Filed Pursuant to Rule 424(b)(3)
Registration No. 333-118040
PROSPECTUS SUPPLEMENT
NUMBER 1
TO
PROSPECTUS DATED OCTOBER 12, 2004
OF
ELECTRONIC CONTROL SECURITY INC.
4,200,000 SHARES OF COMMON STOCK
This Prospectus Supplement relates to the sale of up to 4,200,000 shares
of the common stock (the "Shares") of Electronic Control Security Inc. (the
"Company") offered pursuant to a prospectus dated October 12, 2004 (the
"Prospectus"). The Shares have been registered to permit public secondary
trading of the common stock being offered by the selling shareholders named in
the Prospectus. We are not selling any of the Shares in this offering and
therefore will not receive any proceeds from this offering.
This Prospectus Supplement No. 1 includes the attached Quarterly Report on
Form 10-QSB of the Company for the quarter ended March 31, 2005 as filed with
the Securities and Exchange Commission ("SEC") on May 13, 2005, the Company's
Current Report on Form 8-K as filed with the SEC on March 8, 2005, Amendment No.
1 to the Company's Current Report on Form 8-K as filed with the SEC on May 9,
2005 and Amendment No. 2 to the Company's Current Report on Form 8-K as filed
with the SEC on August 15, 2005. The exhibits to the filed reports are not
included with this Prospectus Supplement No. 1 and are not incorporated by
reference herein.
Our common stock is traded on the Over-the-Counter Bulletin Board under
the symbol "EKCS".
You should only rely on the information provided in the Prospectus, this
Prospectus Supplement or any additional supplement. We have not authorized
anyone else to provide you with different information. You should not assume
that the information in the Prospectus or this Prospectus Supplement or any
additional supplement is accurate as of any date other than the date on the
front of those documents.
If the information in the attached reports is inconsistent with any
information contained in the Prospectus or in the reports, proxy statements or
other documents previously filed with the SEC (collectively, the "SEC Reports")
incorporated by reference in the Prospectus or delivered in connection
therewith, the Prospectus and/or any SEC Report, as applicable, shall be deemed
superseded by this Prospectus Supplement. In all other ways, the Prospectus
shall remain unchanged.
This Prospectus Supplement should be read in conjunction with, and may not
be delivered or utilized without, the Prospectus.
NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES
COMMISSION HAS APPROVED OR DISAPPROVED OF THESE SECURITIES OR PASSED UPON THE
ADEQUACY OR ACCURACY OF THE PROSPECTUS OR THIS PROSPECTUS SUPPLEMENT. ANY
REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
The date of this Prospectus Supplement No. 1 is August 25, 2005
U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
|x| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended: March 31, 2005
|_| 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 0-26721
ELECTRONIC CONTROL SECURITY INC.
(Exact name of small business issuer
as specified in its charter)
New Jersey 22-2138196
(State or other jurisdiction (IRS Employer Identification No.)
of incorporation or organization)
790 Bloomfield Avenue, Clifton, New Jersey 07012
(Address of principal executive offices)
(973) 574-8555
(Issuer's telephone number)
Not Applicable
(Former name, former address and former
fiscal year, if changed since last report)
APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY
PROCEEDINGS DURING THE PRECEDING FIVE YEARS
Check whether the registrant filed all documents and reports required to be
filed by Section l2, 13 or 15(d) of the Exchange Act after the distribution of
securities under a plan confirmed by a court. Yes |_| No |_|
APPLICABLE ONLY TO CORPORATE ISSUERS
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date: On May 11, 2005 there were 7,094,944
shares of common stock outstanding.
Transitional Small Business Disclosure Format (Check one): Yes |_| No |X|
PART I -- FINANCIAL INFORMATION
Item 1. Financial Statements.
F-1
Electronic Control Security Inc.
Consolidated Balance Sheets
March 31, June 30,
2005 2004
---- ----
(Unaudited)
ASSETS
Current assets
Cash and cash equivalents $ 43,995 $ 1,552,575
Marketable securities, available for sale 48,696 --
Certificate of deposit 102,183 101,723
Accounts receivable, net of allowance of $100,000 1,935,827 729,070
Inventories 1,993,722 1,635,305
Other current assets 399,571 318,795
------------ ------------
Total current assets 4,523,994 4,337,468
Property, equipment and software development costs - net 547,074 549,727
Intangible assets - net 1,418,168 40,733
Certificate of deposit, pledged 250,000 --
Goodwill 50,000 50,000
Deferred income taxes 441,800 441,800
Other assets 78,363 84,709
------------ ------------
$ 7,309,399 $ 5,504,437
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities
Accounts payable and accrued expenses $ 1,379,915 $ 465,078
Bank line of credit -- 500,000
Short-term loan -- 250,000
Current maturities of long-term debt 232,992 99,996
Obligations under capital leases 632 4,396
Payroll taxes payable 16,885 3,012
Income taxes payable -- 2,500
------------ ------------
Total current liabilities 1,630,424 1,324,982
Noncurrent liabilities
Long-term debt 493,841 141,671
Due to officers and shareholders 359,795 387,050
Deferred income taxes 48,000 48,000
------------ ------------
Total liabilities 2,532,060 1,901,703
COMMITMENTS AND CONTINGENCIES - see notes
Shareholders' equity
Series A Convertible Preferred stock, cumulative, $.01 par value;
$2.00 liquidation preference; 5,000,000 shares authorized,
362,500 and 587,500 shares issued and outstanding, respectively 3,625 5,875
Series B 10% Convertible Preferred stock, cumulative, $.001 par value;
$1,000 per share liquidation preference; 2,000 shares authorized,
2,000 and 2,000 shares issued and outstanding, respectively 2 2
Common Stock, $.001 par value; 30,000,000 shares authorized;
7,163,992 and 5,555,707 shares issued; 7,063,992 and 5,455,707
shares outstanding, respectively 7,164 5,556
Additional paid-in capital 10,220,322 8,577,764
Accumulated deficit (5,447,351) (4,990,305)
Accumulated other comprehensive income 3,577 13,842
Treasury stock, at cost, 100,000 shares (10,000) (10,000)
------------ ------------
Total shareholders' equity 4,777,339 3,602,734
------------ ------------
$ 7,309,399 $ 5,504,437
============ ============
See Notes to Consolidated Financial Statements.
F-2
Electronic Control Security Inc.
Consolidated Statements of Operations
Nine Months Three Months
Ended Ended
March 31, March 31,
2005 2004 2005 2004
---- ---- ---- ----
(Unaudited) (Unaudited) (Unaudited) (Unaudited)
Revenues $ 3,353,819 $ 1,465,251 $ 1,396,227 $ 449,264
Cost of revenues 1,851,574 655,849 633,105 259,120
----------- ----------- ----------- -----------
Gross profit 1,502,245 809,402 763,122 190,144
----------- ----------- ----------- -----------
Research and development 234,556 238,611 72,727 66,502
Selling, general and administrative expenses 1,432,379 1,103,091 626,080 230,134
Stock based compensation 120,000 117,200 0 31,700
----------- ----------- ----------- -----------
Income (loss) from operations (284,690) (649,500) 64,315 (138,192)
Other (income) expense
Interest expense 84,973 63,536 28,088 26,577
Interest income (11,266) (2,508) (4,159) (1,122)
Minority interest in subsidiary loss (40,691) (39,703) (13,525) (7,647)
Gain on sale of marketable securities (10,660) -- (3,141) --
----------- ----------- ----------- -----------
Total other (income) expense 22,356 21,325 7,263 17,808
----------- ----------- ----------- -----------
Income (loss) before tax benefit (307,046) (670,825) 57,052 (156,000)
Income tax benefit -- (31,300) -- --
----------- ----------- ----------- -----------
Net income (loss) before dividends (307,046) (639,525) 57,052 (156,000)
Dividends related to convertible preferred stock 150,000 -- 50,000 --
----------- ----------- ----------- -----------
Net income (loss) attributable to common shareholders $ (457,046) $ (639,525) $ 7,052 $ (156,000)
=========== =========== =========== ===========
Net income (loss) per share:
Basic $ (0.07) $ (0.14) $ 0.00 $ (0.03)
=========== =========== =========== ===========
Diluted $ (0.07) $ (0.14) $ 0.00 $ (0.03)
=========== =========== =========== ===========
Weighted average number of common shares and equivalents:
Basic 6,207,406 4,470,559 6,720,505 4,569,061
=========== =========== =========== ===========
Diluted 6,207,406 4,470,559 6,720,505 4,569,061
=========== =========== =========== ===========
See Notes to Consolidated Financial Statements.
F-3
Electronic Control Security Inc.
Consolidated Statements of Cash Flows
Nine Months
Ended
March 31,
2005 2004
---- ----
(Unaudited) (Unaudited)
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
Cash flows from operating activities:
Net loss before deemed dividends $ (307,046) $ (639,525)
Adjustments to reconcile loss
to net cash used by operating activities:
Depreciation and amortization 135,287 124,013
Increase in allowance for bad debts -- --
Stock based compensation 120,000 117,200
Minority interest in subsidiary loss (40,691) (39,703)
Gain on sales marketable securities (10,660)
Deferred income taxes -- (31,300)
Foreign currency translation adjustments 4,864 4,106
Increase (decrease) in cash attributable
to changes in assets and liabilities
Accounts receivable (1,206,759) (40,098)
Inventory (358,417) (286,722)
Other current assets (40,085) (21,071)
Other assets 6,346 --
Accounts payable and accrued expenses 765,895 86,239
Income taxes payable (2,500) (6,000)
Payroll taxes payable 13,873 (9,935)
----------- -----------
Net cash used by operating activities (919,893) (742,796)
Cash flows from investing activities:
Investment in marketable securities (53,165) --
Investment in Clarion (529,894)
Acquisition of property, equipment and software development (74,666) (137,550)
----------- -----------
Net cash used in investing activities (657,725) (137,550)
Cash flows from financing activities:
Proceeds from exercise of stock options and warrants 708,850 --
Proceeds (payments) on bank loan and line of credit -- (60,000)
Repayment of short-term borrowing (250,000) --
Certificate of deposit (purchased) redeemed (250,460) 300,000
Payments on long-term debt (108,333) (75,000)
Payments on lease obligations (3,764) (9,674)
Loan officers and shareholders - net (27,255) 653,262
----------- -----------
Net cash provided by financing activities 69,038 808,588
----------- -----------
Net decrease in cash and cash equivalents (1,508,580) (71,758)
Cash and cash equivalents at beginning of period 1,552,575 75,081
----------- -----------
Cash and cash equivalents at end of period $ 43,995 $ 3,323
=========== ===========
See Notes 5 for a summary of noncash investing activities
Supplemental disclosures of cash flow information
Cash paid during the period for:
Interest $ 84,973 $ 63,536
=========== ===========
Taxes $ -- $ 5,224
=========== ===========
See Notes to Consolidated Financial Statements.
F-4
Electronic Control Security Inc.
Notes to the Consolidated Financial Statements
Note 1 - Basis of Presentation
The accompanying unaudited consolidated financial statements of Electronic
Control Security Inc. and its Subsidiaries (collectively "the Company")
have been prepared in accordance with generally accepted accounting
principles for interim financial information and with Item 310(b) of
Regulation SB. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for
complete financial statements. In the opinion of management, all
adjustments (consisting of normal recurring accruals) considered necessary
for a fair presentation have been included. Operating results for the nine
months ended March 31, 2005 are not necessarily indicative of the results
that may be expected for the year ending June 30, 2005. These unaudited
consolidated financial statements should be read in conjunction with the
audited consolidated financial statements and footnotes thereto included
in the Company's Form 10-KSB/A for the year ended June 30, 2004, as filed
with the Securities and Exchange Commission.
Certain prior year balances have been reclassified to conform to the
current year presentation
Note 2 - Earnings Per Share
In determining basic or diluted earnings per share (EPS), the effects of
dividends related to the Company's Series A convertible preferred stock is
added to the net loss.
Basic EPS is computed by dividing net income or net loss by the weighted
average number of common shares outstanding for the period. Diluted EPS
reflects the potential dilution from the exercise or conversion of other
securities into common stock, but only if dilutive. The following
securities have been excluded from the dilutive per share computation, as
they are anti-dilutive.
2005 2004
---- ----
Stock options 1,100,000 625,000
Warrants 1,496,875 896,875
Convertible Preferred Stock 2,411,932 612,000
Note 3 - Stock Based Compensation Plans
The Company accounts for stock-based employee and outside directors
compensation under Accounting Principles Board ("APB") Opinion No. 25,
"Accounting for Stock Issued to Employees", and related interpretations.
The Company has adopted the disclosure-only provisions of Statement of
Financial Accounting Standards ("SFAS") No. 123, "Accounting for
Stock-Based Compensation" and SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure", which was released in December
2002 as an amendment of SFAS No. 123.
F-5
Electronic Control Security Inc.
Notes to the Consolidated Financial Statements
Note 4 - Stock Based Compensation Plans - continued
Stock options and warrants granted to non-employees are recorded at their
fair value, as determined in accordance with SFAS No. 123 and Emerging
Issues Task Force Consensus No. 96-18, and recognized over the related
service period.
The following table illustrates the effect on net income and earnings per
share if the fair value based method had been applied to all awards.
Nine Months Three months
Ended March 31,
2005 2004 2005 2004
---- ---- ---- ----
Net income (loss), as reported $(457,056) $(639,525) $ 7,052 $(156,000)
Add: Stock based compensation
expense, as reported, net of related tax effects -- 20,300 -- 20,300
Deduct: Total stock-based compensation
expense determined under the fair value based
method for all awards, net of related tax effects (65,319) (194,435) (65,319) (184,574)
--------- --------- --------- ---------
Pro forma net loss $(522,365) $(813,660) $ (58,267) $(320,274)
========= ========= ========= =========
Basic and diluted loss per share, as reported $ (.07) $ (.14) $ (.00) $ (.03)
Basic and diluted loss per share, pro forma $ (.08) $ (.18) $ (.01) $ (.07)
The weighted average per share fair value of options granted during the
nine months ended March 31, 2005 and 1994 was $2.33 and $.96,
respectively. The fair value of each option granted was estimated using
the Black-Scholes option-pricing model and the following weighted average
assumptions;
2005 2004
Expected volatility 151.12% 159.13%
Expected life of option 8 8
Risk -free rate of interest 3.97% 3.80%
Dividend yield -- --
Note 5 - Non-cash Investing and Financing Activities
Non-cash investing and financing activities are excluded from the
consolidated statement of cash flows. For the nine months ended March 31,
2005, non-cash activities included the following items:
F-6
Electronic Control Security Inc.
Notes to the Consolidated Financial Statements
Note 5 - Non-cash Investing and Financing Activities - continued
Asset Acquisition of Clarion Sensing Systems, Inc., ("Clarion") (See Note
9).
Fair value of assets acquired $ 1,435,402
===========
Cash advanced to sellers $ 413,144
Liabilities assumed 242,442
Stock issued 663,066
Transaction costs 116,750
-----------
Total purchase price $ 1,435,402
===========
Note 6 - Inventories
Inventories consist of the following:
March June
2005 2004
---- ----
Raw materials $ 267,111 $ 203,765
Work-in-process 611,758 240,093
Finished goods 1,114,854 1,191,448
----------- -----------
$ 1,993,722 $ 1,191,448
=========== ===========
Note 7 - Short-Term Borrowing
On April 1, 2004, the company entered into a strategic investment
relationship with the Fairchild Corporation. The investment relationship
began with a six-month revolving line of credit in the amount of $250,000
at 7% interest per annum. This loan was repaid in July 2004.
