-----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, Ww/sXcZGN/nyj64mFvdFCI+7RSseddujwmLmb0T4PSddioITeviMGIptqiU4v/Xm W/QcqoiXmpbXUbrLfsbJPg== 0000842722-98-000017.txt : 19980810 0000842722-98-000017.hdr.sgml : 19980810 ACCESSION NUMBER: 0000842722-98-000017 CONFORMED SUBMISSION TYPE: 10QSB PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19980630 FILED AS OF DATE: 19980807 SROS: NONE FILER: COMPANY DATA: COMPANY CONFORMED NAME: NETWORK SYSTEMS INTERNATIONAL INC CENTRAL INDEX KEY: 0000842722 STANDARD INDUSTRIAL CLASSIFICATION: BLANK CHECKS [6770] IRS NUMBER: 870460247 STATE OF INCORPORATION: NV FISCAL YEAR END: 0930 FILING VALUES: FORM TYPE: 10QSB SEC ACT: SEC FILE NUMBER: 000-22991 FILM NUMBER: 98679040 BUSINESS ADDRESS: STREET 1: 200 NORTH ELM STREET CITY: GREENSBORO STATE: NC ZIP: 27401 BUSINESS PHONE: 6024648900 MAIL ADDRESS: STREET 1: 200 N ELM ST CITY: GREENSBORO STATE: NC ZIP: 27401 FORMER COMPANY: FORMER CONFORMED NAME: AQUA AUSTRALIS INC DATE OF NAME CHANGE: 19940322 10QSB 1 1 d:\sec\10Q3Q97.doc 6:33 PM 8/4/98 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-QSB X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT of 1934. For the quarterly period ended June 30,1998 OR __ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934. For the transition period from ______, 19__, to_____, 19__. Commission File Number: 0-22991 CUSIP NUMBER 64121L 10 3 NETWORK SYSTEMS INTERNATIONAL, INC. (Exact Name of Registrant as Specified in Charter) Nevada 87-0460247 (State or Other Jurisdiction of (I.R.S. Employer Identification Incorporation or Organization) Number) 200 North Elm Street, Greensboro, North Carolina 27401 (Address of Principal Executive Offices,Including Zip Code) (336) 271-8400 (Registrant's Telephone Number, Including Area Code) AQUA AUSTRALIS, INC. 1901 East University, Suite 200, Mesa, AZ 85023 (Former Name, Former Address and Former Fiscal Year, if Changed) Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and has been subject to such filing requirements for the past 90 days. X YES ___ NO There were 7,577,179 shares of the Registrant's $.001 par value common stock and 7,042 shares of Registrants $.001 par value preferred stock outstanding as of June 30, 1998. Transitional Small Business Format (check one) Yes __ No X NETWORK SYSTEMS INTERNATIONAL, INC. Contents Part I - Financial Information Page Item 1. Financial Statements Consolidated Balance Sheet 3 Consolidated Statements of Income Three and Nine months ended June 30, 1998 and 1997 4 Consolidated Statements of Cash Flow Nine months ended June 30, 1998 and 1997 5 Consolidated Statement of Changes in Stockholders' Equity 6 Notes to Consolidated Financial Statements 7 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 16 Part II Item 5. Other matters 19 Item 6. Exhibits and Reports on Form 8-K 19 Signatures 19 Exhibit Index 20 PART I. FINANCIAL STATEMENTS Network Systems International, Inc. and Subsidiaries Consolidated Balance Sheet June 30, 1998
(Unaudited) Assets Current Assets: Cash $1,422,394 Accounts receivable, trade, net of 4,087,281 allowance of $725,000 Note receivable, current portion 30,000 Accounts receivable, related parties 107,873 Other current assets 24,184 Total current assets 5,671,732 Property and equipment, net of accumulated 1,221,734 depreciation Other Assets Note receivable, net of current portion 118,420 Software development costs, net of 1,387,092 accumulated amortization Other 103,769 1,609,281 $8,502,747 Liabilities and Stockholders' Equity Current Liabilities: Note payable, current portion 31,000 Capital lease obligation, current portion 79,000 Accounts payable, trade 1,495,357 Other accrued liabilities 88,350 Income taxes payable 318,476 Deferred revenue 302,962 Total current liabilities $2,315,145 Long Term Liabilities: Deferred income taxes 375,000 Note payable, net of current maturities 331,485 Capital lease obligation, net of current 105,910 maturities Total long term liabilities 812,395 Stockholders'Equity Preferred Stock; $.001 par value;authorized 12,500 shares; issued and outstanding 7,042 shares 7 Common Stock; $.001 par value; authorized 100,000,000 shares; issued and outstanding 7,577,179 shares 7,577 Capital in excess of par value 3,124,246 Retained Earnings 2,243,377 Total stockholders'equity 5,375,207 $8,502,747
The accompanying notes are an integral part of the consolidated financial statements. Network Systems International, Inc. and Subsidiaries Consolidated Statements of Income (Unaudited)
Three Months Ended Nine Months Ended June 30 June 30 1998 1997 1998 1997 Revenue: Licensing and $1,718,295 $1,400,567 $5,559,667 $3,773,225 servicing revenue Equipment revenue 1,703,906 1,572,619 4,288,249 2,537,575 Total revenue 3,422,201 2,973,186 9,847,916 6,310,800 Operating expenses: Cost of sales and services 1,897,514 1,659,309 5,034,722 3,212,494 Research and development 118,211 49,375 333,786 210,611 General and administrative 615,589 318,971 1,873,410 991,510 2,631,314 2,027,655 7,241,918 4,414,615 Operating income 790,887 945,531 2,605,998 1,896,185 Other income (expenses): Interest, net 17,309 (11,633) 31,037 (52,344) Other, net 1,618 6,872 16,624 9,894 18,927 (4,761) 47,661 (42,450) Income before income tax provision 809,814 940,770 2,653,659 1,853,735 Income tax provision 263,100 297,000 918,600 601,000 Net income 546,714 643,770 1,735,059 1,252,735 Earnings per common share .07 .08 .22 .17 Earnings per common share - assuming dilution .07 .08 .22 .17
