10QSB/A 1 form10qsba.txt As filed with the Securities and Exchange Commission on August 19, 2002 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-QSB/A (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarter ended June 30, 2002 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from __________ to ______________ Commission File Number 000-30095 CTI DIVERSIFIED HOLDINGS, INC. (Exact name of registrant as specified in its charter) Delaware 33-0921967 --------------------- --------------------- State or other jurisdiction of (I.R.S. Employer incorporation or organization Identification No.) 8525 COMMERCE COURT, BURNABY, BC V5A 4N3 ---------------------------------------- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code (604) 646-6638 Securities registered pursuant to Section 12(b) of the Act: Title of each class Name of each exchange on which registered None None ------------------------ ----------------------------------------- Securities registered pursuant to Section 12(g) of the Act: Common Stock, par value $.0001 per share ----------------------------------------------------------- (Title of class) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No ----- ----- Page 2 Number of shares outstanding of the registrant's class of common stock as of June 30, 2002: 19,182,967. The authorized share capital: 50,000,000 common shares, par value of $0.0001 INDEX TO THE FORM 10-QSB For the quarterly period ended June 30, 2002 PART 1 - FINANCIAL INFORMATION Page ---- Item 1. Consolidated Financial Statements - CTI Diversified Holdings, Inc. 4 Audited Financial Statements - Sentry Telecom Systems Inc. 15 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operation 35 PART 11 - OTHER INFORMATION Item 1. Legal Proceedings 38 Item 2. Changes in Securities and Use of Proceeds 39 Item 5. Other Information 39 Page 3 FORWARD-LOOKING STATEMENTS This Quarterly Report on Form 10-QSB contains predictions, projections and other statements about the future that are intended to be "Forward-Looking Statements" within the meaning of section 21E of the Securities Exchange Act of 1934, as amended (collectively, "Forward-Looking Statements"). Forward-looking statements involve risks and uncertainties. A number of important factors could cause actual results to differ materially from those in the forward -looking statements. These factors include the inability to successfully design, develop and commercialize products, the reliance on third party suppliers for materials, the inability to attract and retain qualified staff, the Company's limited operating history and continuing operating losses, recent and potential development strategic alliances, the outcome of pending litigation, the impact of acquisitions, establishing and maintaining effective distribution channels, impact and timing of large orders, pricing pressures in the market, inability to create and protect intellectual property, inability to raise sufficient funding to sustain negative cash flows, lack of liquidity, systems failures, technological changes, volatility of securities markets, government regulations, and economic conditions and competition in the geographic and the business areas where we conduct our operations. In assessing forward-looking statement contained in this quarterly report on Form 10-QSB, readers are urged to read carefully all cautionary statements - including those contained in other sections of this quarterly report on Form 10-QSB. PART I - FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS Index ----- Consolidated Statements of Operations and Deficit for the six months ended June 30, 2002 and 2001 Consolidated Balance Sheet at June 30, 2002 and December 31, 2001 Consolidated Statements of Stockholders' Deficiency Consolidated Statement of Cash Flows for the six months ended June 30, 2002 and 2001 Notes to Consolidated Financial Statements Page 4 CTI DIVERSIFIED HOLDINGS, INC. (A Development Stage Enterprise) (Unaudited) Consolidated Balance Sheets (Expressed in U.S. Dollars) ================================================================================ June 30, 2002 December 31, 2001 ------------------------------------------------------------------------------- ASSETS Current Cash and cash equivalents $ 117,170 $ 949 Accounts receivable 5,842 - Prepaid expenses 5,397 339 ------------------------------------------------------------------------------- Total current assets 128,409 1,288 Fixed assets 52,635 35,758 Goodwill - - ------------------------------------------------------------------------------- Total assets $ 181,044 $ 37,046 ------------------------------------------------------------------------------- LIABILITIES Current Accounts payable and accrued liabilities $ 771,853 $ 346,536 Current portion of notes payable 711,672 94,153 Current portion of amounts due to shareholders 564,717 79,479 ------------------------------------------------------------------------------- Total current liabilities 2,048,242 520,168 Long-term debt 23,043 - Notes payable 50,158 30,030 Due to shareholders 276,347 607,988 ------------------------------------------------------------------------------- Total liabilities 2,397,790 1,158,186 ------------------------------------------------------------------------------- STOCKHOLDER'S EQUITY (DEFICIENCY) Capital stock 1,918 1,781 Contributed Surplus 4,018,200 3,713,131 Deficit accumulated during the development stage (6,236,864) (4,836,052) ------------------------------------------------------------------------------- Total shareholders' equity (deficiency) (2,216,746) (1,121,140) ------------------------------------------------------------------------------- Total liabilities and shareholders' deficiency $ 181,044 $ 37,046 ------------------------------------------------------------------------------- Commitments See accompanying notes to the financial statements Page 5 CTI DIVERSIFIED HOLDINGS, INC. (A Development Stage Enterprise) (Unaudited) Consolidated Statements of Operations and Deficit (Expressed in U.S. Dollars) --------------------------------------------------------------------------------
August 11, 1998 (inception) to Six Months Six Months Three Months Three Months June 30, 2002 ended ended ended ended (cumulative) June 30, 2002 June 30, 2001 June 30, 2002 June 30, 2001 ----------------------------------------------------------------------------------------------------------------------------------- Expenses Advertising and promotion $ 4,122 $ 2,190 $ 2,072 $ - $ - Depreciation 19,945 6,202 8,069 4,014 3,796 Automotive 2,391 - 1,973 - 1,235 Consulting 299,877 89,723 136,054 55,679 68,753 Insurance 1,413 1,413 251 1,413 251 Interest and bank charges 24,826 10,728 26,452 5,830 3,897 Interest paid to shareholders 126,389 28,547 53,704 15,271 72,373 Investor relations and reporting costs 154,393 53,647 77,576 51,726 63,194 Legal and accounting 126,749 64,284 28,890 33,233 19,603 Licences, dues and subscriptions 2,833 233 2,525 233 210 Office 81,818 46,631 25,434 37,859 14,486 Rent 25,907 10,225 19,970 10,225 10,252 Telephone 11,276 1,759 6,256 934 2,890 Travel 145,171 48,141 97,972 9,773 40,920 Miscellaneous 1,671 1,671 - 1,671 - Wages and benefits 101,477 101,477 - 101,477 - ----------------------------------------------------------------------------------------------------------------------------------- 1,130,258 466,871 487,198 329,338 301,860 ----------------------------------------------------------------------------------------------------------------------------------- Loss from operations (1,130,258) (466,871) (487,198) (329,338) (301,860) Other items Loss on investments (4,191,607) (934,197) (3,725,520) (906,777) (582,441) Interest and other revenue 19,198 256 7,925 (6,440) 7,108 ----------------------------------------------------------------------------------------------------------------------------------- (4,172,409) (933,941) (3,717,595) (913,217) (575,333) ----------------------------------------------------------------------------------------------------------------------------------- Net loss for the period (6,236,864) (1,400,812) (4,204,793) (1,242,555) (877,193) Deficit, beginning of period - (4,836,052) (12,468) (4,994,309) (3,340,068) ----------------------------------------------------------------------------------------------------------------------------------- Deficit, end of period $ (6,236,864) $ (6,236,864) $ (4,217,261) $ (6,236,864) $ (4,217,261) ----------------------------------------------------------------------------------------------------------------------------------- Loss per share (Basic and diluted) $ (0.34) $ (0.21) $ (0.072) $ (0.04) ----------------------------------------------------------------------------------------------------------------------------------- Weighted average number of common shares outstanding 18,397,051 20,113,685 18,387,051 20,113,685 -----------------------------------------------------------------------------------------------------------------------------------
See accompanying notes to the financial statements Page 6 CTI DIVERSIFIED HOLDINGS, INC. (A Development Stage Enterprise) (Unaudited) Consolidated Statements of Stockholders' Deficiency From August 11, 1998 (Date of Inception) to June 30, 2002 (Expressed in U.S. Dollars) --------------------------------------------------------------------------------
Deficit Accumulated During the Contributed Development Common Shares Stock Amount Surplus Stage --------------------------------------------------------------------------------------------------------------------- Shares issued to acquire 19% of New York Bagel Co., Inc. 20,000,000 $ 2,000 $ 4,091 $ - Issuance of 500,000 common shares in August 1998 at $0.01 per share 2,000,000 200 4,800 - --------------------------------------------------------------------------------------------------------------------- Balance, December 31, 1998 22,000,000 2,200 8,891 - Net loss for the year ended December 31, 1999 - - - (2,994) Balance, December 31, 1999 22,000,000 2,200 8,891 (2,994) --------------------------------------------------------------------------------------------------------------------- Cancellation of shares June 2000 (15,000,000) (1,500) 1,500 - Issuance of 20,000 common shares on August 11, 2000 in consideration of directors 20,000 2 - - Stock dividend on December 12, 2000: 5.25 for one 29,835,000 2,983 (2,983) - Net loss for the year ended December 31, 2000 - - - (9,474) --------------------------------------------------------------------------------------------------------------------- Balance, December 31, 2000 36,855,000 3,685 7,408 (12,468) Issuance of shares in consideration of legal services performed 5,000 1 9,999 - Cancellation of shares (26,355,000) (2,635) 2,635 - Issuance of shares in exchange for 11,413,700 shares of common stock of Cobratech Industries Inc. 5,999,591 600 1,686,297 - Conversion of promissory notes into common stock, effective June 29, 2001 1,304,153 130 2,006,792 - Net loss for the year ended December 31, 2001 - - - (4,823,584) --------------------------------------------------------------------------------------------------------------------- Balance, December 31, 2001 17,808,744 1,781 3,713,131 (4,836,052) Issuance of shares in consideration for services 100,000 10 22,990 - Issuance of bonus shares (note 7) 181,397 18 (18) - Issuance of shares in exchange for 7,160,000 shares of Sentry Telecom Systems Inc. 500,000 50 109,950 - Conversion of debt into common stock 592,826 59 172,147 - Net loss for the period ended June 30, 2002 - - - (1,400,812) --------------------------------------------------------------------------------------------------------------------- Balance, June 30, 2002 19,182,967 $ 1,918 $ 4,018,200 $ (6,236,864) ---------------------------------------------------------------------------------------------------------------------
See accompanying notes to the financial statements Page 7 CTI DIVERSIFIED HOLDINGS, INC. (A Development Stage Enterprise) (Unaudited) Consolidated Statement of Cash Flows --------------------------------------------------------------------------------
