NETFABRIC HOLDINGS, INC.

 

INDEX

 

		Page
PART I.	FINANCIAL INFORMATION
Item 1.	Financial Statements (Unaudited)
	Condensed Consolidated Balance Sheets	1
	Condensed Consolidated Statements of Operations	2
	Condensed Consolidated Statements of Cash Flows	3
	Notes to Interim Condensed Consolidated Financial Statements	4
Item 2.	Management's Discussion and Analysis of Financial Condition and Results of Operations	8
Item 4.	Controls and Procedures	12
PART II.	OTHER INFORMATION	12
Item 1.	Legal Proceedings	12
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	12
Item 3.	Defaults Upon Senior Securities	12
Item 4.	Submission of Matters to a Vote of Security Holders	12
Item 5.	Other Information	12
Item 6.	Exhibits	13
	Signatures	14

 

Use of Estimates

 

The condensed consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States. In preparing the financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the statements of financial condition and revenues and expenses for the period then ended. Actual results may differ significantly from those estimates.

Fair Value of Financial Instruments

The carrying amounts reported in the balance sheet for cash and accounts payable and accrued expenses approximate their fair market value based on the short-term maturity of these instruments.

Earnings (Loss) Per Share

 

The Company calculates earnings (loss) basic earnings (loss) per share by dividing the net income (loss) by the weighted average number of shares of common stock outstanding during the period. Diluted earnings (loss) per share is computed by dividing the net income (loss) by the weighted average number of shares of common stock outstanding during the period plus the effects of any dilutive securities. Diluted earnings (loss) per share considers the impact of potentially dilutive securities except in periods in which there is a loss because the inclusion of the potential common shares would have an anti-dilutive effect. The Company's potentially dilutive securities include common shares which may be issued upon exercise of its stock options or exercise of warrants.

 

Diluted loss per share for the nine months ended September 30, 2010 and 2009 exclude potentially issuable common shares of approximately 6,456,867 and 7,856,867, respectively, primarily related to the Company's outstanding stock options and warrants, because the assumed issuance of such potential common shares is antidilutive.

NOTE 3: RECENT ACCOUNTING PRONOUNCEMENTS

 

In January 2010, the FASB issued amended standards that require additional fair value disclosures. These amended standards require disclosures about inputs and valuation techniques used to measure fair value as well as disclosures about significant transfers, beginning in the first quarter of 2010. The Company adopted these amended standards on January 1, 2010, and there was no impact to the financial statements upon adoption. Additionally, these amended standards require presentation of disaggregated activity within the reconciliation for fair value measurements using significant unobservable inputs (Level 3), beginning in the first quarter of 2011. The Company does not expect these new standards to significantly impact the financial statements.

 

Other accounting standards that have been issued or proposed by the FASB or other standards-setting bodies are not expected to have a material impact on the Company’s financial position, results of operations or cash flows.

 

NOTE 4. DISCONTINUED OPERATIONS

 

As discussed in Note 1, the Company sold its subsidiary, UCA, in August 2009, and does not presently have any operations.

In accordance with FASB ASC 205-20-45-1 “Presentation of Financial Statements-Discontinued Operations-Other Presentation Matters” the Company has presented the results of UCA operations as discontinued operations in the accompanying consolidated balance sheets, statement of operations and statement of  cash flows.

NOTE 7. STOCK-BASED COMPENSATION

 

Share-based compensation expense recognized for the three and nine months ended September 30, 2009 was $888, and $132,966, respectively. No compensation expense was recognized in the three and nine months ended September 30, 2010.  Share-based compensation expense recognized in the Company's condensed consolidated statements of operations includes compensation expense for share-based payment awards granted prior to, but not yet vested as of December 31, 2005, based on the grant-date fair value estimated in accordance with the provisions of ASC Topic   718 : Compensation - Stock Compensation .

NOTE 8. OTHER INCOME

During the three and nine months ended September 30, 2009, the Company entered into legal settlements with certain vendors applicable to old accounts payable, and evaluated estimates of certain accruals, mad in prior years. Based on the settlements and evaluation, the Company wrote off approximately $160,000 of old accounts payable and accruals, which was recorded as other income.

ITEM 2.

