FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
(Mark One)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended June 30, 2000
OR
| | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from ________ to ___________
Commission file number: 0-21479
I-SECTOR CORPORATION
(Exact name of Registrant as specified in its charter)
DELAWARE 76-0515249
(State of incorporation) (I.R.S. Employer Identification No.)
6401 SOUTHWEST FREEWAY
HOUSTON, TEXAS 77074
Address of principal executive offices) (Zip code)
Registrant's telephone number including area code: (713) 795-2000
Allstar Systems, Inc.
(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. Yes _X _ No_ __
APPLICABLE ONLY TO REGISTRANTS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE
PRECEDING FIVE YEARS:
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Section 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court. Yes ____ No ____
(APPLICABLE ONLY TO CORPORATE REGISTRANTS)
Indicate the number of shares outstanding of each of the registrant's
classes of common stock, as of the latest practicable date.
Title Outstanding
Common Stock, $.01 par value per share As of August 14, 2000
4,049,525 shares outstanding
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
I-SECTOR CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except share and par value amounts)
June 30, December 31
2000 1999
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 7,255 $ 4,647
Accounts receivable, net 14,682 37,726
Accounts receivable - affiliates 462 423
Inventory 1,281 7,442
Deferred taxes 1,076 836
Other current assets 183 384
Total current assets 24,939 51,458
Property and equipment 1,164 2,280
Other assets 162 178
Total $ 26,265 $ 53,916
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Notes payable $ $ 15,869
Accounts payable 4,628 21,687
Accrued expenses 2,122 3,896
Net liabilities related to 1,024 199
discontinued operations
Income taxes payable 2,341
Deferred service revenue 91 240
Total current liabilities 10,206 41,891
Deferred credit - stock warrants 195 195
Commitments and contingencies
Stockholders' equity:
Preferred stock, $.01 par value,
5,000,000 shares authorized,
no shares issued
Common stock:
$.01 par value, 15,000,000
shares authorized, 4,441,325
and 4,442,325 shares issued at
June 30, 2000 and December 31, 1999 44 44
Additional paid in capital 10,037 10,037
Unearned equity compensation (1) (1)
Treasury stock (391,800 and 381,800
shares, at cost)at June 30, 2000
and December 31, 1999 (986) (972)
Retained earnings 6,770 2,722
Total stockholders' equity 15,864 11,830
Total $ 26,265 $ 53,916
See notes to consolidated financial statements
I-SECTOR CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except share and per share amounts)
(Unaudited)
Three Months Ended June 30,
2000 1999
Total revenue $ 4,228 $ 4,516
Cost of sales and services 3,494 2,892
Gross profit 734 1,624
Selling, general and administrative expenses 1,951 1,675
Operating loss (1,217) (51)
Interest expense (income), net of other income (50) 8
Loss from continuing operations before
benefit for income taxes (1,167) (59)
Benefit for income taxes (386) (6)
Net loss from continuing operations (781) (53)
Discontinued Operations:
Net loss from discontinued operations,
net of taxes (317)
Loss on disposal, net of taxes (387)
Net loss $ (1,168) $ (370)
Net loss per share:
Basic and Diluted:
Net loss from continuing operations $ (0.20) $ (0.01)
Net loss on discontinued operations (0.08)
Loss on disposal, net of taxes (0.09)
Net loss per share $ (0.29) $ (0.09)
Weighted average shares outstanding:
Basic and Diluted 4,048,525 4,232,211
See notes to consolidated financial statements
I-SECTOR CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except share and per share amounts)
(Unaudited)
Six Months Ended June 30,
2000 1999
Total revenue $ 10,212 $ 8,834
Cost of sales and services 7,093 5,754
Gross profit 3,119 3,080
Selling, general and administrative expenses 4,260 3,308
Operating loss (1,141) (228)
Interest expense (income), net of other income (35) 15
Loss from continuing operations before
benefit for income taxes (1,106) (243)
Benefit for income taxes (367) (63)
Net loss from continuing operations (739) (180)
Discontinued Operations:
Net income (loss) from discontinued
operations, net of taxes 301 (244)
Gain on disposal, net of taxes 4,486
Net income (loss) $ 4,048 $ (424)
Net income (loss) per share:
Basic and Diluted:
Net loss from continuing operations $ (0.18) $ (0.04)
Net income (loss) on discontinued
operations 0.07 (0.06)
Gain on disposal, net of taxes 1.11
Net income (loss) per share $ 1.00 $ (0.10)
Weighted average shares outstanding:
Basic and Diluted 4,048,965 4,232,211
See notes to consolidated financial statements
I-SECTOR CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
Six Months Ended June 30,
2000 1999
Net loss from continuing operations $ (739) $ (180)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Depreciation and amortization 260 427
Deferred tax provision 37
Changes in assets and liabilities that provided
(used) cash:
Accounts receivable, net 23,044 (670)
Accounts receivable - affiliates (39) (90)
Inventory 286 (158)
Income Taxes Receivable (176)
Other current assets 212
Other assets 16
Accounts payable (17,059) 6,524
Accrued expenses (1,774) 119
Income taxes payable 277
Deferred service revenue (149) (90)
Net cash provided by continuing operating
activities 4,160 5,918
Net operating activities from discontinued
activities 14,141 (127)
Net cash provided by operating activities 18,301 5,791
Cash flows from investing activities:
Proceeds from sale of fixed assets 279
Capital expenditures (89) (473)
Net cash provided by (used in)
investing activities: 190 (473)
Cash flows from financing activities:
Purchase of treasury stock (14)
Net decrease in notes payable (15,869) (1,122)
Net cash used in financing activities: (15,883) (1,122)
Net increase in cash and cash equivalents 2,608 4,196
Cash and cash equivalents at beginning of period 4,647 2,538
Cash and cash equivalents at end of period $ 7,255 $ 6,734
Supplemental disclosures of cash flow
information:
Cash paid for interest $ 375 $ 503
Cash paid for taxes $ 0 $ 0
See notes to consolidated financial statements
I-SECTOR CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands, except share and per share amounts)
1. DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
I-Sector Corporation and subsidiaries ("I-Sector"), formerly Allstar
Systems, Inc., has historically been engaged in the sale and service of computer
and telecommunication hardware and software products in the United States.
During 1995, I-Sector formed and incorporated Stratasoft, Inc., ("Stratasoft") a
wholly owned subsidiary, to create and market software related to the
integration of computer and telephone technologies. In January 1997, I-Sector
formed IT Staffing Inc. ("IT Staffing"), a wholly owned subsidiary, to provide
temporary and permanent placement services of information technology
professionals. In March 1998, I-Sector formed Allstar Systems Rio Grande, Inc.,
a wholly owned subsidiary, to engage in the sale and service of computer
products in western Texas and New Mexico. In July 2000, the shareholders
approved the name change from Allstar Systems, Inc. to I-Sector Corporation in
order to better communicate the business purpose and mission of the Company,
that of owning, operating or investing in companies which are expected to
benefit from the manner in which the Internet is changing commerce and
communications. Recently, in July 2000 I-Sector formed and incorporated two new
wholly owned corporations, Synergy Helpdesk Solutions, Inc. ("Synergy") and
Allstar Computer Service, Inc. ("ACS") and contributed certain operating assets
associated with its previously reported IT Services segment to such
corporations. Also in July 2000, I-Sector formed and incorporated a new wholly
owned subsidiary, Internetworking Sciences Corporation ("INS") to meet the needs
of customers in the area of large-scale network infrastructure requirements that
are Cisco centric.
Some of I-Sector's services are authorized under arrangements with product
manufacturers and such operations are dependent upon maintaining its approved
status with such manufacturers.
The condensed consolidated financial statements presented herein as of and
for the three and six months ended June 30, 2000 are unaudited; however, all
adjustments which are, in the opinion of management, necessary for a fair
presentation of the financial position, results of operations and cash flows for
the periods covered have been made and are of a normal, recurring nature.
Accounting measurements at interim dates inherently involve greater reliance on
estimates than at year-end. The results of the interim periods are not
necessarily indicative of results for the full year. The consolidated balance
sheet at December 31, 1999 is derived from audited consolidated financial
statements but does not include all disclosures required by generally accepted
accounting principles. Although management believes the disclosures are
adequate, certain information and disclosure normally included in the notes to
the financial statements has been condensed or omitted as permitted by the rules
and regulations of the Securities and Exchange Commission.
Reclassifications - Certain amounts in the consolidated financial
statements presented herein have been reclassified to conform to current year
presentation.
Use of Estimates - The preparation of the 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 amount of revenues and expenses during
the reporting period. Actual results could differ from these estimates.
Accounting Pronouncements - In June 1998, the Financial Accounting
Standards Board issued Statement of Financial Accounting Standards No. 133,
"Accounting for Derivative Instruments and Hedging Activities- ("SFAS No. 133").
