0000899243-01-501655.txt : 20011119
0000899243-01-501655.hdr.sgml : 20011119
ACCESSION NUMBER: 0000899243-01-501655
CONFORMED SUBMISSION TYPE: S-4/A
PUBLIC DOCUMENT COUNT: 6
FILED AS OF DATE: 20011106
FILER:
COMPANY DATA:
COMPANY CONFORMED NAME: INDUSTRIAL DATA SYSTEMS CORP
CENTRAL INDEX KEY: 0000933738
STANDARD INDUSTRIAL CLASSIFICATION: ELECTRONIC COMPUTERS [3571]
IRS NUMBER: 760157248
FISCAL YEAR END: 1231
FILING VALUES:
FORM TYPE: S-4/A
SEC ACT: 1933 Act
SEC FILE NUMBER: 333-68288
FILM NUMBER: 1776234
BUSINESS ADDRESS:
STREET 1: 600 CENTURY PLZ
STREET 2: BLDG 140
CITY: HOUSTON
STATE: TX
ZIP: 77073-6016
BUSINESS PHONE: 2818213200
MAIL ADDRESS:
STREET 1: 600 CENTURY PLAZA DR
STREET 2: BLDG 140
CITY: HOUSTON
STATE: TX
ZIP: 77073-6016
S-4/A
1
ds4a.txt
AMENDMENT #2 TO FORM S-4
As filed with the Securities and Exchange Commission on November 6, 2001
Registration No. 333- 68288
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
--------------------------------------------------------------------------------
Amendment No. Two to Form S-4
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
--------------------------------------------------------------------------------
Industrial Data Systems Corporation
(Exact name of registrant as specified in its charter)
Nevada 3571 88-0322261
(State incorporation) (Primary Standard Industrial (I.R.S. Employer
Classification Code Number) Identification No.)
600 Century Plaza Drive
Building 140
Houston, Texas 77073-6013
(281) 821-3200
(Address, including zip code and telephone
number, including area code, of
registrant's principal executive offices)
--------------------------------------------------------------------------------
With copies to:
Kathryn K. Lindauer Gary B. Clark
Jenkens & Gilchrist, P.C. Gardere Wynne Sewell LLP
2200 One American Center 1601 Elm Street, Suite 3000
600 Congress Avenue Dallas, Texas 75201
Austin, Texas 78701 (214) 999-4341
(512) 499-3836
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE OF THE SECURITIES TO THE
PUBLIC: As soon as practicable after this registration statement becomes
effective and the satisfaction of all conditions to the closing of the
arrangement described in the joint proxy statement/prospectus forming part of
this registration statement.
--------------------------------------------------------------------------------
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. [_]
If this Form is filed to register additional securities for an offering pursuant
to Rule 462(b) under the Securities Act, check the following box and list the
Securities Act registration statement number of the earlier effective
registration statement for the same offering. [_]
If this Form is a post-effective amendment filed pursuant to Rule 462(d) under
the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [_]
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 SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF
THE SECURITIES ACT OF 1933, AS AMENDED, OR UNTIL THE REGISTRATION STATEMENT
SHALL BECOME EFFECTIVE ON SUCH DATE AS THE SECURITIES AND EXCHANGE COMMISSION,
ACTING PURSUANT TO SAID SECTION 8(a), MAY DETERMINE.
INDUSTRIAL DATA SYSTEMS CORPORATION
PETROCON ENGINEERING, INC.
PROPOSED MERGER - YOUR VOTE IS VERY IMPORTANT
The boards of directors of Industrial Data Systems Corporation ("IDS") and
Petrocon Engineering, Inc. ("Petrocon") have agreed to merge an indirect, wholly
owned subsidiary of IDS with and into Petrocon. The merger requires the
approval of the holders of at least two-thirds of the Petrocon common stock and
the holders of a majority of IDS common stock. The IDS board of directors has
also decided to require approval of a majority of the outstanding shares of IDS
common stock represented at the meeting in person or by proxy and held by
stockholders other than Alliance 2000, Ltd. The merger is intended to create a
larger, more diverse and more cost efficient enterprise.
The merger and related matters are being submitted for a vote at a Special
Meeting of Stockholders of IDS and at a Special Meeting of Shareholders of
Petrocon. The dates, times and places of the meetings are as follows:
For stockholders of: For shareholders of:
Industrial Data Systems Corporation Petrocon Engineering, Inc.
December __, 2001 December __, 2001
10:00 a.m.; Central Daylight Savings Time 5:00 p.m.; Central Daylight
600 Century Plaza Drive, Building 140 Savings Time
Houston, Texas 77073-6013 Holiday Inn Beaumont Plaza
3950 I-10 South at Walden
Road
Beaumont, Texas 77707
This document is a prospectus of IDS relating to the issuance of 9,800,000
shares of its common stock in connection with the merger and a proxy statement
for both IDS and Petrocon to use in soliciting proxies for IDS' and Petrocon's
special meetings. It contains answers to frequently asked questions and a
summary description of the merger, followed by a more detailed discussion of the
merger and related matters.
If the merger is approved, Petrocon shareholders will receive between .88
and 1.06 shares of IDS common stock for each share of Petrocon common stock they
own. Petrocon shareholders will not know the precise exchange ratio when they
vote at the Petrocon shareholders' meeting. Additionally, Petrocon shareholders
should be aware that they bear the risk of a decline in the market price of IDS
common stock.
The merger agreement will terminate if the merger does not close following
the close of business on December 21, 2001. This provision may be amended by
agreement of IDS and Petrocon.
See "Risk Factors" beginning on page ____ for a discussion of risks that
you should consider in evaluating the merger.
The common stock of IDS trades on the American Stock Exchange under the
symbol "IDS." Petrocon is privately held and no market currently exists for its
shares of common stock.
Neither the Securities and Exchange Commission nor any state securities
commission has approved or disapproved the merger, the common stock or the
convertible preferred stock to be issued in connection with the merger or the
fairness or the merits of the merger nor has the Securities and Exchange
Commission or any state securities commission determined whether the information
contained in this document is accurate or adequate. Any representation to the
contrary is a criminal offense.
This document is dated November ___, 2001 and is first being mailed to IDS
stockholders and Petrocon shareholders on or about November __, 2001.
INDUSTRIAL DATA SYSTEMS CORPORATION
600 Century Plaza Drive
Building 140
Houston, Texas 77073-6013
NOTICE OF SPECIAL MEETING OF STOCKHOLDERS
TO BE HELD DECEMBER __, 2001
To the Stockholders of Industrial Data Systems Corporation:
Notice is hereby given that a Special Meeting of Stockholders of Industrial
Data Systems Corporation, a Nevada corporation ("IDS"), will be held at our
corporate offices at 600 Century Plaza Drive, Building 140, Houston, Texas on
December __, 2001, at 10:00 a.m., Central Daylight Savings Time, for the
following purposes:
1. To approve an amendment to IDS' articles of incorporation creating a
class of preferred stock with 5,000,000 shares authorized for
issuance;
2. To approve an amendment to the IDS 1998 Incentive Plan increasing the
number of options which may be issued under the Plan from 1,200,000 to
1,400,000;
3. To approve and adopt the Agreement and Plan of Merger dated as of July
31, 2001, between IDS, IDS Engineering Management, LC, a Texas limited
liability company and wholly owned subsidiary of IDS, PEI Acquisition,
Inc., a Texas corporation and wholly owned subsidiary of IDS
Engineering Management, LC, and Petrocon Engineering, Inc., a Texas
corporation, relating to the merger of PEI Acquisition, Inc. into
Petrocon, including without limitation the issuance of 9,800,000
shares of IDS common stock to Petrocon shareholders, 2,500,000 shares
of IDS convertible preferred stock to Petrocon shareholders and
lenders, and 100,500 shares of IDS common stock to IDS' financial
advisor;
4. Contingent upon consummation of the merger, to elect four additional
directors to the board of directors of IDS to serve until the next
annual meeting of stockholders or until their respective successors
are elected and qualified. The nominees for director are Michael L.
Burrow, P.E., Jimmie N. Carpenter, P.E., Randall B. Hale, and David C.
Roussel;
5. To grant authority to extend the solicitation period if the meeting is
postponed or adjourned; and
6. To transact such other business as may properly come before the
meeting or any adjournment thereof.
The board of directors has fixed the close of business on November __,
2001, as the record date and only the stockholders of record on that date are
entitled to notice of and to vote at the special meeting. A list of these
stockholders will be available at the offices of IDS commencing November __,
2001, and may be inspected during normal business hours by any holder of IDS
common stock for any purposes relevant to the meeting.
The board of directors of IDS unanimously recommends that you vote to
approve the amendment to the articles of incorporation to create a class of
preferred stock, to increase the options and shares issuable under the plan, to
approve and adopt the Agreement and Plan of Merger, to elect the four additional
directors nominated to the board of directors of IDS and to grant the authority
to extend the solicitation period if our meeting is postponed or adjourned. The
affirmative vote of the holders of a majority of the outstanding shares of
common stock represented in person or by proxy at the meeting is required to
approve each of these proposals. In addition, the board of directors has
determined that the affirmative vote of the holders of a majority of the
outstanding shares of IDS common stock present in person or by proxy at the
meeting and held by stockholders other than IDS' largest stockholder, Alliance
2000, Ltd., will be required to approve and adopt the merger agreement. Each
member of IDS' board of directors intends to vote his or her shares in favor of
each of the proposals.
All stockholders are invited to attend the meeting in person, but even if
you expect to be present at the meeting, you are requested to mark, sign, date
and return the enclosed proxy card as promptly as possible in the postage-paid
envelope provided for your convenience. Your proxy may be revoked at any time
before it is voted by signing and returning a later-dated proxy with respect to
the same shares, by filing with the Secretary of IDS a written revocation
bearing a later date or by attending and voting in person at the meeting.
Stockholders attending the meeting may vote in person even if they have
previously sent in a proxy card.
By Order of the Board of Directors,
November ___, 2001 Hulda L. Coskey
Houston, Texas Secretary
PETROCON ENGINEERING, INC.
3155 Executive Boulevard
Beaumont, Texas 77705-1050
NOTICE OF SPECIAL MEETING OF SHAREHOLDERS
TO BE HELD DECEMBER __, 2001
To the Shareholders of Petrocon Engineering, Inc.:
Notice is hereby given of a special meeting of the shareholders of Petrocon
Engineering, Inc., a Texas corporation ("Petrocon"), to be held at 5:00 p.m.,
Central Daylight Savings Time, on December __, 2001, at the Holiday Inn-Beaumont
Plaza, 3950 I-10 South at Walden Road, Beaumont, Texas, for the following
purposes:
1. To approve and adopt the Agreement and Plan of Merger dated as of July
31, 2001, between IDS, IDS Engineering Management, LC, a Texas limited
liability company and wholly owned subsidiary of IDS, PEI Acquisition,
Inc., a Texas corporation and wholly owned subsidiary of IDS
Engineering Management, LC, and Petrocon Engineering, Inc., a Texas
corporation, relating to the merger of PEI Acquisition, Inc. into
Petrocon;
2. To approve an amendment to the Amended and Restated Stock Option Plan
of Petrocon increasing the number of options which may be issued under
the Plan from 1,200,000 to 1,550,000;
3. To terminate the Shareholders' Agreement dated March 9, 1999,
effective upon the closing of the merger; and
4. To transact such other business as may properly come before the
meeting or any adjournment thereof.
The board of directors has fixed the close of business on November __,
2001, as the record date and only the shareholders of record on that date are
entitled to notice of and to vote at the special meeting. A list of these
shareholders will be available at the offices of Petrocon commencing
November ___, 2001, and may be inspected during normal business hours by any
holder of Petrocon common stock for any purpose relevant to the meeting.
The board of directors of Petrocon unanimously recommends that you vote to
approve and adopt the merger agreement, to increase the shares issuable under
the plan, and to terminate the shareholders' agreement. The affirmative vote of
the holders of at least two-thirds of the outstanding shares of Petrocon common
stock is required to approve the merger agreement. The affirmative vote of the
holders of a majority of the outstanding shares of Petrocon common stock is
required to approve the proposals to amend the stock option plan and to
terminate the shareholders' agreement. Each officer and director of Petrocon
intends to vote his or her shares of Petrocon common stock for the proposals.
All shareholders are invited to attend the meeting in person, but even if
you expect to be present at the meeting, you are requested to mark, sign, date
and return the enclosed proxy card as promptly as possible in the postage-paid
envelope provided for your convenience. Your proxy may be revoked at any time
before it is voted by signing and returning a later-dated proxy with respect to
the same shares, by filing with the Secretary of Petrocon a written revocation
bearing a later date or by attending and voting in person at the meeting.
Shareholders attending the meeting may vote in person even if they have
previously sent in a proxy card.
By Order of the Board of Directors,
Robert W. Raiford
Secretary
November __, 2001
Beaumont, Texas
TABLE OF CONTENTS
QUESTIONS AND ANSWERS ABOUT THE MERGER......................................................................................... 1
SUMMARY........................................................................................................................ 5
The Companies................................................................................................................. 5
Reasons for the Merger........................................................................................................ 5
Business Strategy of the Combined Company..................................................................................... 6
Directors and Officers of IDS After the Merger................................................................................ 6
Material U.S. Federal Income Tax Consequences................................................................................. 7
Dissenters' Rights............................................................................................................ 7
Risks Associated with the Merger.............................................................................................. 7
Interests of Officers and Directors in the Merger that Differ from Your Interests............................................. 8
The Special Meeting of IDS Stockholders....................................................................................... 8
The Special Meeting of Petrocon Shareholders.................................................................................. 9
Record Date; Voting Power..................................................................................................... 9
Recommendations to Stockholders............................................................................................... 9
Officers and Directors of IDS and Petrocon Will Vote in Favor of the Merger................................................... 9
Market Price Data............................................................................................................. 10
Accounting Treatment.......................................................................................................... 10
Conditions to the Merger...................................................................................................... 10
Termination of the Merger Agreement........................................................................................... 10
Break-Up Fee.................................................................................................................. 10
SUMMARY SELECTED HISTORICAL CONSOLIDATED FINANCIAL DATA FOR IDS................................................................ 11
SUMMARY SELECTED HISTORICAL CONSOLIDATED FINANCIAL DATA FOR PETROCON........................................................... 13
COMPARATIVE PER SHARE DATA..................................................................................................... 14
SUMMARY UNAUDITED PRO FORMA COMBINED FINANCIAL DATA FOR IDS AFTER THE MERGER................................................... 15
RISK FACTORS................................................................................................................... 24
FORWARD-LOOKING STATEMENTS..................................................................................................... 30
IDS SPECIAL MEETING OF STOCKHOLDERS............................................................................................ 31
Time and Place; Purpose....................................................................................................... 31
Record Date; Voting Rights and Proxies........................................................................................ 31
Solicitation of Proxies....................................................................................................... 32
Quorum........................................................................................................................ 32
Required Vote; Failure to Vote and Broker Non-Votes........................................................................... 32
Additional Information........................................................................................................ 32
PETROCON SPECIAL MEETING OF SHAREHOLDERS....................................................................................... 33
Time and Place; Purpose....................................................................................................... 33
Record Date; Voting Rights and Proxies........................................................................................ 33
Solicitation of Proxies....................................................................................................... 33
Quorum........................................................................................................................ 33
Required Vote; Failure To Vote................................................................................................ 33
Additional Information........................................................................................................ 34
MARKET PRICE DATA.............................................................................................................. 35
Dividend Policies............................................................................................................. 35
THE MERGER..................................................................................................................... 36
General....................................................................................................................... 36
i
Structure; Effective Time..................................................................................................... 36
Pre-closing Transactions...................................................................................................... 36
Merger Consideration.......................................................................................................... 36
Replacement Options and Warrants.............................................................................................. 37
Amendment to IDS' Articles of Incorporation................................................................................... 37
Directors and Officers of IDS After the Merger; Voting Agreements............................................................. 37
Ownership of IDS Following the Merger......................................................................................... 37
Background of the Merger...................................................................................................... 37
IDS' Reasons for the Merger................................................................................................... 40
Petrocon's Reasons for the Merger............................................................................................. 41
Exchange of Petrocon Stock Certificates and Payment for Fractional Shares..................................................... 42
Exchange of Petrocon Options and Warrants..................................................................................... 42
Interests of IDS Directors, Officers and Significant Stockholders and Interests of Petrocon Directors, Officers and
Significant Shareholders...................................................................................................... 43
Conduct of Business Prior to Merger........................................................................................... 44
Covenants and Agreements...................................................................................................... 44
Representations and Warranties of IDS and Petrocon............................................................................ 45
Conditions to the Merger...................................................................................................... 45
Termination of the Merger Agreement........................................................................................... 48
Break-Up Fee and Expenses..................................................................................................... 49
Merger Expenses............................................................................................................... 49
Amendments.................................................................................................................... 49
Other Agreements.............................................................................................................. 49
Accounting Treatment.......................................................................................................... 52
MATERIAL U.S. FEDERAL INCOME TAX CONSEQUENCES OF THE MERGER.................................................................... 53
Tax Opinion................................................................................................................... 53
Backup Withholding............................................................................................................ 54
Petrocon Net Operating Losses................................................................................................. 54
RIGHTS OF DISSENTING SHAREHOLDERS.............................................................................................. 55
IDS SELECTED CONSOLIDATED FINANCIAL DATA....................................................................................... 57
PETROCON SELECTED CONSOLIDATED FINANCIAL DATA.................................................................................. 59
COMPARATIVE PER SHARE DATA..................................................................................................... 60
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OF IDS................................... 61
Overview...................................................................................................................... 61
Proposed Merger Transaction................................................................................................... 61
Forward-Looking Statements.................................................................................................... 61
Results of Operations......................................................................................................... 62
Liquidity and Capital Resources............................................................................................... 64
Acquisition Activities........................................................................................................ 65
Accounting Pronouncements..................................................................................................... 66
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OF PETROCON.............................. 67
General....................................................................................................................... 67
Results of Operations......................................................................................................... 69
Liquidity And Capital Resources............................................................................................... 72
Seasonality................................................................................................................... 74
Accounting Pronouncements..................................................................................................... 74
Recent Developments...........................................................................................................
BUSINESS OF IDS................................................................................................................
General....................................................................................................................... 75
Products and Services......................................................................................................... 76
Product Development........................................................................................................... 77
ii
Competition................................................................................................................... 78
Business Strategy............................................................................................................. 79
Sales and Marketing........................................................................................................... 80
Customers..................................................................................................................... 80
Customer Service and Support.................................................................................................. 81
Dependence upon Suppliers..................................................................................................... 81
Patents, Trademarks, Licenses................................................................................................. 81
Government Regulations........................................................................................................ 82
Research and Development...................................................................................................... 82
Employees..................................................................................................................... 82
Facilities.................................................................................................................... 82
Legal Proceedings............................................................................................................. 82
BUSINESS OF PETROCON........................................................................................................... 83
General....................................................................................................................... 83
Engineering Procurement and Construction Related Services..................................................................... 83
Engineered Systems............................................................................................................ 84
Business Development and Marketing............................................................................................ 84
Operations.................................................................................................................... 84
Seasonality................................................................................................................... 85
Competition................................................................................................................... 85
Contracts..................................................................................................................... 85
Clients....................................................................................................................... 86
Backlog....................................................................................................................... 87
Facilities.................................................................................................................... 87
Employees..................................................................................................................... 88
Government Regulation......................................................................................................... 88
Risk Management............................................................................................................... 88
Insurance..................................................................................................................... 89
Litigation and Other Legal Proceedings........................................................................................ 89
IDS FOLLOWING THE MERGER....................................................................................................... 90
General....................................................................................................................... 90
Business Strategy............................................................................................................. 90
Acquisition Strategy.......................................................................................................... 92
Strengths..................................................................................................................... 92
Management.................................................................................................................... 93
MANAGEMENT..................................................................................................................... 94
Directors and Executive Officers of IDS After the Merger...................................................................... 94
Compliance with Section 16(a)................................................................................................. 96
IDS Key Man Insurance......................................................................................................... 96
IDS Option Grants............................................................................................................. 96
IDS 1998 Incentive Plan....................................................................................................... 96
IDS 401(k) Plan............................................................................................................... 98
Petrocon Stock Option Plan.................................................................................................... 98
Petrocon 401(k) Plan.......................................................................................................... 99
Compensation Summary.......................................................................................................... 99
Compensation Following the Merger............................................................................................. 100
Director Compensation......................................................................................................... 100
CERTAIN TRANSACTIONS........................................................................................................... 101
OWNERSHIP OF IDS, PETROCON AND THE COMBINED COMPANY STOCK...................................................................... 102
COMPARATIVE RIGHTS OF HOLDERS OF IDS AND PETROCON COMMON STOCK................................................................. 106
Authorized Capital............................................................................................................ 106
iii
Notice to Stockholders........................................................................................................ 106
Annual Meeting of Stockholders................................................................................................ 106
Special Meeting of Stockholders............................................................................................... 106
Quorum at Stockholder Meetings................................................................................................ 107
Voting of Shares.............................................................................................................. 107
Cumulative Voting............................................................................................................. 107
Stockholder Action By Written Consent......................................................................................... 107
Voting List................................................................................................................... 108
Stockholder Inspection of Books and Records................................................................................... 108
Sale of Assets................................................................................................................ 108
Nomination of Directors....................................................................................................... 108
Amendment of Bylaws........................................................................................................... 109
Stockholder Derivative Suits.................................................................................................. 109
Dissolution................................................................................................................... 109
Board of Directors............................................................................................................ 109
Newly Created Directorships and Vacancies..................................................................................... 110
Removal of Directors.......................................................................................................... 110
Liability of Directors........................................................................................................ 110
Indemnification............................................................................................................... 110
Change In Control Provisions.................................................................................................. 111
DESCRIPTION OF IDS CAPITAL STOCK............................................................................................... 112
Authorized Capital Stock...................................................................................................... 112
Common Stock.................................................................................................................. 112
IDS Convertible Preferred Stock............................................................................................... 112
Transfer Agent and Registrar.................................................................................................. 113
Stock Exchange Listing........................................................................................................ 113
LEGAL MATTERS.................................................................................................................. 114
EXPERTS........................................................................................................................ 114
WHERE YOU CAN FIND MORE INFORMATION............................................................................................ 115
Signatures
Index to Exhibits
Index to Consolidated Financial Statements..................................................................................... F-i
Annex A - Agreement and Plan of Merger......................................................................................... A-1
Annex B - Amendments to Articles of Incorporation of IDS....................................................................... B-1
Annex C - Sections 5.11 to 5.13 of the Texas Business Corporation Act.......................................................... C-1
iv
QUESTIONS AND ANSWERS ABOUT THE MERGER
Q: How do I vote?
A: After reading this document, please fill out and sign your proxy card.
Then mail your signed proxy card in the enclosed return envelope as soon as
possible so that your shares will be represented at your meeting.
Q: What happens if I do not return a proxy card?
A: The failure to return your proxy card will have the same effect as a vote
against the merger.
Q: How many votes are needed to approve and adopt the merger agreement?
A: The affirmative votes of the holders of at least two-thirds of the
outstanding shares of Petrocon common stock and of a majority of the
outstanding shares of IDS common stock as well as a majority of the
outstanding shares of IDS common stock held by stockholders other than
Alliance 2000, Ltd. who are present in person or by proxy are needed to
approve and adopt the merger agreement. See pages __ and __.
Q: Why is a majority vote of the outstanding shares of IDS common stock held
by stockholders other than Alliance 2000, Ltd. who are present at the
meeting required?
A: IDS' board of directors determined that the affirmative vote by the holders
of a majority of the outstanding shares of IDS common stock held by
stockholders other than Alliance 2000, Ltd. should be obtained because two
of IDS' directors own 73.5% of IDS' outstanding common stock through their
ownership of Alliance 2000, Ltd. The board believes that the merger is
fair to the unaffiliated stockholders, but because of the conflict of
interest present, the board believes that the stockholders other than
Alliance 2000, Ltd. should have a meaningful vote on the merger.
Q: May I vote in person?
A: Yes. You may attend your meeting and vote your shares in person, rather
than signing and mailing your proxy card.
Q: May I change my vote after I have mailed my signed proxy card?
A: Yes. You may change your vote at any time before your proxy is voted at
your meeting by following the instructions on page ___ or page ___, as
applicable. You then may either change your vote by sending in a new proxy
or attending your meeting and voting in person.
Q: If my shares are held in street name by my broker, will my broker vote my
shares for me?
A: No. Your broker will not be able to vote your shares without instructions
from you. Follow the directions provided to you by your broker to instruct
your broker how to vote your shares.
Q: Should I send in my Petrocon stock certificates now?
A: No. Please do not send any stock certificates at this time. If the merger
is approved, Petrocon shareholders will exchange their stock certificates
by following instructions in a letter of transmittal to be sent to them by
IDS' transfer agent after the merger is completed.
Q: What will Petrocon shareholders receive in the merger?
A: Depending on the number of Petrocon options and warrants exercised prior to
the effective date of the merger, each share of Petrocon common stock will
be exchanged for between .88 and 1.06 shares of IDS common stock, up to a
maximum of 9,800,000 shares for all holders of Petrocon common stock. Each
Petrocon shareholder holding common stock will receive a pro rata share of
the 9,800,000 shares of IDS
1
common stock based on such shareholder's ownership interest in Petrocon.
After the merger, former Petrocon shareholders will, collectively, own
approximately 45% of the common stock of IDS, on a fully diluted basis.
Shares of IDS common stock received by Petrocon's affiliates (for these
purposes, officers, directors and 10% shareholders) will be subject to the
restrictions on resale provided by Rule 145(d) promulgated under the
Securities Act. Accordingly, such individuals will not be able to sell such
shares until they meet the holding period and other requirements of that
rule.
Petrocon has outstanding 1,022,810 options and warrants with an exercise
price of $4.44 per share or greater. Petrocon does not expect that any of
these options or warrants will be exercised prior to the closing. Petrocon
also has outstanding 147,615 warrants with an exercise price of $.01 per
share and 797,846 options with an exercise price of $1.00 per share. The
table below reflects the change in the exchange ratio if 0%, 25%, 50%, 75%
or 100% of these $1.00 options and $.01 warrants are exercised prior to the
closing.
Percentage Exercised Number Exercised Exchange Ratio
-------------------- ---------------- --------------
0% 0 1.06
25% 236,365 1.03
50% 472,731 1.01
75% 709,096 .99
100% 945,461 .96
Q: What is happening to the Petrocon debt owed to Equus?
A: Approximately $9,300,000 of Petrocon indebtedness (calculated as of June
30, 2001) owed to Equus II Incorporated and outstanding warrants held by
Equus to purchase 1,552,571 shares of Petrocon common stock will be
exchanged for an aggregate of 2,500,000 shares of IDS convertible preferred
stock, payment of $2,000,000 and a $3,000,000 promissory note due in equal
quarterly installments of $110,000 each, plus a final installment equal to
the then remaining balance on the fourth anniversary date of the closing of
the merger.
Q: What will the holders of options and warrants to purchase Petrocon common
stock receive in the merger?
A: Petrocon currently has outstanding options and warrants to purchase
3,520,842 shares of Petrocon common stock. Of that amount, warrants to
purchase 1,552,571 shares of Petrocon common stock held by Equus will, by
agreement with Equus, be cancelled as part of the merger. The remaining
1,968,271 options and warrants will, unless exercised prior to the closing
of the merger, be replaced by options and warrants to purchase common stock
of IDS. Each holder of such options and warrants to purchase Petrocon
common stock will receive replacement options and warrants to purchase
shares of common stock of IDS.
Q: How will the number and the exercise price of the replacement options and
warrants be determined?
A: The number of shares of IDS common stock to be issued upon exercise of the
replacement options and warrants and the exercise price shall be determined
under the following formula: (a) the number of shares of IDS common stock
which may be purchased under the replacement option or warrant will be
equal to the product of the number of shares of Petrocon common stock which
could be purchased upon exercise by such holder of such Petrocon option or
warrant, multiplied by the number of shares of IDS common stock to be
received by the Petrocon shareholders for each share of Petrocon common
stock owned by each Petrocon shareholder (rounded to the nearest whole
share); and (b) the exercise price per share of IDS common stock under the
replacement option or warrant will be equal to the exercise price per share
of Petrocon common stock under the replaced Petrocon option or warrant,
divided by the number of shares of IDS common stock to be received by the
Petrocon shareholders for each share of Petrocon common stock owned by each
Petrocon shareholder.
As an example, if the exchange ratio is 1.03 to 1.00, the holder of an
option to purchase 1,000 shares of Petrocon common stock at an exercise
price of $1.00 per share will receive an option to purchase 1,030 shares
(1,000 multiplied by 1.03) of IDS common stock at an exercise price of $.97
per share ($1.00
2
divided by 1.03); the holder of an option to purchase 1,000 shares of
Petrocon common stock at an exercise price of $4.44 per share will receive
an option to purchase 1,030 shares (1,000 multiplied by 1.03) of IDS common
stock at an exercise price of $4.31 per share ($4.44 divided by 1.03); the
holder of an option to purchase 1,000 shares of Petrocon common stock at an
exercise price of $6.50 per share will receive an option to purchase 1,030
shares (1,000 multiplied by 1.03) of IDS common stock at an exercise price
of $6.31 per share ($6.50 divided by 1.03). An escrow account containing
the number of shares of IDS common stock needed to satisfy the exercise of
all replacement options and warrants will be established as part of the
merger.
Q: What will be the exercise price of the replacement options and warrants?
A: The exercise price of the replacement warrants for the Petrocon warrants
that have an exercise price of $6.25 per share will be between $5.90 and
$7.10. The exercise price of the replacement options for the Petrocon
options that have an exercise price of $6.50 per share will be between
$6.13 and $7.39. The exercise price of the replacement options for the
Petrocon options that have an exercise price of $4.44 per share will be
between $4.19 and $5.05. The exercise price of the replacement options for
the Petrocon options that have an exercise price of $1.00 per share will be
between $.94 and $1.14.
Q: What are the conversion terms of the IDS convertible preferred stock?
A: One share of the convertible preferred stock of IDS may be converted by the
holder into approximately .4202 shares of IDS common stock at any time.
IDS can force conversion of the IDS convertible preferred stock at any time
after the closing price of IDS common stock is $3.00 per share or more for
20 consecutive trading days. Beginning May 31, 2002, IDS must pay an
annual dividend on the convertible preferred stock equal to 8% of the
liquidation value of the preferred stock. The initial liquidation value of
the IDS convertible preferred stock is $1.00 per share. IDS, at its
option, may pay the dividend in kind by issuing additional shares of
convertible preferred stock.
Q: What are the redemption terms of the IDS convertible preferred stock?
A: IDS can redeem the convertible preferred stock at any time by the payment
in cash of the liquidation value plus all accrued but unpaid dividends on
the convertible preferred stock. If not earlier redeemed or converted, the
convertible preferred stock must be redeemed seven years from the date of
completion of the merger.
Q: Will IDS stockholders receive any shares in the merger?
A: No. Each share of IDS common stock will remain outstanding. However, as a
result of the merger, IDS will have more shares outstanding, so each IDS
shareholder's percentage interest in IDS will be reduced.
Q: What will the holders of debt from Petrocon receive in connection with the
merger?
A: As of the date of the merger, Petrocon will owe approximately $1,886,000 to
13 of its shareholders for money loaned by the shareholders to Petrocon
under junior subordinated notes issued by Petrocon. Immediately before the
closing of the merger, Petrocon will pay $190,000 in cash and issue shares
of Petrocon common stock valued at $0.65 per share in satisfaction of the
debt owed to 12 of these Petrocon shareholders. Assuming the merger closes
following the close of business on December 21, 2001, approximately
2,495,870 shares of Petrocon common stock will be issued to satisfy this
shareholder debt.
Q: What if I own 100,000 or more shares of Petrocon common stock at the time
of the merger?
A: Any Petrocon shareholder who, together with his or her affiliates, own
100,000 or more shares of common stock of Petrocon at the time of the
merger (with the exception of one shareholder who is involved in litigation
with Petrocon), will be required to escrow approximately 28% of the shares
of IDS common stock which that Petrocon shareholder receives as part of the
merger. Of the 9,800,000 shares of IDS common stock issued to Petrocon
shareholders, a total of 2,968,271 shares will be placed into two escrows
by approximately 22 of Petrocon's former shareholders, each of whom,
together with his or her affiliates, will
3
own 100,000 or more shares of Petrocon common stock on the effective date
of the merger. One of the escrows will contain 1,000,000 shares and will be
a fund against which IDS can make claims for indemnity for breaches by
Petrocon under the merger agreement. A second escrow of up to 1,968,271
shares of IDS common stock will be established by these same shareholders.
After the merger, IDS will deduct from the shares deposited in the second
escrow the number of shares issued by IDS upon the exercise of IDS options
and warrants issued to replace the Petrocon options and warrants that
survive the merger.
In addition, these same shareholders will be required to execute (i) a
lockup agreement which prohibits that shareholder from selling any shares
of IDS common stock for a period of two years after the merger without the
consent of IDS; (ii) a release agreement which releases all claims such
shareholder may have against Petrocon or Equus II Incorporated based on
facts existing as of the date of the merger; (iii) a voting agreement with
Alliance and Equus which obligates each party to the voting agreement to
vote for certain persons designated by the parties to the agreement to
serve as the directors of IDS after the merger; and (iv) a voting agreement
among such shareholders which specifies that most issues to be determined
by such shareholders as a group under the voting agreement with Alliance
and Equus will be determined by a majority vote of the IDS common shares
held by such shareholders at the time of the vote and issues under the
escrow agreements will be determined by a majority vote of the Petrocon
common shares held by such shareholders immediately prior to the merger.
Q: What happens to the shares placed in escrow?
A: If there are no claims on the indemnities given by Petrocon as part of the
merger agreement, 500,000 shares will be released to the Petrocon
shareholders who contributed to the escrow on the first anniversary of the
merger and if no claims have been made on the indemnities made by Petrocon
under the merger agreement on the second anniversary of the merger, an
additional 500,000 shares shall be released to the Petrocon shareholders
who contributed to the escrow. All distributions from the escrow shall be
on a pro rata basis based on the number of shares contributed by each
Petrocon shareholder to the escrows. The IDS common shares escrowed in
connection with the replacement of the options and warrants to purchase
Petrocon common stock shall be released to the Petrocon shareholders who
contributed to the escrow when the replacement options and warrants expire
unexercised or are terminated by agreement of the option holder. If any
replacement option or warrant is exercised, each Petrocon shareholder who
contributed to the escrow will receive his or her pro rata share of the
exercise price (less certain Medicare and tax withholdings) upon exercise
of such replacement option or warrant. Distributions to each Petrocon
shareholder who is required to contribute to the escrows will be made on a
pro rata basis based on the number of shares contributed by each Petrocon
shareholder to the escrows.
Q: When do you expect the merger to be completed?
A: We are working to close the merger transaction in December, 2001, to be
effective following the close of business on December 21, 2001.
Q: Who can help answer my questions?
A: If you have additional questions about the merger, please call IDS Investor
Relations at (281) 821-3200, extension 215 or Robert W. Raiford at Petrocon
at (409) 840-2100. For questions regarding transfer of shares, you may
call IDS' transfer agent, Computershare Investor Services LLC, at (212)
701-7656.
4
SUMMARY
This summary, together with the preceding questions and answers section,
summarizes all of the material terms of the transaction. However, it may not
contain all of the information that is important to you. To understand the
merger fully and to obtain a more detailed description of the terms of the
merger, you should carefully read this entire document. We have included page
references parenthetically to direct you to a more complete description of the
topics presented in this summary. The merger agreement, which is included as
Annex A with schedules and exhibits to this document, is the legal document that
governs the merger. We urge you to carefully review the merger agreement.
The Companies
Industrial Data Systems Corporation
600 Century Plaza Drive, Building 140
Houston, Texas 77073-6013
(281) 821-3200
IDS is a Nevada corporation that was incorporated in June 1994. IDS'
common stock is traded on the American Stock Exchange under the symbol "IDS."
IDS is the parent company of three wholly owned operating subsidiaries: IDS
Engineering, Inc., Thermaire, Inc. dba Thermal Corp., and Constant Power
Manufacturing, Inc. Each of these three subsidiaries operates in a different
industry segment. IDS Engineering operates in the engineering segment and
generates revenues by providing engineering consulting services to the pipeline
and process divisions of major integrated oil and gas companies. These services
include the development, management and turnkey execution of engineering
projects and accounted for 63% of IDS' consolidated revenues in 2000. Thermal
Corp. operates in the air handling segment, fabricating air handling equipment
for commercial heating ventilation and cooling systems. In 2000, Thermal Corp.
was responsible for approximately 20% of IDS' consolidated revenues. Constant
Power operates in the manufacturing segment, manufacturing industrial grade
uninterruptible electrical power systems and battery chargers and in 2000, was
responsible for approximately 17% of IDS' consolidated revenues. In 2000, IDS
generated revenues of approximately $16,900,000.
Petrocon Engineering, Inc.
3155 Executive Blvd.
Beaumont, TX 77705-1050
(409) 840-2100
Petrocon is a privately held Texas corporation that commenced operations in
1988. It is a diversified engineering company providing engineering services
and engineered systems to a broad range of industrial, commercial and
institutional clients throughout the United States and internationally.
Petrocon is the parent of seven wholly owned operating subsidiaries: RPM
Engineering, Inc., Petrocon Construction Resources, Inc., Petrocon Technologies,
Inc., Petrocon Systems, Inc., Triangle Engineers & Constructors, Inc., Petrocon
Engineering of Louisiana, Inc., and Alliance Engineering, Inc. Petrocon's
multi-disciplined expertise enables it to offer its clients broad design and
engineering solutions, extending from project inception through completion,
including start-up and operation, within multiple industries and across diverse
geographic markets. In 2000, Petrocon generated revenues of approximately
$68,300,000.
Reasons for the Merger
(See pages ___ and ____)
IDS. The board of directors of IDS believes that the terms of the merger
are fair to, advisable and in the best interests of IDS and its stockholders.
In reaching its determination, the IDS board of directors considered, among
other things, the following factors:
. revenues, assets, results of operations, businesses and markets of IDS and
Petrocon and the merits and risks inherent in combining the entities;
. opportunities to reduce fixed and general and administrative costs relative
to total revenue;
5
. opportunity to create a larger revenue base and enhanced visibility and
viability in the capital markets;
. the terms and conditions of the merger agreement;
. the opportunity to expand into additional segments of the oil and gas
industry that include refining, petrochemical and process-related facilities;
. the potential to enhance IDS' capability in the area of control systems and
advanced control technology;
. the opportunity to add to IDS' operations a well-recognized field inspection
service, plant maintenance and construction management operation;
. greater capabilities that the combined companies will have to more fully
service clients;
. the minimal overlap in the two companies' client bases or services provided;
. increased capabilities of the combined companies to handle larger projects;
and
. increased geographical coverage in the U.S. energy marketplaces of South
Louisiana and the Golden Triangle area of Beaumont, Texas with continued
access to U.S. and international projects.
Petrocon. The board of directors of Petrocon believes that the merger is
desirable for a number of reasons, including the following:
. the Petrocon common stock will be exchanged for stock in a public company,
which the board of directors of Petrocon believes will provide these holders
with market valuation and liquidity for their shares, following an initial
two-year lock-up period for certain shareholders who together with their
affiliates hold 100,000 or more shares of Petrocon common stock immediately
prior to the merger;
. the combined company will have greater financial resources, competitive
strength and business opportunities;
. Petrocon will gain access through IDS to public capital markets to finance a
continuing acquisition program;
. a substantial portion of Petrocon's outstanding debt will be converted to
capital stock of IDS;
. the merger will allow Petrocon to expand into the pipeline and gas processing
facility design markets; and
. the combined company will have increased geographical coverage in the U.S.
energy marketplaces of Houston, Texas and Tulsa, Oklahoma with continued
access to U.S. and international projects.
Business Strategy of the Combined Company
(See page ____)
The combined company's business strategy will be to integrate the existing
operations of both companies and acquire companies that fit with the combined
growth strategy.
Directors and Officers of IDS After the Merger
(See pages _____ and _____)
Upon the merger, the board of directors of IDS will be expanded from five
to seven directors and Mr. Wingate will resign as director, Mr. Hedrick having
resigned as a director on August 21, 2001. In accordance with the terms of a
voting agreement to be signed at the closing of the merger, three of the
directors expected to serve on the board of directors of IDS after the merger
were designated by Alliance 2000, Ltd., two were designated by certain
shareholders of Petrocon, one was designated by Equus II Incorporated, a
significant Petrocon lender and shareholder, and one was designated by agreement
of Alliance and certain shareholders of Petrocon. Petrocon
6
designated two current Petrocon directors, Michael L. Burrow, P.E. and Jimmie N.
Carpenter, P.E., as nominees to serve on the board of IDS after the merger.
Alliance designated William A. Coskey, P.E., Hulda L. Coskey and David W. Gent,
P.E., three current IDS directors, to serve on the board of directors of IDS
after the merger. Equus designated Randall B. Hale, an executive officer of
Equus, to serve on the board of directors of IDS. Alliance and certain
shareholders of Petrocon jointly designated David C. Roussel as a nominee for
director, to serve as an independent director.
After completion of the merger, Michael L. Burrow will serve as Chairman of
the Board and Chief Executive Officer, William A. Coskey will serve as President
and Chief Operating Officer, Hulda L. Coskey will serve as Investor Relations
Officer and as Secretary, and Robert W. Raiford will serve as Chief Financial
Officer, Treasurer, and Assistant Secretary of IDS. Other executive officers of
IDS may be elected by the board of directors of IDS after the merger.
Material U.S. Federal Income Tax Consequences
(See pages ___ and ___)
You should seek tax advice for a full understanding of the particular
consequences to you.
The Petrocon shareholders will receive an opinion from Gardere Wynne Sewell
LLP, counsel to Petrocon, stating that the merger will qualify as a tax-free
reorganization within the meaning of Section 368(a) of the tax code and that
accordingly, no gain or loss will be recognized by Petrocon shareholders upon
their exchange of Petrocon shares for IDS shares of common stock pursuant to the
terms of the merger, except to the extent that any shareholders receive cash for
fractional shares.
Certain Petrocon shareholders owning at least 100,000 shares of Petrocon
common stock immediately prior to the merger will deposit up to 1,968,271 shares
of IDS common stock received as a result of the merger into an escrow account.
IDS will deduct from these escrowed shares the number of shares issued by IDS
upon the exercise of IDS options and warrants issued to replace the Petrocon
options and warrants that survive the merger. Gardere Wynne Sewell LLP has
limited its tax opinion with respect to these escrowed shares. Specifically,
Gardere Wynne Sewell LLP has opined that it is more likely than not that the
shareholders depositing shares into such escrow will not recognize gain or loss
with respect to such deposited shares.
A holder of Petrocon common stock who perfects dissenters' rights with
respect to such person's shares of Petrocon common stock will, in general,
recognize capital gain under Section 302 of the tax code on the excess of the
amount received for perfecting dissenters' rights over the shareholder's
adjusted basis in their shares of Petrocon common stock.
Dissenters' Rights
(See page ______)
Although dissenters' rights are available under Texas corporate law, all
holders of common stock of Petrocon are parties to a shareholders' agreement
that binds all holders to the vote of the shareholders holding a majority of the
outstanding Petrocon common stock. If the merger is approved by Petrocon's
shareholders, dissenters' rights would be available to Petrocon's shareholders.
However, to the extent that any Petrocon shareholder attempts to exercise
dissenters' rights, that shareholder will be in breach of the Petrocon
shareholders' agreement. Therefore, dissenters' rights are effectively not
available for Petrocon shareholders.
IDS stockholders are not entitled to any dissenters' rights under Nevada
corporate law.
Risks Associated with the Merger
(See pages ______)
You should be aware of and carefully consider the risks relating to the
merger described under "Risk Factors." These risks include:
. after the merger, the combined company will have a substantial amount of
indebtedness;
7
. the merger consideration is fixed and will not be adjusted for changes in the
stock price of IDS before the merger is completed; and
. difficulties may arise in combining two companies that have previously
operated independently.
Interests of Officers and Directors in the Merger that Differ from Your
Interests
(See page ____)
You should be aware that two members of the IDS board of directors had
conflicts of interests in evaluating and recommending the merger. The two
directors of IDS, William A. Coskey and Hulda L. Coskey, manage and own all of
the interests in Alliance 2000, Ltd. Alliance owns approximately 73.5% of IDS'
outstanding common stock. Upon closing of this transaction, IDS will forgive
certain Alliance debt in the amount of approximately $196,500 as stipulated in
the Agreement and Plan of Merger. In addition, Alliance has granted Equus II
Incorporated, a significant Petrocon lender, an option to acquire 200,000 shares
of IDS common stock owned by Alliance and has created a 2,600,000 share pool of
IDS common stock for option grants to employees of IDS and its subsidiaries.
Additionally, a nominee for election to IDS' board of directors, Randall B.
Hale, is also an executive officer of Equus. Equus holds approximately
$9,300,000 of Petrocon's debt (calculated as of June 30, 2001) and warrants to
purchase 1,552,571 shares of Petrocon common stock. The debt and warrants will
be exchanged for two promissory notes totaling $2,000,000, to be paid in full at
the closing of the merger, a $3,000,000 promissory note due in quarterly
installments of $110,000 each plus a final payment of the balance then due on
the fourth anniversary of the closing of the merger, and an aggregate of
2,500,000 shares of IDS convertible preferred stock. (For financial accounting
purposes, this transaction is treated as including cancellation of approximately
$1,822,532 of debt owed by Petrocon to Equus.) The IDS and Petrocon boards were
aware of these interests and considered them in approving the merger.
The Special Meeting of IDS Stockholders
(See page ____)
At the IDS special meeting, holders of IDS common stock will be asked to:
. Approve an amendment to IDS' articles of incorporation creating a class of
preferred stock with 5,000,000 shares authorized for issuance;
. Amend the IDS 1998 Incentive Plan increasing the number of options which may
be issued under the Plan from 1,200,000 to 1,400,000;
. Approve and adopt the Agreement and Plan of Merger dated as of July 31, 2001,
between IDS, IDS Engineering Management, LC, a Texas limited liability
company and wholly owned subsidiary of IDS, PEI Acquisition, Inc., a Texas
corporation and wholly owned subsidiary of IDS Engineering Management, LC,
and Petrocon Engineering, Inc., a Texas corporation, relating to the merger
of PEI Acquisition, Inc. into Petrocon, including without limitation the
issuance of 9,800,000 shares of IDS common stock, 2,500,000 shares of
convertible preferred stock to Petrocon shareholders and lenders, and 100,500
shares of common stock to IDS' financial advisor;
. Contingent upon consummation of the merger, elect four additional directors
to the board of directors of IDS to serve until the next annual meeting of
stockholders or until their respective successors are elected and qualified.
The nominees for these director positions are Michael L. Burrow, P.E., Jimmie
N. Carpenter, P.E., Randall B. Hale, and David C. Roussel;
. Grant authority to extend the solicitation period if the meeting is postponed
or adjourned; and
. Transact such other business as may properly come before the meeting or any
adjournment thereof.
8
The Special Meeting of Petrocon Shareholders
(See page _____)
At the Petrocon special meeting, holders of Petrocon common stock will be
asked to:
. Approve and adopt the Agreement and Plan of Merger dated as of July 31, 2001,
between IDS, IDS Engineering Management, LC, a Texas limited liability
company and wholly owned subsidiary of IDS, PEI Acquisition, Inc., a Texas
corporation and wholly owned subsidiary of IDS Engineering Management, LC,
and Petrocon Engineering, Inc., a Texas corporation, relating to the merger
of PEI Acquisition, Inc. into Petrocon;
. Amend the Petrocon Stock Option Plan to increase the number of options that
can be issued under the Plan from 1,200,000 to 1,550,000;
. Terminate the Shareholders' Agreement dated March 9, 1999, effective upon the
closing of the merger; and
. Transact such other business as may properly come before the meeting or any
adjournment thereof.
Record Date; Voting Power
(See pages ___ and ___)
IDS. You may vote at the special meeting if you owned IDS common stock as
of the close of business on November __, 2001, the IDS record date. You may
cast one vote for each share of IDS common stock that you own.
Petrocon. You may vote at the special meeting if you owned Petrocon common
stock as of the close of business on November __, 2001, the Petrocon record
date. You may cast one vote for each share of Petrocon common stock that you
own.
Recommendations to Stockholders
(See page _____)
IDS. The IDS board, after deliberating upon the terms of the proposed
merger, believes that the merger is fair to, advisable and in the best interests
of IDS and its stockholders. The IDS board unanimously recommends that you vote
"FOR" the amendment of IDS' articles of incorporation to create a class of
preferred stock, "FOR" the approval and adoption of the merger agreement, "FOR"
the election of the four director nominees and "FOR" the authority to extend the
solicitation period if the meeting is postponed or adjourned.
Petrocon. The Petrocon board, after deliberating upon the terms of the
proposed merger, believes that the merger is fair to, advisable and in the best
interests of Petrocon and its shareholders and unanimously recommends that you
vote "FOR" approval and adoption of the merger agreement, "FOR" the increase in
the number of options issuable under the Petrocon stock option plan, and "FOR"
the termination of the shareholders' agreement.
Officers and Directors of IDS and Petrocon Will Vote in Favor of the Merger
(See page _____)
IDS. As of the record date, IDS directors and executive officers owned or
beneficially owned approximately 73.6% of the outstanding shares of IDS common
stock. Each of the directors and executive officers of IDS has advised IDS that
he or she plans to vote his or her shares for each of the proposals. State law
requires that holders of 51% of IDS shares approve the transaction. However,
the merger agreement requires approval of a majority of the shareholders, other
than Alliance, who are present at the meeting.
Petrocon. As of the record date, Petrocon directors and executive officers
and their affiliates beneficially owned approximately 57% of the outstanding
shares of common stock. Each of the directors and executive officers of
Petrocon has advised Petrocon that he plans to vote his shares for approval and
adoption of the merger agreement, for approval of the amendment to the stock
option plan, and for termination of the shareholders' agreement. The
affirmative vote of holders of two-thirds of the outstanding shares of Petrocon
is required to approve the merger
9
agreement. The affirmative vote of holders of a majority of the outstanding
shares of Petrocon is required to approve the other matters to be presented for
vote to the Petrocon shareholders.
Market Price Data
(See page _____)
IDS. On April 2, 2001, the last full trading day before the public
announcement of the proposed merger, IDS common stock closed at $0.52 per share.
On October 12, 2001, IDS common stock closed at $0.75 per share. We advise you
to obtain a recent quotation for IDS common stock in deciding whether to approve
the proposals related to the merger.
Petrocon. There is no established trading market for the common stock of
Petrocon.
Accounting Treatment
(See page _____)
The merger will be accounted for as a purchase by IDS.
Conditions to the Merger
(See page _____)
We will complete the merger only if the conditions of the merger agreement
are satisfied or, if permitted, waived. These conditions include:
. approval and adoption of the merger agreement by the affirmative vote of the
holders of a majority of all of the outstanding shares of IDS common stock as
well as by the affirmative vote of the holders of a majority of the
outstanding shares of IDS common stock held by stockholders other than
Alliance 2000, Ltd. who are present in person or by proxy at the IDS
stockholders' meeting;
. approval and adoption of the merger agreement by the affirmative vote of the
holders of at least two-thirds of the outstanding shares of Petrocon common
stock; and
. the absence of any law or court order that prohibits the merger.
Termination of the Merger Agreement
(See page ____)
IDS and Petrocon may jointly agree to terminate the merger agreement at any
time, even after approval of the merger agreement by the holders of the common
stock of each company.
In addition, either IDS or Petrocon may terminate the merger agreement in
other circumstances, including the following:
. if the stockholders of either company fail to approve their respective
proposals relating to the merger; or
. if Petrocon's board of directors accepts a merger or business combination
with or acquisition by another company after concluding that the action is
necessary for the board to act in a manner consistent with its fiduciary
duties.
Break-Up Fee
(See page ___)
Petrocon has agreed to pay IDS a break-up fee in the amount of $250,000 if
Petrocon accepts a merger or business combination with, or acquisition by,
another company within six months of the date of the merger agreement.
10
SUMMARY SELECTED HISTORICAL CONSOLIDATED FINANCIAL DATA FOR IDS
The following table sets forth selected financial information for IDS for
the six month periods ended June 30, 2001 and 2000, and for the years ended
December 31, 2000, 1999, 1998, 1997 and 1996. This financial information was
derived from the consolidated financial statements of IDS. This data should be
read in conjunction with the consolidated financial statements of IDS and the
related notes and "Management's Discussion and Analysis of Financial Condition
and Results of Operations" included elsewhere herein. The following selected
financial information for IDS for the years ended December 31, 1997 and 1996 was
derived from consolidated financial statements and the related notes of IDS
which are not included herein.
Six Months Ended Years Ended December 31,
June 30,
------------------- -----------------------------------------------
2001 2000 2000 1999 1998 1997 1996
------- ------- ------- ------- ------- ------- -------
(In thousands, except per share amounts)
Statement of Operations:
Revenues:
Engineering services $ 7,279 $ 3,650 $10,740 $ 5,978 $ 4,407 $ 4,265 $ 3,468
Product sales 3,824 3,074 6,236 6,260 8,260 6,259 2,069
------- ------- ------- ------- ------- ------- -------
Total revenues 11,103 6,724 16,976 12,238 12,667 10,524 5,537
------- ------- ------- ------- ------- ------- -------
Costs and expenses:
Cost of engineering services 5,472 2,619 8,175 4,378 3,143 3,219 2,488
Cost of product sales 2,870 2,411 4,852 5,012 6,308 4,699 1,477
Selling, general and
administrative 1,720 1,681 3,428 2,616 2,278 2,012 1,083
------- ------- ------- ------- ------- ------- -------
Total costs and
expenses 10,062 6,711 16,455 12,006 11,729 9,930 5,048
------- ------- ------- ------- ------- ------- -------
Operating income 1,041 13 521 232 938 594 489
Gains (realized and
unrealized) on marketable
securities, net - - - 51 18 26 107
Interest income 33 32 52 47 50 36 -
Interest expense (39) (38) (92) (68) (79) (64) -
Other income, net - - 22 49 - (1) 13
------- ------- ------- ------- ------- ------- -------
Income before taxes 1,035 7 503 311 927 591 609
Provision for taxes 404 - 123 151 357 208 206
------- ------- ------- ------- ------- ------- -------
Income from continuing
operations: 631 7 380 160 570 383 403
Loss from discontinued
operations, net of taxes - - - (2) (149) - -
Loss on disposal of
discontinued operations - - - (481) - - -
------- ------- ------- ------- ------- ------- -------
Net income (loss) $ 631 $ 7 $ 380 $ (323) $ 421 $ 383 $ 403
======= ======= ======= ======= ======= ======= =======
Per Share Data:
Basic and diluted earnings
(loss) per share:
Continuing operations $ 0.05 $ - $ 0.03 $ 0.01 $ 0.04 $ 0.03 $ 0.04
Discontinued operations - - - (0.03) (0.01) - -
Net income (loss) per share 0.05 - 0.03 (0.02) 0.03 0.03 0.04
Weighted average common
shares outstanding 12,965 12,965 12,965 13,056 12,947 12,757 10,057
======= ======= ======= ======= ======= ======= =======
11
Cash Flow Data:
Operating activities, net $ 316 $ (210) $ 27 $ 94 $ 773 $ (818) $ 129
Investing activities, net (202) (254) (468) (209) 209 (1,067) (235)
Financing activities, net (33) (52) 19 (197) 8 1,368 507
Discontinued operations, net - - - (250) (221) - -
of tax ------- ------- ------- ------- ------- ------- -------
Net change in cash and
cash equivalents $ 81 $ (516) $ (422) $ (562) $ 769 $ (517) $ 401
======= ======= ======= ======= ======= ======= =======
Balance Sheet Data (at end of
period):
Working capital $ 3,420 $ 3,058 $ 3,187 $ 3,306 $ 3,047 $ 1,958 $ 2,580
Property, plant, and
equipment, net 1,544 1,476 1,404 1,070 1,051 1,044 123
Total assets 8,052 6,190 7,052 5,914 7,929 5,368 3,385
Long-term debt 514 394 365 385 422 421 -
Stockholders' equity 4,790 3,981 4,159 3,975 4,409 3,439 2,670
12
SUMMARY SELECTED HISTORICAL CONSOLIDATED FINANCIAL DATA FOR PETROCON
The following table sets forth selected financial information for Petrocon
for the six month periods ended June 30, 2001 and 2000, and for the years ended
December 31, 2000, 1999, 1998, 1997, and 1996. This financial information was
derived from the consolidated financial statements of Petrocon. This data
should be read in conjunction with the consolidated financial statements of
Petrocon and the related notes and "Management's Discussion and Analysis of
Financial Condition and Results of Operations" included elsewhere herein. The
following selected financial information for Petrocon for the years ended
December 31, 1997 and 1996 was derived from consolidated financial statements
and the related notes of Petrocon which are not included herein.
Six Months Ended Years Ended December 31,
June 30,
--------------------- --------------------------------------------------
2001 2000 2000 1999 1998 1997 1996
---- ---- ---- ---- ---- ---- ----
(In thousands, except per share amounts)
Consolidated Statements of
Earnings Data:
Revenues $34,318 $33,044 $68,344 $ 80,995 $100,901 $92,616 $61,850
Direct costs 28,042 27,359 55,932 73,243 82,758 71,693 49,251
------- ------- ------- -------- -------- ------- -------
Gross profit 6,276 5,685 12,412 7,752 18,143 20,923 12,599
Cost associated with merger(1) 339 0 0 0 0 0 0
Estimated loss on assets held
for sale(2) 0 0 0 732 0 0 0
Costs associated with failed
equity offering 0 0 0 0 3,754 0 0
General and administrative 5,270 5,219 10,194 16,938 17,261 15,316 9,577
expenses ------- ------- ------- -------- -------- ------- -------
Operating income (loss) 667 466 2,218 (9,918) (2,872) 5,607 3,022
Interest expense (1,005) (1,041) (2,073) (2,201) (1,655) (1,569) (592)
Other income (expense), net 17 21 57 (2,937) (130) 291 85
------- ------- ------- -------- -------- ------- -------
Income (loss) before income (321) (554) 202 (15,056) (4,657) 4,329 2,515
taxes and extraordinary items
Income tax provision (benefit) 9 (95) 43 (129) (284) 1,574 1,050
------- ------- ------- -------- -------- ------- -------
Income (loss) before (330) (459) 159 (14,927) (4,373) 2,755 1,465
extraordinary items
Extraordinary items (net of 0 0 0 (153) 0 0 0
tax) (3) ------- ------- ------- -------- -------- ------- -------
Net income (loss) $ (330) $ (459) $ 159 $(15,080) $ (4,373) $ 2,755 $ 1,465
======= ======= ======= ======== ======== ======= =======
Per Share Data:
Basic
Income (loss) before
extraordinary item $ (0.05) $ (0.07) $ 0.03 $ (2.57) $ (0.76) $ 0.58 $ 0.37
Extraordinary item (net of
tax) 0.00 0.00 0.00 (0.03) 0.00 0.00 0.00
Net income (loss) (0.05) (0.07) 0.03 (2.60) (0.76) 0.58 0.37
Diluted
Income (loss) before
extraordinary item $ (0.05) $ (0.07) $ 0.02 $ (2.57) $ (0.76) $ 0.55 $ 0.37
Extraordinary item (net of
tax) 0.00 0.00 0.00 (0.03) 0.00 0.00 0.00
Net income (loss) (0.05) (0.07) 0.02 (2.60) (0.76) 0.55 0.37
Number of shares used to
calculate basic net income
(loss) per share 6,291 6,219 6,219 5,802 5,041 4,765 3,913
13
Number of shares used to
calculate diluted net
income (loss) per share 6,291 6,219 8,104 5,802 5,721 5,041 3,913
Balance Sheet Data (at end of
period):
Working capital (deficit) $(2,089) $ 1,892 $ 1,968 $ (2,418) $ (3,224) $(3,807) $(1,482)
Total assets 20,417 22,888 21,300 32,641 44,554 41,903 26,377
Long-term debt, including
current portion 19,151 18,705 18,060 25,556 8,339 4,803 6,529
Stockholders' equity (deficit) (5,356) (5,646) (5,028) (5,191) 9,889 13,919 6,753
______________________________
(1) Petrocon accrued legal and accounting fees incurred through June 30, 2001,
associated with the pending merger with IDS.
(2) Effective January 2000, Petrocon sold the assets of Alliance Engineering,
Inc. (AEI) to The Wood Group in exchange for $6,200,000 and the retention of
certain liabilities of AEI by Petrocon. The net proceeds of the sale were
used to reduce Petrocon's current liabilities by $3,700,000. The resulting
estimated financial statement loss of $700,000 (net of tax) was recognized
in 1999.
(3) In June 1999, Petrocon entered into a financing arrangement with Fleet
Capital Corporation whereby all outstanding debt to Heller Financial, Inc.
which consisted of a line of credit and two term loans were repaid.
Comparative Per Share Data
Historical Proforma
----------------------------------------------------------------------------
IDS Petrocon Combined*
------------------------------------ ---------------------------------- --------------------------------
12/31/00 6/30/01 12/31/00 6/30/01 12/31/00 6/30/01
---------------- --------------- ------------- --------------- ---------------- -----------
Book value $ 0.32 $ 0.37 $ (0.81) $ (0.83) N/A $ (0.02)
Cash dividends $ 0.00 $ 0.00 $ 0.00 $ 0.00 $ 0.00 $ 0.00
Income (loss) $ 0.03 $ 0.05 $ 0.03 $ (0.05) $ 0.03 $ 0.01
*These amounts have been calculated using the historical combined balances
included in the unaudited proforma information (except the number of shares
outstanding which is based on proforma shares outstanding).
14
SUMMARY UNAUDITED PRO FORMA COMBINED
FINANCIAL DATA FOR IDS AFTER THE MERGER
Basis of Presentation
The accompanying unaudited pro forma condensed consolidated financial
statements are based on adjustments to the historical consolidated financial
statements of IDS to give effect to the acquisition described in "Acquisition"
below. The pro forma condensed consolidated statements of operations assume the
acquisition was consummated as of the beginning of each period presented. The
pro forma condensed consolidated balance sheet assumes the acquisition occurred
as of June 30, 2001. IDS' management believes, however, that the pro forma
adjustments and the underlying assumptions and estimates reasonably present the
significant effects of the transactions reflected thereby and that any
subsequent changes in the underlying assumptions and estimates will not
materially affect the unaudited pro forma consolidated financial statements
presented herein. The pro forma condensed consolidated statements of operations
are not necessarily indicative of results that would have occurred had the
acquisition been consummated as of the beginning of the periods presented or
that might be attained in the future. Certain information normally included in
the financial statements prepared in accordance with generally accepted
accounting principles has been condensed or omitted pursuant to the rules and
regulations of the Securities and Exchange Commission. These pro forma financial
statements should be read in conjunction with the historical financial
statements of IDS, the historical financial statements of the acquired company,
and "Management's Discussion and Analysis of Financial Condition and Results of
Operations" included elsewhere in this merger proxy.
Earnings Per Share
Pro forma earnings per share were computed by dividing net income
applicable to common stock by the weighted average number of shares of common
stock.
Acquisition
IDS entered into a letter of intent on April 3, 2001 to acquire, through
merger with a wholly owned subsidiary, Petrocon Engineering, Inc., a Texas-based
engineering support services company, in exchange for 9,800,000 shares of IDS,
valued at $0.71 per share (the average price three days prior and three days
subsequent to the announcement of the merger). The purchase price totals
approximately $24,000,000. The transaction will be financed by issuance of
common stock valued at $6,683,000, issuance of preferred stock with a
liquidation value of $2,500,000 and assumption of debt totaling approximately
$14,800,000. The transaction will be accounted for as a purchase. Accordingly,
the results of operations of Petrocon will be included in the consolidated
results of operations of IDS from the date of acquisition. In connection with
the acquisition, certain Petrocon shareholders will convert shareholder notes of
$1,535,498 (balance at June 30, 2001) into Petrocon common stock.
15
Industrial Data Systems Corporation
Pro Forma Condensed Consolidated Statement of Operations (Unaudited)
Year Ended December 31, 2000
Historical
-----------------------------------------------
Pro Forma
IDS Petrocon Combined Adjustments Pro Forma
------------- ------------ ------------ ----------- --------------
Operating revenues $16,976,023 $68,343,696 $85,319,719 $85,319,719
Operating expenses:
Costs of goods sold 13,026,754 55,932,211 68,958,965 68,958,965
Selling, general and administrative 3,211,541 8,979,992 12,191,533 12,191,533
Depreciation and amortization 216,237 1,213,824 1,430,061 (125,399) (B) 1,304,662
----------- ----------- ----------- ---------- -----------
Operating profit 521,491 2,217,669 2,739,160 125,399 2,864,559
Other income (expense):
Interest expense, net (39,928) (2,072,688) (2,112,616) 636,000 (A) (1,585,616)
Other, net 22,083 56,807 78,890 (109,000) (C) 78,890
----------- ----------- ----------- ---------- -----------
Income before provision for income taxes 503,646 201,788 705,434 652,399 1,357,833
Provision for income taxes 122,768 42,534 165,302 357,698 (E) 523,000
----------- ----------- ----------- ---------- -----------
Net income 380,878 159,254 540,132 294,701 834,833
----------- ----------- ----------- ---------- -----------
Preferred stock dividends - - - 200,000 (A) 200,000
----------- ----------- ----------- ---------- -----------
Net income available to commom
stockholders $ 380,878 $ 159,254 $ 540,132 $ 94,701 $ 634,833
=========== =========== =========== ========== ===========
Basic and diluted earnings per
common share $0.03 $0.03
=========== ===========
Number of shares used to
compute earnings per share 12,964,918 9,900,500 22,865,418
=========== ========== ===========
See accompanying notes to these unaudited pro forma condensed consolidated
financial statements.
16
Industrial Data Systems Corporation
Pro Forma Condensed Consolidated Statement of Operations (Unaudited)
Six Months Ended June 30, 2001
Historical
--------------------------------------------------
Pro Forma
IDS Petrocon Combined Adjustments Pro Forma
---------------- ------------ ------------ ----------- -----------
Operating revenues $11,103,396 $34,317,502 $45,420,898 $45,420,898
Operating expenses:
Costs of goods sold 8,342,236 28,041,441 36,383,677 36,383,677
Selling, general and administrative 1,621,166 4,741,806 6,362,972 6,362,972
Merger related expenses - 339,000 339,000 (339,000) (C) -
Depreciation and amortization 99,196 528,685 627,881 (64,332) (B) 563,549
----------- ----------- ----------- ---------- -----------
Operating profit 1,040,798 666,570 1,707,368 403,332 2,110,700
Other income (expense):
Interest expense, net (39,050) (1,004,754) (1,043,804) 377,000 (A) (712,804)
(46,000) (C)
Other, net 32,754 17,435 50,189 50,189
----------- ----------- ----------- ---------- -----------
Income (loss) before provision for
income taxes 1,034,502 (320,749) 713,753 734,332 1,448,085
Provision for income taxes 403,500 9,574 413,074 144,926 (E) 558,000
----------- ----------- ----------- ---------- -----------
Net income (loss) 631,002 (330,323) 300,679 589,406 890,085
----------- ----------- ----------- ---------- -----------
Preferred stock dividends - - - 100,000 (A) 100,000
----------- ----------- ----------- ---------- -----------
Net income available to commom
stockholders $ 631,002 $ (330,323) $ 300,679 $ 489,406 $ 790,085
=========== =========== =========== ========== ===========
Basic and diluted earnings per
common share $ 0.05 $ 0.03
=========== ===========
Number of shares used to 12,964,918 9,900,500 22,865,418
compute earnings per =========== ========== ===========
share
See accompanying notes to these unaudited pro forma condensed consolidated
financial statements.
17
Industrial Data Systems Corporation
Pro Forma Condensed Consolidated Balance Sheet (Unaudited)
June 30, 2001
Historical
-----------------------------------------
Pro Forma
IDS Petrocon Combined Adjustments Pro Forma
---------- -------------- -------------- -------------- -------------
ASSETS
------
CURRENT ASSETS:
Cash and cash equivalents $ 322,905 $ 39,016 $ 361,921 $ 361,921
Municipal bond, at cost 400,000 - 400,000 (400,000) (C) -
Accounts receivable-trade, net 3,907,218 10,918,719 14,825,937 14,825,937
Inventory 813,684 - 813,684 813,684
Costs in excess of billings 480,181 661,643 1,141,824 1,141,824
Prepaids, expenses and other 227,609 289,073 516,682 516,682
---------- ------------ ------------ ----------- -----------
Total current assets 6,151,597 11,908,451 18,060,048 (400,000) 17,660,048
Property and equipment, net 1,543,725 3,605,786 5,149,511 5,149,511
Goodwill 10,350 4,542,116 4,552,466 8,955,833 (B)
945,000 (C) 14,453,299
Other assets 346,541 360,249 706,790 (346,000) (C) 360,790
---------- ------------ ------------ ----------- -----------
Total assets $8,052,213 $ 20,416,602 $ 28,468,815 $ 9,154,833 $37,623,648
========== ============ ============ =========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
CURRENT LIABILITIES:
Line of credit $ 374,991 $ 5,376,403 $ 5,751,394 $(5,751,394) (A) $ -
Current maturities - long-term debt 21,238 1,999,509 2,020,747 - 2,020,747
Current maturities - capital lease obligation 20,929 - 20,929 20,929
Accounts payable 1,133,515 1,861,665 2,995,180 2,995,180
Billings in excess of costs 70,608 372,525 443,133 443,133
Income taxes payable 363,783 130,699 494,482 494,482
Accrued expenses and other current liabilities 747,011 4,256,279 5,003,290 (685,000) (C) 4,318,290
---------- ------------ ------------ ----------- -----------
Total current liabilities 2,732,075 13,997,080 16,729,155 (6,436,394) 10,292,761
Long-term debt, net of current maturities 355,387 11,775,385 12,130,772 232,364 (A) 13,112,136
749,000 (C)
Capital lease obligation, net of current
maturities 158,845 - 158,845 158,845
Deferred income taxes 16,000 - 16,000 16,000
---------- ------------ ------------ ----------- -----------
Total liabilities 3,262,307 25,772,465 29,034,772 (5,455,030) 23,579,742
---------- ------------ ------------ ----------- -----------
Preferred stock subject to mandatory redemption - - - 2,500,000 (A) 2,500,000
STOCKHOLDERS' EQUITY:
Common Stock 12,965 6,433 19,398 3,367 (B)
100 (C) 22,865
Note receivable from shareholder (196,500) - (196,500) 196,500 (D) -
Additional paid-in capital 2,640,154 9,061,830 11,701,984 (2,388,630) (B)
70,900 (C) 9,384,254
Retained earnings (accumulated deficit) 2,333,287 (14,424,126) (12,090,839) 14,227,626 (B)(D) 2,136,787
---------- ------------ ------------ ----------- -----------
Total stockholders' equity (deficit) 4,789,906 (5,355,863) (565,957) 12,109,863 11,543,906
---------- ------------ ------------ ----------- -----------
Total liabilities and stockholders' equity
(deficit) $8,052,213 $ 20,416,602 $ 28,468,815 $ 9,154,833 $37,623,648
========== ============ ============ =========== ===========
See accompanying notes to these unaudited pro forma condensed consolidated
financial statements.
18
Notes to Unaudited Pro Forma Consolidated Financial Statements
1) Basis of Presentation
The following pro forma adjustments have been made to the historical
condensed consolidated financial statements of IDS to give effect to the
acquisition of Petrocon described above as if it had occurred as of June 30,
2001, and to the historical condensed consolidated statements of operations as
if the acquisition described above were consummated as of the beginning of each
period presented. The unaudited pro forma consolidated financial statements may
not necessarily be indicative of the results which actually would have occurred
if the acquisition had been in effect on the date or for the periods indicated
or which may result in the future.
2) Pro Forma Adjustments
A) Pre-closing transactions
. Petrocon Shareholder Transactions - As of June 30, 2001, Petrocon owed
$1,795,198 to certain of its shareholders. Immediately prior to the closing
of the merger, $190,000 of such debt will be repaid with funds financed
under the Fleet line of credit, and $1,535,498 of such debt will be
converted into common stock of Petrocon (see reconciliation of common stock
in footnote B below). This will result in a net reduction in long-term debt
of approximately $1,535,498 (this amount may be higher at closing because of
the accrual of interest) in the accompanying unaudited pro forma condensed
consolidated balance sheet as of June 30, 2001, as well as an increase to
common stock and additional paid-in capital of Petrocon and a reduction in
the goodwill resulting from the purchase price allocation in the post-merger
balance sheet of IDS as of June 30, 2001 (see reconciliation of goodwill in
footnote B below). In addition, the reduction in long-term debt would have
reduced interest expense in the accompanying unaudited pro forma statements
of operations for the year ended December 31, 2000 and the six-months ended
June 30, 2001, respectively (see table below).
. Equus Transactions - As of June 30, 2001, Petrocon owed Equus $9,322,532,
which will be restructured immediately prior to and in connection with the
merger. The amount of $2,000,000 will be repaid with funds financed under
the Fleet line of credit, a new note will be entered into for $3,000,000
(9.5% interest rate); Equus will receive 2,500,000 shares of IDS preferred
stock (which has been valued at $2,500,000 for financial statement purposes,
resulting in debt cancellation of $1,822,532 (this amount may be higher at
closing because of the accrual of interest)). The preferred stock has a
liquidation value of $1 per share; 8% cumulative dividend; is convertible
into IDS common stock and is subject to mandatory redemption in seven years.
The cancellation of debt will result in an increase in Petrocon shareholder
equity immediately prior to the merger transaction resulting in a decrease
in the goodwill in the post merger balance sheet of IDS as of June 30, 2001
(see reconciliation of goodwill in footnote B below). Additionally, the
reduction in long-term debt resulting from these transactions reduces
interest expense in the accompanying unaudited pro forma statements of
operations for the year ended December 31, 2000 and the six months ended
June 30, 2001, respectively (see table below). The preferred stock to be
issued to Equus and the common stock into which it is convertible is subject
to the resale restrictions provided by Rule 144 promulgated under the
Securities Act of 1933. Equus does not have registration rights with respect
to these shares.
. Fleet Transaction -- For purposes of the June 30, 2001 unaudited condensed
consolidated pro forma balance sheet, the revolver portion of the Fleet
credit facility totaling $5,376,403 and the IDS line of credit totaling
$374,991 have been reclassified from current to non-current. In connection
with the merger, Petrocon has received a proposal from Fleet to extend the
existing credit facility for one year to June 14, 2003, and to retain the
$15,000,000 maximum amount available under the revolving credit facility.
The Fleet proposal also permits payment of $2,000,000 in cash to Equus at
the closing of the merger to satisfy the Equus notes that become due on that
date. The Fleet line of credit will be variable rate debt. Based on the
outstanding balance as of June 30, 2001, a one-eighth percentage point
increase in the borrowing rate of Fleet's line of credit will increase the
combined company's monthly payment obligation by approximately $900.00. The
revolver credit facility is subject to compliance by Petrocon with certain
financial covenants, including a fixed charge coverage ratio of 1.00 and a
senior debt to EBITDA ratio of 3.50, declining quarterly to 2.50 to 1.00.
Management expects to execute the amendment to the Fleet credit facility
extending the maturity date and retaining the line of credit at the closing
of the merger. Fleet's proposal is subject to no material adverse changes
occurring prior to the merger, final credit approval by Fleet and additional
examinations of certain books and records of Petrocon and
19
IDS. Management believes, however, that the Fleet credit facility will be
amended to extend the maturity date to June 14, 2003, to retain the
$15,000,000 line of credit, to permit payment of the $2,000,000 due to Equus
at the closing of the merger, and to pay in full the existing IDS line of
credit.
. Employment Agreements - As part of the merger transaction, employment
agreements will be executed with certain executives. These agreements have
yet to be finalized and amounts to adjust the pro forma information is
currently not determinable.
. Advisor Compensation - The financial advisor to Petrocon is Mills Group,
Ltd. and the financial advisor to IDS is J.C. Sorensen. J.C. Sorensen was
engaged by IDS to assist with the identification, evaluation and negotiation
of the merger and to provide other customary financial advisory services.
The merger related fees and expenses include $200,000 and 204,615 shares of
Petrocon common stock issued to Mills Group, Ltd. immediately prior to the
closing of the merger and 99,500 shares of Petrocon common stock issued to
J.C. Sorensen immediately prior to the closing of the merger. The Petrocon
shares will be exchanged for shares of IDS common stock at the closing of
the merger. In addition, IDS will pay J.C. Sorensen $280,000 and issue an
additional 100,500 shares of IDS common stock outside of the merger
transaction which shares do not have registration rights and will be subject
to compliance with the requirements of Rule 144 promulgated under the
Securities Act of 1933. Payment of all of the fees described above is
contingent on closing the merger transaction.
The following summarizes the effect of the above pre-closing transactions
in the accompanying unaudited pro forma condensed consolidated balance
sheet as of June 30, 2001:
Increase (Decrease)
In Long-term debt
-----------------------
Long-term debt:
Shareholder notes converted to common stock $(1,535,498)
Equus note converted to preferred stock (2,500,000)
Equus note balance cancelled (1,822,532)
Petrocon revolver and IDS line of credit refinanced to non-current 5,751,394
Reclassification of Petrocon accrued merger related expenses (see C below) 339,000
-----------
Net pro forma adjustment to long-term debt $ 232,364
===========
The following summarizes the effect of the above pre-closing transactions
in the accompanying unaudited pro forma condensed consolidated statement of
operations for the year ended December 31, 2000 and the six months ended
June 30, 2001:
Six Months
Year Ended Ended
December 31, June 30,
2000 2001
-------------- --------------
Interest expense:
Shareholder notes converted to common stock (at 14%) $(234,000) $(126,000)
Equus debt:
i) Actual expense per historical financial statements (at 12%) (942,000) (499,000)
ii) $3,000,000 note remaining (at 9.5%) 285,000 143,000
Additional borrowing - Fleet line of credit* 219,000 93,000
Foregone interest income on bonds (see C below) 36,000 12,000
--------- ---------
Net pro forma adjustment to interest expense $(636,000) $(377,000)
========= =========
* Calculated using 10% and 8.5% for the year ended December 31, 2000 and
the six months ended June 30, 2001, respectively, which approximated
the terms in the Fleet revolving credit arrangement.
20
B) Merger Consideration
Calculation of the purchase price and the allocation of the pro forma
adjustments are based on IDS' estimate of the fair value of the assets and
liabilities. The following summarizes the calculation of the estimated
purchase price of Petrocon as of June 30, 2001:
Estimated debt assumed $13,300,000
Estimated transaction costs 1,500,000
Estimated fair value common stock issued 6,683,000
Value of preferred stock issued 2,500,000
Rounding 17,000
-----------
Total estimated purchase price $24,000,000
===========
The following is the detailed preliminary allocation of purchase price as
of June 30, 2001:
Total estimated purchase price $24,000,000
Less: estimated registration costs (275,000)
-----------
$23,725,000
Current assets $11,900,000
Property and equipment 3,600,000
Other assets 400,000
-----------
15,900,000
Current liabilities $(6,600,000)
Net assets of Petrocon acquired (9,300,000)
-----------
Goodwill $14,425,000
===========
The allocation of the purchase price is preliminary, as valuation and other
studies have not been finalized. It is not expected that the final
allocation of the purchase price will produce materially different results
from those presented herein. The excess purchase price over fair value
will be allocated as goodwill, and, in accordance with Financial Accounting
Standards Board Statement No. 142, Goodwill and Other Intangible Assets,
and there will be no amortization of the resulting goodwill. To reflect
the provisions of this pronouncement, the pro forma adjustments reflect the
reversal of Petrocon's historical goodwill amortization of $125,399 and
$64,332 for the year ended December 31, 2000 and the six months ended June
30, 2001, respectively. The amortization of goodwill from IDS transactions
that occurred prior to June 30, 2001 remains in the historical statements
of operations.
Issuance of IDS Common Stock - The adjustment reflects the issuance of
9,800,000 shares of IDS common stock for the outstanding shares of Petrocon
common stock. The common stock will be valued at $.71 per share, or
$6,958,000, which is the average price of IDS common stock three days prior
to and subsequent to the announcement of the merger. The issuance of IDS
common stock and retirement of Petrocon common stock results in the
elimination of the Petrocon shareholder deficit and creation of goodwill
from the excess purchase price over the fair value of Petrocon.
The following summarizes the effect of the issuance of the IDS common stock
in the accompanying unaudited pro forma condensed consolidated balance
sheet as of June 30, 2001:
Goodwill:
Issuance of IDS common stock $ 6,958,000
Elimination of Petrocon shareholder deficit 5,355,863
Pre-closing conversion of shareholder notes to equity (see A above) (1,535,498)
Pre-closing cancellation of Equus debt (see A above) (1,822,532)
------------
Net pro forma adjustment to goodwill $ 8,955,833
============
21
Common Stock:
Issuance of IDS common stock $ 9,800
Pre-closing issuance of Petrocon stock at $0.65 per share for Petrocon
shareholder debt (see A above) 2,362
Pre-closing issuance of Petrocon stock at $0.65 per share for advisor
compensation (see A above) 304
Retirement of Petrocon common stock (9,099)
------------
Net pro forma adjustment to common stock 3,367
============
Additional Paid-in Capital:
Issuance of IDS common stock, net of estimated registration costs of $275,000 $ 6,673,200
Pre-closing issuance of Petrocon common stock at $0.65 per share for Petrocon
shareholder debt 1,603,597
Pre-closing issuance of Petrocon common stock at $0.65 per share for advisor
compensation 303,811
Elimination of Petrocon additional paid-in capital (10,969,238)
------------
Net pro forma adjustment to additional paid-in capital $ (2,388,630)
============
C) Merger Related Expenses
. Merger related fees and expenses, consisting primarily of fees and expenses
of investment bankers, attorneys, accountants, and financial printing, SEC
filing fees, and other related charges, are estimated to be approximately
$1,559,000. Fees and expenses totaling approximately $339,000 of Petrocon
have been accrued and expensed in the unaudited pro forma condensed
statements of operations for the period ended June 30, 2001, and
approximately $440,500 estimated future costs have been accrued and
reflected as a reduction of retained earnings in the unaudited pro forma
condensed consolidated balance sheet as of June 30, 2001. IDS estimates
approximately $504,000 of their fees relate to transaction costs which have
been included in goodwill in the unaudited pro forma condensed consolidated
balance sheet; and approximately $275,000 relate to registration costs
which have been credited against the fair value of the securities being
issued, and reflected as a reduction in additional paid-in capital (see B
above). Included in the above amounts are 100,500 shares of common stock
valued at approximately $71,000 to be issued to an IDS advisor. In
addition, immediately before the closing of the merger, Petrocon will issue
204,615 shares of its common stock to the Petrocon advisor and 99,500
shares of its common stock to the IDS advisor. IDS estimates it will use
proceeds from the sale of bonds totaling $400,000 and additional borrowings
of approximately $749,000 to pay for the merger related expenses.
Additionally, the increase in long-term debt would have increased interest
expense by approximately $109,000 and $46,000 in the accompanying unaudited
pro forma statements of operations for the year ended December 31, 2000 and
six months ended June 30, 2001, respectively.
The following is the effect on goodwill of merger related expenses:
Estimated transaction costs of IDS $ 504,500
Pre-closing expense of Petrocon that would result in increase in
accumulated deficit in Petrocon's historic financial statements and
an increase in goodwill in the post merger balance sheet 440,500
------------
Net pro forma adjustment to goodwill $ 945,000
============
. The adjustment to reduce merger related expense by $339,000 on the
unaudited pro forma condensed statement of operations for the six months
ended June 30, 2001 is made to show the effects of reversing this non-
recurring expense.
22
. As of June 30, 2001, IDS had incurred $346,000 of merger related expenses
that were accrued and included in other assets. The pro forma adjustment
reclassifies this amount along with Petrocon's $339,000 (see discussion
above) to long-term debt.
D) Shareholder Receivable
The adjustment reflects the option pool created by Alliance 2000 to
permit the grant of options to purchase IDS common stock to certain
employees of IDS and its subsidiaries following the merger. The option
pool was created in exchange for the cancellation of an IDS note
receivable from Alliance totaling $196,500. The balance was adjusted
against retained earnings to reflect the cancellation as a
distribution to the stockholders.
E) Income Taxes
The adjustment for income taxes results in an estimated approximate
38.5% tax rate, which reflects the estimated effective tax rate for
both federal and state income taxes after the merger.
23
RISK FACTORS
In considering whether to vote in favor of the proposals relating to the
merger of the companies, you should carefully consider the following risks as
well as all of the information we have included in this document and its
annexes. The risks and uncertainties described below are not the only ones
facing us. Additional risks may materialize that are presently unknown to us
and risks we currently believe are immaterial may materially and adversely
affect our business operations.
The value of merger consideration to be received by the Petrocon shareholders is
uncertain.
The number of shares of IDS common stock and preferred stock convertible
into common stock to be received in the merger is fixed. However, the market
price of IDS common stock fluctuates and may be lower than the market price of
IDS common stock on the date of this document. In addition, depending on how
many Petrocon option and warrant holders exercise their options and warrants to
acquire Petrocon stock, the number of shares of IDS common stock that Petrocon
shareholders receive may decrease. Therefore, the value of the consideration to
be received by the Petrocon shareholders cannot be specifically determined at
this time.
