** **

**UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, DC 20549**

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**FORM 10-K**

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| **ý**                                                                  | **Annual report pursuant to Section 13 or 15(d) of the  Securities Exchange Act of 1934.**     |
|-----------------------------------------------------------------------------|------------------------------------------------------------------------------------------------|
|                                                                        |
| **For the fiscal year ended  December 31, 2003 or**                         |
|                                                                        |
| **o**                                                                       | **Transition report pursuant to Section 13 or 15(d) of  the Securities Exchange Act of 1934.** |
|                                                                        |
| **For the transition period  from    to   .** |

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**Commission file number: 1-9158**

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**MAI Systems Corporation**(Exact name of registrant as specified in its charter) 

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| **Delaware**                                                        |   | **22-2554549**                        |
|---------------------------------------------------------------------|--------|---------------------------------------|
| **(State or other jurisdiction of  incorporation or organization)** |   | **(IRS Employer Identification No.)** |

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**26110 Enterprise Way, Lake Forest, CA 92630**Address of principal executive offices 

**Registrant’s telephone number including areacode **(949) 598-6000

** **
| **Securities registered pursuant to Section 12(b) of the  Act:     ** |   | **None**                                               |
|------------------------------------------------------------------------------------------------|--------|--------------------------------------------------------|
|                                                                                           |   |                                                   |
| **Securities registered pursuant to Section 12(g) of the Act:**                                |   | **Common Stock, Par Value $0.01**                      |
|                                                                                           |   | **Preferred Stock, Par Value $0.01  (Title of Class)** |

** **

**Indicate by checkmark whether the registrant (1) has filed all reports required to be filed bySection 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding12 months (or for such shorter period that the registrant was required to filesuch reports), and (2) has been subject to such filing requirements for thepast 90 days.   Yes   **ý   No   o

** **

**Indicate by checkmark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-Kis not contained herein, and will not be contained, to the best of registrant’sknowledge, in definitive proxy or information statements incorporated byreference in Part III of this Form 10-K or any amendment to this Form 10-K.**ý

** **

**Indicate by checkmark whether the registrant is an accelerated filer (as defined in Rule 12b-2of the Exchange Act).**

**Yes**o    No  ý

** **

**The aggregatemarket value of the common stock held by non-affiliates of the registrant,based upon the last sale price of the Common Stock reported on the NationalAssociation of Securities Dealers Automated Quotation National Market System onJune 27, 2003 was $1,403,684.**

** **

**The number ofshares of common stock outstanding as of March 23, 2004 was 14,675,752.  The aggregate market value of the commonstock held by non-affiliates of the registrant, based upon the last sale priceof the Common Stock reported on the Over-the-counter Bulletin Board on March 23, 2004 was $1,403,684. **

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**DOCUMENTS INCORPORATED BY REFERENCE**

**(To the Extent Indicated Herein)**

**Registrant’s ProxyStatement to be filed with the Securities and Exchange Commission in connectionwith the solicitation of proxies for the Registrant’s 2004 Annual Meeting ofStockholders to be held on May 25, 2004 is incorporated by reference in PartIII, Items 10 (as to directors), 11, 12 and 13 of this Form 10-K.**

 

 

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** **

**PART I**

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# **ITEM 1. BUSINESS**

# ** **

**THECOMPANY**

** **

We provide totalinformation technology solutions primarily to the hospitality, resort anddestination industry.  The solutionsprovided by us typically include applications software, computer hardware,peripherals and wide and local area network design, implementation,installation and support.  The softwareapplications are generally our proprietary software, or software which islicensed to us on an exclusive basis. The hardware, peripherals and networking systems are generally third-partyproducts, which we distribute.  Directlyand through arrangements with third parties, we provide on-site and off-siteservice and support to users of our solutions. We were incorporated under thelaws of the State of Delaware on September 6, 1984.  Our name was changed from MAI Basic Four, Inc. to MAI SystemsCorporation on November 6, 1990.  Wecommenced operations on January 29, 1985.

 

**DESCRIPTIONOF THE BUSINESS**

** **

Our mission is to put inplace long-term information technology systems for our customers by designing,installing and supporting industry-specific total information managementsolutions.  Focusing on the hotel,motel, government and resort destinations industry, we design, sell, installand support enterprise information management solutions.  We provide a wide array of products andservices to our installed base of customers and continue to make direct salesof certain products and services which enhance, upgrade and extend the usefullife and functionality of our installed systems.

 

We market our productsand services primarily through a team selling approach, which utilizes ournationwide network of sales offices. This approach involves a coordinated effort between our field salespersonnel, and our corporate office software development, marketing, contractadministration and financial staff.  Allof our products and services are also available through a limited number ofdistributors, independent value-added resellers (“VARs”), authorized servicerepresentatives and independent software vendors (“ISVs”).

 

Our activities areconducted principally in the United States, the United Kingdom, Malaysia, HongKong, Singapore and Mexico.  We alsooperate offices in the People’s Republic of China in Beijing and Shanghai.

 

We provide software supportservices (both procedural and technical support) to our hospitality customersfrom our offices in the United States, the United Kingdom, Kuala Lumpur,Singapore and Hong Kong.  In somecountries, we rely on certain foreign distributors of our products to providesoftware support services to customers located within the distributors’territories.

 

# **Products and Services**

# ** **

We provide completeenterprise products and services to serve the needs of local and multinationalchains, franchisees and independent operators of hotels, resorts anddestination properties. Our products have been installed in over 4,100properties, throughout 84 countries, and in properties up to 5,000 rooms fromlimited service and business hotels to convention centers and five star luxuryresorts or urban luxury hotels.

 

Our HIS epitomeÔsolutions, including our established products (epitome for windows, formerlyLodgingTouch, epitome for Unix, formerly CLS and epitome for i-series, formerlyParagon), which represented all of our revenue during the three-year periodended December 31, 2003, as well as our new internet native suite of productswritten in java (epitomeÔ Enterprise) whichare currently under development and not yet available for general release,enables hospitality enterprises to increase revenue, improve guest loyalty andreduce costs by centralizing and streamlining their operations while maximizingexisting technology investments. A majority of our historical revenue relatesto our property management systems applications associated with our establishedproducts.  Our new internet nativecorporate application suite is a component-based architecture.  The epitomeÔEnterprise suite includes software, services and integration for BusinessIntelligence, Corporate Information, Channel Reservation, Channel Managementand Property Management systems. The products are deployable on multipleplatforms using intelligent transport and messaging technology.

 

Our epitomeÔEnterprise services include systems integration, consulting, projectmanagement, implementation, training, documentation, online help, long-termsupport, maintenance and specialized engineering, with particular expertise inthe implementation of local and wide-area networks for the hospitalityindustry.

 

Summarized below are thefeatures of epitomeäEnterprise which is scheduled forgeneral release in Q3 of 2004.

 

### *The epitomeStrategic Analysis Tools*

### * *

Our epitomemultidimensional Business Intelligence (“BI”) provides a suite of sophisticatedMultidimensional Online

 

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Analytical Processing(“MOLAP”) tools for strategic analysis and planning for the entire enterprise.Not only can hoteliers analyze and report on data consolidated from multiplesources, they can perform complex modeling against industry standard KeyPerformance Indicators (“KPIs”), including Revenue Per Available Room(“RevPAR”) and Revenue Per Available Customer (“RevPAC”). These tools include arelational data warehouse, subject-specific data marts, MOLAP tools and alibrary of standard analyses and reports. This combination results in a systemthat provides executives with “just-in-time” strategic intelligence to analyzeoperations and grow market share, revenue and occupancy.

 

### *The epitomeCorporate Management Tools*

### * *

Our epitome CentralInformation Systems (“CIS”) provides essential information and management toolsto centralize operations at a corporate headquarters. With the increasingnumber of mergers, acquisitions and individual properties desiring to associatewith an established chain or flag, centralizing the data for consolidatedmarketing, accounting and reporting tasks have become popular cost-savingstools. Additionally, hotel guests now expect their preferences and history tobe available at local properties, corporate locations and online. To accomplishthis, corporate systems must capture and share all guest information to providequality service during the reservation process as well as comprehensivemarketing and financial information to facilitate corporate marketing andfinance strategies. Our HIS corporate tools consolidate information about eachguest such as identity, spending patterns, preferred accommodations, amenityrequests, billing details, commission accumulations and more.

 

Specialized functionalityof the CIS includes centralized travel agency production statistics andtransaction payments, more accurate and effective corporate Accounts Receivableinvoicing and collections, and consistent guest spending patterns to better facilitatecorporate affinity programs and more.

 

### *The epitomeReservation and Channel Management Tools*

### * *

Our epitome CentralReservation Systems (“CRS”) provides chains and management companies with thefunctionality required to process reservations and availability from acentralized location. Over time, CRS products have evolved to provide the samefeatures and functions as reservation modules in Property Management Systems.However, a CRS must be more efficient at guest preference requirements,multiple property itineraries, history retrievals, travel agent processing andgeneral corporate billing and transaction processing. These products areperfectly suited for small and medium reservation call centers.

 

Hoteliers are reducingthe cost of guest acquisition and improving guest loyalty through brandedInternet booking engines. However, we understand that the explosion of Internetchannels and travel procurement software has been difficult for hoteliers tomanage effectively. Our epitome Channel Reservation and Channel ManagementTools deliver more benefits than a simple branded booking engine or any onewholesale reservation portal. It allows hoteliers the tools to manage theirrates, availability and guests through all their channels of distribution. Thegoal and foundation of the design are to provide a more cost-effective andefficient tool for the properties using the epitome enterprise suite ofapplications.

 

It also provides guestswith the ability to search multiple (related) properties, to check availabilityof rooms and to maintain reservations for rooms, and allows the property theability to use room allocation features already in the epitome PMS, to modifyor customize its web reservations screens and to reduce transaction fees ofcostly intermediaries.

 

### *The epitomeProperty Management Tools*

### * *

Our epitome PropertyManagement Systems (“PMS”) provide a complete solution for the management ofrates, availability and affinity programs for single and multi-propertyenterprises. These tools are specifically designed and optimized forcomprehensive guest management, including modules for web and centralreservations, room and revenue management and group and wholesaler management.

 

Specialized functionalityoffers flexible guest-focused features including guest service notification,availability and occupancy controls for long-term stay and gender-specificenvironments, sophisticated revenue and taxation capabilities, casinoaccounting and condominium management. Multi-property integration ofavailability, itinerary reservations and guest accounting is also available.Additional tools include modules for report writing, emulation, data extractionand transfer and more.

 

### *The epitomeIntegration and Data Exchange Tools*

### * *

The HIS epitomeInterfaces and Integrations provide multiple levels of data exchange andapplication integration, from simple send and receive interfaces to intelligentbusiness application integration. The high-level of integration availablebetween the HIS PMS, CRS, CIS and BI enables chains and management companies todeploy an enterprise solution with ‘customizable’ functionality at eachlocation, while consolidating critical controls, statistics and revenueanalysis. Our HIS epitome Enterprise Solutions includes a library of over 400device-type interfaces. Some examples include Call Accounting, 

 

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Energy Management,In-room Facsimile, In-room Internet, Mini Bar, Point Of Sale, TelephoneManagement, Video Services and Voice Mail.

 

We also specialize inapplication-type integrations, which are typically more complex thandevice-type interfaces, requiring additional management and auditing of thedata exchange. It often includes the exchange of guest and group information,availability, contractual room rates and more. Each product also addscomplexity, as the platform, data and method of communication vary from productto product. It is very rare that any of these elements are similar to theplatform, database and method of communication in the core businessapplications.

 

Our integration solutionsoffer integration of the core business applications (PMS, CRS and CIS) withother disparate business applications (Sales, Catering, Revenue Management andmore). It allows for standardized communication processes, configurationcontrols and audit trails. The data mapping is accomplished through a series ofapplication-specific and common industry Application Programming Interfaces(“APIs”). All communication and data exchange are actually handled through acentral integration product, providing our core business applications and thethird party products with a common ground for data exchange and consolidation.

 

From propertytransactions to corporate intelligence our HIS epitome Enterprise Solutionsprovides complete products and services for every level of the enterprise. Withdifferent platforms, applications, deployment methods and database managementtechnologies, hoteliers can implement the ‘epitome of technology’ for theirenterprise.

 

# **Marketing and Sales**

# ** **

We market our productsand services primarily through a team-selling approach, which utilizes ourworldwide network of sales offices and our Irvine, California-based accountrepresentatives.  We also market certainproducts and services through limited numbers of distributors, authorizedservice representatives and ISVs.

 

In the United States, oursystems are marketed by a direct sales and marketing organization whichincluded, 13 sales and marketing personnel located in the corporateheadquarters and satellite offices.  Inaddition, we market our systems internationally through our subsidiaries whichoperate in the United Kingdom, Mexico, Hong Kong, Malaysia and Singapore, andthrough various distributors that are exclusive in their jurisdictions.  Our international subsidiaries employed 19sales and marketing personnel who are engaged in the marketing of MAI productsfrom sales offices in Mexico, the United Kingdom, Hong Kong, Singapore,Malaysia and the People’s Republic of China.

 

During 2003, our aggregaterevenue was derived from geographic areas as follows:

 

|           |   | **Percentage of  Total Revenue** |   |
|----------------|--------|----------------------------------|--------|
|           |   |                             |   |
| United States  |   | 80.0                             | %      |
| Asia           |   | 14.7                             | %      |
| United Kingdom |   | 5.2                              | %      |
| Other          |   | 0.1                              | %      |
|           |   |                             |   |
| Total          |   | 100.0                            | %      |

 

Our financial performanceis affected by the fluctuation in value of the US dollar in relation to thelocal currencies of the countries in which we do business.  In addition, our foreign operations aresubject to the usual risks that may affect such operations, including possibleexpropriation or other governmental actions, taxes and political changes.  However, as only 20.0% of our 2003 revenuewas generated outside the United States, the risk associated with these foreignoperations in relation to our overall financial performance is limited.

 

# **Support and Maintenance**

# ** **

The provision ofaround-the-clock customer service is a cornerstone of our business. As ofDecember 31, 2003, we had support and maintenance agreements with approximately1,501 customers.  We employapproximately 68 technicians to provide support for our applications softwareproducts.

 

Telephonic support, whichis primarily to assist licensees of our applications products, is provided fromour response centers located in Irvine, California, Concord, California,Singapore, Hong Kong, Malaysia and the United Kingdom.  We utilize current developments in telephonyand call center technology to enable our support technicians to quicklyidentify and resolve customers’ software related computing problems.

 

Our maintenance servicesare generally provided pursuant to individual maintenance contracts withcustomers, although time and material services are provided in some areas.  Such support and maintenance are of varyingduration, provide

 

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prospective cancellationrights and require advance payment of fees to us.  Substantially all of the revenue earned by maintenance operationsis invoiced to customers in advance and recognized evenly over the relatedcontract period.

 

# **Production and Procurement**

# ** **

In response to marketdemand for standardized hardware and software products, all of our currentsystems offerings utilize open systems architecture, which means that they willoperate on a wide variety of third-party hardware equipment.  At present, we have relationships with anumber of suppliers including Microsoft, Cognos, BEA, Compaq Computer, DataGeneral, Hewlett Packard, Seagull Software, Visual Legacy, IBM, SouthernDatacom and distributors such as MicroAge and Ingram Micro.  Management believes that these relationshipshave enabled us to reduce product costs, permit earlier availability of newtechnology and offer customers products with superior performance atcompetitive prices.  We no longermanufacture proprietary hardware products.

 

Delay or failure in thedelivery of products or components purchased from third parties could adverselyaffect our shipments and our ability to conclude sales.  We have purchased many products andcomponents from single sources of supply. Because our current products are industry standard, or are comprised ofindustry-standard components, management believes that alternative sources ofsupply of similar products would be available to us in the event of anyinterruption of delivery of a single source supplier.

 

# **Order, Shipment and Backlog**

# ** **

We record and enter intobacklog a purchase order for equipment and software when we receives acustomer’s written order requesting delivery within twelve months, and systemsconfiguration and contract provisions are verified.  Orders that are canceled by the customer and orders that are notshipped within one year are removed from backlog.  Orders that are removed from backlog for non-shipment arerestored if they are reinstated by the customer.

 

Set forth below iscertain information concerning orders, shipments and backlog for 2002 and 2003:

 

|                                   |   | **(dollars in millions)** |   |
|----------------------------------------|--------|---------------------------|--------|
|                                   |   | **2002**                  |   | **2003** |   |
|                                   |   |                      |   |   |   |
| Orders received (net of cancellations) |   | $                         | 4.4    |   | $ | 2.9 |   |
| Shipments                              |   | 5.6                       |   | 4.3 |   |
| Backlog (at year end)                  |   | 3.2                       |   | 1.8 |   |
|                                        |        |                           |        |  |  |  |  |

 

Our backlog is notnecessarily indicative of future revenues.

 

# **Research and Development**

# ** **

Our research anddevelopment activities are focused on the development of products for thehospitality, resort and destination industry.

 

As of December 31, 2003,we employed 45 engineers, programmers and other technical personnel in researchand development activities.  We alsoutilized external third party resources for development.  During 2001, 2002, and 2003, we incurred$4,209,000, $3,307,000 (net of capitalized software of $861,000) and $2,828,000(net of capitalized software of $896,000) respectively, for research anddevelopment activities.  Our researchand development expenditures related to the support and extension of existingsoftware products and the development of new products.

 

# **Customers**

# ** **

Our customers inhospitality are both chain and independent hotels and resorts.  During 2001, 2002 and 2003, Joint ArmedServices (JAS) was the only customer accounting for ten percent or more of ourrevenues.  Total revenue from JAS for2001, 2002 and 2003 was $2,937,000, $2,880,000 and $3,535,000 respectively.

 

# **Competition**

# ** **

Competition is vigorousin all sectors of the worldwide market for computer-based applications systems,networked solutions and the maintenance and support of the software and hardware,which comprise those systems.  We havenumerous competitors (and potential competitors) varying widely in their size,capabilities, market segment and geographic area, most of which are larger andhave financial resources far greater than ours.

 

Within our targetedapplication markets, we have positioned ourselves to sell complete enterprisesolutions to our

 

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customers.  Within this marketplace, competition comesprimarily from vendors of competing information technology in the markets inwhich we compete.  There are severalproviders of information technology to the hotel, resort and destinationindustry against which we regularly compete. We have several primary competitors, which are substantially larger thanus, and provide application software that is similar to ours in quality buthave the ability to aggressively compete on price.

 

# **Trademarks, Copyrights and Licenses**

# ** **

We are the owner orlicensee of certain trademarks, copyrights and other property rights associatedwith our businesses, including rights associated with our proprietaryapplication software.  We own or havelicensing rights, generally with terms of three years, to the principalapplication software products marketed by us. Such licensing rights are generally renewable.  Although there is some risk that independent vendors who own suchproducts may elect not to renew their licensing agreements with us and enterinto exclusive arrangements with, or elect to install their software on systemssold by competitors of ours, such vendors generally tend to continue to supportour marketing efforts so long as our systems provide a good opportunity forthem to market their products.   Theseindependent vendors do not represent a significant part of our revenues.

 

We are party to licenseagreements with IBM relating to a variety of patents, with Novell, Inc.relating to UNIX and with a number of other suppliers of softwareproducts.  These licenses are terminableat our option and certain of the licenses require us to make royalty payments.

 

# **Employees**

# ** **

As of December 31, 2003,we had 198 employees, of which 121 were employed in the United States, 11 inthe United Kingdom, 65 in Asia (Hong Kong, Singapore, Malaysia and the People’sRepublic of China) and 1 in Mexico.  Wehave not experienced any work stoppages and consider our relationship with ouremployees to be good.

 

**RISKFACTORS**

 

*The following discussion should be read in conjunctionwith the audited consolidated financial statements contained herein.  In addition to the factors set forth herein,there may be other factors, or factors that arise in the future which mayaffect our future performance.*

* *

# **Effects of Terrorism, War in Iraq and Other Events**

# ** **

Our operating results forthe twelve months ended December 31, 2003 were negatively affected bycontinuing threat of worldwide terrorism, war in Iraq and other world eventssuch as the outbreak of SARS in Asia. Weakness in the hospitality and tourism industries as a result ofterrorist attacks and armed conflicts arising there from have caused theCompany to experience cancellations, delays and reductions in certain purchasesby its hospitality customers. There can be no guarantee that this slow-downwill be only short-term. Many of our hospitality customers experienced severedeclines in occupancy and room rates at most of their hotels in the weeksfollowing the attacks.  We are operatingour business under the assumption that the weakness in the hospitality industrywill be medium-term.  It is not possible,however, to predict the magnitude or duration of the declines or the potentialimpact on our results of operations, financial condition or cash flow, if theexisting political and economic risks continue unabated, or if there is futuremajor terrorist activity.

 

# **WeHave Settled Litigation and Issued A Substantial Number of Shares to aShareholder Who May Be Able to Exercise Significant Influence**

# ** **

In February 2001 wesettled certain litigation which required that we issue and register with theUnited States Securities and Exchange Commission (the “Commission”) asubstantial number of shares to an existing shareholder, CSA Private Limited(“CSA”). CSA received these shares pursuant to our acquisition of our HotelInformation Systems subsidiary as described under “Legal Proceedings – CSAPrivate Limited versus MAI Systems Corporation.”  Based upon this settlement, CSA has become our largestshareholder and beneficially owns approximately 16.4% of our Common Stock.  If this shareholder decides not sell itsshares of Common Stock or sells the shares in a block to a third party, eitherthis shareholder or the party or parties it sells to in any “block” sale may beable to exert significant influence over our affairs because they haveapproximately 16.4% of the voting control on any matter that may be submittedfor a shareholder vote.  Thisconcentration of ownership could have the effect of delaying or preventing achange in our control or otherwise discouraging a potential acquirer fromattempting to obtain control of us, which in turn could have a material andadverse effect on the market price of our Common Stock.

 

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# **The Price of Our Common Stock May Decline Due to Salesby Certain Shareholders**

# ** **

Approximately 40% of ourissued and outstanding Common Stock is held by five shareholders which includesCSA.  Sales by these shareholders of apart or substantially all of their shares of our Common Stock in the market orthe perception that sales may occur could cause the market price of our CommonStock to drop.

 

At March 24, 2004, we had14,857,752 shares of Common Stock outstanding. Approximately 49% of our outstanding shares are freely tradable, Theremaining shares are either held by “affiliates,” as defined under Rule 144under the Securities Act of 1933, or are “restricted securities” under suchrule.  In such cases, shares may be soldpursuant to registration under the Securities Act, or to the extent permittedby Rule 144 or another exemption under the Securities Act.

 

# **OurAgreements with our Primary Lender and Two Other Substantial Creditors RequireSubstantial On-Going Payments**

# ** **

We have agreements withWamco 31, Ltd. (“Wamco”), previously Coast Business Credit (“Coast”) whose loanwas sold to Wamco on May 15, 2003, and two other creditors that requiresubstantial on-going payments and affect the availability of our cash flow tobe used for other material company operations. On January 13, 2003, we restructured our debt with Wamco andCanyon.  We are currently innegotiations with CSA to restructure the term of the subordinated note.  Currently, these obligations are follows:

 

•                  A balance due to Wamco ofapproximately $1,366,000 under a term loan with a current monthly principal andinterest payment obligation of approximately $58,000, maturing in February 28,2005;

 

•                  A balance due under our 11%subordinated notes payable to an investment fund managed by Canyon CapitalManagement LP (“Canyon”) of approximately $5,661,000, with a current monthlyinterest payment obligation of $52,000;

 

•                  A balance due under a 10% securedpromissory note due to CSA in the amount of $2,800,000, with monthly paymentsof $37,500 that commenced on March 1, 2002 and ended on September 1, 2002, andmonthly payments of $107,500 that commenced on October 1, 2002 and ended onOctober 1, 2003 when all remaining unpaid principal and interest were due.

 

As of December 31, 2003we were current on our payment obligations to Wamco and Canyon.  In connection with the restructuring of theWamco and Canyon debt, the covenants were revised and was effective commencingwith the quarter ended March 31, 2003. We are currently not in compliance with but received waivers for thesecovenants through December 31, 2004.  Weare currently in default with our payment obligations to CSA and have not madeany payments since September 2002. Under the terms of the subordination agreement between Wamco, Canyon andCSA, we are not allowed to make any principal or interest payments to CSA untilthe Wamco and Canyon debt, including any accrued interest, is repaid in full orthe CSA debt is restructured and approved by Wamco and Canyon.  There can be no assurance that CSA and MAIwill come to terms on a restructuring or that Wamco and Canyon will ultimatelyapprove the terms of the restructuring. In the event that we are unable to meet the required payments to ourprimary lenders or meet our payment obligations to our other secured creditors,they are entitled to exercise certain rights under the respective agreements wehave with them, including but not limited to, foreclosing on all of ourtangible and intangible assets.  Suchaction would have a substantial adverse effect on our ability to continue as agoing concern.

 

# **Our Limited Period of Profitability May Not Continue**

# ** **

Although we wereprofitable for the years ended December 31, 2001 and 2003, we incurred netlosses for the year ending December 31, 2002 as well as net losses on an annualbasis for the four fiscal years previous to 2000.  We cannot assure you that we will attain profitability on aconsistent basis or avoid losses on a quarterly or annual basis in the future.

 

# **OurOperating Results In One or More Future Periods Are Likely to FluctuateSignificantly and May Negatively Impact Our Stock Price**

# ** **

Our annual and quarterlyoperating results may fluctuate significantly in the future as a result ofnumerous factors, including:

 

•      Market demand for informationtechnology in the hospitality industry in general;

•      Completion of development, launch andmarket success and acceptance of our software solutions;

•      Price, performance, quality and othercharacteristics of the Company’s products and of competing and substituteproducts rumored, announced or introduced by other vendors;

•      Emergence of any competing solutionsas industry standards;

 

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•      Success of the Company in meetingtargeted availability dates for new and enhanced products;

•      Success of the Company’s efforts toprovide and maintain customer service and satisfaction;

•      Public perception of the Company andits products, including statements made by industry analysts or consumers andadverse publicity resulting from such statements or from litigation filedagainst the Company;

•      Worldwide economic conditions, includingoverall market demand for information technology and other products with whichthe Company’s products can be used;

•      Ability of the Company to profitablyand efficiently manage its development of products and key components, and toavoid disruptions in the development thereof;

•      Ability of the Company to maintainprofitable relationships with distributors and other resellers of the Company’sproducts;

•      The Company’s ability to attract andretain competent, motivated employees;

•      Ability of the Company to comply withapplicable laws, regulations, ordinances and other legal requirements in thenumerous countries in which it does business;

•      Ability of the Company tosuccessfully manage litigation, including enforcing its rights, protecting itsinterests and defending itself from claims made against it and;

•      Ability of the Company to successfully implementits restructuring of debt, to achieve and maintain an appropriate coststructure and to minimize unforeseen and extraordinary expenses.

 

Typically, the orders wereceive in one quarter are delivered and installed by the following quarter.However, many of our sales involve lengthy sales cycles.  Consequently, it is not possible to predictwith any reliability the periods within which a sale may close or when we willrecognize revenue.  As a result, ouroperating results may be materially affected if a single large transaction isearlier or later than expected.  It islikely that in some future periods our operating results will be below theexpectations of securities analysts and investors.  If this happens, the trading price of our Common Stock wouldlikely be materially adversely affected.

 

# **WeMay Need and Be Unable to Obtain Additional Funding on Satisfactory Terms,Which Could Dilute Our Stockholders or Impose Burdensome Financial Restrictionson Our Business**

# ** **

As stated above, theCompany has successfully restructured the terms of certain secured debt,including extending the maturity dates. The restructured debt, pursuant to the original inter-creditor agreementbetween Canyon Capital and Coast, which was sold to Wamco on May 15, 2003,contains various restrictions and covenants, including a minimum quick ratio of..34 to 1.00 and a minimum debt service coverage ratio of 1.25 to l.00.  In the event that the Company were not incompliance with the various restrictions and covenants and were unable toreceive waivers for non-compliance, the term debt would be immediately due andpayable.  The Company was not incompliance with but received waivers for its covenants through December 31,2004.  There is no guaranty that theCompany will meet its debt covenants in the future.  The Company is currently negotiating with Wamco to revise suchcovenants, but there is no assurance that the Company will be able tosuccessfully change the covenants.  Webelieve that we will either be successful in revising such covenants to levelsthat are achievable for future compliance or receive waivers if needed.  However, any additional debt financing orother financing of securities senior to Common Stock will likely includefinancial and other covenants that will restrict our flexibility.  At a minimum, we expect these covenants toinclude restrictions on our ability to pay dividends on our Common Stock. Anyfailure to comply with these covenants or to repay such indebtedness when duewould have a material adverse effect on our business, prospects, financialcondition and results of operation.