August 11, 1998 (inception) to June 30, 2002 Six months ended Six months ended (cumulative) June 30, 2002 June 30, 2001 ------------------------------------------------------------------------------------------------------------ Cash flows from operating activities Net loss for the period $ (6,236,864) $ (1,400,812) $ (4,204,793) Adjustments to reconcile net income to net cash provided by operating activities: Depreciation 19,945 6,202 4,014 Gain on sale of assets (2,701) - - Loss on investments and writedown of intangibles 5,313,904 934,197 3,717,595 ------------------------------------------------------------------------------------------------------------ (905,716) (460,413) (483,184) Change in assets and liabilities: Decrease (increase) in accounts receivable 247,812 247,812 (1,321) Decrease (increase) in prepaid expenses (166) 173 (968) Increase (decrease) in accounts payable and accrued liabilities 133,509 (13,027) 140,025 Net liabilities acquired on acquisition of subsidiaries (610,680) - - ------------------------------------------------------------------------------------------------------------ (1,135,241) (225,455) (345,448) ------------------------------------------------------------------------------------------------------------ Cash flows from financing activities Net increase in convertible notes 2,006,922 - 3 Net increase in notes payable 447,694 323,511 110,347 Net increase in shareholder advances (repayments) 743,331 55,864 300,751 ------------------------------------------------------------------------------------------------------------ 3,197,947 379,375 411,101 ------------------------------------------------------------------------------------------------------------ Cash flows from (used in) investing activities Capital expenditures (76,259) (4,473) (59,050) Proceeds on sale of New York Bagel Inc. 6,066 - - Investment in and advances to Subsidiaries. (1,987,561) (33,226) - Proceeds on sales of assets 24,888 - - ------------------------------------------------------------------------------------------------------------ (2,032,866) (37,699) (59,050) ------------------------------------------------------------------------------------------------------------ Effect of exchange rate changes 82,330 - - Increase in cash and cash equivalents 112,170 116,221 6,603 Cash and cash equivalents, beginning of period 5,000 949 - ------------------------------------------------------------------------------------------------------------ Cash and cash equivalents, end of period $ 117,170 $ 117,170 $ 6,603 ------------------------------------------------------------------------------------------------------------ Supplementary disclosure - non-cash transactions ------------------------------------------------------------------------------------------------------------ Cash flows from financing activities $ 1,829,897 $ 133,000 $ 1,686,897 ------------------------------------------------------------------------------------------------------------ Cash flows from (used in) investing activities (1,806,897) (110,000) (1,686,897) ------------------------------------------------------------------------------------------------------------ Cash flows from (used in) operating activities (23,000) (23,000) - ------------------------------------------------------------------------------------------------------------
See accompanying notes to the financial statements Page 8 CTI DIVERSIFIED HOLDINGS, INC. (A Development Stage Enterprise) (Unaudited) Notes to the Consolidated Financial Statements (Expressed in US Dollars) June 30, 2002 ================================================================================ 1. Basis of Presentation The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and notes required by generally accepted accounting principles for complete financial statements. The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires the Company's management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements as well as the reported amounts of revenues and expenses during the reporting period. In the opinion of management, the accompanying financial statements include all adjustments which are normal, recurring and necessary in order to make the interim financial statements not misleading. Operating results for interim periods are not necessarily indicative of the results that may be expected for the year. For further information, refer to the audited financial statements and notes thereto included in the CTI annual report on Form 10-KSB for the fiscal year ended December 31, 2001. The accompanying consolidated financial statements have been prepared on a going concern basis, which contemplates the realization of assets and the discharge of liabilities in the normal course of business for the foreseeable future. The Company has no current source of revenue. The future of the company as a "going concern" is highly dependent upon the Company's ability to attract new long-term and permanent equity financing, to complete the development and marketing of the Sentry products, to have the continued support of creditors and shareholders, and ultimately to reach a profitable level of operations. Accordingly, they do not give effect to adjustment, if any that would be necessary should the Company be unable to continue as a going concern and, therefore, be required to realize its assets and liquidate its liabilities other than in the normal course of business and at amounts which may differ from those shown in the financial statements. 2. Summary of significant accounting policies (a) Principles of Consolidation The consolidated financial statements include the accounts of CTI Diversified Holdings, Inc. and its subsidiaries (collectively the "Company"), Cobratech Industries Inc. ("Cobratech"), and Sentry Telecom Systems Inc. ("Sentry"). All significant intercompany accounts and transactions have been eliminated. The Company's investments in Cobratech Industries Limited ("CIL"), Cobratech Industries Japan Limited ("CIJL"), and IT Transit Limited ("IT") ceased operations in 2001. The company is exploring voluntary bankruptcy as a means under which to accommodate this. The Company believes its loss is limited to its investment in and advances made to the foreign subsidiaries. (b) Loss per share Loss per share is computed using the weighted average number of common shares outstanding during the period. Potential common shares which could dilute earnings in the future are disclosed in (note 7). (c) Use of Estimates The preparation of the consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amount of revenues and expenses during the period. Actual results may differ from those estimates. Page 9 CTI DIVERSIFIED HOLDINGS, INC. (A Development Stage Enterprise) (Unaudited) Notes to the Consolidated Financial Statements (Expressed in US Dollars) June 30, 2002 ================================================================================ 2. Summary of significant accounting policies continued (d) Impairment of Long-term Assets The Company re-evaluates the recoverability of long-term assets, including fixed assets, long term investments, advances receivable, and intangible assets based upon estimates using factors such as future asset utilization, business climate and future discounted cash flows expected to result form the use of the related assets or be realized on sale. The Company's policy is to write down assets to their net recoverable amount in the period when it is determined that the carrying amount of the asset is not likely to be recovered. (e) Cash equivalents The Company considers all highly liquid investments with maturities of three months or less when purchased, to be cash equivalents. There were no cash equivalents at June 30, 2002 and at December 31, 2001. (f) Fixed Assets Fixed assets are recorded at historical costs. Depreciation of fixed assets is calculated using the following methods and rates: Computer equipment - 30% declining balance basis Furniture and fixtures - 20% declining balance basis (g) Comparative figures Certain of the comparative figures have been reclassified to conform to the current period presentation. (h) Goodwill Goodwill arising from the acquisition of subsidiary companies is being amortized to income on the straight-line basis over the expected period of benefit, not to exceed forty years. Management reviews on a regular basis, the carrying amount of the goodwill for possible permanent impairment by evaluating undiscounted expected cash flows. Goodwill is written down to its estimated net recoverable amount when there is a permanent decline in its value. At June 30, 2002, the Company has written down its goodwill arising from the acquisition of Sentry to Nil, its estimated net recoverable amount. Page 10 CTI DIVERSIFIED HOLDINGS, INC. (A Development Stage Enterprise) (Unaudited) Notes to the Consolidated Financial Statements (Expressed in US Dollars) June 30, 2002 ================================================================================ 3. Business acquisition Sentry Telecom Systems Inc. --------------------------- On April 15, 2002, the Company completed the acquisition of 90.67% of the outstanding common shares of Sentry. The results of Sentry's operations have been included in the consolidated financing statements since that date. Sentry is a British Columbia private company, involved in the designing and selling of products for the computer telecommunication security industry. The acquisition has been accounted for using the purchase method. The aggregate purchase price was $381,862, including $250,000 of cash, 500,000 shares of common stock valued at $110,000 or $0.22 per share, the market price of the common stock at the date the share purchase agreement was signed, and acquisition related expenses of $21,862. The following table summarizes the estimated fair value of the assets acquired and liabilities assumed as at April 15, 2002, the date of acquisition: Current assets $ 271,500 Fixed assets 18,606 Goodwill 1,134,332 ------------- Total assets acquired 1,424,438 ============= Current liabilities 752,480 Long term debt 290,096 ------------- Total liabilities assumed 1,042,576 ------------- Net assets acquired $ 381,862 ============= 4. Fixed assets
Accumulated June 30, 2002 December 31, 2001 Cost depreciation Net book value Net book value -------------------------------------------------------------------------------------------- Furniture & fixtures $ 67,649 $ 40,785 $ 26,864 $ 25,572 Computer equipment 48,796 23,025 25,771 10,186 -------------------------------------------------------------------------------------------- $ 116,445 $ 63,810 $ 52,635 $ 35,758 --------------------------------------------------------------------------------------------
Page 11 CTI DIVERSIFIED HOLDINGS, INC. (A Development Stage Enterprise) (Unaudited) Notes to the Consolidated Financial Statements (Expressed in US Dollars) June 30, 2002 ================================================================================ 5. Notes payable The terms of the notes payable are as follows:
----------------------------------------------------------------------------------------------------- June 30, 2002 December 31, 2001 ----------------------------------------------------------------------------------------------------- Note payable - Unity Wireless Corporation ("Unity"). The note bears interest at 1% per month and is secured by a general security agreement covering the assets of Cobratech Industries Inc. The balance at June 30, 2002 consists of principle plus accrued interest. In November 2001, the company agreed to pay 10% of all funds received from financing in excess of $100,000 to Unity in repayment of the notes. The repayment terms expired on May 5, 2002. As of July 31, 2002, the Company is in default of this agreement. $ 99,940 $ 94,153 Notes payable - The notes bear interest at the Bank of Montreal prime rate plus 5% per annum, compounded monthly. The holder of the note has agreed not to demand repayment prior to June 2003. 50,158 30,030 Notes payable - The notes bear interest at 9% per annum, compounded monthly and are due on demand. 284,488 - Notes payable - The notes bear interest at the Bank of Montreal prime rate plus 5% per annum, compounded monthly and are due on demand. The notes hold as security all of the assets of Sentry. 327,244 - --------------------------------------------------------------------------------------------------- Total notes payable 761,830 124,183 Less: current portion due within one year 711,672 94,153 --------------------------------------------------------------------------------------------------- Long term portion $ 50,158 $ 30,030 ---------------------------------------------------------------------------------------------------