SFAS No. 133, as amended, is effective for all fiscal quarters of fiscal years
beginning after June 15, 2000. Management is evaluating what impact the
pronouncement might have, if any, and additional adjustment or disclosures may
be required when this statement is implemented.
In December 1999, the Securities and Exchange Commission ("SEC") issued
Staff Accounting Bulletin ("SAB") No. 101, "Revenue Recognition in Financial
Statements." SAB 101 summarizes certain of the SEC's views in applying generally
accepted accounting principles to revenue recognition in financial statements.
The Company is required to adopt SAB 101, as amended, in the fourth quarter of
fiscal 2000. The Company does not expect the adoption of SAB 101 to have a
material effect on its financial position or results of operations.
2. DISCONTINUED OPERATIONS
On March 16, 2000, I-Sector entered into an agreement to sell certain
assets of and the ongoing operations of its Computer Products Division. The sale
transaction closed on May 19, 2000, after stockholder approval was obtained and
other required conditions of closing were satisfied. Under the terms of the
agreement, I-Sector received a cash purchase price at closing of approximately
$16,440, including $1,952 attributable to inventory and $279 attributable to
equipment, plus the contingent right to receive up to $500 in proceeds from an
escrow account established to satisfy the Company's liability for any breaches
of the Company's representations and warranties under the agreement. The cash
purchase price was subject to certain post-closing adjustments that resulted in
a credit to the purchaser of approximately $384. The transaction was recognized
for financial reporting purposes in the quarter ended March 31, 2000 and pretax
income from the discontinued operations of the Computer Products Division (net
of taxes of $156) was $302 for the three months ended March 31, 2000. In the
quarter ended March 31, 2000, a gain on disposal of $5,091 (net of taxes of
$2,625) was recognized, which included an estimated loss of $604 (net of taxes
of $311) for the operating results from the measurement date, March 16, 2000 to
the closing date of the sale, as well as a loss on the equipment sold of $352
(net of taxes of $181) and estimates for the impairment of assets caused by the
disposal decision of $2,593 (net of taxes of $1,336). During the quarter ended
June 30, 2000, I-Sector revised its estimates relating to the impairment of
assets and recognized a loss on disposal of $387 (net of taxes of $199).
I-Sector retained accounts receivable attributable to the Computer Products
Division, which, at June 30, 2000, was approximately $10,047, net of reserves.
I-Sector also retained fixed assets of $255 and liabilities related to the
Computer Products Division. Fixed assets that were not sold are being redeployed
in the continuing operations. The balance sheet caption "Net liabilities related
to discontinued operations" at June 30, 2000 includes $793,000 of estimated
expenses relating to the disposal and $187,000 for cash remitted to I-Sector by
customers that belongs to the purchaser of the Computer Products Division.
Revenue for the Computer Products Division for the three and six month periods
ending June 30, 2000 through the date of disposition was $14,703 and $44,026,
respectively and $44,611 and $86,865 for the same periods in 1999. The Company
allocates interest expense to its various divisions on a proportional basis
based on accounts receivable. Interest expense allocated to the Computer
Products Division for the six months ended June 30, 1999 and 2000 and for the
period from April 1, 2000 to May 19, 2000 was $416, $237 and $62, respectively.
In connection with the sale of the Computer Products Division, I-Sector also
sold the El Paso portion of the IT Services business. The El Paso branch office
portion of the IT Services business accounted for revenues of $889 and $941 and
operating loss of $68 and $569 in the six months ended June 30, 1999 and 2000,
respectively. The El Paso services business has been included in the continuing
operations for the six months ended June 30, 2000 through the close date of May
19, 2000.
On November 2, 1999, I-Sector approved a plan to sell or close its Telecom
division. This was the measurement date. The sale was finalized on March 16,
2000. Under the terms of the sale I-Sector received $250 cash and the ability to
obtain restricted stock in the purchaser contingent upon the performance of the
acquired operations during a period ending six months after the closing date.
Additionally, the purchaser assumed all telephone equipment warranty obligations
of I-Sector up to a maximum of $30. Any excess warranty costs incurred by the
purchaser will be billed to I-Sector at an agreed upon rate. Pretax loss from
discontinued operations (net of benefit of $209) was $406 for the six months
ended June 30, 1999. A disposal loss, including an estimate of the operating
results from the measurement date, November 2, 1999 to the closing date of the
sale, as well as estimates for impairment of assets caused by the disposal
decision were recognized at December 31, 1999. During the six months ended June
30, 2000, I-Sector revised its estimate of the loss on disposal and recorded an
additional loss (net of tax savings of $112) of $218. I-Sector has retained
accounts receivable of approximately $489, net of reserves, at June 30, 2000,
related to the Telecom Division. The Revenue for the Telecom Division for the
three and six month periods ending June 30, 2000 through the date of
disposition, March 16, 2000, was $0 and $752, respectively, and $1,164 and
$2,460 for the same periods in 1999.
3. INCENTIVE STOCK PLANS
In September 1996 I-Sector adopted the 1996 Incentive Stock Plan (the
"Incentive Plan"') and the 1996 Non-Employee Director Stock Option Plan (the
"Director Plan"). Under the Incentive Plan, I-Sector's Compensation Committee
may grant up to 442,500 shares of common stock, which have been reserved for
issuance to certain key employees of I-Sector. The Incentive Plan provides for
the granting of incentive awards in the form of stock options, restricted stock,
phantom stock, stock bonuses and cash bonuses in accordance with the provisions
of the plan.
Additionally, no shares may be granted after the tenth anniversary of the
Incentive Plan's adoption. I-Sector has reserved for issuance, under the
Director Plan, 100,000 shares of common stock, subject to certain antidilution
adjustments.
Historically the Director Plan provided for a one-time option by newly
elected directors to purchase up to 5,000 shares of common stock, after which
each director was entitled to receive an option to purchase up to 2,000 common
shares upon each date of reelection to I-Sector's Board of Directors. On May 2,
2000, the I-Sector Board of Directors amended the Non-Employee Director Stock
Option Plan to provide for the issuance of options to purchase 5,000 shares of
common stock to each Non-employee Director upon his election as a director. In
addition, the Board of Directors authorized the issuance of 5,000 shares to each
of the Non-employee Directors, who was\
serving as a director at that date, as additional compensation for prior
periods, each such additional option to be issued at the time of that Director's
next election as an I-Sector director.
Options granted under the Director Plan and the Incentive Plan have an
exercise price equal to the fair market value on the date of grant and generally
expire ten years after the grant date. The Incentive Plan stock option grants
will vest ratably over the five-year period from the date of issuance.
In May 2000, I-Sector adopted the 2000 Stock Incentive Plan (the "2000
Incentive Plan"). Under the 2000 Incentive Plan, I-Sector's Compensation
Committee may grant up to the greater of 400,000 shares of common stock or 10%
of the number of shares of common stock issued and outstanding on the first day
of the then preceding calendar quarter. The 2000 Incentive Plan provides for the
granting of incentive awards in the form of stock options, stock appreciation
rights, restricted stock, performance units and performance shares, other
stock-based awards and cash bonuses in accordance with the provisions of the
plan. All employees, including officers, and consultants and non-employee
directors are eligible to participate in the 2000 Stock Incentive Plan.
Generally, the Compensation Committee has the discretion to determine the
exercise price of each stock option under the 2000 Incentive Plan, and they must
be exercised within ten years of the grant date, except those classified as
Incentive Stock Option ("ISO") grants to a 10% or greater stockholder. ISO
options grants to a 10% or greater stockholder must be exercised within five
years of the grant date. The exercise price of each ISO option grant may not be
less than 100% of the fair market value of a share of common stock on the date
of grant (110% in the case of a 10% or greater stockholder).
The number of options outstanding and the exercise price under each of the
three Plans were as follows at June 30, 2000:
1996 2000
Exercise Price Director Plan Incentive Plan Incentive Plan
$1.063 190,972
$1.375 4,600
$1.500 28,000 193,940 17,600
$1.563 17,900
$1.750 9,000 1,900
$2.188 5,000
$2.266 35,800
$2.938 600
$6.000 8,000 0
Total granted 37,000 417,312 59,000
In addition, incentive awards in the form of restricted stock were granted
for 14,286 shares that would have vested ratably over the two-year period ending
July 7, 1999, and 50,000 shares, which would have vested ratably over the
five-year period ending May 20, 2004. During the quarter ended June 30, 1999
I-Sector exchanged restricted stock awards for 62,086 shares for stock option
grants on 126,172 shares at an exercise price of $1.06 per share. The stock
option grants vest over the same period as the exchanged restricted stock
awards. As of June 30, 2000, I-Sector had restricted stock awards outstanding
for 1,200 shares.
