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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
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(XX) ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
for the fiscal year ended July 31, 1998
or
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
From the transition period from ............... to ...............
Commission File No. 0-19608
ARI NETWORK SERVICES, INC.
(Exact name of registrant as specified in its charter)
Wisconsin 39-1388360
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
330 East Kilbourn Ave. 53202-3149
Milwaukee, Wisconsin (zip code)
(Address of principal executive offices)
Registrant's telephone number, including area code (414) 278-7676
Securities registered pursuant to Section 12(b) of the Act:
NONE
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, $.001 PAR VALUE
(TITLE OF CLASS)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
YES X NO
--- ---
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [_____]
As of October 26, 1998, aggregate market value of the Common Stock held by
non-affiliates (based on the closing price on the NASDAQ National Market System)
was approximately $5.8 million.
As of October 26, 1998, there were 5,087,462 shares of Common Stock of the
registrant outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Definitive Proxy Statement, to be filed with the Securities and
Exchange Commission no later than 120 days after July 31, 1998, for the 1998
Annual Meeting of Shareholders are incorporated by reference in Part III hereof.
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ITEM 1. BUSINESS
BUSINESS OVERVIEW
ARI Network Services, Inc. (the "Company" or "ARI") provides standards-based
Internet-enabled electronic commerce services to companies in selected industry
sectors with shared distribution channels. These services use telecommunications
technology and software to help customers conduct business electronically,
computer-to-computer, with minimal changes to their internal business systems.
Currently, the Company provides electronic commerce services to four industry
sectors: the U.S., Canadian, European and Australian equipment industry (the
"Equipment Industry"), the U.S. and Canadian agribusiness industry (the
"Agribusiness Industry"), the U.S. and Canadian freight transportation industry
(the "Transportation Industry"), and the U.S. newspaper publishing industry (the
"Publishing Industry"). The Equipment and Agribusiness Industries are each made
up of separate sub-markets in which the manufacturers share common distributors
and/or retail dealers. The Equipment Industry comprises several vertical markets
including: recreational vehicles, outdoor power, power tools, construction,
marine, power sports and others. By "Equipment," the Company means capital goods
which are repaired rather than discarded when broken and for which the repairs
are generally performed by a distributed network of independent dealers and/or
repair shops. The Agribusiness Industry includes agricultural and specialty
chemicals, fertilizer, livestock pharmaceuticals, feed and seed.
The Company's services include: telecommunication networking, incompatible
computer systems connectivity, electronic mail messaging, electronic data
interchange translation, electronic catalog creation and viewing, management of
participant directories and databases, information exchange and retrieval, and a
variety of customer specified electronic commerce and transaction processing
applications. ARI also provides end user software applications related to its
electronic commerce services and a range of professional services, including
consulting, customer application development, installation, product
customization, education and support.
The Company's electronic commerce services may be broadly categorized as either
transaction management or data management services. Transaction management
services include the provision of applications where transaction data are
exchanged between participants (e.g., manufacturers, distributors, dealers and
sales representatives) in a distribution channel. Such applications include
product availability inquiries, sales automation, sales reporting, warranty
claim processing, batch or immediate response product ordering, and invoicing.
Data management services include the provision of reference databases used in
electronic commerce. Such databases include directories of ship-to and bill-to
locations, online or CD-ROM product catalogs, and, in the case of the Publishing
Industry, online newspaper articles. Where possible, the Company seeks to
provide integrated solutions involving both types of services. Both transaction
and data management services are provided to the Equipment and Agribusiness
Industries, while only data management services are provided to the
Transportation and Publishing Industries.
The Company focuses its marketing efforts in the Equipment and Agribusiness
Industries on major manufacturers and distributors that have the financial
resources and business motivation to convert their distribution systems from
paper-based to electronic commerce, thereby reducing processing expenses and
time to market. In the Transportation Industry, the data management services are
sold to the Association of American Railroads ("AAR") under a long-term
contract. In the Publishing Industry, the services are sold under an exclusive
long-term contract with the Associated Press.
During fiscal 1998, the Company had two customers, the AAR and Roche Vitamins,
Inc., that exceeded 10% of total revenues. The Company's five year data
management contract with the AAR extends until December 31, 1999. The Company
has a good relationship with the AAR and management anticipates that the
contract will be renewed. Roche Vitamins, Inc. is a sales force automation
customer in the Agribusiness Industry. See "Forward Looking Statements".
The Company's executive offices are located at 330 East Kilbourn Avenue,
Milwaukee, Wisconsin 53202 and its telephone number at that location is (414)
278-7676. The Company is a Wisconsin corporation, incorporated in 1981. The
Company maintains a website at http://www.arinet.com(TM).
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MISSION AND STRATEGY
The Company's mission is to be the leading provider of quality distribution-side
Internet-enabled business-to-business electronic commerce services in selected
manufacturing industry segments with shared distribution channels. Management's
vision is that whenever a manufacturer in one of the Company's target markets
does business electronically with a distributor or dealer, it will use at least
some of the Company's products or services to do so. To achieve this vision, the
Company's strategy is to concentrate on a few vertical markets and to lead with
two services: (i) distributor/dealer communications and (ii) electronic product
catalogs and participant directories. After having obtained a position in a
given market, the Company will then bring other products and services to bear in
order to expand its presence and solidify its competitive position. The
Company's goal is to provide a complete array of high-quality services that
industry participants will adopt and use effectively.
The Company's strategy includes driving growth in its targeted markets through
three distinct programs: (i) sales; (ii) strategic alliance; and (iii)
acquisitions. The Company's external sales team focuses on large manufacturers
and distributors in the targeted industry sectors while internal telesales
representatives sell to dealers and smaller manufacturers and distributors. The
Company has a strategic alliance relationship with over 28 companies that
provide software and services to manufacturers, distributors and dealers in the
Company's targeted industries. The Company seeks alliance partners that provide
the software and services that complement the Company's products, such as
manufacturer warranty claim processing software or dealer or distributor
business management and point of sale systems. These alliance relationships
range from simple technical interface agreements to value-added reseller
arrangements. The Company also has an active acquisition program that has
generated three acquisitions in the last 23 months. The Company seeks to acquire
businesses with complementary products or services or attractive market
positions in the Company's targeted industries. See "Acquisitions".
The Company has built business process and technical competency in four sectors:
Equipment, Agribusiness, Transportation and Publishing. Major customers in each
sector participate in defining product requirements. This ensures that completed
products are technically sound and will address the business problems
participants are trying to solve through electronic commerce. Through its sales,
alliance and acquisition programs, the Company expects to expand its business by
(i) growing market share in its targeted industries; (ii) entering new
subsectors of each target market; and (iii) entering selected new vertical
markets over the long term. See "Competition".
PRODUCTS AND SERVICES
The Company offers a variety of electronic commerce services to its customers.
These various services are typically provided using some combination of
networking, online and offline databases, software products, and professional
services. The following table shows the software products offered by the
Company, a brief description of the product and the industries where they are
currently in use.
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- ------------------------------------------------------------------------------------------------------------------------
ARI NETWORK SERVICES, INC. PRODUCTS AND SERVICES
- ------------------------------------------------------------------------------------------------------------------------
Product or Service Description Primary Vertical Channels
- ------------------------------------------------------------------------------------------------------------------------
TradeRoute(TM) Document handling and communications for product Equipment
ordering and warranty claims
- ------------------------------------------------------------------------------------------------------------------------
PLUS(1)(R) Electronic parts catalog for equipment dealers Equipment
- ------------------------------------------------------------------------------------------------------------------------
EMPART(TM) Electronic parts catalog creation and viewing software Equipment
- ------------------------------------------------------------------------------------------------------------------------
Internet Information Web-based electronic commerce transaction support Equipment
Support System*
- ------------------------------------------------------------------------------------------------------------------------
Meppel(R) EDI software for product movement reporting Agribusiness
- ------------------------------------------------------------------------------------------------------------------------
ARISE(R) Sales automation software Agribusiness
- ------------------------------------------------------------------------------------------------------------------------
Electronic Commerce Centrally managed industry-common databases of Transportation and Agribusiness
Directories electronic commerce participant locations
- ------------------------------------------------------------------------------------------------------------------------
Newsfinder(R) Database of keyworded news stories Publishing
- ------------------------------------------------------------------------------------------------------------------------
Network Communications Multi-protocol, Internet-connected server providing All
such services as messaging, database access and data
translation
- ------------------------------------------------------------------------------------------------------------------------
*Acquired September 15, 1998 as part of the POWERCOM-2000 acquisition.
POWERCOM-2000 also had EDI and electronic parts cataloging software which will
be incorporated into the Company's TradeRoute(TM) and PLUS1(R) product lines.
See "Acquisitions".
ACQUISITIONS
Since December 1995, the Company has had a formal Business Development program
aimed at identifying, evaluating and closing potential acquisition targets which
would augment and strengthen the Company's market position, product offerings,
and personnel resources. Over 200 potential acquisition targets have been
considered during the program, resulting in three acquisitions. The program is
active and is intended to remain active indefinitely. The Company has engaged
Cleary Gull Reiland & McDevitt Inc., a prominent Midwest investment banking
firm, to help expand and accelerate the program.
On November 4, 1996, the Company completed the acquisition of cd\*.IMG, Inc.
("CDI") in a stock transaction. CDI was in the business of publishing electronic
parts catalogs and the software that dealers and repair shops use to read the
catalogs. CDI had the parts catalogs of over 20 manufacturers in the outdoor
power equipment, marine, motorcycles and power sports industries.
On September 30, 1997, the Company completed the acquisition of Empart
Technologies, Inc., in a stock for assets transaction. Empart Technologies, Inc.
was a California-based developer of software for electronic parts catalogs.
Empart's products included EMPARTpublisher(TM), which converts data from a
variety of forms into an electronic format, and EMPARTviewer(TM), a high-end
configurable parts catalog. The EMPART(TM) catalog software is being used in the
recreational vehicles, musical instruments and power generation industries.
On September 15, 1998, the Company completed the acquisition of POWERCOM-2000, a
division of Briggs & Stratton Corporation ("Briggs") located in Colorado
Springs, Colorado, in a stock for assets transaction. POWERCOM-2000 was a
provider of electronic commerce software and services to companies in the
outdoor power, power tools and power sports industries.
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COMPETITION
The electronic commerce services industry is highly competitive. Several
companies, including AT&T, Dun & Bradstreet, EDS, GE Information Services,
Harbinger, IBM, MCI and Sterling Commerce offer electronic commerce services
that are similar to those offered by the Company. There are also many companies,
such as Siebel Systems, Inc. and Bell & Howell, and others, that sell software
that competes with certain of the Company's products. Many of these competing
companies have substantially greater resources than ARI. Certain manufacturers
and distributors operate their own private computer networks for transacting
business with their dealers and distributors. It is possible that companies
within the Company's target markets may develop and implement private
computer-to-computer networks, thereby reducing the demand for the Company's
services. The pace of technological change, such as developments in Internet
commerce, is so great that new competitors may emerge quickly based on new
technologies.
