TMCnet News
AUTHENTIDATE HOLDING CORP - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations(Edgar Glimpses Via Acquire Media NewsEdge) Forward-Looking Statements and Factors That May Affect Future Results Certain statements in this Form 10-Q, including information set forth under Item 2 Management's Discussion and Analysis of Financial Condition and Results of Operations constitute "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995 (the "Act"). We desire to avail ourselves of certain "safe harbor" provisions of the Act and are therefore including this special note to enable us to do so. Forward-looking statements in this Form 10-Q or hereafter included in other publicly available documents filed with the Securities and Exchange Commission, reports to our stockholders and other publicly available statements issued or released by us involving known and unknown risks, uncertainties and other factors which could cause our actual results, performance (financial or operating) or achievements to differ from the future results, performance (financial or operating) or achievements expressed or implied by such forward-looking statements. Such future results are based upon our management's best estimates based upon current conditions and the most recent results of operations. These risks include, but are not limited to risks associated with the market acceptance of our software, products and services, competition, pricing, technological changes, implementation of our business plan, and other risks as discussed in our filings with the Securities and Exchange Commission, in particular our Annual Report on Form 10-K for the year ended June 30, 2013 and our subsequently filed quarterly reports on Form 10-Q, all of which risk factors could adversely affect our business and the accuracy of the forward-looking statements contained herein. Overview Authentidate Holding Corp. (Authentidate or the company) and its subsidiaries provide secure web-based software applications and telehealth products and services that enable healthcare organizations to increase revenues, improve productivity, reduce costs, coordinate care for patients and enhance related administrative and clinical workflows and compliance with regulatory requirements. Our web-based services are delivered as Software as a Service (SaaS) to our customers interfacing seamlessly with billing and document management systems. These solutions incorporate multiple features and security technologies such as rules based electronic forms, intelligent routing, transaction management, electronic signatures, identity credentialing, content authentication, automated audit trails and remote patient monitoring capabilities. Both web and fax-based communications are integrated into automated, secure and trusted workflow solutions. Our telehealth solutions provide in-home patient vital signs monitoring systems and services to improve care for patients and reduce the cost of care by delivering results to their healthcare providers via the Internet. Our telehealth solutions combine our Electronic House Call™ or our tablet based patient vital signs monitoring appliances or our Interactive Voice Response patient vital signs monitoring solution with a web-based management and monitoring software module based on our Inscrybe® Healthcare platform. Both solutions enable unattended measurements of patients' vital signs and related health information and are designed to aid wellness and preventative care, and deliver better care to specific patient segments who require regular monitoring of medical and behavioral health conditions. Healthcare providers can easily view each specific patient's vital statistics and make adjustments to the patient's care plans securely via the Internet. This service provides a combination of care plan schedule reminders and comprehensive disease management education as well as intelligent routing to alert on-duty caregivers whenever a patient's vital signs are outside of the practitioner's pre-set ranges. Healthcare providers and health insurers are also expected to benefit by having additional tools to improve patient care, reduce in-person and emergency room patient visits and hospital readmissions. We operate our business in the US with technology and service offerings that address emerging growth opportunities based on the regulatory and legal requirements specific to each market. Our business is engaged in the development and sale of web-based services largely based on our Inscrybe® platform and related capabilities and telehealth services featuring our Electronic House Call, Interactive Voice Response and related products and services. In recent years we have focused our efforts on developing and introducing solutions for use in the healthcare information technology industry. We believe there are a number of factors that will be favorable for the healthcare information technology industry in the near future, despite the lingering uncertainty regarding the global economy. These factors include on-going regulatory reforms in the U.S. focused on controlling costs, automating medical records and processes and expanding the availability of healthcare coverage, and healthcare industry trends to significantly reduce costs, shorten the length of hospital stays, reduce hospital readmissions, shift patient care towards wellness and preventative care programs and automate healthcare records and processes. Because healthcare information technology solutions play an important role in healthcare by improving safety, efficiency and reducing cost, they are often viewed as more strategic than other capital purchases. In addition, government agencies, as well as politicians and policymakers appear to agree that the growing cost of our healthcare system is unsustainable and the intelligent use of information systems will improve health outcomes and, correspondingly, drive down costs. The broad