UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
-----------------
FORM 10-Q/A
AMENDMENT NO. 1
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2002
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ___ to ___.
COMMISSION FILE NUMBER 0-29794
PUBLICARD, INC.
(Exact name of registrant as specified in its charter)
PENNSYLVANIA 23-0991870
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
620 FIFTH AVENUE, 7th FLOOR, NEW YORK, NY 10020
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code: (212) 651-3102
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ].
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes [ ] No [X]
Number of shares of Common Stock outstanding as of August 13, 2002: 24,190,902
EXPLANATORY NOTE
This Amendment No. 1 to PubliCARD Inc.'s quarterly report on Form 10-Q
for the period ended June 30, 2002, is filed to include restated financial
statements. As discussed in Note 1 to the consolidated financial statements
included in Part I, Item 1 and Management's Discussion and Analysis of Financial
Condition and Results of Operations included in Part I, Item 2, the Company
adopted the provisions of Statement of Financial Accounting Standards No. 142,
"Goodwill and Other Intangible Assets" ("SFAS No. 142"), effective January 1,
2002. Upon the adoption of SFAS No. 142, the Company failed to separate
identifiable definite lived intangible assets from goodwill. As a result, the
Company did not record the amortization expense associated with identifiable
definite lived intangibles amounting to $144,000 in each of the first three
quarters of 2002. The accompanying unaudited consolidated financial statements
have been restated to reflect such amortization. Accordingly, goodwill and
intangibles, total assets and shareholders' equity as of June 30, 2002 have been
reduced by $288,000 and the net loss for the three months and six months ended
June 30, 2002 has been increased by $144,000 and $288,000, respectively. This
restatement has no impact on cash balances or net cash flow for any period
either historically or going forward. Except as described in this Explanatory
Note, this Form 10-Q/A does not reflect events occurring after the filing of the
original Form 10-Q on August 13, 2002, or modify or update those disclosures in
any material way other than as required to reflect the effects of the
restatement.
1
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
PUBLICARD, INC.
AND SUBSIDIARY COMPANIES
CONDENSED CONSOLIDATED BALANCE SHEETS AS OF
JUNE 30, 2002 AND DECEMBER 31, 2001
(IN THOUSANDS, EXCEPT SHARE DATA)
JUNE 30, DECEMBER 31,
2002 2001
---- ----
(unaudited)
(As restated-
See Note 11)
ASSETS
Current assets:
Cash, including short-term investments of $2,225 in 2002 and $4,199 in 2001 $ 2,520 $ 4,479
Trade receivables, less allowance for doubtful accounts of $185 in 2002 1,334 1,410
and $216 in 2001
Inventories 596 557
Other 333 770
------- -------
Total current assets 4,783 7,216
Equipment and leasehold improvements, net 477 596
Goodwill and intangibles 2,515 2,803
Other assets 6,535 6,782
------- -------
$14,310 $17,397
======= =======
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Trade accounts payable $ 569 $ 1,206
Accrued liabilities 3,436 3,379
------- -------
Total current liabilities 4,005 4,585
Other non-current liabilities 5,263 5,328
------- -------
Total liabilities 9,268 9,913
------- -------
Shareholders' equity:
Class A Preferred Stock, Second Series, no par value:1,000 shares authorized;
765 and 780 shares issued and outstanding as of June 30, 2002 and
December 31, 2001, respectively 3,825 3,900
Common shares, $0.10 par value: 40,000,000 shares authorized; 24,190,902
and 24,153,402 shares issued and outstanding as of June 30, 2002 and
December 31, 2001, respectively 2,419 2,415
Additional paid-in capital 107,169 107,098
Accumulated deficit (107,327) (104,831)
Other comprehensive loss (1,044) (1,098)
------- -------
Total shareholders' equity 5,042 7,484
------- -------
$14,310 $17,397
======= =======
The accompanying notes to Condensed Consolidated Financial Statements are an
integral part of these statements.
2
PUBLICARD, INC.
AND SUBSIDIARY COMPANIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THREE AND SIX MONTHS ENDED JUNE 30, 2002 AND 2001
(IN THOUSANDS, EXCEPT SHARE DATA)
(UNAUDITED)
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------- --------
2002 2001 2002 2001
---- ---- ---- ----
(As restated- (As restated-
See Note 11) See Note 11)
Sales $ 1,016 $ 1,339 $ 2,215 $ 2,859
Cost of sales 520 661 1,156 1,493
Inventory adjustment - 1,313 - 1,313
----------- ----------- ----------- -----------
Gross margin 496 (635) 1,059 53
----------- ----------- ----------- -----------
Operating expenses:
General and administrative 761 1,225 1,694 2,526
Sales and marketing 472 1,207 899 2,500
Product development 128 918 247 1,840
Stock compensation - 42 - 58
Amortization of goodwill and intangibles 144 660 288 1,320
Repositioning charge - 4,772 - 4,772
----------- ----------- ----------- -----------
1,505 8,824 3,128 13,016
----------- ----------- ----------- -----------
Loss from operations (1,009) (9,459) (2,069) (12,963)
----------- ----------- ----------- -----------
Other income (expenses):
Interest income 15 110 29 317
Interest expense (6) (21) (21) (40)
Cost of pensions - non-operating (218) (165) (424) (381)
Other (9) 25 (11) 48
----------- ----------- ----------- -----------
(218) (51) (427) (56)
----------- ----------- ----------- -----------
Net loss from continuing operations (1,227) (9,510) (2,496) (13,019)
Discontinued operations - 2,350 - 2,350
----------- ----------- ----------- -----------
Net loss $ (1,227) $ (7,160) $ (2,496) $ (10,669)
=========== =========== =========== ===========
Basic and diluted income (loss) per common share:
Continuing operations $ (.05) $ (.40) $ (.10) $ (.54)
Discontinued operations - .10 - .10
----------- ----------- ----------- -----------
Net loss $ (.05) $ (.30) $ (.10) $ (.44)
=========== =========== =========== ===========
Weighted average common shares outstanding
24,181,527 24,210,152 24,169,473 24,221,831
=========== =========== =========== ===========
The accompanying notes to the Condensed Consolidated Financial Statements are an
integral part of these statements.
3
PUBLICARD, INC.
AND SUBSIDIARY COMPANIES
CONDENSED CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
FOR THE SIX MONTHS ENDED JUNE 30, 2002
(IN THOUSANDS, EXCEPT SHARE DATA)
(UNAUDITED)
(AS RESTATED-SEE NOTE 11)
Common Shares Other
Class A ------------- Additional Comprehen- Share-
Preferred Paid-in Accumulated sive holders'
Stock Shares Amount Capital Deficit Loss Equity
----- ------ ------ ------- ------- ---- ------
Balance - January 1, 2002 $ 3,900 24,153,402 $2,415 $ 107,098 $ (104,831) $ (1,098) $ 7,484
Conversion of preferred stock (75) 37,500 4 71 - - -
Comprehensive Loss:
Net loss - - - - (2,496) - (2,496)
Foreign currency translation
adjustment - - - - - 54 54
-------- ---------- ------ --------- ---------- --------- -------
Total comprehensive loss (2,442)
-------
Balance - June 30, 2002 $ 3,825 24,190,902 $2,419 $ 107,169 $ (107,327) $ (1,044) $ 5,042
======== ========== ====== ========= ========== ========= =======
The accompanying notes to the Condensed Consolidated Financial Statements are an
integral part of these statements.
4
PUBLICARD, INC.
AND SUBSIDIARY COMPANIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 2002 AND 2001
(IN THOUSANDS)
(UNAUDITED)
2002 2001
---- ----
(As restated-
See Note 11)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $(2,496) $(10,669)
Adjustments to reconcile net loss to net cash used in operations:
Non-cash gain from discontinued operations - (2,350)
Amortization of goodwill and intangibles 288 1,320
Stock compensation expense - 58
Depreciation 111 164
Repositioning charge - 6,085
Changes in assets and liabilities 63 (3,289)
------- --------
Net cash used in operating activities (2,034) (8,681)
------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (16) (24)
Other - (25)
Proceeds from discontinued operations and sale of fixed assets 88 194
------- --------
Net cash provided by investing activities 72 145
------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Costs incurred from private placement of Class A Preferred Stock - (37)
------- --------
Net cash used in financing activities - (37)
------- --------
Effect of exchange rate changes on cash and cash equivalents 3 (4)
------- --------
Net decrease in cash (1,959) (8,577)
Cash - beginning of period 4,479 17,049
------- --------
Cash - end of period $ 2,520 $ 8,472
======= ========
The accompanying notes to the Condensed Consolidated Financial Statements are an
integral part of these statements.
5
PUBLICARD, INC.
AND SUBSIDIARY COMPANIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
DESCRIPTION OF THE BUSINESS
PubliCARD, Inc. ("PubliCARD" or the "Company") was incorporated in the
Commonwealth of Pennsylvania in 1913. PubliCARD entered the smart card industry
in early 1998, and began to develop solutions for the conditional access,
security, payment system and data storage needs of industries utilizing smart
card technology. In 1998 and 1999, the Company made a series of acquisitions to
enhance its position in the smart card industry. In March 2000, PubliCARD's
Board of Directors (the "Board"), together with its management team, determined
to integrate its operations and focus on deploying smart card solutions, which
facilitate secure access and transactions. To effect this new business strategy,
in March 2000, the Board adopted a plan of disposition pursuant to which the
Company divested its non-core operations. See Note 6 for a discussion on the
disposition plan.
In July 2001, after evaluating the timing of potential future revenues,
PubliCARD's Board decided to shift the Company's strategic focus. While the
Board remained confident in the long-term prospects of the smart card business,
the timing of public sector and corporate initiatives in wide-scale, broadband
environments utilizing the Company's smart card reader and chip products had
become more uncertain. Given the lengthened time horizon, the Board did not
believe it would be prudent to continue to invest the Company's resources in the
ongoing development and marketing of these technologies. Accordingly, the Board
determined that shareholders' interests would be best served by pursuing
strategic alliances with one or more companies that have the resources to
capitalize more fully on the Company's smart card reader and chip-related
technologies. In connection with this shift in the Company's strategic focus,
workforce reductions and other measures were implemented to achieve cost
savings. See Note 4 for a discussion on the repositioning charge.
At present, PubliCARD's sole operating activities are conducted through
its Infineer Ltd. subsidiary ("Infineer"), which designs smart card platform
solutions for educational and corporate sites. The Company's future plans
revolve around an acquisition strategy focused on businesses in areas outside
the high technology sector while continuing to support the expansion of the
Infineer business.
