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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
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FORM 10-K
/X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED SEPTEMBER 30, 1998
OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
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COMMISSION FILE NUMBER: 000-28052
EN POINTE TECHNOLOGIES, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 75-2467002
(State or other jurisdiction of (I.R.S. Employer Identification
incorporation or organization) No.)
100 NORTH SEPULVEDA BOULEVARD, 19TH FLOOR, EL SEGUNDO, CALIFORNIA 90245
(Address of principal executive offices)
Registrant's telephone number, including area code: (310) 725-5200
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Securities registered pursuant to Section 12(b) of the Act:
TITLE OF EACH CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED
None None
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, PAR VALUE $.001 PER SHARE
(Title of Class)
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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. / /
The aggregate market value of the voting stock held by non-affiliates of the
Registrant, based upon the closing sales price of the Common Stock as of
December 22, 1998, was approximately $16,414,313.
The number of outstanding shares of the Registrant's Common Stock as of
December 22, 1998 was 5,934,635.
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DOCUMENTS INCORPORATED BY REFERENCE
PORTIONS OF REGISTRANT'S PROXY STATEMENT FOR THE 1999 ANNUAL MEETING OF
STOCKHOLDERS (TO BE FILED WITH THE COMMISSION ON OR BEFORE JANUARY 28, 1999):
PART III, ITEMS 10-13.
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PART I
THIS ANNUAL REPORT ON FORM 10-K CONTAINS FORWARD-LOOKING STATEMENTS RELATING TO
FUTURE EVENTS OR THE FUTURE FINANCIAL PERFORMANCE OF THE COMPANY, INCLUDING BUT
NOT LIMITED TO STATEMENTS CONTAINED IN "FACTORS WHICH MAY AFFECT FUTURE
OPERATING RESULTS," "ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS" AND "BUSINESS." READERS ARE CAUTIONED THAT
SUCH STATEMENTS, WHICH MAY BE IDENTIFIED BY WORDS INCLUDING "ANTICIPATES,"
"BELIEVES," "INTENDS," "ESTIMATES," "EXPECTS," AND SIMILAR EXPRESSIONS, ARE ONLY
PREDICTIONS OR ESTIMATIONS AND ARE SUBJECT TO KNOWN AND UNKNOWN RISKS AND
UNCERTAINTIES. IN EVALUATING SUCH STATEMENTS, READERS SHOULD CONSIDER THE
VARIOUS FACTORS IDENTIFIED IN THIS ANNUAL REPORT ON FORM 10-K, INCLUDING MATTERS
SET FORTH IN "FACTORS WHICH MAY AFFECT FUTURE OPERATING RESULTS," WHICH COULD
CAUSE ACTUAL EVENTS, PERFORMANCE OR RESULTS TO DIFFER MATERIALLY FROM THOSE
INDICATED BY SUCH STATEMENTS
References made in this Annual Report on Form 10-K to "En Pointe Technologies"
or "En Pointe" or the "Company" refer to En Pointe Technologies, Inc. and its
subsidiaries. The following En Pointe Technologies trademarks are mentioned or
referred to in this Annual Report: En Pointe Technologies-Registered Trademark-
and the Building Blocks design-Registered Trademark- are registered trademarks
of the Company, and ReqBuilder-TM-, Traconnect-TM- and Firstsource.com-TM- are
trademarks of the Company.
ITEM 1. BUSINESS
En Pointe Technologies, Inc. ("En Pointe") or the ("Company") is a national
provider of information technology products and value-added services to large
and medium sized companies and government entities. The Company has deployed a
"business-to-business" electronic commerce process that capitalizes on the
Company's proprietary information systems and the extensive warehousing,
purchasing and distribution functions of its allied national distributors of
information technology products. En Pointe's proprietary information systems
enable the Company to establish effective online communication links with its
sales representatives, selected distributors and certain customers that provide
pricing and availability information on a broad range of information technology
products from multiple sources. By leveraging these systems and its distributor
relationships, the Company provides customers access to an extensive range of
products at competitive prices, without assuming the risks and costs associated
with maintaining significant product inventories. En Pointe has recently
targeted the small business and consumer markets with an enhanced version of its
existing electronic commerce business system.
INDUSTRY OVERVIEW
The markets for information technology products and services are expected to
continue to experience significant growth over the next few years. According to
DataQuest, Inc. ("DataQuest"), a leading industry market research firm, the U.S.
market for personal computers is expected to increase from $79 billion in 1998
to $103.0 billion in 2001, a compound annual growth rate of 9% The Company
believes that the leading factors driving the growth in these markets are the
continued transition to distributed computing technologies such as
client/server, increased networking of personal computers into local area
networks ("LANs") and wide area networks ("WANs"), increased use of the Internet
and growing use of intranets in corporate environments.
Significant price competition and abbreviated product lifecycles have forced
information technology product manufacturers to pursue lower cost manufacturing,
assembly and distribution strategies. Additionally, certain product
manufacturers have elected to outsource the related integration, installation
and maintenance of their products to third party providers. Wholesale
distributors, which inventory products
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from multiple vendors and sell to resellers as well as corporate resellers, who
in turn sell directly to corporate end users and provide related information
technology services, have emerged as direct beneficiaries of these trends.
Several changes in the marketplace have resulted from manufacturers'
utilization of the information technology distribution channel and their
continued efforts to improve their cost structure. First, the wholesale
distributor and reseller markets have experienced consolidations. The high fixed
costs associated with maintaining multiple warehouses and adequate inventory,
and the shift by manufacturers from exclusive distribution partners to "open
sourcing" have forced a number of companies to align their businesses with
financially stronger partners. Second, the significant working capital required
to carry large in-stock product inventories and the reductions in inventory
price protection and in free financing by manufacturers have caused many
resellers to adjust their current business models. Due to the working capital
and risk related to stocking inventories, many corporate distributors and
resellers often have neither the volume nor the range of products to fill
customer demands. Third, several product manufacturers have capitalized on their
demand-driven operating model and direct selling efforts to capture market share
from other manufacturers and corporate resellers.
In response to these changing market dynamics, En Pointe believes the
information technology product industry, and particularly corporate resellers,
will increasingly rely on electronic commerce to procure and deliver products
efficiently. The Company believes the ability to quickly access product
information, order and track products electronically, as well as to transact
business over the Internet will provide a competitive advantage for corporate
resellers. Additionally, the Company believes the ability of resellers to
integrate electronically with end users and to provide seamless access for
product specifications, pricing, availability and order tracking will enhance
customer relationships and improve customer retention.
The decision making process that confronts organizations when planning,
selecting and implementing information technology solutions is growing more
complex. Organizations must select from numerous product options that have
briefer lifecycles. Organizations are continually faced with technology
obsolescence and must design new networks, upgrade and migrate to new systems.
According to The Gartner Group, an information technology research firm, the
total cost of ownership of a personal computer over its lifetime may be as much
as five times the initial capital expense. As a result, corporate resellers are
attempting to capitalize on their customer relationships, initially developed
through product procurement, in order to provide related value-added services.
These may include installation, pre- and post-sale technical support,
integration and maintenance services, as well as higher-end service offerings,
such as network and asset management, consulting and application development.
En Pointe believes a trend is emerging for the final assembly of certain
information technology products to be performed by third parties, including
corporate resellers and distributors. To compete more effectively and lower
their costs, several manufacturers have taken significant steps to reduce their
own inventories, and those of their distribution partners, by implementing a
build-to-order manufacturing process. Final product assembly may now be
performed by corporate resellers and distributors, rather than in-house under
the build-to-forecast methodology traditionally employed by these manufacturers.
THE EN POINTE BUSINESS MODEL
En Pointe's growth since its inception is attributable to its electronic
commerce business model, which features (i) a low cost overhead structure
resulting from the automation of many management and operating functions; (ii)
sophisticated proprietary information systems that enable En Pointe to provide
enhanced customer service; and (iii) reduced working capital requirements by
leveraging its virtual inventory model and its allied distributor relationships.
The Company seeks to maintain a low-cost overhead structure through the
automation of many of its management and operating functions. En Pointe has
developed and used proprietary information systems
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to monitor sales, product returns, profitability and accounts receivable at the
sales representative, sales office and customer levels. Additionally, the
Company has integrated product purchasing and customer invoicing into its
information systems to expedite procurement and billing. The Company believes
that this level of automation allows it to operate more efficiently and to
provide its customers with competitive pricing and quality service.
An integral component of the Company's business model is its ability to
access an extensive virtual inventory of information technology products stocked
by a number of distributors through its proprietary information systems. These
information systems make available to the Company's sales representatives and
certain customers, product pricing and availability data, downloaded on a daily
basis, from several large distributors including Ingram Micro Inc. ("Ingram
Micro"), InaCom Corp. ("InaCom"), Pinacor, Inc. ("Pinacor"), Merisel Americas,
Inc. ("Merisel"), Synnex Information Technologies, Inc. ("Synnex") and Tech Data
Corporation ("Tech Data") (the "allied distributors"). The data provided by En
Pointe's information systems allows its sales representatives to design each
customer's order according to the particular needs of that customer. If
obtaining the best price for a particular product is the customer's primary
objective, En Pointe's information systems allow the sales representative to
identify which of the allied distributors can supply the desired product at the
best price. If immediate availability of products is the primary objective, then
the Company's information systems can indicate the availability of products from
various allied distributors at different warehouse locations across the country,
and the order can be placed at the location that can deliver the desired
products in the shortest time possible. Furthermore, the Company's proprietary
information systems allow customers to place a single order that may include a
number of different products from multiple manufacturers or distributors. Each
product ordered might ship overnight to a desired integration center or directly
to the customer's location for delivery to the end user. En Pointe's systems can
therefore reduce the number of unfulfilled customer orders and the need to
back-order products.
The third element of the Company's business model is to reduce its working
capital requirements by leveraging its virtual inventory model and utilizing the
extensive warehousing, purchasing and distribution functions of its allied
distributors. Since inception, the Company has been an innovator in using the
drop shipping capabilities of its distributors to avoid many of the costs and
risks associated with maintaining inventory, which also enables the Company to
quickly adapt to changing market demands. As product proliferation has occurred,
En Pointe's limited inventory model has given it a competitive advantage with
respect to price and availability on a broad range of products without the costs
and risks associated with carrying large amounts of physical inventory. The
Company believes its business model allows it to increase sales without a
significant capital investment in inventory. The model has been apt to date.
However, the Company believes that it will be required to develop and execute a
plan to restructure its operations which includes the cost of a restructuring of
the Ontario facility, in order to remain competitive. As a result of this plan,
a charge, which may be material but which cannot now be quantified, is expected
to be recognized in the period when such a restructuring and plan are approved
by the Board of Directors. See "Liquidity and Capital Resources."
PROPRIETARY INFORMATION SYSTEMS
The development and function of the Company's proprietary information
systems have been important factors in its success. These information systems
provide online access to the collective inventory and pricing information of the
allied distributors for all of the Company's sales offices, as well as for
certain customers. These information systems are installed at the Company's
sales offices and can also be installed, if desired, directly at a customer's
facility. They enable the Company's sales representatives and customers to
access product pricing and availability by manufacturer, part number or product
description, and provide detailed product specifications for most major
manufacturers. Customers can then directly enter orders online, check the status
of their orders (including those being integrated by En Pointe at its Ontario,
California facility), access prior orders and serial numbers by purchase order
numbers, check on back-
3
ordered products and verify FedEx and UPS tracking and shipping numbers. The
Company's systems can also provide the customer with customized reports showing
invoice, purchase order, price, ship-to address, serial numbers, dates and
totals of the products purchased from En Pointe.
In June 1998, the Company deployed its next generation of proprietary
software at its Internet focused subsidiary Purchase Pointe, Inc. dba
Firstsource.com. This new generation is designed to offer greater functionality
than previous applications and will provide Firstsource.com the improved
operational and marketing capabilities needed to address the small business and
consumer markets. Its architecture permits Firstsource.com's customers and sales
representatives easy access to the inventory and pricing information of the
allied distributors. Internet accessibility is a key feature of this version.
In addition, the Company continues to focus on the development of other
value-added software applications that will improve customer accessibility to
its software as well as enhance its customer service capabilities. ReqBuilder
and TracConnect are two recent developments that add to the Company's customer
service capabilities. TracConnect is a web based front end to the Company's
proprietary software that allows a customer to generate product quotes, place
orders, and follow shipments remotely from the customer's site via the Internet.
ReqBuilder is a proprietary En Pointe application that will assist the Company's
customers in standardizing and streamlining their product procurement process
over a web-accessible platform. See "Factors Which May Affect Future Operating
Results--Risks Associated With Dependence on Proprietary Technology".
PRODUCTS AND VALUE-ADDED SERVICES
The majority of En Pointe's sales to date have been attributable to the
resale of information technology products. The Company currently makes available
to its customers an extensive selection of products at what it believes to be a
competitive combination of price and availability. The Company currently offers
over 36,000 information technology products from over 700 manufacturers,
including International Business Machines Corporation ("IBM"), Compaq Computer
Corporation ("Compaq"), Hewlett Packard Company ("Hewlett Packard" or "HP"),
Dell Computer Corporation, ("Dell"), Apple Computer ("Apple"), 3Com Corp.
("3Com"), Microsoft Corp. ("Microsoft"), Toshiba Corp., NEC Corp., Novell, Inc.
("Novell"), Kingston Technology Corporation, Lexmark International Group, Inc.,
Sony Corporation and Bay Networks, Inc. The Company is also certified as a
Microsoft Senior Partner. Products offered by the Company include desktop and
laptop computers, monitors, servers, memory, midrange systems, peripherals and
operating system and application software. Products manufactured by IBM, Compaq
and Hewlett Packard accounted for 26.5%, 19.8% and 17.4%, respectively, of the
Company's net sales in fiscal 1998.
VALUE-ADDED SERVICES
The Company believes it can provide value to its customers not only by
offering an extensive selection of products from a variety of manufacturers and
distributors, but also by offering related value-added services. The gross
profit margin on the value-added services the Company currently offers is
significantly higher than the gross profit margin on the Company's information
technology products reselling business. The Company has traditionally provided
many of these services via out-sourcing arrangements with third parties;
however, in order to further promote the value-added portion of its business, it
has expanded its internal service capabilities. En Pointe is focusing on
technical services and professional and consulting services. The Company
provides these services through defined contracts as well as on a time-and-
materials basis. Currently, value-added services account for less than 3% of net
sales, but are increasing as a result of the Company's continuing investments in
this portion of its business.
The Company's technical services include installation, pre- and post-sale
technical support, network design, maintenance, product integration, on- site
technical staffing and project rollouts. The ability to configure product orders
has become increasingly important to En Pointe's targeted customer base and, in
4
response to increased demand, the Company opened its new integration center in
Ontario, California in July 1998. This new facility provides the Company with a
greater integration capacity, as well as enables it to offer board level repair
and maintenance services. The Company's project rollout services generally
involve the procurement of large volumes of computer equipment with standard
integrations, delivered on a specific timetable over a relatively short period
of time. Rollout projects may include support capabilities such as project
management, product scheduling, software loading and testing, coordinating
shipments to multiple customer locations and overall quality control.
En Pointe's professional and consulting services currently include LAN/WAN
integration, website development, mid-range systems consulting and special
projects. Its LAN/WAN integration services include consultation regarding
communication equipment requirements, configuring proposed solutions, systems
integration, installation and training. The Company's mid-range system
consulting services involve the deployment and integration of RISC-based
platforms. To support these services, En Pointe personnel participate in
software solution provider certification and authorization programs. En Pointe
currently has attained the following nationwide certifications and designations:
Microsoft Windows NT Certified, 3Com NETBuilder II and LinkBuilder III GH
Authorized, DEC Alpha and IBM RS 6000/AIS. In addition, the Company is
authorized to provide HP 9000 and Sun Microsystems products in selected
locations and to selected market segments.
CUSTOMERS
The Company's business model has allowed it to capture the business of a
number of large and medium sized corporate and government customers. En Pointe's
policy is to attract major customers by offering them "cost plus" pricing; the
Company's cost plus an additional percentage negotiated with the customer. Once
the Company has been approved as a supplier to a customer, it seeks to capture a
significant portion of their business, which is typically spread over a number
of resellers. En Pointe believes that maintaining high customer satisfaction
will enable it to more effectively expand the range of value-added services it
provides to include sales of technical, consulting and customer information
services.
The entities listed below illustrate the wide range of customers that have
purchased information technology products and/or services from the Company
during fiscal 1998:
Kaiser-Hill IBM
CitiCorp Raytheon
Los Angeles County Union Planters
Northrop Fulton County
A substantial portion of the Company's net sales are derived under long term
contracts, typically of at least one to two years' duration. However, these
contracts are usually non-exclusive agreements that are terminable upon 30 days'
notice by either party. Purchases by customers are made using individual
purchase orders.
In 1995, the Company was one of three resellers awarded a three-year
non-exclusive national contract with IBM to supply information technology
products to IBM, its wholly owned subsidiaries, as well as certain operating
divisions and customers of IBM. IBM has extended the contract with no
termination date. For the fiscal years ended September 30, 1998, 1997, and 1996,
net sales to IBM and its customers accounted for approximately 21.4%, 29.6% and
28.3%, respectively, of the Company's net sales. See "Factors Which May Affect
Future Operating Results and Risks Associated With Dependence on Relationships
With IBM And Other Large Customers."
