##### Table of Contents




WATERSIDE CAPITAL CORPORATION





2002 Annual Report




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Table of ContentsLetter to Stockholders

1Five-Year Summary of SelectedFinancial Data

2Managements Discussion And Analysis

3Independent Auditors Report

10Financial Statements

11Corporate Information

28




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WATERSIDE CAPITAL CORPORATION





A Small Business
Investment Company





Letter to Stockholders





Fiscal 2002 was a very challenging year for the U.S. economy, for the venture capital industry and for our Company. It was a year of uncertainty with no precedents and significant adjustment.





Some of our portfolio companies reached significant milestones during the fiscal year. Others began generating positive cash flow during
the year. Most have undertaken pro-active changes to adapt to current economic conditions. We have remained in close contact with the management teams of our portfolio companies, offering support, advice and encouragement.





As our portfolio companies have adapted to the changing economic conditions, so have we. Our portfolio composition has moved more toward a mezzanine type fund
with subordinated debt instruments composing 31% of our portfolio for 2002 compared to 19% for 2001. We have continued to minimize operating expenses and are in compliance with the SBA guidelines for management expenses.





Subsequent to June 30, 2002, a settlement was reached in a specific litigation related to one investee company. Under the settlement agreement, the Company
expects to recover approximately $455,000 during the first quarter of fiscal 2003.





For fiscal 2003, we see more challenges and renewed
opportunities. We continue to evaluate potential investments at attractive valuations. The current economic conditions provide unique opportunities for well-managed venture capital firms with a clear strategic direction. We will stay the course with
quality-controlled growth and continued improvement in our operating efficiency.





With the proceeds received from the sales of
investments and principal collected on debt securities during fiscal 2002 we have improved our cash position significantly. At present, we have a pool of funds available to invest in new opportunities.





Our original business plan envisioned investments maturing in three to five years. We are beginning to see many of our investments reaching this stage of
maturity. We believe that our strategy is on course and we remain confident in the fundamental strength of your Company.





We are grateful
for the loyalty of our staff and their dedication to the achievement of our goals. On behalf of all directors, managers and employees, we thank you for your continued support.





LOGO


J. Alan Lindauer


President & CEO





300 East Main Street · Suite 1380 ·
Norfolk, Virginia 23510


(757) 626-1111 · (757) 626-0114 Fax · E-mail to waterside@watersidecapital.com


NASDAQ Symbol WSCC




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FIVE-YEAR SUMMARY OF SELECTED FINANCIAL DATA





Year Ended June 30,1998


1999


2000


2001


2002Summary of Earnings Information:Operating Income:Dividends

$
299,080


$
1,071,899


$
2,189,862


$
2,865,832


$
2,007,981Interest on debt securities


24,290



717,437



1,009,744



1,008,202



1,220,768Interest on cash equivalents


211,440



160,899



37,203



17,642



35,712Fee and other income


271,714



947,013



677,205



354,827



462,522Total operating income


806,524



2,897,238



3,914,014



4,246,503



3,726,983Operating expenses:Interest expense






417,605



1,224,066



1,956,330



2,087,323Other


635,519



1,387,525



1,645,318



1,625,941



1,509,832Net operating income before income taxes


171,005



1,092,108



1,044,630



664,232



129,828Income tax expense (benefit)


(47,220
)


51,000



(352,000
)


(675,000
)


Net operating income


218,225



1,041,108



1,396,630



1,339,232



129,828Realized gain on investments, net of incometaxes (1)






234,312



1,426,474



73,372



(3,213,047
)Change in unrealized appreciation (depreciation) on investments, net of income taxes (2)


325,110



(238,376
)


(1,514,791
)


(6,247,984
)


(237,934
)Net increase in stockholders equity resulting from operations

$
543,335


$
1,037,044


$
1,308,313


$
(4,835,380
)

$
(3,321,153
)Net operating income per sharebasic and diluted

$
0.22


$
0.66


$
0.88


$
0.85


$
0.08Net increase (decrease) in stockholders equity resulting from operations per sharebasic and
diluted

$
0.54


$
0.66


$
0.83


$
(3.06
)

$
(2.11
)Weighted average number of shares outstanding


1,013,094



1,581,430



1,581,430



1,581,430



1,576,306





At June 30,1998


1999

2000

2001

2002Balance Sheet Information:Investments in portfolio companies, at fairvalue (3):Equity securities

$
6,724,337


$
17,070,782

$
23,237,050

$
23,146,571

$
15,304,120Debt Securities


1,575,264



6,894,468


8,877,766


6,514,395


8,463,170Options and warrants


206,624



377,000


3,752,744


4,025,942


3,879,533Total Investments


8,506,225



24,342,250


35,867,560


33,686,908


27,646,823Cash and cash equivalents


4,393,501



1,269,409


118,314


1,089,386


5,417,202Total Assets


13,374,729



27,109,870


39,098,743


38,378,758


35,081,369Debentures payable






12,300,000


19,300,000


25,400,000


25,400,000Total stockholders equity


13,034,288
(4)


14,071,269


16,834,391


11,999,011


8,605,658


---

|(1) |  | Amount presented net of income tax expense of $144,000 for 1999, $873,000 for 2000, $40,000 for 2001 and $0 for 2002.
|--- |  | ---------------------------------------------------------------------------------------------------------------------

|(2) |  | Amounts have been presented net of deferred income tax expense (benefit) of $198,920, ($145,000), ($926,000), $191,000 and $550,000 respectively, for the years
ended June 30, 1998, 1999, 2000, 2001 and 2002.
|--- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(3) |  | The Companys portfolio investments are presented at fair value, as determined by the Executive Committee of the Board of Directors, using the Model
Valuation Policy as published by the Small Business Administration (SBA). The valuation policy includes estimates made by management in the absence of readily ascertainable market values. These estimated values may differ from those that would have
been used had a ready market for the securities existed See the Notes to the Companys Financial Statements included elsewhere herein. The cost of the portfolio investments was $7,640,893, $23,860,295, $37,826,396, $41,702,728 and $35,349,098
at June 30, 1998, 1999, 2000, 2001 and 2002 respectively.
|--- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(4) |  | In January 1998, the Company completed an initial public offering of 852,000 shares of common stock at $11 per share. The net proceeds for the offering after
$1,288,464 of expenses, were $8,083,536.
|--- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL  CONDITION AND RESULTS OF OPERATIONS





The following analysis of the financial condition and results of operations of the Company should be read in conjunction with the Companys fiscal year 2002 financial statements and the notes thereto and the other information
included elsewhere in this report.





General





Waterside Capital Corporation (Waterside or the Company) is a specialty finance company headquartered in Norfolk, Virginia. The Company invests in
equity and debt securities to finance the growth, expansion and modernization of small private businesses, primarily in the Mid-Atlantic Region. The Company was formed in 1993 as the Eastern Virginia Small Business Investment Corporation. Through
June 30, 1996, the Company operated as a development stage company focused primarily on preparation to commence operation. The Company was licensed in 1996 by the Small Business Administration (SBA) as a Small Business Investment Company (SBIC)
under the Small Business Investment Act of 1958. In October 1996, the Company made its first portfolio investment. In January 1998, the Company completed its Initial Public Offering (IPO) to raise additional equity to support its growth strategy.





The majority of the Companys operating income is derived from dividend and interest income on portfolio
investments and application and processing fees related to investment originations. The remaining portion of the Companys operating income comes from interest earned on cash equivalents. The Companys operating expenses primarily consist
of payroll, interest expense on SBA debentures and the Companys lines of credit and other expenses incidental to the Companys operations. Waterside currently has 6 full time employees.





Portfolio Composition





The Companys primary business is investing in and lending to privately owned businesses through investments in subordinated debt, preferred stock and common stock. Substantially all of the Companys investments in
subordinated debt securities and preferred stock also include detachable warrants or conversion features. The portfolio composition at June 30, 2002 and 2001 is shown in the following table:





June 30,


June 30,2001


2002


2001


2002Subordinated Debt

27.0
%

34.9
%

19.3
%

30.6
%Preferred Stock

59.2


54.7


66.6


50.9Common Equity

10.4


7.2


12.0


14.0Warrants and Options

3.4


3.2


2.1


4.5Total

100.0
%

100.0
%

100.0
%

100.0
%





The weighted effective yield on the investment portfolio was 7.27%
at June 30, 2002 and 9.31% at June 30, 2001.





The following tables show the Portfolio Composition by geographic
region and industry grouping:





Geographic Region

2001


2002


2001


2002Mid Atlantic

59.8
%

54.1
%

68.6
%

60.6
%Southeast

12.8


8.5


0.3


Midwest

10.7


13.0


12.6


16.2Northeast

12.2


13.9


12.9


16.9West

4.5


10.5


5.6


6.3Total

100.0
%

100.0
%

100.0
%

100.0
%




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Cost


Fair ValueJune 30,


June 30,Industry Grouping

2001


2002


2001


2002Service

30.4
%

15.7
%

23.4
%

20.1
%Manufacturing

26.7


29.4


29.9


38.4Telecommunications

17.7


20.5


19.1


17.7Information technology

12.9


15.6


11.5


7.2Education

4.0


1.2


5.0


1.5Other

8.3


17.6


11.1


15.1Total

100.0
%

100.0
%

100.0
%

100.0
%





Results of Operations





2002 Compared to 2001





For the year ended June 30, 2002 total operating income was $3.7 million compared to the $4.2 million generated during 2001. The decrease in operating income is primarily due to managements decision to discontinue the accrual
of dividend income on an increased number of investments due to the uncertainty of collection of the income. This decrease was partially off-set by an increase in interest income due to an increase in the Companys investments in debt
securities. Additionally, the Company realized additional fee income due primarily to the final resolution of a non-compete agreement related to a former investee. The 2002 operating income consisted of dividends of $2.0 million, interest on debt
securities of $1.2 million, interest on cash equivalents of $35,000 and fee and other income of $463,000.





