48
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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-K
x ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended July 31, 1999
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 0-21695
MANCHESTER EQUIPMENT CO., INC.
(Exact name of Registrant as specified in its charter)
New York 11-2312854
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) I. D. Number)
160 Oser Avenue 11788
Hauppauge, New York (Zip Code)
(Address of principal executive offices)
Registrant's telephone number, including area code: (516) 435-1199
Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.01 par value
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Indicate by check mark whether the Registrant (1) has filed all reports to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the Registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days: YES __X__ NO _____
Indicate by check mark if the disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ X]
The aggregate market value of the voting stock held by non-affiliates of the
Registrant as of October 12, 1999 was $8,193,408 (2,731,136 shares at a closing
sale price of $3.00).
As of October 12, 1999, 8,084,800 shares of Common Stock ($.01 par value) of the
Registrant were issued and outstanding.
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DOCUMENTS INCORPORATED BY REFERENCE
None
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MANCHESTER EQUIPMENT CO., INC.
FORM 10-K
YEAR ENDED JULY 31, 1999
TABLE OF CONTENTS
Part I
Page
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Item 1. Business 3
Item 2. Properties 11
Item 3. Legal Proceedings 12
Item 4. Submission of Matters to a Vote of Security Holders 12
Part II
Item 5. Market for the Registrant's Common Stock
and Related Stockholder Matters 12
Item 6. Selected Financial Data 13
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations 14
Item 8. Financial Statements and Supplementary Data 20
Item 9. Change In and Disagreements with Accountants
on Accounting and Financial Disclosures 20
Part III
Item 10. Directors and Executive Officers of the Registrant 21
Item 11. Executive Compensation 21
Item 12. Security Ownership of Certain Beneficial Owners
and Management 25
Item 13. Certain Relationships and Related Transactions 26
Part IV
Item 14. Exhibits, Financial Statement Schedules and Reports
on Form 8-K 27
Signatures Chief Executive Officer, Chief Financial Officer,
and Directors 46
2
PART I
This Report contains certain forward-looking statements that are based on
current expectations. The actual results of Manchester Equipment Co., Inc. (the
"Company") may differ materially from the results discussed herein as a result
of a number of unknown factors. Such factors include, but are not limited to,
there being no assurance that the Company will be successful in expanding its
Internet presence, that the acquisitions of Electrograph Systems, Inc. and
Coastal Office Products, Inc. will continue to add to the Company's
profitability, that the Company will be successful in its efforts to focus on
value-added services, that the Company will be successful in attracting and
retaining highly skilled technical personnel and sales representatives necessary
to implement the Company's growth strategies, that the Company will not be
adversely affected by continued intense competition in the computer industry,
continued decreases in average selling prices of personal computers, a lack of
product availability or deterioration in relationships with manufacturers, or a
loss or decline in sales to any of its major customers. See "Products" and
"Competition" in Part I, Item 1 and "Management's Discussion and Analysis of
Financial Condition and Results of Operations" in Part II, Item 7 of this report
for a discussion of important factors that could affect the validity of any
forward looking statements.
ITEM 1. Business
General
Manchester Equipment Co., Inc. ("Manchester" or the "Company") is an
integrator and reseller of computer hardware, software and networking products,
primarily for commercial customers. The Company offers its customers
single-source solutions customized to their information systems needs by
integrating its analysis, design and implementation services with hardware,
software, networking products and peripherals from leading vendors. Over the
past 26 years, the Company has forged long-standing relationships with both
customers and suppliers and capitalized on the rapid developments in the
computer industry, including the shift toward client/server-based platforms.
Manchester's marketing focus is on mid- to large-sized companies, which
have become increasingly dependent upon complex information systems in an effort
to gain competitive advantages. While many of these companies have the financial
resources to make the required capital investments in information systems, often
they do not have the necessary information technology personnel to design,
install or maintain complex systems or to incorporate the continuously evolving
technologies. As a result, these companies are turning to independent third
parties to procure, design, install, maintain and upgrade their information
systems.
The Company offers its customers a variety of value-added services,
such as consulting, integration and support services, together with a broad
range of computer and networking products from leading vendors. Consulting
services include systems design, performance analysis, and migration planning.
Integration services include product procurement, configuration, testing and
systems installation and implementation. Support services include network
management, "help-desk" support, and enhancement, maintenance and repair of
computer systems. Most of the Company's revenues are derived from sales to
customers located in the New York Metropolitan area, with approximately 80% of
the Company's revenue generated from its Long Island and New York City offices.
The Company was incorporated in New York in 1973 and has six active
wholly-owned subsidiaries: Manchester International, Ltd., a New York
corporation, which sells computer hardware, software and networking products to
resellers domestically and internationally; ManTech Computer Services, Inc., a
New York corporation, which identifies and provides temporary information
technology positions and solutions for commercial customers; Electrograph
Systems, Inc., a New York corporation, which distributes microcomputer
peripherals throughout the United States; Coastal Office Products, Inc., a
Maryland corporation, which is an integrator and reseller of computer products
in the Baltimore, Maryland area; Manchester Solutions Incorporated, a New York
corporation, which provides project management, design, construction and office
furniture solutions; and Marketplace4U.com, Inc., a New York corporation, which
is an online superstore that offers a wide range of brand name products to
consumers.
Industry
Businesses have become increasingly dependent upon complex information
systems in an effort to gain competitive advantages or to maintain competitive
positions. Computer technology and related products are continuously evolving,
3
making predecessor technologies or products obsolete within a few years or, in
some cases, within months. The constant changes in hardware and software and the
competitive pressure to upgrade existing products create significant challenges
to companies.
Over the last several years, the increase in performance of personal
computers, the development of a variety of effective business productivity
software programs and the ability to interconnect personal computers in high
speed networks have led to an industry shift away from mainframe computer
systems to client/server systems based on personal computer technology. In such
systems, the client computer, in addition to its stand-alone capabilities, is
able to obtain resources from a central server or servers. Accordingly, personal
computers may share everything from data files to printers. Recently, networked
applications such as electronic mail and work group productivity software,
coupled with widespread acceptance of Internet technologies, have led companies
to implement corporate intranets (networks that enable end-users (e.g.,
employees) to share information). The use of a corporate intranet allows a
company to warehouse valuable information, which may be "mined" or accessed by
employees or other authorized users through readily available Internet tools
such as Web browsers and other graphical user interfaces.
With these advances in information systems and networking, many
companies are reengineering their businesses using these technologies to enhance
their revenue and productivity. However, as the design of information systems
has become more complex to accommodate the proliferating network applications,
the configuration, selection and integration of the necessary hardware and
software products have become increasingly more difficult and complicated. While
many companies have the financial resources to make the required capital
investments, they often do not have the necessary information technology
personnel to design, install or maintain complex systems and may not be able to
provide appropriate or sufficient funding or internal management for the
maintenance of their information systems. As a result, such companies are
increasingly turning to independent third parties to procure, design, install,
maintain and upgrade their information systems. By utilizing the services of
such third parties, companies are able to acquire state-of-the-art equipment and
expertise on a cost-effective basis.
The Manchester Solution
Manchester offers its customers single-source solutions customized to
their information systems needs. The Manchester solution includes a variety of
value-added services, including consulting, integration, network management,
"help-desk" support, and enhancement, maintenance and repair of computer
systems, together with a broad range of computer and networking products from
leading vendors. Manchester believes it provides state-of-the-art,
cost-effective information systems designed to meet its customers' particular
needs.
As a result of the Company's long-standing relationships with certain
suppliers and its large volume purchases, the Company is often able to obtain
significant purchase discounts which can result in cost-savings for its
customers. Manchester's relationships with its suppliers, its inventory
management system and industry knowledge generally enable it to procure desired
products on a timely basis and therefore to offer its customers timely product
delivery.
Strategy
The key elements of the Company's strategy include:
Emphasizing Value-added Services. Value-added services, such as
consulting, integration and support services, generally provide higher profit
margins than computer hardware sales. The Company has increased its focus on
providing these services through a number of key strategies. The Company has
recruited additional technical personnel with broad-based knowledge in systems
design and specialized knowledge in different areas of systems integration,
including application software, inter-networking (including routers and
switches), database design and management.
Increasing Marketing Focus on Companies Outside the Fortune 500.
Manchester has decided to increase its marketing focus on those companies
outside the Fortune 500 in order to increase its value-added services revenue.
Manchester's experience is that those companies are increasingly looking to
third parties to provide a complete solution to their information systems needs
from both a service and product standpoint. Such companies often do not have the
necessary information technology personnel to procure, design, install or
maintain complex systems or to incorporate continuously evolving technologies.
Manchester believes that it can provide these companies with solutions to their
information systems requirements by providing a variety of value-added services
together with a broad range of computer and networking products.
Electronic Ordering System. Manchester has implemented an electronic
ordering system. This ordering system enables participating customers to access
4
the Company via the Internet, review various products, systems and services
offered by the Company and place their orders on-line. Customers are also able
to obtain immediate customized information regarding products, systems and
services that meet their specific requirements. The ordering system produces a
matrix of alternative fully compatible packages, together with their
availability and related costs, based on parameters indicated by the customer.
Customers are not granted access to this system without prior credit clearance.
(See "Expanding Internet Presence").
Increasing Sales Force Productivity. Manchester is addressing a variety
of strategies to increase sales force productivity. The Company has implemented
enhancements to its system allowing its salesforce immediate access to
information regarding price and availability of products. In addition, the
Company is planning enhancements that will allow sales representatives to obtain
immediate customized information regarding products and services that meet
specific requirements of customers. The Company believes that this system will
increase the productivity of its sales representatives by enabling them to offer
rapid and comprehensive solutions to their customers' needs.
The Company provides training of its sales representatives in matters
relating to value-added services, such as consulting and integration services.
To facilitate such training, the Company constructed dedicated training
facilities in one of its Long Island offices and in its New York City office.
Expanding New York Metropolitan Area Presence. The Company believes
that it has a strong presence and wide name recognition in the New York
Metropolitan area, where there is a growing corporate demand for computer
products and services. Manchester is seeking to expand its presence in this area
through its enlarged New York City office and increased sales and service
capabilities. The Company believes that these steps will enable it to capture a
greater percentage of the New York Metropolitan area market. In fiscal 1998, the
Company relocated its New York City office to space that is approximately double
the size of the previous office location.
Expanding into Additional Business Centers. The Company has regional
offices in Newton, Massachusetts and Boca Raton, Florida, from which it derived
approximately 10% of its revenues for the fiscal year ended July 31, 1999.
During fiscal 1998, the Company expanded into Baltimore, Maryland through the
acquisition on January 2, 1998 of Coastal Office Products, Inc. (see
"Acquisitions").
Expanding Internet Presence. On January 18, 1999 the Company officially
launched its new website and electronic commerce system. The new site, located
at www.e-manchester.com, allows existing customers, corporate shoppers and
others to find product specifications, compare products, check prices and
availability and place and track orders quickly and easily 24 hours a day, seven
days a week. The Company has made, and expects to continue to make, significant
investments and improvements in its e-commerce capabilities.
On June 25, 1999, the Company announced the launch of a new consumer
products on-line super store, Marketplace4U.com ("MP4U"). MP4U offers consumers
great selection, price and service as well as a choice for savings. MP4U offers
products in categories such as consumer electronics, automotive accessories,
outdoor and camping equipment from each of its three "on line" stores. The first
store (Marketplace4U) displays current top brand products at aggressive and
competitive prices; the second store (FactoryNew4U) sells factory remanufactured
and warranteed top-brand products at even greater savings; the third store
(Closeouts4U) features new products that are brand name close-outs and special
purchases. During the fiscal year ended July 31, 1999 revenue from MP4U was not
material.
Services and Products
The Company offers customized single-source solutions to its customers'
information systems requirements, including consulting, integration and support
services, together with a broad range of computer and networking products from a
variety of leading vendors. The Company provides its services through a skilled
staff of engineers who are trained and certified in leading products and
technology, including Microsoft Windows NT, Novell NetWare and Cisco Systems
routers and switches.
Services. The Company's services include consulting, integration and
support services.
Consulting. The Company's staff of senior systems engineers provides
consulting services consisting of systems design, performance and security
analysis, and migration planning services.
Systems design services include network, communications, applications
and custom solutions design. Network design services involve analysis of a
5
customer's overall network needs, including access to the Internet;
communications design services involve analysis and creation of enterprise-wide
networks, including corporate intranets; applications design services include
creation of relational databases meeting customers' specific business
requirements; and custom solutions design services include design of storage
systems, remote access systems and document retention through scanning
technology.
Performance analysis involves analyzing a customer's information
systems to assess potential points of failure, to determine where performance
could be increased and to prepare for change and growth. This service includes
the evaluation of applications and their interaction with the network in order
to maximize existing computer resources. Through this evaluation process, which
includes a detailed report to the end-user, a plan for the optimization of the
customer's existing system is created, as well as recommendations for
enhancements and future systems.
Security analysis involves working with customers to develop security
policies covering network security, as well as risk analysis. After a policy is
developed, a security strategy is planned and deployed using a variety of tools,
including physical firewalls, packet filtering, encryption and user
authentication.
Migration planning involves the performance of a detailed assessment of
existing mission critical systems, followed by an analysis of the end-user's
future requirements. Working closely with the customer, Manchester's consultants
develop a migration strategy using a defined project plan that encompasses
skills transfer and training, checking for data integrity, project management
and consolidation and reallocation of resources. The primary objective of this
service is to rapidly move the customer from a slow or expensive system to a
newer, more efficient and cost-effective solution.
Integration. Integration services include product procurement,
configuration, testing, installation and implementation.
The Company maintains a sophisticated systems build and test area,
adjacent to its warehousing facilities, where computer systems are configured
and tested through the use of automated systems. Manchester manages the
installation and implementation of its customers' information systems, and
provides critical path analysis, vendor management and facility management
services. Critical path analysis involves the management and coordination of the
various hardware and software networking components of a systems design project.
The Company's engineers prepare reports setting forth coordinated timetables
with respect to installing and integrating the customer's information systems.
Support. The Company offers support services for its customers'
existing information systems, including network management, "help-desk"
services, enhancements, maintenance and repair.
Network management consists of managing the compatibility of, and
communication between, the various components comprising a customer's
information system. The increased expense associated with the ownership of
information systems has encouraged customers to outsource the management of
computer networks, including local area networks ("LANs") and wide area networks
("WANs"). Currently, the Company's engineers provide network management services
on site at customers' facilities.
"Help-desk" services consist of providing customers with telephone
support. In addition, the Company's service call management system, which the
Company is in the process of enhancing, will enable the Company's "help-desk"
technicians to access an archive of prior service calls concerning similar
problems and their solutions, resulting in a more efficient response to
customers' calls.
