10-Q 1 ten-q.txt 10-Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q (X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2003 ( ) TRANSITION REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission File Number: 33-69996 COMMONWEALTH INCOME & GROWTH FUND III (Exact name of registrant as specified in its charter) Pennsylvania 23-2895714 (State or other jurisdiction of (I.R.S. Employer Identification Number) incorporation or organization) 470 John Young Way Suite 300 Exton, PA 19341 (Address, including zip code, of principal executive offices) (610) 594-9600 (Registrant's telephone number including area code) Indicate by check mark whether the registrant (i) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months, and (III) has been subject to such filing requirements for the past 90 days: YES [X] NO [ ] Commonwealth Income & Growth Fund III Balance Sheets

see accompanying notes to financial statements Commonwealth Income & Growth Fund III Statements of Operations

see accompanying notes to financial statements

see accompanying notes to financial statements Commonwealth Income & Growth Fund III Statements of Cash Flow For the Six Months Ended June 30, 2003 and 2002

see accompanying notes to financial statements NOTES TO FINANCIAL STATEMENTS 1. Business Commonwealth Income & Growth Fund III (the "Partnership") is a limited partnership organized in the Commonwealth of Pennsylvania. The Partnership offered for sale up to 750,000 Units of the limited partnership at the purchase price of $20 per unit (the "Offering"). The Offering was terminated at the close of business on July 31, 2000 by the General Partner. The Partnership used the proceeds of the Offering to acquire, own and lease various types of computer peripheral equipment and other similar capital equipment, which will be leased primarily to U.S. corporations and institutions. Commonwealth Capital Corp ("CCC"), on behalf of the Partnership and other affiliated partnerships, acquires computer equipment subject to associated debt obligations and lease agreements and allocates a participation in the cost, debt and lease revenue to the various partnerships based on certain risk factors. The Partnership's General Partner is Commonwealth Income & Growth Fund, Inc. (the "General Partner"), a Pennsylvania corporation that is an indirect wholly owned subsidiary of CCC. Approximately ten years after the commencement of operations, the Partnership intends to sell or otherwise dispose of all of its computer equipment, make final distributions to partners, and to dissolve. Unless sooner terminated, the Partnership will continue until December 31, 2009. 2. Summary of Basis of Presentation Significant Accounting The financial information presented as of any Policies date other than December 31 has been prepared from the books and records without audit. Financial information as of December 31 has been derived from the audited financial statements of the Partnership, but does not include all disclosures required by generally accepted accounting principles. In the opinion of management, all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of the financial information for the periods indicated have been included. For further information regarding the Partnership's accounting policies, refer to the financial statements and related notes included in the Partnership's annual report on Form 10-K for the year ended December 31, 2002. Operating results for the six-month period ended June 30, 2003 are not necessarily indicative of financial results that may be expected for the full year ended December 31, 2003. Revenue Recognition Through June 30, 2003, the Partnership has only entered into operating leases. Lease revenue is recognized on a monthly basis in accordance with the terms of the operating lease agreements. The Partnership reviews a customer's credit history before extending credit and establishes a provision for uncollectible accounts receivable based upon the credit risk of specific customers, historical trends and other information. Use of Estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Long-Lived Assets The Partnership evaluates its long-lived assets when events or circumstances indicate that the value of the asset may not be recoverable. The Partnership determines whether impairment exists by estimating the undiscounted cash flows to be generated by each asset. If the estimated undiscounted cash flows are less than the carrying value of the asset then impairment exists. The amount of the impairment is determined based on the difference between the carrying value and the fair value. Fair value is determined based on estimated discounted cash flows to be generated by the asset. As of June 30, 2003, there is no impairment. Depreciation on computer equipment for financial statement purposes is based on the straight-line method over estimated useful lives of four years. Intangible Assets Equipment acquisition costs and deferred expenses, are amortized on a straight-line basis over two- to-four year lives. Unamortized acquisition fees and deferred expenses are charged to amortization expense when the associated leased equipment is sold. Cash and Cash Equivalents The Company considers all highly liquid investments with a maturity of three months or less to be cash equivalents. Income Taxes The Partnership is not subject to federal income taxes; instead, any taxable income (loss) is passed through to the partners and included on their respective income tax returns. Taxable income differs from financial statement net income as a result of reporting certain income and expense items for tax purposes in periods other than those used for financial statement purposes, principally relating to depreciation, amortization, and lease income. Offering Costs Offering costs are payments for selling commissions, dealer manager fees, professional fees and other offering expenses relating to the syndication. Selling commissions were 7% of the partners' contributed capital and dealer manager fees were 2% of partners' contributed capital. These costs were deducted from partnership capital in the accompanying financial statements. Net Income (Loss) Per Equivalent Limited Partnership Unit The net income (loss) per equivalent limited partnership unit is computed based upon net income (loss) allocated to the limited partners and the weighted average number of equivalent units outstanding during the period. Reimbursable Expenses Reimbursable expenses, which are charged to the Partnership by CCC in connection with the administration and operation of the Partnership, are allocated to the Partnership based upon several factors including, but not limited to, the number of investors, compliance issues, and the number of existing leases. 3. Computer The Partnership is the lessor of equipment Equipment under operating leases with periods ranging from 24 to 36 months. In general, the lessee pays associated costs such as repairs and maintenance, insurance and property taxes. The Partnership's share of the computer equipment in which they participate with other partnerships at June 30, 2003 and December 31, 2002 was approximately $277,000 for both periods, which is included in the Partnership's fixed assets on their balance sheet, and the total cost of the equipment shared by the Partnership with other partnerships at June 30, 2003 and December 31, 2002 was approximately $2,156,000 for both periods. The Partnership's share of the outstanding debt associated with this equipment at June 30, 2003 and December 31, 2002 was approximately $84,000 and $129,000, respectively, which is included in the Partnership's liabilities on the balance sheet, and the total outstanding debt at June 30, 2003 and December 31, 2002 related to the equipment shared by the Partnership was approximately $859,000 and $1,197,000, respectively. The following is a schedule of future minimum rentals on noncancellable operating leases at June 30, 2003:

4. Notes Payable Notes payable consisted of the following:

These notes are secured by specific computer equipment and are nonrecourse liabilities of the Partnership. Aggregate maturities of notes payable for each of the periods subsequent to June 30, 2003 are as follows:

5. Supplemental Other noncash activities included in the Cash Flow determination of net loss are as follows: Information Six months ended June 30, 2003 2002 ---------------------------------------------------------------------------- Lease income, net of interest expense on notes payable realized as a result of direct payment of principal by lessee to bank $93,446 $198,211 No interest or principal on notes payable was paid by the Partnership because direct payment was made by lessee to the bank in lieu of collection of lease income and payment of interest and principal by the Partnership. Noncash investing and financing activities include the following: Six months ended June 30, 2003 2002 ---------------------------------------------------------------------------- Debt assumed in connection with purchase of computer equipment $ - $220,413 ---------------------------------------------------------------------------- Item 2: Management's Discussion and Analysis of Financial Condition and Results of Operations CRITICAL ACCOUNTING POLICIES Financial Reporting Release No. 60, which was released by the Securities and Exchange Commission, requires all companies to include a discussion of critical accounting policies or methods used in the preparation of financial statements. Our significant accounting policies are described in Note 1 of the Notes to the Financial Statements. The significant accounting policies that we believe are the most critical to aid in fully understanding our reported financial results include the following: COMPUTER EQUIPMENT CCC, on behalf of the Partnership and other affiliated partnerships, acquires computer equipment subject to associated debt obligations and lease agreements and allocates a participation in the cost, debt and lease revenue to the various partnerships based on certain risk factors. REVENUE RECOGNITION Through June 30, 2003, the Partnership has only entered into operating leases. Lease revenue is recognized on a monthly basis in accordance with the terms of the operating lease agreements. The Partnership reviews a customer's credit history extending credit and establishes provisions for uncollectible accounts based upon the credit risk of specific customers, historical trends and other information. LONG-LIVED ASSETS The Partnership evaluates its long-lived assets when events or circumstances indicate that the value of the asset may not be recoverable. The Partnership determines whether impairment exists by estimating the undiscounted cash flows to be generated by each asset. If the estimated undiscounted cash flows are less than the carrying value of the asset then impairment exists. The amount of the impairment is determined based on the difference between the carrying value and the fair value. Fair value is determined based on estimated discounted cash flows to be generated by the asset. Depreciation on computer equipment for financial statement purposes is based on the straight-line method over estimated useful lives of four years. Liquidity and Capital Resources The Partnership's primary sources of capital for the six months ended June 30, 2003 and 2002 were cash from operations of $133,000 and $6,000, respectively. Net proceeds received from sales of equipment were approximately $38,000 and $193,000, respectively. The primary uses of cash for the six months ended June 30, 2003 and 2002 was for payments of preferred distributions to partners of approximately $159,000 and $89,000, respectively, and for the purchase of new computer equipment of approximately $65,000 for the period ending June 30, 2002. There was no new equipment purchased in 2003. For the period ending June 30, 2003, the Partnership generated cash flow from operating activities of $133,000, which includes net loss of $109,000 and depreciation and amortization expenses of $226,000. Other noncash activities included in the determination of net income include direct payments of lease income by lessees to banks of $93,000. For the six month period ended June 30, 2002, the Partnership generated cash flows from operating activities of $6,000, which includes a net loss of $109,000, a gain on sale of equipment totaling $9,000, and depreciation and amortization expenses of $390,000. Other noncash activities included in the determination of net loss include direct payments of lease income by lessees to banks of $198,000. The Partnership sold computer equipment for the six months ending June 30, 2003 with a net book value of approximately $35,000 for a net gain on sale of equipment of approximately $3,000. For the period ended June 30, 2002, the Partnership sold computer equipment with a net book value of approximately $183,000 for a gain on sale of equipment of approximately $9,000. The Partnership's investment strategy of acquiring computer equipment and generally leasing it under "triple-net leases" to operators who generally meet specified financial standards minimizes the Partnership's operating expenses. As of June 30, 2003, the Partnership had future minimum rentals on