recognition that healthcare information technology is essential to help control healthcare costs and improve quality contributed to the inclusion of healthcare information technology incentives in the American Recovery and Reinvestment Act (ARRA) and accompanying Health Information Technology for Economic and Clinical 17-------------------------------------------------------------------------------- Table of Contents Health (HITECH) provisions which include more than $35 billion in incentives for healthcare organizations to modernize operations through "meaningful use" of healthcare information technology. Further, as more consumers are provided with insurance coverage, healthcare providers may face increased volumes that could create capacity constraints, and they may find it challenging to profitably provide care at the planned reimbursement rates under the expanded coverage models. Another aspect of the market for healthcare information technology is the shift away from fee-for-service or volume-based reimbursement towards value-based or outcomes-based reimbursement. Payers, including health insurance companies and federal and state governments are implementing programs to link reimbursement to quality measurements and outcomes, and this alignment creates significant financial motivation for adoption of healthcare information technology products and services. We believe that there are substantial sums of reimbursement funds that are tied to incentive programs such as value based purchasing, 30-day readmission rules and quality reporting requirements. There are also a growing number of third-party studies that document how telehealth can positively impact the way healthcare is delivered. From chronic care to behavioral health and wellness programs, a wide range of patient populations can benefit from telehealth. We believe that telehealth products are helping physicians and patients to accomplish a number of goals, including, shifting visits away from high-cost settings; reducing the cost of managing patients; reducing unnecessary hospital readmissions; reducing the duration of hospital stays; improving access to care for patients located in remote areas; and improving outcomes. We believe the factors discussed above will create strong incentives for providers to maximize efficiency and create the need for additional investments in healthcare information technology solutions and services. Thus, while the current economic environment has impacted our business, we believe the fundamental value proposition of healthcare information technology remains strong and that the healthcare information technology industry will likely benefit as healthcare providers and governments continue to recognize that these solutions and services contribute to safer, more efficient healthcare. We have experienced net losses and negative cash flow from operating activities while we have been focused on developing our products and services, refining our business strategies and repositioning our businesses for growth. Although we believe we are well positioned for such growth, we expect to continue to generate net losses and negative cash flow for the foreseeable future as we seek to expand our potential markets and generate increased revenues. As discussed in more detail below, we have completed several financing transactions, and sold non-core assets to fund our working capital needs. See "Liquidity and Capital Resources". During fiscal 2014 we have continued to take steps to refine our core product and service offerings, significantly expand our addressable markets, manage operating costs and position the company for long-term growth. We are focused on refining and marketing our Inscrybe® Healthcare Referral Management and Hospital Discharge solutions and our telehealth products and services. As discussed above, we believe our business will benefit as the federal government healthcare reforms are implemented and as trends in the U.S. healthcare industry to significantly reduce costs, shorten the length of hospital stays, reduce hospital readmissions, shift patient care towards wellness and preventative care programs and automate healthcare records and processes take hold. Although we have taken steps to focus our business in these areas, our progress will be impacted by the timing of customer contracts and implementations and the market acceptance of our products and services. During this period we have also advanced the development of our telehealth service offerings and continued to refine the capabilities of our Electronic House Call, Interactive Voice Response products and services and our mobile telehealth tablet and telehealth software application. In April 2011, we announced that we had been selected as a supplier to the Department of Veterans Affairs (VA) for its core coordination home Telehealth Program and in May 2014 we announced that the VA had exercised its third one-year option to extend the term of our contract, which also includes an additional one-year extension option. During fiscal 2013, we completed the required test-in phase with the VA for our Electronic House Call and Interactive Voice Response solutions and we received approval to begin the national rollout of these solutions to VA facilities throughout the U.S. and its territories. During the latter half of fiscal 2013, the company completed the integration and required testing of the interface between its telehealth solutions and the VA's VistA Electronic Health Records system, received approval to use the interface in the VA's national telehealth program and received approval for a number of new Disease Management Protocols (DMPs) for both of our telehealth solutions. During the contract period, the company will be committed to provide, subject to purchase orders from the VA, telehealth devices and certain associated software solutions. We believe that the VA telehealth project positions the