UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-QSB
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(Mark one)
XX QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
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ACT OF 1934
For the quarterly period ended December 31, 1997
TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT OF 1934
For the transition period from ______________ to _____________
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Commission File Number: 1-13088
DIGITAL COMMUNICATIONS TECHNOLOGY CORPORATION
(Exact name of small business issuer as specified in its charter)
Delaware 65-0014636
(State of incorporation) (IRS Employer ID Number)
16910 Dallas Parkway, Suite 100, Dallas, TX
75248 (Address of principal executive
offices)
(972) 248-1922
(Issuer's telephone number)
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Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 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
State the number of shares outstanding of each of the issuer's classes of common
equity as of the latest practicable date: February 10, 1998: 745,568
Transitional Small Business Disclosure Format (check one): YES NO X
DIGITAL COMMUNICATIONS TECHNOLOGY CORPORATION
Form 10-QSB for the Quarter ended December 31, 1997
Table of Contents
Page
Part I - Financial Information
Item 1 Financial Statements 3
Item 2 Management's Discussion and Analysis or Plan of Operation 13
Part II - Other Information
Item 1 Legal Proceedings 16
Item 2 Changes in Securities 16
Item 3 Defaults Upon Senior Securities 16
Item 4 Submission of Matters to a Vote of Security Holders 16
Item 5 Other Information 16
Item 6 Exhibits and Reports on Form 8-K 16
2
Part 1 - Item 1 - Financial Statements
DIGITAL COMMUNICATIONS TECHNOLOGY CORPORATION
AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
December 31, 1997 and June 30, 1997
(Unaudited) (Audited)
December 31, June 30,
ASSETS 1997 1997
------ ------------ ------------
Current Assets
Cash on hand and in bank $ 4,199 $ 229,740
Marketable securities 2,238,631 657,562
Accounts receivable, net of allowance for doubtful
accounts of approximately $1,000,000, respectively 2,285,097 3,219,433
Recoverable income taxes 489,977 374,000
Intercompany accounts receivable 603,441 39,678
Inventories 713,711 1,679,011
Prepaid expenses and other current assets -- 128,385
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Total current assets 6,335,056 6,327,809
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Property and Equipment, net 5,720,964 5,823,634
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Other Assets 169,989 193,859
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TOTAL ASSETS $ 12,226,009 $ 12,345,302
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LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities
Revolving line of credit $ 1,713,709 $ 2,485,346
Current portion of long-term debt 1,564,728 1,564,728
Cash overdraft 37,529 174,616
Accounts payable 3,147,297 2,577,706
Advances from affiliates -- --
Accrued liabilities 610,071 387,646
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Total current liabilities 7,073,334 7,190,042
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Long-term Debt, net of current maturities 285,224 509,366
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Commitments and Contingencies
Stockholders' Equity
Common stock - $0.002 par value. 25,000,000 shares authorized
745,568 and 731,502 shares issued and outstanding, respectively 1,491 1,463
Additional paid-in capital 8,605,572 8,511,509
Accumulated deficit (4,001,884) (2,417,237)
Investment in Millennia, Inc. -- (1,529,157)
Unrealized holding gain on marketable securities 262,272 79,316
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Total shareholders' equity 4,867,451 4,645,894
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TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 12,226,009 $ 12,345,302
============ ============
The accompanying notes are an integral part of these consolidated financial
statements. The financial information presented herein has been prepared by
management without audit by independent certified public accountants.
3
DIGITAL COMMUNICATIONS TECHNOLOGY CORPORATION
AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
Six and Three months ended December 31, 1997 and 1996
(Unaudited)
Six months Six months Three months Three months
ended ended ended ended
December 31, December 31, December 31, December 31,
1997 1996 1997 1996
------------ ------------ ------------ ------------
Net sales $ 3,388,841 $ 15,814,416 $ 1,182,983 $ 8,794,479
------------ ------------ ------------ ------------
Costs and Expenses
Cost of goods sold, exclusive
of depreciation and amortization 3,243,868 12,650,843 1,250,060 7,073,707
Selling expenses, exclusive
of depreciation and amortization 146,754 641,160 29,679 335,282
General and administrative expenses,
exclusive of depreciation
and amortization 1,299,944 1,187,712 362,039 564,167
Depreciation and amortization 730,101 720,409 363,600 375,168
------------ ------------ ------------ ------------
Total costs and expenses 5,420,667 15,200,124 2,005,378 8,348,324
------------ ------------ ------------ ------------
Income (loss) from operations (2,031,826) 614,292 (822,395) 446,155
------------ ------------ ------------ ------------
Other income (expense)
Realized gains (losses) from
sales of marketable securities (173,130) 92,082 -- 20,963
Gain on sale of fixed assets 557,227 -- 427,182 --
Other income (expense) 177,730 -- (99,892) --
Interest expense (114,648) (211,692) 681 (103,184)
------------ ------------ ------------ ------------
Income (loss) from continuing operations
before provision for income taxes (1,584,647) 494,682 (494,424) 363,934
Provision (benefit) for income taxes -- 192,742 -- 127,411
------------ ------------ ------------ ------------
Income (loss) from continuing operations (1,584,647) 301,940 (494,424) 236,523
Discontinued operations
Gain from operations of
discontinued business, net -- (4,685) -- (4,935)
------------ ------------ ------------ ------------
Net income (loss) $ (1,584,647) $ 297,255 $ (494,424) $ 231,588
============ ============ ============ ============
Income (loss) per weighted-average share
of common stock outstanding
From continuing operations $ (2.14) $ 0.48 $ (0.66) $ 0.36
From discontinued operations -- (0.01) -- (0.01)
------------ ------------ ------------ ------------
Total $ (2.14) $ 0.47 $ (0.66) $ 0.35
============ ============ ============ ============
Weighted-average number of shares of
common stock outstanding 741,804 631,089 745,568 654,860
============ ============ ============ ============
The accompanying notes are an integral part of these consolidated financial
statements. The financial information presented herein has been prepared by
management without audit by independent certified public accountants.