4. SEGMENT INFORMATION
I-Sector has five reportable segments: ACS, Synergy, IT Staffing,
Stratasoft and Corporate. Corporate includes the operations of the Company's El
Paso service operations which were sold on May 19, 2000, and service operations
relating to computer installations for a certain customer. The installations for
this customer ceased when the Computer Products Division was sold on May 19,
2000. ACS, Synergy and IT Staffing were previously reported as the IT Services
segment. ACS provides customers with on-site and carry-in computer repair,
application support and operating system and network migration services. Synergy
provides customers with turnkey outsourced IT helpdesk solutions, technical
staff augmentation for IT helpdesk operation and helpdesk solutions consulting
services. IT Staffing provides IT professionals to work on temporary
assignments. Stratasoft, previously reported as the CTI Software segment,
produces software products that facilitate telephony and computer integration
primarily for telemarketing and call center applications. The accounting
policies of the business segments are the same as those for I-Sector. I-Sector
evaluates performance of each segment based on operating income. Management only
views accounts receivable, and not total assets, by segment in their
decision-making. Intersegment sales and transfers are not significant. The
tables below show the results of the five reportable segments:
For the quarter ended June 30, 2000: IT
ACS Synergy Staffing Stratasoft Corporate Consolidated
Total revenue $ 656 $ 1,323 $ 315 $ 1,172 $ 762 $ 4,228
Cost of sales and services 531 1,070 231 674 988 3,494
Gross profit (loss) 125 253 84 498 (226) 734
Selling, general and
administrative expenses 279 562 70 747 293 1,951
Operating income (loss) $ (154) $ (309) $ 14 $ (249) $ (519) (1,217)
Interest expense (income), net of
other income (50)
Loss before benefit for income tax (1,167)
Benefit for income tax (386)
Net loss from continuing operations (781)
Net loss on disposal, net of taxes (387)
Net loss $ (1,168)
Accounts receivable, net $ 541 $ 1,047 $ 136 $ 1,670 $ 752 $ 4,146
Accounts receivable retained from
discontinued operations, net 10,536
Total accounts receivable, net $ 14,682
For the quarter ended June 30, 1999:
Total revenues $ 912 $ 2,034 $ 252 $ 825 $ 493 $ 4,516
Cost of sales and services 623 1,391 126 413 339 2,892
Gross profit 289 643 126 412 154 1,624
Selling, general and
administrative expenses 284 633 105 448 205 1,675
Operating income (loss) $ 5 $ 10 $ 21 $ (36) $ 51) (51)
Interest expense (income), net of
other income 8
Loss before benefit for income tax (59)
Benefit for income tax (6)
Net loss from continuing operations (53)
Net loss from
discontinued operations, net
of tax (317)
Net loss $ (370)
Accounts receivable, net $ 1,336 $ 599 $ 130 $ 611 $ 303 $ 2,979
Accounts receivable retained from
discontinued operations, net 32,584
Total accounts receivable, net $ 35,563
For the six months ended June 30, 2000: IT
ACS Synergy Staffing Stratasoft Corporate Consolidated
Total revenue $ 1,383 $ 2,884 $ 636 $ 3,645 $ 1,664 $ 10,212
Cost of sales and services 1,040 2,165 472 1,825 1,591 7,093
Gross profit 343 719 164 1,820 73 3,119
Selling, general and
administrative expenses 536 1,113 174 1,808 629 4,260
Operating income (loss) $ (193) $ (394) $ (10) $ 12 $ (556) $ (1,141)
Interest expense (income), net of
other income (35)
Income before benefit for income tax (1,106)
Benefit for income tax (367)
Net loss from continuing operations (739)
Net income from discontinued operations,
net of taxes 301
Net gain on disposal, net of taxes 4,486
Net income $ 4,048
Accounts receivable, net $ 541 $ 1,047 $ 136 $ 1,670 $ 752 $ 4,146
Accounts receivable retained from
discontinued operations, net 10,536
Total accounts receivable, net $ 14,682
For the six months ended June 30, 1999:
Total revenues $ 1,815 $ 3,998 $ 506 $ 1,595 $ 920 $ 8,834
Cost of sales and services 1,270 2,797 309 744 634 5,754
Gross profit 545 1,201 197 851 286 3,080
Selling, general and
administrative expenses 552 1,215 252 945 344 3,308
Operating loss $ (7) $ (14) $ (55) $ (94) $ (58) (228)
Interest expense (income), net of
other income 15
Loss before benefit for income tax (243)
Benefit for income tax (63)
Net loss from continuing operations (180)
Net loss from
discontinued operations, net of tax (244)
Net loss $ (424)
Accounts receivable, net $ 1,336 $ 599 $ 130 $ 611 $ 303 $ 2,979
Accounts receivable retained from
discontinued operations, net 32,584
Total accounts receivable, net $ 35,563
5. EARNINGS PER SHARE
Basic EPS excludes dilution and is computed by dividing income available to
common stockholders by the weighted-average number of common shares outstanding
for the period. Diluted EPS is based on the weighted-average number of shares
outstanding during each period and the assumed exercise of dilutive stock
options and warrants less the number of treasury shares assumed to be purchased
from the proceeds using the average market price of the Company's common stock
for each of the periods presented.
The potentially dilutive options totaling 211,660 and 266,082 shares for
the three and six months ended June 30, 2000 and 86,442 shares for the three and
six months ended June 30, 1999, respectively, calculated under the treasury
stock method, were not used in the calculation of diluted earnings per share
since the effect of potentially dilutive securities in computing a loss per
share on continuing operations is antidilutive.
There were warrants to purchase 176,750 shares of common stock for the six
months ended June 30, 2000 and 1999 which were not included in computing the
effect of dilutive securities because the inclusion would have been
antidilutive.
6. LITIGATION
On February 1, 2000, a competitor brought a suit against I-Sector
Corporation's wholly owned subsidiary Stratasoft, Inc. in the United States
District Court for the Northern District of Georgia. The plaintiff alleges
infringement of certain patents owned by the competitor and is seeking
unspecified monetary damages. Management of I-Sector believes that this suit is
without merit and intends to vigorously defend such action.
On May 16, 2000, Jack B. Corey ("Corey") filed suit against the Company in
JACK B. COREY V. ALLSTAR SYSTEMS, INC., Cause No. 2000-24796, in the District
Court of Harris County, Texas, 113th Judicial District, seeking to enjoin the
sale of its computer product division and certain other assets to Amherst
Technologies, and for unspecified damages. On Wednesday, May 17, 2000, a state
court denied Corey's Application for Temporary Restraining Order and on Monday,
May 22, 2000, a second state court denied his Application for a Temporary
Injunction and for Expedited Discovery as moot. The present pleadings lack
specificity as to Corey's claim for damages and it is unclear at this time
whether Corey will pursue such a claim. However, the Company strongly denies
that it engaged in any improper conduct with regard to the sale of its assets
and intends to vigorously defend any claim that might be pursued by Corey.
I-Sector is party to litigation and claims which management believes are
normal in the course of its operations; while the results of such litigation and
claims cannot be predicted with certainty, I-Sector believes the final outcome
of such matters will not have a materially adverse effect on its results of
operations or financial position.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATION
I-SECTOR CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion is qualified in its entirety by, and should be
read in conjunction with, the Company's consolidated financial statements,
including the notes thereto included elsewhere in this Form 10-Q and the
Company's Form 10-K, previously filed with the Securities and Exchange
Commission.
Overview
I-Sector Corporation ("I-Sector") has historically been engaged in the
business of providing its customers with solutions to their information and
communications technology needs. Historically, our revenue was derived through
four primary areas of business, IT Services, CTI Software, Computer Products and
Telecom Systems, each of which have historically been reported as a segment. We
recently sold our Telecom Systems and Computer Products businesses. After the
sale of these businesses, we separated what was the IT Services business into
three separate businesses, each of which is a wholly owned subsidiary
corporation. One of these subsidiary companies is IT Staffing, Inc. ("IT
Staffing"), which had already been operated as a wholly owned subsidiary. We
contributed the remaining components of the former IT Services business to two
newly formed wholly owned corporations, Allstar Computer Services, Inc. ("ACS")
and Synergy Helpdesk Solutions, Inc. ("Synergy"). Our CTI Software business was
not affected by the recent sale of the Computer Products and Telecom Systems
business units, however we are now referring to this segment by its corporate
name, "Stratasoft" rather than "CTI Software" as we have in the past. We market
our services businesses in Texas from four locations in the Houston, Dallas-Fort
Worth, Austin and San Antonio metropolitan areas. Stratasoft markets its
products worldwide through a direct sales force and an authorized dealer
network.
