EXHIBIT 7.1
FINANCIAL STATEMENTS OF THE BUSINESS ACQUIRED
TABLE OF CONTENTS
PAGE
FINANCIAL STATEMENTS FOR THE YEAR ENDED
DECEMBER 31, 2001
Independent Auditor's Report 5
Balance Sheet 7
Statement of Operations 8
Statement of Cash Flows 9
Notes to Financial Statements 11
UNAUDITED FINANCIAL STATEMENTS FOR THE SIX MONTHS ENDED
JUNE 30, 2002 AND 2001
Balance Sheet 17
Statement of Operations 18
Statement of Cash Flows 19
Notes to Financial Statements 21
INDEPENDENT AUDITOR'S REPORT
Board of Directors and Stockholders
International Object Technology, Inc.
We have audited the accompanying balance sheet of International Object
Technology, Inc. as of December 31, 2001 and the related statements of
operations, retained earnings and cash flows for the year ended December 31,
2001. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audit.
We conducted our audit 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 audit provides a
reasonable basis for our opinion.
5
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of International Object
Technology, Inc. as of December 31, 2001, and the results of operations and cash
flows for the year ended December 31, 2001 in conformity with generally accepted
accounting principles.
KELLY, LEE & COMPANY, LLC
Monroe Twp., New Jersey
February 11, 2002
6
INTERNATIONAL OBJECT TECHNOLOGY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2001
December 31,
Current Assets 2001
------------
Cash and cash equivalents $ 150,681
Accounts receivable, less allowance for doubtful accounts of $10,000 771,892
Work in progress 34,706
Prepaid software licenses 30,000
Employee cash advances 1,985
Prepaid expenses 35,306
-------------
Total Current Assets 1,024,570
-------------
Property and Equipment, at Cost, Net of Accumulated Depreciation 42,471
-------------
TOTAL ASSETS $ 1,067,041
=============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities
Current maturities of shareholder loan $ 49,489
Accounts payable 27,242
Accrued expenses 362,629
Corporate taxes payable - current 5,300
Corporate taxes payable - deferred 192,000
-------------
Total current liabilities 636,660
Deferred taxes payable - long term 8,000
Shareholder loan, Net of Current Maturities 225,675
-------------
Total Liabilities 900,335
-------------
Contingencies
Stockholders' Equity
Common stock, 18,000,000 shares authorized, 11,630,494
shares issued and outstanding, no par value 66,000
Retained earnings 100,706
-------------
Total Stockholders' Equity 166,706
-------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 1,067,041
=============
See auditors' report and accompanying notes to financial statements.
7
INTERNATIONAL OBJECT TECHNOLOGY, INC.
STATEMENT OF OPERATIONS AND RETAINED EARNINGS
FOR THE YEAR ENDED DECEMBER 31, 2001
Year ended
December 31,
2001
---------------
Revenue $ 8,156,626
---------------
Direct Costs
Payroll - consultants 4,501,773
Payroll taxes - direct 302,197
Contracted consultants 1,367,241
Travel and other direct costs 21,068
---------------
Total direct costs 6,192,279
---------------
Gross Profit 1,964,347
Operating Expenses 1,797,340
---------------
Income from Operations 167,007
Other Income (Expense)
Interest Income 6,310
Interest Expense (31,313)
---------------
Total other income (expenses) (25,003)
---------------
Income Before Taxes 142,004
---------------
Provision for Taxes
Provision for taxes - current 5,000
Provision for taxes - deferred 43,000
Provision for taxes - deferred: "S" Corp. Revocation 157,000
---------------
Provision for Income Taxes 205,000
---------------
Net Loss (62,996)
Retained earnings, beginning 163,702
---------------
Retained earnings, ending $ 100,706
===============
See auditors' report and accompanying notes to financial statements.
8
INTERNATIONAL OBJECT TECHNOLOGY, INC.