Note 8 - Long-Term Debt
In November 2004, the Company's existing $500,000 revolving line of credit
was converted into a term loan to be repaid over five years in monthly
installments of $8,333 plus interest at the rate of 8% per annum. In
connection with conversion the Company pledged a certificate of deposit in
the amount of $250,000 as additional collateral.
In connection with the Clarion acquisition the Company assumed an existing
loan in the amount of $95,300. The loan is payable in 34 monthly
installments of $2,750 plus interest at the rate of prime plus 1/2% per
annum.
F-7
Electronic Control Security Inc.
Notes to the Consolidated Financial Statements
Note 9 - Acquisition
On March 4, 2005, the Company, through its wholly owned subsidiary,
Clarion Sensing Systems Acquisition Corp.(the "Subsidiary"), entered into
a series of agreements with Clarion Sensing Systems, Inc., an Indiana
corporation ("Clarion"), and its stockholders (the "Clarion Stockholders")
to acquire all of Clarion's assets (the "Clarion Assets") and assume
certain of its liabilities. Clarion is a provider of proprietary nuclear,
biological, chemical and radiological (NBCR) remote monitoring sensor
systems designed for air and water contamination detection sensing
applications.
The purchase price was approximately $1.45 million consisting of (i) the
issuance of 394,682 shares of common stock of ECSI ("Shares") and (ii) the
assumption of $655,586 of certain liabilities of Clarion, of which ECSI
already had paid approximately $413,144 as of the date hereof and (iii)
transaction fees of $116,750. Based on an independent valuation, the
reported purchase price includes approximately $48,000 of furniture and
equipment and $1.4 million of identifiable intangibles. The identifiable
intangibles acquired from Clarion consist of trademarks, patents pending
and proposed patents, and internet domain names. These assets will be
amortized on a straight-line basis over estimated useful lives of from
five to twenty years.
In addition to the initial cost of the acquisition, the Company agreed to
assume $438,959 of certain liabilities of Clarion on a contingent basis .
The Subsidiary will be obligated to pay the Contingent Liabilities, if at
all, only if the Subsidiary achieves (A) sales in excess of $3,000,000
("$3,000,000 in Sales") and/or (B) net earnings before taxes in excess of
$600,000 ("$600,000 in Net Earnings") in one of its fiscal years beginning
within three (3) years of March 4, 2005. In the event $3,000,000 in Sales
are achieved but $600,000 in Net Earnings are not achieved, then 10% of
the Subsidiary's net earnings before taxes earned during such fiscal year
shall be utilized to pay the Contingent Liabilities. In the event $600,000
in Net Earnings are achieved (whether or not $3,000,000 in Sales are
achieved), then (I) all net earnings before taxes in excess of $600,000
earned during such fiscal year plus (II) 10% of the Subsidiary's net
earnings before taxes earned during such fiscal year, shall be utilized to
pay the Contingent Liabilities. If the Contingent Liabilities are not paid
in full and $3,000,000 in Sales or $600,000 in Net Earnings occurs in one
or more subsequent fiscal years, then net earnings before taxes with
respect to such fiscal years shall be utilized to pay the Contingent
Liabilities in the manner set forth in the preceding two sentences until
such time, if ever, the Contingent Liabilities are paid in full. Any
amounts shall be payable in cash or shares of common stock (valued as of
the closing ask price on the date of issuance) as the recipient shall
direct.
The Company anticipates the contingent payments made, if any, will be
treated as additional purchase price and included as an addition to the
identifiable intangible assets. As of March 31, 2005, the Company is not
liable for any contingent payments and, therefore, has not accrued any at
this time. The Company will continue to asses its liability under the
contingent payment arrangement in each successive quarter, and will record
additional purchase price through an increase to intangible assets, if and
when a liability is realized.
F-8
Electronic Control Security Inc.
Notes to the Consolidated Financial Statements
Note 9 - Acquisition - continued
The following table presents unaudited pro forma revenue, net loss and
loss per share giving the effect of Clarion acquisition as if it had been
completed at the beginning of each period presented:
Nine months ended Three months ended
March 31, March 31,
2005 2004 2005 2004
Revenue $ 3,362,264 $ 1,526,421 $ 1,396,227 $ 469,240
=========== =========== =========== ===========
Net loss $ (799,807) $ (920,793) $ (66,625) $ (233,444)
=========== =========== =========== ===========
Net loss per share,
basic and diluted $ (0.12) $ (0.19) $ (0.01) $ (0.05)
It should be noted that sales for the quarter ending March 31, 2005
amounted to $1,396,227 as compared to $449,264 for the same period in fiscal '04
with an operating profit of $57,052 as compared to an operating loss of $156,000
before adjusting for stock based compensation and stock based dividends.
F-9
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations.
Overview
We design, develop, manufacture and market technology-based integrated
security systems. We support systems integrators in the course of providing risk
assessment and vulnerability studies to ascertain a client's security
requirements, in developing a comprehensive risk management and mitigation
program, as well as offer product design and engineering services.
We market our products domestically and internationally to:
o national and local government entities;
o large industrial facilities and major office complexes;
o energy facilities, including nuclear plants, power utilities and
pipelines; and
o commercial transportation centers, such as airports and seaports.
We believe that we are one of the few true comprehensive security
solutions providers in the industry. We are able to analyze a security risk and
develop security programs specifically tailored to mitigate that risk, including
designing, engineering and manufacturing individual components of a system as
may be necessary to deliver a fully integrated security system customized to a
client's requirements. We are frequently engaged by security system integrators,
security system dealers/installers, and commercial architects and engineers
because we are able to deliver an integrated platform that includes design,
engineering services and fully integrated security solutions that support their
requirements for the completion of a given project.
We believe that we have developed a superior reputation as a provider of
integrated security systems since our inception in 1976 because we:
o offer the complete range of solutions-driven responses to
accommodate our customer's needs;
o offer technologically superior products;
o are able to design, engineer and manufacture systems customized to
our client's specific requirements;
o deliver systems that are easy to operate and maintain while
providing superior life cycle cost performance compared to systems
offered by our competitors;
o have established solid credentials in protecting high value targets;
and
o offer our customers perhaps the best warranty in the industry.
Industry Analysis
The security industry continues a rapid and significant evolution. The
industry is evolving from a technological perspective because new technologies
are being developed specifically to meet rapidly changing security challenges
and existing technologies are being adapted for new uses. The industry is also
evolving as the public and private sectors continue to analyze and distinguish
new security risks while phasing out labor-intensive security defense systems
further leading industry participants to seek to develop technologies and
products to fill these newly discerned requirements. As part of our ongoing
effort to provide our clients with the highest quality and most advanced
systems, we continue to identify, analyze and acquire new and emerging
technologies that allow us to offer a comprehensive range of security solutions.
Spending in the security industry has increased significantly over the
last several months as Congress has begun to allocate and release money to fund
Homeland Security initiatives. We expect this trend to continue for the
foreseeable future.
Quarterly Accomplishments
We continued to perform under existing agreements at to render services at
Tinker Air Force Base, Hanscom Air Force Base, at Duke nuclear power facilities
and other facilities for which we have been engaged to supply products and
services.
We submitted bids on nine new projects for work to be performed at our
Clifton, NJ and Madison, AL facilities. We cannot be certain that we will be
successful in winning any of the bids tendered. Even if we do receive orders,
contracts are subject to cancellation by clients upon short notice with little
or no penalty, as is typical in our industry. Moreover, contracts we enter into
with government entities are often awarded prior to legislative approval of the
funding to support those contracts and, consequently, the entire amount of
orders and contracts received from these entities may never be funded.
In December 2004, we organized a committee to evaluate and update our
internal control structure and procedures for financial reporting as required by
Section 404 of the Sarbanes-Oxley Act of 2002 (the "404 Committee"). The 404
Committee is comprised of members of our Audit Committee and personnel drawn
from our finance, operations and marketing departments. The 404 Committee is
responsible for preparing an internal control report that attests to the
effectiveness of the Company's internal control structure and procedures for
financial reporting, and to the extent applicable, describes any material
weakness in internal control over financial reporting identified by the 404
Committee. The 404 Committee's report is to be filed with the Annual Report on
Form 10-KSB along with a report of the Company's registered public accounting
firm which includes the auditor's opinions on whether management's assessment of
internal control over financial reporting is fairly stated and whether the
Company maintained effective internal control over financial reporting. The 404
Committee is working toward meeting our June 30, 2007 internal control over
financial reporting requirements.
We obtained verbal authorization to proceed on the Tinker Air Force Base
contract after completing our 95% design review on schedule.
In January 2005, the Company announced it received $640,000 from the
exercise of common stock warrants during the fiscal second quarter ended
December 31, 2004.
In February 2005, the Company entered into a strategic alliance with
Hudson Marine and Amata Inc. to integrate the Company's security solutions into
both seaport and airport security programs.
During the quarter, the Department of Defense ("DoD") Integrated Base
Defense Security System (IBDSS) program increased the amount to be spent to
secure Tinker Air Force Base by $500,000, bringing the total contract to
approximately $4.8 million.
On February 17, 2005, the Company entered into a strategic alliance with
SIGCOM, a systems integrator focusing on design and security integration for
federal government clients.
On February 21, 2005, Arthur Barchenko addressed the 21st International
Port Conference in Alexandria, Egypt and presented a White Paper outlining a
multi-phased security approach for port facilities.
On March 4, 2005, the Company completed the acquisition of all of the
assets of Clarion Sensing Systems, Inc. for an aggregate purchase price of
approximately $1.4 million consisting of (i) the issuance of 394,682 shares of
common stock, (ii) the assumption of $655,587 of certain liabilities of Clarion,
of which the Company already has paid approximately $413,144 as of the date
hereof and (iii) transaction costs totaling $116,750, as reported in a Current
Report on Form 8-K filed on March 7, 2005 and thereafter amended on May 9, 2005.
We believe that the remote environmental monitoring sensor systems we can offer
as a result of this acquisition enhance our product line and we expect to see
rapid growth in sales of these products over the next several years.
Contractual Obligations
The following table presents our contractual obligations and commercial
commitments as of March 31, 2005
-------------------------------------------------------------------------
Payments Due By Period
- ------------------------------------------------------------------------------------------------
Contractual Cash Less than
Obligations Total One Year 1-3 Years 3-5 Years After 5 Years
- ------------------------------------------------------------------------------------------------
Capital Leases $632 $632
- ------------------------------------------------------------------------------------------------
Operating Leases $370,000 $121,000 $249,000
- ------------------------------------------------------------------------------------------------
Long-Term Debt $726,834 $232,992 $410,484 $83,358
================================================================================================
Total Contractual
Cash Obligations $1,097,466 $354,624 $659,484 $83,358
- ------------------------------------------------------------------------------------------------
Results of Operations
Nine Months Ended March 31, 2005 (2005 period) Compared to Nine Months ended
March 31, 2004 (2004 Period) and Three Months Ended March 31, 2005 (2005
Quarter) Compared to Three Months Ended March 31, 2004 (2004 Quarter).
REVENUES. We had net revenues of $ 3,353,819 for the 2005 period, as compared to
revenues of $1,465,251 for the 2005 period, an increase of about 129%. Revenues
for the 2005 quarter were $1,396,227 as compared to $449,264 for the 2004
quarter. Of the revenues reported in the 2005 period, approximately 98% was
domestic and 2% was related to international projects. The increase in sales in
the 2005 period is primarily attributable to the IBDSS contract award on Tinker
AFB and nuclear facility security upgrades.
GROSS MARGINS. Gross margins for the 2005 period were 44.79% of revenue as
compared to 55.24% of revenue for the 2004 period. Gross margins for the 2005
quarter were 54.66% as compared to 42.32% for the 2004 quarter. This is
primarily due to a greater mix of ECSI product in relationship to subcontractor
costs. The decrease in the 2005 period is primarily due to an increase in the
Company's use of sub-contractors in connection with projects it was performing,
and also in the 2004 period the Company performed a greater percentage of higher
gross profit generating activities such as design and engineering services.
RESEARCH AND DEVELOPMENT (R&D). R&D expenses was $234,556 in the 2005 period
compared to $238,611 in the 2004 period and $72,727 for the 2005 quarter as
compared to $66,502 for the 2004 quarter. R&D in the 2005 period was for
upgrades to existing products and systems, and for new product development work
on the UAV technologies.
SELLING, GENERAL AND ADMINISTRATIVE (SG&A). SG&A expenses increased in the 2005
period to $1,432,486 as compared to $1,103,091in the 2004 period. For the
quarter 2005 quarter SG&A increased to $626,080 as compared to $230,134 in the
2004 quarter. The increases were primarily the result of hiring of additional
marketing and sales personnel, as well as strengthening the administrative and
financial aspect of the business. In addition, the Clarion acquisition which
occurred on March 4, 2005, accounted for one month of expenses which were
included in this quarter's financial statements.
STOCK BASED COMPENSATION. In the 2005 period, we issued immediately vested stock
to various consultants valued at $120,000. In the 2004 period, we issued
immediately vested stock and stock options to various consultants and to the
directors valued at $117,200. Stock-based compensation is non-cash and,
therefore, has no impact on cash flow or liquidity.
INTEREST EXPENSE. Interest expense in the 2005 period was $84,973 as compared to
$63,536 for the 2004 period. The increase was attributable to the higher average
amount of outstanding debt balances.
MINORITY INTEREST IN SUBSIDIARY LOSS. The minority interest in the loss from the
foreign subsidiaries was $40,691 for the 2005 period and $39,703 for the 2004
period.
INCOME TAX BENEFIT. In the 2004 period, we recognized $31,300 of tax benefits
from the net operating loss, which will be used to offset taxable income. We did
not recognize any of the benefit from the current net operating loss.
NET INCOME (LOSS). Net income (loss) before deemed dividends for the 2005 and
2004 periods was $(307,046) and $(639,525), respectively, and $57,052 and
$(156,000) for the 2005 and 2004 quarter, respectively.
DIVIDENDS RELATED TO CONVERTIBLE PREFERRED STOCK.
The Series A Convertible Preferred Stock provided for a dividend at the rate of
10% per annum, payable no less often than annually.
Warrant Expiration
On April 14, 2005, 775,000 warrants issued with the Series A Convertible
Preferred Stock expired.
The Series B Convertible Preferred Stock provides for a dividend at the rate of
10% per annum, payable quarterly, (payable in cash or by adding the dollar
amount of such dividends to the stated value). The Company added $150,000,
representing three quarterly dividends to the stated value of the preferred
stock.
Liquidity and Capital Resources
At March 31, 2005, we had working capital of $2.9 million compared to $3 million
at June 30, 2004. Net cash used by operating activities for the 2005 period was
$919,893 as compared to net cash used by
operating activities of $742,796 for the 2004 period.
Inventory has increased by $358,417 for the nine months ended March 31,
2005 in anticipation of shipments for committed projects.
