EXHIBIT 10.3
P2i NEWSPAPER, INC.
(a wholly-owned subsidiary of P2i, Inc.)
TABLE OF CONTENTS
FOR THE YEARS ENDED DECEMBER 31, 2002 AND 2001
PAGE
NUMBER
------
Independent Auditor's Report 2
Consolidated Financial Statements:
Balance sheet 3
Operations and accumulated deficit 4
Cash flows 5
Notes to consolidated financial statements 6 to 10
- - 1 -
INDEPENDENT AUDITOR'S REPORT
----------------------------
Board of Directors
P2i Newspaper, Inc.
(a wholly-owned subsidiary of P2i, Inc.)
Bethlehem, PA
We have audited the accompanying consolidated balance sheet of P2i Newspaper,
Inc. (a wholly-owned subsidiary of P2i, Inc.) as December 31, 2002 and 2001, and
the related consolidated statements of operations and accumulated deficit, and
of cash flows for the years then ended. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. 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 financial statements referred to above present fairly, in
all material respects, the consolidated financial position of P2i Newspaper,
Inc. as December 31, 2002 and 2001, and the results of their operations and
their cash flows for the years then ended in conformity with accounting
principles generally accepted in the United States of America.
The accompanying financial statements have been prepared assuming the Company
will continue as a going concern. As shown in the accompanying financial
statements, the Company incurred net losses of $954,699 and $382,547 during the
years ended December 31, 2002 and 2001, respectively. As discussed in Note 1 to
the financial statements, the Company's significant operating losses raise
substantial doubt about its ability to continue as a going concern. Management's
plans in regard to these matters are also discussed in Note 1. The financial
statements do not include any adjustments that might result from the outcome of
this uncertainty.
/s/ MARGOLIS & COMPANY P.C.
---------------------------
Certified Public Accountants
Bala Cynwyd, PA
October 30, 2003
- - 2 -
P2i NEWSPAPER, INC.
(a wholly-owned subsidiary of P2i, Inc.)
CONSOLIDATED BALANCE SHEET
DECEMBER 31,
2002 2001
----------- -----------
ASSETS
Current assets:
Cash $ 22,231 $ 4,013
Accounts receivable 188,405 --
Prepaid expenses and other current assets 2,508 2,281
----------- -----------
Total current assets 213,144 6,294
Property and equipment, net 256,341 244,801
Debt issuance costs, net of accumulated
amortization of $59,019 at December 31, 2002 56,981 --
Deposits -- 4,368
----------- -----------
$ 526,466 $ 255,463
=========== ===========
LIABILITIES AND STOCKHOLDER'S DEFICIENCY
Current liabilities:
Current portion of obligations under capital leases $ 22,258 $ 23,713
Accounts payable and accrued expenses 291,284 41,690
Notes payable, ProtoSource Corporation 1,045,280 50,000
Due to P2i, Inc. 418,039 416,471
Due to related company 76,434 73,461
----------- -----------
Total current liabilities 1,853,295 605,335
----------- -----------
Obligations under capital leases, non-current portion 10,417 32,675
----------- -----------
Stockholder's deficiency:
Common stock, no par value; 1,000 shares
authorized, 100 shares issued and outstanding -- --
Accumulated deficit (1,337,246) (382,547)
----------- -----------
(1,337,246) (382,547)
----------- -----------
$ 526,466 $ 255,463
=========== ===========
The notes to consolidated financial statements are an integral part of the above
statement.
- - 3 -
P2i NEWSPAPER, INC.
(a wholly-owned subsidiary of P2i, Inc.)