STATEMENT OF CASH FLOWS
FOR THE YEAR ENDED DECEMBER 31, 2001
Year ended
December 31,
2001
--------------
CASH FLOWS FROM OPERATING ACTIVITIES
Cash received from fees $ 8,362,104
Cash paid to suppliers and employees (8,241,763)
Interest income received 6,310
Interest expense paid (43,505)
Income taxes received
Income taxes paid
-------------
NET CASH PROVIDED (USED) BY OPERATING ACTIVITIES 83,146
-------------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of property and equipment (20,673)
Employee cash advances repaid, net 34,927
Purchase of capital stock 1,500
Repayment of officer advances 16,575
Advances to officer (7,000)
-------------
NET CASH PROVIDED (USED) BY INVESTING ACTIVITIES 25,329
-------------
CASH FLOWS FROM FINANCING ACTIVITIES
Dividends paid (20,000)
Repayment of long-term debt (17,443)
Repayment of credit line (50,000)
Net proceeds from credit line 5,408
-------------
NET CASH PROVIDED (USED) BY FINANCING ACTIVITIES (82,035)
-------------
INCREASE IN CASH AND CASH EQUIVALENTS 26,440
CASH AND CASH EQUIVALENTS, BEGINNING 124,241
-------------
CASH AND CASH EQUIVALENTS, ENDING $ 150,681
=============
See auditors' report and accompanying notes to financial statements.
9
INTERNATIONAL OBJECT TECHNOLOGY, INC.
STATEMENT OF CASH FLOWS (continued)
FOR THE YEAR ENDED DECEMBER 31, 2001
Year ended
December 31,
2001
-------------
RECONCILIATION OF NET INCOME TO NET CASH PROVIDED
BY OPERATING ACTIVITIES
Net Income (Loss) $ (62,996)
-------------
Adjustments to reconcile net income to net cash provided by
operating activities:
Bad debt expense 22,528
Depreciation 10,819
Deferred corporate taxes 200,000
Capitalized interest expense 12,608
Stock-based compensation 33,500
Changes in assets and liabilities
(Increase) decrease in accounts receivable 178,287
(Increase) decrease in work in progress 27,191
(Increase) decrease in employee advances 0
(Increase) decrease in prepaid expenses (35,306)
Increase (decrease) in accounts payable (151,589)
Increase (decrease) in accrued liabilities (156,896)
Increase (decrease) in corporate taxes payable - current 5,000
-------------
TOTAL ADJUSTMENTS 146,142
-------------
NET CASH PROVIDED (USED) BY OPERATING ACTIVITIES $ 83,146
=============
See auditors' report and accompanying notes to financial statements.
10
INTERNATIONAL OBJECT TECHNOLOGY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2001
1) NATURE OF OPERATIONS
The Company is a privately held New Jersey corporation specializing in
providing web design and data base consultants to businesses. The
majority of its revenue is from short-term contracts. The Company's
offices are located in Clark, NJ.
2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
a. CASH AND CASH EQUIVALENTS
For purposes of the statement of cash flows, the Company considers
all highly liquid debt instruments with a maturity of three months
or less to be cash equivalents.
b. ACCOUNTS RECEIVABLE
An allowance for doubtful accounts has been established for
specific accounts in which the probability of collection is
doubtful. Uncollectible accounts are charged against the
reserve, as they are deemed worthless by management.
c. WORK IN PROGRESS
Work in progress represents the amount of unbilled consulting
services at the reporting date.
d. PROPERTY AND EQUIPMENT
The cost of property and equipment is depreciated using the
straight-line and accelerated methods over the estimated
useful lives of the assets. When property or equipment is sold
or otherwise disposed of, the cost and related accumulated
depreciation are removed from the respective accounts and the
resulting gain or loss is reflected in earnings. Expenditures
for maintenance, repairs and improvements, which do not
materially extend the lives of the assets are charged to
earnings.
The major asset categories and estimated useful lives are as
follows:
Asset Life
----- ----
Computers and equipment 3 - 5 years
Furniture and fixtures 5 - 7 years
11
e. INCOME TAXES/FEDERAL & STATE TAXES
Effective March 5, 2001, the Company revoked its election to be treated
as an "S Corporation" under the applicable provisions of the Internal
Revenue Service Code and the State of New Jersey.
f. DEFERRED TAXES
The Company reports its operations on the accrual basis of accounting
for financial reporting and the cash basis for tax purposes. This
difference along with the use of different depreciation methods and
lives for financial statement purposes gives rise to deferred taxes
which are accrued at statutory rates. The deferred tax assets and
liabilities represent the future tax consequences of those differences,
which will either be taxable or deductible when the assets and
liabilities are recovered or settled. The Company uses the asset and
liability method of accounting for income taxes as required by
Financial Accounting Standards Board Statement number 109.
g. USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the
date of the financial statements and reported amounts of revenues and
expenses during the reporting period. Actual results could differ from
those estimates.
h. SOFTWARE TECHNOLOGY AND DEVELOPMENT COSTS
In accordance with Statement of Financial Accounting Standards No. 86,
Accounting for the Costs of Computer Software to be Sold, Leased or
Otherwise Marketed, initial costs are charged to operations as research
prior to the development of a detailed program design or a working
model. Thereafter, the Company capitalizes the direct costs and
allocated overhead associated with the development of software
products. Costs incurred subsequent to the products release and
research and development performed under contract are charged to
operations.
