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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1999
COMMISSION FILE NUMBER 0001-22563
CDSI HOLDINGS INC.
(Exact name of small business issuer as specified in its charter)
DELAWARE 95-4463937
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
100 S.E. SECOND STREET, 32ND FLOOR
MIAMI, FL 33131
(Address of principal executive offices) (Zip Code)
(305) 579-8000
(Issuer's telephone number, including area code)
CHECK WHETHER THE ISSUER (1) HAS FILED ALL REPORTS REQUIRED TO BE FILED BY
SECTION 13 OR 15(d) OF THE EXCHANGE ACT DURING THE PRECEDING 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
---- ----
AS OF AUGUST 16, 1999, THERE WERE OUTSTANDING 3,120,000 SHARES OF THE
ISSUER'S COMMON STOCK, $.01 PAR VALUE.
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CDSI HOLDINGS INC.
QUARTERLY REPORT ON FORM 10-QSB
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1999
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION
Page
----
Item 1. Condensed Consolidated Financial Statements (Unaudited):
Condensed Consolidated Balance Sheets as of June 30, 1999
and December 31, 1998......................................... 3
Condensed Consolidated Statements of Operations for the
three months and six months ended June 30, 1999 and
1998.......................................................... 4
Condensed Consolidated Statements of Cash Flows for the
six months ended June 30, 1999 and 1998....................... 5
Notes to the Condensed Quarterly Consolidated Financial
Statements ................................................... 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations........................... 10
PART II. OTHER INFORMATION
Item 1. Legal Proceedings................................................. 17
Item 2. Changes in Securities and Use of Proceeds......................... 17
Item 6. Exhibits and Reports on Form 8-K.................................. 19
SIGNATURE........................................................................... 20
2
CDSI HOLDINGS INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
June 30, December 31,
---------------- -----------------
1999 1998
---------------- -----------------
ASSETS:
Current assets:
Cash and cash equivalents..................................... $ 777,488 $ 1,888,813
Restricted assets............................................. 30,000 30,000
Accounts receivable........................................... 2,108 3,371
Inventory..................................................... 26,506 37,170
Prepaid expenses and other current assets..................... 52,219 73,721
----------- -----------
Total current assets..................................... 888,321 2,033,075
Machines held for sale or lease, net.............................. 240,117 233,885
Property and equipment, net....................................... 140,398 110,053
Other assets...................................................... 18,505 18,505
Investment in Digital Asset Management, Inc....................... -- 401,924
Intangible assets, net............................................ 51,016 447,930
----------- -----------
Total assets............................................. $ 1,338,357 $ 3,245,372
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses............................. $ 213,400 $ 174,733
----------- -----------
Total current liabilities................................ 213,400 174,733
----------- -----------
Commitments and contingencies --
Stockholders' equity:
Preferred stock, $.01 par value. Authorized 5,000,000
shares; no shares issued and outstanding................... -- --
Common stock, $.01 par value. Authorized 25,000,000
shares; 3,120,000 shares issued and outstanding............ 31,200 31,200
Additional paid-in capital.................................... 8,209,944 8,209,944
Accumulated deficit........................................... (7,116,187) (5,170,505)
----------- -----------
Total stockholders' equity............................... 1,124,957 3,070,639
----------- -----------
Total liabilities and stockholders' equity............... $ 1,338,357 $ 3,245,372
=========== ===========
See accompanying Notes to Condensed Consolidated Financial Statements
3
CDSI HOLDINGS INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
Three Months Ended Six Months Ended
----------------------------------- ----------------------------------
June 30, June 30, June 30, June 30,
1999 1998 1999 1998
------------------ ---------------- ----------------- ----------------
Revenues......................................... $ 94,288 $ 24,362 $ 205,376 $ 47,511
Cost and expenses:
Cost of revenues............................ 88,867 89,868 172,190 183,440
Research and development.................... 30,010 48,188 68,453 117,673
Sales and marketing......................... 141,462 108,711 242,810 320,254
Amortization of intangible assets........... 373,617 12,606 396,979 12,606
General and administrative.................. 220,643 289,870 802,252 529,161
----------- --------- ----------- -----------
854,599 549,243 1,682,684 1,163,134
----------- --------- ----------- -----------
Operating loss................................... (760,311) (524,881) (1,477,308) (1,115,623)
----------- --------- ----------- -----------
Other income (expense):
Interest and other income................... 12,682 34,021 33,550 92,320
Equity in loss of DAMI...................... (275,478) -- (501,924) --
----------- --------- ----------- -----------
(262,796) 34,021 (468,374) 92,320
----------- --------- ----------- -----------
Net loss......................................... $(1,023,107) $(490,860) $(1,945,682) $(1,023,303)
=========== ========= =========== ===========
Net loss per share (basic and diluted)........... $ (0.33) $ (0.16) $ (0.62) $ (0.34)
=========== ========= =========== ===========