Page 12 CTI DIVERSIFIED HOLDINGS, INC. (A Development Stage Enterprise) (Unaudited) Notes to the Consolidated Financial Statements (Expressed in US Dollars) June 30, 2002 ================================================================================ 6. Due to shareholders The terms of the amounts due to shareholders are as follows:
----------------------------------------------------------------------------------------------------- June 30, 2002 December 31, 2001 ----------------------------------------------------------------------------------------------------- Notes payable - The notes payable are due to shareholders and bear interest at the Bank of Montreal prime rate plus 5% per annum, compounded monthly. $ 552,188 $ 522,097 Notes payable - The notes are due to a shareholder and director of CTI. The notes bear interest at the Bank of Montreal prime rate plus 5% per annum, compounded monthly. 92,098 85,891 Advances from shareholders, bearing interest at 6% per annum, compounded monthly, with no set terms of repayment. 103,315 - Advances from shareholders, non-interest bearing with no set terms of repayment. 93,463 79,479 --------------------------------------------------------------------------------------------------- 841,064 687,467 Less: current portion due within one year 564,717 79,479 --------------------------------------------------------------------------------------------------- $ 276,347 $ 607,988 ---------------------------------------------------------------------------------------------------
(a) The minimum principal repayments on the notes payable to shareholders during the next two years are as follows: ------------------------------------------------------ 2002 $ 564,717 2003 276,347 ------------------------------------------------------ Total $ 841,064 ------------------------------------------------------ 7. Capital Stock (a) Authorized: 50,000,000 common shares with a par value of $0.0001 per share (b) Issued: 19,182,967 common shares (c) Warrants In February 2002, the Company issued 300,000 share purchase warrants, with an exercise price of $0.25 per share and an expiry date of December 2006, to two directors of the company. The warrants also have a cashless exercise price. In lieu of exercising this warrant, the holder may elect to receive shares of common stock equal to the "value" of the warrant, calculated based on the fair market value of the shares in excess of the market price. As of June 30, 2002, the Company has the following warrants outstanding: Number of warrants Exercise price Expiry date ------------------ -------------- ----------- 702,770 $ 2.20 June 2003 601,380 $ 1.50 June 2003 300,000 $ 0.25 December 2006 ----------- 1,604,150 =========== Page 13 CTI DIVERSIFIED HOLDINGS, INC. (A Development Stage Enterprise) (Unaudited) Notes to the Consolidated Financial Statements (Expressed in US Dollars) June 30, 2002 ================================================================================ 7. Capital Stock, continued (d) Share issuances during the period In April 2002, the Company issued 100,000 shares of common stock in exchange for financial consulting and corporate public relations services performed during the period April 2001 to April 2002. The shares have been valued at $0.23 per share, the market price of the shares at the date of issuance. In April 2002, the Company issued 181,397 shares of common stock to seed capital investors of Cobratech as a bonus for non-filing of a registration statement, valued at $0.0001 (par value) per share. In April 2002, the Company issued 500,000 shares of common stock in exchange for 7,160,000 common shares of Sentry. The shares have been valued at $0.22 per share, the market price of the shares at the date the share purchase agreement was signed. 150,000 of the shares were released on the acquisition closing date of April 15, 2002. The remaining 350,000 shares are held in trust by the Company's solicitors and will only be released as certain performance milestones are achieved. To the extent that these performance milestones are not met, some or all of these unreleased shares will be surrendered and returned to the Company for cancellation. In May 2002, the Company agreed to convert certain amounts owing by Sentry to British Columbia Advanced Systems Institute ("ASI") into shares of common stock of CTI. ASI advanced Sentry $172,206 ($270,000 Canadian) to assist in performing certain specified research and development work. In May, ASI agreed to convert the outstanding balance into 592,826 common shares of CTI. The shares issued on the conversion were valued at $0.29 per share, the average closing price for CTI shares for the 20 days prior to April 30, 2002. 8. Commitments (a) The Company has entered into operating leases for certain office equipment. Minimum rental payments under these leases are as follows: ------------------------------------------------ 2003 $ 3,897 2004 1,948 ------------------------------------------------ Total $ 5,845 ------------------------------------------------ (b) The Company has an operating commitment under an offer to lease for office facilities in Burnaby BC. The offer to lease expired on July 31, 2002. Effective August 1, 2002, the Company is operating under a month to month lease. 9. Related party transactions The aggregate amount of expenditures made to parties not at arm's length to the Company for the six month period ended June 30, consist of the following: -------------------------------------------------------------------------- 2002 2001 -------------------------------------------------------------------------- Consulting fees paid or accrued to a director of the Company $ 25,056 $ - Interest paid to shareholders 28,547 53,704 --------------------------------------------------------------------------- Management is of the opinion that the terms and conditions are consistent with standard business practice. Page 14 CTI DIVERSIFIED HOLDINGS, INC. (A Development Stage Enterprise) (Unaudited) Notes to the Consolidated Financial Statements (Expressed in US Dollars) June 30, 2002 ================================================================================ 10. Contingency The Company is a defendant in an outstanding legal proceeding. The Company has disputed the claim and management has advised that the outcome of the claim is not determinable at this time. 11. New authoritative pronouncements (a) In July 2001, the FASB issued SFAS No. 141 "Business Combinations". SFAS No. 141 addresses financial accounting and reporting for business combinations and supersedes AFS Opinion No. 16 "Business Combinations" and SFAS No. 38 "Accounting for Preacquisition Contingencies of Purchased Enterprises". This standard eliminates the pooling-of-interests method of accounting for business combinations, requiring the purchase method of accounting. This standard also revises the measures for accounting for negative goodwill and establishing whether an intangible asset is a part of acquired goodwill. The provisions of this statement apply to all business combinations initiated after June 30, 2001. This statement also applies to all business combinations accounted for using the purchase method for which the date of acquisition is July 1, 2001 or later. The adoption of this standard has not had a material impact on our financial position or results of operations. (b) In July 2001, the FASB issued SFAS No. 142 "Goodwill and Other Intangible Assets". SFAS No. 142 provides guidance on accounting for goodwill and intangible assets. This statement requires that goodwill not be amortized. A reduction in goodwill will only result from an impairment test if the test reveals that the fair value of goodwill is below its carrying value. An acquired intangible assets (other than goodwill) with an indefinite useful life should not be amortized unit its useful economic life is determined to be finite. These assets should be annually tested for impairment (at a minimum). An acquired intangible asset (other than goodwill) with a limited useful life should be amortized over its useful economic life and reviewed for impairment. The provisions of this statement are required to be applied starting with fiscal years beginning after December 31, 2001. Goodwill and intangible assets acquired after June 30, 2001, will be subject immediately to the non-amortization and amortization provisions of this statement. We do not believe that the adoption of this standard will have a material impact on our financial position or results of operations. (c) In September 2001, the FASB issued SFAS No. 144, "Accounting for Impairment or Disposal of Long Term Assets", SFAS supersedes SFAS 121 "Accounting for Impairment of Long Term Assets and Long-Lived Assets to be disposed of:, but retains the basic requirements regarding when and how to measure an impairment loss, SFAS applies to long-lived assets to be held or disposed of but specifically excludes certain classes or assets such as goodwill and intangible not being amortized. We do not believe that the adoption of this standard will have a material impact on our financial position or results of operations. Page 15 SENTRY TELECOM SYSTEMS INC. Financial Statements (Expressed in Canadian Dollars) October 31, 2001, 2000 and 1999 Index ----- Independent Auditors' Report Balance Sheet Statement of Operations and Deficit Statement of Cash Flows Notes to Financial Statements Page 16 ELLIS FOSTER CHARTERED ACCOUNTANTS 1650 West 1st Avenue Vancouver, BC Canada V6J 1G1 Telephone: (604) 734-1112 Facsimile: (604) 714-5916 E-Mail: generaldelivery@ellisfoster.com ------------------------------- -------------------------------------------------------------------------------- INDEPENDENT AUDITORS' REPORT To the Shareholders of SENTRY TELECOM SYSTEMS INC. We have audited the balance sheets of Sentry Telecom Systems Inc. as at October 31, 2001, 2000 and 1999 and the statements of operations and 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 an audit to obtain reasonable assurance 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 overall financial statement presentation. In our opinion, these financial statements present fairly, in all material respects, the financial position of the company as at October 31, 2001, 2000 and 1999 and the results of its operations and its cash flows for the years then ended in accordance with accounting principles generally accepted in Canada. Differences between Canadian and United States generally accepted accounting principles affecting the determination of shareholders' equity at October 31, 2001, 2000 and 1999 and the determination of net loss for each of the years in the three-year period ended October 31, 2001 are summarized in note 17. Vancouver, Canada /s/ ELLIS FOSTER April 5, 2002 Chartered Accountants COMMENTS BY AUDITORS FOR U.S. READERS ON CANADA-U.S. REPORTING CONFLICT In the United States, reporting standards for auditors require the addition of an explanatory paragraph (following the opinion paragraph) when the financial statements are affected by significant uncertainties such as that referred to in the attached balance sheets as at October 31, 2001, 2000 and 1999 and described in note 2 of the financial statements. Our report to the shareholders dated April 5, 2002 is expressed in accordance with Canadian reporting standards which do not permit a reference to such an uncertainty in the auditors' report when the uncertainty is adequately disclosed in the financial statements. Vancouver, Canada /s/ ELLIS FOSTER April 5, 2002 Chartered Accountants -------------------------------------------------------------------------------- EF A partnership of incorporated professionals An independently owned and operated member of Moore Stephens North America Inc., a member of Moore Stephens International Limited - members in principal cities throughout the world Page 17 SENTRY TELECOM SYSTEMS INC. Balance Sheet October 31, 2001, 2000 and 1999 (Expressed in Canadian Dollars) ================================================================================ 2001 2000 1999 -------------------------------------------------------------------------------- ASSETS Current Cash and cash equivalents $ 3,582 $ 31,938 $ 37,784 Accounts receivable 4,000 2,402 - Inventories (note 4) 74,487 63,392 4,885 Taxes recoverable (note 5) 409,410 179,984 3,993 Prepaid expenses 8,578 33,028 3,994 Subscriptions receivable - - 90,000 -------------------------------------------------------------------------------- Total current assets 500,057 310,744 140,656 Capital assets (note 6) 35,824 28,981 14,924 Intangible assets (note 7) 1,573 3,550 5,528 -------------------------------------------------------------------------------- Total assets $ 537,454 $ 343,275 $ 161,108 ================================================================================ LIABILITIES Current Accounts payable and accrued liabilities $ 580,042 $ 424,892 $ 96,985 Due to shareholder (note 8) 150,857 142,247 22,706 Promissory notes payable (note 9) 1,290,809 219,917 - Current portion of long-term debt (note 10) 62,228 30,953 2,381 -------------------------------------------------------------------------------- Total current liabilities 2,083,936 818,009 122,072 Long-term debt (note 10) 243,243 188,677 55,119 -------------------------------------------------------------------------------- Total liabilities 2,327,179 1,006,686 177,191 -------------------------------------------------------------------------------- SHAREHOLDERS' EQUITY (DEFICIENCY) Share capital (note 11) 229,852 229,852 120,252 Deficit (2,019,577) (893,263) (136,335) -------------------------------------------------------------------------------- Total shareholders' equity (deficiency) (1,789,725) (663,411) (16,083) -------------------------------------------------------------------------------- Total liabilities and shareholders' equity $ 537,454 $ 343,275 $ 161,108 ================================================================================ Commitments (note 14) The accompanying notes form an integral part of these financial statements. Approved by the Directors: , Director , Director ----------------- ----------------- Page 18 SENTRY TELECOM SYSTEMS INC. Statement of Operations and Deficit Years Ended October 31, 2001, 2000 and 1999 (Expressed in Canadian Dollars) ================================================================================ 2001 2000 1999 -------------------------------------------------------------------------------- Revenue Other revenues $ 8,696 $ 894 $ 28,082 -------------------------------------------------------------------------------- Expenses Advertising 1,377 6,640 4,896 Amortization 22,428 18,820 29,715 Building repairs and maintenance 3,474 5,540 2,504 Consulting and accounting 359,984 294,684 114,179 Financing fees 37,000 70,000 - Insurance 3,101 2,542 2,783 Interest and bank charges 77,627 8,016 6,531 Legal 83,011 22,520 725 Licenses and dues 2,690 4,223 2,078 Moving expenses 5,517 1,058 - Office supplies 20,723 18,566 5,776 Other 13,626 2,288 661 Packaging and transportation 4,170 3,484 1,153 Rent and utilities 77,812 44,067 36,027 Salaries and benefits 844,427 488,118 141,385 Telephone and on-line services 9,865 8,203 5,995 Trade show 1,902 15,731 10,628 Travel, meals and entertainment 56,588 54,633 15,114 -------------------------------------------------------------------------------- 1,625,322 1,069,133 380,150 -------------------------------------------------------------------------------- Operating loss (1,616,626) (1,068,239) (352,068) -------------------------------------------------------------------------------- Other items Loss on disposal of capital assets - - (1,409) Grants/tax credits from research and development 490,312 311,311 147,338 -------------------------------------------------------------------------------- 490,312 311,311 145,929 -------------------------------------------------------------------------------- Net loss for the year (1,126,314) (756,928) (206,139) -------------------------------------------------------------------------------- Retained earnings (deficit), beginning of year (893,263) (136,335) 69,804 -------------------------------------------------------------------------------- Deficit, end of year $(2,019,577) $ (893,263) $ (136,335) ================================================================================ Loss per share (Basic and diluted) $ (0.14) $ (0.10) $ (0.03) ================================================================================ Weighted average number of common shares outstanding 7,999,200 7,830,136 7,203,946 ================================================================================ The accompanying notes form an integral part of these financial statements. Page 19 SENTRY TELECOM SYSTEMS INC. Statement of Cash Flows Years Ended October 31, 2001, 2000 and 1999 (Expressed in Canadian Dollars) ================================================================================ 2001 2000 1999 -------------------------------------------------------------------------------- Cash flows from (used in) operating activities Net loss for the year $(1,126,314) $ (756,928) $ (206,139) Adjustment for items not involving cash: Amortization 22,428 18,820 29,715 Loss on disposal of capital assets - - 1,409 -------------------------------------------------------------------------------- (1,103,886) (738,108) (175,015) Change in non-cash working capital items: (Increase) decrease in accounts receivable (1,598) (2,402) 61,594 (Increase) decrease in taxes recoverable (229,426) (175,991) 101,903 Increase in inventories (11,095) (58,507) (2,885) Decrease (increase) in prepaid expenses 24,450 (29,034) (1,991) Decrease (increase) in subscriptions receivable - 90,000 (90,000) Increase in accounts payable and accrued liabilities 155,150 327,907 56,630 Decrease in deferred revenue - - (21,200) -------------------------------------------------------------------------------- (1,166,405) (586,135) (70,964) -------------------------------------------------------------------------------- Cash flows from (used in) financing activities Funds received from the issuance of share capital - 109,600 120,000 Increase in long-term debt, net 85,841 162,130 57,500 Increase in promissory notes payable 1,070,892 219,917 - Increase (decrease) in amounts due to shareholders 8,610 119,541 (71,043) -------------------------------------------------------------------------------- 1,165,343 611,188 106,457 -------------------------------------------------------------------------------- Cash flows used in investing activities Purchase of capital assets (27,294) (30,899) - -------------------------------------------------------------------------------- Increase (decrease) in cash and cash equivalents (28,356) (5,846) 35,493 -------------------------------------------------------------------------------- Cash and cash equivalents, beginning of year 31,938 37,784 2,291 -------------------------------------------------------------------------------- Cash and cash equivalents, end of year $ 3,582 $ 31,938 $ 37,784 ================================================================================ The accompanying notes form an integral part of these financial statements. Page 20 SENTRY TELECOM SYSTEMS INC. Notes to Financial Statements October 31, 2001, 2000 and 1999 (Expressed in Canadian Dollars) ================================================================================ 1. Incorporation The Company was incorporated under the laws of the Province of British Columbia on April 17, 1996. The Company's primary business activity involves the designing and selling of products for computer telecommunication security with intended markets to be located in Canada, the United States and Asia. Subsequent to October 31, 2001 the Company has undergone a change in control (note 16). 2. Continuance of Operations These financial statements are prepared in accordance with Canadian generally accepted accounting principles with the assumption being that the Company will continue on a going concern basis and that it will be able to realize assets and discharge liabilities in the normal course of business. Accordingly, they do not give effect to adjustments, if any, that would be necessary should the Company be unable to continue as a going concern and, therefore, be required to realize its assets and liquidate its liabilities other than in the normal course of business and at amounts which may differ from those shown in the financial statements. As at October 31, 2001, the Company had a working capital deficiency of $1,583,879 (2000 - $507,265; 1999 - $nil) and accumulated deficits totalling $2,019,577 (2000 - $893,263; 1999 - $136,335.) The Company's continuing operations, as intended, are dependent upon its ability to obtain adequate investment funding to complete the development and commercialization of its product. Thereafter, the Company's continuing operations, as intended, will be dependent upon its ability to successfully find markets for its product and on its ability to produce, deliver and support its product. 3. Significant Accounting Policies The financial statements of the Company have been prepared in accordance with Canadian generally accepted accounting principles and, in management's opinion, have been properly prepared within reasonable limits of materiality and within the framework of the significant accounting policies summarized below: (a) Use of Estimates The preparation of financial statements in conformity with Canadian generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amount of revenues and expenses during the period. Actual results may differ from those estimates. Page 21 SENTRY TELECOM SYSTEMS INC. Notes to Financial Statements October 31, 2001, 2000 and 1999 (Expressed in Canadian Dollars) ================================================================================ 3. Significant Accounting Policies (continued) (b) Impairment of Long-term Assets The Company re-evaluates the recoverability of long-term assets, including capital assets and intangible assets based upon estimates using factors such as future asset utilization, business climate and future undiscounted cash flows expected to result from the use of the related assets or be realized on sale. The Company's policy is to write down assets to their net recoverable amount in the period when it is determined that the carrying amount of the asset is not likely to be recovered. (c) Cash Equivalents Cash equivalents usually consist of highly liquid investments which are readily convertible into cash with maturities of three months or less when purchased. As at October 31, 2001, there were $Nil (2000 - $Nil; 1999 - $30,130) in cash equivalents. (d) Inventories Inventories are recorded at the lower of cost and net realizable value. (e) Capital Assets Capital assets are recorded at historical cost. Amortization of capital assets is calculated using the straight-line method at the following annual rates: Computer equipment 33.33% Computer software 100% Development/test equipment 33.33% Furniture and fixtures 33.33% Office equipment 33.33% (f) Other Assets Patents and trademarks are recorded at cost and are being amortized on the straight-line basis over sixty (60) months. (g) Loss Per Share Loss per share is computed using the weighted average number of common shares outstanding during the period. Potential common shares which could dilute earnings in the future are disclosed in Note 11(d). Page 22 SENTRY TELECOM SYSTEMS INC. Notes to Financial Statements October 31, 2001, 2000 and 1999 (Expressed in Canadian Dollars) ================================================================================ 3. Significant Accounting