-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, IKh7WEa0aTh5VGraNjnX0HeA96nUMaBlzoeL9/h2lTUd9ry4FDpT9ohmpuUMjNBO bYfnsoP2MHQzPZ8dJjebOg== 0000950131-99-003162.txt : 19990518 0000950131-99-003162.hdr.sgml : 19990518 ACCESSION NUMBER: 0000950131-99-003162 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19990331 FILED AS OF DATE: 19990517 FILER: COMPANY DATA: COMPANY CONFORMED NAME: HOME SECURITY INTERNATIONAL INC CENTRAL INDEX KEY: 0001038262 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-DETECTIVE, GUARD & ARMORED CAR SERVICES [7381] IRS NUMBER: 980169495 STATE OF INCORPORATION: DE FISCAL YEAR END: 0630 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 001-14502 FILM NUMBER: 99624712 BUSINESS ADDRESS: STREET 1: LEVEL 7 77 PACIFIC HIGHWAY CITY: NORTH SYDNEY STATE: C3 ZIP: 00000 BUSINESS PHONE: 3125802354 10-Q 1 FORM 10-Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 _________________________________ FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934. For the quarterly period ended March 31, 1999. OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission File Number 001-14502 HOME SECURITY INTERNATIONAL, INC. (Exact name of registrant as specified in its charter) DELAWARE 98-0169495 (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation of organization) LEVEL 7, 77 PACIFIC HIGHWAY NORTH SYDNEY, NSW AUSTRALIA 2060 (Address of principal executive offices) (Zip Code)
(011) (612) 9936-2424 (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. [X]Yes [ ] No Number of Shares of Common Stock Outstanding on May 14, 1999: 5,550,500 ================================================================================ PART I - FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS HOME SECURITY INTERNATIONAL, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited)
JUNE 30, MARCH 31, ------------------------------- NOTE 1998 1999 $US $US ----------------------------------------- ASSETS - ------ Current assets Cash and cash equivalents 7,006,183 4,737,401 Accounts receivable - trade, net 874,745 3,265,937 Inventories 2 2,032,443 6,327,953 Prepaid expenses and other current assets 1,173,449 1,936,318 -------------------------------- Total current assets 11,086,820 16,267,609 -------------------------------- Non-current assets Investment in partnership 303,424 308,909 Investments in affiliated companies 7,405,130 7,524,874 Capital assets, net 1,068,237 3,318,056 Intangibles, net 9,601,923 21,870,935 Deferred income taxes 1,016,652 1,555,077 Other non-current assets 3,115 3,159 -------------------------------- Total non-current assets 19,398,481 34,581,010 -------------------------------- Total assets 30,485,301 50,848,619 ================================ LIABILITIES AND STOCKHOLDERS' EQUITY - ------------------------------------ Current liabilities Note payable - FAI Insurance Group 619,233 1,570,000 Note payable - Integral Investments Limited 5 - 785,486 Payables - trade 4,280,422 3,329,812 Accrued liabilities 777,516 1,320,886 Lease liability 28,704 285,991 Income tax payable 1,608,648 2,691,398 Deferred income 650,949 893,191 -------------------------------- Total current liabilities 7,965,472 10,876,764 -------------------------------- Non-current liabilities Note payable - FAI Insurance group 5 4,117,902 2,983,000 Note payable - Integral Investments Limited - 8,147,407 Lease liability 33,342 306,299 Accrued liabilities 91,944 149,382 Deferred income 177,769 239,930 -------------------------------- Total non-current liabilities 4,420,957 11,826,018 -------------------------------- Total liabilities 12,386,429 22,702,782 -------------------------------- Minority interest - 2,003,597 Stockholders' equity Preferred stock $.001 value; 1,000,000 shares authorized, none outstanding - - Common stock $.001 value; 20,000,000 shares authorized and 5,150,500 shares issued and outstanding as of June 30, 1998 and 5,550,500 shares issued and outstanding as of March 31, 1999. 5,150 5,550 Additional paid-in capital 16,111,311 19,710,911 Warrants 5 - 504,000 Secured Note (2,375,000) (2,375,000) Accumulated other comprehensive loss 3 (976,565) (701,940) Retained earnings 5,333,976 8,998,719 -------------------------------- Total stockholders' equity 18,098,872 26,142,240 -------------------------------- Total liabilities and stockholders' equity 30,485,301 50,848,619 ================================
The accompanying notes are an integral part of these condensed consolidated financial statements 2 HOME SECURITY INTERNATIONAL, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
THREE MONTHS ENDED NINE MONTHS ENDED MARCH 31, MARCH 31, --------------------------------------------------------------------------- NOTE 1998 1999 1998 1999 $US $US $US $US -------------------------------------------------------------------------------------- Net Sales 10,339,646 11,585,255 32,157,807 33,996,829 Cost of goods sold (5,879,396) (5,569,643) (18,864,996) (17,278,794) --------------------------------------------------------------------------- Gross profit 4,460,250 6,015,612 13,292,811 16,718,035 General and administrative expenses (2,956,244) (3,652,787) (8,083,449) (9,628,902) Research and development expenses - (211,086) - (401,307) --------------------------------------------------------------------------- Income from operations 1,504,006 2,151,739 5,209,362 6,687,826 Interest income 99,998 90,631 333,840 313,051 Interest expenses - related party (111,425) (81,909) (111,425) (251,416) - other (3,719) (174,642) (6,951) (355,118) --------------------------------------------------------------------------- Income before taxes and equity in income of affiliated companies and minority interest 1,488,860 1,985,819 5,424,826 6,394,343 Income tax expense (546,800) (842,447) (1,948,780) (2,691,391) --------------------------------------------------------------------------- Income before equity in income of ` affiliated companies and minority interest 942,060 1,143,372 3,476,046 3,702,952 Equity in income of affiliated companies 4 97,275 57,771 97,275 296,356 Minority interest - (177,894) - (334,565) --------------------------------------------------------------------------- Net income 1,039,335 1,023,249 3,573,321 3,664,743 =========================================================================== Net income per common share Basic earnings per share $ 0.20 $ 0.18 $ 0.70 $ 0.68 Diluted earnings per share $ 0.20 $ 0.18 $ 0.69 $ 0.68 Weighted average number of shares outstanding Basic 5,150,500 5,550,500 5,106,000 5,417,167 Diluted 5,175,692 5,553,548 5,157,417 5,422,169