Shares used in computing net loss per share...... 3,120,000 3,058,145 3,120,000 3,015,323
=========== ========= =========== ===========
See accompanying Notes to Condensed Consolidated Financial Statements
4
CDSI HOLDINGS INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Six Months Ended
----------------------------
June 30, June 30,
1999 1998
----------- ----------
Cash flows from operating activities:
Net loss................................................................ $(1,945,682) $(1,023,303)
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation.......................................................... 17,043 35,114
Amortization of intangible assets..................................... 396,979 --
Equity loss in DAMI................................................... 501,924 --
Changes in assets and liabilities:
Accounts receivable................................................ 1,263 3,148
Purchase of machines held for lease................................ (8,216) (41,508)
Prepaid expenses and other current assets.......................... 32,166 122,073
Accrued expenses................................................... 77,980 11,249
Deferred revenues.................................................. -- (2,392)
----------- ----------
Net cash used in operating activities...................................... (926,543) (895,619)
----------- ----------
Cash flows from (used in) investing activities:
Increase in restricted assets........................................... -- (467,000)
Sale of short-term investments.......................................... -- 3,498,116
Issuance of loan to DAMI................................................ (100,000) --
Acquisition of business................................................. (39,313) (104,250)
Acquisition of property and equipment................................... (45,469) (55,173)
----------- ----------
Net cash flows from (used in) investing activities......................... (184,782) 2,871,693
----------- ----------
Cash flows from financing activities:
Deferred finance charges................................................ -- (10,000)
----------- ----------
Net cash flows provided from financing activities.......................... -- (10,000)
----------- ----------
Net increase in cash....................................................... (1,111,325) 1,966,074
Cash and cash equivalents at beginning of period........................... 1,888,813 949,157
----------- ----------
Cash and cash equivalents at end of period................................. $ 777,488 $2,915,231
=========== ==========
Detail of acquisition:
Fair value of assets acquired........................................... $ -- $ 339,750
Liabilities assumed..................................................... -- 61,500
See accompanying Notes to Condensed Consolidated Financial Statements
5
CDSI HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(1) BUSINESS AND ORGANIZATION
CDSI Holdings Inc. (the "Company" or "CDSI") was incorporated in
Delaware on December 29, 1993. On January 12, 1999, the Company's
stockholders voted to change the corporate name of the Company from
PC411, Inc. to CDSI Holdings Inc. Prior to May 8, 1998, the Company's
principal business was an on-line service that transmits name, address,
telephone number and other related information digitally to users of
personal computers. On May 8, 1998, the Company acquired Controlled
Distribution Systems, Inc. ("CDS", formerly known as Coinexx
Corporation), a company engaged in the marketing and leasing of an
inventory control system for tobacco products.
CDS ACQUISITION
On May 8, 1998, the Company acquired CDS, a company engaged in the
marketing and leasing of an inventory control system for tobacco
products. Under the terms of the acquisition, the former CDS
stockholders received 147,500 shares of the Company's Common Stock at
closing. In addition, the Company will issue an additional 147,500
shares to CDS stockholders on each of the second, third and fourth
anniversaries of the closing provided that on each such delivery date
CDS is actively engaged in the business it is now engaged. The schedule
for the deferred deliveries of stock is subject to acceleration if the
Company's Common Stock trades at $15 per share for 60 consecutive
trading days. The former president ("the Executive") resigned from CDS
effective February 28, 1999 and is entitled under his employment
agreement to receive salary for a one-year period following his
termination of employment. The Company recorded severance expense of
$105,951 associated with the Executive's termination in the first
quarter of 1999. The Executive was also granted options to purchase
110,000 shares of Common Stock of the Company at $1.50 per share. CDS
did not have any significant tangible assets at the time of acquisition.
The aggregate of the fair value of the shares issued and issuable to the
CDS stockholders as consideration for the acquisition of $339,250 and
the legal and other costs incurred in the acquisition of $104,250 were
capitalized and were being amortized over an estimated useful life of
five years. In the second quarter of 1999, based on the results of such
business since the acquisition and future projections, the Company
expensed the remaining unamortized acquisition costs of $340,017. In
1998, CDS acquired substantially all of the assets of TD Rowe
Corporation's New York state cigarette vending route, including vending
machines, for $59,250. CDS paid $20,000 in 1998 and the remaining $39,250
in the first quarter of 1999. CDS amortizes the costs of the vending
route over an estimated useful life of five years.
6
CDSI HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
(UNAUDITED)
DAMI TRANSACTION
On November 5, 1998, the Company contributed the non-cash assets and
certain liabilities of its on-line electronic delivery information
service (the "PC411 Service") to Digital Asset Management, Inc.