Policies (continued) (h) Income Taxes The Company has adopted the provision of CICA Handbook Section 3465, Income Taxes. Under this standard, current income taxes are recognized for the estimated income taxes payable for the current period. Future taxes are recognized for the tax consequences of "temporary differences" by applying enacted or substantively enacted statutory tax rates applicable to future years to differences between the financial statement carrying amounts and the tax basis of existing assets and liabilities. The effect on deferred taxes for a change in tax rates is recognized in income in the period that includes the date of enactment or substantive enactment. In addition, Section 3465 requires the recognition of future tax benefits to the extent that realization of such benefits is more likely than not. (i) New Accounting Pronouncements In June 2001, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 141 (SFAS 141), Business Combinations. SFAS 141 applies to all business combinations initiated after June 30, 2001 accounted for using the purchase method. The adoption of SFAS 141 will not have an impact on the Company's financial statements. In June 2001, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 142 (SFAS 142), Goodwill and Other Intangible Assets. The provisions of SFAS 142 are required to be applied starting with fiscal years beginning after December 15, 2001 with earlier application permitted for entities with fiscal years beginning after March 15, 2001 provided that the first interim financial statements have not been previously issued. The Statement is required to be applied at the beginning of the entity's fiscal year and to be applied to all goodwill and other intangible assets recognized in its financial statements to that date. The adoption of SFAS 142 will not have an impact on the Company's financial statements. In August 2001, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 143 (SFAS 143), Asset Retirement Obligations. SFAS 143 establishes accounting standards for recognition and measurement of a liability for the costs of assets retirement obligations. Under SFAS 143, the costs of retiring an asset will be recorded as a liability when the retirement obligation arises and will be amortized to expense over the life of the asset. The adoption of SFAS 143 will not have an impact on the Company's financial statements. Page 23 SENTRY TELECOM SYSTEMS INC. Notes to Financial Statements October 31, 2001, 2000 and 1999 (Expressed in Canadian Dollars) ================================================================================ 3. Significant Accounting Policies (continued) (i) New Accounting Pronouncements (continued) In October, 2001, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 144 (SFAS 144), Accounting for the Impairment or Disposal of Long-lived Assets. SFAS 144 supersedes SFAS 121, Accounting for the Impairment of Long-lived Assets and Long-lived Assets to be Disposed Of, and APB Opinion 30, Reporting the Results of Operations - Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions, for segments of a business to be disposed of. SFAS 144 is effective for fiscal years beginning after December 15, 2001. The adoption of SFAS 144 will not have an impact on the Company's financial statements. (j) Stock-based Compensation No compensation expense is recognized when stock options are issued to employees, directors and consultants of the Company. Any consideration paid on the exercise of stock options or purchase of stock is credited to share capital. (k) Advertising The Company expenses advertising costs as incurred. 4. Inventories 2001 2000 1999 --------------------------------------------------------------------------- Raw materials $ 4,708 $ 19,377 $ 4,885 Finished goods 69,779 44,015 - --------------------------------------------------------------------------- $ 74,487 $ 63,392 $ 4,885 =========================================================================== 5. Taxes Recoverable The Company has reported taxes recoverable totalling $409,410 (2000 - $179,984; 1999 - $3,993) in respect of a government program involving the recovery of tax credits on scientific research and experimental development expenditures. These funds were received in the subsequent period. Page 24 SENTRY TELECOM SYSTEMS INC. Notes to Financial Statements October 31, 2001, 2000 and 1999 (Expressed in Canadian Dollars) ================================================================================ 6. Capital Assets --------------------------------------------------------------------------- 2001 Accumulated Net Book Cost Amortization Value --------------------------------------------------------------------------- Computer equipment $ 52,468 $ 36,860 $ 15,608 Computer software 38,172 38,172 - Development/test equipment 40,807 25,004 15,803 Furniture and fixtures 6,893 2,480 4,413 Office equipment 914 914 - --------------------------------------------------------------------------- $ 139,254 $ 103,430 $ 35,824 =========================================================================== --------------------------------------------------------------------------- 2000 Accumulated Net Book Cost Amortization Value --------------------------------------------------------------------------- Computer equipment $ 36,962 $ 28,287 $ 8,675 Computer software 38,172 36,844 1,328 Development/test equipment 33,343 15,254 18,089 Furniture and fixtures 2,570 1,681 889 Office equipment 914 914 - --------------------------------------------------------------------------- $ 111,961 $ 82,980 $ 28,981 =========================================================================== --------------------------------------------------------------------------- 1999 Accumulated Net Book Cost Amortization Value --------------------------------------------------------------------------- Computer equipment $ 27,033 $ 19,275 $ 7,758 Computer software 35,876 35,876 - Development/test equipment 15,668 8,502 7,166 Furniture and fixtures 1,570 1,570 - Office equipment 914 914 - --------------------------------------------------------------------------- $ 81,061 $ 66,137 $ 14,924 =========================================================================== Page 25 SENTRY TELECOM SYSTEMS INC. Notes to Financial Statements October 31, 2001, 2000 and 1999 (Expressed in Canadian Dollars) ================================================================================ 7. Intangible Assets --------------------------------------------------------------------------- 2001 Accumulated Net Book Cost Amortization Value --------------------------------------------------------------------------- Patents and trademarks $ 9,898 $ 8,325 $ 1,573 =========================================================================== --------------------------------------------------------------------------- 2001 Accumulated Net Book Cost Amortization Value --------------------------------------------------------------------------- Patents and trademarks $ 9,898 $ 6,348 $ 3,550 =========================================================================== --------------------------------------------------------------------------- 2001 Accumulated Net Book Cost Amortization Value --------------------------------------------------------------------------- Patents and trademarks $ 9,898 $ 4,370 $ 5,528 =========================================================================== 8. Due to Shareholder The amount due to shareholder is due on demand and bears interest at the rate of 6% per annum, compounded monthly. Interest expense for the current year totalled $8,610 (2000: $3,241). The indebtedness was non-interest bearing for the years ended 1999 and 1998. Page 26 SENTRY TELECOM SYSTEMS INC. Notes to Financial Statements October 31, 2001, 2000 and 1999 (Expressed in Canadian Dollars) ================================================================================ 9. Promissory Notes Payable --------------------------------------------------------------------------- 2001 2000 1999 --------------------------------------------------------------------------- Notes payable, due to a related party. The note is due on demand, and bears interest at the Bank of Montreal prime rate plus 5% per annum, compounded monthly. $ 4,029 $ - $ - Various parties, notes were due on March 27, 2001 holding as security all of the assets of the Company. The notes bear interest at the Bank of Montreal prime rate plus 5% per annum, compounded monthly. Note was repaid during the year. - 219,917 - CTI Diversified Holdings, Inc., notes are due on demand and bear interest at the Bank of Montreal prime rate plus 5% per annum, compounded monthly. $US 250,000 of the promissory notes are convertible into common shares plus a warrant at a price of $US 0.25 (Cdn equivalent: $0.40) (see note 16). 818,220 - - Notes payable are due on demand, holding as security all of the assets of the Company. The notes bear interest at the Bank of Montreal prime rate plus 5% per annum, compounded monthly. 468,560 - - --------------------------------------------------------------------------- $1,290,809 $ 219,917 $ - =========================================================================== The prime rate at the balance sheet date was 4.50%. Page 27 SENTRY TELECOM SYSTEMS INC. Notes to Financial Statements October 31, 2001, 2000 and 1999 (Expressed in Canadian Dollars) ================================================================================ 10. Long-term Debt (a) Long-term debt consists of the following: --------------------------------------------------------------------------- 2001 2000 1999 --------------------------------------------------------------------------- (i) Principal to be repaid in 84 equal monthly installments equal to the greater of: (i) $2,381; or (ii) an amount equal to 5% of the gross monthly revenues on all of the products incorporating the Technology developed. Payments commenced one month after the project completion date of September 30, 2000. The debt is non-interest bearing. Subsequent to year end, the debt was converted into shares of common stock of CTI Diversified Holdings, Inc. (see note 16 (c)). $ 270,000 $ 200,000 $ 50,000 (ii) Principal to be repaid in annual installments based on 4% of annual incremental export sales revenues, commencing October, 1999, ending November, 2003. The debt is non-interest bearing. 25,581 12,130 - (iii) Principal to be repaid in annual installments, based on 4% of sales revenue made in the market, commencing June, 1999, ending June, 2001. The debt is non-interest bearing. 7,500 7,500 7,500 (iv) Conditional sales contract, repayable in 48 monthly installments of $84, including interest at 19% per annum. 