0000950144-01-507815.txt : 20011019 0000950144-01-507815.hdr.sgml : 20011019 ACCESSION NUMBER: 0000950144-01-507815 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 20010831 FILED AS OF DATE: 20011015 FILER: COMPANY DATA: COMPANY CONFORMED NAME: CALTON INC CENTRAL INDEX KEY: 0000717216 STANDARD INDUSTRIAL CLASSIFICATION: OPERATIVE BUILDERS [1531] IRS NUMBER: 222433361 STATE OF INCORPORATION: NJ FISCAL YEAR END: 1130 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 001-08846 FILM NUMBER: 1758975 BUSINESS ADDRESS: STREET 1: 125 HALF MILE ROAD CITY: RED BANK STATE: NJ ZIP: 07701-6749 BUSINESS PHONE: 9087801800 MAIL ADDRESS: STREET 1: 500 CRAIG RD CITY: MANALAPAN STATE: NJ ZIP: 07726-8790 10-Q 1 g72117e10-q.txt CALTON,INC. - FORM 10-Q 08/31/01 SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarter ended August 31, 2001 [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission file no. 1-8846 CALTON, INC. (Exact name of registrant as specified in its charter) NEW JERSEY 22-2433361 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification Number) 2013 INDIAN RIVER BLVD. VERO BEACH, FLORIDA 32960 (Addresses of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (561) 794-1414 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Section 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. Yes [X] No [ ] As of October 11, 2001, 4,480,354 shares of Common Stock were outstanding. CALTON, INC. AND SUBSIDIARIES INDEX
Page No. -------- PART I. FINANCIAL INFORMATION Item 1. Financial Statements (Unaudited) Consolidated Balance Sheets at August 31, 2001 and November 30, 2000 .......................... 3 Consolidated Statements of Operations for the Three Months Ended August 31, 2001 and 2000..................... 4 Consolidated Statements of Operations for the Nine Months Ended August 31, 2001 and 2000...................... 5 Consolidated Statements of Cash Flows for the Nine Months Ended August 31, 2001 and 2000...................... 6 Consolidated Statement of Changes in Shareholders' Equity for the Nine Months Ended August 31, 2001............... 7 Notes to Consolidated Financial Statements...................... 8 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations................... 13 Item 3. Quantitative and Qualitative Disclosures About Market Risk...... 18 PART II. OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K................................ 19 SIGNATURES...................................................................... 20
-------------------------------------------------------------------------------- Certain information included in this report and other Company filings (collectively, "SEC filings") under the Securities Act of 1933, as amended, and the Securities Exchange Act of 1934, as amended (as well as information communicated orally or in writing between the dates of such SEC filings) contains or may contain forward looking information that is subject to certain risks, trends and uncertainties that could cause actual results to differ materially from expected results. Among these risks, trends and uncertainties are matters related to the indemnification provisions in connection with the Company's sale of Calton Homes, Inc., national and local economic conditions, the lack of an established operating history for the Company's current business activities, conditions and trends in the Internet and technology industries in general, the effect of governmental regulation on the Company and the risks described under the caption "Certain Risks" in the Company's Annual Report on Form 10-K for the fiscal year ended November 30, 2000 and under the caption "Factors Affecting Calton, Inc.'s Operating Results, Business Prospects and Market Price of Stock" in this report. -------------------------------------------------------------------------------- 2 Item 1. FINANCIAL STATEMENTS CALTON, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS
August 31, November 30, 2001 2000 ------------ ------------ (Unaudited) ASSETS Current Assets Cash and cash equivalents $ 6,963,000 $ 32,190,000 Holdback receivable 514,000 1,289,000 Accounts receivable, net of allowance for doubtful accounts of $405,000 and $122,000 at August 31, 2001 and November 30, 2000, respectively 755,000 760,000 Refundable income taxes 362,000 -- Prepaid expenses and other assets 243,000 218,000 ------------ ------------ Total current assets 8,837,000 34,457,000 Property and equipment, net 832,000 638,000 Cost method investment 500,000 -- Goodwill, net 119,000 -- Other assets 2,000 5,000 ------------ ------------ Total assets $ 10,290,000 $ 35,100,000 ============ ============ LIABILITIES, MINORITY INTEREST AND SHAREHOLDERS' EQUITY Accounts payable, accrued expenses and other liabilities $ 740,000 $ 1,384,000 Deferred taxes 1,103,000 741,000 ------------ ------------ Total current liabilities 1,843,000 2,125,000 ------------ ------------ Minority interest -- 88,000 ------------ ------------ Commitments and Contingencies SHAREHOLDERS' EQUITY Preferred Stock -- -- Common stock, $.05 par value, 10,740,000 shares authorized; 4,475,000 and 4,132,000 shares outstanding at August 31, 2001 and November 30, 2000, respectively 229,000 207,000 Additional paid in capital 12,942,000 33,364,000 Retained earnings 5,387,000 9,055,000 Less cost of shares held in treasury, 1,719,000 and 1,615,000 shares as of August 31, 2001 and November 30, 2000, respectively (10,111,000) (9,739,000) ------------ ------------ Total shareholders' equity 8,447,000 32,887,000 ------------ ------------ Total liabilities, minority interest and shareholders' equity $ 10,290,000 $ 35,100,000 ============ ============
The accompanying notes are an integral part of these financial statements. 3 CALTON INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS Three Months ended August 31, 2001 and 2000 (Unaudited)
2001 2000 ----------- ----------- Revenue Homebuilding consulting fees $ 325,000 $ 325,000 Web design and implementation 208,000 333,000 Technical staffing 734,000 267,000 Other 61,000 139,000 ----------- ----------- 1,328,000 1,064,000 ----------- ----------- Costs and expenses Project personnel and expenses 614,000 413,000 Selling, general and administrative 2,334,000 2,722,000 ----------- ----------- 2,948,000 3,135,000 ----------- ----------- Loss from operations (1,620,000) (2,071,000) Other expense (income) Interest income (157,000) (535,000) Loss on disposition of securities -- 210,000 ----------- ----------- Loss before minority interest and income taxes (1,463,000) (1,746,000) Minority interest -- (192,000) ----------- ----------- Loss before income taxes (1,463,000) (1,554,000) Income tax benefit -- (205,000) ----------- ----------- Net loss $(1,463,000) $(1,349,000) =========== =========== Basic and diluted loss per share $ (0.33) $ (0.32) =========== =========== Weighted average number of shares outstanding Basic and diluted 4,396,000 4,261,000
The accompanying notes are an integral part of these financial statements. 4 CALTON INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS Nine Months ended August 31, 2001 and 2000 (Unaudited)
2001 2000 ----------- ----------- Revenue Homebuilding consulting fees $ 975,000 $ 975,000 Web design and implementation $ 932,000 887,000 Technical staffing $ 2,281,000 267,000 Other $ 94,000 144,000 ----------- ----------- 4,282,000 2,273,000 ----------- ----------- Costs and expenses Project personnel and expenses 1,955,000 802,000 Selling, general and administrative 7,086,000 5,833,000 ----------- ----------- 9,041,000 6,635,000 ----------- ----------- Loss from operations (4,759,000) (4,362,000) Other expense (income) Interest income (1,003,000) (1,593,000) Loss on disposition of securities -- 718,000 ----------- ----------- Loss before minority interest and income taxes (3,756,000) (3,487,000) Minority interest (88,000) (192,000) ----------- ----------- Loss before income taxes $(3,668,000) $(3,295,000) Income tax benefit -- (205,000) ----------- ----------- Net loss (3,668,000) (3,090,000) =========== =========== Basic and diluted loss per share $ (0.86) $ (0.72) =========== =========== Weighted average number of shares outstanding Basic and diluted 4,245,000 4,299,000
The accompanying notes are an integral part of these financial statements. 5 CALTON, INC. AND SUBSIDIARUES CONSOLIDATED STATEMENTS OF CASH FLOWS Nine Months Ended August 31, 2001 and 2000 (Unaudited)
