering consulting services
- Provide information management consulting
- Provide vertical industry solutions focused on the
healthcare and financial services industries
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Enterprise Business Solutions - Customize packaged software solutions, including ERP
and customer management solutions
- Develop and implement call center strategies and
solutions
- Develop Internet/intranet/e-commerce solutions
- Provide network and system strategies
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Information Technology Services - Design and develop applications
- Provide data integration services
- Perform network and messaging services
- Provide operating systems and migration services
- Analyze customer businesses and systems
- Provide project management services for IT operations
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Managed Services - Manage networks and systems
- Support and maintain applications
- Provide support for network and client/server systems
- Perform product procurement and integration
- Provide standard/custom technical education and
training services
- Manage customer communications operations
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COMMUNICATIONS SERVICES
CATEGORY OF SERVICE DESCRIPTION OF SERVICES
Communications Maintenance - Provide maintenance services on customers'
Services communications systems hardware
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Moves, Adds and Changes - Transfer telephone systems to new user locations
- Add telephones or expansion cards in a telephone
system
- Change system and user features
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Long Distance Services - Offer a full range of long distance and network
services
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Communications Solutions. Communications Solutions, which represented 50%
of the Company's fiscal year 1998 revenues, focuses on the design, sale and
implementation of communications and other technology equipment. Communications
Solutions provides the following products and services:
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COMMUNICATIONS SOLUTIONS
CATEGORY OF PRODUCT OR SERVICE DESCRIPTION OF PRODUCTS AND SERVICES
Telephone Systems - Design, install and implement telephone switching
systems
- Supply telephone switching systems
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Call Center Systems - Design, install and implement call center systems
- Supply call center systems
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Call Processing Systems - Design, install and implement voice response and voice
messaging products
- Supply voice response and voice messaging products
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Conferencing Systems - Design, install and implement conferencing systems
- Provide audio, video and data conferencing products
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Refurbished Equipment - Refurbish and resell previously owned Siemens, Nortel,
Iwatsu, Aspect and Isoetec products
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Financial Services. Financial Services, which represented 2% of the
Company's fiscal year 1998 revenues, provides customers with efficient and
competitive financing for the purchase or lease of products and services.
Financial Services supports the sales process by offering customized lease
structures that eliminate the need for third-party financing.
CUSTOMERS
Norstan focuses its marketing efforts on middle-market and Fortune 500
companies with complex communications and IT requirements. Norstan has served
over 18,000 customers across a broad range of industries over the last three
fiscal years. No single customer accounted for more than 5% of Norstan's total
revenue during any of the last three fiscal years.
Norstan customers during fiscal year 1998 included the following:
NORSTAN IT CONSULTING SERVICES
3M Grand Metropolitan Michelin
American Express Harley-Davidson Nationwide Insurance
AT&T IBM State Farm Insurance
British Petroleum Invacare SuperValu
Cargill John Deere US Bancorp
GMAC Kaiser Permanente Williams-Sonoma
COMMUNICATIONS SERVICES AND COMMUNICATIONS SOLUTIONS
American Freightways Cargill Imation
British Petroleum Fortis Insurance Medtronic
Best Buy Harley-Davidson Marquette University
CIBC IBM US Bancorp
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STRATEGIC ALLIANCES
The Company believes that its relationships with a wide range of leading
technology companies position Norstan to deliver the appropriate solution to
each customer. IT strategic alliance partners include IBM, Siebel Systems,
Oracle, Lotus, PeopleSoft, Tivoli, Novell and Microsoft. In addition, Siebel
Systems, a leading customer care and sales automation software provider, has
recently granted Premier Consulting Partner status to Connaissance Consulting (a
majority-owned Norstan affiliate).
Communications strategic alliance partners include Siemens, Aspect, VTEL,
PictureTel, Latitude, Cisco Systems, Sprint, Lucent Technologies (formerly
Octel) and Applied Voice Technology. In addition, the Company distributes
complementary communications products that fit specific segments of the
marketplace. These include hybrid switching systems, personal computer-based
voice processing and video conferencing systems, as well as data communications
products from Novell, Newbridge, Bay Networks, Compaq, Lotus and others.
Norstan has been a distributor of Siemens communications equipment since
1976 and is Siemens' largest independent distributor in North America. The
current distributor agreement with Siemens, which commenced in July 1993, has
been renewed through July 27, 1999 while a new distribution agreement is being
negotiated. Norstan and Siemens have also renewed an agreement through July 27,
2003 under which Norstan is an authorized agent for the refurbishment and sale
of previously owned Siemens equipment.
SALES AND MARKETING
Norstan has approximately 500 sales and marketing personnel within the
United States and Canada. The sales force includes product and service
specialists with expertise in IT consulting services, video conferencing, call
centers, telecommunications, education and training, and other areas. These
specialists partner with the sales representatives to develop integrated
technology solutions to address the specific technology needs of Norstan's
customers. Norstan uses several techniques to pursue new customer opportunities,
including telemarketing, seminars, participation in trade shows and advertising.
Norstan's sales representatives and specialists use a comprehensive
approach to evaluate each customer's technology needs. The sales representative
begins with a detailed analysis of the customer's current and future
communications and IT systems requirements. After determining the customer's
needs, the sales representative and product specialist develop a solution that
satisfies current and anticipated requirements. Norstan's consulting and
operations teams then work with the customer to plan the delivery and
implementation of the solution and to identify required training. By planning
the precise requirements of each phase of the solution delivery, Norstan's
specialists are able to minimize service interruption for the customer. Norstan
also provides an ongoing support program tailored to meet the customer's
specific application requirements that incorporates remote diagnostics, in-field
service and support, additional training and help desk support from Norstan's
customer support representatives.
Norstan's marketing strategy is to capture a larger portion of existing
customers' communications and IT budgets and to identify and develop new
customer relationships. In particular, the Company believes that its installed
base of communications systems customers offers extensive opportunities for the
marketing of IT consulting services. Management also believes that Norstan IT
Consulting Services will be a source of additional communications business.
Norstan anticipates that its high quality customer service will support ongoing
marketing efforts, as satisfied customers are more likely to choose Norstan to
supply additional communications and IT products and services. Also, Norstan is
investing in sales management automation systems, which will further efforts to
cross-sell the depth and breadth of its product offerings to existing customers.
CUSTOMER SERVICE
Norstan believes that providing exceptional customer service is an
important element of its ability to compete effectively in the communications
and IT marketplace. Norstan has invested heavily in new technology that is
designed to enable the Company to resolve a substantial portion of customer
support and
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service issues quickly and remotely. Norstan coordinates its customer service
response through three remote diagnostics and dispatch centers located in the
Minneapolis, Cleveland and Toronto areas. In fiscal year 1998, these centers
handled over 250,000 customer calls with approximately 46% of the
service-related calls addressed remotely. Only 18% of customer calls were
resolved remotely in fiscal year 1994. The Company's goal for fiscal year 1999
is to resolve in excess of 50% of service calls remotely. For calls requiring
immediate on-site service and support, Norstan maintains a highly trained force
of service technicians, design engineers and customer support representatives.
Norstan has over 125 employees in its three remote diagnostics and dispatch
centers devoted primarily to providing customer service and has 500 service
technicians in the field. With Norstan's remote problem resolution capability
and its highly trained staff of technicians, Norstan is able to promptly resolve
customer support requests. Norstan's commitment to customer service is evidenced
by a recent survey of Norstan's Communications Solutions customers that found an
overall satisfaction rating of 93% in fiscal year 1998.
LOCATIONS
The Company currently supports its Norstan IT Consulting Services,
Communications Services and Communications Solutions customers with locations in
the United States and Canada. Norstan IT Consulting Services plans to add
approximately six to eight additional locations during fiscal year 1999. The
Company maintains the following 68 locations in 58 cities:
NORSTAN IT CONSULTING SERVICES
Atlanta, GA
Baltimore, MD
Champaign, IL
Charlotte, NC
Chicago, IL
Cincinnati, OH
Cleveland, OH
Columbia, SC
Columbus, OH
Denver, CO
Des Moines, IA
Greensboro, NC
Greenville, SC
Indianapolis, IN
Milwaukee, WI
Minneapolis, MN
Omaha, NE
Phoenix, AZ
Pittsburgh, PA
Raleigh, NC
Richmond, VA
San Francisco, CA
St. Louis, MO
COMMUNICATIONS SERVICES AND COMMUNICATIONS SOLUTIONS
Albuquerque, NM
Amarillo, TX
Appleton, WI
Austin, TX
Baton Rouge, LA
Birmingham, AL
Calgary, Alberta
Cedar Rapids, IA
Chicago, IL
Cincinnati, OH
Cleveland, OH
Columbus, OH
Davenport, IA
Dayton, OH
Des Moines, IA
Edmonton, Alberta
El Paso, TX
Fargo, ND
Las Vegas, NV
Lexington, KY
Little Rock, AR
London, Ontario
Louisville, KY
Lubbock, TX
Madison, WI
Milwaukee, WI
Minneapolis, MN
Mobile, AL
Montreal, Quebec
New Orleans, LA
Oklahoma City, OK
Omaha, NE
Ottawa, Ontario
Phoenix, AZ
Pittsburgh, PA
Rochester, MN
Shreveport, LA
Sioux Falls, SD
Springdale, AR
Toledo, OH
Toronto, Ontario
Tucson, AZ
Tulsa, OK
Vancouver, British Columbia
Winnipeg, Manitoba
HUMAN RESOURCES
As of June 30, 1998, Norstan had 2,971 employees, of which over 700 were IT
consulting personnel and approximately 840 were communications field technicians
and service consultants. U.S. operations totaled
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2,749 employees, including 135 who are covered by collective bargaining
agreements. The Company's Canadian operations had a total of 222 employees.
The Company's success depends in large part on its ability to attract,
develop, motivate and retain highly skilled IT consultants. Qualified technical
employees are in great demand and are likely to remain a limited resource for
the foreseeable future. To retain these resources, Norstan places a strong
emphasis on the career development and training of its IT consultants and has
implemented several unique programs, including its Team Manager initiative. Team
Managers ensure that employee skills remain current with the industry and that
the employee is given adequate development experiences to create a fulfilling
work environment. Norstan also offers a competitive combination of employee
benefits and incentives, including employee stock options, stock purchase
programs and an attractive revenue-sharing arrangement whereby an individual
consultant's base compensation is supplemented with a percentage of the revenue
that the individual bills. Finally, Norstan IT Consulting Services has developed
a proprietary program in which key individuals in the organization are charged
with and rewarded for the successful opening of new branch office locations.
This program helps Norstan IT Consulting Services retain personnel and expand
its geographic reach.
Norstan also dedicates significant resources to recruiting consultants with
specific technical and industry expertise. In connection with its hiring
efforts, the Company employs internal recruiters and relies on personal and
business contacts to recruit professionals through referrals, contacts at trade
shows and job fairs.
The Company uses formal training programs to further develop its
professional resources. The Company also uses mentoring by placing junior IT
professionals under the guidance of senior IT professionals on certain customer
engagements. In addition, in order to expand the skills and develop the careers
of the Company's consultants and technical staff, the Company recently
introduced computer-based training resources covering 450 course topics.
COMPETITION
The communications industry is intensely competitive and rapidly changing.
Norstan's primary competitors in this area include Lucent Technologies, Nortel
and the RBOCs. Many of its competitors have longer operating histories, greater
financial and human resources, and greater name recognition than Norstan. The
passage of the Telecommunications Act of 1996 has fostered competition by
providing access to a number of entities that were previously precluded from the
industry. As a result of this legislation, the pace of consolidation in the
industry has accelerated. These changes in the regulatory environment could
potentially affect Norstan's ability to compete successfully.
The market for IT services includes a large number of competitors, is
subject to rapid change and is highly competitive. Primary competitors include
participants from a variety of market segments, including national accounting
firms, systems consulting and implementation firms, application software firms,
service groups of computer equipment companies, facilities management companies,
general management consulting firms and programming companies. Many of these
competitors have significantly greater financial, technical and marketing
resources and greater name recognition than the Company. In addition, the
Company competes with its customers' internal resources, particularly when these
resources represent a fixed cost to the customer. Such competition may impose
additional pricing pressures on the Company. See "Risk Factors -- Competition."
Subject to this competitive environment, the Company competes on the basis
of: (i) the depth and breadth of services and products offered; (ii) the ability
to integrate IT and communications systems as the related technologies continue
to converge; (iii) its reputation for providing superior customer service; and
(iv) the number and strength of customer relationships.
