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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
---------------
FORM 10-K
ANNUAL REPORT
PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1999
Commission File Number 0-17521
PACIFIC MAGTRON INTERNATIONAL CORP.
(Exact name of Registrant as specified in its Charter)
Nevada 88-0353141
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1600 California Circle, Milpitas, California 95035
(Address of principal executive offices) Zip Code)
Registrant's telephone number, including area code (408) 956-8888
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
------------------- -----------------------------------------
N/A N/A
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. [ ]
At March 24, 2000 the aggregate market value of common stock held by
non-affiliates of the Registrant was approximately $5,500,000.
APPLICABLE ONLY TO REGISTRANTS INVOLVED IN BANKRUPTCY
PROCEEDINGS DURING THE PRECEDING FIVE YEARS:
Indicate by check mark whether the Registrant has filed all documents and
reports required to be filed by Section 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court. Yes [ ] No [ ] N/A
APPLICABLE ONLY TO CORPORATE REGISTRANTS
Indicate the number of shares outstanding of each of the Registrant's
classes of common stock, as of the latest practicable date.
At March 24, 2000 the number of shares of common stock outstanding
was 10,100,000.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant's Proxy Statement relating to the 2000 Annual
Meeting of Stockholders are incorporated by reference into Part III, Items 10,
11, 12 and 13.
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TABLE OF CONTENTS
Page
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PART I ...................................................................... 1
Item 1. BUSINESS........................................................ 1
Item 2. PROPERTIES...................................................... 12
Item 3. LEGAL PROCEEDINGS............................................... 13
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS............. 13
PART II ..................................................................... 14
Item 5. MARKET FOR THE COMPANY'S COMMON STOCK AND RELATED
STOCKHOLDER MATTERS............................................ 14
Item 6. SELECTED FINANCIAL DATA......................................... 14
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS............................ 15
Item 7a QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK...... 21
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA..................... 21
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURES........................... 21
PART III .................................................................... 21
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY................. 22
Item 11. EXECUTIVE COMPENSATION.......................................... 22
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT..................................................... 22
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.................. 22
PART IV ..................................................................... 23
Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON
FORM 8K........................................................ 23
SIGNATURES................................................................... 24
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PART I
ITEM 1. DESCRIPTION OF BUSINESS
SUMMARY OF OUR BUSINESS
Pacific Magtron International Corp., a Nevada corporation, is an
integrated solutions provider of computer related equipment and services. The
Company's primary business is the wholesale distribution of computer and related
hardware components and software for personal computers to value added
resellers, retailers, systems integrators, original equipment manufacturers,
independent hardware and software vendors, consultants, and contractors. In May
1998, the Company formed its Frontline Network Consulting division
("Frontline"), a corporate information systems group, with the goal of serving
the networking and personal computer requirements of corporate customers. In
January 1999 the Company formed Lea Publishing, LLC., a California limited
liability company ("Lea"), to develop, sell and license software designed to
provide Internet users, resellers and providers advanced solutions and
applications. The Company owns a 50% interest in Lea, which is in the
development stage.
As used in this document and unless otherwise indicated, the terms
"Company," "we," and "our" refer to Pacific Magtron International Corp. and its
operating divisions and subsidiaries.
INDUSTRY OVERVIEW
WHOLESALE MICRO COMPUTER PRODUCTS DISTRIBUTION
The microcomputer products distribution industry generally consists of
suppliers, wholesalers, resellers, and end-users. Wholesale distributors
typically sell only to resellers and purchase a wide range of products in bulk
directly from manufacturers. Different types of resellers are defined and
distinguished by the end-user market they serve, such as large corporate
accounts, small and medium-sized businesses or home users, and by the level of
value that they add to the basic products they sell.
INCREASED RELIANCE ON WHOLESALE MICRO COMPUTER PRODUCTS DISTRIBUTION
We believe that the growth of the microcomputer products wholesale
distribution industry exceeds that of the microcomputer industry as a whole. In
our view, suppliers, vendors, and resellers are relying to a greater extent on
wholesale distributors for their distribution needs. Suppliers are faced with
the pressures of declining product prices and the increasing costs of selling
directly to a large and diverse group of resellers, and they therefore are
increasingly relying upon wholesale distribution channels for a greater
proportion of their sales. Many suppliers outsource a growing portion of certain
functions, such as distribution, service, technical support, and final assembly,
to the wholesale distribution channel in order to minimize costs and focus on
their core capabilities in manufacturing, product development, and marketing.
Likewise, vendors are finding it more cost efficient to rely on wholesale
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distributors that can leverage distribution costs across multiple vendors, each
of whom outsources a portion of their distribution, credit, marketing, and
support services.
On the reseller side, growing product complexity, shorter product life
cycles, an increasing number of microcomputer products, the emergence of open
systems architectures, and the recognition of certain industry standards have
led resellers to depend upon wholesale distributors for more of their product,
marketing, and technical support needs. Due to the large number of vendors and
products, resellers often cannot or choose not to establish direct purchasing
relationships with suppliers. Instead, they rely on wholesale distributors that
can leverage purchasing costs across multiple resellers to satisfy a significant
portion of their product procurement and delivery, financing, marketing, and
technical support needs. Rather than stocking large inventories themselves and
maintaining credit lines to finance working capital needs, resellers are also
increasingly relying on wholesale distributors for product availability and
flexible financing alternatives.
OPEN SOURCING
Another apparent reason for the growth of the wholesale distribution
industry is the evolution of open sourcing during the past several years, a
phenomenon specific to the United States microcomputer products wholesale
distribution market. Historically, branded computer systems from large suppliers
were sold in the United States only through authorized master resellers. Under
this single sourcing model, resellers were required to purchase these products
exclusively from one master reseller. Competitive pressures led some of the
major computer suppliers to authorize second sourcing, in which resellers could
purchase a supplier's product from a source other than their primary master
reseller, subject to certain restrictive terms and conditions. More recently,
all major manufacturers have authorized open sourcing, under which resellers can
purchase the supplier's product from any source on equal terms and conditions.
Open sourcing has thus blurred the distinction between wholesale distributors
and master resellers, which are increasingly able to serve the same reseller
base. The Company believes that open sourcing enables those distributors of
microcomputer products which provide the highest value through superior service
and pricing in the best position to compete for reseller customers.
INTERNET SERVICES
One final industry trend, the emergence of the Internet, provides
wholesale distributors with an additional means to serve both suppliers and
reseller customers through the development and use of effective electronic
commerce tools. The increasing utilization of electronic ordering , including
the ability to transact business over the World Wide Web, has had, and is
expected to continue to have, a significant impact on the cost efficiency of the
wholesale distribution industry. Distributors with the financial and technical
resources to develop, implement and operate state of the art management
information systems have been able to reduce both their customers and their own
transaction costs through more efficient purchasing and lower selling costs. The
growing presence and importance of such electronic commerce capabilities also
provide distributors with new business opportunities as new categories of
products, customers, and suppliers develop.
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CORPORATE INFORMATION SYSTEMS CONSULTING
Because of factors similar to those encouraging the increased reliance
by target clients on wholesale distributors, corporations are increasingly
looking to specialist service organizations, such as Frontline, to support the
development and maintenance of their information technology systems.
Accelerating technological advancement, migration of organizations toward
multi-vendor distributed networks, and increased globalization of corporate
activity have contributed to an increase in the sophistication and information
delivery systems. interdependency of corporate computing systems. The desire by
corporations to focus upon their core activities while enjoying the benefits of
such multi-vendor distributed networks, together with increasing skill shortages
within the information technology industry, have led businesses to increasingly
outsource the development and maintenance of their computing systems to network
consulting professionals.
OUR HISTORY
We were incorporated as Wildfire Capital Corporation ("Wildfire") in
Nevada on January 8, 1996 in order to engage in the business of providing a
national retail market for premium wines on the Internet. The Internet site was
intended to provide advertising for wine retailers and boutique wineries.
Wildfire was initially capitalized with a $5,000 investment by its founder, for
which 500,000 shares of common stock were issued. On August 27, 1996, Wildfire
commenced an offering of 1,000,000 shares of its common stock at a price of $.05
per share under Rule 504 under the Securities Act of 1933. Gross proceeds from
the offering were $50,000 in cash.
Due primarily to regulatory issues, the business of Wildfire did not
develop as expected, and as a result, Wildfire closed its marketing operations
in the fall of 1997. At that time, Wildfire began searching for new business
opportunities, and on July 16, 1998, the Board of Directors of Wildfire
recommended the acquisition of Pacific Magtron, Inc. ("PMI") to Wildfire's
shareholders. PMI, a California corporation incorporated on August 11, 1989, had
established itself in the computer products wholesale distribution industry as a
privately held company. The shareholders of Wildfire and PMI approved the
transaction, and Wildfire issued 9,000,000 shares of its common stock in
consideration for all of the outstanding shares of PMI. As a result, the former
shareholders of PMI became the controlling shareholders of Wildfire. No
securities were registered in connection with the transaction. Immediately prior
to the transaction, Wildfire effected a two-for-three reverse stock split of its
1,500,000 outstanding shares of common stock. Upon consummation of the
acquisition, Wildfire changed its name to Pacific Magtron International Corp.
and PMI continued its business operations as a wholly owned subsidiary of the
Company.
PRODUCTS AND SERVICES
We operate in two business divisions. Our computer products group
operates under the name Pacific Magtron, Inc., our wholly owned subsidiary, and
our corporate information systems group operates as a corporate division known
as Frontline Network Consulting ("Frontline") within our PMI subsidiary.
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PACIFIC MAGTRON, INC. - COMPUTER PRODUCTS
Through PMI we distribute a wide range of computer products, including
components and multimedia and systems networking products. We also provide
vertical solutions for systems integrators and Internet resellers by combining
or "kitting" our products. Our computer products group offers our customers a
broad inventory of more than 1,800 products from approximately 30 manufacturers.
This wide assortment of vendors and products meets our customers' needs for a
cost effective link to multiple vendors' products through a single source. Among
the products that we distribute are systems and networking peripherals, and
components such as high capacity storage devices, CD-ROMs and CD recorders,
sound cards, small computer systems interface components, video phone solutions,
floppy and hard disk drives, and other miscellaneous items such as audio cabling
devices and zip drives for desktop and notebook computers.
INVENTORY LEVELS AND ASSET MANAGEMENT: We maintain sufficient
quantities of product inventories to achieve high order fill rates, and believe
that price protection and stock return privileges provided by suppliers
substantially mitigate the risks associated with slow moving and obsolete
inventory. We also operate a computerized inventory system that allows us to
look at and deal with slow moving inventory. If a supplier reduces its prices on
certain products, we generally receive a credit for such products in our
inventory. In addition, we have the right to return a certain percentage of
purchases, subject to certain limitations. Historically, price protection, stock
return privileges, and inventory management procedures have helped to reduce the
risk of a significant decline in the value of inventory.
We have established reserves for estimated losses due to obsolete
inventory in the normal course of business, and historically, we have not
experienced losses materially in excess of our established reserves. Inventory
levels may vary from period to period due in part to the addition of new
suppliers or large purchases of inventory due to favorable terms offered by
suppliers.
