UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB/A
Amendment No. 2
(Mark One)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended October 31, 2003
-----------------
[ ] 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 in its charter)
Delaware 98-0204758
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
140 South Village Avenue
Suite 20
Exton, Pennsylvania 19341
(Address of principal 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 December 8, 2003.
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
I N D E X
PART I. FINANCIAL INFORMATION
ITEM 1. Condensed consolidated balance sheets at October 31, 2003
(unaudited) and April 30, 2003 3 - 4
Condensed consolidated statements of operations for the three
and six months ended October 31, 2003 and 2002 (unaudited) 5
Condensed consolidated statement of shareholders' equity for the six
months ended October 31, 2003 (unaudited) 6
Condensed consolidated statements of cash flows for the six
months ended October 31, 2003 and 2002 (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 6. Exhibits and Reports on 8-K 30
SIGNATURES 31
CERTIFICATIONS 32 - 36
2
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
October 31, April 30,
ASSETS 2003 2003
--------------- ---------------
(UNAUDITED)
CURRENT ASSETS:
Cash and cash equivalents .................................... $ 1,228,964 $ 167,547
Accounts receivable, net of allowance of $16,696 and
$11,779 at October 31, 2003 and April 30, 2003, respectively 5,425,705 2,397,236
Costs and estimated earnings in excess of billings on
uncompleted contracts ...................................... 835,613 408,194
Inventory .................................................... 94,248 77,775
Prepaid expenses ............................................. 206,538 143,113
Income taxes receivable ...................................... 104,765 --
Deferred tax assets .......................................... 50,000 70,000
--------------- ---------------
Total current assets .................................... 7,945,833 3,263,865
PROPERTY AND EQUIPMENT ........................................... 934,299 647,951
CUSTOMER LISTS ................................................... 445,000 499,000
GOODWILL ......................................................... 7,771,633 5,388,882
OTHER ASSETS ..................................................... 74,030 21,528
--------------- ---------------
Totals ........................................... $ 17,170,795 $ 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)
October 31, April 30,
LIABILITIES AND SHAREHOLDERS' EQUITY 2003 2003
-------------- --------------
(UNAUDITED)
CURRENT LIABILITIES:
Accounts payable and accrued expenses ............................. $ 2,841,356 $ 1,278,443
Billings in excess of costs and estimated earnings on
uncompleted contracts .......................................... 1,283,471 215,819
Current maturities of capital lease obligations ................... 2,294 2,294
Current maturities of equipment loans payable ..................... 20,946 21,268
Note payable, officer ............................................. 100,000 100,000
Due to shareholders ............................................... 1,423,415 58,207
Income taxes payable .............................................. 219,500 23,700
Deferred income taxes, current portion ............................ 196,100 129,000
-------------- --------------
Total current liabilities ................................... 6,087,082 1,828,731
Capital lease obligations, net of current maturities ............. 3,489 4,608
Equipment loans payable, net of current maturities ............... 41,166 --
Deferred income taxes, net of current portion .................... 427,700 527,000
-------------- --------------
Total Liabilities ......................................... 6,559,437 2,360,339
-------------- --------------
COMMITMENTS
SHAREHOLDERS' EQUITY:
Preferred Stock - $0.0001 par value, 5,000,000 shares authorized
Common Stock - $0.0001 par value,
30,000,000 shares authorized, 20,135,690 and
13,078,844 shares issued and outstanding at October 31, 2003 and
April 30, 2003, respectively ................................... 2,015 1,308
Additional paid- in capital ........................................ 11,264,146 8,002,639
Accumulated deficit ................................................ (654,803) (543,060)
-------------- --------------
Total shareholders' equity ................................. 10,611,358 7,460,887
-------------- --------------
Totals .................................................... $ 17,170,795 $ 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 Six Months Ended