company for success as this market develops in the commercial sector and provides a significant growth opportunity for the company as we work to support the VA in its efforts to deliver quality care to our veterans. There can be no assurance that the VA will exercise the remaining option period under the agreement nor can the company provide any assurances as to the actual amount of products and solutions, if any, that may ultimately be purchased by VA facilities under the agreement. Our current revenues consist principally of transaction fees for web-based hosted software services and revenues from hardware sales, monthly monitoring services and maintenance fees from our telehealth business. Growth in our business is affected by a number of factors, including general economic and business conditions, and is characterized by long sales cycles. The timing of customer contracts, implementations and ramp-up to full utilization can have a significant impact on results and we believe our results over a longer period of time provide better visibility into our performance. We intend to continue our efforts to market our web-based services and related products in our target markets. We also intend to focus on identifying additional applications and markets where our technology can address customer needs. 18 -------------------------------------------------------------------------------- Table of Contents Critical Accounting Policies Our discussion and analysis of our financial condition and results of operations is based upon our condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States and the rules of the Securities and Exchange Commission. The preparation of our condensed consolidated financial statements and related notes in accordance with generally accepted accounting principles requires us to make estimates, which include judgments and assumptions that affect the reported amounts of assets, liabilities, revenue, and expenses, and related disclosure of contingent assets and liabilities. We have based our estimates on historical experience and on various assumptions that we believe to be reasonable under the circumstances. We evaluate our estimates on a regular basis and make changes accordingly. Actual results may differ from these estimates under different assumptions or conditions. To the extent that there are material differences between these estimates and actual results, our financial condition or results of operations will be affected. A critical accounting estimate is based on judgments and assumptions about matters that are uncertain at the time the estimate is made. Different estimates that reasonably could have been used or changes in accounting estimates could materially impact our financial statements. We believe that the policies described below represent our critical accounting policies, as they have the greatest potential impact on our condensed consolidated financial statements. However, you should also review our Summary of Significant Accounting Policies beginning on page F-7 of Notes to Consolidated Financial Statements contained in our Annual Report on Form 10-K for the fiscal year ended June 30, 2013. Long-Lived Assets Long-lived assets, including property and equipment, software development costs, patent costs, trademarks and licenses are reviewed for impairment using an undiscounted cash flow approach whenever events or changes in circumstances such as significant changes in the business climate, changes in product offerings, or other circumstances indicate that the carrying amount may not be recoverable. Revenue Recognition Revenue is derived from web-based hosted software services, telehealth products and post contract customer support services. Revenue is recognized when persuasive evidence of an arrangement exists, delivery has occurred, the selling price is fixed and collectability is reasonably assured. Multiple-element arrangements are assessed to determine whether they can be separated into more than one unit of accounting. A multiple-element arrangement is separated into more than one unit of accounting if all of the following criteria are met: the delivered item has value to the customer on a standalone basis; there is objective and reliable evidence of the fair value of the undelivered items in the arrangement; if the arrangement includes a general right of return relative to the delivered items, and delivery or performance of the undelivered item is considered probable and substantially in our control. If these criteria are not met, then revenue is deferred until such criteria are met or until the period over which the last undelivered element is delivered, which is typically the life of the contract agreement. If these criteria are met, we allocate total revenue among the elements based on the sales price of each element when sold separately which is referred to as vendor specific objective evidence or VSOE. Revenue from web-based hosted software and related services and post contract customer support services is recognized when the related service is provided and, when required, accepted by the customer. Revenue from telehealth products is recognized when such products are delivered. Revenue from multiple element arrangements that cannot be allocated to identifiable items is recognized ratably over the contract term which is generally one year. Management Estimates Preparing financial statements requires management to make estimates, judgments and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses. Examples include estimates of loss contingencies and product life cycles, assumptions such as elements comprising a software arrangement, including the distinction between upgrades/enhancements and new products; when technological feasibility is achieved for our products; the potential outcome of future tax consequences; and determining when investment or other impairments exist. We maintain allowances