2001 2000 ------------ ------------ OPERATING ACTIVITIES Net loss $ (3,668,000) $ (3,090,000) Adjustments to reconcile net loss to cash used in operating activities Minority interest (88,000) (192,000) Stock options issued for consulting services 367,000 25,000 Loss on disposition of securities -- 718,000 Impairment of goodwill -- 119,000 Provision for uncollectible receivables 335,000 -- Depreciation and amortization 160,000 103,000 Increase in accounts receivable (330,000) (541,000) Increase in prepaid expenses and other assets (22,000) (241,000) Increase in income taxes receivable -- (205,000) Decrease in notes receivable -- 104,000 Change in net assets/liabilities of discontinued operations -- (224,000) Increase (decrease) in accounts payable, accrued expenses and other liabilities (644,000) 317,000 ------------ ------------ Net cash used in operating activities (3,890,000) (3,107,000) INVESTING ACTIVITIES Sale of available for sale securities -- 1,346,000 Receipts from holdback receivable and third parties 1,402,000 1,062,000 Investment in Miresco (500,000) -- Payments for Centex warranty claims (627,000) -- Purchase of available for sale securities -- (967,000) Acquisition of business, net of cash acquired -- (138,000) Purchase of property and equipment (346,000) (436,000) ------------ ------------ Net cash (used in) provided by investing activities (71,000) 867,000 FINANCING ACTIVITIES Stock repurchase (372,000) (596,000) Payment of cash dividend (22,375,000) -- Capital contributed by minority owners of Innovation Growth Partners -- 500,000 Shares repurchased upon recapitalization -- (10,000) Proceeds from the exercise of stock options 1,481,000 149,000 ------------ ------------ Net cash (used in) provided by financing activities (21,266,000) 43,000 Net decrease in cash and cash equivalents (25,227,000) (2,197,000) Cash and cash equivalents at beginning of period 32,190,000 33,786,000 ------------ ------------ Cash and cash equivalents at end of period $ 6,963,000 $ 31,589,000 ============ ============ NON-CASH INVESTING AND FINANCING ACTIVITIES Goodwill resulting from the issuance of stock options to minority owners of PrivilegeONE $ 127,000 $ -- Conversion of CorVu and PrivilegeONE notes receivable into investments $ -- $ 338,000
The accompanying notes are an integral part of these financial statements. 6 CALTON, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY Nine Months Ended August 31, 2001 (Unaudited) (Amounts in thousands)
Accumu- lated- Other Total Common Stock Additional Compre- Share- Compre- -------------------- Paid In Retained Treasury hensive holders' hensive Shares Amount Capital Earnings Stock Loss Equity Loss -------- -------- ---------- -------- -------- ------- -------- ======== Balance, November 30, 2000 4,132 $ 207 $ 33,364 $ 9,055 $ (9,739) $ -- $ 32,887 $ -- Net Loss -- -- -- (3,668) -- -- (3,668) (3,668) Dividend declared -- -- (22,375) -- -- -- (22,375) -- Issuance of Stock upon exercise of stock options 447 22 1,459 -- -- -- 1,481 -- Stock options issued pursuant to acquisition of minority interest -- -- 127 -- -- -- 127 -- Stock options issued for services -- -- 367 -- -- -- 367 -- Less: Purchase of treasury stock (104) -- -- -- (372) -- (372) -- -------- Comprehensive Loss -- -- -- -- -- -- -- $ (3,668) -------- -------- -------- -------- -------- ---- -------- ======== Balance, August 31, 2001 4,475 $ 229 $ 12,942 $ 5,387 $(10,111) $ -- $ 8,447 ======== ======== ======== ======== ======== ==== ========
The accompanying notes are an integral part of these financial statements. 7 CALTON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 1. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and in accordance with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all 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 adjustments) considered necessary to summarize fairly the Company's financial position as of August 31, 2001, and the results of operations and cash flows for the three and nine months ended August 31, 2001 and August 31, 2000 have been included. These interim financial statements should be read in conjunction with the consolidated financial statements and related notes included in the Company's Annual Report on Form 10-K, as filed with the Securities and Exchange Commission on February 26, 2001. Operating results for the three and nine months ended August 31, 2001 are not necessarily indicative of the results that may be expected for the year ended November 30, 2001. Certain reclassifications have been made to prior years' financial statements in order to conform with the fiscal 2001 presentation. 2. ACCOUNTING POLICIES AND RECENT ACCOUNTING PRONOUNCEMENTS In July 2001 the Financial Accounting Standards Board issued SFAS No. 141 Business Combinations and SFAS No. 142 Goodwill and Other Intangible Assets. SFAS No. 141 requires business combinations initiated after June 30, 2001 to be accounted for using the purchase method of accounting and broadens the criteria for recording intangible assets separate from goodwill. SFAS No. 142 requires the use of a nonamortization approach to account for purchased goodwill and certain intangibles. Under a nonamortization approach, goodwill and certain intangibles will not be amortized into results of operations, but instead would be reviewed for impairment and written down and charged to results of operations only in the periods in which the recorded value of goodwill and certain intangibles is more than its fair value. The provisions of each statement, which apply to goodwill and intangible assets acquired prior to June 30, 2001, will be effective for the Company in fiscal 2003. Management does not expect these standards, when implemented, to have a material effect on its future results of operations or financial position. 3. ADDITIONAL COST METHOD INVESTMENT During June 2001, Innovation Growth Partners, LLC ("IGP") (formerly Innovation Technology Partners, LLC) borrowed $500,000 under the revolving promissory note with the Company (the "IGP" Note) and used the funds to acquire a 5% interest in Miresco Investment Services, Inc. ("Miresco"). Miresco designs, imports and sells high quality area rugs throughout the United States at large furniture stores, which are holding liquidation sales. The $500,000 investment is being used to help distribute their product directly to furniture stores, which is a new market for Miresco. The Company is accounting for this investment on the cost method basis. 8 4. ADDITIONAL EQUITY INVESTMENT In February 2001, the Company made an additional equity investment in PrivilegeONE Networks, LLC ("PrivilegeONE") which increased the Company's direct and indirect ownership to 75.4%. In May 2001, the Company acquired the remaining minority interest in PrivilegeONE, making it a wholly-owned subsidiary. Prior to these investments, the Company already held a controlling ownership percentage and, accordingly, fully consolidates PrivilegeONE's balance sheet, results of operations and cash flows with the consolidated financial statements of the Company. PrivilegeONE is in the process of developing a customer loyalty program for automobile dealers, which includes the PrivilegeONE co-branded visa card to be issued by Fleet Credit Card Services, L.P. ("Fleet"). As consideration for the remaining minority interest in PrivilegeONE, the Company granted options to purchase 200,000 shares of the Company's Common Stock at a price of $4.02 to the former minority owners of PrivilegeONE. The options were fully vested, become exercisable six months after the grant date, and have a term of five years. The Company applied the purchase method of accounting to record this acquisition of minority interest and recorded goodwill of $127,000, based on a Black-Scholes option pricing model, with the following assumptions: discount rate of 4.827%; volatility of 80%; option life of five years. In addition to the grant of the options, the terms of the purchase required the Company to make certain guarantees and commitments to Fleet, pursuant to the visa card agreement (see Note 9). 5. NET LOSS PER SHARE Basic net loss per share is computed by dividing net loss by the weighted average number of common shares outstanding during the period. Dilutive net loss per share is computed using the weighted average number of common shares outstanding during the period, plus the dilutive effect of common stock equivalents. Common stock equivalent shares consist of stock options and warrants. For the nine months ended August 31, 2001, options and warrants to purchase 692,200 shares of common stock were excluded from the calculation of loss per share, as their inclusion would be antidilutive. 6. SEGMENT REPORTING The Company accounts for reportable segments using the "management approach". The management approach focuses on disclosing financial information that the Company's management uses to make decisions about the Company's operating matters. As of August 31, 2001, the Company operates primarily in three business segments, as follows: eCalton.com, Inc. ("eCalton") is a wholly owned subsidiary of the Company. Revenues of eCalton are derived from designing Web pages and providing Internet strategy-consulting services. In addition, eCalton earns revenues by providing technical staffing to clients in the Houston, Texas area. A few large customers have accounted for a significant portion of eCalton's revenues. During the nine months ended August 31, 2001, revenues from four customers accounted for approximately 57% of total revenues from Web design and implementation, and technical staffing. As of August 31, 2001, two customers accounted for 34% of the trade receivables of eCalton. PrivilegeONE is a wholly owned subsidiary of the Company. PrivilegeONE was formed in 1999 to develop customer loyalty programs for automobile dealers, including the issuance of a co-branded credit card, which displays the name of the individual automobile dealership. At this time, 9 PrivilegeONE operations consist solely of start up activities, and its entire loss has been included in the Company's consolidated results of operations. The Company also provides corporate consulting services to the purchaser of Calton Homes, Inc., which was sold by the Company in December 1998. In addition, the Company owns a 51% interest in IGP, an entity established to provide management and consulting services to entrepreneurial and development stage companies, as well as acquiring controlling interests in certain entities that IGP consults with. Since the first quarter of fiscal 2001, the Company has recognized 100% of IGP's losses, as the Company is unable to pass these losses through to the IGP minority members. Because IGP's operations are currently similar to those of the Company's corporate activities, the results of operations for IGP, and IGP controlled companies, are included in the results of operations for the corporate and consulting services segment. As IGP controlled companies, such as MindSearch, become operational, the Company expects to consider segment reporting for these businesses. The Company has no foreign operations. Operating results, by segment, for the nine months ended August 31, 2001 and August 31, 2000 are as follows (in thousands):