CONSOLIDATED STATEMENT OF OPERATIONS AND ACCUMULATED DEFICIT
YEAR ENDED
DECEMBER 31,
2002 2001
----------- -----------
Net revenues $ 1,050,293 $ 1,023,291
Cost of revenues 956,793 606,883
----------- -----------
Gross profit 93,500 416,408
----------- -----------
Operating expenses:
General and administrative 372,444 240,560
Sales and marketing 298,335 406,412
Research and development 181,952 81,784
Depreciation 101,465 63,396
----------- -----------
954,196 792,152
----------- -----------
Operating loss (860,696) (375,744)
----------- -----------
Other expenses:
Interest expense 89,213 5,717
Other expenses 4,790 1,086
----------- -----------
94,003 6,803
----------- -----------
Net loss (954,699) (382,547)
Accumulated deficit, beginning (382,547) --
----------- -----------
Accumulated deficit, ending ($1,337,246) ($ 382,547)
=========== ===========
The notes to consolidated financial statements are an integral part of the above
statement.
- - 4 -
P2i NEWSPAPER, INC.
(a wholly-owned subsidiary of P2i, Inc.)
CONSOLIDATED STATEMENT OF CASH FLOWS
YEAR ENDED
DECEMBER 31,
2002 2001
--------- ---------
INCREASE (DECREASE) IN CASH
Cash flows from operating activities:
Net loss ($954,699) ($382,547)
Adjustments to reconcile net loss to net cash
(used in) operating activities:
Depreciation and amortization 101,465 63,396
Amortization of debt issuance costs 59,019 --
(Increase) decrease in operating assets:
Accounts receivable (188,405) --
Prepaid expenses and other current assets (227) (2,281)
Deposits 4,368 (4,368)
Increase in operating liabilities:
Accounts payable and accrued expenses 249,594 41,690
--------- ---------
Net cash (used in) operating activities (728,885) (284,110)
--------- ---------
Cash flows from investing activities:
Acquisitions of property and equipment (113,005) (245,349)
--------- ---------
Net cash (used in) investing activities (113,005) (245,349)
--------- ---------
Cash flows from financing activities:
Net borrowings from ProtoSource Corporation 995,280 50,000
Net change in amount due to P2i, Inc. 1,568 416,471
Payments on capital lease obligations (23,713) (6,460)
Net change in amount due related company 2,973 73,461
Debt issuance costs incurred (116,000) --
--------- ---------
Net cash provided by financing activities 860,108 533,472
--------- ---------
Net increase in cash 18,218 4,013
Cash at beginning of year 4,013 --
--------- ---------
Cash at end of year $ 22,231 $ 4,013
========= =========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid during the year for:
Interest $ 8,439 $ 3,850
--------- ---------
SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES
Capital lease obligation incurred
to acquire property and equipment $ -- $ 62,848
========= =========
The notes to consolidated financial statements are an integral part of the above
statement.
- - 5 -
P2i NEWSPAPER, INC.
(a wholly-owned subsidiary of P2i, Inc.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2002 AND 2001
1. Nature of Business and Summary of Significant Accounting Policies
-----------------------------------------------------------------
Nature of business - P2i Newspaper, Inc. ("the Company") is principally
engaged in the conversion of text and graphics from print to interactive
Web content. Its clients include newspaper groups located in the United
States and the United Kingdom. The Company is headquartered in Bethlehem,
Pennsylvania and has a west coast sales office in California and a data
conversion center located in Kuala Lumpur, Malaysia.
The Company, a Delaware corporation, was incorporated in August 2002.
During September, 2002, the Company issued 100 shares of common stock to
its parent, P2i, Inc. ("P2i") in exchange for P2i's assets relating to the
newspaper business (principally patents, Internet domain and trade names,
the newspaper-related customer base, technology and use of the production
facility in Malaysia). In addition, newspaper employees were transferred
from P2i, Inc. to the Company.
Basis of consolidation - The accompanying consolidated financial statements
include the accounts of the Company and its wholly-owned subsidiary, P2i
Online SDN BHD, a Malaysian corporation (incorporated December 7, 2000).
The consolidated financial statements also include the activity of P2i,
Inc.'s Newspaper Division for 2001, and from January 1, 2002 through
September 30, 2002. This activity has been extracted from the books and
records of P2i, Inc. and includes all revenues and associated costs
attributable to the conversion of print to Web content for newspaper
customers, and either direct or allocated operating expenses of the
Newspaper Division. All significant intercompany accounts and transactions
have been eliminated.
