Future Tech
International, Inc.
Financial Statements
December 31, 1998
Report of Independent Certified Public Accountants
To the Board of Directors of
Bell Microproducts Inc.
In our opinion, the accompanying balance sheet and the related statements of
operations, of changes in stockholders' equity (deficit), and of cash flows
present fairly, in all material respects, the financial position of Future Tech
International, Inc. (the "Company") at December 31, 1998, and the results of its
operations and its cash flows for the year then ended in conformity with
generally accepted accounting principles. These financial statements are the
responsibility of the Company's management; our responsibility is to express an
opinion on these financial statements based on our audit. We conducted our audit
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 financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for the opinion expressed above.
The accompanying financial statements have been prepared assuming the Company
will continue operations in the normal course of business as a going concern. As
discussed in Note 1 to the financial statements, on May 14, 1999 the Company
entered into an agreement to sell certain of its operating assets, including
certain inventories, certain accounts receivable and certain plant and
equipment, to a subsidiary of Bell Microproducts Inc. ("Bell"). Under the
agreement, the Bell subsidiary agreed to assume certain of the Company's debt to
its trade vendors. On May 17, 1999, the Company filed a voluntary petition for
relief under the provisions of Chapter 11 of the United States Bankruptcy Code.
The Company's reorganization plan and the sale of assets to Bell were approved
by the United States Bankruptcy Court on July 9, 1999. The accompanying
financial statements do not include any adjustments that might arise from the
outcome of the bankruptcy proceedings.
As discussed in Note 4 to the financial statements, the Company had
relationships and transactions with affiliated companies and related parties.
Because of these relationships, it is possible that the terms of these
transactions are not the same as those that would result from transactions among
wholly unrelated parties.
As described in Note 3, the Internal Revenue Service conducted examinations in
1999 of the Company's income tax returns for the years 1994, 1995 and 1996,
resulting in proposed assessments of additional income taxes, and interest and
penalties thereon, of approximately $4.3 million, all liability for which
remains with the Company. The IRS is also conducting examinations of the
Company's income tax returns for 1997 and 1998. Management of the Company is
unable to predict the outcome of the examinations and, based on amounts assessed
in prior years, there can be no assurance that substantial additional amounts
will not be assessed with respect to 1997 and 1998. However, liability for any
such assessments would be solely that of the Company.
As described in Note 3, the Florida Department of Revenue has informed the
Company that it intends to perform examinations of the Company's income tax
returns for the years 1994 through 1998 and the period January 1, 1999 to July
20, 1999. Management of the Company is unable to predict the outcome of these
examinations and there can be no assurance that additional substantial amounts
will not be assessed with respect to the years 1994 through 1998 and the period
January 1 1999 to July 20, 1999.
September 27, 1999
Future Tech International, Inc.
Balance Sheet
December 31, 1998
- -------------------------------------------------------------------------------
Assets
Current assets:
Cash and cash equivalents $ 4,853,029
Accounts receivable 14,862,711
Inventories 8,800,284
Prepaid expenses and other current assets 926,787
------------
Total current assets 29,442,811
------------
Property and equipment, net 2,266,485
------------
Total assets $ 31,709,296
============
Liabilities and Stockholders' Deficit
Current liabilities:
Accounts payable $ 40,698,958
Accrued expenses 1,001,756
Accrued income taxes, interest and penalties 4,450,460
Current portion of mortgage payable 3,172
------------
Total current liabilities 46,154,346
------------
Non-current liabilities:
Mortgage payable, less current portion 136,280
------------
Total liabilities 46,290,626
------------
Commitments and contingencies (Notes 1,3 and 5)
Stockholders' deficit:
Common stock, $1 par value; 1,000 shares authorized,
issued and outstanding 1,000
Advances to stockholders (2,437,862)
Accumulated deficit (12,144,468)
------------
Total stockholders' deficit (14,581,330)
------------
Total liabilities and stockholders' deficit $ 31,709,296
============
The accompanying notes are an integral part of these financial statements.
1
Future Tech International, Inc.