The accompanying notes are an integral part of the consolidated financial statements. NETWORK SYSTEMS INTERNATIONAL, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOW (Unaudited)
Nine Months Ended June 30 1998 1997 Operating activities Net income $1,735,059 $1,252,735 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 1,231,349 978,500 Promotional fees paid with stock 72,000 - Provision for bad debts 273,014 159,593 Change in operating assets and liabilities: Accounts receivable and (2,694,204) (1,514,826) unbilled receivables Prepaid assets, other receivables, and other assets 264,280 (20,591) Accounts payable and accrued liabilities 1,462,686 313,860 Income tax payable 318,476 212,901 Unearned revenue 41,977 73,366 Deferred income taxes (226,300) 75,990 Net billings over (under) costs uncompleted contracts - (462,843) Total adjustments 743,278 (184,050) Net cash provided by operating activities 2,478,337 1,068,685 Investing activities Acquisition of property and equipment (354,957) (143,367) Software development (897,550) (1,190,532) Issuance of Note Receivable (200,000) - Payment received on Note Receivable 220,432 - Increase in cash surrender value of life insurance (34,473) (30,281) Net cash (used in) investing activities (1,266,548) (1,364,180) Financing activities Payment on notes payable, long- term debt and capital leases (76,137) (93,289) Net proceeds from issuance of - 856,689 preferred stock Dividends paid (73,289) (33,053) Net borrowings (payments) on line of credit (131,382) 33,498 Net cash (used in) provided by financing activities (280,808) 763,845 Net increase in cash 930,981 468,350 Cash at October 1 491,413 77,487 Cash at June 30 $1,422,394 $ 545,837 Supplemental disclosures of cash flow information and noncash investing and financing activities Cash paid during the period for: Interest $ 33,740 $ 52,344 Taxes $ 600,124 $ 308,700
During the first quarter of 1998, the Company issued 56,250 shares of its common stock recorded at $132,000 as payment for promotional expenditures of which $72,000 was recorded during the first quarter of 1998 and $60,000 during fiscal 1997. During the period ended June 30, 1998, 5,267 shares of preferred stock were converted into 263,375 shares of common stock. The accompanying notes are an integral part of the financial statements. Network Systems International, Inc. and Subsidiaries Consolidated Statement of Changes in Stockholders' Equity Nine months ended June 30, 1998 (Unaudited)
Common Stock Preferred Stock Capital $0.001 $0.001 in Number Par Number Par Excess Retained of Value of Value of Par Earnings Total Shares Shares Value Balance September 30, 1997 7,257,554 $7,258 12,309 $12 $2,992,560 $581,607 $3,581,437 Issuance of common stock 56,250 56 131,944 132,000 Conversion of preferred 263,375 263 (5,267) (5) (258) stock Net income for the nine month period ended June 30,1998 1,735,059 1,735,059 Dividends on preferred stock _________ __ ___ _____ ___ __________ (73,289) (73,289) Balance June 30, 1998 7,577,179 $7,577 7,042 $ 7 $3,124,246 $2,243,377 $5,375,207
The accompanying notes are an integral part of the consolidated financial statements. Network Systems International, Inc. and Subsidiaries Notes to Consolidated Financial Statements For the Nine Months Ended June 30, 1998 and June 30, 1997 (Unaudited) 1. Background Information Network Systems International, Inc. (the Company), was incorporated on September 21, 1988 in the State of Nevada. On April 22, 1996, the Company completed a merger whereby two of its wholly owned subsidiary corporations merged with two North Carolina corporations, with the North Carolina corporations being the surviving corporations in the merger. Immediately thereafter, the Company, with the approval of its shareholders, caused its corporate charter to be amended to change its name to Network Systems International, Inc. The newly named company is now the parent company of two wholly owned subsidiary corporations: Network Information Services, Inc. (NIS) and Network Investment Group, Inc. (NIG), both North Carolina corporations. As a result of the merger, accounted for as a reverse acquisition which is similar to the purchase method of accounting, shareholders of NIS and NIG caused the transfer of all of their shares of common stock in the companies, which had a total assets value of approximately $3,800,000, to the Company in exchange for 6,562,720 shares of common stock of the Company. NIS was incorporated under the laws of the State of North Carolina on September 9, 1985 and develops, licenses, and supports software products primarily for the textile, sewn products and process manufacturing industries. Operations are concentrated in North and South Carolina, however, NIS has clients throughout the east coast of the United States. It employs approximately 56 full-time associates. NIS is headquartered in Greensboro, North Carolina and has satellite offices in Greenville, S.C., Wilmington, N.C., Matthew's, N.C. and Florence, S.C. NIG was incorporated under the laws of the State of North Carolina on April 7, 1993 and sells computer hardware to manufacturing industries. Operations are concentrated in North Carolina and South Carolina, however, it has clients throughout the east coast of the United States. The corporate