Nine months ended August 31, 2001 ------------------------------------------------------------- Internet Loyalty Business and Corporate Solutions Credit and and Card Consulting Total Staffing Business Services Company -------- -------- ---------- ------- Total revenues $ 3,213 $ -- $ 1,069 $ 4,282 Total cost of revenues 1,955 -- -- 1,955 Depreciation and amortization 94 5 61 160 Loss from operations (1,083) (1,793) (1,883) (4,759) Interest income -- 1 1,002 1,003 Net loss (1,083) (1,793) (792) (3,668)
Nine months ended August 31, 2000 ------------------------------------------------------------- Internet Loyalty Business and Corporate Solutions Credit and and Card Consulting Total Staffing Business Services Company -------- -------- ---------- ------- Total revenues $ 1,155 $ -- $ 1,118 $ 2,273 Total cost of revenues 802 -- -- 802 Depreciation and amortization 70 3 30 103 Loss from operations (1,878) (1,095) (1,389) (4,362) Interest income -- -- 1,593 1,593 Loss on sale of securities -- -- (718) (718) Net loss (1,878) (1,095) (117) (3,090)
10 7. LIQUIDATING DIVIDEND On May 31, 2001, the Company's Board of Directors declared a liquidating dividend ("dividend") of $5.00 per share to all shareholders of record on June 20, 2001, payable on July 5, 2001. The total amount distributed pursuant to the dividend was approximately $22.4 million. The dividend has been characterized as a liquidating dividend, as it is considered a return of capital rather than a distribution of retained earnings. Consequently, the consolidated balance sheet and statement of shareholders' equity reflect a reduction of additional paid in capital, rather than a reduction of retained earnings. This dividend has reduced the Company's capacity for acquisitions, in terms of both the number of acquisitions the Company will be able to make, and the size of those acquisitions. 8. SHAREHOLDERS EQUITY In conjunction with the dividend, the Company's Board of Directors modified certain existing option grants so that the options became exercisable. However, the shares received upon the option exercise are subject to forfeiture restrictions until the remaining vesting period of the options is satisfied. Until these shares vest, if the employee is terminated or leaves the Company, the Company shall have the right to purchase from the employee the unvested shares at the average of the high and low sales prices of the Company's Common Stock on the American Stock Exchange on July 6, 2001, which was $1.20. Under the provisions of APB 25 and related interpretations, this modification had no accounting consequences. 9. COMMITMENTS AND CONTINGENT LIABILITIES As a result of the sale of the homebuilding business in December 1998, the Company is required to indemnify the purchaser for, among other things, certain liabilities that arise out of events occurring prior to the closing of the sale, including certain warranty claims. Arbitration of certain indemnity claims made by the purchaser was scheduled for March 2001, but has since been postponed to continue settlement negotiations. During May 2001, the Company and the purchaser resolved certain disputes, and the purchaser released to the Company approximately $1,034,000 from the Specific Indemnity Fund. During the three months ended August 31, 2001, the Company received $368,000 from insurance companies and other third parties who share in the responsibility for repairing certain homeowner claims. Additionally, during the nine months ended August 31, 2001, the Company paid warranty claims of approximately $627,000, which had been previously reserved for against the holdback receivable. At this time, the Company and purchaser are continuing discussions to settle the remaining unresolved warranty and other issues. In connection with the February 2001 acquisition of the remaining minority interest in PrivilegeONE (see Note 4), the Company agreed to make certain commitments and guarantees, as follows. In conjunction with the execution of a credit card processing agreement with Fleet Credit Card Services, L.P. ("Fleet"), the Company committed to Fleet that PrivilegeONE would be capitalized with no less than $500,000 for the original five year term of the agreement. The Company expects to maintain no more than the required minimum capitalization for PrivilegeONE. The Company also agreed to maintain a contingency reserve fund equal to three and one-half percent of all net revenues received by PrivilegeONE, in an amount not to exceed $1,500,000. At this time, PrivilegeONE has no revenues and, accordingly, the Company has not yet established a contingency reserve. Furthermore, the agreement requires the Company to reimburse Fleet for Fleet's software and other development costs to implement the program, in 11 an amount not to exceed $350,000. At this time, the Company has paid Fleet $221,000 for their software and development costs, pursuant to the visa card program. 10. SUBSEQUENT EVENTS During September 2001, the Company entered into an agreement with Automated Information Management, Inc. ("AIM") , whereby the Company advanced $750,000 to AIM in return for a convertible promissory note and a warrant. AIM is primarily engaged in the design, engineering, installation and maintenance of telecommunications infrastructure. AIM not only provides engineering and design services for telecommunication companies, but also provides mapping and information technology services to the industry. The note is mandatorily convertible into 1,000,000 shares of AIM common stock no later than five days after the Company is given notice that a proposed registration of these shares is declared effective by the Securities and Exchange Commission. In the event the registration of the shares is not completed by June 14, 2002, the Company can demand repayment in full, including interest at LIBOR plus 1%. The warrant is for 1,059,660 shares of AIM common stock, at an exercise price of $2.12 per share, exercisable at any time from the date of issuance through a term of three years. Upon certain terms and conditions, the Company may be required to distribute to the Company's shareholders some of the shares of AIM common stock that would be issued upon conversion of the promissory note. During September, 2001 the Company restructured its agreement with IGP, as follows: o Under the terms of the IGP Note, the Company advanced an additional $250,000 to be used specifically for funding IGP's additional investment in MindSearch, LLC ("MindSearch"). In addition, the minority partners of IGP raised $750,000 of third party capital to complete the funding necessary to launch the operations of MindSearch. At this time, the outstanding principal balance of the IGP Note is $1,325,000. o On December 1, 2001, the $1,325,000 outstanding principal balance of the IGP Note will be converted to a Class A membership interest in IGP. The Class A membership interest will entitle the Company to a preferred return equal to the lesser of prime rate plus one percent per annum, or ten percent per annum. In addition, the Company shall receive 75% of IGP's proceeds from investees until such time as the Class A membership interest has been repaid in full. o In addition, the Company advanced $1,100,000 to IGP in exchange for a Class B membership interest, and the minority members of IGP contributed an additional $300,000 in exchange for a Class B membership interest. The Class B membership interest is subordinate to the Class A membership interest. o The Company was released from any further obligation to advance funds under the IGP Note. 12 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS RESULTS OF OPERATIONS FOR THE THREE AND NINE MONTHS ENDED AUGUST 31, 2001 AND 2000 Revenues for the three months ended August 31, 2001 and August 31, 2000 were $1,328,000 and $1,064,000, respectively. Revenues for the nine months ended August 31, 2001 and August 31, 2000 were $4,282,000 and $2,273,000, respectively. The primary reason for the increase in fiscal 2001 compared to 2000, for both the quarter and nine months, was the revenue associated with the eCalton technical staffing division. For the quarter and nine months ended August 31, 2001, the eCalton technical staffing division generated revenues of $734,000 and $2,281,000, respectively. For both the quarter and nine months ended August 31, 2000, the eCalton technical staffing division generated revenues of $267,000, as the Company began operating this business during the quarter ended August 31, 2000. Project personnel and expenses for the three months ended August 31, 2001 and August 31, 2000 were $614,000 and $413,000, respectively. Project