LIQUIDITY AND GOING CONCERN CONSIDERATIONS
The Condensed Consolidated Financial Statements contemplate the
realization of assets and the satisfaction of liabilities in the normal course
of business. The Company has incurred operating losses, a substantial decline in
working capital and negative cash flow from operations for the six months ended
June 30, 2002 and years 2001, 2000 and 1999. The Company has also experienced a
substantial reduction in its cash and short-term investments, which declined
from $17.0 million at December 31, 2000 to $2.5 million at June 30, 2002, and
has an accumulated deficit of $107.3 million at June 30, 2002.
Although the Company believes that existing cash and short term
investments may be sufficient to meet the Company's obligations and capital
requirements at its currently anticipated levels of operations through December
31, 2002, additional working capital will be necessary in order to fund the
Company's current business plan and to ensure it is able to fund its pension,
environmental and other obligations. While the Company is actively considering
various funding alternatives, the Company has not secured or entered into any
arrangements to obtain additional funds. There can be no assurance that the
Company will be able to obtain additional funding on acceptable terms or at all.
If the Company cannot raise additional capital to continue its present level of
operations it may not be able to meet its obligations, take advantage of future
acquisition opportunities or further develop or enhance its product offering,
any of which could have a material adverse effect on its business and results of
operations and could lead to the Company being required to seek bankruptcy
protection. These conditions raise substantial doubt about the Company's ability
to continue as a going concern. The Condensed Consolidated Financial Statements
do not include any adjustments that might result from the outcome of this
uncertainty. The auditors' report on
6
PUBLICARD, INC.
AND SUBSIDIARY COMPANIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
the Company's Consolidated Financial Statements for the year ended December 31,
2001 contained an emphasis paragraph concerning substantial doubt about the
Company's ability to continue as a going concern.
PRINCIPLES OF CONSOLIDATION
The Condensed Consolidated Financial Statements include the accounts of
PubliCARD and its wholly-owned subsidiaries. All intercompany transactions are
eliminated in consolidation.
BASIS OF PRESENTATION
The accompanying unaudited Condensed Consolidated Financial Statements
reflect all normal and recurring adjustments that are, in the opinion of
management, necessary to present fairly the financial position of the Company
and its subsidiary companies as of June 30, 2002 and the results of their
operations and cash flows for the three and six months ended June 30, 2002 and
2001. Certain information and footnote disclosures normally included in
financial statements prepared in accordance with accounting principles generally
accepted in the United States of America have been omitted. These financial
statements should be read in conjunction with the financial statements and notes
thereto included in the Company's Form 10-K for the year ended December 31,
2001, as amended.
EARNINGS (LOSS) PER COMMON SHARE
Basic net income (loss) per common share is based on net income divided
by the weighted average number of common shares outstanding during each period.
Diluted net income (loss) per common share assumes issuance of the net
incremental shares from stock options, warrants and convertible preferred stock
at the later of the beginning of the year or date of issuance. Diluted net
income (loss) per share was the same as basic net income (loss) per share since
the effect of stock options, warrants and convertible preferred stock were
antidilutive.
REVENUE RECOGNITION AND ACCOUNTS RECEIVABLE.
Revenue from product sales and software license fees is recorded upon
shipment if a signed contract exists, the fee is fixed and determinable, the
collection of the resulting receivable is probable and the Company has no
obligation to install the product or solution. If the Company is responsible for
installation, revenue from product sales and software is recognized upon client
acceptance or "go live" date. Revenue from maintenance and support fees is
recognized ratably over the contract period. Provisions are recorded for
estimated warranty repairs and returns at the time the products are shipped.
Should changes in conditions cause management to determine that revenue
recognition criteria are not met for certain future transactions, revenue
recognized for any reporting period could be adversely affected.
The Company performs ongoing credit evaluations of its customers and
adjusts credit limits based upon payment history and the customer's credit
worthiness. The Company continually monitors collections and payments from its
customers and maintains a provision for estimated credit losses based upon
historical experience and any specific customer collection issues that it has
identified. While such credit losses have historically been within management's
expectations and the provisions established, there is no assurance that the
Company will continue to experience the same credit loss rates as in the past.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 141, "Business Combinations"
("SFAS No. 141"). SFAS No. 141 addresses financial accounting and reporting for
business combinations. This new statement requires that all business
combinations be accounted for using one method (the purchase method), intangible
assets be recognized apart from goodwill if they meet certain criteria and
disclosure of the primary reasons for a business combination and the allocation
of the purchase price paid to the assets acquired and liabilities assumed by
major balance sheet caption. The provisions of this statement apply to all
business combinations initiated after June 30, 2001.
7
PUBLICARD, INC.
AND SUBSIDIARY COMPANIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
In June 2001, the FASB issued Statement of Financial Accounting
Standards No. 142, "Goodwill and Other Intangible Assets" ("SFAS No. 142"). SFAS
No. 142 addresses financial accounting and reporting for acquired goodwill and
other intangible assets. Under this new statement, goodwill and intangible
assets that have indefinite useful lives will not be amortized, but rather will
be tested at least annually for impairment, or earlier if circumstances or
events indicate that impairment may have occurred, based on the specific
guidance of this statement. This may result in future write-downs or the
write-off of such assets. In addition, this statement requires disclosure of
information about goodwill and other intangible assets in the years subsequent
to their acquisition that was not previously required. The provisions of this
statement are required to be applied starting with fiscal years beginning after
December 15, 2001. However, goodwill and intangible assets acquired after June
30, 2001 were subject immediately to the non-amortization and amortization
provisions of this statement. The Company adopted this statement on January 1,
2002. The Company completed the initial impairment test in the first quarter of
2002 which did not result in an impairment of goodwill. The provisions of SFAS
No. 142 are effective for periods after adoption and retroactive application is
not permitted. Therefore, the historical results of periods prior to 2002 in the
Company's Consolidated Statements of Operations do not reflect the effect of
SFAS No. 142 and, accordingly, the first three and six months of 2001 included
amortization expense of $431,000 and $862,000, respectively. Excluding goodwill
amortization, the pro forma net loss for the three and six months ended June 30,
2001, was $6.7 million and $9.8 million, or $.28 and $.40 per share,
respectively.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets" ("SFAS No. 144"). SFAS No. 144
addresses financial accounting and reporting for the impairment or disposal of
long-lived assets. SFAS No. 144 supercedes SFAS No. 121, "Accounting for the
Impairment of Long-Lived Assets and Long-Lived Assets to be Disposed of", and
the accounting and reporting provisions of APB Opinion No. 30, "Reporting the
Results of Operations - Reporting the Effects of Disposal of a Segment of a
Business, and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions", for the disposal of a segment of a business. This statement also
amends ARB No. 51, "Consolidated Financial Statements", to eliminate the
exception to consolidation for a subsidiary for which control is likely to be
temporary. The provisions of this statement are required to be applied starting
with fiscal years beginning after December 15, 2001. The Company adopted SFAS
No. 144 in the first quarter of fiscal 2002 and determined that adoption of this
statement did not have an effect on the Company's results of operations or
financial position.
In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities" ("SFAS No. 146"). SFAS No. 146 will
supersede Emerging Issues Task Force Issue No. 94-3, "Liability Recognition for
Certain Employee Termination Benefits and Other Costs to Exit an Activity
(including Certain Costs Incurred in a Restructuring)". SFAS No. 146 requires
that costs associated with an exit or disposal plan be recognized when incurred
rather than at the date of a commitment to an exit or disposal plan. SFAS No.
146 is to be applied prospectively to exit or disposal activities initiated
after December 31, 2002.
INVENTORIES
Inventories are stated at lower of cost (first-in, first-out method) or
market. The Company evaluates the need to record adjustments for impairment of
inventory on a quarterly basis. Inventory in excess of the Company's estimated
usage requirements is written down to its estimated net realizable value.
Inherent in the estimates of net realizable value are management's estimates
related to the Company's production schedules, customer demand, possible
alternative uses and the ultimate realization of potentially excess inventory.
Inventories as of June 30, 2002 and December 31, 2001 consisted of the following
(in thousands):
8
PUBLICARD, INC.
AND SUBSIDIARY COMPANIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
2002 2001
---- ----
Raw materials and supplies $ 401 $ 389
Work-in-process 32 37
Finished goods 163 131
----- -----
$ 596 $ 557
===== =====
NOTE 2 - GOODWILL AND INTANGIBLES
Goodwill is the excess of the purchase price and related costs over the
value assigned to the net tangible and intangible assets relating to the
November 1999 acquisition of Infineer. As discussed above, upon adoption of SFAS
No. 142 on January 1, 2002, the Company ceased amortizing the remaining
goodwill. Through December 31, 2001, goodwill had been amortized over a five
year life. Intangible assets consist of completed technology identified as of
the acquisition date and are amortized over a five year life.
The Company performed an initial review for impairment of goodwill as
of January 1, 2002 and determined that no impairment existed at that date. The
Company determined the fair value of its sole reporting unit primarily using two
approaches: a market approach technique and a discounted cash flow valuation
technique. The market approach relied primarily on the implied fair value using
a multiple of revenues for several entities with comparable operations and
economic characteristics. Significant assumptions used in the discounted cash
valuation included estimates of future cash flows, future short-term and
long-term growth rates and estimated cost of capital for purposes of arriving at
a discount factor.
Goodwill and intangible assets consist of the following (in thousands):
JUNE 30, 2002 DECEMBER 31, 2001
------------------------------- ----------------------------------
GROSS ACCUMULATED GROSS ACCUMULATED
AMOUNT AMORTIZATION NET AMOUNT AMORTIZATION NET
------ ------------ ------ ------ ------------ ------
Goodwill $2,062 $ 916 $1,146 $2,062 $ 916 $1,146
Completed
technology 2,882 1,513 1,369 2,882 1,225 1,657
------ ------ ------ ------ ------ ------
$4,944 $2,429 $2,515 $4,944 $2,141 $2,803
====== ====== ====== ====== ====== ======
Amortization of goodwill and intangibles for the six months ended June
30, 2002 and 2001 was $288,000 and $1,320,000, respectively.