INTELLECTUAL PROPERTY RIGHTS
The Company relies upon a combination of nondisclosure and other
contractual arrangements with certain key employees, and trade secret, copyright
and trademark laws to protect its proprietary rights and the proprietary rights
of third parties from whom the Company licenses intellectual property. Norstan
enters into
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confidentiality agreements with certain of its employees and limits the
distribution of proprietary information. See "Risk Factors -- Limited Protection
of Intellectual Property Rights."
GOVERNMENT REGULATION
Except for the sale of long distance service, the Company is not subject to
any government regulations that have a material impact on its operations.
Effective May 1, 1992, the Company became a direct reseller of long distance
network services and accordingly became subject to certain state tariff
regulations throughout the United States. The Company is currently registered
and certified to provide interstate services in all 50 states and intrastate
services in 47 states. The Company is also subject to FCC regulations, which
require the filing of federal tariffs.
BACKLOG
As of April 30, 1998, the Company had signed contracts for
telecommunications products aggregating approximately $46.2 million,
substantially all of which are expected to be fulfilled by the end of fiscal
1999. As of April 30, 1997, the Company had signed contracts aggregating
approximately $47.3 million, substantially all of which were fulfilled by the
end of fiscal 1998. The usual time period between the execution of a contract
and the completion of the installation is one to six months, depending on the
size and complexity of the system.
10
13
ITEM 2. PROPERTIES.
The executive offices of the Company are located in Plymouth, Minnesota,
where the Company leases approximately 53,400 square feet of office space. The
Company expects to move into new headquarters located in Hopkins, Minnesota in
the quarter ending October 31, 1998. The Company leases approximately 165,000
square feet of office space in this new location. The Company also has area
headquarters in Brecksville, Ohio, and Phoenix, Arizona, where the Company
leases approximately 61,250 and 34,400 square feet of office space,
respectively. In addition to the space above, the Company leases sales and
service offices in 47 other cities within the United States. In Canada, the
Company leases approximately 30,400 square feet of office space in North York,
Ontario, which serves as its Canadian headquarters. The Company also leases
sales and service offices in seven other cities within the Canadian provinces of
Alberta, Manitoba, Ontario, Quebec and British Columbia. The Company believes
that the above-mentioned facilities are adequate and suitable for its current
needs.
ITEM 3. LEGAL PROCEEDINGS.
The Company is involved in legal actions in the ordinary course of its
business. Although the outcomes of any such legal actions cannot be predicted,
in the opinion of management there is no legal proceeding pending against or
involving the Company for which the outcome is likely to have a material adverse
effect upon the business, operating results and financial condition of the
Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
The Company did not submit any matters to a vote of security holders during
the last quarter of the fiscal year covered by this report.
11
14
PART II
ITEM 5. MARKET FOR THE COMPANY'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
PRICE RANGE OF COMMON STOCK
The Company's common stock is traded on the National Over-the-Counter
market and is listed on the national market system of the National Association
of Securities Dealers' Automated Quotations System ("NASDAQ") under the symbol
"NRRD". The following table sets forth the high and low sale prices for the
Company's common stock as reported by NASDAQ for each quarterly period during
the two most recent fiscal years(1):
HIGH LOW
---- ---
FISCAL YEAR ENDED APRIL 30, 1998:
First Quarter............................................... 18 1/2 14
Second Quarter.............................................. 25 1/2 17 1/2
Third Quarter............................................... 25 1/2 22
Fourth Quarter.............................................. 29 21 7/8
FISCAL YEAR ENDED APRIL 30, 1997:
First Quarter............................................... 19 1/2 13 1/8
Second Quarter.............................................. 20 1/4 15
Third Quarter............................................... 18 3/4 15 1/2
Fourth Quarter.............................................. 17 1/4 13 3/4
The quotations reflect prices between dealers and do not include retail
mark-ups, mark-downs or commissions, and do not necessarily represent actual
transactions.
As of July 27, 1998, there were 4,239 holders of record of the Company's
common stock.
RESTRICTIONS ON THE PAYMENT OF DIVIDENDS
The Company has not recently declared or paid any cash dividends on the
common stock and does not intend to pay cash dividends on the common stock in
the foreseeable future. The Company currently expects to retain earnings to
finance expansion of its business. In addition, the Company's current revolving
long-term credit agreement prohibits the payment of cash dividends without the
prior written consent of the lenders thereunder.
ISSUANCE OF UNREGISTERED SECURITIES
The Company issued 151,515 unregistered shares of its common stock on
January 2, 1998 in connection with the Company's acquisition of PRIMA. A portion
of such shares were derivated into an escrow account established to provide a
source of payment for indemnification claims made by the Company, if any. The
escrow account will close on March 31, 1999 and all shares of the Company's
common stock remaining there, if any, will be distributed to the registered
holders. During the escrow period, registered holders have all the rights of a
shareholder, including the right to vote such shares, however, they many not
sell, transfer, pledge or otherwise encumber the shares. Such shares were issued
pursuant to Regulation D promulgated by the Securities and Exchange Commission
under the authority of the Securities Act of 1933, as amended.
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15
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA.
The selected consolidated financial data set forth below as of and for each
of the fiscal years in the five-year period ended April 30, 1998 have been
derived from the Company's consolidated financial statements, which have been
audited by Arthur Andersen LLP, independent public accountants. The selected
consolidated financial data should be read in conjunction with "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
the consolidated financial statements and the notes thereto included elsewhere
in this report.
FISCAL YEARS ENDED APRIL 30,
----------------------------------------------------
1994 1995 1996 1997 1998
---- ---- ---- ---- ----
(IN THOUSANDS, EXCEPT PER SHARE DATA)
STATEMENTS OF OPERATIONS DATA:
Revenues:
Global Services
IT Consulting Services............................. $ -- $ 7,931 $ 14,426 $ 54,467 $ 92,746
Communications Services............................ 100,080 110,638 121,971 131,596 127,197
-------- -------- -------- -------- --------
Total Global Services............................ 100,080 118,569 136,397 186,063 219,943
Communications Solutions............................. 127,514 166,675 179,332 205,983 228,979
Financial Services................................... 4,305 5,001 5,635 6,029 7,443
-------- -------- -------- -------- --------
Total revenues................................... 231,899 290,245 321,364 398,075 456,365
-------- -------- -------- -------- --------
Cost of sales:
Global Services
IT Consulting Services............................. -- 6,417 11,000 43,315 66,457
Communications Services............................ 61,289 70,224 86,669 93,880 89,550
-------- -------- -------- -------- --------
Total Global Services............................ 61,289 76,641 97,669 137,195 156,007
Communications Solutions............................. 92,621 123,158 130,090 150,204 168,965
Financial Services................................... 1,766 2,308 2,221 2,160 2,444
-------- -------- -------- -------- --------
Total cost of sales.............................. 155,676 202,107 229,980 289,559 327,416
-------- -------- -------- -------- --------
Gross margin........................................... 76,223 88,138 91,384 108,516 128,949
Selling, general and administrative expenses........... 65,137 74,725 75,973 89,311 103,709
Restructuring charge................................... -- -- -- -- 14,667
-------- -------- -------- -------- --------
Operating income....................................... 11,086 13,413 15,411 19,205 10,573
Interest expense....................................... (832) (1,587) (1,351) (1,866) (3,909)
Interest and other income (expense), net............... (106) (54) 89 (22) (18)
-------- -------- -------- -------- --------
Income before cumulative effect of accounting change
and provision for income taxes....................... 10,148 11,772 14,149 17,317 6,646
Provision for income taxes............................. 4,161 4,709 5,660 7,100 2,791
-------- -------- -------- -------- --------
Income before cumulative effect of accounting change... 5,987 7,063 8,489 10,217 3,855
Cumulative effect of change in accounting for income
taxes (1)............................................ (375) -- -- -- --
-------- -------- -------- -------- --------
Net income............................................. $ 5,612 $ 7,063 $ 8,489 $ 10,217 $ 3,855
======== ======== ======== ======== ========
Net income per share -- Basic.......................... $0.70 $0.86 $1.00 $1.12 $0.40
======== ======== ======== ======== ========
Net income per share -- Diluted........................ $0.67 $0.82 $0.94 $1.08 $0.39
======== ======== ======== ======== ========
Weighted average shares -- Basic....................... 8,017 8,242 8,526 9,140 9,719
======== ======== ======== ======== ========
Weighted average shares -- Diluted..................... 8,402 8,621 8,985 9,418 9,917
======== ======== ======== ======== ========
AS OF APRIL 30,
----------------------------------------------------
1994 1995 1996 1997 1998
---- ---- ---- ---- ----
BALANCE SHEET DATA:
Working capital........................................ $ 32,961 $ 32,183 $ 24,899 $ 37,484 $ 58,568
Total assets........................................... 149,662 161,709 160,988 224,173 275,608
Long-term debt, net of current maturities.............. 18,218 16,465 -- 18,284 52,440
Discounted lease rentals, net of current maturities.... 18,845 16,313 15,961 24,043 20,883
Shareholders' equity................................... 47,658 56,984 67,517 84,370 97,671
Cash dividends declared and paid....................... -- -- -- -- --
- -------------------------
(1) On May 1, 1993, the Company adopted Statement of Financial Accounting
Standards No. 109, "Accounting for Income Taxes." As a result, the Company
recorded a one-time charge of $375,000, or $.05 per share, in fiscal 1994
for the cumulative effect of the change in method of accounting for income
taxes.
(2) On June 20, 1996, the Company's Board of Directors approved a two-for-one
stock split effected in the form of a stock dividend. The stock split has
been retroactively reflected in the selected consolidated financial data
presented above.
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16
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
GENERAL
Norstan is a technology services company providing IT and communications
systems solutions to over 18,000 customers in the United States, Canada and
England. Headquartered in Minneapolis, Minnesota, with sales and service offices
located in 68 locations in the United States and Canada, the Company sells its
products and services to a wide variety of customers across numerous industries.
The Company provides IT consulting and communications services,
communications and technology products and financing alternatives through its
three business units, Global Services, Communications Solutions (formerly known
as Communications Systems) and Financial Services, which accounted for
approximately 48%, 50% and 2% of Norstan's fiscal year 1998 revenues,
respectively. In order to enhance overall profitability, the Company intends to
increase its percentage of revenues derived from technology services, which
typically command higher margins than product sales.
Due to the Company's continuing expansion and growth in the area of IT
consulting services, financial results for Global Services are now reported as:
(i) IT Consulting Services and (ii) Communications Services. Norstan IT
Consulting Services provides IT services including ERP and sales management
package implementation, groupware consulting, Internet/intranet/e-commerce
solutions, CTI and outsourced facilities management. Communications Services
provides customer support services for communications systems, including
maintenance services, systems modifications and long distance services.
Communications Solutions provides a broad array of solutions including telephone
systems, integrated voice processing, call center technologies and
video/audio/data conferencing solutions. The name change from Communications
Systems to Communications Solutions more accurately reflects the Company's
commitment to provide its customers with design, installation and implementation
services as well as the hardware and software components necessary for
successful implementation of complex communications systems. Financial Services
supports the sales process by providing customized financing alternatives. The
Company believes that its breadth of product and service offerings fosters
long-term client relationships, affords cross-selling opportunities and
minimizes the Company's dependence on any single technology or industry.
During fiscal year 1998, Norstan recorded a restructuring charge of $14.7
million in connection with management's plan to reduce costs, consolidate and
reorganize operations, and improve operating efficiencies. Restructuring efforts
focused primarily on the following: (i) consolidation of seven semi-autonomous
geographic sales and service organizations into a single, more focused sales and
operations organization; (ii) the consolidation of 36 warehouses and parts
locations into three strategically located distribution centers; and (iii) the
reorganization and integration of the Company's IT consulting services
operations, including the Norstan Call Center Solutions Group, Connect and
PRIMA, into a single, customer-focused organization. The restructuring charge
relates primarily to the write-down of certain assets to their fair market
values ($12.2 million), severance and employee benefit costs ($1.2 million) and
lease termination costs ($1.3 million). Net income and net income per diluted
share before the restructuring charge for the year ended April 30, 1998 were
$12,362,000 and $1.25 per share, respectively.