2,390 - - ---------------------------------------------------------------------------- 305,471 219,630 57,500 Less: Current portion (62,228) (30,953) (2,381) ---------------------------------------------------------------------------- $ 243,243 $ 188,677 $ 55,119 ============================================================================ (b) The minimum principal repayments on long-term debt during the next five years are as follows: ---------------------------------------------- 2002 $ 62,228 2003 29,267 2004 29,411 2005 28,852 2006 28,572 ---------------------------------------------- $ 178,330 ============================================== Page 28 SENTRY TELECOM SYSTEMS INC. Notes to Financial Statements October 31, 2001, 2000 and 1999 (Expressed in Canadian Dollars) ================================================================================ 11. Share Capital (a) Authorized: 50,000,000 common shares without par value (b) Issued: ----------------------------------------------------------------------- Number of Shares Amount ----------------------------------------------------------------------- Balance, October 31, 1998 and 1997 7,200,000 $ 252 Issued for cash 480,000 120,000 ----------------------------------------------------------------------- Balance, October 31, 1999 7,680,000 120,252 Issued for cash 200,000 50,000 Allotted for cash issued on November 20, 2000 119,200 59,600 ----------------------------------------------------------------------- Balance, October 31, 2000 7,999,200 $ 229,852 ======================================================================= Balance, October 31, 2001 7,999,200 $ 229,852 ======================================================================= (c) Share Subdivision On November 30, 2000, the Company subdivided all of its issued and outstanding shares on a one for two basis and, thereafter, reduced the authorized share capital to 50,000,000 common shares without par value. All share data has been retroactively restated to reflect the share subdivision. (d) Stock Options As at October 31, 2001, the Company has granted employee incentive stock options enabling the holders to acquire 990,000 common shares at an exercise price of $0.25 per share and 370,000 common shares at an exercise price of $0.40 per share. The options were terminated in November 2001. Page 29 SENTRY TELECOM SYSTEMS INC. Notes to Financial Statements October 31, 2001, 2000 and 1999 (Expressed in Canadian Dollars) ================================================================================ 12. Income Taxes The components of the future income tax assets are as follows: --------------------------------------------------------------------------- 2001 2000 1999 --------------------------------------------------------------------------- Future tax assets: Non-capital loss carry forwards $ 982,241 $ 402,724 $ 62,062 Undepreciated capital cost over (under) net book value of capital assets 2,085 (7,040) - Undepreciated capital cost over net book value of intangible assets 1,762 879 - --------------------------------------------------------------------------- 986,088 396,563 62,062 Less: valuation allowance (986,088) (396,563) (62,062) --------------------------------------------------------------------------- Total future income tax assets $ - $ - $ - =========================================================================== The valuation allowance reflects the Company's estimate that the tax assets, more likely than not, will not be realized. The Company has accumulated non-capital losses for income tax purposes of approximately $2,200,000. The losses expire in the following years: 2006 $ 136,000 2007 746,000 2008 1,318,000 ------------------------------------------------ $ 2,200,000 ================================================ 13. Financial Instruments The Company's financial instruments consist of cash and cash equivalents, accounts receivable, taxes recoverable, accounts payable and accrued liabilities, due to shareholder, promissory notes payable and long-term debt. The fair value of these financial instruments approximate their carrying values, unless otherwise noted. The Company is not exposed to significant interest, currency or credit risk arising from these financing instruments. Page 30 SENTRY TELECOM SYSTEMS INC. Notes to Financial Statements October 31, 2001, 2000 and 1999 (Expressed in Canadian Dollars) ================================================================================ 14. Commitments (a) The Company has an operating commitment under an offer to lease office space of $74,405 (2000 - $10,449). The offer to lease expires on July 31, 2002. (b) The Company has entered into operating leases for certain office equipment. Minimum rental payments under these leases are as follows: ------------------------------------------------ 2002 $ 6,164 2003 2,681 ------------------------------------------------ Total $ 8,845 ================================================ (c) Effective September 14, 2000, the Company has entered into a management services contract with a company controlled by the former President and CEO of the Company to receive business advisory and other support services at a cost of $12,000 per month. The agreement is in effect for a two-year period from the effective date. The contract was cancelled in March 2002. 15. Related Party Transactions (a) The aggregate amount of expenditures made to parties not at arm's length to the Company and charged to operations consist of the following: --------------------------------------------------------------------------- 2001 2000 1999 --------------------------------------------------------------------------- Consulting and accounting fees were paid or accrued to a company controlled by the CEO of the Company. $ 144,000 $ 165,155 $ 66,667 Consulting and accounting fees were paid or accrued to the president of the Company. - 2,928 - Interest paid and accrued to CTI Diversified Holdings, Inc., a shareholder of the Company. 18,094 - - Interest paid and accrued to a shareholder and director of the Company 8,610 - - --------------------------------------------------------------------------- Management is of the opinion that the terms and conditions of the above noted transactions are consistent with standard business practice. (b) Included in accounts payable and accrued liabilities is $268,800 due to a company controlled by the CEO of the Company. Interest of 1.5% per month is being charged on this amount. (c) Also included in accounts payable and accrued liabilities is $46,972 due to a shareholder of the Company. Page 31 SENTRY TELECOM SYSTEMS INC. Notes to Financial Statements October 31, 2001, 2000 and 1999 (Expressed in Canadian Dollars) ================================================================================ 16. Subsequent Events Change of Control (a) In November 2001, the Company agreed to convert $250,000US (Cdn equivalent: $396,675) of the promissory notes of CTI Diversified Holdings, Inc. into units of the Company. Each unit consisted of one common share of the Company, plus one share purchase warrant entitling the holder to acquire an additional common share of the Company at a price of $0.25US (Cdn equivalent: $0.40) per share on or before March 13, 2002 (note 9). (b) In January 2002, the founding shareholders of the Company entered into a purchase and sale agreement with CTI Diversified Holdings, Inc. to sell 7,160,000 common shares of the Company. The purchase and sale agreement closed on April 15, 2002. After the closing of the share purchase agreement and the conversion of the promissory note detailed in note 16(a), CTI Diversified Holdings, Inc., a Delaware public company, owned 90% of the issued and outstanding shares of the Company. (c) In April 2002, a debt-holder of the Company exercised the conversion right of debt in the amount of $270,000 for shares of CTI Diversified Holdings, Inc. on the basis of one CTI Diversified Holdings, Inc. share for each $0.2905US (Cdn equivalent: $0.46) of outstanding indebtedness for a total of 592,826 conversion shares. 17. Differences between Canadian and United States Generally Accepted Accounting Principles (Canadian GAAP and US GAAP) The financial statements and the selected financial data have been prepared under Canadian generally accepted accounting principles ("Canadian GAAP"). For each year of presentation, the modifications necessary in order for these financial statements to conform to U.S. GAAP have been suitably provided as follows: (a) Stock Options Unlike U.S. GAAP, Canadian GAAP does not require the recording and recognition of employee stock options and the related compensation expense and deferred compensation expense until the stock options are actually exercised by the employees. Reference is made to Note 11(d) of the financial statements. As the options were terminated subsequent to year end, no material adjustments are deemed necessary in order for these financial statements to reconcile to U.S. GAAP. Page 32 SENTRY TELECOM SYSTEMS INC. Notes to Financial Statements October 31, 2001, 2000 and 1999 (Expressed in Canadian Dollars) ================================================================================ 17. Differences between Canadian and United States Generally Accepted Accounting Principles (Canadian GAAP and US GAAP) (continued) (b) Income tax Under Canadian GAAP, the future tax benefit related to the non-capital loss carry forwards has not been recorded in the accounts. Under U.S. GAAP, companies must follow the requirements of Statement of Financial Accounting Standards No. 109 (SFAS 109) which requires the use of the asset/liability method of measurement of tax liabilities, wherein deferred tax assets are recognized as well as deferred tax liabilities. The Company has significant non-capital loss carry forwards and SFAS 109 would require the recognition of a long-term tax asset for the future benefit expected from the application of these carryforwards to future profitable years. If it is expected that the entire amount of non-capital loss carryforwards will not be utilized, then a valuation allowance is applied to the asset to reasonably state the asset at its expected value. As at October 31, 2001, the valuation allowance is equal to 100% of the deferred tax asset. Changes in the value of the deferred asset are recognized each year as income tax expense. (c) Supplemental Disclosure of Cash Flow Information Cash paid (received) during the year for: ---------------------------------------------------------------------- 2001 2000 1999 ---------------------------------------------------------------------- Interest $ 5,318 $ 560 $ 6,082 Income taxes $ (179,984) $ (3,993) $ - ---------------------------------------------------------------------- Page 33 SENTRY TELECOM SYSTEMS INC. Notes to Financial Statements October 31, 2001, 2000 and 1999 (Expressed in Canadian Dollars) ================================================================================ 17. Differences between Canadian and United States Generally Accepted Accounting Principles (Canadian GAAP and US GAAP) (continued) (d) Supplemental Financial Information (i) Reconciliation of Deficit under U.S. GAAP -------------------------------------------------------------- 2001 2000 1999 -------------------------------------------------------------- Loss for the year - Canadian GAAP $(1,126,314) $ (756,928) $ (206,139) Adjustments - U.S. GAAP - (10,800) (7,276) -------------------------------------------------------------- Loss for the year - US GAAP $(1,126,314) $ (767,728) $ (213,415) ============================================================== Surplus (deficit) for the year - Canadian GAAP $(2,019,577) $ (893,263) $ (136,335) Adjustments - U.S. GAAP (18,668) (18,668) (7,868) -------------------------------------------------------------- Surplus (deficit) end of year - U.S. GAAP $(2,038,245) $ (911,931) $ (144,203) ============================================================== The adjustments relate to interest on shareholders loans and long-term debt not previously charged to the operating statement. (ii) Reconciliation of Cash Flows under U.S. GAAP -------------------------------------------------------------- 2001 2000 1999 -------------------------------------------------------------- Cash provided by (used for) operating activities - Canadian GAAP $(1,166,405) $ (586,135) $ (70,964) Adjustments - U.S. GAAP - - - -------------------------------------------------------------- Cash provided by (used for) operating activities - U.S. GAAP $(1,166,405) $ (586,135) $ (70,964) ============================================================== Page 34 SENTRY TELECOM SYSTEMS INC. Notes to Financial Statements October 31, 2001, 2000 and 1999 (Expressed in Canadian Dollars) ================================================================================ 17. Differences between Canadian and United States Generally Accepted Accounting Principles (Canadian GAAP and US GAAP) (continued) (iii) Reconciliation of Total Assets, Liabilities and Shareholders' Equity -------------------------------------------------------------- 2001 2000 1999 -------------------------------------------------------------- Total assets - Canadian GAAP $ 537,454 $ 343,275 $ 161,108 Adjustments - U.S. GAAP - - - -------------------------------------------------------------- Total assets - U.S. GAAP $ 537,454 $ 343,275 $ 161,108 ============================================================== Total liabilities and shareholders' equity - Canadian GAAP $ 537,454 $ 343,275 $ 161,108 Adjustments - U.S. GAAP - - - -------------------------------------------------------------- Total liabilities and shareholders' equity - U.S. GAAP $ 537,454 $ 343,275 $ 161,108 ============================================================== (iv) Loss per Share - U.S. GAAP -------------------------------------------------------------- Year Ended Year Ended Year Ended October 31, October 31, October 31, 2001 2000 1999 -------------------------------------------------------------- Loss per share $ (0.14) $ (0.10) $ (0.03) ============================================================== Page 35 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATIONS The following discussion of the financial condition, results of operations, cash flows and changes in financial position of CTI Diversified Holdings, Inc. (the "Company") should be read in conjunction with the Company's most recent financial statements and notes appearing elsewhere in this Form 10-QSB; and in the Company's 10-KSB filed on April 15, 2002. Overview We, CTI Diversified Holdings, Inc., intend to design, develop and manufacture telecommunication security products for a broad range of corporate, government, military and institutional (collectively referred to as "enterprise") applications. We are in the start-up phase of our operations, having not yet completed development of our initial product and having not yet booked any sales of our initial product. Upon the completion of a purchase and sale agreement in April 2002 to acquire 90% of the outstanding shares of Sentry Telecom Systems Inc. ("Sentry") from the founding shareholders of Sentry, the Company adopted the Business plan of Sentry. Sentry is a private company incorporated in British Columbia, Canada. Sentry has a limited history of operations, and has not been profitable to date. Sentry has focused its efforts on developing security and detection products for corporate and public telecommunications systems since 1998. Telecommunications security and detection products encompass the hardware and software tools, policies and procedures needed to ensure that only authorized persons may access telecommunications resources. Our goal is to become a significant supplier of security products to corporate customers and communications service providers through the continuing development and introduction of security and telecommunications network products that are compatible with other manufacturers product offerings used in telecommunications. Our initial and primary product at present, the "Phonewall", is a telecommunications security product, or a product that restricts or blocks access to all or part of a telecommunications network. It has been designed to protect communications or telephone networks that carry information or data stored in an electronic form from the threat of unauthorized modem access and to protect communications or telephone networks that carry primarily voice traffic from the theft of unauthorized services. The Phonewall is a combination of hardware and software that is installed on telephone lines between the user of the product and a telephone service provider and that blocks access to computer networks from intruders and/or unauthorized persons attempting to enter through telephone lines and telephone networks. It monitors calls on the telephone lines and classifies their content as voice, fax or data using our own proprietary signal processing capabilities. The Phonewall can be configured to allow or disallow particular types of traffic, such as data calls via modems, over an entire organization, or configured to define limits for access to designated telephone numbers within an organization. The Phonewall has the capability to distinguish phone calls carrying modem signals from other types of phone calls, including voice, and the ability to terminate the call if it violates security policy. Extensive reporting capabilities, including reporting on the duration of calls, the type of traffic including data, fax and voice calls, the number dialed, and the originating number are included with the product. In the future, we intend to research, develop, and market a family of network security monitoring and warning systems and associated peripheral control devices for both domestic and international markets. The encompassing design is planned to be capable of integration with converging broadband wireless and wireline infrastructures, wireless computing, domestic electronic equipment, and the Internet. We intend to focus on advancing our patented technologies with an emphasis on addressing open global wireline/wireless standards that enable electronic devices within personal and business networks to securely "talk" with one another. We intend to strive to develop the next generation of security gatekeepers, which will use our proprietary application algorithms and protocols to facilitate and enable diverse communication devices to access and transfer data without sacrificing security in the process. Sentry's plan over the next twelve months is to have the Phonewall commercially available for sale. Achievement of this goal is dependent on the Company accessing adequate financing, successfully completing its planned personnel hires, developing and executing a solid marketing plan, successfully establishing strategic alliances and effective distribution channels, successfully designing, developing and commercializing its products, Page 36 successfully creating and protecting its intellectual property, and its ability to sustain volatility in markets, systems failures, technological changes, and government regulations. Our negotiations to acquire Sentry commenced in February 2001, when we entered into a Letter of Intent with Sentry. Sentry agreed to deal exclusively with us for potential acquisition and we agreed to commence funding their operational requirements on a monthly basis by way of unsecured loans. In May 2001 we entered into a Purchase and Sale Agreement (the "Sentry Purchase") with Sentry to purchase a 34% equity interest, or 4,400,000 units, each unit comprised of one common share plus one purchase warrant, for $1,100,000. The Agreement was to close by August 15, 2001. We paid $250,000 as a non-refundable, convertible deposit to Sentry and, between May 15 and August 15, advanced by way of promissory notes approximately $224,000 to Sentry. The non-refundable deposit was converted into units of Sentry at $0.25 per unit, each unit comprising one common share and one warrant to purchase an additional common share. On August 15, 2001, the Sentry Purchase agreement between Sentry and CTI expired. Due to our inability to generate revenues as planned in our Asian operations, the need to fund those offices longer than planned and eventually the need to expend additional money to wind down these operations, we had experienced difficulties in advancing sufficient monies to Sentry for them to meet their own business plan objectives. We commenced negotiating an extension to the Sentry closing to December 31, but the extension negotiations were never completed. In September, the capital markets were rocked by the events of 9/11 and it became even more difficult for us to continue to raise funds. Accordingly, we reduced significantly the amount of funding being provided to Sentry, and commenced negotiating a new agreement with the founding shareholders of Sentry whereby we would acquire only their shares. As a result of the cessation of funding from us, Sentry ceased its operations in late September and dismissed all of its employees. During the period October 2001 through March 2002, we advanced approximately $43,000 to Sentry, to cover only absolutely essential expenditures, in order to keep Sentry alive during this period. In January 2002, we entered into an agreement to acquire an additional 7,160,000 common shares (80%) of Sentry, directly from the founding shareholders of Sentry, in exchange for 500,000 shares of common stock of CTI. This agreement closed on April 15, 2002 with the release of 150,000 shares. The remaining 350,000 shares are held in trust by the Company's solicitors and will only be released as certain performance milestones are achieved. To the extent that these performance milestones are not met, some or all of these unreleased shares will be surrendered and returned to the Company for cancellation. Including the 1,000,000 shares of Sentry that were received pursuant to the non-refundable, but convertible deposit on the May 2001 Sentry Purchase Agreement, CTI now owns 90.7% of the outstanding common stock of Sentry. It is our intent that Sentry's minority stockholders, currently holding the balance of 839,200 shares of Sentry, will receive an offer to exchange their Sentry shares for shares in our company on a basis yet to be determined. We received $277,654 in the first four months of 2002 in financing from an outside party, which allowed us to commence re-starting Sentry's operations in late March. We advanced $24,800 to Sentry during the period January 1, 2002 to March 31, 2002, and advanced a further $110,000 in April 2002. These funds were augmented by approximately $275,000 that Sentry received from Canadian income tax authorities as a refund of the previous year's scientific research and development expenditures. The aggregate of these funds allowed us to re-commence Sentry's operations in April, 2002. In late March 2002, after completion of the new Sentry agreement, Donald Farnell, resigned his positions at Sentry and was re-appointed a director, President & CEO of our company and Marlene Gaudry was re-appointed our Chief Financial Officer. Concurrently, Mark Godsy, who had become a significant shareholder of our company, was appointed a director and agreed to serve as Chairman of the Board. These management changes were augmented in early April by the nomination of Douglas A. Mazur as a director and President and CEO of Sentry and appointment of Mark Godsy as a director and Chairman of Sentry. By June, 2002, it was becoming obvious that CTI was not succeeding in its attempts to raise additional funding through private placements in spite of the assistance of Mr. Godsy in this initiative. Accordingly, CTI was unable to advance promised additional funding to Sentry that would allow Sentry to hire additional development and marketing personnel. As a direct consequence of this funding shortfall, in June 2002, Mr. Mazur resigned as a director and President & CEO of Sentry, Ms. Gaudry resigned as Chief Financial Officer of CTI and Mr. Godsy resigned as a director and Chairman of both CTI and Sentry. Mr. Farnell re-assumed the positions of President & CEO of Sentry and Chairman of CTI on an interim basis. Page 37 CTI continues to seek funding sources for its Sentry operations but will be unable to continue Sentry's operations beyond August of 2002 unless it succeeds in this initiative. Results of Operations (All amounts are in US dollars unless otherwise stated) The results for the period ended June 30, 2002 reflect the operating results of CTI, Cobratech Industries Inc., for the period January 1 to June 30, 2002 and Sentry for the period from the date of acquisition (April 15, 2002) until June 30, 2002. The results for the period ended June 30, 2001 reflect the operating results of CTI and Cobratech Industries Inc. on a consolidated basis, and the Asian subsidiaries; Cobratech Industries Limited, Cobratech Industries Japan Limited, and IT Transit Limited (collectively "Asian Operations"), on an equity basis. For the 3 months ended June 30, 2002 ------------------------------------ The total expenses for the 3 months ended June 30, 2002 was $329,338 compared to $301,860 for the three months ended June 30, 2001. The total operating expenses for Sentry for the period April 15 to June 30, 2002 of $135,367are included in the results of operation for the second quarter of 2002. Sentry's operating results for the periods prior to April 15, 2002 are not included in the consolidated operating results of CTI. Sentry's operating costs for the second quarter of 2002 consisted of wages and benefits of approximately $101,500, premises costs of $10,225 and miscellaneous office and professional