5
SALES AND MARKETING
The Company's sales efforts for most customers are based in the regional
sales offices, while certain larger customer relationships are maintained at the
Company's headquarters. En Pointe employed approximately 285 sales, marketing
and related support personnel as of November 30, 1998 in 21 sales offices
located throughout the U.S. (including its headquarters located in El Segundo,
California). All of En Pointe's sales personnel have access to the Company's
proprietary information systems, which allow them to focus more on sales and
less on the administrative tasks associated with processing orders. Although the
Company is highly reliant on its various automated systems, it believes in
maintaining a high level of personal interaction with customers to ensure their
complete satisfaction and loyalty.
The Company's practice is to hire experienced industry sales
representatives. Sales representatives are compensated based on the
profitability of their sales and their subsequent management of the account. En
Pointe typically will only guarantee the salary of a new sales representative
for several months, after which they are compensated solely on commission. This
compensation structure has been very successful for the Company, as the most
effective sales personnel enjoy a high level of compensation relative to the
industry average.
En Pointe currently has sales offices in Palo Alto, CA; Sacramento, CA;
Santa Ana, CA; San Diego, CA; Denver, CO; New York City, NY; Albany, NY; Austin,
TX; Dallas, TX; Houston, TX; Portland, OR; Salt Lake City, UT; Seattle, WA;
Chicago, IL; Atlanta, GA; Charlotte, NC; Minneapolis, MN; Boston, MA; Riverside,
CA; and Memphis, TN, in addition to its El Segundo-based sales force. The
Company has adopted an entrepreneurial approach with respect to its sales
offices. Local personnel are usually given a high degree of autonomy, including
limited pricing authority. Larger sales offices also have profit and loss
responsibility, with compensation of sales office managers tied to the
performance of their office.
En Pointe expanded its marketing reach into the small business and consumer
markets in June 1998 by establishing Firstsource.com, an emerging Internet
division for computer systems and related peripherals. With the rapid growth in
sales of technology products via the web, online business is consistent with En
Pointe's strategy to capture additional Internet sales.
DISTRIBUTION
Many resellers of information technology products have assumed some of the
functions of distributors, including stocking inventory, developing and
maintaining inventory control systems and establishing distribution systems. By
doing so, these resellers have incurred additional capital costs associated with
the warehousing of products, including the costs of leasing warehouse space,
maintaining inventory and tracking systems and employing personnel for stocking
and shipping duties. Furthermore, resellers that stock inventory risk
obsolescence costs, which the Company believes may be significant due to the
frequent product innovation, and associated product obsolescence, that
characterizes this market. These overhead and "touch" costs require many
resellers to incur expenses that En Pointe believes more than offset the
advantages of the lower purchase prices that those resellers may realize through
their direct purchasing relationships with manufacturers.
The Company's business model allows it to eliminate many overhead and
"touch" costs and risks. It has sought to take advantage of the operational
strengths of its allied distributors, who have developed extensive warehousing,
purchasing and distribution functions. As a result, En Pointe is able to reduce
its investment in product inventory and capital costs associated with these
"back office" functions, and can accept lower gross profit margins than many of
its competitors and still remain profitable.
En Pointe's ability to fill and deliver customer orders with an extremely
high degree of speed and accuracy is one key benefit of the Company's business
model. Its information systems, which include all order processing functions,
enable the Company to place orders on a same-day basis. Most orders for in-stock
product are picked, staged and drop shipped to the customer from the allied
distributor within 24
6
hours of receipt of order, and on the same business day for orders received by 2
p.m. Pacific Time. The standard delivery time is two to three business days. The
integration process will usually add a maximum of three business days. After an
order is entered, it is reviewed and approved at the Company's purchasing center
and transmitted electronically to the chosen distributor. Once the order is
shipped by the distributor, delivery information is downloaded by the Company
usually the day after the order is placed into its information systems. It then
uses that information to produce an invoice, which is sent to the customer. If a
customer places an order that cannot be filled by an individual distributor, En
Pointe will split the order among multiple distributors.
En Pointe's allied distributors currently fill most of its information
technology product orders. By choosing to rely on the physical inventory
strengths of its distributors, the Company is able to maximize its expertise and
concentrate on its more profitable activities: researching, specifying, and
recommending solutions to customers. After helping a customer select the most
appropriate technology, En Pointe's sales representatives use the Company's
proprietary information systems to determine the best combination of pricing and
availability for a wide variety of information technology products.
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COORDINATING AND OPTIMIZING PRODUCT DISTRIBUTION
Because En Pointe's sales representatives have the ability to access the
current inventory and availability records of its allied distributors, they are
able to determine which distributor can best supply the customer. Furthermore,
if any one distributor is unable to supply all of a customer's needs, En Pointe
is generally able to fill the order using multiple allied distributors. To
facilitate product distribution to its customers, En Pointe uses various
carriers' (including FedEx and UPS) tracking software with tracking numbers
supplied by allied distributors to monitor shipments.
En Pointe has been able to successfully implement its strategy due in large
part to the close relationships it has developed with the allied distributors.
The Company has been able to maintain these relationships for several reasons,
most importantly the volume of business that it generates. This volume enables
En Pointe to negotiate with its allied distributors to receive discounts on
certain products, which the Company may pass along to its customers. As sales
have grown, En Pointe has been able to take advantage of these discounts as
wells as others provided by product manufacturers. The Company seeks to
participate in these discounts either directly through agreements with the
manufacturer, or indirectly as discounts are made available to distributors, who
in turn will pass a portion along to resellers. See "Factors Which May Affect
Future Operating Results--Risks Associated With Dependence on Distributors And
Manufacturers."
COMPETITION
En Pointe operates in a segment of the information technology industry that
is highly competitive. It competes with a large number and wide variety of
resellers of information technology products, including traditional personal
computer retailers, computer superstores, consumer electronics and office supply
superstores, mass merchandisers, corporate resellers, value-added resellers,
specialty retailers, distributors, franchisers, mail order and web order
companies. Increasingly, the competition also includes hardware manufacturers
and national computer retailers that have commenced marketing directly to end
users. Many of these companies compete principally on the basis of price and may
have lower costs than the Company, allowing them to offer the same products and
services at a lower price. Many of En Pointe's competitors are larger, have
substantially greater financial, technical, marketing and other resources, and
offer a broader range of value-added services. The Company competes with, among
others, CompuCom Systems, Inc. ("CompuCom"), Elcom International, Inc.
("Elcom"), Entex Information Services, Inc. ("Entex"), InaCom Corp. ("InaCom"),
MicroAge, Inc. ("MicroAge"), and CDW Computer Centers, Inc. ("CDW"). Dell
Computer Corporation ("Dell") and Gateway have demonstrated the ability of a
manufacturer-direct model to profitably gain market share, which has lead other
manufacturers (e.g. IBM, Compaq, and HP) to announce plans intended to reduce
the role of distributors and resellers, particularly in major accounts, which
are the Company's target market. En Pointe expects to face additional
competition from these manufacturers and other new market entrants in the
future.
Competitive factors include price, service and support, the variety of
products and value-added services offered, and marketing and sales capabilities.
While En Pointe believes that it competes successfully with respect to most--if
not all--of these factors, there can be no assurance that it will continue to do
so in the future. The information technology industry has come to be
characterized by aggressive price-cutting and the Company expects pricing
pressures will continue in the foreseeable future. In addition, the industry is
characterized by abrupt changes in technology and the associated inventory and
product obsolescence, rapid changes in consumer preferences, short product life
cycles and evolving industry standards. The Company will need to continue to
provide competitive prices, superior product selection and quick delivery
response time in order to remain competitive. If it were to fail to compete
favorably with respect to any of these factors, the Company's business,
financial position, results of operations and cash flows would be materially and
adversely affected. See "Industry Overview" and "Factors Which May Affect Future
Operating Results and Competition."
8
INTELLECTUAL PROPERTY
The Company's ability to effectively compete in its market will depend
significantly on its ability to protect its proprietary technology. While the
Company holds a copyright on some of its software, it does not have any patents
on any other proprietary technology which the Company believes to be material to
its future success. En Pointe relies primarily on trade secrets, proprietary
knowledge and confidentiality agreements to establish and protect its rights in
its proprietary technologies, and to maintain its competitive position. There
can be no assurance that others may not independently develop similar or
superior technologies, gain access to the Company's trade secrets or knowledge,
or that any confidentiality agreements between the Company and its employees
will provide meaningful protection for the Company in the event of any
unauthorized use or disclosure of its proprietary information.
There can be no assurance that the Company will not become subject to claims
of infringement involving its information systems, or any other system,
including its proprietary software. In addition, the Company may initiate claims
or litigation against third parties for infringement of the Company's
proprietary rights or to establish the validity of the Company's proprietary
rights. Any claims could be time consuming, result in costly litigation or lead
the Company to enter into royalty or licensing agreements rather than disputing
the merits of such claims.
The Company conducts its business under the trademark and service mark "En
Pointe Technologies" as well as its logo and other marks. It has been issued
registrations for its "En Pointe" and "Building Blocks" marks in the United
States and has pending registrations in Canada, Mexico and the European
Community. En Pointe does not believe that its operations are dependent upon any
of its trademarks or service marks. It also sells products and provides services
under various trademarks, service marks, and trade names that are the property
of owners other than the Company. These owners have reserved all rights with
respect to their respective trademarks, service marks, and trade names. See
"Factors Which May Affect Future Operating Results and Risks Associated With
Dependence on Proprietary Technology".
EMPLOYEES
As of November 30, 1998, En Pointe employed approximately 633 individuals,
including approximately 285 sales, marketing and related support personnel, 142
service and support personnel, 49 warehousing/manufacturing/test personnel and
157 employees in MIS, administration and finance. The Company believes that its
ability to recruit and retain highly skilled MIS technical and other management
personnel will be critical to its ability to execute its business model and
growth strategy. None of the Company's employees are represented by a labor
union or are subject to a collective bargaining agreement. The Company believes
that its relations with its employees are good.
FACTORS WHICH MAY AFFECT FUTURE OPERATING RESULTS IN ADDITION TO THE
INFORMATION SET FORTH ELSEWHERE IN THIS ANNUAL REPORT ON FORM 10-K, THE
FOLLOWING FACTORS SHOULD BE CONSIDERED CAREFULLY IN EVALUATING THE COMPANY AND
ITS BUSINESS.
FACTORS WHICH MAY AFFECT FUTURE OPERATING RESULTS
IN ADDITION TO THE INFORMATION SET FORTH ELSEWHERE IN THIS ANNUAL REPORT ON
FORM 10-K, THE FOLLOWING FACTORS SHOULD BE CONSIDERED CAREFULLY IN EVALUATING
THE COMPANY AND ITS BUSINESS.
THIS ANNUAL REPORT ON FORM 10-K CONTAINS FORWARD-LOOKING STATEMENTS WITHIN
THE MEANING OF SECTION 27A OF THE SECURITIES ACT OF 1993 AND SECTION 21E OF THE
SECURITIES EXCHANGE ACT OF 1934. IN LIGHT OF THE IMPORTANT FACTORS THAT CAN
MATERIALLY AFFECT RESULTS, INCLUDING THOSE SET FORTH IN THIS PARAGRAPH AND
BELOW, THE INCLUSION OF FORWARD-LOOKING INFORMATION HEREIN SHOULD NOT BE
REGARDED AS A REPRESENTATION BY THE COMPANY OR ANY
9
OTHER PERSON THAT THE OBJECTIVES OR PLANS FOR THE COMPANY WILL BE ACHIEVED. THE
COMPANY MAY ENCOUNTER COMPETITIVE, TECHNOLOGICAL, FINANCIAL AND BUSINESS
CHALLENGES MAKING IT MORE DIFFICULT THAN EXPECTED TO CONTINUE TO RESELL
INFORMATION TECHNOLOGY PRODUCTS; THE COMPANY MAY BE UNABLE TO RETAIN EXISTING
KEY SALES, TECHNICAL AND MANAGEMENT PERSONNEL; THERE MAY BE OTHER MATERIAL
ADVERSE CHANGES IN THE INFORMATION TECHNOLOGY INDUSTRY OR IN THE COMPANY'S
OPERATIONS OR BUSINESS, AND ANY OR ALL OF THESE FACTORS MAY AFFECT THE COMPANY'S
ABILITY TO CONTINUE ITS CURRENT RATE OF SALES GROWTH OR MAY RESULT IN LOWER
SALES VOLUME THAN CURRENTLY EXPERIENCED.
CERTAIN IMPORTANT FACTORS AFFECTING THE FORWARD-LOOKING STATEMENTS MADE
HEREIN INCLUDE, BUT ARE NOT LIMITED TO (I) A SIGNIFICANT PORTION OF THE
COMPANY'S SALES CONTINUING TO BE TO CERTAIN LARGE CUSTOMERS, (II) CONTINUED
DEPENDENCE BY THE COMPANY ON CERTAIN ALLIED DISTRIBUTORS, (III) CONTINUED
DOWNWARD PRICING PRESSURES IN THE INFORMATION TECHNOLOGY MARKET, (IV) THE
LIMITED PRIOR EXPERIENCE OF THE COMPANY IN THE PROVISION OF VALUE-ADDED SERVICES
AND (V) THE DECISION BY THE COMPANY TO EXPAND ITS SALES FORCE INTO VARIOUS NEW
GEOGRAPHIC TERRITORIES. ASSUMPTIONS RELATING TO BUDGETING, MARKETING, AND OTHER
MANAGEMENT DECISIONS ARE SUBJECTIVE IN MANY RESPECTS AND THUS SUSCEPTIBLE TO
INTERPRETATIONS AND PERIODIC REVISIONS BASED ON ACTUAL EXPERIENCE AND BUSINESS
DEVELOPMENTS, THE IMPACT OF WHICH MAY CAUSE THE COMPANY TO ALTER ITS MARKETING,
CAPITAL EXPENDITURE OR OTHER BUDGETS, WHICH MAY IN TURN AFFECT THE COMPANY'S
BUSINESS, FINANCIAL POSITION, RESULTS OF OPERATIONS AND CASH FLOWS. THE READER
IS THEREFORE CAUTIONED NOT TO PLACE UNDUE RELIANCE ON FORWARD-LOOKING STATEMENTS
CONTAINED HEREIN, WHICH SPEAK AS OF THE DATE OF THIS ANNUAL REPORT ON FORM 10-K.
RISKS ASSOCIATED WITH DEPENDENCE ON RELATIONSHIP WITH IBM AND OTHER LARGE
CUSTOMERS.
For the years ended September 30, 1998, 1997 and 1996, net sales to IBM and
certain IBM customers under the Company's current contract with IBM accounted
for approximately 21.4%, 29.6% and 28.3% respectively, of the Company's net
sales. The Company's contracts for the provision of products or services,
including its contract with IBM, are generally non-exclusive agreements that are
terminable by either party upon 30 days notice. The loss of IBM or any other
large customer, the failure of IBM or any other large customer to pay its
accounts receivable on a timely basis, or a material reduction in the amount of
purchases made by IBM or any other large customer could have a material adverse
effect on the Company's business, financial position, results of operations and
cash flows. The inability of the Company to maintain the renewed contract would
have a material adverse impact on the Company's business, financial position,
results of operations and cash flows. See "Business--Customers."
RISKS ASSOCIATED WITH DEPENDENCE ON DISTRIBUTORS AND MANUFACTURERS
A key element of the Company's past success and future business strategy
involves the establishment of alliances with certain large distributors of
information technology products and services, including Ingram Micro, InaCom,
Pinacor, Merisel, Synnex and Tech Data. These alliances enable the Company to
make available to its customers a wide selection of products without subjecting
the Company to many of the costs and risks associated with maintaining large
amounts of inventory. Products and services purchased from two allied
distributors, Ingram Micro and InaCom, accounted for 63.3% of the Company's
aggregate purchases in fiscal 1998. Certain allied distributors provide the
Company with substantial
10
incentives in the form of allowances passed through from manufacturers,
discounts, credits and cooperative advertising, which incentives directly affect
the Company's operating income. There can be no assurance that the Company will
continue to receive such incentives in the future and any reduction in the
amount of these incentives could have a material adverse effect on the Company's
business, financial position, results of operations and cash flows. Furthermore,
the Company directly competes with certain allied distributors for many of the
same customers and therefore there can be no assurance that any such allied
distributor will not use its position as a key supplier to the Company to
pressure the Company from directly competing with it. Substantially all of the
Company's contracts with its allied distributors are terminable by either party
upon 30 days' notice or less and several contain minimum purchase volume
requirements as a condition to providing discounts to the Company. The
termination or interruption of the Company's relationships with any of the
allied distributors, modification of the terms or discontinuance of agreements
with any of the allied distributors, failure to meet minimum purchase volume
requirements, or the failure to establish a good working relationship with any
significant new distributor of information technology products could materially
adversely affect the Company's business, financial position, results of
operations and cash flows. See "Business--Distribution."