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RESULTS OF OPERATIONS
The following table sets forth certain items from the Company's
consolidated statements of operations expressed as a percentage of total
revenues:
YEARS ENDED APRIL 30,
-----------------------------
1996 1997 1998
Revenues:
Global Services
IT Consulting Services................................. 4.5% 13.7% 20.3%
Communications Services................................ 37.9 33.0 27.9
----- ----- -----
Total Global Services................................ 42.4 46.7 48.2
Communications Solutions.................................. 55.8 51.8 50.2
Financial Services........................................ 1.8 1.5 1.6
----- ----- -----
Total revenues......................................... 100.0 100.0 100.0
Cost of sales:
Global Services
IT Consulting Services................................. 3.4 10.9 14.6
Communications Services................................ 27.0 23.6 19.6
----- ----- -----
Total Global Services................................ 30.4 34.5 34.2
Communications Solutions.................................. 40.5 37.7 37.0
Financial Services........................................ 0.7 0.5 0.5
----- ----- -----
Total cost of sales.................................... 71.6 72.7 71.7
----- ----- -----
Gross margin................................................ 28.4 27.3 28.3
Selling, general and administrative expenses................ 23.6 22.5 22.8
Restructuring charge........................................ -- -- 3.2
----- ----- -----
Operating income............................................ 4.8% 4.8% 2.3%
===== ===== =====
Net income.................................................. 2.6% 2.6% 0.8%
===== ===== =====
The following table sets forth the gross margin percentages for Global
Services, Communications Solutions and Financial Services.
YEARS ENDED APRIL 30,
--------------------------
1996 1997 1998
Gross margin percentage:
Global Services
IT Consulting Services................................. 23.7% 20.5% 28.3%
Communications Services................................ 28.9 28.7 29.6
Total Global Services................................ 28.4 26.3 29.1
Communications Solutions.................................. 27.5 27.1 26.2
Financial Services........................................ 60.6 64.2 67.2
FISCAL 1998 COMPARED TO FISCAL 1997
Revenues. Revenues increased 14.6% to $456.4 million in fiscal year 1998
from $398.1 million in fiscal year 1997. The increase was attributable to growth
in each of Norstan's three business units.
Revenues from Global Services increased 18.2% to $219.9 million in fiscal
year 1998 from $186.1 million in fiscal year 1997. Revenues from IT Consulting
Services increased 70.3% to $92.7 million in fiscal year 1998 from $54.5 million
in fiscal year 1997. This increase was a result of: (i) the acquisition of PRIMA
in September 1997 which contributed $17.9 million of revenue in fiscal year
1998; and (ii) internal revenue growth of 37.5%. Revenues from Communications
Services decreased 3.3% to $127.2 million in fiscal year 1998 from $131.6
million in fiscal year 1997. The decrease in Communications Services revenues
resulted from the sale of the Company's stand-alone cabling business in June
1997, which contributed approximately $5.0 million in revenues during fiscal
year 1997.
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18
Revenues from Communications Solutions increased 11.2% to $229.0 million in
fiscal year 1998 from $206.0 million in fiscal year 1997. The increase was
attributable to increased sales volumes in the Siemens PBX, videoconferencing
and refurbished equipment products through sales to new customers as well as
growth with existing customer relationships.
Revenues from Financial Services increased 23.5% to $7.4 million in fiscal
year 1998 from $6.0 million in fiscal year 1997. This increase is primarily
attributable to the increased size of the Company's leasing base.
Gross Margin. The Company's gross margin was $128.9 million and $108.5
million for the fiscal years ended April 30, 1998 and 1997, respectively. As a
percent of total revenues, gross margin was 28.3% for fiscal year 1998 compared
to 27.3% for fiscal year 1997.
Gross margin as a percent of revenues for Global Services was 29.1% for
fiscal year 1998 as compared to 26.3% for fiscal year 1997. The gross margin for
IT Consulting Services increased to 28.3% for fiscal year 1998 from 20.5% for
fiscal year 1997. The improved margin is a result of operating efficiencies
gained as the IT Consulting Services segment continued to grow as well as from
an increased emphasis on time-and-materials engagements. The gross margin for
Communications Services increased to 29.6% for fiscal year 1998 from 28.7% for
fiscal year 1997.
Gross margin as a percent of revenues for Communications Solutions was
26.2% for fiscal year 1998 as compared to 27.1% for fiscal year 1997. The
decrease in gross margin for fiscal year 1998 as compared to fiscal year 1997 is
primarily due to overall increases in product costs as a result of changes in
the sales mix and increased labor costs from subcontractors and overtime due to
the high level of installations during 1998. The overall decline in gross margin
was partially offset by improved margin in the sales of refurbished equipment.
Gross margin as a percent of revenues for Financial Services was 67.2% for
fiscal year 1998 as compared to 64.2% for fiscal year 1997.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased 16.1% to $103.7 million in fiscal year 1998
from $89.3 million in fiscal year 1997. As a percent of revenues, selling,
general and administrative expenses remained relatively consistent at 22.7% for
fiscal year 1998, as compared to 22.4% for fiscal year 1997.
Restructuring Charge. During fiscal year 1998, Norstan recorded a
restructuring charge of $14.7 million in connection with management's plan to
reduce costs, consolidate and reorganize operations, and improve operating
efficiencies. Restructuring efforts focused primarily on the following: (i)
consolidation of seven semi-autonomous geographic sales and service
organizations into a single, more focused sales and operations organization;
(ii) the consolidation of 36 warehouses and parts locations into three
strategically located distribution centers; and (iii) the reorganization and
integration of the Company's IT consulting services operations, including the
Norstan Call Center Solutions Group, Connect and PRIMA, into a single, customer-
focused organization. The restructuring charge relates primarily to the
write-down of certain assets to their fair market values ($12.2 million),
severance and employee benefit costs ($1.2 million) and lease termination costs
($1.3 million).
Interest Expense. Interest expense was $3.9 million for fiscal year 1998 as
compared to $1.9 million for fiscal year 1997. This increase was primarily the
result of higher borrowing levels in fiscal year 1998 to fund the PRIMA
acquisition as well as for working capital purposes. Average month-end
borrowings outstanding under the Company's revolving long-term credit agreements
(excluding amounts borrowed to finance leasing activities) were $53.2 million
for fiscal year 1998 and $24.5 million for fiscal year 1997. Weighted average
interest rates under the Company's revolving long-term credit agreements were
7.0% for fiscal year 1998 as compared to 7.5% for fiscal year 1997.
Income Taxes. The Company's effective income tax rate was 42% for fiscal
year 1998 and 41% for fiscal year 1997. The Company's effective tax rate differs
from the federal statutory rate primarily due to state income taxes and the
effect of nondeductible goodwill amortization.
Net Income. Net income was $3.9 million or $0.39 per diluted share in
fiscal year 1998, which includes the $14.7 million restructuring charge
representing $0.86 per diluted share, as compared to $10.2 million or
16
19
$1.08 per diluted share in fiscal year 1997. Net income and net income per
diluted share before the restructuring charge for the year ended April 30, 1998
were $12,362,000 and $1.25 per share, respectively.
FISCAL 1997 COMPARED TO FISCAL 1996
Revenues. Total revenues increased 23.9% to $398.1 million in fiscal year
1997 from $321.4 million in fiscal year 1996.
Revenues from Global Services increased 36.4% to $186.1 million in fiscal
year 1997 from $136.4 million in fiscal year 1996. Revenues from IT Consulting
Services increased 277.6% to $54.5 million in fiscal year 1997 from $14.4
million in fiscal year 1996. This increase was a result of the acquisition of
Connect in June 1996, which contributed $33.8 million of revenue in fiscal year
1997, and the over 70% growth experienced in the Company's outsourcing business.
Revenues from Communications Services increased 7.9% to $131.6 million in fiscal
year 1997 from $122.0 million in fiscal year 1996, due primarily to growth in
communications maintenance services and network services.
Revenues from Communications Solutions increased 14.9% to $206.0 million in
fiscal year 1997 from $179.3 million in fiscal year 1996. The increase resulted
primarily from increased sales volume of refurbished equipment and
videoconferencing products.
Revenues from Financial Services increased 7.0% to $6.0 million in fiscal
year 1997 from $5.6 million in fiscal year 1996. The increase was attributable
to the increased size of the Company's leasing base.
Gross Margin. The Company's gross margin was $108.5 million in fiscal year
1997 and $91.4 million in fiscal year 1996. As a percent of total revenues,
gross margin was 27.3% for fiscal year 1997 and 28.4% for fiscal year 1996.
Gross margin as a percent of revenues for Global Services was 26.3% for
fiscal year 1997 compared to 28.4% for fiscal year 1996. The gross margin for IT
Consulting Services decreased to 20.5% for fiscal year 1997 from 23.7% for
fiscal year 1996. This decrease is primarily attributable to non-recurring
operating costs and inefficiencies relating to the reorganization of the
Company's IT consulting operations as well as from decreased margins on certain
fixed-price contracts. Communications Services' gross margin remained relatively
constant at 28.7% for fiscal year 1997 as compared to 28.9% for fiscal year
1996.
Gross margin as a percent of revenues for Communications Solutions was
27.1% for fiscal year 1997 as compared to 27.5% for fiscal year 1996. The change
in the gross margin as a percentage of revenue was the result of shifts in the
product mix and competitive market conditions.
Gross margin as a percent of revenues for Financial Services was 64.2% for
fiscal year 1997 as compared to 60.6% for fiscal year 1996. The increase in
gross margin percentage for fiscal year 1997 as compared to fiscal year 1996 was
the result of decreasing interest rates.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased 17.6% to $89.3 million in fiscal year 1997
from $76.0 million in fiscal year 1996. As a percent of revenues, selling,
general and administrative expenses decreased to 22.4% for fiscal year 1997 from
23.6% for fiscal year 1996. The decrease as a percentage of revenues resulted
from continued efforts to contain costs and volume-related efficiencies, as
sales volume increased without proportional increases in expenses.
Interest Expense. Interest expense was $1.9 million for fiscal year 1997 as
compared to $1.4 million for fiscal year 1996. Weighted average interest rates
under the Company's revolving long-term credit agreements were 7.5% for fiscal
year 1997 as compared to 8.2% for fiscal year 1996. Average month-end borrowings
outstanding under the Company's revolving long-term credit agreements (excluding
amounts borrowed to finance leasing activities) were $24.5 million for fiscal
year 1997 and $15.8 million for fiscal year 1996.
Income Taxes. The Company's effective income tax rate was 41% for fiscal
year 1997 and 40% for fiscal year 1996. The Company's effective tax rate differs
from the federal statutory rate primarily due to state income taxes and the
effect of nondeductible goodwill amortization.
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20
Net Income. Net income was $10.2 million or $1.08 per diluted share in 1997
and $8.5 million or $0.94 per diluted share in 1996.
UNAUDITED QUARTERLY RESULTS
The following table sets forth certain unaudited quarterly operating
information for each of the eight quarters in the period ending April 30, 1998.
This data includes, in the opinion of management, all normal recurring
adjustments necessary for the fair presentation of the information for the
periods presented when read in conjunction with the Company's Consolidated
Financial Statements and related Notes thereto. Results for any previous fiscal
quarter are not necessarily indicative of results for the full year or for any
future quarter. The Company has historically experienced a seasonal fluctuation
in its operating results, with a larger proportion of its revenues and operating
income occurring during the fourth quarter of the fiscal year.
QUARTERS ENDED
--------------------------------------------------------------------------------
AUG. 3, NOV. 2, FEB. 1, APR. 30, AUG. 2, NOV. 1, JAN. 31, APR. 30,
1996 1996 1997 1997 1997 1997 1998 1998
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Revenues:
Global Services
IT Consulting Services...... $ 9,363 $13,682 $15,328 $16,094 $15,026 $22,038 $25,186 $30,496
Communications Services..... 31,562 32,076 31,918 36,040 33,023 30,508 30,968 32,698
------- ------- ------- ------- ------- ------- ------- -------
Total Global Services..... 40,925 45,758 47,246 52,134 48,049 52,546 56,154 63,194
Communications Solutions...... 49,820 48,483 45,405 62,275 45,212 56,719 53,979 73,069
Financial Services............ 1,486 1,412 1,424 1,707 2,181 1,657 1,634 1,971
------- ------- ------- ------- ------- ------- ------- -------
Total revenues............ 92,231 95,653 94,075 116,116 95,442 110,922 111,767 138,234
Cost of sales................... 66,900 68,548 68,014 86,097 68,356 80,488 79,861 98,711
------- ------- ------- ------- ------- ------- ------- -------
Gross margin.................... 25,331 27,105 26,061 30,019 27,086 30,434 31,906 39,523
Selling, general and
administrative expenses....... 22,180 21,944 20,935 24,252 23,157 24,399 24,923 31,230
Restructuring charge............ -- -- -- -- -- -- -- 14,667
------- ------- ------- ------- ------- ------- ------- -------
Operating income (loss)......... 3,151 5,161 5,126 5,767 3,929 6,035 6,983 (6,374)
Interest expense................ (241) (520) (571) (534) (594) (847) (1,242) (1,226)
Interest and other income
(expense)..................... 7 (28) (11) 10 48 69 55 (190)
------- ------- ------- ------- ------- ------- ------- -------
Income (loss) before income
taxes......................... 2,917 4,613 4,544 5,243 3,383 5,257 5,796 (7,790)
Income taxes.................... 1,225 1,937 1,829 2,109 1,387 2,155 2,521 (3,272)
------- ------- ------- ------- ------- ------- ------- -------
Net income (loss)............... $ 1,692 $ 2,676 $ 2,715 $ 3,134 $ 1,996 $ 3,102 $ 3,275 $(4,518)
======= ======= ======= ======= ======= ======= ======= =======
Net income before restructuring
charge........................ $ 3,991
=======
Net income (loss) per share --
diluted....................... $ 0.19 $ 0.29 $ 0.29 $ 0.33 $ 0.21 $ 0.32 $ 0.33 $ (0.45)
======= ======= ======= ======= ======= ======= ======= =======
Net income per share before
restructuring charge --
diluted....................... $ 0.39
=======
LIQUIDITY AND CAPITAL RESOURCES
Net cash provided by operating activities decreased in fiscal year 1998 as
compared to fiscal years 1997 and 1996 as a result of increases in accounts
receivable, costs and estimated earnings in excess of billings and income taxes
receivable. Net cash used in investing activities remained constant in fiscal
years 1998 and 1997 and increased from fiscal year 1996 as a result of increased
capital expenditures and investments in lease contracts, as noted below, and due
to acquisitions during 1998 and 1997. Net cash provided by financing activities
increased during fiscal years 1998 and 1997 as compared to 1996 due to increased
long-term borrowings related to acquisitions and to support the overall growth
of the Company.