personnel and expenses for the nine months ended August 31, 2001 and August 31, 2000 were $1,955,000 and $802,000, respectively. The increase in 2001 for both the quarter and nine months is primarily attributable to operations of the eCalton technical staffing division, which did not commence operations until the quarter ended August 31, 2000. Selling, general and administrative costs for the three months ended August 31, 2001 and August 31, 2000 were $2,334,000 and $2,722,000, respectively. The primary reason for the decline in fiscal 2001 is due to a substantial reduction in the operating activities of the eCalton Web division. During the quarter ended August 31, 2000, this division was expanding its operations. However, this particular industry has experienced a sharp decline and, as a result, subsequent to the quarter ended August 31, 2000, the Company began restructuring the operations of the eCalton Web design division, which included, among other things, a reduction in personnel and operating expenses. However, these reduced operating expenses were partially offset by increased operating expenses of PrivilegeONE, which expanded its business activities during the quarter ended August 31, 2001. Selling, general and administrative costs for the nine months ended August 31, 2001 and August 31, 2000 were $7,086,000 and $5,833,000, respectively. The increase in 2001 for nine months is primarily from increased personnel and business activities at PrivilegeONE, the operations of IGP and IGP controlled companies, which did not exist until June 2000, increased professional fees, and a provision for uncollectible receivables in 2001. In addition, during the nine months ended August 31, 2001, the Company recorded a certain non-cash charge in the amount of $367,000 for stock options issued as consideration for consulting services, which is included in selling, general and administrative expenses. The Company expects selling, general and administrative expenses to increase significantly due to the launch of MindSearch and additional funding to IGP (see the section below "CASH FLOWS FROM INVESTING ACTIVITIES" for a more complete discussion of IGP and MindSearch). The increase in expenses is expected to occur beginning in the first quarter of fiscal 2002. Interest income for both the quarter and nine months ended August 31, 2001 has experienced a sharp decline compared to fiscal 2000 due to smaller cash balances during 2001, and a decline in 13 short term interest rates. Interest income will decline significantly during the remainder of 2001, and thereafter, due to the payment in July 2001 of the dividend discussed in Note 7. During the quarter ended August 31, 2000, the Company recorded a charge of $210,000 related to the write off of certain non-marketable securities. For the nine months ended August 31, 2000, the Company recorded a loss on disposition of securities in the amount of $718,000, comprised of the $210,000 write off of certain non-marketable securities and a loss of $508,000 on the sale of available-for-sale securities. There were no such losses in the corresponding periods of 2001. Through August 31, 2001, the Company recognized a minority interest related to the operating losses of IGP. As of August 31, 2001, there is no remaining minority interest related to IGP which will be reflected on the Company's consolidated financial statements, and all future losses of IGP will be absorbed in their entirety by the Company, unless additional cash contributions are made by the minority owners. LIQUIDITY AND CAPITAL RESOURCES As a result of the dividend distributed to shareholders during the quarter ended August 31, 2001 (see Note 7), the Company's cash position has been diminished significantly. In addition, the September 2001 transaction with Automated Information Management, Inc. ("AIM") and the September 2001 restructuring of the IGP agreement, have resulted in even further reductions of the Company's available cash (see the section below titled "OTHER INFORMATION" for a more complete description of these transactions). Consequently, the Company's ability to fund additional ventures has been reduced significantly. During the quarter ended August 31, 2001, the Company applied for a federal income tax refund in the amount of $362,000, resulting from the carryback of certain losses to years in which the Company incurred income taxes. The Company believes that the current cash on hand, interest income, and funds provided under the consulting agreement with the purchaser of Calton Homes, which provides for additional payments of $650,000 through December 31, 2001, will provide sufficient capital to support the Company's operations throughout the remainder of fiscal 2001. It is anticipated that the Company's cash flow from its operations, combined with the operations of eCalton, PrivilegeONE and IGP and IGP controlled companies, will continue to utilize cash until, if ever, those operations execute the strategies identified in their business plans. If the Company's subsidiaries do not achieve success in executing their business plans in the near future, the Company may be required to curtail certain operating activities or seek additional capital to fund operations. No assurance can be given that additional capital will be available, if required, to sustain operations. CASH FLOWS FROM INVESTING ACTIVITIES During the nine months ended August 31, 2001, the Company received $1,034,000 from the specific holdback fund established in connection with the sale of Calton Homes, Inc. In addition, the Company received another $368,000 from insurance companies and other third parties who share in the responsibility for claims related to repairing certain homes. However, approximately $627,000 of the proceeds were disbursed to settle matters with certain homeowners. During the 14 nine months ended August 31, 2000, the Company received approximately $1,062,000 from the general holdback fund. During June 2001, IGP borrowed $500,000 under the Revolving Promissory Note issued by it to the Company in June 2000 (the "IGP Note") and used the funds to acquire a 5% interest in Miresco Investment Services, Inc. ("Miresco"). Miresco designs, imports and sells high quality area rugs throughout the United States at large furniture stores, which are holding liquidation sales. Miresco's long-range business plan calls for developing "virtual" rug stores through the use of kiosks at furniture stores throughout the United States. The kiosks will allow the furniture stores to have access to rug inventories worth millions of dollars without expending the capital to carry these inventories. The $500,000 investment is being used to help distribute their product directly to furniture stores, which is a new market for Miresco. The Company's expenditures for property and equipment were $346,000 for the nine months ended August 31, 2001, compared to $436,000 for the nine months ended August 31, 2000. Capital expenditures for the remainder of the current year are expected to be similar to last year. CASH FLOWS FROM FINANCING ACTIVITIES During the nine months ended August 31, 2001, the Company repurchased 104,000 shares of its Common Stock for $372,000, compared to the repurchase of 111,000 shares for $596,000 during the nine months ended August 31, 2000. On May 31, 2001, the Company's Board of Directors declared a liquidating dividend ("dividend") of $5.00 per share to all shareholders of record on June 20, 2001, payable on July 5, 2001. The total amount distributed pursuant to the dividend was approximately $22.4 million. This dividend has reduced the Company's capacity for acquisitions, in terms of both the number of acquisitions the Company will be able to make, if any, and the size of those acquisitions. During the nine months ended August 31, 2001, certain optionholders exercised their options to purchase Common Stock from the Company, generating proceeds of $1,481,000, compared to $149,000 for the nine months ended August 31, 2000. The primary reason for the increase in 2001 was that the majority of the options outstanding prior to the $5.00 dividend distributed on July 5, 2001 (see Note 7) had an exercise price of less than $5.00. Accordingly, these optionees exercised their options in anticipation of receiving the dividend. OTHER INFORMATION During September 2001, the Company entered into an agreement with AIM, whereby the Company advanced $750,000 to AIM in return for a convertible promissory note and a warrant. AIM is primarily engaged in the design, engineering, installation and maintenance of telecommunications infrastructure. AIM not only provides engineering and design services for telecommunication companies, but also provides mapping and information technology services to the industry. The note is mandatorily convertible into 1,000,000 shares of AIM common stock no later than five days after the Company is given notice that a proposed registration of these shares is declared effective. In the event the registration of the shares is not completed by June 14, 2002, the Company can demand repayment in full including interest at LIBOR plus 1%. The warrant is for 1,059,660 shares of AIM common stock, at an exercise price of $2.12 per share, exercisable at any time from the date of issuance through a term of three years. Upon certain terms and conditions, the Company 15 may be required to distribute to the Company's