("DAMI"). DAMI was a newly formed corporation organized by Dean Eaker,
the former President, Chief Executive Officer and a director of the
Company, and Edward Fleiss, the former Vice President and Chief
Technology Officer of the Company, to continue to operate and develop
the PC411 Service. The Company received 1,250 shares of preferred stock
representing an initial 42.5% interest in DAMI in exchange for the
contribution of the PC411 Service's net assets. Acxiom Corporation
("Acxiom") purchased preferred stock representing a 42.5% interest in
DAMI for $1,250,000 and initially designated a majority of the Board of
Directors of DAMI. DAMI's management, including Messrs. Eaker and
Fleiss, held an initial 15% interest in DAMI with options which would
have increased their ownership position to 50% upon satisfaction of
operational and financial benchmarks over a three-year period. The
Company's carrying value in the net assets contributed to DAMI totaled
$73,438. The Company recorded $462,360 as a capital contribution in
connection with the transaction, which represented the Company's 42.5%
interest in the capital raised by DAMI in excess of the carrying value
of the Company's net assets contributed to DAMI. The Company agreed,
under certain conditions, to fund up to $200,000 of an $800,000 working
capital line to be provided to DAMI by Acxiom, the Company and Dean
Eaker. The Company funded $100,000 of the working capital line in the
second quarter of 1999.
On July 7, 1999, DAMI issued $550,000 of 8% convertible notes due March
31, 2000 to outside investors. The notes are convertible into 400 shares
of DAMI preferred stock. The convertible note holders also received
warrants to purchase 300 shares of DAMI preferred stock at $1,500 per
share. In connection with the issuance of the notes, Eaker and Acxiom
agreed to extend the maturity of their working capital lines from June
30, 1999 to March 31, 2000 and received warrants to purchase 200 and 100
preferred shares, respectively, at $1,500 per share. The Eaker and
Acxiom working capital lines are also convertible into 267 and 133
shares, respectively, of DAMI preferred stock at $1,500 per share. In
connection with the issuance of the notes, the Company agreed to extend
the maturity of its working capital line from June 30, 1999 to August
31, 1999 and was released from any further obligation to fund additional
amounts under the working capital line. The Company's interest in DAMI
would decrease from 42.5% to 28.8% assuming the conversion of all notes
and warrants issued in the transaction.
The Company is accounting for its non-controlling interest in DAMI using
the equity basis of accounting after November 5, 1998. The Company's
equity in DAMI's losses for the three and six months ended June 30, 1999
has been adjusted to reflect the difference in the Company's
contribution of its net assets to DAMI and the fair value of those
assets recorded by DAMI. In the second quarter of 1999, the cumulative
equity in DAMI's losses exceeded the Company's investment in DAMI of
$635,798, which consisted of the initial carrying value in DAMI of
$535,798 and the loan of $100,000 under the working capital line to
DAMI. Since the Company accounts for its investment in DAMI under the
equity method of accounting and has no intention or commitment to fund
future DAMI losses, the Company's investment in DAMI is carried at $0.
7
CDSI HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
(UNAUDITED)
Summarized financial information as of June 30, 1999 and December 31,
1998 and for the three and six month periods ended June 30, 1999 for DAMI
follows:
June 30, 1999 December 31, 1998
------------- -----------------
Current assets.................................. $ 156,768 $ 728,248
Furniture and fixtures, net..................... 203,481 168,022
Noncurrent assets............................... 21,835 21,835
Intangible assets, net.......................... 1,267,269 1,174,839
Current liabilities............................. 194,502 77,878
Notes payable................................... 850,000 --
Stockholders' equity............................ 604,851 2,015,066
Three Months Ended Six Months Ended
June 30, 1999 June 30, 1999
------------- -------------
Revenues........................................ $ 11,085 $ 25,652
Costs and expenses.............................. 777,047 1,438,663
Interest income................................. 2 2,796
Net loss........................................ (765,960) (1,410,215)
(2) PRINCIPLES OF REPORTING
The financial statements of the Company presented herein have been
prepared by the Company and are unaudited. In the opinion of management,
all adjustments, consisting only of normal recurring adjustments,
necessary to present fairly the financial position as of June 30, 1999
and the results of operations and cash flows for all periods presented
have been made. Results for the interim periods are not necessarily
indicative of the results for the entire year.
The accompanying financial statements have been prepared assuming the
Company will continue as a going concern. Management is currently
evaluating alternatives to implement in the event that the Company's
liquidity requirements in the next twelve months exceed its present cash
and cash equivalents. Such alternatives include seeking additional
investors and/or lenders and disposing of the Company's interest in
DAMI. Although there can be no assurance, the Company believes that it
will be able to continue as a going concern for the next twelve months.
These financial statements should be read in conjunction with the
audited financial statements and notes thereto for the year ended
December 31, 1998 included in the Company's Form 10-KSB, as amended
(Commission File No. 0001-22563).
USE OF ESTIMATES
The preparation of the financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities
and disclosure of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenue and expenses
during the reporting period. Actual results could differ from those
estimates.
8
CDSI HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
(UNAUDITED)
(3) RELATED PARTY TRANSACTIONS
Certain accounting and related finance functions are performed on behalf
of the Company by employees of New Valley Corporation, the principal
stockholder of the Company. Expenses incurred relating to these
functions are allocated to the Company and paid as incurred to New
Valley based on management's best estimate of the cost involved. The
amounts allocated were immaterial for all periods presented herein.