Capital Expenditures. The Company used $19.9 million for capital
expenditures during fiscal year 1998 as compared to $24.2 million in fiscal year
1997 and $14.4 million in fiscal year 1996. These expenditures were
18
21
primarily for capitalized costs incurred in connection with obtaining or
developing internal use software, computer equipment, facility expansion and
telecommunications equipment used in outsourcing arrangements and as spare
parts.
Investment in Lease Contracts. The Company has also made a significant
investment in lease contracts with its customers. The additional investment made
in lease contracts in fiscal year 1998 totaled $28.0 million. Net lease
receivables increased to $53.7 million at April 30, 1998 from $49.4 million at
April 30, 1997. The Company utilizes its lease receivables and corresponding
underlying equipment to borrow funds from financial institutions on a
nonrecourse or recourse basis by discounting the stream of future lease
payments. Proceeds from discounting are presented on the consolidated balance
sheet as discounted lease rentals. Discounted lease rentals totaled $35.6
million at April 30, 1998. Interest rates on these credit agreements at April
30, 1998 ranged from 6.0% to 10.0%, while payments are due in varying monthly
installments through August 2005. Payments due to financial institutions are
made from monthly collections of lease receivables from customers.
Capital Resources. The Company has an $80.0 million unsecured revolving
long-term credit agreement with certain banks. Up to $30.0 million of borrowings
under this agreement may be in the form of commercial paper. In addition,
sublimits also exist related to the Company's support of its leasing activities.
Borrowings under this agreement are due May 31, 2001, and bear interest at the
banks' reference rate (8.50% at April 30, 1998), except for LIBOR, CD and
commercial paper based options, which generally bear interest at a rate lower
than the banks' reference rate (5.9% to 6.7% at April 30, 1998). Total
consolidated borrowings under this agreement at April 30, 1997 and 1998 were
$17.9 million and $52.4 million. There were no borrowings on account of the
Company's leasing activities at April 30, 1997 and 1998. Annual commitment fees
on the unused portions of the credit facility are 0.25%. Under the agreement,
the Company is required to maintain minimum levels of EBITDA and certain other
financial ratios. The Company has complied with or has obtained the appropriate
waivers for such requirements as of April 30, 1998.
Management of the Company believes that a combination of cash generated
from operations, existing bank facilities and additional borrowing capacity, in
aggregate, are adequate to meet the anticipated liquidity and capital resource
requirements of its business. Sources of additional financing, if needed, may
include further debt financing, or the sale of equity or other securities.
ACQUISITIONS
On June 19, 1998, the Company merged with Wordlink in a transaction
accounted for under the pooling-of-interests method. Wordlink delivers network
integration, groupware messaging, Internet/intranet/ e-commerce and education
solutions to customers operating in a multi-vendor network environment. The
agreement provided for the conversion of all shares of Wordlink common stock and
all vested Wordlink stock options issued and outstanding into approximately
$10.3 million of Common Stock. All outstanding Wordlink unvested stock options
were converted to the equivalent value of Norstan stock options. Wordlink's
stockholders' equity and operating results were not material in relation to the
Company's financial statements. As such, the Company will record the combination
without restating prior periods' consolidated statements of operations to
reflect the pooling-of-interests combination.
On September 30, 1997, the Company acquired PRIMA in a transaction
accounted for under the purchase method. PRIMA provides IT consulting services,
including information systems planning and development, consulting and
programming services for collaborative computing solutions, and ERP integration
services. The acquisition consideration totaled approximately $27.5 million,
consisting of $19.5 million in cash, $6.3 million of Common Stock and $1.7
million paid to certain members of PRIMA management under non-compete
agreements. In addition, the Company agreed to pay up to $3.5 million in
contingent consideration over a three-year period ending April 30, 2000 if
certain financial performance targets are achieved. This transaction resulted in
the recording of $24.9 million in goodwill and other intangible assets that are
being amortized on a straight-line basis over 15 years and three years,
respectively.
On June 4, 1996, the Company acquired Connect in a transaction accounted
for under the purchase method. Connect is a provider of consulting, design and
implementation services for local and wide area networks, Internets and
intranets, client/server applications and workgroup computing. The acquisition
19
22
consideration totaled approximately $15.0 million, consisting of $12.0 million
in cash, $2.0 million of Common Stock and $1.0 million payable to certain
members of Connect management under non-compete agreements. In addition, the
Company agreed to pay up to $4.0 million in contingent consideration over a
three-year period ending April 30, 1999, if certain financial performance
targets are achieved (as of April 30, 1998, $2.0 million of such consideration
had been paid and the remaining $2.0 million has been earned and accrued). This
transaction resulted in the recording of $18.4 million in goodwill and other
intangible assets that are being amortized on a straight-line basis over 15
years and three years, respectively.
IMPACT OF YEAR 2000
The Company has completed an assessment and will modify or replace portions
of its hardware and software so that its computer systems will function properly
with respect to dates in 2000 and thereafter. The Company has also had
discussions with its significant suppliers to ensure that those parties have
appropriate plans to remediate Year 2000 issues where their systems and products
interface with the Company's systems or otherwise impact its operations or that
of its customers. The Company is assessing the extent to which its operations
are vulnerable should those organizations fail to properly remediate either
their computer systems or their current product offerings available to the
Company's customers.
The Company's comprehensive Year 2000 initiative is being managed by a team
of internal staff with the assistance of an outside consultant. The Company is
well under way with its efforts, which are scheduled to be completed by
mid-1999. The cost of the Year 2000 initiative is estimated to be approximately
$2 million to be incurred over the next two fiscal years.
While the Company believes its planning efforts are adequate to address its
Year 2000 concerns, the Year 2000 readiness of the Company's customers, and the
hardware and software offerings from the Company's suppliers and business
partners may vary. Although the Company does not believe that the Year 2000
matters discussed above will have a material impact on its business, financial
condition and results of operations, it is uncertain as to what extent the
Company may be affected by such matters.
FORWARD-LOOKING STATEMENTS
From time to time, the Company may publish forward-looking statements
relating to such matters as anticipated financial performance, business
prospects, technological developments, new products, Year 2000 compliance and
similar matters. The Private Securities Litigation Reform Act of 1995 provides a
safe harbor for forward-looking statements including those made in this
document. In order to comply with the terms of the Private Securities Litigation
Reform Act, the Company notes that a variety of factors could cause the
Company's actual results and experience to differ materially from the
anticipated results or other expectations expressed in the Company's
forward-looking statements. The risks and uncertainties that may affect the
operations, performance, developments and results of the Company's business
include the following: national and regional economic conditions; pending and
future legislation affecting the IT and telecommunications industries; the
Company's business in Canada and England; stability of foreign governments;
market acceptance of the Company's products and services; the Company's
continued ability to provide integrated communications solutions for customers
in a dynamic industry; and other competitive factors. Because these and other
factors could affect the Company's operating results, past financial performance
should not necessarily be considered as a reliable indicator of future
performance, and investors should not use historical trends to anticipate future
period results.
20
23
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
AND FINANCIAL STATEMENT SCHEDULES
PAGE
CONSOLIDATED FINANCIAL STATEMENTS:
Report of Independent Public Accountants.................... 22
Consolidated Statements of Operations for the years ended
April 30, 1996, 1997 and 1998............................. 23
Consolidated Balance Sheets as of April 30, 1997 and 1998... 24
Consolidated Statements of Shareholders' Equity for the
years ended April 30, 1996, 1997 and 1998................. 25
Consolidated Statements of Cash Flows for the years ended
April 30, 1996, 1997 and 1998............................. 26
Notes to Consolidated Financial Statements.................. 27
FINANCIAL STATEMENT SCHEDULES:
All schedules have been omitted as not required, not applicable or because
the information to be presented is included in the consolidated financial
statements and related notes.
21
24
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Norstan, Inc.:
We have audited the accompanying consolidated balance sheets of Norstan,
Inc. (a Minnesota corporation) and Subsidiaries as of April 30, 1997 and 1998,
and the related consolidated statements of operations, shareholders' equity and
cash flows for each of the three years in the period ended April 30, 1998. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our 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, the financial statements referred to above present fairly,
in all material respects, the financial position of Norstan, Inc. and
Subsidiaries as of April 30, 1997 and 1998, and the results of their operations
and their cash flows for each of the three years in the period ended April 30,
1998 in conformity with generally accepted accounting principles.
ARTHUR ANDERSEN LLP
Minneapolis, Minnesota,
June 12, 1998
22
25
NORSTAN, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
YEARS ENDED APRIL 30,
------------------------------
1996 1997 1998
REVENUES
Global Services
IT Consulting Services................................. $ 14,426 $ 54,467 $ 92,746
Communications Services................................ 121,971 131,596 127,197
-------- -------- --------
Total Global Services................................ 136,397 186,063 219,943
Communications Solutions.................................. 179,332 205,983 228,979
Financial Services........................................ 5,635 6,029 7,443
-------- -------- --------
Total revenues......................................... 321,364 398,075 456,365
-------- -------- --------
COST OF SALES
Global Services
IT Consulting Services................................. 11,000 43,315 66,457
Communications Services................................ 86,669 93,880 89,550
-------- -------- --------
Total Global Services................................ 97,669 137,195 156,007
Communications Solutions.................................. 130,090 150,204 168,965
Financial Services........................................ 2,221 2,160 2,444
-------- -------- --------
Total cost of sales.................................... 229,980 289,559 327,416
-------- -------- --------
GROSS MARGIN................................................ 91,384 108,516 128,949
Selling, general and administrative expenses.............. 75,973 89,311 103,709
Restructuring charge...................................... -- -- 14,667
-------- -------- --------
OPERATING INCOME............................................ 15,411 19,205 10,573
Interest expense.......................................... (1,351) (1,866) (3,909)
Interest and other income (expense), net.................. 89 (22) (18)
-------- -------- --------
INCOME BEFORE PROVISION FOR INCOME TAXES.................... 14,149 17,317 6,646
Provision for income taxes................................ 5,660 7,100 2,791
-------- -------- --------
NET INCOME.................................................. $ 8,489 $ 10,217 $ 3,855
======== ======== ========
NET INCOME PER SHARE -- BASIC............................... $ 1.00 $ 1.12 $ 0.40
======== ======== ========
NET INCOME PER SHARE -- DILUTED............................. $ 0.94 $ 1.08 $ 0.39
======== ======== ========
WEIGHTED AVERAGE SHARES -- BASIC............................ 8,526 9,140 9,719
======== ======== ========
WEIGHTED AVERAGE SHARES -- DILUTED.......................... 8,985 9,418 9,917
======== ======== ========
The accompanying notes are an integral part of these consolidated financial
statements.