Basis of presentation - The accompanying consolidated financial statements
have been prepared on a going concern basis, which contemplates the
realization of assets and the satisfaction of liabilities in the normal
course of business. The financial statements do not include any adjustments
relating to the recoverability and classification of recorded asset amounts
or the amount and classification of liabilities that might be necessary
should the Company be unable to continue as a going concern. The Company's
continuation as a going concern is dependent upon its ability to generate
sufficient cash flows to meet its obligations on a timely basis, to obtain
additional financing as may be required, and to generate revenues to a
level where the Company becomes profitable. Additionally, the Company has
experienced extreme cash liquidity shortfalls from operations.
The Company's continued existence is dependent upon its ability to achieve
its operating plan. Management's plans include the following:
o In February, 2003, the Company signed an Agreement and Plan of
Merger with ProtoSource Corporation ("ProtoSource") to allow
ProtoSource to acquire P2i Newspaper, Inc. in exchange for a
controlling interest in ProtoSource.
o Obtaining additional working capital through the sale of common
stock or debt securities.
If management cannot achieve the above objectives, the Company may find it
necessary to dispose of assets, or undertake other actions as may be
appropriate.
- - 6 -
P2i NEWSPAPER, INC.
(a wholly-owned subsidiary of P2i, Inc.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
FOR THE YEARS ENDED DECEMBER 31, 2002 AND 2001
1. Nature of Business and Summary of Significant Accounting Policies -
Continued
-------------------------------------------------------------------
Revenue recognition - The Company recognizes service revenue when
persuasive evidence of an arrangement exists, services are performed, the
price of the transaction is fixed and determinable, and collectibility is
reasonably assured.
Use of estimates - The presentation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date
of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from
those estimates.
Accounts receivable - The Company considers accounts receivable to be fully
collectible; accordingly, no allowance for doubtful accounts is required.
If amounts become uncollectible, they will be charged to operations when
that determination is made.
Property and equipment and depreciation - Property and equipment is stated
at cost. Depreciation is provided using the straight-line method over the
estimated useful lives of the related assets.
Capitalized software costs - The Company accounts for software development
costs in accordance with Statement of Position 98-1 "Accounting for Costs
of Computer Software Developed or Obtained for Internal Use", which
provides that costs incurred in the preliminary project stage be expensed
as incurred and cost incurred during the application development stage be
capitalized. Internally developed software is amortized using the
straight-line method over three years after the software is placed in
service.
Amortization - Debt issuance costs are being amortized using the
straight-line method over one year.
Foreign currency translation - For foreign currencies whose functional
currency is the local currency, balance sheet accounts are translated at
exchange rates in effect at the end of the year and income statement
accounts are translated at the average exchange rates for the year.
Translation gains or losses are included in other comprehensive income
(loss) and are presented as a separate component of stockholders' equity
(deficit). Transaction gains and losses are reflected in operations. There
were no translation gains or losses in 2002 or 2001, as the exchange rate
for the local Malaysian currency (the Ringgit Malaysia, "RM") was fixed at
3.8 RM to 1 U.S. Dollar.
Income taxes - Deferred income taxes are provided for temporary differences
between the financial reporting and tax basis of assets and liabilities
using enacted tax laws and rates for the years when the differences are
expected to reverse.
- - 7 -
P2i NEWSPAPER, INC.
(a wholly-owned subsidiary of P2i, Inc.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
FOR THE YEARS ENDED DECEMBER 31, 2002 AND 2001
2. Proposed Acquisition
--------------------
On February 13, 2003, the Company announced an agreement and Plan of Merger
to transfer all of its outstanding capital stock to ProtoSource, in
exchange for the issuance of up to 19,383,531 shares of ProtoSource common
stock and satisfaction of the existing debt to ProtoSouce (the
"Agreement").