(4) NET LOSS PER SHARE
Basic loss per share of common stock is computed by dividing net loss
applicable to common stockholders by the weighted average shares of
common stock outstanding during the period (3,120,000 shares). Diluted
per share results reflect the potential dilution from the exercise or
conversion of securities into common stock.
Stock options, warrants and contingent shares (both vested and
non-vested) totaling 3,421,788 and 3,839,243 shares at June 30, 1999 and
1998, respectively, were excluded from the calculation of diluted per
share results presented because their effect was anti-dilutive.
Accordingly, diluted net loss per common share is the same as basic net
loss per common share.
(5) CONTINGENCIES
In May 1999, the Company agreed to settle a lawsuit asserted by a former
employee seeking a severance payment. During the first quarter of 1999,
the Company accrued $165,000 for the settlement and associated legal
fees and expenses. The amount was paid in the second quarter of 1999.
9
CDSI HOLDINGS INC. AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Overview
We presently have two lines of business: the marketing of an inventory control
system for tobacco products through our subsidiary, Controlled Distribution
Systems, Inc. ("CDS"), and the delivery of an on-line electronic directory
information service through our investment in Digital Asset Management Inc.
("DAMI").
CDS. In May, 1998, we acquired the stock of CDS, a company engaged in the
marketing and leasing of an inventory control system for tobacco products.
Under the terms of the acquisition, the former CDS stockholders received
147,500 shares of our Common Stock at closing. We also agreed to issue an
additional 147,500 shares to the former CDS stockholders on each of the second,
third and fourth anniversaries of the closing if, on each such delivery date,
CDS was actively engaged in the business it is now engaged. The schedule for
the deferred deliveries of stock is subject to acceleration if our Common Stock
trades at $15 per share for 60 consecutive trading days. The former President
of CDS ("the Executive") resigned from CDS, effective February 28, 1999 and is
entitled under his employment agreement to receive salary for a one-year period
following his termination of employment. We recorded severance expense of
$105,951 associated with the Executive's termination in the first quarter of
1999. The Executive was also granted options to purchase 110,000 shares of our
Common Stock at $1.50 per share. CDS did not have any significant tangible
assets at the time of acquisition. The aggregate of the fair value of the
shares issued and issuable to the CDS stockholders as consideration for the
acquisition of $339,250 and the legal and other costs incurred in the
acquisition of $104,250 have been capitalized and will be amortized over an
estimated useful life of five years. In the second quarter of 1999, based on
the results of such business since acquisition and future projections, we
expensed the remaining unamortized acquisition costs of $340,017.
CDS markets a dispensing machine for cigarettes, which is controlled by a
remote-control device. This machine, the Coinexx Star 10, distributes and is
designed to replace the current money-operated cigarette vending machine. CDS'
product is differentiated from the current money-operated vending machine by a
remote-control transmitter, which may only be activated by an authorized
individual. Thus, the Coinexx Star 10 requires a face-to-face transaction
between the operator (typically a cashier) and the customer wishing to purchase
cigarettes. CDS' management believes that this method for dispensing cigarettes
would be permitted under the final Food and Drug Administration regulations
issued August 28, 1996. Nonetheless, nothing prohibits various state and local
governments from enacting laws, ordinances or regulations prohibiting CDS'
method for dispensing cigarettes. We were recently informed by the city of
Minneapolis, Minnesota, where we had leased seven machines, that it had enacted
such an ordinance. CDS' principal market for its equipment consists of
restaurants, bars and taverns. CDS depreciates the equipment over five years. As
of August 13, 1999, CDS had entered into approximately 90 leases for machines in
addition to the machines leased in Minneapolis.
In December 1998, CDS acquired substantially all of the assets of TD Rowe
Corporation's New York state cigarette vending route, including vending
machines, for $59,250. We paid $20,000 at closing and the remaining $39,250 in
the first quarter of 1999. As part of the transaction, we also purchased the
inventory in the machines for $29,158.
10
CDSI HOLDINGS INC. AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS - (CONTINUED)
DAMI. On November 5, 1998, we contributed the non-cash assets and certain
liabilities of our on-line electronic delivery information service (the "PC411
Service") to Digital Asset Management, Inc. ("DAMI"). The assets contributed
include the tradename for "PC411 for Windows 3.0", distribution agreements with
equipment manufacturers, subscriber contracts for the PC411 Service, our
internet site and domain name, all property, plant and equipment, including
hardware and software, relating to the PC411 Service and all accounts
receivable, inventories and prepaid expenses relating to the PC411 Service. The
contributed assets did not include our cash and marketable securities and other
financial investments. The liabilities assumed by DAMI included our obligations
to Acxiom Corporation ("Acxiom") under a data licensing agreement, $10,000 of
liabilities under OEM distribution agreements, our obligations to provide the
PC411 Service to subscribers and $10,000 of other pre-closing liabilities.