Recent Developments
On March 16, 2000 we entered into separate agreements whereby (i) we sold
certain key assets of, and the ongoing business operations of, our Telecom
Systems business and (ii) we agreed to sell the ongoing business operations of
our Computer Products business, together with certain key assets of our IT
Services business located in El Paso, Texas. We retained accounts receivable
related to the businesses that were sold. The sale of Computer Products closed
on May 19, 2000. A disposal loss (net of taxes), including an estimate of the
operating results from the measurement date, November 2, 1999 to the closing
date of the sale of Telecom Systems was recognized at December 31, 1999. A gain
on disposal of the Computer Products Division has been recognized as of March
31, 2000. We retained the other assets of our IT Services business, which
provides a variety of services related to the use of information technology,
and, as discussed above, contributed those assets to newly formed wholly owned
subsidiaries. By operating through these highly focused wholly owned
subsidiaries, we believe that we will offer better customer service and improve
our financial performance. We also retained our Stratasoft business, which
develops and markets telecommunications software. During the quarter ended June
30, 2000, Stratasoft produced 27.7% of total revenues while ACS, Synergy and IT
Staffing contributed 15.5%, 31.3% and 7.5% of revenues, respectively. Our
Corporate segment, which includes operations that are not on-going because of
the sale of the Computer Products Division, comprised the remaining 18.0% of
revenues.
We believe the sale of our Computer Products Division provides sufficient
cash to initiate a fundamental change in our business strategy that will allow
us to deploy our liquid capital in endeavors that we believe will ultimately
result in improved stockholder value. We believe we will produce more rapid
growth, and better financial performance, by separating our various information
technology services into focused, specialized companies with each led by a
separate management team with personal financial incentives tied to their
company's financial performance. Additionally, we plan to continue to expand our
Stratasoft business through our wholly owned subsidiary, Stratasoft, Inc.
We also intend to pursue starting, acquiring or investing in, including
taking significant stakes in, other companies that we expect to benefit from the
manner in which the Internet is changing commerce and communications. Targeted
businesses are expected to include B2B E-Commerce product or services sales
companies, companies providing IT services related to network, Web development
and other Internet related IT services, and companies involved in the enabling
of E-Commerce and E-Business.
ACS will provide customers with on-site and carry-in computer repair,
application support and operating system and network migration services. Synergy
will provide customers with turnkey outsourced IT helpdesk solutions, technical
staff augmentation for IT helpdesk operations and helpdesk solutions consulting
services. IT Staffing will continue its established business placing IT
professionals on temporary assignments and permanent placements. In July 2000 we
also formed an additional wholly owned subsidiary, Internetworking Sciences
Corporation ("INS") that, will focus on the design, deployment and support of
networking infrastructure. INS will focus on customers that have large-scale
network infrastructure requirements that are Cisco centric. The areas of
practice for INS include network design, implementation, turnkey support,
security audits and firewall design, network infrastructure management and
network infrastructure consulting services.
Our ability to attract and retain qualified professional and technical
personnel is critical to the success of all of our services businesses. The most
significant portion of the costs associated with the delivery of services is
personnel costs. Therefore, in order to be successful, our billable rates must
be in excess of the personnel costs and our margin is dependent upon maintaining
high utilization of our service personnel. In addition, the competition for high
quality personnel has generally intensified, causing both our and other service
provider's personnel costs to increase. In markets where we do not maintain
branch offices, we often subcontract for necessary technical personnel.
Our cost of services for each of our service businesses is primarily
comprised of labor. Labor has a more fixed nature such that higher levels of
service revenues produce higher gross margin while lower levels of service
revenues produce less gross margin. Management of labor cost is important in
order to prevent erosion of gross margins.
Stratasoft develops and markets proprietary software that integrates
business telephone systems and networked computer systems. Stratasoft's basic
products are typically customized to suit a customer's particular needs and are
sometimes bundled with computer hardware supplied by us at the customer's
request. Stratasoft products include software for call center management, both
in-bound and out-bound, as well as interactive voice response software.
A significant portion of our selling, general and administrative expenses
in all of our businesses relate to personnel costs, some of which are variable
and others of which are relatively fixed. Our variable personnel costs are
substantially comprised of sales commissions, which are typically calculated
based upon our gross profit on a particular sales transaction and thus generally
fluctuate with our overall gross profit. The remainder of selling, general and
administrative expenses are relatively more fixed and, while still somewhat
variable, do not vary with increases in revenue as directly as do sales
commissions.
Sale Of Computer Products Division
As discussed above we entered into an agreement on March 16, 2000, whereby
we sold certain key assets of, and the ongoing business operations of, our
Computer Products business. The sale transaction closed on May 19, 2000 after
stockholder approval was obtained and other conditions to closing were
satisfied. The terms of the agreement included cash consideration of $16.4
million, plus the possibility of receiving a future payment of up to $500,000
from an escrow account. The terms of the agreement also include possible future
cash payments contingent upon future performance of the operations being sold.
We recognized a gain of approximately $4.5 million, net of taxes, on the sale.
Special notice regarding forward-looking statements
This quarterly report on Form 10-Q contains forward-looking statements
within the meaning of the Private Securities Litigation Reform Act of 1995
relating to future events or our future financial performance including, but not
limited to, statements contained in Item 2. - "Management's Discussion and
Analysis of Financial Condition and Results of Operations." Readers are
cautioned that any statement that is not a statement of historical fact,
including but not limited to, statements which may be identified by words
including, but not limited to, "anticipate," "appear," "believe," "could,"
"estimate," "expect," "hope," "indicate," "intend," "likely," "may," "might,"
"plan," "potential," "seek," "should," "will," "would," and other variations or
negative expressions thereof, are predictions or estimations and are subject to
known and unknown risks and uncertainties. Numerous factors, including factors
which we have little or no control over, may affect the company's actual results
and may cause actual results to differ materially from those expressed in the
forward-looking statements contained herein. In evaluating such statements,
readers should consider the various factors identified in the company's annual
report on Form 10-K, as filed with the Securities and Exchange Commission
including matters set forth in Item 1.- "Factors Which May Affect The Future
Results Of Operations," which could cause actual events, performance or results
to differ materially from those indicated by such statements.
Three Months Ended June 30, 2000 Compared To Three Months Ended June 30, 1999
(Dollars in thousands)
The following table sets forth, for the periods indicated, certain
financial data derived from our unaudited consolidated statements of operations
for the three months ended June 30, 2000 and 1999. The discussion below relates
only to our continuing operations, unless otherwise noted.
Three months ended June 30,
2000 1999
Amount % Amount %
Revenue
ACS $ 656 15.5 $ 912 20.2
Synergy 1,323 31.3 2,034 45.0
IT Staffing 315 7.5 252 5.6
Stratasoft 1,172 27.7 825 18.3
Corporate 762 18.0 493 10.9
Total revenue 4,228 100.0 4,516 100.0
Gross profit (loss):
ACS 125 19.1 289 31.7
Synergy 253 19.1 643 31.6
IT Staffing 84 26.7 126 50.0
Stratasoft 498 42.5 412 49.9
Corporate (226) (29.7) 154 31.2
Total gross profit 734 17.4 1,624 36.0
Selling, general and administrative
expenses:
ACS 279 42.5 284 31.1
Synergy 562 42.5 633 31.1
IT Staffing 70 22.2 105 41.7
Stratasoft 747 63.7 448 54.3
Corporate 293 38.5 205 41.6
Total selling, general and
administrative Expenses 1,951 46.1 1,675 37.1
Operating income (loss):
ACS (154) (23.5) 5 0.5
Synergy (309) (23.4) 10 0.5
IT Staffing 14 4.4 21 8.3
Stratasoft (249) (21.2) (36) (4.4)
Corporate (519) (68.1) (51) (10.3)
Total operating loss (1,217) (28.8) (51) (1.1)
Interest expense (income) net of
other income (50) (1.2) 8 0.2
Loss before benefit for income taxes (1,167) (27.6) (59) (1.3)
Benefit for income taxes (386) (9.1) (6) (0.1)
Net loss from continuing operations (781) (18.5) (53) (1.2)
Discontinued operations:
Net loss from discontinued operations (317) (7.0)
Loss on disposal (387) (9.1) 0 0.0
Net loss $(1,168) (27.6) $ (370) (8.2)
TOTAL REVENUE. Total revenue decreased by $288 (6.4%) to $4,228 in 2000
from $4,516 in 1999.
ACS revenue decreased by $256 (28.1%) to $656 in 2000 from $912 in 1999. As
a percentage of total revenue ACS revenue decreased to 15.5% in 2000 from 20.2%
in 1999. The decrease in ACS revenues was primarily attributable to issues
related to the separation of our former IT Services division from the Computer
Products Division which was sold recently and the reorganization of the IT
Services Division into two newly formed corporations, one of which is ACS.
As the reorganization efforts subside during the remainder of the year, the
focus of ACS will progressively shift towards the selling of services to produce
revenue growth.