October 31, October 31,
2003 2002 2003 2002
------------------- --------------- -------------------- -----------------
REVENUE $ 6,225,834 $ 213,359 $ 9,322,317 $ 606,482
------------------- --------------- -------------------- -----------------
COSTS AND EXPENSES:
Cost of Revenue 4,610,888 170,919 6,640,134 474,096
Selling, General and administrative expenses, including
$57,655 and $129,965 of non-cash
compensation expense for the three and six
months ended October 31, 2003, respectively 1,439,755 207,684 2,525,054 396,746
Provision for doubtful accounts 23,658 26,285 23,658 26,285
Depreciation and amortization 90,532 1,542 154,214 3,085
------------------- --------------- -------------------- -----------------
Total costs and expenses 6,164,833 406,430 9,343,060 900,212
INCOME (LOSS) BEFORE PROVISION FOR
INCOME TAXES 61,001 (193,071) (20,743) (293,730)
Provision for income taxes (50,000) - (91,000) -
------------------- --------------- -------------------- -----------------
NET INCOME (LOSS) 11,001 (193,071) (111,743) (293,730)
Imputed dividends accreted on
Convertible Series B Preferred stock - - - (173,000)
NET INCOME (LOSS) ATTRIBUTABLE TO
COMMON SHAREHOLDERS $ 11,001 $ (193,071) $ (111,743) $ (466,730)
=================== =============== ==================== =================
Basic net income (loss) per common share $ 0.00 $ (0.02) $ (0.01) $ (0.05)
=================== =============== ==================== =================
Fully diluted net income per common share $ 0.00 - - -
=================== =============== ==================== =================
Basic weighted average number of
common shares outstanding 19,332,911 9,025,632 16,292,833 8,689,620
=================== =============== ==================== =================
Fully diluted weighted average number of
common shares outstanding 22,160,779 9,025,632 16,292,833 8,689,620
=================== =============== ==================== =================
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 SIX MONTHS ENDED OCTOBER 31, 2003
(UNAUDITED)
ADDITIONAL ACCUMULATED TOTAL
PREFERRED STOCK COMMON STOCK PAID-IN (DEFICIT)/ SHAREHOLDERS'
SHARES AMOUNT SHARES AMOUNT CAPITAL EARNINGS EQUITY
-------- --------- ------------ ---------- ------------ ----------- -------------
BALANCE MAY 1, 2003 1,000 $ - 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 - - 4,444,400 445 2,206,381 - 2,206,826
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 - - - - - (111,743) (111,743)
-------- --------- ------------ ---------- ------------ ----------- -------------
BALANCE, OCTOBER 31, 2003 - $ - 20,135,690 $ 2,015 $11,264,146 $ (654,803) $ 10,611,358
======== ========= ============ =========== ============ ============ =============
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)
Six Months Ended
October 31,
----------------
2003 2002
------------ ------------
OPERATING ACTIVITIES:
Net loss .......................................................... $ (111,743) $ (293,730)
Adjustments to reconcile net loss
to net cash used in operating activities:
Depreciation and amortization ................................ 154,214 3,085
Provision for doubtful accounts .............................. 23,658 26,285
Fair value of stock options granted to non-employees ..... 187,620 --
Deferred income taxes .................................... (146,000)
Changes in operating assets and liabilities, net of acquisitions:
Accounts receivable ...................................... (2,476,322) (66,068)
Costs and estimated earnings in excess of billings on
uncompleted contracts ........................... (195,857) --
Inventory ................................................ (16,473) 2,331
Prepaid expenses ......................................... (16,854) (2,559)
Deferred tax asset ....................................... 20,000
Other assets ............................................. (1,404) --
Accounts payable and accrued expenses .................... 1,220,892 (42,792)
Billings in excess of costs and estimated earnings on
uncompleted contracts ............................ 1,058,783 --
Income taxes payable ..................................... 195,800 --
------------ ------------
NET CASH USED IN OPERATING ACTIVITIES .................................. (103,686) (373,448)
------------ ------------
INVESTING ACTIVITIES:
Acquisition of property and equipment .......................... (16,383) --
Acquisition of Clayborn, net of cash received .................. (810,933)
Acquisition earn-out and other transaction costs ............... (69,521) --
------------ ------------