Total
operating expenses for the year ending June 30, 2002 were $3,597,000 compared to $3,582,000 for the year ended June 30, 2001. The expenses for the year ended June 30, 2002, consisted of interest expense of $2,087,000, salaries and benefits of
$690,000, legal and accounting expenses of $508,000 and other operating expenses of $312,000. The expenses for the year ended June 30, 2001 consisted of interest expense of $1,956,000, salaries and benefits of $903,000, legal and accounting expenses
of $339,000 and other operating expenses of $384,000. The significant decrease in salaries and benefits and other operating expenses when comparing 2002 to 2001 is due to a combination of a reduction in the number of employees and reduced travel
expense. As an SBIC, the Company is regulated by the SBA and must operate within certain prescribed expense guidelines. At June 30, 2002, the Company is in compliance with the SBA guidelines for management expense. The significant increase in legal
and accounting expense is due to increased legal costs associated with a collection effort on two investments previously written off. Subsequent to June 30, 2002, a settlement was reached in specific litigation related to one investee company. Under
the settlement, the Company expects to recover $455,000 related to this litigation during the first quarter of fiscal 2003.





Net operating income for fiscal 2002 was $130,000 compared to $1,339,000 for fiscal 2001. The Company recognized $675,000 in income tax benefits for fiscal 2001. During the year ended June 30, 2002, the Company ceased recognizing
deferred tax benefits associated with the generation of net operating losses from operations and its realized losses because management concluded that it is not more likely than not that those benefits could be realized. Because the Company operates
as a licensed SBIC, its dividend income is not taxable. As a result, it is unlikely that the Company will generate taxable income in the foreseeable future. Unless the Company is able to generate significant realized gains on sales of investments,
the benefits of tax losses from operations and any realized losses from settlement of investments are not likely to be realized. As a result, the Company has provided a valuation allowance for the full amount of its deferred tax asset at June 30,
2002.





For the year ended June 30, 2002, the Company realized a loss on investments of $3.2 million due primarily
to the realization of the previously recorded unrealized loss related to Tanget Solutions, Inc. (formerly named Electronic Business Systems, Inc. and Triangle Image Group Inc) of $2.3 million coupled with the realization of a loss of $2.3 million of
the previously recorded unrealized loss on Extraction Technologies, Inc. These losses were partially offset by a realized gain of $1.1 million on the sale of the Delta Education Systems investment. The Company also realized numerous other smaller
gains and losses during the year ending June 30, 2002.





The change in unrealized depreciation on investments, net
of income tax benefit, for the year ended June 30, 2002 of $238,000 consisted of unrealized losses of $1.9 million related to the Digital Square Inc. investment, $1.0 million related to




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the Eton Court investment, $2.1 million related to the JMS Worldwide Inc investment and $959,000 related to the Phoenix Fabrications Inc. investment. These losses were partially offset by the
reclassification of realized depreciation related to Tanget Solutions, Inc. and Extraction Technologies, Inc. of $4.6 million to realized losses. Management is pursuing recovery of the various write downs through all available channels, including
restructuring and litigation where appropriate. The potential for recovery is uncertain at this time due to the current economic environment.





The net decrease in stockholders equity resulting from operations of $3,321,000 for the year ended June 30, 2002 or $2.11 per share compared to a decrease of $4,835, 000 or $3.06 per share for
the year ended June 30, 2001.





2001 Compared to 2000





For the year ended June 30, 2001, total operating income was $4.2 million compared to the $3.9 million generated during 2000. The increase in operating income was due to
the increased dividends as a result of the growth in the Companys investment portfolio during the prior period. This increase was partially offset by a decrease in fee and other income resulting from less investment origination in 2001 than
2000. The 2001 operating income consisted of dividends of $2.9 million, interest on debt securities of $1.0 million, fee and other income of $355,000 and interest on cash equivalents of $18,000.





Total operating expenses for the year ended June 30, 2001 were $3.6 million, an increase of $713,000 from the $2.9 million for fiscal 2000. The majority of the
increase was attributable to increased interest expense due to additional borrowings necessary to fund the growth in the investment portfolio. The Company also experienced a significant increase in legal expenses from $96,000 reported in fiscal 2000
to the $274,000 reported for fiscal 2001. The significant increase in legal expense was due to the additional costs associated with the collection efforts related to various portfolio companies experiencing deteriorating financial condition, two of
which filed for bankruptcy protection under Chapter 11 of the U.S. Bankruptcy Code. Somewhat offsetting the increases in interest expense and legal expense were reductions in salaries and benefits, from $995,000 for fiscal 2000 to $903,000 for
fiscal 2001, and travel from $193,000 for fiscal 2000 to $81,000 for fiscal 2001 due to the Companys cost containment program. Total operating expenses (excluding interest expense) as a percentage of total operating revenue declined to 38% for
fiscal 2001 from 42% in the previous year.





Net operating income after taxes for the year 2001 was $1.3 million
compared to the $1.4 million reported for fiscal 2000.





The realized gain on investments, net of income taxes, of
$1.4 million for the year ended June 30, 2000 was primarily due to the sale of a significant block of stock in one of the publicly held securities (The Netplex Group, Inc.). This significant gain was partially offset by a realized loss of $527,000
in one of the Companys privately held companies.





Unrealized depreciation on investments, net of taxes, was
$6.2 million for the year ended June 30, 2001 as compared to $1.5 million for the year ended June 30, 2000. The significant change for the year ended June 30, 2001 was primarily due to the deteriorating financial condition of four portfolio
companies, two of which filed for bankruptcy protection under Chapter 11 of the U.S. Bankruptcy Code. The decrease of $1.5 million, net of taxes, for the year ended June 30, 2000 was due to a combination of the negative impact of the weakness in the
high tech sector of the stock market between March and June 2000, causing an unrealized decline in the value of the Companys publicly traded investments as well as a write down in two portfolio companies which had operational performance below
expectations and had not made the required dividend payments to the Company on a timely basis.





Financial Condition,
Liquidity and Capital Resources





At June 30, 2002, the Companys investment portfolio totaled $27.6
million compared with the $33.7 million reported at June 30, 2001. In fiscal 2002, the Company funded $3.6 million in new loans and received proceeds from the sales of investments and principal collected on debt securities of $7.6 million. For the
comparable year of 2001, the Company funded $6.0 million in new investments and loans and received $2.8 million in principal collected on debt securities and sales of investments. The Companys cash position at June 30, 2002 increased to $5.4
million from the $1.1 million reported at June 30, 2001, due primarily to the net cash provided by investing activities.





Net asset value per common share declined to $5.52 per share at June 30, 2002 from the $7.59 per share reported June 30, 2001, as a result of write downs of the Companys investment portfolio.




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The Company utilizes cash flow from operations, proceeds from borrowings under
lines of credit and approved SBA leverage, and proceeds from investment repayments and sales to fund its operations and investments. Based on the Companys current regulatory capital, the SBA has approved the issuance of up to $32.4 million of
debentures for the Company, of which $25.4 million have been issued at June 30, 2002. The Company also maintains a short-term line of credit agreement which allows for maximum borrowing of $2.5 million at June 30, 2002. There was no borrowing under
the line of credit during fiscal 2002. Under the regulations governing the SBIC programs available, SBA leverage is determined based on the SBICs regulatory capital and investment portfolio mix. Therefore, additional SBA leverage, beyond the
amounts currently approved, is unlikely to be available to the Company unless it raises additional capital. Without additional SBA leverage or other alternative sources of capital, the Company will not be able to make additional investments or
provide additional funding to existing portfolio companies beyond its current capacity. Management is continuing to evaluate various strategic alternatives for the Company, including but not limited to raising additional equity capital through
private sources, exploring other sources of financing and managing the existing investment portfolio and reinvesting proceeds from repayments and liquidations.





During the year ended June 30, 2002, cash provided by operating activities was $330,000 as compared to the $465,000 of cash provided by operating activities for the year ended June 30, 2001. The
primary source of cash provided by operating activities for fiscal 2002 was the refund of previously paid income taxes. The Company had $4.1 million in cash provided by investment activities due to the proceeds received from sales of investments of
$5.7 million and principal collected on debt securities of $1.9 million, offset by $3.6 million in new investments in debt securities made in 2002. The Company used $3.2 million in investment activities during the year ended June 30, 2001. Cash
flows used in financing activities of $72,000 for fiscal 2002 compared to cash provided by financing activities of $3.7 million for fiscal 2001 due primarily to the proceeds received from debentures payable in 2001 of $6.1 million.





Contractual Obligations and Commitments





The following table summarizes our material contractual obligations, including both on and off balance sheet arrangements, and our commitments at June 30, 2002 (in thousands):





Total

2003

2004

2005

2006

2007

ThereafterContractual Obligations Operating leases

$
37

$
35

$
2








Borrowings 

















SBA Debentures

$
25,400













$
25,400Commitments:Revolving credit facility

















Employment contracts























Operating Leases





The company leases its office facility and various office equipment under non-cancelable operating leases. The termination date of the leased office space is December 2002.
Preceding termination of the lease, the Company plans to negotiate a new lease term based on fair market values at the time of termination.