Certain of the products offered by the Company are subject to manufacturer
allocations, which limit the number of units of such products available to the
allied distributors, which in turn may limit the number of units available to
the Company for resale to its customers. In addition, because certain products
offered by the Company are subject to manufacturer or distributor allocations,
which limit the number of units of such products available to the Company for
resale to its customers, there can be no assurance that the Company will be able
to offer popular new products or product enhancements to its customers in
sufficient quantity or in a timely manner to meet demand. In order to offer the
products of most manufacturers, the Company is required to obtain authorizations
from such manufacturers to act as a reseller of such products, which
authorizations may be terminated at the discretion of the manufacturers. As
well, certain manufacturers provide the Company with substantial incentives in
the form of allowances, financing, rebates, discounts, credits and cooperative
advertising, which incentives directly affect the Company's operating income.
There can be no assurance that the Company will continue to receive such
incentives in the future and any reduction in the in these incentives could have
a material adverse effect on the Company's business, financial position, results
of operations and cash flows. There can be no assurance that the Company will be
able to obtain or maintain authorizations to offer products, directly or
indirectly, from new or existing manufacturers.
Termination of the Company's rights to act as a reseller of the products of
one or more significant manufacturers or the failure of the Company to gain
sufficient access to such new products or product enhancements could have a
material adverse effect on the Company's business, financial position, results
of operations and cash flows. See "Business--Products and Value-Added Services."
Recent changes in the information technology industry, especially pressure
on gross profit margins, has adversely affected a number of distributors of
information technology products, including certain allied distributors. There
can be no assurance that the continuing evolution of the information technology
industry will not further adversely affect the Company's distributors. Because
the Company's overall business strategy depends on the Company's relationships
with the allied distributors, the Company's business, financial position,
results of operations and cash flows would be materially adversely affected in
the event that distributors in general and allied distributors in particular
continue to suffer adverse consequences due to ongoing changes in the
information technology industry. There has recently been a consolidation trend
in the information technology industry, including consolidation among
distributors of information technology products. Because the Company's business
model is dependent upon the availability of a number of information technology
product distributors, any further consolidation would result in fewer
distributors available to supply products to the Company, which could have a
material adverse impact on the Company's business, financial position, results
of operations and cash flows. See "Business-- Industry Overview."
11
COMPETITION
The segment of the information technology industry in which the Company
operates is highly competitive. The Company competes with a large number and
wide variety of resellers of information technology products, including
traditional personal computer retailers, computer superstores, consumer
electronics and office supply superstores, mass merchandisers, corporate
resellers, value-added resellers, specialty retailers, distributors,
franchisers, mail-order and web-order companies, manufacturers and national
computer retailers which have commenced their own direct marketing operations to
end-users. Many of these companies compete principally on the basis of price and
may have lower costs than the Company, which allow them to offer the same
products and services at a lower price. Many of the Company's competitors are
larger, have substantially greater financial, technical, marketing and other
resources and offer a broader range of value-added services than does the
Company. The Company competes with, among others, CompuCom, Dell, Elcom, Entex,
Gateway, InaCom, MicroAge, and CDW. The Company expects to face additional
competition from new market entrants in the future.
Competitive factors include price, service and support, the variety of
products and value-added services offered, and marketing and sales capabilities.
While the Company believes that it competes successfully with respect to most,
if not all of these factors, there can be no assurance that it will continue to
do so in the future. The information technology industry has come to be
characterized by aggressive price-cutting and the Company expects pricing
pressures will continue in the foreseeable future. In addition, the information
technology products industry is characterized by abrupt changes in technology
and associated inventory and product obsolescence, rapid changes in consumer
preferences, short product life cycles and evolving industry standards. The
Company will need to continue to provide competitive prices, superior product
selection and quick delivery response time in order to remain competitive. If
the Company were to fail to compete favorably with respect to any of these
factors, the Company's business, financial position, results of operations and
cash flows would be materially and adversely affected. See "Business--Industry
Overview" and "--Competition."
RISKS ASSOCIATED WITH INDUSTRY EVOLUTION AND PRICE REDUCTIONS; CHANGING METHODS
OF DISTRIBUTION
The information technology industry is undergoing significant change. The
industry has become more accepting of large-volume, cost-effective channels of
distribution and accordingly such channels have proliferated. In addition, many
traditional computer resellers are consolidating operations and acquiring or
merging with other resellers in an effort to increase efficiency. This current
industry reconfiguration has resulted in increased pricing pressures. Decreasing
prices of information technology products requires the Company to sell a greater
number of products to achieve the same level of net sales and gross profit.
Additionally, there has been recent erosion in the "price-protection"
historically offered to offset the negative effects of decreasing prices. The
continuation of such trends could make it more difficult for the Company to
continue to increase its net sales and earnings growth. In addition, it is
possible that the historically high rate of growth of the information technology
industry may slow at some point in the future, resulting in a material adverse
effect on the Company's business, financial position, results of operations and
cash flows. Furthermore, new methods of distributing and selling information
technology products, such as on-line shopping services and catalogs published on
CD-ROM, may further develop in the future. Hardware and software manufacturers
have sold, and may in the future further intensify their efforts to sell, their
products directly to end-users. From time to time, certain vendors have
instituted programs for the direct sale of large orders of hardware and software
to certain major corporate customers. These types of programs may continue to be
developed and used by various vendors. While the Company attempts to anticipate
and influence current and future distribution trends, any of these distribution
methods or competitive programs, if successful, could have a material adverse
effect on the Company's business, financial position, results of operations and
cash flows.
12
Recently, a trend has emerged whereby the final assembly of certain
information technology products is performed by resellers and distributors. In
order to compete more effectively and lower their costs, certain information
technology product manufacturers that rely on the wholesale distribution model
have announced their intention to reduce their own inventories and the
inventories of their resellers and distributors by implementing a
"build-to-order" manufacturing process. These major manufacturers have also
begun to develop programs whereby final assembly will be performed by resellers
and distributors ("channel assembly" or "co-location") as compared to the
"build-to-forecast" methodology employed by these manufacturers. The Company has
not, to date, been authorized to participate in any announced build-to-order
manufacturing processes, and there can be no assurance that the Company will
ever be authorized to participate in any such process. The failure of the
Company to obtain any such authorization could have a material adverse effect on
the Company's business, financial position, results of operations and cash
flows. If the Company eventually participates in a "build-to-order" process, the
Company will have to make a significant capital investment in order to
successfully participate in such process. The model has been apt to date.
However, the Company believes that it will be required to develop and execute a
plan to restructure its operations including the cost of the restructuring of
the Ontario facility in order to remain competitive. As a result of this plan, a
charge, which may be material but which cannot now be quantified, is expected to
be recognized in the period when such a restructuring and plan are approved by
the board of directors. See "Business--Industry Overview" and "Liquidity and
Capital Resources."
RISKS ASSOCIATED WITH DEPENDENCE ON PROPRIETARY TECHNOLOGY
The Company's ability to effectively compete in its market will depend
significantly on its ability to protect its proprietary technology. The Company
relies primarily on trade secrecy and confidentiality agreements in order to
establish and protect its rights in its proprietary technology. There can be no
assurance that the existing methods for protecting the Company's proprietary
technology will be successful in defending either the confidentiality of, or the
unauthorized use of, this technology, nor can any assurance be given that the
Company will be able to achieve or maintain a meaningful technological
advantage. The Company could incur substantial costs in seeking enforcement of
its proprietary rights against infringement or unauthorized use by others, or in
defending itself against similar claims by other holders of proprietary
information. While the Company has a copyright on some of its software it does
not have any patents on other proprietary technology which the Company believes
to be material to the Company's future success. Insofar as the Company relies on
trade secrets and proprietary know-how to maintain its competitive position,
there can be no assurance that others may not independently develop similar or
superior technologies or gain access to the Company's trade secrets or know-how.
See "Business--Intellectual Property."
The Company may experience delays, complications or expenses in installing,
integrating and operating its software, or interruptions or disruptions in its
software operations, any of which could have a material adverse effect on the
Company's business, financial position, results of operations and cash flows.
The Company believes that its software will require modification or improvement
as the Company expands. Such modification or improvement may require substantial
expenditures to design and implement and may interrupt the Company's operations,
resulting in a material adverse effect on the Company's business, financial
position, results of operations and cash flows. See "Business--Intellectual
Property", "Year 2000" and "Business--Proprietary Information Systems."
RISKS ASSOCIATED WITH POTENTIAL VARIABILITY IN QUARTERLY OPERATING RESULTS
The Company's quarterly net sales and operating results may vary
significantly as a result of a variety of factors, including: the demand for
information technology products and the Company's value-added services; adoption
of internet commerce models, introduction of new hardware and software
technologies; introduction of new value-added services by the Company and its
competitors; changes in manufacturers' prices or price protection policies;
changes in shipping rates; disruption of warehousing or shipping channels;
changes in the level of operating expenses; the timing of major marketing or
other service
13
projects; product supply shortages; inventory adjustments; changes in product
mix; entry into new geographic markets; the timing and integration of
acquisitions or investments; difficulty in managing margins; the loss of
significant customer contracts; the necessity to write-off a significant amount
of accounts receivable; and general competitive and economic conditions. In
addition, a substantial portion of the Company's net sales in each quarter
results from orders booked in such quarter. Accordingly, the Company believes
that period-to-period comparisons of its operating results are not necessarily
meaningful and should not be relied upon as an indication of future performance.
As has occurred in the past it is possible that in future periods, the
Company's operating results may be below the expectations of public market
analysts and investors. In such event, the market price of the Common Stock
would likely be materially adversely affected. See "Item 7. Management's
Discussion and Analysis of Financial Condition and Results of
Operations--Quarterly Results."
RISKS ASSOCIATED WITH LOW MARGIN BUSINESS
The Company's historical growth in net income has been driven primarily by
net sales growth rather than increased profit margins. The Company's gross
profit margins are low compared to many other resellers of information
technology products. In fiscal 1998, the Company's gross profit margin was 9.4%.
Given the significant levels of competition that characterize the reseller
market, as well as the lower gross profit margins generated by the Company as a
result of its reliance on purchasing information technology products from its
allied distributors, it is unlikely that the Company will be able to increase
gross profit margins in its core business of reselling information technology
products. Moreover, in order to attract and retain many of its larger customers,
the Company frequently must agree to volume discounts and maximum allowable
mark-ups that serve to limit the profitability of product sales to such
customers. Accordingly, to the extent that the Company's sales to such customers
increase, the Company's gross profit margins may be reduced, and therefore any
future increases in net income will have to be derived from continued net sales
growth, effective expansion into higher margin business segments or a reduction
in operating expenses as a percentage of net sales, none of which can be
assured. Furthermore, low gross profit margins increase the sensitivity of the
Company's business to increases in costs of financing, because financing costs
to carry a receivable can be relatively high compared to the low dollar amount
of gross profit on the sale underlying the receivable itself. Low gross profit
margins also increase the sensitivity of the business to any increase in product
returns and bad debt write-offs, as the impact resulting from the inability to
collect the full amount for products sold will be relatively high compared to
the low amount of gross profit on the sale of such product. Any failure by the
Company to maintain its gross profit margins and sales levels could have a
material adverse effect on the Company's business, financial position, results
of operations and cash flows.
RISKS ASSOCIATED WITH DEPENDENCE ON AVAILABILITY OF CREDIT; RISKS ASSOCIATED
WITH DEPENDENCE ON IBMCC
The Company's business requires significant capital to finance accounts
receivable and, to a lesser extent, product inventories. In order to obtain
necessary working capital, the Company relies primarily on lines of credit that
are collateralized by substantially all of the Company's assets. As a result,
the amount of credit available to the Company may be adversely affected by
numerous factors beyond the Company's control, such as delays in collection or
deterioration in the quality of the Company's accounts receivable, economic
trends in the information technology industry, interest rate fluctuations and
the lending policies of the Company's creditors. Any decrease or material
limitation on the amount of capital available to the Company under its lines of
credit and other financing arrangements will limit the ability of the Company to
fill existing sales orders or expand its sales levels and, therefore, would have
a material adverse effect on the Company's business, financial position, results
of operations and cash flows. In addition, any significant
14
increases in interest rates will increase the cost of financing to the Company
and would have a material adverse effect on the Company's business, financial
position, results of operations and cash flows. The Company is dependent on the
availability of accounts receivable financing on reasonable terms and at levels
that are high relative to its equity base in order to maintain and increase its
sales. There can be no assurance that such financing will continue to be
available to the Company in the future or available under terms acceptable to
the Company. The inability of the Company to have continuous access to such
financing at reasonable costs could materially adversely impact the Company's
business, financial position, results of operations and cash flows. As of
September 30, 1998, the Company had outstanding borrowings under its credit
facilities of $79.6 million out of a total availability under its credit
facilities of $105 million.
The Company has primarily funded its working capital requirements through a
$73 million Inventory and Working Capital Agreements (the "IBMCC Financing
Agreements") with IBM Credit Corporation ("IBMCC"). At September 30, 1998, the
outstanding principal balance under the IBMCC Financing Agreement was
approximately $68.5 million. Borrowings under the IBMCC Financing Agreement are
collateralized by certain assets of the Company, including accounts receivable,
inventory and equipment. The IBMCC Financing Agreement expires April 14, 1999 if
not renewed. The Company also has a 12-month loan from IBMCC of $5 million.
IBMCC may terminate the IBMCC Financing Agreement at any time upon the
occurrence of and subsequent failure to cure, an "Event of Default," as such
term is defined in the IBMCC Financing Agreement. In the event of such
termination, the outstanding borrowings under the IBMCC Financing Agreement
become immediately due and payable in their entirety. The termination of the
IBMCC Financing Agreement and the subsequent inability of the Company to secure
a replacement credit facility on terms and conditions similar to those contained
in the IBMCC Financing Agreement could have a material adverse effect on the
Company's business, financial position, results of operations and cash flows.
See "Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations--Liquidity and Capital Resources."
RISKS RELATED TO DEPENDENCE ON SENIOR MANAGEMENT AND OTHER KEY PERSONNEL
The Company believes that its success has been and will continue to be
dependent on the services and efforts of its existing senior management and
other key personnel. The loss of the services of one or more of any of the
Company's existing senior management and other key personnel would have a
material adverse effect on the Company's business, financial position, results
of operations and cash flows.
The Company's success and its plans for future growth also depend on its
ability to attract and retain highly skilled personnel in all areas of its
business, including application development, sales and technical services.
Competition for qualified personnel in the information technology industry is
intense, and although the Company believes that it has thus far been successful
in attracting and retaining qualified personnel for its business, the inability
to attract and retain qualified personnel in the future could have a material
adverse effect upon the Company's business, financial position, results of
operations and cash flows.
RISKS RELATED TO MANAGEMENT OF GROWTH
Since its inception, the Company has experienced rapid growth in net sales,
the number of its employees and branch offices, the amount of administrative
overhead and the type of services offered. This growth has and, if continued,
will continue to put strains on the Company's management, operational and
financial resources. To execute the Company's growth strategy, the Company
expects to require the addition of new management personnel, including
application development, sales and technical services personnel, and the
development of additional expertise by existing personnel. The Company's ability
to manage growth effectively will require it to continue to implement and
improve its operational, financial and sales systems at both the national and
local level, to develop the skills of its managers and supervisors and to hire,
train, motivate, retain and effectively manage its employees. There can be no
assurance that
15
the Company will be successful in managing any future expansion, and the failure
to do so could materially adversely affect the Company's business, financial
position, results of operations and cash flows.
While the Company recently completed an upgrade of its accounting software
system, management believes that further improvements will be necessary. Failure
to implement such improvements may adversely affect timely availability of
financial information. The Company believes that such improvements will utilize
a considerable amount of the Company's management resources. Failure to hire and
retain qualified personnel would have a material adverse effect upon the
Company's ability to implement such improvements. There can be no assurance that
the Company will be able to successfully implement such improvements and such
failure could have a material adverse impact on the Company's business,
financial position, results of operations and cash flows.
RISKS ASSOCIATED WITH EXPANDING SERVICES CAPABILITIES
The Company is expanding the nature and scope of its value-added services.
There can be no assurance that the value-added services business will be
successfully integrated with the Company's information technology products
reselling business or that the Company will be able to effectively compete in
this market. If the Company is unable to effectively provide value-added
services, it may be unable to effectively compete for the business of certain
large customers that require the provision of such services as a condition to
purchasing products from the Company. In addition, the Company will be subject
to risks commonly associated with a value-added services business, including
dependence on reputation, volatility of workload and dependence on ability to
recruit and retain qualified technical personnel. The expansion of the Company's
value-added services required a significant capital investment, including a
large increase in the number of technical employees. If the Company is unable to
attain sufficient customer orders for value-added services, it will then be
unable to fully recover the costs of these investments. Also, a portion of the
Company's value-added service revenue may be derived from the performance of
services pursuant to fixed-price contracts. As a result, cost overruns due to
price increases, unanticipated problems, inefficient project management or
inaccurate estimation of costs could have a material adverse effect on the
Company's business, financial position, results of operations and cash flows.
See "Business--Products and Value-Added Services."
RISKS RELATED TO GEOGRAPHIC EXPANSION
The Company's growth has been and will continue to be driven, in small part,
by sales generated through expansion into new geographic markets. The Company
has already opened sales offices in many of the metropolitan markets that the
Company believes offer the most potential for sales growth. Accordingly, to the
extent the Company attempts to open additional sales offices there can be no
assurance that the new offices will experience the same success, if any
experienced by the Company's existing sales offices. The failure of the Company
to expand or the failure by the Company to generate sufficient sales volumes in
new sales offices could have a material adverse effect on the Company's
business, financial position, results of operations and cash flows. The Company
generally incurs start-up expenses with respect to a new sales office for
several months after opening such sales office, and therefore, any increase in
the rate at which the Company opens new sales offices could have a material
adverse effect on the Company's business, financial position, results of
operations and cash flows.
