Indicate by check mark if the registrant is a well-known seasoned
issuer, as defined in Rule 405 of the Securities Act. Yes
¨
No
x
Indicate by check mark if the registrant is not required to file
reports pursuant to Section 13 or Section 15(d) of the Act. Yes
¨
No
x
Indicate by check mark whether the registrant:
(1) 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 (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes
x
No
¨
Indicate by check mark whether the registrant has submitted electronically
and posted on its corporate Web site, if any, every
Indicate by check mark if disclosure of delinquent
filers pursuant to Item 405 of Regulation S-K (§ 229.405 of this chapter) is not contained in this form, and will not be contained,
to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part
III of this Form 10-K or amendment to this Form 10-K. Yes
x
No
¨
Indicate by check mark whether the registrant is a large accelerated
filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of "large accelerated
filer," "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act.:
Indicate by check mark whether the registrant
is a shell company (as defined in Rule 12b-2 of the Act). Yes
¨
No
x
State the aggregate market value of the voting
and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity was last sold,
or the average bid and asked price of such common equity, as of the registrant’s most recently completed second fiscal quarter:
$23,999,378.
As of April 24, 2017, the issuer had 1,172,114,528
shares of common stock, par value $0.00001, issued and 1,132,114,528 outstanding.
We caution you that
the risks, uncertainties and other factors referenced above may not contain all of the risks, uncertainties and other factors that
are important to you. In addition, we cannot guarantee future performance of our products and services, or results or achievements.
Any forward-looking statement made by us in this Annual Report speaks only as of the date of this Annual Report or as of the date
on which it is made. Except as required by law, we undertake no obligation to publicly update any forward-looking statements, whether
as a result of new information or developments, future events or otherwise, after the date of this Annual Report.
We have common law,
unregistered trademarks for the Company and its subsidiaries based upon use of the trademarks in the United States. This Annual
Report contains references to our trademarks and to trademarks belonging to other entities. Solely for convenience, trademarks
and trade names referred to in this Annual Report, including logos, artwork and other visual displays, may appear without the ®
or ™ symbols, but such references are not intended to indicate, in any way, that we will not assert, to the fullest extent
under applicable law, our rights or the rights of the applicable licensor to these trademarks and trade names. We do not intend
our use or display of other companies’ trade names or trademarks to imply a relationship with, endorsement of, or sponsorship
of us or our products or services by, any other companies.
PART I
Item
1. Business
Forward-Looking Statements and Associated
Risks.
This Report contains forward-looking statements. Such forward-looking statements include statements regarding,
among other things, (a) our projected sales and profitability, (b) our growth strategies, (c) anticipated trends in our industry,
(d) our future financing plans, (e) our anticipated needs for working capital, and (f) the benefits related to ownership of our
common stock. Forward-looking statements, which involve assumptions and describe our future plans, strategies, and expectations,
are generally identifiable by use of the words “may,” “will,” “should,” “expect,”
“anticipate,” “estimate,” “believe,” “intend,” or “project” or the
negative of these words or other variations on these words or comparable terminology. This information may involve known and unknown
risks, uncertainties, and other factors that may cause our actual results, performance, or achievements to be materially different
from the future results, performance, or achievements expressed or implied by any forward-looking statements. These statements
may be found under “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and
“Business,” as well as in this Report generally. Actual events or results may differ materially from those discussed
in forward-looking statements as a result of various factors, including, without limitation, the risks outlined under “Risk
Factors” and matters described in this Report generally. In light of these risks and uncertainties, there can be no assurance
that the forward-looking statements contained in this Report will in fact occur as projected.
Background
Vertical Computer Systems,
Inc. (“
Vertical
”, “
VCSY
”, the “
Company
”, the “
Registrant
”,
“
we
”, “
our
”, or “
us
”) was incorporated in the State of Delaware in March
1992. We operated as a non-reporting public shell company until October 1999, at which time we acquired all the outstanding capital
stock of Externet World, Inc., an Internet service provider and became an operating entity. In April 2000, we acquired 100% of
the outstanding common stock of Scientific Fuel Technology, Inc. (“
SFT
”), a company with no operations. Also
in April 2000, we merged SFT into our company, as a consequence of which the outstanding shares of SFT were cancelled, Vertical
became the surviving entity, and we assumed SFT’s reporting obligations pursuant to Rule 12g-3(a) under the Securities Exchange
Act of 1934, as amended (the “
Exchange Act
”).
Business Overview
We are a global provider
of application software, cloud-based and software services, Internet core technologies, and intellectual property assets through
our distribution network with operations or sales in the United States, Canada and Brazil.
Our business model combines
complementary and integrated software products along with internet core technologies, in order to create a distribution matrix
that we believe is capable of penetrating multiple sectors through cross-promotion.