The 19,383,531 shares will be reduced by the number of shares equal to the
total fees incurred to audit the financial statements of the Company,
divided by $0.50 (the "Adjusted Shares"). The P2i Newspaper shareholders
shall receive 10 shares of ProtoSource common stock for each $1.00 of gross
income (as defined in the Agreement) earned by P2i Newspaper during
calendar years 2003-2005, calculated quarterly, up to the total number of
Adjusted Shares. The Adjusted Shares shall be subject to a three-year
lock-up, which may be released upon the stock price and volume reaching
established thresholds.
ProtoSource loaned the Company $50,000 in 2001, $995,280 in 2002, and
$348,673 between January 1, 2003 and September 30, 2003. The loans to P2i
are in the form of demand notes which, in the event that the merger does
not get completed, will be due on demand. The notes accrue interest at the
rate of 8% per annum. The ultimate repayment of the debt is highly
dependent upon the completion of the merger. The closing of this Agreement
is subject to approval by the shareholders of ProtoSource and P2i
Newspaper, and other customary terms and conditions. After the acquisition,
P2i Newspaper will become a wholly-owned subsidiary of ProtoSource.
3. Property and Equipment
----------------------
2002 2001
-------- --------
Software - internally developed $200,664 $101,241
Computer equipment 179,622 166,173
Automobile 24,395 24,395
Office equipment and furniture 16,480 16,388
-------- --------
421,161 308,197
Less: accumulated depreciation 164,820 63,396
-------- --------
$256,341 $244,801
======== ========
Included in property and equipment is equipment acquired under capital
leases with a cost of $62,848 at December 31, 2002 and 2001, and
accumulated amortization of $33,767 and $14,444 at December 31, 2002 and
2001, respectively.
- - 8 -
P2i NEWSPAPER, INC.
(a wholly-owned subsidiary of P2i, Inc.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
FOR THE YEARS ENDED DECEMBER 31, 2002 AND 2001
4. Commitments and Contingencies
-----------------------------
Capital Leases
--------------
The Company leases certain equipment under noncancellable capital leases.
The following is a schedule of future minimum lease payments at December
31, 2002 under the Company's capital leases (together with the present
value of minimum lease payments):
2003 $25,383
2004 11,837
--------
Total minimum lease payments 37,220
Less amount representing interest (4,545)
--------
Present value of net minimum lease payments 32,675
Less current portion 22,258
--------
Non-current portion $ 10,417
========
Operating Leases
----------------
The Company leases its headquarters in Pennsylvania (from P2i, Inc.) under
a sublease agreement, where the Company is responsible for 50% of the total
rent due for the office space. Rent expense charged to operations amounted
to approximately $19,700 and $25,800 for the years ended December 31, 2002
and 2001, respectively.
Future minimum lease payments due under operating leases are as follows:
2003 $ 35,793
2004 36,563
2005 37,333
2006 38,104
2007 38,875
Thereafter 39,433
--------
$226,101
========
- - 9 -
P2i NEWSPAPER, INC.
(a wholly-owned subsidiary of P2i, Inc.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
FOR THE YEARS ENDED DECEMBER 31, 2002 AND 2001
5. Income Taxes
------------
The Company files its U.S. tax return as part of a consolidated group with
P2i, Inc. The following represents the Company's portion of deferred income
taxes as of December 31:
2002 2001
--------- ---------
Net operating loss carryforwards $ 400,000 $ 115,000
Less valuation allowance (400,000) (115,000)
--------- ---------
$ -- $ --
========= =========
The Company has assessed its past earnings history and trends and
expiration dates of carryforwards and has determined that it is more likely
than not that no deferred tax assets will be realized, and thus has
provided valuation allowances of $400,000 and $115,000 at December 31, 2002
and 2001, respectively.
At December 31, 2002, the Company had federal and foreign net operating
loss carryforwards of approximately $300,000 and $1,000,000, respectively.
The federal net operating loss carryforwards begin to expire in 2022.
6. Due to P2i, Inc. and Related Company
------------------------------------
Due to related company represents advances received from P2i Ltd, UK.
Advances from P2i, Inc. and P2i Ltd, UK are interest free and are due on
demand.