RISKS ASSOCIATED WITH ACQUISITIONS OF AND INVESTMENTS IN COMPLEMENTARY
BUSINESSES
One element of the Company's growth strategy may include expanding its
business through strategic acquisitions and investments in complementary
businesses. The Company has not had significant acquisition or investment
experience, and there can be no assurance that the Company will be able to
successfully identify suitable acquisition or investment candidates, complete
acquisitions or investments, or integrate acquired businesses into its
operations. Acquisitions and investments involve numerous risks, including
16
difficulties in the assimilation of the operations, services, products, vendor
agreements, and personnel of the acquired company, the diversion of management's
attention and other resources from other business concerns, entry into markets
in which the Company has little or no prior experience, and the potential loss
of key employees, customers, or contracts of the acquired company. Acquisition
and investments could also conflict with restrictions in the Company's
agreements with existing or future distributors or manufacturers. The Company is
unable to predict whether or when any prospective acquisition or investment
candidate will become available or the likelihood that any acquisition or
investment will be completed or successfully integrated. The Company's failure
to successfully manage any potential acquisitions or investments in
complementary businesses could have a material adverse effect on the Company's
business, financial position, results of operations and cash flows.
RISKS ASSOCIATED WITH PLANNED INTERNATIONAL OPERATIONS
Although the Company to date has not generated significant net sales from
international operations, one of the elements of its growth strategy may be to
expand internationally. There can be no assurance that the Company will be able
to successfully expand its international business. There are certain risks
inherent in doing business on an international level, such as remote management,
unexpected changes in regulatory requirements, export restrictions, tariffs and
other trade barriers, difficulties in staffing and managing foreign operations,
longer payment cycles, problems in collecting accounts receivable, political
instability, fluctuations in currency exchange rates, potentially adverse tax
consequences, and the Euro-currency symbol issues, any of which could adversely
impact the success of the Company's international operations. There can be no
assurance that one or more of such factors will not have a material adverse
effect on the Company's future international operations and, consequently, on
the Company's business, financial position, results of operations and cash
flows.
RISKS ASSOCIATED WITH BUSINESS INTERRUPTION; RISKS ASSOCIATED WITH DEPENDENCE ON
CENTRALIZED FUNCTIONS
The Company believes that its success to date has been, and future results
of operations will be, dependent in large part upon its ability to provide
prompt and efficient service to its customers. As a result, a substantial
disruption of the Company's day-to-day operations could have a material adverse
effect upon the Company's business, financial position, results of operations
and cash flows. In addition, the Company's success is largely dependent on the
accuracy, quality and utilization of the information generated by its
proprietary information systems, which are primarily based in El Segundo,
California. Repairs, replacement, relocation or a substantial interruption in
these systems or in the Company's telephone or data communications systems,
servers or power could have a material adverse effect on the Company's business,
financial position, results of operations and cash flows. Although the Company
has business interruption insurance, an uninsurable loss could have a material
adverse effect on the Company's business, financial position, results of
operations and cash flows. The Company's current use of a single configuration
facility in Ontario, California also makes the Company more vulnerable to
dramatic changes in freight rates than a competitor with multiple,
geographically dispersed sites. Losses in excess of insurance coverage, an
uninsurable loss, or change in freight rates could have a material adverse
effect on the Company's business, financial position, results of operations and
cash flows. See "Business--Proprietary Information Systems."
RISKS ASSOCIATED WITH DEPENDENCE ON THIRD-PARTY SHIPPERS
The Company presently ships products from Ontario, California, primarily by
Federal Express Corporation ("FedEx") or United Parcel Service of America, Inc.
("UPS"), and the vast majority of products that the Company sells are
drop-shipped for the Company to its customers by the allied distributors via
these carriers. Changes in shipping terms, or the inability of these third-party
shippers to perform effectively (whether as a result of mechanical failure,
casualty loss, labor stoppage, other
17
disruption, or any other reason), could have a material adverse effect on the
Company's business, financial position, results of operations and cash flows.
There can be no assurance that the Company or others can maintain favorable
shipping terms or replace such shipping services on a timely or cost-effective
basis. See "Business--Distribution."
RISKS ASSOCIATED WITH PRODUCT RETURNS
As is typical of the information technology industry, the Company incurs
expenses as a result of the return of products by customers. Such returns may
result from defective goods, inadequate performance relative to customer
expectations, distributor-shipping errors and other causes that are outside the
Company's control. Although the Company's distributors and manufacturers have
specific return policies that enable the Company to return certain products for
credit, to the extent that the Company's customers return products which are not
accepted for return by the distributor or manufacturer of such products, the
Company will be forced to bear the cost of such returns. Any significant
increase in the rate of product returns, or the unwillingness by the Company's
distributors or manufacturers to accept goods for return, could have a material
adverse effect on the Company's business, financial position, results of
operations and cash flows.
RISKS ASSOCIATED WITH EXTENSIONS OF CREDIT
As a marketing enhancement, the Company offers unsecured and secured credit
terms for qualified customers. Historically, the Company has not experienced
losses from write-offs in excess of established reserves. While the Company
evaluates customers' qualifications for credit and closely monitors its
extensions of credit, defaults by customers in timely repayment of these
extensions of credit could have a material adverse effect on the Company's
business, financial position, results of operations and cash flows. See "Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations."
RISKS ASSOCIATED WITH POTENTIAL INFLUENCE BY EXECUTIVE OFFICERS AND PRINCIPAL
STOCKHOLDERS
The directors, executive officers and principal stockholders of the Company
and their affiliates beneficially own, in the aggregate, approximately 51.4% of
the outstanding Common Stock. As a result, these stockholders acting together
will be able to exert considerable influence over the election of the Company's
directors and the outcome of most corporate actions requiring stockholder
approval, such as certain amendments to the Company's Certificate of
Incorporation. Additionally, the directors and executive officers have
significant influence over the policies and operations of the Company's
management and the conduct of the Company's business. Such concentration of
ownership may have the effect of delaying, deferring or preventing a change of
control of the Company and consequently could affect the market price of the
Common Stock.
POTENTIAL VOLATILITY OF STOCK PRICE
Factors such as the announcement of acquisitions by the Company or its
competitors, quarter to quarter variations in the Company's operating results,
changes in earnings estimates by analysts, governmental regulatory action,
general trends and market conditions in the information technology industry, as
well as other factors, may have a significant impact on the market price of the
Common Stock. Moreover, trading volumes in the Company's Common Stock have been
low historically and could exacerbate price fluctuations in the Common Stock.
Further, the stock market has recently and in other periods experienced extreme
price and volume fluctuations, which have particularly affected the market
prices of the equity securities of many companies and which have often been
unrelated to the operating performance of such companies. These broad market
fluctuations may materially and adversely affect the market price of the Common
Stock. See "Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters."
18
POTENTIAL EFFECT OF ANTI-TAKEOVER PROVISIONS
The Company's Board of Directors has the authority to issue up to 5,000,000
shares of preferred stock and to determine the price, rights, preferences,
qualifications, limitations and restrictions, including voting rights, of those
shares without any further vote or action by the stockholders. The rights of the
holders of Common Stock will be subject to, and may be adversely affected by,
the rights of the holders of any preferred stock that may be issued in the
future. The issuance of preferred stock, while providing desirable flexibility
in connection with possible acquisitions and other corporate purposes, could
have the effect of delaying or preventing a third party from acquiring a
majority of the outstanding voting stock of the Company. Further, Section 203 of
the General Corporation Law of Delaware prohibits the Company from engaging in
certain business combinations with interested stockholders. These provisions may
have the effect of delaying or preventing a change in control of the Company
without action by the stockholders, and therefore could adversely affect the
market price of the Common Stock.
RISKS ASSOCIATED WITH POTENTIAL "YEAR 2000" PROBLEMS AND YEAR 2000 COMPLIANCE
The Company is aware of the issues associated with the programming code in
existing computer systems as the year 2000 approaches. The "Year 2000" problem
is concerned with whether computer systems will properly recognize date
sensitive information when the year changes to 2000. Systems that do not
properly recognize such information could generate erroneous data or cause a
system to fail. The Year 2000 problems are pervasive and complex as virtually
every company's computer operation may be affected in some way. As a result of
the Company's analysis of its computer programs and operations, it has reached
the conclusion that its own business systems, including its computer systems are
not fully prepared for Year 2000 although management believes that corrections
planned by the Company will not seriously impact or have a material adverse
effect on the Company's expenses, business, including data gathering and
interpretation, or its operations.
It is possible, however, that "Year 2000" problems incurred by the customers
or suppliers of the Company could have a negative impact on future operations
and financial performance of the Company, although the Company has not been able
to specifically identify any such problems among its suppliers. The Company
believes that it will not be dependent upon any single supplier or customer for
its equipment or supplies or sales in the Year 2000; it has contacted its
primary suppliers to determine if they are developing plans to address
processing transactions which may impact the Company. Furthermore, the Year 2000
problem may impact other entities with which the Company transacts business and
the Company cannot predict the effect of the Year 2000 problem on such entities
or the resulting effect on the Company. The Company has not yet developed a
contingency plan to operate in the event that any non-compliant customer or
supplier systems that materially impact the Company are not remedied in a timely
manner and has not yet determined a time table for developing such a plan. As a
result, if preventative and/or corrective actions by the Company or those
entities with which the Company does business are not made in a timely manner,
the Year 2000 issue could have a material adverse effect on the Company's
business, financial condition and results of operations. However, based on its
analysis to date, the expenses of the Company's efforts to identify and address
such problems, or the expenses or liabilities to which the Company may become
subject as a result of such problems, are not expected to have a material
adverse effect on the Company's business, financial position, results of
operations or cash flows. As well, the purchasing patterns of existing and
potential customers may be affected by Year 2000 problems, which could cause
fluctuations in the Company's sales volumes.
ABSENCE OF DIVIDENDS
The Company has never declared or paid any cash dividends on its Common
Stock. The Company currently anticipates that it will retain all available funds
for use in the operation of its business, and does not intend to pay any cash
dividends in the foreseeable future. The payment of any future dividends will be
at the discretion of the Company's Board of Directors and will depend upon,
among other factors, future
19
earnings, operations, capital requirements, the general financial condition of
the Company and general business conditions but, it is to be noted that under
the IBMCC lines of credit, payment of dividends is prohibited. The Company's
ability to pay cash dividends is currently restricted by certain of the
Company's credit facilities, and the terms of future credit facilities or other
agreements may contain similar restrictions. See "Item 5. Market for
Registrant's Common Equity and Related Stockholder Matters."
ITEM 2. PROPERTIES
The Company leases approximately 35,000 square feet of office space for its
headquarters in El Segundo, California, under a lease expiring in May 2001. The
Company owns an approximately 126,000 square foot facility in Ontario,
California, which is primarily, used for configuration, board-level repair and
maintenance services. This facility has been operational since July 1, 1998.
This facility is subject to a mortgage, the current outstanding principal of
which is $3.6 million.
The Company currently leases twenty-one sales offices nationwide. The
following table identifies the Company's sales offices:
APPROXIMATE
DATE
FACILITY OPENED
- -------------------------------------------------- ---------------
Corporate Headquarters and Sales Office:
El Segundo, California........................ April 1993
Sales Offices:
Dallas, Texas................................. March 1993
Palo Alto, California......................... April 1993
Seattle, Washington........................... June 1993
Portland, Oregon.............................. July 1993
Austin, Texas................................. May 1994
New York, New York............................ July 1994
Denver, Colorado.............................. August 1994
Salt Lake City, Utah.......................... May 1996
Chicago, Illinois............................. July 1996
Sacramento, California........................ August 1996
Santa Ana, California (moved from Irvine,
California)................................. September 1996
Atlanta, Georgia.............................. April 1997
Charlotte, North Carolina..................... April 1997
Memphis, Tennessee............................ April 1997
Minneapolis, Minnesota........................ July 1997
Boston, Massachusetts......................... April 1998
Houston, Texas................................ April 1998
Albany, New York.............................. July 1998
San Diego, California......................... April 1998
Riverside, California......................... September 1997
20
Management believes the Company's headquarters sales offices and
configuration facilities are adequate to support its current level of
operations.
ITEM 3. LEGAL PROCEEDINGS
The Company was named, along with Bob Din, as a defendant in a lawsuit filed
April 29, 1997 in the Superior Court for the County of Los Angeles. The case
name for this filing is Novaquest Infosystems, et. al. v. En Pointe
Technologies, Inc., et al., and the complaint alleges that the Company and Bob
Din knowingly accepted trade secret information owned by the plaintiffs and
furthermore alleges that the Company interfered with the plaintiffs' prospective
economic advantage. The Company is currently unable to estimate the loss in the
event of an unfavorable outcome. However, before consideration of any potential
insurance recoveries, the Company, on the advice of counsel, believes that the
claims in the suit will not have a material adverse effect on the Company's
business, financial condition, or results of operations. The Company has
maintained various liability insurance policies during the periods covering the
claims above. While such policies may limit coverage under certain
circumstances, the Company believes that it is adequately insured. Trial is
currently set for February 1999.
The Company was named as a defendant in a lawsuit filed on August 4, 1998.
The complaint alleges that the Company, along with an individual defendant who
was a former employee of the plaintiff, conspired to steal customers, employees
and trade secrets. The Company is currently unable to estimate the loss in the
event of an unfavorable outcome. However, the Company believes that the claims
in the suit will not have a material adverse effect on the Company's business,
financial condition or results of operations.
The Company was named as a defendant in two similar lawsuits. The cases
involve plaintiffs who were former account executives for the Company, and
allege fraud in the inducement, breach of contract, and unpaid wages. In
addition, the plaintiffs are pursuing several claims under the Business &
Professions Code on behalf of the general public. In these regards, the
complaints seek equitable relief only. The Company is currently unable to
estimate the loss in the event of an unfavorable outcome.
On June 3, 1998, the Company was named as a defendant in a lawsuit alleging
the Company did not sufficiently pay for services. The plaintiff is suing for
breach of contract. The case was ordered to binding arbitration by the Los
Angeles Superior Court based on the Petition of the Company. At this time, the
Company is unable to estimate the loss in the event of an unfavorable outcome.
In April 1996 the Company, Bob Din and Naureen Din entered into a settlement
agreement with a former employee of the Company, pursuant to which the former
employee has released the Company and Bob Din and Naureen Din from any and all
claims with respect to the Company's use of certain computerized information
system software originally developed by the former employee prior to his
employment with the Company (the "Settlement Agreement"). As consideration for
entering into the Settlement Agreement, the Company agreed to pay the former
employee payments totaling $1,225,000. The remaining unpaid balance as of
September 30, 1997 and 1998 was $287,511 and $213,773 respectively.
The Company filed suit against its insurance carrier in order to recoup both
legal costs incurred by the Company in connection with its defense of the
foregoing litigation as well as for amounts paid to the former employee pursuant
to the settlement. In August 1996 the insurance company settled with the Company
paying the full amount of the original settlement.
In addition to the above, the Company is involved with various claims and
litigation in the normal course of business. On the advice of counsel, and in
the opinion of management, the ultimate resolution of these matters will not
have a significant effect on the financial position, results of operations and
cash flows of the Company.
21
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The matter of authorizing the granting of 300,000 additional incentive
options to purchase Company stock was submitted to a vote of security holders
and was approved during the fourth quarter of the fiscal year ended September
30, 1998. All prior filings with the Commission are incorporated by reference.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company's Common Stock is quoted on the NASDAQ National Market under the
symbol "ENPT." The following table sets forth, for the period indicated, the
high and low sale prices for the Common Stock as reported by the NASDAQ National
Market.
RANGE OF SALES
--------------
HIGH LOW
------ ------
Fiscal 1996
Third quarter (from May 8, 1996)................ $13 1/8 $8 3/4
Fourth quarter.................................. 11 1/4 8 1/4
Fiscal 1997
First quarter................................... $ 15 $9 1/8
Second quarter.................................. 13 5/8 8 1/2
Third quarter................................... 11 1/4 8 3/8
Fourth quarter.................................. 24 1/2 8 7/8
Fiscal 1998
First quarter................................... $23 1/2 $8 5/8
Second quarter.................................. 12 1/2 8 1/4
Third quarter................................... 11 1/4 5 5/16
Fourth quarter.................................. 10 1/2 5 9/32
Fiscal 1999
First quarter (through December 22, 1998)....... $7 3/8 $2 1/2
On December 22, 1998, the closing sale price for the Common Stock on the
NASDAQ National Market was $5.6875 per share. As of December 22, 1998, there
were 55 stockholders of record of the Common Stock.
The Company has never declared or paid any cash dividends on its Common
Stock. The Company currently anticipates that it will retain all available funds
for use in the operation of its business, and does not intend to pay any cash
dividends in the foreseeable future. The payment of any future dividends will be
at the discretion of the Company's Board of Directors and will depend upon,
among other factors, future earnings, operations, capital requirements, the
general financial condition of the Company and general business conditions. It
is to be noted that under the IBMCC lines of credit, payment of dividends is
prohibited. The Company's ability to pay cash dividends is restricted by certain
of the Company's credit facilities, and the terms of future credit facilities or
other agreements may contain similar restrictions. See "Item 1. Business:
Factors Which May Affect Future Operating Results--Absence of Dividends."