The Company's primary competitive advantage is the industry knowledge and
customer relationships it has developed. When combined with services that meet
the needs of the Company's customers, management believes that its industry
knowledge and customer relationships will enable it to compete effectively in
its chosen markets.
EMPLOYEES
As of September 30, 1998, the Company had 106 full-time equivalent employees. Of
these, 42 are technical and engaged in maintaining or developing products and
services, 36 are sales and marketing, 17 are database management and customer
support and 11 are involved in administration and finance. None of these
employees is represented by a union.
ITEM 2. PROPERTIES
The Company occupies approximately 23,000 square feet in an office building in
Milwaukee, Wisconsin, under a lease expiring July 31, 2002. This facility serves
as the Company's headquarters and data center. The Company also occupies
approximately 9,100 square feet in an office building in Colorado Springs,
Colorado under a lease expiring January 31, 2001. The Colorado Springs facility
houses the Company's employees from its POWERCOM-2000 acquisition. See "Other
Items".
ITEM 3. LEGAL PROCEEDINGS
The Company is not currently involved in any material legal proceedings.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
EXECUTIVE OFFICERS OF THE REGISTRANT
The table below sets forth the names of the Company's executive officers as of
October 26, 1998. The officers serve at the discretion of the Board.
Name Age Capacities in Which Serving
- ---- --- ---------------------------
Brian E. Dearing 43 Chairman, CEO, President, Acting CFO and a Director
Mark L. Koczela 44 Executive Vice President of Business Development and
Administration and Secretary
John C. Bray 41 Vice President of Sales
Michael E. McGurk 50 Vice President of Technology
- --------------------
BRIAN E. DEARING. Mr. Dearing, a director since 1995, is Chairman, Chief
Executive Officer, President and Acting Chief Financial Officer of the Company.
Prior to joining the Company, Mr. Dearing held the position of Vice President -
EDI Business Development in London, England, with Sterling Software, Inc. Since
1990, Mr. Dearing held a series of electronic commerce executive positions at
Sterling including Vice President of Marketing and Vice President of Customer
Service for Sterling's North American EDI business, as well as Vice President of
European Network Services. Prior to joining Sterling, Mr. Dearing was Manager of
EDI Market
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Development and Manager of EDI Product Management with General Electric
Information Services. Mr. Dearing holds a Masters Degree in Industrial
Administration from Krannert School of Management at Purdue University and a BA
in Political Science from Union College. He also spent a year of undergraduate
studies at the London School of Economics.
MARK L. KOCZELA. Mr. Koczela is Executive Vice President of Business Development
and Administration and Secretary. Prior to joining the Company in January, 1992,
Mr. Koczela was a shareholder at Godfrey & Kahn, S.C., a Milwaukee, Wisconsin
law firm where he had worked in the field of mergers and acquisitions since 1983
representing a variety of businesses, including the Company. He holds a BA in
History from the University of Massachusetts and a JD from Duke University Law
School.
JOHN C. BRAY. Mr. Bray was appointed Vice President of Sales in September, 1996.
Prior to joining the Company, Mr. Bray was Manager of Global Internet Sales and
Consulting at GE Information Services (GEIS) in Rockville, Maryland. Before
joining GEIS, Mr. Bray was a Regional Vice President of Sales for AT&T's
EasyLink Services, marketing electronic commerce services. Mr. Bray was employed
by AT&T from 1991 through 1996. He holds a BA in marketing from the University
of Iowa.
MICHAEL E. MCGURK. Mr. McGurk was appointed Vice President of Technology in
January, 1997. Prior to joining the Company, Mr. McGurk developed and operated a
large format printing services business for customers involved in business
process re-engineering projects. Before opening the printing service, Mr. McGurk
had a twelve year career in information technology management at General
Electric, including Manager of Global Information Technology for GE Medical
Systems, Program Manager for GE Corporate and Manager of Data Management for GE
Aircraft Engines. Mr. McGurk's early career included sales and technology
positions at Cullinet and CinCom Systems. Mr. McGurk holds an MBA and BS from
Miami University in Ohio.
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PART II
ITEM 5. MARKET FOR COMPANY'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company's common stock is traded on the National Association of Securities
Dealers, Inc. Automated Quotation National Market System ("NASDAQ-NMS") under
the symbol ARIS. The following table sets forth the high and low sales prices on
the composite tape for the NASDAQ-NMS for the periods indicated as adjusted for
the Company's one-for-four reverse stock split, as described below.
Fiscal Quarter Ended High Low
October 31, 1996 . . . . . . . . $11.00 $7.50
January 31, 1997 . . . . . . . . $10.50 $6.25
April 30, 1997 . . . . . . . . . $8.50 $4.50
July 31, 1997 . . . . . . . . . $5.50 $2.75
October 31, 1997. . . . . . . . $4.252 $4.00
January 31, 1998. . . . . . . . $1.750 $1.750
April 30, 1998. . . . . . . . . $3.750 $3.375
July 31, 1998 . . . . . . . . . $2.4375 $2.250
As of October 26, 1998, there were approximately 183 holders of record and
approximately 1,373 beneficial owners of the Company's common stock. The Company
has not paid cash dividends to date and has no present intention to pay cash
dividends.
On January 21, 1998, in connection with amending the Company's line of credit
with WITECH Corporation (the "WITECH Line"), the Company issued to WITECH a
warrant to purchase 25,000 shares of common stock at $4.00 per share. On May 27,
1998, in connection with further amending the WITECH Line, the Company issued to
WITECH a warrant and a usage warrant, each to purchase 25,000 shares of common
stock at $2.8125 per share. The exercise price of the warrants is reduced if the
Company issues stock at less than the then current exercise price. The issuance
of the warrants to WITECH will be exempt from registration under the Securities
Act of 1933, as amended, pursuant to Section 4(2) thereof.
On November 19, 1997, the Company's shareholders voted to amend the Company's
Articles of Incorporation to effect a one-for-four reverse stock split of the
Company's Common Stock, while keeping 25,000,000 authorized shares of $.001 par
value Common Stock. The shares issued in connection with the reverse stock split
were exempt from registration under the Securities Act of 1933, as amended,
because no "offer" or "sale" of securities was involved. Shareholders' equity,
the number of shares and per share data in the accompanying financial statements
have been adjusted for the reverse stock split.
ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth certain financial information with respect to the
Company as of and for each of the five years in the period ended July 31, 1998,
which was derived from audited Consolidated Financial Statements and Notes
thereto of the Company. Audited Financial Statements and Notes as of July 31,
1998 and 1997 and for each of the three years in the period ended July 31, 1998,
and the report of Ernst & Young LLP thereon are included elsewhere in this
Report. The selected financial data should be read in conjunction with
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and the Financial Statements and Notes thereto included elsewhere
herein.
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YEAR ENDED JULY 31,
1998 1997 1996 1995 1994
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STATEMENT OF OPERATIONS DATA: (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Network & other services revenues $ 5,811 $ 5,235 $ 4,484 $ 3,880 $ 3,498
Software revenues & development 2,153 1,678 -- 1,455 1,752
-------- -------- -------- -------- --------
Total revenues 7,964 6,913 5,252 5,335 5,250
Operating Expenses:
Variable cost of network & other services sold 1,327 1,035 925 1,087 1,208
Variable cost of software & development sold 619 652 288 149 214
Depreciation and amortization 2,142 1,722 1,800 2,388 11,514(1)
Network operations 708 1,004 919 1,171 1,281
Selling, general and administrative 4,586 4,819 4,585 4,756 6,411
Restructuring costs 0 0 0 0 500(2)
Network construction and expansion 2,198 1,897 1,897 1,788 2,745
-------- -------- -------- -------- --------
Operating expenses before amounts capitalized 11,580 11,129 10,414 11,339 23,873
Less capitalized expenses (1,546) (1,155) (1,230) (1,616) (2,602)
-------- -------- -------- -------- --------
Net operating expenses 10,034 9,974 9,184 9,723 21,271
-------- -------- -------- -------- --------
Operating loss (2,070) (3,061) (3,932) (4,388) (16,021)
Other income 55 9 12 114 51
Interest expense (125) (223) (286) (65) (97)
-------- -------- -------- -------- --------
Loss before extraordinary item &
minority interest (2,140) (3,275) (4,206) (4,339) (16,067)
Minority interest in loss of subsidiary 0 0 0 0 41
Extraordinary item 0 0 0 0 (937)(3)
-------- -------- -------- -------- --------
Net loss $ (2,140) $ (3,275) 206) $ (4,339) $(15,089)
======== ======== ======== ======== ========
Income (loss) per common share:
Loss before extraordinary item $ (0.52) $ (0.91) $ (1.35) $ (1.44) $ (5.88)
Extraordinary item 0 0 0 0 0.34
-------- -------- -------- -------- --------
Basic and diluted net loss per share $ (0.52) $ (0.91) $ (1.35) $ (1.44) $ (5.54)
Weighted average number of common and
common equivalent shares 4,119 3,611 3,114 3,018 2,726
BALANCE SHEET DATA:
Working capital (deficit) $ 762 $ (689) $ (3,412) $ (1,564) $ 485
Capitalized network system (net) 9,122 8,957 9,264 9,277 9,253
Total assets 12,808 11,416 11,479 11,683 13,258
Current portion of long-term debt
and capital lease obligations 30 64 63 68 76
Total long-term debt and capital lease obligations 1,653 8 22 73 101
Total shareholder's equity 8,962 8,947 6,182 8,524 11,215
- -------------
(1)Includes a non-recurring amortization charge of $7.7 million as a
result of management's decision to move from DOS to Windows(R) as the principal
operating system of the Company's end user applications.
(2)Company commenced a restructuring in the second quarter of fiscal
1994. Restructuring costs comprised severance, recruiting, relocations and
related expenses.
(3)Company was released from capital lease obligations with IBM in the
fourth quarter of fiscal 1994.
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
SUMMARY
For the first time in its history, the Company achieved positive cash flow from
operations net of changes in working capital for the year ended July 31, 1998.
This represents an improvement of $1,555,000 compared to fiscal 1997 and
$2,408,000 compared to 1996. Net loss for fiscal 1998 was reduced by $1,135,000
or 35% compared to fiscal 1997. Management expects that the Company will
continue to operate with positive cash flow from operations net of changes in
working capital for the balance of fiscal 1999. Management also expects to
achieve its goal of full sustainable profitability in the fourth quarter of
fiscal 1999. See "Forward Looking Statements".
