U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-KSB
[X] Annual report pursuant to section 13 or 15(d) of the Securities Exchange
Act of 1934 for the fiscal year ended December 31, 2002, or
[ ] Transition report pursuant to section 13 or 15(d) of the Securities
Exchange act of 1934 for the transition period from to .
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Commission File No. 33-13674-LA
CIRTRAN CORPORATION
(Exact name of small business issuer as specified in its charter)
Nevada 68-0121636
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
4125 South 6000 West, West Valley City, Utah 84128
(Address of principal executive offices)
(801) 963-5112
(Issuer's telephone number)
Securities registered under Section 12(b) of the Act: None
Securities registered under Section 12(g) of the Act: Common Stock,
Par Value $0.001
Check whether the issuer (1) filed all reports required to be filed by sections
13 or 15(d) of the Exchange Act during the past 12 months (or such shorter
period that the issuer was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes [X] No [ ]
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B in this form, and no disclosure will be contained, to the best of
registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-KSB or any amendment to
this Form 10-KSB. [ X ]
The issuer's revenues for its most recent fiscal year: $2,299,668
The aggregate market value of the voting and non-voting common equity held by
non-affiliates computed by reference to the average bid and asked price of such
common equity as of March 31, 2003, was $2,840,010.
As of March 31, 2003, the Registrant had outstanding 254,684,691 shares of
Common Stock, par value $0.001.
Documents incorporated by reference: None
TABLE OF CONTENTS
ITEM NUMBER AND CAPTION Page
Part I
1. Description of Business 3
2. Description of Properties 9
3. Legal Proceedings 9
4. Submission of Matters to a Vote of Security Holders 14
Part II
5. Market for Common Equity and Related Stockholder Matters 14
6. Management's Discussion and Analysis or Plan of Operations 16
7. Financial Statements 22
8. Changes in and Disagreements with Accountants on 22
Accounting and Financial Disclosure
Part III
9. Directors, Executive Officers, Promoters and Control 23
Persons; Compliance with Section 16(a) of the Exchange Act
10. Executive Compensation 24
11. Security Ownership of Certain Beneficial Owners and Management 25
12. Certain Relationships and Related Transactions 27
13. Exhibits and Reports on Form 8-K 28
14. Controls and Procedures 30
Signatures 31
2
PART I
ITEM 1. DESCRIPTION OF BUSINESS
We are a full-service contract electronics manufacturer servicing original
equipment manufactures ("OEMs") in the following industries: communications,
networking, peripherals, gaming, law enforcement, consumer products,
telecommunications, automotive, medical and semi-conductor. We conduct our
operations through two main divisions: circuit board manufacturing and assembly
and Ethernet card design and manufacture.
Industry Background
The contract electronics manufacturing industry specializes in providing the
program management, technical and administrative support and manufacturing
expertise required to take an electronic product from the early design and
prototype stages through volume production and distribution. The goal is to
provide a quality product, delivered on time and at the lowest cost, to the OEM.
This full range of services gives the OEM an opportunity to avoid large capital
investments in plant, inventory, equipment and staffing and to concentrate
instead on innovation, design and marketing. By using our contract electronics
manufacturing services, our customers have the ability to improve the return on
their investment with greater flexibility in responding to market demands and
exploiting new market opportunities.
We believe two important trends have developed in the contract electronics
manufacturing industry. First, we believe OEMs increasingly require contract
manufacturers to provide complete turnkey manufacturing and material handling
services, rather than working on a consignment basis where the OEM supplies all
materials and the contract manufacturer supplies only labor. Turnkey contracts
involve design, manufacturing and engineering support, the procurement of all
materials, and sophisticated in-circuit and functional testing and distribution.
The manufacturing partnership between OEMs and contract manufacturers involves
an increased use of "just-in-time" inventory management techniques that minimize
the OEM's investment in component inventories, personnel and related facilities,
thereby reducing costs.
We believe a second trend in the industry has been the increasing shift from
pin-through-hole, or PTH, to surface mount technology, or SMT, interconnection
technologies. Surface mount and pin-through-hole printed circuit board
assemblies are printed circuit boards on which various electronic components,
such as integrated circuits, capacitors, microprocessors and resistors are
mounted. These assemblies are key functional elements of many types of
electronic products. PTH technology involves the attachment of electronic
components to printed circuit boards with leads or pins that are inserted into
pre-drilled holes in the boards. The pins are then soldered to the electronic
circuits. The drive for increasingly greater functional density has resulted in
the emergence of SMT, which eliminates the need for holes and allows components
to be placed on both sides of a printed circuit. SMT requires expensive, highly
automated assembly equipment and significantly more operational expertise than
PTH technology. We believe the shift to SMT from PTH technology has increased
the use of contract manufacturers by OEMs seeking to avoid the significant
capital investment required for development and maintenance of SMT expertise.
Electronics Assembly and Manufacture
3
Approximately 80% of our revenues are generated by our electronics assembly
activities, which consist primarily of the placement and attachment of
electronic and mechanical components on printed circuit boards and flexible
(i.e., bendable) cables. We also assemble higher-level sub-systems and systems
incorporating printed circuit boards and complex electromechanical components
that convert electrical energy to mechanical energy, in some cases manufacturing
and packaging products for shipment directly to our customers' distributors. In
addition, we provide other manufacturing services, including refurbishment and
remanufacturing. We manufacture on a turnkey basis, directly procuring any of
the components necessary for production where the OEM customer does not supply
all of the components that are required for assembly. We also provide design and
new product introduction services, just-in-time delivery on low to medium volume
turnkey and consignment projects and projects that require more value-added
services, and price-sensitive, high-volume production. Our goal is to offer
customers significant competitive advantages that can be obtained from
manufacturing outsourcing, such as access to advanced manufacturing
technologies, shortened product time-to-market, reduced cost of production, more
effective asset utilization, improved inventory management and increased
purchasing power.
Ethernet Technology
Through our subsidiary, Racore Technology Corporation ("Racore"), we design,
manufacture, and distribute Ethernet cards. These components are used to connect
computers through fiber optic networks. In addition, we produce private label,
custom designed networking products and technologies on an OEM basis. Our
products serve major industrial, financial, and telecommunications companies
worldwide. We market our products through an international network of
distributors, value added resellers, and systems integrators who sell, install,
and support our entire product catalogue.
Additionally, we have established, and continue to seek to establish, key
business alliances with major multinational companies in the computing and data
communications industries for which we produce private label, custom designed
networking products and technologies on an OEM basis. These alliances generally
require that Racore either develop custom products or adapt existing Racore
products to become part of the OEM customer's product line. Under a typical
contract, Racore provides a product with the customer's logo, packaging,
documentation, and custom software and drivers to allow the product to appear
unique and proprietary to the OEM customer. Contract terms generally provide for
a non-recurring engineering charge for the development and customization
charges, together with a contractual commitment for a specific quantity of
product over a given term.
In June 2001, Racore received a $225,000 order for specially-designed Ethernet
cards for a federal law enforcement agency. In September 2001, Racore submitted
a bid for business with the same agency that, if accepted, would have resulted
in a contract valued at over $2.0 million over three years. This bid was
ultimately not accepted, but Racore remains committed to actively pursuing
government contracts for its Ethernet card technology. These contracts are
generally awarded in September of each year, the last month of the government's
fiscal year. In February of 2003, Racore received additional orders from GTSI
for another government agency in the amount of $40,000. The final part of this
order was shipped the first week in April 2003 and finally payment is expected
in May 2003. Further, Racore expects to receive additional orders through 2003.
Market and Business Strategy
Our goal is to benefit from the increased market acceptance of, and reliance
upon, the use of manufacturing specialists by many electronics OEMs. We believe
the trend towards outsourcing manufacturing will continue. OEMs utilize
manufacturing specialists for many reasons including the following:
4
o To Reduce Time to Market. Due to intense competitive pressures in the
electronics industry, OEMs are faced with increasingly shorter product
life-cycles and, therefore, have a growing need to reduce the time
required to bring a product to market. We believe OEMs can reduce their
time to market by using a manufacturing specialist's manufacturing
expertise and infrastructure.
o To Reduce Investment. The investment required for internal manufacturing
has increased significantly as electronic products have become more
technologically advanced and are shipped in greater unit volumes. We
believe use of manufacturing specialists allows OEMs to gain access to
advanced manufacturing capabilities while substantially reducing their
overall resource requirements.
o To Focus Resources. Because the electronics industry is experiencing
greater levels of competition and more rapid technological change, many
OEMs are focusing their resources on activities and technologies which add
the greatest value to their operations. By offering comprehensive
electronics assembly and related manufacturing services, we believe
manufacturing specialists allow OEMs to focus on their own core
competencies such as product development and marketing.
o To Access Leading Manufacturing Technology. Electronic products and
electronics manufacturing technology have become increasingly
sophisticated and complex, making it difficult for OEMs to maintain the
necessary technological expertise to manufacture products internally. We
believe OEMs are motivated to work with a manufacturing specialist to gain
access to the specialist's expertise in interconnect, test and process
technologies.
o To Improve Inventory Management and Purchasing Power. Electronics industry
OEMs are faced with increasing difficulties in planning, procuring and
managing their inventories efficiently due to frequent design changes,
short product life-cycles, large required investments in electronic
components, component price fluctuations and the need to achieve economies
of scale in materials procurement. OEMs can reduce production costs by
using a manufacturing specialist's volume procurement capabilities. In
addition, a manufacturing specialist's expertise in inventory management
can provide better control over inventory levels and increase the OEM's
return on assets.
An important element of our strategy is to establish partnerships with major and
emerging OEM leaders in diverse segments across the electronics industry. Due to
the costs inherent in supporting customer relationships, we focus our efforts on
customers with which the opportunity exists to develop long-term business
partnerships. Our goal is to provide our customers with total manufacturing
solutions for both new and more mature products, as well as across product
generations.
Another element of our strategy is to provide a complete range of manufacturing
management and value-added services, including materials management, board
design, concurrent engineering, assembly of complex printed circuit boards and
other electronic assemblies, test engineering, software manufacturing, accessory
packaging and post-manufacturing services. We believe that as manufacturing
technologies become more complex and as product life cycles shorten, OEMs will
increasingly contract for manufacturing on a turnkey basis as they seek to
reduce their time to market and capital asset and inventory costs. We believe
that the ability to manage and support large turnkey projects is a critical
success factor and a significant barrier to entry for the market it serves. In
addition, we believe that due to the difficulty and long lead-time required to
change manufacturers, turnkey projects generally increase an OEM's dependence on
its manufacturing specialist, which can result in a more stable customer base.
Suppliers; Raw Materials
5
Our sources of components for our electronics assembly business are either
manufacturers or distributors of electronic components. These components include
passive components, such as resisters, capacitors and diodes, and active
components, such as integrated circuits and semi-conductors. Our suppliers
include Siemens, Muriata-Erie, Texas Instruments, Fairchild, Harris and
Motorola. Distributors from whom we obtain materials include Avnet, Future
Electronics, Arrow Electronics, Digi-key and Force Electronics. Although we have
experienced shortages of various components used in our assembly and
manufacturing processes, we typically hedge against such shortages by using a
variety of sources and, to the extent possible, by projecting our customer's
needs.
Research and Development
During 2002 and 2001, CirTran Corporation spent approximately $43,272 and
$159,271, respectively, on research and development of new products and
services. The costs of that research and development were paid for by our
customers. In addition, during the same periods, our subsidiary, Racore, spent
approximately $45,000 and $148,287, respectively. None of Racore's expenses were
paid for by its customers. We remain committed, particularly in the case of
Racore, to continuing to develop and enhance our product line as part of our
overall business strategy.
Sales and Marketing
Historically, we have had substantial recurring sales from existing customers,
though we continue to seek out new customers to generate increased sales. We
treat sales and marketing as an integrated process involving direct salespersons
and project managers, as well as senior executives. We also use independent
sales representatives in certain geographic areas.
During the sale process, a customer provides us with specifications for the
product it wants, and we develop a bid price for manufacturing a minimum
quantity that includes manufacture engineering, parts, labor, testing, and
shipping. If the bid is accepted, the customer is required to purchase the
minimum quantity and additional product is sold through purchase orders issued
under the original contract. Special engineering services are provided at either
an hourly rate or at a fixed contract price for a specified task.
In 2002, 94% of our net sales were derived from pre-existing customers, whereas
during the year ended December 31, 2001, over 97% of our net sales were derived
from customers that were also customers during 2000. Historically, a small
number of customers accounted for a significant portion of our net sales. In
2002 our three largest customers accounted for approximately 45% of our total
sales. However in 2001 no single customer accounted for more than 10% of our
total sales. During the year ended December 31, 2000, our largest customer,
Osicom Technology and its successor, Entrada Networks, Inc., accounted for 30%
of consolidated net sales. We no longer do business with Entrada Networks, Inc.
During 2001 and 2002, we operated without a line of credit and many of our
vendors stopped credit sales of components used by us in the manufacturing of
products, thus hampering our ability to attract and retain turnkey customer
business. In addition, although our sales in 2002 were higher than 2001,
financial constraints experienced in 2001 and 2002 mandated a reduction in our
general work force, which experienced a 50% reduction in size. These factors, as
well as general economic conditions during the second half of 2002, resulted in
a significant decrease in sales during 2002.
Backlog consists of contracts or purchase orders with delivery dates scheduled
within the next twelve months. At December 31, 2002, our backlog was
approximately $450,000. At December 31, 2001, our backlog was approximately
$1,750,000. As of March 27, 2003, our backlog has increased to $800,000.
In September and October 2001, we issued several press releases relating to:
6
- Our "partnership with an offshore Malaysian entity . . . expects
to commence bidding for multi-million dollar contracts through
this entity in the very near future" in our September 19, 2001
press release;
- InterMotive Products and the "two contracts for new products and
the vehicle orders that are "projected to blossom into a million
dollar contract manufacturing opportunity" for CirTran in our
October 10, 2001 press release; and
- The "implementation of . . . [new] software . . . bring CirTran
the potential for multi- million dollar revenue relationships" in
our October 16, 2001 press release.
We entered into the partnership with the Malaysian entity outlined in the
September 19, 2001, press release, to enable us to submit more competitive bids
for larger production contracts. The Company also implemented the software
referenced in the October 16, 2001, press release to enable us to bid more
competitively for larger contracts. Through December 31, 2002, in connection
with the relationship with the Malaysian entity, we bid on large-scale contracts
ranging from approximately $2 million to $4 million. Although we feel that our
relationship with the Malaysian entity will enable us to continue to bid
competitively for the larger contracts, to date we have been unsuccessful at
being selected as a supplier on any of the larger bids we submitted.
Nevertheless, management feels that the Company's continued involvement in these
relationships enables the Company to continue to bid competitively for these
larger bids.
In December 2002, CirTran and SVI, an independent electronic manufacturing
service company based in Thailand, announced a manufacturing accord. The two
companies will work together to support mutual customers from product design to
volume manufacturing. Under the agreement, both parties will work jointly as
each other's respective vendor and/or partner on pursuing business contracts in
the United States utilizing both parties' resources providing the contract
manufacturing of electronics.
With respect to the contracts with Intermotive, Inc. ("Intermotive"), referenced
in the October 10, 2001, press release, through December 31, 2002, we had
entered into purchase orders with Intermotive ranging from approximately $4,607
to $34,077. The Company's relationship with Intermotive remains productive, and
management believes that this relationship should continue to produce revenue
for the Company, although there can be no guarantee that Intermotive will
continue to order from us or that any future orders will be substantial.
In the last quarter of 2001 and into 2002, we also took steps to increase our
sales volume by adding three new sales representatives, hiring a sales manager,
implementing software to access databases containing potential new customers and
sales opportunities, and continuing our efforts to improve our competitive
position by installing additional surface-mount technology equipment that had
previously been at our Colorado location and by seeking ISO (International
Organization for Standardization) 9002 certification, which we hope to obtain by
the end of 2003. This certification would allow us to ensure to prospective
customers that we comply with internationally-recognized quality production
standards.
In February 2003, CirTran received Certification Approval under the Joint
Certification Program ("JCP") from the United States/Canada Joint Certification
Office, Defense Logistics Information Service. Certification under the JCP
establishes the eligibility of a U.S. or Canadian contractor to receive
technical data governed, in the U.S. by Department of Defense ("DoD") directive
5230.25 and, in Canada, by the Technical Data Control Regulations ("TDCR"). We
feel JCP benefits the U.S. and Canadian defense and high technology industries
by facilitating their continued access to unclassified technical data disclosing
7
critical technology in the possession of, or under the control of the U.S. DoD
or the Canadian Department of National Defense ("DND"). This is an important
recognition for CirTran and is consistent with our efforts to expand our revenue
opportunities. Our approved access to technologies in the U.S. Department of
Defense and the Canadian Department of National Defense will allow us to support
the commercial activities of the broad range of manufacturers working with both
governments.