NET CASH USED IN INVESTING ACTIVITIES .................................. (896,837) --
------------ ------------
FINANCING ACTIVITIES:
Cash received in reverse acquisition .............................. -- 3,257
Repayment of advances to shareholders ............................ -- (20,743)
Proceeds from sale of preferred stock ............................ -- 455,000
Proceeds from issuance of common stock ........................... 2,206,826 --
Repayment of equipment loans payable ............................. (143,767)
Payments of capital lease obligations ............................ (1,119) (1,014)
------------ ------------
NET CASH PROVIDED BY FINANCING ACTIVITIES .............................. 2,061,940 436,500
------------ ------------
NET INCREASE IN CASH AND CASH EQUIVALENTS .............................. 1,061,417 63,052
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD ......................... 167,547 15,554
------------ ------------
CASH AND CASH EQUIVALENTS, END OF PERIOD ............................... $ 1,228,964 $ 78,606
============ ============
The accompanying notes are an integral part of these condensed consolidated financial statements
7
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS-continued
(UNAUDITED)
Six Months Ended
October 31,
-----------------
2003 2002
----------- -----------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW
INFORMATION:
Cash paid during the period for:
Interest ............................................. $ 9,452 $ 220
=========== ===========
Income taxes ........................................... $ 24,858 $ 190
=========== ===========
SCHEDULE OF NON-CASH INVESTING AND FINANCING ....................
ACTIVITIES:
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 C preferred stock to common stock .... $ 179 $ --
=========== ===========
Issuance of common stock in connection with acquisition
of Clayborn ......................................... $ 867,768 $ --
=========== ===========
Earn-out consideration unpaid relating to acquisitions .... $1,423,415 $ --
=========== ===========
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 six month periods
ended October 31, 2003 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". For the three months ended
October 31, 2002, the statement of operations, shareholders' equity and cash
flows are that of WPCS Holdings, Inc. ("Holdings"), the accounting acquirer of
the business of Phoenix Star Ventures, Inc. ("PSVI") as explained below.
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 communications services including project management, site design,
structured cabling, product integration, network security, and technical
support.
On May 17, 2002, PSVI a publicly held "shell company", became the legal acquirer
of 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.
9
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1 - BASIS OF PRESENTATION-(Continued)
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
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 October 31, 2003, $381,622 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.
10
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 2 - SUMMARY OF SELECTED SIGNIFICANT ACCOUNTING POLICIES (Continued) 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.
A summary of the activity in the Goodwill account fo the six months ended
October 31, 2003 is as follows:
Beginning balance, May 1, 2003 $5, 388,882
Clayborn acquisition 2,048,022
Walker earn out provision 323,415
Transaction costs 11,314
------------------------
Ending balance, October 31, 2003 $7,771,633
========================
Revenue recognition
The Company generates its revenue by providing project engineering and
deployment services for specialty communications 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 October 31, 2003, the Company had 8,089,375 stock options and
warrants outstanding. For the three months ended October 31, 2003, 225,000 stock
options were not included in the computation of fully diluted earnings per
share, because the stock options exercise price exceeded the average market
price of the common stock and, therefore, the effect would be antidilutive. The
remaining 7,864,375 stock options and warrants were included in fully diluted
earnings per share, which assumed a conversion of dilutive stock options and
warrants totaling 2,827,868.
11
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 2 - SUMMARY OF SELECTED SIGNIFICANT ACCOUNTING POLICIES (Continued) 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
communications and additional wireless opportunities to pursue.