Capitalized costs are amortized over the estimated product life (60
months) on straight-line basis. Unamortized costs are carried at the
lower of book value or net realizable value.
i. CONCENTRATION OF CREDIT RISK
The Company grants credit to its customers, primarily located
throughout the United States. The Company generally does not require
collateral from its customers.
j. COMPENSATED ABSENCES
The Company does not have a formal vacation policy.
12
3) PROPERTY AND EQUIPMENT
Description Amount
----------- ------
Computers and equipment $ 42,276
Furniture and fixtures 26,221
--------
68,498
Less: accumulated depreciation 26,027
--------
Net property and equipment $ 42,471
========
Depreciation expense for the year ended December 31, 2001 was $10,819.
4) CREDIT LINE
The Company has a $450,000 Line of Credit with a bank. The credit line
will mature on August 1, 2002. Interest is payable monthly at the prime
rate. The loan is secured by UCC filing on corporate assets, personal
guarantee of the two principal shareholders and prohibits prepayment of
the shareholder's loan (See note 5).
5) LONG-TERM SHAREHOLDER LOAN Amount
------
Note payable to shareholder, due in 54 equal monthly
installments of $5,000 including interest at 8%. Payments
commenced on July 15, 2001. A balloon payment is due on
December 31, 2005. The note contains an acceleration clause
in the event of a substantial change of ownership of the Company.
The note is unsecured and is subordinated to the credit line with
bank as described in Note 4. Subsequent to the financial statement
date, the note was renegotiated to a floating rate adjusted annually.
The new rate is the short term Applicable Federal Rate (AFR). The
rate in effect for 2002 is 3.9%. Monthly payments will continue at
$5,000. The balloon payment due on December 31, 2005, based
on the current interest rate, is $96,895. $305,164
Current maturities of long-term debt 49,489
---------
Long-term debt, net of current maturities $255,675
=========
13
Interest expense on this obligation during the year ended December 31,
2001 was $25,165.
The aggregate amount of long-term debt maturing over the next five
years as of December 31, 2001 is as follows:
Year Amount
---- ------
2002 $ 49,489
2003 50,932
2004 52,955
2005 151,788
2006 0
Thereafter 0
---------
TOTAL $ 305,164
=========
6) ACCRUED EXPENSES
Accrued expenses consist of the following: Amount
------
Payroll $ 257,902
Payroll taxes 4,542
Commissions 55,322
Other 44,863
----------
TOTAL $ 362,629
==========
7) RETIREMENT PLANS
The Company offers a salary reduction plan (401k) to their employees.
The plan requires no employer contribution. A voluntary employer
contribution is allowable at the employer's discretion. No employee
contribution expense for the year ended December 31, 2001 was incurred.
8) RELATED PARTY TRANSACTIONS
The Company has a long-term note from a principal shareholder. Terms on
this obligation are described in Note 5. For the year ended December
31, 2001, the note carried an interest rate of eight percent. During
the year ended December 31, 2001, the Company commenced payments on
this note. The Company paid principal payments of $17,443 and interest
payments of $37,357, including the payment of accrued interest from the
prior year of $24,800. Interest expense of $12,608 was capitalized on
this note during the year ended December 31, 2001.
During the year ended December 31, 2001, the Company received
repayments and advances from its principal shareholders totaling
$16,575 and advanced $7,000 to a shareholder. No interest was paid or
received on these advances.
14
9) COMMITMENTS
The Company leases its facility through May 2003. The Company is also
obligated for automobile and equipment leases expiring at various dates
through March 2004.
Future minimum lease payments under the non-cancelable operating lease
as of December 31, 2001 are as follows:
Year Ended Amount
---------- ------
December 31, 2002 $ 40,140
December 31, 2003 23,368
December 31, 2004 2,847
December 31, 2005 0
December 31, 2006 0
Thereafter 0
----------
TOTAL $ 66,355
==========
10) PROVISION FOR INCOME TAXES
As described in Note 2 e, the Company revoked its "S Corporation"
election on March 5, 2001. The revocation of this election resulted in
the recognition of Deferred Tax Liability and expense of $157,000.