Enhancement, maintenance and repair services range from broad on-site
coverage to less expensive, basic maintenance and repair of itemized hardware or
software, as well as enhancements such as upgrades of existing systems. Field
representatives are equipped with notebook computers to facilitate the exchange
of information with both the information systems at the Company's headquarters
and with technical databases available on the Internet. The Company maintains a
laboratory at its Long Island facilities where the Company prototypes customer
problems for quicker solutions without jeopardizing customers' information
systems.
6
Products. Manchester offers a wide variety of personal computer and
networking products and peripherals, including:
Desktop Computers Servers
Internet Access Products Software
Modems Storage Subsystems
Monitors Switches
Network Equipment Supplies and Accessories
Notebook Computers Teleconferencing Equipment
Printers Terminals
Routers Wireless Products
Scanners Workstations
The Company has long-standing relationships with many manufacturers,
which the Company believes assist it in procuring desired products on a timely
basis and on desirable financial terms. The Company sells products from most
major manufacturers, including:
Cisco Systems, Inc NEC Technologies, Inc.
Compaq Computer Corporation. Nortel Networks, Inc.
Computer Associates International, Inc Novell, Inc.
Epson America, Inc. Philips Electronics N.V.
Hewlett-Packard Company. Seagate Technology, Inc.
Intel Corporation 3Com Corp.
Microsoft Corporation Toshiba America Information
Systems, Inc.
Viking Components, Inc.
For the fiscal years ended July 31, 1999 and 1998, sales by the Company
of products manufactured by Compaq, Hewlett-Packard and Toshiba collectively
comprised approximately 43% and 49%, respectively, of the Company's revenues.
For the fiscal year ended July 31, 1997, sales by the Company of products
manufactured by Compaq, Hewlett-Packard, NEC and Toshiba collectively comprised
approximately 56% of the Company's revenue. In fiscal years ended July 31, 1999,
1998 and 1997, sales of products manufactured by Toshiba accounted for
approximately 9%, 18%, and 26%, respectively, of the Company's revenue,
substantially all of which were sales of notebook computers and related
accessories. Also in these fiscal years, sales of products manufactured by
Compaq accounted for 25%, 21%, and 13%, respectively, of the Company's revenue.
The total dollar volume of products purchased directly from manufacturers, as
opposed to distributors or resellers, was approximately $118 million, $92
million, and $103 million for the fiscal years ended July 31, 1999, 1998 and
1997, respectively, and as a percentage of total cost of products sold was
approximately 61%, 55%, and 64%, respectively.
The Company has entered into agreements with its principal suppliers
that include provisions providing for periodic renewals and permitting
termination by the vendor without cause, generally upon 30 to 90 days written
notice, depending upon the vendor. Compaq, Hewlett-Packard, NEC and Toshiba have
regularly renewed their respective agreements with the Company, although there
can be no assurance that the regular renewal of the Company's dealer agreements
will continue. The termination, or non-renewal, of any or all of these dealer
agreements would materially adversely affect the Company's business. The
Company, however, is not aware of any reason for the termination, or
non-renewal, of any of those dealer agreements and believes that its
relationships with Compaq, Hewlett-Packard, NEC and Toshiba are satisfactory.
The Company is dependent upon the continued supply of products from its
suppliers, particularly Compaq, Hewlett-Packard and Toshiba. Historically
certain suppliers occasionally experience shortages of select products that
render them unavailable or necessitate product allocations among resellers. Each
fiscal year, the Company has experienced product shortages, particularly related
to newer models. The Company believes that product availability issues are as a
result of the present dynamics of the personal computer industry as a whole,
which include high customer product demand, shortened product life cycles and
increased frequency of new product introductions into the marketplace. While
there can be no assurance that product unavailability or product allocation, or
both, will not increase in fiscal 2000, the impact of such an interruption is
not expected to be unduly troublesome due to the breadth of alternative product
lines available to the Company.
7
The Company seeks to obtain volume discounts for large customer orders
directly from manufacturers and through aggregators and distributors.
Most of the Company's major product manufacturers provide price
protection for a limited time period as well as stock balancing rights, by way
of credits or refunds, against price reductions by the supplier between the time
of the initial sale to the Company and the subsequent sale by the Company to its
customers. During fiscal 1999 certain manufacturers reduced the period for which
they provide price protection and stock balancing rights. There can be no
assurance that manufacturers will not further limit or eliminate price
protection and stock balancing rights in the future.
Customers
The Company grants credit to customers meeting specified criteria and
maintains a centralized credit department that reviews credit applications.
Accounts are regularly monitored for collectibility and appropriate action is
taken upon indication of risk.
The Company believes that it benefits from its long-standing
relationships with many of its customers, providing opportunities for continued
sales and services. Manchester believes that its broad range of capabilities
with respect to both products and services is attractive to companies of all
sizes. Although Manchester targets companies outside the Fortune 500 as one part
of its strategy, it has sold, and anticipates that it will continue to sell, to
some of the largest companies in the United States. For the fiscal years ended
July 31, 1999, 1998 and 1997, approximately 7%, 7% and 15% of the Company's
total revenue, respectively, were derived from United Parcel Service of America,
Inc. Some of the Company's other significant commercial customers currently
include Bysis Fund Services, Inc., Cabletron Systems Inc., National Broadcasting
Company Inc., Sterling Doubleday Enterprises (New York Mets), Reuters America
Inc., Vytra Choice Care, Inc., United Nations International Children's Emergency
Fund and the United States Merchant Marine Academy.
The Company's return policy generally allows customers to return
hardware and unopened software, without restocking charges, within 30 days of
the original invoice date, subject to advance approval and certain other
conditions. The Company is generally able to return defective merchandise
returned from customers to the vendor.
Sales and Marketing
The Company's sales are generated primarily by its 60 person sales
force. These sales representatives generally are responsible for meeting all of
their customers' product and service needs and are supervised by sales managers
with significant industry experience. The sales managers are responsible for
overseeing sales representative training, establishing sales objectives and
monitoring account management principles and procedures. Sales representatives
attend seminars conducted by manufacturers' representatives at the Company's
facilities, at which the Company's new and existing product and service
offerings are discussed.
The Company's sales representatives are assisted by technical personnel
who support and supplement the sales efforts. The responsibilities of technical
support personnel include answering preliminary inquiries from customers
regarding systems design, and on-site visits to customers' facilities. At
customers' facilities, the technical personnel gather information necessary to
assist customers in making informed decisions regarding their information
systems. Such data include the nature of the customer's current information
systems, the existing hardware and networking environment, the customer's level
of expertise and its applications needs.
Manchester believes that its name is widely recognized for high
quality, competitively priced products and services. In 1998 Manchester adopted
a new logo that appears on all of the Company's marketing materials and other
corporate literature. The logo includes the phrase "Manchester, the Answer" to
emphasize our position as a knowledgeable resource for networking and computer
solutions for our customers. The Company promotes name recognition and the sale
of its products and services through regional business directories, trade
magazine advertisements, radio advertisements, direct mailings to customers and
participation in computer trade shows and special events. The Company advertises
at numerous sporting events in the New York metropolitan region, including full
page four-color advertisements in yearbooks and/or program guides for sports
teams such as the New York Mets, the New York Knicks and the New York Rangers.
The Company also promotes interest in its products and services through its
website on the Internet, and has expanded its website information to provide an
electronic catalog of its products and services. Several manufacturers offer
market development funds, cooperative advertising and other promotional
programs, on which the Company relies to partially fund many of its advertising
and promotional campaigns.
8
Sales force training is an integral part of the Company's strategy to
increase its focus on providing value-added services. As client/server-based
systems, applications and network capabilities grow in complexity, the need for
technically knowledgeable sales personnel becomes critical to the sale of
value-added services. Accordingly, the Company has expanded its training
capabilities at one of its Long Island facilities to conduct seminars for sales
representatives. The seminars address such topics as general developments in the
computer industry, systems integration services and the Company's management
information systems. The Company utilizes its technical personnel to conduct
such seminars and may hire additional dedicated trainers as needed.
Management Information Systems
The Company currently uses an IBM AS/400 integrated management
information system, which is an on-line system enabling instantaneous access.
The Company maintains a proprietary inventory management system on its computer
system pursuant to which product purchases and sales are continually tracked and
analyzed. The Company's computer system is also used for accounting, billing and
invoicing.
The Company's information system assists management in maintaining
controls over the Company's inventory and receivables. Manchester's average
inventory turnover was 22, 17 and 17 times for the fiscal years ended July 31,
1999, 1998 and 1997, respectively, and Manchester experienced bad debt expense
of less than .3% of revenue in each of these years.
During the fiscal year ended July 31, 1999, the Company invested in its
management information systems, including upgrading and expanding the IBM AS/400
system, enhancing and modifying its client/server-based management system to
track services rendered for customers, and upgrading servers and network
infrastructures for its headquarters. The Company utilizes experienced in-house
technical personnel, assisted by the Company's senior engineers, to upgrade and
integrate additional functions into the Company's management information
systems.
Competition
The computer industry is characterized by intense competition primarily
in the area of price, product availability and breadth of product line. The
Company directly competes with local, regional and national systems integrators,
value-added resellers and distributors as well as with certain computer
manufacturers that market through direct sales forces. While the Company's
competitors vary depending upon the particular market, some of the national and
regional competitors of the Company include Alphanet Solutions, Inc., CompuCom
Systems, Inc., Dell Computer Corporation, EnPointe Technologies, Inc., Entex
Information Services, Inc., and Pomeroy Computer Resources, Inc. The computer
industry continues to experience a significant amount of consolidation through
mergers and acquisitions, and manufacturers of personal computers may increase
competition by offering a range of services in addition to their current product
and service offerings. In the future, the Company may face further competition
from new market entrants, possible alliances between existing competitors, as
well as competition from certain manufacturers who do not currently market
through direct sales forces. Some of the Company's competitors have, or may
have, greater financial, marketing and other resources, and may offer a broader
range of products and services, than the Company. As a result, they may be able
to respond more quickly to new or emerging technologies or changes in customer
requirements, benefit from greater purchasing economies, offer more aggressive
hardware and service pricing or devote greater resources to the promotion of
their products and services.
The Company's ability to compete successfully depends on a number of
factors such as breadth of product and service offerings, sales and marketing
efforts, product and service pricing, and quality and reliability of services.
In addition, product margins may decline due to pricing to win new business and
increasing pricing pressures from competition. The Company believes that gross
margins will continue to be reactive to industry-wide changes. Future
profitability will depend on the Company's ability to increase focus on
providing technical service and support to customers, competition, manufacturer
pricing strategies, as well as the Company's control of operating expenses,
product availability, and effective utilization of vendor programs. It will also
depend on the ability to attract and retain quality service personnel and sales
representatives while effectively managing the utilization of such personnel and
representatives. There can be no assurance that the Company will be able to
attract and retain such skilled personnel and representatives. The loss of a
significant number of the Company's existing technical personnel or sales
representatives or difficulty in hiring or retaining additional technical
personnel or sales representatives or reclassification of the Company's sales
representatives as employees could have a material adverse effect on the
Company's business, results of operations and financial condition.
9
Acquisitions
Electrograph Systems, Inc.
On April 25, 1997, the Company, through a newly formed wholly-owned
subsidiary, acquired substantially all of the assets and assumed certain
liabilities of Electrograph Systems, Inc. ("Electrograph"). Electrograph is a
specialized distributor of microcomputer peripherals, throughout the United
States. The purchase price and transaction costs aggregated approximately $2.6
million. The major categories of products presently distributed by Electrograph
include printers and monitors.
Products are selected by Electrograph to minimize competition among
suppliers' products while maintaining some overlap to provide protection against
product shortages and discontinuations and to provide different price points for
certain items. Management believes Electrograph's relationships with its
suppliers are enhanced by providing feedback to suppliers on products, advising
suppliers of customer preferences, working with suppliers to develop marketing
programs, and offering suppliers the opportunity to provide seminars for
Electrograph's customers.
None of Electrograph's material supplier agreements require the sale of
specified quantities of products or restrict Electrograph from selling similar
products manufactured by competitors. Electrograph, therefore, has the ability
to terminate or curtail sales of one product line in favor of another product
line as a result of technological change, pricing considerations, customer
demand or supplier distribution policy. Electrograph has never been terminated
by any of its suppliers.
Most of Electrograph's major suppliers provide price protection for a
limited time period, by way of credits, against price reductions by the supplier
between the time of the initial sale to Electrograph and the subsequent sale by
Electrograph to its customer. Additionally, most of Electrograph's suppliers
accept defective merchandise returned within 12 to 15 months after shipment to
Electrograph. Some suppliers permit Electrograph to rotate its inventory by
returning slow moving inventory for other inventory. Credits, refunds or other
payments to which Electrograph was entitled by reason of price protection,
advertising allowances, stock rotations and refunds for defective merchandise
totaled approximately 1% of revenue for fiscal 1999.
While Electrograph distributes products of more than 15 suppliers,
approximately 35%, 18%, 18% and 14% of Electrograph's revenue in fiscal 1999 was
derived from products manufactured by Fujitsu, Pioneer, Mitsubishi and NEC,
Electrograph's largest suppliers.
Electrograph's distribution operations are currently conducted from two
distribution centers in Hauppauge, New York and Long Beach, California.
Electrograph also maintains sales offices in Baltimore, Maryland, Northville,
New York and Long Beach, California.
Coastal Office Products, Inc.
On January 2, 1998, the Company acquired all of the outstanding shares
of Coastal Office Products, Inc. ("Coastal"), a reseller and provider of
microcomputer servers and peripherals in the greater Baltimore, Maryland area.
The acquisition, which has been accounted for as a purchase, consisted of cash
payments of approximately $4.0 million (including a contingent payment of
$871,000 made on March 15, 1999) plus future contingent payments.
Employees
At September 30, 1999, the Company had 312 full-time employees
consisting of 33 sales representatives, 41 management personnel, 84 technical
personnel and 154 distribution and clerical personnel. In addition, at September
30, 1999, the Company had 27 independent sales representatives. The Company is
not a party to any collective bargaining agreements and believes its relations
with its employees are good.
Intellectual Property
The Company owns, or has pending, several federally registered service
mark with respect to its name and logo. Most of the Company's various dealer
agreements permit the Company to refer to itself as an "authorized dealer" of
the products of those manufacturers and to use their trademarks and trade names
for marketing purposes. The Company considers the use of these trademarks and
trade names in its marketing to be important to its business.
10
ITEM 2. Properties
Properties
The Company currently has ten sales branches nationwide including the
corporate headquarters located in Hauppauge, New York. The following table
identifies the principal leased facilities.
Approximate
Square Footage Lease
Facility Location Office Warehouse Expiration Date
Corporate 160 Oser Avenue (1)
Headquarters Hauppauge, NY 30,000 - July 2000
Warehouse and 40 and 50 Marcus Blvd. (1) October 2005 (40)
Service Center Hauppauge, NY 20,000 43,000 January 2008 (50)
New York City 469 Seventh Avenue
Sales Office New York, NY 13,000 - October 2007
Boca Raton 185 N.W. Spanish River Blvd.