Statement of Operations
Year Ended December 31, 1998
- -------------------------------------------------------------------------------
Net sales:
Third parties $ 161,083,105
Related parties 19,000,936
-------------
180,084,041
-------------
Cost of sales:
Third parties 149,537,843
Related parties 18,138,227
-------------
167,676,070
-------------
Gross profit 12,407,971
-------------
Operating expenses:
Selling, general and administrative 10,669,451
Legal and professional 3,109,466
Depreciation and amortization 504,792
Provision for doubtful accounts:
Third parties 2,987,064
Related parties 13,331,509
-------------
30,602,282
-------------
Loss from operations (18,194,311)
-------------
Other income (expense):
Interest income 1,351,235
Gain on sales of investment securities 267,251
Interest expense (464,626)
Other income 555,315
-------------
1,709,175
-------------
Net loss $ (16,485,136)
=============
Basic and diluted loss per share $ (16,485)
=============
Weighted average common shares outstanding - basic and diluted 1,000
=============
The accompanying notes are an integral part of these financial statements.
2
Future Tech International, Inc.
Statement of Changes in Stockholders' Equity (Deficit)
Year Ended December 31, 1998
- ------------------------------------------------------------------------------------------------------------------------------------
Retained
Earnings
Common Advances to (Accumulated
Stock Stockholders Deficit) Total
------------ ------------ ------------ ------------
Balance, January 1, 1998 $ 1,000 $ (1,341,067) $ 6,051,669 $ 4,711,602
Advances to stockholders -- (1,096,795) -- (1,096,795)
Dividends -- -- (1,711,001) (1,711,001)
Net loss -- -- (16,485,136) (16,485,136)
------------ ------------ ------------ ------------
Balance, December 31, 1998 $ 1,000 $ (2,437,862) $(12,144,468) $(14,581,330)
============ ============ ============ ============
<FN>
The accompanying notes are an integral part of these financial statements.
</FN>
3
Future Tech International, Inc.
Statement of Cash Flows
Year Ended December 31, 1998
- -------------------------------------------------------------------------------
Cash flow from operating activities:
Net loss $(16,485,136)
Adjustments to reconcile net loss to net
cash used in operating activities:
Provision for doubtful accounts 16,318,573
Depreciation and amortization 504,792
Decrease in deferred income taxes 167,270
Gain on sales of investment securities (267,251)
Changes in operating assets and liabilities:
Accounts receivable (5,424,332)
Inventories 3,823,910
Prepaid expenses and other current assets 61,271
Accounts payable (9,357,079)
Accrued expenses (442,011)
Accrued income taxes, interest and penalties (1,611,127)
------------
Net cash used in operating activities (12,711,120)
------------
Cash flows from investing activities:
Purchases of property and equipment (118,369)
Purchases of investment securities (3,381,902)
Proceeds from sales of investment securities 3,649,153
------------
Net cash provided by investing activities 148,882
------------
Cash flows from financing activities:
Advances to stockholders (1,096,795)
Dividends (1,711,001)
Principal payments on mortgage payable (195)
------------
Net cash used in financing activities (2,807,991)
------------
Net decrease in cash and cash equivalents (15,370,229)
Cash and cash equivalents, beginning of year 20,223,258
------------
Cash and cash equivalents, end of year $ 4,853,029
============
Supplemental disclosure of cash flow information:
Cash paid during the year for:
Interest $ 264,000
============
Income taxes $ 150,000
============
The accompanying notes are an integral part of these financial statements.
4
Future Tech International, Inc.
Notes to Financial Statements
Year Ended December 31, 1998
- -------------------------------------------------------------------------------
1. Basis of Preparation and Summary of Significant Accounting Policies
Basis of Presentation - The accompanying financial statements of Future
Tech International, Inc. (the "Company") have been prepared solely to
comply with Bell Microproducts Inc.'s ("Bell") requirement to provide
audited financial statements for acquisitions that meet the Securities and
Exchange Commission's criteria under Regulation S-X and are not intended to
be used for any other purpose.
