UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB/A
Amendment No. 1
(Mark One)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended January 31, 2004
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Transition Period from _________ to _________
Commission file number: 0-26277
WPCS INTERNATIONAL INCORPORATED
(Exact name of registrant as specified on its charter)
Delaware 98-0204758
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
140 South Village Avenue
Suite 20
Exton, PA 19341
(Address of principle executive offices)
(610)903-0400
(Registrant's telephone number, including area code)
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the past 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS
DURING THE PRECEDING FIVE YEARS:
Indicate by check mark whether the registrant filed all documents and reports
required to be filed by Section 12, 13 or 15(d) of the Securities Exchange Act
of 1934 after the distribution of securities under a plan confirmed by a court.
Yes [ ] No [ ]
APPLICABLE ONLY TO CORPORATE ISSUERS:
State the number of shares outstanding of each of the registrant's classes of
common equity, as of the latest practicable date: 20,135,690 shares issued and
outstanding as of March 8, 2004
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
INDEX
PART I FINANCIAL INFORMATION
ITEM 1 Condensed consolidated balance sheets at January 31, 2004 (unaudited) and
April 30, 2003 3 - 4
Condensed consolidated statements of operations for the three and nine
months ended January 31, 2004 and 2003 (unaudited) 5
Condensed consolidated statement of shareholders' equity for the nine
months ended January 31, 2004 (unaudited) 6
Condensed consolidated statements of cash flows for the nine months ended
January 31, 2004 and 2003 (unaudited) 7 - 8
Notes to condensed consolidated financial statements 9 - 17
ITEM 2 Management's Discussion and Analysis 18 - 28
ITEM 3 Controls and Procedures 29
PART II OTHER INFORMATION
ITEM 1 Legal proceedings 30
ITEM 2 Changes in securities and use of proceeds 30
ITEM 3 Defaults upon senior securities 30
ITEM 4 Submission of matters to a vote of security holders 30
ITEM 5 Other information 30
ITEM 6 Exhibits and Reports on 8-K 30
SIGNATURES 31
CERTIFICATIONS 32 - 35
2
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
JANUARY 31, APRIL 30,
ASSETS 2004 2003
------------- -------------
(Unaudited)
CURRENT ASSETS:
Cash and cash equivalents .............................................. $ 1,094,422 $ 167,547
Accounts receivable, net of allowance of $16,696 and $11,779 at
January 31, 2004 and April 30, 2003, respectively ...................... 3,286,681 2,397,236
Costs and estimated earnings in excess of billings on uncompleted
contracts .............................................................. 972,564 408,194
Inventory .............................................................. 72,324 77,775
Prepaid expenses ....................................................... 219,818 143,113
Income tax refund receivable ........................................... 104,765 --
Deferred income taxes .................................................. -- 70,000
------------- -------------
Total current assets ................................................ 5,750,574 3,263,865
PROPERTY AND EQUIPMENT, net ............................................ 902,059 647,951
CUSTOMER LISTS, net .................................................... 418,000 499,000
GOODWILL ............................................................... 7,967,593 5,388,882
OTHER ASSETS ........................................................... 84,162 21,528
------------- -------------
Total assets.................................................. $15,122,388 $9,821,226
============= =============
The accompanying notes are an integral part of these condensed
consolidated financial statements.
3
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS (continued) JANUARY 31, APRIL 30,
2004 2003
CURRENT LIABILITIES: ------------- -------------
(Unaudited)
Accounts payable and accrued expenses ........................... $ 1,956,486 $1,278,443
Billing in excess of costs and estimated earnings on
uncompleted contracts ........................................... 883,065 215,819
Borrowings under line of credit ................................. 100,000 --
Current maturities of capital lease obligation .................. 2,472 2,294
Current maturities of equipment loans payable ................... 19,623 21,268
Due to officer .................................................. -- 100,000
Due to shareholders ............................................. 1,203,016 58,207
Income taxes payable ............................................ 19,517 23,700
Deferred income taxes ........................................... 196,100 129,000
------------ -----------
Total current liabilities .................................... 4,380,279 1,828,731
Capital lease obligation, net of current portion ....................... 2,731 4,608
Equipment loans payable, net of current portion ........................ 35,839 --
Deferred income taxes, net of current portion .......................... 416,900 527,000
------------ ------------
Total liabilities ............................................ 4,835,749 2,360,339
------------ ------------
COMMITMENTS
SHAREHOLDERS' EQUITY:
Preferred Stock - $0.0001 par value, 5,000,000
shares authorized, none issued
Common Stock - $0.0001 par value, 30,000,000 shares authorized,
20,135,690 shares and 13,078,844 shares issued and outstanding,
respectively ................................................. 2,014 1,308
Additional paid-in capital ...................................... 11,262,012 8,002,639
Accumulated deficit ............................................. (977,387) (543,060)
------------ ------------
Total shareholders' equity ................................... 10,286,639 7,460,887
------------ ------------
Total liabilities and shareholders' equity ................... $15,122,388 $9,821,226
============ ============
The accompanying notes are an integral part of these condensed
consolidated financial statements.
4
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Three Months Ended Nine Months Ended
January 31, January 31,
2004 2003 2004 2003
------------- ------------- ------------- -------------
REVENUE ........................................... $ 4,552,300 $ 1,579,256 $ 13,874,616 $ 2,185,739
------------- ------------- ------------- -------------
COSTS AND EXPENSES:
Cost of revenue................................... 3,444,374 1,338,419 10,084,508 1,812,515
Selling, general and administrative expenses 1,405,307 493,236 3,930,352 889,982
Provision for doubtful accounts ............ 12,011 -- 35,669 26,285
Depreciation and amortization .............. 99,999 15,595 254,214 18,680
------------- ------------- ------------- -------------
Total costs and expenses............................ 4,961,691 1,847,250 14,304,743 2,747,462
------------- ------------- ------------- -------------
LOSS BEFORE BENEFIT (PROVISION) FOR INCOME TAXES .. (409,391) (267,994) (430,127) (561,723)
Income tax benefit (provision) .................... 86,800 -- (4,200) --
------------- ------------- ------------- -------------
NET LOSS .......................................... (322,591) (267,994) (434,327) (561,723)
Imputed dividends accreted on Convertible Series B
Preferred stock.................................... -- -- -- (173,000)
------------- ------------- ------------- -------------
NET LOSS ATTRIBUTABLE TO COMMON SHAREHOLDERS....... ($ 322,591) ($ 267,994) ($ 434,327) ($ 734,723)
============= ============= ============= =============
Basic net loss per common share ................... ($ 0.02) ($ 0.02) ($ 0.02) ($ 0.08)
============= ============= ============= =============
Basic weighted average number of common shares
outstanding........................................ 20,135,690 11,084,312 17,573,786 9,505,337
============= ============= ============= =============
The accompanying notes are an integral part of these condensed
consolidated financial statements.
5
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
FOR THE NINE MONTHS ENDED JANUARY 31, 2004
(UNAUDITED)
Additional Total
Preferred Stock Common Stock Paid-In Accumulated Shareholders'
Shares Amount Shares Amount Capital Deficit Equity
---------- --------- ------------ ------------ ------------- -------------- --------------
BALANCE, MAY 1, 2003 1,000 $0 13,078,844 $1,308 $8,002,639 ($543,060) $7,460,887
Conversion of Series C
Preferred Stock to common stock (1,000) - 1,786,000 179 (179) - -
Issuance of common stock through
private placement - - 4,444,400 444 2,204,247 - 2,204,691
Issuance of common stock, acquisition
of Clayborn Contracting Group, Inc. - - 826,446 83 867,685 - 867,768
Fair value of stock options granted
to nonemployees - - - - 187,620 - 187,620
Net loss - - - - - (434,327) (434,327)
---------- --------- ------------ ------------ ------------- -------------- --------------
BALANCE, JANUARY 31, 2004 0 $0 20,135,690 $2,014 $11,262,012 ($977,387) $10,286,639
========== ========= ============ ============ ============= ============== ==============
The accompanying notes are an integral part of these condensed
consolidated financial statements.
