-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, Vkpv04+HJvHpgiUOW20umKNk79JJp7q82O6BVR9Tmts7gpZZALyGlL0h8704C8nJ m6Mj2rmZ2Lip/gymqULbRQ== 0001036050-97-000874.txt : 19971023 0001036050-97-000874.hdr.sgml : 19971023 ACCESSION NUMBER: 0001036050-97-000874 CONFORMED SUBMISSION TYPE: S-4 PUBLIC DOCUMENT COUNT: 21 FILED AS OF DATE: 19971022 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: ELCOTEL INC CENTRAL INDEX KEY: 0000801448 STANDARD INDUSTRIAL CLASSIFICATION: TELEPHONE & TELEGRAPH APPARATUS [3661] IRS NUMBER: 592518405 STATE OF INCORPORATION: DE FISCAL YEAR END: 0331 FILING VALUES: FORM TYPE: S-4 SEC ACT: SEC FILE NUMBER: 333-38439 FILM NUMBER: 97699003 BUSINESS ADDRESS: STREET 1: 6428 PARKLAND DR CITY: SARASOTA STATE: FL ZIP: 34243 BUSINESS PHONE: 9417580389 MAIL ADDRESS: STREET 1: 6428 PARKLAND DR CITY: SARASOTA STATE: FL ZIP: 34243 S-4 1 FORM S-4 AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON OCTOBER 22, 1997 REGISTRATION NO. 333- - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------- FORM S-4 REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 ------------- ELCOTEL, INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) ------------- DELAWARE 3661 59-2518405 (STATE OR OTHER (PRIMARY STANDARD (I.R.S. EMPLOYER JURISDICTION OF INDUSTRIAL IDENTIFICATION NUMBER) INCORPORATION OR CLASSIFICATION CODE ORGANIZATION) NUMBER) 6428 PARKLAND DRIVE SARASOTA, FLORIDA 34243 (941) 758-0389 (ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES) RONALD M. TOBIN VICE PRESIDENT, TREASURER AND SECRETARY ELCOTEL, INC. 6428 PARKLAND DRIVE SARASOTA, FLORIDA 34243 (941) 758-0389 (NAME, ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF AGENT FOR SERVICE) ------------- COPIES TO: LARRY P. LAUBACH, ESQ. ROGER BARZUN, ESQ. SHAHE SINANIAN, ESQ. SCHNADER HARRISON SEGAL GENERAL COUNSEL GREENBERG TRAURIG & LEWIS LLP TECHNOLOGY SERVICE HOFFMAN LIPOFF 1600 MARKET STREET GROUP, INC. ROSIN & QUENTEL SUITE 3600 60 HUBBARD STREET 153 EAST 53RD STREET PHILADELPHIA, PA 19103 CONCORD, MA 01742 35TH FLOOR (215) 751-2360 (508) 287-4275 NEW YORK, NY 10022 (212) 801-9235 APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon as practicable after the effective date of this Registration Statement and the effective time of the merger of a wholly-owned subsidiary of the registrant with and into Technology Service Group, Inc. ("TSG") as described in the Agreement and Plan of Merger dated as of August 13, 1997, as amended. If the securities being registered on this Form are being offered in connection with the formation of a holding company and there is compliance with General Instruction G, check the following box. [_] ------------- CALCULATION OF REGISTRATION FEE - ------------------------------------------------------------------------------- - -------------------------------------------------------------------------------
PROPOSED PROPOSED MAXIMUM MAXIMUM AMOUNT OF TITLE OF EACH CLASS OF AMOUNT TO BE OFFERING PRICE AGGREGATE REGISTRATION FEE SECURITIES TO BE REGISTERED REGISTERED(1) PER UNIT(2) OFFERING PRICE(1)(2) (2)(3) - ----------------------------------------------------------------------------------------------- Common Stock, par value $0.01 per share....... 5,753,584 $7.875 $45,309,474 $5,099.76 - ----------------------------------------------------------------------------------------------- Warrants to Purchase Common Stock.......... 708,570 (4) (4) (4)
- ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- (1) The number of shares of Common Stock ("Elcotel Common Stock") of Elcotel, Inc. ("Elcotel") to be registered has been determined based on the maximum number of shares of Elcotel Common Stock expected to be issued in connection with the proposed merger of Elcotel Hospitality Service, Inc. into Technology Service Group, Inc. ("TSG") (the "Merger"), including shares upon conversion of certain warrants and rights to purchase Common Stock, par value $0.01 per share ("TSG Common Stock") of TSG outstanding at the time of the Merger, and the issuance of shares of Elcotel Common Stock to certain financial advisors as a fee for services rendered in connection with the Merger. (2) Estimated pursuant to Rule 457(f) based on the market value of shares of TSG Common Stock ($7.875, which is the average of the high and low sale prices of shares of TSG Common Stock on the Nasdaq National Market on October 17, 1997). (3) This fee has been computed pursuant to Rule 457(f), as one-thirty-third of one percent of $45,309,474 ($13,730.40). Pursuant to Rule 457(b), the registration fee has been reduced by the $8,630.38 paid on October 6, 1997 in connection with the filing of Elcotel's Preliminary Proxy Statement under the Securities Exchange Act of 1934, as amended. (4) Pursuant to Rule 457(g), no separate registration fee is payable for the warrants because a fee is being paid for the registration of the shares of Elcotel Common Stock purchasable pursuant to the warrants, which shares are included within the 5,753,584 shares being registered herewith. THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION STATEMENT WILL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF THE SECURITIES ACT OF 1933 OR UNTIL THIS REGISTRATION STATEMENT SHALL BECOME EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(A), MAY DETERMINE. - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- ELCOTEL, INC. CROSS-REFERENCE SHEET CROSS-REFERENCE SHEET FOR REGISTRATION STATEMENT ON FORM S-4 AND PROSPECTUS
ITEM CAPTION IN PROXY STATEMENT- NUMBER CAPTION IN FORM S-4 PROSPECTUS ------ ------------------- --------------------------- A. INFORMATION ABOUT THE TRANSACTION 1. Forepart of Registration Statement and Outside Front Cover Page of Prospectus.......................... Facing Page of Registration Statement; Cross Reference Sheet; Outside Front Cover Page of Prospectus 2. Inside Front and Outside Back Cover Pages of Prospectus................. Inside Front Cover Page; Available Information; Table of Contents; Incorporation of Certain Documents by Reference 3. Risk Factors, Ratio of Earnings to Fixed Charges and Other Information......................... Summary; Certain Risk Factors; The Merger--Certain Federal Income Tax Consequences; No Appraisal of Dissenters' Rights; The Meetings--Elcotel Annual Meeting--Share Ownership of Officers, Directors and Certain Stockholders; TSG Special Meeting--Share Ownership of Officers, Directors and Certain Stockholders 4. Terms of the Transaction............ Summary; The Merger Agreement 5. Pro Forma Financial Information..... Summary--Selected Historical and Pro Forma Consolidated Financial Data; Unaudited Pro Forma Consolidated Financial Information 6. Material Contacts with the Company Being Acquired...................... The Merger--Background of the Merger 7. Additional Information Required for Reoffering by Persons and Parties Deemed to Be Underwriters........... Not Applicable 8. Interests of Named Experts and Counsel............................. Experts 9. Disclosure of Commission Position on Indemnification for Securities Act Liabilities......................... Not Applicable B. INFORMATION ABOUT THE REGISTRANT 10. Information with Respect to S-3 Registrants......................... Not Applicable 11. Incorporation of Certain Information by Reference........................ Not Applicable 12. Information with Respect to S-2 or S-3 Registrants..................... Available Information-- Incorporation of Certain Documents by Reference 13. Incorporation of Certain Information by Reference........................ Available Information-- Incorporation of Certain Documents by Reference
ITEM CAPTION IN PROXY STATEMENT- NUMBER CAPTION IN FORM S-4 PROSPECTUS ------ ------------------- --------------------------- 14. Information with Respect to Registrants Other than S-2 or S-3 Registrants.......................... Not Applicable C. INFORMATION ABOUT THE COMPANY BEING ACQUIRED 15. Information with Respect to S-3 Companies............................ Not Applicable 16. Information with Respect to S-2 or S- 3 Companies.......................... Not Applicable 17. Information with Respect to Companies other than S-2 or S-3 Companies...... Technology Service Group, Inc. D. VOTING AND MANAGEMENT INFORMATION 18. Information if Proxies, Consents or Authorizations are to be Solicited... The Meetings--Elcotel Annual Meeting-TSG Special Meeting; The Merger--No Appraisal or Dissenters' Rights; Interests of Certain Persons and Employee Matters; Technology Service Group, Inc. 19. Information if Proxies, Consents or Authorizations are not to be Solicited in an Exchange Offer....... Not Applicable
ELCOTEL, INC. 6428 PARKLAND DRIVE, SARASOTA, FLORIDA 34243 NOTICE OF ANNUAL MEETING OF STOCKHOLDERS TO BE HELD 9:00 A.M., DECEMBER 5, 1997 NOTICE IS HEREBY GIVEN that the Annual Meeting of Stockholders (the "Annual Meeting") of Elcotel, Inc. ("Elcotel") will be held on Friday, December 5, 1997, at 9:00 A.M., local time, at The Waterside Room, 216 Sarasota Quay, Sarasota, Florida 34236, for consideration of and action by the holders of Elcotel Common Stock upon the following matters: 1. The election of a Board of Directors consisting of seven directors, with each director to serve until the next annual meeting of stockholders or until the election and qualification of his or her respective successor; 2. The approval of the issuance of shares of common stock, par value $0.01 per share, of Elcotel ("Elcotel Common Stock") in connection with the proposed merger of Elcotel Hospitality Service, Inc., a wholly-owned subsidiary of Elcotel ("Merger Subsidiary"), with and into Technology Service Group, Inc. ("TSG") pursuant to an Agreement and Plan of Merger, dated as of August 13, 1997, as amended, among Elcotel, TSG and Merger Subsidiary (the "Merger") and any other actions as may be required in furtherance of the Merger; 3. The approval of an amendment to the Certificate of Incorporation of Elcotel to increase the number of shares of Elcotel Common Stock authorized for issuance to 30,000,000; 4. The ratification of the appointment of Deloitte & Touche llp as Elcotel's independent public accountants for the fiscal year ending March 31, 1998; 5. The approval of an amendment to the 1991 Stock Option Plan to increase by 500,000 the number of shares reserved for issuance pursuant to such plan; 6. The approval of an amendment to the Directors Stock Option Plan to, among other things, increase by 50,000 the number of shares reserved for issuance pursuant to such plan; and 7. The transaction of such other business as may properly come before the Annual Meeting and any adjournment or postponement thereof, and matters incident to the conduct of the Annual Meeting. The Board of Directors of Elcotel has fixed the close of business on October 22, 1997, as the record date for the determination of holders of Elcotel Common Stock entitled to notice of, and to vote at, the Annual Meeting or any adjournment or postponement thereof. The Merger, the Merger Agreement and the other matters enumerated above are more fully described in the accompanying Joint Proxy Statement-Prospectus. STOCKHOLDERS (WHETHER THEY OWN ONE OR MANY SHARES AND WHETHER THEY EXPECT TO ATTEND THE ANNUAL MEETING OR NOT) ARE REQUESTED TO VOTE, SIGN, DATE AND RETURN PROMPTLY THE ACCOMPANYING PROXY IN THE ENCLOSED ENVELOPE, WHICH REQUIRES NO POSTAGE IF MAILED IN THE UNITED STATES. By Order of the Board of Directors /s/ Ronald M. Tobin Ronald M. Tobin, Secretary October , 1997 TECHNOLOGY SERVICE GROUP, INC. 20 MANSELL COURT EAST, SUITE 200 ROSWELL, GEORGIA 30076 NOTICE OF SPECIAL MEETING OF STOCKHOLDERS TO BE HELD 10:00 A.M., DECEMBER 5, 1997 NOTICE IS HEREBY GIVEN that a Special Meeting of Stockholders (the "Special Meeting") of Technology Service Group, Inc. ("TSG") will be held on Friday, December 5, 1997, at 10:00 A.M., local time, at Deloitte & Touche LLP, 125 Summer Street, Boston, MA 02110, for consideration of and action by the holders of TSG Common Stock upon the following matters: 1. The approval of the proposed merger of Elcotel Hospitality Service, Inc., a wholly-owned subsidiary of Elcotel, Inc. ("Merger Subsidiary"), with and into TSG pursuant to an Agreement and Plan of Merger, dated as of August 13, 1997, as amended, among Elcotel, Inc., TSG and Merger Subsidiary (the "Merger") and any other actions as may be required in furtherance of the Merger; 2. The transaction of such other business as may properly come before the Special Meeting and any adjournment or postponement thereof, and matters incident to the conduct of the Special Meeting. The Board of Directors of TSG has fixed the close of business on October 22, 1997, as the record date for the determination of holders of TSG Common Stock entitled to notice of, and to vote at, the Special Meeting or any adjournment or postponement thereof. The Merger, the Merger Agreement and the other matters enumerated above are more fully described in the accompanying Joint Proxy Statement-Prospectus. STOCKHOLDERS (WHETHER THEY OWN ONE OR MANY SHARES AND WHETHER THEY EXPECT TO ATTEND THE ANNUAL MEETING OR NOT) ARE REQUESTED TO VOTE, SIGN, DATE AND RETURN PROMPTLY THE ACCOMPANYING PROXY IN THE ENCLOSED ENVELOPE, WHICH REQUIRES NO POSTAGE IF MAILED IN THE UNITED STATES. By Order of the Board of Directors /s/ William H. Thompson William H. Thompson, Secretary October , 1997 JOINT PROXY STATEMENT OF ELCOTEL, INC. AND TECHNOLOGY SERVICE GROUP, INC. ---------------- PROSPECTUS OF ELCOTEL, INC. ---------------- 5,753,584 SHARES OF ELCOTEL COMMON STOCK (PAR VALUE $.01 PER SHARE) WARRANTS TO PURCHASE 708,570 SHARES OF ELCOTEL COMMON STOCK This Joint Proxy Statement-Prospectus is being furnished to the stockholders of Elcotel, Inc., a Delaware corporation ("Elcotel"), in connection with the solicitation of proxies by its Board of Directors for use at the Annual Meeting of Stockholders of Elcotel (the "Elcotel Annual Meeting") to be held on December 5, 1997, at 9:00 A.M., local time, at The Waterside Room, 216 Sarasota Quay, Sarasota, Florida 34236, and at any adjournment or postponement thereof, for the purposes set forth herein and in the accompanying notice of annual meeting of stockholders of Elcotel. This Joint Proxy Statement- Prospectus is also being furnished to the stockholders of Technology Service Group, Inc., a Delaware corporation ("TSG"), in connection with the solicitation of proxies by its Board of Directors for use at the Special Meeting of Stockholders of TSG (the "TSG Special Meeting") to be held on December 5, 1997, at 10:00 A.M., local time, at Deloitte & Touche llp, 125 Summer Street, Boston, MA 02110, and at any adjournment or postponement thereof, for the purposes set forth herein and in the accompanying notice of special meeting of stockholders of TSG. This Joint Proxy Statement-Prospectus also constitutes the prospectus of Elcotel that is a part of the Registration Statement of Elcotel filed with the Securities and Exchange Commission with respect to shares of common stock, par value $0.01 per share of Elcotel ("Elcotel Common Stock") and warrants to purchase Elcotel Common Stock to be issued in connection with the Merger (the "Merger") of Elcotel Hospitality Service, Inc., a wholly-owned subsidiary of Elcotel ("Merger Subsidiary"), with and into TSG pursuant to an Agreement and Plan of Merger, dated as of August 13, 1997, as amended (the "Merger Agreement"), among Elcotel, TSG and Merger Subsidiary. Upon consummation of the Merger, (i) TSG will become a direct wholly-owned subsidiary of Elcotel; (ii) each issued and outstanding share of common stock, par value $0.01 per share of TSG ("TSG Common Stock"), will be converted into the right to receive 1.05 shares of Elcotel Common Stock (the "Exchange Ratio"); and (iii) each outstanding option, warrant and right to purchase TSG Common Stock will be converted into an option, warrant or right, as the case may be, to purchase 1.05 shares of Elcotel Common Stock for each share of TSG Common Stock purchasable pursuant to such option, warrant or right immediately prior to the effective time of the Merger. See "The Merger Agreement-Conversion of TSG Shares; Conversion of Options to Purchase TSG Common Stock; Conversion of Warrants to Purchase TSG Common Stock." A copy of the Merger Agreement is attached hereto as Appendix A and incorporated herein by reference. Consummation of the proposed Merger is subject to various conditions, including the approval of the holders of the requisite number of shares of Elcotel Common Stock and TSG Common Stock, all as described in the Joint Proxy Statement-Prospectus. The proposed Merger will be consummated as soon as practical after all such approvals are obtained and the other conditions to the Merger are satisfied or waived. On August 13, 1997, the last full trading day prior to the public announcement of the execution of the Merger Agreement, the last reported closing sales prices on the Nasdaq National Market of Elcotel Common Stock and TSG Common Stock were $6.25 and $6.875, respectively. On October , 1997, the latest practicable trading day prior to the printing of this Joint Proxy Statement-Prospectus, the last reported closing sales prices on the Nasdaq National Market of Elcotel Common Stock and TSG Common Stock were $ and $ , respectively. The information contained or incorporated by reference herein with respect to Elcotel has been provided by Elcotel, and the information contained or incorporated herein by reference with respect to TSG has been provided by TSG. This Joint Proxy Statement-Prospectus and the accompanying forms of proxy are first being mailed to stockholders of Elcotel and TSG on or about October , 1997. SEE "CERTAIN RISK FACTORS" AT PAGE 15 FOR CERTAIN CONSIDERATIONS RELEVANT TO AN INVESTMENT IN ELCOTEL COMMON STOCK. THE PROPOSED MERGER IS A COMPLEX TRANSACTION. STOCKHOLDERS OF ELCOTEL AND TSG ARE URGED TO READ AND CONSIDER CAREFULLY THIS JOINT PROXY STATEMENT- PROSPECTUS IN ITS ENTIRETY. THE SECURITIES TO BE ISSUED PURSUANT TO THIS PROSPECTUS HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS JOINT PROXY STATEMENT-PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE. ---------------- The date of this Joint Proxy Statement-Prospectus is October , 1997. 4 TABLE OF CONTENTS
PAGE ---- AVAILABLE INFORMATION..................................................... 1 INCORPORATION OF CERTAIN DOCUMENTS BY REFERENCE........................... 1 SUMMARY................................................................... 3 The Companies........................................................... 3 Elcotel Annual Meeting.................................................. 4 TSG Special Meeting..................................................... 6 The Merger.............................................................. 7 Recent Developments..................................................... 9 Comparative Market Prices............................................... 10 Unaudited Comparative Per Share Data.................................... 11 Selected Historical Consolidated Financial Data......................... 12 Selected Historical and Pro Forma Consolidated Financial Data of Elcotel................................................................ 14 CERTAIN RISK FACTORS...................................................... 15 Integration of Operations............................................... 15 Fixed Exchange Ratio Despite Possible Change in Stock Prices............ 15 Dependence on Key Personnel............................................. 16 Intense Competition..................................................... 16 Risks Associated with International Market.............................. 16 Technological Obsolescence.............................................. 17 Government Regulation; Possible Adverse Effect of Future Regulatory Changes................................................................ 17 Dividends Not Likely.................................................... 18 Control of Elcotel...................................................... 18 Dilution to Elcotel Stockholders........................................ 18 Debt Refinancing........................................................ 18 Limited Number of Customers in Certain Markets.......................... 18 Dependence on Certain Manufacturers; Single Sources of Supply........... 19 Fixed Price Products.................................................... 19 Patents and Technology.................................................. 19 Potential Environmental Liabilities..................................... 19 THE MEETINGS.............................................................. 20 Elcotel Annual Meeting.................................................. 20 TSG Special Meeting..................................................... 22 Solicitation of Proxies................................................. 24 THE MERGER................................................................ 24 General................................................................. 24 Background of the Merger................................................ 24 Elcotel's Reasons For The Merger; Recommendations of The Elcotel Board.. 28 Opinion of Murray Devine................................................ 29 TSG's Reasons for the Merger; Recommendations of The TSG Board.......... 30 Certain Federal Income Tax Consequences................................. 31 Interests of Certain Persons and Employee Matters....................... 32 Refinancing of TSG and Elcotel Indebtedness............................. 33 Accounting Treatment.................................................... 34 Antitrust............................................................... 34 No Appraisal or Dissenters' Rights...................................... 34 Resales of Elcotel Common Stock......................................... 34 Nasdaq National Markets................................................. 34 THE MERGER AGREEMENT...................................................... 35 General................................................................. 35 Effective Time.......................................................... 35
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PAGE ---- Corporate Matters...................................................... 35 Conversion of TSG Shares............................................... 35 Conversion of Options to Purchase TSG Common Stock..................... 36 Conversion of Warrants to Purchase TSG Common Stock.................... 36 Conduct of TSG Pending The Merger...................................... 36 Conduct of Elcotel Pending the Merger.................................. 38 Appointment of Directors............................................... 39 No Solicitation........................................................ 39 Representations and Warranties......................................... 40 Capitalization of TSG.................................................. 40 Capitalization of Elcotel.............................................. 41 General Conditions Precedent to the Merger............................. 42 Conditions Precedent to Obligations of Elcotel......................... 42 Conditions Precedent to Obligations of TSG............................. 42 Termination............................................................ 43 Termination Fees and Expenses.......................................... 43 VOTING AGREEMENT......................................................... 44 Voting of TSG Common Stock............................................. 44 Voting of Elcotel Common Stock......................................... 44 FUNDAMENTAL/WEXFORD STOCKHOLDERS' AGREEMENT.............................. 44 Restrictions on Transfers.............................................. 45 Tag Along Rights....................................................... 45 Termination............................................................ 45 Registration Rights.................................................... 45 Voting of Capital Stock................................................ 46 LUCENT ACQUISITION....................................................... 46 TECHNOLOGY SERVICE GROUP, INC............................................ 47 General................................................................ 47 Developments During Fiscal 1997........................................ 47 History................................................................ 48 The Public Payphone Industry........................................... 49 Products and Services.................................................. 51 Sales and Markets...................................................... 54 Competition............................................................ 56 Manufacturing, Assembly and Sources of Supply.......................... 57 Warranty and Service................................................... 58 Licenses, Patents and Trademarks....................................... 58 Design and Product Developments........................................ 59 Employees.............................................................. 59 Backlog................................................................ 59 Seasonality............................................................ 59 Potential Environmental Liabilities.................................... 60 Government Regulation.................................................. 60 Properties............................................................. 62 MARKET FOR TSG'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS............ 63 SELECTED TSG FINANCIAL DATA.............................................. 64 TSG MANAGEMENT'S DISCUSSION AND ANALYSIS OF TSG'S FINANCIAL CONDITION AND RESULTS OF OPERATIONS................................................... 65 Overview............................................................... 65 Background--The Acquisition............................................ 65 Results of Operations.................................................. 66
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PAGE ---- Liquidity and Capital Resources......................................... 72 Selected Quarterly Data................................................. 79 New Accounting Pronouncements........................................... 80 DIRECTORS AND EXECUTIVE OFFICERS OF TSG................................... 81 Directors............................................................... 81 Executive Officers...................................................... 82 Section 16(a) Beneficial Ownership Reporting Compliance................. 83 Security Ownership of Certain Beneficial Holders and Management......... 83 Security Ownership of Certain Beneficial Holders........................ 84 Security Ownership of Management........................................ 85 TSG EXECUTIVE COMPENSATION................................................ 86 Summary Compensation Table.............................................. 86 Option Grants in the Last Fiscal Year................................... 87 Aggregated Option Exercises in the Last Fiscal Year and the Fiscal Year- End Option Values...................................................... 87 Employment Contracts and Termination of Employment and Change-in-Control Arrangements........................................................... 87 Report of the Compensation Committee on Executive Compensation.......... 89 Directors' Compensation................................................. 91 Compensation Committee Interlocks and Insider Participation............. 91 Performance Graph....................................................... 92 CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS OF TSG..................... 93 UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL INFORMATION.................... 93 NOTES TO UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL INFORMATION........... 97 Basis of Presentation................................................... 97 Merger Consideration.................................................... 97 Lucent Acquisition Purchase Price....................................... 100 Unaudited Pro Forma Consolidated Balance Sheet Adjustments Related to Merger................................................................. 100 Unaudited Pro Forma Balance Sheet Adjustments Related to the Lucent Ac- quisition.............................................................. 102 Unaudited Pro Forma Consolidated Statements of Operations Adjustments Related to the Merger.................................................. 103 Unaudited Pro Forma Consolidated Statements of Operations Adjustments Related to the Lucent Acquisition...................................... 104 Unaudited Pro Forma Income per Common and Common Equivalent Share....... 104 Preliminary Integration and Consolidation Plan.......................... 105 Financing Plan.......................................................... 105 DESCRIPTION OF ELCOTEL CAPITAL STOCK...................................... 105 Common Stock............................................................ 105 Change of Control....................................................... 105 COMPARISON OF STOCKHOLDER RIGHTS.......................................... 106 ADDITIONAL MATTERS SUBMITTED TO THE VOTE OF ELCOTEL'S STOCKHOLDERS........ 107 Additional Proposal No. 1: Election of Directors........................ 107 Additional Proposal No. 2: Amendment to Certificate of Incorporation.... 109 Additional Proposal No. 3: Ratification of Appointment of Independent Public Accountants..................................................... 110 Additional Proposal No. 4: Amendment to 1991 Stock Option Plan.......... 110 Additional Proposal No. 5: Amendment to Directors Stock Option Plan..... 113 OTHER INFORMATION REGARDING ELCOTEL....................................... 116 Directors and Officers.................................................. 116 Section 16 Compliance................................................... 117 Security Ownership of Certain Beneficial Owners And Management.......... 118 ELCOTEL EXECUTIVE COMPENSATION............................................ 120 Summary Compensation Table.............................................. 120 Stock Option Grants..................................................... 121 Stock Option Exercises and Holdings..................................... 121
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PAGE ---------- Severance Arrangements........................................... 121 ELCOTEL COMPENSATION AND STOCK OPTION COMMITTEE REPORT ON EXECUTIVE COMPENSATION...................................................... 122 ELCOTEL STOCK PERFORMANCE CHART.................................... 124 CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS OF ELCOTEL.......... 124 LEGAL MATTERS...................................................... 125 EXPERTS............................................................ 125 STOCKHOLDER PROPOSALS.............................................. 125 APPENDICES Merger Agreement................................................. Appendix A Opinion of Murray Devine......................................... Appendix B Consolidated Financial Statements of TSG......................... Appendix C
iv AVAILABLE INFORMATION Each of Elcotel and TSG is subject to the information and reporting requirements of the Securities Exchange Act of 1934, as amended (the "1934 Act"), and in accordance therewith files periodic reports, proxy statements and other information with the Securities and Exchange Commission (the "Commission"). Such reports, proxy statements and other information may be inspected and copied at the public reference facilities maintained by the Commission at 450 Fifth Street, N.W., Room 1024, Washington, D.C. 20549 and at the Commission's regional offices located at 7 World Trade Center, Suite 1300, New York, New York 10048; and Citicorp Center, 500 West Madison Street, Suite 1400, Chicago, Illinois 60661. Copies of such reports, proxy statements and other information also can be obtained at prescribed rates by writing to the Public Reference Section of the Commission, 450 Fifth Street, N.W., Washington, D.C. 20549. In addition, Elcotel and TSG are each required to file electronic versions of such material with the Commission through the Commission's Electronic Data Gathering, Analysis and Retrieval ("EDGAR") system. The Commission maintains a World Wide Web site that contains reports, proxy statements and other information regarding registrants that file electronically with the Commission. Electronic filings are publicly available on the Commission's World Wide Web site within 24 hours of acceptance. The address of such site is http://www.sec.gov. Elcotel Common Stock and TSG Common Stock are each quoted on the Nasdaq National Market. Reports, proxy statements and other information filed by Elcotel and TSG with the Nasdaq National Market may also be inspected at the Offices of the National Association of Securities Dealers, Inc. (the "NASD"), Market Listing Section, 1735 K Street, N.W., Washington, D.C. 20006. Elcotel has filed with the Commission a registration statement on Form S-4 (together with all amendments, supplements and exhibits thereto, the "Registration Statement") under the Securities Act of 1933, as amended (the "1933 Act") with respect to the securities of Elcotel to be issued pursuant to the Merger Agreement. As permitted under the 1933 Act and the 1934 Act, this Joint Proxy Statement-Prospectus does not contain all the information set forth in the Registration Statement and the exhibits thereto. Such additional information can be inspected and copied or obtained from the Commission in the manner described above. Statements contained in this Joint Proxy Statement- Prospectus, or in any document incorporated in this Joint Proxy Statement- Prospectus by reference, as to the contents of any other document referred to herein or therein are not necessarily complete, and each such statement is qualified in all respects by reference to the copy of such other document filed as an exhibit to the Registration Statement or such other document. This Joint Proxy Statement-Prospectus is accompanied by a copy of Elcotel's Annual Report for the fiscal year ended March 31, 1997 and Elcotel's Form 10-Q for the quarterly period ended June 30, 1997. INCORPORATION OF CERTAIN DOCUMENTS BY REFERENCE The following documents which have been filed by Elcotel pursuant to the 1934 Act are hereby incorporated by reference in this Joint Proxy Statement- Prospectus: 1. Elcotel's Annual Report on Form 10-K for the fiscal year ended March 31, 1997; 2. Elcotel's Quarterly Report on Form 10-Q for the fiscal quarter ended June 30, 1997; 3. Elcotel's Current Reports on Form 8-K, dated July 1, 1997, August 13, 1997 and September 30, 1997. The information relating to Elcotel contained in this Joint Proxy Statement- Prospectus does not purport to be comprehensive and should be read together with the information in the documents incorporated by reference herein. All documents filed by Elcotel pursuant to Sections 13(a), 13(c), 14 or 15(d) of the 1934 Act subsequent to the date of this Joint Proxy Statement- Prospectus and prior to the date of the Elcotel Annual Meeting shall be deemed to be incorporated by reference in this Joint Proxy Statement-Prospectus and be a part hereof from the dates of filing of such documents. Any statement contained in a document incorporated or deemed to be incorporated by reference herein shall be deemed to be modified or superseded for purposes of this Joint Proxy Statement-Prospectus to the extent that a statement contained herein, or in any other subsequently filed document which also is or is deemed to be incorporated herein, modifies or supersedes such statement. Any such statement so modified or superseded will not be deemed, except as so modified or superseded, to constitute a part of this Joint Proxy Statement-Prospectus. THIS JOINT PROXY STATEMENT-PROSPECTUS INCORPORATES CERTAIN DOCUMENTS BY REFERENCE WHICH ARE NOT PRESENTED HEREIN OR DELIVERED HEREWITH. THESE DOCUMENTS (OTHER THAN EXHIBITS TO SUCH DOCUMENTS UNLESS SUCH EXHIBITS ARE SPECIFICALLY INCORPORATED BY REFERENCE) ARE AVAILABLE TO ANY PERSON, INCLUDING ANY BENEFICIAL OWNER, UPON REQUEST FROM, IN THE CASE OF DOCUMENTS RELATING TO ELCOTEL, RONALD M. TOBIN, SECRETARY, ELCOTEL, INC., 6428 PARKLAND DRIVE, SARASOTA, FLORIDA 34243, TELEPHONE NUMBER (941) 758-0389, AND IN THE CASE OF DOCUMENTS RELATING TO TSG, WILLIAM H. THOMPSON, SECRETARY, TECHNOLOGY SERVICE GROUP, INC., 20 MANSELL COURT EAST, SUITE 200, ROSWELL, GEORGIA 30076, TELEPHONE NUMBER (770) 587-0208. IN ORDER TO ENSURE TIMELY DELIVERY OF THESE DOCUMENTS, ANY REQUEST SHOULD BE MADE BY NOVEMBER 28, 1997. NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY REPRESENTATIONS WITH RESPECT TO THE MATTERS DESCRIBED IN THIS JOINT PROXY STATEMENT-PROSPECTUS OTHER THAN THOSE CONTAINED OR INCORPORATED BY REFERENCE HEREIN, AND, IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED BY EITHER ELCOTEL OR TSG. THIS JOINT PROXY STATEMENT-PROSPECTUS DOES NOT CONSTITUTE AN OFFER TO SELL OR THE SOLICITATION OF AN OFFER TO BUY ANY SECURITIES, NOR DOES IT CONSTITUTE THE SOLICITATION OF A PROXY, IN ANY JURISDICTION IN WHICH OR FROM ANY PERSON TO WHOM IT IS UNLAWFUL TO MAKE ANY SUCH SOLICITATION IN SUCH JURISDICTION. THE DELIVERY OF THIS JOINT PROXY STATEMENT-PROSPECTUS WILL NOT, UNDER ANY CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THERE HAS BEEN NO CHANGE IN THE AFFAIRS OF ELCOTEL OR TSG SINCE THE DATE HEREOF OR THAT THE INFORMATION CONTAINED HEREIN IS CORRECT AS OF ANY TIME SUBSEQUENT TO ITS DATE. 2 SUMMARY The following is a summary of certain information contained elsewhere in this Joint Proxy Statement-Prospectus and does not purport to be complete. This summary is subject to and qualified in its entirety by reference to the more detailed information contained elsewhere in this Joint Proxy Statement- Prospectus, the Appendices hereto and the documents referred to herein and incorporated herein by reference. Stockholders of Elcotel and TSG are urged to review carefully this Joint Proxy Statement-Prospectus, including the Merger Agreement attached hereto as Appendix A and the other Appendices attached hereto, and the documents incorporated herein by reference. Unless otherwise defined herein, all capitalized terms are as defined in the Merger Agreement. This Joint Proxy Statement-Prospectus (including the documents incorporated by reference herein) contains certain forward-looking statements (as such term is defined in the Private Securities Litigation Reform Act of 1995) and information relating to Elcotel and TSG that are based on the beliefs of the management of Elcotel or TSG, as applicable, as well as assumptions made by and information currently available to the management of Elcotel or TSG, as applicable. When used in this Joint Proxy Statement-Prospectus, the words "anticipate," "believe," "estimate," "expect," "intend" and similar expressions, as they relate to Elcotel, TSG or the management of either of them, identify forward-looking statements. Such statements, which include, without limitation, statements as to the benefits expected to be realized as a result of the Merger and the matters set forth herein under "The Merger," reflect the current views of Elcotel or TSG, as applicable, with respect to future events, the outcome of which is subject to certain risks, including among others, those set forth in "Certain Risk Factors." Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results or outcomes may vary materially from those described herein as anticipated, believed, estimated, expected or intended. Stockholders of Elcotel and TSG are urged to consider the foregoing in evaluating the information contained herein. THE COMPANIES ELCOTEL, INC. Elcotel designs, develops, manufactures and markets micro-processor based public communication products and software which provide services over both domestic and international wireline and wireless (cellular) telephone networks. The principal products of Elcotel are coin and card operated intelligent pay telephones ("payphones") and management systems to support payphone operators. Elcotel markets intelligent prepaid card systems internationally in support of its payphone card applications. When Elcotel's products are combined with personal computer (PC) based payphone management systems, they perform substantially the same functions as payphones controlled by the central offices of regulated telephone operating companies (hereinafter referred to as "telcos"). The markets for Elcotel's products are both domestic and international private payphone operators and telcos providing public communications services. Elcotel is one of the leaders in sales of microprocessor-based payphone products to domestic private payphone operators. Elcotel's payphones support coin, credit card and debit card applications and are controlled internally by a microprocessor, memory chips, and other electronic components which automate the call management functions performed by the payphone. The principal executive offices of Elcotel are located at 6428 Parkland Drive, Sarasota, Florida 34243 and its telephone number is (941) 758-0389. As used in this Joint Proxy Statement-Prospectus, the term "Elcotel" refers to Elcotel, Inc. and its subsidiaries, unless the context otherwise requires. TECHNOLOGY SERVICE GROUP, INC. TSG designs, develops, manufactures and markets public communication products including wireline and wireless payphone systems, electronic wireline payphone products and payphone components. TSG's payphone 3 systems are based upon microprocessor technology and perform a variety of functions, including calling card, debit ("prepay") card and credit card operations, data storage, call progress detection, call rating and maintenance, diagnostic and coin administration functions. TSG's payphone software management system, CoinNet(TM), is an integral component of TSG's microprocessor-based payphone systems. TSG also provides payphone and payphone component repair, refurbishment and upgrade conversion services to the regulated telephone operating companies in the United States, which consist of the Regional Bell Operating Companies ("RBOCs") and telcos. See "Technology Service Group, Inc.--Products and Services." TSG operates in one business segment as a provider of public communication systems, products and services to communications providers in the United States and foreign markets. TSG presently markets its products and services primarily to the RBOCs in the United States and to cellular service providers in certain international markets. TSG has derived substantially all of its revenues from sales to four RBOCs. See "Technology Service Group, Inc.--Sales and Markets." The principal executive offices of TSG are located at 20 Mansell Court East, Suite 200, Roswell, Georgia 30076, and its telephone number is (770) 587-0208. As used in this Joint Proxy Statement-Prospectus, the term "TSG" refers to Technology Service Group, Inc. and its subsidiaries, unless the context otherwise requires. ELCOTEL HOSPITALITY SERVICE, INC. Elcotel Hospitality Service, Inc. ("Merger Subsidiary"), a corporation organized under the laws of the State of Delaware, is a direct wholly-owned subsidiary of Elcotel, and was incorporated in 1987. Since 1990, Merger Subsidiary has had no material assets and has not engaged in any activities except in connection with the Merger. The principal executive offices of Merger Subsidiary are located at 6428 Parkland Drive, Sarasota, Florida and its telephone number is (941) 758-0389. ELCOTEL ANNUAL MEETING TIME, DATE, PLACE AND PURPOSE The annual meeting of stockholders of Elcotel (the "Elcotel Annual Meeting") will be held at The Waterside Room, 216 Sarasota Quay, Sarasota, Florida, 34236 on December 5, 1997, at 9:00 a.m., local time. The purpose of the Elcotel Annual Meeting is to consider and vote upon the following matters: (i) the election of a Board of Directors consisting of seven directors, with each director to serve until the next annual meeting of stockholders of Elcotel or until the election and qualification of his or her respective successor; (ii) the approval of the issuance of shares of common stock, par value $0.01 per share, of Elcotel ("Elcotel Common Stock") in connection with the proposed merger of Merger Subsidiary with and into TSG pursuant to an Agreement and Plan of Merger, dated as of August 13, 1997, as amended, among Elcotel, TSG and Merger Subsidiary (the "Merger") and the approval of any other actions as may be required in furtherance of the Merger; (iii) the approval of an amendment to the Certificate of Incorporation of Elcotel to increase the number of shares of Elcotel Common Stock authorized for issuance to 30,000,000; (iv) the ratification of the appointment of Deloitte & Touche llp as Elcotel's independent public accountants for the fiscal year ending March 31, 1998; (v) the approval of an amendment to the 1991 Stock Option Plan to increase by 500,000 the number of shares reserved for issuance pursuant to such plan; (vi) the approval of an amendment to the Directors Stock Option Plan to, among other things, increase by 50,000 the number of shares reserved for issuance pursuant to such plan; and (vii) the transaction of such other business as may properly come before the Elcotel Annual Meeting and any adjournment or postponement thereof, and matters incident to the conduct of the Annual Meeting. See "The Merger" and "Additional Matters Submitted to the Vote of Elcotel's Stockholders." 4 RECORD DATE; REQUIRED VOTE Only holders of record of Elcotel Common Stock at the close of business on October 22, 1997 (the "Elcotel Record Date") are entitled to receive notice of and to vote at the Elcotel Annual Meeting. At the close of business on the Elcotel Record Date, there were 8,210,352 shares of Elcotel Common Stock outstanding, each of which entitles the registered holder thereof to one vote. See "The Meetings--Elcotel Annual Meeting--Record Date; Required Vote; Quorum." Approval of the amendment to the Certificate of Incorporation of Elcotel to increase the number of shares of Elcotel Common Stock authorized for issuance to 30,000,000 (the "Elcotel Amendment") will require the affirmative vote of a majority of the shares of Elcotel Common Stock outstanding as of the Elcotel Record Date. Approval of the issuance of Elcotel Common Stock pursuant to the Merger Agreement, ratification of the appointment of Deloitte & Touche LLP as the independent public accountants of Elcotel for the fiscal year ending March 31, 1998 and approval of the amendments to the 1991 Stock Option Plan and the Directors Stock Option Plan will require the affirmative vote of a majority of the shares of Elcotel Common Stock present in person or represented by properly executed proxy at the Elcotel Annual Meeting. The election of each director will require the affirmative vote of a plurality of the shares of Elcotel Common Stock present in person or represented by properly executed proxy at the Elcotel Annual Meeting. See "The Meetings--Elcotel Annual Meeting--Record Date; Required Vote; Quorum." THE BOARD OF DIRECTORS OF ELCOTEL (THE "ELCOTEL BOARD") BY A VOTE OF 5 TO 2 HAS APPROVED THE MERGER AGREEMENT AND RECOMMENDS THAT ELCOTEL STOCKHOLDERS VOTE "FOR" THE APPROVAL OF THE ISSUANCE OF ELCOTEL COMMON STOCK PURSUANT TO THE MERGER AGREEMENT AND ANY OTHER ACTIONS REQUIRED IN FURTHERANCE OF THE MERGER. SEE "THE MERGER--ELCOTEL'S REASONS FOR THE MERGER; RECOMMENDATION OF THE ELCOTEL BOARD." THE ELCOTEL BOARD UNANIMOUSLY RECOMMENDS THAT ELCOTEL STOCKHOLDERS VOTE "FOR" (I) THE ELECTION OF THE DIRECTOR NOMINEES SPECIFIED HEREIN, (II) THE APPROVAL OF THE ELCOTEL AMENDMENT, (III) THE RATIFICATION OF THE APPOINTMENT OF DELOITTE & TOUCHE LLP AS ELCOTEL'S INDEPENDENT PUBLIC ACCOUNTANTS FOR THE FISCAL YEAR ENDING MARCH 31, 1998, (IV) THE APPROVAL OF THE AMENDMENT TO THE 1991 STOCK OPTION PLAN AND (V) THE APPROVAL OF THE AMENDMENTS TO THE DIRECTORS STOCK OPTION PLAN. SEE "THE MERGER--ELCOTEL'S REASONS FOR THE MERGER; RECOMMENDATION OF THE ELCOTEL BOARD." SHARE OWNERSHIP OF OFFICERS, DIRECTORS AND CERTAIN STOCKHOLDERS At the close of business on the Elcotel Record Date, directors and executive officers of Elcotel and their respective affiliates were the beneficial owners of an aggregate of approximately 2,308,961 shares (approximately 27.5%) of the Elcotel Common Stock then outstanding (which amount includes the shares owned by Fundamental Management Corporation ("Fundamental") referred to in the next sentence). As of the Elcotel Record Date, Fundamental owned an aggregate of 1,439,223 shares (approximately 17.5%) of the Elcotel Common Stock then outstanding. See "The Meetings--Elcotel Annual Meeting--Share Ownership of Officers, Directors and Certain Stockholders" and "Other Information Regarding Elcotel--Security Ownership of Certain Beneficial Owners and Management." Fundamental has agreed to vote its shares of Elcotel Common Stock in favor of the issuance of Elcotel Common Stock in connection with the Merger and has generally agreed not to transfer such shares before the consummation of the Merger or termination of the Merger Agreement. Such agreement increases the likelihood that the vote of the Elcotel stockholders required for the issuance of Elcotel Common Stock in connection with the Merger will be obtained. See "The Voting Agreement." 5 TSG SPECIAL MEETING TIME, DATE, PLACE AND PURPOSE A special meeting of stockholders of TSG (the "TSG Special Meeting") will be held at Deloitte & Touche llp, 125 Summer Street, Boston, MA 02110, on December 5, 1997 at 10:00 A.M., local time. See "The Meetings--TSG Special Meeting." The purpose of the TSG Special Meeting is to consider and vote upon the following matters: (i) the approval of the proposed merger of Merger Subsidiary with and into TSG pursuant to an Agreement and Plan of Merger, dated as of August 13, 1997, as amended, among Elcotel, TSG and Merger Subsidiary (the "Merger Agreement") and the approval of any other actions as may be required in furtherance of the Merger; and (ii) the transaction of such other business as may properly come before the Special Meeting and any adjournment or postponement thereof, and matters incident to the conduct of the Special Meeting. RECORD DATE; REQUIRED VOTE Only holders of record of TSG Common Stock at the close of business on October 22, 1997 (the "TSG Record Date") are entitled to receive notice of and to vote at the TSG Special Meeting. At the close of business on the TSG Record Date, there were 4,708,851 shares of TSG Common Stock outstanding, each of which entitles the registered holder thereof to one vote. See "The Meetings-- TSG Special Meeting--Record Date; Required Vote; Quorum." Approval of the Merger will require the affirmative vote of a majority of the shares of TSG Common Stock outstanding as of the TSG Record Date. See "The Meetings--TSG Special Meeting--Record Date; Required Vote; Quorum." THE BOARD OF DIRECTORS OF TSG (THE "TSG BOARD") HAS UNANIMOUSLY APPROVED THE MERGER AGREEMENT AND RECOMMENDS THAT TSG STOCKHOLDERS VOTE "FOR" THE APPROVAL OF THE MERGER AGREEMENT AND THE APPROVAL OF ANY OTHER ACTIONS AS MAY BE REQUIRED IN FURTHERANCE OF THE MERGER. SEE "THE MERGER--TSG'S REASONS FOR THE MERGER; RECOMMENDATION OF THE TSG BOARD." SHARE OWNERSHIP OF OFFICERS, DIRECTORS AND CERTAIN STOCKHOLDERS At the close of business on the TSG Record Date, directors and executive officers of TSG and their affiliates were the beneficial owners of an aggregate of approximately 3,276,854 shares (approximately 65%) of the TSG Common Stock then outstanding (which amount includes the shares owned by Wexford Partners Fund, L.P., a Delaware limited partnership ("Wexford"), referred to in the next sentence). As of the TSG Record Date, Wexford owned an aggregate of 2,444,286 shares (approximately 52%) of the TSG Common Stock then outstanding. See "The Meetings--TSG Special Meeting--Share Ownership of Officers, Directors and Certain Stockholders" and "Directors and Executive Officers of TSG--Security Ownership of Certain Beneficial Holders and Management." Wexford has agreed to vote its shares of TSG Common Stock in favor of the approval of the Merger Agreement and has generally agreed not to transfer such shares before the consummation of the Merger or termination of the Merger Agreement. Such agreement ensures that the vote of TSG stockholders required to consummate the Merger will be obtained. See "The Meetings--Required Vote" and "The Voting Agreement." 6 THE MERGER At the effective time of the Merger ("Effective Time"), Merger Subsidiary will merge into TSG, with TSG as the surviving corporation of the Merger. As a result of the Merger, TSG will become a wholly-owned subsidiary of Elcotel. The Effective Time of the Merger will be at such time as the certificate of merger is filed with the Delaware Secretary of State, or at such subsequent date or time as Elcotel and TSG agree and specify in the certificate of merger. The filing of the certificate of merger will occur no later than the fifth business day after satisfaction or waiver of the conditions to the consummation of the Merger set forth in the Merger Agreement unless another date is agreed to in writing by TSG, Elcotel and Merger Subsidiary (the "Closing Date"). THE MERGER CONSIDERATION At the Effective Time of the Merger, each share of TSG Common Stock issued and outstanding immediately prior to the Effective Time (other than shares of TSG Common Stock owned by TSG as treasury stock and shares of TSG Common Stock owned by Elcotel or any direct or indirect wholly-owned subsidiary of Elcotel or TSG) will by virtue of the Merger and without any action on the part of the holder thereof be automatically converted into the right to receive 1.05 fully paid and nonassessable shares of Elcotel Common Stock. No fractional shares of Elcotel Common Stock will be issued in connection with the Merger. In lieu of any fractional shares, Elcotel will pay to each holder of TSG Common Stock otherwise entitled to receive a fractional share, an amount in cash equal to such fraction multiplied by the arithmetic mean of the closing sales prices for Elcotel Common Stock reported on the Nasdaq National Market for each of the five consecutive trading days on which Elcotel Common Stock was traded immediately preceding the Effective Time. See "The Merger Agreement--Conversion of TSG Shares." Holders of options and rights to purchase shares of TSG Common Stock ("TSG Stock Options") pursuant to TSG's option and stock purchase plans will receive options and rights to purchase, at a proportionately reduced per share exercise price, a number of shares of Elcotel Common Stock equal to 1.05 times the number of shares of TSG Common Stock they were entitled to purchase immediately prior to the Effective Time under such TSG Stock Options. See "The Merger Agreement--Conversion of Options to Purchase TSG Common Stock." Holders of warrants to purchase TSG Common Stock ("TSG Warrants") will receive warrants to purchase, at a proportionately reduced per share exercise price, a number of shares of Elcotel Common Stock equal to 1.05 times the number of shares of TSG Common Stock they were entitled to purchase immediately prior to the Effective Time under such TSG Warrants. See "The Merger Agreement--Conversion of Warrants to Purchase TSG Common Stock." TERMINATION The Merger Agreement may be terminated before the effective time notwithstanding approval by the stockholders of Elcotel or TSG, under the circumstances specified in the Merger Agreement, including by mutual written agreement of Elcotel and TSG and termination by either party if the Merger is not consummated by December 31, 1997. See "The Merger Agreement--Termination." TERMINATION FEES AND EXPENSES Under certain circumstances, either Elcotel or TSG may be required to pay a termination fee or to reimburse the other party for its reasonable out-of- pocket expenses if the Merger is not consummated. Under certain circumstances Elcotel may be required to reimburse TSG for certain costs if the Merger is not consummated. See "The Merger Agreement--Termination Fees and Expenses." RECOMMENDATION OF THE ELCOTEL BOARD The Elcotel Board has approved the Merger Agreement and recommends that the stockholders of Elcotel vote FOR the approval of the issuance of Elcotel Common Stock pursuant to the Merger Agreement and any 7 other actions required in furtherance of the Merger. For a discussion of the factors considered by the Elcotel Board in reaching its conclusions, see "The Merger--Elcotel's Reasons for the Merger; Recommendation of the Elcotel Board." OPINION OF ELCOTEL'S FINANCIAL ADVISOR In determining to approve the Merger Agreement, the Elcotel Board considered, among other factors, the oral opinion, confirmed in a written opinion dated August 5, 1997, of Murray, Devine & Co. ("Murray Devine") to the effect that as of such date the Merger is fair to the stockholders of Elcotel from a financial point of view. The full text of the Murray Devine opinion, which sets forth a description of the assumptions made, matters considered and limitations on the review undertaken, is attached to this Joint Proxy Statement-Prospectus as Appendix B. Elcotel stockholders are urged to read the Murray Devine opinion carefully in its entirety. The Merger Agreement does not require that such opinion be updated prior to the Effective Time. See "The Merger--Opinion of Murray Devine." RECOMMENDATION OF THE TSG BOARD The TSG Board has approved the Merger Agreement and recommends that the stockholders of TSG vote FOR the adoption of the Merger Agreement and any other actions as may be required in furtherance of the Merger. For a discussion of the factors considered by the TSG Board in reaching its conclusions, see "The Merger--TSG's Reasons for the Merger; Recommendation of the TSG Board." INTERESTS OF CERTAIN PERSONS In considering the recommendations of the Elcotel Board and the TSG Board with respect to the Merger and the transactions contemplated thereby, holders of Elcotel Common Stock and of TSG Common Stock, respectively, should be aware that certain members of Elcotel's and TSG's management and of the Elcotel Board and the TSG Board have certain interests in the Merger that are in addition to the interests of stockholders of Elcotel and TSG generally, including, among other things, (i) the conversion pursuant to the Merger Agreement of the TSG Stock Options into options to acquire Elcotel Common Stock, with adjustments to the exercise price per share and number of shares subject thereto based on the Exchange Ratio, and their immediate exercisability as a result of the Merger, pursuant to the terms of the plans governing the TSG Stock Options (the "TSG Option Plans") and stock option agreements, whether or not such TSG Stock Options were exercisable immediately prior to the Effective Time; (ii) the payment of a $200,000 investment banking fee to an affiliate of Wexford, the holder of approximately 52% of the outstanding TSG Common Stock; and (iii) the employment agreements that Elcotel will enter into with C. Shelton James, the Chief Executive Officer and Chairman of the Board of Elcotel, Tracey Gray, the President of Elcotel, and Vincent Bisceglia, the President and Chief Executive Officer of TSG, in connection with the Merger. See "The Merger--Interests of Certain Persons and Employee Matters." CERTAIN FEDERAL INCOME TAX CONSEQUENCES The Merger is intended to be a tax-free reorganization as a result of which no income, gain or loss will be recognized by Elcotel or TSG and no income, gain or loss will be recognized by TSG stockholders upon exchange of their TSG Common Stock for Elcotel Common Stock pursuant to the Merger Agreement, except in respect of cash received by holders of TSG Common Stock in lieu of fractional shares of Elcotel Common Stock. It is a condition precedent to the obligations of TSG pursuant to the Merger Agreement that TSG receive an opinion of counsel to the effect that neither TSG nor any of its stockholders will recognize gain or loss for United States federal income tax purposes as a result of the Merger (other than in respect of any cash paid in lieu of fractional shares). See "The Merger--Certain Federal Income Tax Consequences" and "The Merger Agreement--Conditions Precedent to Obligations of TSG." 8 ACCOUNTING TREATMENT The Merger will be accounted for by Elcotel under the "purchase" method of accounting. Accordingly, the merger consideration will be allocated to the assets and liabilities of TSG based on their estimated fair values with the excess recorded as goodwill. See "Unaudited Pro Forma Consolidated Financial Information." NO APPRAISAL OR DISSENTERS' RIGHTS Under the Delaware General Corporation Law ("Delaware Law"), neither the holders of Elcotel Common Stock nor the holders of TSG Common Stock are entitled to appraisal or dissenters' rights in connection with the approval of the Merger Agreement and the transactions contemplated thereby. See "The Merger--No Appraisal or Dissenters' Rights." RECENT DEVELOPMENTS On September 30, 1997, Elcotel acquired from Lucent Technologies Inc. ("Lucent") certain assets related to Lucent's payphone manufacturing and component parts business (the "Lucent Acquisition"). The purchase price was approximately $6 million, subject to adjustment based upon a final inventory valuation. See "Unaudited Pro Forma Financial Information--Lucent Acquisition Purchase Price." Elcotel acquired from Lucent the inventory, machinery, equipment, tooling and certain other assets related to the payphone manufacturing and component parts business conducted by Lucent, as well as a license of certain patent and other intellectual property rights related thereto. Elcotel did not acquire any employees or facilities of Lucent pursuant to such acquisition. The customers for Lucent's payphones and component parts consisted principally of RBOCs and other telcos. Elcotel believes that approximately 60% (approximately 1.2 million units) of the current installed base of payphones in the United States are payphones of the design purchased by Elcotel pursuant to the Lucent Acquisition. Elcotel believes that a significant part of the revenues that may arise from the assets acquired by Elcotel pursuant to the Lucent Acquisition will consist of the sale of components and replacement parts with respect to that installed base of payphones. 9 COMPARATIVE MARKET PRICES Since June 13, 1995, shares of Elcotel Common Stock have been traded on the Nasdaq National Market and quoted under the symbol ECTL. From December 1, 1993 to June 12, 1995 Elcotel Common Stock was reported by the National Association of Securities Dealers Automated Quotation System ("Nasdaq") under the same symbol and bid and asked quotations were reported by Nasdaq. The following table sets forth, for the periods indicated, the high and low bid quotations or high and low closing sales prices per share of Elcotel Common Stock for each of the periods indicated as reported by Nasdaq or the Nasdaq National Market. Bid quotations reflect interdealer prices, without retail markup, markdown or commission and may not necessarily represent actual transactions. Elcotel did not pay any cash dividends with respect to the Elcotel Common Stock during any of the periods indicated below.
PERIOD ENDED HIGH LOW ------------ -------- ------ Elcotel's Fiscal Year Ended March 31, 1996: Quarter Ended June 30, 1995............................... $ 9 1/2 $3 1/4 Quarter Ended September 30, 1995.......................... 10 1/4 6 3/4 Quarter Ended December 31, 1995........................... 9 5 1/2 Quarter Ended March 31, 1996.............................. 8 5/8 5 Elcotel's Fiscal Year Ended March 31, 1997: Quarter Ended June 30, 1996............................... 8 5 Quarter Ended September 30, 1996.......................... 9 1/4 5 1/4 Quarter Ended December 31, 1996........................... 7 3/4 5 7/8 Quarter Ended March 31, 1997.............................. 8 5/8 6 Elcotel's Fiscal Year Ending March 31, 1998: Quarter Ended June 30, 1997............................... 6 5/8 5 1/4 Quarter Ended September 30, 1997.......................... 7 1/4 5 5/8 In May 1996, TSG completed an initial public offering (the "TSG IPO") of 1,150,000 units (the "Units"), each Unit consisting of one share of TSG Common Stock and one redeemable warrant ("Public Warrant") at a price of $9.00 per Unit for gross proceeds of $10,350,000. From May 10, 1996 to October 7, 1996, TSG Common Stock was listed on the Nasdaq Small Cap Market under the symbol TSGI and bid and asked quotations were reported by Nasdaq. On October 7, 1996, the TSG Common Stock was listed on the Nasdaq National Market under the same symbol. The following table sets forth, for the periods indicated, the high and low bid quotations or high and low closing sales prices per share of TSG Common Stock for each of the periods indicated as reported by Nasdaq or the Nasdaq National Market. Prior to the TSG IPO, there was no established public trading market for TSG Common Stock. TSG did not pay any cash dividends with respect to the TSG Common Stock during any of the periods indicated below. PERIOD ENDED HIGH LOW ------------ -------- ------ TSG's Fiscal Year Ended March 28, 1997: May 10, 1996 through June 28, 1996........................ $12 3/4 $9 3/8 Quarter Ended September 27, 1996.......................... 11 1/2 8 1/4 Quarter Ended December 27, 1996........................... 11 6 7/8 Quarter Ended March 28, 1997.............................. 7 7/8 4 1/4 TSG's Fiscal Year Ending April 3, 1998: Quarter Ended June 27, 1997............................... 6 1/32 4 1/2 Quarter Ended September 27, 1997.......................... 7 5/8 4 1/4
10 The following table sets forth the closing sale prices per share of Elcotel Common Stock and TSG Common Stock as reported by the Nasdaq National Market on August 13, 1997, the last full trading day prior to the public announcement of the execution of the Merger Agreement, and on October , 1997, the latest practicable trading day prior to the printing of this Joint Proxy Statement-Prospectus. The following table also sets forth the equivalent market value of TSG Common Stock based on the Exchange Ratio as of August 13, 1997 and October , 1997.
ELCOTEL TSG TSG DATE COMMON STOCK COMMON STOCK EQUIVALENT ---- ------------ ------------ ---------- August 13, 1997......................... $6.25 $6.875 $6.5625 October , 1997.........................
Stockholders are urged to obtain current quotations for the market prices of Elcotel Common Stock and TSG Common Stock. No assurance can be given as to the market price of Elcotel Common Stock or TSG Common Stock at the Effective Time. The Exchange Ratio is fixed in the Merger Agreement, and changes in the market price of Elcotel Common Stock or TSG Common Stock will not prevent consummation of the Merger. Accordingly, the market value of the shares of Elcotel Common Stock that holders of TSG Common Stock will receive in the Merger may vary significantly from the prices shown above. See "Certain Risk Factors--Fixed Exchange Ratio Despite Possible Change in Stock Prices." UNAUDITED COMPARATIVE PER SHARE DATA The following table sets forth certain historical and pro forma per share data for Elcotel Common Stock for Elcotel's fiscal year ended March 31, 1997 and three months ended June 30, 1997, and certain historical and equivalent pro forma per share data for TSG Common Stock for TSG's fiscal year ended March 28, 1997 and three months ended June 27, 1997. The information presented herein should be read in conjunction with the selected historical consolidated financial data and unaudited pro forma consolidated financial information found elsewhere in this Joint Proxy Statement-Prospectus as well as the historical financial information of Elcotel incorporated herein by reference. Historical per share data are derived from audited or unaudited financial statements of Elcotel and TSG, as the case may be. Pro forma per share data for Elcotel Common Stock are derived from the unaudited pro forma consolidated financial information found elsewhere in this Joint Proxy Statement-Prospectus.
THREE MONTHS YEAR ENDED ENDED MARCH 31, 1997 JUNE 30, 1997 -------------- ------------- Elcotel Common Stock Net Income Historical.................................... $0.20 $0.05 Pro Forma..................................... 0.09 0.00 Book Value (at end of period) Historical.................................... 1.54 1.58 Pro Forma(1).................................. 3.59 3.61 TSG Common Stock Net Income Historical.................................... 0.22 0.02 Equivalent Pro Forma(2)....................... 0.09 0.00 Book Value (at end of period) Historical.................................... 2.79 2.80 Equivalent Pro Forma(2)....................... 3.77 3.79
- -------- (1) The per share amounts used in the pro forma calculations were computed by adding the number of shares of Elcotel Common Stock to be issued in connection with the Merger to the actual number of outstanding shares of Elcotel Common Stock for the respective periods. (2) Equivalent pro forma per share amounts have been calculated by multiplying the Elcotel pro forma per share amounts by the Exchange Ratio of 1.05 of Elcotel Common Stock for each share of TSG Common Stock. 11 SELECTED HISTORICAL CONSOLIDATED FINANCIAL DATA Elcotel. The selected historical consolidated financial data of Elcotel presented below as of March 31, 1997 and 1996 and for each of the three years in the period ended March 31, 1997 has been derived from and should be read in conjunction with the consolidated financial statements, including the notes thereto, of Elcotel set forth in Elcotel's Annual Report on Form 10-K for the fiscal year ended March 31, 1997 incorporated by reference in this Joint Proxy Statement-Prospectus. The selected historical consolidated financial data of Elcotel presented below as of June 30, 1997 and for the three month periods ended June 30, 1997 and 1996 has been derived from and should be read in conjunction with the condensed consolidated financial statements, including the notes thereto, of Elcotel set forth in Elcotel's Quarterly Report on Form 10-Q for the fiscal quarter ended June 30, 1997 incorporated by reference in this Joint Proxy Statement-Prospectus. See "Incorporation of Certain Documents by Reference." The selected historical consolidated financial data of Elcotel presented below as of March 31, 1995, 1994, and 1993 and for the years in the periods ended March 31, 1994 and 1993 has been derived from and should be read in conjunction with the consolidated financial statements, including the notes thereto, of Elcotel set forth in Elcotel's Annual Report on Form 10-KSB for the fiscal years ended March 31, 1995 and 1994 which are not included in this Joint Proxy Statement-Prospectus. The selected historical consolidated financial data of Elcotel presented below as of June 30, 1996 has been derived from and should be read in conjunction with the condensed consolidated financial statements, including the notes thereto, of Elcotel set forth in Elcotel's Quarterly Report on Form 10-QSB for the fiscal quarter ended June 30, 1996 which is not included in this Joint Proxy Statement-Prospectus. ELCOTEL, INC. SUMMARY OF SELECTED CONSOLIDATED FINANCIAL DATA (IN THOUSANDS EXCEPT PER SHARE DATA)
AT OR FOR THE AT OR FOR THE YEAR ENDED THREE MONTHS MARCH 31, ENDED JUNE 30, ----------------------------------------- --------------- 1993 1994 1995 1996 1997 1996 1997 ------- ------- ------- ------- ------- ------- ------- OPERATIONS: Sales................... $10,622 $20,216 $25,090 $21,462 $26,832 $ 5,551 $ 6,753 Cost of goods sold...... 6,561 12,232 14,776 13,238 15,883 3,254 3,838 Income (loss) before ex- traordinary item....... 92 2,041 3,524 (1,291) 1,628 197 375 Income (loss) per share before extraordinary item................... 0.02 0.30 0.45 (0.16) 0.20 0.02 0.05 Net income (loss)....... 123 4,002 3,524 (1,291) 1,628 197 375 Net income (loss) per share.................. $ 0.02 $ 0.59 $ 0.45 $ (0.16) $ 0.20 $ 0.02 $ 0.05 FINANCIAL POSITION: Working capital (defi- cit)................... $(4,812) $ 4,224 $ 5,575 $ 6,288 $ 7,897 $ 6,033 $ 8,126 Total assets............ 10,911 10,234 16,225 14,929 15,944 15,099 17,204 Long-term obligations... -- 950 782 432 232 382 183 Stockholders' equity.... 337 6,638 11,091 10,558 12,627 10,796 13,002 Book value per share.... $ 0.06 $ 0.94 $ 1.44 $ 1.31 $ 1.54 $ 1.34 $ 1.58
TSG. The selected historical consolidated financial data of TSG presented below as of March 29, 1996, March 28, 1997 and June 27, 1997 and for the seven months ended October 30, 1994, five months ended March 31, 1995, years ended March 29, 1996 and March 28, 1997 and three months ended June 28, 1996 and June 27, 1997 has been derived from and should be read in conjunction with the consolidated financial statements, including the notes thereto, of TSG set forth in this Joint Proxy Statement-Prospectus as Appendix C. The selected historical consolidated financial data of TSG at April 2, 1993, April 1, 1994 and March 31, 1995 and for the years ended April 2, 1993 and April 1, 1994 has been derived from and should be read in conjunction with the consolidated financial statements and notes thereto of TSG set forth in TSG's Registration Statement on Form S-1 effective on May 10, 1996 which is not included in this Joint Proxy Statement-Prospectus. The selected 12 historical financial data of TSG at June 28, 1996 presented below has been derived from and should be read in conjunction with the consolidated financial statements and notes thereto set forth in TSG's Quarterly Report on Form 10-Q for the quarter ended June 28, 1996 which is not included in this Joint Proxy Statement-Prospectus. The consolidated historical financial information of TSG is not comparable from period to period because of the acquisition of TSG by Wexford Partners Fund, L.P. on October 1, 1994 (the "Acquisition"). See "TSG Management's Discussion and Analysis of TSG's Financial Condition and Results of Operations." TECHNOLOGY SERVICE GROUP, INC. SUMMARY OF SELECTED CONSOLIDATED FINANCIAL DATA (IN THOUSANDS EXCEPT PER SHARE DATA)
AT OR FOR AT OR FOR THE THE SEVEN FIVE AT OR FOR THE AT OR FOR THE MONTHS MONTHS AT OR FOR THE THREE MONTHS YEAR ENDED ENDED ENDED YEAR ENDED ENDED ------------------ ----------- --------- ------------------- ----------------- APRIL 2, APRIL 1, OCTOBER 30, MARCH 31, MARCH 29, MARCH 28, JUNE 28, JUNE 27, 1993(1) 1994(1) 1994(1) 1995 1996 1997 1996 1997 -------- -------- ----------- --------- --------- --------- -------- -------- OPERATIONS: Net Sales............... $30,536 $31,049 $11,109 $9,161 $33,201 $33,472 $12,078 $6,217 Cost of goods sold...... 24,083 25,762 9,176 8,226 26,082 26,639 9,840 5,123 Net income (loss)....... (1,998) (5,485) (423) (1,065) 1,177 1,010 585 38 Net income per share(2)............... $ -- $ -- $ -- $(0.30) $ 0.30 $ 0.22 $ 0.13 $ 0.02 FINANCIAL POSITON: Working capital (defi- cit)................... $ 1,270 $(3,264) $ (611) 1,695 $ 4,394 $ 8,221 $ 7,815 $8,403 Total assets............ 18,869 13,421 10,397 15,670 19,634 19,772 22,977 18,568 Long-term obligations... 2,068 957 4,028 6,333 7,309 -- 888 -- Stockholders' equity (deficit).............. 3,858 (1,405) (1,821) 2,105 3,600 13,127 12,653 13,164 Book value per share(3)............... $ -- $ -- $ -- $ 0.60 $ 1.03 $ 2.79 $ 2.70 $ 2.80
- -------- (1) Represents selected consolidated financial data of TSG's predecessor prior to the Acquisition. (2) Income (loss) per share is not presented for periods prior to the five months ended March 31, 1995 since such data is not meaningful for periods prior to the Acquisition. (3) Book value per share is not presented at April 2, 1993 and April 1, 1994 since such data is not meaningful for periods prior to the Acquisition. 13 SELECTED HISTORICAL AND PRO FORMA CONSOLIDATED FINANCIAL DATA OF ELCOTEL The following table sets forth certain selected consolidated financial data of Elcotel for the year ended March 31, 1997 and as of and for the three months ended June 30, 1997 and certain selected unaudited pro forma consolidated financial information of Elcotel for the year ended March 31, 1997 and as of and for the three months ended June 30, 1997 after giving effect to the Merger and the Lucent Acquisition. The selected consolidated historical financial data and the selected unaudited pro forma consolidated financial information of Elcotel presented below should be read in conjunction with the consolidated financial statements, including the notes thereto, of Elcotel set forth in Elcotel's Annual Report on Form 10-K for the fiscal year ended March 31, 1997 and Elcotel's Quarterly Report on Form 10-Q for the fiscal quarter ended June 30, 1997 incorporated in this Joint Proxy Statement-Prospectus by reference and the unaudited pro forma consolidated financial information set forth in this Joint Proxy Statement-Prospectus. The selected unaudited pro forma consolidated financial information at June 30, 1997 set forth below was prepared as if the Merger and the Lucent Acquisition had been consummated on June 30, 1997. The selected unaudited pro forma consolidated financial information for the year ended March 31, 1997 and three months ended June 30, 1997 set forth below was prepared as if the Merger and the Lucent Acquisition had been consummated on April 1, 1996. The unaudited pro forma financial information set forth in this Joint Proxy Statement-Prospectus has been prepared assuming the Merger and the Lucent Acquisition are accounted for using the purchase method of accounting. Accordingly, the unaudited pro forma consolidated financial information assumes that (1) the Merger consideration consisting of (i) the fair value of securities to be issued by Elcotel to effect the Merger, (ii) the fair value of outstanding common stock, options and warrants of TSG to be converted into Elcotel securities, and (iii) the estimated direct costs and expenses to be incurred by Elcotel in connection with the transaction, is allocated to the assets and liabilities of TSG based on their estimated fair values and (2) the aggregate purchase price related to the Lucent Acquisition is allocated to the assets acquired based on their estimated fair values. The selected unaudited pro forma consolidated financial information presented below reflects pro forma adjustments that are directly attributable to the Merger and the Lucent Acquisition and the use of the purchase method of accounting. The selected unaudited pro forma consolidated operations data does not reflect anticipated cost reductions or revenue enhancements expected to be realized from the Merger or the anticipated revenues, gross profit and operating expenses from the Lucent Acquisition. Accordingly, the unaudited pro forma consolidated operations data for the year ended March 31, 1997 and three months ended June 30, 1997 are not necessarily indicative of the consolidated results of operations as they might have been had the Merger and Lucent Acquisition actually occurred on the dates indicated, nor are they necessarily indicative of future results. ELCOTEL, INC. SELECTED PRO FORMA AND HISTORICAL CONSOLIDATED FINANCIAL DATA (IN THOUSANDS EXCEPT PER SHARE DATA)
AT OR FOR THE FOR THE YEAR ENDED THREE MONTHS ENDED MARCH 31, 1997 JUNE 30, 1997 -------------------- -------------------- HISTORICAL PRO FORMA HISTORICAL PRO FORMA ---------- --------- ---------- --------- OPERATIONS: Sales................................. $26,832 $60,304 $ 6,753 $12,970 Cost of goods sold.................... 15,883 42,586 3,838 9,011 Net income............................ 1,628 1,213 375 3 Net income per share.................. $ 0.20 $ 0.09 $ 0.05 $ 0.00 FINANCIAL POSITION: Working capital....................... $ 8,126 $14,870 Total assets.......................... 17,204 65,940 Long-term obligations................. 183 2,797 Stockholders' equity.................. 13,002 47,882 Book value per share.................. $ 1.58 $ 3.61
14 CERTAIN RISK FACTORS Holders of TSG Common Stock, in evaluating whether to approve the Merger and thereby become holders of Elcotel Common Stock, and holders of Elcotel Common Stock, in evaluating whether to approve the issuance of Elcotel Common Stock in connection with the Merger, should carefully consider the following risk factors, in addition to the other information included and incorporated by reference in this Joint Proxy Statement--Prospectus. INTEGRATION OF OPERATIONS The integration of operations following the Merger and the Lucent Acquisition will require the dedication of management resources which will detract from attention to the day-to-day business of Elcotel subsequent to the Merger. The difficulties of integration are increased by the necessity of coordinating geographically separated organizations, integrating personnel with disparate business backgrounds, and combining two different corporate cultures. Following the Merger, Elcotel is expected to seek to reduce expenses by eliminating duplicative or unnecessary facilities, employees, research and development programs and other expenses in the areas of sales, marketing, advertising and administration. Elcotel will utilize existing systems which it believes have been effective in controlling costs and improving margins to achieve improved operating efficiencies in TSG's manufacturing and inventory management. Additionally, Elcotel will seek to combine sales and marketing channels, promotional activities, and product marketing strategies. There can be no assurance that Elcotel will be able subsequent to the Merger to reduce expenses in this fashion, that there will not be high costs associated with such activities, and that there will not be other material adverse effects of such activities. In particular, the realization of cost savings will depend upon an effective and expedient transition schedule which may span a period of six months to one year. The near-term effect could be a reduction in net income for the year subsequent to the Merger and short-term dilution. FIXED EXCHANGE RATIO DESPITE POSSIBLE CHANGE IN STOCK PRICES The Exchange Ratio is expressed in the Merger Agreement as a fixed ratio. Accordingly, the Exchange Ratio will not be adjusted in the event of any increase or decrease in the market price of either Elcotel Common Stock or TSG Common Stock. Additionally, neither Elcotel nor TSG has the right to terminate the Merger Agreement in the event of any increase or decrease in the market price of either Elcotel Common Stock or TSG Common Stock. The market price of Elcotel Common Stock at the Effective Time may vary from its price at the date of this Joint Proxy Statement--Prospectus and the dates of the Elcotel Annual Meeting and TSG Special Meeting, possibly by a material amount. Such variations may be the result of changes in the business, operations or prospects of Elcotel or TSG, market assessments of the likelihood that the Merger will be consummated and the timing thereof, regulatory considerations, general market and economic conditions and other factors, many of which will be beyond the control of Elcotel or TSG. Because the Effective Time may occur at a date later than the date of the Elcotel Annual Meeting and the TSG Special Meeting, there can be no assurance that the market price of Elcotel Common Stock on such date will be indicative of its market price at the Effective Time. Elcotel and TSG have no intention of resoliciting stockholder approval should the market prices of Elcotel Common Stock or TSG Common Stock change materially after the date of the Elcotel Annual Meeting or the TSG Special Meeting, as the case may be. The Effective Time will occur no later than the fifth business day after satisfaction or waiver of the conditions to the consummation of the Merger set forth in the Merger Agreement, unless another date is agreed to in writing. Because the Exchange Ratio will not be adjusted to reflect changes in the market value of Elcotel Common Stock or TSG Common Stock, the market value of the Elcotel Common Stock issued in the Merger, and the value of the TSG Common Stock surrendered in the Merger, may be higher or lower than the value of such shares at the time the Merger was negotiated or approved by stockholders. Stockholders of Elcotel and TSG are urged to obtain current market quotations for Elcotel Common Stock and TSG Common Stock. See "Summary--Comparative Market Prices." 15 DEPENDENCE ON KEY PERSONNEL Following the Merger, Elcotel's business will be dependent upon the performance of certain key individuals, including C. Shelton James, its Chairman of the Board, Tracey Gray, its President and Chief Executive Officer, and Vincent Bisceglia, its Chief Operating Officer. The loss of services of any of these persons could have a material adverse effect on Elcotel. In connection with the Merger, Elcotel will enter into employment agreements with each of Messrs. James, Gray and Bisceglia, but these agreements do not ensure that Messrs. James, Gray and Bisceglia will remain employed by Elcotel. See "The Merger--Interests of Certain Persons and Employee Matters--Employment Agreements." INTENSE COMPETITION The public communications industry is highly competitive. Prior to 1984, the telcos held a monopoly in the pay telephone industry, and they continue to have a dominant share of the public communications market. Elcotel competes with firms in the United States (principally Intellicall, Protel, Quadrum and, prior to the Merger, TSG) that manufacture and market to telcos and independent payphone operators privately-owned payphones and other products similar to Elcotel's products. In addition, there are many other firms which have the resources and ability to develop and market products which could compete with Elcotel's products. Elcotel expects possible competition from other companies. Some telecommunications companies, already established in the telephone industry with substantial engineering, manufacturing and capital resources, are positioned to enter the public communications market, some of which are foreign manufacturers. Telcos also compete with private payphone operators by making site owner compensation arrangements more attractive for their existing phones, thereby reducing the site owners' incentive to use privately owned payphones. Many existing and potential competitors have financial, marketing, management and technical resources substantially greater than those of Elcotel. As a result, they may be able to respond more quickly to new or emerging technologies and changes in customer requirements, or to devote greater resources to the development, promotion and sale of their products than Elcotel. It is also possible that new competitors may emerge and acquire significant market share. Possible new competitors include large foreign corporations, RBOCs and other entities with substantial resources. Increased competition is likely to result in price reductions, reduced gross margins and loss of market share, any of which would have a material adverse effect on Elcotel's business, results of operations and financial condition. There can be no assurance that Elcotel will be able to compete successfully against current or future competitors or that competitive pressures will not have a material adverse effect on Elcotel's business, results of operations and financial condition. The market for international public communications is highly competitive, and numerous competitors are larger, better capitalized and have greater experience in marketing their products internationally. See "Technology Service Group, Inc.--Competition; Sales and Markets." Telecommunications technology is constantly changing. Alternative means of communicating, such as radio-based paging services, cellular mobile telephone services and personal communication services, are becoming more popular. To date, such alternative means of communicating have not reduced the need for or replaced payphones. As competing technologies are developed, however, or become substantially less expensive, there is some risk that public payphones will become less widely used. In such event, the demand for payphone products and services could be materially and adversely affected. Elcotel expects competition from such competing technologies. In addition, even if payphones continue to exist or proliferate world-wide, technological advances could occur that would render Elcotel's technology and know-how non-competitive. Such development would have a material adverse effect on Elcotel. See "Technology Service Group, Inc.--Competition." RISKS ASSOCIATED WITH INTERNATIONAL MARKET Elcotel's export sales to international markets approximated $1,920,000, $1,536,000, and $8,045,000 during fiscal 1995, 1996 and 1997, respectively. Conducting business internationally is subject to a number of potential risks, including political instability, foreign currency fluctuations, adverse movements in exchange rates, economic instability, the imposition of tariffs and import and export controls, changes in governmental policies (including U.S. policy toward foreign countries), general credit and business risks and other factors, one or more 16 of which, if they occur, could have an adverse effect on Elcotel's ability to generate international sales or operations. Elcotel's sales to date have been denominated in U.S. dollars and as a result, no losses related to currency fluctuations have been incurred. For the same reason, Elcotel has not engaged in currency hedging activities. There is no assurance, however, that Elcotel will be able to continue to export its products in U.S. dollar denominations or that its business will not become subject to significant exposure to foreign currency risks. Finally, many of Elcotel's known and potential international competitors have substantially more financial and other resources than Elcotel and, therefore, are formidable competitors. See "Technology Service Group, Inc.--Competition; Sales and Markets." TECHNOLOGICAL OBSOLESCENCE Because of rapid technological changes in the telecommunications industry, there can be no assurance that Elcotel's payphones will not be rendered obsolete or unmarketable in the future due to the introduction of new products or technological developments by other companies. Elcotel believes that it will be required to develop enhancements, new products and services in the future to remain competitive. See "Technology Service Group, Inc.--The Public Payphone Industry." GOVERNMENT REGULATION; POSSIBLE ADVERSE EFFECT OF FUTURE REGULATORY CHANGES Products and services offered by Elcotel and operated by its customers are subject to varying degrees of regulation at both the federal and state levels. There can be no assurance that changes in such regulation, if proposed and adopted, would not have an adverse impact on the operations of Elcotel and its customers. The privately owned pay telephone industry is highly regulated by the Federal Communications Commission (the "FCC") and the various state public utilities commissions. Certain of Elcotel's products must comply with FCC rules. Parts 15 and 68 establish technical standards and procedural and labeling requirements for equipment subject to those rules. While Elcotel believes that its products currently comply with the technical requirements of the FCC and the states, there can be no assurance that additional or different technical requirements will not be adopted which would require Elcotel to modify its telephones or that rate or other regulatory changes will not be adopted which might adversely affect Elcotel's operations or its customers. See "Technology Service Group, Inc.--Government Regulation." The Telecommunications Reform Act of 1996 requires that the FCC establish a per call compensation plan to ensure that all payphone service providers are fairly compensated for every completed intrastate and interstate call using their payphones. In September 1996, the FCC established an interim compensation plan for payphone service providers for access code and subscriber 800 calls. Under that interim compensation plan, payphone service providers were compensated at a flat rate of $45.85 per payphone per month (compared to the previous compensation of $6.00 per month) until September 1, 1997 and thereafter at the rate of $.35 per 800 or access code call. The United States Court of Appeals for the District of Columbia Circuit has vacated the FCC's action in adopting the interim compensation plan and remanded to the FCC for further consideration the issue of compensation for such calls on a permanent and interim basis. On October 9, 1997 the FCC issued an order addressing certain issues with respect to payphone compensation previously remanded to it by the Court of Appeals. The FCC set the per call compensation rate at $.284 per call during the period October 7, 1997 through October 6, 1999. After that period, the compensation rate would be whatever is charged at the phone for a local call, less $.066, the amount the FCC determined to be the avoided cost in completing a non-coin call. The FCC must still determine the compensation rate for the period November 6, 1996 through October 6, 1997 and which carriers must pay compensation for that period. It is likely that the FCC's latest action may also be challenged in court. The ultimate outcome with respect to per call compensation will have a significant impact on the business and operations of Elcotel's customers. Elimination or significant reductions in the amount, or delays in the payment, of per call compensation may reduce demand for payphones and the ability of Elcotel to collect its receivables from its customers. See "Technology Service Group, Inc.--Government Regulation." The Telecommunications Act of 1996 also deregulated many elements of the telecommunications industry as a means of stimulating competition. This deregulation could affect the payphone products industry. Although 17 Elcotel believes that deregulation generally will benefit it, there can be no assurance that Elcotel will benefit from deregulation or that it will not be adversely affected by deregulation. Elcotel will monitor future changes in federal and state regulations and may be required to modify its products to comply with additional technical requirements or other factors which could result in Elcotel's products not being in compliance with federal or state regulations. DIVIDENDS NOT LIKELY Elcotel does not anticipate paying any cash dividends to its stockholders in the foreseeable future. Elcotel's current borrowing arrangement with its bank prohibits Elcotel from paying cash dividends without the bank's consent. It is likely that any new borrowing arrangements entered into in connection with the Merger will have a similar prohibition. See "The Merger--Refinancing of TSG and Elcotel Indebtedness." CONTROL OF ELCOTEL Upon consummation of the Merger, Wexford and Fundamental will beneficially own in the aggregate approximately 30% of the outstanding Elcotel Common Stock. Pursuant to the Stockholders' Agreement to be entered into among Elcotel, Fundamental and Wexford (the "Fundamental/Wexford Stockholders' Agreement") on the Closing Date, Wexford and Fundamental have agreed to vote, during the period ending immediately after the second annual meeting of Elcotel stockholders which occurs after the Annual Meeting, all of their shares of Elcotel Common Stock in favor of any nominees for director of Elcotel nominated by the incumbent Elcotel Board. Fundamental and Wexford will have substantial influence over all matters requiring approval of the stockholders of Elcotel. The combined voting power of Fundamental and Wexford may have the effect of discouraging certain types of transactions involving an actual or potential change in control of Elcotel where such change in control is not in the interest of at least one of Fundamental or Wexford. DILUTION TO ELCOTEL STOCKHOLDERS The owners of the outstanding Elcotel Common Stock immediately prior to the Merger will own approximately 62%, and the former TSG stockholders will own approximately 38%, of the Elcotel Common Stock outstanding immediately after the consummation of the Merger. DEBT REFINANCING In connection with the consummation of the Merger, Elcotel intends to refinance the existing indebtedness of TSG to its bank and of Elcotel to its bank. Elcotel intends to seek a revolving line of credit of approximately $15 million for such refinancing. There can be no assurance that Elcotel will be able to obtain such a line of credit or as to the terms of such line of credit. See "The Merger--Refinancing of TSG and Elcotel Indebtedness." LIMITED NUMBER OF CUSTOMERS IN CERTAIN MARKETS TSG derives substantially all of its revenues from certain of the RBOCs. The loss of any one of such RBOC customers or a significant reduction in sales to such RBOCs would have a material adverse effect on TSG's business and, after the Merger, Elcotel's business. TSG's ability to maintain and increase its sales is dependent on its ability to compete for and maintain satisfactory relationships with the RBOCs, particularly TSG's current significant customers. Elcotel will be subject to this risk, although it will be lessened somewhat because the amount of sales to this limited number of customers will represent a smaller percentage of the total sales of Elcotel after the Merger than such amount represented as a percentage of TSG's total sales. See "Technology Service Group, Inc.--Sales and Markets." Pursuant to the Telecommunications Act of 1996, the RBOCs will be permitted to manufacture and provide telecommunications equipment and to manufacture customer premises equipment when certain competitive conditions have been met. It is possible that one or more RBOCs will decide to manufacture payphone products, which could cause Elcotel to compete with such RBOCs for customers. The existence of such a competitive relationship would decrease demand for Elcotel's products by such RBOCs. See "Technology Service Group, Inc.-- Government Regulation." 18 DEPENDENCE ON CERTAIN MANUFACTURERS; SINGLE SOURCES OF SUPPLY Elcotel generally assembles its smart payphone products from assemblies produced by certain manufacturers under contractual arrangements. To the extent that such manufacturers encounter difficulties in their production processes that delay shipment to Elcotel or that affect the quality of items supplied to Elcotel, Elcotel's ability to satisfy its sales obligations or otherwise to meet supply schedules with its customers can be adversely affected. In the event that contract manufacturers delay shipments or supply defective materials to Elcotel, and such delays or defects are material, Elcotel's customer relations could deteriorate and its sales and operating results could be materially and adversely affected. After the Merger, many of Elcotel's products in terms of revenues will contain components or assemblies that are purchased from single sources. Elcotel believes that there are alternative sources of supply for most of the components and assemblies currently purchased from single sources. Some of the components and assemblies used by Elcotel for which there are not immediately available alternative sources of supply are provided to Elcotel under standard purchase arrangements. If a shortage or termination of the supply of any one or more of such components or assemblies were to occur, however, Elcotel's business could be materially and adversely affected. In such event, Elcotel would have to incur the costs associated with redesigning its products to include available components or assemblies or otherwise obtain adequate substitutes, which costs could be material. Also, any delays with respect to redesigning products or obtaining substitute components would materially adversely affect Elcotel's business. See "Technology Service Group, Inc.-- Manufacturing, Assembly and Sources of Supply." FIXED PRICE PRODUCTS TSG's agreements with its manufacturers generally provide that TSG will bear certain cost increases incurred by the manufacturer. Accordingly, TSG's manufacturing costs may fluctuate based on costs incurred by its contract manufacturers and such fluctuations could have a material and adverse impact on Elcotel's earnings after the Merger. TSG's sales agreements with customers generally have fixed product prices with limited price escalation provisions. Consequently, there is a risk that after the Merger Elcotel may not be able to pass on price increases to those customers. In the event Elcotel's costs increase or orders are lost due to price increases, Elcotel's profitability would be adversely affected. See "Technology Service Group, Inc.--Sales and Markets." PATENTS AND TECHNOLOGY After the Merger, Elcotel will own several patents covering aspects of its payphone products. As a result of the Lucent Acquisition, Elcotel is licensed under several patents covering aspects of the payphone products acquired from Lucent. However, Elcotel views its business as not being primarily dependent upon patent protection. Elcotel does not believe that it is infringing on the patents of others. There can be no assurance, however, that infringement claims will not be asserted in the future or that the results of any patent related litigation would not be material to Elcotel. TSG has a license agreement under which certain minimum annual royalties must be paid to the licensor in the event that a patent for the licensed algorithm is issued. TSG management does not believe that a patent for the algorithm will be issued due to existing prior art, but TSG cannot assure that such patent will not be issued. If a patent were to be issued, significant royalties would be payable regardless of whether or not the algorithm is incorporated into TSG's products. See "Technology Service Group, Inc.--Licenses, Patents and Trademarks" and "Consolidated Financial Statements of "Technology Service Group, Inc." in Appendix C. POTENTIAL ENVIRONMENTAL LIABILITIES During the year ended March 28, 1997, TSG completed the evaluation, assessment and monitoring of soil and groundwater contamination at one of TSG's former facilities in Florida in accordance with requirements stipulated by the Florida Department of Environmental Protection (the "FDEP"), and in April 1997 received a formal "no further action status" notification for the site from the FDEP. Accordingly, TSG has not accrued any additional costs with respect to this site. It is possible, however, that the FDEP could reopen the investigation 19 in the future and require TSG to take further actions at the site. TSG cannot estimate a range of costs, if any, that it could incur in the future since such costs would be dependent upon the scope of additional actions, if any, that may be required by the State of Florida. During the year ended March 28, 1997, TSG was a Potentially Responsible Party ("PRP") for undertaking response actions at a facility for the treatment, storage, and disposal of hazardous substances operated by Seaboard Chemical Corporation from 1975 to 1989 at Jamestown, North Carolina. However, TSG, as a small generator "De Minimis" party, executed a buy-out agreement with respect to the remediation activities at a cost of approximately $8,200 during the year ended March 28, 1997. TSG believes, based on information presently available to TSG, that it has no further obligations with respect to the site. However, if additional waste is attributed to TSG, it is possible that TSG could be liable for additional costs. TSG cannot estimate a range of costs, if any, that it could incur in the future since such costs would be dependent upon the amount of additional waste, if any, that could be attributed to TSG. TSG has also been notified that it is a PRP with respect to response actions at the Galaxy/Spectron Superfund Site in Elkton, Maryland. TSG, however, is also a De Minimis party with respect to this site, and TSG believes its proportionate share of costs to undertake response actions will likely be insignificant. TSG has received notification that the De Minimis parties will be able to buy out and obtain a release from any further clean-up liability at the site at a cost presently estimated at $3.70 per gallon of contributed waste, which would amount to $2,849 with respect to TSG's contribution. TSG has not incurred any costs with respect to this site and believes that its ultimate costs will not be material. These potential environmental liabilities could have an adverse effect on Elcotel after the Merger. See "Technology Service Group, Inc.--Potential Environmental Liabilities." THE MEETINGS ELCOTEL ANNUAL MEETING General; Matters to be Considered The Elcotel Annual Meeting will be held at The Waterside Room, 216 Sarasota Quay, Sarasota, Florida 34236, on Friday, December 5, 1997, at 9:00 a.m., local time. The purpose of the Elcotel Annual Meeting is to consider and vote upon the following matters: (i) the election of a Board of Directors consisting of seven directors, with each director to serve until the next annual meeting of stockholders of Elcotel or until the election and qualification of his or her respective successor; (ii) the approval of the issuance of shares of Elcotel Common Stock in connection with the proposed merger of Merger Subsidiary with and into TSG pursuant to the Merger and any other actions as may be required in furtherance of the Merger; (iii) the approval of an amendment to the Certificate of Incorporation of Elcotel to increase the number of shares of Elcotel Common Stock authorized for issuance to 30,000,000; (iv) the ratification of the appointment of Deloitte & Touche llp as Elcotel's independent public accountants for the fiscal year ending March 31, 1998; (v) the approval of an amendment to the 1991 Stock Option Plan to increase by 500,000 the number of shares reserved for issuance pursuant to such plan; (vi) the approval of an amendment to the Directors Stock Option Plan to, among other things, increase by 50,000 the number of shares reserved for issuance pursuant to such plan; and (vii) the transaction of such other business as may properly come before the Elcotel Annual Meeting and any adjournment or postponement thereof, and matters incident to the conduct of the Annual Meeting. See "The Merger" and "Additional Matters Submitted to the Vote of Elcotel's Stockholders." Revocability of Proxies; Default Voting of Proxies Any person giving a proxy has the power to revoke it at any time before its exercise by a later dated proxy, a written revocation sent to the Secretary of Elcotel, or attendance at the Elcotel Annual Meeting and voting in person. In the absence of contrary instructions, properly executed proxies, received and unrevoked, will be voted 20 by the persons named in the proxy: (i) for the election of the directors nominated by the Elcotel Board; (ii) for approval of the issuance of shares of Elcotel Common Stock pursuant to the Merger Agreement and any other actions as may be required in furtherance of the Merger; (iii) for the approval of an amendment to the Certificate of Incorporation of Elcotel to increase the number of shares of Elcotel Common Stock authorized for issuance to 30,000,000; (iv) for the ratification of Deloitte & Touche llp as Elcotel's independent public accountants for the fiscal year ending March 31, 1998; (v) for the approval of an amendment to the 1991 Stock Option Plan to increase by 500,000 the number of shares reserved for issuance pursuant to such plan; (vi) for the approval of an amendment to the Directors Stock Option Plan to, among other things, increase by 50,000 the number of shares reserved for issuance pursuant to such plan; and (vii) in their discretion, on such other business as may properly come before the Elcotel Annual Meeting and matters incident to the conduct of the Elcotel Annual Meeting. Board of Directors' Recommendations THE ELCOTEL BOARD BY A VOTE OF 5 TO 2 HAS APPROVED THE MERGER AGREEMENT AND RECOMMENDS THAT ELCOTEL STOCKHOLDERS VOTE "FOR" THE APPROVAL OF THE ISSUANCE OF ELCOTEL COMMON STOCK PURSUANT TO THE MERGER AGREEMENT AND ANY OTHER ACTIONS REQUIRED IN FURTHERANCE OF THE MERGER. SEE "THE MERGER--ELCOTEL'S REASONS FOR THE MERGER; RECOMMENDATION OF THE ELCOTEL BOARD." THE ELCOTEL BOARD UNANIMOUSLY RECOMMENDS THAT ELCOTEL STOCKHOLDERS VOTE "FOR" (I) THE ELECTION OF THE DIRECTOR NOMINEES SPECIFIED HEREIN, (II) THE APPROVAL OF THE ELCOTEL AMENDMENT, (III) THE RATIFICATION OF THE APPOINTMENT OF DELOITTE & TOUCHE LLP AS ELCOTEL'S INDEPENDENT PUBLIC ACCOUNTANTS FOR THE FISCAL YEAR ENDING MARCH 31, 1998, (IV) THE APPROVAL OF THE AMENDMENT TO THE 1991 STOCK OPTION PLAN AND (V) THE APPROVAL OF THE AMENDMENTS TO THE DIRECTORS STOCK OPTION PLAN. SEE "THE MERGER--ELCOTEL'S REASONS FOR THE MERGER; RECOMMENDATION OF THE ELCOTEL BOARD." Record Date; Required Vote; Quorum. Only holders of record of Elcotel Common Stock at the close of business on the Elcotel Record Date (which is October 22, 1997) are entitled to receive notice of and to vote at the Elcotel Annual Meeting. At the close of business on the Elcotel Record Date, there were 8,210,352 shares of Elcotel Common Stock outstanding. Each share of Elcotel Common Stock is entitled to one vote on all matters presented to the Elcotel Annual Meeting with no right to vote cumulatively. Elcotel's Bylaws provide that the presence, in person or by proxy, of a majority of the issued and outstanding shares of Elcotel Common Stock entitled to vote at the Elcotel Annual Meeting will constitute a quorum. A quorum, once established, will not be broken by the withdrawal from the Elcotel Annual Meeting of enough votes to leave less than a quorum, and the votes present at the Elcotel Annual Meeting after the establishment of a quorum will be sufficient to transact all business at the Elcotel Annual Meeting. Shares represented by proxies that reflect abstentions or "broker non-votes" (i.e., shares held by a broker or nominee which are represented at the meeting, but with respect to which such broker or nominee is not empowered to vote on a particular proposal) will be counted as shares that are present and entitled to vote for purposes of determining the presence of a quorum. In the event that a quorum is not present at the Elcotel Annual Meeting, it is expected that the Elcotel Annual Meeting will be adjourned or postponed to solicit additional proxies, except that shares represented by proxies which have been voted "against," or have abstained with respect to the proposal to approve the issuance of shares of Elcotel Common Stock pursuant to the Merger Agreement and any other actions required in furtherance of the Merger, will not be used to vote "for" postponement or adjournment of the Elcotel Annual Meeting for the purpose of allowing additional time for soliciting additional votes "for" such adoption. 21 Approval of the amendment to the Certificate of Incorporation of Elcotel to increase the number of shares of Elcotel Common Stock authorized for issuance to 30,000,000 will require the affirmative vote of a majority of the shares of Elcotel Common Stock outstanding as of the Elcotel Record Date. Approval of the issuance of Elcotel Common Stock pursuant to the Merger Agreement (as required by rules applicable to companies whose securities are traded on the Nasdaq National Market), ratification of the appointment of Deloitte & Touche llp as the independent public accountants of Elcotel for the fiscal year ending March 31, 1998 and the approval of the amendments to the 1991 Stock Option Plan and the Directors Stock Option Plan will require the affirmative vote of a majority of the shares of Elcotel Common Stock present in person or represented by properly executed proxy at the Elcotel Annual Meeting. The election of each director will require the affirmative vote of a plurality of the shares of Elcotel Common Stock present in person or represented by properly executed proxy at the Elcotel Annual Meeting. Abstentions will be counted for purposes of determining the total number of votes cast with respect to a particular matter. Broker non-votes will not be counted for purposes of determining the number of votes cast with respect to the particular proposal on which the broker has expressly not voted. Broker non- votes with respect to Elcotel proposals set forth in this Joint Proxy Statement-Prospectus will therefore not be considered votes cast and, accordingly, will not affect the determination as to whether a majority of votes cast has been obtained with respect to a particular matter, other than with respect to the approval of the Elcotel Amendment which requires the affirmative vote of a majority of the outstanding shares of Elcotel Common Stock. Share Ownership of Officers, Directors and Certain Stockholders At the close of business on the Elcotel Record Date, directors and executive officers of Elcotel and their respective affiliates were the beneficial owners of an aggregate of approximately 2,308,961 shares (approximately 27.5%) of the Elcotel Common Stock then outstanding (which amount includes the shares owned by Fundamental referred to in the next sentence). As of the Elcotel Record Date, Fundamental owned an aggregate of 1,439,223 shares (approximately 17.5%) of the Elcotel Common Stock then outstanding. See "Other Information Regarding Elcotel--Security Ownership of Certain Beneficial Owners and Management." Pursuant to a Voting Agreement, dated as of August 13, 1997, among Elcotel, Wexford, Fundamental, Vincent Bisceglia and C. Shelton James ("Voting Agreement"), Fundamental has agreed to vote its shares of Elcotel Common Stock in favor of the issuance of Elcotel Common Stock in connection with the Merger and has generally agreed not to transfer such shares before the consummation of the Merger or termination of the Merger Agreement. Such agreement increases the likelihood that the vote of the Elcotel stockholders required for the issuance of Elcotel Common Stock in connection with the Merger will be obtained. See "The Voting Agreement." TSG SPECIAL MEETING General; Matters to be Considered The TSG Special Meeting will be held at Deloitte & Touche llp, 125 Summer Street, Boston, MA 02110 on Friday, December 5, 1997, at 10:00 A.M., local time. The purpose of the TSG Special Meeting is to consider and vote upon the following matters: (i) the approval of the Merger Agreement and any other actions as may be required in furtherance of the Merger; and (ii) the transaction of such other business as may properly come before the TSG Special Meeting and any adjournment or postponement thereof, and matters incident to the conduct of the TSG Special Meeting. Revocability of Proxies; Default Voting of Proxies Any person giving a proxy has the power to revoke it at any time before its exercise by a later dated proxy, a written revocation sent to the Secretary of TSG, or attendance at the TSG Special Meeting and voting in person. In the absence of contrary instructions, properly executed proxies, received and unrevoked, will be voted by the persons named in the proxy: (i) for the approval of the Merger Agreement and any other actions as may be required in furtherance of the Merger; and (ii) in their discretion, on such other business as may properly come before the TSG Special Meeting and matters incident to the conduct of the TSG Special Meeting. 22 Board of Directors' Recommendations THE TSG BOARD HAS UNANIMOUSLY APPROVED THE MERGER AGREEMENT AND UNANIMOUSLY RECOMMENDS THAT TSG STOCKHOLDERS VOTE "FOR" THE APPROVAL OF THE MERGER AGREEMENT AND ANY OTHER ACTIONS AS MAY BE REQUIRED IN FURTHERANCE OF THE MERGER. SEE "THE MERGER--TSG'S REASONS FOR THE MERGER; RECOMMENDATION OF THE TSG BOARD." Record Date; Required Vote; Quorum. Only holders of record of TSG Common Stock at the close of business on the TSG Record Date (which is October 22, 1997) are entitled to receive notice of and to vote at the TSG Special Meeting. At the close of business on the TSG Record Date, there were 4,708,851 shares of TSG Common Stock outstanding. Each share of TSG Common Stock is entitled to one vote on all matters presented to the TSG Special Meeting with no right to vote cumulatively. TSG's Bylaws provide that the presence, in person or by proxy, of a majority of the issued and outstanding shares of TSG Common Stock entitled to vote at the TSG Special Meeting will constitute a quorum. A quorum, once established, will not be broken by the withdrawal from the TSG Special Meeting of enough votes to leave less than a quorum, and the votes present at the TSG Special Meeting after the establishment of a quorum will be sufficient to transact all business at the TSG Special Meeting. Shares represented by proxies that reflect abstentions or "broker non-votes" (i.e., shares held by a broker or nominee which are represented at the meeting, but with respect to which such broker or nominee is not empowered to vote on a particular proposal) will be counted as shares that are present and entitled to vote for purposes of determining the presence of a quorum. Approval of the Merger Agreement will require the affirmative vote of a majority of the shares of TSG Common Stock outstanding as of the TSG Record Date. Because Wexford (which owns approximately 52% of the shares of TSG Common Stock outstanding and has generally agreed not to transfer those shares before the consummation of the Merger or termination of the Merger Agreement) has agreed to vote those shares in favor of the approval of the Merger Agreement, such agreement ensures that the vote of TSG stockholders required to approve the Merger Agreement will be obtained. See "The Voting Agreement." Abstentions will be counted for purposes of determining the total number of votes cast with respect to a particular matter. Broker non-votes will not be counted for purposes of determining the number of votes cast with respect to the particular proposal on which the broker has expressly not voted. Broker non-votes with respect to TSG proposals set forth in this Joint Proxy Statement-Prospectus will therefore not be considered votes cast. Accordingly, broker non-votes will affect the determination as to whether a majority of votes cast has been obtained with respect to the approval of the Merger Agreement, which approval will require the affirmative vote of a majority of the outstanding shares of TSG Common Stock, but may not affect the determination as to whether a majority of votes has been obtained with respect to any other matters as may be voted upon. However, as indicated above, approval of the Merger Agreement by the stockholders of TSG is ensured because Wexford has agreed to vote its shares in favor of the approval of the Merger Agreement. Share Ownership of Officers, Directors and Certain Stockholders At the close of business on the TSG Record Date, directors and executive officers of TSG and their affiliates were the beneficial owners of an aggregate of approximately 3,276,854 shares (approximately 65%) of the TSG Common Stock then outstanding (which amount includes the shares owned by Wexford referred to in the next sentence). As of the TSG Record Date, Wexford owned an aggregate of 2,444,286 shares (approximately 52%) of the TSG Common Stock then outstanding. See "Directors and Executive Officers of TSG--Security Ownership of Certain Beneficial Holders and Management." Wexford has agreed to vote its shares of TSG Common Stock in favor of the approval of the Merger Agreement and has generally agreed not to transfer such shares before the consummation of the Merger or termination of the Merger Agreement. Such agreement ensures that the vote of TSG stockholders required to consummate the Merger will be obtained. See "The Voting Agreement." 23 SOLICITATION OF PROXIES Proxies are being solicited hereby on behalf of the Elcotel Board and the TSG Board. In addition to the use of the mails, solicitation may be made in person or by telephone or otherwise by directors, officers and regular employees of Elcotel and TSG. Such directors, officers and regular employees will not be additionally compensated for such solicitation, but may be reimbursed for out-of-pocket expenses incurred in connection therewith. If undertaken, the expense of such solicitation is expected to be nominal. Elcotel may retain the services of third parties to aid in the solicitation of proxies. Arrangements will also be made with brokerage houses and other custodians, nominees and fiduciaries for the forwarding of solicitation material to the beneficial owners of Elcotel Common Stock and TSG Common Stock. Elcotel and TSG will reimburse such custodians, nominees and fiduciaries for reasonable out-of-pocket expenses incurred in connection therewith. THE MERGER GENERAL The description of the Merger and the Merger Agreement contained in this Joint Proxy Statement-Prospectus does not purport to be complete and is qualified in its entirety by reference to the Merger Agreement, a copy of which is attached hereto as Appendix A and incorporated herein by reference. At the Effective Time, Merger Subsidiary will merge with and into TSG, leaving TSG as the surviving corporation in the Merger and a wholly-owned subsidiary of Elcotel. The Merger will become effective at such time as the certificate of merger is filed with the Delaware Secretary of State, or at such later time as is agreed by Elcotel and TSG and specified in the certificate of merger. The filing of the certificate of merger will occur no later than the fifth business day after satisfaction or waiver of the conditions precedent to the consummation of the Merger (see "The Merger Agreement--General Conditions Precedent to the Merger") unless another date is agreed to in writing by Elcotel, TSG and Merger Subsidiary. At the Effective Time, each share of TSG Common Stock issued and outstanding immediately prior to the Effective Time (other than shares of TSG Common Stock owned by TSG as treasury stock and shares of TSG Common Stock owned by Elcotel or any subsidiary of Elcotel or TSG), will automatically be converted into the right to receive 1.05 fully paid and nonassessable shares of Elcotel Common Stock. Holders of TSG Stock Options will receive options and rights to purchase, at a proportionately reduced per share exercise price, a number of shares of Elcotel Common Stock equal to 1.05 times the number of shares of TSG Common Stock they were entitled to purchase immediately prior to the Effective Time under such TSG Stock Options. Holders of TSG Warrants will receive warrants to purchase, at a proportionately reduced per share exercise price, a number of shares of Elcotel Common Stock equal to 1.05 times the number of shares of TSG Common Stock they were entitled to purchase immediately prior to the Effective Time under such TSG Warrants. BACKGROUND OF THE MERGER In the third calendar quarter of 1994, Elcotel and TSG had preliminary discussions with respect to a possible purchase of TSG by Elcotel. Elcotel made two offers to purchase TSG for combinations of cash and Elcotel Common Stock. TSG rejected both offers in favor of Wexford's offer to purchase TSG for cash only. For a description of the acquisition of TSG by Wexford, see "Technology Service Group, Inc.--History." On January 30, 1997, Rodney O'Connor and Robert L. Reisley of Cameron Associates, a financial adviser to Elcotel, met with C. Shelton James, Chief Executive Officer and Chairman of the Board of Elcotel, and Tracey Gray, President of Elcotel, at Elcotel's headquarters to discuss strategic alternatives to maximize shareholder value, including the sale of Elcotel to a third party, a merger and/or the acquisition of one or more companies operating in the public communications equipment industry. TSG was identified as an attractive acquisition target because the two companies complement one another in terms of their respective customer bases, product lines and market focus. Several other benefits were also identified including the potential for gross margin 24 improvement and consolidation savings, greater industry visibility, synergies in marketing, and, if the transaction were structured as a merger, greater liquidity for investors due to an increase in the public float of the combined company's stock. In early February 1997, Vincent Bisceglia, the President and Chief Executive Officer of TSG, received a telephone call from Mr. Gray regarding Elcotel's interest in exploring a possible combination of TSG and Elcotel. Mr. Bisceglia was receptive to the concept. Pursuant to authorization from Mr. James, Mr. Reisley contacted TSG's Chairman of the Board, David Steadman, to discuss the potential benefits of merging the two companies. Mr. Steadman indicated that he understood the rationale for the combination and recommended that, in view of the size of Wexford's holding of TSG stock, Mr. Reisley contact Robert M. Davies, Executive Vice President of Wexford Management. Mr. Bisceglia had a further discussion with Mr. Gray on February 19, 1997 concerning the structure of a merger and the advantages and problems that might be encountered in a combination of the two companies. On February 21, 1997, Messrs. Reisley and O'Connor of Cameron Associates and Messrs. Davies and Mark L. Plaumann of Wexford Management met in the offices of Wexford Management. Mr. Reisley and Mr. O'Connor reviewed the merits of combining Elcotel and TSG and proposed merging the two companies in a cashless transaction, in which TSG stockholders would receive shares of Elcotel Common Stock. Mr. Davies indicated that he held similar views regarding consolidation opportunities and as the investment manager of the majority stockholder of TSG, Wexford Management would consider such a transaction based on an appropriate valuation of TSG and adequate representation on the combined company's board of directors. The parties agreed to exchange certain financial information and to instruct Mr. Gray and Mr. Bisceglia to begin discussions regarding the management and organizational structure of a combined company. On February 27, 1997, TSG and Elcotel executed a confidentiality agreement with respect to information to be exchanged by the two companies. During the first two weeks of March 1997, the parties exchanged financial information and began preliminary negotiations on a transaction structure. Messrs. Gray and Bisceglia also met several times to discuss the organizational structure and customer-related issues involved in a combination of the two companies. On March 14, 1997, the TSG Board held a meeting at which Mr. Bisceglia reported on the meetings that had taken place between Wexford Management, on behalf of Wexford, and Cameron Associates. Mr. Bisceglia noted that over the prior eighteen months he had had discussions with five different companies in the payphone industry about possible acquisitions, none of which proceeded beyond the preliminary discussion stage. He also reminded directors that TSG had had discussions with Elcotel in 1994 when TSG was in the beginning stages of its restructuring. The TSG Board then discussed the fact that TSG and Elcotel could complement each other as to products, customers and technology since Elcotel sells mainly to the private payphone market, while TSG's main customers are the RBOCs. Mr. Plaumann, a director of TSG and an officer of Wexford Management, presented to the TSG Board an analysis showing that there could be both margin and consolidation savings in a merger of the two companies and that the resulting entity would be approximately twice the current size of TSG. Directors discussed TSG's options for going forward and concluded by giving management authorization to continue discussions with Elcotel. On March 20, 1997, Mr. Bisceglia had a further discussion with Mr. Gray about the composition of the board of directors, key management positions and employment agreements for certain employees of the combined entity. On April 7, 1997, representatives of TSG, Wexford Management, Fundamental and Elcotel met in New York City in an attempt to establish a basis for continuing merger discussions. The parties decided to work toward a definitive merger agreement in parallel with the continuation of a due diligence investigation by each company into the business, operations and finances of the other company. On April 9, 1997, Messrs. Bisceglia and Gray discussed the information each company would need to conduct the due diligence review. At the Elcotel Board meeting held on April 14, 1997, Mr. James and Mr. Gray informed the Elcotel Board that they had had informal preliminary discussions, through Mr. Reisley of Cameron Associates, concerning a 25 possible merger with TSG. Messrs. James and Gray reported that TSG was in the payphone and refurbishment business, with TSG's customer base consisting of large telcos and some international customers. A business combination would be complementary since Elcotel's strengths were in the independent payphone operator market whereas TSG's biggest market was the telco market and international wireless market. Preliminary discussions contemplated the merger to be non-dilutive with an approximate one-to-one exchange of shares, giving Elcotel stockholders approximately 62% and TSG stockholders approximately 38% of the company after the merger. The Elcotel Board authorized Elcotel management to proceed with a due diligence investigation of TSG. At the TSG Board meeting held on April 15, 1997, Mr. Bisceglia reported to directors on the April7 meeting in New York City. After a discussion, the TSG Board decided that all but the most sensitive due diligence investigation should be completed by both companies before signing a definitive merger agreement. The TSG Board also discussed the advisability of retaining a firm knowledgeable in the industry to do an independent analysis of Elcotel and its technology so that the TSG Board could be as fully informed as possible. In that connection, the TSG Board authorized management to retain Corporate Builders L.P. through one of its principals, Glenn Bierman, an individual who had done an analysis of Elcotel for TSG in the past. At this meeting, Mr. Plaumann reported that his discussions with Elcotel on behalf of Wexford were centering on an exchange ratio of 1.05 shares of Elcotel Common Stock for each share of TSG. During the week of May 12, 1997, Elcotel personnel and its counsel visited the New York offices of TSG's counsel to review various due diligence materials of TSG. TSG personnel conducted a similar due diligence review at the Philadelphia offices of Elcotel's counsel the following week. On May 16, 1997, TSG's Board met to review the proposed merger and received a preliminary report from Glenn Bierman in which he reviewed the work he had done to date and indicated that in his view the merger as proposed would be beneficial to TSG. On May 22, 1997, the Elcotel Board met, and Mr. Gray updated the Elcotel Board on the results of the due diligence review held the previous week at the New York offices of TSG's counsel and further discussions with TSG about a possible merger. After discussions, the Elcotel Board unanimously determined that the proposal to merge the two companies was unacceptable as presented, due to Elcotel's concern about TSG's ability to achieve its revenue projections and to improve its gross margins. The Elcotel Board voted to cease the due diligence review. After the Elcotel Board meeting, Mr. Reisley informed Mr. Plaumann of Elcotel's concerns. At Mr. Plaumann's suggestion, he and Mr. Bisceglia met with Mr. Gray and Mr. Reisley on June 4, 1997 to discuss Elcotel's concerns. Mr. Bisceglia provided additional details on the potential to increase revenues and improve gross margins, and information on a new contract not included in its business plan, all of which attempted to address the concerns raised by Elcotel. At the June 9, 1997 meeting of the Elcotel Board, Mr. James advised the Elcotel Board that since its May 22, 1997 meeting, Mr. Gray and Mr. Bisceglia had had further discussions, and that TSG had provided additional information to Elcotel to support TSG's potential to increase its revenues and improve gross margins. Mr. Gray discussed TSG's revenue sources, TSG's technology and the basis for potential gross margin improvements. He also described TSG's new smart phone board and the potential markets for that product. Mr. James requested authority to proceed with the due diligence review of TSG and to have Elcotel management report the results to the Elcotel Board. After extensive discussion, the Elcotel Board concluded that it was advisable to allow management to proceed with the due diligence review in order to evaluate whether there was an opportunity for Elcotel to increase shareholder value. All members of the Elcotel Board voted in favor of the motion, except Mr. Thomas Wiltse, who voted against. Mr. Wiltse stated that Elcotel should focus on its current business plan, and that pursuing the merger with TSG could have an adverse impact on Elcotel's ability to implement its business plan. Mr. Wiltse expressed continued concerns about TSG's ability to achieve its projections, the level of TSG's debt and the amount of goodwill created by the proposed transaction. Mr. Wiltse made a written submission to the Elcotel Board, dated June 9, 1997, explaining his position. 26 At TSG's Board meeting held on June 24, 1997, Mr. Bisceglia reported to the TSG Board on the progress of TSG's due diligence investigation of Elcotel. Mr. Bierman of Corporate Builders L.P. joined the meeting to brief directors on his analysis of Elcotel and TSG and to report that in his view the proposed merger with Elcotel would be advantageous for TSG from a financial, business and technological point of view. The TSG Board then discussed at length the merits of the proposed merger, including that the stock of both companies is thinly traded and that the stock prices of the companies are not indicative of their values. The TSG Board also noted that Elcotel has a large number of customers, growth in its international sales, and excellent margins, while by comparison, TSG has a relatively smaller number of larger customers, lower margins, and is only starting to penetrate international markets. The Board then decided to continue with the merger negotiations on the basis of the proposed 1.05 to 1 exchange ratio. The TSG Board also considered whether to seek a fairness opinion from an investment bank with respect to the proposed merger. In concluding that it was not necessary or useful to do so, the Board took into account the work done to date by Corporate Builders L.P. to evaluate the proposed merger, the familiarity of TSG's management with Elcotel arising from the discussions held in 1994, and the strategic (as opposed to the purely financial) reasons, for the merger. The Board decided that it should obtain some general financial advice and support in connection with the ongoing negotiations and decided to retain Wexford Management to provide analytical support, liaison with Elcotel's representatives, and assistance with negotiations and valuations for a fee of $200,000 (including expenses) payable only if the Merger is consummated. See "The Merger--Interests of Certain Parties and Employee Matters." On July 14, 1997, Mr. Bisceglia and William Thompson, Chief Financial Officer of TSG, attended an Elcotel Board meeting at the invitation of Mr. Gray. Mr. Bisceglia made a presentation describing TSG's domestic and international markets, and answered questions from Elcotel Board members. Mr. James explained the reasons he believed the merger was a sound strategy to increase shareholder value. He stated that the combination of Elcotel and TSG would create a company that would be the largest supplier of payphone products in the United States and that the combined company could gain critical mass in the international markets. He further stated that the merger was advisable due to the economies of scale to be realized. A motion was approved to give management authority to negotiate and enter into a definitive merger agreement, subject to obtaining a fairness opinion, director review of the definitive agreement and completion of a due diligence and financial review. Messrs. Gray, James, Jasmann, Moore and Patton voted for the motion and Mr. Suplee voted against the motion, stating that he was in favor of the Merger, but that the purchase price was too high. Mr. Wiltse was not present at the meeting. On July 16, 1997, the TSG Board met to discuss the formal written report of Corporate Builders L.P., a due diligence analysis of Elcotel prepared by the management of TSG, and some comparative analyses prepared by Wexford Management. At the meeting, Mr. Bisceglia advised the directors of an informal agreement concerning the composition of the post-merger board of directors. Directors decided that both the board structure and the composition of senior management should be made a formal part of the merger agreement so that TSG's stockholders would have assurance as to the management of the combined entities for at least the first year after the Merger. Mr. Plaumann reported to the Board that he had found little information about comparable companies against which to measure Elcotel and its relative value to TSG. The Board then voted to proceed with negotiations and formally approved the agreement by which Wexford Management was engaged as the TSG financial advisor. At the July 22, 1997 telephonic meeting of the Elcotel Board, Mr. Gray reported on TSG's current sales projections and TSG's backlog of domestic sales. He also reported that TSG had signed a new sales contract with an RBOC that was expected to provide incremental revenue not reflected in TSG's projections. Members of the Elcotel Board discussed TSG's ability to achieve its forecasts. The Board discussed several firms as possible candidates to deliver a fairness opinion, and approved the selection of Murray Devine. On July 31, 1997 members of Elcotel's management visited TSG's Roswell, Georgia headquarters to review strategy for the combined entity and to discuss technology, product and customer issues. 27 At its August 5, 1997 meeting, the Elcotel Board discussed the near final draft of the Merger Agreement and related documents. Several due diligence reports were presented. Representatives of Murray Devine orally advised the Elcotel Board that in Murray Devine's opinion, the Merger was fair, from a financial point of view, to Elcotel. Murray Devine also discussed the procedures it had performed and its analysis. The Elcotel Board discussed various questions raised by individual board members. After extensive discussion, the Elcotel Board approved the current draft of the Merger Agreement and the Merger by a vote of 5 to 2. Messrs. Gray, James, Jasmann, Moore and Patton voted to approve the Merger and Messrs. Suplee and Wiltse voted against. On August 11, 1997, the TSG Board held a special meeting to review a near final draft of the Merger Agreement, the Voting Agreement and both companies' disclosure schedules. Directors discussed some of the key merger terms, including the Exchange Ratio, the treatment of warrant and option holders, the representations, warranties and covenants being made by TSG in the Merger Agreement, the terms under which the Merger Agreement may be terminated by one or both of the parties, and the effect on the Merger of the Voting Agreement. Mr. Bisceglia noted that he had been informed that Elcotel's financial adviser had rendered an affirmative opinion as to the fairness of the Merger Agreement to the stockholders of Elcotel from a financial point of view and that the Elcotel Board had approved the Merger Agreement. At the end of the meeting, TSG's directors adopted formal resolutions by which they stated their opinion that the terms of the Merger are fair and in the best interests of TSG and its stockholders; authorized management to sign the Merger Agreement on behalf of TSG; granted to management the authority to negotiate improvements in the terms and conditions to the extent they are able to do so; and authorized the call of a meeting of stockholders to consider the approval of the Merger. On August 13, 1997, representatives of Elcotel and TSG executed the Merger Agreement, and Fundamental, Wexford and Elcotel and the other parties executed the Voting Agreement. On August 14, 1997, Elcotel and TSG each issued a press release announcing the proposed Merger. ELCOTEL'S REASONS FOR THE MERGER; RECOMMENDATION OF THE ELCOTEL BOARD The Elcotel Board has approved the Merger Agreement and recommended that the stockholders of Elcotel vote to approve the issuance of Elcotel Common Stock pursuant to the Merger Agreement and any other actions required in furtherance of the Merger. In reaching its conclusion, the Elcotel Board considered a number of factors, including: . The judgment and advice of Elcotel's senior management, including in respect of the conditions in the payphone industry and the strategic options available to Elcotel. . The oral analyses and opinion of Murray Devine presented to the Elcotel Board on August 5, 1997 and written opinion dated August 5, 1997, to the effect that as of such date the Exchange Ratio is fair to the stockholders of Elcotel from a financial point of view. A copy of the written opinion dated August 5, 1997 of Murray Devine, setting forth the assumptions made, factors considered and scope of the review undertaken by Murray Devine, is attached as Appendix B hereto. Elcotel stockholders are urged to read the opinion of Murray Devine carefully and in its entirety. See "The Merger--Opinion of Murray Devine; Background of the Merger." . The financial condition, results of operations and cash flows of Elcotel and TSG, both on a historical and a prospective basis. . The terms and conditions of the Merger Agreement, including the amount and form of consideration to be paid pursuant to the Merger Agreement. . Historical market prices and trading information with respect to Elcotel Common Stock and TSG Common Stock. . The Voting Agreement which provides, among other things, for Fundamental to vote its shares of Elcotel Common Stock, and for Wexford to vote its shares of TSG Common Stock, in favor of adoption of the Merger Agreement. 28 . Complementary technologies and market positions of TSG and Elcotel. . Ability of the combined company to take advantage of domestic and international sales opportunities. . Increased interest from the investment community and an expanded trading market for Elcotel Common Stock. The foregoing discussion of the information and factors considered and given weight by the Elcotel Board is not intended to be exhaustive. In view of the variety of factors considered in connection with its evaluation of the Merger, the Elcotel Board did not find it practicable to and did not attempt to rank or assign relative weights to the foregoing factors. In addition, individual members of the Elcotel Board may have given different weights to different factors. Elcotel's business combination with TSG pursuant to the Merger is an integral part of Elcotel's strategy to expand into the telco markets domestically, improve its cellular based technology for international applications and establish a service capability related to payphone repair, reconditioning and refurbishing. Elcotel's acquisition of TSG pursuant to the Merger supports a number of important strategic objectives of Elcotel. Elcotel believes the Merger will enable Elcotel to achieve market diversification, and in particular, to provide Elcotel with a meaningful share of the market for sales of payphones to RBOCs which it has yet to penetrate. Elcotel believes the Merger will position Elcotel as a major supplier to both domestic and international payphone markets offering a more complete line of products. Following the Merger, as soon as reasonably practicable, Elcotel expects to rename all TSG entities Elcotel-TSG and integrate them with Elcotel's operations. Elcotel believes the elimination of duplicate overhead expenses may result in a reduction in annual combined operating costs, beginning during the six-month period after the Effective Time. In addition, Elcotel believes that there are other cost reductions and cost avoidance opportunities presented by the Merger (including eliminating duplicate sales and marketing activities, eliminating duplicate development programs, achieving manufacturing cost reductions from higher volume and improvements in TSG's processes, and reducing inventories and manufacturing overhead expenses), as well as opportunities for enhanced revenue growth from the telephone companies in the domestic and international markets. Elcotel believes that the potential cost reductions from the integration of TSG's business, the avoidance of costs and expenses that would be incurred by TSG and Elcotel as separate entities, and the potential revenue enhancements will enable the combined business to absorb the amortization of intangible assets, including goodwill, resulting from the Merger. However, there can be no assurance in that regard. THE ELCOTEL BOARD BY A VOTE OF 5 TO 2 HAS RECOMMENDED THAT THE HOLDERS OF ELCOTEL COMMON STOCK VOTE "FOR" ADOPTION OF THE ISSUANCE OF ELCOTEL COMMON STOCK PURSUANT TO THE MERGER AGREEMENT AND ANY OTHER ACTIONS REQUIRED IN FURTHERANCE OF THE MERGER. OPINION OF MURRAY DEVINE Elcotel engaged Murray Devine to act as its financial advisor in connection with the transactions contemplated by the Merger Agreement based upon Murray Devine's qualifications, expertise and reputation. On August 5, 1997, Murray Devine rendered an oral opinion to the Elcotel Board which was confirmed by delivery of its written opinion dated August 5, 1997 (the "Murray Devine Opinion") to the effect that, as of such date, and based upon and subject to the assumptions, limitations and qualifications set forth in such opinion, the Merger pursuant to the Merger Agreement is fair, from a financial point of view, to Elcotel. THE FULL TEXT OF THE MURRAY DEVINE OPINION IS SET FORTH AS APPENDIX B TO THIS JOINT PROXY STATEMENT-PROSPECTUS AND SHOULD BE READ CAREFULLY IN ITS ENTIRETY, INCLUDING WITHOUT LIMITATION THE DESCRIPTIONS OF THE PROCEDURES FOLLOWED, ASSUMPTIONS MADE, OTHER MATTERS CONSIDERED AND LIMITATIONS OF THE REVIEW UNDERTAKEN IN ARRIVING AT SUCH OPINION. THE MURRAY DEVINE OPINION ADDRESSES 29 THE FAIRNESS OF THE MERGER TO ELCOTEL FROM A FINANCIAL POINT OF VIEW AND DOES NOT CONSTITUTE A RECOMMENDATION TO ANY STOCKHOLDER OF ELCOTEL OR TSG AS TO HOW SUCH STOCKHOLDER SHOULD VOTE AT THE ELCOTEL ANNUAL MEETING OR TSG SPECIAL MEETING. The Murray Devine Opinion does not constitute an opinion as to the price at which Elcotel Common Stock will actually trade at any time. The type and amount of consideration was determined in arm's length negotiations between Elcotel and TSG in which negotiations Cameron Associates, not Murray Devine, advised Elcotel. No restrictions or limitations were imposed upon Murray Devine with respect to the investigations made or procedures followed by Murray Devine in rendering its opinion. In arriving at its opinion, Murray Devine, among other things: (i) reviewed the Merger Agreement and other related documents; (ii) reviewed such publicly available business and financial information relating to Elcotel and TSG as Murray Devine deemed appropriate; (iii) reviewed certain internal financial and operating information relating to Elcotel and TSG (including financial plans) prepared by their respective managements; (iv) discussed the past and current operations and financial condition and prospects of Elcotel with the senior management of Elcotel; (v) discussed the past and current operations and financial condition and prospects of TSG with the senior management of TSG; (vi) reviewed pro forma financial statements (including financial plans) of Elcotel and TSG on a combined basis (the "Combined Companies") prepared jointly by the management of Elcotel and TSG; and (vii) reviewed recent stock market data relating to Elcotel and TSG. In addition, Murray Devine compared certain financial and securities data of Elcotel and TSG with various other companies whose securities are traded in public markets and conducted such other financial studies, analyses and investigations as Murray Devine deemed appropriate for purposes of rendering its opinion. In rendering its opinion, Murray Devine did not independently verify any of the foregoing information and relied on its being complete and accurate in all material respects and further relied upon the assurances of Elcotel management that they are unaware of any facts that would make the information provided to Murray Devine incomplete or misleading in any material respect. Murray Devine also assumed that the financial plans have been reasonably prepared on a basis reflecting the best currently available estimates and judgments of Elcotel's and TSG's management as to the expected future financial performance of Elcotel and TSG. Murray Devine did not make any independent evaluation or appraisal of the individual assets of Elcotel or TSG, nor was Murray Devine furnished with any such appraisals. The Murray Devine opinion is necessarily based on economic, market, financial and other conditions as they existed on, and on information made available to it as of, the date of its opinion. Murray Devine does not have any obligation to revise or reaffirm its opinion before the Effective Time or thereafter. Murray Devine was selected to render an opinion in connection with the Merger based upon Murray Devine's qualifications, expertise and reputation, including the fact that Murray Devine, as part of its investment banking business, is regularly engaged in the valuation of businesses and their securities in connection with mergers and acquisitions, and valuations for corporate and other purposes. Murray Devine received a non-contingent fee of $100,000. TSG'S REASONS FOR THE MERGER; RECOMMENDATION OF THE TSG BOARD On August 11, 1997, the TSG Board, by unanimous vote, approved the Merger Agreement and the transactions contemplated thereby (including the Merger) and decided to recommend adoption of the Merger Agreement and the transactions contemplated thereby to TSG's stockholders. In reaching these conclusions, the TSG Board considered, among other things, the following factors: . The terms and conditions of the Merger Agreement, including the amount and form of consideration to be paid pursuant to the Merger Agreement. 30 . Historical market prices and trading information with respect to Elcotel Common Stock and TSG Common Stock. . The Voting Agreement which provides, among other things, for Wexford to vote its shares of TSG Common Stock and for Fundamental to vote its shares of Elcotel Common Stock, in favor of adoption of the Merger Agreement. The foregoing discussion of the information and factors considered by the TSG Board is not intended to be exhaustive, but includes material factors considered by the Board. In reaching its determination to approve the Merger Agreement and the transactions contemplated thereby, the TSG Board did not assign any relative or specific weights to the various factors considered by it nor did it specifically characterize any factor as positive or negative (except as described above), and individual directors may have given different weights to different factors and may have viewed certain factors more positively or negatively than others. TSG's merger with Elcotel is an essential element of TSG's strategy to build critical mass, broaden its customer base and enhance its product offering. TSG's strategy to combine with Elcotel is reflective of the combined companies' strategy to become a leading global provider of public communications products and services. FOR THE REASONS DESCRIBED ABOVE, THE TSG BOARD UNANIMOUSLY RECOMMENDS THAT THE HOLDERS OF TSG COMMON STOCK VOTE "FOR" APPROVAL OF THE MERGER AGREEMENT AND THE APPROVAL OF ANY OTHER ACTIONS REQUIRED IN FURTHERANCE OF THE MERGER. CERTAIN FEDERAL INCOME TAX CONSEQUENCES Following is a summary of material federal income tax consequences of the Merger based on current law. Neither Elcotel nor TSG has requested or will request any ruling from the IRS as to the United States federal income tax consequences of the Merger. Future legislative, judicial or administrative changes or interpretations, which may be retroactive, could alter or modify the statements set forth herein. This summary may not apply to certain classes of taxpayers, including, without limitation, insurance companies, tax-exempt organizations, financial institutions, dealers in securities, nonresident aliens, foreign corporations, persons who acquired shares of TSG Common Stock pursuant to the exercise of employee stock options or rights or otherwise as compensation, and persons who hold shares of TSG Common Stock in a hedging transaction or as part of a straddle or conversion transaction. Also, this summary does not address state, local or foreign tax consequences of the Merger. Consequently, each holder of TSG Common Stock (a "Holder") should consult such Holder's own tax advisor as to the specific tax consequences of the Merger to such Holder. The Merger is intended to be treated as a "reorganization" within the meaning of Section 368(a) of the Code. Accordingly, for federal income tax purposes, no income, gain or loss will be recognized by either Elcotel or TSG as a result of the Merger, and Holders who exchange shares of TSG Common Stock for shares of Elcotel Common Stock pursuant to the Merger will be treated as follows: (i) no income, gain or loss will be recognized by a Holder with respect to the receipt of Elcotel Common Stock; (ii) the aggregate adjusted tax basis of shares of Elcotel Common Stock (including a fractional share interest in Elcotel Common Stock deemed received and redeemed as described in (iv) below) received by a Holder will be the same as the aggregate adjusted tax basis of the shares of TSG Common Stock exchanged therefor; (iii) the holding period of shares of Elcotel Common Stock (including the holding period of a fractional share interest in Elcotel Common Stock deemed received and redeemed as described in (iv) below) received by a Holder will include the holding period of the TSG Common Stock exchanged therefor, provided that such shares of TSG Common Stock are held as capital assets at the Effective Time; and (iv) a Holder of TSG Common Stock who receives cash in lieu of a fractional share interest in Elcotel Common Stock will be treated as having received such fractional share interest and then as having received the cash in redemption of such fractional share interest. 