headquarters of NIG are located in Greensboro, North Carolina and operates in cooperation with its supply partners, IBM Corporation, REAL Applications, Ltd., TEKLOGIX and PERLE Systems. The Company changed their year end from December 31 to September 30 in mid 1996. In November of 1996, the Company set aside 625,000 shares of its unissued common stock to be awarded to key associates of the Company at a later date. In December 1996 the Company entered into an agreement with an underwriter to promote the sale of 15,625 shares of preferred stock in a private placement stock offering. The Company sold 12,309 shares of Series A preferred stock at a purchase price of $100 per share. Each share of preferred stock receives an annual cumulative dividend of $12, payable monthly, and is convertible into 50 shares of common stock at the holders discretion or upon call by the Company. Upon liquidation of the Company, the holders of this preferred stock are entitled to receive $100 per share, plus an amount equal to all dividends accrued and unpaid to the date of final distribution. The preferred stock is redeemable for cash at the option of the company at any time after January 12, 1998 based on a sliding payment scale over time. Holders of the preferred stock have no voting privileges. The Company raised $856,689 in connection with this private placement offering which is net of offering expenses of $128,011. On July 16, 1997, the Company entered into a six-month agreement with a director of the Company to promote its stock. In exchange for the promoters efforts, the Company agreed to issue common stock for services rendered if the common stock achieved certain minimum bid price levels. Through June 30, 1998, the promoter had earned 56,250 shares of common stock under the terms of the agreement. An additional 37,500 shares of the Company's common stock became due to the promoter upon acceptance of the Company's application for listing on NASDAQ as indicated below. On January 12, 1998 the Board of Directors authorized a five for four split on the outstanding common and preferred stock of the Company for stockholders of record as of January 16, 1998. All references in the accompanying financial statements to the number of shares have been restated to reflect this transaction. On July 10, 1998 the Company was officially approved for listing on NASDAQ and the Company's common stock began trading on NASDAQ Small Cap under the symbol NESI on that date. 2. Summaries of Significant Accounting Policies Basis of Preparation: The financial statements consolidate the Accounts of Network Systems International, Inc. and its wholly owned subsidiaries Network Information Services, Inc. and Network Investment Group, Inc. In the opinion of management, all adjustments, consisting only of normal recurring adjustments necessary for a fair statement of (a) the results of operations for the three and nine month periods ended June 30, 1998 and 1997, (b) the financial position at June 30, 1998, and (c) cash flows for the nine month periods ended June 30, 1998 and 1997, have been made. 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 consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Financial Instruments: Financial instruments, which potentially subject the Company to concentrations of credit risk, consist primarily of trade receivables. The Company performs on-going credit evaluations of its customers' financial condition. Cash deposits with two institutions are in excess of The Federal Deposit Insurance Corporations average limit of $100,000. Property and Equipment: Property and equipment are recorded at cost. Depreciation is computed using both straight-line and accelerated methods for financial reporting and income tax purposes. Assets are depreciated for financial reporting purposes based on estimated useful lives as follows: Building 39 Leasehold improvements 7-39 Furniture and fixtures 7 Office equipment 5-7 Computer equipment 5-7 Computer software 3-5 Computer software & equipment under capital lease 3-5 Software Development Cost: The Company capitalizes internally generated software development costs in compliance with Statement of Financial Accounting Standards No. 86, "Accounting for the Costs of Computer Software to be Sold, Leased, or Otherwise Marketed". The Company capitalizes the direct costs and allocated overhead associated with the development of software products. Initial costs are charged to operations as research and development prior to the development of a detailed program design or a working model. Capitalization of computer software development costs begins upon the establishment of technical feasibility for the product. Costs incurred subsequent to the product release are charged to operations. Capitalized software development costs amounted to $897,550 and $1,190,532 for the nine-month period ended June 30, 1998 and 1997, respectively. The Company capitalized software development costs of $335,500 and $428,218 for the three-month periods ended June 30, 1998 and 1997, respectively. Amortization of capitalized computer software development costs begins when the products are available for general release to customers, and is computed on a product-by-product basis as the greater of a) the ratio of current gross revenues for a product to the total of current and anticipated future gross revenues