In addition, the market price of the IDS common stock immediately after the
merger may increase or decrease. If it increases, the increase may not be
maintained for any extended period of time. In addition, any increase in the
market price of the IDS common stock may not correlate to an increased
investment in the stock by brokerage firms or individual investors, or otherwise
facilitate IDS' access to the equity markets, especially since many other
factors affect demand for stock.
For historical and current market prices of IDS common stock, see "Market
Price Data" on page ___.
We may not realize expected cost savings and other benefits of integrating the
businesses of our companies.
We expect that the merger will result in cost savings, operating
efficiencies, revenue enhancements and other synergies. However, achieving
these anticipated benefits depends in part upon the successful integration of
each company's administrative, financial, technical and marketing organizations
and implementation of appropriate operations, financial and management systems
and controls. This may not successfully occur.
The integration of our businesses will involve a number of risks,
including:
. the possible diversion of management's attention from other business concerns;
. the potential inability to successfully pursue some or all of the anticipated
revenue opportunities associated with the merger;
. the possible loss of key professional employees;
. the potential inability to successfully implement operating efficiencies;
. insufficient management resources to accomplish the integration;
. the increased complexity and diversity compared to each company's operations
prior to the merger;
. the possible negative reaction of clients to the merger;
. unanticipated problems or legal liabilities; and
. a reduction of credit line availability as a result of significant expenses
associated with the merger transaction.
The occurrence of any of the above events, as well as any other difficulties
which may be encountered in the transition and integration process, could reduce
or eliminate the cost-savings and other synergies expected from the proposed
merger.
24
Petrocon's financial performance declined over the past two years in comparison
to its prior performance and its performance in 2001 has not been as robust as
Petrocon management had anticipated. Its contribution to the combined company
may be limited by the financial issues it has faced in the past and continues to
face.
Petrocon had net income of $159,000 in 2000 and net losses of $15,080,000
in 1999 and $4,373,000 in 1998 compared to net income of $2,755,000 in 1997 and
$1,465,000 in 1996. In addition, Petrocon's performance in 2001, through
September 30, has resulted in lower revenues, cash flows, and profitability than
Petrocon's management had anticipated. Petrocon management believes that its
financial issues were largely a result of a contract in Saudi Arabia that has
been cancelled. However, there is no guaranty that Petrocon will now be able to
operate profitably.
Also, Petrocon was out of compliance with its existing credit facility with
Fleet Capital Corporation from January 31, 2000 until the signing of an
amendment to the credit facility on May 14, 2001. Petrocon is currently in
compliance with its credit facility due to Fleet's agreement to waive certain
financial covenants that were adversely impacted by the costs of the merger
transaction as well as the settlement of certain litigation. Although the
merger is expected to benefit both companies, and the financial covenants in the
Fleet credit facility will be renegotiated in connection with merger, Petrocon's
lower earnings over the last several years may continue and could once again
result in Petrocon being out of compliance with the Fleet credit facility. If
so, this would have a significant adverse impact on the liquidity and cash flow
of the combined company.
In early 2001, Petrocon and IDS discussed a variety of scenarios that might
reflect the parties' combined operations on a pro forma basis. While ensuing
operations of Petrocon over the latter part of 2001 did not achieve levels
contemplated earlier in the year, Petrocon and IDS did not alter the essential
financial terms of the transaction. The rationale of IDS in not altering the
terms is based upon Petrocon's agreement to cut costs, beginning in mid-2001.
However, the cost-cutting measures, even if successfully implemented may not
bring Petrocon's operations to the same level of profitability that was
anticipated in the scenarios initially reviewed by the parties.
Significant indebtedness could have important adverse consequences to the
combined company.
After the merger, IDS will have a substantial amount of debt. Petrocon
currently has a $15 million line of credit with Fleet Capital. This credit
facility was first made available to Petrocon in June 1999. The amount
available to borrow under the line is based upon a borrowing base formula for
accounts receivable and inventory. Fleet has agreed, subject to the closing of
this proposed merger, to amend this credit facility and make IDS a party to the
loan agreement and lending facility. At June 30, 2001, on a pro forma basis,
the combined company's total long term debt outstanding would have been
approximately $15,132,883 with a long-term debt to total capitalization ratio of
approximately 1.08 to 1.00. The significant indebtedness could have important
consequences. For example:
. the terms of our credit facility may require us to make interest and principal
payments and to maintain stated financial covenants. If the requirements of
this facility are not satisfied, the lenders under this facility would be
entitled to accelerate the payment of all outstanding debt. In such event, we
may not have sufficient funds available or may not be able to obtain the
financing required to meet our obligations;
. our ability to obtain any necessary financing in the future for working
capital, capital expenditures, acquisitions, debt service requirements or
other purposes may be limited;
. a portion of our cash flow from operations may be used for the payment of
interest on indebtedness and will not be available for financing acquisitions
or other purposes. On a pro forma basis, interest expense for the year ended
December 31, 2000 would have been $1,585,616 and interest expense for the six
months ended June 30, 2001 would have been $712,804. During those same
periods, Petrocon and IDS had combined cash flows from operations of
$4,169,221 and $3,013,249, respectively;
. the level of indebtedness and the covenants governing indebtedness could limit
our flexibility in planning for, or reacting to, changes in our business
because financing options may be limited or prohibited; and
. the level of indebtedness may make us more vulnerable during periods of
business inactivity or in the event of a downturn in our business because of
the fixed debt service obligations.
Additionally, if interest rates rise and credit markets tighten, we may not be
able to secure additional credit to meet our future needs.
25
A write-off of all or part of the goodwill relating to the merger or an
adjustment to the amortization period would adversely effect IDS' operating
results and net worth.
Under Statement 142, goodwill is required to be tested for impairment
annually at the reporting unit level (see comments below) in lieu of being
amortized. Furthermore, goodwill is required to be tested on an interim basis
if an event or circumstance indicates that it is more likely than not that an
impairment loss has been incurred. Examples of such events or circumstances
include:
. Adverse changes in legal factors, business climate, or regulatory environment;
. Unanticipated competition;
. Loss of key personnel;
. A more-likely-than-not expectation that a reporting unit or a significant
portion of a reporting unit will be sold or otherwise disposed of;
. A significant asset group within a reporting unit is tested for recoverability
under FAS 121, and
. A subsidiary that is a component of the reporting unit recognizes a goodwill
impairment loss in its separate financial statements.
If IDS' goodwill resulting from this transaction is required to be written off,
or if the amortization period for the goodwill is adjusted, the operating
results and net worth of the combined company would be negatively impacted.
Some directors, officers and affiliates of the companies have interests in the
merger that are different from your interests. This may make them more likely
to recommend the merger because the merger may result in direct or indirect
economic gain to them.
Alliance 2000, Ltd. currently owns approximately 73.5% of the IDS common
stock. William A. Coskey and Hulda L. Coskey, who serve as directors and
officers of IDS, are also the general partners of Alliance. In connection with
the merger, IDS will cancel debt of approximately $196,500 owed to it by
Alliance in exchange for execution by Alliance of an option pool agreement for
the benefit of certain employees of IDS and its subsidiaries. Michael L.
Burrow, who is the founder, Chairman of the Board, Chief Executive Officer and
President of Petrocon, is a one-third owner of a joint venture that owns the
building in which Petrocon's principal executive offices are located. Petrocon,
also a one-third joint venturer, leases part of the building from the joint
venture. Each joint venturer receives approximately $30,000 annually under this
lease arrangement. Prior to the merger, approximately $1,843,285 of debt
(calculated as of September 30, 2001) owed by Petrocon to certain of its
shareholders (some of whom are officers and directors) will be converted into
Petrocon common stock and approximately $190,000 of such debt will be paid in
cash. Additionally, Equus II Incorporated will receive $2,000,000 in cash at
the closing of the merger, a $3,000,000 promissory note and 2,500,000 shares of
convertible preferred stock of IDS in exchange for debt owed to Equus by
Petrocon and for outstanding warrants Equus holds to acquire additional shares
of Petrocon common stock. Gary L. Forbes and Tracey Cohen are executive
officers of Equus and members of Petrocon's board of directors. Randall B. Hale
is an executive officer of Equus and a director nominee for IDS' board of
directors. Consequently, IDS stockholders and Petrocon shareholders should
consider whether these interests may have influenced these directors to support
the merger.
The Board of Directors of IDS may authorize future sales of IDS' common stock
which could result in a decrease in value to existing stockholders of the shares
they hold.
Our articles of incorporation authorize our board of directors to issue up
to an additional 49,912,621 shares of common stock and an additional 2,500,000
shares of preferred stock, assuming the amendment to the articles of
incorporation and the merger agreement are approved. These shares may be issued
without stockholder approval unless the issuance is 20% or more of IDS'
outstanding common stock, in which case the American Stock Exchange requires
stockholder approval. The combined company may issue shares of stock in the
future in connection with acquisitions or financings. Future issuances of
substantial amounts of common stock, or the perception that these
26
sales could occur, may affect the market price of our common stock. In addition,
the ability of the board of directors to issue additional stock may discourage
transactions involving actual or potential changes of control of the combined
company, including transactions that otherwise could involve payment of a
premium over prevailing market prices to holders of IDS common stock after the
merger.
Our liability for damages due to legal proceedings may be significant. Our
insurance may not be adequate to cover this risk.
There are several legal proceedings pending against Petrocon and Petrocon
has been a party to more litigation than IDS. These proceedings include
employment related claims and various torts and breach of contract claims in
connection with the performance of professional services. Not all of these
claims are covered by Petrocon's insurance coverage. Further, if damages are
awarded to claimants in these proceedings, including some claims for punitive
damages, the claims could substantially exceed Petrocon's insurance coverage.
If Petrocon is subject to damages outside its current insurance coverage, there
could be a material adverse effect on the combined company's cash resources. In
addition, management of litigation is time-consuming and takes management
resources away from revenue generating activities. The total damages sought in
the legal proceedings currently pending against Petrocon total approximately
$2,500,000. (See "Business of Petrocon -- Litigation and Other Legal
Proceedings" on page [__] for a more detailed description of the pending legal
proceedings.)
The failure to attract and retain key professional personnel could adversely
affect the successful integration of the two companies.
The ability to retain the management teams currently at IDS and Petrocon,
and the ability to attract, retain and expand the staff of the combined company
will be an important factor in successfully integrating the operations of the
two companies. A shortage of qualified technical professionals currently exists
in the engineering and design industry. The market for these professionals is
competitive, and we cannot assure you that we will be successful in our efforts
to continue to attract and retain such professionals. In addition, we will rely
heavily upon the experience and ability of our senior executive staff and the
loss of one or more of these individuals could have a material adverse effect on
the ability of the combined company to take advantage of the synergies
anticipated from the merger. Finally, due to anticipated efficiencies in
integrating the two companies, we may downsize through layoffs of some
employees. This could cause poor employee morale leading some management
personnel and key employees to resign in anticipation of or as a result of such
layoffs.
Liability claims could result in losses to the combined company that are greater
than those experienced by IDS in the past.
Providing engineering and design services involves the risk of contract,
professional errors and omissions, and other liability claims, as well as
adverse publicity. Further, many of our contracts will require us to indemnify
our clients not only for our negligence, if any, but also for the concurrent
negligence of our clients. Historically, Petrocon has had more liability claims
than IDS. Both companies currently maintain, and the combined company will
continue to maintain, liability insurance coverage, including coverage for
professional errors and omissions. However, claims outside of or exceeding our
insurance coverage may be made. Moreover, particularly in view of Petrocon's
claims history, the combined company may have higher insurance costs or may not
be able to continue to obtain adequate insurance coverage at rates we consider
reasonable. A significant claim could result in unexpected liabilities, take
management time away from operations, and have a material adverse financial
effect on the combined company's cash flow.
A small number of stockholders will control the combined company, so that other
stockholders' voting rights will rarely give them meaningful input into
decisions subject to stockholder vote.
Upon completion of the merger, directors, executive officers and principal
stockholders of the combined company, and their affiliates, will beneficially
own approximately 58% of IDS' outstanding common stock on a fully diluted basis.
Accordingly, these stockholders, as a group, will be able to control the outcome
of stockholder votes, including votes concerning the adoption or amendment of
provisions in IDS' articles of incorporation or bylaws, and the approval of
mergers and other significant corporate transactions. The existence of these
levels of ownership concentrated in a few persons makes it unlikely that any
other holder of common stock after the merger
27
will be able to affect the management or direction of the combined companies.
These factors may also have the effect of delaying or preventing a change in
management or voting control of IDS after the merger.
We may lose customers as a result of the merger, and we may not be able to
replace lost business. This would negatively impact the ability of the combined
company to operate profitably.
IDS and Petrocon have had, and may in the future have, a small number of
clients that contribute a substantial portion of our revenue in any one year or
over a period of several consecutive years due to the size of particular
engineering projects. If major customers of either company are displeased with
the merger transaction, they could terminate their contracts with IDS and
Petrocon. In addition, as contracts are completed, the combined company will be
required to obtain significant new engineering projects in order to have
sufficient cash flow to pay the expenses of the merged company. If we lose a
major contract with a customer, the business and associated revenue may not be
replaced. The failure to do so would decrease the revenue of the combined
company and could result in our not being able to generate enough cash flow from
operations to meet obligations and make planned expenditures.
Seasonality of our industry may cause our revenues to fluctuate more than they
have in the past.
Holidays and employee vacations, during IDS' and Petrocon's fourth quarter,
exert downward pressure on revenues for that quarter, which is only partially
offset by the year-end efforts on the part of many clients to spend any
remaining funds budgeted for engineering services or capital expenditures during
the year. The annual budgeting and approval process under which these clients
operate is normally not completed until after the beginning of each new year,
which can depress results for the first quarter. Principally due to these
factors, IDS' and Petrocon's revenues during their first and fourth quarters
generally tend to be lower than in their second and third quarters. This is a
stronger trend among the Petrocon customer base than among the IDS customer
base. Since the Petrocon customer base is expected to account for at least 75%
of the revenues of the combined company, the impact of seasonality on the
combined business will be increased following the merger.
Additional acquisitions may adversely affect our ability to manage our business.
The growth of Petrocon and IDS since their inception has been, in part, the
result of acquisitions of companies. In implementing our combined business
strategy, we plan to continue making acquisitions in the future on terms
management considers favorable to us. The successful acquisition of other
companies involves an assessment of future revenue opportunities, operating
costs, economies and earnings after the acquisition is complete, potential
industry and business risks and liabilities beyond our control. This assessment
is necessarily inexact and its accuracy is inherently uncertain. In connection
with our assessments, we perform reviews of the subject acquisitions we believe
to be generally consistent with industry practices. These reviews, however, may
not reveal all existing or potential problems, nor will they permit a buyer to
become sufficiently familiar with the subject companies to assess fully their
deficiencies and capabilities. We cannot assure you that we will identify,
finance and complete additional suitable acquisitions on acceptable terms. We
may not successfully integrate future acquisitions. Any acquisitions may
require substantial attention from our management, which may limit the amount of
time that management can devote to day-to-day operations. Our inability to find
additional attractive acquisition candidates or to effectively manage the
integration of any businesses acquired in the future could adversely affect the
ability of the combined company to grow profitably or at all.
The combined company is likely to enter into an increasing number of fixed price
contracts, creating the possibility of cost overruns and negatively impacting
profitability.
Historically, a high percentage of IDS' and Petrocon's projects have been
undertaken on a time and materials or cost-plus fee basis. However, project
owners are increasingly seeking, and IDS, Petrocon and their competitors are
accepting, pricing alternatives designed to shift the risk of cost overruns to
the service provider, or requiring the service provider to at least share in the
risks of cost overruns and inefficiencies in the delivery of services. These
alternatives include fixed price or turnkey pricing, a guaranteed maximum price,
incentive fees, competitive bidding and other "value based" pricing
arrangements. This trend is more pronounced in the market served by Petrocon
than in the market served by IDS, and we expect this trend to continue in the
future. The combined company will, therefore, likely have more fixed price
contracts than either company has had in the past and will be required to
maintain and continually improve, relative to our competitors, both the
precision of our cost
28
estimates and the efficiency with which we deliver our services. Significant
cost overruns on a fixed-price project would negatively impact cash flow and
profitability and might cause the combined company to be unable to generate
enough cash flow from operations to meet obligations and make planned
expenditures.
Nominees for the board of directors will be designated by a voting agreement so
stockholders who are not parties to the voting agreement will not have a
meaningful vote in the election of directors.
Holders of approximately 81% of the outstanding shares of IDS will enter
into a voting agreement at the closing of the merger agreeing to vote their
shares in the election of directors in favor of three nominees of Alliance, two
nominees of certain former shareholders of Petrocon, one nominee of Equus (the
Equus nominee becoming a nominee of certain former shareholders of Petrocon once
the Equus debt is paid), and one nominee selected by the mutual agreement of
Alliance and certain former shareholders of Petrocon.
Large blocks of shares of IDS common stock are not currently freely
transferable, and shares that Petrocon's shareholders receive in the merger will
not be transferable for two years from the date the merger is consummated.
After the merger, IDS will have approximately 22,865,418 shares of common
stock and 2,500,000 shares of convertible preferred stock issued and
outstanding. Of those shares, approximately 4,420,190 shares of common stock
will be freely transferable without restriction and 13,002,725 shares of common
stock will be currently eligible for sale subject to compliance with the
requirements of Rule 144 or Rule 145. In addition, approximately 8,979,244
shares (some of which are also subject to Rules 144 and 145) will be subject to
a two-year restriction on transferability unless IDS, in its sole discretion,
consents to a transfer.
Each shareholder of Petrocon who, together with his or her affiliates, owns
100,000 or more shares of Petrocon common stock immediately prior to the merger
(other than one shareholder with whom Petrocon is involved in litigation), will
be subject to a two-year restriction on transferring the shares of IDS common
stock received in the merger. Therefore, although a public market will exist
for the IDS common stock, these former Petrocon shareholders will not have
access to the market for a period of two years to enjoy the liquidity that
publicly traded stock typically affords. To transfer their shares of stock
during this period, the consent of IDS, in its sole discretion, will be required
and there is no assurance that this consent will be given.
This transaction may be taxable to the Petrocon shareholders.
IDS and Petrocon believe that the merger is a tax-free reorganization, and
the Petrocon shareholders will receive a legal opinion to that effect from
Gardere Wynne Sewell LLP. However, neither IDS nor Petrocon has requested a
ruling from the Internal Revenue Service as to the federal income tax
consequences of the merger and the IRS could take the position that the merger
is not a tax-free reorganization.
29
FORWARD-LOOKING STATEMENTS
This joint proxy statement/prospectus includes forward-looking statements
about IDS within the meaning of Section 27A of the Securities Act of 1933 and
Section 21E of the Securities Exchange Act of 1934. Forward-looking statements
include statements regarding management's beliefs, current expectations,
estimates and projections about the industries in which IDS and its subsidiaries
and Petrocon and its subsidiaries serve, the economy and about IDS and Petrocon
in general. The Securities Act of 1933 and the Securities Exchange Act of 1934
provide a safe harbor from liabilities under certain circumstances for reporting
companies such as IDS but not for non-reporting companies like Petrocon. The
words "expect," "anticipate," "intend," "plan," "believe," "seek," "estimate"
and similar expressions are intended to identify these forward-looking
statements; however, this joint proxy statement/prospectus also contains other
forward-looking statements in addition to historical information. Although we
believe that the expectations reflected in the forward-looking statements are
reasonable, such forward-looking statements are not guarantees of future
performance and are subject to risks, uncertainties and other factors that may
cause the actual results, performance or achievements of IDS and Petrocon to
differ materially from historical results or from any results expressed or
implied by these forward-looking statements. We caution readers that the
following important factors, among others, could cause the combined company's
actual results to differ materially from the forward-looking statements
contained in this joint proxy statement/prospectus:
. completion of the proposed merger;
. integration of the two companies;
. future financial performance;
. the ability to successfully implement our future acquisition strategy;
. changes in laws and regulations that IDS and Petrocon must comply with, and
the costs of compliance with current and future laws and regulations;
. changes in accounting policies and practices, as may be adopted by the
regulatory agencies as well as by the Financial Accounting Standards Board, or
changes in IDS' organization, compensation and benefit plans;
. the ability to keep pace with evolving technology;
. the combined company's competitive position within its market, particularly in
view of the increasing consolidation within its industry, including the
increased competition from larger regional and out-of-state engineering
services organizations;
. increases and decreases in commodity prices, including chemicals, oil, natural
gas and derivative products;
. the ability to get parts from vendors;
. the ability to renew or replace its credit facilities; and
. changes in the business cycle and downturns in local, regional and national
economies.
We caution you that the foregoing list of important factors is not
exclusive. This document speaks only as of the date of this merger proxy. We
will amend this merger proxy as required to keep it materially accurate during
the period we use it. However, we are under no duty to update any of the
forward-looking statements in this merger proxy once we are no longer using
it.
These forward-looking statements are based on assumptions that we believe
are reasonable, but which are open to a wide range of uncertainties and business
risks. Factors that could cause actual results to differ materially from those
anticipated are discussed in the risk factors in this document and in IDS'
periodic filings with the SEC. For a discussion of some of the risks and
uncertainties, which could cause actual results to differ from those contained
in the forward-looking statements, see "Risk Factors" on page _____ of this
document.
30
IDS SPECIAL MEETING OF STOCKHOLDERS
This document is furnished in connection with the solicitation of proxies
from the holders of IDS common stock by the IDS board of directors for use at
the special meeting of stockholders. This document and accompanying form of
proxy are first being mailed to the stockholders of IDS on or about November __,
2001.
Time and Place; Purpose
The special meeting of stockholders will be held in IDS' corporate offices
at 600 Century Plaza Drive, Building 140, Houston, Texas on December __, 2001,
at 10:00 a.m., Central Daylight Savings Time. The stockholders of IDS will be
asked to approve an amendment to IDS' articles of incorporation creating a class
of preferred stock with 5,000,000 shares authorized for issuance; to approve an
amendment to the IDS 1998 Incentive Plan increasing the number of options which
may be issued under the Plan from 1,200,000 to 1,400,000; to approve and adopt
the Agreement and Plan of Merger dated as of July 31, 2001, between IDS, IDS
Engineering Management, LC, a Texas limited liability company and wholly owned
subsidiary of IDS, PEI Acquisition, Inc., a Texas corporation and wholly owned
subsidiary of IDS Engineering Management, LC, and Petrocon Engineering, Inc., a
Texas corporation, relating to the merger of PEI Acquisition, Inc. into
Petrocon, including without limitation the issuance of 9,800,000 shares of IDS
common stock and 2,500,000 shares of convertible preferred stock to Petrocon
shareholders and lenders and the issuance of 100,500 shares of common stock to
IDS' financial advisor; contingent upon consummation of the merger, to elect
four additional directors to the board of directors of IDS to serve until the
next annual meeting of stockholders or until their respective successors are
elected and qualified; to grant authority to extend the solicitation period if
the meeting is postponed or adjourned; and to transact such other business as
may properly come before the meeting or any adjournment thereof.
IDS stockholder approval of the issuance of up to an additional 9,900,500
shares of common stock and 5,000,000 shares of preferred stock pursuant to the
merger agreement and the agreement with its financial advisor is required by the
rules of the American Stock Exchange.
The IDS board of directors has unanimously approved the terms of the merger
agreement and has determined that the merger is fair to, advisable and in the
best interests of IDS and its stockholders, and unanimously recommends that
holders of IDS common stock vote "FOR":
. approval of the amendment to IDS' articles of incorporation to create a class
of preferred stock;
. approval of an amendment to the IDS 1998 Incentive Plan increasing the number
of options which may be issued under the Plan;
. approval and adoption of the merger agreement;
. contingent upon consummation of the merger, election of four directors to the
board of directors to serve until the next annual meeting of stockholders or
until their respective successors are elected and qualified; and
. extension of the solicitation period if the meeting is postponed or adjourned.
Record Date; Voting Rights and Proxies
A record of stockholders has been taken as of the close of business on
November __, 2001, and only stockholders of record on that date will be entitled
to notice of and to vote at the meeting. As of the record date, there were
[12,964,918] shares of IDS common stock outstanding, held by approximately [89]
stockholders of record. Approximately [3,412,943] of these shares were held by
[184] unaffiliated stockholders of record. Each share of IDS common stock is
entitled to one vote. Stockholders are not entitled to cumulative voting. A
stockholders list will be available at the offices of IDS commencing November
__, 2001, and may be inspected during normal business hours prior to the meeting
and during the meeting.
All stockholders are invited to attend the meeting in person, but even if
you expect to be present at the meeting, you are requested to mark, sign, date
and return the enclosed proxy card as promptly as possible in the
31
postage-paid envelope provided to ensure your representation. Your proxy may be
revoked at any time before it is voted by signing and returning a later-dated
proxy with respect to the same shares, by filing with Hulda L. Coskey, the
Secretary of IDS, a written revocation bearing a later date or by attending and
voting in person at the meeting. Stockholders attending the meeting may vote in
person even if they have previously sent in a proxy card. If no specification is
made on the proxy card, the shares represented by an executed proxy will be
voted "FOR" all matters being submitted to the stockholders for approval.
Solicitation of Proxies
In addition to solicitation by use of the mails, proxies may be solicited
by directors, officers and employees of IDS in person, by telephone, facsimile,
email, or delivery service such as UPS or Federal Express. Those directors,
officers and employees will not be additionally compensated, but may be
reimbursed for out-of-pocket expenses incurred in connection with the
solicitation. Arrangements have also been made with brokerage firms, banks,
custodians, nominees and fiduciaries for the forwarding of proxy solicitation
materials to owners of IDS common stock held of record by those persons. Those
firms will be reimbursed for reasonable expenses incurred in forwarding those
materials.
Quorum
A majority of the shares of IDS common stock entitled to vote, represented
in person or by proxy, is necessary to constitute a quorum at the special
meeting of IDS stockholders. Shares represented by proxies that reflect
abstentions as to a particular proposal will be counted as present and entitled
to vote for purposes of determining a quorum. Shares represented by proxies
that reflect a broker "non-vote" will be counted as present and entitled to vote
for purposes of determining a quorum.
Required Vote; Failure to Vote and Broker Non-Votes
If a quorum is present, the affirmative vote of the holders of a majority
of the shares of IDS common stock represented in person or by proxy at the
meeting is required for the approval of each proposal, except that the board of
directors is requiring that the merger agreement be approved by a majority of
the outstanding shares of IDS common stock held by stockholders other than
Alliance 2000, Ltd. present in person or by proxy at the meeting. Any failure
to vote, or a vote to abstain, will have the effect of a vote against the
approval of the merger agreement or other proposals.
Under American Stock Exchange rules, brokers who hold shares in street name
for customers have the authority to vote on routine proposals such as the
election of directors and the ratification of the auditors when they have not
received instructions from beneficial owners. However, these brokers are
precluded from exercising their voting discretion on non-routine matters such as
the amendment to the articles of incorporation to create a class of preferred
stock and the approval of the merger agreement, absent specific instructions
from the beneficial owner of the shares. These "broker non-votes" will have the
effect of a vote against the proposal to approve the merger agreement. As to
the other proposals, these broker non-votes will be treated as unvoted for
purposes of determining approval of a proposal and will not be counted as for or
against that proposal.
Additional Information
IDS and Petrocon believe that the information, including historical and
proforma financial information, set forth in this merger proxy provides all
material information necessary to enable their shareholders and the marketplace
to evaluate the merits and risks of the merger. However, should you have any
questions or requests for additional copies of this document or a proxy card,
please direct your inquiry to IDS at the following address or telephone
number:
Industrial Data Systems Corporation
600 Century Plaza Drive, Building 140
Houston, Texas 77073-6013
Attention: Investor Relations
(281) 821-3200, ext. 215
Any stockholder of IDS whose shares are registered in the name of a broker,
dealer, commercial bank, trust company or other nominee may also receive copies
of this document and a proxy card by contacting the nominee.
32
PETROCON SPECIAL MEETING OF SHAREHOLDERS
This document is furnished in connection with the solicitation of proxies
from the holders of Petrocon common stock by the Petrocon board of directors for
use at the special meeting of shareholders. This document and accompanying form
of proxy are first being mailed to the shareholders of Petrocon on or about
November __, 2001.
Time and Place; Purpose
The Petrocon special meeting will be held at 5:00 p.m., Central Daylight
Savings Time, on December __, 2001, at the Holiday Inn-Beaumont Plaza, 3950 I-10
South at Walden Road, Beaumont, Texas. At the special meeting and any
adjournment or postponement of the meeting, the shareholders of Petrocon will be
asked to consider and vote upon the approval and adoption of the merger
agreement, the approval of an amendment to the stock option plan, the
termination of the shareholders' agreement and any other matters that may
properly come before the special meeting.
The Petrocon board has unanimously approved the terms of the merger
agreement and has determined that the merger is fair to, advisable and in the
best interests of Petrocon and its shareholders and unanimously recommends that
holders of Petrocon common stock vote for approval and adoption of the merger
agreement, for the approval of an amendment to the stock option plan and for
termination of the shareholders' agreement.
Record Date; Voting Rights and Proxies
A record of shareholders has been taken as of the close of business on
November __, 2001 and only shareholders of record on that date will be entitled
to notice of and to vote at the meeting. As of the record date, there were
[6,432,845] shares of Petrocon common stock outstanding held by [89]
shareholders of record. Each share of Petrocon common stock is entitled to one
vote. A shareholders list will be available at the offices of Petrocon
commencing 10 days prior to the meeting and may be inspected during normal
business hours prior to the meeting and during the meeting.
All shareholders are invited to attend the meeting in person, but even if
you expect to be present at the meeting, you are requested to mark, sign, date
and return the enclosed proxy card as promptly as possible in the postage-paid
envelope provided to ensure your representation. Your proxy may be revoked at
any time before it is voted by signing and returning a later-dated proxy with
respect to the same shares, by filing with Robert W. Raiford, the Secretary of
Petrocon, a written revocation bearing a later date or by attending and voting
in person at the meeting. Shareholders attending the meeting may vote in person
even if they have previously sent in a proxy card.
If no specification is made on the proxy card, the shares represented by an
executed proxy will be voted "FOR" the approval and adoption of the merger
agreement and "FOR" the termination of the shareholders' agreement upon closing
of the merger.
Solicitation of Proxies
In addition to solicitation by use of the mails, proxies may be solicited
by directors, officers and employees of Petrocon in person, by telephone,
facsimile, email, or delivery service such as UPS or Federal Express. Those
directors, officers and employees will not be additionally compensated, but may
be reimbursed for out-of-pocket expenses incurred in connection with the
solicitation.
Quorum
A majority of the shares of Petrocon common stock entitled to vote,
represented in person or by proxy, is necessary to constitute a quorum at the
special meeting of Petrocon shareholders.
Required Vote; Failure To Vote
The affirmative vote of the holders of at least two-thirds of the
outstanding shares of Petrocon common stock is required for the approval and
adoption of the merger agreement. The affirmative vote of the holders of a
33
majority of the outstanding shares of Petrocon common stock is required for the
termination of the shareholders' agreement. Officers, directors and affiliates
of Petrocon hold 57% of the voting stock in Petrocon.
Any failure to vote, or a vote to abstain, will have the effect of a vote
against the merger agreement and termination of the shareholders' agreement.
Additional Information
Any questions or requests for additional copies of this document or a proxy
card may be directed to Petrocon at the following address or telephone number:
Petrocon Engineering, Inc.
3155 Executive Blvd.
Beaumont, Texas 77705-1050
Attention: Robert W. Raiford, Secretary
(409) 840-2100
34
MARKET PRICE DATA
There is no established public trading market for the common stock of
Petrocon. IDS' common stock, $.001 par value per share, has been quoted on the
American Stock Exchange since June 16, 1998, under the symbol "IDS."
Application will be made for the shares of IDS common stock to be issued in
connection with the merger and those shares of common stock issuable upon
conversion of shares of convertible preferred stock issued in connection with
the merger to be listed on the American Stock Exchange.
The following IDS common stock price information is based on information
published by the American Stock Exchange, does not reflect retail markups or
markdowns and may not represent actual trades.
2001 High Low
---- ---- ---
First Quarter....................................... $ 0.92 $ 0.50
Second Quarter...................................... $ 1.26 $ 0.52
Third Quarter....................................... $ 1.15 $ 0.77
Year Ended December 31, 1999
----------------------------
First Quarter....................................... $ 9.250 $7.250
Second Quarter...................................... $10.750 $1.750
Third Quarter....................................... $ 2.688 $1.000
Fourth Quarter...................................... $ 1.188 $0.750
Year Ended December 31, 2000
----------------------------
First Quarter....................................... $ 5.125 $0.750
Second Quarter...................................... $ 2.063 $0.938
Third Quarter....................................... $ 1.125 $0.813
Fourth Quarter...................................... $ 1.000 $0.438
On April 2, 2001, the last full trading day prior to the public
announcement by IDS and Petrocon of the proposed merger, the last reported sales
price per share on the American Stock Exchange for IDS common stock was $0.69,
the high sales price per share was $0.71 and the low sales price per share was
$0.65. As of October 12, 2001, the last reported sales price per share on the
American Stock Exchange for IDS common stock was $0.75.
Dividend Policies
Neither IDS nor Petrocon has ever declared or paid a cash dividend on the
common stock of the respective companies. Petrocon is currently prohibited from
paying cash dividends on its common stock under its existing bank credit
facility. This prohibition is expected to be continued in the amendment to this
facility which is required as a result of the merger. Following the merger, IDS
intends to retain any future earnings for reinvestment in its business and does
not intend to pay cash dividends in the foreseeable future. Additionally, we
anticipate that the combined company will also be prohibited from paying cash
dividends on IDS' common stock under any new credit facility.
35
THE MERGER
General
The merger agreement provides that, following the satisfaction or waiver of
the conditions contained in the merger agreement, PEI Acquisition, Inc., an
indirect wholly owned subsidiary of IDS, will be merged with and into Petrocon
and the Petrocon shareholders will become IDS stockholders.
Structure; Effective Time
The merger agreement provides for the shareholders of Petrocon to receive
common stock of IDS in exchange for their Petrocon shares. The merger will
become effective at the time of the filing of articles of merger with the
Secretary of State of the State of Texas or at a later time as agreed in writing
by the parties and specified in the articles of merger, which is expected to
occur as soon as practicable after the last condition precedent to the merger
set forth in the merger agreement has been satisfied or waived, but not later
than ___________, 2001. Neither the financial advisor to Petrocon nor the
financial advisor to IDS has provided an opinion or an appraisal relating to the
merger.
Pre-closing Transactions
Petrocon Shareholder Transactions
Petrocon owed approximately $1,886,000 as of October 31, 2001 to certain of
its shareholders. Immediately prior to the closing of the merger, $190,000 of
such debt will be repaid in cash and the balance (other than the balance owed to
one shareholder) will be converted into Petrocon common stock.
Equus Transactions
Petrocon currently owes approximately $9,300,000 to Equus and Equus owns
Petrocon common stock as well as warrants to purchase 1,552,571 shares of
Petrocon common stock. Immediately prior to the merger, Petrocon will issue
four promissory notes to Equus in rearrangement of the Equus debt and as
consideration for the cancellation of the Petrocon warrants held by Equus. Two
of the notes, in the aggregate amount of $2,000,000, will be paid in cash at the
closing of the merger. A separate note, in the original principal amount of
$3,000,000 will be paid by IDS over four years. The remaining note, in the
original principal amount equal to the remaining Equus debt will be exchanged
for 2,500,000 shares of IDS convertible preferred stock. (For financial
accounting purposes, this transaction will include cancellation of approximately
$1,822,532 of debt owed by Petrocon to Equus.)
Fleet Transactions
Petrocon, with the assistance of IDS, shall have obtained a revolving line
of credit in an amount not less than $15,000,000 on terms acceptable to IDS and
Petrocon.
Merger Consideration
Assuming the merger is effective as of ____________, 2001, each outstanding
share of Petrocon common stock will automatically be exchanged for between .88
and 1.06 shares of IDS common stock up to a maximum of 9,800,000 shares of IDS
common stock. The above conversion ratio is based on the number of outstanding
shares of Petrocon common stock as of the date of this document plus the number
of shares which are expected to be issued by Petrocon prior to the closing of
the merger. The exact number of shares of Petrocon common stock outstanding as
of the effective date of the merger will vary depending on whether any holders
of options or warrants to purchase Petrocon common stock exercise some or all of
their options or warrants prior to the merger and the number of shares of
Petrocon common stock which must be issued to satisfy the Petrocon shareholder
debt. Since interest accrues on the Petrocon shareholder debt at 14% per annum,
the number of shares of Petrocon common stock which must be issued to retire the
Petrocon shareholder debt will increase over time. The IDS common stock is not
entitled to dividends and holders of IDS common stock do not have preemptive
rights. Holders of IDS common stock are entitled to one vote per share on all
matters submitted to the IDS stockholders for a vote. Shareholders of Petrocon
that own 100,000 or more shares of Petrocon common stock immediately prior to
the merger, other than a Petrocon shareholder who is involved in litigation with
Petrocon, will be required to enter into two separate escrow agreements that
will delay and may reduce the number of shares of IDS common stock they
ultimately receive.
36
Replacement Options and Warrants
Certain options and warrants which are unexercised as of the effective time
of the merger and which, by their terms, do not expire upon the effective date
of the merger, will be replaced with options and warrants to purchase shares of
common stock of IDS.
Amendment to IDS' Articles of Incorporation
Prior to the consummation of the merger, subject to stockholder approval,
the articles of incorporation of IDS will be amended to create a class of
preferred stock with 5,000,000 shares authorized. This amendment requires the
approval of the holders of a majority of the outstanding shares of IDS common
stock represented in person or by proxy at the meeting. Nevada law provides
that the board of directors of IDS has the power to establish the voting powers,
designations, preferences, limitations, restrictions, and relative rights of the
preferred stock to be authorized.
Directors and Officers of IDS After the Merger; Voting Agreements
At the closing of the merger, Gordon R. Wingate will resign as a director
and the board will be expanded to seven members, Ken J. Hedrick having resigned
as a director on August 21, 2001. In addition, at the closing of the merger,
Equus, Alliance, and certain Petrocon shareholders will enter into a voting
agreement providing for the parties to vote in the election of directors in
favor of three designees of Alliance, two designees of certain former
shareholders of Petrocon, and one designee of Equus. The designee of Equus
shall become a designee of certain former shareholders of Petrocon after payment
in full of the Equus debt. In addition, the parties agree to vote in favor of
one independent director who is mutually agreeable to Alliance and certain
former shareholders of Petrocon.
It is anticipated that William A. Coskey, P.E., Hulda L. Coskey, David W.
Gent, P.E., Michael L. Burrow, P.E., Jimmie N. Carpenter, P.E., Randall B. Hale
and David C. Roussel, will serve as directors of IDS after completion of the
merger. Messrs. Coskey and Gent and Mrs. Coskey were designated by Alliance,
Messrs. Burrow and Carpenter were designated by Petrocon, Mr. Hale was
designated by Equus and Mr. Roussel was designated by the mutual agreement of
Alliance and Petrocon.
After the merger, Michael L. Burrow will serve as Chairman of the Board and
Chief Executive Officer of IDS. William A. Coskey will serve as President and
Chief Operating Officer of IDS, Hulda L. Coskey will serve as Investor Relations
Officer and Secretary, and Robert W. Raiford will serve as Chief Financial
Officer, Treasurer and Assistant Secretary. Other executive officers of IDS may
be elected by the board of directors of IDS after the merger.
Ownership of IDS Following the Merger
The shares of IDS common stock to be issued to holders of Petrocon common
stock in the merger, and the shares of IDS common stock issuable on the
conversion of the shares of IDS convertible preferred stock to be issued
pursuant to the terms of the agreement with Equus, will constitute approximately
45% of the IDS common stock outstanding immediately after the merger, on a fully
diluted basis. The existing stockholders of IDS will hold approximately 55% of
the IDS common stock outstanding immediately after the merger, on a fully
diluted basis. Equus will own 100% of the outstanding shares of convertible
preferred stock of IDS.
Background of the Merger
In June 2000, senior management of IDS made a presentation to Petrocon's
senior management regarding a proposed combination of Petrocon and IDS to create
a larger, more diversified middle market engineering company. Petrocon
management was receptive to the presentation and believed that the combination
of the two companies could produce synergies. However, Petrocon informed IDS
that several issues relating to a third party contract with ARAMCO needed to be
resolved before Petrocon would be in a position to enter serious negotiations.
On August 4, 2000, senior management of IDS made a presentation to a majority of
Petrocon's voting trustees relating to a potential merger between the two
companies. On August 29, 2000, J. C. Sorensen, financial advisor for IDS, and T.
E. Mills, financial advisor for Petrocon, met for the first time and discussed
the potential combination of Petrocon and IDS. Discussions centered around
issues of (i) stock versus asset purchase, (ii) management structure, (iii)
ownership percentages, and (iv) and resulting capital structure.
37
On September 11, 2000, Messrs. Coskey and Burrow met to discuss, among
other things, various issues raised by their financial advisors and collaborated
on a preliminary basis for a transaction. Both in these negotiations and in
later negotiations, the principal terms negotiated between the parties included
the number of shares to be issued to Petrocon shareholders, board seats to be
held by each party, management positions and responsibilities of each party,
restructuring of Petrocon's debt to Equus and to its shareholders, and
indemnification for contingent legal liabilities. On September 28, 2000,
Messrs. Sorensen and Mills met again to review the preliminary transaction terms
on those terms. The initial transaction basis suggested by Petrocon and its
financial advisor was structured as a stock for stock transaction whereby
Alliance 2000, Ltd. would exchange a portion of its common stock for newly
issued redeemable preferred stock of IDS, additional redeemable preferred stock
would be issued to Petrocon sub-debt holders in exchange for debt owed to them
by Petrocon, and newly issued shares of IDS common stock would be exchanged for
all of the outstanding capital stock of Petrocon. This proposal would have
resulted in the Petrocon stockholders, as a group, owning approximately 60.2% of
the proposed 27.4 million shares of common stock to be outstanding at closing.
During the first half of October 2000, numerous telephone conferences and
meetings were held between various members of IDS management and Mr. Sorensen.
On October 19, 2000, members of Petrocon's senior management and representatives
had the first meeting with Equus to discuss a restructuring of Petrocon's
subordinated debt to Equus. On October 24, 2000, a second meeting with Equus
was held to negotiate a proposed restructuring of the subordinated debt. Later
that same day, Mr. Coskey, Mrs. Coskey and Mr. Sorensen reconvened to continue
deliberating on various terms of the proposed transaction structure. Mr. Coskey
voiced concerns centering on change of control of IDS, the extent of the overall
dilution to IDS shareholders, the issuance of preferred stock to sub-debt
holders, and the structure of a stock for stock transaction versus a stock for
assets structure. On October 29, 2000, IDS made a counter-proposal based upon a
stock for assets transaction that would have resulted in 17.4 million shares of
IDS common stock outstanding after the transaction, with the Petrocon
shareholder group holding a 51.8% interest in the combined company. On October
31, 2000, IDS and Petrocon entered into a confidentiality agreement so that
negotiations could continue. Prior to their exchange of confidential
information, the parties agreed that neither would entertain outside offers or
negotiate with outside parties during the course of their negotiations with each
other.
On November 1, 2000, IDS made minor revisions to its previous proposal in
an effort to reach agreement with Petrocon after the varying proposals exchanged
by the parties. The revised transaction structure called for 18.6 million
shares of common stock outstanding of which 55% would be held by the Petrocon
shareholders and 45% would be held by the IDS stockholders.
On November 11, 2000, Mr. Burrow presented a stock for stock proposal on
behalf of Petrocon based upon 20.9 million shares of common stock outstanding,
with the Petrocon shareholders, as a group, holding 55% of these shares. In
addition, a newly issued series of preferred stock would be issued to Petrocon
sub-debt holders in exchange for cancellation of their debt to Alliance 2000
Ltd. and in exchange for 4,000,000 shares of common stock held by Alliance.
Petrocon also proposed the establishment of an escrow arrangement to hold shares
of IDS common stock that would be issuable to certain Petrocon shareholders to
offset, at least partially, potential risks against matters such as breaches of
representations and warranties, violations of covenants, and liabilities for any
uninsured legal claims outstanding at closing. Members of IDS senior management
and Mr. Sorensen considered and deliberated on this proposal, and on November
14, 2000, responded to Mr. Burrow with revised pro forma financial information
and requested a follow-up meeting with Mr. Burrow. In mid-November 2000, Mr.
Burrow provided IDS with a due diligence package containing, among other
matters, details of current pending litigation against Petrocon. On November
17, 2000, Mr. Coskey provided Mr. Burrow with additional points for discussion
regarding Petrocon's November 11, 2000 proposal. On November 20, 2000, Mr.
Burrow responded to Mr. Coskey's preceding communication, and Mr. Coskey, Mrs.
Coskey and Mr. Sorensen met later that same day to further deliberate on the
proposed transaction structure. The following day, the board of directors of
IDS met and Mr. Coskey made a presentation relating to a proposed transaction
between IDS and Petrocon. Extensive discussion on a possible transaction with
Petrocon ensued at this meeting. After further deliberations, based on
discussions with IDS' board of directors, Mr. Coskey again responded to Mr.
Burrow on November 28, 2000, with proposed changes to the transaction. The
primary change was the issuance of options to acquire 2,200,000 shares of IDS
common stock exercisable at $0.75 per share to key Petrocon management
personnel. Thereafter, Petrocon provided IDS with Petrocon's October 2000
financial statements and the notes thereto. On December 1, 2000, Petrocon
submitted a due diligence request list to IDS. During the month of December
2000, most of the materials on this list were produced and provided to Petrocon.
38
On December 4, 2000, Mr. Burrow expressed an interest to Mr. Coskey in
proceeding with negotiations to combine the companies. The holders of a
majority of the outstanding shares of common stock and senior management of both
companies met in Beaumont, Texas and preliminarily approved the first tentative
business combination structure between the two companies. On December 11, 2000,
IDS began conducting its due diligence of Petrocon. On December 18, 2000,
senior management of IDS met with its accountants and attorneys to discuss
various issues related to the proposed transaction with Petrocon. On December
21, 2000, Mr. and Mrs. Coskey and Mr. and Mrs. Burrow met over dinner. By
December 29, 2000, a new structure was discussed and proposed by Messrs. Coskey
and Sorensen. The new structure called for 19.7 million common shares of IDS
common stock to be outstanding with Petrocon shareholders holding 54.5% of the
total outstanding shares of IDS common stock. There were also slight
modifications to the restructure of debt with the Petrocon sub-debt holders and
Equus.
On January 8, 2001, a term sheet related to the proposed restructure of the
subordinated debt held by Equus was agreed to by Petrocon and Equus based on the
structure of the transaction at that time. On January 9, 2001, Mr. Mills began
conducting due diligence on IDS on behalf of Petrocon. By January 18, 2001, pro
forma information and the preliminary terms of a proposed transaction were
provided to IDS' counsel for review and analysis. Mr. Coskey and IDS' Vice
President of Business Development, Michael Patton, had an on-site meeting at
Petrocon's facilities in Beaumont, Texas with Olan Weeks, President of Petrocon
Systems, Inc. On January 19, 2001, Mr. Sorensen reviewed Petrocon's unaudited
consolidated financial statements for the year ended December 31, 2000, and on
January 25, 2001, Mr. Sorensen met with Petrocon's independent auditors, Arthur
Andersen LLP. After the meeting with the accountants, Messrs. Coskey, Burrow,
Mills and Sorensen met separately to continue negotiations and discussions.
On February 2, 2001, senior members of management of each company and
representatives from the accounting firms for each of the companies met. The
parties abandoned the proposed structure due to Petrocon's net operating loss
carryforward being smaller than previously believed. On February 6, 2001,
Petrocon proposed a new transaction structure whereby IDS would maintain greater
than 50% control of the combined entity. The newly proposed structure provided
for 17.8 million shares of common stock outstanding with the Petrocon
shareholder group holding 49.5% of the total shares. On February 9, 2001, Mr.
and Mrs. Coskey discussed Petrocon's new proposal. On February 13, 2001,
members of senior management and the financial advisors of each of the companies
met in Houston, Texas, and agreed to minor revisions to the structure agreed to
on February 6, 2000. The primary change was that IDS would not be required to
repurchase 4,000,000 shares of its common stock from Alliance at closing but
would instead receive an option for the purchase of 4,000,000 shares of common
stock held by Alliance. The next day, Messrs. Coskey and Sorensen and Mrs.
Coskey discussed at length the newly proposed structure. On February 16, 2001,
a revised term sheet between Petrocon and Equus relating to the restructuring of
the subordinated debt was signed based on the revised structure. On February
19, 2001, senior members of IDS management, Mr. Sorensen, IDS' accounting firm
and legal counsel met to discuss issues relating to the proposed transaction
with Petrocon. On February 20, 2001, the holders of a majority of outstanding
shares of common stock and senior management of Petrocon met in Beaumont, Texas
and approved the revised structure in which the shareholders of Petrocon would
not be the controlling stockholders of IDS after the merger. On February 21,
2001, Mrs. Coskey and Mr. Sorensen had a telephone conference and discussed
bringing in an independent accounting firm for tax review on the proposed
structure. On February 23, 2001, Messrs. Coskey, Sorensen and Mills met to
discuss the proposed transaction. On February 26, 2001, Messrs. Burrow and
Carpenter visited IDS' facilities in Tulsa, Oklahoma. Mrs. Coskey and Mr.
Sorensen met on February 27, 2001, to discuss various issues related to the new
proposed structure.
On March 7, 2001, Mrs. Coskey held a telephone conference with the AMEX
regarding the proposed transaction structure between IDS and Petrocon. On March
10, 2001, a telephone conference between Mrs. Coskey and IDS' transfer agent was
held regarding stock transfer issues relating to the proposed merger. On March
19, 2001, Petrocon received the final release agreement from McConnell Dowell
regarding the ARAMCO contract and all remaining disputes. Petrocon held a
meeting in Beaumont, Texas on March 27, 2001 with its shareholders who hold
subordinated debt of Petrocon. On this same day, the IDS board of directors met
and had a lengthy and detailed discussion, including a review of preliminary pro
forma financial information.
On March 29, 2000, the proposed transaction was revised so that Petrocon
sub-debt holders would receive IDS common stock instead of the previously
proposed preferred stock. A Letter of Intent was executed and a press release
was issued on April 3, 2001.
After the Letter of Intent was signed, the companies continued negotiating
the specific terms of the merger agreement. The parties conducted intense due
diligence efforts throughout April and May. Because the stockholder vote could
be controlled by Alliance 2000, Ltd., which owns 73.5% of the IDS common stock,
on May 14, 2001, the IDS board determined that an affirmative vote of a majority
of all outstanding shares of IDS common stock represented at the stockholders'
meeting that were held by holders other than Alliance or its affiliates would be
required to be obtained in order to approve the merger. At a meeting held on
May 16, 2001, the IDS board of directors determined that the terms of the merger
agreement and the merger were fair to, advisable and in the best interests of
IDS and IDS' stockholders. In a letter dated May 17, 2000, from Mr. Burrow to
Mr. Coskey, Mr. Burrow detailed numerous points of synergy between the two
companies.
On May 23, 2001, Messrs. Coskey and Burrow met at the office of IDS'
counsel in Houston and agreed to approximately 10 minor issues. The parties
approved the selection of David Roussel as an independent director. All parties
gathered for a drafting session for the purpose of preparing a definitive merger
agreement and the Form S-4. On May 24, 2001, Mr. Burrow advised Mr. Coskey that
Petrocon had not achieved pro formal levels contemplated earlier in the year,
following which Mr. Coskey again evaluated the merits of the proposed merger.
On May 25, 2001, Messrs. Coskey and Burrow met at Petrocon's Houston facility
and discussed salaries and incentive plans for key employees.
On June 4, 2001, Petrocon provided a document to IDS titled "Petrocon 2001
Budget Recovery Plan" which detailed action items for improved profitability.
On June 25, 2001, Messrs. Coskey and Burrow met at Petrocon's Houston facility
to discuss integration planning and the Budget Recovery Plan. On June 26, 2001,
the parties met with their attorneys and advisors to further negotiate the open
issues under the merger agreement and the related documents. Following these
discussions, a drafting session took place with all parties present to continue
preparation of the merger agreement and Form S-4. The stockholders of IDS met
on June 28, 2001 for their Annual Meeting at which Mr. Coskey, during the
business segment of the meeting, provided an overview of the status of the
IDS/Petrocon merger.
Messrs. Coskey and Burrow met at Petrocon's Beaumont office to further
discuss and agree upon several transaction issues and to have further
discussions regarding integration issues. On July 10, 2001, Michael L. Burrow,
William A. Coskey and Randall B. Hale met to finalize the remaining open issues
under the merger agreement and the settlement agreement with Equus, and to
revise certain terms of the transaction including creation of an option pool
agreement by Alliance for the benefit of certain employees of IDS and its
subsidiaries. The Alliance option pool agreement replaced the previously agreed
upon options granted by Alliance to IDS on 4,000,000 shares of common stock held
by Alliance. The parties believed this structure would provide a mechanism to
grant options to key employees and result in less future debt for the combined
entity. On July 12, 2001, Mrs. Coskey met with IDS' AMEX representative and
provided a brief update on the status of the IDS/Petrocon transaction. Also
during the month of July, numerous conversations with advisors to both parties
were held to discuss fees payable and various proposed methods of payment.
After much consideration, on July 24, 2001, Mr. Coskey advised Mr. Burrow that
due to concern over Petrocon's financial shortfall, coupled with concern over
the amount of fees due to advisors at closing and the resulting decrease in
credit line availability, IDS did not intend to further pursue the transaction.
Conversations continued and the parties met on July 26, 2001, at which time an
agreement was reached with advisors regarding modified terms for payment of
transaction fees which would improve projected credit line availability.
Shortly thereafter, Mr. Coskey gained confidence in Petrocon's potential to meet
a substantial portion of its Budget Recovery Plan; thereafter, IDS and Petrocon
agreed to sign a definitive merger agreement without altering the material
financial terms of the transaction that had been agreed to prior to July 2000.
On July 31, 2001, the board of directors of Petrocon determined that the terms
of the merger agreement and the merger were fair to, advisable and in the best
interests of, Petrocon and its shareholders. Accordingly, the Petrocon board of
directors unanimously approved the merger and the merger agreement, and
recommends that Petrocon shareholders vote for approval and adoption of the
merger and the merger agreement. On July 31, 2001, the parties executed the
merger agreement in the form attached to this document as Annex A.
On August 1, 2001, IDS issued a press release prior to the opening of
trading to announce signing of the definitive merger agreement between IDS and
Petrocon. During the days following the signing of the merger agreement, many
discussions took place among the parties regarding completion and filing of the
Form S-4 with the Securities and Exchange Commission and matters regarding
shareholder meetings and closing of the transaction. On August 8, 2001, the
board of directors of IDS met and were provided with information regarding the
status of the IDS/Petrocon transaction.
On October 18, 2001, IDS and Petrocon amended their definitive merger
agreement to extend the deadline for closing the transaction to November 30,
2001. On November 5, 2001, IDS and Petrocon entered into a letter agreement
extending this deadline to the close of business on December 21, 2001.
IDS' Reasons for the Merger
In determining the fairness of the terms of the merger, the IDS board of
directors considered, among other items, the following factors, each of which
supported the IDS board of directors determination to recommend the merger:
. The IDS board of directors reviewed the financial condition, assets, results
of operations, business and prospects of each of IDS and Petrocon, and the
risks inherent in achieving those prospects. In analyzing the relative
financial condition of the two companies, the IDS board of directors concluded
that, because IDS was operating profitably and Petrocon was not, IDS should be
the survivor in the merger, despite the higher revenue levels that Petrocon
had achieved. IDS also concluded that Petrocon's debt would need to be
restructured and its operations would need to be modified in order to allow
Petrocon to operate profitably following the merger. The major Petrocon
lenders and the Petrocon board of directors were amenable to the restructuring
and the modifications proposed by the IDS board of directors.
. The IDS board of directors considered the reduction in general and
administrative costs that should result from the combination of the businesses
of IDS and Petrocon. The IDS board of directors concluded that these costs
savings would assist Petrocon in reaching profitability, and would enhance the
profitability of IDS.
. The IDS board of directors viewed the merger as an opportunity to create a
combined company with a larger market capitalization, greater liquidity and
enhanced visibility in the capital markets. The IDS board of directors views
this as a favorable development in a number of respects. First of all, it
should provide a more robust trading market for the IDS stock, which should be
a benefit to the IDS stockholders. Secondly, it should allow IDS to make
future acquisitions of related businesses using shares of its common
stock.
. The IDS board of directors considered the terms and conditions of the merger
agreement, including the amount and form of consideration, and the nature of
the parties' representations, warranties, covenants and agreements. The IDS
Board also considered the fact that the conditions to Petrocon's obligations
to consummate the merger are reasonably limited and thus the risk that the
merger would not be consummated was reasonably small. In reviewing the terms
and conditions, the IDS board of directors determined that it believed that
IDS was reasonably protected by the representations and warranties made by
Petrocon, that the indemnification provisions were reasonable, and that the
stock escrow provisions provided sufficient protection to the IDS
stockholders.
In light of the number and variety of factors considered in connection with its
evaluation of the merger, the IDS board of directors did not find it practical
to assign relative weights to the foregoing factors, and accordingly, it did not
do so. The factors set forth above are not intended to be exhaustive, but are
the factors the board of IDS believed material.
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The IDS board of directors also considered the following factors that did
not favor approval of the merger:
. The amount of debt that the combined company would have, which would
negatively impact the cash flow of the combined company and impede its
ability to operate profitably.
. The fact that Petrocon operations have not been profitable for several years
and the difficulty of improving profit margins by price increases in the
downstream market in which Petrocon operates.
. The amount of litigation in which Petrocon has been involved and is still
involved in, and the cost of defending that litigation.
. The legal, accounting and financial advisory costs of completing the
transaction, some of which would not be required to be paid if the
transaction does not close.
. The general economic uncertainties in the local, national and world
economies.
. Petrocon's backlog, which was less than had been anticipated when
negotiations commenced.
Petrocon's Reasons for the Merger
The Petrocon board of directors believes that the merger is desirable for
the following principal reasons:
. the merger allows Petrocon to become part of a public company, which the
Petrocon board of directors believes will be beneficial in a number of
respects, including improving the liquidity and market valuation of the
common stock of IDS and providing Petrocon with access to the public capital
markets for future financing needs;
. the amount of outstanding debt of Petrocon will decrease by converting a
significant portion of the debt to capital stock (preferred and common) of
IDS, which should provide greater financial flexibility;
. the merger offers the opportunity to create a combined company with greater
financial resources, competitive strength and business opportunities; and
. the structure of the merger, which exchanges the Petrocon common stock for
IDS common stock in a transaction that is intended to be a tax-free
reorganization for federal income tax purposes.
In making its determination, the Petrocon board of directors considered the
above factors as a whole and did not assign specific or relative weights to the
factors. In addition, individual members of the Petrocon board of directors may
have given different weights to different factors. Moreover, the foregoing
discussion of the factors considered by the Petrocon board of directors is not
intended to be exhaustive. However, the discussion is believed to include all
material factors considered by the Petrocon board of directors.
The Petrocon board of directors also considered the following factors which
did not favor approval of the merger:
. Since IDS is a public company, significant additional administrative costs
may be incurred which can effect profitability.
. A significant portion of the combined company will be owned by persons who
are not officers or employees of the combined company and representatives of
the former Petrocon shareholders will not constitute a majority of the board
of directors of the combined company.
. The merger will involve the combination of two different management cultures
that may not be compatible.
. IDS performs a significant amount of work under fixed price contracts that,
if not managed properly, can be unprofitable.
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. Significant transaction costs will be incurred by Petrocon and a significant
amount of management time will be devoted to the transaction with no
assurance that the merger will actually be consummated.
. The safety record and workers compensation claim experience of the combined
company might jeopardize Petrocon's qualifications to work at certain
customer locations.
Exchange of Petrocon Stock Certificates and Payment for Fractional Shares
If the IDS stockholders and the Petrocon shareholders approve and adopt the
merger agreement, the Petrocon shareholders will be required to exchange their
stock certificates for new certificates representing shares of IDS stock. The
Petrocon shareholders of record on the effective date of the merger will be
furnished with the necessary materials and instructions for the surrender and
exchange of share certificates at the appropriate time by IDS' transfer agent,
Computershare Investor Services, LLP. The Petrocon shareholders will not have to
pay a transfer fee or other fee in connection with the exchange of certificates.
The Petrocon shareholders should not submit any certificates until requested to
do so.
As soon as practicable after the effective date of the merger, IDS will
request all Petrocon shareholders to return their stock certificates
representing issued shares of Petrocon common stock outstanding on the effective
date of the merger in exchange for certificates representing the number of whole
shares of IDS common stock into which the Petrocon shares are converted. Each
Petrocon shareholder will receive a letter of transmittal from IDS' transfer
agent containing instructions on how to exchange certificates. The Petrocon
------------
shareholders should not submit their old certificates to the transfer agent
---------------------------------------------------------------------------
until they receive these instructions. To receive certificates representing
-------------------------------------
shares of IDS common stock, the Petrocon shareholders must surrender their
Petrocon stock certificates according to the transfer agent's instructions,
together with the properly executed and completed letter of transmittal and
evidence of ownership of the shares as IDS may require.
Beginning with the effective date of the merger, each certificate
representing shares of Petrocon common stock, until surrendered and exchanged as
described above, will be deemed for all corporate purposes to evidence ownership
of the whole number of shares of IDS common stock into which the Petrocon shares
are converted.
No fractional shares of IDS common stock will be issued in the merger.
Instead, any fractional share of IDS common stock that a holder of Petrocon
common stock would be otherwise entitled to receive will be automatically
converted into the right to receive an amount of cash to be determined by
multiplying the closing price per share of IDS common stock on the closing date
of the merger by such fractional share. However, if the amount due to any
Petrocon shareholder is less than $1.00, such amount shall be deemed
surrendered.
Any Petrocon shareholder whose certificate for Petrocon common stock has
been lost, destroyed or stolen will be entitled to issuance of a certificate
representing the shares of IDS common stock upon compliance with the
requirements of IDS and its transfer agent.
Exchange of Petrocon Options and Warrants
If the IDS stockholders and the Petrocon shareholders approve and adopt the
merger agreement, each holder of an option or warrant to purchase common stock
of Petrocon which by its terms, does not expire on the effective date of the
merger, will be required to exchange their options and warrants to purchase
Petrocon common stock for options and warrants to purchase IDS common stock.
The holders of record of options and warrants to purchase Petrocon common stock
on the effective date of the merger will be furnished with the necessary
materials and instructions for the surrender and exchange of their Petrocon
options and warrants at the appropriate time by IDS. The holders of options and
warrants to purchase common stock of Petrocon will not have to pay a transfer
fee or other fee in connection with the exchange of their options and warrants.
None of the holders of Petrocon options and warrants should submit any options
and warrants to IDS until requested to do so.
As soon as practical after the effective date of the merger, IDS will
request all holders of options and warrants to purchase Petrocon common stock
which, by their terms, did not expire on the effective date of the merger to
return their Petrocon options and warrants to IDS. Each holder of Petrocon
options and warrants will receive a letter from IDS containing instructions on
how to exchange their Petrocon options and warrants. The holders of Petrocon
options and warrants should not submit their Petrocon options and warrants to
IDS until they
42
receive these instructions. To receive options and warrants to purchase IDS
common stock, the holders of Petrocon option and warrants must surrender their
Petrocon options and warrants according to IDS' instructions, together with a
properly executed and completed letter of transmittal and evidence of ownership
of the Petrocon options and warrants as IDS may require.
Beginning with the effective date of the merger, each option or warrant
representing the right to purchase shares of Petrocon common stock, until
surrendered and exchanged as described above, will be deemed for all corporate
purposes to evidence ownership of an option or warrant to purchase the whole
number of shares of IDS common stock into which the Petrocon options and
warrants are converted. The conversion of the Petrocon options and warrants
into IDS options and warrants will be rounded to the nearest whole share of IDS
common stock. No options or warrants to purchase fractional shares will be
issued by IDS.
Interests of IDS Directors, Officers and Significant Stockholders and Interests
of Petrocon Directors, Officers and Significant Shareholders
You should be aware that a number of conflicts of interest exist with
respect to this transaction, including the following:
. Two members of the IDS board of directors, William A. Coskey and Hulda L.
Coskey, manage and own all of the interest in Alliance. Alliance owns
approximately 73.5% of IDS outstanding common stock. Upon closing of the
merger, IDS will forgive approximately $196,500 of debt owed by Alliance to
IDS as stipulated in the merger agreement.
. Two of the directors of Petrocon who voted for the merger, Gary L. Forbes and
Tracy Cohen, are executive officers of Equus II Incorporated, a significant
Petrocon lender and shareholder. Additionally, a nominee for election to the
IDS board of directors, Randall B. Hale, is also an executive officer of
Equus. Approximately $9,300,000 of Petrocon's debt (as of June 30, 2001) is
owed to Equus and warrants to purchase 1,552,571 shares of Petrocon common
stock are currently held by Equus. As part of the merger, the debt owed to
Equus by Petrocon and the warrants held by Equus to purchase common stock of
Petrocon will be exchanged for two promissory notes totaling $2,000,000 which
are to be paid in full at the closing of the merger, a $3,000,000 promissory
note due in quarterly installments of $110,000 each, with a final installment
equal to the remaining balance due on the fourth anniversary of the merger,
and 2,500,000 shares of IDS convertible preferred stock. (For financial
accounting purposes, this transaction will include cancellation of
approximately $1,822,532 of debt owed by Petrocon to Equus.)
. Michael L. Burrow, who is the founder, Chairman of the Board, Chief Executive
Officer and President of Petrocon, is a one-third owner of a joint venture
that owns the building in which Petrocon's principal executive offices are
located. Petrocon, also a one-third joint venturer, leases part of the
building from the joint venture. Each joint venturer receives $30,000
annually under this lease arrangement. The written lease agreement expired in
March 2001 and the parties are currently operating a month-to-month lease. If
Petrocon cannot successfully negotiate a lease extension, it will need to
relocate its Beaumont offices.
. As of June 30, 2001, Petrocon owed certain of its shareholders approximately
$1,795,000. The balance outstanding on this Petrocon shareholder debt upon
the closing of the merger is expected to be approximately $1,886,000.
Immediately prior to the closing of the merger, most of this debt will be
cancelled in exchange for up to $190,000 cash and shares of Petrocon common
stock, valued at $0.65 per share. Michael L. Burrow, Bill Rigsby, Robert
Raiford and Olan B. Weeks are officers and/or directors of Petrocon and each
of them holds a portion of the approximately $1,886,000 of debt owed by
Petrocon to its shareholders. Messrs. Burrow, Rigsby, Raiford and Weeks will
each receive Petrocon common stock valued at $0.65 per share and cash not to
exceed 10% of the Petrocon debt owed to them, in satisfaction of the debt
owed to them by Petrocon.
The IDS and Petrocon boards were aware of these interests and considered
them in approving the merger. IDS stockholders and Petrocon shareholders should
consider whether these interests may have influenced these directors to support
the merger.
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Conduct of Business Prior to Merger
From the date of the execution of the merger agreement until the effective
time, IDS and Petrocon are required to conduct their businesses only in the
ordinary course consistent with past practice. In particular, except as
otherwise provided in the merger agreement, during this period, Petrocon may
not, without IDS' prior written consent, and IDS may not, without Petrocon's
prior written consent:
. amend their articles of incorporation or bylaws;
. issue any shares of capital stock, except in connection with the exercise of
any outstanding option or warrant or, in the case of Petrocon, in connection
with the satisfaction of debt owed to its shareholders;
. enter into any commitments to issue additional shares of stock; or
. engage in any transaction outside the ordinary course of business. Covenants
and Agreements
Stockholder Meetings. IDS has agreed to cause its special meeting of
stockholders and Petrocon has agreed to cause a special meeting of its
shareholders to be duly called and held as promptly as practicable for the
purpose of voting on the approval and adoption of the merger agreement.
No Solicitation. In the merger agreement, IDS and Petrocon have agreed
that:
. neither will, through its officers, directors, attorneys, accountants,
employees, representatives or otherwise, take any action, including
solicitation of proxies or voting of stock, which would impede the merger;
. neither will, through its officers, directors, attorneys, accountants,
employees, representatives or otherwise, solicit or encourage submission of
any proposal or offer from any person relating to an alternative transaction.
The merger agreement does not prohibit:
. IDS' board from taking and disclosing to the stockholders of IDS a position
with respect to a tender offer by a third party pursuant to Rule 14e-2 under
the Securities Exchange Act of 1934; or
. either board from withdrawing or modifying its approval or recommendation of
the merger and the merger agreement, if the board determines that this action
or disclosure is required in order for the board to act in a manner
consistent with its fiduciary duties to its stockholders.
Additional Mutual Covenants. The merger agreement contains certain mutual
covenants of the parties, including covenants relating to:
. access to information;
. confidential treatment of non-public information;
. preparation of this document;
. the listing on the American Stock Exchange of additional shares of IDS common
stock to be issued or reserved for issuance in conjunction with the merger;
. public announcements;
. notification of various matters; and
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. payment of expenses in connection with the merger.
Representations and Warranties of IDS and Petrocon
The merger agreement contains substantially reciprocal representations and
warranties of IDS and Petrocon as to various matters, such as:
. due organization and good standing;
. capital structure;
. corporate authorization to enter into the contemplated transaction;
. trademarks and other proprietary rights;
. governmental approvals required in connection with the contemplated
transaction;
. absence of any breach of organizational documents and material agreements as
a result of the contemplated transaction;
. financial statements;
. absence of material changes in condition, including changes which would have
a material adverse effect, as defined below, since December 31, 2000;
. absence of undisclosed material liabilities;
. compliance with laws and court orders;
. litigation;
. tax matters;
. employee matters;
. environmental matters;
. accounts receivable;
. inventories;
. insurance coverage; and
. payment of brokers in connection with the merger.
The merger agreement defines "material adverse effect" to mean an adverse
effect on the properties, assets, financial position, results of operations,
long-term debt, other indebtedness, cash flows or contingent liabilities in an
amount of $100,000 or more.
Conditions to the Merger
Completion of the merger by either party is subject to a number of
conditions, none of which has occurred as of the date of this merger proxy.
Neither IDS nor Petrocon currently believes that there are circumstances under
which they would waive conditions that would require us to resolicit
shareholders' votes.
45
Conditions to the Obligations of IDS. The obligations of IDS to consummate
the merger are subject to the satisfaction of the following conditions:
. payment in full by cash of all accounts receivable and notes receivable owed
by any Petrocon shareholder to Petrocon;
. satisfaction of the approximately $1,886,000 in debt owed by Petrocon to
certain of its shareholders by the issuance of Petrocon common stock (valued
for this purpose at $0.65 per share) and the payment of not more than
$190,000 in cash to such shareholders;
. Petrocon shall have delivered to Equus, in satisfaction of all debt owed by
Petrocon to Equus and cancellation of warrants held by Equus to acquire
1,552,571 shares of Petrocon common stock:
(i) two promissory notes in the aggregate principal amount of
$2,000,000 payable in cash at the closing of the merger,
(ii) a $3,000,000 promissory note payable quarterly over a period of
four years, and
(iii) a promissory note for the remainder of the debt owed by
Petrocon to Equus which will be satisfied in full by the
issuance of 2,500,000 shares of IDS convertible preferred stock
at the closing of the merger.
. Petrocon shall have delivered to IDS:
(i) evidence of the cancellation of the warrants to purchase
1,552,571 shares of common stock of Petrocon held by Equus; and
(ii) the Settlement Agreement and Plan of Reorganization executed by
Equus and Petrocon.
. Petrocon's representations and warranties contained in the merger agreement
shall be true and correct at and as of the closing date of the merger other
than representations and warranties as are specifically made as of another
date;
. Petrocon shall have performed and complied with all covenants of the merger
agreement to be performed or complied with by it at or prior to the closing
date of the merger;
. no legal action or proceeding shall exist that is likely to restrain,
prohibit or invalidate the consummation of the merger or to have a material
adverse effect on Petrocon;
. the approval by the Petrocon shareholders of the termination of the
Shareholders' Agreement dated March 9, 1999, effective as of the closing date
of the merger;
. the cancellation of all Petrocon options and warrants that are not being
converted into options or warrants to purchase IDS common stock;
. Petrocon, with the assistance of IDS shall have obtained a $15,000,000
revolving line of credit acceptable in all respects to IDS that is sufficient
to pay in full the $2,000,000 in promissory notes to Equus at the closing of
the merger;
. the exercise of commercially reasonable efforts by Petrocon to obtain all
consents, approvals and waivers of third parties or any regulatory body or
authority necessary for Petrocon's performance under the merger agreement;
. requisite approval by Petrocon shareholders of all of the merger related
proposals in this document to be submitted at the special meeting;
46
. delivery of legal opinions by counsel to Petrocon satisfactory to IDS;
. execution of employment agreements with IDS or Petrocon for certain key
individuals, including an agreement not to compete with the business
operations of IDS for three years from the closing date of the merger unless
their employment is terminated without cause;
. execution of a voting agreement by Petrocon and designated Petrocon
shareholders;
. delivery of releases executed by Equus and designated Petrocon shareholders
releasing Petrocon and Equus from any and all liabilities, obligations,
claims, demands, actions or causes of action arising, occurring or existing
on or prior to the effective time of the merger; and waiving all breaches,
defaults or violations of any agreement relating to Petrocon common stock or
debt; and waiving all rights to acquire shares of Petrocon capital stock and
release all claims in connection with any prior default, violation or failure
to comply with or satisfy any of these rights;
. execution and delivery of escrow agreements by Petrocon and all Petrocon
shareholders who hold more than 100,000 shares of Petrocon common stock
immediately prior to the merger, other than one shareholder with whom
Petrocon is involved with in litigation;
. dissenters' rights shall not have been exercised by Petrocon shareholders
holding more than 350,000 shares of Petrocon common stock;
. each Petrocon shareholder who holds more than 100,000 shares of Petrocon
common stock immediately prior to the merger (other than one shareholder with
whom Petrocon is involved in litigation) shall have executed and delivered an
agreement not to sell the IDS common stock for a two-year period following
the closing;
. the absence of any event that in IDS' reasonable judgment would have a
material adverse effect on the properties, assets, financial condition,
results of operations, cash flows, businesses or prospects of Petrocon; and
. all necessary director and shareholder resolutions, waivers and consents to
consummate the merger in form satisfactory to IDS and its counsel.
Conditions to the Obligations of Petrocon. The obligations of Petrocon to
consummate the merger are subject to the satisfaction of the following
conditions:
. IDS' representations and warranties contained in the merger agreement shall
be true and correct at and as of the closing date of the merger other than
representations and warranties as are specifically made as of another date;
. IDS shall have performed and complied with all covenants of the merger
agreement at or prior to the closing date of the merger;
. no legal action or proceeding shall exist that is likely to restrain,
prohibit or invalidate the consummation of the merger or to have a material
adverse effect on IDS;
. Petrocon, with the assistance of IDS, shall have obtained a $15,000,000
revolving line of credit acceptable in all respects to IDS that is sufficient
to pay in full the $2,000,000 in promissory notes to Equus at the closing of
the merger;
. all consents, approvals and waivers of third parties or any regulatory body
or authority necessary for IDS' performance under the merger agreement;
. requisite approval by IDS' stockholders (including approval of holders of a
majority of the shares present at the meeting in person or by proxy other
than shares held by Alliance or its affiliates) of all of the merger related
proposals in this document to be submitted at the special meeting;
47
. the filing of the amendment to IDS' articles of incorporation to create a
class of convertible preferred stock;
. delivery of an option pool agreement, executed by Alliance, granting rights
to purchase up to 2,600,000 shares of IDS common stock owned by Alliance, to
certain employees designated by Alliance and a representative of certain
Petrocon shareholders (initially Michael L. Burrow);
. delivery of a legal opinion by counsel to IDS satisfactory to Petrocon;
. execution of employment agreements with IDS for certain key individuals,
including an agreement not to compete with the business operations of IDS for
three years from the closing date of the merger unless their employment is
terminated without cause;
. execution of a voting agreement by IDS and designated IDS stockholders;
. delivery by IDS of option agreements and warrants to former employees and
warrant holders of Petrocon who are entitled to receive options or warrants,
as applicable, in IDS;
. cancellation by IDS of the debt owed by Alliance;
. delivery of an agreement granting Equus the right to acquire up to 200,000
shares of common stock from Alliance under certain circumstances;
. the grant by IDS and each of its subsidiaries of a security interest to Equus
and delivery by IDS and each of its subsidiaries of a guaranty to secure the
$3,000,000 note to Equus
. issuance of 2,500,000 shares of IDS convertible preferred stock to Equus in
payment of the remaining obligations of Petrocon to Equus and as
consideration for the cancellation of the warrants held by Equus to purchase
1,552,571 shares of Petrocon common stock;
. the absence of any event that in Petrocon's reasonable judgment would have a
material adverse effect on the properties, assets, financial condition,
results of operations, cash flows, businesses or prospects of IDS; and
. all necessary director and stockholder resolutions, waivers and consents to
consummate the merger in form satisfactory to Petrocon and its counsel.
The merger agreement requires the satisfaction of all of the above
conditions. However, any or all of these conditions may be waived by IDS. IDS
will resolicit shareholder votes if its waiver of conditions to the closing
results in changes to the transaction that are so significant that the previous
shareholder consent is not sufficient under applicable corporate law. In making
this determination, the IDS board of directors would use its reasonable
judgment, and would rely on the advice of its corporate counsel. IDS does not
otherwise currently plan to resolicit shareholder votes if it waives conditions
to the closing, even if, in the judgment of the IDS board of directors, the
waiver materially impacts the economics of the transaction. Accordingly, by
voting in favor of the merger, IDS shareholders are granting authority to the
IDS board of directors to determine if conditions to the merger should be
waived.
Termination of the Merger Agreement
The merger agreement may be terminated:
. by IDS if any of the conditions to its obligations to close have not been
fulfilled or waived by the closing date of the merger;
. by IDS if Petrocon breaches or fails to timely satisfy any condition,
warranty, representation or agreement in the merger agreement, if such breach
or failure is not cured within 15 business days after receipt of notice from
IDS;
. by Petrocon if any of the conditions to its obligations to close have not
been fulfilled or waived by the closing date of the merger;
. by Petrocon if IDS breaches or fails to timely satisfy any condition,
warranty, representation or agreement in the merger agreement, if such breach
or failure is not cured within 15 business days after receipt of notice from
Petrocon; and
. by IDS or Petrocon if the closing of the merger has not taken place following
the close of business on December 21, 2001; provided that neither party may
terminate for this reason if it is in material breach of the merger agreement
at the time.
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If the merger agreement is validly terminated, the merger will be abandoned
and the provisions of the merger agreement will be of no further force or effect
except as to liabilities for misrepresentation, breach or default in connection
with any warranty, covenant, duty or obligation prior to termination.
Additionally, only the provisions related to the following will survive:
. confidentiality;
. break-up fee;
. information supplied for use in this document; and
. arbitration.
The confidentiality agreements entered into between IDS and Petrocon on October
13, 1999 and October 31, 2000, will continue in effect despite termination of
the merger agreement.
Break-Up Fee and Expenses
If the merger agreement is terminated by Petrocon and Petrocon enters into
an alternative transaction within six months of the date of the merger
agreement, Petrocon shall pay IDS a break-up fee of $250,000.
Merger Expenses
The merger agreement provides that IDS and Petrocon shall each pay one-half
of the printing and distribution expenses as well as one-half of the
registration expenses and listing fees relating to this merger proxy. However,
if either party fails to get shareholder approval for the transaction, that
party is required to pay all of the printing, distribution, registration and
listing expenses. All other expenses incurred by the parties to the merger
agreement, including financial advisory fees, is the obligation of the party
that has incurred the expenses; except that after the effective time of the
merger, the merged corporation is responsible for the fees and expenses incurred
by Petrocon in connection with the merger. The parties have estimated that the
legal, accounting, financial advisory, printing, registration and listing
expenses in connection with the merger will be approximately $1,559,000. In
addition to these expenses, immediately prior to the merger, Petrocon will issue
204,615 shares of its common stock to its investment advisor in partial payment
of its fee, and 99,500 shares of its common stock to IDS' investment advisor in
partial payment of its fee; and at the closing of the merger, IDS will issue
100,500 shares of its common stock to its investment advisor in partial payment
of its fee.
Amendments
The merger agreement may be amended only by written agreement of Petrocon,
IDS, and the subsidiaries of IDS that are parties to the merger agreement.
However, no amendment may be made to the merger agreement that by law requires
further approval by the stockholders of IDS or the shareholders of Petrocon
without obtaining that further approval.
Other Agreements
Equus Settlement Agreement
Concurrent with the signing of the merger agreement, Equus, Petrocon and
IDS entered into a settlement agreement pursuant to which the parties agreed
that, immediately prior to the merger, Equus would cancel all outstanding debt
owed to it by Petrocon in exchange for (i) promissory notes in the principal
amount of $2,000,000 to be paid at the closing of the merger; (ii) a $3,000,000
promissory note described below; and (iii) a promissory note for all remaining
Petrocon debt to Equus, to be exchanged at the closing of the merger for
2,500,000 shares of IDS convertible preferred stock, described below.
The $3,000,000 promissory note accrues interest at 9.5% per annum with
interest payable quarterly. The principal amount of the $3,000,000 note is
payable in equal quarterly installments of $110,000 and a final
49
installment equal to the then outstanding balance of the $3,000,000 note on the
fourth anniversary of the merger. The $3,000,000 note will be secured by
guarantees of IDS and each of its subsidiaries, a security agreement covering
all of the assets of IDS and its subsidiaries, and a mortgage on two pieces of
realty in Louisiana that are owned by a subsidiary of Petrocon. However, the
debt and the security interests shall be subordinate to the IDS debt to Fleet
Capital Corporation under its revolving line of credit with Fleet and to any
future revolving lines of credit obtained by IDS.
The 2,500,000 shares of IDS convertible preferred stock to be received by
Equus are entitled to payment of dividends beginning on May 31, 2002, and
continuing annually thereafter, at the rate of 8% per annum. Dividends may be
paid in cash or in shares of convertible preferred stock. They are also
entitled to a liquidation preference of $1.00 per share plus an amount equal to
all accrued and unpaid dividends. Convertible preferred stock initially
converts on a .4202 to 1.00 basis, but is entitled to weighted average anti-
dilution protection for issuances under $2.38 per share and for issuances under
fair market value. If the holders of two-thirds of the convertible preferred
stock vote in favor of conversion to common stock, all of the convertible
preferred stock will be converted to common stock. IDS is entitled to require
conversion of the convertible preferred stock to common stock if its common
stock is publicly traded for at least 20 consecutive trading days at a closing
price of at least $3.00 per share. IDS has the option to redeem the convertible
preferred stock for $1.00 per share plus an amount equal to all accrued but
unpaid dividends. In addition, at any time after July 2008, the holders of the
convertible preferred stock, can, by vote of holders of two-thirds of the
convertible preferred stock, require IDS to redeem the convertible preferred
stock.
Employment Agreements
At the closing of the merger, several key employees will have executed
employment agreements with IDS or one of its subsidiaries. The employment
agreements will contain agreements not to compete for a three-year period
following termination of employment unless employment is terminated by the
employer without cause.
Voting Agreement
At the closing of the merger, certain Petrocon shareholders owning 100,000
or more shares of Petrocon common stock immediately prior to the merger will
enter into a voting agreement with IDS, Equus and Alliance. Pursuant to this
agreement, the parties will agree to vote their shares in favor of three members
to the board designated by Alliance, two members designated by certain
shareholders of Petrocon, one member designated by Equus, and one member
designated by agreement between Alliance and certain shareholders of Petrocon.
The voting agreement provides that upon payment of the $3,000,000 promissory
note owed to Equus, Equus will no longer be entitled to designate a director and
Petrocon shareholders that are parties to the agreement will be entitled to
designate three directors. The voting agreement will terminate five years from
the effective date of the merger unless earlier terminated by consent of the
parties to the agreement.
Escrow Agreements
An escrow agreement will be entered into between IDS, IDS Engineering
Management, LC, PEI Acquisition, Inc. and certain Petrocon shareholders owning
at least 100,000 shares of Petrocon common stock immediately prior to the
merger. These Petrocon shareholders will deposit an aggregate of 1,000,000
shares of IDS common stock in an escrow account. These escrowed shares, and any
securities or other distributions in respect of or in exchange for the escrowed
shares, will be a fund against which IDS can make claims for indemnity for
breaches by Petrocon of Petrocon's covenants, representations and warranties and
certain other matters under the merger agreement. No claim for indemnity can be
made against the fund until such claims, in the aggregate, equal or exceed
$100,000 or, in the case of litigation, to the extent the claim exceeds certain
ongoing reserves. IDS will only be entitled to indemnity as to that amount for
which the claims in the aggregate exceed $100,000. The shareholders who are
parties to the escrow agreement will retain their voting rights through a
designated representative. One year from the effective date of the merger,
500,000 of the escrowed shares, less a reasonable reserve to cover any disputed
claims plus 5% interest on these claims, will be distributed to the former
Petrocon shareholders who contributed shares to the escrow on a pro rata basis.
