FORM 10-QSB - Quarterly Report Under Section 13 or
15(d) of the Securities Exchange Act of 1934
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
[X] Quarterly Report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934. For the period ended May 31, 1998
or
[ ] Transition Report Pursuance to Section 13 or 15(d) of the Securities
Exchange act of 1934. For the transition period from to
Commission File Number 0-24256
ENHANCED SERVICES COMPANY, INC.
(Exact name of registrant as specified in its charter)
Colorado 84-1075908
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization Identification No.)
2361 Rosecrans Ave., Suite 275, El Segundo, California 90245
(Address of principal executive offices) (Zip Code)
(310) 727-1200
(Registrant's telephone number, including area code)
None
(Former name, former address and former fiscal year,
if changed since last report.)
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.
[X] Yes [ ] No
APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS
DURING THE PRECEDING FIVE YEARS:
Indicated by check mark whether the registrant has filed all documents
and reports required to be filed by Sections 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court.
[ ] Yes [ ] No
APPLICABLE ONLY TO CORPORATE ISSUERS:
As of July 15, 1998, Registrant had 2,996,324 shares of common stock, $.001 Par
Value, outstanding.
INDEX
Page
Number
------
Part I. Financial Information
Item I. Financial Statements
Consolidated Balance Sheets as of May 31,
1998 (Unaudited) and November 30, 1997 ....... 2
Consolidated Statements of Operations Three
Months Ended May 31, 1998 and
May 31, 1997 (Unaudited) ..................... 3
Consolidated Statements of Operations, Six
Months Ended May 31, 1998 and
May 31, 1997 (Unaudited) ..................... 4
Consolidated Statements of Cash Flows,
Six Months Ended May 31, 1998 and
May 31, 1997 (Unaudited) ..................... 5
Notes to Consolidated Financial Statements ..... 7
Item 2. Management's Discussion and Analysis of
Financial Conditions and Results of Operations ..... 9
Part II. Other Information .......................................... 12
ENHANCED SERVICES COMPANY, INC. AND CONSOLIDATED SUBSIDIARIES
BALANCE SHEETS
(Unaudited)
May 31 November 30
1998 1997
----------- -----------
Current Assets
Cash in bank .............................. $ 119,479 $ 262,510
Inventory ................................. 249,462 499,814
Accounts receivable, net of allowance
for doubtful accounts ................... 428,883 624,671
Accounts receivable, Zulu-tek, Inc. ....... 1,410,556 --
Other current assets ...................... 203,359 145,173
----------- -----------
Total Current Assets .................... 2,411,739 1,532,168
Property and equipment, net of accumulated
depreciation ................................... 125,652 355,868
Goodwill, net of accumulated amortization ........ -- 710,304
Investment in Zulu-Tek, Inc. ..................... 4,045,000 --
Other assets ..................................... 20,201 92,079
----------- -----------
Total Assets ..................................... $ 6,602,592 $ 2,690,419
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities
Accounts payable and accrued expenses ..... $ 854,540 $ 669,326
Notes payable, current portion ............ 754,500 517,261
Other current liabilities ................. 65,921 7,782
----------- -----------
Total Current Liabilities ............... 1,674,961 1,194,369
Long Term Notes payable .......................... $ 1,045,556 --
Total Liabilities ....................... 2,720,517 1,194,369
----------- -----------
Stockholders' Equity:
Preferred stock - $.001 par value
5,000,000 shares authorized
8,000 issued and outstanding,
8.6% cumulative preferred
(liquidation preference of $800,000) .... 8 8
Preferred stock - $3.00 par value,
1998 issue, 1,000,000 authorized
and outstanding ......................... 3,000,000 --
Common stock - $.001 par value,
15,000,000 shares authorized;
2,996,324 shares issued and
outstanding ............................. 2,996 1,126
Additional paid-in capital ................ 4,807,353 3,229,957
Accumulated (deficit) ..................... (3,928,282) (1,735,041)
----------- -----------
Total Stockholders' Equity .............. 3,882,075 1,496,050
----------- -----------
Total Liabilities and Stockholders' Equity ....... $ 6,602,592 $ 2,690,419
=========== ===========
The accompanying notes are an integral part of the financial statements.