We developed a secure communication
platform (based upon our patented and patent-pending software technologies) that we believe can change the nature of communication
on the Internet by allowing and supporting development of applications in separate sectors. In addition, the technology underlying
our communication platform has potential applications in the “Internet of Things” (IoT) market.
VCSY’s secure communication
platform eliminates the central server component in communications over the Internet, since the user has a web server installed
on their mobile device, which may also be synchronized with their tablet, PC or other hardware components (i.e. storage disks).
VCSY’s secure communication platform is for users who seek to obtain a higher level of security and protection for their
information (including data, messages and images) and for private secure communication of information with other users.
The first application built
upon our secure communication platform is Ploinks™, a personal secure cloud communication channel which was developed by
our subsidiary, Ploinks, Inc. Ploinks™ provides each user with the ability to protect their data (such as messages, images,
and videos) from both unwanted data transmissions and from third parties gaining access and ownership rights to the user’s
personal data without that user’s express permission. Ploinks™ is not a social media product, but users may still use
all currently available social media applications. Ploinks™ provides users with a simple and new means to preserve and protect
any personal data that the individual wants to keep control of. We launched Ploinks™ in February 2017 and plan to launch
the Puddle™ service, a complimentary storage and backup service to Ploinks™ for personal data on Windows-based PCs
and storage devices, that synchronizes with the user’s mobile device, in April 2017.
Administrative Software
Our main administrative
application software, emPath®, which is designed to handle complex payroll and human resources challenges, is developed, marketed
and maintained by NOW Solutions. emPath® is natively Web-based, which means that the application can easily be accessed with
a web browser. NOW Solutions, a 75% owned subsidiary, is selling emPath® in the United States and Canadian markets both as
a software solution and a Software-as-a-Service (“
SaaS
”) offering, also known as Cloud-based offering. For a
description of our cloud computing model for emPath®, please see the section entitled “Cloud-based services” below.
Our continuous effort to
improve our emPath® product and its cloud-based offering has allowed us to finalize and launch our new module-based initiative
under which certain payroll/human resource modules can be marketed independently from emPath® or bundled into a comprehensive
solution. An upgrade version, EmPath® 7.0 is in beta testing with selected clients with a general release anticipated to be
available in May 2017.
Version 7.0 will significant improve the user experience and will support all the new modern browsers.
In addition, there will be a performance increase in processing payroll for Empath’s large clients.
Upon the completion
of Ploinks™ Puddle™, there will be an approach to some of our emPath®’s clients to create an emPath®
enterprise solution by making use of the VCSY secure communication platform.
Our time and attendance
software, PTS™, has been designed with the flexibility to meet the needs of a simple small business requirements as well
as the most complex union-intensive clients through a rule-based time policy system coupled with a dashboardlets™ feature
for presentations of information supporting numerous databases including Oracle, DB2 and SQL. For a description of this feature,
please see the section entitled “Internet Core Technologies” below.
PTS™ will be marketed
as a stand-alone best-of-breed solution through Priority Time Systems, Inc. (“
Priority Time
”) as well as an
integrated module within emPath®, which we will be marketing to emPath®’s existing customer base. Initial marketing
efforts will be focused on the United States and Canadian markets.
SnAPPnet™ is currently
sold as a best-of-breed standalone solution through our subsidiary, SnAPPnet, Inc. We are in the process of upgrading SnAPPnet™
look and feel, along with expanding the functionality, to not only increase the market potential but to then integrate it with
emPath®, so that it can also be sold to NOW Solutions’ customers as an emPath® module.
We believe that our administrative
software solutions, which offer lower set-up fees and faster implementation times compared to competing products, provide customers
with significant upfront cost savings and substantial increases in productivity for administration of everyday operations.
Cloud-Based Services
In addition to our standard
software licensing model, where the software is deployed, hosted and maintained internally by the customer, we are offering customers
with an alternate delivery method: software-as-a-service, or simply “cloud-based.” Cloud-based is a software delivery
model where the company develops, operates, and hosts the application in data centers for use by its customers over the Internet.
A cloud-based service is
a cost-effective, reliable and secure way for businesses to obtain the same benefits of commercially licensed, internally operated
software, without the associated complexity and high start-up costs of deploying the software in-house or the need to dedicate
IT people on staff to monitor and upgrade such a system. Such services are currently under evaluation as to the marketability of
making use of the VCSY secure communication platform to create new business opportunities.
After completing emPath®
cloud-based model to ensure a robust and competitive solution, NOW Solutions began selling that offering to existing and new clients.
The cloud-based model provides a highly reliable, secure and scalable infrastructure, enabling us not only to continue servicing
and expanding our current market of mid to large sized customers but also to increase our market reach by offering a solution to
smaller sized customers, which otherwise may not be able to afford an in-house solution.