6
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Nine Months Ended
January 31,
2004 2003
------------ ------------
OPERATING ACTIVITIES :
Net loss ................................................................................ $ (434,327) $ (561,723)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
Depreciation and amortization ......................................................... 254,214 18,680
Provision for doubtful accounts ....................................................... 35,669 26,285
Fair value of stock options granted ................................................... 187,620 --
Deferred income taxes ................................................................. (156,800) --
Deferred tax asset .................................................................... 70,000 --
Changes in operating assets and liabilities, net of acquisitions:
Accounts receivable ................................................................... (349,310) 108,236
Costs and estimated earnings in excess of billings on uncompleted contracts ........... (332,808) (695,838)
Inventory ............................................................................. 5,451 (112,355)
Prepaid expenses ...................................................................... (30,134) (161,023)
Other assets .......................................................................... (11,536) --
Accounts payable and accrued expenses ................................................. 255,801 658,474
Billings in excess of costs and estimated earnings on uncompleted contracts ........... 658,377 (48,662)
Income taxes payable .................................................................. (4,183) 6,500
------------ ------------
NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES ........................................... 148,034 (761,426)
------------ ------------
INVESTING ACTIVITIES:
Acquisition of property & equipment ..................................................... (57,142) (787)
Acquisition of Clayborn, net of cash received ........................................... (822,381) --
Acquisition earn-out and other transaction costs ........................................ (394,211) (374,709)
------------ ------------
NET CASH USED IN INVESTING ACTIVITIES ......................................................... (1,273,734) (375,496)
------------ ------------
FINANCING ACTIVITIES:
Cash received in reverse acquisition .................................................... -- 3,257
Restricted cash ......................................................................... -- (200,000)
Repayment of advances from officers ..................................................... (100,000) (20,743)
Proceeds from sale of preferred stock ................................................... -- 1,455,000
Proceeds from issue of common stock ..................................................... 2,204,691 --
Borrowings on line of credit ............................................................ 100,000 --
Repayment of equipment loans payable .................................................... (150,417) (7,029)
Payments of capital lease obligations ................................................... (1,699) (1,717)
------------ ------------
NET CASH PROVIDED BY FINANCING ACTIVITIES ..................................................... 2,052,575 1,228,768
------------ ------------
NET INCREASE IN CASH AND CASH EQUIVALENTS ..................................................... 926,875 91,846
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD ................................................ 167,547 15,554
------------ ------------
CASH AND CASH EQUIVALENTS, END OF PERIOD ...................................................... $ 1,094,422 $ 107,400
============ ============
The accompanying notes are an integral part of these condensed
consolidated financial statements.
7
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOW (continued)
(Unaudited)
Nine Months Ended
January 31,
2004 2003
-------------- -----------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the period for:
Interest ................................................ $ 11,134 $ 2,875
============== ==============
Income taxes............................................. $ 105,456 $ 353
============== ==============
SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
Issuance of common stock for net
noncash assets received in acquisitions .................... $ 867,768 $ 6,324,249
============== ==============
Earn-out consideration unpaid relating to acquisitions ..... $ 1,203,016 $ -
============== ==============
Equipment acquired under capital lease ..................... $ - $ 9,468
============== ==============
Issuance of 64 shares of Series B preferred stock
as payment of advances from shareholder and accounts payable $ - $ 64,000
============== ==============
Imputed Series B preferred stock dividend attributable
to a beneficial conversion feature ......................... $ - $ (173,000)
============== ==============
Conversion of Series A preferred stock to common stock ..... $ - $ 300
============== ==============
Conversion of Series B preferred stock to common stock ..... $ - $ 56
============== ==============
The accompanying notes are an integral part of these condensed
consolidated financial statements.
8
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1 - BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have been
prepared pursuant to the rules and regulations of the Securities and Exchange
Commission ("SEC") for quarterly reports on Form 10-QSB and do not include all
of the information and footnote disclosures required by accounting principles
generally accepted in the United States of America. Accordingly, the unaudited
condensed consolidated financial statements should be read in conjunction with
our audited consolidated financial statements and notes thereto for the fiscal
year ended April 30, 2003. The accompanying unaudited condensed consolidated
financial statements reflect all adjustments (consisting of normal recurring
accruals) which are, in the opinion of the management, considered necessary for
a fair presentation of financial position, results of operations and cash flows
for the interim periods. Operating results for the three and nine month periods
ended January 31, 2004 are not necessarily indicative of the results that may be
expected for the fiscal year ending April 30, 2004. Certain reclassifications
have been made to prior period financial statements to conform to the current
presentation.
The accompanying unaudited condensed consolidated financial statements include
the accounts of WPCS International Incorporated ("WPCS") and its wholly-owned
subsidiaries, WPCS Incorporated , Invisinet Inc. ("Invisinet") from November 13,
2002 (date of acquisition), Walker Comm Inc. ("Walker") from December 30, 2002
(date of acquisition), and Clayborn Contracting Group, Inc. from August 22, 2003
(date of acquisition) collectively the "Company".
The Company is a project engineering company that focuses on the implementation
requirements of specialty communication systems, wireless fidelity (WiFi)
deployment and fixed wireless deployment. The Company provides a range of
specialty communication services including project management, site design,
structured cabling, product integration, network security and technical support.
On May 17, 2002, Phoenix Star Ventures, Inc.("PSVI") a publicly held "shell
company", became the legal acquirer of WPCS Holdings, Inc. ("Holdings") by
issuing 5,500,000 shares of its common stock to the shareholders of Holdings in
exchange for all of the outstanding common shares of Holdings. The former
shareholders of Holdings, immediately after the business combination, owned the
majority of the combined companies. Accordingly, the business combination has
been accounted for as a reverse acquisition whereby, for accounting purposes,
Holdings is the accounting acquirer and PSVI is the accounting acquiree. The
consolidated financial statements of the Company include the accounts of PSVI
since its acquisition. The cost of the acquisition approximated the fair value
of the net assets of PSVI that were acquired and, accordingly, assets,
liabilities and the outstanding preferred stocks of PSVI were initially recorded
at historical carrying values.
On May 24, 2002, PSVI's principal shareholder returned 500,000 shares of its
common stock to the Company, without compensation. Subsequently, these common
shares were retired and cancelled.
On November 13, 2002, the Company acquired all of the outstanding shares of
Invisinet from its shareholders in exchange for an aggregate of 1,000,000 newly
issued shares of the Company's common stock. An additional 150,000 shares of the
Company's common stock were to be issued to a shareholder, provided Invisinet
achieved certain financial targets over a two year period beginning on the first
anniversary date of the merger. On May 27, 2003, the Company and the shareholder
9
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
mutually agreed to cancel the issuance of bonus shares and, in exchange, issued
options to purchase 300,000 shares of the Company's common stock.
On December 30, 2002, the Company acquired all of the outstanding shares of
Walker in exchange for an aggregate of 2,486,000 newly issued shares of the
Company's common stock and $500,000 cash consideration. An additional $500,000
is payable contingent upon Walker achieving certain net profits, to be paid in
quarterly distributions equal to 75% of net income, which would increase the
purchase price. Through January 31, 2004, $484,638 has been charged to goodwill
relating to this earn-out provision.
On August 22, 2003, the Company acquired all of the outstanding shares of
Clayborn in exchange for an aggregate of 826,446 newly issued shares of the
Company's common stock and $900,000 cash consideration. An additional $1,100,000
is due by September 30, 2007, payable in quarterly distributions, by payment to
the Clayborn shareholders of 50% of the quarterly post-tax profits of Clayborn.
NOTE 2 - SUMMARY OF SELECTED SIGNIFICANT ACCOUNTING POLICIES
A summary of selected accounting policies consistently applied in the
preparation of the accompanying consolidated financial statements follows:
Goodwill
Effective May 1, 2002, the Company adopted Statement of Financial Standards
("SFAS") No. 142, "Goodwill and Other Intangible Assets." In accordance with the
guidelines of this accounting standard, goodwill and indefinite-lived intangible
assets are no longer amortized but are assessed for impairment on at least an
annual basis. SFAS No. 142 also requires that intangible assets with estimable
useful lives be amortized over their respective estimated useful lives to their
estimated residual values, and reviewed for impairment.