2
ENHANCED SERVICES COMPANY, INC. AND CONSOLIDATED SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Three Months Three Months
Ended Ended
May 31, May 31,
1998 1997
----------- -----------
Revenue:
Sales ................................. $ 1,028,209 $ 1,525,846
Cost of sales (exclusive
of depreciation and salaries
shown separately below) ............. 554,316 629,700
----------- -----------
Gross Profit ....................... 473,893 896,146
----------- -----------
Operating Expenses
Salaries .............................. 597,039 545,936
Advertising and promotion ............. 6,870 76,959
Contract services ..................... 191,730 64,019
Rent .................................. 116,248 87,218
Travel and entertainment .............. 31,232 32,794
Depreciation .......................... 30,672 56,917
Other operating expenses .............. 433,848 382,997
----------- -----------
Total Operating Expenses ............ 1,407,639 1,246,840
----------- -----------
Net Operating (Loss) ....................... (933,746) (350,694)
Interest expense ........................... (12,280) (17,017)
Loss on asset write off .................... (802,323) --
Other income ............................... 24,731 29,713
----------- -----------
Net (Loss) ................................. $(1,723,618) $ (337,998)
=========== ===========
Provision for preferred dividends .......... (17,200) (17,200)
----------- -----------
Net (Loss) to Common Shareholders .......... $(1,740,818) $ (355,198)
=========== ===========
Net (Loss) per Common Share ................ $ (.58) $ (.16)
=========== ===========
Weighted Average Shares Outstanding ........ 2,996,324 2,246,348
=========== ===========
The accompanying notes are an integral part of the financial statements.
3
ENHANCED SERVICES COMPANY, INC. AND CONSOLIDATED SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Six Months Six Months
Ended Ended
May 31 May 31
1998 1997
----------- -----------
Revenue:
Sales ................................. $ 2,111,911 $ 3,056,127
Cost of sales (exclusive
of depreciation and salaries
shown separately below) ............. 979,323 1,211,770
----------- -----------
Gross Profit ....................... 1,132,588 1,844,357
----------- -----------
Operating Expenses
Salaries .............................. 1,128,546 1,080,210
Advertising and promotion ............. 18,522 124,621
Contract services ..................... 220,739 78,468
Rent .................................. 217,911 167,987
Travel and entertainment .............. 53,079 57,378
Depreciation .......................... 76,117 108,543
Other operating expenses .............. 758,526 729,004
----------- -----------
Total Operating Expenses ............ 2,473,440 2,346,211
----------- -----------
Net Operating (Loss) ....................... (1,340,852) (501,854)
Interest expense ........................... (26,833) (38,534)
Loss on asset write off .................... (802,308) --
Other income ............................... 31,934 89,011
----------- -----------
Net (Loss) ................................. $(2,138,059) $ (451,377)
=========== ===========
Provision for Preferred Dividends .......... (34,400) (28,666)
----------- -----------
Net (Loss) to Common Shareholders .......... $(2,172,459) $ (480,043)
=========== ===========
Net Income (Loss) per Common Share ......... $ (.73) $ (.20)
=========== ===========
Weighted Average Shares Outstanding ........ 2,996,324 2,246,348
=========== ===========
The accompanying notes are an integral part of the financial statements.
4
ENHANCED COMPANY, INC. AND CONSOLIDATED SUBSIDIARIES
OF CASH FLOWS
(Unaudited)
Six Months Six Months
Ended Ended
May 31 May 31
1998 1997
----------- ---------
Cash Flows from Operating Activities:
Net (loss) ................................ $(2,172,459) $(480,043)
Adjustments to reconcile net
loss to net cash used
in operating activities
Write down of goodwill ................... 710,304 --
Depreciation and amortization .......... 128,733 187,467
(Decrease) in accounts payable
and accrued expenses ................. 185,214 (62,765)
(Increase) decrease in
accounts receivable .................. (1,214,768) 226,921
(Increase) decrease in
inventory ............................ 250,352 (223,318)
Other, net ................................ 51,049 (29,655)
----------- ---------
Net Cash (Used in) Operating
Activities .................................... (2,061,575) (381,393)
----------- ---------
Cash Flows from Investing Activities:
Investment in Zulu-tek, Inc. .............. (4,045,000) --
Purchases of property and
Equipment and other ..................... 101,483 (130,148)
----------- ---------
Net Cash (Used in) Investing
Activities .............................. (3,943,517) (130,148)
----------- ---------
Cash Flows from Financing Activities:
Increase (Repayment of) notes
payable ................................. 1,282,795 (164,579)
Preferred stock issued .................... 3,000,000 767,546
Proceeds from notes and mortgage
payables ................................ --
Common stock issued ............................ 1,579,266 60,000
----------- ---------
Net Cash Provided by Financing
Activities .............................. 5,862,061 662,967
----------- ---------
Increase (decrease) in cash .................... (143,031) 151,426
Cash, Beginning of Period ...................... 262,510 156,432
----------- ---------
Cash, End of Period ............................ $ 119,479 $ 307,858
=========== =========
Interest Paid .................................. $ 12,280 $ 38,534
=========== =========
Income Taxes Paid .............................. $ -- $ --
=========== =========
The accompanying notes are an integral part of the financial statements.