Sales Office Boca Raton, FL 6,000 - November 2002
Boston 25-27 Christina Street
Sales Office Newton, MA 3,000 - October 2002
Electrograph 175 Commerce Drive
Corporate HQ Hauppauge, NY 5,000 5,000 June 2002
Baltimore 57 W. Timonium Rd.
Sales Office Timonium, MD 650 - Month to month
Coastal 3832 Falls Rd.
Corporate HQ Baltimore, MD 8,000 2,000 January 2002
(1) Leased from entities controlled by or affiliated with certain of the
Company's executive officers, directors and principal shareholders. Effective
with the consummation of the Company's initial public offering in November 1996,
the leases with related parties were amended to provide terms comparable to
those that could be obtained from independent third parties.
11
ITEM 3. Legal Proceedings
On January 12, 1998, the Company announced that it had reached an
agreement in principle settling the Shareholder Securities Class Action
("Lawsuit") filed against the Company and certain of its officers in March 1997.
The settlement, which was approved by the Court on June 15, 1998, resulted in
the distribution of $1,350,000 minus approved attorney's fees and related
expenses, to purchasers of the Company's common stock in the Company's initial
public offering, and during the period of November 26, 1996 to February 13,
1997. The entire $1,350,000 cash settlement was paid by the Company's insurance
carrier.
The settlement included a release of all claims that were asserted or
that could have been asserted in the Lawsuit against the Company and its
officers and directors. The Company agreed to the settlement solely to avoid the
expense, burdens and uncertainties of further litigation and continues to deny
that it has any liability on account of the matters asserted in the litigation
or that the Plaintiffs' claims have merit.
The Company is involved in various claims and legal actions arising in
the ordinary course of business. In the opinion of management, based on advice
from its legal counsel, the ultimate disposition of these matters will not have
a material adverse effect.
ITEM 4. Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of the security holders during the fourth
quarter of the fiscal year ended July 31, 1999.
PART II
ITEM 5. Market for the Registrant's Common Equity and Related Stockholder
Matters
The Company's Common Stock commenced trading on November 26, 1996 at
$10.00 and is traded on the NASDAQ National Market under the symbol MANC. The
following table sets forth the quarterly high and low sale prices for the Common
Stock as reported by the NASDAQ National Market.
Fiscal Year 1998
First Quarter 5-1/4 4-1/8
Second Quarter 4-7/16 3-1/2
Third Quarter 4-1/8 3-1/4
Fourth Quarter 4-1/4 3-1/8
Fiscal Year 1999
First Quarter 3-1/2 2-11/16
Second Quarter 9-1/4 2-1/2
Third Quarter 5-3/8 2-3/16
Fourth Quarter 3-3/4 2-7/16
On October 12, 1999, the closing sale price for the Company's Common
Stock was $3.00 per share. As of October 12, 1999 there were 46 shareholders of
record of the Company's Common Stock. The Company believes that there are in
excess of 500 beneficial holders of its common stock.
Manchester has never declared or paid any dividends to shareholders. At
this time the Company intends to continue its policy of retaining earnings for
the continued development and expansion of its business.
12
ITEM 6. Selected Financial Data
SELECTED CONSOLIDATED FINANCIAL DATA
(in thousands, except per share amounts)
The selected consolidated financial data presented below are derived
from the audited consolidated financial statements of the Company. The
Consolidated Financial Statements as of July 31, 1999 and 1998 and for each of
the years in the three-year period ended July 31, 1999 and the report thereon of
KPMG LLP, independent auditors, are included elsewhere in this Report. The data
should be read in conjunction with the Consolidated Financial Statements and
Notes thereto and "Management's Discussion and Analysis of Financial Condition
and Results of Operations" included elsewhere in this Report.
Fiscal Year Ended July 31,
1999 1998 1997 1996 1995
---- ---- ---- ---- ---- -
Income Statement Data:
Revenue $228,641 $202,530 $187,801 $ 189,659 $ 170,818
Cost of revenue 195,423 171,930 161,186 163,128 146,323
------- ------- ------- --------- ---------
Gross profit 33,218 30,600 26,615 26,531 24,495
Selling, general and
administrative expenses 29,849 27,414 21,023 22,598 21,280
------ ------ ------ --------- ---------
Income from operations 3,369 3,186 5,592 3,933 3,215
Interest and other income
(expenses), net 404 546 395 (365) (392)
Provision for income taxes 1,590 1,560 2,450 1,430(1) 1,160
----- ----- ----- ----- -----
Net income $2,183 $2,172 $3,537 $ 2,138(1) $ 1,663
===== ===== ===== ======= =======
Net income per share:
Basic $0.27 $0.26 $0.45 $ 0 .34(1) $ 0.27
==== ==== ==== ======= ========
Diluted $0.27 $0.26 $0.45 $ 0 .34(1) $ 0.27
==== ==== ==== ======== ========
Weighted average shares of
common stock outstanding:
Basic 8,096 8,494 7,779 6,247 6,263
===== ===== ===== ===== =====
Diluted 8,096 8,499 7,779 6,247 6,263
===== ===== ===== ===== =====
July 31,
1999 1998 1997 1996 1995
---- ---- ---- ---- ----
Balance Sheet Data:
Working capital $27,461 $26,112 $30,578 $ 9,841 $ 9,189
Total assets 61,778 56,894 58,208 37,761 31,635
Short-term debt, including
current maturities of
capital lease obligation 85 82 1,637 6,952 5,600
Capital lease obligation, excluding
current maturities - - 77 175 -
Redeemable common stock(2) - - - 4,739 5,210
Shareholders' equity 39,586 37,345 36,877 8,175 6,037
- - ---------------
(1) Pro forma provision for income taxes, pro forma net income and pro
forma basic and diluted net income per share for the fiscal year ended
July 31, 1996 would have been $2,835, $4,246 and $.68 per share,
respectively, after giving effect to the assumed reduction of (i)
$3,209 in officers' compensation payable to the Company's Chief
Executive Officer, Executive Vice President and Chief Financial Officer
to an aggregate of $1,125, exclusive of fringe benefits, to reflect
adjustments commencing in fiscal 1997 to (A) the annual compensation
that the Company's Chief Executive Officer and Executive Vice President
have agreed to receive without any diminished duties or
responsibilities, and (B) the reduction from the amount of annual
compensation paid to the former Chief Financial Officer to the annual
compensation payable to the present Chief Financial Officer, net of
applicable income taxes, and (ii) $304 in rent paid to related parties
to amounts stipulated in leases, net of applicable income taxes. See
"Management" and "Certain Transactions."
(2) Represents the aggregate amounts payable by the Company to redeem shares of
common stock under the shareholder put right and shareholders' agreements
between the Company and certain shareholders. See Note 11 of notes to the
consolidated financial statements.
13
ITEM 7. Management's Discussion And Analysis Of Financial Condition And Results
Of Operations
The following discussion and analysis of financial condition and
results of operations of the Company should be read in conjunction with the
Consolidated Financial Statements of the Company and Notes thereto appearing
elsewhere in this Report. The following discussion contains certain
forward-looking statements within the meaning of Securities Act of 1933 as
amended, and Section 21E of the Securities and Exchange Act of 1934, as amended,
which are not historical facts and involve risks and uncertainties that could
cause actual results to differ materially from the results anticipated in those
forward-looking statements. These risks and uncertainties include, but are not
limited to those set forth below and the risk factors described in the Company's
other filings from time to time with the Securities and Exchange Commission.
General
Manchester is an integrator and reseller of computer hardware, software
and networking products, primarily for commercial customers. The Company offers
its customers single-source solutions customized to their information systems
needs by integrating its analysis, design and implementation services with
hardware, software, networking products and peripherals from leading vendors. To
date, most of the Company's revenues have been derived from product sales. The
Company generally does not develop or sell software products. However, certain
computer hardware products sold by the Company are loaded with pre-packaged
software products.
As a result of intense price competition within the computer industry
as well as other industry conditions, the Company has experienced increasing
pressure on per unit prices as well as on its gross profit and operating margins
with respect to the sale of products. Manchester's strategy includes increasing
its focus on providing value-added services with operating margins that are
higher than those obtained with respect to the sale of products. The Company has
experienced a significant increase in selling, general and administrative
expenses, primarily in the form of increased personnel costs, in connection with
the implementation of this strategy. The Company's future performance will
depend in part on its ability to manage successfully a continuing shift in its
operations towards services.
The Company directly competes with local, regional and national systems
integrators, value-added resellers ("VARs") and distributors as well as with
certain computer manufacturers that market through direct sales forces. In the
future, the Company may face further competition from new market entrants and
possible alliances between existing competitors. In addition, certain suppliers
and manufacturers may choose to market products directly to end users through a
direct sales force rather than or in addition to channel distribution. Some of
the Company's competitors have, or may have, greater financial marketing and
other resources, and may offer a broader range of products and services, than
the Company. As a result, they may be able to respond more quickly to new or
emerging technologies or changes in customer requirements, benefit from greater
purchasing economies, offer more aggressive hardware and service pricing or
devote greater resources to the promotion of their products and services. There
can be no assurance that the Company will be able to compete successfully in the
future with these or other current or potential future competitors.
The Company's business is dependent upon its relationships with major
manufacturers and distributors in the computer industry. There can be no
assurance that the pricing and related terms offered by major manufacturers and
distributors will not adversely change in the future. The failure to obtain an
adequate supply of products, the loss of a major manufacturer or distributor,
the deterioration of the Company's relationship with a major manufacturer or
distributor, or the Company's inability in the future to develop new
relationships with other manufacturers and distributors could have a material
adverse effect on the Company's business, results of operations and financial
condition.
The Company's largest customer accounted for approximately 7%, 7% and
15% of the Company's revenue for the fiscal years ended July 31, 1999, 1998 and
1997, respectively, substantially all of which revenue was derived from the sale
of hardware products. There can be no assurance that the Company will continue
to derive substantial revenue from this customer.
The Company's profitability has been enhanced by its ability to obtain
volume discounts from certain manufacturers and distributors, which has been
dependent, in part, upon Manchester's ability to sell large quantities of
products to computer resellers, including VARs. There can be no assurance that
the Company will be able to continue to sell products to resellers and thereby
obtain the desired discounts from manufacturers and distributors or that the
Company will be able to increase sales to end-users to offset the need to rely
upon sales to resellers.
The markets for the Company's products and services are characterized
by rapidly changing technology and frequent introductions of new hardware and
software products and services, which render many existing products
14
noncompetitive, less profitable or obsolete. The Company believes that its
inventory controls have contributed to its ability to respond effectively to
these technological changes. As of July 31, 1999, 1998 and 1997, inventories
represented 13%, 16% and 17% of total assets, respectively. During these same
fiscal years, the Company's average inventory turnover was 22, 17 and 17 times,
respectively. The failure of the Company to anticipate technology trends or to
continue to effectively manage its inventory could have a material adverse
effect on the Company's business, results of operations and financial condition.
The Company believes its controls on accounts receivable have
contributed to its profitability. The Company's bad debt expense represented
.1%, .2% and .2% of total revenue for the fiscal years ended July 31, 1999, 1998
and 1997, respectively.
The Company's quarterly revenue and operating results have varied
significantly in the past and are expected to continue to do so in the future.
Quarterly revenue and operating results generally fluctuate as a result of the
demand for the Company's products and services, the introduction of new hardware
and software technologies with improved features, the introduction of new
services by the Company and its competitors, changes in the level of the
Company's operating expenses, competitive conditions and economic conditions. In
particular, the Company has increased certain of its fixed operating expenses,
including a significant increase in personnel, as part of its strategy to
increase its focus on providing higher margin services. Accordingly, the Company
believes that period-to-period comparisons of its operating results should not
be relied upon as an indication of future performance. In addition, the results
of any quarterly period are not necessarily indicative of results to be expected
for a full fiscal year.
As a result of the rapid changes which are taking place in computer and
networking technologies, product life cycles are short. Accordingly, the
Company's product offerings change constantly. Prices of products change with
generally higher prices early in the life cycle of the product and lower prices
near the end of the product's life cycle. The computer industry continues to
experience rapid declines in average selling prices of personal computers. In
some instances, the Company has been able to offset these price declines with
increases in units shipped. There can be no assurance that average selling
prices will not continue to decline or that the Company will be able to offset
declines in average selling prices with increases in units shipped.
Most of the personal computers shipped by the Company utilize operating
systems developed by Microsoft Corporation. The United States Department of
Justice has brought an antitrust action against Microsoft, which could delay the
introduction and distribution of Microsoft products. The potential
unavailability of Microsoft products could have a material adverse effect on the
Company's business, results of operations and financial condition.
The Company leases certain warehouses and offices from entities that
are owned or controlled by the Company's majority shareholder. Each of the
leases with related parties has been amended effective with the closing of the
Company's initial public offering in December 1996 to reduce the rent payable
under that lease to then current market rates.
Year 2000 Issue
Many existing computer systems, including certain of the Company's
internal systems as well as those that the Company sells to customers, use only
the last two digits to identify years in the date field. As a result, those
systems may not accurately distinguish years in the 21st century from years in
the 20th century, or may not function properly when faced with years later than
1999. This problem is generally referred to as the "Year 2000 Issue." Computer
systems that are able to deal correctly with dates after 1999 are referred to as
"Year-2000-Compliant."
The Company has undertaken a complete and thorough review of all of its
operations to determine those aspects which involve or are dependent upon a
computer application. The Company is reviewing the software and operating
systems for each such application to determine if it is Year-2000-Compliant. Any
such system or application which has been identified as not Year-2000-Compliant
has been modified or upgraded to assure our continued ability to operate without
interruption. Manchester's year 2000 project has been underway for over a year
and is aimed at ensuring that, when the year 2000 arrives, all applications used
on Manchester's AS/400 computer system are Year-2000-Compliant. As of October
12, 1999 the following tasks have been completed:
o All programs containing date manipulations, calculations or comparison
routines have been identified.
o All of these programs have been modified to be Year-2000-Compliant.
o Physical database files and supporting logical views of these files that
contain date data and sequencing by date have been identified and these
files have been modified as required to be Year-2000-Compliant.
15
Manchester's communications, local, and wide area networks have been tested or
represented (by the manufacturers) to be Year-2000-Compliant, with a few minor
exceptions that should be resolved shortly. Our status as of October 12, 1999 is
as follows:
o The local area network operations systems have been represented to be
Year-2000-Compliant by their manufacturers/publishers.
o The network servers have been represented to be Year- 2000-Compliant by
their manufacturers.
o An audit of all wide area network devices has been completed and the
recommended changes have been made. o An audit has been completed assessing
the compliance level of all computers and recommended upgrades have been
made.
o We continue to audit software applications on our local area network.