31 It is a condition to the consummation of the Merger that TSG receive an opinion of counsel to the effect that neither TSG nor any of its stockholders will recognize gain or loss for United States federal income tax purposes as a result of the Merger (other than in respect of any cash paid in lieu of fractional shares). The opinion referred to in this paragraph will be based upon certain facts, assumptions and representations and/or covenants, including those contained in certificates of officers of Elcotel, TSG and, possibly, others. If such opinion is not received, the Merger will not be consummated unless the condition requiring its receipt is waived. TSG currently anticipates that such opinion will be delivered and that TSG will not waive the condition requiring receipt of such opinion. Such opinion will not be binding upon the IRS and no assurance can be given that the IRS will not take a contrary position. Conversion pursuant to the Merger Agreement of the TSG Stock Options into options to acquire Elcotel Common Stock should not change the federal income tax treatment of the TSG Stock Options. The conversion is intended to satisfy Section 424(a) of the Internal Revenue Code, so that it will not constitute a modification of the TSG Stock Options. In the absence of a modification, the date the TSG Stock Options were granted will continue to be considered the date of grant, for purposes of qualifying for favorable federal income tax treatment upon disposition of stock purchased pursuant to an incentive stock option or the 1995 Employee Stock Purchase Plan. INTERESTS OF CERTAIN PERSONS AND EMPLOYEE MATTERS In considering the recommendation of the Elcotel Board and the TSG Board with respect to the Merger, stockholders of Elcotel and TSG should be aware that certain members of the management of Elcotel and TSG and of the Elcotel Board and the TSG Board have certain interests in the Merger that are in addition to the interests of stockholders of Elcotel and TSG generally. Directorships. Pursuant to the Merger Agreement, Elcotel has agreed to invite to become directors of Elcotel following the Merger: David Steadman, who has an employment agreement with TSG and is Chairman of its Board of Directors; Mark Plaumann, a member of the Board of Directors of TSG and Senior Vice President of Wexford Management, an affiliate of Wexford, the holder of approximately 52% of the outstanding TSG Common Stock; Kenneth Rubin, Vice President of Wexford; and Vincent Bisceglia, President and Chief Executive Officer of TSG, who will enter into an employment agreement with Elcotel in connection with the Merger. During the period ending immediately after the second annual meeting of Elcotel stockholders following this Elcotel Annual Meeting, Fundamental and Wexford have agreed to vote their shares in favor of any nominees for director of Elcotel nominated by the incumbent Elcotel Board. See "Fundamental/Wexford Stockholders' Agreement--Voting of Capital Stock." Immediately after the Merger, the Elcotel Board will include two representatives of Fundamental, Mr. James and Charles Moore, and two representatives of Wexford, Messrs. Plaumann and Rubin. Investment Banking Fee. Pursuant to an agreement entered into in July 1997, TSG will pay a $200,000 investment banking fee to Wexford Management, an affiliate of Wexford, the holder of approximately 52% of the outstanding TSG Common Stock, for services rendered in connection with the Merger if the Merger or other transaction involving the sale of all or substantially all of TSG is consummated. In the event the Merger does not close, TSG has agreed to reimburse Wexford Management for up to $5,000 of out-of-pocket costs and expenses. At its option, Elcotel can pay the $200,000 fee to Wexford Management by the issuance of 30,769 shares of Elcotel Common Stock. Treatment of Stock Options. The conversion pursuant to the Merger Agreement of the TSG Stock Options into options to acquire Elcotel Common Stock will result in adjustments to the per share exercise price and number of shares subject thereto based on the Exchange Ratio. The Merger will result in the acceleration and immediate vesting of: all outstanding TSG Stock Options granted to Mr. Bisceglia and Mr. Steadman under TSG's 1994 Omnibus Plan (options to purchase approximately 57,500 shares of TSG Common Stock, including options to purchase 50,000 shares which otherwise vest on November 1, 1997) pursuant to the terms of their stock option agreements; 50% of unvested TSG Stock Options granted to the other executive officers of TSG 32 (options to purchase approximately 48,750 shares of TSG Common Stock, including 18,750 shares which otherwise vest on November 1, 1997) pursuant to the terms of an Officers' Policy adopted by the TSG Board, and all outstanding TSG Stock Options granted to TSG's directors under TSG's 1995 Non-Employee Director Plan (options to purchase approximately 12,000 shares of TSG Common Stock) pursuant to the terms of the plan and their stock option agreements. All other options outstanding under TSG Stock Options will vest according to their terms. Employment Agreements. In connection with the Merger, Elcotel has entered into employment agreements with each of Vincent Bisceglia, President and Chief Executive Officer of TSG, C. Shelton James, Chief Executive Officer of Elcotel and Chairman of its Board of Directors, and Tracey Gray, President of Elcotel. See "The Merger Agreement--General Conditions Precedent to the Merger." Mr. James will be elected Chairman of the Board of Directors of Elcotel, will receive an annual salary of not less than $94,000, subject to annual increase, and will be entitled to an annual incentive bonus computed as a percentage of base salary based on whether certain performance goals are met and additional stock options as approved by the Compensation and Stock Committee of the Elcotel Board. Mr. Gray will be elected President and Chief Executive Officer of Elcotel, will receive an annual salary of not less than $170,000, subject to annual increase, and will be entitled to an annual incentive bonus computed as a percentage of base salary based on whether certain performance goals are met and additional stock options as approved by the Compensation and Stock Committee of the Elcotel Board. Mr. Bisceglia will be elected Executive Vice President and Chief Operating Officer (or, at Elcotel's choice, to a higher office), will receive an annual salary of not less than $160,000, subject to annual increase, and will be entitled to retain all options granted to him as an employee of TSG that will be converted to options to purchase Elcotel Common Stock (see "The Merger Agreement--Conversion of Options to Purchase TSG Common Stock), an additional option to purchase 50,000 shares of Elcotel Common Stock and an incentive bonus for Elcotel's fiscal year ending March 31, 1998 equal to 2% of TSG's operating profits (defined as net income before taxes, amortization, depreciation, interest, gains and losses arising from revaluation of assets, and effects of the Merger on TSG's operations). For fiscal years beginning after March 31, 1998, Mr. Bisceglia will be entitled to participate in any bonus program maintained for senior executives of Elcotel to the same extent and on the same terms as the Chief Executive Officer of Elcotel. After a transition period ending seven months after the consummation of the Merger, Mr. Bisceglia will be required to relocate his residence to the Sarasota, Florida area. Elcotel will reimburse Mr. Bisceglia for certain expenses in connection with such relocation. Mr. Bisceglia's employment agreement with Elcotel will supercede any prior employment agreements with TSG. Each of these employment agreements of Elcotel will continue until December 31, 1998, subject to earlier termination for cause or for certain other reasons. Each employment agreement will continue for additional one-year periods thereafter unless Elcotel gives written notice of nonrenewal at least 180 days prior to the end of any such period. Upon non-renewal of the employee's employment term or the employee's death or permanent disability, the employee will be entitled to severance equal to six months (or, for Mr. Bisceglia if he has relocated his residence to Sarasota, Florida, one year) of salary and benefits and any bonus and stock options to which such employee is entitled. Elcotel may terminate the employee's employment without cause if Elcotel pays the employee severance as described in the preceding sentence for at least one year. Pursuant to these agreements, each employee is indemnified by Elcotel with respect to claims made against him as a director, officer and/or employee of Elcotel or any subsidiary of Elcotel to the fullest extent permitted by Elcotel's Certificate of Incorporation, its Bylaws or Delaware Law. Registration Rights. Pursuant to the Fundamental/Wexford Stockholders' Agreement, Wexford, Acor S.A., a holder of approximately 9.7% of the outstanding TSG Common Stock, and Fundamental will receive certain registration rights with respect to Elcotel Common Stock beneficially owned by them, including the Elcotel Common Stock issued to Wexford pursuant to the Merger. See "Fundamental/Wexford Stockholders' Agreement--Registration Rights." REFINANCING OF TSG AND ELCOTEL INDEBTEDNESS Elcotel intends to refinance with one bank the existing indebtedness of TSG to its bank and of Elcotel to its bank in connection with the consummation of the Merger. Elcotel believes it will require a revolving line of credit of approximately $15 million. There can be no assurance whether it will be able to obtain such a line of credit or as to the terms of such line of credit. 33 ACCOUNTING TREATMENT The Merger will be accounted for under the "purchase" method of accounting in accordance with generally accepted accounting principles ("GAAP"). Accordingly, the merger consideration will be allocated to the assets and liabilities of TSG based on their estimated fair values with the excess recorded as goodwill. See "Unaudited Pro Forma Consolidated Financial Information." ANTITRUST No filing in respect of the Merger is required under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended. NO APPRAISAL OR DISSENTERS' RIGHTS Under Delaware Law, holders of TSG Common Stock are not entitled to appraisal or dissenters' rights in connection with the Merger because the TSG Common Stock is designated as a National Market security on an interdealer quotation system by the NASD and the consideration which such holders will be entitled to receive in the Merger will consist solely of (i) Elcotel Common Stock, which will also be designated as a National Market security on an interdealer quotation system by the NASD, and (ii) cash in lieu of fractional shares. Under Delaware Law, holders of Elcotel Common Stock are not entitled to appraisal or dissenters' rights in connection with the Merger because Elcotel is not a constituent corporation to the Merger. RESALES OF ELCOTEL COMMON STOCK All shares of Elcotel Common Stock issued pursuant to the Merger will be freely transferable, except that shares of Elcotel Common Stock received by any person who may be deemed to be an "affiliate" of TSG prior to the Merger (for purposes of Rule 145 promulgated under the 1933 Act) may not be resold except in transactions permitted by Rule 145 or as otherwise permitted under the 1933 Act. Persons deemed to be affiliates of TSG are those individuals or entities that control, are controlled by, or are under common control with, such party and generally include executive officers and directors of such party as well as certain principal stockholders of such party. TSG has agreed to deliver to Elcotel, at least 30 days before the Effective Time, a letter identifying all persons who are, at the time of the TSG Special Meeting, deemed to be "affiliates" (as defined in the preceding paragraph) of TSG, and to use its best efforts to cause each person so identified to deliver to Elcotel at or before the Effective Time, a written agreement substantially in the form previously approved by Elcotel and TSG, providing that such person will not sell, pledge, transfer or otherwise dispose of any Elcotel Common Stock received by such person in exchange for shares of TSG Common Stock pursuant to the Merger, except pursuant to an effective registration statement or in compliance with such Rule 145 or another exemption from the registration requirements of the 1933 Act. Elcotel will be entitled to issue appropriate stop transfer instructions to the transfer agent for the Elcotel Common Stock to be issued to such affiliates pursuant to the Merger, consistent with the terms of such letter. This Joint Proxy Statement-Prospectus does not cover any resale of Elcotel Common Stock received by affiliates of TSG in connection with the Merger. Pursuant to the Fundamental/Wexford Stockholders' Agreement, Wexford and Acor S.A., a holder of approximately 9.7% of the outstanding TSG Common Stock, have been granted certain registration rights with respect to the resale of Elcotel Common Stock. See "Fundamental/Wexford Stockholders' Agreement." NASDAQ NATIONAL MARKET Elcotel will use its best efforts to cause the shares of Elcotel Common Stock to be issued in connection with the Merger to be approved for listing on the Nasdaq National Market at or prior to the Effective Time. 34 THE MERGER AGREEMENT The following summary of the Merger Agreement contained in this Joint Proxy Statement-Prospectus is not intended to be a complete description of the terms and conditions thereof and is qualified in its entirety by reference to the full text thereof, which is incorporated herein by reference and a copy of which is attached hereto as Appendix A. Unless otherwise defined in this Joint Proxy Statement-Prospectus, the capitalized terms used in this section have the meanings ascribed thereto in the Merger Agreement. GENERAL The Merger Agreement provides that, subject to the terms and conditions thereof and in accordance with Delaware law, at the Effective Time, Elcotel and TSG will consummate the Merger pursuant to which (i) Merger Subsidiary will be merged with and into TSG and the separate corporate existence of Merger Subsidiary will thereupon cease, and (ii) TSG, the surviving corporation, will become a direct wholly-owned subsidiary of Elcotel and will continue to be governed by the laws of the State of Delaware. EFFECTIVE TIME The Effective Time of the Merger will be at such time as the certificate of merger is filed with the Delaware Secretary of State, or at such later time as Elcotel and TSG agree and specify in the certificate of merger. The filing of the certificate of merger will occur no later than the fifth business day after satisfaction or waiver of the conditions precedent to the consummation of the Merger. See "The Merger Agreement--General Conditions Precedent to the Merger." Elcotel and TSG currently anticipate that the Effective Time will occur on or before December 31, 1997. However, there can be no assurance that the conditions to the Merger will be satisfied by such date or at all, or that the Merger Agreement will not be terminated. CORPORATE MATTERS The certificate of incorporation of Merger Subsidiary will be the certificate of incorporation of the surviving corporation, except that, at the Effective Time, the name of the surviving corporation will be changed to "TSG" or such other name as Elcotel may designate on or before the Effective Time, until thereafter amended in accordance with applicable law and such certificate of incorporation. The bylaws of Merger Subsidiary in effect at the Effective Time will be the bylaws of the surviving corporation, until thereafter amended in accordance with applicable law, the certificate of incorporation of the surviving corporation and such bylaws. CONVERSION OF TSG SHARES The Merger Agreement provides that each share of TSG Common Stock issued and outstanding immediately prior to the Effective Time (other than TSG Common Stock owned by TSG as treasury stock, and, if any, TSG Common Stock owned by Elcotel or any direct or indirect wholly-owned subsidiary of Elcotel or TSG) will, at the Effective Time, by virtue of the Merger and without any action on the part of the holder thereof, be converted into the right to receive 1.05 shares of fully paid and nonassessable Elcotel Common Stock (such conversion rate, the "Exchange Ratio"). In lieu of any fractional share of Elcotel Common Stock to which a holder of TSG Common Stock would be entitled, Elcotel will pay to each former stockholder of TSG who otherwise would be entitled to receive a fractional share of Elcotel Common Stock an amount in cash determined by multiplying (i) such fraction by (ii) the arithmetic mean of the closing sales prices for the Elcotel Common Stock reported on the Nasdaq National Market for each of the five consecutive trading days on which Elcotel Common Stock was traded immediately preceding the Effective Time as quoted in the Wall Street Journal or other reliable financial newspaper or publication. 35 All shares of TSG Common Stock owned by TSG as treasury stock and any shares of TSG Common Stock owned by Elcotel or any direct or indirect wholly owned subsidiary of Elcotel will, at the Effective Time, be canceled and retired and will cease to exist and no Elcotel Common Stock will be delivered in exchange therefor. The Merger Agreement provides that, on and after the Effective Time, holders of certificates which immediately prior to the Effective Time represented outstanding shares of TSG Common Stock (the "Certificates") will cease to have any rights as stockholders of TSG, except the right to receive the consideration set forth in the Merger Agreement for each share of TSG Common Stock held by them. BEFORE THE EFFECTIVE TIME, ELCOTEL WILL APPOINT AN AGENT FOR THE PURPOSE OF EXCHANGING CERTIFICATES REPRESENTING TSG COMMON STOCK FOR THE MERGER CONSIDERATION (THE "EXCHANGE AGENT"). WITHIN FIVE BUSINESS DAYS AFTER THE EFFECTIVE TIME, ELCOTEL OR THE EXCHANGE AGENT WILL MAIL TO EACH HOLDER OF RECORD OF A CERTIFICATE WHOSE SHARES OF TSG COMMON STOCK WERE CONVERTED IN THE MERGER INTO THE RIGHT TO RECEIVE ELCOTEL COMMON STOCK A LETTER OF TRANSMITTAL AND INSTRUCTIONS FOR USE IN EFFECTING THE SURRENDER OF SUCH CERTIFICATES IN EXCHANGE FOR ELCOTEL COMMON STOCK. TSG STOCKHOLDERS SHOULD NOT FORWARD TSG STOCK CERTIFICATES TO THE EXCHANGE AGENT UNTIL THEY HAVE RECEIVED SUCH TRANSMITTAL LETTERS. TSG STOCKHOLDERS SHOULD NOT RETURN STOCK CERTIFICATES WITH THE ENCLOSED PROXY. CONVERSION OF OPTIONS TO PURCHASE TSG COMMON STOCK In accordance with the Merger Agreement, at the Effective Time, each outstanding TSG Stock Option, whether vested or unvested, will be converted into an option to acquire, on the same terms and conditions as were applicable under the TSG Stock Option, a number of shares of Elcotel Common Stock equal to 1.05 times the number of shares of TSG Common Stock which the option holder was entitled to purchase immediately prior to the Effective Time under such TSG Stock Option, at a price per share of Elcotel Common Stock equal to (i) the aggregate exercise price for the shares of TSG Common Stock otherwise purchasable pursuant to the TSG Stock Option divided by (ii) the aggregate number of shares of Elcotel Common Stock deemed purchasable pursuant to the TSG Stock Option, with any fractional share of Elcotel Common Stock resulting from such calculation for such holder being rounded up to the nearest whole share. However, in the case of any option to which Section 421 of the Internal Revenue Code applies by reason of such option's qualification under Section 422 or 423 of the Code, the option price, the number of shares purchasable pursuant to such option and the terms and conditions of exercise of such option will be determined in order to comply with Section 424 of the Code. Elcotel will prepare and file with the Commission a registration statement on Form S-8 or other appropriate form with respect to shares of Elcotel Common Stock subject to TSG Stock Options issued under TSG Option Plans and will use its reasonable efforts to have such registration statement declared effective as soon as practicable following the Effective Time. CONVERSION OF WARRANTS TO PURCHASE TSG COMMON STOCK In accordance with the Merger Agreement, at the Effective Time, the TSG Underwriter Warrants and each TSG Public Warrant (which in the aggregate provide for the right to acquire 675,000 shares of TSG Common Stock) will become a warrant to acquire, at a proportionately reduced exercise price per share, a number of shares of Elcotel Common Stock equal to 1.05 times the number of shares of TSG Common Stock that the warrant holder was entitled to purchase immediately prior to the Effective Time under such TSG Warrants. CONDUCT OF TSG PENDING THE MERGER In the Merger Agreement, TSG has agreed that, until the Effective Time, except as expressly provided in the Merger Agreement or with the prior written consent of Elcotel (which approval will not be unreasonably 36 withheld or delayed with respect to (c), (d), (h), (i), (j), (n) or (o), or (k) as it applies to filing any amended tax return): (a) TSG will not adopt or propose any change in its Certificate of Incorporation or any change in its Bylaws; (b) TSG will not, and will not permit any subsidiary of TSG to, adopt a plan or agreement of complete or partial liquidation, or resolutions providing for or authorizing such liquidation or a dissolution, merger, consolidation, restructuring, recapitalization or other reorganization of TSG or any of its subsidiaries (other than a liquidation or dissolution of any subsidiary or a merger or consolidation between wholly owned subsidiaries); (c) TSG will not, and will not permit any subsidiary of TSG to, make any investment in or any acquisition of the business of any Person or any material amount of assets (other than inventory); (d) TSG will not, and will not permit any subsidiary of TSG to, sell or otherwise dispose of any assets (other than inventory) in an amount that would be material to TSG and its subsidiaries, taken as a whole, except in the ordinary course of business consistent with past practice; (e) TSG will not, and will not permit any subsidiary of TSG to, declare, set aside or pay any dividend or other distribution payable in cash, stock or property with respect to its capital stock other than dividends paid by any subsidiary of TSG to TSG or any other subsidiary of TSG, or split, combine, reclassify or take similar action with respect to any of its capital stock or TSG securities or issue or authorize or propose the issuance of any other securities in respect of, in lieu of or in substitution for shares of its capital stock or TSG securities; (f) TSG will not, and will not permit any subsidiary of TSG to, redeem, purchase or otherwise acquire directly or indirectly any of TSG's capital stock or any TSG securities; (g) Subject to certain exceptions, TSG will not, and will not permit any subsidiary of TSG to, enter into or amend in any material respect any employment contract with any of its officers, directors or employees earning annual compensation of more than $50,000, adopt or amend any TSG benefit plan in any material respect or make any payments, awards or distributions under any TSG benefit plan or otherwise not consistent with past practice or custom except (i) as required by a contract in existence on August 13, 1997 and disclosed to Elcotel; or (ii) as necessary to make any TSG benefit plan disclosed to Elcotel meet the requirements of ERISA to the extent such amendment is described to or is approved by Elcotel; (h) TSG will not, and will not permit any subsidiary of TSG to, (i) enter into (or commit to enter into) any new lease or renew any existing lease (except pursuant to commitments in existence on August 13, 1997 for such lease or lease renewal) or (ii) purchase or acquire or enter into any agreement to purchase or acquire any real estate; (i) TSG will not, and will not permit any subsidiary of TSG to, make or commit to make any capital expenditures in excess of $150,000 in the aggregate exclusive of existing commitments with Avex Electronics, Inc. for capital expenditures not exceeding $200,000 in the aggregate. (j) TSG will not, and will not permit any subsidiary of TSG to, change any tax election, change any annual tax accounting period, change any method of tax accounting, file any amended Tax Return, enter into any closing agreement relating to any Tax, settle any Tax claim or assessment, surrender any right to claim a Tax refund or consent to any extension or waiver (other than a reasonable extension or waiver) of the limitations period applicable to any Tax claim or assessment, if any such action would have the effect of increasing the aggregate Tax liability or reducing the aggregate tax assets of TSG and its subsidiaries, taken as a whole, or, to the knowledge of TSG, Elcotel and its subsidiaries, taken as a whole; (k) TSG will not, and will not permit any subsidiary of TSG to, (i) incur any indebtedness for borrowed money or guarantee any such indebtedness other than in the ordinary course of its business consistent with past practice, or (ii) voluntarily purchase, cancel, prepay or otherwise provide for a complete or partial discharge in advance of a scheduled repayment date with respect to, or waive any right under, any indebtedness for borrowed money; 37 (l) SG will not, and will not permit any subsidiary of TSG to, enter into any contract or amend or modify any existing contract, or engage in any new transaction outside the ordinary course of business consistent with past practice or not on an arm's length basis, with any affiliate of such party or any of its subsidiaries; (m) TSG will not, and will not permit any subsidiary of TSG to, agree or commit to do any of the foregoing; and (n) TSG will not, and will not permit any subsidiary of TSG to, take or agree or commit to take any action that would make any representation or warranty of TSG in the Merger Agreement inaccurate at, or as of any time prior to, the Effective Time. CONDUCT OF ELCOTEL PENDING THE MERGER In the Merger Agreement, Elcotel has agreed that until the Effective Time, except as expressly provided in the Merger Agreement or with the prior written consent of TSG (which consent will not be unreasonably withheld or delayed with respect to (c), (d), (h), (i), (j), (n) or (o), or (k) as it applies to filing an amended tax return): (a) Elcotel will not adopt or propose any change in its Certificate of Incorporation or any change in its Bylaws, except as and to the extent required to consummate the Merger; (b) Elcotel will not, and will not permit any subsidiary of Elcotel to, adopt a plan or agreement of complete or partial liquidation, or resolutions providing for or authorizing such liquidation or a dissolution, merger, consolidation, restructuring, recapitalization or other reorganization of Elcotel or any of its subsidiaries (other than a liquidation or dissolution of any subsidiary or a merger or consolidation between wholly owned subsidiaries); (c) Except with respect to the acquisition of certain assets, Elcotel will not, and will not permit any subsidiary of Elcotel to, make any investment in or any acquisition of the business of any Person or any material amount of assets (other than inventory); (d) Elcotel will not, and will not permit any subsidiary of Elcotel to, sell or otherwise dispose of any assets (other than inventory) in an amount that would be material to Elcotel and its subsidiaries, taken as a whole, except in the ordinary course of business consistent with past practice; (e) Elcotel will not, and will not permit any subsidiary of Elcotel to, declare, set aside or pay any dividend or other distribution payable in cash, stock or property with respect to its capital stock, other than dividends paid by any subsidiary of Elcotel to Elcotel or any other subsidiary of Elcotel, or split, combine, reclassify or take similar action with respect to any of its capital stock or Elcotel securities or issue or authorize or propose the issuance of any other securities in respect of, in lieu of or in substitution for shares of its capital stock or Elcotel securities; (f) Elcotel will not, and will not permit any subsidiary of Elcotel to, redeem, purchase or otherwise acquire directly or indirectly any of Elcotel's capital stock or any Elcotel securities; (g) Elcotel will not, and will not permit any subsidiary of Elcotel to, enter into or amend in any material respect any employment contract with any of its officers, directors or employees earning annual compensation of more than $50,000 (other than as contemplated by the Merger Agreement), adopt or amend any Elcotel benefit plan in any material respect or make any payments, awards or distributions under any Elcotel benefit plan or otherwise not consistent with past practice or custom except (i) as required by a contract in existence on the date hereof and disclosed to TSG; (ii) as necessary to make any Elcotel benefit plan disclosed to TSG meet the requirements of ERISA to the extent such amendment is described to or is approved by TSG; (h) Elcotel will not, and will not permit any subsidiary of Elcotel to, (i) enter into (or commit to enter into) any new lease or renew any existing lease (except pursuant to commitments in existence on August 13, 1997 for such lease or lease renewal) or (ii) purchase or acquire or enter into any agreement to purchase or acquire any real estate; 38 (i) Except with respect to the acquisition of certain assets, Elcotel will not, and will not permit any subsidiary of Elcotel to, make or commit to make any capital expenditures in excess of $150,000 in the aggregate; (j) Elcotel will not, and will not permit any subsidiary of Elcotel to, change any tax election, change any annual tax accounting period, change any method of tax accounting, file any amended Tax Return, enter into any closing agreement relating to any Tax, settle any Tax claim or assessment, surrender any right to claim a Tax refund or consent to any extension or waiver (other than a reasonable extension or waiver) of the limitations period applicable to any Tax claim or assessment, if any such action would have the effect of increasing the aggregate Tax liability or reducing the aggregate tax assets of Elcotel and its subsidiaries, taken as a whole, or, to the knowledge of Elcotel, TSG and its subsidiaries, taken as a whole; (k) Elcotel will not, and will not permit any subsidiary of Elcotel to, (i) incur any indebtedness for borrowed money or guarantee any such indebtedness other than in the ordinary course of its business consistent with past practice or other than in connection with the transactions contemplated by the Merger Agreement, or (ii) voluntarily purchase, cancel, prepay or otherwise provide for a complete or partial discharge in advance of a scheduled repayment date with respect to, or waive any right under, any indebtedness for borrowed money; (l) Elcotel will not, and will not permit any subsidiary of Elcotel to, enter into any contract or amend or modify any existing contract, or engage in any new transaction outside the ordinary course of business consistent with past practice or not on an arm's length basis, with any affiliate of such party or any of its subsidiaries; (m) Elcotel will not, and will not permit any subsidiary of Elcotel to, agree or commit to do any of the foregoing; and (n) Elcotel will not, and will not permit any subsidiary of Elcotel to, take or agree or commit to take any action that would make any representation or warranty of Elcotel in the Merger Agreement inaccurate at, or as of any time prior to, the Effective Time. APPOINTMENT OF DIRECTORS Elcotel will invite David Steadman, Mark Plaumann, Kenneth Rubin and Vincent Bisceglia to become members of the Board of Directors of Elcotel immediately following the Effective Time and will increase the size of the Elcotel Board to nine members, to include those four persons, C. Shelton James, Tracey Gray, Charles Moore and two independent directors who are currently members of the Board of Directors of Elcotel, immediately following the Effective Time. NO SOLICITATION TSG has agreed that (a) it will not, and will cause its subsidiaries and the officers, directors, employees, investment bankers, consultants and other agents of TSG and its subsidiaries and the affiliates of TSG not to, directly or indirectly, initiate, solicit, encourage (including by way of furnishing information) or facilitate or take any action to initiate, solicit, encourage or facilitate any inquiries or the making or implementation of any proposal or offer (including, without limitation, any proposal or offer to its stockholders) with respect to a merger, consolidation or other business combination including TSG or any of its Subsidiaries or any acquisition or similar transaction (including, without limitation, a tender or exchange offer) involving the purchase of (x) all or any significant portion of the assets of TSG and its subsidiaries taken as a whole, (y) 5% or more of the outstanding shares of TSG Common Stock or (z) 15% of the outstanding shares of the capital stock of any subsidiary of TSG (any such proposal or offer referred to as an "Alternative Proposal"), or engage in any discussions or negotiations concerning, or provide any confidential information or data to any person or group relating to an Alternative Proposal (excluding the transactions contemplated by the Merger Agreement) or otherwise facilitate any effort or attempt to make or implement an Alternative Proposal; (b) it will immediately cease and cause to be terminated and will cause its subsidiaries and the officers, directors, employees, investment bankers, consultants and other agents of TSG and its subsidiaries and the affiliates of TSG to immediately cease 39 and terminate, any existing activities, discussions or negotiations with any parties with respect to any of the foregoing; and (c) it will notify Elcotel immediately if any such inquiries, proposals or offers are received by, any such information is requested from, or any such negotiations or discussions are sought to be initiated or continued with, it or any of such persons; except, however, that the TSG Board of Directors may (i) furnish information to (but only pursuant to a confidentiality agreement in customary form and having terms and conditions substantially comparable to the Elcotel-TSG confidentiality agreement) or enter into discussions or negotiations with any person or group that makes an unsolicited bona fide Alternative Proposal, only to the extent that, (A) the TSG Board, based upon the written opinion of outside counsel, determines in good faith that such action is required for the TSG Board to comply with its fiduciary duties to stockholders imposed by Delaware Law, (B) prior to furnishing such information to, or entering into discussions or negotiations with, such person or group, TSG provides written notice to Elcotel to the effect that it is furnishing information to, or entering into discussions or negotiations with such person or group, and (C) TSG keeps Elcotel informed of the status and material information including the identity of such person or group with respect to any such discussions or negotiations and any Alternative Proposal and the material terms thereof and gives Elcotel at least 24 hours' advance notice of any information to be supplied to, and at least 48 hours' advance notice of any agreement to be entered into with, any person or group making such Alternative Proposal; and (ii) to the extent required, comply with Rule 14e-2 promulgated under the 1934 Act with regard to an Alternative Proposal. REPRESENTATIONS AND WARRANTIES In the Merger Agreement, TSG has made customary representations and warranties to Elcotel with respect to, among other things, its organization, capitalization, corporate authorization, financial statements, public filings, employee benefit plans, insurance, compliance with laws, the capitalization of TSG, transactions with affiliates, litigation, absence of defaults, contracts, tax matters, labor matters, assets, real property, environmental matters, consents and approvals, information provided by it for inclusion in the Joint Proxy Statement-Prospectus, agreements with third party payors, votes required, undisclosed liabilities and the absence of any material adverse change in TSG since March 28, 1997. In addition, TSG has represented to Elcotel that except for a fee payable to Wexford Management, no investment bank, broker, finder, or other intermediary or other individual, entity or organization, is entitled to any fee or commission from TSG or any subsidiary of TSG upon consummation of the transactions contemplated by the Merger Agreement. In the Merger Agreement, Elcotel has made customary representations and warranties to TSG with respect to, among other things, its organization, capitalization, corporate authorization, financial statements, public filings, employee benefit plans, insurance, compliance with laws, the capitalization of Elcotel, transactions with affiliates, litigation, absence of defaults, contracts, tax matters, labor matters, assets, real property, environmental matters, consents and approvals, information provided by it for inclusion in this Joint Proxy Statement-Prospectus, agreements with third party payors, votes required, undisclosed liabilities and the absence of any material adverse change in Elcotel since March 31, 1997. In addition, Elcotel has represented to TSG that except for a fee payable to Cameron Associates, no investment bank, broker, finder, or other intermediary or other individual, entity or organization, is entitled to any fee or commission from Elcotel or any subsidiary of Elcotel upon consummation of the transactions contemplated by the Merger Agreement. Elcotel has also represented to TSG that it has received the written opinion of Murray Devine to the effect that, as of the date of the Merger Agreement, the consideration to be received by holders of TSG Common Stock in the Merger is fair to Elcotel from a financial point of view. CAPITALIZATION OF TSG As of the close of business on October 13, 1997, 4,708,851 shares of TSG Common Stock were issued and outstanding, no shares of TSG Common Stock were issued and held in the treasury of TSG, and 1,491,149 shares of TSG Common Stock were reserved for issuance under the TSG Option Plans and the TSG Warrants. 40 Options to purchase 576,250 shares of TSG Common Stock were outstanding under the TSG Option Plans. This amount does not include approximately 9,306 shares subject to a pending offering under the Stock Purchase Plan. The offering period for this plan commenced on July 14, 1997 and will end on January 9, 1998. The estimated 9,306 shares of TSG Common Stock to be issued under this plan is based on a stock price of $5 per share on July 14, 1997 and eligible employees with $39,551 of estimated aggregate compensation deductions (based on current compensation levels). Warrants to purchase 675,000 shares of TSG Common Stock were outstanding under the TSG Warrants. TSG has agreed not to issue or otherwise dispose of any shares of, or securities convertible into or options, warrants, calls, commitments or rights of any kind to acquire, any shares of capital stock of any class or series of TSG or its subsidiaries, other than the issuance of (i) options with an exercise price at least equal to the fair market value of the TSG Common Stock on the date of grant for up to 20,000 shares of TSG Common Stock under the Omnibus Plan as in effect on August 13, 1997, (ii) rights to purchase shares of TSG Common Stock granted pursuant to the Stock Purchase Plan as in effect on August 13, 1997 during the offering period that commenced on July 14, 1997 and that will end on January 9, 1998, estimated at 9,306 shares of TSG Common Stock based on a stock price of $5.00 per share on July 14, 1997 and eligible employees with $39,551 of estimated aggregate compensation deductions (based on current compensation levels), (iii) options granted automatically under the Director Plan as in effect on August 13, 1997, and (iv) issuances of TSG Common Stock pursuant to the exercise of options granted pursuant to the TSG Option Plans and the exercise of TSG Warrants which were outstanding on August 13, 1997; and TSG will not amend the terms of any option, warrant, right or other security outstanding under any of the TSG Option Plans or commence any new offering under the Stock Purchase Plan. CAPITALIZATION OF ELCOTEL The currently authorized capital stock of Elcotel consists solely of 20,000,000 shares of Elcotel Common Stock. The Elcotel Board has declared the advisability of and recommended to its stockholders that this amount be increased to 30,000,000 pursuant to action of such stockholders at the Elcotel Annual Meeting. See "Additional Matters Submitted to the Vote of Elcotel's Stockholders--Additional Proposal No. 2: Amendment to Certificate of Incorporation." As of the close of business on September 15, 1997, 8,188,521 shares of Elcotel Common Stock were issued and outstanding, 52,000 shares of Elcotel Common Stock were issued and held in the treasury of Elcotel, and 1,055,934 shares of Elcotel Common Stock were reserved for issuance under the Elcotel 1991 Stock Option Plan and the Elcotel Directors Stock Option Plan (collectively the "Elcotel Plans") and options to purchase 648,838 shares of Elcotel Common Stock under the Elcotel Plans ("Elcotel Options") were outstanding. The Elcotel Board has also declared the advisability of and recommended to its stockholders that the amounts reserved for issuance under the 1991 Stock Option Plan and the Directors Stock Option Plan be increased by 500,000 and 50,000 shares, respectively. See "Additional Matters Submitted to the Vote of Elcotel's Stockholders--Additional Proposal No. 4: Amendment to 1991 Stock Option Plan and Additional Proposal No. 5: Amendments to Directors Stock Option Plan." Elcotel has agreed not to issue or otherwise dispose of any shares of, or securities convertible into or options, warrants, calls, commitments or rights of any kind to acquire, any shares of capital stock of any class or series of Elcotel or its subsidiaries, other than (i) issuances pursuant to the exercise of options granted pursuant to the Elcotel Plans which were outstanding on August 13, 1997 (or granted as contemplated in (ii) hereafter) and (ii) any grant of options to purchase Elcotel Common Stock to new employees of Elcotel or any of its subsidiaries pursuant to the Elcotel Plans that could result in the issuance of not more than 75,000 shares in the aggregate of Elcotel Common Stock. Immediately following the consummation of the Merger, it is expected that approximately 13,213,605 shares of Elcotel Common Stock will be issued and outstanding, 52,000 shares of Elcotel Common Stock will be held in the treasury of Elcotel, options to purchase 648,838 shares of Elcotel Common Stock under the Elcotel Plans will be outstanding, warrants to purchase 708,750 shares of Elcotel Common Stock will be outstanding and options to purchase approximately 614,834 shares of Elcotel Common Stock issued pursuant to the conversion of options that were outstanding pursuant to the TSG Option Plans will be outstanding. 41 GENERAL CONDITIONS PRECEDENT TO THE MERGER The respective obligations of Elcotel, on the one hand, and TSG, on the other hand, to consummate the Merger are subject to the satisfaction (or waiver by the party for whose benefit such conditions exist) of the following conditions: (a) the Merger Agreement will have been approved and adopted by the stockholders of TSG in accordance with Delaware law and the issuance of Elcotel Common Stock pursuant to the Merger Agreement will have been approved by the stockholders of Elcotel by the requisite vote under applicable law and under the applicable rules of the Nasdaq National Market, as the case may be; (b) the Registration Statement on Form S-4 will have become effective in accordance with the provisions of the 1933 Act, and no stop order suspending such effectiveness will have been issued and remain in effect and no proceeding seeking such an order will be pending or threatened and Elcotel will have received all state securities or blue sky permits and other authorizations necessary to issue the Elcotel Common Stock pursuant to the Merger Agreement; (c) the shares of Elcotel Common Stock to be issued in the Merger will have been approved for listing on the Nasdaq National Market; (d) there shall not be pending any suit, action or proceeding by any Governmental Authority (i) seeking to restrain or prohibit the consummation of the Merger or any of the other transactions contemplated by the Merger Agreement, or seeking to obtain from Elcotel or TSG any damages the amount of which would be reasonably likely to have a material adverse effect on TSG or Elcotel, or (ii) seeking to prohibit or limit the ownership or operation by Elcotel, TSG or any of their respective subsidiaries of, or to compel Elcotel, TSG or any of their respective subsidiaries to dispose of or hold separate, any material portion of the business or assets of Elcotel, TSG or any of their respective subsidiaries, as a result of the Merger or any of the other transactions contemplated by the Merger Agreement; and (e) Elcotel shall have entered into an employment agreement with each of Vincent Bisceglia, currently President and Chief Executive Officer of TSG, Shelton James, currently Chief Executive Officer of Elcotel and Chairman of its Board, and Tracey Gray, currently President of Elcotel and a member of its Board (such employment agreements have already been entered into, effective upon consummation of the Merger). CONDITIONS PRECEDENT TO OBLIGATIONS OF ELCOTEL The obligations of Elcotel to consummate the Merger are subject to the satisfaction of the following conditions: (a) the representations and warranties made by TSG in the Merger Agreement shall be true and correct as of the Closing Date as though made on and as of the Closing Date or, in the case of representations and warranties made as of a specified date earlier than the Closing Date, on and as of such earlier date, and TSG shall have delivered to Elcotel a certificate, dated the Closing Date to such effect; (b) TSG shall have performed and complied with each agreement, covenant and obligation required by the Merger Agreement to be so performed or complied with by TSG at or prior to the Closing, and TSG shall have delivered to Elcotel a certificate, dated the Closing Date to such effect; (c) there shall not have been any change in the consolidated business, results of operations, financial condition or prospects of TSG and its subsidiaries, taken as a whole, between March 28, 1997 and the Closing Date which would have a material adverse effect on TSG; (d) Elcotel shall have received consents or waivers from such Persons as are necessary for Elcotel to consummate the transactions contemplated by the Merger Agreement; (e) at the Closing, Elcotel shall have received from Greenberg Traurig Hoffman Lipoff Rosen & Quentel, counsel to TSG, a written opinion reasonably satisfactory to Elcotel, dated as of the Closing Date; and (f) Wexford and Fundamental shall have each entered into the Fundamental/Wexford Stockholders' Agreement. CONDITIONS PRECEDENT TO OBLIGATIONS OF TSG The obligations of TSG to consummate the Merger are subject to the satisfaction of the following conditions: (a) the representations and warranties made by Elcotel and Merger Subsidiary in the Merger Agreement shall be true and correct as of the Closing Date as though made on and as of the Closing Date or, in the case of representations and warranties made as of a specified date earlier than the Closing Date, on and as of such earlier date, and Elcotel and Merger Subsidiary shall each have delivered to TSG a certificate, dated the Closing Date to such effect; (b) Elcotel and Merger Subsidiary shall each have performed and complied with each agreement, covenant and obligation required by the Merger Agreement to be so performed or complied 42 with by Elcotel or Merger Subsidiary at or prior to Closing, and Elcotel and Merger Subsidiary shall each have delivered to TSG a certificate, dated the Closing Date to such effect; (c) there shall not have been any change in the consolidated business, results of operations, financial condition or prospects of Elcotel and its subsidiaries, taken as a whole, between March 31, 1997 and the Closing Date which would have a material adverse effect on Elcotel; (d) TSG shall have received consents or waivers from such Persons as are necessary for TSG to consummate the transactions contemplated by the Merger Agreement; (e) at the Closing, TSG shall have received from Schnader Harrison Segal & Lewis llp, counsel to Elcotel, a written opinion reasonably satisfactory to TSG, dated as of the Closing Date; (f) Fundamental/Wexford and Elcotel shall have each entered into the Fundamental/Wexford Stockholders' Agreement; and (g) TSG shall have received an opinion of counsel to the effect that neither TSG nor any of its stockholders will recognize gain or loss for U.S. federal income tax purposes as a result of the Merger (other than in respect of any cash paid in lieu of fractional shares). TERMINATION The Merger Agreement may be terminated and the transactions contemplated thereby may be abandoned at any time prior to the Effective Time either prior to or after approval by the holders of Elcotel Common Stock or TSG Common Stock: (a) by mutual written agreement of TSG and Elcotel; (b) by either TSG or Elcotel (i) if the Merger shall not have been consummated on or prior to December 31, 1997 and such failure to consummate the Merger is not caused by or substantially attributable to a breach of the Merger Agreement by the terminating party; (ii) if the approval of TSG stockholders or the approval of Elcotel stockholders is not obtained by reason of the failure to obtain the requisite vote of stockholders; (iii) under certain circumstances, in the event of a breach of a representation, warranty, covenant or agreement on the part of the non-terminating party set forth in the Merger Agreement, or in the event of non-occurrence of a condition precedent to the terminating party's obligations (see "The Merger Agreement--Conditions Precedent to Obligations of Elcotel; Conditions Precedent to Obligations of TSG"); or (iv) in the event a court order is issued restricting or prohibiting the Merger; (c) by TSG if (i) the TSG Board determines in good faith, based upon the written opinion of outside counsel, that termination of the Merger Agreement is required for the TSG Board to comply with its fiduciary duties to stockholders imposed by law by reason of an unsolicited bona fide superior proposal having been made or (ii) the Elcotel Board shall have withdrawn or modified in a manner materially adverse to TSG its approval or recommendation of the Merger Agreement or the Merger; or (d) by Elcotel if the TSG Board (i) shall have withdrawn or modified in a manner materially adverse to Elcotel its approval or recommendation of the Merger Agreement or the Merger or (ii) shall have recommended a superior proposal to the stockholders of TSG or TSG shall have entered into a definitive agreement providing for a superior proposal with a person other than Elcotel. TERMINATION FEES AND EXPENSES If the Merger Agreement is terminated because the TSG Board has determined that termination is required for the TSG Board to comply with its fiduciary duties to stockholders by reason of an unsolicited superior proposal having been made or the TSG Board or recommends such a proposal to its stockholders, or TSG enters into an agreement providing for such a superior proposal, then TSG must pay Elcotel a termination fee of $1,300,000. If either party terminates the Merger Agreement because the stockholders of TSG have voted not to approve the Merger and prior to such termination any person or group has made an alternative proposal, or if Elcotel terminates the Merger Agreement because the TSG Board has withdrawn or modified its favorable recommendation of the Merger in a manner materially adverse to Elcotel, then TSG must pay to Elcotel up to $500,000 for Elcotel's out-of-pocket expenses relating to the Merger Agreement. Elcotel must pay TSG's out-of-pocket expenses in an amount up to $500,000 if either party terminates the Merger Agreement because Elcotel has failed to obtain the approval of its stockholders, or if TSG terminates the Merger Agreement because the Elcotel Board has withdrawn or modified its favorable recommendation of the Merger in a manner materially adverse to TSG. The same out-of-pocket expenses must be paid by the non-terminating party when either party terminates the Merger Agreement in the event of certain material breaches of the Merger Agreement on the part of the non-terminating party or certain conditions precedent to the terminating party's obligations under the Agreement have not been fulfilled. Additionally, under a manufacturing agreement between Elcotel and TSG 43 dated September 26, 1997, Elcotel is obligated to reimburse TSG for certain costs in establishing a new manufacturing facility, not to exceed $100,000, in the event, subject to certain conditions, that the Merger is not consummated. See "Technology Service Group, Inc.--Properties." Also, in the event the Merger is not consummated, Elcotel will be obligated to issue a credit to TSG for the difference between the purchase price of a certain product recently purchased by TSG from Elcotel and the amount that TSG would have paid if TSG had purchased a comparable product from another supplier. The total amount of such credit would depend on the number of units purchased by TSG from Elcotel, but Elcotel does not expect that the total amount of such credit will exceed $100,000. Except as described above, all costs and expenses incurred in connection with the Merger, the Merger Agreement and the transactions contemplated thereby will be paid by the party incurring such costs or expenses, whether or not the Merger is consummated. However, if the Merger is consummated, Elcotel has agreed to issue 30,769 shares of Elcotel Common Stock in payment of TSG's investment banking fee payable to Wexford Management. VOTING AGREEMENT Following is a summary of the material terms of the Voting Agreement, which is filed as an exhibit to the Registration Statement and is incorporated herein by reference. The following summary of the Voting Agreement contained in this Joint Proxy Statement-Prospectus is not intended to be a complete description of the terms and conditions thereof and is qualified in its entirety by reference to the full text thereof. VOTING OF TSG COMMON STOCK Wexford has agreed that until the first to occur of (a) the Effective Time of the Merger or (b) termination of the Voting Agreement in accordance with its terms, (i) Wexford will not sell or transfer any TSG Common Stock owned by Wexford (the "Wexford Shares") or any interest therein to any person, other than an affiliate of Wexford who agrees to be bound by the terms of the Voting Agreement to the same extent as Wexford, or other than upon the exercise by A.T.T. IV, N.V. of the option to purchase up to 142,857 shares of TSG Common Stock owned by Wexford pursuant to the Stock Purchase and Option Agreement dated as of May 3, 1996 among TSG, Wexford, Firlane Business Corp., Acor S.A. and A.T.T. IV, N.V., and (ii) at any meeting of the holders of TSG Common Stock, or in connection with any written consent of the holders of TSG Common Stock, Wexford will appear at the meeting or otherwise cause the Wexford Shares to be counted as present thereat for purposes of establishing a quorum, and vote or consent the Wexford Shares (A) in favor of the adoption of the Merger Agreement and the approval of other actions contemplated by the Merger Agreement and the Voting Agreement and any actions required in furtherance of either agreement; and (B) against any action or agreement that would result in a breach in any respect of any covenant, representation or warranty or any other obligation or agreement of TSG under the Merger Agreement or the Voting Agreement. VOTING OF ELCOTEL COMMON STOCK Fundamental has agreed that until the first to occur of (a) the Effective Time of the Merger or (b) termination of the Voting Agreement in accordance with its terms, (i) Fundamental will not sell or transfer any Elcotel Common Stock owned by Fundamental (the "Fundamental Shares") or any interest therein to any person, other than an affiliate of Fundamental who agrees to be bound by the terms of the Voting Agreement to the same extent as Fundamental, and (ii) at any meeting of the holders of Elcotel Common Stock, or in connection with any written consent of the holders of Elcotel Common Stock, Fundamental will appear at the meeting or otherwise cause the Fundamental Shares to be counted as present thereat for purposes of establishing a quorum, and vote or consent the Fundamental Shares (A) in favor of the issuance of Elcotel Common Stock in the Merger and any actions required in furtherance thereof or in furtherance of the Merger, and (B) against any action or agreement that would result in a breach in any respect of any covenant, representation or warranty or any other obligation or agreement of Elcotel under the Merger Agreement or the Voting Agreement. FUNDAMENTAL/WEXFORD STOCKHOLDERS' AGREEMENT Following is a summary of the material terms of the Fundamental/Wexford Stockholders' Agreement to be entered into among Elcotel, Fundamental and Wexford on the Closing Date. The following summary of the Fundamental/Wexford Stockholders' Agreement contained in this Joint Proxy Statement-Prospectus is not 44 intended to be a complete description of the terms and conditions thereof and is qualified in its entirety by reference to the full text thereof. The Fundamental/Wexford Stockholders' Agreement is filed as an exhibit to the Registration Statement and is incorporated herein by reference. RESTRICTIONS ON TRANSFERS Each of Wexford and Fundamental will not transfer any of the Elcotel capital stock owned by it during the six month period beginning on the effective date of the Merger; except that Fundamental may sell capital stock not to exceed 75,000 shares and Wexford may sell capital stock not to exceed 125,000 shares (i) during the three-month period beginning on the day after the effective date of the Merger and (ii) during the three-month period beginning three months after the effective date of the Merger. Commencing on the date which is six months after the effective date of the Merger, Wexford and Fundamental may, subject to certain restrictions, transfer shares of capital stock owned by them in accordance with applicable law. Notwithstanding the foregoing, (a) Wexford may sell to A.T.T. IV, N.V. up to 142,857 shares (subject to adjustment) of capital stock pursuant to a certain option agreement and (b) Wexford or Fundamental may sell its capital stock to an affiliate. TAG ALONG RIGHTS If Wexford or Fundamental (collectively the "Stockholders") proposes to sell any shares of its capital stock otherwise permitted to be sold pursuant to the terms of the Fundamental/Wexford Stockholders' Agreement, but excluding (i) sales to certain affiliates or to A.T.T. IV, N.V. as described above or (ii) any sale in which all of the Stockholders agree and are permitted to participate, then such Stockholder must offer (the "Participation Offer") to include in the proposed sale a number of shares of capital stock of the other Stockholders, not to exceed the number of shares equal to the product of (A) the aggregate number of shares of capital stock to be sold by such offering Stockholder to the proposed transferee(s) and (B) a fraction the numerator of which is equal to the number of shares of capital stock owned by such other Stockholder and the denominator of which is equal to the number of shares of capital stock held by all Stockholders. If any Stockholder has accepted the Participation Offer, the offering Stockholder will reduce to the extent necessary the amount of capital stock it otherwise would have sold in the proposed sale so as to permit the other Stockholders who have accepted the Participation Offer to sell the number of shares that they are entitled to sell, and the offering Stockholder and such other Stockholders will sell the number of shares specified in the Participation Offer in accordance with the terms of such sale. TERMINATION The Fundamental/Wexford Stockholders' Agreement will terminate as follows: (i) upon the unanimous agreement of all Stockholders and Elcotel; (ii) upon the happening of certain bankruptcy-related events with respect to Elcotel; (iii) Elcotel is merged with or into another company and the stockholders of Elcotel immediately prior to such merger do not own after such merger substantially all of the capital stock of Elcotel or the surviving entity of such merger in substantially the same proportions or whose shares of capital stock will not be listed on a national securities exchange or quoted on the National Association of Securities Dealers, Inc. Automated Quotation System; or (iv) with respect to a specific Stockholder, at such time as such Stockholder and certain related entities collectively own less than 5% of the outstanding Elcotel Common Stock (but such Stockholder and its related entities' registration rights pursuant to the Fundamental/Wexford Stockholders' Agreement will only terminate upon such Stockholder and such entities owning no outstanding Elcotel Common Stock). In any event, the Fundamental/Wexford Stockholders' Agreement will terminate on the fifth anniversary of the Closing Date of the Merger. REGISTRATION RIGHTS Elcotel has agreed to file with the Commission, within forty-five days after the effective date of the Merger, a "shelf" registration statement on Form S-3 or other appropriate available form, covering the Elcotel Common Stock issued to Wexford pursuant to the Merger, any other Elcotel Common Stock beneficially owned by 45 Wexford, any Elcotel Common Stock beneficially owned by Fundamental, any Elcotel Common Stock beneficially owned by Acor S.A. and any other securities issuable with respect to such Elcotel Common Stock by way of a stock dividend or stock split or in connection with a combination of shares, recapitalization, merger, consolidation, or reorganization (with certain exceptions). Registration expenses are generally borne by Elcotel. VOTING OF CAPITAL STOCK During the period ending immediately after the second annual meeting of stockholders of Elcotel which occurs after the Elcotel Annual Meeting at which the Merger is approved, each of the Stockholders has agreed that it will vote (or cause to be voted) its shares of capital stock in favor of any nominees for director nominated by the incumbent Elcotel Board. LUCENT ACQUISITION On September 30, 1997, Elcotel acquired from Lucent Technologies Inc. ("Lucent") certain assets related to Lucent's payphone manufacturing and component parts business (the "Lucent Acquisition"). The purchase price was approximately $6.04 million, subject to adjustment based upon a final inventory valuation. See "Unaudited Pro Forma Consolidated Financial Information--Lucent Acquisition Purchase Price." Elcotel acquired from Lucent the inventory, machinery, equipment, tooling and certain other assets related to the payphone manufacturing and component parts business conducted by Lucent, as well as a license of certain patent and other intellectual property rights related thereto. Elcotel did not acquire any employees or facilities of Lucent pursuant to such acquisition. As part of the acquisition, Elcotel is expected to enter into a contract with a Taiwanese manufacturer that had been Lucent's manufacturing source for its payphones. Elcotel borrowed $6,850,000 from its bank in connection with financing the Lucent Acquisition and the purchase of certain capital equipment. The customers for Lucent's payphones and component parts consisted principally of RBOCs and other telcos. Elcotel believes that approximately 60% (approximately 1.2 million units) of the current installed base of payphones in the United States are payphones of the design purchased by Elcotel pursuant to the Lucent Acquisition. Elcotel believes that a significant part of the revenues that may arise from the assets acquired by Elcotel pursuant to the Lucent Acquisition will consist of the sale of components and replacement parts with respect to that installed base of payphones. Since 1995, Elcotel and Lucent had been involved in a strategic marketing alliance primarily directed to international markets. In addition, Elcotel produced and sold to Lucent a privately labeled Elcotel payphone using Lucent's payphone housing and Elcotel's payphone network management system which Lucent incorporated into its own payphone systems. Both companies marketed that product in international markets. In addition, Lucent and Elcotel jointly marketed their respective products in the United States, including the private labeled Elcotel payphone. As indicated above, Elcotel believes there are approximately 1.2 million payphones in operation in the United States of the design which was previously sold by Lucent to RBOCs and other telcos. Elcotel believes that many of these payphone units may require upgrades so that those payphones would internally process more of the functions associated with the payphone rather than performing those functions through a remote central office system. In addition, Elcotel believes these payphone units will require continuing repair and replacement of components, which had previously been supplied by Lucent. In January 1997, Lucent decided to cease its international business and agreed to assign its customer contracts with respect to such international business to Elcotel for completion of those orders, subject to the customer's approval. With Elcotel's purchase of certain of Lucent's domestic payphone assets, Elcotel believes that it will enhance its payphone opportunities in the United States markets with RBOCs and other telcos. Elcotel believes that if it is able to obtain most of the replacement parts and payphone housing business from those customers to which Lucent previously sold, it could expect annual revenues of approximately $12 million from that business. Elcotel also believes that if it obtains such amount of business, Elcotel's overall earnings will increase as a result. Elcotel believes that the Merger and the Lucent Acquisition will allow it to reduce its levels of inventory, improve manufacturing efficiencies, expand its sales to RBOCs and other telcos and improve service to its customers. 46 TECHNOLOGY SERVICE GROUP, INC. GENERAL TSG designs, develops, manufactures and markets public communication products including wireline and wireless payphone systems, electronic wireline payphone products and payphone components. TSG's payphone systems are based upon microprocessor technology and perform a variety of functions, including calling card, debit ("prepay") card and credit card operations, data storage, call progress detection, call rating and maintenance, diagnostic and coin administration functions. TSG's CoinNet(TM) payphone software management system is an integral component of TSG's microprocessor-based payphone systems. TSG also provides payphone and payphone component repair, refurbishment and upgrade conversion services to the telcos which consist of the RBOCs and other local exchange carriers. See "Products and Services." TSG operates in one business segment as a provider of public communication systems, products and services to communications providers in the United States and foreign markets. TSG presently markets its products and services primarily to the RBOCs in the United States and to cellular service providers in certain international markets. TSG has derived substantially all of its revenues from sales to four RBOCs. See "Sales and Markets." TSG is presently developing a new microprocessor-based wireline payphone processor for international markets and for the RBOC and independent markets in the United States. The term "Predecessor" refers to TSG for all periods prior to October31, 1994, the date TSG Acquisition Corp., a wholly-owned subsidiary of Wexford, acquired all of the outstanding capital stock of TSG (see "History-- Acquisition;" "TSG Management's Discussion and Analysis of TSG's Financial Condition and Results of Operations" and "Consolidated Financial Statements of Technology Service Group, Inc." included as Appendix C. TSG's principal executive offices are located at 20 Mansell Court East, Suite 200, Roswell, Georgia 30076, and its telephone number at that address is (770) 587-0208. DEVELOPMENTS DURING FISCAL 1997 Initial Public Offering. In May 1996, TSG completed the TSG IPO, an initial public offering of 1,150,000 units (the "Units"), each Unit consisting of one share of TSG Common Stock and one redeemable warrant ("Public Warrant"), at a price of $9.00 per Unit for gross proceeds of $10,350,000. In connection with such initial public offering, TSG issued, for nominal consideration, warrants to the underwriter to purchase 100,000 shares of TSG Common Stock (the "Underwriter Warrants"). Net proceeds from the offering, after underwriting discounts and expenses of $1,231,897 and other expenses of $824,953, amounted to $8,293,169. The net proceeds of the offering were used to repay TSG's then outstanding indebtedness of $2,509,524 under bank term and installment notes; to repay $3,808,589 of indebtedness outstanding under a bank revolving credit agreement; and to repay $2.8 million of outstanding indebtedness under 10% interest-bearing subordinated promissory notes payable to stockholders. See "History--Acquisition;" "TSG Management's Discussion and Analysis of TSG's Financial Condition and Results of Operations;" and "Consolidated Financial Statements of Technology Service Group, Inc." included as Appendix C. Stock Purchase Agreement. TSG, Wexford, Acor S.A., Firlane Business Corp. ("Firlane"), and A.T.T. IV, N.V. ("ATTI") entered into a Stock Purchase and Option Agreement on May 3, 1996 (the "Stock Purchase Agreement"). Wexford, Acor S.A. and Firlane, concurrently with the TSG IPO, sold to ATTI an aggregate of 366,300 shares of TSG Common Stock at a price of $8.14 per share and options to purchase an additional 183,150 shares of TSG Common Stock at an exercise price of $11.00 per share (the "Options") at a price of $.10 per Option. Wexford sold 285,714 shares and Options to purchase 142,857 shares. Acor S.A. sold 53,114 shares and Options to purchase 26,557 shares. Firlane sold 27,472 shares and Options to purchase 13,736 shares. The consideration received by Wexford, Acor S.A. and Firlane was $2,339,998, $435,004 and $224,995, respectively. No consideration was received by TSG. Fiscal 1997 Facilities Consolidation. During the year ended March 28, 1997, TSG closed its Kentucky facility and consolidated service operations into its Virginia manufacturing facility. Also, during the year ended 47 March 28, 1997, TSG assigned the capital lease obligation related to the closed facility to an unaffiliated third party, and recorded the retirement of the outstanding capital lease obligation and the disposition of the property. See "TSG Management's Discussion and Analysis of TSG's Financial Condition and Results of Operations" and "Consolidated Financial Statements of Technology Service Group, Inc." included as Appendix C. In November 1996, TSG executed a lease agreement with respect to a 39,200 square foot facility located in Alpharetta, Georgia that commenced on April 1, 1997. TSG originally planned to close its present corporate office facility and to consolidate its product assembly operations and corporate activities into the new facility. The lease has an initial term of five years and is renewable for an additional five-year term. However, in view of the potential business combination with Elcotel, TSG delayed the start-up of the new Georgia facility. Elcotel and TSG have agreed, as part of their integration and consolidation plan, to dispose of the facility and relocate certain TSG assembly operations into Elcotel's facilities. On September 30, 1997, TSG assigned the lease agreement to an unaffiliated third party. In contemplation of an assignment of the lease and the Merger, TSG entered into an agreement with Elcotel dated September 26, 1997 that provides for the assembly of certain of TSG products by Elcotel at prices equal to TSG's cost. In the event the Merger is not consummated, Elcotel has agreed, subject to certain exceptions, to continue to assemble such products at prices equal to TSG's cost until the first anniversary of the date Elcotel becomes obligated to provide manufacturing services under the agreement, and has agreed to reimburse TSG for certain costs in establishing a new manufacturing facility to replace the Alpharetta facility not to exceed $100,000. Sales Agreements. In November 1996, TSG entered into a new non-exclusive supply agreement, effective July 1, 1996, to provide its Gemini(TM) smart payphones and processors, CoinNet payphone management system and other payphone components to Telesector Resources Group, Inc., an affiliate of NYNEX ("NYNEX") for a period of five years. See "Sales and Markets--Domestic." In June 1997, TSG entered into an agreement with Southwestern Bell Telephone Company ("SWB") that supersedes and terminates a December 1994 agreement between the parties. Under the new agreement, TSG agreed (i) to reduce SWB's remaining purchase commitment of GemStar(TM) processors and electronic locks to approximately $3 million from approximately $8 million under the former agreement and (ii) among other things, to upgrade SWB's payphone management system. In return, SWB made a $250,000 cash payment to TSG, terminated TSG's obligation to pay royalties on sales of GemStar processors to other customers and terminated TSG's obligation to repay $375,000 received from the sale of product software under the December 1994 agreement. SWB also agreed to make additional cash payments to TSG aggregating up to $750,000 between July 2, 1997 and March 31, 1998, subject to TSG's compliance with the terms and conditions contained in the agreement. See "Sales and Markets--Domestic." "TSG Management's Discussion and Analysis of TSG's Financial Condition and Results of Operations" and "Consolidated Financial Statements of Technology Service Group, Inc." included as Appendix C. HISTORY General. TSG was incorporated in the State of Delaware in 1975. Between 1975 and 1986, TSG was engaged in the high-speed dot matrix printer business. In 1986, TSG acquired International Teleservice Corporation, Inc., a company engaged in the repair and refurbishment of telecommunication products consisting of residential telephones and payphones. During 1987 and 1988, TSG discontinued its high-speed dot-matrix printer business, sold the assets of its residential telephone repair and refurbishment business, and began to focus its business on the public communications industry. TSG established International Service Technologies, Inc. ("IST"), which established a foreign division in Taiwan, and Technology Service Enterprises, Inc., and expanded its public communications business to include the manufacture and marketing of payphones and payphone components and the provision of services to convert and upgrade payphones with components designed and manufactured by TSG and its subsidiaries. In 1991, Technology Service Enterprises, Inc. acquired the assets of the Public Communication Systems Division of Executone Information Systems, Inc. ("PCS"), including its microprocessor-based technology. In fiscal 1993, TSG established Wireless Technologies, Inc. and began to develop microprocessor-based wireless payphone products for international applications. In April 1993, 48 International Teleservice Corporation, Inc., Technology Service Enterprises, Inc. and Wireless Technologies, Inc. were merged into TSG. Acquisition. On October 31, 1994, TSG Acquisition Corp., a wholly-owned subsidiary of Wexford, acquired all of the outstanding capital stock of TSG. The consideration paid by TSG Acquisition Corp. aggregated $3.5 million. In connection with this transaction, TSG entered into an Investment Agreement with Wexford, Acor S.A. and Firlane. TSG issued an aggregate of 3.5 million shares of TSG Common Stock at a price of $1.00 per share to Wexford. Wexford, in turn, sold to Acor S.A. and Firlane 507,500 and 262,500 shares, respectively, of TSG Common Stock. The consideration paid by Wexford, Acor S.A. and Firlane for their shares of TSG Common Stock was $2,730,000, $507,500 and $262,500, respectively. Also, TSG borrowed $2.8 million from Wexford and Acor S.A. and issued subordinated promissory notes due November 1, 1999 with interest at a rate of 10% per annum (the "Affiliate Notes"). The Affiliate Notes were repaid during the fiscal year ended March 28, 1997 with a portion of the proceeds from the TSG IPO. Fiscal 1994 Restructuring. During the three years ended April 1, 1994, TSG generated net losses due to poor operating performance caused in large part by the termination of a sales agreement between TSG and one of its then significant RBOC customers with respect to a first generation microprocessor- based payphone product as a result of technical and delivery problems (which were subsequently remedied) and the non-renewal of a refurbishment sales agreement with that RBOC. In the fourth quarter of fiscal 1994, TSG initiated a plan (the "fiscal 1994 Restructuring") to change certain senior management, restructure its operations, refocus its development activities, increase sales and attain profitable operations. Although TSG reduced its operating costs and expenses, TSG continued to operate at a loss during the seven months ended October 31, 1994 and five months ended March 31, 1995. However, during fiscal 1996 and fiscal 1997, TSG's sales performance improved and TSG returned to profitability. THE PUBLIC PAYPHONE INDUSTRY Domestic Market. Public telecommunication services, including "coin" or "pay" telephone service, in the United States are provided by telcos (which are regulated telephone operating companies), including those owned by the RBOCs, AT&T and other long distance (or "inter-exchange") carriers ("IXCs") and independent payphone providers. The operations of long distance and local exchange carriers are subject to extensive regulation by the FCC and state regulatory agencies (see "Government Regulation"). Virtually all services offered by telcos and IXCs, including payphone services, are provided in accordance with tariffs filed with appropriate regulatory agencies, including the FCC. Independent payphone providers are subject to regulations of state regulatory agencies. TSG believes that the RBOCs control approximately 60% (approximately 1.2 million units) of the payphones in service in the United States. The remaining installed base of payphones are owned and operated by the large independent telephone operating companies (such as GTE), other telcos and independent payphone providers. The majority of payphones deployed by the RBOCs are essentially mechanical devices that perform the functions of normal residential telephones, with the additional ability to hold and collect or refund coins. In these conventional payphone systems, all of the intelligence required to provide service is located at central offices or other network locations of long distance carriers or telcos and is supplied to the payphone via a "coin line." In June 1984, the FCC approved the operation of independently owned payphones, which permitted independent payphone providers to enter the industry. However, barriers to entry into the industry by independent payphone providers were substantial. The RBOCs had in place and available the services of the central offices to provide payphone service, including call rating and routing information, the "bong" tone that signals callers to input calling card numbers, and collection/return signaling for the payphone to collect or return coins. These services were not required to be made available to independent payphone providers and placed them at a disadvantage. Regulatory actions, together with the development of technologically advanced microprocessor-based payphones that perform the functions of the central office within the telephone (referred to in the industry as "smart 49 payphones"), have enabled independent payphone operators to enter the industry and compete effectively with the telcas. Microprocessor-based technology provided independent payphone providers with the capability to route and determine the proper charges ("rate") for calls and to deploy payphones containing maintenance diagnostics and reporting features, coin administration and credit card features, and station message detail recording and reporting features. These features enable independent payphone providers to either route calls to Alternate Operator Services or to store and retrieve call data and billing information, thereby allowing the owner to share in the long-distance revenues generated by the phone, reduce the cost of maintenance and collection, and monitor coin pilferage, among other things. On February 8, 1996, the President of the United States signed into law the Telecommunications Reform Act of 1996 (the "Telecommunications Act"), the most comprehensive reform of communications law since the enactment of the Communications Act of 1934. The Telecommunications Act eliminates long- standing legal barriers separating telcos, long distance carriers, and cable television companies and preempts conflicting state laws in an effort to foster greater competition in all telecommunications market sectors, improve the quality of services, and lower prices. The Telecommunications Act expressly supersedes the consent decree which led to the break-up of AT&T, the formation of the RBOCs, and the line-of-business restrictions that prohibited the RBOCs from providing long distance services and from manufacturing telecommunications equipment. The RBOCs are now permitted to provide long distance service outside their local service areas and to seek approval from the FCC to provide long-distance service within their local service areas based upon a showing that they have opened their local exchange markets to competition. After the FCC has given its approval to a request to provide in-region long distance service, an RBOC may also engage in the manufacture and provision of telecommunications equipment and the manufacture of customer premises equipment, including pay telephones. Such manufacturing enterprises must be conducted through separate affiliates for at least three years after the date of enactment of the Telecommunications Act. In addition, a RBOC may not discriminate in favor of equipment produced or supplied by an affiliate, but rather must make procurement decisions based on an objective assessment of price, quality, delivery and other commercial factors. TSG believes that as a result of the reform legislation, the public communications industry will undergo fundamental changes, many of which may affect TSG's business. The legislation is likely to increase the number of providers of telecommunications services, including perhaps providers of payphone services. This increase in the number of providers is likely to stimulate demand for new payphone equipment. In that event, TSG believes that existing payphone service providers, including the RBOCs, could seek to enhance their technology base in order to compete more effectively with each other and with new entrants. In addition, as the local exchange and intrastate long distance markets are opened to competition, inter-exchange carriers seeking to serve these markets may deploy greater numbers of payphones to capture local and intrastate traffic. There can be no assurance, however, that these trends will develop, or that if they do develop, they will have a beneficial impact on the payphone market generally or on TSG's business in particular. See "Government Regulation." Over the past couple of years, in response to the competitive pressures from independent payphone providers and in anticipation of passage of the Telecommunications Act, several of the RBOCs and other telcos began to upgrade their payphone base with microprocessor-based "smart" payphone technology. TSG believes that approximately 15% to 20% of the installed base of payphones operated by the RBOCs have been upgraded with smart payphone systems, including those provided by TSG. TSG's prospects for future and continued profitability are largely dependent on such trend continuing. See "Sales and Markets--Domestic." International Market. Internationally, it is estimated that there are several million payphones in the installed base. Public communication services in foreign countries are provided by large government-controlled postal, telephone and telegraph companies ("PTTs"), former PTTs that have been privatized for the purpose of investing in and expanding telecommunication networks and services, and cellular carriers. TSG believes that a trend toward privatization and liberalization of the international telecommunication industry is opening the international markets, previously dominated by monopoly and government infrastructure, to increased 50 competition. In addition, many countries are allowing private firms to construct cellular networks and compete with national telecommunication authorities. TSG believes that some of the large United States based telecommunications companies, including certain RBOCs, have invested in telecommunication opportunities abroad including the acquisition of interests in the privatized PTTs and consortiums for the acquisition of licenses and construction of cellular networks to provide cellular communication services. On February 15, 1997, over 60 countries signed a World Trade Organization pact aimed at opening the global telecommunications industry to competition. This agreement provides for most of the countries to end their telephone monopolies by the year 2000. However, the agreement, which must be ratified by the individual countries, will likely encounter substantial opposition. Accordingly, there is no assurance that the agreement will be ratified or facilitate free market conditions within the global telecommunications market. Presently, the density of payphone installations in many foreign countries on a per capita basis is far less than that in the United States. TSG believes that many of these countries are seeking to expand and upgrade their telecommunications systems and are funding programs to provide communication services to the public. The expansion programs include the construction of wireless networks, and TSG believes that wireless payphone service will become one of the primary avenues of providing communication services to the public in certain foreign markets. TSG believes that large scale payphone deployment programs are underway in several foreign markets, and that the international public communications industry will continue to evolve and be a significant growth industry over the next several decades to the extent that privatization and the investment in and expansion of both wireline and wireless networks progresses. Although foreign markets are believed to be a potential source of significant demand for TSG's products, there are impediments to TSG's ability to penetrate such markets, including resource limitations, regulations and the normal difficulties attendant on conducting international business. PRODUCTS AND SERVICES TSG manufactures and markets "coin" and "coinless" "payphone" systems and products that connect to and operate as integral parts of domestic and foreign telecommunication networks. TSG also markets payphone and payphone component repair, refurbishment and conversion upgrade services to local exchange carriers in the United States. TSG's products include payphones equipped with non-smart payphone electronics (for coin line installations) and payphones equipped with microprocessor-based smart payphone processors (for coin line and/or non-coin line installations) that connect to wireline telecommunication networks ("wireline payphones") and payphones equipped with a specially designed smart cellular processor that connect to cellular telecommunication networks ("wireless payphones"). Smart payphone processors (and non-smart electronics) are the primary electronic assemblies or "engines" of payphones. TSG also supplies smart payphone retrofit kits and a wide range of payphone components (including, among other things, dials, handsets, chrome doors, credit card readers and volume amplification modules) required to manufacture payphones and to repair and/or upgrade deployed payphones with enhanced technology. TSG's smart payphone systems are provided with CoinNet payphone management software. This management system is used by customers to remotely manage networks of TSG's smart payphone products interactively. A significant portion of TSG's revenues is derived from the sale of smart payphone processors and payphone retrofit kits to certain RBOCs that are upgrading their installed base of payphones with technologically advanced processors. TSG's wireline payphone products were developed specifically for the regulated telephone operating companies in the United States. The design of TSG's wireline coin payphones is based upon the Western Electric configuration developed for use in the Bell system versus the GTE configuration developed for the independent telephone companies and also used by most of the independent payphone providers. TSG's coinless wireless ("cellular") payphone products were developed for use in foreign markets, and are manufactured in several different configurations, including the Western Electric configuration, depending on the application. The majority of foreign countries follow the network standards of the Consultative Committee for International Telephone and Telegraph ("CCITT"). One of the primary technical network differences in the 51 payphone industry between the countries following the CCITT network standards and those following the U.S. network standards relates to call rating. TSG has not to date offered a wireline product that operates with networks following the CCITT standards. TSG is presently developing a new smart payphone processor that it believes will be capable of operating with networks following either standard. TSG believes that this technology will enable TSG to compete in the independent market in the United States and in foreign countries that follow the CCITT standard. TSG's new smart payphone processor is currently undergoing limited field trial testing and evaluation in coin line and in non-coin line installations domestically. TSG believes that its new smart payphone processor will be available to market during the latter part of its 1998 fiscal year, although there can be no assurance in that regard. See "Design and Product Development." The following table outlines products currently offered by TSG: PRODUCT DESCRIPTION GEMINI SYSTEM II(TM) The Gemini System II(TM) ("Gemini") product is a sophisticated microprocessor-based smart payphone processor which is programmable to operate in either a coin line mode or a non-coin line mode. The coin line mode uses the rating and answer supervision services provided by the central office ("CO") and associated network. In contrast, rating and answer supervision services are performed within the processor when programmed to operate in the non-coin line mode. Programmable billing, reporting and operating cost reduction features offered with the Gemini product include: (i) station message detail recording, which provides for the storage of all call data within the phone; (ii) maintenance reporting and diagnostics, which provides for remote diagnosis of payphone and component operating status via telemetry; (iii) coin administration, which provides coin accounting capability and reporting of coin box status; (iv) call routing, which provides for the routing of calls to the programmed carrier; and (v) credit card billing and auditing, which provides the ability to bill credit card calls and to identify invalid cards or card numbers. The Gemini product is also designed to interface with an electronic lock to control and to permit remote monitoring of collection activities. Programmable revenue enhancement features offered with the Gemini product include: (i) voice messaging, which enables the user to record a message to the called party rather than allow the call to go uncompleted; and (ii) usage based pricing, which administrates local call costing on the basis of time. The features available with the Gemini product are designed to enable customers to enhance revenues and to reduce costs of operation and maintenance through accurate scheduling of maintenance and collection activities. All programming, retrieval, reporting and telemetry features are performed remotely using TSG's payphone software management system. GEMSTAR(TM) The GemStar product is a microprocessor-based smart payphone processor designed for coin line applications which require the rating and answer supervision functions performed by the CO network. The GemStar product offers the primary cost reduction and reporting features of the Gemini product, including maintenance reporting and diagnostics and coin administration. With added memory, the GemStar product also provides station message detail recording. The GemStar product is also designed to interface with an electronic lock to control and to permit remote monitoring of collection activities. 52 INMATE(TM) The InMate product is a microprocessor-based smart payphone processor designed for prisons where cost reduction and revenue enhancement features as well as other specialized features are required. The InMate product offers station message detail recording, maintenance reporting and diagnostics, voice messaging, usage based pricing and call routing. In addition, specialized features include: (i) outgoing call restriction, which can restrict calls to specified numbers; (ii) call duration, which limits the time duration of calls; and (iii) personal identification numbers, which permit valid user access only. Coin administration features are not provided in this coinless environment. GEMCELL(TM) The GemCell product is a microprocessor-based cellular payphone processor that interfaces to a cellular transceiver for use in domestic and international wireless networks. The GemCell product was designed to have the primary features available with the Gemini product except coin administration. Instead, the GemCell product was designed to accept debit ("prepay") cards, smart ("chip") cards or credit cards as the form of payment. The GemCell product is not currently marketed in the U.S. COINNET(TM) The CoinNet product is a remote payphone software management system which operates on personal computers in a multi-tasking environment. This proprietary software product provides TSG's customers with the ability to manage networks of installed payphones interactively. Downloading software changes, retrieving station message detail recording data, maintenance and diagnostics data and coin box data are a few of the functions of this Unix or MS--DOS-based software system. PAYPHONES TSG offers its payphones in a wide range of electronic and smart configurations depending upon the application requirements of its customers. TSG's wireline payphones include coin (or token) payphones and/or coinless payphones, including credit card applications. TSG's wireless, coinless payphones include debit ("prepay") and smart (chip") card payphones which are offered in fixed configurations as well as configurations for mobile deployment, such as taxis, trains and buses. TSG's smart wireline payphone technology derives power from the telephone line, eliminating the need for external power sources. TSG's wireless payphones are powered by commercial electric line power or by a solar powered platform so that they can be deployed without network wiring and cabling. CELLULAR ASSISTANCE TSG also offers a specialized Cellular Assistance PHONE Phone designed to provide emergency phone service in specific applications, such as along highways and in remote areas. The Cellular Assistance Phone is provided with a cellular transceiver and is powered by commercial electric line power or by a solar powered platform so that it can be deployed without network wiring and cabling. The features of the Cellular Assistance Phone are limited to those required for emergency situations and permit the user to automatically dial a preset emergency assistance number. The Cellular Assistance Phone is not currently marketed in the United States. PAYPHONE COMPONENTS Payphone components supplied by TSG include, among others, non-smart payphone electronics, touchtone dials, handsets, coin relays, and volume amplification assemblies. These components are manufactured at TSG's facilities to Bellcore specifications. 53 SERVICES TSG provides payphone and payphone component repair, refurbishment and upgrade conversion services for its customers. Refurbishment services involve the rebuilding of payphone components and sets to "like new" condition. Upgrade conversion services include the modification of payphone components and sets to an updated or enhanced technology. SALES AND MARKETS Domestic. TSG markets its payphone products and services predominately to the RBOCs. In fiscal years 1995, 1996 and 1997, sales to RBOCs accounting for greater than 10% of TSG's sales aggregated 72%, 88% and 90%, respectively, of TSG's sales revenues. During fiscal 1995, Ameritech Services, Inc. ("Ameritech"), Bell Atlantic Corp. ("Bell Atlantic"), SWB and NYNEX accounted for approximately $2.8 million, $5.8 million, $3.8 million and $2.2 million, respectively, of TSG's sales. During fiscal 1996, Bell Atlantic, NYNEX and SWB accounted for approximately $5.6 million, $7.9 million and $15.5 million, respectively, of TSG's sales. During fiscal 1997, Ameritech, Bell Atlantic and NYNEX accounted for approximately $4.6 million, $5.2 million and $20.2 million, respectively, of TSG's sales. TSG anticipates that it will continue to derive most of its revenues from these customers, and other RBOCs, for the foreseeable future. During the last year, mergers between Pacific Telesis Inc. and SBC Communications, Inc. (the parent of SWB), and between Bell Atlantic and NYNEX were announced and/or consummated. TSG cannot predict the impact that these mergers will or may have on TSG's business. TSG competes for and enters into non-exclusive supply contracts to provide products, components and services to the RBOCs. TSG has entered into sales agreements to provide payphone components to Bell Atlantic, NYNEX and SWB. TSG has entered into sales agreements to provide repair, refurbishment and conversion services to Ameritech Services, Inc., Bell Atlantic, NYNEX and SWB. These agreements have terms ranging from two to three years, are renewable at the option of and subject to the procurement process of the particular RBOC, contain fixed sales prices for TSG's products and services with limited provisions for price increases, and expire at various dates from June 1997 to March 1999. These sales agreements are frameworks for dealing on open account and do not specify or commit TSG's customers to purchase a specific volume of products or services. If orders are made, however, TSG has agreed to fill such orders in accordance with the contract specifications. The agreements are generally subject to termination at the option of the customer upon 30 days' notice to TSG, or if TSG defaults under any material provision of the agreement, including provisions with respect to performance. In November 1996, TSG entered into a non-exclusive sales agreement, effective July 1, 1996, to provide its Gemini smart payphones and processors, CoinNet payphone management system and other payphone components to NYNEX for a period of five years. This agreement superseded a December 1995 smart product sales agreement between TSG and NYNEX. The November 1996 agreement sets forth the terms and conditions relating to the sale of products to NYNEX, and does not specify or commit NYNEX to purchase a specific volume of products from TSG. If orders are made, however, TSG has agreed to fill such orders in accordance with NYNEX's specifications and at fixed prices set forth in the agreement. TSG has agreed not to increase its prices during the term of the agreement and has agreed to implement a continuous improvement program to improve productivity and quality and to reduce product costs during the term of the agreement. The agreement includes provisions for reductions in sales prices to NYNEX based on product cost reductions achieved from the continuous improvement program and based on NYNEX's purchase volume. The agreement contains a "most favored customer" clause pursuant to which TSG has agreed to provide price and other terms at least as favorable as those extended by TSG to other customers for similar purchase volumes of products covered by the agreement. TSG has agreed to indemnify NYNEX against expenses, liabilities, claims and demands resulting from products covered by the agreement, including those related to patent infringement and performance specifications. The agreement may be terminated by either party upon default by the other party upon 30 days' written notice, provided the default is not cured within 30 days from the receipt of notice of default. Further, NYNEX may terminate the agreement upon 120 days' written notice to TSG. However, upon such a termination, 54 NYNEX has agreed to purchase TSG's inventories related to the products covered by the agreement, provided that such obligation will not exceed the value of NYNEX's purchases for a 120-day period, determined based upon the average monthly volume for the previous six-month period, less the value of outstanding orders to be shipped, the value of products which may be sold to other customers, and the value of inventory that may be returned to TSG's suppliers. The agreement expires on July 1, 2001. In June 1997, TSG entered into an agreement with SWB that supersedes and terminates a December 1994 agreement between the parties. Under the new agreement, TSG agreed to reduce SWB's remaining purchase commitment of GemStar processors and electronic locks to approximately $3 million from approximately $8 million under the former agreement and, among other things, upgrade SWB's payphone management system. In return, SWB made a cash payment of $250,000 to TSG, terminated TSG's obligation to pay royalties on sales of GemStar processors to other customers and terminated TSG's obligation to repay $375,000 received from the sale of product software under the December 1994 agreement. SWB also agreed to make additional cash payments of $250,000 on July 2, 1997, $100,000 on September 1, 1997, $150,000 on December 31, 1997 and $250,000 on March 31, 1998 to TSG subject to TSG's compliance with the terms and conditions of the agreement, including conditions with respect to product quality and performance, service and repair. As of the date hereof, TSG had received scheduled payments from SWB in accordance with the terms of the contract. SWB has the right to cancel the agreement without further obligation to TSG, including any obligation to make additional payments or to purchase additional products, upon a default by TSG of any of the terms and conditions contained in the agreement. Further, SWB may terminate the agreement by giving TSG 30 days' prior written notice, in which case, SWB is obligated to purchase the products and make the payments set forth in the agreement. See "TSG Management's Discussion and Analysis of TSG's Financial Condition and Results of Operations" and "Consolidated Financial Statements of Technology Service Group, Inc." included as Appendix C. TSG sells its products and services directly to its customers. TSG involves a wide range of personnel in its sales and marketing activities, including its Vice President of Sales and Marketing, two experienced sales directors, three service technicians, its engineering staff, its quality managers, and its President and CEO. TSG's engineering staff and service technicians provide support and technical services via telephone without charge, and TSG provides field engineering support services during the initial deployment of products and when customers encounter unusual or technical problems. TSG's commitment to service and support throughout its organization is directed at maintaining strong relationships with customers' operating, technical and administrative personnel. TSG also conducts training seminars and provides assistance to customers in the installation and set-up of TSG's payphone software management system. International. TSG markets its smart wireless payphones in Korea, Mexico, Ecuador, Venezuela and other South American countries, primarily under distributor and reseller relationships. TSG presently has distributor relationships in Venezuela, for the South American markets, and in Korea. TSG also markets its products in Central American markets directly and through an independent sales representative. TSG's export sales during fiscal 1995, 1996 and 1997 approximated $1.4 million, $856,000 and $461,000, respectively. TSG's export sales during the three months ended June 27, 1997 approximated $601,000. TSG believes that the international public communications market represents a growth opportunity. TSG, however, has limited experience exporting products and operating outside the United States and there can be no assurance that TSG will be able to generate significant revenues from international business. Conducting business internationally is subject to a number of risks, including political instability, foreign currency fluctuations, adverse movements in exchange rates, economic instability, the imposition of tariffs and import and export controls, changes in governmental policies (including U.S. policy toward foreign countries), general credit and business risks and other factors, one or more of which, if they occur, could have an adverse effect on TSG's ability to generate international sales or operations. TSG's sales to date have been denominated in U.S. dollars and as a result, no losses related to currency fluctuations have been incurred. For the same reason, TSG has not engaged in currency hedging activities. There is no assurance, however, that TSG will be able to continue to 55 export its products in U.S. dollar denominations or that its business will not become subject to significant exposure to foreign currency risks. In addition, TSG intends to complete the development and begin marketing wireline payphone products for international CCITT applications during fiscal 1998, and there is no assurance that TSG will be able to successfully complete the development of such products or that it will be able to successfully market such products. Finally, many of TSG's known and potential international competitors have substantially greater financial and other resources than TSG and, therefore, are formidable competitors. See "Competition." TSG believes that wireless payphone services will become one of the primary avenues of providing communication services to the public in many of the developing nations in South America and Central America and that these markets represent a significant growth opportunity. Many of the cellular licenses awarded to companies in foreign markets to provide services in competition with national communication authorities have been awarded to consortiums and companies in which the RBOCs have invested. TSG believes that an opportunity exists to expand its market channel within the RBOC arena by deployment of its wireless payphone technology to international wireless concerns affiliated with the RBOCs. TSG intends to continue to invest in the development of wireless products and hardware for non-coin technologies including prepay and debit cards, including smart ("chip") cards. COMPETITION TSG believes that it is a significant provider of payphone products and payphone repair services to the RBOCs. TSG operates in a highly competitive environment and competes against numerous domestic and foreign providers of payphones and payphone repair services that have financial, management and technical resources substantially greater than those of TSG. In addition, there are many other firms which have the resources and ability to develop and market products which could compete with TSG's products. TSG believes its ability to compete depends upon many factors within and outside its control, including the timing and market acceptance of new products developed by TSG and its competitors, performance, price, reliability and customer service and support. The Telecommunications Act lifts the restriction on the manufacturing of telecommunications equipment by the RBOCs. After the FCC finds that an RBOC has opened its local exchange market to competition, the RBOC, through a separate affiliate, may manufacture and provide telecommunications equipment and may manufacture customer premises equipment, such as payphones. As a result of the legislation, TSG could face new competitors in the manufacture of payphones and payphone components from one or more of the RBOCs or their affiliates. The RBOCs have financial, management and technical resources substantially greater than TSG. However, the legislation does not permit RBOCs to create joint manufacturing operations with each other. In addition, the legislation provides that as long as Bellcore is an affiliate of more than one RBOC, Bellcore may not engage in manufacturing telecommunications equipment or customer premises equipment. The Telecommunications Act also incorporates numerous safeguards to ensure that standards-setting organizations conduct themselves fairly, and requires the FCC to establish a dispute resolution process for equipment manufacturers involved in conflicts over standards setting. TSG believes that the primary competitive factors affecting its business with the RBOCs are quality, price, service and delivery performance. TSG competes aggressively with respect to the pricing of its products and services, and because TSG's contractual agreements with the RBOCs generally provide TSG with limited ability to increase prices if manufacturing costs increase, TSG attempts to reduce its manufacturing costs rather than increase its prices. TSG also attempts to maintain inventory at levels which enable TSG to provide immediate service and to fulfill the delivery requirements of its customers. TSG believes that its principal competitors in the United States include Protel Inc., Elcotel, Intellicall, Inc., Lucent Technologies and International Totalizing Systems, Inc., and with respect to repair and refurbishment services, Restor Industries, Inc. TSG also competes with numerous foreign companies marketing products in the United States, including Northern Telecom, Inc. However, TSG does not believe that foreign competitors have 56 yet been able to successfully penetrate the payphone industry in the United States. Some of TSG's competitors, including Protel Inc., Intellicall, Inc. and Elcotel, supply payphone products to independent payphone providers which compete with the RBOCs. During fiscal 1997, TSG did not actively market its products to independent payphone providers. Many of TSG's competitors are substantially larger than TSG and have significantly greater financial, technical and marketing resources. As a result, they may be able to respond more quickly to new or emerging technologies and changes in customer requirements, or to devote greater resources to the development, promotion and sale of their products than TSG. It is also possible that new competitors may emerge and acquire significant market share. Possible new competitors include large foreign corporations, TSG's RBOC customers and other entities with substantial resources. Increased competition is likely to result in price reductions, reduced gross margins and loss of market share, any of which would have a material adverse effect on TSG's business, results of operations and financial condition. There can be no assurance that TSG will be able to compete successfully against current or future competitors or that competitive pressures will not have a material adverse effect on TSG's business, results of operations and financial condition. In addition, it is unlikely that TSG will become a significant supplier of smart payphone products to all of the RBOCs since competition for business with the RBOCs is intense. Internationally, TSG competes with numerous foreign competitors, all of which have financial, management and technical resources substantially greater than TSG. These foreign competitors market payphone products predominately to the PTT's and thereby dominate the international payphone market. TSG believes that the primary competitive factors affecting its international business are the ability to provide products that meet the specific application requirements of the customers, quality and price. TSG expects that a number of personal communications technologies will become increasingly competitive with payphone services provided by the telephone companies and independent payphone providers. Such technologies include radio-based paging services, cellular mobile telephone services and personal communication services. However, TSG believes, but cannot assure, that the payphone industry will continue to be a major provider of telecommunications access. Prior to 1984, the regulated telephone companies held a monopoly in the United States payphone market, and they continue to have a dominant share of the payphone market. The regulated telephone companies have financial, marketing, management and technical resources substantially greater than those of private payphone providers. TSG believes that the regulated telephone companies will continue to experience increasing competition from independent payphone providers. Accordingly, TSG believes, but cannot ensure, that the telephone operating companies can be expected to upgrade their technology base and protect their market share. MANUFACTURING, ASSEMBLY AND SOURCES OF SUPPLY TSG performs repair, refurbishment and conversion services and most of its product assembly operations at its facilities. In addition, certain components, including low-density electronic circuit board assemblies, dials and handsets, are assembled at TSG's facilities. Other components are purchased from various distributors and manufacturers, including contract manufacturers engaged by TSG. TSG generally assembles its smart payphone products from assemblies produced by manufacturers under contractual arrangements. On October 21, 1994, TSG entered into a manufacturing agreement with Avex Electronics, Inc. ("Avex"), a large contract manufacturer, that provided for the production of TSG's GemStar circuit board assemblies and payphone processor. TSG committed to purchase $12.2 million of GemStar assemblies. At March 28, 1997, TSG had purchased the majority of its initial commitment. TSG has also engaged Avex to manufacture the printed circuit board assemblies for its Gemini processors, its new smart payphone processor presently under development and other products, and has committed to purchase approximately $5.5 million of assemblies for its new smart payphone processor during the first year of production. The manufacturing agreement may be terminated by either party for default upon a material breach of the terms of the agreement by the other party, 57 provided such breach is not cured within a 30-day notice period. Further, TSG may terminate the agreement at any time. However, upon a termination of the agreement by TSG, TSG is obligated to purchase inventories held by the manufacturer and pay vendor cancellation and restocking charges, and a reasonable profit thereon. In addition, upon a cancellation by TSG of its purchase obligation, or a substantial portion thereof, related to its new smart payphone processor, TSG is obligated to pay a cancellation penalty of up to $500,000. This cancellation obligation varies depending upon quantities purchased by TSG and expires when TSG has substantially met its purchase commitment. TSG is dependent upon Avex to manufacture and supply products required to meet sales commitments under the terms of its smart product sales agreements. On November 18, 1994, TSG entered into an exclusive dealer agreement with Control Module, Inc. that provided TSG with the rights to purchase and supply electronic lock devices to SWB in accordance with the terms of a December 1994 sales agreement between TSG and SWB. TSG committed to purchase approximately $3.5 million of the electronic lock devices at specified prices over a two- year period. At March 28, 1997, TSG had satisfied its purchase commitment, and had an adequate inventory of electronic lock devices to meet its remaining sales commitment to SWB. The dealer agreement expired upon TSG's purchase of the committed volume. On September 16, 1991, TSG entered into a Manufacturing Rights Agreement (the "Manufacturing Agreement") with Commtek Industries, Inc., an unaffiliated Taiwan corporation. TSG granted Commtek the exclusive right to utilize the assets owned by TSG's foreign division for a period of five years to manufacture many of the non-electronic components and assemblies for TSG's products. TSG agreed to purchase a minimum aggregate annual volume of $2.5 million during the first year of the agreement and $3 million for each year thereafter. The Manufacturing Agreement expired on September 15, 1996. However, the parties have continued the supply relationship under standard purchase arrangements. TSG believes that there are alternative sources of supply for the components and assemblies currently purchased from Commtek. However, if a shortage or termination of the supply of any one or more of such components or assemblies were to occur, TSG's business could be materially and adversely affected. WARRANTY AND SERVICE TSG provides warranties of 90 days with respect to repair, refurbishment and conversion services and from one to three years on its products. Under TSG's warranty program, TSG repairs or replaces defective parts and components at no charge to its customers. TSG's contract manufacturers provide warranties on the electronic circuit board assemblies ranging from 90 days to 120 days, pursuant to which defective electronic circuit board assemblies are replaced or repaired at no charge to TSG. TSG generally enters into repair agreements with respect to its smart products under which TSG agrees to perform non-warranty repair services at specified prices. TSG also provides repair, refurbishment and conversion services under agreements with its customers. See "Sales and Markets." LICENSES, PATENTS AND TRADEMARKS The engineering designs on which TSG's electronic products and components are based were internally developed by TSG's engineering staff. TSG owns eight United States patents relating to payphone components, its smart payphone platform and other technology which expire between April 2010 and May 2014. TSG has one patent application outstanding. Although TSG believes that its patents and trademarks are important to its business, it does not believe that patent protection or trademarks are critical to the operation or success of its business. TSG does not believe that it is infringing on the patents of others and would defend itself against any allegations to that effect. There can be no assurance, however, that infringement claims will not be asserted in the future or that the results of any patent-related litigation would not have a material adverse affect on TSG's business. TSG regards its manufacturing processes and circuit designs as proprietary trade secrets and confidential information. To protect this information, TSG relies largely upon a combination of agreements with its contract 58 manufacturers, confidentiality procedures, and employee agreements. However, there can be no assurance that TSG's trade secrets will not be disclosed or misappropriated. TSG licenses certain technologies from third parties under agreements providing for the payment of royalties. Royalty expense during the year ended March 28, 1997 approximated $196,100. See "Consolidated Financial Statements of Technology Service Group, Inc." included as Appendix C. DESIGN AND PRODUCT DEVELOPMENT TSG's engineering department is staffed with software, electrical and mechanical engineering professionals. Their activities are dedicated to the development of new products, enhancements of TSG's deployed product line, including the CoinNet management system, and enhancements to improve product reliability. Their efforts are also directed to reducing product costs through new manufacturing methods. During fiscal 1995 and 1996, TSG expended approximately $938,000 and $1.2 million, respectively, on engineering, research and development activities consisting primarily of the design and development of GemStar, Gemini and GemCell products. During fiscal 1997, TSG expanded its research and development activities for the purpose of designing and developing a new smart payphone processor capable of operating in domestic coin line installations, domestic non-coin line installations and in foreign CCITT network installations. During the year ended March 28, 1997, TSG expended approximately $1.8 million on engineering, research and development activities, and in addition thereto, capitalized software development expenses of $421,693. TSG believes that new products and product enhancements have the potential to increase its market opportunities and are essential to its long-term growth, particularly in international wireline markets, and TSG's ability to fund future research and development activities, in turn, will be dependent upon its ability to generate cash in excess of its operating needs. See "TSG Management's Discussion and Analysis of TSG's Financial Condition and Results of Operations." EMPLOYEES At September 26, 1997, TSG had 148 full-time employees and 61 temporary contract employees, consisting of 140 persons engaged in direct labor activities, 32 persons engaged in manufacturing support activities, 16 persons engaged in administrative, sales and finance activities and 21 persons engaged in engineering and engineering support activities. In addition, TSG has three independent contractors engaged in product development activities. TSG considers its relations with its employees to be satisfactory. At September 26, 1997, none of TSG's employees were represented by a collective bargaining unit. BACKLOG The amount of TSG's backlog is subject to large fluctuations because TSG's business depends upon a small number of customers and large orders. TSG calculates its backlog by including only items for which there are purchase orders with firm delivery schedules. Contractual commitments are not included in backlog until purchase orders are received by TSG. At September 26, 1997, the backlog of all products and services was approximately $3.8 million as compared to approximately $5.3 million at September 27, 1996. TSG's objective is to ship orders within 30 days of receipt and, therefore, TSG does not expect its backlog, other than orders with scheduled deliveries under contractual commitments, to exceed monthly sales levels. Accordingly, TSG's backlog at any given date is not indicative of future revenues. SEASONALITY TSG's sales are generally stronger during periods when weather does not interfere with the maintenance and installation of payphone equipment by TSG's customers. Accordingly, TSG's sales could be adversely affected during certain periods of the year. TSG's sales may also be adversely impacted near the end of the calendar year by the budget shortfalls of customers. As a result, TSG's sales during its third quarter may decline significantly in relation to other quarters. 59 POTENTIAL ENVIRONMENTAL LIABILITIES During the year ended March 28, 1997, TSG completed the evaluation, assessment and monitoring of soil and groundwater contamination at one of TSG's former facilities in Florida in accordance with requirements stipulated by the Florida Department of Environmental Protection (the "FDEP"), and in April 1997 received a formal "no further action status" notification for the site from the FDEP. Accordingly, TSG has not accrued any additional costs with respect to this site. It is possible, however, that the FDEP could reopen the investigation in the future and require TSG to take further actions at the site. TSG cannot estimate a range of costs, if any, that it could incur in the future since such costs would be dependent upon the scope of additional actions, if any, that may be required by the State of Florida. During the year ended March 28, 1997, TSG was a Potentially Responsible Party ("PRP") for undertaking response actions at a facility for the treatment, storage, and disposal of hazardous substances operated by Seaboard Chemical Corporation from 1975 to 1989 at Jamestown, North Carolina. However, TSG, as a small generator "De Minimis" party, executed a buy-out agreement with respect to the remediation activities at a cost of approximately $8,200 during the year ended March 28, 1997. TSG believes, based on information presently available to TSG, that it has no further obligations with respect to the site. However, if additional waste is attributed to TSG, it is possible that TSG could be liable for additional costs. TSG cannot estimate a range of costs, if any, that it could incur in the future since such costs would be dependent upon the amount of additional waste, if any, that could be attributed to TSG. TSG has also been notified that it is a PRP with respect to response actions at the Galaxy/Spectron Superfund Site in Elkton, Maryland. TSG, however, is also a De Minimis party with respect to this site, and TSG believes its proportionate share of costs to undertake response actions will likely be insignificant. TSG has received notification that the De Minimis parties will be able to buy out and obtain a release from any further clean-up liability at the site at a cost presently estimated at $3.70 per gallon of contributed waste, which would amount to $2,849 with respect to TSG's contribution. TSG has not incurred any costs with respect to this site and believes that its ultimate costs will not be material. GOVERNMENT REGULATION TSG's operations are subject to certain federal, state and local regulatory requirements relating to environmental, health and safety matters. Management believes that TSG's business is operated in compliance with applicable regulations promulgated by the Occupational Safety and Health Administration and the Environmental Protection Agency and corresponding state agencies which pertain to health and safety in the work place and the use, discharge and storage of chemicals employed in its operations, respectively. Current costs of compliance with such regulations are not material to TSG. However, the adoption of new or modified requirements not presently anticipated could create additional expense for TSG. The FCC regulates under Part 15 of its rules the operation and marketing of devices which emit radio-frequency energy, whether intentionally or unintentionally, and which do not require an individual license. The marketing of such devices is also regulated under Part 2 of the FCC's rules. The FCC regulates the direct connection of terminal equipment to the public switched telephone network and the marketing of such equipment under Part 68 of its rules. Parts 15 and 68 establish technical standards and procedural and labeling requirements for equipment subject to these rules. Certain modifications to equipment subject to these rules must also comply with these technical standards and procedural and labeling requirements. Manufacturers of products subject to Part 68 also must implement a continuing compliance program under which products currently in production must be tested every six months to ensure continued compliance with the applicable technical standards. Certain types of devices sold as components or subassemblies are exempt from the technical standards and procedural and labeling requirements of Parts 15 and 68. If such components or subassemblies are incorporated into and marketed as part of systems or sets subject to Part 15 or Part 68, however, such systems or sets must comply with the applicable rules. TSG believes that it was in compliance with Parts 15 and 68 of the FCC's rules and regulations at March 28, 1997. 60 TSG believes that the regulatory climate in the United States over recent years has begun to influence the RBOCs' deployment of public communication products. TSG also believes that the RBOCs have begun to upgrade their payphone base with smart products that reduce their cost of management, maintenance and coin administration and that include revenue enhancement features. The deployment and business strategies of the public communication divisions of the RBOCs have affected and will continue to affect TSG's business. To the extent that these business strategies were to change, for regulatory reasons or otherwise, TSG's prospects would be materially and adversely affected. On September 20, 1996, the FCC released its order (the "Order") adopting regulations to implement the section of the Telecommunications Act which mandated fair compensation for all payphone providers and otherwise changed the regulatory regime for the payphone industry pursuant to the Telecommunications Act. The Telecommunications Act requires that the FCC establish a per call compensation plan to ensure that all payphone service providers are fairly compensated for each and every completed intrastate and interstate call using their payphones. Among other matters, the Order addressed compensation for non-coin calls, local coin calling rates, and removal of subsidies and discrimination favoring payphones operated by telcos, and authorized RBOCs and other providers to select service providers. In the Order, the FCC decided that the dial-around compensation rate for access code calls and subscriber 800 and other toll free calls should be equal to the deregulated local coin call rate. The FCC also established an interim compensation plan whereby compensation for access code and subscriber 800 calls would be paid to payphone service providers. Under the first phase of the FCC's interim compensation plan, payphone service providers would be compensated at a flat rate of $45.85 per payphone per month (based on $.35 per call multiplied by 131, the average number of 800 and access code calls per payphone per month), as compared to the previous compensation of $6.00 per month. This interim rate expired on September 1, 1997, and replaced all other dial-around compensation prescribed at the state or federal level. This compensation was to be paid by the major inter-exchange carriers based on their share of toll revenues in the long distance market. Payphones owned by the RBOCs and other telcos would be eligible for interim compensation when they removed their payphones from their regulated accounts, which was to be completed by April 15, 1997. By October 1, 1997, the inter-exchange carriers were required to have per-call tracking instituted. At that point, under the second phase of the interim compensation plan, all payphones would switch to a per-call compensation rate set at $.35 per 800 or access code call. Under this system, compensation would be paid on every completed 800-subscriber and access code call. The carrier which is the primary beneficiary of the call would pay the per-call compensation. After one year of deregulation of coin rates (October 1, 1998), the compensation rate would be adjusted to equal the local coin rate charge in a particular payphone. On July 1, 1997, the United States Court of Appeals for the District of Columbia Circuit issued its decision on appeals of certain portions of the Order. The Court ruled that the FCC was unjustified in setting the per-call compensation rate at an amount equal to the deregulated local coin rate. The Court remanded to the FCC for further consideration the issues of compensation for 800 and access code calls both on a permanent and an interim basis. On September 16, 1997, the Court clarified its earlier ruling by vacating the compensation of $.35 per call on both an interim and default basis. The Court ordered that interim compensation for 0+ calls be included in the new interim compensation plan. The Court upheld the FCC's authority to regulate the rates charged for local coin calls (thereby eliminating state limitations on such rates) and the FCC's decision to require the carrier rather than the calling party to pay the compensation to payphone service providers for 800 and access code calls. On October 9, 1997 the FCC issued an order addressing certain issues with respect to payphone compensation previously remanded to it by the Court of Appeals. The FCC set the per call compensation rate at $.284 per call during the period October 7, 1997 through October 6, 1999. After that period, the compensation rate would be whatever is charged at the phone for a local call, less $.066, the amount the FCC determined to be the avoided cost in completing a non-coin call. The FCC must still determine the compensation rate for the period November 6, 1996 through October 6, 1997 and which carriers must pay compensation for that period. It is likely that the FCC's latest action may also be challenged in court. The ultimate outcome with respect to per call 61 compensation will have a significant impact on the business and operations of payphone customers. Elimination or significant reductions in the amount, or delay in the payment, of per call compensation may reduce demand for payphones. The Order required telco payphones to be removed from regulation, separating payphone costs from regulated accounts by April 15, 1997. This requirement is intended to eliminate all subsidies that favor telco payphones. Telcos were also required to reduce interstate access charges to reflect separation of payphones from regulated accounts. In order to eliminate discrimination, telcos are also required to offer coin line services to independent providers if telcos continue to connect their payphones to central office-driven coin line services. The FCC did not mandate unbundling of specific coin line related services, but did make provisions to allow states to impose further payphone services requirements that are consistent with the Order. The Order authorizes RBOCs to select the operator service provider serving their payphones and for independent payphone providers to select the operator service provider serving theirs. This provision preempts state regulations that require independent providers to route intralata calls to the telcos. The FCC, however, did not establish conditions that require operator service providers to pay independent payphone providers the same commission levels as the RBOCs demand. Although dramatic regulatory changes, particularly those created by recent legislative actions, have occurred and may continue to occur, TSG believes that the telecommunications industry will continue to be regulated in some form by Federal and/or state authorities. There can be no assurance that changes in regulations affecting the telecommunications industry would not have an adverse impact on the operations of TSG's customers and, therefore, on the operations of TSG. PROPERTIES TSG's administration, sales, marketing and engineering activities have historically been located at its headquarters in approximately 11,800 square feet of leased office space located at 20 Mansell Court East, Suite 200, Roswell, Georgia. The lease expires on December 31, 1997. In November 1996, TSG executed a lease agreement with respect to a 39,200 square foot facility located in Alpharetta, Georgia that commenced on April 1, 1997. TSG originally planned to close its present corporate office facility and to consolidate its product assembly operations and corporate activities into the new facility. The lease has an initial term of five years and is renewable for an additional five-year term. However, in view of the potential business combination with Elcotel, TSG delayed the start-up of the new Georgia facility. Elcotel and TSG have agreed, as part of their integration and consolidation plan, to dispose of the facility and relocate certain TSG assembly operations into Elcotel's facilities. On September 23, 1997, TSG assigned the lease agreement to an unaffiliated third party. In contemplation of the assignment of the lease and the Merger, TSG entered into an agreement with Elcotel dated September 26, 1997 that provides for the assembly of certain of TSG products by Elcotel at prices equal to TSG's cost. In the event the Merger is not consummated, Elcotel has agreed, subject to certain exceptions, to continue to assemble such products at prices equal to TSG's cost until the first anniversary of the date Elcotel becomes obligated to provide manufacturing services under the agreement, and has agreed to reimburse TSG for its costs in establishing a manufacturing facility to replace the Alpharetta facility, not to exceed $100,000. TSG performs payphone assembly operations and repair, refurbishment and conversion service operations in a 53,400 square-foot leased facility located in Orange, Virginia. The Orange, Virginia facility is leased pursuant to the terms of an operating lease agreement that expires on July 31, 1998, with the right to renew the lease for four additional terms of one year each. During the third quarter of fiscal 1997, TSG closed a one hundred thousand square-foot facility located in Paducah, Kentucky and consolidated service operations into its Orange, Virginia facility. TSG believes its facilities are adequate for its business. 62 MARKET FOR TSG COMMON STOCK AND RELATED STOCKHOLDER MATTERS TSG Common Stock was listed on the Nasdaq SmallCap Market of The Nasdaq Market under the symbol "TSGI" from May 10, 1996 to October 7, 1996. On October 7, 1996, TSG Common Stock was listed on the Nasdaq National Market tier of The Nasdaq Market under the symbol "TSGI." Prior to May 10, 1996, there was no public trading market for TSG's Common Stock. The high and low sales prices of TSG Common Stock for the quarterly periods during the period May 10, 1996 to September 27, 1997 were as follows:
HIGH LOW ------ ----- Fiscal 1997 First Quarter (May 10, 1996 through June 28, 1996)............................ 12 3/4 9 3/8 Second Quarter (ended September 27, 1996)....................... 11 1/2 8 1/4 Third Quarter (ended December 27, 1996)......................... 11 6 7/8 Fourth Quarter (ended March 28, 1997)........................... 7 7/8 4 1/4 Fiscal 1998 First Quarter (ended June 27, 1997)............................. 6 1/32 4 1/2 Second Quarter (ended September 27, 1997)....................... 7 5/8 4 1/4
At September 30, 1997, TSG had 17 common stockholders of record. However, TSG believes that there were over 400 beneficial owners of TSG Common Stock at September 30, 1997. TSG has never paid any cash dividends on TSG Common Stock and does not currently intend to pay cash dividends in the foreseeable future. TSG currently intends to retain its earnings, if any, for the continued growth of its business. Under the terms of a Loan and Security Agreement between TSG and its bank, TSG is prohibited from paying cash dividends or other distributions on capital stock, except stock distributions. ---------------- 63 SELECTED TSG FINANCIAL DATA (IN THOUSANDS, EXCEPT PER SHARE DATA)
PREDECESSOR COMPANY ------------------------------- ------------------------------------------------ SEVEN FIVE THREE THREE YEAR YEAR MONTHS MONTHS YEAR YEAR MONTHS MONTHS ENDED ENDED ENDED ENDED ENDED ENDED ENDED ENDED APRIL 2, APRIL 1, OCTOBER 30, MARCH 31, MARCH 29, MARCH 28, JUNE 28, JUNE 27, 1993 1994 1994 1995 1996 1997 1996 1997 -------- -------- ----------- --------- --------- --------- -------- -------- RESULTS OF OPERATIONS Net sales............... $ 30,536 $ 31,049 $ 11,109 $ 9,161 $33,201 $33,472 $12,078 $ 6,217 Cost of goods sold...... 24,083 25,762 9,176 8,226 26,082 26,639 9,840 5,123 General and administrative expenses............... 3,334 3,477 1,742 850 2,205 2,391 645 554 Marketing and selling expenses............... 1,865 1,749 366 372 1,290 881 361 164 Engineering, research and development expenses............... 2,241 2,009 458 480 1,197 1,777 409 292 Restructuring charges (credits).............. -- 2,571 (534) -- -- 63 -- -- Litigation settlement... -- -- (261) -- -- (105) (105) -- Interest expense........ 810 912 599 356 941 400 142 72 Other (income) expense.. 201 54 (14) (58) (17) (117) (16) (14) Income (loss) before taxes.................. (1,998) (5,485) (423) (1,065) 1,503 1,543 802 26 Income tax (provision) benefit................ -- -- -- -- (326) (533) (217) 12 Net income (loss)....... $ (1,998) $ (5,485) $ (423) $(1,065) $ 1,177 $ 1,010 $ 585 $ 38 Income (loss) per common and common equivalent share(1)(2) Primary................ $ (0.30) $ 0.30 $ 0.22 $ .13 $ .02 Assuming full dilution.............. $ (0.30) $ 0.30 $ 0.22 $ .13 $ .02 Weighted average number of common and common equivalent shares outstanding Primary................ 3,542 3,871 4,780 4,502 5,025 Assuming full dilution.............. 3,542 3,871 4,780 4,502 5,025 FINANCIAL POSITION Current assets.......... $ 14,213 $ 9,742 $ 7,580 $ 8,551 $12,741 $14,866 $16,873 $13,807 Total assets............ 18,869 13,421 10,397 15,670 19,634 19,772 22,977 18,568 Borrowings under revolving credit agreement.............. 6,728 5,352 1,661 970 -- 3,811 193 2,400 Current maturities under long-term debt and capital lease obligations(3)......... 827 1,284 878 814 118 -- 66 -- Current liabilities..... 12,943 13,007 8,191 6,857 8,347 6,645 9,058 5,404 Working capital (deficit).............. 1,270 (3,264) (611) 1,695 4,394 8,221 7,815 8,403 Long-term debt and capital lease obligations(4)......... 2,068 957 3,628 3,533 3,415 -- 888 -- Long-term borrowings under revolving credit agreement (5).......... -- -- -- -- 1,094 -- -- -- Notes payable to stockholders (3)(4).... -- -- 400 2,800 2,800 -- -- -- Other liabilities....... -- 863 -- 375 378 -- 378 -- Total liabilities....... 15,011 14,826 12,219 13,565 16,034 6,645 10,324 5,404 Retained earnings (deficit).............. (18,965) (24,450) (24,873) (1,065) 112 1,122 697 1,160 Stockholders' equity (deficit).............. $ 3,858 $ (1,405) $ (1,821) $ 2,105 $ 3,600 $13,127 $12,653 $13,164
- -------- (1) Assuming the Acquisition had occurred on April 2, 1994, TSG's and the Predecessor's net loss for the year ended March 31, 1995 would have approximated $1,599 and the net loss per common and common equivalent share outstanding (primary and assuming full dilution) would have been ($.45). (2) Income (loss) per common and common equivalent share and the weighted average number of common and common equivalent shares outstanding are not presented for periods prior to the five months ended March 31, 1995 since such data is not meaningful for periods prior to the Acquisition on October 31, 1994. (3) Subordinated notes payable to stockholders of $400 were retired in connection with the Acquisition. These notes were classified as current maturities under long-term debt and capital lease obligations at April 1, 1994. (4) Indebtedness under a bank term note in the amount of $2,200, a bank term note in the amount of $310 and notes payable to stockholders of $2,800 were repaid from the proceeds from TSG's initial public offering of securities in May 1996. (5) Indebtedness under the revolving credit agreement was repaid from the proceeds from TSG's initial public offering of securities in May 1996. Accordingly, such indebtedness is classified as a long-term obligation at March 29, 1996. The selected financial data and related footnotes set forth above should be read in connection with "TSG Management's Discussion and Analysis of TSG's Financial Condition and Results of Operations" set forth below and "Consolidated Financial Statements of Technology Service Group, Inc." included as Appendix C hereto. 64 TSG MANAGEMENT'S DISCUSSION AND ANALYSIS OF TSG'S FINANCIAL CONDITION AND RESULTS OF OPERATIONS (IN THOUSANDS EXCEPT PER SHARE DATA) OVERVIEW TSG's operating performance subsequent to the fiscal year ended March 31, 1995 reflects the outcome of initiatives and plans begun during the later part of fiscal 1994 and throughout fiscal 1995 to turn around the business, to return to profitability, and to improve TSG's financial condition and liquidity. These initiatives included a change in senior management, a restructuring of the organization, and raising additional capital and financing. The restructuring was also directed at reducing operating costs and expenses and increasing sales and gross profit margins. In addition, TSG refocused its engineering and product development activities to resolve certain technical product problems experienced prior to the restructuring and to develop new smart payphone products that would position TSG to capture a significant share of the market for the technological upgrade of the installed base of payphones owned by the RBOCs. This discussion contains certain forward looking statements concerning TSG's operations, economic performance and financial condition. Such statements are subject to various risks and uncertainties. Actual results could differ materially from those currently anticipated due to a number of factors, including those identified herein. See "Summary." All dollar amounts, other than per share data, stated in this TSG Management's Discussion and Analysis of TSG's Financial Condition and Results of Operations are stated in thousands. BACKGROUND--THE ACQUISITION On October 31, 1994, TSG Acquisition Corp., a wholly-owned subsidiary of Wexford, acquired all of the outstanding Capital Stock pursuant to an Agreement and Plan of Merger dated October 11, 1994 between Wexford, TSG Acquisition Corp., TSG and the majority holders of TSG's capital stock (the "Acquisition"). The consideration paid by TSG Acquisition Corp. aggregated $3,500 including contingent consideration of $330 consisting of cash of $230 and a subordinated note of TSG in the principal amount of $100, placed in escrow and distributed to former stockholders in September 1995. The aggregate consideration consisted of $3,004 to acquire the outstanding Capital Stock and $496 to retire a $400 subordinated master promissory note payable to former stockholders and related accrued interest and preference fees of $96. Aggregate cash payments to former stockholders, including the contingent consideration and the retirement of the subordinated master promissory note, accrued interest and preference fees of $496, amounted to $3,222. Consideration of $278 was withheld from amounts paid to former stockholders to pay certain liabilities of TSG. The Acquisition was accounted for using the purchase method of accounting. Accordingly, the aggregate purchase price of $3,170, exclusive of contingent consideration, was pushed down and allocated to the net assets acquired based upon their fair values. The excess of the purchase price over the estimated fair value of the net assets acquired of $3,854 was recorded as goodwill. Upon distribution of the escrow consideration in September 1995, the aggregate purchase price was increased to $3,500 which increased the excess purchase price over the estimated fair value of net assets acquired and recorded as goodwill by $330. Prior to the Acquisition, TSG is sometimes referred to as the "Predecessor." In conjunction with the Acquisition, TSG Acquisition Corp. was merged into TSG. The outstanding shares of TSG Common Stock and TSG's preferred stock were canceled and the outstanding shares of capital stock of TSG Acquisition Corp. were exchanged for one share of TSG Common Stock, $.05 par value (the "merger share"). In addition, on October 31, 1994, TSG amended its Certificate of Incorporation to reflect authorized capital consisting of 10 million shares of Common Stock, and 100,000 shares of preferred stock, $100 par value. Further, TSG entered into an investment agreement with Wexford, Acor S.A. and Firlane, referred to herein collectively as the "investors." Pursuant to that investment agreement, TSG issued 3.5 million shares of TSG Common Stock in exchange for the merger share. Also, TSG borrowed $2,800 from Wexford and Acor S.A. and 65 issued 10% interest-bearing subordinated promissory notes in respect thereof due November 1, 1999 (the "Affiliate Notes") to such persons. The accompanying analysis compares the results of operations of TSG for the three months ended June 27, 1997 and June 28, 1996 and for the years ended March 28, 1997 and March 29, 1996 and the results of operations of TSG for the fiscal year ended March 29, 1996 and the combined results of operations of the Predecessor and TSG for the fiscal year ended March 31, 1995. Because of the Acquisition, certain financial information described below is not comparable in all respects. In addition, comparability is affected because of the following purchase accounting adjustments made by TSG on October 31, 1994: (i) a net decrease in inventories of $45 consisting of a reduction of $491 attributable to a change in the method used to estimate the amount of manufacturing overhead included in inventories to a method based on labor factors, not on a combination of labor and material factors, offset by an increase in the basis of inventories of $446 to reflect their estimated net realizable value; (ii) an increase in the basis of property and equipment of $382 to reflect their estimated fair value; (iii) an increase in debt obligations of $107 to reflect present values of amounts to be paid determined at current interest rates; (iv) a net increase in accrued liabilities of $125 to reflect the acquisition expenses of TSG Acquisition Corp. to be paid by TSG, offset by a reduction of accrued interest and preference fees of $96 retired in connection with the Acquisition; (v) a reduction in accrued restructuring charges of $203 retired in connection with the Acquisition; (vi) a reduction of notes payable to stockholders of $400 retired in connection with the Acquisition; (vii) a net increase in other assets of $429 consisting of an increase in identifiable intangible assets (consisting of product software, patents, customer contracts, and unpatented technology) of $584 to reflect their estimated fair values, offset by a reduction in goodwill and deferred debt issuance expenses of $155 recorded by the Predecessor; and (viii) an increase in goodwill related to the Acquisition of $3,854. The principal impacts of the purchase accounting adjustments on TSG's results of operations for the five months ended March 31, 1995 consisted of a slight increase in depreciation due to the increase in the basis of property and equipment and their estimated useful lives, an increase in amortization expense of approximately $100 due to the net increase in the basis of intangible assets, including goodwill, and their estimated useful lives, and an increase in cost of goods sold of approximately $235 due to the revaluation of inventories. The change in the method used to estimate the amount of manufacturing overhead included in inventories did not have a significant effect on TSG's results of operations for the five months ended March 31, 1995. During the fiscal years ended March 29, 1996 and March 28, 1997, TSG reduced goodwill by approximately $653 in the aggregate with respect to the realization of acquired deferred tax assets. During the three months ended June 27, 1997, TSG reduced goodwill by approximately $82 with respect to the realization of acquired deferred tax assets. RESULTS OF OPERATIONS Three Months Ended June 27, 1997 Compared to Three Months Ended June 28, 1996 The following table shows certain line items in TSG's consolidated statements of operations for the three months ended June 27, 1997 and June 28, 1996 that are discussed below, together with the change expressed as a percentage.
