U.S. SECURITIES AND EXCHANGE COMMISSION
Washington D.C. 20549
FORM 10-KSB
[X] ANNUAL REPORT UNDER TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934.
For the fiscal year ended November 30, 2002
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934.
For the transition period from ________ to _________
Commission file number: 0-14188
SURGE COMPONENTS, INC.
(Name of small business issuer in its charter)
New York 11-2602030
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
95 East Jefryn Boulevard, Deer Park, New York 11729
(Address of principal executive offices) (Zip Code)
Issuer's telephone number: (631) 595-1818
Securities registered under Section 12(b) of the Exchange Act:
None
Securities registered under Section 12(g) of the Exchange Act:
Common Stock, par value $.001 per share; Redeemable Class A
Common Stock Purchase Warrants
Check whether the issuer (1) filed all reports required to be
filed by Section 13 or 15(d) of the Exchange Act during the past
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 [ ]
Check if there is no disclosure of delinquent filers in response
to Item 405 of Regulation S-B contained in this form, and no
disclosure will be contained, to the best of registrant's
knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-KSB or any
amendment to this Form 10-KSB. [X]
State issuer's net revenues for its most recent fiscal year:
$10,917,439.
The aggregate market value of the 7,404,025 shares of common
stock held by non-affiliates (all shareholders other than
officers, directors and 5% or greater shareholders) of the
registrant was $518,282, as of March 11, 2003, based on the last
sale price of the registrant's common stock on such date of $.07
per share, quoted on the over-the-counter "pink sheets"
maintained by Pink Sheets LLC.
There were a total of 8,743,326 shares of the registrant's
common stock outstanding as of March 11, 2003.
The Proxy Statement of the registrant to be filed on or before
March 30, 2003 is incorporated herein by reference.
Transitional Small Business Disclosure Format: Yes [ ] No [X]
PART I
Throughout this Annual Report on Form 10-KSB, the terms
"we," "us," "our" and "our company" refer to Surge Components,
Inc. ("Surge") and, unless the context indicates otherwise,
includes Surge's wholly-owned subsidiaries, Challenge/Surge, Inc.
("Challenge"), Superus Holdings, Inc. ("Superus") Surge
Components, Limited ("Surge Limited") and Surge Acquisition
Corporation, as well as the majority owned joint venture
Surge/Lelon LLC.
Introductory Comment - Forward-Looking Statements.
Statements contained in this report include "forward-looking
statements" within the meaning of such term in Section 27A of the
Securities Act of 1933 and Section 21E of the Securities Exchange
Act of 1934. Forward-looking statements involve known and unknown
risks, uncertainties and other factors which could cause actual
financial or operating results, performances or achievements
expressed or implied by such forward-looking statements not to
occur or be realized. Such forward-looking statements generally
are based on our best estimates of future results, performances
or achievements, based upon current conditions and the most
recent results of the companies involved and their respective
industries. Forward-looking statements may be identified by the
use of forward-looking terminology such as "may," "will,"
"project," "expect," "believe," "estimate," "anticipate,"
"intends," "continue," "potential," "opportunity" or similar
terms, variations of those terms or the negative of those terms
or other variations of those terms or comparable words or
expressions. Potential risks and uncertainties include, among
other things, such factors as:
o our business strategies and future plans of operations,
o general economic conditions in the United States and
elsewhere, as well as the economic conditions affecting the
industries in which we operate,
o political and regulatory matters affecting the foreign
countries in which we operate or purchase goods and materials
including the current threat of war with Iraq,
o the market acceptance and amount of sales of our products
and services,
o the extent that our distribution network and marketing
programs achieve satisfactory response rates,
o the effect of the current surplus of electronic component
parts in the broker distributor market on sales by our
Challenge subsidiary,
o our historical losses,
o the competitive environment within the electronic
components industry,
o our ability to raise additional capital, if and as
needed,
o the cost-effectiveness of our product development
activities,
o the effect of our non compliance with the tangible net
worth covenant of our loan agreement with out principal lender,
o the effect of the delisting of our common stock, par
value $.001 per share (the "Common Shares") from The NASDAQ Stock
Market and the proposed delisting of our Common Shares from The
Boston Stock Exchange,
o the extent of any further investigations or proceedings
with respect to certain potentially questionable payments made by
Surge during its fiscal year ended November 30, 2000 ("Fiscal
2000") and its quarter ended February 28, 2001, and
o the other factors and information discussed in other
sections of this report.
Shareholders and others reading this report should carefully
consider such risks, uncertainties and other information,
disclosures and discussions which contain cautionary statements
identifying important factors that could cause actual results to
differ materially from those provided in the forward-looking
statements. We undertake no obligation to publicly update or
revise any forward-looking statements, whether as a result of new
information, future events or otherwise.
Item 1. Description of Business.
Business Development
Surge was incorporated under the laws of the State of New
York on November 24, 1981. Surge, a supplier of electronic
products and components, completed an initial public offering of
its securities in 1984 and a second offering of its securities in
August 1996. Challenge, a wholly owned subsidiary of Surge, a
broker and distributor of electronic components, is a New York
corporation formed in 1988. Superus, a Delaware corporation, was
formed in March 2000 to ultimately become our Delaware parent
holding company through the proposed merger of Surge with and
into Superus, which we determined not to proceed with. Superus is
currently inactive and has filed for bankruptcy under Chapter 7
of the U.S. Bankruptcy Code. The Company is currently waiting for
the Bankruptcy Court to discharge the case.
In May 2002, Surge and an officer of Surge became sole
owners of Surge Components, Limited ("Surge Limited"), a Hong
Kong corporation. Under current Hong Kong law, Surge Limited is
required to have at least two shareholders. Surge owns 999 shares
of the outstanding common stock and an officer of Surge owns one
share of the outstanding common stock. The officer of Surge has
assigned his rights regarding his one share to Surge. Surge
Limited started doing business in July 2002. The Company has
opened this office and hired direct sales people in order to
effectively handle the transfer business from United States
customers purchasing and manufacturing in Asia after they do the
design in America. The Company expects that this office will
strengthen its global capabilities and service to its customer
base.
Surge's and Challenge's principal executive offices are
located at 95 East Jefryn Boulevard, Deer Park, New York 11729;
and the telephone number is (631) 595-1818.
Business of Our Company
Surge is a supplier of electronic products and components.
These products include capacitors, which are electrical energy
storage devices, and discrete components, such as semiconductor
rectifiers, transistors and diodes, which are single function low
power semiconductor products that are packaged alone as compared
to integrated circuits such as microprocessors. Surge's products
are typically utilized in the electronic circuitry of diverse
products, including, but not limited to, automobiles, cellular
telephones, computers, consumer electronics, garage door openers,
household appliances, power supplies and security equipment.
Surge's products are sold to both original equipment
manufacturers, commonly referred to as OEMs, who incorporate them
into their products, and to distributors of Surge's product
lines, who resell these products within their customer base.
Surge's products are manufactured predominantly in Asia by
approximately sixteen independent manufacturers. Surge does not
have any binding long-term supply, distribution or franchise
agreements with its manufacturers. Surge acts as the exclusive
sales agent utilizing independent sales representative
organizations in North America to sell and market the products
for many of its manufacturers pursuant to oral agreements. In
addition, in December 2000, Surge launched a joint-venture
limited liability company with Lelon Electronics Corporation
("Lelon"), a Taiwan corporation, whereby the joint venture will
act as sales and marketing agent in North America for all Lelon
products utilizing Surge's existing organization and resources.
The joint venture commenced operations in August 2002. The
Company established this joint venture to become the direct sales
and marketing office for Lelon, as opposed to previous operations
as a master distributor for Lelon products. The Company expects
that this change will give greater comfort to the customers that
they are now dealing with the manufacturer and not the middle
man. Therefore, because of the additional customer confidence
and closer cooperation and support from Lelon, the Company
expects that this will result in additional business for the
Company.
Challenge engages in the electronic components and products
broker distribution business. Challenge purchases name brand
electronic components and products, typically from domestic
manufacturers and authorized distributors, to fill specific
customer orders. Challenge purchases these components and
products in the open market on the best available terms and
generally keeps inventories of these products. Challenge's
revenues are principally derived from the mark-up on the sale of
these products. During the latter part of 1999, Challenge began
selling new product lines which required maintaining higher
inventory levels for these speaker, fan and buzzer products.
Challenge expects increased sales of these new product lines in
the current year. Challenge has added sales representative
organizations throughout the United States, as well as some
distributors, to help develop the market for this line of
products. Challenge has its own sales and marketing channels, but
generally shares management and facilities with Surge.
We have achieved consolidated net sales during the last
three years of approximately $10,917,000 in our fiscal year ended
November 30, 2002 ("Fiscal 2002"), $15,723,000 in our fiscal year
ended November 30, 2001 ("Fiscal 2001") and $36,555,000 in Fiscal
2000. The net sales for Challenge decreased to $3,722,200 in
Fiscal 2002 from $7,239,000 in Fiscal 2001. This decrease was
primarily attributable to the continued economic effect of the
slowdown of sales of certain electronic components during Fiscal
2002 in the market in which Challenge primarily operates.
Challenge expects to continue to see depressed sales for at least
the first half of Fiscal 2003, which ends on November 30, 2003
("Fiscal 2003"), due to the continued slowdown in manufacturing
among certain of Challenge's customers. This is expected to
continue to adversely affect sales and profits until demand for
these particular products exceeds supply, which may or may not
occur in Fiscal 2003 or thereafter.
The electronic components industry has been characterized by
intense price cutting which could materially adversely affect our
future operating results. Due to our limited financial resources,
anticipated expenses and the highly competitive environment in
which we operate, there can be no assurance that we will obtain
revenue growth or sustain our current levels of revenue in the
future or that our future operations will become profitable. We
expect to continue to incur operating losses at least for the
first half of Fiscal 2003.
In the past few years, we expanded our operations through
the opening of additional sales/stocking offices, the expansion
of our headquarters office and warehouse facility and the
increase of our inventories. In April 2001, we relocated Surge's
and Challenge's office and warehouse facilities to a new location
in the same local area as our facility and increased the total
square footage for their facility from approximately 7,500 square
feet to approximately 23,000 square feet. In order for us to
grow, we will depend on, among other things, the restored growth
of the electronics and semiconductor industries, our ability to
withstand intense price competition, our ability to obtain new
clients, our ability to retain sales and other personnel in order
to expand our marketing capabilities, our ability to secure
adequate sources of products which are in demand on commercially
reasonable terms, our success in managing growth, including
monitoring an expanded level of operations and controlling costs,
and the availability of adequate financing.
Industry Background
The United States electronics distribution industry is
composed of manufacturers, national and international
distributors, as well as regional and local distributors.
Electronics distributors market numerous products, including
active components (such as transistors, microprocessors,
integrated circuits and semiconductors), passive components (such
as capacitors and resistors), and electro mechanical,
interconnect (such as connectors and wire) and computer products.
Surge focuses its efforts on the distribution of capacitors and
discrete components, a small subset of the electronic components
market.
The electronics industry has been characterized by intense
price cutting and rapid technological changes and development
which could materially adversely affect our future operating
results. In addition, the industry has been affected historically
by general economic downturns, which have had an adverse economic
effect upon manufacturers and end-users of our products, as well
as distributors. Furthermore, the life-cycle of existing
electronic products and the timing of new product development and
introduction can affect the demand for electronic components
including our products. Accordingly, any downturn in the
electronics industry in general, could adversely affect our
business and results of operations.
There are forces of change affecting the wholesale
distribution industry, including the electronics industry. Those
forces of change, as described in the 1998 Arthur Andersen report
entitled "Facing the Forces of Change" (published by Distribution
Research and Education Foundation, Washington, D.C.), include
electronic commerce, supply chain integration, strategic
alliances and globalization. We are addressing these dynamics as
part of our strategy for the next several years.
The industry is also experiencing a strong move by U.S.
manufacturers to design products in the United States, but then
shift manufacturing and purchasing to Asia to benefit from this
low cost labor region using their own factory or a subcontractor.
Surge responded to this trend by setting up a Hong Kong
corporation, Surge Components, Limited. and hiring sales staff to
better position the Company in the Asian markets.
Products
Surge supplies a wide variety of electronic components (some
of which bear our private "Surge" label) which can be broadly
divided into two categories--capacitors and discrete components.
For Fiscal 2002 and Fiscal 2001, capacitors accounted for
approximately 93% and 90% of Surge's sales, respectively.
Discrete components accounted for Surge's remaining sales in
Fiscal 2002 and Fiscal 2001. Capacitors and discrete components
can be categorized based on various factors, including function,
construction, fabrication and capacity. The principal products
sold by Surge under the Surge name or by Challenge are set forth
below.
Capacitors
A capacitor is an electrical energy storage device used in
the electronics industry for varied applications, principally as
elements of resonant circuits, in coupling and bypass
applications, blockage of DC current, as frequency determining
and timing elements, as filters and delay-line components, and in
voltage transient suppression (circuit protection devices). All
products are available in traditional leaded as well as surface
mount (chip) packages.
Our product line of capacitors includes:
o Aluminum Electrolytic Capacitors. These capacitors,
which are Surge's principal product, are storage devices used in
power applications to store and release energy as the electronic
circuitry demands. They are commonly used in power supplies
and can be found in a wide range of consumer electronics
products. Our supplier has one of the largest facilities for
these products in Taiwan. This facility is fully certified for
the International Quality Standard ISO 9001 and 9000, which
means that it meets the strictest requirements established by
the automotive industry and adopted throughout the world to
ensure that the facility's manufacturing processes, equipment
and associated quality control systems will satisfy specific
customer requirements. This system is also intended and
designed to facilitate clear and thorough record keeping of
all quality control and testing information and to ensure
clear communication from one department to another about the
information (i.e., quality control, production or
engineering). This certification permits us to monitor quality
control/manufacturing process information and to respond to
any customer questions.
o Ceramic Capacitors. These capacitors are the least
expensive, and are widely used in the electronics industry. They
are commonly used to bypass or filter semiconductors in resonant
circuits and are found predominantly in a wide range of low
cost products including computer, telecom, appliances, games
and toys.
o Mylar Film Capacitors. These capacitors are frequently
used for noise suppression and filtering. They are commonly used
in telecommunication and computer products. Surge's supplier in
Korea has a facility fully certified for the International
Quality Standard ISO 9002.
Discrete Components. Discrete components, such as
semiconductor rectifiers, transistors and diodes, are packaged
individually to perform a single or limited function, in contrast
to integrated circuits, such as microprocessors and other
"chips," which contain from a few diodes to as many as several
million diodes and other elements in a single package, and are
usually designed to perform complex tasks. Surge almost
exclusively distributes discrete, low power semiconductor
components rather than integrated circuits.
Our product line of discrete components includes:
Rectifiers. Low power semiconductor rectifiers are devices
that convert alternating current, or AC power, into one
directional current, or DC power, by permitting current to flow
in one direction only. They tend to be found in most electrical
apparatuses, especially those drawing power from an AC wall
outlet.
Surge offers a wide variety of rectifiers, including:
O Schottky barrier rectifiers;
O super-fast rectifiers;
O ultra-fast/high efficiency rectifiers;
O fast recovery rectifiers, the time within which
the current recovers from spikes of voltage or current;
O fast recovery glass passivated rectifiers, a chip
coated with a glass material to protect the component from
thermal stress in a circuit;
O silicon rectifiers, which utilize silicon
rectifying cells designed to withstand large currents and high
voltages;
O soft recovery/fast switching rectifiers;
O high voltage rectifiers;
O bridge rectifiers, which connect multiple circuits
in parallel;
O self packaged surface mount rectifiers, chip style
without leads and used in miniaturization; and
O auto rectifiers.
All products are available in traditional leaded as well as
surface mount (chip) packages. Surge's main rectifier supplier
has QS 9000 automotive certification, giving us an opportunity to
market our products to the automotive industry.
Transistors. Transistors send a signal to the circuit for
transmission of waves. They are commonly used in applications
involving the processing or amplification of electric current and
electric signals, including data, television, sound and power.
All products are available in traditional leaded as well as
surface mount (chip) packages. Surge sells many types of ISO 9002
transistors, including:
O small signal transistors, designed for lower
levels of current; and
O power transistors, designed for large currents to
safely dissipate large amounts of power.
Diodes. Diodes are two-lead or surface mount components that
allow electric current to flow in only one direction. They are
used in a variety of electronic applications, including signal
processing and direction of current.
All products are available in traditional leaded as well as
surface mount (chip) packages. Diodes sold include:
O zener diodes;
O high speed switching diodes;
O and rectifiers, the most popular type of diode.
Circuit Protection Devices. Our circuit protection devices
include transient voltage suppressors and metal oxide varistors,
which protect circuits against switching, lightning surges and
other uncontrolled power surges and/or interruptions in circuits.
Transient voltage suppressors, which offer a higher level of
protection for the circuit, are required in telecommunication
products and are typically higher priced products than the metal
oxide varistors which are more economically priced and are used
in consumer products. All products are available in traditional
leaded as well as surface mount (chip) packages.
Audible Components. These include audible transducers and
Piezo buzzers and speakers which produce an audible sound for,
and are used in back-up power supplies for, computers, alarms,
appliances, smoke detectors, automobiles, telephones and other
products which produce sounds. Challenge has initiated marketing
relationships with certain Asian manufacturers of audible
components to sell these products worldwide. All products are
available in traditional leaded as well as surface mount (chip)
packages.