DISCONTINUED OPERATIONS

 

On August 24, 2009, the Company along with its wholly-owned subsidiary, UCA and Fortify entered into Amendment No. 1 (“Amendment”) to the Option and Purchase Agreement (“Option Agreement”) in connection with the closing of Fortify’s purchase of all of the outstanding capital stock of UCA upon exercise of its option granted under the Option Agreement. Pursuant to the Amendment, among other things, the Secured Convertible Promissory Note in the principal amount of $5 million (including the related accrued interest) issued by UCA to Fortify was cancelled, releases of certain obligations of the parties were granted as specified in the Amendment, and the commencement date and measurement period for the earn-out and bonuses provided for in the Option Agreement were modified. Effective August 24, 2009, the Company transferred its ownership interest in UCA to Fortify.

 

In accordance with FASB ASC 205-20-45-1 “Presentation of Financial Statements-Discontinued Operations-Other Presentation Matters” the Company has presented the results of UCA operations as discontinued operations in the accompanying consolidated balance sheets, statement of operations and statement of  cash flows.

 

UCA derived revenues primarily from managed IT services, professional services, application development services and business process management services. Service arrangements with customers were generally on a time and material basis or fixed-price, fixed-timeframe revenue basis. UCA’s principal operating expenses were direct employee costs, consultant expenses and selling, general and administrative expenses. The principal components of selling, general and administrative expenses were salaries of sales and support personnel, and office rent. Direct employee costs and consultant expenses were comprised primarily of the costs of consultant labor, including employees, subcontractors and independent contractors, and related employee benefits. Approximately 50% of our consultants were employees and the remainders are subcontractors and independent contractors.

 

We compensated most of our consultants only for the hours that we bill to our clients for projects undertaken, which allowed us to better match our labor costs with our revenue generation. With respect to our consultant employees, we were responsible for employment-related taxes, medical and health care costs and workers' compensation. Labor costs were sensitive to shifts in the supply and demand of IT professionals, as well as increases in the costs of benefits and taxes.

 

After the divesture of UCA, the Company does not have any operations. In the past, our operations was that of a holding company that housed the finance and administrative functions and was responsible for financing transactions and regulatory compliance activities.

 

Comparison of Three and Nine Months Ended September 30, 2010 and 2009:

 

Selling, general and administrative expenses

 

Our selling, general and administrative expenses for the three months ended September 30, 2010 decreased by $39,719, or 46.6%, to $45,483. For the nine months ended September  30, 2010, our selling, general and administrative expenses decreased by $558,141 or 78.6% compared to the comparable period in 2009. Our selling, general and administrative expense levels decreased due to reduced level of operations after the divesture of UCA in August of 2009.

 

Amortization of debt discount

 

We repaid Laurus debt in March 2009 from the proceeds of Fortify transaction, and there were no additional borrowings incurred after the repayment. Therefore, we did not incur any debt discount during the three and nine months ended September 30, 2010 compared to $0, and $91,862, respectively, incurred during the comparable period in 2009.

 

Debt issuance costs

Due to the repayment of short term borrowings from the proceeds of Fortify transaction in March 2009, we incurred no debt issuance costs in 2010 compared to $47,630 incurred during the nine months ended September 30, 2009.

Interest expense

 

Pursuant to repayment of all debt in March 2009, we are debt free. Accordingly, we do not have any interest expense during the three and nine months ended September  30, 2010 compared to $0 and $36,270 interest expense during the three months and nine months ended September 30, 2009.

Discontinued Operations

On August 24, 2009, we transferred our ownership interest in UCA to Fortify. In accordance with FASB ASC 205-20-45-1 “Presentation of Financial Statements-Discontinued Operations-Other Presentation Matters” we have presented the results of UCA operations as discontinued operations in the accompanying consolidated balance sheets, statement of operations and statement of cash flows.

We recorded a gain of $770,608 from the disposal of UCA during the three and nine months ended September 30, 2009. this was based on the sale price of UCA and net assets of UCA transferred.

During the three months ended September 30, 2009, our income from discontinued operations was $165,977. For the nine  months ended September  30, 2009 our income from discontinued operations was $346,001.