 

# **TheMarket In Which We Operate is Highly Competitive, and We May Face Increased CompetitionFrom New Entrants and Established Industry Competitors With SignificantlyGreater Financial Resources**

# ** **

We face significantcompetition in all sectors of the market for computer-based solutions andsupport and maintenance services that we offer.  We have numerous competitors, which vary widely in their size,capabilities, market segments and geographical areas, many of which are largerand have financial resources far greater than what we have.  Within our market, competition comesprimarily from competing software applications vendors and from localvalue-added resellers and independent software vendors, who usually resellhardware or networking products of larger original equipmentmanufacturers.  Many of our services areprovided by our customers’ in-house information services departments. There canbe no assurance that we can effectively compete with any or all of ourcompetitors in our business line.  Ourcompetitors may be able to adapt more swiftly to new or emerging technologiesand changes in customer requirements, take advantage of acquisition and otheropportunities more readily and devote greater resources to the marketing andsale of their products and services than we can.  There can be no assurance that additional competitors will not entermarkets that we plan to serve or that we will be able to compete effectively.

 

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# **TheSoftware Industry for Hospitality Management is Undergoing Rapid TechnologicalChanges and New Software Introduced by Third Parties May Be Superior to theSoftware That We Own or License**

# ** **

The software industry forhospitality management is subject to rapid and significant technologicalchange.  We cannot predict the effect oftechnological changes on our business. We expect that new products and services will emerge in the markets inwhich we compete.  These new productsand services may be superior to the products and services that we use or theseproducts and services may render our products and services obsolete.  Our failure to anticipate or respondadequately to the changes in technology and customer preferences, or to developand introduce new products in a timely fashion, could materially adverselyaffect our business and operating results.

 

# **Trading in Our Common Stock is Limited**

# ** **

The recent trading volumefor our Common Stock has been small, and the market for our common stock hasbeen less liquid than that of many other publicly traded companies.  During the twelve months ended December 31,2003, the average daily trading volume has been approximately 19,367 shares,whereas the average daily trading volume for an American Stock Exchange listedstock is substantially higher.  Therecan be no assurance that a stockholder who desires to sell shares of CommonStock can sell all of the shares that the stockholder desires to sell, eitherat all or at the desired times or prices.

 

# **Our International Operations Are Subject to AdditionalRisks**

# ** **

Approximately 20% of ourrevenues in the year ended December 31, 2003 were derived from foreignoperations and approximately 39% of our work force is based outside the UnitedStates.  Our financial performance isaffected to some extent by the fluctuation in value of the US dollar inrelation to the local currencies of the countries in which we do business. Inaddition, our foreign operations are subject to the usual risks that may affectsuch operations, including import and export restrictions, possibleexpropriation or other governmental actions, taxes and political changes. Internationalsales are subject to inherent risks, including:

 

•      recessions in economies outside the UnitedStates,

•      limited protection of intellectual propertyrights in some countries,

•      political instability,

•      terrorism,

•      unexpected changes in regulatory requirements andtariffs,

•      difficulties in staffing and managing foreignoperations,

•      the possibility of subsidization of ourcompetitors and the nationalization of business,

•      longer payment cycles,

•      greater difficulty in accounts receivablecollection, and

•      potentially adverse tax consequences.

 

# **We May Be Unable to Enforce or Defend Our Ownershipand Use of Proprietary Technology**

# ** **

Our success depends to asignificant degree upon our proprietary technology upon and our licensingrights to the principal application software products that we market.  We rely on a combination of trademark, tradesecret and copyright law and contractual restrictions to protect ourproprietary technology.  However, thesemeasures provide only limited protection, and we may not be able to detectunauthorized use or take appropriate steps to enforce our intellectual propertyrights, particularly in foreign countries where the laws may not protect ourproprietary rights as fully as in the United States.  Any litigation to enforce our intellectual property rights wouldbe expensive and time-consuming, would divert management resources and may notbe adequate to protect our business.

 

We could be subject toclaims that we have infringed the intellectual property rights of others.  In addition, we may be required to indemnifyour resellers and users for similar claims made against them.  Any claims against us could require us tospend significant time and money in litigation, pay damages, develop newintellectual property or acquire licenses to intellectual property that is thesubject of the infringement claims. These licenses, if required, may not be available at all or onacceptable terms.  As a result, intellectualproperty claims against us could have a material adverse effect on ourbusiness, prospects, financial condition and results of operations.

 

9

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# **American Stock Exchange Market De-listing**

# ** **

In June 2003, we werede-listed from the American Stock Exchange (“AMEX”) and our stock began tradingon the Over-the-counter Bulletin Board. Thus, investors may find it more difficult to trade in our Common Stockor obtain accurate, current information concerning market prices. This may havehad a negative impact on the trading prices and the liquidity of the market forour Common Stock.  In addition, theremay be a more negative perception of our company by investors, customers andthird parties doing business or considering doing business with us.  Also, our company may be treated less favorablywith respect to regulatory requirements that are dependent upon listing on anational stock exchange.

 

# **Forward-Looking Statements are Inherently Uncertain**

# ** **

Some statements under thecaption “Risk Factors,” and elsewhere in this prospectus or in the documentsincorporated by reference in this prospectus are forward-lookingstatements.  These forward-lookingstatements include, but are not limited to, statements about our industry,plans, objectives, expectations, intentions and assumptions and other statementsthat are not historical facts. When used in this prospectus or in theincorporated documents, the words “expect,” “anticipate,” “intend,” “plan,”“believe,” “seek,” “estimate” and similar expressions are generally intended toidentify forward-looking statements. Because these forward-looking statementsinvolve risks and uncertainties, including those described in this “RiskFactors” section, actual results may differ materially from those expressed orimplied by these forward-looking statements. We do not intend to update or revise any forward-looking statements,whether as a result of new information, future events or otherwise.

 

**Access to Company Information**

 

We electronically file our annual report on Form 10-K,quarterly reports on Form 10-Q and current reports on Form 8-K withthe Securities and Exchange Commission (SEC). The public may read and copy anyof the reports that are filed with the SEC at the SEC’s Public Reference Roomat 450 Fifth Street, NW, Washington, DC 20549. The public may obtaininformation on the operation of the Public Reference Room by calling the SEC at1-800-SEC-0330. The SEC maintains an Internet site (www.sec.gov) that containsreports, proxy and information statements and other information regardingissuers that file electronically.

 

We make available, freeof charge, through our website at www.hotelinfosys.com, and by responding torequests addressed to our investor relations department the annual report onForm 10-K, quarterly reports on Form 10-Q and current reports onForm 8-K. These reports are available as soon as reasonably practicableafter such material is electronically filed with or furnished to the SEC. Ourwebsite address is www.hotelinfosys.com and these reports are available forreview at or downloading from that site. The information contained on ourwebsite is not part of this document.

 

**Use of NOLs**

 

The Company has Federaland state net operating losses (NOL) carryovers that will expire in the years2004 through 2020.  The Company’sutilization of a portion of its NOL carryovers is subject to variousuncertainties including an annual limitation under Section 382 of the InternalRevenue Code.  The amount of thislimitation is not known at this time.

 

10

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**ITEM 2.  PROPERTIES**

 

As of March 24, 2004, theprincipal properties utilized by the Company were as follows:

 

 
| **Type of Facility**                                                                                            |   | **Approximate  Total  Square Footage** |   | **Location**            |
|-----------------------------------------------------------------------------------------------------------------|--------|----------------------------------------|--------|-------------------------|
|                                                                                                            |   |                                   |   |                    |
| Corporate and Hospitality Headquarters, warehousing,  administration, marketing, sales, development and support |   | 26,955                                 |   | Lake Forest, California |
| Sales and support                                                                                               |   | 600                                    |   | Boston, Massachusetts   |
| Sales and support                                                                                               |   | 500                                    |   | Allen, Texas            |
| Hotel Information Systems (Ltd) Hong Kong  headquarters, marketing, sales, and support                          |   | 2,902                                  |   | Hong Kong               |
| Hotel Information Systems (Ltd) Singapore sales and  support                                                    |   | 4,529                                  |   | Singapore               |
| Hospitality Services & Solutions (Ltd) Malaysia  support and development.                                   |   | 1,760                                  |   | Malaysia                |
| MAI Information Solutions Limited, European  Headquarters, marketing, sales and support                         |   | 2,225                                  |   | London                  |

 

All of the propertiesnoted above were occupied by the Company pursuant to leases with variousexpiration dates.  In addition to thepremises identified above, the Company leases 2 other locations around theworld.  Generally such leases are forterms of five years or less.  We believethat our current facilities are suitable for our needs.

 

# **ITEM 3.**                                                     LEGALPROCEEDINGS

# ** **

### *InternalRevenue Service*

### * *

On September 30, 2003,the Company entered into a settlement agreement with the United States InternalRevenue Service (the “Service”) on a tax claim which resulted from theCompany’s Chapter 11 proceedings whereby it agreed to pay $489,000 in equalmonthly installments of $7,438 over a period of six (6) years at an interestrate of 6%.  The $489,000 settlement isreflected as debt in the financial statements and resulted in a one-time gainof $262,000 which is included in income tax benefit. In the event that theCompany fails to pay the Service any payment, and such payment failurecontinues for sixty days after written notice of such failure, $1,832,100, plusaccrued interest thereon, less any payments made by the Company will beimmediately due and payable to the Service. As of December 31, 2003, the company is current on its payments and thebalance outstanding on the settlement was $428,000.

 

### *CSA PrivateLimited*

### * *

CSA is a MAIshareholder.  On August 9, 1996, MAIacquired from Hotel Information Systems, Inc. (“HIS”) substantially all theirassets and certain of their liabilities (the “HIS Acquisition”).  At the time of MAI’s acquisition of HIS in1996, CSA was a shareholder of HIS and, in connection with the purchase, MAIagreed to issue to CSA shares of its Common Stock worth approximately $4.8million in August 1996, which amount had increased to approximately $6.8million as of December 31, 2000, pursuant to the agreement. The Company enteredinto a settlement agreement with CSA in February, 2001 whereby it (i) issuedCSA 1,916,014 additional shares of our Common Stock to bring CSA’s total shareownership to 2,433,333 shares; (ii) filed a registration statement for all ofCSA’s shares of our Common Stock which has been declared effective by the SECso that such shares are now freely tradable; and (iii) executed a secured debtinstrument in favor of CSA in the principal sum of $2,800,000 which issubordinate only to the Company’s present group of two (2) senior securedleaders and required cash installment payments to commence in March 2002 (seenote 7).

 

In connection with thesettlement agreement with CSA, the Company recorded the $2.8 million debtissuance as a reduction in paid in capital and the 1,916,014 additional sharesat par as an addition to Common Stock and a reduction to additional paid incapital.

 

### *HotelInformation Systems, Inc.*

### * *

On March 25, 2003, theCompany entered into a settlement agreement with Hotel Information Systems(“HIS”) and one of its former corporate officers whereby (i) the partiesdismissed all claims, known and unknown, against each other; (ii) the Companyforgave and wrote off a note receivable from the former corporate officer ofHIS in the amount of $66,000 (which was expensed to other expense in the 2002consolidated statement of operations); (iii) the Company paid $50,000 in cashand issued a non-interest bearing unsecured promissory note which requires 35consecutive monthly payments of $5,000

 

11

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each commencing April 1,2003; and (iv) the remaining 374,116 shares in the escrow account will bereleased to the Company.  If the Companyis delinquent four times in any twelve month period during the term of theunsecured promissory note in making its $5,000 monthly payments to HIS, and HISissues respective valid default notices, the Company will be subject to a$225,000 penalty.  The 374,116 shareshave been received by MAI together with the HIS authorization to legallytransfer such shares to MAI.

 

Imputing interest at 11%,the present value of the $175,000 promissory note at the date of the settlementwas $149,000.  The Company recorded thepresent value of this debt issuance and the $50,000 cash payment as a reductionto additional paid-in capital.

 

### *Cher-AeHeights Indian Community*

### * *

A lawsuit was filed byCher-Ae Heights Indian Community (“Cher-Ae Heights”) against Logix DevelopmentCorporation (Logix), now known as MAI Development Corporation, as aco-defendant for a breach of contract by the Company’s formerly owned gamingsubsidiary along with the new owners, Monaco Informatiques Systemes (“MIS”),who acquired the assets and certain liabilities of the gaming subsidiary onJuly 27, 2001. Based upon this suit, MIS informed the Company that it did notintend to pay the next $500,000 due to the Company under a promissory note andsecurity agreement.  On October 24,2002, the Company entered into a global settlement agreement between theparties whereby all claims, known and unknown, between the parties weredismissed and the Company received $796,000.

 

### *LogixDevelopment Corporation*

### * *

We entered into asettlement agreement with Logix Development Corporation (“Logix”) in July of2002 whereby we (i) issued Logix 200,000 shares of our Common Stock (ii)required the Company to make various cash installment payments totaling$175,000 to be paid within 1 year and (iii) executed a contract with Logix fora consulting project in the amount of $50,000.

 

In December 2003, weentered into another settlement agreement with Logix whereby we (i) issued200,000 free trading shares in exchange for the 200,000 restricted CommonShares from the original settlement agreement in July 2002 (ii) required theCompany to make monthly payments totaling $187,500 over a 25 month period and(iii) mutually released each other of all past, present and future claimsassociated with the lawsuit.

 

### *Other Litigation*

### * *

We were also involved invarious other legal proceedings that are incident to its business. Managementbelieves the ultimate outcome of these matters will not have a material adverseeffect on our consolidated financial position, results of operations orliquidity.

 

# **ITEM 4.**                                                     SUBMISSIONOF MATTERS TO A VOTE OF SECURITY HOLDERS

# ** **

**None.**

** **

**12**

----

 

**PART II**

** **

# **ITEM 5.**                                                     MARKETFOR REGISTRANT’S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.

# ** **

In June 2003, the Companywas de-listed from the American Stock Exchange (“AMEX”) and began trading onthe Over-the-counter Bulletin Board under the symbol “MAIY.OB”.  Prior to listing on the AMEX, which occurredAugust 29, 1995, our shares were traded on the Over-the-Counter Bulletin Board by various market makers underthe ticker symbol “MAIS”. The following table sets forth the high and lowclosing sales prices for our Common Stock for the indicated periods during 2002and 2003, as reported by the AMEX and Over-the-counter Bulletin Board. OnFebruary 27, 2004, the closing price of our Common Stock as reported by theOver-the-counter Bulletin Board was $0.17 and there were 545 stockholders ofrecord (See “Risk Factors” – American Stock Exchange Market Listing”).

 

We have never paid anydividends and do not anticipate declaring or paying cash dividends in theforeseeable future.  We intend to retainfuture earnings, if any, to reinvest in our business.  The covenants in our current or future financing agreements mayprohibit or limit our ability to declare or pay cash dividends.

 

| **Period**     |   | **High** |   | **Low** |   |
|----------------|--------|----------|--------|---------|--------|
|           |   |     |   |    |   |
| Fiscal 2002    |   |     |   |    |   |
| First Quarter  |   | $        | 0.34   |    | $      | 0.24 |   |
| Second Quarter |   | $        | 0.45   |    | $      | 0.25 |   |
| Third Quarter  |   | $        | 0.34   |    | $      | 0.16 |   |
| Fourth Quarter |   | $        | 0.18   |    | $      | 0.08 |   |
|           |   |     |   |    |   |
| Fiscal 2003:   |   |     |   |    |   |
| First Quarter  |   | $        | 0.55   |    | $      | 0.06 |   |
| Second Quarter |   | $        | 0.28   |    | $      | 0.05 |   |
| Third Quarter  |   | $        | 0.25   |    | $      | 0.06 |   |
| Fourth Quarter |   | $        | 0.15   |    | $      | 0.08 |   |

# ** **

# **ITEM 6.**                                                     SELECTEDFINANCIAL INFORMATION

# ** **

The information requiredby this item is incorporated by reference to our Annual Report under theheading, “Selected Financial Information”.

 

# **ITEM 7.**                                                     MANAGEMENT’SDISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

# ** **

The information requiredby this item is incorporated by reference to our Annual Report under theheading, “Management’s Discussion and Analysis of Financial Condition andResults of Operations”.

 

# **ITEM 7A.**                                            QUANTITATIVEAND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

# ** **

# **Market Risk Disclosures**

# ** **

The following discussionabout our market risk disclosures contains forward-looking statements.  Forward-looking statements are subject torisks and uncertainties.  Actual resultscould differ materially from those discussed in the forward-lookingstatements.  We are exposed to marketrisk related to changes in interest rates and foreign currency exchangerates.  We do not have derivativefinancial instruments for hedging, speculative, or trading purposes.

 

***InterestRate Sensitivity***

*** ***

Of our $10.8 million principal amount of indebtedness atDecember 31, 2003, none bears interest at a variable rate.  However, $5.7 million bears interest at afixed rate of 11%, $2.8 million bears interest at a fixed rate of 10%, $1.4million bears interest at 9.25% and $0.3 million bears fixed interest ratesranging from 6% to 17.5%. Since these debt instruments bear interest at fixedrates, we have exposure to decreases in interest rates because we still arerequired to pay the fixed rate even if current interest rates are lower.

 

13

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***ForeignCurrency Risk***

*** ***

We believe that ourexposure to currency exchange fluctuation risk is reduced because ourtransactions with international vendors and customers are generally transactedin US dollars.  The currency exchangeimpact on intercompany transactions was immaterial in 2001, 2002, and 2003.

 

# **ITEM 8.**                                                     CONSOLIDATEDFINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

# ** **

The information requiredby this item is incorporated by reference to our Annual Report under theheadings, “Consolidated Balance Sheets”, “Consolidated Statements ofOperations”, “Consolidated Statements of Stockholders’ Deficiency andComprehensive Income (Loss)”, “Consolidated Statements of Cash Flows”, “Notesto Consolidated Financial Statements” and “Independent Auditors’ Report”.

 

Schedule II Valuation andQualifying Accounts is set forth in this Annual Report on Form 10-K.

 

All other schedules andfinancial statements are omitted because they are not applicable or therequired information is shown in the consolidated financial statements or notesthereto.

 

# **ITEM 9.**                                                     CHANGESIN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

# ** **

None.

 

# **ITEM9A.               CONTROLS AND PROCEDURES**

# ** **

The Company maintainscontrols and procedures designed to ensure that it is able to collect the informationit is required to disclose in the reports it files with the SEC, and toprocess, summarize and disclose this information within the time periodsspecified in the rules of the SEC.  TheCompany’s Chief Executive and Chief Financial Officers are responsible forestablishing and maintaining these procedures, and, as required by the rules ofthe SEC, evaluate their effectiveness. Based on their evaluation of the Company’s disclosure controls andprocedures which took place as of a date within 90 days of the filing date ofthis report, the Chief Executive and Chief Financial Officers believe thatthese procedures are effective to ensure that the Company is able to collect,process and disclose the information it is required to disclose in the reportsit files with the SEC within the required time periods.

 

***InternalControls***

*** ***

The Company maintains asystem of internal controls designed to provide reasonable assurance that:transactions are executed in accordance with management’s general or specificauthorization; transactions are recorded as necessary to permit preparation offinancial statements in conformity with generally accepted accountingprinciples, and to maintain accountability for assets; access to assets ispermitted only in accordance with management’s general or specificauthorization; and the recorded accountability for assets is compared with theexisting assets at reasonable intervals and appropriate action is taken withrespect to any differences.

 

Since the date of themost recent evaluation of the Company’s internal controls by the ChiefExecutive and Chief Financial Officers, there have been no significant changesin such controls or in other factors that could have significantly affectedthose controls, including and corrective actions with regard to significantdeficiencies and material weaknesses.

 

14

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**PART III**

** **

# **ITEM 10.**                                           DIRECTORSAND EXECUTIVE OFFICERS OF THE REGISTRANT

# ** **

Information required bythis Item with respect to Directors may be found in the section captioned“Election of Directors” appearing in the definitive Proxy Statement to bedelivered to stockholders in connection with the Annual Meeting of Stockholdersto be held in 2004.  Informationrequired by this Item with respect to executive officers may be found in thesection captioned “Proposal 1 - Election of Directors” appearing in thedefinitive Proxy Statement to be delivered to stockholders in connection withthe Annual Meeting of Stockholders to be held in 2004.  Such information is incorporated herein byreference.

 

# **ITEM 11.**                                           EXECUTIVECOMPENSATION

# ** **

Information required bythis Item may be found in the section captioned “Executive Compensation”appearing in the definitive Proxy Statement to be delivered to stockholders inconnection with the Annual Meeting of Stockholders to be held in 2004.  Such information is incorporated herein byreference.

 

# **ITEM 12.**                                           SECURITYOWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

# ** **

Information with respectto this Item may be found in the section captioned “Security Ownership ofManagement” appearing in the definitive Proxy Statement to be delivered tostockholders in connection with the Annual Meeting of Stockholders to be heldin 2004.  Such information isincorporated herein by reference.

 

# **Securityauthorized for issuance under equity compensation plans**

# ** **

The following table provides information as of December 31, 2003regarding compensation plans (including individual compensation arrangements)under which equity securities of the Company are authorized for issuance.

 
| **Plan Category**                                                |   | **Number of  securities to be  issued upon exercise of  outstanding options and  warrants** |   | **Weighted-average  exercise  price of outstanding  options and warrants** |   | **Number of  securities  remaining available for  future issuance under equity  compensation plans  (excluding securities  reflected in column a)** |    |
|------------------------------------------------------------------|--------|---------------------------------------------------------------------------------------------|--------|----------------------------------------------------------------------------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------|---------|
|                                                             |   | **(a)**                                                                                     |   | **(b)**                                                                    |   | **(c)**                                                                                                                                             |    |
|                                                             |   |                                                                                        |   |                                                                       |   |                                                                                                                                                |    |
| Equity Compensation Plans Approved  By Security Holders     |   | 1,829 000                                                                                   |   | $                                                                          | 1.10   |                                                                                                                                                | 394,147 |   |
| Equity Compensation Plans not Approved  By Security Holders |   | 1,275,000                                                                                   |   | $                                                                          | 0.43   |                                                                                                                                                | —  |   |
|                                                             |   |                                                                                        |   |                                                                       |   |                                                                                                                                                |    |
| Total                                                            | 3      | 3,104,000                                                                                   |   | $                                                                          | 1.21   |                                                                                                                                                | 394,147 |   |

 

See note 14 to theConsolidated Financial Statements for information regarding the materialfeatures of the above plans.

 

15

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**ITEM 13.****                                             CERTAINRELATIONSHIPS AND RELATED TRANSACTIONS**

# ** **

Information with respectto this Item may be found in the sections captioned “Proposal 1 – Election ofDirectors,” and “ – Compensation Committee Interlocks and InsiderParticipation” and “Executive Compensation - Employment Contracts and Change ofControl Arrangements” appearing in the definitive Proxy Statement to bedelivered to stockholders in connection with the Annual Meeting of Stockholdersto be held in 2004.   Such informationis incorporated herein by reference.

 

# **ITEM 14.**                                           PRINCIPALACCOUNTANT FEES AND SERVICES

# ** **

The information requiredby this item is contained in the section of the Company’s Proxy Statement forits 2004 Annual Meeting of Stockholders entitled “INDEPENDENT PUBLICACCOUNTANTS”, which section is incorporated herein by reference.

 

16

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**PART IV**

** **

# **ITEM15.**                                              EXHIBITS,FINANCIAL STATEMENTS AND SCHEDULE AND REPORTS ON FORM 8-K

# ** **

(a)           1.  Financial Statements

 

Reportof Independent Certified Public Accountants from BDO Seidman, LLP

Independent Auditors’ Reportfrom KPMG LLP

Consolidated Balance Sheets

ConsolidatedStatements of Operations

ConsolidatedStatements of Stockholders’ Deficiency and Comprehensive Income (Loss)

ConsolidatedStatements of Cash Flows

Notes toConsolidated Financial Statements

 

The consolidated financial statements of the Company,the notes thereto and the Independent Auditors’ Report are incorporated hereinby reference to the Company’s 2003 Annual Report.