Material Contracts and Relationships
We generally use form agreements with standard industry terms as the basis for
our contracts with our customers. The form agreements typically specify the
general terms of our economic arrangement with the customer (number of units to
be manufactured, price per unit and delivery schedule) and contain additional
provisions that are generally accepted in the industry regarding payment terms,
risk of loss and other matters. We also use a form agreement with our
independent marketing representatives that features standard terms typically
found in such agreements.
Competition
The electronic manufacturing services industry is large and diverse and is
serviced by many companies, including several that have achieved significant
market share. Because of our market's size and diversity, we do not typically
compete for contracts with a discreet group of competitors. We compete with
different companies depending on the type of service or geographic area. Certain
of our competitors may have greater manufacturing, financial, research and
development and marketing resources. We also face competition from current and
prospective customers that evaluate our capabilities against the merits of
manufacturing products internally.
We believe that the primary basis of competition in our targeted markets is
manufacturing technology, quality, responsiveness, the provision of value-added
services and price. To remain competitive, we must continue to provide
technologically advanced manufacturing services, maintain quality levels, offer
flexible delivery schedules, deliver finished products on a reliable basis and
compete favorably on the basis of price.
Regulation
We are subject to typical federal, state and local regulations and laws
governing the operations of manufacturing concerns, including environmental
disposal, storage and discharge regulations and laws, employee safety laws and
regulations and labor practices laws and regulations. We are not required under
current laws and regulations to obtain or maintain any specialized or
agency-specific licenses, permits, or authorizations to conduct our
manufacturing services. Other than as discussed in "Item 3 - Legal Proceedings"
concerning delinquent payroll taxes, we believe we are in substantial compliance
with all relevant regulations applicable to our business and operations.
Employees
We employ 47 persons, 4 in administrative positions, 3 in engineering and
design, 38 in clerical and manufacturing, and 2 in sales.
Corporate Background
Our core business was commenced by Circuit Technology, Inc. ("Circuit"), in 1993
by our president, Iehab Hawatmeh. Circuit enjoyed increasing sales and growth in
the subsequent five years, going from $2.0 million in sales in 1994 to $15.4
8
million in 1998, leading to the purchase of two additional SMT assembly lines in
1998 and the acquisition of Racore Computer Products, Inc., in 1997. During that
period, Circuit hired additional management personnel to assist in managing its
growth, and Circuit executed plans to expand its operations by acquiring a
second manufacturing facility in Colorado. Circuit subsequently determined in
early 1999, however, that certain large contracts that accounted for significant
portions of our total revenues provided insufficient profit margins to sustain
the growth and resulting increased overhead. Furthermore, internal accounting
controls then in place failed to apprise management on a timely basis of our
deteriorating financial position. During the last several years, we have
experienced significant losses, including $4,179,654 in 2000, $2,933,084 in
2001, and $2,149,810 in 2002.
We were incorporated in Nevada in 1987, under the name Vermillion Ventures,
Inc., for the purpose of acquiring other operating corporate entities. We were
largely inactive until July 1, 2000, when we issued a total of 10,000,000 shares
of our common stock (150,000,000 of our shares as presently constituted) to
acquire, through our wholly-owned subsidiary, CirTran Corporation (Utah),
substantially all of the assets and certain liabilities of Circuit.
In 1987, Vermillion Ventures, Inc. filed an S-18 registration statement with the
United States Securities and Exchange Commission ("SEC") but did not at that
time become a registrant under the Securities Exchange Act of 1934 ("1934 Act").
From 1989 until 2000, Vermillion did not make any filings with the SEC under the
1934 Act. In July 2000, we commenced filing regular annual, quarterly, and
current reports with the SEC on Forms 10-KSB, 10-QSB, and 8-K, respectively, and
have made all filings required of a public company since that time. In February
2001, we filed a Form 8-A with the SEC and became a registrant under the 1934
Act. We may be subject to certain liabilities arising from the failure of
Vermillion to file reports with the SEC from 1989 to 1990, but we believe these
liabilities are minimal because there was no public market for the common shares
of Vermillion from 1989 until the third quarter of 1990 (when our shares began
to be traded on the Pink Sheets) and it is likely that the statute of
limitations has run on whatever public trades in the shares of our common stock
may have taken place during the period during which Vermillion failed to file
reports.
On August 6, 2001, we effected a 1:15 forward split and stock distribution which
increased the number of our issued and outstanding shares of common stock from
10,420,067 to 156,301,005. We also increased our authorized capital from
500,000,000 to 750,000,000 shares.
ITEM 2. DESCRIPTION OF PROPERTIES
We lease approximately 40,000 square feet of office and manufacturing space in
West Valley City, Utah, at a monthly lease rate of approximately $16,000. The
lease is renewable in November of 2006 for two additional ten-year periods. This
facility serves as our principal offices and manufacturing facility and is
leased from I&R Properties, LLC, a company owned and controlled by individuals
who are officers, directors and principal stockholders. We believe our lease for
the facility is on commercially reasonable terms.
ITEM 3. LEGAL PROCEEDINGS
As of December 31, 2002, we had accrued liabilities in the amount of $2,029,626
for delinquent payroll taxes, including interest estimated at $304,917 and
penalties estimated at $229,285. Of this amount, approximately $301,741 was due
the State of Utah. During the first quarter of 2002, we negotiated a monthly
payment schedule of $4,000 to the State of Utah, which did not provide for the
forgiveness of any taxes, penalties or interest. These monthly payments were not
made during the third quarter. Assuming no reduction in penalties and interest,
these payments would be required through March 2008. Approximately $1,716,946 is
owed to the Internal Revenue Service ("IRS"). During the first quarter of 2002,
9
we negotiated a payment schedule with respect to this amount, pursuant to which
monthly payments of $25,000 were required. Assuming no reduction in penalties
and interest, these payments would be required through August 2007. In addition,
we committed to keeping current on deposits of federal withholding amounts. The
required monthly payments were made during each of the three months during the
second quarter. None of the monthly payments were made during the third quarter,
and the Company is renegotiating the payment schedule with the IRS. In addition,
we failed to pay several of our current withholding obligations. Subsequent to
year end we have paid the 2002 IRS payroll taxes for the third and fourth
quarters. Approximately $10,939 is owed to the State of Colorado.
We (as successor to Circuit Technology, Inc.) were a defendant in an action in
El Paso County, Colorado District Court, brought by Sunborne XII, LLC, a
Colorado limited liability company, for alleged breach of a sublease agreement
involving facilities located in Colorado. Our liability in this action was
originally estimated to range up to $2.5 million, and we subsequently filed a
counter suit in the same court against Sunborne in an amount exceeding $500,000
for missing equipment. Effective January 18, 2002, we entered into a settlement
agreement with Sunborne with respect to the above-described litigation. The
settlement agreement required us to pay Sunborne the sum of $250,000. Of this
amount, $25,000 was paid upon execution of the agreement, and the balance of
$225,000, together with interest at 8% per annum, was payable by July 18, 2002.
As security for payment of the balance, we executed and delivered to Sunborne a
Confession of Judgment and also issued to Sunborne 3,000,000 shares of our
common stock, which are held in escrow and have been treated as treasury stock
recorded at no cost. Because, 75% of the balance owing under the agreement was
not paid by May 18, 2002, we were required to prepare and file with the
Securities & Exchange Commission, at our expense, a registration statement with
respect to the shares that were escrowed. The payment was not made, nor was a
registration statement filed with respect to the escrowed shares.
Pursuant to a Termination of Sublease Agreement dated as of May 22, 2002 among
the Company, Sunborne and other parties, the sublease agreement that was the
subject of our litigation with Sunborne was terminated and a payment of
approximately $109,000 was credited against the amount owed by the Company to
Sunborne under the Company's settlement agreement with them. Sunborne has filed
a claim that this amount was to be an additional rent expense rather than a
payment on the note payable. The Company disputes this claim and intends to
vigorously defend the action.
As of February 10, 2003, the Company was in default of its obligations under the
settlement agreement with Sunborne, i.e., the total payment due thereunder had
not been made, a registration statement with respect to the escrowed shares was
not filed, and the Company did not replace the escrowed shares with registered,
free-trading shares as per the terms of the agreement. Accordingly, Sunborne has
filed the Confession of Judgment and proceeded with execution thereon. The
Company is currently negotiating with Sunborne in an attempt to settle the
remaining obligation under the settlement agreement.
We also assumed certain liabilities of Circuit Technology, Inc. in connection
with our transactions with that entity in the year 2000, and as a result we are
defendant in a number of legal actions involving nonpayment of vendors for goods
and services rendered. We have accrued these payables and have negotiated
settlements with respect to some of the liabilities, including those detailed
below, and are currently negotiating settlements with other vendors.
Advanced Component Labs adv. Circuit Technology Corporation Civil No. 990912318,
Third Judicial District Court, Salt Lake Department, Salt Lake County, State of
Utah. Suit was brought against the Company on or about December 8, 1999, under
allegations that the Company owed $44,269.43 for the cost of goods or services
provided to the Company for the Company's use and benefit. Claims are asserted
for breach of implied contract and unjust enrichment. The Company has answered,
admitting that it owed certain sums for conforming goods and services and
10
denying all other claims. Initial discovery is beginning. No trial date has been
set.
Advanced Electronics has notified the Company that it believes it has a claim
against the Company in the amount of $67,691.56 for the cost of goods or
services provided to the Company for the Company's use and benefit. Negotiations
for settlement of this claim have resulted in an agreement in principal whereby
the Company will make a cash payment to this creditor and issue a promissory
note and shares of its restricted common stock in satisfaction of the creditor's
claims. The parties are presently negotiating the terms of the settlement
documents. However, until the settlement documents are executed and delivered,
there can be no assurance that the creditor's claims will be settled nor that
the terms will be favorable to the Company.
Arrow Electronics adv. Circuit Technology Corporation, Civil No. 990409504,
Third Judicial District Court Sandy Department, Salt Lake County, State of Utah.
Suit was brought against the Company on or about October 19, 1999, under
allegations that the Company owes $199,647.92 for materials and services and
terms of a promissory note. The Company has answered, admitting that it owed
certain sums and denying all other claims. The Company and Arrow have entered a
settlement agreement under which the Company will pay $6,256.24 each month until
the obligation and interest thereon are paid. Judgment was entered April 24,
2001, against the Company for $218,435.46 accruing at 16% per annum. The Company
is currently attempting to negotiate a settlement of these claims.
Arrow Electronics adv. Circuit Technology Corporation, Civil No. 010406732,
Third Judicial District Court, Sandy Department, Salt Lake County, State of
Utah. Suit was brought against the Company on or about June 28, 2001, under
allegations that the Company owes $41,486.26. Judgment was entered against the
Company on January 7, 2002. The Company is currently attempting to negotiate a
settlement of these claims.
Avnet Electronics has notified the Company that it believes it has a claim
against the Company in the amount of $180,331.02 for the cost of goods or
services provided to the Company for the Company's use and benefit. No lawsuit
has been filed. Negotiations for settlement of this claim have resulted in an
agreement in principal whereby the Company will make a cash payment to this
creditor and issue a promissory note and its restricted common stock in
satisfaction of the creditor's claims. The parties are presently negotiating the
terms of the settlement documents. However, until the settlement documents are
executed and delivered, there can be no assurance that the creditor's claims
will be settled nor that the terms will be favorable to the Company.
Contact East has notified the Company that it believes it has a claim against
the Company in the amount of $32,129.89 for the cost of goods or services
provided to the Company for the Company's use and benefit. The Company is
reviewing its records in an effort to confirm the validity of the claims and has
been involved in settlement negotiations.
C/S Utilities has notified the Company that it believes it has a claim against
the Company in the amount of $32,472 regarding utilities services. The Company
is reviewing its records in an effort to confirm the validity of the claims and
has been involved in settlement negotiations.
Future Electronics Corp v. Circuit Technology Corporation, Civil No. 000900296,
Third Judicial District Court, Salt Lake County, State of Utah. Suit was brought
against the Company on or about January 12, 2000, under allegations that the
Company owed $646,283.96 for the cost of goods or services provided to the
Company for the Company's use and benefit. Claims were asserted for breach of
contract, fraud, negligent misrepresentation, unjust enrichment, account stated
and dishonored instruments. The Company answered the complaint, admitting that
it owed certain sums for conforming goods and services and denying all other
claims. Partial Summary Judgment was entered in the amount of $646,783.96 as to
certain claims against the Company. During 2000, the Company settled the lawsuit
11
by issuing 5,281,050 shares of the Company's common stock valued at $324,284,
paying $83,000 in cash and issuing two notes payable totaling $239,000. During
2002, Future filed a confession of judgment claiming that the Company defaulted
on its agreement and claimed the 2000 lawsuit was not properly satisfied. At
December 31, 2002, the Company owed $60,133 of principal under terms of the
remaining note payable. The Company denies the vendor's claim and intends to
vigorously defend itself against the confession of judgment.
Christine Hindenes v. Racore Network, Inc., and CirTran Corporation, Superior
Court of California, County of Santa Clara, Civil No. CV811051. Ms. Hindenes
brought suit against the Company and Racore for unpaid wages seeking $40,516.44.
The case has been sent to non-binding arbitration which will commence in April
2003. The parties are also negotiating settlement.
Infineon Technologies North America Corp. adv. Circuit Technology, Inc. et al.,
Case No. CV 792634, Superior Court of the State of California, County of Santa
Clara. Judgment was entered against Circuit Technology, Inc., on March 12, 2002,
in the amount of $181,342.15. As of March 25, 2003, we are not aware of any
collection efforts made by Infineon.
John J. La Porta v. Circuit Technology, Inc. et al., Case No. 010900785, Third
Judicial District Court, Salt Lake Department, Salt Lake County, State of Utah.
Mr. La Porta filed suit on or about January 23, 2001, seeking to recover the
principal sum of $135,941 plus interest on a promissory note given by Racore
Technology Corp. Mr. La Porta claims that the Company is a guarantor of the
promissory note and the Company should be held liable because of Racore's
default on the note. The parties are presently negotiating settlement.
Molex has notified the Company that it believes it has a claim against the
Company in the amount of $90,000.00 for the cost of goods or services provided
to the Company for the Company's use and benefit. The Company is reviewing its
records in an effort to confirm the validity of the claims and has been involved
in settlement negotiations.
Orbit Systems, Inc. adv. Circuit Technology, Inc. et al, Case No. 010100050DC,
Third Judicial District Court, West Valley City Department, Salt Lake County,
State of Utah. Orbit filed suit on January 4, 2001, seeking to recovery $173,310
for the costs of goods that Orbit claims the Company was under contract to
purchase. The Company filed an answer denying the substantive allegations and
filed a Third-party Complaint against Osicom Technologies, Inc., and Entrada
Networks, Inc. ("Entrada"), for contribution, indemnity and reimbursement in the
event the Company is held liable to Orbit. Discovery was begun. Subsequently,
the Company entered into an agreement with Entrada and Orbit. Under the
agreement, Entrada agreed to purchase certain parts and equipment from Orbit.
Once Entrada had paid Orbit for the parts and equipment, Orbit would dismiss its
suit against the Company, and once Orbit had dismissed its suit against the
Company, the Company would dismiss its suit against Entrada. To the Company's
knowledge, Entrada ordered the parts and equipment from Orbit. As of April 4,
2003, the amount at issue is approximately $600, but this suit has not been
dismissed.
Sager Electronics adv. Circuit Technology Corporation, Civil No. 000403535,
Third Judicial District Court, Sandy Department, Salt Lake County, State of
Utah. Suit was brought against the Company on or about March 23, 2000, under
allegations that the Company owed $97,259.23 for the cost of goods or services
provided to the Company for the Company's use and benefit. Claims are asserted
for non payment of amount owing. The Company has answered, admitting that it
owed certain sums for conforming goods and services and denying all other
claims. Negotiations for settlement have resulted in an agreement for settlement
of all claims of Sager against the Company. The Company has arranged certain
payments and is required to pay Sager $1,972.07 each month until paid. The
12
Company defaulted on its obligations in December 2002. The Company is
negotiating a new settlement with Sager.
Signal Transformer Co., Inc., has notified the Company that it believes it has a
claim against the Company in the amount of $38,989 for the cost of goods or
services provided to the Company for the Company's use and benefit. Negotiations
for settlement of this claim have resulted in an agreement in principal whereby
the Company will arrange for a cash payment to this creditor. The parties are
presently negotiating the terms of the settlement documents. However, until the
settlement documents are executed and delivered, there can be no assurance that
the creditor's claims will be settled nor that the terms will be favorable to
the Company.