23
26
NORSTAN, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
AS OF APRIL 30,
--------------------
1997 1998
ASSETS
CURRENT ASSETS
Cash...................................................... $ 5,147 $ 1,869
Accounts receivable, net of allowances for doubtful
accounts of $1,783 and $1,171........................... 76,027 97,206
Current lease receivables................................. 19,595 18,751
Inventories............................................... 7,636 10,008
Costs and estimated earnings in excess of billings of
$11,948 and $17,335..................................... 11,556 19,091
Deferred income tax benefits.............................. 3,954 2,488
Prepaid expenses, deposits and other...................... 2,925 8,108
-------- --------
Total current assets............................... 126,840 157,521
-------- --------
PROPERTY AND EQUIPMENT
Machinery and equipment................................... 93,895 75,712
Less -- accumulated depreciation and amortization......... (48,409) (37,713)
-------- --------
Net property and equipment.............................. 45,486 37,999
-------- --------
OTHER ASSETS
Goodwill, net of accumulated amortization of $5,443 and
$7,979.................................................. 21,264 43,206
Lease receivables, net of current portion................. 29,775 34,998
Other..................................................... 808 1,884
-------- --------
Total other assets................................. 51,847 80,088
-------- --------
$224,173 $275,608
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Current maturities of long-term debt...................... $ 389 $ 3,257
Current maturities of discounted lease rentals............ 13,878 14,758
Accounts payable.......................................... 24,486 24,135
Deferred revenue.......................................... 18,680 19,953
Accrued liabilities
Salaries and wages...................................... 13,065 15,123
Warranty costs.......................................... 2,348 1,776
Other liabilities....................................... 10,721 10,509
Billings in excess of costs and estimated earnings of
$12,829 and $16,390..................................... 5,789 9,442
-------- --------
Total current liabilities.......................... 89,356 98,953
LONG-TERM DEBT, net of current maturities................... 18,284 52,440
DISCOUNTED LEASE RENTALS, net of current maturities......... 24,043 20,883
DEFERRED INCOME TAXES....................................... 8,120 5,661
-------- --------
COMMITMENTS AND CONTINGENCIES (NOTES 3 AND 11)
SHAREHOLDERS' EQUITY
Common stock -- $.10 par value; 40,000,000 authorized
shares; 9,387,458 and 9,963,716 shares issued and
outstanding............................................. 939 996
Capital in excess of par value............................ 34,556 44,741
Retained earnings......................................... 50,192 54,048
Unamortized cost of stock................................. (142) (641)
Foreign currency translation adjustments.................. (1,175) (1,473)
-------- --------
Total shareholders' equity......................... 84,370 97,671
-------- --------
$224,173 $275,608
======== ========
The accompanying notes are an integral part of these consolidated balance
sheets.
24
27
NORSTAN, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(IN THOUSANDS)
COMMON STOCK FOREIGN
-------------------- CAPITAL IN CURRENCY
SHARES EXCESS OF RETAINED UNAMORTIZED TRANSACTION
OUTSTANDING AMOUNT PAR VALUE EARNINGS COST OF STOCK ADJUSTMENTS TOTAL
BALANCE, APRIL 30, 1995..... 4,215 $422 $26,031 $31,486 $(149) $ (806) $56,984
Stock issued for employee
benefit plans........... 144 14 2,024 -- 55 -- 2,093
Foreign currency
translation
adjustments............. -- -- -- -- -- (49) (49)
Effect of two-for-one
stock split............. 4,359 436 (436) -- -- -- --
Net income................ -- -- -- 8,489 -- -- 8,489
----- ---- ------- ------- ----- ------- -------
BALANCE, APRIL 30, 1996..... 8,718 872 27,619 39,975 (94) (855) 67,517
Stock issued for employee
benefit plans........... 531 53 4,951 -- (48) -- 4,956
Stock issued for
acquisition............. 138 14 1,986 -- -- -- 2,000
Foreign currency
translation
adjustments............. -- -- -- -- -- (320) (320)
Net income................ -- -- -- 10,217 -- -- 10,217
----- ---- ------- ------- ----- ------- -------
BALANCE, APRIL 30, 1997..... 9,387 939 34,556 50,192 (142) (1,175) 84,370
Stock issued for employee
benefit plans........... 258 25 3,892 1 (499) -- 3,419
Stock issued for
acquisition............. 319 32 6,293 -- -- -- 6,325
Foreign currency
translation
adjustments............. -- -- -- -- -- (298) (298)
Net income................ -- -- -- 3,855 -- -- 3,855
----- ---- ------- ------- ----- ------- -------
BALANCE, APRIL 30, 1998..... 9,964 $996 $44,741 $54,048 $(641) $(1,473) $97,671
===== ==== ======= ======= ===== ======= =======
The accompanying notes are an integral part of these consolidated financial
statements.
25
28
NORSTAN, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
YEARS ENDED APRIL 30,
-----------------------------------
1996 1997 1998
OPERATING ACTIVITIES
Net income............................................ $ 8,489 $ 10,217 $ 3,855
Adjustments to reconcile net income to net cash
provided by operating activities:
Restructuring charge............................... -- -- 14,667
Depreciation and amortization...................... 12,517 16,964 21,115
Deferred income taxes.............................. (465) (45) 1,944
Changes in operating items, net of acquisition
effects:
Accounts receivable.............................. (3,961) (16,319) (18,803)
Inventories...................................... 167 3,532 (2,397)
Costs and estimated earnings in excess of
billings...................................... 5,715 (6,371) (7,584)
Prepaid expenses, deposits and other............. (111) (386) 498
Accounts payable................................. (1,403) 7,047 (745)
Deferred revenue................................. 2,815 468 1,291
Accrued liabilities.............................. 1,252 2,514 (5,823)
Income taxes payable/receivable.................. 510 (144) (6,136)
Billings in excess of costs and estimated
earnings...................................... 2,445 1,223 3,665
--------- --------- ---------
Net cash provided by operating activities..... 27,970 18,700 5,547
--------- --------- ---------
INVESTING ACTIVITIES
Additions to property and equipment, net.............. (14,385) (24,219) (19,873)
Cash paid for acquisitions, net of cash acquired...... -- (11,794) (20,450)
Investment in lease contracts......................... (17,622) (31,545) (28,049)
Collections from lease contracts...................... 18,240 21,949 23,589
Other, net............................................ (178) 314 (124)
--------- --------- ---------
Net cash used for investing activities............. (13,945) (45,295) (44,907)
--------- --------- ---------
FINANCING ACTIVITIES
Repayment of debt assumed in acquisition.............. -- (1,743) (2,013)
Borrowings on long-term debt.......................... 112,435 227,820 290,181
Repayments of long-term debt.......................... (128,993) (210,161) (253,102)
Borrowings on discounted lease rentals................ 13,173 22,396 13,472
Repayments of discounted lease rentals................ (12,767) (12,583) (15,717)
Proceeds from sale of common stock.................... 1,615 3,017 2,868
Tax benefits from shares issued to employees.......... 340 1,869 385
--------- --------- ---------
Net cash provided by (used for) financing
activities....................................... (14,197) 30,615 36,074
--------- --------- ---------
EFFECT OF EXCHANGE RATE CHANGES ON CASH................. (3) (6) 8
--------- --------- ---------
NET INCREASE (DECREASE) IN CASH......................... (175) 4,014 (3,278)
CASH, BEGINNING OF YEAR................................. 1,308 1,133 5,147
--------- --------- ---------
CASH, END OF YEAR....................................... $ 1,133 $ 5,147 $ 1,869
========= ========= =========
The accompanying notes are an integral part of these consolidated financial
statements.
26
29
NORSTAN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 -- NATURE OF BUSINESS:
Norstan is a technology services company providing information technology
("IT") and communications systems solutions to over 18,000 customers in the
United States, Canada and England. Norstan, Inc. ("Norstan" or the "Company")
manages the operations of its subsidiaries, Norstan Communications, Inc.
("NCI"), Norstan Canada Inc. ("NCDA"), Connect Computer Company ("Connect"),
Vadini, Inc. (d/b/a PRIMA Consulting, Inc.) ("PRIMA"), Connaissance Consulting,
LLC ("Connaissance"), Norstan Financial Services, Inc. ("NFS"), Norstan Network
Services, Inc. ("NNS"), Norstan Network Services, Inc. of New Hampshire, Norstan
International, Inc. ("NII") and Norstan-UK Limited. The Company is headquartered
in Minneapolis, Minnesota, with sales and service offices in 68 locations in the
United States and Canada. The Company provides IT consulting and communications
services, communications and technology products and competitive financing
through its three operating units, Global Services, Communications Solutions and
Financial Services. Through strategic partnerships and acquisitions, the Company
has become a single-source provider for its customers' integrated voice, video
and data network solutions.
NOTE 2 -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
Principles of Consolidation:
The accompanying consolidated financial statements include the accounts of
the Company and its subsidiaries. All significant intercompany balances and
transactions have been eliminated in consolidation.
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
disclosures of contingent assets and liabilities as of the date of the financial
statements. Estimates also affect the reported amounts of revenues and expenses
during the periods presented. Estimates are used for such items as allowances
for doubtful accounts, inventory reserves, depreciable lives of property and
equipment, warranty reserves and others. Ultimate results could differ from
those estimates.
Revenue Recognition:
Global Services' revenues from IT consulting, application development and
systems integration are recognized as services are provided. Revenues from
maintenance service contracts, moves, adds, and changes, resale of long distance
services, and network integration services, are also recognized as the services
are provided. Communications Solutions' revenues from the sale and installation
of products and systems are recognized under the percentage-of-completion method
of accounting for long-term contracts, while revenues generated from the
secondary equipment market are recognized upon performance of contractual
obligations, which is generally upon installation or shipment. Financial
Services' revenues are recognized over the life of the related lease receivables
using the effective interest method. In addition, Norstan grants credit to
customers and generally does not require collateral or any other security to
support amounts due, other than equipment originally leased.
Fair Value of Financial Instruments:
Fair values of long-term obligations, lease receivables and trade
receivables were estimated at their carrying values at April 30, 1997 and 1998,
and were estimated in accordance with the requirements of Statement of Financial
Accounting Standards ("SFAS") No. 107, "Disclosures about Fair Value of
Financial Instruments."
27
30
NORSTAN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Inventories:
Inventories include purchased parts and equipment and are stated at the
lower of cost, determined on a first-in, first-out basis, or realizable market
value.
Property and Equipment:
Property and equipment are stated at cost and include expenditures that
increase the useful lives of existing property and equipment. Maintenance,
repairs and minor renewals are charged to operations as incurred. Generally,
when property and equipment are disposed of, the related cost and accumulated
depreciation are removed from the respective accounts and any gain or loss is
reflected in the results of operations. For capitalized telecommunications
equipment used as spare parts, the composite depreciation method is used whereby
the cost of property retired less any salvage value is charged against
accumulated depreciation and no gain or loss is recognized. The net book value
of capitalized telecommunications equipment was $16,605,000 and $6,410,000 as of
April 30, 1997 and 1998, respectively (see Note 3). Machinery and equipment is
depreciated over the estimated useful lives of two to ten years under the
straight-line method for financial reporting purposes. Accelerated methods of
depreciation are used for income tax reporting. In the event that facts and
circumstances indicate that the carrying amount of property may not be
recoverable, an evaluation would be performed using such factors as recent
operating results, projected cash flows and management's plans for future
operations.
Goodwill:
Goodwill is being amortized on a straight-line basis over 15-20 years. The
Company periodically evaluates whether events or circumstances have occurred
that may indicate that the remaining estimated useful lives may warrant revision
or that the remaining goodwill balance may not be fully recoverable. In the
event that factors indicate that the goodwill in question should be evaluated
for possible impairment, a determination of the overall recoverability would be
made.
Foreign Currency:
For the Company's foreign operations, assets and liabilities are translated
at year-end exchange rates, and revenues and expenses are translated at average
exchange rates prevailing during the year. Translation adjustments are recorded
as a separate component of shareholders' equity.
Income Taxes:
Deferred income taxes are provided for differences between the financial
reporting basis and tax basis of the Company's assets and liabilities at
currently enacted tax rates.
Earnings Per Share Data and Stock Split:
In the fiscal year ended April 30, 1998, the Company adopted SFAS No. 128
"Earnings per Share," which requires disclosure of basic earnings per share
("EPS") and diluted EPS, which replaces the existing primary EPS and fully
diluted EPS, as defined by Accounting Principles Board ("APB") Opinion No. 15.
Basic EPS is computed by dividing net income by the weighted average number of
shares of common stock outstanding during the year. Diluted EPS is computed
similarly to EPS as previously reported provided that, when applying the
treasury stock method to common equivalent shares, the Company must use its
average share price for the period rather than the more dilutive greater of the
average share price or end-of-period share price required by APB Opinion No. 15.