non-cancelable operating leases of $134,000 for the balance of the year ending December 31, 2003 and $123,000 thereafter. At June 30, 2003, the outstanding debt was $160,000, with interest rates ranging from 6.25% to 8.00%, and will be payable through April 2005. The Partnership's cash from operations is expected to continue to be adequate to cover all operating expenses, liabilities, and preferred distributions to Partners during the next 12-month period. If available Cash Flow or Net Disposition Proceeds are insufficient to cover the Partnership expenses and liabilities on a short and long term basis, the Partnership will attempt to obtain additional funds by disposing of or refinancing Equipment, or by borrowing within its permissible limits. The Partnership may, from time to time, reduce the distributions to its Partners if it deems necessary. Since the Partnership's leases are on a "triple-net" basis, no reserve for maintenance and repairs are deemed necessary. The Partnership's share of the computer equipment in which they participate with other partnerships at June 30, 2003 and December 31, 2002 was approximately $277,000 for both periods, which is included in the Partnership's fixed assets on their balance sheet, and the total cost of the equipment shared by the Partnership with other partnerships at June 30, 2003 and December 31, 2002 was approximately $2,156,000 for both periods. The Partnership's share of the outstanding debt associated with this equipment at June 30, 2003 and December 31, 2002 was approximately $84,000 and $129,000, respectively, which is included in the Partnership's liabilities on the balance sheet, and the total outstanding debt at June 30, 2003 and December 31, 2002 related to the equipment shared by the Partnership was approximately $859,000 and $1,197,000, respectively. Results of Operations Three Months Ended June 30, 2003 compared to Three Months Ended June 30, 2002 ----------------------------------------------------------------------------- For the quarter ended June 30, 2003, the Partnership recognized income of $114,000 and expenses of $154,000, resulting in a net loss of $40,000. For the quarter ended June 30, 2002, the Partnership recognized income of $186,000 and expenses of $271,000, resulting in a net loss of $85,000. Lease income decreased by 41% to $107,000 for the quarter ended June 30, 2003, from $182,000 for the quarter ended June 30, 2002, primarily due to the fact that more lease agreements ended than new lease agreements acquired since the quarter ended June 30, 2002. Operating expenses, excluding depreciation, primarily consist of accounting, legal, outside service fees and reimbursement of expenses to CCC for administration and operation of the Partnership. The expenses decreased 17% to approximately $54,000 for the quarter ended June 30, 2003, from $65,000 for the quarter ended June 30, 2002, which is primarily attributable to an increase in the amount charged by CCC, a related party, to the Partnership for the administration and operation of approximately $1,000, a decrease in accounting fees of approximately $6,000, a decrease in insurance of approximately $4,000 and a decrease in miscellaneous outside office services of approximately $2,000. The equipment management fee is approximately 5% of the gross lease revenue attributable to equipment that is subject to operating leases. The equipment management fee decreased 41% to approximately $5,000 for the quarter ended June 30, 2003, from $9,000 for the quarter ended June 30, 2002, which is consistent with the decrease in lease income. Depreciation and amortization expenses consist of depreciation on computer equipment and amortization of equipment acquisition fees. The expenses decreased 48% to approximately $91,000 for the quarter ended June 30, 2003, from $176,000 for the quarter ended June 30, 2002 due to equipment and acquisition fees being fully depreciated/amortized and not being replaced with as many new purchases. The partnership did not record bad debt expenses for the quarter ended June 30, 2003. The Partnership recorded bad debt expenses of approximately $16,000 related to disputed accounts receivables balances for the quarter ended June 30, 2002. The Partnership sold computer equipment with a net book value of $30,000 for the quarter ended June 30, 2003, for a net gain of $6,000. The Partnership sold computer equipment with no net book value for the quarter ended June 30, 2002, for a net gain of $4,000. Interest expense decreased 36% to $3,000 for the quarter ended June 30, 2003 from $5,000 for the quarter ended June 30, 2002, primarily due to the decrease in debt relating to the purchase of computer equipment. Six Months Ended June 30, 2003 compared to Six Months Ended June 30, 2002 ------------------------------------------------------------------------- For the six months ended June 30, 2003, the Partnership recognized income of $250,000 and expenses of $359,000, resulting in a net loss of $109,000. For the six months ended June 30, 2002, the Partnership recognized income of $466,000 and expenses of $575,000, resulting in a net loss of $109,000. Lease income decreased by 46% to $247,000 for the six months ended June 30, 2003, from $457,000 for the six months ended June 30, 2002, primarily due to the fact that more lease agreements