New Products. We periodically introduce new products which
are intended to complement our existing product lines. These
products are ones that are commonly used in the same circuit
designs as other of our products and will further provide a one-
stop-shop for the customer. Some of these products are common
items used in all applications and others are niche items with a
focus towards a particular application. We are currently
marketing surface mount rectifiers which are used in miniature or
compact products such as cellular telephones and pagers. These
new products include fuses, printed circuit boards and switches.
All products are available in traditional leaded as well as
surface mount (chip) versions.
Inventory
In order to adequately service our customers' needs, we
believe that it is necessary to maintain large inventories which
makes us more susceptible to price and technology changes. At any
given time, we attempt to maintain a three to four month
inventory on certain products in high demand for distributors and
at least one month for other products. Our inventory currently
contains more than 100 million component units consisting of more
than 3,000 different part numbers. Although the number of
components and products will continue to increase as we continue
to increase our inventories, we plan to generally maintain a two
to four month inventory. Our products range in sales price from
less than one cent for a commercial diode to more than $2.00 for
high power capacitors and semiconductors. As of November 30,
2002, Surge and Challenge maintained an inventory valued at
$1,163,268 and $957,930, respectively. Our inventories for Surge
and Challenge at November 30, 2001 were valued at $1,154,161 and
$1,157,252, respectively.
As a result of our strategic inventory purchasing policies,
under which we obtain preferential pricing, we generally waive
rights to manufacturers' inventory protection agreements
(including price protection and inventory return rights), and
thereby bear the risk of increases in the prices charged by our
manufacturers and decreases in the prices of products held in our
inventory or covered by purchase commitments. If prices of
components which we hold in inventory decline or if new
technology is developed that displaces products which we sell,
our business could be materially adversely affected.
Challenge is in the broker distribution business and fills
orders from customers which need electronic components and
products that are not readily available from their suppliers.
Throughout Fiscal 2002, there was an excess of electronics
products in the United States markets. The excess of electronics
products resulted in decreased business among broker
distributors. The continued decrease in Challenge's broker
distribution business is reflected in the decrease in net sales
from approximately $7,239,000 in Fiscal 2001 to $3,722,000 in
Fiscal 2002. Challenge has obtained and is seeking to obtain
additional product rights to certain brand name product lines and
establish direct relationships with those manufacturers for the
audible products and fans.
Although Challenge cannot be certain, it believes that the
broker distribution business will continue to change and that
many of such businesses will have difficulties surviving if they
have insufficient resources to compete with the factory direct
distributors. In furtherance of this belief, Challenge began to
develop in late 1999, a new product division of speakers, fans
and buzzers manufactured in Asia sold under the Challenge name.
Product Availability
Surge obtains substantially all of its products from
manufacturers in Asia, while Challenge historically purchases its
products both domestically and from Asia. However, in Fiscal 2002
and Fiscal 2001, Challenge purchased approximately 74% and 51%,
respectively, of its products overseas as a result of Challenge's
introduction of new product lines. Of the total goods purchased
by Surge and Challenge in Fiscal 2002, those foreign manufactured
products were supplied from manufacturers in Taiwan (47%), Hong
Kong (18%), elsewhere in Asia (21%) and overseas outside of Asia
(2%). Surge purchases its products from approximately thirteen
different manufacturers, for many of which we act as exclusive
sales agent in North America based on an oral agreement.
In December 2000, Surge launched a joint-venture limited
liability company with Lelon, a Taiwan corporation, whereby the
joint venture acts as sales and marketing agent in North America
for all Lelon products. Lelon, in business since 1976 and
publicly-traded in Taiwan, is a world-class manufacturer of
aluminum electrolytic capacitors and has been supplying products
to Surge for over ten years on a master distributor basis. The
newly formed company is operating under the name of Surge/Lelon,
LLP and markets and sells the full range of product offerings in
North America that are currently manufactured under the Lelon
name. As a result of the synergies created by Surge/Lelon, we
have increased the addressable market and breadth of our product
offerings, and also share in revenue from all North American
sales with Lelon and also from all North American joint-venture
sales. Surge/Lelon is operating from our existing location in
Deer Park, NY, and is headed by Ira Levy, Surge's President.
Most of the facilities which manufacture products for Surge
have obtained or have applied for the International Quality
Standard ISO 9002 certification. We predominantly purchase our
products in United States currency in order to minimize the risk
of currency fluctuations. In most cases, Surge utilizes two or
more alternative sources of supply for each of its products with
one primary and one complementary supplier for each product. In
all cases but Lelon, the products are manufactured to our order
with the "Surge" logo and label. Surge is continually building
relationships with suppliers and from time to time adds new
suppliers when needed. Surge's relationships with many of its
suppliers date back to the commencement of our import operations
in 1983.
We have established payment terms with our manufacturers of
between 30 and 60 day open account terms.
We do not have any written long-term supply, distribution or
franchise agreements with any of our manufacturers, other than
Surge/Lelon. We act as the exclusive sales agent in North America
for many of our manufacturers, pursuant to oral agreements. While
we believe that we have established close working relationships
with our principal manufacturers, our success depends, in large
part, on maintaining these relationships and developing new
supplier relationships for our existing and future product lines.
Because of the lack of long- term contracts, we may not be able
to maintain these relationships.
For Fiscal 2002 and Fiscal 2001, DB Products accounted for
11% for both fiscal years and Lelon accounted for 36% and 29%,
for Fiscal 2002 and Fiscal 2001, respectively, of Surge's
consolidated purchases.
We do not regard any one supplier as essential to our
operations, since equivalent replacements for most of the
products are either readily available from one or more of our
other suppliers or are available from various other sources at
competitive prices. Nevertheless, the loss of, or a significant
disruption in, the relationship with any of our major suppliers
could have a material adverse effect on our business and results
of operations until a suitable replacement could be obtained.
The components business has, from time to time, experienced
periods of extreme shortages in product supply, generally as the
result of demand exceeding available supply. When these shortages
occur, suppliers tend to either increase prices or reduce the
number of units sold to customers. We believe that because of our
inventory and our relationships with our manufacturers, we have
been able to mitigate the negotiations affect of any of these
shortages in components. However, should there be shortages in
the future, such shortages could have both a beneficial or an
adverse effect upon our business. Conversely, due to poor market
demand, there could be an excess of components in the market,
causing stronger competition and an erosion of prices.
Marketing and Sales
Surge's sales efforts are directed towards OEM customers in
numerous industries where our products have wide application.
Surge currently employs twelve sales and marketing personnel,
including two of its executive officers, who are responsible for
certain key customer relationships. Our executive officers also
devote a significant amount of time to developing and maintaining
continuing relations with our key customers.
We use independent sales representatives or organizations,
which often specialize in specific products and areas and have
specific knowledge of and contacts in particular markets. As of
November 30, 2002, we had representation agreements with
approximately 20 sales representative organizations. Sales
representative organizations, which are generally paid a 5%
commission on net sales, are generally responsible in their
respective geographic markets for identifying customers and
soliciting customer orders. Pursuant to arrangements with our
independent sales representatives, they are permitted to
represent other electronics manufacturers, but are generally
prohibited from carrying a line of products competitive with our
products. These arrangements can be terminated on written notice
by either party or if breached by either party. These
organizations normally employ between one and twelve sales
representatives. The individual sales representatives employed by
the sales organizations generally possess an expertise which
enhances the scope of our marketing and sales efforts. This
permits us to avoid the significant costs associated with
creating a direct marketing network. We have had relationships
with certain sales organizations since 1988 and continue to
engage new sales organizations as needed. We believe that
additional sales organizations and representatives are available
to us, if required.
We engage independent sales representative organizations in
various regions throughout the world for marketing to OEM
customers and distributors. Sales by the independent sales
representative organization Win-Cor Electronics Sales Corp. in
the New York metropolitan area represented 15% of Surge's sales
in Fiscal 2002 and 18% in Fiscal 2001.
We have initiated a formal national distribution program to
attract more distributors to promote our products. We have a
National Distribution Manager to develop and manage this program.
We expect this market segment to contribute significantly to our
sales growth over time.
Many OEMs require their suppliers to have a local presence
and Surge's network of independent sales representatives are
responsive to these needs. In this regard, in order to service
the growing importance of the electronics community, Surge has a
quality support/engineering location and a sales location in
California. Surge also opened a contracted warehouse space in
Phoenix, Arizona to stock products for customers in the western
region. Surge pays for this space on a monthly basis. Surge also
has a marketing office in Taiwan that provides marketing and
customer service for the Asian market. The cost and related
expenses of this office have been minimal since Surge is
utilizing the same office space used by one of its supplier
management groups. Surge formed a Hong Kong corporation, Surge
Components, Limited and hired a regional sales manager to service
the Hong Kong/Greater China region customers.
We utilize the services of the Progressive Marketing Corp.,
of Melville, New York, an unaffiliated marketing/public relations
organization, which publicizes our achievements and helps us
develop greater name recognition and positioning within the
electronics industry. Progressive places announcements in trade
journals concerning our new product introductions, hiring of key
personnel, new sales organizations and representatives.
Other marketing efforts include generation and distribution
of our product catalogs and brochures and attendance at trade
shows. We have produced an exhibit for display at electronics
trade shows throughout the year. Our products have been exhibited
at the electronic distribution show in Las Vegas, Nevada and we
will continue our commitment and focus on the distribution
segment of the industry by our visibility at the Electronic
Distributor Trade Show.
Customers
Our products are sold to distributors and OEMs in such
diverse industries as the automotive, computer, communications,
cellular telephones, consumer electronics, garage door openers,
security equipment and household appliances industries. We
request our distributors to provide point of sales reporting
which enables us to gain knowledge of the breakdown of industries
into which our products are sold. For Fiscal 2002, one customer
accounted for 14% of Surge's consolidated net sales. The same
customer accounted for 9% of Surge's consolidated net sales in
Fiscal 2001. For Fiscal 2001, a Challenge customer, Millennium
Components, a company owned by a non-officer/director employee of
Challenge, accounted for 10% of Surge's consolidated net sales.
Millennium in Fiscal 2002, accounted for less than 1% of Surge's
consolidated net sales. Our discrete components are often sold to
the same clients as our capacitors. These OEM customers typically
accept samples for evaluation and, if approved, we work towards
procuring the next orders for these items.
Typically, we do not maintain contracts with our customers
and generally sell products pursuant to customer purchase orders.
Although our customer base has increased, the loss of our largest
customers as well as, to a lesser extent, the loss of any other
material customer, could have a materially adverse effect on our
operations during the short-term until we are able to generate
replacement business, although we may not be able to obtain such
replacement business. Because of our contracts and good working
relationships with our distributors, we offer the OEMs, when
purchasing through distributors, extended payment terms, just-in-
time deliveries and one-stop shopping for many types of
electronic products.
Competition
We conduct business in the highly competitive electronic
components industry. We expect this industry to remain
competitive. We face intense competition, in both our selling
efforts and purchasing efforts, from the many companies that
manufacture or distribute electronic components. Our principal
competitors in the sale of capacitors include Nichicon,
Panasonic, Illinois Capacitor, NIC, AVX, Murata and Kemet. Our
principal competitors in the sale of discrete components include
General Instrument Corp., Motorola, Inc., Microsemi Corp.,
Diodes, Inc. and Samsung. Many of these companies are well
established with substantial expertise, and have much greater
assets and greater financial, marketing, personnel, and other
resources than we do. Many larger competing suppliers also carry
product lines which we do not carry. Generally, large
semiconductor manufacturers and distributors do not focus their
direct selling efforts on small to medium sized OEMs and
distributors, which constitute most of our customers. As our
customers become larger, however, our competitors may find it
beneficial to focus direct selling efforts on those customers,
which could result in our facing increased competition, the loss
of customers or pressure on our profit margins. We are finding
increased competition from manufacturers located in Asia due to
the increased globalization nature of the business. There can be
no assurance that we will be able to continue to compete
effectively with existing or potential competitors.
Other factors that will affect our success in these markets
include our continued ability to attract additional experienced
marketing, sales and management talent, and our ability to expand
our support, training and field service capabilities. Our motto
is "never say no," as we offer same day fulfillment without
minimum purchase order requirements and generally maintain
flexibility to ensure complete customer satisfaction.
Management Information Systems
We have made an investment in computer hardware and
software. Our management information systems consultants are
responsible for software and hardware upgrades, maintenance of
current software and related databases, and designing custom
systems. All sales personnel of Surge are equipped with computer
terminals to assist in providing up-to-date reliable information
to customers. Surge's purchasing department manages our inventory
on a real time computer system offering the sales and accounting
departments complete knowledge regarding inventory availability,
income and expense levels, sales and product line information.
Management also analyzes various reports, including product,
profit, and sales trends using our computer system. We intend to
continually evaluate and upgrade our IBM-compatible computer
system as our requirements evolve.
Customer Service
We have two full-time customer service employees whose time
is dedicated largely to respond to customer inquiries such as
price quote requests, delivery status of new or existing purchase
orders, changes of existing order dates, quantities, dates, etc.
We intend to increase our customer service capabilities, as
necessary.
Foreign Trade Regulation
Most products sold by Surge are manufactured in Asia,
including such countries as Taiwan, South Korea, Hong Kong,
India, Japan and China. The purchase of goods manufactured in
foreign countries is subject to a number of risks, including
economic disruptions, transportation delays and interruptions,
foreign exchange rate fluctuations, impositions of tariffs and
import and export controls, and changes in governmental policies,
any of which could have a material adverse effect on our business
and results of operations. Potential concerns may include drastic
devaluation of currencies, loss of supplies and increased
competition within the region.
From time to time, protectionist pressures have influenced
United States trade policy concerning the imposition of
significant duties or other trade restrictions upon foreign
products. We cannot predict whether additional United States
customs quotas, duties, taxes or other charges or restrictions
will be imposed upon the importation of foreign components in the
future or what effect such actions could have on our business,
financial condition or results of operations.
Our ability to remain competitive with respect to the
pricing of imported components could be adversely affected by
increases in tariffs or duties, changes in trade treaties,
strikes in air or sea transportation, and possible future United
States legislation with respect to pricing and import quotas on
products from foreign countries. Our ability to remain
competitive could also be affected by other governmental actions
related to, among other things, anti-dumping legislation and
international currency fluctuations. While we do not believe that
any of these factors adversely impact our business at the present
time, there can be no assurance that these factors will not
materially adversely affect us in the future. Any significant
disruption in the delivery of merchandise from our suppliers,
substantially all of whom are foreign, could have a material
adverse impact on our business and results of operations.
Government Regulation
Various laws and regulations relating to safe working
conditions, including the Occupational Safety and Health Act, are
applicable to our company. We believe we are in substantial
compliance with all material federal, state and local laws and
regulations regarding safe working conditions. We believe that
the cost of compliance with such governmental regulations is not
material.
Patents, Trademarks and Proprietary Information
The Company has registered the logo for "Surge" and the
phrase "quality on board & design" as trademarks with the United
States Patent and Trademark Office.
Although we believe that our products do not and will not
infringe patents or trademarks, or violate proprietary rights of
others, it is possible that infringement of existing or future
patents, trademarks or proprietary rights of others may occur. In
the event our products infringe proprietary rights of others, we
may be required to modify the design of our products, change the
name of our products and/or obtain a license. There can be no
assurance that we will be able to do any of these things in a
timely manner, upon acceptable terms and conditions or at all.
Our failure to do any of the foregoing could have a material
adverse effect upon our operations. In addition, there can be no
assurance that we will have the financial or other resources
necessary to enforce or defend a patent infringement or
proprietary rights violation action. Moreover, if our products
infringe patents, trademarks or proprietary rights of others, we
could, under certain circumstances, become liable for damages,
which also could have a material adverse effect on our business.
Backlog
As of November 30, 2002, our backlog was approximately
$4,892,000, as compared with $5,076,000 at November 30, 2001.
Substantially all backlog is expected to be shipped by us within
90 to 180 days. Year to year comparisons of backlog are not
necessarily indicative of future operating results.
Employees
As of November 30, 2002, Surge and Challenge employed 24
persons, two of whom are employed in executive capacities, eight
are engaged in sales, one in engineering, three in purchasing,
three are engaged in administrative capacities, two are in
customer service, two are in accounting and three are in
warehousing. As of November 30, 2002, Superus had no employees.
None of our employees are covered by a collective bargaining
agreement, and we consider our relationship with our employees to
be good.
RISK FACTORS
All forward-looking statements should be read with caution.
The risks and uncertainties described below are those that we
currently believe may materially affect our company. Additional
risks and uncertainties that we are unaware of or that we
currently deem immaterial also may become important factors that
affect our company.
We have limited historical profitability and our future
operating results could be weak.
We had a net loss of $1,740,000 in Fiscal 2002 and
$6,111,000 in Fiscal 2001. Given our historical losses there can
be no assurance we will be able to become profitable in the
future. The electronics and semiconductor industries have been
characterized by intense price cutting which could materially
adversely affect our future operating results. Given our limited
financial resources, anticipated expenses and legal fees and the
highly competitive environment in which we operate, there can be
no assurance that we will be able to achieve revenue growth in
the future or that our future operations will become profitable.