Net loss

 

As a result of the foregoing, for the three months ended September 30, 2010, net income decreased by $936,866, or 105.1%, to a loss of $45,483, compared to a net income of $891,383 during the three months ended September 30, 2009. For the nine months ended September 30, 2010, our net income decreased by $422,706 or 155.9% to a loss of $151,583 compared to a net income of $271,123 during the nine months ended September 30, 2009.

 

LIQUIDITY AND CAPITAL RESOURCES

 

On September 30, 2010, our working capital was $301,443, compared to a working capital of $453,026 on December 31, 2009. The decrease was due to the net loss incurred during the nine months ended September 30, 2010. During the nine months ended September 30, 2010, our operating activities from continuing operations provided approximately $402,000 of cash, compared to approximately $1,370,000 used during the nine months ended September  30, 2009. We received $850,000 of other receivable from Fortify during the nine months ended September  30, 2010.

 

On March 12, 2009, we, along with our wholly owned subsidiary, UCA entered into a Convertible Note Purchase Agreement dated March 12, 2009 with Fortify Infrastructure Services, Inc. (“Fortify”). Pursuant to the Convertible Note Purchase Agreement, Fortify purchased a Secured Convertible Promissory Note (the “Note”) from UCA in the principal amount of $5 million with  the Company being a guarantor for UCA’s borrowings.

The Note had a six-month term, and with interest at 8% per annum, compounded annually. The Note was secured by (i) all of the assets of UCA and our Company and (ii) all of the equity securities of UCA then owned or thereafter acquired by us. At the exclusive option of Fortify, Fortify may convert the entire principal amount of and accrued and unpaid interest on the Note into shares of Series A Preferred Stock of UCA.  The conversion price shall be at a price equal to the price per share reflecting a valuation of UCA equal to $5 million, on an as-converted basis.

 

Fortify, UCA and we also entered into an Option and Purchase Agreement (“Option Agreement”). Pursuant to the Option Agreement, Fortify has an option to acquire all of the outstanding shares of common stock of UCA. Upon effectiveness of the our Definitive Schedule 14 C Information Statement to be filed with the Securities and Exchange Commission (the “SEC”) in connection with certain actions taken by the written consent of holders of a majority of our outstanding common stock approving the terms of the Option Agreement, Fortify will exercise the option. Upon exercise of the Option, the Company will be released from the guaranty obligations of the Note. Fortify will pay us $500,000 (“Fixed Payment”) one year from the date the option is exercised. In addition, Fortify will pay additional amounts to us (up to a maximum of $500,000) and certain employees of UCA based on UCA’s performance during the periods specified in the Option Agreement (“Performance Payment”).

 

The holders of a majority of our outstanding common stock had previously approved the terms of the Option Agreement by a written consent as detailed in our Definitive Schedule 14 C Information Statement filed with the Securities and Exchange Commission (the “SEC”) on July 9, 2009.

We used approximately $3 million from the proceeds of the Note to repay all amounts owed to Laurus Master Fund. The balance of the proceeds was be used for repayment of debt, other payables and for working capital purposes.

On August 24, 2009, we along with its wholly-owned subsidiary, UCA and Fortify entered into Amendment No. 1 (“Amendment”) to the Option and Purchase Agreement (“Option Agreement”) in connection with the closing of Fortify’s purchase of all of the outstanding capital stock of UCA upon exercise of its option granted under the Option Agreement. Pursuant to the Amendment, among other things, the Secured Convertible Promissory Note in the principal amount of $5 million (including the related accrued interest) issued by UCA to Fortify was cancelled, releases of certain obligations of the parties were granted as specified in the Amendment, and the commencement date and measurement period for the earn-out and bonuses provided for in the Option Agreement were modified. Effective August 24, 2009, we transferred our ownership interest in UCA to Fortify.

On April 27, 2010, we entered into a Memorandum of Understanding (“MOU”) with Fortify and amended the Fixed Payment and Performance Payment previously agreed by them. Pursuant to Fortify agreeing to pay the amounts on accelerated basis unconditionally, we agreed to accept $850,000 in aggregate as the full settlement of Fixed Payment and Performance payments. This amount was received us in May 2010 and $850,000 is classified as other receivable at December 31, 2009.

 

After the divesture of UCA, we do not have any operations. However, we are debt free. We will explore strategic alternatives including merger with another entity. Currently, we do not have any agreement or understanding with any entity and there is no assurance that such a transaction will ever be consummated.