 

2.  Financial Statement Schedule

 

ScheduleII Valuation and Qualifying Accounts

 

3. Exhibits:

 
| **Number** |   | **Exhibit**                                                                                                                                                                                                                                                                                                                                    |
|------------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|       |   |                                                                                                                                                                                                                                                                                                                                           |
| 2.1        |   | First Amended Joint Chapter II Plan of Reorganization of MAI Systems  Corporation, Brooke Acquisition Corp. and CLS Software, Inc., as confirmed by  the United States Bankruptcy Court for the District of Delaware, on November  13, 1993, filed as Exhibit 2.1 to the Registrant’s Current Report on Form 8-K  dated January 15, 1994. |
|       |   |                                                                                                                                                                                                                                                                                                                                           |
| 2.2        |   | Consent Order Modifying Confirmed Plan of Reorganization and Fixing  Effective Date, as entered by the United States Bankruptcy Court for the  district of Delaware on January 27, 1994, as filed as Exhibit 2.2 to the  Registrant’s Current Report on form 8-K dated February 9, 1994.                                                  |
|       |   |                                                                                                                                                                                                                                                                                                                                           |
| 3.1        |   | Amended and Restated Certificate of Incorporation of MAI Systems  Corporation, filed as Exhibit 3.1 to the Company’s 1996 Annual Report on Form  10-K.                                                                                                                                                                                    |
|       |   |                                                                                                                                                                                                                                                                                                                                           |
| 3.2        |   | Amendment No. 1 to the Amended and Restated Certificate of  Incorporation of MAI Systems Corporation, filed as Exhibit 3.2 to the  Company’s 1996 Annual Report on Form 10-K.                                                                                                                                                             |
|       |   |                                                                                                                                                                                                                                                                                                                                           |
| 3.3        |   | By-laws of MAI Systems Corporation, filed as Exhibit 2(b) to the  Registrant’s Registration Statement on Form 8-A/A filed with the Securities  and Exchange Commission on February 24, 1994.                                                                                                                                              |
|       |   |                                                                                                                                                                                                                                                                                                                                           |
| 3.4        |   | Amendment No. 2 to the Amended and Restated Certificate of  Incorporation of MAI Systems Corporation, filed as Exhibit 3.4 to the  Company’s 1998 Annual Report on Form 10-K.                                                                                                                                                             |
|       |   |                                                                                                                                                                                                                                                                                                                                           |
| 10.1       |   | Amended and Restated MAI Systems Corporation 1993 Stock Option Plan.                                                                                                                                                                                                                                                                           |
|       |   |                                                                                                                                                                                                                                                                                                                                           |
| 10.2       |   | Amended and Restated 1995 Non-Employee Directors Stock Option Plan.                                                                                                                                                                                                                                                                            |
|       |   |                                                                                                                                                                                                                                                                                                                                           |
| 10.3       |   | MAI Systems Corporation’s 2001 Restricted Stock Plan.                                                                                                                                                                                                                                                                                     |
|       |   |                                                                                                                                                                                                                                                                                                                                           |
| 10.4       |   | Coast Business Credit Loan and Security Agreement, dated April 23,  1998, filed as Exhibit 10.2 to the Company’s 1998 Annual Report on Form 10-K.                                                                                                                                                                                         |
|       |   |                                                                                                                                                                                                                                                                                                                                           |
| 10.5       |   | Amendment Number One dated September 30, 1998 to the Loan and  Security Agreement between Coast Business Credit and the Company dated April  23, 1998, filed as Exhibit 10.2 to the Company’s 1999 Annual Report on Form  10-K.                                                                                                           |
|       |   |                                                                                                                                                                                                                                                                                                                                           |
| 10.6       |   | Amendment Number Two dated March 2, 1999 to the Loan and Security  Agreement between Coast Business Credit and the Company dated April 23, 1998,  filed as Exhibit 10.3 to the Company’s 1999 Annual Report on Form 10-K.                                                                                                                 |

 

17

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| 10.7   |   | Amendment Number Three dated June 16, 1999 to the Loan and Security  Agreement between Coast Business Credit and the Company dated April 23, 1998,  filed as Exhibit 10.4 to the Company’s 1999 Annual Report on Form 10-K.                                                                                                   |
|--------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                                                                                               |
| 10.8   |   | Amendment Number Four dated July 28, 1999 to the Loan and Security  Agreement between Coast Business Credit and the Company dated April 23, 1998,  filed as Exhibit 10.3 to the Company’s Quarterly Report on Form 10-Q for the  period ending September 30, 1999.                                                            |
|   |   |                                                                                                                                                                                                                                                                                                                               |
| 10.9   |   | Letter Agreement Amendment dated October 1, 1999 to the Loan and  Security Agreement between Coast Business Credit and the Company dated April  23, 1998, filed as Exhibit 10.6 to the Company’s 1999 Annual Report on Form  10-K.                                                                                            |
|   |   |                                                                                                                                                                                                                                                                                                                               |
| 10.10  |   | Amendment Number Five dated April 13, 2000, to the Loan and Security  Agreement between Coast Business Credit and the Company dated April 23, 1998,  filed as Exhibit 10.20 to the Company’s 1999 Annual Report on Form 10-K.                                                                                                 |
|   |   |                                                                                                                                                                                                                                                                                                                               |
| 10.11  |   | Amendment Number Six dated September 12, 2000, to the Loan and  Security Agreement between Coast Business Credit and the Company dated April  23, 1998, filed as Exhibit 10.31 to the Company’s 2000 Annual Report on Form  10-K.                                                                                             |
|   |   |                                                                                                                                                                                                                                                                                                                               |
| 10.12  |   | Amendment Number Seven dated September 13, 2001, to the Loan and  Security Agreement between Coast Business Credit and the Company dated April  23, 1998, filed as Exhibit 10.12 to the Company’s 2001 Annual Report on Form  10-K.                                                                                           |
|   |   |                                                                                                                                                                                                                                                                                                                               |
| 10.13  |   | Amendment Number Eight dated January 13, 2003, to the Loan and  Security Agreement between Coast Business Credit and the Company dated April  23, 1998                                                                                                                                                                             |
|   |   |                                                                                                                                                                                                                                                                                                                               |
| 10.14  |   | Pledge, Assignment and Security Agreement dated September 7, 2001  between Coast Business Credit, the Company, MAI Systems International and MAI  Development Corporation, filed as Exhibit 10.13 to the Company’s 2001 Annual  Report on Form 10-K.                                                                          |
|   |   |                                                                                                                                                                                                                                                                                                                               |
| 10.15  |   | Collateral Release Agreement dated September 28, 2001 between Coast  Business Credit and the Company filed as Exhibit 10.14 to the Company’s 2001  Annual Report on Form 10-K.                                                                                                                                                |
|   |   |                                                                                                                                                                                                                                                                                                                               |
| 10.17  |   | Forebearance Agreement between MAI Systems Corporation and CPI  Securities LP, The Value Realization Fund, L.P., The Canyon Value Realization  Fund and GRS Partners II dated October 28, 1999, filed as Exhibit 10.7 to the  Company’s Quarterly Report on Form 10-Q for the period ending September 30,  1999.              |
|   |   |                                                                                                                                                                                                                                                                                                                               |
| 10.18  |   | Amendment No. 1 dated February 14, 2000 to Forebearance Agreement  between MAI Systems Corporation and CPI Securities LP, The Value Realization  Fund, L.P., The Canyon Value Realization Fund and GRS Partners II dated  October 28, 1999, filed as Exhibit 10.18 to the Company’s 1999 Annual Report  on Form 10-K.         |
|   |   |                                                                                                                                                                                                                                                                                                                               |
| 10.19  |   | Amendment No. 2 dated April 13, 2000 to Forebearance Agreement  between MAI Systems Corporation and CPI Securities LP, The Value Realization  Fund, L.P., The Canyon Value Realization Fund and GRS Partners II dated  October 28, 1999, filed as Exhibit 10.19 to the Company’s 1999 Annual Report  on Form 10-K.            |
|   |   |                                                                                                                                                                                                                                                                                                                               |
| 10.20  |   | Supplement and Amendment dated January 31, 2001 to Forebearance  Agreement between MAI Systems Corporation and CPI Securities LP, The Value  Realization Fund, L.P., The Canyon Value Realization Fund and GRS Partners II  dated October 28, 1999, filed as Exhibit 10.32 to the Company’s 2000 Annual  Report on Form 10-K. |
|   |   |                                                                                                                                                                                                                                                                                                                               |
| 10.21  |   | Collateral Release Agreement dated September 28, 2001 between MAI  Systems Corporation and CPI Securities LP, The Value Realization Fund, L.P.,  The Canyon Value Realization Fund and GRS Partners II.                                                                                                                            |
|   |   |                                                                                                                                                                                                                                                                                                                               |
| 10.22  |   | Amendment No. 3 dated January 13, 2003 to Note Purchase Agreement  between MAI Systems Corporation and CPI Securities LP, The Value Realization  Fund, L.P., The Canyon Value Realization Fund and GRS Partners II dated  October 28, 1999.                                                                                        |
|   |   |                                                                                                                                                                                                                                                                                                                               |
| 10.23  |   | Amendment No. One dated January 13, 2003 to Intercreditor and  Subordination Agreement dated April 23, 1998 between MAI Systems Corporation  and CPI Securities LP, The Value Realization Fund, L.P., The Canyon Value  Realization Fund, GRS Partners II and Coast Business Credit.                                               |
|   |   |                                                                                                                                                                                                                                                                                                                               |
| 10.24  |   | Warrant Agreement between CPI Securities LP, The Value Realization  Fund, L.P., The Canyon Value Realization Fund and GRS Partners II.                                                                                                                                                                                             |
|   |   |                                                                                                                                                                                                                                                                                                                               |
| 10.25  |   | Registration Rights Agreement between CPI Securities LP, The Value  Realization Fund, L.P., The Canyon Value Realization Fund and GRS Partners  II.                                                                                                                                                                                |

 

18

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| 10.26  |   | Settlement Agreement dated December 1, 2000 between CSA and MAI  Systems Corporation, filed as Exhibit 10.27 to the Company’s 2000 Annual  Report on Form 10-K.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
|--------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 10.27  |   | Security Agreement dated December 1, 2000 between CSA and MAI Systems  Corporation, filed as Exhibit 10.28 to the Company’s 2000 Annual Report on  Form 10K.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 10.28  |   | Amendment to Subordinated Note Due 2003 dated as of April 18, 2002  between CSA Private Limited and MAI Systems Corporation, filed as an Exhibit  to the Company’s Quarterly Report on Form 10-Q for the period ending March 31,  2002.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 10.29  |   | Consulting Agreement dated as of August 15, 1994, as amended as of  October 17, 1994, August 16, 1996, August 31, 1997, August 31, 1998, August  31, 1999, August 31, 2000,  August 31,  2001, August 31, 2002 and August 31, 2003 by and between the Company and  Orchard Capital Corporation, relating to the services of Richard S. Ressler,  Chairman of the Board.  The original  agreement and the October 17, 1994 amendment are incorporated herein by  reference to the Company’s 1994 Annual Report on Form 10-K.  The August 16, 1996 amendment is  incorporated herein by reference to the Company’s 1996 Annual Report on Form  10-K.  The August 31, 1997 amendment  is incorporated herein by reference to the Company’s 1997 Annual Report on  Form 10-K. The August 31, 1998 amendment is incorporated herein by reference  to the Company’s 1998 Annual Report on Form 10-K.  The August 31, 1999 amendment is incorporated herein by  reference to the Company’s 1999 Annual Report on Form 10-K.  The August 2000 amendment is incorporated  herein by reference to the Company’s 2000 Annual Report on Form 10-K.  The August 2001 amendment is incorporated  herein by reference to the Company’s 2001 Annual Report on Form 10-K. The  August 2002 amendment is incorporated herein by reference to the Company’s  2002 Annual Report on Form 10-K. The August 2003 amendment is incorporated  herein by reference to the Company’s 2003 Annual Report on Form 10-K. |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 10.30  |   | Premises Lease for MAI Systems Corporation corporate offices dated  January 23, 2003                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 13.1   |   | Portions of the Company’s Annual Report to Stockholders for the year  ended December 31, 2003, but only to the extent such report is expressly  incorporated by reference into Items 10, 11, 12, 13 and 15(a)(1) of this  report and such report is not otherwise deemed to be filed as part of this  Annual Report on Form 10-K.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 21.1   |   | Subsidiaries of MAI Systems Corporation.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 23.1   |   | Report of Independent Certified Public Accountants from BDO Seidman  LLP.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 23.2   |   | Consent of BDO Seidman, LLP.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 23.3   |   | Independent Auditors’ Report on Schedule and Consent from KPMG LLP                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 31.1   |   | Certification of Chief Executive Officer as required by Section 302  of Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 31.2   |   | Certification of Chief  Financial Officer as required by Section 302 of Sarbanes-Oxley Act of 2002                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 32.1   |   | Certification of Chief  Executive Officer as required by 18 U.S.C. Section 1350 as adopted pursuant  to Section 906 of Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 32.2   |   | Certification of Chief  Financial Officer as required by 18 U.S.C. Section 1350 as adopted pursuant  to Section 906 of Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| (b)    |   | Reports on Form 8-K                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 1.     |   | Filed May 2, 2003                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 2.     |   | Filed April 30, 2003                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 3.     |   | Filed April 24, 2003                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 4.     |   | Filed November 5, 2003                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |

 

19

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**SIGNATURES**

 

Pursuant to therequirements of Section 13 or 15(d) of the Securities and Exchange Act of 1934,the Registrant has duly caused this report to be signed on its behalf by theundersigned, thereunto duly authorized.

 

 
|                  | MAI SYSTEMS CORPORATION               |
|-----------------------|---------------------------------------|
|                  |                                  |
|                  |                                  |
| By:         | /s/ William B. Kretzmer               |
|                  |                                  |
|                  | William B. Kretzmer                   |
|                  |                                  |
|                  | Chief Executive Officer and President |
|                  |                                  |
| Dated: March 24, 2004 |                                  |

 

 

Pursuant to therequirements of the Securities Exchange Act of 1934, this report has beensigned below by the following persons on behalf of the registrant and in thecapacities indicated on March 24, 2004.

 
| **Signatures**          |   | **Title**                                            |
|-------------------------|--------|------------------------------------------------------|
|                    |   |                                                 |
| /s/Richard S.  Ressler  |   | Chairman, Director                                   |
| Richard S.  Ressler     |   |                                                 |
|                    |   |                                                 |
| /s/William B.  Kretzmer |   | Chief Executive Officer  and President               |
| William B.  Kretzmer    |   | (Principal Executive  Officer)                       |
|                    |   |                                                 |
| /s/James W.  Dolan      |   | Chief Operating Officer  and Chief Financial Officer |
| James W. Dolan          |   | (Principal Financial  and Accounting Officer)        |
|                    |   |                                                 |
| /s/Zohar  Loshitzer     |   | Director                                             |
| Zohar Loshitzer         |   |                                                 |
|                    |   |                                                 |
| /s/Stephen Ross         |   | Director                                             |
| Stephen Ross            |   |                                                 |
|                    |   |                                                 |
| /s/Steven F.  Mayer     |   | Director                                             |
| Steven F. Mayer         |   |                                                 |

 

20

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**Exhibit 13.1**

 

# **THE COMPANY’S ANNUAL REPORT TO STOCKHOLDERS**

# ** **

Sections of theRegistrant’s Annual Report to Stockholders Incorporated by Reference:

 

13.1.1      Selected Financial Information

 

13.1.2      Management’s Discussion and Analysis ofFinancial Condition and Results of Operations

 

13.1.3.1         Independent Auditor Report

 

13.1.3.2         Independent Auditor Report

 

13.1.4      Consolidated Balance Sheets

 

13.1.5      Consolidated Statements of Operations

 

13.1.6      Consolidated Statements of Stockholders’Deficiency and Comprehensive Income (Loss)

 

13.1.7      Consolidated Statements of Cash Flows

 

13.1.8    Notes to Consolidated Financial Statements

 

21

----

 

**Exhibit13.1.1****                     SELECTEDFINANCIAL INFORMATION**

# ** **

The following tablesummarizes our selected financial data derived from our financials statements.

 

The financial data setforth below should be read in conjunction with, and is qualified in referenceto, “Management’s Discussion and Analysis of Financial Condition and Results ofOperations,” our consolidated financial statements and the related notes tothose financial statements, included elsewhere in this report.

 

**SELECTEDFINANCIAL DATA**

** **

(in thousands,except per share data)

 

STATEMENT OFOPERATIONS DATA

 
|                                                                         |   | **For the  Years Ended December 31,** |   |
|------------------------------------------------------------------------------|--------|---------------------------------------|--------|
|                                                                         |   | **1999**                              |   | **2000** |   | **2001** |   | **2002** |   | **2003** |   |
|                                                                         |   |                                  |   |   |   |   |   |   |   |   |   |
| Revenue                                                                      |   | $                                     | 37,335 |   | $ | 27,321 |   | $ | 23,768 |   | $ | 21,937 |   | $ | 19,346 |   |
| Income (loss) from continuing operations                                     |   | (13,770                               | )      | 1,444 |   | 3,657 |   | 417 |   | 353 |   |
| Income (loss) from discontinued operations                                   |   | 2,997                                 |   | (627 | ) | (1,525 | ) | (1,767 | ) | — |   |
| Net income (loss)                                                            |   | (10,773                               | )      | 817 |   | 2,132 |   | (1,350 | ) | 353 |   |
|                                                                         |   |                                  |   |   |   |   |   |   |   |   |   |
| Income (loss) per share from continuing  operations:                         |   |                                  |   |   |   |   |   |   |   |   |   |
|                                                                         |   |                                  |   |   |   |   |   |   |   |   |   |
| Basic income (loss) per share                                                |   | $                                     | (1.26  | ) | $ | 0.13 |   | $ | 0.28 |   | $ | 0.03 |   | $ | 0.02 |   |
| Diluted income (loss) per share                                              |   | $                                     | (1.26  | ) | $ | 0.13 |   | $ | 0.28 |   | $ | 0.03 |   | $ | 0.02 |   |
|                                                                         |   |                                  |   |   |   |   |   |   |   |   |   |
| Income (loss) per share from discontinued  operations:                       |   |                                  |   |   |   |   |   |   |   |   |   |
|                                                                         |   |                                  |   |   |   |   |   |   |   |   |   |
| Basic income (loss) per share                                                |   | $                                     | 0.27   |   | $ | (0.06 | ) | $ | (0.12 | ) | $ | (0.13 | ) | $ | — |   |
| Diluted income (loss) per share                                              |   | $                                     | 0.27   |   | $ | (0.06 | ) | $ | (0.12 | ) | $ | (0.13 | ) | $ | — |   |
|                                                                         |   |                                  |   |   |   |   |   |   |   |   |   |
| Net Income (loss) per share:                                                 |   |                                  |   |   |   |   |   |   |   |   |   |
|                                                                         |   |                                  |   |   |   |   |   |   |   |   |   |
| Basic income (loss) per share                                                |   | $                                     | (0.99  | ) | $ | 0.07 |   | $ | 0.16 |   | $ | (0.10 | ) | $ | 0.02 |   |
| Diluted income (loss) per share                                              |   | $                                     | (0.99  | ) | $ | 0.07 |   | $ | 0.16 |   | $ | (0.10 | ) | $ | 0.02 |   |
|                                                                         |   |                                  |   |   |   |   |   |   |   |   |   |
| Weighted average common shares used in  determining income (loss) per share: |   |                                  |   |   |   |   |   |   |   |   |   |
|                                                                         |   |                                  |   |   |   |   |   |   |   |   |   |
| Basic                                                                        |   | 10,889                                |   | 10,923 |   | 13,091 |   | 13,945 |   | 14,538 |   |
| Diluted                                                                      |   | 10,889                                |   | 11,206 |   | 13,263 |   | 13,945 |   | 14,838 |   |
|                                                                         |   |                                  |   |   |   |   |   |   |   |   |   |
| BALANCE SHEET DATA                                                           |   |                                  |   |   |   |   |   |   |   |   |   |
|                                                                         |   |                                  |   |   |   |   |   |   |   |   |   |
| Working capital deficiency                                                   |   | (14,381                               | )      | (10,811 | ) | (3,787 | ) | (8,649 | ) | (10,399 | ) |
| Total assets                                                                 |   | 24,630                                |   | 16,445 |   | 8,288 |   | 6,177 |   | 6,530 |   |
| Long-term debt                                                               |   | 8,114                                 |   | 7,792 |   | 10,966 |   | 10,523 |   | 10,781 |   |
| Stockholders’ deficiency (1)                                            |   | (12,569                               | )      | (12,110 | ) | (12,992 | ) | (14,782 | ) | (14,586 | ) |

 

----

(1)           No cash dividendshave been declared by the Company.

 

22

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**QUARTERLYDATA (Unaudited)**

 

**(inmillions, except share data)**

 
|                                                                                        |   | **1st  Quarter  2002** |   | **2nd  Quarter  2002** |   | **3rd  Quarter  2002** |   | **4th  Quarter  2002(1)** |   | **1st  Quarter  2003** |   | **2nd  Quarter  2003** |   | **3rd  Quarter  2003** |   | **4th  Quarter  2003** |   |
|---------------------------------------------------------------------------------------------|--------|------------------------|--------|------------------------|--------|------------------------|--------|---------------------------|--------|------------------------|--------|------------------------|--------|------------------------|--------|------------------------|--------|
|                                                                                        |   |                   |   |                   |   |                   |   |                      |   |                   |   |                   |   |                   |   |                   |   |
| Revenue                                                                                     |   | $                      | 5.7    |                   | $      | 5.5                    |   | $                         | 5.7    |                   | $      | 5.0                    |   | $                      | 5.2    |                   | $      | 4.8 |   | $ | 4.8 |   | $ | 4.6 |   |
| Gross profit                                                                                |   | 3.8                    |   | 3.7                    |   | 3.9                    |   | 3.7                       |   | 3.7                    |   | 3.5                    |   | 3.5                    |   | 3.1                    |   |
| Income (loss) fromcontinuing operations                                                     |   | 0.2                    |   | 0.3                    |   | 0.1                    |   | (0.2                      | )      | 0.3                    |   | (0.1                   | )      | 0.1                    |   | 0.1                    |   |
| Income (loss) from discontinued operations                                                  |   | 0.1                    |   | 0.1                    |   | (0.2                   | )      | (1.7                      | )      | —                 |   | —                 |   | —                 |   | —                 |   |
| Net income (loss)                                                                           |   | 0.3                    |   | 0.3                    |   | (0.2                   | )      | (1.8                      | )      | 0.3                    |   | (0.1                   | )      | 0.1                    |   | 0.1                    |   |
|                                                                                        |   |                   |   |                   |   |                   |   |                      |   |                   |   |                   |   |                   |   |                   |   |
| Income (loss) per share:                                                                    |   |                   |   |                   |   |                   |   |                      |   |                   |   |                   |   |                   |   |                   |   |
|                                                                                        |   |                   |   |                   |   |                   |   |                      |   |                   |   |                   |   |                   |   |                   |   |
| Continuing Operations:                                                                      |   |                   |   |                   |   |                   |   |                      |   |                   |   |                   |   |                   |   |                   |   |
|                                                                                        |   |                   |   |                   |   |                   |   |                      |   |                   |   |                   |   |                   |   |                   |   |
| Basic                                                                                       |   | $                      | 0.02   |                   | $      | 0.02                   |   | $                         | 0.00   |                   | $      | 0.01                   |   | $                      | 0.02   |                   | $      | (0.01 | ) | $ | 0.01 |   | $ | — |   |
| Diluted                                                                                     |   | 0.02                   |   | 0.02                   |   | 0.00                   |   | 0.01                      |   | 0.02                   |   | (0.01                  | )      | 0.01                   |   | —                 |   |
|                                                                                        |   |                   |   |                   |   |                   |   |                      |   |                   |   |                   |   |                   |   |                   |   |
| Discontinued Operations:                                                                    |   |                   |   |                   |   |                   |   |                      |   |                   |   |                   |   |                   |   |                   |   |
| Basic                                                                                       |   | 0.00                   |   | 0.01                   |   | (0.01                  | )      | (0.12                     | )      | —                 |   | —                 |   | —                 |   | —                 |   |
| Diluted                                                                                     |   | 0.00                   |   | 0.01                   |   | (0.01                  | )      | (0.12                     | )      | —                 |   | —                 |   | —                 |   | —                 |   |
|                                                                                        |   |                   |   |                   |   |                   |   |                      |   |                   |   |                   |   |                   |   |                   |   |
| Net income (loss) per share:                                                                |   |                   |   |                   |   |                   |   |                      |   |                   |   |                   |   |                   |   |                   |   |
|                                                                                        |   |                   |   |                   |   |                   |   |                      |   |                   |   |                   |   |                   |   |                   |   |
| Basic                                                                                       |   | 0.02                   |   | 0.02                   |   | (0.01                  | )      | (0.13                     | )      | 0.02                   |   | (0.01                  | )      | 0.01                   |   | —                 |   |
| Diluted                                                                                     |   | 0.02                   |   | 0.02                   |   | (0.01                  | )      | (0.13                     | )      | 0.02                   |   | (0.01                  | )      | 0.01                   |   | —                 |   |
|                                                                                        |   |                   |   |                   |   |                   |   |                      |   |                   |   |                   |   |                   |   |                   |   |
| Weighted average common shares used in  determining income (loss) per share (in thousands): |   |                   |   |                   |   |                   |   |                      |   |                   |   |                   |   |                   |   |                   |   |
|                                                                                        |   |                   |   |                   |   |                   |   |                      |   |                   |   |                   |   |                   |   |                   |   |
| Basic                                                                                       |   | 13,656                 |   | 13,852                 |   | 14,119                 |   | 14,154                    |   | 14,426                 |   | 14,426                 |   | 14,575                 |   | 14,575                 |   |
|                                                                                        |   |                   |   |                   |   |                   |   |                      |   |                   |   |                   |   |                   |   |                   |   |
| Diluted                                                                                     |   | 13,663                 |   | 14,361                 |   | 14,569                 |   | 14,604                    |   | 14,876                 |   | 14,426                 |   | 14,875                 |   | 14,875                 |   |

 

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(1)During the fourth quarter of 2002, the Company recorded a $1,021,000 loss onthe sale of its Legacy (MAI Canada) and Process Manufacturing businesses.

 

23

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# **Exhibit 13.1.2**                     MANAGEMENT’S DISCUSSION ANDANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

# ** **

The following discussionshould be read in conjunction with the audited consolidated financialstatements included elsewhere herein. Except for the historical information contained herein, the mattersdiscussed in this Annual Report are forward-looking statements that involve anumber of risks and uncertainties. There are certain important factors and risks, including the rapidchange in hardware and software technology, market conditions, competitivefactors, seasonality and other variations in the buying cycles of certain ofour customers, the timing of product announcements, the release of new orenhanced products, the introduction of competitive products and services byexisting or new competitors, the significant risks associated with theacquisition of new products, product rights, technologies or businesses, ourability to retain  technical, managerialand other personnel, and the other risks detailed from time to time in our SECreports, including reports on Form 10-K and Form 10-Q, that could cause resultsto differ materially from those anticipated by the statements made herein.  Therefore, historical results and percentagerelationships will not necessarily be indicative of the operating results ofany future period.  See “Risk Factors”elsewhere in this Annual Report on Form 10-K.

 

# **Critical Accounting Policies and Estimates**

# ** **

The discussion andanalysis of our financial condition and results of operations are based uponour consolidated financial statements, which have been prepared in accordancewith accounting principles generally accepted in the United States. Thepreparation of these financial statements requires us to make estimates andjudgments that affect our reported assets, liabilities, revenues and expenses.On an on-going basis, we evaluate our estimates, including those related torevenue recognition, accounts receivable and intangible assets. We base ourestimates on historical experience and on various other assumptions that arebelieved to be reasonable under the circumstances. This forms the basis ofjudgments about the carrying values of assets and liabilities that are notreadily apparent from other sources. Actual results may materially differ fromthese estimates under different assumptions or conditions.

 

We believe the followingcritical accounting policies and the related judgments and estimates affect thepreparation of our consolidated financial statements:

 

**Software Development Costs**

** **

All costs incurred toestablish the technological feasibility of software products to be sold toothers are expensed as research and development. Once technological feasibilityhas been established, all software production costs are capitalized.  Amortization is computed on an individualproduct basis and is recognized over the greater of the remaining economiclives of each product or the ratio that current gross revenues for a productbear to the total of current and anticipated revenues for that product,commencing when the products become available for general release tocustomers.  Software development costsare generally amortized over a three-year period.  The Company continually assesses the recoverability of softwaredevelopment costs by comparing the carrying value of individual products totheir net realizable value.

 

The Company capitalized$861,000 and $896,000 of software development costs during 2002 and 2003respectively, relating to our new N-Tier, Internet-native corporate applicationsuite of products written in java. Although we have not yet sold any of the modules to this suite ofapplications, we believe that these new products will produce new salesadequate to recover amounts capitalized. We expect that certain of our new products will be available for generalrelease during the third quarter of 2004 at which time amortization of suchcosts shall commence.

 

**Revenue Recognition**

** **

The Company earns revenuefrom sales of hardware, software and professional services and fromarrangements involving multiple elements of each of the above. Revenue formultiple element arrangements are recorded by allocating revenue to the variouselements based on their respective fair values as evidenced by vendor specificobjective evidence. The fair value in multi-element arrangements is determinedbased upon the price charged when sold separately. Revenue is not recognizeduntil persuasive evidence of an arrangement exists, delivery has occurred, thefee is fixed or determinable and collectibility is probable. Sales of networkand computer equipment are recorded when title and risk of loss transfers.Software revenues are recorded when application software programs are shippedto end users, resellers and distributors, provided the Company is not requiredto provide services essential to the functionality of the software orsignificantly modify, customize or produce the software. Professional servicesfees for software development, training and installation are recognized as theservices are provided. Maintenance revenues are recorded evenly over therelated contract period.

 

24

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**Accounts Receivable**

** **

We maintain allowancesfor doubtful accounts for estimated losses resulting from the inability of ourcustomers to make required payments. The amount of our reserves is based onhistorical experience and our analysis of the accounts receivable balancesoutstanding. If the financial condition of our customers were to deteriorate,resulting in an impairment of their ability to make payments, additionalallowances may be required which would result in an additional general andadministrative expense in the period such determination was made. While suchcredit losses have historically been within our expectations and the provisionsestablished, we cannot guarantee that we will continue to experience the samecredit loss rates that we have in the past.

 

**Intangible and Long-Lived Assets**

** **

At December 31, 2002 and 2003, goodwilland other long-lived assets represented 46% and 57%, respectively, of theCompany’s total assets.

 

Goodwill must be tested at least annually forimpairment at a level of reporting referred to as the reporting unit and morefrequently if adverse events or changes in circumstances indicate that theasset may be impaired.   The Company didnot record an impairment charge upon completion of the initial impairmentreviews on January 1, 2002 or upon its annual impairment reviews at December31, 2002 and 2003.

 

Long-lived assets consistof property and equipment and other identifiable intangible assets.  These assets are depreciated or amortizedover their estimated useful life, and are subject to impairment reviews.  The Company periodically reviews long-livedassets whenever adverse events or changes in circumstances indicate thecarrying value of such assets may not be recoverable.  In assessing recoverability, the Company must make assumptionsregarding estimated future cash flows and other factors to determine if animpairment loss may exist, and, if so, estimate fair value.  The Company also must estimate and makeassumptions regarding the useful lives assigned to its long-lived assets.  If these estimates, or their relatedassumptions, change in the future, the Company may be required to recordimpairment losses or change the useful life including accelerating depreciationor amortization for these assets.