The accompanying notes are an integral part of these condensed consolidated financial statements 3 HOME SECURITY INTERNATIONAL, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASHFLOWS (UNAUDITED)
NINE MONTHS ENDED MARCH 31, ---------------------------------- 1998 1999 $US $US ---------------------------------- ---------------------------------- Net cash provided by operating activities 3,029,745 3,238,667 ---------------------------------- Cashflow from investing activities Receipt from/(payments to) related parties 1,802,920 (244,105) Investment in affiliated companies (2,130,285) 281,870 Purchase of IIHSL, net of cash acquired - (3,356,615) Short term loans (granted), repayments received 23,107 (622,504) Additions to capital assets (391,245) (1,109,145) Other cash inflows from investing activities - 31,907 ---------------------------------- Net cash used in investing activities (695,503) (5,018,592) ---------------------------------- Cashflow from financing activities Common stock issuance 3,934,678 - Share issue costs (436,409) - Other cash outflows from financing activities (29,615) (496,310) ---------------------------------- Net cash provided by/(used in) financing activities 3,468,654 (496,310) ---------------------------------- Net increase/(decrease) in cash held 5,802,896 (2,276,235) ---------------------------------- Cash at the beginning of the financial period 118 7,006,183 Effect of exchange rate change on cash 9 7,453 ---------------------------------- Cash at the end of the financial period 5,803,023 4,737,401 ================================== Supplemental disclosure of cashflow information: Interest paid 118,376 309,267 Income taxes paid 796,153 3,067,917
The accompanying notes are an integral part of these condensed consolidated financial statements 4 HOME SECURITY INTERNATIONAL, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) NOTE 1: SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation and Basis of Preparation - The condensed consolidated financial statements presented herein and these notes have been prepared by Home Security International, Inc. ("the Company"), without audit. In the opinion of the registrants' management, the unaudited condensed consolidated financial statements included in this filing on Form 10-Q reflect all adjustments which consist of normal recurring adjustments necessary to present fairly the financial information. The financial statements should be read in conjunction with the consolidated financial statements as of and for the fiscal year ended June 30, 1998 and the footnotes thereto included in the Company's Annual Report on Form 10-K. The accompanying consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States of America (" U.S. GAAP "). The investment in FAI Finance Corporation Pty Limited ("FFC") and Bayside Partnership ("the Partnership") are recorded using the equity method. All inter-company accounts and transactions have been eliminated upon consolidation. 5 HOME SECURITY INTERNATIONAL, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -(CONTINUED) (UNAUDITED)
NOTE 2: INVENTORIES JUNE 30, MARCH 31, ----------------------------------------- 1998 1999 $US $US ----------------------------------------- Finished goods 1,727,670 2,844,883 Work in progress - 410,527 Raw materials - 2,925,370 Sales aids 304,773 147,173 ----------------------------------------- 2,032,443 6,327,953 =========================================
NOTE 3: COMPREHENSIVE INCOME As of July 1, 1998 the Company adopted Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive Income", which requires companies to report all changes in equity during a period, except those resulting from investment by owners and distribution to owners, in a financial statement for the period in which they are recognized. The Company has chosen to disclose Comprehensive Income, which encompasses net income and foreign currency translation adjustments, in the notes to the condensed consolidated financial statements for interim reporting purposes. Total Comprehensive Income for the three and nine-month periods ended March 31, 1998 and 1999 was as follows:
THREE MONTHS ENDED MARCH 31, 1998 1999 $US $US ----------------------------------------- Net income 1,039,335 1,023,249 Other comprehensive income: Foreign currency translation adjustment 109,747 256,880 ----------------------------------------- Total comprehensive income 1,149,082 1,280,129 ========================================= NINE MONTHS ENDED MARCH 31, ----------------------------------------- 1998 1999 $US $US ----------------------------------------- Net Income 3,573,321 3,664,743 Other comprehensive (loss) income: Foreign currency translation adjustment (63,908) 274,625 ----------------------------------------- Total comprehensive income 3,509,413 3,939,368 =========================================
6 HOME SECURITY INTERNATIONAL, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED) (UNAUDITED) NOTE 4: EQUITY IN INCOME OF AFFILIATED COMPANIES On December 31, 1997 the Company purchased 50 percent of the issued and outstanding shares (the "FFC Shares") of FAI Finance Corporation Pty Limited and its subsidiary FAI Finance Corporation (NZ) Limited ("FFC") from FAI Insurances Limited (the "FFC Transaction"). FFC, a consumer finance company with operations in Australia and New Zealand, finances a significant portion of the Company's financed sales. Selected summarized financial information for FFC is presented below.