SBA Debentures





The SBA has approved the issuance of up to $32,400,000 of debentures for
the Company. All debentures bear interest payable semi-annually at a fixed rate and are due at maturity, which is ten years from the date that the interest rate is fixed. The debentures are subject to numerous covenants through the SBA, including
restrictions on dividend payments and retirement of various equity interests. The debentures are subject to a prepayment penalty for the first five years they are outstanding. During 1999, the Company utilized $12,300,000 of the available facility,
$6,000,000 of which bears interest at 7.24% and matures on March 1, 2009 and $6,300,000 of which bears interest at 8.22% and matures on September 1, 2009. During 2000, the Company utilized an additional $7,000,000 which bears interest at 8.64% and
matures March 1, 2010. During 2001, the Company utilized an additional $6,100,000 of the available facility, $3,100,000 of which bears interest at




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8.45% and matures on September 1, 2010 and $3,000,000 of which bears interest at 6.89% and matures on September 1, 2011. Currently, $7,000,000 of the approved amount remains available.





Revolving Credit Facility





The Company has a line of credit with a financial institution with a total availability of $2,500,000. The line bears interest at the banks prime rate. There were no outstanding borrowings under
the line at June 30, 2002. The line of credit expires on November 1, 2002.





Employment Contracts





The Company has employment contracts with each member of management. These employment agreements are terminable by the Company with or
without cause. In the event that the employment agreements are terminated without cause and provided that executives comply with the confidentiality and non-competition covenants, they will be entitled to receive all payments as defined in the
respective agreements. The contracts extend through January 2004 with an automatic one-year extension thereafter unless notice of intent not to renew is given, either by the Company or by the executive. If termination without cause had occurred as
of June 30, 2002, the Company would have been required to pay approximately $1.2 million to satisfy its obligations.





Critical Accounting Policies and Estimates





Critical accounting policies are those that are
both most important to the portrayal of our financial condition and results of operations and which require our most complex or subjective judgements or estimates. The discussion and analysis of our financial condition and results of operations is
based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires us to make estimates and judgements
that affect reported amounts of assets, liabilities, revenues and expenses and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate the judgements and estimates underlying our accounting policies, primarily the
periodic valuation of our investment portfolio.





The Company values its investment portfolio at fair values as
determined in good faith by the Companys Board of Directors in accordance with the Companys valuation policy, which is the Model Valuation Policy as published by the SBA. The policy presumes that loans and investments are acquired with
the intent that they are to be held until maturity or disposed of in the ordinary course of business. The company determines fair value to be the amount for which an investment can be exchanged in an orderly disposition over a reasonable period of
time between willing parties other than in a forced or liquidation sale.





The Company invests primarily in
illiquid securities, including the debt and equity of private companies. The Companys valuation policy considers the fact that privately negotiated securities change in value over a long period of time, that the Company does not intend to
trade the securities, and that no readily available market exists for their liquidation. The Companys valuation policy is intended to provide a consistent basis for establishing the fair value of the portfolio. Unlike banks, the Company is not
permitted to provide a general reserve for anticipated loan losses. Instead, the Company must record each individual investment at fair value each quarter. The Company records unrealized depreciation on investments when it believes that an asset has
been impaired and full collection of the loan or realization of an equity security is doubtful. Conversely, the Company records unrealized appreciation if it has a clear indication that the underlying portfolio company has appreciated in value and
the Companys security has also appreciated in value. Under its valuation policy, the Company does not consider temporary changes in the capital markets such as interest rate movements or changes in the public equity markets, in order to
determine whether an investment in a private company has been impaired or whether such as investment has increased in value. The value of investments in public securities is determined using quoted market prices, discounted for illiquidity and or
restrictions on resale. Due to the uncertainty inherent in the valuation process, estimates of fair value may differ significantly from the values that would have been used had a ready market for the securities existed, and the difference could be
material. Additionally, changes in the market environment and other events that may occur over the life of the investments may cause the gains or losses ultimately realized on these investments to be different than the valuations currently assigned.







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Quantitative and Qualitative Disclosure About Market Risk





The Companys business activities contain elements of risk. The Company considers the principal types of market risk to be: risk of lending and investing in small
privately owned companies, valuation risk of portfolio, risk of illiquidity of portfolio investments and the competitive market for investment opportunities. The Company considers the management of risk essential to conducting its business and to
maintaining profitability. Accordingly, the Companys risk management systems and procedures are designed to identify and analyze the Companys risks, to set appropriate policies and limits and to continually monitor these risks and limits
by means of reliable administrative and information systems and other policies and programs.





The Company manages
its market risk by maintaining a portfolio of equity interests that is diverse by industry, geographic area, size of individual investment and borrower. The Company is exposed to a degree of risk of public market price fluctuations as three of the
Companys twenty-nine investments are in thinly traded, small public companies, whose stock prices have been volatile. The other twenty-six investments are in private business enterprises. Since there is typically no public market for the
equity interests of the small companies in which the Company invests, the valuation of the equity interests in the Companys portfolio of private business enterprises is subject to the estimate of the Companys Executive Committee. In the
absence of a readily ascertainable market value, the estimated value of the Companys portfolio of equity interests may differ significantly from the values that would be placed on the portfolio if a ready market for the equity interests
existed. Any changes in estimated value are recorded in the Companys statement of operations as Net unrealized gains (losses). Each hypothetical 1% increase or decrease in value of the Companys portfolio of equity securities
of $27.6 million at June 30, 2002, and $33.7 million at June 30, 2001, would have resulted in unrealized gains or losses and would have changed net increase in stockholders equity resulting from operations for the year by 8% and 7%,
respectively.





The Companys sensitivity to changes in interest rates is regularly monitored and analyzed by
measuring the characteristics of assets and liabilities. The Company utilizes various methods to assess interest rate risk in terms of the potential effect of interest income net of interest expense, the market value of net assets and the value at
risk in an effort to ensure that the Company is insulated from any significant adverse effects from changes in interest rates. Based on the model used for the sensitivity of interest income net of interest expense, if the balance sheet were to
remain constant and no actions were taken to alter the existing interest rate sensitivity, a hypothetical immediate 100 basis point change in interest rates would have affected net increase in stockholders equity resulting from operations
negligibly over a twelve-month horizon. Although management believes that this measure is indicative of the Companys sensitivity to interest rate changes, it does not adjust for potential changes in credit quality, size and composition of the
balance sheet and other business developments that could affect operating results. Accordingly, no assurances can be given that actual results would not differ materially from the potential outcome simulated by this estimate.





Forward Looking Statements





Included in this report and other written and oral information by management from time to time, including reports to shareholders, quarterly and semi-annual shareholder letters, filings with the
Securities and Exchange Commission, news releases and investor presentations, are forward-looking statements about business objectives and strategies, market potential, the Companys ability to expand the geographic scope of its investments,
the quality of the Companys due diligence efforts, its financing plans, its vendors, suppliers, and portfolio companies, future financial performance and other matters that reflect managements expectations as of the date made.





Except for historical information, all of the statements, expectations and assumptions contained in the foregoing
are forward-looking statements (within the meaning of the Private Securities Litigation Reform Act of 1995) that involve a number of risks and uncertainties. It is possible that the assumptions made by managementincluding, but not
limited to, the average maturity of our investments, the potential to realize investment gains as these investments mature, investment opportunities, results, performance or expectationsmay not materialize. Actual results may differ materially
from those projected or implied in any forward-looking statements. In addition to the above factors, other important factors that may affect the Companys performance include: the risks associated with the performance of the Companys
portfolio companies, dependencies on key employees, interest rates, the level of economic activity, and competition, as well as other risks described from time to time in the Companys filings with the Commission, press releases, and other
communications. The Company disclaims any intent or obligation to update these forward-looking statements, whether as a result of new information, future events, or otherwise.




8




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##### Table of Contents




PRICE RANGE OF COMMON STOCK





The Companys Common Stock is quoted on the NASDAQ Stock Market under the symbol WSCC. As of August 31, 2002, the Company had 96 stockholders of record and
approximately 450 beneficial owners. The following table sets forth the range of high and low bid prices of the Companys common stock as reported on the NASDAQ stock market for the period from February 2, 1998, when public trading of the
common stock commenced pursuant to the IPO, through June 30, 2002.





Bid PriceNet Asset Value Per Share (1)

High

Low

Close1998Third Quarter

$
8.18

$
11.750

$
10.750

$
10.875Fourth Quarter


8.24


11.375


10.125


11.1251999First Quarter

$
8.25

$
11.375

$
9.000

$
9.250Second Quarter


8.37


10.620


7.500


8.500Third Quarter


8.72


8.750


6.500


7.250Fourth Quarter


8.90


7.875


6.000


6.7502000First Quarter

$
8.98

$
7.063

$
6.625

$
6.875Second Quarter


11.13


9.438


6.625


9.000Third Quarter


12.16


10.750


7.563


8.375Fourth Quarter


10.65


8.500


6.500


6.5002001First Quarter

$
10.44

$
7.000

$
4.000

$
6.250Second Quarter


9.75


6.250


2.531


3.750Third Quarter


8.35


5.250


3.250


3.250Fourth Quarter


7.59


4.000


3.000


3.6502002First Quarter

$
8.00

$
3.700

$
2.000

$
2.300Second Quarter


6.76


4.750


2.250


2.740Third Quarter


5.92


3.400


1.870


1.890Fourth Quarter


5.52


2.990


1.390


2.600


---

|(1) |  | Net asset value per share is determined as of the last day in the calendar quarter and therefore may not reflect the net asset value per share on the date of
the high or low sales prices for the specific quarter. The net asset values shown are based on outstanding shares at the end of each quarter and the previously reported values have been restated to reflect the 5% stock dividend declared on February
5, 1999 and the 6% stock dividend declared on December 7, 1999.
|--- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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##### Table of Contents




INDEPENDENT AUDITORS REPORT





The Stockholders and Board of Directors


Waterside Capital Corporation:





We have audited the accompanying
balance sheets of Waterside Capital Corporation, including the schedule of portfolio investments, as of June 30, 2001 and 2002 and the related statements of operations, changes in stockholders equity and cash flows for each of the years in the
three-year period ended June 30, 2002. These financial statements are the responsibility of the Companys management. Our responsibility is to express an opinion on these financial statements based on our audits.