CREDIT TERMS: We offer various credit terms including open account,
flooring arrangements, and credit card payment to qualifying customers. We
closely monitor our customers' creditworthiness, and in most markets, utilize
various levels of credit insurance to control credit risks and enable us to
extend higher levels of credit. We also established reserves for estimated
credit losses in the normal course of business.
FRONTLINE NETWORK CONSULTING - CORPORATE INFORMATION SYSTEMS
We formed Frontline in May 1998 to serve the growing needs of our
corporate customers with respect to their computer systems and networking needs.
We provide a wide range of products and services to our customers through this
division, including advanced enterprise consulting, local area and wide area
network design, hardware and software troubleshooting and testing, and complete
Internet business solutions. Our corporate customers engage us to provide them
with network and computing solutions through the following types of services:
INTEGRATION SERVICES: Our integration center provides a static free
environment where customized hardware testing and peripheral installations are
performed. The expertise of our integration team, along with the flexibility of
the monorail system used in the integration center, gives us the capability to
create completely integrated networking schemes on any available topology.
INTERNET/ENTHRONED SERVICES: Our Internet business consultants help our
customers solve business problems with Internet based solutions. Among the
services provided in this area are web site content selection and design,
development of Internet usage polices, browser customization, software support,
development of risk management processes with respect to security concerns,
Internet training, and return on investment studies.
IT CONSULTING: In order to assist our clients in making the most of
their technology investments, we help develop and implement strategic technology
plans that allow clients to maximize the use of their technology dollars. Among
the areas these plans address are life cycle management, network analysis, and
business continuity planning in the event of an information flow interruption.
PROCUREMENT: By taking advantage of the relationships established
between manufacturers and our wholesale distribution business, we are able to
provide specialty procurement services to our corporate customers. Our
professionals manage the details of receiving, configuring, testing, and
shipping integrated systems for our customers, and assist them in dealing with
issues such as product availability forecasting, redeployment and disposal of
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technology assets, warehousing, and packaging, tracking, and confirmation of
shipments. Our procurement services afford an additional benefit to our
customers by providing a single source for software and hardware orders, and by
making available volume discounts that might otherwise be unavailable to them.
TECHNICAL SERVICES: Many of our customers technical service needs go
beyond merely fixing hardware. Our technicians provide a range of technical
support from on-site service to carry in depot service. Among the technical
services we provide are: asset management with inventory tracking and virus
check services; on site desktop support; warranty verification and tracking; and
desktop deployment and installation.
FRONTLINE STRATEGIC PARTNERSHIPS: One of the factors that permits us to
provide our Frontline corporate customers with a high level of service is the
development of strategic partnerships with leading manufacturers such as Intel,
CISCO Systems, Cabletron, BayNetworks, Microsoft, Wyse Technology, Compaq,
Hewlett-Packard, IBM, Novell, and 3Com. Certification from these manufacturers
is based on their recognition of our expertise at implementing their client
computing solutions, and allows us to offer our customers the products that they
are currently using, along with continuous education regarding each product and
the applications for which it is used. We believe that forming relationships
with suppliers is important in providing us with credibility in contacting large
corporate clients. These relationships also provide us with access to the
resources and support of these suppliers in Frontline's initial sales and
marketing efforts, and in the post-sale and installation stages.
LEA PUBLISHING, LLC.
In January 1999 we formed Lea to develop, sell and license software
designed to provide advanced solutions and applications for Internet users,
resellers and providers. We each own a 50% interest in Lea [Rising Edge
Technology, Inc., a Taiwanese software development company formed in 1996
("Rising Edge")]. Michael Lee, the brother of Hui "Cynthia" Lee, is the
president, a director and shareholder of Rising Edge. Theodore Li and Hui Lee,
both of whom are our directors, officers and principal shareholders, are the
managers of Lea.
During fiscal 1999 we invested approximately $220,000 in Lea, which was
paid to Rising Edge for its services in developing Lea's first software product.
We expect that additional funds will be necessary to continue to finance this
development, which will continue this year. After development and testing of the
software product, we will begin test marketing and if we find the results
acceptable, we will move to larger scale marketing and distribution. We are
unable to predict when and if any software will be available for testing. We are
working with Rising Edge to determine a budget and schedule for product
development. Depending on the budget we may elect or be required to raise funds,
through a credit facility from banks or other financial institutions, or through
sale of our equity or debt securities to fund Lea's activities this year.
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In 1998 Rising Edge was selected by HiNet, then Asia's largest
Internet service provider, to design and develop Internet-related software. In
1997 it was awarded a "Top Selling Gold Medal" in Asia for two of its software
products by the Chinese Economic and Trading Council.
PLANS FOR EXPANSION
Our plans to expand our wholesale distribution business include:
* enhancing existing relationships and establishing additional
strategic relationships with master distributors and
manufacturers, both domestically and abroad;
* adding additional branded product lines and offering a wider
range of products, such as networking and high end 3-D graphics
products;
* actively focusing on building our international sales through
advertising in international markets; and
* implement an e-commerce strategy.
Our strategy for developing Frontline's business includes:
* applying monetary and human resources to increase the division's
economic contribution over the next several years;
* continuing to seek certification from additional suppliers, and
actively contacting potential corporate customers that need to
implement, enhance, or replace their management information
systems; and
* increasing our partnering relationships with independent
technology consultants, which will expose us to a new customer
base and provide us with additional consulting talent.
Our strategy for Lea to enter in the software publishing field
includes:
* continuing to work with Rising Edge within our Lea venture this
year to develop, test and test market one or more proprietary
software products designed to provide advanced solutions and
applications for Internet users, resellers and providers; and
market
* Given acceptable test market results, we intend to release and
distribute such product on a regional and then national basis.
In addition to expanding our computer products and Frontline groups, we
also intend to utilize our management's extensive network of industry contacts
to explore possible acquisition candidates and opportunities. There can be no
assurance that we will identify any acquisition opportunities, or if such
opportunities are presented, that they can be acquired on acceptable terms and
conditions. We are not currently engaged in any negotiations to make any
material acquisitions.
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SALES AND MARKETING
Our sales are generated by a telemarketing sales force, which consisted
of approximately 30 persons as of March 1, 2000 in our offices located in
Milpitas, California.
The sales force is organized in teams generally consisting of a minimum
of three people. We believe that teams provide superior customer service because
customers can contact one of several people. Moreover, the long-term nature of
our customer relationships is better served by teams that increase the depth of
the relationship and improve the consistency of service. It has been our
experience that the team approach results in superior customer service and
better employee morale.
We provide compensation incentives to our salespeople, thus encouraging
them to increase their product knowledge and to establish long-term
relationships with existing and new customers. Customers can contact their
salespersons using a toll-free number. Salespeople initiate calls to introduce
our existing customers to new products and to solicit orders. In addition,
salespeople seek to develop new customer relationships by using targeted mailing
lists, vendor leads and telephone directories of various cities are also able to
analyze .
The telemarketing salespersons are supported by a variety of marketing
programs. For example, we regularly sponsor shows for our resellers where we
demonstrate new product offerings and discuss industry developments. Also, our
in-house marketing staff prepares catalogs that list available products and
routinely produces marketing materials and advertisements.
Because of our sophisticated salespeople we are able to analyze our
extensive inventory through a sophisticated management information system and
recommend the most appropriate cost-effective systems and hardware for each
customer, whether a full-line retailer or an industry-specific reseller.
We pride ourselves on being service oriented and have a number of
on-going value-added services intended to benefit both our vendors and its
resellers. We train members of the sales staff through intensive in-house sales
training programs, along with vendor-sponsored product seminars. This training
helps our sales personnel to provide our customers with product information, to
answer our customers' questions about important new product considerations, such
as compatibility and capability, and to advise which products meet specific
performance and price criteria. The core competency our sales personnal develops
about the products they sell supplements the sophisticated technical support and
configuration services we also provided. Salespeople who are knowledgeable about
the products they sell often can assist in the configuration of microcomputer
systems according to specifications given by the resellers. We believe that our
salespersons' ability to listen to a reseller's needs and recommend a
cost-efficient solution strengthens the relationship between the salesperson and
his or her reseller and promotes customer loyalty to a vendor's products. In
addition, we provide such other value-added services as new product descriptions
and technical education programs for resellers.
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Our management continually evaluates our product mix and the needs of
our customers in order to minimize inventory obsolescence and carrying costs.
Our rapid delivery terms are available to all of our customers, and we seek to
pass through our cost effective shipping and handling expenses to our customers.
SUPPLIERS
SOURCES OF SUPPLY: Our strong financial and industry positions have
enabled us to obtain contracts with many leading manufacturers, including
Creative Labs, Logitech, Toshiba, Sony, TEAC, and Labtec. We purchase our
products directly from such manufacturers, generally on a non-exclusive basis.
We believe that our agreements with the manufacturers are in forms customarily
used by each manufacturer. The agreements typically contain provisions allowing
termination by either party without prior notice, and generally do not require
us to sell a specific quantity of products or restrict us from selling products
manufactured by competitors. As a result, we generally have the flexibility to
terminate or curtail sales of one product line in favor of another product line
if we consider it appropriate to do so because of technological change, pricing
considerations, product availability, customer demand or vendor distribution
policies.
DISTRIBUTION: From our central warehouse facility in Milpitas,
California, we distribute microcomputer products throughout the United States
and foreign countries, including Canada, the United Kingdom, France, Russia and
Israel. A minority of our distribution agreements are limited by territory. In
those cases, however, North America is usually the territory granted to us. We
will continue to seek to expand the geographical scope of our distributor
arrangements.
COMPETITION
WHOLESALE DISTRIBUTION
We operate in a market characterized by intense competition, both in
the United States and internationally. Competition within the wholesale
distribution industry is based on product availability, credit availability,
price, speed and accuracy of delivery, effectiveness of sales and marketing
programs, ability to tailor specific solutions to customer needs, quality and
breadth of product lines and services, and the availability of product and
technical support information. We believe that we are equipped to compete
effectively with other distributors in these areas. Principal regional
competitors in the wholesale distribution industry include Greenleaf
Distribution, Asia Source and Synnex Information Technology, Inc., all of which
are privately held companies. Ingram Micro Inc. and Tech Data Corporation are
among our principal regional and multi-regional publicly held competitors. We
also compete with manufacturers that sell directly to resellers and end-users.
Nearly all of our competitors have far larger organizations than we do with
greater financial and human resources.
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FRONTLINE
Competition within the corporate information systems industry is based
primarily on flexibility in providing customized network solutions, resources
and contracts to provide products for integrated systems and consultant and
employee expertise needed to optimize network performance and stability. Our
principal competitors in the corporate information systems industry include
MicroAge and SARCOM. Most of our competitors have far greater resources of
capital, marketing and personnel than we have.
EMPLOYEES
At March 1, 2000, we had approximately 100 full time employees, all of
whom are non-union, and three executive officers. We believe that our employee
relations are good.