THREE MONTHS ENDED MARCH 31, -------------------------------------- 1998 1999 $US $US -------------------------------------- Net interest income 1,423,111 1,188,371 Net income 360,194 262,934 NINE MONTHS ENDED MARCH 31, -------------------------------------- 1998 1999 $US $US -------------------------------------- Net interest income 4,298,010 4,629,754 Net income 932,964 1,022,794
Reconciliation of equity in income of affiliated companies for the three and nine month periods ended March 31, 1998 and 1999 is shown below.
THREE MONTHS ENDED MARCH 31, -------------------------------------- 1998 1999 $US $US -------------------------------------- 50 percent of Net income of affiliated company - FFC 180,097 131,467 Amortization of goodwill - FFC (82,822) (73,696) Equity in income of affiliated companies 97,275 57,771 NINE MONTHS ENDED MARCH 31, -------------------------------------- 1998 1999 $US $US -------------------------------------- 50 percent of Net income of affiliated company - FFC 180,097 131,467 Amortization of goodwill - FFC (82,822) (73,696) Equity in income of affiliated companies 97,275 57,771
7 HOME SECURITY INTERNATIONAL, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED) (Unaudited) NOTE 5: ACQUISITON OF INTEGRATED INTERNATIONAL HOME SECURITY LIMITED Effective October 1, 1998, the Company purchased pursuant to an amended stock purchase agreement (the "Stock Purchase Agreement") all of the issued and outstanding common stock (the "IIHSL Shares") of Integrated International Home Security Limited ("IIHSL"), a British Virgin Islands holding company. IIHSL is the holder of 75.04 percent of the issued and outstanding common stock of Ness Security Products Pty Limited ("Ness"). Ness is a leading manufacturer of security alarm products in Australia and the Company's sole supplier of the SecurityGuard alarm. The purchase price for the IIHSL Shares consisted of the following: (i) 400,000 shares of the Company's common stock, $0.001 par value per share (the "Common Stock"), (ii) warrants convertible into 360,000 shares of Common Stock at an exercise price of $13.00 per share, which will be exercisable through the year 2003; (iii) cash in the amount of $2,426,000 ($126,000 paid concurrent with the execution of the Stock Purchase Agreement and $2,300,000 paid upon closing of the transaction); (iv) a promissory note, secured by the IIHSL Shares, in the amount of $9,098,000 (discounted to $8,602,666 for financial reporting purposes), payable in installments of $400,000 on each of June 30,1999 and December 31, 1999, with the balance of the note due on June 30, 2000 ("Note"); and, (v) a non-refundable re-negotiation fee of $200,000 resulting from the conversion of the proposed cash payment of $9,098,000 to the promissory note referred to in (iv). The IIHSL acquisition has been accounted for under the purchase method of accounting. The purchase price has been preliminary allocated based on estimated fair values at date of acquisition, pending final determination of certain balances. This preliminary allocation has resulted in acquired goodwill of approximately $12,776,282, which is being amortized on a straight-line basis over 20 years. The results of operations have been included in the consolidated financial statements since the acquisition date. The Company has filed a Report on Form-8K in relation to this acquisition including audited financial statements of IIHSL and Pro Forma financial statements. Pro Forma net income adjusted as though the 100% acquisition of IIHSL took place at the beginning of the periods being reported on is shown below.