SuhTech Electronics adv. Circuit Technology Corporation, Civil No. 00L14505,
Circuit Court of Cook County Department, Law Division, State of Illinois. Suit
was brought against the Company on or about December 23, 1999, under allegations
that the Company owed $213,717.70 for the cost of goods or services provided to
the Company for the Company's use and benefit. Claims are asserted for breach of
contract, unjust enrichment and account stated. The Company has answered,
admitting that it owed certain sums for conforming goods and services and
denying all other claims. Judgment was subsequently entered against the Company
on May 29, 2002. The parties are presently negotiating the terms of settlement
documents, pursuant to which the Company will facilitate a payment to this
creditor a cash payment and issue a promissory note and shares of its restricted
common stock in satisfaction of the creditors' claims. However, until the
settlement documents are executed and delivered, there can be no assurance that
the creditors claims will be settled nor that the terms will be favorable to the
Company.
University of Utah v. CirTran Corporation, Third District Court, Salt Lake
County, Civil No. 020900494 . The University of Utah filed a claim against the
Company on January 18, 2002, seeking $37,473.10 in damages. The University filed
a motion for summary judgment in early 2003. The parties are presently
negotiating settlement.
Volt Temporary Services has notified the Company that it believes it has a claim
against the Company in the amount of $30,986 for the cost of goods or services
provided to the Company for the Company's use and benefit. The Company is
reviewing its records in an effort to confirm the validity of the claims and has
been involved in settlement negotiations.
Wells Fargo Equipment Finance adv. Circuit Technology Corporation, Civil No.
901207 Third Judicial District Court, Salt Lake County, State of Utah. Suit was
brought against the Company on or about February 10, 2000, under allegations
that the Company owed $439,493.56 for a loan provided to the Company for the
Company's use and benefit. Claims are asserted for breach of contract, breach of
guarantee and replevin. The Company has answered, admitting that it owed certain
sums for conforming goods and services and denying all other claims. Initial
discovery is beginning. Judgment has been entered against the Company and
certain guarantors in the amount of $427,291.69 plus interest at the rate of
8.61% per annum from June 27, 2000. The parties have reached a settlement
agreement under which the Company will pay approximately $12,000 per month
beginning in January 2003 to resolve this claim.
Zion's First National Bank has notified the Company that it believes it has a
claim against the Company in the amount of $240,000.00 for loans made to the
Company for the Company's use and benefit. The Company has entered into a Fifth
Forbearance and Loan Modification Agreement, requiring monthly payments of
$20,000.00. The Company subsequently renegotiated a settlement with Zions Bank
under which the Company will pay approximately $12,000 per month beginning in
January 2003.
George M. Madanat, Civil No. KC 035616, Superior Court of the State of
California for the County of Los Angeles, East District. Suit was brought
13
against the company on or about April 2, 2001, under allegations that the
company owed $121,824.90 under the terms of a promissory note. A Stipulation for
Settlement and for Entry of Judgment was executed by the parties wherein the
Company agreed to arrange for payment of a principal amount of $145,000 in 48
monthly installments. The Company subsequently defaulted on its obligations
under the settlement agreement, and judgment was entered against the Company. As
of April 4, 2003, the Company is not aware of any collection efforts.
Internal Revenue Service. The Internal Revenue Service has notified the Company
that the Company owes approximately $2.0 million in employee payroll taxes. The
Company is reviewing its records in an effort to confirm the validity of the
claims and has been involved in settlement negotiations.
Dickson Circuits USA, Third District Court, Sandy Department, Civil No.
030401796. Dickson Circuits filed suit against the Company in the amount of
$31,744.64 for the cost of goods and services provided to the Company for the
Company's use and benefit. The Company is reviewing its records in an effort to
confirm the validity of the claims and has been involved in settlement
negotiations. The lawsuit is currently pending.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of security holders in the fourth quarter of
the year ended December 31, 2002.
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Our common stock traded sporadically on the Pink Sheets under the symbol "CIRT"
from July 2000 to July 2002. Effective July 15, 2002, the NASD approved our
shares of common stock for quotation on the NASD Over-the-Counter Electronic
Bulletin Board. The following table sets forth, for the respective periods
indicated, the prices of our common stock as reported and summarized on the Pink
Sheets. These prices are based on inter-dealer bid and asked prices, without
markup, markdown, commissions, or adjustments and may not represent actual
transactions.
Calendar Quarter Ended High Bid Low Bid
December 31, 2002 $0.12 $0.03
September 30, 2002 $0.16 $0.03
June 30, 2002 $0.07 $0.02
March 31, 2002 $0.08 $0.02
December 31, 2001 $0.10 $0.04
September 30, 2001 (1) $0.36 $0.06
June 30, 2001 $3.500 $1.500
March 31, 2001 $5.500 $3.000
December 31, 2000 $4.000 $4.000
(1) Our 15 for 1 forward stock split was made effective August 6, 2001
and our stock price decreased accordingly.
As of March 31, 2003, we had 542 shareholders of record holding 254,684,691
14
shares of common stock.
We have not paid, nor declared, any dividends on our common stock since our
inception and do not intend to declare any such dividends in the foreseeable
future. Our ability to pay dividends is subject to limitations imposed by Nevada
law. Under Nevada law, dividends may be paid to the extent the corporation's
assets exceed its liabilities and it is able to pay its debts as they become due
in the usual course of business.
Recent Sales of Unregistered Securities
In December, 2002, the Company entered into an agreement with Abacas under which
the Company issued an aggregate of 30,000,000 shares of common stock in exchange
for cancellation of an aggregate amount of $1,500,000 in senior debt owed to the
creditors by the Company. The shares were issued with an exchange price of $0.05
per share, for the aggregate amount of $1,500,000. The Company did not grant
registration rights to the four creditors. The shares were issued without
registration under the 1933 Act in reliance on Section 4(2) of the Securities
Act of 1933, as amended (the "1933 Act"), and the rules and regulations
promulgated thereunder.
In January, 2002, the Company entered into an agreement with Abacas under which
the Company issued an aggregate of 19,987,853 shares of common stock in exchange
for cancellation of an aggregate amount of $1,499,090 in senior debt owed to the
creditors by the Company. The shares were issued with an exchange price of
$0.075 per share, for the aggregate amount of $1,500,000. The Company did not
grant registration rights to the four creditors. The shares were issued without
registration under the 1933 Act in reliance on Section 4(2) of the Securities
Act of 1933, as amended (the "1933 Act"), and the rules and regulations
promulgated thereunder.
Penny Stock Rules
Our shares of common stock are subject to the "penny stock" rules of the
Securities Exchange Act of 1934 and various rules under this Act. In general
terms, "penny stock" is defined as any equity security that has a market price
less than $5.00 per share, subject to certain exceptions. The rules provide that
any equity security is considered to be a penny stock unless that security is
registered and traded on a national securities exchange meeting specified
criteria set by the SEC, authorized for quotation from the NASDAQ stock market,
issued by a registered investment company, and excluded from the definition on
the basis of price (at least $5.00 per share), or based on the issuer's net
tangible assets or revenues. In the last case, the issuer's net tangible assets
must exceed $3,000,000 if in continuous operation for at least three years or
$5,000,000 if in operation for less than three years, or the issuer's average
revenues for each of the past three years must exceed $6,000,000.
Trading in shares of penny stock is subject to additional sales practice
requirements for broker-dealers who sell penny stocks to persons other than
established customers and accredited investors. Accredited investors, in
general, include individuals with assets in excess of $1,000,000 or annual
income exceeding $200,000 (or $300,000 together with their spouse), and certain
institutional investors. For transactions covered by these rules, broker-dealers
must make a special suitability determination for the purchase of the security
and must have received the purchaser's written consent to the transaction prior
to the purchase. Additionally, for any transaction involving a penny stock, the
rules require the delivery, prior to the first transaction, of a risk disclosure
document relating to the penny stock. A broker-dealer also must disclose the
commissions payable to both the broker-dealer and the registered representative,
and current quotations for the security. Finally, monthly statements must be
sent disclosing recent price information for the penny stocks. These rules may
restrict the ability of broker-dealers to trade or maintain a market in our
common stock, to the extent it is penny stock, and may affect the ability of
shareholders to sell their shares.
15
Securities authorized for issuance under equity compensation plans
The following table sets forth information about the Company's equity
compensation plans, including the number of securities to be issued upon the
exercise of outstanding options, warrants, and rights; the weighted average
exercise price of the outstanding options, warrants, and rights ; and the number
of securities remaining available for issuance under the specified plan.
------------------------------ -------------------------------- --------------------------------- --------------------------------
Number of securities remaining
Number of securities to be Weighted average exercise price available for future issuance
issued upon exercise of of outstanding options, under equity compensation plans
outstanding options, warrants, warrants, and rights
Plan Category and rights
------------------------------ -------------------------------- --------------------------------- --------------------------------
Equity compensation plans
approved by shareholders 0 0 0
------------------------------ -------------------------------- --------------------------------- --------------------------------
Equity compensation plans not
approved by shareholders 2001 Plan: 15,000,000 options 2001 Plan: 0 options * 2001 Plan: 0 options
2002 Plan: 7,500,000 options 2002 Plan: 0 options * 2002 Plan: 17,500,000 options
------------------------------ -------------------------------- --------------------------------- --------------------------------
Total 22,500,000 0 17,500,000
------------------------------ -------------------------------- --------------------------------- --------------------------------
* All options issued under this plan to date have been exercised.
16
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS
OR PLAN OF OPERATION.
Overview
We provide a mixture of high and medium size volume turnkey manufacturing
services using surface mount technology, ball-grid array assembly,
pin-through-hole and custom injection molded cabling for leading electronics
OEMs in the communications, networking, peripherals, gaming, law enforcement,
consumer products, telecommunications, automotive, medical, and semiconductor
industries. Our services include pre-manufacturing, manufacturing and
post-manufacturing services. Through our subsidiary, Racore Technology
Corporation, we design and manufacture Ethernet technology products. Our goal is
to offer customers the significant competitive advantages that can be obtained
from manufacture outsourcing, such as access to advanced manufacturing
technologies, shortened product time-to-market, reduced cost of production, more
effective asset utilization, improved inventory management, and increased
purchasing power.
Significant Accounting Policies
Financial Reporting Release No. 60, which was recently released by the
Securities and Exchange Commission, requires all companies to include a
discussion of critical accounting policies or methods used in the preparation of
financial statements. Note 1 of the Notes to the Financial Statements includes a
summary of the significant accounting policies and methods used in the
preparation of our Financial Statements. The following is a brief discussion of
the more significant accounting policies and methods used by us.
Our discussion and analysis of our financial condition and results of operations
is based upon our consolidated financial statements, which have been prepared in
accordance with accounting principles generally accepted in the United States.
These principles require us to make estimates and judgments that affect the
reported amounts of assets, liabilities, revenues and expenses, and related
disclosure of contingent assets and liabilities. We base our estimates on
historical experience and on various other assumptions that are believed to be
reasonable under the circumstances. Estimated amounts may differ under different
assumptions or conditions, and actual results could differ from the estimates.
Revenue Recognition
Revenue is recognized when products are shipped. Title passes to the customer or
independent sales representative at the time of shipment. Returns for defective
items are repaired and sent back to the customer. Historically, expenses
experienced with such returns have not been significant and have been recognized
as incurred.
Inventories
Inventories are stated at the lower of average cost or market value. Costs
include labor, material and overhead costs. Overhead costs are based on indirect
costs allocated among cost of sales, work-in-process inventory and finished
goods inventory. Indirect overhead costs have been charged to cost of sales or
capitalized as inventory based on management's estimate of the benefit of
indirect manufacturing costs to the manufacturing process.
17
When there is evidence that the inventory's value is less than original cost,
the inventory is reduced to market value. The Company determines market value on
current resale amounts and whether technological obsolescence exists. The
Company has agreements with most of its customers that require the customer to
purchase inventory items related to their contracts in the event that the
contracts are cancelled. The market value of related inventory is based upon
those agreements The Company typically orders inventory on a
customer-by-customer basis. In doing so the Company enters into binding
agreements that the customer will purchase any excess inventory after all orders
are complete. Almost 80% of the total inventory is secured by these agreements.
Checks Written in Excess of Cash in Bank
Historically, banks have temporarily lent funds to us by paying out more funds
than were in our accounts under existing lines of credit with those banks.
Subsequent to May 2000, when Abacas purchase our line of credit obligation, the
Company no longer had lines of credit with banks, and those loans were no longer
available or made to us.
Under our cash management system, checks issued but not presented to banks
frequently result in overdraft balances for accounting purposes. These
overdrafts are included as a current liability in the balance sheets.
Related Party Transactions
Certain transactions involving Abacas Ventures, Inc., the Saliba Private Annuity
Trust and the Saliba Living Trust are regarded as related party transactions
under FAS 57. Disclosure concerning these transactions is set out in this Item 6
under "Liquidity and Capital Resources - Liquidity and Financing Arrangements,"
and in "Item 12 - Certain Relationships and Related Transactions."
We lease approximately 40,000 square feet of office and manufacturing space in
West Valley City, Utah, at a monthly lease rate of approximately $16,000. The
lease is renewable in November of 2006 for two additional ten-year periods. This
facility serves as our principal offices and manufacturing facility and is
leased from I&R Properties, LLC, a company owned and controlled by individuals
who are officers, directors and principal stockholders. We believe our lease for
the facility is on commercially reasonable terms.
Results of Operations - Comparison of Years Ended December 31, 2002 and 2001
Sales and Cost of Sales
Net sales increased 22.9 % to $2,299,668 for the year ended December 31, 2002 as
compared to $1,870,848 for the year ended December 31, 2001. The increase is
partially due to the increased orders from pre-existing customers. For CirTran
Corporation, we had two pre-existing customers that have generated approximately
40% of the sales for 2002. These customers are Tempo at 25% and General Cable at
15% of sales. For Racore, pre-existing customer SGI accounted for 65% of sales.
Cost of sales for the year ended December 31, 2002 was $1,966,851, as compared
to $2,340,273 during the prior year. Those costs as a percentage of net sales
18
were 85.5% during 2002 as compared to 125% during 2001. The improvement in the
Cost of sales was due to the higher margin contracts the company completed.
Additionally, improvement of inventory management and control has positively
affected our gross margins. We traditionally tracked inventory by customer
rather than by like-inventory item, and, as a result, we often purchased new
inventory to produce products for a new customer, when we likely had the
necessary inventory on hand under a different customer name. This prior practice
led to a reserve for obsolescence and excess inventory, which for the year 2002
was $540,207, as compared to $506,381 in 2001. However, because of the higher
margin sales, our cost of sales decreased. We have changed our method of
managing and controlling our inventory so that we can identify inventory by a
general part number, rather than a customer number, and we have instituted
monthly reviews to better update and control our inventory. We believe these
improvements have lead to better inventory control and will contribute to
decreased cost of sales. If we are successful in decreasing our cost of sales
further, and if we are able to maintain and increase our levels of sales, we
believe we will be successful in generating sufficient gross profit to cover our
selling, general and administrative expenses.
The following charts present (i) comparisons of sales, cost of sales and gross
profit generated by our two main areas of operations, i.e., electronics assembly
and Ethernet technology, during 2001 and 2002; and (ii) comparisons during these
two years for each division between sales generated by pre-existing customers
and sales generated by new customers.
Year Sales Cost of Sales Gross Loss/Margin
-------------------- ----------------- ---------------------- ----------------------- -------------------------
Electronics 2002 1,838,781 1,673,739 165,042
Assembly
-------------------- ----------------- ---------------------- ----------------------- -------------------------
2001 1,352,085 1,718,687 (366,602)
-------------------- ----------------- ---------------------- ----------------------- -------------------------
Ethernet 2002 460,887 293,112 167,775
Technology
-------------------- ----------------- ---------------------- ----------------------- -------------------------
2001 518,763 621,586 (102,823)
-------------------- ----------------- ---------------------- ----------------------- -------------------------
Year Total Pre-existing Customers New
Sales Customers
-------------------- ----------------- ---------------------- ----------------------- -------------------------
Electronics 2002 1,838,781 1,817,312 21,469
Assembly
-------------------- ----------------- ---------------------- ----------------------- -------------------------
2001 1,352,085 1,311,522 40,563
-------------------- ----------------- ---------------------- ----------------------- -------------------------
Ethernet 2002 460,887 338,927 121,960
Technology
-------------------- ----------------- ---------------------- ----------------------- -------------------------
2001 518,763 462,844 55,919
-------------------- ----------------- ---------------------- ----------------------- -------------------------
Inventory
We use just-in-time manufacturing, which is a production technique that
minimizes work-in-process inventory and manufacturing cycle time, while enabling
us to deliver products to customers in the quantities and time frame required.
This manufacturing technique requires us to maintain an inventory of component
parts to meet customer orders. Inventory at December 31, 2002 was $1,550,553, as
compared to $1,773,888 at December 31, 2001. The decrease in inventory was
primarily the result of the settlement with Entrada, repeated customer orders,
and the implementation of our inventory control system.