As an expanded product
and as a result of our initial sales to customers with complex payroll, NOW Solutions has created a tailored cloud-based offering
which provides these types of customers the cost benefits of a cloud computing model while meeting their complex requirements.
We are also continuing to upgrade emPath® for our cloud computing offering utilizing emPath®’s powerful payroll component
to provide private label contracting as well as distribution opportunities through existing payroll and HR providers in their local
markets.
PTS™, our time and
attendance software, will also be offered as a cloud-based solution, as both a standalone product (through Priority Time and VHS)
and an integrated module with emPath® (through NOW Solutions).
SnAPPnet™, a physician
credentialing application, is currently offered as a cloud-based solution. We are in the process of developing a registered nurse
module of SnAPPnet™. In addition, we are adding some key new features to the software application as well as doing a design
review to meet other potential markets for credentialing and markets in need of automated fillable forms. We are marketing SnAPPnet™
directly to hospitals and plan to offer it through VHS to physicians in the United States and to NOW Solutions’ existing
customer base.
Ploinks™ is a personal
secure cloud-based product when the Puddle™ is synchronized with a user’s mobile device. Ploinks ™ is a monthly
subscription based application.
Software Services
In addition to the application
software and cloud-based services, we offer a full range of software services that include professional services, maintenance,
custom maintenance and managed services.
Internet Core Technologies
Internet core technologies
provide the software foundation to support internet-based platforms for the delivery of individual software products that can be
sold independently or combined with other software products for rapid deployment of all software products throughout our distribution
system. We continue to develop specialized software applications that can be utilized in new products.
Our first patented internet
core technology is SiteFlash™. The SiteFlash™ technology utilizes XML and publishes content on the Web, enabling the
user to build and efficiently operate websites with the unique ability to separate form, function, and content. SiteFlash™
uses an advanced component-based structure to separate, parse, and store the various components of even the most complex web pages,
permitting these components to be named, organized, filed and eventually redeployed onto the web pages of a website. Once all of
the components of a web page are converted into “
objects
,” they can be grouped, as required by the user, into
the three main types of web page components: content, form and function.
Content
includes text, pictures or multimedia.
Form
includes graphics and website colors, layout and design.
Function
includes the activities performed by or actions
executed on the website. In this way, each element of a website created using SiteFlash™ is interchangeable with any other
similar element, and these elements may be grouped together in almost any combination to create complex websites. This separation
of form, function, and content also allows for the rapid creation of affiliated websites. SiteFlash™ architectural concepts
enable integration with existing technological components within many organizations. Additional key features of SiteFlash™’s
are its affiliation/syndication capability, its multi-lingual capability, and its multi-modal framework (enabling use on any output
device, including wireless devices such as smart phones, as well as cellular phones and other devices with Internet capability).
The second patented Internet
core technology we have developed is the Emily™ XML scripting language, a Markup Language Executive (MLE), which is Java
compatible. XML is a flexible way to create common information formats and share both the format and the data on the World
Wide Web, intranets, and elsewhere. The Emily™ Framework was developed to be an engineering package comparable to other Web
development tools, such as Allaire Cold Fusion™ or Microsoft FrontPage™. The primary component of the Emily™
Framework is the Emily XML scripting language, a programming language that runs on Windows™, Linux and several UNIX platforms.
The Emily™ Framework is used to create Web-based applications that communicate via XML and HTTP. HTTP is the set of rules
for exchanging files (text, graphic images, sound, video, and other multimedia files) on the Web.
The third patented Internet
core technology we have developed is the combination of three components: the Emily™ XML Broker, the Emily™ XML Agent
and the Emily™ XML Portal. This technology has been featured as an alternative to Web Services in the 4
th
Edition
of the XML Handbook, by Dr. Charles Goldfarb, considered the father of XML and inventor of all markup languages. We are upgrading
this technology for use in a new application we are developing simultaneously.
The fourth Internet core
technology is our secure communication platform based on a web server that was licensed to the Company, and subsequently patented
by the Company. The communication platform will use the Emily™ technology, and
other
patented and patent-pending applications (like the SiteFlash™ patents).
Using this secure communication platform,
we launched our first product, Ploinks™, a personal secure communication channel through our subsidiary, Ploinks, Inc., in
February 2017, along
with the Puddle™, a complimentary storage and backup solution
on Windows-based PCs and/or other storage devices to be released in April 2017, which will be synchronized with a user’s
mobile device. Upon completion of the synchronization of the user’s mobile device and the Puddle™, Ploinks™ will
be marketed as a secure personal cloud.
Intellectual Property Assets
Our SiteFlash technology
is based upon the following patents: a System and Method for Generating Web sites in an Arbitrary Object Framework. This unique
ability is patented under U.S. Patent No. 6,826,744 and continuation patent U.S. Patent No. 7,716,629 as well as a continuation
patent (U.S. Patent No. 8,949,780) of U.S. Patent No. 7,716,629.