The aggregate consideration paid by the Company for Clayborn was approximately
$2,919,000. The Company acquired all of the issued and outstanding shares of
Clayborn in exchange for $900,000 cash consideration and $45,000 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
$2,048,000. 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 taxes receivable 104,765
Fixed assets 370,180
Other assets 97,669
Goodwill 2,048,022
-----------------
3,562,220
-----------------
Liabilities assumed:
Accounts payable (294,992)
Accrued expenses (55,898)
Notes payable (184,611)
Deferred tax liability (113,800)
-----------------
(649,301)
-----------------
Purchase price $ 2,912,919
=================
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 Six months ended
October 31 October 31
2003 2002 2003 2002
------------- ------------- ------------- -------------
Revenue $ 6,636,059 $ 2,330,696 $ 10,855,296 $ 4,548,850
Net loss attributable to common shareholders $ (101,549) $ (341,169) $ (240,051) $ (219,399)
Weighted average number of shares used in calculation
of basic earnings per share 20,159,357 9,852,078 17,119,279 9,516,066
Basic net loss per share $ (0.01) $ (0.03) $ (0.01) $ (0.02)
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
October 31, 2003:
Costs incurred on uncompleted contracts $ 10,212,689
Estimated contract profit 2,862,588
---------------
13,075,277
Less: billings to date 13,523,135
---------------
Net billings in excess $( 447,858)
===============
Costs and estimated earnings in excess of billings $ 835,613
Billings in excess of costs and estimated earnings
on uncompleted contracts (1,283,471)
---------------
Net billings in excess $ ( 447,858)
===============
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 October 31, 2003, an additional $173,415 was payable to the Walker
shareholders against this earn-out provision, accordingly, the goodwill was
increased by $173,415. At October 31, 2003, the total payable to the Walker
shareholders under this earn-out provision was $323,415.
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 six months ended October 31, 2003,
$28,000 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 October 31, 2003, the borrowing base
was $750,000 and there was no outstanding balance. 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 October 31, 2003). 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.
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
October 31, 2003, there were 2,020,025 shares available for grant under the 2002
Plan. No options were granted as of October 31, 2002.
14
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 7 - STOCK OPTION PLAN ( Continued)
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 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 Six months ended
October 31, 2003 October 31, 2003
Net income (loss) attributable to common shareholders,
as reported $ 11,001 $ (111,743)
Deduct: total stock-based employee compensation expenses
determined under fair value based method for all awards,
net of tax (64,867) (107,015)
-------------------- --------------------
Net loss per share attributable to common shareholders,
pro forma $ (53,866) $ (218,758)
==================== ====================
Net income (loss) per share: Basic and Fully diluted
As reported $ 0.00 $ (0.01)
Basic- pro forma $ 0.00 $ (0.02)
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 of 2%, dividend yield of 0%, term of five years and volatility of
71.0%.
NOTE 8- SHAREHOLDERS' EQUITY
On June 25, 2003, (and amended October 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.
15
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 8- SHAREHOLDERS' EQUITY(Continued)
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. As of October 31, 2003,
the Company sold all 100 Units from the Offering and received proceeds of
$2,206,826, net of the placement agent commissions and other issuance costs.
For the six months ended October 31, 2003, 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 six months ended
October 31, 2003.
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 (loss) income 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 segments. 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.
Segment results for the three and six months ended October 31, 2003 are as
follows:
Three months ended October 31, 2003
Wireless Specialty
Corporate Infrastructure Communications Total
Revenue $ - $ 1,102,052 $ 5,123,782 $ 6,225,834
(Loss) income before income taxes $(307,191) $ 41,675 326,517 61,001
16
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 9 - SEGMENT REPORTING (Continued)
Six months ended October 31, 2003
Wireless Specialty
Corporate Infrastructure Communications Total
Revenue $ - $ 1,722,641 $ 7,599,676 $ 9,322,317
(Loss) income before income taxes $ (575,567) $ 79,760 $ 475,064 (20,743)
Goodwill $ 1,632,544 $ 6,139,089 $ 7,771,633
Total assets $ 190,118 $ 3,355,732 $ 13,624,945 $ 17,170,795
17
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
Item 2. 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
products, fluctuations in pricing for products distributed by the Company and
products 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) and fixed wireless deployment. WPCS International Incorporated
provides a range of specialty communications 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. ("PSVI"), a publicly held corporation, acquired WPCS Holdings
Inc., a Delaware corporation ("Holdings") by issuing 5,500,000 shares of its
common stock to shareholders of Holdings in exchange of all the outstanding
shares of Holdings. The shareholders of 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,
Holdings is the accounting acquirer and PSVI is the accounting acquiree.