for the product or b) the straight-line method over the remaining estimated economic life of the product. The Company has estimated that the useful economic life of its products is two years. Amortization expense of capitalized software cost amounted to $1,102,251 and $843,348 for the nine month period ended June 30, 1998 and 1997, respectively, and is included in cost of sales. Amortization expense for the three-month periods ended June 30, 1998 and 1997 totaled $367,532 and $326,434, respectfully. Software development costs at June 30, 1998 consist of the following: Software Development Costs 3,598,371 Less Accumulated Amortization (2,211,279) 1,387,092 Revenue: The Company generates several types of revenue which are accounted for as follows: Revenue from the sale of software licenses is recognized after shipment and fulfillment of all major obligations under the terms of the licensing agreements. The licensing agreements are typically for the use of company products and are usually restricted by the number of copies, the number of users and the term. Revenue from "time and materials" contracts is recognized when the services are performed. Services performed that have been authorized but may not be currently billable are classified as unbilled account receivables. Revenues from fixed price contracts are recognized using the percentage-of-completion method, measured by direct hours. Contract costs include direct labor combined with allocations of operational overhead and other direct costs. Provisions for estimated losses on uncompleted contracts are made in the period in which such losses are determined. Changes in job performance, job conditions and estimated profitability which may result in revisions to costs and revenue are recognized in the period in which the revenues are determined. Support agreements generally call for the Company to provide technical support and certain software updates to customers. Revenue on support and software update rights is recognized ratably over the term of the support agreement. The Company provides consulting and educational services to its customers. Revenue from such services is generally recognized as the services are performed. Hardware revenue is recognized when the product is shipped to the customer. In October, 1997, the American Institute of Certified Public Accountants issued Statement of Position Number 97-2 "Software Revenue Recognition". This statement provides recognition and measurement guidance in accounting for revenue from selling, leasing or licensing of software and is effective for transactions entered into in fiscal years beginning after December 15, 1997. The Company has elected to adopt this statement. The adoption of this statement does not have a material effect on the Company's financial statements. Advertising Costs: Advertising costs, except for costs associated with direct response advertising, are charged to operations when incurred. The costs of direct response advertising are capitalized and amortized over the period during which future benefits are expected to be received. Advertising expense amounted to $35,669 and $72,694 for the nine-month periods ended June 30, 1998 and June 30, 1997, respectively. Advertising expense for the three- month periods ended June 30, 1998 and 1997 totaled $14,418 and $22,010, respectively. No material amounts were capitalized during the nine-month period ended June 30, 1998. Advertising costs of $25,673 were capitalized during the nine-month period ended June 30, 1997. Income Tax: Prior to the merger on April 22, 1996, the principal operating subsidiary of the Company (NIS) was treated as an S corporation for tax purposes. As such, income and deductions attributable to NIS were reported by its shareholders, and no tax expense or liability was recorded by the Company up until such date. Activities of the Company and its other subsidiary prior to that date did not give rise to a material liability for income taxes. Beginning in April, 1996, income taxes are provided for transactions reported in the financial statements. Deferred income taxes are provided for when transactions are reflected in income for financial reporting purposes in a year other than the year of their inclusion in taxable income. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Earnings Per Share: The consolidated financial statements are presented in accordance with Statement of Financial Accounting Standards No. 128 (SFAS 128), "Earnings Per Share". Basic earnings per share is computed using the weighted average number of common shares outstanding during the period. Diluted earnings per share reflect the potential dilution from the exercise or conversion of securities into common stock. All earnings per share amounts for all periods presented have been restated to give effect to the application of SFAS 128. 3. Accounts Receivable, Related Parties. Accounts Receivable from related parties at June 30, 1998, consist of amounts due from three (3) shareholders of the Company that bear interest at five percent, are due on demand, and collateralized by their common stock in the Company. 