NINE MONTHS ENDED MARCH 31, ------------------------------------------ 1998 1999 $US $US ------------------------------------------ (in thousands except per share data) Pro forma net sales 36,369 36,548 Pro forma income from operations 8,582 7,465 Pro forma net income 4,478 3,766 Pro forma net income per common share Basic earnings per share 0.81 0.68 Diluted earnings per share 0.78 0.68 Pro forma weighted average number of shares outstanding Basic 5,550 5,550 Diluted 5,711 5,556
8 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 This discussion and analysis of the Company's financial condition and results of operations contains certain forward-looking statements and information within the meaning of Section 27A of the Securities Act of 1933, as amended (the "Securities Act") and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), that are based on beliefs of, and information currently available to, the Company's management as well as estimates and assumptions made by the Company's management. When used in this filing, words such as "anticipate," "believe," "estimate," "expect," "future," "intend," "plan" and similar expressions as they relate to the Company or the Company's management, identify forward-looking statements. Such statements reflect the current views of the Company with respect to future events and are subject to certain risks, uncertainties and assumptions relating to the Company's operations and results of operations, competitive factors and pricing pressures, shifts in market demand, the performance and needs of the residential security alarm industry, the costs of product development, currency fluctuations as identified more fully below and other risks and uncertainties including, in addition to any uncertainties specifically identified in the text surrounding such statements, uncertainties with respect to changes or developments in social, economic, business, industry, market, legal and regulatory circumstances and conditions and actions taken or omitted to be taken by third parties, including the Company's stockholders, customers, suppliers, business partners, competitors, and legislative, regulatory, judicial and other governmental authorities and officials. Should one or more of these risks or uncertainties materialize, or should the underlying estimates or assumptions prove incorrect, actual results or outcomes may vary significantly from those anticipated, believed, estimated, expected, intended or planned. Such factors include, but are not limited to, the risks identified above and the risks detailed under the caption "Risk Factors" in the Company's Annual Report on Form 10-K for the fiscal year ended June 30, 1998 and expanded upon herein, and as detailed from time to time in the Company's other filings made with the Securities and Exchange Commission. COMPARISON OF THREE MONTHS ENDED MARCH 31, 1999 AND MARCH 31, 1998. NET SALES: Net sales increased by $1.3 million or 13% from $10.3 million for the three months ended March 31, 1998 to $11.6 million for the three months ended March 31, 1999, despite a 12% decline in the value of the Australian Dollar ("AUD") against the U.S. dollar from an average conversion rate of 0.6971 for the three months ended March 31, 1998 to 0.6103 for the three months ended March 31, 1999. The increase in net sales was attributable to the inclusion of $1.8 million in net sales from the IIHSL acquisition, relating to sales of manufactured goods not sold through the Distributor Network. Total unit sales decreased from 13,262 units for the three months ended March 31, 1998 to 12,950 units for the three months ended March 31, 1999. The decline in unit sales is primarily attributable to the poor performance of the South African operation. Unit sales in South Africa for the three months ended March 31, 1999 fell to 88 in comparison to 571 in the three months ended March 31, 1998. Unit sales are not expected to improve in the next two quarters due to structural changes required to address the poor market conditions. The Company's online monitoring program is currently being rolled out in Australia and New Zealand. The Company has in excess of 1,000 monitored lines, the majority of these being installed during the three months ended March 31, 1999. The Company intends to expand its on-line monitoring program, including both upgrade and point of sale, in the Australian and New Zealand operations in the fourth quarter of Fiscal 1999. All setup and development expenses relating to the on-line monitoring program have been expensed as incurred. Unit sales in the Australian and New Zealand market decreased 3% from 11,472 units for the three months ended March 31, 1998 to 11,116 units for the three months ended March 31, 1999. Unit sales in the Australian market increased 2% from 9,326 units for the three months ended March 31, 1998 to 9,550 units for the three months ended March 31, 1999. However, unit sales in New Zealand decreased 27% from 2,146 units for the three months ended March 31, 1998 to 1,566 units for the three months ended March 31, 1999. The 9 decline in unit sales in New Zealand is attributable to a decline in net unit sales per distributor and a material decrease in consumer finance approvals. Unit sales in New Zealand are expected to improve based upon a number of new initiatives to be introduced to this market during the next quarter. Unit sales in Europe and the United Kingdom increased 66% from 1,000 units for the three months ended March 31, 1998 to 1,659 for the three months ended March 31, 1999. The Company believes the European market has reached a critical mass, which will facilitate acceleration in the expansion of the market through increased recruitment and rollout of the distribution network. The Company intends to focus on creating a similar base for expansion in its U.S. operations over the next twelve months. The Company expects to commit