Concurrently with the acquisition, PSVI, the parent company, changed its name to
WPCS International Incorporated ("WPCS" or the Company).
On November 13, 2002, the Company entered into an agreement and completed
a merger with Invisinet, Inc. ("Invisinet"). Invisinet is in a similar business
as the Company, providing fixed wireless technology services to its customers.
The acquisition of Invisinet broadens the Company's customer base and expands it
technical resources capable of deploying wireless systems. For the six months
ended October 31, 2003, the acquisition of Invisinet increased sales by
approximately $1.6 million as compared the same period in the prior year. To
complete the merger, the Company acquired 100% of the common stock of Invisinet
by issuing 1,000,000 shares of the Company's common stock with a fair value of
$1,750,000, based on the average value of the Company's common stock as of a few
days before and after the merger was announced. Based on the net assets acquired
of Invisinet, the Company has recognized goodwill of approximately $1.6 million.
18
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
On December 30, 2002, the Company acquired all of the outstanding common stock
of Walker Comm, Inc. ("Walker"). The acquisition of Walker gives the Company the
ability to provide specialty communication systems to its customers along with
strengthening its project management capabilities. For the six months ended
October 31, 2003, the acquisition of Walker increased sales approximately $5.8
million as compared to the same period in the prior year. The aggregate
consideration paid by the Company 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 aggregate merger consideration consisting of $500,000
in cash and the common stock of the Company 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 the Company's common stock as of a few days before and after the merger
was announced. Based on the net assets acquired of Walker, the Company
recognized goodwill of approximately $3.8 million.
On August 22, 2003, the Company acquired all of the outstanding common stock of
Clayborn Contracting Group, Inc. ( "Clayborn"). The acquisition of Clayborn
gives the Company additional expertise in engineering and deployment services
for specialty communications systems and additional wireless opportunities to
pursue. For the six months ended October 31, 2003, the acquisition of Clayborn
increased sales approximately $1.8 million as compared to the same period in the
prior year. The aggregate consideration paid by the Company for Clayborn was
approximately $2,919,000. The Company acquired all of the issued and outstanding
shares of Clayborn in exchange for $900,000 cash consideration and $45,000 in
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 Company preliminarily expects to recognize
goodwill of approximately $2,048,000. 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
19
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
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 October 31, 2003, 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 $18 million as of October 31,
2003. 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 six months ended October 31, 2003, as compared
to the same period in the prior year.
Three Months Ended October 31, 2003 Compared to Three Months Ended October 31, 2002
Three months ended October 31,
2003 2002
----------------------------- -----------------------------
Revenue $ 6,225,834 100.0% $ 213,359 100.0%
------------------ ------ ------------------ ------
Costs and expenses:
Cost of Revenue 4,610,888 74.1% 170,919 80.1%
Selling, general and administrative expenses 1,439,755 23.1% 207,684 97.3%
Provision for doubtful accounts 23,658 0.4% 26,285 12.3%
Depreciation and amortization 90,532 1.4% 1,542 0.7%
------------------ ------ ------------------ ------
Total costs and expenses 6,164,833 99.0% 406,430 190.4%
------------------ ------ ------------------ ------
Income (loss) before provision for income taxes 61,001 1.0% (193,071) -90.4%
Provision for income taxes (50,000) -0.8% - 0.0%
------------------ ------ ------------------ ------
Net income (loss) $ 11,001 0.2% $ (193,071) -90.4%
================== ====== ================== ======
20
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
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 October 31, 2003 was approximately
$6,226,000 as compared to $213,000 for the three months ended October 31, 2002.