We may need additional financing to operate profitably.
We expanded our facilities to achieve growth primarily
through the increased penetration of the OEM and distribution
market, the introduction of new products and the upgrade of
existing product lines. We expect to continue to incur
significant operating costs. These costs consist principally of
payroll, marketing and facilities related charges. Our future
profitability depends on increased future sales. In the event
that future sales levels do not increase or in the event that we
are unable to obtain such additional financing as it becomes
necessary, we will not be able to achieve all of our business
plans and our business could be materially adversely affected.
We may be adversely affected by a continued downturn in our
industry and the economy in general.
The electronics components industry is cyclical and as a
result we are subject to downturns in general economic conditions
and changes in client business and marketing budgets. A downturn
in general economic conditions in one or more markets or changes
in client business and marketing budgets could have a material
adverse effect on our business, financial condition and results
of operations.
We may have difficulty competing in the electronic
components market.
Surge conducts business in the highly competitive electronic
components industry. We expect this industry to remain
competitive. Throughout Fiscal 2002 and Fiscal 2001, there was an
excess of electronics products of the type the Company markets,
available in the markets in which we seek to participate.
If we fail to attract and retain employees, our growth would
be limited and our business may be adversely affected.
Our future success will depend in large part upon the
abilities and continued services of Ira Levy, our President and
Chief Executive Officer. We cannot assure you that we will be
able to retain the services of Mr. Levy. In addition, we must be
able to attract, train and retain additional highly skilled
executive-level management and creative, technical, consulting
and sales personnel. The competition in our industries for
skilled personnel is intense, and we cannot be sure that we will
be successful in attracting, training and retaining such
personnel. An inability to hire and retain employees would
increase our recruiting and training costs and decrease operating
efficiencies and productivity. This could have a material adverse
effect on our business.
Regulatory and legal uncertainties could harm our business.
Several industries in which our clients operate are subject
to varying degrees of governmental regulation. Generally,
compliance with these regulations is the responsibility of our
clients. However, we could be subject to a variety of enforcement
or private actions for our failure or the failure of our clients
to comply with these regulations. These actions could have a
material adverse effect on our business.
From time to time, state and federal legislation is proposed
with regard to the use of proprietary databases of consumer
groups. The fact that we generate and receive data from many
sources increases the uncertainty of the regulatory environment.
As a result, there are many ways both domestic and foreign
governments might attempt to regulate our use of our data. Any
such restrictions could have a material adverse effect on our
business. The services we offer outside the United States may be
subject to foreign regulations including:
o advertising content;
o promotions of financial products;
o activities requiring customers to send money with
mail orders; and
o the maintenance and use of customer data held on
databases.
We lack written long-term supply contracts with
manufacturers and depend on a limited number of suppliers.
Surge does not have any written long-term supply,
distribution or franchise agreements with any of its
manufacturers. We act as the exclusive sales agent in North
America for many of our manufacturers, pursuant to oral
agreements. While we believe that we have established close
working relationships with our principal manufacturers, our
success depends, in large part, on maintaining these
relationships and developing new supplier relationships for our
existing and future product lines. Because of the lack of long-
term contracts, we may not be able to maintain these
relationships. For Fiscal 2002, two suppliers accounted for in
excess of 10% of our net purchases. Purchases from these two
suppliers in Fiscal 2002 were approximately $3,365,000. While we
believe that there are alternative semiconductor and capacitor
manufacturers whose replacement products may be acceptable to our
customers, the loss of, or a significant disruption in the
relationship with, one or more of our major suppliers would most
likely have a material adverse effect on our business and results
of operations.
We need to maintain large inventories in order to succeed;
price fluctuations could harm us.
In order to adequately service our customers, we believe
that it is necessary to maintain a large inventory of our
products. Accordingly, we attempt to maintain a three to four
month inventory of those products we offer which are in high
demand. As a result of our strategic inventory purchasing
policies, under which we order in to obtain preferential pricing,
waive the rights to manufacturers' inventory protection
agreements (including price protection and inventory return
rights), we bear the risk of increases in the prices charged by
our manufacturers and decreases in the prices of products held in
our inventory or covered by purchase commitments. If prices of
components which we hold in inventory decline or if new
technology is developed that displaces products which we sell,
our business could be materially adversely affected.
We depend on certain customers.
For Fiscal 2002, approximately 14% of our net sales were
derived from one customer. For Fiscal 2001, approximately 10% of
our net sales were derived from Millennium Components, a related
party. During Fiscal 2002, this customer accounted for less than
1% of our net sales. Although our customer base has increased,
the loss of our largest customers as well as, to a lesser extent,
the loss of any other principal customer, would be expected to
have a materially adverse effect on our operations during the
short-term until we are able to generate replacement business,
although we may not be able to obtain such replacement business.
We may not be able to compete against large competitors who
have better resources.
We face intense competition, in both our selling efforts and
purchasing efforts, from the many companies that manufacture or
distribute electronic components and semiconductors. Our
principal competitors in the sale of capacitors include Nichicon,
Panasonic, Illinois Capacitor, NIC, AVX, Murata and Kemet. Our
principal competitors in the sale of discrete components include
General Instrument Corp., Motorola, Inc., Microsemi Corp.,
Diodes, Inc. and Samsung. Many of these companies are well
established with substantial expertise, and have much greater
assets and greater financial, marketing, personnel, and other
resources than we do. Many larger competing suppliers also carry
product lines which we do not carry. Generally, large
semiconductor manufacturers and distributors do not focus their
direct selling efforts on small to medium sized OEMs and
distributors, which constitute most of our customers. As our
customers become larger, however, our competitors may find it
beneficial to focus direct selling efforts on those customers,
which could result in our facing increased competition, the loss
of customers or pressure on our profit margins. There can be no
assurance that we will be able to continue to compete effectively
with existing or potential competitors.
Our business will be adversely affected if there is a
shortage of components.
The components business has, from time to time, experienced
periods of extreme shortages in product supply, generally as the
result of demand exceeding available supply. When these shortages
occur, suppliers tend to either increase prices or reduce the
number of units sold to customers. Because of our large inventory
and our relationships with our manufacturers, we have not been
adversely affected by shortages in certain discrete semiconductor
components. However, in the future shortages may have an adverse
effect upon our business.
We may be adversely affected by trade regulation and foreign
economic conditions.
Approximately 88% of the total goods which we purchased in
Fiscal 2002 were manufactured in foreign countries, with the
majority purchased in Taiwan (47%), China (6%), Hong Kong (18%),
Japan (4%), other Asia countries (11%) and overseas outside of
Asia (2%). These purchases subject us to a number of risks,
including economic disruptions, transportation delays and
interruptions, foreign exchange rate fluctuations, imposition of
tariffs and import and export controls and changes in
governmental policies, any of which could have a materially
adverse effect on our business and results of operations. In
addition, the current economic conditions in Southeast Asia may
severely impact our business.
Potential concerns may include drastic devaluation of
currencies, loss of supplies and increased competition within the
region.
The ability to remain competitive with respect to the
pricing of imported components could be adversely affected by
increases in tariffs or duties, changes in trade treaties,
strikes in air or sea transportation, and possible future United
States legislation with respect to pricing and import quotas on
products from foreign countries. For example, it is possible that
political or economic developments in China, or with respect to
the United States' relationship with China, could have an adverse
effect on our business.
Our ability to remain competitive could also be affected by
other governmental actions related to, among other things, anti-
dumping legislation and international currency fluctuations.
While we do not believe that any of these factors have adversely
impacted our business in the past, there can be no assurance that
these factors will not materially adversely affect us in the
future.
The cyclical nature of the electronics industry may
adversely affect our operations.
The electronics industry is currently being affected and has
been affected historically by general economic downturns, which
have had an adverse economic effect upon manufacturers and end-
users of capacitors and semiconductors. In addition, the life-
cycle of existing electronic products and the timing of new
product developments and introductions can affect demand for
semiconductor components. Any further downturns in the
electronics distribution industry could adversely affect our
business and results of operations.
We do not have any registered patents or copyrights.
We do not have any patents or copyrights registered in the
United States Patent and Trademark Office or in any state. We
rely on the know-how, experience and capabilities of our
management personnel. Therefore, without patent and copyright
protection, we have no protection from other parties attempting
to offer similar services.
Although we believe that our products do not and will not
infringe patents or trademarks, or violate proprietary rights of
others, it is possible that infringement of existing or future
patents, trademarks or proprietary rights of others may occur. In
the event our products infringe proprietary rights of others, we
may be required to modify the design of our products, change the
name of our products and/or obtain a license. There can be no
assurance that we will be able to do any of these things in a
timely manner, upon acceptable terms and conditions or at all.
Our failure to do any of the foregoing could have a material
adverse effect upon our operations. In addition, there can be no
assurance that we will have the financial or other resources
necessary to enforce or defend a patent infringement or
proprietary rights violation action. Moreover, if our products
infringe patents, trademarks or proprietary rights of others, we
could, under certain circumstances, become liable for damages,
which also could have a material adverse effect on our business.
We may be subject to further investigations or proceedings
due to the potentially questionable payments.
As we have previously disclosed, there have been certain
potentially questionable payments which are currently the subject
of an inquiry by the Securities and Exchange Commission (the
"SEC"). We have taken steps to ensure that no such payments are
made in the future, including requiring that no payments above
$5,000 be made to any party except a party on a list approved by
our audit committee, requiring co-signatures on each check for
more than $10,000, adopting a Code of Conduct, and seeking to add
additional Board and audit committee members, as soon as
feasible, a controller and chief financial officer. However,
there can be no assurance that the potentially questionable
payments and related investigations will not lead to any other
proceedings. Any proceeding or litigation related to such events
could adversely affect our business and results of operations.
We have had no contact with the SEC since March 2002.
The delisting of our Common Shares from NASDAQ and proposed
delisting from The Boston Stock Exchange could adversely affect
us.
Our Common Shares were delisted from The NASDAQ Stock Market
effective November 30, 2001, we have filed an Application for
Withdrawal from Listing of Securities from the Boston Stock
Exchange, and currently our Common Shares trade on the over-the-
counter Pink Sheets maintained by Pink Sheets LLC. The effects of
delisting include more limited information as to the market
prices of our Common Shares, less liquidity for the Common Shares
and limited news coverage of us. Our delisting may restrict
investors' interest in our securities and materially adversely
affect the trading market and prices for such securities and our
ability to issue additional securities or to secure additional
financing.
Our non compliance with the tangible net worth covenant of
our loan agreement with our principal lender could adversely
affect us.
In July 2002, the Company entered into a financing agreement
(the "Financing Agreement") with an asset-based lender (the
"Lender") providing for borrowings up to $1,000,000 (the "Credit
Line"). Borrowings under the Credit Line accrue interest at the
greater of the prime rate plus two percent (2.0%) or 6.75% per
annum (6.75% at November 30, 2002). The Company pays one-quarter
of one percent (1/4 of 1%) annually as an unused line fee for the
difference between $1,000,000 and the average daily outstanding
balance under the Credit Line. The Credit Line is collateralized
by substantially all the Company's assets and contains various
financial covenants pertaining to the maintenance of working
capital and tangible net worth. During Fiscal 2002, we were not
in compliance with the tangible net worth financial covenant. On
August 31, 2002, we were not in compliance with the tangible net
worth covenant but received a waiver from the Lender. On
November 30, 2002, we were not in compliance with the tangible
net worth covenant. We anticipate continuing to not be in
compliance with such covenant during Fiscal 2003. As such, the
Lender may declare the Company in default at anytime and has the
following rights, among others: (1) to demand immediate repayment
of borrowings under the Credit Line; (2) to receive a charge at
the rate of two percent per month upon the unpaid balance of the
obligations under the Financing Agreement (the "Obligations")
from the date of default until the date of our full payment
of the Obligations, which charge is in lieu of interest; (3) to
receive all costs, disbursements, charges and expenses that it
incurs in the collection and enforcement of the Obligations,
including attorneys fees; and (4) to enforce payment of or settle
any of our receivables and apply the net cash proceeds resulting
from such payment or settlement to the payment of the
Obligations. While we do not believe that the Lender will elect
to exercise any of such rights, if it did so at an inopportune
time for the Company, it could result in a severe liquidity
crisis for the Company.
Item 2. Description of Property.
Surge and Challenge each lease their current executive
offices and warehouse facilities, located at 95 Jefryn Boulevard,
Deer Park, New York, 11729, at an aggregate annual rental for
each of Surge and Challenge of $207,610 during 2002. The Lessor
is Great American Realty of 95 Jefryn Blvd., LLC ("Great
American"), an entity owned equally by Ira Levy, Surge's
president, Steven Lubman, Surge's vice president and one of its
directors, Mark Siegel. These leases expire on September 30,
2010. Each lease is subject to a 3% annual increase. Each tenant
occupies approximately 11,625 square feet of office space and
warehouse space.
Item 3. Legal Proceedings.
By letters dated October 9, 2001 and January 17, 2002, we
were contacted by the SEC regarding the potentially questionable
payments previously disclosed, in which we were requested to
voluntarily furnish various documents. By letters dated October
23, 2001 and November 28, 2001, we voluntarily responded and
provided the SEC with such documents. On March 13, 2002, we
provided a supplemental response to the SEC. We have not had any
contact with, or received any letters from, the SEC concerning
this matter since March 2002.
By letter dated June 20, 2001 we were contacted by NASDAQ
regarding these potentially questionable payments. By letter
dated August 6, 2001 we were contacted by NASDAQ regarding its
determination to delist the Company's securities from NASDAQ and
advising us that we may appeal such determination pursuant to a
hearing request. We appealed such determination. By letter
dated August 14, 2001, NASDAQ formally notified us that our
request for continued listing on the NASDAQ SmallCap Market would
be considered at an oral hearing and requested various documents.
The hearing was held on September 28, 2001 before a NASDAQ
Listing Qualifications Panel. By letter dated November 29, 2001,
NASDAQ informed us that pursuant to the September 28, 2001
hearing, it had determined that the Company's securities would be
delisted on November 30, 2001, based on public interest concerns
related to the potentially questionable payments and additionally
for the failure of certain of our officers and directors to
submit to an interview by NASDAQ regarding these payments.
On or about March 8, 2002, Superus filed a voluntary
petition seeking relief under Chapter 7 of the United States
Bankruptcy Code (the "Code") (Title 11) in the United States
Bankruptcy Court for the District of Delaware. A trustee was
appointed in the case and he held a meeting of creditors as
required by the Code. On June 18, 2002, the trustee filed his
report with the Court stating that the case was a no asset case
that had been fully administered and requesting that it be
discharged. The Court has not yet approved the trustee's report
or closed the case. There have been no objections filed to the
report.
On March 7, 2003 we filed with the SEC and the Boston Stock
Exchange (the "BSE") an Application for Withdrawal from Listing
of Securities from the BSE. This was due to the low trading
volume of our Common Stock and Purchase Warrants and our failure
to meet the minimum public float requirements of the BSE.
Item 4. Submission of Matters to a Vote of Security Holders.
No matters were submitted during the fourth quarter of the
year ended November 30, 2002.
PART II
Item 5. Market for Common Equity and Related Stockholder
Matters.
(a) Market Information
On November 30, 2001, our Common Shares were delisted from
the NASDAQ SmallCap Market. Since such date, our Common Shares
have been quoted on The Boston Stock Exchange and the over-the-
counter "pink sheets" maintained by Pink Sheets LLC (formerly the
National Quotation Bureau), under the symbol "SPRS". In March
2003, the Company elected to voluntarily delist its common stock
from listing on the Boston Stock Exchange.
The following tables set forth the range of high and low
prices for our common stock for the periods indicated as derived
from reports furnished by The NASDAQ Stock Market and Pink Sheets
LLC. The information reflects inter-dealer prices, without retail
mark-ups, mark-downs or commissions:
High Low
------ ------
Fiscal 2001:
-----------
Quarter Ended February 28, 2001 3.125 1.594
Quarter Ended May 31, 2001 2.000 0.750
Quarter Ended August 31, 2001 1.000 0.130
Quarter Ended November 30, 2001 0.229 0.100
High Low
Fiscal 2002:
-----------
Quarter Ended February 28, 2002 0.08 0.04
Quarter Ended May 31, 2002 0.08 0.05
Quarter Ended August 31, 2002 0.05 0.04
Quarter Ended November 30, 2002 0.17 0.03
Fiscal 2003:
-----------
Quarter Ended February 28, 2003 0.15 0.05
On March 11, 2003, the closing price of our Common Shares as
reported by the Pink Sheets was $.07. As of March 11, 2003, (i)
we had 269 holders of record of our Common Shares, (ii) 8,743,326
Common Shares were outstanding, (iii) 42,700 shares of our Series
C preferred stock were outstanding, and (iv) 427,000 Common
Shares were reserved for issuance upon conversion of our Series C
preferred stock.
Dividends and Dividend Policy
We have not paid any cash dividends on our Common Shares
during the last two fiscal years and we do not anticipate paying
any dividends on our Common Shares in the foreseeable future. We
currently intend to retain any future earnings for reinvestment
in our business. Any future determination to pay cash dividends
will be at the discretion of our board of directors and will be
dependent upon our financial condition, results of operations,
capital requirements and other relevant factors. In addition, we
are required to give preference in any declaration and payment of
dividends to the Series C preferred stock. Series C preferred
stock requires an annual dividend payment of $.50 per share, or
currently $21,350 in the aggregate. We paid no dividends to
Series C preferred stockholders during Fiscal 2002.