4
DIGITAL COMMUNICATIONS TECHNOLOGY CORPORATION
AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
Six months ended December 31, 1997 and 1996
(Unaudited)
Six months Six months
ended ended
December 31, December 31,
1997 1996
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Cash Flows from Operating Activities
Net income (loss) $(1,584,647) $ 65,667
Adjustments to reconcile net income (loss) to
net cash provided by (used in) operating activities
Depreciation and amortization 730,101 355,251
Gain on disposition of fixed assets (557,227) --
(Gain) Loss on sale of marketable securities 173,130 (71,119)
Compensation settlement paid with common stock 94,091 --
Provision for bad debts -- 18,777
(Increase) decrease in:
Accounts receivable 934,336 (1,675,716)
Inventories 965,300 (58,262)
Prepaid expenses and other 36,278 (404,788)
Increase (decrease) in:
Accounts payable 569,591 1,178,809
Accrued liabilities 222,425 (23,481)
Deferred tax liability -- 390,415
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Net cash provided by (used in) operating activities 1,583,378 (224,447)
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Cash Flows from Investing Activities
Cash received from or (advanced to) affiliates (563,763) (741)
Cash used to purchase marketable securities (624,665) --
Cash received from sale of marketable securities 582,579 186,859
Proceeds from sale of property and equipment 668,047 --
Purchases of property and equipment (738,251) (556,512)
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Net cash used in investing activities (676,053) (370,394)
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Cash Flows from Financing Activities
Reduction of cash overdraft (137,087) --
Net long-term debt repayments (224,142) (182,142)
Net short-term borrowings (repayments) (771,637) 414,619
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Net cash provided by (used in) financing activities (1,132,866) 232,477
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Increase (Decrease) in Cash and Cash Equivalents (225,541) (362,364)
Cash and cash equivalents at beginning of period 229,740 615,037
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Cash and cash equivalents at end of period $ 4,199 $ 252,673
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Supplemental Disclosures of Interest and Income Taxes Paid
Interest paid during the period $ 114,648 $ 110,638
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Income taxes paid (refunded) $ 115,977 $ --
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The accompanying notes are an integral part of these consolidated financial
statements. The financial information presented herein has been prepared by
management without audit by independent certified public accountants.
5
DIGITAL COMMUNICATIONS TECHNOLOGY CORPORATION AND SUBSIDIARY
Notes to Consolidated Financial Statements
Note 1 - Basis of Presentation
Digital Communications Technology Corporation (DCT or Company) is an integrated
communications company, primarily engaged in large quantity duplication of
prerecorded videocassettes for customers in the entertainment and a wide range
of other industries. Through September 1997, the Company also provided mobile
satellite uplink services of breaking news stories and of entertainment,
sporting and other events for both domestic and international major television
networks and news gathering organizations. Additionally, DCT-Internet
Corporation (a wholly-owned subsidiary) provides professional internet website
design, maintenance and hosting for corporate clients worldwide.
DCT, a Delaware corporation, was incorporated on November 12, 1987 under the
name MagneTech Corporation as a wholly-owned subsidiary of S.O.I. Industries,
Inc. (now Millennia, Inc.). The Company's shareholders changed the name to
Digital Communications Technology Corporation on April 29, 1994. DCT's Common
Stock has traded on the American Stock Exchange since May 23, 1994. As of
December 31, 1997, Millennia, Inc. owned approximately 9.7% of the Company's
issued and outstanding Common Stock.
DCT offers its video tape reproduction services to entertainment companies and a
wide range of industrial customers, including advertising agencies, direct
selling organizations and educational groups throughout the United States and
Canada.