Products that are identified as non-compliant are either being upgraded or
removed.
o The telephone system has been represented by its manufacturer to be
Year-2000-Compliant.
o We have received assurances of compliance from vendors of other types of
equipment (e.g. alarm, HVAC), either via correspondence or from information
on their websites.
Testing and monitoring will be on going throughout the rest of the year. The
Company is in the process of obtaining assurances regarding Year 2000 compliance
from other companies upon which it may rely for products or services.
The Company expects to implement successfully the systems and programming
changes necessary to address the Year 2000 Issue. The Company expects to
implement these changes using primarily internal information technology and
other personnel. Moreover, the Company does not expect the costs associated with
that implementation to be material to the Company's financial position or
results of operations.
With respect to products sold to customers, the Company does not warrant
any products sold as Year-2000-Compliant. Instead, the Company refers customers
to any warrantees provided by the product's manufacturers.
The Company believes the most reasonably likely worst case Year 2000
scenario would include a combination of some or all of the following:
o Internal information technology modules or systems may fail to operate or
may give erroneous information. Such failure could result in shipping
delays, inability to generate or delays in generation of financial reports
and statements, inability of the Company to communicate among its various
offices, and computer network downtime resulting in inefficiencies and
higher payroll expenses.
o Components in HVAC, lighting, telephone, security and similar systems might
fail, causing such systems to fail.
o Communications with customers and vendors that the Company depends upon may
fail or give erroneous information. These types of problems could result in
such difficulties as the inability to receive or process customer orders,
shipping delays, or sale of products at erroneous prices. Furthermore,
customers may be unable to, or may suffer delays, in remitting payments to
the Company on a timely basis.
o The unavailability of products as a result of Year 2000 problems
experienced by one or more key vendors of the Company, or as a result of
changes in inventory levels at aggregators, VARs and similar providers in
response to an anticipated Year 2000 problem and/or the inability of the
Company to develop alternative sources for products may result in the
inability of the Company to obtain an adequate supply of products.
o Products sold to some of the Company's customers could fail to perform some
or all of their intended functions. In such a situation, the Company's
maximum obligation would be to repair or replace the defective products to
the extent the Company is required to do so under manufacturer reimbursed
warranty programs.
The Company believes its plans for addressing the Year 2000 Issue as
outlined above are adequate to handle the most reasonably likely worst case
16
scenario. The Company does not believe it will incur a material financial impact
for the risk of failure, or from the costs associated with assessing the risks
of failure, arising from the Year 2000 Issue. Consequently, the Company does not
intend to create a contingency plan other than as set forth above. In addition,
if the Company's assessment of its vendors, when completed, indicates that
certain product shortages can be anticipated, the Company may adjust its plans
accordingly, although the Company does believe that it has the capacity to
maintain significant levels of inventory.
The statements above describing the Company's plans and objectives for
handling the Year 2000 Issue and the expected impact of the Year 2000 Issue on
the Company are forward-looking statements. Those statements involve risks and
uncertainties that could cause actual results to differ materially from the
results discussed above. Factors that might cause such a difference include, but
are not limited to, delays in executing the plan outlined above and increased or
unforeseen costs associated with the implementation of the plan and any
necessary changes to the Company's systems. Any inability on the part of the
Company to implement necessary changes in a timely fashion could have an adverse
effect on future results of operations. Moreover, even if the Company
successfully implements the changes necessary to address the Year 2000 Issue,
there can be no assurance that the Company will not be adversely affected by the
failure of others to become Year-2000-Compliant.
E-Commerce
On January 18, 1999, the Company officially launched its new website
and electronic commerce system. The new site, located at www.e-manchester.com,
allows existing customers, corporate shoppers and others to find product
specifications, compare products, check price and availability and place and
track orders quickly and easily 24 hours a day seven days a week. The Company
has made and expects to continue to make, significant investments and
improvements in its e-commerce capabilities. There can be no assurance that the
Company will be successful in enhancing and increasing its business through its
expanded Internet presence.
On June 25, 1999, the Company announced the launch of a new consumer
products on-line super store, Marketplace4U.com ("MP4U"). MP4U offers consumers
great selection, price and service as well as a choice for savings. MP4U offers
products in categories such as consumer electronics, automotive accessories,
outdoor and camping equipment from each of its three "on line" stores. The first
store (Marketplace4U) displays current top brand products at aggressive and
competitive prices; the second store (FactoryNew4U) sells factory
remanufactured, warranteed top-brand products at even greater savings; the third
store (Closeouts4U) features new products that are brand name close-outs and
special purchases. During the fiscal year ended July 31, 1999 revenues from MP4U
were immaterial. There can be no assurance that MP4U will generate significant
revenue or that any of the Company's on-line stores will operate profitably.
Recent Acquisition
On January 2, 1998, the Company acquired all of the outstanding shares
of Coastal Office Products, Inc. ("Coastal"), a Maryland corporation and a
reseller and provider of microcomputer services and peripherals to companies in
the greater Baltimore, Maryland area. The acquisition, which has been accounted
for as a purchase, consisted of a cash payment of approximately $3.1 million at
closing, an additional payment of $871,000 in cash on March 15, 1999, plus
potential future contingent payments. The cash payments were made from the
Company's cash balances. Contingent payments of up to $1,050,000 in calendar
1999 will be determined based upon achieving certain agreed upon increases in
revenue and pretax income for calendar 1999 over calendar 1997 amounts.
Contingent payments, if any, would be paid in cash (or, under certain
conditions, in Company common stock) on March 15, 2000. Operating results of
Coastal are included in the Consolidated Statements of Income from the date of
acquisition. The acquisition resulted in goodwill of $3,976,000 which is being
amortized on the straight-line basis over 20 years.
17
Results of Operations
The following table sets forth, for the periods indicated, information
derived from the Company's consolidated statements of income expressed as a
percentage of related revenue or total revenue.
Percentage of Revenue
the Year Ended July 31,
1999 1998 1997
---- ---- ----
Revenue
Products 97.0% 97.4% 98.7%
Services 3.0 2.6 1.3
--- --- ---
100.0 100.0 100.0
----- ----- -----
Cost of revenue
Products 86.1 85.2 86.2
Services 65.3 72.1 54.4
---- ---- ----
85.5 84.9 85.8
---- ---- ----
Product gross profit 13.9 14.8 13.8
Services gross profit 34.7 27.9 45.6
---- ---- ----
Gross profit 14.5 15.1 14.2
Selling, general and administrative expenses 13.0 13.5 11.2
---- ---- ----
Income from operations 1.5 1.6 3.0
Interest and other income (expenses), net .2 0.3 0.2
--- --- ----
Income before income taxes 1.7 1.9 3.2
Provision for income taxes 0.7 0.8 1.3
--- --- ---
Net income 1.0% 1.1% 1.9%
=== === ====
Year Ended July 31, 1999 Compared to Year Ended July 31, 1998
Revenue. The Company's revenue increased $26.1 million or 12.9% from
$202.5 million in fiscal 1998 to $228.6 million for fiscal 1999. Revenue from
product sales increased by $24.5 million (12.4%) primarily due to higher revenue
generated from the Company's wholly-owned subsidiaries, Electrograph Systems,
Inc. ("Electrograph") which was acquired on April 25, 1997 and Coastal Office
Products, Inc., which was acquired on January 2, 1998, as well as increases in
the number of personal computers shipped. These increases were partially offset
by lower average selling prices for personal computers. Services revenue
increased by $1.6 million, or 29.7%, reflecting the Company's continued emphasis
on providing services.
Gross Profit. Cost of revenue includes the direct costs of products
sold, freight and the personnel costs associated with providing technical
services, offset in part by certain market development funds provided by
manufacturers. All other operating costs are included in selling, general and
administrative expenses. Gross profit increased by $2.6 million or 8.6% from
$30.6 million for fiscal 1998 to $33.2 million for fiscal 1999. Gross profit
from the sale of products increased by $1.7 million or 5.9% due primarily to
increases in revenue partially offset by less favorable mix of products sold.
Gross profit generated through service offerings increased by $911,000 or 61.2%
reflecting improved service revenue, as discussed above, as well as improved
productivity and utilization of personnel associated with providing technical
services.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased $2.4 million or 8.9% from $27.4 million in
fiscal 1998 to $29.8 million in fiscal 1999. This increase primarily relates to
higher personnel costs associated with enhancing the Company's e-commerce
capabilities and building the infrastructure to provide Internet based solutions
to our customers. The Company also experienced higher operating costs at
Electrograph and Coastal as well as higher advertising, depreciation and rent
expenses in fiscal 1999.
Other Income (Expense). Interest income decreased due to lower cash
balances available for investment.
18
Provision for Income Taxes. The Company's effective income tax rate
increased slightly from 41.8% in fiscal 1998 to 42.1% in fiscal 1999 primarily
due to non-deductible amortization of goodwill associated with the Coastal
acquisition.
Year Ended July 31, 1998 Compared to Year Ended July 31, 1997
Revenue. The Company's revenue increased $14.7 million or 7.8% from
$187.8 million in fiscal 1997 to $202.5 million for fiscal 1998. Revenue from
product sales increased by $11.8 million (6.4%) primarily due to revenue
generated from the Company's new wholly-owned subsidiaries, Electrograph and
Coastal Office Products, Inc., as well as increases in the number of personal
computers shipped. These increases were partially offset by lower revenue from
the Company's major customer and lower average selling prices for personal
computers. Services revenue increased by $2.9 million, or 122.0%, reflecting the
Company's continued emphasis on providing value-added services.
Gross Profit. Gross profit increased by $4.0 million or 15.0% from
$26.6 million for fiscal 1997 to $30.6 million for fiscal 1998. Gross profit
from the sale of products increased by $3.6 million or 14.1% due primarily to
increases in revenue as well as favorable changes in the mix of products sold.
Gross profit generated through service offerings increased by $394,000 or 36.0%
reflecting improved service revenue, as discussed above, partially offset by
greater expenditures in salaries and other personnel costs associated with
providing technical services. Fiscal 1998 costs of services reflect the costs of
technical and engineering personnel added during the year as a part of the
Company's strategy to grow higher margin service related business.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased $6.4 million or 30.4% from $21.0 million in
fiscal 1997 to $27.4 million in fiscal 1998. This increase is principally a
result of higher salaries and personnel costs related to the Company's increased
emphasis on providing value added services as well as additional operating costs
associated with the Company's new subsidiaries, Electrograph and Coastal. In
addition, the Company incurred higher commission, depreciation and amortization,
training and professional costs.
Other Income (Expense). Interest expense decreased due to lower borrowings
by the Company. Interest income is generated by the investment of the Company's
excess cash balances.
Provision for Income Taxes. The Company's effective income tax rate
increased from 40.9% in fiscal 1997 to 41.8% in fiscal 1998 due to higher state
and local taxes in new and existing jurisdictions as well as non-deductible
amortization of goodwill associated with the Coastal acquisition.
Liquidity and Capital Resources
The Company's primary sources of financing in fiscal 1999 have been
internally generated working capital from profitable operations and a line of
credit from a financial institution.
For the year ended July 31, 1999, cash provided by operating activities
was $676,000 consisting primarily of net income and non cash charges
(principally depreciation and amortization), increases in accounts payable and
accrued expenses, decreased inventory and sales of trading investments partially
offset by increases in accounts receivable. The Company's accounts receivable
and accounts payable and accrued expenses balances, as well as its investment in
inventory, can fluctuate significantly from one period to the next due to the
receipt of large customer orders or payments or variations in product
availability and vendor shipping patterns at any particular date. Generally, the
Company's experience is that increases in accounts receivable, inventory and
accounts payable and accrued expenses will coincide with growth in revenue and
increased operating levels. The Company experienced particularly strong demand
for its products during the month of July, 1999 resulting in significantly
higher accounts receivables balances at July 31, 1999. In addition, during the
year ended July 31, 1999, the Company used approximately $1.7 million for
capital expenditures and $900,000 as an additional contingent payment for the
purchase of Coastal.
The Company has available lines of credit with financial institutions in
the aggregate amount of $15.0 million. At July 31, 1999, no amounts were
outstanding under this line.
The Company believes that its current balances in cash and cash
equivalents and investments, expected cash flows from operations and available
borrowings under the lines of credit will be adequate to support current
operating levels for the foreseeable future, specifically through at least the
end of fiscal 2000. The Company currently has no material commitments for
capital expenditures. Future capital requirements of the Company include those
for the growth of working capital items such as accounts receivable and
inventory, the purchase of equipment and expansion of facilities, potential
contingent acquisition payments of $1,050,000, as well as the possible opening
of new offices and potential acquisitions.
19
Inflation
The Company does not believe that inflation has had a material effect on
the Company's operations.
ITEM 8. Financial Statements and Supplementary Data
See Item 14.
ITEM 9. Changes In and Disagreements with Accountants on Accounting and
Financial Disclosure
None.
20
PART III
ITEM 10. Directors and Executive Officers of the Registrant
The following table sets forth information concerning each of the
directors and executive officers of the Company:
Name Age Position
Barry R. Steinberg 57 Chairman of the Board, President, Chief
Executive Officer and Director
Joel G. Stemple, Ph.D 57 Executive Vice President, Secretary and Director
Joseph Looney 42 Chief Financial Officer and Assistant Secretary
Joel Rothlein, Esq. 70 Director
Bert Rudofsky 65 Director
Michael E. Russell 52 Director
Julian Sandler 55 Director
Barry R. Steinberg, the founder of the Company, has served as its Chairman
of the Board, President and Chief Executive Officer and as a director since
Manchester's formation in 1973. Mr. Steinberg previously served as a systems
analyst for Sleepwater, Inc. and Henry Glass and Co.
Joel G. Stemple, Ph.D. has served as Executive Vice President since
September 1996 and as Vice President and as a director since August 1982. Dr.
Stemple previously performed consulting services for the Company and, from 1966
to 1982, served as Assistant and Associate Professor of Mathematics at Queens
College, City University of New York.
Joseph Looney has served as the Company's Chief Financial Officer since
May 1996 and as Assistant Secretary since April 1999. From 1984 until joining
the Company, Mr. Looney served in various positions with KPMG Peat Marwick LLP,
including Senior Audit Manager at the end of his tenure at such firm. Mr. Looney
is a Certified Public Accountant, a member of the AICPA, the New York State
Society of Certified Public Accountants and the Institute of Internal Auditors.
Joel Rothlein, Esq. has been a director of the Company since October 1996.
Mr. Rothlein is a partner in the law firm of Kressel Rothlein & Roth, Esqs.,
Massapequa, New York, where he has practiced law since 1955. Kressel Rothlein &
Roth, Esqs. and its predecessor firms have acted as outside general counsel to
the Company since the Company's inception.
Bert Rudofsky became a director on July 15, 1998. Mr. Rudofsky is the
founder and president of Bert Rudofsky and Associates, a management consulting
firm specializing in the computer industry. Mr. Rudofsky was a founder of MTI
Systems Corp., a leading edge, technical, value-added distribution company
specializing in computer and data communications products. Mr. Rudofsky was CEO
of MTI from 1968 until MTI was sold in 1990.