The precise amount of the reserve will be determined by IDS and the shareholder
representative (or the escrow agent, if IDS and the shareholder representative
cannot agree). Two years from the effective date of the merger, the remaining
shares, again less a
50
reasonable reserve to cover disputed claims plus interest, shall be distributed
to such former shareholders of Petrocon on a pro rata basis. IDS will pay all
fees in connection with this escrow.
A second escrow agreement will be entered into by the same parties.
Pursuant to this escrow agreement, these same Petrocon shareholders will deposit
up to 1,968,271 shares of IDS common stock received as a result of the merger
into an escrow account. Each such Petrocon shareholder shall contribute his or
her pro rata share of the number of shares of common stock of IDS which may be
issued upon the exercise of the options and warrants granted by IDS to replace
the options and warrants to purchase Petrocon common stock which survive the
closing of the merger. As of September 30, 2001, there were options and
warrants to purchase 1,968,271 shares of Petrocon common stock outstanding
which, by their terms, will, if unexercised prior to the closing of the merger,
survive the closing of the merger. The following table sets forth the number of
options and warrants currently outstanding which Petrocon expects will survive
closing and be replaced by options and warrants to purchase IDS common stock,
the existing exercise price per share of such options and warrants, and the
expiration date of such options and warrants.
Options and Warrants Exercise Price Expiration Date
---------------------- -------------- ------------------
147,615 $ .01 January 31, 2009
84,575 $1.00 October 24, 2010
713,271 $1.00 October 31, 2010
196,023 $4.44 April 1, 2003
1,169 $4.44 April 1, 2005
225,225 $4.44 September 19, 2006
292,693 $6.25 October 17, 2003
307,700 $6.50 September 19, 2006
The options and warrants to purchase Petrocon common stock described above
will be replaced by options and warrants to purchase common stock of IDS unless
exercised prior to the date of the merger. If any of the replacement options
and warrants are exercised, the shares issued upon exercise will be deducted
from this escrow and the proceeds from the exercise of such options and warrants
(less any social security and Medicare taxes required to be paid by IDS as a
result of such exercise) will be paid to the former Petrocon shareholders who
contributed shares of IDS common stock to the escrow, on a pro rata basis.
Further, the number of shares of IDS common stock which must be placed in
escrow may be reduced by 153,850 shares if Petrocon's proposed settlement
agreement with Gary Coury is consummated. See "Business of Petrocon - Litigation
and Other Legal Proceedings."
$3,000,000 Promissory Note, Guaranty and Security Agreement
Immediately prior to the effective time of the merger, Petrocon will issue
to Equus a $3,000,000 note as part of the settlement and restructuring of the
debt owed by Petrocon and its subsidiaries to Equus. The $3,000,000 note
accrues interest at 9.5% per annum and interest is payable quarterly, in
arrears, on the 15th of February, May, August and November of each year
beginning November 15, 2001. The principal balance of the $3,000,000 note is
payable in equal quarterly installments of $110,000 each beginning August 15,
2002. The $3,000,000 note matures on the fourth anniversary date of the merger
and all of the then outstanding principal balance of and accrued but unpaid
interest on the $3,000,000 note is due and payable on that date. The $3,000,000
note also becomes due prior to maturity in the event of a sale of Petrocon or of
IDS. Each subsidiary of Petrocon will guaranty the $3,000,000 note and grant a
security interest in substantially all of its assets to secure its guaranty.
Immediately after the effective time of the merger, IDS and each of its
subsidiaries will also guaranty the $3,000,000 note and grant a security
interest and lien in substantially all of their respective assets to secure the
$3,000,000 note. The $3,000,000 note will be subordinate to the obligations of
IDS and its subsidiaries, including Petrocon and its subsidiaries, to Fleet
Capital Corporation under its credit facility and any other revolving credit
facility which IDS or its subsidiaries may obtain in the future.
Option Pool Agreement
At the closing of the merger, Alliance will sign an option pool agreement
pursuant to which it will agree to hold 2,600,000 shares of IDS common stock and
to grant options to acquire that stock to certain employees of IDS and its
subsidiaries, including Petrocon, at the time of or following the merger. The
options will be granted to employees designated by Alliance and by the person
named in the option pool agreement as the Petrocon Shareholder Representative
(currently Michael L. Burrow). The option exercise price will be between $.75
and
51
$1.25 per share depending on the date on which the option is exercised. The
option exercise price will be paid to Alliance. The option is not exercisable
until a sale of IDS (as defined in the option pool agreement), and if not
exercised within five years from the closing, the option lapses.
Equus Call Option
At the closing of the merger, Equus will be granted options to acquire
200,000 shares of IDS common stock from Alliance at purchase prices ranging from
$.75 to $1.25 per share. The options will not be exercisable until a sale of
IDS (as defined in the Equus call agreement), and if not exercised within five
years from the closing, the option lapses.
Release Agreement
As a condition to the closing of the merger, Petrocon is required to
deliver releases signed by each Petrocon shareholder who owns at least 100,000
shares of Petrocon common stock immediately prior to the merger (other than one
shareholder with whom litigation is pending). The release releases Equus and
Petrocon, and their respective officers and directors, from liability under the
articles of incorporation or bylaws of Petrocon; preemptive or other similar
rights; contracts to which the shareholder and Petrocon or Equus are parties;
actions taken as shareholders, officers or directors; negligence of any party
prior to the merger; or liability relating to certain earlier agreements of the
parties.
Lock-Up Agreement
Petrocon is required to deliver, at the closing, lock-up agreements from
each of the Petrocon shareholders who hold at least 100,000 shares of Petrocon
common stock immediately prior to the merger (with one exception). The lock-up
agreements will require the holder of the IDS common stock to forego selling the
shares (with certain exceptions, such as gifts, transfers to partners, etc.) for
a period of two years, or, if earlier, until the sale of IDS.
Accounting Treatment
The merger will be accounted for as a purchase by IDS.
52
MATERIAL U.S. FEDERAL INCOME TAX CONSEQUENCES OF THE MERGER
The following summary discusses the material U.S. federal income tax
consequences of the merger. The summary is based upon the Internal Revenue Code
of 1986, as amended, the tax code, applicable Treasury regulations under the tax
code and administrative rulings and judicial authority as of the date of this
document, all of which are subject to change. Any such change, which may or may
not be retroactive, could alter the tax consequences of the merger to you.
This discussion assumes that holders of Petrocon common stock hold their
shares as capital assets. This discussion does not address all aspects of U.S.
federal income taxation that may be relevant to a shareholder in light of that
shareholder's particular circumstances, or to shareholders subject to special
rules, such as rules relating to:
. shareholders who are not citizens or residents of the U.S.;
. financial institutions;
. tax-exempt organizations;
. insurance companies;
. dealers in securities;
. shareholders who acquired Petrocon shares under Petrocon's equity-based
compensation plans or otherwise as compensation, or through a tax-qualified
retirement plan; and
. shareholders who hold Petrocon shares as part of a hedge, straddle,
constructive sale or conversion transaction.
This discussion does not address any consequences arising under the laws of
any state, locality or foreign jurisdiction or under federal laws other than the
U.S. federal income tax laws.
Tax Opinion
Gardere Wynne Sewell LLP has acted as counsel to Petrocon and has delivered
an opinion that the merger of PEI Acquisition, Inc. with and into Petrocon will
be a "reorganization" for U.S. federal income tax purposes within the meaning of
Section 368(a) of the tax code. This means that, subject to the limitations and
qualifications described below:
. IDS, PEI Acquisition, Inc. and Petrocon will each be a party to the
reorganization within the meaning of Section 368(b) of the tax code.
. No gain or loss will be recognized for federal income tax purposes by Petrocon
shareholders who exchange their shares of common stock solely for shares of
IDS common stock pursuant to the merger, except to the extent of cash, if any,
received by Petrocon shareholders in place of fractional share interests in
such IDS shares.
. The aggregate adjusted tax basis of the IDS shares received in the merger by a
Petrocon shareholder, including any amount allocable to fractional share
interests in shares of IDS common stock for which cash is received, will be
the same as the aggregate adjusted tax basis of the Petrocon shares of common
stock surrendered in the merger.
. The holding period of the IDS shares of common stock that a Petrocon
shareholder receives in the merger will include the period during which such
holder held the Petrocon shares of common stock surrendered in the merger.
. Cash received by a Petrocon shareholder in place of a fractional share
interest in IDS shares will be treated as received in redemption of such
fractional share interest and will result in the recognition of gain or loss
for
53
federal income tax purposes in an amount equal to the difference between the
amount of cash received and the portion of the shareholder's adjusted tax
basis in the Petrocon shares of common stock allocable to this fractional
share interest. This gain or loss will generally be capital gain or loss and,
assuming capital gain treatment is applicable, will be long-term capital gain
or loss if the Petrocon shareholder's holding period in the Petrocon share of
stock allocable to the fractional IDS share interest is more than one year at
the effective time of the merger and the Petrocon share of stock allocable to
the fractional IDS share interest was held as a capital asset.
A holder of Petrocon common stock who perfects dissenters' rights with
respect to such person's shares of Petrocon common stock will, in general,
recognize capital gain under Section 302 of the tax code on the excess of the
amount received for perfecting dissenters' rights over the shareholder's
adjusted basis in their shares of Petrocon common stock.
Certain Petrocon shareholders owning at least 100,000 shares of Petrocon
common stock immediately prior to the merger will deposit up to 1,968,271 shares
of IDS common stock received as a result of the merger into an escrow account.
IDS will deduct from these escrowed shares the number of shares issued by IDS
upon the exercise of IDS options and warrants issued to replace the Petrocon
options and warrants that survive the merger. Gardere Wynne Sewell LLP has
limited its tax opinion with respect to these escrowed shares. Specifically,
Gardere Wynne Sewell LLP has opined that it is more likely than not that the
shareholders depositing shares into such escrow will not recognize gain or loss
with respect to such deposited shares.
Such opinion of counsel is based upon, among other things, assumptions,
representations and covenants, including those contained in certificates of
officers of IDS, Petrocon and others, which counsel has assumed to be true,
correct and complete. Such opinion of counsel is not binding on the Internal
Revenue Service or the courts, and there can be no assurance that the Internal
Revenue Service will not challenge the conclusions set forth in the opinion of
counsel or that a court will not sustain such a challenge. Neither IDS nor
Petrocon has requested a ruling from the Internal Revenue Service with regard to
any of the federal income tax consequences of the merger.
Backup Withholding
Certain non-corporate Petrocon shareholders may be subject to backup
withholding at a 31% rate on cash payments received in place of the IDS shares.
Backup withholding will not apply, however, to a Petrocon shareholder who:
. furnishes a correct taxpayer identification number and certifies that such
holder is not subject to backup withholding on the substitute Form W-9 or
successor form included in the letter of transmittal to be delivered to
Petrocon shareholders,
. provides a certification of foreign status on Internal Revenue Service Form W-
8 or successor form, or
. is otherwise exempt from backup withholding.
Petrocon Net Operating Losses
Petrocon has approximately $3,200,000 of net operating losses for federal
income tax purposes as of December 31, 2000. The ability of Petrocon and IDS to
utilize these net operating losses in any taxable year after the merger will be
limited under Section 382 of the Code. In general, the annual limitation under
Section 382 of the Code will equal the fair market value of Petrocon as of the
merger multiplied by the long-term tax-exempt rate.
The preceding discussion does not purport to be a complete analysis or
discussion of all potential tax effects relevant to the merger. Petrocon
shareholders are urged to consult their tax advisors as to the specific tax
consequences to them of the merger, including tax return reporting requirements,
the applicability and effect of federal, state, local and other applicable tax
laws and the effect of any proposed changes in the tax laws.
54
RIGHTS OF DISSENTING SHAREHOLDERS
All Petrocon shareholders are parties to a shareholders' agreement that
requires the shareholders to enter into a transaction if holders of two-thirds
of the Petrocon common stock approve the transaction. If the Petrocon
shareholders approve the merger, then all shareholders of Petrocon will be
contractually obligated to exchange their Petrocon shares. As such, Petrocon
shareholders who exercise their appraisal rights may be in breach of the
shareholders' agreement.
If the merger is completed, holders of Petrocon common stock who object to
the merger are entitled to appraisal rights under Texas corporate law. To
exercise appraisal rights, Petrocon shareholders must strictly adhere to the
provisions of Texas corporate law governing appraisal rights. A failure to
comply with these provisions, including a failure to vote against the
transaction, will constitute a waiver of appraisal rights. The following is a
summary of the relevant provisions of Texas corporate law, a complete copy of
which is attached to this document as Annex C.
To receive appraisal rights, you must take the following steps:
. send a written objection to the merger to Petrocon before the special
shareholder meeting stating that your right to dissent will be exercised if
the merger agreement is approved and the merger occurs;
. state in your written objection your name and the address to which notice of
the approval of the merger should be delivered;
. do not vote in favor of the merger; and
. send a written demand to Petrocon, the surviving corporation in the merger,
for payment for your shares of Petrocon common stock within 10 days after you
receive notice that the merger has occurred. You should receive this notice
within 10 days after the merger is completed. State in your written demand the
number of shares of Petrocon common stock that you own and your estimate of
the fair value of those shares.
The written objection should be delivered to Robert W. Raiford, Secretary,
Petrocon Engineering, Inc., 3155 Executive Blvd., Beaumont, Texas 77705-1050.
The written demand should be mailed to Hulda L. Coskey, Petrocon Engineering,
Inc., c/o Industrial Data Systems Corporation, 600 Century Plaza Drive, Building
140, Houston, Texas 77073-6013. We recommend that you send both the objection
and the demand by registered or certified mail, return receipt requested.
If you have followed the procedures set forth above and the merger is
completed, you will be contacted within 20 days after receipt of your written
demand to determine the fair value of your Petrocon stock. The fair value of
your Petrocon stock will be determined as of the day before approval of the
merger by Petrocon shareholders and will exclude any value arising from the
expectation of the merger. If Petrocon and you have not agreed as to the fair
value of your shares of Petrocon stock within 60 days after the date the merger
was approved, both you and Petrocon will have the right to have a court
determine the fair value by filing a petition in any state district court of
Jefferson County, Texas no later than 60 days after the expiration of the
negotiation period asking for a finding or determination from the court of the
fair value of the shares of the Petrocon stock.
After filing and a hearing of the petition, the court shall determine
whether you have complied with Texas law, and if you have, appoint one or more
qualified appraisers to determine the fair value of your shares and submit a
report to the court. After a hearing regarding the report, the court shall
determine the fair value of your shares and order Petrocon to make payment to
you of such value. You also will be paid interest beginning 91 days after the
approval of the merger to the date of the judgment by the court. Upon payment
of the judgment to you by Petrocon, you shall cease to have any interest in your
shares.
The fair value of the Petrocon stock could be more than, the same as or
less than the value of the merger consideration you would have otherwise
received by exchanging your shares of Petrocon stock for the merger
consideration.
55
Your appraisal rights are your only remedy if you object to the merger,
unless the merger is determined to have been fraudulent.
If you exercise your right to dissent to the merger, after the merger is
completed you will not have any rights as an IDS stockholder, including the
right to receive notices of meetings, vote at meetings or receive dividends, if
any.
56
IDS SELECTED CONSOLIDATED FINANCIAL DATA
The following table sets forth selected financial information for IDS for
the six month periods ended June 30, 2001 and 2000, and for the years ended
December 31, 2000, 1999, 1998, 1997 and 1996. This financial information was
derived from the consolidated financial statements of IDS. This data should be
read in conjunction with the consolidated financial statements of IDS and the
related notes and "Management's Discussion and Analysis of Financial Condition
and Results of Operations" included elsewhere herein. The following selected
financial information for IDS for the years ended December 31, 1997 and 1996 was
derived from consolidated financial statements and the related notes of IDS
which are not included herein.
Six Months Ended
June 30, Years Ended December 31,
----------------- -------------------------------------------------
2001 2000 2000 1999 1998 1997 1996
------- ------- ------- ------- ------- ------- -------
(In thousands, except per share amounts)
Statement of Operations:
Revenues:
Engineering services $ 7,279 $ 3,650 $10,740 $ 5,978 $ 4,407 $ 4,265 $ 3,468
Product sales 3,824 3,074 6,236 6,260 8,260 6,259 2,069
------- ------- ------- ------- ------- ------- -------
Total revenues 11,103 6,724 16,976 12,238 12,667 10,524 5,537
------- ------- ------- ------- ------- ------- -------
Costs and expenses:
Cost of engineering services 5,472 2,619 8,175 4,378 3,143 3,219 2,488
Cost of product sales 2,870 2,411 4,852 5,012 6,308 4,699 1,477
Selling, general and
administrative 1,720 1,681 3,428 2,616 2,278 2,012 1,083
------- ------- ------- ------- ------- ------- -------
Total costs and
expenses 10,062 6,711 16,455 12,006 11,729 9,930 5,048
------- ------- ------- ------- ------- ------- -------
Operating income 1,041 13 521 232 938 594 489
Gains (realized and
unrealized) on marketable
securities, net - - - 51 18 26 107
Interest income 33 32 52 47 50 36 -
Interest expense (39) (38) (92) (68) (79) (64) -
Other income, net - - 22 49 - (1) 13
------- ------- ------- ------- ------- ------- -------
Income before taxes 1,035 7 503 311 927 591 609
Provision for taxes 404 - 123 151 357 208 206
------- ------- ------- ------- ------- ------- -------
Income from continuing
operations: 631 7 380 160 570 383 403
Loss from discontinued
operations, net of taxes - - - (2) (149) - -
Loss on disposal of
discontinued operations - - - (481) - - -
------- ------- ------- ------- ------- ------- -------
Net income (loss) $ 631 $ 7 $ 380 $ (323) $ 421 $ 383 $ 403
======= ======= ======= ======= ======= ======= =======
Per Share Data:
Basic and diluted earnings
(loss) per share:
Continuing operations $ 0.05 $ - $ 0.03 $ 0.01 $ 0.04 $ 0.03 $ 0.04
Discontinued operations - - - (0.03) (0.01) - -
Net income (loss) per share 0.05 - 0.03 (0.02) 0.03 0.03 0.04
Weighted average common
shares outstanding 12,965 12,965 12,965 13,056 12,947 12,757 10,057
======= ======= ======= ======= ======= ======= =======
57
Cash Flow Data:
Operating activities, net $ 316 $ (210) $ 27 $ 94 $ 773 $ (818) $ 129
Investing activities, net (202) (254) (468) (209) 209 (1,067) (235)
Financing activities, net (33) (52) 19 (197) 8 1,368 507
Discontinued operations, net
of tax - - - (250) (221) - -
------- ------- ------- ------- ------- ------- -------
Net change in cash and
cash equivalents $ 81 $ (516) $ (422) $ (562) $ 769 $ (517) $ 401
======= ======= ======= ======= ======= ======= =======
Balance Sheet Data (at end of
period):
Working capital $ 3,420 $ 3,058 $ 3,187 $ 3,306 $ 3,047 $ 1,958 $ 2,580
Property, plant, and
equipment, net 1,544 1,476 1,404 1,070 1,051 1,044 123
Total assets 8,052 6,190 7,052 5,914 7,929 5,368 3,385
Long-term debt 514 394 365 385 422 421 -
Stockholders' equity 4,790 3,981 4,159 3,975 4,409 3,439 2,670
58
PETROCON SELECTED CONSOLIDATED FINANCIAL DATA
The following table sets forth selected financial information for Petrocon
for the six month periods ended June 30, 2001 and 2000, and for the years ended
December 31, 2000, 1999, 1998, 1997, and 1996. This financial information was
derived from the consolidated financial statements of Petrocon. This data should
be read in conjunction with the consolidated financial statements of Petrocon
and the related notes and "Management's Discussion and Analysis of Financial
Condition and Results of Operations" included elsewhere herein. The following
selected financial information for Petrocon for the years ended December 31,
1997 and 1996 was derived from consolidated financial statements and the related
notes of Petrocon which are not included herein.
Six Months Ended
June 30, Years Ended December 31,
--------------------- -----------------------------------------------------
2001 2000 2000 1999 1998 1997 1996
----- ---- ---- ---- ---- ---- ----
(In thousands, except per share amounts)
Consolidated Statements of
Earnings Data:
Revenues $34,318 $33,044 $68,344 $ 80,995 $100,901 $92,616 $61,850
Direct costs 28,042 27,359 55,932 73,243 82,758 71,693 49,251
------- ------- ------- -------- -------- ------- -------
Gross profit 6,276 5,685 12,412 7,752 18,143 20,923 12,599
Cost associated with merger(1) 339 0 0 0 0 0 0
Estimated loss on assets held
for sale(2) 0 0 0 732 0 0 0
Costs associated
with failed equity
offering 0 0 0 0 3,754 0 0
General and administrative
expenses 5,270 5,219 10,194 16,938 17,261 15,316 9,577
------- ------- ------- -------- -------- ------- -------
Operating income (loss) 667 466 2,218 (9,918) (2,872) 5,607 3,022
Interest expense (1,005) (1,041) (2,073) (2,201) (1,655) (1,569) (592)
Other income (expense), net 17 21 57 (2,937) (130) 291 85
------- ------- ------- -------- -------- ------- -------
Income (loss) before income
taxes and extraordinary items (321) (554) 202 (15,056) (4,657) 4,329 2,515
Income tax provision (benefit) 9 (95) 43 (129) (284) 1,574 1,050
------- ------- ------- -------- -------- ------- -------
Income (loss) before
extraordinary items (330) (459) 159 (14,927) (4,373) 2,755 1,465
Extraordinary items (net of
tax) (3) 0 0 0 (153) 0 0 0
------- ------- ------- -------- -------- ------- -------
Net income (loss) $ (330) $ (459) $ 159 $(15,080) $ (4,373) $ 2,755 $ 1,465
======= ======= ======= ======== ======== ======= =======
Per Share Data:
Basic
Income (loss) before
extraordinary item $ (0.05) $ (0.07) $ 0.03 $ (2.57) $ (0.76) $ 0.58 $ 0.37
Extraordinary item (net of
tax) 0.00 0.00 0.00 (0.03) 0.00 0.00 0.00
Net income (loss) (0.05) (0.07) 0.03 (2.60) (0.76) 0.58 0.37
Diluted
Income (loss) before
extraordinary item $ (0.05) $ (0.07) $ 0.02 $ (2.57) $ (0.76) $ 0.55 $ 0.37
Extraordinary item (net of
tax) 0.00 0.00 0.00 (0.03) 0.00 0.00 0.00
Net income (loss) (0.05) (0.07) 0.02 (2.60) (0.76) 0.55 0.37
Number of shares used to
calculate basic net income
(loss) per share 6,291 6,219 6,219 5,802 5,041 4,765 3,913
59
Number of shares used to
calculate diluted net
income (loss) per share 6,291 6,219 8,104 5,802 5,721 5,041 3,913
Balance Sheet Data (at end of
period):
Working capital (deficit) $(2,089) $ 1,892 $ 1,968 $ (2,418) $ (3,224) $(3,807) $(1,482)
Total assets 20,417 22,888 21,300 32,641 44,554 41,903 26,377
Long-term debt, including
current portion 19,151 18,705 18,060 25,556 8,339 4,803 6,529
Stockholders' equity (deficit) (5,356) (5,646) (5,028) (5,191) 9,889 13,919 6,753
______________________________
(1) Petrocon accrued legal and accounting fees incurred through June 30, 2001
associated with the pending merger with IDS.
(2) Effective January 2000, Petrocon sold the assets of Alliance Engineering,
Inc. (AEI) to The Wood Group in exchange for $6,200,000 and the retention
of certain liabilities of AEI by Petrocon. The net proceeds of the sale
were used to reduce Petrocon's current liabilities by $3,700,000. The
resulting estimated financial statement loss of $700,000 (net of tax) was
recognized in 1999.
(3) In June 1999, Petrocon entered into a financing arrangement with Fleet
Capital Corporation whereby all outstanding debt to Heller Financial, Inc.
which consisted of a line of credit and two term loans were repaid.
Comparative Per Share Data
Historical Proforma
----------------------------------------------------------------------------
IDS Petrocon Combined
------------------------------------ ---------------------------------- ---------------------------------
12/31/00 6/30/01 12/31/00 6/30/01 12/31/00 6/30/01
---------------- --------------- ------------- --------------- ---------------- ------------
Book value $ 0.32 $ 0.37 $ (0.81) $ (0.83) N/A $ (0.02)
Cash dividends $ 0.00 $ 0.00 $ 0.00 $ 0.00 $ 0.00 $ 0.00
Income (loss) $ 0.03 $ 0.05 $ 0.03 $ (0.05) $ 0.03 $ 0.01
* These amounts have been calculated using the historical combined balances
included in the unaudited proforma information (except the number of shares
outstanding which is based on proforma shares outstanding).
60
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS OF IDS
The following discussion is qualified in its entirety by, and should be
read in conjunction with, IDS' Condensed Consolidated Financial Statements
including the notes thereto, included elsewhere herein.
Overview
The majority of IDS' revenues are produced by IDS Engineering, Inc., the
Engineering segment. Revenues are generated from providing engineering
consulting services to the pipeline divisions of major integrated oil and gas
companies. Since the early part of 2000, this segment has expanded its scope of
projects to include lump-sum turnkey contract jobs. The addition of sizable
lump-sum contracts plus the growth in its billable staff working on time and
material projects has resulted in a steady increase in the revenues generated by
the Engineering segment. The addition of a business development office in Tulsa,
Oklahoma in early 1999 to pursue engineering, procurement and construction (EPC)
projects has also added to revenue growth. As of June 30, 2001, the Tulsa
operation has grown to approximately 50 employees and IDS believes the
contribution of the Tulsa operation will result in expanded market exposure,
greater revenue and increased profit margin potential from the EPC market in
future periods. The Engineering segment generated approximately 66% of the
total revenues for the six months ended June 30, 2001. IDS believes that its
core competency is in the Engineering segment and plans to focus its growth in
this area in the future. As part of this effort, IDS is pursuing the merger
transaction described in this merger proxy, and, additionally, may consider
divesting itself of the segments of its business outside of the Engineering
segment.
Additional revenues are generated through segments involved in the made-to-
order manufacture of industrial equipment. Air handling equipment for
commercial heating, ventilation and cooling systems manufactured by Thermal
Corporation (Thermal), the Air Handling segment of IDS, comprised approximately
18% of the revenues for the six months ended June 30, 2001.
IDS' other operating segment, the Manufacturing segment, which manufactures
industrial grade battery backup systems, battery chargers and industrial grade
computer systems, contributed approximately 16% of total revenues for the six
months ended June 30, 2001.
Proposed Merger Transaction
On July 31, 2001, IDS entered into a definitive merger agreement relating
to a proposed merger between a newly created indirect subsidiary of IDS and
Petrocon Engineering, Inc. Management believes that, if the merger is
consummated, it will have a significant impact on IDS' revenues and operations.
In summary, IDS anticipates that its revenues will increase significantly as
Petrocon's revenues for its year ended December 31, 2000 were approximately
$68,000,000, while IDS' revenues were approximately $17,000,000 for the same
period. IDS also expects that, if the merger is completed, it will provide a
broader range of services over a larger geographic area. It is uncertain at
this time what impact the Petrocon merger will have on IDS' results of
operations. While IDS believes that the merger would result in some immediate
expenses relating to consolidation of the operations of the two companies, IDS
believes that the long-term impact of the merger will be beneficial.
Forward-Looking Statements
Certain information contained in this "Management's Discussion and
Analysis" as well as in other portions of this merger proxy, as well as other
written and oral statements made or incorporated by reference from time to time
by IDS and its representatives in other reports, filings with the Securities and
Exchange Commission, press releases, conferences, or otherwise, may be deemed to
be forward-looking statements within the meaning of Section 21E of the
Securities Exchange Act of 1934. This information includes, without limitation,
statements concerning IDS' future financial position and results of operations;
planned capital expenditures; business strategy and other plans for future
operations; the future mix of revenues and business; commitments and contingent
liabilities; and future demand and industry conditions. Although IDS believes
that the expectations reflected in such forward-looking statements are
reasonable, it can give no assurance that such expectations will prove to have
been correct. When used in this report, the words "anticipate," "believe,"
"estimate," "expect," "may," and similar expressions, as they relate to IDS and
its management, identify forward-looking statements. The actual results of
future events
61
described in such forward-looking statements could differ materially from the
results described in the forward-looking statements due to the risks and
uncertainties described in this merger proxy.
Results of Operations
The following table sets forth, for the periods indicated, certain
financial data derived from IDS' consolidated statements of operations and
indicates percentage of total revenue for each item.
Years Ended December 31, Six Months Ended June 30,
--------------------------------------------- --------------------------------------------
1999 2000 2001 2000
---- ---- ---- ----
Amount % Amount % Amount % Amount %
------ - ------ - ------ - ------ -
Revenue:
Engineering $ 5,987,180 48.8 $10,739,874 63.3 $ 7,278,978 65.6 $3,649,511 54.3
Air Handling 3,151,295 25.7 3,421,184 20.2 1,966,584 17.7 1,589,657 23.6
Manufacturing 3,108,974 25.5 2,814,965 16.5 1,857,834 16.7 1,484,785 22.1
----------- ----- ----------- ----- ----------- ----- ---------- -----
Total revenue $12,238,449 100.0 $16,976,023 100.0 $11,103,396 100.0 $6,723,953 100.0
=========== ===== =========== ===== =========== ===== ========== =====
Gross Profit:
Engineering $ 1,599,722 26.8 $ 2,564,902 23.9 $ 1,806,884 24.8 $1,030,589 28.2
Air Handling 598,766 19.0 725,496 21.2 561,868 28.6 267,098 16.8
Manufacturing 649,952 20.9 658,871 23.4 392,408 21.1 396,639 26.7
----------- ----- ----------- ----- ----------- ----- ---------- -----
Total gross profit $ 2,848,440 23.3 $ 3,949,269 23.3 $ 2,761,160 24.9 $1,694,326 25.2
=========== ===== =========== ===== =========== ===== ========== =====
Selling, general and
administrative expenses $ 2,615,922 21.4 $ 3,427,778 20.2 $ 1,720,362 15.5 $1,681,041 25.0
Operating profit $ 232,518 1.9 $ 521,491 3.1 $ 1,040,798 9.4 $ 13,285 0.2
Interest income 46,963 0.4 52,368 0.3 32,754 0.3 32,012 0.5
Interest expense (68,047) (0.6) (92,296) (0.5) (39,050) (0.4) (38,344) (0.6)
Other income 99,540 0.8 22,083 0.1 0 0.0 0 0.0
----------- ----- ----------- ----- ----------- ----- ---------- -----
Income (loss) from
continuing operations
before provision
(benefit) for income
taxes $ 310,954 2.5 $ 503,646 3.0 $ 1,034,502 9.3 $ 6,953 0.1
----------- ----- ----------- ----- ----------- ----- ---------- -----
Provision (benefit) for
income taxes $ 151,212 1.2 $ 122,768 0.8 $ 403,500 3.6 $ 0 0.0
----------- ----- ----------- ----- ----------- ----- ---------- -----
Net income (loss) $ 159,742 1.3 $ 380,878 2.2 $ 631,002 5.7 $ 6,953 0.1
=========== ===== =========== ===== =========== ===== ========== =====
Six Months Ended June 30, 2000 Compared to Six Months Ended June 30, 2001
Total Revenue. Total revenue increased by $4,379,443 or 65.1% from
$6,723,953 for the six months ended June 30, 2000, compared to $11,103,396 in
2001. Revenue from the Engineering segment, which comprised 54.3% of total
revenue for the six months ended June 30, 2000 increased by $3,629,467 or 99.5%
from $3,649,511 in 2000 to $7,278,978 for the same period in 2001. The increase
was primarily attributable to the expanded scope of lump-sum turnkey projects
active during the 2001 period and to an increase in the number of personnel with
billable hours in the Engineering segment in the six months ended June 30, 2001.
Revenue from the Air Handling segment, which comprised 17.7% of the total
revenue for the six months ended June 30, 2001, increased by $376,927 or 23.7%
from $1,589,657 in 2000 to $1,966,584 for the same period in 2001. This increase
is attributable to several sizable municipal contracts completed during the six
months ended June 30, 2001 and success of sales and marketing efforts.
Revenue from the Manufacturing segment, which comprised 16.7% of the total
revenue for the six months ended June 30, 2001, increased by $373,049 or 25.1%
from $1,484,785 in 2000 to $1,857,834 for the same period in
62
2001. Sales revenue generated in the six months ended June 30, 2000 were, in
management's opinion, below normal for what is expected from this segment. The
increase recorded from the 2000 period is believed to be the result of a rebound
to more normal revenues after abnormally low sales revenues during the 2000
period.
Gross Profit. Gross profit increased by $1,066,834 or 63.0% from
$1,694,326 for the six months ended June 30, 2000 to $2,761,160 for the same
period in 2001. The gross margin contributed by the Engineering segment
increased by $776,295 from $1,030,589 for the six months ended June 30, 2000 to
$1,806,884 for the period ended June 30, 2001. This increase is the result of
the expanded number of lump-sum projects being done by the Engineering segment
in the 2001 period. For the six months ended June 30, 2001, the gross margin
percentage in the Engineering segment decreased from the same period in 2000 due
to additional direct costs related to the increase in the number of employees
and costs related to a larger staff of direct personnel. The Air Handling
segment's gross margin increased by $294,770 or 110.4% from $267,098 for the
six-month period ended June 30, 2000 to $561,868 for the six months ended June
30, 2001. Management believes this increase is a direct result of more accurate
bidding on jobs, more aggressive sales and marketing efforts, as well as being
awarded several municipal projects in the 2001 period, which produced higher
margins. The Manufacturing segment's gross margin decreased from 26.7% for the
six-month period ended June 30, 2000 to 21.1% for the six months ended June 30,
2001. Although the 2001 sales revenue increased by $373,049, the profit margin
decreased. Management believes the decrease in gross profit is the result of
production issues and other causes, discussed in the preceding section under the
"Total Revenue" and "Gross Profit" categories.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased by $39,321 or 2.3% from $1,681,041 for the six
months ended June 30, 2000 compared to $1,720,362 for the same period in 2001.
As a percentage of total revenue, selling, general and administrative expenses
decreased from 25.0% for the six months ended June 30, 2000 to 15.5% for the
same period in 2001. The decrease in selling, general and administrative
expenses as a percentage of revenue is due to the increase in revenue from the
2000 period, accompanied by stable selling, general and administrative expenses.
Operating Income. Operating income increased by $1,027,513 from $13,285
for the six months ended June 30, 2000 to $1,040,798 for the same period in
2001. Operating income increased as a percentage of total revenue from 0.2% for
the six months ended June 30, 2000 to 9.4% for the same period in 2001. This
increase in operating income was a result of increased revenues, higher gross
profits and stable selling, general and administrative expenses.
Other Income (Expense). Other expense decreased by $36 from $6,332 for the
six months ended June 30, 2000 to $6,296 for the same period in 2001. This
minimal change is due primarily to cash management activities to minimize the
use of IDS' line of credit.
Net Income (Loss). Income from continuing operations increased by $624,049
from $6,953 for the six months ended June 30, 2000 to $631,002 for the same
period in 2001. This increase was due to the increase in gross margins and to
the stability of IDS' selling, general and administrative expenses.
Year Ended December 31, 2000 Compared to Year Ended December 31, 1999
In October 1999, the acquisition of IDS FAB, which took place in November
1998 was rescinded. As a result of this, the operating results of IDS FAB were
reclassified as discontinued operations for 1998 and 1999. During the fourth
quarter of 2000, IDS combined the Power Systems and the Product segments into
one Manufacturing segment. The following comparisons reflect these
reclassifications and combinations.
Total Revenue. Total revenue increased by $4,737,574 or 38.7% from
$12,238,449 in 1999 to $16,976,023 in 2000. Revenue from the Engineering
segment, which comprised 48.8% and 63.3% of total revenue in 1999 and 2000,
respectively, increased by $4,761,694 or 79.7%. This increase was due to the
award of several substantial fixed fee projects and to revenues generated by
additional projects secured by its Tulsa operation. Revenue from the Air
Handling segment comprised 25.7% and 20.2% of total revenue in 1999 and 2000,
respectively, increased by $269,889 or 8.6%. Management believes this increase
is attributable primarily to the return of normal market conditions after the
effects of Y2K on the 1999 revenues. The Manufacturing segment contributed
25.5% of total revenues for the year ended December 31,1999 and 16.5% of total
revenues in 2000. Revenues from the Manufacturing segment in 2000 decreased by
$294,000 or 9.5% from 1999. This decrease is due
63
to the loss of business due to stronger competition in the industrial computer
market and management's decision not to pursue business development in this
product line.
Gross Profit. Gross profit increased by $1,100,829 or 38.6% from
$2,848,440 in 1999 to $3,949,269 in 2000. The gross margin for the Engineering
segment increased by $965,180 or 60.3% from 1999 to 2000. This increase was
attributable to the substantial increase in revenues in 2000. The Engineering
segment's 2000 gross profit as a percentage of revenue decreased from 26.8% in
1999 to 23.9%. This was attributable to higher material costs related to
sizeable fixed fee projects completed during the 2000 period.
The gross profit margin on completed contracts is significantly less than
the gross margin on uncompleted contracts at December 31, 2000 due to the
completed contracts absorbing significant up-front start-up costs due to the
learning curve related to the scope of the projects. Management believes the
production efficiency will improve substantially on the uncompleted portion of
the contracts which accounts for the higher gross margins. Management has
observed improved labor and material efficiencies throughout the life of the
projects.
Management believes the potential risks associated with fixed fee contracts
and estimates to complete include unforeseen incidents which would effect the
amount of labor or material costs to carry out the scope of the projects. These
risks are minimized by responsible project management on an ongoing basis
throughout the life of the project and adjustments to the estimates to complete,
if material changes become evident.
The average length of long term contracts performed by the Company is 8
months. The Company has had several of these projects that began during the
first quarter of 2000. These projects are related to a pipeline project in the
Caspian Sea area which involve design work as well as fabrication of control
panels for pump stations and transmission stations.
The gross margin for the Air Handling segment increased by $126,730 or
21.2% from 1999 to 2000. This increase was due to the increase in 2000 revenues
and to higher margins during the last two quarters of the year brought about by
improvements in quoting jobs. The Manufacturing segment gross margin as a
percentage of sales increased from 20.9% in 1999 to 23.4% in 2000. IDS believes
this was a result of the combination of the Power Systems and Product segments
and the benefits derived from this combination, such as reduced labor costs and
improved efficiencies.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased by $811,856 or 31.0% from $2,615,922 in 1999
to $3,427,778 in 2000. However, as a percentage of total revenue, selling,
general and administrative expenses decreased from 21.4% in 1999 to 20.2% in
2000.
Operating Profit. Operating profit increased by $288,973 or 124.3% from
$232,518 in 1999 to $521,491 in 2000. Operating profit increased as a percentage
of total revenue from 1.9% in 1999 to 3.1% in 2000. This increase was brought
about by the overall higher revenues and to a lower percentage of selling,
general and administrative expenses.
Other Income. The decrease in Other Income of $96,000 was the result of
IDS' ceasing to use its surplus cash to trade in stocks and bonds. This
resulted in the loss of income and caused IDS to make additional use of its line
of credit, resulting in higher interest expense.
Income from Continuing Operations. Income from continuing operations
increased by $221,136 or 138.4% from $159,742 in 1999 to $380,878 in 2000. This
was attributable to the overall increase in revenues accompanied by a decrease
in selling, general and administrative costs as a percentage of revenue and to a
lower provision for income taxes.
Discontinued Operations. Discontinued operations contributed a loss of
$1,972 in 1999. In 2000, there was no loss from discontinued operations
generated. The loss on disposal of discontinued operations, as a result of the
rescission of the IDS FAB acquisition generated a one-time loss of $481,085 in
1999.
Provision for income taxes. The change in the effective tax rate from 48.6%
in 1999 to 24.4% in 2000 was the result of over accrual in the estimated taxes
in 1999 which created lower tax expense in 2000.
Liquidity and Capital Resources
Historically, IDS has satisfied its cash requirements principally through
borrowings under its line of credit and through operations. As of June 30,
2001, IDS' cash position, including marketable securities, was sufficient to
meet its working capital requirements for at least the next 12 months. IDS has
no current plans to raise additional funds in the next 12 months. As of April
24, 2001, IDS renewed its line of credit loan with Frost National Bank in the
principal amount of $1,250,000. IDS had, as of June 30, 2001, $885,000 in
additional advances available under its line of credit with Frost. IDS' line of
credit bears interest at prime plus 0.500% per annum, is for a term of two years
and matures on April 24, 2003. The line of credit is secured by accounts
receivable, inventory and the personal guarantees of certain stockholders and
officers of IDS.
IDS' working capital was $3,419,522 and $3,187,454 at June 30, 2001 and
December 31, 2000, respectively.
IDS' liquidity has been and will be further impacted by expenses associated
with the proposed Petrocon merger which is the subject of this merger proxy.
IDS has incurred and will incur certain costs related to the merger including
legal, accounting and investment advisory fees, which it must pay even if the
merger does not close. Should the proposed merger take place, IDS' liquidity
will be further impacted by the costs associated with merging
64
the operations of the two companies, which include but are not limited to the
need to replace IDS' existing credit facility with a substantially larger
facility.
The merger agreement requires, as a condition of closing, that Petrocon
obtain a $15,000,000 revolving line of credit and that Petrocon deliver a
$3,000,000 promissory note to Equus II Incorporated, currently an investor in
and lender to Petrocon. While IDS believes that its existing resources,
together with its cash flow following the merger, will be sufficient to pay
these debts in accordance with their respective terms, there can be no assurance
that this will be the case.
Cash Flow. Operating activities used net cash totaling $210,041 for the
six months ended June 30, 2000 and generated $315,853 for the six months ended
June 30, 2001. This was due to the operating profit produced in the 2001
period.
Trade accounts receivable increased $351,285 since December 31, 2000 due to
the increase in revenues during the six months ended June 30, 2001. Inventory
decreased by $51,657 for the same period.
Investing activities used cash totaling $254,246 for the six months ended
June 30, 2000 and used cash totaling $202,263 for the same period in 2001. The
cash used during the 2001 period was used for the purchase of fixed assets.
As of June 30, 2001, IDS had a portfolio of bonds, which had a fair market
value of $400,000. IDS plans to sell these bonds to pay expenses incurred in
connection with the merger.
Financing activities used cash totaling $33,276 for the six months ended
June 30, 2001, which was used for repayment on the line of credit, repayment on
the term note for Thermal's facilities and for equipment lease payments. IDS
has additional financing amounts of $885,000 available on its line of credit at
June 30, 2001. The line of credit has been used principally to finance accounts
receivable and inventory purchases.
Asset Management. IDS' cash flow from operations has been affected
primarily by the timing of its collection of trade accounts receivable. IDS
typically sells its products and services on short-term credit terms and seeks
to minimize its credit risk by performing credit checks and conducting its own
collection efforts. IDS had trade accounts receivable of $3,907,218 and
$2,431,932 at June 30, 2001 and 2000, respectively. The increase in accounts
receivable was the result of an increase in revenue and to the billing terms
related to several sizable lump-sum projects. The number of days' sales
outstanding in trade accounts receivable was 61 days at June 30, 2001 and 67
days at June 30, 2000. Bad debt expenses have been insignificant for each of
these periods.
Acquisition Activities
On April 3, 2001, IDS and Petrocon entered into a letter of intent
agreement to merge the two companies. The transaction will create a larger,
more diversified middle market engineering company. Following the merger, IDS'
growth strategy will be concentrated on internal growth with the potential of
acquisition of businesses in its core operating areas of Texas, Louisiana and
Oklahoma.
2000 Acquisitions. Although various acquisition candidates were evaluated
2000, no material asset acquisitions were made during that time period.
1999 Acquisitions. Although various acquisition candidates were evaluated
1999, no material asset acquisitions were made during that time period.
1998 Acquisitions. In 1998, IDS acquired all of the stock of Constant
Power Manufacturing, Inc. (CPM), a Texas corporation formed in June 1989. The
acquisition was consummated in exchange for $200,000 cash and 300,000 shares of
IDS' common stock. CPM's previous owner, Jack Ripley, currently serves CPM as
an independent regional sales representative.
In November 1998, IDS acquired MLC Enterprises, Inc., a Texas corporation
formed in August 1995, doing business as Marine and Industrial Fire & Safety and
Marine and Industrial Supply Company. This transaction
65
was rescinded effective October 28, 1999 as the result of a final settlement
agreement entered into by IDS and the former principal of MLC. As a result of
the settlement agreement, all claims of the parties, including counter-claims
and third-party claims made by IDS, have been dismissed.
Accounting Pronouncements
In June 1998, SAFS No. 133, "Accounting for Derivative Instruments and
Hedging Activities," was issued. SFAS No. 133 establishes accounting and
reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts (collectively referred to as
derivatives), and for hedging activities. It requires that an entity recognize
all derivatives as either assets or liabilities in the balance sheets and
measure those instruments at fair value. If certain conditions are met, a
derivative may be specifically designated as (a) a hedge of the exposure to
changes in the fair value of a recognized asset or liability or an unrecognized
firm commitment, (b) a hedge of the exposure to variable cash flows of a
forecasted transaction or (c) a hedge of the foreign currency exposure of a net
investment in a foreign operation, an unrecognized firm commitment, an
available-for-sale security or a foreign currency-denominated forecasted
transaction. The accounting for changes in the fair value of a derivative
(i.e., gains or losses) depends on the intended use of the derivative and the
resulting designation. SFAS No. 133 is effective for all fiscal quarters of
fiscal years beginning after June 15, 2000. The adoption of this statement did
not have a material impact on the consolidated financial position or results of
operations of IDS.
On December 8, 1999, the United States Securities and Exchange Commission
staff released Staff Accounting Bulletin (SAB) No. 101, "Revenue Recognition,"
to provide guidance on the recognition, presentation and disclosure of revenue
in financial statements. IDS reviewed its revenue recognition procedures and is
satisfied that it is in compliance with SAB No. 101.
In June 2001, SFAS No. 141, "Business Combinations" was issued. SFAS No.
141 eliminates the pooling-of-interest method of accounting for business
combinations and establishes the purchase method as the only acceptable method
effective beginning June 30, 2001. Management has reviewed the statement and
does not believe it will have a material impact on the financial position or
results of operations of IDS.
In June 2001, SFAS No. 142, "Goodwill and Other Intangibles" was issued.
SFAS No. 142 changes the treatment of goodwill by no longer amortizing goodwill,
and instead requiring, at least annually, an assessment by applying a fair-value
based test. However, other identifiable assets are to be separately recognized
and amortized. The statement is effective for fiscal years beginning after
December 15, 2001. Management is currently studying the effect of the adoption
of this statement on the operations of IDS.
66
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS OF PETROCON
General
Petrocon Engineering, Inc., along with its subsidiaries, is a multi-
disciplined engineering company with four domestic offices providing services to
a wide array of industrial, commercial and institutional clients throughout the
United States, primarily in the refining, petrochemical and pipeline industries.
Petrocon's diverse expertise enables it to offer its clients a broad range of
design and engineering solutions extending from project inception through
completion. Petrocon operates in three principal segments: engineering
services, engineered systems and field services. Petrocon's engineering
services encompass multiple aspects of the chemical, mechanical, instrument,
civil/structural, electrical and environmental engineering and design
disciplines, providing its clients with a single source for most of their
design, engineering and procurement needs. Petrocon has designed and engineered
facilities ranging from refineries, petrochemical plants, oil and gas production
facilities and separation plants, pipelines, pulp and paper processing plants,
and wastewater treatment facilities to laboratories, light manufacturing
facilities and buildings. In addition to multi-disciplined engineering,
Petrocon provides instrumentation and distributed controls system integration.
Similar services are provided through subsidiaries Petrocon Engineering of
Louisiana, Inc. located in Lake Charles, Louisiana, and RPM Engineering, Inc.,
located in Baton Rouge, Louisiana.
Petrocon provides engineered systems through Petrocon Systems, Inc., a
subsidiary with offices in Beaumont and Houston, Texas, which designs and
assembles instrumentation systems and provides consulting services for advanced
controls and integration of computer systems. Petrocon provides field services
through Petrocon Engineering and three subsidiaries, RPM Engineering, Inc.,
Triangle Engineers & Constructors, Inc., a multi-disciplined engineering firm
focused on outsourcing technical personnel for work at client facilities, and
Petrocon Construction Resources, Inc., which specializes in inspection services,
construction management, high-tech maintenance and outsourcing of construction
supervisory level personnel.
In the past five years, Petrocon has been involved in projects in 25 states
and over 11 countries worldwide generating over $68,000,000 in revenues in 2000.
The demand for Petrocon's services has been due to, among other reasons: (i) the
outsourcing of engineering functions as a result of reduced in-house engineering
staffs, (ii) rapid technological advancements in construction, manufacturing and
processing operations, and (iii) changes in scope of governmental, and
particularly environmental, regulations.
In 1988, M. L. Burrow formed Petrocon Engineering, Inc. with nine other key
shareholders. The company grew from 10 to 150 people in eight months. In
December 1988, Petrocon acquired the assets of Austin Industrial's Houston and
Beaumont engineering segments. Along with assets, Petrocon obtained over 100
technical personnel plus many new contracts. By the end of its first year,
Petrocon had over 250 employees.
Petrocon grew rapidly during 1989 and 1990 through a combination of
improved market conditions, acquisitions and reputation. Petrocon benefited
from the large capital expansion projects initiated throughout the industries in
the Beaumont, Texas area. Since its inception, Petrocon has made 14 business
acquisitions which added 600 associates, enlarged its customer base and created
a critical mass in the instrument/electrical specialty groups. The more
significant acquisitions are listed below.
67
Significant Acquisitions and Divestitures
Year Year Revenues(1)
Company Acquired Acquired Divested (in millions) Description
---------------- -------- -------- -------------- -----------
Engineering Segment of 1988 $ 6.5 Multi-disciplined engineering services to the process
Austin Industrial, Inc. industries in the Texas and Louisiana Gulf Coast area
DLH Associates 1991 $ 2.5/(2)(5)/ Instrumentation & programmable logic control systems
Coastal Technical Corp. 1991 $ 8.0 Technical personnel outsourcing
Eagleton Saudi Arabia/(3)/ 1992 2000/(6)/ $ 12.0(4) Engineering services to the petroleum industry in the
Middle East
Triangle Engineering & 1996 $ 7.5 Multi-disciplined services to the petroleum and
Constructors, Inc. chemical industries in the Gulf Coast area
RPM/Barnard & Burke 1996 $ 19.0 Services to the oil and gas industry in the Mississippi
River corridor of Louisiana
Alliance Engineering Inc. 1997 2000/(7)/ $ 14.0 Process design serving the oil and gas industry, with
subsea structural design specialty
(1) Represents unaudited revenues for the fiscal year immediately preceding the
year acquired.
(2) Petrocon discontinued the retail portion of the business accounting for
$1,300,000 in annual sales.
(3) Acquisition of a 50% interest in what became Petrocon Arabia Limited.
(4) Represents 100% of Petrocon Arabia's revenues. No Petrocon Arabia revenues
are included in Petrocon's revenues because it used the equity method to
account for its 50% interest in Petrocon Arabia.
(5) DLH Associates, together with another acquired company and Petrocon
personnel, were combined to form Petrocon Systems, Inc. in 1992.
(6) Sold to Petrocon's former Saudi partner and his daughter effective January
2000.
(7) Sold to The Wood Group effective January 2000.
With these acquisitions, together with internal growth (net of divestitures and
discontinued operations), Petrocon increased its net revenues from $4,000,000
for its first year of operations to $68,300,000 in 2000.
As a result of the critical mass and geographical diversification achieved
through its acquisitions, Petrocon was awarded several alliance agreements with
major customers, including ExxonMobil, Olin Chemical, Arch Chemicals, Basell,
BASF, Motiva, Air Liquide, Enterprise Products, Huntsman Chemical, Sid
Richardson, Honeywell and Coastal Eagle Point Oil Company. Most of these
contracts range in duration from three to five years. The work is cost-plus in
nature with some projects based on incentive fees. As of August 1, 2001,
Petrocon had over 440 associates working at client facilities. For the year
ended December 31, 2000, over 50% of Petrocon's annual revenues were
attributable to these strategic alliance agreements and Petrocon's employee
outsourcing.
In July 1997, Petrocon was awarded a lump sum, design and construct project
for a distributive control systems modernization for a large refinery in Saudi
Arabia with McConnell-Dowell of Australia as a joint venture partner. After
several months of work, the project scope was significantly increased while the
client delayed actions on funding the work. Eventually, Petrocon was forced to
stop work on the project due to lack of funding. Subsequently, McConnell-
Dowell, with Petrocon's assistance, completed the work. Petrocon received
revenues of approximately $9,100,000 for the contract, but incurred net job
losses of $3,100,000 in 1998 and $6,100,000 in 1999. After incurring the losses
on the Saudi Arabian refinery, Petrocon sold two operating subsidiaries, which
resulted in nonrecurring losses of approximately $2,832,000 in 1999. Total
operating losses of approximately $9,403,000 were incurred for the fiscal year
ending December 31, 1999, and approximately $688,000 of operating losses were
incurred for the first fiscal quarter of 2000. The chief executive officer and
chief financial officer for Petrocon were both replaced in the second fiscal
quarter of 2000 by the current chief executive officer and current chief
financial officer. Petrocon earned an operating profit of approximately
$134,000 in the second fiscal quarter of 2000 and has earned an operating profit
in each fiscal quarter thereafter. Petrocon has implemented additional risk
68
management procedures which are expected to reduce the likelihood it will incur
losses as a result of contracts similar to the Saudi Arabian refinery project in
the future.
Results of Operations
The following table sets forth selected items of the results of operations.
Six Months Ended
June 30, Years Ended December 31,
------------------ ----------------------------------------------------
2001 2000 2000 1999 1998 1997 1996
------- ------- ------- -------- -------- ------- -------
(in thousands)
Engineering services $13,371 $13,446 $26,185 $ 37,757 $ 54,835 $85,949 $57,008
Engineered systems 4,501 4,456 10,431 12,026 9,030 6,667 4,842
Field services 16,446 15,142 31,728 31,212 37,036 - -
------- ------- ------- -------- -------- ------- -------
Total revenues 34,318 33,044 68,344 80,995 100,901 92,616 61,850
Engineering services 10,751 11,240 20,948 37,580 45,081 66,976 45,909
Engineered systems 3,244 3,197 7,896 8,767 6,687 4,717 3,342
Field services 14,047 12,922 27,088 26,896 30,990 - -
------- ------- ------- -------- -------- ------- -------
Total cost of sales 28,042 27,359 55,932 73,243 82,758 71,693 49,251
Engineering services 2,620 2,206 5,237 177 9,754 18,973 11,099
Engineered systems 1,257 1,259 2,535 3,259 2,343 1,950 1,500
Field services 2,399 2,220 4,640 4,316 6,046 - -
------- ------- ------- -------- -------- ------- -------
Total gross profit 6,276 5,685 12,412 7,752 18,143 20,923 12,599
Cost associated with
merger 339 0 0 0 0 0 0
Estimated loss on
assets held for sale 0 0 0 732 0 0 0
Costs associated
with failed equity
offering 0 0 0 0 3,754 0 0
General and
administrative
expenses 5,270 5,219 10,194 16,938 17,261 15,316 9,577
------- ------- ------- -------- -------- ------- -------
Operating income (loss) 667 466 2,218 (9,918) (2,872) 5,607 3,022
Interest expense (1,005) (1,041) (2,073) (2,201) (1,655) (1,569) (592)
Other income 17 21 57 (2,937) (130) 291 85
(expense), net ------- ------- ------- -------- -------- ------- -------
Income (loss) before
income taxes and
extraordinary items (321) (554) 202 (15,056) (4,657) 4,329 2,515
Income tax provision
(benefit) 9 (95) 43 (129) (284) 1,574 1,050
------- ------- ------- -------- -------- ------- -------
Income (loss) before
extraordinary items (330) (459) 159 (14,927) (4,373) 2,755 1,465
Extraordinary items
(net of tax) 0 0 0 (153) 0 0 0
------- ------- ------- -------- -------- ------- -------
Net income (loss) $ (330) $ (459) $ 159 $(15,080) $ (4,373) $ 2,755 $ 1,465
======= ======= ======= ======== ======== ======= =======
Six months ended June 30, 2001 compared to six months ended June 30, 2000.
Revenues for the six months ended June 30, 2001 increased 3.9% to $34.3
million from the six months ended June 30, 2000. The sale of AEI reduced the
revenues in the Engineering Services segment by $1.2 million. This decrease was
offset by general economic improvements in the Gulf Coast Region. During the
first quarter of 2000, a major client was slow to release a 2000 capital budget
and purchase orders for capital projects after recently undergoing a merger
which negatively impacted 2000 sales. In 2001, the economy of the petrochemical
industry
69
has improved somewhat in the region. Field Services improved revenues
over the same six month period ended June 30, 2000 by 8.6% or $1.3 million due
primarily to the inspection group's increased turnaround maintenance work.
The gross profit improved $0.6 million or 10.4% up to $6.3 million in the
first six months of 2001 compared to the first six months of 2000. This
improvement is primarily attributable to the Engineering Services segment, in
which Petrocon was able to obtain more favorable pricing terms with existing
clients resulting in better margins of $0.4 million or 18.8% over the same
period in 2000. The Engineered Systems segment gross profits remained at the
same level during the first six months of 2001 as compared to the same period in
2000. The Field Services gross profits increased $0.2 million or 8.0% due to
the increased activity in the inspection group.
Petrocon accrued legal and accounting costs associated with the pending
merger with IDS. No such expense occurred in 2000.
General and administrative expenses increased $0.1 million from $5.2
million for the first six months of 2000 to $5.3 million for the first six
months of 2001. This increase was due primarily to the new office opened for
the Engineered Systems segment in Houston during August 2000.
Operating income for the first six months of 2001 as a percentage of
revenue increased from 1.4% to 1.9% as compared to the first six months of 2000,
due primarily to Petrocon's ability to obtain more favorable pricing terms with
existing clients and the general improved economic conditions of the Gulf Coast
region. Without the effect of the merger related costs, the operating income
would have been 2.9% of revenues for the first six months of 2001.
Petrocon's income tax provision (benefit) for the first six months of 2001
increased from a benefit of $94,414 in 2000 caused by a loss before taxes of
$553,759 to a provision for $9,574 which represents the estimated state income
tax on the Engineered Systems segment.
Net loss for the six months ended June 30, 2001 decreased from $459,000 to
$330,000 as compared to the same period in 2000, due to the one-time charge for
merger related expenses partially offset by additional revenues in 2001.
Year Ended December 31, 2000 compared to Year Ended December 31, 1999.
Revenues for 2000 decreased from 1999 by $12.7 million or (15.6)%. The
decrease in the Engineering Services segment was primarily due to the sale of
AEI which contributed $10.1 million to revenues in 1999 and, also, a general
downturn in the petrochemical industry along the Gulf Coast Region. The
Engineered Systems segment revenues decreased by $1.6 million or (13.3)% due to
a general economic downturn. These decreases were partially offset by the Field
Services segment, which experienced modest increases of $0.5 million. Toward
the latter half of 2000, this segment expanded the inspection segment to take
advantage of the routine periodic maintenance at petrochemical plants scheduled
for the later part of 2000 and early 2001.
Gross profits increased by 60.1% during 2000 to $12.4 million. The 1999
gross profits were reduced by the loss taken on a fixed price job in the
Engineering Services segment. Gross profit increased by $5.0 million in 2000 as
compared to 1999 because no comparable loss occurred during 2000. The
Engineered Systems segment gross profits declined by 22.2% or $0.7 million due
to general market conditions. Although the general economy was down during 2000
in the petrochemical industry, Petrocon was able to reduce the workforce and
implement other cost saving measures during 2000. The Field Services segment
increased the gross profit by $0.3 million or 7.5% for the year ended December
31, 2000 as compared to 1999, due to the rising level of inspection activities
at the petrochemical plants.
Management elected to sell the assets of AEI to The Wood Group. Petrocon
recognized a loss on the sale of AEI of $0.7 million in 1999. No such loss
occurred in 2000.
General and administrative expenses decreased by 39.8% or $6.7 million to
$10.2 million during 2000. The reduction of selling, general and administrative
expenses resulting from the sale of AEI in January 2000 was $3.0 million as
compared to 1999. Other reductions in overhead items included the work force
reduction during
70
rent expense by $0.3 million. Additionally, depreciation expense decreased $0.6
million due to assets being fully depreciated. In 1999, Petrocon recorded an
impairment loss on an internally created computer program for $0.3 million and a
payment for $0.2 million to a former employee.
Operating income increased $12.1 million for 2000 as compared to 1999. The
increase was due to the loss recorded during 1999 of $6.1 million on a fixed
price job, work force reduction efforts saving $3.0 million and losses accrued
during 1999.
Interest expense decreased from $2.2 million in 1999 to $2.1 million in
2000 due in part to the payment on Petrocon's term note to Fleet Capital
Corporation, which was partially offset by the accrued interest on the Equus'
notes and the notes to shareholders.
During the year ended December 31, 1999, Petrocon decided to sell its 50%
ownership of Petrocon Arabia. Petrocon recorded a one time impairment loss of
$2.1 million for the carrying value of the investment in Petrocon Arabia plus
the loss on operations of Petrocon Arabia of $0.7 million.
The provision for income taxes for 2000 increased by $0.2 million due
primarily to the loss occurring in 1999 improving in 2000 to income.
An extraordinary item early extinguishment of debt was incurred during 1999
when the debt with Heller Financial, Inc. was replaced with new debt with Fleet
Capital Corporation.
Year Ended December 31, 1999 compared to Year Ended December 31, 1998.
Revenues for 1999 as compared to 1998 were lower by $19.9 million or 19.7%.
The Engineering Services segment experienced a decrease of $17.0 million during
1999 caused in part by a reduction of revenue on a major fixed price job of $6.1
million from the amount previously recognized and a downturn in the market for
up-stream oil and pipeline work. AEI was engaged in the upstream engineering
design and project services in the oil and pipeline industry. AEI's revenues
decreased $8.7 million or 43% in 1999 as compared to 1998. A general slowdown
in the rest of the petrochemical industry along the Gulf Coast region affected
the Engineering Services segment negatively by reducing revenues in 1999. The
Engineered Systems segment increased revenues 33.3% by $3.0 million resulting
from a significant client's capital improvement program. The Field Services
revenues during 1999 were lower than revenues in 1998 by $5.8 million or 15.7%
primarily due to the economic conditions in the petrochemical industry in the
Gulf Coast region.
Gross profits decreased 57.3% from $18.1 million or 18.0% of revenues to
$7.8 million or 9.7% of revenues due to the general market conditions and losses
on a fixed price job. The Engineering Services segment loss of $9.6 million or
98.1% was due to the losses on the fixed price job and the general downturn in
the market. Increases in the Engineered Systems segment of $0.9 million or
39.1% was due to a significant client's capital improvement program. Field
Services gross profit declined by 28.6% or $1.7 million due to the general
market conditions.
With the decision to sell the assets of AEI in 1999, an accrual for the
estimated loss was recorded. No such loss occurred in 1998.
A non-recurring charge of $3.8 million for costs associated with the failed
equity offering was recorded in 1998. No similar loss occurred in 1999.
General and administrative expenses decreased in 1999 as compared to 1998
by $0.3 million. This decrease is net of the reserves established in 1999 for
litigation and claims of approximately $0.9 million. Petrocon is involved in
legal actions arising in the ordinary course of business. Certain of these
claims involve lawsuits for contractual performance which Petrocon has accrued
management's estimate of the uninsured losses. Additionally, the selling,
general and administrative expenses for AEI were at $3.2 million in 1999
compared to $3.4 million in 1998.
The 1999 loss from operations of $9.9 million as compared to the operating
loss of $2.9 million for 1998 was primarily due to the matters described
above.
71
Interest expense increased by $0.5 million or 33% to $2.2 million during
1999 as compared to $1.7 million during 1998 primarily due to the additional
debt assumed when OEI merged with Petrocon in March 1999.
A non-recurring loss on the sale of the 50% ownership in Petrocon Arabia
for $2.1 million was accrued in 1999. Petrocon's investment was written down to
the estimated net realizable value resulting from the sale of Petrocon Arabia
effective January 1, 2000. This loss, together with Petrocon Arabia's
operational loss recorded for 1999 of $0.7 million, compares with the loss on
operations of Petrocon Arabia during 1998 of $0.2 million.
The income tax benefit for 1998 was $0.3 million. This compares to the
income tax benefit for 1999 of $0.1 million on a $15.1 million loss. The
reduced benefit was the result of a valuation allowance for all net operating
loss carryforwards.
Loss before extraordinary items increased $10.5 million from $4.3 million
in 1998 to $14.9 million in 1999. This loss is primarily the result of matters
described above.
Liquidity And Capital Resources
As of December 31, 2000, Petrocon had working capital of $2.0 million. In
addition, Petrocon had long-term debt outstanding of $18.1 million. Listed
below is an amortization schedule. Under the terms and conditions of its senior
credit facility, Petrocon had a borrowing capacity of approximately $4.1 million
after consideration of the borrowing base limitations.
Maturities of long-term debt (in thousands) are as follows:
2001 $2,216
2002 $4,889
2003 $1,985
2004 $5,900
2005 $ -
Thereafter $3,070
Petrocon has obligations under non-cancelable operating leases for certain
equipment and office space expiring in various years through 2003. Minimum
annual rental commitments at December 31, 2000 (in thousands) are:
2001 $943
2002 $475
2003 $259
2004 $183
Thereafter $ -
Petrocon has a three-year revolving credit facility with Fleet Capital
Corporation which is senior to all other debt and includes a line of credit that
is limited to $15 million, subject to borrowing base restrictions. This
agreement also includes a term loan in the amount of $5.0 million. The line of
credit is collateralized by trade accounts receivable and substantially all of
the other assets of Petrocon and its subsidiaries. Petrocon's financial
covenants under the senior credit facility are based on monthly senior debt to
EBITDA, cumulative fixed charge ratio, cost in excess of billings maximum
amount, and average monthly availability minimum amount. At June 30, 2001, $5.4
million was outstanding on the line of credit and $0.9 million was outstanding
on the term loan. At December 31, 2000, $3.8 million was outstanding on the
line of credit and $1.2 million was outstanding on the term loan. Both the line
of credit and the term loan mature on June 14, 2002. The interest rate on the
line of credit is one-half of one percent plus prime (10.0 percent at December
31, 2000), and the commitment fee on the unused line of credit is 0.375 percent.
The interest rate on the term loan is three-quarters of one percent plus prime.
Monthly principal payments on the term loan plus interest commenced July 1, 1999
and continues until maturity. The remaining borrowings available under the line
of credit as of December 31, 2000 were $4.1 million after
72
consideration of the borrowing base limitations.
Petrocon has a promissory note with Equus II with a balance at June 30,
2001 and December 31, 2000, respectively, of $6.1 million and $5.8 million which
bears interest at 12% per annum. Interest may be paid in kind at the option of
Petrocon. The accrued interest on the promissory note must be paid quarterly
beginning March 2003 until the note matures in 2004. The principal must be paid
in five quarterly installments beginning on the fourth anniversary of the
issuance of the note.
Petrocon has a Series B junior subordinated promissory note with Equus II
with a balance of $3.2 million and $3.1 million at June 30, 2001 and December
31, 2000, respectively. This note bears interest at 8% per annum. The interest
may be paid in kind at the option of Petrocon. The principal and accrued
interest are due in March 2006 and, at Equus' option, may be converted to
Petrocon common stock at $5.00 per share at any time after maturity. Both of
the Equus notes are subordinate to the Fleet credit facility.
Certain shareholders of Petrocon hold Petrocon's Series A junior
subordinated promissory notes along with warrants to acquire 147,615 shares of
Petrocon common stock at $0.01 per share, exercisable at any time through
January 2009. Interest on the shareholders' notes is 14% per annum and may be
paid in kind at the option of Petrocon. The balance on the shareholders' notes
at June 30, 2001 and December 31, 2000, was $1.8 million and $1.7 million,
respectively.
Petrocon used $0.5 million in cash from operating activities during the
first six months of 2001. During 2000, Petrocon generated cash from operating
activities of $2.6 million. Petrocon had working capital from operations of
$2.0 million in 2000 as compared to a working capital deficit of $2.4 million in
1999, primarily due to reserves for legal contingencies and losses on its fixed
price contracts, the sale of AEI and its interest in Petrocon Arabia during
1999.
Petrocon had capital expenditures of approximately $0.2 million and $0.3
million during the first six months of 2001 and the year ended December 31,
2000, respectively, as compared to $0.4 million in 1999. Capital expenditures
are generally for computer equipment and software.
Petrocon's credit facility with Fleet Capital Corporation contains
covenants which require the maintenance of certain ratios, including cumulative
fixed charge coverage and specified levels of certain other items including
average borrowing availability and various other covenants. At December 31,
1999, and thereafter, Petrocon was out of compliance with certain of these
covenants. Petrocon obtained an agreement with Fleet whereby Fleet agreed not
to call the amounts borrowed pursuant to the credit facility through April 30,
2001, due to Petrocon's noncompliance with financial covenants, provided that
Petrocon comply with certain amended financial covenants through April 30, 2001.
On May 14, 2001, Fleet and Petrocon amended the credit facility providing
the following: (a) the maturity date of the line of credit and the term loan
was changed to June 14, 2002; (b) Fleet waived all covenant violations which
occurred prior to this amendment; and (c) the original financing covenants are
reinstated except for a more stringent fixed charge coverage ratio. Petrocon
must meet all financial covenants through the maturity date of the credit
facility. Petrocon is in compliance with its financial loan covenants as of
June 30, 2001. On October 17, 2001, the Company received written concurrence
from Fleet to modify the coverage calculation to exclude certain costs
attributable either directly or indirectly to the pending merger with IDS,
including the costs of settling certain litigation. Management projects that it
will remain in compliance with these covenants through December 31, 2001,
although no assurances can be given that this will be the case.
Petrocon has taken the following actions to improve its liquidity:
73
. Petrocon initiated steps to reduce its cost structure, including making
reductions to its overhead work force in 2000.
. In June 2000, Petrocon restructured approximately $1.4 million of current
payables at December 31, 1999 to vendors on the fixed price project into
notes payable whereby Petrocon paid $0.3 million in July 2000 and agreed to
pay $1.1 million ratably over a 24-month period. Accordingly, as of December
31, 1999, $1.4 million of accounts payable have been reclassified to long-
term debt, net of current portion.
. Effective January 26, 2000, Petrocon sold the assets of AEI to The Wood Group
in exchange for $6.2 million and the retention of certain liabilities of AEI
by Petrocon. The net proceeds of this sale were used to reduce Petrocon's
current liabilities by $3.7 million. The resulting estimated financial
statement loss of $0.7 million, which includes estimated state income tax
payable, was recognized in 1999.
Management believes that these steps, together with future cash flows
generated by operations, will allow Petrocon to meet its obligations as they
come due through 2001. However, there can be no assurance Petrocon will
generate sufficient liquidity to meet its obligations as they become due.
Seasonality
Petrocon historically has experienced quarterly fluctuations in revenues,
operating income and cash flows. Holidays and vacations during Petrocon's
fourth quarter exert downward pressure on its revenues for that quarter. Delays
in expenditures often occur during the first quarter until completion of
Petrocon's clients annual budgeting process. In addition, being principally a
cost plus contractor, the impact of the tax payments during the first calendar
quarter for federal and state unemployment more significantly affects the
operating income than in the other calendar quarters. Petrocon's revenues,
operating income and cash flow are often, but not always, greater during the
second and third quarters as compared to the other two quarters.
Accounting Pronouncements
In June 1998, SFAS No. 133, "Accounting for Derivative Instruments and
Hedging Activities," was issued. SFAS No. 133 establishes accounting and
reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts (collectively referred to as
derivatives), and for hedging activities. It requires that an entity recognize
all derivatives as either assets or liabilities in the balance sheets and
measure those instruments at fair value. If certain conditions are met, a
derivative may be specifically designated as (a) a hedge of the exposure to
changes in the fair value of a recognized asset or liability or an unrecognized
firm commitment, (b) a hedge of the exposure to variable cash flows of a
forecasted transaction or (c) a hedge of the foreign currency exposure of a net
investment in a foreign operation, an unrecognized firm commitment, an
available-for-sale security or a foreign currency-denominated forecasted
transaction. The accounting for changes in the fair value of a derivative
(i.e., gains or losses) depends on the intended use of the derivative and the
resulting designation. SFAS No. 133 is effective for all fiscal quarters of
fiscal years beginning after June 15, 2000. The adoption of this statement did
not have a material impact on the consolidated financial position or results of
operations of Petrocon.
On December 8, 1999, the United States Securities and Exchange Commission
staff released Staff Accounting Bulletin (SAB) No. 101, "Revenue Recognition,"
to provide guidance on the recognition, presentation and disclosure of revenue
in financial statements. Petrocon reviewed its revenue recognition procedures
and is satisfied that it is in compliance with SAB No. 101.
In June 2001, SFAS No. 141, "Business Combinations" was issued. SFAS No.
141 eliminates the pooling-of-interest method of accounting for business
combinations and establishes the purchase method as the only acceptable method
effective beginning June 30, 2001. Management has reviewed the statement and
does not believe it will have a material impact on the financial position or
results of operations of Petrocon.
In June 2001, SFAS No. 142, "Goodwill and Other Intangibles" was issued.
SFAS No. 142 changes the treatment of goodwill by no longer amortizing goodwill,
and instead requiring, at least annually, an assessment by applying a fair-value
based test. However, other identifiable assets are to be separately recognized
and amortized. The statement is effective for fiscal years beginning after
December 15, 2001. Management is currently studying the effect of the adoption
of this statement on the operations of Petrocon.
Recent Developments
The Company was party to a lawsuit wherein certain former employees
asserted that the Company among other things, was in breach of contracts with
them. The lawsuit was settled in September 2001, and the Company agreed to pay
approximately $453,000 to such employees. The settlement will be expensed
and accrued in the quarter ended September 30, 2001.
In October 2001, the Company reached a tentative settlement agreement as a
result of mediation with certain executive officers whose employment was
terminated in 2000. This settlement is subject to the approval of Fleet. The
settlement stipulates that the Company will pay $775,000 including the purchase
of 288,565 shares of stock at $0.79 per share by another Petrocon shareholder
and the repayment of an outstanding note payable by Petrocon of approximately
$73,000. The remaining portion will be paid in 24 equal monthly installments
with the balance of $175,000 due on the 25/th/ month. As of June 30, 2001, the
Company had accrued $210,000 related to this matter, and management estimates
the tentative settlement will result in an additional accrual of $200,000
which will be recorded as an expense subsequent to June 30, 2001. See "Business
of Petrocon - Litigation and Other Legal Proceedings."
On October 17, 2001, the Company received written concurrence from Fleet to
modify the coverage calculation to exclude certain costs attributable either
directly or indirectly to the pending merger with IDS, including the costs of
settling certain litigation.
74
BUSINESS OF IDS
General
IDS was incorporated in the State of Nevada in June 1994. IDS' common
stock trades on the American Stock Exchange under the symbol "IDS." Prior to
June 16, 1998, IDS' common stock was traded on the NASDAQ Electronic Bulletin
Board under the symbol "IDDS."
IDS has never filed for protection under the bankruptcy protection act, nor
has IDS or any of its assets been in receivership or any other similar
proceedings.
IDS' revenue is derived from its wholly owned operating subsidiaries: IDS
Engineering, Inc., Thermaire, Inc. dba Thermal Corp., and Constant Power
Manufacturing, Inc.
IDS Engineering, Inc.
On October 15, 1997 the consulting engineering segment of IDS, formerly
known as Industrial Data Systems, Inc. doing business as IDS Engineering, was
incorporated in the State of Texas and now operates as IDS Engineering, Inc.
(IED). IED issued all of its 1,000 shares of common stock to IDS.
IDS' Engineering segment generates revenues by providing engineering
consulting services to the pipeline and process divisions of major integrated
oil and gas companies. These services include the development, management and
turnkey execution of engineering projects, and accounted for 63% of total IDS
revenues in 2000.
In February 1999, IED established a business development office in Tulsa,
Oklahoma to pursue turnkey engineering, procurement and construction projects.
In 2000, this office was expanded to include a full engineering and drafting
operation. IED also continues to do business at its headquarters in Houston.
Thermaire, Inc. dba Thermal Corp
IDS acquired Thermaire, Inc. dba Thermal Corp. (Thermal) on February 14,
1997 for 193,719 shares of common stock and $212,563 in cash. In connection
with this transaction, Thermal purchased its previously leased facilities on
February 28, 1997 for a cash consideration of $500,000, subject to the
completion of the contingent purchase transaction. Bank financing in the amount
of $450,000 was obtained for the purpose of purchasing these facilities. See
Notes to Financial Statements for debt remaining under this bank financing.
Thermal, the air handling segment, fabricates air handling equipment for
commercial heating ventilation and cooling systems and is responsible for
approximately 20% of IDS' revenues.
Constant Power Manufacturing, Inc.
On February 19, 1998, IDS signed a letter of intent to acquire Constant
Power Manufacturing, Inc. (CPM), a Texas corporation formed in June 1989. The
acquisition was consummated on March 25, 1998 with the exchange of $200,000 cash
and 300,000 shares of IDS' common stock for 100% of CPM's shares. CPM's
previous owner, Jack Ripley, currently serves CPM as an independent regional
sales representative.
CPM, the manufacturing segment, manufactures industrial grade
uninterruptible electrical power systems and battery chargers and is responsible
for approximately 17% of IDS' revenues.
Industrial Data Systems, Inc.
Industrial Data Systems, Inc. (IDSI) was a provider of specialized
microprocessor systems targeted to be sold to the industrial market. As
reported in the Form 10-QSB for the quarter ended September 30, 2000, IDSI,
previously referred to as the products segment, represented approximately 2.5%
of IDS' revenues. Due to increased competition in the computer hardware market
and diminishing profit margins, management, in the fourth quarter, elected to
combine the operations of this segment with CPM's manufacturing operation.
Through CPM, IDSI will
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continue to receive and fill orders from existing customers, and service its
products but IDSI will no longer actively market these products.
IDS Fabricated Systems, Inc. dba Marine and Industrial Fire and Safety and dba
Marine and Industrial Supply Company
In November 1998, IDS acquired MLC Enterprises, Inc. (MLC), a Texas
corporation formed in August 1995, doing business as Marine and Industrial Fire
& Safety (MIFS) and Marine and Industrial Supply Company (MISC). IDS issued
50,000 shares of IDS' common stock for 100% of MLC's shares. Cash consideration
of $100,000 was paid to the previous principal as part of an employment
contract. Goodwill in the amount of $593,000 was generated as a result of the
acquisition. Subsequent to the acquisition, MLC's name was changed to IDS
Fabricated Systems, Inc. (IDS FAB). This transaction was rescinded effective
October 28, 1999 as the result of a final settlement agreement entered into by
IDS and the former principal of MLC. As a result of the settlement agreement,
all claims of the parties, including counter-claims and third-party claims made
by IDS have been dismissed.
Terms of the settlement included rescission of the previously executed
stock acquisition agreement of MLC and rescission of IDS' employment agreement
with the former principal. The settlement also called for the return of all
stock issued and exchanged pursuant to the stock acquisition agreement. As a
result, MLC (which had been renamed IDS Fabricated Systems, Inc.) is no longer a
subsidiary of IDS. The former principal has individually assumed all assets and
liabilities of MLC pursuant to the terms of the settlement agreement.
As a result of the settlement and due to the magnitude of previous write-
offs associated with the MLC acquisition, IDS recorded a one-time gain during
the fourth quarter ended December 31, 1999, since liabilities exceeded assets at
the date the rescission occurred. These amounts have all been netted and
reflected as discontinued operations on IDS' statement of operations for 1999.
Products and Services
IED
IED offers engineering consulting services primarily to the pipeline and
process industries for the development, management and turnkey execution of
engineering projects. IED also performs the execution of capital projects for
its clients on a full service, turnkey basis. IED's staff has the capability of
developing a project from the initial planning stages through detailed design
and construction management.
IED provides its services through blanket service contracts that typically
provide that IED will furnish engineering, procurement and project management
services for client companies on a time and materials basis. In 2000, IED was
successful in procuring a number of contracts which call for turnkey execution
of projects on a fixed price basis. The services provided include conceptual
studies, project definition, cost estimating, engineering design, and material
procurement, in addition to project and construction management. These services
are performed for major energy-related firms on facilities that include cross-
country pipelines, pipeline pump stations, gas compressor stations, metering
systems, product storage facilities, product loading terminals, gas processing
facilities, chemical plants, crude oil refineries and electric power generation
facilities.
IED offers its clients a wide range of services from a single source
provider. Engineering projects handled by IED involve either modifications to
existing facilities or as new construction. IED develops new client business
relationships utilizing in-house personnel.
The Advanced Controls division of IED was established in 2000 for the
purpose of providing specialized expertise to clients for the design and
implementation of their automation and control system requirements. IED
personnel offer comprehensive, turnkey services for the automation and control
of various industrial processes including but not limited to compressor
stations, material handling, data acquisition, position measuring, environmental
and safety monitoring, and factory automation. IDS personnel provide
feasibility studies, engineering, design, estimating, configuration and
programming, construction, commissioning, startup, troubleshooting, and
operation of control systems and have extensive experience in field operations
and maintenance.
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Thermal
Thermal has manufactured quality air handling equipment since 1945.
Because Thermal stocks a large number of fans and manufactures coils, dampers,
curbs and most other accessories, Thermal believes that it can achieve one of
the quickest deliveries available in the industry, usually six to eight weeks,
depending on order size and scope. Thermal also reserves production capacity to
accomplish premium, expedited deliveries of two to four weeks, when necessary.
Thermal is well known for its design and manufacturing expertise and
flexibility, which is often required to meet the special needs for custom
installations. Thermal's product lines consist of a variety of cooling, heating
and ventilating equipment. The wide range of sizes and models in each product
line coupled with Thermal's manufacturing flexibility provides vast freedom in
air handling equipment choice. Thermal's quality air handling products include
central plant air conditioners, multizone air conditioners, high pressure air
conditioners, and air cooled condensers. Thermal also manufactures fan coil
units, cooling and heating coils, and roof top air handlers. Popular custom
unit features include special modular construction, custom cabinet dimensions,
special insulation type and thickness, gas and electric heaters, humidifiers,
all types of fans, non-standard arrangements, motor and unit controls, unique
customer requirements, exotic materials of construction and severe service
applications, etc.
Thermal distributes its products exclusively through its United States and
international network of non-stocking sales representatives.
CPM
CPM is a 13-year-old company established in the industrial and commercial
backup and conditioned power systems marketplace. CPM designs, manufactures and
resells both standard and custom-designed products and systems in a wide array
of power ranges which include: battery chargers, battery monitoring systems, DC
power supplies, DC/AC inverters, uninterruptible power systems (UPS), power
conditioners, power distribution systems and solar photo-voltaic systems.
CPM provides field service support for installation and maintenance of
these products. Most of the products manufactured by CPM are made pursuant to
specifications required for a particular order. In mid-1999, CPM introduced a
new product line of switch-mode battery chargers. These chargers have been
readily accepted where physical size constraints and heat are design factors.
Refineries, petrochemical plants, utilities, offshore platforms and other
commercial, industrial and governmental facilities utilize the products sold by
CPM. CPM sells to industrial and commercial accounts across the United States.
During the fourth quarter 2000, the operations of IDSI were combined into
CPM. CPM will continue manufacturing and service of IDSI' specialized
industrial microcomputer systems to existing IDSI customers. This division of
CPM also provides systems integration and resells industrial microcomputers and
peripheral products. The microcomputer and peripheral products are designed to
be utilized in industrial applications, which include manufacturing, process
control, discrete manufacturing, data acquisition, telecommunications and man-
machine interfaces. These systems are typically designed with enclosures that
withstand tough environmental conditions or with enclosures that have a special
form factor which are based on the customer's specific parameters.
Product Development
IED
IED continues to provide engineering services primarily to the energy
industry as its core business. IED currently has approximately 24 blanket
service contracts in place which provide that IED furnish clients with service
on a time and materials basis and five fixed fee contracts for turnkey
services. IED's Tulsa, Oklahoma office, which opened in February 1999, has
facilitated the expansion of its market area. During 2000, IED continued to
grow geographically throughout the United States and into international markets.
IED continues to implement its plans to increase its range of engineering
capabilities and market its services to downstream industries such as the
refining, petrochemical and process industries.
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IED completed development of its standard meter skid package in 1999 and
began to market this package which is designed with modular, interchangeable
components that help to reduce project cost and execution times. Initial revenue
for this product has been generated in the second half of the year 2001.
Thermal
In 2000, Thermal installed the necessary equipment for the manufacturing of
industry compliant, 5/8" plate-fin coils. The addition of this plate-fin coil
production line has improved its competitive position in the marketplace by
reducing product costs and production time. A majority of Thermal's coil
requirements are now produced in-house. In 2001, Thermal may make additional
capital commitments for the replacement of a variety of older equipment used on
its production line.
CPM
In 2000, CPM introduced its USGS Intellicharger(TM) product line of
microprocessor controlled battery chargers which bring to the marketplace state-
of-the-art flexibility and features for the end user. The Intellicharger is now
included in the majority of battery charger units sold by CPM. CPM has seen
substantial cost savings in the manufacturing process during the initial six
months of production by reducing wiring labor by eight to ten hours per unit.
This reduction in cost has provided CPM the opportunity to enter new markets
that have historically been unavailable due to price competition.