SFAS No. 142 requires that goodwill be tested for impairment upon adoption and
at least annually thereafter, utilizing a two-step methodology. The initial step
requires the Company to determine the fair value of the business acquired
(reporting unit) and compare it to the carrying value, including goodwill, of
such business (reporting unit). If the fair value exceeds the carrying value, no
impairment loss would be recognized. However, if the carrying value of the
reporting unit exceeds its fair value, the goodwill of the unit may be impaired.
The amount, if any, of the impairment is then measured in the second step.
The Company determined the fair value of the businesses acquired for purposes of
this test primarily by using a discounted cash flow valuation technique.
Significant estimates used in the valuation include estimates of future cash
flows, both future short-term and long- term growth rates, and estimated cost of
capital for purposes of arriving at a discount factor. On an ongoing basis, the
Company expects to perform its annual impairment test during the fourth quarter
absent any interim impairment indicators.
10
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Goodwill through the nine months ended January 31, 2004, consisted of the
following:
Beginning balance, May 1, 2003 $5,388,882
Clayborn acquisition 2,139,690
Walker earn out provision 426,431
Transaction costs 12,590
-----------------
Ending balance, January 31, 2004 $7,967,593
=================
Revenue recognition
The Company generates its revenue by providing project engineering and
deployment services for specialty communication systems, including wireless
fidelity (WiFi) and fixed wireless systems. These projects may require the
integration of multiple communication components and engineering services in
order to complete the customer's requirements.
The Company records profits on these projects on a percentage-of-completion
basis on the cost-to-cost method. Contracts in process are valued at cost plus
accrued profits less earned revenues and progress payments on uncompleted
contracts. Contracts are generally considered substantially complete when
engineering is completed and/or site construction is completed. The Company
includes in operations pass-through revenue and costs on cost-plus contracts,
which are customer-reimbursable materials, equipment and subcontractor costs,
when the Company determines that it is responsible for the engineering
specification, procurement and management of such cost components on behalf of
the customer.
The Company has numerous contracts that are in various stages of completion.
Such contracts require estimates to determine the appropriate cost and revenue
recognition. The Company has a history of making reasonably dependable estimates
of the extent of progress towards completion, contract revenues and contract
costs. However, current estimates may be revised as additional information
becomes available. If estimates of costs to complete long-term contracts
indicate a loss, provision is made currently for the total loss anticipated.
Earnings (Loss) Per Share
Earnings (Loss) per common share is computed pursuant to SFAS No. 128, "Earnings
Per Share" ("EPS"). Basic income (loss) per share is computed as net income
(loss) available to common shareholders divided by the weighted average number
of common shares outstanding for the period. Diluted EPS reflects the potential
dilution that could occur from common stock issuable through stock options and
warrants. At January 31, 2004, the Company had 8,271,875 stock options and
warrants outstanding. At January 31, 2003, 27,000 stock options were
outstanding. Diluted EPS is not presented since the assumed exercise of stock
options and warrants would be anti dilutive.
11
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Use of Estimates
In preparing financial statements in conformity with accounting principles
generally accepted in the United States of America, management is required to
make estimates and assumptions that affect the reported amounts of assets and
liabilities and the disclosure of contingent assets and liabilities at the date
of the financial statements and revenues and expenses during the reporting
period. The most significant estimates relate to the calculation of percentage
of completion on uncompleted contracts, allowance for doubtful accounts,
valuation of inventory and life of customer lists. Actual results could differ
from those estimates.
NOTE 3- ACQUISITION
On August 22, 2003, the Company completed a merger with Clayborn Contracting
Group, Inc, a California corporation ("Clayborn"). The acquisition of Clayborn
gives the Company expertise in engineering and deployment services for specialty
communication systems and additional wireless opportunities to pursue.
The aggregate consideration paid by the Company for Clayborn was approximately
$2,925,000. The Company acquired all of the issued and outstanding shares of
Clayborn in exchange for $900,000 cash consideration and $57,000 of transaction
costs, and 826,446 newly issued shares of the Company's common stock with a fair
value of approximately $868,000 based on the average value of the Company's
common stock as of a few days before and after the merger terms were agreed to
and announced. An additional $1,100,000 is due by September 30, 2007, payable in
quarterly distributions, by payment to the Clayborn shareholders of 50% of the
quarterly post tax profits of Clayborn. Based on the preliminary information
currently available, the acquisition resulted in goodwill of approximately
$2,140,000. Upon completion of a formal purchase price allocation there may be a
decrease in the amount assigned to goodwill and a corresponding increase in
tangible or other intangible assets.
The acquisition of Clayborn was accounted for under the purchase accounting
method of accounting in accordance with SFAS No. 141, "Business Combinations."
Under the purchase method of accounting, assets acquired and liabilities assumed
are recorded at their estimated fair values. Goodwill and (or) other intangible
assets are recorded to the extent the merger consideration, including certain
acquisition and closing costs, exceeds the fair value of the net identifiable
assets acquired at the date of the merger.
12
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
The preliminary purchase price allocation has been calculated as follows:
Assets purchased:
Cash $ 134,218
Accounts receivable 575,804
Costs in excess of billings 231,562
Income tax refunds receivable 104,765
Fixed assets 370,180
Other assets 97,669
Goodwill 2,139,690
------------------
3,653,888
------------------
Liabilities assumed:
Accounts payable (294,992)
Accrued expenses (136,119)
Notes payable (184,611)
Deferred tax liability (113,800)
------------------
(729,522)
------------------
Purchase price $ 2,924,366
==================
The following unaudited pro forma financial information presents the combined
results of operations of the Company and Clayborn, as if the acquisition had
occurred on May 1, 2003 and 2002, after giving effect to certain adjustments,
including the issuance of the Company's common stock to Clayborn as part of the
purchase price. The pro forma financial information does not necessary reflect
the results of operations that would have occurred had the Company and Clayborn
been a single entity during this period.
Three months ended Nine months ended
January 31, January 31,
2004 2003 2004 2003
-------------- -------------- --------------- ----------------
Revenue $4,552,300 $2,372,643 $15,407,595 $6,921,494
Net loss attributable to common shareholders ($322,591) ($389,865) ($562,635) ($609,264)
Weighted average number of shares used in
calculations of basic loss per share 20,135,690 11,910,758 17,912,149 10,331,783
Basic net loss per share ($0.02) ($0.03) ($0.03) ($0.06)
13
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 4 - COSTS AND ESTIMATED EARNINGS ON UNCOMPLETED CONTRACTS
Costs and estimated earnings on uncompleted contracts consist of the following
at January 31, 2004:
Costs incurred on uncompleted contracts $12,373,509
Estimated contract profit 3,267,965
---------------
15,641,474
Less: billings to date 15,551,975
---------------
Net costs in excess $89,499
===============
Costs and estimated earnings in excess of billings $972,564
Billings in excess of costs and estimated earnings
on uncompleted contracts (883,065)
---------------
Net costs in excess $89,499
===============
NOTE 5 - RELATED PARTY TRANSACTIONS
In connection with the acquisition of Walker, an additional $500,000 is payable
to the Walker shareholders, provided Walker achieves certain net profits, to be
paid in quarterly distributions equal to 75% of net income. For the three months
ended January 31, 2004, an additional $103,016 was payable to the Walker
shareholders against this earn-out provision and, accordingly, goodwill was
increased by $103,016. At January 31, 2004, the total payable to the Walker
shareholders under this earn-out provision was $103,016.
In connection with the acquisition of Walker, certain officers of the Company
are the trustees for a building and land located in Fairfield, California, which
is occupied by its Walker subsidiary. For the nine months ended January 31,
2004, $42,000 was paid as rent for this lease.