THREE MONTHS THREE MONTHS PERCENTAGE ENDED ENDED INCREASE JUNE 27, 1997 JUNE 28, 1996 (DECREASE) ------------- ------------- ---------- Sales............................... $6,217 $12,078 (49%) Cost of goods sold.................. 5,123 9,840 (48%) General and administrative ex- penses............................. 554 645 (14%) Marketing and selling expenses...... 164 361 (55%) Engineering, research and develop- ment expenses...................... 292 409 (29%) Litigation settlement............... -- (105) (100%) Interest expense.................... 72 142 (49%) Income tax expense (benefit)........ (12) 217 (106%)
66 Sales. The decrease in sales is primarily attributable to (i) a decrease in sales volume of smart payphone systems and processors and (ii) a 25% reduction in the sales price of Gemini(TM) processors under the terms of a sales agreement between TSG and NYNEX entered into during the year ended March 28, 1997, offset by (i) an increase in exported wireless payphone systems of approximately $600 and (ii) sales revenue of $625 under the terms of a new sales agreement between TSG and SWB entered into in June 1997. Sales of smart payphone products decreased by approximately $6,700 and accounted for approximately 25% of sales during the three months ended June 27, 1997 as compared to 69% of sales during the three months ended June 28, 1996. Refurbishment and repair services and related product sales for the three months ended June 27, 1997 decreased by approximately 10% as compared to the same period in the prior year, and accounted for 55% of sales as compared to 31% in the prior year. No export sales were made during the three months ended June 28, 1996. TSG believes that the uncertainty in the marketplace caused by the passage of the Telecommunications Act adversely affected its sales. In addition, following a high level of demand at the start of the program last year, NYNEX stabilized its deployment of TSG's smart payphone systems and processors under the five-year agreement entered into last year. In June 1997, TSG entered into an agreement with SWB that supersedes and terminates a December 1994 agreement. Under the new agreement, TSG agreed to reduce SWB's remaining purchase commitment of GemStar(TM) processor kits to approximately $3,000 from approximately $8,000 under the former agreement. In addition, TSG provided an upgraded electronic key product and, among other things, agreed to provide equipment and software to upgrade SWB's payphone management system. SWB made a $250 cash payment to TSG, terminated TSG's obligation to pay royalties on sales of GemStar processors to other customers, terminated a contingent obligation of TSG to repay revenue of $375 from the sale of product software under the former agreement, and agreed to make additional cash payments to TSG of $250 on July 2, 1997, $100 on September 1, 1997, $150 on December 31, 1997 and $250 on March 31, 1998, subject to TSG's compliance with its obligations under the new agreement, including conditions with respect to performance, service and repair. Cost of Goods Sold. Cost of goods sold as a percentage of sales increased to 82% for the three months ended June 27, 1997 as compared to 81% for the three months ended June 28, 1996. This increase resulted principally from the decrease in sales volume and sales prices referred to above and an increase in manufacturing costs of printed circuit board assemblies shifted to contract manufacturers, offset by the impact of the initial sales revenues recognized under the terms of the new agreement between TSG and SWB. General and Administrative Expenses. The decline in general and administrative expenses is primarily attributable to a reduction in expenses of $50 from the closure of one of TSG's manufacturing facilities during the year ended March 28, 1997, a decrease in accrued performance-based compensation of $18 and a reduction in the provision for doubtful accounts receivable of $31. Marketing and Selling Expenses. The decrease in marketing and selling expenses during the three months ended June 27, 1997 as compared to the same period in the prior year is primarily attributable to the expiration of a royalty agreement and the resulting decrease in royalty expense associated with sales of smart payphone products. Engineering, Research and Development Expenses. TSG began to expand its engineering resources during the three months ended June 28, 1996 in order to facilitate the development of a new smart payphone processor and the implementation of lower-cost manufacturing methodologies. During the three months ended June 27, 1997, the requirement for contract engineering services diminished and the related expense decreased accordingly. Also, TSG capitalized approximately $130 of software development costs in connection with the development of its new smart payphone processor during the three months ended June 27, 1997. Software development costs during the three months ended June 28, 1996 were not significant. Litigation Settlement. Pursuant to the terms of a settlement agreement and mutual release dated July 3, 1996, a suit filed against TSG by a former supplier to collect approximately $400 of unpaid obligations was 67 dismissed with prejudice. As a result of the settlement agreement, TSG realized a gain of $105 representing the difference between unpaid obligations recorded in TSG's accounts and aggregate settlement payments set forth in the settlement agreement. Interest Expense. The decrease in interest expense during the three months ended June 27, 1997 as compared to the same period in the prior year is primarily due to the repayment of outstanding bank and stockholder debt obligations during May 1996 from proceeds of TSG's initial public offering. See "Liquidity and Capital Resources--Cash Flows From Financing Activities." Income Taxes. During the three months ended June 27, 1997, TSG recorded an income tax benefit of $12 on pre-tax income of $26 as compared to an income tax provision of $217 on pre-tax income of $802 for the three months ended June 28, 1996. Current tax benefits for the three months ended June 27, 1997 amounted to $287 as compared to current tax expense of $262 for the three months ended June 28, 1996. Deferred tax expense for the three months ended June 27, 1997 amounted to $275 as compared to deferred tax benefits of $45 for the three months ended June 28, 1996. Year Ended March 28, 1997 Compared to Year Ended March 29, 1996 The following table shows certain line items in TSG's consolidated statements of operations for the years ended March 28, 1997 and March 29, 1996 that are discussed below, together with the change expressed as a percentage.
YEAR ENDED YEAR ENDED PERCENTAGE MARCH 28, MARCH 29, INCREASE 1997 1996 (DECREASE) ---------- ---------- ---------- Sales........................................ $33,472 $33,201 1% Cost of goods sold........................... 26,639 26,082 2% General and administrative expenses.......... 2,391 2,205 8% Marketing and selling expenses............... 881 1,290 (32)% Engineering, research and development ex- penses...................................... 1,777 1,197 48% Restructuring charges........................ 63 -- -- Litigation settlement........................ (105) -- -- Interest expense............................. 400 941 (57)% Other income................................. (117) (17) 588% Income tax expense........................... 533 326 63%
Overview. TSG's operations for the year ended March 28, 1997 reflect a slowdown in sales during the last six months of the year which TSG attributes to several factors as explained below, an increase in engineering, research and development spending of $580 directed at the development of a new wireline smart payphone product for the RBOC, independent and international markets, a gain on the settlement of litigation of $105, restructuring charges of $63, lower interest expense as a result of debt repayments from proceeds of an initial public offering, and higher income taxes due to limitations on utilization of net operating loss carryforwards. Sales. The increase in sales during fiscal 1997 as compared to fiscal 1996 is primarily related to volume fluctuations. Sales of smart payphone products and components decreased by approximately $600 (3%) to $21,200 in fiscal 1997 as compared to $21,800 in fiscal 1996, and accounted for approximately 63% of sales during fiscal 1997 as compared to 66% of sales during fiscal 1996. Sales related to refurbishment, repair and conversion services and related products during fiscal 1997 increased by approximately $1,200 (11%) to $11,800 as compared to $10,600 in fiscal 1996, and accounted for 35% of sales as compared to 32% in fiscal 1996. Export sales consisting primarily of wireless products during fiscal 1997 approximated $461 as compared to approximately $856 during fiscal 1996. 68 TSG believes that the reduction in smart product sales volume was attributable to several key factors, including the uncertainties created by merger activities among TSG's RBOC customers, the efforts of the RBOCs to comply with the requirements of the Telecommunications Act during the last six months of TSG's fiscal year, and related budget implications. Notwithstanding, sales from refurbishment, repair and conversion services and related products increased as a result of additional volume from one of TSG's customers that has not begun a smart product upgrade conversion program. Export sales activities during fiscal 1997 did not generate volume comparable to fiscal 1996, a trend TSG expects to reverse during the 1998 fiscal year. TSG believes, but cannot assure, that the decline in smart product sales volume during the last six months of fiscal 1997, which is believed to be attributable to efforts of the RBOCs to comply with the Telecommunications Act, represents a short-term trend, and that its sales will be favorably affected by the implications of the new law during fiscal 1998 and beyond. During fiscal 1997, TSG entered into a non-exclusive sales agreement, effective July 1, 1996, to provide its Gemini smart payphones and processors, CoinNet payphone management system and other payphone components to NYNEX for a period of five years. Sales of smart payphone products during the year ended March 28, 1997 were primarily attributable to shipments under a former sales agreement between TSG and NYNEX executed in December 1995. This sales agreement expired during the third quarter of fiscal 1997, and although TSG entered into the new contract, no significant orders were received until February 1997, which TSG believes was due to the factors enumerated above. During the year ended March 29, 1996, a significant portion of TSG's sales were attributable to shipments under the former NYNEX agreement as well as a sales agreement between TSG and SWB executed in December 1994. SWB had purchased approximately 65% of the committed volume under the agreement as of March 29, 1996. However, sales to SWB under the 1994 contract were not significant during TSG's 1997 fiscal year, a condition TSG believes is attributable to a change in deployment strategies of SWB. In June 1997, TSG entered into an agreement with SWB that supersedes and terminates the December 1994 agreement. Under the new agreement, TSG agreed to reduce SWB's remaining purchase commitment to approximately $3,000 from approximately $8,000 under the former agreement and, among other things, upgrade SWB's payphone management system. In return, SWB made a $250 cash payment to TSG, terminated TSG's obligation to pay royalties on sales of GemStar processors to other customers, and terminated TSG's obligation to repay $375 received from the sale of product software under the December 1994 agreement. SWB also agreed to make additional cash payments to TSG of $250 on July 2, 1997, $100 on September 1, 1997, $150 on December 31, 1997, and $250 on March 31, 1998, subject to TSG's compliance with the terms and conditions of the agreement, including conditions with respect to performance, service and repair. See "Business--Sales and Markets" for a discussion of TSG's dependence on significant customers and contractual relationships. Also, see "Liquidity and Capital Resources--Operating Trends and Uncertainties." Cost of Goods Sold. The 2% increase in cost of goods sold is primarily attributable to the increase in sales, the increase in the percentage of sales related to refurbishment, repair and conversion services and related products, and certain sales price reductions. Incremental costs of approximately $350 incurred in connection with the closure of one of TSG's manufacturing facilities and the consolidation of service operations were offset substantially by gains of approximately $273 from changes in estimates of contingent liability obligations recorded in connection with the Acquisition. Production costs as a percentage of sales increased to approximately 80% during the year ended March 28, 1997 as compared to 79% during the year ended March 29, 1996 due to these factors. General and Administrative Expenses. The 8% increase in general and administrative expenses is primarily related to incremental costs and expenses incurred as a public reporting entity after the consummation of TSG's initial public offering in May 1996. Marketing and Selling Expenses. The 32% decrease in marketing and selling expenses is primarily attributable to the expiration of a smart product royalty agreement on June30, 1996 and the related decrease in royalty expense. 69 Engineering, Research and Development Expenses. Engineering, research and development expenses increased by 48%, primarily due to an expansion of engineering resources and product development activities. TSG began to expand its engineering resources during the first quarter of fiscal 1997 in order to facilitate smart product development activities and the implementation of lower-cost manufacturing methodologies. During the year ended March 28, 1997, TSG capitalized approximately $422 of software development costs in connection with the development of its new smart payphone processor. Litigation Settlement. Pursuant to the terms of a settlement agreement dated July 3, 1996, a suit filed against TSG by a former supplier to collect approximately $400 of unpaid obligations was dismissed with prejudice. As a result of the settlement agreement, TSG realized a gain of $105 representing the difference between the unpaid obligations recorded in TSG's accounts and the aggregate settlement payments. Interest Expense. The 57% decrease in interest expense is primarily due to the repayment of outstanding bank and stockholder debt obligations during May 1996 from proceeds of the TSG IPO. See "Liquidity and Capital Resources--Cash Flows From Financing Activities." Restructuring Charges. During August 1996, TSG initiated a facilities consolidation plan intended to augment its ongoing productivity and quality improvement programs. The consolidation plan provided for the closure of TSG's Kentucky manufacturing facility, the closure of TSG's Georgia corporate office facility, the consolidation of repair, refurbishment and conversion service operations into TSG's Virginia facility, and the consolidation of corporate activities and product assembly operations into a new Georgia facility. In connection with this plan, TSG recorded restructuring charges of $63 during the year ended March 28, 1997. These restructuring charges consisted of severance obligations and estimated losses related to the abandonment of assets in connection with the closure of facilities. Other Income. TSG assigned the capital lease obligation related to its former Kentucky facility to an unaffiliated third party, and recorded the retirement of the outstanding capital lease obligation and the disposition of the property during the fiscal year ended March 28, 1997. In connection with this transaction, TSG realized a gain of $44 representing the difference between the outstanding lease obligation ($933) plus the proceeds received ($50) and the net book value of the property ($939). The increase in other income during the year ended March 28, 1997 as compared to the year ended March 29, 1996 is primarily attributable to the gain from the disposition of the facility and an increase in income related to the sublease of a portion of property leased by TSG. Income Tax Expense. The 63% increase in income tax expense is primarily due to a reduction in tax benefits from utilization of net operating loss carryforwards. Benefits of net operating loss carryforwards used to offset current tax expense amounted to $72 during fiscal 1997 as compared to $335 during fiscal 1996. Deferred tax benefits of $493 were recognized during the year ended March 28, 1997 as compared to $50 during the year ended March 29, 1996. However, deferred tax benefits related to acquired deferred tax assets aggregating $442 were applied to goodwill during fiscal 1997 as compared to $211 during fiscal 1996. 70 Year Ended March 29, 1996 Compared to Year Ended March 31, 1995 The following table shows certain line items in TSG's consolidated statement of operations for the year ended March 29, 1996 and in TSG's and Predecessor's consolidated statement of operations for the year ended March 31, 1995 that are discussed below and that changed significantly between the two periods indicated, together with the change expressed as a percentage.
YEAR ENDED YEAR ENDED PERCENTAGE MARCH 29, MARCH 31, INCREASE 1996 1995 (DECREASE) ---------- ---------- ---------- Sales........................................ $33,201 $20,270 64 % Cost of goods sold........................... 26,082 17,402 50 % General and administrative expenses.......... 2,205 2,592 (15)% Marketing and selling expenses............... 1,290 738 75 % Engineering, research and development ex- penses...................................... 1,197 938 28 % Restructuring credits........................ -- 534 (100)% Litigation settlement........................ -- 261 (100)% Income tax expense........................... 326 -- --
Overview. TSG's results for the year ended March 29, 1996 reflect a significant increase in sales volume, an increase in operating expenses, and an income tax provision of $326 on pre-tax profits of $1,503, as compared to the previous year during which TSG reported a loss of $1,488. The results of the Predecessor during the seven months ended October 30, 1994 includes a gain from the recognition of a litigation settlement of $261, restructuring credits of $534, and acquisition expenses of $166. The results of operations of TSG for the five months ended March 31, 1995 include the effects of the Acquisition, consisting primarily of amortization of intangible assets of approximately $100 and an increase in cost of goods sold of approximately $226. The results of TSG during fiscal 1996 include the effects of the Acquisition, consisting primarily of amortization of intangible assets, including goodwill, of $253 and an increase in cost of goods sold of approximately $221. Sales. Sales of smart payphone products and components during fiscal 1996 approximated $21,800 as compared to approximately $6,600 during fiscal 1995. Sales attributable to refurbishment and conversion services and related payphone components approximated $10,600 during fiscal 1996 as compared to approximately $12,300 during fiscal 1995. Sales of wireless payphone products and components consisting primarily of export sales approximated $856 during fiscal 1996 as compared to approximately $1,400 during fiscal 1995. The $15,200 increase in sales of smart payphone products and components during fiscal 1996 as compared to fiscal 1995 was primarily attributable to an increase in sales volume of GemStar products, Gemini products and electronic locks under sales agreements entered into in December 1994 and December 1995. Sales increases attributable to GemStar, Gemini and electronic lock products were offset by a reduction in sales volume of InMate products, which TSG believes is primarily attributable to the saturation of the InMate institution market. The 14% decline in sales from repair, refurbishment and conversion services and related payphone components during fiscal 1996 as compared to fiscal 1995 was primarily due to a reduction in volume that TSG believes was attributable to implementation of smart product conversion programs by certain customers, as well as competition. The decline in TSG's wireless product sales during fiscal 1996 as compared to fiscal 1995 was primarily due to a decrease in export volume to Mexico, which TSG believes was attributable to the devaluation of the Mexican peso during fiscal 1995. Cost of Goods Sold. The increase in cost of goods sold is primarily attributable to the 64% increase in sales during fiscal 1996 as compared to fiscal 1995. Production costs as a percentage of sales declined to 79% during fiscal 1996 as compared to 86% during fiscal 1995 as a result of the increase in volume. In addition, during the five months ended March 31, 1995, TSG accrued damages of $200 attributable to a product recall initiated in April 1995 (see "Operating Trends and Uncertainties"). Purchase adjustments from the revaluation of inventories in connection with the Acquisition had the impact of increasing cost of goods sold by $226 and $221 during the five months ended March 31, 1995 and year ended March 29, 1996, respectively. 71 General and Administrative Expenses. The decline in general and administrative expenses is primarily related to cost reductions associated with a restructuring initiated during the latter part of fiscal 1994 and expenses of $166 incurred by the Predecessor during the seven months ended October 30, 1994 in connection with the Acquisition. Amortization of goodwill and other intangible assets recorded in connection with the Acquisition approximated $253 during fiscal 1996 as compared to approximately $100 during the five months ended March 31, 1995. Marketing and Selling Expenses. The increase in marketing and selling expenses is primarily due to royalties on sales of GemStar and Gemini products incurred under an asset purchase agreement dated January 11, 1991, and an elimination of royalties during the first six months of fiscal 1995 pursuant to a November 9, 1994 amendment to the royalty provisions of that agreement. Engineering, Research and Development Expenses. Engineering, research and development expenses increased primarily due to an expansion of engineering resources and product development activities, which had been reduced during fiscal 1995 as a result of the restructuring initiated during the later part of fiscal 1994. Restructuring Credits. During the five months ended March 31, 1995, TSG settled severance obligations under employment contracts terminated in fiscal 1994 and negotiated the termination of certain non-cancelable lease obligations with respect to facilities closed in connection with the restructuring initiated at the end of fiscal 1994. The severance and lease obligations were settled on terms more favorable than estimated during the year ended April 1, 1994, which resulted in the recognition of restructuring credits of $249 and $274, respectively, during the seven months ended October 30, 1994. Restructuring credits recognized during the seven months ended October 30, 1994 aggregated $534. Litigation Settlement. During the seven months ended October 30, 1994, TSG settled litigation against a supplier to recover costs and damages attributable to defective components supplied to TSG, and realized a gain of approximately $261, net of legal fees of $56. Income Tax Expense. During the year ended March 29, 1996, TSG generated a taxable profit as compared to a net loss during the year ended March 31, 1995. Benefits of net operating loss carryforwards used to offset current tax expense during fiscal 1996 aggregated $335. Deferred tax benefits recognized during fiscal 1996 of $50 were offset by benefits of acquired deferred tax assets aggregating $211 that were used to reduce goodwill. There was no tax provision during fiscal 1995 as a result of the reported net loss. LIQUIDITY AND CAPITAL RESOURCES Initial Public Offering During May 1996, TSG completed the TSG IPO, an initial public offering of 1,150,000 Units, each Unit consisting of one share of TSG Common Stock and a redeemable warrant, at a price of $9.00 per Unit for gross proceeds of $10,350. In connection with the offering, TSG issued, for nominal consideration, warrants to the underwriter to purchase 100,000 shares of TSG Common Stock (the "Underwriter Warrants"). Net proceeds received by TSG as of June 28, 1996 and March 28, 1997, after underwriting discounts and expenses of $1,232 and other expenses of $808 and $824, respectively, aggregated $8,310 and $8,294, respectively. At March 29, 1996, TSG had incurred and deferred offering expenses of $338. Accordingly, net proceeds from TSG's initial public offering during the three months ended June 28, 1996 and year ended March 28, 1997 aggregated $8,648 and $8,632, respectively. The proceeds of the offering, net of underwriting discounts and expenses, were initially used to repay then outstanding indebtedness consisting of subordinated notes payable to stockholders of $2,800 and indebtedness under a Loan and Security Agreement (the "Loan Agreement") between TSG and its bank aggregating $6,318 (see "The Loan Agreement" and "Cash Flows From Financing Activities"). Indebtedness outstanding under the Loan Agreement repaid with the net proceeds consisted of a $2,200 term note due November 30, 1997, $310 outstanding under a $650 term note due November 30, 1997 and indebtedness under a revolving credit line of $3,808. 72 The Loan Agreement TSG is able to borrow up to a maximum of $9,000 under the terms of the Loan Agreement between TSG and its bank. The Loan Agreement provides for revolving credit indebtedness up to a maximum amount based on specified percentages applied to the value of eligible collateral consisting of accounts receivable and inventory less indebtedness, if any, under the $2,200 term note due November 30, 1997. In addition, the Loan Agreement contains provisions for certain term and installment indebtedness that was repaid with the proceeds of TSG's initial public offering in May 1996. At March 29, 1996, March 28, 1997 and June 27, 1997, outstanding indebtedness under the Loan Agreement bore interest at a variable rate per annum equal to 1.5% above a base rate quoted by Citibank, N.A. The interest rate was reduced from 2% above a base rate quoted by Citibank, N.A. on March 1, 1996. The base rate at March 29, 1996, March 28, 1997 and June 27, 1997 was 8.25%, 8.5% and 8.5% per annum, respectively. Amounts borrowed under the Loan Agreement are secured by substantially all assets of TSG, including accounts receivable, inventories and property and equipment. The Loan Agreement expires on November 30, 1997, and is renewable annually for one-year periods unless terminated by the bank upon the occurrence of an event of default or by TSG upon at least 90 days' notice. Indebtedness under the Loan Agreement at March 29, 1996 consisted of $2,525 outstanding under term and installment notes, including the $2,200 term note due November 30, 1997 and $325 outstanding under a $650 term note due November 30, 1997, and $1,094 outstanding under the revolving credit line. Indebtedness under the Loan Agreement at March 28, 1997 and June 27, 1997 consisted of $3,811 and $2,400, respectively, outstanding under the revolving credit line. The Loan Agreement contains conditions and covenants that prevent TSG from engaging in certain transactions without the consent of the bank, including merging or consolidating, payment of subordinated stockholder debt obligations, declaration or payment of dividends, and disposition of assets, among others. Additionally, the Loan Agreement requires TSG to comply with specific financial covenants, including covenants with respect to cash flow, working capital and net worth. Noncompliance with any of these conditions and covenants or the occurrence of an event of default, if not waived or corrected, could accelerate the maturity of the indebtedness outstanding under the Loan Agreement. Although TSG was in compliance with the covenants set forth in the Loan Agreement at June 27, 1997, there is no assurance that TSG will be able to remain in compliance with such covenants in the future. TSG uses the financing available under the Loan Agreement to finance its working capital requirements. If an event of default were to occur, however, TSG's ability in this regard could be curtailed. In such event, TSG would seek alternative financing sources, but there is no assurance that alternative financing sources would be available on commercially reasonable terms, or at all. Further, the Loan Agreement expires on November 30, 1997 unless it is renewed in accordance with its terms. Elcotel intends to refinance with one bank this indebtedness as Elcotel's indebtedness with its bank in connection with consummation of the Merger. Although TSG believes that it will negotiate an acceptable renewal or refinancing agreement if the Merger is not consummated, there is no assurance that its efforts will be successful. TSG's liquidity would be materially and adversely affected if it is unable to renew or refinance its present credit facility. TSG borrows funds to finance increases in accounts receivable and inventories and decreases in bank overdrafts, accounts payable and accrued liability obligations to the extent that such requirements exceed cash provided by operations, if any. TSG also uses the financing available under the revolving credit line to fund operations, investing activities and payments on long-term debt when necessary. TSG repays borrowed funds with cash, if any, provided by operating activities. TSG measures its liquidity based upon the amount of funds that TSG is able to borrow under the Loan Agreement, which varies based upon operating performance and the value of current assets and liabilities. At June 27, 1997, TSG had unused borrowing availability of approximately $5,400 under the revolving credit facility based on the value of eligible collateral. 73 Cash Flows From Financing Activities Pursuant to the October 31, 1994 Investment Agreement entered into in connection with the Acquisition, TSG borrowed $2,800 from Wexford and Acor S.A. and issued 10% interest bearing subordinated promissory notes due November 1, 1999. TSG issued a 10% interest bearing subordinated note to Wexford in the principal amount of $2,361 dated October 31, 1994. TSG issued 10% interest bearing subordinated promissory notes to Acor S.A. in the principal amount of $208 dated October 31, 1994, $100 dated October 31, 1994, $83 dated November 10, 1994 and $48 dated December 23, 1994. During the year ended March 28, 1997, TSG repaid these subordinated promissory notes from the proceeds of its initial public offering. Concurrently with the Acquisition, the Loan Agreement was amended, and $2,200 of debt outstanding under the revolving credit line was converted into a term note payable on November 30, 1997. However, proceeds of $2,569 from the subordinated promissory notes dated October 31, 1994 issued to Wexford and Acor S.A. were used to retire debt outstanding under the revolving credit line, and after such repayment, the initial principal balance outstanding under the $2,200 term note on October 31, 1994 amounted to $1,292. Between October 31, 1994 and March 31, 1995, TSG borrowed the balance available under the $2,200 term note of $908, and also re-borrowed $970 under the revolving credit line. During the year ended March 28, 1997, TSG repaid the $2,200 term note from the proceeds of its initial public offering. Net payments of indebtedness under TSG's revolving credit line during the seven months ended October 31, 1994 and five months ended March 31, 1995 amounted to $1,491 and $1,599, respectively. Net proceeds under the revolving credit line during the year ended March 29, 1996 amounted to $124. Net proceeds under TSG's revolving credit line during the year ended March 28, 1997 amounted to $2,717, net of the repayment of $3,808 from the proceeds of TSG's initial public offering. Net payments under TSG's revolving credit line during the three months ended June 27, 1997 and June 28, 1996 amounted to $1,411 and $901, respectively. Principal payments on other long-term debt and capital lease obligations during the seven months ended October 30, 1994, five months ended March 31, 1995 and year ended March 29, 1996 amounted to $459, $482 and $814, respectively. Principal payments on other long-term debt and capital lease obligations during the three months ended June 28, 1996 and year ended March 28, 1997 aggregated $2,578 and $2,600, including repayment of the $2,200 term note due November 30, 1997 and repayment of $310 outstanding under the $650 term note due November 30, 1997 from the proceeds of TSG's initial public offering. Principal payments on other long-term debt and capital lease obligations during the year ended March 28, 1997, excluding the repayments of term note indebtedness from the proceeds of the offering, amounted to $90. The decrease in principal payments (exclusive of repayments made from proceeds of the offering) for the year ended March 28, 1997 as compared to the year ended March 29, 1996 is attributable to debt maturing during fiscal 1997, the repayments made from the proceeds of the offering and the assignment of the capital lease obligation related to TSG's Kentucky facility to an unrelated third party in November 1996. TSG has also established a cash management program with its bank under which TSG funds drafts as they clear the bank. Accordingly, TSG maintains bank overdrafts representing outstanding drafts and utilizes the cash management account as a source of funding. Bank overdrafts vary according to many factors, including the volume of business, and the timing of purchases and disbursements. During the seven months ended October 30, 1994, five months ended March 31, 1995, year ended March 29, 1996 and three months ended June 28, 1996 and June 27, 1997, TSG's bank overdrafts increased by $324, $121, $502, $760 and $82, respectively. During the year ended March 28, 1997, TSG's bank overdrafts decreased by $760. In June 1996, TSG issued 40,000 shares of common stock for aggregate proceeds of $160 upon the exercise of outstanding common stock purchase warrants issued in May 1995. During the year ended March 28, 1997, TSG issued 5,000 shares of common stock upon the exercise of incentive stock options at an aggregate exercise price of $5, and issued 6,760 shares of common stock upon the exercise of rights granted under TSG's 1995 Employee Stock Purchase Plan for an aggregate purchase price of $52. 74 Cash Flows From Operating Activities During the seven months ended October 30, 1994, TSG generated $915 of cash from operating activities. TSG used $99 of cash, net of non-cash charges and credits of $324, to fund operating losses during the seven months ended October 30, 1994. Because of recurring losses, TSG's cash resources during the seven months ended October 30, 1994 were not sufficient to fund working capital, capital expenditure and debt service requirements, and TSG was unable to meet all of its accrued liability and supplier obligations as they became due. However, TSG was able to generate cash from reductions in accounts receivable and inventories of $578 and $1,388, respectively, and prepaid expenses of $67 during the seven months ended October 30, 1994. The cash provided from these asset reductions enabled TSG to begin efforts to decrease its past due obligations, and during the seven months ended October 30, 1994, $966 of cash was used to reduce accounts payable, accrued liabilities and accrued restructuring charges. During the five months ended March 31, 1995, TSG used $1,598 of cash to fund operating activities. Cash used to fund operating losses during the five months ended March 31, 1995 amounted to $358, net of non-cash charges and credits of $707. Also, because of an increase in the volume of business, TSG used $330 and $764 of cash to fund increases in accounts receivable and inventories, respectively, during the five months ended March 31, 1995. As a result of the investor financing received in connection the Acquisition and an increase in deferred revenue which provided $375 in cash (see "Capital Commitments and Liquidity"), TSG was able to further pay down its past due liability obligations, and used $618 of cash to reduce its accounts payable, accrued liabilities and accrued restructuring charges during the five months ended March 31, 1995. During the year ended March 29, 1996, TSG generated cash of $194 from operating activities. Cash provided by operations, after adjustments related to non-cash charges of $1,584, during the year ended March 29, 1996, amounted to $2,761. Also, although TSG paid remaining undisputed past due liability obligations, a net increase in TSG's supplier and accrued liability obligations, income taxes payable, deferred revenue and accrued restructuring charges provided cash of $2,599 during fiscal 1996. TSG used $4,634 in cash to fund increases in accounts receivable and inventories of $1,206 and $3,428, respectively. In addition, TSG expended $474 of cash to fund increases in other assets including the acquisition of a patent license and the expenses of TSG's initial public offering during the year ended March 29, 1996. The increases in accounts receivable, inventories and current liability obligations during the year ended March 29, 1996 were primarily related to the increase in the volume of business as compared to fiscal 1995. Cash used to fund operating activities during the year ended March 28, 1997 amounted to $4,995. During the year ended March 28, 1997, TSG's operations generated $2,613 in cash, after adjustments related to non-cash charges and credits of $1,603. In addition, a decrease in accounts receivable caused by sales fluctuations provided cash of $632 during the year ended March 28, 1997. TSG used $2,485 in cash to fund an increase in inventories during the year ended March 28, 1997. This inventory increase was related to the production of electronic locks and GemStar products under contractual commitments, the anticipated final production run of Gemini printed circuit board assemblies to meet estimated sales requirements until the planned release of TSG's new smart payphone processor and a slow-down of orders during the latter part of the year (see "Results of Operations"). TSG used $419 of cash to fund changes in prepaid expenses and other assets consisting primarily of capitalized software development expenses. In addition, cash used for decreases in accounts payable of $3,984, income taxes payable of $39, deferred revenue of $541 and accrued liabilities, including accrued restructuring charges, of $771 aggregated $5,335 during the year ended March 28, 1997. The decrease in accounts payable is related to the slow-down in sales and TSG's efforts to reduce contracted manufacturing volume and inventory balances during the latter part of fiscal 1997. During fiscal 1997, TSG satisfied its delivery requirements with respect to revenues deferred at March 29, 1996 and deferred revenue decreased accordingly. The decrease in accrued liability obligations is primarily attributable to the expiration of a smart product royalty agreement and the payment of remaining royalty obligations during fiscal 1997 and a decrease in accrued interest due to the repayment of debt obligations. 75 Cash provided by operating activities during the three months ended June 27, 1997 amounted to $1,398. During the three months ended June 27, 1997, TSG's operations generated $600 in cash, after adjustments related to non-cash charges and credits of $562. Changes in operating assets and liabilities provided $798 of cash during the three months ended June 27, 1997. Inventories decreased by $1,070 primarily as a result of shipments of smart payphone products manufactured during the year ended March 28, 1997. Accounts payable increased by $891 primarily as a result of fluctuations in inventory purchases. The decrease in accrued liabilities of $306 and deferred revenue of $375 is primarily attributable to satisfaction of obligations under the new sales agreement between TSG and SWB, and the payment of performance based compensation accrued at March 28, 1997. The increase in other assets is attributable to the capitalization of software development costs of approximately $130. The increase in refundable income taxes of $301 is primarily attributable to current tax benefits recognized during the three months ended June 27, 1997. Income taxes payable declined by $126 due to payments made during the three months ended June 27, 1997. Cash used to fund operating activities during the three months ended June 28, 1996 amounted to $3,089. During the three months ended June 28, 1996, TSG's operations generated $1,032 in cash, after adjustments related to non- cash charges and credits of $447. Changes in operating assets and liabilities used $4,121 of cash during the three months ended June 28, 1996. Accounts receivable increased by $2,795 as a result of an increase in the volume of business during the period. The increase in inventory of $1,203 and accounts payable of $515, although partially related to the increase in the volume of business, was primarily attributable to an excess of inventory purchases under purchase commitments over sales requirements as a result of a change in the delivery requirements of one of TSG's customers. During the three months ended June 28, 1996, TSG satisfied the majority of its delivery requirements with respect to prepayments from customers and deferred revenue decreased by $486. The decrease in accrued liabilities of $341 was primarily attributable to the payment of interest accrued under the terms of the subordinated notes payable to stockholders that were retired during the period, and the payment of performance based compensation accrued at the beginning of the period. Current tax expense for the period exceeded estimated tax payments and income taxes payable increased by $114. Cash Flows From Investing Activities Cash used to fund investing activities during the seven months ended October 30, 1994, five months ended March 31, 1995, years ended March 29, 1996 and March 28, 1997 and three months ended June 27, 1997 and June 28, 1996 amounted to $9, $60, $252, $363, $37 and $59, respectively. TSG's capital expenditures during these periods consisted primarily of investments in manufacturing tooling and equipment and automated test equipment. TSG expects that its capital expenditures over the next several quarters will increase as TSG continues to invest in manufacturing and test equipment required to improve its in-house prototype and manufacturing capabilities and moves forward to select and begin the implementation of new management information systems (see "Capital Commitments and Liquidity"). Capital Commitments and Liquidity TSG has not entered into any significant commitments for the purchase of capital assets. However, TSG intends to purchase and install information systems and capital equipment, including printed circuit board assembly equipment and other manufacturing equipment, to advance its prototype manufacturing and product testing capabilities during the next year. In addition, TSG intends to expand its manufacturing capabilities through the purchase of capital equipment in the future as required to meet the needs of its business. However, there can be no assurance that capital expenditures will be made as planned or that additional capital expenditures will not be required. TSG believes, based on its current plans and assumptions relating to its operations, that its sources of capital, including capital available under the revolving credit line and cash flow from operations will be adequate to satisfy its anticipated cash needs, including anticipated capital expenditures, for at least the next year. However, in the event that TSG's plans or the basis for its assumptions change or prove to be inaccurate, or cash flow and sources of capital prove to be insufficient to provide for TSG's cash requirements (due to unanticipated expenses, loss of sales revenues, a significant increase in inventories, operating difficulties or otherwise), TSG would be required to seek additional financing. In such an event, there can be no assurance that additional financing would be available to TSG on commercially reasonable terms, or at all. 76 Extension of credit to customers and inventory purchases represent the principal working capital requirements of TSG. Significant increases in accounts receivable and inventory balances could have an adverse effect on TSG's liquidity. TSG's accounts receivable, less allowances for doubtful accounts, at March 29, 1996, March 28, 1997 and June 27, 1997 amounted to $3,866, $3,235 and $3,162, respectively. Accounts receivable at March 29, 1996, March 28, 1997 and June 27, 1997 consists primarily of amounts due from the RBOCs. TSG's inventories, less allowances for potential losses due to obsolescence and excess quantities, amounted to $8,659, $10,879 and $9,781 at March 29, 1996, March 28, 1997 and June 27, 1997, respectively. The level of inventory maintained by TSG is dependent on a number of factors, including delivery requirements of customers, availability and lead-time of components and the ability of TSG to estimate and plan the volume of its business. TSG markets a wide range of services and products and the requirements of its customers vary significantly from period to period. Accordingly, inventory balances may vary significantly. The Loan Agreement between TSG and its bank limits outstanding revolving credit indebtedness secured by eligible inventory to $3,100. Accordingly, increases in inventory together with decreases in sales during the last nine months has adversely affected TSG's liquidity under the revolving credit agreement. The ability of TSG to improve its liquidity during the next year is dependent on the level of smart payphone product orders and the extent of the related inventory reduction, if any. In October 1994, TSG entered into a contract manufacturing agreement for the production of its GemStar smart payphone processors. TSG committed to purchase $12,200 of product over an eighteen-month period beginning in December 1994. In addition, in November 1994, TSG entered into a dealer agreement that committed TSG to purchase approximately $3,500 of electronic lock devices over a two-year period. TSG initially scheduled purchases under these agreements based on anticipated quantities required to meet its sales commitments. At March 28, 1997 and June 27, 1997, TSG had acquired the majority of committed purchase volume under these purchase agreements. However, as a result of a decline in sales to SWB, TSG's inventories related to these agreements increased by approximately $2,000 during the year ended March 28, 1997. During the three months ended June 27, 1997, TSG released orders under the terms of the manufacturing agreement entered into in October 1994 to purchase approximately $5,500 of assemblies for its new smart payphone processor. Upon a termination of the agreement by TSG, TSG is obligated to purchase inventories held by the manufacturer and pay vendor cancellation and restocking charges, and a reasonable profit thereon. In addition, TSG is obligated to pay a cancellation penalty of up to $500 if it cancels the $5,500 purchase obligation or a substantial portion thereof. The amount of the cancellation penalty, if any, will vary depending upon quantities purchased by TSG. In December 1994, TSG entered into a sales agreement with SWB under which SWB committed to purchase $21,300 of GemStar smart processors, electronic locks and other components over a three-year period. In connection with this agreement, TSG sold the rights to certain product software for an aggregate purchase price of $500. TSG received back an exclusive irrevocable perpetual right to sub-license the software in connection with the sale of related products. In return, TSG agreed to pay royalties on sales of licensed products to other customers. At March 28, 1997, TSG was not obligated and had not paid any royalties under the agreement. TSG was obligated to repay, three years from the date of sale, a portion of the purchase price up to a maximum amount of $375, which is reflected as deferred revenue in TSG's consolidated financial statements at March 29, 1996 and March 28, 1997. However, in June 1997, TSG entered into an agreement with SWB that superseded and terminated the December 1994 agreement. Under the new agreement, TSG agreed to reduce SWB's remaining purchase commitment to approximately $3,000 from approximately $8,000 under the former agreement and, among other things, upgrade SWB's payphone management system. In return, SWB made a $250 cash payment to TSG, terminated TSG's obligation to pay royalties on sales of licensed products to other customers and terminated TSG's contingent obligation to repay revenue of $375 received from the sale of product software under the December 1994 agreement. SWB also agreed to make additional cash payments to TSG of $250 on July 2, 1997, $100 on September 1, 1997, $150 on December 31, 1997 and $250 on March 31, 1998, subject to TSG's compliance with the terms and conditions of the agreement, including conditions with respect to 77 performance, service and repair. SWB has the right to cancel the agreement upon default by TSG. Therefore, there is no assurance that TSG will receive the additional payments or that it will ship the products set forth in the agreement. TSG has received all scheduled payments under the new agreement which were due as of the date hereof. Operating Trends and Uncertainties Dependence on Customers and Contractual Relationships. During TSG's last three fiscal years, four of the RBOCs have accounted for the majority of TSG's sales. TSG anticipates that it will continue to derive most of its revenues from such customers, and other telcos, for the foreseeable future. Significant reductions and/or fluctuations in sales volume from these customers can have a material adverse effect on TSG's business. In addition, the loss of a significant customer could have a material adverse effect on TSG's business. TSG's prospects for continued profitability are largely dependent upon the RBOCs upgrading the technological capabilities of their installed base of payphones, and utilizing TSG's products and services for such upgrade conversion programs. Also, TSG's prospects and the ability of TSG to maintain a profitable level of operations are dependent upon its ability to continue to secure contract awards from the RBOCs. In addition, TSG's prospects for growth are dependent upon the market acceptance and success of its smart payphone products, as well as development of smart products containing additional advanced features. If TSG is unable to attract the interest of the RBOCs to deploy TSG's smart payphone products, TSG's sales revenues, business and prospects for growth would be adversely affected. Further, TSG's ability to maintain and/or increase its sales is dependent upon its ability to compete for and maintain satisfactory relationships with the RBOCs, particularly those RBOCs that are presently significant customers of TSG. Prior to a restructuring instituted in 1994, TSG experienced difficulties with a first generation smart payphone product, which difficulties subsequently were remedied. Such difficulties, however, resulted in the termination of a contract for such product with one of TSG's then significant RBOC customers. There can be no assurances that similar difficulties will not occur in the future. The assessment of penalties and/or damages under TSG's sales contracts could have a material adverse effect on TSG's operating results and liquidity. In April 1995, TSG initiated a recall of products due to contamination introduced into the manufacturing process by TSG's contract manufacturer. Although TSG's contract manufacturer was responsible for the repair or replacement of the recalled product, TSG incurred liquidated damages under the terms of the sales agreement with its customer in the amount of $200. Sales Prices. TSG's agreements with its contract manufacturers generally provide that TSG will bear certain cost increases incurred by the manufacturer. Accordingly, TSG's manufacturing costs may fluctuate based on costs incurred by its contract manufacturers and such fluctuations could have a material and adverse impact on earnings. TSG's sales agreements with customers generally have fixed product prices with limited price escalation provisions. Consequently, there is a risk that TSG may not be able to increase sales prices when product costs increase. In the event TSG's costs increase without a corresponding price increase or orders are lost due to price increases, TSG's profitability would be adversely affected. TSG encounters substantial competition with respect to smart payphone contract awards from the RBOCs. Pending the release of TSG's new smart payphone processor later this year, market pressures have eroded margins on the product version currently being shipped. Until TSG releases its new smart payphone processor, TSG will realize little to no gross profit with respect to smart product sales to NYNEX. Any other price reductions in response to competition will also result in reduced gross profit margins unless TSG is able to achieve reductions in product costs. Seasonality. TSG's sales are generally stronger during periods when weather does not interfere with the maintenance and installation of payphone equipment by TSG's customers, and may be adversely impacted near the end of the calendar year by the budget shortfalls of customers. However, TSG may also receive large year-end orders from its customers for shipment in December depending upon their budget positions. In the event TSG does not receive any significant end of year orders for its smart payphone products, its third quarter sales may decline significantly in relation to other quarters. 78 Sources of Supply and Dependence on Contract Manufacturers. TSG generally assembles its smart payphone products from assemblies produced by certain manufacturers under contractual arrangements. To the extent that such manufacturers encounter difficulties in their production processes that delay shipment to TSG or that affect the quality of items supplied to TSG, TSG's ability to perform its sales agreements or otherwise to meet supply schedules with its customers can be adversely affected. In the event that contract manufacturers delay shipments or supply defective materials to TSG, and such delays or defects are material, TSG's customer relations could deteriorate and its sales and operating results could be materially and adversely affected. As a percentage of revenues, the majority of TSG's products contain components or assemblies that are purchased from single sources. TSG believes that there are alternative sources of supply for most of the components and assemblies currently purchased from those sources. Most of the components and assemblies used by TSG for which there are not immediately available alternative sources of supply are provided to TSG under standard purchase arrangements. In addition, suppliers of certain electronic parts and components to TSG and its contract manufacturers occasionally place their customers on allocation for those parts. If a shortage or termination of the supply of any one or more of such components or assemblies were to occur, TSG's business could be materially and adversely affected. In such event, TSG would be required to incur the costs associated with redesigning its products to include available components or assemblies or otherwise obtain adequate substitutes, and those costs could be material. Also, any delays in redesigning products or obtaining substitute components could adversely affect TSG's business. Telecommunications Act. As a result of the Telecommunications Act, the RBOCs will be permitted to manufacture and provide telecommunications equipment and to manufacture customer premises equipment when certain competitive conditions have been met. It is possible that one or more RBOCs will decide to manufacture payphone products, which would increase the competition faced by TSG and could decrease demand for TSG's products by such RBOCs. Notwithstanding, TSG believes that deregulation generally will benefit TSG. However, there can be no assurance that TSG will benefit from deregulation or that it will not be adversely affected by deregulation. Net Operating Loss Carryforwards. As of June 27, 1997, TSG had net operating loss carryforwards for income tax purposes of approximately $11,000 to offset future taxable income. Under Section 382 of the Internal Revenue Code of 1986, as amended, the utilization of net operating loss carryforwards is limited after an ownership change, as defined in such Section 382, to an annual amount equal to the value of the loss corporation's outstanding stock immediately before the date of the ownership change multiplied by the federal long-term tax-exempt rate in effect during the month the ownership change occurred. Such an ownership change occurred on October 31, 1994 and could occur in the future. As a result, TSG will be subject to an annual limitation on the use of its net operating losses of approximately $210. This limitation only affects net operating losses incurred up to the ownership change and does not reduce the total amount of net operating losses which may be taken, but limits the amount which may be used in a particular year. Therefore, in the event TSG maintains profitable operations, such limitation would have the effect of increasing TSG's tax liability and reducing net income and available cash resources if the taxable income during a year exceeded the allowable loss carried forward to that year. In addition, because of such limitations, TSG will be unable to use a significant portion of its net operating loss carryforwards. SELECTED QUARTERLY DATA The following sets forth a summary of selected statements of operations data (unaudited) of TSG for the quarters ended June 30, 1995, September 29, 1995, December 29, 1995 and March 29, 1996:
QUARTER ENDED --------------------------------------------- JUNE 30, SEPTEMBER 29, DECEMBER 29, MARCH 29, 1995 1995 1995 1996 -------- ------------- ------------ --------- Net sales.................... $6,354 $7,738 $9,585 $9,524 Net income (loss)............ $ (231) $ 236 $ 655 $ 517
79 The following sets forth a summary of selected statements of operations data (unaudited) of TSG for the quarters ended June 28, 1996, September 27, 1996, December 27, 1996 and March 28, 1997:
QUARTER ENDED --------------------------------------------- JUNE 28, SEPTEMBER 27, DECEMBER 27, MARCH 28, 1996 1996 1996 1997 -------- ------------- ------------ --------- Net sales.................... $12,078 $10,062 $5,652 $5,680 Net income (loss)............ $ 585 $ 385 $ 27 $ 13
NEW ACCOUNTING PRONOUNCEMENTS In February 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 128, Earnings Per Share ("SFAS 128"). SFAS 128 requires disclosure of basic earnings per share based on income available to common stockholders and the weighted average number of common shares outstanding during the period, and diluted earnings per share based on income available to common stockholders and the weighted average number of common and dilutive potential common shares outstanding during the period. The adoption of SFAS 128 is required for fiscal years ending after December 15, 1997, and earlier adoption is not permitted. Had TSG adopted SFAS 128 during the years ended March 29, 1996 and March 28, 1997, basic earnings per share on a pro forma basis would have been $.34 and $.22 per share, respectively and diluted earnings per share on a pro forma basis would have been $.30 and $.21 per share, respectively. Also in February 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 129, Disclosure of Information about Capital Structure ("SFAS 129"). SFAS 129 requires a company to explain the privileges and rights of its various outstanding securities, the number of shares issued upon conversion, exercise or satisfaction of required conditions during the most recent annual fiscal period, liquidation preferences of preferred stock and other matters with respect to preferred stock. Although the statement is effective for periods ending after December 15, 1997, TSG's financial statement disclosures are in compliance with SFAS 129. In June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 130, Reporting Comprehensive Income ("SFAS 130"). SFAS 130 establishes standards for reporting and display of comprehensive income and its components in a full set of general-purpose financial statements. Comprehensive income is defined as the change in equity of a business during a period from transactions and events and circumstances from non-owner sources, and includes all changes in equity during a period except those resulting from investments by owners and distributions to owners. SFAS 130 is effective for fiscal years beginning after December 15, 1997. The adoption of SFAS 130 will not have a material effect on TSG's results of operations or financial position. Also in June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 131, Disclosures about Segments of an Enterprise and Related Information ("SFAS 131"). SFAS 131 requires public entities to report certain information about operating segments, their products and services, the geographic areas in which they operate, and their major customers, in complete financial statements and in condensed interim financial statements issued to stockholders. SFAS 131 is effective for fiscal years beginning after December 15, 1997. The adoption of SFAS 131 will not have a material effect on TSG's results of operations or financial position. 80 DIRECTORS AND EXECUTIVE OFFICERS OF TSG The following sets forth the name and age of each director and executive officer of TSG, his positions and offices with TSG, his period of service with TSG, and his business experience for at least the past five years, and with respect to directors, their present principal occupation and other directorships held in public companies. DIRECTORS Directors are elected to serve for a one-year term and until their successors are elected and qualified. The Bylaws of TSG provide that the number of directors will be determined from time to time by the Board of Directors or the stockholders of TSG, but that there will be at least one director. Directors of TSG are as follows:
NAME AGE DIRECTOR SINCE ---- --- -------------- David R. A. Steadman, Chairman........................ 60 1994 D. Thomas Abbott...................................... 43 1996 Vincent C. Bisceglia.................................. 42 1994 Charles E. Davidson................................... 44 1994 Mark L. Plaumann...................................... 42 1997 Olivier Roussel....................................... 50 1986
David R. A. Steadman. Mr. Steadman has been President of Atlantic Management Associates, Inc., a management services firm, since 1988. From 1990 to 1994, Mr. Steadman served as President and Chief Executive Officer of Integra--A Hotel and Restaurant Company, and from 1987 to 1988, as Chairman and Chief Executive Officer of GCA Corporation, a manufacturer of automated semiconductor capital equipment. From 1980 to 1987, Mr. Steadman was a Vice President of Raytheon Company, a defense electronics manufacturer, and served in various management positions, most recently as President of its venture capital division. Mr. Steadman is Chairman of the Board of Directors of Wahlco Environmental Systems, Inc., a manufacturer of environmental conditioning systems. He is also a director of Aavid Thermal Technologies, Inc., which manufactures thermal management products and produces computational fluid dynamics software; Kurzweil Applied Intelligence, Inc., a voice recognition software company; and Vitronics Corporation, a manufacturer of reflow soldering ovens. Mr. Steadman was elected Chairman of the TSG Board in 1994 pursuant to an employment agreement described under the heading "Employment Contracts and Termination of Employment and Change-in-Control Arrangements" in "TSG Executive Compensation." D. Thomas Abbott. Mr. Abbott has been Chairman of MeesPierson Holdings Inc., the United States operation of a Dutch merchant bank, since 1995. From 1993 to 1995, Mr. Abbott was Chairman and Chief Executive Officer of Savin Corporation, an office products Company, and from 1989 to 1993, he was President of Harvest Group, Inc., a private investment firm. From 1976 to 1988, Mr. Abbott held various executive positions with Bankers Trust Company. Mr. Abbott is a director of International Mezzanine Investment N.V., Precise Holdings Inc., and Coffee Tree Limited. Vincent C. Bisceglia. Mr. Bisceglia has served as a director and as President and Chief Executive Officer of TSG since February 1994. From 1986 to February 1994, he served TSG as a consultant and in various management positions including Vice President of Sales and Executive Vice President. From 1982 to 1986, Mr. Bisceglia was Executive Vice President of Transaction Management, Inc., a manufacturer of point-of-sale systems, and from 1978 to 1982, he held senior marketing positions with National Semiconductor-DTS and Siemens-Nixdorf Computer Corporation. Charles E. Davidson. Since January 1, 1995, Mr. Davidson has served as Chairman of Wexford Management LLC, a private investment management company, which serves as the investment manager to several private investment funds, including Wexford, the majority stockholder of TSG. During 1994, Mr. Davidson served as the Chairman of the Board of Wexford Capital Corporation, which served as the investment manager to several private investment funds, including Wexford. From 1984 to 1994, Mr. Davidson was a 81 partner of Steinhardt Partners, L.P., a private investment firm, and from 1977 to 1984, Mr. Davidson was employed by Goldman, Sachs & Co., serving as Vice President of corporate bond trading. Mr. Davidson is Chairman of the Board of DLB Oil & Gas and Resurgence Properties Inc. Mark L. Plaumann. Mr. Plaumann has been a Senior Vice President of Wexford Management since January 1996, and since March 1995 has been a director and/or Vice President of the general partner of various public partnerships managed by Wexford Management. Mr. Plaumann joined the predecessor entities of Wexford Management in February 1995. Prior to joining Wexford Management, Mr. Plaumann was a Managing Director of Alvarez & Marsal, Inc., a crisis management consulting firm, from 1990 to 1995, and from 1985 to 1990 he was with American Healthcare Management, Inc., an owner and operator of hospitals, where he served in a variety of capacities, most recently as its President. Prior to that he was with Ernst & Young LLP in its auditing and consulting divisions for eleven years. Mr. Plaumann is a director of Wahlco Environmental Systems, Inc., a manufacturer of environmental conditioning systems, and BCAM International, Inc., an ergonomics technology company. Olivier Roussel. Mr. Roussel has been Chairman and President of Acor, a private investment company, since 1975. From 1974 to 1977, he was a Vice President of Nobel-Bozel and from 1977 to 1982 he was an Assistant General Manager of Heli-Union. Mr. Roussel was a Director of Roussel-Uclaf from 1975 to 1982 and Chairman of Eminence S.A. from 1987 to 1990. He is Chief Operating Officer and a Director of Vacsyn S.A., a biotechnology company, and a director of Bollore Technologies, a public company listed on the Paris Stock Exchange. EXECUTIVE OFFICERS Executive officers are elected by the TSG Board and serve until they resign or are removed by the TSG Board. TSG's executive officers are as follows:
NAME AGE POSITIONS AND OFFICES ---- --- --------------------- David R. A. Steadman........ 60 Chairman of the Board of Directors Vincent C. Bisceglia........ 42 President and Chief Executive Officer, Director M. Winton Schriner.......... 50 Executive Vice President, Operations Darold R. Bartusek.......... 51 Senior Vice President, Sales and Marketing William H. Thompson......... 45 Vice President of Finance, Chief Financial Officer and Secretary Allen W. Vogl............... 49 Vice President, Engineering
The business experience of Messrs. Steadman and Bisceglia is set forth above under the listing of directors of TSG. M. Winton Schriner. Mr. Schriner has served as Executive Vice President of Operations of TSG since July 1996. From August 1994 to April 1996, he served as Director of Contract Manufacturing of TSG. From 1991 to 1993, Mr. Schriner served TSG in various capacities including Vice President of Operations, Director of Marketing and Director of Engineering. Prior to joining TSG in 1991, he was at BellSouth Telecommunications Company for a period of 12 years in various management capacities with duties ranging from public communications to strategic planning and executive support. He holds a B.S. degree in Industrial Education and an M.S. degree in Vocational Rehabilitation from the University of Wisconsin. Darold R. Bartusek. Mr. Bartusek has served as Senior Vice President of Sales and Marketing of TSG since November 1996, and from February 1994 to April 1996 he was Vice President of Sales and Marketing of TSG. From 1991 to February 1994, Mr. Bartusek served TSG in various capacities including Vice President of Worldwide Sales and Vice President and General Manager of TSG's Smart Product Business. From August 1989 to January 1991, Mr. Bartusek served as Vice President of Marketing of the Public Communication Systems Division of Executone Information Systems, Inc., a supplier of smart payphone systems. From 1973 to 1988, 82 Mr. Bartusek served GTE Communication Systems Corporation in various capacities including Director of Public Communications and Director of Advertising and Sales Promotion. Mr. Bartusek holds a B.B.A. degree from Mankato State University. William H. Thompson. Mr. Thompson has served as Vice President of Finance, Chief Financial Officer and Secretary of TSG since February 1994. From 1990 to 1994, he was Vice President of Finance of TSG. Prior to joining TSG, Mr. Thompson was Controller and Vice President of Finance of Cardiac Control Systems, Inc., a publicly-held medical device manufacturer, from May 1983 to May 1988 and Executive Vice President of Operations and Finance from May 1988 to June 1990. From June 1974 to May 1983, he held various positions, most recently as Audit Manager, with Price Waterhouse LLP, certified public accountants. Mr. Thompson is a certified public accountant in the state of Florida and holds a B.S. degree in accountancy from Florida State University. Allen W. Vogl. Mr. Vogl has served as Vice President of Engineering of TSG since February 1994 and before that, he served TSG in various capacities since 1981, including Vice President of Engineering, Executive Vice President and Chief Scientist. From 1972 to 1981, he was employed in various engineering and research and development capacities by Harris Corporation and Storage Technology Corporation. SECTION 16(A) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE Section 16(a) of the Securities Exchange Act of 1934 requires TSG's officers and directors, and persons who own more than 10% of a registered class of TSG's equity securities ("Insiders"), to file reports of ownership and certain changes in ownership with the Commission and to furnish TSG with copies of those reports. Based solely on a review of Forms 3 and 4 and amendments thereto during the most recent fiscal year ended March 28, 1997 and Forms 5 and amendments thereto furnished to TSG with respect to the fiscal year ended March 28, 1997 and any written representations by Insiders that no Form 5 is required, Messrs. Abbott, Bartusek, Bisceglia, Davidson, Roussel, Schriner, Steadman, Thompson and Vogl as well as Wexford each filed late his Form 3, "Initial Statement of Beneficial Ownership of Securities" (required as a result of TSG's registration statement relating to its initial public offering becoming effective on May 10, 1996.) SECURITY OWNERSHIP OF CERTAIN BENEFICIAL HOLDERS AND MANAGEMENT The following tables sets forth certain information regarding beneficial ownership of the outstanding TSG Common Stock at October 13, 1997 by (i) each person known by TSG to own beneficially more than 5% of the outstanding TSG Common Stock; (ii) each of the directors of TSG; (iii) the executive officers named in the Summary Compensation Table, "Executive Compensation" and (iv) all directors and executive officers as a group. The numbers and percentages assume for each person or group listed, the exercise of all warrants and stock options held by such person or group that are exercisable within 60 days of October 13, 1997, in accordance with Rule 13d-3(d)(1) of the 1934 Act, but not the exercise of such warrants and stock options owned by any other person. Except as otherwise indicated in the footnotes, TSG believes that the beneficial owners of TSG Common Stock listed below, based on information furnished by such owners, have sole investment and voting power with respect to the shares of TSG Common Stock shown as beneficially owned by them. 83 SECURITY OWNERSHIP OF CERTAIN BENEFICIAL HOLDERS
NAME AND ADDRESS NUMBER OF SHARES OF BENEFICIAL OWNER OF COMMON STOCK PERCENTAGE OF CLASS ------------------- ---------------- ------------------- Wexford Partners Fund, L.P............ 2,444,286 51.9% 411 West Putnam Avenue Greenwich, CT 06830 Acor S.A.............................. 454,386 9.7% 17 Rue du Colisee Paris, France 75008 Firlane Business Corp. ............... 235,028 5.0% Box 202 1211 Geneva 12, Switzerland A.T.T. IV, NV......................... 549,450(1) 11.7% c/o Applied Communications Technologies, Inc. 20 William Street Wellesley, MA 02181
- -------- (1) Of these shares, 183,150 shares are subject to purchase at $11.00 per share, (i) 142,857 shares from Wexford; (ii) 26,557 shares from Acor S.A.; and (iii) 13,736 shares from Firlane. If the options were exercised in full, Wexford would beneficially own 2,301,429 shares (48.9%); Acor S.A. would beneficially own 427,829 shares (9.1%); and Firlane would beneficially own 221,292 shares (4.7%) of TSG Common Stock. 84 SECURITY OWNERSHIP OF MANAGEMENT
NAME OF BENEFICIAL OWNER SHARES BENEFICIALLY OWNED PERCENTAGE OF CLASS ------------------------ ------------------------- ------------------- D. Thomas Abbott........... 3,000(1) * Vincent C. Bisceglia....... 152,656(2) 3.1% Charles E. Davidson........ 2,457,286(3) 52.0% Mark L. Plaumann........... 2,444,286(4) 51.9% Olivier Roussel............ 467,386(5) 9.9% David R. A. Steadman....... 58,613(6) 1.2% Darold R. Bartusek......... 36,929(7) * M. Winton Schriner......... 35,000(7) * William H. Thompson........ 42,971(8) * Allen W. Vogl.............. 23,012(9) * All Directors and Executive Officers as a Group (10 Persons).................. 3,276,854(10) 64.5%
- -------- * Represents holdings of less than one percent. (1) These shares are purchasable within 60 days of October 13, 1997 under a stock option at $10.71 per share. (2) Of these shares, 150,000 shares are purchasable within 60 days of October 13, 1997 under a stock option at $1.00 per share. (3) These shares include 10,000 and 3,000 shares that are purchasable within 60 days of October 13, 1997 under stock options at $8.50 and $10.812 per share, respectively, and 2,444,286 shares that are owned by Wexford, of which Mr. Davidson is an affiliate. Mr. Davidson disclaims beneficial ownership of the shares owned by Wexford. (4) These shares are owned by Wexford, of which Mr. Plaumann is an affiliate. Mr. Plaumann disclaims beneficial ownership of these shares. (5) These shares include 10,000 and 3,000 shares that are purchasable within 60 days of October 13, 1997 under stock options at $8.50 and $10.821 per share, respectively, and 454,386 shares that are owned by Acor S.A., of which Mr. Roussel is Chairman and President. Mr. Roussel disclaims beneficial ownership of the shares owned by Acor S.A. (6) These shares include 57,500 shares that are purchasable within 60 days of October 13, 1997 under stock options at prices ranging from $1.00 to $5.00 per share. (7) These shares include 35,000 shares that are purchasable within 60 days of October 13, 1997 under stock options at prices ranging from $1.00 to $9.50 per share. (8) These shares include 42,500 shares that are purchasable within 60 days of October 13, 1997 under stock options at prices ranging from $1.00 to $9.50 per share. (9) These shares include 22,500 shares that are purchasable within 60 days of October 13, 1997 under stock options at prices ranging from $1.00 to $5.00 per share, and 50 shares that are purchasable within 60 days of October 13, 1997 under redeemable warrants at a price of $11.00 per share. (10) These shares include 2,444,286 shares that are owned by Wexford (as to which Messrs. Davidson and Plaumann disclaim beneficial ownership); 454,386 shares that are owned by Acor S.A. (as to which Mr. Roussel disclaims beneficial ownership); and 371,500 shares that are purchasable within 60 days of October 13, 1997 under stock options at prices ranging from $1.00 to $10.812 per share. 85 TSG EXECUTIVE COMPENSATION This section contains information about compensation, stock options grants and employment arrangements and other information concerning certain of the executive officers of TSG. SUMMARY COMPENSATION TABLE The following table sets forth the compensation TSG paid for services rendered during the fiscal years ended March 28, 1997, March 29, 1996 and March 31, 1995 by the Chief Executive Officer and the four other most highly compensated executive officers of TSG whose compensation exceeded $100,000 in fiscal 1997 and who were serving at the end of the 1997 fiscal year.
LONG TERM COMPENSATION ANNUAL COMPENSATION AWARDS ------------------------------------- ------------ OTHER SECURITIES ANNUAL UNDERLYING ALL OTHER FISCAL SALARY* BONUS COMPENSATION(1) OPTIONS COMPENSATION NAME AND PRINCIPAL POSITION YEAR ($) ($) ($) (#) ($) - --------------------------- ------ ------- ------ --------------- ------------ ------------ Vincent C. Bisceglia(1)........... 1997 150,055 71,438 30,729 7,760(2) President & Chief Executive Officer 1996 147,200 -- 26,915 5,932 1995 121,970 52,500 37,405 150,000 4,088 M. Winton Schriner...... 1997 114,154 -- -- 25,000 6,794(3) Executive Vice President, Operations 1996 80,000 -- -- 15,000 5,638 1995 32,000 -- -- 15,000 1,766 Darold R. Bartusek...... 1997 104,000 -- -- 25,000 7,390(4) Senior Vice President, Sales & 1996 104,000 -- -- 15,000 6,282 Marketing 1995 99,600 17,500 -- 15,000 5,754 William H. Thompson(1).. 1997 114,567 -- -- 15,000 7,429(5) Vice President, Finance, Chief 1996 107,536 -- -- 10,000 6,063 Financial Officer, Secretary 1995 102,986 35,000 40,147 30,000 6,029 Allen W. Vogl(1)........ 1997 110,455 -- 28,492 -- 7,037(6) Vice President, Engineering 1996 108,400 -- 31,824 15,000 6,456 1995 103,814 35,000 38,269 15,000 6,110
- -------- * Includes commissions. (1) Other Compensation with respect to Mr. Bisceglia and Mr. Vogl represents the estimated incremental costs to TSG of reimbursements and payments of their travel expenses to and from TSG and their respective residences and temporary living expenses, and with respect to Mr. Thompson, represents reimbursement of relocation expenses. (2) Of this amount, $198 represents the taxable portion of group term life insurance provided by TSG; $3,279 represents premiums paid by TSG for split-dollar universal life insurance; $2,284 represents premiums paid by TSG for long-term disability insurance; and $1,999 represents contributions made by TSG to the 401(k) Profit Sharing Retirement Plan for the account of the executive. (3) Of this amount, $403 represents the taxable portion of group term life insurance provided by TSG; $3,713 represents premiums paid by TSG for split-dollar universal life insurance; $2,234 represents premiums paid by TSG for long-term disability insurance; and $444 represents contributions made by TSG to the 401(k) Profit Sharing Retirement Plan for the account of the executive. (4) Of this amount, $311 represents the taxable portion of group term life insurance provided by TSG; $3,494 represents premiums paid by TSG for split-dollar universal life insurance; $2,503 represents premiums paid by TSG for long-term disability insurance; and $1,082 represents contributions made by TSG to the 401(k) Profit Sharing Retirement Plan for the account of the executive. (5) Of this amount, $139 represents the taxable portion of group term life insurance provided by TSG; $3,725 represents premiums paid by TSG for split-dollar universal life insurance; $2,418 represents premiums paid by TSG for long-term disability insurance; and $1,147 represents contributions made by TSG to the 401(k) Profit Sharing Retirement Plan for the account of the executive. (6) Of this amount, $214 represents the taxable portion of group term life insurance provided by TSG; $3,581 represents premiums paid by TSG for split-dollar universal life insurance; $2,773 represents premiums paid by TSG for long-term disability insurance; and $469 represents contributions made by TSG to the 401(k) Profit Sharing Retirement Plan for the account of the executive. 86 OPTION GRANTS IN THE LAST FISCAL YEAR The following table sets forth certain information with respect to options to purchase shares of TSG Common Stock that were granted to each of TSG's executive officers named in the Summary Compensation Table, above, during the fiscal year ended March 28, 1997.
INDIVIDUAL GRANTS ----------------------------------------------- POTENTIAL REALIZABLE VALUE AT ASSUMED ANNUAL RATES OF STOCK PRICE APPRECIATION NUMBER OF PERCENT OF TOTAL FOR OPTION TERM SECURITIES OPTIONS GRANTED EXERCISE --------------------- UNDERLYING TO EMPLOYEES IN PRICE EXPIRATION 5% 10% NAME OPTIONS FISCAL YEAR 1997 ($) DATE ($) ($) ---- ---------- ---------------- -------- ---------- ---------- ---------- Vincent C. Bisceglia.... None -- -- -- -- -- M. Winton Schriner(1)... 25,000 13% 9.50 07/23/06 149,362 378,513 Darold R. Bartusek(1)... 25,000 13% 9.50 07/23/06 149,362 378,513 William H. Thompson(1).. 15,000 8% 9.50 07/23/06 89,617 227,108 Allen W. Vogl........... None -- -- -- -- --
- -------- (1) These options were granted at an exercise price equal to the per share market value of TSG Common Stock on the grant date and vest in four equal annual installments on the grant date and the first three anniversaries of the grant date. In the event of a change in control of TSG, 50% of the shares not then exercisable will become fully exercisable. This will occur if the Merger is consummated. (2) The potential realizable value is calculated based on the term of the option (ten years) at its date of grant. It is calculated by assuming that the stock price on the date of grant appreciates at the indicated annual rate compounded annually for the entire term of the option; however, the optionee will not actually realize any benefit from the option unless the market value of TSG's stock price in fact increases over the option price. AGGREGATED OPTION EXERCISES IN THE LAST FISCAL YEAR AND FISCAL YEAR-END OPTION VALUES The following table sets forth for each of TSG's executive officers named in the Summary Compensation Table, certain information regarding exercises of stock options during the fiscal year ended March 28, 1997 and stock options held at that date. The "Value of Unexercised In-the-Money Options at Fiscal Year End" is based on the difference between the market price of the TSG Common Stock subject to the option on March 28, 1997 ($5.25 per share) and the option exercise (purchase) price per share. During fiscal 1997, there were no option exercises by any of the executive officers named in the Summary Compensation Table.