4. Note Receivable Note receivable at June 30, 1998 consists of the following: Note receivable, 60 monthly principle and interest payments of $3,563 until September 1, 2002, remaining balance due at that time, secured by work in progress, inventory, accounts receivable and personal property $148,420 Less current maturities 30,000 $118,420 5. Property and Equipment Property and equipment at June 30, 1998 consists of the following: Land 150,000 Building 569,000 Leasehold improvements 100,043 Furniture and fixtures 124,006 Office equipment 114,771 Computer equipment and software 466,204 Computer equipment and software under capital lease 324,931 1,848,955 Less accumulated depreciation (441,349) Less accumulated amortization on computer equipment and software under capital lease (185,872) $1,221,734 6. Note Payable Note payable at June 30, 1998 consists of the following: Mortgage note payable: Monthly principal payments of $2,612 plus interest at the prime rate plus 0.25% through February 2000 with the remaining balance due March 2000; collateralized by building; personally guaranteed by certain stockholders $362,485 Less current maturities 31,000 $331,485 Aggregate maturities of note payable as of June 30, 1998 were as follows: 1999 - $31,000; 2000 - $331,485. The Company has available a $300,000 bank line of credit to provide additional short-term working capital. This line of credit is at prime plus .5% and is collateralized by accounts receivable and equipment. Additionally, the line is personally guaranteed by certain stockholders. At June 30, 1998, there were no amounts outstanding. 7. Obligations Under Capital Leases The Company has capitalized rental obligations under three leases of software and equipment. The obligations, which mature in fiscal 2000 and 2001, represent the total present value of future rental payments discounted at the interest rates implicit in the leases. Future minimum lease payments under the capital leases are: Period Ending June 30 1999 $ 90,532 2000 82,839 2001 21,900 2002 7,300 Total minimum lease payments 202,571 Less amount representing interest 17,661 Present value of net minimum lease payments 184,910 Less current portion 79,000 $105,910 8. Retirement Benefit Plan Effective January 1, 1993, the Company established a retirement plan which allows participants to make contributions by salary reduction under Section 401(k) of the Internal Revenue Code. The Company made matching contributions to the plan of $14,009 and $5,713 for the nine months ended June 30, 1998 and 1997, respectively. The Company made matching contributions to the Plan of $5,577 and $4,297 for the three months ended June 30, 1998 and 1997. 9. Income Taxes As a result of the reverse acquisition on April 22, 1996, the Subchapter S status of one of the Company's subsidiaries was terminated. After that date, the financial statements of the Company provide for the income tax effect of earnings reported in the financial statements, including taxes currently due and taxes deferred because of different accounting methods used for financial and income tax reporting. Prior to the change in tax status, earnings and losses were included in the personal tax returns of the stockholders and taxed depending on their personal tax situations and the Company did not record an income tax provision. The change in tax status necessitated the recognition of the cumulative deferred income existing as of the date of the termination of the S status which resulted in a one-time charge to deferred tax expense of $435,200. Net income from operations before income taxes totaled $2,653,659 and $1,853,735 for the nine months ended June 30, 1998 and 1997, respectively. The provision for income taxes for the nine months ended June 30, 1998 and 1997 consists of the following components: 1998 1997 Current tax expense $1,240,600 $642,300 Deferred tax expense (226,300) 76,000 Credit for research and development activities (95,700) (117,300) $ 918,600 $601,000 The significant temporary differences which gave rise to deferred tax assets and liabilities as of June 30, 1998 and 1997 are as follows: 1998 1997 Deferred tax asset Bad debts $725,000 $229,700 Deferred tax liabilities Software development cost 1,387,100 1,443,000 Book basis of property & equipment in excess of tax basis 105,800 70,900 Change in tax status 227,400 409,300 $1,720,300 $1,923,200 As of June 30, 1998, the Company has federal loss carryforwards totaling $77,700 that may be offset against future federal taxable income. If not used, the carryforward will expire as follows: Operating losses 2003 $ 20,600 2009 49,300 2010 7,800 2011 - 2012 - $ 77,700 No valuation allowance has been recorded against the deferred tax assets or operating loss or tax credit carryforwards because recognition of the cumulative deferred income arising from the change in tax status should be sufficient to offset the remaining tax assets. The difference between the provision for income taxes and the amounts obtained by applying the statutory U.S. Federal income tax rate to income before taxes for the nine months ended June 30, 1998 and 1997 are as follows: 1998 1997 Tax expense at U.S. statutory rates $902,200 34.0% $629,100 34.0% State and local income tax 65,100 2.5% 43,000 2.3% Non-deductible expense and other 22,600 .9% - - Credit for increasing research activities (71,300) (2.7%) (71,100) (3.8%) $918,600 34.7% $601,000 32.5% 10. Earnings Per Share The following data shows the amounts used in computing earnings per share and the effect on income and the weighted average number of shares of dilutive potential common stock.