NOTE 3 - INVESTMENTS
In December 2000, the Company acquired an ownership interest in TecSec,
Incorporated, a Virginia corporation ("TecSec"), for $5.1 million. TecSec
develops and markets encryption products and solutions, which are designed to
enable the next generation information security for the enterprise,
multi-enterprise e-business and other markets. The TecSec investment, amounting
to a 5% ownership interest on a fully diluted basis, has been accounted for at
cost and could be subject to write-down in future periods if it is determined
that the investment is impaired and not recoverable. The Company has certain
anti-dilutive rights whereby its ownership interest may be increased following
contributions of additional third-party capital. TecSec is currently evaluating
alternative sources of financing to meet ongoing capital and operating needs. If
TecSec is not successful in executing its business plan or in obtaining
sufficient capital on acceptable terms or at all, the Company's investment in
TecSec could be permanently impaired and subject to a significant write-down.
9
PUBLICARD, INC.
AND SUBSIDIARY COMPANIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
In conjunction with the decision to exit the smart card reader and chip
business, in September 2001, the Company formed a new minority-owned affiliate,
Mako Technologies LLC ("Mako"), to market its smart card reader and chip
technologies. The Company contributed certain inventories and equipment valued
at $238,000, in exchange for a 31% fully diluted ownership interest in Mako. The
Company also granted a perpetual license of its reader and chip technology to
Mako in exchange for royalties based on sales over the next two years. After
reducing headcount and reassessing business potential, a decision was made in
April 2002 to liquidate Mako and terminate the license agreement. Pending the
final wind-down of this venture, the Company wrote-off the entire investment in
Mako in the first quarter of 2002. During early 2002, the Company also realized
proceeds of $224,000 from the sale of smart card reader and chip inventory,
which had been previously written-off. The Mako write-off and inventory proceeds
are reflected in "Other income (expenses)".
NOTE 4 - REPOSITIONING CHARGE
As discussed in Note 1, in July 2001, after evaluating the timing of
potential future revenues, PubliCARD's Board decided to shift the Company's
strategic focus. The Company recorded a charge aggregating $7.3 million in the
second and third quarters of 2001 associated with the departure from the smart
card reader and chip business. The second quarter 2001 charge consisted
principally of write-offs of goodwill of $4.1 million and fixed assets of
$630,000 and an inventory realizability adjustment of $1.3 million (included in
cost of sales) as a result of the business closure. An additional charge of $1.2
million was recorded in the third quarter of 2001 principally associated with
severance and other costs related to the termination of 36 employees. The
repositioning activities were substantially completed by December 31, 2001.
NOTE 5 - SEGMENT DATA
As a result of the disposition of certain operations (See Note 6) and
because the Company predominantly operates in one industry, that being the
deployment of smart card solutions which facilitate secure access and
transactions, the Company reports as a single segment. Sales by geographical
areas for the six months ended June 30, 2002 and 2001 are as follows (in
thousands):
2002 2001
---- ----
United States $ 420 $ 1,102
Europe 1,748 1,617
Rest of world 47 140
------- -------
$ 2,215 $ 2,859
======= =======
The Company has operations in the United States and United Kingdom.
Identifiable assets by country as of June 30, 2002 and December 31, 2001 are as
follows (in thousands):
2002 2001
---- ----
United States $ 9,345 $12,037
United Kingdom 2,450 2,557
------- -------
$11,795 $14,594
======= =======
NOTE 6 - DISCONTINUED OPERATIONS
10
PUBLICARD, INC.
AND SUBSIDIARY COMPANIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
In March 2000, the Company's Board adopted a plan to dispose of the
operations of the Company's Greenwald Industries Inc. ("Greenwald"), Greenwald
Intellicard Inc. ("Greenwald Intellicard"), Greystone Peripherals, Inc.
("Greystone") and Amazing Smart Card Technologies, Inc. ("Amazing")
subsidiaries. These subsidiaries designed, manufactured and distributed
mechanical and smart card laundry solutions, hard disk duplicators and smart
cards. In the fourth quarter of 1999, the Company recorded a loss of $2.0
million related to the disposition plan, net of the expected gain on the
disposition of these businesses. The loss provision was based on estimates of
the proceeds expected to be realized on the dispositions and the results of
operations through the disposition or wind-down dates.
On June 29, 2000, the Company completed the sale of substantially all
of the assets of Greenwald and Greenwald Intellicard to The Eastern Company
("Eastern") for $22.5 million in cash, less $1.75 million held in escrow to
secure the payment of certain indemnification obligations. As part of the
transaction, Eastern assumed certain liabilities of Greenwald and Greenwald
Intellicard, including certain contractual liabilities, accounts payable and
accrued liabilities. In the third quarter of 2000, the Company recognized a gain
of $4.3 million principally related to the sale of Greenwald and Greenwald
Intellicard.
In the second quarter of 2001, the Company revised its estimates of
proceeds and expenses associated with the wind-down of Amazing and Greystone,
which has been substantially completed, and recognized a gain of $2.4 million,
which had been previously deferred pending resolution of certain contingencies.
The amounts the Company will ultimately realize from its discontinued operations
could differ from the amounts estimated and could therefore result in additional
charges or gains in future periods.
Summarized balance sheet information with respect to the discontinued
operations as of June 30, 2002 is as follows (in thousands):
Cash held in escrow $ 2,096
Disposition reserves (1,220)
-------
Net assets of discontinued operations (non-current) $ 876
=======
NOTE 7- COMPREHENSIVE LOSS
Comprehensive loss for the Company includes foreign currency
translation adjustments as well as net loss reported in the Company's Condensed
Consolidated Statements of Operations. Comprehensive loss for the three and six
months ended June 30, 2002 and 2001 was as follows (in thousands):
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
2002 2001 2002 2001
---- ---- ---- ----
Net loss $ (1,227) $(7,160) $(2,496) $(10,669)
Foreign currency translation adjustments 80 (35) 54 (255)
-------- ------- ------- --------
Comprehensive loss $ (1,147) $(7,195) $(2,442) $(10,924)
======== ======= ======= ========
NOTE 8 - SUPPLEMENTAL CASH FLOW INFORMATION
Changes in assets and liabilities reflected in the Condensed
Consolidated Statements of Cash Flows consisted of the following for the six
months ended June 30, 2002 and 2001 (in thousands):
2002 2001
---- ----
Trade receivables $ 127 $ 132
Inventories (15) (1,022)
11
PUBLICARD, INC.
AND SUBSIDIARY COMPANIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Other current assets 442 (344)
Other assets 192 (107)
Trade accounts payable (661) (181)
Accrued liabilities 38 (700)
Other non-current liabilities (60) (1,067)
----- -------
$ 63 $(3,289)
===== =======
Cash paid for interest for the six months ended June 30, 2002 and 2001
was $59,000 and $69,000, respectively. No income taxes were paid in 2002 and
2001.
NOTE 9 - UNDERFUNDED PENSION OBLIGATION
The Company sponsors a defined benefit pension plan that was frozen in
1993. The assets of the defined benefit pension plan are managed by an outside
trustee and invested primarily in equity and fixed income securities. PubliCARD
common stock represented 1.2% of plan assets as of December 31, 2001. As of
December 31, 2001, the present value of the accrued benefit liabilities exceeded
the plan's assets by approximately $5.5 million. Contributions to the plan were
$1.1 million and $1.2 million in fiscal 2001 and 2000, respectively. For 2002,
the minimum required contributions are expected to be $1.1 million. The Company
failed to make the timely payment of the required quarterly contribution of
$253,000 to the plan due April 15, 2002. The Company paid this required
contribution on June 11, 2002.
NOTE 10 - LEGAL PROCEEDINGS
On May 28, 2002, a lawsuit was filed against the Company in the
Superior Court of the State of California, in the County of Los Angeles by
Leonard M. Ross and affiliated entities alleging, among other things,
misrepresentation and securities fraud. The lawsuit names the Company and four
of its current and former executive officers and directors as the defendants.
The plaintiffs seek monetary and punitive damages for alleged actions made by
the defendants in order to induce the plaintiff to purchase, hold or refrain
from selling PubliCARD common stock. The plaintiffs allege that the defendants
made a series of material misrepresentations, misleading statements, omissions
and concealments, specifically and directly to the plaintiffs concerning the
nature, existence and status of contracts with certain purchasers, the nature
and existence of investments in the Company by third parties, the nature and
existence of business relationships and investments by the Company.
Notice of the commencement of this action has been given to the
Company's directors and officers liability insurance carriers. The Company
believes it has meritorious defenses to the allegations and intends to defend
vigorously. The lawsuit is in the early stages. There has been no discovery and
no trial date has been set. Consequently, at this time it is not reasonably
possible to estimate the damage, or range of damages, if any, that the Company
might incur in connection with this action. However, if the outcome of this
lawsuit is unfavorable to the Company, it would have a material adverse effect
on the Company's operations, cash flow and financial position.
Various other legal proceedings are pending against the Company. The
Company considers all such proceedings to be ordinary litigation incident to the
character of its business. Certain claims are covered by liability insurance.
The Company believes that the resolution of these claims to the extent not
covered by insurance will not, individually or in the aggregate, have a material
adverse effect on the consolidated financial position or consolidated results of
operations of the Company.
NOTE 11 - RESTATEMENT
12
PUBLICARD, INC.
AND SUBSIDIARY COMPANIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
As discussed in Note 1, the Company adopted the provisions of SFAS No.
142 effective January 1, 2002. Upon the adoption of SFAS No. 142, the Company
failed to separate identifiable definite lived intangible assets from goodwill.
As a result, the Company did not record the amortization expense associated with
identifiable definite lived intangibles amounting to $144,000 in each of the
first three quarters of 2002. The accompanying unaudited consolidated financial
statements have been restated to reflect such amortization. Accordingly,
goodwill and intangibles, total assets and shareholders' equity as of June 30,
2002 have been reduced by $288,000 and the net loss for the three months and six
months ended June 30, 2002 has been increased by $144,000 and $288,000,
respectively.
13
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
RESTATEMENT
As discussed in Note 1 to the consolidated financial statements, the
Company adopted the provisions of Statement of Financial Accounting Standards
No. 142, "Goodwill and Other Intangible Assets" ("SFAS No. 142"), effective
January 1, 2002. Upon the adoption of SFAS No. 142, the Company failed to
separate identifiable definite lived intangible assets from goodwill. As a
result, the Company did not record the amortization expense associated with
identifiable definite lived intangibles amounting to $144,000 in each of the
first three quarters of 2002. The accompanying unaudited consolidated financial
statements have been restated to reflect such amortization. Accordingly,
goodwill and intangibles, total assets and shareholders' equity as of June 30,
2002 have been reduced by $288,000 and the net loss for the three months and six
months ended June 30, 2002 has been increased by $144,000 and $288,000,
respectively. The discussion below reflects the impact of the restatement.