In connection with the acquisition of Clayborn, an additional $1,100,000 is due
by September 30, 2007, payable in quarterly distributions to the Clayborn
shareholders, by payment of 50% of the quarterly post tax profits of Clayborn.
NOTE 6- LINE OF CREDIT
On October 29, 2003, Walker obtained a revolving line of credit facility with a
commercial bank in the amount of $750,000. The borrowing limit is up to 70% of
eligible Walker accounts receivable. As of January 31, 2004, the borrowing base
was $750,000 and the outstanding balance was $100,000. The line of credit is
collateralized by all of Walker's accounts receivable, inventory and equipment
and bears interest at the Wall Street Journal Prime Index Rate plus 1.5% (5.50%
as of January 31, 2004). In addition, the Company and certain executive officers
of the Company have personally guaranteed this line of credit facility. This
line is subject to annual renewal and matures on November 5, 2004. Accrued
interest is payable monthly.
14
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 7 - STOCK OPTION PLAN
The Company established a nonqualified stock option plan pursuant to which
options to acquire a maximum of 5,000,000 shares of the Company's common stock
were reserved for grant (the "2002 Plan"). Under the terms of the 2002 Plan, the
options, which expire one to five years after grant, are exercisable at prices
equal to the fair market value of the stock at the date of the grant and become
exercisable in accordance with terms established at the time of the grant. At
January 31, 2004, there were 1,837,525 shares available for grant under the 2002
Plan.
The Company applies the intrinsic value method in accounting for its stock-based
compensation plan pursuant to the provisions of Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees," and related
interpretations and, accordingly, when the exercise price of an employee stock
option granted by the Company is equal to or greater than the market price of
the underlying stock on the date of grant, no compensation expense is
recognized.
The Company has elected the disclosure only provisions of Statement of Financial
Accounting Standards ("SFAS") No. 123, "Accounting for Stock-Based
Compensation," as amended by SFAS No. 148, "Accounting for Stock-Based
Compensation- Transition and Disclosure, an Amendment to of FASB Statement No.
123". Had the Company measured compensation under the fair value based method
for stock options granted, the Company's net loss attributable to common
shareholders and net loss per share attributable to common shareholders would
have been as follows:
Three months ended Nine months ended
January 31, 2004 January 31, 2004
Net loss attributable to common shareholders,
as reported ($322,591) ($434,327)
Deduct: total stock-based employee compensation expenses
determined under fair value based method for all awards, net
of tax (1,593) (110,075)
----------------------------- --------------------------
Net loss per share attributable to common shareholders, pro
forma ($324,184) ($544,402)
============================= ==========================
Net loss per share: basic
As reported ($0.02) ($0.02)
Basic- pro forma ($0.02) ($0.03)
The fair value of each option grant was estimated on the date of grant using the
Black-Scholes Option pricing model with the following assumptions: Risk-free
interest rate range of 2.1% to 3.6%, dividend yield of 0%, term of five years
and volatility of 71.0%.
15
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 8- SHAREHOLDERS' EQUITY
On June 25, 2003, (and amended July 24, 2003), the Company offered in a private
placement, up to 100 units (the "Units") for sale to accredited investors at a
price of $25,000 per Unit (the "Offering"). Each Unit consists of (i) 44,444
shares of the Company's common stock and (ii) warrants to purchase 44,444 shares
of common stock, exercisable for a period of three years at an exercise price of
$0.90 per share (the "Warrants"). The Warrants may be redeemed in whole or in
part at the option of the Company, if the closing price of the Company's common
stock is at least $1.25 per share on average for 10 consecutive trading days,
ending not earlier than 30 days before the Warrants are called for redemption.
The Company sold all 100 Units from the Offering and received proceeds of
$2,204,691, net of the placement agent commissions and other issuance costs. In
connection with the Offering, the placement agent was issued Warrants to
purchase 665,000 shares of the Company's common stock, exercisable for a period
of three years, at an exercise price of $0.75 per share.
For the nine months ended January 31, 2004, the Company granted options to
purchase 1,230,000 shares of its common stock to certain consultants. The
options have exercise prices ranging from $0.45 to $2.33, and vesting periods of
one to five years. The Company has valued these options using the Black-Scholes
Option pricing model and recorded $187,620 of expense for the nine months ended
January 31, 2004.
On August 13, 2003, all 1,000 Series C Preferred shares were converted into
1,786,000 shares of the Company's common stock.
NOTE 9 - SEGMENT REPORTING
The Company's reportable segments are determined based upon the nature of the
services, the external customers and customer industries and the sales and
distribution methods used to market the products. The Company has two reportable
segments: wireless infrastructure services and specialty communication systems.
The Company evaluates performance based upon income (loss) before income taxes.
Corporate includes corporate salaries and external professional fees, such as
accounting, legal and investor relations costs which are not allocated to the
other subsidiaries. Corporate assets include cash, prepaid expenses and deferred
tax assets. Segment reporting commenced after the Company acquired Walker in
December 2002. Prior to that date, the Company operated as only one segment.
16
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Segment results for the three and nine months ended January 31, 2004 and 2003
are as follows:
Three Months Ended January 31, 2004 Three Months Ended January 31, 2003
Wireless Specialty Wireless Specialty
Corporate Infrastructure Communication Total Corporate Infrastructure Communication Total
--------- -------------- ------------- ----------- --------- -------------- ------------- -----------
Revenue - $754,477 $ 3,797,823 $ 4,552,300 - $559,803 $1,019,453 $1,579,256
Loss before
income taxes ($201,467) ($68,318) ($139,606) ($409,391) ($51,856) ($123,861) ($92,277) ($267,994)
Nine Months Ended January 31, 2004 Nine Months Ended January 31, 2003
Wireless Specialty Wireless Specialty
Corporate Infrastructure Communication Total Corporate Infrastructure Communication Total
--------- -------------- ------------- ----------- --------- -------------- ------------- ----------
Revenue - $2,477,117 $11,397,499 $13,874,616 - $1,166,286 $1,019,453 $2,185,739
(Loss) income
before income
taxes ($777,028) $11,442 $335,459 ($430,127) ($289,423) ($180,023) ($92,277) ($561,723)
Goodwill - $1,632,544 $6,335,049 $7,967,593 - $1,658,967 $3,921,366 $5,580,333
Total assets $348,873 $2,781,569 $11,991,946 $15,122,388 $186,669 $2,595,905 $6,797,974 $9,580,548
17
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
The following discussion should be read in conjunction with the unaudited
condensed consolidated financial statements and notes thereto set forth in Item
1of this Quarterly Report. In addition to historical information, this
discussion and analysis contains forward-looking statements that involve risks,
uncertainties and assumptions, which could cause actual results to differ
materially from Management's expectations. Factors that could cause differences
include, but are not limited to, expected market demand for the Company's
services, fluctuations in pricing for products distributed by the Company and
services offered by competitors, as well as general conditions of the
telecommunications marketplace.
Overview
WPCS International Incorporated is a project engineering company that focuses on
the implementation requirements of specialty communication systems, wireless
fidelity (WiFi) deployment and fixed wireless deployment. We provide a range of
specialty communication services including project management, site design,
structured cabling, product integration, network security, and technical
support. These projects may require the integration of multiple communication
components and engineering services in order to complete the customer's
requirements.
Significant Transactions and Events
On May 17, 2002, pursuant to the agreement and plan of merger, Phoenix Star
Ventures Inc., a publicly held corporation, acquired WPCS Holdings Inc., a
Delaware corporation by issuing 5,500,000 shares of its common stock to
shareholders of WPCS Holdings in exchange of all the outstanding shares of WPCS
Holdings. The shareholders of WPCS Holdings, after the acquisition, owned the
majority of the combined company. Accordingly, the combination has been
accounted for as a reverse acquisition, whereby, for accounting purposes, WPCS
Holdings is the accounting acquirer and Phoenix Star Ventures is the accounting
acquiree. Concurrently with the acquisition, Phoenix Star Ventures, the parent
company, changed its name to WPCS International Incorporated.