The components of the Provision for Corporate Tax balance at December
31, 2001 are as follows:
Federal State Total
----------- ----------- -----------
Current $ 2,000 $ 3,000 $ 5,000
----------- ----------- -----------
Deferred
Current year 30,000 13,000 43,000
"S" Corporation revocation 125,000 32,000 157,000
----------- ----------- -----------
Total Deferred $ 155,000 $ 45,000 $ 200,000
----------- ----------- -----------
Total $ 157,000 $ 48,000 $ 205,000
=========== =========== ===========
The Company's deferred tax balance sheet accounts at December 31, 2001
are classified as follows:
Amount
-------------------------------
Current Noncurrent
------------- -----------
Cash basis taxable difference $ 192,000 -
Taxable depreciation difference - $ 8,000
------------- -----------
Deferred tax liability $ 192,000 $ 8,000
============= ===========
15
11) CONCENTRATION OF CREDIT RISK
The Company primarily maintains its cash balances in one financial
institution. The balances are insured through the Federal Deposit
Insurance Corporation up to $100,000. At December 31, 2001, the
Company's bank statement cash balances in excess of this amount were
$282,038.
12) CHANGE IN AUTHORIZED SHARES
The Company increased the authorized shares of no par value common
stock from 1,000 shares to 18,000,000 shares. This amendment was
effective January 30, 2001.
13) PURCHASE OF BUSINESS
The Company acquired the assets of bCompliant, Inc., in exchange for
752,715 shares of the Company. The Company accounted for the
acquisition on the purchase method of accounting. The acquisition was
effective March 5, 2001. No intangible value was considered in the
valuation of the acquired business. The asset acquired in this
transaction was:
Prepaid Software Licenses. $30,000
=======
14) STOCK-BASED COMPENSATION
Pursuant to the execution of the Employment Agreement with the
Company's Chief Operating Officer, the Company issued 777,777 shares of
stock to the employee. The expense recognized in the year ended
December 31, 2001 from the issuance of stock in this transaction was
$31,000.
15) STOCK OPTIONS
On January 27, 2001, the Company granted a strategic consultant an
option to purchase 50,000 shares at $0.01 per share and 50,000 shares
at the lesser of book value at the time of the exercise or $1.00 per
share. These options were exercised in August 2001, at a value of
$4,000. The proceeds from these options was $1,500. The Company
reported a $2,500 expense from the transaction in the year ended
December 31, 2001.
16) SUBSEQUENT EVENTS
Subsequent to the financial statement date, the Company entered into a
compensation agreement with its three operating executives. The
agreements define a base compensation and a quarterly incentive bonus
equal to 18% (collectively) of the pre-tax net profits of the Company.
16
INTERNATIONAL OBJECT TECHNOLOGY, INC.
(UNAUDITED)BALANCE SHEET
June 30, 2002
ASSETS
June 30,
2002
Current Assets (unaudited)
-----------
Cash and cash equivalents $ 159,516
Accounts receivable, less allowance for doubtful accounts of $10,000 648,524
Work in progress 818
Prepaid software licenses 30,000
Employee cash advances 4,985
Prepaid expenses 3,014
------------
Total Current Assets 846,857
-----------
Property and Equipment, at Cost, Net of Accumulated Depreciation 33,845
-----------
Other Asset
Intangible asset - self constructed software, net of Accumulated
Amortization 11,292
-----------
TOTAL ASSETS $ 891,994
===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities
Current maturities of shareholder loan $ 49,950
Accounts payable 21,907
Accrued expenses 301,806
Corporate taxes payable - current 25,000
Corporate taxes payable - deferred 155,000
-----------
Total current liabilities 553,663
Deferred taxes payable - long term 7,000
Shareholder loan, Net of Current Maturities 230,457
-----------
Total Liabilities 791,120
-----------
Contingencies
Stockholders' Equity
Common stock, 18,000,000 shares authorized, 11,830,494
shares issued and outstanding, no par value 75,661
Retained earnings 25,213
-----------
Total Stockholders' Equity 100,874
-----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 891,994
===========
See accompanying notes to financial statements.
17
INTERNATIONAL OBJECT TECHNOLOGY, INC.