Michael E. Russell became a director on July 15, 1998. Mr. Russell is
presently a senior vice president at Prudential Securities Incorporated and has
held several distinguished positions as a member of the business community, as a
member of the New York State Metropolitan Transportation Authority (1997-1989),
as commissioner of the New York State Commission on Cable Television (1989-1991)
and as Special Assistant to the New York State Senate Majority Leader
(1991-1994).
Julian Sandler became a director on December 2, 1996. Mr. Sandler is
Chief Executive Officer of Rent-a-PC, Inc., a full-service provider of
short-term computer rentals, which Mr. Sandler founded in 1984. Mr. Sandler is
also the founder and was the President from 1974 to 1993 of Brookvale
Associates, a national organization specializing in the remarketing of hardware
manufactured by Digital Equipment Corporation. Mr. Sandler also co-founded and
from 1970 to 1973 was Vice President of Periphonics Corporation, a developer and
manufacturer of voice response systems.
21
Section 16(a) Beneficial Reporting Compliance
Section 16 of the Securities Exchange Act of 1934, as amended, requires
that officers, directors and holders of more than 10% of the Common Stock
(collectively, "Reporting Persons") file reports of their trading in the
Company's equity securities with the Securities and Exchange Commission. Based
on a review of Section 16 forms filed by the Reporting Persons during the fiscal
year ended July 31, 1999, the Company believes that the Reporting Persons timely
complied with all applicable Section 16 filing requirements.
ITEM 11. Executive Compensation.
The following table sets forth a summary of the compensation paid or
accrued by the Company during the fiscal years ended July 31, 1999, 1998 and
1997 to the Company's Chief Executive Officer and the other executive officers
whose compensation exceeded $100,000 (collectively, the "Named Executive
Officers"):
Summary Compensation Table
Long Term
Compensation
Annual Compensation Common Stock
Name and Other Annual Underlying All Other
Principal Position Year Salary Bonus Compensation(1) Options Compensation
- - ------------------- ---------------------------------------------------------------------------------
Barry R. Steinberg, 1999 $650,000 - $23,806(2) - -
President and Chief 1998 $550,000 - $37,031(2) - -
Executive Officer 1997 $550,000 - $59,252(2) - -
Joel G. Stemple, Executive 1999 $450,000 - $13,881(3) - -
Vice President and 1998 $450,000 - $22,194(3) - -
Secretary 1997 $450,000 - $33,050(3) - -
Joseph Looney, Chief 1999 $200,000 $15,000 $15,061(4) - -
Financial Officer and 1998 $140,394 $40,000 $13,677(4) 70,000(5)
Assistant Secretary 1997 $125,489 $47,500 $7,610 70,000(5)
No restricted stock awards, stock appreciation rights or long-term incentive
plan awards (all as defined in the proxy regulations
promulgated by the Securities and Exchange Commission) were awarded to, earned
by, or paid to the Named Executive Officers during the fiscal year ended July
31, 1999.
- - ------------------
(1) Includes in fiscal 1999 employer matching contributions to the Company's
defined contribution plan of $4,800, $4,800 and $4,960 for Messrs.
Steinberg, Stemple, and Looney, respectively, fiscal 1998 employer
matching contributions of $4,950, $4,800 and $3,477 for Messrs. Steinberg,
Stemple and Looney, respectively, and fiscal 1997 employer matching
contributions to the Company's defined contribution plan of $6,252, $6,675
and $2,510 for Messrs. Steinberg, Stemple and Looney, respectively.
(2) Includes $15,399 in 1999, $32,081 in 1998 and $50,000 in 1997 of premiums
paid by the Company for a whole life insurance policy in the name of Mr.
Steinberg having a face value of $2,600,000 and under which his daughters,
on the one hand, and the Company, on the other hand, are beneficiaries and
share equally in the death benefits payable under the policy.
(3) Includes $7,606 in 1999, $17,394 of premiums in 1998 and $25,000 in 1997
paid by the Company for a whole life insurance policy in the name of the
executive officer having a face value of $1,300,000 and under which his
spouse and the Company are beneficiaries and are entitled to $600,000 and
$700,000, respectively, of the death benefits payable under the policy.
(4) Includes $5,000 in each of 1999 and 1998 of premiums paid by the Company
for a whole life insurance policy in the name of the executive officer
having a face value of $345,000 and under which his spouse and the Company
are beneficiaries and are entitled to $100,000 and $245,000, respectively,
of the death benefits payable under the policy.
(5) The grant of 70,000 options during fiscal 1998 represents a repricing of
the 70,000 options granted to Mr. Looney during fiscal 1997.
22
Barry R. Steinberg agreed with the Company that his annual base salary for
services rendered to the Company in his current positions as President and Chief
Executive Officer would be $550,000 in each of the fiscal years ending July 31,
1997 and 1998. Mr. Steinberg further agreed that he would not be eligible to
receive any bonus in fiscal 1997 and that any bonus payable for fiscal 1998
would require the approval of a majority of the independent directors of the
Company. No bonus was paid for fiscal 1997, 1998 or 1999. The Company continues
to make available to Mr. Steinberg the car allowance and deferred compensation
benefits that he has historically received. Mr. Steinberg also participates in
other benefits that the Company makes generally available to its employees, such
as medical and other insurance, and Mr. Steinberg is eligible to participate
under the Company's stock option plan. In the event Mr. Steinberg's employment
with the Company were terminated, he would not be precluded from competing with
the Company.
The Company has an employment agreement with Joel G. Stemple, Ph.D.,
under which Dr. Stemple received a base salary of $450,000 in each of the fiscal
years ending July 31, 1997 and 1998. Under the employment agreement, Dr. Stemple
was not eligible to receive any bonus in fiscal 1997 and any bonus payable to
Dr. Stemple for fiscal 1998 required approval by a majority of the independent
directors of the Company. No bonus was paid for fiscal 1997, 1998 or 1999. Under
the employment agreement, the Company provides Dr. Stemple with an automobile
and certain deferred compensation benefits and provides Dr. Stemple with medical
and other benefits generally offered by the Company to its employees. Dr.
Stemple also is able to participate in the Company's stock option plan. The
employment agreement is terminable by either party on 90 days' prior notice. In
the event the Company so terminates Dr. Stemple's employment, or the Company
elects not to renew his employment agreement, he is entitled to severance equal
to 12 months of his then current base salary. This severance will be payable in
accordance with the Company's customary payroll practices. Under the employment
agreement, if Dr. Stemple terminates his employment, or the Company terminates
his employment for cause, Dr. Stemple is prohibited, for a two-year period from
such termination, from competing with the Company in the eastern half of the
United States.
The Compensation Committee of the Company's Board of Directors determines
compensation for the Company's executive officers. Effective August 1, 1998,
based upon the recommendation of the Compensation Committee, the annual base
salaries of Mr. Steinberg, Mr. Stemple and Mr. Looney were set at $650,000,
$450,000 and $200,000, respectively.
Option/SAR Grants in the Last Fiscal Year
No stock options were granted to the Named Executive Officers during
fiscal 1999. No stock appreciation rights have been granted by the Company.
Aggregated Options/SAR Exercises and Fiscal Year-end Options/SAR Value Table
The following table sets forth information with respect to the number
and value of exercisable and unexercisable options granted to the Named
Executive Officers as of July 31, 1999. No options were exercised by the Named
Executive Officers during the fiscal year ended July 31, 1999. No stock
appreciation rights have been granted by the Company.
Number of Securities Value of
Shares Underlying Unsecured Unexercised In-the-Money
Acquired Options/SAR's at Options/SAR's at
or Value July 31, 1999 July 31, 1999
Name Exercised Realized Exercisable/Unexercisable Exercisable/Unexercisable
Joseph Looney - - 15,000/55,000 $0
Compensation of Directors
Prior to July 15, 1998, directors who were not full-time employees of
the Company were reimbursed for their expenses and received a fee of $500 per
Board and committee meeting attended. On July 15, 1998, the Board adopted the
following program with respect to non-employee director compensation:
a) Commencing August 1, 1998 each such director will be paid a fixed annual
stipend of $5,000 payable in four quarterly installments.
b) Commencing with the meeting of July 15, 1998, each such director will
receive a fee of $1,500 per Board meeting attended.
23
c) Commencing August 1, 1998, each such director will receive a fee of $500
for each committee meeting attended, and the Chairman of each committee
will be paid a fixed annual stipend of $1,000, payable in four quarterly
installments.
d) Commencing August 1, 1998, and on each August 1 thereafter, each such
director who has served on the Board since the preceding August 1 will be
granted non-incentive options under the Plan to purchase 5,000 shares at an
exercise price equal to the fair market value of the Common Stock on the
date of such grant. Such options will be for a term of five years and will
exercisable immediately upon such grant.
On August 1, 1998, pursuant to and in accordance with the directors
compensation program described above, the Board of Directors granted to each of
Joel Rothlein and Julian Sandler, who are non-employee directors, non-incentive
options under the Plan to purchase 5,000 shares at an exercise price of $3.25
per share (the fair market value of the Common Stock on August 1, 1998). In
addition on August 1, 1999 pursuant to and in accordance with the directors
compensation program described above, the Board of Directors granted to each of
Joel Rothlein, Bert Rudofsky, Michael E. Russell and Julian Sandler, who are
non-employee directors, non-incentive options under the Plan to purchase 5,000
shares at on exercise price of $2.75 per share (the fair market value of the
Common Stock on August 2, 1999).
On October 19, 1998, the Board of Directors appointed a Special
Committee ("Special Committee") consisting of Bert Rudofsky, Michael Russell and
Julian Sandler to explore possible strategies and methods of enhancing
shareholder value. As compensation for their work on the Special Committee
through December 31, 1999, each member of the Committee was paid $10,000 on
February 1, 1999 and $10,000 on August 1, 1999.
Compensation Committee Interlocks and Insider Participation
The members of the Company's Compensation Committee are Joel Rothlein,
Esq., Julian Sandler, and Bert Rudofsky. Mr. Rothlein is a partner of Kressel
Rothlein & Roth, Esqs., which, with its predecessor firms, has acted as outside
general counsel to the Company since the Company's inception. Kressel Rothlein &
Roth, Esqs. was paid approximately $213,000, $217,000 and $655,000 from the
Company for legal fees in the fiscal years ended July 31, 1999, 1998 and 1997,
respectively. Fiscal 1997 fees to Kressel Rothlein & Roth, Esqs. included fees
paid to special counsel of $286,000. In addition, during the years ended July
31, 1999, 1998 and 1997, the Company recorded revenue of approximately $597,000,
$177,000 and $130,000, respectively, in connection with the sale of computer
equipment to a company controlled by Mr. Sandler.
The Company's Stock Option Plan is administered by the Board of
Directors. Barry R. Steinberg is President and Chief Executive Officer and Joel
G. Stemple is Executive Vice President of the Company and each of them is a
member of the Board. As members of the Board, they could vote on executive
compensation issues before the Board pertaining to the granting of stock
options. Although the issue has not arisen to date, each of Messrs. Steinberg
and Stemple has agreed to abstain from voting on the grant of stock options to
himself or to the other of them.
24
ITEM 12. Security Ownership of Certain Beneficial Owners and Management
The following table sets forth certain information as of October 12,
1999 (except as otherwise indicated) with respect to the number of shares of the
Company's common stock beneficially owned by each person who is known to the
Company to beneficially own more than 5% of the common stock, together with
their respective addresses, the number of shares of common stock beneficially
owned by each director of the Company and each Named Executive Officer of the
Company, and the number of shares of common stock beneficially owned by all
executive officers and directors of the Company as a group. Except as otherwise
indicated, each such shareholder has sole voting and investment power with
respect to the shares beneficially owned by such shareholder.
Shares Beneficially Percent of Shares
Name and Address Owned(1) Outstanding
---------------------------------------------------------------------
Barry R. Steinberg(2) (3) 4,690,201 57.7%
Joel G. Stemple(2) 626,263 7.7
Joseph Looney(4) 19,700 *
Joel Rothlein(5) 41,500 *
Bert Rudofsky (4) 5,000 *
Michael E. Russell (4) 5,000 *
Julian Sandler(4) 13,500 *
All executive officers and
directors as a group
(7 persons) (6) 5,401,164 66.4%
- - ------------------
(1) For purposes of determining the aggregate amount and percentage of shares
deemed beneficially owned by directors and Named Executive Officers of the
Company individually and by all directors, nominees and Named Executive
Officers as a group, exercise of all currently exercisable options listed
in the footnotes hereto is assumed. For such purposes 8,132,300 shares of
Common Stock are deemed to be outstanding.
(2) Address is 160 Oser Avenue, Hauppauge, New York 11788.
(3) Excludes 59,500 shares owned by Ilene Steinberg and 59,000 shares owned by
Sheryl Steinberg, daughters of Mr. Steinberg, which shares were purchased
with the proceeds of a loan from Mr. Steinberg. As reported on Schedule 13D
filed on March 24, 1997, as amended, Mr. Steinberg, Ilene Steinberg, and
Sheryl Steinberg each disclaim beneficial ownership of the common stock
owned by the others.
(4) Includes currently exercisable options to purchase 15,000 shares (Mr.
Looney; 12,500 shares (Mr. Sandler); 5,000 shares (Mr. Rudofsky); 5,000
shares (Mr. Rothlein); and 5,000 shares (Mr. Russell).
(5) Consists of currently exercisable options to acquire 10,000 shares of
common stock and 31,500 shares held by the Kressel, Rothlein & Roth Profit
Sharing Plan. Mr. Rothlein disclaims beneficial ownership of the Common
Stock owned by the Kressel Rothlein & Roth Profit Sharing Plan, except to
the extent of his beneficial interest in such plan.
(6) See Notes 1 through 5 above.
* Represents less than one tenth of one percent of outstanding shares.
25
ITEM 13. Certain Relationships and Related Transactions
Until August 1994, the Company was affiliated with Electrograph
Systems, Inc. ("Electrograph"). Barry R. Steinberg, the Company's President and
Chief Executive Officer and its majority shareholder, served as Electrograph's
Chairman of the Board and Chief Financial Officer and had beneficial ownership
(directly and through shares held by his spouse and certain trusts, of which his
children are beneficiaries) of 35.5% of the outstanding shares of common stock
of Electrograph. During the fiscal years ended July 31, 1993 and 1994, the
Company paid approximately $322,000 and $385,000, respectively, to Electrograph
for the purchase of products. In August 1994, Bitwise Designs, Inc. ("Bitwise"),
a publicly-traded company engaged in the manufacture and distribution of
document imaging systems, personal and industrial computers and related
peripherals, acquired Electrograph through a stock-for-stock merger; Mr.