CAUTIONARY FACTORS THAT MAY AFFECT FUTURE RESULTS
ABILITY TO RESPOND TO TECHNOLOGICAL CHANGES
The market for computer systems and products is characterized by
constant technological change, frequent new product introductions and evolving
industry standards. Our future success is dependent upon the continuation of a
number of trends in the computer industry, including the migration by end-users
to multi-vendor and multi-system computing environments, the overall increase in
the sophistication and interdependency of computing technology, and a focus by
managers on cost-efficient information technology management. We believe these
trends have resulted in a movement toward outsourcing and an increased demand
for product and support service providers that have the ability to provide a
broad range of multi-vendor product and support services. There can be no
assurance these trends will continue into the future. Our failure to anticipate
or respond adequately to technological developments and customer requirements
could have a material adverse effect on our business, operating results and
financial condition.
INVENTORY VALUE
As a distributor, we incur the risk that the value of our inventory
will be affected by industry wide forces. Rapid technology change is commonplace
in the industry and can quickly diminish the marketability of certain items,
whose functionality and demand decline with the appearance of new products.
These changes and price reductions by vendors may cause rapid obsolescence of
inventory and corresponding valuation reductions in that inventory. Accordingly,
we seek provisions in our vendor agreements common to industry practice which
provide price protections or credits for declines in inventory value, and the
right to return unsold inventory. No assurance can be given, however, that we
can negotiate such provisions in each of our contracts or that such industry
practice will continue.
WARRANTIES
Our suppliers generally warrant the products we distribute and allow us
to return defective products, including those that have been returned to us by
our customers. We do not independently warrant the products that we distribute,
except that we do warrant our services in connection with to the products that
we configure for our customers and that we build to order from components
purchased from other sources. Historically, our warranty costs have been
insignificant.
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COMPETITION
The computer services and corporate information systems industries are
intensely competitive and many of our competitors have capital, marketing
expertise and personnel resources far superior to that of ours. There can be no
assurance that we will be able to compete successfully in the future or that
competitive pressures will not result in price reductions or other developments
in our market that could have a material adverse effect on our business,
operating results and financial condition.
RECRUITMENT AND RETENTION OF TECHNICAL PERSONNEL
We depend upon our ability to attract, hire and retain technical
personnel who possess the skills and experience necessary to meet our personnel
needs and the staffing requirements of our clients. Competition for individuals
with proven technical skills is intense, and the computer industry in general
experiences a high rate of attrition of such personnel. We compete for such
individuals with other systems integrators and providers of outsourcing services
as well as temporary personnel agencies, computer systems consultants, clients
and potential clients. Failure to attract and retain sufficient technical
personnel would have a material adverse effect on our business, operating
results and financial condition.
DEPENDENCE ON CONTINUED MANUFACTURER CERTIFICATION
The future success of Frontline depends in part on our continued
certification from leading manufacturers. Without such authorizations, we would
be unable to provide the range of services currently offered. There can be no
assurance that such manufacturers will continue to certify us as an approved
service provider, and the loss of one or more of such authorizations could have
a material adverse effect on Frontline and thus to our business operating
results and or financial condition
DEPENDENCE ON SUPPLIERS
One supplier accounted for approximately 20%, 18% and 20% of our total
purchases for the years ended December 31, 1999, 1998 and 1997, respectively.
During the years ended December 31, 1999 and 1998, one additional supplier
located in Taiwan accounted for approximately 11% and 13% respectively, of our
total purchases. Although we have not experienced significant problems with
suppliers, there can be no assurance that such relationships will continue or,
in the event of a termination of our relationship with any given supplier, that
we would be able to obtain alternative sources of supply on comparable terms
without a material disruption in our ability to provide products and services to
our clients. This may cause a possible loss of sales that could adversely affect
our business, and financial condition and operating results.
PROJECT RISKS
The nature of our corporate information systems engagements exposes us
to a variety of risks. Many of our engagements involve projects that are
critical to the operations of our clients' businesses. Our failure or inability
to meet a client's expectations in the performance of our services or to do so
10
in the time frame required by such client could result in a claim for
substantial damages, regardless of whether we were responsible for such failure.
We are in the business of employing people and placing them in the workplace of
other businesses. Therefore, we are also exposed to liability with respect to
actions taken by our employees while on assignment, such as damages caused by
employee errors and omissions, misuse of client proprietary information,
misappropriation of funds, discrimination and harassment, theft of client
property, other criminal activity or torts and other claims. Although we
maintain general liability insurance coverage in the aggregate amount of
$4,000,000, there can be no assurance that such coverage will continue to be
available on reasonable terms or in sufficient amounts to cover one or more
large claims, or that the insurer will not disclaim coverage as to any future
claim. The successful assertion of one or more large claims against us that
exceed available insurance coverage or changes in our insurance policies,
including premium increases or the imposition of large deductible or
co-insurance requirements, could have a material adverse effect on our business,
operating results and financial condition.
DEPENDENCE ON KEY PERSONNEL
Our continued success will depend to a significant extent upon our
senior management, including Theodore Li, our President, and Hui "Cynthia" Lee,
our Secretary and head of our sales operations. The loss of the services of Mr.
Li or Ms. Lee, or one or more other key employees could have a material adverse
effect on our business, financial condition or operating results. We do not have
key man insurance on the lives of any of our senior management.
PURSUIT OF NEW BUSINESS THROUGH LEA
We plan to enter the proprietary software development business with our
investment in Lea. We have no experience in developing software and will rely
entirely on the expertise of Rising Edge in this regard. We have conducted no
independent, formal market studies regarding the demand for the software
currently in development and planned to be developed. We have relied on our own
business experience in judging this market. Further, while we have experience in
marketing computer related products, we have not marketed software or a
proprietary line of our own products. We may have to raise substantial
additional funds to complete the development, testing, and marketing of Lea's
software products. This market is very competitive and nearly all of the
software publishers or distributors with whom we will compete have greater
financial and human resources than we do. There can be no assurance that we will
be successful in developing a software program that functions, or even if we
develop such a program, that it will find market acceptance. Finally, there can
be no assurance that Lea will generate a profit or even return our investment in
it.
ITEM 2. PROPERTIES
The Company owns property located at 1600 California Circle, Milpitas,
California 95035, which was subject to a mortgage in the amount of $3,384,900 at
December 31, 1999. This property consists of a building containing 44,820 square
feet and sits on 3.31 acres. The building contains our executive office and
warehouse and is suitable for the current size and the nature of our operations.
11
ITEM 3. LEGAL PROCEEDINGS
We are not involved as a party to any legal proceeding other than
various claims and lawsuits arising in the normal course of our business, none
of which, in our opinion, is individually or collectively material to our
business.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
We did not submit any matter to a vote of its security holders during
the fourth quarter of the fiscal year covered by this report.
12
PART II
ITEM 5. MARKET FOR THE COMPANY'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
Our common stock is listed on the Nasdaq SmallCap Market. It first
traded on the Nasdaq Small Cap Market in January 31, 2000. Prior to such date
through July 20, 1998 our common stock was traded on the Nasdaq OTC Bulletin
Board. Prior to July 20, 1998 our stock did not actively trade. The following
table shows the high and low sale prices in dollars per share for the last two
years as reported by the Nasdaq OTC Bulletin Board. These prices may not be the
prices that you would pay to purchase a share of our common stock during the
periods shown.
HIGH LOW
FISCAL YEAR ENDED DECEMBER 31, 1999 ---- ---
FIRST QUARTER $11 1/4 4 5/8
SECOND QUARTER 12 3/8 8 1/4
THIRD QUARTER 10.0 6 3/4
FOURTH QUATER 7 3/4 5.0
FISCAL YEAR ENDED DECEMBER 31, 1998
FIRST QUARTER -- --
SECOND QUARTER -- --
THIRD QUARTER 7 5/8 3.0
FOURTH QUARTER 5 7/8 4.0
We had 373 stockholders of record of our common stock as of December
31, 1999.
DIVIDEND POLICY
We have not paid dividends on our common stock. It is the present
policy of the our Board of Directors to retain future earnings to finance the
growth and development of the our business. Any future dividends will be at the
discretion of the our Board of Directors and will depend upon our financial
condition, capital requirements, earnings, liquidity, and other factors that our
Board of Directors may deem relevant.
ITEM 6. SELECTED FINANCIAL DATA
The following table contains certain selected financial data of the
Company and we refer you to the more detailed consolidated financial statements
and the notes thereto provided in Part IV of this Form 10K. The financial data
as of and for the years ended December 31, 1999 and 1998, has been derived from
the Company's consolidated financial statements, which were audited by BDO
Seidman, LLP. The financial data as of and for the years ended December 31, 1997
and 1996, has been derived from the Company's consolidated financial statements,
13
which were audited by Meredith, Cardozo, Lanz and Chiu LLP. The financial data
as of and for the year ended December 31, 1995 has been derived from the
Company's unaudited consolidated financial statements.
Fiscal Year Ended December 31
------------------------------------------------------------------------
Statement of
Operations Data 1999 1998 1997 1996 1995
- - --------------- ------------ ------------ ----------- ----------- -----------
(unaudited)
Net Sales $104,938,700 $105,431,200 $96,388,500 $94,256,600 $58,714,600
Net Income 827,300 1,775,700 1,246,900 2,363,400 1,497,800
Net Income per share to
Common Shareholders -
Basic and Diluted .08 0.19 0.14 0.26 0.17
Fiscal Year Ended December 31
------------------------------------------------------------------------
Balance Sheet Data 1999 1998 1997 1996 1995
- - ------------------ ------------ ------------ ----------- ----------- -----------
(unaudited)
Current Assets $15,471,100 $16,886,600 $10,847,800 $9,951,600 $8,692,500
Current Liabilities 7,614,400 8,955,100 5,116,900 5,652,900 8,063,300
Total Assets 20,689,000 21,108,400 15,019,500 10,929,100 8,820,800
Long-Term Debt 3,337,600 3,377,100 3,428,400 -- --
Total Liabilities 10,953,000 12,363,700 8,576,300 5,842,600 6,216,400
Shareholders' Equity 9,736,000 8,744,700 6,443,200 5,086,500 2,604,400
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS
The accompanying discussion and analysis of financial condition and
results of operations is based on our consolidated financial statements, which
are included elsewhere in this Annual Report. The following discussion and
analysis should be read in conjunction with the accompanying financial
statements and related notes thereto. This discussion contains forward- looking
statements within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Our
actual results could differ materially from those set forth in the
forward-looking statements. Forward-looking statements, by their very nature,
include risks and uncertainties. Accordingly, our actual results could differ
materially from those discussed in this Report. A wide variety of factors could
adversely impact revenues, profitability, cash flows and capital needs. Such
factors, many of which are beyond our control of, include, but are not limited
to, technological changes, diminished marketability of inventory, increased
warranty costs, competition, recruitment and retention of technical personnel,
dependence on continued manufacturer certification, dependence on certain
suppliers, risks associated with the projects in which we are engaged to
complete, the risks associated with our Lea ventures, and dependence on key
personnel.
14
GENERAL
Pacific Magtron International Corp., a Nevada corporation is an
integrated solutions provider of computer-related equipment and services. The
Company's primary business is the wholesale distribution of computer and related
hardware components and software for personal computers to value added
resellers, retailers, systems integrators, original equipment manufacturers,
independent hardware and software vendors, consultants, and contractors. In May
1998, the Company formed its Frontline Network Consulting ("Frontline")
division, a corporate information systems group, with the goal of serving the
networking and personal computer requirements of corporate customers. In January
1999 the Company formed Lea Publishing, LLC., a California limited liability
company ("Lea"), to develop, sell and license software designed to provide
Internet users, resellers and providers advanced solutions and applications. The
Company owns a 50% interest in Lea, which is in the development stage.