Synergy revenue decreased by $711 (35.0%) to $1,323 in 2000 from $2,034 in
1999. As a percentage of total revenue Synergy revenue decreased to 31.3% in
2000 from 45.0% in 1999. Like ACS, Synergy's efforts during the quarter ended
June 30, 2000 were on reorganization and the segregation of the IT Services
division into two newly formed corporations, one of which is Synergy. As the
reorganization efforts subside during the remainder of the year, the focus of
Synergy will progressively shift towards the selling of services to produce
revenue growth.
IT Staffing revenue increased by $63 (25.0%) to $315 in 2000 from $252 in
1999. As a percentage of total revenue IT Staffing revenue increased to 7.5% in
2000 from 5.6% in 1999. Of the various components of our former IT Services
division, IT Staffing's revenue was least affected by the sale of the Computer
Products Division. A new CEO was recently hired to lead IT Staffing, who is
intensifying both selling and recruiting efforts in anticipation of increasing
the revenue growth through the remainder of the year.
Stratasoft revenue increased by $347 (42.1%) to $1,172 in 2000 from $825 in
1999. The increase in Stratasoft revenues was due to better recognition of
Stratasoft products in the market place, the expansion of the sales staff and
dealer network and to increased advertising and marketing efforts. Stratasoft,
as a percentage of total revenue, increased to 27.7% in 2000 from 18.3% in 1999.
The Corporate segment includes operations which are not on-going because of
the sale of the Computer Products Division and includes the loss of installation
revenues that were related to a certain customer of our Computer Products
Division and the accompanying sale of the service business for the El Paso
branch office. As these operations have ceased or are winding up we expect an
insignificant amount of revenue in the quarter ending September 30, 2000.
Corporate revenue increased by $269 (54.6%) to $762 in 2000 from $493 in 1999.
As a percentage of total revenue Corporate revenue increased to 18.0% in 2000
from 10.9% in 1999. The El Paso branch office service business had revenues of
$230 and $464 in the quarters ended June 30, 2000 and 1999, respectively. The El
Paso service business has been included in the Corporate segment of the
continuing operations for the quarter ended June 30, 2000 through the date of
the sale of these assets which occurred on May 19, 2000. Installation revenues
for the certain customer of the Computer Products Division (also discontinued
effective May 19, 2000) contributed revenues of $532 and $29 in the quarters
ended June 30, 2000 and 1999, respectively.
GROSS PROFIT. Gross profit decreased by $890 (54.8%) to $734 in 2000 from
$1,624 in 1999. Gross margin decreased to 17.4% in 2000 from 36.0% in 1999.
ACS gross profit decreased by $164 (56.7%) to $125 in 2000 from $289 in
1999 as revenues decreased by 28.1%. Gross margin for ACS decreased to 19.1% in
2000 from 31.7% in 2000. ACS' cost of service consists primarily of labor cost.
Labor has a more fixed nature such that higher levels of service revenues
produce higher levels of gross margin while lower levels of service revenues
produce lower gross margin. In periods when service revenues decrease, it
becomes more important to manage labor cost in order to prevent erosion of gross
margin. Because ACS was internally focused due to the reorganization, we were
not focused on maximizing gross margin through selling services or by the
reduction of labor cost. In addition, gross profit was impacted by increased
employee benefit costs for technical staff related to changing from a partially
self-funded health insurance plan to a fully funded plan. During the remainder
of 2000, with reorganization efforts completed, the focus of ACS will turn to
selling service and managing labor in order to increase gross profit.
Synergy's gross profit decreased by $390 (60.6%) to $253 in 2000 from $643
in 1999 as revenues decreased by 35.0%. Gross margin decreased to 19.1% in 2000
from 31.6% in 1999. As with ASC our cost of service is labor intensive. Labor
has a more fixed nature such that higher levels of service revenues produce
higher gross margin while lower levels of service revenues produce less gross
margin. In periods when service revenues decrease, it becomes more important to
manage labor cost in order to prevent erosion of gross margin. Because Synergy
was internally focused due to the reorganization, we were not focused on
maximizing gross margin through selling services or by the reduction of labor
cost. In addition, gross profit was impacted by increased employee benefit costs
for technical staff related to changing from a partially self-funded health
insurance plan to a fully funded plan. During the remainder of 2000, with
reorganization efforts completed, the focus of Synergy will turn to selling
service and managing labor in order to increase gross profit.
IT Staffing's gross profit decreased by $42 (33.3%) to $84 in 2000 from
$126 in 1999 as revenues increased by 25.0%. Gross margin decreased to 26.7% in
2000 from 50.0% in 1999. The decrease in gross profit and gross margin was
primarily due to a contract with a major customer that limits the rates for such
customer. Additionally, in the same quarter of 1999 IT Staffing realized higher
levels of higher margin placement fees for permanent placements than in 2000. We
undertook a significant restructuring of the management team of IT Staffing
during the quarter, resulting in a new CEO being hired late in June 2000. Such
management restructuring caused a lack of focus on sales and marketing during
the quarter. In addition, gross profit was impacted by increased employee
benefit costs for technical staff related to changing from a partially
self-funded health insurance plan to a fully funded plan. The new CEO is
currently replacing the recruiting staff and is increasing sales and marketing
efforts such that we expect improved results from IT Staffing during the
remainder of 2000.
Stratasoft gross profit increased by $86 (20.9%) to $498 in 2000 from $412
in 1999. Gross margin for Stratasoft decreased to 42.5% in 2000 from 49.9% in
1999. The decreased gross margins were primarily due to higher product cost on
sales because of upgrading the quality of hardware product used, along with
increased travel costs for technicians traveling internationally for project
installations. Gross margin was also negatively impacted by the mix of sales,
with a higher proportion of total systems sales, which include a hardware
component, as compared to software only sales, which do not have a hardware cost
of goods component. In addition, gross profit was impacted by increased employee
benefit costs for technical staff related to changing from a partially
self-funded health insurance plan to a fully funded plan.
Corporate's gross profit decreased by $380 (246.8%) to a loss of $226 in
2000 from a gross profit of $154 in 1999 as revenues increased by 54.6%. Gross
margin decreased to (29.7%) in 2000 from 31.2% in 1999. The El Paso service
business that was sold on May 19, 2000 produced gross loss of $183 in 2000 as
compared to a gross profit of $139 in the same quarter in 1999. We experienced
certain costs related to winding up our service operations in the El Paso branch
office that negatively impacted gross profit. In addition, this service
operation lost focus in the service business when the announcement was made on
March 16, 2000 that it was being sold along with the Computer Products Division
and this lack of focus negatively impacted services revenues without a
corresponding reduction of cost of service, which reduced gross profit. The El
Paso service business' gross profit was also impacted by the same costs of
changing from a partially self-funded employee health insurance plan to a fully
funded plan. Augmenting those results the gross margin on installations for the
customer that was lost in the Computer Products Division sale produced a gross
loss of $43 in 2000 as compared to a gross profit of $15 in 1999.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses increased by $276 (16.5%) to $1,951 in 2000 from $1,675
in 1999. As a percentage of revenue, these expenses increased by 9%, to 46.1% of
revenue in 2000 from 37.1% of revenue in 1999. The increase in selling, general
and administrative expenses as a percentage of revenue was primarily due to
increased legal expenses relating to litigation, higher sales compensation,
increased travel expenses and increased administrative compensation for
Stratasoft. ACS, Synergy and IT Staffing all experienced reductions in selling,
general and administrative expenses in 2000 as compared to the same quarter of
1999 primarily due to decreased recruiting staff and management salaries for IT
Staffing along with reduced sales compensation for ACS and Synergy. We expect
that selling, general and administrative expenses for IT Staffing will increase
from the hiring of a new CEO and from expected increases in recruiting staff. We
had consolidated the sales staff for the service companies and the Computer
Products Division in 1998. With the sale of the Computer Products Division our
sales staff that had been selling service was eliminated, necessitating a
rebuilding of the sales staff for ACS and Synergy. Corporate's selling, general
and administrative expenses were $88 higher in 2000 than in 1999 due to
increased administrative and collection efforts and on the winding up of the
installations for the customer mentioned under Corporate revenues above.
Consolidated selling, general and administrative expenses were also
approximately $132 higher in the three month period of 2000 as compared to the
same period of 1999 due to costs related to changing our employee health
insurance plan from a partially self-funded plan to a fully funded plan. In
addition, we experienced higher than expected costs related to finishing
projects that were not transferred in the sale of the Computer Products
Division. Bad debt expense, on a consolidated basis, was $67 higher in the three
month period of 2000 as compared to the same period of 1999 due to charge-offs
and reserve changes.