REVENUES
Total revenue for the year ended July 31, 1998 increased $1,051,000 or 15%
compared to last year. Total year-over-year quarterly revenue has increased for
ten consecutive quarters. Management expects the year-over-year quarterly
increases to continue through fiscal 1999.
The Company provides business-to-business electronic commerce network services
and end user software to customers in selected industry sectors with shared
distribution channels. The Company's strategy is to build sustainable, recurring
revenues in these selected industry sectors from each of its primary services
and software products. Accordingly, management reviews the Company's recurring
vs. non-recurring revenue in the aggregate and within each industry sector.
The following table sets forth, for the periods indicated, certain revenue
information derived from the Company's financial statements:
REVENUE BY INDUSTRY SECTOR
YEAR ENDED JULY 31,
(DOLLARS IN THOUSANDS)
------------------------------------------------------
PERCENT PERCENT
INDUSTRY SECTOR 1998 1997 CHANGE 1997 1996 CHANGE
------ ------ ------- ------ ------ -------
Equipment Industry
Recurring $ 606 $ 486 25 % $ 486 $ 222 119 %
Non-recurring 1,588 432 268 % 432 241 79 %
------ ------ ------ ------
Subtotal 2,194 918 139 % 918 463 98 %
Agribusiness Industry
Recurring 2,400 2,230 8 % 2,230 2,019 10 %
Non-recurring 991 1,523 (35)% 1,523 621 145 %
------ ------ ------ ------
Subtotal 3,391 3,753 (10)% 3,753 2,640 42 %
Transportation Industry
Recurring 761 714 7 % 714 454 57 %
Non-recurring 157 108 45 % 108 164 (34)%
------ ------ ------ ------
Subtotal 918 822 12 % 822 618 33 %
Publishing Industry
Recurring 1,325 1,219 9 % 1,219 1,102 11 %
Non-recurring 22 43 (49)% 43 142 (70)%
------ ------ ------ ------
Subtotal 1,347 1,262 7 % 1,262 1,244 1 %
Other Revenues (100% Recurring) 114 158 (28)% 158 287 (45)%
Total Revenues
Recurring 5,206 4,807 8 % 4,807 4,084 18 %
Non-recurring 2,758 2,106 31 % 2,106 1,168 80 %
------ ------ ------ ------
Grand total $7,964 $6,913 15 % $6,913 $5,252 32 %
====== ====== ====== ======
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Recurring revenues are derived from network traffic fees, maintenance and
support fees, transaction fees, software license renewals and subscription fees.
Recurring revenues increased in fiscal 1998 and fiscal 1997, compared to the
prior year, due to increases in the customer base in all industries. Recurring
revenues, as a percentage of total revenue, decreased from 78% in fiscal 1996
and 70% in fiscal 1997 to 65% in fiscal 1998. Management believes a relationship
of approximately two thirds recurring revenues to one third non-recurring
revenues is desirable in order to establish an appropriate level of base revenue
while continuing to add new sales to drive future increases in recurring
revenues. This revenue mix may fluctuate from quarter to quarter. See "Forward
Looking Statements".
Non-recurring revenues are derived from initial software license fees and
professional services fees. The increase in non-recurring revenues in fiscal
1998, compared to fiscal 1997, was primarily due to increased new business in
the Equipment Industry offset, in part, by reduced new business in the
Agribusiness Industry. The increase in non-recurring revenues in fiscal 1997,
compared to fiscal 1996, was due to increased new business in the Agribusiness
Industry.
Equipment Industry
The Equipment Industry comprises several vertical markets including recreational
vehicle, outdoor power equipment, marine, power sports, automotive, diesel
truck, motorcycle and power generation. Management's strategy is to expand its
parts catalog software and services and dealer communication channels with
manufacturers and distributors in the existing vertical markets and to expand to
other similar channels in the future. Revenues from the Equipment Industry are
derived from software license fees, maintenance and support fees and
professional services fees. Revenues from EMPART(TM), the Company's recently
acquired electronic parts cataloging software, are included in the Equipment
Industry revenues. See "Other Items". Fiscal 1998 recurring revenues in the
Equipment Industry increased, compared to fiscal 1997, primarily due to
increased revenues from subscription fees and maintenance and support fees from
the Company's growing base of manufacturers and dealers. Fiscal 1997 recurring
revenues in the Equipment Industry increased, compared to fiscal 1996, due to
the initiation of annual maintenance and support fees to the Company's dealer
communications software customers and subscription fees from the Company's
acquisition of PLUS(1)(R) in November 1996. Fiscal 1998 non-recurring revenues
in the Equipment Industry increased, compared to fiscal 1997, due to increased
sales of software licenses and professional services as a result of the
Company's entry into the Recreational Vehicle Industry. Fiscal 1997
non-recurring revenues in the Equipment Industry increased, compared to fiscal
1996, due to increased sales of software licenses. Management expects recurring
and non-recurring revenues in the Equipment Industry to increase at a higher
rate than total revenues in fiscal 1999, as the Company focuses its attention
and resources in this industry. See "Forward Looking Statements".
Agribusiness Industry
The Agribusiness Industry comprises several vertical markets including
agricultural and specialty chemicals, livestock pharmaceuticals, fertilizer,
feed and seed. Revenues from the Agribusiness Industry are derived from software
license fees, maintenance and support fees, network traffic fees and
professional services fees. Fiscal 1998 and fiscal 1997 recurring revenues in
the Agribusiness Industry increased, compared to the prior year, due to
increases in network traffic. Fiscal 1998 non-recurring revenues in the
Agribusiness Industry decreased compared to fiscal 1997 due to the saturation of
software licenses to the distributor level of the Agrichemical distribution
channel and the completion of substantial sales force automation software
customization projects for two major customers during the fourth quarter of
fiscal 1997. Management expects revenues in the Agribusiness Industry will
remain relatively flat in fiscal 1999. See "Forward Looking Statements".
Transportation Industry
Revenues from the Transportation Industry are derived from maintenance and
support fees, transaction fees and professional services fees charged to the
Association of American Railroads ("AAR") for the creation and maintenance of
the Customer Identification File. Fiscal 1998 recurring revenues in the
Transportation Industry increased, compared to fiscal 1997, due to growth in
maintenance and support fees as the Customer Identification File increased in
size. Fiscal 1997 recurring revenues in the Transportation Industry increased,
compared to fiscal 1996, due to a shift from non-recurring professional services
fees to recurring maintenance and support fees as the project went into
production. Fiscal 1998 non-recurring revenues in the Transportation Industry
increased, compared to fiscal 1997, due to special systems development and
modification projects the Company undertook on
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behalf of the AAR. Management expects that revenues in the Transportation
Industry will continue at approximately the same level in fiscal 1999, and over
time, will become a decreasing percentage of the Company's total revenues. While
relatively flat, this revenue is profitable on the margin and helps to fund the
Company's growth in other areas. The Company's five-year data management
contract with the AAR extends until December 31, 1999. The Company has a good
relationship with the AAR and management anticipates that the contract will be
renewed. See "Forward Looking Statements".
Publishing Industry
Revenues from the Publishing Industry are from fees charged to the Company's
Newsfinder(R) customers. Through Newsfinder(R), the Company manages the
approximately 20,000 news stories per week output of the Associated Press ("AP")
and the AP's national and international photo wire, providing access on a
dial-up basis and through the World Wide Web to some 800 publishers with more
than 1,300 weekly and monthly newspapers. Fiscal 1998 revenues in the Publishing
Industry increased compared to fiscal 1997 due to price increases and increased
photo sales. Management expects that revenues in the Publishing Industry will
continue at approximately the same level in fiscal 1999, and over time, will
become a decreasing percentage of the Company's total revenues. While relatively
flat, this revenue is profitable on the margin and helps to fund the Company's
growth in other areas. See "Forward Looking Statements".
OPERATING EXPENSES
The following table sets forth, for the periods indicated, certain operating
expense information derived from the Company's financial statements:
YEAR ENDED JULY 31,
(DOLLARS IN THOUSANDS)
--------------------------------------------------------------
PERCENT PERCENT
1998 1997 CHANGE 1997 1996 CHANGE
------- ------- ------- ------- ------- -------
Operating Expenses:
Variable cost of products and services
sold (exclusive of depreciation and
amortization shown below) $ 1,946 $ 1,687 15 % $ 1,687 $ 1,213 39 %
Network operations 708 1,004 (29)% 1,004 919 9 %
Selling, general and administrative 4,586 4,819 (5)% 4,819 4,585 5 %
Network construction and expansion 2,198 1,897 16 % 1,897 1,897 0 %
------- ------- --- ------- ------- ---
Gross cash expenses 9,438 9,407 0 % 9,407 8,614 9 %
Depreciation and amortization 2,142 1,722 24 % 1,722 1,800 (4)%
Less capitalized expenses (1,546) (1,155) 34 % (1,155) (1,230) (6)%
------- ------- --- ------- ------- ---
Net operating expenses $10,034 $ 9,974 1 % $ 9,974 $ 9,184 9 %
======= ======= === ======= ======= ===
Fiscal 1998 operating expenses remained relatively flat, compared to fiscal
1997, while fiscal 1997 operating expenses increased only slightly, despite
significant increases in revenues. In both years, this was due to tight controls
of cash expenses.
Variable cost of products and services sold consists primarily of royalties,
telecommunications and data processing fees, customization labor and temporary
help fees. Variable cost of products and services sold increased in fiscal 1998
and fiscal 1997 compared to the prior year, as a direct result of increased
revenues. Variable cost of products and services sold as a percentage of revenue
was 24% in fiscal 1998 and fiscal 1997, and 23% in fiscal 1996. Management
expects gross margins to fluctuate slightly from quarter to quarter based on the
mix of products and services sold. See "Forward Looking Statements".
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Network operations costs are derived primarily from data center operations,
software maintenance agreements for the Company's core network and customer
support. Network operations costs decreased significantly in fiscal 1998,
compared to fiscal 1997, as the Company successfully negotiated reduced software
maintenance contracts and completed a restructuring in the customer support
area, increasing efficiency and reducing costs, while at the same time improving
service levels. Network operations costs are at their lowest point in the recent
history of the Company, despite record revenues.
Selling, general and administrative expenses decreased in fiscal 1998, compared
to fiscal 1997, despite increases in revenue. The decrease was due to lower
rent, payroll expense and management consulting fees.
The Company's technical staff (in-house and contracted) is allocated between
research and development expense and software customization services for
customer applications capitalized costs. During fiscal 1998, the Company's
technical resources were focused primarily on the development of the
TradeRoute(TM) and PLUS(1)(R) for Windows software products. During fiscal 1997
and fiscal 1996 the Company's technical resources were focused on software
customization projects in the Agribusiness Industry. Management expects the
Company's technical resources to shift focus from research and development to
software customization in fiscal 1999 as a result of significant customization
contracts in the Equipment Industry, although the mix may fluctuate quarter to
quarter based on customer requirements. See "Forward Looking Statements".