OPERATING RESULTS
The following table sets forth, for the periods indicated, certain
selected financial data as a percentage of sales:
Year Ended December 31,
-------------------------------------
1999 1998 1997
---- ---- ----
Sales 100.0% 100.0% 100.0%
Cost of sales 91.9 93.3 93.8
------ ------ ------
Gross margin 8.1 6.8 6.2
Operating expenses 6.5 3.8 4.0
------ ------ ------
Income from operations 1.6 2.9 2.2
Other expense, net, excluding
equity loss in Lea 0.1 0.1 0.0
Equity loss in investment in Lea 0.2 0.0 0.0
Income taxes 0.5 1.1 0.9
------ ------ ------
Net income 0.8% 1.7% 1.3%
====== ====== ======
YEAR ENDED DECEMBER 31, 1999 COMPARED TO YEAR ENDED DECEMBER 31, 1998
Sales for the year ended December 31, 1999 were $104,938,700, a
decrease of $492,500, or approximately 0.5%, compared to $105,431,200 for the
year ended December 31, 1998. Approximately $4,700,700 of the sales recognized
by the Company for the year ended December 31, 1999 were attributable to the
Frontline division that was formed in May 1998 to serve the networking and
personal computer requirements of corporate customers. Sales recognized by the
Company's Frontline division were $1,524,000 for the year ended December 31,
1998. Thus, there was a decrease in sales attributable to the Company's computer
products division for the year ended December 31, 1999 of $3,669,200, or
approximately 4%, compared to the corresponding period of the previous year as
the Company focused its efforts on improving gross margin. In addition, the
uncertainty regarding the impact of the Year 2000 issue slightly depressed sales
during the fourth quarter of 1999 as customers were delaying their buying
decisions.
15
Gross margin for the year ended December 31, 1999 was $8,483,900, an
increase of $1,355,700, or 19%, compared to $7,128,200 for the year ended
December 31, 1998. The gross margin as a percentage of sales increased from 6.8%
for the year ended December 31, 1998 to 8.1% for the year ended December 31,
1999. This increase is primarily due to better cost controls, including
participation in more vendor rebate programs, and an increased focus on
marketing products with a higher gross margin. Gross margin relating to the
Frontline division for the year ended December 31, 1999 was $665,800, or 14%, of
Frontline's sales during the same period as compared to $163,000, or 11%, of
Frontline's sales during the year ended December 31, 1998. However, since
Frontline's sales levels were relatively insignificant in relation to that of
the Company's computer products group, the higher gross margin percentage earned
by Frontline had only a minor effect on the overall increase in the Company's
gross margin for the year ended December 31, 1999.
Operating expenses, including selling, general, administrative and
amortization of prepaid consulting fee, for the year ended December 31, 1999
were $6,801,800, an increase of $2,753,600, or 68%, compared to $4,048,200 for
the year ended December 31, 1998. The noted increase is primarily a result of
the hiring of additional personnel to support the expansion of the Company's
Frontline business segment and establishment of the management infrastructure.
In addition, the Company incurred additional expenses in 1999 in connection with
the transition to a publicly traded company and a non-cash charge of $557,900
(as compared to $117,100 during the corresponding period in 1998) for the
amortization of a prepaid consulting fee. As a percentage of sales, operating
expenses increased to 6.5% for the year ended December 31, 1999 as compared to
3.8% for the year ended December 31, 1998 resulting from an increase in the
Company's fixed cost component of operating expenses.
Income from operations for the year ended December 31, 1999 was
$1,682,100, a decrease of $1,397,900, or 45%, as compared to $3,080,000 for the
year ended December 31, 1998. As a percentage of sales, income from operations
decreased to 1.6% for the year ended December 31, 1999 as compared to 2.9% for
the year ended December 31, 1998. This decrease was primarily due to the 68%
increase in operating expenses which was marginally offset by the improved gross
margin experienced for the year ended December 31, 1999.
Interest expense for the year ended December 31, 1999 was $269,800, a
decrease of $8,800, or 3%, compared to $278,600 for the year ended December 31,
1998. This decrease was due to a decrease in the balance of the Company's
mortgage on its office building facility as a result of scheduled principal
payments. Interest income increased from $177,400 for the year ended December
31, 1998 to $194,900 for the year ended December 31, 1999, an increase of
$17,500 or 10%, which was principally due to higher market interest rates
available for short- term investments in cash and cash equivalents.
During 1999, the Company's new equity investment, Lea Publishing, LLC,
incurred a $444,800 net loss, of which 50%, or $222,400, flowed through to the
Company.
16
YEAR ENDED DECEMBER 31, 1998 COMPARED TO YEAR ENDED DECEMBER 31, 1997
Sales for the year ended December 31, 1998 were $105,431,200, an
increase of $9,042,700, or approximately 9%, compared to $96,388,500 for the
year ended December 31, 1997. Sales increased primarily due to increased market
share achieved through expanded marketing efforts by the Company's computer
products group. In addition, approximately $1,524,000 of the sales earned by the
Company in 1998 were attributable to the new Frontline division that was formed
in May 1998 to serve the networking and personal computer requirements of
corporate customers.
Gross margin for the year ended December 31, 1998 was $7,128,200, an
increase of $1,104,400, or 18%, compared to $6,023,800 for the year ended
December 31, 1997. The gross margin as a percentage of sales increased from 6.2%
for the year ended December 31, 1997 to 6.8% for the year ended December 31,
1998. This increase in the gross margin percentage arose primarily as a result
of better cost controls and the focus on marketing product lines with a higher
gross margin. The results of the Frontline division had a minimal effect on the
gross margin in 1998 because Frontline was formed in May 1998 and was in the
early stages of developing its customer base during the remainder of that year.
Operating expenses, including selling, general administrative and
amortization of prepaid consulting fee, for the year ended December 31, 1998
were $4,048,200, an increase of $196,600, or 5%, compared to $3,851,600 for the
year ended December 31, 1997. The noted increase is primarily a result of the
expansion of the Company's business, including the ramp- up of the Company's
Frontline division during 1998. In addition, the Company incurred additional
expenses in 1998, including a non-cash charge of $117,100 for the amortization
of a prepaid consulting fee, in connection with the transition to an active
publicly traded company. The noted increase is somewhat offset by a decrease in
compensation expense to officers as no bonuses were paid to the officers of the
Company in 1998 while $500,000 of bonuses were paid to the officers of the
Company in 1997. As a percentage of sales, operating expenses decreased to
3.84%in the year ended December 31, 1998 as compared to 4.00% in the year ended
December 31, 1997 reflecting a better absorption of the fixed cost component of
operating expenses.
Income from operations for the year ended December 31, 1998 was
$3,080,000 an increase of $907,800, or 42%, as compared to $2,172,200 for the
year ended December 31, 1997. As a percentage of sales, income from operations
increased to 2.92% for the year ended December 31, 1998 as compared to 2.25% for
the year ended December 31, 1997. This increase was primarily due to normal
business growth and the addition of higher margin product lines which resulted
in higher gross margin (as a percentage of sales and in absolute dollars) and a
better absorption of the fixed cost component of operating expenses.
Interest expense for the year ended December 31, 1998 was $278,600, an
increase of $40,000 or 17%, compared to $238,600 for the year ended December 31,
1997. This increase was due to an entire year of mortgage interest paid in 1998
for the Company's new office building which was purchased during 1997. Interest
income increased from $158,800 for the year ended December 31, 1997 to $177,400
for the year ended December 31, 1998, an increase of $18,600, or 12%, which was
principally due to better cash management.
17
UNAUDITED QUARTERLY FINANCIAL DATA
Summarized quarterly financial data for 1999 and 1998 is as follows:
Quarter
----------------------------------------------------
1999 First Second Third Fourth
----- ------ ----- ------
Sales $26,580,300 $24,042,400 $28,505,700 $25,810,300
Gross profit 1,901,500 1,916,200 2,190,900 2,475,300
Net income 92,900 72,200 266,600 395,600
Basic and diluted earnings
per common share (1) $0.01 $0.01 $0.03 $0.04
Quarter
----------------------------------------------------
1998 First Second Third Fourth
----- ------ ----- ------
Sales $25,111,400 $23,704,000 $29,106,600 $27,509,200
Gross profit 1,382,300 1,742,700 2,099,700 1,903,500
Net income 342,200 503,300 631,200 299,000
Basic and diluted earnings
per common share (1) $0.04 $0.06 $0.06 $0.03
- - ----------
(1) Earnings per share are computed independently for each of the quarters
presented. The sum of the quarterly earnings per share in 1999 does not
equal the total computed for the year due to rounding.
LIQUIDITY AND CAPITAL RESOURCES
Since inception, the Company has financed its operations primarily
through cash generated by operations and borrowings under its floor plan
inventory loans.
At December 31, 1999, the Company had consolidated cash and cash
equivalents totaling $4,416,300 and working capital of $7,856,700. At December
31, 1998, the Company had consolidated cash and cash equivalents totaling
$3,197,100 and working capital of $7,931,500.
Net cash provided by operating activities for the year ended December
31, 1999 was $3,582,800, which principally reflected the decrease in
inventories, the non-cash consulting fee expense, and the net income for the
year, which was partially offset by an increase in accounts receivable and a
decrease in accounts payable. The decrease in inventories was due primarily to
the Company's focus on improving its inventory turnover by balancing the
inventory product mix and levels in relation to customer orders with favorable
vendor terms and programs. Net cash used in operating activities for the year
ended December 31, 1998 was $2,191,300, which reflected the net effect of
increases in accounts receivable and inventories that were partially offset by
an increase in accounts payable and the net income for the year.
Net cash used in investing activities was $1,498,100 for the year ended
December 31, 1999, primarily reflecting cash of $775,900 used for improvements
to the building owned and occupied by the Company to support the Company's
expanding workforce as well as a $500,000 deposit made in Rising Edge, a
co-owner with the Company of Lea. In addition, the Company invested $222,400 in
1999 in its 50% equity investment in Lea. Net cash used in investing activities
for the year ended December 31, 1998 was $91,000, primarily resulting from the
issuance of an additional note receivable to a principal shareholder.
18
Net cash used in financing activities was $865,500 for the year ended
December 31, 1999, primarily from the decrease in floor plan inventory loans, as
well as payment of the mortgage loans for the Company's facility. As of December
31, 1999, the Company had available financing in the form of a $7.0 million
floor plan inventory loan (including a fully used sub-limit of $1.0 million
standby letter of credit) which is collateralized by the inventory purchased and
any proceeds from the sale of the inventory. The outstanding balance of the
floor plan inventory loan at December 31, 1999 was $1,482,900 and the loan is
subject to 45-day repayment terms, at which time interest begins to accrue at
the prime rate (8.5% at December 31, 1999). Net cash provided by financing
activities was $2,216,500 for the year ended December 31, 1998, primarily from
the increase in the floor plan inventory loans, which was partially offset by
payment of the mortgage loans for the office facility.