Management's Discussion and Analysis of Financial Condition and Results
of Operations and other sections of this Form 10-Q contains forward-looking
statements, including (without limitation) statements concerning possible or
assumed future results of operations of PubliCARD preceded by, followed by or
that include the words "believes," "expects," "anticipates," "estimates,"
"intends," "plans" or similar expressions. For those statements, we claim the
protection of the safe harbor for forward-looking statements contained in the
U.S. Private Securities Litigation Reform Act of 1995. Forward-looking
statements are not guarantees of future performance. They involve risks,
uncertainties and assumptions. You should understand that the possible
consequences of such statements made under "Factors That May Affect Future
Results" and elsewhere in this document could affect our future results and
could cause those results to differ materially from those expressed in such
forward-looking statements.
OVERVIEW
PubliCARD was incorporated in the Commonwealth of Pennsylvania in 1913.
PubliCARD entered the smart card industry in early 1998, and began to develop
solutions for the conditional access, security, payment system and data storage
needs of industries utilizing smart card technology. In 1998 and 1999, the
Company made a series of acquisitions to enhance its position in the smart card
industry. In March 2000, PubliCARD's Board, together with its management team,
determined to integrate its operations and focus on deploying smart card
solutions, which facilitate secure access and transactions. To effect this new
business strategy, in March 2000, the Board adopted a plan of disposition
pursuant to which the Company divested its non-core operations. See Note 6 to
the Condensed Consolidated Financial Statements for a discussion on the
disposition plan.
In July 2001, after evaluating the timing of potential future revenues,
PubliCARD's Board decided to shift the Company's strategic focus. While the
Board remained confident in the long-term prospects of the smart card business,
the timing of public sector and corporate initiatives in wide-scale, broadband
environments utilizing the Company's smart card reader and chip products had
become more uncertain. Given the lengthened time horizon, the Board did not
believe it would be prudent to continue to invest the Company's current
resources in the ongoing development and marketing of these technologies.
Accordingly, the Board determined that shareholders' interests will be best
served by pursuing strategic alliances with one or more companies that have the
resources to capitalize more fully on the Company's smart card reader and
chip-related technologies. In connection with this shift in the Company's
strategic focus, workforce reductions and other measures were implemented to
achieve cost savings. See Note 4 to the Condensed Consolidated Financial
Statements for a discussion on the repositioning charge.
At present, PubliCARD's sole operating activities are conducted through
its Infineer subsidiary, which designs smart card platform solutions for
educational and corporate sites. The Company's future
14
plans revolve around an acquisition strategy focused on businesses in areas
outside the high technology sector while continuing to support the expansion of
the Infineer business.
PubliCARD's financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note 1 to the
Condensed Consolidated Financial Statements, the Company has incurred operating
losses and requires additional capital to meet its obligations and accomplish
the Company's business plan, which raises substantial doubt about its ability to
continue as a going concern. The financial statements do not include any
adjustments that might result from the outcome of this uncertainty.
RESULTS OF OPERATIONS
THREE MONTHS ENDED JUNE 30, 2002 COMPARED TO THREE MONTHS ENDED JUNE 30, 2001
SALES. Revenues are generated from product sales, licenses of software
products, installation and maintenance contracts. Consolidated sales decreased
to $1.0 million in 2002 compared to $1.3 million for 2001. The 2001 figure
included $286,000 of revenues associated with the smart card reader and chip
business, which the Company exited in July 2001. Sales related to smart card
platform solutions for educational and corporate sites were comparable with the
prior year period.
GROSS MARGIN. Cost of sales consists primarily of material, personnel
costs and overhead. Cost of sales in 2001 included an adjustment of $1.3 million
for the write-off of inventories associated with the July 2001 repositioning
action. Excluding this repositioning charge, gross margin as a percentage of
sales decreased slightly to 49% in 2002 from 51% in 2001.
SALES AND MARKETING EXPENSES. Sales and marketing expenses consist
primarily of personnel and travel costs, public relations, trade shows and
marketing materials. Sales and marketing expenses were $472,000 in 2002 compared
to $1.2 million in 2001. The decrease is mainly due to headcount reductions
associated with the Company's July 2001 repositioning action.
PRODUCT DEVELOPMENT EXPENSES. Product development expenses include
expenses associated with the development of new products and enhancements to
existing products. Product development expenses consist primarily of personnel
and travel costs, independent consultants and contract engineering services.
Product development expenses amounted to $128,000 in 2002 compared to $918,000
in 2001. Expenses decreased in 2002 primarily due to headcount reductions
associated with the Company's July 2001 repositioning action.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative
expenses consist primarily of personnel and related costs for general corporate
functions, including finance and accounting, human resources, risk management
and legal. General and administrative expenses for the quarter ended June 30,
2002 decreased by approximately 38% to $761,000 from $1.2 million for 2001. The
decrease is mainly due to corporate cost containment initiatives.
STOCK COMPENSATION EXPENSE. Stock-based compensation recorded in 2001
principally related to the issuance of a stock award and a below market stock
option grant to an executive hired in late 1999.
AMORTIZATION OF GOODWILL AND INTANGIBLES. In accordance with SFAS No.
142, no amortization expense for goodwill will be recorded in current and future
periods. Goodwill and other intangibles will be subject to an annual review for
impairment or earlier if circumstances or events indicate that impairment may
have occurred. This may result in future write-downs or the write-off of such
assets. The 2002 figures do not reflect any amortization expense relating to
goodwill. As such, amortization expense decreased from $660,000 in 2001 to
$144,000 in 2002.
15
The Company performed an initial review for impairment of goodwill as
of January 1, 2002 and determined that no impairment existed at that date. The
Company determined the fair value of its sole reporting unit primarily using two
approaches: a market approach technique and a discounted cash flow valuation
technique. The market approach relied primarily on the implied fair value using
a multiple of revenues for several entities with comparable operations and
economic characteristics. Significant assumptions used in the discounted cash
valuation included estimates of future cash flows, future short-term and
long-term growth rates and estimated cost of capital for purposes of arriving at
a discount factor.
OTHER INCOME AND EXPENSE. Interest income decreased to $15,000 for 2002
from $110,000 for 2001 principally due to lower cash balances. Cost of pensions,
which represents amounts related to discontinued product lines and related plant
closings in prior years, principally relates to pension expense associated with
the Company's frozen defined benefit pension plan.
SIX MONTHS ENDED JUNE 30, 2002 COMPARED TO SIX MONTHS ENDED JUNE 30, 2001
SALES. Consolidated sales decreased to $2.2 million in 2002 compared to
$2.9 million for 2001. The 2001 figure included $766,000 of revenues associated
with the smart card reader and chip business, which the Company exited in July
2001. Sales related to smart card platform solutions for educational and
corporate sites increased 6% from the prior year period.
GROSS MARGIN. Cost of sales in 2001 included an adjustment of $1.3
million for the write-off of inventories associated with the July 2001
repositioning action. Excluding this repositioning charge, gross margin, as a
percentage of sales was 48% in both 2002 and 2001.
SALES AND MARKETING EXPENSES. Sales and marketing expenses were
$899,000 in 2002 compared to $2.5 million in 2001. The decrease is mainly due to
headcount reductions associated with the Company's July 2001 repositioning
action.
PRODUCT DEVELOPMENT EXPENSES. Product development expenses amounted to
$247,000 in 2002 compared to $1.8 million in 2001. Expenses decreased in 2002
primarily due to headcount reductions associated with the Company's July 2001
repositioning action.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative
expenses for the six months ended June 30, 2002 decreased to $1.7 million from
$2.5 million for 2001. The decrease is mainly due to corporate cost containment
initiatives.
STOCK COMPENSATION EXPENSE. Stock-based compensation recorded in 2001
principally related to the issuance of a stock award and a below market stock
option grant to an executive hired in late 1999.
AMORTIZATION OF GOODWILL AND INTANGIBLES. In accordance with SFAS No.
142, no amortization expense for goodwill will be recorded in current and future
periods. Goodwill and other intangibles will be subject to an annual review for
impairment or earlier if circumstances or events indicate that impairment may
have occurred. This may result in future write-downs or the write-off of such
assets. The 2002 figures do not reflect any amortization expense relating to
goodwill. As such, amortization expense decreased from $1,320,000 in 2001 to
$288,000 in 2002.
OTHER INCOME AND EXPENSE. Interest income decreased to $29,000 for 2002
from $317,000 for 2001 principally due to lower cash balances. Cost of pensions,
which represents amounts related to discontinued product lines and related plant
closings in prior years, principally relates to pension expense associated with
the Company's frozen defined benefit pension plan.
LIQUIDITY
The Company has financed its operations over the last three years
primarily through the sale of capital stock and the sale of non-core businesses.
During the six months ended June 30, 2002, cash, including
16
short-term investments, decreased by $2.0 million to $2.5 million as of June 30,
2002.
Operating activities utilized cash of $2.0 million for the six months
ended June 30, 2002 and principally consisted of the net loss of $2.5 million
offset by a decrease in assets and liabilities of $63,000 and depreciation and
amortization of $399,000. Operating activities included $552,000 of cash
contributions to the Company's frozen defined benefit plan and a $450,000
payment under an environmental consent decree (the "Consent Decree") to which
the Company is subject.
Investing activities provided cash of $72,000 in 2002 and consisted
principally of the release of escrowed funds in connection with previously
discontinued operations and proceeds from the sale of fixed assets.
The Company has experienced negative cash flow from operating
activities in the past and expects to experience negative cash flow in 2002. In
addition to funding operating and capital requirements and corporate overhead,
future uses of cash include the following:
- The Company sponsors a defined benefit pension plan, which was
frozen in 1993. As of December 31, 2001, the actuarial present
value of accrued liabilities exceeded the plan assets by
approximately $5.5 million. The annual required contribution
to the plan is expected to be approximately $1.1 million in
2002. Since the plan is significantly underfunded, the Company
expects that the annual contribution requirements beyond 2002
will continue to be significant.