7. Significant Customers
---------------------
A significant portion of net revenues was earned from certain customers in
2002 and 2001. Sales to these customers were as follows:
Customer 2002 2001
-------- ---- ----
A 14% 17%
B 12% 6%
C 8% 13%
D 4% 12%
Accounts receivable included approximately $73,000 due from the above major
customers at December 31, 2002.
- - 10 -
P2i NEWSPAPER, INC.
(a wholly-owned subsidiary of P2i, Inc.)
TABLE OF CONTENTS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002
PAGE
NUMBER
------
Independent Accountants' Compilation Report 2
Consolidated Financial Statements:
Balance sheet 3
Operations and accumulated deficit 4
Cash flows 5
Notes to consolidated financial statements 6 to 10
- - 1 -
Board of Directors
P2i Newspaper, Inc.
(a wholly-owned subsidiary of P2i, Inc.)
Bethlehem, PA
We have compiled the accompanying consolidated balance sheet of P2i Newspaper,
Inc. (a wholly-owned subsidiary of P2i, Inc.) as September 30, 2003 and 2002,
and the related consolidated statements of operations and accumulated deficit,
and of cash flows for the nine-month periods then ended, in accordance with
Statements on Standards for Accounting and Review Services issued by the
American Institute of Certified Public Accountants.
A compilation is limited to presenting in the form of financial statements
information that is the representation of management. We have not audited or
reviewed the accompanying financial statements and, accordingly, do not express
an opinion or any other form of assurance on them.
/s/ MARGOLIS & COMPANY P.C.
---------------------------
Certified Public Accountants
Bala Cynwyd, PA
December 22, 2003
- - 2 -
P2i NEWSPAPER, INC.
(a wholly-owned subsidiary of P2i, Inc.)
CONSOLIDATED BALANCE SHEET
(see accountants' compilation report)
SEPTEMBER 30,
2003 2002
----------- -----------
ASSETS
Current assets:
Cash $ 14,794 $ 3,260
Accounts receivable 198,148 85,837
Prepaid expenses and other current assets 8,167 3,926
----------- -----------
Total current assets 221,109 93,023
Property and equipment, net 206,785 298,140
Debt issuance costs, net of accumulated
amortization of $131,459 and $33,270 at
September 30, 2003 and 2002, respectively 36,541 46,980
Deposits 7,500 --
----------- -----------
$ 471,935 $ 438,143
=========== ===========
LIABILITIES AND STOCKHOLDER'S DEFICIENCY
Current liabilities:
Current portion of obligations under capital leases $ 26,452 $ 22,986
Accounts payable and accrued expenses 464,990 101,772
Notes payable, ProtoSource Corporation 1,393,953 829,400
Due to P2i, Inc. 193,758 392,144
Due to related company 72,231 71,336
----------- -----------
Total current liabilities 2,151,384 1,417,638
----------- -----------
Obligations under capital leases, non-current portion 27,085 15,618
----------- -----------
Stockholder's deficiency:
Common stock, no par value; 1,000 shares
authorized, 100 shares issued and outstanding -- --
Accumulated deficit (1,706,534) (995,113)
----------- -----------
(1,706,534) (995,113)
----------- -----------
$ 471,935 $ 438,143
=========== ===========
See accompanying notes to consolidated financial statements.
- - 3 -
P2i NEWSPAPER, INC.
(a wholly-owned subsidiary of P2i, Inc.)
CONSOLIDATED STATEMENT OF OPERATIONS AND ACCUMULATED DEFICIT
(see accountants' compilation report)
NINE MONTHS ENDED
SEPTEMBER 30,
2003 2002
----------- -----------
Net revenues $ 1,081,077 $ 933,495
Cost of revenues 677,076 767,216
----------- -----------
Gross profit 404,001 166,279
----------- -----------
Operating expenses:
General and administrative 307,743 263,309
Sales and marketing 182,388 258,206
Research and development 81,850 183,070
Depreciation 110,893 46,084
----------- -----------
682,874 750,669
----------- -----------
Operating loss (278,873) (584,390)
----------- -----------
Other expenses:
Interest expense 80,803 24,675
Other expenses 9,612 3,501
----------- -----------
90,415 28,176
----------- -----------
Net loss (369,288) (612,566)
Accumulated deficit, beginning (1,337,246) (382,547)
----------- -----------
Accumulated deficit, ending ($1,706,534) ($ 995,113)
=========== ===========
See accompanying notes to consolidated financial statements.