IDS is currently not developing any new proprietary product designs.
Competition
IED
IED operates in a highly competitive environment with many other
organizations that are substantially larger and have greater financial and other
resources. IED competes with other consulting engineering companies on the
basis of price, performance, and its experience as a provider of quality
personnel to perform projects. The pricing competition of IED has intensified
as a result of an increase in temporary personnel contracting agencies who can
perform services at a higher volume level and lower profit margin. Because the
engineering business may require small amounts of capital, market entry can be
rather effortless for a potential new competitor possessing acceptable
professional qualifications. Therefore, IED competes with a wide array of both
national and regional specialty firms.
Thermal
Thermal operates in a highly competitive environment with many other
organizations that are substantially larger and have greater financial
resources. Management believes that the principal competitive factors in its
market include delivery time, flexibility and product design, breadth of product
features, product quality, customer service, and price. Thermal competes with
other air handling equipment manufacturers on the basis of quality, quick
delivery and capability to provide custom applications. Thermal is cost
competitive with many well-established manufacturers, such as Temtrol,
Governaire, Mammoth and Pace, and others. Thermal has distinguished itself by
being responsive to customer requests for custom products and is able to
expedite delivery of units faster than many other commercial manufacturers due
to the flexibility of its engineering and manufacturing facility capabilities.
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CPM
CPM is engaged in a highly competitive business that is characterized by a
small number of larger companies that dominate the bulk of the market, and a
large number of similarly sized companies that compete for a limited share of
the market. In the opinion of management, the competitive position of CPM has
been greatly enhanced by the introduction of its microprocessor controlled
battery charger product line, trademarked Intellicharger. This additional
product line, due to the cost savings and the absence of a similarly priced
product in the marketplace, has enabled CPM to better compete against its
competitors. Additionally, the Intellicharger product contains battery charging
technology which, management believes, is unique in the industry and has many
advantages over existing battery charging methods. The new Intellicharger
product has allowed CPM to enter markets that are more standardized in nature
and volume oriented.
Business Strategy
IED's strategy is to increase revenues by developing and marketing the
capability of performing full service turnkey or engineering, procurement and
construction (EPC) projects. IED has traditionally only been responsible for
the engineering portion of its projects, which is normally between five to
fifteen percent of the project's total installed cost. In the past, IED has
invoiced for its services largely on a time and materials basis with billing
rates that are specified in client generated blanket services contracts. During
the year 2000, IED saw a significant increase in the number of projects billed
on a fixed price basis.
In order to execute its strategy with respect to EPC projects, IED
continues to add staff with expertise in project proposal and bidding. While
executing this EPC strategy, IED has expanded its area of engineering expertise
beyond its traditional focus on the pipeline industry and continues to diversify
its client base.
In 2001, IED also plans to emphasize the services provided through its
newly established Advanced Controls division of IED. IED believes that the
Advanced Controls division will allow its IDS Engineering segment to leverage
its existing sales and marketing effort. It is expected that the result will be
additional revenues from projects that IED would not otherwise be involved in.
In addition, IED will have the opportunity to realize a larger revenue
percentage of projects on which IED is already performing the engineering and
design function. The controls function of any engineering project is very
critical and often determines project success or failure. The Advanced Controls
capability facilitates the execution of IED's plan to handle a larger portion of
projects on a fixed price turnkey basis. Performing the controls function in-
house will make the project interface easier, and should result in overall
improved project performance by IED.
Thermal continues to focus on establishing and supporting a qualified sales
representative network within the U.S., and exploiting its niche for custom
products. The addition of a plate-fin coil manufacturing line has helped reduce
product costs and production time, and has also generated additional revenues
from increased sales of replacement coils.
Management does not believe that CPM made significant progress in the
signing of new sales representatives or in its marketing strategy in 2000.
Because of this, management has added in-house personnel in 2001 whose primary
responsibility will be to increase quotation capabilities and work to expand the
sales and marketing effort of CPM. CPM has strategically placed advertising for
its batteries, battery chargers, and UPS systems in a well-known product
catalogue. CPM plans to continue these advertisements through the year
2002.
IDS continues to pursue potential acquisitions of complementary businesses.
The success of this strategy depends not only upon IDS' ability to acquire
complementary businesses on a cost-effective basis, but also upon its ability to
integrate acquired operations into its organization effectively, to retain and
motivate key personnel and to retain customers of acquired firms. There can be
no assurance that IDS will be able to find suitable acquisition candidates or be
successful in acquiring or integrating such businesses. Furthermore, there can
be no assurance that financing required for any such transactions will be
available on satisfactory terms.
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Sales and Marketing
IDS' various subsidiaries derive revenues primarily from in-house direct
sales and from its network of sales representatives. Sales representatives are
teamed with in-house sales managers and are assigned to territories within the
United States. Management believes that this method of selling leads to
increased account penetration, proper management of its products, and enhanced
customer service which creates and maintains the foundation for long-term
relationships with its customers. IDS' in-house sales personnel are normally
compensated utilizing incentive commissions which are based on either a
percentage of revenues or gross profitability which can be attributed to their
efforts. Management believes that its past and future growth depends in large
measure on its ability to attract and retain qualified sales representatives and
sales management personnel. Management is of the opinion that its in-house
marketing and selling of its products allows for more freedom and control, thus
increasing profitability.
IDS' subsidiaries promote their products and services through general and
trade advertising, participation in trade shows, and most recently through on-
line Internet communication via IDS' corporate home page which provides links to
each of the subsidiaries' websites. IDS, through a service provider, makes an
effort to maintain and update each of its subsidiaries' Internet web sites on an
ongoing basis. It is the opinion of management that the Internet is a powerful
marketing tool, and with the increasing e-commerce activity becoming evident,
each subsidiary must be positioned to capitalize on this trend.
IDS' sales personnel focus on building long-term relationships with
customers and, through their product and industry expertise, providing customers
with product application, engineering and after-the-sale services.
Additionally, the sales personnel of IDS' subsidiaries seek to capitalize on
customer relationships that have been developed by each subsidiary through
cross-selling of the various products and services offered by each subsidiary.
Sales leads developed by this synergy are then jointly pursued.
Much of IDS' business is repeat business, and the source of new customers
has been largely through word-of-mouth referrals from existing customers and
industry members, such as manufacturers' representatives.
Customers
IDS' customer base consists primarily of Fortune 500 companies in numerous
industry segments within the United States.
IDS' largest ten customers (which varied from period to period) accounted
in the aggregate for approximately 65% and 60% of IDS' total revenue during 1999
and 2000, respectively.
Currently, IDS' major customers include:
IED: Caspian Pipeline Consortium, EXXON Mobil Pipeline Co., Inc., Oneok,
Centennial Pipeline, LLC, Universal Compression, Inc., Marathon
Pipeline Co.
Thermal: Hollingsworth Equipment, Inc., South Texas Equipment, Conditioning
Components Company
CPM: Parsons Power Group
Based upon historical results and existing relationships with customers,
IDS believes that, although efforts are being made to diversify its client base,
a substantial portion of its total revenue and gross profit will continue to be
derived from sales to existing customers. There are no long-term commitments by
such customers to purchase products or services from IDS. Sales of IDS'
subsidiaries' products are typically made on a purchase order basis. A
significant reduction in orders from any of IDS' largest customers could have a
material adverse effect on IDS' financial condition and results of operations.
Similarly, the loss of any one of IDS' largest customers or the failure of any
one of such customers to pay its accounts receivable on a timely basis could
have a material adverse effect on IDS' financial condition and results of
operations. There can be no assurance that IDS' largest customers will continue
to place orders with IDS or that orders by such customers will continue at their
previous levels. There can be no assurance that IDS' largest customers will
continue to place orders with IDS or that orders by such customers will continue
at their previous levels. There can
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be no assurance that IDS' customers for its engineering services will continue
to enter into contracts with IDS for such services or that existing contracts
will not be terminated.
Customer Service and Support
IDS provides service and technical support to its customers in varying
degrees depending upon the product line and on customer contractual
arrangements. IDS' support staff provides initial telephone troubleshooting
services for end-user customers and distributors. These services include
isolating and verifying reported product failures, authorizing product returns
and tracking completion of repaired goods in support of customer requirements.
Technical support also provides on-site engineering support in the event that a
technical issue can not be resolved over the telephone. IDS provides limited
warranty coverage for its products for varying time periods depending on a
variety of factors. On a routine basis, IED provides worldwide start-up and
commissioning services for projects in which it provides engineering services.
Dependence upon Suppliers
IDS' businesses depend upon the ability to obtain an adequate supply of
products and parts at competitive prices and on reasonable terms. IDS'
suppliers are not obligated to have products on hand for timely delivery to IDS
nor can they guarantee product availability in sufficient quantities to meet
IDS' demands. There can be no assurance that such products will be available as
required by IDS at prices or on terms acceptable to IDS. IDS procures a
majority of its components from distributors in order to obtain competitive
pricing, maximize product availability and maintain quality control.
Thermal currently stocks key components due to long lead times. Specialty
items are purchased as required for each job. Thermal has increased its
stocking levels because of the potential delays in manufacturing which would be
caused by its inability to procure critical components.
All of CPM's products are manufactured using components and materials that
are available from numerous domestic suppliers. CPM has approximately 10
principal suppliers of components and each of those could be replaced with
several competitors; therefore, CPM anticipates little or no difficulty in
obtaining components in sufficient quantities and in a timely manner to support
its manufacturing and assembly operations.
A majority of the components and peripherals used by IDS are available from
a number of different suppliers, although certain major items are procured from
single sources. Management believes that alternate sources could be developed
for such single source items, if necessary.
There can be no assurance that IDS' subsidiaries will be able to continue
to obtain the necessary components from any of its single sources on terms
acceptable to IDS, if at all. There can be no assurance that such relationships
will continue or that, in the event of a termination of any relationship, it
would be able to obtain alternative sources of supply without a material
disruption in IDS' ability to provide products to its customers. Any material
disruption in IDS' supply of products would have a material adverse effect on
IDS' financial condition and results of operations. No one manufacturer or
vendor provides products that account for 10% or more of IDS' revenues.
Patents, Trademarks, Licenses
IDS' success depends in part upon its proprietary technology, and it relies
primarily on trade secrecy and confidentiality agreements to establish and
protect its rights in its proprietary technology. IDS does not own the rights
to any U.S. or foreign patents. There can be no assurance that IDS' present
protective measures will be adequate to prevent unauthorized use or disclosure
of its technology or independent third party development of the same or similar
technology. Although IDS' competitive position could be affected by its ability
to protect its proprietary and trade secret information, IDS believes other
factors, such as the technical expertise and knowledge of IDS' management and
technical personnel, and the timeliness and quality of support services provided
by IDS, to be more significant in maintaining IDS' competitive position.
IDS currently has no patents, registered trademarks, licenses (other than
for off-the shelf software), franchises, concessions, royalty agreements, or
labor contracts.
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Government Regulations
Certain of IDS' subsidiaries are subject to various laws and regulations
relating to its business and operations, and various health and safety
regulations as established by the Occupational Safety and Health Administration.
IDS is not currently aware of any situation or condition that it believes is
likely to have a material adverse effect on its results of operations or
financial condition.
Research and Development
Research and development cost for 2000 was approximately $32,000.
Expenditures for research and development in 1999 were approximately $79,000. As
of December 31, 2000, IDS' subsidiaries were involved in the following active
research and development activities: IED is expanding the capability of its
standard meter skid product; IED is currently designing a standardized
specification package for project related execution; CPM is evaluating the
design of an uninterruptible power supply product. The development of CPM's
proprietary battery monitor product is currently on hold. Thermal has no current
research and development projects.
Employees
As of September 30, 2001, IDS employed approximately 182 individuals within
its three operating subsidiaries; approximately six were employed in sales,
marketing and customer services; 120 were employed in engineering; 43 were
employed in technical production positions; and 23 were employed in
administration, finance and management information systems. IDS believes that
its ability to recruit and retain highly skilled and experienced technical,
sales and management personnel has been, and will continue to be, critical to
its ability to execute its business plan. None of IDS' employees are
represented by a labor union or are subject to a collective bargaining
agreement. IDS believes that relations with its employees are good.
Facilities
IDS leases its principal executive offices, which consist of approximately
32,836 square feet, in two adjoining offices in Houston, Texas. Approximately
12,000 square feet of this space is currently utilized for production operations
and warehouse space for the IDS and CPM operations.
On February 10, 1999, IED signed a lease for its newly established office
in Tulsa, Oklahoma. This office space consisted of 5,400 square feet in a one-
story office building. Due to the recent successes of its business development
strategy, the Tulsa office was expanded twice in 2000, and has approximately
tripled its office space to approximately 15,000 square feet. New leases
agreements were signed in September 2000.
As a result of the acquisition of Thermal, land and property previously
leased by Thermal was purchased by Thermal for $500,000, consisting of $50,000
cash advance from IDS and a note payable in the amount of $450,000. The balance
on this note at December 31, 2000 was $386,606. This property consists of
4.5995 acres of land improved with a 37,725 square foot concrete tiltwall
office/manufacturing facility located in Houston, Texas, of which approximately
2,500 square feet is used for office space and 35,200 square feet for
manufacturing. Remodeling of 1,600 square feet of office and engineering space
was completed in February 2000 which allowed office personnel to vacate
temporary modular offices on the premises.
Legal Proceedings
From time to time, IDS is involved in various legal proceedings arising in
the ordinary course of business. IDS is not currently involved in any material
legal proceedings and is not aware of any material legal proceeding threatened
against it.
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BUSINESS OF PETROCON
General
Petrocon is a privately held multi-disciplined engineering services
company. Petrocon's engineering service capabilities encompass all aspects of
the process, civil/structural, mechanical, instrument, electrical and some
environmental engineering disciplines, providing its clients with a single
source for all their design, engineering and procurement needs. This multi-
disciplined expertise enables Petrocon to offer total design and engineering
solutions extending from product inception through completion within multiple
industries and across diverse geographic markets. Petrocon's primary niche is
in design and assembly of engineered systems, primarily consisting of complete
instrumentation and controls. Petrocon's engineered systems capabilities
include design and assembly of process instrument buildings, analyzer packages,
motor control centers, modular control rooms, computer networking, emissions
monitoring, and advanced controls applications.
Engineering Procurement and Construction Related Services
Petrocon's services include feasibility studies, conceptual design, detail
engineering, site planning, evaluation, procurement, project and construction
management, inspection and verification, maintenance, plant operations, quality
assurance/control and information technology.
The nature and variety of Petrocon's engineering services are illustrated
by the following representative listing of projects completed by Petrocon:
. Project manager, coordinator and integrator for the new DCS system on an
upgrade project for a major refinery in the Houston, Texas area.
. Design engineering for a significant waste water improvement project.
. A distributed control system, or DCS upgrade for one of the largest
refineries in the world on the Texas Gulf Coast.
. Complete design, procurement and construction management services for one of
the world's largest grass roots refinery vacuum units on the Louisiana Gulf
Coast.
. A grass roots crude unit, vacuum unit, reformer and visbreaker for a mid-
size, independent refiner.
. A benzene remediation project for a large Gulf Coast petrochemical plant.
. A grass roots multipurpose chemical plant for a major agricultural chemical
producer.
. Process engineering services for a substantial chemical plant project in
Mainland China for a major U.S. chemical company.
. Front-end engineering for a cogeneration project in Jamaica.
. A grass roots condensate splitter for a Gulf Coast refiner.
. Instrumentation modernization project for a chemical complex using state-of-
the-art DCS hardware and software.
Through the Field Services segment, Petrocon also provides personnel to its
clients for assignment inside the clients' facilities. These staffing
arrangements, primarily with refineries, petrochemical and other processing
plants in the Southwest region include partnering relationships with clients and
in-plant task forces operating under Petrocon's or the client's supervision. At
August 1, 2001, approximately 440 Petrocon personnel were contracted for some
form of in-plant assignment. Petrocon intends to continue pursuing a strategy
of placing employees on in-plant assignments in order to take advantage of what
it believes to be a sustained trend toward outsourcing and
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single sourcing among plant owners and operators, and as a hedge against
cyclical slumps resulting from general economic or industry specific conditions.
Engineered Systems
Engineered systems are provided primarily through Petrocon's wholly owned
subsidiary, Petrocon Systems, Inc., which provides two primary types of
services: control and instrumentation systems and advanced controls.
Control and Instrumentation Systems
Petrocon designs, engineers, assembles, programs, installs, integrates and
services control and instrumentation systems for specific applications,
principally in various energy and processing related industries. Petrocon's
control and instrumentation systems are custom designed and include both
conventional pneumatic and hydraulic control systems and sophisticated
electronic, microprocessor-based controls employing programmable logic. Typical
applications for Petrocon's control and instrumentation systems include oil and
gas production safety systems, refinery, petrochemical and chemical plant
controls, analyzer packaging, fire and gas detection systems, pipeline
compressor station controls, data acquisition systems, control systems for oil
and gas wells, engine and gas turbine driven compressors, pumps, boilers and
heaters, and processing equipment. All facets of control and instrumentation
system design, engineering, assembly and testing are performed in-house by
Petrocon, and Petrocon's full service field installation and technical staff
performs complete electrical and instrumentation installation projects, start-up
and commissioning services, modifications to existing systems, on-site training
and routine maintenance procedures for client operating personnel. Petrocon's
control systems unit does not produce products for inventory and purchases
component parts for its systems only on an as-needed basis.
Advanced Controls
Petrocon's Advanced Controls group provides consulting services to
customers ranging from technology upgrades to 10-year strategic automation
plans. Petrocon's Advanced Controls group installs and programs Pavilion
Technologies software, a neural networking software system that provides
predictive emissions monitoring (PEMS) as well as advanced electronic management
and accounting data acquisition through DCS systems. Petrocon's Advanced
Controls group also provides turnkey solutions for customers in the areas of
customized continuous emissions monitoring systems, or CEMS.
Business Development and Marketing
Petrocon believes marketing and business development are company-wide
responsibilities, and Petrocon's project and other managers are encouraged to be
actively involved in business development efforts through the maintenance of
professional and personal relationships and through the identification and
pursuit of new business opportunities. Company managers closely monitor
Petrocon's client list to insure that all existing clients are contacted on a
regular basis so that Petrocon remains before the client and aware of all
current and proposed client projects.
Additionally, Petrocon employs five full-time professional marketers in-
house. Petrocon also retains business development agents in Mexico City, the
Middle East, the United Kingdom and Norway, and alliances with other engineering
and construction firms worldwide including Australia, Europe, Central and South
America and Pacific Rim locations.
Operations
Petrocon operates on a decentralized basis, with the management of each
operating company responsible for day-to-day operations, profitability and
growth. However, Petrocon has centralized certain administrative activities
from its executive offices. Centralized activities include accounting for the
consolidated group, financing, business development support, management
information systems support, contract administration, insurance and safety
administration and audits. In addition, all operating locations are required to
adhere to company-wide policies and procedures relating to financial reporting,
risk management, internal controls, purchasing and human resources and
administration.
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Petrocon is ISO-9001 certified in its Baton Rouge office through its
subsidiary RPM. The ISO process dealing with standard procedures and work
processes are now being implemented in all Petrocon engineering offices. To
continuously improve those methods, Petrocon has initiated "best practices"
among all the operating companies for project monitoring and cost controls,
backlog reporting, risk management and engineering policies and procedures. The
subsidiary company presidents and operations managers of each of Petrocon's
significant profit centers meet periodically for the purpose of implementing
"best practices" and identifying areas where opportunities for synergies may be
realized.
Petrocon has integrated a computer network system with each of the primary
facilities of Petrocon's significant operations. This system is being used to
increase Petrocon's overall staff utilization rate by allowing Petrocon to
instantly transmit work to the location of available resources and to share
ideas, best practices and other communications necessary to fully integrate its
diverse operations.
Seasonality
Holidays and employee vacations, during the fourth quarter, exert downward
pressure on revenues for that quarter, which is only partially offset by the
year-end efforts on the part of many of Petrocon's clients to spend any
remaining funds budgeted for capital expenditures during the year. The annual
budgeting and approval process, under which these clients operate, is normally
not completed until after the beginning of each new year, which can depress
Petrocon's operating results for the first quarter. Principally, due to these
factors, Petrocon's revenues during its first and fourth quarters tend to be,
but are not always, lower than in its second and third quarters.
Competition
In its engineering services segment, Petrocon competes with a large number
of other firms of all sizes, ranging from the industry's largest firms, which
operate on a worldwide basis, to much smaller regional and local firms. Typical
competitors include: S&B Engineering, Jacobs Engineering Group, CDI Engineering
Group, Matrix Engineering, GDS Engineering and Mustang Engineering.
Competition in Petrocon's engineering services segment is primarily
centered on performance and the ability to provide the engineering, planning and
project execution skills required to complete projects in a timely and cost
efficient manner, as well as price. Larger projects, especially international
work, appears to be trending toward pricing alternatives designed to shift to
the service provider, or requiring the service provider to at least share in,
the risks of cost overruns and inefficiencies in the delivery of services.
These alternatives include fixed-price, guaranteed maximum price, incentive fee,
competitive bidding, and other "value based" pricing arrangements.
In its engineered systems segment, Petrocon emphasizes the engineering
quality and performance characteristics of its automation systems, its total
turnkey capabilities, its innovative design solutions and its ability to meet
promised delivery dates. The emphasis both clients and Petrocon place on
pricing tends to vary with cyclical conditions in the oil and gas, petroleum and
processing industries, with pricing becoming a more important factor during
industry downturns. Petrocon's control systems and modular facilities compete
with similar systems built by other companies, both larger and smaller than
Petrocon, some of which compete primarily on the basis of pricing. Competitors
include: PasTech, TAS, TAG, Contact Engineering, and AspenTech.
Contracts
The price provisions of Petrocon's contracts with its clients vary greatly;
however, these provisions can generally be grouped into one of three categories:
cost plus, guaranteed maximum price, and fixed price.
Cost-plus contracts provide for reimbursement of costs incurred by Petrocon
plus a predetermined fee or a fee based on a percentage of costs incurred. This
pricing arrangement presents the least risk to Petrocon.
Guaranteed maximum price contracts are performed in the same manner as
cost-plus contracts, except the total actual cost plus the fee cannot exceed the
guaranteed price negotiated between Petrocon and its client. If it does, then
Petrocon may bear all or a portion of the excess. Where the cost and fee are
less than the guaranteed price, Petrocon may share the savings with the client
on a predetermined basis.
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Fixed price contracts include both negotiated fixed price contracts and
lump sum bid contracts that require Petrocon to perform work for a stated
amount. Under a negotiated fixed price contract, Petrocon is first selected as
the contractor, and then the contract price is negotiated. Negotiated fixed
price contracts are frequently agreed to in turnkey arrangements where Petrocon
has the opportunity to perform feasibility studies and design work before
negotiating the price. Under lump sum bid contracts, Petrocon must bid against
other firms based upon specifications furnished by the client. Contract bidding
carries certain inherent risks, including the possibility of ambiguities in
specifications, problems with new technologies, strike delays, work stoppages
and other unforeseen developments and changes that may occur over the contract
period, that are reallocated through the negotiation process. Although both
forms of contract involve a firm price for the customer, the lump sum bid
contract presents the greater degree of risk to Petrocon.
Petrocon's control systems are contracted primarily on a lump sum, turnkey
basis, either FOB Petrocon or installed on site. The client typically makes an
initial payment upon commencement of the project and progress payments at
various stages of the project. Retainages beyond the completion date, designed
to insure plant performance and compliance with specifications, may be imposed
by the client.
Most of Petrocon's contracts related to its engineering service activities
have historically been undertaken on a cost-plus basis. However, the trend in
the industry for larger international projects is away from this form of
relatively risk free pricing, with project owners increasingly requiring pricing
alternatives that shift to the service provider, certain or all the risk
associated with cost overruns and other service delivery inefficiencies. These
alternatives include guaranteed maximum price, fixed price, incentive fee and
other forms of "value-based" pricing arrangements. If managed properly, these
forms of pricing arrangements provide Petrocon with the potential for higher
margins. However, if Petrocon's discipline, in either its cost estimates or
service efficiency, declines or fails to keep pace with that of its competitors,
the volume of awarded projects and their margins may be affected adversely.
In accordance with industry practice, most of Petrocon's contracts are
subject to termination at the discretion of the client. Most contracts provide
for reimbursement of costs incurred and payment of fees earned by Petrocon
through the date of termination. Many of Petrocon's contracts also provide
indemnification to the client for losses and expenses incurred by the client as
a result of Petrocon's negligence and, in certain instances, the concurrent
negligence of the client. Petrocon historically has not incurred material
losses with respect to these claims and maintains insurance in amounts it
considers adequate.
Under certain contracts, Petrocon guarantees project completion by a
scheduled date or by achievement of certain acceptance and performance testing
or milestone levels. When these projects are undertaken and if Petrocon fails
to meet any required completion requirements and is unable to remedy the failure
within the applicable cure period, Petrocon could incur financial penalties in
the form of liquidated damages or could be required to design or repeat the
service or repair or replace the system. At June 30, 2001, Petrocon had no
projects which are subject to some form of completion guarantees.
Clients
Petrocon's engineering services group has many clients representing a broad
range of industries and institutions, most of whom are repeat clients, and
historically has not had a continuing dependence on any single client or any
limited group of clients. However, one or a few clients have in the past and
may in the future contribute a substantial portion of Petrocon's revenues in any
one year or over a period of several consecutive years due to the size of major
engineering projects. Petrocon's business is not necessarily dependent upon
sustaining the level of revenues contributed by particular clients in any given
year or period of consecutive years. Historically, Petrocon has not generated
significant revenues from governmental clients. In Petrocon's experience, once
it begins work on a particular project, it is unlikely the client will terminate
Petrocon's involvement before completion of the project, unless the project
itself is canceled or postponed. Historically, Petrocon has undertaken new
projects for prior clients and has provided ongoing services to clients
following completion of their projects. Nonetheless, Petrocon must continually
obtain new engineering projects, whether from existing or new clients, in order
to generate revenues in future years as existing projects are completed.
In recent years, the continuing trend among Petrocon's engineering services
clients and their industry counterparts has been toward outsourcing and sole
sourcing, which has fostered the development of arrangements
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with clients which are less oriented toward specific projects and more focused
on ongoing, longer term relationships. These arrangements, often referred to as
partnering relationships or alliances, and, in some cases, sole source
contracts, vary in their scope, duration and degree of commitment. Some provide
Petrocon with a minimum number of work man-hours over specified periods; some
assure Petrocon of at least a designated percentage of the client's requirements
for engineering services at one or more locations; and some establish Petrocon
as the client's sole source of engineering services at a specific location or
locations. Other agreements express only a client's non-binding preference or
intent with respect to Petrocon and its services, or establish a general
contractual framework for what the parties expect will be an ongoing
relationship. Despite their variety, the collective effect of these partnering
relationships or alliances is to exert a stabilizing influence on Petrocon's
engineering service revenues. At present, Petrocon has some form of partnering
or alliance arrangement with 13 major oil and chemical companies.
Petrocon's engineered systems clients include both end users, such as oil
and gas producers, compressor stations, refineries, chemical companies and
processing plants, that own or operate the facilities for which the systems are
designed, and equipment manufacturers, construction contractors and other
engineering firms that incorporate Petrocon's control systems into facilities
and products of their own design, construction and manufacture. As in
Petrocon's engineering services segment, in any given year, a small number of
clients may account for a large percentage of the engineered systems revenues
for that year, depending on the number of major projects undertaken by Petrocon.
Though the engineered systems segment frequently receives work from repeat
clients, its client list may vary greatly from year to year.
No single client accounted for 15% or more of Petrocon's 2000 combined
revenues.
Backlog
The following table sets forth Petrocon's combined backlog at December 31,
2000, 1999 and 1998 for each of its three major segments and by geographic
regions:
Years Ended December 31,
---------------------------------------------------------------------------------
2000 1999 1998
----------- ----------- -----------
Engineering services $ 3,800,000 $ 5,900,000 $10,700,000
Engineered systems 2,900,000 1,600,000 2,700,000
Field services 37,900,000 28,500,000 35,500,000
----------- ----------- -----------
Total $44,600,000 $36,000,000 $48,900,000
=========== =========== ===========
Domestic $44,600,000 $35,900,000 $38,600,000
International 0 100,000 10,300,000
----------- ----------- -----------
Total $44,600,000 $36,000,000 $48,900,000
=========== =========== ===========
Petrocon's combined backlog at June 30, 2001 is $48,900,000, most of which
is expected to be completed within the next 12 months and includes only
contracts for which Petrocon has received authorization to proceed with the
work. The estimated backlog for engineering services as of the end of each year
set forth above is management's estimate of the amount Petrocon expects to earn
during the following 12 months under engineering services agreements in place as
of the end of such year. These engineering services agreements, however, do not
obligate Petrocon's customers to purchase any specific amount of services during
any period or describe any specific scope of work and they are cancelable by the
customer on short notice without penalty. Although this backlog represents work
that is under contract, it is not necessarily indicative of Petrocon's future
revenues or earnings.
Facilities
For its professional, technical and administrative staff, Petrocon leases
five offices in the U.S. totaling approximately 107,586 square feet, and owns
two office buildings in Baton Rouge, Louisiana totaling approximately 38,072
square feet. The leases have remaining terms ranging from monthly to four years
and are at what Petrocon
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considers to be commercially reasonable rental rates. Petrocon's principal
office locations are in Houston and Beaumont, Texas; and Baton Rouge and Lake
Charles, Louisiana.
Engineering and assembly of Petrocon's control and instrumentation systems
is performed at two shop facilities totaling approximately 65,000 square feet in
Beaumont and Houston, Texas. Another Beaumont property is currently leased on a
month-to-month basis from a joint venture owned one-third by each of Petrocon,
Michael L. Burrow and another Petrocon shareholder. Petrocon believes its
office and other facilities are well maintained and adequate for Petrocon's
existing and planned operations at each operating location.
Employees
As of August 1, 2001, Petrocon had approximately 810 regular, full-time
employees, including 550 engineers, scientists, chemists, designers and
draftsmen, 55 construction managers, inspectors and technicians, 25 production
support staff, and 180 administrative and clerical personnel. At that date, all
810 Petrocon employees were based in the United States, of whom approximately
440 were placed on assignment in client facilities.
Petrocon is not a party to any collective bargaining agreements, has not
experienced any strikes or work stoppages, and believes its relationship with
its employees is good.
Government Regulation
Petrocon and its clients are subject to various evolving foreign, federal,
state and local laws and regulations, including those relating to the
environment, health and safety. To date, Petrocon has mostly benefited from
these laws and regulations and their impact on its clients, and the cost of
Petrocon's own compliance has not been material; but, the fact that such laws
and regulations are changed frequently makes uncertain both Petrocon's expected
continuing benefits and costs associated with such laws and regulations.
Petrocon and members of its professional staff are subject to a variety of
state, local and foreign licensing, registration and other regulatory
requirements governing the practice of engineering. Petrocon professionals are
licensed or registered in several states and foreign jurisdictions. Petrocon
endeavors to be in compliance with all applicable licensing and registration
requirements and does not believe that any failure to be in such compliance at
any given time will have a material adverse effect on its operations or
revenues. Nor does Petrocon believe that such licensing or registration
requirements will offer any material impediment to Petrocon's proposed
geographic expansion due to the prevalence of reciprocity arrangements, the
relative ease of the licensing process in most jurisdictions, and the number of
varied disciplines and qualifications of its professional staff.
Risk Management
In performing services for its clients, Petrocon could potentially be
liable for breach of contract, personal injury, property damage, or negligence,
including professional errors and omissions. Petrocon often agrees to indemnify
its clients for losses and expenses incurred by them as a result of Petrocon's
negligence and, in certain cases, the concurrent negligence of the clients.
Petrocon's quality control and assurance program includes a control function to
establish standards and procedures for performance and for documentation of
project tasks, and an assurance function to audit the control function and to
monitor compliance with procedures and quality standards. Petrocon maintains
liability insurance for bodily injury and third-party property damage,
professional errors and omissions, and workers compensation coverage which it
considers sufficient to insure against these risks, subject to self-insured
amounts.
Petrocon is, from time to time, a party to litigation arising in the
ordinary course of its business, most of which involves contract claims,
professional errors and omissions claims and claims for personal injury or
property damage incurred in connection with its operations. Based on legal
analysis and advice from its attorneys, allowances have been made in Petrocon's
financial statements for any litigation that Petrocon believes could have a
material adverse effect on its financial condition or results of operations.
88
Insurance
Petrocon maintains insurance against some, but not all, of the risks
described above. Petrocon may elect to self-insure in circumstances in which
management believes that the cost of insurance is excessive relative to the
risks presented. The occurrence of an event that is not covered, or not fully
covered, by insurance could have a material adverse effect on Petrocon's
financial condition and results of operations.
Litigation and Other Legal Proceedings
Petrocon Engineering, Inc. vs. Gary J. Coury and Rick Berry, pending in the
136th District Court of Jefferson County, Texas was filed March 17, 2000. In
May 2000, Petrocon terminated the employment of two of its officers who have
guaranteed compensation and severance provisions under their employment
agreements. Petrocon disputes the validity and enforceability of these two
employment contracts and has taken legal action against the former officers
alleging negligence in their fiduciary responsibilities as officers of Petrocon.
These former officers brought a counter-suit against Petrocon seeking the
remaining compensation and severance benefits provided for under the disputed
employment agreements. In October, 2001, the Company reached a tentative
settlement agreement of the litigation, subject to further approval by Fleet
Financial Corporation, which provides financing to Petrocon. The settlement
stipulates that the Company will pay $775,000 including the purchase of 288,565
shares of stock at $0.79 per share by another Petrocon shareholder and the
repayment by Petrocon of an outstanding note payable of approximately $73,000.
The remaining portion will be paid in 24 equal monthly installments with the
balance of $175,000 due on the 25/th/ month. Further, if the tentative
settlement agreement is consummated, Gary Coury's options to purchase 153,850
shares of common stock at $6.50 per share would be cancelled; and the escrow
arrangement established for the exercise of options and warrants held by
Petrocon at the closing of the merger transaction will be reduced by that number
of shares.
From time to time, Petrocon may be involved in litigation relating to
claims arising out of operations in the normal course of business. As of the
date of this document, we were party to several other legal proceedings that
have been reserved for, are covered by insurance or that, if determined
adversely to us, individually or in the aggregate, would not have a material
adverse effect on our results of operations or financial position.
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IDS FOLLOWING THE MERGER
General
The merger will create a larger, more diversified middle market engineering
company. Following the merger, we anticipate that approximately 92% of the
revenues generated by the combined company will be provided by supplying
engineering and related services, primarily to the energy industry.
Approximately 4% will be provided by supplying manufactured equipment to the
commercial HVAC industry and approximately 4% will be provided by supplying
industrial electrical power systems that primarily provide for an
uninterruptible source of electrical power. We plan to continue our listing of
our shares of common stock on the American Stock Exchange under the symbol
"IDS."
Upon the closing of the merger, we will work to integrate the two companies
as quickly as possible so as to realize the benefits of cost savings, to pay
down debt to typical industry levels, and to immediately take advantage of the
combined strengths through an intense and focused marketing campaign. After the
integration of the companies is well under way, we expect to seek acquisitions
with strategic fit.
Business Strategy
The initial business strategy of the combined company will focus primarily
on cross-marketing its engineering capabilities and, following a reduction in
its debt burden, completing mergers and acquisitions in its engineering
business. The combined company may divest itself of its non-core businesses in
order to focus exclusively on its engineering business. Since there is little
overlap in the engineering customer bases of the two companies, there is
considerable potential to enhance the internal growth of the combined company
through cross-marketing. We plan to focus an intense marketing effort on those
customers who are identified as most likely to buy the additional services
offered through the combined company. Selling points will include:
. More technical resources at our disposal to serve customers, with
approximately 1,000 employees in the combined operations;
. Greater depth of capabilities that can service energy customers in the oil
and gas industry from the well head through the finished petrochemical
product;
. Enhanced geographical coverage with offices in the primary U.S. energy
markets of Houston, Tulsa, Baton Rouge, Beaumont and Lake Charles;
. Additional shop space and personnel available to handle larger, more diverse,
instrumentation/systems packaging projects;
. Construction management and inspection services currently not available to
IDS; and
. The potential for enhancing the market coverage of Constant Power's UPS
products through Petrocon Systems, Inc. and through over 440 personnel
outsourced into plants currently in the Petrocon organization.
Accelerate Internal Growth
The principal elements of our growth strategy after the merger are to:
. attract larger, higher margin projects by virtue of increased financial,
professional and technical resources;
. leverage our capabilities and expertise through cross-marketing; and
. develop new partnering relationships and other strategic alliances.
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Improve Operating Margins
We believe that strategic acquisitions will provide significant
opportunities to increase the profitability of the combined company. The key
components of this strategy are to increase operating efficiencies, centralize
appropriate administrative functions and exploit purchasing power. These
components are discussed below.
Increase Operating Efficiencies
We believe that we will be able to increase the overall staff utilization
rate of acquired companies by more effectively deploying and allocating
professional resources and work loads among similar companies. We intend to
accomplish this goal with the aid of increased technology, which will allow work
to be sent instantly by computer to the location of available resources. We
will extend the concept of "Vision 2000," a project-driven approach which
Petrocon has had in place for almost seven years and which helped Petrocon
substantially lower its non-billable hours and maximize its rate of
chargeability. We also expect improvements in the overall staff utilization
rate of the combined company as a result of:
. increased utilization of highly specialized personnel based upon a larger
number of company-wide engineering projects;
. increased flexibility to make staff adjustments at those operating companies
located in geographic areas with more limited talent pools; and
. application of Petrocon's operating experience in the Texas and Louisiana
Gulf Coast area, which is one of the most competitive environments for
engineering services in the U.S.
Centralize Appropriate Administrative Functions
We believe that opportunities exist to improve operating margins by
consolidating the administrative functions of IDS and Petrocon, such as finance,
insurance, employee benefits and accounting.
Exploit Purchasing Power
We expect to use our increased purchasing power to gain volume discounts
both for IDS and Petrocon and in connection with our procurement services for
our clients. These discounts will enable us to secure larger margins on our
turnkey and fixed-price contracts, and to potentially secure additional
contracts in situations where these discounts can be passed through to our
clients.
Outsource Construction Activities
While we recognize the current trend among project owners and operators
toward turnkey projects, under which a single firm provides all engineering,
procurement and construction services associated with a project, we believe we
can offer clients these projects, without assuming all of their associated
construction risks, by forming joint ventures and other partnering relationships
with specialized construction firms. Similarly, in instances where we are asked
or required to take an equity interest in a project, we intend to seek financial
equity partners. As we grow, we will become an even more attractive partnering
candidate for potential construction and financial partners.
Operate on a Decentralized Basis
We intend to manage our operating companies and any acquired companies on a
decentralized basis, with local management retaining responsibility for day-to-
day operations, profitability and growth. Our executive management intends to
closely monitor operating results of our operating companies and will provide
direction and guidance on operational matters, such as staff utilization rates,
backlog control and marketing and cross-selling opportunities, in an effort to
improve profitability at each operating level. We believe that combining a
decentralized management structure with strong, centralized operating and
financial controls geared to accountability will support the entrepreneurial and
creative culture at each of our operating companies, while
91
allowing us to capitalize on the local and regional market knowledge, goodwill,
name recognition and client relationships of each of the operating companies.
Acquisition Strategy
We intend to continue an acquisition program, targeting well established
companies offering engineering services and engineered systems similar or
complementary to those offered by IDS. Acquisitions will be expected to expand
our geographic coverage, broaden our technical capabilities or expertise,
improve our market share within existing geographic markets or specialties, or
provide increased cross-selling opportunities. Certain acquisitions may be
large enough to maintain their own operating and management structure, while
other smaller acquisitions may be folded into an existing operation without
significantly increasing our infrastructure. From among the many engineering
companies active in the United States, and the many more international firms, we
believe there will be no shortage of acquisition candidates. We intend to
selectively pursue acquisition candidates based on acquisition criteria, such as
profitability, revenue growth potential, similar or complementary services, and
client bases that provide potential cross-selling opportunities, established
reputation, qualified and experienced management, professional and technical
personnel, and geographic and cultural compatibility.
We believe we will be regarded by acquisition candidates as an attractive
acquirer because of:
. our strategy for creating a professionally managed engineering firm of
internationally recognized stature;
. our decentralized operating strategy which emphasizes an ongoing role for
owners, management and key personnel of acquired firms, as well as meaningful
equity positions for these individuals which will enable them to participate
in our growth and realize improved liquidity;
. our objective of maintaining a professional environment which will attempt to
preserve and capitalize on the entrepreneurial spirit, creativity and
ingenuity of the acquired firms' owners and professional personnel;
. the potential for growth of both the acquired entity and IDS by increasing
the scope and variety of services which the acquired firm and IDS together
can make available to their existing client bases, as well as increasing the
size and variety of the projects which can be undertaken by the acquired firm
as a result of its access to greater financial, technical and professional
resources; and
. the potential for increased profitability of the acquired company due to
centralization of administrative functions, enhanced information and design
systems capabilities and purchasing economies.
We intend to use various combinations of common stock, cash, earnouts and
notes as consideration for acquisitions. We expect to finance acquisitions
through funds provided by operations and from the proceeds of equity and debt
financings. We will not have a specific acquisition budget since the timing and
size of acquisitions are difficult to forecast. At the present time, neither
IDS or Petrocon has binding agreements with respect to any significant
acquisitions other than the merger agreement between us.
Strengths
The principal strengths of the combined company will be the following:
. The combined company will be much larger. With revenues on a pro forma basis
of approximately $85,000,000 for the year ended December 31, 2000, management
believes the combined company will be better positioned to attract the
attention of institutional investors and analysts.
. Petrocon's management system is designed to facilitate growth and can easily
be implemented in IDS' operations, without IDS having a significant
expenditure in developing these systems.
. Petrocon brings previously developed risk management policies and procedures
to the combined company. Each key manager has definitive levels of authority
for various functions performed, along with a procedure defining the details
of those authority levels. Additionally, there are detailed procedures for
more complex
92
projects such as lump sum, turnkey and engineering procurement and
construction on EPC projects. Management believes these procedures may reduce
the uncertainty to the combined company in undertaking these types of
projects.
. Petrocon's accounting and cost control system are more sophisticated and
automated and provide a higher level of comfort in making projections than
the system IDS currently has available.
. We should be able to reduce overhead in the combined operations enough to
offset at least a portion of the costs of the merger, and with the
implementation of an incentive program, we should be able to retain certain
key personnel.
. The size and track records of the combined company should provide us with the
ability to bid on larger projects, particularly in the Tulsa office of IDS.
. IDS' process design capabilities complement Petrocon's detailed engineering
design strengths and depth.
. The combined company will have greater market penetration.
Management
. IDS' executive management team will be led by William A. Coskey, as President
and Chief Operating Officer, and Michael L. Burrow, as Chairman of the Board
and Chief Executive Officer.
. IDS' executive management team will be well-rounded and experienced, with
substantial experience in the oil and gas industry.
. The members of this management team will collectively own approximately 58%
of IDS common stock outstanding, on a fully diluted basis, aligning their
interests with those of the other IDS stockholders.
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MANAGEMENT
Directors and Executive Officers of IDS After the Merger
The board of directors and executive officers of IDS will change as a
result of the merger. Set forth below is selected information regarding the
persons who are expected to be the directors and executive officers of IDS
following the merger and the positions they will serve. Each director is elected
for a one-year term. Executive officers are elected by the board of directors of
IDS and serve at its discretion.
Name Age Position
---- --- --------
Michael L. Burrow, P.E. 54 Chief Executive Officer, Chairman of the Board
and Director
William A. Coskey, P.E. 48 President, Chief Operating Officer, Director
Robert W. Raiford 56 Chief Financial Officer, Treasurer, and
Assistant Secretary
Hulda L. Coskey 46 Investor Relations Officer, Secretary, Director
Jimmie N. Carpenter, P.E. 59 Director
David W. Gent, P.E. /(1)/ 48 Director
Randall B. Hale /(1)/ 38 Director
David C. Roussel /(1)(2)/ 52 Director
(1) Proposed Member of Audit and Compensation Committees.
(2) Proposed independent director.
Michael L. Burrow, P.E. is the founder of Petrocon, Inc. and Petrocon
Engineering, Inc. and has served as Chairman of the Board, Chief Executive
Officer and President since Petrocon's formation in 1988 except for the period
from April 1999 through March 2000 when Mr. Burrow served as Chairman and
Manager of Corporate Marketing. Mr. Burrow started his career in 1969 with Mobil
Oil Corp. as a project engineer. In 1974, Mr. Burrow became a partner in Matrix
Engineering where he served as a principal until 1977, when he and another of
the four other partners in Matrix left to form Petrocon, Inc. Mr. Burrow served
as President of Petrocon, Inc. from 1977 until the company was sold to Austin
Industries of Dallas, Texas in 1982 where he served as Vice President of
Engineering. In 1988, Mr. Burrow left Austin Industries and formed the current
Petrocon Engineering, Inc. Mr. Burrow received a Bachelor of Science in
Mechanical Engineering from Louisiana Tech University in 1969 and did post
graduate studies in engineering and business administration at Lamar University.
He is a Registered Professional Engineer in Texas and Louisiana, a member of
ASME and NSPE and serves or has served on the boards of United Way, Beaumont
Chamber of Commerce, Partnership of Southeast Texas and Lamar University
Advisory Council, Texas Hazardous Waste Research Council, among others.
William A. Coskey, P.E. is the founder of IDS and has served as Chairman of
the Board, Chief Executive Officer and President since IDS' formation in
September 1985. Mr. Coskey also serves as President and Director of IDS'
subsidiaries: Industrial Data Systems, Inc.; IDS Engineering, Inc.; Thermaire,
Inc. and Constant Power Manufacturing Corporation. Prior to founding IDS, Mr.
Coskey served as Manager of Corporate Development for Keystone International,
Inc., a public company listed on the New York Stock Exchange, and was
responsible for all acquisition and merger activities of Keystone International,
Inc. during the period 1984 to 1985. Mr. Coskey had formerly held the position
of President of Syntech Associates, Inc., an engineering services company
located in Houston, Texas, for the period 1979 to 1984. Mr. Coskey, an honors
graduate, received a B.S. in Electrical Engineering from Texas A&M University in
1975. He is a Registered Professional Engineer and is also a member of the
Instrument Society of America. William A. Coskey is the spouse of Hulda L.
Coskey.
Robert W. Raiford has been employed by Petrocon since 1979. He currently
serves as Senior Vice President and Chief Financial Officer, Secretary and
Treasurer. Mr. Raiford has served as Executive Vice President of Administration
& Controller; Director, Vice President, Secretary and Treasurer of Petrocon and
as a Director, Secretary and Treasurer of Petrocon subsidiaries Petrocon
Systems, Inc.; Petrocon Construction Resources, Inc.;
94
Petrocon Technologies, Inc.; Petrocon Engineering of Louisiana, Inc.; Alliance
Engineering Associates, Inc.; RPM Engineering Inc.; Triangle Engineers &
Constructors, Inc. and Petrocon FSC, Ltd. He has also managed administrative
service functions including Human Resources, Procurement, Risk Management and
Project Controls. Prior to joining Petrocon, Mr. Raiford was employed by Dresser
Industries, Inc., Velsicol Chemical Corporation and Mobil Oil Corporation. He
received an MBA in 1974 and a BBA in Business Management in 1968 from Lamar
University.
Hulda L. Coskey has served as Chief Financial Officer and
Secretary/Treasurer of IDS since June 1994. During her 17 years with IDS and its
predecessors, Mrs. Coskey has served in the following capacities within IDS'
subsidiaries: Vice President, Secretary/Treasurer, and Director of Industrial
Data Systems, Inc.; Vice President, Secretary, and Director of IDS Engineering,
Inc.; Secretary/Treasurer and Director of Thermaire, Inc., and as Secretary and
Director of Constant Power Manufacturing Corporation. Her primary
responsibilities include SEC reporting, investor relations and other corporate
secretary functions. In prior years, Mrs. Coskey has been responsible for
management and supervision of IDS' operations, including but not limited to all
accounting, finance and personnel functions. Mrs. Coskey majored in Accounting
at the University of Houston. Hulda L. Coskey is the spouse of William A.
Coskey.
Jimmie N. Carpenter, P.E. has been employed by Petrocon since 1978.
Currently he serves as a director and Executive Vice President of Petrocon. He
is also President of Petrocon Construction Resources, Inc. and Triangle
Engineers & Constructors, Inc., wholly owned subsidiaries of Petrocon. During
his employment with Petrocon, Mr. Carpenter has served as project manager,
manager of various operations, and President of Petrocon Engineering, Inc. Prior
to joining Petrocon, Mr. Carpenter was employed by Swift Chemical Co., N-Ren
Corporation and Monsanto for over 13 years. He is a registered Professional
Engineer and a graduate of Texas A&M University with a Bachelors Degree in
Science and Mechanical Engineering.
David W. Gent, P.E. has served as a director of IDS since June 1994 and is
a member of the Audit and Compensation Committees. Since September 1991, Mr.
Gent has held the position of Director of International Engineering and Chief
Information Officer of Bray International, Inc., located in Houston, Texas, with
the responsibility of overseeing several departments that include Engineering,
Information Services, and Quality Control. Mr. Gent founded SofTest Designs
Corporation, a privately held electronic test equipment company, in 1980, and
has served as a director since its inception and as its President from 1986 to
1991. Prior to 1986, Mr. Gent was General Manager of the USA Controls Division
of Keystone International, Inc. Mr. Gent, an honors graduate, received a B.S.
in Electrical Engineering from Texas A&M University in 1975 and an MBA from
Houston Baptist University. He is a Registered Professional Engineer and a
senior member of the Instrument Society of America. Mr. Gent serves on the
Texas A&M University Electrical Engineering Department Advisory Council, the
Bray International, Inc. 401(k) committee and as a Bray representative on
various councils including Fieldbus Foundation and the Open DeviceNet Vendors
Association. He also holds several patents in the field of industrial flow
controls.
Randall B. Hale has been nominated to serve as a director of IDS after the
merger by Equus. Mr. Hale has been a Vice President of Equus Capital Management
Company since November 1992, and director since February 1996. Equus Capital
Management Company is the financial advisor to Equus II Incorporated. From June
1985 to October 1992, he was employed by Arthur Andersen LLP. Mr. Hale is also
a director of seven privately owned companies in which Equus has an investment.
Mr. Hale is a certified public accountant.
David C. Roussel has been nominated by agreement of Alliance and Petrocon
to serve as an independent director on the board of directors of IDS after the
merger. Since September 1998, Mr. Roussel's primary occupation is as an
independent business consultant. From 1994 until September 1998, Mr. Roussel
served as Vice President of Sterling Consulting Group, where he performed
various strategy design, alliance structuring and benchmarking projects for
several major U.S. oil companies. Previously, Mr. Roussel served as President
of Enron Gas Processing Company from 1989 through 1994, where he was responsible
for gathering systems, gas processing plants, chemical facilities, international
business development, acquisitions, joint venture management, and strategic
planning and implementation. Mr. Roussel served as President of Enron Liquids
Pipeline Company from 1986 through 1989, overseeing transportation of natural
gas liquids and refined products to retail, refinery and petrochemical markets.
Mr. Roussel completed the Harvard Advanced Management Program in 1992 and
received a Bachelor of Science degree in Mechanical Engineering from Iowa State
University in 1971. He has also served as Vice President,
95
director and as a member of the Executive and Ad Hoc Committees of the board of
directors of the Gas Processors Association.
Compliance with Section 16(a)
Section 16(a) of the Securities Exchange Act of 1934 requires IDS'
directors, executive officers and 10% beneficial owners to file with the SEC
reports of ownership and change in ownership of equity securities of IDS. Based
solely on its review of Forms 3 and 4, and amendments thereto, furnished to IDS
under Rule 16a-3(e) during its most recent fiscal year, and Forms 5, and
amendments thereto, furnished to IDS with respect to its most recent fiscal
year, IDS believes that during the year ended December 31, 2000, no reporting
person failed to file on a timely basis reports required by Section 16(a) of the
Exchange Act since such reporting persons became subject to reporting
requirements, except that Mike M. Patton, Vice President of Business Development
of a subsidiary, failed to file a timely Form 5 during the year 2000.
IDS Key Man Insurance
William A. Coskey is a key employee of IDS and the loss of Mr. Coskey's
services could adversely affect IDS' business. IDS maintains, and is the
beneficiary of, a life insurance policy on the life of Mr. Coskey. The face
amount of such policy is $600,000. The continuance of such policy is at the
discretion of the board of directors and the policy may or may not be maintained
in the future.
IDS Option Grants
Since the approval and adoption of the Industrial Data Systems Corporation
1998 Incentive Plan in June 1998, IDS has granted options to acquire 266,000
shares of its common stock with option agreements for 226,000 shares remaining
in effect. In 2000, options for 40,000 shares were cancelled due to employment
termination with two employees. No options have been exercised nor have any
shares been issued under the Incentive Plan. As of October 1, 2001, a total of
75,000 options were vested but not exercised.
Issuance and cancellation of stock options are detailed in the table below.
Options to Key Employees Options to Directors
---------------------------- ----------------------------
Options Options Options Options
Date Issued Cancelled Issued Cancelled Exercise Price Expiration Date
---- ------ --------- ------ --------- -------------- ---------------
1999 150,000 0 50,000 0 $1.25 12/12/09
2000 51,000 40,000 15,000 0 $1.00 11/21/10
IDS 1998 Incentive Plan
The description set forth below represents a summary of the material terms
and conditions of the IDS 1998 Incentive Plan. After the merger, the Incentive
Plan will remain in effect.
A total of 1,200,000 shares of common stock have previously been reserved
for issuance pursuant to the Incentive Plan. At the IDS special meeting, holders
of IDS common stock will be asked to approve an amendment to the IDS 1998
Incentive Plan increasing the number of options which may be issued under the
Plan from 1,200,000 to 1,400,000. This increase is necessary to enable IDS to
issue replacement options as required by the merger agreement.
The Incentive Plan provides for the grant to employees, including officers
of IDS, of the following awards: incentive stock options within the meaning of
Section 422 of the Internal Revenue Code of 1986, as amended, nonstatutory stock
options, stock appreciation rights and restricted stock. In addition, non-
employee directors and consultants are eligible to receive nonstatutory stock
options.
The Incentive Plan provides that awards may be granted to employees,
consultants and directors of IDS and its majority-owned subsidiaries. To the
extent that the aggregate fair market value of the shares with respect to which
options designated as incentive stock options are exercisable for the first time
by any optionee during any
96
calendar year exceeds $100,000, such options will be reclassified in accordance
with the Code. The Incentive Plan is not a qualified deferred compensation plan
under Section 401(a) of the Code and is not subject to the provisions of the
Employee Retirement Income Security Act of 1974, as amended. Under the Code, the
favorable vote of a majority of all issued and outstanding shares of IDS common
stock is required to satisfy the Code requirement for shareholder approval.
Either the full board of directors or its designated committee administer
the Incentive Plan. The board of directors or its designated committee will
select persons to whom awards may be granted and the type of award to be granted
and determine, as applicable, the number of shares to be subject to each award,
the exercise price and terms of vesting. In making such determination, the board
of directors or its designated committee will take into account the grantee's
present and potential contributions to the success of IDS and other relevant
factors.
The exercise price of all incentive stock options granted under the
Incentive Plan must be at least equal to the fair market value of the shares of
common stock on the date of grant. With respect to any participant who owns
stock representing more than 10% of the voting rights of IDS' outstanding
capital stock, the exercise price of any incentive stock option granted under
the Incentive Plan must equal at least 110% of the fair market value of the
shares of common stock subject to such option on the date of grant.
Options granted under the Incentive Plan vest pursuant to terms determined
by the board of directors or its designated committee.
The terms of all incentive stock options and non-statutory stock options
granted under the Incentive Plan may not exceed 10 years. However, the terms of
all incentive stock options granted to an optionee who, at the time of grant,
owns stock representing more than 10% of the voting rights of IDS' outstanding
capital stock, may not exceed five years.
Options may be granted to outside directors under the Incentive Plan upon
such terms as are approved by the board or its designated committee.
Restricted common stock may be granted to employees pursuant to terms
determined by the board of directors or its designated committee. Restricted
common stock may not be transferred until the restrictions are removed or have
expired. Conditions to the removal of restrictions may include, but are not
required to be limited to, continuing employment or service to IDS or
achievement of certain performance objectives.
Stock appreciation rights may be granted to employees, either independent
of, or in connection with, options. Stock appreciation rights are exercisable in
the manner, and pursuant to terms, determined by the board of directors or its
designated committee. Terms to be determined by the board of directors or its
designated committee include the number of shares to which the stock
appreciation right applies, the vesting schedule for the exercise of such right
and the expiration date of the right. Upon exercise of a stock appreciation
right, the holder shall receive payment in cash, stock or a combination of both
at the discretion of the board of directors or its designated committee in an
amount equal to the product of (i) the fair market value of a share of IDS
common stock as of the date of exercise, minus the fair market value of a share
of IDS common stock as of the date the stock appreciation right was granted,
multiplied by (ii) the number of shares as to which the stock appreciation right
is being exercised. The exercise of stock appreciation rights granted in
connection with options requires the holder to surrender the related option (or
any portion thereof, to the extent unexercised). No stock appreciation right
granted under the Incentive Plan is transferable by the employee other than by
will or the laws of descent and distribution and each stock appreciation right
is exercisable during the lifetime of the employee only by such employee.
In the event of certain changes in IDS' capitalization, including as a
result of a stock split or stock dividend, which results in a greater or lesser
number of shares of outstanding common stock, appropriate adjustment shall be
made in the number of shares available under the Incentive Plan, the exercise
price and in the number of shares subject to options, outstanding shares of
restricted common stock and stock appreciation rights.
Award agreements may, under the Incentive Plan, as determined by the board
of directors or its designated committee, provide that, in the event of a change
in control of IDS, the following will occur; the holder of a stock option will
be granted a corresponding stock appreciation right; all outstanding stock
appreciation rights and stock options will become immediately and fully vested
and exercisable in full; and the restriction period on any restricted
97
common stock will be accelerated and the restrictions will expire. In general, a
change in control of IDS occurs in any of five situations:
(1) a person (other than (a) IDS, (b) certain named affiliates or
affiliated companies or benefit plans, or (c) a company, a majority of
which is owned directly or indirectly by the stockholders of IDS)
becomes the beneficial owner of 50% or more of the voting power of
IDS' outstanding voting securities;
(2) a majority of the board of directors is not comprised of the members
of the board of directors at the effective date of the Incentive Plan
and persons whose elections as directors were approved by those
original directors or their approved successors;
(3) a person described in clause (1) above announces a tender offer for
50% or more of IDS' outstanding voting securities and the board of
directors approves or does not oppose the tender offer;
(4) IDS merges or consolidates with another corporation or partnership, or
IDS' stockholders approve such a merger or consolidation, other than
mergers or consolidations in which IDS' voting securities are
converted into securities having the majority of voting power in the
surviving company; or
(5) IDS liquidates or sells all or substantially all of its assets, or
IDS' stockholders approve such a liquidation or sale, except sales to
corporations having substantially the same ownership as IDS.
If a restructuring of IDS occurs that does not constitute a change in
control of IDS, the board of directors or the committee administering the
Incentive Plan may, but need not, cause IDS to take any one or more of the
following actions: accelerate in whole or in part the time of vesting and
exercisability of any outstanding stock options and stock appreciation rights to
permit those stock options and stock appreciation rights to be exercisable
before, upon, or after the completion of the restructure; grant each of the
restrictions on any restricted common stock; if the restructuring involves a
transaction in which IDS is not the surviving entity, cause the surviving entity
to assume in whole or in part any one or more of the outstanding incentive
awards upon such terms and provisions as the board of directors or its
designated committee deems desirable; or redeem in whole or in part any one or
more of the outstanding incentive awards, whether or not then exercisable, in
consideration of a cash payment as adjusted for withholding obligations. A
restructuring generally is any merger of IDS or the direct or indirect transfer
of all or substantially all of IDS' assets in one transaction or a series of
transactions.
IDS 401(k) Plan
In January 1993, IDS adopted a Section 401(k) Profit Sharing Plan and Trust
and in September 1997 Thermal adopted a substantially identical Section 401(k)
Plan. The Plans are intended to qualify for tax exemption under Section 401(k)
of the Internal Revenue Code and are subject to the Employee Retirement Income
Security Act of 1974. The Plan is administered by management of IDS and all
employees who elect to do so are allowed to participate, subject to certain
eligibility requirements. Eligible employees may contribute up to 15% of their
annual compensation up to the maximum dollar amount allowed by law, which is
matched by IDS under a defined formula. In addition, IDS may make discretionary
contributions to each Plan, for the benefit of all participants, at the election
of the board of directors. Employee contributions are fully vested at all times
and contributions by IDS vest on a schedule of 25% per year over a four-year
period, commencing with the second year of employment.
Petrocon Stock Option Plan
Petrocon approved and adopted the Petrocon Engineering, Inc. 1992 Stock
Option Plan in 1992 and amended and restated the stock option plan in its
entirety in September 1996. In the year ended December 31, 2000, Petrocon
granted options to acquire 797,846 shares of its common stock under its stock
option plan. Petrocon currently has outstanding options to purchase a total of
1,527,963 shares of Petrocon common stock under the Petrocon stock option plan.
The number outstanding, the exercise price and the number exercisable as of
October 1, 2001, are set forth below:
98
Options Outstanding Exercise Price Exercisable
------------------- -------------- -----------
797,846 $1.00 356,635
350,357 $4.44 237,745
379,760 $6.50 225,910
Petrocon 401(k) Plan
Petrocon has adopted a Section 401(k) Profit Sharing Plan and Trust (the
"Plan"). The Plan is intended to qualify for tax exemption under Section 401(k)
of the Code and is subject to the Employee Retirement Income Security Act of
1974. The Plan is administered by management of Petrocon and all of Petrocon's
employees who elect to do so are allowed to participate, subject to certain
eligibility requirements. Eligible employees may contribute up to 20% of their
annual compensation up to the maximum dollar amount allowed by law. In addition,
Petrocon may make discretionary contributions to the Plan, for the benefit of
all participants, at the election of the board of directors. No contributions
were made by Petrocon to the Plan for the years ended December 31, 2000, 1999 or
1998.
Compensation Summary
The following table sets forth information concerning compensation for
services in all capacities awarded to, earned by, or paid to the person who will
serve as Chief Executive Officer of the combined company and the only three
other most highly compensated executive officers who, during the years ended
December 31, 1998, 1999, and 2000, received aggregate cash compensation in
excess of $100,000.
Annual Compensation
------------------------------------------------------- All Other
Name and Principal Position Year Salary Bonus Compensation
--------------------------- ---- ------ ----- ------------
Michael L. Burrow 2000 $253,119 --- ---
Chief Executive Officer, and 1999 $261,291 --- ---
Chairman of the Board 1998 $258,397 --- ---
William A. Coskey 2000 $111,040
Chief Operating Officer and President 1999 $109,224
1998 $109,200
Robert W. Raiford 2000 $164,597 --- $14,374
Chief Financial Officer, Treasurer and 1999 $156,806 --- ---
Assistant Secretary 1998 $155,038 --- ---
Jimmie N. Carpenter 2000 $136,192 --- $ 3,716
Director 1999 $131,362 --- ---
1998 $117,725 --- ---
The following table sets forth the number of options granted to the person
who will serve as Chief Executive Officer of the combined company and the only
three other executive officers who earned over $100,000 in the preceding fiscal
year.
Number of
Securities Percentage of Exercise
Underlying Options Granted Price Per
Name Options to Employees Share Expiration Date
------------------- ------- ------------ ----- ---------------
Michael L. Burrow 7,500 0.94% $1.00 October 31, 2010
William A. Coskey 0 0.00% -- --
Robert W. Raiford 10,000 1.25% $1.00 October 31, 2010
Jimmie N. Carpenter 10,000 1.25% $1.00 October 31, 2010
99
The following table sets forth the information regarding option exercises
and the value of exercisable and unexercisable options held by the person who
will serve as Chief Executive Officer of the combined company and the only other
executive officers who earned over $100,000 in the preceding fiscal year.
Number of Securities Value of Unexercised
Underlying Unexercised In-the-Money Options
Shares Options at Year End at Year End
Acquired on Value Exercisable/ Exercisable/
Name Exercise Realized Unexercisable Unexercisable
------------------- -------- -------- --------------- ---------------
Michael L. Burrow 0 0 13,721 / 3,750 0/0
William A. Coskey 0 0 0 / 0 0/0
Robert W. Raiford 0 0 147,539 / 81,925 0/0
Jimmie N. Carpenter 0 0 12,229 / 5,000 0/0
Compensation Following the Merger
In connection with the merger, IDS plans to enter new employment agreements
with Michael L. Burrow, William A. Coskey, Robert W. Raiford, Jimmie N.
Carpenter, Willie E. Rigsby, Olan B. Weeks, James E. Dorsey, Jr., and David W.
Smith. Executive officers of Petrocon who currently have employment agreements
in place are listed on Schedule 3.23(a) of the merger agreement included herein
as Annex A. IDS currently has no employment agreements (other than various
commission agreements) in place with its executive officers.
The compensation of the executive officers of IDS following the merger will
be determined by the board of directors of IDS. These officers will also be
eligible to receive performance bonuses at the discretion of the IDS board and
stock option grants under IDS' stock option plan. In addition, IDS' 401(k) plan
provides that its officers and employees are able to participate.
Director Compensation
Employee directors and independent directors of IDS and employee directors
of Petrocon do not receive any cash compensation for board meetings or committee
meetings that they attend, nor do they receive compensation for committee
meetings attended. Independent directors of Petrocon received $2,500 per quarter
in compensation for serving on the Petrocon board. IDS does not currently pay
out-of-pocket expenses incurred by directors to attend board and committee
meetings. Directors of IDS after the merger will not be separately compensated
for serving on the IDS board of directors. However, IDS' board members will be
reimbursed for out-of-pocket expenses to attend board and committee meetings.
As specified in the Industrial Data Systems Corporation 1998 Incentive
Plan, non-employee directors are eligible to receive non-statutory stock
options. Under the Incentive Plan, awards may be granted to directors of IDS and
its majority-owned subsidiaries. Mr. Gent was awarded options to acquire 5,000
shares at an exercise price of $1.00 for service provided to IDS in 2000. These
stock options vest over a five-year period with an expiration date of November
21, 2010. Mr. Gent was previously awarded options to acquire 30,000 shares at an
exercise price of $1.25 which vest over a five-year period with an expiration
date of December 12, 2009 (5,000 shares for each year or partial year of service
provided to IDS through 1999).
As of August 1, 2001, no options have been exercised nor have any shares
been issued under the Incentive Plan. Assuming the merger closes prior to
December 31, 2001, outstanding options may be exercised to acquire 75,000 shares
of IDS common stock, each at an exercise price of $1.25 per share.
100
CERTAIN TRANSACTIONS
As of September 30, 2001, Alliance 2000, Ltd., a limited partnership owned
by William A. Coskey, Chairman of the Board, Chief Executive Officer, and
President of IDS, and by Hulda Coskey, Chief Financial Officer, Secretary and
Treasurer of IDS, was indebted to IDS for two unsecured promissory notes in an
amount totaling $150,000. The notes are due on demand and bear interest at a
rate of 9% per annum. The outstanding balance at September 30, 2001 was $150,000
in principal and $59,764 in accrued but unpaid interest. The largest aggregate
amount of indebtedness outstanding at any time during the last 12 months owed by
Alliance was $196,500.
Michael L. Burrow, the Chief Executive Officer and a member of the board of
directors of IDS after the merger, owns a one-third interest in a joint venture
that owns the office building in which Petrocon's executive offices are located.
Petrocon, also a one-third owner in the joint venture, leases a portion of the
building from the joint venture. Each joint venturer receives approximately
$30,000 annually under this lease arrangement.
Randall B. Hale, a member of the board of directors of IDS after the
merger, is an executive officer of Equus. After the merger, Equus will hold a
$3,000,000 note from Petrocon, which will be guaranteed by all of the
subsidiaries of IDS, including the subsidiaries of Petrocon and which will be
further secured by a lien on substantially all of the assets of IDS and each of
its subsidiaries, including Petrocon and its subsidiaries. In addition, Equus
will own 2,500,000 shares of IDS convertible preferred stock.
Fahad Al-Tamimi, a significant shareholder of Petrocon, owns Petrocon
Arabia Limited, a former affiliate of Petrocon. As of June 30, 2001, Petrocon is
indebted to Petrocon Arabia in the amount of $925,435 under a promissory note in
the original principal amount of $937,230. The promissory note to Petrocon
Arabia accrues interest at 8% per annum on the average unpaid balance of the
note and is payable annually on each anniversary date of the note. The principal
amount of the note is payable in equal monthly installments of $22,315 per month
for 42 months. In addition, Fahad Al-Tamimi receives $10,000 per month to serve
as a consultant to Petrocon under a consulting agreement which expires on
December 31, 2002.
See "The Merger--Other Agreements" on page ____ for a description of the
voting, shareholders', escrow and other agreements entered into in connection
with the merger.
101
OWNERSHIP OF IDS, PETROCON AND THE COMBINED COMPANY STOCK
The following table sets forth:
. as of the date of this document, the number and percentage of the outstanding
shares of IDS common stock beneficially owned by the directors and executive
officers of IDS, as well as by each person or entity known by IDS to
beneficially own more than 5% of the IDS common stock;
. as of the date of this document, the number and percentage of the outstanding
shares of Petrocon common stock beneficially owned by the directors and
executive officers of Petrocon, as well as by each person or entity known by
Petrocon to beneficially own more than 5% of the Petrocon common stock; and
. the number and percentage of the outstanding shares of IDS' common stock that
will be owned by all of these persons after the merger.
Shares of IDS common stock which were not outstanding but which could be
acquired by a person upon exercise of an option or warrant or conversion of
preferred stock within 60 days of the date of this document or the effective
time of the merger, as applicable, are deemed outstanding for the purpose of
computing the percentage of outstanding shares of common stock beneficially
owned by that person. These shares, however, are not deemed to be outstanding
for the purpose of computing the percentage of outstanding shares of common
stock beneficially owned by any other person.
Except as otherwise indicated below, IDS or Petrocon, as applicable,
respectively believes that each individual or entity named has sole investment
and voting power with respect to shares of stock indicated as beneficially owned
by them.
Number of Shares Beneficially Owned
-------------------------------------------------------------------------------------------------
IDS Petrocon Combined Company
---------------------------- --------------------------- ------------------------------
Shares/(1)/ % Shares/(2)/ % Shares/(3)/ %
---------------- ---------- --------------- ----------- ------------------ ----------
Alliance 2000, Ltd. /(4)/(5)/
William A. Coskey
Hulda L. Coskey
600 Century Plaza Dr.
Building 140
Houston, TX 77073 9,530,100 73.5 --- --- 9,530,100 41.68
David W. Gent /(6)/
600 Century Plaza Dr.
Building 140
Houston, TX 77073 16,250 * --- --- 16,250 *
Gordon R. Wingate /(7)/
600 Century Plaza Dr.
Building 140
Houston, TX 77073 5,000 * --- --- 5,000 *
Michael L. Burrow /(5)/(8)/
3155 Executive Blvd.
Beaumont, TX 77705 --- --- 1,764,865 19.74 1,764,865 7.73
Robert W. Raiford /(5)/(9)/
3155 Executive Blvd.
Beaumont, TX 77705 --- --- 333,641 3.68 333,641 1.45
102
Number of Shares Beneficially Owned
--------------------------------------------------------------------------------------------------
IDS Petrocon Combined Company
----------------------------- --------------------------- -----------------------------
Shares/(1)/ % Shares/(2)/ % Shares/(3)/ %
---------------- ---------- ------------- ----------- ---------------- ----------
Equus II Incorporated /(5)/
Randall B. Hale /(10)/
3155 Executive Blvd.
Beaumont, TX 77705 --- --- 2,439,909 23.28 1,937,758 8.10
Jimmie N. Carpenter /(5)/(11)/
3155 Executive Blvd.
Beaumont, TX 77705 --- --- 436,573 4.88 436,573 1.89
Douglas W. Eckols /(5)/(12)/
3155 Executive Blvd.
Beaumont, TX 77705 --- --- 335,155 3.75 335,155 1.47
Olan B. Weeks /(5)/(13)/
3155 Executive Blvd.
Beaumont, TX 77705 --- --- 452,934 5.06 452,934 1.98
Willie E. Rigsby /(5)/(14)/
3155 Executive Blvd.
Beaumont, TX 77705 --- --- 216,844 2.41 216,844 *
David W. Smith /(15)/
3155 Executive Blvd.
Beaumont, TX 77705 --- --- 158,640 1.77 158,640 *
Fahad Al-Tamimi /(5)/(16)/
Salah Al-Din Al
Ayyoube District
Riyadh 11451
Saudi Arabia --- --- 802,426 8.99 802,426 3.51
Norbert C. Roobaert /(5)/(17)/
16340 Park Ten Place
Dr., Suite 300
Houston, TX 77084 --- --- 780,392 8.63 780,392 3.40
David L. Hopson /(5)(18)/
12546 Saracen Dr.
Cypress, TX 77429 --- --- 689,241 7.72 689,241 3.01
All executive officers and
directors as a group (for
IDS, four persons; for
Petrocon, eight persons;
for the Combined Company,
seven persons) 9,551,350 73.55 6,138,561 56.91 14,019,187 58.32
* Less than 1%
(1) Based on the shares outstanding as of August 17, 2001 (12,964,918 shares).
Does not include shares to be issued in connection with the merger.
103
(2) Based on the shares outstanding as of October 15, 2001 (6,432,845 shares);
the shares of Petrocon common stock that will be issued in connection with
the cancellation of the Petrocon shareholder debt (2,495,870 shares); and
options to acquire shares which are terminated at the closing of the
merger.
(3) Based on the 22,865,418 IDS shares outstanding as of the merger, including
the 9,800,000 shares to be issued to Petrocon shareholders in connection
with the merger, and the 100,500 shares to be issued to an investment
advisor for services in connection with the merger. Assumes conversion of
Petrocon common stock to IDS common stock on a share for share basis. The
actual conversion ratio is estimated to be between .88 and 1.06 per share.
Does not include options which expire if not exercised as of the
merger.
(4) Includes 9,500,000 shares held in the name of Alliance 2000, Ltd., a Texas
limited partnership in which William A. Coskey and Hulda L. Coskey are
general partners. Of these shares, 2,600,000 will be held following the
merger subject to an option pool agreement pursuant to which options may be
granted to certain employees of IDS and its subsidiaries, and 200,000 will
be subject to the Equus call agreement, pursuant to which Equus will have
the right to acquire the shares under certain circumstances. Also includes
100 shares of IDS common stock owned by William A. Coskey, purchased on
June 16, 1998 at the time IDS became listed with the American Stock
Exchange; and 30,000 shares held in the name of William A. Coskey as
custodian for his children.
(5) Parties to a voting agreement pursuant to which the shareholders agree to
vote in favor of three directors designated by Alliance, two members
designated by certain former shareholders of Petrocon, one member
designated by Equus, and one member designated by agreement between
Alliance and certain former shareholders of Petrocon.
(6) Includes options to acquire 15,000 shares at $1.25 per share and 1,250
shares at $1.00 per share, which are exercisable within 60 days of the date
of this merger proxy. Does not include options to acquire 15,000 shares at
$1.25 per share, or options to acquire 3,750 shares at $1.00 per share,
which will not be exercisable within 60 days of the date of this merger
proxy.
(7) Includes options to acquire 5,000 shares at $1.25 per share, which are
exercisable within 60 days of the date of this merger proxy. Does not
include options to acquire 5,000 shares at $1.25 per share, or options to
acquire 5,000 shares at $1.00 per share, which will not be exercisable
within 60 days of the date of this merger proxy.
(8) Includes 957,914 shares held by a family limited partnership; 182,993
shares held by Mr. Burrow; 610,237 shares to be acquired on cancellation of
the Petrocon shareholder debt; options to acquire 4,000 shares at $4.44 per
share, which are exercisable within 60 days of the date of this merger
proxy; and options to acquire 9,721 shares at $1.00 per share, which are
exercisable within 60 days of the date of this merger proxy. Does not
include options to acquire 3,750 shares at $1.00 per share, which will not
be exercisable within 60 days of the date of this merger proxy.
(9) Includes 135,249 shares held by Mr. Raiford; 50,853 shares to be acquired
on cancellation of the Petrocon shareholder debt; options to acquire 8,870
shares at $1.00 per share, which are exercisable within 60 days of the date
of this merger proxy; options to acquire 61,744 shares at $4.44 per share,
which are exercisable within 60 days of the date of this merger proxy; and
options to acquire 76,925 shares at $6.50 per share, which will be replaced
with options to acquire shares of IDS following the merger. Does not
include options to acquire 5,000 shares at $1.00 per share or options to
acquire 76,925 shares at $6.50 per share, none of which will be exercisable
within 60 days of the date of this merger proxy.
(10) Includes 887,338 shares held by Equus; and warrants to acquire 1,552,571
shares which will be cancelled at the closing of the merger. Combined
Company shares do not include 200,000 shares held by Alliance 2000, Ltd.
which Equus has the right to acquire under certain circumstances. Combined
Company shares include 1,050,420 shares of IDS into which the IDS preferred
stock is convertible.
(11) Includes 424,344 shares held by a family limited partnership; and options
held by Mr. Carpenter to acquire 8,229 shares at $1.00 per share, which are
exercisable within 60 days of the date of this merger proxy and options
held by Mr. Carpenter to acquire 4,000 shares at $4.44 per share, which are
exercisable within 60
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days of the date of this merger proxy. Does not include options held by Mr.
Carpenter to acquire 5,000 shares at $1.00 per share, which will not be
exercisable within 60 days of the date of this merger proxy.
(12) Includes 326,426 shares held by a family limited partnership; options held
by Mr. Eckols to acquire 4,729 shares at $1.00 per share, which are
exercisable within 60 days of the date of this merger proxy; and options
held by Mr. Eckols to acquire 4,000 shares at $4.44 per share which are
exercisable within 60 days of the date of this merger proxy. Does not
include options to acquire 1,500 shares at $1.00 per share, which will not
be exercisable within 60 days of the date of this merger proxy.
(13) Includes 300,000 shares held by a family limited partnership; 30,499 shares
held by Mr. Weeks; 101,706 shares to be acquired on cancellation of the
Petrocon shareholder debt; options to acquire 16,729 shares at $1.00 per
share, which are exercisable within 60 days of the date of this merger
proxy; and options to acquire 4,000 shares at $4.44 per share which are
exercisable within 60 days of the date of this merger proxy. Does not
include options to acquire 13,500 shares at $1.00 per share, which will not
be exercisable within 60 days of the date of this merger proxy.
(14) Includes 30,499 shares held by Mr. Rigsby; 101,706 shares to be acquired on
cancellation of the Petrocon shareholder debt; and options to acquire
84,639 shares at $1.00 per share, which are exercisable within 60 days of
the date of this merger proxy. Does not include options to acquire 81,500
shares at $1.00 per share, which will not be exercisable within 60 days of
the date of this merger proxy.
(15) Includes 141,875 shares held by Mr. Smith; options to acquire 14,365 shares
at $1.00 per share, which are exercisable within 60 days of the date of
this merger proxy; and options to acquire 2,400 shares at $4.44 per share
which are exercisable within 60 days of the date of this merger proxy.
Does not include options to acquire 12,000 shares at $1.00 per share, which
will not be exercisable within 60 days of the date of this merger
proxy.
(16) Includes 395,601 shares held by Mr. Al-Tamimi; and 406,825 shares to be
acquired on cancellation of the Petrocon shareholder debt.
(17) Includes 272,724 shares held by Roobaert; warrants to acquire 117,116
shares at $.01 per share, all of which are exercisable; and 390,552 shares
to be acquired on cancellation of the Petrocon shareholder debt.
(18) Includes 282,416 shares held by Hopson; and 406,825 shares to be acquired
on cancellation of the Petrocon shareholder debt.
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COMPARATIVE RIGHTS OF HOLDERS OF IDS AND PETROCON COMMON STOCK
IDS is a Nevada corporation, and the rights of its stockholders are
governed by the Nevada General Corporation Law and its articles of incorporation
and bylaws. Petrocon is a Texas corporation, and the rights of its shareholders
are governed by the Texas Business Corporation Act and its articles of
incorporation and bylaws. If the merger is completed, shares of Petrocon common
stock will be converted into shares of IDS stock and cash for fractional shares.
As a result, Petrocon shareholders would become IDS stockholders. These rights
differ in many respects. Although not all of these differences are set forth in
this document, the following discussion summarizes the significant differences
between the rights.
Authorized Capital
IDS. Under IDS' articles of incorporation, IDS has authority to issue
75,000,000 shares of common stock, par value $.001 per share, and no shares of
preferred stock. As of October 12, 2001, 12,964,918 shares of IDS' common stock
were issued and outstanding, no shares were held in IDS' treasury, and 1,200,000
shares were reserved for issuance upon the exercise of outstanding options to
purchase shares of IDS' common stock. At the special meeting, IDS stockholders
will vote to approve amendments to IDS' articles of incorporation to create a
class of preferred stock with 5,000,000 authorized shares in conjunction with
the proposed merger with Petrocon. Nevada law provides that the board of
directors of IDS has the power to establish the voting powers, designations,
preferences, limitations, restrictions, and relative rights of the preferred
stock to be authorized.
Petrocon. Under Petrocon's articles of incorporation, Petrocon has
authority to issue 20,000,000 shares of common stock, par value $.001 per share.
Petrocon has authority to issue 1,000,000 shares of preferred stock, par value
$1.00 per share. As of October 12, 2001, 6,432,845 shares of Petrocon's common
stock were issued and outstanding, no shares of common stock were held in
Petrocon's treasury, and no shares of preferred stock were outstanding.
Notice to Stockholders
IDS. Under IDS bylaws, any notice which must be given to a stockholder
with regard to an annual or special meeting of the stockholders may be given in
writing not less than 10 nor more than 60 days prior to the meeting.
Petrocon. Under Petrocon's bylaws, written notice stating the place, date
and time of the meeting and, in the case of a special meeting, purposes for
which the meeting is called, shall be delivered not less than two nor more than
60 days before the date of the meeting, either personally or by mail, to each
shareholder entitled to vote at such meeting.
Annual Meeting of Stockholders
IDS. Under IDS' bylaws, the annual meeting of stockholders shall be called
in each calendar year on such date and at such time as designated by the board
of directors. The meeting may be held at such place as the board of directors
shall direct.
Petrocon. Under Petrocon's bylaws, the annual meeting of shareholders
shall be held annually at such place, date and time as designated by the board
of directors and stated in the notice of meeting.
Special Meeting of Stockholders
IDS. Under IDS articles of incorporation and bylaws, special meetings of
the stockholders shall be held at the registered office of IDS or at such other
place as specified in a notice thereof. Such meetings may be called at any time
by the President or Secretary of IDS, or by a majority of the board of
directors, and are required to be called by the President with or without board
approval on the written request of the holders of at least 50% of the number of
shares of IDS then outstanding and entitled to vote, which written request shall
state the object of such meeting.
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Petrocon. Under Petrocon's bylaws, special meetings of the shareholders
may be called by the President and shall be called at the request in writing of
a majority of the board of directors, or at the request in writing of
shareholders owning at least 10% of all the shares entitled to vote at the
meetings. Such request for a special meeting shall state the purpose of the
proposed meeting, and business transacted at any special meeting of shareholders
is limited to the purposes stated in the notice.
Quorum at Stockholder Meetings
IDS. Under IDS bylaws, the presence in person or by proxy of the holders
of a majority of the outstanding stock entitled to vote shall constitute a
quorum for the transaction of business, but a lesser number may adjourn to a
future time not less than seven nor more than 21 days later, and the secretary
shall give at least three days notice by mail to each stockholder entitled to
vote who is absent from such meeting.
Petrocon. Under Petrocon's bylaws, the holders of a majority of the shares
issued and outstanding and entitled to vote present in person or represented by
proxy, shall constitute a quorum at all meetings of the shareholders for the
transaction of business unless otherwise provided by statute or by the articles
of incorporation. If, however, a quorum shall not be present or represented at
any meeting of the shareholders, the shareholders entitled to vote, present in
person or represented by proxy, shall have power to adjourn the meeting from
time to time, without notice other than announcement at the meeting, until a
quorum shall be present or represented. After an adjournment, at any reconvened
meeting any business may be transacted that might have been transacted if the
meeting had been held in accordance with the original notice thereof, provided a
quorum shall be present or represented thereat.
Voting of Shares
IDS. Under IDS bylaws, voting at a stockholders' meeting shall be
conducted:
. in person;
. by means of a telephone conference or similar method of communication by
which all persons participating in the meeting can hear each other; or
. by proxy, a written instrument executed by a stockholder or the stockholder's
duly authorized agent. No such proxy shall be valid after the expiration of
six months from the date of its execution, unless coupled with an interest,
or unless the person executing it specified therein the length of time for
which it is to continue in force, which in no case shall exceed seven years
from the date of its execution. Subject to the above, any proxy duly executed
is not revoked and continues in full force and effect until an instrument
revoking it or a duly executed proxy bearing a later date is filed with the
secretary of IDS. At no time shall any proxy be valid which shall be filed
less than 10 hours before the commencement of the meeting.