DAMI was organized by Dean Eaker, our former President, Chief Executive Officer
and director, and Edward Fleiss, our former Vice President and Chief Technology
Officer, to continue to operate and develop the PC411 Service. We received
preferred stock representing an initial 42.5% interest in DAMI in exchange for
the contribution of the PC411 Service. Acxiom purchased preferred stock
representing a 42.5% interest in DAMI for $1,250,000 and initially designated a
majority of the Board of Directors of DAMI. DAMI's management, including
Messrs. Eaker and Fleiss, held an initial 15% interest in DAMI with options
which would have increased their ownership position to 50% upon satisfaction of
operational and financial benchmarks over a three-year period. As a result, we
have accounted for our interest in the PC411 Service by using the equity method
of accounting after November 5, 1998. We recorded $462,360 as a capital
contribution in connection with the transaction, which represented our 42.5%
interest in the capital raised by DAMI in excess of the carrying value of our
net assets contributed to DAMI. We agreed, under certain conditions, to fund up
to $200,000 of an $800,000 working capital line to be provided to DAMI by
Acxiom, Dean Eaker and us. We funded $100,000 of the working capital line in
the second quarter of 1999.
On July 7, 1999, DAMI issued $550,000 of 8% convertible notes due March 31,
2000 to outside investors. The notes are convertible into 400 shares of DAMI
preferred stock. The convertible note holders also received warrants to
purchase 300 shares of DAMI preferred stock at $1,500 per share. In connection
with the issuance of the notes, Eaker and Acxiom agreed to extend the maturity
of their working capital lines from June 30, 1999 to March 31, 2000 and
received warrants to purchase 200 and 100 preferred shares at $1,500 per share.
The Eaker and Acxiom working capital lines also are convertible into 267 and
133 shares of DAMI preferred stock at $1,500 per share. Further, in connection
with the issuance of the notes, we agreed to extend the maturity of our working
capital line from June 30, 1999 to August 31, 1999 and were released from any
further obligation to fund additional amounts under the working capital line.
Our interest in DAMI would decrease from 42.5% to 28.8% assuming the conversion
of all notes and warrants issued in the transaction.
We may also seek to acquire other businesses and/or properties, which may or
may not be related to our existing businesses. Acquisitions involve numerous
risks, including difficulties in the assimilation of the operations and
products or services of the acquired companies, the expenses incurred in
connection with the acquisition and subsequent assimilation of operations and
products or services, the diversion of management's attention from other
business concerns and the potential loss of key employees of the acquired
company. We may also face increased competition for acquisition opportunities
which may inhibit our ability to consummate suitable acquisitions on terms
favorable to us. There can be no assurance that we will successfully identify,
complete or integrate any future acquisitions, or that acquisitions, if
completed, will contribute favorably to our operations and future financial
condition.
11
CDSI HOLDINGS INC. AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS - (CONTINUED)
Our operating results may fluctuate significantly in the future as a result of
a variety of factors, many of which are outside our control. In addition, we do
not have historical financial data for any significant period of time on which
to base planned operating expenses. Our expense levels are based in part on our
expectations concerning future revenue and to a large extent are fixed.
Quarterly revenue and operating results depend substantially upon signing up
new customers and retaining such customers which are difficult to forecast
accurately. We may be unable to adjust spending in a timely manner to
compensate for any unexpected revenue shortfall, and any significant shortfall
in revenue in relation to our expectations would have an immediate adverse
effect on our business, results of operations and financial condition. In
addition, we currently expect CDS to increase significantly its operating
expenses as it builds its sales and marketing staff, increases product
development spending and invests in infrastructure. To the extent that such
expenses precede or are not subsequently followed by increased revenue, our
business, results of operations and financial condition will be materially and
adversely affected.
Year 2000 Costs. We have evaluated the implementation of the century date
change on our internal computer systems and those of CDS and DAMI and believe
we are all Year 2000 compliant. CDS believes that its dispensing machine is
Year 2000 compliant and we have been informed by DAMI that the PC411 Service is
Year 2000 compliant. Furthermore, we use personal computers less than three
years old for all accounting functions. However, the failure of our service
providers to resolve their own processing issues in a timely manner could
result in a material financial risk. As a result, we are presently confirming
that our service providers are adequately addressing Year 2000 issues. However,
there can be no complete assurance of success, or that interaction with service
providers will not impair CDS' and DAMI's services.
Results of Operations
For the six months ended June 30, 1999 and 1998, the results of operations of
our primary operating units, which include the PC411 Service and CDS, were as
follows. We acquired CDS on May 8, 1998. We contributed the PC411 Service to
DAMI in exchange for preferred stock in DAMI on November 5, 1998. We have
accounted for our interest in the PC411 Service using the equity method of
accounting subsequent to November 5, 1998.