We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require
that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the
financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable
basis for our opinion.





In our opinion, the financial statements referred to above present fairly, in all material
respects, the financial position of Waterside Capital Corporation as of June 30, 2001 and 2002, and the results of its operations and its cash flows for each of the years in the three-year period ended June 30, 2002 in conformity with accounting
principles generally accepted in the United States of America.





LOGO





August 23, 2002


Norfolk,
Virginia




10




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##### Table of Contents




BALANCE SHEETS


JUNE 30, 2001 AND 2002





2001


2002ASSETS:Investments in portfolio companies, at fair value (note 2):Debt securities

$
6,514,395


$
8,463,170Equity securities


23,146,571



15,304,120Options and warrants


4,025,942



3,879,533Total investments, cost of $41,702,728 and $35,349,098 at June 30, 2001 and 2002, respectively


33,686,908



27,646,823CURRENT ASSETS:Cash and cash equivalents


1,089,386



5,417,202Current portion of dividends receivable


719,188



252,129Interest receivable


101,304



98,586Refundable income taxes


533,225



Prepaid expenses


131,891



89,190Other current assets


52,151



TOTAL CURRENT ASSETS


2,627,145



5,857,107Dividends receivable, excluding current portion


278,583



458,583Notes receivable (note 3)


237,550



229,452Property and equipment, net (note 4)


133,217



91,507Deferred income taxes (note 7)


550,000



Deferred financing costs, net


865,355



797,897TOTAL ASSETS

$
38,378,758


$
35,081,369LIABILITIES AND STOCKHOLDERS EQUITY:CURRENT LIABILITIES:Accounts payable

$
85,224


$
7,010Accrued interest


657,514



677,067Accrued expenses (note 5)


237,009



300,008Deferred revenue






91,626TOTAL CURRENT LIABILITIES


979,747



1,075,711Debentures payable (note 6)


25,400,000



25,400,000TOTAL LIABILITIES


26,379,747



26,475,711STOCKHOLDERS EQUITY (NOTE 8):Common stock, $1 par value. Authorized 10,000,000 shares; issued and outstanding 1,581,430 and 1,557,630 shares at June
30, 2001 and 2002, respectively


1,581,430



1,557,630Preferred stock, $1 par value. Authorized 25,000 shares; no shares issued and outstanding






Additional paid-in capital


14,618,719



14,570,319Net unrealized depreciation on investments, net of income taxes


(7,464,341
)


(7,702,275
)Undistributed accumulated earnings


3,263,203



179,984TOTAL STOCKHOLDERS EQUITY


11,999,011



8,605,658Commitments and contingencies (notes 2, 11, 12 and 13)TOTAL LIABILITIES AND STOCKHOLDERS
EQUITY

$
38,378,758


$
35,081,369Net asset value per common share

$
7.59


$
5.52





See accompanying notes to financial statements.




11




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##### Table of Contents




STATEMENTS OF OPERATIONS


YEARS ENDED JUNE 30, 2000, 2001 AND 2002





2000


2001


2002OPERATING INCOME:Dividends

$
2,189,862


$
2,865,832


$
2,007,981Interest on debt securities


1,009,744



1,008,202



1,220,768Interest on cash equivalents


37,203



17,642



35,712Fee and other income


677,205



354,827



462,522TOTAL OPERATING INCOME


3,914,014



4,246,503



3,726,983OPERATING EXPENSES:Salaries and benefits


994,717



902,874



690,331Legal and accounting


167,580



338,681



265,950Legal expenses related to investee litigation (note 12)










242,000Interest expense


1,224,066



1,956,330



2,087,323Other operating expenses


483,021



384,386



311,551TOTAL OPERATING EXPENSES


2,869,384



3,582,271



3,597,155Net operating income before income taxes


1,044,630



664,232



129,828Income tax benefit (note 7)


(352,000
)


(675,000
)


NET OPERATING INCOME


1,396,630



1,339,232



129,828Realized gain (loss) on investments, net of income taxes of $873,000, $40,000 and $0 for 2000, 2001 and 2002,
respectively


1,426,474



73,372



(3,213,047
)Change in unrealized depreciation on investments, net of income tax expense (benefit) of $(926,000), $191,000 and
$550,000 for 2000, 2001 and 2002, respectively


(1,514,791
)


(6,247,984
)


(237,934
)NET INCREASE (DECREASE) IN STOCKHOLDERS
EQUITY RESULTING FROM OPERATIONS (NOTE 8)

$
1,308,313


$
(4,835,380
)

$
(3,321,153
)NET INCREASE (DECREASE) IN STOCKHOLDERS
EQUITY RESULTING FROM OPERATIONS PER SHARE  BASIC AND DILUTED (NOTES 8 AND
9)

$
0.83


$
(3.06
)

$
(2.11
)Weighted average shares outstanding


1,581,430



1,581,430



1,576,306





See accompanying notes to financial statements.




12




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##### Table of Contents




STATEMENTS OF CHANGES IN STOCKHOLDERS EQUITY (NOTE 8)


YEARS ENDED JUNE 30, 2000, 2001 AND 2002





Common StockAdditional Paid-in Capital


Net Unrealized Appreciation (Depreciation) on Investments


Undistributed Accumulated Earnings


Stockholders Notes Receivable


Total Stockholders EquityShares


AmountBALANCE AT JUNE 30, 1999

1,491,937


$
1,491,937


$
12,769,895


$
298,434


$
966,003


$
(1,455,000
)

$
14,071,2696% stock dividend

89,493



89,493



648,824







(738,508
)






(191
)Capitalization of undistributed accumulated earnings









1,200,000







(1,200,000
)






Repayment of stockholders notes receivable





















1,455,000



1,455,000Net operating income

















1,396,630







1,396,630Net realized gain on investments, net of income taxes

















1,426,474







1,426,474Change in net unrealized appreciation (depreciation) on investments, net of income taxes













(1,514,791
)










(1,514,791
)BALANCE AT JUNE 30, 2000

1,581,430


$
1,581,430


$
14,618,719


$
(1,216,357
)

$
1,850,599


$



$
16,834,391Net operating income

















1,339,232







1,339,232Net realized gain on investments, net of income taxes

















73,372







73,372Increase in net unrealized depreciation on investments, net of income taxes













(6,247,984
)










(6,247,984
)BALANCE AT JUNE 30, 2001

1,581,430


$
1,581,430


$
14,618,719


$
(7,464,341
)

$
3,263,203


$



$
11,999,011Net operating income

















129,828







129,828Repurchase of outstanding stock

(23,800
)


(23,800
)


(48,400
)














(72,200
)Net realized loss on investments, net of income taxes

















(3,213,047
)






(3,213,047
)Increase in net unrealized depreciation on investments, net of income taxes













(237,934
)










(237,934
)BALANCE AT JUNE 30, 2002

1,557,630


$
1,557,630


$
14,570,319


$
(7,702,275
)

$
179,984


$



$
8,605,658





See accompanying notes to financial statements.




13




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##### Table of Contents




STATEMENTS OF CASH FLOWS


YEARS ENDED JUNE 30, 2000, 2001 AND 2002





2000


2001


2002CASH FLOWS FROM OPERATING
ACTIVITIES:Net increase (decrease) in stockholders equity resulting from operations

$
1,308,313


$
(4,835,380
)

$
(3,321,153
)Adjustments to reconcile net increase (decrease) in stockholders equity resulting from operations to net cash
provided by (used in) operating activities:Unrealized depreciation (appreciation) on investments


2,440,791



6,056,984



(312,066
)Realized (gain) loss on investments


(2,299,474
)


(113,372
)


3,213,047Accretion of preferred stock and debt investments


(356,423
)


(570,190
)


(507,431
)Depreciation and amortization


66,959



85,307



110,927Deferred income tax expense (benefit)


(845,000
)


100,000



550,000Loss on disposal of property and equipment


828







Other noncash items










(21,033
)Changes in assets and liabilities increasing (decreasing) cash flows from operating activities:Dividends receivable


(343,030
)


(343,004
)


(108,941
)Interest receivable


5,921



121,213



2,718Refundable income taxes


(280,000
)


(209,903
)


533,225Prepaid expenses and other current assets


(62,487
)


(41,954
)


94,852Accounts payable, accrued interest and accrued expenses


334,382



215,395



4,338Deferred revenue


(113,631
)






91,626Net cash provided by (used in) operating activities


(142,851
)


465,096



330,109CASH FLOWS FROM INVESTING
ACTIVITIES:Investments in equity securities made


(10,778,709
)


(2,495,113
)


Investments in debt securities made


(6,074,509
)


(3,491,249
)


(3,596,258
)Principal collected on debt securities


1,254,587



2,421,877



1,946,860Issuance of notes receivable


(727,500
)






Proceeds from collection of notes receivable


639,950







29,258Proceeds from repayment of stockholders notes receivable


1,455,000







Proceeds from sales of investments


4,288,427



371,715



5,691,806Acquisition of property and equipment


(92,299
)


(8,754
)


(1,759
)Proceeds from sale of property and equipment


2,000







Net cash provided by (used in) investing activities


(10,033,053
)


(3,201,524
)


4,069,907CASH FLOWS FROM FINANCING
ACTIVITIES:Repurchase of stock










(72,200
)Proceeds from (repayments of) lines of credit


2,200,000



(2,200,000
)


Proceeds from debentures payable


7,000,000



6,100,000



Payment of deferred financing costs


(175,000
)


(192,500
)


Payments in lieu of fractional shares associated with stock dividend


(191
)






Net cash provided by (used in) financing activities


9,024,809



3,707,500



(72,200
)NET INCREASE (DECREASE) IN CASH
AND CASH EQUIVALENTS


(1,151,095
)


971,072



4,327,816CASH AND CASH EQUIVALENTS, BEGINNING
OF YEAR


1,269,409



118,314



1,089,386CASH AND CASH EQUIVALENTS, END
OF YEAR

$
118,314


$
1,089,386


$
5,417,202Supplemental disclosure of cash flow information:Cash paid during the year for interest

$
908,775


$
1,741,604


$
2,067,770Cash paid during the year for income taxes

$
720,000


$



$






Noncash investing activities:





In the first quarter of 2002, the Companys preferred stock investment in Tangent Solutions, Inc. was settled in exchange for a $87,842 note receivable through a
bankruptcy proceeding. Of this amount, $66,682 was written off as a realized loss upon completion of the bankruptcy process.