OPERATING LOSS FROM CONTINUING OPERATIONS. Our operating loss increased by
$1,166 (2,286.0%) to a loss of $1,217 in 2000 from $51 in 1999 due, principally,
to the decrease in Corporate's gross profit of $380, Synergy's gross profit
reduction of $390 and of Stratasoft's increase in selling, general and
administrative expense of $299.
INTEREST EXPENSE (INCOME), NET OF OTHER INCOME. Interest expense, net of
other income, decreased by $58 to $(50) in 2000 compared to $8 in 1999,
primarily due to the reduction of notes payable and investment of available
cash.
DISCONTINUED OPERATIONS. On November 2, 1999 we approved a plan to sell or
close our Telecom Systems Division. A sale of certain assets of the division and
its ongoing operations closed on March 16, 2000. As a consequence of these
events, the operations of Telecom Systems are reported as discontinued
operations. The loss on discontinued operations related to Telecom Systems in
the quarter ended June 30, 1999 was $387, net of a tax benefit of $194.
On March 16, 2000 we entered into an agreement to sell certain assets of,
and the ongoing operation of, our Computer Products Division. The sale
transaction closed on May 19, 2000. As a consequence of these events, the
operations of Computer Products are reported as discontinued operations. The
sale transaction was reported in the quarter ended March 31, 2000. For the
quarter ended June 30, 2000 the company experienced a loss on disposal of $387
(net of taxes of $199) related to the transaction. The loss on discontinued
operations related to Computer Products in the quarter ended June 30, 1999 was
$317, net of taxes of $163.
NET LOSS. Net loss on continuing operations, after a benefit for income
taxes totaling $386 (reflecting an effective tax rate of 33.1% in 2000 compared
to 5.1% in 1999), increased by $728 to $781 in 2000 compared to a loss of $53 in
1999. The Company also had a net loss from discontinued operations of $317, net
of taxes of $163, in the quarter ended June 30, 1999. Additionally, a loss on
disposal of $387, net of taxes of $199 was recognized in the quarter ended June
30, 2000.
Six Months Ended June 30, 2000 Compared To Three Months Ended June 30, 1999
(Dollars in thousands)
The following table sets forth, for the periods indicated, certain
financial data derived from our unaudited consolidated statements of operations
for the six months ended June 30, 2000 and 1999. Likewise the discussion below
relates only to our continuing operations, unless otherwise noted.
Six months ended June 30,
2000 1999
Amount % Amount %
Revenue
ACS $ 1,383 13.5 $ 1,815 20.5
Synergy 2,884 28.3 3,998 45.3
IT Staffing 636 6.2 506 5.7
Stratasoft 3,645 35.7 1,595 18.1
Corporate 1,664 16.3 920 10.4
Total revenue 10,212 100.0 8,834 100.0
Gross profit:
ACS 343 24.8 545 30.0
Synergy 719 24.9 1,201 30.0
IT Staffing 164 25.8 197 38.9
Stratasoft 1,820 49.9 851 53.4
Corporate 73 4.4 286 31.1
Total gross profit 3,119 30.5 3,080 34.9
Selling, general and administrative
expenses:
ACS 536 38.8 552 30.4
Synergy 1,113 38.6 1,215 30.4
IT Staffing 174 27.4 252 49.8
Stratasoft 1,808 49.6 945 59.2
Corporate 629 37.8 344 37.4
Total selling, general and
administrative Expenses 4,260 41.7 3,308 37.4
Operating income (loss):
ACS (193) (14.0) (7) (0.4)
Synergy (394) (13.7) (14) (0.4)
IT Staffing (10) (1.6) (55) (10.9)
Stratasoft 12 0.3 (94) (5.9)
Corporate (556) (33.4) (58) (6.3)
Total operating loss (1,141) (11.1) (228) (2.5)
Interest expense, net of interest income (35) (0.3) 18 0.2
Loss before benefit for income taxes (1,106) (10.8) (243) (2.7)
Benefit for income taxes (367) (3.6) (63) (0.7)
Net loss from continuing operations (739) (7.2) (180) (2.0)
Discontinued operations:
Net income (loss) from discontinued operations 301 2.9 (244) (2.8)
Gain on disposal 4,486 43.9 0 0.0
Net income (loss) $ 4,048 39.6 $ (424) (4.8)
TOTAL REVENUE. Total revenue increased by $1,378 (15.6%) to $10,212 in 2000
from $8,834 in 1999.
ACS revenue decreased by $432 (23.8%) to $1,383 in 2000 from $1,815 in
1999. As a percentage of total revenue ACS revenue decreased to 13.5% in 2000
from 20.5% in 1999. The decrease in ACS revenues was attributable to the
reorganization of the IT Service Division into two newly formed corporations,
one of which is ACS, in the quarter ended June 30, 2000. Those reorganization
efforts spanned the entire first six months of 2000. As the reorganization
efforts subside during the remainder of the year, the focus of ACS will
progressively shift towards the selling of services to produce revenue growth.
Synergy revenue decreased by $1,114 (27.9%) to $2,884 in 2000 from $3,998
in 1999. As a percentage of total revenue Synergy revenue decreased to 28.3% in
2000 from 45.3% in 1999. Like ACS, Synergy's efforts during the six months ended
June 30, 2000 were on reorganization and the break up of the IT Services
Division into two newly formed corporations, one of which is Synergy. As the
reorganization efforts subside during the remainder of the year, the focus of
Synergy will progressively shift towards the selling of services to produce
revenue growth.
IT Staffing revenue increased by $130 (25.6%) to $636 in 2000 from $506 in
1999. As a percentage of total revenue IT Staffing revenue increased to 6.2% in
2000 from 5.7% in 1999. IT Staffing revenues were least affected by the sale of
the Computer Products Division. A new CEO has been hired for this division who
is intensifying both selling and recruiting efforts in anticipation of
increasing the revenue growth through the remainder of the year.
Stratasoft revenue increased by $2,050 (128.5%) to $3,645 in 2000 from
$1,595 in 1999. The increase in Stratasoft revenues was due to both better
recognition of Stratasoft products in the market place, to the expansion of the
sales staff and dealer network, and to increased advertising and marketing
efforts. Stratasoft, as a percentage of total revenue, increased to 35.7% in
2000 from 18.1% in 1999.
The Corporate segment includes operations which are not on-going because of
the sale of the Computer Products Division and includes the loss of installation
revenues that were related to a certain customer of our Computer Products
Division and the accompanying sale of the service business for the El Paso
branch office. As these operations have ceased or are winding up we expect an
insignificant amount of revenue in the quarter ending September 30, 2000.
Corporate revenue increased by $744 (80.9%) to $1,664 in 2000 from $920 in 1999.
As a percentage of total revenue Corporate revenue increased to 16.3% in 2000
from 10.4% in 1999. The El Paso branch office service business had revenues of
$941and $888 in the six months ended June 30, 2000 and 1999, respectively. The
El Paso service business has been included in the Corporate segment of the
continuing operations for the quarter ended June 30, 2000 through the sale of
these assets which occurred on May 19, 2000. Installation revenues for the
certain customer of the Computer Products Division (also discontinued effective
May 19, 2000) contributed revenues of $723 and $32 in the six months ended June
30, 2000 and 1999, respectively.
GROSS PROFIT. Gross profit increased by $39 (1.3%) to $3,119 in 2000 from
$3,080 in 1999. Gross margin decreased to 30.5% in 2000 from 34.9% in 1999.
ACS gross profit decreased by $202 (37.0%) to $343 in 2000 from $545 in
1999 as revenues decreased by 23.8%. ACS' cost of service is labor intensive.
Labor has a more fixed nature such that higher levels of service revenues
produce higher levels of gross margin while lower levels of service revenues
produce lower gross margin. In periods when service revenues decrease, it
becomes more important to manage labor cost in order to prevent erosion of gross
margin. Because ACS was internally focused due to the reorganization, we were
not focused on maximizing gross margin through selling services or by reducing
labor cost. In addition, gross profit was impacted by increased employee benefit
costs for technical staff related to changing from a partially self-funded
health insurance plan to a fully funded plan. During the remainder of 2000, with
reorganization efforts completed, the focus of ACS will turn to selling service
and managing labor in order to increase gross profit.
Synergy's gross profit decreased by $482 (40.1%) to $719 in 2000 from
$1,201 in 1999 as revenues decreased by 27.9%. As with ASC, our cost of service
is labor intensive. Labor has a more fixed nature such that higher levels of
service revenues produce higher gross margin while lower levels of service
revenues produce less gross margin. In periods when service revenues decrease,
it becomes more important for management of labor cost in order to prevent
erosion of gross margin. Because Synergy was internally focused due to the
reorganization, we were not focused on maximizing gross margin through selling
services or by reducing labor cost. In addition, gross profit was impacted by
increased employee benefit costs for technical staff related to changing from a
partially self-funded health insurance plan to a fully funded plan. During the
remainder of 2000, with reorganization efforts completed, the focus of Synergy
will turn to selling service and managing labor in order to increase gross
profit.