Accounts receivable relative to sales volume has declined on a year over
year basis. Days sales outstanding (DSO) was 145 days at March 31, 2005 as
compared with 133 days at March 31 2004.
Accounts payable and accrued expenses have increased $765,895 for the nine
months ended March 31, 2005 as purchases from vendors have increased in an
attempt to match the increase in backlog in preparation of shipments during this
fiscal year.
Investing activities for the 2005 period include the cash used for the
Clarion acquisition in the amount of $529,894. In addition a portion of the
proceeds of the June private placement was invested in marketable securities and
we purchased $74,665 of equipment and software required to upgrade two major
product lines. We do not have any material commitments for capital expenditures
going forward.
Financing activities in the 2004 period included the repayment of a
short-term loan in the amount $250,000 from the proceeds of the June private
placement.
We realized net proceeds of $708,850 from the exercise of outstanding
stock options and warrants in the 2005 period.
In November 2004, our revolving line of credit of $500,000, was converted
into a five-year $500,000 term loan which is payable in monthly installments of
$8,333 plus interest at the rate of 8% per annum. The loan is secured by
substantially all of our assets, a $250,000 certificate of deposit, and the
personal guaranty of Arthur Barchenko. In addition, we have a five-year $500,000
term loan which is payable in monthly installments of $8,333 plus interest at
the rate of 7.5% per annum. In connection with the Clarion acquisition, we
assumed an existing bank debt totaling $117,342. The debt is to be repaid in 34
monthly installments in the amount of $3,451.25 plus interest and is secured
by...........
To achieve all the elements of our growth strategy and the desired outcome
of a sustainable and continuous growth rate through these relationships, we must
devote additional capital resources to our sales and marketing efforts, as well
as continuing new product development. We have used a portion of the proceeds
derived from the $2,000,000 private placement we completed at the end of June
2004 toward this end and will continue to apply funds for such purposes in the
future.
Discussion and Analysis of Quarterly Results and Outlook
Although ECSI will not meet its projected sales figures for the first nine
months of fiscal 2005, the Company will achieve sales of $3,353,819 as compared
to $1,465,251 for the same nine month period of fiscal 2004 or a 229% increase.
The loss for nine months has been reduced from $639,525 to $457,046 for nine
months of fiscal 2005. This loss included $120,000 in stock based compensation
and $150,000 in stock dividends to the preferred shareholders. Still, the
question is why the shortfall from our original projections? There are two
primary factors which we believe will be mitigated going forward.
First factor: we depended on a commitment under the U.S DoD IBDSS contract
which did not materialize. The original IBDSS ID/IQ contract called for thirteen
major bases to be upgraded in 2004 and 2005. Only three major bases were
upgraded and we were selected as the prime contractor for one
of the three bases. Thus, ECSI achieved 33-1/3rd % of the win. It is our
understanding that funding for the other nine bases was allocated instead to
expendables for Afghanistan and Iraq.
Second factor: we depended on a commitment from the InteSec Group, a
government oriented marketing organization with which we contracted in the first
fiscal quarter of 2005, to generate $3 million in sales in 2005, which did not
happen although the Company expended over $180,000 for this program. With that
said, it is anticipated that substantial sales will ultimately result from
InteSec effort in 2006 and beyond.
Despite these two adverse factors which had a negative impact on sales of
over $4 million for the nine months of fiscal `05, the Company still achieved
sales of $3,353,819 for nine months of operation. Sales for the third quarter of
fiscal '05 amounted to $1,396,227 as compared to $449,264 for the same period in
fiscal '04 with an operating profit of $57,052 as compared to an operating loss
of $156,000 after adjusting for stock based compensation and stock based
dividends.
What are we planning to do to mitigate such risks in the future? We are
diversifying our target markets, increasing market penetration by developing
airport, port, naval, border, pipeline, petro, chemical, water resource, State
Deptartment. and Department of Energy security projects, domestically and
internationally.
We have renegotiated our relationship with InteSec Group and hired our own
professional marketing and sales staff; entered into mutual ID/IQ contracts with
Lockheed Martin to aggressively target and then jointly pursue military and
government security projects; developed a working relationship with KBR, a
division of Halliburton, and obtained approval of the State Department for ECSI
to work on the U.S. Embassy program; developed a working relationship with Exxon
Mobile and Honeywell Technology Solutions; entered into a mutual contract
relationship with Lockheed Martin TSS on IBDSS and other programs CONUS/OCONUS.
During the quarter, we completed the acquisition of the assets of Clarion
Sensing Systems to develop opportunities in the water and agricultural security
market. Clarion is an innovative technology leader that integrates complete
systems to remotely monitor, analyze, and communicate information about water
and air quality.
Appointed an outside advisory board to help evaluate and analyze the
direction the Company target markets are heading and to address present and
future security threats and define future product need. The following
individuals comprise the advisory board:
o Dr. Norris Krone, President and CEO of the University Research Foundation
(URF) and its co-founder, directs all aspects of the Maryland Advanced
Development Lab. Dr. Krone is a highly decorated Vietnam War veteran. He
is a recognized leader in the field of aeronautical sciences and pioneered
the development of the technical principles of the forward swept wing
aircraft concept, a breakthrough in the field. He has also served on NASA
committees, the Aerospace Technology Advisory Committee and the Aerospace
Safety and Advisory Panel.
o Dr. John H. Estes, Principal Research Engineer/Director for San Antonio,
Ops, Georgia Tech Research Institute has over 20 years of leadership in
fast-paced engineering organizations including facilities/project
engineering, management and force protection among others. He has
extensive experience in strategic planning, marketing and execution of
major engineering and environmental programs. He is often selected to
present briefings to civic leaders, the Secretary of Defense and
Congressional leaders.
o Brad Billet, Chairman of Secure Operations International LLC, has a long
and distinguished record of emergency and response operations service to
his native New York City. As a responder to the September 11th disaster,
he was called upon by Mayor Rudy Giuliani to provide essential services in
the rescue and recovery process. In 1997, Mr. Billet was appointed to his
present position and is the agency's Chief Operating and Administrative
Officer.
o Ambassador (Ret.) Patrick Nickolas Theros was appointed ambassador to
Qatar in October of 1995. Prior to this, he served as deputy coordinator
for counterterrorism where he was responsible for the coordination of all
U.S. Government counter-terrorism activities outside the U.S. He also
served in various diplomatic positions in other nations as well as in the
State Department. He is currently the principal executive officer of
Theros & Theros LLP, Washington, DC. which represents firms doing business
in the Middle East and Eastern Europe.
o Rafi Ron, President and CEO of New Age Security Solutions, is a former
director of security at Ben-Gurion International Airport and the Israeli
Airport Authority. He is a leading expert on aviation, maritime and law
enforcement in Israel and world wide. He also served as a chief security
officer in Israeli embassies around the world where he was implemental in
establishing security systems. Mr. Ron's company conducts security related
training and consultation in the U.S. and other countries.
As spending for security initiatives has increased and Congress continues
to allocate and release money to fund Homeland Security initiatives, the level
of new proposals continues to increase. Consequently, our committed backlog,
including the IBDSS award from the U.S. Air Force, is the largest committed
backlog in Company history. We currently have these releases and task orders for
the IBDSS contract which we expect to ship in the next 6-8 months., There can be
no assurance that we will complete any or all of the orders comprising our
committed backlog within the anticipated time frame, and our results have taught
us that all of these anticipated releases and new contracts are subject to
cancellation or delay at any time, thus we cannot be certain as to the total
realized value and revenue of our committed backlog, and, are hesitant to even
reference the total dollar amount of our present submitted proposals.
We have shipped orders to clients as required by our agreements resulting
in more timely receipt of payment for such orders over the last year, improving
our ongoing cash flow. We currently have sufficient orders and business to
ensure our financial stability for the foreseeable future. We expect that cash
on hand together with cash generated from operations, cash generated from the
sale of equity in June 2004 and the investors exercising of existing warrants
related to the Series A and Series B Preferred Stock offerings will be
sufficient to provide for our working capital needs.
We believe that our financial condition continues to remain dependent upon
our ability to:
o continue to collect invoices in a consistent timely fashion;
o continually generate new business; and
o obtain sources of financing to take advantage of business and
acquisition opportunities as they arise.
Our sales remain materially dependent upon the continued ability of our
President and CEO, Arthur Barchenko, to generate orders and sales to meet our
revenue objectives. In the past, Mr. Barchenko has been responsible for the
majority of our sales. During this fiscal year, we have sought to mitigate the
concentration of sales efforts by (i) retaining new personnel and engaging
independent contractors to market our products and generate sales opportunities,
(ii) expanding sales efforts in geographic regions
on which we have not focused our resources in years past, such as Latin America,
where we are developing projects through our local representatives that
management believes will result in ongoing revenue-generating streams in several
countries and (iii) introducing new product lines in an effort to satisfy our
customers requirements.
We are committed to offering our clients comprehensive, integrated
security systems that employ the latest technologies and address the most
critical security requirements. The security industry continues to evolve
rapidly as new technologies are developed specifically to meet security
challenges and existing technologies are being adapted for new uses. In
addition, the public and private sectors continue to analyze and distinguish new
security risks and industry participants seek to develop technologies and
products to fill these newly discerned requirements. We remain committed to
pursuing acquisitions that may add to our revenues and enhance both our product
line and, ultimately, our ability to compete in our industry.
We remain attentive to opportunities to acquire or license technologies as
they arise. We may pay for any such investments or acquisitions using cash,
equity or a combination thereof. To the extent we require cash in connection
with such activities, we likely will have to obtain third party financing. If
and when necessary, we will pursue additional capital through selected
investment banking firms and other means. It is likely that we will require
additional financing or other sources of capital to complete other acquisitions,
as well as take advantage of any major recurring revenue business opportunities
that may arise. We also may seek other sources of funding, though we can not be
certain that any such funding will become available on acceptable terms.
FORWARD-LOOKING STATEMENTS
Our company and its representatives may from time to time make written or
verbal forward-looking statements, including statements contained in this report
and other company filings with the Securities and Exchange Commission and in our
reports to shareholders. Statements that relate to other than strictly
historical facts, such as statements about our plans and strategies,
expectations for future financial performance, new and existing products and
technologies, and markets for our products are forward-looking statements.
Generally, the words "believe," "expect," "intend," "estimate," "anticipate,"
"will" and other similar expressions identify forward-looking statements. The
forward-looking statements are and will be based on our management's
then-current views and assumptions regarding future events and operating
performance, and speak only as of their dates. Investors are cautioned that such
statements involve risks and uncertainties that could cause actual results to
differ materially from historical or anticipated results due to many factors
including, but not limited to, our company's current and future capital needs,
uncertainty of capital funding, our clients' ability to cancel contracts with
little or no penalty, government initiatives to implement Homeland Security
measures, the likelihood of completing transactions for which we have entered
into letters of intent, the state of the worldwide economy, competition, our
customer's ability to pay our invoices within our standard credit terms, and
other risks detailed in our company's most recent Annual Report on Form 10-KSB
and other Securities and Exchange Commission filings. We undertake no obligation
to publicly update or revise any forward-looking statements.
Item 3. Controls and Procedures.
As of the end of the period covered by this report, we carried out an
evaluation, under the supervision and with the participation of management,
including our Chief Executive Officer/Chief Financial Officer, of the
effectiveness of the design and operation of our disclosure controls and
procedures pursuant to Exchange Act Rule 13a-15. Based upon that evaluation, the
Chief Executive Officer/Chief Financial Officer, concluded that our disclosure
controls and procedures are effective in
timely alerting them to material information relating to our company (including
our consolidated subsidiaries) required to be included in our periodic SEC
filings. It should be noted that the design of any system of controls is based
in part upon certain assumptions about the likelihood of future events, and we
cannot assure you that any design will succeed in achieving its stated goals
under all potential future conditions, regardless of how remote.
There were no changes in our internal controls over financial reporting
that occurred during our most recent fiscal quarter that have materially
affected, or are reasonably likely to materially affect, our internal control
over financial reporting.
Since the date of our evaluation to the filing date of this quarterly
report, there have been no significant changes in our internal controls or in
other factors that could significantly affect internal controls, including any
corrective actions with regard to significant deficiencies and material
weaknesses.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.
None.
Item 2. Changes in Securities and Small Business Issuer Purchase of Equity
Securities.
(a) During the three months ended March 31, 2005, the Company issued the
following securities without registration under the Securities Act of 1933, as
amended:
Issuances Pursuant to Rule 4(2) - During the quarter ended March 31, 2005,
the Company issued shares of common stock in the following transactions in
reliance on the exemption from registration afforded by Section 4(2):
Exercises of Options
The transaction described below represents shares of common stock that
were issued upon the exercise of statutory stock options:
- --------------------------------------------------------------------------------
Name of Issuee Date of Issuance No. of Shares Price Paid
- --------------------------------------------------------------------------------
Yaser Hasan February 24 10,000 $0.39
- --------------------------------------------------------------------------------
The transactions described below represent shares of common stock that
were issued upon the exercise of common stock purchase warrants:
- --------------------------------------------------------------------------------
Name of Issuee Date of Issuance No. of Shares Price Paid
- --------------------------------------------------------------------------------
Virginia Casadonte January 11 14,879 $1.00
Lipman Capital Group Inc. January 11 59,514 $1.00
Diversified Investors
of North America February 4 10,000 $1.00
March 4 20,000 $1.00
March 23 30,000 $1.00
- --------------------------------------------------------------------------------
Item 3. Defaults Upon Senior Securities.
None.
Item 4. Submission of Matters to a Vote of Security Holders.
None
Item 5. Other Information.
None
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits.
Exhibit No. Title
----------- -----
31.1 Certification of Chief Executive Officer and Chief Financial
Officer pursuant to Section 302 of the Sarbanes-Oxley Act of
2002.
32.1 Certification of Chief Executive Officer and Chief Financial
Officer of Periodic Financial Reports pursuant to Section 906
of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350
99.1 Press Release dated May 11, 2005
99.2 Press Release dated April 20, 2005.
99.3 Press Release dated April 12, 2005.
(b) Reports on Form 8-K.
Current Report on Form 8-K dated March 4, 2005 filed on March 7, 2005
relating to the acquisition of the assets of Clarion Sensing Systems, Inc.
Current Report on Form 8-K filed on March 25, 2005, relating to the
release of an Initial Research Report prepared by Taglich Brothers, Inc. to
certain securities industry analysts.
Amendment to Current Report on Form 8-K dated March 4, 2005 filed on May
9, 2005 including financial statements of Clarion Sensing Systems, Inc., the
business acquired.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
ELECTRONIC CONTROL SECURITY INC.