DCT purchases bulk quantities of videotape ("pancake") and empty video cassettes
("shells") for its reproduction business from several manufacturers at market
prices in the United States and the Pacific Rim. The pancake and shells are
readily available on the open market. The majority of the Company's video
duplication equipment is manufactured by several major manufacturers in Japan
and purchased from domestic distributors. The Company purchases its materials
and equipment from several major manufacturers and believes that the loss of any
of its suppliers or manufacturers would not have an adverse material effect on
the Company's business, financial condition and results of operations.
The accompanying consolidated financial statements include the accounts of
Digital Communications Technology Corporation (d/b/a Magnatech Corporation) and
its wholly-owned subsidiary, DCT-Internet Corporation. All significant
intercompany transactions have been eliminated in consolidation. The
consolidated entities are referred to as Company.
During interim periods, the Company follows the accounting policies set forth in
its Annual Report Pursuant to Section 13 or 15(d) of The Securities Exchange Act
of 1934 on Form 10-KSB filed with the Securities and Exchange Commission. The
June 30, 1997 consolidated balance sheet data was derived from audited financial
statements of the Company, but does not include all disclosures required by
generally accepted accounting principles. Users of financial information
provided for interim periods should refer to the annual financial information
and footnotes contained in its Annual Report Pursuant to Section 13 or 15(d) of
The Securities Exchange Act of 1934 on Form 10-KSB when reviewing the interim
financial results presented herein.
In the opinion of management, the accompanying interim financial statements,
prepared in accordance with the instructions for Form 10-QSB, are unaudited and
contain all material adjustments, consisting only of normal recurring
adjustments necessary to present fairly the financial condition, results of
operations and cash flows of the Company for the respective interim periods
presented. The current period results of operations are not necessarily
indicative of results which ultimately will be reported for the full fiscal year
ending June 30, 1998.
6
DIGITAL COMMUNICATIONS TECHNOLOGY CORPORATION AND SUBSIDIARY
Notes to Consolidated Financial Statements - Continued
Note 1 - Basis of Presentation - continued
The costs of the Company's products are subject, from time-to-time, to
inflationary pressures and commodity price fluctuations. In addition, the
Company from time-to-time experiences increases in costs of materials and labor,
as well as other manufacturing and operating expenses. The Company's ability to
pass along such increased costs through increased prices has been difficult due
to competitive pressures. The Company attempts to minimize any effects of
inflation on its operations by monitoring and controlling these costs.
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.
Note 2 - Liquidity uncertainty
On August 21, 1997, the Company's lending institution, Bank One, Texas, N. A.,
notified the Company that the lending institution intended, 120 days subsequent
to the notice, to stop making further advances on the Company's line of credit
and accelerate the maturity of the debt then owed.
On December 1, 1997, the Company announced that it had filed a lender liability
lawsuit in Dallas County, Texas against Bank One, Texas, N. A. (Bank) in
connection with the Bank's commitment in November 1996 to lend up to
approximately $9 million for working capital and funds needed to permit the
relocation and expansion of the Company's business. In the lawsuit, the Company
has alleged that the Bank's conduct constitutes breach of contract, fraud in the
inducement and several violations of the Bank's statutory duties of good faith
and fair dealings which have resulted in damages exceeding $5 million to the
Company.
Funds to reduce the Bank debt are being generated from the collection of
accounts receivable and the sale of video tape duplication equipment. The
inability to draw upon the Bank credit facility has left the Company with few
alternatives other than to retire the outstanding bank debt and allow the
release of existing liens which cover virtually all of the Company's assets.
The Company anticipates having sufficient remaining equipment to continue its
video tape duplication business on a reduced scale, if it so chooses, or it may
enter another line of business.
As a result of these events, the Company effectively ceased all video tape
duplication activities on December 31, 1997 and has laid off a significant
portion of its workforce.
Further, the Company, at this time, does not fully satisfy all of the American
Stock Exchange guidelines for continued listing and, accordingly, there is no
assurance that such listing will be continued by the American Stock Exchange.
Note 3 - Summary of Significant Accounting Policies
a) Marketable securities
Marketable securities consist of equity securities which had an aggregate
cost of approximately $1,996,446 at September 30, 1997. The marketable
securities portfolio contains net unrealized gains of approximately $262,272,
resulting in a net carrying amount of approximately $2,238,631 at December
31, 1997. The unrealized gains are reported as a separate component of
stockholders' equity. The Company's marketable securities portfolio is
classified as "available for sale" securities.