Steinberg acquired beneficial ownership of less than 1% of the outstanding
capital stock of Bitwise for the common stock of Electrograph in which he had a
direct or indirect beneficial interest. Mr. Steinberg served as a director of,
and provided consulting services to, Bitwise from August 1994 through September
17, 1996. On April 25, 1997, the Company purchased substantially all of the
assets of Electrograph Systems, Inc. See Item 1 - Business "Acquisitions".
Three of the Company's four Hauppauge, New York facilities are leased
from entities affiliated with certain of the Company's executive officers,
directors or principal shareholders. The property located at 40 Marcus
Boulevard, Hauppauge, New York is leased from a limited liability company owned
70% by Mr. Steinberg and his relatives, 20% by Joel G. Stemple, Ph.D., the
Company's Executive Vice President and a principal shareholder, and 10% by
Michael Bivona, a shareholder and former officer of the Company. For the fiscal
years ended July 31, 1999, 1998 and 1997, the Company made lease payments of
$186,000, $179,000 and $174,000, respectively, to such entity. The Company's
offices at 160 Oser Avenue, Hauppauge, New York are leased from a limited
liability company owned 65% by Mr. Steinberg, 17.5% by Dr. Stemple and 17.5% by
Mr. Bivona. For the fiscal years ended July 31, 1999, 1998, and 1997, the
Company made lease payments of $271,000, $263,000 and $259,000, respectively, to
such entity. The property located at 50 Marcus Boulevard, Hauppauge, New York is
leased from Mr. Steinberg doing business in the name of Marcus Realty. For the
fiscal years ended July 31, 1999, 1998 and 1997, the Company made lease payments
of $344,000, $340,000, and $329,000, respectively, to such entity. See
"Business--Properties."
Joel Rothlein, Esq., a director of the Company, is a partner of Kressel
Rothlein & Roth, Esqs., which, with its predecessor firms, has acted as outside
general counsel to the Company since the Company's inception. Kressel Rothlein &
Roth, Esqs. received fees of approximately $655,000 from the Company in the
fiscal year ended July 31, 1997, which sum includes fees paid to special counsel
($286,000). During fiscal 1999 and 1998, $213,000 and $217,000 respectively was
paid to such firm for legal fees.
During the year ended July 31, 1999, 1998 and 1997, the Company
recorded revenue of $597,000, $177,000 and $130,000 respectively in connection
with the sale of computer equipment to a company controlled by Julian Sandler, a
director of the Company.
26
PART IV
ITEM 14. Exhibits, Financial Statements, Schedules, and Reports on Form 8-K
(a) (1) Financial Statements
The financial statements included herein are filed as a part
of this Report.
Manchester Equipment Co., Inc.
INDEX TO FINANCIAL STATEMENTS
Page
Independent Auditors' Report 28
Consolidated Financial Statements:
Balance Sheets as of July 31, 1999 and 1998 29
Statements of Income for the years ended
July 31, 1999, 1998, and 1997 30
Statements of Shareholders' Equity for the years
ended July 31, 1999, 1998 and 1997 31
Statements of Cash Flows for the years ended
July 31, 1999, 1998 and 1997 32
Notes to Consolidated Financial Statements 33
Schedule II - Valuation and Qualifying Accounts 47
27
Independent Auditors' Report
The Board of Directors and Shareholders
Manchester Equipment Co., Inc.:
We have audited the accompanying consolidated balance sheets of Manchester
Equipment Co., Inc. and subsidiaries as of July 31, 1999 and 1998 and the
related consolidated statements of income, shareholders' equity and cash flows
for each of the years in the three-year period ended July 31, 1999. In
connection with our audits of the consolidated financial statements, we have
also audited the financial statement schedule as listed in the accompanying
index. These consolidated financial statements and financial statement schedule
are the responsibility of the Company's management. Our responsibility is to
express an opinion on these consolidated financial statements and financial
statement schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Manchester Equipment
Co., Inc. and subsidiaries at July 31, 1999 and 1998, and the results of their
operations and their cash flows for each of the years in the three-year period
ended July 31, 1999, in conformity with generally accepted accounting
principles. Also, in our opinion, the related financial statement schedule, when
considered in relation to the basic consolidated financial statements taken as a
whole, presents fairly, in all material respects, the information set forth
therein.
KPMG LLP
Melville, New York
September 20, 1999
28
Manchester Equipment Company, Inc. and Subsidiaries
Consolidated Balance Sheets
July 31, 1999 and 1998
Assets 1999 1998
------ ---- ----
(in thousands)
Current assets:
Cash and cash equivalents $5,749 $7,816
Investments - 1,501
Accounts receivable, net of allowance for doubtful accounts
of $1,204 and $1,151, respectively 34,747 26,296
Inventory 8,245 9,167
Deferred income taxes 538 482
Prepaid expenses and other current assets 340 290
--- -----
Total current assets 49,619 45,552
Property and equipment, net 6,248 5,975
Goodwill, net 5,070 4,325
Deferred income taxes 560 475
Other assets 281 567
--- ------
$61,778 $56,894
====== =======
Liabilities and Shareholders' Equity
Current liabilities:
Current maturities of long-term debt $ 85 $ 82
Accounts payable and accrued expenses 20,824 18,358
Deferred service contract revenue 581 775
Income taxes payable 668 225
--- -------
Total current liabilities 22,158 19,440
Deferred compensation payable 34 109
Commitments and contingencies (note 7)
Shareholders' equity:
Preferred stock, $.01 par value, 5,000 shares
authorized, none issued - -
Common stock, $.01 par value; 25,000 shares
authorized, 8,085 and 8,097 shares issued
and outstanding 81 81
Additional paid-in capital 18,799 18,767
Deferred compensation (38) (64)
Retained earnings 20,744 18,561
------ ------
Total shareholders' equity 39,586 37,345
------ ------
$61,778 $56,894
====== ======
See accompanying notes to consolidated financial statements.
29
Manchester Equipment Company, Inc. and Subsidiaries
Consolidated Statements of Income
Years ended July 31, 1999, 1998 and 1997
1999 1998 1997
---- ---- ----
(in thousands except per share amounts)
Revenue
Products $221,719 $197,194 $185,397
Services 6,922 5,336 2,404
----- ----- -----
228,641 202,530 187,801
------- ------- -------
Cost of revenue
Products 190,901 168,083 159,877
Services 4,522 3,847 1,309
----- ----- -----
195,423 171,930 161,186
------- ------- -------
Gross profit 33,218 30,600 26,615
Selling, general and administrative expenses 29,849 27,414 21,023
------ ------ ------
Income from operations 3,369 3,186 5,592
Other income (expense):
Interest expense (8) (41) (225)
Interest and investment income 412 587 560
Other - - 60
---- ---- -----
Income before provision for income taxes 3,773 3,732 5,987
Provision for income taxes 1,590 1,560 2,450
----- ----- -----
Net income $2,183 $2,172 $3,537
===== ===== ======
Net income per share
Basic $0.27 $0.26 $0.45
==== ==== =====
Diluted $0.27 $0.26 $0.45
==== ==== =====
Weighted average shares of common
stock and equivalents outstanding
Basic 8,096 8,494 7,779
===== ===== =====
Diluted 8,096 8,499 7,779
===== ===== =====
See accompanying notes to consolidated financial statements.
30
Manchester Equipment Company, Inc. and Subsidiaries
Consolidated Statements of Shareholders' Equity
Years ended July 31, 1999, 1998 and 1997
Additional
Common Par Paid-in Deferred Retained
Shares Value Capital Compensation earnings Total
------ ----- ------- ------------ -------- -----
(in thousands)
Balance July 31, 1996 6,200 $62 $ - $ - $8,113 $8,175
Issuance of common stock 2,325 23 20,391 - - 20,414
Stock option commission
expense - - 12 - - 12
Transfer of redeemable
common stock - - - - 4,739 4,739
Net income - - - - 3,537 3,537
-------- -- ----- -- ----- -----
Balance July 31, 1997 8,525 85 20,403 - 16,389 36,877
Deferred compensation 20 - 80 (80) - -
Purchase and retirement of stock (448) (4) (1,781) - - (1,785)
Stock option commission expense - - 65 - - 65
Stock award compensation
expense - - - 16 - 16
Net income - - - - 2,172 2,172
--------- --- ------- --- ----- -----
Balance July 31, 1998 8,097 81 18,767 (64) 18,561 37,345
Purchase and retirement of stock (12) - (33) - - (33)
Stock option commission expense - 65 - - 65
Stock award compensation expense - - 26 - 26
Net income - - - 2,183 2,183
---- --- -------- --- ----- -----
Balance July 31, 1999 8,085 $81 $18,799 $(38) $20,744 $39,586
===== === ====== ==== ====== ======
See accompanying notes to consolidated financial statements.
31
Manchester Equipment Company, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
Years ended July 31, 1999, 1998 and 1997
1999 1998 1997
---- ---- ----
(in thousands)
Cash flows from operating activities:
Net income $2,183 $2,172 $3,537
Adjustments to reconcile net income to net cash from
operating activities:
Depreciation and amortization 1,835 1,340 720
Allowance for doubtful accounts 154 75 210
Non-cash compensation and commission expense 91 81 12
Deferred income taxes (141) (138) (90)
Gain on disposition of assets - - (37)
Change in assets and liabilities; net of the effects of
acquisitions:
Increase in accounts receivable (8,605) (4,430) (545)
Decrease in inventory 922 1,882 515
Increase in prepaid expenses and
other current assets (50) (12) (44)
Decrease in other assets 287 - 342
(Decrease) increase in accounts payable and
accrued expenses 2,325 (1,997) 221
Increase (decrease) in deferred service contract revenue (194) 213 118
Increase (decrease) in income taxes payable 443 225 (295)
Increase (decrease) in deferred compensation payable (75) 22 (96)
(Purchase) sale of investments 1,501 2,907 (4,408)
----- ----- ------
Net cash provided by operating activities 676 2,340 160
--- ----- ---
Cash flows from investing activities:
Capital expenditures (1,735) (2,972) (2,439)
Payment for acquisitions, net of cash acquired (871) (2,921) (1,886)
----- ------ -------
Net cash used in investing activities (2,606) (5,893) (4,325)
------- ----- ------
Cash flows from financing activities:
Net repayments or borrowings from bank - (1,274) (6,490)
Payments on note payable shareholder - - (353)
Payments on capitalized lease obligations (104) (140) (98)
Payments on notes payable - other - (481) (33)
Net proceeds from initial public offering - - 20,414
Purchase and retirement of common stock (33) (1,785) -
---- ------ ------
Net cash provided by (used in) financing activities (137) (3,680) 13,440
----- ------- ------
Net increase (decrease) in cash and cash equivalents (2,067) (7,233) 9,275
Cash and cash equivalents at beginning of year 7,816 15,049 5,774
----- ------ -----
Cash and cash equivalents at end of year $5,749 $7,816 $15,049
===== ====== ======
Cash paid during the year for:
Interest $5 $41 $225
== === ====
Income taxes $992 $1,428 $2,868
=== ====== =====
Other noncash transactions:
Capitalized lease obligation $107 $ - $ -
==== === ===
See accompanying notes to consolidated financial statements.
32
Manchester Equipment Company, Inc. and Subsidiaries
Notes to Financial Statements
July 31, 1999, 1998 and 1997
(in thousands, except share and per share data)
(1) Operations and Summary of Significant Accounting Policies
---------------------------------------------------------
(a) The Company
Manchester Equipment Company, Inc. ("the Company") is a network
integrator and reseller of computer hardware, software and networking
products, primarily for commercial customers. The Company offers its
customers single-source solutions customized to their information systems
needs by combining value-added services with hardware, software,
networking products and peripherals from leading vendors.
Sales of hardware, software and networking products comprise the
majority of the Company's revenues. The Company has entered into
agreements with certain suppliers and manufacturers which provide the
Company favorable pricing and price protection in the event the vendor
reduces its prices.
(b) Principles of Consolidation
The consolidated financial statements include the accounts of the
Company and its wholly-owned subsidiaries. All material intercompany
transactions and balances are eliminated in consolidation.
(c) Cash Equivalents
The Company considers all highly liquid investments with original
maturities at the date of purchase of three months or less to be cash
equivalents.
(d) Investments
The Company classifies its marketable debt securities in one of three
categories: trading, available for sale, or held to maturity and its
marketable equity securities as trading, or available for sale. Trading
securities are bought and held principally for the purpose of selling them
in the near term. Held-to-maturity securities are those debt securities in
which the Company has the ability and intent to hold the security until
maturity. All other securities not included in trading or held-to-maturity
are classified as available-for-sale.
Trading and available-for-sale securities are recorded at fair value.
Held-to-maturity securities are recorded at amortized cost, adjusted for
the amortization or accretion of premiums or discounts. Unrealized holding
gains and losses on trading securities are included in earnings.
Unrealized holding gains and losses, net of the related tax effect, on
available-for-sale securities are excluded from earnings and are reported
as a separate component of shareholders' equity until realized. Transfers
of securities between categories are recorded at fair value at the date of
transfer. Unrealized holding gains and losses are recognized in earnings
for transfers into trading securities.
Dividend and interest income are recognized when earned. Cost is
maintained on a specific identification basis for purposes of determining
realized gains and losses on sales of investments.
(e) Revenue Recognition
Revenue from product sales is recognized at the time of shipment to the
customer. Revenue from services is recognized when the related services
are performed. When product sales and services are bundled, revenue is
recognized upon delivery of the product and completion of the services.
Service contract fees are recognized as revenue ratably over the period of
the applicable contract. Deferred service contract revenue represents
33
Manchester Equipment Company, Inc. and Subsidiaries
Notes to Financial Statements
July 31, 1999, 1998 and 1997
(in thousands, except share and per share data)
the unearned portion of service contract fees. The Company generally does
not develop or sell software products. However, certain computer hardware
products sold by the Company are loaded with prepackaged software
products. The net impact on the Company's financial statements of product
returns, primarily for defective products has been insignificant.
(f) Market Development Funds
The Company receives various market development funds including
cooperative advertising funds from certain vendors, principally based on
volume purchases of products. The Company records such amounts related to
volume purchases as purchase discounts which reduce cost of revenue and
other incentives that require specific incremental action on the part of
the Company, such as training, advertising or other pre-approved market
development activities as an offset to the related costs included in
selling, general and administrative expenses. Total market development
funds amounted to $380, $623 and $521 for the years ended July 31, 1999,
1998 and 1997, respectively.
(g) Inventory
Inventory, consisting of computer hardware, software and related
supplies, is valued at the lower of cost (first-in first-out) or market
value.
(h) Property and Equipment
Property and equipment are stated at cost. Depreciation is provided
using the straight-line and accelerated methods over the economic lives of
the assets, generally from five to seven years. Leasehold improvements are
amortized over the shorter of the underlying lease term or asset life.