ITEM 6. SELECTED FINANCIAL DATA
The selected financial data set forth below as of September 30, 1998 and
1997 and for each of the years in the three year-period ended September 30, 1998
have been derived from the Company's Financial Statements and the related notes
thereto that have been audited by PricewaterhouseCoopers LLP,
22
independent accountants, which financial statements and report thereon are
included elsewhere in this Annual Report on Form 10-K.
The data set forth below should be read in conjunction with "Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations" and the Financial Statements of the Company and the Notes thereto
included elsewhere in this Annual Report on Form 10-K.
FISCAL YEAR ENDED SEPTEMBER 30,
------------------------------------------------
1998 1997 1996 1995 1994
-------- -------- -------- -------- --------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
STATEMENT OF OPERATIONS DATA:
Net sales......................................... $567,739 $491,358 $345,093 $200,797 $109,987
Cost of sales..................................... 514,168 447,276 316,165 184,761 101,057
-------- -------- -------- -------- --------
Gross profit.................................... 53,571 44,082 28,928 16,036 8,930
Operating expenses:
Selling and marketing expenses.................. 34,257 22,339 15,253 9,307 5,493
General and administrative expenses............. 13,665 10,905 5,948 3,755 2,159
Litigation settlement and defense, net.......... -- -- 525 -- --
-------- -------- -------- -------- --------
Operating income.............................. 5,649 10,838 7,202 2,974 1,278
Interest expense.................................. 2,166 1,239 1,673 1,843 1,121
Other income, net................................. (237) (194) (116) (61) (159)
-------- -------- -------- -------- --------
Income before income taxes...................... 3,720 9,793 5,645 1,192 316
Provision for income taxes........................ 1,488 3,962 2,315 489 129
-------- -------- -------- -------- --------
Net income...................................... $ 2,232 $ 5,831 $ 3,330 $ 703 $ 187
-------- -------- -------- -------- --------
-------- -------- -------- -------- --------
Net income per share:
Basic........................................... $ 0.38 $ 1.03 $ 0.78 $ 0.21 $ 0.06
Diluted......................................... $ 0.37 $ 1.00 $ 0.77 $ 0.21 $ 0.06
Weighted average shares and share equivalents
outstanding(1):
Basic........................................... 5,875 5,681 4,255 3,410 3,197
Diluted......................................... 6,071 5,811 4,304 3,410 3,197
AS OF SEPTEMBER 30,
------------------------------------------------
1998 1997 1996 1995 1994
-------- -------- -------- -------- --------
(IN THOUSANDS)
BALANCE SHEET DATA:
Working capital................................... $ 19,831 $ 24,753 $ 18,338 $ 2,286 $ 1,377
Total assets...................................... 132,567 90,862 64,923 36,792 24,462
Borrowings under lines of credit and current
portion of notes payable........................ 80,387 50,890 36,668 29,202 19,084
Notes payable..................................... 6,602 463 284 1,733 1,940
Stockholders' equity.............................. 31,019 28,319 20,875 1,832 189
- ------------------------
(1) See Note 1 of Notes to Financial Statements.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATION
THE FOLLOWING DISCUSSION AND ANALYSIS OF THE COMPANY'S FINANCIAL CONDITION
AND RESULTS OF OPERATIONS SHOULD BE READ IN CONJUNCTION WITH THE
23
FINANCIAL STATEMENTS AND THE NOTES THERETO INCLUDED ELSEWHERE IN THIS ANNUAL
REPORT ON FORM 10-K.
OVERVIEW
The Company was incorporated in January 1993 and commenced operations in
March 1993 as a reseller of information technology products. The Company began
emphasizing its value-added offerings to its customers in fiscal 1997.
Value-added services accounted for 2.3% of the Company's net sales in fiscal
1998. The gross profit margins on the value-added services that the Company
currently offers are significantly higher than the gross profit margins on the
Company's information technology products reselling business.
The Company's net sales have increased from $110.0 million in fiscal 1994
(the Company's first full year of operations) to $567.7 million in fiscal 1998,
representing a compound annual growth rate of 50.7%. The growth in net sales has
principally been driven by sales to new customers and increased sales to
existing customers as well as geographic expansion through the opening of
additional sales offices. The Company's gross profit margins have expanded from
8.1% in fiscal 1994 to 9.4% in fiscal 1998, principally due to increased
purchasing volume resulting in better purchasing terms, a shift to higher-margin
product sales, and sales of higher-margin value-added services. The Company's
operating income increased from $1.3 million in fiscal 1994 to $5.6 million in
fiscal 1998, representing a compound annual growth rate of 44.0%. The growth in
operating income has been principally driven by increased sales and gross profit
margins and a decline in general and administrative expenses, excluding software
development costs, as a percentage of net sales. Rebate and other manufacturer
and distributor incentive programs also constitute a significant and material
component of operating income.
Product revenues are recognized upon shipment and satisfaction of
significant vendor obligations, if any. Service revenues are recognized based on
contractual hourly rates as services are rendered or upon completion of
specified contract services. Net sales consist of product and service revenues,
less discounts. Cost of sales includes product and service costs and current and
estimated allowances for returns of products not accepted by the Company's
distributors or manufacturers, less any incentive credits.
Because the Company's business model involves the resale of information
technology products held in inventory by certain distributors, the Company does
not maintain significant amounts of inventory on hand for resale. The Company
typically does not place an order for product purchases from distributors until
it has received a customer purchase order. Inventory is then drop-shipped by the
distributor to either the customer or the Company's configuration center in
Ontario, California. The distributor typically ships products within 24 hours
following receipt of a purchase order and, consequently, substantially all of
the Company's net sales in any quarter result from orders received in that
quarter. Although the Company maintains a relatively small amount of inventory
in stock for resale, it records as inventory the merchandise being configured
and products purchased from distributors, but not yet shipped to customers.
The Company's effective tax rate has not varied significantly from the
statutory rate in the past. The Company does not anticipate that its effective
tax rate will vary significantly from the statutory rate in the future.
24
RESULTS OF OPERATIONS
The following table sets forth certain financial data as a percentage of net
sales for the periods indicated:
FISCAL YEAR ENDED SEPTEMBER 30,
-------------------------------
1998 1997 1996
--------- --------- ---------
Net sales...................................................................... 100.0% 100.0% 100.0%
Cost of sales.................................................................. 90.6 91.0 91.6
--------- --------- ---------
Gross profit............................................................... 9.4 9.0 8.4
Selling and marketing expenses................................................. 6.0 4.6 4.4
General and administrative expenses............................................ 2.4 2.2 1.7
Litigation settlement and defense, net......................................... -- -- 0.2
--------- --------- ---------
Operating income........................................................... 1.0 2.2 2.1
Interest expense............................................................... 0.4 0.2 0.5
Other income, net.............................................................. 0.1 0.0 0.0
--------- --------- ---------
Income before taxes........................................................ 0.7 2.0 1.6
Provision for income taxes..................................................... 0.3 0.8 0.6
--------- --------- ---------
Net income................................................................. 0.4% 1.2% 1.0%
--------- --------- ---------
--------- --------- ---------
COMPARISON OF FISCAL YEARS ENDED SEPTEMBER 30, 1998 AND 1997
NET SALES. Net sales increased $76.3 million, or 15.5% to $567.7 in fiscal
1998 from $491.4 million in fiscal 1997. The increase in sales was attributable
to sales to new customers, increased sales to existing customers, and increased
sales of value-added services.
Four new sales territories were opened in fiscal 1998, which contributed
$10.3 million in net sales. In pre-existing territories, net sales increased by
$60.7 million, an increase of 12.4%. Firstsource.com, an Internet business
venture, contributed an additional $5.4 million in its initial four months of
operations (see further comments in Liquidity and Capital Resources section).
Services revenues increased $7.2 million, or 21.8% to $13.2 million in
fiscal 1998 from $5.9 million in fiscal 1997 and were 2.3% of total net sales
versus 1.2% in the prior year. Sales under the IBM contract accounted for 21.4%
of total sales and 20.8% of total accounts receivable for the 1998 fiscal year
compared with 29.6% and 24.2% respectively for the prior fiscal year.
GROSS PROFIT. Gross profit increased $9.5 million, or 21.5% to $53.6
million in fiscal 1998 from $44.1 million for 1997, and increased as a
percentage of net sales to 9.4% in 1998 as compared to 9.0% in 1997. The
increase in gross margin is attributable in part to increased services revenue
which was partially offset by a general decrease in margins on information
technology products.
SELLING AND MARKETING EXPENSES. Selling and marketing expenses increased
$12.0 million, or 53.3% to $34.3 million in fiscal 1998, from $22.3 million in
fiscal 1997, primarily as a result of increased net sales volume. As a
percentage of net sales, selling and marketing increased to 6.0% in 1998 from
4.6% in 1997, due to additional staffing, the opening of new branch offices, and
costs related to commencing of operations of an Internet business,
Firstsource.com.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
increased $2.8 million, or 25.3% to $13.7 million in fiscal 1998, from $10.9
million in fiscal 1997, primarily as a result of hiring additional personnel
necessary to support the growth of the company and other administrative
25
duties, as well as administrative costs related to Firstsource.com. As a
percentage of net sales, general and administrative expenses increased to 2.4%
in fiscal 1998 as compared to 2.2% in fiscal 1997.
OPERATING INCOME. Operating income decreased $5.2 million, or 47.9%, to
$5.6 million in fiscal 1998 from $10.8 million in fiscal 1997, primarily as a
result of increased selling and marketing expenses accompanied by flattening
gross profit margins. Operating income, as a percent of net sales, declined to
1.0% in fiscal 1998 from 2.2% in fiscal 1997.
INTEREST EXPENSE. Interest expense increased $1.0 million, or 74.8% to $2.2
million in fiscal 1998 from $1.2 million in fiscal 1997. The increase in
interest expense was primarily due to increased borrowing under lines of credit,
which at the end of fiscal 1998 had increased $28.9 or 57.0%. The borrowing was
used primarily to fund the $25.1 million (32.6%) growth in accounts receivable
as well as the $2.3 million (50.3%) increase in inventories. Additionally, in
July, 1998 operations commenced in the Ontario integration, repair, and RMA
("Returned Merchandise Authorization") facility that resulted in $0.2 million of
interest expense.
NET INCOME. Net income decreased $3.6 million, or 61.7% to $2.2 million in
fiscal 1998 from $5.8 million for fiscal 1997. The decrease in fiscal 1998 net
income resulted primarily from the $11.9 million (53.3%) increase in selling and
marketing expense, the $2.8 million (25.3%) increase in general and
administrative expense, and the $0.9 million (74.8%) increase in the interest
expense. These expenses totaled $15.6 million, exceeding the increase in gross
profits of $9.5 million by $6.1 million. As a percentage of net sales, net
income declined to 0.4% from 1.2% in fiscal 1997.
COMPARISON OF FISCAL YEARS ENDED SEPTEMBER 30, 1997 AND 1996
NET SALES. Net sales increased $146.3 million, or 42.4% to $491.4 in fiscal
1997 from $345.1 million in fiscal 1996. The increase in sales was attributable
to sales to new customers, increased sales to existing customers, and increased
sales of value-added services. The Company opened four sales offices in fiscal
1997, which contributed $10.6 million in net sales. Net sales under the IBM
contract increased $47.9 million in fiscal 1997 to $145.5 million and accounted
for 29.6% of net sales in fiscal 1997 compared with 28.3% of net sales in fiscal
1996.
GROSS PROFIT. Gross profits increased $15.2 million, or 52.4% to $44.1
million in fiscal 1997 from $28.9 million for 1996, and increased as a
percentage of net sales to 9.0% in 1997 as compared to 8.4% in 1996. The
improvement in gross profit margin can be attributed to better purchasing terms,
a shift to higher-margin sales, and sales of higher margin value-added services.
SELLING AND MARKETING EXPENSES. Selling and marketing expenses increased
$7.0 million, or 46.5% to $22.3 million in fiscal 1997, from $15.3 million in
fiscal 1996, primarily as a result of increased net sales volume. As a
percentage of net sales, selling and marketing increased to 4.6% in 1997 from
4.4% in 1996, due to additional staffing and the opening of four sales branch
offices.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
increased $5.0 million, or 83.3% to $10.9 million in fiscal 1997, from $5.9
million in fiscal 1996. A significant factor contributing to the increase in
general and administrative expenses was an increase in software development
costs which increased to $2.3 million in fiscal 1997 from $0.3 million in fiscal
1996. In addition, the Company hired additional personnel to support the
increase in sales volume and other administrative duties. As a percentage of net
sales, general and administrative expenses increased to 2.2% in fiscal 1997 from
1.7% in fiscal 1996.
LITIGATION SETTLEMENT AND DEFENSE, NET. In April 1996, the Company entered
into a settlement agreement with a former employee relating to claims with
respect to the Company's use of certain proprietary software programs originally
developed by the employee prior to his employment with the Company (the
"Settlement"). As consideration for entering into the Settlement, the Company
agreed
26
to pay the former employee installment payments totaling $1,225,000. The
remaining unpaid balance under the Settlement as of September 30, 1997 and 1996
was $287,511 and $447,512,respectively. In August 1996, the Company entered into
a separate settlement agreement with its insurance carrier whereby the insurance
carrier reimbursed the Company for all amounts paid by the Company pursuant to
the Settlement, as well as for certain legal expenses incurred by the Company in
connection with the Settlement and underlying claims. In fiscal 1996, the
Company expensed $524,913 in litigation and settlement defense costs, net of
insurance recoveries.
OPERATING INCOME. Operating income increased $3.6 million, or 50.5%, to
$10.8 million in fiscal 1997 from $7.2 million in fiscal 1996, primarily as a
result of increased sales volume accompanied by improved gross profit margins.
As a percent of net sales, operating income improved to 2.2% in fiscal 1997 from
2.1% in fiscal 1996
INTEREST EXPENSE. Interest expense decreased $434,000, or 25.9% to $1.2
million in fiscal 1997 from $1.7 million in fiscal 1996. The decrease in
interest expense was primarily due to improved borrowing rates following the
Company's May 1996 initial public offering that resulted in the weighted average
interest rate declining from 10.8% in fiscal 1996 to 8.2% in fiscal 1997.
NET INCOME. Net income increased $2.5 million, or 75.1% to $5.8 million in
fiscal 1997 from $3.3 million for fiscal 1996. The increase in net income
resulted primarily from the 42.4% increase in sales and the related 52.4%
increase in gross profit, as well as the reduction in interest expense. As a
percentage of net sales, net income improved to 1.2% from 1.0% in fiscal 1996.
27
QUARTERLY FINANCIAL RESULTS
The following table sets forth certain unaudited quarterly financial data.
The information has been derived from unaudited financial statements that, in
the opinion of management, reflect all adjustments (consisting only of normal
recurring adjustments) necessary for a fair presentation of such quarterly
information. The operating results for any quarter are not necessarily
indicative of the results to be expected for any future period.
QUARTER ENDED FISCAL 1998
--------------------------------------
DEC. 31 MAR. 31 JUN. 30 SEP. 30
-------- -------- -------- --------
(IN THOUSANDS, EXCEPT PER SHARE
AMOUNTS)
Net sales.................................... $130,189 $135,303 $143,811 $158,436
Cost of sales................................ 116,798 122,510 130,258 144,601
-------- -------- -------- --------
Gross profit............................... 13,391 12,793 13,553 13,835
Selling and marketing expenses............... 8,130 8,625 8,547 8,956
General and administrative expenses.......... 2,956 3,476 3,557 3,676
-------- -------- -------- --------
Operating income........................... 2,305 692 1,449 1,203
Interest expense............................. 427 419 298 1,021
Other income, net............................ (53) (81) (70) (33)
-------- -------- -------- --------
Income before taxes........................ 1,931 354 1,221 215
Provision for income taxes................... 792 145 501 50
-------- -------- -------- --------
Net income................................. $ 1,139 $ 209 $ 720 $ 165
-------- -------- -------- --------
-------- -------- -------- --------
Diluted net income per share............... $ 0.18 $ 0.04 $ 0.12 $ 0.03
-------- -------- -------- --------
-------- -------- -------- --------
Diluted weighted average shares and share
equivalents outstanding.................. 6,302 5,942 5,926 5,922
-------- -------- -------- --------
-------- -------- -------- --------
QUARTER ENDED FISCAL 1997
--------------------------------------
DEC. 31 MAR. 31 JUN. 30 SEP. 30
-------- -------- -------- --------
(IN THOUSANDS, EXCEPT PER SHARE
AMOUNTS)
Net sales.................................... $111,666 $116,595 $128,400 $134,697
Cost of sales................................ 101,810 106,974 116,671 121,820
-------- -------- -------- --------
Gross profit............................... 9,856 9,621 11,729 12,877
Selling and marketing expenses............... 5,383 4,778 5,737 6,442
General and administrative expenses.......... 2,141 2,340 3,194 3,231
-------- -------- -------- --------
Operating income........................... 2,332 2,503 2,798 3,204
Interest expense............................. 332 283 311 312
Other income, net............................ (57) (71) (44) (21)
-------- -------- -------- --------
Income before taxes........................ 2,057 2,291 2,531 2,913
Provision for income taxes................... 870 967 1,070 1,054
-------- -------- -------- --------
Net income................................. $ 1,187 $ 1,324 $ 1,461 $ 1,859
-------- -------- -------- --------
-------- -------- -------- --------
Diluted net income per share............... $ 0.21 $ 0.23 $ 0.25 $ 0.30
-------- -------- -------- --------
-------- -------- -------- --------
Diluted weighted average shares and share
equivalents outstanding.................. 5,784 5,817 5,784 6,191
-------- -------- -------- --------
LIQUIDITY AND CAPITAL RESOURCES
During fiscal 1998 operating activities used cash totaling $21.2 million
compared to $13.8 million used in the prior fiscal year. The largest consumer of
cash was the growth of accounts receivable related to the
28
Company's sales expansion and extended collection period of the receivables. In
fiscal 1998, $25.8 million in cash was so expended, while $21.5 million was used
in the prior fiscal year. Historically, the Company has satisfied its accounts
receivable cash requirements principally by borrowings under its lines of
credit. The Company's accounts receivable balance at September 30, 1998 and
1997, was $102.0 million and $76.9 million, respectively. The number of days'
sales outstanding in accounts receivable was 66 days and 57 days, as of
September 30, 1998 and 1997, respectively.