for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. We make estimates on the future recoverability of capitalized amounts, we record a valuation allowance against deferred tax assets when we believe it is more likely than not that such deferred tax assets will not be realized and we make assumptions in connection with the calculations of share-based compensation expense. Actual results and outcomes may differ from management's estimates, judgments and assumptions. We have based our estimates on historical experience and on various assumptions that are believed to be reasonable under the circumstances and we evaluate our estimates on a regular basis and make changes accordingly. Historically, our estimates relative to our critical accounting estimates have not differed materially from actual results; however, actual results may differ from these estimates under different conditions. If actual results differ from these estimates and other considerations used in estimating amounts reflected in our condensed consolidated financial statements, the resulting changes could have a material adverse effect on our condensed consolidated statement of operations, and in certain situations, could have a material adverse effect on liquidity and our financial condition. 19-------------------------------------------------------------------------------- Table of Contents Share-Based Compensation Share-based compensation expense for stock options is determined using the Black-Scholes option pricing model which values options based on the stock price at the grant date, the exercise price of the option, the expected life of the option, the estimated volatility, expected dividend payments and the risk-free interest rate over the expected life of the options. The company computed the estimated fair values of all option-based compensation using the Black-Scholes option pricing model and the assumptions set forth in the following table. The company based its estimate of the life of these options on historical averages over the past five years and estimates of expected future behavior. The expected volatility was based on the company's historical stock volatility. The assumptions used in the company's Black-Scholes calculations for fiscal 2014 and 2013 are as follows: Weighted Average Expected Risk Free Dividend Volatility Option Life Interest Rate Yield Factor (Months) Fiscal year 2014 1.4 % 0 % 89 % 48 Fiscal year 2013 0.6 % 0 % 107 % 48 The Black-Scholes option-pricing model requires the input of highly subjective assumptions. Because the company's stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models may not provide a reliable single measure of the fair value of share-based compensation for employee and director stock options. Management will continue to assess the assumptions and methodologies used to calculate estimated fair value of share-based compensation as circumstances change and additional data becomes available over time, which may result in changes to these assumptions and methodologies. Such changes could materially impact the company's fair value determination. Concentrations of Credit Risk Financial instruments which subject us to concentrations of credit risk consist of cash and cash equivalents, marketable securities and trade accounts receivable. To reduce credit risk, we place our cash, cash equivalents and investments with several high credit quality financial institutions and typically invest in AA or better rated investments. We monitor our credit customers and we establish an allowance for doubtful accounts based upon factors surrounding the credit risk of specific customers, historical trends and other information. The following analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and notes thereto contained elsewhere in this Quarterly Report on Form 10-Q. 20 -------------------------------------------------------------------------------- Table of Contents Results of Operations Three and nine months ended March 31, 2014 compared to three and nine months ended March 31, 2013 Revenues were $1,221,000 for the quarter ended March 31, 2014 compared to $1,410,000 for the prior year period. These results reflect a decrease in revenues from both our hosted software services and our telehealth products and services due to lower transaction volumes and equipment sales, respectively. Revenues for the nine months ended March 31, 2014 were $4,486,000 compared to $3,382,000 for the prior year period reflecting an increase in revenues from our telehealth products and services which offset lower revenues from our hosted software services. Cost of revenues decreased to $835,000 for the quarter ended March 31, 2014 compared to $1,004,000 for the same period in the prior year, due primarily to lower costs related to telehealth revenues and lower data center maintenance expenses. Cost of revenues for the nine months ended March 31, 2014 was $3,072,000 compared to $2,521,000 for the prior year period reflecting higher costs related to telehealth revenues which offset lower data center maintenance expenses. Selling general and administrative (SG&A) expenses decreased to $1,602,000 for the quarter ended March 31, 2014 compared to $1,778,000 for the prior year period. The change is due primarily to lower legal expenses, lower investor relations expenses and a state payroll tax credit of approximately $73,000 which offset higher selling expenses and stock option expenses. SG&A expenses for the nine months ended March 31, 2014 were $5,071,000 compared to $5,140,000 for the prior year period reflecting higher selling expenses and stock option expenses which were offset primarily by lower legal expenses and state payroll tax credits of approximately $175,000. Product development expenses were $275,000 for the quarter ended March 31, 2014 compared to $273,000 for the prior year period. For the nine months ended March 31, 2014 product development expenses were $780,000 compared to $834,000 for the prior year period reflecting lower personnel expenses for the current period. Depreciation and amortization expense was $191,000 for the quarter ended March 31, 2014 compared to $213,000 for the prior year period. This change is due primarily to lower expenses for fixed assets and a decrease in amortization of capitalized software offset in part by the amortization of acquired licenses. For the nine months ended March 31, 2014 depreciation and amortization expense was $569,000 compared to $621,000 for the prior year period reflecting the same trends as the quarter. Other income was $101,000 for the quarter ended March 31, 2014 compared to other expense of $812,000 for the prior year period. For the nine months ended March 31, 2014 other expense was $26,000 compared to $2,184,000 for the prior year period. Other expense for the periods consists primarily of non-cash amortization of the debt discount on the company's senior secured notes payable. The decrease in the other expense for the current periods reflects the early extinguishment of certain senior secured notes in June 2013 in exchange for Series D preferred stock and warrants to purchase shares of common stock and a gain of approximately $101,000 on the sale of certain non-core assets. Net loss for the quarter ended March 31, 2014 was $1,581,000, or $0.04 per share, compared to $2,670,000, or $0.11 per share, for the prior year period. For the nine months ended March 31, 2014 net loss was $5,032,000, or $0.20 per share, compared to $7,918,000, or $0.33 per share, for the prior year period. The decrease in net loss for the periods is due primarily to a decrease in the non-cash amortization of the debt discount and the other factors discussed above. Liquidity and Capital Resources Overview Our operations and product development activities have required substantial capital investment to date. Our primary sources of funds have been the issuance of equity and the incurrence of third party debt. In February 2004, we completed a private placement of common stock from which we received net proceeds of approximately $69,100,000. Subsequent to this transaction, we have completed a number of financing transactions to increase our cash position and monetize non-core assets. Excluding the transactions discussed in more detail below, since 2004 we received net proceeds of approximately $11,590,000 from equity transactions and $3,650,000 from the sale of non-core assets. As described in greater detail in Notes 8 and 17 of Notes to Condensed Consolidated Financial Statements, in March 2012 the company sold $4,050,000 of senior secured promissory notes and 3,022,388 warrants to purchase shares of our common stock to accredited investors including several directors, officers and significant stockholders of the company from which we received net proceeds of approximately $4,000,000, in September 2012 the company sold $3,300,000 of senior secured promissory notes and 2,558,139 warrants to purchase shares of our common stock to accredited investors, including several directors and officers and significant stockholders of the company from which we received net proceeds of approximately $3,260,000, in June 2013, we completed the sale of 665,000 shares of Series D convertible preferred stock and 6,650,000 warrants in exchange for the cancellation of $6,500,000 of senior secured notes and $150,000 in cash and we completed a $4,450,000 underwritten public offering of 4,683,685 units (including the full exercise by the underwriter of the over-allotment option), each consisting of one share of common stock and one warrant to purchase one share of common stock, from which we received net proceeds of approximately $3,964,000 and in November 2013, we completed a private placement transaction of 2,347,625 shares of 21 -------------------------------------------------------------------------------- Table of Contents common stock and warrants to purchase 774,716 shares of common stock. We received net proceeds of approximately $2,400,000 from this transaction. As discussed more fully in Note 5 of Notes to Consolidated Financial Statements, in February 2014 we sold certain non-core assets for net proceeds of approximately $851,000. We are using the proceeds from these transactions for working capital and general corporate purposes, including supporting the rollout of our telehealth products and services. For the nine months ended March 31, 2014, expenditures for data center equipment and other assets totaled approximately $232,000 and expenditures for software licenses and other intangible assets totaled approximately $69,000. We have developed and intend to continue to develop new applications to grow our business and address new markets. In August 2012 we filed with the SEC a registration statement on Form S-3 and a pre-effective amendment to such registration statement under the Securities Act in December 2012. The shelf registration statement was declared effective by the SEC in December 2012 and replaces our prior shelf registration statement. This shelf registration statement allows us to sell, from time to time in one or more public offerings, shares of our common stock, shares of our preferred stock, debt securities or warrants to purchase common stock, preferred stock or debt securities, or any combination of such securities, for proceeds in the aggregate amount of up to $40 million, subject to SEC limitations. There is approximately $32 million available under this registration statement for future transaction, subject to SEC limitations. The terms of any such future offerings, if any, and the type of equity or debt securities would be established at the time of the offering. This disclosure shall not constitute an offer to sell or a solicitation of an offer to buy the securities, nor shall there be any sale of these securities in any jurisdiction in which an offer, solicitation