The increase in revenue during the quarter ended October 31, 2003, compared to
the same period in the prior year, is a result of the acquisitions of Invisinet,
Walker, and Clayborn, which accounted for $6,130,000 of the total revenue for
the quarter.
Revenue from the specialty communication segment for the three months ended
October 31, 2003 was approximately $5,124,000 or 82% of total revenue. Wireless
infrastructure segment revenue for the three months ended October 31, 2003 was
approximately $1,102,000 or 18% of total revenue for the quarter.
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 October 31, 2003, our cost of revenue was
approximately $4,611,000, or 74.1% of revenue. For the three months ended
October 31, 2002, cost of revenue was approximately $171,000, or 80.1% 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 October 31, 2003, total selling, general and
administrative expenses were $1,440,000 or 23.1% of total revenue. For the three
months ended October 31, 2002, selling, general and administrative expenses were
$208,000 or 97.3% of revenue. The percentage decrease is due to the management
of our cost structure as we leverage incremental revenue in fiscal 2004. For the
three months ended October 31, 2003, included in selling, general and
administrative expenses are $524,000 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 $318,000 in union benefits during the quarter. Professional
fees were $175,000, with the increase due primarily to an increase in investor
relations, accounting and legal fees. Insurance costs were $158,000 and rent for
office facilities were $65,000. Other selling, general and administrative
expenses totaled $200,000. For the three months ended October 31, 2003, total
selling, general and administrative expenses for the wireless infrastructure
segment were $130,000 and $1,088,000 for the specialty communication segment,
respectively.
For the three months ended October 31, 2002, included in selling, general
and administrative expenses were $72,000 for salaries, commissions and payroll
taxes and $101,000 in professional fees. Rent for our office facilities amounted
to $8,000. Other selling, general and administrative expenses totaled $27,000.
For the three months ended October 31, 2003 and 2002, the provision for
doubtful accounts was approximately $24,000 and $26,000, 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 October 31, 2003 and 2002, depreciation and
amortization was approximately $90,000 and $1,500, 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.
21
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
Net income
Net income was $11,000 for the three months ended October 31, 2003. Net
income for the quarter ended October 31, 2003 included a non-cash charge of
approximately $58,000 for the grant of stock options to certain consultants, to
purchase 380,000 shares of the Company's 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. Net income also included income tax expense of $50,000
to provide for state income taxes and certain book-to-tax permanent differences.
We incurred a net loss of approximately $193,071 for the three months ended
October 31, 2002.
Six Months Ended October 31, 2003 Compared to Nine Months Ended October 31, 2002
Six months ended October 31,
2003 2002
------------------------------ -----------------------------
Revenue $ 9,322,317 100.0% $ 606,482 100.0%
------------------ ------ ------------------ ------
Costs and expenses:
Cost of Revenue 6,640,134 71.2% 474,096 78.2%
Selling, general and administrative expenses 2,525,054 27.1% 396,746 65.4%
Provision for doubtful accounts 23,658 0.2% 26,285 4.3%
Depreciation and amortization 154,214 1.7% 3,085 0.5%
------------------ ------ ------------------ ------
Total costs and expenses 9,343,060 100.2% 900,212 148.4%
------------------ ------ ------------------ ------
Loss before provision for income taxes (20,743) -0.2% (293,730) -48.4%
Provision for income taxes (91,000) -1.0% - 0.0%
------------------ ------ ------------------ ------
Net loss (111,743) -1.2% (293,730) -48.4%
Imputed dividends accreted on Convertible Series
B Preferred Stock - 0.0% (173,000) -28.5%
------------------ ------ ------------------ ------
Net loss attributable to common shareholders $ (111,743) -1.2% $ (466,730) -76.9%
==================== ========= ==================== ========
Revenue
Revenue for the six months ended October 31, 2003 was approximately
$9,322,000, as compared to $606,000 for six months ended October 31, 2002. The
increase in revenue during the six month period ended October 31, 2003, compared
to the same period in the prior year, is a result of the acquisitions of
Invisinet, Walker, and Clayborn, which accounted for $9,179,000 of the total
revenue for the period.