- - 4 -
P2i NEWSPAPER, INC.
(a wholly-owned subsidiary of P2i, Inc.)
CONSOLIDATED STATEMENT OF CASH FLOWS
(see accountants' compilation report)
NINE MONTHS ENDED
SEPTEMBER 30,
2003 2002
--------- ---------
INCREASE (DECREASE) IN CASH
Cash flows from operating activities:
Net loss ($ 369,288) ($612,566)
Adjustments to reconcile net loss to net cash
(used in) operating activities:
Depreciation and amortization 110,893 46,084
Amortization of debt issuance costs 72,440 33,270
(Increase) decrease in operating assets:
Accounts receivable (9,743) (85,837)
Prepaid expenses and other current assets (5,659) (1,645)
Deposits (7,500) 4,368
Increase in operating liabilities:
Accounts payable and accrued expenses 173,706 60,082
--------- ---------
Net cash (used in) operating activities (35,151) (556,244)
--------- ---------
Cash flows from investing activities:
Acquisitions of property and equipment (2,854) (99,423)
--------- ---------
Net cash (used in) investing activities (2,854) (99,423)
--------- ---------
Cash flows from financing activities:
Net borrowings from ProtoSource Corporation 348,673 779,400
Net change in amount due to P2i, Inc. (224,281) (24,327)
Payments on capital lease obligations (37,621) (17,784)
Net change in amount due related company (4,203) (2,125)
Debt issuance costs incurred (52,000) (80,250)
--------- ---------
Net cash provided by financing activities 30,568 654,914
--------- ---------
Net decrease in cash (7,437) (753)
Cash at beginning of period 22,231 4,013
--------- ---------
Cash at end of period $ 14,794 $ 3,260
========= =========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash paid during the period for:
Interest $ 7,381 $ 2,888
--------- ---------
Income taxes $ -- $ --
--------- ---------
SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES
Capital lease obligation incurred
to acquire property and equipment $ 58,483 $ --
--------- ---------
See accompanying notes to consolidated financial statements.
- - 5 -
P2i NEWSPAPER, INC.
(a wholly-owned subsidiary of P2i, Inc.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002
(see accountants' compilation report)
1. Nature of Business and Summary of Significant Accounting Policies
-----------------------------------------------------------------
Nature of business - P2i Newspaper, Inc. ("the Company") is principally
engaged in the conversion of text and graphics from print to interactive
Web content. Its clients include newspaper groups located in the United
States and the United Kingdom. The Company is headquartered in Bethlehem,
Pennsylvania and has a west coast sales office in California and a data
conversion center located in Kuala Lumpur, Malaysia.
The Company, a Delaware corporation, was incorporated in August 2002.
During September, 2002, the Company issued 100 shares of common stock to
its parent, P2i, Inc. ("P2i") in exchange for P2i's assets relating to the
newspaper business (principally patents, Internet domain and trade names,
the newspaper-related customer base, technology and use of the production
facility in Malaysia). In addition, newspaper employees were transferred
from P2i, Inc. to the Company.
Basis of consolidation - The accompanying consolidated financial statements
include the accounts of the Company and its wholly-owned subsidiary, P2i
Online SDN BHD, a Malaysian corporation (incorporated December 7, 2000).
The consolidated financial statements also include the activity of P2i,
Inc.'s Newspaper Division from January 1, 2002 through September 30, 2002.
This activity has been extracted from the books and records of P2i, Inc.
and includes all revenues and associated costs attributable to the
conversion of print to Web content for newspaper customers, and either
direct or allocated operating expenses of the Newspaper Division. All
significant intercompany accounts and transactions have been eliminated.