NUMBER OF SECURITIES VALUE OF UNEXERCISED UNDERLYING UNEXERCISED IN-THE-MONEY OPTIONS AT FISCAL YEAR END(#) OPTIONS AT FISCAL YEAR END($) ----------------------------- -------------------------------- NAME EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE ---- --------------- --------------- -------------- --------------- Vincent C. Bisceglia.... 12,500 37,500 478,125 159,375 M. Winton Schriner...... 25,000 30,000 49,687 17,812 Darold R. Bartusek...... 25,000 30,000 49,687 17,812 William H. Thompson..... 31,250 23,750 96,875 33,125 Allen W. Vogl........... 18,750 11,250 49,687 17,812
EMPLOYMENT CONTRACTS AND TERMINATION OF EMPLOYMENT AND CHANGE-IN-CONTROL ARRANGEMENTS Mr. Bisceglia. On October 31, 1994, TSG and Mr. Bisceglia entered into an employment agreement that expires on December 31, 1997, subject to certain early termination provisions and automatic renewal provisions. Pursuant to the agreement, Mr. Bisceglia serves as the President and Chief Executive Officer and as a director of TSG and is paid an annual salary of at least $147,200. His base salary is subject to annual review for merit and other increases at the discretion of the TSG Board as of January 1, 1996 and each year thereafter, and as a result of such reviews, Mr. Bisceglia's annual salary was increased to $160,000 per year on January 1, 1997. 87 Pursuant to the terms of the agreement, Mr. Bisceglia is entitled to the same benefits made available to the other senior executives of TSG on the same terms and conditions as such executives. The agreement provides that TSG will reimburse and/or pay on Mr. Bisceglia's behalf up to $4,000 per month of temporary living expenses, including travel to and from TSG and Mr. Bisceglia's residence, until TSG requires Mr. Bisceglia to relocate, at TSG's expense. Mr. Bisceglia is also entitled to receive an incentive bonus for each fiscal year during the term of the agreement equal to 2% of the operating profits of TSG, defined as net income before taxes, amortization and depreciation, interest, gains and losses arising from revaluation of assets, and charges or allocations by a parent or affiliated company except to the extent that such charges are for expenses that directly relate to the operations of TSG. Pursuant to the terms of this agreement, Mr. Bisceglia was granted an option to purchase 150,000 shares of TSG Common Stock at an exercise price of $1.00 per share under TSG's 1994 Omnibus Stock Plan. The shares subject to the option become exercisable in four equal annual installments commencing on the date of grant. In the event TSG's majority shareholder, Wexford, ceases to own at least 51% of TSG's outstanding voting stock, the option becomes exercisable in full. Upon consummation of the Merger, the option will become exercisable in full. The option expires ten years from the date of grant, unless earlier terminated upon termination of Mr. Bisceglia's employment for cause or upon Mr. Bisceglia's resignation. The agreement contains provisions that require TSG, at the option of Mr. Bisceglia, to purchase unexercised option shares at market value if Mr. Bisceglia's employment is terminated by TSG for reasons other than cause. Otherwise, the option remains in effect until its expiration date. If the agreement is terminated by TSG without cause, Mr. Bisceglia is entitled to receive the amount of compensation and benefits he would otherwise have received for the remaining term of the agreement or for six months, whichever period is longer. The agreement is automatically renewed for additional one-year periods unless TSG provides Mr. Bisceglia 180 days' notice of non-renewal or Mr. Bisceglia provides TSG with 120 days' notice of termination on December 31, 1997, or on any date thereafter. Pursuant to the agreement, Mr. Bisceglia is indemnified by TSG with respect to claims made against him as a director, officer, and/or employee of TSG or any subsidiary of TSG to the fullest extent permitted by TSG's Certificate of Incorporation, its Bylaws and Delaware Law. Mr. Steadman. Mr. Steadman is employed by TSG pursuant to an agreement dated October 31, 1994 at the rate of $5,000 per month plus $500 per day for each day spent on TSG business outside of the New England area (in which Mr. Steadman's office is located), but not to exceed $7,500 in any one month. Pursuant to the agreement, Mr. Steadman is elected Chairman of the TSG Board and in that capacity renders advice to the Board and management on business, operational and financial matters. Mr. Steadman is entitled to participate in employee benefit plans made available to other senior executives of TSG. The agreement also provided for the grant to Mr. Steadman of an option to purchase 50,000 shares of TSG Common Stock at an exercise price of $1.00 per share. The option has substantially the same terms as those of Mr. Bisceglia's option described above. Other Officers. Effective July 1, 1996, TSG adopted a policy regarding all officers of TSG, which is described under the heading "Report of the Compensation Committee on Executive Compensation--Other Executive Officers." Notwithstanding anything to the contrary set forth in any of TSG's filings under the 1933 Act or the 1934 Act that might incorporate future filings, including any Annual Report on Form 10-K in whole or in part, the following report of the Compensation Committee, and the Performance Graph, will not be deemed to be incorporated by reference into any such filings. 88 REPORT OF THE COMPENSATION COMMITTEE ON EXECUTIVE COMPENSATION This report has been prepared by the Compensation Committee of the TSG Board and addresses TSG's compensation policies with respect to the Chief Executive Officer and executive officers of TSG in general for the fiscal year ended March 28, 1997. Except for Mr. Steadman, each member of the Committee is a non-employee director. Mr. Steadman's compensation is based on his employment agreement, described above, which was approved by the TSG Board in November 1994. Compensation Policy The overall intent of the Committee in respect of executive officers is to establish levels of compensation that provide appropriate incentives in order to command high levels of individual performance and thereby increase the value of TSG to its stockholders, and that are sufficiently competitive to retain and attract the skills required for the success and profitability of TSG. The principal components of executive compensation are salary, bonus and stock options. Chief Executive Officer's Compensation The Chief Executive Officer's compensation for fiscal 1997 is based on a written employment agreement that was negotiated and entered into between him and TSG in October 1994 and is described above under the heading "Employment Contracts and Termination of Employment and Change-in-Control Arrangements." The salary in the agreement was determined to be appropriate by the members of the Committee at the time the agreement was entered into based on the financial and legal difficulties that TSG had experienced; the expertise and responsibility that the position requires; the Chief Executive Officer's experience with TSG in other capacities; and the subjective judgment of Committee members of a reasonable compensation level. The increase in salary granted by the Committee in January 1997 was based on Mr. Bisceglia's performance during fiscal 1997 and that of TSG as a whole and the subjective judgment of Committee members of a reasonable raise. Other Executive Officers Officers' Policy. Effective July 1, 1996, TSG adopted a policy regarding all officers of TSG to acknowledge that they have extra duties and responsibilities and that they are held to a higher standard of performance than employees generally. The policy provides, among other things, for TSG- paid life insurance for each officer in the amount of two and one-half times base salary; long-term disability insurance coverage; the establishment of an annual pool of funds from TSG's operating profits for the payment of bonuses; severance benefits in the event the officer's employment is terminated without cause consisting of a minimum of continued payment of two months' salary and a maximum of four months' salary, plus the continuation of TSG benefits during the period of continued salary payment; and the acceleration of one-half of the officer's unvested option shares in the event of a sale of substantially all of the assets of TSG or a person or entity acquires more than 51% of the outstanding voting stock of TSG. This acceleration will occur if the Merger is consummated. The policy also provides the same level of indemnity as for Mr. Bisceglia, described above. Salary. During fiscal 1997, the salary of each executive officer other than the salary of the Chairman and the Chief Executive Officer (described above under the heading "Employment Contracts and Termination of Employment and Change-in-Control Arrangements") was based on the level of his prior salary and on the subjective judgment of members of the Committee as to what constitutes a compensation level that is fair and calculated to retain the executive in TSG's employ. In the case of one executive officer, his salary increase was also based on a promotion to a new position with increased responsibilities. Bonuses. In July 1996, pursuant to the Officers' Policy described above, the Compensation Committee adopted a bonus plan for the 1997 fiscal year covering officers which also covers key employees of TSG other than those covered under a sales bonus plan of TSG. Bonuses under the plan are to be paid out of a pool of funds equal to 15% of the net income of TSG (i) before taxes and before the payment of any bonuses paid outside 89 of the plan (such as to the Chief Executive Officer pursuant to his employment agreement) and (ii) after deducting an amount equal to 15% of stockholders' equity. The allocation of the fund to individual officers and key employees is based on the recommendations to the Compensation Committee of the Chairman and Chief Executive Officer. The decision of the Compensation Committee is final and is based the recommendations it receives and the subjective judgment of members of the Committee. The bonus plan was renewed for the year ending April 3, 1998. Mr. Bartusek's incentive bonus compensation as Senior Vice President of Sales and Marketing is based on the difference between TSG's quarterly revenues in fiscal 1996 and the corresponding quarterly revenues in fiscal 1997. If 1997 quarterly revenues meet a minimum target established for each quarter, he is paid a percentage of the difference. The plan was based on the budgeted revenues for fiscal 1997 and the subjective judgment of the members of the Committee as to the appropriate level of incentive payment if the budgeted minimum quarterly revenues are achieved. Payment of the incentive compensation is made only after TSG's year-end audit has been completed. In July 1997, a new incentive bonus compensation plan for Mr. Bartusek was adopted for TSG's 1998 fiscal year. Mr. Bartusek's incentive bonus compensation as Senior Vice President of Sales and Marketing will be based on the difference between (i) TSG's quarterly revenues in fiscal 1998 and 80% of targeted revenues for fiscal 1998 and (ii) TSG's annual gross profit margin for fiscal 1998 and 80% of targeted gross profit margin for fiscal 1998. If quarterly revenues for a quarter exceed 80% of targeted revenues for that quarter, Mr. Bartusek will receive a bonus based on a percentage of the excess. If annual gross profit exceeds 80% of targeted gross profit for the year, Mr. Bartusek will receive a bonus based on a percentage of the excess to the extent of attainment of quarterly objectives as evaluated by the Committee. Bonuses based on quarterly revenues will be paid at the end of each quarter. The bonus based on gross profit will be paid at the end of the fiscal year. Stock Options. Stock options are granted by the Stock Plans Committee of the TSG Board. The Stock Plans Committee believes that stock ownership by executive officers is important in aligning management's and stockholders' interests in the enhancement of stockholder value over the long term. For options granted during fiscal 1997, the exercise price was equal to the market price of the TSG Common Stock on the date of grant. The stock option grants made to the executive officers in fiscal 1997 were made based on the subjective judgment of the Committee members of the appropriate recognition for their services to TSG during the 1997 fiscal year and prior years. Compliance with Internal Revenue Code Section 162(m). Section 162(m) of the Internal Revenue Code (enacted in 1993) generally disallows a tax deduction to public companies for compensation over $1million paid to its chief executive officer and its four other most highly compensated executives. The compensation payable by TSG to any one executive officer (including potential income from outstanding stock options) is currently and for the foreseeable future unlikely to reach that threshold. Qualifying, performance-based compensation will not be subject to the deduction limit if certain requirements are met. The Committee currently intends to structure stock option grants to executive officers in a manner that complies with the performance-based requirements of the statute. The Compensation Committee: Charles E. Davidson Mark L. Plaumann David R. A. Steadman Stock Plans Committee: Charles E. Davidson Mark L. Plaumann
90 DIRECTORS' COMPENSATION Directors who are employees of TSG receive no compensation, as such, for services as members of the Board. Directors who are not employees of TSG receive no cash compensation for their services as directors. Mr. Steadman, who is an employee of TSG, receives compensation as such. See "Compensation Committee Interlocks and Insider Participation." All directors are reimbursed for their out-of-pocket business expenses incurred in attending Board meetings and for performing any other services for TSG. Non-employee directors of TSG receive "formula" stock option grants under TSG's 1995 Non-Employee Director Stock Option Plan approved by stockholders on May 10, 1995. Each non-employee director serving on the date that TSG's initial registration statement became effective (May 10, 1996) was automatically granted an option to purchase 10,000 shares of TSG Common Stock (the "Initial Grants") that became fully exercisable six months after the grant date. After the Initial Grants, each non-employee director is automatically granted an additional option to purchase 3,000 shares on each anniversary of September 1, 1996 so long as he is then serving as a non- employee director. Each non-employee director first elected to the TSG Board after May 10, 1996 automatically receives an option to purchase 3,000 shares of TSG Common Stock on the date of his or her election and, so long as he or she is then serving as a non-employee director, an additional option to purchase 3,000 shares of TSG Common Stock on each anniversary of that date. All options under such Plan are granted at an exercise price per share equal to the market value of a share of TSG Common Stock on the date of grant. Except for the Initial Grants, all options vest in full on the first anniversary of the grant date. COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION Decisions concerning executive compensation (other than that of the Chairman) are made by the Compensation Committee of the TSG Board, which currently consists of Messrs. Davidson, Plaumann and Steadman. Mr. Steadman is Chairman of the TSG Board and an employee of TSG; Messrs. Davidson and Plaumann are neither officers nor employees of TSG or any of its subsidiaries. During fiscal 1997, no executive officer of TSG served as a director or member of a compensation committee of another entity with which any director of TSG had any relationship as a director or officer, except that Mr. Steadman is Chairman of the Board of Directors and a member of the Compensation Committee of Wahlco Environmental Systems, Inc., of which Mr. Plaumann is a director and former President. Mr. Steadman was elected Chairman of the TSG Board and is employed by TSG pursuant to an employment agreement that is described under the heading "Employment Contracts and Termination of Employment and Change-in-Control Arrangements." In fiscal 1997, Mr. Steadman received compensation of $69,000, plus the reimbursement of $11,003 of out-of-pocket expenses incurred in rendering services to TSG, and was also granted a stock option to purchase 15,000 shares of TSG Common Stock at $5.00 per share. Pursuant to an acquisition in January 1991 of the assets of the Public Communication Systems Division of Executive Information Systems, Inc. ("PCS"), TSG was obligated to pay OAB, Inc. royalties of 3.5% of TSG's sales of microprocessor-based components through June 30, 1996. Mr. Bartusek and certain other employees of TSG, who were employees of PCS, are stockholders of OAB. Royalty payments under this agreement during fiscal 1997 through the June 30, 1996 expiration date were approximately $420,100 (including payments of accrued royalties at March 29, 1996 and debt payments on notes issued in respect of accrued royalties), of which Mr. Bartusek received approximately $80,000. Wexford and Acor S.A. are parties to an Investment Agreement pursuant to which they acquired $2,361,082 and $438,918, respectively, of 10% subordinated notes of TSG in 1994. In May 1996, TSG repaid the principal balances of these notes in full--$2,361,082 to Wexford and $438,918 to Acor S.A. Interest paid on the notes to Wexford and Acor S.A. during fiscal 1997 was $128,081 and $23,810, respectively. 91 PERFORMANCE GRAPH The following graph assumes an investment of $100 on May 10, 1996 (the date the TSG Common Stock was first registered under Section 12 of the 1934 Act) and compares yearly changes thereafter (through March 28, 1997) in the market price of the Common Stock with (i) the Nasdaq Market Index for U.S. Companies (a broad market index) and (ii) the Nasdaq Telecommunications Index, a published industry index. The performance of the indices is shown on a total return (dividend reinvestment) basis; however, TSG paid no dividends during the period shown. The graph lines merely connect the beginning and end of the measuring periods and do not reflect fluctuations between those dates. Stock Performance Chart [LINE GRAPH APPEARS HERE]
MAY 10, 1996 MARCH 28, 1997 ------------ -------------- Technology Service Group, Inc. ..................... $ 100.00 $54.70 Nasdaq Market Index for U.S. Companies.............. 100.00 98.20 Nasdaq Telecommunications Index..................... 100.00 84.93
92 CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS OF TSG Reference is made to "Compensation of Directors" and "Compensation Committee Interlocks and Insider Participation" in "Executive Compensation," above. UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL INFORMATION THE UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL INFORMATION IS PRESENTED FOR INFORMATIONAL PURPOSES ONLY AND IS NOT NECESSARILY INDICATIVE OF THE OPERATING RESULTS OR FINANCIAL POSITION THAT WOULD HAVE OCCURRED, NOR IS IT NECESSARILY INDICATIVE OF THE FUTURE OPERATING RESULTS OR FINANCIAL POSITION OF ELCOTEL FOLLOWING THE MERGER OR THE LUCENT ACQUISITION. The following tables set forth certain unaudited pro forma consolidated financial information of Elcotel after giving effect to the Merger and the Lucent Acquisition. The unaudited pro forma consolidated balance sheet set forth below was prepared as if the Merger and the Lucent Acquisition had been consummated on June 30, 1997. The unaudited pro forma consolidated statements of operations for the year ended March 31, 1997 and three months ended June 30, 1997 set forth below were prepared as if the Merger and the Lucent Acquisition had been consummated on April 1, 1996. The unaudited pro forma financial information presented below has been prepared assuming the Merger and the Lucent Acquisition are accounted for using the purchase method of accounting. Accordingly, the unaudited pro forma consolidated balance sheet assumes that (1) the Merger consideration, consisting of (i) the fair value of securities to be issued by Elcotel to effect the Merger, (ii) the fair value of outstanding common stock, options and warrants of TSG to be converted into Elcotel securities, and (iii) the estimated direct costs and expenses to be incurred by Elcotel in connection with the transaction, is allocated to the assets and liabilities of TSG based on their estimated fair values and (2) the aggregate purchase price related to the Lucent Acquisition is allocated to the assets acquired based on their estimated fair values. The unaudited pro forma consolidated financial information presented below reflects pro forma adjustments that are directly attributable to the Merger and the Lucent Acquisition and the use of the purchase method of accounting. The accompanying unaudited pro forma consolidated statements of operations do not reflect anticipated cost reductions or revenue enhancements expected to be realized from the Merger or the anticipated revenues, gross profit and operating expenses from the Lucent Acquisition. Accordingly, the unaudited pro forma consolidated statements of operations for the year ended March 31, 1997 and three months ended June 30, 1997 are not necessarily indicative of the consolidated results of operations as they might have been had the Merger and Lucent Acquisition actually occurred on the dates indicated, nor are they necessarily indicative of future results. 93 ELCOTEL AND SUBSIDIARIES UNAUDITED PRO FORMA CONSOLIDATED BALANCE SHEET JUNE 30, 1997 (IN THOUSANDS EXCEPT PER SHARE DATA)
TSG LUCENT MERGER ACQUISITION PRO FORMA PRO FORMA PRO ELCOTEL TSG ADJUSTMENTS ADJUSTMENTS FORMA ------- ------- ----------- ----------- ------- ASSETS Current assets: Cash and temporary investments............. $ 1 $ 100 $ -- $ -- $ 101 Accounts and notes receivable.............. 7,297 3,162 -- -- 10,459 Inventories.............. 3,561 9,781 (3,039)(a) 3,999(g) 14,302 Refundable income taxes.. 95 301 -- -- 396 Deferred tax asset....... 692 350 2,246(a) -- 3,288 Prepaid expenses and other current assets.... 499 113 -- -- 612 ------- ------- ------- ------ ------- Total current assets... 12,145 13,807 (793) 3,999 29,158 Property, plant and equipment............... 3,287 724 116(a) 500(g) 4,627 Notes receivable......... 692 -- -- -- 692 Deferred tax asset....... 799 -- (799)(a) -- -- Intangible assets........ -- 3,999 25,550(a) 1,541(g) 31,090 Other assets............. 281 38 -- 54(h) 373 ------- ------- ------- ------ ------- $17,204 $18,568 $24,074 $6,094 $65,940 ======= ======= ======= ====== ======= LIABILITIES AND STOCKHOLD- ERS' EQUITY Current liabilities: Bank overdraft........... $ -- $ 324 $ -- $ -- $ 324 Accounts payable and accrued expenses........ 3,295 2,680 1,385(b) -- 7,360 Notes payable and borrowings under lines of credit............... 525 2,400 -- 3,044(i) 5,969 Current portion of long- term debt............... 199 -- -- 436(j) 635 ------- ------- ------- ------ ------- Total current liabilities........... 4,019 5,404 1,385 3,480 14,288 Long-term debt........... 183 -- -- 2,614(k) 2,797 Deferred tax liability... -- -- 973(a) -- 973 ------- ------- ------- ------ ------- Total liabilities...... 4,202 5,404 2,358 6,094 18,058 ======= ======= ======= ====== ======= Stockholders' equity: Common stock............. 82 47 3(c) -- 132 Capital in excess of par value................... 11,160 11,963 22,867(d) -- 45,990 Retained earnings........ 1,937 1,160 (1,160)(e) -- 1,937 Cumulative translation adjustment.............. -- (6) 6(f) -- -- Less treasury stock...... (177) -- -- -- (177) ------- ------- ------- ------ ------- 13,002 13,164 21,716 -- 47,882 ------- ------- ------- ------ ------- $17,204 $18,568 $24,074 $6,094 $65,940 ======= ======= ======= ====== =======
The accompanying notes are an integral part of this unaudited pro forma consolidated financial information. 94 ELCOTEL AND SUBSIDIARIES UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS YEAR ENDED MARCH 31, 1997 (IN THOUSANDS, EXCEPT PER SHARE DATA)
TSG LUCENT MERGER ACQUISITION PRO FORMA PRO FORMA PRO ELCOTEL TSG ADJUSTMENTS ADJUSTMENTS FORMA ------- ------- ----------- ----------- ------- Net sales............... $26,832 $33,472 $ -- $ -- $60,304 ======= ======= ====== ===== ======= Costs and expenses: Cost of goods sold.... 15,883 26,639 (36)(l) 100 (o) 42,586 Selling, general and administrative expenses............. 6,358 3,272 1,231(m) 261 (p) 11,122 Engineering, research and development expenses............. 2,623 1,777 -- 4,400 Interest (income) expense.............. (205) 400 -- 490 (q) 685 Other (income) charges.............. (331) (159) -- -- (490) ------- ------- ------ ----- ------- 24,328 31,929 1,195 851 58,303 ------- ------- ------ ----- ------- Income before income tax (expense) benefit...... 2,504 1,543 (1,195) (851) 2,001 Income tax (expense) benefit................ (876) (533) 323(n) 298 (r) (788) ------- ------- ------ ----- ------- Net income.............. $ 1,628 $ 1,010 $ (872) $(553) $ 1,213 ======= ======= ====== ===== ======= Income per common and common equivalent share: Primary............... $ 0.20 $ .09 ======= ======= Assuming full dilution............. $ 0.20 $ .09 ======= ======= Weighted average number of common and common equivalent shares outstanding: Primary............... 8,316 13,667 ======= ======= Assuming full dilution............. 8,316 13,667 ======= =======
The accompanying notes are an integral part of this unaudited pro forma consolidated financial information. 95 ELCOTEL AND SUBSIDIARIES UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS THREE MONTHS ENDED JUNE 30, 1997 (IN THOUSANDS, EXCEPT PER SHARE DATA)
TSG LUCENT MERGER ACQUISITION PRO FORMA PRO FORMA PRO ELCOTEL TSG ADJUSTMENTS ADJUSTMENTS FORMA ------- ------ ----------- ----------- ------- Net sales................... $6,753 $6,217 $ -- $ -- $12,970 ====== ====== ===== ===== ======= Costs and expenses: Cost of goods sold........ 3,838 5,123 25(l) 25(o) 9,011 Selling, general and administrative expenses.. 1,695 718 273(m) 65(p) 2,751 Engineering, research and development expenses..... 708 292 -- -- 1,000 Interest (income) expense.................. (63) 72 -- 121(q) 130 Other (income)............ -- (14) -- -- (14) ------ ------ ----- ----- ------- 6,178 6,191 298 211 12,878 ------ ------ ----- ----- ------- Income before income tax (expense) benefit.......... 575 26 (298) (211) 92 Income tax (expense) benefit.................... (200) 12 25(n) 74(r) (89) ------ ------ ----- ----- ------- Net income.................. $ 375 $ 38 $(273) $(137) $ 3 ====== ====== ===== ===== ======= Income per common and common equivalent share: Primary................... $ 0.05 $ .00 ====== ======= Assuming full dilution.... $ 0.05 $ .00 ====== ======= Weighted average number of common and common equivalent shares outstanding: Primary................... 8,301 13,635 ====== ======= Assuming full dilution.... 8,301 13,635 ====== =======
The accompanying notes are an integral part of this unaudited pro forma consolidated financial information. 96 NOTES TO UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL INFORMATION (DOLLARS IN THOUSANDS EXCEPT PER SHARE DATA) BASIS OF PRESENTATION The accompanying unaudited pro forma consolidated financial information is derived from and should be read in conjunction with the historical consolidated financial statements and the related notes thereto of Elcotel and TSG appearing elsewhere in this Joint Proxy Statement-Prospectus or incorporated by reference herein. The unaudited pro forma consolidated balance sheet was prepared as if the Merger and the Lucent Acquisition had been consummated on June 30, 1997. The unaudited pro forma consolidated statements of operations for the year ended March 31, 1997 and three months ended June 30, 1997 were prepared as if the Merger and the Lucent Acquisition had been consummated on April 1, 1996. The unaudited pro forma consolidated financial information has been prepared assuming the Merger and the Lucent Acquisition are accounted for using the purchase method of accounting. Accordingly, the accompanying unaudited pro forma consolidated balance sheet assumes that (1) the Merger consideration, consisting of (i) the fair value of securities to be issued by Elcotel to effect the Merger, (ii) the fair value of outstanding common stock, options and warrants of TSG to be converted into Elcotel securities and (iii) the estimated direct costs and expenses to be incurred by Elcotel in connection with the transaction (collectively, the "merger consideration" or the "purchase price"), is allocated to the assets and liabilities of TSG based on their estimated fair values and (2) the aggregate purchase price related to the Lucent Acquisition is allocated to the assets acquired based on their estimated fair values. The unaudited pro forma consolidated financial information reflects pro forma adjustments that are directly attributable to the Merger and the Lucent Acquisition and the use of the purchase method of accounting. The accompanying unaudited pro forma consolidated statements of operations do not reflect anticipated cost reductions or revenue enhancements expected to be realized from the Merger or the anticipated revenues, gross profit and operating expenses from the Lucent Acquisition. Accordingly, the unaudited pro forma consolidated statements of operations for the year ended March 31, 1997 and three months ended June 30, 1997 are not necessarily indicative of the consolidated results of operations as they might have been had the Merger and Lucent Acquisition actually occurred on the dates indicated, nor are they necessarily indicative of future results. MERGER CONSIDERATION The Merger consideration has been estimated based on the terms of the Merger Agreement and assuming the Merger had been consummated on June 30, 1997. The estimated merger consideration is summarized as follows: Issuance of 4,936,848 shares of Elcotel Common Stock at a market price of $6.50 per share in exchange for 4,701,760 issued and outstanding shares of TSG Common Stock (based on an exchange ratio of 1.05 to 1)..................................................... $ 32,090 Fair value of outstanding common stock warrants, options and purchase rights of TSG............................................ 2,535 Estimated costs and expenses of the Merger......................... 855 -------- Total merger consideration....................................... $ 35,480 ========
The average closing market price of Elcotel Common Stock for a period of four days before and after the terms of the Merger were announced to the public of $6.50 per share has been used to determine the fair value of the shares of Elcotel Common Stock to be issued by Elcotel in connection with the Merger. 97 At June 30, 1997, there were outstanding warrants to purchase 575,000 shares of TSG Common Stock at an exercise price of $11 per share (the "Public Warrants"), warrants to purchase 100,000 shares of TSG Common Stock at a price of $10.80 per share (the "Underwriter Warrants") and options and rights to purchase an aggregate of 587,341 shares of TSG Common Stock at exercise prices ranging from $1.00 per share to $10.812 per share under TSG's 1994 Omnibus Stock Plan (the "Stock Plan"), 1995 Non-Employee Director Stock Option Plan (the "Director Plan") and 1995 Employee Stock Purchase Plan (the "Employee Plan"). Under the terms of the Merger Agreement, Elcotel has agreed to convert into Elcotel securities outstanding warrants, options and rights to purchase TSG Common Stock, subject to adjustment pursuant to the terms of the Merger Agreement. Accordingly, the estimated fair value of outstanding common stock warrants, options and rights to purchase TSG Common Stock is included as a component of the merger consideration. The following table summarizes the number and exercise prices of stock options and purchase rights outstanding under the Stock Plan, Director Plan and Employee Plan at June 30, 1997, and as adjusted after giving effect to the Merger, and their estimated fair values:
NUMBER OF NUMBER OF OPTIONS EXERCISE OPTIONS OUTSTANDING EXERCISE PRICE FAIR OUTSTANDING (AS ADJUSTED) PRICE (AS ADJUSTED) VALUE ----------- ------------- -------- ------------- ------ 337,125 353,981 $ 1.00 $ .95 $1,813 83,000 87,150 5.00 4.76 252 3,000 3,150 5.25 5.00 9 30,000 31,500 8.50 8.10 54 117,625 123,506 9.50 9.05 55 4,250 4,463 10.781 10.27 5 6,000 6,300 10.812 10.30 8 6,341 6,658 6.03 5.74 6 ------- ------- ------ 587,341 616,708 $2,202 ======= ======= ======
The following table summarizes the number and exercise prices of common stock purchase warrants outstanding at June 30, 1997, and as adjusted after giving effect to the Merger, and their estimated fair values:
NUMBER OF NUMBER OF WARRANTS EXERCISE WARRANTS OUTSTANDING EXERCISE PRICE FAIR OUTSTANDING (AS ADJUSTED) PRICE (AS ADJUSTED) VALUE ----------- ------------- -------- ------------- ----- 575,000 603,750 $ 11.00 $10.48 $162 100,000 105,000 10.80 10.29 171 ------- ------- ---- 675,000 708,750 $333 ======= ======= ====
98 The estimated fair value of the Public Warrants has been determined based on the closing market price of the securities on June 30, 1997. The estimated fair value of the Underwriter Warrants and outstanding common stock options and purchase rights of TSG has been determined using the Black-Scholes option pricing model. The significant weighted-average assumptions used to estimate the fair value of the Underwriter Warrants and common stock options and purchase rights of TSG outstanding at June 30, 1997 are summarized below: Underwriter Warrants: Expected volatility.............................................. 54.4% Expected life.................................................... 3 years Risk-free interest rate.......................................... 6.25% Expected dividend yield.......................................... None Stock Plan: Expected volatility.............................................. 54.4% Expected life.................................................... 2.5 years Risk-free interest rate.......................................... 6.25% Expected dividend yield.......................................... None Employee Plan: Expected volatility.............................................. 54.4% Expected life.................................................... 1/2 year Risk-free interest rate.......................................... 5.34% Expected dividend yield.......................................... None Director Plan: Expected volatility.............................................. 54.4% Expected life.................................................... 2 years Risk-free interest rate.......................................... 6.08% Expected dividend yield.......................................... None
The estimated direct costs and expenses to be incurred by Elcotel in connection with the Merger and included as a component of the merger consideration are estimated as follows: Investment banking fees............................................... $ 525 Fairness opinion...................................................... 107 Legal fees............................................................ 65 Accounting and valuation fees......................................... 42 Printing expenses..................................................... 50 Other................................................................. 66 ----- Total............................................................... $ 855 =====
Under the terms of an agreement dated April 1, 1997, Elcotel retained Cameron Associates ("Cameron") to provide investment banking services and render financial and business advice to Elcotel with respect to a strategic business combination. Elcotel agreed to pay Cameron an aggregate fee of $325, including expenses, upon consummation of a transaction. The fee is payable either in cash or in shares of Elcotel Common Stock. Elcotel intends to issue 50,000 shares of its Common Stock upon consummation of the Merger in satisfaction of the obligation in accordance with the terms of the agreement. Under the terms of an agreement dated July 17, 1997, TSG retained Wexford Management, an affiliate of TSG's majority stockholder, Wexford, to provide assistance and render financial and business advice to TSG in connection with the Merger. TSG agreed to pay Wexford Management an aggregate fee of $200, including expenses, upon consummation of the Merger or other transaction involving the sale or exchange of all or substantially all of TSG's common stock. The fee is payable in cash or, at the option of Elcotel, in shares of Elcotel Common Stock. Elcotel intends to issue 30,769 shares of Elcotel Common Stock upon consummation of the Merger in satisfaction of its obligations under the terms of the agreement. 99 LUCENT ACQUISITION PURCHASE PRICE On September 30, 1997, Elcotel acquired from Lucent certain assets related to Lucent's payphone manufacturing and component parts business. The purchase price, including Elcotel's estimated acquisition expenses of $150, was $6,040, subject to adjustment based on the difference between the book value of inventories determined pursuant to the acquisition agreement and $3,849. Assets acquired from Lucent included inventories, machinery, equipment, tooling and certain other assets related to the payphone manufacturing and component parts business conducted by Lucent, as well as a license of certain patent and other intellectual property rights related thereto. Elcotel borrowed an aggregate of $6,850 under the terms of bank promissory notes to finance the Lucent Acquisition, including acquisition expenses, debt issuance expenses of $57 and other general corporate activities, including acquisition of equipment. These notes consisted of an installment note in the principal amount of $3,050 payable in eighty four equal monthly installments of $37, a term note in the principal amount of $2,850 due March 31, 1998 and a term note in the principal amount of $950 due March 31, 1998. The notes are collateralized by the assets of Elcotel and bear interest at the Libor rate plus 2.25 percentage points (7.9% upon issuance). Proceeds from notes from Elcotel's bank were used to finance the purchase price, including expenses, and the debt issuance expenses related to the Lucent Acquisition, which aggregated $6,094. See "Unaudited Pro Forma Balance Sheet Adjustments Related to the Lucent Acquisition." UNAUDITED PRO FORMA CONSOLIDATED BALANCE SHEET ADJUSTMENTS RELATED TO THE MERGER Elcotel has estimated the adjustments to the historical accounts of TSG required to allocate the Merger consideration to the assets and liabilities of TSG based on their estimated fair values. The allocations are subject to final determinations based on independent appraisals and other evaluations of fair value as of the date of consummation of the Merger. Therefore, the allocations reflected in the accompanying unaudited consolidated financial information may differ from the amounts ultimately determined. Unless otherwise indicated, differences between the amounts included herein and the final allocations are not expected to have a material effect on the unaudited pro forma consolidated financial information. A summary of the allocation of the Merger consideration to the assets and liabilities of TSG as of June 30, 1997 based on Elcotel's estimates of their fair value is set forth below. Cash and temporary investments...................................... $ 100 Accounts and notes receivable....................................... 3,162 Inventories......................................................... 6,742 Refundable income taxes............................................. 301 Deferred tax asset, current......................................... 2,596 Prepaid expenses and other current assets........................... 113 Property, plant and equipment....................................... 840 Intangible assets................................................... 7,294 Other assets........................................................ 38 Bank overdraft...................................................... (324) Accounts payable and accrued expenses............................... (3,465) Borrowings under lines of credit.................................... (2,400) Deferred tax liability, non-current................................. (1,772) ------- Net assets acquired................................................. 13,225 Excess of purchase price over net assets acquired................... 22,255 ------- Total merger consideration.......................................... $35,480 =======
100 Upon consummation of the Merger, Elcotel intends to discontinue certain products manufactured and marketed by TSG and outsource the assembly of printed circuit boards assembled by TSG. The allocation of merger consideration to the estimated fair value of inventories has been decreased by $3,238 to reflect the estimated net realizable value of inventories related to products to be discontinued and inventories of components related to printed circuit board assembly operations. The fair value of TSG's net assets will vary as of the consummation date of the Merger based on changes in TSG's financial position between June 30, 1997 and consummation of the Merger. Identifiable intangible assets are comprised of TSG's trade names at an estimated fair value of $2,869, assembled workforce at an estimated fair value of $1,372, product software at an estimated fair value of $611, patented technology at an estimated fair value of $419 and customer contracts at an estimated fair value of $2,023. At June 30, 1997, TSG had net operating loss carryforwards of $11,098 available to reduce future taxable income, which expire from 1998 to 2010. However, the utilization of these net operating loss carryforwards is subject to an annual limitation of approximately $210 as a result of a previous change in ownership of TSG. Accordingly, it is more likely than not that the future tax benefits of net operating loss carryforwards of approximately $2,909 will not be realized, and a corresponding valuation allowance has been provided in the purchase price allocation. The fair value of accrued liabilities includes estimated expenses of $200 to be incurred by TSG in connection with the Merger. In addition, the fair value of accrued liabilities includes the estimated costs to terminate the employment of certain employees of TSG and to relocate certain employees and property of TSG. These costs have been estimated based on Elcotel's preliminary integration and consolidation plan. Employee termination costs reflecting the estimated cost of severance and salary continuation arrangements and related employee benefits have been estimated at $195. The costs of relocating employees and property of TSG have been estimated at $390. Adjustments to the Unaudited Pro Forma Consolidated Balance Sheet consist of adjustments to the historical basis of the assets and liabilities of TSG to arrive at their estimated fair values and other adjustments directly related to the Merger. Pro forma adjustments to the historical basis of the assets and liabilities of TSG to arrive at their estimated fair values based on the purchase allocation are set forth in the following table. (A) PURCHASE ALLOCATION PRO FORMA ADJUSTMENTS Inventories....................................................... $(3,039) Deferred tax asset, current....................................... 2,246 Property, plant and equipment..................................... 116 Deferred tax asset, non-current................................... (799) Intangible assets, including goodwill............................. 25,550 Deferred tax liability, non-current............................... 973 Pro forma adjustments to the Unaudited Pro Forma Consolidated Balance Sheet accounts directly related to the Merger are set forth in the following table. (B) ACCOUNTS PAYABLE AND ACCRUED EXPENSES Estimated severance and relocation expenses....................... $ 585 Estimated Merger expenses of Elcotel.............................. 330 Estimated Merger expenses of TSG.................................. 200 Estimated expenses to register shares of common stock to be issued in the Merger.................................................... 270 ------- $ 1,385 =======
101 (C) COMMON STOCK Issuance of 4,936,848 shares of Elcotel Common Stock to effect the Merger................................................................ $ 49 Issuance of 80,769 shares of common stock to Cameron and Wexford....... 1 Elimination of common stock of TSG..................................... (47) ---- $ 3 ====
(D) CAPITAL IN EXCESS OF PAR VALUE Issuance of 4,936,848 shares of Elcotel Common Stock to effect the Merger............................................................ $ 32,041 Fair value of outstanding common stock warrants, options and purchase rights of TSG............................................ 2,535 Issuance of 80,769 shares of Elcotel Common Stock to Cameron and Wexford........................................................... 524 Estimated expenses to register shares of Elcotel Common Stock to be issued in the Merger.............................................. (270) Elimination of additional paid in capital of TSG................... (11,963) -------- $ 22,867 ========
(E) RETAINED EARNINGS Estimated Merger expenses of TSG..................................... $ (200) Elimination of pro forma retained earnings of TSG.................... (960) ------- $(1,160) =======
(F) CUMULATIVE TRANSLATION ADJUSTMENT Elimination of cumulative translation adjustment of TSG................... $ 6 ===
UNAUDITED PRO FORMA BALANCE SHEET ADJUSTMENTS RELATED TO THE LUCENT ACQUISITION Elcotel has estimated the allocation of the Lucent Acquisition purchase price to the assets acquired based on their estimated fair values. The purchase price is subject to final determination based on the final valuation of inventories acquired. Unless otherwise indicated, differences between the amounts included herein and the final allocation are not expected to have a material effect on the unaudited pro forma consolidated financial information. A summary of the allocation of the purchase price to the assets acquired as of June 30, 1997 based on Elcotel's estimates of their fair value is set forth below. (G) PURCHASE ALLOCATION PRO FORMA ADJUSTMENTS Inventories............................................................ $3,999 Equipment and tooling.................................................. 500 Intangible assets...................................................... 1,541 ------ Total purchase price................................................... $6,040 ======
The pro forma adjustments to the Unaudited Pro Forma Consolidated Balance Sheet to reflect the bank indebtedness incurred to finance the Lucent Acquisition are as follows: (H) OTHER ASSETS Deferred debt issuance costs (portion related to the acquisition)......... $54 ===
102 (I) NOTES PAYABLE AND BORROWINGS UNDER CREDIT LINES Portion of term notes used to finance the acquisition, including debt issuance costs........................................................ $3,044 ======
(J) CURRENT PORTION OF LONG-TERM DEBT Installment note due in eighty-four equal monthly installments of $37.. $436 ====
(K) LONG-TERM DEBT Installment note due in eighty-four equal monthly installments of $37................................................................... $2,614 ======
UNAUDITED PRO FORMA CONSOLIDATED STATEMENTS OF OPERATIONS ADJUSTMENTS RELATED TO THE MERGER Adjustments to the Unaudited Pro Forma Consolidated Statements of Operations related to the Merger are as follows:
THREE YEAR MONTHS ENDED ENDED MARCH 31, JUNE 30, 1997 1997 (L) COST OF GOODS SOLD --------- -------- Increase (decrease) in depreciation resulting from an increase in the basis of property, plant and equipment and their estimated useful lives.............................. $ (36) $ 25 ====== ===== (M) GENERAL AND ADMINISTRATIVE EXPENSES Amortization of the excess of the purchase price over net assets acquired (goodwill) resulting from the transaction............................................... $ 636 $ 159 Amortization of identifiable intangible assets resulting from the transaction...................................... 850 213 Elimination of amortization of intangible assets recorded in the historical financial statements of TSG............. (168) (40) Elimination of amortization of goodwill recorded in the historical financial statements of TSG.................... (109) (27) Elimination of rent expense related to closure of TSG's facilities................................................ -- (38) Additional compensation related to employment contracts that are to be entered into upon consummation of the Merger.................................................... 22 6 ------ ----- $1,231 $ 273 ====== ===== (N) INCOME TAX (EXPENSE) BENEFIT Increase (decrease) in income tax expense resulting from allocation to deferred tax assets......................... $ (6) 53 Increase (decrease) in income tax expense to reflect the pro forma effect on income tax expense resulting from the Merger.................................................... (317) (78) ------ ----- $ (323) $ (25) ====== =====
103 The fair value of intangible assets included in the allocation of the Merger consideration will be amortized over their estimated useful lives as follows: Goodwill.......................................................... 35 years Trade names....................................................... 35 years Assembled workforce............................................... 35 years Product software.................................................. 5 years Patented technology............................................... 4.5 years Customer contracts................................................ 3.94 years
The pro forma effective tax rate exceeds federal and state statutory tax rates primarily as a result of non-deductible goodwill amortization expense arising from the Merger. UNAUDITED PRO FORMA CONSOLIDATED STATEMENTS OF OPERATIONS ADJUSTMENTS RELATED TO THE LUCENT ACQUISITION Adjustments to the Unaudited Pro Forma Consolidated Statements of Operations related to the Lucent Acquisition are as follows:
THREE YEAR MONTHS ENDED ENDED MARCH 31, JUNE 30, 1997 1997 --------- -------- (O) COST OF GOODS SOLD Depreciation expense...................................... $ 100 $ 25 ===== ===== (P) GENERAL AND ADMINISTRATIVE EXPENSES Amortization of identifiable intangible assets resulting from the transaction..................................... $ 261 $ 65 ===== ===== (Q) INTEREST EXPENSE Interest expense on acquisition indebtedness.............. $ 467 $ 120 Amortization of deferred debt issuance expenses........... 23 1 ----- ----- $ 490 $ 121 ===== ===== (R) INCOME TAX BENEFIT Decrease in income tax expense to reflect the pro forma effect on income tax expense resulting from the acquisition.............................................. $ 298 $ 74 ===== =====
The fair value of intangible assets included in the allocation of the total consideration will be amortized over their useful lives as follows: Customer relationships and other ................................... 15 years Non-compete agreement............................................... 2 years Favorable licensing agreement....................................... 5 years
UNAUDITED PRO FORMA INCOME PER COMMON AND COMMON EQUIVALENT SHARE Pro forma unaudited income per common and common equivalent share for the year ended March 31, 1997 and three months ended June 30, 1997 is computed on the basis of the weighted average number of common and dilutive common equivalent shares outstanding during the period and assuming the issuance of 4,936,848 shares of Elcotel Common Stock to effect the Merger, the assumption and adjustment of outstanding common stock options and warrants of TSG, and the issuance of shares of Elcotel Common Stock to Wexford Management and Cameron occurred on April 1, 1996. The weighted average number of dilutive common equivalent shares outstanding during the period has been computed based on the treasury stock method in accordance with Accounting Principles Board Opinion No. 15, Earnings Per Share. 104 PRELIMINARY INTEGRATION AND CONSOLIDATION PLAN Elcotel intends to integrate and consolidate certain operations of TSG and Lucent into those of Elcotel, including relocation of certain manufacturing and assembly operations. The planned restructuring of the combined entity is intended to result in significant cost and expense reductions, lower manufacturing costs and improved gross profit margins. The planned restructuring is also intended to result in the establishment of organizational resources capable of absorbing the anticipated growth in the business in the foreseeable future. Consequently, Elcotel believes, but cannot assure, that its post-restructuring operating results will adequately absorb the ongoing financial impact of the Merger and the Lucent Acquisition, which consist primarily of non-cash charges related to amortization of goodwill and intangible assets and additional interest expense related to the Lucent Acquisition as presented in the accompanying unaudited pro forma consolidated financial information. FINANCING PLAN Concurrently with consummation of the Merger, Elcotel intends to secure a new credit arrangement to refinance existing credit lines of TSG and Elcotel and to finance working capital requirements of the combined entity. Although Elcotel believes that it will be able to secure an acceptable financing agreement, there is no assurance that its efforts will be successful. DESCRIPTION OF ELCOTEL CAPITAL STOCK The statements set forth under this heading with respect to the Delaware Law, Elcotel's Certificate of Incorporation (the "Elcotel Charter") and Elcotel's Bylaws are brief summaries thereof and do not purport to be complete. Such statements are subject to the detailed provisions of Delaware Law, the Elcotel Charter and the Elcotel Bylaws. See "Available Information." Under the Elcotel Charter, Elcotel's authorized capital stock consists of 20,000,000 shares of Elcotel Common Stock. Elcotel has proposed to increase the number of authorized shares of Elcotel Common Stock to 30,000,000 pursuant to the Elcotel Amendment. See "Additional Proposal No. 2." COMMON STOCK Dividends and Liquidation Rights. The holders of Elcotel Common Stock are entitled to receive and share equally in such dividends as may be declared by the Elcotel Board out of funds legally available therefor. In the event of the liquidation of Elcotel, holders of Elcotel Common Stock are entitled to share pro rata in the distribution of Elcotel's assets for such purpose. Voting Rights. The holders of Elcotel Common Stock elect the Elcotel Board and act on such other matters as are required to be presented to them under Delaware Law, the Elcotel Charter or as are otherwise presented to them by the Elcotel Board. Each holder of Elcotel Common Stock is entitled to one vote per share. Holders of Elcotel Common Stock are not entitled to cumulate votes in the election of directors. The directors of Elcotel are elected each year at the Elcotel Annual Meeting. Directors of Elcotel are elected by a plurality of votes cast. Preemptive Rights. Holders of Elcotel Common Stock are not entitled to preemptive, subscription, redemption or conversion rights with respect to any shares that may be issued. The outstanding shares of Elcotel Common Stock are, and the shares of Elcotel Common Stock issued pursuant to the Merger will be, duly authorized, validly issued, fully paid and nonassessable. CHANGE OF CONTROL Section 203 of Delaware Law prohibits generally a public Delaware corporation, including Elcotel, from engaging in a Business Combination (as defined below) with an Interested Stockholder (as defined below) for a 105 period of three years after the date of the transaction in which an Interested Stockholder became such, unless: (i) the board of directors of such corporation approved, prior to the date such Interested Stockholder became such, either such Business Combination or such transaction; (ii) upon consummation of such transaction, such Interested Stockholder owns at least 85% of the voting shares of such corporation (excluding specified shares); or (iii) such Business Combination is approved by the board of directors of such corporation and authorized by the affirmative vote (at an annual or special meeting and not by written consent) of at least 66 2/3% of the outstanding voting shares of such corporation (excluding shares held by such Interested Stockholder). A "Business Combination" includes (i) mergers, consolidations and sales or other dispositions of 10% or more of the assets of a corporation to or with an Interested Stockholder, (ii) certain transactions resulting in the issuance or transfer to an Interested Stockholder of any stock of such corporation or its subsidiaries and (iii) certain other transactions resulting in a financial benefit to an Interested Stockholder. An "Interested Stockholder" is a person who, together with its affiliates and associates, owns (or within a three-year period did own) 15% or more of a corporation's stock entitled to vote generally in the election of directors. COMPARISON OF STOCKHOLDER RIGHTS Upon consummation of the Merger, the stockholders of TSG will become stockholders of Elcotel. Since both Elcotel and TSG are incorporated under the laws of the State of Delaware, the rights and privileges of stockholders of Elcotel and TSG, respectively, which rights and privileges are governed by the Delaware Law, are substantially identical, except to the extent that their respective Certificates of Incorporation ("Charters") and Bylaws differ. The provisions in the Elcotel Charter relating to the lack of preemptive, subscription or redemption rights are substantially similar to the provisions in the TSG Charter. See "Description of Elcotel Capital Stock--Common Stock." In addition, as Delaware corporations, both Elcotel and TSG are subject to the provisions of Section 203 of the Delaware Law. See "Description of Elcotel Capital Stock--Change of Control." Although it is not practical to compare all the differences among the Elcotel Charter and Bylaws and the TSG Charter and Bylaws, the following is a summary of certain material differences that may significantly affect the rights of TSG stockholders. This summary is qualified in its entirety by reference to the full text of such documents. The Elcotel Charter and Bylaws and the TSG Charter and Bylaws are incorporated by reference in this Joint Proxy Statement-Prospectus. The TSG Charter permits the issuance of preferred stock, par value $100 per share. The Elcotel Charter does not provide for the issuance of preferred stock. Therefore, the Elcotel Board will not be able to issue shares of preferred stock that will have rights superior to Elcotel Common Stock without stockholder approval. For a general description of Elcotel's capitalization, see "The Merger Agreement--Capitalization of Elcotel." For a general description of TSG's capitalization, see "The Merger Agreement--Capitalization of TSG." Under Delaware Law, special meetings of stockholders may be called by the Board of Directors and by such other person or persons authorized to do so by the corporation's certificate of incorporation or bylaws. Both the Elcotel Bylaws and the TSG Bylaws limit the ability to call special meetings to directors, so that stockholders may not call a special meeting. Elcotel's Bylaws are more restrictive because the TSG Board can call a special meeting upon the vote of a majority of directors present, while the Elcotel Board can do so only upon the vote of a majority of all directors. 106 ADDITIONAL MATTERS SUBMITTED TO THE VOTE OF ELCOTEL'S STOCKHOLDERS ADDITIONAL PROPOSAL NO. 1: ELECTION OF DIRECTORS In accordance with Elcotel's Bylaws, a board of seven directors will be elected to serve until the next annual meeting of stockholders of Elcotel or until successors to the directors have been elected and have qualified. All directors are elected annually. It is the intention of the persons named in the proxy, unless otherwise directed, to vote all proxies in favor of the election to the Elcotel Board for the nominees listed below, all of whom are presently directors of Elcotel. The Elcotel Board has no reason to believe that any of the nominees will be unable or unwilling to be a candidate for election at the time of the Elcotel Annual Meeting. If any nominee of Elcotel is unable or declines to serve as a director at the time of the Elcotel Annual Meeting, the proxies will be voted for any nominee designated by the present Elcotel Board to fill the vacancy. Notwithstanding the election of directors of Elcotel at the Elcotel Annual Meeting, if the Merger is approved by the stockholders of Elcotel and TSG and is consummated, the number of directors comprising the entire board of directors of Elcotel will be increased to nine and the directors immediately after the Effective Time will include the Elcotel director nominees named below, other than Mr. Wiltse and Mr. Suplee who will retire as directors of Elcotel, and four individuals, three of whom are currently directors of TSG-- David Steadman, Mark Plaumann and Vincent Bisceglia--being appointed by the remaining Elcotel Directors. See "The Merger Agreement--Appointment of Directors." The Elcotel Board has unanimously recommended a slate of nominees for election as directors at the Elcotel Annual Meeting. The names of the nominees for directors of Elcotel, their ages and certain other information is set forth as follows:
NAME AGE POSITION ---- --- -------- C. Shelton James.......... 58 Chief Executive Officer and Chairman of the Board Tracey L. Gray............ 65 President, Chief Operating Officer and Director Dwight Jasmann............ 61 Director Charles H. Moore.......... 68 Director Thomas E. Patton.......... 56 Director T. Raymond Suplee......... 50 Director Thomas R. Wiltse.......... 73 Director
Mr. James has served as Chief Executive Officer of Elcotel since May 1991 and has been a director of Elcotel since December 1990. Mr. James is currently an investor in and business advisor to a number of companies. While he has devoted a substantial amount of time to Elcotel since May 1991, he has also served as Executive Vice President of Fundamental Management Corporation, an investment management company, since April 1990, and was appointed President of that company in April 1993. He is a member of the boards of Cyberguard Corporation, Concurrent Computer Corporation, NAI Technologies, Fundamental Management Corporation, CSPI and SK Technologies, Inc. From 1980 to 1989, Mr. James was Executive Vice President of Gould, Inc., a diversified electronics company, and President of Gould's Computer Systems Division. Mr. Gray has served as President and Chief Operating Officer of Elcotel since July 1991 and has been a director of Elcotel since August 1991. From June 1986 until joining Elcotel, Mr. Gray had been a Vice President of the Government Systems Division, Network Systems Division and Federal Systems Division, respectively, of Sprint in Washington, D.C. Prior to that, Mr. Gray served in numerous assignments with AT&T in corporate staff functions and retired as Vice President, Government Systems in 1985. He served as Chief Executive Officer and a member of the board of Access Engineering Corporation from 1985 to 1986. Mr. Gray has served in various positions with industry professional associations. 107 Mr. Jasmann has been a director of Elcotel since December 1993. Since August 1996, Mr. Jasmann has been President and General Manager for COMSAT International Ventures in Bethesda, Maryland, a business unit of COMSAT Corporation that manages telecommunications companies in thirteen overseas markets serving the needs of national and multinational operators for digital network solutions. From January 1995 to July 1996, Mr. Jasmann was Vice President of Human Resources for AirTouch Communications in San Francisco, a domestic and international operator of wireless services. From August 1992 to December 1994, he was an international telecommunications advisor for various U.S. and foreign telecommunications operators including COMSAT Corporation and Fax International, Inc. From February 1959 to May 1992, Mr. Jasmann held various positions with AT&T, most recently as President and Managing Director of AT&T Communications Pacific based in Hong Kong. He previously served on the boards of the Pacific Telecommunications Council in Hawaii, the Information Communication Institute of Singapore, and Philcom, a Philippines telephone company. He currently serves as chairman of the board of COMSAT Argentina and as a director of both COMSAT Max in India and COMSAT Brazil. Mr. Moore has been a director of Elcotel since December 1993. Mr. Moore has been Director of Athletics for Cornell University since November 1994. From November 1992 to October 1994, Mr. Moore was Vice Chairman of Advisory Capital Partners, Inc., an investment advisory firm. From July 1988 to October 1992, Mr. Moore served as President and Chief Executive Officer of Ransburg Corporation, a producer of industrial coating systems and equipment, and from August 1991 to October 1992 as Executive Vice President of Illinois Tool Works, Inc., a multinational manufacturer of highly engineered components and systems. Mr. Moore is currently a director of The Turner Corporation and is Chairman of the Audit Committee of the United States Olympic Committee. Mr. Patton has been a director of Elcotel since July 1989. Mr. Patton has been a partner in the Washington, D.C. law firm of Tighe, Patton, Tabackman & Babbin, engaged in civil and criminal business litigation, securities law enforcement matters, corporate finance and corporate compliance, since August 1994. From 1979 until July 1994, Mr. Patton was a partner in the Washington, D.C. law office of Schnader, Harrison, Segal & Lewis, engaged in civil and criminal securities litigation and general business litigation. Mr. Patton also serves on the board of directors of Information Exchange, Inc., a financial services marketing database company. Mr. Suplee has been a director of Elcotel since September 1986. Since 1982, Mr. Suplee has been the Senior Partner and President of Suplee & Shea, P.A., a certified public accounting firm located in Sarasota, Florida. Mr. Suplee is currently a director of First of America Bank (Florida) and serves on its audit committee, and is also a director of Plymouth Harbor adult retirement facility. He formerly was a director of Presidential Bank. Mr. Suplee serves as a discussion leader for the Florida Institute of Certified Public Accountants. Mr. Wiltse has been a director of Elcotel since July 1990. Since 1985, Mr. Wiltse has been active as a private investor. For more than thirty years, until his retirement in 1985, Mr. Wiltse served in a variety of managerial and executive capacities with General Motors Corporation's worldwide foundry operations. Directors' Compensation Directors who are not employees of Elcotel receive an annual retainer fee of $5,000 per year plus $1,500 for each Board meeting attended, and $500 for each committee meeting attended. Directors are also reimbursed for expenses in attending Board and Board committee meetings. During the fiscal year ended March 31, 1997, options were granted to Elcotel's non-employee directors (Messrs. Jasmann, Moore, Patton, Suplee and Wiltse), pursuant to Elcotel's Directors' Stock Option Plan, in the amount of 2,000 shares, 3,000 shares, 2,000 shares, 4,000 shares and 6,000 shares, respectively, at $6.3125 per share. These options are fully exercisable commencing on March 31, 1998 and expire on March 31, 2002. 108 Elcotel's Board of Directors and Committees Meetings The Elcotel Board held four meetings during the fiscal year ended March 31, 1997. Each of the then-serving directors attended or participated in at least 75% of the aggregate of all meetings of the Elcotel Board and all committees of which he was a member during the fiscal year ended March 31, 1997. Elcotel has a Compensation and Stock Option Committee, presently composed of Messrs. Jasmann, Moore, Suplee and Wiltse. The Compensation and Stock Option Committee is authorized to administer and grant options pursuant to Elcotel's 1991 Stock Option Plan. The Compensation and Stock Option Committee held three meetings during the fiscal year ended March 31, 1997, which were attended by all of the then-serving committee members. Elcotel has an Audit Committee composed of Messrs. Moore, Patton, Suplee and Wiltse, which recommends the independent public accountants for appointment by the Elcotel Board and reviews reports submitted by the accountants. The Audit Committee held two meetings during the fiscal year ended March 31, 1997, which were attended by all of the then-serving Audit Committee members. Elcotel has a Nominating Committee composed of Messrs. Moore, Patton, Suplee and Wiltse which recommends a slate of directors for election at the annual meeting of stockholders. The Nominating Committee held no meetings during the fiscal year ended March 31, 1997. Elcotel has a Management Committee composed of Messrs. James, Gray, Jasmann and Wiltse which works with management to facilitate the establishment and review of the strategic direction of Elcotel. The Management Committee held one meeting during the fiscal year ended March 31, 1997, which were attended by all of the then-serving Management Committee members. Elcotel's Bylaws provide that the stockholders of Elcotel may make nominations for election to Elcotel's Board if such nominations are in writing and delivered to the Secretary of Elcotel not less than 135 days before the day and month of the previous year's annual meeting. Thus, nominations for election to the Elcotel Board at the 1998 Annual Meeting must be delivered to the Secretary by July 23, 1998. The stockholder making the nomination must provide information about the persons nominated that is required to be disclosed in a proxy statement for solicitation of proxies with respect to nominees for election as directors pursuant to the regulations under the 1934 Act. Only those persons nominated by the Elcotel Board and by stockholders of Elcotel as described above will be voted upon at the annual meeting of stockholders of Elcotel. ADDITIONAL PROPOSAL NO. 2: AMENDMENT TO CERTIFICATE OF INCORPORATION The Elcotel Amendment At the meeting of the Elcotel Board on September 22, 1997, the Elcotel Board approved an amendment to the Certificate of Incorporation of Elcotel that would increase the authorized shares of Elcotel Common Stock from 20,000,000 shares to 30,000,000 shares. At the Elcotel Annual Meeting, the stockholders of Elcotel will be asked to consider and vote upon a proposal to approve and adopt the following resolution with respect to such amendment to the Certificate of Incorporation of Elcotel: RESOLVED, that Article FOURTH of the Certificate of Incorporation of this Corporation is hereby amended to read in its entirety as follows: "FOURTH--The amount of total authorized capital stock of this corporation is 30,000,000 shares of Common Stock, par value $.01 per share." Reasons for the Elcotel Amendment The number of shares of Elcotel Common Stock issued and reserved for issuance immediately following the Merger will be approximately 15.5 million shares. The Elcotel Board believes that it is desirable for Elcotel 109 to have additional authorized but unissued shares of Elcotel Common Stock so as to provide flexibility to act promptly with respect to acquisitions, public and private financings, stock dividends and other appropriate purposes. Approval of the increase now will eliminate the delays and expense that otherwise would be incurred if stockholder approval were required to increase the authorized number of shares of Elcotel Common Stock for possible future transactions involving the issuance of additional shares. Effect of the Elcotel Amendment Additional shares of Elcotel Common Stock authorized pursuant to the Elcotel Amendment may be issued, subject to certain exceptions, by the Elcotel Board at such times, in such amounts and upon such terms as the Elcotel Board may determine, without further approval of the stockholders of Elcotel. Any such issuance could reduce the current stockholders' proportionate interests in Elcotel, depending on the number of shares issued and the purpose, terms and conditions of the issuance. Elcotel stockholders have no preemptive rights to subscribe to additional shares when issued. Required Vote The affirmative vote of a majority of the outstanding shares of Elcotel Common Stock is required to approve and adopt the Elcotel Amendment. THE ELCOTEL BOARD UNANIMOUSLY RECOMMENDS THAT THE STOCKHOLDERS OF ELCOTEL VOTE FOR THE APPROVAL AND ADOPTION OF THE ELCOTEL AMENDMENT. ADDITIONAL PROPOSAL NO. 3: RATIFICATION OF APPOINTMENT OF INDEPENDENT PUBLIC ACCOUNTANTS The Board of Directors has appointed Elcotel's present independent public accountants, Deloitte & Touche llp, for the fiscal year ending March 31, 1998. This appointment will be submitted to the stockholders of Elcotel for ratification at the Elcotel Annual Meeting. The submission of the appointment of Deloitte & Touche llp for ratification by the stockholders of Elcotel is not required by law or by the Bylaws of Elcotel. The Elcotel Board is nevertheless submitting it to its stockholders to ascertain their views. If the stockholders do not ratify the appointment, the selection of other independent public accountants will be considered by the Elcotel Board. Representatives of Deloitte & Touche llp are expected to be present at the Meeting to respond to appropriate questions and will have the opportunity to make a statement if they so desire. THE ELCOTEL BOARD UNANIMOUSLY RECOMMENDS THAT THE STOCKHOLDERS OF ELCOTEL VOTE FOR THE RATIFICATION OF THE APPOINTMENT OF DELOITTE & TOUCHE LLP. ADDITIONAL PROPOSAL NO. 4: AMENDMENT TO 1991 STOCK OPTION PLAN The 1991 Stock Option Plan was adopted by the Elcotel Board on July 2, 1991 and approved by the stockholders of Elcotel on October 2, 1991. A total of 1,600,000 shares of Elcotel Common Stock are currently reserved for issuance under the 1991 Stock Option Plan, as amended (the "1991 Plan"). The 1991 Plan provides for the grant to employees of Elcotel of incentive stock options within the meaning of Section 422 of the Code and nonqualified stock options. In recognition of Elcotel's need to attract and retain qualified employees in a highly competitive environment and in view of the larger number of key employees that would be eligible for the grant of options under the 1991 Plan following consummation of the Merger, the Elcotel Board has approved an amendment to the 1991 Plan, subject to stockholder approval, to increase the number of shares of Elcotel Common Stock reserved for issuance pursuant to the 1991 Plan by 500,000 shares. The stockholders of Elcotel are being requested to approve an increase in the number of shares reserved for issuance under the 1991 Plan by 500,000 shares, from 1,600,000 currently authorized shares to 2,100,000 shares. 110 The essential features of the 1991 Plan are as follows: General. At September 30, 1997, 682,066 shares of Elcotel Common Stock had been issued upon exercise of options granted under the 1991 Plan, options to purchase 548,838 shares of Elcotel Common Stock were outstanding under the 1991 Plan and 369,096 shares of Elcotel Common Stock remained available for future grant under the 1991 Plan. Purpose. The purpose of the 1991 Plan is to enable Elcotel to obtain and retain the services of key employees and to provide them with increased motivation and incentive to exert their best efforts on behalf of Elcotel by enlarging their personal stake in its success. Administration. The 1991 Plan is administered by the Compensation and Stock Option Committee of the Elcotel Board (the "Committee") composed of at least two directors of Elcotel. The Committee has authority, subject to the terms of the 1991 Plan, to determine the persons to whom options will be granted, whether the options will be incentive stock options or nonqualified stock options, the number of shares subject to each option, and the terms and provisions of each option. Any power granted to the Committee can be exercised by the Elcotel Board and any determination by the Committee is subject to review and approval or modification by the Elcotel Board. Eligibility. Officers and key employees of Elcotel and its subsidiaries are eligible to receive options. Elcotel estimates that as of September 30, 1997, there were approximately 48 officers and other key employees of Elcotel who were eligible to receive options under the 1991 Plan. Grant. Subject to certain antidilution provisions for stock dividends, stock splits or other subdivisions or reclassifications of Elcotel Common Stock, options may be granted under the 1991 Plan to purchase not more than 1,600,000 shares of Elcotel Common Stock, which limit would be increased to 2,100,000 shares pursuant to the proposed amendment. If any option expires or terminates without being fully exercised and before the 1991 Plan terminates, the unpurchased shares subject thereto are again available for purposes of the 1991 Plan. Change in Control. If any proposed transaction may constitute in a change in control of Elcotel, the Committee, with the approval of the majority of the members of the Board who are not then holding options, may accelerate the exercise periods of any options in connection with such transaction. Nontransferability. Options are not transferable by the optionee except by will or the laws of descent and distribution. During the lifetime of the optionee, options are exercisable only by the optionee or to the extent such exercise would not prevent an option from qualifying as an incentive stock option, by his or her guardian or legal representative. Duration and Termination of Options. The maximum term of an option granted under the 1991 Plan is five years, and an option may be exercised at any time during its term unless the Committee fixes a specific vesting period or periods for exercise of any option. The Committee typically grants options which become exercisable 25 percent each year beginning on the first anniversary of the date of grant. An optionee's rights under any option terminate upon the termination of employment for any reason other than death, disability or retirement, except that the Committee may permit exercise of such option for a period ending on the earlier of the expiration date of the option and a date thirty days after the termination of employment as to the total number of shares purchasable under the option as of the date of termination. The 1991 Plan provides that in the event of termination of an optionee's employment by reason of the optionee's death, retirement or disability, any outstanding option held by such optionee will immediately become exercisable as to the total number of shares purchasable thereunder and will remain so exercisable at any time prior to its expiration date or, if earlier, the first anniversary of termination of the optionee's employment. Exercise Price. The exercise price per share of Elcotel Common Stock deliverable upon the exercise of an option is determined by the Committee at the time of grant. However, the exercise price per share under an option 111 may not be less than the greater of 100% (110% in the case of incentive stock options granted to optionees who own more than ten percent of the voting power of Elcotel) of the fair market value per share on the date the option is granted and $0.75. On October 15, 1997, the closing price of Elcotel Common Stock as reported on the Nasdaq National Market was $8.125. The exercise price may be paid in cash or by certified or cashier's check or, to the extent permitted by the Committee, in shares of Elcotel Common Stock. Plan Duration and Amendment. The 1991 Plan will continue in effect until July 2, 2001, unless earlier suspended or discontinued. The 1991 Plan may be modified, terminated or amended at any time by the Elcotel Board except that, without stockholder approval, the Board may not increase the number of shares of Elcotel Common Stock which may be issued under the 1991 Plan or modify the requirements as to eligibility for participation. The modification, amendment or termination of the 1991 Plan will not affect the rights of an optionee under any option previously granted to the optionee unless the optionee consents thereto. Certain Federal Income Tax Considerations. The following is a brief summary of the federal income tax consequences of transactions under the 1991 Plan. This summary is not intended to be exhaustive and does not discuss the tax consequences of a participant's death or provisions of the income tax laws of any municipality, state or foreign country in which an optionee may reside. As stated above, the 1991 Plan permits the grant both of options that qualify as incentive stock options under Section 422 of the Code and of nonqualified options. Options which qualify as incentive stock options are entitled to special tax treatment if shares purchased pursuant to the exercise of such an option are not disposed of by the optionee within two years from the date of granting of the incentive stock option and within one year after the issue of the shares to the optionee upon exercise of the incentive stock option. If this condition is satisfied neither the grant nor the exercise of incentive stock options will result in taxable income to the recipient or in a deduction to Elcotel. If cash is used to exercise, the optionee receives a tax basis in the stock purchased under an incentive stock option equal to the option price. The optionee realizes, upon subsequent sale or other disposition of stock purchased pursuant to an incentive stock option, mid- or long-term capital gain (or loss) equal to the excess (or deficiency) of the amount realized upon disposition over such tax basis. For purposes of the alternative minimum tax, however, the tax treatment of an incentive stock option is similar to the tax treatment of a nonqualified stock option described below. An optionee who transfers shares purchased under an incentive stock option within the one- or two-year holding period, subject to certain exceptions, will realize, in the year of such disposition, (a) ordinary income equal to the excess of (i) the fair market value of the shares on the date of exercise over (ii) the option price and (b) capital gain equal to the excess, if any, of the amount realized upon disposition over the fair market value of the shares on the date of exercise. If the amount realized on disposition is less than the fair market value of the shares on the date of exercise and the disposition occurs in a sale or exchange with respect to which a loss (if sustained) would be recognized, then the ordinary income realized by the optionee will, in most cases, be limited to the excess of the amount realized over the option price. Upon such a disposition, Elcotel will be entitled to deduct an amount equal to the ordinary income realized by the optionee. If an incentive stock option is exercised and the optionee uses previously owned shares of Elcotel Common Stock to pay the option price, the optionee's tax basis will carry over to an equal number of shares purchased. The remaining Elcotel Common Stock received upon exercise of the option will receive a zero tax basis. The optionee will realize no gain or loss as a result of the disposition of the previously-owned shares, provided, if the shares were purchased under an incentive stock option, the holding period requirement was satisfied. The grant of nonqualified stock options will not result in any taxable income to the recipient or in a deduction by Elcotel. However, upon exercise of a nonqualified option, the optionee will realize ordinary income equal to the excess of the fair market value of the shares on the date of exercise over the purchase price, and Elcotel will be entitled to a deduction equal to the amount the employee is required to treat as ordinary income. If cash is used to exercise the option, the optionee will receive a tax basis in stock purchased under a nonqualified option equal to its fair market value at the time of exercise. On subsequent disposition of the shares, the optionee will realize capital gain (or loss) equal to the excess (or deficiency) of the amount realized over such tax basis. The gain or loss will be long-, mid- or short- term depending on the optionee's holding period for the shares. 112 If a nonqualified option is exercised and the optionee uses previously-owned shares of Elcotel Common Stock to pay the purchase price, the optionee will realize ordinary income as described above, but will realize no gain or loss as a result of the disposition of the previously-owned shares, provided, if the shares were purchased under an incentive stock option, the holding period requirement was satisfied. The optionee's tax basis will carry over to an equal number of shares purchased. The remaining shares of Elcotel Common Stock will take a tax basis equal to their fair market value. 1991 Plan Benefits. Elcotel cannot now determine the number of options to be granted in the future under the 1991 Plan to the Named Executive Officers, all current officers as a group or all employees (including current officers who are not executive officers) as a group. See "Elcotel Executive Compensation-- Stock Option Grants--Stock Option Exercises and Holdings" for the number of stock options granted to the Named Executive Officers in the fiscal year ended March 31, 1997. In the fiscal year ended March 31, 1997, options to purchase 90,000 shares of Elcotel Common Stock were granted to all current executive officers as a group, and options to purchase 97,000 shares of Elcotel Common Stock were granted to all employees (including current officers who are not executive officers). However, pursuant to the employment agreement between Elcotel and Vincent Bisceglia to become effective upon consummation of the Merger, Mr. Bisceglia, who would become an Executive Vice President and Chief Operating Officer of Elcotel, will be entitled to receive an option to purchase 50,000 shares of Elcotel Common Stock pursuant to the 1991 Plan. It is also expected that other officers of TSG who become officers of Elcotel after the Merger will be granted options to purchase Elcotel Common Stock pursuant to the 1991 Plan, in amounts to be determined by the Committee. Required Vote. The affirmative vote of the holders of a majority of the outstanding shares of Elcotel Common Stock present in person or by proxy will be required to approve this amendment to the 1991 Plan. THE ELCOTEL BOARD UNANIMOUSLY RECOMMENDS THAT THE STOCKHOLDERS OF ELCOTEL VOTE "FOR" THE APPROVAL AND ADOPTION OF THE AMENDMENT TO THE 1991 PLAN. ADDITIONAL PROPOSAL NO. 5: AMENDMENTS TO DIRECTORS STOCK OPTION PLAN The Directors Stock Option Plan was adopted by the Elcotel Board on July 2, 1991 and was approved by the stockholders of Elcotel on October 2, 1991. A total of 175,000 shares of Elcotel Common Stock are currently reserved for issuance under the Directors Stock Option Plan, as amended (the "Directors Plan"). The Directors Plan is a formula plan which provides for the automatic and nondiscretionary grant of a specified number of options to directors of Elcotel who are not employees of Elcotel. Those grants occur at the end of each fiscal year of Elcotel to then current non-employee directors based upon the number of Elcotel Board committees on which such director then serves and the number of committee chairperson positions then held. The purpose of the Directors Plan is to enhance Elcotel's ability to obtain and retain the services of outside directors and to secure the benefits arising from those directors having or increasing their equity stake in Elcotel. In view of the three new non-employee directors that would join the Elcotel Board upon consummation of the Merger (resulting in a total of six non-employee directors) and the additional options that would be granted to those new directors upon such election, the Elcotel Board approved an amendment to the Directors Plan, subject to stockholder approval, to increase the number of shares of Elcotel Common Stock reserved for issuance pursuant to the Directors Plan by 50,000 shares so that Elcotel would continue to have sufficient shares available to grant stock options pursuant to the Directors Plan. In addition, the Elcotel Board approved an amendment to the Directors Plan, subject to stockholder approval, to eliminate the stockholder approval requirement for changes in the Directors Plan that materially increase the benefits accruing to participants under the Directors Plan. However, stockholder approval would still be required for increasing the number of shares issuable or changing the eligibility requirements for participation. The Board included this change in the amendment to the Directors Plan in order to afford more flexibility in adapting the Directors Plan as necessary to best carry out its purposes of increasing the stake of participants in Elcotel's continued success and progress and attracting and retaining outside directors. 113 The stockholders of Elcotel are being requested to approve an increase in the number of shares reserved for issuance under the Directors Plan by 50,000 shares, from 175,000 shares to 225,000 shares. The essential features of the Directors Plan are as follows: General. At September 30, 1997, 37,000 shares of Elcotel Common Stock had been issued upon exercise of options granted under the Directors Plan, options to purchase 100,000 shares of Elcotel Common Stock were outstanding under the Directors Plan and 38,000 shares of Elcotel Common Stock remained available for future grant under the Directors Plan. Purpose. The Directors Plan is intended to secure for Elcotel and its stockholders the benefits arising from share ownership by directors and the incentives created when directors acquire or increase their equity interest in Elcotel and to enhance Elcotel's ability to obtain and retain the services of non-employee directors. Administration. The Directors Plan is administered by the Compensation and Stock Option Committee of the Elcotel Board (the "Committee") composed of at least two directors of Elcotel. The Committee has authority, subject to the terms of the Directors Plan, to interpret the provisions of the Directors Plan, to construe the terms of the options granted thereunder and to prescribe, amend and rescind rules relating to the Directors Plan. Eligibility. Members of the Elcotel Board who are not employees of Elcotel are eligible to receive options under the Directors Plan. Grant. Each new eligible director receives a one-time grant of an option to purchase 4,000 shares of Elcotel Common Stock. On the last business day of each fiscal year of Elcotel, each non-employee director receives an option to purchase 1,000 shares of Elcotel Common Stock for each committee on which such director is then serving and an option to purchase 1,000 shares of Elcotel Common Stock for each committee on which such director is then serving as chairperson. Subject to certain antidilution provisions for stock dividends, stock splits or other subdivisions or reclassifications of Elcotel Common Stock, options may be granted under the Directors Plan to purchase not more than 175,000 shares of Elcotel Common Stock in the aggregate, which limit would be increased to 225,000 shares pursuant to the proposed amendment. If any option expires or terminates without being fully exercised and before the Directors Plan terminates, the unpurchased shares subject thereto are again available for purposes of the Directors Plan. Change in Control. If any proposed transaction may constitute a change in control of Elcotel, the Committee, with the approval of the majority of the members of the Board who are not then holding options, may accelerate the exercise periods of any options in connection with such transaction. Nontransferability. Options are not transferable by the optionee except by will or the laws of descent and distribution. During the lifetime of the optionee, options are exercisable only by the optionee or by his or her guardian or legal representative. Duration and Termination of Options. The maximum term of an option granted under the Directors Plan is five years, and an option may be exercised at any time during its term unless the Committee fixes a specific vesting period or periods for exercise of any option. If a grantee's status as director terminates for any reason other than death, disability or retirement, each option held by the director under the Directors Plan will, if not already exercisable before that time, become immediately exercisable and in any event remain exercisable until the earlier of its expiration date and the first anniversary of termination of the grantee's status as director. If the grantee's status as director terminates for any reason other than death, disability or retirement, each option held by the director under the Directors Plan will remain exercisable until the earlier of its expiration date and 30 days after termination of director status. Exercise Price. The exercise price per share of Elcotel Common Stock deliverable upon the exercise of an option is the greater of $2.00 or 100% of the fair market value per share on the date the option is granted. On 114 October 15, 1997, the closing price of Elcotel Common Stock as reported on the Nasdaq National Market was $8.125. The exercise price may be paid in cash or by certified or cashier's check or, to the extent permitted by the Committee, in shares of Elcotel Common Stock. Plan Duration and Amendment. The Directors Plan will continue in effect until July 2, 2001, unless earlier suspended or discontinued. The Directors Plan may be modified, terminated or amended at any time by the Elcotel Board except that, without stockholder approval, the Board may not materially increase the benefits to optionees (which provision would be deleted pursuant to the proposed amendment), increase the number of shares which may be issued under the Directors Plan or modify the requirements as to eligibility for participation. The modification, amendment or termination of the Directors Plan will not affect the rights of an optionee under any option previously granted to the optionee unless the optionee consents thereto. Certain Federal Income Tax Considerations. The following is a brief summary of the federal income tax consequences of transactions under the Directors Plan. This summary is not intended to be exhaustive and does not discuss the tax consequences of a participant's death or provisions of the income tax laws of any municipality, state or foreign country in which an optionee may reside. The Directors Plan permits the grant only of nonqualified options. The grant of nonqualified stock options will not result in any taxable income to the recipient or in a deduction by Elcotel. However, upon exercise of a nonqualified option, the optionee will realize ordinary income equal to the excess of the fair market value of the shares on the date of exercise over the purchase price, and Elcotel will be entitled to a deduction equal to the amount the employee is required to treat as ordinary income. If cash is used to exercise the option, the optionee will receive a tax basis in stock purchased under a nonqualified option equal to its fair market value at the time of exercise. On subsequent disposition of the shares, the optionee will realize capital gain (or loss) equal to the excess (or deficiency) of the amount realized over such tax basis. The gain or loss will be long-, mid- or short-term depending on the optionee's holding period for the shares. If a nonqualified option is exercised and the optionee uses previously-owned shares of Elcotel Common Stock to pay the purchase price, the optionee will realize ordinary income as described above, but will realize no gain or loss as a result of the disposition of the previously-owned shares. The optionee's tax basis will carry over to an equal number of shares purchased. The remaining shares of Elcotel Common Stock will take a tax basis equal to their fair market value. Directors Plan Benefits. Elcotel cannot now determine the number of options to be granted in the future under the Directors Plan to all current directors who are not executive officers as a group, to each nominee for election as a director or to each associate of such directors or nominees. In the fiscal year ended March 31, 1997, options to purchase 17,000 shares of Elcotel Common Stock were granted to all current directors who were not executive officers as a group. See "Additional Matters Submitted to the Vote of Elcotel's Stockholders--Additional Proposal No. 1: Election of Directors--Directors' Compensation." Required Vote. The affirmative vote of the holders of a majority of the outstanding shares of Elcotel Common Stock present in person or by proxy will be required to approve the amendments to the Directors Plan. THE ELCOTEL BOARD UNANIMOUSLY RECOMMENDS THAT THE STOCKHOLDERS OF ELCOTEL VOTE "FOR" THE APPROVAL AND ADOPTION OF THE AMENDMENTS TO THE DIRECTORS PLAN. 115 OTHER INFORMATION REGARDING ELCOTEL DIRECTORS AND OFFICERS In addition to those directors listed above who are executive officers of Elcotel in the positions indicated, the following persons are also executive officers of Elcotel:
NAME AGE POSITION ---- --- -------- Ronald M. Tobin......................... 54 Vice President, Finance, Chief Financial Officer, Secretary and Treasurer Hugh H. Durden.......................... 49 Vice President, Domestic Sales Eduardo Gandarilla...................... 48 Vice President, International Sales and Marketing Kenneth W. Noack........................ 60 Vice President, Operations Henry W. Swanson........................ 61 Vice President, Engineering and Development
Mr. Tobin has served as Vice President, Chief Financial Officer, Secretary and Treasurer of Elcotel since July 1992. Prior to joining Elcotel, he held various financial positions with SmithKline Beecham Corporation in Philadelphia since September 1970, and most recently had been Corporate Controller of SmithKline Beecham Clinical Laboratories in King of Prussia, Pennsylvania since February 1982. Mr. Durden rejoined Elcotel in June 1991 as Vice President of Domestic Sales after having previously served as district sales manager for Elcotel from March 1987 until August 1989. From August 1989 until rejoining Elcotel, Mr. Durden founded and served as Chief Executive Officer and President of two privately-held telecommunications companies. From November 1984 until February 1987, Mr. Durden was President of Communications Central, Inc., a privately- held operator of payphones. Mr. Gandarilla has served as Vice President of International Sales and Marketing of Elcotel since October 1996, having joined Elcotel in April 1996. From June 1995 until April 1996, he was an international marketing consultant for Compression Laboratories, Inc., a company which manufactures video conferencing equipment. From July 1993 until June 1995, Mr. Gandarilla was managing director of the business communication systems division of AT&T, based in Mexico. From 1990 until July 1993, he was managing director for Gestetner, a distributor of office equipment, also located in Mexico. His previous employment included managerial positions with various computer system companies located in Latin America and Paris. Mr. Noack has served as Vice President of Operations of Elcotel since January 1993, having joined Elcotel in July 1992 as Director of Operations. Prior to joining Elcotel he was with AT&T Paradyne Corporation in Largo, Florida since 1973, and most recently was Vice President and Director of Operations Planning and Materials. Mr. Swanson has served as Vice President of Engineering and Development of Elcotel since December 1996. Prior to joining Elcotel, he was a consultant for Texas Microsystems, Inc., a computer hardware manufacturer, since March 1996. From April 1994 until November 1995, Mr. Swanson was Vice President of Engineering for Arrowsmith Technologies, a computer systems developer. From 1989 until April 1994 he was director of PC Systems Development for Dell Computer Corporation, also in Austin. His previous employment included engineering management positions with several computer hardware and software companies. 116 SECTION 16 COMPLIANCE Based solely upon a review of certain reports required to be filed by Elcotel's current or former directors and officers and beneficial owners of more than 10 percent of the outstanding Elcotel Common Stock pursuant to Section 16(a) of the 1934 Act, the following person failed to file, on a timely basis, reports so required to be filed during the fiscal year ended March 31, 1997.
NUMBER OF TRANSACTIONS NOT NUMBER OF REPORTED ON A NAME TITLE LATE REPORTS TIMELY BASIS ---- ----- ------------ ---------------- Tracey L. Gray.......... President, Chief Operating Officer and Director 1 1
117 SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The following table sets forth, at October 6, 1997, the number and percentage of shares of Elcotel Common Stock which, according to information supplied to Elcotel, are beneficially owned by: (i) each person who is the beneficial owner of more than 5% of the Elcotel Common Stock; (ii) each of the directors and Named Executive Officers of Elcotel individually; and (iii) all current directors and executive officers of Elcotel as a group. Under rules adopted by the Commission, a person is deemed to be a beneficial owner of Elcotel Common Stock with respect to which he has or shares voting power (which includes the power to vote or to direct the voting of the security), or investment power (which includes the power to dispose of, or to direct the disposition of, the security). A person is also deemed to be the beneficial owner of shares with respect to which he could obtain voting or investment power within 60 days of October 6, 1997, such as upon the exercise of options or warrants.
NAME AND ADDRESS NUMBER OF SHARES(1) PERCENTAGE ---------------- ------------------- ---------- C. Shelton James............................... 1,561,093(2) 19.0% 6428 Parkland Drive Sarasota, Florida 34243 Fundamental Management Corporation............. 1,439,223 17.5% 4000 Hollywood Boulevard Suite 610N Hollywood, Florida 33021 Alvaro R. Quiros............................... 473,477(3) 5.8% 6428 Parkland Drive Sarasota, Florida 34243 Thomas R. Wiltse............................... 406,000(4) 4.9% 6428 Parkland Drive Sarasota, Florida 34243 Tracey L. Gray................................. 150,284(5) 1.8% 6428 Parkland Drive Sarasota, Florida 34243 T. Raymond Suplee.............................. 32,300(6) 0.4% 6428 Parkland Drive Sarasota, Florida 34243 Thomas E. Patton............................... 11,000(7) 0.1% 6428 Parkland Drive Sarasota, Florida 34243 Dwight Jasmann................................. 9,890(8) 0.1% 6428 Parkland Drive Sarasota, Florida 34243 Charles H. Moore............................... 14,100(9) 0.2% 6428 Parkland Drive Sarasota, Florida 34243 Ronald M. Tobin................................ 47,732(10) 0.6% 6428 Parkland Drive Sarasota, Florida 34243 Eduardo Gandarilla............................. 12,500(11) 0.2% 6428 Parkland Drive Sarasota, Florida 34243 Hugh H. Durden................................. 11,875(12) 0.1% 6428 Parkland Drive Sarasota, Florida 34243 All directors and executive officers as a group 2,308,961(13) 27.5% (12 persons)..................................
118 - -------- (1) Unless otherwise indicated, each stockholder has sole voting and investment power with respect to all listed shares. (2) Includes 1,439,223 shares held by Fundamental Management Corporation, as to which shares Mr. James disclaims beneficial ownership, and 6,250 shares which may be issued upon exercise of stock options within 60 days. (3) Includes 17,000 shares which may be issued upon the exercise of stock options within 60 days. (4) Includes 30,000 shares which may be issued upon the exercise of stock options within 60 days. (5) Includes 21,250 shares which may be issued upon the exercise of stock options within 60 days. (6) Includes 7,000 shares held by a revocable trust in which Mr. Suplee has a pecuniary interest and of which he is a co-trustee. Includes 23,000 shares which may be issued upon exercise of stock options within 60 days. (7) Includes 500 shares held jointly with Mr. Patton's wife. Includes 10,000 shares which may be issued upon the exercise of stock options within 60 days. (8) Includes 7,000 shares which may be issued upon the exercise of stock options within 60 days. (9) Includes 75 shares held by Mr. Moore's wife and 25 shares held by Mr. Moore's daughter. Includes 13,000 shares which may be issued upon the exercise of stock options within 60 days. (10) Includes 150 shares held by Mr. Tobin's son. Includes 2,250 shares which may be issued upon the exercise of stock options within 60 days. (11) Includes 12,500 shares which may be issued upon the exercise of stock options within 60 days. (12) Includes 11,875 shares which may be issued upon the exercise of stock options within 60 days. (13) Includes a total of 1,439,223 shares held by Fundamental Management Corporation and shares held by family members as to which shares the respective officers and directors disclaim beneficial ownership. Also includes 172,312 shares which may be issued upon exercise of stock options within 60 days. 119 ELCOTEL EXECUTIVE COMPENSATION SUMMARY COMPENSATION TABLE The following table sets forth certain information covering the compensation paid or accrued by Elcotel during the fiscal years indicated to its Chief Executive Officer and to each of its four most highly compensated executive officers, other than the Chief Executive Officer, whose salary and bonus exceeded $100,000 during the fiscal year ended March 31, 1997 and who were serving as executive officers as of March 31, 1997 and to one additional executive officer who would have so qualified if he had been an executive officer on March 31, 1997 ("Named Executive Officers"):
LONG TERM COMPENSATION ANNUAL COMPENSATION AWARDS --------------------------------- ------------ (A) (B) (C) (D) (E) (G) (I) OTHER NUMBER OF FISCAL YEAR ANNUAL SECURITIES NAME AND ENDED COMPENSATION UNDERLYING ALL OTHER PRINCIPAL POSITION MARCH 31, SALARY ($) BONUS ($) ($) OPTIONS(1) COMPENSATION ($) ------------------ ----------- ---------- --------- ------------ ------------ ---------------- C. Shelton James........ 1997 $ 83,338 $33,930 0 $2,030(2) Chairman of the Board 1996 78,654 0 25,000 1,838(2) and Chief Executive Officer 1995 73,004 35,450 40,000 1,555(2) Tracey L. Gray.......... 1997 148,928 60,450 0 3,656(2) President and Chief 1996 138,039 0 25,000 3,463(2) Operating Officer 1995 127,461 60,450 40,000 2,738(2) Ronald M. Tobin......... 1997 100,063 17,640 0 2,182(2) Vice President 1996 92,846 0 9,000 2,146(2) Chief Financial Officer 1995 85,318 14,805 12,000 1,651(2) Secretary and Treasurer Alvaro R. Quiros (3).... 1997 123,160 0 0 3,253(2) Executive Vice President 1996 104,000 0 7,000 2,761(2) 1995 102,295 0 10,000 2,404(2) Hugh H. Durden.......... 1997 148,452 9,525 0 2,869(2) Vice President 1996 184,876 0 7,500 3,173(2) 1995 201,859 8,100 10,000 3,369(2) Eduardo Gandarilla (4).. 1997 162,123 12,000 $44,617(5) 50,000 1,761(2) Vice President 1996 0 0 0 1995 0 0 0
- -------- (1) Represents options granted under Elcotel's 1991 Stock Option Plan. No options were granted during the fiscal year ended March 31, 1997, except for Mr. Gandarilla who received options upon joining Elcotel. (2) Includes taxable portion of Elcotel paid Group Term Life Insurance and Elcotel's matching contribution to the 401(k) savings plan (see Note P to Elcotel's financial statements). Such Group Term Life Insurance for Messrs. James, Gray, Tobin, Quiros, Durden and Gandarilla, respectively, for Fiscal 1997 is $450, $702, $288, $702, $174 and $174 for Fiscal 1996 is $450, $702, $288, $702 and $174 and for Fiscal 1995 is $450, $702, $288, $702 and $174. 401(k) savings plan matching contributions for Messrs. James, Gray, Tobin, Quiros, Durden and Gandarilla, respectively, for Fiscal 1997 are $1,580, $2,954, $1,894, $2,551, $2,695 and $1,588, Fiscal 1996 are $1,388, $2,761, $1,858, $2,059 and $2,999 and for Fiscal 1995 are $1,105, $2,036, $1,363, $1,702 and $3,195. (3) Mr. Quiros retired effective December 31, 1996. Elcotel continued to pay Mr. Quiros' regular salary through June 30, 1997. $25,846 of his 1997 salary was paid to him pursuant to such arrangement during the quarter ended March 31, 1997. (4) Mr. Gandarilla joined Elcotel on April 1, 1996 and was appointed Vice President on October 15, 1996. (5) $39,217 of this amount represents reimbursement of relocation expenses to Mr. Gandarilla during the fiscal year ended March 31, 1997. 120 STOCK OPTION GRANTS The following table sets forth the number of securities underlying options, the exercise price and the expiration date for stock options granted to the Chief Executive Officer and the Named Executive Officers who received options during the fiscal year ended March 31, 1997. OPTION GRANTS IN LAST FISCAL YEAR
POTENTIAL REALIZABLE VALUE AT ASSUMED ANNUAL RATES OF STOCK PRICE APPRECIATION FOR INDIVIDUAL GRANTS OPTION TERM -------------------- ---------------------- (A) (B) (C) (D) (E) (F) (G) % OF TOTAL OPTIONS OPTIONS GRANTED TO EXERCISE OR GRANTED EMPLOYEES IN BASE PRICE EXPIRATION NAME (#) (1) FISCAL YEAR ($/SH) DATE 5% ($) 10% ($) ---- ------- ------------ ----------- ---------- ---------- ----------- Eduardo Gandarilla...... 50,000 51.6% $5.2500 4/01/01 $ 72,524 $ 160,259
- -------- (1) Options granted upon joining Elcotel which become exercisable one fourth each year, cumulatively, beginning on April 1,1997, and expire on April 1, 2001. No other options were granted during the fiscal year ended March 31, 1997 to the Named Executive Officers. STOCK OPTION EXERCISES AND HOLDINGS The following table sets forth the number of exercisable and unexercisable options as of March 31, 1997 and the value of such options for the named executive officers. AGGREGATED OPTION EXERCISE IN LAST FISCAL YEAR AND FISCAL YEAR END OPTIONS VALUE TABLE
(A) (B) (C) (D) (E) NUMBER OF SECURITIES VALUE OF UNDERLYING UNEXERCISED IN- UNEXERCISED THE-MONEY OPTIONS AT OPTIONS AT FY-END (#) FY-END ($) SHARES ACQUIRED EXERCISABLE/ EXERCISABLE/ NAME ON EXERCISE (#) VALUE REALIZED ($) UNEXERCISABLE UNEXERCISABLE ---- --------------- ------------------ ------------- --------------- C. Shelton James........ 74,227 $372,542 6,250/43,750 $ 781/$81,105 Tracey L. Gray.......... 35,000 $183,163 6,250/43,750 $ 781/$81,105 Ronald M. Tobin......... -- -- 10,550/14,750 $27,511/$26,723 Alvaro R. Quiros........ -- -- 17,000/0 $ 29,000/$0 Hugh H. Durden.......... -- -- 6,875/13,125 $18,521/$26,021 Eduardo Gandarilla...... -- -- 0/50,000 $ 0/$53,125
SEVERANCE ARRANGEMENTS In connection with hiring Mr. Gandarilla, Elcotel agreed to provide Mr. Gandarilla with one year of salary and benefits in the event of early discharge due to performance reasons. Elcotel has agreed with Ronald M. Tobin, currently Chief Financial Officer of Elcotel, that if, during the first year after the effective date of the Merger, Mr. Tobin's employment is terminated or he resigns for any reason, he will receive severance pay consisting of one year of salary continuation and benefits and his outstanding stock options will vest and remain exercisable for one year after termination. In addition, Mr. Tobin will receive severance pay consisting of one year of salary continuation and benefits and his outstanding stock options will vest and remain exercisable for one year after termination if Mr. Tobin's employment is terminated for any reason other than cause after the one year anniversary of the effective date of the Merger. 121 ELCOTEL COMPENSATION AND STOCK OPTION COMMITTEE REPORT ON EXECUTIVE COMPENSATION This report, prepared by Elcotel's Compensation and Stock Option Committee (the "Compensation Committee"), reflects executive compensation policy and philosophy applicable to fiscal year 1997. All members of the Compensation Committee are non-employee directors. Elcotel's executive compensation plans have been structured to attract, retain and incentivize talented executives capable of executing the strategies and plans essential to a fast growth, technology-based company in the traditional and emerging competitive telecommunications markets. The policies and plans are designed to ensure individual executives receive compensation in direct relationship to their contribution to key corporate financial and strategic goals that are focused on short-term and long-term business success while increasing shareholder values. The plans are designed to be equitable and to recognize the balance between short-term operating performance and stock performance. For fiscal year 1997, the Compensation Committee adopted an incentive compensation bonus plan for the senior executive officers: C. Shelton James, CEO and Tracey L. Gray, President/COO, related to overall corporate financial performance. Discretionary bonuses up to 50% of base salary would be paid based on Elcotel's performance as measured against key financial factors, revenues, operating profits and increasing profitability. The Compensation Committee determined the appropriate level of bonus based on overall consideration of Elcotel's performance for the fiscal year. The Compensation Committee awarded a $33,930 bonus to Mr. James and a $60,450 bonus to Mr. Gray. For fiscal year 1997, the Compensation Committee adopted a discretionary incentive compensation bonus plan for corporate officers other than Mr. James and Mr. Gray. Maximum bonus levels of 20% to 25% of base salary would be paid based on Elcotel achieving operating performance goals established for revenues, gross margins, operating profits and personal objectives related to each officer's area of responsibility. Recommendations regarding the bonus payment to each officer were presented by Mr. Gray once final results were available. No bonus is payable under the plan unless Elcotel reports profits. All bonuses awarded under the plan are paid out in equal annual amounts over four years. The corporate performance goals and the personal objectives of each officer are approved at the beginning of each fiscal year following the fiscal year business plan approval. In October of 1996, the Compensation Committee authorized adjustments in all corporate officers' base compensation. This adjustment represented the first increase in officer base compensation since July of 1995. The adjustments represented a combination of annual salary review adjustments as well as structural adjustments to address industry and competitive issues faced by Elcotel as it attempts to attract a more talented and experienced executive team. The Compensation Committee was briefed on comparable officer compensation in the industry from a variety of salary survey reports and competitors' officer compensation structures and also considered data provided by Towers Perrin which had been commissioned by the Compensation Committee to advise on compensation issues. Mr. James and Mr. Gray's base compensation was adjusted from $80,000 to $87,000 and from $141,000 to $155,000, respectively, at the recommendation of the Compensation Committee effective October 1, 1996. The Compensation Committee recognizes the merits and value of stock ownership by Elcotel's executives as a basis for retention and aligning the executive's interests with the stockholders of Elcotel. The use of stock option grants has become a key element of the equity-based compensation plans designed to increase the equity interest of Elcotel's executives and combined with performance-based incentive compensation, ensures a balanced perspective focused on these two objectives. The Committee also recognizes that in times of general economic distress, it may not be economically practical to maintain total compensation, particularly for senior managers, within the targeted ranges. 122 To ensure executive compensation is appropriately aligned with performance and the financial interest of stockholders, and that senior managers share with those associates subject to layoff and shorter work weeks the financial impact of difficult economic conditions, it has been the practice of the Compensation Committee to recommend salary freezes or temporary salary reduction for senior managers during periods of general economic distress and poor corporate performance. Respectfully submitted, Thomas R. Wiltse, Chairman Dwight Jasmann Charles H. Moore T. Raymond Suplee 123 ELCOTEL STOCK PERFORMANCE CHART The following chart compares the yearly percentage change in cumulative total stockholder return on Elcotel Common Stock during the five years ended March 31, 1997, with the cumulative total return of (i) the Standard & Poors 500 Composite Index, (ii) the Standard & Poors Telephone Index and (iii) the Standard & Poors Technology Index. The comparison assumes $100 was invested on March 31, 1992 in Elcotel Common Stock and in each of the other indices and assumes reinvestment of dividends. Elcotel paid no dividends during the five year period. [LINE GRAPH APPEARS HERE]
3/31/92 3/31/93 3/31/94 3/31/95 3/31/96 3/31/97 ------- ------- ------- ------- ------- ------- Elcotel, Inc.................... $100 $338 $938 $1,015 $1,292 $1,538 S&P 500 Index................... 100 115 117 135 177 213 S&P Telephone Index............. 100 136 133 147 186 201 S&P Technology Index............ 100 147 189 243 334 493
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS OF ELCOTEL As of March 31, 1997, Elcotel was owed approximately $325,000 from Aditel, a Mexican corporation ("Aditel"), arising out of loans and sales of payphones to Aditel. This amount is represented by a promissory note which matures on September 30, 1997, payment of which is secured by a security interest in certain payphones and operating agreements of Aditel. Mr. Alvaro R. Quiros, a holder of approximately 6.3 percent of the outstanding Elcotel Common Stock as of June 9, 1997, is the owner of approximately 25 percent of the equity of Aditel. 124 LEGAL MATTERS The validity of the Elcotel Common Stock to be issued pursuant to the Merger will be passed upon for Elcotel by Schnader Harrison Segal & Lewis llp. It is a condition precedent to the obligations of TSG to consummate the Merger Agreement that TSG receive an opinion of Greenberg Traurig Hoffman Lipoff Rosen & Quentel to the effect that neither TSG nor any of its stockholders will recognize gain or loss for United States federal income tax purposes as a result of the Merger (other than in respect of any cash paid in lieu of fractional shares). EXPERTS The consolidated financial statements of Elcotel, Inc. and subsidiaries as of March 31, 1997 and 1996 and for each of the years in the three-year period ended March 31, 1997, incorporated by reference herein and in the Registration Statement, have been audited by Deloitte & Touche llp, independent auditors, as stated in their report, which is incorporated herein by reference, and have been so incorporated in reliance upon the report of such firm given upon their authority as experts in accounting and auditing. The consolidated financial statements of TSG and subsidiary as of March 28, 1997 and March 29, 1996 and for the years ended March 28, 1997 and March 29, 1996, five months ended March 31, 1995 and seven months ended October 30, 1994 included as Appendix C hereto and in the Registration Statement have been audited by Deloitte & Touche llp, independent auditors, as stated in their report and have been included in reliance upon the report of such firm given upon their authority as experts in accounting and auditing. STOCKHOLDER PROPOSALS Proposals by stockholders of Elcotel intended to be presented at the next annual meeting of stockholders of Elcotel must be received by Elcotel at its executive offices at 6428 Parkland Drive, Sarasota, Florida 34243, on or before May 9, 1998, to be included in Elcotel's proxy statement and form of proxy for the 1998 annual meeting. Proposals by stockholders of TSG intended to be presented at the annual meeting of stockholders of TSG, if the Merger is not consummated before such meeting is held, must be received by TSG at its executive offices at 20 Mansell Court East, Suite 200, Roswell, Georgia 30076, on or before May 1, 1998, to be included in TSG's proxy statement and form of proxy for the 1998 annual meeting. 125 Appendix A AGREEMENT AND PLAN OF MERGER dated as of August 13, 1997 Among ELCOTEL, INC., TECHNOLOGY SERVICE GROUP INC. and ELCOTEL HOSPITALITY SERVICE, INC. TABLE OF CONTENTS Page TABLE OF DEFINITIONS . . . . . . . . . . . . . . . . . . . . . . v ARTICLE I - THE MERGER . . . . . . . . . . . . . . . . . . . . . 2 Section 1.01 The Merger. . . . . . . . . . . . . . . . . . 2 Section 1.02 Conversion of Shares. . . . . . . . . . . . . 2 Section 1.03 Surrender and Payment. . . . . . . . . . . . 3 Section 1.04 Stock Option Plans. . . . . . . . . . . . . . 5 Section 1.05 TSG Warrants. . . . . . . . . . . . . . . . . 6 Section 1.06 Fractional Shares.. . . . . . . . . . . . . . 7 ARTICLE II - THE SURVIVING CORPORATION . . . . . . . . . . . . . 7 Section 2.01 Certificate of Incorporation. . . . . . . . . 7 Section 2.02 Bylaws. . . . . . . . . . . . . . . . . . . 7 Section 2.03 Directors and Officers. . . . . . . . . . . 8 ARTICLE III - REPRESENTATIONS AND WARRANTIES OF TSG. . . . . . . 8 Section 3.01 Organization and Power. . . . . . . . . . . 8 Section 3.02 Corporate Authorization. . . . . . . . . . . 8 Section 3.03 Governmental Authorization. . . . . . . . . 9 Section 3.04 Non-Contravention. . . . . . . . . . . . . . 9 Section 3.05 Capitalization of TSG. . . . . . . . . . . .10 Section 3.06 Capitalization of Subsidiaries. . . . . . .11 Section 3.07 SEC Filings. . . . . . . . . . . . . . . . .11 Section 3.08 Financial Statements. . . . . . . . . . . .11 Section 3.09 Information Supplied. . . . . . . . . . . .12 Section 3.10 Absence of Certain Changes. . . . . . . . .12 Section 3.11 No Undisclosed Liabilities. . . . . . . . .13 Section 3.12 Litigation. . . . . . . . . . . . . . . . .14 Section 3.13 Taxes. . . . . . . . . . . . . . . . . . . .14 Section 3.14 Employee Benefit Plans; ERISA. . . . . . . .16 Section 3.15 Certain Agreements; Compliance with Agreements. . . . . . . . . . . . .17 Section 3.16 Compliance with Laws and Orders. . . . . . .19 Section 3.17 Environmental Matters. . . . . . . . . . . .20 Section 3.18 Assets. . . . . . . . . . . . . . . . . . .21 Section 3.19 Intellectual Property Rights. . . . . . . .21 Section 3.20 Labor Matters. . . . . . . . . . . . . . . .22 Section 3.21 Transactions with Affiliates. . . . . . . .22 Section 3.22 Insurance. . . . . . . . . . . . . . . . . .22 Section 3.23 Takeover Statutes. . . . . . . . . . . . . .23 Section 3.24 Finders' Fees . . . . . . . . . . . . . . . .23 ARTICLE IV - REPRESENTATIONS AND WARRANTIES OF ELCOTEL . . . . .23 Section 4.01 Organization and Power. . . . . . . . . . .23 Section 4.02 Corporate Authorization. . . . . . . . . . .23 Section 4.03 Governmental Authorization. . . . . . . . .24 Section 4.04 Non-Contravention. . . . . . . . . . . . . .24 Section 4.05 Capitalization of Elcotel. . . . . . . . . .25 Section 4.06 Capitalization of Subsidiaries. . . . . . .25 Section 4.07 SEC Filings. . . . . . . . . . . . . . . . .26 Section 4.08 Financial Statements. . . . . . . . . . . .26 Section 4.09 Information Supplied. . . . . . . . . . . .27 Section 4.10 Absence of Certain Changes. . . . . . . . .27 Section 4.11 No Undisclosed Liabilities. . . . . . . . . .28 Section 4.12 Litigation. . . . . . . . . . . . . . . . .28 Section 4.13 Taxes. . . . . . . . . . . . . . . . . . . .29 Section 4.14 Employee Benefits; ERISA. . . . . . . . . .30 Section 4.15 Certain Agreements; Compliance with Agreements. . . . . . . . . . . . . . . .32 Section 4.16 Compliance with Laws and Orders. . . . . . .34 Section 4.17 Environmental Matters. . . . . . . . . . . .34 Section 4.18 Assets. . . . . . . . . . . . . . . . . . .34 Section 4.19 Intellectual Property Rights. . . . . . . . .35 Section 4.20 Labor Matters. . . . . . . . . . . . . . . .35 Section 4.21 Transactions with Affiliates. . . . . . . . .36 Section 4.22 Insurance. . . . . . . . . . . . . . . . . .36 Section 4.23 Takeover Statutes. . . . . . . . . . . . . .36 Section 4.24 Finders' Fees . . . . . . . . . . . . . . . .37 Section 4.25 Opinion of Financial Advisor. . . . . . . .37 ARTICLE V - COVENANTS. . . . . . . . . . . . . . . . . . . . . .37 Section 5.01 Conduct of TSG. . . . . . . . . . . . . . .37 Section 5.02 Conduct of Elcotel. . . . . . . . . . . . .39 Section 5.03 No Solicitation.. . . . . . . . . . . . . . .42 Section 5.04 Approval of Stockholders. . . . . . . . . .43 Section 5.05 Preparation of Form S-4 and Proxy Statement. 44 Section 5.06 Access to Information. . . . . . . . . . .44 Section 5.07 Notices of Certain Events. . . . . . . . . .45 Section 5.08 Regulatory and Other Approvals. . . . . . . .46 Section 5.09 Public Announcements. . . . . . . . . . . .46 Section 5.10 Further Assurances. . . . . . . . . . . . .46 Section 5.11 TSG Affiliates. . . . . . . . . . . . . . .47 Section 5.12 Obligations of Merger Subsidiary. . . . . .47 Section 5.13 Listing of Stock. . . . . . . . . . . . . . .47 Section 5.14 Antitakeover Statutes. . . . . . . . . . . .47 Section 5.15 Tax Treatment. . . . . . . . . . . . . . . .47 Section 5.16 Appointment of Directors. . . . . . . . . . .47 ARTICLE VI - GENERAL CONDITIONS PRECEDENT TO THE MERGER. . . . .48 Section 6.01 Stockholder Approval. . . . . . . . . . . .48 Section 6.02 HSR Act. . . . . . . . . . . . . . . . . . .48 Section 6.03 Registration Statement; State Securities Laws........................................48 Section 6.04 Listing. . . . . . . . . . . . . . . . . . .48 Section 6.05 Suits or Other Proceedings. . . . . . . . . .48 Section 6.06 Employment Agreements . . . . . . . . . . . .48 ARTICLE VII - CONDITIONS PRECEDENT TO THE OBLIGATIONS OF ELCOTEL AND MERGER SUBSIDIARY. . . . . . . . . . . . . . . .49 Section 7.01 Representations and Warranties. . . . . . . .49 Section 7.02 Performance of Obligations. . . . . . . . .49 Section 7.03 No Material Adverse Change. . . . . . . . .49 Section 7.04 Consents. . . . . . . . . . . . . . . . . .49 Section 7.05 Opinion of TSG Counsel. . . . . . . . . . .49 Section 7.06 Stockholders Agreement. . . . . . . . . . .49 Section 7.07 Proceedings. . . . . . . . . . . . . . . . .49 ARTICLE VIII - CONDITIONS PRECEDENT TO THE OBLIGATIONS OF TSG . . . . . . . . . . . . . . . . . . . . . . . . . . .50 Section 8.01 Representations and Warranties. . . . . . .50 Section 8.02 Performance of Obligations. . . . . . . . .50 Section 8.03 No Material Adverse Change. . . . . . . . .50 Section 8.04 Consents. . . . . . . . . . . . . . . . . .50 Section 8.05 Opinion of Elcotel Counsel. . . . . . . . .50 Section 8.06 Stockholders Agreement. . . . . . . . . . .51 Section 8.07 Proceedings. . . . . . . . . . . . . . . . .51 Section 8.08 Tax Opinion. . . . . . . . . . . . . . . . .51 ARTICLE IX - TERMINATION . . . . . . . . . . . . . . . . . . . .51 Section 9.01 Termination. . . . . . . . . . . . . . . . .51 Section 9.02 Effect of Termination.. . . . . . . . . . . .52 ARTICLE X - MISCELLANEOUS . . . . . . . . . . . . . . . . . . .54 Section 10.01 Notices. . . . . . . . . . . . . . . . . . .54 Section 10.02 Entire Agreement; Non-Survival of Representations and Warranties; Third Party Beneficiaries. . . . . . . . .55 Section 10.03 Amendment. . . . . . . . . . . . . . . . . . 55 Section 10.04 Waiver. . . . . . . . . . . . . . . . . . .55 Section 10.05 Expenses. . . . . . . . . . . . . . . . . .56 Section 10.06 Successors and Assigns. . . . . . . . . . .56 Section 10.07 Governing Law. . . . . . . . . . . . . . . .56 Section 10.08 Jurisdiction. . . . . . . . . . . . . . . .56 Section 10.09 Counterparts; Effectiveness. . . . . . . . .56 Section 10.10 Interpretation. . . . . . . . . . . . . . .56 Section 10.11 Severability. . . . . . . . . . . . . . . .57 Section 10.12 Specific Performance. . . . . . . . . . . .57 EXHIBITS Voting Agreement . . . . . . . . . . . . . . . . . . . . . . A Affiliate Letter . . . . . . . . . . . . . . . . . . . . . . B Opinion of TSG Counsel . . . . . . . . . . . . . . . . . . . C Stockholders' Agreement. . . . . . . . . . . . . . . . . . . D Opinion of Elcotel Counsel . . . . . . . . . . . . . . . . . E TABLE OF DEFINITIONS Term Section - ------ ------- 1933 Act 3.03 1934 Act 3.03 Acor preamble Adjusted Option 1.04(a) Affiliate Letter 5.11 Alternative Proposal 5.03 Antitrust Division 5.08 Closing 1.01(b) Closing Date 1.01(b) Code recitals Confidentiality Agreement 5.06(a) Delaware Law 1.01(a) Elcotel preamble Elcotel 10-K 4.08 Elcotel Agreement 4.04 Elcotel Balance Sheet 4.08 Elcotel Balance Sheet Date 4.08 Elcotel Common Stock 1.02(a) Elcotel Disclosure Letter 2.03 Elcotel ERISA Affiliate 4.14(a) Elcotel Financial Statements 4.08 Elcotel Plans 4.05(a) Elcotel Benefit Plans 4.14(a) Elcotel Securities 4.05(a) Elcotel SEC Documents 4.07(a) Elcotel Stockholders' Approval 5.03(b) Elcotel Stockholders' Meeting(s) 5.03(b) Elcotel Subsidiary Securities 4.06 Elcotel Tax Returns 4.13 Effective Time 1.01(c) Environmental Laws 3.17(b) Environmental Liabilities 3.17(b) ERISA 3.14(a) Exchange Agent 1.03(a) Form S-4 4.09 FTC 5.08 GAAP 3.08 Governmental Authorities 3.03 Hazardous Substance 3.17(b) Term Section - ------ ------- HSR Act 3.03 Intellectual Property 3.19(a) Laws 3.04 Material Adverse Effect 3.01 Merger 1.01(a) Merger Consideration 1.02(c) Merger Subsidiary preamble Notice of Superior Proposal 5.04(a) Orders 3.04 Person 1.02(d) Proxy Statement 3.09 Qualified Stock Options 1.04(a) Takeover Statute 3.23 Taxes 3.13(i) Taxing Authority 3.13(i) Tax Return 3.13(i) TSG preamble TSG 10-K 3.08 TSG Affiliates 5.11 TSG Agreement 3.04 TSG Balance Sheet 3.08 TSG Balance Sheet Date 3.08 TSG Benefit Plans 3.14(a) TSG Common Stock 1.02(a) TSG Disclosure Letter 3.08 TSG ERISA Affiliate 3.14(a) TSG Financial Statements 3.01 TSG Group 3.13(i) TSG Option Plans 1.04(a) TSG Preferred Stock 3.05(a) TSG Securities 3.05(a) TSG Subsidiary Securities 3.06 TSG SEC Documents 3.07(a) TSG Stockholders' Approval 5.03(a) TSG Stockholders' Meeting 5.04(a) TSG Stock Option 1.04(a) TSG Tax Returns 3.13(a) Service 3.13(h) Share(s) 1.02(a) Stockholders recitals Stockholders' Meetings 5.04(b) Subsidiary 1.02(d) Subsidiary of TSG 3.17(b) Superior Proposal 5.03(a) Surviving Corporation 1.01(a) Voting Agreement recitals Wexford recitals AGREEMENT AND PLAN OF MERGER AGREEMENT AND PLAN OF MERGER dated as of August 13, 1997 among ELCOTEL, INC., a Delaware corporation ("Elcotel"), TECHNOLOGY SERVICE GROUP, INC., a Delaware corporation ("TSG"), and ELCOTEL HOSPITALITY SERVICE, INC., a Delaware corporation and a wholly-owned subsidiary of Elcotel ("Merger Subsidiary"). WHEREAS, the respective Boards of Directors of Elcotel and TSG have approved, and deem it advisable and in the best interests of their respective stockholders to consummate the acquisition of TSG by Elcotel by means of a merger of Merger Subsidiary into TSG, as a result of which TSG will become a wholly owned subsidiary of Elcotel, all on the terms and conditions set forth herein; WHEREAS, for United States federal income tax purposes, it is intended that the Merger contemplated by this Agreement qualify as a "reorganization" within the meaning of Section 368 of the Internal Revenue Code of 1986, as amended, and the rules and regulations promulgated thereunder (the "Code"); and WHEREAS, as a condition and inducement to Elcotel entering into this Agreement and incurring the obligations set forth herein, concurrently with the execution and delivery of this Agreement, Elcotel is entering into a Voting Agreement with Wexford Partners Fund, L.P. ("Wexford") and Fundamental Management Corporation ("Fundamental", together with Wexford, the "Stockholders"), in the form of Exhibit A hereto (the "Voting Agreement") pursuant to which, among other things, Wexford has agreed to vote the shares of TSG Common Stock owned by it in favor of this Agreement and the Merger and other transactions provided for herein and Fundamental has agreed to vote the shares of Elcotel Common Stock owned by it in favor of the issuance of shares of Elcotel Common Stock pursuant to the Merger and the other transactions contemplated by the Merger. NOW, THEREFORE, in consideration of the promises and the respective representations, warranties, covenants, and agreements set forth herein and in the Voting Agreement, the parties hereto, intending to be legally bound hereby, agree as follows: ARTICLE I THE MERGER Section 1.01 The Merger. (a) Upon the terms and subject to the conditions set forth in this Agreement, at the Effective Time, Merger Subsidiary shall be merged (the "Merger") with and into TSG in accordance with the Delaware General Corporation Law (the "Delaware Law"), whereupon the separate existence of Merger Subsidiary shall cease, and TSG shall continue as the surviving corporation (the "Surviving Corporation"); (b) Upon the terms and subject to the conditions of this Agreement, the closing of the Merger (the "Closing") shall take place at 10:00 a.m. on a date to be specified by the parties (the "Closing Date"), which shall be no later than the fifth business day after satisfaction of the conditions set forth in Article 6, at the offices of Schnader, Harrison, Segal & Lewis LLP, 14th Floor, 330 Madison Avenue, New York, New York 10017, unless another time, date or place is agreed to in writing by the parties hereto; (c) Upon the Closing, TSG and Merger Subsidiary will file a certificate of merger with the Secretary of State of the State of Delaware and make all other filings or recordings required by Delaware Law in connection with the Merger. The Merger shall become effective at such time as the certificate of merger is duly filed with the Secretary of State of the State of Delaware or at such later time as is agreed by Elcotel and TSG and specified in the certificate of merger (the "Effective Time"); (d) The Merger shall have the effects set forth in Section 259 of the Delaware Law; and (e) Each party hereto will, either prior to or after the Effective Time, execute such further documents, instruments, deeds, bills of sale, assignments and assurances and take such further actions as may reasonably be requested by one or more of the others to consummate the Merger, to vest the Surviving Corporation with full title to all assets, properties, privileges, rights, approvals, immunities and franchises of Merger Subsidiary or TSG, or to effect the other purposes of this Agreement. Section 1.02 Conversion of Shares. (a) At the Effective Time by virtue of the Merger, and without any action on the part of the holder of any common stock of TSG or Merger Subsidiary: (i) each share of Common Stock, par value $0.01 per share, of TSG (the "TSG Common Stock") held by TSG as treasury stock or owned by Elcotel or any Subsidiary of Elcotel immediately prior to the Effective Time shall automatically be canceled and retired without any conversion thereof, and no Elcotel Common Stock or other consideration shall be delivered in exchange therefor; 2 (ii) each share of common stock, par value $0.01 per share, of Merger Subsidiary outstanding immediately prior to the Effective Time shall automatically be converted into and become one share of common stock of the Surviving Corporation and shall constitute the only outstanding shares of capital stock of the Surviving Corporation; and (iii) each share (each, a "Share" and collectively, the "Shares") of TSG Common Stock outstanding immediately prior to the Effective Time shall, except as otherwise provided in Section 1.02(a)(i), automatically be converted into the right to receive 1.05 shares of fully paid and non-assessable Common Stock, par value $0.01 per share of Elcotel (the "Elcotel Common Stock"). (b) From and after the Effective Time, all Shares converted in accordance with Section 1.02(a)(iii) shall no longer be outstanding and shall automatically be canceled and retired and shall cease to exist, and each holder of a certificate representing any such Shares shall cease to have any rights with respect thereto, except the right to receive the Merger Consideration. From and after the Effective Time, all certificates representing the common stock of Merger Subsidiary shall be deemed for all purposes to represent the number of shares of Common Stock of the Surviving Corporation into which they were converted in accordance with Section 1.02(a)(ii); (c) The Elcotel Common Stock to be received as consideration pursuant to the Merger by each holder of Shares (together with cash in lieu of fractional shares of Elcotel Common Stock) is referred to herein as the "Merger Consideration"; and (d) For purposes of this Agreement, the word "Subsidiary" when used with respect to any Person means any other Person, whether incorporated or unincorporated, of which at least a majority of the securities or other interests having by their terms ordinary voting power to elect at least a majority of the board of directors or others performing similar functions with respect to such corporation or other organization is directly or indirectly owned or controlled by such Person or by any one or more of its Subsidiaries. For purposes of this Agreement, "Person" means an individual, a corporation, a limited liability company, a partnership, an association, a trust or any other entity or organization, including a Governmental Authority. 3 Section 1.03 Surrender and Payment. (a) Prior to the Effective Time, Elcotel shall appoint an agent reasonably satisfactory to TSG (the "Exchange Agent") for the purpose of exchanging certificates representing Shares for the Merger Consideration. Promptly after the Effective Time (but in any event within five business days thereafter), Elcotel will send, or will cause the Exchange Agent to send, to each holder of Shares at the Effective Time (i) a letter of transmittal for use in such exchange (which shall specify that delivery of the Merger Consideration shall be effected, and risk of loss and title to the certificates representing TSG Common Stock shall pass, only upon proper delivery of the certificates representing Shares to the Exchange Agent) and (ii) instructions for use in effecting the surrender of the certificates representing Shares in exchange for the certificates representing Elcotel Common Stock and cash in lieu of fractional shares of Elcotel Common Stock. Notwithstanding the foregoing, neither the Exchange Agent nor any party hereto shall be liable to a holder of certificates theretofore representing Shares for any amount which may be required to be paid to a public official pursuant to any applicable abandoned property, escheat or similar law; (b) Each holder of Shares that have been converted into a right to receive the Merger Consideration, upon surrender to the Exchange Agent of a certificate or certificates representing such Shares, together with a properly completed letter of transmittal covering such Shares, will be entitled to receive the Merger Consideration payable in respect of such Shares and any dividends payable pursuant to Section 1.03(f). Until so surrendered, each such certificate shall, after the Effective Time, represent for all purposes only the right to receive the Merger Consideration and any dividends payable pursuant to Section 1.03(f) and the holder thereof shall not be entitled to vote the Elcotel Common Stock until such certificate is surrendered; (c) If any certificate representing Merger Consideration is to be delivered to a Person other than the registered holder of the Shares represented by the certificate or certificates surrendered in exchange therefor, it shall be a condition to the issuance of such certificate evidencing Elcotel Common Stock that the certificate or certificates so surrendered shall be properly endorsed or otherwise be in proper form for transfer and that the Person requesting such payment shall pay to the Exchange Agent any transfer or other taxes required by reason of the issuance of shares of Elcotel Common Stock to a Person other than the registered holder of such Shares represented by the certificate or certificates so surrendered or establish to the satisfaction of the Exchange Agent that such tax has been paid or is not applicable; (d) After the Effective Time, there shall be no further registration of transfers of Shares on the stock transfer book of TSG. If, after the Effective Time, certificates representing Shares are presented to the Surviving Corporation, they shall be canceled and exchanged for the consideration provided for, and in accordance with the procedures set forth, in this Article I; 4 (e) Any portion of the Merger Consideration that remains unclaimed by the holders of Shares six months after the Effective Time shall be returned to Elcotel, upon demand, and any such holder who has not exchanged his Shares for the Merger Consideration in accordance with this Section 1.03 prior to that time shall thereafter look only to Elcotel for payment of the Merger Consideration. Notwithstanding the foregoing, Elcotel shall not be liable to any holder of Shares for any amount paid to a public official pursuant to applicable abandoned property laws. Any amounts remaining unclaimed by holders of Shares seven years after the Effective Time (or such earlier date immediately prior to such time as such amounts would otherwise escheat to or become property of any Governmental Authority) shall, to the extent permitted by applicable law, become the property of Elcotel free and clear of any claims or interest of any Person previously entitled thereto; (f) No dividends or other distributions with respect to Elcotel Common Stock issued in the Merger shall be paid to the holder of any unsurrendered certificates representing Shares until such certificates are surrendered as provided in this Section 1.03. Subject to the effect of applicable laws, following the surrender of such certificates, there shall be paid, without interest, to the record holder of the Elcotel Common Stock issued in exchange therefor at the time of such surrender, the amount of dividends or other distributions with a record date after the Effective Time payable prior to or on the date of such surrender with respect to such whole shares of Elcotel Common Stock and not previously paid, less the amount of any withholding taxes which may be required thereon; (g) In the event any certificate representing Shares shall have been lost, stolen or destroyed, upon the making of an affidavit of the fact by the person claiming such certificate to be lost, stolen or destroyed, Elcotel will, after the Effective Time, issue in exchange for such lost, stolen or destroyed certificate the certificate evidencing shares of Elcotel Common Stock deliverable in respect thereof, as determined in accordance with this Article I. When authorizing such issue of the certificate of shares of Elcotel Common Stock in exchange therefor, Elcotel may, in its discretion and as a condition precedent to the issuance thereof, require the owner of such lost, stolen or destroyed certificate to give Elcotel a bond in such sum as it may direct as indemnity against any claim that may be made against Elcotel with respect to the certificate alleged to have been lost, stolen or destroyed; and (h) Approval and adoption of this Agreement by the stockholders of TSG shall constitute, as an integral part of the Merger, ratification of the appointment of, and the reappointment of, said Exchange Agent. Section 1.04 Stock Option Plans. (a) At or before the Effective Time, Elcotel and TSG shall take such action as may be required to effect the following: the terms of each outstanding option granted by TSG to purchase shares of TSG Common Stock (a "TSG Stock Option") under the TSG 1994 Omnibus Stock Plan (the "Omnibus Plan"), the TSG 1995 Employee Stock Purchase Plan (the "Stock Purchase Plan") and the 5 TSG 1995 Non-Employee Director Stock Option Plan (the "Director Plan," together with the Omnibus Plan and the Stock Purchase Plan, collectively, the "TSG Option Plans"), whether vested or unvested, shall be adjusted as necessary to provide that at the Effective Time, each TSG Stock Option outstanding immediately prior to the Effective Time shall be deemed to constitute and shall become an option to acquire, on the same terms and conditions as were applicable under such TSG Stock Option, the same number of shares of Elcotel Common Stock as the holder of such TSG Stock Option would have been entitled to receive pursuant to the Merger had such holder exercised such TSG Stock Option in full immediately prior to the Effective Time, at a price per share of Elcotel Common Stock equal to (i) the aggregate exercise price for the shares of TSG Common Stock otherwise purchasable pursuant to such TSG Stock Option divided by (ii) the aggregate number of shares of Elcotel Common Stock deemed purchasable pursuant to such TSG Stock Option (each, as so adjusted, an "Adjusted Option"); provided that (after aggregating all the Shares of a holder subject to TSG Stock Options) any fractional share of Elcotel Common Stock resulting from such calculation for such holder shall be rounded up to the nearest whole share and provided, further, that in the case of any option to which Section 421 of the Code applies by reason of its qualification under any of Sections 422 through 424 of the Code ("qualified stock options"), the option price, the number of shares purchasable pursuant to such option and the terms and conditions of exercise of such option shall be determined in order to comply with Section 424 of the Code; (b) As soon as practicable after the Effective Time, Elcotel shall deliver to the holders of TSG Stock Options appropriate notices setting forth such holders' rights pursuant to the respective TSG Option Plans and the agreements evidencing the grants of such TSG Stock Options and that such TSG Stock Options and agreements shall be assumed by Elcotel and shall continue in effect on the same terms and conditions (subject to the adjustments required by this Section 1.04 after giving effect to the Merger); and (c) Elcotel shall take such actions as are reasonably necessary for the assumption of the TSG Option Plans pursuant to this Section 1.04, including the reservation, issuance and listing of Elcotel Common Stock as is necessary to effectuate the transactions contemplated by this Section 1.04. Elcotel shall prepare and file with the SEC a registration statement on Form S-8 or other appropriate form with respect to shares of Elcotel Common Stock subject to TSG Stock Options issued under such TSG Option Plans and shall use its reasonable efforts to have such registration statement declared effective as soon as practicable following the Effective Time and to maintain the effectiveness of such registration statement or registration statements covering such TSG Stock Options (and maintain the current status of the prospectus or prospectuses contained therein) for so long as such TSG Stock Options remain outstanding. 6 Section 1.05 TSG Warrants. (a) At or before the Effective Time, Elcotel and TSG shall take such action in connection with warrants to purchase 575,000 shares of TSG Common Stock issued by TSG pursuant to that certain warrant agreement between TSG and Liberty Bank and Trust Company of Oklahoma City, N.A. dated as of May 10, 1996 as may be required to effect the following: the terms of each outstanding warrant to purchase shares of TSG Common Stock (a "TSG Public Warrant") issued pursuant to such warrant agreement shall be adjusted as necessary to provide that at the Effective Time, each TSG Public Warrant outstanding immediately prior to the Effective Time shall be deemed to constitute and shall become a warrant to acquire, on substantially the same terms and conditions as were applicable under such TSG Public Warrant, the same number of shares of Elcotel Common Stock as the holder of such TSG Public Warrant would have been entitled to receive pursuant to the Merger had such holder exercised such TSG Public Warrant in full immediately prior to the Effective Time. (b) At or before the Effective Time, Elcotel and TSG shall take such action in connection with the warrants to purchase 100,000 shares of TSG Common Stock issued by TSG pursuant to that certain underwriter's warrant agreement between TSG and Brookehill Equities, Inc. dated as of May 10, 1996 as may be required to effect the following: the terms of each outstanding warrant to purchase shares of TSG Common Stock (a "TSG Underwriter Warrant") issued pursuant to such underwriter's warrant agreement shall be adjusted as necessary to provide that at the Effective Time, each TSG Underwriter Warrant outstanding immediately prior to the Effective Time shall be deemed to constitute and shall become a warrant to acquire, on substantially the same terms and conditions as were applicable under such TSG Underwriter Warrant, the same number of shares of Elcotel Common Stock as the holder of such TSG Underwriter Warrant would have been entitled to receive pursuant to the Merger had such holder exercised such TSG Underwriter Warrant in full immediately prior to the Effective Time. Section 1.06 Fractional Shares. Neither certificates nor scrip for fractional shares of Elcotel Common Stock will be issued in the Merger, but in lieu thereof each holder of TSG Common Stock otherwise entitled to a fraction of a share of Elcotel Common Stock (after aggregating all fractional shares of TSG Common Stock that would otherwise be received by such holder) will be entitled hereunder to receive a cash payment. The amount of such cash payment shall equal, in the case of each fractional share, an amount (rounded to the nearest whole cent), without interest, calculated as the product of (i) such fraction, multiplied by (ii) the arithmetic mean of the closing sales prices for the Elcotel Common Stock reported on the NASDAQ National Market System for each of the five (5) consecutive trading days on which Elcotel Common Stock was traded immediately preceding the Effective Time as quoted in the Wall Street Journal or other reliable financial newspaper or publication. For the purposes of the preceding sentence, a "trading day" means a day on which trading generally takes place on the NASDAQ National Market System. No such fractional share interest shall entitle the owner thereof to vote or to any rights of a stockholder of Elcotel. 