Petrocon Under Petrocon's bylaws, each outstanding share having voting
power shall be entitled to one vote on each matter submitted to a vote at a
meeting of shareholders. Any shareholder may vote either in person or by proxy
executed in writing by the shareholder.
Cumulative Voting
IDS. Under IDS bylaws, a stockholder cannot cumulate votes with regard to
any election.
Petrocon. Pursuant to Petrocon's articles of incorporation a shareholder
cannot cumulate votes with regard to any election.
Stockholder Action By Written Consent
IDS. Under IDS bylaws, any action required or permitted to be taken by the
stockholders may be taken without a meeting if a consent in writing setting
forth the actions to be taken is signed by the holders of the number of the
shares of stock required to approve the matters voted on.
107
Petrocon. Any action which may be taken at any meeting of shareholders may
be taken without a meeting, without prior notice and without a vote, if consents
in writing setting forth the action is signed by the holder or holders of all
the shares entitled to vote with respect to the action that is the subject of
the consents.
Voting List
IDS. IDS bylaws set forth voting list requirements. The officer or agent
in charge of the transfer books will make, at least two days before any meeting
of stockholders, a complete list of the stockholders entitled to vote at such
meeting, arranged in alphabetical order with the number of shares held by each,
which list for a period of two days prior to such meeting will be kept on file
at the registered office of the corporation and will be subject to inspection by
any stockholder at any time during the whole time of the meeting. The original
share ledger or transfer book, or duplicate thereof, kept in this state, shall
be prima facie evidence as to who are the stockholders entitled to examine such
list or share ledger or transfer book or to vote at any meeting of stockholders.
Petrocon. Petrocon's bylaws set forth shareholder list requirements. The
secretary must make, at least 10 days before each meeting of shareholders, a
complete list of the shareholders entitled to vote at such meeting, arranged in
alphabetical order, with the address of each and the number of shares held by
each. For a period of 10 days prior to such meeting, such list must be kept on
file at the registered office or principal place of business of Petrocon and
shall be subject to inspection by any shareholder at any time during usual
business hours. Such list shall also be produced and kept open at the time and
place of the meeting and shall be subject to the inspection of any shareholder
during the whole time of the meeting.
Stockholder Inspection of Books and Records
IDS. Under Nevada law, any person who has been a stockholder for at least
six months immediately prior to such person's request or is the holder of at
least five percent of all outstanding shares of IDS capital stock is entitled,
upon at least five days' written request, to inspect and make copies of IDS'
articles of incorporation, bylaws and stock ledger. IDS may deny a
stockholder's right of inspection if the stockholder refuses to furnish IDS with
an affidavit stating that:
. the inspection is not desired for a purpose other than one involving IDS
business; and
. the stockholder has not sold, offered for sale or helped anyone procure any
list of stockholders for any such other purpose.
Petrocon. Under Texas law, any person who has been a shareholder for at
least six months immediately prior to such person's request or is a holder of at
least five percent of all outstanding shares of Petrocon capital stock is
entitled, upon written request, to inspect and copy its relevant books and
records for any proper purpose.
Sale of Assets
IDS. Under Nevada law and IDS' articles of incorporation, the sale of all
of IDS assets must be approved by the holders of a majority of IDS outstanding
capital stock entitled to vote.
Petrocon. Under Texas law, and unless otherwise provided in Petrocon's
articles of incorporation, the sale or other disposition of all, or
substantially all, of Petrocon's assets in the usual and regular course of
business may be authorized by the board of directors, without authorization of
the shareholders. Petrocon's articles of incorporation do not contain any
provision regarding this matter. However, any sale of all or substantially all
of Petrocon's assets outside of the usual and regular course of business must be
approved by a majority of the board of directors and the holders of two-thirds
of the outstanding shares entitled to vote.
Nomination of Directors
IDS. Neither IDS' articles of incorporation or bylaws set forth the
process for nominating directors.
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Petrocon. Neither Petrocon's articles of incorporation or bylaws set forth
the process for nominating directors.
Amendment of Bylaws
IDS. Under IDS articles of incorporation, the board of directors may make,
alter, amend and repeal the bylaws. IDS' bylaws may be amended at any regular
or special meeting of the stockholders by a vote of the stockholders owning a
majority of the shares entitled to vote at such meeting. IDS' bylaws may also
be altered, amended or repealed and new bylaws may be adopted at any regular or
special meeting of the board of directors of the corporation, if notice of such
alteration or repeal is given in the notice of special meeting, by a majority
vote of the directors present at the meeting at which a quorum is present, but
any such amendment by the board of directors cannot be inconsistent with or
contrary to provisions of the bylaws adopted by the stockholders.
Petrocon. Under Petrocon's bylaws, the board of directors may amend or
repeal the bylaws, subject to applicable Texas law and Petrocon's articles of
incorporation.
Stockholder Derivative Suits
IDS. Under Nevada law, a stockholder who pursues a derivative action must
fairly and adequately represent the interest of the other stockholders in
enforcing IDS rights.
Petrocon. Under Texas law, a shareholder who pursues a derivative action
must fairly and adequately represent the interest of Petrocon in enforcing
Petrocon's rights.
Dissolution
IDS. Under Nevada law, IDS may be dissolved upon the majority vote of its
board of directors and stockholders.
Petrocon. Under Texas law, Petrocon may be dissolved upon the approval of:
. the majority of its board of directors;
. at least two-thirds of the outstanding shares within each class entitled to
vote as a class; and
. at least two-thirds of the outstanding shares otherwise entitled to vote.
Texas law further provides that Petrocon may be voluntarily dissolved by a
written consent of all shareholders.
Board of Directors
IDS. Under IDS articles of incorporation and bylaws, the number of
directors is no less than one and no more than 18, and within such parameters,
the number of directors is determined by resolution of the board of directors.
IDS currently has five directors. Following the merger, IDS will have seven
directors. IDS bylaws require that at least one member of the board of
directors be at least 18 years of age.
Petrocon. Under Petrocon's bylaws, the number of directors shall be not
less than six. The number of directors are fixed and determined by the
directors and set forth in the notice of any meeting of shareholders held for
the purposes of electing directors. Directors are elected at each annual
meeting of shareholders, and each director elected holds office until his
successor is elected and qualifies. Directors need not be residents of Texas or
shareholders of the corporation.
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Newly Created Directorships and Vacancies
IDS. Pursuant to IDS' bylaws, any vacancy in the board of directors
occurring during the year through death, resignation, removal or other cause,
including vacancies caused by an increase in the number of directors, will be
filled for the remaining portion of the director's term by the remaining
directors.
Petrocon. Under Petrocon's bylaws, any vacancy occurring in the board of
directors may be filled by election at any annual meeting or special meeting of
shareholders called for that purpose or by a majority of the remaining directors
though less than a quorum of the board of directors. A director elected to fill
a vacancy shall be elected for the unexpired term of his predecessor in office.
The number of Petrocon's directors may be increased or decreased by the
shareholders or the board of directors, but no decrease can have the effect of
shortening the term of any incumbent director. Any directorship to be filled by
reason of an increase in the number of directors may be filled by election at an
annual or special meeting of shareholders or may be filled by the board of
directors for a term of office continuing only until the next election of one or
more directors by the shareholders. However, the board of directors may not
fill more than two such directorships during the period between any two
successive annual meetings of shareholders.
Removal of Directors
IDS. Under IDS' bylaws, any of the directors may be removed either with or
without cause at any time by the vote or written consent of the shareholders
representing two-thirds of the issued and outstanding capital stock entitled to
vote.
Petrocon. Under Petrocon's bylaws, any director may be removed either for
or without cause at any special meeting of shareholders duly called and held for
such purpose.
Liability of Directors
IDS. Under IDS articles of incorporation, the personal liability of a
director or officer to IDS or its stockholders for damages for the breach of
such person's fiduciary duty to IDS is eliminated, except for:
. acts or omissions which involve intentional misconduct, fraud or a knowing
violation of the law; or
. the payment of distributions in violation of applicable Nevada law.
Petrocon. Under Petrocon's articles of incorporation, no director of
Petrocon shall be liable to Petrocon or any of its shareholders for monetary
damages for an act or omission in the director's capacity as a director, except
that the articles of incorporation do not eliminate or limit the liability of a
director to the extent the director is found liable for:
. a breach of such director's duty of loyalty to the corporation or its
shareholders;
. an act or omission not in good faith that constitutes a breach of duty of such
director to Petrocon or an act or omission that involves intentional
misconduct or a knowing violation of the law;
. a transaction from which such director received an improper benefit, whether
or not the benefit resulted from an action taken within the scope of the
director's office; or
. an act or omission for which the liability of a director is expressly provided
by an applicable statute.
Indemnification
IDS. IDS' articles of incorporation and bylaws provide that IDS will
indemnify officers and directors, and may indemnify its other employees and
agents, to the fullest extent permitted by law. The laws of the State of Nevada
permit, and in some cases require, corporations to indemnify officers,
directors, agents and employees who
110
are or have been a party to or are threatened to be made a party to litigation
relating to their service to IDS against judgments, fines, settlements and
reasonable expenses. Furthermore, a director or officer of IDS is not liable to
IDS or its stockholders for damages for breach of fiduciary duty if he acted in
good faith and in a manner which he reasonably believed to be in the best
interests of the corporation. However, officers and directors are liable for
acts or omissions which involve intentional misconduct, fraud or a knowing
violation of the law, or the payment of any unlawful distribution.
Petrocon. Under Petrocon's articles of incorporation, Petrocon shall
indemnify any person it shall have the power to indemnify under Article 2.02-1
of the Texas Business Corporation Act. Article 2.02-1 permits Petrocon to
indemnify its officers and directors, or persons who act or acted at Petrocon's
request as a director, officer or agent of another company, against reasonable
expenses incurred in a proceeding, if:
. the person acted in good faith;
. the person reasonably believed, in the case of conduct in their official
capacity as a director, that their conduct was in Petrocon's best interest;
. the person reasonably believed, in all other cases, that their conduct was at
least not opposed to Petrocon's best interest; and
. in the case of any criminal proceeding, the person had no reason to believe
their conduct was unlawful.
The determination of indemnification shall be made by a majority vote of a
disinterested quorum of the board of directors, but if no such quorum can be
obtained, then:
. by a majority vote of a committee of directors consisting of two or more
disinterested directors;
. by special legal counsel (selected by a majority vote of disinterested board
or committee members, or, if such vote cannot be obtained, then by majority
vote of all directors); or
. by the disinterested shareholders.
Change In Control Provisions
IDS. Neither IDS' articles of incorporation nor bylaws set forth any
change of control provisions.
Petrocon. Neither Petrocon's articles of incorporation nor bylaws set
forth any change of control provisions.
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DESCRIPTION OF IDS CAPITAL STOCK
The following section is a summary of the material terms of the IDS
articles of incorporation concerning capital stock of IDS. Copies of the IDS
articles of incorporation, IDS bylaws, Petrocon articles of incorporation and
Petrocon bylaws will be sent to holders of shares of IDS common stock and
Petrocon common stock upon request.
Authorized Capital Stock
Under the IDS articles of incorporation, IDS' authorized capital stock
consists of 75,000,000 shares of IDS common stock, par value $.001 per share.
While IDS is not currently authorized to issue any shares of preferred stock, if
our stockholders approve our amended articles of incorporation, we will be
authorized, subject to limitations prescribed by Nevada law, to issue up to
5,000,000 shares of preferred stock in one or more series. Nevada law provides
that the board of directors of IDS has the power to establish the voting powers,
designations, preferences, limitations, restrictions, and relative rights of the
preferred stock to be authorized.
Common Stock
The holders of IDS common stock are entitled to one vote for each share
held of record on all matters submitted to a vote of stockholders. Subject to
preferences that may be applicable to any outstanding IDS preferred stock,
holders of IDS common stock are entitled to receive ratably dividends as they
may be declared by the IDS board out of funds legally available for dividends.
In the event of a liquidation or dissolution of IDS, holders of IDS common stock
are entitled to share ratably in all assets remaining after payment of
liabilities and the liquidation preference of any outstanding IDS preferred
stock.
Holders of IDS common stock have no preemptive rights and have no rights to
convert their IDS common stock into any other securities. All of the
outstanding shares of IDS common stock are, and the shares of IDS common stock
issued in the merger will be, duly authorized, validly issued, fully paid and
nonassessable.
IDS Convertible Preferred Stock
In connection with the merger, approximately $9,300,000 of Petrocon
indebtedness owed to Equus and outstanding warrants held by Equus to purchase
1,552,571 shares of Petrocon common stock will be exchanged in part for an
aggregate of 2,500,000 shares of convertible preferred stock. (This transaction
is reflected, for financial accounting purposes, as including the cancellation
of approximately $1,822,532 in debt owed by Petrocon to Equus.) The rights,
preferences and limitations of the convertible preferred stock are as follows:
. holders of the convertible preferred stock will be entitled to receive
cumulative dividends, at an annual rate of 8.0% payable in cash or in kind
beginning on May 31, 2002;
. holders of the convertible preferred stock will be entitled to receive a
liquidation preference of $1.00 per share, subject to adjustments relating to
future issuances of common stock or recapitalizations, if we liquidate,
dissolve or wind up before any distribution or payment is made for the benefit
of the holders of our common stock;
. at any time, IDS will be entitled to redeem all or part of (but not less than
25% of the shares of convertible preferred stock then outstanding) of the
convertible preferred stock outstanding at a price equal to the then effective
liquidation preference plus accrued and unpaid dividends;
. at any time after the seventh anniversary date of the issuance of the
convertible preferred stock, the holders of not less than two-thirds of the
then outstanding convertible preferred stock may demand mandatory redemption
of all (but not less than all) of the convertible preferred stock then
outstanding at a price equal to the then effective liquidation preference plus
accrued but unpaid dividends;
. holders of the convertible preferred stock will have the right to vote on
changes to the Articles of Incorporation that adversely effect them, and, as
long as 750,000 shares of Series A Preferred Stock are outstanding, they also
have the right to approve issuances of any senior shares;
112
. holders of the convertible preferred stock will have the right, at such
holders' option, to convert all or a portion of their convertible preferred
stock into shares of our common stock at the rate of one share of common stock
for each 2.38 shares of preferred stock. If all shares were converted, this
would result in the issuance of 1,050,420, or approximately 4.41%, of our
outstanding common stock after giving effect to the merger; and
. the shares of convertible preferred stock are subject to mandatory conversion
at the option of IDS if the closing price of IDS common stock for 20
consecutive AMEX trading days exceeds a price of $3.00, with such price to be
adjusted to reflect future issuances of common stock or recapitalizations.
Transfer Agent and Registrar
Computershare Investor Services LLP is the transfer agent and registrar for
the IDS common stock and the IDS warrants and will be the transfer agent and
registrar for IDS common stock.
Stock Exchange Listing
It is a condition of the merger that the shares of IDS common stock
issuable in the merger and to be issued upon conversion of IDS' convertible
preferred stock issuable in the merger be approved for listing on the American
Stock Exchange on or prior to the effective time, subject to official notice of
issuance.
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LEGAL MATTERS
The validity of IDS common stock to be issued to Petrocon shareholders in
the merger and the convertible preferred stock to be issued to Equus will be
passed upon by Rooker, Gibson and Later, Nevada counsel to IDS. Petrocon shall
receive an opinion of Gardere Wynne Sewell LLP, counsel to Petrocon, to the
effect that, on the basis of the facts, representations and assumptions set
forth in such opinion (a) the merger constitutes a "reorganization" within the
meaning of Section 368(a) of the Code and (b) that, accordingly, (i) no gain or
loss will be recognized by Petrocon as a result of the merger and (ii) no gain
or loss will be recognized by a shareholder of Petrocon who receives IDS common
stock in exchange for shares of Petrocon common stock; except with respect to
cash received in lieu of fractional share interests.
EXPERTS
The consolidated financial statements of IDS as of and for the two years
ended December 31, 2000, included in this document or incorporated by reference
herein, have been audited by Hein + Associates LLP, independent public
accountants, as indicated in their report, and are included in this document in
reliance on their reports given upon their authority as experts in accounting
and auditing in giving these reports.
The consolidated financial statements of Petrocon as of and for the three
years ended December 31, 2000, included in this document, have been audited by
Arthur Andersen LLP, independent public accountants, as indicated in their
report with respect thereto, and are included herein in reliance upon the
authority of said firm as experts in accounting and auditing in giving said
reports.
The legal opinion relating to the tax-free nature of the transaction has
been given by Gardere Wynne Sewell LLP and is included herein in reliance upon
the authority of such firm as experts in tax matters.
114
WHERE YOU CAN FIND MORE INFORMATION
IDS has filed with the SEC this registration statement on Amendment No. Two
to Form S-4 under the Securities Act to register the shares of IDS common stock
issued in the merger to Petrocon shareholders. This registration statement,
including the attached exhibits and schedules, contains relevant information
about IDS and Petrocon. IDS incorporates by reference its Form 10-QSB for the
period ended September 30, 2001. You can inspect and copy the registration
statement at the addresses below or you can review it on the SEC's website as
set forth below.
In addition, IDS files reports, proxy statements and other information with
the SEC under the Exchange Act. Please call the SEC at 1-800-SEC-0330 for
further information on the public reference rooms. You may read and copy, at
prescribed rates, this information at the following location of the SEC: Public
Reference Room, 450 Fifth Street, N.W., Room 1024, Washington, D.C. 20549.
The SEC also maintains an Internet website that contains reports, proxy
statements and other information about issuers, like IDS, who file
electronically with the SEC. The address of that website is www.sec.gov. You
can also inspect reports, proxy statements and other information about IDS at
the offices of the AMEX at 86 Trinity Place, 5/th/ Floor, New York, New York
10006.
You can obtain material included in this document as an exhibit by
requesting them in writing or by telephone from the appropriate company at the
following address:
For IDS stockholders: For Petrocon shareholders:
Industrial Data Systems Corporation Petrocon Engineering, Inc.
Attn: Investor Relations Attn: Robert W. Raiford, Secretary
600 Century Plaza Drive, Building 140 3155 Executive Blvd.
Houston, Texas 77073-6013 Beaumont, Texas 77705-1050
(281) 821-3200, extension 215 (409) 840-2100
If you would like to request documents, please do so by _______, 2001 to
receive them before the meetings. If you request any incorporated documents
from us, we will mail them to you by first class mail, or another equally prompt
means, within one business day after we receive your request.
We have not authorized anyone to give you any information or to make any
representation about the merger or our companies that differs from or adds to
the information contained in this document or in the documents our companies
have publicly filed with the SEC. Therefore, if anyone should give you any
different or additional information, you should not rely on it. The information
contained in this document speaks only as of the date indicated on the cover of
this document unless the information specifically indicates that another date
applies.
IDS has filed this registration statement on Amendment No. Two to Form S-4
to register the IDS common stock to be issued to Petrocon shareholders in the
merger. This document is a part of that registration statement and constitutes a
prospectus of IDS in addition to being a proxy statement of each of IDS and
Petrocon. As allowed by the SEC rules, this document does not contain the
exhibits to the registration statement.
IDS will provide, without charge, its annual report on Form 10-KSB and its
quarterly reports on Forms 10-QSB for the periods ended March 31, 2001 and June
30, 2001 to each person to whom this merger proxy is delivered. If you would
like to receive these materials, please contact IDS at the address or phone
number set forth above.
We have not authorized anyone to give any information that is different
from what is contained in this document. Neither the delivery of this document
nor the issuance of IDS common stock or IDS preferred stock in the merger will
create an implication that there has been no change in the affairs of IDS or
Petrocon since the date of this document or that the information in this
document is correct as of any time after the date of this document. However, we
will continue to update this document during the period we are using it.
115
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
INDUSTRIAL DATA SYSTEMS CORPORATION AND SUBSIDIARIES (HISTORICAL):
Independent Auditor's Report............................................................. F-1
Consolidated Balance Sheet - December 31, 2000........................................... F-2
Consolidated Statements of Operations
Years Ended December 31, 1999 and 2000................................................. F-3
Consolidated Statements of Stockholders' Equity
Years Ended December 31, 1999 and 2000................................................. F-4
Consolidated Statements of Cash Flows
Years Ended December 31, 1999 and 2000................................................. F-5
Notes to Consolidated Financial Statements............................................... F-6
Unaudited Condensed Consolidated Balance Sheets as of June 30, 2001 and
December 31, 2000...................................................................... F-17
Unaudited Condensed Consolidated Statements of Operations for the
six months ended June 30, 2001 and June 30, 2000....................................... F-18
Unaudited Condensed Consolidated Statement of Cash Flows for the six months
ended June 30, 2001 and June 30, 2000.................................................. F-19
PETROCON AND SUBSIDIARIES (HISTORICAL):
Report of Independent Public Accountants................................................. F-21
Audited Consolidated Balance Sheets as of December 31, 2000 and 1999 and
Unaudited Consolidated Balance Sheet as of June 30, 2001............................... F-22
Audited Consolidated Statements of Operations for the years ended
December 31, 2000, 1999 and 1998, and Unaudited Consolidated Statements
of Operations for the six months ended June 30, 2001 and June 30, 2000................. F-23
Audited Consolidated Statements of Stockholders' Equity (Deficit)
for the years ended December 31, 2000, 1999 and 1998 and Unaudited
Consolidated Statement of Stockholders' Equity (Deficit) for
the six months ended June 30, 2001..................................................... F-24
Audited Consolidated Statements of Cash Flows for the years ended
December 31, 2000, 1999 and 1998, and Unaudited Consolidated Statements
of Cash Flows for the six months ended June 30, 2001 and June 30, 2000................. F-25
Notes to Consolidated Financial Statements............................................... F-26
F-i
INDEPENDENT AUDITOR'S REPORT
Board of Directors and Stockholders
Industrial Data Systems Corporation
We have audited the accompanying consolidated balance sheet of Industrial Data
Systems Corporation and Subsidiaries as of December 31, 2000, and the related
consolidated statements of operations, stockholders' equity and cash flows for
the years ended December 31, 1999 and 2000. These consolidated financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated 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 audits to obtain
reasonable assurance about whether the consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the consolidated 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, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
Industrial Data Systems Corporation and Subsidiaries as of December 31, 2000,
and the results of their operations and their cash flows for the years ended
December 31, 1999 and 2000, in conformity with generally accepted accounting
principles.
/s/Hein + Associates llp
Houston, Texas
March 7, 2001
F-1
Industrial Data Systems Corporation and Subsidiaries
Consolidated Balance Sheet
December 31, 2000
ASSETS
------
Current Assets:
Cash and cash equivalents $ 242,592
Municipal bond, at cost 400,000
Accounts receivable - trade, less allowance for doubtful 3,555,933
accounts of approximately $17,000
Inventory 865,341
Cost and estimated earnings in excess of billings on 330,000
uncompleted contracts
Prepaid and other 190,369
----------
Total current assets 5,584,235
Property and Equipment, net 1,404,017
Goodwill 18,450
Deposits 45,563
----------
Total assets $7,052,265
==========
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
Current Liabilities:
Notes payable $ 433,729
Current maturities - long-term debt 21,238
Current maturities - capital lease payable 24,118
Accounts payable 1,333,003
Deferred income taxes 37,000
Income taxes payable 160,013
Accrued expenses and other current liabilities 387,680
----------
Total current liabilities 2,396,781
Long-Term Debt, net of current portion 365,368
Capital lease payable, net of current portion 120,212
Deferred Income Taxes 11,000
Commitments and Contingencies (notes 5, 7,8 and 15)
Stockholders' Equity:
Common stock, $.001 par value; 75,000,000 shares authorized;
12,964,918 shares issued and outstanding 12,965
Additional paid-in capital 2,640,154
Retained earnings 1,702,285
Note receivable from stockholder (196,500)
----------
Total stockholders' equity 4,158,904
----------
Total liabilities and stockholders' equity $7,052,265
==========
See accompanying notes to these consolidated financial statements.
F-2
Industrial Data Systems Corporation and Subsidiaries
Consolidated Statements of Operations
Years Ended December 31,
---------------------------------------
1999 2000
--------------- --------------
Operating Revenues:
Engineering services $ 5,978,180 $10,739,874
Product sales 6,260,269 6,236,149
----------- -----------
12,238,449 16,976,023
Operating Expenses:
Cost of engineering services 4,378,459 8,174,972
Cost of product sales 5,011,550 4,851,782
Selling, general and administrative 2,615,922 3,427,778
----------- -----------
12,005,931 16,454,532
----------- -----------
Operating profit 232,518 521,491
Other Income (Expense):
Realized gains on marketable securities, net 50,909 -
Interest income 46,963 52,368
Interest expense (68,067) (92,296)
Other income 48,631 22,083
----------- -----------
78,436 (17,845)
----------- -----------
Income from Continuing Operations Before Provision for
Income Tax (Benefit) Expense 310,954 503,646
Provision for Income Tax (Benefit) Expense:
Federal 141,632 139,228
State 14,580 32,540
Deferred (5,000) (49,000)
----------- -----------
151,212 122,768
----------- -----------
Income from Continuing Operations 159,742 380,878
Loss from Discontinued Operations, net of tax of $.0 (1,972) -
Loss on Disposal of Discontinued Operations, net of tax (481,085) -
of approximately $146,000.
----------- -----------
Net Income (Loss) $ (323,315) $ 380,878
=========== ===========
Basic and Diluted Earnings per Common Share:
Continuing operations $ 0.01 $ 0.03
Discontinued operations $ (0.03) -
----------- -----------
Net income (loss) $ (0.02) $ 0.03
=========== ===========
Weighted Average Common Shares Outstanding 13,055,535 12,964,918
=========== ===========
See accompanying notes to these consolidated financial statements.
F-3
Industrial Data Systems Corporation and Subsidiaries
Consolidated Statements of Stockholders' Equity
Years Ended December 31, 1999 and 2000
Common Stock Additional Note Total
----------------------- Paid-in Retained Receivable Stockholders'
Shares Amount Capital Earnings Stockholder Equity
----------------------- ---------- ---------- ----------- ------------
Balances, January 1, 1999 13,073,718 13,074 2,766,163 1,644,722 (15,323) 4,408,636
Treasury stock
Acquisition: - - - - (43,750) (43,750)
Received 50,000 shares in
rescission agreement - - - - (67,045) (67,045)
Purchased 40,000 shares
Retirement (108,800) (109) (126,009) - 126,118 -
Net loss - - - (323,315) - (323,315)
----------- ------- ---------- ---------- ---------- ----------
Balances, December 31, 1999 12,964,918 12,965 2,640,154 1,321,407 - 3,974,526
Reclassification of note receivable from
stockholder - - - - (196,500) (196,500)
Net income - - - 380,878 - 380,878
----------- ------- ---------- ---------- ---------- ----------
Balances, December 31, 2000 12,964,918 $12,965 $2,640,154 $1,702,285 $ (196,500) $4,158,904
=========== ======= ========== ========== ========== ==========
See accompanying notes to these consolidated financial statements.
F-4
INDUSTRIAL DATA SYSTEMS CORPORATION
AND SUBSIDIARIES
Consolidated Statements of Cash Flows
Years Ended December 31,
-----------------------------------
1999 2000
------------ ------------
Cash Flows from Operating Activities:
Net income (loss) $ (323,315) $ 380,878
Adjustments to reconcile net income (loss) to net cash provided by
operating activities:
Depreciation and amortization 144,304 216,237
Deferred income tax benefit from continuing operations (5,000) (49,000)
Gain on sale of trading securities (50,909) -
Loss from discontinued operations 483,057 -
Changes in operating assets and liabilities, net of assets acquired
in business combinations:
Accounts receivable - trade (583,747) (1,345,098)
Inventory 91,289 (93,533)
Trading securities 427,556 -
Prepaids and other current assets - 139,072
Accounts payable 436,699 553,986
Income taxes payable (210,000) 213,013
Accrued expenses and other current liabilities (214,905) 90,226
Other, net (101,326) (78,563)
------------ ------------
Net cash provided by operating activities 93,703 27,218
Cash Flows from Investing Activities:
Capital expenditures (208,923) (367,753)
Purchase of bonds - (100,000)
------------ ------------
Net cash used in investing activities (208,923) (467,753)
Cash Flows from Financing Activities:
Short-term borrowings (repayments) (146,014) 91,719
Long-term borrowings (repayments) of debt and capital leases 16,545 (59,064)
Notes receivable stockholder - (13,500)
Purchases of treasury stock (67,045) -
------------ ------------
Net cash provided by (used in) financing activities (196,514) 19,155
------------ ------------
Net cash used in discontinued operations $ (250,115) $ -
------------ ------------
Net Change in Cash and Cash Equivalents (561,849) (421,380)
Cash and Cash Equivalents, at beginning of year 1,225,821 663,972
------------ ------------
Cash and Cash Equivalents, at end of year $ 663,972 $ 242,592
============ ============
Supplemental Disclosures:
Interest paid $ 68,709 $ 92,296
Income taxes paid $ 415,580 $ 220,000
============ ============
Non-Cash Transactions:
Purchase price adjustment - adjustment to liabilities and goodwill $ 121,649 $ -
Treasury stock received in rescission transaction (see note 14) $ 43,750 $ -
Property and equipment acquired under capital leases $ - $ 166,083
See accompanying notes to these consolidated financial statements.
F-5
INDUSTRIAL DATA SYSTEMS CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Summary of Significant Accounting Policies
------------------------------------------
Organization - The accompanying consolidated financial statements include
------------
the accounts of Industrial Data Systems Corporation ("IDSC" or the
"Company"), a Nevada corporation, and its wholly owned subsidiaries IDS
Engineering, Inc. ("IED"), a Texas corporation, Thermaire, Inc., a Texas
corporation, dba Thermal Corporation ("Thermal"); Constant Power
Manufacturing, Inc. ("CPM"), a Texas corporation, and Industrial Data
Systems, Inc. ("IDS"), a Texas corporation. The 1999 amounts include the
results of IDS Fabricated Systems, Inc. ("IDS FAB"), a Texas corporation,
which was reclassified as discontinued operations and was disposed of in
1999 (see note 14). All significant intercompany balances and transactions
have been eliminated in consolidation.
Cash and Cash Equivalents - Cash and cash equivalents include cash in bank
-------------------------
and investments in highly liquid money market mutual funds.
Inventory - Inventory is composed primarily of raw materials and component
---------
parts (computer components, sheet metal, copper tubing, blower fans and fan
motors) and is carried at the lower of cost or market value, with cost
determined on the first-in, first-out ("FIFO") method of accounting.
Revenue and Cost on Fixed-Fee Contracts Recognition - The Company's
---------------------------------------------------
revenues are composed of product sales and engineering service revenue. The
Company recognizes service revenue when such services are performed and
product sales upon shipment to the customer.
Profits and losses on fixed-fee contracts are recorded on the percentage-
of-completion method of accounting, measured by the percentage-of-contract
costs incurred to date to estimated total contract costs for each contract.
Contract costs include amounts paid to subcontractors. Anticipated losses
on uncompleted construction contracts are charged to operations as soon as
such losses can be estimated. Changes in job performance, job conditions,
estimated profitability and final contract settlements may result in
revisions to costs and income and are recognized in the period in which the
revisions are determined.
The asset, "costs and estimated earnings in excess of billings on
uncompleted contracts," represents revenues recognized in excess of amounts
billed.
F-6
INDUSTRIAL DATA SYSTEMS CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Summary of Significant Accounting Policies (continued)
------------------------------------------
Marketable Securities - Marketable securities to be held to maturity are
---------------------
stated at amortized cost. Marketable securities classified as available-
for-sale are stated at market value, with unrealized gains and losses
reported as a separate component of stockholders' equity, net of deferred
income taxes. If a decline in market value is determined to be other than
temporary, any such loss is charged to earnings. Trading securities are
stated at fair value, with unrealized gains and losses recognized in
earnings. The Company records the purchases and sales of marketable
securities and records realized gains and losses on the trade date.
Realized gains or losses on the sale of securities are recognized on the
specific identification method.
Property and Equipment - All property and equipment is stated at cost,
----------------------
adjusted for accumulated depreciation. Depreciation on all property and
equipment, other than land, building and improvements, is calculated using
an accelerated method over the estimated useful lives of the related
assets, which is five years. Depreciation on the building is calculated
using a straight-line method over the useful life, which is 40 years.
Leasehold improvements are amortized over the term of the related lease.
Goodwill - The Company capitalizes the excess purchase price over the fair
--------
value of net assets acquired ("goodwill") and amortizes this intangible
asset on a straight-line basis over 5-10 years.
Long-lived Assets - The Company reviews for the impairment of long-lived
-----------------
assets and certain identifiable intangibles whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. An impairment loss would be recognized when estimated future
cash flows expected to result from the use of the asset and its eventual
disposition is less than its carrying amount. The Company has not
identified any such impairment losses.
Income Taxes - The Company accounts for deferred income taxes in accordance
------------
with the asset and liability method, whereby deferred income taxes are
recognized for the tax consequences of temporary differences by applying
enacted statutory tax rates applicable to future years to differences
between the financial statement and tax bases of its existing assets and
liabilities. The provision for income taxes represents the current tax
payable or refundable for the period plus or minus the tax effect of the
net change in the deferred tax assets and liabilities during the period.
Stock Based Compensation - The Company applies SFAS No.123, Accounting for
------------------------
stock-Based Compensation. SFAS No.123 encourages, but does not require,
companies to recognize compensation expense for grants of stock, stock
options, and other equity instruments to employees based on fair value.
Companies that do not adopt the fair value accounting rules must disclose
the impact of adopting the new method in the notes to the financial
statements. Transactions in equity instruments with non-employee for goods
or services must be accounted for on the fair value method. The Company has
elected not
F-7
INDUSTRIAL DATA SYSTEMS CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Summary of Significant Accounting Policies (continued)
------------------------------------------
to adopt the fair value accounting prescribed by SFAS No.123 for employees,
and is subject only to the disclosure requirements prescribed by SFAS
No.123.
Earnings Per Share - Basic earnings per share was computed by dividing net
------------------
income by the weighted average common shares outstanding as of December 31,
1999 and 2000. The options outstanding at December 31, 1999 and 2000 (see
note 9) were not considered in the computation of diluted EPS for the year
ended December 31, 1999 and 2000 since their effect would have been
antidilutive.
Use of Estimates - The preparation of the Company's consolidated financial
----------------
statements in conformity with generally accepted accounting principles
requires the Company's management to make estimates and assumptions that
affect the amounts reported in these financial statements and accompanying
results. Actual results could differ from these estimates.
Fair Value of Financial Instruments - The fair value of financial
-----------------------------------
instruments, primarily accounts receivable, notes receivable, bonds,
accounts payable and notes payable, closely approximate the carrying values
of the instruments due to the short-term maturities of such instruments.
Comprehensive Income - Comprehensive income is defined as all changes in
--------------------
stockholders' equity, exclusive of transactions with owners, such as
capital investments. Comprehensive income includes net income or loss,
changes in certain assets and liabilities that are reported directly in
equity, such as translation adjustments on investments in foreign
subsidiaries and certain changes in minimum pension liabilities. The
Company's comprehensive income (loss) is equal to net income (loss) for all
periods presented in these financial statements.
Reclassifications - Amounts in prior years' financial statements are
-----------------
reclassified as necessary to conform with the current year's presentation.
Such reclassifications had no effect on net income.
2. Notes Receivable - Stockholder
------------------------------
The Company has notes receivable due from the majority stockholder of the
Company totaling $150,000 at December 31, 2000. The notes receivable are
unsecured, due on demand and bear interest at a rate of 9% per annum.
Interest on the notes is due annually. During the years ended December 31,
1999 and 2000, the Company recognized interest income of approximately
$13,500 on these notes. The balance at December 31, 2000 included accrued
interest receivable of $46,500. The note receivable and accrued interest at
December 31, 2000 has been classified as a reduction of stockholders'
equity in the accompanying financial statements.
F-8
INDUSTRIAL DATA SYSTEMS CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
3. Property and Equipment
----------------------
Property and equipment consisted of the following at December 31, 2000:
Land $ 90,000
Furniture and fixtures 214,707
Computer equipment 492,636
Building 605,000
Shop equipment 332,045
Building and leasehold improvements 167,228
----------
1,901,616
Accumulated depreciation and amortization (497,599)
----------
$1,404,017
==========
4. Fixed-Fee Contracts
-------------------
Costs, estimated earnings and billings on uncompleted contracts consisted
of the following at December 31, 2000:
Costs incurred on uncompleted contracts $ 1,745,000
Estimated earnings on uncompleted contracts 1,004,000
-----------
2,749,000
Less billings to date (2,419,000)
-----------
$ 330,000
===========
These amounts are included in the accompanying balance sheet under the
following captions:
Costs and estimated earnings in excess of billings $330,000
on uncompleted contracts
Billings in excess of costs and estimated earnings -
on uncompleted contracts --------
$330,000
========
The following summarizes the results of fixed fee contracts:
Revenue Cost Gross Profit
Year Ended December 31, 2000 Earned Incurred Recognized
---------------------------- ---------- ---------- ----------
Completed contracts $1,590,000 $1,296,000 $ 294,000
Uncompleted contracts 2,749,000 1,745,000 1,004,000
---------- ---------- ----------
$4,339,000 $3,041,000 $1,298,000
========== ========== ==========
F-9
INDUSTRIAL DATA SYSTEMS CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
4. Fixed-Fee Contracts (continued)
-------------------
Accounts receivable related to contracts consisted of the following at
December 31, 2000:
Completed contracts $426,536
Uncompleted contracts 501,148
Retainage -
--------
$927,684
========
The Company did not have any significant fixed fee contracts as of and for
the year ended December 31, 1999.
5. Notes Payable
-------------
The Company entered into a Revolving Credit Note with a bank on April 24,
2000 in the amount of $1,250,000, bearing interest at prime + .5% (10% at
December 31, 2000) and maturing on April 24, 2001. The outstanding balance
due at December 31, 2000 was approximately $362,000. This note is
collateralized by the accounts receivable and inventory of the Company. The
agreement contains certain covenants, the most restrictive of which
requires the Company to maintain consolidated tangible net worth, as
defined, of at least $3,250,000.
The Company is financing a portion of its insurance each year on a short-
term basis, with a balance of approximately $72,000 at December 31, 2000.
6. Long-Term Debt
--------------
The Company has a term note payable with a bank of $450,000 at 8.88%. The
loan, which expires on February 28, 2002, is collateralized by land and
building. There was $386,606 outstanding under this note at December 31,
2000. Interest on the outstanding amount is due and payable monthly.
Future maturities of long-term debt are as follows:
Years Ending December 31,
------------------------
2001 $ 21,238
2002 365,368
--------
Total 386,606
Less current portion (21,238)
--------
Long-term debt $365,368
========
F-10
INDUSTRIAL DATA SYSTEMS CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
7. Capital Leases and Operating Leases
-----------------------------------
The Company leases equipment and office space under long-term lease
agreements. The leases covering certain pieces of equipment, which expire
over the next five years, are classified as capital leases. Property and
equipment includes equipment under capital leases of approximately
$166,000, less accumulated amortization of approximately $18,000 at
December 31, 2000.
The future minimum lease payments for capital leases and for operating
leases (with initial or remaining noncancellable terms in excess of one
year) as of December 31, 2000 follow:
Years Ending December 31, Capital Operating
------------------------ ---------- ---------
2001 $ 37,978 $320,690
2002 41,431 264,863
2003 41,431 39,415
2004 41,431 -
2005 21,905 -
---------- ----------
Total minimum lease payments 184,176 $624,968
========== ==========
Less amount representing interest (39,846)
---------- ----------
Present value of net minimum lease payments 144,330
Less current maturities (24,118)
----------
$120,212
==========
Rental expense for all operating leases, including those with terms less
than one year, amounted to approximately $109,000 and $275,000 for the
years ended December 31, 1999 and 2000, respectively.
8. Profit Sharing Plan
-------------------
The Company has a 401(k) profit sharing plan (the "Plan") covering
substantially all employees. Under the terms of the Plan, the Company will
make matching contributions equal to 50% of employee contributions up to 6%
of employee compensation, as defined. Employees may make contributions up
to 15% of their compensation, subject to certain maximum contribution
limitations. The employer's contributions vest on a schedule of 25% per
year for four years. The Company made contributions to the Plan of
approximately $120,000 and $127,000, respectively, for the years ended
December 31, 1999 and 2000, respectively.
F-11
INDUSTRIAL DATA SYSTEMS CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
9. Stock Option Plan
-----------------
In June 1998, the Company created the Industrial Data Systems Corporation
1998 Incentive Plan (the "Option Plan"). The Option Plan provides for
grants of nonstatutory options, incentive stock options, restricted stock
awards and stock appreciation rights. No compensation cost has been
recognized for grants under the Option Plan because the exercise price of
the options granted to employees equals the market price of the stock on
the date of the grants. Had compensation cost of the Option Plan been
determined based on the fair value at the grant date for awards in 1999 and
2000 consistent with the provisions of SFAS No. 123, the Company's pre-tax
income in 1999 and 2000 would have been reduced by approximately $20,000.
The fair value of each option granted is estimated on the date of grant
using the Black-Scholes option-pricing model with the following weighted
average assumptions used for grants in 1999 and 2000 dividend yield of 0%,
expected volatility of 94% and 123%, risk-free interest rates of 6%, and
expected lives of two years.
Under the Option Plan, the total number of shares of common stock that may
be granted is 1,200,000. Each option granted in 1999 and 2000 has an
exercise price of $1.25 and $1.00 per share, respectively, and vest over 48
months. The maximum term of the options is ten years.
The following table summarizes stock option activity:
Outstanding, January 1, 1999 -
Granted 200,000
Canceled or expired -
Exercised -
--------
Outstanding, December 31, 1999 200,000
========
Exercisable at December 31, 1999 5,000
========
Weighted-average fair value of options, granted during the year $ .42
========
Weighted-average fair value of options at December 31, 2000 $ .42
========
Outstanding, January 1, 2000 200,000
Granted 66,000
Canceled or expired (40,000)
Exercised -
--------
Outstanding, December 31, 2000 226,000
========
Exercisable at December 31, 2000 45,000
========
Available for grant at December 31, 2000 974,000
========
Weighted-average fair value of options, granted during the year $ .43
========
Weighted-average fair value of options at December 31, 2000 $ .43
========
F-12
INDUSTRIAL DATA SYSTEMS CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
10. Concentration of Credit Risk and Major Customers
------------------------------------------------
The Company manufactures and distributes industrial and portable computers
and computer monitors, power systems and battery chargers, and air handling
equipment for air conditioning and heating systems to commercial companies
primarily in the southern states and provides pipeline engineering and
fabricated systems and services primarily to major integrated oil and gas
companies, throughout the world. The Company performs ongoing credit
evaluations of its customers and generally does not require collateral. The
Company assesses its credit risk and provides an allowance for doubtful
accounts for any accounts, which it deems doubtful for collection.
For the years ended December 31, 1999 and 2000, the Company had sales to
one and two major customers in the Engineering segment totaling
approximately $3,460,000 and $4,200,000, respectively, which represent 24%
and 25% of total revenues, respectively. At December 31, 2000, amounts due
from three customers who individually had amounts due in excess of 10% of
trade receivables totaled $1,580,627.
11. Stockholders' Equity
--------------------
In 1999, the Company purchased 40,000 shares of its own stock for $67,045
under a program approved by the Board of Directors to repurchase up to
400,000 shares of Company common stock at no more than $5 per share. Also
in 1999, as part of a rescission agreement, the Company received back
50,000 shares of the Company common stock that had been issued during 1998
in the acquisition of IDS FAB (see note 14). All treasury shares were
retired in 1999
12. Federal Income Taxes
--------------------
The following is a reconciliation of expected to actual income tax expense
from continuing operations:
Years Ended December 31,
-------------------------------
1999 2000
------------ ------------
Federal income tax expense at 34% $105,724 $129,499
State and foreign taxes 9,622 21,476
Nondeductible expenses 3,400 9,200
Other 32,466 (37,407)
-------- --------
$151,212 $122,768
======== ========
F-13
INDUSTRIAL DATA SYSTEMS CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
12. Federal Income Taxes (continued)
--------------------
The components of the Company's deferred tax liability consisted of the
following at December 31, 1999:
Deferred tax asset:
Allowance for doubtful accounts $ 6,000
Deferred tax liabilities:
Tax accounting change from cash basis to accrual basis - (43,000)
CPM Acquisition
Depreciation (11,000)
--------
Deferred tax liability, net $(48,000)
========
13. Segment Information
-------------------
The Company operates in three business segments: (1) engineering consulting
services primarily to major integrated oil and gas companies; (2) the
manufacture and distribution of air handling equipment for HVAC systems to
commercial companies; and (3) the manufacture and distribution of
uninterruptible power systems, battery chargers and industrial grade
computer systems for specialty applications. Sales, operating income,
interest income and expense, identifiable assets, capital expenditures and
depreciation set forth in the following table are the results of the three
segments. The amount in corporate and eliminations includes amounts to
eliminate intercompany items, including notes receivable and notes payable.
F-14
INDUSTRIAL DATA SYSTEMS CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
13. Segment Information (continued)
-------------------
Segment information for the years 1999 and 2000 was as follows:
(Thousands)
-----------------------------------------------------------------------------------------------------------------------------------
1999
-----------------------------------------------------------------------------------------------------------------------------------
Power Systems
and Computer
Engineering Air Handling Equipment Corporate Total
------------- -------------- ------------ ----------- -------------
Net sales from external $ 5,978 $ 3,151 $ 3,109 $ - $ 12,238
customers
Operating profit (loss) 428 (38) (157) - 233
Interest income - - - 47 47
Interest expense - - - 68 68
Depreciation and amortization 50 58 36 - 144
Total assets 1,735 1,719 2,409 51 5,914
Capital expenditures $ 121 $ 88 $ - $ - $ 209
-----------------------------------------------------------------------------------------------------------------------------------
2000
-----------------------------------------------------------------------------------------------------------------------------------
Net sales from external $ 10,740 $ 3,421 $ 2,815 $ - $ 16,976
customers
Operating profit (loss) 762 (24) (217) 521
Interest income - - - 52 52
Interest expense - 92 - - 92
Depreciation and amortization 96 84 36 - 216
Total assets 3,788 1,600 1,664 - 7,052
Capital expenditures $ 316 $ 24 $ 28 $ - $ 368
-----------------------------------------------------------------------------------------------------------------------------------
14. Discontinued Operations
-----------------------
On October 28, 1999, the Company entered into a settlement agreement with
the former owner of IDS FAB to rescind the original acquisition agreement
dated November 1, 1998. As a result of the settlement agreement, the
Company received the originally issued 50,000 shares of its common stock,
valued at $43,750 at the date of the rescission, back from the former owner
of IDS FAB and transferred the stock of IDS FAB to the former owner. All
assets and liabilities of IDS FAB were transferred back to and assumed by
the former owner of IDS FAB.
In the first two fiscal quarters of the year ended December 31, 1999, prior
to determination to dispose of the segment, the Company had recognized a
loss of approximately $765,000 related to impairment of assets of IDS FAB.
In the fourth quarter of 1999, this impairment charge was reclassified to
be included in the loss on disposal of discontinued operations.
F-15
INDUSTRIAL DATA SYSTEMS CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
14. Discontinued Operations (continued)
-----------------------
The discontinued segment recognized no sales revenue in 1999. Additionally,
included in the loss on disposal of discontinued operations is
approximately $85,000 of legal fees related to the disposition.
15. Contingencies
-------------
The Company is subject to legal proceedings and claims which have arisen in
the ordinary course of its business. These actions when ultimately
concluded and determined will not, in the opinion of management, have a
material effect on results of operations or the financial condition of the
Company.
F-16
INDUSTRIAL DATA SYSTEMS CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
June 30, 2001 December 31, 2000
-------------- ------------------
(unaudited)
ASSETS
------
CURRENT ASSETS:
Cash and cash equivalents $ 322,905 $ 242,592
Municipal bond, at cost 400,000 400,000
Accounts receivable - trade, less allowance for doubtful accounts of
approximately $19,000 for 2001 and $17,000 for 2000 3,907,218 3,555,933
Inventory 813,684 865,341
Cost and estimated earnings in excess of billings on uncompleted contracts 480,181 330,000
Prepaid and other 227,609 190,369
---------- ----------
Total current assets 6,151,597 5,584,235
PROPERTY AND EQUIPMENT, NET 1,543,725 1,404,017
GOODWILL 10,350 18,450
OTHER ASSETS 346,541 45,563
---------- ----------
Total assets $8,052,213 $7,052,265
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
CURRENT LIABILITIES:
Notes payable to bank $ 374,991 $ 433,729
Current portion - long-term debt 21,238 21,238
Current portion - capital lease obligation 20,929 24,118
Accounts payable 1,133,515 1,333,003
Billings in excess of cost and estimated earnings on uncompleted contracts 70,608 0
Deferred income taxes 0 37,000
Income taxes payable 363,783 160,013
Accrued expenses and other current liabilities 747,011 387,680
---------- ----------
Total current liabilities 2,732,075 2,396,781
NOTE PAYABLE TO BANK, TERM 355,387 365,368
CAPITAL LEASE OBLIGATION, NET OF CURRENT PORTION 158,845 120,212
DEFERRED INCOME TAX 16,000 11,000
---------- ----------
Total liabilities 3,262,307 2,893,361
STOCKHOLDERS' EQUITY:
Common stock, $.001 par value; 75,000,000 shares authorized; 12,964,918
shares issued and outstanding 12,965 12,965
Note receivable from stockholder (196,500) (196,500)
Additional paid-in capital 2,640,154 2,640,154
Retained earnings 2,333,287 1,702,285
---------- ----------
Total stockholders' equity 4,789,906 4,158,904
---------- ----------
Total liabilities and stockholders' equity $8,052,213 $7,052,265
========== ==========
See accompanying notes to these condensed consolidated financial statements.
F-17
INDUSTRIAL DATA SYSTEMS CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
Three Months Ended June 30, Six Months Ended June 30,
2001 2000 2001 2000
----------- ----------- ----------- -----------
OPERATING REVENUES: $ 5,149,490 $ 3,331,742 $11,103,396 $ 6,723,953
OPERATING EXPENSES:
Cost of goods sold 3,715,135 2,630,377 8,342,236 5,029,627
Selling, general and administrative 866,269 881,712 1,621,166 1,594,287
Depreciation and amortization 66,603 41,126 99,196 86,754
----------- ----------- ----------- -----------
Operating profit 501,483 (221,473) 1,040,798 13,285
OTHER INCOME (EXPENSE)
Interest income 18,123 17,723 32,754 32,012
Interest expense (21,823) (21,342) (39,050) (38,344)
----------- ----------- ----------- -----------
INCOME (LOSS) FROM CONTINUING OPERATIONS
BEFORE PROVISION (BENEFIT) FOR INCOME TAXES 497,783 (225,092) 1,034,502 6,953
PROVISION (BENEFIT) FOR INCOME TAXES 205,000 (71,254) 403,500 0
----------- ----------- ----------- -----------
NET INCOME (LOSS) $ 292,783 $ (153,838) $ 631,002 $ 6,953
=========== =========== =========== ===========
BASIC AND DILUTED EARNINGS PER COMMON SHARE $ 0.023 $ (0.012) $ 0.049 $ 0.001
=========== =========== =========== ===========
BASIC AND DILUTED WEIGHTED AVERAGE COMMON SHARES
OUTSTANDING 12,964,918 12,964,918 12,964,918 12,964,918
=========== =========== =========== ===========
See accompanying notes to these consolidated financial statements.
F-18
INDUSTRIAL DATA SYSTEMS CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Six Months Ended June 30,
-------------------------------------------
2001 2000
--------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ 631,002 $ 6,953
Non-cash change in working capital 70,655 41,126
Changes in working capital (385,805) (258,120)
--------- ---------
Net cash provided (used) by operating activities $ 315,852 $(210,041)
CASH FLOWS FROM INVESTING ACTIVITIES:
Property and equipment acquired (202,263) (405,717)
Purchase of marketable securities -- --
Addition of capital lease -- 151,471
--------- ---------
Net cash used in investing activities $(202,263) $(254,246)
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Increase in notes payable (15,238) --
Repayment on notes payable, net (18,038) (52,217)
--------- ---------
Net cash used in financing activities $ (33,276) $ (52,217)
--------- ---------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 80,313 (516,504)
CASH AND CASH EQUIVALENTS, at beginning of period $ 242,592 $ 663,972
--------- ---------
CASH AND CASH EQUIVALENTS, at end of period $ 322,905 $ 147,468
========= =========
Supplemental Cash Flow Information:
Interest paid $ 21,823 $ 38,344
========= =========
Income taxes paid $ 235,000 --
========= =========
Non-Cash
Equipment lease $ 43,700 --
========= =========
See accompanying notes to these consolidated financial statements.
F-19
INDUSTRIAL DATA SYSTEMS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION:
The condensed consolidated financial statements of Industrial Data Systems
Corporation (the "Company") included herein have been prepared by the
Company, without audit, pursuant to the rules and regulations of the
Securities and Exchange Commission. Certain information and footnote
disclosures normally included in financial statements prepared in accordance
with generally accepted accounting principles have been condensed or omitted
pursuant to such rules and regulations, although the Company believes that
the disclosures are adequate to make the information presented not
misleading. The condensed consolidated financial statements should be read
in conjunction with the financial statements and the notes thereto included
in the Company's latest Annual Report to Shareholders and the Annual Report
on Form 10-KSB for the year ended December 31, 2000. In the opinion of the
Company, all adjustments, consisting only of normal recurring adjustments,
necessary to present fairly the financial position as of June 30, 2001; the
results of operations for the three months and six months ended June 30, 2001
and 2000; and cash flows for the six months ended June 30, 2001 and 2000 have
been included. The foregoing interim results are not necessarily indicative
of the results of the operations for the full fiscal year ending December 31,
2001.
2. NOTE RECEIVABLE FROM STOCKHOLDER:
At June 30, 2001, the Company had notes receivable due from a stockholder in
the amount of $196,500. The notes were reclassified to the Equity section of
the Balance Sheet at December 31, 2000, due to inactivity in principal and
interest payments. The notes are unsecured, due on demand and bear interest
at a rate of 9% per annum. Interest on the notes is due annually.
3. CAPITALIZED MERGER COSTS:
At June 30, 2001, the Company had approximately $347,000 in capitalized costs
related to the proposed Petrocon Engineering, Inc. merger transaction.
4. SEGMENT INFORMATION
Segment information for the six months ended June 30, 2000 and 2001 was
as follows:
(Thousands)
-----------------------------------------------------------------
2000
-----------------------------------------------------------------
Air
Engineering Handling Manufacturing Corporate Total
----------- -------- ------------- --------- -----
Net sales from external customers $3,650 $1,590 $1,484 $ -- $ 6,724
Operating profit (loss) 250 (120) (115) -- 13
Interest income -- -- -- 32 32
Interest expense -- -- -- 38 38
Depreciation and amortization 40 29 18 -- 87
Total assets 2,254 1,830 1,031 1,009 6,124
Capital expenditures $ 295 $ 93 $ 18 $ -- $ 406
(Thousands)
-----------------------------------------------------------------
2001
-----------------------------------------------------------------
Air
Engineering Handling Manufacturing Corporate Total
----------- -------- ------------- --------- -----
Net sales from external customers $7,279 $1,967 $1,857 $ -- $11,103
Operating profit (loss) 880 155 6 -- 1,041
Interest income -- -- -- 33 33
Interest expense -- -- -- 39 39
Depreciation and amortization 43 43 13 -- 99
Total assets 4,585 1,843 1,186 438 8,052
Capital expenditures $ 111 $ 51 $ 40 $ -- $ 202
F-20
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Petrocon Engineering, Inc.:
We have audited the accompanying consolidated balance sheets of Petrocon
Engineering, Inc., and subsidiaries (the Company) as of December 31, 2000 and
1999, and the related consolidated statements of operations, stockholders'
equity (deficit) and cash flows for the three years ended December 31, 2000,
1999 and 1998. These consolidated financial statements are the responsibility
of the Company's management. Our responsibility is to express an opinion on
these consolidated financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. 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 consolidated 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, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of the Company as of
December 31, 2000 and 1999, and the results of its operations and its cash flows
for the three years ended December 31, 2000, 1999 and 1998, in conformity with
accounting principles generally accepted in the United States.
/s/ Arthur Andersen LLP
Houston, Texas
April 27, 2001 (except for the matters
disclosed in the second paragraph of
Note 1 and the third paragraph of
Note 8, for which the date is
May 14, 2001)
F-21
PETROCON ENGINEERING, INC., AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
JUNE 30, 2001 (UNAUDITED), AND DECEMBER 31, 2000 AND 1999
2001 2000 1999
------------ ------------ ------------
(Unaudited)
ASSETS
------
CURRENT ASSETS:
Cash and cash equivalents $ 39,016 $ 249,732 $ 654,759
Trade receivables, net 10,918,719 10,356,386 11,720,378
Costs and estimated profits in excess of billings on
uncompleted contracts 661,643 1,416,386 1,421,915
Prepaid expenses and other 289,073 429,522 1,162,237
Income tax receivable - - 1,541,692
------------ ------------ ------------
Total current assets 11,908,451 12,452,026 16,500,981
PROPERTY AND EQUIPMENT, net 3,605,786 3,804,400 5,134,922
INVESTMENT IN PETROCON ARABIA, LTD. - - 542,751
GOODWILL, net 4,542,116 4,596,448 9,924,059
OTHER ASSETS 360,249 447,328 538,369
------------ ------------ ------------
Total assets $ 20,416,602 $ 21,300,202 $ 32,641,082
============ ============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
----------------------------------------------
CURRENT LIABILITIES:
Accounts payable and accrued expenses $ 6,117,944 $ 7,831,915 $ 11,107,088
Line of Credit 5,376,403 - -
Current maturities of long-term debt 1,999,509 2,215,803 6,642,707
Income tax payable 130,699 229,558 -
Estimated loss on sale of subsidiary - - 731,567
Billings in excess of costs and estimated profits on
uncompleted contracts 372,525 206,478 437,838
------------ ------------ ------------
Total current liabilities 13,997,080 10,483,754 18,919,200
LONG-TERM LIABILITIES:
Long-term debt, net of current portion 11,775,385 15,844,123 18,912,989
------------ ------------ ------------
Total liabilities 25,772,465 26,327,877 37,832,189
------------ ------------ ------------
STOCKHOLDERS' EQUITY (DEFICIT):
Preferred stock, $1.00 par value; 1,000,000 shares
authorized, no shares issued or outstanding - - -
Common stock, $.001 par value; 20,000,000 shares authorized,
6,432,845 shares, 6,219,354 shares and 5,801,520 shares
issued and outstanding, respectively 6,433 6,220 5,802
Additional paid-in capital 9,061,830 9,059,908 9,056,148
Retained deficit (14,424,126) (14,093,803) (14,253,057)
------------ ------------ ------------
Total stockholders' equity (deficit) (5,355,863) (5,027,675) (5,191,107)
------------ ------------ ------------
Total liabilities and stockholders' equity (deficit) $ 20,416,602 $ 21,300,202 $ 32,641,082
============ ============ ============
The accompanying notes are an integral part of these consolidated financial
statements.
F-22
PETROCON ENGINEERING, INC., AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE SIX MONTHS ENDED JUNE 30, 2001 (UNAUDITED) AND 2000 (UNAUDITED), AND
FOR THE YEARS ENDED DECEMBER 31, 2000, 1999 AND 1998
Six Months Ended
June 30 Year Ended December 31
----------------------------- -----------------------------------------------
2001 2000 2000 1999 1998
----------- ----------- ----------- ------------ ------------
(Unaudited)
REVENUES $34,317,502 $33,043,875 $68,343,696 $ 80,994,577 $100,900,724
DIRECT COSTS 28,041,441 27,359,004 55,932,211 73,242,796 82,757,589
----------- ----------- ----------- ------------ ------------
Gross profit 6,276,061 5,684,872 12,411,485 7,751,781 18,143,135
COST ASSOCIATED WITH MERGER 339,000
ESTIMATED LOSS ON ASSETS HELD FOR SALE - - - 731,567 -
COSTS ASSOCIATED WITH FAILED EQUITY
OFFERING - - - - 3,753,537
GENERAL AND ADMINISTRATIVE EXPENSES 5,270,491 5,219,031 10,193,816 16,938,427 17,261,284
----------- ----------- ----------- ------------ ------------
Income (loss) from operations 666,570 465,841 2,217,669 (9,918,213) (2,871,686)
OTHER INCOME (EXPENSE):
Interest expense, net (1,004,754) (1,041,063) (2,072,688) (2,201,204) (1,654,840)
Equity in losses and estimated
losses on sale of Petrocon Arabia
Ltd. - - - (2,880,113) (243,441)
Other 17,435 21,463 56,807 (56,769) 112,912
----------- ----------- ----------- ------------ ------------
Income (loss) before income tax
and extraordinary item (320,749) (553,759) 201,788 (15,056,299) (4,657,055)
INCOME TAX PROVISION (BENEFIT) 9,574 (94,411) 42,534 (129,014) (284,061)
----------- ----------- ----------- ------------ ------------
Net income (loss) before
extraordinary item (330,323) (459,348) 159,254 (14,927,285) (4,372,994)
LOSS ON EARLY EXTINGUISHMENT OF DEBT,
net of $97,803 tax benefit - - - (152,980) -
----------- ----------- ----------- ------------ ------------
NET INCOME (LOSS) $ (330,323) $ (459,348) $ 159,254 $(15,080,265) $ (4,372,994)
=========== =========== =========== ============ ============
Earnings per share:
Basic earnings (loss) per share on
income (loss) before extraordinary
item $ (0.05) $ (0.07) $ 0.03 $ (2.57) $ (0.76)
Per share effect of early
extinguishment of debt, net of tax - - - (0.03) -
benefit ----------- ----------- ----------- ------------ ------------
Basic earnings (loss) per share on
net income (loss) $ (0.05) $ (0.07) $ 0.03 $ (2.60) $ (0.76)
=========== =========== =========== ============ ============
Basic weighted average shares
outstanding 6,290,518 6,219,354 6,219,354 5,801,520 5,720,866
=========== =========== =========== ============ ============
Diluted earnings (loss) per share
on income (loss) before
extraordinary item $ (0.05) $ (0.07) $ 0.02 $ (2.57) $ (0.76)
Per share effect of early
extinguishment of debt, net of tax
benefit - - - (0.03) -
----------- ----------- ----------- ------------ ------------
Diluted earnings (loss) per share
on net income (loss) $ (0.05) $ (0.07) $ 0.02 $ (2.60) $ (0.76)
=========== =========== =========== ============ ============
Diluted weighted average shares
outstanding 6,290,518 6,219,354 8,103,590 5,801,520 5,720,866
=========== =========== =========== ============ ============
The accompanying notes are an integral part of these consolidated financial
statements.
F-23
PETROCON ENGINEERING, INC., AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
FOR THE SIX MONTHS ENDED JUNE 30, 2001 (UNAUDITED), AND
FOR THE YEARS ENDED DECEMBER 31, 2000, 1999 AND 1998
Common Stock Additional Retained Total
------------------- Paid-In Earnings Stockholders'
Shares Amount Capital (Deficit) Equity (Deficit)
--------- ------- ----------- ------------- ----------------
RESTATED BALANCE, 5,717,658 $5,718 $8,997,029 $ 5,200,202 $ 14,202,949
December 31, 1997
Common stock issued 5,500 5 43,032 - 43,037
Stock options vested during the year - - 16,087 - 16,087
Net loss - - - (4,372,994) (4,372,994)
--------- ------ ---------- ------------ ------------
BALANCE, December 31, 1998 5,723,158 5,723 9,056,148 827,208 9,889,079
Common stock issued 78,362 79 - - 79
Net loss - - - (15,080,265) (15,080,265)
--------- ------ ---------- ------------ ------------
BALANCE, December 31, 1999 5,801,520 5,802 9,056,148 (14,253,057) (5,191,107)
Common stock issued 417,834 418 3,760 - 4,178
Net income - - - 159,254 159,254
--------- ------ ---------- ------------ ------------
BALANCE, December 31, 2000 6,219,354 6,220 9,059,908 (14,093,803) (5,027,675)
Common stock issued, unaudited 213,491 213 1,922 - 2,135
Net loss, unaudited - - - (330,323) (330,323)
--------- ------ ---------- ------------ ------------
BALANCE, June 30, 2001, unaudited 6,432,845 $6,433 $9,061,830 $(14,424,126) $ (5,355,863)
========= ====== ========== ============ ============
The accompanying notes are an integral part of these consolidated financial
statements.
F-24
PETROCON ENGINEERING, INC., AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 2001 (UNAUDITED) AND 2000 (UNAUDITED), AND
FOR THE YEARS ENDED DECEMBER 31, 2000, 1999 AND 1998
Six Months Ended
June 30 Year Ended December 31
----------------------------- -----------------------------------------------
2001 2000 2000 1999 1998
------------ ------------ ------------ ------------- -------------
(Unaudited)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ (330,323) $ (459,348) $ 159,254 $ (15,080,265) $ (4,372,994)
Adjustments to reconcile net income
(loss) to net cash provided by
(used in) operating activities-
Depreciation and amortization 528,684 635,410 1,213,824 2,314,826 1,884,520
Equity in undistributed losses and
estimated losses on sale of Petrocon
Arabia, Ltd. - - - 2,880,113 243,441
Loss on extinguishment of debt - - - 250,783 -
Compensation to management with
Company stock - - - - 342,237
Estimated loss on assets held for sale - - - 731,567 -
(Gain) loss on disposition of
equipment (6,977) (5,955) 4,118 309,902 73,745
Deferred income taxes - - - 874,184 (758,122)
Changes in operating assets and
liabilities-
Trade receivables (562,333) 830,817 1,923,992 2,061,422 1,616,131
Costs and estimated profits in excess
of billings on uncompleted contracts 754,743 931,955 5,529 4,216,651 (3,757,149)
Prepaid expenses and other 117,790 426,987 888,016 201,890 347,370
Income tax receivable/payable (98,859) 36,929 1,771,250 (184,727) (1,882,967)
Accounts payable and accrued expenses (1,095,023) (3,423,290) (3,105,518) (339,998) 6,450,082
Billings in excess of costs and
estimated profits on uncompleted
contracts 166,047 690,666 (231,360) (267,322) 205,765
------------ ------------ ------------ ------------- -------------
Net cash provided by (used in)
operating activities (526,251) (335,829) 2,629,105 (2,030,974) 392,059
------------ ------------ ------------ ------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property and equipment (167,793) (66,376) (231,128) (428,572) (1,242,448)
In-process software development costs - - (92,494) - (98,064)
Proceeds from sale of subsidiary - 6,200,000 6,200,000 - -
Proceeds from sale of equipment and other 8,771 16,791 31,286 27,917 48,835
------------ ------------ ------------ ------------- -------------
Net cash provided by (used in) (159,022) 6,150,415 5,907,664 (400,655) (1,291,677)
investing activities ------------ ------------ ------------ ------------- -------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common stock 2,134 4,178 4,178 - -
Proceeds from borrowings under line of
credit 43,253,139 42,041,195 80,430,101 106,559,769 111,828,683
Payments on line of credit (41,662,471) (44,604,695) (83,787,382) (107,271,912) (115,614,880)
Proceeds from issuance of notes payable - - - 8,992,443 5,330,000
Principal payments on notes payable (1,118,245) (3,708,102) (5,588,693) (6,077,706) (2,014,811)
------------ ------------ ------------ ------------- -------------
Net cash provided by (used in)
financing activities 474,557 (6,267,424) (8,941,796) 2,202,594 (471,008)
------------ ------------ ------------ ------------- -------------
NET DECREASE IN CASH AND CASH EQUIVALENTS (210,716) (452,838) (405,027) (229,035) (1,370,626)
CASH AND CASH EQUIVALENTS, beginning of
year 249,732 654,759 654,759 883,794 2,254,420
------------ ------------ ------------ ------------- -------------
CASH AND CASH EQUIVALENTS, end of year $ 39,016 $ 201,921 $ 249,732 $ 654,759 $ 883,794
============ ============ ============ ============= =============
NONCASH ACTIVITIES:
Insurance acquired with notes payable $ - $ - $ 280,996 $ 527,183 $ 550,450
Additional consideration payable to
former stockholders of acquired
subsidiaries - - 507,737 329,899 770,133
Accounts payable and accrued liabilities
converted to debt 414,886 1,971,095 1,131,978 5,774,433 -
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid during the year for-
Interest 365,412 471,288 903,275 1,204,896 1,562,431
Income taxes 116,933 99,325 236,527 469,958 2,317,483
Income tax refunds received - - 1,541,692 - -
The accompanying notes are an integral part of these consolidated financial
statements.
F-25
PETROCON ENGINEERING, INC., AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2001, DECEMBER 31, 2000, 1999 AND 1998
1. SUMMARY OF FINANCIAL CONDITION,
LIQUIDITY, BASIS OF PRESENTATION
AND SIGNIFICANT ACCOUNTING POLICIES:
Financial Condition and Liquidity
---------------------------------
Petrocon Engineering, Inc., and subsidiaries (Petrocon or the Company) had net
income of $0.2 million in 2000 and incurred losses of $15.1 million and $4.4
million in 1999 and 1998, respectively. At December 31, 2000, the Company had
an accumulated deficit of $14.1 million, a deficit in stockholders' equity of
$5.0 million and current assets and current liabilities of $12.5 million and
$10.5 million, respectively, resulting in working capital of $2.0 million. The
Company was not in compliance with certain financial covenants of its Fleet
Capital Corporation (Fleet) line of credit and term loan (the Credit Facility)
at December 31, 2000, and thereafter for which the Company had outstanding
balances of $5.0 million at December 31, 2000. The Company obtained an
agreement from Fleet whereby Fleet agreed not to call the $5.0 million credit
facility through April 30, 2001, due to the Company's noncompliance with
financial covenants provided that the Company comply with certain amended
financial covenants through that date. At various times through May 1, 2001,
the Company was not in compliance with certain of the amended financial
covenants.
On May 14, 2001, Fleet and the Company agreed to a fourth amendment to the
Credit Facility providing the following: (a) the maturity date of the line of
credit and term loan was reverted to the original term of June 14, 2002, (b)
Fleet waived all covenant violations which occurred prior to this amendment, and
(c) the original financial covenants are reinstated except for a less stringent
fixed-charge coverage ratio.
The Company is in compliance with its financial loan covenants as of June 30,
2001. (unaudited) On October 17, 2001, the Company received written concurrence
from Fleet to modify the coverage calculation to exclude certain costs
attributable either directly or indirectly to the pending merger with Industrial
Data Systems, including the costs of settling certain litigation. (unaudited)
Management projects that the Company will remain in compliance with its
financial loan covenants prospectively through December 31, 2001, which is based
upon certain improvements in operating results over the amounts realized through
June 30, 2001, although no assurances can be given. (unaudited)
In addition, management has taken the following actions to improve the Company's
liquidity:
a. The Company initiated steps to reduce its cost structure, including making
reductions to its overhead in 2000.
b. In June 2000, the Company restructured approximately $1.4 million of current
payables at December 31, 1999 to vendors on the Saudi Aramco project into
notes payable whereby the Company paid $0.3 million in July 2000 and agreed
to pay $1.1 million ratably over a 24-month period. Accordingly, as of
December 31, 1999, $1.4 million of accounts payable have been reclassified to
long-term debt, net of current portion.
c. Effective January 26, 2000, the Company sold the assets of Alliance
Engineering, Inc. (AEI), to The Wood Group in exchange for $6.2 million and
the retention of certain liabilities of AEI by the Company. The net proceeds
of this sale were used to reduce the Company's current liabilities by $3.7
million. The resulting estimated financial statement loss of $0.7 million,
which includes estimated state income tax payable, was recognized in 1999.
Management believes that these steps, together with future cash flows generated
by operations, will allow the Company to meet its obligations as they come due
through 2001. However, there can be no assurance the Company will generate
sufficient liquidity to meet its obligations as they become due.
F-26
Basis of Presentation
---------------------
In March 1999, the Company underwent a reorganization representing entities
under common control, which was accounted for similar to a pooling of interests
(see Note 2). Accordingly, the accompanying consolidated financial statements
have been restated to reflect the effects of the reorganization as if it
occurred on January 1 as of the beginning of the earliest period presented.
The accompanying consolidated financial statements include the accounts of
Petrocon Engineering, Inc. (PEI), and its subsidiaries. All significant
intercompany transactions have been eliminated in consolidation.
Business Activity
-----------------
The Company provides international engineering, systems and construction
management services to industrial customers with a primary focus in the process
industries (oil, chemical and petrochemical).
Brief descriptions of the active companies included in the consolidated group
follow:
Petrocon Engineering, Inc.--Provides general engineering services for industrial
customers with specialties in the areas of distributive control systems, power
distribution, process design and process safety management.
Petrocon Engineering of Louisiana, Inc. (PEI-LA)--Extends PEI's service area
into southwest Louisiana.
Petrocon Systems, Inc. (PSI)--Provides design, fabrication, installation, start-
up, checkout and maintenance of analyzers and PLC systems.
Petrocon Technologies, Inc. (PTI)--Disposed of in 1999, provided development,
sales and marketing focused on Petrocon's licensed hybrid low NOX process.
Petrocon Construction Resources, Inc. (PCR)--Provides technical, inspection and
operator personnel within client facilities.
Triangle Engineers and Constructors, Inc. (TE&C)--Provides engineering services
and construction management services.
RPM Engineering, Inc. (RPM)--Provides engineering services in southeast
Louisiana.
Alliance Engineering, Inc.--Provides upstream engineering design and project
services; sold in January 2000.
Interim Financial Information
-----------------------------
As is normal and customary, the interim financial statements as of June 30,
2001, and for the six months ended June 30, 2001 and 2000, are unaudited, and
certain information normally included in financial statements prepared in
accordance with accounting standards generally accepted in the United States has
not been included herein. In the opinion of management, all adjustments
necessary to fairly present the financial position, results of operations and
cash flows with respect to the interim financial statements have been properly
included. Due to seasonality and other factors, the results of operations for
the interim periods are not necessarily indicative of the results that will be
realized for the entire fiscal year.
Revenue Recognition
-------------------
The Company provides a majority of its services through cost-plus contracts.
Revenues are recognized to the extent of billable rates multiplied by hours
delivered plus other reimbursable expenses incurred. Trade receivables include
amounts currently billable per cost-plus contracts that are not billed until the
following period. Fixed-price contracts represent approximately 14 percent, 20
percent and 17 percent of revenues in 2000, 1999 and 1998, respectively.
Revenue on fixed-price contracts is recognized using the
F-27
percentage-of-completion method of accounting. The method used to measure
percentage of completion consist of costs incurred compared to total estimated
costs. Revisions in revenue and cost projections are recorded in the period in
which the facts requiring the revision become known. When estimates of projected
revenues and costs indicate a loss, the total estimated loss is accrued.
Contract performance incentives are included in income when earned. Potential
additional revenues on projects from claims and unapproved change orders are not
recognized until amounts may be reliably estimated and realization is probable.
The asset "costs and estimated profits in excess of billings on uncompleted
contracts" represents revenues recognized in excess of amounts billed. The
liability "billings in excess of costs and estimated profits on uncompleted
contracts" represents amounts billed in excess of revenues recognized.
Cash and Cash Equivalents
-------------------------
Cash and cash equivalents represent certificates of deposit with maturities of
three months or less and include certain restricted funds in the amount of $0.1
million invested in Rabbi trusts as of December 31, 2000. The Company's banking
system provides for daily replenishment of major bank accounts for check-
clearing requirements. Accordingly, there were negative book balances of $1.7
million and $1.0 million at December 31, 2000 and 1999, respectively. Such
balances result from outstanding checks that have not yet been paid by the bank
and are reclassified to accounts payable and accrued expenses in the
accompanying consolidated balance sheets.
Investments
-----------
The Company has a one-third ownership interest in PEI Investments, a Texas joint
venture (see Note 14). The Company uses the equity method of accounting for
this investment. The Company also accounted for its 50 percent interest in
Petrocon Arabia, Ltd. (PAL), by the equity method (see Note 15). Effective
January 2000, the Company's 50 percent interest in PAL was sold to its in-
country partner. PAL, an engineering company located in Saudi Arabia, provides
general engineering services for oil field, pipeline and offshore facilities and
gas plants, as well as refinery and petrochemical plants.
Property and Equipment
----------------------
Property and equipment are stated at cost, and depreciation is computed using
the straight-line method over the estimated useful lives of the assets.
Leasehold improvements are capitalized and amortized over the lesser of the life
of the lease or the estimated useful life of the asset.
Expenditures for repairs and maintenance are charged to expense when incurred.
Expenditures for major renewals and betterments, which extend the useful lives
of existing equipment, are capitalized and depreciated. Upon retirement or
disposition of property and equipment, the cost and related accumulated
depreciation are removed from the accounts and any resulting gain or loss is
recognized in the consolidated statements of operations.
The Company reviews certain long-lived assets for impairment whenever events
indicate that the carrying amount of an asset may not be recoverable and
recognizes an impairment loss under certain circumstances in the amount by which
the carrying value exceeds the fair value of the asset. Based on these
evaluations, during 1999, the Company identified and recorded an impairment of
$0.3 million related to certain computer software.
Income Taxes
------------
The Company follows the liability method of accounting for income taxes in
accordance with Statement of Financial Accounting Standards (SFAS) No. 109,
"Accounting for Income Taxes." Under this method, deferred income taxes are
recorded based upon the differences between the financial reporting and tax
bases of assets and liabilities and are measured using the enacted tax rates and
laws that will be in effect when the underlying assets or liabilities are
recovered or settled. Valuation allowances have been recorded when there is
uncertainty of realizability of deferred tax assets.
F-28
Stock Options
-------------
As permitted by SFAS No. 123, "Accounting for Stock-Based Compensation," the
Company has elected to record compensation expense in accordance with Accounting
Principles Board (APB) Opinion No. 25, which calculates compensation as the
difference between an option's exercise price and the current price of the
underlying stock. See Note 13 for required pro forma disclosure of the impact
on the consolidated statements of operations of recording compensation expense
under the fair value method as prescribed by SFAS No. 123.
Fair Values of Financial Instruments
------------------------------------
The Company enters into various types of financial instruments in the normal
course of business. The Company does not hold or issue financial instruments
for trading purposes nor does it hold interest rate, leveraged or other types of
derivative financial instruments. The carrying amounts of the Company's
financial instruments approximate their fair values.
Earnings Per Share
------------------
SFAS No. 128 requires the presentation of basic earnings per share and diluted
earnings per share in financial statements of public enterprises. Under the
provisions of this statement, basic earnings per share is computed based on
weighted average shares outstanding and excludes dilutive securities. Diluted
earnings per share is computed including the impacts of all potentially dilutive
securities. Potentially dilutive securities which have not been included in the
computation of diluted earnings per share include 525,386 warrants exercisable
at $6.50 and 1,148,888 options exercisable at $1.00 to $6.50. The following
table sets forth the shares outstanding for the earnings per share calculations
for the years ended December 31, 2000, 1999 and 1998:
2000 1999 1998
--------- --------- ---------
Common stock issued, beginning of year 5,801,520 5,723,158 5,717,658
Weighted average common stock issued 417,834 78,362 3,208
--------- --------- ---------
Shares used in computing basic earnings per share 6,219,354 5,801,520 5,720,866
Dilutive effect of $.01 warrants, net of assumed
repurchase of treasury stock 1,884,235 - -
--------- --------- ---------
Shares used in computing diluted earnings per share 8,103,590 5,801,520 5,720,866
========= ========= =========
Intangible Assets and Amortization
----------------------------------
Goodwill represents the excess of cost over the fair value of net tangible
assets of businesses acquired. Goodwill is being amortized on a straight-line
basis over an expected useful life of 40 years. Other intangible assets,
included in other assets, are amortized over the period expected to be benefited
(five to seven years). Amortization expense for goodwill and other intangible
assets was $0.3 million, $0.9 million and $0.5 million for 2000, 1999 and 1998,
respectively. Accumulated amortization of goodwill and other intangible assets
at December 31, 2000 and 1999, was $0.9 million in each year.
Use of Estimates
----------------
The preparation of Company's consolidated financial statements in conformity
with accounting principles generally accepted in the United States, including
the use of the percentage-of-completion method of accounting, requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and the disclosures 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.
F-29
2. REORGANIZATION:
---------------
On March 9, 1999, Petrocon entered into an agreement and plan of reorganization
(the Agreement) with OEI and Equus II Incorporated (Equus). Pursuant to the
Agreement, OEI was merged into Petrocon. In connection with the merger, certain
indebtedness owed to Equus by OEI and Petrocon was renewed, rearranged and
extended.
The operations of OEI prior to the merger were limited to efforts associated
with attempting the acquisition of Petrocon and four other unrelated engineering
companies simultaneous with an initial public offering of OEI common stock. The
acquisitions and initial public offering were unsuccessful, and such efforts
were discontinued in December 1998. Costs associated with failed offering in
the accompanying consolidated statement of operations for the year ended
December 31, 1998, represents OEI's 1998 operating results. OEI had no
operations during the year ended December 31, 1999.
As consideration for the merger, certain OEI stockholders including Equus and a
group comprised of two members of Petrocon's management received 887,338 shares
and 243,992 shares, respectively, of Petrocon common stock. Additionally, an
OEI warrant held by Equus (see Note 11) was exchanged for a warrant to purchase
1,552,571 shares of Petrocon common stock at a price of $0.01 per share through
January 2009.
As part of the transaction, Equus agreed to exchange a note in the original
principal amount of $2.5 million plus accrued interest payable by OEI for a new
Series B junior subordinated promissory note of Petrocon in the amount of $2.7
million (the Series B Exchange). Such note bears interest at 8 percent per
annum. Interest may be paid in-kind at the option of the Company. The
principal and accrued interest are due in March 2006 and, at Equus' option, may
be converted to Petrocon common stock at $5.00 per share at any time after
maturity. This note is subordinate to the Company's term loan with Fleet (see
Note 8).
The Agreement also stipulated that the Company issue a senior note in the amount
of $4.7 million to Equus in exchange for (a) cash consideration in the amount of
$2.0 million and (b) the cancellation of a note in the original principal amount
of $2.5 million (the bridge loan) (see Note 8) plus unpaid interest payable by
Petrocon to Equus. The note bears interest in the amount of 12 percent per
annum. Interest may be paid in-kind at the option of the Company until March
2003, at which time interest must be paid in cash each quarter until the note
matures in March 2004. The principal must be repaid in five quarterly
installments beginning on the fourth anniversary of the issuance of the note.
This note is subordinate to the Company's term loan with Fleet.
Additionally, the Agreement provided that the par value of the Company's common
stock be adjusted from $.3333 per share to $.001 per share. Accordingly, the
accompanying consolidated financial statements have been restated to reflect the
adjusted par value for all periods presented.
The reorganization represented a transaction between entities under common
control and, accordingly, was accounted for similar to a pooling of interests.
As such, the accompanying consolidated financial statements of the Company have
been restated to reflect the effects of the reorganization as if it had occurred
on January 1, 1998.
3. ASSETS HELD FOR SALE:
---------------------
During 1999, management of the Company elected to sell the assets of AEI and the
Company's 50 percent interest in PAL. The AEI sale was completed in January
2000, and the PAL sale closed in the second quarter of 2001 effective as of
January 1, 2000 (see Note 15).
The Company's interest in PAL, which was being accounted for using the equity
method of accounting, is presented at net realizable value in the accompanying
consolidated balance sheet at December 31, 1999. During the year ended December
31, 1999, the Company recorded an impairment loss of $2.1 million for the
difference between the carrying value of $2.9 million and forgiveness of certain
debt of $0.8 million realized on the sale of PAL at December 31, 1999.
F-30
The net assets of AEI, which are included in the accompanying consolidated
balance sheets, are summarized as follows as of December 31, 1999 and 1998 (in
thousands):
1999 1998
------ -------
Current assets $2,210 $ 4,060
Noncurrent assets 6,513 10,689
------ -------
Total 8,723 14,749
------ -------
Current liabilities 1,791 4,342
Noncurrent liabilities - 90
------ -------
Total 1,791 4,432
------ -------
Net assets 6,932 10,317
Less- Valuation reserve recorded in 1999 (732) -
------ -------
Net assets after reserve $6,200 $10,317
====== =======
The valuation reserve recorded in 1999 represents the differences in the net
assets and liabilities of AEI and the net realized value based on sales proceeds
received during 2000 and costs incurred in connection with the sale including
estimated income tax liability. During the year ended December 31, 1999, the
Company recorded an impairment loss of $0.7 million related to AEI's net assets
at December 31, 1999.
The results of operations for AEI, which included in the accompanying
consolidated statements of operations, for the years ended December 31, 1999 and
1998, are as follows (in thousands):
1999 1998
------- -------
Revenues $11,315 $19,973
Cost of revenues 8,401 15,300
Income (loss) from operations,
before valuation expense (288) 1,307
4. RECENT ACCOUNTING PRONOUNCEMENTS:
---------------------------------
In June 1998, SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," was issued. SFAS No. 133 establishes accounting and reporting
standards for derivative instruments, including certain derivative instruments
embedded in other contracts (collectively referred to as derivatives), and for
hedging activities. It requires that an entity recognize all derivatives as
either assets or liabilities in the balance sheets and measure those instruments
at fair value. If certain conditions are met, a derivative may be specifically
designated as (a) a hedge of the exposure to changes in the fair value of a
recognized asset or liability or an unrecognized firm commitment, (b) a hedge of
the exposure to variable cash flows of a forecasted transaction or (c) a hedge
of the foreign currency exposure of a net investment in a foreign operation, an
unrecognized firm commitment, an available-for-sale security or a foreign
currency-denominated forecasted transaction. The accounting for changes in the
fair value of a derivative (i.e., gains or losses) depends on the intended use
of the derivative and the resulting designation. SFAS No. 133 is effective for
all fiscal quarters of fiscal years beginning after June 15, 2000. The adoption
of this statement did not have a material impact on the consolidated financial
position or results of operations of the Company.