28
31
NORSTAN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
As a result of the adoption of SFAS No. 128, the Company's reported
earnings per share for all prior periods were restated. The effect of this
accounting change on reported EPS data is as follows:
YEARS ENDED
APRIL 30,
-----------------
1996 1997
Primary EPS as reported..................................... $0.94 $1.08
Effect of SFAS No. 128...................................... 0.06 0.04
----- -----
Basic EPS as restated....................................... $1.00 $1.12
===== =====
Fully diluted EPS as reported............................... $0.94 $1.08
Effect of SFAS No. 128...................................... -- --
----- -----
Diluted EPS as restated..................................... $0.94 $1.08
===== =====
A reconciliation of EPS calculations under SFAS No. 128 is as follows (in
thousands, except per share amounts):
YEARS ENDED APRIL 30,
-------------------------
1996 1997 1998
Net income.................................................. $8,489 $10,217 $3,855
====== ======= ======
Weighted average common shares outstanding -- Basic......... 8,526 9,140 9,719
Effect of dilutive securities:
Stock option plans........................................ 452 269 196
Employee stock purchase plan.............................. 7 9 2
------ ------- ------
Weighted average common shares outstanding --Diluted... 8,985 9,418 9,917
====== ======= ======
Net income per share -- Basic............................... $ 1.00 $ 1.12 $ 0.40
====== ======= ======
Net income per share -- Diluted............................. $ 0.94 $ 1.08 $ 0.39
====== ======= ======
On June 20, 1996, the Company's Board of Directors approved a two-for-one
stock split effected in the form of a stock dividend. The stock split has been
retroactively reflected in the accompanying consolidated financial statements
and related notes. All share and per share data have been restated to reflect
the stock split.
Supplemental Cash Flow Information:
Supplemental disclosure of cash flow information is as follows (in
thousands):
YEARS ENDED APRIL 30,
------------------------
1996 1997 1998
Cash paid for:
Interest.................................................. $3,608 $3,996 $6,457
Income taxes.............................................. 5,218 4,995 5,545
Non-cash investing and financing activities:
Stock issued for acquisitions............................. $ -- $2,000 $6,325
Earnout and noncompete agreements related to
acquisitions........................................... $ -- $2,667 $2,333
Recently Issued Accounting Standards:
In June 1997, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 130, "Reporting Comprehensive Income." SFAS No. 130, establishes
requirements for disclosure of comprehensive income
29
32
NORSTAN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
and becomes effective for the Company's fiscal year ended April 30, 1999.
Reclassification of earlier financial statements for comparative purposes is
required. The Company believes SFAS No. 130 will not have a significant impact
on the Company's financial statements.
The Company adopted Statement of Position ("SOP") 98-1, "Accounting for
Costs of Computer Software Developed or Obtained for Internal Use," effective
May 1, 1997. The SOP requires the Company to capitalize certain costs incurred
in connection with developing or obtaining internal-use software. The Company
capitalized approximately $6.0 million of costs associated with internal-use
software developed or obtained during fiscal year 1998.
NOTE 3 -- RESTRUCTURING:
During fiscal year 1998, the Company recorded a restructuring charge of
$14.7 million in connection with management's plan to reduce costs, consolidate
and reorganize operations, and improve operating efficiencies. Restructuring
efforts focused primarily on the following: (i) consolidation of seven
semi-autonomous geographic sales and service organizations into a single, more
focused sales and operations organization; (ii) the consolidation of 36
warehouses and parts locations into three strategically located distribution
centers; and (iii) the reorganization and integration of the IT consulting
services operations, including the Norstan Call Center Solutions Group, Connect,
and PRIMA into a single, customer-focused organization. The restructuring charge
relates primarily to the write-down of certain assets to their fair market
values ($12.2 million), severance and employee benefit costs ($1.2 million), and
lease termination costs ($1.3 million).
NOTE 4 -- ACQUISITIONS:
On June 4, 1996, the Company acquired Connect in a transaction accounted
for under the purchase method. Connect is a provider of consulting, design and
implementation services for local and wide area networks, Internets and
intranets, client/server applications and workgroup computing. The acquisition
consideration totaled approximately $15.0 million, consisting of $12.0 million
in cash, $2.0 million of Norstan Common Stock and $1.0 million payable to
certain members of Connect management under non-compete agreements. In addition,
the Company agreed to pay up to $4.0 million in contingent consideration over a
three-year period ending April 30, 1999, if certain financial performance
targets are achieved (as of April 30, 1998, $2.0 million of such consideration
had been paid and the remaining $2.0 million has been earned and accrued). This
transaction resulted in the recording of $18.4 million in goodwill and other
intangible assets, which are being amortized on a straight-line basis over 15
years and three years, respectively.
On September 30, 1997, the Company acquired PRIMA in a transaction
accounted for under the purchase method. PRIMA provides IT consulting services,
including information systems planning and development, consulting and
programming services for collaborative computing solutions and ERP integration
services. The acquisition consideration totaled approximately $27.5 million,
consisting of $19.5 million in cash, $6.3 million of Norstan Common Stock and
$1.7 million paid to certain members of PRIMA management under non-compete
agreements. In addition, the Company agreed to pay up to $3.5 million in
contingent consideration over a three-year period ending April 30, 2000 if
certain financial performance targets are achieved. This transaction resulted in
the recording of $24.9 million in goodwill and other intangible assets, which
are being amortized on a straight-line basis over 15 years and three years,
respectively.
Pro forma information for Connect and PRIMA in the year of acquisition has
not been disclosed as such information was not materially different from the
Company's results of operations.
In June 1998, the Company merged with Wordlink in a transaction accounted
for under the pooling-of-interests method. Wordlink delivers network
integration, groupware messaging, Internet/intranet/ e-commerce and education
solutions to business clients operating in a multi-vendor network environment.
The
30
33
NORSTAN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
agreement calls for all shares of Wordlink common stock and all vested stock
options issued and outstanding to be converted into approximately $10.3 million
of Norstan common stock. All outstanding Wordlink unvested stock options were
converted to the equivalent value of Norstan stock options. Wordlink's
stockholders' equity and operating results were not material in relation to the
Company's financial statements. As such, the Company will record the combination
without restating prior periods' financial statements.
NOTE 5 -- LEASE RECEIVABLES:
The Company provides financing for the Company's customers and has financed
customer equipment purchases in the amounts of $17,622,000, $31,545,000, and
$28,049,000 during fiscal years ended April 30, 1996, 1997 and 1998,
respectively. Leases are primarily accounted for as sales-type leases for
financial reporting purposes.
The components of lease receivables outstanding are summarized as follows
(in thousands):
AS OF APRIL 30,
-------------------
1997 1998
Gross lease receivables..................................... $ 53,258 $ 58,136
Residual values............................................. 9,048 8,297
Less:
Unearned income........................................... (11,091) (11,039)
Allowance for financing losses............................ (1,845) (1,645)
-------- --------
Total lease receivables - net............................... 49,370 53,749
Less -- current maturities.................................. (19,595) (18,751)
-------- --------
Long-term lease receivables................................. $ 29,775 $ 34,998
======== ========
The aggregate amount of gross lease receivables maturing in each of the
five years following April 30, 1998 is as follows (in thousands):
YEARS ENDING
APRIL 30, AMOUNT
1999...................................................... $22,654
2000...................................................... 16,666
2001...................................................... 10,500
2002...................................................... 5,709
2003 and thereafter....................................... 2,607
-------
$58,136
=======
31
34
NORSTAN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 6 -- DEBT OBLIGATIONS:
Long-Term Debt:
Long-term debt consists of the following (in thousands):
AS OF APRIL 30,
-----------------
1997 1998
Bank financing:
Revolving credit agreement................................ $ 6,920 $ 385
Certificates of deposit and commercial paper.............. 11,000 52,000
Capital lease obligations and other long-term debt.......... 753 3,312
------- -------
Total long-term debt........................................ 18,673 55,697
Less -- current maturities.................................. (389) (3,257)
------- -------
$18,284 $52,440
======= =======
Bank Financing:
The Company has an $80.0 million unsecured revolving long-term credit
agreement with certain banks. Up to $30.0 million of borrowings under this
agreement may be in the form of commercial paper. In addition, up to $8.0
million and $6.0 million may be used to support the leasing activities of NFS
and NCDA, respectively. Borrowings under this agreement are due May 31, 2001,
and bear interest at the banks' reference rate (8.50% at April 30, 1998), except
for LIBOR, CD and commercial paper based options, which generally bear interest
at a rate lower than the banks' reference rate (5.9% to 6.7% at April 30, 1998).
Total consolidated borrowings under this agreement at April 30, 1997 and 1998
were $17.9 million and $52.4 million. There were no borrowings on account of NFS
or NCDA at April 30, 1997 and 1998. Annual commitment fees on the unused
portions of the credit facility are 0.25%.
Under the agreement, the Company is required to maintain minimum levels of
EBITDA and certain other financial ratios. The Company has complied with or has
obtained the appropriate waivers for such requirements as of April 30, 1998.
Short-Term Borrowings:
In addition to borrowing funds under its revolving credit agreement, the
Company periodically borrows funds from banks on a short-term basis for working
capital purposes. There were no short-term borrowings during 1998 and 1996.
Short-term borrowing amounts during fiscal year 1997 were as follows:
Maximum amount outstanding during the year.................. $2,325,000
Average borrowings during the year.......................... $ 29,600
Weighted average interest rates during the year............. 8.36%
NOTE 7 -- DISCOUNTED LEASE RENTALS:
NFS and NCDA utilize their lease receivables and corresponding underlying
equipment to borrow funds from financial institutions at fixed rates on a
nonrecourse or recourse basis by discounting the stream of future lease
payments. Proceeds from discounting are recorded on the consolidated balance
sheet as discounted lease rentals. Interest rates on these credit agreements
range from 6% to 10% and payments are generally due in varying monthly
installments through August 2005.
32
35
NORSTAN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Discounted lease rentals consisted of the following (in thousands):
AS OF APRIL 30,
--------------------
1997 1998
Nonrecourse borrowings...................................... $ 37,329 $ 35,635
Recourse borrowings......................................... 592 6
-------- --------
Total discounted lease rentals.............................. 37,921 35,641
Less -- current maturities.................................. (13,878) (14,758)
-------- --------
$ 24,043 $ 20,883
======== ========
Aggregate maturities of discounted lease rentals as of April 30, 1998 are
as follows (in thousands):
YEARS ENDING APRIL 30, AMOUNT
1999........................................................ $14,758
2000........................................................ 9,978
2001........................................................ 6,438
2002........................................................ 3,222
2003 and thereafter......................................... 1,245
-------
$35,641
=======
NOTE 8 -- INCOME TAXES:
The domestic and foreign components of income before the provision for
income taxes are as follows (in thousands):
YEARS ENDED APRIL 30,
----------------------------
1996 1997 1998
Domestic.................................................. $13,365 $16,215 $5,914
Foreign................................................... 784 1,102 732
------- ------- ------
$14,149 $17,317 $6,646
======= ======= ======
The provision (benefit) for income taxes consisted of the following (in
thousands):
YEARS ENDED APRIL 30,
--------------------------
1996 1997 1998
Current
Domestic.................................................. $5,656 $7,361 $ 410
Foreign................................................... 469 (216) 437
------ ------ ------
6,125 7,145 847
------ ------ ------
Deferred
Domestic.................................................. (235) (572) 2,840
Foreign................................................... (230) 527 (896)
------ ------ ------
(465) (45) 1,944
------ ------ ------
Provision for income taxes............................. $5,660 $7,100 $2,791
====== ====== ======
33
36
NORSTAN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The differences between the effective tax rate and income taxes computed
using the federal statutory rate were as follows:
YEARS ENDED APRIL 30,
------------------------
1996 1997 1998
Federal statutory rate...................................... 35% 35% 35%
State income taxes, net of federal tax benefit.............. 4 5 5
Goodwill and other, net..................................... 1 1 2
-- -- --
40% 41% 42%
== == ==
The tax effects of significant temporary differences representing deferred
tax assets and liabilities are as follows as of April 30 (in thousands):
1997 1998
Accelerated depreciation.................................... $(30,613) $(34,627)
Amortization of intangible assets........................... (497) 146
Capital and operating leases................................ 21,394 27,335
Long-term contract costs.................................... (147) (753)
Inventory and warranty reserves............................. 891 480
Allowance for doubtful accounts............................. 1,470 1,116
Vacation reserves........................................... 1,226 1,016
Self insurance reserve...................................... 578 457
Other, net.................................................. 1,762 1,893
Valuation allowance......................................... (230) (236)
-------- --------
Net deferred tax liabilities........................... $ (4,166) $ (3,173)
======== ========
NOTE 9 -- STOCK OPTIONS AND STOCK PLANS:
The 1986 Long-Term Incentive Plan of Norstan, Inc. ("1986 Plan") provided
for the granting of non-qualified stock options, incentive stock options and
restricted stock. The 1986 Plan, as amended in fiscal year 1994, provided for a
maximum of 1,600,000 shares to be granted to key employees in the form of stock
options or restricted stock. As of September 20, 1995, with the adoption of a
successor plan, no additional grants will be issued under the 1986 Plan.