7 ARTICLE II THE SURVIVING CORPORATION Section 2.01 Certificate of Incorporation. The certificate of incorporation of Merger Subsidiary shall be the certificate of incorporation of the Surviving Corporation, except that, at the Effective Time, the name of the Surviving Corporation shall be changed to "TSG" or such other name as Elcotel may designate on or before the Effective Time, until thereafter amended in accordance with applicable law and such certificate of incorporation. Section 2.02 Bylaws. The bylaws of Merger Subsidiary in effect at the Effective Time shall be the bylaws of the Surviving Corporation, until thereafter amended in accordance with applicable law, the certificate of incorporation of the Surviving Corporation and such bylaws. Section 2.03 Directors and Officers. From and after the Effective Time, until successors are duly elected or appointed and qualified in accordance with the Delaware Law and the certificate of incorporation and bylaws of the Surviving Corporation, the directors and the officers of the Surviving Corporation shall be those persons set forth on Schedule 2.03 to the disclosure letter delivered by Elcotel and Merger Subsidiary to TSG concurrently with the execution and delivery of this Agreement (the "Elcotel Disclosure Letter"). ARTICLE III REPRESENTATIONS AND WARRANTIES OF TSG TSG represents and warrants to Elcotel that: Section 3.01 Organization and Power. Each of TSG and its Subsidiaries is a corporation, partnership or other entity duly organized, validly existing and in good standing under the laws of the jurisdiction of its incorporation or organization, and has the requisite corporate or other power and authority and governmental approvals to own, lease and operate its properties and to carry on its business as now being conducted. Each of TSG and its Subsidiaries is duly qualified or licensed to do business and is in good standing in each jurisdiction in which the property owned, leased or operated by it or the nature of the business conducted by it makes such qualification or licensing necessary, except where the failure to be so duly qualified or licensed and in good standing would not, individually or in the aggregate, have a Material Adverse Effect on TSG. For purposes of this Agreement, a "Material Adverse Effect" with respect to any Person means a material adverse effect (i) on the condition (financial or otherwise), business, liabilities, properties, assets, results of operations or prospects of such Person and its Subsidiaries, taken as a whole, or (ii) on the ability of such Person to perform its obligations under or to consummate the transactions contemplated by this Agreement. Schedule 3.01 to the disclosure letter delivered by TSG to Elcotel and Merger Subsidiary concurrently with the execution and delivery of this Agreement (the "TSG Disclosure Letter") sets forth (i) the name and jurisdiction of 8 incorporation of each Subsidiary of TSG, (ii) its authorized capital stock, (iii) the number of issued and outstanding shares of capital stock, and (iv) the record and beneficial owners of such shares. Except as set forth on Schedule 3.01 to the TSG Disclosure Letter, TSG does not directly or indirectly own any equity or similar interest in, or any interest convertible into or exchangeable or exercisable for, any equity or similar interest in, any Person. TSG has heretofore delivered to Elcotel true and complete copies of the certificate or articles of incorporation and bylaws as currently in effect of TSG and its Subsidiaries. Section 3.02 Corporate Authorization. The execution, delivery and performance by TSG of this Agreement and the consummation by TSG of the transactions contemplated hereby are within TSG's corporate powers and, except as set forth in the second succeeding sentence of this Section 3.02, have been duly authorized by all necessary corporate action, including without limitation its Board of Directors. The Board of Directors of TSG has recommended approval and adoption of this Agreement by the stockholders of TSG and directed that this Agreement be submitted to the stockholders of TSG for their approval. The affirmative vote of a majority of the outstanding Shares is the only vote of any class or series of TSG's capital stock necessary to approve and adopt this Agreement and the transactions contemplated by this Agreement. This Agreement has been duly executed and delivered by TSG and, subject to the receipt of the approval described in the immediately preceding sentence, constitutes a legal, valid and binding agreement of TSG, enforceable against TSG in accordance with its terms (subject to applicable bankruptcy, insolvency, reorganization, moratorium, fraudulent transfer and other similar laws affecting creditors' rights generally from time to time in effect and to general principles of equity, regardless of whether in a proceeding in equity or at law). Section 3.03 Governmental Authorization. The execution, delivery and performance by TSG of this Agreement, and the consummation by TSG of the transactions contemplated hereby, require no action by or in respect of, or filing with or notice to, any United States federal, state or local government, any foreign country, any foreign state or local government or any court, administrative agency or commission or other governmental or regulatory agency or authority of any of the foregoing (collectively "Governmental Authorities" and individually a "Governmental Authority"), other than (a) the filing of a certificate of merger with respect to the Merger with the Delaware Secretary of State and appropriate documents with the relevant authorities of other states in which TSG is qualified to do business; (b) compliance with any applicable requirements of the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended (the "HSR Act"); (c) compliance with any applicable requirements of the Securities Act of 1933, as amended, and the rules and regulations promulgated thereunder (the "1933 Act"); (d) compliance with any applicable requirements of the Securities Exchange Act of 1934, as amended, and the rules and regulations promulgated thereunder (the "1934 Act"); (e) compliance with any other applicable securities laws; and (f) those set forth on Schedule 3.03 to the TSG Disclosure Letter. 9 Section 3.04 Non-Contravention. Except as set forth on Schedule 3.04 to the TSG Disclosure Letter, the execution, delivery and performance by TSG of this Agreement do not, and the consummation by TSG of the transactions contemplated hereby will not require the consent of any other Person, or conflict with, result in a violation or breach of, constitute (with or without notice or lapse of time or both) a default under, result in or give to any Person any right of payment or reimbursement, termination, cancellation, modification or acceleration of, or result in the creation or imposition of any Lien on any of the assets or properties of TSG or any of its Subsidiaries under, any of the terms, conditions or provisions of (a) the certificate or articles of incorporation, bylaws or similar organizational documents of TSG or any of its Subsidiaries, (b) assuming receipt of the approval of stockholders referred to in Section 3.02, and compliance with the matters referred to in Section 3.03, any United States or foreign statute, law, regulation, rule or ordinance (together "Laws") or any judgment, injunction, order, writ, license, permit or decree of any Governmental Authority (together "Orders") binding upon or applicable to TSG, any Subsidiary of TSG or any of their respective assets or properties, or (c) any note, bond, mortgage, security agreement, indenture, lease, contract, instrument or other agreement of any kind to which TSG or any Subsidiary of TSG is a party or by which TSG or any Subsidiary of TSG or any of their respective assets or properties is bound (a "TSG Agreement") or any license, franchise, permit or other similar authorization held by TSG or any Subsidiary of TSG. For purposes of this Agreement, "Lien" means, with respect to any asset, any mortgage, lien, pledge, charge, security interest or encumbrance of any kind in respect of such asset, and, in addition with respect to real property, any easement, right of way or other restriction, limitation or burden of any kind in respect of such real property. Section 3.05 Capitalization of TSG. (a) The authorized capital stock of TSG consists solely of 10,000,000 shares of TSG Common Stock and 100,000 shares of preferred stock, par value $100.00 per share (the "TSG Preferred Stock"). As of the close of business on July 31, 1997, (i) 4,708,476 shares of TSG Common Stock are issued and outstanding, no shares of TSG Common Stock are issued and held in the treasury of TSG, and 1,491,524 shares of TSG Common Stock are reserved for issuance under the TSG Option Plans and the TSG Warrants; (ii) options to purchase 579,250 shares of TSG Common Stock were outstanding under the TSG Option Plans (excluding approximately 9,306 shares subject to a pending offering under the Stock Purchase Plan) and warrants to purchase 675,000 shares of TSG Common Stock were outstanding under the TSG Warrants, and (iii) no shares of TSG Preferred Stock are issued, outstanding or held in the treasury of TSG. All the outstanding shares of TSG Common Stock are, and all shares reserved for issuance will be, when issued in accordance with the terms specified in the instruments or agreements pursuant to which they are issuable, duly authorized, validly issued, fully paid and non-assessable. Except (i) as set forth in this Section 3.05 and (ii) for Shares that may be issued as provided in Section 5.01(f), there are outstanding (x) no shares of capital stock or other voting securities of TSG, (y) no securities of TSG convertible into or exchangeable for shares of capital stock or voting securities of TSG, and (z) no options, warrants or other rights to acquire from 10 TSG, and no preemptive or similar rights, subscriptions or other rights, convertible securities, agreements, arrangements or commitments of any character, obligating TSG to issue, transfer or sell, any capital stock, voting securities or securities convertible into or exchangeable for capital stock or voting securities of TSG or obligating TSG to grant, extend or enter into any such option, warrant, subscription or other right, convertible security, agreement, arrangement or commitment (the items in clauses (x), (y) and (z) being referred to collectively as the "TSG Securities"). (b) Except as set forth on Schedule 3.05 to the TSG Disclosure Letter, there are no voting trusts or other agreements or understandings to which TSG or any Subsidiary of TSG is a party with respect to the voting of the capital stock of TSG or any Subsidiary of TSG. None of TSG or its Subsidiaries has any contractual obligation to redeem, repurchase or otherwise acquire any TSG Securities or any capital stock of any Subsidiary of TSG, including as a result of the transactions contemplated by this Agreement or to provide funds to, or make any investment in, any Subsidiary of TSG or any other Person. Except as permitted by this Agreement, following the Merger, neither TSG nor any of its Subsidiaries will have any obligation to issue, transfer or sell any shares of its capital stock pursuant to any employee benefit plan or otherwise. Section 3.06 Capitalization of Subsidiaries. Except as set forth on Schedule 3.06 to the TSG Disclosure Letter, all of the outstanding shares of capital stock of, or other ownership interests in, each Subsidiary of TSG, are duly authorized, validly issued, fully paid and nonassessable and are owned, beneficially and of record, by TSG, directly or indirectly, free and clear of any consensual Lien (including any restriction on the right to vote, sell or otherwise dispose of such capital stock or other ownership interests). There are no (i) outstanding securities of TSG or any Subsidiary of TSG convertible into or exchangeable for shares of capital stock or other voting securities or ownership interests in any Subsidiary of TSG, or (ii) options, warrants or other rights to acquire from TSG or any Subsidiary of TSG, and no other obligation of TSG or any Subsidiary of TSG to issue, any capital stock, voting securities or other ownership interests in, or any securities convertible into or exchangeable for, any capital stock, voting securities or ownership interests in, any Subsidiary of TSG (the items in clauses (i) and (ii) being referred to collectively as the "TSG Subsidiary Securities"). Section 3.07 SEC Filings. (a) TSG has filed all reports, schedules, forms, statements and other documents with the Securities and Exchange Commission (the "SEC") required to be filed by TSG since April 1, 1995 (the "TSG SEC Documents"); (b) As of its filing date, each TSG SEC Document filed pursuant to the 1934 Act complied as to form in all material respects with the requirements of the 1934 Act and did not contain any untrue statement of a material fact or omit to state any material fact necessary in order to make the statements therein, in the light of the circumstances under which they were made, not misleading; and 11 (c) Each TSG SEC Document that is a registration statement, as amended or supplemented, if applicable, filed pursuant to the 1933 Act as of the date such registration statement or amendment became effective complied as to form in all material respects with the requirements of the 1933 Act and did not contain any untrue statement of a material fact or omit to state any material fact necessary in order to make the statements therein, in light of the circumstances under which they were made, not misleading. Section 3.08 Financial Statements. The audited consolidated financial statements included in TSG's Annual Report on Form 10-K for the fiscal year ended March 28, 1997 (the "TSG 10-K") and the unaudited consolidated interim financial statements of TSG included in the TSG SEC Documents filed after such date (collectively the "TSG Financial Statements") complied, or will comply, as to form in all material respects with the published rules and regulations of the SEC with respect thereto, have been prepared in accordance with generally accepted accounting principles ("GAAP") applied on a consistent basis during the periods involved (except as may be indicated in the notes thereto) and fairly present the consolidated financial position of TSG and its consolidated Subsidiaries as of the dates thereof and their consolidated results of operations and cash flows for the periods then ended (subject to footnote disclosures and normal year-end adjustments in the case of any unaudited interim financial statements). The TSG Financial Statements have been prepared from and are consistent with the books and records of TSG, which reflect all material transactions of TSG and its Subsidiaries. For purposes of this Agreement, "TSG Balance Sheet" means the consolidated balance sheet of TSG as of March 28, 1997 set forth in the TSG 10-K and "TSG Balance Sheet Date" means March 28, 1997. Each Subsidiary of TSG is treated as a consolidated subsidiary of TSG in the TSG Financial Statements for all periods covered thereby. Section 3.09 Information Supplied. None of the information supplied or to be supplied by TSG for inclusion or incorporation by reference in and none of the statements based on such information contained in (i) the joint proxy statement to be filed with the SEC relating to the stockholders' meetings of TSG and Elcotel to be held in connection with the Merger, as amended or supplemented from time to time (as so amended or supplemented, the "Proxy Statement"), will, at the date the Proxy Statement is first mailed to stockholders and at the time of the meetings of such stockholders in connection with the Merger, contain any untrue statement of a material fact or omit to state any material fact necessary in order to make the statements therein, in light of the circumstances under which they were made, not misleading, or (ii) the registration statement on Form S-4 of Elcotel to be filed under the 1933 Act relating to the issuance of Elcotel Common Stock in the Merger, as amended or supplemented from time to time (as so amended or supplemented, the "Form S-4"), will, at the time the Form S-4 becomes effective under the 1933 Act and at the Effective Time, contain any untrue statement of a material fact or omit to state any material fact necessary in order to make the statements therein, in light of the circumstances under which they were made, not misleading. 12 Section 3.10 Absence of Certain Changes. Except as disclosed in the TSG SEC Documents filed prior to the date of this Agreement or as disclosed on Schedule 3.10 to the TSG Disclosure Letter, since March 28, 1997, TSG and its Subsidiaries have conducted their respective businesses in the ordinary course consistent with past practice and there has not been: (a) any event, occurrence or development which, individually or in the aggregate, has had or would be reasonably likely to have a Material Adverse Effect on TSG; (b) any declaration, setting aside or payment of any dividend or other distribution with respect to any shares of capital stock of TSG, any issuance of TSG Common Stock other than upon exercise of TSG Warrants or TSG Options outstanding on March 28, 1997, or any repurchase, redemption or other acquisition by TSG or any Subsidiary of TSG of any amount of outstanding shares of capital stock or other equity securities of, or other ownership interests in, TSG or any Subsidiary of TSG; (c) any amendment of any term of any TSG Securities or TSG Subsidiary Securities; (d) (i) any incurrence or assumption by TSG or any Subsidiary of TSG of any indebtedness for borrowed money other than under existing credit facilities in the ordinary course of business consistent with past practices or (ii) any guarantee, endorsement or other incurrence or assumption of liability (whether directly, contingently or otherwise) by TSG or any Subsidiary of TSG for the obligations of any other Person (other than any wholly owned Subsidiary of TSG); (e) any creation or assumption by TSG or any Subsidiary of TSG of any consensual Lien on any material asset of TSG or any Subsidiary of TSG; (f) any making of any loan, advance or capital contribution to or investment in any Person by TSG or any Subsidiary of TSG other than (i) loans, advances or capital contributions to or investments in wholly-owned Subsidiaries of TSG or (ii) loans or advances to employees of TSG or any Subsidiary of TSG made in the ordinary course of business consistent with past practice; (g) (i) any contract or agreement entered into by TSG or any Subsidiary of TSG on or prior to the date hereof relating to any material acquisition or disposition of any assets or business or (ii) any modification, amendment, assignment, termination or relinquishment by TSG or any Subsidiary of TSG of any contract, license, or other right (including any insurance policy naming it as a beneficiary or a loss payable payee) that would be reasonably likely to have a Material Adverse Effect on TSG, other than those contemplated by this Agreement; 13 (h) any change in any method of accounting or accounting principles or practices by TSG or any Subsidiary of TSG, except for any such change required by reason of a change in GAAP; or (i) any (w) grant of any severance or termination pay to any director, officer or employee of TSG or any of its Subsidiaries, (x) entering into of any employment, deferred compensation or other similar agreement (or any amendment to any such existing agreement) with any director, officer or employee of TSG or any of its Subsidiaries, (y) increase in benefits payable under any existing severance or termination pay policies or employment agreements or (z) increase in compensation or bonus in excess of fifteen percent or increase in other benefits payable to officers or employees of TSG or any of its Subsidiaries or increase in compensation, bonus or other benefits payable to directors of TSG or any of its Subsidiaries. Section 3.11 No Undisclosed Liabilities. Neither TSG nor any Subsidiary of TSG has any material liabilities or obligations (whether pursuant to contracts or otherwise) of any kind whatsoever, whether accrued, contingent, absolute, determined, determinable or otherwise, except: (a) those liabilities and obligations set forth on the TSG Balance Sheet and not heretofore paid or discharged; (b) those liabilities and obligations incurred since March 28, 1997 in the ordinary course of business consistent with past practice; and (c) those liabilities or obligations under this Agreement or incurred in connection with the transactions contemplated hereby. Section 3.12 Litigation. Except as disclosed on Schedule 3.12 to the TSG Disclosure Letter, (i) there are no actions, suits, arbitrations or proceedings pending or, to the knowledge of TSG, threatened against, relating to or affecting, nor are there are any Governmental Authority investigations or audits pending or, to the knowledge of TSG, threatened against, relating to or affecting, TSG or any of its Subsidiaries or any of their respective assets or properties nor, to the knowledge of TSG, is there any valid basis for any such action, suit, arbitration, proceeding, investigation or audit which, if adversely determined, would have a Material Adverse Effect on TSG, and (ii) neither TSG nor any of its Subsidiaries is subject to any order of any Governmental Authority which adversely affects the ability of TSG to consummate the transactions contemplated by this Agreement. 14 Section 3.13 Taxes. (a) All Tax Returns required to be filed by TSG, any of its Subsidiaries, or any corporation that was included in the filing of a return with TSG or its Subsidiaries on a consolidated, combined or unitary basis have been filed (the "TSG Tax Returns") and all Taxes required to be shown on the TSG Tax Returns, or a subsequent assessment with respect thereto, or otherwise due or payable (to the extent in excess of $50,000 in the aggregate) have been paid and any penalties and interest relating to such Taxes (to the extent in excess of $50,000 in the aggregate) have been paid. No other Taxes are payable by the TSG Group with respect to items or periods covered by such Tax Returns or with respect to Tax periods prior to the date of this Agreement. None of the TSG Tax Returns contain, or are required to contain, a disclosure statement under Section 6662 of the Code, or any similar provision of state, local or foreign law, with respect to any items that relate to TSG or its Subsidiaries in order to avoid a penalty for any taxable year. All TSG Tax Returns are true, correct and complete in all material respects. TSG has made available to Elcotel correct and complete copies of all TSG Tax Returns for all periods which are not closed by the statute of limitations. (b) No adjustment relating to any TSG Tax Returns has been proposed formally or, to TSG's knowledge, informally by any Governmental Authority (to the extent in excess of $50,000 in the aggregate), and no basis exists for any such adjustment that would have a Material Adverse Effect on TSG. There are no outstanding subpoenas or requests for information with respect to any TSG Tax Returns or portions thereof. There are no pending or, to TSG's knowledge, threatened actions or proceedings for the assessment or collection of Taxes for which TSG or its Subsidiaries may be liable (to the extent in excess of $50,000 in the aggregate). There are no Tax liens on any assets of TSG or its Subsidiaries, except with respect to Taxes which are not yet due and payable. (c) No consent under Section 341(f) of the Code has been filed with respect to TSG or any of its Subsidiaries. Neither TSG nor any of its Subsidiaries is or has been subject to the dual consolidated loss provisions of Section 1503 of the Code. (d) TSG and its Subsidiaries are members of an affiliated group (within the meaning of Section 1504 of the Code) that is eligible to file a consolidated return. No other entity is or has been eligible to file a consolidated or combined return with TSG and its Subsidiaries, and neither TSG nor its Subsidiaries have filed or consented to the filing of any Federal or state consolidated or combined return with any entity not a member of the TSG Group. Neither TSG nor any of its Subsidiaries has been at any time a member of any partnership or joint venture or the holder of a beneficial interest in any trust for any Person for which the statute of limitations for any Tax potentially applicable as a result of such membership or holding has not expired. 15 (e) TSG and its Subsidiaries have properly accrued all current or contested Taxes on their books and records, and their books and records reflect reserves that are adequate for the payment of all Taxes not yet due and payable that are properly accruable thereon through the date of this Agreement (including Taxes being contested). Neither TSG nor any of its Subsidiaries have any material liability for any Taxes in excess of amounts accrued or the reserves established. All Taxes required to be withheld, collected or deposited in connection with the operations and activities of TSG or its Subsidiaries have been timely withheld, collected or deposited and, to the extent required, have been paid to the relevant taxing authority. (f) TSG owns one share of Elcotel Common Stock, and has not owned more than one share of Elcotel Common Stock at any time during the past five years. At the Effective Time, the fair market value of the assets of TSG will exceed the sum of its liabilities, plus the amount of other liabilities, if any, to which the assets are subject. (g) There are no requests for rulings, determinations or information currently outstanding that could affect the Taxes of TSG or any of its Subsidiaries. (h) The TSG Tax Returns have been audited by the Internal Revenue Service ("Service") or other governmental agency (or closed by applicable statutes of limitations) and all Tax liabilities in respect thereof have been finally determined for all taxable years ending on or before March 31, 1993. There are no outstanding waivers or agreements extending the statute of limitations for any period with respect to any Tax to which TSG or any of its Subsidiaries may be liable. (i) "Taxes" shall mean any and all taxes, charges, fees, levies or other assessments, including income, gross receipts, excise, real or personal property, sales, withholding, social security, retirement, unemployment, occupation, use, goods and services, service use, license, value added, capital, net worth, payroll, profits, withholding, franchise, transfer and recording taxes, fees and charges, and any other taxes, assessment or similar charges imposed by the Service or any taxing authority (whether domestic or foreign including any state, county, local or foreign government or any subdivision or taxing agency thereof (including a United States possession)) (a "Taxing Authority"), whether computed on a separate, consolidated, unitary, combined or any other basis and such term shall include any interest whether paid or received, fines, penalties or additional amounts attributable to, or imposed upon, or with respect to, any such taxes, charges, fees, levies or other assessments. "Tax Return" shall mean any report, return, document, declaration or other information or filing required to be supplied to any taxing authority or jurisdiction (foreign or domestic) with respect to Taxes, including information returns, any documents with respect to or accompanying payments of estimated Taxes, or with respect to or accompanying requests for the extension of time in which to file any such report, return, document, declaration or other information. The term "TSG Group" shall mean, individually and collectively, (i) TSG, (ii) its Subsidiaries, and (iii) any trust, corporation, partnership or any other entity as to which TSG or its Subsidiaries is liable for Taxes incurred by such entity either as a transferee, or pursuant to Treasury Regulations Section 1.1502-6, or pursuant to any other provision of federal, state, local or foreign law or regulations. 16 (j) TSG has made available to Elcotel a true and complete copy of any: (i) elections, letter rulings and determination letters relating to Taxes with respect to TSG or its Subsidiaries; and (ii) examination reports, closing agreements and statements of deficiencies for Taxes assessed against or agreed to by TSG or any of its Subsidiaries. Section 3.14 Employee Benefit Plans; ERISA. (a) Except as set forth on Schedule 3.14(a) to the TSG Disclosure Letter, there are no employee benefit plans (including any plans for the benefit of directors or former directors), contracts or agreements (including employment agreements and severance agreements, incentive compensation, bonus, stock option, stock appreciation rights and stock purchase plans) of any type (including plans described in Section 3(3) of the Employee Retirement Income Security Act of 1974, as amended ("ERISA")), maintained by TSG, any of its Subsidiaries or any trade or business, whether or not incorporated (a "TSG ERISA Affiliate"), that together with TSG would be deemed a "controlled group" within the meaning of Section 4001(a)(14) of ERISA, or with respect to which TSG, any of its Subsidiaries, or any TSG ERISA Affiliate, has or may have a liability (the "TSG Benefit Plans"). Except as disclosed on Schedule 3.14(a) to the TSG Disclosure Letter (or as otherwise permitted by this Agreement): (i) neither TSG nor any ERISA Affiliate has any plan or commitment, whether legally binding or not, to create any additional TSG Benefit Plan or modify or change any existing TSG Benefit Plan that would affect any employee or terminated employee of TSG or any ERISA Affiliate; and (ii) since March 28, 1997, there has been no change, amendment, modification to, or adoption of, any TSG Benefit Plan; (b) With respect to each TSG Benefit Plan: (i) if intended to qualify under Section 401(a), 401(k) or 403(a) of the Code, such plan so qualifies, and its trust is exempt from taxation under Section 501(a) of the Code; (ii) no failures to administer such plan in accordance with its terms and applicable law have occurred that have had or would reasonably be expected to have a Material Adverse Effect on TSG; (iii) no breaches of fiduciary duty have occurred; (iv) no prohibited transaction within the meaning of Section 406 of ERISA has occurred; (v) as of the date of this Agreement, no lien imposed under the Code or ERISA exists; and (vi) all contributions and premiums due (including any extensions for such contributions and premiums) have been made in full; (c) None of the TSG Benefit Plans has incurred any "accumulated funding deficiency", as such term is defined in Section 412 of the Code, whether or not waived; (d) Neither TSG nor any ERISA Affiliate has incurred any liability under Title IV of ERISA (including Sections 4063-4064 and 4069 of ERISA) since the effective date of ERISA that has not been satisfied in full; 17 (e) With respect to each TSG Benefit Plan that is a "welfare plan" (as defined in Section 3(1) of ERISA), no such plan provides medical or death benefits with respect to current or former employees of TSG or any of its Subsidiaries beyond their termination of employment, other than as required by law or on an employee-pay-all basis; (f) Except as set forth on Schedule 3.04 to the TSG Disclosure Letter, the consummation of the Merger pursuant to this Agreement will not (i) entitle any individual to severance pay or any tax "gross-up" payments with respect to the imposition of any tax pursuant to Section 4999 of the Code or accelerate the time of payment or vesting, or increase the amount, of compensation or benefits due to any individual with respect to any TSG Benefit Plan, or (ii) constitute or result in a prohibited transaction under Section 4975 of the Code or Section 406 or 407 of ERISA with respect to any TSG Benefit Plan; and (g) There is no TSG Benefit Plan that is a "multiemployer plan", as such term is defined in Section 3(37) of ERISA, or which is covered by Section 4063 or 4064 of ERISA. Section 3.15 Certain Agreements; Compliance with Agreements. (a) Except as disclosed on Schedule 3.15 to the TSG Disclosure Letter or as provided for in this Agreement, neither TSG nor any of its Subsidiaries is a party to or bound by any oral or written: (i) consulting agreement not terminable on thirty (30) days' or less notice; (ii) agreement with any officer or other key employee the benefits of which are contingent, or the terms of which are materially altered, upon the occurrence of the transactions contemplated by this Agreement; (iii) agreement with respect to any officer providing any term of employment or compensation guarantee; (iv) agreement or plan, including any stock option plan, stock appreciation rights plan, employee stock ownership plan, restricted stock plan or stock purchase plan, any of the benefits of which will be increased, or the vesting of the benefits of which will be accelerated, by the occurrence of any of the transactions contemplated by this Agreement or the value of any of the benefits of which will be calculated on the basis of any of the transactions contemplated by this Agreement; 18 (v) agreement containing covenants that limit the ability of TSG or any of its Subsidiaries to compete in any line of business or with any Person, or that involve any restriction on the geographic area in which, or method by which, TSG or any of its Subsidiaries may carry on its business (other than as may be required by law or any regulatory agency); (vi) agreement, contract or understanding, other than this Agreement and the certificate of incorporation and by-laws of TSG, regarding the capital stock of TSG or committing to dispose of some or all of the capital stock or all or substantially all of the assets of TSG; (vii) partnership, joint venture or profit sharing agreement of TSG or any of its Subsidiaries with any Person; (viii) agreement, contract, commitment, indenture or other instrument of TSG or any of its Subsidiaries relating to the borrowing of money, or the direct or indirect guarantee of any obligation for, or an agreement to service the repayment of, borrowed money, or any other contingent obligation in respect to indebtedness of any other Person, including without limitation any agreement or arrangement relating to the maintenance of compensating balances, any agreement or arrangement with respect to lines of credit, any agreement or arrangement to purchase or repurchase obligations of any other Person, any agreement or arrangement to advance or supply funds to or to invest in any other Person, any agreement or arrangement to pay for property, products or services of any other Person even if such property, products or services are not conveyed, delivered or rendered, or any guarantee with respect to any lease or other similar periodic payment to be made by any other Person; (ix) lease of TSG or any of its Subsidiaries with annual rental payments aggregating $50,000 or more; (x) agreement, contract or commitment of TSG or any of its Subsidiaries relating to the disposition or acquisition of any investment in any Person if such investment has a book value of, or the disposition or acquisition price of such investment or interest is, $50,000 or more; (xi) agreement, contract or commitment which involves payment or potential payment, pursuant to the terms of such agreement, contract or commitment, by or to TSG or any of its Subsidiaries of $50,000 or more within any twelve month period commencing after the date hereof; or (xii) agreement, contract, commitment or arrangement between TSG or any of its Subsidiaries and any Affiliate of TSG or any of its Subsidiaries that is not described in or filed as an exhibit to a TSG SEC Report. 19 (b) Neither TSG nor any of its Subsidiaries nor, to the knowledge of TSG, any other party thereto is in breach or violation of or in default in the performance or observance of any term or provision of, and no event has occurred which, with notice or lapse of time or both, is reasonably expected to result in a default under, (i) the certificates or articles of incorporation, bylaws or similar organizational documents of TSG or any of its Subsidiaries or (ii) any contract, agreement, plan or instrument listed on Schedule 3.15 to the TSG Disclosure Letter, except in the case of clause (ii) for breaches, violations or defaults which, individually or in the aggregate, are not having and are not reasonably expected to have a Material Adverse Effect on TSG. Except as set forth on Schedule 3.04 to the TSG Disclosure Letter, no party to any such contract, agreement, plan or instrument will have the right to terminate any or all of the provisions of any such contract, agreement, plan or instrument as a result of the transactions contemplated by this Agreement. Section 3.16 Compliance with Laws and Orders. TSG and its Subsidiaries hold all permits, licenses, variances, exemptions, orders and approvals of all Governmental Authorities necessary for the lawful conduct of their respective businesses (the "TSG Permits"), except for failures to hold such permits, licenses, variances, exemptions, orders and approvals which, individually or in the aggregate, are not having and are not reasonably expected to have a Material Adverse Effect on TSG. TSG and its Subsidiaries are in compliance with the terms of the TSG Permits, except failures so to comply which, individually or in the aggregate, are not having and are not reasonably expected to have a Material Adverse Effect on TSG. TSG and its Subsidiaries are not in violation of or default under any Laws or Orders, except for such violations or defaults which, individually or in the aggregate, are not having and are not reasonably expected to have a Material Adverse Effect on TSG. Section 3.17 Environmental Matters. (a) Except as set forth on Schedule 3.17 to the TSG Disclosure Letter: (i) no notice, notification, demand, request for information, citation, summons or order has been received by, no complaint has been filed against, no penalty has been assessed against, and no investigation, action, claim, suit, proceeding or review is pending or, to the knowledge of TSG or any Subsidiary of TSG, is threatened by any Person against, TSG or any Subsidiary of TSG with respect to any matters relating to or arising out of any Environmental Law; (ii) no Hazardous Substance has been discharged, disposed of, dumped, injected, pumped, deposited, spilled, leaked, emitted or released, in violation of any Environmental Law, at, on, under or adjacent to any property now or, to the knowledge of TSG, previously owned, leased or operated by TSG or any Subsidiary of TSG; and 20 (iii) there are no Environmental Liabilities. (b) For purposes of this Section, the following terms shall have the meanings set forth below: (i) "TSG" and "Subsidiary of TSG" shall include any entity which is, in whole or in part, a predecessor of TSG or any of its Subsidiaries; (ii) "Environmental Laws" means any and all federal, state, local and foreign law (including common law), treaty, judicial decision, regulation, rule, judgment, order, decree, injunction, permit, or governmental restrictions or any agreement with any governmental authority or other third party, relating to human health and safety, the physical condition of any real property now or formerly owned, leased or operated by TSG of any of its Subsidiaries or of any improvements thereon, the environment or to pollutants, contaminants, wastes or chemicals or toxic, radioactive, ignitable, corrosive, reactive or otherwise hazardous substances, wastes or materials, including without limitation Hazardous Substances as defined herein; (iii) "Environmental Liabilities" means any and all liabilities of or relating to TSG or any Subsidiary of TSG of any kind whatsoever, whether accrued, contingent, absolute, determined, determinable or otherwise, which (A) arise under or relate to matters covered by Environmental Laws and (B) arise from actions occurring or conditions existing on or prior to the Effective Time; and (iv) "Hazardous Substances" means any pollutant, contaminant, waste or chemical or any toxic, radioactive, corrosive, reactive or otherwise hazardous substance, waste or material, or any substance having any constituent elements displaying any of the foregoing characteristics, including, without limitation, petroleum, its derivatives, by-products and other hydrocarbons, or any substance, waste or material regulated under any Environmental Laws. Section 3.18 Assets. The assets, properties, rights and contracts, including (as applicable) title or leaseholds thereto, of TSG and its Subsidiaries, taken as a whole, are sufficient to permit TSG and its Subsidiaries to conduct their respective businesses as currently being conducted. Neither TSG nor its Subsidiaries owns any real property. Section 3.19 Intellectual Property Rights. (a) TSG and its Subsidiaries own or have the right to use, all Intellectual Property individually or in the aggregate material to the conduct of the businesses of TSG and its 21 Subsidiaries. To the knowledge of TSG, (i) neither TSG nor any Subsidiary of TSG is in default (or with the giving of notice or lapse of time or both would be in default) under any license to use such Intellectual Property, (ii) such Intellectual Property (other than patents) is not being infringed by any third party, and (iii) neither TSG nor any Subsidiary of TSG is infringing any intellectual property of any third party. For purposes of this Agreement, "Intellectual Property" means patents and patent rights, trademarks and trademark rights, trade names and trade name rights, copyrights and copyright rights and other proprietary intellectual property rights and all pending applications for and registrations of any of the foregoing that TSG or its Subsidiaries own, license or otherwise have the right to use. An accurate schedule of all Intellectual Property of TSG or its Subsidiaries consisting of patents, registered trademarks, registered trade names and registered copyrights and all pending applications therefor is set forth on Schedule 3.19 to the TSG Disclosure Letter; (b) Either TSG or one of its Subsidiaries currently is, or, with respect to a former Subsidiary of TSG that was merged into TSG, will be as of the Closing Date, listed in the records of the appropriate United States, state or foreign agency as the sole owner of record for each application and registration included in the Intellectual Property, other than Intellectual Property of which TSG or its Subsidiaries is a licensee; (c) TSG and its Subsidiaries, with respect to all Intellectual Property owned thereby, have taken or caused to be taken all reasonable steps in the exercise of reasonable business judgment to obtain and retain valid and enforceable Intellectual Property rights therein, including the submission of all necessary filings in accordance with the legal and administrative requirements of the appropriate jurisdictions. No application or registration listed on Schedule 3.19 to the TSG Disclosure Letter is the subject of any pending, existing or, to TSG's knowledge, threatened, opposition, interference, cancellation proceeding or other legal or governmental proceeding before any registration authority in any jurisdiction; and (d) The consummation of the transactions contemplated hereby will not result in the loss or impairment of TSG's or any of its Subsidiaries' right to own or use any of the Intellectual Property nor will it require the consent of any Governmental Authority or third party. Section 3.20 Labor Matters. TSG has previously furnished to Elcotel true and complete copies of all labor and collective bargaining agreements to which TSG or any of its Subsidiaries is a party and that are currently in effect, together with all amendments thereto (if any). Since January 1, 1996, there have been no strikes, slow downs or other work stoppages or lockouts involving any employees of TSG or any of its Subsidiaries and there are no disputes by any labor organization in progress or pending or, to the knowledge of TSG, threatened against TSG or any of its Subsidiaries that would have a Material Adverse Effect on TSG. TSG and its Subsidiaries are in compliance in all material respects with all applicable laws and regulations in respect of employment and employment practices, terms and conditions of employment, wages and hours, occupational safety, health or 22 welfare conditions relating to premises occupied, and civil rights. There are no charges of unfair labor practices pending before any Governmental Authority involving or affecting TSG or any of its Subsidiaries. As of the date of this Agreement, there is no representation claim or petition pending before the National Labor Relations Board and, to the knowledge of TSG, no question concerning representation exists with respect to the employees of TSG or any of its Subsidiaries. TSG has not received notice that any customer or supplier of TSG or any or its Subsidiaries is involved in or threatened with or affected by any strike or other labor disturbance or dispute, litigation or administrative proceeding or judgment, order, injunction, decree or award, the consequences of which would have a Material Adverse Effect on TSG. Section 3.21 Transactions with Affiliates. Except to the extent disclosed in the TSG SEC Documents filed prior to the date of this Agreement, none of the officers or directors of TSG or any of its Subsidiaries nor any of its Affiliates, and, to its knowledge, none of its key employees or the key employees of any of its Subsidiaries, is a party to any transaction with TSG or any of its Subsidiaries (other than for services as an employee, officer or director and other than transactions between TSG and one or more of its direct or indirect wholly owned Subsidiaries or between such Subsidiaries), including, without limitation, any contract, agreement or other arrangement (i) providing for the furnishing of services to or by, (ii) providing for rental of real or personal property to or from, or (iii) otherwise requiring payments to or from, any such officer, director, Affiliate or key employee, any member of the family of any such officer, director or key employee or any corporation, partnership, trust or other entity in which any such officer, director or key employee has substantial interest (excluding the ownership of not more than two percent (2%) of the capital stock of a publicly traded corporation) or which is an Affiliate of such officer, director or key employee. Section 3.22 Insurance. Schedule 3.22 to the TSG Disclosure Letter sets forth a complete and accurate list of all primary, excess and umbrella policies, bonds and other forms of insurance currently owned or held by or on behalf of or providing insurance coverage to TSG or any of its Subsidiaries and their respective businesses, properties and assets (or its directors, officers, agents or employees). All such policies are in full force and effect. Neither TSG nor any of its Subsidiaries has received notice of default under any such policy, or has received written notice of any pending or threatened termination or cancellation, coverage limitation or reduction, or material premium increase with respect to any such policy the failure of which to maintain, has a Material Adverse Effect on TSG. Schedule 3.22 to the TSG Disclosure Letter sets forth a complete and accurate summary of all of the self-insurance coverage provided by TSG or any of its Subsidiaries and no letters of credit have been posted in respect thereof. Section 3.23 Takeover Statutes. The Board of Directors of TSG has duly and validly approved the Merger, this Agreement and the transactions contemplated by this Agreement and such approval is sufficient to render inapplicable to the Merger, this Agreement, and the transactions contemplated by this Agreement and the Voting Agreement the provisions of Section 203 of the Delaware Law. No other "fair price", "moratorium", "control share acquisition" or other similar antitakeover statute or regulation enacted under state or federal laws in the United States (each, a "Takeover Statute") applicable to TSG or any of its Subsidiaries is applicable to the Merger or the other transactions contemplated hereby. 23 Section 3.24 Finders' Fees. Except for a fee to Wexford Management LLC, a copy of whose engagement letter has been provided to Elcotel, no investment banker, broker, finder, other intermediary or other Person is entitled to any fee or commission from TSG or any Subsidiary of TSG upon consummation of the transactions contemplated by this Agreement. ARTICLE IV REPRESENTATIONS AND WARRANTIES OF ELCOTEL Elcotel represents and warrants to TSG that: Section 4.01 Organization and Power. Each of Elcotel and its Subsidiaries is a corporation, partnership or other entity duly organized, validly existing and is in good standing under the laws of the jurisdiction of its incorporation or organization, and has the requisite corporate or other power and authority and governmental approvals to own, lease and operate its properties and to carry on its business as now being conducted. Each of Elcotel and its Subsidiaries is duly qualified or licensed to do business and is in good standing in each jurisdiction in which the property owned, leased or operated by it or the nature of the business conducted by it makes such qualification or licensing necessary, except where the failure to be so duly qualified or licensed and in good standing would not, individually or in the aggregate, have a Material Adverse Effect on Elcotel. Schedule 4.01 to the Elcotel Disclosure Letter sets forth a complete list of Elcotel's Subsidiaries, all of which are wholly owned, directly or indirectly, by Elcotel. Elcotel has heretofore delivered to TSG true and complete copies of Elcotel's and Merger Subsidiary's certificate of incorporation and bylaws as currently in effect. Section 4.02 Corporate Authorization. The execution, delivery and performance by Elcotel and Merger Subsidiary of this Agreement and the consummation by Elcotel and Merger Subsidiary of the transactions contemplated hereby are within the corporate power of Elcotel and Merger Subsidiary and, except for any required approval by the stockholders of Elcotel of the issuance of shares of Elcotel Common Stock in connection with the Merger, have been duly authorized by all necessary corporate action, including the Board of Directors of Merger Subsidiary and the Board of Directors of Elcotel, in its capacity as the sole stockholder of Merger Subsidiary. This Agreement has been duly executed and delivered by each of Elcotel and Merger Subsidiary and, subject to the approval of the holders of Elcotel Common Stock with respect to the issuance of shares of Elcotel Common Stock in connection with the Merger (including any shares contemplated by Sections 1.04 and 1.05), constitutes a legal, valid and binding agreement of each of Elcotel and Merger Subsidiary, enforceable against Elcotel or Merger Subsidiary, as applicable, in accordance with its terms (subject to applicable 24 bankruptcy, insolvency, reorganization, moratorium, fraudulent transfer and other similar laws affecting creditors' rights generally from time to time in effect and to general principles of equity, regardless of whether in a proceeding in equity or at law). The shares of Elcotel Common Stock issued in connection with the Merger, when issued in accordance with the terms hereof, will be duly authorized, validly issued, fully paid and nonassessable and not subject to preemptive rights. Section 4.03 Governmental Authorization. The execution, delivery and performance by Elcotel and Merger Subsidiary of this Agreement, and the consummation by Elcotel and Merger Subsidiary of the transactions contemplated hereby, require no action by or in respect of, or filing with or notice to, any Governmental Authority, other than (a) the filing of a certificate of merger with respect to the Merger with the Delaware Secretary of State and appropriate documents with the relevant authorities of other states in which Merger Subsidiary is qualified to do business; (b) compliance with any applicable requirements of the HSR Act; (c) compliance with any applicable requirements of the 1933 Act; (d) compliance with any applicable requirements of the 1934 Act; (e) compliance with any other applicable securities laws; and (f) those set forth on Schedule 4.03 to the Elcotel Disclosure Letter. Section 4.04 Non-Contravention. Except as set forth on Schedule 4.04 to the Elcotel Disclosure Letter, the execution, delivery and performance by Elcotel and Merger Subsidiary of this Agreement do not, and the consummation by Elcotel and Merger Subsidiary of the transactions contemplated hereby will not require the consent of any other Person, or conflict with, result in a violation or breach of, constitute (with or without notice or lapse of time or both) a default under, result in or give to any Person any right of payment or reimbursement, termination, cancellation, modification or acceleration of, or result in the creation or imposition of any Lien on any of the assets or properties of Elcotel or any of its Subsidiaries under, any of the terms, conditions or provisions of (a) the certificate or articles of incorporation, bylaws or similar organizational documents of Elcotel or any of its Subsidiaries, (b) assuming receipt of the approval of stockholders referred to in Section 4.02, and compliance with the matters referred to in Section 4.03, any Laws or Orders binding upon or applicable to Elcotel or any Subsidiary of Elcotel or any of their respective assets or properties, or (c) any note, bond, mortgage, security agreement, indenture, lease, contract, instrument or other agreement of any kind to which Elcotel or any Subsidiary of Elcotel is a party or by which Elcotel or any Subsidiary of Elcotel or any of their respective assets or properties is bound (an "Elcotel Agreement") or any license, franchise, permit or other similar authorization held by Elcotel or any Subsidiary of Elcotel. Section 4.05 Capitalization of Elcotel. (a) The authorized capital stock of Elcotel consists of 20,000,000 shares of Elcotel Common Stock, par value $0.01 per share. As of the close of business on July 31, 1997, 25 (i) 8,182,217 shares of Elcotel Common Stock are issued and outstanding, 52,000 shares of Elcotel Common Stock are issued and held in the treasury of Elcotel, and 1,775,000 shares of Elcotel Common Stock are reserved for issuance under Elcotel's 1991 Stock Option Plan and Elcotel's Directors' Stock Option Plan (collectively the "Elcotel Plans") and (ii) options to purchase 661,848 shares of Elcotel Common Stock under the Elcotel Plans ("Elcotel Options") were outstanding. All the outstanding shares of Elcotel Common Stock are, and all shares reserved for issuance will be, when issued in accordance with the terms specified in the instruments or agreements pursuant to which they are issuable, duly authorized, validly issued, fully paid and non-assessable. Except (i) as set forth in this Section 4.05, (ii) for Elcotel Common Stock that may be issued as provided in Section 5.02(e); and (iii) for the transactions contemplated by this Agreement (including those permitted in Article II), there are outstanding (x) no shares of capital stock or other voting securities of Elcotel, (y) no securities of Elcotel convertible into or exchangeable for shares of capital stock or voting securities of Elcotel, and (z) no options, warrants or other rights to acquire from Elcotel, and no preemptive or similar rights, subscriptions or other rights, convertible securities, agreements, arrangements or commitments of any character, obligating Elcotel to issue, transfer or sell, any capital stock, voting securities or securities convertible into or exchangeable for capital stock or voting securities of Elcotel or obligating Elcotel to grant, extend or enter into any such option, warrant, subscription or other right, convertible security, agreement, arrangement or commitment (the items in clauses (x), (y) and (z) being referred to collectively as the "Elcotel Securities"). (b) There are no voting trusts or other agreements or understandings to which Elcotel or any Subsidiary of Elcotel is a party with respect to the voting of the capital stock of Elcotel or any Subsidiary of Elcotel. None of Elcotel or its Subsidiaries has any contractual obligation to redeem, repurchase or otherwise acquire any Elcotel Securities, including as a result of the transactions contemplated by this Agreement. Except as permitted by this Agreement, following the Merger, Elcotel will not have any obligation to issue, transfer or sell any shares of its capital stock pursuant to any employee benefit plan or otherwise. Section 4.06 Capitalization of Subsidiaries. Except as set forth on Schedule 4.06 to the Elcotel Disclosure Letter, all of the outstanding shares of capital stock of, or other ownership interests in, each Subsidiary of Elcotel, are duly authorized, validly issued, fully paid and nonassessable and are owned beneficially, and of record, by Elcotel, directly or indirectly, free and clear of any consensual Lien (including any restriction on the right to vote, sell or otherwise dispose of such capital stock or other ownership interests). There are no (i) outstanding securities of Elcotel or any Subsidiary of Elcotel convertible into or exchangeable for shares of capital stock or other voting securities or ownership interests in any Subsidiary of Elcotel, or (ii) options, warrants or other rights to acquire from Elcotel or any Subsidiary of Elcotel, and no other obligation of Elcotel or any Subsidiary of Elcotel to issue, any capital stock, voting securities or other ownership interests in, or any securities convertible into or exchangeable for, any capital stock, voting securities or ownership interests in, any Subsidiary of Elcotel (the items in clauses (i) and (ii) being referred to collectively as the "Elcotel Subsidiary Securities"). 26 Section 4.07 SEC Filings. (a) Elcotel has filed all reports, schedules, forms, statements and other documents with the SEC required to be filed by Elcotel since April 1, 1995 (the "Elcotel SEC Documents"); (b) As of its filing date, each Elcotel SEC Document filed pursuant to the 1934 Act complied as to form in all material respects with the 1934 Act and did not contain any untrue statement of a material fact or omit to state any material fact necessary in order to make the statements therein, in the light of the circumstances under which they were made, not misleading; and (c) Each Elcotel SEC Document that is a registration statement, as amended or supplemented, if applicable, filed pursuant to the 1933 Act as of the date such registration statement or amendment became effective complied as to form in all material respects with the requirements of the 1933 Act and did not contain any untrue statement of a material fact or omit to state any material fact necessary in order to make the statements therein, in light of the circumstances under which they were made, not misleading. Section 4.08 Financial Statements. The audited consolidated financial statements included in Elcotel's Annual Report on Form 10-K for the fiscal year ended March 31, 1997 (the "Elcotel 10-K") and the unaudited consolidated interim financial statements of Elcotel included in the Elcotel SEC Documents filed after such date (collectively the "Elcotel Financial Statements") complied, or will comply, as to form in all material respects with the published rules and regulations of the SEC with respect thereto, have been prepared in accordance with GAAP applied on a consistent basis during the periods involved (except as may be indicated in the notes thereto) and fairly present the consolidated financial position of Elcotel and its consolidated Subsidiaries as of the dates thereof and their consolidated results of operations and cash flows for the periods then ended (subject to footnote disclosures and normal year-end adjustments in the case of any unaudited interim financial statements). The Elcotel Financial Statements have been prepared from and are consistent with the books and records of Elcotel, which reflect all material transactions of Elcotel and its Subsidiaries. For purposes of this Agreement, "Elcotel Balance Sheet" means the consolidated balance sheet of Elcotel as of March 31, 1997 set forth in the Elcotel 10-K and "Elcotel Balance Sheet Date" means March 31, 1997. Section 4.09 Information Supplied. None of the information supplied or to be supplied by Elcotel for inclusion or incorporation by reference in and none of the statements based on such information contained in (i) the Proxy Statement will, at the date the Proxy Statement is first mailed to stockholders and at the time of the meetings of such stockholders in connection with the Merger, contain any untrue statement of a material fact or 27 omit to state any material fact necessary in order to make the statements therein, in light of the circumstances under which they were made, not misleading, or (ii) the Form S-4 will, at the time the Form S-4 becomes effective under the 1933 Act or at the Effective Time, contain any untrue statement of a material fact or omit to state a material fact necessary in order to make the statements therein, in the light of the circumstances under which they were made, not misleading. Section 4.10 Absence of Certain Changes. Except as disclosed in the Elcotel SEC Documents filed prior to the date of this Agreement or as disclosed on Schedule 4.10 to the Elcotel Disclosure Letter, since March 31, 1997, Elcotel and its Subsidiaries have conducted their respective businesses as in the ordinary course consistent with past practice and there has not been: (a) any event, occurrence or development which, individually or in the aggregate, has had or would be reasonably likely to have a Material Adverse Effect on Elcotel; (b) any declaration, setting aside or payment of any dividend or other distribution with respect to any shares of capital stock of Elcotel, any issuance of Elcotel Common Stock other than upon exercise of Elcotel Options outstanding on March 28, 1997, or any repurchase, redemption or other acquisition by Elcotel or any Subsidiary of Elcotel of any amount of outstanding shares of capital stock or other equity securities of, or other ownership interests in, Elcotel or any Subsidiary of Elcotel; (c) any amendment of any term of any Elcotel Securities or any Elcotel Subsidiary Securities; (d) (i) any incurrence or assumption by Elcotel or any Subsidiary of Elcotel of any indebtedness for borrowed money other than under existing credit facilities in the ordinary course of business consistent with past practices or (ii) any guarantee, endorsement or other incurrence or assumption of liability (whether directly, contingently or otherwise) by Elcotel or any Subsidiary of Elcotel for the obligations of any other Person (other than any wholly owned Subsidiary of Elcotel); (e) any creation or assumption by Elcotel or any Subsidiary of Elcotel of any consensual Lien on any material asset of Elcotel or any Subsidiary of Elcotel; (f) any making of any loan, advance or capital contribution to or investment in any Person by Elcotel or any Subsidiary of Elcotel other than (i) loans, advances or capital contributions to or investments in wholly-owned Subsidiaries of Elcotel or (ii) loans or advances to employees of Elcotel or any Subsidiary of Elcotel made in the ordinary course of business consistent with past practice; 28 (g) (i) any contract or agreement entered into by Elcotel or any Subsidiary of Elcotel on or prior to the date hereof relating to any material acquisition or disposition of any assets or business or (ii) any modification, amendment, assignment, termination or relinquishment by Elcotel or any Subsidiary of Elcotel of any contract, license or other right (including any insurance policy naming it as a beneficiary or a loss payable payee) that would be reasonably likely to have a Material Adverse Effect on Elcotel, other than those contemplated by this Agreement; (h) any change in any method of accounting or accounting principles or practices by Elcotel or any Subsidiary of Elcotel, except for any such change required by reason of a change in GAAP; or (i) any (w) grant of any severance or termination pay to any director, officer or employee of Elcotel or any of its Subsidiaries, (x) entering into of any employment, deferred compensation or other similar agreement (or any amendment to any such existing agreement) with any director, officer or employee of Elcotel or any of its Subsidiaries, (y) increase in benefits payable under any existing severance or termination pay policies or employment agreements or (z) increase in compensation or bonus in excess of fifteen percent or increase in other benefits payable to officers or employees of Elcotel or any of its Subsidiaries or increase in compensation, bonus or other benefits payable to directors of Elcotel or any of its Subsidiaries. Section 4.11 No Undisclosed Liabilities. Neither Elcotel nor any Subsidiary of Elcotel has any material liabilities or obligations (whether pursuant to contracts or otherwise) of any kind whatsoever whether, accrued, contingent, absolute, determined, determinable or otherwise, except: (a) those liabilities and obligations set forth on the Elcotel Balance Sheet and not heretofore paid or discharged; (b) those liabilities and obligations incurred since April 1, 1997 in the ordinary course of business consistent with past practice; and (c) those liabilities or obligations under this Agreement or incurred in connection with the transactions contemplated hereby. Section 4.12 Litigation. Except as disclosed on Schedule 4.12 to the Elcotel Disclosure Letter, (i) there are no actions, suits, arbitrations, or proceedings pending or, to the knowledge of Elcotel, threatened against, relating to or affecting, nor are there any Governmental Authority investigations or audits pending or, to the knowledge of Elcotel, threatened against, relating to or affecting, Elcotel or any of its Subsidiaries or any of their respective assets or properties nor, to the knowledge of Elcotel, is there any valid basis for any such action, suit, arbitration, proceeding, investigation or audit, which if adversely determined would have a Material Adverse Effect on Elcotel, and (ii) neither Elcotel nor any of its Subsidiaries is subject to any order of any Governmental Authority which adversely affects the ability of Elcotel to consummate the transactions contemplated by this Agreement. 29 Section 4.13 Taxes. (a) All Tax Returns required to be filed by Elcotel, any of its Subsidiaries, or any corporation that was included in the filing of a return with Elcotel or its Subsidiaries on a consolidated, combined or unitary basis have been filed (the "Elcotel Tax Returns") and all Taxes required to be shown on the Elcotel Tax Returns, or a subsequent assessment with respect thereto, or otherwise due or payable (to the extent in excess of $50,000 in the aggregate) have been paid and any penalties and interest relating to such Taxes have been paid. No other Taxes (to the extent in excess of $50,000 in the aggregate) are payable by the Elcotel Group with respect to items or periods covered by such Tax Returns or with respect to Tax periods prior to the date of this Agreement. None of the Elcotel Tax Returns contain, or are required to contain, a disclosure statement under Section 6662 of the Code, or any similar provision of state, local or foreign law, with respect to any items that relate to Elcotel or its Subsidiaries in order to avoid a penalty for any taxable year. All Elcotel Tax Returns are true, correct and complete in all material respects. Elcotel has made available to TSG correct and complete copies of all Elcotel Tax Returns for all periods which are not closed by the statute of limitations. (b) No adjustment relating to any Elcotel Tax Returns has been proposed formally or, to Elcotel's knowledge, informally by any Governmental Authority (to the extent in excess of $50,000 in the aggregate), and no basis exists for any such adjustment that would have a Material Adverse Effect on TSG. There are no outstanding subpoenas or requests for information with respect to any Elcotel Tax Returns or portions thereof. There are no pending or, to Elcotel's knowledge, threatened actions or proceedings for the assessment or collection of Taxes for which Elcotel or its Subsidiaries may be liable (to the extent in excess of $50,000 in the aggregate). There are no Tax liens on any assets of Elcotel or its Subsidiaries, except with respect to Taxes which are not yet due and payable. (c) No consent under Section 341(f) of the Code has been filed with respect to Elcotel or any of its Subsidiaries. Neither Elcotel nor any of its Subsidiaries is or has been subject to the dual consolidated loss provisions of Section 1503 of the Code. (d) Elcotel and its Subsidiaries are members of an affiliated group (within the meaning of Section 1504 of the Code) that is eligible to file a consolidated return. No other entity is or has been eligible to file a consolidated or combined return with Elcotel and its Subsidiaries, and neither Elcotel nor its Subsidiaries have filed or consented to the filing of any Federal or state consolidated or combined return with any entity not a member of the Elcotel Group. Neither Elcotel nor any of its Subsidiaries has been at any time a member of any partnership or joint venture or the holder of a beneficial interest in any trust 30 for any Person for which the statute of limitations for any Tax potentially applicable as a result of such membership or holding has not expired. (e) Elcotel and its Subsidiaries have properly accrued all current or contested Taxes on their books and records, and their books and records reflect reserves that are adequate for the payment of all Taxes not yet due and payable that are properly accruable thereon through the date of this Agreement (including Taxes being contested). Neither Elcotel nor any of its Subsidiaries have any material liability for any Taxes in excess of amounts accrued or the reserves established. All Taxes required to be withheld, collected or deposited in connection with the operations and activities of Elcotel or its Subsidiaries have been timely withheld, collected or deposited and, to the extent required, have been paid to the relevant taxing authority. (f) Elcotel does not own, nor has it owned during the past five years, any of the capital stock of TSG. At the Effective Time, the fair market value of the assets of Elcotel will exceed the sum of its liabilities, plus the amount of other liabilities, if any, to which the assets are subject. (g) There are no requests for rulings, determinations or information currently outstanding that could affect the Taxes of Elcotel or any of its Subsidiaries. (h) The Elcotel Tax Returns have been audited by the Service or other governmental agency (or closed by applicable statutes of limitations) and all Tax liabilities in respect thereof have been finally determined for all taxable years ending on or before March 31, 1993. There are no outstanding waivers or agreements extending the statute of limitations for any period with respect to any Tax to which Elcotel or any of its Subsidiaries may be liable. (i) The term "Elcotel Group" shall mean, individually and collectively, (i) Elcotel, (ii) its Subsidiaries, and (iii) any trust, corporation, partnership or any other entity as to which Elcotel or its Subsidiaries is liable for Taxes incurred by such entity either as a transferee, or pursuant to Treasury Regulations Section 1.1502-6, or pursuant to any other provision of federal, state, local or foreign law or regulations. (j) Elcotel has made available to TSG a true and complete copy of any: (i) elections, letter rulings and determination letters relating to Taxes with respect to Elcotel or its Subsidiaries; and (ii) examination reports, closing agreements and statements of deficiencies for Taxes assessed against or agreed to by Elcotel or any of its Subsidiaries. 31 Section 4.14 Employee Benefits; ERISA. (a) Except as set forth on Schedule 4.14(a) to the Elcotel Disclosure Letter, there are no employee benefit plans (including any plans for the benefit of directors or former directors), contracts or agreements (including employment agreements and severance agreements, incentive compensation, bonus, stock option, stock appreciation rights and stock purchase plans) of any type (including plans described in Section 3(3) of ERISA), maintained by Elcotel, any of its Subsidiaries or any trade or business, whether or not incorporated (an "Elcotel ERISA Affiliate"), that together with Elcotel would be deemed a "controlled group" within the meaning of Section 4001(a)(14) of ERISA, or with respect to which Elcotel or any of its Subsidiaries has or may have a liability (the "Elcotel Benefit Plans"). Except as disclosed on Schedule 4.14 to the Elcotel Disclosure Letter, since March 31, 1997, there has been no change, amendment, modification to, or adoption of, any Elcotel Benefit Plan; (b) With respect to each Elcotel Benefit Plan: (i) if intended to qualify under Section 401(a), 401(k) or 403(a) of the Code, each such plan so qualifies, and its trust is exempt from taxation under Section 501(a) of the Code; (ii) no failure to administer such plan in accordance with its terms and applicable law have occurred that have had or would reasonably be expected to have a Material Adverse Effect on Elcotel; (iii) no breaches of fiduciary duty have occurred; (iv) no prohibited transaction within the meaning of Section 406 of ERISA has occurred; (v) as of the date of this Agreement, no lien imposed under the Code or ERISA exists; and (vi) all contributions and premiums due (including any extensions for such contributions and premiums) have been made in full; (c) None of the Elcotel Benefit Plans has incurred any "accumulated funding deficiency", as such term is defined in Section 412 of the Code, whether or not waived; (d) Neither Elcotel nor any ERISA Affiliate has incurred any liability under Title IV of ERISA (including Sections 4063-4064 and 4069 of ERISA) since the effective date of ERISA that has not been satisfied in full; (e) With respect to each Elcotel Benefit Plan that is a "welfare plan" (as defined in Section 3(1) of ERISA), no such plan provides medical or death benefits with respect to current or former employees of Elcotel or any of its Subsidiaries beyond their termination of employment, other than as required by law or on an employee-pay-all basis; (f) The consummation of the Merger pursuant to this Agreement will not (i) entitle any individual to severance pay or any tax "gross-up" payments with respect to the imposition of any tax pursuant to Section 4999 of the Code or accelerate the time of payment or vesting, or increase the amount, of compensation or benefits due to any individual with respect to any Elcotel Benefit Plan, or (ii) constitute or result in a prohibited transaction under Section 4975 of the Code or Section 406 or 407 of ERISA with respect to any Elcotel Benefit Plan; and 32 (g) There is no Elcotel Benefit Plan that is a "multiemployer plan", as such term is defined in Section 3(37) of ERISA, or which is covered by Section 4063 or 4064 of ERISA. Section 4.15 Certain Agreements; Compliance with Agreements. (a) Except as disclosed on Schedule 4.15 to the Elcotel Disclosure Letter or as provided for in this Agreement, neither Elcotel nor any of its Subsidiaries is a party to or bound by any oral or written: (i) consulting agreement not terminable on thirty (30) days' or less notice; (ii) agreement with any officer or other key employee the benefits of which are contingent, or the terms of which are materially altered, upon the occurrence of the transactions contemplated by this Agreement; (iii) agreement with respect to any officer providing any term of employment or compensation guarantee; (iv) agreement or plan, including any stock option plan, stock appreciation rights plan, employee stock ownership plan, restricted stock plan or stock purchase plan, any of the benefits of which will be increased, or the vesting of the benefits of which will be accelerated, by the occurrence of any of the transactions contemplated by this Agreement or the value of any of the benefits of which will be calculated on the basis of any of the transactions contemplated by this Agreement; (v) agreement containing covenants that limit the ability of Elcotel or any of its Subsidiaries to compete in any line of business or with any Person, or that involve any restriction on the geographic area in which, or method by which, Elcotel or any of its Subsidiaries may carry on its business (other than as may be required by law or any regulatory agency); (vi) agreement, contract or understanding, other than this Agreement and the certificate of incorporation and by-laws of Elcotel, regarding the capital stock of Elcotel or committing to dispose of some or all of the capital stock or all or substantially all of the assets of Elcotel; (vii) partnership, joint venture or profit sharing agreement of Elcotel or any of its Subsidiaries with any Person; 33 (viii) agreement, contract, commitment, indenture or other instrument of Elcotel or any of its Subsidiaries relating to the borrowing of money, or the direct or indirect guarantee of any obligation for, or an agreement to service the repayment of, borrowed money, or any other contingent obligation in respect to indebtedness of any other Person, including without limitation any agreement or arrangement relating to the maintenance of compensating balances, any agreement or arrangement with respect to lines of credit, any agreement or arrangement to purchase or repurchase obligations of any other Person, any agreement or arrangement to advance or supply funds to or to invest in any other Person, any agreement or arrangement to pay for property, products or services of any other Person even if such property, products or services are not conveyed, delivered or rendered, or any guarantee with respect to any lease or other similar periodic payment to be made by any other Person; (ix) lease of Elcotel or any of its Subsidiaries with annual rental payments aggregating $50,000 or more; (x) except as set forth on Schedule 5.02 to the Elcotel Disclosure Letter, agreement, contract or commitment of Elcotel or any of its Subsidiaries relating to the disposition or acquisition of any investment in any Person if such investment has a book value of, or the disposition or acquisition price of such investment or interest is, $50,000 or more; (xi) agreement, contract or commitment which involves payment or potential payment, pursuant to the terms of such agreement, contract or commitment, by or to Elcotel or any of its Subsidiaries of $50,000 or more within any twelve month period commencing after the date hereof; or (xii) agreement, contract, commitment or arrangement between Elcotel or any of its Subsidiaries and any Affiliate of Elcotel or any of its Subsidiaries that is not described in or filed as an exhibit to an Elcotel SEC Report. (b) Neither Elcotel nor any of its Subsidiaries nor, to the knowledge of Elcotel, any other party thereto is in breach or violation of or in default in the performance or observance of any term or provision of, and no event has occurred which, with notice or lapse of time or both, is reasonably expected to result in a default under, (i) the certificates or articles of incorporation, bylaws or similar organizational documents of Elcotel or any of its Subsidiaries or (ii) any contract, agreement, plan or instrument listed on Schedule 4.15 to the Elcotel Disclosure Letter, except in the case of clause (ii) for breaches, violations or defaults which, individually or in the aggregate, are not having and are not reasonably expected to have a Material Adverse Effect on Elcotel. No party to any such contract, agreement, plan or instrument will have the right to terminate any or all of the provisions of any such contract, plan or instrument as a result of the transactions contemplated by this Agreement. 34 Section 4.16 Compliance with Laws and Orders. Elcotel and its Subsidiaries hold all permits, licenses, variances, exemptions, orders and approvals of all Governmental Authorities necessary for the lawful conduct of their respective businesses (the "Elcotel Permits"), except for failures to hold such permits, licenses, variances, exemptions, orders and approvals which, individually or in the aggregate, are not having and are not reasonably expected to have a Material Adverse Effect on Elcotel. Elcotel and its Subsidiaries are in compliance with the terms of the Elcotel Permits, except failures so to comply which, individually or in the aggregate, are not having and are not reasonably expected to have a Material Adverse Effect on Elcotel. TSG and its Subsidiaries are not in violation of or default under any Laws or Orders, except for such violations or defaults which, individually or in the aggregate, are not having and are not reasonably expected to have a Material Adverse Effect on Elcotel. Section 4.17 Environmental Matters. (a) Except as set forth on Schedule 4.17 to the Elcotel Disclosure Letter: (i) no notice, notification, demand, request for information, citation, summons or order has been received by, no complaint has been filed against, no penalty has been assessed against, and no investigation, action, claim, suit, proceeding or review is pending or, to the knowledge of Elcotel or any Subsidiary of Elcotel, is threatened by any Person, against Elcotel or any Subsidiary of Elcotel with respect to any matters relating to or arising out of any Environmental Law; (ii) no Hazardous Substance has been discharged, disposed of, dumped, injected, pumped, deposited, spilled, leaked, emitted or released, in violation of any Environmental Law, at, on, under or adjacent to any property now or, to the knowledge of Elcotel, previously owned, leased or operated by Elcotel or any Subsidiary of Elcotel; and (iii) there are no Environmental Liabilities. (b) For purposes of this Section 4.17, capitalized terms used shall have the meanings assigned to them in Section 3.17(b), except that in all cases the word "Elcotel" shall be substituted for the word "TSG". Section 4.18 Assets. The assets, properties, rights and contracts, including (as applicable) title or leaseholds thereto, of Elcotel and its Subsidiaries, taken as a whole, are sufficient to permit Elcotel and its Subsidiaries to conduct their respective businesses as currently being conducted. All real property owned by Elcotel or its Subsidiaries is owned free and clear of all Liens, except (a) those reflected or reserved against 35 in the Elcotel Balance Sheet (or notes thereto), (b) taxes and general and special assessments not in default and payable without penalty or interest, and (c) Liens that do not materially adversely interfere with any present use of such property. Section 4.19 Intellectual Property Rights. (a) Elcotel and its Subsidiaries own or have the right to use, all Intellectual Property individually or in the aggregate material to the conduct of the businesses of Elcotel and its Subsidiaries. To the knowledge of Elcotel, (i) neither Elcotel nor any Subsidiary of Elcotel is in default (or with the giving of notice or lapse of time or both would be in default) under any license to use such Intellectual Property, (ii) such Intellectual Property (other than patents) is not being infringed by any third party, and (iii) neither Elcotel nor any Subsidiary of Elcotel is infringing any intellectual property of any third party. An accurate schedule of all Intellectual Property of Elcotel or its Subsidiaries consisting of patents, registered trademarks, registered trade names and registered copyrights and all pending applications therefor is set forth on Section 4.19 to the Elcotel Disclosure Letter; (b) Either Elcotel or one of its Subsidiaries currently is listed in the records of the appropriate United States, state or foreign agency as the sole owner of record for each application and registration included in the Intellectual Property, other than Intellectual Property of which Elcotel or its Subsidiaries is a licensee; (c) Elcotel and its Subsidiaries, with respect to all Intellectual Property owned thereby, have taken or caused to be taken all reasonable steps in the exercise of reasonable business judgment to obtain and retain valid and enforceable Intellectual Property rights therein, including the submission of all necessary filings in accordance with the legal and administrative requirements of the appropriate jurisdictions. No application or registration listed on Schedule 4.19 to the Elcotel Disclosure Letter is the subject of any pending, existing or, to Elcotel's knowledge, threatened, opposition, interference, cancellation proceeding or other legal or governmental proceeding before any registration authority in any jurisdiction; and (d) The consummation of the transactions contemplated hereby will not result in the loss or impairment of Elcotel's or any of its Subsidiaries' right to own or use any of the Intellectual Property nor will it require the consent of any Governmental Authority or third party. Section 4.20 Labor Matters. Elcotel has previously furnished to TSG true and complete copies of all labor and collective bargaining agreements to which Elcotel or any of its Subsidiaries is a party and that are currently in effect, together with all amendments thereto (if any). Since January 1, 1996, there have been no strikes, slow downs or other work stoppages or 36 lockouts involving any employees of Elcotel or any of its Subsidiaries and there are no disputes by any labor organization in progress or pending or, to the knowledge of Elcotel, threatened against Elcotel or any of its Subsidiaries that would have a Material Adverse Effect on Elcotel. Elcotel and its Subsidiaries are in compliance in all material respects with all applicable laws and regulations in respect of employment and employment practices, terms and conditions of employment, wages and hours, occupational safety, health or welfare conditions relating to premises occupied, and civil rights. There are no charges of unfair labor practices pending before any Governmental Authority involving or affecting Elcotel or any of its Subsidiaries. As of the date of this Agreement, there is no representation claim or petition pending before the National Labor Relations Board and, to the knowledge of Elcotel, no question concerning representation exists with respect to the employees of Elcotel or any of its Subsidiaries. Elcotel has not received notice that any customer or supplier of Elcotel or any or its Subsidiaries is involved in or threatened with or affected by any strike or other labor disturbance or dispute, litigation or administrative proceeding or judgment, order, injunction, decree or award, the consequences of which would have a Material Adverse Effect on Elcotel. Section 4.21 Transactions with Affiliates. Except to the extent disclosed in the Elcotel SEC Documents filed prior to the date of this Agreement, none of the officers or directors of Elcotel or any of its Subsidiaries nor any of its Affiliates, and, to its knowledge, none of its key employees or the key employees of any of its Subsidiaries, is a party to any transaction with Elcotel or any of its Subsidiaries (other than for services as an employee, officer or director and other than transactions between Elcotel and one or more of its direct or indirect wholly owned Subsidiaries or between such Subsidiaries), including, without limitation, any contract, agreement or other arrangement (i) providing for the furnishing of services to or by, (ii) providing for rental of real or personal property to or from, or (iii) otherwise requiring payments to or from, any such officer, director, Affiliate or key employee, any member of the family of any such officer, director or key employee or any corporation, partnership, trust or other entity in which any such officer, director or key employee has substantial interest (excluding the ownership of not more than two percent (2%) of the capital stock of a publicly traded corporation) or which is an Affiliate of such officer, director or key employee. Section 4.22 Insurance. Schedule 4.22 to the Elcotel Disclosure Letter sets forth a complete and accurate list of all primary, excess and umbrella policies, bonds and other forms of insurance currently owned or held by or on behalf of or providing insurance coverage to Elcotel or any of its Subsidiaries and their respective businesses, properties and assets (or its directors, officers, agents or employees). All such policies are in full force and effect. Neither Elcotel nor any of its Subsidiaries has received notice of default under any such policy, or has received written notice of any pending or threatened termination or cancellation, coverage limitation or reduction, or material premium increase with respect to any such policy the failure of which to maintain, has a Material Adverse Effect on Elcotel. Schedule 4.22 to the Elcotel Disclosure Letter sets forth a complete and accurate summary of all of the self- insurance coverage provided by Elcotel or any of its Subsidiaries and no letters of credit have been posted in respect thereof. 37 Section 4.23 Takeover Statutes. The Boards of Directors of Elcotel and Merger Subsidiary have duly and validly approved the Merger, this Agreement and the transactions contemplated by this Agreement and such approval is sufficient to render inapplicable to the Merger, this Agreement, and the transactions contemplated by this Agreement and the Voting Agreement, the provisions of Section 203 of the Delaware Law. No other Takeover Statute applicable to Elcotel or any of its Subsidiaries is applicable to the Merger or the other transactions contemplated hereby. Section 4.24 Finders' Fees. Except for a fee payable to Cameron Associates, a copy of whose engagement agreement has been provided to TSG, no investment banker, broker, finder, other intermediary or other Person is entitled to any fee or commission from Elcotel or any Subsidiary of Elcotel upon consummation of the transactions contemplated by this Agreement. Section 4.25 Opinion of Financial Advisor. Elcotel has received the written opinion of Murray, Devine & Co. to the effect that, as of the date hereof, the Merger Consideration to be received by the holders of Shares in the Merger is fair to Elcotel from a financial point of view. Elcotel has delivered to TSG a copy of such opinion. ARTICLE V COVENANTS Section 5.01 Conduct of TSG. From the date hereof until the Effective Time, except as otherwise expressly required by this Agreement or with the prior written consent of Elcotel, TSG shall conduct, and shall cause its Subsidiaries to conduct, their respective businesses in the ordinary course consistent with past practice and shall use their best efforts to preserve intact their business organizations and relationships with customers, suppliers, creditors and business partners and shall use their reasonable efforts to keep available the services of their present officers and employees. Without limiting the generality of the foregoing, from the date hereof until the Effective Time, without the prior written approval of Elcotel (which approval will not be unreasonably withheld or delayed with respect to (c), (d), (h), (i), (j), (n) or (o) or (k) as it applies to filing any amended Tax Return): (a) TSG will not adopt or propose any change in its certificate of incorporation or any change in its bylaws; (b) TSG will not, and will not permit any Subsidiary of TSG to, adopt a plan or agreement of complete or partial liquidation, or resolutions providing for or authorizing such liquidation or a dissolution, merger, consolidation, restructuring, recapitalization or other reorganization of TSG or any of its Subsidiaries (other than a liquidation or dissolution of any Subsidiary or a merger or consolidation between wholly owned Subsidiaries); 38 (c) TSG will not, and will not permit any Subsidiary of TSG to, make any investment in or any acquisition of the business of any Person or any material amount of assets (other than inventory); (d) TSG will not, and will not permit any Subsidiary of TSG to, sell or otherwise dispose of any assets (other than inventory) in an amount that would be material to TSG and its Subsidiaries, taken as a whole, except in the ordinary course of business consistent with past practice; (e) TSG will not, and will not permit any Subsidiary of TSG to, declare, set aside or pay any dividend or other distribution payable in cash, stock or property with respect to its capital stock other than dividends paid by any Subsidiary of TSG to TSG or any other Subsidiary of TSG, or split, combine, reclassify or take similar action with respect to any of its capital stock or TSG Securities or issue or authorize or propose the issuance of any other securities in respect of, in lieu of or in substitution for shares of its capital stock or TSG Securities; (f) TSG will not, and will not permit any Subsidiary of TSG to, issue, deliver, sell, transfer, pledge, dispose of or encumber any shares of, or securities convertible into or exchangeable for, or options, warrants, calls, commitments or rights of any kind to acquire, any shares of capital stock of any class or series of TSG or its Subsidiaries, other than the issuance of (i) options with an exercise price at least equal to the fair market value of the TSG Common Stock on the date of grant for up to 20,000 shares of TSG Common Stock under the Omnibus Plan as in effect on the date hereof, (ii) rights to purchase shares of TSG Common Stock granted pursuant to the Stock Purchase Plan as in effect on the date hereof during the offering period that commenced on July 14, 1997 and that will end on January 9, 1998, estimated at 9,306.14 shares of TSG Common Stock based on a stock price of $5.00 per share on July 14, 1997 and eligible employees with $39,551.11 of estimated aggregate compensation deductions (based on current compensation levels), (iii) options granted automatically under the Director Plan as in effect on the date hereof, and (iv) issuances of TSG Common Stock pursuant to the exercise of options granted pursuant to the TSG Option Plans and the exercise of TSG Warrants described in Section 3.05(a) which are outstanding on the date hereof, and TSG will not amend the terms of any option, warrant, right or other security outstanding under any of the TSG Plans or commence any new offering under the Stock Purchase Plan; (g) TSG will not, and will not permit any Subsidiary of TSG to, redeem, purchase or otherwise acquire directly or indirectly any of TSG's capital stock or any TSG Securities; 39 (h) TSG will not, and will not permit any Subsidiary of TSG to, enter into or amend in any material respect any employment contract with any of its officers, directors or employees earning annual compensation of more than $50,000, adopt or amend any TSG Benefit Plan in any material respect or make any payments, awards or distributions under any TSG Benefit Plan or otherwise not consistent with past practice or custom except (i) as required by a contract in existence on the date hereof and listed on Schedule 3.15 to the TSG Disclosure Letter; or (ii) as necessary to make any TSG Benefit Plan listed on Schedule 3.14 to the TSG Disclosure Letter meet the requirements of ERISA to the extent such amendment is described in such Schedule or is approved by Elcotel; (i) TSG will not, and will not permit any Subsidiary of TSG to, (i) enter into (or commit to enter into) any new lease or renew any existing lease (except pursuant to commitments for such lease or lease renewal entered into as of the date hereof) or (ii) purchase or acquire or enter into any agreement to purchase or acquire any real estate; (j) TSG will not, and will not permit any Subsidiary of TSG to, make or commit to make any capital expenditures in excess of $150,000 in the aggregate exclusive of existing commitments with Avex Electronics for capital expenditures not exceeding $200,000 in the aggregate. (k) TSG will not, and will not permit any Subsidiary of TSG to, change any tax election, change any annual tax accounting period, change any method of tax accounting, file any amended Tax Return, enter into any closing agreement relating to any Tax, settle any Tax claim or assessment, surrender any right to claim a Tax refund or consent to any extension or waiver (other than a reasonable extension or waiver) of the limitations period applicable to any Tax claim or assessment, if any such action would have the effect of increasing the aggregate Tax liability or reducing the aggregate tax assets of TSG and its Subsidiaries, taken as a whole, or, to the knowledge of TSG, Elcotel and its Subsidiaries, taken as a whole; (l) TSG will not, and will not permit any Subsidiary of TSG to, (i) incur any indebtedness for borrowed money or guarantee any such indebtedness other than in the ordinary course of its business consistent with past practice, or (ii) voluntarily purchase, cancel, prepay or otherwise provide for a complete or partial discharge in advance of a scheduled repayment date with respect to, or waive any right under, any indebtedness for borrowed money; (m) TSG will not, and will not permit any Subsidiary of TSG to, enter into any contract or amend or modify any existing contract, or engage in any new transaction outside the ordinary course of business consistent with past practice or not on an arm's length basis, with any Affiliate of such party or any of its Subsidiaries; (n) TSG will not, and will not permit any Subsidiary of TSG to, agree or commit to do any of the foregoing; and 40 (o) TSG will not, and will not permit any Subsidiary of TSG to, take or agree or commit to take any action that would make any representation or warranty of TSG in this Agreement inaccurate at, or as of any time prior to, the Effective Time. Section 5.02 Conduct of Elcotel. From the date hereof until the Effective Time, except as otherwise expressly required by this Agreement or with the prior written consent of TSG, Elcotel shall conduct, and shall cause its Subsidiaries to conduct, their respective businesses in the ordinary course consistent with past practice and shall use their best efforts to preserve intact their business organizations and relationships with customers, suppliers, creditors and business partners and shall use their reasonable efforts to keep available the services of their present officers and employees. Without limiting the generality of the foregoing, from the date hereof until the Effective Time, without the prior written approval of TSG (which approval will not be unreasonably withheld or delayed with respect to (c), (d), (h), (i), (j), (n) or (o) or (k) as it applies to filing any amended Tax Return): (a) Elcotel will not adopt or propose any change in its certificate of incorporation or any change in its bylaws, except as and to the extent required to consummate the Merger; (b) Elcotel will not, and will not permit any Subsidiary of Elcotel to, adopt a plan or agreement of complete or partial liquidation, or resolutions providing for or authorizing such liquidation or a dissolution, merger, consolidation, restructuring, recapitalization or other reorganization of Elcotel or any of its Subsidiaries (other than a liquidation or dissolution of any Subsidiary or a merger or consolidation between wholly owned Subsidiaries); (c) Except as set forth on Schedule 5.02 to the Elcotel Disclosure Letter, Elcotel will not, and will not permit any Subsidiary of Elcotel to, make any investment in or any acquisition of the business of any Person or any material amount of assets (other than inventory); (d) Elcotel will not, and will not permit any Subsidiary of Elcotel to, sell or otherwise dispose of any assets (other than inventory) in an amount that would be material to Elcotel and its Subsidiaries, taken as a whole, except in the ordinary course of business consistent with past practice; (e) Elcotel will not, and will not permit any Subsidiary of Elcotel to, declare, set aside or pay any dividend or other distribution payable in cash, stock or property with respect to its capital stock, other than dividends paid by any Subsidiary of Elcotel to Elcotel or any other Subsidiary of Elcotel, or split, combine, reclassify or take similar action with respect to any of its capital stock or Elcotel Securities or issue or authorize or propose the issuance of any other securities in respect of, in lieu of or in substitution for shares of its capital stock of Elcotel Securities; 41 (f) Elcotel will not, and will not permit any Subsidiary of Elcotel to, issue, deliver, sell, transfer, pledge, dispose of or encumber any shares of, or securities convertible into or exchangeable for, or options, warrants, calls, commitments or rights of any kind to acquire, any shares of capital stock of any class or series of Elcotel or its Subsidiaries, other than (x) issuances by any Subsidiary of Elcotel to Elcotel or any other Subsidiary of Elcotel, (y) issuances pursuant to the exercise of options granted pursuant to the Elcotel Plans described in Section 4.05(a) which are outstanding on the date hereof or granted as contemplated in clause (z) below, and (z) any grant of options to purchase Elcotel Common Stock to new employees of Elcotel or any of its Subsidiaries pursuant to the Elcotel Plans that could result in the issuance of not more than 75,000 shares in the aggregate of Elcotel Common Stock; (g) Elcotel will not, and will not permit any Subsidiary of Elcotel to, redeem, purchase or otherwise acquire directly or indirectly any of Elcotel's capital stock or any Elcotel Securities; (h) Elcotel will not, and will not permit any Subsidiary of Elcotel to, enter into or amend in any material respect any employment contract with any of its officers, directors or employees earning annual compensation of more than $50,000 (other than as contemplated by Section 6.06), adopt or amend any Elcotel Benefit Plan in any material respect or make any payments, awards or distributions under any Elcotel Benefit Plan or otherwise not consistent with past practice or custom except (i) as required by a contract in existence on the date hereof and listed on Schedule 4.15 to the Elcotel Disclosure Letter; or (ii) as necessary to make any Elcotel Benefit Plan listed on Schedule 4.14 to the Elcotel Disclosure Letter meet the requirements of ERISA to the extent such amendment is described in such Schedule or is approved by TSG; (i) Elcotel will not, and will not permit any Subsidiary of Elcotel to, (i) enter into (or commit to enter into) any new lease or renew any existing lease (except pursuant to commitments for such lease or lease renewal entered into as of the date hereof) or (ii) purchase or acquire or enter into any agreement to purchase or acquire any real estate; (j) Except as set forth on Schedule 5.02 to the Elcotel Disclosure Letter, Elcotel will not, and will not permit any Subsidiary of Elcotel to, make or commit to make any capital expenditures in excess of $150,000 in the aggregate; (k) Elcotel will not, and will not permit any Subsidiary of Elcotel to, change any tax election, change any annual tax accounting period, change any method of tax accounting, file any amended Tax Return, enter into any closing agreement relating to any Tax, settle any Tax claim or assessment, surrender 42 any right to claim a Tax refund or consent to any extension or waiver (other than a reasonable extension or waiver) of the limitations period applicable to any Tax claim or assessment, if any such action would have the effect of increasing the aggregate Tax liability or reducing the aggregate tax assets of TSG and its Subsidiaries, taken as a whole, or, to the knowledge of Elcotel, TSG and its Subsidiaries, taken as a whole; (l) Elcotel will not, and will not permit any Subsidiary of Elcotel to, (i) incur any indebtedness for borrowed money or guarantee any such indebtedness other than in the ordinary course of its business consistent with past practice or other than in connection with the transactions contemplated by this Agreement, or (ii) voluntarily purchase, cancel, prepay or otherwise provide for a complete or partial discharge in advance of a scheduled repayment date with respect to, or waive any right under, any indebtedness for borrowed money; (m) Elcotel will not, and will not permit any Subsidiary of Elcotel to, enter into any contract or amend or modify any existing contract, or engage in any new transaction outside the ordinary course of business consistent with past practice or not on an arm's length basis, with any Affiliate of such party or any of its Subsidiaries; (n) Elcotel will not, and will not permit any Subsidiary of Elcotel to, agree or commit to do any of the foregoing; and (o) Elcotel will not, and will not permit any Subsidiary of Elcotel to, take or agree or commit to take any action that would make any representation or warranty of Elcotel in this Agreement inaccurate at, or as of any time prior to, the Effective Time. Section 5.03 No Solicitation. From the date hereof until the earlier of the Effective Time and the termination of this Agreement, TSG agrees that (a) it will not, and will cause its Subsidiaries and the officers, directors, employees, investment bankers, consultants and other agents of TSG and its Subsidiaries and the Affiliates of TSG not to, directly or indirectly, initiate, solicit, encourage (including by way of furnishing information) or facilitate or take any action to initiate, solicit, encourage or facilitate any inquiries or the making or implementation of any proposal or offer (including, without limitation, any proposal or offer to its stockholders) with respect to a merger, consolidation or other business combination including TSG or any of its Subsidiaries or any acquisition or similar transaction (including, without limitation, a tender or exchange offer) involving the purchase of (x) all or any significant portion of the assets of TSG and its Subsidiaries taken as a whole, (y) 5% or more of the outstanding shares of TSG Common Stock or (z) 15% of the outstanding shares of the capital stock of any Subsidiary of TSG (any such proposal or offer being hereinafter referred to as an "Alternative Proposal"), or engage in any discussions or negotiations concerning, or provide any confidential information or data to, or have any discussions with, any person or group relating to an Alternative Proposal (excluding the transactions contemplated by this Agreement) or otherwise facilitate any effort or attempt to make or implement an Alternative Proposal; (b) it will immediately cease and cause to be terminated and will cause its Subsidiaries and the officers, 43 directors, employees, investment bankers, consultants and other agents of TSG and its Subsidiaries and the Affiliates of TSG to immediately cease and terminate, any existing activities, discussions or negotiations with any parties with respect to any of the foregoing, and it will take the necessary steps to inform such parties of its obligations under this Section; and (c) it will notify Elcotel immediately (and in no event later than 24 hours after receipt of any Alternative Proposal) if any such inquiries, proposals or offers are received by, any such information is requested from, or any such negotiations or discussions are sought to be initiated or continued with, it or any of such Persons; provided, however, that nothing contained in this Section 5.03 shall prohibit the Board of Directors of TSG from (i) furnishing information to (but only pursuant to a confidentiality agreement in customary form and having terms and conditions substantially comparable to the Confidentiality Agreement) or entering into discussions or negotiations with any person or group that makes an unsolicited bona fide Alternative Proposal, if, and only to the extent that, (A) the Board of Directors of TSG, based upon the written opinion of outside counsel (a copy of which shall be provided promptly to Elcotel), determines in good faith that such action is required for the Board of Directors to comply with its fiduciary duties to stockholders imposed by Delaware Law, (B) prior to furnishing such information to, or entering into discussions or negotiations with, such Person or group, TSG provides written notice to Elcotel to the effect that it is furnishing information to, or entering into discussions or negotiations with such Person or group, and (C) TSG keeps Elcotel informed (which notice shall be provided orally and in writing) of the status and material information including the identity of such Person or group with respect to any such discussions or negotiations and any Alternative Proposal and the material terms thereof and gives Elcotel at least 24 hours' advance notice of any information to be supplied to, and at least 48 hours' advance notice of any agreement to be entered into with, any Person or group making such Alternative Proposal; and (ii) to the extent required, complying with Rule 14e-2 promulgated under the 1934 Act with regard to an Alternative Proposal. Section 5.04 Approval of Stockholders. (a) TSG shall, through its Board of Directors, duly call, give notice of, convene and hold a meeting of its stockholders (the "TSG Stockholders' Meeting") for the purpose of voting on the approval and adoption of this Agreement and the Merger (the "TSG Stockholders' Approval") as soon as reasonably practicable after the date hereof. Except as provided in the next sentence, the Board of Directors of TSG shall recommend approval and adoption of this Agreement and the Merger by the holders of TSG Common Stock and shall use its best efforts to obtain such approval and adoption. The Board of Directors of TSG shall be permitted to (i) not recommend to the holders of TSG Common Stock that they give the TSG Stockholders' Approval or (ii) withdraw or modify in a manner adverse to Elcotel its recommendation to the holders of TSG Common Stock that they give the TSG Stockholders' Approval, but in each of cases (i) and (ii) only if and to the extent that TSG has complied with Section 5.03 and a Superior Proposal is pending at the time the TSG Board of Directors determines to take any such action or inaction; provided that no 44 such failure to recommend, withdrawal or modification shall be made unless TSG shall have delivered to Elcotel a written notice (a "Notice of Superior Proposal") advising Elcotel that the Board of Directors of TSG has received a Superior Proposal and identifying the Person or group making such Superior Proposal; provided, further that nothing contained in this Agreement shall prevent the Board of Directors of TSG from complying with Rule 14e-2 under the 1934 Act with regard to an Alternative Proposal. For purposes of this Agreement, "Superior Proposal" means any bona fide Alternative Proposal for at least a majority of the outstanding Shares on terms that the Board of Directors of TSG determines in its good faith judgment (based on the advice of an independent reputable financial advisor, taking into account all the terms and conditions of the Alternative Proposal, including any break-up fees, expense reimbursement provisions and conditions to consummation) are more favorable and provide greater value to all holders of TSG Common Stock than this Agreement and the Merger taken as a whole; (b) Elcotel shall, through its Board of Directors, duly call, give notice of, convene and hold a meeting of its stockholders (the "Elcotel Stockholders' Meeting" and, together with the TSG Stockholders' Meeting, the "Stockholders' Meetings") for the purpose of voting on the issuance of Elcotel Common Stock in the Merger (the "Elcotel Stockholders' Approval") as soon as reasonably practicable after the date hereof. The Board of Directors of Elcotel shall recommend that the stockholders of Elcotel approve such issuances of Elcotel Common Stock, and shall use its best efforts to obtain such approval; (c) Elcotel and TSG shall coordinate and cooperate with respect to the timing of the Stockholders' Meetings and shall use their best efforts to cause the Stockholders' Meetings to be held on the same day and as soon as practicable after the date hereof. Section 5.05 Preparation of Form S-4 and Proxy Statement. TSG and Elcotel shall prepare and file with the SEC as soon as reasonably practicable after the date hereof, the Proxy Statement, and Elcotel shall prepare and file with the SEC as soon as reasonably practicable after such date, the Form S-4 in which the Proxy Statement will be included within the prospectus. Elcotel and TSG shall use their best efforts to have the Form S-4 declared effective by the SEC as promptly as practicable after such filing. Elcotel shall also take any action (other than qualifying as a foreign corporation or taking any action which would subject it to service of process in any jurisdiction where Elcotel is not now so qualified or subject) required to be taken under applicable state blue sky or securities laws in connection with the issuance of Elcotel Common Stock in connection with the Merger. If at any time prior to the Effective Time any event shall occur that should be set forth in an amendment of or a supplement to the Form S-4, Elcotel shall prepare and file with the SEC such amendment or supplement as soon thereafter as is reasonably practicable. Elcotel, Merger Subsidiary and TSG shall cooperate with each other in the preparation of the Form S-4 and the Proxy Statement and any amendment or supplement thereto, and each shall notify the other of the receipt of any comments of the SEC with respect to the Form S-4 and any amendment or supplement thereto or for additional information, and shall provide to the 45 other promptly copies of all correspondence between Elcotel or TSG, as the case may be, with respect to the Form S-4 or the Proxy Statement. Elcotel shall give TSG and its counsel the opportunity to review and comment on the Form S-4 and all responses to requests for additional information by and replies to comments of the SEC before their being filed with, or sent to, the SEC. Each of TSG, Elcotel, and Merger Subsidiary agrees to use its best efforts, after consultation with the other parties hereto, to respond promptly to all such comments of and requests by the SEC and to cause (x) the Form S-4 to be declared effective by the SEC at the earliest practicable time and to be kept effective as long as is necessary to consummate the Merger, and (y) the Proxy Statement to be mailed to the holders of Elcotel Common Stock and TSG Common Stock entitled to vote at the meetings of the stockholders of Elcotel and TSG at the earliest practicable time. Section 5.06 Access to Information. (a) To the extent permitted by applicable law, from the date hereof until the Effective Time, TSG will give Elcotel, its counsel, financial advisors, auditors and other authorized representatives reasonable access during normal business hours to the offices, properties, books and records of TSG and its Subsidiaries, will furnish to Elcotel, its counsel, financial advisors, auditors and other authorized representatives such financial and operating data and other information as such Persons may reasonably request and will instruct TSG's employees, auditors, counsel and financial advisors to cooperate with Elcotel in its investigation of the business of TSG and its Subsidiaries; provided that no investigation pursuant to this Section shall affect any representation or warranty given by TSG to Elcotel hereunder. The foregoing information shall be held in confidence to the extent required by, and in accordance with, the provisions of the confidentiality agreement dated February 27, 1997 between Elcotel and TSG (the "Confidentiality Agreement"). (b) To the extent permitted by applicable law, from the date hereof until the Effective Time, Elcotel will give TSG, its counsel, financial advisors, auditors and other authorized representatives reasonable access during normal business hours to the offices, properties, books and records of Elcotel and its Subsidiaries, will furnish to TSG, its counsel, financial advisors, auditors and other authorized representatives such financial and operating data and other information as such Persons may reasonably request and will instruct Elcotel's employees, auditors, counsel and financial advisors to cooperate with TSG in its investigation of the business of Elcotel and its Subsidiaries, provided that no investigation pursuant to this Section shall affect any representation or warranty given by Elcotel to TSG hereunder. Such information shall be held in confidence to the extent required by, and in accordance with, the Confidentiality Agreement. Section 5.07 Notices of Certain Events. (a) TSG and Elcotel shall promptly notify each other of: 46 (i) any notice or other communication from any Person alleging that the consent of such Person is or may be required in connection with the transactions contemplated by this Agreement; and (ii) any notice or other communication from any Governmental Authority in connection with the transactions contemplated by this Agreement. (b) TSG shall promptly notify Elcotel of any actions, suits, claims, investigations or proceedings commenced or, to its knowledge, threatened against, relating to or involving or otherwise affecting TSG or any Subsidiary of TSG which, if pending on the date of this Agreement, would have been required to have been disclosed pursuant to Section 3.12 or Section 3.17 or which relate to the consummation of the transactions contemplated by this Agreement. (c) Elcotel shall promptly notify TSG of any actions, suits, claims, investigations or proceedings commenced or, to its knowledge, threatened against, relating to or involving or otherwise affecting Elcotel or any Subsidiary of Elcotel which, if pending on the date of this Agreement, would have been required to have been disclosed pursuant to Section 4.12 or which relate to the consummation of the transactions contemplated by this Agreement. Section 5.08 Regulatory and Other Approvals. Subject to the terms and conditions of this Agreement, each of TSG and Elcotel will proceed diligently and in good faith to, as promptly as practicable, (a) obtain all consents, approvals or actions of, make all filings with and give all notices to Governmental Authorities or any other public or private third parties required of Elcotel, TSG or any of their Subsidiaries to consummate the Merger and the other transactions contemplated hereby, and (b) provide such other information and communications to such Governmental Authorities or other public or private third parties as the other party or such Governmental Authorities or other public or private third parties may reasonably request in connection therewith. In addition to and not in limitation of the foregoing, each of the parties will (x) take promptly all actions necessary to make the filings required of Elcotel and TSG or their Affiliates under the HSR Act no later than fifteen business days after the date hereof, (y) comply at the earliest practicable date with any request for additional information received by such party or its Affiliates from the Federal Trade Commission (the "FTC") or the Antitrust Division of the Department of Justice (the "Antitrust Division") pursuant to the HSR Act, and (z) cooperate with the other party in connection with such party's filings under the HSR Act and in connection with resolving any investigation or other inquiry concerning the Merger or the other transactions contemplated by this Agreement commenced by either the FTC or the Antitrust Division or state attorneys general. Without limiting the generality of the foregoing, Elcotel and TSG shall together, or pursuant to an allocation of responsibility to be agreed between them, coordinate and cooperate in determining whether any action by or in respect of, or filing with, any Governmental Authorities is required, or any actions, consents, approvals or waivers are required to be obtained from parties to any contracts, 47 in connection with the consummation of the transactions contemplated by this Agreement, and in seeking any such actions, consents, approvals or waivers or making any such filings, furnishing information required in connection therewith and seeking timely to obtain any such actions, consents, approvals or waivers. Section 5.09 Public Announcements. So long as this Agreement is in effect, Elcotel and TSG will consult with each other before issuing any press release or making any SEC filing or other public statement with respect to this Agreement or the Voting Agreement or the transactions contemplated hereby or thereby and, except as may be required by applicable law, court process or any listing agreement with any national securities exchange or with NASDAQ, will not issue any such press release or make any such SEC filing or other public statement prior to such consultation and providing the other party with a reasonable opportunity to comment thereon and approve the same (such approval not to be unreasonably withheld or delayed). Section 5.10 Further Assurances. At and after the Effective Time, the officers and directors of the Surviving Corporation will be authorized to execute and deliver, in the name and on behalf of TSG or Merger Subsidiary, any deeds, bills of sale, assignments or assurances and to take and do, in the name and on behalf of TSG or Merger Subsidiary, any other actions and things to vest, perfect or confirm of record or otherwise in the Surviving Corporation any and all right, title and interest in, to and under any of the rights, properties or assets of TSG acquired or to be acquired by the Surviving Corporation as a result of, or in connection with, the Merger. Section 5.11 TSG Affiliates. At least thirty (30) days prior to the Effective Time, TSG shall deliver a letter to Elcotel identifying all persons who, at the time of the TSG Stockholders' Meeting, may, in TSG's reasonable judgment, be deemed to be "affiliates" (as such term is used in Rule 145 under the 1933 Act) of TSG ("TSG Affiliates"). TSG shall use its best efforts to cause each TSG Affiliate to deliver to Elcotel at or prior to the Effective Time a letter substantially in the form and to the effect of Exhibit B hereto (an "Affiliate Letter"). Elcotel shall be entitled to issue appropriate stop transfer instructions to the transfer agent for the Elcotel Common Stock to be issued to TSG Affiliates pursuant to the Merger, consistent with the terms of such Affiliate Letters. Section 5.12 Obligations of Merger Subsidiary. Elcotel will take all action necessary to cause Merger Subsidiary to perform its obligations under this Agreement and to consummate the Merger on the terms and conditions set forth in this Agreement. Section 5.13 Listing of Stock. Elcotel shall use its best efforts to cause the shares of Elcotel Common Stock to be issued in connection with the Merger to be approved for listing on the NASDAQ National Market System at or prior to the Effective Time, subject to official notice of issuance. 48 Section 5.14 Antitakeover Statutes. If any Takeover Statute is or may become applicable to the Merger, each of Elcotel and TSG shall take such actions as are necessary so that the transactions contemplated by this Agreement may be consummated as promptly as practicable on the terms contemplated hereby and otherwise act to eliminate or minimize the effects of any Takeover Statute on the Merger. Section 5.15 Tax Treatment. Each of Elcotel and TSG shall not take any action and shall not fail to take any action which action or failure to act would cause, or would be reasonably likely to cause, Elcotel, TSG or their respective stockholders (except to the extent that any stockholder of TSG may receive cash in lieu of fractional shares) to recognize gain or loss for federal income tax purposes as a result of the issuance of Elcotel Common Stock in the Merger, and TSG shall use its reasonable efforts to obtain the opinion of counsel referred to in Section 8.08. Section 5.16 Appointment of Directors. Elcotel shall invite David Steadman, Mark Plaumann, Kenneth Rubin and Vincent Bisceglia to become members of the Board of Directors of Elcotel immediately following the Effective Time and shall increase the size of the Board of Directors of Elcotel to nine members, including those four persons, C. Shelton James, Tracey Gray, Charles Moore and two independent directors who are currently members of the Board of Directors of Elcotel, immediately following the Effective Time. ARTICLE VI GENERAL CONDITIONS PRECEDENT TO THE MERGER The obligations of TSG, Elcotel and Merger Subsidiary to consummate the Merger pursuant to this Agreement and the other transactions required to be consummated by such date by this Agreement are subject to the satisfaction (or waiver by the party for whose benefit the applicable condition exists) of each of the following conditions: Section 6.01 Stockholder Approval. This Agreement and the transactions contemplated hereby shall have been approved and adopted by the stockholders of TSG in accordance with Delaware Law. The stockholders of Elcotel shall have approved the issuance of Elcotel Common Stock in the Merger by the requisite vote under applicable law and under the applicable rules of the NASDAQ National Market System, as the case may be. Section 6.02 HSR Act. Any applicable waiting period under the HSR Act relating to the transactions contemplated by this Agreement shall have expired or been terminated. 49 Section 6.03 Registration Statement; State Securities Laws. The Form S-4 shall have become effective in accordance with the provisions of the 1933 Act, and no stop order suspending such effectiveness shall have been issued and remain in effect and no proceeding seeking such an order shall be pending or threatened. Elcotel shall have received all state securities or blue sky permits and other authorizations necessary to issue the Elcotel Common Stock pursuant to this Agreement. Section 6.04 Listing. The shares of Elcotel Common Stock to be issued in the Merger shall have been approved for listing on the NASDAQ National Market System, subject to official notice of issuance. Section 6.05 Suits or Other Proceedings. There shall not be pending any suit, action or proceeding by any Governmental Authority, (i) seeking to restrain or prohibit the consummation of the Merger or any of the other transactions contemplated by this Agreement, or seeking to obtain from Elcotel or TSG any damages the amount of which would be reasonably likely to have a Material Adverse Effect on TSG or Elcotel, or (ii) seeking to prohibit or limit the ownership or operation by Elcotel, TSG or any of their respective Subsidiaries of, or to compel Elcotel, TSG or any of their respective Subsidiaries to dispose of or hold separate, any material portion of the business or assets of Elcotel, TSG or any of their respective Subsidiaries, as a result of the Merger or any of the other transactions contemplated by this Agreement. Section 6.06 Employment Agreements. Elcotel shall have entered into an employment agreement with each of Vincent Bisceglia, C. Shelton James and Tracey Gray. ARTICLE VII CONDITIONS PRECEDENT TO THE OBLIGATIONS OF ELCOTEL AND MERGER SUBSIDIARY The obligations of Elcotel and Merger Subsidiary to consummate the Merger pursuant to this Agreement and the other transactions required to be consummated by such date by this Agreement are further subject to the satisfaction, at or prior to the Effective Time, of each of the following conditions (all or any of which may be waived in whole or in part by Elcotel and Merger Subsidiary in their sole discretion): Section 7.01 Representations and Warranties. The representations and warranties made by TSG in this Agreement shall be true and correct as of the Closing Date as though made on and as of the Closing Date or, in the case of representations and warranties made as of a specified date earlier than the Closing Date, on and as of such earlier date, and TSG shall have delivered to Elcotel a certificate, dated the Closing Date and executed by its President to such effect. 50 Section 7.02 Performance of Obligations. TSG shall have performed and complied with each agreement, covenant and obligation required by this Agreement to be so performed or complied with by TSG at or prior to the Closing, and TSG shall have delivered to Elcotel a certificate, dated the Closing Date and executed by its President to such effect. Section 7.03 No Material Adverse Change. There shall not have been any change in the consolidated business, results of operations, financial condition or prospects of TSG and its Subsidiaries, taken as a whole, between March 28, 1997 and the Closing Date which would have a Material Adverse Effect on TSG. Section 7.04 Consents. Elcotel shall have received consents or waivers from such Persons as are necessary for Elcotel to consummate the transactions contemplated by this Agreement. Section 7.05 Opinion of TSG Counsel. At the Closing, Elcotel shall have received from Greenberg Traurig Hoffman Lipoff Rosen & Quentel, counsel to TSG, a written opinion reasonably satisfactory to Elcotel, dated as of the Closing Date, substantially to the effect as set forth in Exhibit C hereto. Section 7.06 Stockholders Agreement. The Stockholders shall have each entered into the Stockholders Agreement, in the form set forth in Exhibit D hereto. Section 7.07 Proceedings. All proceedings to be taken on the part of TSG in connection with the transactions contemplated by this Agreement and all documents incident thereto shall be reasonably satisfactory in form and substance to Elcotel, and Elcotel shall have received copies of all such documents and other evidences as Elcotel may reasonably request in order to establish the consummation of such transactions and the taking of all proceedings in connection therewith. ARTICLE VIII CONDITIONS PRECEDENT TO THE OBLIGATIONS OF TSG The obligations of TSG to consummate the Merger pursuant to this Agreement and the other transactions required to be consummated by such date by this Agreement are further subject to the satisfaction, at or prior to the Effective Time, of each of the following conditions (all or any of which may be waived in whole or in part by TSG in its sole discretion): Section 8.01 Representations and Warranties. The representations and warranties made by Elcotel and Merger Subsidiary in this Agreement shall be true and correct as of the Closing Date as though made on and as of the Closing Date or, in the case of representations and warranties made as of a specified date earlier than the Closing Date, on and as of such earlier date, and Elcotel and Merger Subsidiary shall each have delivered 51 to TSG a certificate, dated the Closing Date and executed by Elcotel's Chairman of the Board or President and by Merger Subsidiary's Chairman of the Board or President to such effect. Section 8.02 Performance of Obligations. Elcotel and Merger Subsidiary shall each have performed and complied with each agreement, covenant and obligation required by this Agreement to be so performed or complied with by Elcotel or Merger Subsidiary at or prior to Closing, and Elcotel and Merger Subsidiary shall each have delivered to TSG a certificate, dated the Closing Date and executed by Elcotel's Chairman of the Board or President and by Merger Subsidiary's Chairman of the Board or President to such effect. Section 8.03 No Material Adverse Change. There shall not have been any change in the consolidated business, results of operations, financial condition or prospects of Elcotel and its Subsidiaries, taken as a whole, between March 31, 1997 and the Closing Date which would have a Material Adverse Effect on Elcotel. Section 8.04 Consents. TSG shall have received consents or waivers from such Persons as are necessary for TSG to consummate the transactions contemplated by this Agreement. Section 8.05 Opinion of Elcotel Counsel. At the Closing, TSG shall have received from Schnader Harrison Segal & Lewis LLP, counsel to Elcotel, a written opinion reasonably satisfactory to TSG, dated as of the Closing Date, substantially to the effect as set forth in Exhibit E hereto. Section 8.06 Stockholders Agreement. The Stockholders and Elcotel shall have each entered into the Stockholders Agreement, in the form set forth in Exhibit D hereto. Section 8.07 Proceedings. All proceedings to be taken on the part of Elcotel in connection with the transactions contemplated by this Agreement and all documents incident thereto shall be reasonably satisfactory in form and substance to TSG, and TSG shall have received copies of all such documents and other evidences as TSG may reasonably request in order to establish the consummation of such transactions and the taking of all proceedings in connection therewith. Section 8.08 Tax Opinion. TSG shall have received an opinion of counsel, in form and substance reasonably satisfactory to TSG, on the basis of certain facts, representations and assumptions set forth in such opinion which are consistent with the state of facts existing at the Effective Time, to the effect that neither TSG nor any of its stockholders shall recognize gain or loss for U.S. federal income tax purposes as a result of the Merger (other than in respect of any cash paid in lieu of fractional shares). In rendering the opinions described in the preceding sentence, such counsel may require and rely upon representations contained in this Agreement and in certificates of officers and principal stockholders of TSG, Elcotel and their respective Subsidiaries. 52 ARTICLE IX TERMINATION Section 9.01 Termination. This Agreement may be terminated and the transactions contemplated hereby may be abandoned at any time prior to the Effective Time whether prior to or after Stockholders' Approval: (a) By mutual written agreement of TSG and Elcotel duly authorized by action taken by or on behalf of their respective Boards of Directors; (b) By either TSG or Elcotel upon notification to the non- terminating party by the terminating party; (i) at any time after November 30, 1997 if the Merger shall not have been consummated on or prior to such date and such failure to consummate the Merger is not caused by or substantially attributable to a breach of this Agreement by the terminating party; (ii) if (A) TSG Stockholders' Approval (under Delaware Law) or (B) Elcotel Stockholders' Approval (under Delaware Law and under the applicable regulations of NASDAQ National Market System), as the case may be, shall not be obtained by reason of the failure to obtain the requisite vote upon a vote held at a meeting of stockholders, or any adjournment thereof, called therefor; (iii) if (A) there has been a material breach of any representation, warranty, covenant or agreement on the part of the non- terminating party set forth in this Agreement, which breach is not curable or, if curable, has not been cured within thirty (30) days following receipt by the non-terminating party of notice of such breach from the terminating party, or (B) any condition precedent to the terminating party's obligations set forth in Article VII, with respect to Elcotel, or Article VIII, with respect to TSG, of this Agreement has not been met or waived by such party by November 30, 1997; or (iv) if any court of competent jurisdiction or other competent Governmental Authority shall have issued an order making illegal or otherwise restricting, preventing or prohibiting the Merger and such order shall have become final and nonappealable; 53 (c) By TSG if (i) the Board of Directors of TSG determines in good faith, based upon the written opinion of outside counsel (a copy of which shall be provided promptly to Elcotel), that termination of the Agreement is required for the Board of Directors to comply with its fiduciary duties to stockholders imposed by law by reason of an unsolicited bona fide Superior Proposal having been made; provided that TSG shall have complied with the provisions of clauses (B) and (C) of Section 5.03 and shall notify Elcotel at least 48 hours in advance of its intention to terminate this Agreement or enter into a definitive agreement with respect to such Superior Proposal; or (ii) the Board of Directors of Elcotel shall have withdrawn or modified in a manner materially adverse to TSG its approval or recommendation of this Agreement or the Merger; or (d) By Elcotel if the Board of Directors of TSG (x) shall have withdrawn or modified in a manner materially adverse to Elcotel its approval or recommendation of this Agreement or the Merger or (y) shall have recommended a Superior Proposal to the stockholders of TSG or shall have entered into a definitive agreement providing for a Superior Proposal with a Person other than Elcotel. Section 9.02 Effect of Termination. (a) If this Agreement is validly terminated by either TSG or Elcotel pursuant to Section 9.01, this Agreement will forthwith become null and void and there will be no liability or obligation on the part of either TSG or Elcotel (or any of their respective representatives or Affiliates), except (i) that the provisions of Sections 10.05 and 10.08, this Section 9.02 and the Confidentiality Agreement will continue to apply following any such termination, (ii) that nothing contained herein shall relieve any party hereto from liability for wilful breach of its representations, warranties, covenants or agreements contained in this Agreement and (iii) as provided in paragraph (b) below. The effectiveness of any termination under this Agreement shall be subject to the payments (if any) required to be made pursuant to paragraph (b) below being so made; (b) (i) If this Agreement is terminated by (x) TSG pursuant to Section 9.01(c)(i) or (y) by Elcotel pursuant to Section 9.01(d)(y), then TSG shall pay or cause to be paid to Elcotel, by wire transfer of same day funds on the day of such termination, a termination fee of $1,300,000; (ii) In the event that (x) this Agreement is terminated by either party pursuant to Section 9.01(b)(ii)(A) and prior to such termination any person or group shall have made an Alternative Proposal or by Elcotel pursuant to Section 9.01(d)(x), then TSG shall pay or cause to be paid to Elcotel, by wire transfer of same day funds upon receipt of appropriate documentation therefor, Elcotel's documented out-of-pocket expenses relating to this Agreement and the transactions contemplated hereby; provided, however, that such expenses shall not exceed $500,000; 54 (iii) In the event that this Agreement is terminated by either party pursuant to Section 9.01(b)(ii)(B) or by TSG pursuant to Section 9.01(c)(ii), then Elcotel shall pay or cause to be paid to TSG, by wire transfer of same day funds upon receipt of appropriate documentation therefor, TSG's documented out-of-pocket expenses relating to this Agreement and the transactions contemplated hereby; provided however, that such expenses shall not exceed $500,000; (iv) In the event that this Agreement is terminated by either party pursuant to Section 9.01(b)(iii), then the non-terminating party shall pay or cause to be paid to the terminating party by wire transfer of same day funds upon receipt of appropriate documentation therefor, the terminating party's documented out-of-pocket expenses relating to this Agreement and the transactions contemplated hereby; provided, however, that such expenses shall not exceed $500,000; and (c) The parties acknowledge that the agreements contained in this Section 9.02 are an integral part of the transactions contemplated by this Agreement, and that, without these agreements, the parties hereto would not enter into this Agreement; accordingly, if either party fails promptly to pay the amount due pursuant to this Section 9.02, and in order to obtain such payment, either party commences a suit which results in a judgment against the non-paying party for any fee or expense reimbursement set forth in this Section 9.02, the non-paying party shall pay to the other party as the case may be, its cost and expenses (including reasonable attorney's fees and expenses) in connection with such suit, together with interest on the amount of the fee at the prime rate of Citibank, N.A. in effect on the date such payment was required to be made. ARTICLE X MISCELLANEOUS Section 10.01 Notices. All notices, requests and other communications to any party hereunder shall be in writing and will be deemed to have been duly given only if delivered personally or by facsimile transmission or mailed (first class mail postage prepaid), or by overnight express courier (charges prepaid or billed to the account of the sender) to the parties at the following addresses or facsimile numbers: If to Elcotel or Merger Subsidiary, to: Elcotel, Inc. 6428 Parkland Drive Sarasota, Florida 34243 Fax: (941) 751-4716 Attention: President 55 with a copy to: Schnader Harrison Segal & Lewis LLP Suite 3600 1600 Market Street Philadelphia, Pennsylvania 19103 Fax: (215) 972-7378 Attention: Larry P. Laubach, Esquire If to TSG, to: Technology Service Group, Inc. 20 Mansell Court East Suite 200 Roswell, Georgia 30075 Fax: (770) 641-7528 Attention: President with a copy to: Greenberg Traurig et al. 153 East 53rd Street New York, New York 10022 Fax: (212) 223-7161 Attention: Judith D. Fryer, Esquire or such other address or facsimile number as such party may hereafter specify for the purpose by notice to the other parties hereto. Each such notice, request or other communication shall be effective (a) if delivered personally, upon delivery, (b) if given by facsimile, when such facsimile is transmitted to the facsimile number specified in this Section 10.01 and the appropriate facsimile confirmation is received, (c) if given by mail in the manner described above, on the third business day after mailing, or (d) if delivered by overnight express courier, on the next business day. Section 10.02 Entire Agreement; Non-Survival of Representations and Warranties; Third Party Beneficiaries. (a) This Agreement (including any exhibits hereto), the other agreements referred to in this Agreement and the Confidentiality Agreement constitute the entire agreement among the parties with respect to the subject matter hereof and thereof and supersede all prior agreements, understandings and negotiations, both written and oral, between the parties with respect to such subject matter. None of this Agreement, the Confidentiality Agreement or any other agreement contemplated hereby or thereby (or any provision hereof or thereof) is intended to confer on any Person other than the parties hereto or thereto any rights or remedies (except that Article I is intended to confer rights and remedies on the Persons specified therein); 56 (b) The TSG Disclosure Letter, the Elcotel Disclosure Letter and any Exhibits attached to this Agreement and referred to herein are hereby incorporated herein and made a part hereof for all purposes as if fully set forth herein; and (c) The representations and warranties contained herein or in any schedule, instrument or other writing delivered pursuant hereto shall not survive the Effective Time. Section 10.03 Amendment. This Agreement may be amended, supplemented or modified by action taken by or on behalf of the respective Boards of Directors of the parties hereto at any time prior to the Effective Time, whether prior to or after the Stockholders' Approvals shall have been obtained, but after such adoption and approval only to the extent permitted by applicable law. No such amendment, supplement or modification shall be effective unless set forth in a written instrument duly executed by or on behalf of each party hereto. Section 10.04 Waiver. At any time prior to the Effective Time, any party hereto may to the extent permitted by applicable law (i) extend the time for the performance of any of the obligations or other acts of the other parties hereto, (ii) waive any inaccuracies in the representations and warranties of the other parties hereto contained herein or in any document delivered pursuant hereto or (iii) waive compliance with any of the covenants, agreements or conditions of the other parties hereto contained herein. No such extension or waiver shall be effective unless set forth in a written instrument duly executed by or on behalf of the party extending the time of performance or waiving any such inaccuracy or non-compliance. No waiver by any party of any term or condition of this Agreement, in any one or more instances, shall be deemed to be or construed as a waiver of the same or any other term or condition of this Agreement on any future occasion. Section 10.05 Expenses. Except as otherwise specified in Section 9.02 or agreed in writing by the parties, all costs and expenses incurred in connection with this Agreement and the transactions contemplated by this Agreement, whether or not the Merger is consummated, shall be paid by the party incurring such cost or expense. Section 10.06 Successors and Assigns. The provisions of this Agreement shall be binding upon, inure to the benefit of and be enforceable by the parties hereto and their respective successors and assigns; provided that no party may assign, delegate or otherwise transfer any of its rights or obligations under this Agreement without the written consent of the other parties hereto except that Merger Subsidiary may assign, in its sole discretion, any or all of its rights, interests and obligations hereunder to any direct or indirect wholly owned Subsidiary of Elcotel, it being understood that no such assignment shall relieve Merger Subsidiary from any of its obligations hereunder. 57 Section 10.07 Governing Law. This Agreement shall be construed in accordance with and governed by the law of the State of Delaware (without regard to principles of conflict of laws). Section 10.08 Jurisdiction. Any suit, action or proceeding seeking to enforce any provision of, or based on any matter arising out of or in connection with, this Agreement or the transactions contemplated by this Agreement may be brought against any of the parties in any federal court located in the State of Delaware or any Delaware state court, and each of the parties hereto hereby consents to the exclusive jurisdiction of such courts (and of the appropriate appellate courts therefrom) in any such suit, action or proceeding and waives any objection to venue laid therein. Process in any such suit, action or proceeding may be served on any party anywhere in the world, whether within or without the State of Delaware. Without limiting the generality of the foregoing, each party hereto agrees that service of process upon such party at the address referred to in Section 10.01, together with written notice of such service to such party, shall be deemed effective service of process upon such party. Section 10.09 Counterparts; Effectiveness. This Agreement may be signed in any number of counterparts, each of which shall be an original, with the same effect as if the signatures thereto and hereto were upon the same instrument. This Agreement shall become effective when each party hereto shall have received counterparts hereof signed by all of the other parties hereto. Section 10.10 Interpretation. When a reference is made in this Agreement to a Section or Schedule, such reference shall be to a Section of this Agreement or a Schedule to the Disclosure Letter unless otherwise indicated. The table of contents and headings contained in this Agreement are for reference purposes only and shall not affect in any way the meaning or interpretation of this Agreement. Whenever the words "include", "includes" or "including" are used in this Agreement they shall be deemed to be followed by the words "without limitation". The phrases "the date of this Agreement", "the date hereof", and terms of similar import, unless the context otherwise requires, shall be deemed to refer to August 13, 1997. Section 10.11 Severability. If any term, provision, covenant or restriction of this Agreement is held by a court of competent jurisdiction or other authority to be invalid, void, unenforceable or against public policy, the remainder of the terms, provisions, covenants and restrictions of this Agreement shall remain in full force and effect and shall in no way be affected, impaired or invalidated. Upon such determination that any term, provision, covenant or restriction of this Agreement is invalid, void, unenforceable or against public policy, the parties hereto shall negotiate in good faith to modify this Agreement so as to effect the original intent of the parties as closely as possible in an acceptable manner to the end that the transactions contemplated hereby are fulfilled to the extent possible. 58 Section 10.12 Specific Performance. The parties hereto agree that irreparable damage would occur in the event any provision of this Agreement was not performed in accordance with the terms hereof and that the parties shall be entitled to an injunction or injunctions to prevent breaches of this Agreement and to enforce specifically the terms and provisions of this Agreement in any Federal court located in the State of Delaware or any Delaware state court, in addition to any other remedy to which they are entitled at law or in equity. 59 IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be duly executed by their respective authorized officers as of the day and year first above written. ELCOTEL, INC. By: /s/ Tracey Gray --------------------------- Name: Tracey Gray Title: President TECHNOLOGY SERVICE GROUP, INC. By: /s/ Vincent C. Bisceglia --------------------------- Name: Vincent C. Bisceglia Title: President & CEO ELCOTEL HOSPITALITY SERVICE, INC. By: /s/ Tracey Gray --------------------------- Name: Tracey Gray Title: President 60 Appendix B [Letterhead of Murray, Devine & Co.,Inc.] Board of Directors ELCOTEL, INC. August 5, 1997 August 5, 1997 Board of Directors ELCOTEL, INC. 6428 Parkland Drive Sarasota, FL 34243 Gentlemen: You have requested that we render an opinion as to the fairness, from a financial point of view, to Elcotel, Inc. (the "Company") under Section 4.25 of the Agreement and Plan of Merger (the "Merger Agreement", draft date August 2, 1997), among the Company, Technology Services Group, Inc. ("TSG") and Merger Subsidiary, of the Merger. Unless otherwise defined herein, all capitalized terms are as defined in the Merger Agreement. Pursuant to the Merger Agreement, at the Effective Time, Merger Subsidiary shall be Merged with and into TSG in accordance with the Delaware Law, whereupon the separate existence of Merger Subsidiary shall cease, and TSG shall continue as the Surviving Corporation. At the Effective Time by virtue of the Merger: (i) each share of common stock of TSG held by TSG as treasury stock or owned by the Company or any subsidiary of the Company immediately prior to the Effective Time shall automatically be canceled and retired without any conversion thereof, and no common stock of the Company or other consideration shall be delivered in exchange therefor; (ii) each share of common stock of Merger Subsidiary outstanding immediately prior to the Effective Time shall automatically be converted into and become one share of common stock of the Surviving Corporation and shall constitute the only outstanding shares of capital stock of the Surviving Corporation; and (iii) each share of TSG Common Stock outstanding immediately prior to the Effective Time shall, except as otherwise provided in (i) above, automatically be converted into the right to receive 1.05 shares of fully paid and non-assessable common stock of the Company. Board of Directors ELCOTEL,INC. August 5,1997 In arriving at our opinion, we have, among other things: (i) reviewed the Merger Agreement and other related documents; (ii) reviewed such publicly available business and financial information relating to the Company and TSG as we deemed appropriate; (iii) reviewed certain internal financial and operating information relating to the Company and TSG (including financial forecasts) prepared by their respective managements; (iv) discussed the past and current operations and financial condition and prospects of the Company with the senior management of the Company; (v) discussed the past and current operations and financial condition and prospects of TSG with the senior management of TSG; (vi) reviewed pro forma financial statements (including financial forecasts) of the Company and TSG on a combined basis (the "Combined Companies") prepared jointly by the management of the Company and TSG; and (vii) reviewed recent stock market data relating to the Company and TSG. We have also considered certain financial data of the Company and TSG and have compared that data from a financial point of view with similar data for other publicly-held companies in businesses similar to those of the Company and TSG. We have also considered such other information, financial studies, analyses and investigations and financial, economic and market criteria which we deemed relevant. In connection with our review, we have not independently verified any of the foregoing information, and have relied on its being complete and accurate in all material respects and we have further relied upon the assurances of the Company management that they are unaware of any facts that would make the information provided to us incomplete or misleading in any material respect. With respect to the financial forecasts, we have assumed that they have been reasonably prepared on a basis reflecting the best currently available estimates and judgments of the Company's and TSG' management as to the expected future financial performance of the Company, TSG and the Combined Companies. In addition, we have not made any independent evaluation or appraisal of the individual assets of the Company or TSG, nor have we been furnished with any such appraisals. Based upon and subject to the foregoing, including that various assumptions and limitations set forth herein, it is our opinion that the Merger pursuant to the Merger Agreement, is fair, from a financial point of view, to the Company. MURRAY, DEVINE & CO., INC. APPENDIX C CONSOLIDATED FINANCIAL STATEMENTS OF TECHNOLOGY SERVICE GROUP, INC. INDEX TO CONSOLIDATED FINANCIAL STATEMENTS OF TECHNOLOGY SERVICE GROUP, INC.