At September 30, 1998, restricted cash amounted to $2.0 million and related
principally to unexpended funds from the $3.4 million of equipment financing
targeted for the Ontario integration, repair, and RMA facility (see financing
activities below).
Investing activities used cash totaling $11.1 million for fiscal 1998
compared with $1.7 million used in the prior year. The increase in cash used for
investing activities is principally from the build up of the Ontario
integration, repair, and RMA facility, a 126,000 square foot state-of-the art
facility. Such cash invested totaled $7.3 million, $5.4 million of which related
to Ontario building improvements. Another $1.2 million was invested in computer
program costs, for software to handle the growing services business. The
remaining $2.1 million of property and equipment purchases were for upgrades and
improvements to existing systems and for equipment to furnish new branch
offices.
Financing activities provided net cash totaling $32.3 million in fiscal
1998, as compared to $15.7 million in fiscal 1997, mostly from borrowings on
lines of credit which have been used primarily to finance accounts receivable
balances which have grown as a result of increased sales. Another $3.4 million
was provided from equipment financing for the Ontario facility, of which $2.0
million remained in restricted cash.
As of September 30, 1998, the Company had approximately $5.4 million in
cash, including $2.0 million in restricted cash, and working capital of $19.8
million. The Company has several revolving credit facilities collateralized by
accounts receivable and all other assets of the Company, including $73.0 million
in lines with IBMCC. As of September 30, 1998 and 1997, such lines of credit
provided for maximum aggregate borrowings of approximately $105.0 million and
$81.0 million, respectively, of which approximately $79.6 million and $50.7
million was outstanding, respectively.
Outstanding borrowings under the IBMCC line of credit bears interest at
prime less .25%. The line of credit is automatically renewable on an annual
basis unless notification of an election not to renew is made by either the
Company or creditor on or prior to the annual renewal date. Borrowings are
collateralized by substantially all of the Company's assets. In addition, the
line of credit contains certain financing and operating covenants relating to
net worth, liquidity, profitability, repurchase of indebtedness and prohibition
on payment of dividends, as well as restrictions on the use of proceeds obtained
under the line. The Company has obtained a waiver on non-compliance with one of
the IBMCC covenants relating to minimum percentage of net income to sales and
remains in compliance with all remaining covenants.
Because of the Ontario facility cash demands, both the facility costs and
present carrying costs until full production can be achieved, as well as costs
attributable to the ramp-up of technical services, and the Firstsource.com
asset, management believes that a restructuring of its operations and possibly
an additional cash infusion will be necessary and is actively pursuing
exploration of its options. As a result, a charge, which may be material, but
which cannot now be quantified is expected to be recognized in the period when
such a restructuring and plan are approved by the Board of Directors.
The Company is aware of the issues associated with the programming code in
existing computer systems as the year 2000 approaches. The "Year 2000" problem
is concerned with whether computer systems will properly recognize date
sensitive information when the year changes to 2000. Systems that do not
properly recognize such information could generate erroneous data or cause a
system to fail. The Year 2000 problems are pervasive and complex as virtually
every company's computer operation may be affected in some way. As a result of
the Company's analysis of its computer programs and operations, it has reached
29
the conclusion that its own business systems, including its computer systems are
not fully prepared for Year 2000 although management believes that corrections
planned by the Company will not seriously impact or have a material adverse
effect on the Company's expenses, business, including data gathering and
interpretation, or its operations.
It is possible, however, that "Year 2000" problems incurred by the customers
or suppliers of the Company could have a negative impact on future operations
and financial performance of the Company, although the Company has not been able
to specifically identify any such problems among its suppliers. The Company
believes that it will not be dependent upon any single supplier or customer for
its equipment or supplies or sales in the Year 2000; it has contacted its
primary suppliers to determine if they are developing plans to address
processing transactions which may impact the Company. Furthermore, the Year 2000
problem may impact other entities with which the Company transacts business and
the Company cannot predict the effect of the Year 2000 problem on such entities
or the resulting effect on the Company. The Company has not yet developed a
contingency plan to operate in the event that any non-compliant customer or
supplier systems that materially impact the Company are not remedied in a timely
manner and has not yet determined a time table for developing such a plan. As a
result, if preventative and/or corrective actions by the Company or those
entities with which the Company does business are not made in a timely manner,
the Year 2000 issue could have a material adverse effect on the Company's
business, financial condition and results of operations. However, based on its
analysis to date, the expenses of the Company's efforts to identify and address
such problems, or the expenses or liabilities to which the Company may become
subject as a result of such problems, are not expected to have a material
adverse effect on the Company's business, financial position, results of
operations or cash flows. As well, the purchasing patterns of existing and
potential customers may be affected by Year 2000 problems, which could cause
fluctuations in the Company's sales volumes.
RECENTLY ANNOUNCED ACCOUNTING STANDARDS
In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive
Income." SFAS No. 130 establishes guidelines for the reporting and display of
comprehensive income and its components in financial statements. Disclosure of
comprehensive income and its components will be required beginning with the
Company's fiscal year ending September 30, 1999.
Also in June 1997, the FASB issued SFAS No. 131, "Disclosures About Segments
of an Enterprise and Related Information." SFAS No. 131 requires that companies
disclose "operating segments" based on the way management disaggregates the
company for making internal operating decisions. The new standard will be
effective for the Company's 1999 fiscal year end. The Company has not yet
evaluated the impact, if any, of the new standard.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Reference is made to the financial statements included in this Report at
pages F-1 through F-20.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
30
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
There is hereby incorporated by reference the information appearing under
the captions "ELECTION OF DIRECTORS" and "COMPLIANCE WITH SECTION 16(A) OF THE
SECURITIES EXCHANGE ACT OF 1934" from the Company's definitive proxy statement
for the 1999 Annual Meeting of the Stockholders to be filed with the Commission
on or before January 28, 1999.
ITEM 11. EXECUTIVE COMPENSATION
There is hereby incorporated by reference information appearing under the
caption "EXECUTIVE COMPENSATION" from the Company's definitive proxy statement
for the 1999 Annual Meeting of Stockholders to be filed with the Commission on
or before January 28, 1999.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
There is hereby incorporated by reference the information appearing under
the caption "SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT"
from the Company's definitive proxy statement for the 1999 Annual Meeting of
Stockholders to be filed with the Commission on or before January 28, 1999.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
There is hereby incorporated by reference the information appearing under
the caption "EXECUTIVE COMPENSATION" from the Company's definitive proxy
statement for the 1999 Annual Meeting of Stockholders to be filed with the
Commission on or before January 28, 1999.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENTS SCHEDULES, AND REPORTS ON FORM 8-K
(a) The following documents are filed as part of this report:
(1) Financial Statements
The list of financial statements contained in the accompanying Index
to Financial Statements covered by Report of Independent Accountants
is herein incorporated by reference.
(2) Financial Statement Schedules
The list of financial statements schedules contained in the
accompanying Index to Financial Statements covered by Report of
Independent Accountants is herein incorporated by reference.
All other schedules are omitted because they are not applicable or
the required information is shown in the financial statements or
notes thereto.
(3) Exhibits
The list of exhibits on the accompanying Exhibit Index is herein
incorporated by reference.
(b) Reports on Form 8-K.
The Company filed no Current Reports on Form 8-K during the last quarter of
the period covered by this Report.
31
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the Registrant
has duly caused this Annual Report on Form 10-K to be signed on its behalf by
the undersigned, thereunto duly authorized, in the City of El Segundo, State of
California, on the 29th day of December, 1998.
EN POINTE TECHNOLOGIES, INC.
BY: /s/ BOB DIN
-----------------------------------------
Bob Din,
CHAIRMAN OF THE BOARD AND CHIEF EXECUTIVE
OFFICER (PRINCIPAL EXECUTIVE OFFICER)
POWER OF ATTORNEY
We, the undersigned directors and officers of En Pointe Technologies, Inc.
do hereby constitute and appoint Attiazaz "Bob" Din and C. Stephen Cordial, or
either of them, with full power of substitution and resubstitution, our true and
lawful attorneys and agents, to do any and all acts and things in our name and
behalf in our capacities as directors and officers and to execute any and all
instruments for us and in our names in the capacities indicated below, which
said attorneys and agents, or either of them, or their substitutes, may deem
necessary or advisable to enable said corporation to comply with the Securities
Exchange Act of 1934, as amended, and any rules, regulations and requirements of
the Securities and Exchange Commission in connection with this Annual Report on
Form 10-K, including specifically, but without limitation, power and authority
to sign for us or any of us in our names and in the capacities indicated below,
any and all amendments; and we do hereby ratify and confirm all that the said
attorneys and agents, or either of them, shall do or cause to be done by virtue
hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, this Annual Report on Form 10-K has been signed below by the following
persons in the capacities and on the dates indicated.
SIGNATURE AND TITLE DATE
- ------------------------------ -------------------
Chairman of the Board,
ATTIAZAZ 'BOB' DIN Chief Executive Officer
- ------------------------------ and Director (Principal December 28, 1998
Attiazaz 'Bob' Din Executive Officer)
Chief Financial Officer
C. STEPHEN CORDIAL (Principal Financial and
- ------------------------------ Principal Accounting December 28, 1998
C. Stephen Cordial Officer)
NAUREEN DIN
- ------------------------------ Director December 28, 1998
Naureen Din
ZUBAIR AHMED
- ------------------------------ Director December 27, 1998
Zubair Ahmed
MARK BRIGGS
- ------------------------------ Director December 28, 1998
Mark Briggs
VERDELL GARROUTTE
- ------------------------------ Director December 24, 1998
Verdell Garroutte
32
EN POINTE TECHNOLOGIES, INC.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE
---------
Report of Independent Accountants.......................................................................... F-2
Consolidated Balance Sheets as of September 30, 1998 and 1997.............................................. F-3
Consolidated Statements of Operations for each of the Three Years in the Period Ended September 30, 1998... F-4
Consolidated Statements of Stockholders' Equity for each of the Three Years in the Period Ended September
30, 1998................................................................................................. F-5
Consolidated Statements of Cash Flows for each of the Three Years in the Period Ended September 30, 1998... F-6
Notes to Consolidated Financial Statements................................................................. F-7
Schedule II--Valuation and Qualifying Accounts............................................................. F-20
F-1
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders
En Pointe Technologies, Inc.
In our opinion, the consolidated financial statements listed in the
accompanying index present fairly, in all material respects, the consolidated
financial position of En Pointe Technologies, Inc. and its subsidiaries at
September 30, 1998 and 1997, and the consolidated results of their operations
and their cash flows for each of the three years in the period ended September
30, 1998, in conformity with generally accepted accounting procedures. In
addition, in our opinion, the consolidated financial statement schedule listed
in the accompanying index presents fairly, in all material respects, the
information set forth therein when read in conjunction with the related
consolidated financial statements. These consolidated financial statements and
consolidated financial statement schedule are the responsibility of the
Company's management; our responsibility is to express an opinion on these
consolidated financial statements and consolidated financial statement schedule
based on our audits. We conducted our audits of these statements in accordance
with generally accepted auditing standards, which require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the consolidated
financial statements, assessing the accounting principles used and significant
estimates made by management, and evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for the
opinion expressed above.
PricewaterhouseCoopers LLP
Los Angeles, California
November 24, 1998
F-2
EN POINTE TECHNOLOGIES, INC.
CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30,
-----------------------------
1998 1997
-------------- -------------
ASSETS:
Current assets:
Cash and cash equivalents....................................................... $ 3,364,997 $ 3,314,625
Restricted cash................................................................. 1,999,294 411,933
Accounts receivable, net of allowance for returns, price protection and doubtful
accounts of $1,975,756 and $1,277,256 respectively............................ 101,955,648 76,874,987
Inventories..................................................................... 7,008,603 4,663,235
Prepaid expenses and other current assets....................................... 448,798 1,569,293
-------------- -------------
Total current assets.......................................................... 114,777,340 86,834,073
Property and equipment, net of accumulated depreciation and amortization.......... 16,112,952 3,278,070
Other assets...................................................................... 1,676,611 750,000
-------------- -------------
Total assets.................................................................. $ 132,566,903 $ 90,862,143
-------------- -------------
-------------- -------------
LIABILITIES AND STOCKHOLDERS' EQUITY:
Current liabilities:
Borrowings under lines of credit................................................ $ 79,597,619 $ 50,692,257
Accounts payable................................................................ 8,837,943 3,798,192
Accrued liabilities............................................................. 5,015,011 5,130,495
Other current liabilities....................................................... 564,369 2,171,367
Current portion of notes payable................................................ 789,834 197,539
Deferred taxes.................................................................. 140,933 91,127
-------------- -------------
Total current liabilities..................................................... 94,945,709 62,080,977
Notes payable..................................................................... 6,602,202 462,656
-------------- -------------
Total liabilities............................................................. 101,547,911 62,543,633
-------------- -------------
Commitments and contingencies
Stockholders' equity (Note 1):
Preferred stock, $.001 par value:
Shares authorized - 5,000,000
No shares issued or outstanding
Common stock, $.001 par value:
Shares authorized - 15,000,000
Issued and outstanding - 5,900,210 and 5,779,071, respectively................ 5,900 5,779
Additional paid-in capital...................................................... 18,756,956 18,283,138
Treasury Stock (803 shares in 1998)............................................. (5,655) --
Retained earnings............................................................... 12,261,791 10,029,593
-------------- -------------
Total stockholders' equity...................................................... 31,018,992 28,318,510
-------------- -------------
Total liabilities and stockholders' equity...................................... $ 132,566,903 $ 90,862,143
-------------- -------------
-------------- -------------
See Notes to Consolidated Financial Statements.
F-3
EN POINTE TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
YEAR ENDED SEPTEMBER 30,
----------------------------------------------
1998 1997 1996
-------------- -------------- --------------
Net sales....................................................... $ 567,739,355 $ 491,358,145 $ 345,092,672
Cost of sales................................................... 514,167,933 447,276,335 316,164,858
-------------- -------------- --------------
Gross profit.................................................. 53,571,422 44,081,810 28,927,814
Selling and marketing expenses.................................. 34,257,087 22,339,458 15,253,420
General and administrative expenses............................. 13,665,509 10,904,973 5,947,808
Litigation settlement and defense, net.......................... -- -- 524,913
-------------- -------------- --------------
Operating income.............................................. 5,648,826 10,837,379 7,201,673
Interest expense................................................ 2,165,737 1,238,743 1,672,558
Other income, net............................................... (237,214) (193,700) (115,839)
-------------- -------------- --------------
Income before income taxes.................................... 3,720,303 9,792,336 5,644,954
Provision for income taxes...................................... 1,488,105 3,961,774 2,315,431
-------------- -------------- --------------
Net income.................................................... $ 2,232,198 $ 5,830,562 $ 3,329,523
-------------- -------------- --------------
-------------- -------------- --------------
Net income per share
Basic......................................................... $ 0.38 $ 1.03 $ 0.78
-------------- -------------- --------------
-------------- -------------- --------------
Diluted....................................................... $ 0.37 $ 1.00 $ 0.77
-------------- -------------- --------------
-------------- -------------- --------------
Weighted average shares and share equivalents outstanding
Basic......................................................... 5,875,481 5,680,760 4,255,018
-------------- -------------- --------------
-------------- -------------- --------------
Diluted....................................................... 6,070,752 5,810,828 4,304,438
-------------- -------------- --------------
-------------- -------------- --------------
See Notes to Consolidated Financial Statements.