The Company is a privately-held entity owned by two individuals. The
Principal Shareholder owns 80% of the common stock and served as its
Chairman and Chief Executive Officer through September 1998. The Minority
Shareholder owns the remaining 20% and currently serves as its Chief
Executive Officer. Following the Department of Justice investigation
described in Note 3, the Principal Shareholder fled the United States and
is a fugitive from justice. In October 1998, the Principal Shareholder
tendered control of the Company to the Minority Shareholder, who remains in
control. In April 1999, the U. S. District Court prohibited the Principal
Shareholder from exercising dominion and control over any aspect of the
Company's business. Accordingly, the Company has been operating under the
auspices and control of the Minority Shareholder since the Court's ruling,
and as of the filing of the bankruptcy has operated under the jurisdiction
of the bankruptcy court.
On May 14, 1999, the Company entered into an asset purchase agreement to
sell certain of its operating assets, including certain inventories,
certain accounts receivable and certain plant and equipment, to a
wholly-owned subsidiary of Bell. Under the asset purchase agreement, the
Bell subsidiary agreed to assume up to $22,000,000 of the Company's debt to
its trade vendors including Quantum Corporation, Maxtor Corporation, and
others, subject to the right to certain offsets and reductions for
uncollected receivables. On May 17, 1999, the Company filed a voluntary
petition for relief under the provisions of Chapter 11 of the United States
Bankruptcy Code. The Company's reorganization plan and the sale of assets
to the Bell subsidiary were approved by the United States Bankruptcy Court
on July 9, 1999. The Bell subsidiary closed the transaction on July 21,
1999. The Bell subsidiary paid the Company $1,500,000 at closing and is
obligated to pay additional consideration of $1,000,000 subject to certain
offsets and reductions within 45 days of the closing date. The parties
agreed to extend the 45-day period while the parties calculate all
applicable offsets and reductions. Neither Bell nor the Bell subsidiary
assumed any rights or obligations to collect amounts due from related
parties (Note 4), to pay additional assessments arising from any
examinations or investigations by the IRS, state or other authorities (Note
3), or to prosecute, defend, collect or pay obligations, if any, that may
ultimately arise from the Company's litigation with a former vendor (Note
5). Neither Bell nor the Bell subsidiary entered into any agreements in
connection with the asset purchase agreement that would subject either of
them to claims by the Company's creditors in its bankruptcy proceeding.
5
Future Tech International, Inc.
Notes to Financial Statements
Year Ended December 31, 1998
- -------------------------------------------------------------------------------
The accompanying financial statements have been prepared assuming the
Company continues business in the normal course as a going concern. The
Company is currently in liquidation as part of its reorganization plan; the
financial statements have not been prepared on a liquidation basis. These
financial statements do not include any adjustments that might arise from
the outcome of the bankruptcy proceedings.
General - The Company is engaged in the distribution of computer products,
consisting principally of hard disk drives, monitors, memory devices and
motherboards, to Latin America. Sales are made directly to Latin
American-based companies or to their U. S. based affiliates for export and
to U.S companies that sell to their Latin American channels. The Company
had exclusive distributorship agreements with Quantum Corporation and
certain other vendors to distribute throughout Latin America. The Company's
principal place of business is located in Miami, Florida.
The Company provides trade credit and financing denominated in United
States currency on a short-term basis to its customers. The collection of a
substantial portion of the Company's receivables are susceptible to changes
in the Latin American economic and political climates.
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. Such estimates consist principally of
the reserve for doubtful accounts, economic lives of property and equipment
and accrued expenses. Actual results could differ from those estimates.
Concentration of Credit and Other Risks - Sales of Quantum and Maxtor
products represented approximately 44% and 13% respectively of the
Company's 1998 net sales. The Company's exclusive distribution agreement
with Quantum and its non-exclusive distribution agreement with Maxtor
expired on December 31, 1998. However the Company has continued to do
business with Quantum and Maxtor. The agreements provided for cooperative
advertising allowances to the Company, warranties for the products sold
under standard warranty policies and required minimum quarterly purchases
by the Company of selected products. The Company's distribution agreements
with certain other vendors vary in length and can be terminated with the
mutual consent of both the Company and the individual vendor.