In the fourth quarter of 2002, the Company accepted a debt security in the amount of $358,916 from Triangle Biomedical Sciences and exercised warrants for 54,743 shares of common stock. The investment was obtained through the
forgiveness of $396,000 of dividends receivable and a noncash financing fee of $14,687. The exercise price of $51,771 on the warrants was netted against these items.





See accompanying notes to financial statements.




14




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##### Table of Contents

NOTES TO FINANCIAL STATEMENTS


JUNE 30, 2000, 2001 and 2002





(1) SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES





Description of Business





Waterside Capital Corporation (the Company) was incorporated in the Commonwealth of Virginia on July 13, 1993 and is a
closed-end investment company licensed by the Small Business Administration (the SBA) as a Small Business Investment Corporation (SBIC). The Company makes equity investments in, and provides loans to, small business concerns
to finance their growth, expansion and development. Under applicable SBA regulations, the Company is restricted to investing only in qualified small business concerns as contemplated by the Small Business Investment Act of 1958. The Company made its
first loan to a small business concern in October 1996 and its first equity investment in November 1996.





In
January 1998, the Company completed an Initial Public Offering (IPO) of 852,000 shares of common stock at a price of $11.00 per share. The net proceeds, after $1,288,464 of offering costs, were $8,083,536.





Cash and Cash Equivalents





The Company considers all highly liquid securities purchased with original maturities of three months or less at the acquisition date to be cash equivalents. Cash and cash equivalents consisted of the
following at June 30, 2001 and 2002:





2001

2002Cash and cash equivalents in banks

$
1,075,635

$
5,389,655Cash deposits in brokerage accounts


13,751


27,547Total

$
1,089,386

$
5,417,202





The brokerage accounts reflected above consist of deposit accounts
held with three brokerage houses to facilitate the trading of stock.





Investment Valuation





Investments are carried at fair value, as determined by the Executive Committee of the Board of Directors.
The Company, through its Board of Directors, has adopted the Model Valuation Policy, as published by the SBA, in Appendix III to Part 107 of Title 12 of the Code of Federal Regulations (the Policy). The Policy, among other things,
presumes that loans and investments are acquired with the intent that they are to be held until maturity or disposed of in the ordinary course of business. Except for interest-bearing securities which are convertible into common stock,
interest-bearing securities are valued at an amount not greater than cost, with unrealized depreciation being recognized when value is impaired. Equity securities of private companies are presumed to represent cost unless the performance of the
portfolio company, positive or negative, indicates otherwise in accordance with the Policy guidelines. The fair values of equity securities of publicly traded companies are generally based on quoted market prices discounted due to the investment
size or market liquidity concerns and for the effect of restrictions on the sale of such securities. Discounts can range from 0% to 40% for investment size and market liquidity concerns. Actual liquidity discounts in the portfolio at June 30, 2002
ranged from 15% to 40%. Discounts for restriction on the sale of the investments are 15% in accordance with the provisions of the Policy. The Company maintains custody of its investments as permitted by the Investment Company Act of 1940.





Realized and Unrealized Gain or Loss on Investments





Realized gains or losses recorded upon disposition of investments are calculated as the difference between the net proceeds and the cost basis determined using the
specific identification method. All other changes in the value of investments are included as changes in the unrealized appreciation or depreciation in the statement of operations.





Recognition of Interest and Dividend Income





Interest income is recorded on the accrual basis. In the case of dividends on preferred stock investments where the Company has an agreement stipulating dividends payable, the Company accrues the dividends in income on a pro-rata
basis during the year. Otherwise, dividends are recorded as income on the ex-dividend date. The Company ceases to accrue dividends and interest income if the investee is more than 120 days delinquent in their payments. Accretion of loans and
preferred stock investments are recorded as a component of interest and dividend income in the statement of operations.




15




---

##### Table of Contents



NOTES TO FINANCIAL STATEMENTS  Continued







Fee Income





Portfolio investment processing fees are recognized as income upon consummation of the related investment transaction.





Property and Equipment





Property and equipment is stated at cost. Depreciation and amortization of property and equipment is calculated using the straight-line method over the estimated useful lives of the assets ranging from
five to seven years. Leasehold improvements are amortized on a straight-line basis over the shorter of the lease term or estimated useful life of the asset.





Deferred Financing Costs





Deferred financing costs consist
of origination and processing fees paid in connection with the issuance of SBA debentures. The origination and processing fees are amortized using the effective interest method over the life of the related debentures. Accumulated amortization was
$93,645 and $161,103 at June 30, 2001 and 2002, respectively.





Income Taxes





Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating and capital loss carryforwards. Deferred tax assets and liabilities are
measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized
in income in the period that includes the enactment date.





Net Increase (Decrease) in Stockholders Equity
Resulting From Operations per Share





Basic earnings per share has been computed by dividing net increase
(decrease) in stockholders equity resulting from operations by the weighted average number of common shares outstanding. Diluted earnings per share reflects the potential dilution that could occur assuming the inclusion of common share
equivalents and has been computed by dividing net increase (decrease) in stockholders equity resulting from operations by the weighted average number of common shares and dilutive common share equivalents outstanding. Dilutive common share
equivalents include all outstanding stock options and warrants after applying the treasury stock method.





Stock
Option Plan





As permitted under Statement of Financial Accounting Standards (SFAS) No. 123, Accounting for
Stock Based Compensation, the Company has chosen to account for stock-based compensation using the intrinsic value method prescribed in Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees(APB Opinion No.
25), and related interpretations. Accordingly, compensation cost for stock options is measured as the excess, if any, of the estimated fair value of the Companys stock at the date of grant over the amount an employee must pay to acquire the
stock.





Use of Estimates





The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the dates of the financial statements and the reported amounts of revenues and expenses during the reporting periods.
Actual results could differ from those estimates.





Reclassification





Certain amounts reflected in the 2001 financial statements have been reclassified to conform to the 2002 financial statement presentation.




16




---

##### Table of Contents



NOTES TO FINANCIAL STATEMENTS  Continued







(2) INVESTMENTS





Investments consist primarily of preferred stock and debt securities obtained from portfolio companies in accordance with SBIC investment regulations. The financial
statements include securities valued at $33,686,908 and $27,646,823 at June 30, 2001 and 2002 (87.8% and 78.8% of assets), respectively. The valuation process completed by management includes estimates made by management and the Executive
Committee in the absence of readily ascertainable market values. These estimated values may differ significantly from the values that would have been used had a ready market for the securities existed, and those differences could be material.





(3) NOTE RECEIVABLE





At June 30, 2001 and 2002, the Company has notes receivable due from a guarantor of one of its liquidated investments. The notes are due on demand and earn interest at
rates of zero percent to 9.25% per annum with a majority of the notes earning 9.25% interest. The Company has no intent to call the notes in the subsequent year and has therefore classified the notes as a non-current asset.





(4) PROPERTY AND EQUIPMENT





Property and equipment at June 30, 2001 and 2002 consists of the following:





2001

2002Furniture and fixtures

$
90,216

$
90,216Computer equipment and software


125,251


127,012Leasehold improvements


31,298


31,296246,765


248,524Less accumulated depreciation and amortization


113,548


157,017Property and equipment, net

$
133,217

$
91,507





(5) ACCRUED EXPENSES





Accrued expenses at June 30, 2001 and 2002 consist of the following:





2001

2002Accrued accounting and legal expense

$
130,040

$
233,173Accrued salaries and benefits


104,108


55,159Other accrued expenses


2,861


11,676Total accrued expenses

$
237,009

$
300,008





(6) DEBENTURES PAYABLE





Based on its existing regulatory capital, the SBA has approved the issuance of up to $32,400,000 of debentures for the Company. All
debentures, if and when issued, bear interest payable semi-annually at a fixed rate and are due at maturity, which is generally 10 years from the date the interest rate is fixed. The debentures are subject to a prepayment penalty for the first five
years they are outstanding. During 1999, the Company utilized $12,300,000 of the available amount, $6,000,000 of which bears interest at 7.24% and matures on March 1, 2009 and $6,300,000 of which bears interest at 8.22% and matures on September 1,
2009. During 2000, the Company utilized an additional $7,000,000, which bears interest at 8.64% and matures on March 1, 2010. During 2001, the Company utilized an additional $6,100,000 of the available facility, $3,100,000 of which bears interest at
8.45% and matures on September 1, 2010 and $3,000,000 of which bears interest at 6.89% and matures on September 1, 2011. At June 30, 2002, $7,000,000 of the approved amount remains available for future borrowing.