key resources from its worldwide operations to the U.S. market. COST OF GOODS SOLD: Cost of goods sold decreased 5.1% from $5.9 million for the three months ended March 31, 1998 to $5.6 million for the three months ended March 31, 1999. As a percentage of net sales, cost of goods sold decreased 9% from 57% for the three months ended March 31, 1998 to 48% for the three months ended March 31, 1999. The reduction in cost of goods is attributable to the consolidation of IIHSL with the Company for the three months ended March 31, 1999. The acquisition of IIHSL enabled the Company to capture the IIHSL gross margin reflected in the reduction of the Company's cost of goods sold. As a result, the Company's gross margin as a percentage of sales increased 9% from 43% for the three months ended March 31, 1998 to 52% for the three months ended March 31, 1999. GENERAL AND ADMINISTRATIVE EXPENSES: General and administrative expenses were $3.7 million for the three months ended March 31, 1999, compared to $3.0 million for the three months ended March 31, 1998. Total general and administrative expenses, as a percentage of net sales, increased 3% to 32% for the three months ended March 31, 1999 compared to 29% for the three months ended March 31, 1998. The increase in general and administrative expenses as a percentage of net sales was primarily attributable to the following two factors for the three months ended March 31, 1999: (a) inclusion of expenses relating to IIHSL of $1.0 million; and (b) amortization of goodwill generated from the acquisition of IIHSL of $0.2 million. The Company incurred additional expenses in the period ended March 31, 1999 relating to the establishment of the on-line monitoring, the establishment of the United States market and the expansion of the European market. RESEARCH AND DEVELOPMENT: Research and Development expenses for the three months ended March 31, 1999 represents costs incurred by IIHSL in relation to product approvals and the design and development of new products. INCOME FROM OPERATIONS: Income from operations increased 47% from $1.5 million for the three months ended March 31, 1998 to $2.2 million for the three months ended March 31, 1999. The increase in income from operations reflects the benefits from the acquisition of IIHSL which include (a) increased revenues from IIHSL sales from sources outside the Distributor Network, and (b) the capture of IIHSL's gross margin, for sales made to the Company, reflected as a reduction in the Company's cost of goods. INTEREST INCOME: Interest income remained stable at $0.1 million for the three months ended March 31, 1998 and 1999, respectively. INTEREST EXPENSE - RELATED PARTY: Interest expense - related party remained stable at $0.1 million for the three months ended March 31, 1998 and 1999, respectively. INTEREST EXPENSE - OTHER: Interest expense - other for the three months ended March 31, 1999 was $175,000 compared to $4,000 for the three months ended March 31, 1998. The interest charge for the three months ended March 31, 1999 consisted of a non-cash imputed interest charge $175,000 recorded in order to comply with the United States generally accepted accounting principles ("U.S. GAAP") purchase accounting principles. Pursuant to the Stock Purchase Agreement through which the Company acquired 100% of the issued and outstanding stock of IIHSL, the Company issued a promissory note, secured by the IIHSL shares, in the amount of $9,098,000, bearing no interest. U.S. GAAP purchase accounting principles require a premium to be recorded for debt securities issued with an interest rate fixed materially above or below the effective rate or current yield of an otherwise comparable security. 10 INCOME TAX EXPENSE: Due to (a) non-deductible amortization of goodwill generated from the acquisition of IIHSL of $0.2 million, and (b) a prior year tax adjustment of $0.1 million, the effective rate of tax increased 4% from 37% for the three months ended March 31, 1998 to 42% for the three months ended March 31,1999. EQUITY IN INCOME OF AFFILIATED COMPANIES: Equity in income of affiliates decreased by $39,000 from $97,000 for the three months ended March 31, 1998 to $58,000 for the three months ended March 31, 1999. This was calculated by taking the Company's 50% share of FFC's net income of $131,000 for the three months ended March 31, 1999 and deducting amortization of goodwill for the same period of $74,000. MINORITY INTEREST: Minority interest represents an independent third party's ownership of 24.96% of Ness, and the corresponding profit allocation for the three months ended March 31, 1999. NET INCOME: Net income remained constant at $1.0 million for both the three months ended March 31, 1998 and 1999. COMPARISON OF NINE MONTHS ENDED MARCH 31, 1999 AND MARCH 31, 1998. NET SALES: Net sales increased by $1.8 million or 6% from $32.2 million for the nine months ended March 31, 1998 to $34.0 million for the nine months ended March 31, 1999 despite a 12% decline in the value of the Australian Dollar ("AUD") against the U.S. dollar from an average conversion rate of 0.6971 for the nine months ended March 31, 1998 to 0.6103 for the nine months ended March 31, 1999. The increase in net sales was primarily attributable to the inclusion of $3.6 million in net sales from the IIHSL acquisition October 1, 1998, relating to sales of manufactured goods not sold through the distribution network. Total unit sales increased 5% from 40,899 units for the nine months ended March 31, 1998 to 42,826 units for the nine months ended March 31, 1999. The Company's online monitoring program is currently being rolled out in Australia and New Zealand. The Company has in excess of 1,000 monitored lines, the majority of these being installed during the three months ended March 31, 1999. The Company intends to expand its on-line monitoring program, including both upgrade and point of sale, in