On December 8, 1999, the United States Securities and Exchange Commission (SEC)
staff released Staff Accounting Bulletin (SAB) No. 101, "Revenue Recognition,"
to provide guidance on the recognition, presentation and disclosure of revenue
in financial statements. The Company reviewed its revenue recognition
procedures and is satisfied that it is in compliance with SAB No. 101.
F-31
5. MAJOR CUSTOMERS AND CREDIT RISK:
--------------------------------
A significant portion of the Company's customers are engaged in the energy
industry. This concentration of customers may impact the Company's overall
exposure to credit risk, either positively or negatively, in that customers may
be similarly affected by changes in economic and industry conditions. The
Company performs ongoing credit evaluations of its customers and does not
generally require collateral in support of its trade receivables. The Company
maintains reserves for potential credit losses, and actual losses have
historically been within the Company's expectations.
6. PROPERTY AND EQUIPMENT:
-----------------------
Property and equipment as of December 31, 2000 and 1999, consist of the
following (in thousands):
Estimated
Useful Life
in Years 2000 1999
----------------- ------- -------
Land $ 500 $ 500
Buildings 40 2,250 2,250
Transportation equipment 5 188 221
Machinery and equipment 5-10 1,485 1,773
Computer equipment and software 3-5 5,173 6,270
Leasehold improvements 5-10 481 616
Furniture and fixtures 10 433 780
In-process software development costs 133 -
------- -------
10,643 12,410
Less- Accumulated depreciation (6,839) (7,275)
------- -------
Property and equipment, net $ 3,804 $ 5,135
======= =======
7. DETAIL OF CERTAIN
BALANCE SHEET ACCOUNTS:
-----------------------
The components of trade receivables as of December 31, 2000 and 1999, are as
follows (in thousands):
2000 1999
------- -------
Amounts billed at December 31 $ 8,403 $ 9,978
Amounts billable at December 31, billed January 2,251 1,883
of the following year
Retainage 513 743
Less- Allowance for uncollectible accounts (811) (884)
------- -------
Trade receivables, net $10,356 $11,720
======= =======
Activity in the Company's allowance for doubtful accounts during the years ended
December 31, 2000 and 1999, is as follows (in thousands):
2000 1999
----- -----
Balance at beginning of year $ 884 $ 900
Additions to costs and expenses 293 744
Reductions for uncollectible receivables written
off and recoveries (366) (760)
----- -----
Balance at end of year $ 811 $ 884
===== =====
F-32
The status of fixed-price contracts in progress as of December 31, 2000 and
1999, is as follows (in thousands):
2000 1999
-------- --------
Costs incurred on contracts in progress $ 9,301 $ 27,988
Estimated earnings (losses) 2,568 (6,619)
-------- --------
11,869 21,369
Less- Billings to date (10,659) (20,385)
-------- --------
Unbilled costs and profit on fixed-price $ 1,210 $ 984
contracts ======== ========
Costs and estimated earnings in excess of
billings on uncompleted contracts $ 1,416 $ 1,422
Less- Billings in excess of costs and
estimated earnings on uncompleted contracts (206) (438)
-------- --------
Net estimated earnings in excess of
billings on uncompleted contracts $ 1,210 $ 984
======== ========
The components of accounts payable and accrued expenses as of December 31, 2000
and 1999, are as follows (in thousands):
2000 1999
------ -------
Accounts payable $1,265 $ 4,734
Bank overdraft 1,715 995
Accrued compensation 1,753 1,956
Accrued vacation 1,003 1,370
Reserve for legal exposures (Note 16) 1,169 570
Other 927 1,482
------ -------
Accounts payable and accrued expenses $7,832 $11,107
====== =======
8. LINE OF CREDIT AND DEBT:
------------------------
Effective June 15, 1999, Petrocon entered into a financing arrangement with
Fleet whereby all outstanding debt to Heller Financial, Inc. (Heller) (a line of
credit and two term loans), was repaid. The new loan agreement positions the
Fleet debt as senior to all other debt and includes a line of credit limited to
$15.0 million, subject to borrowing base restrictions. The agreement also
includes a term loan in the amount of $5.0 million. The line of credit is
collateralized by trade accounts receivable. At December 31, 2000 and 1999,
$3.8 million and $7.1 million, respectively, was outstanding on the line of
credit and $1.2 million and $4.6 million, respectively, was outstanding on the
term loan. Both the line of credit and the term loan mature on June 14, 2002.
The interest rate on the line of credit is one-half of 1 percent plus prime
(10.0 percent at December 31, 2000), and the commitment fee on the unused line
of credit is 0.375 percent. The interest rate on the term loan is three-
quarters of 1 percent plus prime. Monthly principal payments on the term loan
plus interest commenced July 1, 1999, and continue until maturity. The
remaining borrowings available under the line of credit as of December 31, 2000,
were $4.1 million after consideration of the borrowing base limitations.
The Company's Credit Facility contains covenants which require the maintenance
of certain ratios, including cumulative fixed charge coverage and specified
levels of certain other items including average borrowing availability and
various other covenants. At December 31, 1999, and thereafter, the Company was
out of compliance with certain of these covenants. The Company obtained an
agreement with Fleet whereby Fleet agreed not to call the amounts borrowed
pursuant to the Credit Facility through April 30, 2001, due to the Company's
noncompliance with financial covenants, provided that the Company comply with
certain amended financial covenants through April 30, 2001.
On May 14, 2001, Fleet and the Company amended the Credit Facility providing the
following: (a) the maturity date of the line of credit and the term loan was
reverted to the original term of June 14, 2002, (b) Fleet waived
F-33
all covenant violations which occurred prior to this amendment, and (c) the
original financing covenants are reinstated except for a less stringent fixed-
charge coverage ratio. The Company must meet all financial covenants through the
maturity date of the Credit Facility. The Company is in compliance with its
financial loan covenants as of June 30, 2001. (unaudited) On October 17, 2001,
the Company received written concurrence from Fleet to modify the coverage
calculation to exclude certain costs attributable either directly or indirectly
to the pending merger with Industrial Data Systems, including the costs of
settling certain litigation. (unaudited) Management projects that the Company
will remain in compliance with its financial loan covenants prospectively
through December 31, 2001, which is based upon certain improvements in operating
results over the amounts realized through June 30, 2001, although no assurances
can be given. (unaudited)
In June 2000, the Company restructured approximately $1.4 million of current
payables at December 31, 1999 to vendors on the Saudi Aramco project into notes
payable whereby the Company paid $0.3 million in July 2000 and agreed to pay
$1.1 million ratably over a 24-month period. Accordingly, as of December 31,
1999, $1.4 million of accounts payable have been reclassified to long-term debt,
net of current portion.
On January 31, 1999, the Company issued $1.3 million of Series A junior
subordinated notes to certain stockholders and members of management along with
778,940 warrants to purchase the Company's common stock at $.01 per share
through January 2009. Interest may be paid in kind at the option of the
Company.
Debt as of December 31, 2000 and 1999, consists of the following (in thousands):
2000 1999
------- -------
Fleet-
Line of credit, prime plus 0.5% (10.00% at December 31, 2000), maturing
in 2002 $ 3,786 $ 7,144
Term loan, interest at prime plus 0.75% (10.25% at December 31, 2000),
due in monthly installments, maturing through 2002 1,237 4,643
Equus-
Note payable, interest at 12%, due quarterly, maturing through
2004 (Note 2) 5,777 5,127
Series B junior subordinated note, interest at 8%, due quarterly, maturing
through 2006 (Note 2) 3,070 2,823
Vendors-
Notes payable, interest at 8%, due monthly, maturing in August 2002 720 1,435
Stockholders-
Series A junior subordinated notes, interest at 14%, due monthly, maturing
in 2004 1,674 1,453
PAL-
Note payable, interest at 8%, due monthly, maturing through 2004 937 -
Insurance notes payable and other 859 2,931
------- -------
18,060 25,556
Less- current maturities (2,216) (6,643)
------- -------
Long-term debt, net of current portion $15,844 $18,913
======= =======
Interest on the Equus credit facility and stockholders debt has been accrued and
aggregated into the principal balances as permitted by the Equus credit facility
and stockholders' debt agreement.
Maturities of debt as of December 31, 2000, are as follows (in thousands):
Year ending December 31-
2001 $ 2,216
2002 4,889
2003 1,985
2004 5,900
2005 -
Thereafter 3,070
-------
Total debt $18,060
=======
F-34
9. LEASES:
-------
The Company leases certain office space and software under noncancelable
operating lease agreements. Minimum payments on the multiyear leases over the
remaining terms are as follows (in thousands):
Year ending December 31-
2001 $ 943
2002 475
2003 259
2004 183
2005 -
------
Total minimum lease payments $1,860
======
Rent expense for operating leases was $1.0 million, $1.4 million and $1.5
million for the years ended December 31, 2000, 1999 and 1998, respectively.
10. INCOME TAXES:
-------------
Federal and state income tax expense (benefit) for the years ended December 31,
2000, 1999 and 1998, is as follows (in thousands):
2000 1999 1998
----- ------- -----
Federal-
Current $ - $(1,520) $ 59
Deferred - 874 (351)
State-
Current 43 419 338
Deferred - - (330)
----- ------- -----
Income tax provision (benefit) $ 43 $ (227) $(284)
===== ======= =====
The Company estimates state income taxes of $0.3 million will be payable in 2001
resulting from the sale of the assets of AEI in 2000. Such amount has been
included in the valuation reserve recorded in 1999 for the AEI net assets held
for sale. In addition, the Company is in the process of amending certain state
income tax returns for prior years which the Company estimates will result in
the refund of taxes paid in the prior years. No receivable for such refunds has
been recorded as of December 31, 2000, and the Company intends to record the
benefit of any refunds upon receipt.
Actual income tax benefit differs from income tax benefit computed by applying
the U.S. federal statutory corporate rate of 34 percent to income (loss) from
operations before income taxes as of December 31, 2000, 1999 and 1998, as
follows (in thousands):
2000 1999 1998
------- ------- -------
Expense (benefit) at the statutory rate $ 69 $(5,204) $(1,583)
Increase (decrease) resulting from-
Nondeductible goodwill amortization and other 78 185 130
Gain on sale of assets of AEI 2,017 - -
Increase (decrease) in valuation allowance (2,164) 5,271 1,200
State income tax expense (benefit), net of benefit
for federal deduction 43 (479) (31)
------- ------- -------
Income tax provision (benefit) $ 43 $ (227) $ (284)
======= ======= =======
F-35
Deferred income tax provisions result from temporary differences in the
recognition of income and expenses for financial reporting purposes and for tax
purposes. The tax effects of these temporary differences, representing deferred
tax assets and liabilities, result principally from the following as of
December 31, 2000 and 1999 (in thousands):
2000 1999
------- -------
Net current deferred income tax assets (liabilities)-
Accrued expenses not deductible for taxes $ 937 $ 1,060
Allowance for doubtful accounts 143 275
Deferred loss on sale of subsidiary and other - 824
Federal net operating loss carryforward - 2,017
Less- Valuation allowance (1,080) (4,176)
------- -------
$ - $ -
======= =======
Net noncurrent deferred income tax assets (liabilities)-
Depreciation and amortization $ (133) $ (106)
Federal and state net operating loss carryforward 1,392 1,392
Less- Valuation allowance (1,259) (1,286)
------- -------
$ - $ -
======= =======
As of December 31, 2000, the Company had a federal net operating loss of $3.2
million which relates to OEI losses. Management believes the Company's merger
with OEI resulted in a change of control of OEI which placed significant
limitations on the availability of the OEI net operating loss to offset taxable
income. In May 2000, the Company filed a carryback claim whereby $6.4 million
of the 1999 net operating loss was carried back to completely offset taxable
income in 1997 and 1998, and the Company has received a refund of $1.5 million
of federal taxes paid in those years. At December 31, 2000, the Company has
utilized federal net operating loss carryforwards to offset the federal taxable
gain on the sale of AEI. Additionally, in 2001, the Company plans to file an
amended federal tax return for the year ended December 31, 1997. The amended
return will deduct certain foreign taxes previously credited, resulting in
additional net operating loss carryforwards of $0.8 million. These additional
carryforwards are not reflected in the table above. It is anticipated that the
$0.8 million carryforward that is generated as a result of filing the amended
return will be utilized in the 2000 return.
11. COMMON STOCK AND WARRANTS:
--------------------------
The Company has a common stock redemption agreement whereby upon a stockholder's
employment termination, divorce or desire to sell, the Company has a right of
first refusal to purchase the stock held by such stockholder. Upon the death or
disability of a stockholder, the Company is obligated to purchase the stock held
by such stockholder subject to certain limits as set forth by the Company's
amended and restated stockholders' agreement. The purchase price per share is
at fair market value as determined by the Company's board of directors, in its
good faith, and as reasonably acceptable to the stockholder.
In connection with the merger with OEI, warrants were issued to Equus to
purchase 1,552,571 shares of Petrocon common stock at a price of $0.01 per share
through January 2009 which replaced the warrant to purchase 1,000,000 shares of
OEI common stock. Additionally, 78,362 shares of common stock were issued to
the former stockholders of AEI in conjunction with certain antidilution
provisions of the AEI purchase agreement.
In connection with the issuance of the Series A junior subordinated notes,
warrants were issued to the stockholder lenders to purchase 778,940 shares of
Petrocon common stock at a price of $0.01 per share through 2009. As of
December 31, 2000, such warrants remaining outstanding give the stockholder
lenders rights to purchase 361,106 shares of Petrocon common stock.
F-36
12. PREFERRED STOCK:
----------------
The Company has authorized 1,000,000 shares of $1.00 par value preferred stock,
which may be divided into one or more series as determined by the board of
directors. The board is authorized to fix and determine the relative rights and
preferences of each series as to dividend rates, redemption, liquidation
preferences, sinking fund provisions, convertibility and voting rights.
13. EMPLOYEE BENEFIT PLANS:
-----------------------
Employees of the Company may participate in a 401(k) savings plan, whereby the
employees may elect to make contributions pursuant to a salary reduction
agreement upon meeting age and length-of-service requirements. The plan also
provides for discretionary contributions by the Company as determined by the
board of directors. Under the plan, contributions to the plan will be made in
the name of each participating employee in direct proportion to the employee's
401(k) contribution. No contributions were made to the plan for the years ended
December 31, 2000, 1999 or 1998.
The Company has a nonqualified stock option plan that provides for the issuance
of options for up to 1,200,000 shares of the Company's common stock. The
exercise price per share at the date of grant is equal to the fair market value
of the Company's common stock; therefore, no compensation expense is recognized
under APB Opinion No. 25.
During 2000, 797,846 options were granted at a $1.00 exercise price and vesting
over four years. No options were granted in 1999 or 1998. Options are
forfeited upon termination of employment and lapse 10 years after date of grant.
A summary of stock option activity is as follows (in shares):
Outstanding at December 31, 1998 (427,900 options at $6.50 and
557,755 options at $4.44) 985,655
Forfeited (38,640 options at $6.50 and 4,325 options at $4.44) (42,965)
---------
Outstanding at December 31, 1999 (389,260 options at $6.50 and 553,430 options at 942,690
$4.44)
Granted (797,846 options at $1.00) 797,846
Forfeited (163,350 options at $6.50 and 428,298 options at $4.44) (591,648)
---------
Outstanding at December 31, 2000 (225,910 options at $6.50, 125,132 options at $4.44 1,148,888
and 797,846 options at $1.00) =========
Exercisable at December 31, 2000 (133,600 options at $6.50, 125,132 options at $4.44 437,050
and 178,318 options at $1.00) =========
Available for grant at December 31, 2000 51,112
=========
Weighted average remaining life of options outstanding at December 31, 2000 3.15 years
The summary above does not include 135,998 options issued in consideration for
redemption of preferred shares to nonemployees. Such options were forfeited
during 2000.
Stock-based compensation costs, as calculated under SFAS No. 123, would have
reduced pretax income by an insignificant amount for the years ended
December 31, 2000, 1999 and 1998, if the fair values of the options granted
(using the minimum value method) had been recognized as compensation expense on
a straight-line basis over the vesting period of the grant. For the purposes of
SFAS No. 123, the fair market value of the options used a risk-free interest
rate of 5.8 percent, an expected life of 10 years and expected dividends of zero
percent. During 2000, the 797,846 options that were granted would not have
reduced income before taxes if the fair value (using the minimum value method)
had been used. No options were granted during the years ended December 31, 1999
or 1998.
The Company and its employees contribute to a health plan that is self-insured
by the Company up to $100,000 per claim and approximately $2.9 million annually
in the aggregate.
F-37
14. RELATED-PARTY TRANSACTIONS:
---------------------------
The Company leases office space from PEI Investments, a Texas joint venture, in
which the Company, an officer and a former employee each own a one-third
interest. Rentals paid under these leases were $0.1 million for 2000, 1999 and
1998. These leases expire in 2000 and 2001 and have a present annual rental
rate of $0.1 million. The Company is contingently liable as a guarantor for a
PEI Investments bank loan. The principal balance was $0.1 million at December
31, 1999, and was paid in full at December 31, 2000.
Prior to the sale of PAL, the Company had transactions with PAL in the normal
course of business. PAL provided services to the Company at market prices
totaling $2.0 million and $0.2 million in 1999 and 1998, respectively. As of
December 31, 1999, a payable of $0.8 million for these services was outstanding.
15. PETROCON ARABIA, LTD.:
----------------------
The Company accounted for its 50 percent investment in PAL using the equity
method of accounting. Financial statement information of PAL as of and for the
years ended December 31, 1999 and 1998, is as follows (in thousands):
1999 1998
------- -------
Revenues $ 6,795 $10,615
Net loss (1,371) (332)
Total assets 6,116 8,290
Stockholders' equity 3,568 4,939
The difference between the carrying amount of the investment and the underlying
equity in net assets at the acquisition date consisted of a noncompete agreement
in the amount of $1.0 million and goodwill of $0.7 million, which was amortized
over 15 years and 40 years, respectively.
The Company's equity in PAL and its earnings from PAL as of and for the years
ended December 31, 1999 and 1998, are as follows (in thousands):
1999 1998
------------ -----------
Company's investment in equity in PAL $ 1,784 $2,468
Unamortized excess of cost over equity in underlying
net assets acquired 889 955
------- ------
Company's investment in PAL 2,673 3,423
Estimated loss on sale of PAL (2,131) -
------- ------
Company's net investment in PAL $ 542 $3,423
======= ======
Company's equity in net loss of PAL $ (686) $ (166)
Amortization of the excess of cost over equity in
underlying net assets acquired (63) (77)
------- ------
Company's equity in losses of PAL (749) (243)
Estimated loss on sale of PAL (2,131) -
------- ------
Company's equity in losses and estimated
losses on sale of PAL $(2,880) $ (243)
======= ======
The Company had guaranteed borrowings of PAL up to the amount of $1.1 million
during 1999 and 1998. In 2000, the Company received a release from the lender
of this obligation in connection with the sale of PAL.
F-38
The Company entered into an agreement to sell its 50 percent ownership in PAL to
its in-country partner of the other 50 percent of PAL in consideration for
forgiveness of $0.8 million of the existing $1.7 million obligation to PAL, of
which $0.8 million was included in accounts payable and $0.9 million was
included in other notes payable in the December 31, 1999, consolidated balance
sheet. An estimated loss has been accrued as of December 31, 1999, for
approximately $2.1 million which has been recorded as a reduction of the
investment in PAL in the accompanying consolidated balance sheet. Effective
January 1, 2000, the Company wrote off its $543,000 investment in PAL and also
wrote off $543,000 of net accounts payable and other indebtedness to PAL which
were forgiven pursuant to the agreement described below. In addition, effective
January 1, 2000, the Company ceased recording any equity in the income or losses
of PAL. Accordingly, management believes that an agreement with the in-country
owner of the other 50 percent of PAL was reached in early 2000 which provided
the terms to sell the Company's interest in PAL. In April 2001, a definitive
agreement was signed by the stockholders of PAL, documenting this agreement
effective January 1, 2000. This agreement provides that the Company will enter
into a consulting agreement with the buyer whereby the Company will pay $10,000
per month for a period of 18 months beginning July 2001. The Company intends to
expense these payments prospectively as they are made.
16. COMMITMENTS AND CONTINGENCIES:
------------------------------
McConnell Dowell Constructors, Ltd.
-----------------------------------
In 1997, the Company entered into a joint venture partnership agreement with
McConnell Dowell Constructors, Ltd. (MCD), to provide certain products and
services to Aramco Services Company (Aramco). The contract among the parties
specified that the Company was to provide engineering and procurement services,
while MCD was to furnish construction resources. The joint venture agreement
provided for joint and several liabilities to the Company and MCD for costs
incurred by either party. The consortium's contract with Aramco was bid on a
fixed-price basis, and the Company began work on the contract in June 1997. The
contract provided that the Company could bill Aramco as certain contractually
stipulated milestones were achieved by the Company. During 1998, management of
the Company became aware that, for various reasons, the Company's cost to
provide the services would exceed the contract price. As a result, the Company
has recorded a $3.1 million pretax loss during the year ended December 31, 1998.
During 1999, management became aware of additional costs in excess of the
contract price and recorded additional pretax losses of $6.1 million during the
year ended December 31, 1999.
During 1999, the Company discontinued providing services on the project and
dissolved the partnership with MCD. The terms of the partnership dissolution
agreement stipulated that the Company's maximum liability to MCD is $1.8 million
for costs incurred as a result of the dissolution. During early 2001, 2000 and
1999, management pursued various claims and change orders with the project owner
and MCD. Management also has negotiated certain assertions for cost recovery
MCD made against the Company. The Company and MCD reached a settlement in April
2001 whereby the Company forgave a $0.3 million retention receivable from MCD in
exchange for the forgiveness by MCD of all potential claims up to and including
any unrecovered portion of the $1.8 million.
Employment Agreements
----------------------
The Company has employment agreements with certain of its executive officers,
the terms of which expire at various times through December 2002. Such
agreements provide for minimum salary levels, adjusted annually for cost-of-
living changes, as well as for incentive bonuses that are payable if specified
management goals are attained. The aggregate commitment for future salaries at
December 31, 2000, excluding bonuses, was approximately $2.3 million. In May
2000, the Company terminated the employment of two of its officers who have
guaranteed compensation provisions under their employment agreements. The
Company disputes the validity of these two employment contracts and has taken
legal action against the two former officers alleging negligence in their
fiduciary responsibilities as officers of the Company. The officers have
brought a countersuit against the Company seeking the remaining compensation
provided for under the disputed employment agreements. The Company and the
officers have engaged in settlement discussions regarding these suits. As of
December 31, 2000, management has accrued an estimated settlement amount of $0.2
million related to these matters. (see Note 19.)
F-39
Additional Acquisition Consideration
------------------------------------
Certain former stockholders of RPM receive additional acquisition consideration
to the extent that RPM exceeds certain targeted annual earnings thresholds each
year through the year ended December 31, 2001. As of December 31, 2000 and
1999, $2.6 million and $2.1 million, respectively, of additional consideration
has been earned and accounted for as additional goodwill on a cumulative basis
since the date of the RPM acquisition.
Litigation
----------
The Company is involved in legal actions arising in the ordinary course of
business. Certain of these claims involve lawsuits and proceedings for failure
of contractual performance. Management believes the Company's exposure for two
such claims is covered by insurance, and the Company has accrued the costs
subject to the insurance deductible of $0.1 million each. Two additional claims
brought against the Company by certain subcontractors which allege errors and
delays in the performance of certain engineering work performed on a project in
1999 are not covered by insurance, and the Company has accrued management's
estimate of the uninsured losses as of December 31, 1999. During 2000, the
Company received approximately $0.5 million in cash from the customer on this
project for the customer's estimated share of damages in the alleged claims. As
such, the Company increased its reserve for its exposure for these claims upon
receipt of the cash in 2000. As disclosed in Note 7, the total liability
established for estimated losses at December 31, 2000 was $1.2 million.
Management believed there were no additional matters reasonably possible of
being resolved against the Company. As described in Note 19, settlement and
tentative settlement of two lawsuits after June 30, 2001 resulted in additional
costs of $623 thousand.
Insurance
---------
The Company carries a broad range of insurance coverage, including general and
business auto liability, commercial property, professional errors and omissions,
workers' compensation insurance and a general umbrella policy. The Company has
not incurred significant claims in excess of insurance recoveries. The Company
is self-insured for health insurance claims. Provisions for expected future
payments are accrued based on the Company's experience.
17. EXPORT SALES:
-------------
Export sales were approximately $0.1 million, $8.8 million and $7.3 million for
the years ended December 31, 2000, 1999 and 1998, respectively. Such sales were
in South America, the Caribbean Islands, Europe, Africa, the Middle East and the
Far East.
18. EARLY EXTINGUISHMENT OF DEBT:
-----------------------------
In June 1999, the Company refinanced the Heller line of credit and term loans
(see Note 8). The write-off of the deferred costs associated with the debt
resulted in an extraordinary loss of $0.2 million, net of related tax benefit of
$0.1 million.
19. SUBSEQUENT EVENTS: (Unaudited)
----------------
On April 3, 2001 the Company signed a letter of intent with Industrial Data
Systems Corporation (IDS), a publicly traded company on the American Stock
Exchange, to effect a stock for stock exchange, with the Company surviving as an
indirect, wholly owned subsidiary of IDS. Under the terms of the definitive
merger agreement signed on August 1, 2001, IDS will issue 9.8 million shares of
its common stock in return for 100% of the Company's shares. In addition, Equus
has agreed to convert approximately $9.0 million of its notes into 2.5 million
shares of newly issued IDS Series A Convertible Preferred Stock, in addition to
receiving cash and a promissory note. All of the Company's currently issued
stock options will either be converted into IDS stock options or expire. The
Company's Board of Directors has unaminously approved the transaction, which is
expected to be presented for the Company's shareholder approval early in the
fourth quarter of this year.
The Company was party to a lawsuit wherein certain former employees asserted
that the Company, among other things, was in breach of contracts with them. The
lawsuit was settled in September 2001, and the Company agreed to pay
approximately $453 thousand to such employees. The settlement will be expensed
and accrued in the quarter ended September 30, 2001.
On October 17, 2001, the Company received written concurrence from Fleet
to modify the coverage calculation related to its financial loan covenants to
exclude certain costs attributable directly or indirectly to the pending merger
with Industrial Data Systems, including the cost of settling certain litigation.
In October 2001, the Company reached a tentative settlement agreement as a
result of mediation with certain executive officers whose employment was
terminated in 2000. The settlement is subject to approval by Fleet. The
settlement stipulates the Company will pay $775 thousand including the
repurchase of 288,565 shares of stock at $0.79 per share and the repayment of an
outstanding note payable of approximately $73 thousand. The remaining portion
will be paid in 24 equal monthly installments with the balance of $175 thousand
due on the 25th month. As of June 30, 2001, the Company had accrued $210
thousand related to this matter, and management estimates the tentative
settlement value of the future payments will result in an additional accrual of
$200 thousand which will be recorded as an expense subsequent to June 30, 2001.
20. SEGMENT DATA:
-------------
The Engineering Services segment is engaged in providing a broad range of
engineering services, such as feasibility studies, design, engineering and
project construction management to industrial customers with a
F-40
primary focus in the process industries (oil, chemical and petrochemical).
Specialities are in the areas of distributive control systems, power
distribution, process, design, and safety management. The In-Plant Services
segment includes all on-site engineering, contract services and inspection
services whereby the client provides all supervision and any required assets
such as computer equipment. The Systems segment provides design, fabrication,
installation, start-up, checkout and maintenance of analyzers and PLC systems.
The Other segment consists primarily of unallocated corporate administrative
activity.
All segments operate primarily in the United States with limited international
activities.
Financial information relating to the Company's segments is as follows (in
thousands):
Engineering In-Plant
Services Services Systems Other Total
------------ -------- ------- -------- ----------
December, 1998
Sales $54,835 $37,036 $ 9,030 $ - $100,901
Operating income (loss) (1,273) 5,364 797 (7,760) (2,872)
Identifiable assets 41,443 783 2,045 283 44,554
Capital expenditures 1,074 - 92 76 1,242
Depreciation and amortization 1,329 146 119 291 1,885
December, 1999
Sales 37,757 31,212 12,026 - 80,995
Operating income (loss) (8,691) 2,999 1,504 (5,730) (9,918)
Estimated loss on assets held for sale - - - (732) (732)
Identifiable assets 29,225 762 2,305 349 32,641
Capital expenditures 99 - 66 264 429
Depreciation and amortization 1,370 384 70 491 2,315
December, 2000
Sales 26,185 31,728 10,431 - 68,344
Operating income (loss) 1,242 3,521 1,263 (3,808) 2,218
Identifiable assets 17,965 741 2,328 266 21,300
Capital expenditures 36 - 102 93 231
Depreciation and amortization 791 30 75 318 1,214
June 30, 2000 (unaudited)
Sales 13,446 15,142 4,456 - 33,044
Operating income (loss) 43 1,666 548 (1,791) 466
Identifiable assets 19,394 1,717 1,386 391 22,888
Capital expenditures 48 - 18 - 66
Depreciation and amortization 448 16 33 138 635
June 30, 2001 (unaudited)
Sales 13,371 16,446 4,501 - 34,318
Operating income (loss) 746 1,584 414 (2,077) 667
Identifiable assets 15,319 1,984 2,333 781 20,417
Capital expenditures 46 - 11 111 168
Depreciation and amortization 311 11 40 167 529
F-41
APPENDIX A
AGREEMENT AND PLAN OF MERGER
BY AND BETWEEN
INDUSTRIAL DATA SYSTEMS CORPORATION,
A NEVADA CORPORATION
AND
IDS ENGINEERING MANAGEMENT, LC
A TEXAS LIMITED LIABILITY COMPANY
AND
PEI ACQUISITION, INC.
A TEXAS CORPORATION
AND
PETROCON ENGINEERING, INC.
A TEXAS CORPORATION
JULY 31, 2001
TABLE OF CONTENTS
Page
1. THE MERGER..................................................... 2
1.1 The Merger............................................... 2
1.2 Effective Time of the Merger............................. 2
1.3 Closing.................................................. 2
1.4 Surviving PEI............................................ 2
1.5 Effect on the Capital Stock of Parent, LC, Sub and PEI... 3
1.6 Escrow................................................... 7
1.7 Exchange of Certificates................................. 7
1.8 Stock Transfer Books..................................... 8
1.9 Dissenting Shares........................................ 9
1.10 No Further Ownership Rights in PEI Common Stock.......... 9
1.11 Lost, Stolen or Destroyed Certificates................... 9
1.12 Shareholder Approval..................................... 9
1.13 Tax and Accounting Consequences.......................... 10
2. REPRESENTATIONS AND WARRANTIES OF PARENT....................... 10
2.1 Organization, Etc........................................ 10
2.2 Capitalization of Parent................................. 10
2.3 Parent Series A Stock.................................... 11
2.4 Subsidiaries............................................. 11
2.5 Interim Operations of Sub and LC........................ 11
2.6 Authority................................................ 11
2.7 Consents................................................. 12
2.8 Proprietary Rights....................................... 12
2.9 Title.................................................... 12
2.10 Defaults................................................. 12
2.11 Full Authority........................................... 13
2.12 Parent's SEC Documents................................... 13
2.13 Investment Company....................................... 14
2.14 Undisclosed Liabilities.................................. 14
2.15 Taxes.................................................... 14
2.16 Legal Actions............................................ 14
2.17 Parent Contracts; Parent Plans........................... 15
2.18 No Material Adverse Change............................... 15
2.19 Predecessors............................................. 16
2.20 Affiliate Relationships.................................. 16
2.21 Disclosure............................................... 16
2.22 Other Disclosures........................................ 16
2.23 Tax Reorganization Representations....................... 18
2.24 Brokers.................................................. 19
2.25 Labor and Employment Matters............................. 19
2.26 Employee Benefit Plans................................... 20
2.27 Environmental Matters.................................... 22
2.28 Accounts Receivable...................................... 23
2.29 Inventories.............................................. 23
2.30 Purchase Commitments and Outstanding Bids................ 23
2.31 Payments................................................. 23
2.32 Customers and Suppliers.................................. 24
3. REPRESENTATIONS AND WARRANTIES OF PEI.......................... 24
3.1 Organization, Etc........................................ 24
3.2 Capitalization of PEI.................................... 24
3.3 Subsidiaries............................................. 25
i
3.4 Authority............................................... 25
3.5 Consents................................................ 25
3.6 Proprietary Rights...................................... 25
3.7 Title................................................... 26
3.8 Defaults................................................ 26
3.9 Full Authority.......................................... 26
3.10 PEI's SEC Documents..................................... 26
3.11 Investment Company...................................... 27
3.12 Undisclosed Liabilities................................. 27
3.13 Taxes................................................... 27
3.14 Legal Actions........................................... 27
3.15 PEI Contracts; PEI Plans................................ 28
3.16 No Material Adverse Change.............................. 28
3.17 Predecessors............................................ 29
3.18 Affiliate Relationships................................. 29
3.19 Disclosure.............................................. 29
3.20 Other Disclosures....................................... 29
3.21 Brokers................................................. 31
3.22 Labor and Employment Matters............................ 31
3.23 Employee Benefit Plans.................................. 32
3.24 Environmental Matters................................... 34
3.25 Accounts Receivable..................................... 34
3.26 Inventories............................................. 34
3.27 Purchase Commitments and Outstanding Bids............... 34
3.28 Payments................................................ 35
3.29 Customers and Suppliers................................. 35
4. CERTAIN COVENANTS, AGREEMENTS AND PRE-CLOSING MATTERS.......... 35
4.1 Tax Matters............................................. 35
4.2 Access.................................................. 36
4.3 Approval of the Merger Proxy............................ 36
4.4 Operations in the Ordinary Course....................... 36
4.5 Transactions Affecting Business and Properties.......... 36
4.6 Negotiations............................................ 37
4.7 Renewal of Real Estate Leases........................... 37
4.8 Articles of Incorporation and Bylaws.................... 37
4.9 Current Information..................................... 38
4.10 Corporate Approvals..................................... 38
4.11 Consents................................................ 38
4.12 Contracts............................................... 38
4.13 Insurance............................................... 39
4.14 Compliance with Laws.................................... 39
5. CONDITIONS PRECEDENT; CLOSING DELIVERIES....................... 39
5.1 Conditions Precedent to the Obligations of PEI.......... 39
5.2 Conditions Precedent to the Obligations of Parent....... 40
5.3 Deliveries by Parent at the Closing..................... 43
5.4 Deliveries by PEI at the Closing........................ 44
5.5 Deliveries by Sub and Surviving PEI at the Closing...... 46
6. SURVIVAL, INDEMNIFICATION, ARBITRATION......................... 46
6.1 Survival................................................ 46
6.2 Indemnification by Significant PEI Shareholders......... 47
6.3 Indemnification by Parent............................... 48
6.4 Procedures for Indemnification.......................... 48
6.5 Subrogation............................................. 49
6.6 Arbitration............................................. 50
7. TERMINATION.................................................... 51
7.1 Events of Termination................................... 51
ii
7. 2 Effect of Termination................................... 52
8. MISCELLANEOUS.................................................. 52
8.1 Notice.................................................. 52
8.2 Further Documents....................................... 53
8.3 Assignability........................................... 53
8.4 Exhibits and Schedules.................................. 53
8.5 References to Sections, Exhibits and Schedules.......... 53
8.6 Entire Agreement........................................ 53
8.7 Headings................................................ 54
8.8 Controlling Law......................................... 54
8.9 Public Announcements.................................... 54
8.10 No Third Party Beneficiaries............................ 54
8.11 Amendments and Waivers.................................. 54
8.12 No Employee Rights...................................... 54
8.13 When Effective.......................................... 55
8.14 Takeover Statutes....................................... 55
8.15 Number and Gender of Words.............................. 55
8.16 Invalid Provisions...................................... 55
8.17 Multiple Counterparts................................... 55
8.18 No Rule of Construction................................. 55
8.19 Expenses................................................ 55
8.20 Time of the Essence..................................... 56
8.21 Attorneys' Fees......................................... 56
iii
EXHIBITS
Exhibit 1.5(c)(iii) Form of Certificate of Designation of Preferences,
Limitations and Relative Rights of Parent Series A Stock
Exhibit 1.6(a) Form of Indemnification Escrow Agreement
Exhibit 1.6(b) Form of Option Escrow Agreement
Exhibit 5.2(c)-1 Form of $2 Million Notes
Exhibit 5.2(c)-2 Form of $3 Million Note
Exhibit 5.2(c)-3 Form of Remainder Note
Exhibit 5.2(c)-4 Form of Equus Settlement Agreement and Plan of
Reorganization
Exhibit 5.2(j) Form of Lockup Agreement
Exhibit 5.3(d) Form of Option Pool Agreement
Exhibit 5.3(f) Form of Voting Agreement
Exhibit 5.3(m) Equus Call Option
Exhibit 5.4(f) Form of Release
Exhibit 5.4(h) Form of Significant PEI Shareholders' Voting Agreement
Exhibit 6.6 Exceptions to Commercial Rules of Arbitration
SCHEDULES
Schedule 1.4(a) Directors and Officers of Surviving PEI, Its
Subsidiaries and Officers of Parent
Schedule 1.5(c)(ii) Significant PEI Shareholders
Schedule 2.2 Parent Convertible Securities
Schedule 2.4 Parent Subsidiaries
Schedule 2.9 Parent Title to Assets
Schedule 2.14 Parent Undisclosed Liabilities
Schedule 2.15 Parent Tax Return Extensions
Schedule 2.16 Parent Legal Actions
Schedule 2.18 Parent Material Adverse Changes
Schedule 2.22(a) Parent Products
Schedule 2.22(b) Parent Real Property
Schedule 2.22(c) Parent Assets
Schedule 2.22(e) Parent Insurance
Schedule 2.22(f) Parent Financial Institutions
Schedule 2.22(g) Parent Governmental Licenses and Permits
Schedule 2.22(h) Parent Debts
Schedule 2.22(i) Parent Proprietary Rights
Schedule 2.22(j) Parent Contracts
Schedule 2.22(l) Parent Officers and Directors
Schedule 2.25 Parent Labor Disputes
Schedule 2.26(a) Parent Plans
Schedule 2.26(d) Parent Plan Compliance
Schedule 2.26(f) Parent Plan Tax Qualification
Schedule 2.26(i) Parent Plan Retiree Welfare Coverage
Schedule 2.27(b) Parent Environmental Liabilities
iv
Schedule 2.32 Parent Customers and Suppliers
Schedule 3.2 PEI Shareholders and Convertible Securities
Schedule 3.3 PEI Subsidiaries
Schedule 3.5 PEI Consents
Schedule 3.7 PEI Title to Assets
Schedule 3.8 PEI Defaults
Schedule 3.12 PEI Undisclosed Liabilities
Schedule 3.13 PEI Tax Return Extensions
Schedule 3.14 PEI Legal Actions
Schedule 3.16 PEI Material Adverse Changes
Schedule 3.17 PEI Predecessors
Schedule 3.18 PEI Affiliate Relationships
Schedule 3.20(a) PEI Products
Schedule 3.20(b) PEI Real Property
Schedule 3.20(c) PEI Assets
Schedule 3.20(d) PEI Consigned Property
Schedule 3.20(e) PEI Insurance
Schedule 3.20(f) PEI Financial Institutions
Schedule 3.20(g) PEI Governmental Licenses and Permits
Schedule 3.20(h) PEI Debts
Schedule 3.20(i) PEI Proprietary Rights
Schedule 3.20(j) PEI Contracts
Schedule 3.20(l) PEI Officers and Directors
Schedule 3.22 PEI Labor Disputes
Schedule 3.23(a) PEI Plans
Schedule 3.23(d) PEI Plan Compliance
Schedule 3.23(f) PEI Plan Tax Qualification
Schedule 3.23(i) PEI Plan Retiree Welfare Coverage
Schedule 3.29 PEI Customers and Suppliers
Schedule 4.5 Transactions Affecting Business and Properties
Schedule 5.4(d) PEI Employees to Sign Employment Agreements
v
DEFINED TERMS
"ACTION" shall have the meaning set forth in Section 2.27(a).
"AFFILIATE" shall have the meaning set forth in Section 2.20.
"AGREEMENT" shall have the meaning set forth in the preamble.
"ALLIANCE" shall have the meaning set forth in Recital D.
"ALTERNATIVE TRANSACTION" shall have the meaning set forth in Section 4.6.
"APPLICABLE CORPORATE LAW" shall have the meaning set forth in Section 1.1.
"ARBITRATOR" shall have the meaning set forth in Section 6.6(b).
"BENEFIT ARRANGEMENTS" shall have the meaning set forth in Section 2.26(a).
"BOARD OF ARBITRATION" shall have the meaning set forth in Section 6.6(b).
"CANCELLED SHARES" shall have the meaning set forth in Section 1.5(c)(i).
"CERTIFICATE OF DESIGNATION" shall have the meaning set forth in
Section 1.5(c)(iii).
"CLOSING" shall have the meaning set forth in Section 1.3.
"CLOSING DATE" shall have the meaning set forth in Section 1.3.
"CODE" shall have the meaning set forth in Recital F.
"CONTRACT" shall have the meaning set forth in Section 2.22(j).
"CONTROL" shall have the meaning set forth in Section 2.20.
"CONTROLLED COMPANY" shall have the meaning set forth in Section 2.26(a).
"CONVERTED SHARE" shall have the meaning set forth in Section 1.5(c)(xi).
"COURY DEBT" shall have the meaning set forth in Recital B.
"COURY WARRANTS" shall have the meaning set forth in Section 1.5(c)(x).
"CURRENT PARENT SEC DOCUMENTS" shall have the meaning set forth in preamble to
Section 2.
"DESIGNATED PLANS" shall have the meaning set forth in Section 2.26(a).
"DISSENTING SHARES" shall have the meaning set forth in Section 1.9(a).
"EFFECTIVE TIME" shall have the meaning set forth in Section 1.2.
"ENVIRONMENTAL LAWS" shall have the meaning set forth in Section 2.27(c)(i).
"ENVIRONMENTAL LIABILITIES" shall have the meaning set forth in Section
2.27(c)(ii).
"EQUUS" shall have the meaning set forth in Recital C.
"EQUUS DEBT" shall have the meaning set forth in Recital C.
"EQUUS SETTLEMENT AGREEMENT" shall have the meaning set forth in Section 5.2(c).
"EQUUS WARRANTS" shall have the meaning set forth in Recital C.
"ERISA" shall have the meaning set forth in Section 2.26(a).
"EXCHANGE ACT" shall have the meaning set forth in Section 1.12.
"EXCHANGE AGENT" shall have the meaning set forth in Section 1.7(a).
"HAZARDOUS SUBSTANCES" shall have the meaning set forth in Section 2.27(c)(iii).
"INDEMNIFICATION ESCROW AGREEMENT" shall have the meaning set forth in Section
1.6(a).
"INDEMNIFIED PARTY" shall have the meaning set forth in Section 6.4(a).
"INDEMNIFYING PARTY" shall have the meaning set forth in Section 6.4(a).
"INDEMNITY ESCROW" shall have the meaning set forth in Section 1.5(c)(ii).
"IRS" shall have the meaning set forth in Section 2.26(c).
"LATEST PARENT BALANCE SHEET" shall have the meaning set forth in Section 2.28.
"LATEST PEI BALANCE SHEET" shall have the meaning set forth in Section 3.25.
"LC" shall have the meaning set forth in the preamble.
"LOCKUP AGREEMENT" shall have the meaning set forth in Section 5.2(j).
"LOST PEI CERTIFICATE" shall have the meaning set forth in Section 1.11.
"MERGER" shall have the meaning set forth in Recital A.
vi
"MERGER CONSIDERATION" shall have the meaning set forth in Section 1.5(c).
"MERGER FILING" shall have the meaning set forth in Section 2.7.
"MERGER PROXY" shall have the meaning set forth in Section 1.12.
"OPTION ESCROW" shall have the meaning set forth in Section 1.5(c)(ii).
"OPTION ESCROW AGENT" shall have the meaning set forth in Section 1.5(c)(v).
"OPTION ESCROW AGREEMENT" shall have the meaning set forth in Section 1.6(b).
"OTHER OWNERSHIP INTERESTS" shall have the meaning set forth in Section 2.2.
"PARENT" shall have the meaning set forth in the preamble.
"PARENT CERTIFICATES" shall have the meaning set forth in Section 1.7(b).
"PARENT COMMON STOCK" shall have the meaning set forth in Recital E.
"PARENT INDEMNIFIED PARTIES" shall have the meaning set forth in Section 6.2.
"PARENT MATERIAL ADVERSE EFFECT" shall have the meaning set forth in
Section 2.1.
"PARENT RELATED DOCUMENTS" shall have the meaning set forth in Section 2.6.
"PARENT SEC DOCUMENTS" shall have the meaning set forth in Section 2.12.
"PARENT SERIES A STOCK" shall have the meaning set forth in Recital E.
"PARENT STOCK" shall have the meaning set forth in Section 1.7(a).
"PEI" shall have the meaning set forth in the preamble.
"PEI CERTIFICATES" shall have the meaning set forth in Section 1.7(b).
"PEI COMMON STOCK" shall have the meaning set forth in Recital B.
"PEI CONTRACT" shall have the meaning set forth in Section 3.20(j).
"PEI DESIGNATED PLANS" shall have the meaning set forth in Section 3.23(a).
"PEI INDEMNIFIED PARTIES" shall have the meaning set forth in Section 6.3.
"PEI MATERIAL ADVERSE EFFECT" shall have the meaning set forth in Section 3.1.
"PEI RELATED DOCUMENTS" shall have the meaning set forth in Section 3.4.
"PEI SHAREHOLDER DEBT" shall have the meaning set forth in Recital B.
"PEI SHAREHOLDERS" shall have the meaning set forth in Section 1.6(a).
"PERSON" shall have the meaning set forth in Section 1.5(c)(ii).
"PLANS" shall have the meaning set forth in Section 2.26(a).
"PRO RATA SHARE" shall have the meaning set forth in Section 1.5(c)(v).
"PROPRIETARY RIGHTS" shall have the meaning set forth in Section 2.8.
"REGULATED ACTIVITY" shall have the meaning set forth in Section 2.27(c)(iv).
"REMAINDER NOTE" shall have the meaning set forth in Section 5.2(c).
"REMAINING OPTION SHARES" shall have the meaning set forth in
Section 1.5(c)(ix).
"RPM WARRANTS" shall have the meaning set forth in Section 1.5(c)(x).
"SEC" shall have the meaning set forth in Section 1.12.
"SECURITIES ACT" shall have the meaning set forth in Section 1.12.
"SHAREHOLDER REPRESENTATIVE" shall have the meaning set forth in Section 6.4(a).
"SIGNIFICANT PEI SHAREHOLDER" shall have the meaning set forth in
Section 1.5(c)(ii).
"SUB" shall have the meaning set forth in the preamble.
"SUBSIDIARY" shall have the meaning set forth in the preamble to Section 2.
"SURRENDERED SHARES" shall have the meaning set forth in Section 1.5(c)(vii).
"SURVIVAL PERIODS" shall have the meaning set forth in Section 6.1.
"SURVIVING PEI" shall have the meaning set forth in Section 1.1.
"SURVIVING OPTIONS" shall have the meaning set forth in Section 1.5(c)(iv).
"TAX RETURNS" shall have the meaning set forth in Section 2.15.
"$2 MILLION NOTES" shall have the meaning set forth in Section 5.2(c).
"$3 MILLION NOTE" shall have the meaning set forth in Section 5.2(c).
vii
AGREEMENT AND PLAN OF MERGER
This AGREEMENT AND PLAN OF MERGER (this "AGREEMENT"), dated as of July 31,
2001, is entered into by and between Industrial Data Systems Corporation, a
Nevada corporation ("PARENT"), IDS Engineering Management, LC, a Texas limited
liability company all of whose membership interests are held by Parent ("LC"),
PEI Acquisition, Inc., a Texas corporation all of whose capital stock is owned
by LC (the "SUB"), and Petrocon Engineering, Inc., a Texas corporation ("PEI").
RECITALS:
A. The respective Boards of Directors of PEI, Parent, LC and Sub have each
approved the merger of Sub with and into PEI (the "MERGER") pursuant to this
Agreement and the applicable statutes of the State of Texas.
B. Prior to the Merger, all of the debt (as of the date of this Agreement)
owed by PEI to certain of its shareholders (the "PEI SHAREHOLDER DEBT") will be
converted into shares of common stock, $0.001 par value per share, of PEI (the
"PEI COMMON STOCK"), except for up to $190,000 of the PEI Shareholder Debt which
shall be paid in cash at the Closing (as herein defined) and that portion of the
PEI Shareholder Debt held by Gary Coury (the "COURY DEBT").
C. Also, prior to the Merger, PEI will deliver to Equus II Incorporated, a
Delaware corporation ("EQUUS"), in renewal, rearrangement and extension of the
approximately $9.0 million of outstanding debt owed by PEI to Equus (the "EQUUS
DEBT") and the cancellation of all of the outstanding warrants to acquire PEI
securities held by Equus (the "EQUUS WARRANTS"): (i) the $2 Million Notes (as
herein defined); (ii) the $3 Million Note (as herein defined); and (iii) the
Remainder Note (as herein defined).
D. At the Closing, Alliance 2000, Ltd., a Texas limited partnership
("ALLIANCE"), will grant certain employees of the parties and to Equus an option
to purchase up to 2,800,000 shares of Parent Common Stock (as herein defined)
currently held by Alliance. In addition, at the Closing, Parent shall cancel
the debt owed by Alliance to Parent in the principal amount of approximately
$150,000, together with interest thereon.
E. Pursuant to the Merger, the issued and outstanding shares of PEI Common
Stock will be converted into the right to receive shares of common stock, $0.001
par value per share, of Parent (the "PARENT COMMON STOCK"), the Equus Debt
evidenced by the $2 Million Notes will be paid in full, and the Equus Debt
evidenced by the Remainder Note will be paid and satisfied by the issuance to
Equus of 2,500,000 shares of the Series A Convertible Preferred Stock, $0.001
par value per share, of Parent (the "PARENT SERIES A STOCK").
F. For federal income tax purposes, the parties intend that the Merger
shall qualify as a tax-free reorganization within the meaning of Section 368(a)
of the Internal Revenue Code of 1986, as amended (the "CODE").
1
NOW, THEREFORE, in consideration of the premises and the representations,
warranties and agreements herein contained, the parties hereto agree as follows:
1. THE MERGER
1.1 The Merger. Subject to the terms and conditions hereof, and in accordance
with the Texas Business Corporation Act (the "APPLICABLE CORPORATE LAW"), at the
Effective Time (as defined in Section 1.2), Sub shall be merged with and into
PEI and the separate existence of Sub shall thereupon cease. PEI shall by virtue
of the Merger continue its corporate existence under the laws of the State of
Texas and become an indirect wholly owned subsidiary of Parent. PEI, as the
surviving entity following the Merger, is sometimes referred to in this
Agreement as "SURVIVING PEI."
1.2 Effective Time of the Merger. Appropriate Articles of Merger under the
Applicable Corporate Law shall be prepared, executed and submitted for filing
with the Secretary of State of the State of Texas at the Closing. The date that
the Merger becomes effective, in accordance with the Articles of Merger, is
referred to as the "EFFECTIVE TIME."
1.3 Closing. For purposes of this Agreement, the term "CLOSING DATE" shall
mean the date of the Closing, which shall in no event be later than October 31,
2001. The closing of the transactions contemplated by this Agreement (the
"CLOSING") shall occur within three business days of the satisfaction or waiver
of all conditions precedent described in Section 5, at the offices of counsel to
Parent in Houston, Texas. The parties may agree in writing on another date,
time or place for the Closing. At the Closing, the parties will deliver or
cause to be delivered the documents described in Section 5.
1.4 Surviving PEI.
(a) Articles, Bylaws, Directors and Officers and Name of Surviving PEI.
As a result of the Merger, (i) the Articles of Incorporation of PEI, as in
effect immediately prior to the Effective Time, a copy of which has been
provided to Parent, shall be the Articles of Incorporation of Surviving PEI,
(ii) the Bylaws of PEI as in effect immediately prior to the Effective Time, a
copy of which has been provided to Parent, shall be the Bylaws of Surviving PEI,
and (iii) the directors and officers of PEI and its Subsidiaries immediately
prior to the Effective Time shall resign and the directors and officers of
Surviving PEI and its Subsidiaries shall be as set forth on Schedule 1.4(a),
until the earlier of their resignation or removal or until their respective
successors are duly elected or appointed, as the case may be. The name of the
surviving corporation shall be "Petrocon Engineering, Inc." In addition, the
persons identified on Schedule 1.4(a) shall serve as officers of Parent as
specified on such Schedule, until the earlier of their resignation or removal or
until their respective successors are duly elected or appointed.
(b) Assets and Liabilities of Surviving PEI. As of and after the
Effective Time, Surviving PEI shall possess all the rights, privileges,
immunities and franchises of a public as well as of a private nature previously
belonging to Sub and PEI; and all property (real, personal and mixed), and all
debts due on whatever account, including subscriptions to shares,
2
and all other choses in action, and all and every other interest of or belonging
to or due to each of Sub and PEI shall be transferred to, and vested in,
Surviving PEI without further act or deed; and all such property, rights and
privileges, powers and franchises and all and every other interest shall be
thereafter the property of Surviving PEI as they were of Sub and PEI; and the
title to any real estate, or interest therein, whether by deed or otherwise,
shall not revert or be in any way impaired by reason of the Merger. Surviving
PEI shall be responsible and liable for all the liabilities and obligations of
Sub and PEI, and any claim existing, or action or proceeding pending, by or
against Sub or PEI may be prosecuted against Surviving PEI. Neither the rights
of creditors nor any liens upon the property of Sub or PEI shall be impaired by
the Merger, and all debts, liabilities and duties of each of Sub and PEI shall
attach to Surviving PEI, and may be enforced against it to the same extent as if
such debts, liabilities and duties had been incurred or contracted by it, all in
accordance with the Applicable Corporate Law and the terms of this Agreement.
1.5 Effect on the Capital Stock of Parent, LC, Sub and PEI. As of the
Effective Time, by virtue of the Merger, and without further action on the part
of any holder of shares of capital stock of or membership interests in PEI, Sub,
Parent or LC:
(a) Parent Capital Stock. Each share of capital stock of Parent issued
and outstanding at the Effective Time shall remain outstanding and shall be
unchanged at and after the Merger.
(b) LC Membership Interests. The outstanding membership interests in LC
shall remain outstanding and shall be unchanged at and after the Merger.
(c) PEI Capital Stock. At the Effective Time, all issued and outstanding
shares of the capital stock of PEI immediately prior to the Effective Time shall
be converted into the right to receive shares of the capital stock of Parent as
follows (the "MERGER CONSIDERATION"):
(i) All shares of PEI Common Stock that are owned by PEI or any of
its subsidiaries as treasury stock shall be cancelled and retired and shall
cease to exist and no stock of Parent or other consideration shall be delivered
in exchange therefor (the "CANCELLED SHARES").
(ii) All issued and outstanding shares of PEI Common Stock shall be
cancelled and converted into the right to receive an aggregate of 9,800,000
shares of Parent Common Stock; provided however, that (x) 1,000,000 of the
9,800,000 shares of the Parent Common Stock shall be deducted from the Merger
Consideration to be delivered to the Significant PEI Shareholders (as herein
defined) and placed in escrow (the "INDEMNITY ESCROW") pursuant to Section
1.6(a) and (y) the number of shares of Parent Common Stock issuable upon
exercise of the Surviving Options (as herein defined) shall be deducted from the
Merger Consideration to be delivered to the Significant PEI Shareholders and
placed in escrow (the "OPTION ESCROW") pursuant to Section 1.6(b). Each share
certificate evidencing Parent Common Stock to be issued to any Significant PEI
Shareholder shall, for the period required by the Lockup Agreement (as herein
defined), have the following legend:
3
THE SHARES REPRESENTED BY THIS CERTIFICATE ARE SUBJECT TO A CONTRACTUAL
RESTRICTION ON TRANSFER AND MAY NOT BE SOLD, PLEDGED, HYPOTHECATED OR
OTHERWISE TRANSFERRED, EXCEPT AS SET FORTH IN THAT CERTAIN LOCKUP AGREEMENT
BETWEEN THE COMPANY AND THE HOLDER HEREOF, A COPY OF WHICH IS ON FILE AT
THE PRINCIPAL OFFICES OF THE COMPANY.
In addition, the transfer agent for the Company shall be given instructions
not to permit the transfer of the shares represented by such certificates prior
to the date set forth in the legend. Notwithstanding the foregoing, however,
Significant PEI Shareholders may have the legend removed in accordance with the
terms of the Lockup Agreement.
"SIGNIFICANT PEI SHAREHOLDER" means any Person, other than Gary Coury, who,
immediately prior to the Effective Time, owns or controls, together with such
Person's Affiliates and through one or more certificates, 100,000 or more shares
of PEI Common Stock, including, without limitation the Persons listed on
Schedule 1.5(c)(ii). "PERSON" means and includes natural persons, corporations,
limited liability companies, limited partnerships (including family limited
partnerships), limited liability partnerships, general partnerships, joint stock
companies, joint ventures, associations, companies, trusts, banks, trust
companies, land trusts, business trusts or other organization, whether or not
legal entities, and governments and agencies and political subdivisions thereof
and their respective permitted successors and assigns (or in the case of a
governmental person, the successor functional equivalent of such Person).
(iii) Parent shall issue, in full and final satisfaction of the
Remainder Note, 2,500,000 shares of Parent Series A Stock. The terms of the
Parent Series A Stock will be as set forth on the form of the Certificate of
Designation of Preferences, Limitations and Relative Rights with respect to the
Parent Series A Stock attached as Exhibit 1.5(c)(iii) (the "CERTIFICATE OF
DESIGNATION").
(iv) At the Effective Time, each PEI option that is an outstanding
and unexercised non-qualified stock option or incentive stock option (within the
meaning of Section 422 of the Code) immediately prior thereto and each warrant
that represents a right to acquire securities in PEI, including the RPM Warrants
(as herein defined) and the Coury Warrants (as herein defined), that is
outstanding and unexercised shall cease to represent a right to acquire shares
of PEI Common Stock and shall be assumed by Parent and converted automatically
into an option or warrant, as the case may be (together, the "SURVIVING
OPTIONS"), to purchase shares of Parent Common Stock in an amount and at an
exercise price determined as provided below (and otherwise subject to the terms
of Section 424(a) of the Code (in the case of incentive stock options) and the
agreements and plans pursuant to which such options and warrants were issued
evidencing grants thereunder): (A) the number of shares of Parent Common Stock
to be subject to the Surviving Options shall be equal to the product of the
number of shares of PEI Common Stock subject to the original PEI options or
warrants multiplied by the per share Merger Consideration received by the
holders of PEI Common Stock (provided that such number of shares shall be
rounded to the nearest whole share); and (B) the exercise price per share of
Parent Common Stock under the Surviving Options shall be equal to the exercise
price per share of PEI
4
Common Stock under the option or warrant, divided by the per share Merger
Consideration received by the holders of PEI Common Stock (provided that such
exercise price shall be rounded to the nearest cent).
(v) Upon the exercise of any Surviving Option (other than a cashless
exercise): (a) Parent shall immediately deliver the aggregate exercise price
received by Parent (less any social security and Medicare taxes required to be
paid in by Parent as a result of such exercise) to the Escrow Agent for the
Option Escrow (the "OPTION ESCROW AGENT") for deposit in the Option Escrow, (b)
the Option Escrow Agent shall deliver the share certificate or certificates
representing such shares to Parent and promptly cause Parent to, and Parent
promptly shall, cancel a number of shares of Parent Common Stock held by the
Option Escrow Agent equal to the number of shares of Parent Common Stock
issuable upon the exercise of such Surviving Option, (c) Parent shall deliver to
the Option Escrow Agent a certificate for any shares evidenced by the cancelled
certificates that remain outstanding, and (d) Parent shall issue to the Person
exercising the Surviving Option the number of shares of Parent Common Stock
issuable upon such exercise. The Option Escrow Agent shall promptly deliver to
each Significant PEI Shareholder a portion of the consideration received from
Parent upon the exercise of any Surviving Option (other than a cashless
exercise) equal to the Merger Consideration received by such Significant PEI
Shareholder divided by the aggregate Merger Consideration received by all
Significant PEI Shareholders (a "PRO RATA SHARE"); provided however, that if any
Significant PEI Shareholder's Pro Rata Share is less than $500, the Option
Escrow Agent may hold such funds in escrow, in a non-interest bearing account,
until the amount of the disbursements due to such Significant PEI Shareholder
aggregate at least $500.
(vi) Upon the expiration of any Surviving Option, the Option Escrow
Agent shall transfer to each Significant PEI Shareholder such shareholder's Pro
Rata Share of the shares issuable upon exercise of such expiring Surviving
Option; provided, however, that if any Significant PEI Shareholder's Pro Rata
Share of the shares issuable upon the exercise of such expiring Surviving Option
is fewer than 500 shares, the Option Escrow Agent may hold such shares in escrow
until the shares to be transferred to such Significant PEI Shareholder under
this Agreement aggregate at least 500 shares. Fractional shares shall be rounded
to the nearest whole share.
(vii) In the event of any cashless exercise of any Surviving
Options, Parent shall issue to the Person exercising the Surviving Option the
number of shares of Parent Common Stock issuable upon exercise of such Surviving
Option after deduction of the number of shares of Parent Common Stock or
Surviving Options owned by such Person necessary to pay the cashless exercise
price (the "SURRENDERED SHARES"), and the Option Escrow Agent shall surrender to
Parent a number of shares of Parent Common Stock equal to the number of shares
of Parent Common Stock issued to the Person exercising such Surviving Option. In
addition, the Option Escrow Agent shall transfer to each Significant PEI
Shareholder from the Option Escrow a number of shares of Parent Common Stock
equal to such Significant PEI Shareholder's Pro Rata Share of the Surrendered
Shares; provided, however, that if any Significant PEI Shareholder's Pro Rata
Share of such Surrendered Shares is less than 500 shares, the Option Escrow
Agent may hold such shares in escrow until the aggregate number of undisbursed
shares attributable to such Significant PEI Shareholder's Pro Rata Share
(together with any undisbursed
5
shares attributable to such Significant PEI Shareholder's Pro Rata Share
pursuant to Section 1.5(c)(vi)) is 500 or more shares.
(viii) In addition to the foregoing, at any time and from time to
time, Parent shall, upon the written request of the Option Escrow Agent and the
holder of any Surviving Option and within ten business days of such request,
issue to such holder the number of shares of Parent Common Stock specified by
the Option Escrow Agent and such holder in such request, provided that
contemporaneous with such written request, (w) the Surviving Option held by such
holder is cancelled, (x) the Option Escrow Agent surrenders to Parent for
cancellation a number of shares of Parent Common Stock equal to the number of
shares that the Option Escrow Agent and such holder have requested Parent to
issue in such request, (y) if Parent is required to withhold taxes, such taxes,
together with any amount of social security and Medicare taxes required to be
paid in by Parent, are delivered to Parent, and (z) the number of shares
remaining in the Option Escrow is equal to or greater than the aggregate number
of shares issuable upon exercise of all then outstanding Surviving Options after
giving effect to the issuance of such requested shares of Parent Common Stock
and the cancellation of any Surviving Options in connection therewith.
(ix) Upon the expiration or cancellation of all Surviving Options,
the Option Escrow Agent shall transfer to each Significant PEI Shareholders its
Pro Rata Share of the remaining shares of Parent Common Stock (the "REMAINING
OPTION SHARES"). With respect to any transfers of shares of Parent Common Stock
to any Significant PEI Shareholder in connection with the Remaining Option
Shares, fractional shares shall be rounded to the nearest whole share.
(x) All warrants issued by PEI that are outstanding immediately
prior to the Effective Time and exercisable for shares of PEI Common Stock shall
have been converted into PEI Common Stock as a result of the exercise of such
warrants or cancelled as of the Effective Time other than the warrants to
purchase up to 292,693 shares of PEI Common Stock owned by Richard Mitchen and
Robert A. Marks granted under the Warrant Purchase Agreement dated October 17,
1996 among PEI, Willie E. Rigsby and Robert A. Marks (the "RPM WARRANTS") and
the warrants to purchase up to 30,499 shares of PEI Common Stock issued by PEI
on or about January 29, 1999 to Gary Coury in connection with the issuance of
the Coury Debt (the "COURY WARRANTS"); provided that some or all of the RPM
Warrants and the Coury Warrants may or may not have been exercised and to the
extent unexercised as of the Closing shall be replaced by Parent in accordance
with the provisions of Section 1.5(c)(iv) and satisfied from the Option Escrow
to the extent such replacement warrants are ever exercised.
(xi) The shares of PEI Common Stock converted into the right to
receive the Merger Consideration (each a "CONVERTED SHARE") shall, by virtue of
the Merger and without any action on the part of the holder thereof, at the
Effective Time no longer be outstanding and shall at such time be cancelled and
retired and shall cease to exist, and each holder of any Converted Shares shall
thereafter cease to have any rights with respect to such Converted Shares,
except, upon the surrender of certificates representing such Converted Shares as
set forth in Section 1.7, the right to receive the Merger Consideration at the
times and in the manner set forth below.
6
(xii) Fractional shares of Parent Common Stock will not be issued in
exchange for PEI Common Stock. In lieu of any fractional share, Parent shall
deliver a cash amount equivalent (rounded to the nearest cent) to the amount
obtained by multiplying such fraction by the current market price per share of
the Parent Common Stock (as determined by the Parent Board of Directors acting
in good faith) on the Closing Date. All fractional shares of Parent Common Stock
to be received by such holder shall be aggregated, it being the intention of the
parties that no holder of PEI Common Stock will receive cash in an amount equal
to or greater than the value of one full share of Parent Common Stock. However,
if the amount due to any PEI Shareholder is less than $1.00, such amount shall
be deemed surrendered. No interest shall be payable with respect to the payment
of such cash amount.
(xiii) The Parent and the Escrow Agent may delegate to the Parent's
transfer agent any of their duties hereunder relating to the cancellation and
issuance of shares or to the delivery of checks in lieu of fractional shares to
the PEI Shareholders.
1.6 Escrow.
(a) Of the shares of Parent Common Stock to be issued to each of the
shareholders of PEI (the "PEI SHAREHOLDERS") at Closing, 1,000,000 shares will
be deducted from the Merger Consideration to be delivered to the Significant PEI
Shareholders and be held in escrow pursuant to an escrow agreement (the
"INDEMNIFICATION ESCROW AGREEMENT") in the form of the Indemnification Escrow
Agreement attached as Exhibit 1.6(a).
(b) Of the shares of Parent Common Stock to be issued to the PEI
Shareholders at the Closing, a number of shares of Parent Common Stock equal to
the number of shares of Parent Common Stock issuable upon the exercise of the
Surviving Options will be delivered to the Option Escrow Agent to be held in
escrow pursuant to the terms of an escrow agreement (the "OPTION ESCROW
AGREEMENT") in the form of Option Escrow Agreement attached as Exhibit
1.6(b).
1.7 Exchange of Certificates.
(a) At or before the Effective Time, Parent shall supply, or cause to be
supplied, to Parent's transfer agent (the "EXCHANGE AGENT"), in trust for the
benefit of the holders of PEI Common Stock and Equus (other than the Cancelled
Shares), for exchange in accordance with this Section 1.7, certificates
evidencing shares of Parent Common Stock and Parent Series A Stock (together,
the "PARENT STOCK") issuable pursuant to this Agreement in exchange for
outstanding PEI Common Stock and the Remainder Note, respectively.
(b) As soon as reasonably practicable after the Effective Time (but in
no event more than ten days thereafter), Parent shall instruct the Exchange
Agent to mail to Equus and to each holder of record of a certificate or
certificates which immediately prior to the Effective Time evidenced outstanding
shares of PEI Common Stock (the "PEI CERTIFICATES"), other than Cancelled
Shares, (i) a letter of transmittal, which letter shall specify, among other
conditions, that delivery shall be effected, and risk of loss and title to the
PEI Certificates shall pass, only upon proper delivery of the PEI Certificates
to the Exchange Agent; (ii) instructions to effect the
7
surrender of the PEI Certificates in exchange for certificates evidencing shares
of Parent Stock (the "PARENT CERTIFICATES") and, in lieu of any fractional
shares thereof, cash; and (iii) instructions to convert the Remainder Note (as
hereinafter defined) to 2,500,000 shares of Parent Series A Stock issued to
Equus. Upon surrender of a PEI Certificate for cancellation to the Exchange
Agent, together with such letter of transmittal, duly executed, and such other
customary documents as may be reasonably required by Parent or the Exchange
Agent, the holder of such PEI Certificate shall be entitled to receive in
exchange therefor (x) a Parent Certificate evidencing that whole number of
shares of Parent Stock which such holder has the right to receive in respect of
the shares of PEI Common Stock formerly evidenced by such PEI Certificate in
accordance with applicable provisions hereof and (y) cash in lieu of a
fractional share of Parent Stock to which such holder is entitled, and the PEI
Certificate so surrendered shall forthwith be cancelled. Until surrendered, each
outstanding PEI Certificate which represented shares of PEI Common Stock, shall
be deemed from and after the Effective Time, for all corporate purposes other
than the payment of dividends, to evidence the ownership of the number of full
shares of Parent Stock into which such shares of PEI Common Stock may be
exchanged in accordance herewith and the right to receive an amount in cash in
lieu of the issuance of any fractional shares.
(c) No dividends or other distributions with respect to Parent Stock
with a record date after the Effective Time shall be paid to the holder of any
unsurrendered PEI Certificate with respect to the Parent Stock such holder is
entitled to receive until such holder has surrendered his PEI Certificate.
Subject to applicable law, following the surrender of any PEI Certificate, there
shall be paid to the record holder of the Parent Certificates issued in exchange
therefor, without interest, at the time of such surrender, the amount of
dividends or other distributions with a record date after the Effective Time
theretofore paid with respect to such whole shares of Parent Stock.
(d) If any Parent Certificate is to be issued in a name other than that
in which the PEI Certificate surrendered in exchange therefor is registered, it
shall be a condition of the issuance thereof that the PEI Certificate so
surrendered shall be properly endorsed and otherwise in proper form for transfer
and that the Person requesting such exchange shall have paid to Parent, or any
agent designated by Parent, any transfer or other taxes required by reason of
the issuance of a Parent Certificate in any name other than that of the
registered holder of the PEI Certificate surrendered.
(e) Neither Parent nor PEI shall have any liability to any holder of PEI
Common Stock for any Merger Consideration (or dividends or distributions with
respect thereto) which is delivered to a public official pursuant to any
applicable abandoned property, escheat or similar law.
1.8 Stock Transfer Books. At the Effective Time, the stock transfer books of
PEI shall be closed, and there shall be no further registration of transfers of
PEI Common Stock on the records of PEI.
8
1.9 Dissenting Shares.
(a) Notwithstanding any provision of this Agreement to the contrary, any
shares of PEI Common Stock held by a holder who has exercised appraisal rights
for such shares in accordance with the Applicable Corporate Law and who, as of
the Effective Time, has not effectively withdrawn or lost such appraisal rights
(the "DISSENTING SHARES"), shall not be converted into, or represent a right to
receive, the Merger Consideration. Such holders shall be entitled only to such
rights as are granted by the Applicable Corporate Law with respect to such
Dissenting Shares; provided however, all Dissenting Shares held by holders who
fail to perfect or who effectively withdraw or lose their rights to appraisal of
such shares under the Applicable Corporate Law shall be converted into and
become exchangeable for the right to receive, without interest thereon, the
Merger Consideration upon surrender of their PEI Certificates.
(b) Parent shall give PEI prompt written notice of any demands received
by Parent to require Parent to purchase Dissenting Shares, the withdrawal of any
such demands, and any other notices or instruments served pursuant to the
Applicable Corporate Law and received by Parent. Parent shall not, except with
the prior written consent of PEI, voluntarily make any payment with respect to
any Dissenting Shares or offer to settle, or settle, any such demands with
respect thereto.
1.10 No Further Ownership Rights in PEI Common Stock. The Merger
Consideration delivered upon the surrender of PEI Certificates in accordance
with the terms hereof shall be deemed to have been delivered in full
satisfaction of all rights pertaining to such PEI Certificates, and there shall
be no further registration of transfers on the records of Surviving PEI of
shares of PEI Common Stock which were outstanding immediately prior to the
Effective Time. If, after the Effective Time, PEI Certificates are presented to
Surviving PEI for any reason, they shall be cancelled and exchanged for the
Merger Consideration as described in Section 1.5.
1.11 Lost, Stolen or Destroyed Certificates. If any PEI Certificate shall
have been lost, stolen or destroyed (a "LOST PEI CERTIFICATE"), the Parent or
the Exchange Agent may, in their sole discretion, require the holders of the
Lost PEI Certificate to file a sworn affidavit confirming the loss of such PEI
Certificate and to deliver a bond in such sum as they may reasonably direct as
indemnity against any claim that may be made against Parent or the Exchange
Agent with respect to the Lost PEI Certificate. The Parent shall subsequently
use its commercially reasonable best efforts to cause the Exchange Agent to
deliver to the registered owner of the Lost PEI Certificate such Merger
Consideration as may be required pursuant to this Agreement.
1.12 Shareholder Approval. Both Parent and PEI shall prepare the necessary
proxy materials (which shall be included in a Registration Statement and Joint
Proxy Statement on Form S-4 (the "MERGER PROXY") to be filed with the U.S.
Securities and Exchange Commission (the "SEC")), to obtain at a shareholders'
meeting the required consent, approval or ratification of their respective
shareholders in accordance with the Securities Act of 1933, as amended
("SECURITIES ACT"), the Securities Exchange Act of 1934, as amended ("EXCHANGE
ACT"), the Applicable Corporate Law and this Agreement, as necessary for the
consummation of the transactions contemplated by this Agreement. After the
Merger Proxy is approved by the SEC, Parent and PEI shall distribute the Merger
Proxy to their respective shareholders and they shall
9
each conduct a shareholders' meeting to approve the matters set forth in the
Merger Proxy. The Merger Proxy and related documents shall be in form and
substance satisfactory to Parent and PEI. Parent and PEI shall each pay one-half
of the distribution and printing expenses, registration fees and listing fees
related to the Merger Proxy; provided however, if the transactions contemplated
hereby are not consummated because one of the parties fails to obtain
shareholder approval, that party shall pay all of such costs. Parent and PEI
shall each pay their own financial advisory fees.
1.13 Tax and Accounting Consequences. It is intended by Parent and PEI that
the Merger shall constitute a tax-free reorganization for federal income tax
purposes within the meaning of Section 368(a) of the Code. Parent and PEI
hereby adopt this Agreement as a "plan of reorganization" within the meaning of
Section 1.368-2(g) and 1.368-3(a) of the United States Treasury Regulations.
None of Parent, Sub, LC, PEI or any PEI Shareholder will take any actions that
disqualify the Merger for such treatment.
2. REPRESENTATIONS AND WARRANTIES OF PARENT
Parent hereby represents and warrants to PEI and the PEI Shareholders that,
except as otherwise disclosed in the Disclosure Schedules or in Parent's Forms
10-KSB for the year ended December 31, 2000 and 10-QSB for the quarter ended
March 31, 2001 filed with the SEC (the "CURRENT PARENT SEC DOCUMENTS"), the
following statements are true and correct as to Parent and each of its
Subsidiaries. For purposes of this Agreement, an entity shall be deemed to be a
"SUBSIDIARY" of a second entity if the second entity holds, directly or
indirectly through its ownership of one or more Subsidiaries, more than more
than 50% of the total outstanding voting power of shares of stock (or equivalent
ownership or controlling interest) entitled (without regard to the occurrence of
any contingency) to vote in the election of directors, managers or general
partners thereof.
2.1 Organization, Etc. Parent and each of its Subsidiaries is a corporation
duly organized, validly existing and in good standing under the laws of the
state of its incorporation and is duly qualified or licensed as a foreign
corporation authorized to do business in all other states in which any of its
assets or properties may be situated or where the business of Parent or each of
its Subsidiaries, respectively, is conducted, except where the failure to obtain
such qualification or license will not have a Parent Material Adverse Effect.
For purposes of this Section 2, the term "PARENT MATERIAL ADVERSE EFFECT" shall
mean an adverse effect on the properties, assets, financial position, results of
operations, long-term debt, other indebtedness, cash flows or contingent
liabilities of Parent or each of its Subsidiaries in an amount of $100,000 or
more.
2.2 Capitalization of Parent. The total authorized capital stock of Parent
consists of 75,000,000 shares of Parent Common Stock, of which 12,964,918 shares
are issued and outstanding as of the date of this Agreement. No shares are held
as treasury stock of Parent. Each issued and outstanding share of capital stock
of Parent is duly and validly authorized and issued, fully paid and non-
assessable, and was not issued in violation of the preemptive rights of any past
or present shareholder. Except as disclosed on Schedule 2.2, there are no
outstanding convertible or exchangeable securities, shares of capital stock,
subscriptions, calls, options,
10
warrants, rights or other agreements or commitments of any character relating to
the issuance or sale of any shares of capital stock of, or other equity
ownership interest in, Parent. Parent has no liability, contingent or otherwise,
to any Person or entity in connection with preemptive or contractual
subscription rights or the offer, sale, purchase, surrender or cancellation of
any shares of capital stock, convertible or exchangeable securities, warrants,
options, rights or other agreements or commitments of any character relating to
the issuance and sale of the capital stock of, or other equity ownership in
(collectively, "OTHER OWNERSHIP INTERESTS"), Parent or other voting interests or
securities of Parent. The shares of Parent Common Stock and the Parent Series A
Stock to be issued pursuant to the Merger are, or at the time of issuance will
be, duly authorized and, when issued in accordance with the terms of this
Agreement, will be validly issued, fully paid and non-assessable. The issuance
of the Parent Common Stock to the PEI Shareholders and the issuance of the
Parent Series A Stock to Equus in accordance with the terms of this Agreement
will transfer to the PEI Shareholders and to Equus valid title to such shares,
free and clear of all liens, pledges, mortgages, security interests, conditional
sales contracts and encumbrances.
2.3 Parent Series A Stock. At the Effective Time, the Parent Series A Stock
will be, upon its issuance, duly authorized, validly issued, fully paid, and
nonassessable. At the Effective Time, the underlying Parent Common Stock then
and thereafter issuable upon conversion of the Parent Series A Stock will be
duly reserved for issuance, and, when issued upon conversion of the Parent
Series A Stock, will be duly authorized, fully paid and nonassessable.
2.4 Subsidiaries. The Subsidiaries of Parent are disclosed in Schedule 2.4.
Each Significant Subsidiary (as such term is defined in Rule 1-02 of Regulation
S-X under the Securities Act) of Parent has been named in the Parent SEC
Documents. Schedule 2.4 contains, with respect to each Subsidiary of Parent,
its name and jurisdiction of incorporation and, with respect to each Subsidiary
of Parent that is not wholly owned, the number of issued and outstanding shares
of capital stock and the number of shares of capital stock owned by Parent or a
Subsidiary of Parent. All the outstanding shares of capital stock of each
Subsidiary of Parent are validly issued, fully paid and non-assessable, and
those owned by Parent or by a Subsidiary of Parent are owned free and clear of
any security interests, pledges, options, rights of first refusal, liens,
claims, encumbrances or any other limitation or restriction (including a
restriction on the right to vote or sell the same except as may be provided as a
matter of law). Except as set forth in Schedule 2.4, there are no existing
options, warrants, calls or other rights, agreements or commitments of any
character relating to the issued or unissued capital stock or other securities
of any of the Subsidiaries of Parent.
2.5 Interim Operations of Sub and LC. Sub was formed solely for the purpose
of engaging in the transactions contemplated hereby, has engaged in no other
business activities and has conducted its operations only as contemplated
hereby. LC has solely engaged in the transactions contemplated hereby, has
engaged in no other business activities and has conducted its operations only as
contemplated hereby.
2.6 Authority. Each of Parent, LC and Sub has the requisite right, power and
authority to execute, deliver and perform this Agreement and all documents and
instruments referred to in this Agreement or contemplated hereby (the "PARENT
RELATED DOCUMENTS") and to
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consummate the transactions contemplated hereby. The execution and delivery of
this Agreement and the consummation of the transactions contemplated hereby have
been duly authorized by all necessary corporate action on the part of each of
Parent, LC and Sub. This Agreement has been duly and validly executed and
delivered by each of Parent, LC and Sub, and assuming the due authorization,
execution and delivery by PEI, constitutes a valid and binding agreement of each
of Parent, LC and Sub, enforceable against each of Parent, LC and Sub in
accordance with its terms. All of the Parent Related Documents, when duly
executed and delivered by Parent, LC and Sub, will constitute legal, valid and
binding obligations of each of Parent, LC and Sub, enforceable against each of
Parent, LC and Sub in accordance with their respective terms, except as such
enforcement may be limited by bankruptcy, insolvency, reorganization, moratorium
or other similar laws affecting the enforcement of creditors' rights generally
and by general principles of equity (whether applied in a proceeding at law or
in equity).
2.7 Consents. No approval, consent, order or action of or filing with any
court, administrative agency, governmental authority or other third party is
required for the execution, delivery or performance by each of Parent, LC or Sub
of this Agreement or the Parent Related Documents or the consummation by each of
Parent, LC or Sub of the transactions contemplated hereby, except for (i) the
filing of articles of merger, in form mutually acceptable to each of Parent and
PEI, with the Secretary of State of the State of Texas (the "MERGER FILING"),
(ii) the filing of the Merger Proxy with the SEC, (iii) such filings as may be
required under federal and state securities laws, and (iv) approval by (x)
Parent's stockholders (including a majority of the stockholders other than
Alliance and its Affiliates) of the matters to be submitted to them for approval
pursuant to the Merger Proxy and the American Stock Exchange and (y) the SEC.
Parent and each of its Subsidiaries have obtained all the licenses and permits
that are legally required for the continued operation of their respective
businesses after the Effective Time, except such licenses and permits, the
absence of which will not have a Parent Material Adverse Effect.
2.8 Proprietary Rights. Parent and each of its Subsidiaries has full and
sufficient rights to use all trade names, brand names, trademarks, service marks
and logos and to use and practice all technology, proprietary information, know-
how or patented ideas, designs or inventions (collectively "PROPRIETARY RIGHTS")
necessary for the present operation of its businesses and the marketing,
distribution, sale and use of the materials used and the products sold by Parent
and each of its Subsidiaries. To Parent's knowledge, (i) none of the ownership,
access to, use or practice of the Proprietary Rights by Parent or any of its
Subsidiaries infringes on the rights of any other party and (ii) all Proprietary
Rights are valid and enforceable.
2.9 Title. Except as set forth on Schedule 2.9, Parent and each of its
Subsidiaries owns outright, and has full legal and beneficial title to all of
its assets, free and clear of all liens, pledges, mortgages, security interests,
conditional sales contracts and encumbrances, including good and marketable
title to all of its real property interests, free and clear of any mortgages,
security agreements, liens or encumbrances.
2.10 Defaults. Neither Parent nor any of its Subsidiaries nor any Designated
Plan (as defined herein) of Parent is in default under or in violation of, and
the execution and delivery of
12
the Agreement and Parent Related Documents, and the consummation of the
transactions contemplated hereby, will not result in a default by Parent or any
of its Subsidiaries or any Parent Designated Plan under or a violation of (i)
any mortgage, indenture, charter or bylaw provision, provision of any Parent
Designated Plan, contract, agreement, lease, commitment or other instrument of
any kind to which Parent or any of its Subsidiaries or any Parent Designated
Plan is a party or by which Parent or any of its Subsidiaries or any Parent
Designated Plan or any of its properties or assets may be bound or affected or
(ii) any law, rule or regulation applicable to Parent or any of its Subsidiaries
or any Parent Designated Plan or any court injunction, order or decree, or any
valid and enforceable order of any governmental agency in effect having
jurisdiction over Parent or any Parent Designated Plan, which default or
violation could adversely affect the ability of Parent or any of its
Subsidiaries to consummate the transactions contemplated hereby or will have a
Parent Material Adverse Effect.
2.11 Full Authority. Parent and each of its Subsidiaries has full power,
authority and legal right, and has all licenses, permits, qualifications, and
other documentation (including permits required under applicable Environmental
Laws (as defined herein), necessary, to own and/or operate its businesses,
properties and assets and to carry on its businesses as being conducted on the
date hereof, and such businesses are now being conducted and such assets and
properties are being owned and/or operated, and Parent Plans have been
implemented and maintained, in compliance with all applicable laws (including
Environmental Laws), ordinances, rules and regulations of any governmental
agency of the United States, any state or political subdivision thereof, or any
foreign jurisdiction, all applicable court or administrative agency decrees,
awards and orders and all such licenses, permits, qualifications and other
documentation, except where the failure to comply will not have a Parent
Material Adverse Effect, and there is no existing condition or state of facts
which would give rise to a violation thereof or a liability or default
thereunder, except where a violation, liability or default will not have a
Parent Material Adverse Effect.