7
DIGITAL COMMUNICATIONS TECHNOLOGY CORPORATION AND SUBSIDIARY
Notes to Consolidated Financial Statements - Continued
Note 3 - Summary of Significant Accounting Policies - continued
a) Marketable securities - continued
During the first quarter of Fiscal 1998, the Company reclassified its
holdings in Millennia, Inc., consisting of approximately 730,627 shares at a
historical cost of approximately $1,867,782, to its "available for sale"
portfolio. These costs and related effects of unrealized holding gains are
included in the amounts shown in the preceding paragraph.
b) Accounting principles adopted during the current period
During the first quarter of Fiscal 1998, effective at the beginning of the
quarter, the Company adopted Financial Accounting Standard No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets
to be Disposed Of". In accordance with the Standard, the Company adopted the
policy of evaluating all qualifying assets as of the end of each reporting
quarter. No adjustments for impairment were charged to operations during the
first quarter of Fiscal 1998.
Note 4 - Inventory
Inventories are valued at the lower of cost or market using the first-in,
first-out method of accounting. Inventory consists of the following components
as of December 31, 1997 and June 30, 1997, respectively:
December 31, June 30,
1997 1997
------------ ------------
Raw materials $ 503,138 $1,164,970
Work-in-process 53,609 474,091
Finished goods 156,964 39,950
---------- ----------
$ 713,711 $2,921,173
========== ==========
Note 5 - Property and equipment
Property and equipment consists of the following at December 31, 1997 and June
30, 1997, respectively:
December 31, June 30,
1997 1997
------------ -----------
Machinery and equipment $ 9,907,950 $ 9,794,616
Buildings and improvements - 332,440
Leasehold improvements 1,554,384 973,608
Computer equipment 455,643 447,087
Furniture and fixtures 309,640 304,055
Transportation equipment 260,154 269,966
----------- -----------
12,487,771 12,121,772
Accumulated depreciation (6,766,807) (6,371,138)
---------- -----------
5,720,964 5,750,634
Land - 73,000
----------- -----------
Net property and equipment $ 5,720,964 $ 5,823,634
=========== ===========
8
DIGITAL COMMUNICATIONS TECHNOLOGY CORPORATION AND SUBSIDIARY
Notes to Consolidated Financial Statements - Continued
Note 6 - Bank credits
Starting in November 1996, Bank One, Texas, N. A. (Bank) had extended, pursuant
to its commitments in a loan agreement, various credits to the Company under a
secured line of credit and a secured term loan, whereby the Bank was to provide
up to $5.0 million of working capital on a revolving basis and up to $4.0
million to permit the relocation and expansion of the Company's business. These
credits are secured by all of the Company's accounts receivable and inventory
and substantially all of its other assets.
On August 21, 1997, the Bank notified the Company that it intended, 120 days
after the notice, to stop making advances under the line of credit and to
accelerate the maturity of the debt then owed. Although the Company continued to
negotiate with the Bank with a goal of maintaining the availability of needed
working capital under the line of credit, the Company determined that, as a
result of the Bank's actions, it was in the Company's best interests to attempt
to secure replacement financing from other sources.
On December 1, 1997, the Company announced that it had filed a lender liability
lawsuit against the Bank in Dallas County, Texas resulting from the Bank's
refusal to continue making advances under the line of credit and the Bank's
failure to continue to negotiate in good faith. In this lawsuit, the Company
alleges that the Bank's conduct constitutes breach of contract, fraud in the
inducement, and several violations of the Bank's statutory duties of good faith
and fair dealing, all of which have resulted in damages to the Company exceeding
$5.0 million. This lawsuit is pending.
On December 12, 1997, the Company announced that it had been forced to curtail
its video tape duplication operations and lay off most of its employees due to
severe cash flow problems which had been caused by its inability to draw funds
under the Bank line of credit.
On January 22, 1998, the Company announced that it had raised approximately $1.5
million from the sale of equipment on which the Bank had a lien and that the
proceeds had been used to retire outstanding Bank debt, thereby reducing the
amount owed to the Bank to approximately $2.0 million. As a result of the Bank's
actions, the Company determined that its only course of action was to pay the
Bank in full, thereby obtaining a release of the Bank's liens on its excess
collateral. To accomplish this goal, the Company is pursuing a program of
collecting accounts receivable and selling excess equipment which it believes
will result in payment in full of the Bank debt in a short period of time.
While there are no on-going negotiations to seek replacement resources of
financing at this time, after the Bank is paid in full, the Company will be able
to reassess its situation and determine whether then to seek alternative
financing in order to pay its trade creditors or pursue other arrangements to
pay or compromise its debts. The Company continues to assess its future courses
of action including the exploration of various business alternatives including
the continuation of its video tape duplication business on a reduced scale or
entering another line of business.