the Australian and New Zealand operations in the fourth quarter of Fiscal 1999. All setup and development expenses relating to the on-line monitoring program have been expensed as incurred. Unit sales in the Australian and New Zealand market increased 3% from 35,891 units for the nine months ended March 31, 1998 to 36,847 units for the nine months ended March 31, 1999. Unit sales in the Australian market increased 12% from 28,556 units for the nine months ended March 31, 1998 to 32,117 units for the nine months ended March 31, 1999 due to an increase in the number of distributors in this market. However, unit sales in New Zealand decreased 36% from 7,335 units for the nine months ended March 31, 1998 to 4,730 units for the nine months ended March 31, 1999. The decline in unit sales in New Zealand is attributable to a decline in net unit sales per distributor and a material decrease in consumer finance approvals. Unit sales in New Zealand are expected to improve based upon a number of new initiatives to be introduced to this market during the next quarter. Unit sales in Europe and the United Kingdom increased 40% from 3,175 units for the nine months ended March 31, 1998 to 4,432 for the nine months ended March 31, 1999. The European market is now experiencing consistent quarterly growth in unit sales. The Company intends to allocate additional resource no longer required in Europe into the United States market to focus on the establishment of a foundation from which the distribution network can grow in the U.S. Unit sales in the South African market decreased 31% during the nine months ended March 31, 1999 to 957 as compared to 1,395 for the nine months ended March 31, 1998. COST OF GOODS SOLD - OTHER: Cost of goods sold decreased 8% from $18.9 million for the nine months ended March 31, 1998 to $17.3 million for the nine months ended March 31, 1999. As a percentage of net sales, 11 cost of goods sold decreased 8% from 59% for the nine months ended March 31, 1998 to 51% for the nine months ended March 31, 1999. The reduction in cost of goods is attributable to the consolidation of IIHSL with the Company for the nine months ended March 31, 1999. The acquisition of IIHSL enabled the Company to capture the IIHSL gross margin reflected in the reduction of the Company's cost of goods sold. As a result, the Company's gross margin as a percentage of sales increased 8% from 41% for the nine months ended March 31, 1998 to 49% for the nine months ended March 31, 1999. GENERAL AND ADMINISTRATIVE EXPENSES: General and administrative expenses were $9.6 million for the nine months ended March 31, 1999, compared to $8.1 million for the nine months ended March 31, 1998. Total general and administrative expenses, as a percentage of net sales, increased 3% to 28% for the nine months ended March 31, 1999 compared to 25% for the nine months ended March 31, 1998. The increase in general and administrative expenses as a percentage of net sales was primarily attributable to the following two factors for the three months ended March 31, 1999: (a) inclusion of expenses relating to IIHSL of $1.9 million; and (b) amortization of goodwill generated from the acquisition of IIHSL of $0.3 million. The Company incurred additional expenses in the period ended March 31, 1999 relating to the establishment of the on-line monitoring, the establishment of the United States market and the expansion of the European market. RESEARCH AND DEVELOPMENT: Research and Development expenses for the nine months ended March 31, 1999 represents costs incurred by IIHSL since its acquisition on October 1, 1998, in relation to product approvals and the design and development of new products. INCOME FROM OPERATIONS: Income from operations increased 29% from $5.2 million for the nine months ended March 31, 1998 to $6.7 million for the nine months ended March 31, 1999. The increase in income from operations reflects the benefits from the acquisition of IIHSL which include (a) increased revenues from IIHSL sales made from sources outside the Distributor Network, (b) the capture of IIHSL's margin, for sales made to the Company, reflected as a reduction in the Company's cost of goods. INTEREST INCOME: Interest income remained stable at $0.3 million for the nine months ended March 31, 1998 and 1998, respectively. INTEREST EXPENSE - RELATED PARTY: Interest expense - related party is derived from the FFC Transaction with regard to the vendor financed loan initiated as part of the FAI Finance Corporation acquisition on December 31, 1997. For the nine months ended March 31, 1999 interest expense - related party was $0.3 million compared to $0.1 million for the nine months ended March 31, 1998. The $0.2 million increase occurs because interest expense - related party for the nine months ended March 31, 1998 includes only three months of interest paid by the Company to FAI Insurances Limited (December 31, 1997 - March 31, 1998) while interest expense - related party for the nine months ended March 31, 1999 includes nine months of interest (July 1, 1998 - March 31, 1999). INTEREST EXPENSE - OTHER: Interest expense - other for the nine months ended March 31, 1999 was $355,000 compared to $7,000 for the nine months ended March 31, 1998. The interest charge for the nine months ended March 31, 1999 consisted of a non-cash imputed interest charge $330,000 recorded in order to comply with the United States generally accepted accounting principles ("U.S. GAAP") purchase accounting principles. Pursuant to the Stock Purchase Agreement through which the Company acquired 100% of the issued and outstanding stock of IIHSL, the Company issued a promissory note, secured by the IIHSL shares, in the amount of $9,098,000, bearing no interest. U.S. GAAP purchase accounting principles require a premium to be recorded for debt securities issued with an interest rate fixed materially above or below the