- In April 1996, a Consent Decree among the Company, the United
States Environmental Protection Agency ("EPA") and the
Pennsylvania Department of Environmental Protection ("PADEP")
was entered by the court which resolved all of the United
States' and PADEP's claims against the Company for recovery of
costs incurred in responding to releases of hazardous
substances at a facility previously owned and operated by the
Company. Pursuant to the Consent Decree, the Company will pay
a total of $14.4 million plus interest to the United States
and the Commonwealth of Pennsylvania. Through June 30, 2002,
the Company has made principal payments aggregating $13.6
million. In January 2002, the Company and the EPA reached an
agreement to extend the due date on the remaining unpaid
balance. In return, the EPA was granted a security interest in
certain assets held in escrow. The remaining payments totaling
$842,000, including interest, will be made to the EPA over the
next two years and consist of $431,000 in 2003 and $411,000 in
2004.
- The Company and certain current and former officers are
defendants in a lawsuit alleging, among other things,
misrepresentation and securities fraud. The Company believes
that it has meritorious defenses to the allegations and
intends to defend itself vigorously. The cost of defending
against this action could be significant.
- The Company leases certain office space, vehicles and office
equipment under operating leases that expire over the next
eight years. Minimum payments for operating leases having
initial or remaining non-cancelable terms in excess of one
year are $213,000 for the remainder of 2002, $412,000 in 2003,
$387,000 in 2004 and $348,000 thereafter.
The Company will need to raise additional capital that may not be
available to it. Although management believes that existing cash and short term
investments may be sufficient to meet the Company's operating and capital
requirements at the currently anticipated level through December 31, 2002,
additional working capital will be necessary in order to fund the current
business plan and to ensure the Company is able to fund the pension,
environmental and other obligations. While the Company is actively considering
various funding alternatives, it has not secured or entered into any
arrangements to obtain additional capital. There can be no assurance that the
Company will be able to obtain additional funding on acceptable terms or at all.
If the Company cannot raise additional capital to continue its present level of
operations it may not be able to meet its obligations, take advantage of future
acquisition
17
opportunities or further develop or enhance its product offering, any of which
could have a material adverse effect on its business and results of operations.
The Company currently has no capacity for commercial debt financing.
Should such capacity become available it may be adversely affected in the future
by factors such as higher interest rates, inability to borrow without
collateral, and continued operating losses. Borrowings may also involve
covenants limiting or restricting its operations or future opportunities.
As a result of a failure to meet certain continuing listing
requirements of the Nasdaq National Market ("National Market"), the Company
transferred the listing of its common stock to the Nasdaq SmallCap Market
("SmallCap Market") effective May 2, 2002. The Company is currently not in
compliance with the SmallCap Market $1.00 minimum bid price requirement and may
not comply with other continuing listing requirements in the future. There is no
assurance (i) that the Company will remedy the identified minimum bid price
deficiency (ii) that the Company will continue to meet any other SmallCap Market
continued maintenance requirements, (iii) that any appeal in the event of
non-compliance of its common stock will be successful or (iv) that its common
stock will not be delisted. Should the Company's common stock be delisted, the
liquidity of the common stock would be adversely affected. This could impair the
Company's ability to raise capital in the future. If additional capital is
raised through the issuance of equity securities, the Company's stockholders'
percentage ownership of the common stock will be reduced and stockholders may
experience dilution in net book value per share, or the new equity securities
may have rights, preferences or privileges senior to those of its common
stockholders.
If the Company's liquidity does not improve, it may be unable to
continue as a going concern and could be required to seek bankruptcy protection.
Such an event may result in the Company's common and preferred stock being
negatively affected or becoming worthless. The auditors' report on the Company's
Consolidated Financial Statements for the year ended December 31, 2001 contained
an emphasis paragraph concerning substantial doubt about the Company's ability
to continue as a going concern.
CRITICAL ACCOUNTING POLICIES
The Company's significant accounting policies are more fully described
in the Notes to the Company's Consolidated Financial Statements included in the
Company's Annual Report on Form 10-K for the year ended December 31, 2001, as
amended. Certain accounting policies require the application of significant
judgment by management in selecting the appropriate assumptions for calculating
financial estimates. By their nature, these judgments are subject to an inherent
degree of uncertainty. The Company considers certain accounting policies related
to revenue recognition, estimates of reserves for receivables and inventories,
valuation of investments and goodwill and pension accounting to be critical
policies due to the estimation processes involved.
REVENUE RECOGNITION AND ACCOUNTS RECEIVABLE. Revenue from product sales
and software license fees is recorded upon shipment if a signed contract exists,
the fee is fixed and determinable, the collection of the resulting receivable is
probable and the Company has no obligation to install the product or solution.
If the Company is responsible for installation, revenue from product sales and
software is recognized upon client acceptance or "go live" date. Revenue from
maintenance and support fees is recognized ratably over the contract period.
Provisions are recorded for estimated warranty repairs and returns at the time
the products are shipped. Should changes in conditions cause management to
determine that revenue recognition criteria are not met for certain future
transactions, revenue recognized for any reporting period could be adversely
affected.
The Company performs ongoing credit evaluations of its customers and
adjusts credit limits based upon payment history and the customer's credit
worthiness. The Company continually monitors collections and payments from its
customers and maintains a provision for estimated credit losses based upon
historical experience and any specific customer collection issues that it has
identified. While such credit losses have historically been within management's
expectations and the provisions established, there is no assurance
18
that the Company will continue to experience the same credit loss rates as in
the past.
INVENTORIES. Inventories are stated at lower of cost (first-in,
first-out method) or market. The Company evaluates the need to record
adjustments for impairment of inventory on a quarterly basis. Inventory in
excess of the Company's estimated usage requirements is written down to its
estimated net realizable value. Inherent in the estimates of net realizable
value are management's estimates related to the Company's production schedules,
customer demand, possible alternative uses and the ultimate realization of
potentially excess inventory. During 2001, the decision to exit the smart card
reader and chip business resulted in a significant inventory realizability
adjustment. While management deems this adjustment to be non-recurring, a
decrease in future demand for current products could result in an increase in
the amount of excess inventories on hand.
VALUATION OF INVESTMENTS. The Company periodically assesses the
carrying value of its minority-owned investments for impairment. This assessment
is based upon a review of operations and indications of continued viability,
such as subsequent rounds of financing. As discussed in Note 3 to the Condensed
Unaudited Consolidated Financial Statements, during the first quarter of 2002
the Company made a determination that its minority-owned investment in Mako was
impaired. While management believes that the current carrying value of its
investment in TecSec has not been impaired, different assumptions could affect
the valuation.
IMPAIRMENT OF GOODWILL. Effective January 1, 2002, the Company adopted
SFAS No. 142. In accordance with the guidelines of this statement, goodwill and
indefinite lived intangible assets are no longer amortized but will be 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 and reviewed for impairment. The Company performed an
initial review for impairment of goodwill as of January 1, 2002 and determined
that no impairment existed at that date. The Company determined the fair value
of its sole reporting unit primarily using two approaches: a market approach
technique and a discounted cash flow valuation technique. The market approach
relied primarily on the implied fair value using a multiple of revenues for
several entities with comparable operations and economic characteristics.
Significant assumptions used in the discounted cash valuation included estimates
of future cash flows, future short-term and long-term growth rates and estimated
cost of capital for purposes of arriving at a discount factor.
PENSION OBLIGATIONS. The determination of obligations and expense for
pension benefits is dependent on the selection of certain assumptions used by
actuaries in calculating such amounts. These assumptions include, among others,
the discount rate and the expected rate of return on plan assets. Actual results
that differ from assumptions are accumulated and amortized over future periods
and therefore, generally affect the recognized expense and recorded obligation
in such future periods. While management believes that the assumptions are
appropriate, differences in actual experience or significant changes in
assumptions may materially affect the pension obligation and future expense.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 2001, the FASB issued SFAS No. 141, "Business Combinations".
SFAS No. 141 addresses financial accounting and reporting for business
combinations. This new statement requires that all business combinations be
accounted for using one method (the purchase method), intangible assets be
recognized apart from goodwill if they meet certain criteria and disclosure of
the primary reasons for a business combination and the allocation of the
purchase price paid to the assets acquired and liabilities assumed by major
balance sheet caption. The provisions of this statement apply to all business
combinations initiated after June 30, 2001.
In June 2001, the FASB issued Statement of Financial Accounting
Standards No. 142, "Goodwill and Other Intangible Assets". SFAS No. 142
addresses financial accounting and reporting for acquired goodwill and other
intangible assets. Under this new statement, goodwill and intangible assets that
have
19
indefinite useful lives will not be amortized, but rather will be tested at
least annually for impairment, or earlier if circumstances or events indicate
that impairment may have occurred, based on the specific guidance of this
statement. This may result in future write-downs or the write-off of such
assets. In addition, this statement requires disclosure of information about
goodwill and other intangible assets in the years subsequent to their
acquisition that was not previously required. The provisions of this statement
are required to be applied starting with fiscal years beginning after December
15, 2001. However, goodwill and intangible assets acquired after June 30, 2001
were subject immediately to the non-amortization and amortization provisions of
this statement. The Company adopted this statement on January 1, 2002. The
Company completed the initial impairment test in the first quarter of 2002 which
did not result in an impairment of goodwill. The provisions of SFAS No. 142 are
effective for periods after adoption and retroactive application is not
permitted. Therefore, the historical results of periods prior to 2002 in the
Company's Consolidated Statements of Operations do not reflect the effect of
SFAS No. 142 and, accordingly, the first three and six months of 2001 included
amortization expense of $431,000 and $862,000, respectively. Excluding goodwill
amortization, the pro forma net loss for the three and six months ended June 30,
2001, was $6.7 million and $9.8 million, or $.28 and $.40 per share,
respectively.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets". SFAS No. 144 addresses financial
accounting and reporting for the impairment or disposal of long-lived assets.
SFAS No. 144 supercedes FASB Statement No. 121, "Accounting for the Impairment
of Long-Lived Assets and Long-Lived Assets to be Disposed of", and the
accounting and reporting provisions of APB Opinion No. 30, "Reporting the
Results of Operations - Reporting the Effects of Disposal of a Segment of a
Business, and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions", for the disposal of a segment of a business. This statement also
amends ARB No. 51, "Consolidated Financial Statements", to eliminate the
exception to consolidation for a subsidiary for which control is likely to be
temporary. The provisions of this statement are required to be applied starting
with fiscal years beginning after December 15, 2001. The Company adopted SFAS
No. 144 in the first quarter of fiscal 2002 and determined that adoption of this
statement did not have an effect on the Company's results of operations or
financial position.