Date: May 11, 2005 By: /s/ Arthur Barchenko
---------------------------------------
Arthur Barchenko
President, Chief Executive Officer
and Chief Financial Officer
(duly authorized officer; principal
executive officer, and principal
financial and accounting officer)
Exhibit 31.1
CERTIFICATION
I, Arthur Barchenko, President, Chief Executive Officer and Chief Financial
Officer of Electronic Control Security Inc., certify that:
1. I have reviewed this quarterly report on Form 10-QSB of Electronic Control
Security Inc. (the "Registrant")
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
are made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this quarterly report is being prepared;
b) [Paragraph omitted in accordance with SEC transition instructions];
c) evaluated the effectiveness of the Registrant's disclosure controls and
procedures and presented in this report our conclusions about the effectiveness
of the disclosure controls and procedures, as of the end of the period covered
by this report based on such evaluation; and
d) disclosed in this report any change in the Registrant's internal
control over financial reporting that occurred during the Registrant's most
recent fiscal quarter (the Registrant's fourth fiscal quarter in the case of an
annual report) that has materially affected, or is reasonably likely to
materially affect, the Registrant's internal control over financial reporting;
and
5. The Registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
the registrant's Board of Directors:
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the Registrant's internal controls; and
SIGNATURE TITLE DATE
/s/ Arthur Barchenko Arthur Barchenko, President, May 11, 2005
- ----------------------- Chief Executive Officer and
Chief Financial Officer (principal
executive officer, and principal
financial and accounting officer)
Exhibit 32.1
CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350
AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of Electronic Control Security
Inc. (the "Company") on Form 10-QSB for the period ended March 31, 2005 as filed
with the Securities and Exchange on the date hereof (the "Report"), the
undersigned, in the capacities and on the dates indicated below, hereby
certifies pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002, that to his knowledge:
1. The Report complies with the requirements of Section 13(a) or 15(d) of
the Securities Exchange Act of 1934; and
2. The information contained in the Report fairly presents, in all
material respects, the financial condition and results of operation of the
Company.
SIGNATURE TITLE DATE
/s/ Arthur Barchenko President and Chief Executive May 11, 2005
- ----------------------- Officer and Chief Financial
Arthur Barchenko Officer (principal executive officer,
and principal financial and
accounting officer)
This certification accompanies this Report pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002 and shall not be deemed filed by the Company for
purposes of Section 18 of the Securities Exchange Act of 1934, as amended, or
otherwise subject to liability under that section. This certification shall not
be deemed incorporated by reference in any filing under the Securities Act or
Exchange Act, except to the extent that the Company specifically incorporates it
by reference.
A signed original of this written statement required by Section 906, or
other document authenticating, acknowledging, or otherwise adopting the
signature that appears in typed form with the electronic version of this written
statement required by Section 906, has been provided to the Company and will be
retained by the Company and furnished to the Securities and Exchange Commission
or its staff upon request.
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 8-K
CURRENT REPORT
PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934
Date of Report (Date of earliest event reported): March 4, 2005
ELECTRONIC CONTROL SECURITY INC.
(Exact name of registrant as specified in its charter)
New Jersey 0-30810 22-2138196
(State or other jurisdiction (Commission IRS Employer
of incorporation) File Number) Identification No.)
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code:
--------------------------------------------------------------
(Former name or former address, if changed since last report.)
Check the appropriate box below if the Form 8-K filing is intended to
simultaneously satisfy the filing obligation of the registrant under any of the
following provisions (see General Instruction A.2. below):
|_| Written communications pursuant to Rule 425 under the Securities Act (17
CFR 230.425)
|_| Soliciting material pursuant to Rule 14a-12 under the Exchange Act (17 CFR
240.14a-12)
|_| Pre-commencement communications pursuant to Rule 14d-2(b) under the
Exchange Act (17 CFR 240.14d-2(b))
|_| Pre-commencement communications pursuant to Rule 13e-4(c) under the
Exchange Act (17 CFR 240.13e-4(c))
Item 1.01. Entry into a Material Definitive Agreement.
Acquisition of Assets.
On March 4, 2005, Electronic Control Security Inc. ("ECSI") and its wholly
owned subsidiary Clarion Sensing Systems Acquisition Corp. (the "Subsidiary,"
which together with ECSI is herein referred to as the "Company"), entered into a
series of agreements with Clarion Sensing Systems, Inc., an Indiana corporation
("Clarion"), and its stockholders (the "Clarion Stockholders") to acquire all of
Clarion's assets (the "Clarion Assets") and assume certain of its liabilities.
Clarion has developed and markets proprietary remote environmental monitoring
sensor systems to detect nuclear, biological, chemical and radiological (NBCR)
contaminants in air and water ("NBCR Devices"). The NBCR Devices have
application in the monitoring of public and private water distribution and
related systems and atmospheric environmental status monitoring.
Pursuant to an Asset Purchase Agreement, the Company acquired the tangible
and intangible assets described below for a purchase price of approximately $1.3
million (collectively, the "Consideration") consisting of (i) the issuance of
394,682 shares of common stock of ECSI ("Shares") and (ii) the assumption of
$646,206 of certain liabilities of Clarion, of which ECSI already has paid
approximately $350,000 as of the date hereof. The Company also has agreed to
assume $438,959 of certain liabilities of Clarion on a contingent basis, as
described below ("Contingent Liabilities"), and to pay certain professional and
other fees incurred in connection with the transaction.
Description of Clarion Assets.
The Company acquired both intangible and tangible assets of Clarion, as
follows:
o Intangible Assets - The Company acquired intangible assets which relate to
the proprietary NBCR Devices developed by Clarion. These consist of all of
Clarion's right, title and interest in and to (i) the patent pending
relating to the Vacusonic(TM) technology filed with the US Patent and
Trademark Office ("PTO"), (ii) the name Vacusonic(TM), as registered with
the PTO, (iii) the name "Sentinal," an unregistered trademark, (iv) two
Web domain names, "clarionsensing.com" and "clarionsentinal.com" and (v)
proprietary software utilized in connection with the NBCR Devices. A more
complete description of these assets, the use to which they will be put
and their importance to the Company is set forth under Item 2.02 Results
of Operations and Financial Condition, below. In addition, the Company
acquired proprietary information relating to Clarion's environmental
monitoring products.
o Agreements - Clarion also assigned to the Subsidiary all of its rights
under outstanding and pending agreements to provide products and services.
o Tangible Assets - The Company also acquired tangible assets including
parts and supplies utilized in connection with the manufacture of the NBCR
devices as well as certain office equipment and other personal property of
Clarion.
Consideration.
Delivery of the Shares.
The Shares are being held in escrow pursuant to the terms of an escrow
agreement among ECSI, the Subsidiary, Clarion and the Clarion Stockholders in
order to indemnify the Company and the Subsidiary from and against, any "Adverse
Consequences" which may result from an inaccuracy in or breach of any
representation, warranty, covenant or other provision set forth in any of the
Asset Purchase Agreement or related agreements (collectively, the "Transaction
Documents"). The term "Adverse Consequences" is defined in the escrow agreement
to include, generally, any costs and expenses incurred by the Company in
connection with, among other things, all legal actions, damages, penalties,
fines, costs, amounts paid in settlement, liabilities, obligations, taxes,
liens, losses, expenses, and fees, including court costs and reasonable
attorneys' fees and expenses incurred as a result of any inaccuracy in or breach
of any representation, warranty, covenant or other provision set forth in the
Transaction Documents. During such time as the Shares are held in escrow, they
shall be entitled to participate in any dividends or other distributions upon
the common stock and to vote (as directed by a representative of the Clarion
Stockholders) in all matters presented to holders of common stock but shall not
be assignable or transferable, other than by operation of law.
The Shares will be released from escrow to the Company or Clarion as
follows:
o To the Company - Shares will be returned to the Company for cancellation
if, during the three-year period ending March 3, 2008, there is an
inaccuracy in or breach of any representation, warranty, covenant or other
provision set forth in the Transaction Documents which results in Adverse
Consequences to the Company or and such entity makes a claim against the
Clarion Stockholders for the return of the Shares in accordance with the
procedures set forth in the escrow agreement, in which case there will be
returned to the Company upon the expiration of the term of the escrow
agreement (March 3, 2008) a number of Shares calculated by dividing the
dollar amount of the claim by the closing ask price of a share of common
stock on such date.
o Any Shares remaining in escrow after giving effect to Shares which are
subject to return to the Company, as described above, if any, will be
released to Clarion for distribution to the Clarion Stockholders upon the
earlier of (i) March 3, 2008 or (ii) after the fiscal year in which the
Subsidiary achieves sales in excess of $3,000,000 and net earnings before
taxes in excess of $600,000.
Payment of the Contingent Liabilities.
The Subsidiary will be obligated to pay the Contingent Liabilities, if at
all, only if the Subsidiary achieves (A) sales in excess of $3,000,000
("$3,000,000 in Sales") and/or (B) net earnings before taxes in excess of
$600,000 ("$600,000 in Net Earnings") in one of its fiscal years beginning
within three (3) years of March 4, 2005. In the event $3,000,000 in Sales are
achieved but $600,000 in Net Earnings are not achieved, then 10% of the
Subsidiary's net earnings before taxes earned during such fiscal year shall be
utilized to pay the Contingent Liabilities. In the event $600,000 in Net
Earnings are achieved (whether or not $3,000,000 in Sales are achieved), then
(I) all net earnings before taxes in excess of $600,000 earned during such
fiscal year plus (II) 10% of the Subsidiary's net earnings before taxes earned
during such fiscal year, shall be utilized to pay the Contingent Liabilities. If
the Contingent Liabilities are not paid in full and $3,000,000 in Sales or
$600,000 in Net Earnings occurs in one or more subsequent fiscal years, then net
earnings before taxes with respect to such fiscal years shall be utilized to pay
the Contingent Liabilities in the manner set forth in the preceding two
sentences until such time, if ever, the Contingent Liabilities are paid in full.
Any amounts shall be payable in cash or shares of common stock (valued as of the
closing ask price on the date of issuance) as the recipient shall direct.
Other Agreements
Each of H. Martin Harmless, III, Brian O'Dell, Robert Plummer, and William
Eby has executed a Confidentiality and Non-Competition Agreement in favor of the
Company pursuant to which such person has agreed not use or disclose any
confidential information, trade secrets or know-how ("Confidential Information")
at any time during or after their association with the Company. In addition, all
inventions, discoveries and improvements developed by said persons while
associated with the Company shall be the exclusive property of the Company. Each
of these persons have further agreed that in the event they are terminated by
the Company for any reason (or otherwise retire), with or without cause, for a
period of one (1) year following the date of termination, the undersigned will
not anywhere in the United States or any other country where the Company
conducts business or sells products, directly or indirectly, in any capacity
have an interest in, be associated with, or otherwise engage in, any business
conducted by the Company.
Each of the Clarion Stockholders has executed an agreement in favor of the
Company pursuant to which such person has agreed if, at any time after March 4,
2005 ("Closing Date"), each party to the Asset Purchase Agreement (a "Party")
will (i) take any further action necessary in connection with the Asset Purchase
Agreement, (ii) cooperate with a contesting or defending Party in any action
relating to the business or operations of Clarion or the Company as shall be
necessary in connection with the contest or defense, (iii) not, for three years
following the Closing Date, take any action which might discourage any person
from maintaining the same business relationships with the Company as it
maintained with Clarion prior to the Closing Date; (iv) refer all customer
inquiries relating to the businesses of Clarion to the Company, (iv) not use any
Confidential Information (as defined in the foregoing paragraph).
Item 2.01. Completion of Acquisition or Disposition of Assets.
The information required to be disclosed by this item is included in item
1.01, above.
Item 2.03. Creation of a Direct Financial Obligation or an Obligation under an
Off-Balance Sheet Arrangement of a Registrant.
In connection with the acquisition of the Clarion Assets described in Item
1.01, above, the Subsidiary undertook certain direct financial obligations, all
of which have been guaranteed by the Company. Pursuant to the Asset Purchase
Agreement, the Subsidiary paid a purchase price of approximately $1.3 million
(collectively, the "Consideration") consisting of (i) the issuance of 394,682
shares of common stock of ECSI and (ii) the assumption of $646,206 of certain
liabilities of Clarion, of which ECSI already has paid approximately $350,000 as
of the date hereof. The Company also has agreed to assume $438,959 of certain
liabilities of Clarion on a contingent basis, as described below ("Contingent
Liabilities"), and to pay certain professional and other fees incurred in
connection with the transaction.
The Subsidiary will be obligated to pay the Contingent Liabilities, if at
all, only in the event the Subsidiary achieves (A) sales in excess of $3,000,000
("$3,000,000 in Sales") and/or (B) net earnings before taxes in excess of
$600,000 ("$600,000 in Net Earnings") in one of its fiscal years beginning
within three (3) years of March 4, 2005. In the event $3,000,000 in Sales are
achieved but $600,000 in Net Earnings are not achieved, then 10% of Buyer's net
earnings before taxes earned during such fiscal year shall be utilized to pay
the Contingent Liabilities. In the event $600,000 in Net Earnings are achieved
(whether or not $3,000,000 in Sales are achieved), then (I) all net earnings
before taxes in excess of $600,000 earned during such fiscal year plus (II) 10%
of the Subsidiary's net earnings before taxes earned during such fiscal year,
shall be utilized to pay the Contingent Liabilities. If the Contingent
Liabilities are not paid in full and $3,000,000 in Sales or $600,000 in Net
Earnings occurs in one or more subsequent fiscal years, then net earnings before
taxes with respect to such fiscal years shall be utilized to pay the Contingent
Liabilities in the manner set forth in the preceding two sentences until such
time, if ever, the Contingent Liabilities are paid in full. Any amounts paid
hereunder shall be paid in cash or shares of common stock (valued as of the
closing ask price on the date of issuance) as the recipient shall direct.
Item 3.02. Unregistered Sales of Equity Securities.
In connection with the acquisition of the Clarion Assets described in Item
1.01, above, the Company issued 394,682 shares of common stock ("Shares") to
Clarion pursuant to the exemption from the registration requirements of the
Securities Act of 1933, as amended (the "Securities Act"), afforded by Section
4(2) thereof. The Shares are being held in escrow pursuant to the terms of an
escrow agreement among the Company, Clarion and the Clarion Stockholders in
order to indemnify the Company and the Subsidiary from and against, any "Adverse
Consequences" (as defined in Item 1.01) which result from an inaccuracy in or
breach of any representation, warranty, covenant or other provision set forth in
any of the Transaction Documents.
The Shares will be released from escrow to the Company or Clarion as
follows:
o Shares will be returned to the Company for cancellation if, during the
three-year period ending March 3, 2008, there is an inaccuracy in or
breach of any representation, warranty, covenant or other provision set
forth in the Transaction Documents, which results in Adverse Consequences
to the Company or the Subsidiary and such entity makes a claim against for
the return of the Shares in accordance with the procedures set forth in
the escrow agreement, in which case there will be returned to the Company
upon the expiration of the term of the escrow agreement (March 3, 2008) a
number of Shares calculated by dividing the dollar of the claim by the
closing ask price of a share of common stock on such date.
o Any Shares remaining escrow after giving effect to Shares which are
subject to return to the Company, as described above, if any, will be
released to Clarion for distribution to the Clarion Stockholders upon the
earlier of (i) March 8, 2008 or (ii) after the fiscal year in which the
Subsidiary achieves sales in excess of $3,000,000 and net earnings before
taxes in excess of $600,000.
Item 8.01. Other Events.
(a) Discussion of Acquisition and Subsidiary Operations.
Subsidiary Operations.