shareholders, some of the shares of AIM common stock that would be issued upon conversion of the promissory note. During September, 2001, the Company restructured its agreement with IGP, as follows: o Under the terms of the IGP Note, the Company advanced an additional $250,000 to be used specifically for funding IGP's additional investment in MindSearch. In addition, the minority partners of IGP raised $750,000 of third party capital to complete the funding necessary to launch the operations of MindSearch. At this time, the outstanding principal balance of the IGP Note is $1,325,000. o On December 1, 2001, the $1,325,000 outstanding principal balance of the IGP Note will be converted to a Class A membership interest in IGP. The Class A membership interest will entitle the Company to a preferred return equal to the lesser of prime rate plus one percent per annum, or ten percent per annum. In addition, the Company shall receive 75% of IGP's proceeds from investees until such time as the Class A membership interest has been repaid in full. o In addition, the Company advanced $1,100,000 to IGP in exchange for a Class B membership interest, and the minority members of IGP contributed an additional $300,000 in exchange for a Class B membership interest. The Class B membership interest is subordinate to the Class A membership interest. o The Company was released from any further obligation to advance funds under the IGP Note. RECENT ACCOUNTING PRONOUNCEMENTS In July 2001, the Financial Accounting Standards Board issued SFAS No. 141 Business Combinations and SFAS No. 142 Goodwill and Other Intangible Assets. SFAS No. 141 requires business combinations initiated after June 30, 2001 to be accounted for using the purchase method of accounting and broadens the criteria for recording intangible assets separate from goodwill. SFAS No. 142 requires the use of a nonamortization approach to account for purchased goodwill and certain intangibles. Under a nonamortization approach, goodwill and certain intangibles will not be amortized into results of operations, but instead would be reviewed for impairment and written down and charged to results of operations only in the periods in which the recorded value of goodwill and certain intangibles is more than its fair value. The provisions of each statement, which apply to goodwill and intangible assets acquired prior to June 30, 2001, will be effective for the Company in fiscal 2003. Management does not expect these standards, when implemented, to have a material effect on its future results of operations or financial position. FACTORS AFFECTING CALTON, INC.'S OPERATING RESULTS, BUSINESS PROSPECTS AND MARKET PRICE OF STOCK In December 1998, the Company sold its primary operating subsidiary, Calton Homes, Inc., which was engaged in residential homebuilding. Since that date, the Company has a limited operating history upon which it may be evaluated. The Company and its subsidiaries are in the early stages of developing their respective businesses, and some of the subsidiaries are among the many companies that have entered into the market that relies on conducting some portion of their business over the Internet. The Company's business and prospects must be considered in light of the risk, expense and difficulties frequently encountered by companies in early stages of development, particularly companies in new and rapidly evolving markets. If the Company is unable to effectively allocate its resources and develop the business of those subsidiaries, the Company's stock price may be 16 adversely affected and it may be unable to execute its strategy of developing and operating its subsidiaries. The Company's stock price has been volatile in the past and may continue to be volatile in the future. Stock prices of companies engaged in start-up and technology related businesses have generally been volatile as well. This volatility may continue in the future. The following factors, among others, may add to the volatility of the Company's stock price: o the payment of the dividend discussed in Note 7 to these consolidated financial statements; o the initiation of a tender offer for all or a portion of the Company's common stock; o actual or anticipated variations in the quarterly results of the Company and its subsidiaries; o changes in the market valuations of the Company's subsidiaries, and valuations of competitors or similar businesses; o conditions or trends in the Internet or technology industries in general; o the public's perception of the prospects of early stage ventures; o changes in the size, form or rate of the Company's acquisitions, if any; o new products or services offered by the Company, its subsidiaries and their competitors; o the Company's capital and other commitments (see Note 9); o additions to, or departures of, the key personnel of the Company or its subsidiaries; o the current international unrest in the market place as a result of the terrorist attacks in Washington and New York; and o general economic conditions such as a recession, or interest rate fluctuations. Many of these factors are beyond the Company's control. These factors may decrease the market price of the Company's Common Stock, regardless of the Company's operating performance. The Company's business depends upon the performance of its subsidiaries, which is uncertain. The Company's Internet business solutions subsidiary, eCalton, has incurred operating losses from inception, and no assurance can be given that it will become profitable in the future. If PrivilegeONE is not successful in marketing its co-branded credit card program to automobile dealers and consumers, it will not be able to execute its business plan. If IGP is unable to develop new businesses, or if IGP is unable to attract new fee based clients it will be unable to execute its business plan. In addition, if IGP is unable to secure third party financing for its ventures, it will be unable to execute its business plan. If MindSearch is unable induce consumers to participate in surveys, market the data gathered through its market research technology, or successfully deploy and operate its kiosks, it will be unable to execute its business plan. Economic, governmental, industry and internal factors outside the Company's control may affect each of its subsidiaries. If the business plans of the Company's subsidiaries do not succeed, the value of the Company's assets and the price of its Common Stock will decline. Other material risks relating to the Company's subsidiaries include: o demand for the products and services of some of the subsidiaries depends on widespread use of the Internet; o intensifying competition affecting the products and services the subsidiaries offer, which could lead to the failure of the subsidiaries; o inability to adapt to the rapidly changing marketplace; o the subsidiaries are in the early stages of their development with limited operating history, minimal revenue, substantial losses and limited capital resources; o unless the Company funds its subsidiaries, the subsidiaries may not have alternative funding sources; 17 o interrupted operation of the computer and communications hardware systems of the subsidiaries; o the inability to attract and maintain qualified personnel; and o inability to manage growth. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company currently has no outstanding indebtedness other than the guarantees disclosed in Note 9 and accounts payable. As a result, the Company's exposure to market rate risk relating to interest rates is not material. The Company's funds are invested primarily in highly liquid money market funds with its underlying investments comprised of investment-grade, short-term corporate issues currently yielding approximately 2.94%. The Company does not believe that it is currently exposed to market risk relating to foreign currency exchange risk or commodity price risk. However, a substantial part of the Company's cash equivalents are not FDIC insured or bank guaranteed. 18 PART II. OTHER INFORMATION ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K A) Exhibits Amendment No. 1 to the Operating Agreement of Innovation Growth Partners, LLC (formerly Innovation Technology Partners) B) Reports on Form 8-K None 19 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. Calton, Inc. ----------------------------------------- (Registrant) By: /s/ Kelly S. McMakin ------------------------------------- Kelly S. McMakin Senior Vice President and Chief Financial Officer Date: October 12, 2001 20 EX-1 3 g72117ex1.txt CALTON-A#1 TO OPERATING AGREEMENT-INNOVATION AMENDMENT NO. 1 TO OPERATING AGREEMENT OF INNOVATION GROWTH PARTNERS, L.L.C. (FORMERLY, INNOVATION TECHNOLOGY PARTNERS, L.L.C.) This Amendment No. 1 to Operating Agreement of Innovation Growth Partners, L.L.C. (formerly Innovation Technology Partners, L.L.C.) dated as of September 7, 2001 among Calton, Inc., a New Jersey corporation ("Calton"), WHTP, LLC, a Delaware limited liability company ("WHTP") and Richard Dole, an individual residing in Texas ("Dole"). WHEREAS, the parties hereto have entered into that certain Operating Agreement dated as of June 19, 2000 (the "Operating Agreement"); WHEREAS, Innovation Growth Partners, L.L.C. (the "Company") requires additional capital to pursue its business plan and conduct its operations; WHEREAS, the parties hereto wish to amend certain provisions of the Operating Agreement; NOW, THEREFORE, the parties hereto, in consideration of the mutual covenants and premises contained herein, hereby agree as follows: 1. Defined Terms. Capitalized terms not otherwise defined herein shall have the meanings ascribed in the Operating Agreement. 2. Admission of New Members; Additional Capital Contributions. Calton, WHTP and Dole hereby consent to the admission of James H. West ("West") and Huttner Partnership 1999 LTD ($24,000) and SEP FBO Frederick A. Huttner ($75,000) ("Huttner") as Members. By execution of this Amendment No. 1 to Operating Agreement (the "Amendment"), West and Huttner agree to be bound by the terms of the Operating Agreement and this Amendment. Contemporaneous with the execution of this Amendment, the Members shall make the following additional Capital Contributions to the Company in cash: Calton - $1,100,000 Dole - $ 100,000 West - $ 100,000 Huttner - $ 100,000