Three Months Ended June 30, Six months ended June 30,
----------------------------------- ----------------------------------
1999 1998 1999 1998
----------------- ----------------- ---------------- -----------------
CDS
Revenues................................ $ 94,288 $ -- $ 205,376 $ --
Cost of revenues........................ 88,867 -- 172,190 --
Research and development................ 30,010 -- 68,453 --
Sales and marketing..................... 141,462 -- 242,810 --
Amortization of intangible assets....... 373,617 12,606 396,979 12,606
General and administrative.............. 205,386 73,367 510,334 73,367
---------- --------- ----------- ---------
Total expenses..................... 839,342 85,973 1,390,766 85,973
---------- --------- ----------- ---------
Operating loss.......................... $ (745,054) $ (85,973) $(1,185,390) $ (85,973)
========== ========= ========== =========
12
CDSI HOLDINGS INC. AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS - (CONTINUED)
PC411 Service
Revenues................................ $ -- $ 24,363 $ -- $ 47,511
--
Cost of revenues........................ -- 89,868 -- 183,440
Research and development................ -- 48,188 -- 88,424
Sales and marketing..................... -- 108,711 -- 320,254
General and administrative.............. -- 190,427 -- 384,939
---------- --------- ----------- ---------
Total expenses..................... -- 437,194 -- 977,057
---------- --------- ----------- ---------
Operating loss.......................... $ -- $(412,831) $ $(929,546)
========== ========= =========== =========
Corporate and other
Revenues................................ $ -- $ -- $ -- $ --
--
Cost of revenues........................ -- -- -- --
Research and development................ -- -- -- 29,249
Sales and marketing..................... -- -- -- --
General and administrative.............. 15,157 26,077 291,818 70,855
---------- --------- ----------- ---------
Total expenses..................... 15,157 26,077 291,818 100,104
---------- --------- ----------- ---------
Operating loss.......................... $ (15,157) $ (26,077) $ (291,818) $(100,104)
========== ========= =========== =========
CDS
Revenues. CDS had revenues of $94,288 and $205,376 for the three and six months
ended June 30, 1999. The revenues for the three-month period resulted from the
following: $9,066 from machine leases, $3,546 from machine sales and $81,676
from the sales of cigarettes. The revenues for the six month period resulted
from the following: $15,514 from machine leases, $14,766 from machine sales and
$175,096 from the sales of cigarettes. CDS acquired substantially all of the
assets of TD Rowe Corporation's New York state cigarette vending route in
December 1998.
Cost of Revenues. Cost of revenues of $88,867 and $172,190 for CDS for the
three and six months ended June 30, 1999 consisted primarily of costs of
cigarettes of $67,876 and $137,107 in each respective period. Cost of revenues
also included warehouse expenses and shipping of machines held for lease or
sale. We depreciate our machines held for lease over five years once the asset
is placed in service and remove the machine and related accumulated
depreciation from our financial statements upon sale.
Sales and Marketing Expenses. Sales and marketing expenses for CDS were
$141,462 and $242,810 for the three and six months ended June 30, 1999. The
expenses consisted principally of personnel costs and expenses associated with
trade shows.
General and Administrative Expenses. General and administrative expenses for
CDS were $205,386 and $510,334 for the three and six months ended June 30,
1999. The CDS expenses consisted principally of payroll, amortization of
intangible assets, consulting and office expenses. The expenses for the six
month period also included severance charges associated with the termination of
an executive of $105,951. General and administrative expenses for the three and
six months ended June 30, 1998 consisted primarily of payroll and consulting
expenses.
13
CDSI HOLDINGS INC. AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS - (CONTINUED)
Amortization of Intangible Assets. We amortize intangible assets over a 60-month
life. We wrote off $340,017 of acquisition costs of the CDS business in the
three months ended June 30, 1999. The write-off of the acquisition costs was
based on the results of such business since the date of acquisition and future
projections.
THE PC411 SERVICE
Revenues. Our revenues from the PC411 Service in 1998 were derived from
registration fees and usage charges for the modem dial-up PC411 service.
Revenues were recognized over the period in which the related services were
provided. Revenues for the PC411 Service for the three and six months ended
June 30, 1998 were $24,363 and $47,511. Our policy is to recognize revenues
over the period that the services are provided.
Cost of Revenues. Cost of revenues consisted primarily of the cost of data and
the distribution fees payable to OEM partners, employee compensation and
depreciation associated with the maintenance of the PC411 Service in 1998. Cost
of revenues for the three and six months ended June 30, 1998 were $89,868 and
$183,440.
Research and Development. Research and development expenses consisted primarily
of employee compensation associated with the design, programming, and testing
of the PC411 service. Research and development expenses for the three and six
months ended June 30, 1998 were $48,188 and $88,424.
Sales and Marketing Expenses. Sales and marketing expenses consisted primarily
of direct mail, public relations, print advertising, and trade shows. Sales and
marketing expenses for the three and six months ended June 30, 1998 were
$108,711 and $320,254.
General and Administrative Expenses. General and administrative expenses
consist primarily of expenses for administration, office operations, and
general management activities, including legal, accounting, and other
professional fees. General and administrative expenses for the PC411 Service
were $190,427 and $384,939 for the three and six months ended June 30, 1998.