Depreciation and amortization expenses decreased in fiscal 1997 as the Company's
DOS-based products became fully amortized and increased in fiscal 1998 as
TradeRoute(TM) and PLUS(1)(R) for Windows were released and amortization expense
was recognized for the first time.
Capitalized expenses represented 70% of research and development in fiscal 1998,
compared to 61% and 65% in fiscal 1997 and fiscal 1996, respectively.
Capitalized expenses increased, as a percentage of research and development, due
to the shift of technical staff to capitalized development of TradeRoute(TM) and
PLUS(1)(R) for Windows.
OTHER ITEMS
Interest expense decreased $98,000 or 44% in fiscal 1998 and $63,000 or 22% in
fiscal 1997, compared to the prior year. The decreases in interest expense were
a result of the conversion of portions of the Company's lines of credit with
shareholders into shares of the Company's stock. See "Liquidity and Capital
Resources". Interest expense will fluctuate depending on the use and timing of
financing through lines of credit and/or additional equity financing.
Net loss decreased $1,135,000 or 35% in fiscal 1998 and $931,000 or 22% in
fiscal 1997, compared to the prior year. The fourth quarter of fiscal 1998 was
the Company's first profitable quarter. However, management believes that the
Company will not achieve sustainable profitability until the fourth quarter of
fiscal 1999. See "Forward Looking Statements".
LIQUIDITY AND CAPITAL RESOURCES
The following table sets forth, for the periods indicated, certain cash flow
information derived from the Company's financial statements.
YEAR ENDED JULY 31,
(DOLLARS IN THOUSANDS)
------------------------------------------------------------------------
PERCENT PERCENT
1998 1997 CHANGE 1997 1996 CHANGE
---------- ------- --------- ------- -------- -----------
Net cash provided by (used in) operating
activities before changes in working capital $ 2 $(1,553) 100 % $(1,553) $(2,406) 35 %
Net cash used in investing activities - (1,601) (1,234) (30)% (1,234) (1,241) 1 %
------- ------- ------- -------
Subtotal (1,599) (2,787) 43 % (2,787) (3,647) 24 %
Effect of net changes in working capital (702) (202) (248)% (202) (112) (80)%
------- ------- ------- -------
Net cash used in operating and
investing activities $(2,301) $(2,989) 23 % $(2,989) $(3,759) 20 %
======= ======= ======= =======
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Net cash used in operating activities before changes in working capital
decreased in fiscal 1998 and fiscal 1997, compared to the prior year, due to
increased revenues and tight cost controls. The Company achieved positive cash
flow from operations before changes in working capital in the fourth quarter of
fiscal 1998 and management believes that this will continue in fiscal 1999. Net
cash used in investing activities increased in fiscal 1998 due to the
development of TradeRoute(TM) and PLUS(1)(R) for Windows. The effect of net
changes in working capital is dependent on the timing of payroll and other cash
disbursements and may vary significantly from year to year.
The Company expects to continue to incur operating losses in fiscal 1999,
although management expects to attain full, sustainable profitability in the
fourth quarter of fiscal 1999. The Company expects to fund research and
development costs with excess cash from operations and the WITECH and Briggs
lines of credit described below. See "Forward Looking Statements".
At July 31, 1998, the Company had cash of approximately $194,000 compared to
approximately $64,000 at July 31, 1997. During fiscal 1998, the Company raised
$1,496,000, net of expenses, from the sale of common stock. The proceeds were
used to fund operations and retire portions of the outstanding revolving credit
lines.
The Company has a line of credit with WITECH (the "WITECH Line") that has been
in place since October 4, 1993. The aggregate amount currently available under
the WITECH Line is $2,800,000 and the interest rate is prime plus 2%. On
November 17, 1997, the Company repaid $950,000 of the WITECH Line from the
proceeds of the sale of shares of the Company's common stock. On May 27, 1998,
the WITECH Line was amended, increasing the line from $1,200,000 to $2,000,000
and extending the term from December 31, 1998 to December 31, 2001. On September
14, 1998, WITECH agreed to increase the line from $2,000,000 to the current
$2,800,000. Any borrowings in excess of $2,000,000 under the WITECH Line shall
be repaid with the proceeds of any common stock offerings for cash by the
Company. In conjunction with obtaining the WITECH Line, since 1993, the Company
has issued to WITECH 250 shares of its non-voting preferred stock and total
warrants for the purchase of up to 250,000 shares of its common stock, including
warrants for the purchase of 200,000 shares at $4.00 per share and warrants for
a maximum of 50,000 shares at an exercise price of $2.8125. The exercise price
is reduced if the Company issues stock at less than the then current exercise
price. As of September 30, 1998, there were $1,980,000 of borrowings outstanding
under the WITECH Line.
The only financial covenant in the WITECH Line is that the Company must maintain
a net worth (calculated in accordance with generally accepted accounting
principles) of at least $5.3 million. The Company has been, and is currently, in
compliance with the financial covenant in the Agreement and currently expects to
comply with such covenant or obtain any required waivers or raise additional
equity, if necessary. See "Forward Looking Statements".
As part of its acquisition of the POWERCOM-2000 business from Briggs & Stratton
Corporation ("Briggs") in September, 1998, Briggs agreed to provide the Company
with a working capital line of credit in the amount of $250,000 (the "Briggs
Line"). The Company has agreed to exhaust all available credit under the WITECH
Line before borrowing any amounts under the Briggs Line. The Briggs Line bears
interest at prime plus 2% and is secured by a first position lien against all
accounts receivable generated from customers of POWERCOM-2000 that were assigned
to the Company as part of the acquisition. Borrowings under the Briggs Line (if
any) must be repaid with the proceeds of equity offerings (if any) in excess of
$800,000 plus accrued interest on the WITECH Line.
Management believes that the financing from the WITECH Line and the Briggs Line
will be sufficient to fund operations in fiscal 1999. On a long-term basis,
management believes operations as well as capital expenditures, will come
principally from cash generated from operations. See "Forward Looking
Statement". The Company currently intends to raise additional financing during
fiscal 1999 in order to fund the Company's acquisition program (see
"Acquisition" under Item 1 above) and to repay the Briggs Line and a portion of
the WITECH Line. The Company has not yet determined the terms of such financing
but such financing would likely include the sale of common stock and/or debt
securities.
YEAR 2000
The year 2000 issue is the result of computer programs being written using two
digits rather than four to define the applicable year. Any of the Company's
computer programs or hardware that have date-sensitive software or
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embedded chips may recognize a date using "00" as the year 1900 rather than the
year 2000. This could result in a system failure or miscalculation causing
disruptions of operations, including, among other things, a temporary inability
to process transactions, send invoices, or engage in similar normal business
activities.
The Company has developed and is implementing a comprehensive year 2000 program
to assess its software and equipment and to develop and implement plans to
remediate any year 2000 issues that are uncovered. This program includes five
phases: Enterprise Planning, Assessment, Inventory, Compliance Development and
Post-Implementation. Oversight of the program is the responsibility of the Vice
President of Technology with progress reported to the other members of the
Company's executive team.
The Enterprise Planning phase was completed in May, 1997, the Assessment Phase
was completed in August, 1997, the Inventory Phase was completed in April, 1998.
The Compliance Development phase is targeted for completion by September, 1999.
This phase includes remediation of all non-compliant components and system
testing of all ARI supported components.
Affected software includes software used by the Company for its own internal
operations and software that the Company has developed for its customers.
Affected operating equipment includes the Company's computers and other office
equipment and infrastructure systems such as HVAC, electric supply and
telecommunications equipment and services and similar equipment and services of
the Company's suppliers and customers.
The year 2000 program includes plans to either sunset or bring into compliance
26 different computing platforms, 19 ARI products, and 78 vendor software
products. The Company currently anticipates that any problems resulting from
non-compliant products will be addressed through a combination of product
modifications as part of planned product enhancements and migration of customers
to functionally similar products which are year 2000 compliant.
Surveys have been sent to all material suppliers. Alternatives will be
identified for any products or services that will not be compliant by December
31, 1999. As of the date hereof, the Company is not aware of any suppliers with
year 2000 issues that would have a material impact on the Company's results of
operations or financial condition. However, the Company has no means of ensuring
that suppliers actually will be year 2000 compliant by January 1, 2000.
The Company is not aware of any customer with year 2000 issues that will have an
impact on the Company's results of operations or financial condition. However,
the Company has no means of ensuring that customers actually will be year 2000
compliant by January 1, 2000. There is a risk that customers may become
increasingly resource constrained by year 2000 issues and will, therefore, have
less resources available for purchasing the Company's products and services or
implementing the Company's products once purchased. This could have a material
adverse effect on the Company's sales. It is also possible that some of the
Company's customers will fail to remediate their own internal year 2000 issues
and that such failure will adversely affect the customer and its ability to use
and/or pay for the Company's products and services. See "Forward Looking
Statement".
The Company is using both internal and external resources to reprogram or
replace, test and implement the software and operating equipment for year 2000
modifications. Management estimates that the total cost of the year 2000 program
will be approximately $450,000. Included in this estimate is approximately
$100,000 which management has estimated will be added to its year 2000 program
costs because of its recent acquisition of POWERCOM-2000. This is a preliminary
estimate based upon a comparison of the systems and software operated and sold
by the Company compared to the systems operated and sold by POWERCOM-2000.
Management expects to update this estimate by February 1, 1999 when a more
formal review has been completed. These costs are being funded with cash from
operations and with the WITECH Line and the Briggs Line. See "Liquidity and
Capital Resources". To date, the Company has incurred approximately $137,500
relating to all phases of the year 2000 program.
The Company's plans to complete the year 2000 modifications are based on
management's best estimates, which were derived utilizing numerous assumptions
of future events including the continued availability of certain resources, and
other factors. Estimates on the status of completion and the expected completion
dates are based on costs incurred to date compared to total expected costs.
However, there can be no guarantee that these estimates will be achieved and
actual results could differ materially from those plans. Specific factors that
might
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cause such material differences include, but are not limited to, the
availability and cost of personnel trained in this area, the ability to locate
and correct all relevant computer codes, and similar uncertainties.
FORWARD LOOKING STATEMENTS
Certain statements contained in Management's Discussion and Analysis of Results
of Operations and Financial Condition are forward looking statements. Several
important factors can cause actual results to materially differ from those
stated or implied in the forward looking statements. Such factors include, but
are not limited to the growth rate of the Company's selected market segments,
the positioning of the Company's products in those segments, variations in
demand for and cost of customer services and technical support, customer
adoption of Internet-enabled Windows(R) applications and their willingness to
upgrade from DOS versions of software, the Company's ability to release new
software applications and upgrades on a timely basis, the Company's ability to
establish and maintain strategic alliances, the Company's ability to manage its
costs, the Company's ability to manage its business in a rapidly changing
environment, the Company's ability to finance capital investments, and the
Company's ability to implement its acquisition strategy to increase growth.