IT Staffing's gross profit decreased by $33 (16.8%) to $164 in 2000 from
$197 in 1999 as revenues increased by 25.6%. The decrease in gross profit is
primarily due to a contract with a major customer, which limits the rates for
that particular customer. Additionally, in the same quarter of 1999 IT Staffing
realized higher levels of higher margin placement fees for permanent placements
than in 2000. We undertook a significant restructuring of the management team of
IT Staffing during the quarter, resulting in a new CEO being hired late in June
2000. Such management restructuring caused a lack of focus on sales and
marketing during the quarter. In addition, gross profit was impacted by
increased employee benefit costs for technical staff related to changing from a
partially self-funded plan to a fully funded plan. The new CEO is currently
replacing the recruiting staff and is increasing sales and marketing efforts
such that we expect improved results from IT Staffing during the remainder of
2000.
Stratasoft gross profit increased by $969 (113.9%) to $1,820 in 2000 from
$851 in 1999. Gross margin for Stratasoft decreased to 49.9% in 2000 from 53.4%
in 1999 but were in line with expectations for this business. The decreased
gross margins were primarily due to higher product cost on sales because of
upgrading the quality of hardware product used, along with increased travel
costs for technicians traveling internationally for project installations. Gross
margin was also negatively impacted by the mix of sales, with a higher
proportion of total systems sales, which include a hardware component, as
compared to software only sales, which do not have a hardware cost of goods
component.
Corporate's gross profit decreased by $213 (74.4%) to $73 in 2000 from $286
in 1999 as revenues increased by 80.9%. Corporate's gross margin decreased to
4.4% in 2000 from 31.1% in 1999. The El Paso service business, which was sold on
May 19, 2000, produced a gross loss of $26 in 2000 as compared to a gross profit
of $268 in the same six months in 1999, a decrease in profits of $294. We
experienced certain costs related to winding up our service operations in the El
Paso branch office that negatively impacted gross profit. In addition, this
service operation lost focus in the service business when the announcement was
made on March 16, 2000 that it was being sold along with the Computer Products
Division and this lack of focus negatively impacted services revenues without a
corresponding reduction of cost of service, which reduced gross profit. The El
Paso service business' gross profit was also impacted by the same costs of
changing from a partially self-funded employee health insurance plan to a fully
funded plan. Augmenting those results the gross margin on installations for the
customer that was lost in the Computer Products Division sale produced gross
profit of $99 in 2000 as compared to $18 in 1999.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses increased by $952 (28.8%) to $4,260 in 2000 from $3,308
in 1999. As a percentage of revenue, these expenses increased by 4.3%, to 41.7%
of revenue in 2000 from 37.4% of revenue in 1999. The increase in selling,
general and administrative expenses as a percentage of revenue was primarily due
to increased legal expenses relating to litigation, higher sales compensation
due to increased sales staff, increased travel expenses and increased
administrative compensation for Stratasoft. Selling, general and administrative
expenses for ACS, Synergy and IT Staffing are lower in 2000 than in the same
six-month period of 1999 primarily due to reorganization of the management and
administrative staffs. We expect that selling, general and administrative
expenses for IT Staffing will increase from the hiring of a new CEO and from
expected increases in recruiting staff. Selling, general and administrative
expenses for the Corporate segment increased by $285 (82.8%) to $629 in 2000 as
compared to $344 in the same six month period of 1999 primarily because of the
administrative costs associated with billing and collecting of the installation
revenues to wind up services for the customer lost in the sale of the Computer
Products Division. Consolidated selling, general and administrative expenses
were also $132 higher in the six month period of 2000 as compared to the same
period of 1999 due to costs related to changing our employee health insurance
plan from a partially self-funded plan to a fully funded plan. Bad debt expense,
on a consolidated basis, was $22 higher in the six month period of 2000 as
compared to the same period of 1999 due to charge-offs and reserve changes
OPERATING LOSS FROM CONTINUING OPERATIONS. Our operating income increased
by $913 (400.4%) to $1,141 in 2000 from $228 in 1999 due, principally, to losses
experienced of $558 in 2000 in the Corporate segment attributable to the loss of
focus of the El Service business that was sold in May 19, 2000. Additionally,
Synergy experienced a loss in the six-month period of $394 in 2000 as compared
to $15 in the same period of 1999 due to reduced revenues and gross profit while
being internally focused on reorganization. ACS experienced the same type of
losses, $193 in 2000 as compared to $7 in the same six-month period of 1999 for
the same reasons as Synergy. These operating losses were offset by operating
income of Stratasoft of $12 in 2000 as compared to a loss of $94 in 1999, an
increase of $106 attributable primarily to an increase in revenues and gross
profit.
INTEREST EXPENSE (INCOME), NET OF OTHER INCOME. Interest expense (income),
net of other income, decreased by $53 to $(35) in 2000 compared to $18 in 1999.
The decrease in expense is attributable to both the reduction of notes payable
subsequent to the sale of the Computer Products Division and the investment of
available cash.
DISCONTINUED OPERATIONS. On November 2, 1999 we approved a plan to sell or
close our Telecom Systems Division. A sale of certain assets of the division and
its ongoing operations closed on March 16, 2000. As a consequence of these
events, the operations of Telecom Systems are reported as discontinued
operations. The company experienced a loss on disposal of $218 (net of taxes of
$112) in the six months ended June 30, 2000 from this discontinued operation.
The loss on discontinued operations related to Telecom Systems in the six months
ended June 30, 1999 was $406, net of a tax benefit of $209.
On March 16, 2000 we entered into an agreement to sell certain assets of,
and the ongoing operation of, our Computer Products Division. The sale
transaction closed on May 19, 2000. As a consequence of these events, the
operations of Computer Products are reported as discontinued operations. For the
six months ended June 30, 2000 the company experienced net income on the
discontinued operations of the Computer Products Division of $301 (net of taxes
of $156) In addition, we experienced a gain on disposal of $4,704 (net of taxes
of $2,426) related to the transaction. The income from discontinued operations
related to Computer Products in the six months ended June 30, 1999 was $162, net
of taxes of $83.
NET INCOME. Net income increased $4,472 to $4,048 in 2000 as compared to a
loss of $424 for the same six-month period in 1999. Net loss on continuing
operations, after a benefit for income taxes totaling $367 (reflecting an
effective tax rate of 33.2% in 2000 compared to 25.9% in 1999), decreased by
$559 to a loss of $739 in 2000 compared to a loss of $180 in 1999. Additionally,
a gain on disposal of $4,486, net of taxes of $2,313 was recognized in the six
months ended June 30, 2000.
Liquidity and Capital Resources
Our working capital was $14,733 and $9,567 at June 30, 2000 and December
31, 1999, respectively. As of June 30, 2000, we had outstanding borrowings of
$2,196 and we had excess available borrowing base of $6,894under our Deutsche
Financial Services credit facility. We used the proceeds from the sale of our
Computer Products Division and certain assets of IT services business located in
El Paso, Texas to repay $9,300 in debt, which represented all of our secured
debt, to Deutsche Financial Services ("DFS"). We expect to satisfy our capital
requirements from our existing cash balances, collection of our accounts
receivables and borrowings under our credit facilities.
Cash Flow
Operating activities provided net cash totaling $18,301 during the six
months ended June 30, 2000. Operating activities provided net cash during the
period primarily because of cash provided by a decrease in accounts receivable
($23,044) as well as proceeds from the sale of the Computer Products Division of
($16,161) offset by a decrease in accounts payable ($17,059) and accrued
expenses ($1,774). The decrease in accounts payable was primarily the result of
normal payment of payables, which had swelled due to the higher level of sales
in the fourth quarter of 1999. The decrease in accrued liabilities results from
lower accruals for personnel costs resulting from the sale of the Computer
Products Division. The decrease in accounts receivable was primarily the result
of lower sales and ultimately a ceasing of sales in our discontinued Computer
Product Division and an increased emphasis on collections thereafter.
Investing activities provided cash totaling $190 during the six months
ended June 30, 2000 consisted of proceeds of the sale of fixed assets related to
the sale of the Computer Products Division offset by capital expenditures.
Financing activities used cash totaling $15,883 primarily because
borrowings were reduced under our credit facility during the six months ended
June 30, 2000.
Asset Management
We had accounts receivable, net of allowance for doubtful accounts, of
$14,682 at June 30, 2000. The number of days' sales outstanding in accounts
receivable from our continuing operations was 63.48 days, which is higher than
the 60 days outstanding at December 31, 1999. The number of days outstanding in
accounts receivable retained from our discontinued operations was 75.03 days as
calculated based on the sales for the discontinued operations. The number of
days outstanding for both the continuing and discontinued operations has
increased because of a slowdown of collections from a large customer. Bad debt
expense as a percentage of total revenue was 3.5% and 0.3% for the six months
ended June 30, 2000 and 1999. Our allowance for doubtful accounts, as a
percentage of accounts receivable, was 22.5% at June 30, 2000 and 1.0% at
December 31, 1999.