Page ---- Independent Auditors' Report................................................................ C-1 Consolidated Financial Statements Consolidated Balance Sheets as of March 29, 1996, March 28, 1997 and June 27, 1997 (unaudited)................................. C-2 Consolidated Statements of Operations for the seven months ended October 30, 1994, five months ended March 31, 1995, years ended March 29, 1996 and March 28, 1997 and three months ended June 28, 1996 (unaudited) and June 27, 1997 (unaudited).................... C-3 Consolidated Statements of Cash Flows for the seven months ended October 30, 1994, five months ended March 31, 1995, years ended March 29, 1996 and March 28, 1997 and the three months ended June 28, 1996 (unaudited) and June 27, 1997 (unaudited).................... C-4 Consolidated Statements of Changes in Stockholders Equity (Deficit) for the seven months ended October 30, 1994, five months ended March 31, 1995, years ended March 29, 1996 and March 28, 1997 and three months ended June 27, 1997 (unaudited)................................. C-5 Notes to Consolidated Financial Statements.................................................. C-6
INDEPENDENT AUDITORS' REPORT Stockholders Technology Service Group, Inc. We have audited the accompanying consolidated balance sheets of Technology Service Group, Inc. and subsidiary as of March 28, 1997 and March 29, 1996, and the related consolidated statements of operations, changes in stockholders' equity (deficit), and cash flows for the years ended March 28, 1997 and March 29, 1996, five months ended March 31, 1995, and the seven months ended October 30, 1994. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Technology Service Group, Inc. and subsidiary at March 28, 1997 and March 29, 1996 and the results of their operations and their cash flows for the years ended March 28, 1997 and March 29, 1996, the five months ended March 31, 1995, and the seven months ended October 30, 1994 in conformity with generally accepted accounting principles. DELOITTE & TOUCHE LLP Atlanta, Georgia May 23, 1997 (June 9, 1997 as to the last paragraph of Note 14) C-1 TECHNOLOGY SERVICE GROUP, INC. CONSOLIDATED BALANCE SHEETS (Dollars in thousands, except per share data)
March 29, March 28, June 27, 1996 1997 1997 --------- --------- --------- (Unaudited) ASSETS Current assets: Cash $ 20 $ 68 $ 100 Accounts receivable, less allowance for doubtful accounts of $216, $147 and $147 3,866 3,235 3,162 Inventories 8,659 10,879 9,781 Refundable income taxes -- -- 301 Deferred income taxes 50 543 350 Prepaid expenses and other current assets 146 141 113 --------- --------- --------- Total current assets 12,741 14,866 13,807 Property and equipment, net 2,199 847 724 Goodwill 3,803 3,252 3,143 Other assets 891 807 894 --------- --------- --------- $ 19,634 $ 19,772 $ 18,568 ========= ========= ========= LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Bank overdraft $ 1,002 $ 243 $ 324 Borrowings under revolving credit agreement -- 3,811 2,400 Current maturities under long-term debt and capital lease obligations 118 -- -- Accounts payable 5,031 1,047 1,938 Income taxes payable 167 126 -- Deferred revenue 541 375 -- Accrued liabilities 1,472 1,015 742 Accrued restructuring charges 16 28 -- --------- --------- --------- Total current liabilities 8,347 6,645 5,404 Borrowings under revolving credit agreement 1,094 -- -- Long-term debt and capital lease obligations 3,415 -- -- Notes payable to stockholders 2,800 -- -- Deferred revenue 375 -- -- Other liabilities 3 -- -- --------- --------- --------- 16,034 6,645 5,404 --------- --------- --------- Commitments and contingencies (Note 14) -- -- -- Stockholders' equity: Preferred stock, $100 par value, 100,000 authorized, none issued or outstanding -- -- -- Common stock, $.01 par value, 10,000,000 shares authorized, 3,500,000, 4,701,760 and 4,701,760 shares issued and outstanding 35 47 47 Capital in excess of par value 3,465 11,963 11,963 Retained earnings 112 1,122 1,160 Cumulative translation adjustment (12) (5) (6) --------- --------- --------- Total stockholders' equity 3,600 13,127 13,164 --------- --------- --------- $ 19,634 $ 19,772 $ 18,568 ========= ========= =========
The accompanying notes are an integral part of these consolidated financial statements. C-2 TECHNOLOGY SERVICE GROUP, INC. CONSOLIDATED STATEMENTS OF OPERATIONS (In thousands, except per share data)
Predecessor Company ------------------------------------------------------------------------------ Three Three Seven Months Five Months Year Year Months Months Ended Ended Ended Ended Ended Ended October 30, March 31, March 29, March 28, June 28, June 27, 1994 1995 1996 1997 1996 1997 -------------- ------------- ----------- ------------ ------------ ------------ (Unaudited) (Unaudited) Net sales $ 11,109 $ 9,161 $ 33,201 $ 33,472 $ 12,078 $ 6,217 -------------- ------------- ----------- ------------ ------------ ------------ Costs and expenses: Cost of goods sold 9,176 8,226 26,082 26,639 9,840 5,123 General and administrative expenses 1,742 850 2,205 2,391 645 554 Marketing and selling expenses 366 372 1,290 881 361 164 Engineering, research and development expenses 458 480 1,197 1,777 409 292 Restructuring charges (credits) (534) -- -- 63 -- -- Litigation settlement (261) -- -- (105) (105) -- Interest expense 599 356 941 400 142 72 Other income (14) (58) (17) (117) (16) (14) -------------- ------------- ----------- ------------ ------------ ------------ 11,532 10,226 31,698 31,929 11,276 6,191 -------------- ------------- ----------- ------------ ------------ ------------ Income (loss) before income tax expense (423) (1,065) 1,503 1,543 802 26 Income tax (expense) benefit -- -- (326) (533) (217) 12 -------------- ------------- ----------- ------------ ------------ ------------ Net income (loss) $ (423) $ (1,065) $ 1,177 $ 1,010 $ 585 $ 38 ============== ============= =========== ============ ============ ============ Income (loss) per common and common equivalent share: Primary $ (0.30) $ 0.30 $ 0.22 $ 0.13 $ 0.02 ============= =========== ============ ============ ============ Assuming full dilution $ (0.30) $ 0.30 $ 0.22 $ 0.13 $ 0.02 ============= =========== ============ ============ ============ Weighted average number of common and common equivalent shares outstanding: Primary 3,542 3,871 4,780 4,502 5,025 ============= =========== ============ ============ ============ Assuming full dilution 3,542 3,871 4,780 4,502 5,025 ============= =========== ============ ============ ============
The accompanying notes are an integral part of these consolidated financial statements. C-3 TECHNOLOGY SERVICE GROUP, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands, except per share data)
Predecessor Company -------------- ------------------------------------------------------------- Five Three Three Seven Months Months Year Year Months Months Ended Ended Ended Ended Ended Ended October 30, March 31, March 29, March 28, June 28, June 27, 1994 1995 1996 1997 1996 1997 ------------- ----------- ----------- ----------- ------------------------ (Unaudited) (Unaudited) Cash flows from operating activities: Net income (loss) $ (423) $ (1,065) $ 1,177 $ 1,010 $ 585 $ 38 Adjustments to reconcile net income (loss) to net cash provided by (used for) operating activities Depreciation and amortization 648 408 1,061 1,072 288 227 Loss (gain) on sale of assets 18 5 -- (47) -- (1) Restructuring charges (credits) (534) -- -- 63 173 61 Provisions for inventory losses and warranty expense 165 298 352 565 31 -- Provision for uncollectible accounts receivable 27 (4) 10 -- -- -- Provision for deferred tax expense (benefits) -- -- 161 (50) (45) 275 Changes in certain assets and liabilities, net of effects of acquisition (Increase) decrease in accounts receivable 578 (330) (1,206) 632 (2,795) 72 (Increase) decrease in inventories 1,388 (764) (3,428) (2,485) (1,203) 1,070 (Increase) decrease in refundable income taxes -- -- -- -- -- (301) (Increase) decrease in prepaid expenses and other current assets 67 91 (57) 5 76 28 (Increase) decrease in other assets 3 6 (474) (424) -- (127) (Decrease) increase in accounts payable (982) (172) 2,072 (3,984) 515 891 (Decrease) increase in income taxes payable -- -- 165 (39) 114 (126) (Decrease) increase in deferred revenue -- 375 541 (541) (341) (306) (Decrease) increase in accrued liabilities 458 (299) (105) (761) -- (28) (Decrease) in accrued restructuring charges (442) (147) (74) (10) (486) (375) Other (56) -- (1) (1) (1) -- ------------- ----------- ----------- ----------- ------------ ----------- Net cash provided by (used for) operating activities 915 (1,598) 194 (4,995) (3,089) 1,398 ------------- ----------- ----------- ----------- ------------ ----------- Cash flows from investing activities: Capital expenditures (21) (60) (252) (422) -- 1 Proceeds from sale of assets 12 -- -- 59 (59) (38) ------------- ----------- ----------- ----------- ------------ ----------- Net cash used for investing activities (9) (60) (252) (363) (59) (37) ------------- ----------- ----------- ----------- ------------ ----------- Cash flows from financing activities: Net proceeds (payments) under revolving credit agreement (1,491) (1,599) 124 2,717 (901) (1,411) Proceeds from initial public offering, net of offering expenses -- -- -- 8,632 8,648 -- Proceeds from exercise of stock options and warrants -- -- -- 217 160 -- Proceeds from notes payable to banks 402 908 -- -- -- -- Proceeds from notes payable to stockholders 400 2,800 -- -- -- Payments on notes payable to stockholders -- -- -- (2,800) (2,800) -- Principal payments on long-term debt and capital lease obligations (459) (482) (814) (2,600) (2,578) -- Increase (decrease) in bank overdraft 324 121 502 (760) 760 82 ------------- ----------- ----------- ----------- ------------ ----------- Net cash provided by (used for) financing activities (824) 1,748 (188) 5,406 3,289 (1,329) ------------- ----------- ----------- ----------- ------------ ----------- Increase (decrease) in cash 82 90 (246) 48 141 32 Cash, beginning of period 94 176 266 20 20 68 ------------- ----------- ----------- ----------- ------------ ----------- Cash, end of period $ 176 $ 266 $ 20 $ 68 $ 161 $ 100 ============= =========== =========== =========== ============ ===========
The accompanying notes are an integral part of these consolidated financial statements. C-4 TECHNOLOGY SERVICE GROUP, INC. CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIT) (Dollars in thousands except per share data)
Common Common Preferred Series C Series B Series A Stock Stock Capital in Retained Cumulative Series E Preferred Preferred Preferred $.05 Par $.01 Par Excess of Earnings Translation Stock Stock Stock Stock Value Value Par Value (Deficit) Adjustment Total --------- --------- --------- --------- -------- -------- ---------- --------- ---------- --------- Predecessor Balance at April 1, 1994 $ 30 $ 234 $ 30 $ 31 $ 22 $ -- $ 22,652 $ (24,450) $ 46 $ (1,405) Net loss for the period (423) (423) Foreign currency translation adjustment 7 7 --------- --------- --------- --------- -------- -------- ---------- --------- ---------- --------- Balance at October 30, 1994 $ 30 $ 234 $ 30 $ 31 $ 22 $ -- $ 22,652 $ (24,873) $ 53 $ (1,821) ========= ========= ========= ========= ======== ======== ========== ========= ========== ========= Company Balance at October 30, 1994 $ 30 $ 234 $ 30 $ 31 $ 22 $ -- $ 22,652 $ (24,873) $ 53 $ (1,821) Business combination (30) (234) (30) (31) (22) 35 (19,517) 24,873 (53) 4,991 Net loss for the period (1,065) (1,065) --------- --------- --------- --------- -------- -------- ---------- --------- ---------- --------- Balance at March 31, 1995 -- -- -- -- -- 35 3,135 (1,065) -- 2,105 Business combination-- distribution of escrow consideration 330 330 Net income for the year 1,177 1,177 Foreign currency translation adjustment (12) (12) --------- --------- --------- --------- -------- -------- ---------- --------- ---------- --------- Balance at March 29, 1996 -- -- -- -- -- 35 3,465 112 (12) 3,600 Net income for the year 1,010 1,010 Issuance of 1,150,000 shares in initial public offering, net of offering, expenses 11 8,282 8,293 Issuance of 51,760 shares upon exercise of common stock purchase warrants, opinions, and purchase rights 1 216 217 Foreign currency translation adjustment 7 7 --------- --------- --------- --------- -------- -------- ---------- --------- ---------- --------- Balance at March 28, 1997 -- -- -- -- -- 47 11,963 1,122 (5) 13,127 Net income for the period (unaudited) 38 38 Foreign currency translation adjustment (unaudited) (1) (1) --------- --------- --------- --------- -------- -------- ---------- --------- ---------- --------- Balance at June 27, 1997 (unaudited) $ -- $ -- $ -- $ -- $ -- $ 47 $ 11,963 $ 1,160 $ (6) $ 13,164 ========= ========= ========= ========= ======== ======== ========== ========= ========== =========
The accompanying notes are an integral part of these consolidated financial statements. C-5 TECHNOLOGY SERVICE GROUP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands except per share data) 1. THE COMPANY Technology Service Group, Inc. ("TSG") was incorporated in the State of Delaware in 1975. TSG designs, develops, manufactures and markets public communication products including microprocessor-based ("smart") wireline and wireless payphone systems, electronic wireline payphone products and related payphone components. TSG also provides payphone and payphone component repair, refurbishment and upgrade conversion services. The accompanying financial statements include the accounts of TSG's wholly-owned subsidiary, International Service Technologies, Inc. ("IST"), which has a foreign division located in Taiwan. 2. ACQUISITION On October 31, 1994, TSG Acquisition Corp. ("TSG Acquisition"), a non- operating corporation wholly-owned by Wexford Partners Fund, L.P. ("Wexford"), acquired all of the outstanding capital stock of TSG pursuant to an Agreement and Plan of Merger dated October 11, 1994 (the "Plan of Merger") between Wexford, TSG Acquisition, TSG and the majority holders of TSG's capital stock (the "Acquisition"). TSG Acquisition paid an aggregate of $3.5 million in cash pursuant to the Plan of Merger, including $330 of contingent consideration that was placed in escrow. The consideration consisted of $3,004 to acquire the outstanding capital stock of TSG and $496 to retire a subordinated master promissory note of $400 payable to former stockholders and related accrued interest and preference fees of $96. Cash payments to former stockholders on October 31, 1994 aggregated $2,992 after deducting $278 to retire certain obligations of TSG and $230 placed in escrow. Consideration placed in escrow of $330 consisting of cash of $230 and a subordinated note of TSG payable to one of the former stockholders in the principal amount of $100 was distributed to former stockholders in September 1995 upon compliance with indemnification provisions set forth in the Plan of Merger. In conjunction with the Acquisition, TSG Acquisition was merged into TSG, which was then wholly-owned by Wexford. The outstanding shares of TSG's capital stock and rights to purchase TSG's capital stock, including preferred stock purchase warrants, at October 31, 1994 and TSG's Incentive Stock Option Plan were cancelled and the outstanding shares of capital stock of TSG Acquisition were exchanged for one share of TSG's common stock, $.05 par value (the "merger share"). TSG is sometimes referred to as the "Predecessor" for periods prior to the Acquisition. In addition, TSG entered into an Investment Agreement (the "Investment Agreement") with Wexford and certain former investors (collectively the "investors"). TSG issued 3.5 million shares of common stock, $.01 par value, in exchange for the merger share held by Wexford. Also, TSG borrowed $2.8 million from the investors and issued 10% interest bearing subordinated promissory notes due November 1, 1999 (see Note 7). The Acquisition has been accounted for using the purchase method of accounting. Accordingly, the aggregate purchase price of $3,170 (excluding contingent consideration) was pushed down and allocated to assets and liabilities of TSG as of October 31, 1994 (the date of acquisition) based upon their estimated fair values. The excess of the purchase price over the fair value of the net assets acquired of $3,854 was recorded as goodwill (see Note 6). The increase in the aggregate purchase price and goodwill upon the distribution of escrow consideration of $330 was recognized in TSG's financial statements during the year ended March 29, 1996. C-6 A summary of the book value of the assets and liabilities of TSG as compared to their estimated fair value reflected in TSG's financial statements as of the date of acquisition is set forth below.
Book Estimated Value Fair Value ----------- ------------ Cash $ 176 $ 176 Accounts receivable 2,337 2,337 Inventories 4,887 4,842 Prepaid expenses and other current assets 180 180 Property and equipment 2,602 2,984 Other assets 216 645 Bank overdraft (380) (380) Borrowings under revolving credit agreement (1,661) (1,661) Current maturities under long-term debt and capital lease obligations (878) (888) Accounts payable (3,133) (3,133) Accrued expenses (1,624) (1,749) Accrued restructuring charges (515) (312) Notes payable to stockholders (400) -- Long-term debt and capital lease obligations (3,628) (3,725) ----------- ------------ Net assets acquired (1,821) (684) Excess of purchase price over net assets acquired -- 3,854 ----------- ------------ $ (1,821) $ 3,170 =========== ============
The accompanying financial statements at March 29, 1996 and March 28, 1997 and for the five months ended March 31, 1995 and years ended March 29, 1996 and March 28, 1997 reflect the effects of the Acquisition. Assuming the Acquisition had occurred on April 2, 1994, TSG's and the Predecessor's net loss for the year ended March 31, 1995 including proforma adjustments for depreciation, interest and amortization of assets to give effect to the accounting bases recognized in recording the Acquisition would have approximated $1,599 (unaudited), or a loss of $.45 per share (unaudited), as compared to the reported loss of $1,488 ($423 for the seven months ended October 30, 1994 and $1,065 for the five months ended March 31, 1995). The proforma adjustments include an increase in the amortization of goodwill and other intangible assets of approximately $140 (unaudited) due to the increase in the basis of intangible assets and their estimated useful lives, a decrease in depreciation of approximately $24 (unaudited) due to an increase in the basis of property and equipment and their estimated useful lives and a decrease in interest expense of approximately $6 (unaudited) due to revaluation of capital lease obligations, the financing received from the investors and the repayment of indebtedness under TSG's revolving credit agreement. 3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES A summary of the significant accounting policies followed by TSG is set forth below: Fiscal Year TSG operates on a fiscal year ending the Friday nearest March 31 resulting in a 52/53 week year. The accompanying consolidated financial statements include the audited financial statements of the Predecessor for the seven months (30 weeks) ended October 30, 1994 and TSG, subsequent to the Acquisition, for the five months (22 weeks) ended March 31, 1995 and years (52 weeks) ended March 29, 1996 and March 28, 1997. C-7 Consolidation All significant intercompany balances and transactions have been eliminated in consolidation. Translation of Foreign Currency The financial position and results of operations of TSG's foreign division are measured using local currency as the functional currency. Assets and liabilities of TSG's foreign division are translated into United States dollars at the applicable exchange rate in effect at the end of the period. Income statement accounts are translated at the average rate in effect over the period. Translation adjustments arising from the use of differing exchange rates from period to period are accumulated in a separate component of stockholders' equity. Gains and losses resulting from foreign currency transactions are included in income in the period in which these transactions occur. The effects of foreign currency translation on TSG's financial position and results of operations are not significant. Also, the operations, assets and liabilities of TSG's foreign division are not significant. Cash TSG's cash balances serve as collateral under a loan agreement (see Note 7) and, accordingly, are restricted. Inventories Inventories are stated at the lower of cost or market. Cost is determined based upon the first-in, first-out ("FIFO") method or standard cost, which approximates cost on a FIFO basis. Reserves to provide for potential losses due to obsolescence and excess quantities are established in the period in which such losses occur. Property and Equipment Property and equipment is recorded at cost less accumulated depreciation. Depreciation is computed using the straight-line method over the established useful lives of the assets as follows:
Predecessor Company --------------- ------------- Building and building improvements 30 years 30 years Machinery and equipment 2-10 years 2-5 years Furniture and fixtures 2-10 years 2-3 years Leasehold improvements 5-15 years 5 years
Additions, improvements and expenditures that significantly extend the useful life of an asset are capitalized. Expenditures for repairs and maintenance are charged to operations as incurred. When assets are retired or disposed of, the cost and accumulated depreciation thereon are eliminated from the accounts, and any gains or losses are included in income. Revenue Recognition Sales and related costs, including reserves for warranties and returns, are recorded by TSG upon shipment of products. Deferred revenue consists of prepayments from customers and the refundable portion of proceeds received from the sale of software (see Note 14) which is classified according to the terms of the repayment obligation. Deferred revenue is recognized as earned upon shipment of products or pursuant to the terms of the sales contract. C-8 Engineering, Research, and Development Costs Costs and expenses incurred for the purpose of product research, design and development are charged to operations as incurred. Engineering, research and development costs consist primarily of costs associated with development of new products and manufacturing processes. TSG capitalizes as other assets certain product software development costs once technological feasibility has been achieved. Commencing upon initial product release, these costs are amortized based on the straight-line method over the estimated useful life of the product, which is generally five years. Capitalized software development costs are reported at the lower of cost, net of accumulated amortization, or net realizable value (see Note 6). Software development costs incurred prior to achieving technological feasibility are charged to research and development expense as incurred. Stock-Based Compensation In October 1995, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation ("SFAS 123"). SFAS 123, which is effective for fiscal years beginning after December 15, 1995, defines a fair value based method of accounting for compensation cost related to stock options and other forms of stock-based compensation plans. This statement gives entities a choice of recognizing related compensation costs by adopting the new fair value method or to continue to measure compensation using the intrinsic value approach contained in Accounting Principles Board Opinion 25 ("APB 25"), the former standard. If the former standard for measurement is elected, SFAS 123 requires supplemental disclosure to show the effects of using the new measurement criteria. TSG has elected to continue to apply the former standards contained in APB 25, and as a result, TSG adopted the pro forma disclosure requirements of SFAS 123 during the year ended March 28, 1997 (see Note 9). APB 25 requires compensation expense for stock-based compensation plans to be recognized based on the difference, if any, between the per-share market value of the stock and the option exercise price on the measurement date, which is generally the grant date. TSG has not recognized any compensation expense with respect to stock options granted under TSG's plans in accordance with the requirements of APB 25. Fair Value of Financial Instruments and Concentration of Credit Risk The estimated fair value of TSG's cash, accounts receivable, accounts payable and outstanding indebtedness approximates the carrying amounts due principally to their short maturities. Accounts receivable represent the primary financial instrument which potentially subjects TSG to concentrations of credit risk. TSG does not require its customers to provide collateral with respect to amounts owed, but periodically evaluates the credit of its customers (see Note 14). The allowance for non-collection of accounts receivable is estimated based upon the expected collectibility of all accounts receivable. Goodwill The excess of the purchase price over the fair value of TSG's assets and liabilities at the date of the Acquisition is being amortized to operations on a straight-line basis over a period of 35 years. At each balance sheet date, TSG evaluates the realizability of goodwill based on its expectations of future undiscounted cash flows. Based on TSG's most recent analysis, TSG believes that no material impairment of goodwill exists at March 28, 1997. Income Taxes Income tax expense (benefit) is based upon income (loss) recognized for financial statement purposes and includes the effects of temporary differences between such income (loss) and that recognized for tax purposes in accordance with Statement of Financial Accounting Standards No. 109 (SFAS 109), "Accounting for Income Taxes." SFAS 109 requires recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements or tax returns. Using the enacted tax rate in effect for the year in which the differences are expected to reverse, deferred tax assets and liabilities are determined based upon the differences between the financial reporting basis and income tax basis of the assets and liabilities (see Note 10). A valuation allowance is established for deferred tax assets to the extent realization thereof is not assured. C-9 Income (Loss) Per Common and Common Equivalent Share Income (loss) per common and common equivalent share for the five months ended March 31, 1995 and years ended March 29, 1996 and March 28, 1997 is computed on the basis of the weighted average number of common and dilutive common equivalent shares outstanding during the period, except as required by Accounting Principles Board Opinion No. 15, Earnings per Share, all outstanding options and warrants during the year ended March 28, 1997 have been included in the calculation in accordance with the modified treasury stock method, and except as required by Securities and Exchange Commission Staff Accounting Bulletin ("SECSAB") Topic 4:D, stock issued and stock options covering 89,000 shares of common stock granted during the 12 months prior to a May 10, 1996 initial public offering (see Note 9) at prices below the public offering price have been included in the calculation of weighted average number of common and common equivalent shares outstanding as if they were outstanding as of the beginning of the period. Also, as a result of the Acquisition, income (loss) per share is not presented for periods prior to the five months ended March 31, 1995 in accordance with SECSAB Topic 1:B2. In February 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 128, Earnings Per Share ("SFAS 128"). SFAS 128 requires disclosure of basic earnings per share based on income available to common stockholders and the weighted average number of common shares outstanding during the period, and diluted earnings per share based on income available to common stockholders and the weighted average number of common and dilutive potential common shares outstanding during the period. The adoption of SFAS 128 is required for fiscal years ending after December 15, 1997, and earlier adoption is not permitted. Had TSG adopted SFAS 128 during the years ended March 29, 1996 and March 28, 1997, basic earnings per share on a pro forma basis would have been $.34 and $.22 per share, respectively, and diluted earnings per share on a pro forma basis would have been $.30 and $.21 per share, respectively. New Accounting Pronouncements In February 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 129, Disclosure of Information about Capital Structure ("SFAS 129"). SFAS 129 requires a Company to explain the privileges and rights of its various outstanding securities, the number of shares issued upon conversion, exercise or satisfaction of required conditions during the most recent annual fiscal period, liquidation preferences of preferred stock and other matters with respect to preferred stock. Although the statement is effective for periods ending after December 15, 1997, TSG's financial statement disclosures are in compliance with SFAS 129. In June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 130, Reporting Comprehensive Income ("SFAS 130"). SFAS 130 establishes standards for reporting and display of comprehensive income and its components in a full set of general-purpose financial statements. Comprehensive income is defined as the change in equity of a business during a period from transactions and events and circumstances from non-owner sources, and includes all changes in equity during a period except those resulting from investments by owners and distributions to owners. SFAS 130 is effective for fiscal years beginning after December 15, 1997. The adoption of SFAS 130 will not have a material effect on TSG's results of operations or financial position. Also, in June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 131, Disclosure about Segments of an Enterprise and Related Information ("SFAS 131"). SFAS 131 requires public entities to report certain information about operating segments, their products and services, the geographic areas in which they operate, and their major customers, in complete financial statements and in condensed interim financial statements issued to stockholders. SFAS 131 is effective for fiscal years beginning after December 15, 1997. The adoption of SFAS 131 will not have a material effect on TSG's results of operations or financial position. Use of Estimates C-10 The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Interim Financial Information The financial statements as of and for the three months ended June 27, 1997 and June 28, 1996 are unaudited. In the opinion of management, all adjustments, including recurring adjustments, necessary for a fair presentation of the results of operations have been included and these adjustments include no unusual items. 4. INVENTORIES Inventories at March 29, 1996, March 28, 1997 and June 27, 1997 consisted of the following:
March 29, March 28, June 27, 1996 1997 1997 ----------- ----------- ----------- (Unaudited) Raw materials $ 7,404 $ 6,154 $ 6,229 Work-in-process 1,207 2,117 1,827 Finished goods 1,654 4,036 2,840 ----------- ----------- ----------- 10,265 12,307 10,896 Reserve for potential losses (1,606) (1,428) (1,115) ----------- ----------- ----------- $ 8,659 $ 10,879 $ 9,781 =========== =========== ===========
Substantially all inventories are pledged to collateralize notes payable (see Note 7). 5. PROPERTY AND EQUIPMENT Property and equipment at March 29, 1996 and March 28, 1997 consisted of the following:
March 29, March 28, 1996 1997 ----------- ----------- Land $ 121 $ -- Building and building improvements 877 -- Machinery and equipment 2,009 2,287 Furniture and fixtures 120 111 Leasehold improvements 151 168 ----------- ----------- 3,278 2,566 Accumulated depreciation (1,079) (1,719) ----------- ----------- $ 2,199 $ 847 =========== ===========
C-11 Substantially all property and equipment is pledged to collateralize notes payable (see Note 7). Depreciation expense for the seven months ended October 30, 1994 and five months ended March 31, 1995 aggregated $455 and $308, respectively. Depreciation expense for the years ended March 29, 1996 and March 28, 1997 aggregated $784 and $795, respectively. Assets under capital leases are capitalized using interest rates appropriate at the date of purchase or at the inception of the lease, as applicable. The following is a summary of TSG's assets under capital leases which are included in property and equipment at March 29, 1996: Land $ 121 Building and building improvements 877 Machinery and equipment 60 ---------- 1,058 Accumulated depreciation (71) ---------- $ 988 ==========
During the year ended March 28, 1997, TSG closed a one hundred thousand square foot manufacturing facility located in Paducah, Kentucky and assigned its capital lease obligation to an unaffiliated third party. Accordingly, TSG recorded the retirement of the outstanding capital lease obligation and the disposition of the property during the year ended March 28, 1997. In connection with this transaction, TSG realized a gain of $44 representing the difference between the outstanding lease obligation ($933) plus the proceeds received ($50) and the net book value of the property ($939). 6. OTHER ASSETS AND GOODWILL Other assets at March 29, 1996 and March 28, 1997, net of accumulated amortization of $206 and $375 respectively, consisted of the following:
March 29, March 28, 1996 1997 ----------- ----------- Product software, net of accumulated amortization of $66 and $113 168 543 Patents, net of accumulated amortization of $46 and $79 118 85 Customer contracts, net of accumulated amortization of $55 and $94 71 32 Unpatented technology, net of accumulated amortization of $16 and $27 44 33 Patent license, net of accumulated amortization of $23 and $62 110 71 Deferred initial public offering expenses 338 -- Deposits 41 40 Other 1 3 ----------- ----------- $ 891 $ 807 =========== ===========
C-12 The excess of the purchase price over the fair value of net assets acquired in connection with the Acquisition (goodwill), including the escrow consideration distributed during the year ended March 29, 1996, aggregated $4,184. Tax benefits of acquired deferred tax assets of $211 and $442 during the years ended March 29, 1996 and March 28, 1997, respectively, were applied against the excess purchase price (see Note 10). Accumulated amortization of goodwill at March 29, 1996 and March 28, 1997 was $169 and $278, respectively. Other intangible assets recorded in connection with the Acquisition consisted of product software of $234 patents of $164, customer contracts of $126 and unpatented technology of $60. These assets are being amortized over estimated useful lives ranging from less than two years to five years, and are reported at the lower of cost, net of accumulated amortization, or net realizable value. During the year ended March 28, 1997, TSG capitalized software development costs of $422 in connection with the development of new products. Software development costs during the five months ended March 31, 1995 and year ended March 29, 1996 were not significant. Amortization expense for the seven months ended October 30, 1994, five months ended March 31, 1995 and years ended March 29, 1996 and March 28, 1997 amounted to $193, $100, $277 and $277, respectively. 7. BORROWINGS UNDER REVOLVING CREDIT AGREEMENT, LONG-TERM DEBT, CAPITAL LEASE OBLIGATIONS AND NOTES PAYABLE TO STOCKHOLDERS Borrowings Under Revolving Credit Agreement At March 29, 1996, TSG was able to borrow up to a maximum of $9 million under term and installment notes and a revolving credit agreement under the terms of a Loan and Security Agreement (the "Loan Agreement") between TSG and its bank. Indebtedness under the Loan Agreement at March 29, 1996 included $2,525 outstanding under term and installment notes and $1,094 outstanding under the revolving credit agreement. At March 28, 1997 and June 27, 1997, TSG was able to borrow up to a maximum of $9 million under the revolving credit agreement. At March 28, 1997 and June 27, 1997, TSG had outstanding debt of $3,811 and $2,400 (unaudited), respectively, under the revolving credit agreement. Amounts borrowed under the Loan Agreement are collateralized by substantially all assets of TSG including accounts receivable, inventories and property and equipment. The borrowing limit under the revolving credit agreement is based upon specified percentages applied to the value of collateral, consisting of accounts receivable and inventories (less amounts outstanding under a $2.2 million term note at March 29, 1996), and varies based upon changes in the collateral value. Interest is payable monthly based upon the greater of the actual outstanding debt balances or $4 million at a variable rate per annum equal to 1.5% above a base rate quoted by Citibank (8.25% March 29, 1996 and 8.50% at March 28, 1997). The Loan Agreement is renewable annually for one year periods unless terminated by the bank upon an occurrence of an event of default or by TSG upon at least 90 days notice. TSG has agreed to pay termination fees of up to 2% of the average monthly borrowings or the minimum loan amount ($4 million), whichever is greater, if the Loan Agreement is terminated on the date other than an anniversary date. The Loan Agreement contains conditions and covenants that prevent TSG from engaging in certain transactions without the consent of the bank, including merging or consolidating, payment of subordinated stockholder debt obligations, declaration or payment of dividends and disposition of assets, among others. Additionally, the Loan Agreement requires TSG to comply with specific financial covenants, including covenants with respect to cash flow, working capital and net worth. Noncompliance with any of these conditions and covenants or the occurrence of any other event of default, if not waived or corrected, could accelerate the maturity of the borrowings outstanding under the Loan Agreement. TSG was in compliance with the covenants and conditions contained in the Loan Agreement at March 29, 1996 and March 28, 1997. Pursuant to an amendment to the Loan Agreement on October 31, 1994, $2.2 million of debt outstanding under the revolving credit agreement was converted into a term note payable on November 30, 1997. C-13 In addition, the term of the Loan Agreement was extended from May 31, 1995 to November 30, 1997, and the interest rate on amounts borrowed under the terms of the Loan Agreement was reduced by .75%. Proceeds of $2,569 pursuant to subordinated promissory notes dated October 31, 1994 issued to stockholders were used to retire debt outstanding under the revolving credit agreement. After such repayment, the initial principal balance outstanding under the $2.2 million term note on October 31, 1994 amounted to $1,292. Between October 31, 1994 and March 31, 1995, TSG borrowed the balance available under the $2.2 million term note of $908. Pursuant to a June 9, 1994 amendment to the Loan Agreement, the aggregate principal obligation under an installment note was decreased from $500 to $465, and TSG borrowed an additional $402. The expiration date of the Loan Agreement and the due date of the term and installment notes were extended from February 28, 1995 to May 31, 1995. The monthly principal payment under the installment note was increased from $21 to $25. This note was repaid during the year ended March 29, 1996. In May 1996, TSG completed an initial public offering of equity securities (see Note 9). A portion of the proceeds of the initial public offering were used to repay TSG's then outstanding indebtedness under the Loan Agreement. Accordingly, TSG classified $1,094 of indebtedness outstanding under the revolving credit facility as a long-term obligation at March 29, 1996. Long-Term Debt and Capital Lease Obligations Long-term debt and capital lease obligations payable at March 29, 1996 consisted of the following: Loan and Security Agreement $2.2 million secured term note, principal balance due November 30, 1997 $ 2,200 $650 secured term note, principal payable in sixty equal monthly installments of $8, with remaining principal balance due November 30, 1997 325 Unsecured non-interest bearing promissory note, payable in nineteen equal monthly installments of $11 33 Obligations under capital leases 975 ----------- 3,533 Less - current maturities (118) ----------- $ 3,415 ===========
At March 31, 1995, TSG had outstanding indebtedness of $203 pursuant to 10% interest bearing promissory notes payable to a company affiliated with certain officers and employees of TSG. Outstanding indebtedness under these promissory notes was paid in full during the year ended March 29, 1996. Interest paid pursuant to these notes during the years ended March 31, 1995 and March 29, 1996 aggregated $49 and $9, respectively. On November 9, 1994, TSG executed a non-interest bearing promissory note in the principal amount of $207 representing unpaid royalties at October 31, 1994 due to TSG affiliated with certain of TSG's officers and employees. The note, payable in nineteen equal monthly installments of $11 commencing on December 11, 1994, had an outstanding balance of $33 at March 29, 1996. This note was paid in full during the year ended March 28, 1997. In May 1996, TSG completed an initial public offering of equity securities (see Note 9). A portion of the proceeds of the initial public offering were used to repay TSG's then outstanding indebtedness under the Loan Agreement. Accordingly, TSG classified indebtedness outstanding under the $2.2 million term note and $310 of indebtedness then outstanding under the $650 term note as long-term obligations at March 29, 1996. During the year ended March 28, 1997, TSG assigned its capital lease obligation with respect to a one hundred thousand square foot manufacturing facility located in Paducah, Kentucky to an unaffiliated third C-14 party. Accordingly, TSG recorded the retirement of the capital lease obligation with a then outstanding balance of $933 (see Note 5) during the year ended March 28, 1997. Notes Payable to Stockholders On June 9, 1994, TSG borrowed $400 from its preferred stockholders and issued a subordinated master promissory note payable on demand bearing interest at a rate of 10% per annum. This note, accrued interest and preference fees, which when added to accruing interest would equal 5% of the outstanding principal amount for each month that the note was outstanding, became due upon the Acquisition. Accordingly, the subordinated master promissory note, together with accrued interest and preference fees from the date of issuance aggregating $96 were retired on October 31, 1994. On October 31, 1994, TSG entered into an Investment Agreement with the investors. Under the terms of the Investment Agreement, TSG borrowed $2.8 million from the investors and issued 10% interest bearing subordinated promissory notes due November 1, 1999. During the year ended March 28, 1997, TSG repaid the subordinated promissory notes with a portion of the proceeds from its initial public offering (see Note 9). Interest accrued under the terms of the subordinated promissory notes was payable semi-annually beginning May 1, 1995. During the years ended March 29, 1996 and March 28, 1997, TSG paid interest with respect to the subordinated notes of $280 and $152, respectively. At March 29, 1996, interest accrued under the terms of the subordinated promissory notes aggregated $117. 8. ACCRUED LIABILITIES Accrued liabilities at March 29, 1996 and March 28, 1997 consisted of the following:
March 29, March 28, 1996 1997 ----------- ----------- Workers' compensation and employee group insurance $ 117 $ 104 Salaries, wages and related employee benefits and taxes 339 255 Interest 150 32 Royalties 273 -- Warranty expense 210 367 Sales and use taxes 24 7 Professional fees 99 91 Environmental costs 13 1 Property taxes 21 29 Bonuses 75 62 Other 151 67 ----------- ----------- $ 1,472 $ 1,015 =========== ===========
9. STOCKHOLDERS' EQUITY Preferred Stock TSG is authorized, under its Certificate of Incorporation as amended on October 31, 1994, to issue up to 100,000 shares of preferred stock, $100 par value, in one or more series or other designations determined by the Board of Directors ("Board") of TSG. The Board is authorized to determine, as to any particular series of preferred stock: the dividend rights, including annual dividend rates and whether the dividends shall be cumulative C-15 or non-cumulative; redemption provisions; per-share liquidation preferences; voting powers; conversion terms; and any other rights or preferences. No dividends may be paid or declared on TSG's common stock or on any other class of stock ranking junior to the preferred stock, nor shall any shares of common stock or any other class of stock ranking junior to the preferred stock be purchased, retired or otherwise acquired by TSG unless all dividends accrued and payable on preferred shares and all amounts required to retire the preferred shares have been paid out of assets legally available for the payment of such obligations. At March 28, 1997, no preferred stock had been issued, nor has the Board designated any series of preferred stock for issuance or determined any related rights or preferences. In connection with the Acquisition, the then outstanding shares of TSG's Series A, Series B, Series C and Series E preferred stock were cancelled. The Series A, Series B, Series C and Series E preferred stock had per-share liquidation preferences of $15, $5, $2.50 and $2.50, respectively, plus declared and unpaid dividends. The aggregate liquidation preference of the preferred stock in order of priority were as follows: Series E - $750; Series C - $5,852; Series B - $1,500; and Series A - $4,600. The shares of preferred stock were convertible into an equal number of shares of common stock, subject to certain anti-dilution provisions. Shares of Series A, Series B and Series C preferred stock were convertible into voting common stock. Shares of Series E preferred stock were convertible into non-voting common stock. Series A, Series B and Series C preferred shares had voting rights equal to the number of shares of common stock which would have been received upon conversion to common shares. The Series E preferred stock had no voting rights. TSG could not, without the consent of stipulated percentages of holders of the applicable series of preferred stock, authorize or create any class or series of capital stock ranking, either as to payment of dividends or distribution of assets, prior to or on a parity with such series of convertible preferred stock or alter or change the powers, preferences or rights of such series of convertible preferred stock. Further, TSG could not sell shares of capital stock ranking, either as to payment of dividends or distribution of assets, prior to or on parity with those of convertible preferred stock at prices less than the conversion prices or convertible into common stock at prices less than the conversion prices of convertible preferred stock without such consent(s). Common Stock TSG is authorized, under its Certificate of Incorporation as amended on October 31, 1994, to issue up to 10,000,000 shares of common stock, $.01 par value. As described in Note 1, TSG issued 3.5 million shares of common stock on October 31, 1994 in accordance with the terms of an Investment Agreement between TSG, Wexford and certain former investors. Holders of voting common stock are entitled to one vote per share on all matters to be voted on by the stockholders. No dividends may be paid or declared on TSG's common stock until all dividends accrued and payable on preferred shares outstanding have been paid. In connection with the Acquisition, the then outstanding shares of TSG's common stock were cancelled. Prior to the Acquisition, TSG was authorized to issue 11,100,000 shares of common stock, $.05 par value. Initial Public Offering and Common Stock Purchase Warrants In May 1996, TSG completed an initial public offering of 1,150,000 units (the "Units"), each Unit consisting of one share of common stock and one redeemable warrant ("Redeemable Warrant") at a price of $9.00 per Unit for gross proceeds of $10,350. In connection with the offering, TSG issued warrants to the underwriters to purchase 100,000 shares of common stock (the "Underwriter Warrants") for nominal consideration. Net proceeds received by TSG, after underwriting discounts and expenses of $1,232 and other expenses of $825, amounted to $8,293. At March 29, 1996, TSG had incurred, and deferred as other assets, offering expenses of $338. Accordingly, net proceeds during the year ended March 28, 1997 amounted to $8,632. Two Redeemable Warrants entitle the holder thereof to purchase one share of common stock at an exercise price of $11.00 per share. Unless the Redeemable Warrants are redeemed, the Redeemable Warrants C-16 may be exercised at any time beginning on May 10, 1996 and ending May 9, 1999, at which time the Redeemable Warrants will expire. Beginning on February 10, 1997, the Redeemable Warrants are redeemable by TSG at its option, as a whole and not in part, at $.05 per Redeemable Warrant on 30 days' prior written notice, provided that the average closing price of the common stock equals or exceeds $12.00 per share for 20 consecutive trading days ending within five days prior to the date of the notice of redemption. The Redeemable Warrants will be entitled to the benefit of adjustments in the exercise price and in the number of shares of common stock deliverable upon the exercise thereof upon the occurrence of certain events, including a stock dividend, stock split or similar reorganization. The Underwriter Warrants are initially exercisable at a price of $10.80 per share of common stock. The Underwriter Warrants contain anti-dilution provisions providing for adjustments of the number of warrants and exercise price under certain circumstances. The Underwriter Warrants grant to the holders thereof certain rights of registration of the securities issuable upon exercise of the Underwriter Warrants. The Underwriter Warrants may be exercised at any time beginning on May 10, 1997 and ending May 9, 2001, at which time the Underwriter Warrants will expire. As of October 31, 1994, TSG had outstanding warrants to purchase an aggregate of 312,000 shares of Series C preferred stock at a price of $2.50 per share. These warrants were cancelled upon consummation of the Acquisition. Generally, the warrants were exercisable for five-year periods beginning either on the issuance date or one year thereafter, and expired on various dates through March 31, 1996. On May 23, 1995, TSG issued a warrant to one of its contract manufacturers to purchase 40,000 shares of common stock, $.01 par value, at a price of $4.00 per share in return for the extension of credit under the terms of a manufacturing agreement between TSG and the contract manufacturer. On June 17, 1996, the warrant was exercised and TSG issued 40,000 shares of common stock for aggregate proceeds of $160. Stock Options On November 1, 1994, TSG's Board of Directors adopted the 1994 Omnibus Stock Plan (the "Stock Plan"). The Stock Plan provides the Board or a committee of the Board with the authority to grant to officers and employees of TSG incentive stock options within the meaning of Section 422A of the Internal Revenue Code and to grant to directors, officers, employees and consultants of TSG non-qualified stock options and restricted stock which do not qualify as incentive stock options. An aggregate of 635,000 shares of TSG's common stock may be issued under the Stock Plan. The maximum number of shares with respect to which options may be granted to any one employee may not exceed 300,000 shares. The Board's authority to grant options under the Stock Plan expires on November 1, 2004. The Stock Plan is administered by a Stock Plans Committee consisting of members appointed by the Board. The Board has the authority to determine option periods, the number of shares of common stock subject to options granted and such other terms and conditions under which options may be exercised. The Board also has the authority to determine at which times options or restricted stock may be granted, the purchase price of restricted stock, whether an option shall be an incentive stock option or a non-qualified option, whether restrictions such as repurchase rights are to be imposed on shares subject to options and restricted stock, and the nature of such restrictions. The per-share option price of incentive stock options granted under the Stock Plan shall not be less than the per-share fair market value, as determined by the Board, of TSG's common stock as of the date of grant, or 110% of the per-share market value with respect to incentive stock options granted to employees owning 10% or more of the total combined voting power of all classes of TSG's stock. Option periods shall not exceed ten years from the date options are granted, or five years with respect to incentive stock options to employees owning 10% or more of the total voting power of all classes of TSG's stock. Options granted under the Stock Plan generally expire 60 days after termination of employment or at the end of the option period stipulated by the Board in the option agreement, whichever is earlier. The Board has the authority to accelerate the date of exercise of an option or any installment thereof, unless, in the case of incentive stock options, such acceleration would violate the annual vesting limitations contained in Section 422(d) of the Internal Revenue Code. The exercise prices of options granted under the Stock Plan are subject to adjustment upon any subdivision, combination, merger, splits, split-up, liquidation, or the like, C-17 to reflect such subdivision, combination or exchange. The number of shares of common stock to be received upon exercise of options granted under the Stock Plan are subject to adjustment upon declarations of stock dividends between the date of grant and the date of exercise of options. Also, the number of shares of common stock reserved for issuance under the Stock Plan shall be adjusted upon the occurrence of such events. The Board may grant restricted stock under the Stock Plan pursuant to a restricted stock agreement. The Board has the authority to determine the number of shares of common stock to be issued and to the extent, if any, to which they shall be issued in exchange for cash and/or other consideration. Shares issued pursuant to restricted stock may not be sold, transferred, pledged, or otherwise disposed of, except by the laws of descent and distribution, or as otherwise determined by the Board for a period as determined by the Board from the date the restricted stock is granted. TSG has the right to repurchase restricted stock at such price as determined by the Board on the date of grant. The repurchase rights are exercisable on such terms as determined by the Board upon the termination of services of the grantee prior to expiration of the restriction on transfer of the shares, failure of the grantee to pay TSG income taxes required to be withheld in respect of the restricted stock or under such other circumstances as the Board may determine. The following table summarizes the status and changes in stock options outstanding under the Stock Plan for the five months ended March 31, 1995 and years ended March 29, 1996 and March 28, 1997:
Weighted Option Average Number Price Exercise of Range Price Shares Per Share Per Share ------------ --------------- ------------- Outstanding at October 31, 1994 -- $ -- $ -- Options granted 357,000 1.00 1.00 ------------ Outstanding at March 31, 1995 357,000 1.00 1.00 Options granted 89,000 1.00 - 5.00 4.78 Options cancelled (11,750) 1.00 1.00 ------------ Outstanding at March 29, 1996 434,250 1.00 - 5.00 1.77 Options granted 191,250 8.00 - 10.781 9.23 Options exercised (5,000) 1.00 1.00 Options cancelled (78,500) 1.00 - 9.50 7.74 ------------ Outstanding at March 28, 1997 542,000 1.00 - 10.781 3.55 ============ Options Exercisable at March 31, 1995 89,250 1.00 1.00 ============ Options Exercisable at March 29, 1996 196,750 1.00 - 5.00 1.43 ============ Options Exercisable at March 28, 1997 327,563 1.00 - 10.781 2.35 ============
Options granted and outstanding under the Stock Plan are generally exercisable in four equal annual installments beginning on the date of grant. At March 28, 1997, outstanding options under the Stock Plan have a weighted average remaining contractual life of 8.17 years. At March 29, 1996 and March 28, 1997, 635,000 and 630,000 shares, respectively, were reserved for issuance under the Stock Plan. On May 10, 1995, the Board of Directors approved the adoption of the 1995 Employee Stock Purchase Plan (the "Employee Plan"). The Employee Plan provides the Board of Directors with the authority to grant to TSG's officers and employees the right to purchase up to 100,000 shares of common stock at 85% of the public market price. However, the Employee Plan did not become effective until TSG's initial public offering. The rights granted under the Employee Plan are exercisable for an offering period as determined by the Board of Directors, which may not exceed 27 months. No employee may be granted an option under which the employee's C-18 right to purchase shares under the Employee Plan first become exercisable at a rate in excess of $25 in fair market value (determined at the date of grant) in any calendar year. Also, an employee may not allocate in excess of 10% of his or her compensation for purchase of stock under the Employee Plan during any offering period. The Stock Plans Committee of the Board of Directors administers the Employee Plan. The Employee Plan was approved by the stockholders of TSG on December 26, 1995. At March 29, 1996 and March 28, 1997, 100,000 and 93,240 shares of common stock, respectively, were reserved for issuance under the Employee Plan. During the first offering period ending November 15, 1996, 6,760 shares were purchased by employees at a price of $7.65 per share. During the second offering which commenced January 13, 1997 (and which will end on July 11, 1997), 5,930 shares are subject to purchase under the Employee Plan based on the base compensation of participates and the per-share market price of TSG's common stock on January 13, 1997. The actual number of shares that may be issued will vary based upon compensation of the participants during the offering period, the per-share market value of TSG's common stock on July 11, 1997, and the number of participates who have not withdrawn by the July 11, 1997 end date. On May 10, 1995, the Board approved the adoption of the 1995 Non- Employee Director Stock Option Plan (the "Director Plan"). The Director Plan provides for the grant to directors who are not employees of TSG of options to purchase up to 100,000 shares of common stock. The Director Plan is administered by the Stock Plans Committee consisting of members appointed by the Board. Pursuant to the Director Plan, each non-employee director was automatically granted a non-qualified option to purchase 10,000 shares of common stock upon the consummation of TSG's initial public offering on May 10, 1996. Thereafter, on September 1 of each year, each non-employee director receives a non-qualified option to purchase 3,000 shares of common stock. Any non-employee director who is first appointed or elected after TSG's initial public offering will receive a non-qualified stock option to purchase 3,000 shares of common stock upon such appointment or election and an additional option to purchase 3,000 shares of common stock on each anniversary of the date of his or her election, provided that he or she is then serving as a non-employee director. Options granted upon consummation of TSG's initial public offering became exercisable six months from the date the offering. All other options become exercisable on the anniversary of the date of grant. Option periods shall not exceed ten years from the date options are granted. Options granted under the Director Plan have an exercise price equal to the market value per share of the common stock on the date of grant. Options granted expire 180 days after the date a director ceases to serve as a director or 10 years from the grant date, whichever is earlier. Vesting is accelerated in the event of a change of control of TSG. On May 10, 1996, options to purchase 30,000 shares of common stock were automatically granted to non-employee directors at an exercise price of $8.50 per share. On May 17, 1996, options to purchase 3,000 shares of common stock were granted at an exercise price of $10.781 to a non-employee director elected to the Board on that date. On September 1, 1996, options to purchase 9,000 shares of common stock were automatically granted to non-employee directors at an exercise price of $10.812 per share. On March 14, 1997, options to purchase 3,000 shares of common stock were granted at an exercise price of $5.00 to a non-employee director elected to the Board on that date. At March 28, 1997 options to purchase 45,000 shares of common stock at a weighted-average exercise price of $8.88 per share were outstanding under the Director Plan. Options granted under the Director Plan to purchase 30,000 shares of common stock at a weighted-average exercise price of $8.50 per share were exercisable at March 28, 1997. At March 28, 1997, outstanding options under the Director Plan have exercise prices ranging between $5.00 and $10.812 per share and a weighted average remaining contractual life of 9.23 years. TSG has reserved 100,000 shares of common stock for issuance under the Director Plan at March 29, 1996 and March 28, 1997. C-19 The following table summarizes information about stock options outstanding under the Stock Plan and Director Plan at March 28, 1997:
Options Outstanding Options Exercisable ----------------------------------------------------- --------------------------------- Weighted Weighted Weighted Exercise Average Average Average Price Remaining Exercise Exercise or Range Number Contractual Price Number Price Per Share Outstanding Life (years) Per Share Exercisable Per Share - ------------------ ---------------- -------------- ------------- ---------------- ------------- $ 1.00 337,250 7.45 $ 1.00 254,500 $ 1.00 5.00 83,000 8.89 5.00 40,000 5.00 8.50 30,000 9.11 8.50 30,000 8.50 9.50 123,500 9.31 9.50 32,750 9.50 10.78-10.81 13,250 9.33 10.80 313 10.78 Total 587,000 8.17 3.96 357,563 2.86
On October 31, 1994 upon consummation of the Acquisition, TSG's Incentive Stock Option Plan (the "Plan") adopted by the Board of Directors effective June 1, 1992 was cancelled. The Plan provided the Board with the authority to grant to key employees of TSG incentive stock options to purchase up to a maximum of 300,000 shares of TSG's common stock. Options granted under the Plan were intended to constitute incentive stock options within the meaning of Section 422A of the Internal Revenue Code. The Board had the authority to determine option periods, the number of shares of common stock subject to options granted and such other terms and conditions under which options may be exercised. Options granted under the Plan were to expire upon termination of employment or at the end of the option period stipulated by the Board in the option agreement, whichever was earlier. The Plan specifically limited the aggregate fair market value of options which could be exercised by an employee in any one calendar year to $100. The Board's authority to grant options under the Plan was to expire on May 31, 2002. On August 4, 1994, the Board of Directors authorized management to grant options covering 253,500 shares of common stock to employees. However, as of the date of cancellation of the Plan, no options had been granted. Stock Option Compensation TSG has adopted the disclosure-only provisions of SFAS 123. Accordingly, no compensation cost has been recognized for stock options and purchase rights granted under TSG's plans in accordance with the requirements of APB 25. Had compensation cost related to stock options and purchase rights granted under TSG's plans been recognized based on the fair value of awards on the grant dates consistent with SFAS 123, TSG would have recorded compensation expense of $55 and $613 during the years ended March 29, 1996 and March 28, 1997. The fair value of each option or right granted under TSG's stock option and purchase plans is estimated on the date of grant using the Black-Scholes option pricing model. The significant weighted-average C-20 assumptions used during the years ended March 29, 1996 and March 28, 1997 to estimate the fair values of options and rights granted under TSG's plans are summarized in the following table.
Year Ended Year Ended March 29, March 28, 1996 1997 -------------- --------------- Stock Plan: Expected volatility 74.80% 72.30% Expected life 3.5 years 3.5 years Risk-free interest rate 5.22% 6.35% Expected dividend yield None None Director Plan: Expected volatility -- 76.00% Expected life -- 2.67 years Risk-free interest rate -- 6.30% Expected dividend -- None Employee Plan: Expected volatility -- 76.90% Expected life -- .5 years Risk-free interest rate -- 5.32% Expected dividend -- None
Based on these assumptions, the weighted-average fair value of each option and right granted under TSG's plans for the years ended March 29, 1996 and March 28, 1997 amounted to $2.63 and $4.70, respectively. The weighted-average fair value of each option granted under the Stock Plan during the years ended March 29, 1996 and March 28, 1997 was $2.63 and $5.04, respectively. The weighted-average fair value of each option granted under the Director Plan during the year ended March 28, 1997 was $4.53. The weighted-average fair value of each purchase right granted under the Employee Plan during the year ended March 28, 1997 was $1.91. A comparison of TSG's net income and net income per share as reported and on a pro forma basis had compensation cost been recorded based on the fair value at the grant dates for options and rights granted under TSG's plans in accordance with SFAS 123 for the years ended March 29, 1996 and March 28, 1997 is set forth below:
Year Ended Year Ended March 29, March 28, 1996 1997 -------------- --------------- Net income As reported $ 1,177 $ 1,010 Pro Forma $ 1,144 $ 635 Net income per share - primary As reported $ 0.30 $ 0.22 Pro Forma $ 0.30 $ 0.14 Net income per share - assuming full dilution As reported $ 0.30 $ 0.22 Pro Forma $ 0.30 $ 0.14
C-21 Common Stock Reserved The number of shares of Common stock reserved for issuance pursuant to TSG's stock option and purchase plans and outstanding common stock warrants at March 29, 1996 and March 28, 1997 is summarized as follows:
March 29, March 28, 1996 1997 ----------------- --------------- Stock Option and Purchase Plans 835,000 823,240 Redeemable Warrants -- 575,000 Underwriter Warrants -- 100,000 Common Stock Purchase Warrants 40,000 -- ----------------- --------------- 875,000 1,498,240 ================= ===============
10. INCOME TAXES There was no income tax expense (benefit) for the seven months ended October 30, 1994 and five months ended March 31, 1995. Income tax expense (benefit) for the years ended March 29, 1996 and March 28, 1997 and three months ended June 27, 1997 and June 28, 1996 is summarized as follows:
Three Year Three Months Months Ended Year Ended Ended Ended March 29, March 28, June 28, June 27, 1996 1997 1996 1997 ------------- -------------- ----------------- -------------- (Unaudited) (Unaudited) Current tax expense: Federal $ 102 $ 564 $ 218 $ (257) State 64 19 44 (30) ------------ ------------- ------------- ------------- Total current 166 583 262 (287) ------------ ------------- ------------- ------------- Deferred tax (benefit) expense: Federal 150 (53) (35) 249 State 10 3 (10) 26 ------------ ------------- ------------- ------------- Total deferred 161 (50) (45) 275 ------------ ------------- ------------- ------------- $ 326 $ 533 $ 217 $ (12) ============ ============= ============= =============
C-22 Income tax expense differs from the amount of income taxes determined by applying the applicable U.S. statutory federal income tax rate to income (loss) before income taxes as a result of the following:
Five Seven Months Three Three Months Ended Year Year Months Months Ended March Ended Ended Ended Ended October 30, 31, March 29, March 28, June 28, June 27, 1994 1995 1996 1997 1996 1997 ------------- ----------- -------------- ------------ -------------- --------------- (Unaudited) (Unaudited) Statutory income tax $ (144) $ (362) $ 511 $ 525 $ 273 $ 8 State taxes, net -- -- 47 13 26 (19) Non-deductible expenses 15 41 103 58 15 14 Losses for which no tax benefit was provided 129 321 -- -- -- -- Utilization of loss carryforwards -- -- (335) (72) (72) (72) Other -- -- -- 9 (25) (57) ------------ --------- --------- ---------- ------------ ------------- Effective income tax $ -- $ -- $ 326 $ 533 $ 217 $ (12) ============ ========= ========= ========== ============ =============
Deferred tax assets and liabilities arising from temporary differences at March 29, 1996 and March 28, 1997 are comprised of the following:
March 29, March 28, 1996 1997 ------------ ---------- Deferred tax assets:-- Net operating loss carryforwards $ 6,597 $ 5,411 Inventories 900 908 Accrued liabilities 166 205 Accrued restructuring charges 6 11 Deferred revenue 145 145 Accounts receivable 84 57 Depreciation -- 51 Long-term debt 36 -- ---------- --------- Total deferred tax assets 7,934 6,788 ---------- --------- Deferred tax liabilities: Other assets (72) (45) Property and equipment (59) (65) Depreciation (87) -- ---------- --------- Total deferred tax liabilities (218) (110) ---------- --------- Excess of deferred tax assets over liabilities 7,716 6,678 Valuation allowance (7,666) (6,135) ---------- --------- Net deferred tax assets $ 50 $ 543 ========== =========
C-23 The valuation allowance for deferred tax assets during the seven months ended October 30, 1994 and five months ended March 31, 1995 increased by $964 and $425, respectively. The valuation allowance for deferred tax assets during the years ended March 29, 1996 and March 28, 1997 decreased by $1,407 and $1,531, respectively. A full valuation allowance was maintained through March 31, 1995 because it is more likely than not that deferred tax assets will not be realized. Income taxes currently payable for the years ended March 29, 1996 and March 28, 1997 were reduced by $455 and $72, respectively, through the utilization of net operating loss carryforwards. During the years ended March 29, 1996 and March 28, 1997, TSG reduced the valuation allowance and recorded tax benefits of $50 and $493, respectively. Deferred tax benefits from utilization of net operating loss carryforwards and reductions in the valuation allowance of $211 and $442 were allocated to reduce goodwill during the years ended March 29, 1996 and March 28, 1997, respectively. As of March 28, 1997, TSG has tax net operating loss carryforwards available to reduce future taxable income of approximately $14 million, which expire from 1998 through 2010. The utilization of such net operating loss carryforwards and realization of tax benefits in future years depends predominantly upon the recognition of taxable income. Further, the utilization of these carryforwards is subject to annual limitations as a result of the change in ownership of TSG (as described in Note 2) as defined in the Internal Revenue Code. The limitation approximates $210 annually and represents the value of TSG's capital stock immediately before the date of the ownership change multiplied by the federal long-term tax-exempt rate in effect during the month the ownership change occurred. This limitation does not reduce the total amount of net operating losses which may be taken, but rather substantially limits the amount which may be used during a particular year. As a result, TSG will be unable to use a significant portion of its net operating loss carryforwards. 11. RESTRUCTURING CHARGES AND CREDITS As a result of the Acquisition and additional financing described in Note 2, TSG was able to settle certain severance obligations under terminated employment contracts and negotiate the termination of certain non-cancelable lease obligations with respect to facilities closed in connection with a restructuring initiated in fiscal 1994. The severance and lease obligations were settled on terms more favorable than previously estimated, which resulted in the recognition of restructuring credits of $249 and $274, respectively, during the seven months ended October 30, 1994. In addition, TSG revised its estimate of certain other severance obligations, and recorded additional restructuring credits of $11. Accordingly, during the seven months ended October 30, 1994, TSG realized net restructuring credits of $534. During the year ended March 28, 1997, TSG approved and initiated a consolidation plan intended to augment its on-going productivity and quality improvement programs. The consolidation plan provided for the closure of TSG's Kentucky manufacturing facility, the closure of TSG's Georgia corporate office facility, the consolidation of repair, refurbishment and conversion service operations into TSG's Virginia facility and the consolidation of corporate activities and product assembly operations into a new Georgia facility. In connection with this plan, TSG recorded restructuring charges of $63 during the year ended March 28, 1997. These restructuring charges consist of severance obligations and losses related to abandonment of assets. Relocation expenses and other incremental costs incurred in connection with the consolidation and charged to operations during the year ended March 28, 1997 approximated $350. C-24 12. PROFIT SHARING RETIREMENT PLAN On January 1, 1995, TSG adopted a 401(k) retirement and profit sharing plan. Eligible employees of TSG who are 21 years of age with one or more years of service and who are not covered by collective bargaining agreements may elect to participate in the plan. Employees who elect to become participants in the plan may contribute up to 15% of their compensation to the plan up to a maximum dollar limit established by law. TSG may also contribute to the plan at the discretion of the Board of Directors. Contributions by TSG may consist of matching contributions, discretionary profit sharing contributions and other special contributions. During the five months ended March 31, 1995 and years ended March 29, 1996 and March 28, 1997, TSG accrued profit sharing and retirement expense of $2, $16 and $27, respectively, pursuant to discretionary matching contributions authorized by the Board of Directors. Contributions to the plan funded by TSG during the years ended March 29, 1996 and March 28, 1997 amounted to $14 and $26, respectively. Participants are 100% vested with respect to their compensation contributions to the plan. Vesting in Company discretionary contributions begins at 20% after one year of service and increases by 20% annually each year until full (100%) vesting upon five years of service. The plan pays retirement benefits based on the participant's vested account balance. Benefit distributions are generally available upon a participant's death, disability or retirement. Participants generally qualify to receive retirement benefits upon reaching the age of 65. Early retirees generally qualify for benefits provided they have reached age 55 and have completed 5 years of service with TSG. Benefits are payable in lump sums equal to 100% of the participant's account balance. C-25 13. SUPPLEMENTAL CASH FLOW INFORMATION Supplemental cash flow information for the seven months ended October 30, 1994, five months ended March 31, 1995, excluding the effects of the Acquisition, years ended March 29, 1996 and March 28, 1997 and three months ended June 27, 1997 and June 28, 1996 consists of the following:
Seven Five Three Three Months Months Year Year Months Months Ended Ended Ended Ended Ended Ended October 30, March 31, March 29, March 28, June 28, June 27, 1994 1995 1996 1997 1996 1997 ----------- --------- --------- --------- ----------- ----------- (Unaudited) (Unaudited) Interest paid $ 457 $ 226 $ 966 $ 516 $ 284 $ 82 Income taxes paid -- -- -- 625 149 140 Non-cash activities: Deferred offering expenses charged against proceeds of initial public offering -- -- -- 338 338 -- Fixed assets acquired under capital leases 34 9 -- -- -- -- Retirement of capital lease obligation and write-off of related -- -- -- 933 -- -- property Write-off of property and equipment against accrued restructuring 186 -- -- 41 -- -- charges Write-off of property and equipment against impairment reserve 118 -- -- -- -- -- Other current assets acquired by assumption of debt 165 -- 132 -- -- -- obligations Accrued liabilities converted to notes payable -- 207 -- -- -- -- Write-off of inventory against accrued restructuring charges 70 -- -- -- -- -- Write-off of other assets against accrued restructuring charges -- 15 -- -- -- -- Write-off of property and equipment against accounts payable -- -- 2 -- -- -- Increase in goodwill from distribution of escrow consideration -- -- 330 -- -- -- Tax benefits applied to goodwill -- -- 211 442 160 82
C-26 14. COMMITMENTS AND CONTINGENT LIABILITIES Operating Leases Minimum future rental payments at March 28, 1997 under non-cancellable operating leases with an initial term of more than one year are summarized as follows: 1998 $ 331 1999 221 2000 213 2001 210 2002 210 --------- 1,185 --------- Less sublease rentals (29) --------- $1,156 =========
Rental expense approximated $257 for the seven months ended October 30, 1994, $176 for the five months ended March 31, 1995, $376, net of sublease income of approximately $18, for year ended March 29, 1996 and $323, net of sublease income of approximately $45, for the year ended March 28, 1997. Litigation, Disputes and Environmental Matters During the seven months ended October 30, 1994, TSG settled litigation against a supplier to recover costs and damages attributable to defective components supplied to TSG, and realized a gain of $261, net of legal fees of $56. Pursuant to the terms of a settlement agreement and mutual release dated July 3, 1996, a suit filed against TSG by a former supplier to collect approximately $400 of unpaid obligations was dismissed with prejudice. Under the terms of the settlement agreement, TSG paid $180 and agreed to pay an additional $112 in six equal monthly installments of $19 commencing on August 15, 1996. As a result of the settlement agreement, TSG realized a gain of $105 representing the difference between unpaid obligations recorded in TSG's accounts and aggregate settlement payments set forth in the settlement agreement. The gain is reflected in TSG's results of operations for the year ended March 28, 1997. TSG has been involved in a dispute with a former contract manufacturer since 1994 with respect to inventories acquired by the manufacturer for TSG's programs, which approximate $l million, unpaid obligations of TSG of approximately $265, and other matters including an alleged claim of lost profits by the contract manufacturer of approximately $916 related to TSG's minimum contract purchase commitment. TSG has alleged that the contract manufacturer breached the agreement, is obligated to pay unpaid obligations to TSG of approximately $125 and is obligated to TSG for lost business and expenses due to the delivery of defective products and the termination of a significant sales agreement. Neither party is presently pursuing the dispute. There is no assurance, however, that the dispute will not be pursued or escalate into litigation. Should the dispute escalate into litigation, TSG intends to defend and pursue its positions vigorously. In the opinion of management, the ultimate outcome of this matter will not have a material impact on TSG's financial statements. TSG is a potentially responsible party with respect to undertaking response actions at a facility for the treatment, storage and disposal of hazardous substances operated by an unaffiliated party. In the opinion of management, the ultimate outcome of this environmental action will not have a material impact on TSG's financial statements. C-27 Significant Customers TSG's primary customers consist of the regional bell telephone companies. During the seven months ended October 30, 1994, three of the regional bell telephone companies accounted for 33%, 23% and 11% of TSG's consolidated sales. During the five months ended March 31, 1995, four of the regional bell telephone companies accounted for 34%, 23%, 11% and 10% of TSG's consolidated sales. During the year ended March 29, 1996, three of the regional bell telephone companies accounted for 47%, 17% and 24% of TSG's consolidated sales. During the year ended March 28, 1997, three of the regional bell telephone companies accounted for 14%, 16% and 60% of TSG's consolidated sales. Accounts receivable at March 29, 1996 and March 28, 1997 consists primarily of amounts due from the regional bell telephone companies. Royalty and License Agreements Pursuant to the terms of an asset purchase agreement entered into on January 11, 1991, TSG agreed to pay royalties equal to 3.5% of sales of microprocessor-based components to a company affiliated with certain officers and employees of TSG. On November 9, 1994, the royalty provisions of the purchase agreement were amended to eliminate royalties for the period April 2, 1994 to September 30, 1994. In return, the term of the royalty obligation was extended from December 31, 1995 to June 30, 1996. Royalty expense under this agreement amounted to $4 during the seven months ended October 30, 1994, $94 during the five months ended March 31, 1995, $564 during the year ended March 29, 1996 and $196 during the year ended March 28, 1997. TSG has entered into a patent license agreement providing TSG with the exclusive world-wide rights to certain algorithm software covered by a patent application. TSG is obligated to pay license fees aggregating $200 at a rate of $50 annually over a four year period commencing on the date the patent is issued. Further, the agreement provides for the payment of royalties on products incorporating the licensed software. Minimum royalties payable upon issuance of the patent will range between $125 and $500 annually during the life of the patent. The term of the license agreement will correspond to the expiration date of the patent upon its issuance. As of March 28, 1997, the patent has not been issued. Accordingly, TSG has not recorded the contingent liability in the accompanying financial statements. Further, as of March 28, 1997, TSG has not sold any products incorporating the licensed software or incurred any royalty obligations under the agreement. In December 1994, TSG sold the rights to certain product software for an aggregate purchase price of $500. TSG received an exclusive irrevocable perpetual right to sublicense the software in connection with the sale of products to other customers. In return, TSG agreed to pay royalties equal to the greater of 4.44% of sales or ten dollars per unit sold. As of March 28, 1997, TSG has not sold any products incorporating the licensed software to other customers or incurred any royalty obligations under the agreement TSG was obligated to repay, three years from the date of the contract, a portion of the purchase price up to a maximum amount of $375 depending upon the amount of aggregate royalties paid pursuant to the agreement. However, in May 1997, TSG entered into an agreement that terminated TSG's royalty and repayment obligations. Employment Contracts On October 31, 1994, TSG entered into an employment contract with one of its executives that provides for minimum annual compensation of $147 through December 31, 1996 and $160 from January 1, 1997 through December 31, 1997. The contract provides for compensation increases at the discretion of the Board of Directors, additional compensation in the form of bonuses based on performance, benefits equal to those provided to other executives of TSG, reimbursement of business expenses, travel and temporary living expenses and options to purchase shares of TSG's common stock. The agreement provides for annual renewals subsequent to December 31, 1997 at the option of TSG. Termination by TSG without cause entitles the executive to receive his current salary and benefits for the remaining term of the agreement or for a period of six months, whichever is greater. The agreement may be terminated by the executive upon 120 days notice effective on December 31, 1997 or thereafter. On October 31, 1994, TSG entered into an agreement with the Chairman of the Board of Directors that provides for minimum annual compensation of $60 through December 31, 1997. The agreement provides for additional compensation based on services performed not to exceed $3 per month, benefits equal to C-28 those provided to other executives of TSG, reimbursement of business expenses and options to purchase shares of TSG's common stock. Termination by TSG without cause entitles the Chairman to receive his current salary and benefits for the remaining term of the agreement or for a period of six months, whichever is greater. The agreement may be terminated by the Chairman upon 90 days written notice. Prior to execution of the Chairman's Agreement, the Chairman provided consulting services, as President of Atlantic Management Associates, Inc., to TSG during the seven months ended October 30, 1994 similar to those provided under the Chairman's Agreement. In addition, Atlantic Management Services, Inc. assisted TSG and its stockholders in their efforts to attract a buyer for the equity of TSG, and received a success fee in connection with the Acquisition of $75 representing compensation for such services. During fiscal 1995, TSG paid Atlantic Management Associates, Inc. $43 for consulting services, excluding expenses of $7, rendered prior to the date of the Chairman's Agreement. During fiscal 1995, TSG paid the Chairman and Atlantic Management Associates, Inc. $30, excluding expenses of $9, for services rendered under the terms of the Chairman's Agreement. During the year ended March 29, 1996, TSG paid the Chairman and Atlantic Management Associates, Inc. $66, excluding reimbursed expenses of $9, for services rendered under the terms of the Chairman's Agreement. During the year ended March 28, 1997, TSG paid the Chairman and Atlantic Management Associates, Inc. $69, excluding reimbursed expenses of $11, for services rendered under the terms of the Chairman's Agreement. Purchase and Sales Commitments At March 28, 1997, TSG has outstanding purchase order commitments to purchase approximately $5.5 million of microprocessor-based products under the terms of a manufacturing agreement entered into in October 1994. Upon a termination of the agreement by TSG, TSG is obligated to purchase inventories held by the manufacturer and pay vendor cancellation and restocking charges, and a reasonable profit thereon. In addition, TSG is obligated to pay a cancellation penalty of up to $500 if it cancels its purchase obligation or a substantial portion thereof. The amount of the cancellation penalty, if any, will vary depending upon quantities purchased by TSG. In June 1997, TSG entered into an agreement that supersedes and terminates a December 1994 sales agreement. Under the new agreement, TSG agreed to reduce the customers remaining purchase commitment of certain smart processors and other components to approximately $3 million from approximately $8 million under the former agreement and, among other things, upgrade the customer's payphone management system. In return, the customer made a $250 cash payment to TSG, terminated TSG's obligation to pay royalties on sales of certain products to other customers and terminated TSG's obligation to repay $375 received from the sale of certain product software under the December 1994 agreement. The customer also agreed to make additional cash payments of $250 on July 2, 1997, $100 on September 1, 1997, $150 on December 31, 1997 and $250 on March 31, 1998 to TSG subject to TSG's compliance with the terms and conditions of the agreement, including conditions with respect to product performance, service and repair. The customer has the right to cancel the agreement upon default by TSG. Therefore, there is no assurance that TSG will receive the additional payments or that its will ship the products set forth in the agreement. 15. SUBSEQUENT EVENT (UNAUDITED) On August 13, 1997, TSG entered into an Agreement and Plan of Merger with Elcotel, Inc. ("Elcotel") and Elcotel Hospitality Service, Inc. ("EHS"), a wholly-owned subsidiary of Elcotel (the "Merger Agreement"). The Merger Agreement provides for the merger of EHS into TSG and for TSG to be the surviving corporation (the "Merger"). At the effective time of the Merger, each outstanding share of TSG's common stock will be converted into and represent the right to receive 1.05 shares of Elcotel common stock, $0.01 par value per share. The closing of the Merger is subject to certain conditions and approvals, including the approval of TSG's and Elcotel's stockholders. C-29 PART II INFORMATION NOT REQUIRED IN PROSPECTUS ITEM 20. INDEMNIFICATION OF DIRECTORS AND OFFICERS. Elcotel is a Delaware corporation. The Delaware General Corporation Law (the "Delaware Law") generally provides that a director, employee, officer or agent of a Delaware corporation who was or is a party or is threatened to be made a party to any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative or investigative, may be indemnified against liability, expenses (including attorneys' fees), judgments, fines and amounts paid in settlement actually and reasonably incurred by such person in connection with such proceeding (other than in a proceeding by or in the right of the corporation), provided such person acted in good faith and in a manner such person reasonably believed to be in, or at least not opposed to, the best interests of the corporation, and, with respect to any criminal proceeding, had no reasonable cause to believe the conduct was unlawful. For actions or suits brought by or in the right of the corporation, the Delaware Law provides that a director, employee, officer or agent of a Delaware corporation may be indemnified against expenses (including attorneys' fees) as incurred by such person in connection with such proceeding if such person acted in good faith and in a manner such person reasonably believed to be in, or at least not opposed to, the best interests of the corporation, except that if such person is adjudged to be liable to the corporation, such person can be indemnified if and only to the extent that a court determines that despite the adjudication of liability, in view of all the circumstances of the case, such person is fairly and reasonably entitled to indemnity for such expenses as the court deems proper. The Delaware Law provides that a corporation may include, in its articles or certificate of incorporation, a provision which limits or eliminates the personal liability of a director to the corporation or its stockholders for monetary damages for such persons's conduct as a director, provided that such provision may not so limit a director's liability (i) for a breach of his or her duty of loyalty to the corporation or its stockholders; (ii) for acts or omissions not in good faith or involving intentional misconduct or a knowing violation of law; (iii) for unlawful payments of dividends, certain stock repurchases or redemptions; or (iv) for any transaction from which the director derived an improper personal benefit. The Elcotel Certificate of Incorporation so limits the personal liability of directors to the fullest extent permitted under the Delaware Law. The Delaware Law further provides that where a director, officer, employee or agent of a corporation has been successful on the merits or otherwise in defense of any action, suit or proceeding for which indemnification is permissible, or in defense of any claim, issue or matter related thereto, he will be indemnified against expenses (including attorneys' fees) actually and reasonably incurred by him in connection therewith. ITEM 21. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES. (a) The exhibits to this registration statement on Form S-4 (together with all amendments, supplements and exhibits thereto, the "Registration Statement") are listed in the Exhibit Index hereto and are incorporated herein by reference. (b) All financial statement schedules have been omitted because they are not required or the information required to be set forth therein is included in the financial statements included in Elcotel's Annual Report on Form 10-K for the fiscal year ended March 31, 1997, which is incorporated herein by reference. (c) The opinion of Murray, Devine & Co. is included in Part I as Annex B to the Joint Proxy Statement-Prospectus included in this Registration Statement and is incorporated herein by reference. ITEM 22. UNDERTAKINGS. (a) The undersigned Registrant hereby undertakes as follows: (i) To file, during any period in which offers or sales are being made, a post-effective amendment to this Registration Statement: A. to include any prospectus required by Section 10(a)(3) of the Securities Act of 1933 (the "1933 Act"); II-1 B. to reflect in the prospectus any facts or events arising after the effective date of this Registration Statement (or the most recent post- effective amendment thereof) which, individually or in the aggregate, represent a fundamental change in the information set forth in this Registration Statement; and C. to include any material information with respect to the plan of distribution not previously disclosed in this Registration Statement or any material change to such information in this Registration Statement. (ii) that, for the purpose of determining any liability under the 1933 Act, each such post-effective amendment shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof; and (iii) to remove from registration by means of a post-effective amendment any of the securities being registered which remain unsold at the termination of the offering. (b) The undersigned Registrant hereby undertakes that, for purposes of determining any liability under the 1933 Act, each filing of the Registrant's annual report pursuant to Section 13(a) or Section 15(d) of the 1934 Act that is incorporated by reference in this Registration Statement shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof. (c) The undersigned Registrant hereby undertakes that, prior to any public reoffering of the securities registered hereunder through the use of a prospectus which is a part of this Registration Statement, by any person or party who is deemed to be an underwriter within the meaning of Rule 145(c), the issuer undertakes that such reoffering prospectus shall contain the information called for by the applicable registration form with respect to reofferings by persons who may be deemed underwriters, in addition to the information called for by the other items of the applicable form. (d) The undersigned Registrant hereby undertakes that every prospectus: (i) that is filed pursuant to the immediately preceding paragraph (c), or (ii) that purports to meet the requirements of Section 10(a)(3) of the 1933 Act and is used in connection with an offering of securities subject to Rule 415, will be filed as a part of an amendment to the Registration Statement and will not be used until such amendment is effective, and that, for purposes of determining any liability under the 1933 Act, each such post-effective amendment shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof. (e) Insofar as indemnification for liabilities arising under the 1933 Act may be permitted to directors, officers and controlling persons of the Registrant pursuant to Item 20 of this Registration Statement, or otherwise, the Registrant has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the 1933 Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the Registrant of expenses incurred or paid by a director, officer or controlling person of the Registrant in the successful defense of any action, suit or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered, the Registrant shall, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the 1933 Act and shall be governed by the final adjudication of such issue. (f) The undersigned Registrant hereby undertakes to respond to requests for information that is incorporated by reference into the Joint Proxy Statement- Prospectus pursuant to Items 4, 10(b), 11 or 13 of this Form, within one business day of receipt of such request, and to send the incorporated documents by first-class mail or other equally prompt means. This includes information contained in documents filed subsequent to the effective date of the Registration Statement through the date of responding to the request. (g) The undersigned Registrant hereby undertakes to supply by means of a post-effective amendment all information concerning a transaction, and the company being acquired involved therein, that was not the subject of and included in the Registration Statement when it became effective. II-2 SIGNATURES PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT, THE REGISTRANT HAS DULY CAUSED THIS REGISTRATION STATEMENT TO BE SIGNED ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED, IN THE CITY OF SARASOTA, STATE OF FLORIDA, ON OCTOBER 20, 1997. Elcotel, Inc. By: /s/ C. Shelton James --------------------------------- C. SHELTON JAMES CHAIRMAN OF THE BOARD PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1933, THIS REGISTRATION STATEMENT HAS BEEN SIGNED BY THE FOLLOWING PERSONS IN THE CAPACITIES AND ON THE DATE INDICATED. SIGNATURE TITLE DATE --------- ----- ---- /s/ C. Shelton James Chairman of the October 20, 1997 - ------------------------------------- Board, Chief C. SHELTON JAMES Executive Officer (Principal Executive Officer and Director) /s/ Tracey L. Gray President, Chief October 20, 1997 - ------------------------------------- Operating Officer TRACEY L. GRAY and Director /s/ Dwight Jasmann Director October 17, 1997 - ------------------------------------- DWIGHT JASMANN /s/ Charles H. Moore Director October 17, 1997 - ------------------------------------- CHARLES H. MOORE /s/ Thomas E. Patton Director October 20, 1997 - ------------------------------------- THOMAS E. PATTON /s/ T. Raymond Suplee Director October 20, 1997 - ------------------------------------- T. RAYMOND SUPLEE /s/ Thomas R. Wiltse Director October 20, 1997 - ------------------------------------- THOMAS R. WILTSE /s/ Ronald M. Tobin Vice President and October 20, 1997 - ------------------------------------- Chief Financial RONALD M. TOBIN Officer (Principal Financial and Accounting Officer) II-3 EXHIBIT INDEX
EXHIBIT NUMBER DESCRIPTION ------- ----------- 2.1 Agreement and Plan of Merger dated as of August 13, 1997 among the Registrant, Technology Service Group, Inc. and Elcotel Hospitality Service, Inc. (incorporated by reference to Appendix A to the Joint Proxy Statement--Prospectus included as part of this Registration Statement)* 2.2 Voting Agreement dated as of August 13, 1997 among the Registrant, Wexford Partners Fund, L.P. and Fundamental Management Corporation (incorporated by reference to Exhibit 99.2 to the Registrant's Current Report on Form 8-K dated August 13, 1997) 2.3 Form of Stockholders' Agreement among the Registrant, Wexford Partners Fund, L.P. and Fundamental Management Corporation 2.4 Amendment Number 1 to the Agreement and Plan of Merger among the Registrant, Technology Service Group, Inc. and Elcotel Hospitality Service, Inc.** 3.1 Certificate of Incorporation of the Registrant, as amended (incorporated by reference to Exhibit 3.1 to the Registrant's Registration Statement on Form S-18, File No. 33-8565) 3.2 Bylaws of the Registrant, as amended (incorporated by reference to Exhibit 3.2 to the Registrant's Annual Report on Form 10-K for the year ended March 31, 1987) 4.1 Specimen Common Stock Certificate of the Registrant (incorporated by reference to the Registrant's Registration Statement on Form 8-A dated November 21, 1986) 4.2 Warrant Agreement between Technology Service Group, Inc. and Liberty Bank and Trust Company of Oklahoma City, N.A. dated May 10, 1996 4.3 Representative's Warrant Agreement between Technology Service Group, Inc. and Brookehill Equities, Inc. dated May 10, 1996 5.1 Opinion of Schnader Harrison Segal & Lewis llp as to the legality of the securities being registered by this Registration Statement** 8.1 Opinion of Greenberg Traurig Hoffman Lipoff Rosen & Quentel as to certain tax matters relating to the Merger** 10.1 1991 Stock Option Plan (incorporated by reference to Exhibit 10.2 to the Registrant's Annual Report on Form 10-K for the year ended March 31, 1992) 10.2 Directors Stock Option Plan (incorporated by reference to Exhibit 10.3 to the Registrant's Annual Report on Form 10-K for the year ended March 31, 1992) 10.3 Mortgage and Security Agreement between the Registrant and NationsBank of Florida, N.A. dated January 20, 1994 (incorporated by reference to Exhibit 10.6 to the Registrant's Annual Report on Form 10-KSB for the year ended March 31, 1994) 10.4 Loan Agreement between the Registrant and NationsBank of Florida, N.A. dated May 23, 1994 (incorporated by reference to Exhibit 10.8 to the Registrant's Annual Report on Form 10-KSB for the year ended March 31, 1994) 10.5 Amendment to Loan Agreement and Second Amendment to Collateral Assignment and Security Agreement between the Registrant and NationsBank of Florida, N.A. dated August 31, 1995 (incorporated by reference to Exhibit 10.1 to the Registrant's Quarterly Report on Form 10-QSB for the quarter ended September 30, 1995) 10.6 Mortgage Note between the Registrant and Carl G. Santangelo, as Trustee of Elcotel Mortgage Trust dated September 28, 1993 (incorporated by reference to Exhibit 10.6 to the Registrant's Quarterly Report on Form 10-QSB for the quarter ended September 30, 1993)
EXHIBIT NUMBER DESCRIPTION ------- ----------- (a) Mortgage Modification Agreement between the Registrant and NationsBank of Florida, N.A. dated May 23, 1994 (incorporated by reference to Exhibit 10.9(a) to the Registrant's Annual Report on Form 10-KSB for the year ended March 31, 1994) (b) Assignment of Note and Mortgage between Carl G. Santangelo, as Trustee of Elcotel Mortgage Trust and NationsBank of Florida, N.A. dated May 23, 1994 (incorporated by reference to Exhibit 10.9(b) to the Registrant's Annual Report on Form 10-KSB for the year ended March 31, 1994) (c) Mortgage Modification Agreement between the Registrant and NationsBank of Florida, N.A. dated August 31, 1995 (incorporated by reference to Exhibit 10.4 to the Registrant's Quarterly Report on Form 10-QSB for the quarter ended September 30, 1995) 10.7 Replacement Promissory Note between the Registrant and NationsBank of Florida, N.A. dated August 31, 1995 (incorporated by reference to Exhibit 10.5 to the Registrant's Quarterly Report on Form 10-QSB for the quarter ended September 30, 1995) 10.8 Consolidation Promissory Note between Registrant and NationsBank of Florida, N.A. dated August 31, 1994 (incorporated by reference to Exhibit 10.4 to the Registrant's Quarterly Report on Form 10-QSB for the quarter ended September 30, 1994) 10.9 Renewal Promissory Note between the Registrant and NationsBank of Florida N.A. dated August 31, 1995 (incorporated by reference to Exhibit 10.2 to the Registrant's Quarterly Report on Form 10-QSB for the quarter ended September 30, 1995) 10.10 Second Amendment to Loan Agreement and Third Amendment to Collateral Assignment and Security Agreement between the Registrant and NationsBank, N.A. (South) effective August 28, 1996 (incorporated by reference to Exhibit 10.1 to the Registrant's Quarterly Report on Form 10-Q for the quarter ended September 30, 1996) 10.11 Renewal Promissory Note between Registrant and NationsBank, N.A. (South), effective August 28, 1996 (incorporated by reference to Exhibit 10.2 to the Registrant's Quarterly Report on Form 10-Q for the quarter ended September 30, 1996) 10.12 Security Agreement between Elcotel Direct, Inc. and NationsBank, N.A. dated October 2, 1997 10.13 Continuing and Unconditional Guaranty between the Registrant and NationsBank, N.A. dated October 2, 1997 10.14 Promissory Note between the Registrant and NationsBank, N.A. dated October 2, 1997 in the amount of $3,050,000 10.15 Promissory Note between the Registrant and NationsBank, N.A. dated October 2, 1997 in the amount of $950,000 10.16 Promissory Note between the Registrant and NationsBank, N.A. dated October 2, 1997 in the amount of $2,850,000 10.17 Third Amendment to Loan Agreement and Fourth Amendment to Collateral Assignment and Security Agreement between the Registrant and NationsBank, N.A. dated October 2, 1997 10.18 Employment Agreement between the Registrant and C. Shelton James dated October 1, 1997 10.19 Employment Agreement between the Registrant and Tracey L. Gray dated October 1, 1997 10.20 Employment Agreement between the Registrant and Vincent C. Bisceglia dated September 24, 1997** 10.21 Agreement for the Purchase and Sale of Assets between Elcotel Direct, Inc. and Lucent Technologies Inc. dated September 30, 1997 (incorporated by reference to Exhibit 2.1 to the Registrant's Current Report on Form 8-K dated September 30, 1997) 10.22 Technology Transfer Agreement between the Registrant and Lucent Technologies Inc. dated September 30, 1997 (incorporated by reference to Exhibit 2.2 to the Registrant's Current Report on Form 8-K dated September 30, 1997)
EXHIBIT NUMBER DESCRIPTION ------- ----------- 10.23 Patent License Agreement between the Registrant and Lucent Technologies Inc. dated September 30, 1997 (incorporated by reference to Exhibit 2.3 to the Registrant's Current Report on Form 8-K dated September 30, 1997) 13.1 Registrant's Annual Report on Form 10-K for the fiscal year ended March 31, 1997 13.2 Registrant's Quarterly Report on Form 10-Q for the fiscal quarter ended June 30, 1997 23.1 Consent of Deloitte & Touche, llp with respect to the Registrant's financial statements 23.2 Consent of Deloitte & Touche, llp with respect to the financial statements of Technology Service Group, Inc. 23.3 Consent of Murray, Devine & Co., Inc. 23.4 Consent of Schnader Harrison Segal & Lewis llp (included in Exhibit 5.1 above) 23.5 Consent of Greenberg Traurig Hoffman Lipoff Rosen & Quentel (included in Exhibit 8.1 above) 23.6 Consent of Vincent C. Bisceglia as a person about to become a director of the Registrant 23.7 Consent of Mark L. Plaumann as a person about to become a director of the Registrant 23.8 Consent of Kenneth Rubin as a person about to become a director of the Registrant 23.9 Consent of David R.A. Steadman as a person about to become a director of the Registrant 99.1 Form of Proxy Card of Elcotel, Inc. 99.2 Form of Proxy of Technology Service Group, Inc.