Projected revenues and, therefore, profitability and cash flows are difficult to
estimate because the Company's revenues and operating results may vary
substantially from quarter to quarter. The primary cause of the variation is
attributed to non-recurring revenues from software license and customization
fees. License fee revenues are based on contracts signed and product delivered.
Non-recurring revenues are affected by the time required to close large license
fee and development agreements, which cannot be predicted with any certainty due
to customer requirements and decision-making processes.
Recurring revenues are also difficult to estimate. Recurring revenues from
maintenance and subscription fees may be estimated based on the number of
subscribers to the Company's services but will be affected by the renewal ratio,
which cannot be determined in advance. Recurring revenues from network traffic
fees and transaction fees are difficult to estimate as they are determined by
usage. Usage is a function of the number of subscribers and the number of
transactions per subscriber. Transactions include product ordering, warranty
claim processing, inventory and sales reporting, parts number updates and price
updates. The Company cannot materially affect or predict the volume of
transactions per customer.
Although the Company has recently introduced and plans to expand its
Internet-enabled Windows portfolio of products, the marketplace is highly
competitive and there can be no assurance that a customer will select the
Company's software and services over that of a competitor. The environment in
which the Company competes is characterized by rapid technological changes,
dynamic customer demands, and frequent product enhancements and product
introductions. Some of the Company's current and potential competitors have
greater financial, technical, sales, marketing and advertising resources than
the Company. The widespread acceptance of the Internet may increase the usage of
the Company's product applications and may change the manner in which the
Company charges for its services.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is subject to market risks pertaining to interest rate movements and
collectibility of accounts receivable. The Company's only long-term debt subject
to interest rate risk is its lines of credit with WITECH and Briggs. See
"Liquidity and Capital Resources". Such long-term debt bears interest tied to
prevailing market rates. An increase or decrease of one percent in the prime
interest rate would affect the Company's pre-tax earnings by approximately plus
or minus $19,800, annualized, based on the outstanding borrowings under these
lines of credit at July 31, 1998. As a result, the Company believes that the
market risk relating to interest rate movements is minimal.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Company's Financial Statements and related notes for the fiscal years ended
July 31, 1998, 1997 and 1996 together with the report thereon of the Company's
independent auditors, Ernst & Young LLP, are attached hereto as Exhibit A-1.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURES
None
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PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY
Information regarding the directors of the Company is included in the
Company's definitive 1998 Annual Meeting Proxy Statement, and is incorporated
herein by reference. See "Election of Directors". Information with respect to
the Company's executive officers is shown at the end of Part I of this Form
10-K.
ITEM 11. EXECUTIVE COMPENSATION
Information regarding Executive Compensation, Employment Agreements,
Compensation of Directors, Employee Stock Options and other compensation plans
is included in the Company's definitive 1998 Annual Meeting Proxy Statement, and
is incorporated herein by reference. See "Executive Compensation".
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information regarding beneficial ownership of the Company's common
stock is included in the Company's definitive 1998 Annual Meeting Proxy
Statement and is incorporated herein by reference. See "Security Ownership of
Certain Beneficial Owners".
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information related to Certain Relationships and Related Transactions
is included in the Company's definitive 1998 Annual Meeting Proxy Statement, and
is incorporated herein by reference. See "Certain Transactions".
PART IV
ITEM 14. FINANCIAL STATEMENTS, FINANCIAL STATEMENT SCHEDULES, EXHIBITS AND
REPORTS ON FORM 8-K
(a)1.
FINANCIAL STATEMENTS
Report of independent auditors on Financial Statements and Financial Statement
Schedule.
Balance sheets - July 31, 1998 and 1997.
Statements of operations for each of the three years in the period ended July
31, 1998.
Statements of shareholders' equity for each of the three years in the period
ended July 31, 1998.
Statements of cash flows for each of the three years in the period ended July
31, 1998.
Notes to financial statements - July 31, 1998.
The Financial Statements are located immediately following the signature pages.
(a)2.
FINANCIAL STATEMENT SCHEDULES
Schedule II
Valuation and qualifying accounts for the years ended July 31, 1998, 1997, and
1996.
The Financial Statement Schedule is located immediately following the Financial
Statements. All other schedules to which provision is made in the applicable
accounting regulation of the Securities and Exchange Commission are not required
under the related instructions or are inapplicable, and therefore have been
omitted.
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(a)3.
EXHIBITS:
See (c) below.
(b) REPORTS ON FORM 8-K:
On May 21, 1998 the Company filed a Form 8-K (dated May 21, 1998) with respect
to Item 5 of Form 8-K.
(c)
EXHIBITS:
EXHIBIT
NUMBER
DESCRIPTION
2.1
Asset Purchase Agreement dated September 25, 1997, among the Company, Empart
Technologies, Inc. and Michael S. Jarrett, incorporated herein by reference to
Exhibit 2.1 of the Company's Report on Form 8-K filed October 10, 1997.
2.2
Asset Purchase Agreement dated September 15, 1998 between the Company and Briggs
& Stratton Corporation, incorporated herein by reference to Exhibit 2.1 of the
Company's current Report on Form 8-K filed September 25, 1998. The Company
agrees to furnish supplementally to the Commission upon request the Schedules
and Exhibits to the Asset Purchase Agreement listed on the Table of Contents of
the Asset Purchase Agreement.
2.3
Registration Rights Agreement dated September 15, 1998 between the Company and
Briggs & Stratton Corporation, incorporated herein by reference to Exhibit 2.2
of the Company's Current Report on Form 8-K filed September 25,1998.
3.1
Articles of Incorporation of the Company, as amended, incorporated herein by
reference to Exhibit 10.2 of the Company's Quarterly Report on Form 10-Q for the
fiscal quarter ended April 30, 1998.
3.2
By-laws of the Company incorporated herein by reference to Exhibit 3.1 of
the Company's Registration Statement on Form S-1 (Reg. No. 33-43148).
10.1*
1991 Stock Option Plan, as amended, incorporated by reference to Exhibit 10.4 of
the Company's Form 10-Q for the quarter ended October 31, 1996.
10.2*
1993 Director Stock Option Plan, as amended, incorporated herein by reference to
Exhibit 10.3 of the Company's Form 10-Q for the quarter ended October 31, 1996.
10.3
Loan Agreement by and between the Company and WITECH Corporation dated October
4, 1993, incorporated herein by reference to Exhibit 10.10 of the Company's Form
10-K for the fiscal year ended July 31, 1993.
10.4
Amendment to Loan Agreement dated May 19, 1994 between the Company and WITECH
Corporation, incorporated herein by reference to Exhibit 10.22 of the Company's
Registration Statement on Form S-3 (Reg. No. 33-75760).
17
18
10.5
Amendment No. 2 to Loan Agreement dated July 28, 1994 between the Company and
WITECH Corporation, incorporated herein by reference to Exhibit 10.22 of the
Company's Registration Statement on Form S-1 (Reg. No. 33-80914).
10.6
Consent and Amendment No. 3 to Loan Agreement dated December 2, 1994 between the
Company and WITECH Corporation, incorporated herein by reference to Exhibit 10.1
of the Company's Form 10-Q for the quarter ended October 31, 1994.
10.7
Amendment No. 4 to Loan Agreement dated October 18, 1995 between the Company and
WITECH Corporation, incorporated herein by reference to Exhibit 10.14 of the
Company's Form 10-K for the fiscal year ended July 31, 1995.
10.8
Amendment No. 5 to Loan Agreement dated December 20, 1995 between the Company
and WITECH Corporation, incorporated herein by reference to Exhibit 10.31 of the
Company's Form 10-K for the fiscal year ended July 31, 1996.
10.9
Amendment No. 6 to Loan Agreement dated January 23, 1996, between the Company
and WITECH Corporation, incorporated herein by reference to Exhibit 10.32 of the
Company's Form 10-K for the fiscal year ended July 31, 1996.
10.10
Amendment No. 7 to Loan Agreement dated April 20, 1996 between the Company and
WITECH Corporation, incorporated herein by reference to Exhibit 10.1 of the
Company's Form 10-Q for the quarter ended April 30, 1996.
10.11
Amendment No. 8 to Loan Agreement dated May 31, 1996 between the Company and
WITECH Corporation, incorporated herein by reference to Exhibit 10.2 of the
Company's Form 10-Q for the quarter ended April 30, 1996.
10.12
Amendment No. 9 to Loan Agreement dated November 5, 1996, between the Company
and WITECH Corporation, including Forms of Amended and Restated Commitment
Warrant and Usage Warrant, incorporated herein by reference to Exhibit 10.1 of
the Company's Form 10-Q for the quarter ended October 31, 1996.
10.13
Amendment No. 10 to Loan Agreement dated May 30, 1997, between the Company and
WITECH Corporation, incorporated herein by reference to Exhibit 10.1 of the
Company's Form 10-Q for the quarter ended April 30, 1997.
10.14
Amendment No. 11 to Loan Agreement dated January 21, 1998 between the Company
and WITECH Corporation, incorporated herein by reference to Exhibit 10.1 of the
Company's Form 10-Q for the fiscal quarter ended April 30, 1998.
10.15
Amendment No. 12 to Loan Agreement dated May 27, 1998 between the Company and
WITECH Corporation incorporated herein by reference to Exhibit 10.1 of the
Company's Form 10-Q for the fiscal quarter ended April 30, 1998.
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19
10.16
Amendment No. 13 to Loan Agreement dated September 14, 1998 between the Company
and WITECH Corporation.
10.17
Warrant dated July 15, 1994 issued by the Company to QUAESTUS L.P., incorporated
herein by reference to Exhibit 10.19 of the Company's Form 10-K for the fiscal
year ended July 31, 1994.
10.18
Warrant dated July 15, 1994 issued by the Company to Richard W. Weening,
incorporated herein by reference to Exhibit 10.20 of the Company's Form 10-K for
the fiscal year ended July 31, 1994.
10.19
Purchase Agreement, dated May 19, 1994 between the Company and Vulcan Ventures
Incorporated, incorporated herein by reference to Exhibit 10.21 of the Company's
Registration Statement on Form S-3.
10.20
Purchase Agreement dated December 22, 1994 between the Company and Vulcan
Ventures Incorporated, incorporated herein by reference to Exhibit 10.3 of the
Company's Form 10-Q for the quarter ended January 31, 1995.
10.21*
Employment letter dated October 20, 1995 from the Company to Brian Dearing,
incorporated herein by reference to Exhibit 10.35 of the Company's Form 10-K for
the fiscal year ended July 31, 1996.