The Members will be issued Class B Membership Interests in consideration for the additional Capital Contributions described above. 3. Additional Loan; Conversion of Indebtedness. Subject to the conditions set forth in Section 4 below, Calton agrees to make an advance of $250,000 under the Revolving Promissory Note issued by the Company to Calton dated June 19, 2000 (the "Note"). After giving effect to the $250,000 advance, the parties hereto acknowledge that there will be $1,325,000 aggregate principal amount outstanding under the Note which, effective December 1, 2001, shall be immediately and automatically converted to a Class A Membership Interest in the Company. Upon such conversion, the Company shall pay to Calton all accrued and unpaid interest under the Note and the Note and all obligations to advance or repay funds under the Note shall be cancelled. 4. MindSearch Investment. Calton will make the additional $250,000 advance upon the delivery to it by September 15, 2001 of documents, in a form reasonably satisfactory to it, which evidence: (a) A third party investment in MindSearch Limited Partnership and MindSearch Management, LLC (collectively, "MindSearch") of not less than $750,000 (the "Third Party Investment") on terms no more favorable to the third party investor than the terms being provided to the Company with respect to its proposed $250,000 investment in MindSearch (the "MindSearch Investment"). (b) The Company owning not less than a 35% equity interest in MindSearch (on a fully diluted basis) upon completion of the MindSearch Investment and the Third Party Investment. (c) MindSearch's agreement that if MindSearch raises more than $750,000 from the Third Party Investment or future third party funding transactions, the Company's ownership interest in MindSearch will not be diluted below 26% (on a fully diluted basis) and the Company will remain the largest single equity owner, on a percentage basis, of MindSearch. The Huttner Members hereby represent and warrant that (i) the MindSearch Ownership Chart annexed hereto as Schedule I is accurate and complete, (ii) except as set forth on Schedule II hereto there are no outstanding convertible securities, options, rights or warrants to acquire any ownership interests in any of MindSearch, MindSearch, Inc., MindSearch Limited Partners, LLC or MindSearch Management LLC. The Huttner Members hereby agree and covenant that they shall take no action nor permit the taking of any action which would dilute the aggregate direct and indirect ownership of the Company in MindSearch, MindSearch, Inc., MindSearch Limited Partners, LLC or MindSearch Management LLC below 26% on a fully diluted basis without the written consent of Calton, Inc. 5. Amendment of Employment Agreements. Contemporaneous with the execution of this Amendment No. 1 to Operating Agreement, the Company will enter into an Amendment to Employment Agreement with each of Richard Dole, Frederick Huttner and James West in the form annexed hereto as Exhibit A (each an "Employment Agreement Amendment"). 2 6. Amendment of Warrants. Contemporaneous with the execution of this Amendment No. 1, the Company shall execute and deliver an Amended and Restated Warrant to each of Richard Dole, Frederick A. Huttner and James West in the form annexed hereto as Exhibit B. 7. Additional Definitions. The following definitions are hereby added to Section I of the Operating Agreement: (a) "Bonus Amount" means $150,000. (b) "Bonus Return" means an amount equal to the lesser of (a) the Prime Rate plus one percent (1%) per annum or (b) ten percent (10%) per annum, calculated on a calendar year basis, for the actual number of days for which the Bonus Return is being determined, of the unpaid Bonus Amount, cumulative but not compounded, commencing on the date that each holder of a Class B Membership Interest has received (i) distributions pursuant to Section 4.1(c) in an amount equal to such Members' Undistributed Class B Return and (ii) distributions pursuant to Section 4.1(d) in an amount equal to the Members' Class B Invested Capital. (c) "Cash Receipts" means the sum of cash receipts of the Company from all sources, including, without limitation, all cash funds derived from operations of the Company, including dividends and distributions received by the Company from entities in which the Company has made investments and the proceeds from the sale, transfer or other disposition of a security or an interest in any entity in which the Company has made an investment, or insurance proceeds derived from the destruction of assets used in the trade or business of the Company, but excluding Capital Contributions, loans made to the Company, cash receipts from expense reimbursements, interest and fifty percent (50%) of any cash advisory fees received by the Company. (d) "Change of Control" means (i) a merger or consolidation of Calton, Inc. into another corporation or a merger of another corporation with or into Calton, Inc.; or (ii) a sale by Calton, Inc. of all or substantially all of its assets, which, in the case of either (i) or (ii) above results in the shareholders of Calton, Inc. (as they existed immediately prior to the effectiveness of the merger, consolidation or sale) owning less than 50% of the surviving entity or new corporation or entity that has acquired all or substantially all of Calton, Inc.'s assets after the effectiveness thereof; or (iii) a reorganization of Calton, Inc., which results in either Calton, Inc. becoming a subsidiary of another corporation or Calton, Inc. not being the surviving entity (other than a merger, consolidation (a) with a wholly owned subsidiary of Calton, Inc.; (b) to effect a change in domicile; or (c) of Calton, Inc. into a corporation that does not result in the shareholders of Calton, Inc., as they existed immediately prior to the effectiveness of such merger or consolidation, owning less than 50% of the surviving corporation); (iv) the acquisition by any person, entity or group of persons or entities acting in concert (other than Anthony J. Caldarone, an entity controlled by Anthony J. Caldarone or a group in which 3 Anthony J. Caldarone or any entity controlled by Anthony J. Caldarone is a part) of 50% or more of Calton, Inc.'s issued and outstanding voting securities. (e) "Class A Invested Capital" means the aggregate principal amount of indebtedness which was converted to a Capital Contribution by Calton, Inc. pursuant to Section 3, reduced by any distributions previously made to Calton Inc. pursuant to Section 4.1(b) of the Operating Agreement. (f) "Class A Membership Interest" means the Interest issued to Calton, Inc. in consideration of the conversion of the indebtedness owed to it pursuant to Section 3 of this Amendment. (g) "Class A Return" means an amount equal to the lesser of (a) the Prime Rate plus one percent (1%) per annum or (b) ten percent (10%) per annum, calculated on a calendar year basis, for the actual number of days for which the Class A Return is being determined, of the Class A Invested Capital, cumulative but not compounded, commencing on the date that the date that the indebtedness owed to Calton, Inc. was converted to a Class A Membership Interest. (h) "Class B Invested Capital" means, with respect to each Member, the Capital Contribution made by such Member pursuant to Section 2, reduced by any distributions previously made to such Member pursuant to Section 4.1(d) of the Operating Agreement. (i) "Class B Membership Interest" means an Interest issued to a Member in consideration of the Capital Contribution made by such Member pursuant to Section 2 of this Amendment. (j) "Class B Return" means an amount equal to the lesser of (a) the Prime Rate plus one percent (1%) per annum or (b) ten percent (10%) per annum, calculated on a calendar year basis, for the actual number of days for which the Class B Return is being determined, of the Class B Invested Capital of each of the Members, cumulative but not compounded, commencing on the date that the Member's Capital Contribution pursuant to Section 2 of this Amendment was made. (k) "Deadlock" means a situation in which the vote of the Board of Managers is required on any matter, and there are neither sufficient votes to approve nor disapprove the matter. (l) "Prime Rate" means the prime rate as published in the "Money Rates" column of the Wall Street Journal, as adjusted monthly based upon the last Prime Rate published for each month. (m) "Undistributed Class A Return" means an amount equal to the Class A Return accrued for periods to the date the Undistributed Class A Return is being determined, less all distribution made to the holder of the Class A Membership Interest pursuant to the first sentence of Section 4.1 and Section 4.1(a). 