Cautionary Note Regarding Forward Looking Statements
The information contained in this report regarding our acquisition of the
Clarion Assets and the business of Clarion Sensor Systems Acquisition Corp.
after the Closing Date contains forward-looking statements within the meaning of
Section 27A of the Securities Act and Section 21E of the Exchange Act. We have
based these forward-looking statements largely on our current expectations and
projections about future events and industry financial trends affecting the
condition of our business. Our acquisition of Clarion involves a number of
special risks, including, but not limited to, the following:
o we may experience difficulty integrating the acquired assets and
personnel;
o the acquisition may disrupt our ongoing business;
o we may not be able to successfully incorporate the acquired technologies
and rights into our product offerings and maintain uniform standards,
controls, procedures, and policies;
o we may not be able to retain the key personnel who joined our Company upon
the acquisition;
o our Subsidiary which acquired the Clarion Assets may fail to achieve the
revenues and earnings anticipated;
o a patent may never be issued in favor of the patent pending relating to
the technology acquired by the Company; and
o we may ultimately be liable for contingent and other liabilities of
Clarion not previously disclosed to us.
We may not successfully overcome problems encountered in connection with
potential future acquisitions. In addition, the acquisition of the Clarion
Assets has:
o diluted current shareholders' ownership interest; and
o caused us to assume a material amount of liabilities.
In addition, in this report, we use words such as "anticipates,"
"believes," "plans," "expects," "future," "intends," and similar expressions to
identify forward-looking statements.
We undertake no obligation to update publicly or revise any
forward-looking statements, whether as a result of new information, future
events or otherwise after the date of this report. In light of these risks and
uncertainties, the forward-looking events and circumstances discussed in this
report may not occur and actual results could differ materially from those
anticipated or implied in the forward-looking statements.
Overview of ECSI's Operations.
ECSI designs, develops, manufactures and markets technology-based
integrated security systems. We also provide consulting services to security
system integrators consisting of risk assessment and vulnerability studies to
ascertain a client's security requirements to develop a comprehensive risk
management and mitigation program and product design and engineering support
services.
We believe that we are one of the few true comprehensive security solution
providers in the industry. We are able to analyze a security risk and develop
security solutions specifically tailored to mitigate that risk, including
designing, engineering and manufacturing individual components of a system as
may be necessary to deliver a fully integrated security system customized to a
client's requirements. We offer the complete range of solutions-driven responses
to accommodate our customer's needs. We continuously seek to augment our
portfolio of technologies by acquiring new technologies to respond to new
security challenges as they arise.
Discussion of the Acquisition and Business of the Subsidiary.
Clarion has developed and markets proprietary remote monitoring sensor
systems to detect nuclear, biological, chemical and radiological (NBCR)
contaminants in water and air ("NBCR Devices").
Over the last few years, the federal government has acknowledged the
prospect of security threats to the country's environment, particularly, the
introduction of contaminants into the air and the country's water supply.
Management of the Company believes that systems that monitor and detect the
existence of nuclear, biological, chemical and radiological contaminants in air
and water represent an integral part of the US Department of Homeland Security's
initiatives over the foreseeable future. In addition, the Environmental
Protection Agency has promoted the use of water monitoring systems and has
estimated that approximately $138
million is required for upgrading and replacing water infrastructure systems to
comply with the Safe Drinking Water Act by 2016.
We moved rapidly to identify and acquire technologies to address these new
security concerns because we believe our clients will require water and air
contamination monitoring and detection devices as a part of a fully integrated
security system.
The technologies and intellectual property we acquired are utilized in
connection with the manufacture of two key products, the Sentinal monitoring
system ("Sentinal") and the Vacusonic water filtration and purification system
("Vacusonic").
The Sentinal(TM) is a data management device that is the key component of
an intelligent, real-time network of sensors and actuators. It monitors such
factors as liquid levels, temperature, conductance, turbidity and pressures. In
addition, it can detect the presence of specific ions such as ammonium, copper,
lead and nitrate and use data collected from analyzers to measure such
parameters as total organic carbon, volatile organic chemicals, manganese and
mercury.
The Sentinal(TM) gathers data from remote monitoring sensors and analyzers
and allows users to protect stored assets such as water, oil and chemicals and
as a consequence, protect equipment, such as supply systems, pipelines, power
systems and waste water systems, as well as processes and the environment from
contamination. The Sentinal(TM) can be integrated into existing comprehensive
security systems.
The Sentinal(TM) continuously evaluates water quality and compares the
results with a previously established analytical baseline. The system then both
takes the appropriate, pre-preprogrammed action to correct the problem,
including shutting off the supply valve, if necessary, and notifies the
designated authority of the problem. The information is reported both locally
and remotely to trained building security and operations personnel and first
responders are alerted to the validation of a contamination event. The system
utilizes two-way communications which allows it to transmit data to a remote
site and receive commands from a command and control center, including
maintenance and diagnostic updates. The system is capable of communicating via
wireless modalities such as radios, cellular networks, satellites, and by way of
wired links to a local area network and telephone lines.
The Sentinal(TM) can be fitted with sensors selected by the manufacturer
but also functions utilizing existing sensors. Some sensors are equipped with
communications device which allow for remote maintenance inspections.
Information from the Sentinal(TM) is presented through the Internet,
through a local area network of computers or on a local terminal. The data is
presented in a Web page format that has analytical and historical storage
capability. Each monitoring site will have its own Web page to allow for
specific site monitoring and remote configuration of the water quality profile
at the site.
The Sentinal(TM) has been tested and management believes that its efficacy
has been verified for the EPA by Battelle Science and Technology International.
Clarion has sold approximately 10 Sentinal(TM) systems to date.
The Vacusonic is a mobile, modular system that yields purified, filtered
potable water in emergency situations. The system is designed to function
without excessive logistical support an can provide potable water from sources
of varying quality without using chemicals. The system is easily transportable
by flatbed truck or helicopter to areas requiring an emergency water supply. The
Vacusonic can provide throughput of 2,100 gallons an hour and is scalable from
10,000 to 50,000 gallons per day.
The Vacusonic filters water without chemicals. Filters remove particulate
matter by means of a process that maximizes disinfection and chemical
destruction. The various processes employed by the system are used to destroy
pathogens and volatile organic matter and remove heavy metals. In addition,
sensors measuring water quality and process performance throughout the system's
operation maximize efficiency and permit remote monitoring and control of
operations. Two-way communications allow the system to make adjustments as
required.
Air monitoring capabilities are based on the same principles as the
Sentinal(TM) system. Air contamination detection sensors and analyzers are
incorporated into the device to monitor for toxic air contamination. The system
comprises an integrated configuration of air contamination detection equipment,
communication systems, data acquisition and management devices, automated HVAC
system controls, and information. The system will detect and validate the
presence of a chemical, biological, or radiological contaminant, actuate the
HVAC system in the appropriate manner to mitigate the problem, and report its
actions and the current status of air quality in the building. The information
is reported both locally and remotely to trained building security and
operations personnel and first responders who are alerted to the validation of a
contamination event.
The Subsidiary has retained the services of four of Clarion's employees
who will continue further research and development with respect to of the
development of the Sentinal and Vacusonic technologies and assist in marketing
them to the target audience. The Company also will market these devices through
its existing distribution channels.
The Company expects to manufacture Sentinal(TM) and Vacusonic devices and
related products at its manufacturing facility in Alabama. The devices are
assembled from parts and equipment which are readily available from multiple
sources.
Upon the closing of the acquisition of the Clarion Assets, the Subsidiary
retained the services of four employees of Clarion to continue further research
and development of products based upon the technologies and who are primarily
responsible for marketing and sales of the NCBR Devices.
The following table sets forth certain information about the Subsidiary's
directors and executive officers after the Closing Date of the acquisition of
the Clarion Assets:
- --------------------------------------------------------------------------------
Name Position Age
- --------------------------------------------------------------------------------
H. Martin Harmless, II President and Director 60
- --------------------------------------------------------------------------------
Arthur Barchenko Vice President and Director 72
- --------------------------------------------------------------------------------
Natalie Barchenko Treasurer and Director 72
- --------------------------------------------------------------------------------
We believe that our acquisition of the Clarion Assets demonstrates our
continuing commitment to up-grade our product offerings and allow us to provide
our clients with innovative solutions to new security threats as they develop.
(b) On March 7, 2005, the Company issued a press release announcing that
it had acquired the Clarion Assets as more fully described elsewhere herein.
Item 9.01 Financial Statements And Exhibits.
(a) Financial statements of businesses acquired.
Audited financial statements of Clarion Sensing Systems, Inc. and pro
forma financial statements for the Company giving effect to the acquisition of
the Clarion Assets will be filed by the Company within sixty days of the date
hereof.
(c) Exhibits.
Exhibit
Number Exhibit Description
- ------ -------------------
10.14 Asset Purchase Agreement dated March 4, 2005 among the
Registrant, Clarion Sensing Systems Acquisition Corp., a New
Jersey corporation, and Clarion Sensing Systems, Inc., and
Indiana corporation.
10.15 Assumption Agreement, dated March 4, 2005, among Clarion
Sensing Systems Acquisition Corp. Clarion Sensing Systems,
Inc.
10.16 Escrow Agreement dated March 4, 2005, among the Registrant,
Clarion Sensing Systems, Inc., the shareholders of Clarion
Sensing Systems, Inc. and Lasser Hochman, L.L.C., as escrow
agent.
10.17 Form of Target Stockholders Agreement dated March 4, 2005,
among the Registrant, Clarion Sensing Systems Acquisition
Corp. and each shareholder of Clarion Sensing Systems, Inc.
10.18 Form of Confidentiality and Non-Compete Agreement among the
Registrant, Clarion Sensing Systems Acquisition Corp. and each
shareholder of Clarion Sensing Systems, Inc.
99.1 Press Release dated March 7, 2005, entitled "ECSI Acquires
Remote Air and Water Monitoring Technologies."
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
ELECTRONIC CONTROL SECURITY INC.
Date: March 7, 2005 By: /s/ Arthur Barchenko
---------------------------------
Arthur Barchenko, President
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 8-K/A
CURRENT REPORT
PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934
Date of Report (Date of earliest event reported): March 4, 2005
ELECTRONIC CONTROL SECURITY INC.
(Exact name of registrant as specified in its charter)
New Jersey 0-30810 22-2138196
(State or other jurisdiction (Commission IRS Employer
of incorporation) File Number) Identification No.)
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code:
--------------------------------------------------------------
(Former name or former address, if changed since last report.)
Check the appropriate box below if the Form 8-K filing is intended to
simultaneously satisfy the filing obligation of the registrant under any of the
following provisions (see General Instruction A.2. below):
|_| Written communications pursuant to Rule 425 under the Securities Act (17
CFR 230.425)
|_| Soliciting material pursuant to Rule 14a-12 under the Exchange Act (17 CFR
240.14a-12)
|_| Pre-commencement communications pursuant to Rule 14d-2(b) under the
Exchange Act (17 CFR 240.14d-2(b))
|_| Pre-commencement communications pursuant to Rule 13e-4(c) under the
Exchange Act (17 CFR 240.13e-4(c))
Electronic Control Security Inc. (the "Company") hereby amends its Current
Report on Form 8-K filed March 7, 2005 to provide the financial statements of
the Company relating to the acquisition by the Company of Clarion Sensing
Systems, Inc.
Item 9.01 Financial Statements and Exhibits.
(a) Financial statements of business acquired.
The following financial statements of Clarion Sensing Systems, Inc., the
acquired business, are submitted at the end of this Amendment to Current Report
on Form 8-K/A, and are filed herewith and incorporated herein by reference:
(a) Financial statements of businesses acquired.
Financial Statements Page
-------------------- ----
Audited Financial Statements of Clarion
Sensing Systems, Inc. for the Year ended December 31, 2003 F-1 - F-10
Unaudited Financial Statements of Clarion
Sensing Systems, Inc. for the Nine Months Ended September 30, 2004 F-11 - F-20
(b) Pro forma financial information.
The following pro forma financial information of Clarion Sensing Systems,
Inc., the acquired business, and the Company is submitted at the end of this
Amendment to Current Report on Form 8-K/A, and is filed herewith and
incorporated herein by reference:
Pro Forma Financial Information Page
------------------------------- ----
Electronic Control Security Inc. and Clarion
Sensing Systems, Inc. Unaudited Pro Forma
Consolidated Condensed Financial Statements F-21 - F-26
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
ELECTRONIC CONTROL SECURITY INC.
Date: May 6, 2005 By: /s/ Arthur Barchenko
-------------------------------------
Arthur Barchenko, President
2
INDEX TO FINANCIAL STATEMENTS
Audited Financial Statements of Clarion Systems Sensing, Inc.
Report of Independent Registered Public Accounting Firm F-1
Balance Sheets as of December 31, 2003 F-2
Statements of Operations for the year December 31, 2003 F-3
Statements of Stockholders' Equity
for the year ended December 31, 2003 F-4
Statements of Cash Flows for
the year ended December 31, 2003 F-5
Notes to the Financial Statements F-6 - F-10
Unaudited Financial Statements of Clarion Systems Sensing, Inc.
Report of Independent Registered Public Accounting Firm F-11
Balance Sheets as of September 30, 2004 F-12
Statements of Operations for the
nine months ended September 30, 2004 F-13
Statements of Stockholders Equity
For the nine months ended September 30, 2004 F-14
Statements of Cash Flows for the
nine months ended September 30, 2004 F-15
Notes to the Financial Statements F-16 - F-20
Unaudited Pro Forma Consolidated Condensed Financial Statements F-21 - F-22
Pro Forma Consolidated Condensed Balance Sheet
December 31, 2004 F-23
Pro Forma Combined Consolidated Statements of
Operations for the Six Months Ended June 30, 2004 F-24
Pro Forma Combined Consolidated Statements of
Operations for the Year Ended June 30, 2004 F-25
Notes to the Pro Forma Consolidated
Condensed Financial Statements F-26
Independent Auditors' Report
To the Board of Directors
Clarion Sensing Systems, Inc.
Indianapolis, Indiana
We have audited the accompanying balance sheet of Clarion Sensing Systems, Inc.,
as of December 31, 2003, and the related statements of operations, stockholders'
equity (deficit), and cash flows for the year 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 audit.
We conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audits 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.
In our opinion, the 2003 financial statements referred to above present fairly,
in all material respects, the financial position of Clarion Sensing Systems,
Inc., as of December 31, 2003, and the results of its operations and its cash
flows for the year then ended in conformity with U.S. generally accepted
auditing principles.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note 8 to the
financial statements, the Company has suffered recurring losses from operations
and has a net capital deficiency that raise substantial doubt about its ability
to continue as a going concern. Management's plans in regard to these matters
are also described in Note 8. The financial statements do not include any
adjustments that might result from the outcome of this uncertainty.
/s/ Somerset CPAs, P.C.
Indianapolis, Indiana
January 21, 2005
F-1
CLARION SENSING SYSTEMS, INC.
Balance Sheet
December 31,2003
Assets
Current Assets
Cash $ 21,793
Accounts receivable 2,773
Inventories 1,000
-----------
25,566
-----------
Total Current Assets
Property and Equipment
Property and equipment $ 23,342
Less allowances for depreciation (10,096)
-----------
Total Property and Equipment
13,246
-----------
Total Assets
$ 38,812
===========
Liabilities and Stockholders' Equity (Deficit)
Current Liabilities
Current maturities of note payable $ 99,502
Current maturities of capital lease obligations 5,232
Accounts payable 96,860
Accrued compensation and taxes 448,043
Accrued rent 43,015
-----------
Total Current Liabilities 692,652
-----------
Long-term Liabilities
Notes payable 73,998
Capital lease obligations 4,311
-----------
Total Long-term Liabilities 78,309
-----------
Total Liabilities 770,961
-----------
Stockholders' Equity (Deficit)
Common stock 50,000
Additional paid-in capital 432,558
Retained deficit (1,214,707)
-----------
Total Stockholders' Equity (Deficit) (732,149)
Total Liabilities and Stockholders' Equity (Deficit) $ 38,812
===========
See accompanying notes.