or sale would be unlawful prior to registration or qualification under the securities laws of such jurisdiction. Any offer of the securities will be solely by means of the prospectus included in the registration statement and one or more prospectus supplements that will be issued at the time of the offering. At the company's special meeting of stockholders held on April 5, 2013, our stockholders approved the automatic conversion of the shares of Series C preferred stock into an aggregate of 3,551,541 shares of common stock, including 1,051,541 shares of common stock issued in lieu of accrued but unpaid dividends on the Series C preferred stock. Cash Flows At March 31, 2014, cash, cash equivalents and marketable securities amounted to approximately $2,630,000 and total assets at that date were $9,947,000. Since June 30, 2013 cash, cash equivalents and marketable securities decreased approximately $1,085,000 reflecting cash used principally to fund operating losses, product development activities, changes in working capital, capital expenditures and debt repayments during the nine months ended March 31, 2014. Cash used for the period includes investments in data center and related infrastructure equipment, investments in inventory, manufacturing licenses and other assets, the prepayment of certain insurance premiums and maintenance contracts and the repayment of $850,000 of debt representing all of the outstanding senior secured notes. We expect to continue to use cash to fund operating losses, changes in working capital, product development activities, and capital expenditures for the foreseeable future. Net cash used by operating activities for the nine months ended March 31, 2014 was approximately $3,587,000 compared to $4,497,000 for the prior year period reflecting less cash used for inventory and prepaid expenses during the current period. Net cash provided by investing activities, was $551,000 for the nine months ended March 31, 2014 compared to net cash used of $192,000 for the prior year period. This change reflects the sale of certain non-core assets during the current period offset in part by an increase in asset and related purchases for the current period. Net cash provided by financing activities for the nine months ended March 31, 2014 was approximately $1,951,000 compared to net cash provided of $3,207,000 for the prior year period. The amount for the current period reflects the net proceeds from the November 2013 private placement transaction less the repayment of the senior secured notes and the payment of preferred stock dividends. The amount for the prior year reflects the net proceeds from the secured note transaction in fiscal 2013, less the payment of preferred stock dividends. To date we have been largely dependent on our ability to sell additional shares of our common stock or other securities to obtain financing to fund our operating deficits, product development activities, business acquisitions, capital expenditures and telehealth activities. Under our current operating plan to grow our business, our ability to improve operating cash flow has been highly dependent on the market acceptance of our offerings. As mentioned in the "Overview section", we believe that the company will benefit from the federal government healthcare reforms and industry trends focused on automation and cost reduction. Based on our business plan, we expect our existing resources, revenues generated from operations and proceeds received from the exercise of outstanding warrants (of which there can be no assurance) to satisfy our working capital requirements for at least the next twelve months; however, no assurances can be given that we will be able to attain sales levels and support our costs through revenues derived from operations, generate sufficient cash flow to satisfy our other obligations or that the company will continue as a going concern. If our available cash resources and projected revenue levels are not sufficient to sustain our operations, or otherwise meet our cash needs, we will need to raise additional capital to fund operations and to meet our obligations in the future. To meet our financing requirements, we may raise funds through public or private equity offerings, debt financings or strategic alliances. Raising additional funds by issuing equity or convertible debt securities may cause our stockholders to experience substantial dilution in their ownership interests and new investors may have rights superior to the rights of our other stockholders. Raising additional funds 22-------------------------------------------------------------------------------- Table of Contents through debt financing, if available, may involve covenants that restrict our business activities and options. In addition, there can be no assurance that the company will be successful in raising additional capital, or securing financing when needed or on terms satisfactory to the company. If we are unsuccessful in raising additional capital we will need to reduce costs and operations substantially. Any inability to obtain required financing on sufficiently favorable terms could have a material adverse effect on our business, results of operations and financial condition. Our future capital requirements may vary materially from those now planned. The amount of capital that we will need in the future will depend on many factors, including: • our relationships with suppliers and customers; • the market acceptance of our software and services; • the levels of promotion and advertising that will be required to launch our new offerings and achieve and maintain a competitive position in the marketplace; • price discounts on our products and services to our customers; • our pursuit of strategic transactions; • our business, product, capital expenditure and research and development plans and product and technology roadmaps; • the level of accounts receivable and