Securities Authorized for Issuance Under Equity Compensation
Plans.
The following table includes information as of November 30,
2002 for Surge's compensation plans under which equity securities
of Surge are authorized for issuance, aggregated as follows:
Equity Compensation Plan Information
____________________________________________________________________
(a) (b) (c)
____________________________________________________________________
Plan category Number of Weighted-average Number of
Securities to exercise price of securities
be issued outstanding remaining
upon exercise options, warrants available for
of outstanding and rights future
options, issuance
warrants under equity
and rights compensation
plans
(excluding
securities
reflected in
column (a))
____________________________________________________________________
Equity
compensation
plans approved
by security
holders
Surge 685,500 $1.99 16,000
Superus 2,850,000 $2.96 12,420,000
____________________________________________________________________
Equity
compensation
plans not
approved
by security
holders
Surge 9,670,000 $2.13 -
____________________________________________________________________
Total 13,205,500 $2.30 1,258,000
____________________________________________________________________
Item 6. Management's Discussion and Analysis or Plan of
Operation.
Critical Accounting Policies and Estimates
The preparation of financial statements and related
disclosures in conformity with accounting principles generally
accepted in the United States requires management to make
estimates and assumptions that affect the amounts reported in the
unaudited Consolidated Financial Statements and accompanying
notes. Estimates are used for, but not limited to, the accounting
for the allowance for doubtful accounts, inventories, income
taxes and loss contingencies. Management bases its estimates on
historical experience and on various other assumptions that are
believed to be reasonable under the circumstances. Actual results
could differ from these estimates under different assumptions or
conditions.
The Company believes the following critical accounting
policies, among others, may be impacted significantly by
judgment, assumptions and estimates used in the preparation of
the unaudited Consolidated Financial Statements:
The allowance for doubtful accounts is maintained to provide
for losses arising from customers' inability to make required
payments. If there is a deterioration of our customers' credit
worthiness and/or there is an increase in the length of time that
the receivables are past due greater than the historical
assumptions used, additional allowances may be required. During
February 2002, the Company obtained $2,000,000 of credit
insurance covering most of its customers.
Inventories, which consist solely of products held for
resale, are stated at the lower of cost (first-in, first-out
method) or market. Products are included in inventory when
shipped from the supplier. The Company, at November 30, 2002, has
a reserve against slow moving and obsolete inventory of
approximately $1,051,000.
The Company's deferred income taxes arise primarily from the
differences in the recording of net operating losses, allowances
for bad debts, inventory reserves and depreciation expense for
financial reporting and income tax purposes. Income taxes are
reported under the liability method pursuant to SFAS No. 109
"accounting for income taxes". A valuation allowance is provided
when the likelihood of realization of deferred tax assets is not
assured. The Company has provided for a valuation allowance
totaling approximately $7,461,000.
Current accounting guidance allows for several options in
the reporting of stock options granted to employees or directors
as compensation. The Company has adopted the disclosure only
provisions of SFAS Number 123, "Accounting for Stock-Based
Compensation." Under these provisions, the Company has not
provided for a charge for compensation in its statements of
operations related to the granting of options to its employees
and directors. Had the fair-value method been applied, the
Company's income would have been approximately $748,000 less in
Fiscal 2001. No such options were granted during Fiscal 2002.
Results of Operations
Consolidated net sales for Fiscal 2002 decreased by
approximately $4,805,000, or 31%, to $10,917,000 as compared to
net sales of $15,723,000 for Fiscal 2001. The net sales for
Fiscal 2002 for Surge without Challenge, its principal
subsidiary, decreased by approximately $1,288,000, or 16% when
compared to Fiscal 2001. The Company had lower sales during the
current year as a result of a continued slowdown in the
electronics industry, as described more fully below.
The net sales for the Fiscal 2002 for Challenge decreased by
approximately $3,517,000, or 49% when compared to Fiscal 2001.
Challenge continues to experience depressed sales due to a
slowdown in manufacturing among computer, telecommunications and
phone manufacturers. This slowdown is expected to adversely
affect Challenge's sales for at least the first half of Fiscal
2003. Any future improvements in sales (and possible
profitability) are expected to be based on future demand and
supply for Challenge's product mix.
The semiconductor industry has historically experienced wide
fluctuations in the supply and demand of semiconductors. These
fluctuations have helped produce many occasions when supply and
demand for semiconductors have not been in balance. The supply
currently far exceeds the demand and resulted in declining
average selling prices for our products as companies seek to sell
their inventories. Accordingly, the Company's ability to maintain
or increase revenues will be highly dependent on its ability to
increase sales volume of existing products and to successfully
introduce and sell new products.
While we cannot predict future performance, we believe
considerable opportunities exist for growth in the United States
and Asia. We are continually looking into new product lines and
products.
Our gross profit for Fiscal 2002 decreased by approximately
$789,000, or 21%, as compared to Fiscal 2001. Gross margin as a
percentage of net sales increased to 27% in Fiscal 2002 compared
to 24% for Fiscal 2001. The decrease in our gross profit was a
result of decreased sales from the economic slowdown of
electronic components and industry pricing pressures requiring us
to lower our prices. The gross profit percentage for Fiscal 2001
was affected adversely by the creation of a reserve against slow
moving and obsolete inventory of approximately $1,032,000. This
reserve was caused as the result of surplus inventories and
pricing pressures in our industry. Additional reserves totaling
approximately 19,000 were added during Fiscal 2002.
General and administrative expenses for Fiscal 2002
decreased by approximately $2,720,000, or 45%, as compared to
Fiscal 2001. The decrease is primarily due to costs associated
with funding the operations of MailEncrypt, Inc., the surviving
Company from our unwound purchase of Mailencrypt.com, Inc.
("Mail"), which was unwound during the fourth quarter of Fiscal
2001, and overhead attributable to Superus. Superus has been
inactive since the second quarter of 2001 and has filed for
bankruptcy protection under Chapter 7 of the United States
Bankruptcy Code. The liabilities of Superus on the date of the
bankruptcy filing were approximately $250,000. Superus incurred
approximately $2,185,000 of expenses relating to salaries, rent,
professional fees, public relations and consulting fees for
Fiscal 2001. Superus had no revenues for Fiscal 2002 and Fiscal
2001.
Selling and shipping expenses for Fiscal 2002 decreased by
approximately $306,000, or 23%, as compared to Fiscal 2001.
This decrease is primarily due to the decreased sales
commissions and related selling expenses resulting from lower
sales in the current year. These decreases are partially offset
by increases in our costs for personnel and new product
development in order to create more sales opportunities to
increase sales levels.
Financial consulting fees and expenses for Fiscal 2002 were
approximately $264,000, representing the cost of the securities
issued in payment of such fees. These fees and expenses were
incurred in connection with an agreement with our investment
banker regarding services through May 2001 and reimbursement of
expenses. In April 2002, the Company entered into a settlement
agreement with an investment banker, as more fully explained
below in the Liquidity and Capital Resources section.
Investment income decreased by approximately $182,000, or
78%, for Fiscal 2002, as compared to Fiscal 2001. This decrease
is primarily related to our use of cash and cash equivalents to
fund losses and the reduction of interest rates on our invested
funds.
Interest expense, including the amortization of debt costs,
for Fiscal 2002 decreased by approximately $392,000, or 87%, as
compared to Fiscal 2001. This decrease primarily is related to
our conversion of our private placement notes as of December 31,
2000. In July 2001, in order to avoid disputes, we decided to
accrue additional interest on the convertible notes through the
dates the notes were converted. Previously interest was accrued
only to December 31, 2000.
In connection with its acquisition of Mail in November 2000,
we incurred acquisition costs, consisting of finders' fees and
financial consulting fees, totaling an aggregate of $607,188. We
did not meet certain provisions of the merger agreement with
Mail, and, accordingly, the former shareholders had the option to
repurchase Mail from us. We ceased funding the operations of
Mail as of May 30, 2001. As discussed further in the Liquidity
and Capital Resources section below, in October 2001, we entered
into a Stock Exchange Agreement with the former shareholders of
Mail effectively unwinding the acquisition.
We have included in other income for Fiscal 2001, $1 million
in respect of a return of a portion of the questionable payments
reported in our Form 10-QSB for the quarter ended February 28,
2001. Such payments were made to the wife of an employee of one
of our suppliers in return for help obtaining components from
that supplier and another distributor. According to management
personnel responsible for making the payments, prior to making
any payment, the transaction was disclosed to our legal counsel
to determine whether payments to an employee of a supplier would
be legal. Management personnel believed they had received
reasonable assurances at the time, and thereafter, that such
payments were not illegal, so long as the recipient of the
payments received an IRS Form 1099, and all payments were made
by check. The costs of such payments were recorded in our books
and records and financial statements. We duly issued a Form
1099 to the recipient of the payments. According to Steven
Lubman, Vice President, in mid-March 2001 he became aware of a
document in a criminal proceeding unrelated to us in which
similar payments were described as kickbacks. This caused
management to seek reconfirmation of the legal advice previously
given. Legal counsel advised us by letter on or about March 22,
2001, that, since the payments had been described in a document
in the unrelated criminal action as kickbacks, disclosure of the
document should be made to our auditors, which was done. Such
counsel stated in the letter that no conclusion had been reached
that such payments were kickbacks. On April 17, 2001, we
disclosed in our Form 10-QSB Quarterly Report filing that the
questionable payments had been made.
After receipt of the March 22, 2001 letter referred to
above, the Board determined to investigate the payments and ask
for the return of the payments. The Company requested that the
$3 million be repaid. $1 million was repaid to the Company. In
May 2001, the law firm of Mintz Levin Cohn Ferris Glovsky and
Popeo, P.C. was formally engaged by the Company to assist in an
investigation concerning the payments and to recommend policies
to prevent any similar future payments. Due, in part to the
previously disclosed resignation of our outside counsel and such
counsel's refusal to be interviewed as part of the
investigation, we were unable to confirm what legal advice was
rendered as to the making of such payments. The investigation
did not uncover any additional payments similar to the
previously disclosed "questionable payments". We have taken
steps to ensure that such payments are not made in the future,
including requiring that payments above $5,000 be made to any
party except a party on a list approved by our audit committee,
requiring co-signatures on each check for more than $10,000,
adopting a Code of Conduct, and seeking to add additional Board
and Audit Committee members, as well as, as soon as feasible, a
controller and chief financial officer. Except for the SEC
inquiry referred to above, we are not aware of any pending
proceedings relating to the questionable payments.
The Company received a letter from a lawyer from a
collection agency dated February 13, 2003 on behalf of Snow
Becker & Krauss P.C., our former legal counsel ("SBK") asserting
a claim for legal fees of approximately $665,000. These charges
are included in our liabilities on our Balance Sheet at November
30, 2002. These fees relate to services rendered by SBK between
one and two years ago. We responded to this letter by disputing
that the Company owes these fees and asserting that we believe
we have substantial additional claims against SBK. The Company
is presently engaged in evaluating how it intends to proceed
with these claims. While we believe we have good claims against
SBK, we have no assurance that we will be successful in
asserting these claims against SBK.
As result of the foregoing, we had a consolidated net loss
of $1,740,000 for Fiscal 2002, as compared to $6,111,000 for
Fiscal 2001.
Liquidity and Capital Resources
Working capital decreased by $1,436,000 during Fiscal 2002
to $2,460,000 at November 30, 2002, from $3,896,000, at November
30, 2001. This decrease resulted primarily from the decrease in
marketable securities, inventory and amounts due under a
repurchase agreement offset, in part, by a decrease in accounts
payable and accrued expenses. Our current ratio decreased from
2.1:1 at November 30, 2001, to 1.8:1 at November 30, 2002.
Inventory turned 3.6 times during Fiscal 2002 as compared to 4.5
times during Fiscal 2001. The average number of days to collect
receivables remained relatively unchanged at 53 days. We believe
that our working capital levels and available financing are
adequate to meet our operating requirements during the next twelve
months.
In July 2002, the Company entered into a financing agreement
(the "Financing Agreement") with an asset-based lender (the
"Lender") providing for borrowings up to $1,000,000 (the "Credit
Line"). Borrowings under the Credit Line accrue interest at the
greater of the prime rate plus two percent (2.0%) or 6.75% per
annum (6.75% at November 30, 2002). The Company pays one-quarter
of one percent (1/4 of 1%) annually as an unused line fee for the
difference between $1,000,000 and the average daily outstanding
balance under the Credit Line. The Credit Line is collateralized
by substantially all the Company's assets and contains various
financial covenants pertaining to the maintenance of working
capital and tangible net worth. During Fiscal 2002, we were not
in compliance with the tangible net worth financial covenant. At
August 31, 2002, we were not in compliance with the tangible net
worth covenant but received a waiver from the Lender. At
November 30, 2002, we were not in compliance with the tangible
net worth covenant. We anticipate continuing to be not in
compliance with such covenant during Fiscal 2003. As such, the
Lender may declare the Company in default at any time and has the
following rights, among others: (1) to demand immediate repayment
of borrowings under the Credit Line; (2) to receive a charge at
the rate of two percent per month upon the unpaid balance of the
obligations under the Financing Agreement (the "Obligations")
from the date of default until the date of our full payment
of the Obligations, which charge is in lieu of interest; (3) to
receive all costs, disbursements, charges and expenses that it
incurs in the collection and enforcement of the Obligations,
including attorneys fees; and (4) to enforce payment of or settle
any of our receivables and apply the net cash proceeds resulting
from such payment or settlement to the payment of the
Obligations. While we do not believe that the Lender will elect
to exercise such rights, if it did so at an inopportune time for
the Company, it could result in a severe liquidity crisis for the
Company, forcing us to use our available cash, which may or may
not be sufficient, and seek alternative financing at a difficult
time.
We incur substantial operating costs. These costs
principally consist of rent, payroll, professional fees,
insurance premiums and marketing related charges. Our ability to
operate profitably in the future depends on increasing sales
levels and decreasing our expenses. To accomplish this goal, we
are attempting to streamline our operations and reviewing other
possible reductions.
Our headquarters are leased from a company owned by certain
of our officers, directors and shareholders. Rental costs for the
premises were approximately $208,000 for Fiscal 2002. The lease
agreement calls for a three percent (3%) increase each year and
terminates September 30, 2010. Amortization of the leasehold
improvements is made ratably over the shorter of the ten-year
term of the lease or the life of the improvements.
In November 2002, the Board of Directors authorized the
repurchase of up to 1,000,000 shares of the Company's common
stock at a price between $.04 and $.045. No action has been taken
on the above authorization, since the stock is currently trading
at a higher amount.
During Fiscal 2002, net cash of approximately $1,825,000 was
used in operating activities as compared to providing
approximately $234,000 of net cash from operating activities
during Fiscal 2001. The increase in cash used in operating
activities resulted from the Company's net loss, a decrease in
accrued expenses and accounts payable, partially offset by a
decrease in accounts receivable and inventory.
Net cash of approximately $1,891,000 was provided by
investing activities during Fiscal 2002, as compared to the use
of approximately $1,481,000 in investing activities during Fiscal
2001. The net cash provided by investing activities during Fiscal
2002 resulted primarily from the sale of marketable securities
and collection of amounts due under a repurchase agreement
($1,054,602).
Net cash of approximately $399,000 was provided by financing
activities for Fiscal 2002, as compared to net cash of
approximately $630,000 used in financing activities for Fiscal
2001. The cash provided by financing activities during Fiscal
2002 was primarily a result of borrowings under the Credit Line.
The cash used in financing activities during Fiscal 2001 was
primarily the result of the Company's purchases of treasury
stock.
As a result of the foregoing, the Company had a net increase
in cash and equivalents of approximately $464,000 during Fiscal
2002, as compared to a net decrease in cash and equivalents of
approximately $1,876,000 during Fiscal 2001.
In April 2002, in connection with a Mutual Release, Settle
ment, Standstill and Non-Disparagement Agreement by and among the
Company and Equilink Capital Partners, LLC, Robert DePalo, Old
Oak Fund Inc. and Kenneth Orr (collectively, the "Investors"),
the Investors released the Company from
potential claims relating to services provided by the Investors,
transferred back to the Company 252,000 Common Shares, 19,300
shares of Series C preferred stock, and certain warrants,
representing all of the Company's securities held by the
Investors, and agreed, among other things, not to purchase any
securities of the Company and not to disparage the Company in any
manner, in exchange for $225,000. In addition, the Company and
the Investors mutually agreed to release each other from all
claims each party had, now has, or in the future might have
against the other. The Company recorded a $194,000 expense
during Fiscal 2002 in connection with this settlement.
In March 2002, we entered into an agreement with two
shareholders to settle a dispute as to the form of payment of
interest on certain 12% Convertible Promissory Notes. We agreed
to pay these shareholders an aggregate of $32,854, in exchange
for 17,522 Common Shares issued to them for converted interest.
In July 2000, Surge entered into a joint venture agreement
with Lelon (a supplier of component parts to Surge) to form
Surge/Lelon LLP, a Delaware limited liability partnership. The
Company has membership interests in the joint venture totaling
55%. Operations commenced in August 2002. These operations have
been consolidated with those of the Company. The ownership of
Lelon in this joint venture, totaling 45%, has been reported as a
minority interest. This joint venture was started in order to
more effectively market the products of the Lelon name brand. To
date, these operations have been relatively small.