F-2
CLARION SENSING SYSTEMS, INC.
Statement of Operations
For the Year Ended December 31,2003
Revenues $ 92,390
Cost of Revenues 41,460
---------
Gross Profit 50,930
---------
General and Administrative Expense 357,941
---------
Loss from Operations (307,011)
---------
Other Income (Expense)
Other income 5,487
Interest expense (17,592)
---------
Total Other Income (Expense)
(12,105)
---------
Net Loss $(319,116)
=========
See accompanying notes.
F-3
CLARION SENSING SYSTEMS, INC
Statement of Stockholders' Equity (Deficit)
For the Year Ended December 31, 2003
Total
Common Stock Additional Retained Shareholders'
Shares Amount Paid in Capital Deficit Equity (Deficit)
----------- ----------- --------------- ----------- ----------------
Balance at December 31, 2002 100 $ 50,000 $ 379,758 $ (895,591) $ (465,833)
Issuance of common stock 16 0 600 0 600
Capital contributions from stockholders 0 0 52,200 0 52,200
Net loss 0 0 0 (319,116) (319,116)
----------- ----------- ----------- ----------- -----------
Balance at December 31, 2003 116 $ 50,000 $ 432,558 $(1,214,707) $ (732,149)
=========== =========== =========== =========== ===========
See accompanying notes.
F-4
CLARION SENSING SYSTEMS, INC.
Statement of Cash Flows
For the Year Ended December 31, 2003
Cash Flows from Operating Activities
Net loss $(319,116)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation 4,933
Changes in operating assets and liabilities:
(Increase) decrease in accounts receivable (2,773)
Increase (decrease) in accounts payable 57,204
Increase (decrease) in accrued expenses 167,891
---------
Net cash used in operating activities (91,861)
---------
Cash Flows from Investing Activities
Payments for the purchase of property and equipment (1,673)
---------
Net cash used in investing activities (1,673)
---------
Cash Flows from Financing Activities
Capital contributions from stockholders 52,800
Proceeds from issuance of long-term debt 68,282
Principal payments on long-term debt (2,500)
Principal payments under capital lease obligations (4,744)
---------
Net cash provided by financing activities 113,838
---------
Net Increase in Cash and Cash Equivalents 20,304
Cash and Cash Equivalents, Beginning of Year 1 ,489
---------
Cash and Cash Equivalents, End of Year $ 21,793
---------
Supplemental Cash Flow Disclosures
Interest paid $ 9,953
=========
See accompanying notes.
F-5
CLARION SENSING SYSTEMS, INC.
Notes to Financial Statements
December 31, 2003
Note 1 - Nature of Operations and Summary of Significant Accounting Policies:
Nature of Operations
Clarion Sensing Systems, Inc. (the Company), is an Indianapolis based provider
of proprietary monitoring sensor systems, designed for air and water sensing
applications. The sensor system is able to remotely monitor, analyze, detect and
communicate the presence of nuclear, biological, chemical and radiological
contamination and operational problems, allowing for immediate notification and
action. The Company provides its services to various industries, including
municipalities, manufacturing, and military and defense operations.
Revenue Recognition
The Company generally recognizes revenue for contracts utilizing output measures
such as when services are performed, units are delivered or when contract
milestones are met.
Accounts Receivable
The Company carries its accounts receivable at invoiced amounts. On a periodic
basis, the Company evaluates its accounts receivable and writes off
uncollectible accounts, based on history of past write-offs and collections and
current credit conditions. The Company considers accounts receivable to be fully
collectible; accordingly, no allowance for doubtful accounts is provided. The
Company's policy is not to accrue interest on past due trade receivables.
Inventories
Inventories are stated at the lower of cost or market. Costs are determined
under the first-in, first-out method (FIFO) method of accounting.
Property, Equipment, and Depreciation
Property and equipment are carried at cost and includes expenditures for new
additions and those, which substantially increase the useful lives of existing
assets. Depreciation is computed at various rates by use of the straight-line
method and certain accelerated methods. Depreciable lives are generally as
follows:
Office furniture 5 to 7 years
Equipment 5 to 10 years
Expenditures for normal repairs and maintenance are charged to operations as
incurred. The cost of property or equipment retired or otherwise disposed of and
the related accumulated depreciation are removed from the accounts in the year
of disposal with the resulting gain or loss reflected in earnings or in the cost
of the replacement asset.
The provision for depreciation amounted to $4,933 for the year ended December
31, 2003.
F-6
CLARION SENSING SYSTEMS, INC.
Notes to Financial Statements
December 31, 2003
Note 1 - Nature of Operations and Summary of Significant Accounting Policies
(Continued):
Cash Flows
For purposes of the Statements of Cash Flows, the Company considers all highly
liquid instruments that are purchased within three months or less of an
instruments maturity date to be cash equivalents.
Use of Estimates
The preparation of financial statements in conformity with U.S. generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Note 2 - Note Payable:
The Company has a promissory note payable due to a bank at December 31, 2003, in
the amount of $99,502 with a fixed interest rate of 7%, later amended to 8.75%
due to loan default as discussed in the following paragraph. The note is secured
by substantially all assets of the Company and is personally guaranteed by
certain stockholders of the Company.
The note payable contains various affirmative covenants. At December 31, 2003,
the Company was in breach with many of these covenants and the loan was
considered in default. As a result the Company entered into an agreement with
the bank to pay interest only on the note up through sale of the Company's
assets as described in Note 9. Under terms of the agreement, the prospective
buyer has entered into a contract with the bank to pay the obligation and will
assume the liability at closing. Management of the Company believes it is likely
the bank will call the note in the event the acquisition does not consummate
within a reasonable period after the date of this report.
Note 3 - Long-term Debt:
The Company has outstanding long-term debt in the amount of $73,998 due to
prospective investors, as of December 31, 2003, including imputed interest at
15%. The obligations are due on demand; however remains unsecured and
outstanding as of December 31, 2004, and are classified as long-term liabilities
on the Company's balance sheet at December 31, 2003.
Contingent on the sale of the Company's assets as described in Note 9, the debt
shall be converted to stock of the prospective buyers as defined in the
agreement.
F-7
CLARION SENSING SYSTEMS, INC.
Notes to Financial Statements
December 31, 2003
Note 4 - Capital Leases:
Long-term leases relating to the financing of fixed assets are accounted for as
installment purchases. The capital lease obligations reflect the present value
of future rental payments, discounted at the interest rate implicit in the
lease, and a corresponding amount is capitalized as the cost of the fixed
assets. The fixed assets are being depreciated over periods ranging from five to
ten years.
The following is an analysis of fixed assets under capital lease at December 31,
2003:
Equipment $16,917
Less allowances for depreciation 6,433
-------
$10,484
=======
Following is a schedule of future minimum lease payments due under the capital
lease obligations together with the present value of net minimum lease payments
as of December 31, 2003:
Year Ending December 31,
------------------------
2004 $ 6,014
2005 4,511
2006 0
2007 0
2008 0
Later Years 0
--------
Total minimal lease payments 10,525
Less amounts representing interest 982
--------
Present value of net minimum lease payments 9,543
Less current portion (4,311)
--------
Long-term portion $ 5,232
========
Note 5 - Related Party Transactions:
The Company leases its office facilities from a stockholder. The lease is on a
month-to-month basis and currently provides for monthly payments of $1,227. Rent
expense under this arrangement amounted to $18,754 for the year ended December
31, 2003.
F-8
CLARION SENSING SYSTEMS, INC.
Notes to Financial Statements
December 31, 2003
Note 6 - Common Stock:
The Company has stock with equal voting rights and no par value.
The following summarizes the Company's shares of common stock as of December 31,
2003:
Authorized 1,000
Issued 116
Outstanding 116
Note 7 - Income Taxes:
The Company, with the consent of its stockholders, has elected under the
Internal Revenue Code to be an S corporation. In lieu of corporation income
taxes, the stockholders of an S corporation are taxed on their proportionate
share of the Company's taxable income. Therefore, no provision for income taxes
has been included in the financial statements.
Note 8 - Going Concern:
The accompanying financial statements have been prepared in conformity with U.S.
generally accepted accounting principles, which contemplate continuation of the
Company as a going concern. However, the Company has sustained substantial
operating losses since inception. In addition, the Company has used substantial
amounts of working capital in its operations. Further, at December 31, 2003,
current liabilities exceed current assets by $667,086 and the Company reported a
retained deficit of $1,214,707. As described in Note 9, the Company entered into
a letter of intent in 2004 to sell its business assets contingent on the results
of an independent valuation of certain intangible assets.
In view of these matters, realization of a major portion of the assets in the
accompanying balance sheet is dependent upon continued operations of the
Company, which in turn is dependent upon either a) the Company's ability to
successfully sell the Company as discussed in Note 9, or b) obtain financing
from other investors or creditors to provide sufficient cash flow to meet
financing requirements and continue future operations. Management believes that
actions presently being taken, including but not limited to, the letter of
intent to sell the Company's assets as discussed in Note 9, provide the
opportunity for the Company to continue as a going concern.
Note 9 - Subsequent Event:
Effective September 1, 2004, the Company entered into a letter of intent with
ECSI International, Inc. ("ECSI") to acquire substantially all of the assets of
the Company and assume certain liabilities in exchange for 381,250 shares of
ECSI common stock. Under terms of the agreement ECSI will also convert the
majority of accrued compensation and accrued rent, included in the Company's
December 31, 2003 balance sheet to cash or stock if certain future operating
performance targets are met. If those operating targets are met, the value of
the consideration ultimately paid to the Company's current stockholders will be
added to the cost of the acquisition, which will increase the amount of goodwill
arising in the transaction.
F-9
CLARION SENSING SYSTEMS, INC.
Notes to Financial Statements
December 31, 2003
Note 9 - Subsequent Event (Continued):
The Company is in process of obtaining a third party valuation of certain
intangible assets and in negotiations regarding certain assumed liabilities;
accordingly the acquisition has not consummated and the allocation of the
prospective purchase price is not available on the date of this report.
F-10
Report of Independent Registered Public Accounting Firm
To the Board of Directors
CLARION SENSING SYSTEMS, INC.
Indianapolis, Indiana
We have reviewed the condensed balance sheet of Clarion Sensing Systems, Inc. as
of September 30, 2004, and the related condensed statements of operations,
stockholders' equity (deficit), and cash flows for the nine-month period ended
September 30, 2004 included in the accompanying Securities and Exchange
Commission Form 8-K. These interim financial statements are the responsibility
of the Company's management.
We conducted our reviews in accordance with the standards of the Public Company
Accounting Oversight Board (United States). A review of interim financial
information consists principally of applying analytical procedures and making
inquiries of persons responsible for financial and accounting matters. It is
substantially less in scope than an audit conducted in accordance with the
standards of the Public Company Accounting Oversight Board, the objective of
which is the expression of an opinion regarding the financial statements taken
as a whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to the condensed financial statements referred to above for them to be
in conformity with accounting principles generally accepted in the United States
of America.
The accompanying condensed financial statements have been prepared assuming that
the Company will continue as a going concern. As discussed in Note 8 to the
condensed financial statements, the Company has suffered recurring losses from
operations and has a net capital deficiency that raise substantial doubt about
its ability to continue as a going concern. Management's plans in regard to
these matters are also described in Note 8. The financial statements do not
include any adjustments that might result from the outcome of this uncertainty.
We have previously audited, in accordance with the standards of the Public
Company Accounting Oversight Board, the balance sheet of Clarion Sensing Systems
as of December 31, 2003, and the related statements of operations, stockholders'
equity (deficit), and cash flows for the year then ended (not presented herein);
and in our report dated January 21, 2005, we expressed an unqualified opinion on
those financial statements.
/s/ Somerset CPAs, P.C.
Indianapolis, Indiana
January 21, 2005
F-11
CLARION SENSING SYSTEMS, INC.
Balance Sheet
September 30, 2004
Assets
2004
-----------
Current Assets
Cash $ 8,493
Inventories 1,000
-----------
Total Current Assets 9,493
-----------
Property and Equipment
Property and equipment 23,428
Less allowances for depreciation (13,221)
-----------
Total Property and Equipment 10,207
-----------
Total Assets $ 19,700
===========
Liabilities and Shareholders' Equity (Deficit)
Current Liabilities
Accounts payable $ 105,962
Short-term debt 227,200
Note payable to bank 104,000
Current portion of capital lease obligations 5,673
Accrued wages and withholdings 482,919
Accrued rent 56,696
-----------
Total Current Liabilities 982,450
-----------
Shareholders' Equity (Deficit)
Common stock 50,000
Additional paid-in capital 458,658
Retained earnings (deficit) (1,471,408)
-----------
Total Shareholders' Equity (Deficit) (962,750)
-----------
Total Liabilities and Shareholders' Equity (Deficit) $ 19,700
===========
See accompanying notes and accountants' review report.
F-12
CLARION SENSING SYSTEMS, INC.
Statement of Operations
For the Nine Months Ended September 30, 2004
Revenues $ 45,623
Cost of Revenues 11,909
---------
Gross Profit 33,714
---------
General and Administrative Expense 275,775
---------
Loss from Operations (242,061
---------
Other Income (Expense)
Interest expense (14,640)
---------
Total Other Income (Expense) (14,640)
---------
Net Loss $(256,701)
=========
See accompanying notes and accountants' review report.
F-13
CLARION SENSING SYSTEMS, INC
Statement of Stockholders' Equity (deficit)
September 30, 2004
Total
Common Stock Additional Retained Shareholders'
Shares Amount Paid in Capital Deficit Equity (Deficit)
----------- ----------- --------------- ----------- ----------------
Balance at December 31, 2003 116 $ 50,000 $ 432,558 $(1,214,707) $ (732,139)
Issuance of common stock 1 0 7,500 0 7,500
Capital contributions from stockholders 0 0 18,600 0 18,600
Net loss 0 0 0 (256,701) (256,701)
----------- ----------- ----------- ----------- -----------
Balance at September 30, 2004 117 $ 50,000 $ 458,658 $(1,471,408) $ (962,750)
=========== =========== =========== =========== ===========
See accompanying notes and accountants' review report.
F-14
CLARION SENSING SYSTEMS, INC.
Statement of Cash Flows
For the Nine Months Ended September 30, 2004
Cash Flows from Operating Activities
Net loss $(256,701)
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation and amortization 3,124
Changes in operating assets and liabilities:
(Increase) decrease in accounts receivable 2,773
Increase (decrease) in accounts payable 9,102
Increase (decrease) in accrued expenses 48,557
---------
Net cash used in operating activities (193,145)
---------
Cash Flows from Financing Activities
Capital contributions from stockholders 26,100
Proceeds from issuance of debt 157,700
Principal payments under capital lease obligations (3,955)
---------
Net cash provided by financing activities 179,845
---------
Net Decrease in Cash and Cash Equivalents (13,300)
Cash and Cash Equivalents, Beginning of Year 21,793
---------
Cash and Cash Equivalents, End of Year $ 8,493
=========
Supplemental Cash Flow Disclosures
Interest paid $ 7,100
=========
See accompanying notes and accountants' review report.