5
ENHANCED SERVICES COMPANY, INC. AND CONSOLIDATED SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
May 31, 1998 and 1997
(1) ORGANIZATION
Enhanced Services Company, Inc. (the Company) a Colorado corporation, was
incorporated in 1987.
The Company began, in May 1998, consolidating its facilities in North
Bergan, New Jersey and Houston, Texas into the Irvine, California facility.
The move is expected to be completed by the end of July, 1998. The Company
is closing it's NB Engineering, Inc. subsidiary in Crofton, Maryland.
The Company's administrative offices also were relocated from Houston,
Texas to El Segundo, California in May 1998.
The consolidated financial statements include the accounts of ESC and
subsidiaries since acquisition or formation. All intercompany accounts and
transactions have been eliminated.
(2) UNAUDITED STATEMENTS
The balance sheet as of May 31, 1998, the statements of income for the
three and six month periods ended May 31, 1998 and May 31, 1997 and the
statement of cash flow for the six month period ended May 31, 1998 and May
31, 1997 have been prepared by the Registrant without audit. In the opinion
of management, all adjustments (which include only normal recurring
adjustments) necessary to present fairly the financial position, results of
operations and cash flows at May 31, 1998, and for all periods presented,
have been made.
(3) STOCK DIVIDEND
During May, 1998 the Company effected a one for one stock dividend/ two for
one stock split. All references to common stock in the financial statements
have been retroactively adjusted.
(4) ACQUISITION AGREEMENT
Effective March 3, 1998, the Company entered into a securities acquisition
agreement pursuant to which the Company issued 220,000 pre-dividend common
shares or approximately 19% of its common shares and 1,000,000 shares
6
of a new class of nonvoting preferred shares, $3.00 par value per share, in
exchange for stock held by exchanging parties in an interactive advertising
and marketing corporation (the Zulu-tek trancaction). The preferred shares
of the Company are convertible into common shares at the Company's option
only after shareholder approval at a meeting called for that purpose and
have a liquidation preference which is junior to the previously issued
preferred shares of the Company. In connection with the transaction, the
holder of the Company's $500,000 accounts receivable collateralized loan
agreed, subject to consent to the loan participants, to convert the loan
into equity.
Pursuant to the acquisition agreement, the business of Zulu-tek, Inc.
increasingly has been operated by the management of the Company and has
provided working capital in furtherance of the Company's business strategy.
The management of the Company and Zulu-tek, Inc. anticipate that they will
submit to a vote of the shareholders of Zulu-tek, Inc. a transaction
pursuant to which there will be a business combination of the two
companies.
(5) CONSULTING AGREEMENT
On April 1, 1998 the Company entered into an agreement with Kennedy Miles
Creative Communication, LTD, (KMCC). Pursuant to the agreement, KMCC shall
provide consulting services to the Company for a term of one year. As
consideration for services rendered by KMCC, the Company issued common
stock purchase warrants exercisable to purchase, in the aggregate 75,000
pre-dividend shares at $2.00 per share. During the second quarter of 1998,
75,000 pre-dividend warrants were exercised and the difference between the
exercise price of the warrants and the market value of the shares amounting
to $150,000 was expensed.
On March 15, 1998 the Company entered into an agreement with Richard A.
Fisher (RAF). Pursuant to the agreement, RAF shall provide consulting
services to the Company for a term of one year. As consideration for
services rendered by RAF, the Company issued common stock purchase warrants
exercisable to purchase, in the aggregate 50,000 pre-dividend shares at
$4.00 per share. During the second quarter of 1998, 50,000 pre-dividend
warrants were exercised.