17




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##### Table of Contents



NOTES TO FINANCIAL STATEMENTS  Continued







(7) INCOME TAXES





The Companys provision for income taxes for the years ended June 30, 2000, 2001, and 2002 was allocated as follows:





2000


2001


2002Income tax expense (benefit) attributable to operations

$
(352,000
)

$
(675,000
)

$
Deferred tax expense (benefit) attributable to change in unrealized appreciation/depreciation on
investments


(926,000
)


191,000



550,000Current tax expense attributable to realized gain on investments


873,000



40,000



Total income tax expense (benefit)

$
(405,000
)

$
(444,000
)

$
550,000





The Companys income tax expense (benefit) attributable to
operations for the years ended June 30, 2000, 2001 and 2002 is as follows:





2000


2001


2002Current:Federal

$
(364,500
)

$
(485,000
)

$
State


(68,500
)


(99,000
)


Total current taxes


(433,000
)


(584,000
)


Deferred:Federal


67,000



(76,000
)


State


14,000



(15,000
)


Total deferred taxes


81,000



(91,000
)


Total income tax expense (benefit) attributable to operations

$
(352,000
)

$
(675,000
)

$






The 2000, 2001 and 2002 actual tax expense (benefit) attributable
to operations differs from the amount which would be provided by applying the statutory federal rate to net operating income before income taxes as follows:





2000


2001


2002Computed expected tax expense

$
355,000


$
226,000


$
44,000State taxes, net of federal impact


(36,000
)


(75,000
)


Nontaxable dividend income


(674,000
)


(835,000
)


(621,000
)Change in valuation allowance attributable to operations










576,000Other


3,000



9,000



1,000Total income tax expense (benefit) attributable to operations

$
(352,000
)

$
(675,000
)

$





18




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##### Table of Contents



NOTES TO FINANCIAL STATEMENTS  Continued







The Companys deferred tax assets and liabilities at June 30,
2001 and 2002 are as follows:





2001


2002Deferred tax assets:Investments, due to recognition of unrealized depreciation and accretion for financial statement purposes

$
2,790,000


$
2,576,000Property and equipment, due to differing depreciation methods






3,000Capital loss carryforward






1,218,000Net operating loss carryforward


254,000



990,000Total gross deferred tax assets


3,044,000



4,787,000Less valuation allowance


(2,492,000
)


(4,787,000
)Total net deferred tax assets


552,000



Deferred tax liabilities Property and equipment, due to differing depreciation methods


(2,000
)


Net deferred tax assets

$
550,000


$






The Companys valuation allowance increased $2,492,000 and
$2,295,000 for the years ended June 30, 2001 and 2002, respectively.





In assessing the realizability of deferred
tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income
during the periods in which those temporary differences become deductible. Management considers projected future taxable income and tax planning strategies in making this assessment. Because the Companys dividend income is not taxable, the
primary source of future taxable income available to the Company will be realized gains on sales of investments, the realization of which is uncertain. Management determined that projected future taxable income does not support the realization of
the net deferred tax assets as of June 30, 2002, and a valuation allowance has been recorded to offset the entire net deferred tax assets. At June 30, 2002, the Company has net operating loss carryforwards for federal income tax purposes of
$2,608,000, which are available to offset future federal taxable income, if any, through 2021, and a capital loss carryforward of $3,208,000 available to offset capital gains through 2010.





(8) STOCKHOLDERS EQUITY





Stock Dividend





On December 7, 1999, the Company declared a 6% stock dividend to
shareholders of record as of January 14, 2000. On January 31, 2000, the Company issued 89,493 shares of common stock in conjunction with this dividend. Accordingly, amounts equal to the fair market value (based on quoted market prices) of the
additional shares issued have been charged to retained earnings and capitalized as common stock and additional paid-in capital. Historical earnings per share, weighted average shares outstanding and net asset value per share have been restated to
reflect the 6% stock dividend.





Undistributed Accumulated Earnings





Undistributed accumulated earnings at June 30, 2001 and 2002 consist of the following:





2001

2002Undistributed accumulated investment income

$
2,729,045

$
2,858,873Undistributed accumulated net realized gains (losses)


534,158


(2,678,889
)Undistributed accumulated earnings

$
3,263,203

$
179,984




19




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##### Table of Contents



NOTES TO FINANCIAL STATEMENTS  Continued







Effective December 7, 1999, the Executive Committee of the
Companys Board of Directors and the SBA approved the capitalization of $1,200,000 of the Companys undistributed accumulated earnings, which reduced the undistributed accumulated net realized gains disclosed above.





Stock Repurchase Program





During February 2002, the Companys Board of Directors approved a stock repurchase program. Under the program, the Company can repurchase up to two percent of its currently outstanding common
stock over the next year in open market and in privately negotiated transactions. During the year ended June 30, 2002, the Company acquired 23,800 shares of common stock at a total cost of $72,200, or an average price of $3.03 per share, which
represents a discount of 49% in relation to the weighted average net asset value per share. Under the program the Company can repurchase an additional 7,800 shares of common stock.





Stock Option Plan





During
1998, the Company adopted the Waterside Capital Corporation 1998 Employee Stock Option Plan (the Plan) pursuant to which the Company may grant stock options to officers and key employees. The Plan, as amended, authorizes the grant of
options to purchase up to 212,000 shares of authorized but unissued common stock. Stock options are granted with an exercise price equal to the stocks fair market value at the date of grant. All stock options have 10-year terms and vest on a
graded schedule, at which time they become fully exercisable. At June 30, 2002, there were 69,140 additional shares available for future grant under the Plan.





The per share, weighted-average fair value of all stock options granted is $3.3823. The fair value of each grant is estimated on the date of grant using the Black-Scholes option-pricing model with the
following assumptions: expected life of five years, expected volatility of 51.01%, expected dividend yield of 0% and risk-free interest rate of 6.23% for options granted in fiscal 2000; and expected life of five years, expected volatility of 67.64%,
expected dividend yield of 0% and risk-free interest rate of 4.82% for options granted in fiscal 2001. No options were granted in fiscal 2002.





Under the Plan, the employee stock options are dividend protected. As a result, the exercise price of the outstanding options was adjusted downward and the number of options increased so as to equalize
the holders value before and after a stock dividend or split. As a result of the stock dividend described above, all options outstanding were adjusted in accordance with the Plan.





The Company applies APB Opinion No. 25 in accounting for the Plan and, accordingly, no compensation cost has been recognized for stock option grants in the financial
statements. Had the Company determined compensation cost based on the fair value at the grant date for its stock options under SFAS No. 123, the Companys net increase (decrease) in stockholders equity resulting from operations would have
been reflected at the pro forma amounts indicated below:





2000

2001


2002Net increase (decrease) in stockholders equity resultingfrom operations:As reported

$
1,308,313

$
(4,835,380
)

$
(3,321,153
)Pro forma


1,154,537


(5,011,656
)


(3,488,833
)Net increase (decrease) in stockholders equity resultingfrom operations per share  basic and
diluted:As reported


0.83


(3.06
)


(2.11
)Pro forma


0.73


(3.17
)


(2.22
)




20




---

##### Table of Contents



NOTES TO FINANCIAL STATEMENTS  Continued







Stock option activity during the periods indicated is as follows:





Number of Shares


Weighted-Average Exercise
PriceBalance at June 30, 1999

108,518


$
9.459Granted

83,100



8.190Forfeited

(25,043
)


9.883Balance at June 30, 2000

166,575



8.762Granted

50,000



4.125Forfeited

(22,630
)


9.053Balance at June 30, 2001

193,945



7.533Forfeited

(1,000
)


8.250Cancelled

(50,085
)


9.897Balance at June 30, 2002

142,860



6.693





At June 30, 2000, 2001 and 2002, 96,715, 133,036 and 126,194
options, respectively, were exercisable. The difference between the weighted-average exercise prices for all outstanding options and those exercisable on June 30, 2002 was not significant.





The range of exercise prices and weighted-average remaining contractual life of outstanding options at June 30, 2002 is $4.13  $8.25 and 7.8 years,
respectively.





(9) NET INCREASE (DECREASE) IN
STOCKHOLDERS EQUITY RESULTING FROM OPERATIONS PER SHARE





The following table sets forth the calculation of basic and diluted net increase (decrease) in stockholders equity resulting from operations per share for the years
ended June 30, 2000, 2001 and 2002:





2000

2001


2002Basic net increase (decrease) in stockholders equity resulting from operations per share:Net increase (decrease) in stockholders equity resulting from operations

$
1,308,313

$
(4,835,380
)

$
(3,321,153
)Weighted-average number of common shares outstanding


1,581,430


1,581,430



1,576,306Basic net increase (decrease) in stockholders equity resulting from operations per share

$
0.83

$
(3.06
)

$
(2.11
)Diluted net increase (decrease) in stockholders equity resulting from operations per share:Net increase (decrease) in stockholders equity resulting from operations

$
1,308,313

$
(4,835,380
)

$
(3,321,153
)Weighted-average number of common shares outstanding


1,581,430


1,581,430



1,576,306Dilutive effect of stock options (as determined by using the treasury stock method)


1,677






Weighted-average number of common shares and dilutive common shares outstanding


1,583,107


1,581,430



1,576,306Diluted net increase (decrease) in stockholders equity resulting from operations per share

$
0.83

$
(3.06
)

$
(2.11
)




21




---

##### Table of Contents



NOTES TO FINANCIAL STATEMENTS  Continued







(10) RELATED PARTY TRANSACTIONS





For the fiscal years ended June 30, 2000, 2001 and 2002, the Company paid fees of approximately $126,000, $70,000 and $17,000,
respectively, to an officer and director of the Company and to a partnership partially owned by an officer and director and another director of the Company for the use of an airplane.





(11) LEASES





The Company has two noncancelable
operating leases, primarily for office space, that expire over the next two years.