Note 7 - Litigation
The Company may from time to time be party to various legal actions arising
during the ordinary course of its business. In addition, the Company is
currently involved in the following litigation:
(a) On March 4, 1996, Richard Abrons, allegedly on behalf of the Company, and
Adrian Jacoby, allegedly on behalf of an affiliate company, Millennia, Inc.,
formerly known as S.O.I. Industries, Inc. ("Millennia"), brought a purported
shareholder derivative lawsuit against the Company's board of directors - Kevin
B. Halter, Kevin B. Halter, Jr., Gary C. Evans and James Smith - as well as
Halter Capital Corporation and Securities Transfer Corporation. In addition, the
Company and Millennia have been joined as "nominal defendants." In the lawsuit,
the plaintiffs have alleged breaches of fiduciary duty, fraud, and violations of
state securities laws. The plaintiffs seek unspecified actual and exemplary
damages, a constructive trust against the assets of the defendants and an
accounting of the affairs of the defendants with respect to their dealings with
the Company and Millennia. In addition, the plaintiffs have requested a
temporary injunction and the appointment of a receiver for the Company and
Millennia.
9
DIGITAL COMMUNICATIONS TECHNOLOGY CORPORATION AND SUBSIDIARY
Notes to Consolidated Financial Statements - Continued
Note 7 - Litigation - continued
In 1995, Halter Capital Corporation ("HCC"), in which Kevin B. Halter and Kevin
B. Halter, Jr. (the "Halters") are principals, negotiated the satisfaction of
$1,217,000 in debt owed to creditors by Millennia's subsidiary, American Quality
Manufacturing Corporation ("AQM," since sold). The Halters are also officers and
directors of Millennia. HCC satisfied these debts by transferring, in the
aggregate, 1,659,000 shares of Millennia common stock it owned to the creditors.
To repay HCC for the AQM indebtedness HCC paid, Millennia transferred to HCC
1,622,000 shares of DCT Common Stock it held as an investment. With the payment
of DCT Common Stock to HCC and the salaries or other compensation received from
Millennia by the Halters, Mr. Evans and Mr. Smith, plaintiffs assert that each
breached their duties of loyalty, usurped corporate opportunities and committed
gross mismanagement by wrongfully using Millennia and DCT as instruments for
their own and HCC's pecuniary gain to the detriment of Millennia, DCT and their
shareholders. If any damages are ultimately awarded to the plaintiffs, those
damages will be on behalf of, and for the benefit of, the Company and all of its
shareholders. If they are successful, the plaintiffs may recover certain
attorney's fees and costs. This case is entitled Richard Abrons et al v. Kevin
B. Halter et al, Cause No. 96-02169-G, in the 134th Judicial District, Dallas
County, Texas. Even though the Company is a nominal defendant in the lawsuit,
the Plaintiffs have not sought to recover any damages against the Company. In
this type of lawsuit, the Company is joined as a procedural matter to make it a
party to the lawsuit.
All of the defendants have answered denying all of the material allegations and
claims in the Petition, disputing the plaintiffs' contention that it is a proper
shareholder derivative action, denying that the plaintiffs have the right to
pursue this lawsuit on behalf of the Company and Millennia and are vigorously
defending the lawsuit. In addition, the defendants have filed counterclaims
against the plaintiffs and third party actions against Blake Beckham, Attorney
at Law, Beckham & Thomas, L.L.P., Sanford Whitman, the former CFO of the Company
and Jack D. Brown Jr., the former President of the Company, seeking damages in
excess of $50 million. In its counterclaim, the Company has asserted that the
filing of this lawsuit and the temporary restraining order the plaintiffs caused
to be issued in the case resulted in damages to the Company.
A court hearing related to this case commenced on February 9, 1998 to ascertain
if the Plaintiffs have met the legal requirements to file and pursue this case.
This hearing is continuing as of the date of this filing. The Company continues
to believe that the results of this lawsuit will not have any material impact on
the operations or financial condition of the Company other than the expenditure
of legal and professional fees, which are currently in excess of $600,000 in the
aggregate, related to this specific matter.
(b) In February 1996, Convention Tapes International, Inc., a Florida
corporation, filed a civil action in the Circuit Court of the 11th Judicial
Circuit for Dade County, Florida, against Tapes Unlimited, Inc. and MagneTech
Corporation for damages "in excess of $50,000" allegedly resulting from breach
of contract and warranty, and fraudulent inducement and/or negligent
misrepresentation on the part of Tapes Unlimited. MagneTech Corporation is the
previous name of the Company, and Tapes Unlimited was an Orlando, Florida
subsidiary of the Company from March 1994 until Tapes Unlimited was dissolved in
October 1995. Tapes Unlimited ceased operations in June 1995. MagneTech
Corporation is a named defendant against whom plaintiff asserts vicarious or
successor liability for its alleged damages, claiming that Tapes Unlimited was
the "alter ego" or "mere instrumentality" of MagneTech. Upon motion of the
defendants, in July 1996 the civil action was transferred to the Circuit Court
in Orange County, Florida, Case No. CI96-5851.