As of December 31, 1999, the Company's material commitments for capital
expenditures consisted of an estimated additional $250,000 investment in its 50%
equity interest in Lea Publishing, LLC. In addition, as of December 31, 1999,
the Company has made a $500,000 deposit on an investment in 25% of the common
stock of Rising Edge Technologies, the other 50% owner of Lea Publishing, LLC.
The investment in Rising Edge is contingent upon the execution of all legal
documents and consent by the government of Taiwan.
The Company believes that the cash flow from operations and borrowing
available under its $7.0 million inventory floor plan loan will satisfy the
Company's anticipated requirements for working capital through at least the next
12 months.
RECENT ACCOUNTING PRONOUNCEMENT
In June 1998, the FASB issued Statement of Financial Accounting
Standards (SFAS) No. 133, ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND HEDGING
ACTIVITIES. SFAS No. 133 requires companies to recognize all derivatives
contracts as either assets or liabilities in the balance sheet and to measure
them at fair value. If certain conditions are met, a derivative may be
specifically designated as a hedge, the objective of which is to match the
timing of gain or loss recognition on the hedging derivative with the
recognition of (i) the changes in the fair value of the hedged assets or
liability that are attributable to the hedged risk or (ii) the earnings effect
of the hedged forecasted transaction. For a derivative not designated as a
hedging instrument, the gain and loss is recognized in income in the period of
change. SFAS No. 133, as amended by SFAS No. 137, is effective for all fiscal
quarters of fiscal years beginning after June 15, 2000.
Historically, the Company has not entered into derivatives contracts
either to hedge existing risks or for speculative purposes. Accordingly, the
Company does not expect adoption of the new standard to affect its financial
statements.
INFLATION
Inflation has not had a material effect upon the Company's results of
operations to date. In the event the rate of inflation should accelerate in the
future, it is expected that to the extent resulting increased costs are not
offset by increased revenues, the operations of the Company may be adversely
affected.
19
YEAR 2000 DISCLOSURE
We experienced no significant disruptions in mission critical
information technology and non-information technology systems with respect to
the Year 2000 date change. We are not aware of any material problem resulting
from Year 2000 issues, either with our products, our internal systems or
products and services of third parties. We will continue to monitor our mission
critical computer applications and those of our suppliers and vendors throughout
the year 2000 to ensure any latent risks that may arise are addressed promptly.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our exposure to market risk for changes in interest rates relates
primarily to one of our bank loans with a $2,453,700 balance at December 31,
1999 which bears fluctuating interest based on the bank's 90-day LIBOR rate. We
believe that fluctuations in interest rates in the near term would not
materially affect the Company's consolidated operating results, financial
position or cash flow.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Consolidated financial statements, together with related notes and the
reports of BDO Seidman, LLP and Meredith, Cardozo, Lanz & Chiu LLP, independent
certified public accountants, are set forth hereafter. Other required financial
information and schedules are set forth herein, as more fully described in Item
14 herein.
ITEM 9. CHANGES AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
AND FINANCIAL DISCLOSURE
None.
PART III
As indicated in the following table, the information required to be
presented in Part III of this report is hereby incorporated by reference from
the Company's definitive Proxy Statement for its 2000 Annual Meeting to be
prepared in accordance with Schedule 14A and filed with the Securities and
Exchange Commission within 120 days of the end of the fiscal year covered by
this report.
20
MATERIAL IN PROXY STATEMENT FOR 2000 ANNUAL MEETING
THAT IS INCORPORATED HEREIN BY REFERENCE
Item
No. Proxy Statement Caption
---- -----------------------
10 Directors and Executive Officers "Directors and Executive
of the Registrant Officers"
11 Executive Compensation "Executive Compensation"
12 Security Ownership and Certain "Security Ownership of Principal
Beneficial Owners and Management Stockholders and Management"
13 Certain Relationships and Related "Certain Transactions"
Transaction
21
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
Page or
Method of Filing
----------------
(a) FINANCIAL STATEMENTS
(1) Report of BDO Seidman, LLP Filed herewith
(2) Report of Meredith, Cardozo, Lanz & Chiu, LLP
(3) Consolidated Financial Statements and Notes Filed herewith
thereto of the Company including Consolidated
Balance Sheets as of December 31, 1999 and
1998 and related Consolidated Statements of
Income, Shareholders' Equity, and Cash Flows
for each of the years in the three year period
ended December 31, 1999.
(c) EXHIBITS
Exhibit Page or
Number Description Method of Filing
------ ----------- ----------------
3-A Certificate of Incorporation, as amended
3-B Bylaws
4-A Specimen Stock Certificate
24-A Power of Attorney of Theodore S. Li *
24-B Power of Attorney of Hui Cynthia Lee *
24-C Power of Attorney of Betty Li *
24-D Power of Attorney of Jey Hsin Yao *
24-E Power of Attorney of Hank C. Ta *
24-F Power of Attorney of Lumin Hu, PhD *
26 1998 Stock Option Plan **
27 Financial Data Schedule *
- - ----------
* Filed herewith
** Filed with the Registration Statement on Form 10-12G filed with the
Commission on January 20, 1999.
22
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 on Form 10-K to
be signed on its behalf by the undersigned, thereunto duly authorized, this 30th
day of March, 2000.
PACIFIC MAGTRON INTERNATIONAL,
CORP., a Nevada corporation
By /s/ Theodore S. Li
-------------------------------------
Theodore S. Li
President and
Chief Financial Officer
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report on Form 10-K has been signed below by the following persons on
behalf of the Registrant and in the capacities and on the dates indicated:
SIGNATURE TITLE DATE
/s/ Theodore S. Li President, Chief Executive March 30, 2000
- - ---------------------------- Officer, Treasurer and Director
Theodore S. Li
/s/ Hui "Cynthia" Lee Director and Secretary March 30, 2000
- - ----------------------------
Hui "Cynthia" Lee
/s/ Betty Li Director March 30, 2000
- - ----------------------------
Betty Li
/s/ Jey Hsin Yao Director March 30, 2000
- - ----------------------------
Jey Hsin Yao
/s/ Hank C. Ta Director March 30, 2000
- - ----------------------------
Hank C. Ta
/s/ Limin Hu, PhD Director March __, 2000
- - ----------------------------
Limin Hu, PhD
23
PACIFIC MAGTRON INTERNATIONAL CORP.
CONTENTS
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS F-2
CONSOLIDATED FINANCIAL STATEMENTS
Consolidated balance sheets F-4
Consolidated statements of income F-6
Consolidated statements of shareholders' equity F-7
Consolidated statements of cash flows F-8
Notes to consolidated financial statements F-9
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS F-26
F-1
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Board of Directors and Shareholders
Pacific Magtron International Corp.
We have audited the accompanying consolidated balance sheets of Pacific Magtron
International Corp. and subsidiary (the Company) as of December 31, 1999 and
1998, and the related consolidated statements of income, shareholders' equity,
and cash flows for the years then ended. We have also audited Schedule II -
Valuation and Qualifying Accounts as of and for the years ended December 31,
1999 and 1998. These consolidated financial statements and schedule are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements and schedule based on our
audits. The consolidated financial statements and schedule of the Company for
the year ended December 31, 1997 were audited by Meredith, Cardozo, Lanz & Chiu
LLP, whose practice has been combined with our Firm and whose report dated
August 20, 1998 expressed an unqualified opinion on those statements and
schedule.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform our audits to obtain
reasonable assurance about whether the consolidated financial statements and
schedule are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements and schedule. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement and schedule presentation. We believe
that our audits provide a reasonable basis for our opinion.
In our opinion, the 1999 and 1998 consolidated financial statements referred to
above present fairly, in all material respects, the consolidated financial
position of Pacific Magtron International Corp. and subsidiary as of December
31, 1999 and 1998, and the results of their operations and their cash flows for
the years then ended, in conformity with generally accepted accounting
principles.
Also, in our opinion, the schedule referred to above presents fairly, in all
material respects, the information set forth therein as of and for the years
ending December 31, 1999 and 1998.
/s/ BDO Seidman, LLP
San Jose, California
February 11, 2000
F-2
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Board of Directors and Shareholders
Pacific Magtron International Corp.
We have audited the accompanying consolidated statements of income,
shareholders' equity, and cash flows of Pacific Magtron International Corp. and
subsidiary (the Company) for the year ended December 31, 1997. We have also
audited Schedule II - Valuation and Qualifying Accounts as of and for the year
ended December 31, 1997. These consolidated financial statements and schedule
are the responsibility of the Company's management. Our responsibility is to
express an opinion on these consolidated financial statements and schedule based
on our audit.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform our audit to obtain reasonable
assurance about whether the consolidated financial statements and schedule are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements and
schedule. An audit also includes assessing the accounting principles used and
significant estimates made by management as well as evaluating the overall
financial statement and schedule presentation. We believe that our audit
provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the results of operations and cash flows of
Pacific Magtron International Corp. and subsidiary for the year ended December
31, 1997 in conformity with generally accepted accounting principles.
Also, in our opinion, the schedule referred to above presents fairly, in all
material respects, the information set forth therein as of and for the year
ended December 31, 1997.
/s/ Meredith, Cardozo, Lanz & Chiu LLP
Milpitas, California
August 20, 1998
F-3
PACIFIC MAGTRON INTERNATIONAL CORP.
CONSOLIDATED BALANCE SHEETS
December 31, 1999 1998
- - ------------ ----------- -----------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents (Note 10) $ 4,416,300 $ 3,197,100
Accounts receivable, net of allowance for
doubtful accounts of $150,000 in both
1999 and 1998 (Note 2 and 10) 6,608,600 6,321,800
Inventories (Note 5) 3,811,200 6,390,300
Prepaid expenses and other current assets 314,800 548,000
Notes and interest receivable from
shareholders (Note 2) 223,600 268,100
Deferred income taxes (Note 6) 96,600 161,300
----------- -----------
TOTAL CURRENT ASSETS 15,471,100 16,886,600
PROPERTY, PLANT AND EQUIPMENT, net (Notes 3 and 4) 4,625,900 4,038,000
DEPOSITS AND OTHER ASSETS (Note 13) 592,000 183,800
INVESTMENT IN LEA PUBLISHING (Note 13) -- --
----------- -----------
$20,689,000 $21,108,400
=========== ===========
F-4
PACIFIC MAGTRON INTERNATIONAL CORP.