effective rate or current yield of an otherwise comparable security. INCOME TAX EXPENSE: Due to (a) future tax benefits in relation to the Canadian operation of $55,000 not being recorded; (b) non-deductible amortization of goodwill generated from the acquisition of IIHSL of $0.3 million; and (c) a prior year tax adjustment of $0.1 million, the effective rate of tax increased 6% from 36% for the nine months ended March 31, 1998 to 42% for the nine months ended March 31,1999. EQUITY IN INCOME OF AFFILIATED COMPANIES: Equity in income of affiliates for the nine months ended 12 March 31, 1999 was $296,000. This was calculated by taking the Company's 50% share of FFC's net income of $511,000 for the nine months ended March 31, 1999 and deducting amortization of goodwill for the same period of $215,000. There was only three months of equity in income of affiliates for the nine months ended March 31, 1998, being $97,000, as the FFC Transaction took place on December 31,1997. MINORITY INTEREST: Minority interest represents an independent third party's ownership of 24.96% of Ness, and the corresponding profit allocation for the six months ended March 31, 1999. NET INCOME: Net income increased 3% from $3.6 million for the nine months ended March 31, 1998 to $3.7 million for the nine months ended March 31, 1999. LIQUIDITY AND CAPITAL RESOURCES The principal source of the Company's liquidity historically has been, and in the future is expected to be, cashflow from operations. The Company currently has no credit facility with a bank or other financial institution, although it believes appropriate facilities would be available on reasonable terms if needed. Effective October 1, 1998, the Company executed the Stock Purchase Agreement through which the Company acquired the IIHSL Shares. Pursuant to the Stock Purchase Agreement, the Company paid aggregate consideration consisting of: (i) 400,000 shares Common Stock; (ii) five year convertible warrants to purchase 360,000 shares of Common Stock at an exercise price of $13.00 per share; (iii) cash in the amount of $2,426,000 ($126,000 paid concurrent with the execution of the Stock Purchase Agreement and $2,300,000 to be paid upon the closing of the transaction); (iv) a promissory note, secured by the IIHSL Shares, in the amount of $9,098,000, payable in installments of $400,000 on each of June 30,1999 and December 31, 1999, with the balance of the note due on June 30, 2000 ("Note"); and, (v) a non-refundable re-negotiation fee of $200,000. If any portion of the principal amount of the Note is still outstanding on October 1, 1999, the Company shall issue an additional five year warrant to purchase 200,000 shares of Common Stock at an exercise price of $13.00 per share. Likewise, if any portion of the principal amount of the Note is still outstanding on January 1, 2000, the Company shall issue an additional five year warrant to purchase 200,000 shares of HSI common stock at an exercise price of $13.00 per share. Cashflow from operations remained stable, being $3.0 million for the nine months ended March 31, 1998 compared to $3.2 million for the nine months ended March 31, 1999. Net cash used in investing activities decreased from a deficit of $0.7 million during the nine months ended March 31, 1998 to a deficit of $5.0 million during the nine months ended March 31, 1999. The deficit in net cash used in investing activities was primarily due to: (a) $3.4 million for consideration paid and costs associated with the acquisition of Ness: (b) $0.6 million for the purchase of capital assets by Ness; and, (c) a short term loan granted of $0.6 million. Net cash generated from financing activities decreased from a surplus of $3.5 million during the nine months ended March 31, 1998 to a deficit of $0.5 million for the nine months ended March 31, 1999. The Company believes that internally generated cashflows will be adequate to support currently planned business operations over the next twelve months. The Company's strategy for growth is based on the expansion of its Distributor Network into existing and new markets, with the costs of such expansion largely borne by the distributor. It is expected excess cashflows generated by the Company may be used in part to acquire the remaining 24.96% interest of Ness, if the Company can reach agreement with the owners of such interest. Additionally, the Company may from time to time, use excess cash flows to make strategic acquisitions or other investments. Notwithstanding that the Company's costs in expanding its Distributor Network are expected to be limited, the Company may be required to obtain additional capital to fund growth from other financing sources if the cashflow generated by the Australian and New Zealand operations is insufficient to meet the cash requirements of developing the international operations. Potential sources of such capital may include proceeds from bank financing or additional offerings of the equity or debt securities of the Company. There can be no assurance that such capital will be 13 available on acceptable terms from these or other potential sources. The lack of such capital could have a material adverse effect on the Company's operations. YEAR 2000 DISCLOSURE The Company is currently in the process of evaluating its information technology infrastructure ("ITI") for Year 2000 compliance. In this regard, the Company has three (3) areas of exposure, each which can be further subdivided into two (2) areas of implicit risk classification. (i) Software - "Mission Critical" & "Non-Mission Critical" (ii) Hardware - "Mission Critical" & "Non-Mission Critical" (iii) Remaining Infrastructure - "Mission Critical" & "Non-Mission Critical" Mission critical software includes the Company's accounting package, customer database, and operating systems, including Windows 95 and Windows NT. The Company has employed an external information technology