On November 13, 2002, we entered into an agreement and completed a merger with
Invisinet, Inc. Invisinet is in a similar business as us, providing fixed
wireless technology services to its customers. The acquisition of Invisinet
broadens our customer base and expands our technical resources capable of
deploying wireless systems. For the nine months ended January 31, 2004, the
acquisition of Invisinet increased our revenue by approximately $1.8 million as
compared to the same period in the prior year. To complete the merger, we
acquired 100% of the common stock of Invisinet by issuing 1,000,000 shares of
our common stock with a fair value of $1,750,000, based on the average value of
our common stock as of a few days before and after the merger was announced.
Based on the net assets acquired of Invisinet, we have recognized goodwill of
approximately $1.6 million.
On December 30, 2002, we acquired all of the outstanding common stock of Walker
Comm, Inc. The acquisition of Walker gives us the ability to provide specialty
communication systems to our customers along with strengthening our project
management capabilities. For the nine months ended January 31, 2004, the
acquisition of Walker increased our revenue approximately $7.6 million as
compared to the same period in the prior year. The aggregate consideration we
paid for Walker was approximately $5,113,000. To complete the merger, all of the
issued and outstanding shares of common stock of Walker were exchanged for
18
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
aggregate merger consideration consisting of $500,000 in cash and our common
stock with a value of approximately $4,574,000, or 2,486,000 shares valued at
$1.84 per share based on the average value of our common stock as of a few days
before and after the merger was announced. Based on the net assets acquired of
Walker, we recognized goodwill of approximately $4.2 million.
On August 22, 2003, we acquired all of the outstanding common stock of Clayborn
Contracting Group, Inc. The acquisition of Clayborn gives us additional
expertise in engineering and deployment services for specialty communication
systems and additional wireless opportunities to pursue. For the nine months
ended January 31, 2004, the acquisition of Clayborn increased our revenues
approximately $2.8 million as compared to the same period in the prior year. The
aggregate consideration we paid for Clayborn was approximately $2,925,000. We
acquired all of the issued and outstanding shares of Clayborn in exchange for
$900,000 cash consideration and $57,000 in transaction costs, and 826,446 newly
issued shares of our common stock with a fair value of approximately $868,000
based on the average value of our common stock as of a few days before and after
the merger terms were agreed to and announced. An additional $1,100,000 is due
by September 30, 2007, payable in quarterly distributions, by payment to the
Clayborn shareholders of 50% of the quarterly post tax profits of Clayborn.
Based on the preliminary information currently available, we preliminarily
expect to recognize goodwill of approximately $2,140,000. Upon completion of a
formal purchase price allocation there may be a decrease in the amount assigned
to goodwill and a corresponding increase in tangible or other intangible assets.
Results of Operations
Management currently considers the following events, trends and
uncertainties to be important to understand its results of operations and
financial condition:
o We started our operations in December 2001. We did not record significant
revenue for the period from November 15, 2001 (date of inception) to April
30, 2002. The operations for this period were conducted prior to the
acquisitions of three privately-held companies, Invisinet, Walker and
Clayborn.
o As a result of the acquisitions of Invisinet on November 13, 2002 and
Walker on December 30, 2002, we experienced significant growth in our
overall business and commenced operations in two segments, wireless
infrastructure services and specialty communication systems.
o With the acquisition of Clayborn in the second quarter of fiscal 2004, we
experienced additional expansion of the specialty communication segment. As
of January 31, 2004, the specialty communications segment represents
approximately 80% of total revenue, and wireless infrastructure services
represent approximately 20% of total revenue.
o Furthermore, we plan to evaluate additional acquisition opportunities in
2004 in an attempt to build out a national, strategically located workforce
that will allow our segments to leverage, to the extent feasible, related
internal synergies, and to take advantage of expected growth in the
wireless infrastructure and specialty communications markets.
o Our backlog has increased to approximately $14 million as of January 31,
2004. Our backlog is comprised of the uncompleted portion of services to be
performed under job-specific contracts or purchase orders. The increase in
backlog is the result of new contracts awarded to us by our customers. We
expect this backlog to be fully recognized as revenue within the next
twelve months.
o Our selling, general and administrative expenses decreased as a percentage
of revenue for the three and nine months ended January 31, 2004, as
compared to the same period in the prior year.
19
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
Three Months Ended January 31, 2004 Compared to Three Months Ended January 31,
2003
Three months ended January 31,
2004 2003
----------------------------- -----------------------------
Revenue $4,552,300 100.0% $1,579,256 100.0%
------------------ ------ ------------------ ------
Costs and expenses:
Cost of Revenue 3,444,374 75.7% 1,338,419 84.8%
Selling, general and administrative expenses 1,405,307 30.9% 493,236 31.2%
Provision for doubtful accounts 12,011 0.2% - 0.0%
Depreciation and amortization 99,999 2.2% 15,595 1.0%
-------------------- -------- -------------------- --------
Total costs and expenses 4,961,691 109.0% 1,847,250 117.0%
-------------------- -------- -------------------- --------
Loss before income tax benefit (409,391) -9.0% (267,994) -17.0%
Income tax benefit 86,800 1.9% - 0.0%
-------------------- -------- -------------------- --------
Net loss $(322,591) -7.1% $(267,994) -17.0%
==================== ======== ==================== ========
Revenue
We generate our revenue by providing project engineering and deployment
services for specialty communication systems, wireless fidelity (WiFi) and fixed
wireless systems. These projects may require the integration of multiple
communication components and engineering services in order to complete the
customer's requirements. We record profits on these projects on a
percentage-of-completion basis on the cost-to-cost method. Contracts in process
are valued at cost plus accrued profits less earned revenues and progress
payments on uncompleted contracts.
Revenue for the three months ended January 31, 2004 was approximately
$4,552,000, as compared to $1,579,000 for the nine months ended January 31,
2003. The increase in revenue during the quarter ended January 31, 2004,
compared to the same period in the prior year, is a result of the acquisitions
of Invisinet, Walker, and Clayborn, which accounted for $4,459,000 of the total
revenue for the quarter.
Revenue from the specialty communication segment for the three months
ended January 31, 2004 and 2003 was approximately $3,798,000 or 83% and
$1,019,000 or 65% of total revenue, respectively. Wireless infrastructure
segment revenue for the three months ended January 31, 2004 and 2003 was
approximately $754,000 or 17% and $560,000 or 35% of total revenue for the
period, respectively.
20
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
Cost of Revenue
In the case of the wireless infrastructure segment, cost of revenue
consists of component material costs, direct labor costs and costs incurred for
third party sub-contractor services. For the specialty communication segment,
cost of revenue consists of direct costs on contracts, including materials,
labor, and other overhead costs. Our cost of revenue margin varies from job to
job. For the three months ended January 31, 2004, our cost of revenue was
approximately $3.4 million, or 75.7% of revenue. For the three months ended
January 31, 2003, cost of revenue was approximately $1.3 million, or 84.7% of
revenue. The dollar increase in total Company cost of revenue is due to the
corresponding increase in revenue as a result of the acquisitions of Invisinet,
Walker and Clayborn. The decrease in cost of revenue as a percentage of revenue
is due to the revenue mix of the recent acquisitions.
Selling, general and administrative expenses
For the three months ended January 31, 2004, total selling, general and
administrative expenses were $1,405,000, or 30.9% of total revenue. Included in
selling, general and administrative expenses for the three months ended January
31, 2004 are $586,000 for salaries, commissions, and payroll taxes. The increase
in salaries and payroll taxes compared to the same period in the prior year is
due the increase in headcount as a result of the acquisition of Invisinet,
Walker and Clayborn. In addition, Walker employs union employees for whom it
incurred $295,000 in union benefits during the quarter. Professional fees were
$47,000. Insurance costs were $199,000 and rent for office facilities was
$66,000. Other selling, general and administrative expenses totaled $212,000.
For the three months ended January 31, 2004, total selling, general and
administrative expenses for the wireless infrastructure segment were $130,000
and $1,075,000 for the specialty communication segment, respectively.