10.22
Preferred Stock Purchase Agreement dated July 15, 1997, between the Company and
WITECH Corporation, incorporated herein by reference to Exhibit 10.1 of the
Company's Registration Statement on Form S-2 (Reg. No. 333-31295) filed on July
15, 1997.
10.23
Agreement dated February 11, 1998 between the Company, Richard W. Weening and
QUAESTUS Management Corporation, incorporated herein by reference to Exhibit
10.3 of the Company's Form 10-Q for the fiscal quarter ended April 30, 1998.
10.24
Revolving Credit Agreement dated September 15, 1998 between the Company and
Briggs & Stratton Corporation, incorporated herein by reference to Exhibit 2.3
of the Company's Current Report on Form 8-K filed September 25, 1998.
11.1
Computation of per share loss.
23.1
Consent of Ernst & Young LLP.
24.1
Powers of Attorney appear on the signature page hereof.
27.1
Financial Data Schedule
* Management Contract or Compensatory Plan.
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SIGNATURES
Pursuant to the requirements of Section 13 or 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, in the City of
Milwaukee, State of Wisconsin on this 26th day of October, 1998.
ARI NETWORK SERVICES, INC.
By: ----------------------------
Brian E. Dearing
Chairman, President, CEO & Acting CFO,
& Acting CAO
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature
appears below constitutes and appoints Brian E. Dearing and Mark L. Koczela and
each of them, his true and lawful attorney-in-fact and agent with full power of
substitution and resubstitution, for him and his name, place and stead, in any
and all capacities, to sign any and all amendments to this report and to file
the same with all exhibits thereto, and other documents in connection therewith,
with the Commission, granting unto said attorney-in-fact and agent full power
and authority to do and perform each act and thing requisite and necessary to be
done, as fully to all intents and purposes as he might or could do in person,
hereby ratifying and confirming all that said attorney-in-fact and agent, or his
substitute or substitutes, may lawfully do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed by the following persons in the capacities and on
the dates indicated.
SIGNATURE TITLE DATE
- --------------------------------- Chairman, President & CEO & Director , 1998
Brian E. Dearing & Acting CFO & Acting CAO ---------------
(Principal Executive Officer)
- --------------------------------- Director , 1998
William H. Alverson ---------------
- -------------------------------- Director , 1998
Gordon J. Bridge ---------------
- ------------------------------- Director , 1998
Francis Brzezinski ---------------
- ------------------------------- Director , 1998
George D. Dalton ---------------
- ------------------------------- Director , 1998
Eric P. Robison ---------------
- ------------------------------- Director , 1998
Richard W. Weening ---------------
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SIGNATURES
Pursuant to the requirements of Section 13 or 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, in the City of
Milwaukee, State of Wisconsin on this 26th day of October, 1998.
ARI NETWORK SERVICES, INC.
By: /s/ Brian E. Dearing
-----------------------------------
Brian E. Dearing,
Chairman, President & CEO & Acting CFO,
& Acting CAO
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature
appears below constitutes and appoints Brian E. Dearing and Mark L. Koczela and
each of them, his true and lawful attorney-in-fact and agent with full power of
substitution and resubstitution, for him and his name, place and stead, in any
and all capacities, to sign any and all amendments to this report and to file
the same with all exhibits thereto, and other documents in connection therewith,
with the Commission, granting unto said attorney-in-fact and agent full power
and authority to do and perform each act and thing requisite and necessary to be
done, as fully to all intents and purposes as he might or could do in person,
hereby ratifying and confirming all that said attorney-in-fact and agent, or his
substitute or substitutes, may lawfully do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed by the following persons in the capacities and on
the dates indicated.
SIGNATURE TITLE DATE
/s/ Brian E. Dearing Chairman, President, CEO & Director October __, 1998
- ---------------------------- Acting CFO & Acting CAO
Brian E. Dearing (Principal Executive Officer)
/s/ William H. Alverson Director October __, 1998
- ----------------------------
William H. Alverson
/s/ Gordon J. Bridge Director October __, 1998
- ----------------------------
Gordon J. Bridge
/s/ Francis Brzezinski Director October __, 1998
- ----------------------------
Francis Brzezinski
/s/ George D. Dalton Director October __, 1998
- ----------------------------
George D. Dalton
/s/ Eric P. Robison Director October __, 1998
- ----------------------------
Eric P. Robison
/s/ Richard W. Weening Director October __, 1998
- ----------------------------
Richard W. Weening
21
22
Report of Ernst & Young LLP, Independent Auditors
To the Board of Directors and Shareholders
ARI Network Services, Inc.
We have audited the accompanying balance sheets of ARI Network Services, Inc.
(the Company) as of July 31, 1998 and 1997, and the related statements of
operations, shareholders' equity and cash flows for each of the three years in
the period ended July 31, 1998. Our audits also included the financial statement
schedule listed in the Index at Item 14(a). These financial statements and
schedule are the responsibility of the Company's management. Our responsibility
is to express an opinion on these financial statements and schedule based on our
audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of the Company at July 31, 1998
and 1997, and the results of its operations and its cash flows for each of the
three years in the period ended July 31, 1998, in conformity with generally
accepted accounting principles. Also, in our opinion, the related financial
statement schedule, when considered in relation to the basic financial
statements taken as a whole, presents fairly, in all material respects, the
information set forth therein.
ERNST & YOUNG LLP
Milwaukee, Wisconsin
September 4, 1998,
except for Notes 2 and 9 as to
which the date is September 14, 1998
and September 15, 1998, respectively
1
23
ARI Network Services, Inc.
Balance Sheets
(Dollars in thousands, except share and per share data)
JULY 31
1998 1997
-----------------
ASSETS (NOTE 2)
Current assets:
Cash $ 194 $ 64
Trade receivables, less allowance for doubtful accounts of
$185 in 1998 and $132 in 1997 2,643 1,549
Prepaid expenses and other 118 159
------- -------
Total current assets 2,955 1,772
Equipment and leasehold improvements:
Network system hardware 3,778 3,579
Leasehold improvements 239 239
Furniture and equipment 485 374
------- -------
4,502 4,192
Less accumulated depreciation and amortization 4,107 3,877
------- -------
Net equipment and leasehold improvements 395 315
Other assets 336 372
Network system:
Network platform 11,467 11,467
Industry-specific applications 19,906 17,925
------- -------
31,373 29,392
Less accumulated amortization 22,251 20,435
------- -------
9,122 8,957
------- -------
$12,808 $11,416
======= =======
2
24
JULY 31
1998 1997
---------------------
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Line of credit payable to shareholder $ -- $ 500
Notes payable 28 46
Accounts payable 581 650
Unearned income 776 543
Accrued payroll and related liabilities 620 493
Other accrued liabilities 158 165
Current portion of capital lease obligations 30 64
-------- --------
Total current liabilities 2,193 2,461
Line of credit payable to shareholder 1,620 --
Capital lease obligations 33 8
Commitments (Note 3)
Shareholders' equity:
Cumulative preferred stock, par value $.001 per share,
1,000,000 shares authorized; 20,000 shares issued and -- --
outstanding
Common stock, par value $.001 per share, 25,000,000 shares authorized;
4,247,460 and 3,691,754 shares issued and outstanding in 1998 and
1997, respectively 4 4
Additional paid-in capital 85,028 82,873
Accumulated deficit (76,070) (73,930)
-------- --------
Total shareholders' equity 8,962 8,947
-------- --------
$ 12,808 $ 11,416
======== ========
See accompanying notes.
3
25
ARI Network Services, Inc.
Statements of Operations
(Dollars in thousands, except share and per share data)
YEAR ENDED JULY 31
1998 1997 1996
-----------------------------------
Net revenues:
Network and other services $ 5,811 $ 5,235 $ 4,484
Software and development 2,153 1,678 768
-------- -------- --------
7,964 6,913 5,252
Operating expenses:
Variable cost of products and services
sold (exclusive of depreciation and
amortization shown separately below):
Network and other services 1,327 1,035 925
Software and development 619 652 288
-------- -------- --------
1,946 1,687 1,213
Depreciation and amortization 2,142 1,722 1,800
Network operations 708 1,004 919
Selling, general and administrative 4,586 4,819 4,585
Network construction and expansion 2,198 1,897 1,897
-------- -------- --------
11,580 11,129 10,414
Less capitalized portion (1,546) (1,155) (1,230)
-------- -------- --------
Total operating expenses 10,034 9,974 9,184
-------- -------- --------
Operating loss (2,070) (3,061) (3,932)
Other income (expense):
Interest expense (125) (223) (286)
Interest income -- 3 6
Other, net 55 6 6
-------- -------- --------
(70) (214) (274)
-------- -------- --------
Net loss $ (2,140) $ (3,275) $ (4,206)
======== ======== ========
Net loss per share $ (.52) $ (.91) $ (1.35)
======== ======== ========
See accompanying notes.
4
26
ARI Network Services, Inc.
Statements of Shareholders' Equity
(In thousands, except per share data)
Number of Shares
Issued and Outstanding Par Value
-----------------------------------------------------------------------
Additional
Preferred Common Preferred Common Paid-in Accumulated
Stock Stock Stock Stock Capital Deficit
-----------------------------------------------------------------------
Balance July 31, 1995 -- 3,046,640 $-- $ 3 $ 74,970 $ (66,449)
Issuance of common stock (net of offering costs of $49) -- 183,823 -- -- 1,826 --
Exercise of stock options -- 2,695 -- -- 27 --
Issuance of common stock under stock purchase plan -- 1,119 -- -- 11 --
Net loss -- -- -- -- -- (4,206)
------ --------- --- --------- --------- ---------
Balance July 31, 1996 -- 3,234,277 -- 76,834 (70,655)
Issuance of common stock (net of offering costs of $11) -- 316,176 -- 1 2,785 --
Issuance of common stock in connection with acquisition
of cd\*. IMG, Inc. -- 29,412 -- -- 250 --
Issuance of common stock as payment of line of credit -- 111,111 -- -- 1,000 --
Issuance of common stock under stock purchase plan -- 778 -- -- 4 --
Issuance of preferred stock 20,000 -- -- -- 2,000 --
Net loss -- -- -- -- -- (3,275)
------ --------- --- --------- --------- ---------
Balance July 31, 1997 20,000 3,691,754 -- 4 82,873 (73,930)
Issuance of common stock (net of offering costs of $54) -- 387,500 -- -- 1,496 --
Issuance of common stock in connection with acquisition
of Empart Technologies, Inc. -- 163,523 -- -- 654 --
Issuance of common stock under stock purchase plan -- 4,683 -- -- 5 --
Net loss -- -- -- -- -- (2,140)
------ --------- --- --------- --------- ---------
Balance July 31, 1998 20,000 4,247,460 $-- $ 4 $ 85,028 $ (76,070)
====== ========= === ========= ========= =========
See accompanying notes.