4 (n) "Undistributed Class B Return" means an amount equal to the Class B Return of each Member accrued for all periods to the date the Class B Return is being determined, less all distributions made to such Member pursuant to Section 4.1(c). (o) "Unpaid Bonus Return" means an amount equal to the Bonus Return of each of Richard Dole, James West and Frederick Huttner accrued for all periods to the date the Bonus Return is being determined, less all payments made, to such individual pursuant to Section 4.1(e). (p) "Working Capital" means, as of any date, the excess of the Company's current assets over current liabilities, as determined in accordance with GAAP. 8. Cash Flow. Section 4.1 of the Operating Agreement is hereby amended and restated to read in its entirety as follows: "4.1 Distribution of Cash Flow. The Company shall, within fifteen (15) days of the first day of each calendar quarter, distribute to Calton, Inc. an amount equal to its Undistributed Class A Return as calculated through the last day of the prior calendar quarter. The first such distribution shall be calculated as of December 31, 2001 and paid no later than January 15, 2002. In addition, if and to the extent that the Company is earning income which will result in a Member being subject to income tax for income not distributed by the Company but deemed to have been received by the Member for federal or state tax purposes, a minimum distribution shall be made to the Members in such an amount and at such time (but in no event later than seventy-five (75) days after the end of the Company's taxable year) as shall be sufficient to enable each Member to meet the income tax liability arising or incurred as a result of participation in the Company. Further, in the event that the Company receives Cash Receipts, or the Board of Managers determines that there is Cash Flow available for distribution, the Company, subject to Section 4.2 below, shall reserve 25% of any Cash Receipts for working capital purposes and then make cash distributions as follows: (a) First, to Calton, Inc. until Calton, Inc. has received distributions pursuant to this Section 4.1(a) in an amount equal to its Undistributed Class A Return; (b) Next to Calton, Inc. until Calton, Inc. has received distributions pursuant to this Section 4.1(b) in an amount equal to its Class A Invested Capital; (c) Next, to the Members pro rata in proportion to their respective Undistributed Class B Returns until each Member has received distributions pursuant to this Section 4.1(c) in an amount equal to its Undistributed Class B Return; (d) Next to the Members until each Member has received distributions pursuant to this Section 4.1(d) in an amount equal to its Class B Invested Capital; 5 (e) Next, to each of Richard Dole, James West and Frederick Huttner on a pro rata basis in an amount equal to their respective Undistributed Bonus Returns; provided, however, that no such distribution shall be made (i) if the Company, immediately prior to such distribution, does not have Working Capital of at least $500,000 and (ii) no such distribution shall be made to an individual who has forfeited his right to the Bonus Amount pursuant to the terms of his Employment Agreement Amendment; (f) Next to each of Richard Dole, James West and Frederick Huttner on a pro rata basis until each of such individuals has received the Bonus Amount; provided, however, that no such distribution shall be made (i) if the Company, immediately prior to such distribution, does not have Working Capital of at least $500,000 and (ii) no such distribution shall be made to an individual who has forfeited his right to the Bonus Amount pursuant to the terms of his Employment Agreement Amendment; (g) Next, to the Unit Holders in proportion to their Adjusted Capital Contributions, until their remaining Adjusted Capital Contributions have been paid in full; (h) Then, the balance to Unit Holders in accordance with their respective Percentages." Distribution of Cash Receipts by the Company shall be made by the Company within five (5) business days of the receipt of the Cash Receipts by the Company. 9. Adjustment of Cash Distributions. Section 4.2 of the Operating Agreement is hereby amended to read in its entirety as follows: "4.2 Adjustment of Distributions. Notwithstanding anything to the contrary set forth in Section 4.1, if Calton, Inc. has not received distributions in an amount equal to the amount of its entire Undistributed Class A Return and its Class A Invested Capital by June 16, 2004, Calton, Inc. shall be entitled to receive 100% of the Company's Cash Receipts (without any retention of funds by the Company for working capital needs) until such time as it has received it entire Undistributed Class A Return and its Class A Invested Capital. After receipt of said amounts by Calton, Inc., Section 4.1 shall again become controlling." 10. Adjustment of Profit and Loss Allocations. Section 4.3 of the Operating Agreement is hereby amended and restated to read in its entirety as follows: "4.3 Allocation of Profits and Losses. 4.3.1 Profits. After giving effect to the special allocations set forth in Section 4.4, Profits shall be allocated to the Members as follows: 4.3.1.1 First, until the Undistributed Class A Return is reduced to zero, to the holder of the Class A Membership Interest an amount equal to 6 the excess of the distributions previously and currently made pursuant to the first sentence of Section 4.1 and Section 4.1(a) over allocations previously made under this Section 4.3.1.1. 4.3.1.2 Second, after giving effect to the allocations made pursuant to Section 4.3.1.1, to the holder of the Class A Membership Interest as necessary to cause the Class A Membership Interest Capital Account to at least equal the sum of (i) the Undistributed Class A Return plus (ii) the Class A Invested Capital. 4.3.1.3 Third, until the Undistributed Class B Return is reduced to zero, to the holders of the Class B Membership Interests in an amount equal to the excess of the distributions previously and currently made under Section 4.1(c) over allocations previously made under this Section 4.3.1.3. 4.3.1.4 Fourth, after giving effect to allocations made under Section 4.3.1.3, to the holders of the Class B Membership Interests as necessary to cause the portion of the Class B Membership Capital Account of each Member to at least equal the sum of (i) the Undistributed Class B Return plus (ii) the Class B Invested Capital. 4.3.1.5 Fifth, to Members with Negative Capital Accounts in proportion to the ratio of the Negative Capital Account balances until no Member has a Negative Capital Account balance. 4.3.1.6 Sixth, after giving effect to the allocations made above, to those Unit Holders whose Adjusted Capital Contributions are in excess of their Capital Accounts in accordance with the ratio of those excesses until all excesses have been eliminated to cause each Unit Holder's Capital Account balance to be in proportion to the Unit Holder's then respective Percentage. 4.3.1.7 Seventh, all other profits among the Unit Holders in proportion to their then respective Percentages. 4.3.2 Losses. After giving effect to the special allocations set forth in Section 4.4, Losses shall be allocated to the Members as follows: 4.3.2.1 First, to the holder of the Class A Membership Interest as necessary to cause its Class A Capital Account balance to equal the sum of (i) the Undistributed Class A Return and (ii) the Class A Invested Capital. 4.3.2.2 Second, to the holder of the Class A Membership Interest as necessary to cause the Class A Capital Account balance, determined after adjusting the Class A Capital Account for the allocations made pursuant to Section 4.3.2.1, to equal the Class A Undistributed Class A Return. 7 4.3.2.3 Third, to the holders of the Class B Membership Interests as necessary to cause each such holder's Class B Capital Account balance to equal the sum of (i) the holder's Undistributed Class B Return and (ii) the holder's Class B Invested Capital. 4.3.2.4 Fourth, to the holders of the Class B Membership Interests as necessary to cause each such holder's Class B Capital Account balance to equal the holder's Undistributed Class B Return. 4.3.2.5 Fifth, as necessary to cause each Member's Capital Account balance, determined after adjusting the Members' Capital Accounts for the allocations made pursuant to Sections 4.3.2.1 through 4.3.2.4, to equal zero. 4.3.2.6 Sixth, among the Unit Holders in proportion to their respective Percentages. 11. Adjustment of Board. Section 5.1 of the Operating Agreement is hereby amended to read in its entirety as follows: "5.1 Management. 