For the three months ended January 31, 2003, selling, general and
administrative expenses were $493,000 or 31.2% of revenue. Included in the
selling, general and administrative expenses were $228,000 for salaries,
commissions and payroll taxes and $50,000 in professional fees. Rent for our
office facilities amounted to $24,000. Other selling, general and administrative
expenses totaled $191,000. For the three months ended January 31, 2003, total
selling, general and administrative expenses for the wireless infrastructure
segment were $193,000 and $249,000 for the specialty communication segment,
respectively.
For the three months ended January 31, 2004 and 2003, the provision for
doubtful accounts was approximately $12,000 and $0, respectively. The provision
represents accounts receivable which we consider uncollectible, based on a
number of factors, including the length of time a customer account is past due,
previous loss history, and the customer's ability to pay its obligations.
For the three months ended January 31, 2004 and 2003, depreciation and
amortization was approximately $100,000 and $16,000, respectively. The increase
in depreciation and amortization is due to an increase in property and equipment
and customer lists from the acquisition of Invisinet and Walker, and an increase
in property and equipment from the acquisition of Clayborn.
Net loss
Net loss was $323,000 for the three months ending January 31, 2004. The
net loss included an income tax benefit of $87,000. The benefit resulted from
the reversals of certain temporary differences not being currently taxable as
the taxable loss for the current year was in excess of these reversals. The
resulting net operating losses have been fully reserved for as the ultimate
realization of these losses is uncertain.
We incurred a net loss of approximately $268,000 for the three months
ended January 31, 2003.
Nine Months Ended January 31, 2004 Compared to Nine Months Ended January 31,
2003
21
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
Nine months ended January 31,
2004 2003
------------------------------ -----------------------------
Revenue $13,874,616 100.0% $2,185,739 100.0%
------------------ ------ ------------------ ------
Costs and expenses:
Cost of Revenue 10,084,508 72.7% 1,812,515 82.9%
Selling, general and administrative expenses 3,930,352 28.3% 889,982 40.7%
Provision for doubtful accounts 35,669 0.3% 26,285 1.2%
Depreciation and amortization 254,214 1.8% 18,680 0.9%
-------------------- --------- -------------------- --------
Total costs and expenses 14,304,743 103.1% 2,747,462 125.7%
-------------------- --------- -------------------- --------
Loss before provision for income taxes (430,127) -3.1% (561,723) -25.7%
Provision for income taxes (4,200) 0.0% - 0.0%
-------------------- --------- -------------------- --------
Net loss (434,327) -3.1% (561,723) -25.7%
Imputed dividends accreted on Convertible Series
B Preferred Stock - 0.0% (173,000) -7.9%
-------------------- --------- -------------------- --------
Net loss attributable to common shareholders $(434,327) -3.1% $(734,723) -33.6%
==================== ========= ==================== ========
Revenue
Revenue for the nine months ended January 31, 2004 was approximately
$13,875,000, as compared to $2,186,000 for the nine months ended January 31,
2003. The increase in revenue during the nine month period ended January 31,
2004, compared to the same period in the prior year, is a result of the
acquisitions of Invisinet, Walker, and Clayborn, which accounted for $13,638,000
of the total revenue for the period.
Revenue from the specialty communication segment for the nine months
ended January 31, 2004 and 2003 was approximately $11,398,000 or 82% and
$1,020,000 or 47% of total revenue, respectively. Wireless infrastructure
segment revenue for the nine months ended January 31, 2004 and 2003 was
approximately $2,477,000 or 18% and $1,166,000 or 53% of total revenue for the
period, respectively.
Cost of Revenue
For the nine months ended January 31, 2004, our cost of revenue was
approximately $10,085,000, or 72.7% of revenue. For the nine months ended
January 31, 2003, cost of revenue was approximately $1,813,000, or 82.9% of
revenue. The dollar increase in cost of revenue is due to the corresponding
increase in revenues as a result of the acquisitions of Invisinet, Walker and
Clayborn. The decrease in cost of revenue as a percentage of revenue is due to
the revenue mix of the recent acquisitions.
22
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
Selling, general and administrative expenses
For the nine months ended January 31, 2004, total selling, general and
administrative expenses were $3,930,000 or 28.3% of total revenue. For the nine
months ended January 31, 2003, selling, general and administrative expenses were
$890,000, or 40.7%. The percentage decrease is due to the management of our cost
structure as we leverage our incremental revenue dollars in fiscal 2004. For the
nine months ended January 31, 2004, included in selling, general and
administrative expenses are $1,464,000 for salaries, commissions and payroll
taxes. The increase in salaries and payroll taxes is due the increase in
headcount as a result of the acquisition of Invisinet, Walker and Clayborn. In
addition, Walker employs union employees for whom it incurred $840,000 in union
benefits during the nine month period. Professional fees were $451,000, with the
increase due primarily to an increase in investor relations, accounting and
legal fees. Insurance costs were $487,000 and rent for office facilities was
$180,000. Other selling, general and administrative expenses totaled $508,000.
For the nine months ended January 31, 2004, total selling, general and
administrative expenses for the wireless infrastructure segment were $432,000
and $2,723,000 for the specialty communication segment.
For the nine months ended January 31, 2003, included in the selling,
general and administrative expenses are $396,000 for salaries, commissions and
payroll taxes and $247,000 in professional fees. Rent for our office facilities
amounted to $39,000. Other selling, general and administrative expenses totaled
$208,000. For the nine months ended January 31, 2003, total selling, general and
administrative expenses for the wireless infrastructure segment were $395,000
and $249,000 for the specialty communication segment.
For the nine months ended January 31, 2004 and 2003, the provision for
doubtful accounts was approximately $36,000 and $26,000, respectively.
For the nine months ended January 31, 2004 and 2003, depreciation and
amortization was approximately $254,000 and $19,000, respectively. The increase
in depreciation and amortization is due to an increase in property and equipment
and customer lists from the acquisition of Invisinet, Walker and Clayborn.
Net loss
We incurred a net loss of approximately $434,000 for the nine months
ended January 31, 2004. The net loss for the nine month period ended January 31,
2004 included a non-cash charge of approximately $188,000 for the grant of stock
options to certain consultants to purchase 1,230,000 shares of our common stock.
In accordance with SFAS No. 123, stock options granted to non-employees are
required to be expensed based on the fair value of the equity instruments or
fair value of the consideration received. The net loss also included a provision
for income taxes of $4,000, which includes income taxes expenses to provide for
state income taxes and certain book-to-tax permanent differences, offset by an
income tax benefit. The benefit resulted from the reversals of certain temporary
differences not being currently taxable as the taxable loss for the current year
was in excess of these reversals. The resulting net operating losses have been
fully reserved as the ultimate realization of these losses is uncertain.
We incurred a net loss attributable to common shareholders of approximately
$735,000 for the nine months ended January 31, 2003.
Liquidity and capital resources
At January 31, 2004, we had working capital of $1,371,000, which consisted of
current assets of approximately $5,751,000 and current liabilities of
$4,380,000. Current assets included $1,094,000 in cash, $4,260,000 in accounts
receivable and costs and estimated earnings in excess of billings on uncompleted
contracts, $72,000 in inventories, $220,000 in prepaid expenses and $105,000 in
income tax receivable. Current liabilities included $2,839,000 in accounts
payable, accrued expenses and billings in excess of costs and estimated earnings
on uncompleted contracts, $100,000 due on the line of credit, $1,203,000 payable
to shareholders of the Company, $20,000 income taxes payable, $196,000 in
current portion of deferred income taxes, and $22,000 in other current
liabilities. The increase in accounts receivable between April 30, 2003 and
January 31, 2004 is due primarily to recent acquisitions we made, and
secondarily by internal growth.
Operating activities provided $148,000 in cash during the nine months ended
January 31, 2004. This was mainly comprised of a $434,000 net loss, offset by
$391,000 in net non-cash charges, a $349,000 increase in accounts receivable,
$333,000 increase in costs and estimated earnings in excess of billings on
uncompleted contracts, $256,000 increase in accounts payable and accrued
expenses, $658,000 increase in billings in excess of costs and estimated
earnings on uncompleted contracts, $4,000 decrease in income taxes payable and a
$37,000 net decrease in other assets.