Revenue Recognition, Returns and Sales Incentives - The Company recognizes
revenue when products are shipped from its warehouse. The Company, subject
to certain limitations, permits its customers to return defective products
for exchange in accordance with
6
Future Tech International, Inc.
Notes to Financial Statements
Year Ended December 31, 1998
- -------------------------------------------------------------------------------
manufacturers' warranties. The Company offers its customers several sales
incentive programs that include funds available for cooperative promotion
of product sales. Customers earn credit under such programs based upon
their volume of purchases. The cost of these programs is partially
subsidized by similar programs provided by the Company's manufacturers. On
an ongoing basis, management reviews provisions it has recorded under these
agreements and recognizes adjustments to meet expected obligations.
Advertising and Promotion Expenses - Advertising and promotion costs are
expensed as incurred. For the year ended December 31, 1998 the Company
incurred costs of $1,061,000 relating to advertising and promotion.
Income Taxes - The Company utilizes the asset and liability method of
accounting for income taxes. Under this method, deferred tax assets and
liabilities are determined based on the differences between the financial
reporting and tax bases of assets and liabilities and are measured using
the enacted tax laws and rates that will be in effect when the differences
are expected to reverse. The Company provides a valuation allowance against
deferred tax assets if, based on the weight of available evidence, it is
more likely than not that some or all of the deferred tax assets will not
be realized.
Earnings Per Share - Earnings per share have been calculated in accordance
with Statement of Financial Accounting (SFAS) No. 128, "Earnings per
Share". Basic earnings per share are computed by dividing the earnings
available to common stock shareholders by the weighted average number of
common shares outstanding. For the year ended December 31, 1998, there were
no common stock equivalents. Accordingly, basic and diluted earnings per
share are equivalent.
Cash Equivalents - All highly liquid investments with original maturity
dates of three months or less when acquired are considered cash
equivalents.
Inventories - Inventories, which consist of computer products held for
sale, are stated at the lower of cost or market. Cost is determined using
the weighted-average cost method.
Property and Equipment - Property and equipment are stated at cost, net of
accumulated depreciation and amortization. Depreciation is provided over
the estimated useful lives of the related assets using the straight-line
method. Amortization of leasehold improvements is provided over the shorter
of the related lease agreement or estimated useful lives of the related
assets using the straight-line method.
Impairment of Long-Lived Assets - On an ongoing basis, the Company
evaluates its long-lived assets. If circumstances suggest that their value
may be impaired, an assessment of recoverability is performed and a
provision for impairment is recognized.
7
Future Tech International, Inc.
Notes to Financial Statements
Year Ended December 31, 1998
- -------------------------------------------------------------------------------
2. Property and Equipment
Property and equipment consisted of the following as of December 31, 1998:
Useful
Lives
Machinery and equipment $ 2,144,687 5
Computer equipment 708,166 5
Furniture and fixtures 512,618 7
Leasehold improvements 398,951 7
Automobiles 46,562 5
------------
3,810,984
Less accumulated depreciation
and amortization (1,544,499)
------------
Property and equipment, net $ 2,266,485
============
3. U. S. Department of Justice Investigation and Income Taxes
In 1997, the U. S. Department of Justice ("DOJ") initiated an investigation
of the Company and its Principal Shareholder for alleged unlawful political
campaign contributions during 1994, 1995 and 1996. In December 1998, the
Company and the Campaign Financing Task Force of the DOJ entered into a
plea agreement, pursuant to which the Company pled guilty to two tax
evasion felony offenses. In December 1998, as part of the Plea Agreement,
the Company paid a fine of $1,000,500 to the U.S. government and made
restitution of $507,000 to certain persons as ordered by the U.S. District
Court of the District of Columbia. The fine and restitution of $1,507,500
have been charged to the results of operations in periods prior to 1998.
The Company also agreed to civil tax examinations of its corporate income
tax returns for the years 1994, 1995 and 1996 by the IRS. These
examinations were completed in May 1999. The examinations resulted in the
proposed assessment of additional income taxes, interest and penalties of
approximately $4,300,000, which have been charged to the results of
operations for the periods prior to the year ended December 31, 1997.