CORPORATE AND OTHER
Expenses associated with corporate activities were $15,157 and $291,818 for the
three and six months ended June 30, 1999, as compared to $26,077 and $100,104
for the same periods in the prior year. The increase in the six month period
was primarily due to amounts accrued for the settlement of a lawsuit and
associated legal fees and expenses. The balance of the expenses were primarily
associated with costs necessary to maintain a public company.
OTHER INCOME (EXPENSE)
Interest and other income was $12,682 and $33,550 for the three and six months
ended June 30, 1999, compared to $34,021 and $92,320 for the three and six
months ended June 30, 1998. The decrease is principally related to lower
balances in cash and cash equivalents in 1999. We recorded equity losses in DAMI
of $275,478 and $501,924 for the three and six months ended June 30, 1999. In
the second quarter of 1999, our cumulative equity loss attributable to DAMI
exceeded our investment of $635,798, which consisted of our initial carrying
value in DAMI of $535,798 and the loan under the working capital line of
$100,000 to DAMI. Since we have no future intention or commitment to fund future
DAMI losses, our investment in DAMI is carried at $0.
14
CDSI HOLDINGS INC. AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS - (CONTINUED)
Liquidity and Capital Resources
We have not been able to generate sufficient cash from operations and, as a
consequence, financing has been required to fund ongoing operations. We have
financed our operations to date primarily through the sale of our Preferred
Stock, secured short-term borrowings from New Valley Corporation ("NVC"), our
principal stockholder, and the proceeds of our May 1997 initial public offering
("IPO"). Three of our directors and our President and our Chief Financial
Officer are or have been executive officers of NVC.
Cash used for operations for the six months ended June 30, 1999 and 1998 was
$926,543 and $895,619, respectively. The increase is primarily due to increased
net loss ($922,379) offset by non-cash charges in 1999 related to equity loss
in DAMI of $501,924, increased depreciation and amortization of $396,979
associated with CDS and a net increase in accrued expenses of $66,731.
Cash used in investing activities was $184,782 for the six months ended June
30, 1999 compared with cash provided from investing activities of $2,871,693
for same period in the prior year. Cash used in investing activities for the
1999 period resulted primarily from acquisition of substantially all of the
assets of TD Rowe Corporation's New York state cigarette vending route,
including vending machines, for $59,250. We paid $20,000 in 1998 and the
remaining $39,250 in the first quarter of 1999. We will amortize the costs of
the vending route over an estimated useful life of five years.
Cash provided from investing activities for the six months ended June 30, 1998
of $2,871,693 consisted primarily of sale of short-term investments of
$3,498,116, offset by increases in restricted assets of $467,000 and costs
associated with the acquisition of CDS of $104,250.
Our capital expenditures of $45,469 for the six months ended June 30, 1999
consisted primarily of the purchase of a booth for trade shows and a vehicle.
We expect capital expenditures will be approximately $50,000 for the year ended
December 31, 1999.
In connection with the DAMI transaction, we agreed, under certain
circumstances, to fund up to $200,000 of an $800,000 line of credit to be
provided to DAMI by various of its stockholders. We funded $100,000 of the
working capital line in 1999. On July 8, 1999, we were released from any
further obligation to fund additional amounts under the working capital line.
Effective May 1, 1999, we entered into a sublease for our former headquarters
in Inglewood, California. We expensed approximately $25,000 associated with the
costs to locate a new tenant and the relocation of our headquarters.
Nonetheless, the agreement is a sublease and no assurance can be given that we
will not ultimately be liable for future lease payments.
In May, 1999 we agreed to settle a lawsuit brought by a former employee seeking
a severance payment. We have accrued $165,000 for the settlement and associated
legal fees and expenses. The amounts were paid in the second quarter of 1999.
We expect that cash used in operating activities could increase in the future.
The timing of our future capital requirements, however, cannot be accurately
predicted. Our capital requirements depend upon numerous factors, principally
the acceptance and use of CDS' product and our ability to generate revenue. If
capital requirements vary materially from those currently planned, we may
require additional financing, including, but not limited to the sale of equity
or debt securities. We have no commitments for any additional financing, and
there can be no assurance that any such commitments can be obtained. Any
additional equity financing may be dilutive to our existing stockholders, and
debt financing, if available, may involve pledging some or all of our assets
and may contain restrictive covenants with respect to raising future capital
and other financial and operational matters.
15
CDSI HOLDINGS INC. AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS - (CONTINUED)
The accompanying financial statements have been prepared assuming we will
continue as a going concern. Management is currently evaluating alternatives to
implement in the event that our liquidity requirements in the next twelve
months exceed our present cash and cash equivalents. Such alternatives include
seeking additional investors and/or lenders and disposing of our interest in
DAMI. Although there can be no assurance, we believe that we will be able to
continue as a going concern for the next twelve months.