F-4
EN POINTE TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
COMMON STOCK ADDITIONAL
--------------------- PAID-IN TREASURY RETAINED
SHARES AMOUNT CAPITAL STOCK EARNINGS TOTAL
---------- --------- ------------- --------- ------------- ----------------
Balance at September 30, 1995........... 3,350,000 $ 3,350 $ 958,770 $ -- $ 869,508 $ 1,831,628
Issuance of common stock, net of
offering costs...................... 2,250,000 2,250 15,542,693 -- -- 15,544,943
Shares issued for services performed
related to public offering.......... 7,500 8 (8) -- -- --
Issuance of warrants.................. -- -- 100 -- -- 100
Amortization of deferred
compensation........................ -- -- 169,143 -- -- 169,143
Net income............................ -- -- -- -- 3,329,523 3,329,523
---------- --------- ------------- --------- ------------- ----------------
Balance at September 30, 1996........... 5,607,500 5,608 16,670,698 -- 4,199,031 20,875,337
Issuance of common stock under stock
option and stock purchase plans..... 167,532 167 1,257,539 -- -- 1,257,706
Issuance of common stock on exercise
of warrants......................... 4,039 4 (4) -- -- --
Amortization of deferred
compensation........................ -- -- 90,381 -- -- 90,381
Income tax benefits related to stock
options............................. -- -- 264,524 -- -- 264,524
Net income............................ -- -- -- -- 5,830,562 5,830,562
---------- --------- ------------- --------- ------------- ----------------
Balance at September 30, 1997........... 5,779,071 5,779 18,283,138 -- 10,029,593 28,318,510
Issuance of common stock under stock
option and stock purchase plans..... 43,932 44 389,905 -- -- 389,949
Issuance of common stock on exercise
of warrants......................... 77,207 77 (77) -- -- --
Amortization of deferred
compensation........................ -- -- 24,476 -- -- 24,476
Income tax benefits related to stock
options............................. -- -- 59,514 -- -- 59,514
Treasury stock........................ -- -- (5,655) (5,655)
Net income............................ -- -- -- -- 2,232,198 2,232,198
---------- --------- ------------- --------- ------------- ----------------
Balance at September 30, 1998........... 5,900,210 $ 5,900 $ 18,756,956 $ (5,655) $ 12,261,791 $ 31,018,992
---------- --------- ------------- --------- ------------- ----------------
---------- --------- ------------- --------- ------------- ----------------
See Notes to Consolidated Financial Statements.
F-5
EN POINTE TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
1998 1997 1996
------------ ----------- -----------
Operating activities:
Net income............................................................ $ 2,232,198 $ 5,830,562 $ 3,329,523
Adjustments to reconcile net income to net cash used by operating
activities:
Depreciation and amortization......................................... 1,728,170 1,238,378 627,626
Loss on disposal of assets............................................ 232,144 -- --
Litigation settlement................................................. -- -- 478,922
Allowance for doubtful accounts....................................... 329,000 347,256 390,000
Allowance for returns and price protection............................ 369,500 (86,600) --
Allowance for inventory obsolescence.................................. 100,000 -- --
Deferred taxes........................................................ 49,825 (135,660) (48,980)
Deferred compensation................................................. 24,476 90,381 169,143
Changes in operating assets and liabilities:
Restricted cash....................................................... (1,587,361) 198,067 506,000
Accounts receivable................................................... (25,779,161) (21,462,967) (24,134,007)
Inventories........................................................... (2,445,368) (2,857,162) (174,364)
Prepaid expenses and other current assets............................. 1,120,477 (1,003,617) (258,807)
Other assets.......................................................... (926,611) -- --
Accounts payable...................................................... 5,039,751 2,017,048 683,971
Accrued expenses...................................................... (115,484) 284,050 110,229
Other current liabilities............................................. (1,547,484) 1,733,366 2,276,595
------------ ----------- -----------
Net cash used by operating activities............................... (21,175,928) (13,806,898) (16,044,149)
------------ ----------- -----------
Investing activities:
Software development costs............................................ -- -- (456,072)
Acquisition of business............................................... (514,033) -- --
Purchase of property and equipment.................................... (10,571,163) (1,695,397) (1,713,710)
------------ ----------- -----------
Net cash used by investing activities............................... (11,085,196) (1,695,397) (2,169,782)
------------ ----------- -----------
Financing activities:
Net borrowings under lines of credit.................................. 28,905,362 14,188,419 9,030,886
Proceeds from notes payable........................................... 3,431,500 402,383 --
Payment on notes payable to stockholders.............................. -- -- (150,000)
Payment on notes payable.............................................. (409,659) (189,700) (3,344,067)
Net proceeds from sale of common stock................................ 389,948 1,257,706 15,545,043
Treasury stock........................................................ (5,655) -- --
------------ ----------- -----------
Net cash provided by financing activities........................... 32,311,496 15,658,808 21,081,862
------------ ----------- -----------
Increase in cash...................................................... 50,372 156,513 2,867,931
Cash at beginning of period........................................... 3,314,625 3,158,112 290,181
------------ ----------- -----------
Cash at end of period................................................. $ 3,364,997 $ 3,314,625 $ 3,158,112
------------ ----------- -----------
------------ ----------- -----------
Supplemental disclosures of cash flow information:
Interest paid......................................................... $ 2,165,737 $ 1,288,230 $ 1,759,780
------------ ----------- -----------
------------ ----------- -----------
Income taxes paid..................................................... $ 1,897,985 $ 5,988,138 $ 2,626,581
------------ ----------- -----------
------------ ----------- -----------
Supplemental schedule of non-cash financing and investing activities:
Long-term debt incurred in purchase of property and equipment......... $ 3,710,000
------------
------------
Tax benefit related to stock options.................................. $ 59,514 $ 264,524
------------ -----------
------------ -----------
Receipt of stock in exchange for EPIC license......................... $ 750,000
-----------
-----------
Notes issued under settlement agreement............................... $ 478,922
-----------
-----------
See Notes to Consolidated Financial Statements.
F-6
EN POINTE TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1 ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION
The Company was incorporated under the laws of the State of Texas on January
25, 1993 under the name Infosystems, Inc., which name was later changed to
InfoTech Systems, and commenced operations in March 1993. On September 21, 1995,
the Company changed its name to En Pointe Technologies, Inc.
In February 1996, the Company's Board of Directors (the "Board") authorized
the reincorporation of the Company in the State of Delaware with total
authorized shares of all classes of stock to be 20,000,000 shares, consisting of
15,000,000 shares of common stock, $.001 par value per share, and 5,000,000
shares of preferred stock, $.001 par value per share, to be effected on or
before the effective date of a registration statement for an initial public
offering ("IPO") of common stock. In connection with such reincorporation, the
Company authorized a forward stock split of 207.7 shares for each share of
issued and outstanding common stock of the Company. All share and per share
amounts have been adjusted to retroactively reflect this stock split. On May 8,
1996 the Company successfully completed its IPO of 2,250,000 shares at $8 per
share.
The Company is a reseller of computers and computer-related products and
services and currently has sales offices in 21 locations within the United
States.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company
and its wholly-owned subsidiaries, En Pointe Technologies Sales, Inc., En Pointe
Technologies Canada, Inc. and Purchase Pointe, Inc. All material intercompany
accounts and transactions have been eliminated.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
REVENUE RECOGNITION
Product revenues are recognized upon shipment and satisfaction of
significant vendor obligations, if any. Service revenues are recognized based on
contracted hourly rates, as services are rendered, or upon completion of
specified contracted services. Net sales consist of product and service revenues
less discounts. Cost of sales include product and service costs and current and
estimated allowances for returns not accepted by the Company's suppliers, less
any product credits. At September 30, 1998 and 1997, the allowance for returns
and price protection was approximately $785,000 and $415,000 respectively.
CASH AND CASH EQUIVALENTS
For purposes of the statement of cash flows, the Company considers all time
deposits and highly liquid investments with original maturities of three months
or less to be cash equivalents. The Company has bank balances, including cash
equivalents, which at times may exceed federally insured limits.
F-7
EN POINTE TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
1 ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Restricted cash includes approximately $1,938,000 that may be used for
future equipment purchases.
INVENTORIES
Inventories consist principally of merchandise being configured for customer
orders and merchandise paid for by the Company but not yet shipped by the
Company's vendors to its customers and are stated at the lower of cost (specific
identification method) or market.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Depreciation and amortization are
computed using the straight-line method over the estimated useful lives of three
to seven years. Leasehold improvements are amortized over the lessor of the
remaining lease term or their estimated useful lives. Upon sale, any gain or
loss is included in the statement of operations. Maintenance and minor
replacements are charged to operations as incurred.
Interest is capitalized in connection with the construction of major
facilities. The capitalized interest is recorded as part of the asset to which
it relates and is amortized over the asset's estimated useful life. During the
year ended September 30, 1998, interest of approximately $354,000 was
capitalized.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts of financial instruments including cash and cash
equivalents, restricted cash, accounts receivable and payable, accrued and other
current liabilities and current maturities of long-term debt approximate fair
value due to of their short maturity. The carrying amount of long-term debt is
also assumed to approximate fair value.
INTANGIBLE AND LONG-LIVED ASSETS
The carrying value of long-term assets is periodically reviewed by
management, and impairment losses, if any, are recognized when the expected
nondiscounted future operating cash flows derived from such assets are less than
their carrying value.
ADVERTISING
The Company reports the costs of all advertising in the periods in which
those costs are incurred. Advertising costs have not been a significant item of
expense for the Company.
INCOME TAXES
The Company accounts for income taxes under the liability method. Under this
method, deferred tax assets and liabilities are determined based on differences
between the financial reporting and tax bases of assets and liabilities and are
measured using the enacted tax rates and laws which will be in effect when the
differences are expected to reverse. Valuation allowances are established when
necessary to reduce deferred tax assets to the amounts expected to be realized.
F-8
EN POINTE TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
1 ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
CONCENTRATION OF CREDIT RISK AND MAJOR CUSTOMERS
Financial instruments that potentially subject the Company to significant
concentrations of credit risk consist principally of cash deposits and trade
accounts receivable. The Company's cash deposits are placed with various
financial institutions.
For the years ended September 30, 1998, 1997 and 1996, one of the Company's
customers accounted for approximately 21%, 30% and 28% of net sales,
respectively. At September 30, 1998 and 1997 that customer accounted for 21% and
24% of accounts receivable, respectively. No other customer accounted for 10% or
more of net sales
The Company performs ongoing credit evaluations of its customers' financial
condition and generally does not require collateral. Estimated credit losses and
returns, if any, have been provided for in the financial statements and have, to
date, generally been within management's expectations.
STOCK BASED EMPLOYEE COMPENSATION AWARDS
Statement of Financial Accounting Standards ("SFAS") No. 123, "Accounting
for the Awards of Stock-Based Compensation to Employees" encourages, but does
not require companies to record compensation cost for stock-based compensation
plans at fair value. The Company has adopted the disclosure requirements of SFAS
No. 123, which involves proforma disclosure of net income under the provisions
of SFAS No. 123, detailed descriptions of plan terms and assumptions used in
valuing stock option grants. The Company has chosen to continue to account for
stock-based employee compensation awards in accordance with Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees".
VENDOR PROGRAMS
The Company receives volume incentives and rebates from certain
manufacturers related to sales of certain products which are recorded as a
reduction of cost of goods sold when earned. The Company also receives
manufacturer reimbursement for certain training, promotional and marketing
activities that offset the expenses incurred by the Company.
EARNINGS PER SHARE
Statement of Financial Accounting Standards ("SFAS") No. 128, "Earnings Per
Share," is effective for financial statements issued for periods ending after
December 15, 1997. SFAS No. 128 replaces Accounting Principles Board Opinion
("APB") No. 15 and simplifies the computation of earnings per share ("EPS") by
replacing the presentation of primary EPS with a presentation of basic EPS.
Basic EPS 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 EPS reflects the potential dilution from securities that
could share in the earnings of the Company, similar to fully diluted EPS under
APB No. 15. The Statement requires dual presentation of basic and diluted EPS by
entities with complex capital structures. The Company adopted SFAS No. 128 for
the consolidated financial statements for the year ended September 30, 1998 and
in accordance with SFAS No. 128, all prior periods have been restated to adopt
this standard. See Note 8--"Earnings Per Share."
F-9
EN POINTE TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
1 ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
RECENTLY ISSUED ACCOUNTING STANDARDS
In June 1997, FASB issued SFAS No. 130, "Reporting Comprehensive Income."
The standard establishes guidelines for the reporting and display of
comprehensive income and its components in financial statements. Disclosure of
comprehensive income and its components will be required beginning with the
Company's 1999 fiscal year end.
Also in June 1997, the FASB issued SFAS No. 131, "Disclosures About Segments
of an Enterprise and Related Information." The standard requires that companies
disclose "operating segments" based on the way management disaggregates the
company for making internal operating decisions. The new standard will be
effective for the Company's 1999 fiscal year end. The Company has not yet
evaluated the impact, if any, of the new standard.
2 PROPERTY AND EQUIPMENT
Property and equipment consist of the following:
SEPTEMBER 30,
----------------------------
1998 1997
------------- -------------
Land............................................................ $ 1,264,329 $ --
Building........................................................ 7,861,170 --
Warehouse equipment............................................. 906,428 --
Computer equipment.............................................. 6,624,960 3,735,975
Software costs.................................................. 1,543,376 749,469
Office equipment................................................ 647,770 421,499
Leasehold improvements.......................................... 380,693 355,653
Automotive equipment............................................ 165,288 139,318
Furniture and fixtures.......................................... 526,577 246,529
------------- -------------
19,920,591 5,648,443
Less: Accumulated depreciation and amortization............... (3,807,639) (2,370,373)
------------- -------------
$ 16,112,952 $ 3,278,070
------------- -------------
------------- -------------
3 LINES OF CREDIT
At September 30, 1998 and 1997, the Company had outstanding borrowings of
$79,597,619 and $50,692,257, respectively, under lines of credit with various
financial institutions.
The line of credit agreements provide for total financing of up to
$105,000,000 and $81,000,000 at September 30, 1998 and 1997, respectively, at
annual interest rates of prime less .25% for both periods. Total borrowings
under the line of credit agreements are collateralized by eligible accounts
receivable (as defined in the agreements) and substantially all of the Company's
assets. Borrowings are limited to specific percentages of the Company's accounts
receivable and inventory balances. The line of credit agreements contain various
covenants which provide, among other things, a restriction on dividend payments
and the requirement for the maintenance of certain financial ratios. At
September 30, 1998 the Company has obtained a waiver on non-compliance with one
of the IBMCC covenants relating to minimum percentage of net income to sales and
remains in compliance with all remaining covenants under its line of credit
F-10
EN POINTE TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
3 LINES OF CREDIT (CONTINUED)
agreements. The prime rate of interest was 8.50%, 8.50% and 8.25% at September
30, 1998, 1997, and 1996 respectively, and the weighted average interest rates
for the years ended September 30, 1998, 1997, and 1996 were 8.25%, 8.17%, and
10.78%, respectively.
The principal line of credit agreement for $70,000,000 expires on April 13,
1999, if not renewed.
4 NOTES PAYABLE
Notes payable consist of the following:
SEPTEMBER 30,
-------------------------
1998 1997
------------ -----------
Note payable, collateralized by deed of trust on property, interest at prime plus .25%,
payable in monthly installments of $39,978, due in full on October 31, 2007.......... $ 3,586,644 $ --
Note payable, collateralized by certain equipment, interest at 8.15%, payable in
monthly installments of $39,153, due in full on April 30, 2005....................... 2,387,616 --
Note payable, collateralized by certain equipment, interest at 5.25%, payable in
monthly installments of $14,252, due in full on April 30, 2005....................... 950,183 --
Note payable, interest at 1.9%, payable in monthly installments of $657, due in full
December 31, 2000.................................................................... 17,345 --
Note payable under legal settlement, non interest bearing, payable in monthly
installments of $7,500 due in full on April 9, 2001, includes discount to present
value at 6.40% interest per annum.................................................... 213,773 287,511
Installment note payable, collateralized by equipment, at 8.76% interest per annum,
payable in 36 monthly installments of $12,751........................................ 236,475 372,684
------------ -----------
7,392,036 660,195
Less, current portion.................................................................. (789,834) (197,539)
------------ -----------
$ 6,602,202 $ 462,656
------------ -----------
------------ -----------
Maturities of long-term debt as of September 30, 1998 are as follows:
1999............................................................ $ 789,834
2000............................................................ 822,247
2001............................................................ 736,478
2002............................................................ 738,053
2003............................................................ 797,504
Thereafter...................................................... 3,507,920
---------
$7,392,036
---------
---------
5 EMPLOYEE BENEFIT PLAN
The Company has an employee savings plan (the "401(k) Plan") that covers
substantially all full-time employees who are twenty-one years of age or older.
Company contributions to the 401(k) Plan are at the
F-11
EN POINTE TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
5 EMPLOYEE BENEFIT PLAN (CONTINUED)
discretion of the Board of Directors and vest over seven years of service. No
contributions were made by the Company to the 401(k) Plan during fiscal years
1998, 1997 and 1996.
6 INCOME TAXES
The components of the income tax provision (benefit) are as follows:
SEPTEMBER 30,
----------------------------------------
1998 1997 1996
------------ ------------ ------------
Current:
Federal............................................................... $ 1,139,345 $ 3,202,137 $ 1,846,325
State................................................................. 298,935 895,297 510,813
------------ ------------ ------------
1,438,280 4,097,434 2,357,138
------------ ------------ ------------
Deferred:
Federal............................................................... 36,876 (122,839) (48,999)
State................................................................. 12,949 (12,821) 7,292
------------ ------------ ------------
49,825 (135,660) (41,707)
------------ ------------ ------------
$ 1,488,105 $ 3,961,774 $ 2,315,431
------------ ------------ ------------
------------ ------------ ------------
The provision for income taxes differs from the amount computed by applying
the federal statutory rate to income before provision for income taxes as
follows:
SEPTEMBER 30,
-------------------------------------
1998 1997 1996
----- ----- -----
Federal statutory rate................................................... 34% 34% 34%
State taxes, net of federal benefits..................................... 5% 6% 6%
Non-deductible expenses.................................................. 1% -- 1%
-- -- --
40% 40% 41%
-- -- --
-- -- --
Deferred income taxes reflect the tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes.