 

**Accrued Expenses**

** **

The Companyreviews its contingent liabilities, which arise primarily from litigation andlitigation defense costs, in accordance with Statement of Financial AccountingStandards No. 5 (SFAS 5), “Accounting for Contingencies”.  Contingent liabilities are recorded asliabilities when it is probable that a liability has been incurred and theamount of the loss is reasonably estimable. Contingent liabilities are often resolved over long periods.  Estimating probable losses requiresjudgments about both the amount of liability, which may or may not be readilydeterminable, and the likelihood of liability, which involves ranges ofprobability that can at times be broad and depend on the potential actions ofthird parties.

 

**Provision for Income Taxes**

** **

Provision for income taxes is based upon theCompany’s estimate of taxable income or loss for each respective accountingperiod.  An asset or liability isrecognized for the deferred tax consequences of temporary differences betweenthe tax bases of assets and liabilities and their reported amounts in thefinancial statements.  These temporary differenceswill result in taxable or deductible amounts in future periods when thereported amounts of assets are recovered or liabilities are settled. TheCompany regularly reviews its deferred tax assets to determine the amount thatis more likely than not to be realized. When this amount is less than thedeferred tax asset recorded, the Company records a valuation allowance toreduce the asset to its estimated realizable value.  If the Company determined that it was not going to be able tofully realize its recorded deferred tax assets, it would make an adjustment tothe valuation allowance.  This wouldreduce net income in the period that the Company made its determination.  Similarly, if the Company realized that itwas going to be able to fully realize a deferred tax asset in excess of its netrecorded value, net income would be increased in the period that the Companymade its determination.

 

The Company also reviews its deferred taxliabilities on a regular basis to determine that the amount recorded isadequate to cover the expected reversal of temporary income taxliabilities.  In the event that theamount recorded was less than adequate, the deferred tax liability would beincreased to its estimated realizable value and net income would be decreasedaccordingly.  In the event that thedeferred tax liability was determined to be overstated, it would be reduced toits estimated realizable value and net income would increase accordingly.

 

The Company generallydetermines its effective tax rate by considering the statutory federal incometax rate, the statutory

 

25

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state and local tax rates(net of the federal income tax benefit) and any nondeductible expenses.  This rate could also be affected by increasesor decreases to deferred tax assets or liabilities as described above.

 

# **Liquidity and Capital Resources**

# ** **

At December 31, 2003, ourworking capital deficiency worsened from a working capital deficiency of$8,649,000 at December 31, 2002 to a working capital deficiency of$10,399,000.  Excluding unearned revenueof $3,209,000, working capital deficiency at December 31, 2003 was$7,190,000.  Excluding unearned revenueof $3,693,000, the Company’s working capital deficiency at December 31, 2002would be $4,956,000.  Excluding unearnedrevenue, the increase in the working capital deficiency of $2,234,000 wasprimarily attributable to increases in current portion of long term debt of$357,000, customer deposits of $523,000, accrued liabilities of $1,052,000 and decreasesin accounts receivable of $521,000, notes receivable of $250,000 offset bydecreases in accounts payable of $173,000 and increases in cash of $119,000 andprepaids and other assets of $186,000.

 

Net cash used ininvesting activities for the period ended December 31, 2003 totaled $1,071,000,which is comprised of capital expenditures of $346,000, capitalized software of$896,000 and acquisition of unconsolidated subsidiary of $79,000 offset byproceeds from note receivable of $250,000.

 

Net cash used infinancing activities for the period ended December 31, 2003 totaled $239,000,which represents repayments on long-term debt. On January 13, 2003, the Company converted its credit facility to a termloan which requires monthly principal and interest payments of $58,000 andmatures on February 28, 2005.  Inaddition, the Company amended its subordinated note to require monthly interestonly payments of $52,000 through February 28, 2005, at which time it will convertto a term loan to be amortized over a three years period.  The restructured debt, pursuant to theoriginal intercreditor agreement between Canyon and Coast, which was sold toWamco on May 15, 2003, contains various restrictions and covenants, including aminimum quick ratio of 0.34 to 1.00 and minimum debt service coverage ratio of1.25 to l.00 for the three-month period ended December 31, 2003.  In the event that we were not in compliancewith the various restrictions and covenants and were unable to receive waiversfor non-compliance, the term debt would be immediately due and payable. TheCompany was not in compliance with but received waivers for its covenantsthrough December 31, 2004. There is no guaranty that the Company will meet itsdebt covenants in the future.  TheCompany is currently negotiating with Wamco to change such covenants, but thereis no assurance that the Company will be able to successfully change thecovenants.

 

Stockholders’ deficiencydecreased from $14,782,000 at December 31, 2002 to $14,586,000 at December 31,2003, mainly as a result of net income during the period of $353,000, theissuance of common stock and warrants to Canyon Capital valued at $62,000,amortization of unearned compensation of $38,000 offset by an increase incomprehensive loss of $58,000 and reduction in additional paid-in capital of$199,000 relating to the issuance of $149,000 of debt and $50,000 of cash tosatisfy a legal settlement (see note 14).

 

Although the Company hasa net stockholders’ deficiency of $14,586,000 and a working capital deficit of $10,399,000 (which includessubordinated debt due to CSA of $2,800,000) at December 31, 2003, the Companybelieves it will generate sufficient funds from operations and obtainadditional financing or restructure its subordinated note with CSA to meet itsoperating and capital requirements for at least the next 12 months.  The Company is currently in negotiationswith CSA to restructure the terms of the existing debt, including extending thematurity date.  The Company expects togenerate positive cash flow from its continuing operations during 2004 fromshipping out products and services from its current backlog as of December 31,2003 as well as new orders.  In theevent that the Company cannot generate positive cash flow from its continuingoperations during 2004, the Company can substantially reduce its research anddevelopment efforts to mitigate cash outflow to help sustain itsoperations.  There can be no assurancethat the Company will be able to sustain profitability, generate positive cashflow from operations or restructure its debt as necessary.  These financial statements have beenprepared assuming the Company will continue to operate as a going concern.  If the Company is unsuccessful in theaforementioned efforts, the Company could be forced to liquidate certain of itsassets, reorganize its capital structure and, if necessary, seek other remediesavailable to the Company, including protection under the bankruptcy laws.

 

26

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# **ContractualObligations and Commercial Commitments**

# ** **

The following tablesummarizes the Company’s obligations and commitments as of December 31, 2003:

 
|                             |   | **Payments  Due by Period (in thousands)** |   |
|----------------------------------|--------|--------------------------------------------|--------|
| **Contractual Cash Obligations** |   | **Total**                                  |   | **Less Than  1 Year** |   | **2-3 Years** |   | **4-5 Years** |   | **After 5  Years** |   |
|                             |   |                                       |   |   |   |   |   |   |   |   |   |
| Long-Term Debt                   |   | $                                          | 10,781 |   | $ | 3,626 |   | $ | 4,228 |   | $ | 2,573 |   | $ | 354 |   |
| Operating Leases                 |   | 1,881                                      |   | 598 |   | 1,056 |   | 158 |   | 69 |   |
| Consulting Agreements            |   | 96                                         |   | 96 |   | — |   | — |   | — |   |
|                             |   | $                                          | 12,758 |   | $ | 4,320 |   | $ | 5,284 |   | $ | 2,731 |   | $ | 423 |   |

 

**Factors Affecting Future Operating Results**

 

Demand for the Company’s Products and OperatingEfficiencies 

 

The Company’s future operating results will depend, in largepart, upon the Company’s ability to achieve and maintain a significant marketdemand and presence for its products and to operate profitably andefficiently.  The Company’s ability toaccomplish these objectives will depend on a number of factors, including thefollowing:

 

•      Market demand for informationtechnology in the hospitality industry in general;

•      Completion of development, launch andmarket success and acceptance of our software solutions;

•      Price, performance, quality and othercharacteristics of the Company’s products and of competing and substituteproducts rumored, announced or introduced by other vendors;

•      Emergence of any competing solutionsas industry standards;

•      Success of the Company in meetingtargeted availability dates for new and enhanced products;

•      Success of the Company’s efforts toprovide and maintain customer service and satisfaction;

•      Public perception of the Company andits products, including statements made by industry analysts or consumers andadverse publicity resulting from such statements or from litigation filedagainst the Company;

•      Worldwide economic conditions,including overall market demand for information technology and other productswith which the Company’s products can be used;

•      Ability of the Company to profitablyand efficiently manage its development of products and key components, and toavoid disruptions in the development thereof;

•      Ability of the Company to maintainprofitable relationships with distributors and other resellers of the Company’sproducts;

•      The Company’s ability to attract andretain competent, motivated employees;

•      Ability of the Company to comply withapplicable laws, regulations, ordinances and other legal requirements in thenumerous countries in which it does business;

•      Ability of the Company tosuccessfully manage litigation, including enforcing its rights, protecting itsinterests and defending itself from claims made against it and;

•      Ability of the Company tosuccessfully implement its restructuring of debt, to achieve and maintain anappropriate cost structure and to minimize unforeseen and extraordinaryexpenses.

 

The Company cannot provide any assurance that it will be ableto successfully manage, satisfy or influence any of these factors.

 

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# **Resultsof Operations**

# ** **

### *Year EndedDecember 31, 2002  Compared to YearEnded December 31, 2003.*

 
| **(dollars in thousands)**                    |   | **December  31,  2002** |   | **Percentage  of  Revenue** |   | **December  31,  2003** |   | **Percentage  of  Revenue** |   |
|-----------------------------------------------|--------|-------------------------|--------|-----------------------------|--------|-------------------------|--------|-----------------------------|--------|
|                                          |   |                    |   |                        |   |                    |   |                        |   |
| Revenue:                                      |   | 21,937                  |   | 100.0                       | %      | 19,346                  |   | 100.0                       | %      |
| Gross profit                                  |   | 15,017                  |   | 68.5                        | %      | 13,826                  |   | 71.5                        | %      |
| Selling, general and administrative  expenses |   | 9,363                   |   | 42.7                        | %      | 9,596                   |   | 49.6                        | %      |
| Research and development costs                |   | 3,307                   |   | 15.1                        | %      | 2,828                   |   | 14.6                        | %      |
| Amortization of intangibles                   |   | 134                     |   | 0.6                         | %      | —                  |   | —                      |   |
| Other operating expense                       |   | 212                     |   | 1.0                         | %      | 62                      |   | (0.3                        | )%     |
| Interest expense, net                         |   | 1,490                   |   | 6.8                         | %      | 1,217                   |   | 6.3                         | %      |
| Other non-operating expense                   |   | 64                      |   | 0.3                         | %      | 81                      |   | 0.4                         | %      |
| Income tax expense (benefit)                  |   | 30                      |   | 0.1                         | %      | (311                    | )      | (1.6                        | )%     |
| Income from continuing operations             |   | 417                     |   | 1.9                         | %      | 353                     |   | 1.8                         | %      |
| Loss on disposal of discontinued operations   |   | (1,021                  | )      | (4.7                        | )%     | —                  |   | —                      |   |
| Loss from discontinued operations             |   | (746                    | )      | (3.4                        | )%     | —                  |   | —                      |   |
| Net income (loss)                             |   | (1,350                  | )      | (6.2                        | )%     | 353                     |   | 1.8                         | %      |

 

Revenue for 2003 was$19,346,000 compared to $21,937,000 in 2002 or a 12.0% decrease.  Revenue decreased $2,591,000 in 2003, as aresult of decreased  professionalservices and maintenance services mainly due to decreased capital spending oninformation technology in 2003 due to the effects of a downturn and post “9/11”economy on the hospitality industry.

 

The decrease in revenuein 2003 was mainly attributable to a decrease in service volume and rates asmany hotels have reduced their operating costs by canceling or reducingcontracted services, including support, in a post “9/11” economy.  Many hotels have requested that theirsuppliers reduce the cost of service or delay any price increases while theyare experiencing reduced guest occupancy and lower average daily rates on theirinventory of rooms.  Certain hotels havealso established their own help desks to further reduce costs.  As a result, the Company postponedincreasing its support prices until the first quarter of 2003 and agreed, withcertain of its clients, to provide a second line of support versus a first lineof support that was previously provided to such clients.  Our continuing hospitality business isexpected to generate sufficient cash from operations to adequately fund itsongoing operating activities.

 

Gross profit for 2003decreased to $13,826,000 (71.5%) from $15,017,000 (68.5%) in 2002.  The decrease in gross profit is mainly dueto the decrease in software and maintenance services revenues which was offsetby the Company’s cost reductions during the period.

 

Selling, general andadministrative expenses (“SG&A”) increased from $9,363,000 in 2002 to$9,596,000 in 2003.  The increase ismainly due to an increase in selling and marketing expenses for trade shows,advertisement and travel as the Company continues to actively and aggressivelymarket its enterprise suite of applications and services which are scheduledfor general release in the third quarter of 2004.

 

Research and developmentcosts decreased from $3,307,000 in 2002 to $2,828,000 in 2003.  The decrease is due to the capitalization of$861,000 and $896,000 of software development costs in 2002 and 2003,respectively, associated with the Company’s product development of its newinternet native suite of applications. The decrease is also due to a decrease in headcount associated with theCompany’s focus on reducing costs.

 

Other operating expensewas $212,000 in 2002 and $62,000 in 2003. Other operating expense in 2003 was offset due to receipt ofapproximately $46,000 of cash resulting from a legal settlement.

 

The decrease inamortization of intangibles in 2003 versus the comparable period of 2002 is dueto the fact that the Company amortized $134,000 of software development costsin 2002 relating to costs capitalized in 1999. These costs were fully amortized during 2002.

 

Net interest expense was$1,490,000 in 2002 compared to $1,217,000 in 2003.  The decrease is due to lower balances of interest bearing debtduring 2003 as compared to 2002.

 

Other non-operatingexpense increased from $64,000 in 2002 to $81,000 in 2003.  Non-operating expense relates to pensionexpense under a defined benefit plan for former employees.

 

The income tax benefit in2003 is due to a settlement agreement on a tax claim with the United StatesInternal Revenue Service that resulted in a one-time gain of $262,000 (see note14), as well as the Company recording a domestic income tax receivable duringthe period to recover taxes previously paid.

 

28

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During 2002, loss fromdiscontinued operations was $746,000. In the fourth quarter of 2002, theCompany sold all the assets and liabilities of it’s Process Manufacturing andCanadian subsidiaries to third parties, resulting in a loss on disposal ofdiscontinued operations of $1,021,000.

 

### *Year EndedDecember 31, 2001 Compared to Year Ended December 31, 2002.*

 
| **(dollars in thousands)**                          |   | **December  31,  2001** |   | **Percentage  of  Revenue** |   | **December  31,  2002** |   | **Percentage  of  Revenue** |   |
|-----------------------------------------------------|--------|-------------------------|--------|-----------------------------|--------|-------------------------|--------|-----------------------------|--------|
|                                                |   |                    |   |                        |   |                    |   |                        |   |
| Revenue:                                            |   | 23,768                  |   | 100.0                       | %      | 21,937                  |   | 100.0                       | %      |
| Gross profit                                        |   | 16,530                  |   | 69.5                        | %      | 15,017                  |   | 68.5                        | %      |
| Selling, general and administrative  expenses       |   | 7,927                   |   | 33.3                        | %      | 9,363                   |   | 42.7                        | %      |
| Research and development costs                      |   | 4,209                   |   | 17.7                        | %      | 3,307                   |   | 15.1                        | %      |
| Amortization of intangibles                         |   | 731                     |   | 3.1                         | %      | 134                     |   | 0.6                         | %      |
| Other operating expense (income)                    |   | (1,643                  | )      | (6.9                        | )%     | 276                     |   | 1.3                         | %      |
| Interest expense, net                               |   | 1,473                   |   | 6.2                         | %      | 1,490                   |   | 6.8                         | %      |
| Income tax expense                                  |   | 176                     |   | 0.7                         | %      | 30                      |   | 0.1                         | %      |
| Income from continuing operations                   |   | 3,657                   |   | 15.4                        | %      | 417                     |   | 1.9                         | %      |
| Gain (loss) on disposal of discontinued  operations |   | 1,262                   |   | 5.3                         | %      | (1,021                  | )      | (4.7                        | )%     |
| Loss from discontinued operations                   |   | (2,787                  | )      | (11.7                       | )%     | (746                    | )      | (3.4                        | )%     |
| Net income (loss)                                   |   | 2,132                   |   | 9.0                         | %      | (1,350                  | )      | (6.2                        | )%     |

 

Revenue for 2002 was$21,937,000 compared to $23,768,000 in 2001 or a 7.7% decrease.  Revenue decreased $1,831,000 in 2002, as aresult of decreased  professionalservices and maintenance services mainly due to decreased capital spending oninformation technology in 2002 due to the effects of the September 11, 2001terrorist attacks on the hospitality industry.

 

The decrease in revenuein 2002 was mainly attributable to a decrease in service volume and rates asmany hotels have reduced their operating costs by canceling or reducingcontracted services, including support, in a post September 11, 2001economy.  Many hotels have requestedthat their suppliers reduce the cost of service or delay any price increaseswhile they are experiencing reduced guest occupancy and lower average dailyrates on their inventory of rooms. Certain hotels have also established their own help desks to furtherreduce costs.  As a result, the Companydid not raise support prices in 2002 and agreed, with certain of its clients,to provide a second line of support versus a first line of support that waspreviously provided to such clients. Our continuing hospitality business unit continues to generatesufficient cash from operations to adequately fund its ongoing operatingactivities.

 

Gross profit for 2002decreased to $15,017,000 (68.5%) from $16,530,000 (69.5%) in 2001. The decreasein gross profit is mainly due to the decrease in professional services andmaintenance services revenues during the period in excess of the Company’s costreductions.

 

Selling, general andadministrative expenses (“SG&A”) increased from $7,927,000 in 2001 to$9,363,000 in 2002. The increase is mainly due to an increase in selling &marketing, expenses for trade shows, advertisements and additional head countand other employee related expenses as the Company actively markets componentsof its newly developed enterprise suite of applications.

 

The decrease in netresearch and development costs in 2002 was mainly due to the capitalization ofapproximately $861,000 of software development costs associated with theCompany’s new product development for hospitality.  There were no such costs capitalized in 2001.

 

The decrease inamortization of intangibles in 2002 versus the comparable period of 2001 is dueto the fact that goodwill is no longer amortized to expense commencing January1, 2002.  Goodwill amortization was$420,000 for the year ended December 31, 2001.

 

Other operating (income)expense was ($1,643,000) in 2001 and $276,000 in 2002. The decrease in otheroperating income in 2002 is mainly due to the Company issuing Common Stock tocertain creditors to satisfy its obligations, which resulted in a gain of$1,377,000 in the first quarter of 2001. There were no such transactions in2002.

 

Net interest expense netwas $1,473,000 in 2001 compared to $1,490,000 in 2002.  The slight increase is mainly due a decreasein interest income of $67,000 for 2001 compared to 2002.

 

The income tax provisiononly reflects a tax provision for our foreign operations and alternativeminimum taxes for domestic operations due to the utilization of net operatingloss carryforwards in 2001.

 

In 2001, the Company soldcertain assets and liabilities relating to its domestic Legacy hardwaremaintenance division to a third party, resulting in a gain of $1,262,000.  In the fourth quarter of 2002, the Companysold all the assets and liabilities of it’s Process Manufacturing and Canadiansubsidiaries to third parties, resulting in a loss of $1,021,000.

 

29

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Results from discontinuedoperations improved from a loss of $2,787,000 in 2001 to loss of $746,000 in2002 mainly as a result of decreased Process Manufacturing operating expensesfrom $4,871,000 in 2001 to $1,486,000 in 2002. Revenue from discontinuedoperations decreased from $5,078,000 in 2001 to $2,344,000 in 2002. Revenuefrom Process Manufacturing decreased from $1,980,000 in 2001 to $1,443,000 in2002 reflecting the process ERP industry stagnation and decline.

 

**RecentAccounting Pronouncements**

** **

In June 2002, theFASB issued FAS No. 146, “Accounting for Costs Associated with Exit or DisposalActivities.” FAS No. 146 addresses accounting and reporting for costsassociated with exit or disposal activities and nullifies Emerging Issues TaskForce Issue No. 94-3, “Liability Recognition for Certain Employee TerminationBenefits and Other Costs to Exit an Activity (Including Certain Costs Incurredin a Restructuring).” FAS No. 146 requires that a liability for a costassociated with an exit or disposal activity be recognized and measuredinitially at fair value when the liability is incurred. FAS No. 146 iseffective for exit or disposal activities that are initiated after December 31,2002, with early application encouraged. The Company’s adopting the provisionsof FAS 146 for exit or disposal activities did not have a material effect onthe Company’s consolidated financial statements.

 

In November 2002,the FASB issued FASB Interpretation No. (“FIN”) 45, “Guarantor’s Accounting andDisclosure Requirements for Guarantees, including Indirect Guarantees ofIndebtedness of Others,” FIN 45 requires a guarantor to recognize a liability,at the inception of the guarantee, for the fair value of obligations it hasundertaken in issuing the guarantee and also to include more detail disclosureswith respect to guarantees. FIN 45 is effective for guarantees issued ormodified after December 31, 2002 and requires the additional disclosures forinterim or annual period ended after December 15, 2002. The initial recognitionand measurement provisions of FIN 45 have not had an impact on our results ofoperations or financial position.

 

In December 2002,the FASB issued FAS No. 148, “Accounting for Stock-Based Compensation —Transition and Disclosure”, which amended FAS No. 123, “Accounting forStock-Based Compensation.” The new standard provides alternative methods oftransition for a voluntary change to the fair market value based method foraccounting for stock-based employee compensation. Additionally, the statementamends the disclosure requirements of FAS No. 123 to require prominentdisclosures in both annual and interim financial statements about the method ofaccounting for stock-based employee compensation and the effect of the methodused on reported results. This statement is effective for financial statementsfor the year ended December 31, 2002. In compliance with FAS No. 148, theCompany has elected to continue to follow the intrinsic value method inaccounting for its stock-based employee compensation plan as defined by APB No.25 and has made the applicable disclosures herein.

 

In April 2003, theFASB issued SFAS 149, “Amendment of Statement 133 on DerivativeInstruments and Hedging Activities” which amends and clarifies the accountingguidance on derivative instruments and hedging activities that fall within thescope of SFAS 133, “Accounting for Derivative Instruments and HedgingActivities”.  SFAS 149 is effective(1) for contracts entered into or modified after June 30, 2003, withcertain exceptions, and (2) for hedging relationships designated afterJune 30, 2003.  The Company willapply the provisions of SFAS 149 to future contracts entered into or futurehedging relationships, if any.

 

In May 2003, theFASB issued SFAS 150, “Accounting for Certain Financial Instruments withCharacteristics of both Liabilities and Equity” which establishes standards forhow an issuer classifies and measures certain financial instruments withcharacteristics of both liabilities and equity.  SFAS 150 is effective for financial instruments entered intoor modified after May 31, 2003, and otherwise was effective for theCompany on July 1, 2003.  Theadoption of SFAS 150 did not have a significant impact on the Company’sfinancial statements.

 

In December 2003,the Securities and Exchange Commission issued Staff Accounting BulletinNo. 104, “Revenue Recognition” (SAB 104) which superseded StaffAccounting Bulletin No. 101, “Revenue Recognition in Financial Statements”(SAB 101). SAB 104’s primary purpose was to rescind accountingguidance contained in SAB 101 related to multiple element revenuearrangements which was superceded as a result of the issuance ofEITF 00-21, “Accounting for Revenue Arrangements with Multiple Deliverables”.  EITF 00-21 was effective for revenuearrangements entered into in fiscal periods beginning after June 15,2003.  The adoption of EITF 00-21did not have a significant impact on the Company’s financial statements. TheCompany was previously following the requirements provided under SAB 104and, accordingly, the implementation of this pronouncement had no impact on theCompany’s financial position or results of operations as reported.

 

In December 2003,the FASB issued FIN 46-R, “Consolidation of Variable Interest Entities —an interpretation of ARB 51

 

30

----

 

(revised December2003)”, which replaces FIN 46. FIN 46-R incorporates certain modifications to FIN 46 adopted bythe FASB subsequent to the issuance of FIN 46, including modifications ofthe scope of FIN 46.  For allnon-special purpose entities (“SPE”) created prior to February 1, 2003,public entities will be required to adopt FIN 46-R at the end of the first interimor annual reporting period ending after March 15, 2004.  For all entities (regardless of whether theentity is an SPE) that were created subsequent to January 31, 2003, publicentities are already required to apply the provisions of FIN 46, and shouldcontinue doing so unless they elect to adopt the provisions of Fin 46-R earlyas of the first interim or annual reporting period ending afterDecember 15, 2003.  If they do notelect to adopt FIN 46-R early, public entities would be required to applyFIN 46-R to those post-January 31, 2003 entities as of the end of thefirst interim or annual reporting period ending after March 15, 2004.  Management did not elect to adoptFIN 46-R early and will need to review and assess the effects, if any,FIN 46-R will have on the Company’s financial statements, but we do notbelieve the adoption of FIN 46R for non-SPEs will have a material impact to ourconsolidated financial position, results of operations or cash flows.

 

In December 2003, the FASBissued SFAS No. 132 (revised 2003), “Employers’ Disclosures about Pensions andOther Postretirement Benefits”, an amendment of  SFAS No. 87, 88 and 106, and a revision of SFAS No.132. Thestatement is effective for fiscal years and interim periods ending afterDecember 15, 2003. This Statement revises employers’ disclosures about pensionplans and other postretirement benefit plans. It does not change themeasurement or recognition of those plans required by SFAS No. 87, 88 and 106.The new rules require additional disclosures about the assets, obligations,cash flows, and net periodic benefit cost of defined benefit pension plans andother postretirement benefit plans. The adoption of this Statement is notexpected to have a material effect on our financial condition or results ofoperations.

 

31

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# **Exhibit 13.1.3.1**

# ** **

## **Reportof Independent Certified Public Accountants**

 

The Board of Directorsand Stockholders of

 

MAI Systems Corporation

Lake Forest, California

 

We have audited theaccompanying consolidated balance sheets of MAI Systems Corporation and subsidiariesas of December 31, 2002 and 2003 and the related consolidated statements ofoperations, stockholders’ deficiency and comprehensive loss and cash flows foreach of the years in the two-year period ended December 31, 2003.  These consolidated financial statements arethe responsibility of the Company’s management.  Our responsibility is to express an opinion on these consolidatedfinancial statements based on our audits.

 

We conducted our auditsin accordance with auditing standards generally accepted in the United Statesof America.  Those standards requirethat we plan and perform the audit to obtain reasonable assurance about whetherthe financial statements are free of material misstatement.  An audit includes examining, on a testbasis, evidence supporting the amounts and disclosures in the financialstatements.  An audit also includesassessing the accounting principles used and significant estimates made bymanagement, as well as evaluating the overall financial statementpresentation.  We believe that ouraudits provide a reasonable basis for our opinion.

 

In our opinion, theconsolidated financial statements referred to above present fairly, in allmaterial respects, the consolidated financial position of MAI SystemsCorporation and subsidiaries as of December 31, 2002 and 2003 and the resultsof their operations and their cash flows for each of the years in the two-yearperiod ended December 31, 2003, in conformity with accounting principlesgenerally accepted in the United States of America.

 

As discussed in note 1 tothe consolidated financial statements, effective January 1, 2002, MAI SystemsCorporation and subsidiaries adopted the provision of SFAS No. 142,"Goodwill and other Intangible Assets".

 
|   | /s/ BDO  Seidman, LLP |   |
|--------|-----------------------|--------|

 

 

Costa Mesa, California

March 24, 2004

 

32

----

 

# **Exhibit 13.1.3.2**

# ** **

## **IndependentAuditors’ Report**

 

The Board of Directorsand Stockholders

 

MAI Systems Corporation:

 

We have audited theaccompanying consolidated statement of operations, stockholders’deficiency  and cash flows  of MAI Systems Corporation andsubsidiaries  for the year endedDecember 31, 2001.  These consolidatedfinancial statements are the responsibility of the Company’s management.  Our responsibility is to express an opinionon these consolidated financial statements based on our audit.