(6) WORKING CAPITAL NOTE
The Company executed a $2,000.000 subordinated working capital note with
Netvest Capital Partners, LP. The note proceeds may LP fund operations of
both the Company and Zulu-tek, Inc. Funds advanced under the note at May
31, 1998 were $1,045,556.
7
(7) SUBSEQUENT EVENTS
As discussed above, the Company and Zulu-tek are continuing to pursue a
joint business plan and are currently seeking private placement funding to
meet the capital requirements of their strategic business plan.
On July 10, 1998, the Company reported that it had a letter of intent to
acquire eCommerce Corp., for cash and stock. The transaction is currently
being finalized and is expected to be implemented through definitive
agreements during the current quarter.
8
Item 2. Management's Discussion and Analysis of Financial Conditions and
results of Operations
OVERVIEW
Enhanced Services Company, Inc. (the "Company") historically, through it's
Laptop Solutions - Texas and California subsidiaries, provided certain services
to the portable computing community. The Company, in a move to consolidate and
eliminate duplicate facilities moved all it's operations to Irvine, California.
Because of the consolidation of Laptop Solutions - Texas and California, the
following discussion has been combined into one presentation. The Company plans
to concentrate more of its efforts in the custom engineering products and
services. The Company has offered digital video compression and DVD-Video
services through it's NB Digital Solutions subsidiary in Crofton, Maryland. NB
Digital has sustained substantial losses since it's acquisition in 1995 and in
view of the investment required to continue and the uncertainty of achieving
profitability, the Company ceased NB Digital operations in May, 1998 and the
operating results are reflected as "Discontinued" in the following discussions.
The Company's second fiscal quarter ended May 31, 1998 and the six month
comparable period of 1997 are referred to in the discussions below as 1998 and
1997, respectively.
COMBINED OPERATIONS OF LAPTOP SOLUTIONS -- TEXAS AND CALIFORNIA
Laptop Solutions results of operations for six month period ended May 31,
1998 and 1997 are summarized and discussed below: The operation of NB Digital
Solutions, Inc. has been presented as other expense titled "Discontinued
operations"
Change
1998 1997 %
----------- -----------
Sales ............................. $ 1,805,990 $ 2,349,326 (23)%
Cost of sales exclusive of
depreciation and salaries) ...... 875,936 1,119,782 (22)%
----------- -----------
Gross Profit ...................... 930,054 1,229,544 (24)%
Operating & Other Expenses ........ 1,901,999 1,545,303 23%
----------- -----------
Net Operating Income .............. (971,945) (315,759) (208)%
Other Income ...................... 31,756 69,840 (54)%
----------- -----------
Net Income ........................ $ (940,189) $ (245,919) (282)%
----------- -----------
Discontinued Operation ............ $(1,197,873) $ (217,717) (449)%
Net Loss .......................... $(2,138,059) $ (205,458) (941)%
=========== ===========
SALES: Revenue from upgrade and enhancement sales decreased $481,525 from
$1,013,764 in 1997 to $532,239 in 1998, a decrease of 48%, while the per unit
revenue and volume continue to decline as a result of competitive pressure and
technological change. Revenue from Compatibility Plus(TM) sales, the removable
hard disk pak, decreased $136,525 to $71,790 in 1998, from $208,316 in 1997 as
demand for the pak declines. Revenues from repair and contract maintenance
services decreased from $437,678 in 1997 to $438,113 in 1998 from $875,791 in
1997, a decrease of 50%. Management believes the decrease is a result of certain
manufacturers extending the warranty period to three years from one year. Also,
certain manufacturers have begun to compete for the repair business by opening
depot repair facilities. Revenues from engineered products that began shipping
in the first quarter of 1998 amounted to $398,188. Demand for the product, a
wireless modem that was custom designed with Panasonic Personal Computer Company
is expected to remain strong through the third and fourth quarter of 1998.
Revenue from CVAR 2000(TM) increased $150,832 in 1998 to $324,781 from $173,949
in 1997 as demand for the anti-reflective film application increased.
COST OF SALES: Cost of sales of upgrade, enhancements, and the removable hard
disk paks declined $210,178 in 1998 from $501,550 in 1997, a 42% decrease that
was primarily the result of declining demand.. Cost of sales of repair and
contract services decreased $198,595 in 1998 to $187,957 from $386,552, a
decrease of 51% as a result of declining demand and competition. Cost of sales
of CVAR 2000 increased $38,354 from $88,354 in 1997 to $126,873 in 1998 as a
result of increased sales. All other direct cost of sales, primarily freight
expense, decreased $40,264 to $11,814 in 1998 from $52,078 in 1997, primarily as
a result of the decline in the volume of shipments.