Selling, General and Administrative Expenses
During the year ended December 31, 2002, selling, general and administrative
expenses were $2,167,107 versus $1,690,837 for 2001, a 28.2% increase. The
19
increase is a result of our increase in the size of our sales staff, an increase
in the commission structure for the sales staff, and our effort to aggressively
market our products during a period of economic downturn.
Interest Expense
Interest expense for 2002 was $437,074 as compared to $773,034 for 2001, a
decrease of 43.4%. This decrease is primarily attributable to a decrease in debt
which was attributed to the conversions of notes payable to shares of common
stock in January and December 2002 and in delinquent payroll tax liabilities,
the penalties on which were previously recorded as part of interest expense. As
of December 31, 2002 and 2001, the amount of our liability for delinquent state
and federal payroll taxes and estimated penalties and interest thereon was
$2,029,626 and $1,982,445, respectively.
Other income increased from $212 in 2001 to $7,173 in 2002.
As of December 31, 2002 there was a gain on the settlement of the sub-lease in
Colorado Springs of $152,500.
As a result of the above factors, our overall net loss decreased 26.7% to
$2,149,810 for the year ended December 31, 2002, as compared to $2,933,084 for
the year ended December 31, 2001.
Liquidity and Capital Resources
Our expenses are currently greater than our revenues. We have had a history of
losses and our accumulated deficit was $15,230,302 at December 31, 2002 and was
$13,080,492 at December 31, 2001. Our net operating loss for the year ending
December 31, 2002 was $2,149,810, compared to $2,933,084 for the year ending
December 31, 2001. Our current liabilities exceeded our current assets by
$4,490,623 as of December 31, 2002 and $7,832,259 as of December 31, 2001. The
decrease in the difference is mostly attributed to all the debt to equity
conversions done in January and December 2002. For the years ended December 31,
2002 and 2001, we recorded negative cash flows from operations of $1,142,148 and
$288,723, respectively.
Cash
We had cash on hand of $500 at December 31, 2002 and 2001.
Net cash used in operating activities was $1,142,148 for the fiscal year ended
December 31, 2002. During 2002, net cash used in operations was primarily
attributable to $2,149,810 in net losses from operations, partially offset by a
non-cash charge and increases in accrued liabilities of $765,480 and in
decreases to trades accounts receivables and inventories of $361,065 and
$194,506, respectively. The non-cash charge was for depreciation and
amortization of $470,849.
Net cash used in investing activities during the fiscal year ended December 31,
2002, consisted of equipment purchases of $2,822.
Net cash provided by financing activities was $1,144,970 during the fiscal year
ended December 31, 2002. Principal sources of cash were proceeds from
stockholder notes payable of $618,305, proceeds of $845,000 from long-term notes
payable, proceeds from the exercise of options to purchase common stock of
$424,000 and proceeds of $500,000 from the issuance of our common stock.
Principal uses of cash during 2002 consisted of $738,054 principal payments of
notes payable and a decrease to checks written in excess of cash in the bank of
$140,433.
20
Accounts Receivable
At December 31, 2002, we had receivables of $37,464, net of a reserve for
doubtful accounts of $37,037, as compared to $369,250 at December 31, 2001, net
of a reserve of $66,316. The smaller reserve for doubtful accounts in 2002 is
attributable to increased efforts to improve the aging and quality of our
current receivables. Of the amount shown for receivables as of December 31,
2001, $273,328, or approximately 63%, was owed to us by Osicom, one of our
former customers against whom we had filed a breach of contract suit in January
2001. During 2002, we entered into a settlement agreement with Osicom which
provides for the payment of all amounts owed to us by Osicom. See "Item 3 -
Legal Proceedings."
Accounts Payable
Accounts payable were $1,359,723 at December 31, 2002 as compared to $2,141,290
at December 31, 2001. This decrease is primarily attributed to Abacas'
negotiations with several of our vendors whereby Abacas purchased past due
amounts for goods and services provided by vendors, as well as capital leases.
Liquidity and Financing Arrangements
We sustained substantial losses from operations in 2002 and 2001. We had an
accumulated deficit of $15,230,302 and a total stockholders' deficit of
$3,843,097 at December 31, 2002. In addition, during 2002 and 2001, we have
used, rather than provided, cash in our operations. As of December 31, 2002, our
monthly operating costs and interest expenses averaged approximately $220,000
per month.
Since February 2000, we have operated without a line of credit. Abacas Ventures,
Inc., an entity whose shareholders include the Saliba Private Annuity Trust, one
of our major shareholders (see "Item 11 - Security Ownership of Certain
Beneficial Owners and Management") and a related entity, the Saliba Living
Trust, purchased our line of credit of $2,792,609, and this amount was converted
into a note payable to Abacas bearing an interest rate of 10%. As of December
31, 2001, a total of $2,405,507, plus $380,927 in accrued interest, was owed to
Abacas pursuant to this note payable. During 2002, we entered into agreements
with the Saliba Private Annuity Trust and the Saliba Living Trust to exchange
19,987,853 shares of our common stock for $1,499,090 in principal amount of this
debt and to issue an additional 6,666,667 shares to these trusts for $500,000
cash which was used for working capital for the Company. During December 2002,
an additional $1,020,154 of principal and $479,846 of accrued interest owed to
Abacas was converted to 30,000,000 shares of our common stock. See "Item 12 -
Certain Relationships and Related Transactions."
During 2002 and 2001, we converted approximately $316,762 and $32,500,
respectively of trade payables into notes and stock. During January 2002, in
addition to the above-described transactions with the Saliba trusts, we issued
16,666,666 shares of restricted common stock at a price of $0.075 per share in
exchange for the cancellation of $1,250,000 of notes payable to various
stockholders. See "Item 12 - Certain Relationships and Related Transactions." We
continue to work with vendors in an effort to convert other trade payables into
long-term notes and common stock and to cure defaults with lenders with
forbearance agreements that we are able to service.
Despite our efforts to make our debt-load more serviceable, significant amounts
of additional cash will be needed to reduce our debt and fund our losses until
such time as we are able to become profitable. As at December 31, 2002, we were
in default of notes payable whose principal amount, not including the amount
owing to Abacas Ventures, Inc., exceeded $580,000. In addition, the principal
amount of notes that either mature in 2003 or are payable on demand exceed
$97,000. The total amount per month that we have committed to paying pursuant to
21
various settlements for outstanding debt, litigation and delinquent payroll
taxes is currently approximately $42,000, all of which is against accrued
liabilities and notes payable. None of these settlements, however, have resulted
in the forgiveness of any amounts owed, but have simply resulted in a
restructuring in the terms of the various debts.
Management believes that each of the related party transactions were as fair to
the Company as could have been made with unaffiliated third parties.
In conjunction with our efforts to improve our results of operations, discussed
above, we are also actively seeking infusions of capital from investors and are
seeking to replace our line of credit. It is unlikely that we will be able, in
our current financial condition, to obtain additional debt financing; and if we
did acquire more debt, we would have to devote additional cash flow to pay the
debt and secure the debt with assets. We may therefore have to rely on equity
financing to meet our anticipated capital needs. There can be no assurances that
we will be successful in obtaining such capital. If we issue additional shares
for debt and/or equity, this will serve to dilute the value of our common stock
and existing shareholders' positions.
Subsequent to our acquisition of Circuit in July 2000, we took steps to increase
the marketability of our shares of common stock and to make an investment in our
company by potential investors more attractive. These efforts consisted
primarily of seeking to become current in our filings with the Securities and
Exchange Commission and of seeking approval for quotation of our stock on the
NASD Over the Counter Electronic Bulletin Board. NASD approval for quotation of
our stock was obtained in July 2002.
There can be no assurance that we will be successful in obtaining more debt
and/or equity financing in the future or that our results of operations will
materially improve in either the short- or the long-term. If we fail to obtain
such financing and improve our results of operations, we will be unable to meet
our obligations as they become due. That would raise substantial doubt about our
ability to continue as a going concern.
Forward-looking statements
All statements made in this prospectus, other than statements of historical
fact, which address activities, actions, goals, prospects, or new developments
that we expect or anticipate will or may occur in the future, including such
things as expansion and growth of operations and other such matters are
forward-looking statements. Any one or a combination of factors could materially
affect our operations and financial condition. These factors include competitive
pressures, success or failure of marketing programs, changes in pricing and
availability of parts inventory, creditor actions, and conditions in the capital
markets. Forward-looking statements made by us are based on knowledge of our
business and the environment in which we currently operate. Because of the
factors listed above, as well as other factors beyond our control, actual
results may differ from those in the forward-looking statements.
ITEM 7. FINANCIAL STATEMENTS
Our financial statements appear at the end of this report beginning with the
Index to Financial Statements on page F-1.
22
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
As was disclosed in the information previously filed in our Current Report on
Form 8-K filed on March 14, 2002 and in subsequent amendments to this Form 8-K,
on March 12, 2002, we engaged Hansen, Barnett & Maxwell as our independent
auditor with respect to our fiscal year ending December 31, 2001. Hansen,
Barnett & Maxwell was subsequently retained to also audit and provide a report
on our financial statements for the fiscal year ending December 31, 2000, and is
thus providing a report on all financial statements for the year ending December
31, 2002, included in this Annual Report on Form 10KSB.
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT
Directors and Officers
The following sets forth the names, ages and positions of our directors and
officers and the officers of our operating subsidiary, CirTran Corporation
(Utah), along with their dates of service in such capacities.
Name Age Positions
Iehab J. Hawatmeh 36 President, Chief Financial Officer, Secretary and Director of
CirTran Corporation; President of CirTran Corporation (Utah).
Served since July 2000.
Raed Hawatmeh 38 Director since June 2001.
Trevor Saliba 28 Director since June 2001. Senior Vice-President, Sales and
Marketing since January 2002.
Shaher Hawatmeh 37 Vice-President of CirTran Corporation (Utah). Served since July 2000.
Iehab J. Hawatmeh. Mr. Hawatmeh is our President and Secretary and a member of
our Board of Directors. Mr. Hawatmeh served as the President and Chief Executive
Officer of Circuit Technology, Inc. from 1993 until we acquired it in July 2000.
In this position, he was responsible for all operational, financial, marketing
and sales activities of Circuit Technology. He now performs similar functions
for us and our operating subsidiary, CirTran Corporation (Utah). Mr. Hawatmeh is
the brother of Shaher Hawatmeh.
Shaher Hawatmeh. Shaher Hawatmeh served as the Vice-President and Treasurer of
Circuit Technology, Inc. from 1993 until July 2000 and now serves as a
Vice-President of our operating subsidiary, CirTran Corporation (Utah). In such
capacities, he is responsible for budget development, strategic planning, asset
management and marketing. Mr. Hawatmeh is the brother of Iehab Hawatmeh.
Raed Hawatmeh. Raed Hawatmeh, who is not related to Iehab and Shaher Hawatmeh,
has served as a director since June 2001. Mr. Hawatmeh has been a self-employed
investor and venture capitalist for the past five years, specializing in
financing start-up companies in the electronics industry.
Trevor Saliba. Mr. Saliba has served as a director since June 2001 and was
appointed Senior Vice-President, Sales and Marketing in January 2002. In 1997,
Mr. Saliba founded Saliba Corporation, a San Francisco construction company, and
has served as its president
23
since that time. Prior to 1997, Mr. Saliba was employed as a project engineer
for Tutor-Saliba Corporation.
Indemnification Provisions
Our Bylaws provide, among other things, that our officers or directors are not
personally liable to us or to our stockholders for damages for breach of
fiduciary duty as an officer or director, except for damages for breach of such
duty resulting from (a) acts or omissions which involve intentional misconduct,
fraud, or a knowing violation of law, or (b) the unlawful payment of dividends.
Our Bylaws also authorize us to indemnify our officers and directors under
certain circumstances. We anticipate we will enter into indemnification
agreements with each of our executive officers and directors pursuant to which
we will agree to indemnify each such person for all expenses and liabilities
incurred by such person in connection with any civil or criminal action brought
against such person by reason of their being an officer or director of the
Company. In order to be entitled to such indemnification, such person must have
acted in good faith and in a manner reasonably believed to be in or not opposed
to the best interests of the Company and, with respect to criminal actions, such
person must have had no reasonable cause to believe that his conduct was
unlawful.
ITEM 10. EXECUTIVE COMPENSATION
The following table sets forth certain information regarding the annual and
long-term compensation for services to us in all capacities (including Circuit
Technologies, Inc.) for the prior fiscal years ended December 31, 2001, 2000,
and 1999, of those persons who were either (i) the chief executive officer
during the last completed fiscal year or (ii) one of the other four most highly
compensated executive officers as of the end of the last completed fiscal year.
The individuals named below received no other compensation of any type, other
than as set out below, during the fiscal years indicated.
Annual Compensation Long-Term Compensation Awards
Restricted
Stock Stock
Name and Salary Bonus Awards Options All Other
Principal Position Year ($) ($) ($) (#) Compensation
------------------ ---- --- --- --------- --- ------------
Iehab J. Hawatmeh 2002 175,000 - - 1,850,000 -
President, Secretary, 2001 175,000 - - - -
Treasurer and Director 2000 175,000 - - - -
-
Shaher Hawatmeh 2002 130,000 - - 2,500,000 -
Executive Vice President of CirTran 2001 130,000 - - 500,000 -
Corporation (Utah) 2000 109,000 - - -
Trevor M. Saliba
Sr. Vice President and Director 2002 118,000 - - 500,000
of CirTran Corporation 2001 -
2000 -
Raed S. Hawatmeh
Director of CirTran Corporation 2002 - 500,000
2001 -
2000 -
24
Employment Agreements
Iehab Hawatmeh entered into an employment agreement with Circuit in 1993 that
was assigned to us as part of the reverse acquisition of Circuit in July 2000.
This agreement, which is of indefinite term, provides for a base salary for Mr.
Hawatmeh, plus a bonus of 2% of our net profits before taxes, payable quarterly,
and any other bonus our board of directors may approve. The agreement also
provides that, if Mr. Hawatmeh is terminated without cause, we are obligated to
pay him, as a severance payment, an amount equal to five times his then-current
annual base compensation, in one lump-sum payment or otherwise, as Mr. Hawatmeh
may direct.
Trevor Saliba entered into an agreement with us in January 2002 pursuant to
which we retained Mr. Saliba as Senior Vice-President, Sales and Marketing. The
agreement provides for remuneration to Mr. Saliba of $6,000 per month, plus
reimbursement for all pre-approved business expenses. In addition, we agreed to
pay Mr. Saliba an amount equal to 5.0% of all gross investments made into our
company that are generated and arranged by Mr. Saliba. The agreement has an
initial term of one year, renewable upon agreement of the parties, but is
terminable by either party for any reason upon 90 days written notice to the
other party. In addition, we may terminate the agreement upon 30 days written
notice if Mr. Saliba fails to comply with the terms of the agreement.
2001 Stock Plan
The 2001 Stock Plan has been fully distributed.
2002 Stock Plan
In December 2002, our board approved and adopted our 2002 Stock Plan, or the
2002 Plan, subject to shareholder approval. An aggregate of 25,000,000 shares of
our common stock are subject to the 2002 Plan, which provides for grants to
employees, officers, directors and consultants of both non-qualified (or
non-statutory) stock options and "incentive stock options" (within the meaning
of Section 422 of the Internal Revenue Code of 1986, as amended). The 2002 Plan
also provides for the grant of certain stock purchase rights, which are subject
to a purchase agreement between us and the recipient. The purpose of the 2002
Plan is to enable us to attract and retain the best available personnel for
positions of substantial responsibility, to provide additional incentive to such
persons, and to promote the success of our business.
The 2002 Plan is administered by our board of directors, which designates from
time to time the individuals to whom awards are made under the 2002 Plan, the
amount of any such award and the price and other terms and conditions of any
such award. The 2002 Plan shall continue in effect until the date which is ten
years from the date of its adoption by the board of directors, subject to
earlier termination by our board. The board may suspend or terminate the 2002
Plan at any time.
The board determines the persons to whom options are granted, the option price,
the number of shares to be covered by each option, the period of each option,
the times at which options may be exercised and whether the option is an
incentive or non-statutory option. No employee may be granted options or stock
purchase rights under the 2002 Plan for more than an aggregate of 15,000,000
shares in any given fiscal year. We do not receive any monetary consideration
upon the granting of options. Options are exercisable in accordance with the
terms of an option agreement entered into at the time of grant.
The board may also award our shares of common stock under the 2002 Plan as stock
purchase rights. The board determines the persons to receive awards, the number
of shares to be awarded and the time of the award. Shares received pursuant to a
stock purchase right are subject to the terms, conditions and restrictions
determined by the board at the time the award is made, as evidenced by a
25
restricted stock purchase agreement. No stock purchase rights have been granted
under the 2002 Plan.