 

We conducted our audit inaccordance with auditing standards generally accepted in the United States ofAmerica.  Those standards require thatwe plan and perform the audit to obtain reasonable assurance about whether thefinancial statements are free of material misstatement.  An audit includes examining, on a testbasis, evidence supporting the amounts and disclosures in the financialstatements.  An audit also includes assessingthe accounting principles used and significant estimates made by management, aswell as evaluating the overall financial statement presentation.  We believe that our audit provides areasonable basis for our opinion.

 

In our opinion, theconsolidated financial statements referred to above present fairly, in allmaterial respects, the results of operations and cash flows of MAI Systems Corporation and subsidiariesfor the year ended December 31, 2001, in conformity with accounting principlesgenerally accepted in the United States of America.

 

 
| /s/ KPMG LLP |   |   |   |
|--------------|--------|--------|--------|

 

 

Costa Mesa, California

March 31, 2002

 

33

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# **Exhibit 13.1.4**                     Consolidated Balance Sheets

# ** **

**MAISYSTEMS CORPORATION**

** **

**CONSOLIDATEDBALANCE SHEETS**

 
|                                                                                                                                                                                      |   | **As of  December 31,**                |   |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|----------------------------------------|--------|
|                                                                                                                                                                                      |   | **(in  thousands, except share data)** |   |
|                                                                                                                                                                                      |   | **2002**                               |   | **2003** |   |
|                                                                                                                                                                                      |   |                                   |   |   |   |
| **ASSETS**                                                                                                                                                                                |   |                                   |   |   |   |
| Current assets:                                                                                                                                                                           |   |                                   |   |   |   |
| Cash                                                                                                                                                                                      |   | $                                      | 545    |   | $ | 664 |   |
| Receivables, less allowance for doubtful  accounts of  $336 in 2002 and $335 in  2003                                                                                                |   | 1,834                                  |   | 1,313 |   |
| Inventories, net                                                                                                                                                                          |   | 60                                     |   | 47 |   |
| Note receivable                                                                                                                                                                           |   | 250                                    |   | — |   |
| Prepaids and other assets                                                                                                                                                                 |   | 628                                    |   | 814 |   |
|                                                                                                                                                                                      |   |                                   |   |   |   |
| Total current assets                                                                                                                                                                      |   | 3,317                                  |   | 2,838 |   |
|                                                                                                                                                                                      |   |                                   |   |   |   |
| Furniture, fixtures and equipment, net                                                                                                                                                    |   | 843                                    |   | 758 |   |
| Intangibles, net                                                                                                                                                                          |   | 1,823                                  |   | 2,876 |   |
| Other assets                                                                                                                                                                              |   | 194                                    |   | 58 |   |
|                                                                                                                                                                                      |   |                                   |   |   |   |
| Total assets                                                                                                                                                                              |   | $                                      | 6,177  |   | $ | 6,530 |   |
|                                                                                                                                                                                      |   |                                   |   |   |   |
| **LIABILITIES AND STOCKHOLDERS’ DEFICIENCY**                                                                                                                                         |   |                                   |   |   |   |
| Current liabilities:                                                                                                                                                                      |   |                                   |   |   |   |
| Current portion of long-term debt                                                                                                                                                         |   | $                                      | 3,289  |   | $ | 3,646 |   |
| Accounts payable                                                                                                                                                                          |   | 1,077                                  |   | 904 |   |
| Customer deposits                                                                                                                                                                         |   | 1,811                                  |   | 2,334 |   |
| Accrued liabilities                                                                                                                                                                       |   | 2,007                                  |   | 3,059 |   |
| Income taxes payable                                                                                                                                                                      |   | 89                                     |   | 85 |   |
| Unearned revenue                                                                                                                                                                          |   | 3,693                                  |   | 3,209 |   |
|                                                                                                                                                                                      |   |                                   |   |   |   |
| Total current liabilities                                                                                                                                                                 |   | 11,966                                 |   | 13,237 |   |
|                                                                                                                                                                                      |   |                                   |   |   |   |
| Long-term debt                                                                                                                                                                            |   | 7,234                                  |   | 7,135 |   |
| Other liabilities                                                                                                                                                                         |   | 1,759                                  |   | 744 |   |
|                                                                                                                                                                                      |   |                                   |   |   |   |
| Total liabilities                                                                                                                                                                         |   | 20,959                                 |   | 21,116 |   |
|                                                                                                                                                                                      |   |                                   |   |   |   |
| Stockholders’ deficiency:                                                                                                                                                            |   |                                   |   |   |   |
| Preferred Stock, par value $0.01 per  share;  1,000,000 shares authorized,  none issued or outstanding                                                                               |   | —                                 |   | — |   |
| Common Stock, par value $0.01 per share;  authorized  24,000,000 shares;  14,675,752 and 14,875,752 shares   issued and outstanding at December 31, 2002 and 2003, respectively |   | 150                                    |   | 152 |   |
| Additional paid-in capital                                                                                                                                                                |   | 218,251                                |   | 218,112 |   |
| Accumulated other comprehensive loss:                                                                                                                                                     |   |                                   |   |   |   |
| Minimum pension liability                                                                                                                                                                 |   | (918                                   | )      | (1,005 | ) |
| Foreign currency translation                                                                                                                                                              |   | (31                                    | )      | (2 | ) |
| Unearned compensation                                                                                                                                                                     |   | (91                                    | )      | (53 | ) |
| Accumulated deficit                                                                                                                                                                       |   | (232,143                               | )      | (231,790 | ) |
| Total stockholders’ deficiency                                                                                                                                                       |   | (14,782                                | )      | (14,586 | ) |
|                                                                                                                                                                                      |   |                                   |   |   |   |
| Total liabilities and stockholders’  deficiency                                                                                                                                      |   | $                                      | 6,177  |   | $ | 6,530 |   |

 

The accompanying notes are an integral part of these consolidatedfinancial statements.

 

34

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# **Exhibit 13.1.5**                     Consolidated Statements ofOperations

 

**MAISYSTEMS CORPORATION**

** **

**CONSOLIDATEDSTATEMENTS OF OPERATIONS**

** **
|                                                                         |   | **For the  Years Ended December 31,**     |   |
|------------------------------------------------------------------------------|--------|-------------------------------------------|--------|
|                                                                         |   | **(in thousands, except per share data)** |   |
|                                                                         |   | **2001**                                  |   | **2002** |   | **2003** |   |
| Revenue:                                                                     |   |                                      |   |   |   |   |   |
| Software                                                                     |   | $                                         | 5,329  |   | $ | 4,585 |   | $ | 3,855 |   |
| Network and computer equipment                                               |   | 789                                       |   | 996 |   | 485 |   |
| Services                                                                     |   | 17,650                                    |   | 16,356 |   | 15,006 |   |
| Total revenue                                                                |   | 23,768                                    |   | 21,937 |   | 19,346 |   |
|                                                                         |   |                                      |   |   |   |   |   |
| Direct costs:                                                                |   |                                      |   |   |   |   |   |
| Software                                                                     |   | 269                                       |   | 437 |   | 587 |   |
| Network and computer equipment                                               |   | 479                                       |   | 770 |   | 370 |   |
| Services                                                                     |   | 6,490                                     |   | 5,713 |   | 4,563 |   |
| Total direct costs                                                           |   | 7,238                                     |   | 6,920 |   | 5,520 |   |
|                                                                         |   |                                      |   |   |   |   |   |
| Gross profit                                                                 |   | 16,530                                    |   | 15,017 |   | 13,826 |   |
|                                                                         |   |                                      |   |   |   |   |   |
| Selling, general and administrative  expenses                                |   | 7,927                                     |   | 9,363 |   | 9,596 |   |
| Research and development costs                                               |   | 4,209                                     |   | 3,307 |   | 2,828 |   |
| Amortization of intangibles                                                  |   | 731                                       |   | 134 |   | — |   |
| Other operating expense (income)                                             |   | (1,698                                    | )      | 212 |   | 62 |   |
| Operating income                                                             |   | 5,361                                     |   | 2,001 |   | 1,340 |   |
|                                                                         |   |                                      |   |   |   |   |   |
| Interest income                                                              |   | 72                                        |   | 5 |   | 2 |   |
| Interest expense                                                             |   | (1,545                                    | )      | (1,495 | ) | (1,219 | ) |
| Other non-operating expense                                                  |   | (55                                       | )      | (64 | ) | (81 | ) |
|                                                                         |   |                                      |   |   |   |   |   |
| Income from continuing operations before  income taxes                       |   | 3,833                                     |   | 447 |   | 42 |   |
| Income tax benefit (expense)                                                 |   | (176                                      | )      | (30 | ) | 311 |   |
| Income from continuing operations                                            |   | 3,657                                     |   | 417 |   | 353 |   |
| Discontinued operations:                                                     |   |                                      |   |   |   |   |   |
| Gain (loss) on disposal of discontinued  operations                          |   | 1,262                                     |   | (1,021 | ) | — |   |
| Loss from discontinued operations                                            |   | (2,787                                    | )      | (746 | ) | — |   |
| Total loss from discontinued operations                                      |   | (1,525                                    | )      | (1,767 | ) | — |   |
|                                                                         |   |                                      |   |   |   |   |   |
| Net income (loss)                                                            |   | $                                         | 2,132  |   | $ | (1,350 | ) | $ | 353 |   |
|                                                                         |   |                                      |   |   |   |   |   |
| Income (loss) per share:                                                     |   |                                      |   |   |   |   |   |
|                                                                         |   |                                      |   |   |   |   |   |
| Continuing Operations:                                                       |   |                                      |   |   |   |   |   |
| Basic income per share                                                       |   | $                                         | 0.28   |   | $ | 0.03 |   | $ | 0.02 |   |
|                                                                         |   |                                      |   |   |   |   |   |
| Diluted income per share                                                     |   | $                                         | 0.28   |   | $ | 0.03 |   | $ | 0.02 |   |
|                                                                         |   |                                      |   |   |   |   |   |
| Discontinued Operations:                                                     |   |                                      |   |   |   |   |   |
| Basic (loss) per share                                                       |   | $                                         | (0.12  | ) | $ | (0.13 | ) | $ | — |   |
|                                                                         |   |                                      |   |   |   |   |   |
| Diluted (loss) per share                                                     |   | $                                         | (0.12  | ) | $ | (0.13 | ) | $ | — |   |
|                                                                         |   |                                      |   |   |   |   |   |
| Net income (loss) per share:                                                 |   |                                      |   |   |   |   |   |
|                                                                         |   |                                      |   |   |   |   |   |
| Basic income (loss) per share                                                |   | $                                         | 0.16   |   | $ | (0.10 | ) | $ | 0.02 |   |
|                                                                         |   |                                      |   |   |   |   |   |
| Diluted income (loss) per share                                              |   | $                                         | 0.16   |   | $ | (0.10 | ) | $ | 0.02 |   |
|                                                                         |   |                                      |   |   |   |   |   |
| Weighted average common shares used in  determining income (loss) per share: |   |                                      |   |   |   |   |   |
|                                                                         |   |                                      |   |   |   |   |   |
| Basic                                                                        |   | 13,091                                    |   | 13,945 |   | 14,538 |   |
| Diluted                                                                      |   | 13,263                                    |   | 13,945 |   | 14,838 |   |

 

The accompanying notes are an integral part of these consolidatedfinancial statements.

 

35

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# **Exhibit13.1.6       Consolidated Statements ofStockholders’ Deficiency**

# ** **

**MAISYSTEMS CORPORATION**

** **

**CONSOLIDATEDSTATEMENTS OF STOCKHOLDERS’ DEFICIENCY AND COMPREHENSIVE LOSS**

** **

(in thousands)

 

** **
|                                  |   | **Common  Stock** |   | **Additional  Paid-In Capital** |   | **Accumulated  Other  Comprehensive  Income (Loss)** |   | **Unearned  Compensation** |   | **Accumulated  Deficit** |   | **Total  Stockholders’  Deficiency** |   | **TotalComprehensive  Income (Loss)** |     |
|---------------------------------------|--------|-------------------|--------|---------------------------------|--------|------------------------------------------------------|--------|----------------------------|--------|--------------------------|--------|-------------------------------------------|--------|---------------------------------------|----------|
|                                  |   |              |   |                            |   |                                                 |   |                       |   |                     |   |                                      |   |                                  |     |
| Balance at December 31, 2000          |   | $                 | 113    |                            | $      | 220,622                                              |   | $                          | 80     |                     | — |                                      | $      | (232,925                              | )        | $ | (12,110 | ) | $ | — |   |
|                                  |   |              |   |                            |   |                                                 |   |                       |   |                     |   |                                      |   |                                  |     |
| Issuance of common stock              |   | 8                 |   | 219                             |   | —                                               |   | —                     |   | —                   |   | 227                                       |   | —                                |     |
| Legal settlement                      |   | 19                |   | (2,819                          | )      | —                                               |   | —                     |   | —                   |   | (2,800                                    | )      | —                                |     |
| Minimum pension liability             |   | —            |   | —                          |   | (461                                                 | )      | —                     |   | —                   |   | (461                                      | )      | (461                                  | )        |
| Translation adjustments               |   | —            |   | —                          |   | 20                                                   |   | —                     |   | —                   |   | 20                                        |   | 20                                    |     |
| Net income                            |   | —            |   | —                          |   | —                                               |   | —                     |   | 2,132                    |   | 2,132                                     |   | 2,132                                 |     |
|                                  |   |              |   |                            |   |                                                 |   |                       |   |                     |   |                                      |   |                                  |     |
| Balance at December 31, 2001          |   | 140               |   | 218,022                         |   | (361                                                 | )      | —                     |   | (230,793                 | )      | (12,992                                   | )      | $                                     | 1,691    |   |
|                                  |   |              |   |                            |   |                                                 |   |                       |   |                     |   |                                      |   |                                  |     |
| Issuance of common stock              |   | 3                 |   | 74                              |   | —                                               |   | —                     |   | —                   |   | 77                                        |   | —                                |     |
| Minimum pension liability             |   | —            |   | —                          |   | (457                                                 | )      | —                     |   | —                   |   | (457                                      | )      | (457                                  | )        |
| Exercise of stock options             |   | 1                 |   | 8                               |   | —                                               |   | —                     |   | —                   |   | 9                                         |   | —                                |     |
| Unearned compensation                 |   | 6                 |   | 147                             |   | —                                               |   | (153                       | )      | —                   |   | —                                    |   | —                                |     |
| Amortization of unearned compensation |   | —            |   | —                          |   | —                                               |   | 62                         |   | —                   |   | 62                                        |   | —                                |     |
| Translation adjustments               |   | —            |   | —                          |   | (131                                                 | )      | —                     |   | —                   |   | (131                                      | )      | (131                                  | )        |
| Net loss                              |   | —            |   | —                          |   | —                                               |   | —                     |   | (1,350                   | )      | (1,350                                    | )      | (1,350                                | )        |
|                                  |   |              |   |                            |   |                                                 |   |                       |   |                     |   |                                      |   |                                  |     |
| Balance at December 31, 2002          |   | $                 | 150    |                            | $      | 218,251                                              |   | $                          | (949   | )                        | $      | (91                                       | )      | $                                     | (232,143 | ) | $ | (14,782 | ) | $ | (1,938 | ) |
|                                  |   |              |   |                            |   |                                                 |   |                       |   |                     |   |                                      |   |                                  |     |
| Issuance of common stock              |   | 2                 |   | 18                              |   | —                                               |   | —                     |   | —                   |   | 20                                        |   | —                                |     |
| Issuance of warrants                  |   | —            |   | 42                              |   | —                                               |   | —                     |   | —                   |   | 42                                        |   | —                                |     |
| Legal settlement                      |   | —            |   | (199                            | )      | —                                               |   | —                     |   | —                   |   | (199                                      | )      | —                                |     |
| Minimum pension liability             |   | —            |   | —                          |   | (87                                                  | )      | —                     |   | —                   |   | (87                                       | )      | (87                                   | )        |
| Amortization of unearned compensation |   | —            |   | —                          |   | —                                               |   | 38                         |   | —                   |   | 38                                        |   | —                                |     |
| Translation adjustments               |   | —            |   | —                          |   | 29                                                   |   | —                     |   | —                   |   | 29                                        |   | 29                                    |     |
| Net loss                              |   | —            |   | —                          |   | —                                               |   | —                     |   | 353                      |   | 353                                       |   | 353                                   |     |
|                                  |   |              |   |                            |   |                                                 |   |                       |   |                     |   |                                      |   |                                  |     |
| Balance at December 31, 2003          |   | $                 | 152    |                            | $      | 218,112                                              |   | $                          | (1,007 | )                        | $      | (53                                       | )      | $                                     | (231,790 | ) | $ | (14,586 | ) | $ | 295 |   |

 

The accompanyingnotes are an integral part of these consolidated financial statements.

 

36

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# **Exhibit13.1.7       Consolidated Statements ofCash Flows**

# ** **

**MAI SYSTEMSCORPORATION**

** **

**CONSOLIDATEDSTATEMENTS OF CASH FLOWS**

(in thousands)

 
|                                                                                                                                                                |   | **2001** |   | **2002** |   | **2003** |   |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|----------|--------|----------|--------|----------|--------|
| Cash flows from operating activities:                                                                                                                               |   |     |   |     |   |     |   |
| Net income (loss)                                                                                                                                                   |   | $        | 2,132  |     | $      | (1,350   | )      | $ | 353 |   |
| Loss from discontinued operations                                                                                                                                   |   | 2,787    |   | 746      |   | —   |   |
| Loss (gain) on disposal of discontinued  operations                                                                                                                 |   | (1,262   | )      | 1,021    |   | —   |   |
|                                                                                                                                                                |   |     |   |     |   |     |   |
| Income from continuing operations                                                                                                                                   |   | 3,657    |   | 417      |   | 353      |   |
|                                                                                                                                                                |   |     |   |     |   |     |   |
| Adjustments to reconcile income from  continuing operations to net cash provided by (used in) operating activities,  net of business acquisitions and dispositions: |   |     |   |     |   |     |   |
| Gain on creditor settlements                                                                                                                                        |   | (1,377   | )      | —   |   | —   |   |
| Gain on sale of GSI                                                                                                                                                 |   | (245     | )      | —   |   | —   |   |
| Gain on IRS settlement                                                                                                                                              |   | —   |   | —   |   | (262     | )      |
| Amortization of intangibles                                                                                                                                         |   | 731      |   | 134      |   | 38       |   |
| Depreciation and amortization                                                                                                                                       |   | 550      |   | 515      |   | 474      |   |
| Amortization of debt discount                                                                                                                                       |   | 171      |   | 170      |   | 44       |   |
| Stock option compensation expense                                                                                                                                   |   | —   |   | 62       |   | —   |   |
| Provision for doubtful accounts receivable  and inventory                                                                                                           |   | 47       |   | 89       |   | 66       |   |
| Changes in assets and liabilities:                                                                                                                                  |   |     |   |     |   |     |   |
| Decrease in receivables                                                                                                                                             |   | 1,697    |   | 592      |   | 469      |   |
| (Increase) decrease in inventories                                                                                                                                  |   | (13      | )      | 30       |   | —   |   |
| (Increase) decrease in prepaids and other  asset                                                                                                                    |   | (110     | )      | 327      |   | (185     | )      |
| (Increase) decrease in other assets                                                                                                                                 |   | (6       | )      | 68       |   | (67      | )      |
| (Decrease) increase in accounts payable and  customer deposits                                                                                                      |   | (4,699   | )      | (445     | )      | 366      |   |
| (Decrease) increase in accrued liabilities                                                                                                                          |   | (255     | )      | (522     | )      | 1,052    |   |
| (Decrease) increase in income taxes payable                                                                                                                         |   | 20       |   | (151     | )      | (4       | )      |
| (Decrease) increase in unearned revenue                                                                                                                             |   | (2,051   | )      | 1,700    |   | (484     | )      |
| (Decrease) increase in other liabilities                                                                                                                            |   | 452      |   | 42       |   | (421     | )      |
|                                                                                                                                                                |   |     |   |     |   |     |   |
| Net cash provided by (used in) continuing  operations                                                                                                               |   | (1,431   | )      | 3,028    |   | 1,439    |   |
| Net cash provided by (used in) discontinued  operations                                                                                                             |   | (17      | )      | (2,509   | )      | —   |   |
|                                                                                                                                                                |   |     |   |     |   |     |   |
| Net cash provided by (used in) operating  activities                                                                                                                |   | (1,448   | )      | 519      |   | 1,439    |   |
|                                                                                                                                                                |   |     |   |     |   |     |   |
| Cash flows from investing activities:                                                                                                                               |   |     |   |     |   |     |   |
| Capital expenditures                                                                                                                                                |   | (158     | )      | (101     | )      | (346     | )      |
| Payments received on note receivable                                                                                                                                |   | 2,495    |   | 500      |   | 250      |   |
| Software development costs                                                                                                                                          |   | (861     | )      | (896     | )      |     |   |
| Acquisition of unconsolidated subsidiary                                                                                                                            |   | —   |   | —   |   | (79      | )      |
|                                                                                                                                                                |   |     |   |     |   |     |   |
| Net cash provided by (used in) investing  activities                                                                                                                |   | 2,337    |   | (462     | )      | (1,071   | )      |
|                                                                                                                                                                |   |     |   |     |   |     |   |
| Cash flows from financing activities:                                                                                                                               |   |     |   |     |   |     |   |
| Repayments of long-term debt                                                                                                                                        |   | (321     | )      | (102     | )      | (239     | )      |
| Repayments of Bridge Loan                                                                                                                                           |   | (220     | )      | —   |   | —   |   |
| Net decrease in line of credit                                                                                                                                      |   | (155     | )      | (623     | )      | —   |   |
|                                                                                                                                                                |   |     |   |     |   |     |   |
| Net cash used in financing                                                                                                                                          |   | (696     | )      | (725     | )      | (239     | )      |
|                                                                                                                                                                |   |     |   |     |   |     |   |
| Effect of exchange rate changes on cash                                                                                                                             |   | 12       |   | (11      | )      | (10      | )      |
|                                                                                                                                                                |   |     |   |     |   |     |   |
| Net increase (decrease) in cash                                                                                                                                     |   | 205      |   | (679     | )      | 119      |   |
|                                                                                                                                                                |   |     |   |     |   |     |   |
| Cash at beginning of year                                                                                                                                           |   | 1,019    |   | 1,224    |   | 545      |   |
| Cash at end of year                                                                                                                                                 |   | $        | 1,224  |     | $      | 545      |   | $ | 664 |   |
|                                                                                                                                                                |   |     |   |     |   |     |   |
| Cash paid during the period for:                                                                                                                                    |   |     |   |     |   |     |   |
| Interest                                                                                                                                                            |   | $        | 1,504  |     | $      | 990      |   | $ | 826 |   |
| Income taxes                                                                                                                                                        |   | $        | 96     |     | $      | 176      |   | $ | 6 |   |

 

The accompanyingnotes are an integral part of these consolidated financial statements.

 

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# **Exhibit 13.1.8**                     Notes to Consolidated FinancialStatements

# ** **

**MAI SYSTEMSCORPORATION**

**NOTES TOCONSOLIDATED FINANCIAL STATEMENTS**

** **

# **NOTE 1 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES**

# ** **

**Descriptionof the Business**

 

MAI Systems Corporation(the “Company” or “MAI”) provides total information technology solutions to thehospitality, resort and destination industry. The solutions provided by the Company typically include applicationssoftware, computer hardware, peripherals and wide and local area networkdesign, implementation, installation and support.  The software applications are generally the Company’s proprietarysoftware, or software which is licensed to the Company on an exclusivebasis.  The hardware, peripherals andnetworking systems are generally third-party products, which we distribute.  Directly and through arrangements with thirdparties, we provide on-site and off-site service and support to users ofnetwork and systems hardware.

 

**Liquidity**

 

Although the Company hasa net stockholders’ deficiency of $14,586,000 and a working capital deficit of$10,399,000 (which includes subordinated debt due to CSA of $2,800,000, seenote 7) at December 31, 2003, the Company believes it will continue to generatesufficient funds from operations and obtain additional financing or restructureits subordinated note with CSA to meet its operating and capital requirementsfor at least the next 12 months.  TheCompany is currently in negotiations with CSA to restructure the terms of theexisting debt, including extending the maturity date.  The Company expects to generate positive cash flow from itscontinuing operations during 2004 from shipping out products and services fromits current backlog as of December 31, 2003 as well as new orders. In the eventthat the Company cannot generate positive cash flow from its continuingoperations during 2004, the Company can substantially reduce its research anddevelopment efforts to mitigate cash outflow to help sustain itsoperations.  There can be no assurancethat the Company will be able to sustain profitability, generate positive cashflow from operations or restructure its debt as necessary.  These financial statements have beenprepared assuming the Company will continue to operate as a going concern.  If the Company is unsuccessful in theaforementioned efforts, the Company could be forced to liquidate certain of itsassets, reorganize its capital structure and, if necessary, seek other remediesavailable to the Company, including protection under the bankruptcy laws.

 

The restructured debt,pursuant to the original inter-creditor agreement between Canyon Capital andCoast, which was sold to Wamco on May 15, 2003, contains various restrictionsand covenants.  In the event that theCompany were not in compliance with the various restrictions and covenants andwere unable to receive waivers for non-compliance, the term debt would beimmediately due and payable.  TheCompany was not in compliance with but received waivers for its covenantsthrough December 31, 2004 (see note 7). There is no guaranty that the Company will meet its debt covenants inthe future.  The Company is currentlynegotiating with Wamco to change such covenants, but there is no assurance thatthe Company will be able to successfully change the covenants.

 

**Principlesof Consolidation**

 

The consolidatedfinancial statements of the Company include the accounts of its domesticoperations and its majority and wholly owned subsidiaries.  All significant intercompany transactionsand accounts have been eliminated in consolidation.

 

**Useof Estimates**

 

The consolidatedfinancial statements have been prepared in conformity with accountingprinciples generally accepted in the United States of America.  In preparing the consolidated financialstatements, management is required to make estimates and assumptions thataffect the reported amounts of assets and liabilities and disclosure ofcontingent assets and liabilities as of the dates of the balance sheets andrevenues and expenses for the periods. Actual results could materially differ from those estimates.

 

**RevenueRecognition**

 

The Company earns revenuefrom sales of hardware, software and professional services and fromarrangements involving

 

38

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multiple elements of eachof the above. Revenue for multiple element arrangements are recorded byallocating revenue to the various elements based on their respective fairvalues as evidenced by vendor specific objective evidence. The fair value inmulti-element arrangements is determined based upon the price charged when soldseparately. Revenue is not recognized until persuasive evidence of anarrangement exists, delivery has occurred, the fee is fixed or determinable andcollectibility is probable. Sales of network and computer equipment arerecorded when title and risk of loss transfers. Software revenues are recordedwhen application software programs are shipped to end users, resellers anddistributors, provided the Company is not required to provide servicesessential to the functionality of the software or significantly modify,customize or produce the software. Professional services fees for softwaredevelopment, training and installation are recognized as the services areprovided. Maintenance revenues are recorded evenly over the related contractperiod.

 

**CashEquivalents**

 

Cash equivalents consistof highly liquid investments which are readily convertible into known amountsof cash and have original maturities of three months or less, when purchased.

 

**Allowancefor Doubtful Accounts**

 

The Companyrecords an allowance for doubtful accounts based on specifically identifiedamounts that it believes are uncollectible.  The Company alsorecords additional allowances based upon certain percentages of our agedreceivables, which are determined based on historical experience and orassessment of the general financial conditions affecting our customerbase.  If the Company’s actualcollection experience changes, revisions to its allowance may be required.  Any unanticipated change in the Company’scustomer’s credit worthiness or other matters affecting the collectibility ofamounts due from such customers, could have a material affect on its results ofoperations in the period in which such changes or events occur.  After all attempts to collect a receivablehave failed, the receivable is written off against the allowance.