F-15
CLARION SENSING SYSTEMS, INC.
Notes to Financial Statements
September 30, 2004
Note 1 - Nature of Operations and Summary of Significant Accounting Policies:
Nature of Operations
Clarion Sensing Systems, Inc. (the Company), is an Indianapolis based provider
of proprietary monitoring sensor systems, designed for air and water sensing
applications. The sensor system is able to remotely monitor, analyze, detect and
communicate the presence of nuclear, biological, chemical and radiological
contamination and operational problems, allowing for immediate notification and
action. The Company provides its services to various industries, including
municipalities, manufacturing, and military and defense operations.
Revenue Recognition
The Company generally recognizes revenue for contracts utilizing output measures
such as when services are performed, units are delivered or when contract
milestones are met.
Accounts Receivable
The Company carries its accounts receivable at invoiced amounts. On a periodic
basis, the Company evaluates its accounts receivable and writes off
uncollectible accounts, based on history of past write-offs and collections and
current credit conditions. The Company considers accounts receivable to be fully
collectible; accordingly, no allowance for doubtful accounts is provided. The
Company's policy is not to accrue interest on past due trade receivables.
Inventories
Inventories are stated at the lower of cost or market. Costs are determined
under the first-in, first-out method (FIFO) method of accounting.
Property, Equipment, and Depreciation
Property and equipment are carried at cost and includes expenditures for new
additions and those, which substantially increase the useful lives of existing
assets. Depreciation is computed at various rates by use of the straight-line
method and certain accelerated methods. Depreciable lives are generally as
follows:
Office furniture 5 to 7 years
Equipment 5 to 10 years
Expenditures for normal repairs and maintenance are charged to operations as
incurred. The cost of property or equipment retired or otherwise disposed of and
the related accumulated depreciation are removed from the accounts in the year
of disposal with the resulting gain or loss reflected in earnings or in the cost
of the replacement asset.
The provision for depreciation amounted to $3,124 for the nine months ended
September 30, 2004.
F-16
CLARION SENSING SYSTEMS, INC.
Notes to Financial Statements
September 30, 2004
Note 1 - Nature of Operations and Summary of Significant Accounting Policies
(Continued):
Cash Flows
For purposes of the Statements of Cash Flows, the Company considers all highly
liquid instruments that are purchased within three months or less of an
instruments maturity date to be cash equivalents.
Use of Estimates
The preparation of financial statements in conformity with U.S. generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Note 2 - Note Payable:
The Company has a promissory note payable due to a bank at September 30, 2004,
in the amount of $104,000 with a fixed interest rate of 7%, later amended to
8.75% due to loan default as discussed in the following paragraph. The note is
secured by substantially all assets of the Company and is personally guaranteed
by certain stockholders of the Company.
The note payable contains various affirmative covenants. At September 30, 2004,
the Company was in breach with many of these covenants and the loan was
considered in default. As a result the Company entered into an agreement with
the bank to pay interest only on the note up through sale of the Company's
assets as described in Note 9. Under terms of the agreement, the prospective
buyer has entered into a contract with the bank to pay the obligation and will
assume the liability at closing. Management of the Company believes it is likely
the bank will call the note in the event the acquisition does not consummate
within a reasonable period after the date of this report.
Note 3 - Short-term Debt:
The Company has outstanding debt due on demand in the amount of $94,200 due to
prospective investors, as of September 30, 2004, including imputed interest
ranging from 10% - 15%. Contingent on the sale of the Company's assets as
described in Note 9, the debt shall be converted to stock of the prospective
buyers as defined in the agreement.
The Company also has outstanding debt in the amount of $133,000, with interest
fixed at 7.5% due to ECSI International, Inc. (ECSI) as of September 30, 2004.
The note is secured by certain stockholders of the Company and contains certain
covenants as defined. Pursuant to the agreement, ECSI agrees to fund operations
of the Company during the period a business combination between the parties
remains under negotiation. Additionally, if the business combination takes place
ECSI shall forgive all accrued interest and outstanding principal owed by the
Company. However, in the event the business combination is not completed between
the parties; the Company shall pay on demand outstanding accrued interest and
principal. As described further in Note 9, closing of the business combination
is considered likely by management of the Company.
F-17
CLARION SENSING SYSTEMS, INC.
Notes to Financial Statements
September 30, 2004
Note 4 - Capital Leases:
Long-term leases relating to the financing of fixed assets are accounted for as
installment purchases. The capital lease obligations reflect the present value
of future rental payments, discounted at the interest rate implicit in the
lease, and a corresponding amount is capitalized as the cost of the fixed
assets. The fixed assets are being depreciated over periods ranging from five to
ten years.
The following is an analysis of fixed assets under capital lease at September
30, 2004:
Equipment $16,917
Less allowances for depreciation 9,578
-------
$ 7,339
=======
Following is a schedule of future minimum lease payments due under the capital
lease obligations together with the present value of net minimum lease payments
as of September 30, 2004:
Year Ending December 31,
------------------------
2005 $ 6,014
Later Years 0
-------
Total minimal lease payments 6,014
Less amounts representing interest 341
-------
Present value of net minimum lease payments 5,673
Less current portion (5,673)
-------
Long-term portion $ 0
=======
Note 5 - Related Party Transactions:
The Company leases its office facilities from a stockholder. The lease is on a
month-to-month basis and currently provides for monthly payments of $1,288. Rent
expense under this arrangement amounted to $13,681 for the nine months ended
September 30, 2004.
Effective November 1, 2004, the lease was restructured and a new agreement was
signed. The new agreement provides for monthly payments of $1,300, expiring
November 30, 2005.
F-18
CLARION SENSING SYSTEMS, INC.
Notes to Financial Statements
September 30, 2004
Note 6 - Common Stock:
The Company has stock with equal voting rights and no par value.
The following summarizes the Company's shares of common stock as of September
30, 2004:
Authorized 1,000
Issued 117
Outstanding 117
Note 7 - Income Taxes:
The Company, with the consent of its stockholders, has elected under the
Internal Revenue Code to be an S corporation. In lieu of corporation income
taxes, the stockholders of an S corporation are taxed on their proportionate
share of the Company's taxable income. Therefore, no provision for income taxes
has been included in the financial statements.
Note 8 - Going Concern:
The accompanying financial statements have been prepared in conformity with U.S.
generally accepted accounting principles, which contemplate continuation of the
Company as a going concern. However, the Company has sustained substantial
operating losses since inception. In addition, the Company has used substantial
amounts of working capital in its operations. Further, at September 30, 2004,
current liabilities exceed current assets by $972,957 and the Company reported a
retained deficit of $1,471,408. As described in Note 9, the Company entered into
a letter of intent in 2004 to sell its business assets contingent on the results
of an independent valuation of certain intangible assets.
In view of these matters, realization of a major portion of the assets in the
accompanying balance sheet is dependent upon continued operations of the
Company, which in turn is dependent upon either a) the Company's ability to
successfully sell the Company as discussed in Note 9, or b) obtain financing
from other investors or creditors to provide sufficient cash flow to meet
financing requirements and continue future operations. Management believes that
actions presently being taken, including but not limited to, the letter of
intent to sell the Company's assets as discussed in Note 9, provide the
opportunity for the Company to continue as a going concern.
Note 9 - Subsequent Event:
Effective September 1, 2004, the Company entered into a letter of intent with
ECSI International, Inc. ("ECSI") to acquire substantially all of the assets of
the Company and assume certain liabilities in exchange for 381,250 shares of
ECSI common stock. Under terms of the agreement ECSI will also convert the
majority of accrued compensation and accrued rent, included in the Company's
September 30, 2004 balance sheet to cash or stock if certain future operating
performance targets are met. If those operating targets are met, the value of
the consideration ultimately paid to the Company's current stockholders will be
added to the cost of the acquisition, which will increase the amount of goodwill
arising in the transaction.
F-19
CLARION SENSING SYSTEMS, INC.
Notes to Financial Statements
September 30, 2004
Note 9 - Subsequent Event (Continued):
The Company is in process of obtaining a third party valuation of certain
intangible assets and in negotiations regarding certain assumed liabilities;
accordingly the acquisition has not consummated and the allocation of the
prospective purchase price is not available on the date of this report.
F-20
ELECTRONIC CONTROL SECURITY INC.
UNAUDITED PRO FORMA
CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
On March 4, 2005, Electronic Control Security Inc. ("ECSI") and its wholly owned
subsidiary Clarion Sensing Systems Acquisition Corp. (the "Subsidiary," which
together with ECSI is herein referred to as the "Company"), entered into a
series of agreements with Clarion Sensing Systems, Inc., an Indiana corporation
("Clarion"), and its stockholders (the "Clarion Stockholders") to acquire all of
Clarion's assets (the "Clarion Assets") and assume certain of its liabilities.
Pursuant to an Asset Purchase Agreement, the Company acquired the tangible and
intangible assets described below for a purchase price of approximately $1.4
million (collectively, the "Consideration") consisting of (i) the issuance of
394,682 shares of common stock of ECSI ("Shares") (ii) the assumption of
$655,587 of certain liabilities of Clarion, of which ECSI already has paid
approximately $413,144 as of the date hereof and (iii) transaction costs
totaling $116,750. The Company also has agreed to assume $438,959 of certain
liabilities of Clarion on a contingent basis, as described in Items 1.01 and
2.03 to Amendment No. 1 to Current Form 8-K to which these financial statements
are attached ("Contingent Liabilities"), and to pay certain professional and
other fees incurred in connection with the transaction.
The transaction will be accounted for under the purchase method of accounting,
and as such the cost of the acquisition will be allocated to Clarion's
underlying net assets in proportion to their respective fair values.
This unaudited combined consolidated pro forma information should be read in
conjunction with the consolidated financial statements of the Company included
in our Annual Report filed on Form 10-KSB for the year ended June 30, 2004 and
our Quarterly Report filed on Form 10-QSB for the six months ended December 31,
2004 filed on February 9, 2005. In addition, this pro forma information should
be read in conjunction with the financial statements for Clarion for the year
ended December 31, 2003 and the nine months ended September 30, 2004 included
within this Amendment to Current Report on Form 8-K/A.
The following unaudited pro forma combined consolidated statement of operations
for the year ended June 30, 2004 has been prepared in accordance with accounting
principles generally accepted in the United States to give effect to the March
4, 2005 acquisition of the Clarion net assets and are based on the historical
statement of operations for those periods as if the transaction occurred on July
1, 2003. The pro forma consolidated combined statement of operations combines
the results of operations of the Company for the year ended June 30, 2004 with
the results of operations of Clarion for the year ended June 30, 2004.
The following unaudited pro forma combined consolidated statement of operations
for the six months ended December 31, 2004 has been prepared in accordance with
accounting principles generally accepted in the United States to give effect to
the March
F-21
4, 2005 acquisition of the Clarion net assets and are based on the historical
statement of operations for those periods as if the transaction occurred on July
1, 2004. Such pro forma statement of operations combines the results of
operations of the Company for the six months ended December 31, 2004 with the
results of operations of Clarion for the six months ended December 31, 2004.
The following unaudited pro forma combined consolidated balance sheet has been
prepared in accordance with accounting principals generally accepted in the
United States, gives effect to the March 4, 2005 acquisition of the Clarion
Assets and liabilities as of December 31, 2004, and assumes the acquisition took
place on that date.
These unaudited pro forma financial statements are prepared for informational
purposes only and are not necessarily indicative of future results or of actual
results that would have been achieved had the acquisition of the Clarion Assets
been consummated as of the dates specified above.
F-22
Electronic Control Security Inc.
Pro Forma Consolidated Condensed Balance Sheet (UNAUDITED)
December 31, 2004
ECSI
ECSI (A) Proforma Proforma
----------- ----------- -----------
ASSETS
Current assets
Cash and cash equivalents $ 162,898 $ $ 162,898
Marketable securities, available for sale 751,099 751,099
Certificates of deposit 102,183 102,183
Accounts receivable 1,062,530 1,062,530
Loan receivable 295,485 (295,485)(B) --
Inventories 1,574,311 1,574,311
Other current assets 438,971 438,971
----------- -----------
Total current assets 4,387,477 (295,485) 4,091,992
Property and equipment - net 502,900 48,000(B) 550,900
Intangible assets - net 37,867 1,387,402(B) 1,425,269
Certificate of deposit, pledged 250,000 250,000
Goodwill 50,000 50,000
Deferred income taxes 441,800 441,800
Other assets 78,825 78,825
----------- -----------
$ 5,748,869 $ 1,139,917 $ 6,888,786
=========== =========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities
Accounts payable and accrued expenses $ 642,685 $ 476,851(B) $ 1,119,536
Current maturities of long-term debt 199,992 199,992
Obligations under capital leases 1,302 1,302
Other current liabilities 10,828 10,828
----------- -----------
Total current liabilities 854,807 476,851 1,331,658
Noncurrent liabilities
Long-term debt 483,341 483,341
Due to officers and shareholders 354,795 354,795
Deferred income taxes 48,000 48,000
----------- -----------
Total liabilities 1,740,943 476,851 2,217,794
Shareholders' equity
Series A Convertible Preferred stock 3,625 3,625
Series B 10% Convertible Preferred stock 2 2
Common Stock 6,610 395(B) 7,005
Additional paid-in capital 9,443,910 662,671(B) 10,106,581
Accumulated deficit (5,454,403) (5,454,403)
Accumulated other comprehensive income 18,182 18,182
Treasury stock, at cost, 100,000 shares (10,000) (10,000)
----------- -----------
Total shareholders' equity 4,007,926 663,066 4,670,992
----------- ----------- -----------
$ 5,748,869 $ 1,139,917 $ 6,888,786
=========== =========== ===========
See Notes to Pro Forma Consolidated Condensed financial statements (UNAUDITED)
F-23
Electronic Control Security Inc.
Pro Forma Combined Consolidated Statements of Operations (UNAUDITED)
Year Ended June 30, 2004
ECSI
ECSI Clarion Proforma Proforma
----------- ----------- ----------- -----------
Revenues $ 2,061,412 $ 125,305 $ $ 2,186,717
Cost of revenues 928,567 42,094 970,661
----------- ----------- ----------- -----------
Gross profit 1,132,845 83,211 1,216,056
----------- ----------- ----------- -----------
Research and development 322,912 322,912
Selling, general and administrative expenses 1,782,534 243,222 84,811[C] 2,110,567
Stock based compensation 117,200 -- 117,200
----------- ----------- ----------- -----------
Loss from operations (1,089,801) (160,011) (84,811) (1,334,623)
Other (income) expense
Interest expense 105,916 7,209 113,125
Interest income (3,128) (3,128)
Minority interest in subsidiary loss (42,633) (42,633)
----------- ----------- ----------- -----------
Total other (income) expense 60,155 7,209 -- 67,364
----------- ----------- ----------- -----------
Loss before tax benefit (1,149,956) (167,220) (84,811) (1,401,987)
Income tax benefit (31,300) -- -- (31,300)
----------- ----------- ----------- -----------
Net loss before dividends (1,118,656) (167,220) (84,811) (1,370,687)
Dividends related to convertible preferred stock 1,167,147 -- -- 1,167,147
----------- ----------- ----------- -----------
Net loss attributable to common shareholders $(2,285,803) $ (167,220) $ (84,811) $(2,537,834)
=========== =========== =========== ===========
Basic and diluted net loss per share $ (0.50)
===========
Weighted average shares outstanding - Proforma 5,099,709
===========
See Notes to Pro Forma Consolidated Condensed financial statements (UNAUDITED)
F-24
Electronic Control Security Inc.