As of March 31, 2003, options to purchase 7,500,000 shares of our common stock
have been granted under the 2002 Plan.
ITEM 11. SECURITY OWNERSHIP
OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth the number and percentage of the 254,684,691
outstanding shares of our common stock which, according to the information
supplied to us, were beneficially owned, as of March 31, 2003, by (i) each
person who is currently a director, (ii) each executive officer, (iii) all
current directors and executive officers as a group and (iv) each person who, to
our knowledge, is the beneficial owner of more than 5% of our outstanding common
stock. None of the individuals listed below own any options or warrants to
purchase our common stock.
Except as otherwise indicated, the persons named in the table have sole voting
and dispositive power with respect to all shares beneficially owned, subject to
community property laws where applicable. Beneficial ownership is determined
according to the rules of the Securities and Exchange Commission, and generally
means that person has beneficial ownership of a security if he or she possesses
sole or shared voting or investment power over that security. Each director,
officer, or 5% or more shareholder, as the case may be, has furnished us
information with respect to beneficial ownership. Except as otherwise indicated,
we believe that the beneficial owners of the common stock listed below, based on
the information each of them has given to us, have sole investment and voting
power with respect to their shares, except where community property laws may
apply.
Name and Address Relationship Common Shares Percent of Class
Saliba Private Annuity Trust (2) 5% 52,173,990 20.49%
115 S. Valley Street Shareholder
Burbank, CA 91505
Roger Kokozyon 5% 27,715,620 10.88%
4539 Haskell Avenue Shareholder
Encino, CA 91436
Iehab J. Hawatmeh Director, 46,754,188 18.36%
4125 South 6000 West Officer
West Valley City, Utah 84128 & 5% Shareholder
Raed Hawatmeh Director 29,598,530 11.62%
10989 Bluffside Drive & 5%
Studio City, CA 91604 Shareholder
Shaher Hawatmeh Officer 3,775,365 1.48%
4125 South 6000 West
West Valley City, Utah 84128
Trevor Saliba (1) Director 500,000 *
5 Thomas Mellon Circle, Suite 108
San Francisco, California 94134
All Officers and Directors as a Group 80,628,083 31.66%
(4 persons)
-------------------
* Less than 1%.
26
(1) Includes 7,164,620 shares held by the Saliba Living Trust. Thomas L.
Saliba and Betty R. Saliba are the trustees of The Saliba Living Trust and
Thomas L. Saliba is the sole trustee of The Saliba Private Annuity Trust. These
persons control the voting and investment decisions of the shares held by the
respective trusts. Mr. Thomas L. Saliba is a nephew of the grandfather of Mr.
Trevor Saliba, one of our directors and officers. Mr. Trevor Saliba is one of
five passive beneficiaries of Saliba Private Annuity Trust and has no control
over its operations or management. Mr. Saliba disclaims beneficial control over
the shares indicated.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
We lease our principal offices and manufacturing facility from I&R Properties
LLC, a Utah limited liability company, at a monthly lease rate of approximately
$16,000 under a lease that has a current term expiring in November 2006. We have
the option of renewing the lease for two additional 10-year terms. I & R
Properties, LLC is owned and controlled by Iehab J. Hawatmeh, an officer,
director and principal stockholder, Raed Hawatmeh, a principal stockholder and
director, and Shaher Hawatmeh, a Vice president in CirTran Corporation (Utah),
our operating subsidiary.
In January, 2002, the Company entered into an agreement with Abacas under which
the Company issued an aggregate of 19,987,853 shares of common stock to four of
Abacas's shareholders in exchange for cancellation by Abacas of an aggregate
amount of $1,499,090 in senior debt owed to the creditors by the Company. The
shares were issued with an exchange price of $0.075 per share, for the aggregate
amount of $1,500,000.
In December, 2002, the Company entered into an agreement with Abacas under which
the Company issued an aggregate of 30,000,000 shares of common stock to four of
Abacas's shareholders in exchange for cancellation by Abacas of an aggregate
amount of $1,500,000 in senior debt owed to the creditors by the Company. The
shares were issued with an exchange price of $0.05 per share, for the aggregate
amount of $1,500,000.
As of December 31, 2001, Iehab Hawatmeh had loaned us a total of $1,390,125. The
loans were demand loans, bore interest at 10% per annum and were unsecured.
Effective January 14, 2002, we entered into four substantially identical
agreements with existing shareholders pursuant to which we issued an aggregate
of 43,321,186 shares of restricted common stock at a price of $0.075 per share
for $500,000 in cash and the cancellation of $2,749,090 principal amount of our
debt. Two of these agreements were with the Saliba Private Annuity Trust, one of
our principal shareholders, and a related entity, the Saliba Living Trust. The
Saliba trusts are also principals of Abacas Ventures, Inc., which entity
purchased our line of credit in May 2000. (See "Item 6. Management's Discussion
and Analysis of Financial Condition and Results of Operations - Liquidity and
Capital Resources - Liquidity and Financing Arrangements.") Pursuant to the
Saliba agreements, the trusts were issued a total of 26,654,520 shares of common
stock in exchange for $500,000 cash and the cancellation of $1,499,090 of debt.
We used the $500,000 cash from the sale of the shares for working capital. As a
result of this transaction, the percentage of our common stock owned by the
Saliba Private Annuity Trust and the Saliba Living Trust increased from
approximately 6.73% to approximately 17.76%%. Mr. Trevor Saliba, one of our
directors and officers, is a passive beneficiary of the Saliba Private Annuity
27
Trust. Pursuant to the other two agreements made in January, we issued an
aggregate of 16,666,666 shares of restricted common stock at a price of $0.075
per share in exchange for the cancellation of $1,250,000 of notes payable by two
shareholders, Mr. Iehab Hawatmeh (our president, a director and our principal
shareholder) and Mr. Rajai Hawatmeh. Of these shares, 15,333,333 were issued to
Iehab Hawatmeh in exchange for the cancellation of $1,150,000 in debt. As a
result of this transaction, the percentage of our common stock owned by Mr.
Hawatmeh increased from 19.9% to approximately 22.18%.
In February 2000, prior to its acquisition of Vermillion Ventures, Inc., a
public company, Circuit Technology, Inc., while still a private entity, redeemed
680,145 shares (as presently constituted) of common stock held by Raed Hawatmeh,
who was a director of Circuit Technology, Inc. at that time, in exchange for
$80,000 of expenses paid on behalf of the director. No other stated or unstated
rights, privileges, or agreements existed in conjunction with this redemption.
This transaction was consistent with other transactions where shares were
offered for cash.
In 1999, Circuit entered into an agreement with Cogent Capital Corp., or
"Cogent," a financial consulting firm, whereby Cogent agreed to assist and
provide consulting services to Circuit in connection with a possible merger or
acquisition. Pursuant to the terms of this agreement, we issued 800,000
(pre-forward split) restricted shares (12,000,000 post-forward split shares) of
our common stock to Cogent in July 2000 in connection with our acquisition of
the assets and certain liabilities of Circuit. The principal of Cogent was
appointed a director of Circuit after entering into the financial consulting
agreement and resigned as a director prior to the acquisition of Circuit by
Vermillion Ventures, Inc. on July 1, 2000.
Management believed at the time of each of these transactions and continues to
believe that each of these transactions were as fair to the Company as could
have been made with unaffiliated third parties.
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K
Copies of the following documents are included as exhibits to this
report pursuant to Item 601 of Regulation S-B.
Exhibit No. Document
3.1 Articles of Incorporation (previously filed as Exhibit No. 2 to our
8-K dated July 1, 2000, Commission File No. 33-13674-LA, and
incorporated herein by reference).
3.2 Bylaws (previously filed as Exhibit No. 3 to our 8-K dated July 1,
2000, Commission File No. 33-13674-LA, and incorporated herein by
reference).
10. Material Contracts:
10.1 Lease Agreement dated 2 November 1996 between I & R Properties,
LLC and Circuit Technology, Inc. (previously filed as Exhibit No.
4 to our 8-K dated July 1, 2000, Commission File No. 33-13674-LA,
and incorporated herein by reference).
10.2 Financial Advisory Agreement dated 12 May 1999 between Circuit
Technology, Inc. and Cogent Capital Corp. (previously filed as
Exhibit No. 2 to our Annual Report filed on Form 10-KSB for the
year ending 12/31/00, Commission File No. 33-13674-LA, and
incorporated herein by reference).
28
10.3 Form of Product Representative Agreement between CirTran
Corporation and a Representative (previously filed as Exhibit No.
3 to our Annual Report filed on Form 10-KSB for the year ending
12/31/00, Commission File No. 33-13674-LA, and incorporated
herein by reference).
10.4 Security and Loan Agreement dated April 6, 1998 between Imperial
Bank and Circuit Technology, Inc. (previously filed as Exhibit
No. 4 to our Annual Report filed on Form 10-KSB for the year
ending 12/31/00, Commission File No. 33-13674-LA, and
incorporated herein by reference).
10.5 Line of Credit Purchase Agreement dated May 1, 2000 between
Imperial Bank and Abacas Ventures, Inc. (previously filed as
Exhibit No. 5 to our Annual Report filed on Form 10-KSB for the
year ending 12/31/00, Commission File No. 33-13674-LA, and
incorporated herein by reference).
10.6 Assignment of Loan dated May 1, 2000 from Imperial Bank to Abacas
Ventures, Inc. (previously filed as Exhibit No. 6 to our Annual
Report filed on Form 10-KSB for the year ending 12/31/00,
Commission File No. 33-13674-LA, and incorporated herein by
reference).
10.7 Unsecured Promissory Note for $73,000.00 dated November 3, 2000
from CirTran Corporation to Future Electronics Corporation
(previously filed as Exhibit No. 7 to our Annual Report filed on
Form 10-KSB for the year ending 12/31/00, Commission File No.
33-13674-LA, and incorporated herein by reference).
10.8 Unsecured Promissory Note for $166,000.00 dated November 3, 2000
from CirTran Corporation to Future Electronics Corporation
(previously filed as Exhibit No. 8 to our Annual Report filed on
Form 10-KSB for the year ending 12/31/00, Commission File No.
33-13674-LA, and incorporated herein by reference).
10.9 Lock-Up Agreement dated November 3, 2000 between Iehab Hawatmeh
and Future Electronics Corporation (previously filed as Exhibit
No. 9 to our Annual Report filed on Form 10-KSB for the year
ending 12/31/00, Commission File No. 33-13674-LA, and
incorporated herein by reference).
10.10Lock-Up Agreement dated November 3, 2000 between Raed Hawatmeh
and Future Electronics Corporation (previously filed as Exhibit
No. 10 to our Annual Report filed on Form 10-KSB for the year
ending 12/31/00, Commission File No. 33-13674-LA, and
incorporated herein by reference).
10.11Lock-Up Agreement dated November 3, 2000 between Roger Kokozyon
and Future Electronics Corporation (previously filed as Exhibit
No. 11 to our Annual Report filed on Form 10-KSB for the year
ending 12/31/00, Commission File No. 33-13674-LA, and
incorporated herein by reference).
10.12Registration Rights Agreement dated November 3, 2000 between
CirTran Corporation and Future Electronics Corporation
(previously filed as Exhibit No. 12 to our Annual Report filed on
Form 10-KSB for the year ending 12/31/00, Commission File No.
33-13674-LA, and incorporated herein by reference).
10.13Promissory Note and Confession of Judgment dated September 26,
2000 by Circuit Technology Corp. in favor of Arrow Electronics,
Inc. (previously filed as Exhibit No. 13 to our Annual Report
filed on Form 10-KSB for the year ending 12/31/00, Commission
File No. 33-13674-LA, and incorporated herein by reference).
29
10.14Promissory Note and Confession of Judgment dated November 16,
2000 by Circuit Technology Corp. in favor of Sager Electronics
(previously filed as Exhibit No. 14 to our Annual Report filed on
Form 10-KSB for the year ending 12/31/00, Commission File No.
33-13674-LA, and incorporated herein by reference).
10.15Confession of Judgment dated November 3, 2000 by CirTran
Corporation and Iehab Hawatmeh in favor of Future Electronics
Corporation (previously filed as Exhibit No. 15 to our Annual
Report filed on Form 10-KSB for the year ending 12/31/00,
Commission File No. 33-13674-LA, and incorporated herein by
reference).
10.16Settlement Agreement and Release of Claims dated November 3,
2000 between CirTran Corporation, Iehab Hawatmeh and Future
Electronics Corporation (previously filed as Exhibit No. 16 to
our Annual Report filed on Form 10-KSB for the year ending
12/31/00, Commission File No. 33-13674-LA, and incorporated
herein by reference).
10.17Sublease dated 30 November 1998 between Colorado Electronics
Corporation, LLC and Circuit Technology Corporation (previously
filed as Exhibit No. 10.17 to our Registration Statement on Form
SB-2, Amendment No. 1, dated October 29, 2001, and incorporated
herein by reference).
10.18Attornment Agreement dated 30 November 1998 among Sun Borne XII,
LLC et al, Colorado Electronics Corporation LLC and Circuit
Technology Corporation (previously filed as Exhibit No. 10.17 to
our Registration Statement on Form SB-2, Amendment No. 1, dated
October 29, 2001, and incorporated herein by reference).
10.19Form of Subscription Agreement entered into between CirTran
Corporation and various subscribers pursuant to a debt settlement
and private placement completed in January 2002 (previously filed
as Exhibit 10.2 to our Current Report on Form 8-K dated March 19,
2002, and incorporated herein by this reference).
10.20Settlement Agreement entered into on January 18, 2002 among
Sunborne XII, LLC, CirTran Corporation et al. (previously filed
as Exhibit 10.1 to our Current Report on Form 8-K dated March 19,
2002, and incorporated herein by this reference).
21. Subsidiaries of the Registrant
99.1 Certification pursuant to 18 U.S.C. Section 1350
We did not file any reports on Form 8-K during the last quarter of 2002.
ITEM 14.
CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures. The Company's
chief executive officer and chief financial officer, after evaluating the
effectiveness of the Company's "disclosure controls and procedures" (as defined
in the Securities Exchange Act of 1934, Rules 13a-14(c) and 15-d-14(c)) as of a
date (the "Evaluation Date") within 90 days before the filing date of this
quarterly report, has concluded that, as of the Evaluation Date, the Company's
30
disclosure controls and procedures were adequate and designed to ensure that
material information relating to the Company and its subsidiaries would be made
known to them by others within those entities.
(b) Changes in Internal Controls. There were no significant changes
in the Company's internal controls, or, to the Company's knowledge, in other
factors that could significantly affect these controls subsequent to the
Evaluation Date.
31
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the
registrant caused this report to be signed on its behalf by the undersigned
thereunto duly authorized.
CIRTRAN CORPORATION
Date: April 15, 2003 By: /s/ Iehab J. Hawatmeh, President
In accordance with the Exchange Act, this report has been signed by
the following persons on behalf of the registrant and in the capacities and on
the dates indicated.
Date: April 15, 2003 /s/ Iehab J. Hawatmeh
Iehab J. Hawatmeh
President, Chief Financial
Officer and Director
Date: April 15, 2003 /s/ Raed Hawatmeh
Raed Hawatmeh, Director
Date: April 15, 2003 /s/ Trevor Saliba
Trevor Saliba, Director
CERTIFICATION
I, Iehab J. Hawatmeh, certify that:
1. I have reviewed this annual report on Form 10-KSB of CirTran
Corporation;
2. Based on my knowledge, this 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 quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this 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
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly
report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the"Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent functions):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
April 15, 2003 /s/ Iehab J. Hawatmeh
Iehab J. Hawatmeh, President,
Chief Financial Officer and Director
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
The following financial statements of CirTran Corporation and related notes
thereto and auditors' report thereon are filed as part of this Form 10-KSB:
Page
Report of Independent Certified Public Accountants F-2
Consolidated Balance Sheets as of December 31, 2002 and 2001 F-3
Consolidated Statements of Operations for the Years Ended December 31, 2002 and 2001 F-4
Consolidated Statement of Stockholders' Deficit for the Years Ended December 31, 2001 and 2002 F-5
Consolidated Statements of Cash Flows for the Years Ended December 31, 2002 and 2001 F-6
Notes to Consolidated Financial Statements F-8
HANSEN, BARNETT & MAXWELL (801) 532-22
A Professional Corporation Fax (801) 532-7944
CERTIFIED PUBLIC ACCOUNTANTS 5 Triad Center, Suite 750
Salt Lake City, Utah 84180
www.hbmcpas.com
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the of Directors and the Stockholders
CirTran Corporation
We have audited the accompanying consolidated balance sheets of CirTran
Corporation and Subsidiary as of December 31, 2002 and 2001, and the related
consolidated statements of operations, stockholders' deficit, and cash flows for
the years then ended. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audits to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of CirTran Corporation
and Subsidiary as of December 31, 2002 and 2001, and the results of their
operations and their cash flows for the years then ended in conformity with
accounting principles generally accepted in the United States of America.