As best the Company has been able to determine, Tapes Unlimited, in February
1995, duplicated certain videotapes for the plaintiff from videotape masters
provided by the plaintiff. The plaintiff has alleged that the videotape
duplicates delivered by Tapes Unlimited contained, in part, extraneous and
pornographic material which caused plaintiff to lose the business of a certain
account, as well as the prospective business of other, unspecified persons. The
plaintiff has since ceased doing business.
10
DIGITAL COMMUNICATIONS TECHNOLOGY CORPORATION AND SUBSIDIARY
Notes to Consolidated Financial Statements - Continued
Note 7 - Litigation - continued
The Company currently has pending a motion to dismiss the matter and, therefore,
has not filed a substantive response to plaintiff's complaint. Discovery and
settlement discussions have commenced. Until the court rules on the Company's
motion to dismiss, it is uncertain whether the Company must even defend the
action. Even assuming that the motion to dismiss is denied, the validity or
depth of the claim is unknown to the Company. Similarly, the probability of
judgment, if any, and the potential range of monetary award thereon, cannot be
evaluated until substantive, formal discovery is undertaken. Meanwhile, the
Company intends to vigorously defend this matter, procedurally and
substantively.
(c) In December 1997, Infiniti Cassettes, Inc. obtained a judgment against the
Company on an open account arising from its sale of raw materials to the Company
in the approximate amount of $625,000, plus interest and court costs. This case
was filed in the Superior Court of the State of California, for the County of
Los Angeles, Central District as Case No. BC180727. The parties have begun
negotiations to settle this matter and the Company believes that it will be able
to satisfy this judgment after the remainder of its secured indebtedness to Bank
One, Texas, N. A. has been extinguished.
(d) Numerous other lawsuits have been filed against the Company by creditors
alleging non-payment of open or unsecured accounts. These have been filed in
various state courts located in Florida and Indiana where the Company has
maintained offices and done business. The State of Florida has filed liens in
Florida in an effort to collect sales tax assessments of approximately $300,000,
which it alleges are due and payable. The Company is in the process of reviewing
all pending litigation, as well as certain threatened claims for money which
have been received, and will vigorously defend those in which it believes its
creditors are trying to collect more than is rightfully owed. The Company
believes that it will be able to satisfy all legitimate claims against it,
arising out of accounts payable or unsecured indebtedness, after the remainder
of its secured indebtedness to Bank One, Texas, N. A. has been extinguished.
(e) On December 1, 1997, the Company filed a lender liability lawsuit against
Bank One, Texas, N. A. (Bank) in State District Court in Dallas County, Texas
resulting from the Bank's refusal to continue making advances under the line of
credit and the Bank's failure to continue to negotiate in good faith. In this
lawsuit, the Company alleges that the Bank's conduct constitutes breach of
contract, fraud in the inducement and several violations of the Bank's statutory
duties of good faith and fair dealing, all of which have resulted in damages to
the Company exceeding $5.0 million. This suit is pending, discovery has not yet
begun and no trial date has been set.
It is unclear at this time whether or not any current or pending litigation will
have a material adverse effect on the Company's business, its financial
condition and the related future results of operations.
Note 7 - Common Stock Transactions
Effective December 9, 1997, the Company, with the approval of its stockholders,
effected a one-for-ten reverse split of the issued and outstanding shares of the
Company's common stock. The effect of this reverse split is reflected in the
accompanying financial statements as if the reverse split had occurred on the
first day of the earliest period presented.
(Remainder of this page left blank intentionally)
11
DIGITAL COMMUNICATIONS TECHNOLOGY CORPORATION AND SUBSIDIARY
Notes to Consolidated Financial Statements - Continued
Note 8 - Earnings per share
The Financial Accounting Standards Board issued Statement of Financial
Accounting Standards No. 128, "Earnings Per Share" (FAS 128) to be effective for
financial statements issued for periods ending after December 15, 1997,
including interim periods. FAS 128 specifies new standards designed to improve
the EPS information provided in financial statements by simplifying the existing
computational guidelines, revising the disclosure requirements, and increasing
the comparability of EPS data on an international basis. Some of the changes
made to simplify the EPS computations include: (a) eliminating the presentation
of primary EPS and replacing it with basic EPS, with the principal difference
being that common stock equivalents are not considered in computing basic EPS,
(b) eliminating the modified treasury stock method and the three percent
materiality provision, and (c) revising the contingent share provisions and the
supplemental EPS data requirements. FAS 128 also made a number of changes to
former disclosure requirements. There has been no effect on the Company's
presentation of basic earnings per share in the implementation of this standard.
Due to the Company's net operating loss position, all outstanding stock options
are considered anti-dilutive and no fully diluted earnings per share is
presented.