Future minimum lease payments
under noncancelable operating leases (with initial or remaining lease terms in excess of one year) as of June 30, 2002 are:





Year ending June 30,2003

$
35,1102004


1,637Total minimum lease payments

$
36,747





Net rental expense for operating leases for the years ended June
30, 2000, 2001 and 2002 was $62,468, $68,056 and $67,403, respectively. Sublease income for the year ended June 30, 2000 was $5,400.





(12) COMMITMENTS, CONTINGENCIES AND SUBSEQUENT EVENTS





Employment Agreements





The Company has employment
agreements with four active members of management. These agreements provide for a specified annual base salary and certain discretionary and performance-based bonuses. The contracts also provide for stock options to be granted to the executives,
where the executives may purchase common shares of the Company at the fair value of the Companys common stock at the time of grant. Annual base salaries under these agreements range from $110,000 to $165,000. The agreements expire on January
31, 2004. If the employees are terminated by the Executive Committee without cause, these employees will receive compensation equal to two times their annual base salary in effect at the time of termination and two times their average bonus received
during the previous two years. The Companys potential commitment for termination benefits at June 30, 2002 is approximately $1,164,000.





Line of Credit





The Company has an open line of credit with
a financial institution with a total availability of $2,500,000. The line bears interest at the banks prime rate. There were no outstanding borrowings under the line at June 30, 2002. The line of credit expires on November 1,
2002.





Investee Litigation





Litigation involving a former investee was settled in July 2002 and the Company received $455,000 in connection with the settlement. A portion of the proceeds were
considered to be a recovery of the legal expenses incurred during 2002 related to this litigation. This recovery will be recorded in the first quarter of fiscal 2003.





(13) CONCENTRATION OF CREDIT RISK





Most of the Companys portfolio investment companies are located in the Mid-Atlantic region of the United States. In addition, three of the Companys portfolio investment companies are in the
telecommunications industry. As a result, any adverse impact on the economy of that region or the telecommunications industry could adversely impact the Companys results of operations and financial position.







22




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##### Table of Contents



NOTES TO FINANCIAL STATEMENTS  Continued




(14) FAIR VALUE OF FINANCIAL INSTRUMENTS





The following summary disclosures are made in accordance with the provisions of SFAS No. 107, Disclosures About Fair Value
of Financial Instruments. Fair value is defined in the statement as the amount at which an instrument could be exchanged in a current transaction between willing parties.





The following methods and assumptions were used to estimate the fair value of each class of financial instruments at June 30, 2001 and 2002:





Cash and cash equivalents, dividends receivable, interest receivable, accounts payable, accrued interest and accrued expenses:





The carrying amounts approximate fair value because of the short maturity of these instruments.





Note receivable:





The carrying amount approximates fair value because the note receivable is due on demand.





Investments in portfolio companies:





The Companys investments are reflected
at fair value in the Companys balance sheets. The fair value of portfolio investments is determined by the Executive Committee of the Board of Directors or by current market prices, if available, in accordance with the Companys valuation
policy (see note 2).





Debentures payable:





The fair value of the debentures payable is estimated by discounting the future cash flows using current interest rates at which similar
notes would be made to borrowers with similar credit ratings. The fair value of the $25,400,000 debentures at June 30, 2001 and 2002 was estimated to be $28,199,882 and $26,345,960, respectively.





(15) EMPLOYEE BENEFIT PLAN





Effective July 1, 1998, the Company adopted the Waterside Capital Corporation Defined Contribution Plan (the Plan). The Plan is available to all employees of the Company, regardless of age, who have completed at least three
months of service. Eligible employees may contribute up to 8% of their compensation annually with the Company providing contributions of 100% of the first 6% of participating employees contributions. In addition, the Company has the ability to
make discretionary contributions, which will be determined by a resolution of the Board of Directors. Total employer expense for the Plan for the years ended June 30, 2000, 2001 and 2002 was $20,721, $21,248 and $34,145, respectively.




23




---

##### Table of Contents




SCHEDULE OF PORTFOLIO INVESTMENTS


JUNE 30, 2001 AND 2002





The Companys investment
portfolio at June 30, 2001 consisted of the following:





Equity Securities:

Number of Shares

Cost or Contributed Value

Fair ValuePublicly Traded Companies:Avery Communications, Inc. Common Stock

245,000

$
235,597

$
65,660Avery Communications, Inc. Common Stock (a)

190,167


95,084


43,359Avery Communications, Inc. Preferred Stock

1,250,000


1,250,000


1,250,000Netplex Group, Inc. Common Stock

66,400


464,800


9,761Netplex Group, Inc. Preferred Stock

1,500,000


1,355,504


1,355,504Tangent Solutions, Inc. (formerly Electronic BusinessSystems, Inc.) Common Stock (b)

1,923,821


285,484


Primal Solutions, Inc. Common Stock

715,167


9,503


11,404Private Companies:Real Time Data Management Services, Inc. Preferred Stock

300


296,715


512,848Delta Education Systems, Inc. Preferred Stock

1,625


1,603,923


1,603,923Diversified Telecom, Inc. Preferred Stock (c)

1,500


1,500,000


508,512Crispies, Inc. Preferred Stock

400


398,880


398,880Triangle Biomedical Sciences Preferred Stock (c)

2,100


2,113,969


2,113,969Wireless Systems Engineering, Inc. (formerly JMS Worldwide,Inc.) Preferred Stock

1,500


1,500,000


1,500,000EPM Development Systems Corp. Preferred Stock

1,500


1,495,167


1,495,167Fire King International Preferred Stock

2,000


2,000,000


2,000,000CCT Holdings (formerly SECC) Common Stock

840,000


60


60Eton Court Asset Management, Ltd. Preferred Stock

1,000


980,337


980,337Fairfax Publishing Co., Inc. Preferred Stock

1,100


1,663,746


1,663,746Digital Square, Inc. Convertible Preferred Stock

1,210,739


1,513,425


1,513,425Answernet, Inc. Preferred Stock

1,250


748,601


748,601ISR Solutions, Inc. Preferred Stock

500


497,995


497,995Capital Markets Group, Inc. Preferred Stock (c)

1,500


1,500,000


Jubilee Tech International, Inc. Convertible Preferred Stock (c)

2,200,000


2,007,514


2,007,514VentureCom, Inc. Convertible Preferred Stock

278,164


2,000,000


2,000,000Phoenix Fabrications, Inc. Preferred Stock (c)

400


279,063


279,063AmeriComm Direct Marketing LLC Common Stock

27,696


28


28Signius Investment Corporation Common Stock (e)

2,059


332,595


586,815Total equity securities




26,127,990


23,146,571





Debt Securities:

Maturity

Cost or Contributed Value

Fair ValueAvery Communications, Inc. Convertible Note

12/10/02

$
350,000

$
350,000Extraction Technologies of VA, LLC (c) (d)

7/22/03


900,000


Extraction Technologies of VA, LLC (c) (d)

8/31/04


202,316


Extraction Technologies of VA, LLC (c) (d)

11/2/04


373,711


Extraction Technologies of VA, LLC (c) (d)

2/7/05


263,742


Extraction Technologies of VA, LLC (c) (d)

2/25/05


97,409


Extraction Technologies of VA, LLC (c) (d)

3/14/05


95,584


Wireless Systems Engineering, Inc. (formerly JMSWorldwide, Inc.)

7/31/03


900,000


900,000Diversified Telecom, Inc. (c)

Demand


84,250


84,250Diversified Telecom, Inc. (c)

5/19/02


131,238


131,238ISR Solutions, Inc.

6/30/04


744,167


744,167Fire King International

Demand


550,000


550,000TABET Manufacturing Co., Inc.

12/31/04


304,575


304,575National Assisted Living, LP (c)

12/31/04


835,880


New Dominion Pictures LLC

4/30/06


784,103


784,103




24




---

##### Table of Contents



SCHEDULE OF PORTFOLIO INVESTMENTS  continued







Maturity

Cost or Contributed Value

Fair ValueMayfair Enterprises, Inc.

7/18/05

$
243,519

$
243,519Digital Square, Inc. (c)

9/15/05


289,250


289,250Phoenix Fabrications, Inc.

9/8/05


348,830


348,830Kotarides Baking Co. of VA (c)

6/5/01


577,336


577,336Kotarides Baking Co. of VA

Demand


200,000


200,000AmeriComm Direct Marketing LLC

12/29/05


750,000


750,000Triangle Biomedical Sciences

12/8/01


164,843


164,843Tangent Solutions, Inc. (formerly Electronic BusinessSystems, Inc.) (b) (c)




2,038,287


92,284Total debt securities




11,229,040


6,514,395


Stock Options and Warrants:

Number of Shares

Percentage Ownership

Cost or Contributed Value

Fair ValuePublicly Traded Companies:Netplex Group, Inc. (a)

300,000

2.10

$
900,000

$
Tangent Solutions, Inc. (formerly Electronic BusinessSystems, Inc.) (a) (b)

98,000

0.63





Private Companies:Real Time Data Management Services, Inc.

125

29.41


115,000


157,270Delta Education Systems, Inc.

639

39.00


48,200


75,413Diversified Telecom, Inc.

8,998

15.00





Crispies, Inc.

524

6.37


2,800


4,395Triangle Biomedical Sciences

632,916

12.20


171,967


216,485Extraction Technologies of VA, LLC (d)



39.00


337,567


JMS Worldwide, Inc.

199

5.00





EPM Development Systems Corp.

87

8.00


11,600


1,177,415Fire King International

4

4.00





CCT Holdings (formerly SECC)

150,000

3.15





Eton Court Asset Management, Ltd.

14,943

13.00


34,700


34,700Fairfax Publishing Co., Inc.