ended than new lease agreements acquired since the six months ended June 30, 2002. Operating expenses, excluding depreciation, primarily consist of accounting, legal, outside service fees and reimbursement of expenses to CCC for administration and operation of the Partnership. The expenses decreased 11% to approximately $114,000 for the six months ended June 30, 2003, from $127,000 for the six months ended June 30, 2002, which is primarily attributable to an increase in the amount charged by CCC, a related party, to the Partnership for the administration and operation of approximately $8,000, an increase in licenses and filing fees of approximately $4,000, a decrease in conventions of approximately $4,000 and a decrease in accounting fees of approximately $20,000. The equipment management fee is approximately 5% of the gross lease revenue attributable to equipment that is subject to operating leases. The equipment management fee decreased 46% to approximately $12,000 for the six months ended June 30, 2003, from $22,000 for the six months ended June 30, 2002, which is consistent with the decrease in lease income. Depreciation and amortization expenses consist of depreciation on computer equipment and amortization of equipment acquisition fees. The expenses decreased 42% to approximately $226,000 for the six months ended June 30, 2003, from $390,000 for the six months ended June 30, 2002 due to equipment and acquisition fees being fully depreciated/amortized and not being replaced with as many new purchases. The partnership did not record bad debt expenses for the quarter ended June 30, 2003. The Partnership recorded bad debt expenses of approximately $24,000 related to disputed accounts receivables balances for the quarter ended June 30, 2002. The Partnership sold computer equipment with a net book value of $35,000 for the six months ended June 30, 2003, for a net gain of $3,000. The Partnership sold computer equipment with a net book value of $183,000 for the six months ended June 30, 2002, for a net gain of $9,000. Interest expense decreased 31% to $8,000 for the six months ended June 30, 2003 from $11,000 for the six months ended June 30, 2002, primarily due to the decrease in debt relating to the purchase of computer equipment. RECENT ACCOUNTING PRONOUNCEMENTS SFAS 150 In May 2003, the FASB issued FASB Statement No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity, which establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of liabilities and equity. It requires that an issuer classify a financial instrument that is within its scope as a liability (or an asset in some circumstances). Many of those instruments were previously classified as equity. SFAS is applicable immediately for financial instruments entered into or modified after May 31, 2003 and otherwise shall be effective at the beginning of the first interim period beginning after June 15, 2003. The Partnership believes that the adoption of SFAS 150 will not have an impact on its financial position and results of operations. Item 3. Quantitative and Qualitative Disclosures About Market Risk The Partnership believes its exposure to market risk is not material due to the fixed interest rate of its long- term debt and its associated fixed revenue streams. Item 4. Controls and Procedures The Chief Executive Officer and a Financial Officer of the Partnership have conducted a review of the Partnership's disclosure controls and procedures as of June 30, 2003. The Company's disclosure controls and procedures include the Partnership's controls and other procedures designed to ensure that information required to be disclosed in this and other reports filed under the Securities Exchange Act of 1934, as amended (the " Exchange Act") is accumulated and communicated to the Partnership's management, including its chief executive officer and a financial officer, to allow timely decisions regarding required disclosure and to ensure that such information is recorded, processed, summarized and reported with the required time periods. Based upon this review, the Partnership's Chief Executive Officer and the a Financial Officer have concluded that the Partnership's disclosure controls (as defined in pursuant to Rule 13a-14 c promulgated under the Exchange Act) are sufficiently effective to ensure that the information required to be disclosed by the Partnership in the reports it files under the Exchange Act is recorded, processed, summarized and reported with adequate timeliness. Part II: OTHER INFORMATION Commonwealth Income & Growth Fund III Item 1. Legal Proceedings. Inapplicable Item 2. Changes in Securities. Inapplicable Item 3. Defaults Upon Senior Securities. Inapplicable Item 4. Submission of Matters to a Vote of Securities Holders. Inapplicable Item 5. Other Information. Inapplicable Item 6. Exhibits and Reports on Form 8-K. a) Exhibits: 31.1 THE RULE 15d-14(a) 31.2 THE RULE 15d-14(a) 32.1 SECTION 1350 CERTIFICATION OF CEO 32.2 SECTION 1350 CERTIFICATION OF CFO SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. COMMONWEALTH INCOME & GROWTH FUND III BY: COMMONWEALTH INCOME & GROWTH FUND, INC. General Partner August 12, 2003 By: /s/ George S. Springsteen --------------- -------------------------------- Date George S. Springsteen President

COMMONWEALTH INCOME & GROWTH FUND III 10-Q