Three Months Ended Nine Months Ended June 30 June 30 1998 1997 1997 1996 Net income 546,714 643,770 1,735,059 1,252,735 Less preferred stock dividends (18,388) (28,146) (73,289) (42,925) Income available to common stockholders used in basic EPS 528,326 615,624 1,661,770 1,209,810 Preferred stock dividends 18,388 28,146 73,289 42,925 Income available to common stockholders after assumed conversion of dilutive securities 546,714 643,770 1,735,059 1,252,735 Weighted average number of common shares used in basic EPS 7,545,553 7,257,720 7,398,110 7,257,720 Effect of dilutive convertible preferred stock 383,701 585,600 515,485 299,250 Weighted average number of common shares and dilutive potential common stock used in diluted EPS 7,929,254 7,843,320 7,913,595 7,556,970
11. Major Customer For the three-month period ended June 30, 1998, sales to two customers amounted to approximately $1,907,000. For the three- month period ended June 30, 1997, sales to two customers amounted to approximately $1,435,700. For the nine-month period ended June 30, 1998, sales to two customers amounted to approximately $4,041,000. For the nine-month period ended June 30, 1997, sales to three customers amounted to approximately $2,749,600. At June 30, 1998 and 1997 accounts receivable balance included $2,109,000 and $783,000 due from two and one customers, respectfully. 12. Lease Commitments The following is a schedule by year of future minimum rental payments required under operating leases that have an initial or remaining noncancelable lease term in excess of one year as of March 31, 1998: 1999 55,541 2000 21,134 2001 3,667 2002 3,056 2003 - Rent expense amounted to $16,805 and $15,731 for the three months ended June 30, 1998 and 1997, respectively. Rent expense amounted to $56,420 and $37,512 for the nine months ended June 30, 1998 and 1997, respectively. 13. Commitments The Company entered into 20-year employment agreements with five of its officers calling for annual salaries totaling no less than $195,000. 14. Segment Information In June 1997, the Financial Accounting Standards Board issued FASB #131 "Disclosures about Segments of an Enterprise and Related Information". This statement establishes standards for the way that public companies report information about operating segments in annual financial statements and is required for periods beginning after December 15, 1997; however earlier application is encouraged. The Company has elected to adopt this statement. The Company's operations are classified into two principal industry segments: Hardware sales and sales of Software Licenses and related service fees. The accounting policies of the segments are the same as those described in the summary of significant accounting policies except that general and administrative expenses are recognized and measured on the ratio of salaries of the segment to total salaries. All intercompany transactions are eliminated for financial reporting purposes. The Company's reportable segments are strategic business units that offer different product of services. They are managed separately because each business requires different technology and marketing strategies. The following is a summary of segment information for the quarter ended June 30:
1998 1997 Software Corporate Software Corporate And Hardware And Hardware Service Total Service Total Fees Fees Revenues from external customers $1,718,295 $1,703,906 - $3,422,201 $1,400,567 $1,572,619 - $2,973,186 Interest revenue 6,228 - 18,121 24,349 1,514 - 5,358 6,872 Interest expense 7,040 - - 7,040 11,633 - - 11,633 Depreciation and 412,337 - 456 412,793 370,473 489 - 370,962 amortization Segment profit 740,601 111,643 (61,357) 790,887 721,798 286,363 (62,630) 945,531 Expenditures for segment 42,565 - - 42,565 50,100 - - 50,100 assets
The following is a summary of segment information for the nine months ended June 30:
1998 1997 Software Corporate Software Corporate And Hardware Total And Hardware Total Service Servic Fees Fees Revenue from external customers $5,559,667 $4,288,249 - $9,847,916 $3,773,225 $2,537,575 - $6,310,800 Interest revenue 15,657 - 49,120 64,777 2,545 - 7,349 9,894 Interest expense 33,740 - - 33,740 52,344 - - 52,344 Depreciation and 1,229,982 - 1,422 1,231,404 977,034 1,466 - 978,500 amortization Segment profit 2,556,874 270,140 (221,016) 2,605,998 1,785,509 325,699 (215,023) 1,896,185 Expenditures for segment 85,957 - 269,000 354,957 143,367 - - 143,367 assets
The following is a summary of identifiable assets for each segment as of June 30,:
1998 1997 Software Software And Hardware And Hardware Service Corporare Service Corporate Fees Total Fees Total 4,734,777 2,104,946 1,663,024 8,502,747 4,651,729 568,231 568,231 5,878,646
_________________________________________________________________ Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations _________________________________________________________________ This MD&A contains some forward looking information. Except for historical data, the matters discussed in this form 10-QSB contain forward-looking statements that involve risk and uncertainties. Network would caution readers that in addition to the important factors described elsewhere in the Form 10-QSB, the following important factors, among others, sometimes have affected, and in the future could affect, the Company's actual results and could cause the Company's actual consolidated results during 1998, and beyond, to differ materially from those expressed in any forward statements made by, or on behalf of Network. Results of Operations Revenue. Total revenue for the three-month