consulting costs of $23,642. The total expenses for the 3 months ended June 30, 2002 relating to CTI and Cobratech amounted to $193,971, compared to $301,860 in the same three month period ended June 30, 2001. The majority of expenses related to legal, and accounting costs, investor relations and regulatory costs, consulting fees, office and general administrative expenses, and interest charges on promissory notes and advances from shareholders. The total interest paid or accrued to shareholders during the three months ended June 30, 2002 was $15,271 compared to $72,373 for the comparable period in 2001. The decrease in interest paid to shareholders is a result of the conversion of amounts owed to shareholders into common stock in June 2001 and a decrease in bank prime rates. The overall decrease in expenses for CTI and Cobratech for the 3 months ended June 30, 2002 compared to the 3 months ended June 30, 2001 is the result of a decrease in activity in the company in 2002 compared to 2001. The company had a loss from operations of $1,242,555 for the three months ended June 30, 2002, compared to $877,193 for the 3 months ended June 30, 2001 and a loss per share of $0.07 for the three months ended June 30, 2002 and $0.04 for the three month period ended June 30, 2001. The Company incurred a loss on its investments in its foreign subsidiaries of $582,441 for the period ended June 30, 2001. The Company wrote down its goodwill resulting from the acquisition of Sentry to nil at June 30, 2002, representing the estimated net realizable of the goodwill at June 30, 2002. The Company anticipates that Sentry will not be able to operate as a going concern past August 31, 2002 unless financing is secured. For the 6 months ended June 30, 2002 ------------------------------------ For the first six months of 2002, the Company had limited operations and did not generate any revenue from operations. Total expenses for the 6 months of 2002 were $466,871 compared to $487,198 for the six months ended June 30, 2001. Included in the total expenses for the six months ended June 30, 2002 are Sentry operating costs from April 15, 2002 until June 30, 2002 of $135,367, compared to nil in the comparable six month period. The total expenses for the 6 months of 2002 relating to CTI amounted to $331,504 compared to $487,198 in the same period of 2001. The majority of expenses incurred in the first half of 2002 consisted of legal, and accounting costs, investor relations and regulatory costs, consulting fees and travel expenses. Travel costs, which amounted to $48,141, were largely attributable to fund raising activities undertaken in the first and second quarter. Legal and accounting costs and consulting fees are primarily costs associated with the preparation of our 10-KSB and general financial consulting services incurred in the first two quarters of 2002. Overall general and administrative costs are Page 38 down over the same period for 2001 due to the limited activity of the company during this period and cost cutting measures undertaken by the company in 2002 until adequate financing could be put in place. For the six months of 2001, we recorded a loss on our investments of $3,725,520, which includes a write down of goodwill recorded on the acquisition of Cobratech, a writedown of our equity investment in our Asian operations and a provision for impairment in value of our investment in Sentry. As a result of the above transactions noted above, we incurred a loss of $1,400,812 or $0.34 per share for the first half of 2002 compared to a loss of $4,204,793 or $0.21 per share for the first half of 2001. Liquidity and Capital Resources At June 30, 2002, our current assets totaled $128,409 compared to $1,288 at December 31, 2001. Our current assets at June 30, 2002 consisted of $117,170 in cash, and $5,397 in prepaid expenses, and $5,482 in miscellaneous amounts receivable. During the first 6 months of 2002, we used $225,455 of cash in operating activities, generated $379,375 in cash from financing activities, and used $37,699 of cash in investing activities. Our cash generated from financing activities relating to promissory notes issued during the period which bear interest at 9% per annum, are unsecured, and have no set terms of repayment, amounted to $323,511. At June 30, 2002, we had total liabilities of $2,397,790 compared to $1,158,186 at December 31, 2001. The increase in liabilities reflects the shareholder advances and promissory notes issued during the quarter as well as an increase in accounts payable and accrued liabilities of $415,317 during the quarter. We believe our existing cash balances are sufficient to carry our normal operations for the next one month. In order to continue to fund the research and development expenditures of Sentry at present staffing levels, we will need to raise approximately $1 million during the next 12 months. To the extent that we require additional funds to support our operations or the expansion of our business, we may sell additional equity or issue debt. Any sale of additional equity securities will result in dilution of our stockholders. There can be no assurance that additional financing, will be available to our company or on acceptable terms. We also intend to ask creditors and shareholders to convert amounts owing to them (see notes 5 and 6 to the financial statements) into equity in order to eliminate the need to raise additional funding to retire these liabilities. To the extent that we are successful in converting these liabilities into equity, we will issue additional shares, which will result in dilution to our existing stockholders. There can be no assurance that we will be successful in converting these liabilities to equity. PART II - OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS CTI, along with Cobratech, has been sued in the Supreme Court of British Columbia, Canada by Rajesh Taneja, an ex-contractor of Cobratech. The action is dated December 20, 2001. Mr. Taneja is suing the Company for unspecified damages for wrongful dismissal. The Company disputes the Claim and has filed a Statement of Defence denying the allegations of wrongful dismissal. The company is vigorously defending the claim. No trial date has been set, and no Examinations for Discovery have been conducted. Cobratech, along with various alleged guarantors, has been sued in the Supreme Court of British Columbia, by Unity Wireless Corp. for repayment of certain funds advanced to Cobratech. In November 2000, Unity advanced $200,000 to Cobratech, evidenced by a promissory note and secured by a general security agreement covering the assets of Cobratech. The loan bears interest at 1% per month. The action is dated October 24, 2001. The principal balance owing at December 31, 2001 under the loan agreement was approximately $78,000. The action has been stayed until May 2002 on the condition that Cobratech pays 10 percent of all funds received from financing in excess of $100,000 until May 2002, until the outstanding amount has been paid. Two of our directors were also directors of Unity. The company is currently in default of this agreement. In August, 2002, CTI reached a verbal agreement with Unity Wireless Corp. wherein Unity agreed to convert its outstanding indebtedness into common sharers of CTI at current market rates. A written agreement to formalize this conversion is currently being prepared. To the extent that we are successful in converting this indebtedness into equity, we will issue additional shares, which will result in dilution to our existing stockholders. There can be no assurance that we will be successful in converting this indebtedness into equity. Page 39 ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS We issued the following securities during the period, January 1, 2002 to June 30, 2002: April 2002 - 100,000 shares of common stock issued to two shareholders in exchange for financial consulting and corporate public relations services, under Regulation S. April 2002 - 181,397 shares of common stock issued to approximately 35 seed capital investors of Cobratech as a bonus for non-filing of a registration statement, under Regulation S April 2002 - 500,000 shares of common stock issued to two persons in exchange for shares of Sentry, under Regulation S. May 2002 - 592,826 shares of common stock to a Canadian company issued on conversion of debts of Sentry, under Regulation S ITEM 3. DEFAULTS UPON SENIOR SECURITIES See Item 1 above. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS We submitted no matters to a vote of security holders during the quarter ended June 30, 2002. ITEM 5. OTHER INFORMATION In March 2002, after completion of the new Sentry agreement, Donald Farnell, resigned his positions at Sentry and was re-appointed a director, President & CEO of our company and Marlene Gaudry was re-appointed our Chief Financial Officer. Ms. Gaudry resigned her position as CFO of CTI effective June 28, 2002. Mr. Mark Godsy, who became a significant shareholder of our company in the first quarter of 2002, was appointed a director and agreed to serve as Chairman of the Board in March 2002. In April 2002, Mr. Douglas A. Mazur was appointed a Director, President and CEO of Sentry. Mr. Douglas A. Mazur resigned from his position as Director, President and CEO of Sentry effective June 28, 2002. In April 2002, Mr. Mark Godsy was appointed a Director and Chairman of Sentry. Mr. Godsy resigned from his position as Director and Chairman of Sentry and CTI effective June 26, 2002. Mr. Godsy will be returning the shares he acquired from other shareholders to those other shareholders and, on completion, will cease being a significant shareholder of our company. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K. (a) The following exhibits are filed as part of this Quarterly Report on Form 10-Q. 3.1.1 Articles of Incorporation of Unique Bagel Co., Inc. a Delaware corporation (now CTI Diversified Holdings, Inc.) dated August 11, 1998. Incorporated by reference to Exhibit 2.2 of the Company's Form 10SB12G, filed with the SEC on March 24, 2000 3.1.2 Certificate of Amendment of the Certificate of Incorporation of Unique Bagel Co., Inc., a Delaware corporation dated January 10, 2001, changing the name Unique Bagel to CTI Diversified Holdings, Inc. (incorporated by reference to Exhibit 3.1.2 to the Company's form 10-KSB filed on April 17, 2001 3.1.3 Bylaws of Unique Bagel Co., Inc. (now CTI Diversified Holdings, Inc., a Delaware corporation), dated August 11, 1998. Incorporated by reference to Exhibit 3.1 of the company's Form 10SB12G, filed with the SEC on March 24, 2000) Page 40 10.1 Warrant to Purchase Common Stock of CTI Diversified Holdings, Inc. (incorporated by reference to Exhibit 10.1 of the Company's 10QSB, filed with the Sec on May 15, 2002). 21.1 Schedule of Subsidiaries of CTI Diversified Holdings, Inc. (incorporated by reference to Exhibit 21.1 to the Company's Form 10-KSB filed with the SEC on April 17, 2001) (b) The following Current Reports on Form 8-K were filed by the Company during the last quarter of the period covered by this report: June 28, 2002 Notice of resignation of Mr. Mark Godsy as Director and Chairman of the Board of Sentry and CTI. SIGNATURES Pursuant to the requirements of Section 13 or 15(d) 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, on the 22nd day of August 2002. CTI DIVERSIFIED HOLDINGS INC. Date: August 22, 2002 By: /s/ Donald Farnell --------------------------------- Director, Chief Executive Officer Exhibit 99.1 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Quarterly Report of CTI Diversified Holdings, Inc., (the "Company") on Form 10-QSB for the period ended June 30, 2002 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Donald Farnell, Chief Executive Officer and Acting Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: (1) The Report complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) The financial information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. /s/ Donald Farnell ----------------------------------- Donald Farnell Chief Executive Officer and Acting Chief Financial Officer August 22, 2002