(UNAUDITED)STATEMENT OF OPERATIONS AND RETAINED EARNINGS
FOR THE SIX MONTHS ENDED JUNE 30, 2002 AND JUNE 30, 2001
Six months Six months
ended ended
June 30, 2002 June 30, 2001
(unaudited) (unaudited)
--------------- --------------
Revenue $ 2,815,408 $ 4,670,568
--------------- --------------
Direct Costs
Payroll - consultants 1,863,747 2,274,789
Payroll taxes - direct 157,948 182,802
Contracted consultants 141,799 903,860
Travel and other direct costs - 17,068
-------------- --------------
Total direct costs 2,163,494 3,378,519
-------------- --------------
Gross Profit 651,914 1,292,049
Operating Expenses 719,077 1,003,094
-------------- --------------
Income from Operations (67,163) 288,955
-------------- --------------
Other Income (Expense)
Interest income 1,597 3,158
Interest expense (5,243) (17,186)
Director fees - Stock based compensation (9,661) -
-------------- --------------
Total other income (expenses) (13,307) (14,028)
-------------- --------------
Income Before Taxes (80,470) 274,927
-------------- --------------
Provision for Taxes
Provision for taxes - current 33,023 159,000
Provision for taxes - deferred (38,000) (45,000)
Provision for taxes - deferred: "S" Corp. Revocation - 152,000
-------------- --------------
Provision (Benefit) for Income Taxes (4,977) 266,000
-------------- --------------
Net Loss (Income) (75,493) 8,927
Retained earnings, beginning 100,706 163,702
-------------- --------------
Retained earnings, ending $ 25,213 $ 172,629
============== ==============
See accompanying notes to financial statements.
18
INTERNATIONAL OBJECT TECHNOLOGY, INC.
(UNAUDITED)STATEMENT OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 2002
Six months
ended
June 30, 2002
(unaudited)
-------------
CASH FLOWS FROM OPERATING ACTIVITIES
Cash received from fees $ 2,972,664
Cash paid to suppliers and employees (2,908,468)
Interest income received 1,597
Interest expense paid (5,243)
Income taxes paid (13,323)
-------------
NET CASH PROVIDED (USED) BY OPERATING ACTIVITIES 47,227
-------------
CASH FLOWS FROM INVESTING ACTIVITIES
Disposition of fixed assets 2,068
Capitalization of self constructed software (12,703)
Repayment of officer advances 10,000
Advances to officer (13,000)
-------------
NET CASH PROVIDED (USED) BY INVESTING ACTIVITIES (13,635)
-------------
CASH FLOWS FROM FINANCING ACTIVITIES
Repayment of long-term debt (24,757)
-------------
NET CASH PROVIDED (USED) BY FINANCING ACTIVITIES (24,757)
-------------
INCREASE IN CASH AND CASH EQUIVALENTS 8,835
CASH AND CASH EQUIVALENTS, BEGINNING (AS CORRECTED) 150,681
-------------
CASH AND CASH EQUIVALENTS, ENDING $ 159,516
=============
See accompanying notes to financial statements.
19
INTERNATIONAL OBJECT TECHNOLOGY, INC.
(UNAUDITED)STATEMENT OF CASH FLOWS (continued)
FOR THE SIX MONTHS ENDED JUNE 30, 2002
Six months
ended
June 30, 2002
RECONCILIATION OF NET INCOME TO NET CASH PROVIDED (unaudited)
-------------
BY OPERATING ACTIVITIES
Net Loss $ (75,493)
------------
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation & amortization 7,969
Deferred corporate taxes (38,000)
Stock-based compensation 9,661
Changes in assets and liabilities
(Increase) decrease in accounts receivable 123,368
(Increase) decrease in work in progress 33,888
(Increase) decrease in prepaid expenses 32,292
Increase (decrease) in accounts payable (5,335)
Increase (decrease) in accrued liabilities (60,823)
Increase (decrease) in corporate taxes payable - current 19,700
------------
TOTAL ADJUSTMENTS 122,720
------------
NET CASH PROVIDED (USED) BY OPERATING ACTIVITIES $ 47,227
============
See accompanying notes to financial statements.
20
INTERNATIONAL OBJECT TECHNOLOGY, INC.