 

**Inventories**

 

Inventories are valued atthe lower of first in, first out cost or market.

 

**Furniture,Fixtures and Equipment**

 

Furniture, fixtures andequipment are recorded at cost and depreciated on a straight-line basis overestimated useful lives ranging from 3 to 5 years.  Leasehold improvements are amortized on a straight-line basisover the shorter of the lease term or their estimated useful lives.  Expenditures for additions and majorimprovements are capitalized.  Repairsand maintenance costs are charged to operations as incurred.  Management of the Company assesses therecoverability of property and equipment by determining whether thedepreciation and amortization of such assets over their remaining lives can berecovered through projected, undiscounted cash flows.

 

**Impairmentof Long-Lived Assets and Long-Lived Assets to be Disposed Of**

 

Statement of FinancialAccounting Standards (“SFAS”) No. 144, “Accounting for the Impairment orDisposal of Long-Lived Assets” provides a single accounting model for long-livedassets to be disposed of.  SFAS No. 144also changes the criteria for classifying an asset as held for sale, andbroadens the scope of businesses to be disposed of that qualify for reportingas discontinued operations and changes the timing of recognizing losses on suchoperations.

 

The Companyadopted SFAS No. 144 on January 1, 2001. The adoption of SFAS No.144 did not affect the Company’s financialstatements.  In accordance with SFAS No.144, long-lived assets, such as furniture, fixtures and equipment are reviewedfor impairment whenever events or changes in circumstances indicate that thecarrying amount of an asset may not be recoverable.  Recoverability of assets to be held and used is measured by acomparison of the carrying amount of an asset to estimated undiscounted futurecash flows expected to be generated by the asset.  If the carrying amount of an asset exceeds its estimated futurecash flows, and impairment charge is recognized by the amount by which thecarrying amount of the asset exceeds the fair value of the asset.  Assets to be disposed of would be separatelypresented in the balance sheet and reported at the lower of the carrying amountor fair value less costs to sell, and are no longer depreciated.  The assets and liabilities of a disposedgroup classified as held for sale would be presented separately in theappropriate asset and liability sections of the balance sheet.

 

Prior to theadoption of SFAS No. 144, the Company accounted for long-lived assets to bedisposed of in accordance with SFAS No. 121, “Accounting for Impairment ofLong-Lived Assets and for Long-Lived Assets to be Disposed Of”.

 

39

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**Goodwill**

 

Prior to 2002, goodwill,representing the excess of the purchase price over the estimated fair value ofthe net assets of the acquired business, was amortized over the period ofexpected benefit of five to seven years. Long-lived assets and certain identifiable intangibles to be held andused by the Company were reviewed for impairment whenever events or changes incircumstances indicated that the carrying amount of the asset may not berecoverable. Recoverability of assets to be held and used was assessed by acomparison of the carrying amount of an asset to future undiscounted net cashflows expected to be generated by the asset. If such assets were considered tobe impaired, the impairment recognized was measured by the amount by which thecarrying amount of the assets exceeded the fair value of the assets.  Assets that were to be disposed of werereported at the lower of the carrying amount or fair value less cost to sell.

 

However, effectiveJanuary 1, 2002, the Company adopted Statement of Financial AccountingStandards No. 142, “Goodwill and Other Intangible Assets,” (“SFAS No. 142”)which requires that the Company cease amortization of goodwill and allintangible assets having indefinite useful economic lives. Such assets are notto be amortized until their lives are determined to be finite, however, arecognized intangible asset with an indefinite useful life should be tested forimpairment annually or on an interim basis if events or circumstances indicatethat the fair value of the asset has decreased below its carrying value. AtDecember 31, 2003, the Company evaluated its goodwill and determined that fairvalue had not decreased below carrying value and no adjustment to impairgoodwill was necessary in accordance with SFAS No. 142.

 

**Income Taxes**

 

Income taxes areaccounted for under the asset and liability method.  Deferred tax assets and liabilities are recognized for the futuretax consequences attributable to differences between the financial statementcarrying amounts of existing assets and liabilities and their respective taxbases and operating loss carryforwards. Deferred tax assets and liabilities are measured using enacted tax ratesexpected to apply to taxable income in the years in which those temporarydifferences are expected to be recovered or settled.  The effect on deferred tax assets and liabilities of a change intax rates is recognized in income in the period that includes the enactmentdate.  The realizability of the deferredtax asset is assessed throughout the year and a valuation allowance isestablished accordingly.

 

**ComprehensiveIncome (Loss)**

 

Comprehensive income (loss) comprises net income (loss) plusthe unrealized gains and losses associated with foreign currency translationsand minimum pension liability.

 

**StockOption Plans**

 

In December 2002,the FASB issued FAS No. 148, “Accounting for Stock-Based Compensation —Transition and Disclosure”, which amended FAS No. 123, “Accounting forStock-Based Compensation.” The new standard provides alternative methods oftransition for a voluntary change to the fair market value based method foraccounting for stock-based employee compensation. Additionally, the statementamends the disclosure requirements of FAS No. 123 to require prominentdisclosures in both annual and interim financial statements about the method ofaccounting for stock-based employee compensation and the effect of the methodused on reported results. This statement is effective for financial statementsfor the year ended December 31, 2002. In compliance with FAS No. 148, the Company has elected to continue tofollow the intrinsic value method in accounting for its stock-based employeecompensation plan as defined by APB No. 25.

 

At December 31, 2003, theCompany had two stock-based employee compensation plans, which are describedmore fully in Note 12. Under APB No. 25, compensation expense relating toemployee stock options is determined based on the excess of the market price ofthe Company’s stock over the exercise price on the date of grant, the intrinsicvalue method, versus the fair value method as provided under FAS No. 123.  Had compensation cost for the Company’sstock option plan been determined based on the fair value at the grant date forawards for years ended December 31, 2001, 2002 and 2003, consistent with theprovisions of FAS No. 123, the Company’s net loss and loss per share ornet income and net income and net income per share would have increased ordecreased respectively.

 

The following tablerepresents the effect on net income and earnings per share if the Company hadapplied the fair value based method and recognition provisions of Statement ofFinancial Accounting Standards (SFAS) No. 123, “Accounting for Stock-BasedCompensation”, to stock-based employee compensation.

 

40

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|                             |                                                                                             |   | **Years  ended December 31,**             |   |
|----------------------------------|--------------------------------------------------------------------------------------------------|--------|-------------------------------------------|--------|
|                             |                                                                                             |   | **(in thousands, except per share data)** |   |
|                             |                                                                                             |   | **2001**                                  |   | **2002** |   | **2003** |   |
|                             |                                                                                             |   |                                      |   |   |   |   |   |
| Net income (loss):               | As reported                                                                                      |   | $                                         | 2,132  |   | $ | (1,350 | ) | $ | 353 |   |
|                             | Add: Stock-based employee compensation  expense recorded                                         |   | —                                    |   | 62 |   | — |   |
|                             | Less:   Stock based employee compensation expense determined under fair value  calculations |   | (793                                      | )      | (193 | ) | (67 | ) |
|                             | Pro forma                                                                                        |   | $                                         | 1,339  |   | $ | (1,481 | ) | $ | 286 |   |
|                             |                                                                                             |   |                                      |   |   |   |   |   |
| Basic income (loss) per share:   | As reported                                                                                      |   | $                                         | 0.16   |   | $ | (0.09 | ) | $ | 0.02 |   |
|                             | Add: Stock-based employee compensation  expense recorded                                         |   | —                                    |   | — |   | — |   |
|                             | Less:   Stock based employee compensation expense determined under fair value  calculations |   | (0.06                                     | )      | (0.01 | ) | — |   |
|                             | Pro forma                                                                                        |   | $                                         | 0.10   |   | $ | (0.10 | ) | $ | 0.02 |   |
|                             |                                                                                             |   |                                      |   |   |   |   |   |
| Diluted income (loss) per share: | As reported                                                                                      |   | $                                         | 0.16   |   | $ | (0.09 | ) | $ | 0.02 |   |
|                             | Add: Stock-based employee compensation  expense recorded                                         |   | —                                    |   | — |   | — |   |
|                             | Less:   Stock based employee compensation expense determined under fair value  calculations |   | (0.06                                     | )      | (0.01 | ) | — |   |
|                             | Pro forma                                                                                        |   | $                                         | 0.10   |   | $ | (0.10 | ) | $ | 0.02 |   |

** **

**Pension Plan**

 

The Company established adefined benefit plan for employees that were employed by the Company’smaintenance service business acquired in 1988. The plan provides benefits based upon a percentage of the participant’scareer income with the Company or years of service while an employee of theCompany.  The funding policy is tocontribute annually an amount to fund pension costs as actuarially determinedby an independent pension consulting firm.

 

**ForeignCurrency Translation**

 

The functional currencyfor all foreign subsidiaries is the applicable local currency.  Accordingly, all translation adjustments forforeign subsidiaries, and gains and losses on intercompany foreign currencytransactions that are of a long-term nature, are included in accumulated othercomprehensive income (loss) as a separate component of stockholders’deficiency.

 

There were no materialnet foreign currency transaction gains (losses) in 2001, 2002 and 2003.  These amounts are included in selling,general and administrative expenses in the accompanying consolidated statementsof operations.

 

**SoftwareDevelopment Costs**

 

All costs incurred toestablish the technological feasibility of software products to be sold toothers are expensed as research and development. Once technological feasibilityhas been established, all software production costs are capitalized.Amortization is computed on an individual product basis and is recognized overthe greater of the remaining economic lives of each product or the ratio thatcurrent gross revenues for a product bear to the total of current andanticipated revenues for that product, commencing when the products becomeavailable for general release to customers. Software development costs are generally amortized over a three-yearperiod.  The Company continuallyassesses the recoverability of software development costs by comparing thecarrying value of individual products to their net realizable value.

 

The Company capitalized$861,000 and $896,000 of software development costs during 2002 and 2003respectively, relating to our new N-Tier, Internet-native corporate applicationsuite of products written in java. Although we have not yet sold any of the modules to this suite ofapplications, we believe that these new products will produce new salesadequate to recover amounts capitalized. We expect that certain of our new products will be available for generalrelease during the third quarter of 2004 at which time amortization of suchcosts shall commence.

 

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**Researchand Development Costs**

 

During 2001, 2002, and 2003, we incurred $4,209,000,$3,307,000 and $2,828,000 respectively (net of capitalized software of $861,000and $896,000 for 2002 and 2003, respectively) for research and developmentactivities, which are expensed as incurred. Our research and development expenditures related to the support andextension of existing software products and the development of new products.

 

**Fair Value of FinancialInstruments**

 

As of December 31, 2002and 2003, the carrying value of cash receivables, notes receivable, accountspayable, accrued liabilities, income taxes payable and other liabilitiesapproximate fair value due to the short-term nature of such instruments.  The carrying value of long-term debt, includingthe Company’s line of credit, approximates fair value as the related interestrates approximate rates currently available to the Company.

 

**Income(Loss) per Share of Common Stock**

 

Basic and dilutedincome  (loss) per share is computedusing the weighted average shares of common stock outstanding during theperiod.  Consideration is also given inthe dilutive income per share calculation for the dilutive effect of commonstock equivalents which might result from the exercise of stock options and warrants.

 

**RecentAccounting Pronouncements**

 

In June 2002, theFASB issued FAS No. 146, “Accounting for Costs Associated with Exit or DisposalActivities.” FAS No. 146 addresses accounting and reporting for costsassociated with exit or disposal activities and nullifies Emerging Issues TaskForce Issue No. 94-3, “Liability Recognition for Certain Employee TerminationBenefits and Other Costs to Exit an Activity (Including Certain Costs Incurredin a Restructuring).” FAS No. 146 requires that a liability for a costassociated with an exit or disposal activity be recognized and measuredinitially at fair value when the liability is incurred. FAS No. 146 iseffective for exit or disposal activities that are initiated after December 31,2002, with early application encouraged. The Company’s adopting the provisionsof FAS 146 for exit or disposal activities did not have a material effect onthe Company’s consolidated financial statements.

 

In November 2002,the FASB issued FASB Interpretation No. (“FIN”) 45, “Guarantor’s Accounting andDisclosure Requirements for Guarantees, including Indirect Guarantees ofIndebtedness of Others,” FIN 45 requires a guarantor to recognize a liability,at the inception of the guarantee, for the fair value of obligations it hasundertaken in issuing the guarantee and also to include more detail disclosureswith respect to guarantees. FIN 45 is effective for guarantees issued ormodified after December 31, 2002 and requires the additional disclosures forinterim or annual period ended after December 15, 2002. The initial recognitionand measurement provisions of FIN 45 have not had an impact on our results ofoperations or financial position.

 

In December 2002,the FASB issued FAS No. 148, “Accounting for Stock-Based Compensation —Transition and Disclosure”, which amended FAS No. 123, “Accounting forStock-Based Compensation.” The new standard provides alternative methods oftransition for a voluntary change to the fair market value based method foraccounting for stock-based employee compensation. Additionally, the statement amendsthe disclosure requirements of FAS No. 123 to require prominent disclosures inboth annual and interim financial statements about the method of accounting forstock-based employee compensation and the effect of the method used on reportedresults. This statement is effective for financial statements for the yearended December 31, 2002. In compliance with FAS No. 148, the Company haselected to continue to follow the intrinsic value method in accounting for itsstock-based employee compensation plan as defined by APB No. 25 and has madethe applicable disclosures herein.

 

In April 2003, theFASB issued SFAS 149, “Amendment of Statement 133 on DerivativeInstruments and Hedging Activities” which amends and clarifies the accountingguidance on derivative instruments and hedging activities that fall within thescope of SFAS 133, “Accounting for Derivative Instruments and HedgingActivities”.  SFAS 149 is effective(1) for contracts entered into or modified after June 30, 2003, withcertain exceptions, and (2) for hedging relationships designated afterJune 30, 2003.  The Company willapply the provisions of SFAS 149 to future contracts entered into or futurehedging relationships, if any.

 

In May 2003, theFASB issued SFAS 150, “Accounting for Certain Financial Instruments withCharacteristics of both Liabilities and Equity” which establishes standards forhow an issuer classifies and measures certain financial instruments withcharacteristics of both liabilities and equity.  SFAS 150 is effective for financial instruments entered intoor modified after May 31, 2003, and otherwise was effective for theCompany on July 1, 2003.  Theadoption of SFAS 150 did not have

 

42

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a significantimpact on the Company’s financial statements.

 

In December 2003,the Securities and Exchange Commission issued Staff Accounting BulletinNo. 104, “Revenue Recognition” (SAB 104) which superseded StaffAccounting Bulletin No. 101, “Revenue Recognition in Financial Statements”(SAB 101). SAB 104’s primary purpose was to rescind accountingguidance contained in SAB 101 related to multiple element revenuearrangements which was superceded as a result of the issuance ofEITF 00-21, “Accounting for Revenue Arrangements with Multiple Deliverables”.  EITF 00-21 was effective for revenuearrangements entered into in fiscal periods beginning after June 15,2003.  The adoption of EITF 00-21did not have a significant impact on the Company’s financial statements. TheCompany was previously following the requirements provided under SAB 104and, accordingly, the implementation of this pronouncement had no impact on theCompany’s financial position or results of operations as reported.

 

In December 2003,the FASB issued FIN 46-R, “Consolidation of Variable InterestEntities — an interpretation of ARB 51 (revised December 2003)”,which replaces FIN 46. FIN 46-R incorporates certain modifications to FIN 46 adopted bythe FASB subsequent to the issuance of FIN 46, including modifications ofthe scope of FIN 46.  For allnon-special purpose entities (“SPE”) created prior to February 1, 2003,public entities will be required to adopt FIN 46-R at the end of the firstinterim or annual reporting period ending after March 15, 2004.  For all entities (regardless of whether theentity is an SPE) that were created subsequent to January 31, 2003, publicentities are already required to apply the provisions of FIN 46, and shouldcontinue doing so unless they elect to adopt the provisions of Fin 46-R earlyas of the first interim or annual reporting period ending afterDecember 15, 2003.  If they do notelect to adopt FIN 46-R early, public entities would be required to applyFIN 46-R to those post-January 31, 2003 entities as of the end of thefirst interim or annual reporting period ending after March 15, 2004.  Management did not elect to adoptFIN 46-R early and will need to review and assess the effects, if any,FIN 46-R will have on the Company’s financial statements, but we do notbelieve the adoption of FIN 46R for non-SPEs will have a material impact to ourconsolidated financial position, results of operations or cash flows.

 

In December 2003,the FASB issued SFAS No. 132 (revised 2003), “Employers’ Disclosures aboutPensions and Other Postretirement Benefits”, an amendment of  SFAS No. 87, 88 and 106, and a revision ofSFAS No.132. The statement is effective for fiscal years and interim periodsending after December 15, 2003. This Statement revises employers’ disclosuresabout pension plans and other postretirement benefit plans. It does not changethe measurement or recognition of those plans required by SFAS No. 87, 88 and106. The new rules require additional disclosures about the assets,obligations, cash flows, and net periodic benefit cost of defined benefitpension plans and other postretirement benefit plans. The adoption of thisStatement is not expected to have a material effect on our financial conditionor results of operations.

 

**Reclassifications**

 

Certain prior yearamounts have been reclassified to conform with the 2003 presentation.

 

# **NOTE 2 – INVENTORIES, NET**

 

Inventories aresummarized as follows:

 

|              |   | **December  31, ** |   |
|-------------------|--------|-------------------------|--------|
|              |   | **(in thousands)**      |   |
|              |   | **2002**                |   | **2003** |   |
|              |   |                    |   |   |   |
| Finished goods    |   | $                       | 45     |   | $ | 39 |   |
| Replacement parts |   | 15                      |   | 8 |   |
|              |   |                    |   |   |   |
|              |   | $                       | 60     |   | $ | 47 |   |

 

The Company has purchasedmany products and components from single sources of supply.  Because the Company’s current products areindustry standard, the Company believes that alternative sources of supply ofsimilar products would be available to the Company in the event of anyinterruption of delivery of a single source supplier.

 

# **NOTE 3 – BUSINESSES HELD FOR SALE**

 

In the fourth quarter of2001, the Company’s Board of Directors adopted a plan to sell its Processmanufacturing and Legacy divisions.  TheProcess manufacturing business division designs, sells, installs and supportstotal technology solutions featuring complex wide and local area networks tothe process manufacturing industry.  TheLegacy business provides a wide array of products and services to its customerswho continue to use its proprietary host-based computer systems, includingfield engineering services, new and replacement equipment, operating systemsand software application

 

43

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products.  These products and services upgrade, enhanceand integrate the legacy systems with currently available computertechnologies.

 

During the fourth quarterof 2002, the Company successfully sold its Process Manufacturing and Legacybusinesses (see note 5).

 

In accordance with SFASNo. 144, the Company has reflected all of the assets and liabilities of ProcessManufacturing and Legacy in the consolidated balance sheets as held for saleand the operating results of these businesses have been reflected as discontinuedoperations in the consolidated statements of operations for all periodspresented.

 

Summarized below ishistorical financial information about Process Manufacturing and Legacy (inthousands):

 

|                     |   | **2001** |   | **2002** |   |
|--------------------------|--------|----------|--------|----------|--------|
|                     |   |     |   |     |   |
| Revenue                  |   | $        | 5,078  |     | $      | 2,344 |   |
| Loss, net of tax of zero |   | (1,525   | )      | (1,767   | )      |
|                          |        |          |        |          |        |  |  |

# ** **

# **NOTE 4 – FURNITURE, FIXTURES AND EQUIPMENT**

 

The major classes offurniture, fixtures and equipment are as follows:

 

|                                                   |   | **2002**           |   | **2003** |   |
|--------------------------------------------------------|--------|--------------------|--------|----------|--------|
|                                                   |   | **(in thousands)** |   |
|                                                   |   |               |   |     |   |
| Furniture, fixtures and equipment                      |   | $                  | 3,238  |     | $      | 914 |   |
| Office equipment                                       |   | 2,542              |   | 793      |   |
| Leasehold improvements                                 |   | 246                |   | 247      |   |
| Total                                                  |   | 6,026              |   | 1,954    |   |
|                                                   |   |               |   |     |   |
| Less:   accumulated depreciation and amortization |   | (5,183             | )      | (1,196   | )      |
|                                                   |   |               |   |     |   |
|                                                   |   | $                  | 843    |     | $      | 758 |   |

 

During 2003, the Company movedits corporate office and wrote off certain fully depreciated assets that weredisposed of pursuant to the move.

 

# **NOTE5 – ACQUISITIONS, DIVESTITURE, AGREEMENTS AND FINANCING**

# ** **

**HospitalityServices & Solutions**

 

On June 23, 2002, theCompany acquired substantially all of the assets and assumed certainliabilities of Hospitality Services & Solutions (“HSS”) including a 35%ownership in AMDB – HIS (“AMDB”) pursuant to a stock purchase agreement for100,000 shares of common stock valued at $32,000 (the quoted market price ofthe common stock at the time the terms were agreed), and $75,000 in cash.  Additionally, the shareholders of HSSreceived a 20% minority interest in the Company’s combined operations in Asia.HSS was acquired for the Company to expand its operations in the Asian marketplace,strengthen its management team in the territory and create new opportunitiesfor its new enterprise capable suite of products.  The net assets acquired from HSS are used in the business ofsoftware design, engineering and service relating to hotel informationsystems.  The net assets also includesubsidiaries of HSS in Malaysia, Singapore and Thailand.  The Company recorded $297,000 of goodwill(deductible for tax purposes) in connection with the acquisition of HSS.  Pro forma results of operations as if thisacquisition had occurred at the beginning of 2001 and 2002 are not shownbecause its impact would have been immaterial.

 

Included in the acquiredassets of HSS was a 35% interest in AMDB, an online reservation service,originally purchased by HSS for $66,000. On February 20, 2003, the Company entered into an agreement whereby itacquired the remaining 65% for $79,000 payable over 6 month installments.  The net liabilities of $15,000 acquired areused to support an online reservation service related to hotel informationsystems.  The Company recorded $159,000of goodwill in connection with the acquisition of AMDB.  Pro forma results of operations as if thisacquisition had occurred at the beginning of 2002 and 2003 are not shownbecause its impact would have been immaterial.

 

**GamingSystems International**

 

On June 19, 1999, theCompany sold Gaming Systems International (“GSI”) for an amount in excess ofthe book value of net assets sold. Assets sold of approximately $3,749,000 consisted of accounts receivableof $1,514,000, inventories of

 

44

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$364,000, furniture,fixtures and equipment of $218,000, intangible assets of $1,573,000 and prepaidexpenses of $80,000.  Liabilitiesassumed by the buyer consisted of accounts payable and accrued liabilities of$197,000, deposits of $100,000, unearned revenue of $351,000 and long-term debtof 446,000.  The Company received threepromissory notes totaling $4,925,000 with face values of $1,100,000, $1,500,000and $2,325,000, respectively.  Interestwas paid monthly at the rate of 10% per annum on both the $1,100,000 and$1,500,000 notes, with the principal due and payable on June 19, 2001 and June19, 2003, respectively.  The $1,100,000promissory note was guaranteed by a third party.  Principal payments and interest, at prime plus 1%, was tocommence for the $2,325,000 promissory note on October 1, 2002 in 48 monthlyinstallments of approximately $48,000 of principal, plus accrued interest.

 

Imputing interest at arate of 10%, the present value of the $2,325,000 promissory note at the date ofsale was $1,682,000 which resulted in a combined carrying value of $4,282,000for all three promissory notes. The gain on sale of $1,227,000 had beendeferred until collection of the proceeds representing the gain can be assured.As of December 31, 2000, the Notes were held for sale and were written down toan amount which approximated their estimated net realizable value of$2,700,000.

 

On April 6, 2001 theCompany entered into an agreement with the maker of the Notes whereby the makerreconveyed 100% of the Common Stock of GSI to the Company for the purpose ofselling GSI to a third party. In connection with the agreement, the Companycanceled the Notes and entered into a new $1.1 million secured promissory notewith the same party. The maker will be paid a commission of 30% of cashreceipts from the third party, which will be first applied to the $1.1 millionnote and paid in cash to the maker thereafter. On July 27, 2001, the Companyentered into an Asset Purchase Agreement (“Agreement”) with the third party forapproximately $3.2 million whereby all of the assets of GSI were acquired andall of the liabilities assumed, except for approximately $300,000 ofobligations, which will remain with GSI. The payment terms under the Agreement required a $1 millionnon-refundable cash payment to the Company, which was received on July 27, 2001and a $1.5 million payment, which was received in December 2001.  The Company also received a securedpromissory note in the amount of $750,000, of which $500,000 was received inDecember 2002 and $250,000 in January 2003. The third party was also requiredto pay an additional $250,000 subject to a maximum $250,000 reduction pursuantto the resolution of certain uncertainties as of the date of the Agreement,which, as part of the settlement, in January 2003 the Company received$46,000.  Due to the uncertainty ofcollecting the unsecured amount of $250,000, gain recognition on that part ofthe proceeds was deferred until collection was assured.  The Company recorded a gain on the sale ofGSI of $245,000 in the fourth quarter of 2001, which is included in otheroperating expense (income) in the accompanying consolidated statements ofoperations.

 

**Legacy**

 

On October 9, 2001, theCompany sold certain rights under customer contracts together with the relatedassets and liabilities of its domestic Legacy hardware maintenance division tothe third party currently providing the on-site repair and warranty service tothe Company’s Legacy hardware maintenance customers.  Pursuant to the agreement, the Company retained the softwaremaintenance component of the customer contracts and will continue to providethe software support services directly to the domestic Legacy customerbase.  Additionally, the third partywill be required to pay the Company approximately 15% of the third party’shardware maintenance revenue stream relating to the hardware maintenancecustomer contracts subsequent to October 31, 2003.  In connection with the sale, the Company received $328,000 incash and sold approximately $157,000 of assets consisting of inventory, spareparts, fixed assets and certain accounts receivable.  The third party also assumed approximately $1,091,000 of liabilitiesconsisting of accrued liabilities of approximately $366,000 and deferredrevenue of approximately $725,000.  Thesale resulted in a gain of approximately $1,262,000 in October 2001.

 

**MAICanada **

 

On December 6, 2002, theCompany sold all the assets and certain liabilities of its Canadian operations,including all legacy divisions, to the management of this subsidiary pursuantto a stock purchase agreement.  Inconnection with the sale, the Company also entered into a software distributionagreement whereby the buyer has a non-exclusive right and license to market andinstall the Company’s hospitality products in Canada.  The sale resulted in a loss of approximately $630,000, which isincluded in the loss on disposal of discontinued operations.  Prior to the sale, the Canadian operationsincurred a net income (loss) of $910,000 and ($305,000) during 2001 and 2002,respectively, which is included in loss from discontinued operations in theaccompanying statements of operations.

 

**Process Manufacturing**

 

On December 6, 2002, theCompany entered into an Asset Purchase Agreement whereby all the assets andcertain liabilities of its process manufacturing software division were sold toa third party for cash of $250,000.  Thesale resulted in a loss of

 

45

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approximately $391,000,which is included in the loss on disposal of discontinued operations.  Prior to the sale, Process Manufacturingoperations incurred a net loss of $3,736,000 and $441,000 during 2001 and 2002,respectively, which is included in loss from discontinued operations in theaccompanying statements of operations.

 

# **NOTE 6 – INTANGIBLE ASSETS**

 

Intangible assets consistprimarily of goodwill and capitalized software.  Intangible assets other than goodwill are amortized on astraight-line basis over their estimated useful lives.  Prior to 2002, goodwill, representing theexcess of the purchase price over the estimated fair value of the net assets ofthe acquired business, was amortized over the period of expected benefit offive to seven years.  However, effectiveJanuary 1, 2002, the Company adopted Statement of Financial AccountingStandards No. 142, “Goodwill and Other Intangible Assets, (“SFAS No. 142”)which requires that the Company cease amortization of all goodwill andintangible assets having indefinite useful economic lives.  The Company determined that there was noimpairment upon adoption.   Such assetsare not to be amortized until their lives are determined to be finite, however,a recognized intangible asset with an indefinite useful life should be testedfor impairment annually or on an interim basis if events or circumstancesindicate that the fair value of the asset has decreased below its carryingvalue.  At December 31, 2003, the Companyevaluated its goodwill and determined that fair value had not decreased belowcarrying value and no adjustment to impair goodwill was necessary in accordancewith SFAS No. 142.