Pro Forma Combined Consolidated Statements of Operations (UNAUDITED)
Six months ended December 31, 2004
ECSI
ECSI Clarion Proforma Proforma
----------- ----------- -----------
Revenues $ 1,957,592 $ 8,445 $ $ 1,966,037
Cost of revenues 1,218,469 2,204 1,220,673
----------- ----------- -----------
Gross profit 739,123 6,241 745,364
----------- ----------- -----------
Research and development 161,829 161,829
Selling, general and administrative expenses 806,299 232,780 42,405[D] 1,081,484
Stock based compensation 120,000 -- 120,000
----------- -----------
Loss from operations (349,005) (226,539) (42,405) (617,949)
Other (income) expense
Interest expense 56,885 140 57,025
Interest income (7,107) (7,107)
Minority interest in subsidiary loss (27,166) (27,166)
Gain on sale of marketable securities (7,519) (7,519)
----------- ----------- ----------- -----------
Total other (income) expense 15,093 140 0 15,233
----------- ----------- ----------- -----------
Loss before tax benefit (364,098) (226,679) (42,405) (633,182)
Income tax benefit -- -- -- --
----------- ----------- ----------- -----------
Net loss before dividends (364,098) (226,679) (42,405) (633,182)
Dividends related to convertible preferred stock 100,000 -- 100,000
----------- ----------- -----------
Net loss attributable to common shareholders $ (464,098) $ (226,679) $ (42,405) $ (733,182)
=========== =========== =========== ===========
Basic and diluted net loss per share $ (0.12)
===========
Weighted average shares outstanding - Proforma 6,347,002
===========
See Notes to Pro Forma Consolidated Condensed financial statements (UNAUDITED)
F-25
ELECTRONIC CONTROL SECURITY INC.
NOTES TO THE PRO FORMA CONSOLIDATED CONDENSED
(UNAUDITED)
(A) Reflects the historical financial position of ECSI at December 31, 2004
(B) The following represents the acquisition of Clarion and the allocation of
the purchase price.
Calculation of purchase price
Advances to Clarion made prior to December 31, 2004 $ 295,485
Assumption of certain Clarion liabilities 360,101
Issuance of 394,682 shares of ESCI common Stock 663,066
Transaction costs - accrued 116,750
----------
$1,435,402
==========
Allocation of purchase price
Tangible Assets - Furniture Fixtures & Equipment $ 48,000
Intangible assets consisting of
Vacusonic Patent Pending and Trademarks 818,653
Sentinal Trademark and Proposed Patent 560,131
Intenet Domain Names and URL 8,617
----------
$1,435,402
==========
(C) To record the increased depreciation and amortization of acquired tangible
and intangible assets for the year ended June 30, 2004.
(D) To record the increased depreciation and amortization of acquired tangible
and intangible assets for the six months ended December 31, 2004.
F-26
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 8-K/A
CURRENT REPORT
PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934
Date of Report (Date of earliest event reported): March 4, 2005
ELECTRONIC CONTROL SECURITY INC.
(Exact name of registrant as specified in its charter)
New Jersey 0-30810 22-2138196
(State or other jurisdiction (Commission IRS Employer
of incorporation) File Number) Identification No.)
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code:
--------------------------------------------------------------
(Former name or former address, if changed since last report.)
Check the appropriate box below if the Form 8-K filing is intended to
simultaneously satisfy the filing obligation of the registrant under any of the
following provisions (see General Instruction A.2. below):
|_| Written communications pursuant to Rule 425 under the Securities Act (17
CFR 230.425)
|_| Soliciting material pursuant to Rule 14a-12 under the Exchange Act (17 CFR
240.14a-12)
|_| Pre-commencement communications pursuant to Rule 14d-2(b) under the
Exchange Act (17 CFR 240.14d-2(b))
|_| Pre-commencement communications pursuant to Rule 13e-4(c) under the
Exchange Act (17 CFR 240.13e-4(c))
Item 9.01 Financial Statements and Exhibits.
(a) Financial statements of business acquired.
The following financial statements of Clarion Sensing Systems, Inc., the
acquired business, are submitted at the end of this Amendment to Current Report
on Form 8-K/A, and are filed herewith and incorporated herein by reference:
(i) Financial statements of businesses acquired.
Financial Statements Page
-------------------- ----
Audited Financial Statements of Clarion
Sensing Systems, Inc. for the Year ended
December 31, 2004 1-9
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
ELECTRONIC CONTROL SECURITY INC.
Date: August 12, 2005 By: /s/ Arthur Barchenko
------------------------
Arthur Barchenko, President
CLARION SENSING SYSTEMS, INC.
Financial Statements
Year Ended December 31, 2004
CLARION SENSING SYSTEMS, INC.
TABLE OF CONTENTS
Page
Report of Independent Registered Public Accounting Firm................... 1
Financial Statements
Balance Sheet......................................................... 2
Statement of Operations............................................... 3
Statement of Stockholders' Deficit ................................... 4
Statement of Cash Flows............................................... 5
Notes to Financial Statements......................................... 6
Independent Auditors' Report
To the Board of Directors
Clarion Sensing Systems, Inc.
Indianapolis, Indiana
We have audited the accompanying balance sheet of Clarion Sensing Systems, Inc.,
as of December 31, 2004, and the related statements of operations, stockholders'
equity (deficit), and cash flows for the year 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 audit.
We conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audits 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.
In our opinion, the 2004 financial statements referred to above present fairly,
in all material respects, the financial position of Clarion Sensing Systems,
Inc., as of December 31, 2004, and the results of its operations and its cash
flows for the year then ended in conformity with U.S. generally accepted
auditing principles.
/s/ Somerset CPAs, P.C.
Indianapolis, Indiana
August 9, 2005
CLARION SENSING SYSTEMS, INC
Balance Sheet
December 31, 2004
Assets
Current Assets
Cash $ 10,058
Inventories 1,001
-----------
Total Current Assets 11,059
-----------
Property and Equipment
Property and equipment 23,428
Less allowances for depreciation (14,263)
-----------
Total Property and Equipment 9,165
-----------
Total Assets $ 20,224
===========
Liabilities and Shareholders' Deficit
Liabilities
Accounts payable $ 59,952
Short-term debt 381,300
Note payable to bank 105,794
Current portion of capital lease obligations 4,338
Accrued wages and withholdings 419,261
Accrued rent 56,696
-----------
Total Liabilities 1,027,341
-----------
Shareholders' Deficit
Common stock 50,000
Additional paid-in capital 464,938
Accumulated deficit (1,522,055)
-----------
Total Shareholders' Deficit (1,007,117)
-----------
Total Liabilities and Shareholders' Deficit $ 20,224
===========
See accompanying notes.
2
CLARION SENSING SYSTEMS, INC.
Statement of Operations
For the Year Ended December 31, 2004
Revenues $ 45,623
Cost of Revenues 12,042
------------
Gross Profit 33,581
------------
General and Administrative Expense 318,144
------------
Loss from Operations (284,563)
------------
Other Expense
Interest expense (22,785)
------------
Net Loss $ (307,348)
============
See accompanying notes.
3
CLARION SENSING SYSTEMS, INC.
Statement of Stockholders' Equity (Deficit)
For the Year Ended December 31, 2004
Total
Common Stock Additional Retained Shareholders'
Shares Amount Paid in Capital Deficit Equity (Deficit)
----------- ----------- --------------- ----------- ---------------
Balance at December 31, 2003 116 $ 50,000 $ 432,558 $(1,214,707) $ (732,149)
Issuance of common stock 1 7,500 7,500
Capital contributions from
stockholders 24,880 24,880
Net loss (307,348) (307,348)
----------- ----------- ----------- ----------- -----------
Balance at September 30, 2004 117 $ 50,000 $ 464,938 $(1,522,055) $(1,007,117)
=========== =========== =========== =========== ===========
See accompanying notes.
4
CLARION SENSING SYSTEMS, INC.
Statement of Cash Flows
For the Year Ended December 31, 2004
Cash Flows from Operating Activities
Net loss $ (307,348)
Adjustments to reconcile net loss to net cash
used by operating activities:
Depreciation and amortization 4,166
Changes in operating assets and liabilities:
(Increase) decrease in accounts receivable 2,773
Increase (decrease) in accounts payable (36,908)
Increase (decrease) in accrued expenses (15,101)
------------
Net cash used in operating activities (352,418)
Cash Flows from Financing Activities
Capital contributions 32,380
Proceeds from issuance of debt 313,594
Principal payments under capital lease obligations (5,291)
------------
Net cash used in financing activities 340,683
------------
Net Decrease in Cash and Cash Equivalents (11,735)
Cash and Cash Equivalents, Beginning of Year 21,793
------------
Cash and Cash Equivalents, End of Year $ 10,058
============
Supplemental Cash Flow Disclosures
Interest paid $ 22,785
============
See accompanying notes.
5
CLARION SENSING SYSTEMS, INC.
Notes to Financial Statements
December 31, 2004
Note 1 - Nature of Operations and Summary of Significant Accounting Policies:
Nature of Operations
Clarion Sensing Systems, Inc. (the Company), is an Indianapolis based provider
of proprietary monitoring sensor systems, designed for air and water sensing
applications. The sensor system is able to remotely monitor, analyze, detect and
communicate the presence of nuclear, biological, chemical and radiological
contamination and operational problems, allowing for immediate notification and
action. The Company provides its services to various industries, including
municipalities, manufacturing, and military and defense operations.
Revenue Recognition
The Company generally recognizes revenue for contracts utilizing output measures
such as when services are performed, units are delivered or when contract
milestones are met.
Inventories
Inventories are stated at the lower of cost or market. Costs are determined
under the first-in, first-out method (FIFO) method of accounting.
Property, Equipment, and Depreciation
Property and equipment are carried at cost and includes expenditures for new
additions and those, which substantially increase the useful lives of existing
assets. Depreciation is computed at various rates by use of the straight-line
method and certain accelerated methods. Depreciable lives are generally as
follows:
Office furniture 5 to 7 years
Equipment 5 to 10 years
Expenditures for normal repairs and maintenance are charged to operations as
incurred. The cost of property or equipment retired or otherwise disposed of and
the related accumulated depreciation are removed from the accounts in the year
of disposal with the resulting gain or loss reflected in earnings or in the cost
of the replacement asset.
The provision for depreciation amounted to $4,166 for the year ended December
31, 2004.
6
CLARION SENSING SYSTEMS, INC.
Notes to Financial Statements
December 31, 2004
Note 1 - Nature of Operations and Summary of Significant Accounting Policies
(Continued):
Cash Flows
For purposes of the Statements of Cash Flows, the Company considers all highly
liquid instruments that are purchased within three months or less of an
instruments maturity date to be cash equivalents.
Use of Estimates
The preparation of financial statements in conformity with U.S. generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Note 2 - Note Payable:
The Company has a promissory note payable due to a bank at December 31, 2004, in
the amount of $105,794 with a fixed interest rate of 7%, later amended to 8.75%
due to loan default as discussed in the following paragraph. The note is secured
by substantially all assets of the Company and is personally guaranteed by
certain stockholders of the Company.
The note payable contains various affirmative covenants. At December 31, 2004,
the Company was in breach with many of these covenants and the loan was
considered in default. As a result the Company entered into an agreement with
the bank to pay interest only on the note up through sale of the Company's
assets as described in Note 8. Under terms of the agreement, the buyer has
entered into a contract with the bank to pay the obligation and has assumed the
liability at closing.
Note 3 - Short-term Debt:
The Company has outstanding debt due on demand in the amount of $85,316 due to
prospective investors, as of December 31, 2004, including imputed interest
ranging from 10% - 15%. Upon the sale of the Company's assets as described in
Note 8, the debt was converted to stock of the buyer as defined in the
agreement.
The Company also has outstanding debt in the amount of $287,100, with interest
fixed at 7.5% due to ECSI International, Inc. (ECSI) as of December 31, 2004.
The note is secured by certain stockholders of the Company and contains certain
covenants as defined. Pursuant to the agreement, ECSI agreed to fund operations
of the Company during the period the sale remained under negotiation. Upon the
consummation of the sale in March 2005, (see note 8) the outstanding principal
became additional consideration of the purchase price and the accrued interest
was forgiven.
7
CLARION SENSING SYSTEMS, INC.
Notes to Financial Statements
December 31, 2004
Note 4 - Capital Leases:
Long-term leases relating to the financing of fixed assets are accounted for as
installment purchases. The capital lease obligations reflect the present value
of future rental payments, discounted at the interest rate implicit in the
lease, and a corresponding amount is capitalized as the cost of the fixed
assets. The fixed assets are being depreciated over periods ranging from five to
ten years.
The following is an analysis of fixed assets under capital lease at December 31,
2004:
Equipment $ 16,917
Less allowances for depreciation 9,578
------------
$ 7,339
============
Following is a schedule of future minimum lease payments due under the capital
lease obligations together with the present value of net minimum lease payments
as of December 31, 2004:
Year Ending December 31, 2005 $ 4,667
Later Years 0
------------
Total minimal lease payments 4,667
Less amounts representing interest 329
------------
Present value of net minimum lease payments 4,338
Less current portion (4,338)
------------
Long-term portion $ 0
============
Note 5 - Related Party Transactions:
The Company leases its office facilities from a stockholder. The lease was on a
month-to-month basis, providing for monthly payments of $1,288 through October
31, 2004. Effective November 1, 2004, the lease was restructured and a new
agreement was signed. The new agreement provides for monthly payments of $1,300,
expiring November 30, 2005. Rent expense amounted to $18,031 for the year ended
December 31, 2004.
8
CLARION SENSING SYSTEMS, INC.
Notes to Financial Statements
December 31, 2004
Note 6 - Common Stock:
The Company has stock with equal voting rights and no par value.
The following summarizes the Company's shares of common stock as of December 31,
2004:
Authorized 1,000
Issued 117
Outstanding 117
Note 7 - Income Taxes:
The Company, with the consent of its stockholders, has elected under the
Internal Revenue Code to be an S corporation. In lieu of corporation income
taxes, the stockholders of an S corporation are taxed on their proportionate
share of the Company's taxable income. Therefore, no provision for income taxes
has been included in the financial statements.
Note 8 - Subsequent Event:
On March 4, 2005, the Company sold substantially all of its assets to ECSI
International, Inc. ("ECSI") in exchange for 394,682 shares of ECSI common stock
and the assumption by ECSI of certain liabilities. Also under terms of the
agreement ECSI will assume the majority of accrued compensation and accrued
rent, included in the Company's December 31, 2004 balance sheet if certain
future operating performance targets are met. If those operating targets are
met, the value of the consideration ultimately paid to the Company's current
stockholders will be added to the cost of the acquisition.
9