NOTES TO (UNAUDITED) FINANCIAL STATEMENTS
JUNE 30, 2002
1) BASIS OF REPORTING
These financial statements should be read in conjunction with
International Object Technology, Inc. (the "Company") audited financial
statements and related notes thereto. The accounting policies used in
preparing these financial statements are the same as those described in
the Company's audited financial statements and related notes thereto
for the year ended December 31, 2001. In the opinion of management, the
accompanying unaudited condensed consolidated financial statements
contain all the adjustments (consisting only of normal recurring
accruals) necessary to present fairly the financial position as of June
30, 2002 and the results of operations for the six months ended June
30, 2002 and 2001 and cash flows for the six months ended June 30,
2002.
2) NATURE OF OPERATIONS
The Company is a privately held New Jersey corporation specializing in
providing web design and data base consultants to businesses. The
majority of its revenue is from short-term contracts. The Company's
offices are located in Clark, NJ.
3) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
a. CASH AND CASH EQUIVALENTS
For purposes of the statement of cash flows, the Company considers
all highly liquid debt instruments with a maturity of three months
or less to be cash equivalents.
b. ACCOUNTS RECEIVABLE
An allowance for doubtful accounts has been established for
specific accounts in which the probability of collection is
doubtful. Uncollectible accounts are charged against the reserve,
as they are deemed worthless by management.
c. WORK IN PROGRESS
Work in progress represents the amount of unbilled consulting
services at the reporting date.
d. PROPERTY AND EQUIPMENT
The cost of property and equipment is depreciated using the
straight-line and accelerated methods over the estimated useful
lives of the assets. When property or equipment is sold or
otherwise disposed of, the cost and related accumulated
depreciation are removed from the respective accounts and the
resulting gain or loss is reflected in earnings. Expenditures for
maintenance, repairs and improvements, which do not materially
extend the lives of the assets are charged to earnings.
21
The major asset categories and estimated useful lives are as
follows:
Asset Life
Computers and equipment 3 - 5 years
Furniture and fixtures 5 - 7 years
e. INCOME TAXES/FEDERAL & STATE TAXES
Effective March 5, 2001, the Company revoked its election to be
treated as an "S Corporation" under the applicable provisions of
the Internal Revenue Service Code and the State of New Jersey.
f. DEFERRED TAXES
The Company reports its operations on the accrual basis of
accounting for financial reporting and the cash basis for tax
purposes. This difference along with the use of different
depreciation methods and lives for financial statement purposes
gives rise to deferred taxes which are accrued at statutory rates.
The deferred tax assets and liabilities represent the future tax
consequences of those differences, which will either be taxable or
deductible when the assets and liabilities are recovered or
settled. The Company uses the asset and liability method of
accounting for income taxes as required by Financial Accounting
Standards Board Statement number 109.
g. USE OF ESTIMATES
The preparation of financial statements in conformity with
generally accepted accounting principles requires management to
make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and reported
amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
h. SOFTWARE TECHNOLOGY AND DEVELOPMENT COSTS
In accordance with Statement of Financial Accounting Standards No.
86, Accounting for the Costs of Computer Software to be Sold,
Leased or Otherwise Marketed, initial costs are charged to
operations as research prior to the development of a detailed
program design or a working model. Thereafter, the Company
capitalizes the direct costs and allocated overhead associated
with the development of software products. Costs incurred
subsequent to the products release and research and development
performed under contract are charged to operations.
Capitalized costs are amortized over the estimated product life
(60 months) on straight-line basis. Unamortized costs are carried
at the lower of book value or net realizable value.
22
i. CONCENTRATION OF CREDIT RISK
The Company grants credit to its customers, primarily located
throughout the United States. The Company generally does not
require collateral from its customers.
j. COMPENSATED ABSENCES
The Company does not have a formal vacation policy.
4) PROPERTY AND EQUIPMENT
Description Amount
----------- ------
Computers and equipment $41,620
Furniture and fixtures 26,221
-------
67,841
Less: accumulated depreciation 33,996
-------
Net property and equipment $33,845
=======
Depreciation expense for the six months ended June 30, 2002 was $7,969.
5) CREDIT LINE
The Company has a $450,000 Line of Credit with a bank. The credit line
will mature on August 1, 2002. Interest is payable monthly at the prime
rate. The loan is secured by UCC filing on corporate assets, personal
guarantee of the two principal shareholders and prohibits prepayment of
the shareholder's loan (See note 6).
6) LONG-TERM SHAREHOLDER LOAN Amount
------
Note payable to shareholder, due in 54 equal monthly
installments of $5,000 including interest at 8%. Payments
commenced on July 15, 2001. A balloon payment is due on
December 31, 2005. The note contains an acceleration clause
in the event of a substantial change of ownership of the Company.