5
27
ARI Network Services, Inc.
Statements of Cash Flows
(In Thousands)
YEAR ENDED JULY 31
1998 1997 1996
--------------------------------
OPERATING ACTIVITIES
Net loss $(2,140) $(3,275) $(4,206)
Adjustments to reconcile net loss to net cash used in
operating activities:
Amortization of network system 695 690 587
Amortization of industry specific applications 1,121 772 657
Depreciation and other amortization 326 260 556
Net change in receivables, prepaid expenses and other (714) (183) (206)
Net change in accounts payable, unearned income and
accrued liabilities 12 (19) 94
------- ------- -------
Net cash used in operating activities (700) (1,755) (2,518)
INVESTING ACTIVITIES
Purchase of equipment and leasehold improvements (55) (79) (11)
Industry specific applications costs capitalized (1,546) (1,155) (1,230)
------- ------- -------
Net cash used in investing activities (1,601) (1,234) (1,241)
FINANCING ACTIVITIES
Borrowings (repayments) under line of credit 1,120 (2,000) 2,100
Payments of capital lease obligations and notes payable (190) (109) (68)
Proceeds from issuance of preferred stock -- 2,000 --
Proceeds from issuance of common stock 1,501 2,790 1,863
------- ------- -------
Net cash provided by financing activities 2,431 2,681 3,895
------- ------- -------
Net increase (decrease) in cash 130 (308) 136
Cash at beginning of year 64 372 236
------- ------- -------
Cash at end of year $ 194 $ 64 $ 372
======= ======= =======
Cash paid for interest $ 129 $ 214 $ 286
======= ======= =======
NONCASH INVESTING AND FINANCING ACTIVITIES
Capital lease obligations incurred for -
Network system hardware $ 55 $ 28 $ 13
Issuance of common stock for acquisition of stock
of Empart Technologies, Inc. 654 -- --
Issuance of common stock for acquisition of stock
of cd\*.IMG, Inc. -- 250 --
Issuance of common stock as payment of line of
credit -- 1,000 --
See accompanying notes.
6
28
ARI Network Services, Inc.
Notes to Financial Statements
July 31, 1998
1. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES
DESCRIPTION OF BUSINESS
ARI Network Services, Inc. (the Company) operates in one business segment and
provides standards-based Internet enabled electronic commerce services to
companies in selected industry sectors and distribution channels. These services
use telecommunications technology and software to help customers conduct
business electronically, computer-to-computer, with minimal changes to their
internal business systems. Currently, the Company provides electronic commerce
services to four industry sectors: the U.S. and Canadian agribusiness industry,
the U.S., Canadian and European equipment industry, the U.S. and Canadian
freight transportation industry, and the U.S. newspaper publishing industry. The
Company's services include: telecommunication networking, incompatible computer
systems connectivity, electronic mail messaging, electronic data interchange
translation, electronic catalog creation and viewing, participant directories
and databases, information exchange and retrieval, and a variety of customer
specified electronic commerce and transaction processing applications. The
Company also provides end user applications related to the electronic commerce
services and a range of professional services, including consulting, customer
application development, installation, product customization, education and
support. The Company's electronic commerce services may be broadly categorized
as either transaction management or data management services. The Company's
customers are located primarily in the United States and Canada.
REVENUE RECOGNITION
Revenue for use of the network and for information services is recognized in the
period such services are utilized.
The Company recognizes revenue from the license of software packages upon
delivery of the software to the customer. When significant obligations remain
after the software product has been delivered, revenue is not recognized until
such obligations have been completed or are no longer significant. The costs of
any insignificant obligations are accrued when the revenue is recognized.
7
29
ARI Network Services, Inc.
Notes to Financial Statements (continued)
1. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Revenue from startup fees is recognized in the period such fees become due if
the fees are not subject to refund or adjustment and when collection is probable
and the Company has no significant remaining obligation.
Revenue from annual or periodic maintenance fees is recognized over the period
the maintenance is provided.
USE OF ESTIMATES
The preparation of the Company's financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the amounts reported in the financial statements and
accompanying notes. Actual results could differ from those estimates.
EQUIPMENT AND LEASEHOLD IMPROVEMENTS
Equipment and leasehold improvements are stated at cost. Depreciation and
amortization are computed under the straight-line method for financial reporting
purposes and under accelerated methods for income tax purposes. Depreciation and
amortization have been provided over the estimated useful lives of the assets as
follows:
Years
---------
Network system hardware 2 - 10
Leasehold improvements 10
Furniture and equipment 2 - 5
NETWORK CONSTRUCTION AND EXPANSION AND SOFTWARE DEVELOPMENT
The Company has developed a basic network and telecommunications platform which
is the foundation of its network. The platform can be used on different hardware
and is not subject to the frequency of technological changes that sometimes
occur with hardware or industry-specific applications.
The Company also develops and purchases industry-specific software applications
for personal computers and mainframes which, when utilized with the platform,
give rise to the Company's products and services tailored to its targeted
industries.
8
30
ARI Network Services, Inc.
Notes to Financial Statements (continued)
1. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Certain software development costs and network construction and expansion costs
are capitalized when incurred. Capitalization of these costs begins upon the
establishment of technological feasibility. The establishment of technological
feasibility and the ongoing assessment of recoverability of software and network
system costs requires considerable judgment by management with respect to
certain external factors, including, but not limited to, technological
feasibility, anticipated future gross revenues, estimated economic life and
changes in software and hardware technologies.
The annual amortization of the platform and the industry-specific software
applications is the greater of the amount computed using (a) the ratio that
current gross revenues for the network or an industry-specific product bear to
the total of current and anticipated future gross revenues for the network or an
industry-specific product or (b) the straight-line method over the estimated
economic life of the product (20 years - platform, 5 years - industry-specific
software applications). Amortization starts when the product is available for
general release to customers.
All other network construction and expansion expenditures are charged to expense
in the period incurred.
CAPITALIZED INTEREST COSTS
In 1998, 1997 and 1996, interest costs of $40,000, $35,000, and $41,000,
respectively, were capitalized and included in the network system.
NET LOSS PER SHARE
In February 1997, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 128, "Earnings per
Share." SFAS No. 128 replaced the calculation of primary and fully diluted
earnings per share with basic and diluted earnings per share. Unlike primary
earnings per share, basic earnings per share excludes any dilutive effects of
options, warrants and convertible securities. Earnings per share amounts for all
periods have been presented and, where appropriate, restated to conform to SFAS
No. 128 requirements. The basic and dilutive weighted-average shares used in the
per share calculation are 4,119,000, 3,611,000 and 3,114,000, respectively, in
1998, 1997 and 1996. Dilutive earnings per share is not shown as the impact is
antidilutive.
9
31
ARI Network Services, Inc.
Notes to Financial Statements (continued)
1. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
SHAREHOLDERS' EQUITY
On November 19, 1997, the Board of Directors of the Company declared a
one-for-four reverse stock split on the Company's common stock, to shareholders
of record on November 19, 1997. Shareholders' equity, share and per share data
appearing in the financial statements and notes thereto have been adjusted for
the reverse stock split.
PENDING ACCOUNTING STANDARDS
In October 1997, the American Institute of Certified Public Accountants issued
Statement of Position (SOP) 97-2, "Software Revenue Recognition," which changes
the requirements for revenue recognition effective for transactions that the
Company will enter into beginning August 1, 1998. The Company has not yet
assessed what the impact of the SOP will be on its fiscal 1999 financial
statements.
In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income,"
which establishes the standards for reporting and displaying comprehensive
income and its components (revenues, expenses, gains and losses) as part of a
full set of financial statements. This statement requires that all elements of
comprehensive income be reported in a financial statement that is displayed with
the same prominence as other financial statements. The statement is effective
for fiscal years beginning after December 15, 1997. Since this statement applies
only to the presentation of comprehensive income, it will not have any impact on
the Company's results of operations, financial position or cash flows.
2. REVOLVING LINES OF CREDIT
In December 1994, the Company entered into a $1,500,000 revolving line of credit
agreement with two shareholders. In December 1996, the Company issued 444,444
shares of common stock as payment of $1,000,000 of the revolving line of credit.
The remaining balance under the revolving line of credit was repaid and the line
of credit was terminated.
10
32
ARI Network Services, Inc.
Notes to Financial Statements (continued)
2. REVOLVING LINES OF CREDIT (CONTINUED)
The Company has a $2,000,000 revolving line of credit agreement with a
shareholder that expires on December 31, 2001. The Company is required to pay a
fee of .025% per month on the unused portion of the line of credit. Borrowings
under the line of credit bear interest at prime plus 2%. The line of credit
agreement is secured by substantially all assets of the Company. The agreement
contains various restrictive covenants including maintenance of a minimum level
of net worth and restrictions on additional indebtedness.
In connection with the origination of this line of credit agreement in fiscal
1994 and extensions of the agreement on October 18, 1995, November 5, 1996 and
May 27, 1998, the Company issued the shareholder warrants to purchase 62,500
shares of common stock at $4 per share, 62,500 shares of common stock at $4 per
share, 25,000 shares of common stock at $4 per share and 25,000 shares of common
stock at $2.81 per share, respectively, all of which approximated fair market
value. The warrants issued on October 18, 1995 and November 5, 1996 will lapse
on September 30, 2000, and the warrants issued on May 27, 1998 will lapse on
December 31, 2001, as to any shares of common stock not issued. In addition, on
November 5, 1996 and May 27, 1998, the Company issued a warrant that provides
the shareholder the right to purchase 6,250 shares of common stock at $4 per
share and 25,000 shares of common stock at $2.81 per share, respectively, for
each $250,000 of principal drawn under the line of credit in excess of
$1,000,000.
From May 30, 1997 through September 30, 1997, the line of credit provided a
bridge loan of $500,000 bearing interest at prime plus 2%.
On September 14, 1998, the revolving line of credit was increased to $2,800,000.
Any borrowings in excess of $2,000,000 are to be repaid with the proceeds of any
common stock offerings for cash by the Company.
3. CAPITAL AND OPERATING LEASES AND RELATED-PARTY TRANSACTIONS
The Company leases its office space under an operating lease arrangement
expiring in fiscal 2002. The Company is liable for its share of increases in the
landlord's direct operating expenses and real estate taxes up to 5% of the
previous year's rent. Total rental expense for the operating lease was $487,000
in 1998, $645,000 in 1997 and $946,000 in 1996.
11
33
ARI Network Services, Inc.