In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities". SFAS No. 146 will supersede
Emerging Issues Task Force Issue No. 94-3, "Liability Recognition for Certain
Employee Termination Benefits and Other Costs to Exit an Activity (including
Certain Costs Incurred in a Restructuring)". SFAS No. 146 requires that costs
associated with an exit or disposal plan be recognized when incurred rather than
at the date of a commitment to an exit or disposal plan. SFAS No. 146 is to be
applied prospectively to exit or disposal activities initiated after December
31, 2002.
FACTORS THAT MAY AFFECT FUTURE RESULTS
WE HAVE A HISTORY OF OPERATING LOSSES AND NEGATIVE CASH FLOW, WE HAVE
ONGOING FUNDING OBLIGATIONS AND WE NEED TO RAISE ADDITIONAL CAPITAL THAT MAY NOT
BE AVAILABLE TO US, ALL OF WHICH WOULD LEAD TO OUR BEING REQUIRED TO SEEK
BANKRUPTCY PROTECTION. We have incurred losses and experienced negative cash
flow from operating activities in the past, and we expect to incur losses and
experience negative cash flow from operating activities in the foreseeable
future. We incurred losses from continuing operations in 1999, 2000, 2001 and
for the six months ended June 30, 2002 of approximately $16.7 million, $19.7
million, $17.2 million and $2.5 million, respectively. In addition, we
experienced negative cash flow from continuing operating activities of $8.5
million, $18.7 million, $12.2 million and $2.0 million in 1999, 2000, 2001 and
for the six months ended June 30, 2002, respectively.
We also have continuing obligations to fund payments due under the
Consent Decree and an underfunded pension plan. We sponsor a defined benefit
pension plan, which was frozen in 1993. As of December 31, 2001, the present
value of the accrued benefit liabilities of our pension plan exceeded the plan's
assets by approximately $5.5 million. In addition to the $1.1 million required
contribution to the plan in 2002, we are obligated to make continued
contributions to the plan in accordance with the rules and regulations
prescribed by the Employee Retirement Income Security Act of 1974. Since the
plan is
20
significantly underfunded, we expect that the annual contribution requirements
beyond 2002 will continue to be significant. Future contribution levels depend
in large measure on the mortality rate of plan participants, discount rate and
the expected return on the plan assets. In April 2002, we failed to make the
required quarterly contribution to the plan due April 15, 2002, in the amount of
$253,000. We paid this required contribution on June 11, 2002.
We are required to make future payments to the EPA in connection with
an environmental related Consent Decree. In January 2002, we reached an
agreement with the EPA to extend the due date on the remaining unpaid balance.
In return, the EPA was granted a security interest in certain assets held in
escrow. Future payments aggregating $842,000, including interest, will be made
to the EPA over the next two years consisting of $431,000 in 2003 and $411,000
in 2004. Consistent with the general practices of environmental enforcement
agencies, the Consent Decree does not eliminate our potential liability for
remediation of contamination that had not been known at the time of the
settlement.
We have future non-cancelable operating lease obligations aggregating
$1.4 million. In addition, we may incur substantial costs in defense of a
lawsuit. For more information see "We are unable to predict the extent to which
the resolution of lawsuits pending against us could adversely affect our
business".
We will need to raise additional capital that may not be available to
us. Although we believe existing cash and short term investments may be
sufficient to meet our operating and capital requirements at the currently
anticipated level through December 31, 2002, additional working capital will be
necessary in order to fund our current business plan and to ensure we are able
to fund our pension, environmental and other obligations. While we are actively
considering various funding alternatives, no arrangement to obtain additional
funding has been secured or entered into. There can be no assurance that we will
be able to obtain additional funding, on acceptable terms or at all. If we
cannot raise additional capital to continue at our present level of operations
we may not be able to meet our obligations, take advantage of future acquisition
opportunities or further develop or enhance our product offering, any of which
could have a material adverse effect on our business and results of operations
and could lead to our being required to seek bankruptcy protection. The
auditors' report on the Company's Consolidated Financial Statements for the year
ended December 31, 2001 contained a qualified opinion raising substantial doubt
about the Company's ability to continue as a going concern.
We currently have no capacity for commercial debt financing. Should
such capacity become available to us, we may be adversely affected in the future
by factors such as higher interest rates, inability to borrow without
collateral, and continued operating losses. Borrowings may also involve
covenants limiting or restricting our operations or future opportunities.
WE ARE UNABLE TO PREDICT THE EXTENT TO WHICH THE RESOLUTION OF LAWSUITS
PENDING AGAINST US COULD ADVERSELY AFFECT OUR BUSINESS. On May 28, 2002, a
lawsuit was filed against us in the Superior Court of the State of California,
in the County of Los Angeles by Leonard M. Ross and affiliated entities
alleging, among other things misrepresentation and securities fraud. The lawsuit
names four of our current and former executive officers and directors and us as
the defendants. The plaintiffs seek monetary and punitive damages for alleged
actions made by the defendants in order to induce the plaintiff to purchase,
hold or refrain from selling PubliCARD common stock. The plaintiffs allege that
the defendants made a series of material misrepresentations, misleading
statements, omissions and concealments, specifically and directly to the
plaintiffs concerning the nature, existence and status of contracts with certain
purchasers, the nature and existence of investments in us by third parties, the
nature and existence of business relationships and investments by us.
Notice of the commencement of this action has been given our directors
and officers liability insurance carriers. We believe we have meritorious
defenses to the allegations and we intend to defend ourselves vigorously. The
lawsuit is in the early stages. There has been no discovery and no trial date
has been set. Consequently, at this time it is not reasonably possible to
estimate the damage, or range of damages, if any, that we might incur in
connection with this action. However, if the outcome of this lawsuit is
unfavorable
21
to us, it would have a material adverse effect on our operations, cash flow and
financial position.
WE FACE RISKS ASSOCIATED WITH ACQUISITIONS. An important
element of our new strategic plan involves the acquisition of businesses in
areas outside the technology sectors in which we have recently been engaged, so
as to diversify our asset base. Acquisitions would require us to invest
financial resources and may have a dilutive effect on our earnings or book value
per share of common stock. We cannot assure you that we will consummate any
acquisitions in the future, that any financing required for such acquisitions
will be available on acceptable terms or at all, or that any past or future
acquisitions will not materially adversely affect our results of operations and
financial condition.
Our acquisition strategy generally presents a number of
significant risks and uncertainties, including the risks that:
- we will not be able to retain the employees or business
relationships of the acquired company;
- we will fail to realize any synergies or other cost reduction
objectives expected from the acquisition;
- we will not be able to integrate the operations, products,
personnel and facilities of acquired companies;
- management's attention will be diverted to pursuing
acquisition opportunities and integrating acquired products,
technologies or companies and will be distracted from
performing its regular responsibilities;
- we will incur or assume liabilities, including liabilities
that are unknown or not fully known to us at the time of the
acquisition; and
- we will enter markets in which we have no direct prior
experience.
We cannot assure you that any of the foregoing will not
materialize, which could have an adverse effect on our results of operations and
financial condition.
OUR TECSEC INVESTMENT MAY BE IMPAIRED OR SUBJECT TO A
SIGNIFICANT WRITE-DOWN IN THE FUTURE. As of June 30, 2002, the carrying value of
our investment in TecSec, a privately held company, was $5.1 million. This
investment has been accounted for at cost. While we have not participated in
TecSec's subsequent rounds of financing in August 2001 and July 2002, the
valuations inherent in these financings validate our investment carrying value.
However, the investment could be subject to write-down in future periods if it
is determined that the investment is permanently impaired and not recoverable.
TecSec is currently evaluating alternative sources of financing to meet ongoing
capital and operating needs. If TecSec is not successful in executing its
business plan or in obtaining sufficient capital on acceptable terms or at all,
our investment in TecSec could be permanently impaired and subject to a
significant write-down.
THE MARKET'S ACCEPTANCE OF OUR PRODUCTS IS UNCERTAIN. Demand
for, and market acceptance of, our software solutions and products are subject
to a high level of uncertainty due to rapidly changing technology, new product
introductions and changes in customer requirements and preferences. The success
of our products or any future products depends upon our ability to enhance our
existing products and to develop and introduce new products and technologies to
meet customer requirements. We face the risk that our current and future
products will not achieve market acceptance.
Our future revenues and earnings depend in large part on the
success of these products, and if the benefits are not perceived sufficient or
if alternative technologies are more widely accepted, the demand for our
solutions may not grow and our business and operating results would be
materially and adversely affected.
WE DEPEND ON A RELATIVELY SMALL NUMBER OF CUSTOMERS FOR A
MAJORITY OF OUR REVENUES. We rely on a limited number of customers in our
business. We expect to continue to depend upon a relatively small number of
customers for a majority of the revenues in our business. For the year ended
December 31, 2001,
22
one customer represented approximately 17% of our sales and 17% of the accounts
receivable balance as of December 31, 2001. For the six months ended June 30,
2002, no customer represented more than 10% of sales and one customer
represented 17% of the accounts receivable balance as of June 30, 2002.
We generally do not enter into long-term supply commitments
with our customers. Instead, we bid on a project basis. Significant reductions
in sales to any of our largest customers would have a material adverse effect on
our business. In addition, we generate significant accounts receivable and
inventory balances in connection with providing products to our customers. A
customer's inability to pay for our products could have a material adverse
effect on our results of operations.
OUR FUTURE SUCCESS DEPENDS ON OUR ABILITY TO KEEP PACE WITH
TECHNOLOGICAL CHANGES AND INTRODUCE NEW PRODUCTS IN A TIMELY MANNER. The rate of
technological change currently affecting the smart card market is particularly
rapid compared to other industries. Our ability to anticipate these trends and
adapt to new technologies is critical to our success. Because new product
development commitments must be made well in advance of actual sales, new
product decisions must anticipate future demand as well as the speed and
direction of technological change. Our ability to remain competitive will depend
upon our ability to develop in a timely and cost effective manner new and
enhanced products at competitive prices. New product introductions or
enhancements by our competitors could cause a decline in sales or loss of market
acceptance of our existing products and lower profit margins.
Our success in developing, introducing and selling new and
enhanced products depends upon a variety of factors, including:
- product selections;
- timely and efficient completion of product design and
development;
- timely and efficient implementation of manufacturing
processes;
- effective sales, service and marketing;
- price; and
- product performance in the field.
Our ability to develop new products also depends upon the
success of our research and development efforts. We may need to devote
additional resources to our research and development efforts in the future. We
cannot assure you that funds will be available for these expenditures or that
these funds will lead to the development of viable products.