F-12
EN POINTE TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
6 INCOME TAXES (CONTINUED)
Significant components of deferred taxes were as follows:
SEPTEMBER 30,
----------------------------
1998 1997
------------- -------------
Deferred tax assets:
Accounts receivable and allowance for returns................. $ 555,665 $ 461,900
Expenses not currently deductible............................. 604,841 293,500
Depreciation.................................................. 5,397 21,854
State income taxes............................................ 62,782 171,201
------------- -------------
1,228,685 948,455
------------- -------------
Deferred tax liabilities:
Prepaid sales commissions..................................... -- (73,914)
Discount on receivables....................................... (1,112,545) (801,572)
Software development costs.................................... (257,073) (164,096)
------------- -------------
(1,369,618) (1,039,582)
------------- -------------
Net deferred tax liability...................................... $ (140,933) $ (91,127)
------------- -------------
------------- -------------
7 COMMITMENTS AND CONTINGENCIES
The Company leases office facilities and various office equipment. These
leases extend over a period of up to five years and are accounted for as
operating leases. Estimated future minimum lease payments under operating leases
having initial or remaining noncancellable lease terms in excess of one year at
September 30, 1998 were approximately as follows:
1999............................................................... $2,077,814
2000............................................................... 1,577,566
2001............................................................... 1,158,938
2002............................................................... 645,508
2003............................................................... 290,741
---------
$5,750,567
---------
---------
Rent expense for the years ended September 30, 1998, 1997, and 1996 under
all operating leases was approximately $2,419,000, $1,665,000, and 1,104,000,
respectively.
The Company has entered into employment contracts with certain of its
officers. The agreements provide for annual base salary with bonuses at the
discretion of the Board of Directors. In addition, agreements with two officers
provide for bonuses of 3 1/2% and 2 1/2% of pre-tax profit, provided certain
minimum pre-tax profit levels are obtained. The agreements have three to five
year terms ending at various times through fiscal 2001 and provide for
guaranteed severance payments upon termination of employment other than for
cause.
In connection with the acquisition of the assets of First Source, Inc. by
Purchase Pointe, Inc., the Company is obligated to make contingent payments
equal to the cumulative net income of Purchase Pointe, Inc. in excess of
$500,000 earned during the period from June 1, 1998 through April 30, 1999.
F-13
EN POINTE TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
8 EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted net
income per share:
YEAR ENDED SEPTEMBER 30,
----------------------------------------
1998 1997 1996
------------ ------------ ------------
BASIC
Net income.............................................................. $ 2,232,198 $ 5,830,562 $ 3,329,523
------------ ------------ ------------
------------ ------------ ------------
Total weighted average shares outstanding............................... 5,875,481 5,680,760 4,255,018
------------ ------------ ------------
------------ ------------ ------------
Net income per share.................................................... $ 0.38 $ 1.03 $ 0.78
------------ ------------ ------------
------------ ------------ ------------
DILUTED
Net income.............................................................. $ 2,232,198 $ 5,830,562 $ 3,329,523
------------ ------------ ------------
------------ ------------ ------------
Weighted average shares outstanding..................................... 5,875,481 5,680,760 4,255,018
Weighted average (incremental) common share equivalents after
considering the effects of options and warrants exercised and canceled
during the period and after assumed repurchase of treasury shares..... 195,271 130,068 49,403
------------ ------------ ------------
Total weighted average shares........................................... 6,070,752 5,810,828 4,304,421
------------ ------------ ------------
------------ ------------ ------------
Net income per share.................................................... $ 0.37 $ 1.00 $ 0.77
------------ ------------ ------------
------------ ------------ ------------
9 STOCK OPTIONS AND WARRANTS
In March 1996, the Company instituted a qualified (Incentive Stock Option
Plan) and non-qualified stock option plan which provides currently that options
for a maximum of 1,260,000 shares of common stock may be granted to directors,
officers, and key employees with an exercise period not to exceed ten years. The
stock options are generally exercisable at fair market value at the date of
grant and generally vest on a pro-rata basis ending on the third, ninth and
twenty-seventh months following the grant date. In addition to the above plan,
on September 2, 1997, the Company issued options to the Company president in
connection with her employment agreement, under terms similar to that of the
Company's Incentive Stock Option Plan, to purchase 275,000 shares at $14.38 per
share, which was the market value of the common stock on the grant date. As of
September 30, 1998 and 1997, the shares available for grant under the plan were
150,245 and 227,627, respectively.
F-14
EN POINTE TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9 STOCK OPTIONS AND WARRANTS (CONTINUED)
The following is a summary of stock option activity:
STOCK OPTIONS
-----------------------------------
TOTAL PRICE
NON EXERCISE RANGE
INCENTIVE INCENTIVE VALUE PER SHARE
--------- --------- ------------- --------------
Outstanding at September 30, 1995........................... -- -- --
Granted................................................... 190,000 104,000 $ 2,064,000 $ 6.40-$8.00
Exercised................................................. -- -- --
Cancelled................................................. -- (8,500) $ (68,000) $ 8.00
--------- --------- ------------- --------------
Outstanding at September 30, 1996........................... 190,000 95,500 $ 1,996,000 $ 6.40-$8.00
Granted................................................... 10,000 532,600 $ 6,459,575 $ 9.50-$14.38
Exercised................................................. (32,998) (43,397) $ (574,351) $ 6.40-$9.50
Cancelled................................................. (13,334) (5,998) $ (143,989) $ 7.20-$8.00
--------- --------- ------------- --------------
Outstanding at September 30, 1997........................... 153,668 578,705 $ 7,737,235 $ 6.40-$14.38
Granted................................................... 10,000 417,800 $ 3,500,725 $ 6.50-$11.62
Exercised................................................. -- (17,137) $ (153,839) $ 8.00-$9.50
Cancelled................................................. -- (33,281) $ (245,898) $ 7.81-$9.50
--------- --------- ------------- --------------
Outstanding at September 30, 1998........................... 163,668 946,087 $ 10,838,223 $ 6.40-$14.38
--------- --------- ------------- --------------
--------- --------- ------------- --------------
WEIGHTED
AVERAGE REMAINING
OPTIONS EXERCISE CONTRACTUAL
EXERCISABLE PRICE LIFE
---------- ----------- ---------------
September 30, 1996........................................................... 88,681 $ 6.98 9.61
September 30, 1997........................................................... 186,116 $ 7.87 9.21
September 30, 1998........................................................... 559,723 $ 10.24 8.46
F-15
EN POINTE TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9 STOCK OPTIONS AND WARRANTS (CONTINUED)
WEIGHTED WEIGHTED
AVERAGE AVERAGE
EXERCISE FAIR VALUE
OUTSTANDING OPTION PRICE PRICE AT GRANT DATE
----------- -------------- ----------- -------------
Options Issued at Market:
Outstanding at September 30, 1995
Granted............................................... 104,000 $ 8.00 $ 8.00 $ 6.55
Exercised............................................. (8,500) $ 8.00 $ 8.00 --
Cancelled............................................. -- $ 8.00 $ 8.00 --
----------- -------------- ----------- ------
Outstanding at September 30, 1996....................... 95,500 $ 8.00 $ 8.00 --
Granted............................................... 542,600 $ 9.50-$14.38 $ 12.04 $ 12.04
Exercised............................................. (43,397) $ 8.00-$9.50 $ 8.82 --
Cancelled............................................. (5,998) $ 8.00 $ 8.00 --
----------- -------------- ----------- ------
Outstanding at September 30, 1997....................... 588,705 $ 8.00-$14.38 $ 10.45 --
Granted............................................... 427,800 $ 6.50-$11.62 $ 8.18 $ 8.18
Exercised............................................. (17,137) $ 8.00-$9.50 $ 8.98 --
Cancelled............................................. (33,281) $ 8.00-$22.88 $ 11.51 --
----------- -------------- ----------- ------
Outstanding at September 30, 1998....................... 966,087 $ 6.50-$14.38 $ 11.56 --
----------- -------------- ----------- ------
----------- -------------- ----------- ------
Options Issued Below Market:
Outstanding at September 30, 1995
Granted............................................... 190,000 $ 6.40-$7.20 $ 6.48 $ 8.18
Exercised............................................. -- -- -- --
Cancelled............................................. -- -- -- --
----------- -------------- ----------- ------
Outstanding at September 30, 1996....................... 190,000 $ 6.40-$7.20 $ 6.48 --
Granted............................................... -- -- -- --
Exercised............................................. (32,998) $ 6.40-$7.20 $ 6.47 --
Cancelled............................................. (13,334) $ 7.20 $ 7.20 --
----------- -------------- ----------- ------
Outstanding at September 30, 1997....................... 143,668 $ 6.40-$7.20 $ 6.42 --
Granted............................................... -- -- -- --
Exercised............................................. -- -- -- --
Cancelled............................................. -- -- -- --
----------- -------------- ----------- ------
Outstanding at September 30, 1998....................... 143,668 $ 6.40-$7.20 $ 6.42 --
----------- -------------- ----------- ------
----------- -------------- ----------- ------
At September 30, 1998 warrants to purchase 77,500 shares of the Company's
common stock were also outstanding. The warrants were issued by the Company to
the underwriter of the initial public offering, and are exercisable at any time
over a five year life at an exercise price of $9.60 per share.
En Pointe has adopted the disclosure only provisions of SFAS No. 123,
"Accounting for Stock Based Compensation." If compensation expense for the stock
options had been determined using "fair value" at
F-16
EN POINTE TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9 STOCK OPTIONS AND WARRANTS (CONTINUED)
the grant date for awards in 1997 and 1998, consistent with the provisions of
SFAS No. 123, the Company's net income and net income per share would have been
reduced to the pro forma amounts indicated below:
1998 1997
------------ ------------
Net income as reported............................................ $ 2,232,198 $ 5,830,562
Net income pro forma.............................................. $ 714,450 $ 4,929,547
Earnings per share as reported.................................... $ 0.38 $ 1.03
Fully diluted earnings per share as reported...................... $ 0.37 $ 1.00
Earnings per share pro forma...................................... $ 0.12 $ 0.87
Fully diluted earnings per share pro forma........................ $ 0.12 $ 0.85
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option-pricing model with the following weighted-average
assumptions used for grants in 1998 and 1997:
EXPECTED RISK FREE
DIVIDEND EXPECTED INTEREST EXPECTED
YIELD VOLATILITY RATE LIVES
--------------- ------------- ------------- -----------
September 30, 1997..................................................... 0% 67% 6.16% 2.5
September 30, 1998..................................................... 0% 68% 5.66% 5.0
10 EMPLOYEE STOCK PLAN
The Company also has an Employee Stock Purchase Plan (the "Plan") under
which there remains authorized and available for sale to employees an aggregate
of 95,871 shares of the Company's common stock. The Plan, which is intended to
qualify under Section 423 of the Code, permits eligible employees to purchase
common stock, subject to certain limitations, up to 20% of their compensation.
Purchases of stock under the Plan are made twice annually from amounts withheld
from payroll at 85% of the lower of the fair market value of the common stock at
the beginning or end of the six month offering period.
11 LITIGATION
The Company was named, along with Bob Din, as a defendant in a lawsuit filed
April 29, 1997 in the Superior Court for the County of Los Angeles. The case
name for this filing is Novaquest Infosystems, et. al. v. En Pointe
Technologies, Inc., et al., and the complaint alleges that the Company and Bob
Din knowingly accepted trade secret information owned by the plaintiffs and
furthermore alleges that the Company interfered with the plaintiffs' prospective
economic advantage. The Company is currently unable to estimate the loss in the
event of an unfavorable outcome. However, before consideration of any potential
insurance recoveries, the Company, on the advice of counsel, believes that the
claims in the suit will not have a material adverse effect on the Company's
business, financial condition, or results of operations. The Company has
maintained various liability insurance policies during the periods covering the
claims above. While such policies may limit coverage under certain
circumstances, the Company believes that it is adequately insured. Trial is
currently set for February 1999.
The Company was named as a defendant in a lawsuit filed on August 4, 1998.
The complaint alleges that the Company, along with an individual defendant who
was a former employee of the plaintiff, conspired to steal customers, employees
and trade secrets. The Company is currently unable to estimate the loss in the
event of an unfavorable outcome. However, the Company believes that the claims
in the suit
F-17
EN POINTE TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
11 LITIGATION (CONTINUED)
will not have a material adverse effect on the Company's business, financial
condition or results of operations.
The Company was named as a defendant in two similar lawsuits. The cases
involve plaintiffs who were former account executives for the Company, and
allege fraud in the inducement, breach of contract, and unpaid wages. In
addition, the plaintiffs are pursuing several claims under the Business &
Professions Code on behalf of the general public. In these regards, the
complaints seek equitable relief only. The Company is currently unable to
estimate the loss in the event of an unfavorable outcome.
On June 3, 1998, the Company was named as a defendant in a lawsuit alleging
the Company did not sufficiently pay for services. The plaintiff is suing for
breach of contract. The case was ordered to binding arbitration by the Los
Angeles Superior Court based on the Petition of the Company. At this time, the
Company is unable to estimate the loss in the event of an unfavorable outcome.
In April 1996 the Company, Bob Din and Naureen Din entered into a settlement
agreement with a former employee of the Company, pursuant to which the former
employee has released the Company and Bob Din and Naureen Din from any and all
claims with respect to the Company's use of certain computerized information
system software originally developed by the former employee prior to his
employment with the Company (the "Settlement Agreement"). As consideration for
entering into the Settlement Agreement, the Company agreed to pay the former
employee payments totaling $1,225,000. The remaining unpaid balance as of
September 30, 1997 and 1998 was $287,511 and $213,773 respectively.
The Company filed suit against its insurance carrier in order to recoup both
legal costs incurred by the Company in connection with its defense of the
foregoing litigation as well as for amounts paid to the former employee pursuant
to the settlement. In August 1996 the insurance company settled with the Company
paying the full amount of the original settlement.
In addition to the above, the Company is involved with various claims and
litigation in the normal course of business. On the advice of counsel, and in
the opinion of management, the ultimate resolution of these matters will not
have a significant effect on the financial position and cash flows of the
Company.
F-18
EN POINTE TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
12 QUARTERLY FINANCIAL DATA (UNAUDITED)
Selected financial information for the quarterly periods for the fiscal
years ended September 30, 1998 and 1997 is presented below (in thousands, except
per share amounts):
FISCAL 1998 QUARTER ENDED
----------------------------------------------
DECEMBER MARCH JUNE SEPTEMBER
---------- ---------- ---------- ----------
Net sales........................................................ $ 130,189 $ 135,303 $ 143,811 $ 158,436
Gross profit..................................................... 13,391 12,793 13,553 13,835
Net income....................................................... 1,139 209 720 165
Diluted net income per share..................................... 0.18 0.04 0.12 0.03
FISCAL 1997 QUARTER ENDED
----------------------------------------------
DECEMBER MARCH JUNE SEPTEMBER
---------- ---------- ---------- ----------
Net sales........................................................ $ 111,666 $ 116,595 $ 128,400 $ 134,697
Gross profit..................................................... 9,856 9,621 11,729 12,877
Net income....................................................... 1,187 1,324 1,461 1,859
Diluted net income per share..................................... 0.21 0.23 0.25 0.30
F-19
SCHEDULE II
EN POINTE TECHNOLOGIES, INC.
VALUATION AND QUALIFYING ACCOUNTS
BALANCE AT CHARGED TO BALANCE AT
BEGINNING COST AND END
OF PERIOD EXPENSES DEDUCTIONS OF PERIOD
------------ ----------- ----------- ------------
DESCRIPTION
Year ended September 30, 1998
Allowance for doubtful accounts......................... $ 862,256 $ 329,000 $ -- $ 1,191,256
Allowance for returns................................... $ 300,000 $ 189,328 $ -- $ 489,328
Allowance for price protection.......................... $ 115,000 $ 180,172 $ -- $ 295,172
Allowance for inventory valuation....................... $ -- $ 100,000 $ -- $ 100,000
------------ ----------- ----------- ------------
$ 1,277,256 $ 798,500 $ -- $ 2,075,756
------------ ----------- ----------- ------------
------------ ----------- ----------- ------------
Year ended September 30, 1997
Allowance for doubtful accounts......................... $ 515,000 $ 488,136 $ (140,880) $ 862,256
Allowance for returns................................... $ 386,600 $ 27,360 $ (113,960) $ 300,000
Allowance for price protection.......................... $ -- $ 115,000 $ -- $ 115,000
------------ ----------- ----------- ------------
$ 901,600 $ 630,496 $ (254,840) $ 1,277,256
------------ ----------- ----------- ------------
------------ ----------- ----------- ------------
Year ended September 30, 1996
Allowance for doubtful accounts......................... $ 125,000 $ 410,000 $ (20,000) $ 515,000
Allowance for returns................................... $ 386,600 $ -- $ -- $ 386,600
------------ ----------- ----------- ------------
$ 511,600 $ 410,000 $ (20,000) $ 901,600
------------ ----------- ----------- ------------
------------ ----------- ----------- ------------
F-20