2.12 Parent's SEC Documents. Parent has filed each material form, including,
but not limited to, each report, schedule, registration statement and definitive
proxy statement required to be filed by Parent with the SEC (the "PARENT SEC
DOCUMENTS"). As of its filing date (and, with respect to any registration
statement, the date on which it was declared effective), each Parent SEC
Document was, and all information to be included by Parent in the Merger Proxy
will be, in compliance, in all material respects, with all legal requirements
and contained or will contain no untrue statement of a material fact and did not
or will not omit any statement of a material fact required to be stated therein
or necessary to make the statements therein, in light of the circumstances under
which they were made or will be made, not misleading. The financial statements
of Parent included in the Parent SEC Documents complied, and the financial
statements of Parent included in the Merger Proxy will comply at the time of
filing with the SEC (and, with respect to any registration statement, at the
time it was declared effective), in all material respects, with applicable
accounting requirements and the published rules and regulations of the SEC with
respect thereto, have been prepared in accordance with generally accepted
accounting principles applied on a consistent basis during the periods involved
and fairly present, in all material respects (subject, in the case of the
unaudited statements, to normal, recurring year-end audit adjustments), the
consolidated financial position of Parent and its consolidated subsidiaries as
at the dates thereof and the consolidated results of their operations
13
and changes in financial position for the periods then ended. Since December 31,
2000, there have been no changes in the Parent's method of accounting for tax
purposes or any other purposes. The consolidated financial statements of Parent
and its consolidated subsidiaries as of December 31, 2000, and as of June 30,
2001, included the Parent SEC Documents, and to be included in the Merger Proxy,
disclose or will disclose, as applicable, all liabilities of Parent and its
consolidated subsidiaries required to be disclosed therein and contain adequate
reserves for taxes and all other material accrued liabilities.
2.13 Investment Company. Neither Parent nor any of its Subsidiaries is an
"investment company" or a company "controlled" by an "investment company" within
the meaning of the Investment Company Act of 1940, as amended, or a "holding
company," a "subsidiary company" of a "holding company" or an "affiliate" of a
"holding company" or a "public utility" within the meaning of the Public Utility
Holding Company Act of 1935, as amended.
2.14 Undisclosed Liabilities. Except as and to the extent disclosed in the
Parent SEC Documents or on Schedule 2.14, neither Parent nor any of its
Subsidiaries has any liabilities or obligations of any nature (whether absolute,
contingent or otherwise) which would result in a Parent Material Adverse Effect.
2.15 Taxes. Parent and each of its Subsidiaries has filed all requisite
federal and other Tax Returns, information returns, declarations and reports for
all fiscal periods ended on or before December 31, 2000; and there are no claims
(nor is there any matter pending which may result in a claim) against Parent or
any of its Subsidiaries for federal, state or local income, sales, use,
franchise or other taxes for any period or periods prior to and including
December 31, 2000 and no notice of any claim, whether pending or threatened, for
taxes has been received which would create a lien on the assets of Parent of any
of its Subsidiaries, or result in a Parent Material Adverse Effect. The amounts
shown as accruals for taxes in the financial statements included in the Current
Parent SEC Documents are sufficient for the payment of all taxes of any kind or
nature whatsoever for all fiscal periods ended on or before that date. Copies
of the federal, state and local income tax returns and franchise tax returns
(collectively, "TAX RETURNS") of Parent for its last three fiscal years have
been provided to PEI. Except as set forth on Schedule 2.15, neither Parent nor
any of its Subsidiaries has obtained an extension of time in which to file any
Tax Returns which have not yet been filed. Neither Parent nor any of its
Subsidiaries has waived any statute of limitations with respect to federal,
state, or local income, sales, use, franchise or other taxes or agreed to any
extensions of time with respect to a tax assessment or deficiency, except for
such waivers or extensions which, by their terms, have lapsed as of the date
hereof.
2.16 Legal Actions. Except as set forth on Schedule 2.16, no legal action,
suit, audit, investigation, unfair labor practice charge, complaint, claim,
grievance, or proceeding by or before any court, arbitration panel, governmental
authority or third party is pending or, to the knowledge of Parent (after making
inquiry with officers of Parent in a position to have such knowledge)
threatened, which involves or may involve Parent, any of its Subsidiaries, or
its now or previously owned or operated assets, operations, properties or
businesses.
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2.17 Parent Contracts; Parent Plans. Neither Parent nor, to Parent's
knowledge, any other party thereto, is in default under or in violation of any
Parent Contract or Designated Plan.
2.18 No Material Adverse Change. Except for the actions contemplated
by this Agreement or as set forth on Schedule 2.18, since December 31, 2000, to
Parent's knowledge there has not been: (a) any change in Parent's Articles of
Incorporation or Bylaws, (b) any change in the financial condition, assets,
liabilities (contingent or otherwise), income, business or prospects of Parent
or any of its Subsidiaries resulting in a Parent Material Adverse Effect; (c)
any damage, destruction or loss (whether or not covered by insurance) resulting
in a Parent Material Adverse Effect on the properties or business of Parent or
its Subsidiaries; (d) any change in the number of authorized or outstanding
shares of stock, or membership interests, as applicable, of Parent or its
Subsidiaries; (e) any declaration or payment of any dividend or distribution in
respect of the capital stock or any direct or indirect redemption, purchase or
other acquisition of any of the capital stock of Parent or its Subsidiaries; (f)
any contract or commitment entered into by Parent or any of its Subsidiaries or
any incurrence by Parent or its Subsidiaries of any liability or make any
capital expenditures in excess of $100,000; (g) any increase in the
compensation, bonus, sales commissions or fee arrangement payable or to become
payable by Parent or any of its Subsidiaries to any of their respective
officers, directors, stockholders, employees, consultants or agents; (h) any
work interruptions, labor grievances or claims filed, proposed law or regulation
(the existence of which is known, or under the normal course of business should
be known, to Parent or its Subsidiaries) or any event or condition of any
character which would have a Parent Material Adverse Effect on the business or
future prospects of Parent or any of its Subsidiaries; (i) any creation,
assumption or permitting to exist any mortgage, pledge or other lien or
encumbrance upon any assets or properties whether now owned or hereafter
acquired; (j) any sale or transfer, or any agreement to sell or transfer, any
material assets, properties or rights of Parent or any of its Subsidiaries to
any Person, including, without limitation, the stockholders and their respective
Affiliates except as contemplated by this Agreement; (k) any cancellation, or
agreement to cancel, any indebtedness or other obligation owing to Parent or any
of its Subsidiaries, including, without limitation, any indebtedness or
obligation of the stockholders or any of their Affiliates; (1) any plan,
agreement or arrangement granting any preferential rights to purchase or acquire
any interest in any of the assets, properties or rights of Parent or its
Subsidiaries or requiring consent of any party to the transfer and assignment of
any such assets, properties or rights; (m) any purchase or acquisition of, or
agreement, plan or arrangement to purchase or acquire, any property, rights or
assets of Parent or any of its Subsidiaries; (n) any negotiation for the
acquisition of any business or start-up of any new business; (o) any merger or
consolidation or agreement to merge or consolidate with or into any other entity
(except the transactions contemplated by this Agreement); (p) any waiver of any
material rights or claims of Parent or any of its Subsidiaries; (q) any breach,
amendment or termination of any material contract, agreement, license, permit,
permit application or other right to which Parent or any of its Subsidiaries is
a party; (r) any discharge, satisfaction, compromise or settlement of any claim,
lien, charge or encumbrance or payment of any obligation or liability,
contingent or otherwise, other than current liabilities as of December 31, 2000,
as set forth in the financial statements included in the Current Parent SEC
Documents, current liabilities incurred since December 31, 2000 in the ordinary
course of business and prepayments of obligations in accordance with normal and
customary past practices; (s) any transaction by Parent or any of its
Subsidiaries outside the ordinary course of their respective business or
prohibited hereunder; or
15
(t) any material adverse change in the financial condition, results of
operations or business of Parent or its Subsidiaries taken as a whole, and no
event or condition has occurred or exists that insofar as may reasonably be
foreseen, will result in a material adverse change in the financial condition,
results of operations or business of Parent or any of its Subsidiaries taken as
a whole.
2.19 Predecessors. The Parent SEC Documents contain all names under
which Parent has done business as well as the names of all predecessors of
Parent, including the names of any entities from which Parent previously
acquired significant assets.
2.20 Affiliate Relationships. No Affiliate of the shareholders, and
no director, officer or employee of or consultant to Parent or any of its
Subsidiaries owns, directly or indirectly, in whole or in part, any property,
asset or right, tangible or intangible, which is associated with any property,
asset or right owned by Parent or its Subsidiaries or that they operate or use,
or the use of which is necessary, for their respective business. The term
"AFFILIATE" means, with respect to any Person, any other Person which directly
or indirectly, by itself or through one or more intermediaries, Controls, or is
Controlled by, or is under direct or indirect common Control with, such Person.
The term "CONTROL" (and derivations thereof) means the possession, directly or
indirectly, of the power to direct, or cause the direction of, the management
and policies of a Person, whether through the ownership of voting securities, by
contract or otherwise.
2.21 Disclosure. No representation or warranty by Parent in this
Agreement, and no statement contained in the Disclosure Schedules or any
certificate delivered by Parent to PEI pursuant to this Agreement, contains or
will contain any untrue statement of a material fact or omits or will omit any
material fact necessary in order to make the statements herein or therein, in
light of the circumstances under which they are or were made, not misleading.
2.22 Other Disclosures. The following disclosures pertaining to Parent
and each of its Subsidiaries are set forth in the Disclosure Schedules:
(a) Except as disclosed on Schedule 2.22(a), neither Parent nor any
of its Subsidiaries has any products or uses any product registrations, and
there are no material safety data sheets, toxicology studies or
environmental studies with respect to the business of Parent or any of its
Subsidiaries;
(b) Except as disclosed on Schedule 2.22(b), neither Parent nor any
of its Subsidiaries owns of record or beneficially, or leases, any real
property;
(c) Schedule 2.22(c) is a list of assets owned by Parent and each of
its Subsidiaries as of the date hereof which have been capitalized and have
an unamortized value of $10,000 or more, including vehicles and rolling
stock, and a list of all leased equipment of Parent and each of its
Subsidiaries, including leased vehicles;
(d) There are no raw materials or other property located at any
property owned or leased as lessee by Parent or any of its Subsidiaries
that have been consigned to Parent or any of its Subsidiaries, or are
otherwise owned by a third party, and have a market value exceeding
$10,000;
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(e) Listed on Schedule 2.22(e) is each policy of insurance maintained
by Parent and each of its Subsidiaries, and Parent has provided PEI with
information on coverages, insurers and expiration dates, an accurate list
of all insurance loss runs and workers' compensation claims received for
the past three policy years. Parent represents and warrants that (i) such
insurance is currently in full force and effect, (ii) except as set forth
on Schedule 2.22(e), Parent's insurance has never been cancelled, (iii)
Parent has never been denied coverage or experienced a substantial increase
in premiums or a substantial reduction in coverage from one policy period
to the next policy period (other than increases resulting from the growth
of Parent and its Subsidiaries and from the increased cost of insurance
generally), (iv) to Parent's knowledge, such coverage is adequate in
character and amount, (v) such coverage is placed with financially sound
and reputable insurers unaffiliated with any of the stockholders of Parent,
and (vi) similar coverage has been in place each year for the past four
years.
(f) Schedule 2.22(f) is a list of each bank, brokerage firm, trust or
other financial institution in which Parent or any of its Subsidiaries has
an account and the identity of each such account, and each bank in which
Parent or any of its Subsidiaries has a safe deposit box, together with the
names of all Persons authorized to draw on any such account or have access
to any such safe deposit box;
(g) Schedule 2.22(g) is a list and summary description of, or copies
of, all governmental licenses and permits of Parent and each of its
Subsidiaries;
(h) Schedule 2.22(h) is a list of each debt, note, mortgage, security
agreement, pledge agreement, guaranty, bond, letter of credit, lease or
other instrument creating any debt or contingent obligation of Parent or
any of its Subsidiaries, or creating a lien or claim on any assets of
Parent or any of its Subsidiaries (other than unsecured trade accounts
payable incurred in the ordinary course of business);
(i) Schedule 2.22(i) is a list of all of Parent's Proprietary Rights
and a description of all license fees and royalties (or the basis of
calculation thereof) required to be paid now or in the future by Parent or
any of its Subsidiaries for the use and practice of its Proprietary Rights;
(j) Except as disclosed on Schedule 2.22(j), neither Parent nor any of
its Subsidiaries has any Contracts. The term "CONTRACT" means each
contract, lease, undertaking, commitment, mortgage, indenture, note,
security agreement, license and other agreement in effect on the date
hereof (i) with a party other than a customer or client of Parent or its
Subsidiaries and involving the expenditure or receipt of more than $100,000
in any year; (ii) with a customer or client of Parent, its Subsidiaries or
Sub and involving the expenditure or receipt of more than $1.0 million over
the term thereof; (iii) containing provisions calling for the sale or
purchase of raw materials, products or services at prices that vary from
the market prices of such raw materials, products or services generally
prevailing in customary third party markets; (iv) which include "most
favored nations" or similar pricing or delivery arrangements; (v) requiring
Parent, its Subsidiaries or Sub, as the case may be, to indemnify or hold
harmless any other Person or entity; (vi) evidencing any warranty
obligation of Parent, its Subsidiaries or Sub, as the case may be, with
respect to goods, services or products sold or leased by it (other than
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warranties given in the ordinary course of business); (vii) imposing on
Parent, its Subsidiaries or Sub, as the case may be, any confidentiality,
non-disclosure or non-compete obligation or containing any acceleration or
termination provisions effective upon a change of control of Parent,
Subsidiaries or Sub, respectively, or a merger of Parent or Sub into
another entity; or (viii) involving collective bargaining agreements or
other agreements with any labor union or employee group;
(k) Neither Parent nor any of its Subsidiaries has powers of attorney
presently in effect granted by Parent or any of its Subsidiaries, and all
investments of Parent or its Subsidiaries in any equity securities,
partnership interests, indebtedness or other interests in any other
corporation, or any person, partnership, joint venture, limited liability
company, trust, limited partnership or other legal entity; and
(l) Schedule 2.22(l) includes a list of all current officers,
directors and managers of Parent and each of its Subsidiaries. Parent has
provided PEI with a complete listing of the compensation of such
individuals.
2.23 Tax Reorganization Representations.
(a) LC is a domestic eligible entity, as defined in Treasury
Regulation Section 301.7701-3(b)(1)(ii), for federal income tax purposes
that is wholly owned by Parent and that has not elected to be treated as an
association taxable as a corporation under Treasury Regulation Section
301.7701-3(a).
(b) Prior to the Merger, Parent, through its ownership of LC, will be
in control of Sub within the meaning of Section 368(c) of the Code.
(c) Neither Parent nor LC has any plan or intention to cause
Surviving PEI to issue additional shares of its stock that would result in
Parent, through its ownership of LC, losing control of Surviving PEI within
the meaning of Section 368(c) of the Code.
(d) Parent has no plan or intention to reacquire any of its stock
issued in the Merger.
(e) Neither Parent nor LC has any plan or intention to liquidate
Surviving PEI; to merge Surviving PEI with or into another corporation; to
sell or otherwise dispose of the stock of Surviving PEI except for
transfers of stock to another corporation controlled by Parent to the
extent permitted by Treasury Regulation Section 1.368-2(k)(2); or to cause
Surviving PEI to sell or otherwise dispose of any of its assets, except for
dispositions made in the ordinary course of business or transfers of assets
to a corporation controlled by Parent to the extent permitted by Treasury
Regulation Section 1.368-2(k)(2).
(f) Following the Closing, Parent's and LC's intention is that
Surviving PEI will continue the historic business of PEI or use a
significant portion of the historic business assets of PEI in a business,
all as required to satisfy the "continuity of business enterprise"
requirement under Section 368 of the Code.
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(g) Neither Parent nor LC owns, nor has either Parent or LC owned
during the past five years, any shares of the stock of PEI.
(h) Each of Parent, LC and Sub is undertaking the Merger for a bona
fide business purpose and not merely for the avoidance of federal income
tax.
(i) None of Parent, LC or Sub is an investment company as defined in
Section 368(a)(2)(F)(iii) and (iv) of the Code.
(j) As of the Closing Date, Sub will have no liabilities which would
be assumed by Surviving PEI, and Sub will not transfer to Surviving PEI any
assets that are subject to liabilities in the Merger.
(k) The consideration used by Sub to pay the $2 Million Notes,
pursuant to Sections 5.3(i) and 5.5(a) of this Agreement, will be provided
by Parent in accordance with Treasury Regulation Section 1.368-
2(j)(3)(iii).
(l) The only assets of Sub prior to the Merger will be assets
transferred by Parent to Sub, which assets will be used for the purposes
set forth in Treasury Regulation Section 1.368-2(j)(3)(iii).
2.24 Brokers. Except for fees payable to J.C. Sorensen, no broker,
investment banker or other Person is entitled to any broker's, finder's or other
similar fee or commission in connection with the transactions contemplated by
this Agreement based upon arrangements made by or on behalf of Parent, its
Subsidiaries or Sub.
2.25 Labor and Employment Matters. Neither Parent nor any of its
Subsidiaries has employees who are represented by a labor union or organization,
no labor union or organization has been certified or recognized as a
representative of any such employees, and neither Parent nor any of its
Subsidiaries is a party to or has any obligation under any collective bargaining
agreement or other contract or agreement with any labor union or organization.
There are no pending or, to Parent's knowledge, threatened, representation
campaigns, elections or proceedings or questions concerning union representation
involving any employees of either Parent or any of its Subsidiaries. Neither
Parent nor any of its Subsidiaries has any knowledge of any activities or
efforts of any labor union or organization (or representatives thereof) to
organize any of its employees, any demands for recognition or collective
bargaining, any strikes, slowdowns, work stoppages or lock-outs of any kind, or
threats thereof, by or with respect to any employees of Parent or any of its
Subsidiaries, and no such activities, efforts, demands, strikes, slowdowns, work
stoppages or lock-outs occurred during a three-year period preceding the date
hereof. Neither Parent nor any of its Subsidiaries has engaged in, admitted
committing, or been held in any administrative or judicial proceeding to have
committed any unfair labor practice under the National Labor Relations Act, as
amended. Except as set forth on Schedule 2.25, neither Parent nor any of its
Subsidiaries is involved in any industrial or trade dispute or any dispute or
negotiation regarding a claim of material importance with any labor union or
organization concerning its employees, and there are no controversies, claims,
demands or
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grievances of material importance pending or, so far as Parent is aware,
threatened, between Parent or any of its Subsidiaries and any of their
respective employees.
2.26 Employee Benefit Plans.
(a) List of Plans. Schedule 2.26(a) includes a complete and accurate
list of all employee benefits plans ("PLANS"), as defined in Section 3(3)
of the Employee Retirement Income Security Act of 1974, as amended
("ERISA"), and material benefit arrangements that are not Plans ("BENEFIT
ARRANGEMENTS"), including, but not limited to any (i) employment or
consulting agreements, (ii) incentive bonus or deferred bonus arrangements,
(iii) arrangements providing termination allowance, severance or similar
benefits, (iv) equity compensation plans, (v) deferred compensation plans,
(vi) cafeteria plans, (vii) employee assistance programs, (viii) bonus
programs, (ix) scholarship programs, (x) vacation policies, and (xi) stock
option plans that are currently in effect or were maintained within three
years of the Effective Time, or have been approved before the Effective
Time but are not yet effective, for the benefit of directors, officers,
employers or former employees (or their beneficiaries) of Parent or a
Controlled Company (Plans and Benefit Arrangements collectively referred to
herein as "DESIGNATED PLANS"). "CONTROLLED COMPANY" shall mean any entity
that, together with Parent as of the relevant determination date under
ERISA, is or was required to be treated as a single employer under Section
414 of the Code and any reference to Parent in this Section 2.26 shall also
include a reference to a Controlled Company.
(b) No Title IV Plans or VEBAS. Neither Parent nor any entity
(whether or not incorporated) that was at any time during the six years
before the Effective Time treated as a single employer together with Parent
under Section 414 of the Code has ever maintained, had any obligation to
contribute to or incurred any liability with respect to a pension plan that
is or was subject to the provisions of Title IV of ERISA or Section 412 of
the Code. Neither Parent nor any entity (whether or not incorporated) that
was at any time during the six years before the Effective Time treated as a
single employer together with Parent under Section 414 of the Code has ever
maintained, had an obligation to contribute to, or incurred any liability
with respect to a multiemployer pension plan as defined in Section 3(37) of
ERISA. During the six years before the Effective Time, Parent has not
maintained, had an obligation to contribute to or incurred any liability
with respect to a voluntary employees beneficiary association that is or
was intended to satisfy the requirements of Section 501(c)(9) of the Code.
(c) Designated Plans. With respect to each Designated Plan, Parent
has delivered to PEI, as applicable, true and complete copies of (i) all
written documents comprising such Plan or each Benefit Arrangement
(including amendments and individual agreements relating thereto), (ii) the
trust, group annuity contract or other document that provides for the
funding of the Designated Plan or the payment of Designated Plan benefits,
(iii) the three most recent annual Form 5500, 990 and 1041 reports
(including all schedules thereto) filed with respect to the Designated
Plan, (iv) the most recent actuarial report, valuation statement or other
financial statement, (v) the most recent Internal Revenue Service ("IRS")
determination letter and all rulings or determinations requested from the
IRS after the date of that determination letter, (vi) the summary plan
description currently in effect and all material modifications thereto, and
(vii) all other correspondence from the IRS or Department of Labor received
that
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relate to one or more of the Designated Plans with respect to any matter,
audit or inquiry that is still pending. All information provided by Parent
and each of its Subsidiaries to the individuals who prepared any such
financial statements was true, correct and complete in all material
respects. Each financial or other report delivered to PEI pursuant hereto
is accurate in all material respects, and there has been no material
adverse change in the financial status of any Designated Plan since the
date of the most recent report provided with respect thereto.
(d) Compliance with Law. Except as set forth in Schedule 2.26(d),
Parent has operated, and has caused its appointees and nominees to operate,
each Designated Plan in a manner which is in compliance with the terms
thereof and with all applicable law, regulations and administrative agency
rulings and requirements applicable thereto, except the violation of which
would not have a Parent Material Adverse Effect. Except as otherwise
disclosed in Schedule 2.26(d), with respect to each Designated Plan that is
a Plan, (i) the Plan is in compliance with ERISA in all material respects,
including but not limited to all reporting and disclosure requirements of
Part 1 of Subtitle B of Title I of ERISA, (ii) the appropriate Form 5500
has been timely filed for each year of its existence, (iii) there has been
no transaction described in Sections 406 or 407 of ERISA or Section 4975 of
the Code relating to the Plan unless exempt under Section 408 of ERISA or
Section 4975 of the Code, as applicable, and (iv) the bonding requirements
of Section 412 of ERISA have been satisfied.
(e) Contributions. Full payment has been made of all amounts which
Parent or a Controlled Company is required, under applicable law or under
any Designated Plan or any agreement related to any Designated Plan to
which Parent or a Controlled Company is a party, to have paid as
contributions thereto as of the last day of the most recent fiscal year of
each Designated Plan ended prior to the date hereof. Benefits under all
Designated Plans are as represented in the governing instruments provided
pursuant to Section 2.26(a) and have not been increased subsequent to the
date as of which documents have been provided.
(f) Tax Qualification. Each Designated Plan, as amended to date,
that is intended to be qualified under Section 401(a) and 501(a) of the
Code has been determined to be so qualified by the IRS, has been submitted
to the IRS for a determination with respect to such qualified status or the
remedial amendment period established under Section 402(b) of the Code with
respect to the Designated Plan will not have expired prior to the Effective
Time. Except as disclosed on Schedule 2.26(f), no facts have occurred which
if known by the IRS could cause disqualification of any such Plan.
(g) Tax or Civil Liability. Neither Parent nor a Controlled Company
has participated in, or is aware of, any conduct that could result in the
imposition upon Parent of any excise tax under Sections 4971 through 4980B
of the Code or civil liability under Section 502(i) of ERISA with respect
to any Designated Plan.
(h) Claims Liability. There is no action, claim or demand of any
kind (other than routine claims for benefits) that has been brought or, to
Parent's knowledge, threatened against, or relating to, any Designated
Plan, and Parent has no knowledge of any pending investigation or
administrative review by any governmental entity relating to any Designated
Plan.
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(i) Retiree Welfare Coverage. Except as set forth in Schedule
2.26(i), no Designated Plan provides any health, life or other welfare
coverage to employees of Parent or a Controlled Company beyond termination
of their employment with Parent or a Controlled Company by reason of
retirement or otherwise, other than coverage as may be required under
Section 4980B of the Code or Part 6 of ERISA, or under the continuation of
coverage provisions of the laws of any state or locality.
(j) No Excess Parachute Payments. No amount that could be received
(whether in cash or property or the vesting of property) as a result of any
of transactions contemplated by this Agreement by any employee, officer or
director of Parent or a Controlled Company who is a "disqualified
individual" (as such term is defined in proposed Treasury Regulation
Section 1.280G-1) under any employment, severance or termination agreement,
other compensation arrangement or Designated Plan currently in effect would
be characterized as an "excess parachute payment" (as such term is defined
in Section 280G(b)(1) of the Code).
2.27 Environmental Matters.
(a) No notice, notification, demand, request for information,
citation, summons, complaint or order has been received, no complaint has
been filed, no penalty has been assessed and no investigation is pending or
has been threatened (each, an "ACTION") by any governmental entity or other
party with respect to any (i) alleged violation by Parent or any of its
Subsidiaries of any Environmental Law, (ii) alleged failure by Parent or
any such Subsidiary to have any environmental permit, certificate, license,
approval, registration or authorization required in connection with the
conduct of its business or (iii) Regulated Activity, in each case where
such Action has had, or would have, a Parent Material Adverse Effect.
(b) Except as described in Schedule 2.27(b), neither Parent nor any
of its Subsidiaries has any material Environmental Liabilities, and there
has been no release of Hazardous Substances into the environment or
violation of any Environmental Law by Parent or any such Subsidiary or with
respect to any of their respective properties which has had, or would
reasonably be expected to have, a Parent Material Adverse Effect.
(c) For the purposes of this Agreement, the following terms have the
following meanings:
(i) "ENVIRONMENTAL LAWS" shall mean any and all federal, state,
local and foreign statutes, laws, regulations, ordinances, rules,
judgments, orders, decrees, codes, injunctions and governmental
restrictions relating to human health, the environment or to emissions,
discharges or releases of Hazardous Substances into the environment or
otherwise relating to the manufacture, processing, distribution, use,
treatment, storage, disposal, transport or handling of Hazardous Substances
or the clean-up or other remediation thereof.
(ii) "ENVIRONMENTAL LIABILITIES" shall mean all liabilities which
(i) arise under or relate to Environmental Laws and (ii) relate to
Regulated Activities occurring or conditions existing on or prior to the
Effective Time.
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(iii) "HAZARDOUS SUBSTANCES" shall mean any pollutants,
contaminants, toxic, radioactive, caustic or otherwise hazardous substance or
waste, including petroleum, its derivatives, by-products and other hydrocarbons,
or any substance having any constituent elements displaying any of the foregoing
characteristics that is regulated under or by any applicable Environmental Laws.
(iv) "REGULATED ACTIVITY" shall mean any generation, treatment,
storage, recycling, transportation, disposal or release of any Hazardous
Substances.
2.28 Accounts Receivable. The accounts receivable reflected in the
most recent balance sheet included in the Merger Proxy, or to be included in the
Merger Proxy (the "LATEST PARENT BALANCE SHEET"), and all accounts receivable
ensuing since the date of the Latest Parent Balance Sheet, represent bona fide
claims against debtors for sales, services performed or other charges arising on
or before the date hereof, and all the goods delivered and services performed
which gave rise to said accounts were delivered or performed in accordance with
the applicable orders, Contracts or customer requirements. Said accounts
receivable are subject to no defenses, counterclaims or rights of offset and are
fully collectible in the ordinary course of business without cost or collection
efforts therefor except to the extent of the appropriate reserves set forth on
the Latest Parent Balance Sheet, and, in the case of accounts receivable arising
since the date of the Latest Parent Balance Sheet, to a reasonable allowance for
bad debts which does not reflect a rate of bad debts more than that reflected by
the reserve for bad debts on the Parent Balance Sheet.
2.29 Inventories. The values at which inventories are shown on the
Latest Parent Balance Sheet have been determined in accordance with the normal
valuation policy of Parent, consistently applied and in accordance with
generally accepted accounting principles. The inventories (and items of
inventory acquired or manufactured subsequent to the Latest Parent Balance
Sheet) consist only of items of quality and quantity commercially usable and
salable in the ordinary course of business, except for any items of obsolete
material or material below standard quality, all of which have been written down
to realizable market value, or for which adequate reserves have been provided.
2.30 Purchase Commitments and Outstanding Bids. As of the date of this
Agreement, the aggregate backlog for accepted and unfulfilled orders for the
sale of merchandise and orders for services of Parent, including its
Subsidiaries, is at least $4,000,000. No outstanding purchase or outstanding
lease commitment of Parent or any of its Subsidiaries is presently in excess of
the normal, ordinary and usual requirements of its business, was made at any
price in excess of the now current market price, or contains terms and
conditions more onerous than those usual and customary in Parent's or such
Subsidiary's business. Neither Parent nor any of its Subsidiaries is currently
obligated to fulfill any fixed-fee Contract that requires expenditures
materially in excess of the reasonably anticipated revenues on such Contract.
There is no outstanding bid, proposal, Contract or unfilled order of Parent or
any of its Subsidiaries which would, if or when accepted, have a Parent Material
Adverse Effect.
2.31 Payments. Parent has not, directly or indirectly, paid or
delivered any fee, commission or other sum of money or item or property, however
characterized, to any finder,
23
agent, government official or other party, in the United States or any other
country, which is in any manner related to the business or operations of Parent,
which Parent knows or has reason to believe to have been illegal under any
federal, state or local laws of the United States or any other country having
jurisdiction; and Parent has not participated, directly or indirectly, in any
boycotts or other similar practices affecting any of its actual or potential
customers and has at all times done business in an open and ethical manner.
2.32 Customers and Suppliers. Schedule 2.32 contains a complete and
accurate list of (i) the 10 largest customers of Parent and its Subsidiaries in
terms of sales during Parent's last fiscal year and (ii) the 10 largest
suppliers of Parent and its Subsidiaries in terms of purchases during Parent's
last fiscal year. Parent has provided PEI with information showing the
approximate total sales by Parent and its Subsidiaries to each such customer and
the approximate total purchases by Parent and its Subsidiaries from each
supplier during such fiscal year. Since the date of the Latest Parent Balance
Sheet, there has been no adverse change in the business relationship of Parent
or its Subsidiaries with any customer or supplier named in Schedule 2.32 which
is material to the business or financial condition of Parent.
3. REPRESENTATIONS AND WARRANTIES OF PEI
PEI hereby represents and warrants to Parent and the Parent stockholders
that, except as otherwise disclosed in the Disclosure Schedules, the following
statements are true and correct as to PEI and each of its Subsidiaries.
3.1 Organization, Etc. PEI and each of its Subsidiaries is a
corporation duly organized, validly existing and in good standing under the laws
of the state of its incorporation and is duly qualified or licensed as a foreign
corporation authorized to do business in all other states in which any of its
assets or properties may be situated or where the business of PEI or each of its
Subsidiaries is conducted, except where the failure to obtain such qualification
or license will not have a PEI Material Adverse Effect. For purposes of this
Section 3, the term "PEI MATERIAL ADVERSE EFFECT" shall mean an adverse effect
on the properties, assets, financial position, results of operations, long-term
debt, other indebtedness, cash flows or contingent liabilities of PEI or each of
its Subsidiaries in an amount of $100,000 or more.
3.2 Capitalization of PEI. The total authorized capital stock of PEI
consists of (a) 20,000,000 shares of PEI Common Stock, of which 6,219,354 shares
are issued and outstanding as of the date of this Agreement, and (b) 1,000,000
shares of preferred stock, $1.00 par value, none of which is issued and
outstanding as of the date of this Agreement. No shares are held as treasury
stock of PEI. Record ownership of the outstanding shares of PEI is set forth on
Schedule 3.2. Each issued and outstanding share of capital stock of PEI is duly
and validly authorized and issued, fully paid and non-assessable, and was not
issued in violation of the preemptive rights of any past or present shareholder.
Except as disclosed on Schedule 3.2, there are no outstanding convertible or
exchangeable securities, shares of capital stock, subscriptions, calls, options,
warrants, rights or other agreements or commitments of any character relating to
the issuance or sale of any shares of capital stock of, or other equity
ownership interest in, PEI. PEI has no liability, contingent or otherwise, to
any Person or entity in connection with any Other Ownership Interests in PEI or
other voting interests or securities of PEI.
24
3.3 Subsidiaries. All Subsidiaries of PEI are disclosed in Schedule
3.3, which contains each Subsidiary's name and jurisdiction of incorporation
and, with respect to each Subsidiary of PEI that is not wholly owned, the number
of issued and outstanding shares of capital stock and the number of shares of
capital stock owned by PEI or a Subsidiary of PEI. All of the outstanding shares
of capital stock of each Subsidiary of PEI are validly issued, fully paid and
non-assessable, and those owned by PEI or by a Subsidiary of PEI are owned free
and clear of any security interests, pledges, options, rights of first refusal,
liens, claims, encumbrances or any other limitation or restriction (including a
restriction on the right to vote or sell the same except as may be provided as a
matter of law). Except as set forth in Schedule 3.3, there are no existing
options, warrants, calls or other rights, agreements or commitments of any
character relating to the issued or unissued capital stock or other securities
of any of PEI or a Subsidiary of PEI.
3.4 Authority. PEI has the requisite right, power and authority to
execute, deliver and perform this Agreement and all documents and instruments
referred to in this Agreement or contemplated hereby (the "PEI RELATED
DOCUMENTS") and to consummate the transactions contemplated hereby. The
execution and delivery of this Agreement and the consummation of the
transactions contemplated hereby have been duly authorized by all necessary
corporate action on the part of PEI. This Agreement has been duly and validly
executed and delivered by PEI, and assuming the due authorization, execution and
delivery by Parent, LC and Sub, constitutes a valid and binding agreement of
PEI, enforceable against PEI in accordance with its terms. All of the PEI
Related Documents, when duly executed and delivered by PEI, will constitute
legal, valid and binding obligations of PEI, enforceable against PEI in
accordance with their respective terms, except as such enforcement may be
limited by bankruptcy, insolvency, reorganization, moratorium or other similar
laws affecting the enforcement of creditors' rights generally and by general
principles of equity (whether applied in a proceeding at law or in equity).
3.5 Consents. Except as set forth on Schedule 3.5, no approval,
consent, order or action of or filing with any court, administrative agency,
governmental authority or other third party is required for the execution,
delivery or performance by PEI of this Agreement or the PEI Related Documents or
the consummation by PEI of the transactions contemplated hereby, except for (i)
the Merger Filing, (ii) such filings as may be required under federal and state
securities laws, and (iii) approval by PEI's shareholders of the matters to be
submitted to them for approval pursuant to the Merger Proxy. PEI and each of its
Subsidiaries has obtained all the licenses and permits that are legally required
for the continued operation of their respective business after the Effective
Time, except such licenses and permits, the absence of which will not have a PEI
Material Adverse Effect.
3.6 Proprietary Rights. PEI and each of its Subsidiaries has full and
sufficient rights to use all Proprietary Rights necessary for the present
operation of its businesses and the marketing, distribution, sale and use of the
materials used and the products sold by PEI and each of its Subsidiaries. To
PEI's knowledge, (i) none of the ownership, access to, use or practice of the
Proprietary Rights by PEI or any of its Subsidiaries infringes on the rights of
any other party and (ii) all Proprietary Rights of PEI or any of its
Subsidiaries are valid and enforceable.
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3.7 Title. Except as set forth on Schedule 3.7, PEI and each of its
Subsidiaries owns outright, and has full legal and beneficial title to all of
its assets free and clear of all liens, pledges, mortgages, security interests,
conditional sales contracts and encumbrances, including good and marketable
title to all of its real property interests, free and clear of any mortgages,
security agreements, liens or encumbrances.
3.8 Defaults. Except as set forth on Schedule 3.8, neither PEI nor any
of its Subsidiaries nor any Designated Plan (as defined in Section 2.26(a)) of
PEI is in default under or in violation of, and the execution and delivery of
this Agreement and the PEI Related Documents, and the consummation of the
transactions contemplated hereby, will not result in a default by PEI, any of
its Subsidiaries or any PEI Designated Plan under or a violation of (i) any
mortgage, indenture, charter or bylaw provision, provision of any PEI Designated
Plan, contract, agreement, lease, commitment or other instrument of any kind to
which PEI, its Subsidiaries or any PEI Designated Plan is a party or by which
PEI, its Subsidiaries or any PEI Designated Plan or any of its properties or
assets may be bound or affected or (ii) any law, rule or regulation applicable
to PEI or any PEI Designated Plan or any court injunction, order or decree, or
any valid and enforceable order of any governmental agency in effect having
jurisdiction over PEI, its Subsidiaries or any PEI Designated Plan, which
default or violation could adversely affect the ability of PEI to consummate the
transactions contemplated hereby or will have a PEI Material Adverse Effect.
3.9 Full Authority. PEI and each of its Subsidiaries has full power,
authority and legal right, and has all licenses, permits, qualifications, and
other documentation (including permits required under applicable Environmental
Laws) necessary, to own and/or operate their respective businesses, properties
and assets and to carry on its businesses as being conducted on the date hereof,
and such businesses are now being conducted and such assets and properties are
being owned and/or operated, and PEI Plans have been implemented and maintained,
in compliance with all applicable laws (including Environmental Laws),
ordinances, rules and regulations of any governmental agency of the United
States, any state or political subdivision thereof, or any foreign jurisdiction,
all applicable court or administrative agency decrees, awards and orders and all
such licenses, permits, qualifications and other documentation, except where the
failure to comply will not have a PEI Material Adverse Effect, and there is no
existing condition or state of facts which would give rise to a violation
thereof or a liability or default thereunder, except where a violation,
liability or default will not have a PEI Material Adverse Effect.
3.10 PEI's SEC Documents. All information included by PEI in the
Merger Proxy will be in compliance, in all material respects, with all legal
requirements and will not contain any untrue statement of a material fact or
omit any statement of a material fact required to be stated therein or necessary
to make the statements therein, in light of the circumstances under which they
are made, not misleading. The financial statements of PEI included in the Merger
Proxy will comply, at the time of filing with the SEC (and, with respect to any
registration statement, at the time it was declared effective), in all material
respects, with applicable accounting requirements and the published rules and
regulations of the SEC with respect thereto, and will be prepared in accordance
with generally accepted accounting principles applied on a consistent basis
during the periods involved and will fairly present, in all material respects
(subject, in the
26
case of the unaudited statements, to normal, recurring year-end audit
adjustments), the consolidated financial position of PEI and its consolidated
subsidiaries as of the dates thereof and the consolidated results of their
operations and changes in financial position for the periods then ended. Since
December 31, 2000, there have been no changes in PEI's method of accounting for
tax purposes or any other purposes. The consolidated financial statements of PEI
and its consolidated Subsidiaries as of December 31, 2000, and as of June 30,
2001 to be included in the Merger Proxy will disclose, as applicable, all
liabilities of PEI and its consolidated subsidiaries required to be disclosed
therein and contain adequate reserves for taxes and all other material accrued
liabilities.
3.11 Investment Company. Neither PEI nor any of its Subsidiaries is an
"investment company" or a company "controlled" by an "investment company" within
the meaning of the Investment Company Act of 1940, as amended, or a "holding
company," a "subsidiary company" of a "holding company" or an "affiliate" of a
"holding company" or a "public utility" within the meaning of the Public Utility
Holding Company Act of 1935, as amended.
3.12 Undisclosed Liabilities. Except as and to the extent specifically
disclosed on the audited financial statements of PEI dated as of and for the
period ended December 31, 2000 and the unaudited balance sheets and statements
of income, changes of shareholders' equity and cash flows for the period from
January 1, 2000 to March 31, 2001 provided to Parent prior to the date of this
Agreement or as described on Schedule 3.12, neither PEI nor any of its
Subsidiaries has any liabilities or obligations of any nature (whether absolute,
contingent or otherwise) which would result in a PEI Material Adverse Effect.
3.13 Taxes. PEI and each of its Subsidiaries has filed all requisite
federal and other Tax Returns, information returns, declarations and reports for
all fiscal periods ended on or before December 31, 2000; and there are no claims
(nor is there any matter pending which may result in a claim) against PEI or any
of its Subsidiaries for federal, state or local income, sales, use, franchise or
other taxes for any period or periods prior to and including December 31, 2000,
and no notice of any claim, whether pending or threatened, for taxes has been
received which would create a lien on the assets of PEI or its Subsidiaries, or
result in a PEI Material Adverse Effect. The amounts shown as accruals for taxes
in the financial statements included in the Merger Proxy are sufficient for the
payment of all taxes of any kind or nature whatsoever for all fiscal periods
ended on or before that date. Copies of all PEI Tax Returns for its last three
fiscal years have been provided to Parent. Except as set forth on Schedule 3.13,
neither PEI nor any of its Subsidiaries has obtained any extensions of time in
which to file any Tax Return which has not yet been filed. Neither PEI nor any
of its Subsidiaries has waived any statutes of limitation with respect to
federal, state, or local income, sales, use, franchise or other taxes or agreed
to any extensions of time with respect to a tax assessment or deficiency, except
for such waivers or extensions which, by their terms, have lapsed as of the date
hereof.
3.14 Legal Actions. Except as set forth on Schedule 3.14, no legal
action, suit, audit, investigation, unfair labor practice charge, complaint,
claim, grievance, or proceeding by or before any court, arbitration panel,
governmental authority or third party is pending or, to the knowledge of PEI or
any of its Subsidiaries (after making inquiry with officers of PEI in a position
to have such knowledge) threatened, which involves or may involve PEI, its
27
Subsidiaries or their now or previously owned or operated assets, operations,
properties or businesses.
3.15 PEI Contracts; PEI Plans. Neither PEI nor any other party thereto
is in default under or in violation of any PEI Contract or PEI Designated Plan.
3.16 No Material Adverse Change. Except for the actions contemplated
by this Agreement or as set forth in Schedule 3.16, since December 31, 2000, to
PEI's knowledge, there has not been: (a) any change in PEI's Articles of
Incorporation or Bylaws, (b) any change in the financial condition, assets,
liabilities (contingent or otherwise), income, business or prospects of PEI or
any of its Subsidiaries resulting in a PEI Material Adverse Effect; (c) any
damage, destruction or loss (whether or not covered by insurance) resulting in a
PEI Material Adverse Effect on the properties or business of PEI or any of its
Subsidiaries; (d) any change in the authorized or outstanding shares of stock or
membership interests, as applicable, of PEI or its Subsidiaries; (e) any
declaration or payment of any dividend or distribution in respect of the capital
stock or any direct or indirect redemption, purchase or other acquisition of any
of the capital stock of PEI or its Subsidiaries; (f) any contract or commitment
entered into by PEI or any of its Subsidiaries, or any incurrence by PEI or any
of its Subsidiaries, or any agreement by PEI or any of its Subsidiaries to incur
any liability or make any capital expenditures in excess of $100,000; (g) any
increase in the compensation, bonus, sales commissions or fee arrangement
payable or to become payable by PEI or any of its Subsidiaries to any of their
respective officers, directors, shareholders, employees, consultants or agents;
(h) any work interruptions, labor grievances or claims filed, proposed law or
regulation (the existence of which is known, or under the normal course of
business should be known, to PEI or its Subsidiaries) or any event or condition
of any character which would have a PEI Material Adverse Effect on the business
or future prospects of PEI or any of its Subsidiaries; (i) any creation,
assumption or permitting to exist any mortgage, pledge or other lien or
encumbrance upon any assets or properties whether now owned or hereafter
acquired; (j) any sale or transfer, or any agreement to sell or transfer, any
material assets, properties or rights of PEI or any of its Subsidiaries to any
Person, including, without limitation, the shareholders and their respective
Affiliates except as contemplated by this Agreement; (k) any cancellation, or
agreement to cancel, any indebtedness or other obligation owing to PEI or its
Subsidiaries, including, without limitation, any indebtedness or obligation of
the shareholders or any of their Affiliates; (l) any plan, agreement or
arrangement granting any preferential rights to purchase or acquire any interest
in any of the assets, properties or rights of PEI or its Subsidiaries or
requiring consent of any party to the transfer and assignment of any such
assets, properties or rights; (m) any purchase or acquisition of, or agreement,
plan or arrangement to purchase or acquire, any property, rights or assets of
PEI or any of its Subsidiaries; (n) any negotiation for the acquisition of any
business or start-up of any new business; (o) any merger or consolidation or
agreement to merge or consolidate with or into any other entity (except the
transactions contemplated by this Agreement); (p) any waiver of any material
rights or claims of Parent or any of its Subsidiaries; (q) any breach, amendment
or termination of any material contract, agreement, license, permit, permit
application or other right to which PEI or any of its Subsidiaries is a party;
(r) any discharge, satisfaction, compromise or settlement of any claim, lien,
charge or encumbrance or payment of any obligation or liability, contingent or
otherwise, other than current liabilities as of December 31, 2000, as set forth
in the financial statements to be included in the Merger Proxy, current
liabilities incurred since
28
December 31, 2000 in the ordinary course of business and prepayments of
obligations in accordance with normal and customary past practices; (s) any
transaction by PEI or any of its Subsidiaries outside the ordinary course of
their respective business or prohibited hereunder, or (t) any material adverse
change in the financial condition, results of operations or business of PEI or
its Subsidiaries, taken as a whole, and no event or condition has occurred or
exists that insofar as may reasonably be foreseen, will result in a material
adverse change in the financial condition, results of operations or business of
PEI and any of its Subsidiaries, taken as a whole.
3.17 Predecessors. Schedule 3.17 contains all names under which PEI or
its Subsidiaries have done business during the last five years as well as the
names of all predecessors of PEI or its Subsidiaries, including the names of any
entities from which PEI or its Subsidiaries previously acquired significant
assets during the last five years.
3.18 Affiliate Relationships. Except as set forth on Schedule 3.18, no
Affiliate (as defined in Section 2.20) of the shareholders, and no director,
officer or employee of or consultant to PEI or its Subsidiaries owns, directly
or indirectly, in whole or in part, any property, asset or right, tangible or
intangible, which is associated with any property, asset or right owned by PEI
or its Subsidiaries, or which PEI or its Subsidiaries are operating or using or
the use of which is necessary for their respective businesses.
3.19 Disclosure. No representation or warranty by PEI in this
Agreement, and no statement contained in the Disclosure Schedules or any
certificate delivered by PEI to Parent pursuant to this Agreement, contains or
will contain any untrue statement of a material fact or omits or will omit any
material fact necessary in order to make the statements herein or therein, in
light of the circumstances under which they are or were made, not misleading.
3.20 Other Disclosures. The following disclosures pertaining to PEI
and each of its Subsidiaries are set forth in the Disclosure Schedules:
(a) Except as disclosed on Schedule 3.20(a), neither PEI nor any of
its Subsidiaries has any products or uses any product registrations, and
there are no material safety data sheets, toxicology studies or
environmental studies with respect to the business of PEI or any of its
Subsidiaries;
(b) Except as disclosed on Schedule 3.20(b), PEI or any of its
Subsidiaries neither owns of record or beneficially, nor leases, any real
property;
(c) Schedule 3.20(c) is a list of assets owned by PEI and each of its
Subsidiaries as of the date hereof which have been capitalized and have an
unamortized value of $10,000 or more, including vehicles and rolling stock,
and a list of all leased equipment of PEI or its Subsidiaries, including
leased vehicles;
(d) Except as set forth on Schedule 3.20(d), there are no raw
materials or other property located at any property owned or leased as
lessee by PEI or any of its Subsidiaries that have been consigned to PEI,
or are otherwise owned by a third party, that in the aggregate, have a
market value exceeding $10,000;
29
(e) Listed on Schedule 3.20(e) is each policy of insurance maintained
by PEI and each of its Subsidiaries, and PEI has provided Parent with
information on premiums, coverages, insurers, expiration dates and
deductibles, an accurate list of all insurance loss runs and workers'
compensation claims received for the past three policy years. PEI
represents and warrants that (i) such insurance is currently in full force
and effect; (ii) insurance held by PEI or any of its Subsidiaries has never
been cancelled; (iii) neither PEI nor any of its Subsidiaries has been
denied coverage or experienced a substantial increase in premiums or a
substantial reduction in coverage from one policy period to the next policy
period other than increases resulting from the growth of PEI and its
Subsidiaries and from the increased cost of insurance generally; (iv) to
PEI's knowledge, such coverage is adequate in character and amount; (v)
such coverage is placed with financially sound and reputable insurers
unaffiliated with any of the PEI Shareholders; and (vi) similar coverage
has been in place each year for the past four years;
(f) Schedule 3.20(f) is a list of each bank, brokerage firm, trust or
other financial institution in which PEI or any of its Subsidiaries has an
account and the identity of each such account, and each bank in which PEI
or any of its Subsidiaries has a safe deposit box, together with the names
of all Persons authorized to draw on any such account or have access to any
such safe deposit box;
(g) Schedule 3.20(g) is a list and summary description of, or copies
of, all governmental licenses and permits of PEI and each of its
Subsidiaries;
(h) Schedule 3.20(h) is a list of each debt, note, mortgage, security
agreement, pledge agreement, guaranty, bond, letter of credit, lease or
other instrument creating any debt or contingent obligation of PEI or its
Subsidiaries, or creating a lien or claim on any assets of Parent or any of
its Subsidiaries (other than unsecured trade accounts payable incurred in
the ordinary course of business), including a list of any indebtedness of
PEI or its Subsidiaries to any PEI Shareholder;
(i) Schedule 3.20(i) is a list of all of PEI's Proprietary Rights and
a description of all license fees and royalties (or the basis of
calculation thereof) required to be paid now or in the future by PEI or its
Subsidiaries for the use and practice of its Proprietary Rights;
(j) Except as disclosed on Schedule 3.20(j), neither PEI nor its
Subsidiaries has any PEI Contracts. The term "PEI CONTRACT" means each
contract, lease, undertaking, commitment, mortgage, indenture, note,
security agreement, license and other agreement of PEI or its Subsidiaries
in effect on the date hereof (i) with a party other than a customer or
client of PEI or its Subsidiaries and involving the expenditure or receipt
of more than $100,000 in any year; (ii) with a customer or client of PEI
and involving the expenditure or receipt of more than $1.0 million over the
term thereof; (iii) containing provisions calling for the sale or purchase
of raw materials, products or services at prices that vary from the market
prices of such raw materials, products or services generally prevailing in
customary third party markets; (iv) which include "most favored nations" or
similar pricing or delivery arrangements; (v) requiring PEI or its
Subsidiaries to indemnify or hold harmless any other Person or entity; (vi)
evidencing any warranty obligation of PEI or its Subsidiaries with respect
to goods, services or products sold or
30
leased by it (other than warranties given in the ordinary course of
business); (vii) imposing on PEI or its Subsidiaries any confidentiality,
non-disclosure or non-compete obligation or containing any acceleration or
termination provisions effective upon a change of control of PEI, or a
merger of PEI into another entity; or (viii) involving collective
bargaining agreements or other agreements with any labor union or employee
group;
(k) Neither PEI nor any of its Subsidiaries has powers of attorney
presently in effect granted by PEI or any of its Subsidiaries and all
investments of PEI or its Subsidiaries in any equity securities,
partnership interests, indebtedness or other interests in any other
corporation, or any person, partnership, joint venture, limited liability
company, trust, limited partnership or other legal entity; and
(l) Schedule 3.20(l) includes a list of all officers, directors and
managers of PEI and each of its Subsidiaries. PEI has provided Parent with
a complete listing of the compensation and such individuals.
3.21 Brokers. Except for fees payable to T.E. Mills & Associates, no
broker, investment banker or other Person is entitled to any broker's, finder's
or other similar fee or commission in connection with the transactions
contemplated by this Agreement based upon arrangements made by or on behalf of
PEI or any of its Subsidiaries.
3.22 Labor and Employment Matters. Neither PEI nor any of its
Subsidiaries has employees who are represented by a labor union or organization,
no labor union or organization has been certified or recognized as a
representative of any such employees, and neither PEI nor any of its
Subsidiaries is a party to or has any obligation under any collective bargaining
agreement or other contract or agreement with any labor union or organization.
There are no pending or, to PEI's knowledge, threatened, representation
campaigns, elections or proceedings or questions concerning union representation
involving any employees of either PEI or any of its Subsidiaries. Neither PEI
nor any of its Subsidiaries has any knowledge of any activities or efforts of
any labor union or organization (or representatives thereof) to organize any of
its employees, any demands for recognition or collective bargaining, any
strikes, slowdowns, work stoppages or lock-outs of any kind, or threats thereof,
by or with respect to any employees of PEI or any of its Subsidiaries, and no
such activities, efforts, demands, strikes, slowdowns, work stoppages or lock-
outs occurred during a three-year period preceding the date hereof. Neither PEI
nor any of its Subsidiaries has engaged in, admitted committing, or been held in
any administrative or judicial proceeding to have committed any unfair labor
practice under the National Labor Relations Act, as amended. Except as set forth
on Schedule 3.22, neither PEI nor any of its Subsidiaries is involved in any
industrial or trade dispute or any dispute or negotiation regarding a claim of
material importance with any labor union or organization concerning its
employees, and there are no controversies, claims, demands or grievances of
material importance pending or, so far as PEI is aware, threatened, between PEI
or any of its Subsidiaries and any of its employees.
31
3.23 Employee Benefit Plans.
(a) List of Plans. Schedule 3.23(a) includes a complete and accurate
list of all Plans and Benefit Arrangements of PEI or its Subsidiaries,
including, but not limited to any (i) employment or consulting agreements,
(ii) incentive bonus or deferred bonus arrangements, (iii) arrangements
providing termination allowance, severance or similar benefits, (iv) equity
compensation plans, (v) deferred compensation plans, (vi) cafeteria plans,
(vii) employee assistance programs, (viii) bonus programs, (ix) scholarship
programs, (x) vacation policies, and (xi) stock option plans that are
currently in effect or were maintained within three years of the Effective
Time, or have been approved before the Effective Time but are not yet
effective, for the benefit of directors, officers, employers or former
employees (or their beneficiaries) of PEI or a Controlled Company ("PEI
DESIGNATED PLANS").
(b) No Title IV Plans or VEBAS. Neither PEI nor any entity (whether
or not incorporated) that was at any time during the six years before the
Effective Time treated as a single employer together with PEI under Section
414 of the Code has ever maintained, had any obligation to contribute to or
incurred any liability with respect to a pension plan that is or was
subject to the provisions of Title IV of ERISA or Section 412 of the Code.
Neither PEI nor any entity (whether or not incorporated) that was at any
time during the six years before the Effective Time treated as a single
employer together with PEI under Section 414 of the Code has ever
maintained, had an obligation to contribute to, or incurred any liability
with respect to a multiemployer pension plan as defined in Section 3(37) of
ERISA. During the six years before the Effective Time, PEI has not
maintained, had an obligation to contribute to or incurred any liability
with respect to a voluntary employees beneficiary association that is or
was intended to satisfy the requirements of Section 501(c)(9) of the Code.
(c) Designated Plans. With respect to each PEI Designated Plan, PEI
has delivered to Parent, as applicable, true and complete copies of (i) all
written documents comprising such Plan or each Benefit Arrangement
(including amendments and individual agreements relating thereto), (ii) the
trust, group annuity contract or other document that provides for the
funding of the PEI Designated Plan or the payment of Designated Plan
benefits, (iii) the three most recent annual Form 5500, 990 and 1041
reports (including all schedules thereto) filed with respect to the
Designated Plan, (iv) the most recent actuarial report, valuation statement
or other financial statement, (v) the most recent IRS determination letter
and all rulings or determinations requested from the IRS after the date of
that determination letter, (vi) the summary plan description currently in
effect and all material modifications thereto, and (vii) all other
correspondence from the IRS or Department of Labor received that relate to
one or more of the Designated Plans with respect to any matter, audit or
inquiry that is still pending. All information provided by PEI and each of
its Subsidiaries to the individuals who prepared any such financial
statements was true, correct and complete in all material respects. Each
financial or other report delivered to PEI pursuant hereto is accurate in
all material respects, and there has been no material adverse change in the
financial status of any PEI Designated Plan since the date of the most
recent report provided with respect thereto.
(d) Compliance with Law. Except as set forth in Schedule 3.23(d), PEI
has operated, and has caused its appointees and nominees to operate, each
Designated Plan in a
32
manner which is in compliance with the terms thereof and with all
applicable law, regulations and administrative agency rulings and
requirements applicable thereto, except the violation of which would not
have a PEI Material Adverse Effect. Except as otherwise disclosed in
Schedule 3.23(d), with respect to each Designated Plan that is a Plan, (i)
the Plan is in compliance with ERISA in all material respects, including
but not limited to all reporting and disclosure requirements of Part 1 of
Subtitle B of Title I of ERISA, (ii) the appropriate Form 5500 has been
timely filed for each year of its existence, (iii) there has been no
transaction described in Sections 406 or 407 of ERISA or Section 4975 of
the Code relating to the Plan unless exempt under Section 408 of ERISA or
Section 4975 of the Code, as applicable, and (iv) the bonding requirements
of Section 412 of ERISA have been satisfied.
(e) Contributions. Full payment has been made of all amounts which
PEI or a Controlled Company is required, under applicable law or under any
Designated Plan or any agreement related to any Designated Plan to which
PEI or a Controlled Company is a party, to have paid as contributions
thereto as of the last day of the most recent fiscal year of each
Designated Plan ended prior to the date hereof. Benefits under all
Designated Plans are as represented in the governing instruments provided
pursuant to Section 3.23(a) and have not been increased subsequent to the
date as of which documents have been provided.
(f) Tax Qualification. Each Designated Plan, as amended to date,
that is intended to be qualified under Section 401(a) and 501(a) of the
Code has been determined to be so qualified by the IRS, has been submitted
to the IRS for a determination with respect to such qualified status or the
remedial amendment period established under Section 402(b) of the Code with
respect to the Designated Plan will not have expired prior to the Effective
Time. Except as disclosed on Schedule 3.23(f), no facts have occurred which
if known by the IRS could cause disqualification of any such Plan.
(g) Tax or Civil Liability. Neither PEI nor a Controlled Company has
participated in, or is aware of, any conduct that could result in the
imposition upon PEI of any excise tax under Sections 4971 through 4980B of
the Code or civil liability under Section 502(i) of ERISA with respect to
any Designated Plan.
(h) Claims Liability. There is no action, claim or demand of any
kind (other than routine claims for benefits) that has been brought or, to
PEI's knowledge, threatened against, or relating to, any Designated Plan,
and PEI has no knowledge of any pending investigation or administrative
review by any governmental entity relating to any Designated Plan.
(i) Retiree Welfare Coverage. Except as set forth in Schedule
3.23(i), no Designated Plan provides any health, life or other welfare
coverage to employees of PEI or a Controlled Company beyond termination of
their employment with PEI or a Controlled Company by reason of retirement
or otherwise, other than coverage as may be required under Section 4980B of
the Code or Part 6 of ERISA, or under the continuation of coverage
provisions of the laws of any state or locality.
33
(j) No Excess Parachute Payments. No amount that could be received
(whether in cash or property or the vesting of property) as a result of any of
transactions contemplated by this Agreement by any employee, officer or director
of PEI or a Controlled Company who is a "disqualified individual" under any
employment, severance or termination agreement, other compensation arrangement
or Designated Plan currently in effect would be characterized as an "excess
parachute payment."
3.24 Environmental Matters.
(a) No Action has been filed by any governmental entity or other party
with respect to any (i) alleged violation by PEI or any of its Subsidiaries of
any Environmental Law, (ii) alleged failure by PEI or any such Subsidiary to
have any environmental permit, certificate, license, approval, registration or
authorization required in connection with the conduct of its business or (iii)
Regulated Activity, in each case where such Action has had, or would have, a PEI
Material Adverse Effect.
(b) Neither PEI nor any of its Subsidiaries has any material
Environmental Liabilities, and there has been no release of Hazardous Substances
into the environment or violation of any Environmental Law by PEI or any such
Subsidiary or with respect to any of their respective properties which has had,
or would reasonably be expected to have, a PEI Material Adverse Effect.
3.25 Accounts Receivable. The accounts receivable reflected in the most
recent balance sheet of PEI included in the Merger Proxy (the "LATEST PEI
BALANCE SHEET"), and all accounts receivable ensuing since the date of the
Latest PEI Balance Sheet, represent bona fide claims against debtors for sales,
services performed or other charges arising on or before the date hereof, and
all the goods delivered and services performed which gave rise to said accounts
were delivered or performed in accordance with the applicable orders, PEI
Contracts or customer requirements. Said accounts receivable are subject to no
defenses, counterclaims or rights of offset and are fully collectible in the
ordinary course of business without cost or collection efforts therefor except
to the extent of the appropriate reserves set forth on the Latest PEI Balance
Sheet, and, in the case of accounts receivable arising since the date of the
Latest PEI Balance Sheet, to a reasonable allowance for bad debts which does not
reflect a rate of bad debts more than that reflected by the reserve for bad
debts on the PEI Balance Sheet.
3.26 Inventories. The values at which inventories are shown on the Latest PEI
Balance Sheet have been determined in accordance with the normal valuation
policy of the PEI, consistently applied and in accordance with generally
accepted accounting principles. The inventories (and items of inventory acquired
or manufactured subsequent to the Latest PEI Balance Sheet) consist only of
items of quality and quantity commercially usable and salable in the ordinary
course of business, except for any items of obsolete material or material below
standard quality, all of which have been written down to realizable market
value, or for which adequate reserves have been provided.
3.27 Purchase Commitments and Outstanding Bids. As of the date of this
Agreement, the aggregate backlog for accepted and unfulfilled orders for the
sale of merchandise and orders
34
for services of PEI, including its Subsidiaries, shall be at least $12,000,000.
No outstanding purchase or outstanding lease commitment of PEI or any of its
Subsidiaries is presently in excess of the normal, ordinary and usual
requirements of its business, was made at any price in excess of the now current
market price, or contains terms and conditions more onerous than those usual and
customary in PEI's or such Subsidiary's business. Neither PEI nor any of its
Subsidiaries is currently obligated to fulfill any fixed-fee Contract that
requires expenditures materially in excess of the reasonably anticipated
revenues on such Contract. There is no outstanding bid, proposal, Contract or
unfilled order of PEI or any of its Subsidiaries which would, if or when
accepted, have a PEI Material Adverse Effect.
3.28 Payments. Neither PEI nor any of its Subsidiaries has, directly or
indirectly, paid or delivered any fee, commission or other sum of money or item
or property, however characterized, to any finder, agent, government official or
other party, in the United States or any other country, which is in any manner
related to the business or operations of PEI or its Subsidiaries, which PEI
knows or has reason to believe to have been illegal under any federal, state or
local laws of the United States or any other country having jurisdiction; and
neither PEI nor its Subsidiaries has participated, directly or indirectly, in
any boycotts or other similar practices affecting any of its actual or potential
customers and has at all times done business in an open and ethical manner.
3.29 Customers and Suppliers. Schedule 3.29 contains a complete and accurate
list of (i) the 10 largest customers of PEI and its Subsidiaries in terms of
sales during PEI's last fiscal year, and (ii) the 10 largest suppliers of PEI
and its Subsidiaries in terms of purchases during PEI's last fiscal year. PEI
has provided Parent with information showing the approximate total sales by PEI
and its Subsidiaries to each such customer and the approximate total purchases
by PEI and its Subsidiaries from each supplier during such fiscal year. Since
the date of the latest PEI Balance Sheet, there has been no adverse change in
the business relationship of PEI or any of its Subsidiaries with any customer or
supplier named in the Schedule 3.29 which is material to the business or
financial condition of PEI.
4. CERTAIN COVENANTS, AGREEMENTS AND PRE-CLOSING MATTERS
4.1 Tax Matters.
(a) Unless the other parties shall otherwise agree in writing, none of
PEI, Parent, LC, Sub or Surviving PEI shall knowingly take or fail to take any
action, which action or failure to act would jeopardize the qualification of the
Merger as a tax-free reorganization within the meaning of Section 368(a) of the
Code.
(b) Parent and LC shall not make an election on IRS Form 8832, pursuant
to Treasury Regulation Section 301.7701-3(c), to classify LC as an association
(and thus taxable as a corporation) for federal income tax purposes.
(c) In rendering the opinion required by Section 5.1(k) of this
Agreement, Gardere Wynne Sewell LLP may request and rely upon representations
contained in certificates
35
of officers of Parent and PEI, and Parent and PEI shall use their best efforts
to make available such truthful certificates.
4.2 Access. Each of PEI and Parent shall cooperate fully in permitting the
other and its representatives to make a full investigation of the properties,
operations and financial condition of such party, and shall afford the other and
its representatives reasonable access to the offices, buildings, real
properties, machinery and equipment, inventory and supplies, records, files,
books of account, tax returns, agreements and commitments and personnel of such
party. Any such inspection shall occur during normal business hours and shall
be scheduled by a party following request for access made to the other party.
Each party will use its reasonable best efforts to conduct its review in such a
manner as not to be disruptive to the other party's employees or business
operations. Each party shall reimburse the other for any damage caused by such
party or its representatives during the review process.
4.3 Approval of the Merger Proxy. Each of PEI and Parent shall cooperate
fully in preparing and filing the Merger Proxy, and in obtaining at their
respective shareholders' meeting the required consent, approval or ratification
of the matters in the Merger Proxy by their respective shareholders in
accordance with the Securities Act, the Exchange Act, this Agreement, and the
Applicable Corporate Law. Upon securing the approval of the Merger Proxy, each
of PEI and Parent shall cooperate fully in making any amendments thereto
required, if any, between the date of effectiveness and the date of the
shareholders' meetings.
4.4 Operations in the Ordinary Course. From the date of this Agreement until
the Effective Time, each of PEI and Parent will conduct its business in a
commercially prudent manner, as a going concern and in the ordinary course
(except as necessary or appropriate as a result of the transactions contemplated
herein). Consistent with such operation, it will comply in all material respects
with applicable legal and contractual obligations, consistent with past
practice. Each of PEI and Parent shall make all reasonable efforts to preserve
intact its present business organization, keep available the services of its
officers and employees, and preserve its relationships with its customers,
suppliers and others having business dealings with it, to the end that its
business shall not be materially impaired on or prior to the Effective Time.
From the date of this Agreement until the Effective Time, each of PEI and the
Parent shall maintain its respective records and books of account in a manner
that fairly reflects, in all material respects, its income, expenses, assets and
liabilities consistent with past practice.
4.5 Transactions Affecting Business and Properties. Except as specifically
required by this Agreement or as set forth on Schedule 4.5, from the date of
this Agreement until the Effective Time, without the prior written consent of
the other party, neither PEI nor Parent will, without the prior written approval
of the other: (a) make any single capital commitment in excess of $25,000, or
$100,000 in the aggregate, (b) incur any indebtedness for money borrowed other
than borrowings in the ordinary course of business consistent with past
practice, (c) declare, set aside or pay any dividend or make any other
distribution regarding its outstanding securities, (d) do any act other than in
the ordinary course of business consistent with past practice, or (e) mortgage
or otherwise encumber, voluntarily or involuntarily, presently or prospectively,
any of its assets or properties. Neither PEI nor the Parent shall agree,
without the prior written consent of the other, to (i) any adverse modification
of the terms of any document
36
or contractual arrangement or to prepay or incur additional material obligations
to any Person, whenever effective, (ii) dispose of any assets under its control,
except in the ordinary course of business, (iii) materially increase the annual
level of compensation of any employee, or increase at all the annual level of
compensation of any Person whose compensation in the last preceding fiscal year
exceeded $75,000, or grant any unusual or extraordinary bonuses, benefits or
other forms of direct or indirect compensation to any employee, officer,
director or consultant, except in amounts in keeping with past practices by
formulas or otherwise, or (iv) increase, terminate, amend or otherwise modify
any plan for the benefit of employees.
4.6 Negotiations. Each of PEI and Parent agrees not to, and each shall cause
its officers, directors and Affiliates and their respective representatives not
to, except to the extent appropriate to fulfill the fiduciary duties owed under
applicable laws to its shareholders, as advised in writing by its legal counsel,
take any action (including, without limitation, the solicitation of proxies from
shareholders or the voting of stock), which could impede, or adversely effect
the likelihood of, the consummation of the Merger. In addition, Parent and PEI
each agree not to otherwise directly or indirectly make, solicit, initiate,
participate in or otherwise encourage the submission of any proposal or offer
from any Person (including without limitation, any of its directors, officers,
shareholders or employees or those of its Subsidiaries) relating to any
liquidation, dissolution, recapitalization, reorganization, merger,
consolidation or the acquisition of all or a material portion of the assets of,
or any equity interest in, PEI or Parent, as applicable, or their respective
Subsidiaries, other than the Merger (an "ALTERNATIVE TRANSACTION"). Further,
Parent and PEI each agree not to cause its officers, directors and Affiliates
and their respective representatives to, except to the extent appropriate to
fulfill the fiduciary duties owed under applicable laws to their respective
shareholders, as advised in writing by their respective legal counsel, directly
or indirectly, participate in any negotiations or discussions regarding, or
furnish any information with respect to, or otherwise cooperate in any way in
connection with, or assist or participate in, facilitate or encourage, any
effort or attempt to effect or seek to effect, any Alternative Transaction with
or involving any Person other than PEI or Parent, as applicable, or an Affiliate
of PEI or Parent.
4.7 Renewal of Real Estate Leases. Each of PEI and Parent agree not to and
not to permit their respective Subsidiaries to renew their existing real estate
leases at a rate that is above fair market value, and each further agrees not to
secure more real estate space than is reasonably necessary to conduct its
business.
4.8 Articles of Incorporation and Bylaws. Except as specifically required by
this Agreement, from the date of this Agreement until the Effective Time,
neither PEI nor Parent, without the prior written consent of the other, which
shall not be unreasonably withheld, will take any of the following actions or
agree to take any of such actions:
(a) amend or otherwise change its Articles of Incorporation or Bylaws or
any instrument similar in purpose and intent to them;
(b) issue any shares of its capital stock except: (1) in connection with
the exercise of any outstanding option or warrant; or (2) in satisfaction of the
PEI Shareholder Debt.
37
(c) issue or create any warrants, obligations, subscriptions, options,
convertible securities, or other commitments under which any additional shares
of its capital stock may be authorized, issued or transferred from treasury;
(d) take any action that would make any of the representations and
warranties in this Agreement untrue or incorrect except as necessary to
consummate the transactions contemplated by this Agreement; or
(e) agree to do any of the acts listed above.
4.9 Current Information. Each of PEI and Parent shall advise the other in
writing as promptly as possible of:
(a) the occurrence of any event that renders any of the their
representations or warranties in this Agreement inaccurate as of any date prior
to the Effective Time;
(b) the awareness that any of their representations or warranties in
this Agreement was not accurate in all respects when made; and
(c) their failure to comply with or accomplish any of the covenants or
agreements set forth in this Agreement in any respect.
4.10 Corporate Approvals. Each of PEI and Parent shall take all further
action required, if any, to obtain the approval of their respective boards of
directors (subject to applicable fiduciary duty standards) and shareholders
(including the approval of a majority of the Parent stockholders other than
Alliance and its Affiliates) to this Agreement and to the transactions
contemplated hereby.
4.11 Consents. Each of PEI and Parent shall use its commercially reasonable
best efforts to procure all consents, approvals or waivers that are required and
for completion of the transactions described in this Agreement, including using
all reasonable efforts to obtain all required consents of any governmental
agency or body issuing any permits, licenses or other governmental
authorizations affecting PEI or the Parent, or their respective businesses or
properties, so that Surviving PEI may continue to operate the business and
properties of PEI without interruption following the Effective Time.
4.12 Contracts. From the date of this Agreement until the Effective Time,
neither PEI nor Parent, without the prior written consent of the other, shall
amend or allow to be amended in any material respect or consent to the
termination of any contract, agreement, instrument or other arrangement to which
it is a party which would reasonably be expected to require the payment or
expense of (i) $25,000 or more annually if not in the ordinary course of
business or (ii) $1.0 million if in the ordinary course of business, in each
case whether written or oral, or enter into or become a party to or submit any
bid or proposal for any such contract, agreement or other instrument or
arrangement to which it is a party.
38
4.13 Insurance. From the date of this Agreement until the Effective Time,
each of PEI and Parent shall continue in force their existing insurance
policies, or shall immediately replace such policies with comparable insurance
companies on comparable terms and conditions.
4.14 Compliance with Laws. Each of PEI and Parent shall duly comply with all
laws applicable to it and its properties, business, operations and employees.
Without limiting the foregoing, Parent will timely file all annual, quarterly
and current reports required to be filed with the SEC as may be required to
permit the PEI Shareholders who become Affiliates of Parent to sell their shares
under Rule 144.
5. CONDITIONS PRECEDENT; CLOSING DELIVERIES
5.1 Conditions Precedent to the Obligations of PEI. The obligations of PEI to
effect the Merger under this Agreement are subject to the satisfaction of each
of the following conditions, unless waived by PEI in writing to the extent
permitted by applicable law:
(a) Accuracy of Representations and Warranties. The representations and
warranties of Parent contained in this Agreement, the Disclosure Schedules, or
in any closing certificate or Parent Related Document delivered to PEI pursuant
hereto shall be true and correct at and as of the Closing Date as though made at
and as of that date other than representations and warranties as are
specifically made as of another date and other than changes occurring in the
ordinary course of business and not resulting in a Parent Material Adverse
Effect, and changes to capitalization resulting from option exercises or stock
repurchases consistent with Parent's Stock Repurchase Plan and Parent shall have
delivered to PEI a certificate to that effect.
(b) Performance of Covenants. Parent, LC and Sub shall have performed
and complied with all covenants of this Agreement to be performed or complied
with by each of them at or prior to the Closing Date, and Parent shall have
delivered to PEI a certificate to that effect.
(c) Legal Actions or Proceedings. No legal action or proceeding shall
have been instituted after the date hereof against Parent, LC or Sub arising by
reason of the Merger pursuant to this Agreement, which is reasonably likely (i)
to restrain, prohibit or invalidate the consummation of the transactions
contemplated by this Agreement, or (ii) to have a Parent Material Adverse
Effect, and Parent shall have delivered to PEI a certificate to that effect.
(d) Line of Credit. PEI, with the assistance of Parent and Parent's
Subsidiaries, shall have obtained a line of credit acceptable to Parent in all
respects that will be sufficient to allow Surviving PEI to repay the $2 Million
Notes at the Closing and have a revolving line of credit of not less than $15
million, and the terms and documentation of such financing shall have been
finalized to the satisfaction of Parent and PEI.
(e) Effectiveness of Merger Proxy. The SEC shall have declared the
Merger Proxy effective, thereby making the Merger Consideration freely tradable
subject to the Lockup Agreement and applicable law.
39
(f) Approvals. Parent, LC and Sub shall have procured all of the
consents, approvals and waivers of third parties or any regulatory body or
authority, whether required contractually or by applicable law or otherwise
necessary for the execution, delivery and performance of this Agreement
(including the Parent Related Documents) by Parent, LC and Sub prior to the
Closing Date, and Parent shall have delivered to PEI a certificate to that
effect. Alliance shall have executed and delivered a proxy to vote its shares of
Parent Common Stock in favor of all proposals described in the Merger Proxy. In
addition, holders of a majority of the Common Stock of Parent present at the
Parent stockholder meeting either in person or by proxy, other than Common Stock
of Parent held by Alliance or its Affiliates, shall have approved the
transactions contemplated by this Agreement.
(g) Filing of Designation of Series A Stock. Parent shall, following
receipt of the requisite approval by its directors and stockholders, have filed
or cause to have been filed with the Secretary of State of Nevada Articles of
Amendment to its Articles of Incorporation authorizing the issuance of not less
than 5,000,000 shares of preferred stock, designating such preferred stock as
Series A Preferred Stock with the preferences, limitations and relative rights
set forth in the Certificate of Designation.
(h) Closing Deliveries. All documents required to be executed or
delivered at Closing by Parent, LC or Sub pursuant to Section 5.3 shall have
been so executed and delivered.
(i) No Material Adverse Change. There shall not have been any event that
in the reasonable judgment of PEI materially adversely affects the properties,
assets, financial condition, results of operations, cash flows, businesses or
prospects of Parent.
(j) Certain Corporate Actions. All necessary director and stockholder
resolutions, waivers and consents required to consummate the transactions
contemplated hereunder shall have been executed and delivered in form and
substance satisfactory to PEI and its counsel.
(k) Tax Opinion. PEI shall have received an opinion of Gardere Wynne
Sewell LLP, counsel to PEI, dated at the Closing Date, to the effect that, on
the basis of the facts, representations and assumptions set forth in such
opinion (a) the Merger constitutes a "reorganization" within the meaning of
Section 368(a) of the Code and (b) that, accordingly, (i) no gain or loss will
be recognized by PEI as a result of the Merger and (ii) no gain or loss will be
recognized by a shareholder of PEI who receives Parent Common Stock in exchange
for shares of PEI Common Stock; except with respect to cash received in lieu of
fractional share interests.
(l) Parent Board of Directors. The Parent Board of Directors shall have
been reconstituted in accordance with the description of the Board of Directors
in the Merger Proxy.
5.2 Conditions Precedent to the Obligations of Parent. The obligations of
Parent to effect the Merger under this Agreement are subject to the satisfaction
of each of the following conditions, unless waived by Parent in writing:
40
(a) Repayment of PEI Accounts Receivable from PEI Shareholders. Prior to
Closing, PEI shall have caused to be paid in full and in cash all accounts
receivable and notes receivable owed by any PEI Shareholder to PEI, except for
travel advances made in the ordinary course of business.
(b) Issuance of PEI Common Stock in Satisfaction of PEI Shareholder
Debt. Prior to the Closing, PEI shall have issued shares of PEI Common Stock to
the holders of the PEI Shareholder Debt and paid in cash not more than $190,000
of the then outstanding principal balance in full and final satisfaction of the
PEI Shareholder Debt, other than the Coury Debt.
(c) Issuance of PEI Notes. Prior to the Closing, PEI shall have
delivered to Equus in renewal, rearrangement and extension of the Equus Debt and
the cancellation of the Equus Warrants: (i) promissory notes in the aggregate
original principal amount of $2 million (the "$2 MILLION NOTES") in the form
attached as Exhibit 5.2(c)-1; (ii) a promissory note in the original principal
amount of $3 million (the "$3 MILLION NOTE") in the form attached as Exhibit
5.2(c)-2; and (iii) a promissory note in the original principal amount equal to
(x) the outstanding principal balance of and all accrued and unpaid interest on
the Equus Debt minus (y) $5.0 million (the "REMAINDER NOTE") in the form
attached as Exhibit 5.2(c)-3. In addition, Equus shall have agreed to accept
2,500,000 shares of Parent Series A Stock as full and final settlement of the
Remainder Note, and Equus shall have executed and delivered to PEI the
Settlement Agreement and Plan of Reorganization (the "EQUUS SETTLEMENT
AGREEMENT") in the form attached as Exhibit 5.2(c)-4.
(d) Effectiveness of Merger Proxy. The SEC shall have declared the
Merger Proxy effective, thereby making the Merger Consideration freely tradable
subject to the Lockup Agreement and applicable law.
(e) Accuracy of Representations and Warranties. The representations and
warranties of PEI contained in this Agreement, the Disclosure Schedules, or in
any closing certificate or PEI Related Document delivered to Parent pursuant
hereto shall be true and correct at and as of the Closing Date as though made at
and as of that date other than representations and warranties as are
specifically made as of another date, changes occurring in the ordinary course
of business and not resulting in a PEI Material Adverse Effect, and changes to
capitalization resulting from actions permitted or required under this
Agreement, including without limitation Section 4.8(b).
(f) Performance of Covenants. PEI shall have performed and complied with
all covenants of this Agreement to be performed or complied with by it at or
prior to the Closing Date and PEI shall have delivered to Parent a certificate
to such effect.
(g) Legal Actions or Proceedings. No legal action or proceeding shall
have been instituted after the date hereof against PEI or any of its
Subsidiaries arising by reason of the Merger pursuant to this Agreement, which
is reasonably likely (i) to restrain, prohibit or invalidate the consummation of
the transactions contemplated by this Agreement, or (ii) to have a PEI Material
Adverse Effect, and PEI shall have delivered to Parent a certificate to that
effect.
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(h) Termination of Shareholders' Agreement. The Shareholders' Agreement
dated as of March 9, 1999, among PEI and the shareholders of PEI shall have been
terminated at the special meeting of the shareholders of PEI held in connection
with the Merger, and PEI shall have delivered to IDS a certificate to that
effect.
(i) Cancellation of PEI Options and Warrants. All options and warrants
in PEI that are not being converted into options and warrants in Parent shall
have been exercised or cancelled or shall have expired by their own terms.
(j) Lockup Agreement. Each of the Significant PEI Shareholders shall
have executed and delivered a lockup agreement in substantially the form
attached hereto as Exhibit 5.2(j) (the "LOCKUP AGREEMENT").
(k) Line of Credit. PEI, with the assistance of Parent and Parent's
Subsidiaries, shall have obtained a line of credit acceptable to Parent in all
respects that will be sufficient to allow Surviving PEI to repay the $2 Million
Notes at the Closing and have a revolving line of credit of not less than $15
million, and the terms and documentation of such financing have been finalized
to the satisfaction of IDS and PEI.
(l) Approvals. PEI shall have used its commercially reasonable best
efforts to procure all of the consents, approvals and waivers of third parties
or any regulatory body or authority, whether required contractually or by
applicable law or otherwise necessary for the execution, delivery and
performance of this Agreement (including the PEI Related Documents) by PEI prior
to the Closing Date, and PEI shall have delivered to Parent a certificate to
that effect, listing any approvals required but not received. A majority of the
PEI Shareholders shall have approved the merger proposal described in the Merger
Proxy. In addition, 66 2/3% of the PEI Shareholders shall have approved the
proposal to terminate the Shareholders' Agreement described in the Merger Proxy.
(m) Third Party Consents. PEI, with the assistance of Parent and
Parent's Subsidiaries, shall have used its commercially reasonable best efforts
to obtain all required consents from third parties.
(n) Dissenter's Rights. Dissenter's rights shall not have been exercised
in accordance with the relevant provisions of the Applicable Corporate Law by
PEI Shareholders holding more than 350,000 shares of PEI Common Stock.
(o) Closing Deliveries. All documents required to be executed or
delivered at Closing by PEI pursuant to Section 5.4 shall have been so executed
and delivered.
(p) No Material Adverse Change. There shall not have been any event that
in the reasonable judgment of Parent materially adversely affects the
properties, assets, financial condition, results of operations, cash flows,
businesses or prospects of PEI.
(q) Certain Corporate Actions. All necessary director and shareholder
resolutions, waivers and consents required to consummate the transactions
42
contemplated hereunder shall have been executed and delivered in form and
substance satisfactory to Parent and its counsel.
5.3 Deliveries by Parent at the Closing. At the Closing, simultaneously with
the deliveries by PEI specified in Section 5.4, and in addition to any
deliveries required to be made by Parent pursuant to any Parent Related Document
at the Closing, Parent shall deliver or cause to be delivered to PEI the
following:
(a) Closing Certificates. Parent shall deliver the certificates required
pursuant to Section 5.1.
(b) Secretary's Certificate for Parent. Parent shall deliver a
certificate executed by the Secretary of Parent dated the Closing Date, (i)
verifying that the Articles of Incorporation, including the Certificate of
Designation, and the Bylaws (as attached thereto) are true, correct and complete
as of the Closing Date, (ii) attesting to all corporate and shareholder action
taken by Parent including the resolutions of the Board of Directors and
shareholders authorizing the transactions contemplated by this Agreement and all
other agreements or matters contemplated hereby or executed in connection
herewith, (iii) certifying the names and true signatures of the officers of
Parent authorized to sign this Agreement and the Parent Related Agreements to
which it is a party, and (iv) attaching certificates dated within ten days of
Closing as to the corporate existence and good standing of Parent in the States
of Nevada and Texas.
(c) Secretary's Certificate for LC. LC shall deliver a certificate
executed by the Secretary of LC dated the Closing Date, (i) verifying that the
Articles of Organization and Regulations (as attached thereto) are true, correct
and complete as of the Closing Date, (ii) attesting to all manager and member
action taken by LC including the resolutions of the managers authorizing the
transactions contemplated by this Agreement and all other agreements or matters
contemplated hereby or executed in connection herewith, (iii) certifying the
names and true signatures of the officers or managers of LC authorized to sign
this Agreement and the Parent Related Agreements to which it is a party, and
(iv) attaching certificates dated within ten days of Closing as to the corporate
existence and good standing of LC in the State of Texas.
(d) Alliance Option Pool Agreement. Parent shall deliver the Option Pool
Agreement, executed by Alliance, which Agreement shall be in the form attached
hereto as Exhibit 5.3(d), and Alliance shall issue option agreements in the form
of the option agreements attached thereto to the Persons designated by the
mutual agreement of William A. Coskey and Michael L. Burrow.
(e) Legal Opinion. Parent shall have delivered a legal opinion by
counsel to Parent reasonably satisfactory to PEI.