inventories that we maintain; • capital improvements to new and existing facilities; • technological advances; • our potential need to redeem our outstanding shares of preferred stock and repay our outstanding secured notes; and • our competitors' response to our offerings. Financing Activities Except as discussed above, we have not engaged in any external financing activities in fiscal 2014 and 2013. Other Matters The events and contingencies described below have impacted or may impact our liquidity and capital resources. Presently, 28,000 shares of our Series B preferred stock, originally issued in a private financing in October 1999, remain outstanding. As of October 1, 2004, our right to redeem these shares of Series B preferred stock is vested. Accordingly, we have the right to repurchase such shares at a redemption price equal to $25.00 per share, plus accrued and unpaid dividends. The holder, however, has the right to convert these shares of preferred stock into an aggregate of 250,000 shares of our common stock at a conversion rate of $2.80. In the event we elect to redeem these securities, the holder will be able to exercise its conversion right subsequent to the date that we issue a notice of redemption but prior to the deemed redemption date as would be set forth in such notice. As of March 31, 2014, no shares of the Series B preferred stock have been redeemed. In connection with our private placement of Series D preferred stock in June 2013, we issued 665,000 shares of Series D 5% convertible preferred stock. The Series D preferred stock is convertible into 6,125,024 shares of our common stock at an initial conversion rate of $1.08571 per share. Each share of Series D preferred stock has a stated value of $10.00 per share. The company has the right to repurchase these shares at the stated value per share, plus accrued and unpaid dividends, starting in June 2015 and to require the holders to convert such securities into common stock starting in June 2016. Each holder of our Series D preferred stock has the right to convert such shares into common stock at anytime commencing on the six month anniversary date of the issue date. The Series D preferred stock will pay dividends at the rate of 5% per annum, payable in cash or shares of common stock, at the company's option subject, however, to limitations required by the Nasdaq stock market. Commitments Office Lease Commitments We entered into the lease agreement for our executive offices on July 11, 2005. The lease was for a term of ten years and four months, with a commencement date of October 1, 2005 and covers approximately 19,700 total rentable square feet. The annual rent in the first year was $324,000 increasing to $512,000 in year 2 and increasing at regular intervals until year 10 when the annual rent would be approximately $561,000. Effective February 1, 2010, we amended our lease to reduce the annual rent to approximately $512,000 for the remaining lease term and extended the lease term for one year through January 2017. The lease also provides us with a one-time option to renew the lease for a term of five years at the then-current market rate. As part of the lease agreement, we posted a letter of credit securing our lease payments which was reduced to approximately $256,000. 23 -------------------------------------------------------------------------------- Table of Contents Contractual Commitments A summary of the contractual commitments associated with our lease obligations as of March 31, 2014 is as follows (in thousands): Less than 1 More than 5 Total year 1-3 years 4-5 years years Total operating leases $ 1,451 $ 512 $ 939 $ - $ - Effective January 15, 2014, we entered into agreements with each of our chief executive officer and chief financial officer in order to continue the compensation modification program implemented in February 2010. Pursuant to these agreements, both officers agreed to continue the reduction in their base salary to 70% of their original base salary commencing January 16, 2014 and continuing until the earlier of (i) such time as the company achieves "cash flow breakeven" or (ii) January 15, 2015. Pursuant to these continuation agreements, the term "cash flow breakeven" is defined to mean that the company has achieved positive cash flow from operations for two consecutive fiscal quarters determined by reference to the revenues and other amounts received by the company from its operations. The term "cash flow from operations", however, shall not include (a) amounts received from the sale, lease or disposition of (i) fixed or capital assets, except for amounts received in the ordinary course of business; or (ii) any subsidiary company; (b) capital expenditures; (c) interest income and expense; and (d) other non-operating items as determined in accordance with generally accepted accounting principles in the United States as consistently applied during the periods involved. In consideration for these agreements, we granted these officers restricted stock units under our 2011 Omnibus Equity Incentive Plan based on 30% of their base salary for the period commencing January 16, 2014 through January 15, 2015. The number of restricted stock units granted was determined by dividing the total amount of base salary that is reduced pursuant to the new modification agreements by the closing price of our common stock on the date of grant. In connection with the program we granted our chief executive officer 66,412 restricted stock units and our chief financial officer 59,542 restricted stock units. The restricted stock units and the options and restricted stock units granted in connection with the compensation modification program for prior years shall only vest upon either the date determined that the company achieves cash flow breakeven, as defined above, or in the event of a termination of employment either without "cause" or for "good reason", as such terms