5.1.1. Board of Managers. Subject to the Act or this Agreement, the powers of the Company shall be exercised by or under the authority of, and the business and affairs of the Company shall be managed by, the Board of Managers who shall be responsible for the management and operations of the Company and shall have all powers necessary to manage and control the Company, to conduct its business, and to implement any decision of the Members adopted pursuant to this Agreement. The initial Board of Managers shall consist of four (4) Representatives, two (2) of whom shall be appointed by the Huttner Members (the "Initial Huttner Designees") and two (2) of whom shall be appointed by Calton, Inc. (the "Initial Calton Designees"). In the event of a Deadlock, Calton, Inc. shall be entitled to appoint one (1) additional Representative (the "Second Calton, Inc. Designee") who shall not be (i) an officer, employee or director of Calton, Inc., (ii) any individual that has a material relationship with Calton, Inc. or (iii) an individual that is related by blood or marriage to any officer, employee or director of Calton, Inc.; provided, however, that the Second Calton Inc. Designee shall not become a Representative unless the choice of the Designee is approved by one (1) of the Initial Huttner Representatives (which approval shall not be unreasonably withheld). If Calton, Inc. and the Initial Huttner Representatives are not able to agree upon the Second Calton, Inc. Designee within thirty days of notice by Calton, Inc. to the Initial Huttner Members of the proposed Second Calton, Inc. Designee, then either Calton, Inc. or the Initial Huttner Designees may submit the matter which is the subject of a Deadlock to the American Arbitration Association for arbitration under the commercial arbitration rules of that institution. The arbitration will be conducted in Houston, Texas and the finding of the arbitrators will be binding on all parties for all purposes. Each party will bear its own 8 expenses of any such arbitration; provided, however, that at any time following the issuance of the final arbitration ruling, the party prevailing in said proceeding may, at its election and at the expense of the non-prevailing provide for the entry of the award for enforcement purposes in any court of competent jurisdiction. The number of Representatives constituting the Board of Managers may be increased or decreased from time to time by unanimous approval of the Members. Representatives shall be elected by the Members as provided in this Section 5.1.1 and Section 5.2.1, and each Representative so elected shall hold office until his successor is duly elected and qualified or until his or her earlier death resignation, or removal. Any Representative may resign at any time upon notice to the Company or may be removed with or without cause, by the Member(s) having appointed such Representative in accordance with this Section V. A Representative need not be an employee of a Member or a resident of the State of Delaware. Subject to the powers of removal and replacement set forth above in this Section 5.1, the Huttner Members hereby appoint Richard Dole and Frederick A. Huttner as their initial Representatives and Calton Inc. hereby appoints Anthony J. Calderone and Robert E. Naughton as its initial Representatives." 12. Class A and Class B Voting. The following Section 5.2.6 is hereby added to the Operating Agreement: "5.2.6 The Class A Membership Interests and the Class B Membership Interests shall not entitle the holders thereof to any voting rights." 13. Major Decisions. The following Section 5.2.7 is hereby added to the Operating Agreement: "5.2.7 Notwithstanding anything to the contrary set forth in this Agreement the approval of Unit Holders holding 65% or more of the outstanding Units shall be required before any of the following acts involving the Company may be undertaken: (a) any determination to call for any additional Capital Contribution, or any authorization, issuance or creation of, or increase of any Membership Rights or other interests in the Company; (b) transferring all or substantially all of the assets of the Company; (c) any merger, consolidation or other business combination with respect to the Company or the liquidation or dissolution of the Company or the adoption of any plan with respect to any such liquidation or dissolution; (d) the Company making an assignment for the benefit of creditors, filing a voluntary petition in bankruptcy, filing a petition or answer seeking for itself any reorganization, arrangement, composition, readjustment, liquidation, dissolution or similar relief under any statute, law or regulation, or seeking, consenting to or acquiescing in the appointment by a court of a trustee, receiver or liquidator of the Company or all or any substantial part of its assets; 9 (e) submitting any application for the entry of a decree of judicial dissolution of the Company under the Act; (f) amendment of this Agreement; (g) borrowing any principal amount in excess of U.S. $50,000, incurring any contingent liability whatsoever in excess of U.S. $50,000, lending or guarantying any third party indebtedness, it being understood that such limitation shall not be a limitation on the amount or type of trade payables that may be incurred in the ordinary course of business consistent in all respects with past practices by the Company. In the event that a vote shall be taken on a matter specified in paragraphs (a) through (g) above, the Units held by WHTP, LLC ("WHTP) shall be voted in accordance with the instructions of the holders of units in WHTP in accordance with their respective percentage ownership interests in WHTP, so that, for example, some Units owned by WHTP may be voted in favor of a matter and other Units owned by WHTP may be voted against such matter. Contemporaneous with the execution of this Amendment No. 1 to Operating Agreement, WHTP, West, Huttner, Dole and Ed Powell, being all of the members of WHTP, shall execute a document in a form reasonably satisfactory to Calton, Inc. acknowledging and confirming the voting arrangement described above." 14. Change of Control of Calton. The following is hereby added as Section 6.6 of the operating Agreement: "6.6 Calton, Inc. Change of Control. In the event of a Change of Control of Calton, Inc., Calton, Inc. shall, within ten (10) days of the Change of Control, notify the other Members of such occurrence in writing (the "Change of Control Notice") and the other Members shall have the right to purchase all, but not less than all, of the Class A Membership Interest, Class B Membership Interest and Units then held by Calton, Inc. This purchase right will expire forty five (45) days after the delivery of the Change of Control Notice. The purchase price for such Interests and Units shall be equal to the sum of (i) Calton, Inc.'s Undistributed Class A Return, (ii) Calton, Inc.'s Class A Invested Capital, (iii) Calton, Inc.'s Undistributed Class B Return, (iv) Calton, Inc.'s Class B Invested Capital and (v) the appraised value of the Units held by Calton, Inc., as determined through the appraisal procedure set forth in Section 6.5 of the Operating Agreement. The percentage of the Class A Membership Interest and the Class B Membership Interests and the number of Units which may be purchased by the other Unit Holders shall be determined using procedures substantially similar to those set forth in Sections 6.1.4.2 through 6.1.4.4. The closing of any purchase under this Section 6.6 shall take place within forty-five (45) days after delivery of the Change of Control Notice." 15. Elimination of Audit Requirement. 10 (a) The last sentence of Section 8.3 of the Operating Agreement is hereby amended to read in its entirety as follows: "The Company's independent auditors, if any, shall be selected by the Board of Managers." (b) Section 8.4.1 of the Operating Agreement is hereby amended to read in its entirety as follows: "8.4.1. Annual Reports. The Company shall cause to be delivered to each Member, within 30 days after the end of each fiscal year, an annual report containing a balance sheet as of the end of the Company's fiscal year and statements of income, Member's equity and cash flows for the year then ended, each of which may be unaudited but which shall be certified by an officer of the Company as fairly presenting the financial position of the Company at the end of such fiscal year and results of operations of the Company for such year and as having been prepared in accordance with the accounting methods followed by the Company for federal income tax purposes and otherwise in accordance with GAAP. The Company shall prepare its financial statements and keep its records so as to facilitate the audit of Calton, Inc. on a consolidated basis. 16. Conflicts. The parties hereto agree that this Amendment No. 1 to Operating Agreement amends, supplements and supercedes the prior agreements among such parties and in the event of a conflict between any of such prior agreements, this Amendment No. 1 to Operating Agreement shall control; provided, however, that nothing contained herein shall impair the rights of Calton, Inc. under the Note prior to the conversion of indebtedness contemplated by Section 3 of this Amendment. IN WITNESS WHEREOF, the parties hereto have executed this Amendment No. 1 to Operating Agreement as of the date first above written. Calton, Inc. By: ------------------------------------------- Name: Title: WHTP, LLC By: ------------------------------------------- Name: Title: ------------------------------------------- Richard Dole ------------------------------------------- James H. West Huttner Partnership 1999 LTD By: ------------------------------------------- Its General Partner By: -------------------------------------- Name: ------------------------------------- Title ------------------------------------- ------------------------------------------- SEP FBO Frederick A. Huttner 11