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12
Part I - Item 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(1) Caution Regarding Forward-Looking Information
This quarterly report contains certain forward-looking statements and
information relating to the Company that are based on the beliefs of the Company
or management as well as assumptions made by and information currently available
to the Company or management. When used in this document, the words
"anticipate," "believe," "estimate," "expect" and "intend" and similar
expressions, as they relate to the Company or its management, are intended to
identify forward-looking statements. Such statements reflect the current view of
the Company regarding future events and are subject to certain risks,
uncertainties and assumptions, including the risks and uncertainties noted.
Should one or more of these risks or uncertainties materialize, or should
underlying assumptions prove incorrect, actual results may vary materially from
those described herein as anticipated, believed, estimated, expected or
intended. In each instance, forward-looking information should be considered in
light of the accompanying meaningful cautionary statements herein.
(2) Results of Operations
Overview
On August 21, 1997, the Company's lending institution, Bank One, Texas, N. A.,
notified the Company that the lending institution intended, 120 days subsequent
to the notice, to stop making further advances on the Company's line of credit
and accelerate the maturity of the debt then owed.
On December 1, 1997, the Company announced that it had filed a lender liability
lawsuit in Dallas County, Texas against Bank One, Texas, N. A. (Bank) in
connection with the Bank's commitment in November 1996 to lend up to
approximately $9 million for working capital and funds needed to permit the
relocation and expansion of the Company's business. In the lawsuit, the Company
has alleged that the Bank's conduct constitutes breach of contract, fraud in the
inducement and several violations of the Bank's statutory duties of good faith
and fair dealings which have resulted in damages exceeding $5 million to the
Company.
Funds to reduce the Bank debt are being generated from the collection of
accounts receivable and the sale of video tape duplication equipment. The
inability to draw upon the Bank credit facility has left the Company with few
alternatives other than to retire the outstanding bank debt and allow the
release of existing liens which cover virtually all of the Company's assets.
The Company anticipates having sufficient remaining equipment to continue its
video tape duplication business on a reduced scale, if it so chooses, or it may
enter another line of business.
As a result of these events, the Company effectively ceased all video tape
duplication activities on December 31, 1997 and has laid off a significant
portion of its workforce.
Further, the Company, at this time, does not fully satisfy all of the American
Stock Exchange guidelines for continued listing and, accordingly, there is no
assurance that such listing will be continued by the American Stock Exchange.
The Company continues to experience elevated general and administrative costs
due to general overhead matters and legal and professional costs related to the
stockholder derivative litigation. A court hearing related to this case
commenced on February 9, 1998 to ascertain if the Plaintiffs have met the legal
requirements to file and pursue this case. This hearing is continuing as of the
date of this filing. The Company continues to believe that the results of this
lawsuit will not have any material impact on the operations or financial
condition of the Company other than the expenditure of legal and professional
fees, which are currently in excess of $600,000 in the aggregate, related to
this specific matter.
13
Results of operations
The Company experienced a decline in second quarter sales volume from
approximately $8.8 million for the three months ended December 31, 1996 to
approximately $1.2 million for the three months ended December 31, 1997.
Further, the Company's revenues for the first six months of Fiscal 1998 were
approximately $3.4 million as compared to approximately $15.8 million for the
comparable period in Fiscal 1997. Several factors impacted this decline in sales
including, but not limited to, management evaluation of the Company's customer
base and elimination of inefficient and unprofitable accounts and the overall
industry decline in product sales. Additionally, due to the lack of available
funding on its existing credit facilities, the Company effectively ceased all
video tape duplication operations, effective December 31, 1997. The full impact
of this curtailment will be realized in future periods.
The industry consensus is that the overall industry sales activity during
Calendar 1997 was significantly slower than expected. The Company has
experienced severe cash flow problems caused by its inability to access its line
of credit from its lending institution which will negatively impact its ability
to solicit sales to customers during the last half of the Company's fiscal year
ending June 30, 1998.
The Company incurred costs of sales of approximately $1.25 million and $3.24
million, respectively, for the three and six month periods ended December 31,
1997 as compared to approximately $7.09 million and $12.65 million for the
comparable periods ended December 31, 1996. The primary component of these
expenses are the Company's fixed costs related to its production facility in
Indianapolis, Indiana and its former production facility in Ft. Lauderdale,
Florida. These costs were approximately 106% and 95.6% of sales for the three
and six months ended December 31, 1997 as compared to approximately 80.4% and
80.0% for the comparable periods ended December 31, 1996. Management continues
to evaluate its fixed and variable costs in relation to sales activity to strive
towards optimum efficiency and profitable operations. Further, the Company
intends to continuing to reduce its inventory levels to achieve a better
utilization of available resources.
Selling expenses decreased by approximately $305,000 and $494,000 for the three
and six months ended December 31, 1997 from the comparable periods ended
December 31, 1996. These costs continue to decline as a result of reduced
business activity related to diminished cash flows as a direct result of the
inability to access the Company's existing credit facilities.