The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in Note 2 to the
consolidated financial statements, the Company has an accumulated deficit, has
suffered losses from operations and has negative working capital that raise
substantial doubt about its ability to continue as a going concern. Management's
plans in regards to these matters are also described in Note 2. The consolidated
financial statements do not include any adjustments that might result from the
outcome of this uncertainty.
HANSEN, BARNETT & MAXWELL
/s/ Hansen, Barnett & Maxwell
Salt Lake City, Utah
March 13, 2003
CIRTRAN CORPORATION AND SUBSIDIARY
CONSOLIDATED BANANCE SHEETS
DECEMBER 31, 2001 AND 2000
December 31,
----------------------------------
2002 2001
---------------- ---------------
ASSETS
Current Assets
Cash and cash equivalents $ 500 $ 500
Trade accounts receivable, net of allowance for doubtful
accounts of $37,037 and $66,316 in 2002 and 2001, respectively 37,464 369,250
Inventory 1,550,553 1,773,888
Other 100,189 97,036
---------------- ---------------
Total Current Assets 1,688,706 2,240,674
Property and Equipment, Net 865,898 1,333,925
Other Assets, Net 12,236 10,887
Deferred Offering Costs 13,475 -
---------------- ---------------
Total Assets $ 2,580,315 $ 3,585,486
================ ===============
LIABILITIES AND STOCKHOLDERS' DEFICIT
Current Liabilities
Checks written in excess of cash in bank $ 19,531 $ 159,964
Accounts payable 1,359,723 2,141,290
Accrued liabilities 3,030,970 3,071,191
Current maturities of long-term notes payable 1,059,987 863,650
Notes payable to stockholders 20,376 1,390,125
Notes payable to related parties 688,742 2,405,507
Current maturities of capital lease obligations - 41,206
---------------- ---------------
Total Current Liabilities 6,179,329 10,072,933
---------------- ---------------
Long-Term Liabilities
Long-term notes payable, less current maturities 295,083 447,155
Capital lease obligations, less current maturities - 7,775
---------------- ---------------
Total Long-Term Liabilities 295,083 454,930
---------------- ---------------
Commitments
Stockholders' Deficit
Common stock, par value $0.001; authorized 750,000,000 shares;
issued and outstanding shares: 247,184,691 at December 31,
2002 net of 3,000,000 shares held in treasury at no cost and 247,185 160,951
160,951,005 at December 31, 2001
Additional paid-in capital 11,089,020 5,977,164
Accumulated deficit (15,230,302) (13,080,492)
---------------- ---------------
Total Stockholders' Deficit (3,894,097) (6,942,377)
---------------- ---------------
Total Liabilities and Stockholders' Deficit $ 2,580,315 $ 3,585,486
================ ===============
The accompanying notes are an integral
part of these financial statements.
F-3
CIRTRAN CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Years Ended,
December 31,
---------------------------------------------------
2002 2001
----------------------- -----------------------
Net Sales $ 2,299,668 $ 1,870,848
Cost of Sales 1,966,851 2,340,273
----------------------- -----------------------
Gross Profit (Loss) 332,817 (469,425)
----------------------- -----------------------
Operating Expenses
Selling, general and administrative expenses 2,180,226 1,690,837
Non-cash compensation expense 25,000 -
----------------------- -----------------------
Total Operating Expenses 2,205,226 1,690,837
----------------------- -----------------------
Loss From Operations (1,872,409) (2,160,262)
----------------------- -----------------------
Other Income (Expense)
Interest (437,074) (773,034)
Gain on settlement of sublease 152,500 -
Other, net 7,173 212
----------------------- -----------------------
Total Other Expense, Net (277,401) (772,822)
----------------------- -----------------------
Net Loss $ (2,149,810) $ (2,933,084)
======================= =======================
Basic and diluted loss per common share $ (0.01) $ (0.02)
======================= =======================
Basic and diluted weighted-average
common shares outstanding 208,236,039 157,556,073
======================= =======================
The accompanying notes are an integral
part of these financial statements.
F-4
CIRTRAN CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' DEFICIT
FOR THE YEARS ENDED DECEMBER 31, 2001 AND 2002
Common Stock
------------------------------ Additional
Number Paid-in Accumulated
of Shares Amount Capital Deficit Total
---------------- ------------- --------------- --------------- ---------------
Balance - December 31, 2000 156,301,005 $ 156,301 $ 5,664,154 $ (10,147,408) $ (4,326,953)
Warrants issued as a
sales commission - - 200,000 - 200,000
Exercise of warrants 3,000,000 3,000 (990) - 2,010
Exercise of employee stock
options 1,650,000 1,650 114,000 - 115,650
Net loss - - - (2,933,084) (2,933,084)
---------------- ------------- --------------- --------------- ---------------
Balance - December 31, 2001 160,951,005 160,951 5,977,164 (13,080,492) (6,942,377)
Shares issued for cash 6,666,667 6,667 493,333 - 500,000
Shares issued for conversion
of notes payable 36,654,519 36,654 2,712,436 - 2,749,090
Exercise of employee stock
options 10,350,000 10,350 438,650 - 449,000
Shares issued for conversion
of notes payable and accrued
interest to related parties 30,000,000 30,000 1,470,000 - 1,500,000
Shares issued to placement
agent for equity line of credit 2,562,500 2,563 (2,563) - -
Net loss - - - (2,149,810) (2,149,810)
---------------- ------------- --------------- --------------- ---------------
Balance - December 31, 2002 247,184,691 $ 247,185 $ 11,089,020 $ (15,230,302) $ (3,894,097)
================ ============= =============== =============== ===============
The accompanying notes are an integral
part of these financial statements.
F-5
CIRTRAN CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended,
December 31,
---------------------------------------------------
2002 2001
----------------------- -----------------------
Cash flows from operating activities
Net loss $ (2,149,810) $ (2,933,084)
----------------------- -----------------------
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization 470,849 540,090
Provision for doubtful trade accounts receivables - (16,186)
Cash paid for settlement of litigation (25,000) -
Non-cash compensation expense 25,000 -
Payments of notes payable and legal fess made on behalf
of Company from proceeds of settlement of sublease (152,500) -
Legal fees paid on behalf of lender (120,000) -
Warrants issued as a sales commission - 200,000
Changes in assets and liabilities:
Trade accounts receivable 361,065 521,033
Inventories 194,056 (18,102)
Prepaid expenses and other assets 2,498 (3,160)
Accounts payable (513,786) 612,038
Accrued liabilities 765,480 808,648
----------------------- -----------------------
Total adjustments 1,007,662 2,644,361
----------------------- -----------------------
Net cash used in operating activities (1,142,148) (288,723)
----------------------- -----------------------
Cash flows from investing activities
Purchase of property and equipment (2,822) (2,939)
----------------------- -----------------------
Net cash used in investing activities (2,822) (2,939)
----------------------- -----------------------
Cash flows from financing activities
Increase (decrease) in checks written in excess of cash in bank (140,433) 154,473
Proceeds from notes payable to stockholders 618,305 301,159
Payments on notes payable to stockholders (738,054) -
Principal payments on notes payable (363,848) (445,903)
Proceeds from notes payable 845,000 158,255
Payments on capital lease obligations - (4,550)
Proceeds from exercise of options and warrants to purchase
common stock 424,000 117,660
Proceeds from issuance of common stock 500,000 -
----------------------- -----------------------
Net cash provided by financing activities 1,144,970 281,094
----------------------- -----------------------
Net increase (decrease) in cash and cash equivalents - (10,568)
Cash and cash equivalents at beginning of year 500 11,068
----------------------- -----------------------
Cash and cash equivalents at end of year $ 500 $ 500
======================= =======================
The accompanying notes are an integral
part of these financial statements.
F-6
For the Years Ended,
December 31,
---------------------------------------------------
2002 2001
----------------------- -----------------------
Supplemental disclosure of cash flow information
Cash paid during the year for interest $ 152,093 $ 622,266
Noncash investing and financing activities
Notes issued for accounts payable and capital lease obligations $ 316,762 $ 32,500
Accrued interest converted to note payable $ 52,955 $ 77,406
Common stock issued for deferred offering costs $ 205,000 $ -
Common stock issued for notes payable to stockholders $ 1,250,000 $ -
Common stock issued for notes payable to related parties $ 2,519,244 $ -
Common stock issued for accrued interest payable to related parties $ 479,846 $ -
Accrued and deferred offering costs $ 13,475 $ -
The accompanying notes are an integral
part of these financial statements.
F-7
CIRTRAN CORPORATION AND SUBSIDIARY
NOTES CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of the significant accounting policies consistently applied in the
preparation of the accompanying financial statements follows.
Nature of Operations - CirTran Corporation (the "Company") provides turnkey
manufacturing services using surface mount technology, ball-grid array assembly,
pin-through-hole, and custom injection molded cabling for leading electronics
original equipment manufacturers ("OEMs") in the communications, networking,
peripherals, gaming, consumer products, telecommunications, automotive, medical,
and semiconductor industries. The Company also designs, develops, manufactures,
and markets a full line of local area network products, with emphasis on token
ring and Ethernet connectivity.
Principles of Consolidation--The consolidated financial statements include the
accounts of CirTran Corporation and its wholly owned subsidiary, Racore
Technology Corporation. All significant intercompany transactions have been
eliminated in consolidation.
Revenue Recognition--Revenue is recognized when products are shipped. Title
passes to the customer or independent sales representative at the time of
shipment. Returns for defective items are repaired and sent back to the
customer. Historically, expenses experienced with such returns have not been
significant and have been recognized as incurred.
Cash and Cash Equivalents--The Company considers all highly-liquid, short-term
investments with an original maturity of three months or less to be cash
equivalents.
Inventories -- Inventories are stated at the lower of average cost or market
value. Costs include labor, material and overhead costs. Overhead costs are
based on indirect costs allocated among cost of sales, work-in-process inventory
and finished goods inventory. Indirect overhead costs have been charged to cost
of sales or capitalized as inventory based on management's estimate of the
benefit of indirect manufacturing costs to the manufacturing process. When there
is evidence that the inventory's value is less than original cost, the inventory
is reduced to market value. The Company determines market value on current
resale amounts and whether technological obsolescence exists. The Company has
agreements with most of its customers that require the customer to purchase
inventory items related to their contracts in the event that the contracts are
cancelled. The market value of related inventory is based upon those agreements.
Property and Equipment --Depreciation is provided in amounts sufficient to
relate the cost of depreciable assets to operations over the estimated service
lives. Leasehold improvements are amortized over the shorter of the life of the
lease or the service life of the improvements. The straight-line method of
depreciation and amortization is followed for financial reporting purposes.
Maintenance, repairs, and renewals which neither materially add to the value of
the property nor appreciably prolong its life are charged to expense as
incurred. Gains or losses on dispositions of property and equipment are included
in operating results.
Impairment of Long-Lived Assets --The Company reviews its long-lived assets,
including intangibles, for impairment when events or changes in circumstances
indicate that the carrying value of an asset may not be recoverable. The Company
evaluates, at each balance sheet date, whether events and circumstances have
occurred that indicate possible impairment. The Company uses an estimate of
future undiscounted net cash flows from the related asset or group of assets
F-8
over their remaining life in measuring whether the assets are recoverable. As of
December 31, 2002, the Company does not consider any of its long-lived assets to
be impaired.
Checks Written in Excess of Cash in Bank--Under the Company's cash management
system, checks issued but not presented to banks frequently result in overdraft
balances for accounting purposes. These overdrafts are included as a current
liability in the balance sheets.
Stock-Based Compensation -- At December 31, 2002, the Company has one
stock-based employee compensation plan, which is described more fully in Note
12. The Company accounts for the plan under APB Opinion No. 25, Accounting for
Stock Issued to Employees, and related interpretations. During the years ended
December 31, 2002 and 2001, the Company recognized compensation expense relating
to stock options and warrants of $25,000 and $0, respectively. The following
table illustrates the effect on net loss and basic and diluted loss per common
share as if the Company had applied the fair value recognition provisions of
Financial Accounting Standards Board ("FASB") Statement No. 123, Accounting for
Stock-Based Compensation, to stock-based employee compensation:
Years Ended December 31,
2002 2001
----------------- ----------------
Net loss, as reported $ (2,149,810) $ (2,933,084)
Add: Stock-based employee compensation expense
included in net loss 25,000 --
Deduct: Total stock-based employee compensation
expense determined under fair value based method
for all awards (193,387) (56,095)
----------------- ----------------
Pro forma net loss $ (2,318,197) $ (2,989,179)
================= ================
Basic and diluted loss per common share as reported $ (0.01) $ (0.02)
================= ================
Basic and diluted loss per common share pro forma (0.01) $ (0.02)
================= ================
Income Taxes --The Company utilizes the liability method of accounting for
income taxes. Under the liability method, deferred tax assets and liabilities
are determined based on differences between financial reporting and tax bases of
assets and liabilities and the carryforward of operating losses and tax credits
and are measured using the enacted tax rates and laws that will be in effect
when the differences are expected to reverse. An allowance against deferred tax
assets is recorded when it is more likely than not that such tax benefits will
not be realized. Research tax credits are recognized as utilized.
Use of Estimates --In preparing the Company's financial statements in accordance
with accounting principles generally accepted in the United States of America,
management is required to make estimates and assumptions that affect the
reported amounts of assets and liabilities, the disclosure of contingent assets
and liabilities at the date of the financial statements, and the reported
amounts of revenues and expenses during the reported periods. Actual results
could differ from those estimates.
F-9
Concentrations of Risk --Financial instruments, which potentially subject the
Company to concentrations of credit risk, consist principally of trade accounts
receivable. The Company sells substantially to recurring customers, wherein the
customer's ability to pay has previously been evaluated. The Company generally
does not require collateral. Allowances are maintained for potential credit
losses, and such losses have been within management's expectations. At December
31, 2002 and 2001, this allowance was $37,037 and $66,316, respectively.
During the year ended December 2002, sales to three customers accounted for 11
percent, 12 percent, and 13 percent, each, of net sales. No individual customer
account receivable balance at December 31, 2002 created a concentration of
credit risk.
At December 31, 2001, accounts receivable from a former customer and a current
customer represented approximately 63 percent and 12 percent, respectively, of
total trade accounts receivable. Sales to these same customers accounted for 0
percent and 3 percent of 2001 net sales, respectively. During 2002, the former
customer and the Company agreed to a settlement which provided for the payment
of all amounts owed to the Company by the former customer.
Fair Value of Financial Instruments --The carrying value of the Company's cash
and cash equivalents and trade accounts receivable, approximates their fair
values due to their short-term nature. The carrying value of the Company's notes
payable also approximates fair value because notes are recorded at fair value
plus any default provisions.
Loss Per Share --Basic loss per share is calculated by dividing loss available
to common shareholders by the weighted-average number of common shares
outstanding during each period. Diluted loss per share is similarly calculated,
except that the weighted-average number of common shares outstanding would
include common shares that may be issued subject to existing rights with
dilutive potential when applicable. The Company had no potentially issuable
common shares at December 31, 2002 and 2001; therefore, basic and diluted loss
per share are the same.
Reclassifications --Certain previously reported 2001 amounts have been
reclassified to conform with the 2002 presentation. These reclassifications had
no effect on previously reported net loss.
New Accounting Standards - Statement of Financial Accounting Standard ("SFAS")
No. 141, "Business Combinations," requires usage of the purchase method for all
business combinations initiated after June 30, 2001, and prohibits the usage of
the pooling-of-interests method of accounting for business combinations. The
provisions of SFAS No. 141 relating to the application of the purchase method
are generally effective for business combinations completed after July 1, 2001.
Such provisions include guidance on the identification of the acquiring entity,
the recognition of intangible assets other than goodwill acquired in a business
combination and the accounting for negative goodwill. The application of this
standard did not have an impact on the Company's financial position and results
of operations.
SFAS No. 142, "Goodwill and Other Intangible Assets," changes the current
accounting model that requires amortization of goodwill, supplemented by
impairment tests, to an accounting model that is based solely upon impairment
tests. SFAS No. 142 also provides guidance on accounting for identifiable
intangible assets that may or may not require amortization. The provisions of
SFAS No. 142 related to accounting for goodwill and intangible assets are
generally effective for the Company at the beginning of 2002, except that
certain provisions related to goodwill and other intangible assets are effective
for business combinations completed after July 1, 2001. The application of this
standard did not have an impact on the Company's financial position and results
of operations.