- -------- * Pursuant to Item 601(b)(2) of Regulation S-K, certain of the schedules and similar attachments to this exhibit have been omitted. The Registrant agrees to furnish supplementally such schedules and attachments to the Commission upon request. ** To be filed by amendment. EX-2.3 2 FORM OF STOCKHOLDERS AGREEMENT Exhibit 2.3 STOCKHOLDERS' AGREEMENT ----------------------- This STOCKHOLDERS' AGREEMENT, dated as of __________, 1997 is among ELCOTEL, INC., a Delaware corporation (the "Company"); WEXFORD PARTNERS FUND, L.P., a Delaware limited partnership ("Wexford"); and FUNDAMENTAL MANAGEMENT CORPORATION, a Florida corporation ("Fundamental", together with Wexford, the "Stockholders"). W I T N E S S E T H: WHEREAS, pursuant to that certain Agreement and Plan of Merger dated as of August __, 1997 (the "Merger Agreement") among the Company, Technology Services Group, Inc. ("TSG") and Elcotel Hospitality Service, Inc. ("Merger Subsidiary") pursuant to which Merger Subsidiary is merging (the "Merger") with and into TSG, and as a result the stockholders of TSG will receive shares (the "Merger Shares") of the Company's common stock, par value $.01 per share (the "Common Stock"); WHEREAS, Fundamental is the owner of approximately ______ percent of the outstanding Common Stock of the Company immediately prior to the Merger; WHEREAS, as a result of the consummation of the Merger, Wexford is receiving ___ shares of Common Stock; WHEREAS, the execution and delivery of this Agreement by the parties hereto is a condition to the transactions contemplated by the Merger Agreement and is an inducement therefor; WHEREAS, the Stockholders desire to enter into certain arrangements with respect to the disposition of their shares of Common Stock and to define certain rights, duties and obligations of such parties. NOW THEREFORE, in consideration of the mutual covenants and obligations hereinafter set forth, the parties hereto, intending to be legally bound hereby, agree as follows: 1. Transfers Restricted. (a) Neither Stockholder shall sell, -------------------- assign, transfer, mortgage, pledge, hypothecate or in any way dispose of or encumber any legal or beneficial interest (collectively, "Transfer" or a "Transfer") in any or all of the Capital Stock now or hereafter owned by such Stockholder, whether for consideration or otherwise, except in accordance with the provisions of this Agreement. For purposes of this Agreement, "Capital Stock" shall mean any and all Common Stock of the Company, any and all securities of the Company issued as a dividend on or in exchange for such Common Stock and any and all warrants, options, convertible securities or other rights to purchase or acquire any of the foregoing. (b) Any purported Transfer of Capital Stock by a Stockholder which is not permitted by the provisions of this Agreement, or which is in violation of such provisions, shall be void and of no force or effect whatsoever. The Company or its transfer agent shall not recognize or give effect to any such proposed Transfer and shall be entitled to issue, or to cause to be issued, stop transfer instructions with respect to any proposed Transfer that violates the provisions of this Agreement. 2. Prohibitions on Transfers. (a) Each of the Stockholders agrees ------------------------- that it will not Transfer any of the Capital Stock owned by it during the six month period beginning on the effective date of the Merger; except that Fundamental may sell Capital Stock not to exceed 75,000 shares and Wexford may sell Capital Stock not to exceed 125,000 shares (i) during the three month period beginning on the day after the effective date of the Merger and (ii) during the three month period beginning on the three month anniversary of the effective date of the Merger. (b) After such six month anniversary of the effective date of the Merger, the Stockholders may Transfer shares of Capital Stock owned by them in accordance with applicable law; provided that the Stockholder Transferring such -------- shares complies with the provisions of Section 3 or Section 4. 3. Tag Along Rights. If any Stockholder proposes to sell any shares ---------------- of Capital Stock otherwise permitted to be sold pursuant to the terms of this Agreement, but excluding (i) sales to a Related Transferee of such Stockholder or to A.T.T. IV, N.V. in accordance with Section 4 or (ii) any sale in which all of the Stockholders agree and are permitted to participate, then such Stockholder shall offer (the "Participation Offer") to include in the proposed sale a number of shares of Capital Stock designated by any of the other Stockholders, not to exceed, in respect of any such other Stockholder, the number of shares equal to the product of (A) the aggregate number of shares of Capital Stock to be sold by such Stockholder to the proposed transferee(s) and (B) a fraction the numerator of which is equal to the number of shares of Capital Stock owned by such other Stockholder and the denominator of which is equal to the number of shares of Capital Stock held by all Stockholders; provided that if the consideration to be received by such Stockholder includes - -------- any securities subject to Section 5 of the Securities Act of 1933 (or any successor statute) (the "Securities Act"), only Stockholders who are permitted by the Securities Act to purchase such securities shall be entitled to include their shares of Capital Stock in such sale. The Stockholder making the Participation Offer (the "Offering Stockholder") shall give written notice to each other Stockholder of the Participation Offer (the "Tag-Along Notice") at least 15 days prior to the proposed sale. The Tag-Along Notice shall specify the proposed transferee(s), the number of shares of Capital Stock to be sold to such transferee(s), the amount and type of consideration to be received therefor, and the place and date on which the sale is to be consummated. Each other Stockholder who wishes to include shares of Capital Stock in the proposed sale in accordance with the terms of this Section 3 shall so notify the Offering Stockholder not more than 10 days after the date of the Tag-Along Notice. The Participation Offer shall be conditioned upon consummation of the sale of shares of Capital Stock pursuant to the transactions contemplated in the Tag-Along Notice. If any Stockholder shall have accepted the Participation Offer, the Offering Stockholder shall reduce to the extent necessary the amount of Capital Stock it otherwise would have sold in the proposed sale so as to permit the other Stockholders who have accepted the Participation Offer to sell the number of shares that they are entitled to sell under this Section 3, and the Offering Stockholder and such other Stockholders shall sell the number of shares specified in the Participation Offer in accordance with the terms of such sale set forth in the Tag-Along Notice. 4. Exempt Transfers. Notwithstanding anything in this Agreement to ---------------- the contrary, (a) Wexford may sell to A.T.T. IV, N.V. up to 150,000 shares (subject to adjustment) of Capital Stock pursuant to the Amended and Restated Option Agreement of even date herewith, and (b) each Stockholder that is not a natural person may sell any or all of its Capital Stock to any entity or person affiliated with, controlled by, or under common control with such Stockholder, in each case without the consent of the other Stockholder or the Company and without being required to first offer such Capital Stock to any Stockholder or the Company. Any such transferee of a Stockholder (other than A.T.T. IV, N.V. under clause (a) hereof) is referred to herein as a "Related Transferee." If any Stockholder transfers any of the Capital Stock held by it to a Related Transferee (or if any Related Transferee subsequently transfers or re-transfers any of such Capital Stock to another Related Transferee of such Stockholder), such Related Transferee shall receive and hold the Capital Stock so transferred subject to the provisions of this Agreement, including, without limitation, the obligations hereunder of the Stockholder who originally transferred such Capital Stock, as though such Capital Stock were still owned by such holder and the Related Transferee shall be deemed a Stockholder for purposes of this Agreement. It shall be a condition precedent to any Transfer permitted by this Section 4 that the Related Transferee shall execute and deliver to each party hereto an agreement acknowledging that all Capital Stock transferred or to be transferred to such Related Transferee is and shall be subject to this Agreement and no Transfer by any Stockholder (or by any of such holder's Related Transferees) under Section 4 shall release such Stockholder from any of such holder's obligations or liabilities hereunder that occurred prior to the date of such transfer. 5. Stockholder Breaches of Sections 2 or 3. If either Stockholder --------------------------------------- breaches its obligations with respect to the Transfer of shares of Capital Stock or giving notice with respect thereto under the provisions of Section 2 or Section 3 of this Agreement, the non-breaching Stockholder shall have the right for a period of 1 year after such Stockholder becomes aware of any such breach to require the breaching Stockholder to purchase for cash from the nonbreaching Stockholder all or a portion of that number of its shares of Capital Stock equal to the number of shares of Capital Stock which were Transferred by the breaching Stockholder in violation of such Section 2 or 3 at a price per share of Capital Stock equal to (i) the price per share the breaching Stockholder received as consideration for the shares of Capital Stock Transferred by the breaching Stockholder in violation of such Section 2 or 3 plus (ii) interest at an annual rate of 15% compounded quarterly on the amount payable pursuant to the foregoing clause (i) from the date of the breach until final payment is received by the non-breaching Stockholder. 6. Representations and Warranties. ------------------------------ (a) Each of the Stockholders (as to such Stockholder only) represents and warrants to the Company and the other Stockholders that: (i) such Stockholder has full power and authority to execute, deliver, and perform this Agreement and to consummate the transactions contemplated hereby, and the execution, delivery, and performance by it of this Agreement and the consummation by it of the transactions contemplated hereby have been duly authorized by all necessary action; (ii) this Agreement has been duly and validly executed and delivered by such Stockholder and constitutes the binding obligation of such Stockholder enforceable against such Stockholder in accordance with its terms; and (iii) the execution, delivery, and performance by such Stockholder of this Agreement and the consummation by such Stockholder of the transactions contemplated hereby will not, with or without the giving of notice or the lapse of time, or both, (A) violate any provision of law, statute, rule, or regulation to which it is subject, (B) violate any order, judgment, or decree applicable to it, or (C) conflict with, or result in a breach or default under, any term or condition of its certificate of incorporation or by-laws, certificate of limited partnership or partnership agreement, as applicable, or any agreement or other instrument to which such Stockholder is a party or by which such Stockholder is bound, other than any such violation, conflict or breach the occurrence of which would not have a material adverse effect on the ability of such Stockholder to perform this Agreement. (b) The Company hereby represents and warrants to each Stockholder that: (i) it is a corporation duly organized, validly existing, and in good standing under the laws of the State of Delaware, it has full corporate power and authority under its certificate of incorporation to execute, deliver, and perform this Agreement and to consummate the transactions contemplated hereby, and the execution, delivery, and performance by it of this Agreement and the consummation of the transactions contemplated hereby have been duly authorized by all necessary corporate action; (ii) this Agreement has been duly and validly executed and delivered by the Company and constitutes the binding obligation thereof enforceable against the Company in accordance with its terms; and (iii) the execution, delivery, and performance by the Company of this Agreement and the consummation by the Company of the transactions contemplated hereby will not, with or without the giving of notice or the lapse of time, or both, (A) violate any provision of law, statute, rule, or regulation to which the Company is subject, (B) violate any order, judgment, or decree applicable to the Company, or (C) conflict with, or result in a breach or default under, any term or condition of its certificate of incorporation or by-laws or any agreement or other instrument to which the Company is a party or by which it is bound, other than any such violation, conflict or breach the occurrence of which would not have a material adverse effect on the ability of the Company to perform this Agreement. 7. Term. This Agreement shall terminate as follows: ---- (a) Upon the unanimous agreement of all Stockholders and the Company. (b) Upon the happening of any of the following events: (i) A trustee or receiver is appointed for the Company or for the major part of its property and is not discharged within 30 days after such appointment; (ii) Bankruptcy, reorganization, arrangement or insolvency proceedings, or other proceedings for relief under any bankruptcy or similar law or laws for the relief of debtors, are instituted against the Company, are consented to by the Company or are not dismissed within 60 days after such institution; (iii) The Company shall be merged with or into another company and the stockholders of the Company immediately prior to such merger do not own after such merger substantially all of the capital stock of the Company or the surviving entity of such merger in substantially the same proportions or whose shares of capital stock shall not be listed on a national securities exchange or quoted on the National Association of Securities Dealers, Inc. Automated Quotation System (the "NASDAQ System"); or (iv) At such time as a Stockholder and its Related Transferees collectively own less than 5% of the outstanding Common Stock of the Company (in which event this Agreement shall continue to be binding upon the Company and the other Stockholders until such time as termination hereof otherwise occurs), provided that such Stockholder and Related Transferees' -------- registration rights pursuant to Section 9 hereof shall only terminate upon the Stockholder and Related Transferees owning no outstanding Common Stock of the Company. (c) In any event, not later than five (5) years from the date of this Agreement. 8. Voting of Capital Stock. During the period ending immediately ----------------------- after the second annual meeting of stockholders of the Company which occurs after the meeting at which the Merger was approved, each of the Stockholders agrees that it will vote (or cause to be voted) its shares of Capital Stock in favor of any nominees for director nominated by the incumbent Board of Directors of the Company. 9. Registration Rights. Stockholders and their Related Transferees ------------------- and Acor S.A. shall have the registration rights set forth in Exhibit A hereto. The parties hereto acknowledge and agree that Acor S.A. is a third party beneficiary of such registration rights and shall have full power and authority to enforce such rights as if it had been a party executing this Agreement. 10. Specific Performance. The Stockholders and the Company recognize -------------------- that the obligations imposed on them in this Agreement are special, unique, and of extraordinary character, and that in the event of breach by any party, damages may be an insufficient remedy. Consequently, it is agreed that the Stockholders and the Company may have specific performance and injunctive relief (in addition to damages) as a remedy for the enforcement hereof, without proving damages. 11. Notices. Any and all notices, designations, consents, offers, ------- acceptances, or other communications provided for herein (each a "Notice") shall be given in writing by overnight courier, telegram, or telecopy (with receipt confirmed) which shall be addressed, or sent, to the respective addresses as follows (or such other address or telecopier number as the Company or any Stockholder may specify to the Company and all other Stockholders by notice): To the Company, at Elcotel, Inc. 6428 Parkland Drive Sarasota, Florida 34243 Attention: President Telecopier: (941) 751-4716 With a copy to Larry P. Laubach, Esquire Schnader, Harrison, Segal & Lewis llp 1600 Market Street, Suite 3600 Philadelphia, PA 19103 Telecopier: (215) 972-7378 If to Wexford, at Wexford Partners Fund, L.P. 411 W. Putnam Avenue, Suite 125 Greenwich, CT 06830 Attention: Mark Plaumann Telecopier: (203) 862-7313 If to Fundamental, at Fundamental Management Corporation 4000 Hollywood Boulevard, Suite 610N Hollywood, Florida 33021 Attention: C. Shelton James Telecopier: (954) 961-5153 All notices shall be deemed effective and received (a) if given by telecopy, when such telecopy is transmitted to the telecopy number specified above and receipt thereof is confirmed; (b) if given by overnight courier, on the business day immediately following the day on which such notice is delivered to a reputable overnight courier service; or (c) if given by telegram, when such notice is delivered at the address specified above. No Stockholder shall be entitled to receive a notice hereunder (or a copy of a notice delivered to the Company) if, at the time such notice is to be sent, such Stockholder (including its Affiliates and the employees of such Stockholder and its Affiliates) no longer owns any shares of Common Stock. 12. Modification, Amendment and Waiver. No modification, amendment or ---------------------------------- waiver of any provision of this Agreement shall be effective unless approved in writing by each of the parties hereto. The failure of any party at any time to enforce any of the provisions of this Agreement shall in no way be construed as a waiver of such provisions and shall not affect the rights of the party thereafter to enforce the provisions of this Agreement in accordance with its terms. 13. Arbitration. Any and all disputes arising out of, under, in ----------- connection with, or relating to this Agreement (including, without limitation, valuation disputes) shall be finally settled by arbitration in the City of New York, or in such other place as the parties hereto agree, in accordance with the rules then in effect of the American Arbitration Association. The board of arbitrators shall be composed of three arbitrators, each being qualified to make evaluations of the kind under dispute. Each of the parties to such arbitration shall appoint one arbitrator and the two arbitrators so appointed shall appoint the third arbitrator within thirty days after their appointment. If either party fails to appoint its arbitrator within fifteen days after written request by the other party, the other party may request the President of the American Arbitration Association to make such appointment within fifteen days after such request to the President. The arbitration award shall be final and binding on the parties and may include costs, including attorneys' fees. Any arbitration award may be enforced in any court having jurisdiction over the party against which enforcement is sought. 14. Entire Agreement. This document embodies the entire agreement and ---------------- understanding between and among the parties hereto with respect to the subject matter hereof, and supersedes and preempts any prior understandings, agreements, or representations by or among the parties, written or oral, that may have related to the subject matter hereof. 15. Successors and Assigns. This Agreement will bind and inure to the ---------------------- benefit of and be enforceable by the parties and their respective permitted successors and assigns. This Agreement may not be assigned by any party hereto without the prior written consent of all parties hereto. 16. Counterparts. This Agreement may be executed in separate ------------ counterparts, each of which will be an original and all of which taken together will constitute one and the same agreement. 17. Applicable Law. All questions concerning this Agreement will be -------------- governed by and interpreted in accordance with the laws of the State of Delaware, without regard to the conflict of laws principles thereof. IN WITNESS WHEREOF, the undersigned have executed this Agreement as of the date first written above. ELCOTEL, INC. WEXFORD PARTNERS FUND L.P. By: By: ------------------------------- ------------------------------- Name: Name: Title: Title: FUNDAMENTAL MANAGEMENT CORPORATION By: ------------------------------ Name: Title: EXHIBIT A REGISTRATION RIGHTS 1. Definitions. Except as otherwise set forth below, terms defined ----------- in the Stockholders Agreement of which this Exhibit is a part are used herein as therein defined. "Exchange Act" means the Securities Exchange Act of 1934, as amended. ------------ "Holder" means any Stockholder, Related Transferee or Acor, S.A. who ------ holds Registrable Securities. "Indemnified Party" has the meaning set forth in Section 5(c) below. ----------------- "Indemnifying Party" has the meaning set forth in Section 5(c) below. ------------------ "Person" (or "Persons" as the context may require) means an ------ individual, a corporation, a partnership, a limited liability partnership, a limited liability company, a firm, a joint venture, an association, a trust, or an unincorporated organization. "Registrable Securities" means the Common Stock issued to Wexford ---------------------- pursuant to the Merger, any other Common Stock beneficially owned by Wexford, any Common Stock beneficially owned by Fundamental, any Common Stock beneficially owned by Acor, S.A. and any other securities issuable with respect to such Common Stock by way of a stock dividend or stock split or in connection with a combination of shares, recapitalization, merger, consolidation or reorganization; provided that -------- (1) any Registrable Security will cease to be a Registrable Security when (a) a registration statement covering such Registrable Security has been declared effective by the SEC and it has been disposed of pursuant to such effective registration statement or (b) it is sold under circumstances in which all of the applicable conditions of Rule 144 (or any similar provisions then in force) under the Securities Act are met; and (2) Registrable Securities shall only include such Registrable Securities which any Holder could not otherwise sell pursuant to Rule 144 under the Securities Act without restriction as a result of volume limitations, whether under subsection (k) of Rule 144 or otherwise. "Registration Expenses" has the meaning set forth in Section 4 below. --------------------- "SEC" means the United States Securities and Exchange Commission. --- 2. Registration. The Company shall file with the SEC within forty- ------------ five (45) days after the effective date of the Merger, a "shelf" registration statement on Form S-3 or other appropriate available Form, covering the Registrable Securities owned by the Holders and shall use its reasonable best efforts to cause the same to be declared effective by the SEC as promptly as practicable after such filing. 3. Registration Procedures. The Company will: ----------------------- (a) before filing the registration statement or prospectus or any amendments or supplements thereto, furnish to all Holders and to one counsel selected by the Holders, copies of all such documents proposed to be filed, which document will be subject to the review of and comment by such counsel; (b) prepare and promptly file with the SEC such amendments and supplements to such registration statement and the prospectus used in connection therewith as may be necessary to keep such registration statement effective for a period (except as provided in the last paragraph of this Section 3) of not less than 360 consecutive days or, if shorter, the period terminating when all Registrable Securities covered by such registration statement have been sold (but not before the expiration of the applicable period referred to in Section 4(3) of the Securities Act and Rule 174 thereunder, if applicable); (c) furnish to each Holder such number of copies of such registration statement, each amendment and supplement thereto (in each case including all exhibits thereto) and the prospectus included in such registration statement as such Holder may reasonably request in order to facilitate the disposition of the Registrable Securities owned by such Holder; (d) notify the Holders promptly, (i) when the registration statement or any post-effective amendment has become effective under the Securities Act and applicable state law, (ii) of any request by the SEC or any other Federal or state governmental authority for amendments or supplements to the registration statement or related prospectus or for additional information, (iii) of the issuance by the SEC of any stop order suspending the effectiveness of the registration statement or the initiation of any proceedings for that purpose, (iv) of the receipt by the Company of any notification with respect to the suspension of the qualification or exemption from qualification of any of the Registrable Securities for sale in any jurisdiction or the initiation or threatening of any proceeding for such purpose, and (v) of the happening of any event which makes any statement made in such registration statement or related prospectus or any document incorporated or deemed to be incorporated therein by reference untrue in any material respect or that requires the making of any changes in such registration statement, prospectus or documents so that, in the case of the registration statement, it will not contain any untrue statements of a material fact or omit to state any material fact required to be stated therein or necessary to make the statements therein not misleading, and that in the case of the prospectus, it will not contain any untrue statement of a material fact or omit to state any material fact required to be stated therein or necessary to make the statements therein, in light of the circumstances under which they were made, not misleading; (e) use its reasonable best efforts to obtain the withdrawal of any order suspending the effectiveness of a registration statement, or the lifting of any suspension of the qualification (or exemption from qualification) of any of the Registrable Securities for sale in any jurisdiction; (f) use its reasonable best efforts to register or qualify such Registrable Securities as promptly as practicable under such other securities or blue sky laws of such jurisdictions as any Holder reasonably (in light of the intended plan of distribution) requests and do any and all other acts and things which may be reasonably necessary or advisable to enable such Holder to consummate the disposition in such jurisdictions of the Registrable Securities owned by such Holder; provided, that the Company will not be required to (i) -------- qualify generally to do business in any jurisdiction where it would not otherwise be required to qualify but for this paragraph (f), (ii) subject itself to taxation in any such jurisdiction or (iii) consent to general service of process in any such jurisdiction; (g) use its reasonable best efforts to cause all such Registrable Securities to be listed on each securities exchange on which similar securities issued by the Company are then listed or quoted on any inter-dealer quotation system on which similar securities issued by the Company are then quoted; (l) if any event contemplated by Section 3(d)(v) above shall occur, as promptly as practicable prepare a supplement or amendment or post- effective amendment to such registration statement or the related prospectus or any document incorporated therein by reference or promptly file any other required document so that, as thereafter delivered to the purchasers of the Registrable Securities, the prospectus will not contain an untrue statement of a material fact or omit to state any material fact required to be stated therein or necessary to make the statements therein not misleading. The Company may require each Holder to promptly furnish in writing to the Company such information regarding the distribution of the Registrable Securities as it may from time to time reasonably request and such other information as may be legally required in connection with such registration. Notwithstanding anything herein to the contrary, the Company shall have the right to exclude from any offering the Registrable Securities of any Holder who does not comply with the provisions of the immediately preceding sentence. Each Holder agrees that, upon receipt of any notice from the Company of the happening of any event of the kind described in Section 3(d)(v) hereof, such Holder shall forthwith discontinue disposition of Registrable Securities pursuant to the registration statement covering such Registrable Securities until such Holder's receipt of the copies of the supplemented or amended prospectus contemplated by Section 3(d)(v) hereof, and, if so directed by the Company, such Holder shall deliver to the Company all copies, other than permanent file copies, then in such Holder's possession, of the most recent prospectus covering such Registrable Securities at the time of receipt of such notice. In the event the Company shall give such notice, the Company shall extend the period during which such registration statement shall be maintained effective (including the period referred to in Section 3(b) hereof) by the number of days during the period from and including the date of the giving of notice pursuant to Section 3(d)(v) hereof to the date when the Company shall make available to the Holders of Registrable Securities covered by such registration statement a prospectus supplemented or amended to conform with the requirements of Section 3(d)(v) hereof. 4. Registration Expenses. In connection with any registration --------------------- statement required to be filed hereunder, the Company shall pay the following registration expenses (the "Registration Expenses"): (i) all registration and filing fees, (ii) fees and expenses of compliance with securities or blue sky laws, (iii) word processing, duplicating and printing expenses, (iv) internal expenses (including, without limitation, all salaries and expenses of its officers and employees performing legal or accounting duties), (v) transfer agents', trustees', depositories', registrars' and fiscal agents' fees, (vi) the fees and expenses incurred in connection with the listing of the Registrable Securities on the Nasdaq National Market or any other trading medium or exchange on which the Common Stock is then listed or traded, (vii) all fees and disbursements of counsel for the Company and fees and expenses for independent certified public accountants retained by the Company, and (viii) the fees and expenses of any special experts retained by the Company in connection with such registration. 5. Indemnification; Contribution. (a) Indemnification by the ----------------------------- ---------------------- Company. The Company agrees to indemnify and hold harmless each Holder, each - ------- Person, if any, who controls such Holder within the meaning of Section 15 of the Securities Act or Section 20 of the Exchange Act, and the officers, directors, agents, general and limited partners, and employees of each Holder and each such controlling person from and against any and all losses, claims, damages, liabilities, and reasonable expenses (including reasonable costs of investigation) directly or indirectly arising out of or based upon any untrue statement or alleged untrue statement of a material fact contained in any registration statement or prospectus relating to the Registrable Securities or in any amendment or supplement thereto or in any preliminary prospectus, or arising out of or based upon any omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading, except insofar as such losses, claims, damages, liabilities or reasonable expenses arise out of, or are based upon, any such untrue statement or omission or allegation thereof based upon information furnished to the Company by such Holder or on such Holder's behalf expressly for use therein; and the Company will reimburse such Indemnified Party for any legal or other expenses reasonably incurred by them in connection with enforcing their rights hereunder, provided, however, that with respect to any untrue statement -------- ------- or omission or alleged untrue statement or omission made in any preliminary prospectus, the indemnity agreement contained in this paragraph shall not apply to the extent that any such loss, claim, damage, liability or expense results from the fact that a current copy of the prospectus was not sent or given to the Persons asserting any such loss, claim, damage, liability or expense at or prior to the written confirmation of the sale of the Registrable Securities concerned to such Person if it is determined that (i)(A) it was the responsibility of such Holder to provide such person with a current copy of the prospectus, (B) such Holder was provided with a current copy of the prospectus prior to the written confirmation of sale and (C) such current copy of the prospectus would have cured the defect giving rise to such loss, claim, damage, liability or expense or (ii) the Holder provided a prospectus to any Person in violation of the last paragraph of Section 3 hereof. (b) Indemnification by Holder of Registrable Securities. Each Holder --------------------------------------------------- agrees to indemnify and hold harmless the Company, and each Person, if any, who controls the Company within the meaning of either Section 15 of the Securities Act or Section 20 of the Exchange Act and the officers, directors, agents and employees of the Company and each such controlling Person to the same extent as the foregoing indemnity from the Company to such Holder, but only with respect to written information furnished by such Holder or on such Holder's behalf for use in any registration statement or prospectus relating to the Registrable Securities. The liability of any Holder under this Section 5(b) shall be limited to the net amount of proceeds received by such Holder pursuant to the sale of Registrable Securities covered by such registration statement or prospectus. (c) Conduct of Indemnification Proceedings. If any action or -------------------------------------- proceeding (including any governmental investigation) shall be brought or asserted against any Person entitled to indemnification under Section 5(a) or 5(b) above (an "Indemnified Party") in respect of which indemnity may be sought from any party who has agreed to provide such indemnification under Section 5(a) or 5(b) above (an "Indemnifying Party"), the Indemnified Party shall give prompt notice to the Indemnifying Party, provided that the failure of any Indemnified -------- Party to give notice as provided herein shall not relieve the Indemnifying Party of its obligations under this Section 5, except to the extent that such Indemnifying Party is materially prejudiced by such failure to give notice. The Indemnifying Party shall assume the defense thereof, including the employment of counsel reasonably satisfactory to such Indemnified Party, and shall assume the payment of all reasonable expenses of such defense. Such Indemnified Party shall have the right to employ separate counsel in any such action or proceeding and to participate in the defense thereof, but the fees and expenses of such counsel shall be at the expense of such Indemnified Party unless (i) the Indemnifying Party has agreed to pay such fees and expenses or (ii) the Indemnifying Party fails promptly to assume the defense of such action or proceeding or fails to employ counsel reasonably satisfactory to such Indemnified Party or (iii) the named parties to any such action or proceeding (including any impleaded parties) include both such Indemnified Party and Indemnifying Party (or an affiliate of the Indemnifying Party), and such Indemnified Party shall have been advised by counsel that there is a conflict of interest on the part of counsel employed by the Indemnifying Party to represent such Indemnified Party (in which case, if such Indemnified Party notifies the Indemnifying Party in writing that it elects to employ separate counsel at the expense of the Indemnifying Party, the Indemnifying Party shall not have the right to assume the defense of such action or proceeding on behalf of such Indemnified Party). Notwithstanding the foregoing, the Indemnifying Party shall not, in connection with any one such action or proceeding or separate but substantially similar related actions or proceedings in the same jurisdiction arising out of the same general allegations or circumstances, be liable at any time for the fees and expenses of more than one separate firm of attorneys (together in each case with appropriate local counsel). The Indemnifying Party shall not be liable for any settlement of any such action or proceeding effected without its written consent (which consent will not be unreasonably withheld), but if settled with its written consent, or if there be a final judgment for the plaintiff in any such action or proceeding, the Indemnifying Party shall indemnify and hold harmless such Indemnified Party from and against any loss or liability (to the extent stated above) by reason of such settlement or judgment. The Indemnifying Party shall not consent to entry of any judgment or enter into any settlement that does not include as an unconditional term thereof the giving by the claimant or plaintiff to such Indemnified Party of a release, in form and substance satisfactory to the Indemnified Party, from all liability in respect of such action or proceeding for which such Indemnified Party would be entitled to indemnification hereunder. (d) Contribution. If the indemnification provided for in this Section ------------ 5 is unavailable to the Indemnified Parties in respect of any losses, claims, damages, liabilities or judgment referred to herein, then each such Indemnifying Party, in lieu of indemnifying such Indemnified Party, shall contribute to the amount paid or payable by such Indemnified Party as a result of such losses, claims, damages, liabilities and judgments as between the Company on the one hand and each Holder on the other, in such proportion as is appropriate to reflect the relative fault of the Company and of each Holder in connection with the statements or omissions which resulted in such losses, claims, damages, liabilities or judgments, as well as any other relevant equitable considerations. The relative fault of the Company on the one hand and of each Holder on the other shall be determined by reference to, among other things, whether the untrue or alleged untrue statement of a material fact or the omission or alleged omission to state a material fact relates to information supplied by such party, and the parties' relative intent, knowledge, access to information and opportunity to correct or prevent such statement or omission. The Company and the Holders agree that it would not be just and equitable if contribution pursuant to this Section 5(d) were determined by pro rata allocation or by any other method of allocation which does not take account of the equitable considerations referred to in the immediately preceding paragraph. The amount paid or payable by the Indemnified Party as a result of the losses, claims, damages, liabilities or judgments referred to in the immediately preceding paragraph shall be deemed to include, subject to the limitations set forth above, any legal or other expenses reasonably incurred by such Indemnified Party in connection with the investigating or defending any such action or claim. Notwithstanding the provisions of this Section 5(d), no Holder shall be required to contribute any amount in excess of the amount by which the total price of which the Registrable Securities of such Holder were offered to the public exceeds the amount of any damages which Holder has otherwise been required to pay by reason of such untrue or alleged untrue statements or omission or alleged omission. No Person guilty of fraudulent misrepresentation (within the meaning of Section 11(f) of the Securities Act) shall be entitled to contribution from any Person who was not guilty of such fraudulent misrepresentation. EX-4.2 3 WARRANT AGREEMENT TSG & LIBERTY BANK EXHIBIT 4.2 ================================================================================ TECHNOLOGY SERVICE GROUP, INC. AND LIBERTY BANK AND TRUST COMPANY OF OKLAHOMA CITY, N.A. ------------------------------------- WARRANT AGREEMENT Dated as of May 10, 1996 ================================================================================ WARRANT AGREEMENT, dated this 10th day of May, 1996, by and between TECHNOLOGY SERVICE GROUP, INC., a Delaware corporation (the "Company"), and LIBERTY BANK AND TRUST COMPANY OF OKLAHOMA CITY, N.A. WITNESSETH: WHEREAS, in connection with (i) the offering to the public of up to 1,000,000 units (the "Units") each Unit consisting of one share of the Company's common stock, $.01 par value per share (the "Common Stock"), and one redeemable warrant (the "Warrants"), two Redeemable Warrants entitling the holder thereof to purchase one share of Common Stock and (ii) the overallotment option granted to Brookehill Equities, Inc., the representative of the several underwriters (the "Representative") in the public offering referred to above, to purchase up to an additional 150,000 Units (the "Over-Allotment Option"), the Company will issue up to 1,150,000 Warrants (subject to increase as provided herein); WHEREAS, the Company desires to provide for the issuance of certificates representing the Warrants; and WHEREAS, the Company desires the Warrant Agent (as defined in Section ------- 1(x) hereof) to act on behalf of the Company, and the Warrant Agent is willing to so act, in connection with the issuance, registration, transfer and exchange of certificates representing the Warrants and the exercise of the Warrants. NOW, THEREFORE, in consideration of the premises and the mutual agreements hereinafter set forth and for the purpose of defining the terms and provisions of the Warrants and the certificates representing the Warrants and the respective rights and obligations thereunder of the Company, the Representative, the holders of certificates representing the Warrants and the Warrant Agent, the parties hereto agree as follows: SECTION 1. Definitions. As used herein, the following terms shall ----------- have the following meanings, unless the context shall otherwise require: (a) "Act" shall mean the Securities Act of 1933, as amended. (b) "Change of Shares" shall have the meaning assigned to such term in Section 8(a)(i) of this Agreement. ------- (c) "Commission" shall mean the Securities and Exchange Commission. (d) "Common Stock" shall mean stock of the Company of any class, whether now or hereafter authorized, which has the right to participate in the voting and in the distribution of earnings and assets of the Company without limit as to amount or percentage. (e) "Company" shall have the meaning assigned to such term in the first (1st) paragraph of this Agreement. (f) "Corporate Office" shall mean the office of the Warrant Agent at which at any particular time its principal business in New York, New York, shall be administered, which office is located on the date hereof at 2 Broadway, New York, New York 10004. -2- (g) "Exchange Act" shall mean the Securities Exchange Act of 1934, as amended. (h) "Exercise Date" shall mean, subject to the provisions of Section 5(b) hereof, as to any Warrant, the date on which the Warrant Agent - ------- shall have received both (i) the Warrant Certificate representing such Warrant, with the exercise form thereon duly executed by the Registered Holder (as defined in Section l(o) hereof) thereof or his attorney duly authorized in writing, and (ii) payment in cash or by check made payable to the Warrant Agent for the account of the Company of an amount in lawful money of the United States of America equal to the applicable Purchase Price (as defined in Section 1(1) hereof). (i) "Initial Warrant Exercise Date" shall mean May 10, 1996. (j) "Initial Warrant Redemption Date" shall mean February 10, 1997. (k) "NASD" shall mean the National Association of Securities Dealers, Inc. (l) "Purchase Price" shall mean, subject to modification and adjustment as provided in Section 8 hereof, eleven dollars ($11.00) per Share. (m) "Over-Allotment Option" shall have the meaning assigned to such term in the first (1st) WHEREAS clause of this Agreement. -3- (n) "Redemption Date" shall mean the date (which may not occur before the Initial Warrant Redemption Date) fixed for the redemption of the Warrants in accordance with the terms hereof. (o) "Registered Holder" shall mean the person in whose name any certificate representing the Warrants shall be registered on the books maintained by the Warrant Agent pursuant to Section 6(b) hereof. ------- (p) "Shares" shall have the meaning assigned to such term in the first (1st) WHEREAS clause of this Agreement. (q) "Subsidiary" or "Subsidiaries" shall mean any corporation or corporations, as the case may be, of which stock having ordinary power to elect a majority of the board of directors of such corporation or corporations (regardless of whether or not at the time the stock of any other class or classes of such corporation shall have or may have voting power by reason of the happening of any contingency) is at the time directly or indirectly owned by the Company or by one or more Subsidiaries, or by the Company and one or more Subsidiaries. (r) "Transfer Agent" shall mean Liberty Bank and Trust Company of Oklahoma City, N.A., Oklahoma City, Oklahoma, or its authorized successor. (s) "Representative" shall have the meaning assigned to such term in the first (1st) WHEREAS clause of this Agreement. -4- (t) "Underwriting Agreement" shall mean the underwriting agreement dated May 10, 1996 between the Company and the Representative relating to the purchase for resale to the public of 1,000,000 Units (without giving effect to the Over-Allotment Option). (u) "Warrant Agent" shall mean Liberty Bank and Trust Company of Oklahoma City, N.A., Oklahoma City, Oklahoma or its authorized successor. (v) "Warrant Certificate" shall mean a certificate representing each of the Warrants substantially in the form annexed hereto as Exhibit A. ------- (w) "Warrant Expiration Date" shall mean, unless the Warrants are redeemed as provided in Section 9 hereof prior to such date, 5:00 p.m. (New York time) on May 9, 1999, or, if such date shall in the State of New York be a holiday or a day on which banks are authorized to close, then 5:00 p.m. (New York time) on the next following day which in the State of New York is not a holiday or a day on which banks are authorized to close, subject to the Company's right, prior to the Warrant Expiration Date, with the consent of the Representative, to extend such Warrant Expiration Date on five (5) business days prior written notice to the Registered Holders. (x) "Warrants" shall have the meaning assigned to such term in the first (1st) WHEREAS clause of this Agreement. -5- SECTION 2. Warrants and Issuance of Warrant Certificates. --------------------------------------------- (a) Two Warrants shall initially entitle the Registered Holder of the Warrant Certificate representing such Warrants to purchase at the Purchase Price therefor from the Initial Warrant Exercise Date until the Warrant Expiration Date one (1) share of Common Stock upon the exercise thereof, subject to modification and adjustment as provided in Section 8 hereof. ------- (b) Upon execution of this Agreement, Warrant Certificates representing 1,000,000 Warrants to purchase up to an aggregate of 500,000 shares of Common Stock (subject to modification and adjustment as provided in Section 8 ------- hereof), shall be executed by the Company and delivered to the Warrant Agent. (c) Upon exercise of the Over-Allotment Option, in whole or in part, Warrant Certificates representing up to 150,000 Warrants to purchase up to an aggregate of 75,000 shares of Common Stock (subject to modification and adjustment as provided in Section 8 hereof) shall be executed by the Company and delivered to the Warrant Agent. (d) From time to time, up to the Warrant Expiration Date, the Warrant Agent shall countersign and deliver Warrant Certificates in required denominations of one or whole number multiples thereof to the person entitled thereto in connection with any transfer or exchange permitted under this Agreement. No Warrant Certificates shall be issued except (i) Warrant Certificates initially issued hereunder, (ii) Warrant Certificates issued upon any transfer or exchange of Warrants, (iii) Warrant Certificates issued in replacement of lost, stolen, destroyed or mutilated Warrant Certificates pursuant to Section 7 hereof, and (iv) at ------- -6- the option of the Company, Warrant Certificates in such form as may be approved by its Board of Directors, to reflect any adjustment or change in the Purchase Price, the number of shares of Common Stock purchasable upon the exercise of a Warrant or the redemption price therefor. SECTION 3. Form and Execution of Warrant Certificates. ------------------------------------------ (a) The Warrant Certificates shall be substantially in the form annexed hereto as Exhibit A (the provisions of which are hereby incorporated ------- herein) and may have such letters, numbers or other marks of identification or designation and such legends, summaries or endorsements printed, lithographed or engraved thereon as the Company may deem appropriate and as are not inconsistent with the provisions of this Agreement, or as may be required to comply with any law or with any rule or regulation made pursuant thereto or with any rule or regulation of any stock exchange on which the Warrants may be listed, or to conform to usage. The Warrant Certificates shall be dated the date of issuance thereof (whether upon initial issuance, transfer, exchange or in lieu of mutilated, lost, stolen or destroyed Warrant Certificates). (b) Warrant Certificates shall be executed on behalf of the Company by its Chairman of the Board, President or any Vice President and by its Treasurer or an Assistant Treasurer or its Secretary or an Assistant Secretary, by manual signatures or by facsimile signatures printed thereon, and shall have imprinted thereon a facsimile of the Company's seal. Warrant Certificates shall be manually countersigned by the Warrant Agent and shall not be valid for any purpose unless so countersigned. In case any officer of the -7- Company who shall have signed any of the Warrant Certificates shall cease to be such officer of the Company before the date of issuance of the Warrant Certificates or before countersignature by the Warrant Agent and issue and delivery thereof, such Warrant Certificates, nevertheless, may be countersigned by the Warrant Agent and issued and delivered with the same force and effect as though the officer of the Company who signed such Warrant Certificates had not ceased to hold such office. SECTION 4. Exercise. -------- (a) Warrants in denominations of one or whole number multiples thereof may be exercised commencing at any time on or after the Initial Warrant Exercise Date, but not after the Warrant Expiration Date, upon the terms and subject to the conditions set forth herein (including the provisions set forth in Sections 5 and 9 hereof) and in the applicable Warrant Certificate. A Warrant -------- shall be deemed to have been exercised immediately prior to the close of business on the Exercise Date, provided that the Warrant Certificate representing such Warrant, with the exercise form thereon duly executed by the Registered Holder thereof or his attorney duly authorized in writing, together with payment in cash or by check made payable to the Warrant Agent for the account of the Company of an amount in lawful money of the United States of America equal to the applicable Purchase Price, have been received by the Warrant Agent. The person entitled to receive the securities deliverable upon such exercise shall be treated for all purposes as the holder of such securities as of the close of business on the Exercise Date. As soon as practicable on or after the Exercise Date and in any event within five (5) business days after such date, the Warrant Agent, on behalf of the Company, shall cause to be issued to the person or persons entitled to -8- receive the same a Common Stock certificate or certificates for the shares of Common Stock deliverable upon such exercise, and the Warrant Agent shall deliver the same to the person or persons entitled thereto. Upon the exercise of any Warrants, the Warrant Agent shall promptly notify the Company in writing of such fact and of the number of securities delivered upon such exercise and, subject to Section 4(b) hereof, shall cause all payments in cash or by check made ------- payable to the order of the Company in respect of the Purchase Price to be deposited promptly in the Company's bank account or delivered to the Company. (b) The Company shall not be obligated to issue any fractional share interests or fractional warrant interests upon the exercise of any Warrant or Warrants, nor shall it be obligated to issue scrip or pay cash in lieu of fractional interests. Any fraction equal to or greater than one-half ( 1/2) shall be rounded up to the next full share or Warrant, as the case may be. Any fraction less than one-half shall be eliminated. SECTION 5. Reservation of Shares, Listing, Payment of Taxes etc. ----------------------------------------------------- (a) The Company covenants that it will at all times reserve and keep available out of its authorized Common Stock, solely for the purpose of issuance upon the exercise of Warrants, such number of shares of Common Stock as shall then be issuable upon the exercise of all outstanding Warrants. The Company covenants that, upon exercise of the Warrants and payment of the Purchase Price for the shares of Common Stock underlying the Warrants, all shares of Common Stock which shall be issuable upon such exercise shall be duly and validly issued, fully paid, non-assessable, free from all preemptive or similar rights, and free from all taxes, liens and charges with respect to the issuance thereof, and that upon -9- issuance such shares shall be listed or quoted on each securities exchange, if any, on which the other shares of outstanding Common Stock are then listed or quoted, or if not then so listed or quoted on each place (whether the Nasdaq Stock Market, Inc., the NASD Over-the-Counter Bulletin Board, the National Quotation Bulletin Board "Pink Sheets" or otherwise) on which the other shares of outstanding Common Stock are listed or quoted. (b) The Company covenants that if any securities reserved for the purpose of exercise of Warrants hereunder require registration with, or approval of, any governmental authority under any federal securities law before such securities may be validly issued or delivered upon such exercise, then the Company will file a registration statement under the federal securities laws or a post-effective amendment to a registration statement, use its best efforts to cause the same to become effective, keep such registration statement current while any of the Warrants are outstanding and deliver a prospectus which complies with Section 10(a)(3) of the Act, to the Registered Holder exercising the Warrant (except, if in the opinion of counsel to the Company, such registration is not required under the federal securities law or if the Company receives a letter from the staff of the Commission stating that it would not take any enforcement action if such registration is not effected). The Company will use its best efforts to obtain appropriate approvals or registrations under the state "blue sky" securities laws of all states in which Registered Holders reside. Warrants may not be exercised by, nor may shares of Common Stock be issued to, any Registered Holder in any state in which such exercise would be unlawful. (c) The Company shall pay all documentary, stamp or similar taxes and other governmental charges that may be imposed with respect to the issuance of Warrants, -10- or the issuance or delivery of any shares of Common Stock upon exercise of the Warrants; provided, however, that if shares of Common Stock are to be delivered -------- ------- in a name other than the name of the Registered Holder of the Warrant Certificate representing any Warrant being exercised, then no such delivery shall be made unless the person requesting the same has paid to the Warrant Agent the amount of transfer taxes or charges incident thereto, if any. (d) The Warrant Agent is hereby irrevocably authorized as the Transfer Agent to requisition from time to time certificates representing shares of Common Stock or other securities required upon exercise of the Warrants, and the Company will comply with all such requisitions. SECTION 6. Exchange and Registration of Transfer. ------------------------------------- (a) Warrant Certificates may be exchanged for other Warrant Certificates representing an equal aggregate number of Warrants or may be transferred in whole or in part. Warrant Certificates to be so exchanged shall be surrendered to the Warrant Agent at its Corporate Office, and the Company shall execute and the Warrant's Agent shall countersign, issue and deliver in exchange therefor the Warrant Certificate or Certificates which the Registered Holder making the exchange shall be entitled to receive. (b) The Warrant Agent shall keep, at such office, books in which, subject to such reasonable regulations as it may prescribe, it shall register Warrant Certificates and the transfer thereof. Upon due presentment for registration of transfer of any Warrant Certificate at such office, the Company shall execute and the Warrant Agent shall issue and -11- deliver to the transferee or transferees a new Warrant Certificate or Certificates representing an equal aggregate number of Warrants. (c) With respect to any Warrant Certificates presented for registration of transfer, or for exchange or exercise, the subscription or assignment form, as the case may be, on the reverse thereof shall be duly endorsed or be accompanied by a written instrument or instruments of subscription or assignment, in form satisfactory to the Company and the Warrant Agent, duly executed by the Registered Holder thereof or his attorney duly authorized in writing. (d) No service charge shall be made for any exchange or registration of transfer of Warrant Certificates. However, the Company may require payment of a sum sufficient to cover any tax or other governmental charge that may be imposed in connection therewith. (e) All Warrant Certificates surrendered for exercise or for exchange shall be promptly canceled by the Warrant Agent. (f) Prior to due presentment for registration or transfer thereof, the Company and the Warrant Agent may deem and treat the Registered Holder of any Warrant Certificate as the absolute owner thereof of each Warrant represented thereby (notwithstanding any notations of ownership or writing thereon made by anyone other than the Company or the Warrant Agent) for all purposes and shall not be affected by any notice to the contrary. -12- SECTION 7. Loss or Mutilation. Upon receipt by the Company and the ------------------ Warrant Agent of evidence satisfactory to them of the ownership of and the loss, theft, destruction or mutilation of any Warrant Certificate and (in the case of loss, theft or destruction) of indemnity satisfactory to them, and (in case of mutilation) upon surrender and cancellation thereof, the Company shall execute and the Warrant Agent shall countersign and deliver in lieu thereof a new Warrant Certificate representing an equal number of Warrants. Applicants for a substitute Warrant Certificate shall also comply with such other reasonable regulations and pay such other reasonable charges as the Warrant Agent may prescribe. SECTION 8. Adjustment of Purchase Price and Number of Shares of Common ----------------------------------------------------------- Stock Deliverable. - ----------------- (a) (i) Except as hereinafter provided, in the event the Company shall, at any time or from time to time after the date hereof, sell any shares of Common Stock for a consideration per share less than the Purchase Price or issue any shares of Common Stock as a stock dividend to the holders of Common Stock, or subdivide or combine the outstanding shares of Common Stock into a greater or lesser number of shares (any such sale, issuance, subdivision or combination being herein called a "Change of Shares"), then, and thereafter upon each further Change of Shares, the Purchase Price for the Warrants (whether or not the same shall be issued and outstanding) in effect immediately prior to such Change of Shares shall be changed to a price (including any applicable fraction of a cent to the nearest cent) determined by dividing (A) the sum of (x) the total number of shares of Common Stock outstanding immediately prior to such Change of Shares, multiplied by the Purchase Price in effect immediately prior to such Change of Shares, and (y) the consideration, if any, received -13- by the Company upon such sale, issuance, subdivision or combination by (B) the total number of shares of Common Stock outstanding immediately after such Change of Shares; provided, however, that in no event shall the Purchase Price be -------- ------- adjusted pursuant to this computation to an amount in excess of the Purchase Price in effect immediately prior to such computation, except in the case of a combination of outstanding shares of Common Stock. For the purposes of any adjustment to be made in accordance with this Section 8(a)(i) the following provisions shall be applicable: - ------- (A) In case of the issuance or sale of shares of Common Stock (or of other securities deemed hereunder to involve the issuance or sale of shares of Common Stock) for a consideration part or all of which shall be cash, the amount of the cash portion of the consideration therefor deemed to have been received by the Company shall be (i) the subscription price, if shares of Common Stock are offered by the Company for subscription, or (ii) the public offering price (before deducting therefrom any compensation paid or discount allowed in the sale, underwriting or purchase thereof by underwriters or dealers or others performing similar services, or any expenses incurred in connection therewith), if such securities are sold to underwriters or dealers for public offering without a subscription offering, or (iii) the gross amount of cash actually received by the Company for such securities, in any other case. (B) In case of the issuance or sale (otherwise than as a dividend or other distribution on any stock of the Company, and otherwise than on the exercise of options, rights or warrants or the conversion or exchange of convertible or exchangeable securities) of shares of Common Stock (or of other securities deemed hereunder -14- involve the issuance or sale of shares of Common Stock) for a consideration part or all of which shall be other than cash, the amount of the consideration therefor other than cash deemed to have been received by the Company shall be the value of such consideration as determined in good faith by the Board of Directors of the Company on the basis of a record of values of similar property or services. (C) Shares of Common Stock issuable by way of dividend or other distribution on any stock of the Company shall be deemed to have been issued immediately after the opening of business on the day following the record date for the determination of shareholders entitled to receive such dividend or other distribution and shall be deemed to have been issued without consideration. (D) The reclassification of securities of the Company other than shares of Common Stock into securities including shares of Common Stock shall be deemed to involve the issuance of such shares of Common Stock for a consideration other than cash immediately prior to the close of business on the date fixed for the determination of security holders entitled to receive such shares, and the value of the consideration allocable to such shares of Common Stock shall be determined as provided in subsection (B) of this Section 8(a)(i). ------- (E) The number of shares of Common Stock at any one time outstanding shall be deemed to include the aggregate maximum number of shares issuable (subject to readjustment upon the actual issuance thereof) upon the exercise of options, rights or warrants and upon the conversion or exchange of convertible or exchangeable securities. -15- (ii) Upon each adjustment of the Purchase Price pursuant to this Section 8, the number of shares of Common Stock purchasable upon the ------- exercise of each Warrant shall be the number derived by multiplying the number of shares of Common Stock purchasable immediately prior to such adjustment by the Purchase Price in effect prior to such adjustment and dividing the product so obtained by the applicable adjusted Purchase Price. (b) In case the Company shall at any time after the date hereof issue options, rights or warrants to subscribe for shares of Common Stock, or issue any securities convertible into or exchangeable for shares of Common Stock, for a consideration per share (determined as provided in Section 8(a)(i) hereof and ------- as provided below) less than the Purchase Price in effect immediately prior to the issuance of such options, rights or warrants, or such convertible or exchangeable securities, or without consideration (including the issuance of any such securities by way of dividend or other distribution), the Purchase Price for the Warrants (whether or not the same shall be issued and outstanding) in effect immediately prior to the issuance of such options, rights or warrants, or such convertible or exchangeable securities, as the case may be, shall be reduced to a price determined by making the computation in accordance with the provisions of Section 8(a)(i) hereof, provided that: ------- (A) The aggregate maximum number of shares of Common Stock, as the case may be, issuable or that may become issuable under such options, rights or warrants (assuming exercise in full even if not then currently exercisable or currently exercisable in full) shall be deemed to be issued and outstanding at the time such options, rights or warrants were issued, for a consideration equal to the minimum purchase price per -16- share provided for in such options, rights or warrants at the time of issuance, plus the consideration, if any, received by the Company for such options, rights or warrants; provided, however, that upon the expiration or other termination of -------- ------- such options, rights or warrants, if any thereof shall not have been exercised, the number of shares of Common Stock deemed to be issued and outstanding pursuant to this subsection (A) (and for the purposes of subsection (E) of Section 8(a)(i) hereof) shall be reduced by the number of shares as to which - ------- options, warrants and/or rights shall have expired, and such number of shares shall no longer be deemed to be issued and outstanding, and the Purchase Price then in effect shall forthwith be readjusted and thereafter be the price that it would have been had adjustment been made on the basis of the issuance only of the shares actually issued plus the shares remaining issuable upon the exercise of those options, rights or warrants as to which the exercise rights shall not have expired or terminated unexercised. (B) The aggregate maximum number of shares of Common Stock issuable or that may become issuable upon conversion or exchange of any convertible or exchangeable securities (assuming conversion or exchange in full even if not then currently convertible or exchangeable in full) shall be deemed to be issued and outstanding at the time of issuance of such securities, for a consideration equal to the consideration received by the Company for such securities, plus the minimum consideration, if any, receivable by the Company upon the conversion or exchange thereof; provided, however, that upon the termination of the right to -------- ------- convert or exchange such convertible or exchangeable securities (whether by reason of redemption or otherwise), the number of shares of Common Stock deemed to be issued and outstanding pursuant to this subsection (B) (and for the -17- purposes of subsection (E) of Section 8(a)(i) hereof) shall be reduced by the number of shares as to which the conversion or exchange rights shall have expired or terminated unexercised, and such number of shares shall no longer be deemed to be issued and outstanding, and the Purchase Price then in effect shall forthwith be readjusted and thereafter be the price that it would have been had adjustment been made on the basis of the issuance only of the shares actually issued plus the shares remaining issuable upon conversion or exchange of those convertible or exchangeable securities as to which the conversion or exchange rights shall not have expired or terminated unexercised. (C) If any change shall occur in the price per share provided for in any of the options, rights or warrants referred to in subsection (A) of this Section 8(b), or in the price per share or ratio at which the securities - ------- referred to in subsection (B) of this Section 8(b) are convertible or ------- exchangeable, such options, rights or warrants or conversion or exchange rights, as the case may be, to the extent not theretofore exercised, shall be deemed to have expired or terminated on the date when such price change became effective in respect of shares not theretofore issued pursuant to the exercise or conversion or exchange thereof, and the Company shall be deemed to have issued upon such date new options, rights or warrants or convertible or exchangeable securities. (c) In case of any reclassification or change of outstanding shares of Common Stock issuable upon exercise of the Warrants (other than a change in par value, or from par value to no par value, or from no par value to par value or as a result of a subdivision or combination), or in case of any consolidation or merger of the Company with or into another corporation (other than a merger with a Subsidiary in which merger the -18- Company is the continuing corporation and which does not result in any reclassification or change of the then outstanding shares of Common Stock or other capital stock issuable upon exercise of the Warrants), or in case of any sale or conveyance to another corporation of the property of the Company as an entirety or substantially as an entirety, then, as a condition of such reclassification, change, consolidation, merger, sale or conveyance, the Company, or such successor or purchasing corporation, as the case may be, shall make lawful and adequate provision whereby the Registered Holder of each Warrant then outstanding shall have the right thereafter to receive on exercise of such Warrant the kind and amount of securities and property receivable upon such reclassification, change, consolidation, merger, sale or conveyance by a holder of the number of securities issuable upon exercise of such Warrant immediately prior to such reclassification, change, consolidation, merger, sale or conveyance and shall forthwith file at the Corporate Office of the Warrant Agent a statement signed by its Chairman of the Board, President or a Vice President and by its Treasurer or an Assistant Treasurer or its Secretary or an Assistant Secretary evidencing such provision. Such provisions shall include provision for adjustments which shall be as nearly equivalent as may be practicable to the adjustments provided for in Sections 8(a) and 8(b) hereof. The above provisions -------- of this Section 8(c) shall similarly apply to successive reclassifications and ------- changes of shares of Common Stock and to successive consolidations, mergers, sales or conveyances. (d) Irrespective of any adjustments or changes in the Purchase Price or the number of shares of Common Stock purchasable upon exercise of the Warrants, the Warrant Certificates theretofore and thereafter issued shall, unless the Company shall exercise its option to issue new Warrant Certificates pursuant to Section 2(e) hereof, continue to ------- -19- express the Purchase Price per share and the number of shares purchasable thereunder as the Purchase Price per share and the number of shares purchasable thereunder were expressed in the Warrant Certificates when the same were originally issued. (e) After each adjustment of the Purchase Price pursuant to this Section 8, the Company will promptly prepare a certificate signed by the Chairman of the Board, President, or a Vice President and by the Treasurer or an Assistant Treasurer or the Secretary or an Assistant Secretary of the Company setting forth: (i) the Purchase Price as so adjusted, (ii) the number of shares of Common Stock purchasable upon exercise of each Warrant, after such adjustment, and (iii) a brief statement of the facts accounting for such adjustment. The Company will promptly file such certificate with the Warrant Agent and cause a brief summary thereof to be sent by ordinary first class mail to each Registered Holder at his last address as it shall appear on the registry books of the Warrant Agent. No failure to mail such notice nor any defect therein or in the mailing thereof shall affect the validity thereof except as to the holder to whom the Company failed to mail such notice, or except as to the holder whose notice was defective. The affidavit of an officer of the Warrant Agent or the Secretary or an Assistant Secretary of the Company that such notice has been mailed shall, in the absence of fraud, be prima facie evidence of the facts stated therein. (f) No adjustment of the Purchase Price shall be made as a result of or in connection with (A) the issuance or sale of shares of Common Stock pursuant to options, warrants, stock purchase agreements and convertible or exchangeable securities outstanding or in effect on the date hereof, (B) the issuance or sale of shares of Common Stock upon the exercise of any "incentive stock options" (as such term is defined in the Internal Revenue -20- Code of 1986, as amended), or any options issuable pursuant to the Company's stock option plan or stock purchase plan as described in the Company's Prospectus dated May 10, 1996, whether or not such options were outstanding on the date hereof, or (C) the issuance or sale of shares of Common Stock if the amount of said adjustment shall be less than five cents ($.05); provided, -------- however, that in such case, any adjustment that would otherwise be required then - ------- to be made shall be carried forward and shall be made at the time of and together with the next subsequent adjustment that shall amount, together with any adjustment so carried forward, to at least five cents ($.05). In addition, Registered Holders shall not be entitled to cash dividends paid by the Company prior to the exercise of any Warrant or Warrants held by them. SECTION 9. Redemption. ---------- (a) Commencing on the Initial Warrant Redemption Date, the Company may (but only with the prior written consent of the Representative), on thirty (30) days' prior written notice, redeem all of the Warrants, in whole and not in part, at a redemption price of five cents ($.05) per Warrant; provided, however, -------- ------- that before any such call for redemption of Warrants can take place, the (i) average closing bid price for the Common Stock, as reported by the National Association of Securities Dealers Automated Quotation System, or (ii) if not so quoted, as reported by any other recognized quotation system on which the Common Stock is quoted, shall have for the twenty (20) consecutive trading days ending on the fifth (5th) trading day prior to the date on which the notice contemplated by Sections 9(b) and 9(c) hereof is given, equaled or exceeded -------- twelve dollars -21- ($12.00) per share of Common Stock (subject to adjustment in the event of any stock splits or other similar events as provided in Section 8 hereof). ------- (b) In case the Company shall exercise its right to redeem all of the Warrants, it shall give or cause to be given notice to the Registered Holders of the Warrants, by mailing to such Registered Holders a notice of redemption, first class, postage prepaid, at their last address as shall appear on the records of the Warrant Agent. Any notice mailed in the manner provided herein shall be conclusively presumed to have been duly given whether or not the Registered Holder receives such notice. Not less than five (5) business days prior to the mailing to the Registered Holders of the Warrants of the notice of redemption, the Company shall deliver or cause to be delivered to the Representative or its successors or assigns a similar notice telephonically and confirmed in writing, together with a list of the Registered Holders (including their respective addresses and number of Warrants beneficially owned by them) to whom such notice of redemption has been or will be given. (c) The notice of redemption shall specify (i) the redemption price, (ii) the date fixed for redemption, which shall in no event be less than (30) days after the date of mailing of such notice, (iii) the place where the Warrant Certificates shall be delivered and the redemption price shall be paid, and (iv) that the right to exercise the Warrant shall terminate at 5:00 p.m. (New York time) on the business day immediately preceding the date fixed for redemption. The date fixed for the redemption of the Warrants shall be the "Redemption Date" for purposes of this Agreement. No failure to mail such notice nor any defect therein or in the mailing thereof shall affect the validity of the proceedings for such redemption except as to a holder (A) to whom notice was not mailed or (B) whose notice was -22- defective. An affidavit of the Warrant Agent or the Secretary or Assistant Secretary of the Company that notice of redemption has been mailed shall, in the absence of fraud, be prima facie evidence of the facts stated therein. (d) Any right to exercise a Warrant shall terminate at 5:00 p.m. (New York time) on the business day immediately preceding the Redemption Date. The redemption price payable to the Registered Holders shall be mailed to such persons at their addresses of record. SECTION 10. Concerning the Warrant Agent. ---------------------------- (a) The Warrant Agent acts hereunder as agent and in a ministerial capacity for the Company and the Representative, and its duties shall be determined solely by the provisions hereof. The Warrant Agent shall not, by issuing and delivering Warrant Certificates or by any other act hereunder, be deemed to make any representations as to the validity or value or authorization of the Warrant Certificates or the Warrants represented thereby or of any securities or other property delivered upon exercise of any Warrant or whether any stock issued upon exercise of any Warrant is fully paid and non-assessable. (b) The Warrant Agent shall not at any time be under any duty or responsibility to any holder of Warrant Certificates to make or cause to be made any adjustment of the Purchase Price provided in this Agreement, or to determine whether any fact exists which may require any such adjustment, or with respect to the nature or extent of any such adjustment, when made, or with respect to the method employed in making the same. It -23- shall not (i) be liable for any recital or statement of fact contained herein or for any action taken, suffered or omitted by it in reliance on any Warrant Certificate or other document or instrument believed by it in good faith to be genuine and to have been signed or presented by the proper party or parties, (ii) be responsible for any failure on the part of the Company to comply with any of its covenants and obligations contained in this Agreement or in any Warrant Certificate, or (iii) be liable for any act or omission in connection with this Agreement except for its own gross negligence or willful misconduct. (c) The Warrant Agent may at any time consult with counsel satisfactory to it (who may be counsel for the Company or the Representative) and shall incur no liability or responsibility for any action taken, suffered or omitted by it in good faith in accordance with the opinion or advice of such counsel. (d) Any notice, statement, instruction, request, direction, order or demand of the Company shall be sufficiently evidenced by an instrument signed by the Chairman of the Board of Directors, President or any Vice President (unless other evidence in respect thereof is herein specifically prescribed). The Warrant Agent shall not be liable for any action taken, suffered or omitted by it in accordance with such notice, statement, instruction, request, direction, order or demand. (e) The Company agrees to pay the Warrant Agent reasonable compensation for its services hereunder and to reimburse it for its reasonable expenses hereunder; the Company further agrees to indemnify the Warrant Agent and hold it harmless against any and all losses, expenses and liabilities, including judgments, costs and counsel -24- fees, for anything done or omitted by the Warrant Agent in the execution of its duties and powers hereunder except losses, expenses and liabilities arising as a result of the Warrant Agent's gross negligence or willful misconduct. (f) The Warrant Agent may resign its duties and be discharged from all further duties and liabilities hereunder (except liabilities arising as a result of the Warrant Agent's own gross negligence or willful misconduct), after giving thirty (30) days' prior written notice to the Company. At least fifteen (15) days prior to the date such resignation is to become effective, the Warrant Agent shall cause a copy of such notice of resignation to be mailed to the Registered Holder of each Warrant Certificate at the Company's expense. Upon such resignation the Company shall appoint in writing a new warrant agent. If the Company shall fail to make such appointment within a period of thirty (30) days after it has been notified in writing of such resignation by the resigning Warrant Agent, then the Registered Holder of any Warrant Certificate may apply to any court of competent jurisdiction for the appointment of a new warrant agent. Any new warrant agent, whether appointed by the Company or by such a court, shall be a bank or trust company having a capital and surplus, as shown by its last published report to its stockholders, of not less than ten million dollars ($10,000,000) or a stock transfer company doing business in New York, New York. After acceptance in writing of such appointment by the new warrant agent is received by the Company, such new warrant agent shall be vested with the same powers, rights, duties and responsibilities as if it had been originally named herein as the warrant agent, without any further assurance, conveyance, act or deed; but if for any reason it shall be necessary or expedient to execute and deliver any further assurance, conveyance, act or deed, the same shall be done at the expense of the -25- Company and shall be legally and validly executed and delivered by the resigning Warrant Agent. Not later than the effective date of any such appointment, the Company shall file notice thereof with the resigning Warrant Agent and shall forthwith cause a copy of such notice to be mailed to the Registered Holder of each Warrant Certificate. (g) Any corporation into which the Warrant Agent or any new warrant agent may be converted or merged, any corporation resulting from any consolidation to which the Warrant Agent or any new warrant agent shall be a party, or any corporation succeeding to the corporate trust business of the Warrant Agent or any new warrant agent shall be a successor warrant agent under this Agreement without any further act, provided that such corporation is eligible for appointment as successor to the Warrant Agent under the provisions of the preceding paragraph. Any such successor warrant agent shall promptly cause notice of its succession as warrant agent to be mailed to the Company and to the Registered Holders of each Warrant Certificate. (h) The Warrant Agent, its subsidiaries and affiliates, and any of its or their officers or directors, may buy and hold or sell Warrants or other securities of the Company and otherwise deal with the Company in the same manner and to the same extent and with like effect as though it were not Warrant Agent. Nothing herein shall preclude the Warrant Agent from acting in any other capacity for the Company or for any other legal entity. (i) The Warrant Agent shall retain for a period of two (2) years from the date of exercise any Warrant Certificate received by it upon such exercise. -26- SECTION 11. Modification of Agreement. ------------------------- The Warrant Agent and the Company may by supplemental agreement make any changes or corrections in this Agreement (a) that they shall deem appropriate to cure any ambiguity or to correct any defective or inconsistent provision or manifest mistake or error herein contained, or (b) that they may deem necessary or desirable and which shall not adversely affect the interests of the holders of Warrant Certificates; provided, however, that this Agreement -------- ------- shall not otherwise be modified, supplemented or altered in any respect except with the consent in writing of the Registered Holders holding not less than sixty-six and two-thirds percent (66 2/3%) of the Warrants then outstanding; provided, further, that no change in the number or nature of the securities - -------- ------- purchasable upon the exercise of any Warrant, and no change that increases the Purchase Price of any Warrant, other than such changes as are specifically set forth in this Agreement as originally executed, shall be made without the consent in writing of each Registered Holders affected by such change. In addition, this Agreement may not be modified, amended or supplemented without the prior written consent of the Representative or its successors or assigns, other than to cure any ambiguity or to correct any defective or inconsistent provision or manifest mistake or error herein contained or to make any such change that the Warrant Agent and the Company deem necessary or desirable and which shall not adversely affect the interests of the Underwriter or its successors or assigns. SECTION 12. Notices. ------- -27- All notices, requests, consents and other communications hereunder shall be in writing and shall be deemed to have been made when delivered or mailed first-class postage prepaid or delivered to a telegraph office for transmission, if to the Registered Holder of a Warrant Certificate, at the address of such holder as shown on the registry books maintained by the Warrant Agent; if to the Company at Technology Service Group, Inc., 20 Mansell Court East, Suite 200, Roswell, Georgia 30076, Attention: Vincent C. Bisceglia, President and Chief Executive Officer, or at such other address as may have been furnished to the Warrant Agent in writing by the Company; and if to the Warrant Agent, at its Corporate Office. Copies of any notice delivered pursuant to this Agreement shall be delivered to Brookehill Equities, Inc, 545 Madison Avenue, New York, New York 10022-0164, Attention: Syndicate Department, or at such other address as may have been furnished to the Company and the Warrant Agent in writing. SECTION 13. Governing Law. ------------- This Agreement shall be governed by and construed in accordance with the laws of the State of New York without giving effect to conflicts of laws rules or principals. SECTION 14. Binding Effect. -------------- This Agreement shall be binding upon and inure to the benefit of the Company, the Warrant Agent and their respective successors and assigns and the holders from time to time of Warrant Certificates or any of them. Except as hereinafter stated, nothing in this Agreement is intended or shall be construed to confer upon any other person any right, remedy or claim or to impose upon any other person any duty, liability or obligation. The -28- Representative is, and shall at all times irrevocably be deemed to be, a third- party beneficiary of this Agreement, with full power, authority and standing to enforce the rights granted to it hereunder. SECTION 15. Counterparts. ------------ This Agreement may be executed in several counterparts, which taken together shall constitute a single document. IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be duly executed as of the date first above written. TECHNOLOGY SERVICE GROUP, INC. LIBERTY BANK AND TRUST COMPANY OF OKLAHOMA CITY, N.A. As Warrant Agent By: /s/ Vincent C. Bisceglia By: /s/ John Brown ------------------------ ------------------------------ Name: Vincent C. Bisceglia Name: John Brown Title: President and Chief Title: Senior Vice President Executive Officer -29- EXHIBIT A --------- No. W ____________________ VOID AFTER MAY 9, 1999 ___________ WARRANTS REDEEMABLE WARRANT CERTIFICATE TO PURCHASE SHARES OF COMMON STOCK TECHNOLOGY SERVICE GROUP, INC. CUSIP 87872Q112 THIS CERTIFIES THAT, FOR VALUE RECEIVED or registered assigns (the "Registered Holder") is the owner of the number of Redeemable Warrants (the "Warrants") specified above. Two Warrants initially entitle the Registered Holder to purchase, subject to the terms and conditions set forth in this Certificate and the Warrant Agreement (as hereinafter defined), one fully paid and non-assessable share of Common Stock, $.01 par value per share, of Technology Service Group, Inc., a Delaware corporation (the "Company"), at any time from May 10, 1996 and prior to the Expiration Date (as hereinafter defined) upon the presentation and surrender of this Warrant Certificate with the Subscription Form on the reverse hereof duly executed, at the corporate office of Liberty Bank and Trust Company of Oklahoma City, N.A., ____________________, Oklahoma City, Oklahoma, as Warrant Agent, or its successor (the "Warrant Agent"), accompanied by payment of $11.00 subject to adjustment (the "Purchase Price"), in lawful money of the United States of America in cash or by check made payable to the Warrant Agent for the account of the Company. This Warrant Certificate and each Warrant represented hereby are issued pursuant to and are subject in all respects to the terms and conditions set forth in the Warrant Agreement (the "Warrant Agreement"), dated May 10, 1996, by and between the Company and the Warrant Agent. In the event of certain contingencies provided for in the Warrant Agreement, the Purchase Price and the number of shares of Common Stock subject to purchase upon the exercise of each Warrant represented hereby are subject to modification or adjustment. Each Warrant represented hereby is exercisable at the option of the Registered Holder, but no fractional interests will be issued. In the case of the exercise of less than all the Warrants represented hereby, the Company shall cancel this Warrant Certificate upon the surrender hereof and shall execute and deliver a new Warrant Certificate or Warrant Certificates of like tenor, which the Warrant Agent shall countersign, for the balance of such Warrants. A-1 The term "Expiration Date" shall mean 5:00 p.m. (New York time) on May 9, 1999. If such date shall in the State of New York be a holiday or a day on which banks are authorized to close, then the Expiration Date shall mean 5:00 p.m. (New York time) the next following day which in the State of New York is not a holiday or a day on which banks are authorized to close. The Company shall not be obligated to deliver any securities pursuant to the exercise of this Warrant unless a registration statement under the Securities Act of 1933, as amended (the "Act"), with respect to such securities is effective or an exemption thereunder is available. The Company has covenanted and agreed that it will file a registration statement under the Federal securities laws, use its best efforts to cause the same to become effective, to keep such registration statement current, if required under the Act, while any of the Warrants are outstanding, and deliver a prospectus which complies with Section 10(a)(3) of the Act to the Registered Holder exercising this Warrant. This Warrant shall not be exercisable by a Registered Holder in any state where such exercise would be unlawful. This Warrant Certificate is exchangeable, upon the surrender hereof by the Registered Holder at the corporate office of the Warrant Agent, for a new Warrant Certificate or Warrant Certificates of like tenor representing an equal aggregate number of Warrants, each of such new Warrant Certificates to represent such number of Warrants as shall be designated by such Registered Holder at the time of such surrender. Upon due presentment and payment of any tax or other charge imposed in connection therewith or incident thereto, for registration of transfer of this Warrant Certificate at such office, a new Warrant Certificate or Warrant Certificates representing an equal aggregate number of Warrants will be issued to the transferee in exchange therefor, subject to the limitations provided in the Warrant Agreement. Prior to the exercise of any Warrant represented hereby, the Registered Holder shall not be entitled to any rights of a stockholder of the Company, including, without limitation, the right to vote or to receive dividends or other distributions, and shall not be entitled to receive any notice of any proceedings of the Company, except as provided in the Warrant Agreement. Subject to the provisions of the Warrant Agreement, this Warrant may be redeemed at the option of the Company, in whole and not in part, at a redemption price of $.05 per Warrant, at any time commencing February 10, 1997 [nine months from the effective date of the Registration Statement], provided that the average closing bid price for the Company's Common Stock, as reported by the National Association of Securities Dealers Automated Quotation System (or, if not so quoted, as reported by any other recognized quotation system on which the price of the Common Stock is quoted), shall have, for the twenty (20) consecutive trading days the ending on the fifth (5th) trading day prior to the date on which the Notice of Redemption (as defined below) is given, equaled or exceeded $12.00 per share (subject to adjustment in the event of any stock splits or other similar events). Notice of redemption (the "Notice of Redemption") shall be given not later than the thirtieth (30th) day before the date fixed for redemption, all as provided in the Warrant Agreement. On and after the date fixed for redemption, the Registered Holder shall have no rights with respect to this Warrant except to receive the $.05 per Warrant upon surrender of this Certificate. A-2 Prior to due presentment for registration of transfer hereof, the Company and the Warrant Agent may deem and treat the Registered Holder as the absolute owner hereof and of each Warrant represented hereby (notwithstanding any notations of ownership or writing hereof made by anyone other than a duly authorized officer of the Company or the Warrant Agent) for all purposes and shall not be affected by any notice to the contrary, except as provided in the Warrant Agreement. This Warrant Certificate shall be governed by and construed in accordance with the laws of the State of New York without giving effect to conflicts of laws. This Warrant Certificate is not valid unless countersigned by the Warrant Agent. IN WITNESS WHEREOF, the Company has caused this Warrant Certificate to be duly executed, manually or in facsimile by two of its officers thereunto duly authorized and a facsimile of its corporate seal to be imprinted hereon. Dated: ________________________, 1996 TECHNOLOGY SERVICE GROUP, INC. [SEAL] By: --------------------------------------------- Name: Vincent C. Bisceglia Title: President and Chief Executive Officer By: --------------------------------------------- Name: William H. Thompson COUNTERSIGNED: Title: Vice President Finance, Chief Financial Officer and Secretary LIBERTY BANK AND TRUST COMPANY OF OKLAHOMA CITY, N.A., as Warrant Agent By: ------------------------- Authorized Officer A-3 SUBSCRIPTION FORM To be executed by the Registered holder in Order to Exercise Warrant The undersigned Registered Holder hereby irrevocably elects to exercise _____ Warrants represented by this Warrant Certificate, and to purchase the securities issuable upon the exercise of such Warrants, and requests that certificates for such securities shall be issued in the name of PLEASE INSERT SOCIAL SECURITY OR OTHER IDENTIFYING NUMBER --------------------------------- --------------------------------- --------------------------------- --------------------------------- (please print or type name and address) and be delivered to --------------------------------- --------------------------------- --------------------------------- (please print or type name and address) and if such number of Warrants shall not be all the Warrants evidenced by this Warrant Certificate, that a new Warrant Certificate for the balance of such Warrants be registered in the name of, and delivered to, the Registered Holder at the address stated below. Dated: X --------------------------- ------------------------------- ------------------------------- ------------------------------- Address ------------------------------- Social Security or Taxpayer Identification Number ------------------------------- Signature Guaranteed ------------------------------- A-4 ASSIGNMENT ---------- To be Executed by the Registered Holder in Order to Assign Warrants FOR VALUE RECEIVED, _______________________ hereby sells, assigns and transfers unto PLEASE INSERT SOCIAL SECURITY OR OTHER IDENTIFYING NUMBER ------------------------------------- ------------------------------------- ------------------------------------- (please print or type name and address) __________________________ of the Warrants represented by this Warrant Certificate, and hereby irrevocably constitutes and appoints ______________________ Attorney to transfer this Warrant Certificate on the books of the Company, with full power of substitution in the premises. Dated: X ------------------------- ---------------------------- ----------------------------- Signature Guaranteed THE SIGNATURE TO THE ASSIGNMENT OR THE SUBSCRIPTION FORM MUST CORRESPOND TO THE NAME AS WRITTEN UPON THE FACE OF THIS WARRANT CERTIFICATE IN EVERY PARTICULAR, WITHOUT ALTERATION OR ENLARGEMENT OR ANY CHANGE WHATSOEVER AND MUST BE GUARANTEED BY A COMMERCIAL BANK OR TRUST COMPANY OR A MEMBER FIRM OF THE AMERICAN STOCK EXCHANGE, NEW YORK STOCK EXCHANGE, PACIFIC STOCK EXCHANGE, MIDWEST STOCK EXCHANGE OR BOSTON STOCK EXCHANGE. A-5 EX-4.3 4 WARRANT AGREEMENT TSG & BROOKEHILL Exhibit 4.3 ================================================================================ TECHNOLOGY SERVICE GROUP, INC. AND BROOKEHILL EQUITIES, INC. ------------------- REPRESENTATIVE'S WARRANT AGREEMENT Dated as of May 10, 1996 ================================================================================ REPRESENTATIVE'S WARRANT AGREEMENT, dated as of May 10,1996, by and between TECHNOLOGY SERVICE GROUP, INC., a Delaware corporation (the "Company"), and BROOKEHILL EQUITIES, INC. (the "Representative"). W I T N E S S T H: WHEREAS, the Company proposes to issue to the Representative and/or its designees (the "Holder(s)") warrants (the "Warrants") to purchase up to an aggregate 100,000 shares of Common Stock of the Company (the "Common Stock"); WHEREAS, the Representative has agreed pursuant to the underwriting agreement (the "Underwriting Agreement"), of even date herewith, between the Representative and the Company, to act as the Representative of the several underwriters in connection with the Company's proposed initial public offering of up to 1,000,000 Units at an initial public offering price of $9.00 per Unit (the "Initial Public Offering"); and WHEREAS, the Warrants to be issued pursuant to this Agreement will be issued on the Closing Date (as such term is defined in the Underwriting Agreement) by the Company to the Representative and/or its designees in consideration for, and as part of the Representative's compensation in connection with, the Representative acting as the Representative of the underwriters pursuant to the Underwriting Agreement; NOW, THEREFORE, in consideration of the premises, the payment by the Representative to the Company of ten dollars ($10.00), the agreements herein set forth and other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, the parties hereto agree as follows: 1. Grant. The Holder(s) is hereby granted the right to purchase, at ----- any time from May 10, 1997 until 5:30 p.m., New York time, on May 9, 2001, up to an aggregate 100,000 shares of Common Stock at an initial exercise price (subject to adjustment as provided in Section 8 hereof) of $10.80 per Share, ------- subject to the terms and conditions of this Agreement. 2. Warrant Certificates. The warrant certificates (the "Warrant -------------------- Certificates") representing the right to purchase Warrants delivered and to be delivered pursuant to this Agreement shall be in the form set forth in Exhibit A --------- attached hereto and made a part hereof, with such appropriate insertions, omissions, substitutions and other variations as required or permitted by this Agreement. 3. Exercise of Warrant. ------------------- 3.1 Method of Exercise. The Warrants initially are exercisable ------------------ at an initial exercise price per share of Common Stock set forth in Section 6 ------- hereof, payable by certified or official bank check in New York Clearing House funds, subject to adjustment as provided in Section 8 hereof. Upon surrender of ------- a Warrant Certificate with the annexed Form of Election to Purchase duly executed, together with payment of the Exercise Price (as defined in Section 6.2 ------- hereof) for the shares of Common Stock purchased at the Company's principal offices (presently located at 20 Mansell Court East, Suite 200, Roswell, Georgia 30076) the registered Holder of a Warrant Certificate shall be entitled to receive a certificate or certificates for the shares of Common Stock so purchased. The purchase rights represented by each Warrant Certificate are exercisable at the option of the Holder(s) thereof, in whole or in part (but not as to fractional shares of the Common Stock underlying the warrants). Warrants may be exercised to purchase all or a part of the shares of Common Stock represented by a -2- Warrant Certificate. In the case of the purchase of less than all the shares of Common Stock purchasable under any Warrant Certificate, the Company shall cancel said Warrant Certificate upon the surrender thereof and shall execute and deliver a new Warrant Certificate of like tenor for the balance of the shares of Common Stock purchasable thereunder. 3.2 Exercise by Surrender of Warrant. In addition to the method -------------------------------- of payment set forth in Section 3.1 and in lieu of any cash payment required thereunder, the Holder(s) of the Warrants shall have the right at any time and from time to time to exercise the Warrants in full or in part by surrendering the Warrant Certificate in the manner specified in Section 3.1 as payment of the aggregate Exercise Price. The number of Warrants to be surrendered in payment of the aggregate Exercise Price for the Warrants to be exercised shall be determined by multiplying the number of Warrants to be exercised by the Exercise Price per share of Common Stock, and then dividing the product thereof by an amount equal to the Market Price (as defined below) minus the Exercise Price. Solely for the purposes of this Section 3.2, Market Price shall be calculated either (i) on the date on which the form of election attached hereto is deemed to have been sent to the Company pursuant to Section 13 hereof ("Notice Date") or (ii) as the average of the Market Price for each of the five trading days immediately preceding the Notice Date, whichever of (i) or (ii) results in a greater Market Price. 3.3 Definition of Market Price. As used herein, the phrase -------------------------- "Market Price" at any date shall be deemed to be the last reported sale price, or, in case no such reported sale takes place on such day, the average of the last reported sale prices for the last three (3) trading days, in either case as officially reported by the principal securities exchange on which the Common Stock is listed or admitted to trading or by the Nasdaq Small Cap -3- Market ("Nasdaq Small Cap"), or, if the Common Stock is not listed or admitted to trading on any securities exchange or quoted by Nasdaq Small Cap, the closing bid price as furnished by the National Association of Securities Dealers, Inc. (the "NASD") through Nasdaq or a similar organization if Nasdaq is no longer reporting such information, or if the Common Stock is not quoted on Nasdaq or a similar organization, as determined in good faith by a resolution of the Board of Directors of the Company, based on the best information available to it. 4. Issuance of Certificates. Upon the exercise of the Warrants and ------------------------ payment of the Exercise Price therefor, the issuance of certificates for shares of Common Stock or other securities underlying such Warrants, shall be made forthwith (and in any event such issuance shall be made within five (5) business days thereafter), without any other charge to the Holder(s) thereof including, without limitation, any tax which may be payable in respect of the issuance thereof, and such certificates shall (subject to the provisions of Sections 5 -------- and 7 hereof) be issued in the name of, or in such names as may be directed by, the Holder(s) thereof; provided, however, that the Company shall not be required ----------------- to pay any tax which may be payable in respect of any transfer involved in the issuance and delivery of any such certificates in a name other than that of the Holder requesting such a transfer and the Company shall not be required to issue or deliver such certificates unless or until the person or persons requesting such a transfer shall have paid to the Company the amount of such tax or shall have established to the satisfaction of the Company that such tax has been paid. The Warrant Certificates and the certificates representing the shares of Common Stock, and the other securities for which such Warrant Certificates are exercisable, shall be executed on behalf of the Company by the manual or facsimile signature of the then -4- Chairman or Vice Chairman of the Board of Directors or the Chief Executive Officer, President or Vice President of the Company, under its corporate seal, and attested to by the manual or facsimile signature of the then Secretary or Assistant Secretary of the Company. Warrant Certificates shall be dated the date of execution by the Company upon initial issuance, division, exchange, substitution or transfer. 5. Restriction on Transfer of Warrants. Each Holder of a Warrant ----------------------------------- Certificate, by his, her or its acceptance thereof, covenants and agrees that the Warrants are being acquired as an investment and not with a view to the distribution thereof and that the Warrants may not be sold, transferred, assigned, pledged or hypothecated for a period of one (1) year from the date hereof, except to officers of the Representative. 6. Exercise Price. -------------- 6.1 Initial and Adjusted Exercise Price. Except as otherwise ----------------------------------- provided in Section 8 hereof, the initial exercise price of each Warrant shall ------- be $10.80 per share of Common Stock. The adjusted exercise price shall be the price which shall result from time to time from any and all adjustments of the initial exercise price in accordance with the provisions of Section 8 hereof. ------- 6.2 Exercise Price. The term "Exercise Price" herein shall -------------- mean the initial exercise price or the adjusted exercise price, depending upon the context. 7. Registration Rights. ------------------- 7.1 Registration Under the Securities Act of 1933. (a) The --------------------------------------------- Warrants, the shares of Common Stock or other securities issuable upon exercise of the Warrants have not been registered under the Securities Act of 1933, as amended (the "Act"). The Warrants, -5- and, upon exercise in part or in whole of the Warrants, certificates representing the shares of Common Stock or other securities underlying the Warrants, (all of the foregoing hereinafter collectively referred to as the "Warrant Securities") shall bear a legend substantially similar to the following: The securities represented by this certificate have not been registered under the Securities Act of 1933, as amended (the "Act"), and may not be offered or sold except pursuant to (i) an effective registration statement under the Act, (ii) to the extent applicable, Rule 144 under the Act (or any similar rule under the Act relating to the disposition of securities), or (iii) an opinion of counsel, if such opinion shall be reasonably satisfactory to counsel to the issuer, that an exemption from registration under the Act is available. 7.2 Piggyback Registration. If, at any time commencing after ---------------------- the effective date of the Registration Statement and expiring on May 9, 2003, the Company proposes to register any of its securities under the Act (other than in connection with a merger or pursuant to Form S-8, S-4 or comparable registration statement) it will give written notice by registered mail, at least thirty (30) business days prior to the filing of each such registration statement, to the Representative and to all Holder(s) of the Warrants and/or the Warrant Securities of its intention to do so. If the Representative or other Holder(s) of the Warrants and/or the Warrant Securities notify the Company within twenty (20) business days after receipt of any such notice of its or their desire to include any of such securities in such proposed registration statement, the Company shall afford the Representative and such Holder(s) of the Warrants and/or Warrant Securities the opportunity to have any such Warrants and/or Warrant Securities registered under such registration statement. Notwithstanding the provisions of this Section 7.2, the Company shall -------- have the right at any time after it shall have given written notice pursuant to this Section 7.2 ------- -6- (irrespective of whether a written request for inclusion of any securities shall have been made) to effect not to file any such proposed registration statement, or to withdraw the same after the filing but prior to the effective date thereof. 7.3 Demand Registration. ------------------- (a) At any time commencing after the effective date of the Registration Statement and expiring May 9, 2001, the Holder(s) of the Warrants and/or any Warrant Securities representing a "Majority" (calculated in accordance with Section 7.4(m) hereof) of such securities shall have the right ------- (which right is in addition to the registration rights under Section 7.2 ------- hereof), exercisable by written notice to the Company, to have the Company prepare and file with the Securities and Exchange Commission (the "Commission"), on one occasion, a registration statement and such other documents, including a prospectus, as may be necessary in the opinion of both counsel for the Company and counsel for the Representative and Holder(s), in order to comply with the provisions of the Act, so as to permit a public offering and sale of their respective Warrants and Warrant Securities for nine (9) consecutive months by such Holder(s) and any other Holder(s) of the Warrants and/or Warrant Securities who notify the Company within ten (10) days after receiving notice from the Company of such request. (b) The Company covenants and agrees to give written notice of any registration request under this Section 7.3 (whether such request is made ------- pursuant to Section 7.3(a) or Section 7.3(c) hereof) by any Holder(s) to all ------- ------- other registered Holder(s) of the Warrants and the Warrant Securities within ten (10) days from the date of the receipt of any such registration request. -7- (c) In addition to the registration rights under Section 7.2 and ------- Section 7.3(a), at any time commencing after the effective date of the - ------- Registration Statement and expiring May 9, 2001, any Holder(s) of Warrants and/or Warrant Securities shall have the right, exercisable by written request to the Company, to have the Company prepare and file with the Commission, on one occasion, a registration statement so as to permit a public offering and sale for nine (9) consecutive months by any such Holder(s) of its or their Warrants and/or Warrant Securities; provided, however, that the provisions of Section ----------------- ------- 7.4(b) hereof shall not apply to any such registration request and all costs incident thereto shall be at the expense of the Holder(s) making such request. (d) Notwithstanding anything to the contrary contained herein, if the Company shall not have filed a registration statement for the Warrants and the Warrant Securities within the time period specified in Section 7.4(a) hereof ------- pursuant to the written notice specified in Section 7.3(a) hereof of the ------- Holder(s) of a Majority of the Warrants and/or the Warrant Securities, the Company, at its option (and with written notice of the election to such effect of all Holder(s) of the Warrants and/or the Warrant Securities), may repurchase (i) any and all Securities at the higher of the Market Price per share of Common Stock determined as of (x) the date of the notice sent pursuant to Section ------- 7.3(a) hereof or (y) the expiration of the period specified in Section 7.4(a) ------- hereof and (ii) the other securities, if any, issuable upon exercise of the Warrants at a price agreed upon by the Company and a Majority of the Holder(s) of the Warrants and all such other securities. If the Company elects the repurchase option, the repurchase shall be in immediately available funds and shall close within two (2) days after the later of (i) the expiration of the period specified in Section 7.4(a) hereof or (ii) the delivery of the written ------- notice of election specified in this Section 7.3(d). ------- -8- 7.4 Covenants of the Company With Respect to Registration. In ----------------------------------------------------- connection with any registration under Section 7.2 or Section 7.3 hereof, the ------- ------- Company covenants and agrees as follows: (a) The Company shall use its best efforts to file a registration statement within forty-five (45) days of receipt of any demand there or, shall use its best efforts to have any registration statements declared effective at the earliest possible time, and shall furnish each Holder(s) desiring to sell Warrants and/or Warrant Securities such number of prospectuses as shall reasonably be requested. (b) The Company shall pay all costs (excluding fees and expenses of Holder(s)' counsel and any underwriting or selling commissions or other charges of any broker-dealer acting on behalf of Holder(s)), fees and expenses in connection with all registration statements filed pursuant to Sections 7.2 and 7.3(a) hereof including, without limitation, the Company's - -------- legal and accounting fees, printing expenses, blue sky fees and expenses. If the Company shall fail to comply with the provisions of Section 7.4(a), the Company ------- shall, in addition to any other equitable or other relief available to the Holder(s), be liable for any and all incidental or special damages sustained by the Holder(s) requesting registration of its or their Warrants and/or Warrant Securities. (c) The Company will take all necessary action which may be required in qualifying or registering the Warrants and the Warrant Securities included in a registration statement for offering and sale under the securities or blue sky laws of such states as reasonably are requested by the Holder(s), provided that the Company shall not be obligated to qualify as a foreign corporation to do business under the laws of any such jurisdiction. -9- (d) The Company shall indemnity the Holder(s) of the Warrants and the Warrant Securities to be sold pursuant to any registration statement and each person, if any, who controls such Holder(s) within the meaning of Section 15 of the Act or Section 20(a) of the Securities Exchange Act of 1934, as amended ("Exchange Act"), against all loss, claim, damage, expense or liability (including all expenses reasonably incurred in investigating, preparing or defending against any claim whatsoever) to which any of them may become subject under the Act, the Exchange Act or otherwise arising from such registration statement but only to the same extent and with the same effect as the provisions contained in Section 7 of the Underwriting Agreement pursuant to which the Company has agreed to indemnity the Underwriters. (e) The Holder(s) of the Warrants and Warrant Securities to be sold pursuant to a registration statement, and their successors and assigns, shall severally, and not jointly, indemnity the Company, its officers and directors and each person, if any, who controls the Company within the meaning of Section 15 of the Act or Section 20(a) of the Exchange Act against all loss, claim, damage or expense or liability (including all expenses reasonably incurred in investigating, preparing or defending against any claim whatsoever) to which any of them may become subject under the Act, the Exchange Act or otherwise arising from information furnished by or on behalf of such Holder(s), or their successors or assigns, for specific inclusion in such registration statement to the same extent and with the same effect as the provisions contained in Section 7 of the Underwriting Agreement pursuant to which the Underwriters have agreed to indemnity the Company. -10- (f) Nothing contained in this Agreement shall be construed as requiring the Holder(s) to exercise its or their Warrants prior to the initial filing of any registration statement or the effectiveness thereof. (g) The Company shall not permit the inclusion of any securities other than the Warrants and the Warrant Securities to be included in any registration statement filed pursuant to Section 7.3 hereof, or permit any other registration ------- statement to be or remain effective during the effectiveness of a registration statement filed pursuant to Section 7.3 hereof, without the prior written ------- consent of the Holder(s) of the Warrants and the Warrant Securities representing a Majority of such securities. (h) The Company shall furnish to each Holder participating in the offering and to each underwriter, if any, a signed counterpart, addressed to such Holder(s) and underwriter(s), of (i) an opinion of counsel to the Company, dated the effective date of such registration statement (and, if such registration includes an underwritten public offering, an opinion dated the date of the closing under the underwriting agreement), and (ii) a "cold comfort" letter dated the effective date of such registration statement (and, if such registration includes an underwritten public offering, a letter dated the date of the closing under the underwriting agreement) signed by the independent public accountants who have issued a report on the Company's financial statements included in such registration statement, in each case covering substantially the same matters with respect to such registration statement (and the prospectus included therein) and, in the case of such accountants' letter, with respect to events subsequent to the date of such financial statements, as are customarily covered in opinions of issuer's counsel and in accountants' letters delivered to underwriters in underwritten public offerings of securities. -11- (i) The Company shall as soon as practicable after the effective date of the registration statement, and in any event within fifteen (15) months thereafter, make "generally available to its security holders" (within the meaning of Rule 158 under the Act) an earnings statement (which need not be audited) complying with Section 11 (a) of the Act and covering a period of at least twelve (12) consecutive months beginning after the effective date of the registration statement. (j) The Company shall deliver promptly to each Holder participating in the offering requesting the correspondence and memoranda described below and the managing underwriters copies of all correspondence between the Commission and the Company, its counsel or auditors and all memoranda relating to discussions with the Commission with respect to the registration statement and permit each Holder and underwriter to do such investigation, upon reasonable advance notice, with respect to information contained in or omitted from the registration statement as it deems reasonably necessary to comply with applicable securities laws or the rules of the NASD. Such investigation shall include access to books, records and properties and opportunities to discuss the business of the Company with its officers and independent auditors, all to such reasonable extent and at such reasonable times and as often as any such Holder(s) shall reasonably request. (k) The Company shall enter into an underwriting agreement with the managing underwriters selected for such underwriting by Holder(s) of a Majority of the Warrants and the Warrant Securities requested to be included in such underwriting. Such agreement shall be satisfactory in form and substance to the Company, a Majority of such Holder(s) and such managing underwriters, and shall contain such representations, warranties and covenants by the Company and such other terms as are customarily contained in -12- agreements of that type used by the managing underwriters. The Holder(s) shall be parties to any underwriting agreement relating to an underwritten sale of their Warrants and/or Warrant Securities and may, at their option, require that any or all the representations, warranties and covenants of the Company to or for the benefit of such underwriters shall also be made to and for the benefit of such Holder(s). Such Holder(s) shall not be required to make any representations or warranties to or agreements with the Company or the underwriters except as they may relate to such Holder(s) and their intended methods of distribution. (l) In addition to the Warrants and the Warrant Securities, upon the written request therefor by Holder(s) of the Warrants and the Warrant Securities representing a Majority of such securities, the Company shall include in the registration statement any other securities of the Company held by such Holder(s) as of the date of filing of such registration statement, including, without limitation, restricted shares of Common Stock, options, warrants or any other securities convertible into shares of Common Stock. (m) For purposes of this Agreement, the term "Majority" in reference to the Holder(s) of Warrants or Warrant Securities shall mean in excess of fifty percent (50%) of the then outstanding Warrants or Warrant Securities (assuming the exercise of all the Warrants) that (i) are not held by the Company, an affiliate, officer, creditor, employee or agent thereof or any of their respective affiliates, members of their family or persons acting as nominees or in conjunction therewith or (ii) have not been resold to the public pursuant to a registration statement filed with the Commission under the Act. -13- 8. Adjustments to Exercise Price and Number of Shares. -------------------------------------------------- 8.1 Subdivision and Combination. In case the Company shall at --------------------------- any time subdivide or combine the outstanding shares of Common Stock, the Exercise Price for the shares of Common Stock shall forthwith be proportionately decreased in the case of subdivision or increased in the case of combination. The provisions of this Section 8.1 shall be applicable to successive ------- subdivisions and combinations. 8.2 Stock Dividends and Distributions. In case the Company --------------------------------- shall pay a dividend in, or make a contribution of, shares of Common Stock or of any capital stock of the Company convertible into Common Stock, the Exercise Price for the shares of Common Stock shall forthwith be proportionately decreased. An adjustment made pursuant to this Section 8.2 shall be made as of ------- the record date for the subject stock dividend or distribution. 8.3 Adjustment in Number of Shares. Upon each adjustment of the ------------------------------ Exercise Price for the shares of Common Stock pursuant to the provisions of Section 8.1 or Section 8.2 hereof, the number of Warrant Securities issuable - ------- ------- upon the exercise of the Warrants at the adjusted exercise price of each Warrant shall be adjusted to the nearest full amount by multiplying a number equal to the Exercise Price in effect immediately prior to such adjustment by the number of Warrant Securities issuable upon exercise of the Warrants immediately prior to such adjustment and dividing the product so obtained by the adjusted Exercise Price. 8.4 Definition of Common Stock. For the purpose of this -------------------------- Agreement, the term "Common Stock" shall mean (a) the class of stock designated as Common Stock in the charter of the Company, as in effect on the date hereof, or (b) any other class of stock resulting from any change or reclassification of such Common Stock consisting -14- solely of a change or changes in par value, or from par value to no par value, or from no par value to par value. 8.5 Merger or Consolidation. In case of any consolidation of ----------------------- the Company with, or merger of the Company with, or merger of the Company into, another corporation other than a consolidation or merger which does not result in any reclassification or change of the outstanding shares of Common Stock or other securities issuable upon exercise of the Warrants, or in the case of any sale or conveyance to another person or entity of the property of the Company as an entirety or substantially as an entirety, then, as a condition of such consolidation, merger, sale or conveyance, the Company, or such successor or purchasing entity, as the case may be, shall execute and deliver to the Holder(s) a supplemental warrant agreement providing that the Holder of each Warrant then outstanding or to be outstanding shall have the right thereafter (until the expiration of such Warrant) to receive, upon exercise of such Warrant, the kind and amount of shares of stock and other securities and property receivable upon such consolidation or merger by a holder of the number of shares of Common Stock of the Company for which such Warrant might have been exercised immediately prior to such consolidation, merger sale or conveyance. Such supplemental warrant agreement shall provide for adjustments which shall be identical to the adjustments provided in this Section 8. The above provision of ------- this Section 8.5 shall similarly apply to successive consolidations, mergers, ------- sales or conveyances. 8.6 No Adjustment of Exercise Price in Certain Cases. No ------------------------------------------------ adjustment of the Exercise Price shall be made if the amount of said adjustment shall be less than two cents ($.02) per share of Common Stock; provided, -------- however, that in such case any adjustment that would otherwise be required then - ------- to be made shall be carried forward and -15- shall be made at the time of and together with the next subsequent adjustment which, together with any adjustment so carried forward, shall amount to at least two cents ($.02) per share of Common Stock. 9. Exchange and Placement of Warrant Certificates. Each Warrant ---------------------------------------------- Certificate is exchangeable without expense, upon the surrender thereof by the registered Holder(s) at the principal executive office of the Company, for a new Warrant Certificate of like tenor and date representing in the aggregate the right to purchase the same number of shares of Common Stock in such denominations as shall be designated by the Holder(s) thereof at the time of such surrender. Upon receipt by the Company of evidence reasonably satisfactory to it of the loss, theft, destruction or mutilation of any Warrant Certificate, and, in case of loss, theft or destruction, of indemnity or security reasonably satisfactory to it, and reimbursement to the Company of all reasonable expenses incidental thereto, and upon surrender and cancellation of the Warrants, if mutilated, the Company will make and deliver a new Warrant Certificate of like tenor, in lieu thereof. 10. Elimination of Fractional Interests. The Company shall not be ----------------------------------- required to issue certificates representing fractions of shares of Common Stock, or other securities underlying the Warrants upon the exercise of the Warrants, nor shall it be required to issue scrip or pay cash in lieu of fractional interests, it being the intent of the parties that all fractional interests shall be eliminated by rounding any fraction up to the nearest whole number of shares of Common Stock, or other securities underlying the Warrants. 11. Reservation and Listing of Securities. The Company shall at all ------------------------------------- times reserve and keep available out of its authorized shares of Common Stock, solely for the -16- purpose of issuance upon the exercise of the Warrants, such number of shares of Common Stock as shall be issuable upon the exercise thereof. The Company shall at all times reserve and keep available, solely for the purpose of issuance upon the exercise of the Warrants and the Redeemable Warrants, any other securities underlying the Warrants and the Redeemable Warrants. The Company covenants and agrees that, upon exercise of the Warrants and payment of the Exercise Price for the shares of Common Stock or other securities underlying the Warrants, all shares of Common Stock and other securities issuable upon such exercise shall be duly and validly issued, fully paid, non-assessable, not subject to the preemptive or similar rights of any shareholder and free from all taxes, liens and charges with respect to the issuance thereof. As long as the Warrants shall be outstanding, the Company shall use its best efforts to cause all shares of Common Stock issuable upon the exercise of the Warrants to be listed (subject to official notice of issuance) on all securities exchanges on which the Common Stock issued in the Initial Public Offering may then be listed and/or quoted on the Nasdaq Stock Market. 12. Notices to Warrant Holder(s). Nothing contained in this ---------------------------- Agreement shall be construed as conferring upon the Holder(s) the right to vote or to consent or to receive notice as a shareholder in respect of any meetings of shareholders for the election of Directors or any other matter, or as having any rights whatsoever as a shareholder of the Company. If, however, at any time prior to the expiration of the Warrants and their exercise, any of the following events shall occur: (a) the Company shall take a record of the holders of its shares of Common Stock for the purpose of entitling them to receive a dividend or distribution payable otherwise than in cash, or a cash dividend or distribution payable otherwise than out -17- of current or retained earnings, as indicated by the accounting treatment of such dividend or distribution on the books of the Company; or (b) the Company shall offer to all the holders of its Common Stock any additional shares of capital stock of the Company or securities convertible into or exchangeable for shares of capital stock of the Company, or any option, right or warrant to subscribe therefor; or (c) a dissolution, liquidation or winding up of the Company (other than in connection with a consolidation or merger) or a sale of all or substantially all of its property, assets and business as an entirety shall be proposed; then, in any one or more of said events, the Company shall give written notice of such event to the Holder(s) at least fifteen (15) days prior to the date fixed as a record date or the date of closing the transfer books for the determination of the shareholders entitled to receive such dividend, distribution, additional shares, convertible or exchangeable securities, options, rights, warrants or subscription rights, or entitled to vote on such proposed dissolution, liquidation, winding up or sale. Such notice shall specify such record date or the date of closing the transfer books, as the case may be. Failure to give such notice or any defect therein shall not affect the validity of any action taken in connection with the declaration or payment of any such dividend, or the issuance of any additional shares or any convertible or exchangeable securities, options, rights, warrants or subscription rights, or any proposed dissolution, liquidation, winding up or sale. -18- 13. Notices. -------- All notices, requests, consents and other communications hereunder shall be in writing and shall be deemed to have been duly made when delivered, or mailed by registered or certified mail, return receipt requested: (a) If to the registered Holder(s) of the Warrants, to the address of such Holder(s) as shown on the books of the Company; or (b) If to the Company, to the address set forth in Section 3.1 hereof or to such other address as the Company may designate by - ------- notice to the Holder(s). 14. Supplements and Amendments. The Company and the Representative -------------------------- may from time to time supplement or amend this Agreement without the approval of any Holder of a Warrant Certificate (other than the Representative) in order to cure any ambiguity, to correct or supplement any provision contained herein which may be defective or inconsistent with any provisions herein, or to make any other provisions in regard to matters or questions arising hereunder which the Company and the Representative may deem necessary or desirable and which the Company and the Representative deem shall not adversely affect the interests of the Holder(s) of Warrant Certificates. 15. Successors. All the covenants and provisions of this Agreement ---------- shall be binding upon and inure to the benefit of the Company, the Holder(s) and their respective successors, assigns and representatives. 16. Termination. This Agreement shall terminate at the close of ----------- business on May 9, 2003. Notwithstanding the foregoing, the indemnification provisions of Section 7 shall survive such termination until the close of ------- business on May 9, 2009. -19- 17. Governing Law: Submission to Jurisdiction. This Agreement and ----------------------------------------- each Warrant Certificate issued hereunder shall be deemed to be a contract made under the laws of the State of New York and for all purposes shall be construed in accordance with the laws of the State of New York without giving effect to the rules of such State governing the conflicts of laws. The Company, the Representative and the Holder(s) hereby agree that any action, proceeding or claim arising out of, or relating in any way to, this Agreement shall be brought and enforced in the courts of the State of New York or of the United States of America for the Southern District of New York, and irrevocably submit to such jurisdiction, which jurisdiction shall be exclusive. The Company, the Representative and the Holder(s) hereby irrevocably waive any objection to such exclusive jurisdiction or inconvenient forum. Any process or summons to be served upon any of the Company, the Representative and the Holder(s) (at the option of the party bringing such action, proceeding or claim) may be served by transmitting a copy thereof, by registered or certified mail, return receipt requested, postage prepaid, addressed to the address set forth in Section 14 hereof. Such mailing shall be deemed personal service and shall be - ------- legal and binding upon the party so served in any action, proceeding or claim. The Company, the Representative and the Holder(s) agree that the prevailing party(ies) in any such action or proceeding shall be entitled to recover from the other party(ies) all of its/their reasonable legal costs and expenses relating to such action or proceeding and/or incurred in connection with the preparation therefor. 18. Entire Agreement Modification. This Agreement (including the ----------------------------- Underwriting Agreement to the extent portions thereof are referred to herein) contain the entire understanding between the parties hereto with respect to the subject matter hereof and -20- may not be modified or amended except by a writing duly signed by the party against whom enforcement of the modification or amendment is sought. 19. Severability. If any provision of this Agreement shall be held ------------ to be invalid or unenforceable, such invalidity or unenforceability shall not affect any other provision of this Agreement. 20. Captions. The caption headings of the Sections of this Agreement -------- are for convenience of reference only and are not intended to be, nor should they be construed as, a part of this Agreement and shall be given no substantive effect. 21. Benefits of this Agreement. Nothing in this Agreement shall be -------------------------- construed to give to any person or entity other than the Company and the Representative and any other registered Holder(s) of the Warrant Certificates or Warrant Securities any legal or equitable right, remedy or claim under this Agreement. This Agreement shall be for the sole and exclusive benefit of the Company and the Representative and any other Holder(s) of the Warrant Certificates or Warrant Securities. -21- 22. Counterparts. This Agreement may be executed in any number of ------------ counterparts and each of such counterparts shall for all purposes be deemed to be an original, and such counterparts shall together constitute but one and the same instrument. IN WITNESS OF, the parties hereto have caused this Agreement to be duly executed, as of the day and year first above written. [SEAL] TECHNOLOGY SERVICE GROUP, INC. By: /s/ Vincent C. Bisceglia ---------------------------- Name: Vincent C. Bisceglia Title: President and Chief Executive Officer Attest: /s/ William H. Thompson - ----------------------------- William H. Thompson, Secretary BROOKEHILL EQUITIES, INC. By: /s/ Sarabeth Wizer ---------------------------- Name: Sarabeth Wizer Title: President -22- EXHIBIT A (FORM OF WARRANT CERTIFICATE) THE WARRANTS REPRESENTED BY TIES CERTIFICATE AND THE OTHER SECURITIES ISSUABLE UPON THE EXERCISE HEREOF HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED ("THE ACT"), AND MAY NOT BE OFFERED OR SOLD EXCEPT PURSUANT TO (i) AN EFFECTIVE REGISTRATION STATEMENT UNDER THE ACT, (ii) TO THE EXTENT APPLICABLE, RULE 144 UNDER THE ACT (OR ANY SIMILAR RULE UNDER THE ACT RELATING TO THE DISPOSITION OF SECURITIES), OR (iii) AN OPINION OF COUNSEL, IF SUCH OPINION SHALL BE REASONABLY SATISFACTORY TO COUNSEL TO THE ISSUER, THAT AN EXEMPTION FROM REGISTRATION UNDER THE ACT IS AVAILABLE. THE TRANSFER OR EXCHANGE OF THE WARRANTS REPRESENTED BY THIS CERTIFICATE IS RESTRICTED IN ACCORDANCE WITH THE WARRANT AGREEMENT REFERRED TO HEREIN. EXERCISABLE ON OR BEFORE 5:30 P.M., NEW YORK TIME, MAY 9, 2001 No. W-__ This Warrant Certificate certifies that ____________ or registered assigns, is the registered holder of Warrants to purchase initially, at any time from May 10, 1997 until 5:30 p.m. New York time on May 9, 2001 ("Expiration Date"), up to ________ fully-paid and non-assessable shares of common stock, $.01 par value per share (the "Common Stock") of Technology Service Group, Inc., a Delaware corporation (the "Company"), at the initial exercise price, subject to adjustment in certain events (the "Exercise Price"), of $10.80 per share of Common Stock, upon surrender of this Warrant Certificate and payment of the Exercise Price at an office or agency of the Company, or by surrender of this Warrant Certificate in lieu of cash payment, but subject to the conditions set forth herein and in the warrant agreement dated as of May 10, 1996, by and between the Company and Brookehill Equities, Inc. (the "Warrant Agreement"). Payment of the Exercise Price shall be made by certified or official bank check in New York Clearing House Funds payable to the order of the Company. No Warrant may be exercised after 5:30 p.m., New York time, on the Expiration Date, at which time all Warrants evidenced hereby, unless exercised prior thereto, hereby shall thereafter be void. The Warrants evidenced by this Warrant Certificate are part of a duly authorized issue of Warrants issued pursuant to the Warrant Agreement, which Warrant Agreement is hereby incorporated by reference in and made a part of this instrument and is hereby referred to for a description of the rights, limitation of rights, obligations, duties and immunities thereunder of the Company and the holders (the words "holders" or "holder" meaning the registered holders or registered holder) of the Warrants. The Warrant Agreement provides that upon the occurrence of certain events the Exercise Price and the type and/or number of the Company's securities issuable thereupon shall, subject to certain conditions, be adjusted. In such event, the Company will, at the request of the holder, issue a new Warrant Certificate evidencing the adjustment in the Exercise Price and the number and/or type of securities issuable upon the exercise of the Warrants; provided, --------- however, that the failure of the Company to issue such new Warrant Certificates - ------- shall not in any way change, alter, or otherwise impair, the rights of the holder as set forth in the Warrant Agreement. Upon due presentment for registration of transfer of this Warrant Certificate at an office or agency of the Company, a new Warrant Certificate or Warrant Certificates of like tenor and evidencing in the aggregate the right to purchase a like number of shares of Common Stock shall be issued to the transferee(s) in exchange for this Warrant Certificate, subject to the limitations provided herein and in the Warrant Agreement, without any charge except for any tax or other governmental charge imposed in connection with such transfer. Upon the purchase of less than all of the shares of Common Stock purchasable pursuant to this Warrant Certificate, the Company shall forthwith issue to the holder hereof a new Warrant Certificate representing the right to purchase the remaining Securities. The Company may deem and treat the registered holder(s) hereof as the absolute owner(s) of this Warrant Certificate (notwithstanding any notation of ownership or other writing hereon made by anyone), for the purpose of any exercise hereof, and of any distribution to the holder(s) hereof, and for all other purposes, and the Company shall not be affected by any notice to the contrary. A-2 All terms used in this Warrant Certificate which are defined in the Warrant Agreement shall have the meanings assigned to them in the Warrant Agreement. IN WITNESS WHEREOF, the Company has caused this Warrant Certificate to be duly executed under its corporate seal. Dated as of ________________________, 1996 TECHNOLOGY SERVICE GROUP, INC. [SEAL] By: ---------------------------- Name: Vincent C. Bisceglia Title: President and Chief Executive Officer Attest: - -------------------------------- William H. Thompson, Secretary A-3 [FORM OF ELECTION TO PURCHASE PURSUANT TO SECTION 3.1] The undersigned hereby irrevocably elects to exercise the right, represented by this Warrant Certificate, to purchase _________ shares of Common Stock: ____________ and herewith tenders in payment for such shares of Common Stock a certified or official bank check payable in New York Clearing House Funds to the order of Technology Service Group, Inc. in the amount of $________, all in accordance with the terms hereof. The undersigned requests that certificates for such securities be registered in the name of - -------------------------------------------------------------------------------- whose address is - -------------------------------------------------------------------------------- and that such certificates be delivered to - -------------------------------------------------------------------------------- whose address is - -------------------------------------------------------------------------------- Dated: Signature --------------------------------------- (Signature must conform in all respects to name of holder as specified on the face of the Warrant Certificate.) ------------------------------------------------------- (Insert Social Security or Other Identifying Number of Holder(s)) A-4 [FORM OF ELECTION TO PURCHASE PURSUANT TO SECTION 3.2] The undersigned hereby irrevocably elects to exercise the right, represented by his Warrant Certificate, to purchase ______ shares of Common Stock. CHECK APPROPRIATE BOX in accordance with the terms of Section 3.2 of the Representative's Warrant Agreement dated as of May 10, 1996 between Technology Service Group, Inc. and Brookehill Equities, Inc. The undersigned requests that certificates for such shares of Common Stock be registered in the name of _________ whose address is _____________ and that such Certificates be delivered to ____________ whose address is ___________. Dated: Signature --------------------------------------- (Signature must conform in all respects to name of holder as specified on the face of the Warrant Certificate.) ------------------------------------------------------- (Insert Social Security or Other Identifying Number of Holder) A-5 [FORM OF ASSIGNMENT] (To be executed by the registered holder if such holder desires to transfer the Warrant Certificate.) FOR VALUE RECEIVED _______________here sells, assigns and transfers unto --------------------------------------------------------------------- (Please print name and address of transferee) this Warrant Certificate, together with all right, title and interest therein, and does hereby irrevocably constitute and appoint _____________________ Attorney, to transfer the within Warrant Certificate on the books of the within- named Company, with full power of substitution. Dated: Signature ------------------------------------ (Signature must conform in all respects to name of holder as specified on the face of the Warrant Certificate.) --------------------------------------------------------------------- (Insert Social Security or Other Identifying Number of Holder(s)) A-6 EX-10.12 5 SECURITY AGREEMENT ELCOTEL & NATIONSBANK Exhibit 10.12 NationsBank Security Agreement NationsBank of Florida, N.A. Date October 2, 1997 Between and Bank (Secured Party) Debtor/Pledgor: NationsBank N.A. Elcotel Direct, Inc. Banking Center: 6428 Parkland Drive 1605 Main Street, Suite 101 Sarasota, Florida 34243 Sarasota, Florida 34236 (Name and address including county) (address including county) Elcotel Direct, Inc. 6428 Parkland Drive Sarasota, Florida 34243 Debtor/Pledgor is: [_] Individual [X] Corporation [_] Partnership [_] Other Address is Debtor's: [_] Residence [X] Place of Business [_] Chief Executive Office if more than one place of business. (This Agreement contains some provisions preceded by boxes. Mark only those boxes beside provisions which will be applicable to this transaction. A box which Is not marked means that the provision beside It Is not applicable to this transaction.) A. Security Interest. For good and valuable consideration, the receipt and adequacy of which are hereby acknowledged and subject to the applicable terms of this agreement, Debtor/Pledgor (hereinafter referred to as Debtor) assigns and grants to Bank (also known as Secured Party), a security interest and lien in the Collateral to secure the payment and the performance of the Obligation. B. Collateral. The security interest is granted in the following ("Collateral) (Check as applicable) 1. [X] Accounts. Any and all accounts, accounts receivable, receivables, contract rights, book debts, checks, notes, drafts, instruments, chattel paper, acceptances, choses in action, any and all amounts due to Debtor from a factor or other forms of obligations and receivables now existing or hereafter arising out of the business of the Debtor, as well as any and all returned, refused and repossessed goods, and the cash or non-cash proceeds resulting therefrom. [X] Inventory. Any and all of Debtor's inventory, including without limitation any and all goods held for sale or lease or being processed for sale or lease in Debtor's business as now or hereafter conducted, whether now owned or hereinafter acquired, including all materials, goods and work in process, finished goods, and other tangible property held for sale or lease or furnished or to be furnished under contracts of service or used or consumed in Debtor's business, along with all documents (including documents of title) covering inventory, all cash and non-cash proceeds from the sale of inventory including proceeds from insurance and specifically including but not limited to (attach Schedule if necessary): [X] Equipment. Any and all of Debtor's furnishings, fixtures and equipment, wherever located, whether now owned or hereafter acquired, together with all increases, parts, fittings, accessories, equipment, and special tools now or hereafter affixed to any part thereof or used in connection therewith, and all products, additions, substitutions, accessions, and all cash and non-cash proceeds, including proceeds from insurance thereof and thereto, including without limitation the following (attach Schedule if necessary): [X] Fixtures. All of Debtor's fixtures now existing or hereafter acquired, together with all substitutes and replacements therefor, all accessions and attachments thereto, and all tools, parts and equipment now or hereafter added to or used in connection therewith. These goods are or will become fixtures on the following described real estate in _______County, ________(State), owned by: __________[name of owner] more particularly described as follows:___________________ [insert legal description (or attach Exhibit) of property, not street address], including without limitation the following (attach schedule if necessary): - ------------------------- [X] Instruments and/or Investment Documents. The following described instruments and documents including, without limitation, negotiable instruments, promissory notes, and documents of title owned or to be owned by Debtor, certificates of deposit, and all liens, security agreements, leases and other contracts securing or otherwise relating to any of said instruments or documents, and all cash and non-cash proceeds and products thereof and such additional property receivable or distributed in respect of or in exchange for all or any of such instruments or documents (attach Schedule if necessary): _________________________________ [X] General Intangibles. All patents, trademarks, service marks, trade secrets, copyrights and exclusive licenses (whether issued or pending) and all documents, applications materials and other matters related thereto, all inventions, and all manufacturing, engineering and production plans, drawings, specifications, processes and systems, all trade names, computer programs, data bases, systems and software (including source and object codes), goodwill, chases in action and all other general intangibles of Debtor whether now owned or hereafter acquired and all cash and non-cash proceeds thereof, including without limitation the following described intangible personal property, and all chattel paper, documents and instruments relating to such intangibles, including without limitation (attach schedule if necessary): ____________________________ [_] Timber. All of Debtor's uncut timber growing or to be grown on the following described property, and all cash and non-cash proceeds including proceeds from insurance, and all products thereof (complete legal description of real property required) (attach Exhibit if necessary): [_] Other" See Exhibit "A" attached hereto and made a part hereof. (hereinafter referred to as "Goods" and all proceeds thereon. 2. All substitutes and replacements for, accessions, attachments and other additions to, tools, parts and equipment used in connection with, and proceeds and products of, the above Collateral (including all income and benefits resulting from any of the above, such as dividends payable or distributable in cash, property or stock; interest, premium and principal payments; redemption proceeds and subscription rights; all certificates of title, manufacturer's statements of origin, other documents, accounts and chattel paper arising from or related to the above Collateral, and returned or repossessed Collateral, any of which, if received by Debtor, upon request shall be delivered immediately to Bank. 3. The balance of every deposit account of Debtor under control of Bank and any other claim of Debtor against Bank, now or hereafter existing, liquidated or unliquidated, and all money, instruments, securities, documents, chattel paper, credits, claims, demands, income, and any other property, rights and interests of Debtor which at any time shall come into the possession or custody or under the control of Bank or any of its agents, affiliates or correspondents, for any purpose, and the proceeds of any thereof. Bank shall be deemed to have possession of any of the Collateral in transit to or set apart for it or any of its agents, affiliates or correspondents. C. Obligation. 