The Norstan, Inc. 1995 Long-Term Incentive Plan ("1995 Plan") permits the
granting of non-qualified stock options, incentive stock options, stock
appreciation rights and restricted stock, providing for a maximum of 1,200,000
shares to be granted as performance awards and other stock-based awards. Stock
options are granted at a price equal to the market price on the date of grant,
and are generally exercisable at 20%-25% per year and expire after ten years. At
April 30, 1998, 298,500 shares were available for future grants. During June
1998, the Company granted 535,500 stock options of which approximately 244,000
are contingent upon future shareholder approval.
The Restated Non-Employee Directors' Stock Plan ("Directors' Plan")
provides for a maximum of 292,000 shares to be granted. As determined by the
Board of Directors, options for 20,000 shares are to be granted to each
non-employee director of the Company upon election and additional discretionary
stock options may be amended upon board approval. These options are granted at a
price equal to the market price on the date of grant, exercisable at 20% to 25%
per year and expire after ten years. In addition, the Directors' Plan provides
for the payment of an annual retainer to each non-employee director on the date
of each annual meeting of shareholders. As of April 30, 1998, 14,440 shares had
been issued as annual retainers and 92,060 shares were available for future
grant/payment under the Directors' Plan.
34
37
NORSTAN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Shares subject to option are summarized as follows:
1995 PLAN 1986 PLAN DIRECTORS' PLAN
-------------------------- -------------------------- --------------------------
WEIGHTED WEIGHTED WEIGHTED
STOCK AVERAGE STOCK AVERAGE STOCK AVERAGE
OPTIONS EXERCISE PRICE OPTIONS EXERCISE PRICE OPTIONS EXERCISE PRICE
BALANCE -- APRIL 30, 1995...... N/A N/A 644,400 $ 4.23 140,000 $ 3.86
Options granted.............. -- -- 225,000 11.87 20,000 12.50
Options canceled............. -- -- (29,400) 9.18 -- --
Options exercised............ -- -- (162,100) 2.84 -- --
-------- ------ -------- ------ -------- ------
BALANCE -- APRIL 30, 1996...... N/A N/A 677,900 6.88 160,000 4.94
Options granted.............. 310,500 $15.01 -- -- -- --
Options canceled............. -- -- (96,000) 9.62 -- --
Options exercised............ -- -- (296,100) 3.49 (120,000) 3.24
-------- ------ -------- ------ -------- ------
BALANCE -- APRIL 30, 1997...... 310,500 15.01 285,800 9.49 40,000 10.06
Options granted.............. 647,000 17.76 -- -- 25,500 20.06
Options canceled............. (104,900) 15.62 (62,200) 10.86 -- --
Options exercised............ (15,300) 15.01 (103,400) 7.00 -- --
-------- ------ -------- ------ -------- ------
BALANCE -- APRIL 30, 1998...... 837,300 $17.06 120,200 $10.92 65,500 $13.96
======== ====== ======== ====== ======== ======
Options exercisable at:
April 30, 1996............... N/A N/A 375,936 $ 4.23 140,000 $ 4.00
======== ====== ======== ====== ======== ======
April 30, 1997............... -- $ -- 103,036 $ 7.43 28,000 $ 9.02
======== ====== ======== ====== ======== ======
April 30, 1998............... 57,100 $14.72 46,640 $10.79 39,500 $11.47
======== ====== ======== ====== ======== ======
Additional information regarding options outstanding/exercisable at April
30, 1998 is as follows:
WEIGHTED
NUMBER OF WEIGHTED AVERAGE NUMBER OF WEIGHTED
OPTIONS EXERCISE PRICE AVERAGE REMAINING OPTIONS AVERAGE
OUTSTANDING RANGE EXERCISE PRICE CONTRACTUAL LIFE EXERCISABLE EXERCISE PRICE
1995 PLAN.............. 150,000 $14.13-$14.19 $14.16 9.00 years 20,000 $14.19
226,300 $15.00-$16.00 $15.03 8.35 years 37,100 $15.01
321,000 $17.50 $17.50 9.26 years -- $ --
140,000 $19.50-$28.25 $22.44 9.57 years -- $ --
------- ------------- ------ ---------- ------ ------
837,300 $14.13-$28.25 $17.06 9.02 years 57,100 $14.72
======= ============= ====== ========== ====== ======
1986 PLAN.............. 17,200 $ 4.25-$6.88 $ 5.17 3.65 years 6,640 $ 4.25
103,000 $11.88 $11.88 7.11 years 40,000 $11.88
------- ------------- ------ ---------- ------ ------
120,200 $ 4.25-$11.88 $10.92 6.61 years 46,640 $10.79
======= ============= ====== ========== ====== ======
DIRECTORS' PLAN........ 20,000 $ 7.63 $ 7.63 4.70 years 20,000 $ 7.63
20,000 $12.50 $12.50 7.39 years 12,000 $12.50
25,500 $20.06 $20.06 9.41 years 7,500 $20.06
------- ------------- ------ ---------- ------ ------
65,500 $ 7.63-$20.06 $13.96 7.36 years 39,500 $11.47
======= ============= ====== ========== ====== ======
The Company has awarded restricted stock grants to selected employees under
the 1986 Plan and the 1995 Plan. Recipients of restricted stock awards under
these plans were not required to make any payments for the stock or provide
consideration other than the rendering of services. Shares of stock awarded
under the plans are subject to certain restrictions on transfer and all or part
of the shares awarded to an employee may be subject to forfeiture upon the
occurrence of certain events, including termination of employment. Through April
30, 1998, 140,706 shares and 59,100 shares have been awarded under the 1986 Plan
and the 1995 Plan, respectively. The fair market value of the shares granted
under these plans is amortized over a three- to four-year period. Amortization
of $137,000, $70,000, and $165,800 has been charged to operations in 1996, 1997
and 1998, respectively.
35
38
NORSTAN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The Company has maintained an Employee Stock Purchase Plan (the "Employee
Stock Plan") since 1980 that allows employees to set aside up to 10% of their
earnings for the purchase of shares of the Company's common stock. The Employee
Stock Plan was amended effective July 1998 to allow shares to be purchased
quarterly rather than annually under the Employee Stock Plan at a price equal to
85% of the low market price on the last day of the quarter rather than the last
day of the calendar year. During fiscal year 1998, 100,813 shares were issued
under this plan and, at April 30, 1998, 483,773 shares were available for future
issuance.
The Company applies APB Opinion No. 25, "Accounting for Stock Issued to
Employees," and related interpretations in accounting for its stock option
plans. Accordingly, no compensation cost has been recognized in the accompanying
statements of operations. Had compensation cost been recognized based on the
fair values of options at the grant dates consistent with the provisions of SFAS
No. 123, "Accounting for Stock-Based Compensation," the Company's net income (in
thousands) and net income per common share would have been decreased to the
following pro forma amounts:
YEARS ENDED APRIL 30,
-------------------------
1996 1997 1998
Net income:
As reported............................................... $8,489 $10,217 $3,855
Pro forma................................................. 7,964 9,360 1,968
Net income per common share:
As reported
basic.................................................. $ 1.00 $ 1.12 $ 0.40
diluted................................................ 0.94 1.08 0.39
Pro forma
basic.................................................. $ 0.93 $ 1.02 $ 0.20
diluted................................................ 0.89 0.99 0.20
Because the SFAS No. 123 method of accounting has not been applied to
options granted prior to May 1, 1995, the resulting pro forma compensation cost
may not be representative of that to be expected in future years.
The weighted average fair values of options granted and Employee Stock Plan
shares were as follows:
EMPLOYEE
1995 PLAN 1986 PLAN DIRECTORS' PLAN STOCK PLAN
Fiscal 1996 grants................................ -- $6.49 $ 7.29 $2.15
Fiscal 1997 grants................................ $7.95 N/A -- $2.96
Fiscal 1998 grants................................ $8.99 N/A $11.63 $5.54
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option pricing model with the following weighted-average
assumptions used for grants in fiscal years 1996, 1997 and 1998:
YEARS ENDED APRIL 30,
---------------------------
1996 1997 1998
Risk-free interest rate............................. 5.74% 6.28% 6.06%
Expected life of options............................ 7 years 7 years 7 years
Expected life of Employee Stock Plan................ 1 year 1 year 1 year
Expected volatility................................. 57% 35% 36%
Expected dividend yield............................. -- -- --
36
39
NORSTAN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The tax benefits associated with the exercise of stock options or issuance
of shares under the Company's stock option plans, not related to expenses
recognized for financial reporting purposes, have been credited to capital in
excess of par value in the accompanying consolidated balance sheets.
NOTE 10 -- 401(K) PLAN:
The Company has 401(k) profit-sharing plans (the "401(k) Plans") covering
substantially all full-time employees. Eligible employees may elect to defer up
to 15% of their eligible compensation. The Company may make discretionary
matching contributions of up to 6% of each plan participant's eligible
compensation. Company contributions to the 401(k) Plans were $1,267,000,
$1,746,000 and $1,822,000 for the years ending April 30, 1996, 1997 and 1998,
respectively.
NOTE 11 -- COMMITMENTS AND CONTINGENCIES:
Legal Proceedings:
The Company is involved in legal actions in the ordinary course of its
business. Although the outcomes of any such legal actions cannot be predicted,
in the opinion of management there is no legal proceeding pending against or
involving the Company for which the outcome is likely to have a material adverse
effect upon the consolidated financial position or results of operations of the
Company.
Operating Lease Commitments:
The Company and its subsidiaries conduct a portion of their operations in
leased facilities. Most of the leases require payment of maintenance, insurance,
taxes and other expenses in addition to the minimum annual rentals. Lease
expense, as recorded in the accompanying consolidated statements of operations,
was $10,501,000, $10,914,000, and $11,494,000 in fiscal years 1996, 1997, and
1998, respectively.
Future minimum lease payments under noncancelable leases with initial or
remaining terms of one year or more were as follows at April 30, 1998 (in
thousands):
YEARS ENDING APRIL 30, AMOUNT
1999........................................................ $ 7,270
2000........................................................ 6,515
2001........................................................ 5,319
2002........................................................ 4,182
2003 and thereafter......................................... 18,611
-------
$41,897
=======
Vendor Agreements:
Under its agreement with Siemens, the Company purchases communications
equipment and products for field application and installation. The current
distributor agreement with Siemens, which commenced in July 1993, has been
renewed through July 27, 1999 while a new distribution agreement is being
negotiated.
Shareholder Rights Plan:
The Company has a shareholder rights plan, as amended in March 1998 (the
"Plan"), which expires in 2008. Under the Plan, shareholders are deemed the
owners of "Rights" attaching to each share of common stock. Upon any person (an
"Acquiring Person") becoming the owner of 15% or more of the issued and
outstanding shares of the Company's common stock (a "Stock Acquisition Date"),
each Right will enable the holder to purchase an additional share of the
Company's common stock at a price equal to 50% of the then current market price.
In the event that the Company is acquired in a merger or other business
combination transaction where the Company is not the surviving corporation or
50% or more of the Company's assets or
37
40
NORSTAN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
earnings power is sold, each Right entitles the holder to receive, upon exercise
of the Right at the then current purchase price of the Right, common stock of
the acquiring entity that has a value of two times the purchase price of the
Right. The Plan also authorizes the Company, under certain circumstances, to
redeem the Rights at a redemption price of $0.01 per Right and, following any
Stock Acquisition Date, to exchange one share of the Company's common stock for
each Right held by a shareholder other than an Acquiring Person.
NOTE 12 -- BUSINESS SEGMENTS AND GEOGRAPHIC AREAS:
The Company operates in three business segments, Global Services,
Communications Solutions, and Financial Services. Due to the Company's
continuing expansion and growth in the area of IT consulting services, financial
results for Global Services are now reported as (i) IT Consulting Services and
(ii) Communication Services. Norstan IT Consulting Services provides IT services
including ERP and sales management package implementation, groupware consulting,
Internet/intranet/e-commerce solutions, CTI and outsourced facilities
management. Communications Services provides customer support services for
communications systems, including maintenance services, systems modifications
and long distance services. Communications Solutions provides a broad array of
solutions including telephone systems, integrated voice processing, call center
technologies and video/audio/data conferencing solutions. The name change from
Communications Systems to Communications Solutions more accurately reflects the
Company's commitment to provide its customers with design, installation and
implementation services as well the hardware and software components necessary
for successful implementation of complex communications systems. Financial
Services supports the sales process by providing customized financing
alternatives. The Company believes that its breadth of product and service
offerings fosters long-term client relationships, affords cross-selling
opportunities and minimizes the Company's dependence on any single technology or
industry.