(f) Voting Agreement. Parent and the Significant PEI Shareholders shall
have executed and delivered a voting agreement in substantially the form
attached hereto as Exhibit 5.3(f).
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(g) Escrow Agreements. Parent shall execute and deliver the
Indemnification Escrow Agreement and the Option Escrow Agreement.
(h) Employment Agreements. William A. Coskey shall have executed an
employment agreement including a covenant not to compete with the business
operations of Parent or any of its Subsidiaries for a period of five years
following the Closing unless he is terminated without cause.
(i) Equus Notes. Parent shall (i) cause Surviving PEI to pay in full the
$2 Million Notes in cash, and (ii) issue 2,500,000 shares of Series A Stock in
full payment and satisfaction of the Remainder Note, in exchange for the return
of such notes marked "Cancelled and Paid in Full." Parent and each of its
Subsidiaries shall also execute and deliver a guaranty and grant a security
interest to secure the $3 Million Note, which Guaranty and Security Agreement
shall be in the form attached to the Equus Settlement Agreement.
(j) Instruction Letter. Parent shall deliver to the Exchange Agent an
instruction letter, acceptable to PEI, providing for the Exchange Agent to give
information to the PEI Shareholders with respect to the exchange of their
shares, and providing for the delivery of shares into the Indemnification Escrow
and the Option Escrow.
(k) Option Agreements. Parent shall deliver the Surviving Options to the
Persons entitled thereto.
(l) Alliance Debt Cancellation. Parent shall cancel and forgive the
outstanding principal balance of and all accrued and unpaid interest on the debt
owed by Alliance to Parent in the original principal amount of $150,000.
(m) Equus Call Option. Parent shall deliver the Equus Call Option,
executed by Alliance, in the form attached hereto as Exhibit 5.3(m).
(n) Documents. Parent shall execute and deliver any and all other
documents, certificates, opinions, instruments and agreements required to be
executed and delivered by Parent or its officers or directors at the Closing as
contemplated hereby or as may be reasonably requested by PEI.
The consummation of the Closing shall not be deemed to be a waiver by PEI
or Surviving PEI of any of their rights or remedies against Parent hereunder for
any breach of any warranty, covenant or agreement herein by Parent irrespective
of any knowledge of or investigation with respect thereto made by or on behalf
of PEI.
5.4 Deliveries by PEI at the Closing. At the Closing, simultaneously with the
deliveries by Parent specified in Section 5.3, and in addition to any other
deliveries to be made by PEI pursuant to any PEI Related Document at the
Closing, PEI shall deliver or cause to be delivered to Parent the following:
(a) Closing Certificates. PEI shall deliver the certificates required
pursuant to Section 5.2.
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(b) Secretary's Certificate. PEI shall deliver a certificate executed by
the Secretary of PEI dated the Closing Date, (i) verifying that the Articles of
Incorporation and the Bylaws (as attached thereto) are true, correct and
complete as of the Closing Date, (ii) attesting to all corporate and shareholder
action taken by PEI including the resolutions of the Board of Directors and
shareholders authorizing the transactions contemplated by this Agreement and all
other agreements or matters contemplated hereby or executed in connection
herewith, (iii) certifying the names and true signatures of the officers of PEI
authorized to sign this Agreement and the PEI Related Agreements to which it is
a party, and (iv) attaching certificates dated within ten days of Closing as to
the corporate existence and good standing of PEI in the State of Texas.
(c) Legal Opinion. PEI shall have delivered a legal opinion by counsel
to PEI reasonably satisfactory to Parent.
(d) Employment Agreements. Each person listed on Schedule 5.4(d) shall
have executed an employment agreement on terms mutually acceptable to Parent and
such employee including a covenant not to compete with the business operations
of Parent or any of its Subsidiaries for a period of three years following the
Closing unless such person is terminated without cause.
(e) Voting Agreement. PEI and the other Persons named therein shall have
executed and delivered a voting agreement in substantially the form attached
hereto as Exhibit 5.3(f).
(f) Release by PEI Shareholders to be Effective Upon Closing. PEI shall
deliver releases in the form of the Release attached as Exhibit 5.4(f), executed
by each of the Significant PEI Shareholders, which release shall, among other
matters, (i) release, acquit and forever discharge PEI, Parent and Equus from
any and all liabilities, obligations, claims, demands, actions or causes of
action arising from or relating to any event, occurrence, act, omission or
condition occurring or existing on or prior to the Effective Time; (ii) waive
all breaches, defaults or violations of any agreement applicable to PEI Common
Stock or PEI Shareholder Debt, and agree that any and all such agreements are
terminated as of the Effective Time; and (iii) waive any and all preemptive or
other rights to acquire any shares of capital stock of PEI and release any and
all claims arising in connection with any prior default, violation or failure to
comply with or satisfy any such preemptive or other rights.
(g) Escrow Agreement. PEI shall have delivered the Indemnification
Escrow Agreement and the Option Escrow Agreement, which shall have been executed
by both PEI and the Significant PEI Shareholders.
(h) Significant PEI Shareholders Voting Agreement. The Significant PEI
Shareholders shall have executed and delivered the Voting Agreement attached as
Exhibit 5.4(h).
(i) Documents. PEI shall execute and deliver all other documents,
certificates, opinions, instruments and agreements required to be executed and
delivered by PEI
45
or its officers or directors at the Closing as contemplated hereby or as may be
reasonably requested by Parent.
The consummation of the Closing shall not be deemed to be a waiver by
Parent of any of its rights or remedies against PEI hereunder for breach of any
warranty, covenant or agreement herein by PEI irrespective of any knowledge of
or investigation with respect thereto made by or on behalf of Parent.
5.5 Deliveries by Sub and Surviving PEI at the Closing.
(a) Payment of $2 Million Notes. Surviving PEI shall pay the $2 Million
Notes, by wire transfer to Equus, to the following account: Equus II
Incorporated, Account # 5772222982, Routing #111000025, Bank of America,
Houston, Texas.
(b) Secretary's Certificate. Sub shall deliver a certificate executed by
the Secretary of Sub dated the Closing Date, (i) verifying that the Articles of
Incorporation and the Bylaws (as attached thereto) are true, correct and
complete as of the Closing Date, (ii) attesting to all corporate and shareholder
action taken by Sub including the resolutions of the Board of Directors and sole
shareholder authorizing the transactions contemplated by this Agreement and all
other agreements or matters contemplated hereby or executed in connection
herewith, (iii) certifying the names and true signatures of the officers of Sub
authorized to sign this Agreement and any other transaction document to which it
is a party, and (iv) attaching certificates dated within ten days of Closing as
to the corporate existence and good standing of Sub in the State of Texas.
(c) Employment Agreements. Surviving PEI shall execute or cause to be
executed and delivered employment agreements with those former officers,
directors and key employees of PEI designated by Parent and PEI.
6. SURVIVAL, INDEMNIFICATION, ARBITRATION
6.1 Survival. The representations and warranties set forth in this Agreement
and the other documents, instruments and agreements contemplated hereby shall
survive for a period of two years from the Effective Time; provided, however,
that the representations and warranties with respect to Sections 2.15, 2.27,
3.13 and 3.24 shall survive for the applicable statute of limitations periods.
The periods of survival of the representations and warranties as stated above in
this Section 6.1 are referred to herein as the "SURVIVAL PERIODS." The
liabilities of the parties under their respective representations and warranties
shall expire as of the expiration of the applicable Survival Period and no claim
for indemnification may be made with respect to any breach of any representation
or warranty, the applicable Survival Period of which shall have expired, except
to the extent that written notice of such breach shall have been given to the
party against which such claim is asserted on or before the date of such
expiration. The covenants and agreements of the parties herein and in other
documents and instruments executed and delivered in connection with the closing
of the transactions contemplated hereby shall survive for a period of two years
from the Effective Time.
46
6.2 Indemnification by Significant PEI Shareholders. Subject to the
provisions of Section 6.4, the Significant PEI Shareholders shall, in accordance
with their respective Pro Rata Shares, indemnify, save and hold harmless Parent
and Surviving PEI and any of their assignees (including lenders) and all of
their respective officers, directors, employees, representatives, agents,
advisors and consultants and all of their respective heirs, legal
representatives, successors and assigns (collectively the "PARENT INDEMNIFIED
PARTIES") from and against any and all losses (net of taxes) arising from, out
of or in any manner connected with or based on:
(a) the breach of any covenant of PEI or the failure by PEI to perform
any obligation of PEI contained herein or in any PEI Related Document;
(b) PEI's failure to comply with any law, rule or regulation relating to
a PEI Designated Plan, whether or not disclosed prior to the Closing;
(c) Litigation disclosed in Schedule 3.14 to the extent the aggregate
amount of all losses after the Effective Time, including the cost of such
litigation, exceeds the sum of (i) the aggregate amount of reserves for
litigation shown on the financial records of PEI as of the last day of the
calendar month immediately preceding the Closing Date; plus (ii) one-half of one
percent of the gross revenues of PEI and its Subsidiaries for the period from
the Effective Time to the second anniversary of the Closing Date;
(d) any inaccuracy in or breach of any representation or warranty of PEI
contained herein or in any PEI Related Document as of the date hereof or as of
the Effective Time;
(e) indemnification payments made by Parent or Surviving PEI to PEI's
present or former officers, directors, employees, agents, consultants, advisors
or representatives in respect of actions taken or omitted to be taken prior to
the Closing;
(f) any act, omission, occurrence, event, condition or circumstance
occurring or existing at any time on or before the Effective Time and involving
or related to the assets, properties, business or operations now or previously
owned or operated by PEI or any of its Subsidiaries and not (i) disclosed in
this Agreement, including the Disclosure Schedules or (ii) disclosed in the
Merger Proxy; and
(g) any claim made under the indemnification agreement made by Parent or
any of its Subsidiaries pursuant to Section 4.2 of those certain Guaranty
agreements executed by Parent and each of its Subsidiaries in favor of and for
the benefit of Equus with respect to the $3 Million Note.
Notwithstanding anything herein to the contrary, (i) except for liability for
the matters set forth in Schedule 3.14, the Significant PEI Shareholders shall
not have any liability for indemnification hereunder until the aggregate
liability (net of any insurance proceeds received by Parent or Surviving PEI
with respect to such liability) equals or exceeds $100,000, following which the
Significant PEI Shareholders shall have liability only for the aggregate
liability in excess of $100,000; and (ii) the Significant PEI Shareholders'
liability for indemnification arising
47
hereunder shall be limited to, and shall be paid solely out of, the 1,000,000
shares of the Parent Common Stock held in the Indemnification Escrow pursuant to
Section 1.6.
6.3 Indemnification by Parent. Subject to the provisions of Section 6.4, the
Parent shall indemnify, save and hold harmless the Significant PEI Shareholders
and any of their assignees (including lenders) and all of their respective
officers, directors, employees, representatives, agents, advisors and
consultants and all of their respective heirs, legal representatives, successors
and assigns (collectively the "PEI INDEMNIFIED PARTIES") from and against any
and all losses (net of taxes) arising from, out of or in any manner connected
with or based on:
(a) the breach of any covenant of Parent or the failure by Parent to
perform any obligation of Parent contained herein or in any Parent Related
Document;
(b) any inaccuracy in or breach of any representation or warranty of
Parent contained herein or in any Parent Related Document as of the date hereof
or as of the Effective Time;
(c) Parent's failure to comply with any law, rule or regulation relating
to a Parent Designated Plan, whether or not disclosed prior to the Closing; and
(d) any act, omission, occurrence, event, condition or circumstance
occurring or existing at any time on or before the Effective Time and involving
or related to the assets, properties, business or operations now or previously
owned or operated by Parent or any of its Subsidiaries and not (i) disclosed in
this Agreement, including the Disclosure Schedules or (ii) disclosed in the
Merger Proxy.
Notwithstanding anything herein to the contrary, Parent shall not have any
liability for indemnification hereunder until the aggregate liability (net of
any insurance proceeds received with respect to such liability) equals or
exceeds $100,000, following which Parent shall have liability only for the
aggregate liability in excess of $100,000; and (ii) Parent's liability for
indemnification arising hereunder shall be limited solely to offset any of the
rights to indemnity from the Significant PEI Shareholders. Accordingly, if
neither the Parent nor Surviving PEI has rights to indemnity pursuant to this
Agreement, the Significant PEI Shareholders shall not have any right to
indemnity under this Agreement.
6.4 Procedures for Indemnification.
(a) Notice. The Parent Indemnified Parties or the PEI Indemnified
Parties, as the case may be, that are seeking indemnity pursuant to this
Agreement (the "INDEMNIFIED PARTY") shall give prompt notice to Parent or the
Shareholder Representative (as hereinafter defined), as the case may be (the
"INDEMNIFYING PARTY"), of the assertion of any claim, or the commencement of any
suit, action or proceeding in respect of which indemnity may be sought
hereunder. For purposes of this Agreement, the "SHAREHOLDER REPRESENTATIVE"
shall initially be Michael L. Burrow, acting as the shareholder representative
for the Significant PEI Shareholders pursuant to the terms of the Indemnity
Escrow Agreement. Any failure on the part of any
48
Indemnified Party to give the notice described in this Section 6.4(a) shall
relieve the Indemnifying Party of its obligations under this Section 6 only to
the extent that such Indemnifying Party has been prejudiced by the lack of
timely and adequate notice (except that the Indemnifying Party shall not be
liable for any expenses incurred by the Indemnified Party during the period in
which the Indemnified Party failed to give such notice). Thereafter, the
Indemnified Party shall deliver to the Indemnifying Party, promptly (and in any
event within 10 days thereof) after the Indemnified Party's receipt thereof,
copies of all notices and documents (including court papers) received by the
Indemnified Party relating to such claim, action, suit or proceeding.
(b) Legal Defense. The Indemnifying Party shall have the obligation to
assume the defense or settlement of any third-party claim, suit, action or
proceeding in respect of which indemnity may be sought hereunder, provided that
(i) Parent shall at all times have the right, at its option and cost, to
participate fully therein, and (ii) if the Indemnified Party does not proceed
diligently to defend the third-party claim, suit, action or proceeding within 10
days after receipt of notice of such third-party claim, suit, action or
proceeding, the Indemnified Party shall have the right, but not the obligation,
to undertake the defense of any such third-party claim, suit, action or
proceeding.
(c) Settlement. The Indemnifying Party shall not be required to
indemnify the Indemnified Party with respect to any amounts paid in settlement
of any third-party suit, action, proceeding or investigation entered into
without the written consent of the Indemnifying Party; provided, that if the
Indemnifying Party gives 10 days' prior written notice to the Indemnified Party
of a settlement offer which the Indemnifying Party desires to accept and to pay
all losses with respect thereto and the Indemnified Party fails or refuses to
consent to such settlement within 10 days after delivery of such settlement
offer notice to the Indemnified Party, and such settlement otherwise complies
with the provisions of this Section 6.4, the Indemnifying Party shall not be
liable for losses arising from such third-party suit, action, proceeding or
investigation in excess of the amount proposed in such settlement offer.
Notwithstanding the foregoing, no Indemnifying Party will consent to the entry
of any judgment or enter into any settlement without the consent of the
Indemnified Party, if such judgment or settlement imposes any obligation or
liability upon the Indemnified Party other than the execution, delivery or
approval thereof and customary releases of claims with respect to the subject
matter thereof.
(d) Cooperation. The parties shall cooperate in defending any such
third-party suit, action, proceeding or investigation, and the defending party
shall have reasonable access to the books and records, and personnel in the
possession or control of the Indemnified Party that are pertinent to the
defense. The Indemnified Party may join the Indemnifying Party in any suit,
action, claim or proceeding brought by a third party as to which any right of
indemnity created by this Agreement would or might apply, for the purpose of
enforcing any right of the indemnity granted to such Indemnified Party pursuant
to this Agreement.
6.5 Subrogation. Each Indemnifying Party hereby waives for itself and its
Affiliates any rights to subrogation against any Indemnified Party or its
insurers for losses arising from any third-party claims for which it is liable
or against which it indemnifies any Indemnified Party
49
and, if necessary, each Indemnifying Party shall obtain waivers of such
subrogation from its, his or her insurers.
6.6 Arbitration.
(a) If a dispute between Parent and PEI relating to this Agreement, or
under any other agreement executed and delivered in connection herewith, is not
resolved within 10 business days from the date that either party has notified
the other that such dispute exists, then such dispute shall be submitted jointly
for conciliation to the president or his designee of each party. If such senior
executive officers are unable to resolve the dispute within 15 business days
from the date that it is first presented to them, then such dispute shall be
referred to binding arbitration.
(b) Any dispute under this Agreement shall be submitted to arbitration
pursuant to this Section. Within 30 calendar days of notice of the dispute, the
parties shall select a single arbitrator (the "ARBITRATOR"). If the parties are
unable to select the Arbitrator within such time, the dispute shall be
determined by the decision of a board of arbitration consisting of three members
("BOARD OF ARBITRATION") selected as hereinafter provided. For purpose of the
Board of Arbitration, Parent shall select an arbitrator and PEI shall select an
arbitrator, each of whom shall be a member of the Board of Arbitration, and each
of whom shall be independent of the parties and shall be experienced in
arbitrating complex commercial transactions. A third Board of Arbitration
member, independent of the parties, shall be selected by mutual agreement of the
other two Board of Arbitration members. If the other two Board of Arbitration
members fail to reach agreement on such third member within 20 days after their
selection, such third member shall thereafter be selected by the American
Arbitration Association upon application made to it for such purpose by any
party to the arbitration. The Arbitrator or the Board of Arbitration (as
applicable) shall meet in Harris County, Texas, and shall reach and render a
decision in writing with respect to items in dispute. The decision shall state
the facts and law on which it is based, be approved by the Arbitrator or at
least a majority of the members of the Board of Arbitration (as applicable), and
shall be based on the law governing this Agreement. In connection with rendering
its decisions, the Arbitrator or Board of Arbitration (as applicable) shall
adopt and follow the Commercial Rules of Arbitration of the American Arbitration
Association in effect as of the date of the arbitration, except as provided in
Exhibit 6.6. To the extent practical, decisions of the arbitrator or the Board
of Arbitration (as applicable) shall be rendered and delivered to Parent, PEI,
and the Shareholder Representative no more than 30 calendar days following
commencement of proceedings with respect thereto. Any decision made by the
Arbitrator or the Board of Arbitration (as applicable) (either prior to or after
the expiration of such 30-day period) shall be final, binding and conclusive on
Parent and PEI (except as may be provided in Exhibit 6.6) and each party to the
arbitration shall be entitled to enforce such decision to the fullest extent
permitted by law and entered in any court of competent jurisdiction. The fees
and expenses of the Arbitrator or the Board of Arbitration (as applicable) and
the reasonable fees and expenses of legal counsel and consultants of the parties
shall be allocated among the parties in the same proportion that the aggregate
amount of the disputed items so submitted to the Arbitrator or the Board of
Arbitration (as applicable) that is unsuccessfully submitted by each of them (as
finally determined by the Arbitration or the Board of Arbitration) bears to the
total amount of items so submitted.
50
(c) Sections 6.6(a) and 6.6(b) shall not apply to any claim for
injunctive relief or specific performance. Such claims shall be submitted to a
court of competent jurisdiction, and neither party shall be required to post any
bond or other security. If a party chooses to pursue such relief, such conduct
shall not constitute a waiver of, or be deemed inconsistent with, the
arbitration provisions set forth in Section 6.6. Once the claims for injunctive
relief or specific performance are finally decided, any and all remaining claims
shall be submitted to arbitration pursuant to Sections 6.6(a) and 6.6(b) and the
Board of Arbitration shall be bound by the findings and rulings of the court on
the claims for injunctive relief or specific performance.
(d) This Section 6.6 shall survive the termination of this Agreement and
the Closing of the transactions contemplated herein.
7. TERMINATION
7.1 Events of Termination. This Agreement may be terminated and the Merger
shall be abandoned upon the occurrence of an event described in Section 7.1(a)
through Section 7.1(d). On termination, other than Section 6.6, this Agreement
shall be of no further force or effect except as to liabilities for
misrepresentation, breach or default in connection with any warranty,
representation, covenant, duty or obligation given, occurring or arising prior
to the date of termination and abandonment.
(a) Misrepresentation, Breach or Failure by PEI. By Parent, at Parent's
election, if any of the conditions precedent to its obligation to close stated
in Section 5.2 have not been fulfilled or waived by the scheduled Closing Date;
if an event has occurred that results in PEI Material Adverse Effect; or if
there has been any misrepresentation or breach of or failure to satisfy timely
on the part of PEI any condition or any material warranty, representation or
agreement contained herein, if such breach or failure is not cured within 15
business days after receipt of written notice from Parent describing such breach
or failure in detail.
(b) Misrepresentation, Breach or Failure by Parent. By PEI, at PEI's
election, if any of the conditions precedent to its obligation to close stated
in Section 5.1 have not been fulfilled or waived by the scheduled Closing Date,
if an event has occurred that results in a Parent Material Adverse Effect; or if
there has been any misrepresentation or breach of or failure to satisfy timely
on the part of Parent any condition or any material warranty, representation or
agreement contained herein, if such breach or failure is not cured within 15
business days after receipt of written notice from PEI describing such breach or
failure in detail.
(c) Expiration of Time. By either Parent or PEI if, for any reason the
Closing shall not have taken place by October 31, 2001; provided, however, that
neither Parent nor PEI shall be entitled to terminate this Agreement pursuant to
this Section 7.1(c) if such party is in material breach of this Agreement at
such time.
(d) Damages for Termination; Breakup Fee. If Parent declines to
consummate the Merger solely because either (i) up to but no more than three
Significant PEI Shareholders (none of whom is an officer or director of PEI at
the time of the execution and delivery of this Agreement) fail to sign the
documents required to be signed by the Significant
51
PEI Shareholders as a condition to Closing, or (ii) holders of more than 350,000
shares of PEI Common Stock exercised dissenters' rights and none of such holders
was an officer or director of PEI at the time of the execution and delivery of
this Agreement, then Parent shall not be entitled to damages from PEI for PEI's
failure to meet its conditions precedent to Closing. Notwithstanding any
provision of this Agreement to the contrary, if this transaction in not closed
for any reason and PEI consummates an Alternative Transaction at any time within
six months after the date of this Agreement, then, in addition to all other
damages to which Parent may be entitled at law or in equity, PEI shall, promptly
following the consummation of such Alternative Transaction, pay to Parent by
wire transfer a fee of $250,000.
7.2 Effect of Termination. Termination of this Agreement pursuant to Section
7.1 shall be without prejudice to any and all remedies the parties may have
against each other for breach of this Agreement.
8. MISCELLANEOUS
8.1 Notice. Any notice, delivery or communication required or permitted to be
given under this Agreement shall be in writing, and shall be mailed, postage
prepaid, or delivered, to the addresses given below, or sent by fax to the fax
numbers set forth below, as follows:
To Parent and/or LC:
Industrial Data Systems Corporation
600 Century Plaza Drive, Building 140
Houston, Texas 77073-6013
Attn: William A. Coskey
IDS Engineering Management, LC
600 Century Plaza Drive, Building 140
Houston, Texas 77073-6013
Attn: William A. Coskey
With a copy to (delivery of which shall not constitute notice
hereunder):
Jenkens & Gilchrist, a Professional Corporation
600 Congress Avenue, Suite 2200
Austin, Texas 78701
Fax: 512-404-3520
Attn: Kathryn K. Lindauer
To PEI or the Significant PEI Shareholders:
Petrocon Engineering, Inc.
3155 Executive Boulevard
Beaumont, Texas 77705
Attn: Michael L. Burrow
52
With a copy to (delivery of which shall not constitute notice hereunder):
Gardere Wynne Sewell LLP
1601 Elm Street, Suite 3000
Dallas, Texas 75201
Fax: 214-999-4667
Attn: Gary B. Clark
or such other address as shall be furnished in writing by any such party to the
other party, and such notice shall be effective and be deemed to have been given
as of the date actually received.
To the extent any notice provision in any other agreement, instrument or
document required to be executed or executed by the parties in connection with
the transactions contemplated herein contains a notice provision which is
different from the notice provision contained in this Section 8.1 with respect
to matters arising under such other agreement, instrument or document, the
notice provision in such other agreement, instrument or document shall control.
8.2 Further Documents. The parties shall, at any time and from time to time
after the date hereof, upon request by the other party and without further
consideration, execute and deliver such instruments or other documents and take
such further action as may be reasonably required in order to perfect any other
undertaking made by such party hereunder.
8.3 Assignability. Neither party shall assign this Agreement in whole or in
part without the prior written consent of the other party.
8.4 Exhibits and Schedules. The Exhibits and Schedules (and any appendices
thereto) referred to in this Agreement are and shall be incorporated herein and
made a part hereof.
8.5 References to Sections, Exhibits and Schedules. Unless the context
otherwise requires, all Sections and Exhibits referred to herein are,
respectively, sections of, and exhibits to, this Agreement and all Schedules
referred to herein are schedules constituting a part of the Disclosure
Schedules.
8.6 Entire Agreement. This Agreement, together with the Confidentiality
Agreements executed by Parent and PEI on or about October 13, 1999, and October
31, 2000, constitutes the full understanding of the parties, a complete
allocation of risks between them and a complete and exclusive statement of the
terms and conditions of their agreement relating to the subject matter hereof
and supersedes any and all prior agreements, whether written or oral, that may
exist between the parties with respect thereto. Except as otherwise
specifically provided in this Agreement, no conditions, usage of trade, course
of dealing or performance, understanding or agreement purporting to modify,
vary, explain or supplement the terms or conditions of this Agreement shall be
binding unless hereafter made in writing and signed by the party to be bound,
and no modification shall be effected by the acknowledgment or acceptance of
documents containing terms or conditions at variance with or in addition to
those set forth in this Agreement. No waiver by any party with respect to any
breach or default or of any right or
53
remedy and no course of dealing shall be deemed to constitute a continuing
waiver of any other breach or default or of any other right or remedy, unless
such waiver be expressed in writing signed by the party to be bound. Failure of
a party to exercise any right shall not be deemed a waiver of such right or
rights in the future.
8.7 Headings. Headings as to the contents of particular Sections are for
convenience only and are in no way to be construed as part of this Agreement or
as a limitation of the scope of the particular Sections to which they refer.
8.8 Controlling Law. The validity, interpretation and performance of this
Agreement and any dispute connected herewith shall be governed and construed in
accordance with the laws of the state of Texas except with respect to conflict
of law provisions which would result in the applicability of another state's
substantive law. Venue for any disputes not subject to arbitration shall be in
Harris County, Texas, and the parties agree to submit to the jurisdiction of the
state and federal courts in Harris County, Texas.
8.9 Public Announcements. The parties shall cooperate in making all press
releases, public announcements or other public confirmations of this Agreement
and the transactions contemplated herein; except as required by law, no party
shall publish any of the foregoing without the prior written consent of the
other parties, which consent each party agrees not to unreasonably withhold.
8.10 No Third Party Beneficiaries. Except as set forth in Section 6, no
Person or entity not a party to this Agreement shall have rights under this
Agreement as a third party beneficiary or otherwise.
8.11 Amendments and Waivers. This Agreement may be amended by PEI, LC, Sub
and Parent, by action taken by their Boards of Directors to the extent permitted
by applicable law; provided, however, that no such amendment shall (i) alter or
change any provision of this Agreement, the alteration or change of which must
be adopted by the holders of capital stock of Parent or PEI under the Articles
of Incorporation of Parent or PEI or the Applicable Corporate Law, or (ii) alter
or change this Section 8.11, unless each such alteration or change is adopted by
the holders of shares of capital stock of Parent and PEI as may be required by
the Articles of Incorporation of Parent or PEI or the Applicable Corporate Law.
Prior to the Effective Time, all amendments to this Agreement must be by an
instrument in writing signed on behalf of PEI and Parent. After the Effective
Time, all amendments to this Agreement must be by an instrument in writing
signed on behalf of Parent and Surviving PEI. Any term or provision of this
Agreement (other than the requirements for shareholder approvals) may be waived
in writing at any time by the party which is, or whose shareholders are,
entitled to the benefits thereof.
8.12 No Employee Rights. Nothing herein expressed or implied shall confer
upon any employee of PEI or Parent any rights or remedies, including any right
to employment or continued employment for any specified period, of any nature or
kind whatsoever under or by reason of this Agreement, or shall cause the
employment status of any employee to be other than terminable at will.
54
8.13 When Effective. This Agreement shall become effective only upon the
execution and delivery of one or more counterparts of this Agreement by PEI, LC,
Parent and Sub.
8.14 Takeover Statutes. If any "fair price," "moratorium," "control share
acquisition" or other form of anti-takeover statute or regulation shall become
applicable to the transactions contemplated hereby, PEI and Parent and their
respective members of their Boards of Directors shall grant such approvals and
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 herein and otherwise act to eliminate or minimize the effects of
such statute or regulation on the transactions contemplated herein.
8.15 Number and Gender of Words. Whenever herein the singular number is used,
the same shall include the plural where appropriate and words of any gender
shall include each other gender where appropriate.
8.16 Invalid Provisions. If any provision of this Agreement is held by final
judgment of a court of competent jurisdiction to be invalid, illegal or
unenforceable, such invalid, illegal or unenforceable provision shall be severed
from the remainder of this Agreement, and the remainder of this Agreement shall
be enforced. In addition, the invalid, illegal or unenforceable provision shall
be deemed to be automatically modified, and, as so modified, to be included in
this Agreement, such modification being made to the minimum extent necessary to
render the provision valid, legal and enforceable. Notwithstanding the
foregoing, however, if the severed or modified provision concerns all or a
portion of the essential consideration to be delivered under this Agreement by
one party to the other, the remaining provisions of this Agreement shall also be
modified to the extent necessary to equitably adjust the parties' respective
rights and obligations hereunder.
8.17 Multiple Counterparts. This Agreement may be executed in a number of
identical counterparts. If so executed, each of such counterparts is to be
deemed an original for all purposes and all such counterparts shall,
collectively, constitute one agreement, but, in making proof of this Agreement,
it shall not be necessary to produce or account for more than one such
counterpart.
8.18 No Rule of Construction. All of the parties hereto have been represented
by counsel in the negotiations and preparation of this Agreement; therefore,
this Agreement will be deemed to be drafted by each of the parties hereto, and
no rule of construction will be invoked respecting the authorship of this
Agreement.
8.19 Expenses. Except as otherwise expressly provided herein, each of the
parties shall bear all of its own expenses in connection with the negotiation
and closing of this Agreement and the transactions contemplated hereby, and,
after the Effective Time, Surviving PEI shall be responsible for the expenses of
PEI incurred in connection with the transactions contemplated by this Agreement.
55
8.20 Time of the Essence. Time is of the essence in the performance of the
obligations of each of the parties to this Agreement and any agreement or
instrument contemplated hereunder.
8.21 Attorneys' Fees. If any arbitration or action at law or in equity,
including an action for declaratory relief, is brought to enforce or interpret
the provisions of this Agreement, the prevailing party shall be entitled to
recover reasonable attorneys' fees and costs from the other party; provided,
however, that no party shall be a prevailing party unless such party has
recovered more or paid less as a result of arbitration or a final order
resulting from judicial proceedings than the amount offered in writing by an
opposing party to settle the dispute.
[THE REMAINDER OF THIS PAGE IS INTENTIONALLY LEFT BLANK]
56
IN WITNESS WHEREOF, this Agreement has been duly executed and delivered on
the date first above written.
PARENT:
INDUSTRIAL DATA SYSTEMS
CORPORATION
By: /s/ William A. Coskey
----------------------------------------------
William A. Coskey, President
LC:
IDS ENGINEERING MANAGEMENT, LC
By: /s/ William A. Coskey
----------------------------------------------
William A. Coskey, President
SUB:
PEI ACQUISITION, INC.
By: /s/ William A. Coskey
----------------------------------------------
William A. Coskey, President
PEI:
PETROCON ENGINEERING, INC.
By: /s/ Michael L. Burrow
----------------------------------------------
Michael L. Burrow, President
57
SCHEDULES AND EXHIBITS
TO AGREEMENT AND PLAN OF MERGER
Intentionally omitted.
58
ANNEX B
AMENDMENT TO ARTICLES OF
INCORPORATION OF IDS
B-1
CERTIFICATE OF AMENDMENT
TO
ARTICLES OF INCORPORATION
OF
INDUSTRIAL DATA SYSTEMS CORPORATION
A Nevada Corporation
1. The name of the corporation (the "Corporation") is Industrial Data
Systems Corporation.
2. The Articles of Incorporation of the Corporation are hereby amended by
striking out Article Fourth thereof and by substituting in lieu thereof the
following new Article Fourth:
"FOURTH. The aggregate number of shares the corporation shall have
authority to issue shall be SEVENTY FIVE MILLION (75,000,000) shares of common
stock, par value one mil ($.001) per share, and FIVE MILLION (5,000,000) shares
of Series A Convertible Preferred Stock, par value one mil ($.001) per share.
Each share of common stock shall have equal rights, preferences and voting
powers. Each share of Series A Convertible Preferred Stock shall have the
preferences, limitations, restrictions, relative rights and voting powers as set
forth on Exhibit A attached hereto and incorporated herein."
---------
3. The vote by which the stockholders holding shares in the corporation
entitling them to exercise at least a majority of the voting power, or such
greater proportion of the voting power as may be required in the case of a vote
by classes or series, or as may be required by the provisions of the articles of
incorporation have voted in favor of the amendment is: ______________.
EXECUTED this _____ day of ____________________, 2001.
_________________________________________
William A. Coskey, President
_________________________________________
Hulda L. Coskey, Secretary
B-2
EXHIBIT A
CERTIFICATE OF
DESIGNATION, PREFERENCES AND RIGHTS
OF THE TERMS OF THE
SERIES A PREFERRED STOCK
Section 1. Designation and Amount. The Series A Convertible Preferred
----------------------
Stock, $0.001 par value per share (the "Series A Preferred Stock") shall consist
of 5,000,000 shares and will have the designations, preferences, voting powers
and privileges set forth below. The number of shares of Series A Preferred
Stock may be increased or decreased by a resolution duly adopted by the board of
directors of the Corporation and by the filing of an amendment to the
Corporation's Articles of Incorporation pursuant to the provisions of the Nevada
Business Corporation Act stating that such increase or decrease has been so
authorized.
Section 2. Dividends.
---------
A. Preferred Stock Dividend Preference. The holders of Series A
-----------------------------------
Preferred Stock, in preference to the holders of Common Stock , $.001 par value
per share (the "Common Stock"), shall be entitled to receive, but only out of
any funds legally available for the declaration of dividends, cumulative,
preferential dividends payable as provided in paragraph (B) below of this
Section 2. Dividends on shares of Series A Preferred Stock shall accrue and be
cumulative from the date of issuance of such shares of Series A Preferred Stock,
and shall accumulate and accrue from day to day thereafter. No dividends or
distributions (other than dividends or distributions on Common Stock payable in
Common Stock) shall be paid upon, or declared or set apart for, the Common
Stock, nor shall any Common Stock be purchased, redeemed, retired, or otherwise
acquired by the Corporation, unless and until all cumulative dividends then owed
on the then outstanding shares of Series A Preferred Stock have been paid in
full.
(B) Payment of Series A Preferred Stock Dividends. Dividends on
---------------------------------------------
outstanding shares of Series A Preferred Stock shall be payable annually, in
arrears, on the last day of May of each year, beginning on the last day of May
2002 at a rate of 8% of the Liquidation Amount in cash, or, at the option of the
Corporation, in shares of Series A Preferred Stock at the rate of 0.08 shares
for each outstanding share of Series A Preferred Stock; provided, however, that
if the Corporation pays in shares of Series A Preferred Stock, the Corporation
may issue cash in lieu of fractional shares.
(C) Common Stock. Subject to paragraphs (A) and (B) above of this
------------
Section 2, (i) dividends may be declared and paid on Common Stock, and (ii)
Common Stock may be purchased, retired, or otherwise acquired, in either case
when and as determined by the Board of Directors, out of any funds legally
available for such purposes.
Section 3. Preference on Liquidation.
-------------------------
(A) In the event of any voluntary or involuntary liquidation,
dissolution or winding up of the Corporation (a "Liquidation") the holders of
shares of the Series A Preferred Stock then outstanding shall be entitled to be
paid, out of the assets of the Corporation available for distribution to its
shareholders, whether from capital, surplus or earnings, before any payment
shall be made in respect of the Common Stock, an amount equal to $1.00 per share
of Series A Preferred Stock (the "Liquidation Amount"), plus all accrued and
unpaid dividends as set forth above in Section 2 with respect to such series to
the date fixed for distribution. If, upon a Liquidation, the Corporation pays
less than the total Liquidation Amount to holders of shares of Series A
Preferred Stock, such payments shall be distributed pro rata on a share-by-share
basis among all shares of Series A Preferred Stock at the time outstanding.
Upon Liquidation, the Corporation shall not make any dividends or distributions
to holders of Common Stock until it has paid the total Liquidation Amount plus
all accrued but unpaid dividends to each holder of shares of Series A Preferred
Stock.
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(B) After setting apart or paying in full the preferential amounts
due the holders of Series A Preferred Stock, such holders will not be entitled
to any further participation in any distribution of assets of the Corporation.
Section 4. Voting. Except as provided in this Designation or otherwise
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required by law, no holder of shares of Series A Preferred Stock shall be
entitled to vote on any matter presented to shareholders for a vote. If a vote
of the holders of Series A Preferred Stock is required by law, each holder of
Series A Preferred Stock shall be entitled to the number of votes equal to the
number of shares of Common Stock into which such shares of Series A Preferred
Stock could be converted on the record date for the vote or consent of
shareholders and shall have voting rights and powers equal to the voting rights
and powers of the Common Stock. The holder of each share of Series A Preferred
Stock shall be entitled to notice of any shareholders' meeting in accordance
with the Bylaws of the Corporation. Fractional votes by the holders of Series A
Preferred Stock shall not, however, be permitted and any fractional voting
rights resulting from the above formula (after aggregating all shares into which
shares of Series A Preferred Stock held by each holder could be converted) shall
be rounded to the nearest whole number.
Section 5. Conversion. The holders of the Series A Preferred Stock shall
----------
have conversion rights as follows (the "Conversion Rights"):
(A) Each share of Series A Preferred Stock shall be convertible, at
the option of the holder thereof, at any time after the date of issuance of such
share at the office of the Corporation or any transfer agent for the Series A
Preferred Stock, into Common Stock as more fully described below. The number of
fully paid and nonassessable shares of Common Stock into which each share of
Series A Preferred Stock may be converted shall be determined by dividing $1.00
by the Conversion Price (as hereinafter defined) in effect at the time of
conversion. The "Conversion Price" shall initially be $2.38, subject to
adjustment as provided in Section 5(F) below.
(B) Each share of Series A Preferred Stock shall automatically be
converted into shares of Common Stock utilizing the then effective Conversion
Price immediately upon obtaining the written consent of the holders of at least
two-thirds of the outstanding Series A Preferred Stock to such conversion.
(C) Each share of Series A Preferred Stock shall be convertible, at
the option of the Corporation, at any time after the Common Stock has been
publicly traded on a national securities exchange or on Nasdaq for at least 20
consecutive trading days at a closing price of at least $3.00 (as adjusted to
reflect any stock split, stock dividend, combination, recapitalization or
similar event) or higher; provided, that if the market price of the Common Stock
thereafter declines to a closing price that is below $3.00 per share, the
Corporation may not cause the Series A Preferred Stock to convert into Common
Stock until it has again been publicly traded for at least 20 consecutive
trading days at a closing price of at least $3.00 (as adjusted to reflect any
stock split, stock dividend, combination, recapitalization or similar event).
(D) No fractional shares of Common Stock shall be issued upon
conversion of the Series A Preferred Stock, and any shares of Series A Preferred
Stock surrendered for conversion which would otherwise result in a fractional
share of Common Stock shall be redeemed for the then fair market value thereof
as determined by the Corporation's Board of Directors, payable as promptly as
possible whenever funds are legally available therefor. If more than one share
of Series A Preferred Stock is surrendered for conversion at any one time by the
same holder, the number of full shares of Common Stock to be issued upon
conversion shall be computed on the basis of the aggregate number of shares of
Series A Preferred Stock so surrendered.
(E) Before any holder of Series A Preferred Stock shall be entitled
to convert the same into shares of Common Stock, it shall surrender the
certificate or certificates therefor at the office of the Corporation or of any
transfer agent for the Series A Preferred Stock, and shall give written notice
to the Corporation at such office that it elects to convert the same and shall
state therein the name or names in which it wishes the certificate or
certificates for shares of Common Stock to be issued. The Corporation shall, as
soon as practicable thereafter, issue and deliver at such office to such holder
of Series A Preferred Stock, or to its nominee or nominees, a certificate or
certificates for the number of shares of Common Stock to which it shall be
entitled as aforesaid. Such conversion shall be deemed to have been made
immediately prior to the close of business on the date of such surrender of the
shares of Series A Preferred Stock to be converted, and the person or persons
entitled to receive the shares of
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Common Stock issuable upon such conversion shall be treated for all purposes as
the record holder or holders of such shares of Common Stock on such date.
(F) Adjustment of Number of Shares and Conversion Price. The
---------------------------------------------------
Conversion Price and the number of shares of Common Stock issuable upon
conversion of the Series A Preferred Stock shall be subject to adjustment from
time to time as provided in this Section 5(F).
(i) Issuance of Additional Shares of Common Stock. If the
---------------------------------------------
Corporation issues or sells any shares ("Additional Shares") of Common
Stock for a consideration per share less than the Conversion Price, the
Conversion Price shall be adjusted to the price calculated by multiplying
the Conversion Price in effect immediately before the issuance of the
Additional Shares by a fraction:
A. the numerator of which shall be the number of shares of
Common Stock outstanding immediately prior to the issuance of such
Additional Shares plus the number of shares of Common Stock which the
aggregate consideration for the total number of such Additional Shares so
issued would purchase at the Conversion Price, and
B. the denominator of which shall be the number of shares
of Common Stock outstanding immediately prior to the issuance of such
Additional Shares plus the number of such Additional Shares so issued.
For purposes of this Section 5(F)(i), the date as of which the Conversion
Price shall be computed shall be the earlier of the date upon which the
Corporation shall (i) enter into a firm contract for the issuance of such
shares or (ii) issue such shares.
(ii) Adjustment of Number of Shares. Upon any adjustment of the
------------------------------
Conversion Price as provided in this Section 5(F), the holder of shares of
Series A Preferred Stock shall thereafter be entitled to purchase, at the
Conversion Price resulting from the adjustment, the number of shares of
Common Stock (calculated to the nearest 1/100th of a share) obtained by
multiplying the Conversion Price in effect immediately before the
adjustment by the number of shares of Common Stock purchasable hereunder
immediately before the adjustment and dividing the product thereof by the
Conversion Price resulting from the adjustment.
(G) Provisions Applicable to Section 5(F). For purposes of Section
-------------------------------------
5(F), the following Sections 5(G)(i) through (xii), inclusive, shall be
applicable:
(i) Issuance of Options or Other Rights. If the Corporation in
-----------------------------------
any manner grants (whether directly or by assumption in a merger or
otherwise) any rights to subscribe for or to purchase, or any options for
the purchase of, (x) Common Stock or (y) evidences of indebtedness, shares
of stock or other securities that are convertible into or exchangeable for,
with or without payment of additional consideration in cash or property,
additional shares of Common Stock, either immediately or upon a specified
date or the happening of a specified event ("Convertible Securities"),
whether or not such rights or options or the right to convert or exchange
any such Convertible Securities are immediately exercisable, and if the
price per share for which shares of Common Stock are issuable upon the
conversion of such rights or options or upon conversion or exchange of such
Convertible Securities is less than the Conversion Price per share of
Common Stock existing immediately before the granting of such rights or
options, then the maximum number of shares of Common Stock issuable upon
the conversion of such rights or options or upon conversion or exchange of
the maximum amount of such Convertible Securities issuable upon the
conversion of such rights or options shall (as of the date for the
determination of the Conversion Price per share of Common Stock as
hereinafter provided) be deemed to be outstanding and to have been issued
for such price per share. The price per share for which shares of Common
Stock are issuable upon the conversion of such right or options or upon
conversion or exchange of such Convertible Securities shall be determined
by dividing (1) the total amount, if any, received or receivable by the
Corporation as consideration for the granting of such rights or options,
plus the minimum aggregate amount of additional consideration payable to
the Corporation upon the conversion of such rights or options, plus, in the
case of such Convertible Securities, the minimum aggregate amount of
additional consideration, if any, payable
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upon the conversion or exchange thereof, by (2) the total maximum number of
shares of Common Stock issuable upon the conversion of such rights or
options or upon the conversion or exchange of all such Convertible
Securities issuable upon the conversion of such rights or options. No
further adjustments of the Conversion Price shall be made upon the actual
issue of such Common Stock or of such rights or options or upon the actual
issue of such Common Stock upon conversion or exchange of such Convertible
Securities except as otherwise provided in Section 5(G)(iii) below. For
purposes of this Section 5(G)(i), the date as of which the Conversion Price
per share of Common Stock shall be computed shall be the earlier of the
date upon which the Corporation shall (i) enter into a firm contract for
the issuance of such rights or other options or (ii) issue such rights or
other options.
(ii) Issuance of Convertible Securities. If the Corporation in
----------------------------------
any manner issues or sells (whether directly or by assumption in a merger
or otherwise) any Convertible Securities, whether or not the rights to
exchange or convert thereunder are immediately exercisable, and the price
per share for which shares of Common Stock are issuable upon such
conversion or exchange shall be less than the Conversion Price per share of
Common Stock existing immediately prior to the time of such issue or sale,
then the maximum number of shares of Common Stock issuable upon conversion
or exchange of all such Convertible Securities shall (as of the date for
the determination of the Conversion Price per share of Common Stock as
hereinafter provided) be deemed to be outstanding and to have been issued
for such price per share; provided however, except as otherwise specified
in Section 5(G)(iii) below, (1) no further adjustments of the Conversion
Price shall be made upon the actual issuance of such Common Stock upon
conversion or exchange of such Convertible Securities and (2) if any such
issuance or sale of such Convertible Securities is made upon conversion of
any rights to subscribe for or to purchase or any option to purchase any
such Convertible Securities for which adjustments of the Conversion Price
have been or are to be made under other provisions of Sections 5(F) and
5(G), no further adjustment of the Conversion Price shall be made by reason
of such issuance or sale. The price per share for which shares of Common
Stock are issuable upon such conversion or exchange shall be determined by
dividing (x) the total amount received or receivable by the Corporation as
consideration for the issue or sale of such Convertible Securities, plus
the minimum aggregate amount of additional consideration, if any, payable
to the Corporation upon the conversion or exchange thereof, by (y) the
total maximum number of shares of Common Stock issuable upon the conversion
or exchange of all such Convertible Securities. For purposes of this
Section 5(G)(ii), the date as of which the Conversion Price per share of
Common Stock shall be computed shall be the earlier of the date upon which
(i) the Corporation shall enter into a firm contract for the issuance of
such Convertible Securities or (ii) such Convertible Securities are
actually issued.
(iii) Readjustment of Conversion Price. If (i) the purchase
--------------------------------
price provided for in any rights or options referred to in Section 5(G)(i)
above, (ii) the additional consideration, if any, payable upon the
conversion or exchange of Convertible Securities referred to in Section
5(G)(i) or 5(G)(ii) above, or (iii) the rate at which any Convertible
Securities referred to in Section 5(G)(i) or 5(G)(ii) above are convertible
into or exchangeable for Common Stock shall change (other than under or by
reason of provisions designed to protect against dilution), the Conversion
Price in effect at the time of such event shall forthwith be readjusted to
the Conversion Price that would have been in effect at such time had such
rights, options or Convertible Securities still outstanding provided for
such changed purchase price, additional consideration or conversion rate,
as the case may be, at the time initially granted, issued or sold. On the
expiration of any such option or right or the termination of any such right
to convert or exchange such Convertible Securities, the Conversion Price
then in effect shall be increased to the Conversion Price that would have
been in effect at the time of such expiration or termination had such
right, option or Convertible Security never been issued, and the Common
Stock issuable thereunder shall no longer be deemed to be outstanding. If
the purchase price provided for in any such rights or options referred to
in Section 5(G)(i) above or the rate at which any Convertible Securities
referred to in Section 5(G)(i) or 5(G)(ii) are convertible into or
exchangeable for Common Stock, shall be reduced at any time under or by
reason of provisions with respect thereto designed to protect against
dilution, then in case of the delivery of Common Stock upon the conversion
in any such rights or options or upon conversion or exchange of any such
Convertible Securities, the Conversion Price then in effect hereunder shall
forthwith be adjusted to such amount as would have obtained had such right,
option or Convertible Securities never been issued as to such Common Stock
and had adjustments never been made upon the issuance of the shares of
Common Stock delivered as aforesaid, but only if as a result of such
adjustment the Conversion Price then in effect hereunder is thereby
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reduced. In the event any such adjustment would reduce the Conversion
Price to an amount less than the then par value of the Common Stock, the
Corporation shall cause its Articles of Incorporation to be amended to
reduce the par value of the Common Stock to an amount equal to or less than
the adjusted Conversion Price.
(iv) Minimum Adjustment. If any adjustment of the Conversion
------------------
Price pursuant to Section 5(F) results in an adjustment of less than $.001
per share of Common Stock, no such adjustment shall be made, but any such
lesser adjustment shall be carried forward and shall be made at the time
and together with the next subsequent adjustment that, together with any
adjustments so carried forward, shall amount to $.001 or more per share of
Common Stock; provided, however, upon any adjustment of the Conversion
Price resulting from (i) the declaration of a dividend upon, or the mailing
of any distribution in respect of, any stock of the Corporation payable in
Common Stock or Convertible Securities or (ii) the reclassification, by
subdivision, combination or otherwise, of the Common Stock into a greater
or smaller number of shares, the foregoing figure of $.001 per share (or
such figure as last adjusted) shall be proportionately adjusted; provided,
further, upon the conversion of the Series A Preferred Stock, the
Corporation shall make all necessary adjustments not theretofore made to
the Conversion Price up to and including the date upon which the Series A
Preferred Stock is converted.
(v) Consideration for Dividends in Securities. If the
-----------------------------------------
Corporation declares a dividend or makes any other distribution upon any
stock of the Corporation payable in either case in Common Stock or
Convertible Securities, such Common Stock or Convertible Securities, as the
case may be, issuable in payment of such dividend or distribution shall be
deemed to have been issued or sold without consideration.
(vi) Consideration for Rights or Options. If any rights or
-----------------------------------
options to purchase any shares of Common Stock or Convertible Securities
are issued in connection with the issue or sale of other securities of the
Corporation, together comprising one integral transaction in which no
specific consideration is allocated to the rights or options, the rights or
options shall be deemed to have been issued without consideration.
(vii) Determination of Consideration upon Payment of Cash,
----------------------------------------------------
Property or Merger. If any shares of Common Stock or Convertible
------------------
Securities or any rights or options to purchase any Common Stock or
Convertible Securities are issued or sold for cash, the consideration
received therefor shall be deemed to be the net amount received by the
Corporation therefor, after deduction of any accrued interest, dividends or
any expenses incurred or any underwriting commissions or concessions paid
or allowed by the Corporation in connection therewith. If any shares of
Common Stock or Convertible Securities or any rights or options to purchase
any such Common Stock or Convertible Securities are issued for a
consideration other than cash, the amount of the consideration other than
cash received by the Corporation shall be deemed to be the fair market
value on the date of issue of the securities so issued by the Corporation,
as determined in good faith by the Board of Directors of the Corporation,
less any expenses incurred by the Corporation in connection therewith. If
any shares of Common Stock or Convertible Securities or any rights or
options to purchase such Common Stock or Convertible Securities are issued
in connection with any merger or consolidation in which the Corporation is
the surviving corporation, the amount of consideration therefor shall be
deemed to be the fair market value thereof on the date of issue, as
determined in good faith by the Board of Directors of the Corporation, for
such portion of the assets and business of the non-surviving corporation as
the Board of Directors shall attribute to such Common Stock, Convertible
Securities, rights or options, as the case may be. In the event of any
consolidation or merger of the Corporation in which the Corporation is not
the surviving corporation or in the event of any sale of all or
substantially all of the assets of the Corporation for stock or other
securities of any corporation, the Corporation shall be deemed to have
issued a number of shares of its Common Stock for stock or securities of
the other corporation computed on the basis of the actual exchange ratio on
which the transaction was predicated and for a consideration equal to the
fair market value on the date of such transaction of such stock or
securities of the other corporation, and if any such calculation results in
adjustment of the Conversion Price, the determination of the number of
shares of Common Stock issuable upon conversion of the Series A Preferred
Stock immediately prior to such merger, consolidation or sale, for the
purposes of Section 5(G)(xi) below, shall be made after giving effect to
such adjustment of the Conversion Price.
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(viii) Record Date. If the Corporation takes a record of the
-----------
holders of the Common Stock for the purpose of entitling them (i) to
receive a dividend or other distribution payable in Common Stock or in
Convertible Securities or (ii) to subscribe for or purchase Common Stock or
Convertible Securities, then the record date shall be deemed to be the date
of the issue or sale of the shares of Common Stock deemed to have been
issued or sold upon the declaration of the dividend or the making of such
other distribution or the date of the granting of the right of subscription
or purchase, as the case may be.
(ix) Shares Outstanding. The number of shares of Common Stock
------------------
deemed to be outstanding at any given time shall (i) include shares of
Common Stock issuable in respect of scrip certificates that have been
issued in lieu of fractional shares of Common Stock, but (ii) exclude (x)
shares of Common Stock in the treasury of the Corporation or any subsidiary
of the Corporation, (y) shares of Common Stock previously issued upon the
conversion of the Series A Preferred Stock and (z) shares of Common Stock
issuable upon the conversion of the Series A Preferred Stock.
(x) Splits and Combinations. If the Corporation at any time
-----------------------
subdivides its outstanding shares of Common Stock into a greater number of
shares, the Conversion Price in effect immediately before the subdivision
shall be proportionately reduced, and, conversely, if the outstanding
shares of Common Stock are combined into a smaller number of shares, the
Conversion Price in effect immediately before the combination shall be
proportionately increased.
(xi) Reorganization, Reclassification or Recapitalization of
-------------------------------------------------------
Corporation. In case of any capital reorganization or reclassification or
-----------
recapitalization of the capital stock of the Corporation (other than in the
cases referred to in Section 5(G)(x) or in case of the consolidation or
merger of the Corporation with or into another corporation or other
business entity or in case of the sale or transfer of the property of the
Corporation as an entirety or substantially as an entirety, there shall
thereafter be deliverable upon the conversion of the Series A Preferred
Stock or any portion thereof (in lieu of or in addition to the number of
shares of Common Stock theretofore deliverable) the number of shares of
stock or other securities or property to which the holder of the number of
shares of Common Stock that would otherwise have been deliverable upon the
conversion of the Series A Preferred Stock or any portion thereof at the
time would have been entitled upon such capital reorganization,
reclassification or recapitalization of capital stock, consolidation,
merger or sale, and at the same aggregate Conversion Price. Prior to and
as a condition of the consummation of any transaction described in the
preceding sentence, the Corporation shall make appropriate written
adjustments in the application of the provisions herein set forth
reasonably satisfactory to the holders of the Series A Preferred Stock
entitled to not less than a majority of the shares of Common Stock issuable
upon the conversion thereof with respect to the rights and interests of the
holders of the Series A Preferred Stock so that the provisions set forth
herein shall thereafter be applicable, as nearly as possible, in relation
to any shares of stock or other securities or other property thereafter
deliverable upon conversion of the Series A Preferred Stock. Any such
adjustment shall be made by and set forth in a supplemental agreement
between the Corporation and the successor entity and be approved by the
holders of the Series A Preferred Stock entitled to not less than a
majority of the shares of Common Stock issuable upon the conversion
thereof.
(xii) Exempt Issuances. Notwithstanding the prior provisions
----------------
of this Section 5(G), no adjustment of the Conversion Price or the number
of shares of Common Stock issuable upon conversion of the Series A
Preferred Stock shall be made by reason of:
A. Common Stock issued upon conversion of the Series A
Preferred Stock;
B. securities from time to time issuable or issued to
employees, directors or consultants of the Corporation pursuant to stock
option plans approved by a majority of the shareholders of the Corporation
not to exceed 15% of the fully diluted shares of Common Stock then
outstanding;
C. securities issued in connection with an acquisition
of all or part of another business is approved by the Board of Directors of
the Corporation;
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D. securities issued to the holders of the Series A
Preferred Stock as dividends; and
E. securities outstanding or securities issued upon
exercise or conversion of securities outstanding as of the filing of this
Designation with the Secretary of State of the State of Nevada including
but not limited to the securities issued with respect to the merger of an
indirect subsidiary of the Corporation with and into Petrocon Engineering,
Inc.
(H) The Corporation will not, by amendment of its Articles of
Incorporation or Certificate of Designation, or through any reorganization,
transfer of assets, consolidation, merger, dissolution, issue or sale of
securities or any other voluntary action, avoid or seek to avoid the observance
or performance of any of the terms to be observed or performed hereunder by the
Corporation, but will at all times in good faith assist in the carrying out of
all the provisions of this Section 5 and in the taking of all such action as may
be necessary or appropriate in order to protect the conversion rights of the
holders of the Series A Preferred Stock against impairment.
(I) The Corporation shall at all times reserve and keep available,
out of its authorized but unissued Common Stock, solely for the purpose of
effecting the conversion of the Series A Preferred Stock, the full number of
shares of Common Stock deliverable upon the conversion of all shares of Series A
Preferred Stock from time to time outstanding. The Corporation shall from time
to time (subject to obtaining necessary director and shareholder action), in
accordance with the laws of the State of Nevada, increase the authorized amount
of its Common Stock if at any time the authorized number of shares of its Common
Stock remaining unissued shall not be sufficient to permit the conversion of all
of the shares of Series A Preferred Stock at the time outstanding. The
Corporation will take such corporate action as may be necessary to increase its
authorized Common Stock, including, without limitation, using its reasonable
best efforts to obtain the requisite shareholder approval to amend its Articles
of Incorporation.
Section 6. Status of Converted Stock. If any shares of Series A Preferred
-------------------------
Stock shall be converted pursuant to Section 5, the shares so converted shall be
cancelled and shall not be issuable by the Corporation, and the Articles of
Incorporation of the Corporation shall be appropriately amended to effect the
corresponding reduction in the Corporation's authorized capital.
Section 7. Redemption.
----------
(A) Optional Redemption. At any time and from time to time after
-------------------
the issuance of the Series A Preferred Stock, the Corporation may, at its
option, redeem all or part (but not less than 25% of the shares of Series A
Preferred Stock then outstanding) of the outstanding shares of Series A
Preferred Stock on a date specified by the Corporation (the "Optional Redemption
Date") by paying to the holders thereof an amount equal to the Liquidation
Amount plus the sum of all accrued but unpaid dividends on such shares (the
"Redemption Price") in cash out of funds legally available for such purpose. Any
redemption effected pursuant to this subsection 7(A) shall be made on a pro rata
basis among the holders of the Series A Preferred Stock in proportion to the
number of shares of Series A Preferred Stock then held by such holders.
(B) Mandatory Redemption. To the extent legally permitted, at any
--------------------
time after July ___, 2008, the holders of not less than two-thirds of the then
outstanding Series A Preferred Stock, voting together as a single class may
demand, by delivery of a written notice to the Corporation (the "Mandatory
Redemption Notice"), that the Corporation redeem all (but not less than all) of
the shares of Series A Preferred Stock then outstanding on a date (the
"Mandatory Redemption Date") that is not less than 30 nor more than 90 days from
the date of the Mandatory Redemption Notice by paying to the holders thereof an
amount equal to the Redemption Price in cash out of funds legally available for
such purpose.
(C) As used herein and in Section 7(D) below, the term "Redemption
Date" shall refer to both the "Mandatory Redemption Date" and the "Optional
Redemption Date." At least 15 but no more than 30 days prior to each Redemption
Date, written notice shall be mailed, first class postage prepaid, to each
holder of record of the Series A Preferred Stock to be redeemed notifying such
holder of the redemption to be effected on the applicable Redemption Date,
specifying the number of shares to be redeemed from such holder, the Redemption
Date, the Redemption Price, the place at which payment may be obtained and
calling upon such holder to surrender to the
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Corporation, in the manner and at the place designated, its certificates
representing shares to be redeemed (the "Redemption Notice"). Each holder of
Series A Preferred Stock may, at any time prior to the Redemption Date
(including during the period between its receipt of the Redemption Notice and
the Redemption Date), convert all or part of its shares of Series A Preferred
Stock into Common Stock in accordance with the terms of Section 5. Except as
provided in Section 7(D), on or after the Redemption Date, each holder of Series
A Preferred Stock to be redeemed shall surrender to the Corporation the
certificate or certificates representing such shares, and thereupon the
applicable Redemption Price of such shares shall be payable to the order of the
person whose name appears on such certificate or certificates and each
certificate shall be canceled. If less than all the shares represented by such
certificate are redeemed, a new certificate shall be issued representing the
unredeemed shares.
(D) From and after each Redemption Date, unless there shall have
been a default in payment of the Redemption Price, all rights of the holders of
Series A Preferred Stock designated for redemption on such Redemption Date in
the Redemption Notice as holders of Series A Preferred Stock (except the right
to receive the applicable Redemption Price upon surrender of their
certificate(s)) shall cease with respect to such shares, and such shares shall
not thereafter be transferred on the books of this Corporation or be deemed to
be outstanding for any purpose whatsoever. If the funds of this Corporation
legally available for redemption of the Series A Preferred Stock on a Redemption
Date are insufficient to redeem the total number of shares of Series A Preferred
Stock to be redeemed on such date, those funds that are legally available will
be used to redeem the maximum possible number of shares ratably among the
holders of such shares to be redeemed such that each holder of a share of Series
A Preferred Stock receives the same percentage of the applicable Series A
Redemption Price. The shares of Series A Preferred Stock not redeemed shall
remain outstanding and entitled to all the rights and preferences provided
herein. Subject to the rights of the Series A Preferred Stock, which may from
time to time come into existence, at any time thereafter when additional funds
of the Corporation are legally available for the redemption of shares of Series
A Preferred Stock, such funds will be immediately used to redeem the balance of
the shares that this Corporation has become obligated to redeem on any
Redemption Date but that it has not redeemed.
Section 8. Protection Provisions. So long as at least 750,000 shares of
---------------------
Series A Preferred Stock remain outstanding (as adjusted for stock splits,
reverse splits and other similar events), the Corporation shall, not without
first obtaining the approval (by vote or written consent) of the holders of at
least a majority of the then outstanding shares of Series A Preferred Stock,
issue additional shares of capital stock with rights, preferences or privileges
that are senior to or on a parity with the Series A Preferred Stock.
Section 9. Amendment. The Articles of Incorporation of the Corporation
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shall not be amended in any manner which would materially alter or change the
powers, preferences or special rights of the Series A Preferred Stock so as to
affect them adversely without the written consent or affirmative vote of a
majority of the then outstanding shares of Series A Preferred Stock, voting
together as a single class.
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ANNEX C
SECTIONS 5.11 - 5.13 OF THE TEXAS BUSINESS CORPORATION ACT
Art. 5.11 Rights of Dissenting Shareholders in the Event of Certain Corporate
Actions
A. Any shareholder of a domestic corporation shall have the right to dissent
from any of the following corporate actions:
(1) Any plan of merger to which the corporation is a party if shareholder
approval is required by Article 5.03 or 5.16 of this Act and the shareholder
holds shares of a class or series that was entitled to vote thereon as a class
or otherwise;
(2) Any sale, lease, exchange or other disposition (not including any
pledge, mortgage, deed of trust or trust indenture unless otherwise provided in
the articles of incorporation) of all, or substantially all, the property and
assets, with or without good will, of a corporation if special authorization of
the shareholders is required by this Act and the shareholder hold shares of a
class or series that was entitled to vote thereon as a class or otherwise;
(3) Any plan of exchange pursuant to Article 5.02 of this Act in which the
shares of the corporation of the class or series held by the shareholder are to
be acquired.
B. Notwithstanding the provisions of Section A of this Article, a shareholder
shall not have the right to dissent from any plan of merger in which there is a
single surviving or new domestic or foreign corporation, or from any plan of
exchange, if:
(1) the shares held by the shareholder are part of a class or series,
shares of which are on the record date fixed to determine the shareholders
entitled to vote on the plan of merger or plan of exchange:
(a) listed on a national securities exchange;
(b) listed on the Nasdaq Stock Market (or successor quotation) or
designated as a national market security on an interdealer quotation system by
the National Association of Securities Dealers, Inc., or successor entity; or
(c) held of record by not less than 2,000 holders;
(2) the shareholder is not required by the terms of the plan of merger or
plan of exchange to accept for the shareholder's shares any consideration that
is different than the consideration (other than cash in lieu of fractional
shares that the shareholder would otherwise be entitled to receive) to be
provided to any other holder of shares of the same class or series of shares
held by such shareholder; and
(3) the shareholder is not required by the terms of the plan of merger or
the plan of exchange to accept for the shareholder's shares any consideration
other than:
(a) shares of domestic or foreign corporation that, immediately after
the Effective Time of the merger or exchange, will be part of a class or series,
shares of which are:
(i) listed, or authorized for listing upon official notice of
issuance, on a national securities exchange;
(ii) approved for quotation as a national market security on an
interdealer quotation system by the National Association of Securities
Dealers, Inc., or successor entity; or
(iii) held of record by not less than 2,000 holders;
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(b) cash in lieu of fractional shares otherwise entitled to be
received; or
(c) any combination of the securities and cash described in
Subdivisions (a) and (b) of this subsection.
Art. 5.12 Procedure for Dissent by Shareholder as to Said Corporate Actions
A. Any shareholder of any domestic corporation who has the right to dissent
from any of the corporate actions referred to in Article 5.11 of this Act may
exercise that right to dissent only by complying with the following procedures:
(1) (a) With respect to proposed corporate action that is submitted to a
vote of shareholders at a meeting, the shareholder shall file with the
corporation, prior to the meeting, a written objection to the action, setting
out that the shareholder's right to dissent will be exercised if the action is
effective and giving the shareholder's address, to which notice thereof shall be
delivered or mailed in that event. If the action is effected and the
shareholder shall not have voted in favor of the action, the corporation, in the
case of action other than a merger, or the surviving or new corporation (foreign
or domestic) or other entity that is liable to discharge the shareholder's right
of dissent, in the case of a merger, shall, within ten (10) days after the
action is effected, deliver or mail to the shareholder written notice that the
action has been effected, and the shareholder may, within ten (10) days from the
delivery or mailing of the notice, make written demand on the existing,
surviving, or new corporation (foreign or domestic) or other entity, as the case
may be, for payment of the fair value of the shareholder's shares. The fair
value of the shares shall be the value thereof as of the day immediately
preceding the meeting, excluding any appreciation or depreciation in
anticipation of the proposed action. The demand shall state the number and
class of the shares owned by the shareholder and the fair value of the shares as
estimated by the shareholder. Any shareholder failing to make demand within the
ten (10) day period shall be bound by the action.
(b) With respect to proposed corporate action that is approved
pursuant to Section A of Article 9.10 of this Act, the corporation, in the case
of action other than a merger, and the surviving or new corporation (foreign or
domestic) or other entity that is liable to discharge the shareholder's right of
dissent, in the case of a merger, shall, within ten (10) days after the date the
action is effected, mail to each shareholder of record as of the effective date
of the action notice of the fact and date of the action and that the shareholder
may exercise the shareholder's right to dissent from the action. The notice
shall be accompanied by a copy of this Article and any articles or documents
filed by the corporation with the Secretary of State to effect the action. If
the shareholder shall not have consented to the taking of the action, the
shareholder may, within twenty (20) days after the mailing of the notice, make
written demand on the existing, surviving, or new corporation (foreign or
domestic) or other entity, as the case may be, for payment of the fair value of
the shareholder's shares. The fair value of the shares shall be the value
thereof as of the date the written consent authorizing the action was delivered
to the corporation pursuant to Section A of Article 9.10 of this Act, excluding
any appreciation or depreciation in anticipation of the action. The demand shall
state the number and class of shares owned by the dissenting shareholder and the
fair value of the shares as estimated by the shareholder. Any shareholder
failing to make demand within the twenty (20) day period shall be bound by the
action.
(2) Within twenty (20) days after receipt by the existing, surviving, or
new corporation (foreign or domestic) or other entity, as the case may be, of a
demand for payment made by a dissenting shareholder in accordance with
Subsection (1) of this Section, the corporation (foreign or domestic) or other
entity shall deliver or mail to the shareholder a written notice that shall
either set out that the corporation (foreign or domestic) or other entity
accepts the amount claimed in the demand and agrees to pay that amount within
ninety (90) days after the date on which the action was effected, and, in the
case of shares represented by certificates, upon the surrender of the
certificates duly endorsed, or shall contain an estimate by the corporation
(foreign or domestic) or other entity of the fair value of the shares, together
with an offer to pay the amount of that estimate within ninety (90) days after
the date on which the action was effected, upon receipt of notice within sixty
(60) days after that date from the shareholder that the shareholder agrees to
accept that amount and, in the case of shares represented by certificates, upon
the surrender of the certificates duly endorsed.
(3) If, within sixty (60) days after the date on which the corporate
action was effected, the value of the shares is agreed upon between the
shareholder and the existing, surviving, or new corporation (foreign or
domestic)
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or other entity, as the case may be, payment for the shares shall be made within
ninety (90) days after the date on which the action was effected and, in the
case of shares represented by certificates, upon surrender of the certificates
duly endorsed. Upon payment of the agreed value, the shareholder shall cease to
have any interest in the shares or in the corporation.
B. If, within the period of sixty (60) days after the date on which the
corporate action was effected, the shareholder and the existing, surviving or
new corporation (foreign or domestic) or other entity, as the case may be, do
not so agree, then the shareholder or the corporation (foreign or domestic) or
other entity may, within sixty (60) days after the expiration of the sixty (60)
day period, file a petition in any court of competent jurisdiction in the county
in which the principal office of the domestic corporation is located, asking for
a finding and determination of the fair value of the shareholder's shares. Upon
the filing of any such petition by the shareholder, service of a copy thereof
shall be made upon the corporation (foreign or domestic) or other entity, which
shall, within ten (10) days after service, file in the office of the clerk of
the court in which the petition was filed a list containing the names and
addresses of all shareholders of the domestic corporation who have demanded
payment for their shares and with whom agreements as to the value of their
shares have not been reached by the corporation (foreign or domestic) or other
entity. If the petition shall be filed by the corporation (foreign or domestic)
or other entity, the petition shall be accompanied by such a list. The clerk of
the court shall give notice of the time and place fixed for the hearing of the
petition by registered mail to the corporation (foreign or domestic) or other
entity and to the shareholders named on the list at the addresses therein
stated. The forms of the notices by mail shall be approved by the court. All
shareholders thus notified and the corporation (foreign or domestic) or other
entity shall thereafter be bound by the final judgment of the court.
C. After the hearing of the petition, the court shall determine the
shareholders who have complied with the provisions of this Article and have
become entitled to the valuation of and payment for their shares, and shall
appoint one or more qualified appraisers to determine that value. The
appraisers shall have power to examine any of the books and records of the
corporation the shares of which they are charged with the duty of valuing, and
they shall make a determination of the fair value of the shares upon such
investigation as to them may seem proper. The appraisers shall also afford a
reasonable opportunity to the parties interested to submit to them pertinent
evidence as to the value of the shares. The appraisers shall also have such
power and authority as may be conferred on Masters in Chancery by the Rules of
Civil Procedure or by the order of their appointment.
D. The appraisers shall determine the fair value of the shares of the
shareholders adjudged by the court to be entitled to payment for their shares
and shall file their report of that value in the office of the clerk of the
court. Notice of the filing of the report shall be given by the clerk to the
parties in interest. The report shall be subject to exceptions to be heard
before the court both upon the law and the facts. The court shall by its
judgment determine the fair value of the shares of the shareholders entitled to
payment for their shares and shall direct the payment of that value by the
existing, surviving, or new corporation (foreign or domestic) or other entity,
together with interest thereon, beginning 91 days after the date on which the
applicable corporate action from which the shareholder elected to dissent was
effected to the date of such judgment, to the shareholders entitled to payment.
The judgment shall be payable to the holders of uncertificated shares
immediately but to the holders of shares represented by certificates only upon,
and simultaneously with, the surrender to the existing, surviving, or new
corporation (foreign or domestic) or other entity, as the case may be, of duly
endorsed certificates for those shares. Upon payment of the judgment, the
dissenting shareholders shall cease to have any interest in those shares or in
the corporation. The court shall allow the appraisers a reasonable fee as court
costs, and all court costs shall be allotted between the parties in the manner
that the court determines to be fair and equitable.
E. Shares acquired by the existing, surviving or new corporation (foreign or
domestic) or other entity, as the case may be, pursuant to the payment of the
agreed value of the shares or pursuant to payment of the judgment entered for
the value of the shares, as in this Article provided, shall, in the case of a
merger, be treated as provided in the plan of merger and, in all other cases,
may be held and disposed of by the corporation as in the case of other treasury
shares.
F. The provisions of this Article shall not apply to a merger if, on the date
of the filing of the articles of merger, the surviving corporation is the owner
of all the outstanding shares of the other corporations, domestic or foreign,
that are parties to the merger.
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G. In the absence of fraud in the transaction, the remedy provided by this
Article to a shareholder objecting to any corporate action referred to in
Article 5.11 of this Act is the exclusive remedy for the recovery of the value
of his shares or money damages to the shareholder with respect to the action.
If the existing, surviving, or new corporation (foreign or domestic) or other
entity, as the case may be, complies with the requirements of this Article, any
shareholder who fails to comply with the requirements of this Article shall not
be entitled to bring suit for the recovery of the value of his shares or money
damages to the shareholder with respect to the action.
Art. 5.13 Provisions Affecting Remedies of Dissenting Shareholders
A. Any shareholder who has demanded payment for his shares in accordance with
either Article 5.12 or 5.16 of this Act shall not thereafter be entitled to vote
or exercise any other rights of a shareholder except the right to receive
payment for his shares pursuant to the provisions of those articles and the
right to maintain an appropriate action to obtain relief on the ground that the
corporate action would be or was fraudulent, and the respective shares for which
payment has been demanded shall not thereafter be considered outstanding for the
purposes of any subsequent vote of shareholders.
B. Upon receiving a demand for payment from any dissenting shareholder, the
corporation shall make an appropriate notation thereof in its shareholder
records. Within twenty (20) days after demanding payment for his shares in
accordance with either Article 5.12 or 5.16 of this Act, each holder of
certificates representing shares so demanding payment shall submit such
certificates to the corporation for notation thereon that such demand has been
made. The failure of holders of certificated shares to do so shall, at the
option of the corporation, terminate such shareholder's rights under Articles
5.12 and 5.16 of this Act unless a court of competent jurisdiction for good and
sufficient cause shown shall otherwise direct. If uncertificated shares for
which payment has been demanded or shares represented by a certificate on which
notation has been so made shall be transferred, any new certificate issued
therefor shall bear similar notation together with the name of the original
dissenting holder of such shares and a transferee of such shares shall acquire
by such transfer no rights in the corporation other than those which the
original dissenting shareholder had after making demand for payment of the fair
value thereof.
C. Any shareholder who has demanded payment for his shares in accordance with
either Article 5.12 or 5.16 of this Act may withdraw such demand at any time
before payment for his shares or before any petition has been filed pursuant to
Article 5.12 or 5.16 or this Act asking for a finding and determination of the
fair value of such shares, but no such demand may be withdrawn after such
payment has been made or, unless the corporation shall consent thereto, after
any such petition has been filed. If, however, such demand shall be withdrawn
as herein before provided, or if pursuant to Section B of this Article the
corporation shall terminate the shareholder's rights under Article 5.12 or 5.16
of this Act, as the case may be, or if no petition asking for a finding and
determination of fair value of such shares by a court shall have been filed
within the time provided in Article 5.12 or 5.16 of this Act, as the case may
be, or if after the hearing of a petition filed pursuant to Article 5.12 or
5.16, the court shall determine that such shareholder is not entitled to the
relief provided by those articles, then, in any such case, such shareholder and
all persons claiming under him shall be conclusively presumed to have approved
and ratified the corporate action from which he dissented and shall be bound
thereby, the right of such shareholder to be paid the fair value of his shares
shall cease, and his status as a shareholder shall be restored without prejudice
to any corporate proceedings which may have been taken during the interim, and
such shareholder shall be entitled to receive any dividends or other
distributions made to shareholders in the interim.
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PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 20. INDEMNIFICATION OF DIRECTORS AND OFFICERS.
Our articles of incorporation provide that none of our directors or
officers shall be personally liable to us or our stockholders for monetary
damages for any breach of fiduciary duty by such person as a director or
officer, except that a director or officer shall be liable, to the extent
provided by applicable law, (1) for acts or omissions which involve intentional
misconduct, fraud, or a knowing violation of law, or (2) for the payment of
dividends in violation of restrictions imposed by Section 78.300 of the Nevada
GCL. The effect of these provisions is to eliminate the rights of our
stockholders, either directly or through stockholders' derivative suits brought
on behalf of our company, to recover monetary damages from a director or officer
for breach of the fiduciary duty of care as a director or officer except in
those instances provided under the Nevada GCL.
In addition, we have adopted provisions in our bylaws that require us to
indemnify our directors, officers, and certain other representatives against
expenses, liabilities, and other matters arising out of their conduct on our
behalf, or otherwise referred to in or covered by applicable provisions of that
Nevada GCL, to the fullest extent permitted by the Nevada GCL.
Section 78.751 of the Nevada GCL provides that a corporation may indemnify
our directors and officers against expenses, including attorneys' fees,
judgments, fines and amounts paid in settlement actually and reasonably incurred
by the director or officer in connection with an action, suit or proceeding in
which the director or officer in connection with an action, suit or proceeding
in which the director or officer has been made or is threatened to be made a
party, if the director or officer acted in good faith and in a manner which the
director or officer reasonably believed to be in or not opposed to the best
interests of the corporation, and, with respect to any criminal proceeding, had
no reason to believe the director's or officer's conduct was unlawful. Any such
indemnification may be made by the corporation only as ordered by a court or as
authorized in a specific case upon a determination made in accordance with the
Nevada GCL that such indemnification is proper in the circumstances.
Indemnification may not be made under the Nevada GCL for any claim, issue,
or matter as to which the director or officer has been adjudged by a court of
competent jurisdiction, after exhaustion of all appeals therefrom, to be liable
to the corporation or for amounts paid in settlement to the corporation, unless
and only to the extent that the court in which the action or suit was brought or
other court of competent jurisdiction determines that in view of all the
circumstances of the case, the director or officer is fairly and reasonably
entitled to indemnify for such expenses as the court deems proper.
To the extent that a director or officer of a corporation has been
successful on the merits or otherwise in defense of any action, suit, or
proceeding or in defense of any claim, issue, or matter therein, the director or
officer must be indemnified under the Nevada GCL by the corporation against
expenses, including attorney's fees, actually and reasonably incurred by the
director or officer in connection with the defense.
Insofar as indemnification for liabilities arising under the Securities Act
of 1933 may be permitted to our directors, officers and controlling persons
pursuant to the foregoing provisions, or otherwise, we have been advised that in
the opinion of the Securities and Exchange Commission such indemnification is
against public policy as expressed in the Securities Act of 1933 and is,
therefore, unenforceable. If a claim for indemnification against such
liabilities (other than the payment by us of expenses incurred or paid by a
director, officer or controlling person of IDS 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, we will, 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 Securities
Act of 1933 and will be governed by the final adjudication of such issue.
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ITEM 21. DESCRIPTION AND INDEX OF EXHIBITS
Number Description
2. Agreement and Plan of Reorganization for the Purchase of Industrial Data
Systems, Incorporated, dated August 1, 1994 (1)
2.1 Action by Written Consent of the Board of Directors for the Purchase of
Industrial Data Systems, Incorporated, a Texas corporation, dated August
1, 1994 (1)
2.2 Action by Written Consent of the Stockholders for the Purchase of
Industrial Data Systems, Incorporated, a Texas corporation, dated August
1, 1994 (1)
2.4 Escrow Agreement for the Purchase of Thermaire Incorporated, dba Thermal
Corp., dated August 15, 1995 (1)
2.5 Earnest Money Contract for the Purchase of Thermaire Incorporated, dba
Thermal Corp.'s Manufacturing Facility, dated August 15, 1995 (1)
2.6 Offering Memorandum, 504D Offering of 500,000 Shares of Common Stock in
the State of Nevada, dated July 26, 1994 (1)
2.7 Action by the Board of Directors regarding the 504D Stock Offering of
2,499,999 Shares of Common Stock, dated July 10, 1996 (1)
2.8 Agreement for Amendment and Substitution of Subscription Agreement and
Notes, dated July 10, 1996 (1)
2.9 Stock Acquisition Agreement, dated March 25, 1998, by and among Industrial
Data Systems Corporation, John L. "Jack" Ripley and Constant Power
Manufacturing Incorporated. Previously filed as Exhibit 2.1 on (4)
2.23 Agreement and Plan of Merger by and between Industrial Data Systems
Corporation, IDS Engineering Management, LC, PEI Acquisition, Inc. and
Petrocon Engineering, Inc. (11)
2.24 First Amendment to Agreement and Plan of Merger (13)
2.25 Letter Agreement to Agreement and Plan of Merger(13)
3 Articles of Incorporation, Industrial Data Systems Corporation, dated June
20, 1994 (1)
3.1 Corporate Charter, Industrial Data Systems Corporation, dated June 22,
1994 (1)
3.2 Corporate Bylaws, Industrial Data Systems Corporation, dated October 15,
1997. Previously filed as Exhibit 3 on (3)
3.10 Articles of Incorporation of IDS Engineering Management, LC (11)
3.11 Regulations of IDS Engineering Management, LC (11)
3.12 Articles of Incorporation PEI Acquisition, Inc. (11)
3.13 Bylaws of PEI Acquisition, Inc. (11)
4.1 Form of Common Stock Certificate of Industrial Data Systems Corporation
(12)
4.2 Form of Certificate of Designation of Convertible Preferred Stock of
Industrial Data Systems Corporation, dated [_____], 2001 (12)
4.3 Form of Convertible Preferred Stock Certificate of Industrial Data Systems
Corporation (12)
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5.1 Opinion of Rooker, Gibson and Later regarding of legality of stock
issuance (12)
8.1 Opinion of Gardere Wynne Sewell LLP regarding United States Tax Matters
(13)
10.1 Adoption Agreement for Nonstandardized Code 401(k) Profit Sharing Plan,
dated January 1, 1993. Previously filed as Exhibit 10.5 on (1)
10.2 Blanket Service Contract - Exxon Pipeline Company. Previously filed as
Exhibit 10.6 on (2)
10.3 Blanket Service Contract - Marathon Oil Company. Previously filed as
Exhibit 10.7 on (2)
10.4 Lease between Industrial Data Systems, Incorporated, a Texas corporation,
and 319 Century Plaza Associates, Ltd., dated August 18, 1997. Previously
filed as Exhibit 10 on (3)
10.5 First Amendment to Lease Agreement between Industrial Data Systems,
Incorporated, a Texas corporation, and 319 Century Plaza Associates,
dated September 19, 1997. Previously filed as Exhibit 10.1 on (3)
10.6 Second Amendment to Lease Agreement between Industrial Data Systems,
Incorporated, a Texas corporation, and 319 Century Plaza Associates,
dated November 19, 1997. Previously filed as Exhibit 10.2 on (3)
10.7 Pledge Agreement, dated March 25, 1998, by and between Industrial Data
Systems Corporation, and John L. "Jack" Ripley. Previously filed as
Exhibit 10.22 on (4)
10.8 Fourth Amendment to Lease between Industrial Data Systems, Inc., a Texas
corporation, and 600 C.C. Business Park Ltd., dated September 1, 1998.
Previously filed as Exhibit 10.24 on (5)
10.31 Settlement Agreement between the Company and Michael L. Moore. Previously
filed as Exhibit 10.31 on (6)
10.32 Blanket Service Contract with Caspian Consortium-R. Previously filed as
Exhibit 10.32 on (7)
10.33 Blanket Service Contract with Caspian Consortium-K. Previously filed as
Exhibit 10.33 on (7)
10.35 Master Equipment Lease between Unicapital BSB Leasing and Thermaire, Inc.
dba Thermal Corporation. Previously filed as Exhibit 10.35 on (8)
10.36 Promissory Note payable to The Frost National Bank, dated April 14, 2000.
Previously filed as Exhibit 10.36 on (9)
10.37 Loan Agreement with The Frost National Bank, dated April 24, 2000.
Previously filed as Exhibit 10.37 on (9)
10.38 Commercial Security Agreement with The Frost National Bank, dated April
24, 2000. Previously filed as Exhibit 10.38 on (9)
10.39 Commercial Guaranty for the benefit of The Frost National Bank, dated
April 24, 2000. Previously filed as Exhibit 10.39 on (9)
10.40 Business Park Lease for Tulsa Office Space. Previously filed as Exhibit
10.40 on (10)
10.41 Business Park Lease for Tulsa Office Space. Previously filed as Exhibit
10.41 on (10)
10.42 Standard Industrial Lease Agreement between Houston Industrial Assets,
L.P. and Constant Power Manufacturing, Inc. dated May 30, 2001 (11)
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