CONSOLIDATED BALANCE SHEETS
December 31, 1999 1998
- - ------------ ----------- -----------
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Current portion of notes payable (Note 4) $ 47,300 $ 51,200
Floor plan inventory loans (Note 5) 1,482,900 2,305,000
Accounts payable 5,811,600 6,460,300
Accrued expenses 272,600 138,600
----------- -----------
TOTAL CURRENT LIABILITIES 7,614,400 8,955,100
NOTES PAYABLE, less current portion (Note 4) 3,337,600 3,377,100
DEFERRED INCOME TAXES (Note 6) 1,000 31,500
----------- -----------
TOTAL LIABILITIES 10,953,000 12,363,700
----------- -----------
COMMITMENTS AND CONTINGENCIES
(Notes 4, 5, 7, 8, 9, 10 and 13)
SHAREHOLDERS' EQUITY (Note 11):
Preferred stock, $0.001 par value; 5,000,000 shares
authorized; no shares issued and outstanding -- --
Common stock, $0.001 par value; 25,000,000 shares
authorized; 10,100,000 shares issued and
outstanding at December 31, 1999 and 1998 10,100 10,100
Additional paid-in capital 1,463,100 1,299,100
Retained earnings 8,262,800 7,435,500
----------- -----------
TOTAL SHAREHOLDERS' EQUITY 9,736,000 8,744,700
----------- -----------
$20,689,000 $21,108,400
=========== ===========
See accompanying notes to consolidated financial statements.
F-5
PACIFIC MAGTRON INTERNATIONAL CORP.
CONSOLIDATED STATEMENTS OF INCOME
Years ended December 31, 1999 1998 1997
- - ------------------------ ------------- ------------- -------------
SALES (Notes 2 and 10) $ 104,938,700 $ 105,431,200 $ 96,388,500
COST OF SALES (Note 8) 96,454,800 98,303,000 90,364,700
------------- ------------- -------------
GROSS MARGIN 8,483,900 7,128,200 6,023,800
------------- ------------- -------------
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES:
Non-cash amortization of pre-paid consulting fee (Note 11) 557,900 117,100 --
Other selling, general and administrative expenses 6,243,900 3,931,100 3,851,600
------------- ------------- -------------
TOTAL OPERATING EXPENSES 6,801,800 4,048,200 3,851,600
------------- ------------- -------------
INCOME FROM OPERATIONS 1,682,100 3,080,000 2,172,200
------------- ------------- -------------
OTHER EXPENSE (INCOME):
Interest income on shareholder notes (Note 2) (11,200) (8,100) (10,800)
Interest income (183,700) (169,300) (148,000)
Interest expense 269,800 278,600 238,600
Equity in loss in investment in Lea Publishing
(Note 13) 222,400 -- --
Other -- -- (1,600)
------------- ------------- -------------
TOTAL OTHER EXPENSE 297,300 101,200 78,200
------------- ------------- -------------
INCOME BEFORE INCOME TAXES 1,384,800 2,978,800 2,094,000
INCOME TAXES (Note 6) 557,500 1,203,100 847,100
------------- ------------- -------------
NET INCOME $ 827,300 $ 1,775,700 $ 1,246,900
============= ============= =============
Basic and diluted earnings per share $ 0.08 $ 0.19 $ 0.14
============= ============= =============
Basic weighted average common shares outstanding 10,100,000 9,503,300 8,988,500
Stock options 108,700 33,200 --
------------- ------------- -------------
Diluted weighted average common shares outstanding 10,208,700 9,536,500 8,988,500
============= ============= =============
See accompanying notes to consolidated financial statements.
F-6
PACIFIC MAGTRON INTERNATIONAL CORP.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Common Stock Additional
----------------------- Paid-in Retained
Shares Amount Capital Earnings Total
---------- ---------- ---------- ---------- ----------
BALANCES, January 1, 1997 8,936,373 $ 9,000 $ 621,300 $4,412,900 $5,043,200
Issuance of common stock in
debt conversion (Note 11) 63,627 -- 153,100 -- 153,100
NET INCOME -- -- -- 1,246,900 1,246,900
---------- ---------- ---------- ---------- ----------
BALANCES, December 31, 1997 9,000,000 9,000 774,400 5,659,800 6,443,200
Issuance of common stock in
connection with reverse
merger (Note 1) 1,000,000 1,000 13,800 -- 14,800
Issuance of common stock for
consulting services (Note 11) 100,000 100 510,900 -- 511,000
NET INCOME -- -- -- 1,775,700 1,775,700
---------- ---------- ---------- ---------- ----------
BALANCES, December 31, 1998 10,100,000 10,100 1,299,100 7,435,500 8,744,700
Final valuation of common stock
issued for consulting
services (Note 11) -- -- 164,000 -- 164,000
NET INCOME -- -- -- 827,300 827,300
---------- ---------- ---------- ---------- ----------
BALANCES, December 31, 1999 10,100,000 $ 10,100 $1,463,100 $8,262,800 $9,736,000
========== ========== ========== ========== ==========
See accompanying notes to consolidated financial statements.
F-7
PACIFIC MAGTRON INTERNATIONAL CORP.
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended December 31, 1999 1998 1997
- - ------------------------ ----------- ----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Income $ 827,300 $ 1,775,700 $ 1,246,900
Adjustments to reconcile net income to net cash provided
by (used in) operating activities:
Depreciation and amortization 187,400 131,900 128,000
Gain on sale of property and equipment (2,200) -- --
Provision for doubtful accounts 457,500 46,300 299,000
Equity in loss in investment in Lea Publishing 222,400 -- --
Deferred income taxes 34,200 (33,100) 23,300
Amortization of prepaid consulting fee 557,900 117,100 --
Changes in operating assets and liabilities, net of
assets acquired and liabilities assumed:
Accounts receivable (744,300) (1,265,200) (1,283,600)
Inventories 2,579,100 (4,323,500) 614,000
Prepaid expenses and other current assets (21,800) (209,500) (85,600)
Accounts payable (648,700) 1,522,200 (100,400)
Accrued expenses 134,000 46,800 (429,500)
----------- ----------- -----------
NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES 3,582,800 (2,191,300) 412,100
----------- ----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Cash acquired in purchase of business -- 15,900 --
Cash received on sale of property and equipment 2,800 -- --
Notes and interest receivable from shareholders 44,500 (63,800) (10,800)
Investment in Lea Publishing (222,400) -- --
Deposits and other assets (547,100) 12,000 623,800
Acquisition of property and equipment (775,900) (55,100) (599,400)
----------- ----------- -----------
NET CASH USED IN (PROVIDED BY) INVESTING ACTIVITIES (1,498,100) (91,000) 13,600
----------- ----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net (decrease) increase in floor plan inventory loans (822,100) 2,256,600 (46,100)
Payment of loan fee -- -- (42,000)
Principal payments on SBA loan (25,300) (23,500) (18,100)
Principal payments on bank loan (18,100) (16,600) (11,500)
----------- ----------- -----------
NET CASH (USED IN) PROVIDED BY FINANCING ACTIVITIES (865,500) 2,216,500 (117,700)
----------- ----------- -----------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 1,219,200 (65,800) 308,000
CASH AND CASH EQUIVALENTS, beginning of year 3,197,100 3,262,900 2,954,900
----------- ----------- -----------
CASH AND CASH EQUIVALENTS, end of year $ 4,416,300 $ 3,197,100 $ 3,262,900
=========== =========== ===========
See accompanying notes to consolidated financial statements.
F-8
PACIFIC MAGTRON INTERNATIONAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT THE COMPANY ACCOUNTING POLICIES
Pacific Magtron International Corp. (formerly Wildfire Capital Corporation, a
publicly traded shell corporation) (the Company), a Nevada Corporation, was
incorporated on January 8, 1996.
On July 17, 1998 the Company completed the acquisition of 100% of the
outstanding common stock of Pacific Magtron, Inc. (PMI), in exchange for
9,000,000 shares of the Company's common stock. For accounting purposes, the
acquisition has been treated as the acquisition of the Company by PMI with PMI
as the acquiror (reverse acquisition). The historical financial statements prior
to July 17, 1998 are those of PMI. Since the Company prior to the reverse
acquisition was a public shell corporation with no significant operations,
pro-forma information giving effect to the acquisition is not presented. All
shares and per share data prior to the acquisition have been restated to reflect
the stock issuance as a recapitalization of PMI. The shares held by the
shareholders of the Company prior to the acquisition (1,000,000 shares after
reflecting a three for two reverse stock split effected by the Company
immediately prior to the acquisition) have been recognized as if they were
issued in connection with the acquisition of the Company by PMI.
PMI, a California corporation, was incorporated on August 11, 1989. PMI's
principal activity consists of importation and wholesale distribution of
electronics products, computer components, and computer peripheral equipment
throughout the United States.
In May 1998, the Company formed its Frontline Network Consulting (Frontline)
division, a corporate information systems group that serves the networking and
personal computer requirements of corporate customers.
NEW ACCOUNTING PRONOUNCEMENT
In June 1998, the FASB issued Statement of Financial Accounting Standards (SFAS)
No. 133, Accounting for Derivative Instruments and Hedging Activities. SFAS No.
133 requires companies to recognize all derivatives contracts as either assets
or liabilities in the balance sheet and to measure them at fair value. If
certain conditions are met, a derivative may be specifically designated as a
hedge, the objective of which is to match the timing of gain or loss recognition
F-9
PACIFIC MAGTRON INTERNATIONAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
on the hedging derivative with the recognition of (i) the changes in the fair
value of the hedged assets or liability that are attributable to the hedged risk
or (ii) the earnings effect of the hedged forecasted transaction. For a
derivative not designated as a hedging instrument, the gain and loss is
recognized in income in the period of change. SFAS No. 133, as amended by SFAS
No. 137, is effective for all fiscal quarters of fiscal years beginning after
June 15, 2000.
Historically, the Company has not entered into derivatives contracts either to
hedge existing risks or for speculative purposes. Accordingly, the Company does
not expect adoption of the new standard on January 1, 2001 to affect its
financial statements.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenue and expenses during the reporting period. Actual
results could differ from those estimates.
CONSOLIDATION AND UNCONSOLIDATED INVESTEES
The accompanying consolidated financial statements include the accounts of
Pacific Magtron International Corp. and its wholly-owned subsidiary, Pacific
Magtron Incorporated. All intercompany accounts and transactions have been
eliminated in the consolidated financial statements. Investments in companies in
which financial ownership is at least 20%, but less than a majority of the
voting stock, are accounted for using the equity method.
CASH AND CASH EQUIVALENTS
The Company considers all highly liquid investments having original maturities
of 90 days or less to be cash equivalents.
F-10
PACIFIC MAGTRON INTERNATIONAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
ACCOUNTS RECEIVABLE AND ALLOWANCE FOR DOUBTFUL ACCOUNTS
The Company grants credit to its customers after undertaking an investigation of
credit risk for all significant amounts. An allowance for doubtful accounts is
provided for estimated credit losses at a level deemed appropriate to adequately
provide for known and inherent risks related to such amounts. The allowance is
based on reviews of loss, adjustments history, current economic conditions and
other factors that deserve recognition in estimating potential losses. While
management uses the best information available in making its determination, the
ultimate recovery of recorded accounts receivable is also dependent upon future
economic and other conditions that may be beyond management's control.
INVENTORIES
Inventories, consisting primarily of finished goods, are stated at the lower of
cost (moving weighted average method) or market.
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are stated at cost. Depreciation is provided using
the straight-line method over the related estimated useful lives, as follows:
Building and improvements 39 years
Furniture and fixtures 7 years
Computers and equipment 5 years
Automobiles 5 years
LOAN ORIGINATION FEES
Other assets include loan origination fees that are being amortized on a method
which approximates the interest method.