(i) Goodwill
Goodwill related to acquisitions represents the excess of cost over the
fair value of net assets acquired. Goodwill is amortized on a
straight-line basis over twenty years. The Company reviews the significant
assumptions that underlie the twenty-year amortization period on a
quarterly basis and will shorten the amortization period if considered
necessary. The Company assesses the recoverability of this intangible
asset by determining whether the amortization of the goodwill balance over
its remaining life can be recovered through projected undiscounted future
cash flows. Accumulated amortization was approximately $449 and $183 at
July 31, 1999 and 1998, respectively. Amortization expense of $266, $164
and $19 for the years ended July 31, 1999, 1998 and 1997 is included in
selling general and administrative expenses in the consolidated statements
of income.
The Company evaluates its long-lived assets, certain intangibles, and
goodwill related to those assets to be held and used, and long-lived
assets and certain identifiable intangibles to be disposed of and
recognizes an impairment if it is probable that the recorded amounts are
in excess of anticipated undiscounted future cash flows. If the sum of the
expected cash flows, undiscounted and without interest, is less than the
carrying amount of the assets, an impairment loss is recognized as the
amount by which the carrying amount of the asset exceeds the fair value.
(j) Income Taxes
Deferred taxes are recognized for the future tax consequences
attributable to temporary differences between the carrying amounts of
assets and liabilities for financial statement purposes and income tax
purposes using enacted rates expected to be in effect when such amounts
are realized or settled. The effect on deferred taxes of a change in tax
rates is recognized in income in the period that includes the enactment
date.
34
Manchester Equipment Company, Inc. and Subsidiaries
Notes to Financial Statements
July 31, 1999, 1998 and 1997
(in thousands, except share and per share data)
(k) Net Income Per Share
In fiscal 1998, the Company adopted Statement of Financial Accounting
Standards No. 128, "Earnings Per Share" ("EPS"). It replaces the
presentation of primary EPS with the presentation of basic EPS and
replaces fully diluted EPS with diluted EPS. It also requires a dual
presentation of basic and diluted EPS on the face of the income statement
for all entities with complex capital structures and requires a
reconciliation of the numerators and denominators of the basic EPS
computation to the numerator and denominator of the diluted EPS
computation. Prior periods' EPS data have been restated to conform with
Statement No. 128.
Basic net income per share has been computed by dividing net income by
the weighted average number of common shares outstanding. Diluted net
income per share has been computed by dividing net income by the weighted
average number of common shares outstanding, plus the assumed exercise of
dilutive stock options and warrants, less the number of treasury shares
assumed to be purchased from the proceeds of such exercises using the
average market price of the Company's common stock during each respective
period. Options and warrants representing 1,065,000, 380,000 and 1,052,000
shares for the years ended July 31, 1999, 1998 and 1997, respectively,
were not included in the computation of diluted EPS because to do so would
have been antidilutive. The following table reconciles the denominators of
the basic and diluted per share computations. For each year, the numerator
is the net income as reported.
1999 1998 1997
---- ---- ----
Per Share Per Share Per Share
Shares Amount Shares Amount Shares Amount
------ ------ ------ ------ ------ ------
Basic EPS 8,096,000 $0.27 8,494,000 $0.26 7,779,000 $0.45
==== ===== =====
Effect of dilutive
options - 5,000 -
---------- -------- ---------
Diluted EPS 8,096,000 $0.27 8,499,000 $0.26 7,779,000 $0.45
========= ==== ========= ===== ========= =====
(l) Accounting for Stock-Based Compensation
The Company records compensation expense for employee stock options if
the current market price of the underlying stock exceeds the exercise
price on the date of the grant. On August 1, 1996, the Company adopted
SFAS No. 123, "Accounting for Stock-Based Compensation." The Company has
elected not to implement the fair value based accounting method for
employee stock options, but has elected to disclose the pro forma net
income and net income per share for employee stock option grants made
beginning in fiscal 1996 as if such method had been used to account for
stock-based compensation cost as described in SFAS No.
123.
(m) Use of Estimates
Management of the Company has made a number of estimates and
assumptions relating to the reporting of assets and liabilities and the
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 to prepare these financial statements in
conformity with generally accepted accounting principles. Actual results
could differ from those estimates.
(n) Fair Value of Financial Instruments
The fair values of accounts receivable, prepaid expenses, and accounts
payable and accrued expenses are estimated to be the carrying values at
July 31, 1999 due to the short maturity of such instruments.
35
Manchester Equipment Company, Inc. and Subsidiaries
Notes to Financial Statements
July 31, 1999, 1998 and 1997
(in thousands, except share and per share data)
(2) Property and Equipment
----------------------
Property and equipment at July 31, consist of the following:
1999 1998
---- ----
Furniture and fixtures $2,464 $2,327
Machinery and equipment 5,500 4,289
Transportation equipment 454 426
Leasehold improvements 2,667 2,284
----- -----
11,085 9,326
Less accumulated depreciation
and amortization 4,837 3,351
----- -----
$6,248 $5,975
===== =====
Depreciation and amortization expense amounted to $1,569, $1,176, and $701
for the years ended July 31, 1999, 1998 and 1997, respectively.
(3) Acquisitions
------------
Electrograph Systems. Inc.
On April 25, 1997, the Company, through a newly formed wholly-owned
subsidiary, acquired substantially all of the assets and assumed certain
liabilities of Electrograph Systems, Inc. ("Electrograph"). Electrograph is a
specialized distributor of microcomputer peripherals, primarily in the eastern
United States. The purchase price and transaction costs aggregated approximately
$2,600, plus liabilities assumed. Included in the liabilities assumed were notes
payable-bank and notes payable-other with balances of $1,274 and $264,
respectively, at July 31, 1997 which were repaid in fiscal 1998.
The acquisition has been accounted for as a purchase and the operating
results of Electrograph are included in the consolidated statements of income
from the date of acquisition. The acquisition resulted in goodwill of $1,543,
which is being amortized on the straight-line basis over 20 years.
Coastal Office Products, Inc.
On January 2, 1998, the Company acquired all of the outstanding shares
of Coastal Office Products, Inc. ("Coastal"), a value added reseller and
provider of microcomputer services and peripherals to companies in the greater
Baltimore, Maryland area. The acquisition, which has been accounted for as a
purchase, consisted of cash payments of approximately $3,971 (including a
contingent payment of $871 made on March 15, 1999) plus potential future
contingent payments. Contingent payments of up to $1,050 in calendar 1999 will
be determined based upon achieving certain agreed upon increases in revenues and
pretax income for calendar 1999 over calendar 1997 amounts. The cash payments
were made from the Company's cash balances. The final contingent payments, if
any, would be paid in cash (or, under certain conditions, in Company common
stock) on March 15, 2000. The selling shareholders received employment
agreements that also provided for the issuance of 20,000 shares of common stock.
The fair value of the common stock, amounting to $80 was recorded as deferred
compensation and is being expensed over the three year vesting period.
Operating results of Coastal are included in the consolidated
statements of income from the date of acquisition. The acquisition resulted in
goodwill of $3,976, which is being amortized on the straight-line basis over 20
years.
36
Manchester Equipment Company, Inc. and Subsidiaries
Notes to Financial Statements
July 31, 1999, 1998 and 1997
(in thousands, except share and per share data)
The following unaudited pro forma consolidated results of operations
for the years ended July 31, 1998 and 1997 assume that the Coastal and
Electrograph acquisitions occurred on August 1, 1996 and reflect the historical
operations of the purchased businesses adjusted for lower interest on invested
funds, contractually revised officer compensation and rent (for Coastal) and
increased amortization, net of applicable income taxes, resulting from the
acquisitions:
Year ended July 31,
1998 1997
---- ----
Revenue $206,105 $216,118
Net income $2,186 $3,749
Diluted net income per share $0.26 $0.48
The pro forma results of operations are not necessarily indicative of the
actual results that would have occurred had the acquisitions been made at the
beginning of the period, or of results which may occur in the future.
(4) Accounts Payable and Accrued Expenses
-------------------------------------
Accounts payable and accrued expenses consist of the following:
July 31,
1999 1998
---- ----
Accounts payable, trade $17,193 $14,659
Accrued salaries and wages 2,182 2,462
Customer deposits 715 494
Other accrued expenses 734 743
--- ---
$20,824 $18,358
======= =======
The Company has entered into financing agreements for the purchase of
inventory. These agreements are secured by the related inventory and/or
accounts receivables. In each of the years in the three-year period ended
July 31, 1999, the Company has repaid all balances outstanding under these
agreements within the non-interest bearing payment period. Accordingly,
amounts outstanding under such agreements of $2,944 and $2,372 and at July
31, 1999 and 1998, respectively, are included in accounts payable and
accrued expenses. Prior to December 1996, pursuant to certain intercreditor
agreements, these financing agreements were subordinated to the Company's
line of credit agreement except as to specific inventory purchased under
these financing agreements. In August 1997, the Company entered into a new
financing agreement for the purchase of inventory. The agreement provides a
maximum of $10,000 in credit for purchases of inventory from certain
specified manufacturers. The new agreement is unsecured, generally allows
for a 30 day non-interest bearing payment period and requires the Company
to maintain, among other things, a certain minimum tangible net worth. As
of July 31, 1999, retained earnings available for dividends amounts to
approximately $10,600.
(5) Long-Term Debt
--------------
The Company has entered into capitalized lease obligations for certain
computer equipment. Future minimum payments required under such lease are
$85 (including interest of $3) in fiscal 1999.
37
Manchester Equipment Company, Inc. and Subsidiaries
Notes to Financial Statements
July 31, 1999, 1998 and 1997
(in thousands, except share and per share data)
(6) Employee Benefit Plans
----------------------
The Company maintains a qualified defined contribution plan with a
salary deferral provision, commonly referred to as a 401(k) plan. The
Company matches 50% of employee contributions up to three percent of the
employees' compensation. The Company's contribution amounted to $273, $205
and $161 for the years ended July 31, 1999, 1998 and 1997, respectively.
The Company also has a deferred compensation plan which is available to
certain eligible key employees. The plan consists of life insurance
policies purchased by the Company for the participants. Upon vesting, which
occurs at various times from three to ten years, the participant becomes
entitled to have ownership of the policy transferred to him or her at
termination of employment with the Company. As of July 31, 1999 and 1998
the Company has recorded an asset (included with other assets) of $34 and
$109, respectively, representing the cash surrender value of policies owned
by the Company and a liability of the same amount relating to the unvested
portion of benefits due under this plan. For the years ended July 31, 1999,
1998 and 1997, the Company recorded an expense of $51, $105 and $110 in
connection with this plan.
(7) Commitments and Contingencies
-----------------------------
Leases
The Company leases most of its executive offices and warehouse
facilities primarily from related parties (Note 11). In addition, the
Company is obligated under lease agreements for sales offices and
additional warehouse space. Aggregate rent expense under all these leases
amounted to $1,539, $1,255 and $1,073 for the years ended July 31, 1999,
1998 and 1997.
The following represents the Company's commitment under operating
leases for the next five years ended July 31:
2000 $1,495
2001 $1,221
2002 $1,262
2003 $975
2004 $937
38
Manchester Equipment Company, Inc. and Subsidiaries
Notes to Financial Statements
July 31, 1999, 1998 and 1997
(in thousands, except share and per share data)
Litigation
The Company is involved in various claims and legal actions arising in
the ordinary course of business. In the opinion of management, based on
advice from its legal counsel, the ultimate disposition of these matters
will not have a material adverse effect.
On January 12, 1998, the Company announced that it had reached an
agreement in principle settling the Shareholder Securities Class Action
("Lawsuit") filed against the Company and certain of its officers in March
1997. The settlement resulted in the distribution of $1,350 minus approved
attorney's fees and related expenses, to purchasers of the Company's common
stock in the Company's initial public offering, and during the period of
November 26, 1996 to February 13, 1997. The entire $1,350 cash settlement
was paid by the Company's insurance carrier.
The settlement included a release of all claims that were asserted or
that could have been asserted in the Lawsuit against the Company and its
officers and directors. The Company agreed to the settlement solely to
avoid the expense, burdens and uncertainties of further litigation and
continues to deny that it has any liability on account of the matters
asserted in the litigation or that the Plaintiffs' claims had merit.
(8) Line of Credit
--------------
In July 1998, the Company entered into a revolving credit facility with
its banks which was revised in June, 1999 to change participating banks.
Under the terms of the facility, the Company may borrow up to a maximum of
$15,000. Borrowings under the facility bear interest at variable interest
rates based upon several options available to the Company. The facility
requires the Company to maintain certain financial ratios and covenants. As
of July 31, 1999, there was no balance outstanding under this agreement,
which expires on March 31, 2002.
39
Manchester Equipment Company, Inc. and Subsidiaries
Notes to Financial Statements
July 31, 1999, 1998 and 1997
(in thousands, except share and per share data)
(9) Income Taxes
The provision for income taxes for the years ended July 31, 1999, 1998 and
1997 consists of the following:
1999 1998 1997
---- ---- ----
Current
Federal $1,351 $1,300 $1,938
State 380 398 602
--- --- ---
1,731 1,698 2,540
----- ----- -----
Deferred
Federal (106) (105) (68)
State (35) (33) (22)
--- --- ----
(141) (138) (90)
----- ---- ---
$1,590 $1,560 $2,450
===== ===== ======
The difference between the Company's effective income tax rate and the
statutory rate is as follows, for the years ended July 31, 1999, 1998 and
1997:
1999 1998 1997
---- ---- -----
Income taxes at statutory rate $1,283 $1,269 $2,036
State taxes, net of federal benefit 228 241 383
Non deductible goodwill amortizations 64 29 -
Other 15 21 31
-- -- --
$1,590 $1,560 $2,450
===== ===== =====
The tax effects of temporary differences that give rise to significant
portions of the net deferred tax asset at July 31, 1999 and 1998 were as
follows:
1999 1998
---- ----
Deferred tax assets:
Allowance for doubtful accounts $488 $450
Deferred compensation 330 315
Other 280 192
--- ---
Deferred tax asset $1,098 $957
===== ===
A valuation allowance has not been provided in connection with the
deferred tax assets since the Company believes, based upon its long
history of profitable operations, that it is more likely than not that
such deferred tax assets will be realized.
40
Manchester Equipment Company, Inc. and Subsidiaries
Notes to Financial Statements
July 31, 1999, 1998 and 1997
(in thousands, except share and per share data)
(10) Related Party Transactions
--------------------------
The Company leases its warehouse and distribution center as well as its
corporate offices and certain sales facilities from entities owned or
controlled by shareholders, officers, or directors of the Company. The
leases generally cover a period of ten years and expire at various times
from 2000 through 2005. Lease terms generally include annual increases of
five percent. Rent expense for these facilities aggregated $801, $782, and
$771 for the years ended July 31, 1999, 1998 and 1997, respectively.