In June 2001, the FASB issued SFAS No. 143 "Accounting for Asset Retirement
Obligations." SFAS No.143 addresses financial accounting and reporting for
obligations associated with the retirement of intangible long-lived assets and
associated asset retirement costs. SFAS No. 143 requires that the fair value of
a liability for an asset retirement obligation be recognized in the period in
which it has occured. The asset retirement obligations will be capitalized as a
part of the carrying amount of the long-lived asset. SFAS No. 143 applies to
legal obligations associated with the retirement of long-lived assets that
result from the acquisition, construction, development and normal operation of
long- lived assets. SFAS No. 143 is effective for years beginning after June 15,
F-10
2002, with earlier adoption permitted. The adoption of this standard is not
expected to have a material effect on the Company's financial position or
results of operations.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets." SFAS No. 144 establishes a single accounting
model for long-lived assets to be disposed of by sale and the recognition of
impairment of long-lived assets to be held and used. SFAS No. 144 is effective
for fiscal years beginning after December 15, 2001, with an earlier adoption
encouraged. The adoption of this standard did not have a material effect on the
Company's financial position or results of operations.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements No.
4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections."
Among other provisions, the statement modifies the criteria classification of
gains and losses on debt extinguishments such that they are not required to be
classified as extraordinary items if they do not meet the criteria for
classification as extraordinary items in APB Opinion No. 30. The Company elected
to adopt this standard during the year ended December 31, 2002. The adoption of
this standard did not have a material effect on the Company's financial position
or results of operations.
In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal activities." The statement requires companies to recognize
costs associated with exit or disposal activities when they are incurred rather
than at the date of a commitment to an exit or disposal plan. Examples of costs
covered by the standard include lease termination costs and certain employee
plan severance costs that are associated with a restructuring, discontinued
operation, plant closing, or other exit or disposal activity. The Company will
be required to apply this statement prospectively for any exit or disposal
activities initiated after December 31, 2002. The adoption of this standard is
not expected to have a material effect on the Company's financial position or
results of operations.
In December 2002, the FASB issued Statement No. 148, "Accounting for Stock-Based
Compensation-Transition and Disclosure." This statement amends Statement No.
123, Accounting for Stock-Based Compensation, to provide alternative methods of
transition for an entity that voluntarily changes to the fair value method of
accounting for stock-based employee compensation. It also amends the disclosure
provisions of Statement No. 123 to require prominent disclosure about the
effects on reported net income of an entity's accounting policy decisions with
respect to stock-based employee compensation. Statement No. 148 also requires
disclosure about those effects in interim financial information. The adoption of
this standard has had no material effect on the Company's financial position or
results of operations.
NOTE 2 - REALIZATION OF ASSETS
The accompanying consolidated financial statements have been prepared in
conformity with accounting principles generally accepted in the United States of
America, which contemplate continuation of the Company as a going concern.
However, the Company sustained losses of $2,149,810 and $2,933,084 for the years
ended December 31, 2002 and 2001, respectively. As of December 31, 2002 and
2001, the Company had an accumulated deficit of $15,230,302 and $13,080,492,
respectively, and a total stockholders' deficit of $3,894,097 and $6,942,377,
respectively. In addition, the Company used, rather than provided, cash in its
operations in the amounts of $1,142,148 and $288,723 for the years ended
December 31, 2002 and 2001, respectively.
F-11
Since February of 2000, the Company has operated without a line of credit. Many
of the Company's vendors stopped credit sales of components used by the Company
to manufacture products, and as a result, the Company converted certain of its
turnkey customers to customers that provide consigned components to the Company
for production. These conditions raise substantial doubt about the Company's
ability to continue as a going concern.
In addition, the Company is a defendant in numerous legal actions (see Note 8).
These matters may have a material impact on the Company's financial position,
although no assurance can be given regarding the effect of these matters in the
future.
In view of the matters described in the preceding paragraphs, recoverability of
a major portion of the recorded asset amounts shown in the accompanying
consolidated balance sheets is dependent upon continued operations of the
Company, which in turn is dependent upon the Company's ability to meet its
financing requirements on a continuing basis, to maintain or replace present
financing, to acquire additional capital from investors, and to succeed in its
future operations. The financial statements do not include any adjustments
relating to the recoverability and classification of recorded asset amounts or
amounts and classification of liabilities that might be necessary should the
Company be unable to continue in existence.
Abacas Ventures, Inc. ("Abacas") purchased the Company's line of credit from the
lender. During 2002, the Company has entered into agreements whereby the Company
has issued common stock to certain principals of Abacas in exchange for a
portion of the debt. The Company's plans include working with vendors to convert
trade payables into long-term notes payable and common stock and cure defaults
with lenders through forbearance agreements that the Company will be able to
service. During 2002 and 2001, the Company successfully converted trade payables
of approximately $316,762 and $32,500, respectively, into notes. The Company
intends to continue to pursue this type of debt conversion going forward with
other creditors. As discussed in Note 10, the Company has entered into an equity
line of credit agreement with a private investor. Realization of any proceeds
under the equity line of credit is not assured.
The Company is currently renegotiating certain terms of the line of credit
agreement that are not deemed to have a material impact on the line of credit
agreement.
NOTE 3 - INVENTORIES
Inventories consist of the following:
2002 2001
--------------- ---------------
Raw materials $ 1,363,276 $ 1,223,160
Work-in process 170,724 142,048
Finished goods 16,553 408,680
--------------- ---------------
$ 1,550,553 $ 1,773,888
=============== ===============
F-12
NOTE 4 - PROPERTY AND EQUIPMENT
Property and equipment and estimated service lives consist of the following:
Estimated
Service Lives
2002 2001 in Years
---------------- --------------- ------------
Production equipment $ 3,141,993 $ 3,141,992 5-10
Leasehold improvements 958,940 958,940 7-10
Office equipment 631,645 628,824 5-10
Other 118,029 118,029 3-7
---------------- ---------------
4,850,607 4,847,785
Less accumulated depreciation
and amortization 3,984,709 3,513,860
---------------- ---------------
$ 865,898 $ 1,333,925
================ ===============
NOTE 5 - NOTES PAYABLE
Notes Payable consist of the following:
2002 2001
--------------- ---------------
Note payable to a company, interest at 8.00%, matured August
2002, collateralized by 3,000,000 shares of the Company's
common stock currently held in
escrow, in default. $ 115,875 $ --
Note payable to a financial institution, due in monthly
installments of $9,462, interest at 8.61%, matures
April 2004, collateralized by equipment. 258,644 305,090
Note payable to a company, due in monthly installments
of $6,256, interest at 8.00%, matures July 2003,
collateralized by equipment, in default 183,429 183,429
Note payable to a financial institution, due in monthly
installments of $9,000, interest at 13.50%, matures
December 2004, collateralized by
equipment. 199,023 179,951
Note payable to an individual, due in monthly installments
of $12,748, matures February 2006, interest at 10.00%
unsecured, in default. 107,919 130,000
Note payable to a company, due in monthly installments
of $1,972, matures November 2005, interest at 8.00%,
unsecured, in default. 87,632 87,632
F-13
Note payable to an individual, due in monthly installments of
$5,000, interest at a rate of 9.50%, matured May 2000,
collateralized by all assets of the Company,
in default. 85,377 85,377
Note payable to a finance corporation, due in monthly
installments of $4,127, interest at prime plus 3.00% (7.25%
at December 31, 2002), matures December
2004, collateralized by equipment. 92,097 86,522
Note payable to a company, due in 18 monthly installments of
$1,460 followed by six monthly installments of $2,920,
interest at 6.00%, matures April 2003,
unsecured. 60,133 65,973
Note payable to a finance corporation, due in monthly
installments of $2,736, interest at 9.00%, matures December
2004, collateralized by equipment and
trade accounts receivable. 60,005 55,499
Note payable to a finance corporation, due in monthly
installments of $562, interest at 9.00%, matures December
2004, collateralized by equipment and
trade accounts receivable. 12,252 18,883
Note payable to a finance corporation, due in monthly
installments of $637, interest at 9.00%, matures December
2004, collateralized by equipment and trade
accounts receivable. 13,949 12,866
Note payable to a company, due in monthly installments
of $2,827, interest at 8.00%, unsecured, paid in
full during 2002. -- 21,732
Note payable to a bank, payable on demand, interest at
10.00%, unsecured 36,901 39,367
Note payable to a finance corporation, due in increasing monthly
installments of $50 to $5,443, interest at 12.00%, matures
December 2004, collateralized by
equipment and trade accounts receivable 41,834 38,484
--------------- ---------------
Total Notes Payable 1,355,070 1,310,805
Less current maturities 1,059,987 863,650
--------------- ---------------
Long-Term Notes Payable $ 295,083 $ 447,155
=============== ===============
F-14
The Company's notes payable at December 31, 2002, mature as follows:
Year Ending December 31,
2003 $ 1,059,987
2004 295,083
---------------
Total $ 1,355,070
===============
Certain of the Company's notes payable contain various covenants and
restrictions, including providing for the acceleration of principal payments in
the event of a covenant violation or a material adverse change in the operations
of the Company. The Company is out of compliance on several notes payable,
primarily due to a failure to make monthly payments. In instances where the
Company is out of compliance, these amounts have been shown as current.
Additionally, all default provisions have been accrued as part of the principal
balance of the related notes payable.
NOTE 6 - LEASES
The Company conducts a substantial portion of its operations utilizing leased
facilities consisting of a warehouse and a manufacturing plant from a related
party. The Company has an option to renew the lease for two additional ten-year
periods upon expiration of the term in 2006.
The following is a schedule of future minimum lease payments under the operating
lease:
Year Ending December 31,
2003 $ 191,688
2004 191,688
2005 191,688
2006 175,714
---------------
Total $ 750,778
===============
The building lease provides for payment of property taxes, insurance, and
maintenance costs by the Company. Rental expense for operating leases totaled
$200,992 and $189,157 for 2002 and 2001, respectively.
NOTE 7 - RELATED PARTY TRANSACTIONS
Stockholder Notes Payable --The Company had amounts due to stockholders from two
separate notes. The balance due to stockholders at December 31, 2002 and 2001,
was $20,376 and $1,390,125, respectively. Interest associated with amounts due
to stockholders is accrued at 10 percent. Unpaid accrued interest was $2,378 and
$205,402 at December 31, 2002 and 2001, respectively, and is included in accrued
liabilities. These notes are due on demand.
Related Party Notes Payable -- The Company had amounts due to Abacas Ventures,
Inc., a related party, under the terms of a note payable and a bridge loan. The
balance due to Abacas related to the note payable at December 31, 2002 and 2001,
was $0 and $2,405,507, respectively. The note accrued interest at 10%. The
amounts owed were due on demand with no required monthly payments. This note was
collateralized by assets of the Company. As discussed in Note 10, a significant
amount of the Abacas note was converted to shares of the Company's common stock
during 2002.
F-15
During the year ended December 31, 2002, Abacas completed negotiations with
several vendors of the Company, whereby Abacas purchased various past due
amounts for goods and services provided by vendors, as well as capital leases.
The total of these obligations was $316,762. In addition, Abacas agreed to
deduct as an offset of the amount owed to Abacas of $120,000, constituting the
amounts paid by the Company as legal fees incurred by the Company as part of its
negotiations with the Company's vendors. The Company has recorded this
transaction as a $316,762 non-cash increase and a $120,000 non-cash payment to
the note payable owed to Abacas, pursuant to the terms of the Abacas agreement.
Also during 2002, the Company entered into a bridge loan agreement with Abacas.
This agreement allows the Company to request funds from Abacas to finance the
build-up of inventory relating to specific sales. The loan bears interest at 24%
and is payable on demand. There are no required monthly payments. During the
year ended December 31, 2002, the Company was advanced $845,000 and made cash
payments of $156,258 for an outstanding balance on the bridge loan of $688,742.
The total principal amount owed to Abacas between the note payable and the
bridge loan was $688,742 and $2,405,507 as of December 31, 2002 and 2001,
respectively. The total accrued interest owed to Abacas between the note payable
and the bridge loan was $71,686 and $380,927 as of December 31, 2002 and 2001,
respectively, and is included in accrued liabilities.
NOTE 8 - COMMITMENTS AND CONTINGENCIES
Settlement of Litigation -- During January 2002, the Company settled a lawsuit
that had alleged a breach of facilities sublease agreement involving facilities
located in Colorado. The Company's liability in this action was originally
estimated to range up to $2.5 million. The Company had filed a counter suit in
the same court for an amount exceeding $500,000 for missing equipment.
Effective January 18, 2002, the Company entered into a settlement agreement
which required the Company to pay the plaintiff the sum of $250,000. Of this
amount, $25,000 was paid upon execution of the settlement, and the balance,
together with interest at 8% per annum, was payable by July 18, 2002. As
security for payment of the balance, the Company executed and delivered to the
plaintiff a Confession of Judgment and also issued 3,000,000 shares of common
stock, which are currently held in escrow and have been treated as treasury
stock recorded at no cost. The fair value of the 3,000,000 shares was less than
the carrying amount of the note payable. Because 75 percent of the balance had
not been paid by May 18, 2002, the Company was required to prepare and file with
the Securities & Exchange Commission, at its own expense, a registration
statement with respect to the escrowed shares. The remaining balance has not
been paid, and the registration statement with respect to the escrowed shares
has not been declared effective and the Company has not replaced the escrowed
shares with registered free-trading shares pursuant to the terms of the
settlement agreement; therefore, the plaintiff filed the Confession of Judgment
and proceeded with execution thereon. The Company is currently negotiating with
the plaintiff to settle this obligation without the release of the shares held
in escrow.
In connection with a separate sublease agreement of these facilities, the
Company received a settlement from the sublessee during May 2002, in the amount
of $152,500, which has been recorded as other income. The Company did not
receive cash from this settlement, but certain obligations of the Company were
paid directly. $109,125 of the principal balance of the note related to the
settlement mentioned above was paid. Also, $7,000 was paid to the Company's
legal counsel as a retainer for future services. The remaining $36,375 was paid
to the above mentioned plaintiff as a settlement of rent expense.
F-16
During September 2002, the plaintiff filed a claim that the $109,125 portion of
the payment was to be applied as additional rent expense rather than a principal
payment on the note payable. The Company estimates that the probability of the
$109,125 being considered additional rent expense is remote and disputes the
claim. The Company intends to vigorously defend the action.
Litigation - During 2000, the Company settled a lawsuit filed by a vendor by
issuing 5,281,050 shares of the Company's common stock valued at $324,284,
paying $83,000 in cash and issuing two notes payable totaling $239,000. During
2002, the vendor filed a confession of judgement claiming that the Company
defaulted on its agreement and claims the 2000 lawsuit was not properly
satisfied. At December 31, 2002, the Company owed $60,133 of principal under the
terms of the remaining note payable. The Company denies the vendor's claims and
intends to vigorously defend itself against the confession of judgement.
In December 1999, a vendor of the Company filed a lawsuit that alleges breach of
contract and seeks payment in the amount of approximately $213,000 of punitive
damages from the Company related to the Company's non-payment for materials
provided by the vendor. Judgment was entered against the Company in May 2002 in
the amount of $213,718. The Company has accrued the entire amount due under the
judgment.
The Company has been a party to a lawsuit with a customer stemming from an
alleged breach of contract. In July 2002, the Company reached a settlement with
the customer in which the customer was to make payments from August 1, 2002,
through October 29, 2002, to the Company totaling $265,000. As part of the
settlement, the Company returned inventory valued at $158,010, settled
receivables from the customer of $287,277, settled payables owed to the customer
in the amount of $180,287 and sold inventory to a Company related to the
customer for $13,949. During 2002, the Company received the entire $265,000.
During October 1999, a former vendor of the Company brought action against the
Company alleging that the Company owed approximately $199,600 for materials and
services and pursuant to the terms of a promissory note. The Company entered a
settlement agreement under which the Company is to pay $6,256 each month until
the obligation and interest thereon are paid. This did not represent the
forgiveness of any obligation, but rather the restructuring of the terms of the
previous agreement. At December 31, 2002, the Company owed $183,429 for this
settlement. The Company has defaulted on its payment obligations under the
settlement agreement. The Company is currently negotiating a new settlement
agreement.
Judgment was entered in favor of a vendor during March 2002, in the amount of
$181,342 for nonpayment of costs of goods or services provided to the Company.
At December 31, 2002, the Company had accrued the entire amount of the claim.
The Company is currently in settlement negotiations with the vendor.
In December 1999, a vendor of the Company filed a lawsuit that seeks payment in
the amount of $44,269 for the cost of goods provided to the Company. The Company
admits owing certain amounts to the vendor and has accrued the entire amount
claimed. No trial date has been set and the Company is currently negotiating a
settlement of these claims.