The note is unsecured and is subordinated to the credit line with
bank as described in Note 5. Subsequent to the financial statement
date, the note was renegotiated to a floating rate adjusted annually.
The new rate is the short term Applicable Federal Rate (AFR). The
rate in effect for 2002 is 3.9%. Monthly payments will continue at
$5,000. The balloon payment due on December 31, 2005, based
on the current interest rate, is $96,895. $280,407
Current maturities of long-term debt 49,950
--------
Long-term debt, net of current maturities $230,457
========
23
Interest expense on this obligation during the six months ended June
30, 2002 was $5,243.
The aggregate amount of long-term debt maturing over the next five
years as of June 30, 2002 is as follows:
Year Amount
---- ------
2002 $ 24,732
2003 50,932
2004 52,955
2005 151,788
2006 0
Thereafter 0
---------
TOTAL $ 280,407
=========
7) ACCRUED EXPENSES
Accrued expenses consist of the following: Amount
------
Payroll $ 261,527
Commissions 23,897
Other 16,382
----------
TOTAL $ 301,806
=========
8) RETIREMENT PLANS
The Company offers a salary reduction plan (401k) to their employees.
The plan requires no employer contribution. A voluntary employer
contribution is allowable at the employer's discretion. No employee
contribution expense for the six months ended June 30, 2002 was
incurred.
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9) RELATED PARTY TRANSACTIONS
The Company has a long-term note from a principal shareholder. Terms on
this obligation are described in Note 6. For the six months ended June
30, 2002, the note carried an interest rate of three point nine
percent. During the six months ended June 30, 2002, the Company made
monthly payments of $5,000 on this note. The Company paid principal
payments of $24,757 and interest payments of $5,243.
During the six months ended June 30, 2002, the Company received
repayments and advances from its principal shareholders totaling
$10,000 and advanced $13,000 to a shareholder. No interest was paid or
received on these advances.
10) COMMITMENTS
The Company leases its facility through May 2003. The Company is also
obligated for automobile and equipment leases expiring at various dates
through March 2004.
Future minimum lease payments under the non-cancelable operating lease
as of June 30, 2002 are as follows:
Year Ended Amount
---------- ------
December 31, 2002 $ 20,070
December 31, 2003 11,684
December 31, 2004 1,424
December 31, 2005 0
December 31, 2006 0
Thereafter 0
---------
TOTAL $ 33,178
=========
11) PROVISION FOR INCOME TAXES
As described in Note 2 e, the Company revoked its "S Corporation"
election on March 5, 2001. The revocation of this election resulted in
the recognition of Deferred Tax Liability and expense of $157,000.
The components of the Provision for Corporate Tax balance at June 30,
2002 are as follows:
Federal State Total
----------- ------------ -----------
Current $ 16,000 $ 17,023 $ 33,023
----------- ------------ -----------
Deferred
Current year (33,000) (5,000) (38,000)
Total Deferred $ (33,000) $ (5,000) $ (38,000)
----------- ----------- -----------
Total $ (17,000) $ 12,023 $ (4,977)
=========== =========== ===========
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The Company's deferred tax balance sheet accounts at June 30, 2002 are
classified as follows:
Amount
----------------------------------
Current Noncurrent
--------- ----------
Cash basis taxable difference $ 155,000 -
Taxable depreciation difference - $ 7,000
--------- ----------
Deferred tax liability $ 155,000 $ 7,000
========= ==========
12) CONCENTRATION OF CREDIT RISK
The Company primarily maintains its cash balances in one financial
institution. The balances are insured through the Federal Deposit
Insurance Corporation up to $100,000. At June 30, 2002, the Company's
cash balances in excess of this amount were $59,516.
13) CHANGE IN AUTHORIZED SHARES
The Company increased the authorized shares of no par value common
stock from 1,000 shares to 18,000,000 shares. This amendment was
effective January 30, 2001.
14) PURCHASE OF BUSINESS
The Company acquired the assets of bCompliant, Inc., in exchange for
752,715 shares of the Company. The Company will account for the
acquisition on the purchase method of accounting. The acquisition was
effective March 5, 2001. No intangible value was considered in the
valuation of the acquired business. The asset acquired in this
transaction was:
Prepaid Software Licenses. $30,000
=======
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