 

46

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Net income and net incomeper share for 2001 adjusted to exclude amortization expense is as follows: 

 
|                                                                   |   | **Year  Ending December 31,  2001 ** |   |
|------------------------------------------------------------------------|--------|-------------------------------------------|--------|
|                                                                   |   | **(in thousands)**                        |   |
| ***Net income:***                                                      |   |                                      |   |
| Reported net income                                                    |   | $                                         | 2,132  |   |
| Goodwill amortization                                                  |   | 420                                       |   |
|                                                                   |   |                                      |   |
| Adjusted net income                                                    |   | $                                         | 2,552  |   |
|                                                                   |   |                                      |   |
| Basic net income per share:                                            |   |                                      |   |
| Reported basic net income per share                                    |   | $                                         | 0.16   |   |
| Goodwill amortization                                                  |   | 0.03                                      |   |
|                                                                   |   |                                      |   |
| Adjusted basic net income per share                                    |   | $                                         | 0.19   |   |
|                                                                   |   |                                      |   |
| Diluted net income per share:                                          |   |                                      |   |
| Reported diluted net income per share                                  |   | $                                         | 0.16   |   |
| Goodwill amortization                                                  |   | 0.03                                      |   |
|                                                                   |   |                                      |   |
| Adjusted diluted earnings per share                                    |   | $                                         | 0.19   |   |
|                                                                   |   |                                      |   |
| ***Income from  continuing operations:***                              |   |                                      |   |
| Reported income from continuing operations                             |   | $                                         | 3,657  |   |
| Goodwill amortization                                                  |   | 420                                       |   |
|                                                                   |   |                                      |   |
| Adjusted income from continuing operations                             |   | $                                         | 4,077  |   |
|                                                                   |   |                                      |   |
| Basic income per share from continuing  operations:                    |   |                                      |   |
| Reported basic income per share from  continuing operations            |   | $                                         | 0.28   |   |
| Goodwill amortization                                                  |   | 0.03                                      |   |
|                                                                   |   |                                      |   |
| Adjusted basic net income per share from  continuing operations        |   | $                                         | 0.31   |   |
|                                                                   |   |                                      |   |
| Diluted income per share from continuing  operations:                  |   |                                      |   |
| Reported diluted net income per share from  continuing operations      |   | $                                         | 0.28   |   |
| Goodwill amortization                                                  |   | 0.03                                      |   |
|                                                                   |   |                                      |   |
| Adjusted diluted income per share from  continuing operations          |   | $                                         | 0.31   |   |
|                                                                   |   |                                      |   |
| ***Income (Loss)  from discontinued operations:***                |   |                                      |   |
| Reported loss from discontinued operations                             |   | $                                         | (1,525 | ) |
| Goodwill amortization                                                  |   | 1,233                                     |   |
|                                                                   |   |                                      |   |
| Adjusted income (loss) from discontinued  operations                   |   | $                                         | (292   | ) |
|                                                                   |   |                                      |   |
| Basic income (loss) per share from discontinued  operations:           |   |                                      |   |
| Reported basic loss per share from  discontinued operations            |   | $                                         | (0.12  | ) |
| Goodwill amortization                                                  |   | 0.10                                      |   |
|                                                                   |   |                                      |   |
| Adjusted basic income per share from  discontinued operations          |   | $                                         | (0.02  | ) |
|                                                                   |   |                                      |   |
| Diluted income (loss) per share from discontinued  operations:         |   |                                      |   |
| Reported diluted loss per share from  discontinued operations          |   | $                                         | (0.12  | ) |
| Goodwill amortization                                                  |   | 0.10                                      |   |
|                                                                   |   |                                      |   |
| Adjusted diluted income (loss) per share  from discontinued operations |   | $                                         | (0.02  | ) |

 

47

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Goodwill and capitalizedsoftware as of December 31, 2002 and 2003 are as follows:

 

|                      |   | **December  31, ** |   |
|---------------------------|--------|-------------------------|--------|
|                      |   | **(in thousands)**      |   |
|                      |   | **2002**                |   | **2003** |   |
|                      |   |                    |   |   |   |
| Goodwill                  |   | $                       | 962    |   | $ | 1,121 |   |
| Accumulated amortization  |   | —                  |   | — |   |
| Goodwill, net             |   | 962                     |   | 1,121 |   |
|                      |   |                    |   |   |   |
| Capitalized software      |   | 2,180                   |   | 1,755 |   |
| Accumulated amortization  |   | (1,319                  | )      | — |   |
| Capitalized software, net |   | 861                     |   | 1,755 |   |
|                      |   |                    |   |   |   |
| Total                     |   | $                       | 1,823  |   | $ | 2,876 |   |

# ** **

# **Net goodwill is comprised of$665,000 on the purchase of Hotel Information Systems Inc. (HIS) in 1996,  $297,000 on the purchase of HSS in 2002 and$159,000 on the purchase of AMDB in 2003 (see note 5).**

# ** **

# **The Company’s weighted averageamortization period for capitalized software is expected to be threeyears.  The following table shows the estimatedamortization expense for these assets for each of the four succeeding years:**

# ** **

 

| **Year Ending December 31,** |   |   |       |
|------------------------------|--------|--------|------------|
| **(in thousands)**           |   |   | ** ** |
| 2004                         |   | $      | 293        |   |
| 2005                         |   | 585    |       |
| 2006                         |   | 585    |       |
| 2007                         |   | 292    |       |
|                         |   | $      | 1,755      |   |

# ** **

# **NOTE7 – LONG-TERM DEBT**

 

**Wamco 32 Ltd.**

 

On January 13, 2003, theCompany re-negotiated the terms of its credit facility with Coast BusinessCredit (“Coast”) whereby the outstanding balance of $1,828,000 was converted toa term loan which accrues interest at 9.25% per annum and requires monthlypayments of $58,000 over a 36 months period commencing March 1, 2003.  On February 7, 2003, the Federal DepositInsurance Corporation (“FDIC”) put Coast and its parent company, SouthernPacific Bank, into receivership and held all of Coast’s assets for sale tothird parties.  On May 15, 2003, theloan was sold to Wamco 32, Ltd. (“Wamco”). This sale of the loan by the FDIC did not change any of the terms of theCompany’s loan agreement.

 

The loan matures onFebruary 28, 2005, at which time all remaining principal and accrued interestis due and payable.  The Company willalso be required to pay Wamco additional principal payments on a quarterlybasis based upon an EBITDA-based formula commencing March 31, 2003.  For the year-ended December 31, 2003, thereare no additional principal payments required under the EBITDA-basedformula.  The consolidated balance sheetas of December 31, 2002 and 2003 reflects the re-class of the secured revolvingcredit facility to a term loan.  As ofDecember 31, 2002 and 2003, the balance of the term loan was $1,801,000 and$1,366,000 respectively.

 

The loan, pursuant to theoriginal inter-creditor agreement between Canyon Capital and Coast, which wassold to Wamco on May 15, 2003, contains various restrictions and covenants,including a minimum quick ratio of .34 to 1.00 and minimum debt servicecoverage ratio of 1.25 to l.00.  In theevent that the Company were not in compliance with the various restrictions andcovenants and were unable to receive waivers for non-compliance, the term loanwould be immediately due and payable. The Company was not in compliance with but received waivers for suchcovenants through December 31, 2004. There is no guaranty that the Company will meet its debt covenants inthe future.  The Company is currentlynegotiating with Wamco to change such covenants, but there is no assurance thatthe Company will be able to successfully change the covenants.

 

**CanyonCapital Management LP**

 

On January 13, 2003, theCompany modified its 11% subordinated notes payable agreement with CanyonCapital Management LP (“Canyon”), whereby the Company is required to makemonthly interest payments of $52,000 until the

 

48

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Wamco term loan is paidoff in full at which time the note payable will be converted into a three-yearamortizing loan which will accrue interest at 11% per annum and requires equalmonthly payments of principal and interest such that the subordinated debt willbe paid in full at the end of the amended term.  Upon the repayment of the Wamco debt in full, the Company willalso be required to pay Canyon additional principal payments on a quarterlybasis based upon an EBITDA-based formula. Additionally, the Company issued to Canyon 200,000 shares of its commonstock valued at $20,000 (the quoted market price of the common stock at thetime the terms were agreed) and agreed to issue one million warrants at anexercise price of $0.40 per share valued at $42,000 (using the Black-Scholesoption-pricing model with the following weighted-average assumptions: risk-freeinterest rate of 6.5%, volatility of 80% and an expected life of 5 years).  The $62,000 is being amortized to interestexpense over the term of the modified note. The principal balance outstanding on the subordinate notes payable toCanyon was approximately $5,662,000 at December 31, 2002 and 2003.

 

**CSAPrivate Limited**

 

In connection with asettlement agreement with CSA Private Limited (“CSA”), the Company issued $2.8million of subordinated debt to CSA. The $2.8 million of debt is secured by allof the Company’s assets, which is subordinate to Wamco and Canyon,  accrues interest at 10% per annum andrequires payments of $37,500 from March 1, 2002 through September 1, 2002 andmonthly payments of $107,500 commencing on October 1, 2002 until October 2003when all remaining unpaid principal and accrued interest is to be paid in full.The balance outstanding on the subordinate debt to CSA was $2,800,000 atDecember 31, 2002 and December 31, 2003.

 

The agreement with CSAwas amended whereby the Company shall be required to pay the required paymentsunder the subordinated note unless and until it paid $1 million by December 31,2002.  Upon payment of the $1 million,contractual payments under the subordinated note would have ceased until afinal payment in the amount of $400,000 is paid by February 28, 2003. If theCompany did not make all of the modified payments to CSA, the subordinated notewill revert back to its original terms. The Company did not make the modified payment and have not made anypayments since September 2002.  Underthe terms of the subordination agreement between Wamco, Canyon and CSA, theCompany is not allowed to make any principal or interest payments to CSA untilthe Wamco and Canyon debt, including any accrued interest, is repaid in full orthe CSA debt is restructured and approved by Wamco and Canyon. The Company iscurrently in negotiations with CSA to restructure the terms of the subordinatednotes including extending its maturity date. There can be no assurance that CSA and MAI will come to terms on arestructuring or that Wamco and Canyon will ultimately approve the terms of therestructuring.  In the event that theCompany is unable to meet the required payments to its primary lenders or meetits payment obligations to its other secured creditors, they are entitled toexercise certain rights under the respective agreements the Company has withthem, including but not limited to, foreclosing on all of the Company’stangible and intangible assets.  Suchaction would have a substantial adverse effect on our ability to continue as agoing concern.  The CSA debt is shown ascurrent.

 

CSA has not formallynotified the Company of its default.  As of December 31, 2002 and 2003, accrued interest relating to the CSAsubordinated debt was $408,000 and $744,000 respectively, and is included inaccrued liabilities in the accompanying consolidated balance sheets.

 

**TaxClaims**

 

On September 30, 2003,the Company entered into a settlement agreement with the United States InternalRevenue Service (the “Service”) on a tax claim which resulted from theCompany’s 1993 Chapter 11 proceedings whereby it agreed to pay $489,000 inequal monthly installments of $7,438 over a period of six (6) years at aninterest rate of 6%.  The $489,000settlement is reflected as debt in the financial statements and resulted in aone-time gain of $262,000 which is included in income tax benefit. In the eventthat the Company fails to pay the Service any payment, and such payment failurecontinues for sixty days after written notice of such failure, $1,832,100, plusaccrued interest thereon, less any payments made by the Company will beimmediately due and payable to the Service. As of December 31, 2003, the debt balance was $428,000.

 

49

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Long-term debtoutstanding is as follows:

 

|                                                                        |   | **December  31,**  |   |
|-----------------------------------------------------------------------------|--------|--------------------|--------|
|                                                                        |   | **(in thousands)** |   |
|                                                                        |   | **2002**           |   | **2003** |   |
|                                                                        |   |               |   |   |   |
| 11% subordinated debt, net of discount of  $28,000 and 50,000, respectively |   | $                  | 5,634  |   | $ | 5,612 |   |
| 10% subordinated debt                                                       |   | 2,800              |   | 2,800 |   |
| 9.25% debt                                                                  |   | 1,801              |   | 1,366 |   |
| Tax Claims                                                                  |   | —             |   | 428 |   |
| Other                                                                       |   | 288                |   | 575 |   |
|                                                                        |   | 10,523             |   | 10,781 |   |
| Less: current installments                                                  |   | (3,289             | )      | (3,646 | ) |
|                                                                        |   |               |   |   |   |
| Non-current portion                                                         |   | $                  | 7,234  |   | $ | 7,135 |   |

 

Aggregate maturities oflong-term debt are as follows:

 

| **Year Ending December 31,** |   |   |   |
|------------------------------|--------|--------|--------|
| **(in thousands)**           |   |   |   |
| 2004                         |   | $      | 3,646  |   |
| 2005                         |   | 2,238  |   |
| 2006                         |   | 1,990  |   |
| 2007                         |   | 2,124  |   |
| 2008                         |   | 449    |   |
| Thereafter                   |   | 334    |   |
|                         |   | $      | 10,781 |   |

# ** **

# **NOTE8 - ACCRUED LIABILITIES**

 

Accrued liabilitiesconsist of the following:

|                                       |   | **2002**           |   | **2003** |   |
|--------------------------------------------|--------|--------------------|--------|----------|--------|
|                                       |   | **(in thousands)** |   |
|                                       |   |               |   |     |   |
| Salaries, wages and commissions            |   | $289               |   | $960     |   |
| Accrued   insurance & sales taxes |   | 133                |   | 85       |   |
| Accrued vacation                           |   | 417                |   | 409      |   |
| Accrued interest                           |   | 416                |   | 747      |   |
| Other                                      |   | 752                |   | 858      |   |
|                                       |   |               |   |     |   |
| Total                                      |   | $2,007             |   | $3,059   |   |

# ** **

50

----

 

# **NOTE9 - INCOME TAXES**

 

The components of income(loss) from continuing operations before income taxes are as follows:

 

|    |   | **Years  Ended December 31, ** |   |
|---------|--------|-------------------------------------|--------|
|    |   | **(in thousands)**                  |   |
|    |   | **2001**                            |   | **2002** |   | **2003** |   |
|    |   |                                |   |   |   |   |   |
| U.S.    |   | $                                   | 3,829  |   | $ | 702 |   | $ | 454 |   |
| Foreign |   | 4                                   |   | (255 | ) | (412 | ) |
|    |   |                                |   |   |   |   |   |
| Total   |   | $                                   | 3,833  |   | $ | 447 |   | $ | 42 |   |

 

 

The income tax provision(benefit) is comprised of the following:

 

|         |   | **Years  Ended December 31,** |   |
|--------------|--------|-------------------------------|--------|
|         |   | **(in thousands)**            |   |
|         |   | **2001**                      |   | **2002** |   | **2003** |   |
| Current:     |   |                          |   |   |   |   |   |
| U.S. Federal |   | $                             | 81     |   | $ | — |   | $ | (326 | ) |
| State        |   | —                        |   | 3 |   | 6 |   |
| Foreign      |   | 95                            |   | 27 |   | 9 |   |
|         |   | 176                           |   | 30 |   | (311 | ) |
| Deferred:    |   |                          |   |   |   |   |   |
| U.S. Federal |   | —                        |   | — |   | — |   |
| Foreign      |   | —                        |   | — |   | — |   |
|         |   | —                        |   | — |   | — |   |
|         |   |                          |   |   |   |   |   |
| Total        |   | $                             | 176    |   | $ | 30 |   | $ | (311 | ) |

 

Deferred tax assets andliabilities result from differences between the financial statement carryingamounts and the tax bases of existing assets and liabilities.  The significant components of the deferredincome tax assets and deferred income tax liabilities are as follows:

 

|                                 |   | **December  31,**  |   |
|--------------------------------------|--------|--------------------|--------|
|                                 |   | **(in thousands)** |   |
|                                 |   | **2002**           |   | **2003** |   |
|                                 |   |               |   |   |   |
| Deferred tax assets:                 |   |               |   |   |   |
| Net operating loss carryforwards     |   | $                  | 21,521 |   | $ | 21,521 |   |
| Furniture, fixture and equipment     |   | —             |   | 69 |   |
| Inventory write-downs                |   | 2                  |   | 10 |   |
| Allowance for doubtful accounts      |   | 144                |   | 58 |   |
| Capitalized software and intangibles |   | 370                |   | 363 |   |
| Accrued expenses                     |   | 179                |   | 167 |   |
| Other                                |   | 151                |   | — |   |
|                                 |   |               |   |   |   |
|                                 |   | 22,367             |   | 22,188 |   |
| Less:   valuation allowance     |   | (22,367            | )      | (22,188 | ) |
|                                 |   |               |   |   |   |
| Net deferred tax assets              |   | $                  | — |   | $ | — |   |

 

The Company has recordeda valuation allowance in the amount set forth above for certain deductibletemporary differences where it is not more likely than not the Company willreceive future tax benefits.  The netchange in the valuation allowance for the years ended 2001, 2002 and 2003 was$(774,000), $(3,806,000) and $(179,000), respectively.

 

As of December 31, 2003,the Company has Federal and state net operating losses (NOL) carryovers ofapproximately $63,000,000 and $3,000,000 respectively.  These NOL carryovers will expire in theyears 2004 through 2020.  The Company’sutilization of a portion of its NOL carryovers is subject to variousuncertainties including an annual limitation under Section 382 of the InternalRevenue Code.  The amount of thislimitation is not known at this time.

 

On September 11,2002, the State of California enacted one of the budget trailer bills thatimplemented the state’s 2002-2003 Budget Bill (A425). The new law suspends theNOL carryover deduction for tax years 2002 and 2003. To compensate for thededuction suspension, the period of availability for these NOL deductions hasbeen extended for two years.

 

51

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The provision (benefit)for income taxes differs from the amount computed by applying the Federalcorporate income tax rate of 34% to income (loss) from continuing operationsbefore income taxes as follows:

 
|                                                                                                                              |   | **Years  Ended December 31,** |   |
|-----------------------------------------------------------------------------------------------------------------------------------|--------|-------------------------------|--------|
|                                                                                                                              |   | **(in percentages)**          |   |
|                                                                                                                              |   | **2001**                      |   | **2002** |   | **2003** |   |
|                                                                                                                              |   |                          |   |   |   |   |   |
| Statutory tax rate                                                                                                                |   | 34.0                          | %      | 34.0 | % | 34.0 | % |
| Change in valuation allowance                                                                                                     |   | (36.1                         | )      | (679.6 | ) | (426.2 | ) |
| Amortization and write-off of intangibles                                                                                         |   | 3.7                           |   | — |   | — |   |
| Expiration of state NOLs                                                                                                          |   | —                        |   | 5.0 |   | — |   |
| Effect of foreign operations                                                                                                      |   | 2.5                           |   | 610.8 |   | 333.2 |   |
| Adjustments of NOL carry forwards and  deferred tax assets pursuant to the finalization of theIRS examination and  other analysis |   | —                        |   | — |   | (775.8 | ) |
| Change in estimates                                                                                                               |   | —                        |   | — |   | 94.3 |   |
| Other                                                                                                                             |   | 0.5                           |   | 36.5 |   | — |   |
|                                                                                                                              |   |                          |   |   |   |   |   |
| Effective tax rate                                                                                                                |   | 4.6                           | %      | 6.7 | % | (740.5 | )% |

 

 

Undistributed earnings of the Company’s foreignsubsidiaries are considered to be indefinitely reinvested and, accordingly, noprovision for U.S. federal and state income taxes has been providedthereon.  Upon distribution of thoseearnings in the form of dividends or otherwise, the Company would be subject toU.S. income taxes and possibly withholding taxes payable to the foreigncountries, but may be able to offset unrecognized foreign tax creditcarryforwards.  Determination of theamount of unrecognized deferred U.S. income tax liability is not practicablebecause of the complexities associate with its hypothetical calculation.

 

52

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# **NOTE10 - GEOGRAPHIC AREA INFORMATION**

# ** **

Information with respectto the Company’s operations by significant geographic area is set forthbelow.  “Other foreign” includesoperations in Mexico.  “Asia” includesoperations in Singapore, Malaysia and Hong Kong.

 

|                                                                 |   | **2001** |   | **2002** |   | **2003** |   |
|----------------------------------------------------------------------|--------|----------|--------|----------|--------|----------|--------|
| Revenue from unaffiliated customers (based  on subsidiary location): |   |     |   |     |   |     |   |
| United States                                                        |   | $        | 19,351 |     | $      | 17,592   |   | $ | 15,439 |   |
| Asia                                                                 |   | 2,585    |   | 2,783    |   | 2,871    |   |
| Canada                                                               |   | 584      |   | 452      |   | —   |   |
| United Kingdom                                                       |   | 1,248    |   | 1,110    |   | 1,024    |   |
| Other foreign                                                        |   | —   |   | —   |   | 12       |   |
|                                                                 |   |     |   |     |   |     |   |
|                                                                 |   | $        | 23,768 |     | $      | 21,937   |   | $ | 19,346 |   |
|                                                                 |   |     |   |     |   |     |   |
| United States revenue from foreign affiliates                        |   | $        | 343    |     | $      | 298      |   | $ | 313 |   |
| Operating income (loss):                                             |   |     |   |     |   |     |   |
| United States                                                        |   | $        | 5,358  |     | $      | 2,256    |   | $ | 2,010 |   |
| Asia                                                                 |   | (32      | )      | 70       |   | 185      |   |
| Canada                                                               |   | 23       |   | 6        |   | —   |   |
| United Kingdom                                                       |   | 61       |   | (176     | )      | (463     | )      |
| Other foreign                                                        |   | (49      | )      | (155     | )      | (130     | )      |
|                                                                 |   |     |   |     |   |     |   |
|                                                                 |   | $        | 5,361  |     | $      | 2,001    |   | $ | 1,602 |   |
|                                                                 |   |     |   |     |   |     |   |
| Identifiable assets:                                                 |   |     |   |     |   |     |   |
| United States                                                        |   | $        | 6,233  |     | $      | 4,329    |   | $ | 4,985 |   |
| Asia                                                                 |   | 909      |   | 1,352    |   | 1,159    |   |
| Canada                                                               |   | 383      |   | —   |   | —   |   |
| United Kingdom                                                       |   | 505      |   | 422      |   | 314      |   |
| Other foreign                                                        |   | 258      |   | 74       |   | 72       |   |
|                                                                 |   |     |   |     |   |     |   |
|                                                                 |   | $        | 8,288  |     | $      | 6,177    |   | $ | 6,530 |   |
|                                                                 |   |     |   |     |   |     |   |
| Long-lived assets:                                                   |   |     |   |     |   |     |   |
| United States                                                        |   | $        | 2,862  |     | $      | 2,315    |   | $ | 3,109 |   |
| Asia                                                                 |   | 28       |   | 492      |   | 541      |   |
| United Kingdom                                                       |   | 36       |   | 46       |   | 38       |   |
| Canada                                                               |   | 18       |   | —   |   | —   |   |
| Other foreign                                                        |   | 12       |   | 7        |   | 4        |   |
|                                                                 |   |     |   |     |   |     |   |
|                                                                 |   | $        | 2,956  |     | $      | 2,860    |   | $ | 3,692 |   |

 

United States revenuefrom foreign affiliates consists of net intercompany sales and services fromthe United States to the Company’s foreign subsidiaries and is eliminated fromconsolidated net revenue.  Intercompanysales are based on current selling prices or list prices less discounts.  Discounts typically are influenced bycompetitive pricing, market conditions and relative foreign exchange rates.

 

53

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# **NOTE11 - BUSINESS SEGMENT INFORMATION**

# ** **

The Company evaluatesperformance of each segment based on operating income for fiscal years endingDecember 31, 2001, 2002, and 2003.

** **

**Year Ending December 31,*(inthousands)***

 

|                  |   |            |   |                         |       |      |       |
|-----------------------|--------|-----------------|--------|------------------------------|------------|-----------|------------|
| **2003:**             |   |            |   |                         |       |      |       |
|                  |   | **Hospitality** |   | **Discontinued  Operations** |       | **Total** |       |
| Revenues from:        |   |            |   |                         |       |      |       |
| Hardware              |   | $485            |   | $—                      |       | $485      |       |
| Software              |   | 3,855           |   | —                       |       | 3,855     |       |
| Professional Services |   | 15,006          |   | —                       |       | 15,006    |       |
| Total Revenues        |   | 19,346          |   | —                       |       | 19,346    |       |
| Operating Income      |   | 1,602           |   | —                       |       | 1,602     |       |
|                  |   |            |   |                         |       |      |       |
| Total Assets          |   | 6,530           |   | —                       |       | 6,530     |       |
|                  |   |            |   |                         |       |      |       |
| **2002:**             |   |            |   |                         |       |      |       |
|                  |   | **Hospitality** |   | **Discontinued  Operations** | ** ** | **Total** | ** ** |
| Revenues from:        |   |            |   |                         |       |      |       |
| Hardware              |   | $996            |   | $—                      |       | $996      |       |
| Software              |   | 4,585           |   | —                       |       | 4,585     |       |
| Professional Services |   | 16,356          |   | —                       |       | 16,356    |       |
| Total Revenues        |   | 21,937          |   | —                       |       | 21,937    |       |
| Operating Income      |   | 2,001           |   | —                       |       | 2,001     |       |
|                  |   |            |   |                         |       |      |       |
| Total Assets          |   | 6,177           |   | —                       |       | 6,177     |       |
|                  |   |            |   |                         |       |      |       |
| **2001:**             |   |            |   |                         |       |      |       |
|                  |   | **Hospitality** |   | **Discontinued  Operations** | ** ** | **Total** | ** ** |
| Revenues from:        |   |            |   |                         |       |      |       |
| Hardware              |   | $789            |   | $—                      |       | $789      |       |
| Software              |   | 5,329           |   | —                       |       | 5,329     |       |
| Professional Services |   | 17,650          |   | —                       |       | 17,650    |       |
| Total Revenues        |   | 23,768          |   | —                       |       | 23,768    |       |
| Operating Income      |   | 5,361           |   | —                       |       | 5,361     |       |
|                  |   |            |   |                         |       |      |       |
| Total Assets          |   | 7,471           |   | 817                          |       | 8,288     |       |

** **

**Customers**

 

During 2001, 2002 and2003, the Joint Armed Services was the only customer accounting for ten percentor more of our revenues. Total revenue from the Joint Armed Services for 2001,2002 and 2003 was $2,937,000, $2,880,000 and $3,535,000, respectively.

 

**NOTE 12 - STOCKHOLDERS’ DEFICIENCY**

 

**StockOption Plans**

 

The Company adopted theMAI Systems Corporation 1993 Stock Option Plan (the “1993 Plan”) which becameeffective on January 27, 1994. Under the 1993 Plan, 2,500,000 authorized shares of Common Stock arereserved for issuance of options. Options under the 1993 Plan may be granted atexercise prices determined by the Compensation Committee of the Board ofDirectors, provided that the exercise prices shall not be less than the fairmarket value of the Common Stock on the date of grant.  At December 31, 2003, 1,691,500 and1,291,833 options under the 1993 Plan were outstanding and exercisable,respectively, and the weighted-average exercise price of these options was$1.28.

 

In July 1995, the Boardof Directors adopted the Non-Employee Director’s Stock Option Plan (the“Director’s Plan”).

 

54

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Under the Director’sPlan, certain directors who are not employees of the Company or any affiliateof the Company are eligible to receive stock options.  The Director’s Plan provides that each non-employee director isalso granted an option to purchase 6,250 shares of Common Stock on the date ofeach annual meeting of the Company’s stockholders at which the director isreelected to the Company’s Board.  Theseoptions vest 25% on the date of each subsequent annual meeting of the Company’sstockholders which the director is reelected to the Board.  The number of shares of Common Stockreserved for issuance pursuant to the Director’s Plan is 250,000 shares.  The exercise price shall not be lower thanthe fair market value of the Common Stock on the date of grant.  As of December 31, 2003, 137,500 and 96,875options under the Director’s Plan were outstanding and exercisable,respectively, and the weighted-average exercise price of these options was$2.11.