period ended June 30, 1998 was $3,422,201. This revenue represents a 15% increase over the Company's revenues for the three-month comparable period in 1997. For the nine-month period ended June 30, 1998, revenues were $9,847,916 as compared to $6,310,800 for the same nine-month period in fiscal 1997, a 56% increase. The increase in revenue is attributable to the Company's increase in customer base during the first quarter; its resultant increase in service related income and an upgrading of independent software products to the Company's integrated net collection package. In the area of licensing and servicing revenues, the Company experienced an increase of approximately 23% to $1,718,295 at the June 30, 1998 quarter end as compared to $1,400,567 in the same period ending 1997. During the nine-month period, licensing and servicing revenues increased 47% from $3,773,225 in fiscal 1997 to $5,559,667 during the same period in fiscal 1998. This increase in the licensing and servicing sectors of the Company's business is a result of the factors indicated above. Hardware sales for the three-month period ended June 30, 1998 was $1,703,906 as compared to $1,572,619 or an 8% increase over the same period in 1997. For the nine-month period ended June 30, 1998, the Company experienced a 69% increase in hardware sales over the comparable period in 1997 from $2,537,575 to $4,288,249. This increase in hardware sales is directly attributable to customer upgrades and additional equipment purchases in response to Year 2000 issues. Licensing and service revenues represented 50.2% of total revenues for the quarter ended and 56.5% for the first nine months of the fiscal year. Hardware sales were 49.8% of total revenues for the quarter and 43.5% for the first nine months of fiscal 1998. Cost of Sales and Services. Cost of sales and services amounted to $1,897,514 and 55% of total revenue during the third quarter of fiscal 1998 as compared to $1,659,309 and 55% of total revenue for the comparable period in fiscal 1997. Cost of sales and services for the first nine months of the year amounted to $5,034,722 and 51% of total revenue as compared to $3,212,494 and 51% of total revenue for the comparable 1997 period. The increases in cost of sales and services are primarily attributable to the increases in hardware sales for the periods. On a percentage basis to total revenue, the 1998 cost of sales and services remained consistent with that of 1997, hardware sales, however carry a higher percentage of costs than do licensing and service fees. Software Development Costs. Software development costs capitalized amounted to approximately $336,000 and $428,000 for the quarters ended June 30, 1998 and 1997, respectively. Approximately $898,000 and $1,191,000 were capitalized for the nine months ended June 30, 1998 and 1997 respectively. Less software development costs were capitalized in the comparable periods 1998 versus 1997 due to the Company's strategic decision to address its third generation product as add-on modules rather than continued development as a stand-alone product. Research and development costs increased approximately $118,000 from $49,000 in the current quarter versus the prior year quarter and to approximately $334,000 for the nine month period ended June 30, 1998 from $211,000 for the nine months ended June 30, 1997. It is anticipated that the Company will experience an increase in software development costs both capitalized and expensed, as its efforts to accommodate specific customer needs escalates. Additionally, the Company intends to continue recruiting and hiring additional software programmers and to consider additional complementary software technologies. Whether or not the Company will successfully achieve these goals cannot be assured since competition to hire programmers appears to be at an all time high and new technologies are uncertain. General and Administrative. General and administrative expenses were 18% of revenue in the third quarter of fiscal 1998 as compared to 11% in the comparable period 1997. For the nine months ended June 30, 1998 general and administrative expenses were 19% of revenue and 16% in the comparable period in the prior year. The percentage increases are directly attributable to increases in Company personnel as well as utilizing the additional personnel in the administrative sector as opposed to development of the Company's software. Provisions for Income Taxes. The income tax provision for the nine months ended June 30, 1998 and June 30, 1997 was $918,600 and $601,000, respectively. This represents 34.7% and 32.5% of income before taxes. Quarterly Results. Net income for the three and nine-month periods ended June 30, 1998 were $546,714 and $1,735,059 respectively. Net income for the comparable period ended June 30, 1997 amounted to $643,770 and $1,252,735, respectively. The decrease in net income for the comparable three months is attributable to utilization of Company personnel in the administrative sector as opposed to utilization of such personnel primarily in the Company's development area. Also, amortization of software development costs exceeded amounts capitalized for the three month period ended June 30, 1998 contrary to June 30, 1997. Additionally, the increase in net income for the nine-month period ended June 30, 1998 versus the comparable prior period is partly attributable to the increase in sales of hardware. On a per share basis, earnings were $.07 and $.22 for the three and nine months ended June 30, 1998. These per share amounts are down from the net income per common share amounts