Notes to Financial Statements (continued)
3. CAPITAL AND OPERATING LEASES AND RELATED-PARTY TRANSACTIONS (CONTINUED)
Minimum lease payments under remaining capital and operating leases are as
follows (in thousands):
Fiscal year ending Capital Leases Operating Lease
- ------------------ --------------------------------------
1999 $ 43 $ 408
2000 20 408
2001 14 408
2002 14 408
2003 2 -
---- -------
Total minimum lease payments 93 $ 1,632
=======
Amounts representing interest 30
----
Present value of minimum capital
lease payments 63
Less amounts payable in one year 30
----
$ 33
====
The Company and Quaestus Limited Partnership (Quaestus), a shareholder, had an
agreement dated September 30, 1993, which was terminated October 31, 1997,
whereby Quaestus assisted the Company with investor relations, executive
recruiting, business and strategic planning and corporate finance matters.
During fiscal 1996, 1997 and 1998, the Company expensed $222,000, $176,000 and
$36,000, respectively, for services provided by Quaestus.
In September 1994, Quaestus was issued a warrant to purchase 62,500 shares of
common stock at $17 per share exercisable through December 1999.
4. SHAREHOLDERS' EQUITY
In July 1997, the Company issued 20,000 shares of Series A Preferred Stock for
$2,000,000 to a common shareholder. The shares are entitled to cumulative annual
dividends equal to the product of $100 and prime plus 2% payable quarterly, as
and when declared by the Board of Directors. Prior to August 1, 2002, dividends
payable may be paid, at the Company's option, in lieu of cash, in additional
shares of Series A Preferred Stock. The Company may redeem outstanding shares at
any time at the redemption price of $100 per share plus accrued and unpaid
dividends.
12
34
ARI Network Services, Inc.
Notes to Financial Statements (continued)
4. SHAREHOLDERS' EQUITY (CONTINUED)
In the event of liquidation or dissolution of the Company, the holders of shares
of Series A Preferred Stock shall be entitled to receive $100 per share plus
accrued and unpaid dividends before any distribution is made to the holders of
common stock. Accumulated dividends in arrears at July 31, 1998 are $218,000.
5. STOCK PLANS
The Company's 1991 Stock Option Plan (Stock Option Plan) has 850,000 shares of
common stock reserved for issuance. Options granted under the Stock Option Plan
may be either (a) options intended to qualify as incentive stock options under
Section 422 of the Internal Revenue Code of 1986, as amended, or (b)
nonqualified stock options.
Any incentive stock option that is granted under the Stock Option Plan may not
be granted at a price less than the fair market value of the stock on the date
of grant (or less than 110% of the fair market value in the case of holders of
10% or more of the voting stock of the Company). Nonqualified stock options may
be granted at the exercise price established by the Stock Option Committee,
which may be less than, equal to, or greater than the fair market value of the
stock on the date of grant.
Each option granted under the Stock Option Plan is exercisable for a period of
ten years from the date of grant (five years in the case of a holder of more
than 10% of the voting stock of the Company) or such shorter period as
determined by the Stock Option Committee and shall lapse upon the expiration of
said period, or earlier upon termination of the participant's employment with
the Company.
At its discretion, the Stock Option Committee may require a participant to be
employed by the Company for a designated number of years prior to exercising any
options. The Committee may also require a participant to meet certain
performance criteria, or that the Company meet certain targets or goals, prior
to exercising any options.
13
35
ARI Network Services, Inc.
Notes to Financial Statements (continued)
5. STOCK PLANS (CONTINUED)
Changes in option shares under the Stock Option Plan are as follows (adjusted
for the one-for-four reverse stock split):
1998 1997 1996
-------------------------------------
Options outstanding at beginning of year 350,685 261,214 171,274
Granted:
1998--$2.25 to $4.62 per share 229,499 -- --
1997--$7.00 to $12.00 per share -- 185,875 --
1996--$6.50 to $10.00 per share -- -- 121,400
Exercised:
1996--$10.00 per share -- -- (2,695)
Canceled or expired (51,469) (96,404) (28,765)
------- ------- -------
Options outstanding at end of year 528,715 350,685 261,214
======= ======= =======
Options exercisable at July 31 318,282 180,282 121,831
======= ======= =======
Options available for grant at July 31 280,635 108,665 73,136
======= ======= =======
The Company's 1992 Employee Stock Purchase Plan (Stock Purchase Plan) has 62,500
shares of common stock reserved for issuance. All employees of the Company,
other than executive officers, with six months of service are eligible to
participate. Shares may be purchased at the end of a specified period at the
lower of 85% of the market value at the beginning or end of the specified period
through accumulation of payroll deductions.
The Company's 1993 Director Stock Option Plan (Director Plan) has 150,000 shares
of common stock reserved for issuance to nonemployee directors. Options under
the Director Plan are granted at the fair market value of the stock on the date
immediately preceding the date of grant. Each option granted under the Director
Plan is exercisable
14
36
ARI Network Services, Inc.
Notes to Financial Statements (continued)
5. STOCK PLANS (CONTINUED)
one year after the date of grant and cannot expire later than ten years from the
date of grant. Changes in option shares under the Director Plan are as follows
(adjusted for the one-for-four reverse stock split):
1998 1997 1996
-----------------------------
Options outstanding at beginning of year 28,500 22,950 18,625
Granted:
1998--$1.78 to $2.50 per share 15,208 -- --
1997--$6.88 per share -- 5,550 --
1996--$8.00 and $11.50 per share -- -- 9,450
Expired (8,275) -- (5,125)
------- ------ ------
Options outstanding at end of year 35,433 28,500 22,950
======= ====== ======
Options exercisable at July 31 25,229 23,325 18,250
======= ====== ======
Options available for grant at July 31 114,567 46,500 7,050
======= ====== ======
Certain nonemployee directors have been granted stock options aggregating 52,500
shares of common stock at $4 to $17 per share.
The Company reports stock-based compensation expense under the intrinsic
value-based method under Accounting Principles Board Opinion No. 25, "Accounting
for Stock Issued to Employees." The pro forma effect of applying the fair
value-based method under SFAS No. 123, "Accounting for Stock-Based
Compensation," to the Company's stock options granted during the years ended
July 31, 1998 and 1997 would not result in net loss and net loss per share
materially different from the amounts reported.
6. INCOME TAXES
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and income tax purposes. Significant components of the Company's
deferred tax liabilities and assets as of July 31 are as follows (in thousands):
1998 1997
--------------------
Deferred tax assets:
Net operating loss carryforwards $ 31,598 $ 31,542
Other 503 372
-------- --------
Total deferred tax assets 32,101 31,914
Valuation allowance for deferred tax assets (28,525) (28,403)
-------- --------
Net deferred tax asset 3,576 3,511
Deferred tax liabilities -
Network system 3,576 3,511
-------- --------
Net deferred taxes $ -- $ --
======== ========
15
37
ARI Network Services, Inc.
Notes to Financial Statements (continued)
6. INCOME TAXES (CONTINUED)
As of July 31, 1998, the Company has unused net operating loss carryforwards for
income tax purposes of $31,393,000 expiring in 2007 through 2012.
In addition, the Company has unused net operating loss carryforwards for income
tax purposes of $15,592,000 expiring between 1999 and 2002, of which not more
than $444,000 annually can be utilized to offset taxable income. Also, the
Company has unused net operating loss carryforwards for income tax purposes of
$33,623,000 expiring between 2003 and 2007, of which not more than $3,655,000
annually can be utilized to offset taxable income. Use of the net operating loss
carryforwards is restricted under Section 382 of the Internal Revenue Code
because of changes in ownership in 1987 and 1992.
A reconciliation between income tax expense and income taxes computed by
applying the statutory federal income tax rate to net loss is as follows (in
thousands):
1998 1997 1996
------------------------------
Computed income taxes at 34% $ (728) $(1,114) $(1,430)
Other 7 7 5
Net operating loss carryforward 721 1,107 1,425
------- ------- -------
Income tax expense $ -- $ -- $ --
======= ======= =======
7. EMPLOYEE BENEFIT PLAN
The Company has a qualified retirement savings plan (the 401(k) Plan) covering
its employees. Each employee may elect to reduce his or her current compensation
by up to 15%, up to a maximum of $10,000 in calendar 1998 (subject to adjustment
in future years to reflect cost of living increases) and have the amount of the
reduction contributed to the 401(k) Plan. Company contributions to the 401(k)
Plan are at the discretion of the Board of Directors. The Company has not made
any contribution to the 401(k) Plan since its inception.
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ARI Network Services, Inc.
Notes to Financial Statements (continued)
8. MAJOR CUSTOMERS
Sales to one customer were 12% of net revenues during each of fiscal 1998, 1997
and 1996. Accounts receivable from this customer were approximately $176,000 and
$74,000 at July 31, 1998 and 1997, respectively. Sales to one other customer
were 11%, 10% and 12% of net revenues during fiscal 1998, 1997 and 1996,
respectively. Accounts receivable from this customer were approximately $290,000
and $52,000 at July 31, 1998 and 1997, respectively.
9. SUBSEQUENT EVENT
On September 15, 1998, the Company acquired certain assets used in the operation
of Briggs & Stratton Corporation's PowerCom-2000 business through the issuance
of 840,000 shares of its common stock at $2.125 per share and the assumption of
certain liabilities of the PowerCom-2000 business. Briggs & Stratton Corporation
received one "demand" (exercisable after September 15, 1999) and unlimited
"piggyback" registration rights with respect to its shares. Briggs & Stratton
Corporation also agreed to become a customer of the Company for EDI and
electronic cataloging, and the Company provided Briggs & Stratton Corporation
with a credit on its customer account of approximately $500,000 refundable to
Briggs & Stratton Corporation after two years to the extent of the then unused
credit balance. Briggs & Stratton Corporation also agreed to lend up to $250,000
to the Company through April 30, 1999 at prime plus 2%, secured by certain
accounts relating to the PowerCom business. The Company may draw on the line
only after it has exhausted the availability under its line of credit discussed
in Note 2. The acquisition will be accounted for as a purchase.
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Schedule II
ARI NETWORK SERVICES, INC.
VALUATION AND QUALIFYING ACCOUNTS
Years ended July 31, 1998, 1997 and 1996
(Dollars in Thousands)
BALANCE AT ADDITIONS
BEGINNING CHARGED TO BALANCE AT
DESCRIPTION OF YEAR EXPENSE DEDUCTIONS END OF YEAR
- --------------------------------------------------------------------------------------------------------------
Allowance for doubtful accounts-
accounts receivable:
1998 $ 132 $ 95 $ 421(A) $ 185
======= ======= ===== ======
1997 $ 83 $ 100 $ 51(A) $ 132
======= ======= ===== ======
1996 $ 122 $ 65 $ 104(A) $ 183
======= ======= ===== ======
(A) Uncollectible accounts written off, net of recoveries.