Revenue from the specialty communication segment for the six months ended
October 31, 2003 was approximately $7,600,000 or 82%. Wireless infrastructure
segment revenue for the six months ended October 31, 2003 was approximately
$1,723,000 or 18% of total revenue for the period.
Cost of Revenue
For the six months ended October 31, 2003, our cost of revenue was
approximately $6,640,000, or 71.2% of revenue. For the six months ended October
31, 2002, cost of revenue was approximately $474,000, or 78.2% 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.
Selling, general and administrative expenses
For the six months ended October 31, 2003, total selling, general and
administrative expenses were $2,525,000 or 27.1% of total revenue. For the six
months ended October 31, 2002, selling, general and administrative expenses were
$397,000 or 65.4%. The percentage decrease is due to the management of our cost
structure as we leverage our incremental revenue dollars in fiscal 2004. For the
six months ended October 31, 2003, included in selling, general and
administrative expenses are $878,000 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 $545,000 in union
22
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
benefits during the six month period. Professional fees were $372,000, with the
increase due primarily to an increase in investor relations, accounting and
legal fees. Insurance costs were $287,000 and rent for office facilities was
$113,000. Other selling, general and administrative expenses totaled $330,000.
For the six months ended October 31, 2003, total selling, general and
administrative expenses for the wireless infrastructure segment were $455,000
and $1,654,000 for the specialty communication segment.
For the six months ended October 31, 2002, included in the selling, general
and administrative expenses are $142,000 for salaries, commissions and payroll
taxes and $197,000 in professional fees. Rent for our office facilities amounted
to $15,000. Other selling, general and administrative expenses totaled $43,000.
For the six months ended October 31, 2003 and 2002, the provision for
doubtful accounts was approximately $24,000 and $26,000, respectively.
For the six months ended October 31, 2003 and 2002, depreciation and
amortization was approximately $154,000 and $3,100, 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 $112,000 for the six months ended
October 31, 2003. The net loss for the six month period ended October 31, 2003
included a non-cash charge of approximately $187,000 for the grant of stock
options to certain consultants, to purchase 1,230,000 shares of the Company's
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 income tax expense of $91,000 to provide for state income taxes and
certain book-to-tax income permanent differences.
We incurred a net loss attributable to common shareholders of approximately
$467,000 for the six months ended October 31, 2002.
Liquidity and capital resources
At October 31, 2003, we had working capital of $1,859,000, which consisted
of current assets of approximately $7,946,000 and current liabilities of
$6,087,000. Current assets included $1,229,000 in cash, $6,262,000 in accounts
receivable and costs and estimated earnings in excess of billings on uncompleted
contracts, $94,000 in inventories, $206,000 in prepaid expenses, $105,000 in
income tax receivable and $50,000 in deferred tax assets. Current liabilities
included $4,125,000 in accounts payable, accrued expenses and billings in excess
of costs and estimated earnings on uncompleted contracts, $100,000 payable to an
officer of the Company, $1,423,000 payable to shareholders of the Company,
$220,000 income taxes payable, $196,000 in current portion of deferred income
taxes, and $23,000 in other current liabilities. The increase in accounts
receivable between April 30, 2003 and October 31, 2003 is due primarily to
recent acquisitions we made, and secondarily by internal growth.