Accrued income taxes at December 31, 1998 include the $4,300,000 related to
this liability. In January 1999 in connection with the plea agreement and
in conjunction with the agreement to the IRS examinations, the Company
established an escrow account of $3,500,000, held jointly with the IRS, to
cover back taxes, and penalties
8
Future Tech International, Inc.
Notes to Financial Statements
Year Ended December 31, 1998
- -------------------------------------------------------------------------------
and interest thereon, which as of September 27, 1999 has not been applied
to reduce the additional income taxes, interest and penalties of the
proposed assessment of $4,300,000. Additionally, the IRS is also conducting
examinations of the Company's income tax returns for 1997 and 1998. There
can be no assurance that additional assessments will not be made for 1997
and 1998. Management is unable to predict the outcome of these examinations
and therefore the impact on the financial position and results of
operations of the Company is uncertain.
In April 1999 and in December 1998, the Company also paid fines of $209,000
and $68,000 to the Federal Election Commission and to the Florida Election
Commission, respectively, for violations of federal and state campaign
contribution laws. Results of operations for periods prior to 1998 were
charged with these fines. Accrued liabilities at December 31, 1998 included
$209,000 related to these matters.
Included in results of operations for 1998 are approximately $3,100,000 in
professional fees, the significant portion of which were legal fees
incurred as a result of the investigation of the Company by the DOJ
Campaign Finance Task Force.
The difference between the reported provision for income taxes and the
provision for income taxes that would result from applying the federal
statutory rate to the income before provision for income taxes is
reconciled as follows:
1998
Amount Rate
Income at statutory rate $(5,897,086) (35.0)%
State income tax - net of federal
income tax benefit (601,258) (3.6)
Change in valuation allowance 6,654,967 39.5
Other (156,623) (0.9)
----------- ------
$ -- (0.0)%
=========== ======
9
Future Tech International, Inc.
Notes to Financial Statements
Year Ended December 31, 1998
- -------------------------------------------------------------------------------
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial
reporting purposes and the amounts used for tax purposes. The tax effects
of significant items comprising the Company's net deferred tax asset were
as follows as of December 31, 1998:
Deferred tax assets:
Accounts receivable $ 6,409,195
Inventories 25,844
Unrealized capital losses (57,768)
Accrued liabilities 247,164
Net operating losses 145,703
Other 80,888
-----------
6,851,026
Valuation allowance (6,851,026)
-----------
$ --
===========
The net deferred tax asset has been fully offset by a valuation allowance
as the realization of the related benefits is not likely, based on
management's current assessment.
Florida Department of Revenue Examinations - The Florida Department of
Revenue has informed the Company that it intends to perform examinations
for the years 1994 through 1998 and the period January 1, 1999 to July 20,
1999 beginning October 1999. Management is unable to predict the outcome of
these examinations and there can be no assurance that substantial amounts
will not be assessed with respect to the years 1994 through 1998 and the
period January 1, 1999 to July 20, 1999.
4. Transactions with Related Parties
The following paragraphs summarize transactions with related parties during
1998. Certain of the transactions gave rise to accounts receivable, which
ultimately were determined to be uncollectible, as indicated below. The
accompanying financial statements have been prepared to reflect the write
off of uncollectible amounts as bad debts expense, similar to the
conventional treatment of uncollectible trade accounts receivable, rather
than as possible dividends to the Principal Shareholder.
Transactions with Stockholders - The Company had entered into a number of
transactions with, and made advances to, its Principal Shareholder and its
Minority Shareholder.
10
Future Tech International, Inc.
Notes to Financial Statements
Year Ended December 31, 1998
- -------------------------------------------------------------------------------
Advances to Stockholders have been classified as additions to stockholders'
deficit at December 31, 1998.
On January 8, 1998, the Company declared a dividend of $1,711,000, which
was paid to its two shareholders on January 9, 1998.