In May 2002, Surge and an officer of Surge became the sole
owners of Surge Components, Limited, a Hong Kong corporation.
Under current Hong Kong law, Surge Components, Limited is
required to have at least two shareholders. Surge owns 999 shares
of the outstanding common stock and an officer of Surge owns one
share of the outstanding common stock. The officer of Surge has
assigned his rights regarding his one share to Surge. Operations
commenced in July 2002. These operations have been consolidated
with those of the Company. Surge Components, Limited was created
to better position the Company in the Asian markets.
We purchase a significant amount of our products from the
Asian market and in addition a number of our customers have
factories located in Asia. Surge Components Limited will help us
service these clients more effectively and in addition will
assist in the obtaining of new opportunities.
Inflation And Increasing Interest Rates
During Fiscal 2002 and Fiscal 2001, inflation has not had a
significant impact on our business. We have generally been able
to offset the impact of rising costs through purchase price
reductions and increases in selling prices. However, any
significant increase in inflation and interest rates could have a
significant effect on the economy in general and, thereby, could
affect our future operating results.
Item 7. Financial Statements.
Set forth below is a list of our financial statements
included in this Annual Report on Form 10-KSB and their location.
Item Page
---- ----
Independent auditors' report ......................... F-1
Independent auditors' report ......................... F-2
Consolidated balance sheet at November 30, 2002 ...... F-3-F-4
Consolidated statements of operations and comprehensive
loss for the years ended November 30, 2002 and 2001... F-5
Consolidated statements of shareholders' equity
for the years ended November 30, 2002 and 2001 ...... F-6
Consolidated statements of cash flows for the years
ended November 30, 2002 and 2001 .................... F-7
Notes to consolidated financial statements ........... F-8-F-36
Item 8. Changes In and Disagreements With Accountants on
Accounting and Financial Disclosure.
On June 3, 2002, we replaced Eisner LLP (formerly Richard A.
Eisner & Company LLP ("Eisner")) as the independent auditors of
our financial statements. We appointed Seligson & Giannattasio
LLP ("S&G") as our new independent auditors for our fiscal year
ended November 30, 2002.
The reports of Eisner for the previous two years did not
contain an adverse opinion or a disclaimer of opinion, and were
not qualified or modified as to uncertainty, audit scope or
accounting principles. Further, we had no disagreements with
Eisner requiring disclosure pursuant to Item 304(a)(1)(iv) of
Regulation S-B, nor were there any reportable events requiring
disclosure pursuant to Item 304(a)(1)(v) of Regulation S-B. In
addition, during our two most recent fiscal years and through the
date of termination of Eisner, neither we nor anyone acting on
our behalf consulted with S&G on matters which would require
disclosure pursuant to Item 304(a)(2) of Regulation S-B.
Eisner has furnished us with a letter, addressed to the
Commission, stating it agrees with the above statements. A copy
of the Eisner letter has been made an exhibit to our current
Report on Form 8-K (Date of Report: June 7, 2002).
PART III
The information required by Items 9, 10, 11 and 12 of this
Part will be incorporated by reference to the Proxy Statement of
the Company to be filed with the Securities and Exchange
Commission on or before March 30, 2003.
Item 13. Exhibits and Reports on Form 8-K.
(a) Exhibits.
Set forth below is a list of the exhibits to this Annual
Report on Form 10-KSB.
Exhibit
Number Description
3.1 Composite of the Certificate of Incorporation of Surge
Components, Inc., as amended to date. (1)(2)
3.2 By-Laws of Surge Components, Inc., as amended to date.
(2)
4.1 Form of Underwriter's Unit Purchase Option. (2)
4.2 Warrant Agreement, among Surge Components, Inc.
Continental Stock Transfer & Trust Company and
Maidstone Financial, Inc. (2)
4.3 Specimen of the Surge common stock certificate. (2)
4.4 Specimen of the Surge Class A common stock purchase
warrant certificate. (2)
10.1 Surge Components 1995 Employee Stock Option Plan. (2)
10.2 Superus Holdings, Inc. Incentive Stock Plan. (3)
10.3 Form of sales representative agreement. (2)
10.4 Termination, Release and Debt Discharge Agreement,
dated as of December 4, 2000, among Global DataTel,
Inc. and all of its subsidiaries, Surge Components,
Inc., GDIS Acquisition Corp. and Superus Holdings, Inc.
(4)
10.5 Subordinated Convertible Promissory Note of Global
DataTel, Inc. in the principal amount of $1,250,000 and
payable to Surge Components, Inc. (4)
10.6 Lease, dated October 1, 2000, between Great American
Realty of 95 Jefryn Blvd., LLC and Surge Components,
Inc. (5)
10.7 Lease, dated October 1, 2000, between Great American
Realty of 95 Jefryn Blvd., LLC and Surge/Challenge,
Inc. (5)
10.8 Agreement, dated as of March 6, 2001, by, and among
Surge Components, Inc., MailEncrypt, Inc. and the
former stockholders of MailEncrypt.com Inc. (5)
10.9 Stock Exchange Agreement dated as of October 23, 2001,
by and among Surge Components, Inc. and David Bird,
Adam J. Epstein, Chris Harano, Michael Patchen and
Thomas Taulli (6)
10.10 Financing Agreement dated July 2, 2002, by and among
Surge Components, Inc. and Rosenthal & Rosenthal, Inc.
(7)
10.11 Mutual Release, Settlement, Standstill and Non-
Disparagement Agreement, dated as of April 12, 2002, by
and among Surge Components, Inc. and Equilink Capital
Partners, LLC, Robert DePalo, Old Oak Fund Inc. and
Kenneth Orr. (8)
10.12 Redemption Agreement, dated as of April 3, 2001 by and
among Surge Components, Inc., Robert DePalo and
Equilink Capital Partners, LLC. (9)
10.13 Termination and Separation Agreement dated as of July
9, 2001, among Craig Carlson, Surge Components, Inc. and Superus
Holdings, Inc. (10)
10.14 Termination and Separation Agreement dated as of July
11, 2001, among Adam J. Epstein, Surge Components, Inc. and
Superus Holdings, Inc. (10)
11 Statement re computation of per share earnings.
21.1 Subsidiaries of Surge Components, Inc.
23.1 Consent of Eisner LLP (formerly Richard A. Eisner &
Company, LLP)
23.2 Consent of Seligson & Giannattasio, LLP
99.1 Certification pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
99.2 Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
99.3 Report and Certification of Trustee in No Asset Case filed
in the United States Bankruptcy Court District of Delaware by
Jeffrey L. Burtch, Trustee of Superus Holdings, Inc. dated June
18, 2002.
_______________________
(1) Incorporated by reference from our Current Report on
Form 8-K (Date of Report: November 16, 2000) filed with
the SEC on December 1, 2000.
(2) Incorporated by reference from our Registration
Statement on Form SB-2 (No. 333-630 NY) declared
effective by the Securities and Exchange Commission on
July 31, 1996, as amended by our Registration Statement
on Form S-3 (No. 333-63371) declared effective by the
SEC on December 8, 1998.
(3) Incorporated by reference from our Registration
Statement on Form S-4 (No. 333-32790) declared
effective by the SEC on September 16, 2000.
(4) Incorporated by reference from our Current Report on
Form 8-K (Date of Report: December 4, 2000) filed with
the SEC on December 4, 2000.
(5) Incorporated by reference from our Annual Report on
Form 10-KSB, for the fiscal year ended November 30,
2000, filed with the SEC on March 15, 2001.
(6) Incorporated by reference from our Current Report on
Form 8-K (Date of Report: October 23, 2001) filed with
the SEC on November 2, 2001.
(7) Incorporated by reference from our Quarterly Report on
Form 10-QSB, for the fiscal quarter ended August 31,
2002, filed with the SEC on October 21, 2002.
(8) Incorporation by reference from our Quarterly Report on
Form 10-QSB, for the fiscal quarter ended February 28,
2002, filed with the SEC on April 22, 2002.
(9) Incorporation by reference from our Quarterly Report on
Form 10-QSB, for the fiscal quarter ended February 28,
2001, filed with the SEC on April 19, 2001.
(10) Incorporation by reference from our Quarterly Report on
Form 10-QSB, for the fiscal quarter ended May 31, 2001,
filed with the SEC on July 23, 2001.
(b) Reports on Form 8-K
None.
Item 14. Controls and Procedures
Within the 90 days prior to the date of this report, the
Company carried out an evaluation, under the supervision and with
the participation of the Company's management, including the
Company's Chief Executive Officer and Chief Financial Officer, of
the effectiveness of the design and operation of the Company's
disclosure controls and procedures pursuant to Exchange Act Rule
13a-14. Based upon the evaluation, the Chief Executive Officer
and Chief Financial Officer concluded that the Company's
disclosure controls and procedures are effective. There were no
significant changes in the Company's internal controls or in
other factors that could significantly affect these controls
subsequent to the date of their evaluation.
CERTIFICATION PURSUANT TO
SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
I, Ira Levy, certify that:
1. I have reviewed this annual report on Form 10-KSB
of Surge Components, Inc.;
2. Based on my knowledge, this annual report does not
contain any untrue statement of a material fact or omit to state
a material fact necessary to make the statements made, in light
of the circumstances under which such statements were made, not
misleading with respect to the period covered by this annual
report;
3. Based on my knowledge, the financial statements,
and other financial information included in this annual report,
fairly present in all material respects the financial condition,
results of operations and cash flows of the registrant as of, and
for, the periods presented in this annual report;
4. The registrant's other certifying officers and I
are responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act Rules 13a-14
and 15d-14) for the registrant and have:
(a) designed such disclosure controls and
procedures to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made
known to us by others within those entities, particularly during
the period in which this annual report is being prepared;
(b) evaluated the effectiveness of the
registrant's disclosure controls and procedures as of a date
within 90 days prior to the filling date of this annual report
(the "Evaluation Date"); and
(c) presented in this annual report our
conclusions about the effectiveness of the disclosure controls
and procedures based on our evaluation as of the Evaluation Date.
5. The registrant's other certifying officers and I
have disclosed, based on our most recent evaluation, to the
registrant's auditors and the audit committee of registrant's
board of directors (or persons performing the equivalent
functions):
(a) all significant deficiencies in the design or
operation of internal controls which could adversely affect the
registrant's ability to record, process, summarize and report
financial data and have identified for the registrant's auditors
any material weaknesses in internal controls; and
(b) any fraud, whether or not material, that
involves management or other employees who have a significant
role in the registrant's internal controls.
6. The registrant's other certifying officers and I
have indicated in this annual report whether or not there were
significant changes in internal controls or in other factors that
could significantly affect internal controls subsequent to the
date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material
weaknesses.
Date: March 11, 2003
/s/Ira Levy
-----------------------------------
Name: Ira Levy
Title: Chief Executive Officer
(Principal Executive Officer)
CERTIFICATION PURSUANT TO
SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
I, Steven J. Lubman, certify that:
1. I have reviewed this annual report on Form 10-KSB
of Surge Components, Inc.;
2. Based on my knowledge, this annual report does not
contain any untrue statement of a material fact or omit to state
a material fact necessary to make the statements made, in light
of the circumstances under which such statements were made, not
misleading with respect to the period covered by this annual
report;
3. Based on my knowledge, the financial statements,
and other financial information included in this annual report,
fairly present in all material respects the financial condition,
results of operations and cash flows of the registrant as of, and
for, the periods presented in this annual report;
4. The registrant's other certifying officers and I
are responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act Rules 13a-14
and 15d-14) for the registrant and have:
(a) designed such disclosure controls and
procedures to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made
known to us by others within those entities, particularly during
the period in which this annual report is being prepared;
(b) evaluated the effectiveness of the
registrant's disclosure controls and procedures as of a date
within 90 days prior to the filling date of this annual report
(the "Evaluation Date"); and
(c) presented in this annual report our
conclusions about the effectiveness of the disclosure controls
and procedures based on our evaluation as of the Evaluation Date.
5. The registrant's other certifying officers and I
have disclosed, based on our most recent evaluation, to the
registrant's auditors and the audit committee of registrant's
board of directors (or persons performing the equivalent
functions):
(a) all significant deficiencies in the design or
operation of internal controls which could adversely affect the
registrant's ability to record, process, summarize and report
financial data and have identified for the registrant's auditors
any material weaknesses in internal controls; and
(b) any fraud, whether or not material, that
involves management or other employees who have a significant
role in the registrant's internal controls.
6. The registrant's other certifying officers and I
have indicated in this annual report whether or not there were
significant changes in internal controls or in other factors that
could significantly affect internal controls subsequent to the
date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material
weaknesses.
Date: March 11, 2003
/s/ Steven J. Lubman
-----------------------------------
Name: Steven J. Lubman
Title: Vice President - Finance
(Principal Financial Officer)
SURGE COMPONENTS, INC. AND SUBSIDIARIES
Contents
--------
Consolidated Financial Statements
Independent auditors' report F-1
Independent auditors' report F-2
Consolidated balance sheet as of
November 30, 2002 F-3-F-4
Consolidated statements of operations and
comprehensive loss for the years ended
November 30, 2002 and 2001 F-5
Consolidated statements of changes in
shareholders' equity for the years ended
November 30, 2002 and 2001 F-6
Consolidated statements of cash flows
for the years ended November 30, 2002 and 2001 F-7-F-8
Notes to consolidated financial statements F-9-F-36
Supplementary Information
Exhibit 11 - computation of earnings per common share
INDEPENDENT AUDITORS' REPORT
To The Board of Directors and Shareholders
Surge Components, Inc.
We have audited the accompanying consolidated balance sheet of
Surge Components, Inc. and subsidiaries as of November 30, 2002
and the related consolidated statements of operations and
comprehensive loss, changes in shareholders' equity and cash
flows for the year then ended. These consolidated financial
statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial
statements based on our audit.
We conducted our audit in accordance with auditing standards
generally accepted in the United States of America. Those
standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are
free of material misstatement. An audit includes examining, on
a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by
management, as well as evaluating the overall financial
statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, the financial statements enumerated above
present fairly, in all material respects, the consolidated
financial position of Surge Components, Inc. and subsidiaries as
of November 30, 2002 and the consolidated results of their
operations and their consolidated cash flows for the year then
ended in conformity with accounting principles generally
accepted in the United States of America.
/s/Seligson & Giannattasio, LLP
Seligson & Giannattasio, LLP
N. White Plains, New York
January 30, 2003
(except for Note I as to which
the date is March 6, 2002)
INDEPENDENT AUDITORS' REPORT
Board of Directors and Shareholders
Surge Components, Inc.
We have audited the accompanying consolidated statements of
operations and comprehensive loss, changes in shareholders'
equity and cash flows of Surge Components, Inc. and subsidiaries
for the year ended November 30, 2001. These consolidated
financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on
these financial statements based on our audit.
We conducted our audit in accordance with auditing standards
generally accepted in the United States of America. Those
standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are
free of material misstatement. An audit includes examining, on
a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by
management, as well as evaluating the overall financial
statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, the financial statements enumerated above
present fairly, in all material respects, the consolidated
results of their operations and their consolidated cash flows
for the year ended November 30, 2001 of Surge Components, Inc.
and subsidiaries in conformity with accounting principles
generally accepted in the United States of America.
/s/ Eisner LLP
(formerly Richard A. Eisner & Company, LLP)
New York, New York
February 11, 2002
(except for Note A as to which
the date is March 8, 2002)
SURGE COMPONENTS, INC. AND SUBSIDIARIES
Consolidated Balance Sheet
November 30, 2002
ASSETS
------
Current assets:
Cash $1,494,441
Marketable securities - available for sale 270,145
Accounts receivable (net of allowance for
doubtful accounts of $40,335) 1,557,947
Inventory, net 2,121,198
Prepaid expenses and income taxes 116,946
----------
Total current assets $5,560,677
Fixed assets - net of accumulated depreciation
and amortization of $814,505 1,173,585
Other assets 4,054
----------
Total assets $6,738,316
==========
SURGE COMPONENTS, INC. AND SUBSIDIARIES
Consolidated Balance Sheet
November 30, 2002
LIABILITIES AND SHAREHOLDERS' EQUITY
------------------------------------
Current liabilities:
Debt not in compliance with terms $ 467,071
Accounts payable 1,774,738
Accrued expenses 859,320
------------
Total current liabilities 3,101,129
Deferred rent 48,306
------------
Total liabilities 3,149,435
------------
Minority interest 25,328
------------
Commitments and contingencies
Shareholders' equity
Preferred stock - $.001 par value stock,
1,000,000 shares authorized:
Series A - 260,000 shares authorized,
none outstanding.
Series B - 200,000 shares authorized,
none outstanding.
Series C - 100,000 shares authorized,
42,700 shares issued and outstanding,
redeemable, convertible, and a
liquidation preference of $5 per share 43
Common stock - $.001 par value stock,
25,000,000 shares authorized,
8,743,326 shares issued and outstanding 8,744
Additional paid-in capital 22,980,955
Stock subscriptions receivable (3,500)
Accumulated other comprehensive loss -
unrealized loss on marketable securities -
available for sale (17,439)
Accumulated deficit (19,405,250)
-----------
Total shareholders' equity 3,563,553
-----------
Total liabilities and shareholders' equity $ 6,738,316
============
See notes to consolidated financial statements.