We utilized $104,000 in cash from operating activities during the six
months ended October 31, 2003. This was mainly comprised of a $112,000 net loss
, offset by $219,000 in net non-cash charges, a $2,476,000 net increase in
accounts receivable, $196,000 increase in costs and estimated earnings in excess
of billings on uncompleted contracts, $1,221,000 decrease in accounts payable
and accrued expenses, $1,059,000 increase in billings in excess of costs and
estimated earnings on uncompleted contracts, $196,000 increase in income taxes
payable and a $15,000 net increase in other current assets and liabilities.
Our investing activities utilized $897,000 in cash, which consisted of
$900,000 paid for the acquisition of Clayborn and $45,000 of related acquisition
transaction costs, offset by $134,000 of cash received. We paid $58,000 in
earn-out provisions related to the Walker acquisition, and an additional $12,000
in acquisition transaction costs. Additionally, $16,000 was paid for the
property and equipment additions.
23
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
The Company's financing activities generated cash of $2,062,000 during the
six months ended October 31, 2003. This was comprised primarily of net proceeds
of $2,207,000 received from the completion of the sale of the Company's common
stock in a private placement memorandum. The Company 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 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 in the offering. In connection with
the offering, the placement agent was issued warrants to purchases 665,000
shares of the Company's common stock at an exercise price of $0.75 per share.
Other financing activities included the repayment of equipment notes of
approximately $144,000 related to the acquisition of Clayborn.
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 sales 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 October 31, 2003, the borrowing base was $750,000 and there
was no outstanding balance. 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 plus 1.5% (5.50% as of October 31, 2003). 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. We also anticipate obtaining a
working capital line of credit for Clayborn prior to October 31, 2004, to assist
with working capital needs as the Clayborn business and customer base expands.
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 October 31, 2003, we had cash of $1,229,000. 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 $442,000 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.
24
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
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,
the Company views certain of these policies as critical. Policies determined to
be critical are those policies that have the most significant impact on the
Company's consolidated financial statements and require management to use a
greater degree of judgment and estimates. Actual results may differ from those
estimates.
The Company believes that given current facts and circumstances, it is
unlikely that applying any other reasonable judgments or estimate methodologies
would cause a material effect on the Company's 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 revenues 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 revenues and costs for those business
units. Reporting units with goodwill include our Invisinet business unit, which
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.
25
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
Revenue recognition
The Company generates its revenue by providing project engineering and
installation services for specialty communications systems, including wireless
fidelity (WiFi), fixed wireless deployment, fiber optics, voice and data
cabling, audio/visual systems, and networking. These projects may require the
integration of multiple communication components and engineering services in
order to complete the project.
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.
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 the Company's consolidated financial
position, results of operations or cash flows.
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. The Company has 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 148 did not
have a material effect on the Company's consolidated financial position, results
of operations or cash flows.
26
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
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 the Company's 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. The Company has
not adopted FIN No.46 for the year ended April 30, 2003. The Company does not
expect FIN 46 to have a material effect on its 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 instruments entered into or modified
after May 31, 2003, and otherwise is effective at the beginning of our first
quarter for fiscal 2004. The Company does not expect the adoption of this
statement to have a material impact on its consolidated financial position,
results of operations or cash flows.
27
WPCS INTERNATIONAL INCORPORATED AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
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 the Company 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 the Company in this report and in the Company's 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. The Company undertakes 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.
The Company believes that its assumptions are based upon reasonable data derived
from and known about its business and operations and the business and operations
of the Company. No assurances are made that actual results of operations or the
results of the Company's 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 October 31,
2003, 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(e) and 15d-15(e) 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.
During the quarter ended October 31, 2003, the Company sold an aggregate of
60 units in a private placement conducted pursuant to Rule 506 of Regulation D,
for aggregate proceeds of $1,500,000. 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 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. In connection with
the sale of the 60 units, the placement agent was issued warrants to purchases
399,000 shares of the Company's common stock at an exercise price of $0.75 per
share.
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/A, dated November 7, 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 13, 2004 By: /s/ JOSEPH HEATER
-------------------
Joseph Heater
Chief Financial Officer
31