F-11
PACIFIC MAGTRON INTERNATIONAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
REVENUE RECOGNITION
The Company recognizes sales upon shipment provided no significant obligations
remain and collectibility is probable. A provision for estimated product returns
is established at the time of sale based upon historical return rates adjusted
for current economic conditions. Service revenues relating to services performed
by the Company's Frontline division are recognized as earned based upon contract
terms, which is generally as the service is performed.
WARRANTY REPAIRS
The Company is principally a distributor of numerous electronics products, for
which the original equipment manufacturer is responsible and liable for product
repairs and service. However, the Company does warrant its services with regards
to products configured for its customers and products built to order from
purchased components, and provides for the estimated costs of fulfilling these
warranty obligations at the time the related revenue is recorded. Historically,
warranty costs have been insignificant.
INCOME TAXES
The Company reports income taxes in accordance with SFAS No. 109, Accounting for
Income Taxes, which requires an asset and liability approach. This approach
results in the recognition of deferred tax assets (future tax benefits) and
liabilities for the expected future tax consequences of temporary differences
between the book carrying amounts and the tax basis of assets and liabilities.
The deferred tax assets and liabilities represent the future tax return
consequences of those differences, which will either be deductible or taxable
when the assets and liabilities are recovered or settled. Future tax benefits
are subject to a valuation allowance when management believes it is more likely
than not that the deferred tax assets will not be realized.
LONG-LIVED ASSETS
The Company periodically reviews its long-lived assets for impairment. When
events or changes in circumstances indicate that the carrying amount of an asset
may not be recoverable, the Company writes the asset down to its estimated fair
value.
F-12
PACIFIC MAGTRON INTERNATIONAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FAIR VALUES OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used by the Company in estimating its
fair value disclosures for financial instruments:
* CASH AND CASH EQUIVALENTS, ACCOUNTS RECEIVABLE AND ACCOUNTS PAYABLE:
The carrying amount reported in the balance sheet for these items
approximates fair value because of the short maturity of these instruments.
* LONG-TERM DEBT:
The fair value of long-term debt is estimated based on current interest
rates available to the Company for debt instruments with similar terms and
remaining maturities.
* NOTES RECEIVABLES FROM SHAREHOLDERS:
The fair value of the notes receivable from shareholders is estimated based
on current interest rates available to the Company for investments with
similar terms and remaining maturities.
As of December 31, 1999 and 1998, the fair values of the Company's
financial instruments approximate their historical carrying amounts.
EARNINGS PER SHARE
During 1998, the Company adopted the provisions of SFAS No. 128, Earnings Per
Share. SFAS No. 128 provides for the calculation of basic and diluted earnings
per share. Basic earnings per share includes no dilution and is computed by
dividing income available to common stockholders by the weighted average number
of common shares outstanding for the period. Diluted earnings per share reflects
the potential dilution of securities that could share in the earnings of an
entity.
F-13
PACIFIC MAGTRON INTERNATIONAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
RECLASSIFICATION
Certain 1997 financial statement amounts have been reclassified to conform to
the 1999 and 1998 presentation.
2. RELATED PARTY RECEIVABLES
As of December 31, 1999 and 1998, notes receivable from two officer shareholders
aggregated $180,000 and $235,700, respectively. These notes bear interest at 5%
and are unsecured. Principal and interest are due on April 19, 2000. The accrued
interest receivable pertaining to these notes was $43,600 and $32,400 as of
December 31, 1999, and 1998, respectively.
During 1999 and 1998, the Company recognized $724,000 and $470,500 in sales
revenues from a company owned by a member of the Board of directors of the
Company. Included in accounts receivable as December 31, 1999 and 1998 is
$494,200 and $179,000 due from this related customer.
3. PROPERTY, PLANT AND EQUIPMENT
A summary of property, plant and equipment as of December 31, 1999, and 1998
follows:
December 31, 1999 1998
- - ------------ ---------- ----------
Building and improvements (Note 4) $3,240,300 $2,827,400
Land 1,158,600 1,158,600
Furniture and fixtures 337,500 228,900
Computers and equipment 243,600 68,800
Automobiles 164,900 91,000
---------- ----------
5,144,900 4,374,700
Less accumulated depreciation 519,000 336,700
---------- ----------
4,625,900 $4,038,000
========== ==========
F-14
PACIFIC MAGTRON INTERNATIONAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
4. NOTES PAYABLE
In 1997, the Company obtained financing of $3,498,000 for the purchase of its
office and warehouse facility. Of the amount financed, $2,500,000 was in the
form of a 10-year bank loan utilizing a 30-year amortization period. This loan
bears interest at the bank's 90-day LIBOR rate (6.25% as of December 31, 1999)
plus 2.5%, and is secured by a deed of trust on the property. The balance of the
financing was obtained through a $998,000 Small Business Administration (SBA)
loan due in monthly installments through April 2017. The SBA loan bears interest
at 7.569%, and is secured by the underlying property.
Under the bank loan, the Company is required, among other things, to maintain a
minimum debt service coverage, a maximum debt to tangible net worth ratio and
net income on an annual basis. As of December 31, 1999, the Company was in
compliance with all debt covenants.
The balances of the notes as of December 31, 1999 and 1998 are as follows:
1999 1998
---------- ----------
Bank loan $2,453,700 $2,471,800
SBA loan 931,200 956,500
---------- ----------
3,384,900 3,428,300
Less current portion 47,300 51,200
---------- ----------
$3,337,600 $3,377,100
========== ==========
The aggregate amount of future maturities for notes payable are as follows:
Years ending December 31, Amount
- - ------------------------- ----------
2000 $ 47,300
2001 51,400
2002 55,900
2003 60,700
2004 66,100
Thereafter 3,103,500
----------
$3,384,900
==========
F-15
PACIFIC MAGTRON INTERNATIONAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
5. FLOOR PLAN INVENTORY LOANS AND LETTER OF CREDIT
The Company has a $7 million (including a $1 million letter of credit sub-limit)
auto-renewing floor plan inventory loan available from a financial institution
which is collateralized by the purchased inventory and any proceeds from its
sale or disposition. The $1 million letter of credit is being maintained as
security for inventory purchased on terms from vendors in Taiwan and requires an
annual commitment fee of $15,000. Borrowings under the floor plan line total
$1,482,900 and $2,305,000 as of December 31, 1999 and 1998 and are subject to 45
day repayment terms, at which time interest begins to accrue at the prime rate
(8.50% as of December 31, 1999).
6. INCOME TAXES
For the years ended December 31, 1999, 1998 and 1997, income tax expense
(benefit) comprises:
1999 Current Deferred Total
- - ---- ---------- --------- ----------
FEDERAL $ 409,800 $ 32,600 $ 442,400
STATE 113,500 1,600 115,100
---------- --------- ----------
$ 523,300 $ 34,200 $ 557,500
========== ========= ==========
1998 Current Deferred Total
- - ---- ---------- --------- ----------
Federal $ 964,900 $ (31,300) $ 933,600
State 271,300 (1,800) 269,500
---------- --------- ----------
$1,236,200 $ (33,100) $1,203,100
========== ========= ==========
1997 Current Deferred Total
- - ---- ---------- --------- ----------
Federal $ 627,900 $ 30,800 $ 658,700
State 195,900 (7,500) 188,400
---------- --------- ----------
$ 823,800 $ 23,300 $ 847,100
========== ========= ==========
F-16
PACIFIC MAGTRON INTERNATIONAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following summarizes the differences between the income tax expense and the
amount computed by applying the Federal income tax rate of 34% in 1999, 1998 and
1997 to income before income taxes:
Year ending December 31, 1999 1998 1997
- - ------------------------ --------- ---------- ---------
Federal income tax at statutory rate $ 470,800 $1,012,800 $ 712,000
State income taxes, net of federal benefit 86,700 190,300 135,100
--------- ---------- ---------
$ 557,500 $1,203,100 $ 847,100
========= ========== =========
Deferred tax assets and liabilities as of December 31, 1999 and 1998 were
comprised of the following:
1999 1998
--------- ---------
Deferred tax assets:
State income taxes $ 38,400 $ 93,500
Reserves not currently deductible 56,500 61,800
Accrued compensation and benefits 1,700 6,000
--------- ---------
$ 96,600 $ 161,300
========= =========
Deferred tax liabilities:
Accumulated depreciation $ 1,000 $ 31,500
--------- ---------
$ 1,000 $ 31,500
========= =========
7. LEASE COMMITMENTS
During 1999, 1998 and 1997, the Company leased two automobiles under operating
leases which terminated in March 1999.
Total rent expense for the years ended December 31, 1999, 1998 and 1997 was
$5,500, $29,700 and $47,900, respectively.
8. MAJOR VENDORS
One vendor accounted for approximately 20%, 18% and 20% of the total purchases
for the years ended December 31, 1999, 1998 and 1997, respectively. During the
years ended December 31, 1999 and 1998, one additional vendor located in Taiwan
accounted for approximately 11% and 13% of total purchases. No other vendors
account for more than 10% of purchases for any period presented. Management
believes other vendors could supply similar products on comparable terms. A
change in suppliers, however, could cause a delay in availability of products
and a possible loss of sales, which could affect operating results adversely.
F-17
PACIFIC MAGTRON INTERNATIONAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
9. EMPLOYEE BENEFIT PROGRAM-401(K) PLAN
The Company has a 401(k) plan (the Plan) for its employees. The Plan is
available to all employees who have reached the age of twenty-one and who have
completed three months of service with the Company. Under the Plan, eligible
employees may defer a portion of their salaries as their contributions to the
Plan. Company contributions are discretionary, subject to statutory maximum
levels. Contributions to the Plan totaled $27,300, $12,800 and $14,300, for the
years ended December 31, 1999, 1998 and 1997, respectively.
10. CONCENTRATION OF CREDIT RISK
Financial instruments, which potentially subject the Company to concentration of
credit risk, consist principally of cash and cash equivalents and trade
receivables. The Company places its cash and cash equivalents with high quality
financial institutions. As of December 31, 1999 and 1998, the Company had
deposits at one financial institution which aggregated $4,094,600 and
$3,029,400, respectively. As of December 31, 1999 the Company had deposits
amounting to $257,400 at an additional financial institution. Such funds are
insured by the Federal Deposit Insurance Company up to $100,000.
A significant portion of the Company's revenues and accounts receivable are
derived from sales made primarily to unrelated companies in the computer
industry and related fields principally throughout the United States and as well
as some foreign countries, including Canada, the United Kingdom, France, Russia
and Israel. For the years ended December 31, 1999, 1998 and 1997, no individual
customer or foreign country comprised more than 10% of sales. The Company
believes any risk of accounting loss is significantly reduced due to the use of
various levels of credit insurance, diversity in customers, geographic sales
areas and the Company extending credit based on established limits or terms. The
Company performs credit evaluations of its customers' financial condition
whenever necessary, and generally does not require cash collateral.
F-18
PACIFIC MAGTRON INTERNATIONAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
11. CAPITAL STOCK
DEBT CONVERSION
In 1997, the two shareholders/officers of PMI converted their loans in the
amount of $153,100 into 21,360 shares of PMI's common stock (equivalent to
63,627 shares of the Company's common stock after giving effect to the
recapitalization described in Note 1), based on the fair value of PMI, as
determined by PMI's board of directors, at the time of conversion.