SURGE COMPONENTS, INC. AND SUBSIDIARIES
Consolidated Statements of Operations and Comprehensive Loss
Year Ended November 30,
2002 2001
--------- ----------
Net sales $10,917,439 $15,722,613
Cost of goods sold 7,984,676 12,000,469
----------- ----------
Gross profit 2,932,763 3,722,144
----------- ----------
Operating expenses:
Selling and shipping 1,002,916 1,308,517
General and administrative 3,317,699 6,037,413
Financial consulting services 263,850 2,333,676
(Recovery) on termination of the
Global acquisition -- (46,000)
Loss on MailEncrypt -- 902,919
---------- ----------
Total operating expenses 4,584,465 10,536,525
---------- ----------
Loss before other income
(expense) and income taxes (1,651,702) (6,814,381)
---------- ----------
Other income (expense):
Other income -- 1,000,000
Investment income 50,716 232,680
Interest expense (including
amortization of debt costs) (57,686) (449,817)
Loss on sale of securities (81,282) (43,372)
---------- ----------
Other income (expenses) (88,252) 739,491
---------- ----------
(1,739,954) (6,074,890)
Minority interest (8,407) --
---------- ----------
Loss before income taxes (1,731,547) (6,074,890)
Income taxes 8,832 35,792
---------- ----------
Net loss (1,740,379) (6,110,682)
Dividends on preferred stock 26,175 6,625
---------- ----------
Net loss available to common shareholders $(1,766,554) $(6,117,307)
========== ==========
Other comprehensive loss:
Net loss (1,740,379) (6,110,682)
Unrealized holding gain (loss)
on investment securities (44,473) 62,661
Reclassification adjustment - loss
on sale of securities 81,282 43,371
---------- ----------
Total comprehensive loss $(1,703,570) $ (6,004,650)
========== ==========
Weighted average shares outstanding
Basic 8,848,530 7,390,314
Diluted 8,848,530 7,390,314
(Loss) available to common
shareholders per share
Basic $ (.20) $ (.83)
Diluted $ (.20) $ (.83)
See notes to consolidated financial statements.
SURGE COMPONENTS, INC. AND SUBSIDIARIES
Consolidated Statements of Changes in Shareholders' Equity
Years ended November 30, 2002 and 2001
Additional
Series C Preferred Common Paid-In
Shares Amount Shares Amount Capital
------ ------ ------ ------ ----------
Balance -
December 1, 2000 70,000 $ 70 5,987,275 $5,987 $15,225,080
Repurchase and
retirement of shares (8,000) (8) (423,000) (423) (649,569)
Proceeds from options
exercised common
Stock -- -- 27,550 28 36,210
Loan to employee
to exercise options -- -- -- -- --
Conversion of debt -- -- 2,800,004 2,800 6,997,200
Conversion of interest
payable -- -- 415,053 415 937,182
Conversion of
promissory notes -- -- 200,566 201 513,247
Amortization of
unearned compensation -- -- -- -- --
Shares issued for
non-employee services -- -- 15,000 15 28,110
Preferred stock dividends -- -- -- -- (6,625)
Net unrealized gains on
available for
sale securities -- -- -- -- --
Net loss -- -- -- -- --
------ ----- --------- ----- ----------
Balance -
November 30, 2001 62,000 62 9,022,448 9,023 23,080,835
Repurchase and
retirement of shares (19,300) (19) (279,122) (279) (73,705)
Repayment of loan
from employee to
exercise options -- -- -- -- --
Preferred stock dividends -- -- -- -- (26,175)
Net unrealized gain on
available for
sale securities -- -- -- -- --
Net loss -- -- -- -- --
------ ------ --------- ----- ----------
Balance -
November 30, 2002 42,700 $43 8,743,326 $8,744 $22,980,955
======= ====== ========= ====== ===========
Net Unrealized Unearned
Stock Gain (Loss) Compensation
Subscriptions On Investment Equity Accumulated
Receivable Securities Instruments Deficit Total
------------- -------------- ------------ ----------- ----------
Balance -
December 1, 2000 $ -- $ (124,573) $(2,170,838) $(11,554,189) $ 1,381,537
Repurchase and
retirement of shares -- -- -- -- (650,000)
Proceeds from options
exercised common
Stock -- -- -- -- 36,238
Loan to employee
to exercise options (9,200) -- -- -- (9,200)
Conversion of debt -- -- -- -- 7,000,000
Conversion of interest
payable -- -- -- -- 937,597
Conversion of
promissory notes -- -- -- -- 513,448
Amortization of
unearned compensation -- -- 2,170,838 -- 2,170,838
Shares issued for
non-employee services -- -- -- -- 28,125
Preferred stock dividends-- -- -- -- (6,625)
Net unrealized gains on
available for
sale securities -- 62,661 -- -- 62,661
Net loss -- -- -- (6,110,682) (6,110,682)
------- -------- ---------- ----------- -----------
Balance -
November 30, 2001 (9,200) (61,912) -- (17,664,871) 5,353,937
Repurchase and
retirement of shares -- -- -- -- (74,003)
Repayment of loan
from employee to
exercise options 5,700 -- -- -- 5,700
Preferred stock dividends -- -- -- -- (26,175)
Net unrealized gain on
available for
sale securities -- 44,473 -- -- 44,473
Net loss -- -- -- (1,740,379) (1,740,379)
------ ------- ---------- ------------ -----------
Balance -
November 30, 2002 $(3,500) $(17,439) -- $(19,405,250) $3,563,553
======== ======== ========== ============ ===========
See notes to consolidated financial statements.
SURGE COMPONENTS, INC. AND SUBSIDIARIES
Consolidated Statements Of Cash Flows
Year Ended November 30,
2002 2001
--------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $(1,740,379) $(6,110,682)
Adjustments to reconcile net
loss to net cash provided by operating
activities:
Depreciation and amortization 338,799 249,749
Provision for losses on accounts receivable -- 12,642
Inventory provision for losses on inventory 19,249 1,031,982
Amortization of unearned compensation -- 2,170,838
Minority interest 25,328 --
Loss on sale of securities 81,282 43,372
Loss on MailEncrypt -- 830,158
Consulting services paid with stock -- 28,125
CHANGES IN OPERATING ASSETS AND LIABILITIES:
Accounts receivable 52,085 1,396,114
Inventory 170,965 (326,030)
Prepaid expenses and taxes 25,508 663,950
Other assets 3,931 140,733
Accounts payable (541,020) 119,672
Accrued expenses and taxes (280,335) (45,255)
Deferred rent 19,396 28,910
--------- ----------
NET CASH FLOWS FROM OPERATING ACTIVITIES (1,825,191) 234,278
--------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of marketable securities (31,011) (102,671)
Sale of marketable securities 900,590 1,250,000
Net amounts due under repurchase agreement 1,054,602 (1,054,602)
Acquisition of fixed assets (33,498) (1,350,713)
Loans to MailEncrypt -- (222,970)
--------- ----------
NET CASH FLOWS FROM INVESTING ACTIVITIES 1,890,683 (1,480,956)
--------- ----------
See notes to consolidated financial statements.
SURGE COMPONENTS, INC. AND SUBSIDIARIES
Consolidated Statements Of Cash Flows
Year Ended November 30,
2002 2001
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from stock subscriptions 5,700 --
Proceeds from loan payable 467,071 --
Dividends paid on preferred stock -- (6,625)
Proceeds on exercise of warrants and options -- 27,038
Purchase and retirement of treasury stock (74,003) (650,000)
--------- ----------
NET CASH FLOWS FROM FINANCING ACTIVITIES 398,768 (629,587)
--------- ----------
NET INCREASE (DECREASE) IN CASH 464,260 (1,876,265)
CASH AT BEGINNING OF YEAR 1,030,181 2,906,446
--------- ----------
CASH AT END OF YEAR $1,494,441 $1,030,181
========= ==========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Income taxes paid $ 11,277 $ 11,166
========= =========
Interest paid $ 57,686 $ 31,911
======== =========
NONCASH INVESTING AND FINANCING ACTIVITIES:
Repayment of notes and convertible notes payable
through issuance of stock -- 7,513,448
Interest paid with common stock -- 937,597
Stock subscription receivable -- 9,200
Accrued dividends on preferred stock 26,175 --
See notes to consolidated financial statements.
NOTE A - ORGANIZATION, DESCRIPTION OF COMPANY'S BUSINESS AND
BASIS OF PRESENTATION
Surge Components, Inc. ("Surge") was incorporated in the State
of New York and commenced operations on November 24, 1981 as an
importer of electronic products, primarily capacitors and
rectifiers, to customers located principally throughout the
United States. On June 24, 1988, Surge formed Challenge/Surge
Inc., ("Challenge") a wholly-owned subsidiary to engage in the
distribution of electronic component products from established
brand manufacturers to customers located principally throughout
the United States.
In January 2000, Surge formed Mail Acquisition Corp. ("MAC") a
Delaware corporation, as a wholly-owned subsidiary. On November
16, 2000, MailEncrypt.com, Inc. ("Mail"), a California based
development stage company, developing Web-based encrypted e-mail
solutions was acquired conditionally by MAC. On October 23,
2001, the Mail transaction was unwound (Note D). MAC is
currently inactive.
In January 2000, Surge formed GDIS Acquisition Corp., a Delaware
corporation, as a wholly owned subsidiary. On November 30,
2000, the entity changed its name to SolaWorks, Inc.
("SolaWorks"). SolaWorks is currently inactive.
In March 2000, Surge formed Superus Holdings, Inc. ("Superus"),
a Delaware corporation, as a wholly owned subsidiary. Superus,
inactive at March 8, 2002, filed a petition for bankruptcy under
Chapter 7 of the Bankruptcy Code. The court is currently
reviewing the bankruptcy petition.
In July 2000, Surge entered into a joint venture agreement with
Lelon Electronics Corp. (a supplier of component parts to Surge)
to form Surge/Lelon LLC, a Delaware limited liability company.
The Company has membership interests in the joint venture
totaling 55%. Operations commenced in August 2002. Surge/Lelon
LLC operations have been consolidated with the Company. The
ownership of Lelon Electronics in this joint venture, totaling
45%, has been reported as a minority interest.
In May 2002, Surge and an officer of Surge became sole owners of
Surge Components, Limited ("Surge Limited"), a Hong Kong
corporation. Under current Hong Kong law, Surge Limited is
required to have at least two shareholders. Surge owns 999 shares
of the outstanding common stock and the officer of Surge owns one
share of the outstanding common stock. The officer of Surge has
assigned his rights regarding his one share to Surge. Surge
Limited started doing business in July 2002. Surge Limited's
operations have been consolidated with the Company.
The accompanying financial statements have been prepared
assuming that the Company will be able to sustain its operations
through November 30, 2003. While the Company has experienced
recurring net losses, management has estimated that the Company
will be able to reduce operating expenses and maintain adequate
liquidity based on information currently available, to meet its
obligations without having to dispose of assets in other than
the normal course of business.
NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
[1] Principles of Consolidation:
The consolidated financial statements include the accounts of
Surge, Challenge, Superus, Surge/Lelon, Surge Acquisition
Corporation and Surge Limited (collectively the "Company"). All
material intercompany balances and transactions have been
eliminated in consolidation.
[2] Revenue Recognition:
Revenue is recognized when product is shipped from the Company's
warehouse. For direct shipments, revenue is recognized when
product is shipped from the Company's supplier.
The Company performs ongoing credit evaluation of its customers
and maintains reserves for potential credit losses. During
February 2002, the Company obtained $2,000,000 of credit
insurance covering most of their customers.
[3] Marketable Securities:
The Company accounts for marketable securities in accordance
with Statement of Financial Accounting Standards ("SFAS") No.
115 "Accounting for Certain Investments in Debt, and Equity
Securities". Under this standard, certain investments in debt
and equity securities are reported at fair value. The Company's
marketable securities, which consist primarily of mutual funds,
are being reported as securities available for sale. The
unrealized loss on these securities is reflected as a separate
component of shareholders' equity and any changes in their value
are included in comprehensive loss.
The value of these securities at November 30, 2002 is as
follows:
Cost $287,584
Cumulative unrealized loss (17,439)
--------
$270,145
========
Cost used in the computation of realized gains and losses is
determined using the average cost method. During Fiscal 2002,
the Company sold $900,590 of marketable securities and had a
realized loss of $81,282. During Fiscal 2001, the Company sold
$1,250,000 of marketable securities and had a realized loss of
$43,372.
[4] Inventories:
Inventories, which consist solely of products held for resale,
are stated at the lower of cost (first-in, first-out method) or
market. Products are included in inventory when shipped from
the supplier. Inventory in transit principally from foreign
suppliers at November 30, 2002 approximated $449,000. The
Company, at November 30, 2002, has a reserve against slow moving
and obsolete inventory of approximately $1,051,000.
[5] Depreciation and Amortization:
Fixed assets are recorded at cost. Depreciation is generally
provided on a straight line method and amortization of leasehold
improvements is provided for on the straight-line method over
the shorter of the lease term or the estimated useful lives of
the various assets as follows:
Furniture, fixtures and equipment 5 - 7 years
Computer equipment 5 years
Leasehold Improvements Estimated useful
life or lease
term, whichever is
shorter
Maintenance and repairs are expensed as incurred while renewals
and betterments are capitalized.
[6] Concentration of Credit Risk:
Financial instruments that potentially subject the Company to
concentrations of credit risk consist principally of notes and
accounts receivable. The Company maintains substantially all of
its cash balances in two financial institutions. The balances
are each insured by the Federal Deposit Insurance Corporation up
to $100,000. At November 30, 2002, the Company's uninsured cash
balances totaled approximately $1,242,415.
[7] Deferred Acquisition Costs:
Deferred acquisition costs consisted of expenses for financial
consulting services related to the acquisition of
MailEncrypt.com, Inc. ("Mail"). The costs were expensed as a
result of the Mail transaction being unwound during Fiscal 2001
(see Note D).
[8] Income Taxes:
The Company's deferred income taxes arise primarily from the
differences in the recording of net operating losses, allowances
for bad debts, inventory reserves and depreciation expense for
financial reporting and income tax purposes. Income taxes are
reported under the liability method pursuant to SFAS No. 109
"Accounting for Income Taxes". A valuation allowance is
provided when the likelihood of realization of deferred tax
assets is not assured.
[9] Cash Equivalents:
The Company considers all highly liquid investments with an
original maturity of three months or less to be cash
equivalents.
[10] Use of Estimates:
The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of
America requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenue and
expenses during the reporting period. Actual results could
differ from those estimates.
[11] Loan Costs:
Loan costs related to the convertible notes payable (Note G)
were amortized over the terms of the underlying debt.
[12] Accounting for Stock-Based Compensation:
The Company accounts for its employee stock-based compensation
plans under Accounting Principles Board Opinion ("APB") No. 25,
"Accounting for Stock Issued to Employees" and its related
interpretations. In October 1995, the Financial Accounting
Standards Board issued SFAS No. 123, "Accounting for Stock-Based
Compensation", which established a fair value-based method of
accounting for stock-based compensation plans. The Company
utilizes the intrinsic value method for grants to employees and
directors and has adopted the disclosure only alternative under
SFAS No. 123. SFAS No. 123 requires disclosure of the pro forma
effects on net income (loss) and net income (loss) per share as
if the stock-based compensation was measured utilizing the fair
value method as well as certain other information. The Company
accounts for stock-based compensation to nonemployees using the
fair value method in accordance with SFAS No. 123.
[13] Fair Value of Financial Instruments:
Cash balances and the carrying amount of the accrued expenses
approximate their fair value based on the nature of those items.
Estimated fair values of financial instruments are determined
using available market information. In evaluating the fair
value information, considerable judgment is required to
interpret the market data used to develop the estimates. The
use of different market assumptions and/or different valuation
techniques may have a material effect on the estimated fair
value amounts. Accordingly, the estimates of fair value
presented herein may not be indicative of the amounts that could
be realized in a current market exchange.
[14] Earnings (Loss) Per Share:
The Company calculates earnings (loss) per share in accordance
with SFAS No. 128, "Earnings Per Share". The earnings (loss)
has been adjusted for cumulative dividends on preferred stock.
Basic earnings (loss) per share was computed by dividing net
income (loss) by the weighted average number of common shares
outstanding. Diluted earnings per share is computed by dividing
net income by the weighted average number of common shares
outstanding and is adjusted for the dilutive effect of shares
issuable upon the exercise of options and warrants and the
conversion of notes payable and preferred stock. The Company had
a net loss for Fiscal 2002 and Fiscal 2001, and accordingly,
potential common share equivalents are excluded from this
computation as the effect would be anti-dilutive. These
potential dilutive common shares consist of the following:
Potential Dilutive Common Shares
2002 2001
---------- -----------
Preferred Series C stock 427,000 620,000
Stock options 6,445,501 6,239,499
Warrants 5,423,969 5,423,969
---------- ---------
12,296,470 12,283,468
========== ==========
[15] Recently Issued Accounting Standards:
In June 2001, Statement of Financial Accounting Standards No.