THE HIGHLY COMPETITIVE MARKETS IN WHICH WE OPERATE COULD HAVE
A MATERIAL ADVERSE EFFECT ON OUR BUSINESS AND OPERATING RESULTS. The markets in
which we operate are intensely competitive and characterized by rapidly changing
technology. We compete against numerous companies, many of which have greater
resources than we do, and we believe that competition is likely to intensify.
We believe that the principal competitive factors affecting us
are:
- the extent to which products support industry
standards and are capable of being operated or
integrated with other products;
- technical features and level of security;
- strength of distribution channels;
- price;
- product reputation, reliability, quality, performance
and customer support;
- product features such as adaptability, functionality
and ease of use; and
- competitor reputation, positioning and resources.
We cannot assure you that competitive pressures will not have
a material adverse effect on our business and operating results. Many of our
current and potential competitors have longer operating histories and
significantly greater financial, technical, sales, customer support, marketing
and other
23
resources, as well as greater name recognition and a larger installed base of
their products and technologies than our company. Additionally, there can be no
assurance that new competitors will not enter our markets. Increased competition
would likely result in price reductions, reduced margins and loss of market
share, any of which would have a material adverse effect on our business and
operating results.
Our primary competition currently comes from companies
offering closed environment solutions, including small value electronic cash
systems and database management solutions, such as Girovend, MARS, Cunninghams,
Uniware, Diebold, CyberMark and Schlumberger.
Many of our current and potential competitors have broader
customer relationships that could be leveraged, including relationships with
many of our customers. These companies also have more established customer
support and professional services organizations than we do. In addition, a
number of companies with significantly greater resources than we have could
attempt to increase their presence by acquiring or forming strategic alliances
with our competitors, resulting in increased competition.
OUR LONG PRODUCT SALES CYCLES SUBJECT US TO RISK. Our products
fall into two categories; those that are standardized and ready to install and
use and those that require significant development efforts to implement within
the purchasers' own systems. Those products requiring significant development
efforts tend to be newly developed technologies and software applications that
can represent major investments for customers. We rely on potential customers'
internal review processes and systems requirements. The implementation of some
of our products involves deliveries of small quantities for pilot programs and
significant testing by the customers before firm orders are received, or lengthy
beta testing of software solutions. For these more complex products, the sales
process may take one year or longer, during which time we may expend significant
financial, technical and management resources, without any certainty of a sale.
WE MAY BE LIMITED IN OUR USE OF OUR FEDERAL NET OPERATING LOSS
CARRYFORWARDS. As of December 31, 2001, we had federal net operating loss
carryforwards, subject to review by the Internal Revenue Service, totaling
approximately $86.0 million for federal income tax purposes, approximately $25.0
million of which will expire at the end of 2002. We do not expect to earn any
significant taxable income in the next several years, and may not do so until
much later. A federal net operating loss can generally be carried back two or
three years and then forward fifteen or twenty years (depending on the year in
which the loss was incurred), and used to offset taxable income earned by a
company (and thus reduce its income tax liability).
Section 382 of the Internal Revenue Code provides that when a
company undergoes an "ownership change," that company's use of its net operating
losses is limited in each subsequent year. An "ownership change" occurs when, as
of any testing date, the sum of the increases in ownership of each shareholder
that owns five percent or more of the value of a company's stock as compared to
that shareholder's lowest percentage ownership during the preceding three-year
period exceeds fifty percentage points. For purposes of this rule, certain
shareholders who own less than five percent of a company's stock are aggregated
and treated as a single five-percent shareholder. We may issue a substantial
number of shares of our stock in connection with public and private offerings,
acquisitions and other transactions in the future. In addition, the exercise of
outstanding options to purchase shares of our common stock may require us to
issue additional shares of our common stock. The issuance of a significant
number of shares of stock could result in an "ownership change." If we were to
experience such an "ownership change," we estimate that virtually all of our
available federal net operating loss carryforwards could not be used to reduce
our taxable income.
The extent of the actual future use of our federal net
operating loss carryforwards is subject to inherent uncertainty because it
depends on the amount of otherwise taxable income we may earn. We cannot give
any assurance that we will have sufficient taxable income in future years to use
any of our federal net operating loss carryforwards before they would otherwise
expire.
24
OUR PROPRIETARY TECHNOLOGY IS DIFFICULT TO PROTECT AND MAY
INFRINGE ON THE INTELLECTUAL PROPERTY RIGHTS OF THIRD PARTIES. Our success
depends significantly upon our proprietary technology. We rely on a combination
of patent, copyright and trademark laws, trade secrets, confidentiality
agreements and contractual provisions to protect our proprietary rights. We seek
to protect our software, documentation and other written materials under trade
secret and copyright laws, which afford only limited protection. We cannot
assure you that any of our applications will be approved, that any new patents
will be issued, that we will develop proprietary products or technologies that
are patentable, that any issued patent will provide us with any competitive
advantages or will not be challenged by third parties. Furthermore, we cannot
assure you that the patents of others will not have a material adverse effect on
our business and operating results.
If our technology or products is determined to infringe upon
the rights of others, and we were unable to obtain licenses to use the
technology, we could be required to cease using the technology and stop selling
the products. We may not be able to obtain a license in a timely manner on
acceptable terms or at all. Any of these events would have a material adverse
effect on our financial condition and results of operations.
Patent disputes are common in technology related industries.
We cannot assure you that we will have the financial resources to enforce or
defend a patent infringement or proprietary rights action. As the number of
products and competitors in the smart card market grows, the likelihood of
infringement claims also increases. Any claim or litigation may be time
consuming and costly, cause product shipment delays or require us to redesign
our products or enter into royalty or licensing agreements. Any of these events
would have a material adverse effect on our business and operating results.
Despite our efforts to protect our proprietary rights, unauthorized parties may
attempt to copy aspects of our products or to use our proprietary information
and software. In addition, the laws of some foreign countries do not protect
proprietary and intellectual property rights as effectively as do the laws of
the United States. Our means of protecting our proprietary and intellectual
property rights may not be adequate. There is a risk that our competitors will
independently develop similar technology, duplicate our products or design
around patents or other intellectual property rights.
We believe that establishing, maintaining and enhancing the
Infineer brand name is essential to our business. We filed an application for a
United States trademark registration and an application for service mark
registration of our name and logo. We are aware of third parties that use marks
or names that contain similar sounding words or variations of the "infi" prefix.
In July 2002, we received a claim from a third party challenging the use of the
Infineer name. As a result of this claim and other challenges which may occur in
the future, we may incur significant expenses, pay substantial damages and be
prevented from using the Infineer name. Use of a similar name by third parties
may also cause confusion to our clients and confusion in the market, which could
decrease the value of our brand and harm our reputation. We cannot assure you
that our business would not be adversely affected if we are required to change
our name or if confusion in the market did occur.
THE NATURE OF OUR PRODUCTS SUBJECTS US TO PRODUCT LIABILITY
RISKS. Our customers may rely on certain of our current products and products in
development to prevent unauthorized access to digital content for financial
transactions, computer networks, and real property. A malfunction of or design
defect in certain of our products could result in tort or warranty claims.
Although we attempt to reduce the risk of exposure from such claims through
warranty disclaimers and liability limitation clauses in our sales agreements
and by maintaining product liability insurance, we cannot assure you that these
measures will be effective in limiting our liability for any damages. Any
liability for damages resulting from security breaches could be substantial and
could have a material adverse effect on our business and operating results. In
addition, a well-publicized actual or perceived security breach involving our
conditional access or security products could adversely affect the market's
perception of our products in general, regardless of whether any breach is
attributable to our products. This could result in a decline in demand for our
products, which would have a material adverse effect on our business and
operating results.
25
WE MAY HAVE DIFFICULTY RETAINING OR RECRUITING PROFESSIONALS
FOR OUR BUSINESS. Our future success and performance is dependent on the
continued services and performance of our senior management and other key
personnel. If we fail to meet our operating and financial objectives this may
make it more difficult to retain and reward our senior management and key
personnel. The loss of the services of any of our executive officers or other
key employees could materially adversely affect our business.
Our business requires experienced software programmers,
creative designers and application developers, and our success depends on
identifying, hiring, training and retaining such experienced, knowledgeable
professionals. If a significant number of our current employees or any of our
senior technical personnel resign, or for other reasons are no longer employed
by us, we may be unable to complete or retain existing projects or bid for new
projects of similar scope and revenues. In addition, former employees may
compete with us in the future.
Even if we retain our current employees, our management must
continually recruit talented professionals in order for our business to grow.
Furthermore, there is significant competition for employees with the skills
required to perform the services we offer. We cannot assure you that we will be
able to attract a sufficient number of qualified employees in the future to
sustain and grow our business, or that we will be successful in motivating and
retaining the employees we are able to attract. If we cannot attract, motivate
and retain qualified professionals, our business, financial condition and
results of operations will suffer.
OUR INTERNATIONAL OPERATIONS SUBJECT US TO RISK ASSOCIATED
WITH OPERATING IN FOREIGN MARKETS, INCLUDING FLUCTUATIONS IN CURRENCY EXCHANGE
RATES, WHICH COULD ADVERSELY AFFECT OUR OPERATIONS AND FINANCIAL CONDITION.
Sales outside the U.S. represented approximately 81% of total sales for the six
months ended June 30, 2002. Because we derive a substantial portion of our
business outside the United States, we are subject to certain risks associated
with operating in foreign markets including the following:
- tariffs and other trade barriers;
- difficulties in staffing and managing foreign
operations;
- currency exchange risks;
- export controls related to encryption technology;
- unexpected changes in regulatory requirements;
- changes in economic and political conditions;
- potentially adverse tax consequences; and
- burdens of complying with a variety of foreign laws.
Any of the foregoing could adversely impact the success of our
operations. We cannot assure you that such factors will not have a material
adverse effect on our future sales and, consequently, on our business, operating
results and financial condition. In addition, fluctuations in exchange rates
could have a material adverse effect on our business, operating results and
financial condition. To date, we have not engaged in currency hedging.
CHANGES WE MAY NEED OR BE REQUIRED TO MAKE IN OUR INSURANCE
COVERAGE MAY EXPOSE US TO INCREASED LIABILITIES AND MAY INTERFERE WITH OUR
ABILITY TO RETAIN OR ATTRACT QUALIFIED OFFICERS AND DIRECTORS. We renew or
replace various insurance policies on an annual basis, including those that
cover directors and officers liability. Given the current climate of rapidly
increasing insurance premiums and erosions of coverage, we may need or be
required to reduce our coverage and increase our deductibles in order to afford
the premiums. To the extent we reduce our coverage and increase our deductibles,
our exposure and the exposure of our directors and officers for liabilities that
either become excluded from coverage or underinsured will increase. As a result,
we may lose or may experience difficulty in attracting qualified directors and
officers.