firm to review its mission critical software and provide an analysis of the Company's potential risks. The results of this review indicate that of the total core applications 100% have been identified as being year 2000 Compliant. The Company is in the process of implementing all recommendations and expects to have addressed all matters raised in the review by the end of the first quarter of Fiscal 2000. The Company anticipates that the costs to achieve compliance will not have a material impact on the financial condition or results of operations of the Company. Mission critical hardware encompasses the data communication infrastructure and all server end hardware. The Company has employed an external information technology firm to review its mission critical hardware and provide an analysis of the Company's potential risks, and alternatives to address Year 2000 issues. Such review has been completed and the external firm concluded that in general the position of the hardware has, except for one product (a non-core modem), been identified as year 2000 compliant. The remaining infrastructure is presently being reviewed, and the identification and rectification of any exposures will be achieved by the end of the third quarter of Fiscal 1999. Additionally, the Company has formed a Year 2000 Compliance Committee ("the Committee") with representatives from all departments of the Company including Ness and FFC. The Committee is charged with the evaluation of all non-mission critical software and hardware and the remaining infrastructure of the Company to address the remaining Year 2000 issues. The Committee is also responsible for contacting all major vendors with a request to supply a response in writing, which confirms the services or products they supply are Year 2000 compliant. The Company has also adopted a policy requiring written confirmation of Year 2000 compliance from any prospective vendor. Furthermore, the Company has ensured all subsidiaries, including each of FFC and Ness, implement the above strategies to address Year 2000 issues. FFC is currently involved in a joint project with FAI General Insurance Company Limited ("FAI General"), a subsidiary of FAI Insurances Limited, to identify, categorize and if necessary, update, all software and hardware components to address Year 2000 issues. FFC has obtained confirmation from the vendor of its financial database package that such software is Year 2000 compliant. In regards to Ness, the Company has begun to utilize the same internal and external resources identified above, to test the manufacturing infrastructure of Ness for Year 2000 compliance. If necessary, the Company will reprogram or replace any non-compliant manufacturing equipment. Ness has addressed Year 2000 issues in all of its products, including the SecurityGuard System. Ness has also received confirmation that its mission critical network, hardware and software are Year 2000 compliant. The Company does not expect that the cost, if any, to modify any of its or its subsidiaries ITI and/or other infrastructures, in order to achieve Year 2000 compliance, will have a material impact on its financial condition or results of operations. This statement is a Year 2000 Readiness disclosure entitled to protection as provided in the Year 2000 Information and Readiness Disclosure Act. CURRENCY FLUCTUATIONS 14 Although the Company's principal operations are concentrated in Australia and New Zealand, it conducts operations throughout the world. Accordingly, the Company's financial performance could be adversely affected by fluctuations in currency exchange rates. Furthermore, as the Company reports its financial results in U.S. dollars, a significant movement in the value of the U.S. dollar against certain international currencies, particularly the Australian dollar ("AUD"), could have a material adverse effect on the Company's reported financial position and results of operations. The AUD has declined in value relative to the U.S. dollar from .6941 on March 31, 1998 to .6280 on March 31, 1999. The change in valuation resulted in lower reported revenues than budgeted when translated into U.S. dollars for three and nine months ended March 31, 1999. Although the Company is not in the business of currency hedging, it may from time to time engage in hedge arrangements. Nevertheless, there can be no assurance that the Company will be successful in limiting risks related to currency fluctuations and that changes in exchange rates will not have a material adverse effect on the Company or its results of operations. ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Not Applicable PART II - OTHER INFORMATION ITEM 1: LEGAL PROCEEDINGS Not Applicable ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS Not Applicable ITEM 3. DEFAULTS UPON SENIOR SECURITIES Not Applicable ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Not Applicable ITEM 5. OTHER INFORMATION Not Applicable ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibit 27 Financial Data Schedule (b) Not Applicable 15 HOME SECURITY INTERNATIONAL, INC. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. HOME SECURITIES INTERNATIONAL, INC. (Registrant) By: /s/ Bradley D. Cooper -------------------------------------------- Bradley D. Cooper Chairman and Chief Executive Officer (Principal Executive Officer) By: /s/ Mark Whitaker -------------------------------------------- Mark Whitaker Vice President of Finance and Treasurer (Principal Financial and Accounting Officer) Dated: May 14, 1999 16 EX-27 2 FINANCIAL DATA SCHEDULE
5 3-MOS MAR-31-1999 JAN-01-1999 JUN-30-1999 4,737,401 0 3,265,937 0 6,327,953 16,267,609 3,318,056 0 50,848,619 10,876,764 0 0 0 5,550 17,839,911 50,848,619 11,585,255 11,675,886 5,569,643 5,569,873 3,863,873 0 256,551 1,985,819 (842,447) 1,143,372 0 0 (120,123) 1,023,248 0.18 0.18
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