141, "Business Combinations", and No. 142, "Goodwill and Other
Intangible Assets", was issued and is effective for fiscal years
beginning after December 15, 2001. Under the new rules, the
pooling of interests method of accounting for acquisitions is no
longer allowed and goodwill and intangible assets deemed to have
indefinite lives will no longer be amortized but will be subject
to annual impairment tests. The Company currently has no
goodwill or intangible assets.
On October 3, 2001, Statement of Financial Accounting Standards
No. 144, "Accounting for the Impairment or Disposal of Long-
Lived Assets" ("SFAS 144"), was issued and is applicable to
financial statements issued for fiscal years beginning after
December 15, 2001. New rules on asset impairment supercede
SFAS 121 "Accounting for the Impairment of Long-Lived Assets
and for Long-Lived Assets to be Disposed of", and portions of
APB No. 30, "Reporting the Results of Operations". This
standard provides a single accounting model for long-lived
assets to be disposed of and significantly changes the criteria
that would have to be met to classify an asset as held-for-
sale. Classification as held-for-sale is an important
distinction since such assets are stated at the lower of fair
value or carrying amount. This standard also requires expected
future operating losses from discontinued operations to be
reflected in the periods in which the losses are incurred,
rather than as of the measurement date as previously required.
The Company is currently assessing the potential impact of SFAS
144 on its operating results and financial position.
On July 30, 2002, the FASB issued Statement of Financial
Accounting Standards No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities" ("SFAS 146"), that is
applicable to exit or disposal activities initiated after
December 31, 2002. This standard requires companies to
recognize costs associated with exit or disposal activities
when they are incurred rather than at the date of a commitment
to an exit or disposal plan. This standard does not apply
where SFAS 144 is applicable. The Company does not currently
have any activities subject to this pronouncement.
On December 31, 2002, the FASB issued Statement of Financial
Accounting Standards No. 148, "Accounting for Stock-Based
Compensation-Transition and Disclosure" ("SFAS 148"), that is
applicable to financial statements issued for fiscal years
ending after December 15, 2002. In addition, interim
disclosure provisions are applicable for financial statements
issued for interim periods ending after December 15, 2002.
This standard amends SFAS 123 and provides guidance to
companies electing to voluntarily change to the fair value
method of accounting for stock-based compensation. In
addition, this standard amends SFAS 123 to require more
prominent and more frequent disclosures in financial statements
regarding the effects of stock-based compensation.
NOTE C - DUE UNDER REPURCHASE AGREEMENT
In September 2001, the Company entered into an agreement with a
subsidiary of Invensys Plc. ("Maple Chase") pursuant to which
the Company paid approximately $1,250,000 for certain inventory
held by Maple Chase who agreed to repay the Company, in non-
interest installments over 12 months for such inventory (the
"Repurchase Agreement"). For accounting purposes, the amount
paid by the Company under the Repurchase Agreement was treated
as a one year financing. All amounts due under the Repurchase
Agreement were repaid prior to November 30, 2002.
NOTE D - TERMINATED ACQUISITIONS
GLOBAL DATATEL, INC.
In October 1999, the Company entered into a merger agreement with
Global Datatel, Inc. ("Global"). In December 1999, the parties
terminated the merger agreement and entered into an asset
purchase agreement with Global. Among other provisions, the
Company agreed to purchase the assets of Global and its
subsidiaries ("Global Acquisition") in exchange for 239,000
shares of the Company's Series A Redeemable Convertible Preferred
Stock ("Series A Preferred"), which were being held in escrow by
Surge.
On November 3, 2000, due to the failure in obtaining regulatory
and other required approvals and various conditions not having
been met by Global, the Company terminated the Asset Purchase
Agreement and the Series A preferred shares were returned to the
Company and cancelled. The Company entered into a Termination,
Release and Debt Discharge Agreement with Global in which
approximately $4,505,000 of Global indebtedness, plus interest
of approximately $119,000 as of November 3, 2000, due to the
Company under a loan and pledge agreement was settled. In
connection with the settlement, the Company obtained a new note
for $1,250,000 due on December 4, 2001. The new note was to be
cancelled if no litigation was commenced against the Company
relating to Global and/or its termination of the Global
agreement. Litigation was commenced against the Company related
to Global (Note Q). The Company provided a 100% reserve for this
remaining note due to doubtful collectibility. In addition, the
Company had given as collateral, a $500,000 certificate of
deposit for Global bank loans totaling $500,000. The Company had
written off the value of the certificate of deposit due to
Global's inability to repay its loans during the year ended
November 30, 2000. In May 2001, the bank demanded payment per
the terms of the guarantee and claimed $454,000 of the
certificate of deposit. The remaining $46,000, which is shown as
"Recovery of Global Settlement" on the statement of operations,
plus interest of approximately $25,000 were returned to the
Company.
MAILENCRYPT.COM, INC.
In February 2000, the Company entered into a merger agreement to
purchase Mail in exchange for 1,821,400 shares of Superus Class
B Common Stock. On November 16, 2000, the Company, Mail, MAC
and the former Mail shareholders executed a Merger Agreement and
Plan of Reorganization superseding the February 2000 agreement
to reflect the termination of the Company's acquisition of
Global Datatel (the "Global Acquisition") and the elimination of
Superus Class B Common Stock. On November 16, 2000, the Company
issued 182,140 shares of Voting Redeemable Convertible Series B
Preferred Stock of the Company ("Series B Preferred") to the
shareholders of Mail, which was subject to shareholder approval
that was never received. The Company paid a finder's fee of
100,000 shares of the Company's Common Stock valued at $268,750,
based upon the market price on the date issued.
On October 23, 2001, the Company unwound the Mail transaction by
returning the 100 shares of Mail common stock in exchange for
the return of the 182,140 shares of Series B Preferred Stock it
had issued pending completion of the Mail acquisition.
As of November 30, 2000, the Company had advanced $875,000 in
loans to Mail for which the Company provided for a 100% reserve
against these loans due to doubtful collectibility. Subsequent
to November 30, 2000, the Company advanced an additional
$222,970. These advances were expensed upon the unwinding of
the Mail acquisition.
NOTE E - FIXED ASSETS
Fixed assets consist of the following at November 30, 2002:
Furniture and fixtures $ 350,988
Leasehold improvements 851,649
Computer equipment 785,453
----------
1,988,090
Less - accumulated depreciation (814,505)
----------
Total fixed assets $1,173,585
==========
Depreciation and amortization expense for the years ended
November 30, 2002 and 2001 was $338,799 and $249,749,
respectively.
NOTE F - CONVERTIBLE NOTES PAYABLE
In March 2000, the Company completed a $7,000,000 private
placement offering (the "Private Placement") of convertible
promissory notes (the "Notes"). The Notes accrued interest at
the rate of 12% per annum and were due on December 31, 2000, or
earlier upon shareholder approval, which was obtained on
October 17, 2000. Since the Global acquisition did not occur,
these notes were to automatically convert into shares of the
Company's Common Shares (the "Common Shares") at a conversion
price of $2.50 per Common Share. On February 1, 2001, NASDAQ
advised the Company that in order to comply with NASDAQ's
rules, absent specific shareholder approval, the Company must
limit the delivery of Common Shares to no greater than 19.9% of
the Company's outstanding Common Shares at the time the Private
Placement commenced. Accordingly, in February 2001, the
Company converted $2,478,655 principal amount of the Notes into
991,462 Common Shares. On July 10, 2001, the shareholders of
the Company approved a proposal to authorize the issuance and
delivery of 1,808,542 Common Shares, pursuant to the automatic
conversion of the Notes issued in the Private Placement plus up
to an additional 407,185 Common Shares in payment of accrued
interest if the Note holder chose to receive shares.
Following the approval of such proposal, the Company issued to
the holders of the Notes (a) 1,808,542 Common Shares in order
to fully satisfy the Company's delivery obligation in
connection with the automatic conversion of the principal
amount of the Notes and (b) 60,753 shares to the Note holders
who agreed to accept the Common Shares for the payment of the
accrued interest due on the Notes through December 31, 2000.
The Company accrued additional interest through the dates the
notes were converted of approximately $282,000. In October and
November 2001, 270,954 Common Shares valued at $740,000 for
accrued interest were issued in partial payment of such accrued
interest, to those who agreed to accept Common Shares in lieu
of cash. During Fiscal 2001, the Company incurred
approximately $313,000 of interest expense on the Notes.
In March 2002, the Company entered into agreements with two
shareholders to settle a dispute as to the form of payment of
interest on certain of the Notes. The Company paid these
shareholders an aggregate of $32,854, in exchange for 17,522
shares of Common Shares originally issued to them for converted
interest. These Common Shares have been returned and retired.
NOTE G - CONVERTIBLE PROMISSORY NOTES PAYABLE
In November 2000, the Company raised approximately $513,000,
including an exchange for $262,000 of debt and accrued interest
and issued convertible notes due December 31, 2001. These
notes paid interest at the rate of 6% per annum through
December 31, 2000 and thereafter at 12% until the outstanding
principle amount was converted into Common Shares. These notes
were converted into Common Shares at $2.56 per share. In
November 2001, the principal and portion of the accrued
interest on these notes were converted into 283,912 Common
Shares. During Fiscal 2001, the Company incurred approximately
$104,000 of interest expense on these notes.
NOTE H - RETIREMENT PLAN
In June 1997, the Company adopted a qualified 401(k) plan (the
"Plan") for all full-time employees who are twenty-one years of
age and have completed twelve months of service. The Plan
allows total employee contributions of up to fifteen percent
(15%) of the eligible employee's salary through salary
reduction. The Company makes a matching contribution of twenty
percent (20%) of each employee's contribution for each dollar
of employee deferral up to five percent (5%) of the employee's
salary. Net assets for the Plan, as estimated by Best of
America Group Pension Series, which maintains the Plan's
records, were $229,846 at November 30, 2002. Pension expense
for Fiscal 2002 and Fiscal 2001 was $2,544 and $826,
respectively.
NOTE I - SHAREHOLDERS' EQUITY
[1] Preferred Stock:
In February 1996, the Company amended its Certificate of
Incorporation to authorize the issuance of 1,000,000 shares of
preferred stock in one or more series.
Series A Preferred. In January 2000, the Company authorized
260,000 shares of preferred stock as Non-Voting Redeemable
Convertible Series A Preferred Stock ("Series A Preferred")
which was to be issued in connection with the acquisition of
Global. No shares of Series A Preferred are issued or
outstanding as of November 30, 2002.
Series B Preferred. In November 2000, the Company authorized
200,000 shares of preferred stock as Voting Redeemable
Convertible Series B Preferred Stock ("Series B Preferred") in
connection with the acquisition of Mail. In November 2000,
182,140 shares of the Series B Preferred were issued to the
former shareholders of Mail and were held in escrow until the
Mail merger was unwound (Note D). The Company reacquired these
shares in connection with the unwinding of this transaction and
they were retired. No shares of Series B Preferred Stock are
currently issued or outstanding.
Series C Preferred. In November 2000, the Company authorized
100,000 shares of preferred stock as Non-Voting Redeemable
Convertible Series C Preferred Stock ("Series C Preferred") in
payment of financial consulting services. Each share of
Series C Preferred is automatically convertible into 10 Common
Shares upon shareholder approval. If the Series C Preferred was
not converted into Common Shares on or before April 15, 2001,
these shares were entitled to cumulative dividends at the rate
of $.50 per share per annum commencing April 15, 2001, payable
on June 30 and December 31 of each year. In November 2000,
70,000 shares of the Series C Preferred were issued in payment
of financial consulting services to Equilink, its investment
banker and a shareholder of the Company. In April 2001, 8,000
shares of the Series C Preferred were repurchased (see [7]
Redemption Agreement below). The Company paid $6,625 in
dividends on the Series C Preferred on June 30, 2001. Dividends
totaling $15,500 and $10,675 on the Series C Preferred have not
been paid for the semiannual periods ended December 31, 2001 and
June 30, 2002, respectively. The Company has accrued these
dividends. The December 31, 2002 dividend of $10,675 has not
been declared or paid.
In April 2002, in connection with a Mutual Release, Settlement,
Standstill and Non-Disparagement Agreement by and among the
Company and Equilink Capital Partners, LLC ("Equilink"), Robert
DePalo, Old Oak Fund Inc. and Kenneth Orr (collectively, the
"Investors"), among other provisions, the Investors transferred
back to the Company 252,000 Common Shares, 19,300 shares of
Series C Preferred, and certain warrants, representing all of the
Company's securities held by the Investors, and agreed, among
other things, not to purchase any securities of the Company and
not to disparage the Company in any manner, in exchange for
$225,000. In addition, the Company and the Investors mutually
agreed to release each other from all claims each party had, now
has, or in the future might have against the other. The Company
recorded a charge of approximately $193,850 in connection with
this settlement.
At November 30, 2002, 42,700 shares of Series C Preferred Stock
were issued and outstanding.
[2] Warrants:
In connection with the Company's 1995 Private Placement, warrants
to purchase 1,700,000 Common Shares were issued with an exercise
price of $5.00 per share. These warrants expire on July 31,
2003.
On August 8, 1996, the Company completed a public offering of its
Common Shares (the "Public Offering"). The offering consisted of
1,725,000 units, at a selling price of $3.20 per unit. Each unit
consisted of one Common Share and one redeemable Class A Common
Share Purchase Warrant (the "Warrants"). Each Warrant entitles
the holder to purchase one Common Share for a period of five
years commencing two years after the July 31, 1996 effective date
of the Public Offering at a price of $5.00 per share, subject to
redemption. At November 30, 2002, 1,031 Warrants were exercised.
The Warrants expire on July 31, 2003.
In connection with the Public Offering, the underwriters received
Unit Purchase Options ("UPOs") to purchase 172,500 of the above
units at $5.12 per unit. Each unit consists of one Common Share
and one Warrant. In Fiscal 2000, a portion of the UPO's
aggregating 23,400 Common Shares and 3,600 Warrants were
purchased for aggregate proceeds of $116,640. The remaining
unexercised UPOs expired in August 2001.
Warrant transactions for Fiscal 2002 and Fiscal 2001 are as
follows:
Warrants outstanding December 1, 2001 5,482,169
Expired (58,200)
Warrants outstanding November 30, 2002 ---------
and 2001 5,423,969
[3] 1995 Employee Stock Option Plan:
In January 1996, the Company adopted, and in February 1996 the
shareholders ratified, the 1995 Employee Stock Option Plan
("Option Plan"). The Option Plan provides for the grant of
options to qualified employees of the Company, independent
contractors, consultants and other individuals to purchase an
aggregate of 350,000 Common Shares. In March 1998, the Option
Plan was amended to increase the number of Common Shares
available under the Option Plan to 850,000.
Option Plan activity is summarized as follows:
Weighted
Average
Shares Exercise
Price -------- --------
-----
Options outstanding November 30, 2000 605,050 $1.90
Granted 116,500 $1.91
Exercised (27,550) $1.32
Cancelled (4,500) $2.69
-------
Options outstanding November 30, 2001 689,500 $1.99
Granted -- --
Exercised -- --
Cancelled (4,000) $1.91
-------
Options outstanding November 30, 2002 685,500 $1.99
=======
Options exercisable November 30, 2002 646,833 $1.99
=======
Exercise prices for options outstanding as of November 30, 2002
ranged from $1.25 to $4.56. The weighted-average remaining
contractual life of these options is approximately four years.
Exercise prices for outstanding stock options at November 30,
2002 are as follows:
Shares Exercise Price
------- --------------
170,000 $1.25
120,000 $1.46
111,000 $1.91
29,000 $2.00
20,000 $2.09
198,000 $2.69
27,500 $3.20
10,000 $4.56
-------
685,500
=======
[4] Additional Stock Options Granted:
In December 1998, the Company granted options to purchase
5,300,000 shares (the "December 1998 Options") of Common Shares
to certain of its officers and directors. The December 1998
Options are exercisable four years from the grant date (December
28, 2002) at an exercise price of $2 per share (market value on
the date of the grant). The options expire five years from the
date of the grant.
In November 2000, the Company granted options to purchase
1,435,000 Common Shares to certain of its officers and employees.
The options are exercisable for a five year period at an exercise
price of $2.875 per share (market value on the date of the
grant).
On January 15, 2001, the Company granted an option to purchase
25,000 shares of the Company's common stock to a director upon
his appointment to the Board of Directors. The option was to vest
over a two year period and was exercisable at $2.00 per share
(the market price on the date of grant). During 2002, this
director resigned and the option cancelled.
In March 2001, the Company granted an officer/director an option
to purchase 500,000 Common Shares, of which options covering
375,000 Common Shares were cancelled. The exercise price of this
option was $2.90 per share, which exercise price exceeded the
market price on date of grant. In addition, the Company issued
to certain officers/directors ten year options to purchase an
aggregate of 80,000 Common Shares at an exercise price of $2.00
per share.
In March 2001, the Company granted options to certain
officers/directors to purchase an aggregate of 2,650,000 Common
Shares exercisable at $2.00 per share. The exercise of these
options are subject to (i) obtaining shareholder approval and
(ii) the cancellation of options to purchase 2,650,000 shares of
Superus' common stock. See Note I[5] below.
In July 2001, the Company granted ten year options to certain
officers/directors to purchase 80,000 Common Shares at an
exercise price of $1.00 per share, the market price on the date
of grant.