were defined in the employment agreements we previously entered with each such officer. Further, in connection with the continuation of the above-referenced compensation modification program, other employees of the company were granted restricted stock units under the company's 2011 Omnibus Equity Incentive Plan in consideration for the continued salary reduction. Under this program, the company reduced the salaries of non-executive employees earning $110,000 per annum or less by 10% and reduced the salaries of its other non-executive employees in the program by 30% and in consideration for such modification, awarded these employees restricted stock units for the reduction in base salary for the period commencing January 16, 2014 through January 15, 2015. Accordingly, we granted our non-executive employees a total of up to 407,512 restricted stock units. The restricted stock units granted to our non-executive employees have the same material terms and conditions as the units granted to our executive officers. Under this program, employees' base salary will revert to its prior level as described above, or if otherwise specified by the board of directors to be earlier. The restricted stock units and the options and restricted stock units granted in connection with this program for prior years will vest on the date that the company achieves cash flow breakeven, as defined above. Off-Balance Sheet Arrangements We have not created, and are not party to, any special-purpose or off-balance sheet entities for the purpose of raising capital, incurring debt or operating parts of our business that are not consolidated into our financial statements. We do not have any arrangements or relationships with entities that are not consolidated into our financial statements that are reasonably likely to materially affect our liquidity or the availability of our capital resources. We have entered into various agreements by which we may be obligated to indemnify the other party with respect to certain matters. Generally, these indemnification provisions are included in contracts arising in the normal course of business under which we customarily agree to hold the indemnified party harmless against losses arising from a breach of representations related to such matters as intellectual property rights. Payments by us under such indemnification clauses are generally conditioned on the other party making a claim. Such claims are generally subject to challenge by us and to dispute resolution procedures specified in the particular contract. Further, our obligations under these arrangements may be limited in terms of time and/or amount and, in some instances, we may have recourse against third parties for certain payments made by us. It is not possible to predict the maximum potential amount of future payments under these indemnification agreements due to the conditional nature of our obligations and the unique facts of each particular agreement. Historically, we have not made any payments under these agreements that have been material individually or in the aggregate. As of March 31, 2014, we were not aware of any obligations under such indemnification agreements that would require material payments. 24-------------------------------------------------------------------------------- Table of Contents Effects of Inflation and Changing Prices The impact of general inflation on our operations has not been significant to date and we believe inflation will continue to have an insignificant impact on us. Present Accounting Standards Not Yet Adopted In July 2013 the FASB issued ASU 2013 - 11, "Income Taxes (Topic 740) - Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward or Tax Credit Carryforward Exists (a consensus of FASB Emerging Issues Task Force), which finalizes Proposed ASU No. EITF-13C, and provides explicit guidance regarding the presentation in the statement of financial position of an unrecognized tax benefit when a net operating loss carryforward or a tax credit carryforward exists. In particular, ASU No. 2013-11 provides that an entity's unrecognized tax benefit, or a portion of its unrecognized tax benefit, should be presented in its financial statements as a reduction to a deferred tax asset for a net operating loss carryforward, a similar tax loss, or a tax credit carryforward, with one exception. That exception states that, to the extent a net operating loss carryforward, a similar tax loss, or a tax credit carryforward is not available at the reporting date under the tax law of the applicable jurisdiction to settle any additional income taxes that would result from the disallowance of a tax position, or the tax law of the applicable jurisdiction does not require the entity to use, and the entity does not intend to use, the deferred tax asset for such purpose, the unrecognized tax benefit should be presented in the financial statements as a liability and should not be combined with deferred tax assets. As to the foregoing exception, ASU No. 2013-11 explains that the determination of whether a deferred tax asset is available is based on the unrecognized tax benefit and deferred tax asset that exist at the reporting date and should be made presuming disallowance of the tax position at the reporting date. For example, an entity should not evaluate whether the deferred tax asset expires before the statue of limitations on the tax position or whether the deferred tax asset may be used prior to the unrecognized tax benefit being settled. ASU No. 2013-11 applies prospectively to all entities that have unrecognized tax benefits when a net operating loss carryforward, a similar tax loss or a tax credit carryforward exists at the reporting date. Retrospective application is also permitted. Further, ASU No. 2013-11 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2013. We are currently evaluating the impact of this standard on our consolidated financial statements. |