Basis of presentation - The accompanying consolidated financial statements
have been prepared on a going concern basis, which contemplates the
realization of assets and the satisfaction of liabilities in the normal
course of business. The financial statements do not include any adjustments
relating to the recoverability and classification of recorded asset amounts
or the amount and classification of liabilities that might be necessary
should the Company be unable to continue as a going concern. The Company's
continuation as a going concern is dependent upon its ability to generate
sufficient cash flows to meet its obligations on a timely basis, to obtain
additional financing as may be required, and to generate revenues to a
level where the Company becomes profitable. Additionally, the Company has
experienced extreme cash liquidity shortfalls from operations.
The Company's continued existence is dependent upon its ability to achieve
its operating plan. Management's plans include the following:
o In February, 2003, the Company signed an Agreement and Plan of
Merger with ProtoSource Corporation ("ProtoSource") to allow
ProtoSource to acquire P2i Newspaper, Inc. in exchange for a
controlling interest in ProtoSource.
o Obtaining additional working capital through the sale of common
stock or debt securities.
If management cannot achieve the above objectives, the Company may find it
necessary to dispose of assets, or undertake other actions as may be
appropriate.
- - 6 -
P2i NEWSPAPER, INC.
(a wholly-owned subsidiary of P2i, Inc.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002
(see accountants' compilation report)
1. Nature of Business and Summary of Significant Accounting Policies -
Continued
-------------------------------------------------------------------
Revenue recognition - The Company recognizes service revenue when
persuasive evidence of an arrangement exists, services are performed, the
price of the transaction is fixed and determinable, and collectibility is
reasonably assured.
Use of estimates - The presentation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date
of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from
those estimates.
Accounts receivable - The Company considers accounts receivable to be fully
collectible; accordingly, no allowance for doubtful accounts is required.
If amounts become uncollectible, they will be charged to operations when
that determination is made.
Property and equipment and depreciation - Property and equipment is stated
at cost. Depreciation is provided using the straight-line method over the
estimated useful lives of the related assets.
Capitalized software costs - The Company accounts for software development
costs in accordance with Statement of Position 98-1 "Accounting for Costs
of Computer Software Developed or Obtained for Internal Use", which
provides that costs incurred in the preliminary project stage be expensed
as incurred and cost incurred during the application development stage be
capitalized. Internally developed software is amortized using the
straight-line method over three years after the software is placed in
service.
Amortization - Debt issuance costs are being amortized using the
straight-line method over one year.
Foreign currency translation - For foreign currencies whose functional
currency is the local currency, balance sheet accounts are translated at
exchange rates in effect at the end of the year and income statement
accounts are translated at the average exchange rates for the year.
Translation gains or losses are included in other comprehensive income
(loss) and are presented as a separate component of stockholders' equity
(deficit). Transaction gains and losses are reflected in operations. There
were no translation gains or losses in 2003 or 2002, as the exchange rate
for the local Malaysian currency (the Ringgit Malaysia, "RM") was fixed at
3.8 RM to 1 U.S. Dollar.
Income taxes - Deferred income taxes are provided for temporary differences
between the financial reporting and tax basis of assets and liabilities
using enacted tax laws and rates for the years when the differences are
expected to reverse.
- - 7 -
P2i NEWSPAPER, INC.
(a wholly-owned subsidiary of P2i, Inc.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002
(see accountants' compilation report)
2. Proposed Acquisition
--------------------
On February 13, 2003, the Company announced an agreement and Plan of Merger
to transfer all of its outstanding capital stock to ProtoSource, in
exchange for the issuance of up to 19,383,531 shares of ProtoSource common
stock and satisfaction of the existing debt to ProtoSouce (the
"Agreement").
The 19,383,531 shares will be reduced by the number of shares equal to the
total fees incurred to audit the financial statements of the Company,
divided by $0.50 (the "Adjusted Shares"). The P2i Newspaper shareholders
shall receive 10 shares of ProtoSource common stock for each $1.00 of gross
income (as defined in the Agreement) earned by P2i Newspaper during
calendar years 2003-2005, calculated quarterly, up to the total number of
Adjusted Shares. The Adjusted Shares shall be subject to a three-year
lock-up, which may be released upon the stock price and volume reaching
established thresholds.