26
WE ARE SUBJECT TO GOVERNMENT REGULATION. Federal, state and
local regulations impose various environmental controls on the discharge of
chemicals and gases, which have been used in our past assembly processes and may
be used in future processes. Moreover, changes in such environmental rules and
regulations may require us to invest in capital equipment and implement
compliance programs in the future. Any failure by us to comply with
environmental rules and regulations, including the discharge of hazardous
substances, would subject us to liabilities and would materially adversely
affect our operations.
OUR ARTICLES OF INCORPORATION AND BY-LAWS, CERTAIN CHANGE OF
CONTROL AGREEMENTS, OUR RIGHTS PLAN AND PROVISIONS OF PENNSYLVANIA LAW COULD
DETER TAKEOVER ATTEMPTS.
Blank check preferred stock. Our board of directors has the
authority to issue preferred stock and to fix the rights, preferences,
privileges and restrictions, including voting rights, of these shares without
any further vote or action by the holders of our common stock. The rights of the
holders of any preferred stock that may be issued in the future may adversely
affect the rights of the holders of our common stock. The issuance of preferred
stock could make it more difficult for a third party to acquire a majority of
our outstanding voting stock, thereby delaying, deferring or preventing a change
of control. Such preferred stock may have other rights, including economic
rights, senior to our common stock, and as a result, the issuance of the
preferred stock could limit the price that investors might be willing to pay in
the future for shares of our common stock and could have a material adverse
effect on the market value of our common stock.
Rights plan. Our rights plan entitles the registered holders
of rights to purchase shares of our class A preferred stock upon the occurrence
of certain events, and may have the effect of delaying, deferring or preventing
a change of control.
Change of control agreements. We are a party to change of
control agreements, which provide for payments to certain of our directors and
executive officers under certain circumstances following a change of control.
Since the change of control agreements require large cash payments to be made by
any person effecting a change of control, these agreements may discourage
takeover attempts.
The change of control agreements provide that, if the services
of any person party to a change of control agreement are terminated within three
years following a change of control, that individual will be entitled to
receive, in a lump sum within 10 days of the termination date, a payment equal
to 2.99 times that individual's average annual compensation for the shorter of
the five years preceding the change of control and the period the individual
received compensation from us for personal services. Assuming a change of
control were to occur at the present time, payments in the following amounts
would be required: Mr. Harry I. Freund of $934,000 and Mr. Jay S. Goldsmith of
$934,000. If any such payment, either alone or together with others made in
connection with the individual's termination, is considered to be an excess
parachute payment under the Internal Revenue Code, the individual will be
entitled to receive an additional payment in an amount which, when added to the
initial payment, would result in a net benefit to the individual, after giving
effect to excise taxes imposed by Section 4999 of the Internal Revenue Code and
income taxes on such additional payment, equal to the initial payment before
such additional payment and we would not be able to deduct these initial or
additional payments for income tax purposes.
Pennsylvania law. We are a Pennsylvania corporation.
Anti-takeover provisions of Pennsylvania law could make it difficult for a third
party to acquire control of us, even if such change of control would be
beneficial to our shareholders.
OUR STOCK PRICE IS EXTREMELY VOLATILE. The stock market has
recently experienced significant price and volume fluctuations unrelated to the
operating performance of particular companies. The market price of our common
stock has been highly volatile and is likely to continue to be volatile. The
future trading price for our common stock will depend on a number of factors,
including:
27
- continued listing of our common stock on the Nasdaq
SmallCap Market (see "Our stock may be delisted from
the Nasdaq System" below);
- the volume of activity for our common stock is
minimal and therefore a large number of shares placed
for sale or purchase could increase its volatility;
- our ability to effectively manage our business,
including our ability to raise capital;
- variations in our annual or quarterly financial
results or those of our competitors;
- general economic conditions, in particular, the
technology service sector;
- expected or announced relationships with other
companies;
- announcements of technological advances innovations
or new products by us or our competitors;
- patents or other proprietary rights or patent
litigation; and
- product liability or warranty litigation.
We cannot be certain that the market price of our common stock
will not experience significant fluctuations in the future, including
fluctuations that are adverse and unrelated to our performance.
OUR STOCK MAY BE DELISTED FROM THE NASDAQ SYSTEM. On February
14, 2002, we a received notice from The Nasdaq Stock Market ("Nasdaq") that our
common stock had failed to maintain a minimum closing bid price of $1.00 over
the last 30 consecutive trading days as required by National Market rules. We
received a second notice on February 27, 2002, that our common stock also failed
to maintain a market value of public float of $5 million.
In accordance with the Nasdaq rules, we were required to
regain compliance with the National Market minimum bid price requirement and
with the market value of public float requirement by May 2002. Since our common
stock continued to trade significantly below $1.00, in April 2002, we filed an
application to transfer the listing of our common stock to the SmallCap Market.
The application was approved and our common stock listing was transferred to the
SmallCap Market effective May 2, 2002. We will now be afforded a grace period to
comply with the $1.00 minimum bid price requirement, which will extend the
delisting determination until August 14, 2002. We may also be eligible for an
additional 180-day grace period provided that we meet certain SmallCap Market
initial listing criteria.
Continued listing of our common stock on the SmallCap Market
is subject to meeting various on-going quantitative and qualitative minimum
maintenance requirements, including among others, the maintenance of $2.5
million of stockholders equity. As of June 30, 2002 our stockholders equity was
$5.0 million. If we are unable to meet the SmallCap Market minimum maintenance
requirements, we would be subject to delisting from the Nasdaq system.
We cannot assure you (i) that we will remedy the identified
minimum bid price deficiency, (ii) that we will continue to meet any other
SmallCap Market continued maintenance requirements, (ii) that any appeal in the
event of non-compliance of our common stock will be successful or (iv) that our
common stock will not be delisted.
Should our common stock be delisted, the liquidity of our
common stock would be materially adversely affected. This could impair our
ability to raise capital in the future. If we are not successful in raising
additional capital when required in sufficient amounts and on terms acceptable
to us or at all, we may be required to scale back the scope of our business
plan, which would have a material adverse effect on our financial condition and
results of operations, and be unable to fund our pension and environmental
obligations.
28
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Foreign currency exchange rate risk
We conduct operations in the United Kingdom and sell products
in several different countries. Therefore, our operating results may be impacted
by the fluctuating exchange rates of foreign currencies, especially the British
pound, in relation to the U.S. dollar. We do not currently engage in hedging
activities with respect to our foreign currency exposure. We continually monitor
our exposure to currency fluctuations and may use financial hedging techniques
when appropriate to minimize the effect of these fluctuations. Even so, exchange
rate fluctuations may still have a material adverse effect on our business and
operating results.
Market Risk
We are exposed to market risk primarily through short-term
investments. Our investment policy calls for investment in short-term, low risk
instruments. As of June 30, 2002, short-term investments (principally U.S.
Treasury bills) were $2.2 million. Due to the nature of these investments, any
decrease in rates would not have a material impact on our financial condition or
results of operations.
Investment Risk
As of June 30, 2002, the value of our investment in TecSec, a
privately held company, was $5.1 million. This investment has been accounted for
at cost and could be subject to write-down in future periods if it is determined
that the investment is permanently impaired and not recoverable. TecSec is
currently evaluating alternative sources of financing to meet ongoing capital
and operating needs. If TecSec is not successful in obtaining sufficient capital
on acceptable terms or at all, our investment in TecSec could be permanently
impaired and subject to a significant write-down.
29
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
On May 28, 2002, a lawsuit was filed against the Company in the
Superior Court of the State of California, in the County of Los Angeles by
Leonard M. Ross and affiliated entities alleging, among other things,
misrepresentation and securities fraud. The lawsuit names the Company and four
of its current and former executive officers and directors as the defendants.
The plaintiffs seek monetary and punitive damages for alleged actions made by
the defendants in order to induce the plaintiff to purchase, hold or refrain
from selling PubliCARD common stock. The plaintiffs allege that the defendants
made a series of material misrepresentations, misleading statements, omissions
and concealments, specifically and directly to the plaintiffs concerning the
nature, existence and status of contracts with certain purchasers, the nature
and existence of investments in the Company by third parties, the nature and
existence of business relationships and investments by the Company.
Notice of the commencement of this action has been given to the
Company's directors and officers liability insurance carriers. The Company
believes it has meritorious defenses to the allegations and intends to defend
vigorously. The lawsuit is in the early stages. There has been no discovery and
no trial date has been set. Consequently, at this time it is not reasonably
possible to estimate the damage, or range of damages, if any, that the Company
might incur in connection with this action. However, if the outcome of this
lawsuit is unfavorable to the Company, it would have a material adverse effect
on the Company's operations, cash flow and financial position.
Various other legal proceedings are pending against the Company. The
Company considers all such proceedings to be ordinary litigation incident to the
character of its business. Certain claims are covered by liability insurance.
The Company believes that the resolution of these claims to the extent not
covered by insurance will not, individually or in the aggregate, have a material
adverse effect on the consolidated financial position or consolidated results of
operations of the Company.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
99.1 Certification of periodic report dated March 25, 2003
(b) Report on Form 8-K
Form 8-K dated June 6, 2002, regarding Changes in Registrant's Certifying
Accountant
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SIGNATURES
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.
PUBLICARD, INC.
(Registrant)
Date: March 28, 2003 /s/ Antonio L. DeLise
Antonio L. DeLise, President,
Chief Executive Officer, Chief Financial
Officer and Secretary
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CERTIFICATION
I, Antonio L. DeLise, as the President, Chief Executive Officer and Chief
Financial Officer of PubliCARD, Inc., certify that:
1. I have reviewed this amended quarterly report on Form 10-Q/A of
PubliCARD, Inc.;
2. Based on my knowledge, this amended quarterly report does not contain
any untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances under which
such statements were made, not misleading with respect to the period covered by
this amended quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this amended quarterly report, fairly present in all
material respects the financial condition, results of operations and cash flows
of the registrant as of, and for, the periods presented in this amended
quarterly report.
Date: March 28, 2003 /s/ Antonio L. DeLise
---------------------------------------
Antonio L. DeLise
President, Chief Executive Officer,
Chief Financial Officer and Secretary
32