23
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
Our investing activities utilized $1,274,000 in cash, which consisted of
$900,000 paid for the acquisition of Clayborn and $57,000 of related acquisition
transaction costs, offset by $134,000 of cash received. We paid $382,000 in
earn-out provisions related to the Walker acquisition, and an additional $12,000
in acquisition transaction costs. Additionally, $57,000 was paid for property
and equipment additions.
Our financing activities generated cash of $2,053,000 during the nine months
ended January 31, 2004. This was comprised primarily of net proceeds of
$2,205,000 received from the completion of the sale of our common stock in a
private placement memorandum. We offered up to 100 units (the Units) for sale to
accredited investors at a price of $25,000 per Unit (the Offering), or a maximum
offering of $2,500,000. Each Unit consisted of (i) 44,444 shares of our common
stock, and (ii) warrants to purchase 44,444 shares of common stock, exercisable
for a period of three years at an exercise price of $0.90 per share (the
Warrants). The Warrants may be redeemed in whole or in part at the option of the
Company, if the closing price of our common stock is at least $1.25 per share on
average for 10 consecutive trading days, ending not earlier than 30 days before
the Warrants are called for redemption. We sold all 100 Units in the Offering.
In connection with the Offering, the placement agent was issued warrants to
purchase 665,000 shares of our common stock at an exercise price of $0.75 per
share. Other financing activities included borrowings on the line of credit of
$100,000, payment of advances from officers of $100,000, repayment of equipment
notes of approximately $150,000 related primarily to the acquisition of
Clayborn, and payment of capital lease obligations of approximately $2,000.
Our capital requirements depend on numerous factors, including the market for
our services, the resources we devote to developing, marketing, selling and
supporting our products and services, the timing and extent of establishing
additional markets and other factors. To address our working capital needs and
growth in our revenue and customer base, on October 29, 2003, Walker obtained a
revolving line of credit facility with a commercial bank in the amount of
$750,000. The borrowing limit is up to 70% of eligible Walker accounts
receivable. As of January 31, 2004, the borrowing base was $750,000 and the
outstanding balance was $100,000. The line of credit is collateralized by all of
Walker's accounts receivable, inventory and equipment, and bears interest at the
Wall Street Journal Prime Index Rate plus 1.5% (5.50% as of January 31, 2004).
In addition, we and certain executive officers of ours have personally
guaranteed this line of credit facility. This line is subject to annual renewal
and matures on November 5, 2004. We also anticipate obtaining a working capital
line of credit for Clayborn, to assist with working capital needs as the
Clayborn business and customer base expands.
24
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
In connection with the Offering, we have the ability to redeem some or all of
the Warrants for $0.01 if our common stock is at least $1.25 per share on
average for 10 consecutive trading days ending not earlier than 30 days before
the Warrants are called for redemption. If we decide to redeem the warrants, we
will provide written notice to each warrant holder that the warrants will be
redeemed at a price of $0.01 per warrant on a fixed date, not less than thirty
days from mailing of the notice. Warrant holders would have until the end of
business on the day before redemption to exercise their warrants at an exercise
price of $0.90. Since we cannot redeem warrants until our stock price is trading
at $1.25, which is higher than the warrant exercise price of $0.90, if we decide
to redeem the warrants, we believe most, if not all, warrant holders will elect
to exercise their warrants. Therefore, the redemption of the Warrants would
provide us with up to approximately $4,000,000 in additional cash upon warrant
holders exercising their Warrants instead of allowing us to redeem the Warrants.
In the event the warrant holders elect not to exercise their warrants and our
stock price is not trading at $1.25 for ten consecutive trading days, we may not
receive the cash.
At January 31, 2004, we had cash of $1,094,000, and for the nine months ended
January 31, 2004, cash provided from operations was $148,000. We have a $750,000
revolving line of credit available, and we also expect to redeem approximately
$4 million of the Warrants from the Offering within the next twelve months, as
discussed above. Accordingly, we believe these internally available funds, and
expected financing activities, will provide us sufficient capital to meet our
short-term needs for the next twelve months. These funding needs include working
capital and capital expenditures, the remaining $116,000 earn-out to be paid
related to the Walker acquisition, and the expected payment of quarterly
distributions of post tax profits to Clayborn shareholders for the next twelve
months. The total distribution to Clayborn shareholders is $1,100,000, which is
due by September 30, 2007. Our future operating results may be affected by a
number of factors including our success in bidding on future contracts and our
continued ability to manage controllable costs effectively. To the extent we
grow by future acquisitions that involve consideration other than stock, our
cash requirements may increase.
We will continue to explore opportunities to raise additional funds on
acceptable terms for a number of uses. We may not be able to obtain additional
funds on acceptable terms, or at all. Additional capital resources would be
devoted to search for, investigate and potentially acquire new companies that
have a strategic fit. In connection with a potential acquisition, we would also
expect to issue additional common stock equity or convertible debt securities,
which may result in additional dilution to our shareholders.
Critical Accounting Policies
Financial Reporting Release No. 60, published by the SEC, recommends that all
companies include a discussion of critical accounting policies used in the
preparation of their financial statements. While all these significant
accounting policies impact its financial condition and results of operations, we
view certain of these policies as critical. Policies determined to be critical
are those policies that have the most significant impact on our consolidated
financial statements and require management to use a greater degree of judgment
and estimates. Actual results may differ from those estimates.
We believe that given current facts and circumstances, it is unlikely that
applying any other reasonable judgments or estimate methodologies would cause a
material effect on our consolidated results of operations, financial position or
liquidity for the periods presented in this report.
The accounting policies identified as critical are as follows:
Use of Estimates
In preparing financial statements in conformity with accounting principles
generally accepted in the United States of America, management is required to
make estimates and assumptions that affect the reported amounts of assets and
liabilities and the disclosure of contingent assets and liabilities at the date
of the financial statements and revenue and expenses during the reporting
period. The most significant estimates relate to estimation of percentage of
completion on uncompleted contracts, valuation of inventory, allowance for
doubtful accounts and estimated life of customer lists. Actual results could
differ from those estimates.
Goodwill and other Long-lived Assets
We assess the impairment of long-lived assets whenever events or changes in
circumstances indicate that their carrying value may not be recoverable from the
estimated future cash flows expected to result from their use and eventual
disposition. Our long-lived assets subject to this evaluation include property
and equipment and amortizable intangible assets. We assess the impairment of
goodwill annually in our fourth fiscal quarter and whenever events or changes in
circumstances indicate that it is more likely than not that an impairment loss
has been incurred. Intangible assets other than goodwill are reviewed for
impairment whenever events or changes in circumstances indicate that the
carrying value may not be fully recoverable. We are required to make judgments
and assumptions in identifying those events or changes in circumstances that may
trigger impairment.
Our impairment review is based on comparing the fair value to the carrying value
of the reporting units with goodwill. The fair value of a reporting unit is
measured at the business unit level using a discounted cash flow approach that
incorporates our estimates of future revenue and costs for those business units.
Reporting units with goodwill include our Invisinet business unit, which
25
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
are operating segments within our fixed wireless reportable segment, and our
Walker Comm structured cabling reporting unit, which is a reportable segment.
Our estimates are consistent with the plans and estimates that we are using to
manage the underlying businesses. If we fail to deliver products and services
for these business units, or market conditions for these businesses fail to
improve, our revenue and cost forecasts may not be achieved and we may incur
charges for goodwill impairment, which could be significant and could have a
material adverse effect on our net equity and results of operations.
Revenue recognition
We generate our revenue by providing project engineering and installation
services for specialty communication systems, including wireless fidelity (WiFi)
and fixed wireless deployment. We provide a range of specialty communication
services including project management, site design, structured cabling, product
integration, network security and technical support. These projects may require
the integration of multiple communication components and engineering services in
order to complete the project.