During 2002, a vendor of the Company filed a lawsuit that seeks payment in the
amount of $31,745 for the cost of goods provided to the Company. The Company has
not yet determined the validity of the claim, but has accrued the entire amount
claimed. No trial date has been set and the Company is currently negotiating a
settlement of these claims.
F-17
An individual filed suit during January 2001, seeking to recover the principal
sum of $135,941, plus interest on a promissory note. The parties are presently
negotiating settlement.
During March 2000, a vendor brought suit against the Company under allegations
that the Company owed approximately $97,000 for the cost of goods or services
provided to the Company for the Company's use and benefit. The Company issued a
note payable to the vendor in settlement of the amount owed and is required to
pay the vendor $1,972 each month until paid. At December 31, 2002, the Company
owed $87,632 on this settlement agreement. The Company is currently in default
on this obligation and is currently negotiating a new settlement agreement.
A financial institution brought suit against the Company during February 2000,
alleging that the Company owed approximately $439,000 for a loan provided to the
Company for the Company's use and benefit. Judgment was entered against the
Company and certain guarantors in the amount of $427,292 plus interest at the
rate of 8.61% per annum from June 27, 2000. The Company has subsequently made
payments to the financial institution, reducing the obligation to $258,644 at
December 31, 2002, plus interest accruing from January 1, 2002. The Company is
in default on this obligation and is negotiating for settlement of the remaining
claims.
Suit was brought against the Company during April 2001, by a former shareholder
alleging that the Company owed $121,825 under the terms of a promissory note. A
Stipulation for Settlement and for Entry of Judgment was executed by the parties
wherein the Company agreed to arrange for payment of a principal amount of
$145,000 in 48 monthly installments. The Company made seven payments and then
failed to make subsequent payments, at which time the shareholder obtained a
consent judgment against the Company. The Company is currently in settlement
negotiations with the former shareholder regarding the judgment.
Various vendors have notified the Company that they believe they have claims
against the Company totaling $370,152. None of these vendors have filed lawsuits
in relation to these claims. The Company has accrued the entire amount of these
claims and it is included in accounts payable.
The Company is the defendant in numerous legal actions, primarily resulting from
nonpayment of vendor invoices for goods and services received, that it has
determined the probability of realizing any loss is remote. The total amount of
these legal actions is $179,757. The Company has made no accrual for the legal
actions and is currently in the process of negotiating the dismissal of these
claims with the various vendors.
The Company is also the defendant in numerous immaterial legal actions primarily
resulting from nonpayment of vendors for goods and services received. The
Company has accrued the payables and is currently in the process of negotiating
settlements with these vendors.
Registration Rights - In connection with the conversion of certain debt to
equity during 2000, the Company has granted the holders of 5,281,050 shares of
common stock the right to include 50% of the common stock of the holders in any
registration of common stock of the Company, under the Securities Act for offer
to sell to the public (subject to certain exceptions). The Company has also
agreed to keep any filed registration statement effective for a period of 180
days at its own expense.
Additionally, in connection with the Company's entering into an Equity Line of
Credit Agreement (described in Note 11), the Company granted to the equity line
investor (the "Equity Line Investor") registration rights, in connection with
F-18
which the Company is required to file a registration statement covering the
resale of shares put to the Equity Line Investor under the equity line. The
Company is also required to keep the registration statement effective until two
years following the date of the last advance under the equity line. The Company
has not yet filed such registration statement.
Accrued Payroll Tax Liabilities -- As of December 31, 2002, the Company had
accrued liabilities in the amount of $2,029,626 for delinquent payroll taxes,
including interest estimated at $304,917 and penalties estimated at $229,285. Of
this amount, approximately $301,741 was due the State of Utah. During the first
quarter of 2002, the Company negotiated a monthly payment schedule of $4,000 to
the State of Utah, which did not provide for the forgiveness of any taxes,
penalties or interest. These monthly payments were not made during the third
quarter. Approximately $1,716,946 was owed to the Internal Revenue Service as of
December 31, 2002. During the first quarter of 2002, the Company negotiated a
payment schedule with respect to this amount, pursuant to which monthly payments
of $25,000 were required. In addition, the Company committed to keeping current
on deposits of federal withholding amounts. The required monthly payments were
made during each of the three months during the second quarter. None of the
monthly payments were made during the third quarter. The Company is currently
renegotiating the terms of the payment schedule with the Internal Revenue
Service. In addition, the Company failed to pay several of its current
withholding obligations. Approximately $10,939 was owed to the State of Colorado
as of December 31, 2002.
As of December 31, 2001, the Company had accrued liabilities in the amount of
$1,982,445 for delinquent payroll taxes, including interest estimated at
$215,268 and penalties estimated at $242,989. Of this amount, approximately
$257,510 was due the State of Utah. Approximately $1,713,996 was owed to the
Internal Revenue Service as of December 31, 2001. Approximately $10,939 was owed
to the State of Colorado as of December 31, 2001.
NOTE 9 - INCOME TAXES
The Company has paid no federal or state income taxes. The significant
components of the Company's deferred tax assets and liabilities at December 31,
2002 and 2001, are as follows:
2002 2001
--------------- ---------------
Deferred Income Tax Assets:
Inventory reserve $ 216,305 $ 188,880
Bad debt reserve 13,815 24,736
Vacation reserve 17,356 12,569
Research and development credits 17,979 12,718
Net operating loss carryforward 3,443,676 2,698,615
Intellectual property 144,553 159,039
--------------- ---------------
Total Deferred Income Tax Assets 3,853,684 3,096,557
Valuation allowance (3,795,179) (3,033,050)
Deferred Income Tax Liability - depreciation (58,505) (63,507)
---------------- ---------------
Net Deferred Income Tax Asset $ -- $ --
=============== ===============
The Company has sufficient long-term deferred income tax assets to offset the
deferred income tax liability related to depreciation. The long-term deferred
income tax assets relate to the net operating loss carryforward and the
intellectual property.
F-19
The Company has sustained net operating losses in both periods presented. There
were no deferred tax assets or income tax benefits recorded in the financial
statements for net deductible temporary differences or net operating loss
carryforwards because the likelihood of realization of the related tax benefits
cannot be established. Accordingly, a valuation allowance has been recorded to
reduce the net deferred tax asset to zero and consequently, there is no income
tax provision or benefit presented for the years ended December 31, 2002 and
2001.
As of December 31, 2002, the Company had net operating loss carryforwards for
tax reporting purposes of approximately $9,232,376. These net operating loss
carryforwards, if unused, begin to expire in 2019. Utilization of approximately
$1,193,685 of the total net operating loss is dependent on the future profitable
operation of Racore Technology Corporation under the separate return limitation
rules and limitations on the carryforward of net operating losses after a change
in ownership.
The following is a reconciliation of the amount of tax benefit that would result
from applying the federal statutory rate to pretax loss with the benefit from
income taxes for the years ended December 31, 2002 and 2001:
2002 2001
--------------- ---------------
Benefit at statutory rate (34%) $ (730,935) $ (997,249)
Non-deductible expenses 39,752 56,876
Change in valuation allowance 762,129 1,037,165
State tax benefit, net of federal tax benefit (70,946) (96,792)
---------------- ---------------
Net Benefit from Income Taxes $ -- $ --
=============== ===============
NOTE 10 - STOCKHOLDER'S EQUITY
Forward Stock Split - On August 6, 2001, the Company effected a 15-for-1 forward
stock split of its outstanding shares of common stock. The Company also
increased authorized common shares from 500,000,000 to 750,000,000 shares. The
stock split has been retroactively reflected in the accompanying consolidated
financial statements for all periods presented.
Common Stock Issued for Cash and Debt - Effective January 14, 2002, the Company
entered into four substantially identical agreements with existing shareholders
pursuant to which the Company issued an aggregate of 43,321,186 shares of
restricted common stock at a price of $0.075 per share, the fair value of the
shares, for $500,000 in cash and the reduction of principal of $1,499,090 of
notes payable and $1,250,000 of notes payable to stockholders. No gain or loss
has been recognized on these transactions as the fair value of the stock issued
was equal to the consideration given by the shareholders. The Company used the
$500,000 cash as working capital.
Common Stock Issued for Conversion of Debt - Effective December 23, 2002, the
Company entered into four substantially identical agreements with existing
shareholders pursuant to which the Company issued an aggregate of 30,000,000
shares of restricted common stock at a price of $0.05 per share, the fair value
of the shares, for the reduction of principal of $1,020,154 of notes payable and
$479,846 of accrued interest. No gain or loss has been recognized on these
transactions as the fair value of the stock issued was equal to the
consideration given by the shareholders.
Equity Line of Credit -- On November 5, 2002, the Company entered into an Equity
Line of Credit Agreement (the "Equity Line Agreement") with a private investor
(the "Equity Line Investor"). Under the Equity Line Agreement, the Company has
the right to draw up to $5,000,000 from the Equity Line Investor against an
equity line of credit (the "Equity Line"). As part of the Equity Line Agreement,
F-20
the Company may issue shares of the Company's common stock to the Equity Line
Investor in lieu of repayment of the draw. The number of shares to be issued is
determined by dividing the amount of the draw by the lowest closing bid price of
the Company's common stock over the five trading days after the advance notice
is tendered. The maximum amount of any single draw is $85,000.
The Equity Line Investor is required under the Equity Line Agreement to tender
the funds requested by the Company within two trading days after the
five-trading-day period used to determine the market price.
In connection with the Equity Line Agreement, the Company issued 2,562,500
shares of the Company's common stock as placement shares at no cost. The Company
also granted registration rights to the Equity Line Investor, in connection with
which the Company is required to use its best efforts to file a registration
statement and have it declared effective by the Securities and Exchange
Commission. The Company is unable to draw on the Equity Line until the
registration statement has been declared effective.
NOTE 11 - STOCK OPTIONS AND WARRANTS
Stock-Based Compensation - The Company accounts for stock options issued to
directors, officers and employees under Accounting Principles Board Opinion No.
25 and related interpretations ("APB 25"). Under APB 25, compensation expense is
recognized if an option's exercise price on the measurement date is below the
fair value of the Company's common stock. For options that provide for cashless
exercise or that have been modified, the measurement date is considered the date
the options are exercised or expire. Those options are accounted for as variable
options with compensation adjusted each period based on the difference between
the market value of the common stock and the exercise price of the options at
the end of the period. The Company accounts for options and warrants issued to
non-employees at their fair value in accordance with SFAS No. 123, "Accounting
for Stock-Based Compensation" ("SFAS 123").
Non-Employee Grant - During 2001, the Company granted options to purchase
3,000,000 shares of common stock to a non-employee sales consultant as the
settlement of a $200,000 prepaid sales commission agreement. The options vested
on the date granted and expire in September 2006. The exercise price of these
options was $.00067 per share. Because there is not an active market for the
Company's common stock in this case, the fair value of the sales commission
agreement is more reliably measurable, and the value of the options was
determined to be $200,000 in accordance with the provisions of SFAS No. 123. By
December 31, 2001, the sales consultant had not generated any sales and
management felt the probability that the sales consultant would generate any
future sales was remote. Accordingly, the $200,000 was expensed December 31,
2001. All 3,000,000 options were exercised during 2001 for cash proceeds of
$2,010. There were no non-employee options outstanding at December 31, 2001. No
options were granted to non-employees during 2002.
Employee Grants - On July 26, 2001 the Company adopted the 2001 Stock Option
Plan (the "2001 Plan") with 15,000,000 shares of common stock reserved for
issuance there under. The Company's Board of Directors administers the plan and
has discretion in determining the employees, directors, independent contractors
and advisors who receive awards, the type of awards (stock, incentive stock
options or non-qualified stock options) granted, and the term, vesting and
exercise prices.
During the years ended December 31, 2002 and 2001, the Company granted options
to purchase 10,350,000 and 1,650,000 shares of common stock, respectively, to
certain employees of the Company pursuant to the 2001 Plan. These options vested
on the date of grant. The related exercise price for all options was $0.03 to
$0.05 per share for 2002 grants and $0.07 per share for 2001 grants. The
exercise price for 2,500,000 options granted during 2002 was less than the fair
market value of the Company's common stock on the date granted, resulting in
F-21
$25,000 non-cash compensation expense. All other grants during 2002 and 2001 had
exercise prices equal to the fair value of the Company's common stock on the
date of grant. The options were exercisable through December 2007. During 2002
and 2001, all employee options granted were exercised for $424,000 and $115,650,
respectively. There were no employee options outstanding at December 31, 2002
and 2001.
Compensation Expense - During the year ended December 31, 2002 and 2001, the
Company recognized $25,000 and $0, respectively, as non-cash compensation
expense relating to stock options. SFAS 123 requires the presentation of pro
forma operating results as if the Company had accounted for stock options
granted to employees under the fair value method prescribed by SFAS 123. The
Company estimated the fair value of the employee stock options at the grant date
using the Black-Scholes option-pricing model. The following weighted-average
assumptions were used in the Black-Scholes model for options issued during the
years ended December 31, 2002 and 2001 to determine the fair value of the
employee options of $0.01 to $0.02 for 2002 options and $0.03 for 2001 options
to purchase a share of common stock: risk-free interest rate of 3.78 and 3.94
percent, dividend yield of 0 percent, volatility of 399 and 411 percent, and
expected lives of 0.10 and 0.01 years, respectively.
NOTE 12 -SEGMENT INFORMATION
Segment information has been prepared in accordance with SFAS No. 131,
"Disclosure About Segments of an Enterprise and Related Information." The
Company has two reportable segments: electronics assembly and Ethernet
technology. The electronics assembly segment manufactures and assembles circuit
boards and electronic component cables. The Ethernet technology segment designs
and manufactures Ethernet cards. The accounting policies of the segments are
consistent with those described in the summary of significant accounting
policies. The Company evaluates performance of each segment based on earnings or
loss from operations. Selected segment information is as follows:
Electronics Ethernet
2002 Assembly Technology Total
---- ---------------- ------------- -------------
Sales to external customers $ 1,838,781 $ 460,887 $ 2,299,668
Intersegment sales 179,451 -- 179,451
Segment loss (1,890,097) (259,713) (2,149,810)
Segment assets 2,342,881 237,434 2,580,315
Depreciation and amortization 449,914 20,935 470,849
2001
Sales to external customers $ 1,352,085 $ 518,763 $ 1,870,848
Intersegment sales 309,374 -- 309,374
Segment loss (2,336,084) (597,000) (2,933,084)
Segment assets 3,152,815 434,471 3,587,286
Depreciation and amortization 519,217 20,873 540,090
F-22
Sales 2002 2001
----- --------------- ---------------
Total sales for reportable segments $ 2,479,119 $ 2,180,222
Elimination of intersegment sales (179,451) (309,374)
---------------- ---------------
Consolidated net sales $ 2,299,668 $ 1,870,848
=============== ===============
Total Assets
Total assets for reportable segments $ 2,580,315 $ 3,587,286
Adjustment for intersegment amounts -- (1,800)
--------------- ----------------
Consolidated total assets $ 2,580,315 $ 3,585,486
=============== ===============
NOTE 13 - REVENUES
All revenue-producing assets are located in North America. Revenues are
attributed to the geographic areas based on the location of the customers
purchasing the products. The Company's net sales by geographic area are as
follows:
2002 2001
--------------- ---------------
United States of America $ 2,291,946 $ 1,820,700
Canada -- 338
Europe/Africa/Middle East 7,722 49,810
--------------- ---------------
$ 2,299,668 $ 1,870,848
=============== ===============
NOTE 14 - SUBSEQUENT EVENTS
On February 11, 2003, the Company adopted the 2002 Stock Option Plan (the "2002
Plan") with 25,000,000 shares of common stock reserved for issuance there under.
The Company's Board of Directors administers the plan and has discretion in
determining the employees, directors, independent contractors and advisors who
receive awards, the type of awards (stock, incentive stock options or
non-qualified stock options) granted, and the term, vesting and exercise prices.
During February 2003, the Company granted options to purchase 5,500,000 shares
of common stock to certain employees of the Company and options to purchase
2,000,000 shares of common stock to members of the board of directors pursuant
to the 2002 Plan. These options vested on the date of grant. The related
exercise price was $0.025 per share for employee options and $0.03 per share for
members of the board of directors. The market value of the common stock on the
grant date was $0.036, which resulted in non-cash compensation of $72,500. The
options are exercisable through February 2008. All options granted were
exercised. The options were exercised for $137,500 of cash, $45,000 of accrued
interest to directors and $15,000 of accrued compensation. The Company estimated
the fair value of the employee and director stock options at the grant date
using the Black-Scholes option-pricing model. The following weighted-average
assumptions were used in the Black-Scholes model to determine the fair value of
the employee and director options to purchase a share of common stock of $0.019
and $0.018, respectively: risk-free interest rate of 2.92 percent, dividend
yield of 0 percent, volatility of 364 percent, and expected lives of 0.10 years.
F-23