1,026

20.30


123,238


426,638ISR Solutions, Inc.

588,334

5.90


12,936


12,936Digital Square, Inc.

150,000




75,000


75,000Answernet, Inc.

69,837

16.50


268,615


268,615TABET Manufacturing Co., Inc.

487,500

19.50


175,400


175,400National Assisted Living, LP



15.00


667,000


Capital Markets Group, Inc.

2,294,118

15.00





Jubilee Tech International, Inc.

400,000

1.60


240,000


240,000VentureCom, Inc.

38,943

0.37





New Dominion Pictures LLC



9.00


464,650


464,650Mayfair Enterprises, Inc.



15.00


214,400


214,400Phoenix Fabrications, Inc.



25.00


297,000


297,000Kotarides Baking Co. of VA



13.75


185,625


185,625Total options and warrants






4,345,698


4,025,942Total investments





$
41,702,728

$
33,686,908




25




---

##### Table of Contents



SCHEDULE OF PORTFOLIO INVESTMENTS  continued







The Companys investment portfolio at June 30, 2002 consisted of
the following:





Equity Securities:

Number of Shares

Cost or Contributed Value

Fair ValuePublicly Traded Companies:Avery Communications, Inc. Preferred Stock

1,250,000

$
1,250,000

$
1,250,000Netplex Group, Inc. Common Stock

66,400


464,800


2,058Netplex Group, Inc. Preferred Stock

500,000


500,000


500,000Primal Solutions, Inc. Common Stock

200,000


4,000


6,800Private Companies:Real Time Data Management Services, Inc. Preferred Stock

125


115,000


100,000Delta Education Systems, Inc. Preferred Stock

400


400,000


400,000Diversified Telecom, Inc. Preferred Stock (c)

1,500


1,500,000


508,512Crispies, Inc. Preferred Stock

400


399,440


399,440Triangle Biomedical Sciences Common Stock (e)

54,743


223,738


268,256Triangle Biomedical Sciences Preferred Stock (e)

2,200


2,144,272


2,144,272EPM Development Systems Corp. Preferred Stock

1,500


1,497,487


1,497,487Fire King International Preferred Stock

2,000


2,000,000


2,000,000CCT Holdings (formerly SECC) Common Stock

840,000


60


60Eton Court Asset Management, Ltd. Preferred Stock (c)

1,000


987,277


Fairfax Publishing Co., Inc. Preferred Stock

600


580,448


580,448Digital Square, Inc. Convertible Preferred Stock (c)

1,210,739


1,513,425


Answernet, Inc. Preferred Stock

1,085


728,997


728,997Capital Markets Group, Inc. Preferred Stock (c)

1,500


1,500,000


Jubilee Tech International, Inc. Convertible Preferred Stock (c)

2,200,000


2,049,947


2,049,947VentureCom, Inc. Convertible Preferred Stock

278,164


2,000,000


2,000,000Phoenix Fabrications, Inc. Preferred Stock (c)

400


283,229


AmeriComm Direct Marketing LLC Common Stock

27,696


28


28Signius Investment Corporation Common Stock (e)

2,059


332,595


586,815Wireless Systems Engineering, Inc. (formerly JMSWorldwide, Inc,) Common Stock (f)

8,000


2,350,000


281,000Total equity securities




22,824,743


15,304,120





Debt Securities:

Maturity

Cost or Contributed Value

Fair ValueAvery Communications, Inc. Convertible Note

12/31/06

$
680,681

$
680,681Diversified Telecom, Inc. (c)

10/13/03


69,250


69,250Diversified Telecom, Inc. (c)

5/19/02


131,238


131,238Fire King International

Demand


550,000


550,000TABET Manufacturing Co., Inc.

12/31/04


332,819


332,819National Assisted Living, LP (c)

12/31/04


835,880


New Dominion Pictures LLC

06/01/06


848,812


848,812Mayfair Enterprises, Inc.

03/31/05


816,923


816,923Digital Square, Inc. (c)

Demand


289,250


Phoenix Fabrications, Inc. (c)

9/8/05


379,038


AmeriComm Direct Marketing LLC

12/29/05


750,000


750,000Triangle Biomedical Sciences (e)

6/30/05


187,101


187,101Triangle Biomedical Sciences (e)

6/30/05


358,916


358,916Triangle Biomedical Sciences (e)

12/21/05


200,000


200,000Jubilee Tech International, Inc. (c)

3/21/02


125,000


125,000Netplex Group, Inc.

5/1/06


500,000


500,000Netplex Group, Inc.

7/1/06


733,290


733,290Eton Court Asset Management, Ltd. (c)

5/18/04


541,246


541,246Caldwell/VSR, Inc.

12/16/06


1,637,894


1,637,894Total debt securities




9,967,338


8,463,170




26




---

##### Table of Contents



SCHEDULE OF PORTFOLIO INVESTMENTS  continued







Number of Shares

Percentage Ownership

Cost or Contributed Value

Fair ValueStock Options and Warrants:Private Companies:Diversified Telecom, Inc.

8,998

15.00

$


$
Crispies, Inc.

56,250

12.00


2,800


4,800EPM Development Systems Corp.

201

7.60


11,600


1,177,415Fire King International

67

4.00





Fire King Security Products, LLC



4.00





Image Vault, LLC



4.00





Eton Court Asset Management, Ltd.

21,848

18.50


34,700


Fairfax Publishing Co., Inc.

1,026

20.30


123,238


426,638ISR Solutions, Inc.

534,167

2.25


11,744


801,745Digital Square, Inc.

150,000




75,000


Answernet, Inc.

69,837

16.50


268,615


643,615TABET Manufacturing Co., Inc.

487,500

19.50


175,400


175,400National Assisted Living, LP



15.00


667,000


Capital Markets Group, Inc.

2,294,118

15.00





Jubilee Tech International, Inc.

400,000

1.60


240,000


VentureCom, Inc.

38,943

0.37





New Dominion Pictures LLC



9.00


464,650


464,650Phoenix Fabrications, Inc.



25.00


297,000


Caldwell/VSR, Inc.



5.75


95,270


95,270Mayfair Enterprises, Inc.



22.30


90,000


90,000Total options and warrants






2,557,017


3,879,533Total investments





$
35,349,098

$
27,646,823





|(a) |  | Rule 144A restricted securities.
|--- |  | --------------------------------




|(b) |  | This entity filed Chapter 11 bankruptcy on September 1, 2000.
|--- |  | -------------------------------------------------------------




|(c) |  | Entity is in arrears with respect to dividend/interest payments.
|--- |  | ----------------------------------------------------------------




|(d) |  | This entity filed Chapter 11 bankruptcy on December 26, 2000.
|--- |  | -------------------------------------------------------------




|(e) |  | This entity is considered an affiliate of the Company.
|--- |  | ------------------------------------------------------




|
|



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Shareholder Information





Corporate Office   Norfolk, Virginia 300 E. Main Street, Suite 1380 Norfolk, Virginia
23510 Telephone: 757-626-1111 Facsimile: 757-626-0114 waterside@watersidecapital.com

Stock Transfer Agent and Registrar  Investors with questions concerning account information, replacing lost or stolen certificates, transferring securities or processing a change of address should contact:
 Registrar and TransferCompany  10 Commerce Drive Cranford, New Jersey 07016-3572 Telephone: 800-368-5948
Facsimile: 908-497-2310

Investor Relations   Investors requiring information about the company should contact:
 Gerald T. McDonald Chief Financial Officer
Telephone: 757-626-1111 Facsimile: 757-626-0114 gmcdonald@watersidecapital.com  Annual Meeting of Shareholders  The annual shareholders meeting will be held Monday, October 28, 2002 at 11:00 a.m. at Nauticus, One
Waterside Drive, Norfolk, Virginia All shareholders are invited to attend.

Stock Listing   Waterside Capital Corporation Common Stock is traded on the Nasdaq Stock Market under the symbol WSCC.  Independent Public Accountants  KPMG LLP Norfolk, Virginia  Corporate Counsel 
Kaufman & Canoles Norfolk, Virginia





Directors and Officers





Directors                                   
                                        
                                        
                                        
              Officers





Peter M. Meredith, Jr.1,2,3 Chairman of the Board President Meredith Construction Co., Inc.  J. Alan Lindauer1 President and Chief Executive Officer  James E. Andrews Principal Owner Anzell Automotive, Inc.  J.W. Whiting Chisman, Jr.1,3 President Dare
Investment Company  Marvin S. Friedberg Chief Executive
Officer Virginia Commonwealth Trading Company 
Eric L. Fox Portfolio Manager Paine
Webber

Roger L. Frost2 Retired  Ernest F.
Hardee1,3 President
and ChiefExecutive Officer Hardee Realty Corporation  Henry U.
Harris, III Director Virginia Investment Counselors, Inc.  Robert I. Low1,2 Retired  Charles H. Merriman,
III1 Retired

Augustus C. Miller President and ChiefExecutive Officer Miller Oil Co., Inc.  Juan M. Montero, II General and ThoracicSurgery  R. Scott Morgan, Sr.1 President TowneBank  Richard G. Ornstein1 Real Estate Management and Development  Jordan E. Slone Chairman and ChiefExecutive Officer Harbor Group Companies

J. Alan Lindauer President and ChiefExecutive Officer  Gerald T. McDonald Secretary and ChiefFinancial Officer  Martin N. Speroni Vice President andDirector of Research  Lex W. Troutman Vice President andBusiness DevelopmentOfficer





1 Executive Committee


2 Audit Committee


3 Compensation/Stock Option Committee




28




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##### Table of Contents




WATERSIDE CAPITAL CORPORATION


300 East Main Street  Suite 1380  Norfolk, Virginia 23510


www.waterside@watersidecapital.com