We record profits on these projects on a percentage-of-completion basis on the
cost-to-cost method. Contracts in process are valued at cost plus accrued
profits less earned revenue and progress payments on uncompleted contracts.
Contracts are generally considered substantially complete when engineering is
completed and/or site construction is completed. We include in operations
pass-through revenue and costs on cost-plus contracts, which are
customer-reimbursable materials, equipment and subcontractor costs, when we
determine that it is responsible for the engineering specification, procurement
and management of such cost components on behalf of the customer.
We have numerous contracts that are in various stages of completion. Such
contracts require estimates to determine the appropriate cost and revenue
recognition. We have a history of making reasonably dependable estimates of the
extent of progress towards completion, contract revenue and contract costs.
However, current estimates may be revised as additional information becomes
available. If estimates of costs to complete long-term contracts indicate a
loss, provision is made currently for the total loss anticipated.
Recently issued accounting pronouncements
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." SFAS No. 146 nullifies Emerging Issues Task
Force Issue No. 94-3 and requires that a liability for a cost associated with
and exit or disposal activity be recognized when the liability is incurred. This
statement also establishes that fair value is the objective for initial
measurement of the liability.
SFAS No. 146 is effective for exit or disposal activities that are initiated
after December 31, 2002. The impact of the adoption of SFAS No. 146 is not
expected to have a material impact on our consolidated financial position,
results of operations or cash flows.
26
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure, an Amendment of FASB Statement
No.123." SFAS No. 148 amends SFAS No. 123,"Accounting for Stock-Based
Compensation," to provide alternative methods of transition for an entity that
voluntarily changes to the fair value-based method of accounting for stock-based
employee compensation. It also amends the disclosure provisions of that
Statement to require prominent disclosure about the effects on reported net
income of an entity's accounting policy decisions with respect to stock-based
employee compensation. We have chosen to continue to account for stock-based
compensation using the intrinsic value method prescribed in APB Opinion No. 25
and the related SFAS No. 123. The adoption of SFAS No. 148 did not have a
material effect on our consolidated financial position, results of operations or
cash flows.
In November 2002, the FASB issued FASB Interpretation No. 45, ("FIN No. 45")
"Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others." FIN No. 45 requires that upon
issuance of a guarantee, a guarantor must recognize a liability for the fair
value of an obligation assumed under a guarantee. FIN No. 45 also requires
additional disclosures by a guarantor in its interim and annual financial
statements about the obligations associated with guarantees issued. The
recognition provisions of FIN No. 45 are effective for any guarantees issued or
modified after December 31, 2002. The disclosure requirements are effective for
financial statements of interim or annual periods ending December 15, 2002. The
adoption of the disclosure requirements of FIN No. 45 did not have a material
impact on our consolidated financial position, results of operations or cash
flows.
In January 2003, the FASB issued FASB Interpretation No. 46 ("FIN No. 46")
"Consolidation of Variable Interest Entities." In general, a variable interest
entity is a corporation, partnership, trust, or any other legal structure used
for business purposes that either (a) does not have equity investors with voting
rights or (b) has equity investors that do not provide sufficient financial
resources for the entity to support its activities. A variable interest entity
often holds financial assets, including loans or receivables real estate or
other property. A variable interest entity may be essentially passive or it may
engage in activities on behalf of another company. Until now, a company
generally has included another entity in its consolidated financial statements
only if it controlled the entity through voting interests. FIN No. 46 changes
that by requiring a variable interest entity to be consolidated by a company if
that company is subject to a majority of the risk of loss from the variable
interest entity's activities or entitled to receive a majority of the entity's
residual returns or both. FIN No. 46's consolidation requirements apply
immediately to variable interest entities created or acquired after January 31,
2003. The consolidation requirements apply to older entities in the first fiscal
year on interim period beginning after June 15, 2003. Certain of the disclosure
requirements apply to all financial statements issued after January 31, 2003,
regardless of when the variable interest entity was established. We have not
adopted FIN No. 46 for the year ended April 30, 2003. We do not expect FIN No.
46 to have a material effect on our consolidated financial position, results of
operations or cash flows.
In May 2003, the Financial Accounting Standards Board issued SFAS No. 150,
"Accounting for Certain Financial Instruments with Characteristics of both
Liabilities and Equity." SFAS No. 150 changes the accounting for certain
financial instruments that, under previous guidance, issuers could account for
as equity. The new statement requires that those instruments be classified as
liabilities in statements of financial position. Most of the guidance in SFAS
No. 150 is effective for all financial
27
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
instruments entered into or modified after May 31, 2003, and otherwise is
effective at the beginning of our first quarter for fiscal 2004. We do not
expect the adoption of this statement to have a material impact on our
consolidated financial position, results of operations or cash flows.
Forward Looking Statements
This Management's Discussion and Analysis of Financial Condition and Results of
Operations includes a number of forward-looking statements that reflect
Management's current views with respect to future events and financial
performance. Those statements include statements regarding the intent, belief or
current expectations of us and members of its management team as well as the
assumptions on which such statements are based. Prospective investors are
cautioned that any such forward-looking statements are not guarantees of future
performance and involve risk and uncertainties, and that actual results may
differ materially from those contemplated by such forward-looking statements.
Readers are urged to carefully review and consider the various disclosures made
by us in this report and in our other reports filed with the Securities and
Exchange Commission. Important factors currently known to Management could cause
actual results to differ materially from those in forward-looking statements. We
undertake no obligation to update or revise forward-looking statements to
reflect changed assumptions, the occurrence of unanticipated events or changes
in the future operating results over time. We believe that its assumptions are
based upon reasonable data derived from and known about our business and
operations and the business and operations of the Company. No assurances are
made that actual results of operations or the results of our future activities
will not differ materially from its assumptions.
28
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
ITEM 3. CONTROLS AND PROCEDURES
a) Evaluation of Disclosure Controls and Procedures. As of January 31,
2004, the Company's management carried out an evaluation, under the
supervision of the Company's Chief Executive Officer and the Chief
Financial Officer of the effectiveness of the design and operation of
the Company's system of disclosure controls and procedures pursuant to
the Securities and Exchange Act , Rule 13a-15(d) and 15d-15(d) under
the Exchange Act). Based upon that evaluation, , the Chief Executive
Officer and Chief Financial Officer concluded that the Company's
disclosure controls and procedures were effective, as of the date of
their evaluation, for the purposes of recording, processing,
summarizing and timely reporting material information required to be
disclosed in reports filed by the Company under the Securities
Exchange Act of 1934.
b) Changes in internal controls. There were no changes in the Company's
internal controls over financial reporting, that occurred during the
period covered by this report that has materially affected, or is
likely reasonably to materially effect, the Company's internal control
over financial reporting.
29
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
PART II - OTHER INFORMATION
ITEM 1 LEGAL PROCEEDINGS
From time to time the Company is subject to litigation incidental to its
business. Such claims, if successful, could exceed applicable insurance
coverage. The Company is not currently a party to any material legal
proceedings.
ITEM 2 CHANGES IN SECURITIES AND USE OF PROCEEDS
Not applicable.
ITEM 3 DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4 SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
ITEM 5 OTHER INFORMATION
Not applicable.
ITEM 6 EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits.
31.1 - Certification of Principal Executive Officer pursuant to
Rule 13a-14 and Rule 15d-14(a), promulgated under the Securities
and Exchange Act of 1934, as amended
31.2 - Certification of Principal Financial Officer pursuant to
Rule 13a-14 and Rule 15d 14(a), promulgated under the Securities
and Exchange Act of 1934, as amended
32.1 - Certification pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002 (Chief Executive Officer)
32.2 - Certification pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002 (Chief Financial Officer)
(b) Reports on Form 8-K.
Report on Form 8-K, dated December 16, 2003
30
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused
this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
WPCS INTERNATIONAL INCORPORATED
Date: May 4, 2004 By: /s/ JOSEPH HEATER
---------------------
Joseph Heater
Chief Financial Officer