OPERATING AND OTHER EXPENSES: Salaries and related payroll cost in 1998 amounted
to $1,035,442 as compared to $888,931 in 1997, an increase of 16%. Personnel and
related cost increases were primarily due to increased administrative personnel.
Advertising costs declined $79,696 from $96,818 in 1997 to $17,122 in 1998, a
decrease of 82%, due to cancellation of ineffective advertising. Computer
expense decreased $8,449 in 1998 to $31,471 from $39,920 in 1997 as a result of
increasing the computer network capacity and capabilities in 1997. Laptop
Solutions-Texas was charged rent for its office and warehouse space by the
Company of $51,996 for 1997 when the Company owned the building. The building
was sold in August, 1997 and Laptop leased it's existing space from the
purchasers of the building for the then market rate of $75,864, an increase of
$23,868. Also, the California facility size was increased to accommodate the
production of engineered products and CVAR 2000, resulting in additional rent of
$33,058 in 1998 to $64,614 from $31,556 in 1997. Professional fees increased
$61,952 to $114,115 in 1998 from $52,163 in 1997, primarily as a result of
increased legal and auditing cost. All other general and administrative expenses
declined $14,070 for the comparative period. Consulting fees in the amount of
$150,000 in connection with the exercise of warrant, and described in the notes
to the financial statement, were expensed in 1998.
DISCONTINUED OPERATIONS: NB Digital Solutions operations were discontinued in
May 1998. Sales declined $400,880 in 1998 to $305,921 from $706,801 in 1997 and
gross profit from such sales declined $412,158 to $202,534 for the period.
Operating expenses amounted to $596,826 in 1998, a decrease of $243,172 from
$839,998 in 1997. Goodwill in the amount of $657,688 and loss on disposition of
assets amounted to $143,112. Cost of discontinuing the operation is anticipated
to continue through the third quarter of 1998.
LIQUIDITY AND CAPITAL RESOURCES
At May 31, 1998, the Company had stockholders' equity totaling $3,882,075,
as compared to $1,496,050 at November 30, 1997, an increase of $2,386,025. The
increase resulted from; execution of a Securities Acquisition Agreement and
filed on Form 8-K on March 6, 1998, resulting in the issuance of 220,000
pre-dividend common shares at the then market price of $4.75, and issuance of
1,000,000 shares of preferred stock, par value of $3.00 per share. The net
increase from the transaction amounted to $4,045,000. As a result of the march
transactions involving the Company and Zulu-tek, the Company and
10
Zulu-tek have continued to operate as separate corporate entities but the
operations have increasingly been undertaken in a single business strategy and
joint business plan being pursued by the two entities and operated by the
management of the Company. The Company has provided working capital in
furtherance of the combined business strategy to continue to focus increasingly
on interactive advertising and marketing activities. During the quarter, 75,000
pre-dividend common stock purchase warrants at $2.00 per share were exercised
pursuant to a consulting agreement with Kennedy Miles and Associates with gross
proceeds in the amount of $300,000 before a discount of $150,000 that was
charged to current operations. 50,000 pre-dividend common stock purchase
warrants were exercised pursuant to a consulting agreement with Richard A.
Fisher at $4.00 per share with net proceeds of $200,000. Other shares were
issued pursuant to consulting agreement with Creative Business Strategies, Wall
Street Financial and the Employees Stock Option Plan and amounted to $34,265.
The Company's working capital was $691,222 as compared to $337,799 on
November 30, 1997, an increase of $353,423. The increase was primarily the
result of an increase in receivables in the amount of $1,214,768, while
inventory and cash declined $393,383. Accounts payable and current notes payable
increased $468,009.
Management plans that income generated from operations, along with working
capital and proceeds from the private placement of equity securities will be
sufficient to fund a joint business and strategic plan being undertaken by the
Company and Zulu-tek, Inc. However, there can be no assurance that such funds
will be available, or, if available, on favorable terms.
11
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None.
ITEM 2. CHANGES IN SECURITIES
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Form 8-K filed
March 19, 1998.
12
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
ENHANCED SERVICES COMPANY, INC.
By /s/ R. C. SMITH Date 7/20/98
Treasurer
13