The Company paid legal fees to a law firm in which a director of the
Company is a partner. Such fees amounted to $213, $217, and $655,
including disbursements, in the fiscal years ended July 31, 1999, 1998,
and 1997 respectively.
During fiscal years ended July 31, 1999, 1998 and 1997 the Company
received approximately $597, $177 and $130, respectively, in revenue from a
company controlled by a director of the Company.
(11) Shareholders' Equity
--------------------
Initial Public Offering
On December 2, 1996, the Company completed an initial public offering
(IPO) of 2,325,000 shares of its common stock at an initial public
offering price of $10 per share. Net proceeds to the Company were $20,414
after deducting the underwriting discounts and commissions and other costs
associated with the IPO. In connection with the IPO, the Company issued to
the underwriter warrants to purchase an aggregate of 250,000 shares of
common stock. The warrants are exercisable at a price of $12 per share and
expire in December, 2001.
Redeemable Common Stock
Prior to the IPO, the Company was a party to an agreement among its
shareholders whereby each of the Company's two minority shareholders had
the right to demand that upon termination, retirement, or death, the
Company redeem his interest at differing values stated in the agreement.
The Company maintains term life insurance with a face value of $1,500 to
be used towards the purchase of the shares in the event of the death of
each shareholder. One of the minority shareholders retired in fiscal 1996
and based upon the terms of the agreement and a subsequent agreement
entered into in May 1996, payment was fixed at $4,710 for the
shareholder's interest in the Company (626,263 shares at the time of the
agreement). The shareholder had an annual option to redeem one-tenth of
his shares commencing in fiscal 1996, at an annual price of $471 to be
paid in equal quarterly installments over the following year. In
connection with such agreements, in May 1996 the Company purchased 62,626
shares of common stock from the retired minority shareholder. The purchase
price was $471, which was paid in four non-interest bearing equal
quarterly installments beginning on May 1, 1996. Such shares were
subsequently retired.
In September 1996, among other provisions, the retired minority
shareholder agreed to terminate his put options to sell his remaining
shares to the Company upon the effective date of the Company's IPO. In
addition, the shareholders' agreement terminated upon the effective date
of the Company's IPO. As a result of the successful completion of the IPO,
the amounts which would have been due under the agreements were
reclassified from redeemable common stock to retained earnings.
Stock Option Plan
Under the Company's Amended and Restated 1996 Incentive and
Non-Incentive Stock Option Plan (the "Plan"), which was approved by the
Company's shareholders in October 1996, an aggregate of 1,100,000 shares
of common stock are reserved for issuance upon exercise of options
thereunder. Under the Plan, incentive stock options, as defined in section
422 of the Internal Revenue Code of 1986, as amended, may be granted to
employees
41
Manchester Equipment Company, Inc. and Subsidiaries
Notes to Financial Statements
July 31, 1999, 1998 and 1997
(in thousands, except share and per share data)
and non-incentive stock options may be granted to employees, directors and
such other persons as the Board of Directors may determine, at exercise
prices equal to at least 100% (with respect to incentive stock options) and
at least 85% (with respect to non-incentive stock options) of the fair
market value of the Common Stock on the date of grant. In addition to
selecting the optionees, the Board of Directors will determine the number
of shares of Common Stock subject to each option, the term of each stock
option up to a maximum of ten years (five years for certain employees for
incentive stock options), the time or times when the stock option becomes
exercisable, and otherwise administer the Plan. Incentive stock options
expire three months from the date of the holder's termination of employment
with the Company other than by reason of death or disability. Options may
be exercised with cash or common stock previously owned for in excess of
six months. During fiscal 1997, 742,350 and 60,000 options were granted at
$10 and $5, respectively, per share. Such exercise prices were greater than
or equal to the market value on the date of grant. Vesting commences
immediately or up to two years from the date of grant and ranges from one
to seven years. On December 22, 1997, the exercise price of all then
outstanding options was reduced to $3.8125 per share, which was the closing
market price of the Company's common stock on that date. The following
table summarizes stock option activity to date:
Average
Exercise Exercise
Balance Price
------- -----
Balance August 1, 1996 - -
Granted 802,350 $9.63
------- -----
Balance July 31, 1997 802,350 $9.63
Granted 220,000 $4.24
Cancelled (172,750) $3.8125
--------- ------
Balance July 31, 1998 849,600 $3.92
Granted 19,000 $3.52
Cancelled (53,500) 3.8125
------- ------
Balance July 31, 1999 815,100 3.93
======= ====
At July 31, 1999, approximately 236,000 options exercisable at prices
ranging from $3.25 to $5.00 per share were exercisable and all options
granted expire ten years from the date of grant. The range of exercise
prices for options outstanding at July 31, 1999 was $3.25 - $5.00 with a
remaining life of approximately eight years.
The Company has adopted the pro forma disclosure provision of SFAS No.
123, "Accounting for Stock Based Compensation". Accordingly, the Company
does not record compensation cost in the financial statements for its stock
options which have an exercise price equal to or greater than the fair
value of the underlying stock on the date of grant. The Company has
recognized $142 in deferred commission expense representing the value of
stock options granted to non-employee sales representatives. Such cost is
expensed over the vesting period, amounting to $65, $65 and $12 in fiscal
1999, 1998 and 1997, respectively. Had compensation cost for the Company's
stock option grants been determined based on the fair value at the grant
date under SFAS No. 123, the Company's net income and net income per share
for the years ended July 31, 1999, 1998 and 1997 would approximate the pro
forma amounts below:
1999 1998 1997
---- ---- ----
Net Income:
As reported $2,183 $2,172 $3,537
Pro forma 1,940 1,992 3,464
Diluted net income per share:
As reported $0.27 $0.26 $0.45
Pro forma $0.24 $0.23 $0.45
42
Manchester Equipment Company, Inc. and Subsidiaries
Notes to Financial Statements
July 31, 1999, 1998 and 1997
(in thousands, except share and per share data)
The pro forma effects on net income and diluted net income per share for
1999, 1998 and 1997 may not be representative of the pro forma effects in future
years.
The fair value of options granted was estimated using the Black-Scholes
option pricing model with the following weighted average assumptions:
1999 1998 1997
---- ---- ----
Expected dividend yield 0% 0% 0%
Expected stock volatility 43% 27% 29%
Risk free interest rate 5% 5% 5%
Expected option term until exercise (years) 5.00 4.70 4.27
The per share weighted average fair value of stock options granted during fiscal
1999, 1998 and 1997 was $1.40, $1.09 and $1.05, respectively.
Repurchase of Common Stock
During the years ended July 31, 1999 and 1998, the Company repurchased
11,800 and 448,400 shares of its common stock at an aggregate purchase price of
$33 and $1,785, respectively. Such shares were subsequently retired.
(12) Major Customer and Vendors and Concentration of Credit Risk
-----------------------------------------------------------
The Company sells and services customers that are located primarily in the
eastern United States. One customer accounted for approximately 7%, 7% and 15%
of total revenues for the years ended July 31, 1999, 1998 and 1997,
respectively.
The Company's top four vendors accounted for approximately 21%, 10%, 6% and 6%
respectively of total product purchases for the year ended July 31, 1999. The
Company's top three vendors accounted for approximately 24%, 13% and 11% of
total product purchases for the year ended July 31, 1998. The Company's top two
vendors accounted for approximately 17% and 15% of total product purchases for
the year ended July 31, 1997.
One customer accounted for 9% of the Company's accounts receivable at July 31,
1999.
43
ITEM 14. Exhibits, Financial Statements, Schedules, and Reports on Form 8-K
(Continued)
(2) Financial Statement Schedules
Schedule II - Valuation and Qualifying Accounts and Reserves
All other schedules are omitted because they are not
applicable or the required information is shown in the
financial statements or notes thereto.
(3) Exhibits:
3.1.a(1) Certificate of Incorporation of Registrant filed August 21, 1973.
3.1.b(1) Certificate of Amendment of Certificate of Incorporation filed January
29, 1985.
3.1.c(1) Restated Certificate of Incorporation filed October 1, 1996.
3.2(1) Bylaws of Registrant.
4.2(1) Form of Representative's Warrants.
10.1(1) 1996 Incentive and Non-Incentive Stock Option Plan of Registrant.
10.2(1) Agreement dated September 24, 1996 between Registrant and Michael
Bivona.
10.3(1) * Compensation Agreement dated November 6, 1996 between Registrant and
Joel G. Stemple.
10.4(1) * Agreement of Employment dated September 30, 1996 between Registrant
and Barry Steinberg
10.4.a(1)* Amendment dated November 6, 1996 to Agreement of Employment dated
September 30, 1996 between Registrant and Joel G. Stemple.
10.5.a(1) Lease dated October 1995 between Registrant and 40 Marcus Realty, LLC
- f/k/a 40 Marcus Realty Associates, as amended.
10.5.b(1) Lease dated January 1988 between Registrant and Marcus Realty, as
amended.
10.5.c(1) Lease dated June 1995 between Registrant and Facilities Management.
10.5.d(1) Lease dated July 31, 1995 between Registrant and Boatman's Equities,
LLC - f/k/a 160 Oser Avenue Associates, as amended.
10.5.e(1) Lease dated January 15, 1992 between Registrant and 352 Seventh Avenue
Associates.
10.5.f(1) Lease dated April 16, 1990 between Registrant and Regent Holding
Corporation, as successor to Crow-Childress-Donner, Limited, as
amended.
10.5.g(1) Business Lease dated December 4, 1992 between Registrant and TRA
Limited, as amended.
10.5.h(5) Lease dated June 23, 1997 between Registrant and First Willow, LLC.
10.5.i(5) Lease dated June 30, 1997 between Registrant and Angela C. Maffeo,
Trustee Under the Will of John Capobianco.
10.5.j(6) Lease dated October 1, 1997 between Registrant and Spanish River
Executive Plaza, Ltd. A/k/a Century Financial Plaza.
10.5.k(4) Lease dated January 2, 1998 between Coastal Office Products, Inc. and
BC & HC Properties, LLC
44
10.6(2) Promissory Note dated October 15, 1996 between Registrant and The Bank
of New York
10.7.a(1) Letter Agreement Regarding Inventory Financing dated December 7, 1993
between ITT Commercial Finance Corp. and Registrant.
10.7.b(1) Agreement for Wholesale Financing dated November 11, 1993 between ITT
Commercial Finance Corp. and Registrant.
10.7.c(1) Intercreditor Agreement dated May 18, 1994 between ITT Commercial
Finance Corp. and The Bank of New York.
10.8.a(1) Letter Agreement Regarding Inventory Financing dated April 22, 1996
between AT&T Capital Corporation and Registrant.
10.8.b(1) Intercreditor Agreement dated May 18, 1994 between AT&T Commercial
Finance Corporation and The Bank of New York.
10.9(1) Reseller Agreement dated May 1, 1990 between Toshiba America Information
Systems, Inc. and Registrant.
10.10(1) Agreement for Authorized Resellers dated March 1, 1996 between
Hewlett-Packard Company and Registrant.
10.11(3) Asset Purchase Agreement dated April 15, 1997 among Electrograph
Systems, Inc., Bitwise Designs, Inc., Electrograph Acquisition, Inc.
and Registrant.
10.12(4) Definitive Purchase Agreement and Indemnity Agreement dated January 2,
1998 between Registrant and Coastal Office Products, Inc.
10.13(7) $15,000,000 Revolving Credit Facility Agreement dated July 21, 1998
between Registrant and Bank of New York, as Agent.
10.14 $15,000,000 Revolving Credit Facility Agreement dated June 25, 1999
between Registrant and EAB, as Agent.
27 Financial Data Schedule.
(b) Reports on Form 8-K
The Registrant did not file any reports on Form 8-K during the last
quarter of the period covered by this report, and none were required.
- - -----------------------
* Denotes management contract or compensatory plan or arrangement required to
be filed as an Exhibit to this Annual Report on Form 10-K.
1. Filed as the same numbered Exhibit to the Company's Registration
Statement on Form S-1 (File No. 333- 13345) and incorporated herein
by reference thereto.
2. Filed as the same numbered Exhibit to the Company's Quarterly Report on
Form 10-Q for the quarter ended October 31, 1996 (Commission File No.
0-21695) and incorporated herein by reference thereto.
3. Filed as the same numbered Exhibit to the Company's Quarterly Report on
Form 10-Q for the quarter ended April 30, 1997 (Commission File No.
0-21695) and incorporated herein by reference thereto.
4. Filed as the same numbered Exhibit to the Company's Quarterly Report on
Form 10-Q for the quarter ended January 31, 1998 (Commission File No.
0-21695) and incorporated herein by reference thereto.
5. Filed as the same numbered Exhibit to the Company's Annual Report on Form
10-K for the year ended July 31, 1997 (Commission File No. 0-21695) and
incorporated herein by reference thereto.
6. Filed as the same numbered Exhibit to the Company's Quarterly Report on
Form 10-Q for the quarter ended October 31, 1997 (Commission File No.
0-21695) and incorporated herein by reference thereto.
7. Filed as the same numbered Exhibit to the Company's Annual Report in Form
10-K for the year ended July 31, 1998 (Commission File No. 0-21695) and
incorporated herein by reference thereto.
45
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunder duly authorized.
Manchester Equipment Co., Inc.
Date: October 29, 1999 By: ss: Barry Steinberg
--------------------
Barry R. Steinberg
President, Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of this Registrant and
in the capacities and on the dates indicated.
ss: Barry R. Steinberg Date: October 29, 1999
--------------------
Barry R. Steinberg
President, Chief Executive Officer,
Chairman of the Board and Director
(Principal Executive Officer)
ss: Joel G. Stemple Date: October 29, 1999
- - --------------------------
Joel G. Stemple
Executive Vice President and Director
ss: Joseph Looney Date: October 29, 1999
-----------------
Joseph Looney
Chief Financial Officer (Principal Accounting Officer)
ss: Joel Rothlein Date: October 29, 1999
-------------
Joel Rothlein
Director
ss: Julian Sandler Date: October 29, 1999
--------------
Julian Sandler
Director
ss: Michael Russell Date: October 29, 1999
---------------
Michael Russell
Director
Ss: Bert Rudofsky Date: October 29, 1999
-------------
Bert Rudofsky
Director
46
Manchester Equipment Co., Inc.
Schedule II - Valuation and Qualifying Accounts
-----------------------------------------------
(dollars in thousands)
Column C-Additions
Column B- (1)- (2)- Column D- Column E-
Column A - Balance at Charged to Charged to Deductions- Balance at
Description beginning of costs and other (a) end of period
period expenses accounts (b) ---------- -------------
------ -------- ------------
Allowance for doubtful
accounts
Year ended:
July 31, 1997 $800 $339 $40 $128 $1,051
July 31, 1998 $1,051 $351 $25 $277 $1,150
July 31, 1999 $1,150 $154 - $100 $1,204
(a) Write-off amounts against allowance provided.
(b) Recorded in connection with the acquisitions.
47