1. Description of Obligation. The following obligations ("Obligation") are secured by this agreement: (a) All debts, obligations, liabilities and agreements of Debtor to Bank, now or hereafter existing, arising directly or indirectly between Debtor and Bank whether absolute or contingent, joint or several, secured or unsecured, due or not due, contractual or tortious, liquidated or unliquidated, arising by operation of law or otherwise, and all renewals, extensions or rearrangement of any of the above, (b) Bank's participation in any loan or other debt of Debtor to another person; (c) All costs incurred by Bank to obtain, preserve, perfect and enforce this agreement and maintain, preserve, collect and enforce the Collateral; (d) Interest on the above amounts as agreed between Bank and Debtor; (e) All debt, obligations and liabilities of Elcotel, Inc., a Delaware corporation (if the proceeding space is completed, such party, together with the Debtor named above, is hereinafter referred to collectively as "Debtor") to Bank of the kinds described in this Item C, now existing or hereafter arising; (f) All expenses of the Bank, including fees and expenses of the Bank's counsel, incident to the enforcement of payment of all obligations of the Debtor by any action or participation in, or in connection with a case or proceeding under the Bankruptcy Code, or any successor statute thereto; (g) If the Debtor is not the obligor of any of the Obligations, and in the event any amount paid to the Bank on any Obligation is subsequently recovered from the Bank in or as a result of any bankruptcy, insolvency or fraudulent conveyance proceeding, the Debtor shall be liable to the Bank for the amounts so recovered up to the fair market value of the Collateral whether or not the Collateral has been released or the security interest terminated. In the event the Collateral has been released or the security interest terminated, the fair market value of the Collateral shall be determined, at the Bank's option, as of the date the Collateral was released, the security interest terminated, or said amounts were recovered; and (h) All amounts which may be owed to Bank pursuant to all other loan documents executed between Bank and any other Debtor. Notwithstanding the foregoing, if the Collateral is personal property used as a principal residence (such as a mobile home or a houseboat) or "household goods" (as that term is defined at 12 C.F.R. paragraph 227.12, as it may be amended from time to time) which are not in the Bank's possession and which are not fixtures, such Collateral shall not secure any liability contracted for personal family or household purposes between the Debtor or an obligor and the Bank already in existence on the date hereof or that arises hereafter, unless the Debtor otherwise expressly agrees. D. Debtor's Warranties. Debtor hereby represents and warrants to Bank as follows: 1. Financing Statements. Except as may be noted by schedule attached hereto and incorporated herein by reference, no financing statement covering the Collateral is or will be on file in any public office, except the financing statements relating to this security interest, and no security interest, other than the one herein created, has attached or been perfected in the Collateral or any part thereof. 2. Ownership. Debtor owns, or will use the proceeds of any loans by Bank to become the owner of, the Collateral free from any setoff, claim, restriction, lien, security interest or encumbrance except liens for taxes not yet due and the security interest hereunder. 3. Fixtures and Accessions. None of the Collateral is affixed to real estate or is an accession to any goods, or will become a fixture or accession, except as expressly set out herein. 4. Claims on Debtors on Collateral. All account debtors and other obligors whose debts or obligations are part of the Collateral have no right to setoffs, counterclaims or adjustments, and no defenses in connection therewith. 5. Power and Authority. Debtor has full power and authority to make this agreement. E. Debtor's Covenants. Until full payment and performance of all Obligations and termination or expiration of any obligation or commitment of Bank to make advances or loans to Debtor, unless Bank otherwise consents in writing: 1. Obligation and This Agreement. Debtor shall perform all of its agreements herein and in any other agreements between it and Bank. 2. Ownership of Collateral. Debtor shall defend the Collateral against all claims and demands of all persons at any time cleaning any interest therein adverse to Bank. Debtor shall keep the Collateral free from all liens and security interests except those for taxes not yet due and the security interest hereby created. 3. Insurance. Debtor shall insure the Collateral with companies acceptable to Bank. Such insurance shall be in an amount not less than the fair market value of the Collateral and shall be against such casualties, with such deductible amounts as Bank shall approve. All insurance policies shall be written for the benefit of Debtor and Bank as their interests may appear, payable to Bank as loss payee, or in other form satisfactory to Bank, and such policies or certificates evidencing the same shall be furnished to Bank. All policies of insurance shall provide for written notice to Bank at least 30 days prior to cancellation. Risk of loss or damage is Debtor's to the extent of any deficiency in any effective insurance coverage. 4. Maintenance. Debtor shall keep all tangible Collateral in good condition. 5. Bank's Costs. Debtor shall pay all costs necessary to obtain, preserve, perfect, defend and enforce this security interest, collect the Obligation, and preserve, defend, enforce and collect the Collateral including but not limited to taxes, assessments, insurance premiums, repairs, reasonable attorney's fees and legal expenses, feed, rent, storage costs and expenses of sales. Whether Collateral is or is not in Bank's possession, and without any obligation to do so and without waiving Debtor's default for failure to make any such payment, Bank at its option may pay any such costs and expenses, discharge encumbrances on Collateral, and pay for insurance of Collateral, and such payment shall be a part of the Obligation and bear interest at the rate set out in the Obligation. Debtor agrees to reimburse Bank on demand for any costs so incurred. 6. Information and Inspection. Debtor shall (i) promptly furnish Bank any information with respect to Collateral requested by Bank, (ii) allow Bank or its representatives to inspect the Collateral at any time and wherever located, and to inspect and copy, or furnish Bank or its representatives with copies of, all records relating to the Collateral and the Obligation; (iii) furnish Bank or its representatives such information as Bank may request to identify Collateral, at the time and in the form requested by Bank; and (iv) deliver upon request to Bank shipping and delivery receipts evidencing the shipment of goods and invoices evidencing the receipt of, and the payment for, Collateral. 7. Additional Documents. Debtor shall sign and deliver any papers furnished by Bank which are necessary or desirable in the judgment of Bank to obtain, maintain and perfect the security interest hereunder and to enable Bank to comply with the Federal Assignment of Claims Act or any other federal or state law in order to obtain or perfect Bank's interest in Collateral or to obtain proceeds of Collateral. 8. Parties Liable on Collateral. Debtor will preserve the liability of all obligors on any Collateral, will preserve the priority of all security therefor, and will deliver to Bank the original certificates of title on all motor vehicles or other titled vehicles constituting the Collateral. Bank shall have no duty to preserve such liability or security, but may do so at the expense of Debtor, without waiving Debtor's default. 9. Right of Bank to Notify Debtors. At any time, whether Debtor is or is not in default hereunder, Bank may notify persons obligated on any Collateral to make payments directly to Bank and Bank may take control of all proceeds of any Collateral. Until Bank elects to exercise such rights, Debtor, as agent of Bank, shall collect and enforce all payments owed on Collateral. 10. Records of Collateral. Debtor at all times will maintain accurate books and records covering the Collateral. Debtor immediately will mark all books and records with an entry showing the absolute assignment of all Collateral to Bank and Bank is hereby given the right to audit the books and records of Debtor relating to Collateral at any time and from time to time. The amounts shown as owed to Debtor on Debtor's books and on any assignment schedule will be the undisputed amounts owing and unpaid. 11. Disposition of Collateral. If disposition of any Collateral gives rise to an account, chattel paper or instrument, Debtor immediately shall notify Bank, and upon request of Bank shall assign or indorse the same to Bank. No Collateral may be sold, leased, manufactured, processed or otherwise disposed of by Debtor in any manner without the prior written consent of Bank, except Collateral sold, leased, manufactured, processed or consumed in the ordinary course of business. 12. Accounts . Each account held as Collateral will represent the valid and legally enforceable obligation of third parties, and shall not be evidenced by any instrument or chattel paper. 13. Location of Collateral. Debtor shall give Bank written notice of each office of Debtor in which records of Debtor pertaining to accounts held as Collateral are kept, and each location at which Collateral is or will be kept, and of any change of any such location. If no such notice is given, all records of Debtor pertaining to Collateral are and shall be kept at Debtor's address shown above. All Collateral of Debtor will be kept at Debtor's address shown above unless otherwise noted as follows: 14. Notice of Changes. Debtor will notify Bank immediately of any material change in the Collateral, of a change in Debtor's residence or location, of a change in any matter warranted or represented by Debtor in this agreement or furnished to Bank, and of any event of default. 15. Use and Removal of Collateral. Debtor will not use the Collateral illegally nor, unless previously indicated as a fixture, permit the Collateral to be affixed to real or personal property without the prior written consent of Bank. Debtor will not permit any of the Collateral to be removed from the locations specified herein without the prior written consent of Bank, except for the sale of inventory in the ordinary course of business. 16. Possession of Collateral. Debtor will deliver all other instruments, documents and chattel paper which are part of the Collateral and in Debtor's possession to the Bank immediately, or if hereafter acquired, immediately following acquisition, appropriately indorsed to Bank's order, or with appropriate, executed powers. Debtor waives presentment notice of acceleration, demand, notice of dishonor, protest, and all other notices with respect thereto. 17. Consumer Credit. If any Collateral or proceeds includes obligations of third parties to Debtor, the transactions giving rise to the Collateral shall conform in all respects to he applicable state or federal law including but not limited to consumer credit law. Debtor shall hold harmless and indemnify Bank against any cost, loss or expense arising from debtor's breach of this covenant. 18. Change of Name/Status. Without the written consent of Bank, Debtor shall not change its name, change its corporate status, use any trade name or engage in any Business in which it was not engaged on the date of this agreement. 19. Power of Attorney. Debtor appoints Bank as Debtor's attorney-in-fact with full power in Debtor's name and behalf to do every act which Debtor is obligated to do or may be required to do hereunder; however, nothing in this paragraph shall be construed to obligate Bank to take any action hereunder nor shall Bank be liable to Debtor for failure to eke any action hereunder. This appointment shall be deemed a power coupled with an interest and shall not be terminable as long as the Obligations are outstanding and shall not terminate on the disability or incompetence of the Debtor. 20. Waivers by Debtor. Debtor waives notice of the creation, advance, increase, existence, extension or renewal of, and of any indulgence with respect to, the Obligation; waives presentment, demand, notice of dishonor, and protest; waives notice of the amount of the Obligation outstanding at any time, notice of any change in financial condition of any person liable for the Obligation or any part thereof, notice of any event of default, and all other notices respecting the Obligation; and agrees that maturity of the Obligation and any part thereof may be accelerated, extended or renewed one or more times by Bank in its discretion, without notice to Debtor. Debtor waives any right to require that any action be brought against any other person or to require that resort be had to any other security or to any balance of any deposit account. The Debtor further waives any right of Abrogation or to enforce any right of action against any other Debtor until the Obligation is paid in full. 21. Other Parties and Other Collateral. No renewal or extension of or any other indulgence with respect to the Obligation or any part thereof, no release of any security, to release of any person (including any maker, indorser, guarantor or surety) liable on the Obligation, no delay in enforcement of payment, and no delay or omission or lack of diligence or care in exercising any right or power with respect to the Obligation or any security therefor or guaranty thereof or under this agreement shall in any manner impair or affect the rights of Bank under the law, hereunder, or under any other agreement pertaining to the Collateral. Bank need not file suit or assert a claim for personal judgment against any person for any part of the Obligation or seek to realize upon any other security for the Obligation, before foreclosing or otherwise realizing upon the Collateral for the purpose of paying the Obligation. Debtor waives any right to the benefit of or to require or control application of any other security or proceeds thereof, and agrees that Bank shall have no duty or obligation to Debtor to apply to the Obligation any such other security or proceeds thereof. 22. Collection and Segregation of Accounts. The Bank hereby authorizes the Debtor to collect the Collateral, subject to the direction and control of the Bank, but the Bank may without cause or notice, curtail or terminate said authority at any time. Upon notice by the Bank, whether oral or in writing, to the Debtor, the Debtor shall forthwith upon receipt of all checks, drafts, cash, and other remittances in payment of or on account of the Collateral, deposit the same in one or more special accounts maintained with the Bank over which the Bank alone shall have the power of withdrawal. The remittance of the proceeds of such Collateral shall not, however, constitute payment or liquidation of such Collateral until the Bank shall receive good funds for such proceeds. Funds placed in such special accounts shall be held by the Bank as security for all Obligations secured hereunder. These proceeds shall be deposited in precisely the form received, except for the indorsement of the Debtor where necessary to permit collection of items, which indorsement the Debtor agrees to make, and which indorsement the Bank is also hereby authorized, as attorney-in-fact, to make on behalf of the Debtor. In the event the Bank has notified the Debtor to make deposits to a special account, pending such deposit, the Debtor agrees that it will not commingle any such checks, drafts, cash or other remittances with any funds or other property of the Debtor, but will hold them separate and apart therefrom, and upon an express trust for the Bank until deposit thereof is made in the special account. The Bank will, from time to time, apply the whole or any part of the Collateral funds on deposit in this special account against such Obligations as are secured hereby as the Bank may in its sole discretion elect. At the sole election of the Bank, any portion of said funds on deposit in the special account which the Bank shall elect not to apply to the Obligations, may be paid over by the Bank to the Debtor. 23. Compliance with State and Federal Laws. Debtor will comply with all State and Federal laws and regulations applicable to its business, whether now in effect or hereafter enacted including but not limited to the wage and hours laws and relating to the use or disposal of hazardous materials and wastes. F. Rights and Powers of Bank 1. General. Bank, before or after default, without liability to Debtor may: obtain from any person information regarding Debtor or Debtor's business, which information any such person also may furnish without liability to Debtor; require Debtor to give possession or control of any Collateral to Bank; indorse as Debtor's agent any instruments documents or chattel paper in Collateral or representing proceeds of Collateral; contact account debtors directly to verify information furnished by Debtor; take control of proceeds, including stock received as dividends or by reason of stock splits; release Collateral in its possession to any Debtor, temporarily or otherwise; require additional Collateral; reject as unsatisfactory any property hereafter offered by Debtor as Collateral; set standards from time to time to govern what may be used as after acquired Collateral; designate, from time to time, a certain percent of the Collateral as the loan value and require Debtor to maintain the Obligation at or below such figure; take control of funds generated by the Collateral, such as cash dividends, interest and proceeds or refunds from insurance, and use same to reduce any part of the Obligation and exercise all other rights which an owner of such Collateral may exercise, except the right to vote or dispose of Collateral before an event of default; at any time transfer any of the Collateral or evidence thereof into its own name or that of its nominee; and demand, collect, convert, redeem, receipt for, settle, compromise, adjust, sue for, foreclose or realize upon Collateral, in its own name or in the name of Debtor, as Bank may determine. Bank shall not be liable for failure to collect any account or instruments, or for any act fir omission on the part of the Bank, its of ricers, agents or employees, except willful misconduct and gross negligence. The foregoing rights and powers of Bank will be in addition to, and not a limitation upon, any rights and powers of Bank given by law, elsewhere in this agreement, or otherwise. If Debtor fails to maintain any required insurance, to the extent permitted by applicable law Bank may (but is not obligated to) purchase single interest insurance coverage for the Collateral which insurance may at Bank's option (i) protect only Bank and not provide any remuneration or protection for Debtor directly and (ii) provide coverage only after the Obligation has been declared due as herein provided. The premiums for any such insurance purchased by Bank shall be a part of the Obligation and shall bear interest as provided in B. 1. d. hereof. 2. Convertible Collateral. Bank, may present for conversion any Collateral which is convertible into any other instrument or investment security or a combination thereof with cash, but Bank shall not have any duty to present for conversion any Collateral unless it shall have received from Debtor detailed written instructions to that effect at a time reasonably far in advance of the final conversion date to make such conversion possible. G. Default 1. Event of Default. An event of default shall occur if: (i) there is a loss, theft, damage or destruction of any material portion of the Collateral for which there is no insurance coverage or for which, in the opinion of the Bank there is insufficient insurance coverage; or (ii) if Debtor or any other obligor on the Obligation shall fail to timely and properly pay or observe, keep or perform any term, covenant, agreement or condition in this agreement or in any other agreement between Debtor and any other obligor on the Obligation, including in any other note or instrument, loan agreement, security agreement, deed of trust, mortgage, promissory note, assignment or other agreement or instrument concerning the Obligation. 2. Rights and Remedies. If any Event of Default shall occur, then, in each and every such case, the Bank may, without presentment, demand, or protest; notice of default, dishonor, demand, non-payment, or protest; notice of intent to accelerate all or any part of the Obligation; notice of acceleration of all or any part of the Obligation; or notice of any other kind, all of which Debtor hereby expressly waives, (except for any notice required under this agreement, any other loan document or applicable law); at any time thereafter exercise and/or enforce any of the following rights and remedies: a) Possession and Collection of Collateral. At its option: (i) take possession or control of, store, lease, operate, manage, sell or otherwise dispose of, all or any part of the Collateral; (ii) notify all parties under any account or contract right forming all or any part of the Collateral to make any payments otherwise due to the Debtor directly to the Bank, (iii) in the Bank's own name, or in the name of the Debtor, demand, collect, receive, sue for, and give receipts and releases for, any and all amounts due under such accounts and contract rights; (iv) indorse as the agent of the Debtor any check, note, chattel paper, documents, or instruments forming all or any part of the Collateral, (v) make formal application for transfer to the Bank (or to any assignee of the Bank to any purchaser of any of the Collateral) of all of the Debtor's permits, licenses, approvals, agreements, and the like relating to the Collateral or to the Debtor's business; (vi) take any other action which the Bank deems necessary or desirable to protect and realize upon its security interest in the Collateral; and (vii) in addition to the foregoing, and not in substitution therefor, exercise any one or more of the rights and remedies exercisable by the Bank under any other provision of this agreement, under any of the other loan documents, or as provided by applicable law (including, without limitation, the Uniform Commercial Code as in effect in Florida (hereinafter referred to as the "UCC")). In taking possession of the Collateral the Bank may enter the Debtor's premises and otherwise proceed without legal process, if this can be done without breach of the peace. The Debtor shall, upon the Bank's demand, promptly make the Collateral or other security available to the Bank at a place designated by the Bank, which place shall be reasonably convenient to both parties. The Bank shall not be liable for, nor be prejudiced by, any loss, depreciation or other damages to the Collateral, unless caused by the Bank's willful and malicious act. The Bank shall have no duty to take any action to preserve or collect the Collateral. b) Receiver. Obtain the appointment of a receiver for all or any of the Collateral, the Debtor hereby consenting to the appointment of such a receiver and agreeing not to oppose any such appointment. c) Right of Set Off. Without notice or demand to the Debtor, set off and apply against any and all of the Obligations any and all deposits (general or special, time or demand, provisional or final) and any other indebtedness, at any time held or owing by the Bank to or for the credit of the account of the Debtor. Bank shall be entitled to immediate possession of all books and records evidencing any Collateral or pertaining to chattel paper covered by this agreement and it or its representatives shall have the authority to enter upon any premises upon which any of the same, or any Collateral, may be situated and remove the same therefrom without liability. Bank may surrender any insurance policies in Collateral and receive the unearned premium thereon. Debtor shall be entitled to any surplus and shall be liable to Bank for any deficiency. The proceeds of any disposition after default available to satisfy the Obligation shall be applied to the Obligation in such order and in such manner as Bank in its discretion shall decide. H. General 1. Parties Bound. Bank's rights hereunder shall inure to the benefit of its successors and assigns, and in the event of any assignment or transfer of any of the Obligation or the Collateral, Bank thereafter shall be fully discharged from any responsibility with respect to the Collateral so assigned or transferred, but Bank shall retain all rights and powers hereby given with respect to any of the obligation or Collateral not so assigned or transferred. All representations, warranties and agreements of Debtor if more than one are joint and several and all shall be binding upon the personal representatives, heirs, successors and assigns of Debtor. 2 . Waiver. No delay of Bank in exercising any power or right shall operate as a waiver thereof; nor shall any single or partial exercise of any power or right preclude other or further exercise thereof or the exercise of any other power or right. No waiver by Bank of any right hereunder or of any default by Debtor shall be binding upon Bank unless in writing, and no failure by Bank to exercise any power or right hereunder or waiver of any default by Debtor shall operate as a waiver of any other or further exercise of such right or power or of any further default. Each right, power and remedy of the Bank as provided for in any of the loan documents, or which shall now or hereafter exist at law or in equity or by statute or otherwise, shall be cumulative and concurrent and shall be in addition to every other such right, power or remedy. The exercise or beginning of the exercise by the Bank of any one or more of such rights, powers or remedies shall not preclude the simultaneous or later exercise by the Bank of any or all other such rights, powers or remedies. 3. Agreement Continuing This agreement shall constitute a continuing agreement, applying to all future as well as existing transactions, whether or not of the character contemplated at the date of this agreement, and if all transactions between Bank and Debtor shall be closed at any time, shall be equally applicable to any new transactions thereafter. Provisions of this agreement, unless by their terms exclusive, shall be in addition to other agreements between the parties. Time is of the essence of this agreement. 4. Definitions. Unless the context indicates otherwise, definitions in the UCC apply to words and phrases in this agreement; if UCC definitions conflict, Article 9 definitions apply. 5. Notice. Notice shall be deemed reasonable if mailed postage prepaid at least 5 days before the related action (or if the UCC elsewhere specifies a longer period, such longer period) to the address of Debtor given above. 6. Modifications. No provision hereof shall be modified or limited except by a written agreement expressly referring hereto and to the provisions so modified or limited and signed by the Debtor and Bank, nor by course of conduct, usage of trade. 7. Partial Invalidity. The unenforceability or invalidity of any provision of this security agreement shall not affect the enforceability or validity of any other provision herein and the invalidity or unenforceability of any provision of any loan document to any person or circumstance shall not affect the enforceability or validity of such provision as it may apply to other persons or circumstances. 8. Gender and Number. Where appropriate, the use of one gender shall be construed to include the others or any of them; and the singular number shall be construed to include the plural, and vice versa. 9. Applicable Law and Venue. This agreement has been delivered in the State of Florida and shall be construed in accordance with the laws of that State. It is performable by Debtor in the county or city of Bank's address set out above and Debtor expressly waives any objection as to venue in any such location. Wherever possible each provision of this agreement shall be interpreted in such manner as to be effective and valid under applicable law, but if any provision of this agreement shall be prohibited by or invalid under applicable law, such provision shall be ineffective to the extent of such prohibition or invalidity, without invalidating the remainder of such provisions or the remaining provisions of this agreement. 10. Financing Statement. To the extent permitted by applicable law, a carbon, photographic or other reproduction of this security agreement or any financing statement covering the Collateral shall be sufficient as a financing statement. 11. Counterparts. This agreement may be executed in any number of counterparts, each of which shall be considered to be an original, but all of which shall constitute one in the same instrument. As used herein "this agreement" shall include all attachments and addenda. 12. ARBITRATION. ANY CONTROVERSY OR CLAIM BETWEEN OR AMONG THE PARTIES HERETO INCLUDING BUT NOT LIMITED TO THOSE ARISING OUT OF OR RELATING TO THIS AGREEMENT OR ANY RELATED AGREEMENTS OR INSTRUMENTS, INCLUDING ANY CLAIM BASED ON OR ARISING FROM AN ALLEGED TORT, SHALL BE DETERMINED BY BINDING ARBITRATION IN ACCORDANCE WITH THE FEDERAL ARBITRATION ACT (OR IF NOT APPLICABLE, THE APPLICABLE STATE LAW), THE RULES OF PRACTICE AND PROCEDURE FOR THE ARBITRATION OF COMMERCIAL DISPUTES OF JUDICIAL ARBITRATION AND MEDIATION SERVICES, INC. (J.A.M.S.) AND THE "SPECIAL RULES" SET FORTH BELOW. IN THE EVENT OF ANY INCONSISTENCY, THE SPECIAL RULES SHALL CONTROL. JUDGMENT UPON ANY ARBITRATION AWARD MAY BE ENTERED IN ANY COURT HAVING JURISDICTION. ANY PARTY TO THIS AGREEMENT MAY BRING AN ACTION, INCLUDING A SUMMARY OR EXPEDITED PROCEEDING, TO COMPEL ARBITRATION OF ANY CONTROVERSY OR CLAIM TO WHICH THIS AGREEMENT APPLIES IN ANY COURT HAVING JURISDICTION OVER SUCH ACTION. A. SPECIAL RULES. THE ARBITRATION SHALL BE CONDUCTED IN THE CITY OF THE BORROWER'S DOMICILE AT THE TIME OF THIS AGREEMENT'S EXECUTION AND ADMINISTERED BY J.A.M.S. WHO WILL APPOINT AN ARBITRATOR; IF J.A.M.S. IS UNABLE OR LEGALLY PRECLUDED FROM ADMINISTERING THE ARBITRATION, THEN THE AMERICAN ARBITRATION ASSOCIATION WILL SERVE. ALL ARBITRATION HEARINGS WILL BE COMMENCED WITHIN 90 DAYS OF THE DEMAND FOR ARBITRATION; FURTHER, THE ARBITRATOR SHALL ONLY, UPON A SHOWING OF CAUSE, BE PERMITTED TO EXTEND THE COMMENCEMENT OF SUCH HEARING FOR UP TO AN ADDITIONAL 60 DAYS. B. RESERVATIONS OF RIGHTS. NOTHING IN THIS AGREEMENT SHALL BE DEEMED TO (1) LIMIT THE APPLICABILITY OF ANY OTHERWISE APPLICABLE STATUTES OF LIMITATION OR REPOSE AND ANY WAIVERS CONTAINED IN THIS AGREEMENT; OR (11) BE A WAIVER BY THE BANK OF THE PROTECTION AFFORDED TO IT BY 12 U.S.C. SEC. 91 OR ANY SUBSTANTIALLY EQUIVALENT STATIE LAW; OR (111) LIMIT THE RIGHT OF THE BANK HERETO (A) TO EXERCISE SELF HELP REMEDIES SUCH AS (BUT NOT LIMITED TO) SETOFF, OR (B) TO FORECLOSE AGAINST ANY REAL OR PERSONAL PROPERTY COLLATERAL, OR (C) TO OBTAIN FROM A COURT PROVISIONAL OR ANCILLARY REMEDIES SUCH AS (BUT NOT LIMITED TO) INJUNCTIVE RELIEF, WRIT OF POSSESSION OR THE APPOINTMENT OF A RECEIVER. THE BANK MAY EXERCISE SUCH SELF HELP RIGHTS, FORECLOSE UPON SUCH PROPERTY, OR OBTAIN SUCH PROVISIONAL OR ANCILLARY REMEDIES BEFORE, DURING OR AFTER THE PENDENCY OF ANY ARBITRATION PROCEEDING BROUGHT PURSUANT TO THIS AGREEMENT. AT BANK'S OPTION, FORECLOSURE UNDER A DEED OF TRUST OR MORTGAGE MAY BE ACCOMPLISHED BY ANY OF THE FOLLOWING: THE EXERCISE OF A POWER OF SALE UNDER THE DEED OF TRUST OR MORTGAGE, OR BY JUDICIAL SALE UNDER THE DEED OF TRUST OR MORTGAGE, OR BY JUDICIAL FORECLOSURE. NEITHER THIS EXERCISE OR SELF HELP REMEDIES NOR THE INSTITUTION OR MAINTENANCE OF AN ACTION FOR FORECLOSURE OR PROVISIONAL OR ANCILLARY REMEDIES SHALL CONSTITUTE A WAIVER OF THE RIGHT OF ANY PARTY, INCLUDING THE CLAIMANT IN ANY SUCH ACTION, TO ARBITRATE THE MERITS OF THE CONTROVERSY OR CLAIM OCCASIONING RESORT TO SUCH REMEDIES. DEBTOR AGREES THAT BANK AT ITS SOLE OPTION MAY CHOOSE MEDIATION, AND/OR BINDING ARBITRATION PROCEDURES PERTAINING TO ANY CONTROVERSY(IES) OR DISPUTE(S) ARISING BETWEEN DEBTOR AND BANK. DEBTOR AGREES TO ABIDE BY THE SELECTION THAT BANK MAKES TO RESOLVE ANY CONFLICTS OR DISPUTES BETWEEN DEBTOR AND BANK AND TO PARTICIPATE IN THE MEDIATION AND/OR BINDING ARBITRATION PROCESS IF SELECTED. DEBTOR AND BANK AGREE THAT EACH WILL BEAR THEIR PORTION OF EXPENSES RELATED TO MEDIATION AND/OR BINDING ARBITRATION. 13. NOTICE OF FINAL AGREEMENT. FLORIDA LAW PROVIDES THAT ANY AGREEMENT ASSERTIED AS A CLAIM OR DEFENSE IN AN ACTION RELATED TO THIS TRANSACTION MUST BE IN WRITING AND SIGNED BY THE PARTIES. ORAL AGREEMENTS ARE NOT ENFORCEABLE. YOU MAY RELY ONLY ON A WRITTEN AGREEMENT. IN WITNESS WHEREOF, the parties hereto have caused this agreement to be duly executed under seal by their duly authorized representatives as of the date first above written. Bank/Secured Party: NationsBank of Florida, N.A. Debtor/Pledgor: By: /s/ Nathan Coon (Seal) Print Individual's Name: -------------------------- Name: Nathan Coon (Seal) Title Vice President ELCOTEL DIRECT, INC. (Name of Corporation, Partnership, etc) Corporate Borrower or Partnership: ELCOTEL DIRECT, INC. (Name of Corporation, Partnership, etc) Attest (If Applicable) By: /s/ Tracey L. Gray ------------------- [Corporate Seal] Tracey L. Gray, Vice President ALLONGE This Allonge is attached to and made a part of that certain Security Agreement dated October 2, 1997, executed by Tracey L. Gray, as Vice President of ELCOTEL DIRECT, INC., a Florida corporation, as Debtor, and NATIONSBANK, N.A., a National Banking Association, as Secured Party. Paragraph 12.(A) is amended to read as follows: "A. SPECIAL RULES. THE ARBITRATION SHALL BE CONDUCTED IN SARASOTA, FLORIDA, AND ADMINISTERED BY ENDISPUTE, INC., D/B/A J.A.M.S./ENDISPUTE WHO WILL APPOINT AN ARBITRATOR; IF J.A.M.S./ENDISPUTE IS UNABLE OR LEGALLY PRECLUDED FROM ADMINISTERING THE ARBITRATION, THEN THE AMERICAN ARBITRATION ASSOCIATION WILL SERVE. ALL ARBITRATION HEARINGS WILL BE COMMENCED WITHIN 90 DAYS OF THE DEMAND FOR ARBITRATION; FURTHER, THE ARBITRATOR SHALL ONLY, UPON A SHOWING OF CAUSE, BE PERMITTED TO EXTEND THE COMMENCEMENT OF SUCH HEARING FOR UP TO AN ADDITIONAL 60 DAYS." Dated: October 2, 1997 ELCOTEL DIRECT, INC., a Delaware corporation By: /s/ Tracey L. Gray -------------------- Tracey L. Gray Vice President Address: 6428 Parkland Drive Sarasota, FL 34243 (CORPORATE SEAL) DEBTOR NATIONSBANK, N.A., a National Banking Association By: /s/ Nathan Coon -------------------------- Nathan Coon, Vice President Address: 1605 Main Street Sarasota, FL 34236 (CORPORATE SEAL) SECURED PARTY EX-10.13 6 CONTINUING & UNCONDITIONAL GUARANTEE Exhibit 10.13 NationsBank of Florida, N.A. Continuing and Unconditional Guaranty 1. Guaranty. For Value Received, and to induce NationsBank of Florida, NA. Sarasota 1605 Main Street, Suite 101, Sarasota, Florida, 34236, Attn: Nathan Coon (herein called Bank"), to make loans or advances or to extend credit or other financial accommodations or benefits, with or without security, to or for the account of Elcotel, Inc., a Delaware corporation 6428 Parkland Drive Sarasota, Florida, 34243 (herein called "Borrower"), the undersigned (herein called "Guarantor") if more than one, then each of them jointly and severally, hereby becomes surety for and irrevocably and unconditionally guarantees to Bank the full and prompt payment when due, whether by acceleration or otherwise, of any and all Liabilities (as hereinafter defined) of Borrower to Bank, together with reasonable attorney's fees, costs and expenses incurred by Bank in enforcing any and all of such indebtedness. This Guaranty is continuing and unlimited as to the amount. Guarantor further unconditional guarantees the faithful, prompt and complete compliance by Borrower with all terms, conditions, covenants, agreements and undertakings of Borrower (herein collectively referred to as the "Obligations") under all notes and other documents evidencing the Liabilities, as hereinafter defined, and under all deeds to secure debt, deeds of trust, mortgages, security agreements and other agreements, documents and instruments executed in connection with the Liabilities or related thereto (all such deeds to secure debt, deeds of trust, mortgages, security agreements and other documents securing payment of the Liabilities and all notes and other agreements, documents, and instruments evidencing or relating to the Liabilities and Obligations being herein collectively called the Loan Documents"). The undertakings of Guarantor hereunder are independent of the Liabilities and Obligations of the Borrower and a separate action or actions for payment, damages or performance may be brought or prosecuted against Guarantor, whether or not an action is brought against the Borrower or to realize upon the security for the Liabilities and/or Obligations and whether or not Borrower joined in any such action or actions, and whether or not notice is given or demand is made upon the Borrower. Bank shall not be required to proceed first against Borrower, or any other person, firm or corporation, whether primarily or secondarily liable, or against an' Collateral held by it, before resorting to Guarantor for payment, and Guarantor shall not be entitled to assert as a defense to the enforceability of the Guaranty any defense of Borrower with respect to any Liabilities or Obligations. 2. Paragraph Headings and Governing Law. Guarantor agrees that the paragraph headings in this Guaranty are for convenience only and that they will not limit any of the provisions of this Guaranty. Guarantor further agrees that this Guaranty shall be governed by and construed in accordance with the laws of the State of Florida and applicable United States federal law. Guarantor further agrees that this Guaranty shall be deemed to have been made in the State of Florida at Bank's address indicated herein, and shall be governed by, and construed in accordance with, the laws of the State of Florida or the United States courts located within the State of Florida, and is performable in the State of Florida. 3. Definitions. A. "Liability" or "Liabilities" as used herein shall include without limitation, all liabilities, overdrafts, indebtedness, and obligations of Borrower to Bank, whether direct or indirect, absolute or contingent, joint or several, secured or unsecured, due or not due, contractual or tortious, liquidated or unliquidated, arising by operation of law or otherwise, now or hereafter existing, or held or to be held by the Bank for its own account or as agent for another or others, whether created directly, indirectly, or acquired by assignment or otherwise, including but not limited to all extensions or renewals thereof, and all sums payable under or by virtue thereof, including without limitation, all amounts of principal and interest, all expenses (including attorney's fees and cost of collection as specified) incurred in the collection thereof or the enforcement of rights thereunder or in enforcing this Guaranty (including without limitation any liability arising from failure to comply with state or federal laws, rules and regulations concerning the control of hazardous wastes or substances at or with respect to any real estate securing any loan guaranteed hereby), whether arising in the ordinary course of business or otherwise, and whether held or to be held by Bank for its own account or as agent for another or others. If Borrower is a partnership, corporation or other entity the term "Liability" or "Liabilities" as used herein shall include all Liabilities to Bank of any successor entity or entities. B. "Guarantor" as used herein shall mean Guarantor or any one or more of them. Anyone executing this Guaranty shall be bound by the terms hereof without regard to execution by anyone else. This Guaranty is binding upon Guarantor, his, their or its executors, administrators, successors or assigns, and shall inure to the benefit of Bank, its successors, endorsees or assigns. "Guarantor" as used in this instrument shall be construed as singular or plural to correspond with the number of persons executing this instrument as Guarantor. The pronouns used in this Agreement are in the masculine gender but shall be construed as female or neuter as an occasion may require. C. "Collateral" means the property subject to a security interest, and includes accounts and chattel paper which have been sold including but not limited to all additions and accessions thereto, all replacements or substitutes therefor, and all immediate and remote proceeds of the sale or other disposition thereof. 4. Waivers by Guarantor. Guarantor waives notice of acceptance of this Guaranty, notice of any Liability or Obligations to which it may apply, and waives presentment, demand for payment, protest, notice of dishonor or nonpayment of any Liabilities, waiver of notice of intent to accelerate, waiver of notice of acceleration and notice of any suit or the taking of other action by Bank against Borrower, Guarantor or any other person and any other notice to any party liable thereon (including Guarantor) and any applicable statute of limitations. Each Guarantor also hereby waives any claim, right or remedy which such Guarantor may now have or hereafter acquire against the Borrower that arises hereunder and/or from the performance by any Guarantor hereunder including, without limitation, any claim, remedy or right of subrogation, reimbursement, exoneration, contribution, indemnification, or participation in any claim, right or remedy of the Bank against the Borrower or any security which the Bank now has or hereafter acquires, whether or not such claim, right or remedy arises in equity, under contract, by statute, under common law or otherwise. Guarantor hereby agrees to waive the benefit of any provision of law requiring that the Bank exhaust any right or remedy, or take any action, against the Borrower, any Guarantor, any other person and/or property. Bank may at any time and from time to time (whether before or after revocation or termination of this Guaranty) without notice to Guarantor (except as required by law), without incurring responsibility to Guarantor, without impairing, releasing, or otherwise affecting the obligations of Guarantor, in whole or in part, and without the endorsement or execution by Guarantor of any additional consent, waiver or guaranty: (a) change the manner, place or terms of payment; (b) change or extend the time of or renew or alter, any Liability or Obligation or installment thereof, or any security therefor; (c) loan additional monies or extend additional credit to Borrower, with or without security, thereby creating new Liabilities or Obligations the payment or performance of which shall be guaranteed hereunder, and the Guaranty herein made shall apply to the Liabilities and Obligations as so changed, extended, surrendered, realized upon or otherwise altered, (d) sell, exchange, release, surrender, realize upon or otherwise deal with in any manner and in any order any property at any time pledged or mortgaged to secure the Liabilities or Obligations and any offset there against; (e) exercise or refrain from exercising any rights against Borrower or others (including Guarantor) or act or refrain from acting in any other manner; (f) settle or compromise any Liability or Obligation or any security therefor and subordinate the payment of all or any part thereof to the payment of any Liability or Obligation of any other parties primarily or secondarily liable on any of the Liabilities or Obligations; (g) release or compromise any liability of Guarantor hereunder or any Liability or Obligation of any other parties primarily or secondarily liable on any of the Liabilities or Obligations; or (h) apply any sums from any sources to any Liability without regard to any Liabilities remaining unpaid. 5. Subordination. Upon demand of Bank, Guarantor agrees that it will not demand, take or receive from the Borrower, by set-off or in any other manner, payment of any liabilities and/or obligations, now and at any time or times hereafter owing by the Borrower to Guarantor unless and until all the Liabilities shall have been fully paid, and any security interest, liens or encumbrances which Guarantor now has and from time to time hereafter may have upon any of the assets of the Borrower shall be made subordinate, junior and inferior and postponed in priority, operation and effect to any security interest of Bank in such assets. 6. Waivers by Bank. No delay on the part of Bank in exercising any of in options, powers or rights, or any partial or single exercise thereof, shall constitute a waiver thereof. No waiver of any of its rights hereunder, and no modification or amendment of this Guaranty, shall be deemed to be made by Bank unless the same shall be in writing, duly signed on behalf of Bank; and each such waiver, if any, shall apply only with respect to the specific instance involved, and shall in no way impair the rights of Bank or the obligations of Guarantor to Bank in any other respect at any other time. 7. Termination. This Guaranty shall continue until written notice of revocation signed by each respective Guarantor or until written notice of the death of such Guarantor shall actually have been received by Bank, notwithstanding change in name, location, composition or structure of, or the dissolution, termination or increase, decrease or change in personnel, owners or partners of Borrower, or any one or more of Guarantors, provided, however, that no notice of revocation or termination hereof shall affect in any manner rights arising under this Guaranty with respect to Liabilities or Obligations that she have been created, contracted, assumed or incurred prior to receipt of such written notice pursuant to any agreement entered into by Bank prior to receipt such notice, and the sole effect of such notice of revocation or termination hereof shall be to exclude from this Guaranty, Liabilities or Obligations thereafter arising that are unconnected with Liabilities or Obligations theretofore arising or transactions entered into theretofore. In the event of the death of a Guarantor, the liabilities of the estate of the deceased Guarantor shall continue in full force and effect as to (i) the Liabilities existing at the date of death, and any renewals or extensions thereof, and (ii) loans or advances made to or for the account of Borrower after the date of death of the deceased Guarantor pursuant to the liabilities of Bank under a commitment made to Borrower prior to the date of such death. As to all surviving Guarantors, this Guaranty shall continue in full force and effect after the death of a Guarantor, not only as to the Liabilities existing at that time, but also to Liabilities thereafter incurred by Borrower to Bank. 8. Partial Invalidity and/or Enforceability of Guaranty. The unenforceability or invalidity of any provision of this Guaranty shall not affect enforceability or validity of any other provision herein and the invalidity or unenforceability of any provision of any Loan Document as it may apply to any person or circumstance shall not affect the enforceability or validity of such provision as it may apply to other persons or circumstances. In the event Bank is required to relinquish or return the payments, the Collateral or the proceeds thereof, in whole or in part, which had been previously applied to or retained for application against any Liability, by reason of a proceeding arising under the Bankruptcy Code, or for any other reason, this Guaranty shall automatically continue to be effective notwithstanding any previous cancellation or release effected by the Bank. 9. Obligations of Guarantor. In the event that Borrower fails to perform any of the Obligations or pay any of the Liabilities, Guarantor shall upon demand by Bank, promptly and with due diligence pay all Liabilities and perform and satisfy for the benefit of Bank all Obligations. Guarantor will not become a party to a merger or consolidation with any other company, except where Guarantor is the surviving corporation or entity, and all covenants under this Guaranty Agreement are assumed by the surviving corporation. Further, Guarantor may not change the status of or type of entity that Guarantor is, without the written consent of Bank and all covenants under this Guaranty Agreement are assumed by the new or surviving entity. Guarantor further agrees that this Guaranty Agreement shall be binding, legal and enforceable against Guarantor in the event Borrower changes its name, status or type of entity. 10. Financial and Other Information. Guarantor agrees to furnish to Bank any and all financial information and any other information regarding Guarantor and/or Collateral requested in writing by Bank within ten (10) days of the date of the request. The Guarantor has made an independent investigation of the financial condition and affairs of the Borrower prior to entering into this Guaranty, and the Guarantor has made and will continue to make an independent appraisal of the creditworthiness of the Borrower; and in entering into this Guaranty the Guarantor has not relied upon any representation of the Bank as to the financial condition, operation or creditworthiness of the Borrower. The Guarantor further agrees that the Bank shall have no duty or responsibility now or hereafter to make any investigation or appraisal of the Borrower on behalf of the Guarantor or to provide the Guarantor with any credit or other information which may come to its attention now or hereafter. 11. Notices. All notices required or permitted to be given to Bank herein shall be sent to the Bank at the address shown in the preamble to this agreement. Guarantor agrees that all notices required or permitted to be given to Guarantor shall be sent in accordance with the Loan Agreement dated August 31, 1994, as amended. 12. Events of Default. The following are events of default hereunder: (a) the failure to pay or perform any Obligation, Liability or indebtedness of Borrower or Guarantor to Bank, or to any affiliate of Bank, whether under this Guaranty or any other agreement, note or instrument now or hereafter existing, as and when due (whether upon demand, at maturity or by acceleration); (b) the failure to pay or perform any other Obligation, Liability or indebtedness of Borrower or Guarantor as and when due, whether to Bank or some other party, the Collateral for which constitutes an encumbrance on the Collateral for this Guaranty; (c) death of any Borrower or Guarantor (if an individual), or a proceeding being filed or commenced against a Borrower or Guarantor for dissolution or liquidation, or any Borrower or Guarantor voluntarily or involuntarily terminating or dissolving or being terminated or dissolved, (d) the insolvency of, the business failure of, the appointment of a custodian, trustee, liquidator or receiver for or for any of the property of, or an assignment for the benefit of creditors by, or the filing of a petition under any bankruptcy, insolvency or debtor's relief law or for any adjustment of indebtedness, composition or extension by or against Borrower or Guarantor; (e) any lien or additional security interest being placed upon any of the Collateral which is security for this Guaranty; (f) acquisition at any time or from time to time of title to the whole of or any part of the Collateral which is security for this Guaranty by any person, partnership, corporation or other entity; (g) Bank determining that any representation or warranty made by Borrower or Guarantor to Bank is, or was, untrue or materially misleading; (h) failure of Borrower or Guarantor to timely deliver such financial statement including tax returns, and other statements of condition or other information as Bank shall request from time to time; (i) any default under any Loan Documents; (j) entry of a judgment against Borrower or Guarantor in excess of $50,000; (k) the seizure or forfeiture of, or the issuance of any writ of possession, garnishment or attachment, or any turnover order for any property of Borrower or Guarantor; (l) Bank reasonably deeming itself insecure; (m) the determination by Bank that a material adverse change has occurred in the financial condition of Borrower or Guarantor; (n) the failure to comply with any law regulating the operation of Borrower's business; (o) termination of Guaranty by Guarantor; or, (p) the inability of the Borrower or Guarantor to pay debts as they mature whether owing to Bank or any other party. 13. Remedies. Upon the occurrence of any event of default hereunder, Bank shall have all of the remedies of a creditor and, to the extent applicable, of a secured party, under all applicable law, and without limiting the generality of the foregoing, Bank may, at its option and without notice or demand: (a) declare any Liability accelerated and due and payable at once; and (b) take possession of any Collateral wherever located, and sell, resell, assign, transfer and deliver all or any part of said Collateral of Borrower or Guarantor at any public or private sale or otherwise dispose of any or all of the Collateral in its then condition, for cash or on credit or for future delivery, and in connection therewith Bank may impose reasonable conditions upon any such sale. Bank, unless prohibited by law the provisions of which cannot be waived, may purchase all or any part of said Collateral to be sold, free from and discharged of all trusts, claims, rights or redemption and equities of the Borrower or Guarantor whatsoever; Guarantor acknowledges and agrees that the sale of any Collateral through any nationally recognized broker-dealer, investment banker or any other method common in the securities industry shall be deemed a commercially reasonable sale under the Uniform Commercial Code or any other equivalent statute or federal law, and expressly waives notice thereof except as provided herein; and (c) after any monetary default, set-off against any or all liabilities of Guarantor all money owed by Bank in any capacity to Guarantor whether or not due, and also set-off against all other Liabilities of Borrower or Guarantor to Bank all money owed by Bank in any capacity to any Borrower or Guarantor, and if exercised by Bank, Bank shall be deemed to have exercised such right of set-off and to have made a charge against any such money immediately upon the occurrence of such default although made or entered on the books subsequent thereto. 14. Attorney Fees, Cost and Expense. Guarantor shall pay all costs of collection and attorney's fees for the services of an attorney at law, whether through the initiation of legal proceedings or otherwise, plus reasonable attorney's fees incurred in appellate proceedings, or (b) reasonable attorney's fees, including reasonable attorney's fees in connection with any suit, mediation or arbitration proceeding, out of court payment agreement, trial, appeal, bankruptcy proceedings or otherwise incurred or paid by Bank in enforcing the payment of any Liability or enforcing or preserving any right or interest of Bank hereunder, including the collection, preservation, sale or delivery of any Collateral from time to time pledged to Bank, and after deducting such fees, costs and expenses from the proceeds of sale or collection Bank may apply any residue to pay any of the Liabilities and Guarantor shall continue to be liable for any deficiency with interest at the rate specified any instrument evidencing the Liability or, at the Bank's option, equal to the highest lawful rate, which shall remain a liability. 15. Preservation of Properly. Bank shall not be bound to take any steps necessary to preserve any rights in any of the property of Guarantor pledged to Bank to secure Guarantor's obligations against prior parties who may be liable in connection therewith, and Guarantor hereby agrees to take any such steps. Bank, nevertheless, at any time, may (a) take any action it deems appropriate for the care or preservation of such property or of any rights of Guarantor or Bank therein, (b) demand, sue for, collect or receive any money or property at any time due, payable or receivable on account of or in exchange for any property of Guarantor, (c) compromise and settle with any person liable on such property, or (d) extend the time of payment or otherwise change the terms of the Loan Documents as to any party liable on the Loan Documents, all without notice to, without incurring responsibility to, and without affecting any of the obligations or liabilities of Guarantor. 16. Collateral. The Bank at all times and from time to time shall have the right to require Guarantor to deliver to Bank Collateral satisfactory to Bank to secure Guarantor's undertakings hereunder and/or the liabilities of Guarantor hereunder. Bank shall have a properly perfected security interest in all of Guarantor's funds on deposit with Bank to secure the balance of any liabilities and/or obligations that Guarantor may now or in the future owe the Bank. Bank is granted a contractual right of set-off and will not be liable for dishonoring checks or withdrawals where the exercise of Bank's contractual right of set-off or security interest results in insufficient funds in Guarantor's account. As authorized by law, Guarantor grants to Bank this contractual right of set-off and security interest in all property of Guarantor now or at anytime hereafter in the possession of Bank, including but not limited to any joint account, special account, account by the entireties, tenancy in common, and all dividends and distributions now or hereafter in the possession or control of Bank. [ ] Check If applicable. In addition to the provisions stated above, Guarantor hereby pledges, assigns and grants to Bank a security interest in and title to the Collateral described in the security agreement, deed of trust, deed to secure debt, mortgage or other Collateral instrument dated ____________, 19_______ which Collateral, except for any margin stock (as defined in Regulation U of the Board of Governors of the Federal Reserve System), shall secure this Guaranty, whether currently existing or arising in the future. Guarantor agrees to execute such security agreements, financing statements and other documents as Bank may reasonably require or request to obtain and perfect its security interest in said Collateral. 17. ARBITRATION. ANY CONTROVERSY OR CLAIM BETWEEN OR AMONG THE PARTIES HERETO INCLUDING BUT NOT LlMlTED TO THOSE ARISING OUT OF OR RELATING TO THIS AGREEMENT OR ANY RELATED AGREEMENTS OR INSTRUMENTS, INCLUDING ANY CLAIM BASED ON OR ARISING FROM AN ALLEGED TORT, SHALL BE DETERMINED BY BINDING ARBITRATION IN ACCORDANCE WITH THE FEDERAL ARBITRATION ACT (OR IF NOT APPLICABLE, THE APPLICABLE STATE LAW), THE RULES OF PRACTICE AND PROCEDURE FOR THE ARBITRATION OF COMMERCIAL DISPUTES OF JUDICIAL ARBITRATION AND MEDIATION SERVICES, INC. (J.A.M.S.), AND THE "SPECIAL RULES" SET FORTH BELOW. IN THE EVENT OF ANY INCONSISTENCY, THE SPECIAL RULES SHALL CONTROL. JUDGMENT UPON ANY ARBITRATION AWARD MAY BE ENTERED IN ANY COURT HAVING JURISDICTION. ANY PARTY TO THIS AGREEMENT MAY BRING AN ACTION, INCLUDING A SUMMARY OR EXPEDITED PROCEEDING, TO COMPEL ARBITRATION OF ANY CONTROVERSY OR CLAIM TO WHICH THIS AGREEMENT APPLIES IN ANY COURT HAVING JURISDICTION OVER SUCH ACTION. (A) SPECIAL RULES. THE ARBITRATION SHALL BE CONDUCTED IN THE CITY OF THE BORROWER'S DOMICILE AT THE TIME OF THIS AGREEMENT'S EXECUTION AND ADMINISTERED BY J.A.M.S. WHO WILL APPOINT AN ARBITRATOR; IF J.A.M.S. IS UNABLE OR LEGALLY PRECLUDED FROM ADMINISTERING THE ARBITRATION, THEN THE AMERICAN ARBITRATION ASSOCIATION WILL SERVE. ALL ARBITRATION HEARINGS WILL BE COMMENCED WITHIN 90 DAYS OF THE DEMAND FOR ARBITRATION; FURTHER, THE ARBITRATOR SHALL ONLY, UPON A SHOWING OF CAUSE, BE PERMITTED TO EXTEND THE COMMENCEMENT 0F SUCH HEARING FOR UP TO AN ADDITIONAL 60 DAYS. (B) RESERVATION OF RIGHTS. NOTHING IN THIS AGREEMENT SHALL BE DEEMED TO (I) LIMIT THE APPLICABILITY OF ANY OTHERWISE APPLICABLE STATUTES OF LIMITATION OR REPOSE AND ANY WAIVERS CONTAINED IN THIS AGREEMENT; OR (II) BE A WAIVER BY THE BANK OF THE PROTECTION AFFORDED TO IT BY 12. U.S.C. SEC. 91 OR ANY SUBSTANTIALLY EQUIVALENT STATE LAW; OR (III) LIMIT THE RIGHT OF THE BANK HERETO (A) TO EXERCISE SELF HELP REMEDIES SUCH AS (BUT NOT LIMITED TO) SETOFF, OR (B) TO FORECLOSURE AGAINST ANY REAL OR PERSONAL PROPERTY COLLATERAL, OR (C) TO OBTAIN FROM A COURT PROVISIONAL OR ANCILLARY REMEDIES SUCH AS (BUT NOT LIMITED TO) INJUNCTIVE RELIEF, WRIT 0F POSSESSION OR THE APPOINTMENT OF A RECEIVER. THE BANK MAY EXERCISE SUCH SELF HELP RIGHTS, FORECLOSE UPON SUCH PROPERTY, OR OBTAIN SUCH PROVISIONAL OR ANCILLARY REMEDIES BEFORE, DURING OR AFTER THE PENDENCY OF ANY ARBITRATION PROCEEDING BROUGHT PURSUANT TO THIS AGREEMENT. NEITHER THIS EXERCISE OF SELF HELP REMEDIES NOR THE INSTITUTION OR MAINTENANCE OF AN ACTION FOR FORECLOSURE OR PROVISIONAL OR ANCILLARY REMEDIES SHALL CONSTITUTE A WAIVER OF THE RIGHT OF ANY PARTY, INCLUDING THE CLAIMANT IN ANY SUCH ACTION, TO ARBITRATE THE MERITS OF THE CONTROVERSY OR CLAIM OCCASIONING RESORT TO SUCH REMEDIES. 18. Execution Under Seal. This Guaranty is being executed under seal by the Guarantor. 19. NOTICE OF FINAL AGREEMENT FLORIDA LAW PROVIDES THAT ANY AGREEMENT ASSERTED AS CLAIM OR DEFENSE IN AN ACTION RELATED TO THIS TRANSACTION MUST BE IN WRITING AND SIGNED BY THE PARTIES. ORAL AGREEMENTS ARE NOT ENFORCEABLE. YOU MAY RELY ONLY ON A WRITTEN AGREEMENT. - ------------ Guarantor's Initials IN WITNESS WHEREOF, the undersigned has caused this Guaranty to be executed under seal on the 2nd day of October, 1997. Witnessed By: /s/ Larry P. Laubach -------------------- Larry P. Laubach Print Name (And Title, if Applicable) Corporate Guarantor or Partnerships: Attest (If Applicable) [Corporate Seal] Guarantors Print Individuals Name Elcotel Direct, Inc., a Delaware Corporation Name of Corporation, Partnership, etc. /s/ Tracey L. Gray --------------------------------------- Tracey L. Gray, Vice President (Seal) Print Name and Title Corporate Acknowledgement: State of New Jersey ) County of Union ) This instrument was acknowledged before me October 2, 1997, by Tracey L. Gray, as Vice President of Elcotel Direct, Inc., a Delaware corporation, on behalf of said corporation. He is personally known to me or has produced Driver's License as identification. (Seal) Ingrid E. Loubriel Notary Public of New Jersey My Commission Expires July 6, 2002 ALLONGE This Allonge is attached to and made a part of that certain Continuing and Unconditional Guaranty dated October 2, 1997, executed by Tracey L. Gray, for the account of ELCOTEL, INC. in favor of NATIONSBANK, N.A., a National Banking Association. Paragraph 17.(A) is amended to read as follows: "A. SPECIAL RULES. THE ARBITRATION SHALL BE CONDUCTED IN SARASOTA, FLORIDA, AND ADMINISTERED BY ENDISPUTE, INC., D/B/A J.A.M.S./ENDISPUTE WHO WILL APPOINT AN ARBITRATOR; IF J.A.M.S./ENDISPUTE IS UNABLE OR LEGALLY PRECLUDED FROM ADMINISTERING THE ARBITRATION, THEN THE AMERICAN ARBITRATION ASSOCIATION WILL SERVE. ALL ARBITRATION HEARINGS WILL BE COMMENCED WITHIN 90 DAYS OF THE DEMAND FOR ARBITRATION; FURTHER, THE ARBITRATOR SHALL ONLY, UPON A SHOWING OF CAUSE, BE PERMITTED TO EXTEND THE COMMENCEMENT OF SUCH HEARING FOR UP TO AN ADDITIONAL 60 DAYS." Dated: October 2, 1997 ELCOTEL DIRECT, INC., a Delaware corporation By: /s/ Tracey L. Gray ------------------------------- Tracey L. Gray, Vice President Address: 6428 Parkland Drive Sarasota, Florida 34243 EX-10.14 7 PROMISSORY NOTE - $ 3,050,000 Exhibit 10.14 PROMISSORY NOTE Date of Execution: October 2, 1997 Amount: $3,050,000.00 FOR VALUE RECEIVED, the undersigned ("Borrower") unconditionally (and jointly and severally, if more than one) promise(s) to pay to the order of NATIONSBANK, N.A., a National Banking Association ("Bank"), Sarasota (Banking Center) without setoff, at its offices at 1605 Main Street, Suite 101, Sarasota, Florida, 34236 or at such other place as may be designated by Bank, the principal amount of THREE MILLION FIFTY THOUSAND AND NO/100 DOLLARS ($3,050,000.00), or so much thereof as may be advanced from time to time in immediately available funds, together with interest computed daily on the outstanding principal balance hereunder, at an annual interest rate, and in accordance with the payment schedule, indicated below. Rate The Rate shall be the Bank's FLOATING LIBOR RATE as follows: 1. As used herein "FLOATING LIBOR RATE INDEX" shall mean the fluctuating interest rate per annum published in the Wall Street Journal at which deposits in U.S. dollars are offered in the London interbank market on the date for which the Bank's FLOATING LIBOR RATE is being calculated in an amount equal to the outstanding amount of the loan and with a term equal to thirty (30) days. 2. The Bank's FLOATING LIBOR RATE shall be determined in accordance with the following: (a) "Bank's FLOATING LIBOR RATE" shall be equal to (A) the quotient (rounded up to the nearest 1/16 of 1%) of (1) the Floating Libor Rate Index, divided by (2) an amount equal to one (1) minus the appropriate reserve requirement imposed on Bank by the Federal Reserve System, if any, plus (B) 2.25%. With each change in the FLOATING LIBOR RATE INDEX the Bank's FLOATING LIBOR RATE shall change effective on the date the FLOATING LIBOR RATE INDEX changes. (b) The Borrower shall pay to Bank, from time to time and on demand, any sum(s) required to compensate the Bank for any additional cost (such as, but not limited to, a reserve requirement) incurred by the Bank at any time which (i) is attributable to the Bank's obtaining a deposit or deposits to cover the outstanding principal balance for which the Borrower has elected to pay or Bank's FLOATING LIBOR RATE, (ii) decreases the effective spread or yield represented by the 2.25% Floating Libor Rate component, that would be earned by the Bank but for such cost, and (iii) is caused or occasioned by any presently existing or subsequently introduced law, rule, regulations or other requirement (or by any change therein, changed effect or interpretation thereof or change in the Bank's cost of complying therewith) imposed, interpreted, administered or enforced by any federal, state or other governmental or monetary authority, which is imposed on or applied to the Bank or any assets held by, deposits or accounts in or with, or credits extended by the Bank. The Bank shall notify the Borrower from time to time of any such additional cost and such notice shall be binding and conclusive evidence of the Borrower's obligation to pay the stated sum upon receipt of the notice. (c) The Bank's reference to and use of the FLOATING LIBOR RATE INDEX to define and determine the Bank's FLOATING LIBOR RATE, shall not obligate the Bank to obtain funds from any particular source in order to charge interest at the Bank's FLOATING LIBOR RATE. Notwithstanding any other provision contained in this Note, Bank does not intend to charge and Borrower shall not be required to pay any amount of interest or other fees or charges that is in excess of the maximum permitted by applicable law. Any payment in excess of such maximum shall be refunded to Borrower or credited against principal, at the option of Bank. Accrual Method Interest at the Rate set forth above, unless otherwise indicated, will be calculated on the basis of the 365/360 method, which computes a daily amount of interest for a hypothetical year of 360 days, then multiplies such amount by the actual number of days elapsed in an interest calculation period. Rate Change Date Any Rate based on a fluctuating index or base rate will change, unless otherwise provided, each time and as of the date that the index or base rate changes. Payment Schedule All payments received hereunder shall be applied first to the payment of any expense or charges payable hereunder or under any other documents executed in connection with this Note ("Loan Documents"), then to interest due and payable, with the balance being applied to principal, or in such other order as Bank shall determine at its option. 1. Commencing November 2, 1997, and on the same day of each month thereafter, equal monthly principal installments in the amount of $36,309.52 plus all accrued and unpaid interest shall be made until maturity as set forth below. 2. The entire principal balance, together with all accrued and unpaid interest shall be due and payable in full on October 2, 2004. Automatic Payment G Borrower has elected to authorize Bank to effect payment of sums due under this Note by means of debiting Borrower's account number ______________________. This authorization shall not affect the obligation of Borrower to pay such sums when due, without notice, if there are insufficient funds in such account to make such payment in full on the due date thereof, or if Bank fails to debit the account. Borrower represents to Bank that the proceeds of this loan are to be used primarily for business, commercial or agricultural purposes. Borrower acknowledges having read and understood, and agrees to be bound by all terms and conditions of this Note, including the Additional Terms and Conditions set forth in the Addendum attached hereto and made a part hereof, and hereby executes this Note under seal. BORROWER: ELCOTEL, INC., a Delaware corporation By: /s/ Tracey L. Gray ---------------------------- Tracey L. Gray, President (CORPORATE SEAL) STATE OF New Jersey COUNTY OF Union_ The foregoing instrument was acknowledged before me this 2nd day of October, 1997, by Tracey L. Gray, as President of ELCOTEL, INC., a Delaware corporation, on behalf of said corporation. He is personally known to me and produced Driver's License, as identification and did not take an oath. /s/ Ingrid E. Loubriel ----------------------- * Ingrid E. Loubriel Notary Public of New Jersey My Commission Expires July 6, 2002 *(Print Name of Notary Public) ADDENDUM OF ADDITIONAL TERMS AND CONDITIONS 1. Waivers, Consents and Covenants. Borrower, any endorser, or guarantor hereof or any other party hereto (collectively "Obligors") and each of them jointly and severally: (a) waive presentment, demand, notice of demand, notice of intent to accelerate, and notice of acceleration of maturity, protest, notice of protest, notice of non-payment, notice of dishonor, and any other notice required to be given under the law to any of Obligors, in connection with the delivery, acceptance, performance, default or enforcement of this Note, of any indorsement or guaranty of this Note or of any Loan Documents; (b) consent to any and all delays, extensions, renewals or other modifications of this Note or the Loan Documents, or waivers of any term hereof or of the Loan Documents, or releases or discharge by Bank of any of Obligors or release, substitution, or exchange of any security for the payment hereof, or the failure to act on the part of Bank or any indulgence shown by Bank, from time to time and in one or more instances (without notice to or further assent from any of Obligors) and agree that no such action, failure to act or failure to exercise any right or remedy on the part of Bank shall in any way affect or impair the obligations of any Obligors or be construed as a waiver by Bank of, or otherwise affect, any of Bank's rights under this Note, under any indorsement or guaranty of this Note or under any of the Loan Documents; and (c) agree to pay, on demand, all costs and expenses of collection of this Note or of any indorsement or guaranty hereof and/or the enforcement of Bank's rights with respect to, or the administration, supervision, preservation, protection of, or realization upon, any property securing payment hereof, including without limitation, reasonable attorneys' fees, including fees related to any trial, arbitration, bankruptcy, appeal or other proceeding. 2. Indemnification. Obligors agree to promptly pay, indemnify and hold Bank harmless from all state and federal taxes of any kind and other liabilities with respect to or resulting from advances made pursuant to this Note; provided however this shall not apply to income taxes, Federal, State or otherwise, of the Bank. If this Note has a revolving feature and is secured by a mortgage, Obligors expressly consent to the deduction of any applicable taxes from each taxable advance extended by Bank. 3. Prepayments. Prepayment may be made in whole or in part at any time. All prepayments of principal shall be applied in the inverse order of maturity, or in such other order as Bank shall determine in its sole discretion. 4. Events of Default. The following are events of default hereunder: (a) the failure to make any payment due under this Note within ten (10) days after the due date or the failure to pay or perform any obligation, liability or indebtedness of any Obligor to Bank, or to any affiliate of Bank, whether under this Note or any other agreement, note or instrument now or hereafter existing, as and when due (whether upon demand, at maturity or by acceleration); (b) the failure to pay or perform any other obligation, liability or indebtedness of any of Obligors whether to Bank or some other party, the security for which constitutes an encumbrance on the security for this Note; (c) death of any Obligor (if an individual), or a proceeding being filed or commenced against any Obligor for dissolution or liquidation, or any Obligor voluntarily or involuntarily terminating or dissolving or being terminated or dissolved; (d) insolvency of, business failure of, the appointment of a custodian, trustee, liquidator or receiver for or for any other property of, or an assignment for the benefit of creditors by, or the filing of a petition under bankruptcy, insolvency or debtor's relief law or for any adjustment of indebtedness, composition or extension by or against any Obligor; (e) any lien or additional security interest being placed upon any of the property which is security for this Note; (f) acquisition at any time or from time to time of title to the whole of or any part of the property which is security for this Note by any person, partnership, corporation or other entity; (g) Bank determining that any representation or warranty made by any Obligor in any Loan Documents or otherwise to Bank is, or was, untrue or materially misleading; (h) failure of any Obligor to timely deliver such financial statements, including tax returns, and other statements of condition or other information as Bank shall request from time to time;(i) any default under any Loan Documents; (j) entry of a judgment against any Obligor which Bank deems to be of a material nature, in Bank's sole discretion; (k) the seizure or forfeiture of, or the issuance of any writ of possession, garnishment or attachment, or any turnover order for any property of any Obligor; (l) the determination by Bank that a material adverse change has occurred in the financial condition of any Obligor; or, (m) the failure to comply with any law or regulation regulating the operation of Borrower's business which has a material effect on Borrower's business. 5. Remedies Upon Default. Whenever there is a default under this Note, (a) the entire balance outstanding and all other obligations of Obligor to Bank (however acquired or evidenced) shall, at the option of Bank, become immediately due and payable, and/or (b) to the extent permitted by law, the Rate of interest on the unpaid principal shall, at the option of Bank, be increased at Bank's discretion up to the maximum rate allowed by law, or if none, twenty-five percent (25%) per annum (the "Default Rate"); and/or (c) to the extent permitted by law, a delinquency charge may be imposed in an amount not to exceed five percent (5%) of any payment in default for more than fifteen (15) days. The provisions herein for a Default Rate or a delinquency charge shall not be deemed to extend the time for any payment hereunder or to constitute a "grace period" giving the Obligors a right to cure any default. At Bank's option, any accrued and unpaid interest, fees or charges may, for purposes of computing and accruing interest on a daily basis after the due date of the Note or any installment thereof, be deemed to be a part of the principal balance, and interest shall accrue on a daily compounded basis after such date at the rate provided in this Note until the entire outstanding balance of principal and interest is paid in full. Bank is hereby authorized at any time to setoff and charge against any deposit accounts of any Obligor, as well as any other property of such party at or under the control of Bank, without notice or demand, any and all obligations due hereunder. 6. Non-waiver. The failure at any time of Bank to exercise any of its options or any other rights hereunder shall not constitute a waiver thereof, nor shall it be a bar to the exercise of any of its options or rights at a later date. All rights and remedies of Bank shall be cumulative and may be pursued singly, successively or together, at the option of Bank. The acceptance by Bank of any partial payment shall not constitute a waiver of any default or of any of Bank's rights under this Note. No waiver of any of its rights hereunder, and no modification or amendment of this Note, shall be deemed to be made by Bank unless the same shall be in writing, duly signed on behalf of Bank; and each such wavier, if any, shall apply only with respect to the specific instance involved, and shall in no way impair the rights of Bank or the obligations of Obligor to Bank in any other respect at any other time. 7. Applicable Law. This Note shall be construed under the internal laws and judicial decisions of the State of Florida, and the laws of the United States as the same may be applicable. 8. Partial Invalidity. The unenforceability or invalidity of any provision of this Note shall not affect the enforceability or the validity of any other provision herein and the invalidity or unenforceability of any provision of this Note or of the Loan Documents to any person or circumstance shall not affect the enforceability or validity of such provision as it may apply to other persons or circumstances. 9. Jurisdiction and Venue. In any litigation in connection with or to enforce this Note or any indorsement or guaranty of this Note or any Loan Documents, Obligors, and each of them, irrevocably consent to and confer personal jurisdiction on the courts of the State of Florida or the United States courts located within the State of Florida, and expressly waive any objections as to venue in any such courts, and agree that service of process may be made on Obligors by mailing a copy of the summons and complaint by registered or certified mail, return receipt requested, to their respective addresses. Nothing contained herein shall, however, prevent Bank from bringing any action or exercising any rights within any other state or jurisdiction or from obtaining personal jurisdiction by any other means available by applicable law. 10. ARBITRATION. ANY CONTROVERSY OR CLAIM BETWEEN OR AMONG THE PARTIES HERETO INCLUDING BUT NOT LIMITED TO THOSE ARISING OUT OF OR RELATING TO THIS NOTE OR ANY RELATED NOTES OR INSTRUMENTS, INCLUDING ANY CLAIM BASED ON OR ARISING FROM AN ALLEGED TORT, SHALL BE DETERMINED BY BINDING ARBITRATION IN ACCORDANCE WITH THE FEDERAL ARBITRATION ACT (OR IF NOT APPLICABLE, THE APPLICABLE STATE LAW), THE RULES OF PRACTICE AND PROCEDURE FOR THE ARBITRATION OF COMMERCIAL DISPUTES OR JUDICIAL ARBITRATION AND MEDIATION SERVICES, INC. (J.A.M.S.) AND THE "SPECIAL RULES" SET FORTH BELOW. IN THE EVENT OF ANY INCONSISTENCY, THE SPECIAL RULES SHALL CONTROL. JUDGMENT UPON ANY ARBITRATION AWARD MAY BE ENTERED IN ANY COURT HAVING JURISDICTION. ANY PARTY TO THE NOTICE MAY BRING AN ACTION, INCLUDING A SUMMARY OR EXPEDITED PROCEEDING, TO COMPEL ARBITRATION OF ANY CONTROVERSY OR CLAIM TO WHICH THIS NOTE APPLIES IN ANY COURT HAVING JURISDICTION OVER SUCH ACTION. (A) SPECIAL RULES. THE ARBITRATION SHALL BE CONDUCTED IN THE CITY OF BRADENTON, FLORIDA AND ADMINISTERED BY J.A.M.S. WHO WILL APPOINT AN ARBITRATOR; IF J.A.M.S. IS UNABLE OR LEGALLY PRECLUDED FROM ADMINISTERING THE ARBITRATION, THEN THE AMERICAN ARBITRATION ASSOCIATION WILL SERVE. ALL ARBITRATION HEARINGS WILL BE COMMENCED WITHIN NINETY (90) DAYS OF THE DEMAND FOR ARBITRATION; FURTHER, THE ARBITRATOR SHALL ONLY, UPON A SHOWING OF CAUSE, BE PERMITTED TO EXTEND THE COMMENCEMENT OF SUCH HEARING FOR AN ADDITIONAL SIXTY (60) DAYS. (B) RESERVATION OF RIGHTS. NOTHING IN THIS NOTE SHALL BE DEEMED TO (I) LIMIT THE APPLICABILITY OF ANY OTHERWISE APPLICABLE STATUTES OF LIMITATIONS OR REPOSE AND ANY WAIVERS CONTAINED IN THIS NOTE; OR (II) BE A WAIVER BY THE BANK OF THE PROTECTION AFFORDED TO IT BY 12 U.S.C. '91 OR ANY SUBSTANTIALLY EQUIVALENT STATE LAW; OR (III) LIMIT THE RIGHT OF THE BANK HERETO (A) TO EXERCISE SELF HELP REMEDIES SUCH AS (BUT NOT LIMITED TO) SETOFF, OR (B) TO FORECLOSURE AGAINST ANY REAL OR PERSONAL PROPERTY COLLATERAL, OR (C) TO OBTAIN FROM A COURT PROVISIONAL OR ANCILLARY REMEDIES SUCH AS (BUT NOT LIMITED TO) INJUNCTIVE RELIEF, WRIT OF POSSESSION OR THE APPOINTMENT OF A RECEIVER. THE BANK MAY EXERCISE SUCH SELF HELP RIGHTS, FORECLOSURE UPON SUCH PROPERTY, OR OBTAIN SUCH PROVISIONALLY OR ANCILLARY REMEDIES BEFORE, DURING OR AFTER THE PENDENCY OF ANY ARBITRATION PROCEEDING BROUGHT PURSUANT TO THIS NOTE. NEITHER THE EXERCISE OF SELF HELP REMEDIES NOR THE INSTITUTION OR MAINTENANCE OF AN ACTION FOR FORECLOSURE OR PROVISIONALLY OR ANCILLARY REMEDIES SHALL CONSTITUTE A WAIVER OF THE RIGHT OF ANY PARTY, INCLUDING THE CLAIMANT IN SUCH ACTION, TO ARBITRATE THE MERITS OF THE CONTROVERSY OR CLAIM OCCASIONING RESORT TO SUCH REMEDIES. 11. Binding Effect. This Note shall be binding upon and inure to the benefit of Borrower, Obligors and Bank and their respective successors, assigns, heirs and personal representatives; provided, however, that no obligations of the Borrower or the Obligor hereunder can be assigned without prior written consent of Bank. 12. NOTICE OF FINAL AGREEMENT. THIS WRITTEN PROMISSORY NOTE AND ANY OTHER DOCUMENTS EXECUTED IN CONNECTION HEREWITH REPRESENT THE FINAL AGREEMENT BETWEEN THE PARTIES AND MAY NOT BE CONTRADICTED BY EVIDENCE OF PRIOR, CONTEMPORANEOUS OR SUBSEQUENT ORAL AGREEMENTS OF THE PARTIES. THERE ARE NO UNWRITTEN ORAL AGREEMENTS BETWEEN THE PARTIES. BORROWER: ELCOTEL, INC., a Delaware corporation By: /s/ Tracey L. Gray ------------------------ Tracey L. Gray, President (CORPORATE SEAL) EX-10.15 8 PROMISSORY NOTE - $ 950,000 Exhibit 10.15 PROMISSORY NOTE Date of Execution: October 2, 1997 Amount: $950,000.00 FOR VALUE RECEIVED, the undersigned ("Borrower") unconditionally (and jointly and severally, if more than one) promise(s) to pay to the order of NATIONSBANK, N.A., a National Banking Association ("Bank"), Sarasota (Banking Center) without setoff, at its offices at 1605 Main Street, Suite 101, Sarasota, Florida, 34236 or at such other place as may be designated by Bank, the principal amount of NINE HUNDRED FIFTY THOUSAND AND NO/100 DOLLARS ($950,000.00), or so much thereof as may be advanced from time to time in immediately available funds, together with interest computed daily on the outstanding principal balance hereunder, at an annual interest rate, and in accordance with the payment schedule, indicated below. Rate The Rate shall be the Bank's FLOATING LIBOR RATE as follows: 1. As used herein "FLOATING LIBOR RATE INDEX" shall mean the fluctuating interest rate per annum published in the Wall Street Journal at which deposits in U.S. dollars are offered in the London interbank market on the date for which the Bank's FLOATING LIBOR RATE is being calculated in an amount equal to the outstanding amount of the loan and with a term equal to thirty (30) days. 2. The Bank's FLOATING LIBOR RATE shall be determined in accordance with the following: (a) "Bank's FLOATING LIBOR RATE" shall be equal to (A) the quotient (rounded up to the nearest 1/16 of 1%) of (1) the Floating Libor Rate Index, divided by (2) an amount equal to one (1) minus the appropriate reserve requirement imposed on Bank by the Federal Reserve System, if any, plus (B) 2.25%. With each change in the FLOATING LIBOR RATE INDEX the Bank's FLOATING LIBOR RATE shall change effective on the date the FLOATING LIBOR RATE INDEX changes. (b) The Borrower shall pay to Bank, from time to time and on demand, any sum(s) required to compensate the Bank for any additional cost (such as, but not limited to, a reserve requirement) incurred by the Bank at any time which (i) is attributable to the Bank's obtaining a deposit or deposits to cover the outstanding principal balance for which the Borrower has elected to pay or Bank's FLOATING LIBOR RATE, (ii) decreases the effective spread or yield represented by the 2.25% Floating Libor Rate component, that would be earned by the Bank but for such cost, and (iii) is caused or occasioned by any presently existing or subsequently introduced law, rule, regulations or other requirement (or by any change therein, changed effect or interpretation thereof or change in the Bank's cost of complying therewith) imposed, interpreted, administered or enforced by any federal, state or other governmental or monetary authority, which is imposed on or applied to the Bank or any assets held by, deposits or accounts in or with, or credits extended by the Bank. The Bank shall notify the Borrower from time to time of any such additional cost and such notice shall be binding and conclusive evidence of the Borrower's obligation to pay the stated sum upon receipt of the notice. (c) The Bank's reference to and use of the FLOATING LIBOR RATE INDEX to define and determine the Bank's FLOATING LIBOR RATE, shall not obligate the Bank to obtain funds from any particular source in order to charge interest at the Bank's FLOATING LIBOR RATE. Notwithstanding any other provision contained in this Note, Bank does not intend to charge and Borrower shall not be required to pay any amount of interest or other fees or charges that is in excess of the maximum permitted by applicable law. Any payment in excess of such maximum shall be refunded to Borrower or credited against principal, at the option of Bank. Accrual Method Interest at the Rate set forth above, unless otherwise indicated, will be calculated on the basis of the 365/360 method, which computes a daily amount of interest for a hypothetical year of 360 days, then multiplies such amount by the actual number of days elapsed in an interest calculation period. Rate Change Date Any Rate based on a fluctuating index or base rate will change, unless otherwise provided, each time and as of the date that the index or base rate changes. Payment Schedule All payments received hereunder shall be applied first to the payment of any expense or charges payable hereunder or under any other documents executed in connection with this Note ("Loan Documents"), then to interest due and payable, with the balance being applied to principal, or in such other order as Bank shall determine at its option. 1. Commencing November 2, 1997, and on the same day of each month thereafter through April 2, 1998, payments of all accrued and unpaid interest shall be made until maturity as set forth below. 2. In addition, all sums paid by Entel Teleponia Local S.A. ("Entel") to Borrower in payment of any account receivables now or hereinafter owed by Entel to Borrower shall be immediately paid to Bank as a principal reduction. 3. The entire principal balance, together with all accrued and unpaid interest shall be due and payable in full on April 2, 1998. Automatic Payment G Borrower has elected to authorize Bank to effect payment of sums due under this Note by means of debiting Borrower's account number ______________________ ______________. This authorization shall not affect the obligation of Borrower to pay such sums when due, without notice, if there are insufficient funds in such account to make such payment in full on the due date thereof, or if Bank fails to debit the account. Borrower represents to Bank that the proceeds of this loan are to be used primarily for business, commercial or agricultural purposes. Borrower acknowledges having read and understood, and agrees to be bound by all terms and conditions of this Note, including the Additional Terms and Conditions set forth in the Addendum attached hereto and made a part hereof, and hereby executes this Note under seal. BORROWER: ELCOTEL, INC., a Delaware corporation By: /s/ Tracey L. Gray ---------------------------- Tracey L. Gray, President (CORPORATE SEAL) STATE OF New Jersey COUNTY OF Union_ The foregoing instrument was acknowledged before me this 2nd day of October, 1997, by Tracey L. Gray, as President of ELCOTEL, INC., a Delaware corporation, on behalf of said corporation. He is personally known to me and produced Driver's License, as identification and did not take an oath. /s/ Ingrid E. Loubriel ----------------------- *Ingrid E. Loubriel Notary Public of New Jersey My Commission Expires July 6, 2002 *(Print Name of Notary Public) ADDENDUM OF ADDITIONAL TERMS AND CONDITIONS 1. Waivers, Consents and Covenants. Borrower, any indorser, or guarantor hereof or any other party hereto (collectively "Obligors") and each of them jointly and severally: (a) waive presentment, demand, notice of demand, notice of intent to accelerate, and notice of acceleration of maturity, protest, notice of protest, notice of non-payment, notice of dishonor, and any other notice required to be given under the law to any of Obligors, in connection with the delivery, acceptance, performance, default or enforcement of this Note, of any indorsement or guaranty of this Note or of any Loan Documents; (b) consent to any and all delays, extensions, renewals or other modifications of this Note or the Loan Documents, or waivers of any term hereof or of the Loan Documents, or releases or discharge by Bank of any of Obligors or release, substitution, or exchange of any security for the payment hereof, or the failure to act on the part of Bank or any indulgence shown by Bank, from time to time and in one or more instances (without notice to or further assent from any of Obligors) and agree that no such action, failure to act or failure to exercise any right or remedy on the part of Bank shall in any way affect or impair the obligations of any Obligors or be construed as a waiver by Bank of, or otherwise affect, any of Bank's rights under this Note, under any indorsement or guaranty of this Note or under any of the Loan Documents; and (c) agree to pay, on demand, all costs and expenses of collection of this Note or of any indorsement or guaranty hereof and/or the enforcement of Bank's rights with respect to, or the administration, supervision, preservation, protection of, or realization upon, any property securing payment hereof, including without limitation, reasonable attorneys' fees, including fees related to any trial, arbitration, bankruptcy, appeal or other proceeding. 2. Indemnification. Obligors agree to promptly pay, indemnify and hold Bank harmless from all state and federal taxes of any kind and other liabilities with respect to or resulting from advances made pursuant to this Note; provided however this shall not apply to income taxes, Federal, State or otherwise, of the Bank. If this Note has a revolving feature and is secured by a mortgage, Obligors expressly consent to the deduction of any applicable taxes from each taxable advance extended by Bank. 3. Prepayments. Prepayment may be made in whole or in part at any time. All prepayments of principal shall be applied in the inverse order of maturity, or in such other order as Bank shall determine in its sole discretion. 4. Events of Default. The following are events of default hereunder: (a) the failure to make any payment due under this Note within ten (10) days after the due date or the failure to pay or perform any obligation, liability or indebtedness of any Obligor to Bank, or to any affiliate of Bank, whether under this Note or any other agreement, note or instrument now or hereafter existing, as and when due (whether upon demand, at maturity or by acceleration); (b) the failure to pay or perform any other obligation, liability or indebtedness of any of Obligors whether to Bank or some other party, the security for which constitutes an encumbrance on the security for this Note; (c) death of any Obligor (if an individual), or a proceeding being filed or commenced against any Obligor for dissolution or liquidation, or any Obligor voluntarily or involuntarily terminating or dissolving or being terminated or dissolved; (d) insolvency of, business failure of, the appointment of a custodian, trustee, liquidator or receiver for or for any other property of, or an assignment for the benefit of creditors by, or the filing of a petition under bankruptcy, insolvency or debtor's relief law or for any adjustment of indebtedness, composition or extension by or against any Obligor; (e) any lien or additional security interest being placed upon any of the property which is security for this Note; (f) acquisition at any time or from time to time of title to the whole of or any part of the property which is security for this Note by any person, partnership, corporation or other entity; (g) Bank determining that any representation or warranty made by any Obligor in any Loan Documents or otherwise to Bank is, or was, untrue or materially misleading; (h) failure of any Obligor to timely deliver such financial statements, including tax returns, and other statements of condition or other information as Bank shall request from time to time;(i) any default under any Loan Documents; (j) entry of a judgment against any Obligor which Bank deems to be of a material nature, in Bank's sole discretion; (k) the seizure or forfeiture of, or the issuance of any writ of possession, garnishment or attachment, or any turnover order for any property of any Obligor; (l) the determination by Bank that a material adverse change has occurred in the financial condition of any Obligor; or, (m) the failure to comply with any law or regulation regulating the operation of Borrower's business which has a material effect on Borrower's business. 5. Remedies Upon Default. Whenever there is a default under this Note, (a) the entire balance outstanding and all other obligations of Obligor to Bank (however acquired or evidenced) shall, at the option of Bank, become immediately due and payable, and/or (b) to the extent permitted by law, the Rate of interest on the unpaid principal shall, at the option of Bank, be increased at Bank's discretion up to the maximum rate allowed by law, or if none, twenty-five percent (25%) per annum (the "Default Rate"); and/or (c) to the extent permitted by law, a delinquency charge may be imposed in an amount not to exceed five percent (5%) of any payment in default for more than fifteen (15) days. The provisions herein for a Default Rate or a delinquency charge shall not be deemed to extend the time for any payment hereunder or to constitute a "grace period" giving the Obligors a right to cure any default. At Bank's option, any accrued and unpaid interest, fees or charges may, for purposes of computing and accruing interest on a daily basis after the due date of the Note or any installment thereof, be deemed to be a part of the principal balance, and interest shall accrue on a daily compounded basis after such date at the rate provided in this Note until the entire outstanding balance of principal and interest is paid in full. Bank is hereby authorized at any time to setoff and charge against any deposit accounts of any Obligor, as well as any other property of such party at or under the control of Bank, without notice or demand, any and all obligations due hereunder. 6. Non-waiver. The failure at any time of Bank to exercise any of its options or any other rights hereunder shall not constitute a waiver thereof, nor shall it be a bar to the exercise of any of its options or rights at a later date. All rights and remedies of Bank shall be cumulative and may be pursued singly, successively or together, at the option of Bank. The acceptance by Bank of any partial payment shall not constitute a waiver of any default or of any of Bank's rights under this Note. No waiver of any of its rights hereunder, and no modification or amendment of this Note, shall be deemed to be made by Bank unless the same shall be in writing, duly signed on behalf of Bank; and each such wavier, if any, shall apply only with respect to the specific instance involved, and shall in no way impair the rights of Bank or the obligations of Obligor to Bank in any other respect at any other time. 7. Applicable Law. This Note shall be construed under the internal laws and judicial decisions of the State of Florida, and the laws of the United States as the same may be applicable. 8. Partial Invalidity. The unenforceability or invalidity of any provision of this Note shall not affect the enforceability or the validity of any other provision herein and the invalidity or unenforceability of any provision of this Note or of the Loan Documents to any person or circumstance shall not affect the enforceability or validity of such provision as it may apply to other persons or circumstances. 9. Jurisdiction and Venue. In any litigation in connection with or to enforce this Note or any indorsement or guaranty of this Note or any Loan Documents, Obligors, and each of them, irrevocably consent to and confer personal jurisdiction on the courts of the State of Florida or the United States courts located within the State of Florida, and expressly waive any objections as to venue in any such courts, and agree that service of process may be made on Obligors by mailing a copy of the summons and complaint by registered or certified mail, return receipt requested, to their respective addresses. Nothing contained herein shall, however, prevent Bank from bringing any action or exercising any rights within any other state or jurisdiction or from obtaining personal jurisdiction by any other means available by applicable law. 10. ARBITRATION. ANY CONTROVERSY OR CLAIM BETWEEN OR AMONG THE PARTIES HERETO INCLUDING BUT NOT LIMITED TO THOSE ARISING OUT OF OR RELATING TO THIS NOTE OR ANY RELATED NOTES OR INSTRUMENTS, INCLUDING ANY CLAIM BASED ON OR ARISING FROM AN ALLEGED TORT, SHALL BE DETERMINED BY BINDING ARBITRATION IN ACCORDANCE WITH THE FEDERAL ARBITRATION ACT (OR IF NOT APPLICABLE, THE APPLICABLE STATE LAW), THE RULES OF PRACTICE AND PROCEDURE FOR THE ARBITRATION OF COMMERCIAL DISPUTES OR JUDICIAL ARBITRATION AND MEDIATION SERVICES, INC. (J.A.M.S.) AND THE "SPECIAL RULES" SET FORTH BELOW. IN THE EVENT OF ANY INCONSISTENCY, THE SPECIAL RULES SHALL CONTROL. JUDGMENT UPON ANY ARBITRATION AWARD MAY BE ENTERED IN ANY COURT HAVING JURISDICTION. ANY PARTY TO THE NOTICE MAY BRING AN ACTION, INCLUDING A SUMMARY OR EXPEDITED PROCEEDING, TO COMPEL ARBITRATION OF ANY CONTROVERSY OR CLAIM TO WHICH THIS NOTE APPLIES IN ANY COURT HAVING JURISDICTION OVER SUCH ACTION. (A) SPECIAL RULES. THE ARBITRATION SHALL BE CONDUCTED IN THE CITY OF BRADENTON, FLORIDA AND ADMINISTERED BY J.A.M.S. WHO WILL APPOINT AN ARBITRATOR; IF J.A.M.S. IS UNABLE OR LEGALLY PRECLUDED FROM ADMINISTERING THE ARBITRATION, THEN THE AMERICAN ARBITRATION ASSOCIATION WILL SERVE. ALL ARBITRATION HEARINGS WILL BE COMMENCED WITHIN NINETY (90) DAYS OF THE DEMAND FOR ARBITRATION; FURTHER, THE ARBITRATOR SHALL ONLY, UPON A SHOWING OF CAUSE, BE PERMITTED TO EXTEND THE COMMENCEMENT OF SUCH HEARING FOR AN ADDITIONAL SIXTY (60) DAYS. (B) RESERVATION OF RIGHTS. NOTHING IN THIS NOTE SHALL BE DEEMED TO (I) LIMIT THE APPLICABILITY OF ANY OTHERWISE APPLICABLE STATUTES OF LIMITATIONS OR REPOSE AND ANY WAIVERS CONTAINED IN THIS NOTE; OR (II) BE A WAIVER BY THE BANK OF THE PROTECTION AFFORDED TO IT BY 12 U.S.C. '91 OR ANY SUBSTANTIALLY EQUIVALENT STATE LAW; OR (III) LIMIT THE RIGHT OF THE BANK HERETO (A) TO EXERCISE SELF HELP REMEDIES SUCH AS (BUT NOT LIMITED TO) SETOFF, OR (B) TO FORECLOSURE AGAINST ANY REAL OR PERSONAL PROPERTY COLLATERAL, OR (C) TO OBTAIN FROM A COURT PROVISIONAL OR ANCILLARY REMEDIES SUCH AS (BUT NOT LIMITED TO) INJUNCTIVE RELIEF, WRIT OF POSSESSION OR THE APPOINTMENT OF A RECEIVER. THE BANK MAY EXERCISE SUCH SELF HELP RIGHTS, FORECLOSURE UPON SUCH PROPERTY, OR OBTAIN SUCH PROVISIONALLY OR ANCILLARY REMEDIES BEFORE, DURING OR AFTER THE PENDENCY OF ANY ARBITRATION PROCEEDING BROUGHT PURSUANT TO THIS NOTE. NEITHER THE EXERCISE OF SELF HELP REMEDIES NOR THE INSTITUTION OR MAINTENANCE OF AN ACTION FOR FORECLOSURE OR PROVISIONALLY OR ANCILLARY REMEDIES SHALL CONSTITUTE A WAIVER OF THE RIGHT OF ANY PARTY, INCLUDING THE CLAIMANT IN SUCH ACTION, TO ARBITRATE THE MERITS OF THE CONTROVERSY OR CLAIM OCCASIONING RESORT TO SUCH REMEDIES. 11. Binding Effect. This Note shall be binding upon and inure to the benefit of Borrower, Obligors and Bank and their respective successors, assigns, heirs and personal representatives; provided, however, that no obligations of the Borrower or the Obligor hereunder can be assigned without prior written consent of Bank. 12. NOTICE OF FINAL AGREEMENT. THIS WRITTEN PROMISSORY NOTE AND ANY OTHER DOCUMENTS EXECUTED IN CONNECTION HEREWITH REPRESENT THE FINAL AGREEMENT BETWEEN THE PARTIES AND MAY NOT BE CONTRADICTED BY EVIDENCE OF PRIOR, CONTEMPORANEOUS OR SUBSEQUENT ORAL AGREEMENTS OF THE PARTIES. THERE ARE NO UNWRITTEN ORAL AGREEMENTS BETWEEN THE PARTIES. BORROWER: ELCOTEL, INC., a Delaware corporation By: /s/ Tracey L. Gray ---------------------------------- Tracey L. Gray, President (CORPORATE SEAL) EX-10.16 9 PROMISSORY NOTE - $ 2,850,000 Exhibit 10.16 PROMISSORY NOTE Date of Execution: October 2, 1997 Amount: $2,850,000.00 FOR VALUE RECEIVED, the undersigned ("Borrower") unconditionally (and jointly and severally, if more than one) promise(s) to pay to the order of NATIONSBANK, N.A., a National Banking Association ("Bank"), Sarasota (Banking Center) without setoff, at its offices at 1605 Main Street, Suite 101, Sarasota, Florida, 34236 or at such other place as may be designated by Bank, the principal amount of TWO MILLION EIGHT HUNDRED FIFTY THOUSAND AND NO/100 DOLLARS ($2,850,000.00), or so much thereof as may be advanced from time to time in immediately available funds, together with interest computed daily on the outstanding principal balance hereunder, at an annual interest rate, and in accordance with the payment schedule, indicated below. Rate The Rate shall be the Bank's FLOATING LIBOR RATE as follows: 1. As used herein "FLOATING LIBOR RATE INDEX" shall mean the fluctuating interest rate per annum published in the Wall Street Journal at which deposits in U.S. dollars are offered in the London interbank market on the date for which the Bank's FLOATING LIBOR RATE is being calculated in an amount equal to the outstanding amount of the loan and with a term equal to thirty (30) days. 2. The Bank's FLOATING LIBOR RATE shall be determined in accordance with the following: (a) "Bank's FLOATING LIBOR RATE" shall be equal to (A) the quotient (rounded up to the nearest 1/16 of 1%) of (1) the Floating Libor Rate Index, divided by (2) an amount equal to one (1) minus the appropriate reserve requirement imposed on Bank by the Federal Reserve System, if any, plus (B) 2.25%. With each change in the FLOATING LIBOR RATE INDEX the Bank's FLOATING LIBOR RATE shall change effective on the date the FLOATING LIBOR RATE INDEX changes. (b) The Borrower shall pay to Bank, from time to time and on demand, any sum(s) required to compensate the Bank for any additional cost (such as, but not limited to, a reserve requirement) incurred by the Bank at any time which (i) is attributable to the Bank's obtaining a deposit or deposits to cover the outstanding principal balance for which the Borrower has elected to pay or Bank's FLOATING LIBOR RATE, (ii) decreases the effective spread or yield represented by the 2.25% Floating Libor Rate component, that would be earned by the Bank but for such cost, and (iii) is caused or occasioned by any presently existing or subsequently introduced law, rule, regulations or other requirement (or by any change therein, changed effect or interpretation thereof or change in the Bank's cost of complying therewith) imposed, interpreted, administered or enforced by any federal, state or other governmental or monetary authority, which is imposed on or applied to the Bank or any assets held by, deposits or accounts in or with, or credits extended by the Bank. The Bank shall notify the Borrower from time to time of any such additional cost and such notice shall be binding and conclusive evidence of the Borrower's obligation to pay the stated sum upon receipt of the notice. (c) The Bank's reference to and use of the FLOATING LIBOR RATE INDEX to define and determine the Bank's FLOATING LIBOR RATE, shall not obligate the Bank to obtain funds from any particular source in order to charge interest at the Bank's FLOATING LIBOR RATE. Notwithstanding any other provision contained in this Note, Bank does not intend to charge and Borrower shall not be required to pay any amount of interest or other fees or charges that is in excess of the maximum permitted by applicable law. Any payment in excess of such maximum shall be refunded to Borrower or credited against principal, at the option of Bank. Accrual Method Interest at the Rate set forth above, unless otherwise indicated, will be calculated on the basis of the 365/360 method, which computes a daily amount of interest for a hypothetical year of 360 days, then multiplies such amount by the actual number of days elapsed in an interest calculation period. Rate Change Date Any Rate based on a fluctuating index or base rate will change, unless otherwise provided, each time and as of the date that the index or base rate changes. Payment Schedule All payments received hereunder shall be applied first to the payment of any expense or charges payable hereunder or under any other documents executed in connection with this Note ("Loan Documents"), then to interest due and payable, with the balance being applied to principal, or in such other order as Bank shall determine at its option. 1. Commencing November 2, 1997, and on the same day of each month thereafter through April 2, 1998, payments of all accrued and unpaid interest shall be made until maturity as set forth below. 2. The entire principal balance, together with all accrued and unpaid interest shall be due and payable in full on April 2, 1998. Automatic Payment G Borrower has elected to authorize Bank to effect payment of sums due under this Note by means of debiting Borrower's account number ____________________________________. This authorization shall not affect the obligation of Borrower to pay such sums when due, without notice, if there are insufficient funds in such account to make such payment in full on the due date thereof, or if Bank fails to debit the account. Borrower represents to Bank that the proceeds of this loan are to be used primarily for business, commercial or agricultural purposes. Borrower acknowledges having read and understood, and agrees to be bound by all terms and conditions of this Note, including the Additional Terms and Conditions set forth in the Addendum attached hereto and made a part hereof, and hereby executes this Note under seal. BORROWER: ELCOTEL, INC., a Delaware corporation By: /s/ Tracey L. Gray --------------------------- Tracey L. Gray, President (CORPORATE SEAL) STATE OF New Jersey COUNTY OF Union_ The foregoing instrument was acknowledged before me this 2nd day of October, 1997, by Tracey L. Gray, as President of ELCOTEL, INC., a Delaware corporation, on behalf of said corporation. He is personally known to me and produced Driver's License. as identification and did not take an oath. /s/ Ingrid E. Loubriel ----------------------- * Ingrid E. Loubriel Notary Public of New Jersey My Commission Expires July 6, 2002 *(Print Name of Notary Public) ADDENDUM OF ADDITIONAL TERMS AND CONDITIONS 1. Waivers, Consents and Covenants. Borrower, any indorser, or guarantor hereof or any other party hereto (collectively "Obligors") and each of them jointly and severally: (a) waive presentment, demand, notice of demand, notice of intent to accelerate, and notice of acceleration of maturity, protest, notice of protest, notice of non-payment, notice of dishonor, and any other notice required to be given under the law to any of Obligors, in connection with the delivery, acceptance, performance, default or enforcement of this Note, of any indorsement or guaranty of this Note or of any Loan Documents; (b) consent to any and all delays, extensions, renewals or other modifications of this Note or the Loan Documents, or waivers of any term hereof or of the Loan Documents, or releases or discharge by Bank of any of Obligors or release, substitution, or exchange of any security for the payment hereof, or the failure to act on the part of Bank or any indulgence shown by Bank, from time to time and in one or more instances (without notice to or further assent from any of Obligors) and agree that no such action, failure to act or failure to exercise any right or remedy on the part of Bank shall in any way affect or impair the obligations of any Obligors or be construed as a waiver by Bank of, or otherwise affect, any of Bank's rights under this Note, under any indorsement or guaranty of this Note or under any of the Loan Documents; and (c) agree to pay, on demand, all costs and expenses of collection of this Note or of any indorsement or guaranty hereof and/or the enforcement of Bank's rights with respect to, or the administration, supervision, preservation, protection of, or realization upon, any property securing payment hereof, including without limitation, reasonable attorneys' fees, including fees related to any trial, arbitration, bankruptcy, appeal or other proceeding. 2. Indemnification. Obligors agree to promptly pay, indemnify and hold Bank harmless from all state and federal taxes of any kind and other liabilities with respect to or resulting from advances made pursuant to this Note; provided however this shall not apply to income taxes, Federal, State or otherwise, of the Bank. If this Note has a revolving feature and is secured by a mortgage, Obligors expressly consent to the deduction of any applicable taxes from each taxable advance extended by Bank. 3. Prepayments. Prepayment may be made in whole or in part at any time. All prepayments of principal shall be applied in the inverse order of maturity, or in such other order as Bank shall determine in its sole discretion. 4. Events of Default. The following are events of default hereunder: (a) the failure to make any payment due under this Note within ten (10) days after the due date or the failure to pay or perform any obligation, liability or indebtedness of any Obligor to Bank, or to any affiliate of Bank, whether under this Note or any other agreement, note or instrument now or hereafter existing, as and when due (whether upon demand, at maturity or by acceleration); (b) the failure to pay or perform any other obligation, liability or indebtedness of any of Obligors whether to Bank or some other party, the security for which constitutes an encumbrance on the security for this Note; (c) death of any Obligor (if an individual), or a proceeding being filed or commenced against any Obligor for dissolution or liquidation, or any Obligor voluntarily or involuntarily terminating or dissolving or being terminated or dissolved; (d) insolvency of, business failure of, the appointment of a custodian, trustee, liquidator or receiver for or for any other property of, or an assignment for the benefit of creditors by, or the filing of a petition under bankruptcy, insolvency or debtor's relief law or for any adjustment of indebtedness, composition or extension by or against any Obligor; (e) any lien or additional security interest being placed upon any of the property which is security for this Note; (f) acquisition at any time or from time to time of title to the whole of or any part of the property which is security for this Note by any person, partnership, corporation or other entity; (g) Bank determining that any representation or warranty made by any Obligor in any Loan Documents or otherwise to Bank is, or was, untrue or materially misleading; (h) failure of any Obligor to timely deliver such financial statements, including tax returns, and other statements of condition or other information as Bank shall request from time to time;(i) any default under any Loan Documents; (j) entry of a judgment against any Obligor which Bank deems to be of a material nature, in Bank's sole discretion; (k) the seizure or forfeiture of, or the issuance of any writ of possession, garnishment or attachment, or any turnover order for any property of any Obligor; (l) the determination by Bank that a material adverse change has occurred in the financial condition of any Obligor; or, (m) the failure to comply with any law or regulation regulating the operation of Borrower's business which has a material effect on Borrower's business. 5. Remedies Upon Default. Whenever there is a default under this Note, (a) the entire balance outstanding and all other obligations of Obligor to Bank (however acquired or evidenced) shall, at the option of Bank, become immediately due and payable, and/or (b) to the extent permitted by law, the Rate of interest on the unpaid principal shall, at the option of Bank, be increased at Bank's discretion up to the maximum rate allowed by law, or if none, twenty-five percent (25%) per annum (the "Default Rate"); and/or (c) to the extent permitted by law, a delinquency charge may be imposed in an amount not to exceed five percent (5%) of any payment in default for more than fifteen (15) days. The provisions herein for a Default Rate or a delinquency charge shall not be deemed to extend the time for any payment hereunder or to constitute a "grace period" giving the Obligors a right to cure any default. At Bank's option, any accrued and unpaid interest, fees or charges may, for purposes of computing and accruing interest on a daily basis after the due date of the Note or any installment thereof, be deemed to be a part of the principal balance, and interest shall accrue on a daily compounded basis after such date at the rate provided in this Note until the entire outstanding balance of principal and interest is paid in full. Bank is hereby authorized at any time to setoff and charge against any deposit accounts of any Obligor, as well as any other property of such party at or under the control of Bank, without notice or demand, any and all obligations due hereunder. 6. Non-waiver. The failure at any time of Bank to exercise any of its options or any other rights hereunder shall not constitute a waiver thereof, nor shall it be a bar to the exercise of any of its options or rights at a later date. All rights and remedies of Bank shall be cumulative and may be pursued singly, successively or together, at the option of Bank. The acceptance by Bank of any partial payment shall not constitute a waiver of any default or of any of Bank's rights under this Note. No waiver of any of its rights hereunder, and no modification or amendment of this Note, shall be deemed to be made by Bank unless the same shall be in writing, duly signed on behalf of Bank; and each such wavier, if any, shall apply only with respect to the specific instance involved, and shall in no way impair the rights of Bank or the obligations of Obligor to Bank in any other respect at any other time. 7. Applicable Law. This Note shall be construed under the internal laws and judicial decisions of the State of Florida, and the laws of the United States as the same may be applicable. 8. Partial Invalidity. The unenforceability or invalidity of any provision of this Note shall not affect the enforceability or the validity of any other provision herein and the invalidity or unenforceability of any provision of this Note or of the Loan Documents to any person or circumstance shall not affect the enforceability or validity of such provision as it may apply to other persons or circumstances. 9. Jurisdiction and Venue. In any litigation in connection with or to enforce this Note or any indorsement or guaranty of this Note or any Loan Documents, Obligors, and each of them, irrevocably consent to and confer personal jurisdiction on the courts of the State of Florida or the United States courts located within the State of Florida, and expressly waive any objections as to venue in any such courts, and agree that service of process may be made on Obligors by mailing a copy of the summons and complaint by registered or certified mail, return receipt requested, to their respective addresses. Nothing contained herein shall, however, prevent Bank from bringing any action or exercising any rights within any other state or jurisdiction or from obtaining personal jurisdiction by any other means available by applicable law. 10. ARBITRATION. ANY CONTROVERSY OR CLAIM BETWEEN OR AMONG THE PARTIES HERETO INCLUDING BUT NOT LIMITED TO THOSE ARISING OUT OF OR RELATING TO THIS NOTE OR ANY RELATED NOTES OR INSTRUMENTS, INCLUDING ANY CLAIM BASED ON OR ARISING FROM AN ALLEGED TORT, SHALL BE DETERMINED BY BINDING ARBITRATION IN ACCORDANCE WITH THE FEDERAL ARBITRATION ACT (OR IF NOT APPLICABLE, THE APPLICABLE STATE LAW), THE RULES OF PRACTICE AND PROCEDURE FOR THE ARBITRATION OF COMMERCIAL DISPUTES OR JUDICIAL ARBITRATION AND MEDIATION SERVICES, INC. (J.A.M.S.) AND THE "SPECIAL RULES" SET FORTH BELOW. IN THE EVENT OF ANY INCONSISTENCY, THE SPECIAL RULES SHALL CONTROL. JUDGMENT UPON ANY ARBITRATION AWARD MAY BE ENTERED IN ANY COURT HAVING JURISDICTION. ANY PARTY TO THE NOTICE MAY BRING AN ACTION, INCLUDING A SUMMARY OR EXPEDITED PROCEEDING, TO COMPEL ARBITRATION OF ANY CONTROVERSY OR CLAIM TO WHICH THIS NOTE APPLIES IN ANY COURT HAVING JURISDICTION OVER SUCH ACTION. (A) SPECIAL RULES. THE ARBITRATION SHALL BE CONDUCTED IN THE CITY OF BRADENTON, FLORIDA AND ADMINISTERED BY J.A.M.S. WHO WILL APPOINT AN ARBITRATOR; IF J.A.M.S. IS UNABLE OR LEGALLY PRECLUDED FROM ADMINISTERING THE ARBITRATION, THEN THE AMERICAN ARBITRATION ASSOCIATION WILL SERVE. ALL ARBITRATION HEARINGS WILL BE COMMENCED WITHIN NINETY (90) DAYS OF THE DEMAND FOR ARBITRATION; FURTHER, THE ARBITRATOR SHALL ONLY, UPON A SHOWING OF CAUSE, BE PERMITTED TO EXTEND THE COMMENCEMENT OF SUCH HEARING FOR AN ADDITIONAL SIXTY (60) DAYS. (B) RESERVATION OF RIGHTS. NOTHING IN THIS NOTE SHALL BE DEEMED TO (I) LIMIT THE APPLICABILITY OF ANY OTHERWISE APPLICABLE STATUTES OF LIMITATIONS OR REPOSE AND ANY WAIVERS CONTAINED IN THIS NOTE; OR (II) BE A WAIVER BY THE BANK OF THE PROTECTION AFFORDED TO IT BY 12 U.S.C. '91 OR ANY SUBSTANTIALLY EQUIVALENT STATE LAW; OR (III) LIMIT THE RIGHT OF THE BANK HERETO (A) TO EXERCISE SELF HELP REMEDIES SUCH AS (BUT NOT LIMITED TO) SETOFF, OR (B) TO FORECLOSURE AGAINST ANY REAL OR PERSONAL PROPERTY COLLATERAL, OR (C) TO OBTAIN FROM A COURT PROVISIONAL OR ANCILLARY REMEDIES SUCH AS (BUT NOT LIMITED TO) INJUNCTIVE RELIEF, WRIT OF POSSESSION OR THE APPOINTMENT OF A RECEIVER. THE BANK MAY EXERCISE SUCH SELF HELP RIGHTS, FORECLOSURE UPON SUCH PROPERTY, OR OBTAIN SUCH PROVISIONALLY OR ANCILLARY REMEDIES BEFORE, DURING OR AFTER THE PENDENCY OF ANY ARBITRATION PROCEEDING BROUGHT PURSUANT TO THIS NOTE. NEITHER THE EXERCISE OF SELF HELP REMEDIES NOR THE INSTITUTION OR MAINTENANCE OF AN ACTION FOR FORECLOSURE OR PROVISIONALLY OR ANCILLARY REMEDIES SHALL CONSTITUTE A WAIVER OF THE RIGHT OF ANY PARTY, INCLUDING THE CLAIMANT IN SUCH ACTION, TO ARBITRATE THE MERITS OF THE CONTROVERSY OR CLAIM OCCASIONING RESORT TO SUCH REMEDIES. 11. Binding Effect. This Note shall be binding upon and inure to the benefit of Borrower, Obligors and Bank and their respective successors, assigns, heirs and personal representatives; provided, however, that no obligations of the Borrower or the Obligor hereunder can be assigned without prior written consent of Bank. 12. NOTICE OF FINAL AGREEMENT. THIS WRITTEN PROMISSORY NOTE AND ANY OTHER DOCUMENTS EXECUTED IN CONNECTION HEREWITH REPRESENT THE FINAL AGREEMENT BETWEEN THE PARTIES AND MAY NOT BE CONTRADICTED BY EVIDENCE OF PRIOR, CONTEMPORANEOUS OR SUBSEQUENT ORAL AGREEMENTS OF THE PARTIES. THERE ARE NO UNWRITTEN ORAL AGREEMENTS BETWEEN THE PARTIES. BORROWER: ELCOTEL, INC., a Delaware corporation By: /s/ Tracey L. Gray --------------------- Tracey L. Gray, President (CORPORATE SEAL) EX-10.17 10 3RD AMENDMENT TO LOAN AGREEMENT Exhibit 10.17 THIRD AMENDMENT TO LOAN AGREEMENT AND FOURTH AMENDMENT TO COLLATERAL ASSIGNMENT AND SECURITY AGREEMENT THIS THIRD AMENDMENT TO LOAN AGREEMENT, AND FOURTH AMENDMENT TO COLLATERAL ASSIGNMENT AND SECURITY AGREEMENT (the "Amendment") is made effective the 2nd day of October, 1997, by and between ELCOTEL, INC., a Delaware corporation ("Borrower"), ELCOTEL DIRECT, INC., a Delaware corporation ("Guarantor") and NATIONSBANK, N.A. f/k/a NATIONSBANK, N.A. (SOUTH), a National Banking Association, as successor in interest to NATIONSBANK OF FLORIDA, N.A. ("Lender"). RECITALS: WHEREAS, Borrower being indebted to Lender, executed and delivered to Lender a certain promissory note dated January 20, 1994, in the original principal amount of $1,000,000.00, which note is secured by accounts receivable, notes receivable and inventory, and other collateral, as evidenced by, among other loan documents, a Collateral Assignment dated January 20, 1994, and a Security Agreement dated January 20, 1994; and WHEREAS, in connection with an additional $1,000,000.00 line of credit loan Borrower executed a $1,000,000.00 promissory note and a $2,000,000.00 Consolidation Promissory Note, both dated August 31, 1994, as renewed by Renewal Promissory Note dated August 31, 1995 and Renewal Promissory Note dated August 31, 1996 (as further extended by Note Modification Agreement dated August 20, 1997), and executed a Loan Agreement and an Amendment to Collateral Assignment and Security Agreement both dated August 31, 1994 as amended by a First Amendment to Loan Agreement and Second Amendment to Collateral Assignment and Security Agreement dated August 31, 1995, and as further amended by a Second Amendment to Loan Agreement and Third Amendment to Collateral Assignment and Security Agreement dated August 31, 1996; and WHEREAS, Borrower has requested Lender to make an additional Term loan to Borrower in the amount of $3,050,000.00; $950,000.00 and $2,850,000.00 (the "Additional Term Loans"); and WHEREAS, Borrower and Lender desire to amend the terms of the Loan Agreement, Collateral Assignment and the Security Agreement, as previously amended, to reflect the making of the Additional Term Loans; and Guarantor desires to join into the Loan Agreement. NOW THEREFORE, in consideration of the premises and of the agreements herein contained and the agreement by Lender to make the Loan, the parties hereto agree as follows: 1. The above recitals are true and correct and are incorporated herein by this reference. 2. The Note as defined in the Collateral Assignment shall be deemed to include the Promissory Notes in the amount of $3,050,000.00, $950,000.00 and $2,850,000.00 of even date herewith from Borrower. 3. The obligations secured by the Loan Agreement, Collateral Assignment and Security Agreement shall include all debts, obligations, liabilities and agreements of Borrower to Lender, now or hereafter existing, including but not limited to the indebtedness evidenced by the $3,050,000.00, $950,000.00 and $2,850,000.00 Promissory Notes of even date, and all renewals, extensions or modifications thereof. Lender represents to the best of its knowledge there is not currently a reserve requirement imposed by the Federal Reserve System for establishing Lender's Floating Libor Rate, as defined in the Notes, or any other additional costs as defined in Article 2(b) in each of the above referenced Notes. 4. The Security Agreement is amended to provide that Borrower hereby assigns and grants to Lender a security interest in lien in the additional collateral described in Exhibit "A" attached hereto and made a part hereof to secure payment and performance of all of Borrower's obligations to Lender under the Security Agreement, including Borrower's obligations to Lender pursuant to that certain $3,050,000.00, $950,000.00 and $2,850,000.00 Promissory Note of even date herewith, and all renewals, extensions and modification thereof. 5. The $3,050,000.00, $950,000.00 and $2,850,000.00 term loan proceeds shall be used solely to purchase: (1) certain assets of Lucent Technologies ("Lucent") pursuant to that certain Asset Purchase Agreement dated September 30, 1997 and (2) to acquire capital assets from Lucent. To the extent such acquisition may require Lender's consent under the Loan Agreement such consent is hereby given by Lender. 6. Paragraph 4.A.ii. is amended to provide Borrower shall maintain a Debt Service Coverage Ratio of not less than 1.3:1.0 for the fiscal quarter end measured on a rolling four (4) quarter basis from the annual and quarterly financial statements, commencing September 30, 1997. 7. All references to Loan Agreement in the Security Agreement and Collateral Assignment shall mean the Loan Agreement dated August 31, 1994, as amended by Amendment to Loan Agreement dated August 3, 1995, and by Second Amendment to Loan Agreement dated August 31, 1996 and by Third Amendment to Loan Agreement of even date herewith by and between Borrower and Lender. 8. Borrower covenants and agrees that within 60 days from the date hereof, Borrower will provide to Lender, a company prepared balance sheet for Borrower setting forth the new loan indebtedness to Lender and the equity structure of Borrower (including the assets acquired with the Additional Term Loans) as of the date hereof. 9. The parties acknowledge and agree that as additional collateral for Borrower's obligations under the Loan Agreement, Collateral Assignment and Security Agreement, Guarantor has executed and delivered to Lender its Continuing and Unconditional Guaranty (the "Guaranty") dated of even date herewith of Borrower's obligations to Lender, and as security for Borrower's obligations and the Guaranty, a Security Agreement and UCC-1 Financing Statements granting to Lender a security interest in Guarantor's assets. Borrower and Guarantor covenant and agree with Lender that a default under the Guaranty or Guarantor's Security Agreement shall be a default under the Loan Agreement, Collateral Assignment and Security Agreement and all Notes from Borrower to Lender; and similarly, a default by Borrower under the Notes, Loan Agreement, Collateral Assignment and Security Agreement of Borrower shall be a default under the Guaranty and Security Agreement of Guarantor. 10. Lender agrees with Borrower that in the event Borrower is required to pay to the State of Florida documentary stamps in connection with the Notes evidencing the Additional Term Loans, that upon payment in full by Borrower of the documentary stamps, including any fees or penalties in connection therewith, Lender shall immediately refund to Borrower the advisory fee paid by Borrower to Lender as shown on the Loan Settlement Statement of even date herewith. 11. Except as modified herein, all other terms and conditions of the Loan Agreement, Collateral Assignment and the Security Agreement, all as previously amended, shall remain unchanged and in full force and effect. IN WITNESS WHEREOF, the parties hereto have duly executed this Amendment, and shall be conclusively deemed to have executed such on the day and year first written above. NATIONSBANK, N.A., f/k/a NATIONSBANK, N.A., (SOUTH) ELCOTEL, INC., a Delaware a National Banking Association corporation as successor in interest to NATIONSBANK OF FLORIDA, N.A. By: /s/ Nathan Coon By: /s/ Tracey L. Gray ----------------------------- ------------------------------- Nathan Coon Tracey L. Gray Vice President President Address: 1605 Main Street Address: 6428 Parkland Drive Sarasota, FL 34236 Sarasota, FL 34243 (CORPORATE SEAL) (CORPORATE SEAL) ELCOTEL DIRECT, INC., a Delaware corporation By: /s/ Tracey L. Gray, ------------------------------ Tracey L. Gray, Vice President Address: 6428 Parkland Drive Sarasota, FL 34243 (CORPORATE SEAL) EX-10.18 11 EMPLOYMENT AGREEMENT - C. SHELTON JAMES Exhibit 10.18 ELCOTEL, INC. Employment Agreement of C. Shelton James Agreement (this "Agreement") dated as of this 1/st/ day of October, 1997 by and between Elcotel, Inc. (the "Company") and C. Shelton James ("Mr. James") upon the following terms and conditions: Term: ---- Commencement Date: Closing of merger between Elcotel Hospitality Service, Inc. and Technology Service Group, Inc. Termination Date: December 31, 1998 unless sooner terminated as provided herein. Renewal: Except as hereinafter provided, on the Termination Date and on each anniversary of the Termination Date, this Agreement shall automatically continue for an additional year unless the Company shall have given Mr. James written notice of non-renewal at least one hundred eighty (180) days in advance of the Termination Date or an anniversary thereof. Non-Renewal: If such notice of non-renewal is given, Mr. James shall continue as Chairman of the Board of the Company for all or any part of such 180-day period as the Company may request, but he shall nevertheless be entitled to take reasonable time during such period to look for other employment. At the end of such period, Mr. James's employment shall terminate, and the Company shall provide to Mr. James the Severance Benefits (as hereinafter defined). Title & Responsibilities: Mr. James shall be elected Chairman of the Board ------------------------ of Directors and an employee of the Company, and he shall devote such time as he deems necessary to carry out the responsibilities of this position. Salary: During the term of this Agreement, the salary paid to Mr. James ------ shall not be less than ninety-four thousand ($94,000) per year, and shall be subject to annual review for merit or other increases at the sole discretion of the board of directors of the Company. - -------------------------------------------------------------------------------- EXECUTIVE CONFIDENTIAL 1 Benefits: Mr. James shall be entitled to the same benefits as are made -------- available to the Company's other senior executives and on the same terms and conditions as such executives (the "Benefits"). - -------------------------------------------------------------------------------- EXECUTIVE CONFIDENTIAL 2 Bonuses: Mr. James shall be paid an annual incentive bonus (the "Incentive ------- Bonus") as provided in Exhibit A. Stock Option: Mr. James shall be granted a stock option to purchase shares ------------ of the Company's common stock pursuant to a Company stock option plan as provided in Exhibit A. Mr. James shall retain all options previously granted and unexercised which will vest in accordance with their terms. Business Expenses: Mr. James shall be reimbursed (in accordance with ----------------- Company policy from time to time in effect) for all reasonable business expenses incurred by him in the performance of his duties. Indemnification: Mr. James shall be indemnified by the Company with respect --------------- to claims made against him as a director, officer and/or employee of the Company and as a director, officer an/or employee of any subsidiary of the Company to the fullest extent permitted by the Company's certificate of incorporation, by-laws and the General Corporation Law of the State of Delaware. Termination By the Company: Mr. James' employment may be terminated by the -------------------------- Company only as provided below: For Cause: For Cause by written notice to Mr. James and payment to him of salary accrued, but not paid through the date of termination; provided however - If the nature of such Cause involves dishonesty, fraud or serious moral turpitude, such termination shall be effective upon the giving of such notice. If the nature of such Cause does not involve dishonesty, fraud or serious moral turpitude, such termination shall be effective upon the expiration of thirty (30) days after the giving of such notice unless within such thirty-day period, Mr. James has cured the basis of such Cause, or it a cure is not possible within a thirty-day period, if he has diligently and in good faith commenced to effect such cure. Without Cause: Without Cause by prior written notice of termination given to Mr. James and by compliance with the following: In the event that at the date the notice of a termination Without Cause is given there is at least twelve (12) months remaining in the term, such notice of termination shall be sent to - -------------------------------------------------------------------------------- EXECUTIVE CONFIDENTIAL 3 Mr. James no more than seven (7) days prior to the effective date of termination, and the Company (I) on the effective date shall pay to Mr. James his salary in a lump sum for the balance of the term of this Agreement; (ii) shall continue at its expense to provide the Benefits for the balance of the term of this Agreement; and (iii) shall pay to Mr. James the Incentive Bonus and shall satisfy its obligations regarding his stock option when, as, and to the extent provided for in Exhibit A. In the event that at the date the notice of a termination Without Cause is given there is less than twelve (12) months remaining in the term, such notice of termination shall be sent to Mr. James six (6) months prior to the effective date of termination, and during such 6-month period, Mr. James shall continue as Chairman of the Board of the Company for all or any part of such period as the Company may request, but he shall nevertheless be entitled to take reasonable time during such period to look for other employment. At the end of such 6-month period, Mr. James employment shall terminate, and the company shall provide to Mr. James the Severance Benefits. A reduction in Mr. James title, responsibilities or salary may, at Mr. James option, be treated by him as a notice of termination of his employment by the Company without Cause given as of the date of such reduction. Death or Permanent Disability: Upon the death or permanent disability of Mr. James, but only after providing him with the Severance Benefits. Definition of "Cause": "Cause" for purposes of termination by the Company shall be defined as (I) any act or acts by Mr. James of dishonesty or fraud or that constitute serious moral turpitude; or (ii) misconduct of a material nature or a material breach in connection with the performance by him of his responsibilities hereunder that Mr. James knew or should have known would be materially detrimental to the Company or its business. Definition of "Severance Benefits": The "Severance Benefits" shall mean the following: (I) the continuation by the Company for a period of six (6) months of the payment of Mr. James' salary in effect at the date of the termination of his employment; (ii) the continuation by the Company at its expense for a period of six (6) months of the Benefits; and (iii) the payment by the Company of the Incentive Bonus and the satisfaction by - -------------------------------------------------------------------------------- EXECUTIVE CONFIDENTIAL 4 the Company of its obligations regarding Mr. James' stock option when, as and to the extent provided for in Exhibit A. - -------------------------------------------------------------------------------- EXECUTIVE CONFIDENTIAL 5 Termination By Mr. James: ------------------------ Mr. James may terminate his employment under this Agreement by reason of a breach hereof by the Company on twenty (20) days prior written notice to the Company. Mr. James may also terminate his employment under this Agreement by giving the Company one hundred twenty (120) days notice of termination effective on December 31, 1998 or on any date thereafter. Notices: Notices that are required or permitted hereunder shall be given by ------- hand delivery to a courier service providing next day delivery and proof of receipt, or by facsimile transmission (except to Mr. James), as follows: If to the Company at: Elcotel, Inc. 6428 Parkland Drive Sarasota, FL 34243 Attn: President Facsimile: 941-751-4716 If to Mr. James, to his most recent residence address on the books of the Company: or to such other address of a party as to which that party shall notify the other parties in the manner provided herein. Proration: To the extent that proration is not otherwise provided for in --------- this Agreement, all amounts payable to Mr. James under this Agreement shall be deemed earned on a daily basis and shall be prorated based on a 365-day year. Entire Agreement, etc.: This Agreement together with Exhibit A contains the --------------------- entire understanding of the parties except as otherwise expressly contemplated herein; shall not be amended except by written agreement of the parties signed by each of them; shall be binding upon and inure to the benefit of the parties and their successors, personal representatives and assigns; and shall supersede all prior employment agreements between the parties. No representation, affirmation of fact, course of prior dealings, promise or condition in connection herewith not incorporated herein shall be binding on the parties. - -------------------------------------------------------------------------------- EXECUTIVE CONFIDENTIAL 6 No waiver of any term or condition contained herein shall be binding upon the parties unless made in writing and signed by the party to be bound thereby. In Witness Whereof, the parties have executed and delivered this Agreement as of the date first set forth above. EMPLOYEE: ELCOTEL, INC. By: /s/ C. Shelton James By: /s/ Tracey L. Gray, --------------------- - -------------------------- C. Shelton James Tracey L. Gray, President and Chief Operating Officer SJAGR. - -------------------------------------------------------------------------------- EXECUTIVE CONFIDENTIAL 7 EXHIBIT A INCENTIVE BONUS PLAN C. Shelton James Employment Agreement An annual incentive bonus will be paid equal to 50% of base salary if the Company achieves its after tax profit plan for the year. If the Company is profitable and earns less than its plan, then a bonus will be equal to the percentage achievement of the annual plan times 50% of base salary. If the Company achieves profits in excess of its annual plan then, at the discretion of the Board, an additional bonus in excess of 50% of base salary may be paid. SJAGR. - -------------------------------------------------------------------------------- EXECUTIVE CONFIDENTIAL 8 EX-10.19 12 EMPLOYMENT AGREEMENT - TRACEY J. GRAY Exhibit 10.19 ELCOTEL, INC. Employment Agreement of Tracey L. Gray Agreement (this "Agreement") dated as of this 1/st/ day of October, 1997 by and between Elcotel, Inc. (the "Company") and Tracey L. Gray ("Mr. Gray") upon the following terms and conditions: Term: ---- Commencement Date: Closing of merger between Elcotel Hospitality Service, Inc. and Technology Service Group, Inc. Termination Date: December 31, 1998 unless sooner terminated as provided herein. Renewal: Except as hereinafter provided, on the Termination Date and on each anniversary of the Termination Date, this Agreement shall automatically continue for an additional year unless the Company shall have given Mr. Gray written notice of non-renewal at least one hundred eighty (180) days in advance of the Termination Date or an anniversary thereof. Non-Renewal: If such notice of non-renewal is given, Mr. Gray shall continue as President and Chief Executive Officer of the Company for all or any part of such 180-day period as the Company may request, but he shall nevertheless be entitled to take reasonable time during such period to look for other employment. At the end of such period, Mr. Gray's employment shall terminate, and the Company shall provide to Mr. Gray the Severance Benefits (as hereinafter defined). Title & Responsibilities: Assuming merger of Elcotel Hospitality Service, ------------------------ Inc. and Technology Service Group, Inc., Mr. Gray shall be elected President and Chief Executive Officer and he shall devote such time as he deems necessary to carry out the responsibilities of those positions. Salary: During the term of this Agreement, the salary paid to Mr. Gray ------ shall not be less than one hundred seventy thousand dollars ($170,000) per year, and shall be subject to annual review for merit or other increases in the sole discretion of the board of directors of the Company. - -------------------------------------------------------------------------------- EXECUTIVE CONFIDENTIAL 1 Benefits: Mr. Gray shall be entitled to the same benefits as are made -------- available to the Company's other senior executives and on the same terms and conditions as such executives (the "Benefits"). - -------------------------------------------------------------------------------- EXECUTIVE CONFIDENTIAL 2 Bonuses: Mr. Gray shall be paid an annual incentive bonus (the "Incentive ------- Bonus") as provided in Exhibit A. Stock Option: Mr. Gray shall be eligible for additional stock option grants ------------ to purchase shares of the Company's common stock pursuant to a Company stock option plan as provided in Exhibit A. Mr. Gray shall retain all options previously granted and unexercised which will vest in accordance with their terms. Business Expenses: Mr. Gray shall be reimbursed (in accordance with Company ----------------- policy from time to time in effect) for all reasonable business expenses incurred by him in the performance of his duties. Indemnification: Mr. Gray shall be indemnified by the Company with respect --------------- to claims made against him as a director, officer and/or employee of the Company and as a director, officer and/or employee of any subsidiary of the Company to the fullest extent permitted by the Company's certificate of incorporation, by-laws and the General Corporation Law of the State of Delaware. Termination By the Company: Mr. Gray's employment may be terminated by the -------------------------- Company only as provided below: For Cause: For Cause by written notice to Mr. Gray and payment to him of salary accrued, but not paid through the date of termination; provided however - If the nature of such Cause involves dishonesty, fraud or serious moral turpitude, such termination shall be effective upon the giving of such notice. If the nature of such Cause does not involve dishonesty, fraud or serious moral turpitude, such termination shall be effective upon the expiration of thirty (30) days after the giving of such notice unless within such thirty-day period, Mr. Gray has cured the basis of such Cause, or if a cure is not possible within a thirty-day period, if he has diligently and in good faith commenced to effect such cure. Without Cause: Without Cause by prior written notice of termination given to Mr. Gray and by compliance with the following: In the event that at the date the notice of a termination without Cause is given there is at least twelve (12) months remaining in the term, such notice of termination shall be sent to Mr. Gray no more than seven (7) days prior to the effective date of termination, and the Company (i) on the effective date shall pay to Mr. Gray his - -------------------------------------------------------------------------------- EXECUTIVE CONFIDENTIAL 3 salary in a lump sum for the balance of the term of this Agreement; (ii) shall continue at its expense to provide the Benefits for the balance of the term of this Agreement; and (iii) shall pay to Mr. Gray the Incentive Bonus and shall satisfy its obligations regarding his stock option when, as, and to the extent provided for in Exhibit A. In the event that at the date the notice of a termination without Cause is given there is less than twelve (12) months remaining in the term, such notice of termination shall be sent to Mr. Gray six (6) months prior to the effective date of termination, and during such 6-month period, Mr. Gray shall continue as President and Chief Executive Officer of the Company for all or any part of such period as the Company may request, but he shall nevertheless be entitled to take reasonable time during such period to look for other employment. At the end of such 6-month period, Mr. Gray's employment shall terminate, and the Company shall provide to Mr. Gray the Severance Benefits. A reduction in Mr. Gray title, responsibilities or salary may, at Mr. Gray option, be treated by him as a notice of termination of his employment by the Company without Cause given as of the date of such ------- reduction. Death or Permanent Disability: Upon the death or permanent disability of Mr.Gray, but only after providing him with the Severance Benefits. Definition of "Cause": "Cause" for purposes of termination by the Company shall be defined as (i) any act or acts by Mr. Gray of dishonesty or fraud or that constitute serious moral turpitude; or (ii) misconduct of a material nature or a material breach in connection with the performance by him of his responsibilities hereunder that Mr. Gray knew or should have known would be materially detrimental to the Company or its business. Definition of "Severance Benefits": The "Severance Benefits" shall mean the following: (i) the continuation by the Company for a period of six (6) months of the payment of Mr. Gray's salary in effect at the date of the termination of his employment; (ii) the continuation by the Company at its expense for a period of six (6) months of the Benefits; and (iii) the payment by the Company of the Incentive Bonus and the satisfaction by the Company of its obligations regarding Mr. Gray's stock option when, as and to the extent provided for in Exhibit A. Termination By Mr. Gray: ----------------------- - -------------------------------------------------------------------------------- EXECUTIVE CONFIDENTIAL 4 Mr. Gray may terminate his employment under this Agreement by reason of a breach hereof by the Company on twenty (20) days prior written notice to the Company. Mr. Gray may also terminate his employment under this Agreement by giving the Company one hundred twenty (120) days notice of termination effective on December 31, 1997 or on any date thereafter. Notices: Notices that are required or permitted hereunder shall be given by ------- hand delivery, by delivery to a courier service providing next day delivery and proof of receipt, or by facsimile transmission (except to Mr. Gray), as follows: If to the Company at: Elcotel, Inc. 6428 Parkland Drive Sarasota, FL 34243 Attn: Chairman of the Board Facsimile: 941-751-4716 If to Mr. Gray, to his most recent residence address on the books of the Company: or, to such other address of a party as to which that party shall notify the other parties in the manner provided herein. Proration: To the extent that proration is not otherwise provided for in --------- this Agreement, all amounts payable to Mr. Gray under this Agreement shall be deemed earned on a daily basis and shall be prorated based on a 365-day year. Entire Agreement, etc.: This Agreement together with Exhibit A contains the --------------------- entire understanding of the parties except as otherwise expressly contemplated herein; shall not be amended except by written agreement of the parties signed by each of them; shall be binding upon and inure to the benefit of the parties and their successors, personal representatives and assigns; and shall supersede all prior employment agreements between the parties. No representation, affirmation of fact, course of prior dealings, promise or condition in connection herewith not incorporated herein shall be binding on the parties. - -------------------------------------------------------------------------------- EXECUTIVE CONFIDENTIAL 5 No waiver of any term or condition contained herein shall be binding upon the parties unless made in writing and signed by the party to be bound thereby. In Witness Whereof, the parties have executed and delivered this Agreement as of the date first set forth above. EMPLOYEE: ELCOTEL, INC. By: /s/ Tracey L. Gray By: /s/ C. Shelton James --------------------- -------------------------- Tracey L. Gray C. Shelton James, Chairman and Chief Executive Officer TGAGR. - -------------------------------------------------------------------------------- EXECUTIVE CONFIDENTIAL 6 EXHIBIT A INCENTIVE BONUS PLAN Tracey L. Gray Employment Agreement An annual incentive bonus will be paid equal to 50% of base salary if the Company achieves its after tax profit plan for the year. If the Company is profitable and earns less than its plan, then a bonus will be equal to the percentage achievement of the annual plan times 50% of base salary. If the Company achieves profits in excess of its annual plan then, at the discretion of the Board, an additional bonus in excess of 50% of base salary may be paid. TGAGR. - -------------------------------------------------------------------------------- EXECUTIVE CONFIDENTIAL 7 EX-23.1 13 CONSENT OF DELOITTE & TOUCHE, REGISTRANT FINANCIAL EXHIBIT 23.1 INDEPENDENT AUDITORS' CONSENT We consent to the incorporation by reference in this Registration Statement of Elcotel, Inc. and subsidiaries on Form S-4 of our report dated June 23, 1997, appearing in the Annual Report on Form 10-K of Elcotel, Inc. for the year ended March 31, 1997 and to the reference to us under the heading "Experts" in the Prospectus, which is part of this Registration Statement. DELOITTE & TOUCHE LLP Tampa, Florida October 17, 1997 EX-23.2 14 CONSENT OF DELOITTE & TOUCHE, FINANCIALS OF TSG EXHIBIT 23.2 INDEPENDENT AUDITORS' CONSENT We consent to the use in this Registration Statement of Elcotel, Inc. on Form S- 4 of our report on the consolidated financial statements of Technology Service Group, Inc. and subsidiary dated May 23, 1997 (June 9, 1997 as to the last paragraph of Note 14) appearing in the Joint Proxy Statement-Prospectus, which is a part of this Registration Statement. We also consent to the reference to us under the heading "Experts" in such Joint Proxy Statement-Prospectus. /s/ Deloitte & Touche llp Atlanta, Georgia October 20, 1997 EX-23.3 15 CONSENT OF MURRAY, DEVINE & CO., INC. EXHIBIT 23.3 Board of Directors ELCOTEL, INC. 6428 Parkland Drive Sarasota, FL 34243 Re: Consent of Murray, Devine & Co., Inc. Gentlemen: We hereby consent to (i) the inclusion of our opinion letter, dated August 5, 1997, to the Board of Directors of Elcotel, Inc. as Appendix B to the Joint Proxy Statement-Prospectus of Elcotel, Inc. and Technology Service Group, Inc, relating to the Merger referred to therein and (ii) all reference to Murray, Devine & Co. in the sections captioned "Summary--Opinion of Elcotel's Financial Advisor Murray Devine" and "The Merger--Opinion of Murray Devine" of the Joint Proxy Statement-Prospectus of Elcotel, Inc. and Technology Service Group, Inc. which forms a part of this Registration Statement on Form S-4. MURRAY, DEVINE & CO., INC. By: EX-23.6 16 CONSENT OF VINCENT C. BISCEGLIA EXHIBIT 23.6 Board of Directors ELCOTEL, INC. 6428 Parkland Drive Sarasota, FL 34243 Re: Consent of Person about to Become a Director Gentlemen: I, Vincent C. Bisceglia, hereby consent to being named in the Registration Statement on Form S-4 of Elcotel, Inc. as a person designated as a director of Elcotel, Inc. /s/ Vincent C. Bisceglia Vincent C. Bisceglia Date: October 20, 1997 EX-23.7 17 CONSENT OF MARK L. PLAUMANN EXHIBIT 23.7 Board of Directors ELCOTEL, INC. 6428 Parkland Drive Sarasota, FL 34243 Re: Consent of Person about to Become a Director Gentlemen: I, Mark L. Plaumann, hereby consent to being named in the Registration Statement on Form S-4 of Elcotel, Inc. as a person designated as a director of Elcotel, Inc. /s/ Mark L. Plaumann Mark L. Plaumann Date: October 20, 1997 EX-23.8 18 CONSENT OF KENNETH RUBIN EXHIBIT 23.8 Board of Directors ELCOTEL, INC. 6428 Parkland Drive Sarasota, FL 34243 Re: Consent of Person about to Become a Director Gentlemen: I, Kenneth Rubin, hereby consent to being named in the Registration Statement on Form S-4 of Elcotel, Inc. as a person designated as a director of Elcotel, Inc. /s/ Kenneth Rubin Kenneth Rubin Date: October 20, 1997 EX-23.9 19 CONSENT OF DAVID R. A. STEADMAN EXHIBIT 23.9 Board of Directors ELCOTEL, INC. 6428 Parkland Drive Sarasota, FL 34243 Re: Consent of Person about to Become a Director Gentlemen: I, David R.A. Steadman, hereby consent to being named in the Registration Statement on Form S-4 of Elcotel, Inc. as a person designated as a director of Elcotel, Inc. /s/ David R.A. Steadman David R.A. Steadman Date: October 20, 1997 EX-99.1 20 FORM OF PROXY CARD - ELCOTEL EXHIBIT 99.1 [Form of Proxy Card] (Front Side of Proxy Card) ELCOTEL, INC. PROXY SOLICITED ON BEHALF OF THE BOARD OF DIRECTORS The undersigned hereby appoints Tracey L. Gray, C. Shelton James and Ronald M. Tobin, or any of them with full power of substitution, proxies to vote at the Annual Meeting of Stockholders of Elcotel, Inc. ("Elcotel") to be held on Friday, December 5, 1997 at 9:00 A.M., local time and at any adjournment or adjournments thereof, hereby revoking any proxies heretofore given, to vote all shares of common stock of Elcotel held or owned by the undersigned as directed, and in their discretion upon such other matters as may come before the meeting. [X] Please mark your votes as in this example Nominees: 1. Election of [ ] [ ] Tracey L. Gray FOR WITHHELD C. Shelton James Dwight Jasmann Charles H. Moore Thomas E. Patton T. Raymond Suplee Thomas R. Wiltse For except vote withheld from the following nominee(s): - --------------------------------------------------- 2. The issuance of shares of common stock, par value $0.01 per share, of Elcotel ("Elcotel Common Stock") in connection with the proposed merger of Elcotel Hospitality Service, Inc., a wholly-owned subsidiary of Elcotel with and into Technology Service Group, Inc. [ ] [ ] [ ] FOR AGAINST ABSTAIN (To Be Continued And Signed On The Reverse Side) (Backside of Proxy Card) 3. Amendment to the Certificate of Incorporation of Elcotel to increase the number of shares of Elcotel Common Stock authorized for issuance to 30,000,000. [ ] [ ] [ ] FOR AGAINST ABSTAIN 4. Ratification of the appointment of Deloitte & Touche LLP as Elcotel's independent public accountants for the fiscal year ending March 31, 1998. [ ] [ ] [ ] FOR AGAINST ABSTAIN 5. Amendment to the 1991 Stock Option Plan to increase by 500,000 the number of shares reserved for issuance pursuant to such plan. [ ] [ ] [ ] FOR AGAINST ABSTAIN 6. Amendment to the Directors Stock Option Plan to, among other things, increase by 50,000 the number of shares reserved for issuance pursuant to such plan. [ ] [ ] [ ] FOR AGAINST ABSTAIN IF NO DIRECTION IS MADE, THIS PROXY WILL BE VOTED FOR THE ELECTION OF THE NOMINEES FOR DIRECTORS AND FOR PROPOSALS 2, 3, 4, 5 AND 6, THIS PROXY WILL ALSO BE VOTED ON SUCH OTHER MATTERS AS MAY PROPERLY COME BEFORE THE MEETING. PLEASE VOTE, SIGN, DATE AND RETURN THIS PROXY CARD PROMPTLY USING THE ENCLOSED ENVELOPE. SIGNATURE_____________________________________ DATE_______________ SIGNATURE_____________________________________ DATE_______________ NOTE: Please sign exactly as name appears hereon. Joint owners should each sign. When signing as attorney, executor, administrator, trustee or guardian, please give full title as such. EX-99.2 21 FORM OF PROXY CARD - TSG EXHIBIT 99.2 [Form of Proxy] TECHNOLOGY SERVICE GROUP, INC. PROXY SOLICITED ON BEHALF OF THE BOARD OF DIRECTORS The undersigned hereby appoints David R.A. Steadman, Vincent C. Bisceglia and William H. Thompson, or any of them with full power of substitution, proxies to vote at the Special Meeting of Stockholders of Technology Service Group, Inc. ("TSG") to be held on Friday, December 5, 1997 at 10:00 A.M., local time and at any adjournment or adjournments thereof, hereby revoking any proxies heretofore given, to vote all shares of common stock of TSG held or owned by the undersigned as directed, and in their discretion upon such other matters as may come before the meeting. [X] Please mark your votes as in this example 1. Approval of the proposed merger of Elcotel Hospitality Service, Inc., a wholly-owned subsidiary of Elcotel, Inc. ("Merger Subsidiary") with and into TSG pursuant to an Agreement and Plan of Merger, dated as of August 13, 1997, among Elcotel, Inc., TSG and Merger Subsidiary (the "Merger") and any other actions as may be required in furtherance of the Merger. [ ] [ ] [ ] FOR AGAINST ABSTAIN IF NO DIRECTION IS MADE, THIS PROXY WILL BE VOTED FOR PROPOSAL 1. THIS PROXY WILL ALSO BE VOTED ON SUCH OTHER MATTERS AS MAY PROPERLY COME BEFORE THE MEETING. PLEASE VOTE, SIGN, DATE AND RETURN THIS PROXY PROMPTLY USING THE ENCLOSED ENVELOPE. SIGNATURE_____________________________________ DATE_______________ SIGNATURE_____________________________________ DATE_______________ NOTE: Please sign exactly as name appears hereon. Joint owners should each sign. When signing as attorney, executor, administrator, trustee or guardian, please give full title as such. -----END PRIVACY-ENHANCED MESSAGE-----