ProtoSource loaned the Company $50,000 in 2002, $995,280 in 2002, and
$348,673 between January 1, 2003 and September 30, 2003. The loans to P2i
are in the form of demand notes which, in the event that the merger does
not get completed, will be due on demand. The notes accrue interest at the
rate of 8% per annum. The ultimate repayment of the debt is highly
dependent upon the completion of the merger. The closing of this Agreement
is subject to approval by the shareholders of ProtoSource and P2i
Newspaper, and other customary terms and conditions. After the acquisition,
P2i Newspaper will become a wholly-owned subsidiary of ProtoSource.
3. Property and Equipment
----------------------
2003 2002
-------- --------
Software - internally developed $200,664 $200,664
Computer equipment 240,959 166,173
Automobile 24,395 24,395
Office equipment and furniture 16,480 16,388
-------- --------
482,498 407,620
Less: accumulated depreciation 275,713 109,480
-------- --------
$206,785 $298,140
======== ========
Included in property and equipment is equipment acquired under capital
leases with a cost of $121,331 and $62,848 at September 31, 2003 and 2002,
and accumulated amortization of $36,204 and $28,936 at September 31, 2003
and 2002, respectively.
- - 8 -
P2i NEWSPAPER, INC.
(a wholly-owned subsidiary of P2i, Inc.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002
(see accountants' compilation report)
4. Commitments and Contingencies
-----------------------------
Capital Leases
--------------
The Company leases certain equipment under noncancellable capital leases.
The following is a schedule of future annual minimum lease payments at
September 30, 2003 under the Company's capital leases (together with the
present value of minimum lease payments):
2004 $35,988
2005 29,990
--------
Total minimum lease payments 65,978
Less amount representing interest (12,441)
--------
Present value of net minimum lease payments 53,537
Less current portion 26,452
--------
Non-current portion $ 27,085
========
Operating Leases
----------------
The Company leases its headquarters in Pennsylvania (from P2i, Inc.) under
a sublease agreement, where the Company is responsible for 50% of the total
rent due for the office space. Rent expense charged to operations amounted
to approximately $27,000 and $15,000 for the nine months ended September
30, 2003 and 2002, respectively.
Future annual minimum lease payments due under operating leases are as
follows:
2004 $ 35,598
2005 36,366
2006 37,139
2007 37,913
2008 38,682
Thereafter 6,181
--------
$191,879
========
- - 9 -
P2i NEWSPAPER, INC.
(a wholly-owned subsidiary of P2i, Inc.)
======================================
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002
(see accountants' compilation report)
5. Income Taxes
------------
The Company files its U.S. tax return as part of a consolidated group with
P2i, Inc. The following represents the Company's portion of deferred income
taxes as of September 30:
2003 2002
--------- ---------
Net operating loss carryforwards $ 500,000 $ 300,000
Less valuation allowance (500,000) (300,000)
--------- ---------
$ -- $ --
========= =========
The Company has assessed its past earnings history and trends and
expiration dates of carryforwards and has determined that it is more likely
than not that no deferred tax assets will be realized, and thus has
provided valuation allowances of $500,000 and $300,000 at September 30,
2003 and 2002, respectively.
At September 30, 2003, the Company had federal and foreign net operating
loss carryforwards of approximately $300,000 and $1,000,000, respectively.
The federal net operating loss carryforwards begin to expire in 2022.
6. Due to P2i, Inc. and Related Company
------------------------------------
Due to related company represents advances received from P2i Ltd, UK.
Advances from P2i, Inc. and P2i Ltd, UK are interest free and are due on
demand.
7. Significant Customers
---------------------
A significant portion of net revenues was earned from certain customers in
2003 and 2002. Sales to these customers were as follows:
Customer 2003 2002
-------- ---- ----
A 40% 29%
B 17% 9%
C 4% 12%
Accounts receivable included approximately $104,000 due from the above
major customers at September 30, 2003.
- - 10 -