Current Debt Obligations
Historically, we have satisfied our cash requirements principally through
borrowings under our lines of credit and through operations. We maintain a cash
position sufficient to pay due obligations and expenses. Should the amount of
cash available fall below our immediate needs, we request advances under a
credit facility provided by the DFS facility.
On May 19, 2000, the day we closed the sale of our Computer Product
Division, we amended our DFS Facility to decrease the total credit available
under the facility from $30,000 to $10,000 subject to borrowing base limitations
that are generally computed as a percentage of various classes of eligible
accounts receivable and qualifying inventory. Credit available under the DFS
Facility for floor plan financing of inventory from approved manufacturers (the
"Inventory Line") is $5,000. Available credit under the DFS Facility, net of
Inventory Line advances, is $5,000, which is used primarily to carry accounts
receivable and for other working capital and general corporate purposes (the
"Accounts Line"). Borrowings under the Accounts Line bear interest at the
fluctuating prime rate minus 1.0% per annum. Under the Inventory Line, DFS pays
our inventory vendors directly, generally in exchange for negotiated financial
incentives. Typically, the financial incentives received are such that DFS does
not charge us interest until 40 days after the transaction is financed, at which
time we are required to either pay the full invoice amount of the inventory
purchased from corporate funds or to borrow under the Accounts Line for the
amount due to DFS. Inventory Line advances not paid within 40 days after the
financing date bear interest at the fluctuating prime rate plus 5.0%. For
purposes of calculating interest charges the minimum prime rate under the New
DFS Facility is 7.0%.
The DFS Facility is collateralized by a security interest in substantially
all of our assets, including our accounts receivable, inventory, equipment and
bank accounts. Collections of our accounts receivable are required to be applied
through a lockbox arrangement to repay indebtedness to DFS; however, DFS has
amended the lockbox agreement to make such arrangements contingent upon certain
financial ratios. Provided we are in compliance with its debt to tangible net
worth covenant, we have discretion over the use and application of the funds
collected in the lockbox. If we exceed that financial ratio, DFS may require
that lockbox payments be applied to reduce our indebtedness to DFS. If in the
future DFS requires that all lockbox payments be applied to reduce our
indebtedness, we would be required to seek funding from DFS or other sources to
meet substantially all of our cash needs.
Under the DFS Facility we are required to maintain (i) a tangible net worth
of $10,000, defined under the agreement as book value of assets (excluding
intangibles such as receivables from officers, directors, employees,
stockholders and affiliates, net leasehold improvements, goodwill, prepaid
expenses, franchise fees and other similar items) less liabilities (ii) a ratio
of debt minus subordinated debt to tangible net worth of 4 to 1 and (iii) a
ratio of current tangible assets to current liabilities of not less than 1.25 to
1.
We have a $2,000 credit facility with IBM Credit Corporation (the "IBMCC
Facility") for the purchase of IBM branded inventory from certain suppliers.
Advances under the IBMCC Facility are typically interest free for 30 days after
the financing date for transactions in which adequate financial incentives are
received by IBMCC from the vendor. Within 30 days after the financing date, the
full amount of invoices for inventory financed through IBMCC is required to be
paid. Amounts remaining outstanding thereafter bear interest at the fluctuating
prime rate (but not less than 6.5%) plus 6.0%. IBMCC retains a security interest
in the inventory financed and is immediately terminable by either party.
Both of our borrowing facilities prohibit the payment of dividends unless
consented to by the lender.
ITEM 3. Quantitative and Qualitative Disclosures about Market Risk
We incur certain market risks related to interest rate variations because
we hold floating rate debt. Based upon the average amount of debt outstanding
during the six months ended June 30, 2000, a one-percent increase in interest
rates paid by us on our debt would have resulted in an increase in interest
expense of approximately $49 for the period.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
On September 22, 1998 we filed suit against Ragheed W. Nounou, a former
employee, in ALLSTAR SYSTEMS, INC. V RAGHEED W. NOUNOU, Cause No. 98-45194 in
the District Court for Harris County, Texas, 129th Judicial District, seeking
recovery of approximately $98,000 in commissions paid in error. Said former
employee has filed a counter-claim against us on October 26, 1998. We intend to
vigorously defend such counter claim. We are unable to estimate the range of
possible recovery by the former employee because the suit is still in the early
stages of discovery.
On February 1, 2000, a competitor brought a suit against our wholly owned
subsidiary Stratasoft, Inc. in ESHARE TECHNOLOGIES, INC. AND INVENTIONS, INC. V
STRATASOFT, INC., Cause No. 1 99-CV-2303 for the United States District Court
for the Northern District of Georgia Atlanta Division. The plaintiff alleges
infringement of certain patents owned by the competitor and is seeking a
permanent injunction to prevent Stratasoft, Inc. from manufacturing, selling,
offering for sale or using the alleged infringing products covered by patents
owned by Eshare Technology, Inc.et al, as well as unspecified monetary damages.
The suit is in its early stages of discovery, and therefore we are unable to
determine the ultimate costs of this matter. We believe that this suit is
without merit and intend to vigorously defend such action
On May 16, 2000, Jack B. Corey ("Corey") filed suit against the Company in JACK
B. COREY V. ALLSTAR SYSTEMS, INC., Cause No. 2000-24796, in the District Court
of Harris County, Texas, 113th Judicial District, seeking to enjoin the sale of
its computer product division and certain other assets to Amherst Technologies,
and for unspecified damages. On Wednesday, May 17, 2000, a state court denied
Corey's Application for Temporary Restraining Order and on Monday, May 22, 2000,
a second state court denied his Application for a Temporary Injunction and for
Expedited Discovery as moot. The present pleadings lack specificity as to
Corey's claim for damages and it is unclear at this time whether Corey will
pursue such a claim. However, the Company strongly denies that it engaged in any
improper conduct with regard to the sale of its assets and intends to vigorously
defend any claim that might be pursued by Corey.
We are party to other litigation and claims which management believes
are normal in the course of its operations; while the results of such litigation
and claims cannot be predicted with certainty, We believe the final outcome of
such matters will not have a materially adverse effect on its results of
operations or financial position.
ITEM 4. Submission of Matters to a vote of Security Holders
A Special Meeting of the shareholders was held on May 19, 2000 to
consider and approve the sale of certain assets consisting of the Computer
products Division and specified assets of our Information Technology Services
("IT Services") Division related to our El Paso, Texas office and to consider
and approve the 2000 Stock Incentive Plan.
A total of 4,060,525 shares of the Company's common stock, $0.01 per
share par value, were entitled to vote at the meeting. Of these shares 2,479,173
or 61.01% were present and voted as set forth in the table below.
Shares Voted Shares Voted Shares Voted Votes
For Against Withheld
Approval of the sale of
assets of the Computer
Products Division and
specified assets of the
IT Services related to the
El Paso, Texas office 2,479,173 2,469,706 9,267 200
Approval and adoption of
2000 Stock Incentive Plan 2,479,173 2,416,660 60,263 2,250
The annual meeting of the shareholders was held on July 10, 2000. A total
of 4,048,525 shares of the Company's common stock, $0.01 per share par value,
were entitled to vote at the meeting. Of these shares 2,070,897 or 51.2% were
present and voted as set forth in the table below.
Director Shares Voted Shares Voted Votes
For Withheld
James H Long 2,070,897 2,069,697 1,200
Donald R. Chadwick 2,070,897 2,069,697 1,200
Richard D. Darrell 2,070,897 2,069,697 1,200
Jack M. Johnson, Jr. 2,070,897 2,069,697 1,200
Mark T. Hilz 2,070,897 2,069,697 1,200
Additionally, at this meeting 2,070,297 shareholders, with 600 votes withheld,
voted to approve an amendment to the company's Certificate of Incorporation to
change the name of the company from Allstar Systems, Inc. to I-Sector
Corporation.
ITEM 6. Exhibits and Reports on Form 8-K
Form 8-K, April 11, 2000, related to an Amendment of the previously
announced Asset Purchase Agreement for the sale of the Computer Products
Division.
Form 8-K, June 5, 2000, related to Shareholder approval of the sale of the
Computer Products Division under the previously announced and amended Asset
Purchase Agreement
SIGNATURES
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, thereunto duly authorized.
I-Sector Corporation.
August, 2000 By: /s/ JAMES H. LONG
Date James H. Long, Chief Executive Officer,
President and Chairman of the Board
(Principal Financial and Accounting Officer