CONSULTING AGREEMENT
On July 17, 1998 the Company issued 100,000 restricted shares of its common
stock to an unrelated party under terms of a consulting agreement. Under the
agreement, if the services were provided, the shares were to vest 50% on July
17, 1999 and 50% on July 17, 2000. If the services were not provided as
required, the consultant was to forfeit those shares not vested. The Company
accounted for this transaction in accordance with Emerging Issues Task Force
(EITF) No. 96-18, "Accounting for Equity Instruments that are Issued to Other
than Employees for Acquiring, or in Conjunction with Selling, Goods or
Services". During 1999, the Company and the consultant periodically discussed
the level and type of services required in order for the shares to vest under
the consulting agreement. This discussion led to a postponement of the scheduled
July 17, 1999 vesting date. After further discussions, the Board of Directors of
the Company determined that no further performance was required by the
consultant under the agreement and deemed the entire 100,000 shares vested on
September 17, 1999, resulting in a measurement date and final valuation of these
shares of $675,000.
STOCK OPTION PLAN
On July 16, 1998 the Company adopted the 1998 Stock Option Plan and reserved
1,000,000 shares of Common Stock for issuance under the Plan.
F-19
PACIFIC MAGTRON INTERNATIONAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Activity under the Plan is as follows:
Weighted-
Weighted Average
Shares Average Weighted- Remaining
Available Options Exercise Average Contractual
for Grant Outstanding Price Fair Value Life
---------- --------- --------- --------- ---------
July 16, 1998 1,000,000 -- $ -- $ -- --
Conversion of PMI options
(granted in March 1998)
to Plan options (75,400) 75,400 2.42 4.43
Options granted in
November 1998 (101,400) 101,400 4.00 1.67
---------- --------- --------- --------- ---------
Balances, December 31, 1998 823,200 176,800 3.33 2.85 4.7 Years
Options forfeited 19,500 (19,500) 3.33 2.85 --
Options granted in
December 1999 (40,000) 40,000 5.00 2.27 --
---------- --------- --------- --------- ---------
Balances, December 31, 1999 802,700 197,300 $ 3.67 $ 2.73 3.9 Years
========== ========= ========= ========= =========
The following table summarizes information about stock options outstanding as of
December 31, 1999:
Options Outstanding Options Exercisable
---------------------------------------- ------------------------------
Weighted
Number Average
Outstanding Remaining Weighted Number Weighted
Exercise as of Contractual Average Exercisable as Average
Price 12/31/1999 Life Exercise Price of 12/31/1999 Exercise Price
----- ---------- ---- -------------- ------------- --------------
$ 2.42 67,100 3.5 Years $ 2.42 16,000 $ 2.42
$ 4.00 90,200 4.1 Years $ 4.00 21,500 $ 4.00
$ 5.00 40,000 3.9 Years $ 5.00 -- $ 5.00
------- -------
197,300 37,500
======= =======
F-20
PACIFIC MAGTRON INTERNATIONAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Under the terms of the Plan, options are exercisable as determined by the Board
of Directors on the date of grant and expire from four to five years from the
date of grant. The Company applies Accounting Principles Board (APB) No. 25,
Accounting for Stock Issued to Employees, and related Interpretations in
accounting for the plan. Under APB Opinion No. 25, because the exercise price of
the Company stock options equals or exceeds the estimated fair value of the
underlying stock on the date of grant, no compensation cost is recognized.
FASB Statement No. 123, Accounting for Stock-Based Compensation, requires the
Company to provide pro forma information regarding net income and earnings per
share as if compensation cost for the Company's stock option plan had been
determined in accordance with the fair value based method prescribed in SFAS No.
123. The Company estimates the fair value of stock options at the grant date by
using the Black-Scholes option pricing-model with the following weighted-average
assumptions used for grants in 1999 and 1998: no dividend yield; expected
volatility of 61% and 54%; risk-free interest rates of 5.9% and 5.7%; and
expected lives of three years for all plan options.
Under the accounting provisions of FASB Statement No. 123, the Company's net
income and earnings per share would have been reduced to the pro forma amounts
indicated below:
Year ending December 31, 1999 1998
- - ------------------------ ---------- ----------
Net income:
As reported $ 827,300 $1,775,700
========== ==========
Pro forma $ 719,000 $1,694,800
========== ==========
Basic and diluted earnings per share:
As reported $ 0.08 $ 0.19
========== ==========
Pro forma $ 0.07 $ 0.18
========== ==========
F-21
PACIFIC MAGTRON INTERNATIONAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
12. STATEMENTS OF CASH FLOWS
Cash was paid during the years ended December 31, 1999, 1998 and 1997 for:
Years ending December 31, 1999 1998 1997
- - ------------------------- ---------- ---------- ----------
Income taxes $ 447,000 $1,242,500 $1,345,400
========== ========== ==========
Interest $ 269,800 $ 278,600 $ 238,600
========== ========== ==========
As discussed in Note 11, non cash financing activities in 1999 and 1998 resulted
from the issuance of 100,000 shares of its common stock to an unrelated party
under the terms of a consulting agreement.
As discussed in Note 11, non-cash financing activities in 1997 resulted from the
conversion of shareholder notes in the amount of $153,100.
As discussed in Note 4, non-cash investing and financing activities in 1997
resulted from obtaining financing of $3,498,000 for the purchase of the
Company's office facility and applying a deposit made in 1996 to the purchase
price.
13. EQUITY INVESTMENT
In May 1999, the Company and Rising Edge Technologies, Ltd., a corporation based
in Taiwan ("Rising Edge"), entered into an Operating Agreement with LEA
Publishing, LLC, a California limited liability company ("LEA") formed in
January 1999. The objective of LEA is to provide internet users, resellers and
providers advanced solutions and applications. LEA is developing various
software products. The Company and Rising Edge each own a 50% interest in LEA.
The brother of a director, officer and principal shareholder of the company is
also a director, officer and the sole shareholder of Rising Edge. The Company is
accounting for its investment in LEA by the equity method whereby 50% of the
equity interest in the net income or loss of LEA flows through to the Company.
F-22
PACIFIC MAGTRON INTERNATIONAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In November 1999, LEA entered into a software development contract with Rising
Edge which calls for the development of certain internet software for a $940,000
fee. Of this amount, the contract specifies that $440,000 shall be applied to
services performed in 1999 and $500,000 shall be applied to services to be
performed in 2000. Included in prepaid expenses and other current assets at
December 31, 1999 is $250,000 advanced directly to Rising Edge by the Company,
representing the Company's portion of the software development fees for 2000.
For the year ended December 31, 1999, the Company's equity loss in its
investment in LEA was $222,400.
In November 1999, the Company also advanced $500,000 to Rising Edge as a deposit
on a 25% ownership interest in Rising Edge common stock. The investment is
contingent upon the execution of a Share Purchase Agreement and consent by the
government of Taiwan. Once this investment is finalized, the Company will have
62.5% combined direct and indirect ownership interest in LEA, which will then
require the consolidation of LEA with the Company. At December 31, 1999, the
$500,000 deposit on the investment in Rising Edge is included in deposits and
other assets.
14. SEGMENT INFORMATION - (UNAUDITED)
The Company has three reportable segments: PMI, Frontline and LEA. PMI imports
and distributes electronic products, computer components, and computer
peripheral equipment to various customers throughout the United States.
Frontline serves the networking and personal computer requirements of corporate
customers. LEA is developing advanced solutions and applications for internet
users, resellers and providers. The accounting policies of the segments are the
same as those described in the summary of significant accounting policies. The
Company evaluates performance based on income or loss before income taxes, not
including nonrecurring gains or losses. Intersegment transfers between PMI and
Frontline have been insignificant. The Company's reportable segments are
strategic business units that offer different products and services. They are
managed separately because each business requires different technology and
marketing strategies.
On March 17, 2000, the Company's $500,000 deposit on an investment in Rising
Edge (Note 13) was refunded due to the uncertainty as to when and if this
investment will be finalized.
F-23
PACIFIC MAGTRON INTERNATIONAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following table presents information about reported segment profit or loss
and segment assets for the year ended December 31, 1999:
PMI Frontline LEA Totals
------------ ------------- ---------- -------------
Revenues from external customers $100,238,000 $ 4,700,700(1) $ $ 104,938,700
Interest income 194,900 -- -- 194,900
Interest expense 269,800 -- -- 269,800
Depreciation and amortization 180,100 7,300 -- 187,400
Segment income or (loss)
before income taxes 1,572,400 49,800 (444,800) 1,177,400
Equity in loss in investment in LEA -- -- (222,400) (222,400)
Segment assets 18,865,000 2,046,400 -- 20,911,400
Expenditures for segment assets 706,600 69,300 -- 775,900
The following table presents information about reported segment profit or loss
and segment assets for the year ended December 31, 1998:
PMI Frontline Totals
------------ ---------- ------------
Revenues from external customers $103,907,200 $1,524,000(1) $105,431,200
Interest income 177,400 -- 177,400
Interest expense 278,600 -- 278,600
Depreciation and amortization 131,400 500 131,900
Segment income before income taxes 2,957,700 21,100 2,978,800
Segment assets 20,200,200 908,200 21,108,400
Expenditures for segment assets 48,100 7,000 55,100
(1) Includes service revenues of $241,800 and $115,600 in 1999 and 1998,
respectively.
F-24
PACIFIC MAGTRON INTERNATIONAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following is a reconciliation of reportable segment income before income
taxes and total assets to the Company's consolidated totals:
1999 1998
----------- -----------
Income before Income Taxes:
Total income before income taxes for
reportable segments $ 1,777,400 $ 2,978,800
Rising edge equity in loss in investment in LEA 222,400 --
Other losses (15,000) --
----------- -----------
Consolidated income before income taxes $ 1,384,800 $ 2,978,800
=========== ===========
Assets:
Total assets for reportable segments $20,911,400 $21,108,400
Other assets 502,400 --
Elimination of receivables from
corporate headquarters (724,800) --
----------- -----------
Consolidated total assets $20,689,000 $21,108,400
=========== ===========
The total of reportable segment revenues equals the Company's consolidated
revenues in 1999 and 1998. There were no reportable segments during the year
ended December 31, 1997.
15. SUBSEQUENT EVENT
On January 20, 2000, the Company acquired in a private placement 485,900 shares
of convertible preferred stock of a nonpublic company, ClickRebates.com, for
approximately $250,000 under the terms of a Series A Preferred Stock Purchase
Agreement. The Company's investment in ClickRebates.com, which represents
approximately 8% of the 3 million preferred stock offering, will be accounted
for using the cost method.
F-25
PACIFIC MAGTRON INTERNATIONAL CORP.
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
Charged
to Costs Writeoffs
Beginning and of Ending
Balance Expense Accounts Balance
--------- --------- ---------- ---------
Allowance for Doubtful Accounts:
Year ended December 31, 1997 $ 56,900 $ 299,000 $ (242,800) $ 113,100
Year ended December 31, 1998 113,100 46,300 (9,400) 150,000
Year ended December 31, 1999 $ 150,000 $ 457,500 $ (457,500) $ 150,000
F-26