[5] Superus Stock Option Plan:
In February 2000, Superus adopted, and the Company as sole
shareholder ratified, the Superus 2000 Stock Incentive Plan (the
"Superus Plan"). The Superus Plan provides for the grant of
options to qualified employees, independent contractors,
consultants and other individuals to purchase an aggregate of 15
million shares of common stock. During March 2000, the same
officers and directors of the Company discussed in [4] above,
were granted 2,650,000 options to purchase a proposed tracking
stock, with the same terms as the December 1998 options, except
that the exercise price is $2.69 per share. Upon shareholder
approval in September 2000, the options became immediately
exercisable. In December 2000, the options became exercisable
for Superus common stock since a determination was made that no
tracking stock would be issued.
Superus Plan activity is summarized as follows:
Weighted
Average
Exercise
Shares Price
--------- -----
Options outstanding December 1, 2000 4,585,000 $4.28
Cancelled 1,735,000 $6.47
Options exercisable November 30, ---------
2002 and 2001 2,850,000 $2.96
=========
Since the Company filed for Chapter 7 Bankruptcy Protection for
Superus, it is unlikely any of these options will ever be
exercised. See Note A.
[6] Stock Options:
The Company has determined its pro forma net (loss) and (loss)
per share information as required by SFAS No. 123 utilizing the
Black-Scholes option-pricing model with the following weighted
average assumptions:
2002 2001
---- ----
Expected volatility -- 172% - 179%
Risk free interest rate -- 5.25% - 6%
Expected life -- 2.5 - 10 years
The average fair value of the options granted during Fiscal 2001
was $1.75 per share. The fair value aggregated $747,639 in
2001.
The pro forma basic net loss and loss per share available to
common shareholders for Fiscal 2001 would have been $(6,864,946)
and $(0.93), respectively, had the fair value method been
applied.
Since no options were granted during Fiscal 2002, there was no
impact under SFAS 123 for Fiscal 2002.
The effects of applying SFAS 123 in the above pro forma
disclosures are not indicative of future amounts as they do not
include the effects of awards granted prior to 1997.
Additionally, future amounts are likely to be affected by the
number of equity instruments granted and the vesting of such
awards.
[7] Redemption Agreement:
Pursuant to a Redemption Agreement, dated as of April 3, 2001,
with Equilink and R. DePalo, its sole shareholder, the Company
purchased from Equilink 423,000 Common Shares and 8,000 shares
of Series C Preferred Stock for $650,000 in cash. The purchase
price for these securities was based upon approximately 95% of
the average closing price of the Common Shares for the five
trading days ended on April 2, 2001. The Company received
general releases from Equilink, Mr. DePalo and a third party and
the Company agreed not to pursue any action against Equilink or
Mr. DePalo, except in limited specified situations, in
connection with the closing of the redemption transaction.
[8] NASDAQ Stock Market and Boston Stock Exchange Delisting:
On November 30, 2001, the common stock of the Company was
delisted from the NASDAQ Stock Market. In March 2003, the
Company applied for delisting from the Boston Stock Exchange.
[9] Authorized Repurchase:
In November 2002, the Board of Directors authorized the
repurchase of up to 1,000,000 Common Shares at a price between
$.04 and $.045. The Company has not repurchased any shares to
date pursuant to such authority.
NOTE J - INCOME TAXES
Deferred income taxes reflect the net tax effects of temporary
differences between the carrying amount of assets and
liabilities for financial reporting purposes and the amounts
used for income tax purposes using the enacted tax rates in
effect in the years in which the differences are expected to
reverse. Because of the questionable ability of the Company to
utilize these deferred tax assets, the Company has established a
100% valuation allowance for these assets.
As of November 30, 2002, the Company's deferred income taxes are
comprised of the following:
Deferred tax assets
Net operating losses $ 6,959,456
Allowance for bad debts 16,110
Inventory 419,862
Depreciation (5,487)
Capital loss 49,786
Deferred rent 19,293
Contribution 1,512
---------
Total deferred tax assets 7,460,532
Valuation allowance (7,460,532)
---------
Deferred tax assets $ --
=========
The valuation allowance increased by approximately $630,000 and
$2,485,000 during Fiscal 2002 and Fiscal 2001, respectively.
The Company's income tax expense consists of the following:
Year Ended
November 30,
2002 2001
------- -------
Current:
Federal $ -- $ --
States 8,832 35,792
------ ------
8,832 35,792
Deferred: ------ ------
Federal -- --
States -- --
-- --
------ -------
Provision for income taxes $8,832 $35,792
====== =======
The Company files a consolidated income tax return with its
wholly-owned subsidiaries and has net operating loss
carryforwards of approximately $17,425,000 for federal and state
purposes, which expire through 2021. The utilization of this
operating loss carryforwards may be limited based upon changes in
ownership as defined in the Internal Revenue Code.
A reconciliation of the difference between the expected income
tax rate using the statutory federal tax rate and the Company's
effective rate is as follows:
Year Ended
November 30,
2002 2001
---- ----
U.S. Federal income tax statutory rate (34)% (34)%
Valuation allowance 34% 34%
State income taxes 1% 1%
--- ---
Effective tax rate 1% 1%
NOTE K - RENTAL COMMITMENTS
The Company leases its office and warehouse space through 2010
from a corporation that is controlled by officers/shareholders
of the Company ("Related Company"). Annual minimum rental
payments to the Related Company were approximately $181,000 for
Fiscal 2002 and will increase at the rate of three (3%) percent
per annum throughout the lease term.
Pursuant to the lease, rent expense charged to operations
differs from rent paid because of scheduled rent increases.
Accordingly, the Company has recorded deferred rent. Rent
expense is calculated by allocating to rental payments,
including those attributable to scheduled rent increases, on a
straight-line basis, over the lease term.
The future minimum rental commitments at November 30, 2002:
Year Ending November 30,
2003 $ 186,000
2004 191,000
2005 197,000
2006 203,000
2007 209,000
2008 and thereafter 628,000
----------
$1,614,000
==========
Rental expense for Fiscal 2002 and Fiscal 2001 were $219,202 and
$1,481,631, respectively, of which $207,610 and $245,936 were
paid to the Related Company.
In March 2000, Superus entered into a lease agreement for San
Francisco office space through 2005. Surge had provided the
landlord of this office space with a letter of credit guaranteed
with a certificate of deposit, in the amount of $344,604 for
security, renewable on a yearly basis. Superus vacated this San
Francisco office space and on March 8, 2002 declared bankruptcy
(Note A). In October 2001, the landlord utilized the letter of
credit for payment of Superus' obligations. The bank subsequently
used the certificate of deposit in payment of the Company's
guarantee on the letter of credit. During Fiscal 2001, the
Company recognized an expense of approximately $631,000
representing the rent paid during the year under the lease and
the letter of credit utilized by the landlord.
NOTE L - EMPLOYMENT AND OTHER AGREEMENTS
The Company has employment agreements, with terms through July
30, 2003 (renewable on each July 30th for an additional one year
period) with two officers/stockholders of the Company, which
provides each with a base salary of $200,000, subject to certain
increases as defined, per annum, plus fringe benefits and
bonuses. The Compensation Committee of the Company's Board of
Directors determines the bonuses. There were no such bonuses
paid in Fiscal 2002 and Fiscal 2001. The agreement also
contains provisions prohibiting the officers from engaging in
activities which are competitive with those of the Company
during employment and for one year following termination. The
agreements further provide that in the event of a change of
control, as defined, or a change in ownership of at least 25% of
the issued and outstanding stock of the Company, and such
issuance was not approved by either officer, or if they are not
elected to the Board of Directors of the Company and/or are not
elected as an officer of the Company, then the non-approving
officer may elect to terminate his employment agreement. If he
elects to terminate the agreement, he will receive 2.99 times
his annual compensation (or such other amount then permitted
under the Internal Revenue Code without an excess penalty), in
addition to the remainder of his compensation under his existing
employment contract. In addition, if the Company makes or
receives a "firm commitment" for a public offering of Common
Shares, each officer will receive a warrant to purchase, at a
nominal value, up to 9.5% of the Company's Common Shares,
provided they do not voluntarily terminate employment.
On February 16, 2000, the Company entered into a three-year
employment agreement with the then Chairman and Chief Executive
Officer. The agreement provided for a base salary of $200,000
per annum and an annual bonus at the discretion of the Board of
Directors. In addition, the agreement, also provided for ten
year options to purchase 1,500,000 Common Shares exercisable at
$2.875 per share, 300,000 of which options were immediately
exercisable and the balance were to be exercisable ratably on a
monthly basis over 36 months. On March 20, 2000, the Company
entered into a four-year employment agreement with another
individual to be the Vice President, Corporate Development, and
provided for a base salary of $150,000 per annum and an annual
bonus at the discretion of the Board of Directors. In addition,
the agreement also provided for four year options to purchase
200,000 Common Shares exercisable at $2.875 per share, 35,000 of
which were to be exercisable six months after the effective date
of a proposed recapitalization and the balance were to be
exercisable ratably on a monthly basis over 42 months. The
recapitalization was never consummated.
In July 2001, the Company entered into termination and settlement
agreements with its then Chairman and Acting Chief Executive
Officer and Vice President, Corporate Development. Among other
provisions, the agreements provided for the Company to make
severance payments totaling approximately $100,000 over six
months and $47,000 over three months which payments have been
made and been charged to operations. The agreements also
cancelled options to purchase 1,459,999 Common Shares.
NOTE M - FINANCIAL CONSULTING AGREEMENT
On November 24, 2000, the Company entered into an agreement with
a financial consultant, Equilink, for which the consultant
received 900,000 Common Shares, 70,000 shares of the Series C
Preferred Stock (see Note I) and five year warrants to purchase
2,000,000 Common Shares exercisable at $3 per share, for past
and future services and expenses. Included in the past services
were fees totaling $338,438 relating to services and expenses of
the aborted Mail merger, $302,812 relating to the terminated
acquisition of Orbit Networks, Inc., $226,812 for expenses
relating to the $7 million convertible notes and $3,704,999
relating to the terminated Global acquisition. During Fiscal
2001, the Company expensed approximately $2,171,000 related to
Equilink's services. See Item [7] Redemption Agreement of Note
I.
NOTE N - MAJOR CUSTOMERS
The Company has one customer who accounted for 14% of net sales
for the Fiscal 2002 and accounted for 17% of accounts receivable
at November 30, 2002. This customer accounted for 9% of sales
for Fiscal 2001.
The Company has another customer, which is principally owned by
an employee of the Company. This customer accounted for 10% of
net sales for Fiscal 2002 and Fiscal 2001. The accounts
receivable for this customer at November 30, 2002 and 2001 were
less than 1%. The Company's personnel performs all services
incidental to the operations of this customer.
NOTE O - MAJOR SUPPLIERS
During Fiscal 2002, there were two foreign suppliers accounting
for 11% and 36% of total inventory purchased. During Fiscal
2001, the same two foreign suppliers accounted for 11% and 29%
of total inventory purchased.
The Company purchases a significant portion of its products
overseas. For Fiscal 2002, the Company purchased 47% from
Taiwan, 18% from Hong Kong, 21% from elsewhere in Asia and 2%
overseas outside of Asia.
NOTE P - EXPORT SALES
The Company's export sales approximated:
Fiscal 2002 Fiscal 2001
----------- -----------
Canada $ 444,095 $ 871,000
Asia 1,492,723 1,294,000
Europe 21,608 185,000
Central America 38,339 21,000
NOTE Q - CONTINGENCIES AND OTHER MATTERS
In September 2000, Surge and Global were named in an arbitration
instituted by Efflux Inc. ("Efflux") with the American
Arbitration Association. The allegations by Efflux relate
solely to the relationship between Efflux and Global and certain
services allegedly provided by Efflux to Global under several
written contracts, and Global's alleged failure to pay for such
services. Efflux Inc. alleged damages of approximately $286,000
plus expenses and consequential damages. Surge was originally
named as a "relief respondent" under the theory of successor
liability and conversion. Efflux also sought to enjoin Surge
from converting Efflux's work product and for damages relating
to any use of their product to date. Since Surge has terminated
the acquisition of Global and has not utilized any of Efflux's
software, management, upon consultation with counsel, believes
the Company has meritorious defenses and intends to apply for
dismissal of this matter.
In December 2000, an arbitration claim filed in Mexico was
instituted, naming Superus Holdings and Global in an action
asserted by two companies in Mexico. The action alleges that
Global did not consummate an agreement to purchase one of the
companies. During 2002, this action was dismissed.
The accompanying financial statements make no provision for any
liability that might result from the outcome of these
uncertainties.
During Fiscal 2000 and Fiscal 2001, the Company made certain
potentially questionable payments of approximately $2,137,000
and $774,000, respectively. These payments are currently the
subject of an investigation by the SEC. The recipient of these
payments repaid the Company $1,000,000 during Fiscal 2001, which
was included in other income.
In May 2001, the law firm of Mintz Levin Cohn Ferris Glovsky and
Popeo, P.C., was engaged to assist in an investigation
concerning the payments referred to above and to recommend
policies to prevent any similar future payments. Due, in part,
to the previously disclosed resignation of our outside counsel
and such counsel's refusal to be interviewed as part of the
investigation, the Company was unable to confirm what legal
advice was rendered as to the making of such payments. The
investigation did not uncover any additional payments similar to
the previously disclosed "potentially questionable payments".
The Company has taken steps to ensure that such payments are not
made in the future, including requiring that payments above
$5,000 not be made to any party except a party on a list
approved by our audit committee, requiring co-signatures on each
check for more than $10,000 and adopting a Code of Conduct.
Except for proceedings relating to the SEC inquiry commenced in
October 2001, the Company is not aware of any pending
proceedings relating to the questionable payments. There can be
no assurance that these potentially questionable payments and
related investigation will not lead to other proceedings.
NOTE R - DEBT NOT IN COMPLIANCE WITH TERMS
In July 2002, the Company entered into a financing agreement
(the "Financing Agreement") with an asset-based lender (the
"Lender") providing for borrowings up to $1,000,000 (the "Credit
Line"). Borrowings under the Credit Line accrue interest at the
greater of the prime rate plus two percent (2.0%) or 6.75% (6.75%
at November 30, 2002). The Company pays one-quarter of one
percent (1/4 of 1%) annually as an unused line fee for the
difference between $1,000,000 and the average daily balance of
the Credit Line. The Credit Line is collateralized by
substantially all the Company's assets and contains various
financial covenants pertaining to the maintenance of working
capital and tangible net worth. During Fiscal 2002, we were not
in compliance with the tangible net worth covenant. On August
31, 2002, we were not in compliance with the tangible net worth
covenant but we received a waiver from the Lender. On November
30, 2002, we were not in compliance with the tangible net worth
covenant. We anticipate continuing to not be in compliance with
such covenant during Fiscal 2003. As such, the Lender may
declare the Company in default at anytime and has the following
rights, among others: (1) to demand immediate repayment o
borrowings under the Credit Line; (2) to receive a charge at the
rate of two percent per month upon the unpaid balance of the
obligations under the Financing Agreement (the "Obligations")
from the date of default until the date of our full payment of
the Obligations, which charge is in lieu of interest; (3) to
receive all costs, disbursements, charges and expenses that it
incurs in the collection and enforcement of the Obligations,
including attorneys fees; and (4) to enforce payment of or settle
any of our receivables and apply the net cash proceeds resulting
from such payment or settlement to the payment of the
Obligations. While we do not believe that the Lender will elect
to exercise any of such rights, if it did so during an
inopportune time for the Company, it could result in a severe
liquidity crisis for the Company. As of February 28, 2003, the
Company has $422,654 outstanding under the Credit Line.
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act,
the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
Dated: March 13, 2003 Surge Components, Inc.
By:/s/Ira Levy
-------------------
Ira Levy, President
/s/ Ira Levy
--------------------- President and Director March 13, 2003
Ira Levy (Principal Executive
and Financial Officer)
/s/ Steven J. Lubman Vice President, March 13, 2003
--------------------- Secretary, Chief
Steven J. Lubman Financial Officer and
Director (Principal
Accounting Officer)
/s/ Lawrence Chariton Director March 13, 2003
---------------------
Lawrence Chariton
/s/ David Siegel
--------------------- Director March 13, 2003
David Siegel
/s/ Mark Siegel
--------------------- Director March 13, 2003
Mark Siegel
/s/ Alan Plafker
--------------------- Director March 13, 2003
Alan Plafker
EXHIBIT INDEX
-------------
11 Statement re computation of per share earnings.
21 Subsidiaries of Surge Components, Inc.
23.1 Consent of Eisner LLP (formerly Richard A. Eisner & Company,
LLP)
23.2 Consent of Seligson & Giannattasio LLP
99.1 Certification pursuant to 18 U.S.C. Section 1350,
as adopted pursuant to Section 906 of the Sarbanes-
Oxley Act of 2002.
99.2 Certification pursuant to 18 U.S.C. Section 1350,
as adopted pursuant to Section 906 of the Sarbanes-
Oxley Act of 2002.
99.3 Report and Certification of Trustee in No Asset Case filed
in the United States Bankruptcy Court District of Delaware by
Jeffrey L. Burtch, Trustee of Superus Holdings, Inc. dated June
18, 2002.