38
41
NORSTAN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The Company elected early adoption of SFAS No. 131, "Disclosure about
Segments of an Enterprise and Related Information," effective April 30, 1998.
Adoption of this statement required the Company to provide the disclosure of
segment information but did not require significant changes in the way
geographic information was disclosed. Disclosures under SFAS No. 131 are as
follows:
GLOBAL SERVICES
------------------------------ TOTAL
IT CONSULTING COMMUNICATIONS GLOBAL COMMUNICATIONS FINANCIAL
SERVICES SERVICES SERVICES SOLUTIONS SERVICES CORPORATE TOTAL
(IN THOUSANDS)
1996:
Revenue.................. $14,426 $121,971 $136,397 $179,332 $ 5,635 $ -- $321,364
Operating income......... 685 6,141 6,826 6,368 2,217 -- 15,411
Depreciation and
amortization........... 389 4,262 4,651 4,350 13 3,503 12,517
Identifiable assets...... 4,081 42,459 46,540 40,807 36,916 36,725 160,988
Capital expenditures..... 475 4,714 5,189 4,900 20 4,276 14,385
1997:
Revenue.................. $54,467 $131,596 $186,063 $205,983 $ 6,029 $ -- $398,075
Operating income......... 3,239 6,395 9,634 6,754 2,817 -- 19,205
Depreciation and
amortization........... 2,245 4,938 7,183 5,117 14 4,650 16,964
Identifiable assets...... 26,865 51,463 78,328 49,000 47,928 48,917 224,173
Capital expenditures..... 2,202 7,335 9,537 7,400 14 7,268 24,219
1998:
Revenue.................. $92,746 $127,197 $219,943 $228,979 $ 7,443 $ -- $456,365
Operating income(1)...... 6,976 (678) 6,298 199 4,076 -- 10,573
Depreciation and
amortization........... 4,434 5,730 10,164 5,657 15 5,279 21,115
Identifiable assets...... 63,554 55,465 119,019 52,000 52,616 51,973 275,608
Capital expenditures..... 2,115 5,998 8,113 5,900 20 5,840 19,873
- ---------------
(1) Segment totals include allocation of the fiscal year 1998 restructuring
charge of $14,667,000. Operating income of each segment, prior to the
allocation of the restructuring charge to each unit, was as follows: IT
Consulting Services -- $8,130,000; Communications Services -- $7,425,000;
Total Global Services -- $15,555,000; Communications Solutions --
$5,609,000; and Financial Services -- $4,076,000. (See Note 3.)
39
42
NORSTAN, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following table sets forth the Company's operations and related asset
information by geographic area as of and for the years ended April 30 (in
thousands):
1996 1997 1998
REVENUES:
United States................................. $287,171 $365,796 $423,446
Canada........................................ 34,193 32,279 32,919
-------- -------- --------
$321,364 $398,075 $456,365
======== ======== ========
NET INCOME:
United States................................. $ 7,943 $ 9,426 $ 4,679
Canada........................................ 546 791 (824)
-------- -------- --------
$ 8,489 $ 10,217 $ 3,855
======== ======== ========
ASSETS:
United States................................. $142,151 $207,942 $258,192
Canada........................................ 18,837 16,231 17,416
-------- -------- --------
$160,988 $224,173 $275,608
======== ======== ========
40
43
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
No changes in or disagreements with accountants which required reporting on
Form 8-K have occurred within the two-year period ended April 30, 1998.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
Information with respect to the directors and executive officers of the
Company, set forth under "Information Concerning Directors, Nominees and
Executive Officers" and under "Compliance with Section 16 (a)" in the Company's
definitive proxy statement for the annual meeting of shareholders to be held
September 24, 1998, is incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION.
Information with respect to Executive Compensation set forth under
"Executive Compensation" in the Company's definitive proxy statement for the
annual meeting of shareholders to be held September 24, 1998, other than the
subsections captioned "Report of the Compensation and Stock Option Committee"
and "Performance Graph", is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
Information with respect to security ownership of certain beneficial owners
and management, set forth under "Beneficial Ownership of Principal Shareholders
and Management" in the Company's definitive proxy statement for the annual
meeting of shareholders to be held September 24, 1998, is incorporated herein by
reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
Information with respect to certain relationships and related transactions,
set forth under "Information Concerning Directors, Nominees and Executive
Officers" in the Company's definitive proxy statement for the annual meeting of
shareholders to be held September 24, 1998, is incorporated herein by reference.
41
44
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(A) FINANCIAL STATEMENTS, FINANCIAL STATEMENT SCHEDULES AND EXHIBITS.
1. Financial Statements
See Index to Consolidated Financial Statements and Financial
Statement Schedules on page of this report.
2. Financial Statement Schedules
All schedules to the Consolidated Financial Statements normally
required by the applicable accounting regulations are omitted since the
required information is included in the Consolidated Financial
Statements or the Notes thereto or is not applicable.
3. Exhibits
See Index to Exhibits on page of this report.
(B) REPORTS ON FORMS 8-K.
No reports on Form 8-K were filed by the Company during the last quarter of
the fiscal year covered by this report.
42
45
SIGNATURES
Pursuant to the requirements of Section 13 or Section 15(d) of the
Securities Exchange Act of 1934, the registrant has duly caused this Report to
be signed on its behalf by the undersigned, thereunto duly authorized.
Dated: July 22, 1998
NORSTAN, INC.
Registrant
By /s/ DAVID R. RICHARD
------------------------------------
David R. Richard
Chief Executive Officer, President
and Director
By /s/ KENNETH S. MACKENZIE
------------------------------------
Kenneth S. MacKenzie
Chief Financial Officer
(Principal Financial and Accounting
Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
SIGNATURE DATE
--------- ----
/s/ PAUL BASZUCKI July 22, 1998
- -----------------------------------------------------
Paul Baszucki
Chairman of the Board
July 22, 1998
- -----------------------------------------------------
Richard Cohen
Vice-Chairman of the Board
/s/ DAVID R. RICHARD July 22, 1998
- -----------------------------------------------------
David R. Richard
CEO, President and Director
July 22, 1998
- -----------------------------------------------------
Dr. Jagdish N. Sheth
Director
/s/ CONNIE M. LEVI July 23, 1998
- -----------------------------------------------------
Connie M. Levi
Director
/s/ GERALD D. PINT July 23, 1998
- -----------------------------------------------------
Gerald D. Pint
Director
/s/ HERBERT F. TRADER July 23, 1998
- -----------------------------------------------------
Herbert F. Trader
Director
43
46
EXHIBIT INDEX
EXHIBIT NO. DESCRIPTION PAGE
- ----------- ----------- ----
3(a) Restated Articles of Incorporation of the Company, as
amended [filed as Exhibit 3(a) to the Company's Annual
Report on Form 10-K for the year ended April 30, 1988 (File
No. 0-8141) and incorporated herein by reference];
Amendments adopted September 9, 1993 and June 20, 1996
[filed as Exhibit 3(a) to the Company's Annual Report on
Form 10-K for the year ended April 30, 1996 (File No.
0-8141) and incorporated herein by reference]...............
3(b) Bylaws of the Company [filed as Exhibit 3(b) to the
Company's Annual Report on Form 10-K for the year ended
April 30, 1993 (File No. 0-8141) and incorporated herein by
reference]; Amendments adopted August 8, 1995 [filed as
Exhibit 3(b) to the Company's Annual Report on Form 10-K for
the year ended April 30, 1996 (File No. 0-8141) and
incorporated herein by reference]; Amendments adopted
September 20, 1995, July 30, 1996 and April 9, 1997.........
3(c) Rights Agreement dated May 17, 1988 between Norstan, Inc.
and Norwest Bank Minnesota, N.A. [filed as Exhibit 1 to the
Company's Registration Statement on Form 8-A (File No.
0-8141) and incorporated herein by reference]...............
10(a) Agreement for ROLM Authorized Distributors, effective July
27, 1993, between Norstan Communications, Inc. and ROLM
Company [filed as Exhibit 10(a) to the Company's Annual
Report on Form 10-K for the year ended April 30, 1993 (File
No. 0-8141) and incorporated herein by reference]...........
10(b) Credit Agreement dated as of July 23, 1996, among Norstan,
Inc., First Bank National Association, and Harris Trust and
Savings Bank and the Sumitomo Bank Limited, Chicago Branch;
First Amendment to Credit Agreement dated October 11, 1996
[filed as Exhibit 10 to the Company's quarterly report on
Form 10-Q for the period ended August 3, 1996 (File No.
0-8141) and incorporated herein by reference]...............
10(c) Loan and Security Agreement dated April 29, 1993, between
Norstan Financial Services, Inc. and Sanwa Business Credit
Corporation [filed as Exhibit 10(b) to the Company's Current
Report on Form 8-K, dated April 29, 1993 (File No. 0-8141)
and incorporated herein by reference]; First Amendment dated
December 30, 1993 [filed as Exhibit 10(c) to the Company's
Annual Report on Form 10-K for the year ended April 30, 1994
(File No. 0-8141) and incorporated herein by reference].....
10(d)(1) 1990 Employee Stock Purchase Plan of Norstan, Inc., as
amended May 29, 1998........................................
10(e)(1) Norstan, Inc. 1986 Long-Term Incentive Plan, as amended
[filed as Exhibit 10(e) to the Company's Annual Report on
Form 10-K for the year ended April 30, 1993 (File No.
0-8141) and incorporated herein by reference]; Amendments
adopted August 8, 1995 and July 30, 1996 [filed as Exhibit
10(e) to the Company's Annual Report on Form 10-K for the
year ended April 30, 1996 (File No. 0-8141) and incorporated
herein by reference]........................................
10(f)(1) Norstan, Inc. Restated Non-Employee Directors' Stock Plan,
[filed as Exhibit 28.1 to the Company's Registration
Statement on Form S-8 dated September 27, 1995 (File No.
0-8141) and incorporated herein by reference]...............
10(g)(1) Norstan, Inc. 1995 Long-Term Incentive Plan [filed as
Exhibit 28.1 to the Company's Registration Statement on Form
S-8 dated September 27, 1995 (File No. 0-8141) and
incorporated herein by reference]; Amendment adopted July
30, 1996 [filed as Exhibit 10(g) to the Company's Annual
Report on Form 10-K for the year ended April 30, 1996 (File
No. 0-8141) and incorporated herein by reference]; Amendment
adopted August 16, 1996.....................................
44
47
EXHIBIT NO. DESCRIPTION PAGE
- ----------- ----------- ----
10(h)(1) Employment Agreement dated April 7, 1995 between Paul
Baszucki and the Company [filed as Exhibit 10(h) to the
Company's Annual Report on Form 10-K for the year ended
April 30, 1995 (File No. 0-8141) and incorporated herein by
reference]..................................................
10(i)(1) Employment Agreement dated April 7, 1995 between Richard
Cohen and the Company [filed as Exhibit 10(i) to the
Company's Annual Report on Form 10-K for the year ended
April 30, 1995 (File No. 0-8141) and incorporated herein by
reference]..................................................
10(j)(1) Employment Agreement dated April 30, 1997 between David R.
Richard and the Company.....................................
10(k) Agreement and Plan of Merger dated May 24, 1996 among the
Company, Connect Computer Company and CCC Acquisition
Subsidiary, Inc. [filed as Exhibit 2 to the Company's
Current Report on Form 8-K dated June 4, 1996 (File No.
0-8141) and incorporated herein by reference]...............
10(l)(1) Third Amendment to Credit Agreement, dated as of March 20,
1998, by and among the Company, certain banks as signatories
thereto (the "Banks") and First Bank National Association,
as one of the Banks and as agent for the Banks..............
10(m) Lease Agreement, dated December 23, 1997, by and between
Thomas Edward Limited Partnership and the Company...........
22 Subsidiaries of Norstan, Inc................................
23(a) Consent of Independent Public Accountants...................
27 Financial Data Schedule.....................................
A copy of any of the exhibits listed or referred to above will be furnished at a
reasonable cost to any shareholder of the Company, upon receipt of a written
request from such person for any such exhibit. Such request should be sent to
Norstan, Inc., 605 North Highway 169, Twelfth Floor, Plymouth, Minnesota 55441,
Attention: Investor Relations.
(1) Items that are management contracts or compensatory plans or arrangements
required to be filed as an exhibit pursuant to Item 14(c) of this Form 10-K.
45