 

At December 31, 2003,there were 394,147 additional shares available for grant under the stock optionplans.  The per share weighted-averagefair value of stock options granted during 2001 and 2002 and was $0.32 and$0.22, respectively, on the date of grant using the Black-Scholesoption-pricing model with the following weighted-average assumptions: 2001 and2002– risk-free interest rate of 6.5%, volatility of 80% and an expected lifeof 5 years.

 

On April 26, 2002,the Company granted 424,500 options to purchase shares of the Company’s commonstock to employees for services rendered. The exercise price of the options is $0.34 per share. The options vest33.3% per year and have a term of 10 years. The Company recorded no expense related to the granting of options tothese employees.

 

On June 24, 2002,the Company granted 50,000 options to purchase shares of the Company’s commonstock to an employee for services rendered. The exercise price of the options is $0.32 per share. The options vest33.3% per year and have a term of 10 years. The Company recorded no expenserelated to the granting of options to this employee.

 

On June 3, 2002,the Company granted 25,000 options to purchase shares of the Company’s commonstock to members of the board of directors for services rendered.  The exercise price of the options is $0.32per share. The options vest 33.3% per year and have a term of 10 years. TheCompany recorded no expense related to the granting of options to the member’sof the board of directors.

 

The Company accounts forstock-based compensation utilizing the intrinsic value method in accordancewith the provisions of Accounting Principles Board Opinion No. 25 (APB 25)“Accounting for Stock Issued to Employees” and related interpretations.  Accordingly, no compensation expense isrecognized for fixed option plans because the exercise prices of employee stockoptions equaled or exceeded the market prices of the underlying stock on thedates of grant.

 

The following is asummary of stock option activity under the Company’s stock option plans:

 

|                                     |   | **Number of  shares** |      | **Weighted-average  Exercise price** |   |
|------------------------------------------|--------|-----------------------|-----------|--------------------------------------|--------|
|                                     |   |                  |      |                                 |   |
| Options outstanding at December 31, 2000 |   | 1,429,501             |      | $                                    | 1.99   |   |
|                                     |   |                  |      |                                 |   |
| Granted                                  |   | 396,250               |      | 0.32                                 |   |
| Canceled                                 |   | (155,084              | )         | 2.20                                 |   |
| Options outstanding at December 31, 2001 |   | 1,670,667             |      | $                                    | 1.58   |   |
|                                     |   |                  |      |                                 |   |
| Granted                                  |   | 499,500               |      | 0.34                                 |   |
| Exercised                                |   | (107,167              | )         | —                               |   |
| Canceled                                 |   | (41,250               | )         | 0.67                                 |   |
| Options outstanding at December 31, 2002 |   | 2,021,750             |      | $                                    | 0.79   |   |
|                                     |   |                  |      |                                 |   |
| Canceled                                 |   | (192,750              | )         | 2.28                                 |   |
| Options outstanding at December 31, 2003 |   | $                     | 1,829,000 |                                 | $      | 1.10 |   |
|                                          |        |                       |           |                                      |        |  |  |

 

55

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At December 31, 2003, theexercise prices ranged from $0.28 to $9.75 per share and the weighted-averageremaining contractual life of outstanding options under the Company’s stock optionplans was 6.9 years.

 

The following is asummary of stock options as of December 31, 2003:

 
| **Range  Exercise Prices**                        |   | **Number  Outstanding  December 31, 2003** |       | **Weighted  Average  Remaining  Contractual Life** |       | **Weighted  Average  Exercise Price** |       | **Number  Exercisable  December 31, 2003** |       |
|---------------------------------------------------|--------|--------------------------------------------|------------|----------------------------------------------------|------------|---------------------------------------|------------|--------------------------------------------|------------|
|                                              |   |                                       | ** ** |                                               | ** ** |                                  | ** ** |                                       | ** ** |
| $  0.28   -   $0.63 |   | 1,152,250                                  |       | $                                                  | 7.51       |                                  | $          | 3.01                                       |       | 718,208 |   |
| 1.00   -   1.65     |   | 131,250                                    |       | 4.54                                               |       | 0.97                                  |       | 131,250                                    |       |
| 2.38   -   2.81     |   | 487,500                                    |       | 4.91                                               |       | 0.38                                  |       | 487,500                                    |       |
| 3.25   -   9.75     |   | 58,000                                     |       | 3.92                                               |       | 0.27                                  |       | 51,750                                     |       |
|                                                   |        |                                            |            |                                                    |            |                                       |            |                                            |            |  |  |

** **

**Restricted Stock Plan**

 

In May 2001, the Board ofDirectors adopted the 2001 Restricted Stock Plan.  Under the plan, 1,250,000 authorized shares of the Company’sCommon Stock are reserved for issuance to officers and directors of the Company.  The shares will be issued as “RestrictedStock” within the meaning of Rule 144 of the Securities Act of 1933, asamended.  The Compensation Committee ofthe Board of Directors shall have the discretion to determine what terms andconditions shall apply, including the imposition of a vesting schedule.

 

In May 2002, the Companyissued 612,500 shares of restricted common stock to its members of the board ofdirectors and certain of its corporate officers which vest equally over afour-year period.  Recipients are notrequired to provide consideration to the Company other than rendering theservice and have the right to vote the shares. Under APB 25, compensation cost is recognized for the fair value of therestricted stock awarded, which is its quoted market price at the date ofgrant, which was $0.25 per share.  Thetotal market value of the shares of $153,000 was treated as unearnedcompensation and is being amortized to expense in proportion to the vestingschedule.  The unamortized balance as ofDecember 31, 2003 is $53,000 and is included in accumulated other comprehensiveloss in the accompanying consolidated balance sheet.

 

**PreferredStock**

 

On May 20, 1997, theCompany authorized the issuance of up to 1,000,000 shares of $0.01 par valuepreferred stock.  The Board of Directorshas the authority to issue the preferred stock, in one or more series, and tofix the rights, preferences, privileges and restrictions thereof without anyfurther vote by the holders of Common Stock.

 

**Stock Warrants**

 

On January 13, 2003, inconnection with the modification of the subordinated notes payable with Canyon(see note 7), the Company granted one million warrants to Canyon at an exerciseprice of $0.40 per share valued at $42,000 which is being amortized to interestexpense over the term of the modified note. The warrants vest equally over a period of five years and expire onFebruary 1, 2010.

 

On April 26, 2002, theCompany granted 25,000 warrants to purchase shares of the Company’s commonstock to a consultant for services rendered. The exercise price of the warrants is $0.34 per share.  The warrants vest equally over a  three-year period and have a term of 10years. The Company recorded no expense related to the granting of warrants tothis consultant.

 

On February 2, 2001, theCompany granted 25,000 warrants to purchase shares of the Company’s commonstock to a consultant for services rendered. The exercise price of the warrants is $0.36 per share.  The warrants vest equally over a three-yearperiod and have a term of 10 years. The Company recorded no expense related tothe granting of warrants to this consultant.

 

On May 26, 2000, theCompany issued warrants to its Chief Executive Officer to purchase 225,000shares of Common Stock at $0.56 per share. The exercise price of these warrants will increase with the fair marketvalue of Common Stock when the fair market value exceeds $2.81 per share.  As the exercise price is not fixed, thewarrants are accounted for as a variable award and, accordingly, are remeasuredat each reporting date.  The warrantsvest equally over a three-year period and expire on March 24, 2010.

 

56

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# **NOTE 13 - EMPLOYEE BENEFITS**

# ** **

**SavingsPlans**

 

On October 1, 1995, theCompany established a Savings and Investment Plan covering substantially allthe Company’s domestic employees (the “Domestic Plan”).  The Domestic Plan qualifies under Sections401(k) and 401(a) of the Internal Revenue Code.  Participating employees are allowed to contribute from 1% to 15%of their annual compensation.  During2001, 2002 and 2003, the Company did not make contributions to the DomesticPlan.

 

**DefinedBenefit Plans**

 

The Company established adefined benefit plan for employees that were employed by the Company’smaintenance service business acquired in 1988.

 

In April 1992, theCompany elected to cease benefit accruals under the defined benefit plan tocurrent participants.  The curtailmenthad no effect on the accrued pension cost of the defined benefit plan.

 

Company contributionsunder this plan are funded annually. Plan assets are comprised primarily of guaranteed investment/annuitycontracts.  Employee benefits are basedon years of service and the employees’ compensation during their employment.

 

The actuarially computedcomponents of net periodic benefit cost included the following components:

 

 

|                              |   | **Year Ended  December 31,** |   |
|-----------------------------------|--------|------------------------------|--------|
|                              |   | **(in thousands)**           |   |
|                              |   | **2001**                     |   | **2002** |   | **2003** |   |
|                              |   |                         |   |   |   |   |   |
| Service costs                     |   | $—                      |   | $— |   | $— |   |
| Interest costs                    |   | 137                          |   | 142 |   | 143 |   |
| Amortization of unrecognized loss |   | —                       |   | 16 |   | 38 |   |
| Expected return on plan assets    |   | (122                         | )      | (107 | ) | (100 | ) |
|                              |   |                         |   |   |   |   |   |
| Net periodic pension expense      |   | $15                          |   | $51 |   | $81 |   |

 

57

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The following table setsforth the funded status and amounts recognized in the Company’s consolidatedstatements of operations:

 

|                                             |   | **Years  Ended December 31, ** |   |
|--------------------------------------------------|--------|-------------------------------------|--------|
|                                             |   | **(in thousands)**                  |   |
| **Change in Benefit Obligation:**                |   | **2001**                            |   | **2002** |   | **2003** |   |
|                                             |   |                                |   |   |   |   |   |
| Projected Benefit Obligation, beginning of  year |   | $                                   | 1,859  |   | $ | 1,993 |   | $ | 2,154 |   |
| Service cost                                     |   | —                              |   | — |   | — |   |
| Interest cost                                    |   | 137                                 |   | 142 |   | 143 |   |
| Benefits paid                                    |   | (69                                 | )      | (79 | ) | (83 | ) |
| Actuarial loss/(gain)                            |   | 66                                  |   | 98 |   | 117 |   |
|                                             |   |                                |   |   |   |   |   |
| Projected Benefit Obligation, end of year        |   | $                                   | 1,993  |   | $ | 2,154 |   | $ | 2,331 |   |
|                                             |   |                                |   |   |   |   |   |
| Change in Plan Assets:                           |   |                                |   |   |   |   |   |
|                                             |   |                                |   |   |   |   |   |
| Plan assets, beginning of year                   |   | $                                   | 1,736  |   | $ | 1,531 |   | $ | 1,236 |   |
| Actual return on plan assets                     |   | (190                                | )      | (279 | ) | 182 |   |
| Employer contribution                            |   | 54                                  |   | 63 |   | 350 |   |
| Benefits paid                                    |   | (69                                 | )      | (79 | ) | (83 | ) |
|                                             |   |                                |   |   |   |   |   |
| Plan assets, end of year                         |   | $                                   | 1,531  |   | $ | 1,236 |   | $ | 1,685 |   |
|                                             |   |                                |   |   |   |   |   |
| Unfunded status                                  |   | $                                   | (461   | ) | $ | (918 | ) | $ | (646 | ) |
| Unrecognized (gain)/loss                         |   | 538                                 |   | 1,008 |   | 1,005 |   |
|                                             |   |                                |   |   |   |   |   |
| Net amount recognized                            |   | $                                   | 77     |   | $ | 90 |   | $ | 359 |   |

 

The weighted averagediscount rates used in determining the actuarial present value of the benefitobligations were 7.25%, 6.75%, and 6.25% for 2001, 2002 and 2003,respectively.  The long-term rate ofreturn on assets was 7%, 7%, and 8% for 2001, 2002 and 2003, respectively.

 

The following tabledescribes the plan asset descriptions and allocation of investment funds:

* *

|                        |   |                   |   | **Percentage  of Plan Assets at  December 31,** |   |
|-----------------------------|--------|------------------------|--------|-------------------------------------------------|--------|
| **Asset Category**          |   | **Target  Allocation** |   | **2002**                                        |   | **2003** |   |
|                        |   |                   |   |                                            |   |   |   |
| a.   Equity Securities |   | 55.0                   | %      | 50.0                                            | %      | 56.0 | % |
| b.   Bond Fund         |   | 45.0                   | %      | 50.0                                            | %      | 44.0 | % |
|                        |   |                   |   |                                            |   |   |   |
| e.   Total             |   | 100.0                  | %      | 100.0                                           | %      | 100.0 | % |

 

 

The policy, asestablished by the Pension Finance Committee, is to provide for growth ofcapital with a moderate level of volatility by investing assets per the targetallocations stated above.  The assetswill be reallocated quarterly to meet the above target allocations.  The investment policy will be reviewed on aquarterly basis, under the advisement of a certified investment advisor, todetermine if the policy should be changed.

 

The expected long-termrate of return for the plan’s total assets is based on the expected return ofeach of the above categories, weighted based on the median of the targetallocation for each class.  Equitysecurities are expected to return 10% to 11% over the long-term, while bondfunds are expected to return between 4% and 6%.  Based on historical experience, the Committee expects that thePlan’s asset managers will provide a modest (.5% to 1.0% per annum) premium totheir respective market benchmark indices.

 

58

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# **NOTE 14 - COMMITMENTS AND CONTINGENCIES**

# ** **

**Leases**

 

The Company leasescertain facilities and equipment, under both month-to-month and fixed-termagreements.  The aggregate minimumrentals under operating leases with non-cancelable terms of one year or moreare as follows:

 

| **Year Ending December 31,** |   |   |   |
|------------------------------|--------|--------|--------|
| **(in  thousands)**          |   |   |   |
| 2004                         |   | $      | 598    |   |
| 2005                         |   | 569    |   |
| 2006                         |   | 487    |   |
| 2007                         |   | 94     |   |
| 2008                         |   | 64     |   |
| Thereafter                   |   | 69     |   |
|                         |   | $      | 1,881  |   |

 

Rental expense wasapproximately $ 1,146,000, $953,000 and $755,000 for the years ended December31, 2001, 2002, and 2003, respectively.

 

**LegalProceedings**

 

### *InternalRevenue Service*

 

On September 30, 2003,the Company entered into a settlement agreement with the United States InternalRevenue Service (the “Service”) on a tax claim which resulted from the Company’sChapter 11 proceedings whereby it agreed to pay $489,000 in equal monthlyinstallments of $7,438 over a period of six (6) years at an interest rate of6%.  The $489,000 settlement isreflected as debt in the financial statements and resulted in a one-time gainof $262,000 which is included in  incometax benefit. In the event that the Company fails to pay the Service anypayment, and such payment failure continues for sixty days after written noticeof such failure, $1,832,100, plus accrued interest thereon, less any paymentsmade by the Company will be immediately due and payable to the Service.  As of December 31, 2003, the company iscurrent on its payments and the balance outstanding on the settlement was $428,000.

 

### *CSA PrivateLimited*

### * *

CSA is a MAIshareholder.  On August 9, 1996, MAIacquired from Hotel Information Systems, Inc. (“HIS”) substantially all theirassets and certain of their liabilities (the “HIS Acquisition”).  At the time of MAI’s acquisition of HIS in1996, CSA was a shareholder of HIS and, in connection with the purchase, MAIagreed to issue to CSA shares of its Common Stock worth approximately $4.8million in August 1996, which amount had increased to approximately $6.8million as of December 31, 2000, pursuant to the agreement. The Company enteredinto a settlement agreement with CSA in February, 2001 whereby it (i) issuedCSA 1,916,014 additional shares of our Common Stock to bring CSA’s total shareownership to 2,433,333 shares; (ii) filed a registration statement for all of CSA’sshares of our Common Stock which has been declared effective by the SEC so thatsuch shares are now freely tradable; and (iii) executed a secured debtinstrument in favor of CSA in the principal sum of $2,800,000 which issubordinate only to the Company’s present group of two (2) senior securedleaders and required cash installment payments to commence in March 2002 (seenote 7).

 

In connection with thesettlement agreement with CSA, the Company recorded the $2.8 million debtissuance as a reduction in paid in capital and the 1,916,014 additional sharesat par as an addition to Common Stock and a reduction to additional paid incapital.

 

### *HotelInformation Systems, Inc.*

### * *

On March 25, 2003, theCompany entered into a settlement agreement with Hotel Information Systems(“HIS”) and one of its former corporate officers whereby (i) the partiesdismissed all claims, known and unknown, against each other; (ii) the Companyforgave and wrote off a note receivable from the former corporate officer ofHIS in the amount of $66,000 (which was expensed to other expense in the 2002consolidated statement of operations); (iii) the Company paid $50,000 in cashand issued a non-interest bearing unsecured promissory note which requires 35consecutive monthly payments of $5,000 each commencing April 1, 2003; and (iv)the remaining 374,116 shares in the escrow account will be released to theCompany.  If the Company is delinquentfour times in any twelve month period during the term of the unsecuredpromissory note in making its $5,000 monthly payments to HIS, and HIS issuesrespective valid default notices, the Company will be subject to a $225,000penalty.  The 374,116 shares have beenreceived by MAI together with the HIS authorization to legally transfer suchshares to MAI.

 

59

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### *Imputing interest at 11%, the present value of the $175,000 promissorynote at the date of the settlement was $149,000.  The Company recorded the present value of this debt issuance andthe $50,000 cash payment as a reduction to additional paid-in capital.*

### * *

### *Cher-AeHeights Indian Community*

### * *

A lawsuit was filed byCher-Ae Heights Indian Community (“Cher-Ae Heights”) against Logix DevelopmentCorporation (Logix), now known as MAI Development Corporation, as aco-defendant for a breach of contract by the Company’s formerly owned gamingsubsidiary along with the new owners, Monaco Informatiques Systemes (“MIS”),who acquired the assets and certain liabilities of the gaming subsidiary onJuly 27, 2001. Based upon this suit, MIS informed the Company that it did notintend to pay the next $500,000 due to the Company under a promissory note andsecurity agreement.  On October 24,2002, the Company entered into a global settlement agreement between theparties whereby all claims, known and unknown, between the parties weredismissed and the Company received $796,000.

 

### *LogixDevelopment Corporation*

### * *

We entered into asettlement agreement with Logix Development Corporation (“Logix”) in July of2002 whereby we (i) issued Logix 200,000 shares of our Common Stock (ii)required the Company to make various cash installment payments totaling$175,000 to be paid within 1 year and (iii) executed a contract with Logix fora consulting project in the amount of $50,000.

 

In December 2003, weentered into another settlement agreement with Logix whereby we (i) issued200,000 free trading shares in exchange for the 200,000 restricted CommonShares from the original settlement agreement in July 2002 (ii) required theCompany to make monthly payments totaling $187,500 over a 25 month period and(iii) mutually released each other of all past, present and future claimsassociated with the lawsuit.

 

### *OtherLitigation*

### * *

We were also involved invarious other legal proceedings that are incident to its business. Managementbelieves the ultimate outcome of these matters will not have a material adverseeffect on our consolidated financial position, results of operations orliquidity.

 

**RelatedParty Transactions**

 

Under the terms of aconsulting agreement, and subsequent amendments (which expired on August 31,2003 but which is automatically renewed each year unless proper notice is givenbetween either party), between Orchard Capital Corporation (“Orchard”) and theCompany, Orchard provides the services of Richard S. Ressler as the Company’sChairman. Orchard is paid a consulting fee of $24,000 per month.  The consulting agreement was renewed throughAugust 31, 2004, and the consulting fee was modified to $12,000 per month.

 

The Company executed a consultingagreement with a member of its Board of Directors, Zohar Loshitzer, for thepurpose of providing technology advisory services for the Company at itsProcess Manufacturing Division.  Theconsulting agreement commenced in August 2000 and was on a month-to-month basisat the rate of $16,667 per month.  TheCompany paid Mr. Loshitzer approximately $161,000 in 2001.  As of December 31, 2001 Mr. Loshitzer hadcompleted his services on behalf of the Company.

 

At December 31, 2001, theCompany was indebted to its Chief Financial Officer for $94,000 forunreimbursed Company related expenses paid by the Chief Financial Officer onthe Company’s behalf.  These expensesmainly relate to the travel costs for the Company’s professional servicepersonnel and were fully paid in 2002. There were no unreimbursed Company related expenses owed to the ourChief Financial Officer in 2003.

 

60

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**NOTE 15 - INCOME (LOSS) PER SHARE**

 

The following tableillustrates the computation of basic and diluted income (loss) per share underthe provisions of  SFAS No. 128.

 
|                                                                                                                          |   | **Year  Ending December 31,** |   |
|-------------------------------------------------------------------------------------------------------------------------------|--------|-------------------------------|--------|
|                                                                                                                          |   | **(in thousands)**            |   |
|                                                                                                                          |   | **2001**                      |   | **2002** |   | **2003** |   |
| Numerator:                                                                                                                    |   |                          |   |   |   |   |   |
| Numerator for basic and diluted income  (loss) per share – net income (loss)                                             |   | $                             | 2,132  |   | $ | (1,350 | ) | $ | 353 |   |
|                                                                                                                          |   |                          |   |   |   |   |   |
| Denominator:                                                                                                                  |   |                          |   |   |   |   |   |
| Denominator for basic income (loss) per  share – weighted average number of common shares outstanding during the  period |   | 13,091                        |   | 13,945 |   | 14,538 |   |
|                                                                                                                          |   |                          |   |   |   |   |   |
| Incremental common shares attributable to  restricted stock grants and to the exercise of outstanding options and  warrants   |   | 172                           |   | — |   | 300 |   |
|                                                                                                                          |   |                          |   |   |   |   |   |
| Denominator for diluted income (loss) per  share                                                                              |   | 13,263                        |   | 13,945 |   | 14,838 |   |
|                                                                                                                          |   |                          |   |   |   |   |   |
| Basic income (loss) per share                                                                                                 |   | $                             | 0.16   |   | $ | (0.10 | ) | $ | 0.02 |   |
|                                                                                                                          |   |                          |   |   |   |   |   |
| Diluted income (loss) per share                                                                                               |   | $                             | 0.16   |   | $ | (0.10 | ) | $ | 0.02 |   |

 

The computation does notconsider the additional shares of Common Stock, which may be issued inconnection with past acquisitions (see Note 5).  The number of antidilutive options and warrants that wereexcluded from the computation of incremental common shares were 1,648,272,2,676,355 and 3,104,000 in 2001, 2002 and 2003, respectively.

 

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**NOTE 16 – QUARTERLY RESULTS OFOPERATIONS (Unaudited)**

 

***(in millions, except share data)***

*** ***
|                                                                                        |   | **1st  Quarter  2002** |   | **2ndQuarter  2002** |   | **3rdQuarter  2002** |   | **4thQuarter  2002** |   | **1stQuarter  2003** |   | **2ndQuarter  2003** |   | **3rdQuarter  2003** |   | **4thQuarter  2003** |   |
|---------------------------------------------------------------------------------------------|--------|------------------------|--------|----------------------|--------|----------------------|--------|----------------------|--------|----------------------|--------|----------------------|--------|----------------------|--------|----------------------|--------|
|                                                                                        |   |                   |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |
| Revenue                                                                                     |   | $                      | 5.7    |                 | $      | 5.5                  |   | $                    | 5.7    |                 | $      | 5.0                  |   | $                    | 5.2    |                 | $      | 4.8 |   | $ | 4.8 |   | $ | 4.6 |   |
| Gross Profit                                                                                |   | 3.8                    |   | 3.7                  |   | 3.9                  |   | 3.7                  |   | 3.7                  |   | 3.5                  |   | 3.5                  |   | 3.1                  |   |
| Income (loss) fromcontinuing operations                                                     |   | 0.2                    |   | 0.3                  |   | 0.1                  |   | (0.2                 | )      | 0.3                  |   | (0.1                 | )      | 0.1                  |   | 0.1                  |   |
| Income (loss) from discontinued operations                                                  |   | 0.1                    |   | 0.1                  |   | (0.2                 | )      | (1.7                 | )      | —               |   | —               |   | —               |   | —               |   |
| Net income (loss)                                                                           |   | 0.3                    |   | 0.3                  |   | (0.2                 | )      | (1.8                 | )      | 0.3                  |   | (0.1                 | )      | 0.1                  |   | 0.1                  |   |
|                                                                                        |   |                   |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |
| Income (loss) per share:                                                                    |   |                   |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |
| Continuing Operations:                                                                      |   |                   |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |
| Basic                                                                                       |   | $                      | 0.02   |                 | $      | 0.02                 |   | $                    | 0.00   |                 | $      | 0.01                 |   | $                    | 0.02   |                 | $      | (0.01 | ) | $ | 0.01 |   | $ | — |   |
| Diluted                                                                                     |   | 0.02                   |   | 0.02                 |   | 0.00                 |   | 0.01                 |   | 0.02                 |   | (0.01                | )      | 0.01                 |   | —               |   |
|                                                                                        |   |                   |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |
| Discontinued Operations:                                                                    |   |                   |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |
| Basic                                                                                       |   | 0.00                   |   | 0.01                 |   | (0.01                | )      | (0.12                | )      | —               |   | —               |   | —               |   | —               |   |
| Diluted                                                                                     |   | 0.00                   |   | 0.01                 |   | (0.01                | )      | (0.12                | )      | —               |   | —               |   | —               |   | —               |   |
|                                                                                        |   |                   |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |
| Income (loss) per share:                                                                    |   |                   |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |
| Basic                                                                                       |   | 0.02                   |   | 0.02                 |   | (0.01                | )      | (0.13                | )      | 0.02                 |   | (0.01                | )      | 0.01                 |   | —               |   |
| Diluted                                                                                     |   | 0.02                   |   | 0.02                 |   | (0.01                | )      | (0.13                | )      | 0.02                 |   | (0.01                | )      | 0.01                 |   | —               |   |
|                                                                                        |   |                   |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |
| Weighted average common shares used in  determining income (loss) per share (in thousands): |   |                   |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |
|                                                                                        |   |                   |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |
| Basic                                                                                       |   | 13,656                 |   | 13,852               |   | 14,119               |   | 14,154               |   | 14,426               |   | 14,426               |   | 14,575               |   | 14,575               |   |
|                                                                                        |   |                   |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |                 |   |
| Diluted                                                                                     |   | 13,663                 |   | 14,361               |   | 14,569               |   | 14,604               |   | 14,876               |   | 14,426               |   | 14,875               |   | 14,875               |   |

** **

**62**

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** **

**Schedule II**

** **

**Valuationand Qualifying Accounts**

** **

Years EndedDecember 31, 2001, 2002 and 2003

*(dollars in thousands*)

 
|                            |   | **Balance  Beginning  of Year** |   | **Charged to  Costs and  Expenses** |   | **Reductions  Due to Sale  of  Subsidiary** |   | **Write-offs** |   | **Balances  End of  Year** |   |
|---------------------------------|--------|---------------------------------|--------|-------------------------------------|--------|---------------------------------------------|--------|----------------|--------|----------------------------|--------|
|                            |   |                            |   |                                |   |                                        |   |           |   |                       |   |
| Year ended December 31, 2001:   |   |                            |   |                                |   |                                        |   |           |   |                       |   |
| Allowance for doubtful accounts |   | $                               | 1,148  |                                | $      | 47                                          |   | $              | — |                       | $      | (172 | ) | $ | 1,023 |   |
|                            |   |                            |   |                                |   |                                        |   |           |   |                       |   |
| Year ended December 31, 2002:   |   |                            |   |                                |   |                                        |   |           |   |                       |   |
| Allowance for doubtful accounts |   | $                               | 1,023  |                                | $      | 89                                          |   | $              | (103   | )                          | $      | (673 | ) | $ | 336 |   |
|                            |   |                            |   |                                |   |                                        |   |           |   |                       |   |
| Year ended December 31, 2003:   |   |                            |   |                                |   |                                        |   |           |   |                       |   |
| Allowance for doubtful accounts |   | $                               | 336    |                                | $      | 52                                          |   | $              | — |                       | $      | (53 | ) | $ | 335 |   |

 

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