of $.08 for the three month period ended June 30, 1997 and up from $.17 for the nine month period ended June 30, 1997 for the reasons explained above. The Company believes that in the future its results may reflect quarterly fluctuations resulting from such factors as order deferrals in anticipation of new product releases, delays in the release of new products, a slower growth rate in the overall manufacturing industry or adverse general economic and manufacturing conditions in the industries in which the Company does business. Rapid technological change and the Company's ability to develop and market products that successfully adapt to that change may also have an impact on the results of operations. Further, increased competition in the design and distribution of manufacturing software products could also negatively impact the Company's results of operations. Due to the factors stated above, the Company's future earnings and stock price may be subject to significant volatility, particularly on a quarterly basis. Any shortfall in revenues or earnings from levels expected by securities analysts could have an immediate and significant adverse effect on the trading price of the Company's stock. Liquidity and Capital Resources. Cash totaled $1,422,394 on June 30, 1998. Cash provided by operating activities amounted to approximately $2,478,337 for the nine months ended June 30, 1998 compared to $1,068,685 in the comparable period of 1997. This increase in cash provided by operations is principally due to increases in the Company's operating liabilities and increased profits, generally. Long term cash requirements, other than normal operating expenses, are anticipated for development of new software products and enhancements of existing products; financing anticipated growth; adding additional personnel; and the possible acquisition of software products or technologies complimentary to the Company's business. The Company believes that its existing cash, cash equivalents, available lines of credit and anticipated cash generated from continuing operations will be sufficient to satisfy its currently anticipated cash requirements for the 1998 fiscal year. Historically, accounts receivable for the Company has been generally high due to a number of factors. A primary contributor is the nature of how the Company's customer base pays for the software licensing fee of the Company's product. The Company records revenues from software license fees after shipment of the product and the fulfillment of all major obligations under the terms of the licensing agreement. Therefore, the Company often establishes a payment schedule for its customers. The payment schedules have resulted in a slow turnaround time in the collection of receivables. Additionally, the textile industry as a whole tends to experience flat periods which make it difficult to fully fund major management information systems projects. For the nine month period ended June 30, 1998, the average collection days on accounts receivables was 95.1 days compared to 77.2 days for the comparable period in fiscal year 1997. This increase in collection days is attributable to a major version release of the Company's software towards the latter part of the quarter. The Company has a continued focus on collecting accounts and scheduling customer payments on a more time sensitive basis. As a result of the above, the Company monitors its accounts receivable closely and attempts to make adequate provisions for potentially uncollectable receivables. Year 2000 Compliance. In 1993 the Company developed the trademark software net collection1TM. All databases, user screens, application programs, and date sensitive algorithms were re-engineered to include the century within all date fields. All new products introduced by the Company are developed to include the century format. In addition, the Company has upgraded most 3rd party software used during the day to day operations of the Company and believes that this software meets the year 2000 requirements. Part II _________________________________________________________________ Item 5. Other Matters (1) The Company received approval for listing on NASDAQ Small Cap effective July 10, 1998. Item 6. Exhibits and Reports on Form 8-K (a) Exhibits included herewith are: (27) Financial Data Schedule (b) Reports on Form 8-K 1. Form 8-K filed with the Securities and Exchange Commission June 1, 1998 announcing the forty-five day extension of its letter of intent with Innovative Control Concepts, Inc. This Form 8-K is incorporated by reference. 2. Form 8-K filed with the Securities and Exchange Commission July 23, 1998 announcing that the Company had received NASDAQ Small Cap approval effective July 10, 1998 and termination of merger negotiations with Innovative Control Concepts, Inc. This Form 8-K is incorporated by reference. SIGNATURES Pursuant to the requirements of the Securities and Exchange Act of 1934, the registrant has caused this report to be signed on its behalf by the undersigned, thereto duly authorized. NETWORK SYSTEMS INTERNATIONAL, INC. Date: 8/7/98 /s/ Robbie M. Efird Robbie M. Efird, President Date: 8/7/98 /s/ Michael T. Spohn Michael T. Spohn, Chief Financial Officer EXHIBIT INDEX Exhibit Page (27) Financial Data Schedule 21 EX-27 2
5 9-MOS SEP-30-1998 JUN-30-1998 1,422,394 0 4,812,281 (725,000) 0 5,671,732 1,848,955 (627,221) 8,502,747 2,315,145 0 0 7 7577 5,367,623 8,502,747 9,847,916 9,847,916 5,034,722 2,207,196 16,624 0 31,037 2,653,659 918,600 1,735,059 0 0 0 1,735,059 0.22 0.22
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