Transactions with MarkVision Holdings, Inc. - In 1998 and prior years, the
Company sold inventory to MarkVision Holdings, Inc. and its subsidiaries
("MVH"). MVH is a British Virgin Islands Corporation owned by the daughter
of the Company's Principal Shareholder. Total sales to MVH for the year
ended December 31, 1998 were $18,891,000 and accounts receivable from MVH
amounted to $14,709,000 as of December 31, 1998. The Company's standard
credit terms for product sales to MVH were 90 days. As of December 31,
1998, the Company owed $878,000 to MVH for product purchases from MVH. In
the first quarter of 1999 MVH defaulted on payment of all amounts due.
Accordingly, the Company fully reserved this receivable, net of the amounts
due to MVH.
In addition, the Company made non-interest bearing advances to MVH during
1998 and in prior years. As of December 31, 1998, the balance of the
advances due was $53,000. The Company has fully reserved the advances to
MVH as of December 31, 1998.
Transactions with MarkVision Computers, Inc. - MarkVision Computers, Inc.
("MVC"), a Florida corporation owned by the son of the Company's Principal
Shareholder, provided the Company with certain administrative services,
including purchasing, engineering and product development services during
1998. The accompanying statement of operations for the year ended December
31, 1998 include $986,000 in administrative service fees for the services
provided, of which $5,000 remained in accounts payable as of December 31,
1998.
The Company had provided MVC with administrative services under the terms
of a management agreement, which terminated in 1995. The administrative
services included the use of the Company's warehousing and delivery
facilities and certain management, accounting and information system
services. Subsequent to the termination of the management agreement,
however, the Company continued to provide MVC with accounting and
information system support services. The Company recorded income of $15,000
in management fees in 1998 in connection with the administrative services
provided by the Company to MVC, which have been offset by amounts payable
to MVC.
Transactions with Micro-Distributing International, Inc. - In prior years,
the Company made advances to Micro-Distributing International, Inc.
("MDI"), a Philippine corporation owned by the daughter of the Company's
Principal Shareholder. As of December 31, 1998, the balance of these
advances due from MDI was $344,000. The advances to MDI bear interest at a
rate of 8.5% per annum. Additionally, as of December 31, 1998, the Company
had $57,000 in trade accounts receivable from MDI for purchases made in
prior years.
11
Future Tech International, Inc.
Notes to Financial Statements
Year Ended December 31, 1998
- -------------------------------------------------------------------------------
Based on information available to management, the Company fully reserved
all amounts receivable from MDI as of December 31, 1998.
5. Commitments and Contingencies
Leases - The Company leases the property where its headquarters and
warehouse facilities are located under a noncancelable operating lease
expiring in 2002, which was assumed by the Bell subsidiary as provided for
in the agreement. The lease provides for annual lease payments amounting to
approximately $600,000. The Company had the option to renew the initial
term for three additional terms at two years each. The rental payment for
each year in the initial lease term and any renewal term will increase by
approximately 4% per year. For the year ended December 31, 1998, total
lease expense for all of the Company's leases amounted to approximately
$698,000. Future minimum rental payments on all noncancelable operating
leases with initial or remaining lease terms in excess of one year, and its
headquarters and warehouse facilities are as follows:
December 31,
1999 $ 578,000
2000 603,000
2001 609,000
2002 266,000
----------
Total $2,056,000
==========
Litigation - The Company is involved in significant litigation with a prior
vendor. Included in trade accounts payable is approximately $16,400,000 due
to the prior vendor. The Company, as plaintiff, alleges that the supplier
stole its trade secrets and customer base, breached an agreement granting
the Company exclusive distribution rights to the former supplier's products
in Latin America, breached fiduciary duties owed to the Company, and
tortiously interfered with the Company's contractual relations. The
defendant, a Korean corporation, has counterclaimed alleging that the
Company owes it approximately $20,000,000, including interest, for computer
products sold and delivered to the Company. The trial is set for February
2000. The Company is involved in certain other litigation routine to its
operations. While no assurance can be given regarding the outcome of these
matters, the Company's management is of the opinion that the outcome of any
such other litigation will not have an adverse effect on the financial
position, results of operations or cash flows of the Company.
12