We or our affiliates, including NVC, may, from time to time, based upon present
market conditions, purchase shares of our Common Stock in the open market or in
privately negotiated transactions.
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
We and our representatives may from time to time make oral or written
"forward-looking statements" within the meaning of the Private Securities
Reform Act of 1995 (the "Reform Act"), including any statements that may be
contained in the foregoing "Management's Discussion and Analysis of Financial
Condition and Results of Operations", in this report and in other filings with
the Securities and Exchange Commission and in our reports to stockholders,
which represent our expectations or beliefs with respect to future events and
financial performance. These forward-looking statements are subject to certain
risks and uncertainties and, in connection with the "safe-harbor" provisions of
the Reform Act, we have identified under "Risk Factors" in Item 1 of our Form
10-KSB for the year ended December 31, 1998 filed with the SEC and in this
section important factors that could cause actual results to differ materially
from those contained in any forward-looking statements made by us or on our
behalf.
Our plans and objectives are based, in part, on assumptions involving the
market acceptance of CDS' and DAMI's respective products and services,
continued growth and expansion of the Internet, our ability to market
successfully the Coinexx Star 10 System as a legally permitted and more
convenient and reliable alternative to current comparable and widely used
tobacco dispensing control systems and that there will be no unanticipated
material adverse change in our business or regulatory developments. Assumptions
relating to the foregoing involve judgments with respect to, among other
things, future economic, competitive, regulatory and market conditions and
future business decisions, all of which are difficult or impossible to predict
accurately and many of which are beyond our control.
Results actually achieved may differ materially from expected results included
in these statements as a result of these or other factors particularly in light
of our early stage operations. Due to such uncertainties and risks, you are
cautioned not to place undue reliance on such forward-looking statements, which
speak only as of the date on which such statements are made. We do not
undertake to update any forward-looking statement that may be made from time to
time on our behalf.
16
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Reference is made to information entitled "Contingencies" in Note 5 to
our Financial Statements included elsewhere in this report on Form
10-QSB.
Item 2. Changes in Securities and Use of Proceeds
On May 21, 1997, we completed an initial public offering ("IPO") of
1,322,500 units (including 172,500 units from the exercise of the
underwriter's over-allotment option), each unit consisting of one
share of Common Stock and one Warrant. The units were sold for $5.75
each and we received, after expenses of the IPO, approximately $5.9
million in net proceeds.
On August 14, 1997, we filed our initial report of sales of securities
and use of proceeds therefrom on Form SR. Form SR has been
discontinued and the we will continue to report the following
information in our quarterly and annual filings until the proceeds
have been fully used.
1. The offering commenced May 14, 1997 and all registered securities
were sold.
2. The managing underwriter was Biltmore Securities, Inc.
3. Title of Securities:
a. Units - Each Unit consists of one share of Common Stock
and one Warrant.
b. Common Stock - Common Stock included in Units, par value
$.01.
c. Warrants - Each Warrant is convertible into one share of
Common Stock at an exercise price of $6.10.
d. Common stock issuable upon conversion of the Warrants
("Other Common Stock").
e. Underwriter's Options - The Underwriter's Options are
convertible into Units at an exercise price of $9.49 per
Unit.
17
4. The Amount and Aggregate Offering Price of Securities Registered
and Sold to Date For the Account of the Issuer:
Aggregate Price of
Amount Offering Amount
Title of Security Registered Registered Amount Sold
-------------------- ---------- ------------------ -----------
Units 1,322,500 $7,604,375 1,322,000
Common Stock 1,322,500 -- --
Warrants 1,322,500 -- --
Other Common Stock 1,322,500 $8,067,250 --
Underwriter's Options 73,600 $1,147,424 --
5. Expenses Incurred in Connection with Issuance of Securities:
Underwriting discounts and commissions $760,438
Expenses paid to underwriters $228,131
Other expenses (estimated) $730,880
(All expenses were direct or indirect to others)
6. Net offering proceeds after the total expenses above were
$5,885,000.
7. Amount of net offering proceeds used for each of the purposes
listed below:
Amounts paid to affiliates of the Company:
Repayment of Indebtedness; preferred stock dividends $ 619,016
Amounts paid to others:
Temporary investments:
Money market cash accounts $ 777,488
Commercial paper $ 30,590
Purchase of machines held for lease/sale $ 482,838
Loan to Digital Asset Management, Inc. $ 100,000
Purchase of equipment $ 202,452
Employee compensation - estimated $1,438,305
Costs associated with acquisition of CDS $ 104,250
Costs associated with acquisition of vending route $ 59,250
Other working capital - estimated $2,070,811
18
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
27 Financial Data Schedule (for SEC use only).
(b) Reports on Form 8-K
None.
19
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
PC411, INC.
(Registrant)
Date: August 16, 1999 By: /s/ J. Bryant Kirkland III
---------------------------------
J. Bryant Kirkland III
Vice President, Treasurer
and Chief Financial Officer
(Duly Authorized Officer and
Chief Accounting Officer)
20