General and administrative expenses continue to experience pressure from general
corporate overhead and legal and professional fees. The Company incurred
aggregate costs of approximately $362,000 and $1.3 million during the three and
six month periods ended December 31, 1997, respectively. These costs were
approximately $564,000 and $1.2 million for the comparable period ended December
31, 1996. A significant component of these expenses occurred during the
July-September 1997 quarter as an effect of closing and relocating of the Ft.
Lauderdale, Florida operations to the Indianapolis, Indiana facility. Management
was of the opinion that the closing of the Ft. Lauderdale facility and the sale
of the assets of its satellite uplink operation would significantly contribute
to future cost savings for the Company.
(3) Liquidity and capital requirements
During the first six months of Fiscal 1998, the Company experienced net cash
provided by operations of approximately $1.583 million as compared to using net
cash in operations of approximately $(224,000) during the same period of the
preceding year. Included in this net cash flow into the Company was the
collection, and affiliated reduction, of accounts receivable of approximately
$930,000 and the reduction of inventories of approximately $965,000. The funds
provided by these inflows were utilized to reduce accounts payable by
approximately $569,000.
Further liquidity was provided by approximately $168,000 in proceeds from the
sale of the satellite uplink equipment to an unrelated third party and
approximately $500,000 in proceeds from the sale of the closed Ft. Lauderdale
facility. These cash inflows were offset by purchases and upgrading of video
duplication equipment and leaseholds at the Indianapolis facility of
approximately $739,000.
14
The Company also utilized cash during the first half of Fiscal 1998 to reduce a
book cash overdraft by approximately $137,000, to lower the outstanding balance
on the Company's revolving line of credit of approximately $772,000 and to
reduce the Company's long-term debt by approximately $224,000. Further, during
January 1998, the Company utilized the proceeds from the sale of excess
equipment and collection of trade accounts receivable to further reduce
outstanding bank debt due to Bank One, Texas, N. A., as discussed in the
accompanying notes to the consolidated financial statements.
Overall, the Company's available cash on hand decreased by approximately
$225,000 from June 30, 1997 to December 31, 1997 with the net change relating
principally to the overall increase in property and equipment at the
Indianapolis facility as a result of relocating the Ft. Lauderdale operations.
The Company relocated and expanded the entire Indianapolis facility into a new
172,000 square foot building during Fiscal 1997. The Indianapolis plant opened
in June 1997 with an increased operating capacity of approximately 20%. The new
facility layout is designed to optimize process flow, to reduce product handling
and to minimize the total cycle time of productions from order entry to
delivery. As mentioned, the Company added approximately $739,000 in property and
equipment during the first six months of Fiscal 1998. In the event that the
Company continues its video tape duplication business, due to the capital
intensive and high technology nature of this business line, certain levels of
capital acquisitions for new duplication and production equipment and/or
upgrades of existing equipment may be required to keep the Company competitive
in the marketplace. Any such expenditures, if necessary, are proposed, at this
time, to potentially be financed through operations and/or separate
financing/leasing arrangements. There can be no assurances, however, that the
Company will either continue its video tape duplication business or actually
incur further capital expenditures. At this time, the Company has no plans to
acquire or upgrade any equipment for the remainder of the fiscal year ending
June 30, 1998.
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15
Part II - Other Information
Item 1 - Legal Proceedings
See the Notes to Consolidated Financial Statements
Item 2 - Changes in Securities
None
Item 3 - Defaults on Senior Securities
None
Item 4 - Submission of Matters to a Vote of Security Holders
The Company held its Annual Meeting of Stockholders on November 25, 1997.
All five of its current directors, Kevin B. Halter, Kevin B. Halter, Jr.,
Don R. Benton, Gary C. Evans and James Smith were re-elected with each
receiving the favorable vote of more than 94% of the shares actually voted.
The stockholders approved the planned one for ten reverse split of the
Company's issued and outstanding common stock with 3,798,970 (or
approximately 89%) voting in favor of this proposal and 430,448 (or
approximately 10%) voting against this proposal. The reverse split was
implemented and effective on December 9, 1997 thereby reducing the number
of issued and outstanding shares of common stock to 745,568.
The stockholders also ratified the appointment of Coopers & Lybrand, LLP as
the Company's independent auditors for the year ending June 30, 1998.
Item 5 - Other Information
None
Item 6 - Exhibits and Reports on Form 8-K
November 26, 1997 Announced shareholder approval of a one-for-ten reverse
split of the Company's common stock to be effective December
9, 1997.
January 6, 1998 Announced the dismissal of Coopers & Lybrand as independent
auditors for the Company and announced the hiring of Hein +
Associates as replacements, effective January 12, 1998.
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16
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused
this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
DIGITAL COMMUNICATIONS TECHNOLOGY CORPORATION
February 13, 1997 /s/ Kevin B. Halter
-------- -------------------------------------
Kevin B. Halter
Chairman and Chief Accounting Officer
17