Our Emily™ core technology
is the basis for a “Web-based collaborative data collection system”, which allows a disparate and distributed database
to be viewed and updated as if it was a single large database. This unique ability is patented under U.S. Patent No. 7,076,521.
Our Emily™ XML scripting
language, coupled with other Company technology, is the basis for development of mobile applications. This unique ability is patented
under U.S. Patent No. 8,578,266 and its continuation patent.
Our patent for a “System
and Method Running a Web Server on a Mobile Internet Device,” which is part of our Mobile Framework (the “MLE Framework")
and covers the Tiny Web Server, which is also a component of our MLE Framework. This unique ability is patented under U.S. Patent
No. 9,112,832.
Our fiber optic patent
is an invention for “Transmission of Images Over a Single Filament of Fiber Optic Cable” under U.S Patent No. 6718103.
We also have other mobile
technologies, which are patent-pending.
Market Segments
Our current products address
the following market segments:
|
MARKET
|
|
PRODUCT
|
|
OWNERSHIP/LICENSOR
|
|
LICENSEE
|
|
Human Resources and Payroll
|
|
emPath®
|
|
NOW Solutions
|
|
VHS
(a)
, Taladin
(b)
|
|
Software development units
|
|
Emily™
|
|
Vertical
|
|
VHS
(a)
|
|
Time and Attendance
|
|
PTS™
|
|
Priority Time
|
|
VHS
(a)
, NOW Solutions
(c)
|
|
Healthcare Credentialing
|
|
SnAPPnet™
|
|
SnAPPnet, Inc.
|
|
VHS
(a)
, NOW Solutions
(c)
|
|
Personal Secure Communication Channel
|
|
Ploinks™
|
|
Vertical
|
|
Ploinks, Inc.
(d)
|
|
|
(a)
|
Physician market (including medical clinics but not including
hospitals)
|
|
|
(c)
|
Clients of NOW Solutions
|
|
|
(d)
|
Personal secure communication channel for individual consumers
|
Business Operations and Units
Our business operations
are grouped into the following units: NOW Solutions, Ploinks, Inc., Taladin, VHS, Priority Time Systems, SnAPPnet, Inc., Vertical
do Brasil, and other subsidiaries with minimal or no activity and other limited interests. Each of the primary divisions is discussed
below.
NOW Solutions, Inc.
NOW Solutions, a Delaware
corporation, is a 75% owned subsidiary of the Company. NOW Solutions specializes in end-to-end, fully integrated human resources
and payroll solutions. NOW Solutions has clients in the United States and Canada ranging from private businesses to government
agencies, who typically employ 500 or more employees. NOW Solutions currently markets emPath®, a payroll and human resources
and payroll solution. emPath® meets the needs for clients who have complex payroll where they may have employees from different
unions, multiple locations in different states (U.S.) and provinces (Canada), and intricate compensation structures. We believe
that the competitive advantage of emPath® is its speed of implementation through a formula-builder technology, which provides
customers with rapid customization of payroll rules and calculations without the need for any programming expertise. NOW Solutions’
product suite is targeted to address the needs of management in today’s dynamic business environment and gives organizations
a user-friendly, flexible, multi-lingual (i.e., English, Canadian French, Spanish, and Portuguese) software solution, without the
multi-million dollar implementation and support budgets typically required to use the payroll and HR products of major competitors.
NOW Solutions has converted
some of its existing customers to its cloud-based model and is in the process of developing methods to introduce its cloud-based
offering (supporting MS SQL, Oracle and DB2 databases) through distributors in the United States. During the conversion of one
of our large complex customers and in discussions with other similar complex customers, we determined that there was a critical
need and opportunity in providing a solution we are labeling “tailored cloud-based”, which we believe can fulfill our
customers’ unique requirements while giving them the benefits of a cloud-based offering. NOW Solutions has a new version
(Version 7.0) of its emPath® software currently in beta testing with some of their clients, with the expectation of it being
fully released in May 2017. Empath 7.0 not only greatly improves the user experience but also supports all modern browsers.
Additionally, NOW Solutions
has embarked on a strategy of developing and licensing HR products complementary to its existing suite of products that can be
sold separately or integrated as emPath® modules, which has been greatly facilitated by emPath®’s Web Services integration.
PTS™ is the first product to be integrated within the emPath® solution. NOW Solutions is currently finalizing the integration
of PTS™ with emPath®. The second product is SnAPPnet™, which is in the in the process of being upgraded to expand
the utility of the product beyond traditional credentialing software so that it can be used by HR departments of NOW Solutions’
existing customer to create and administer fillable forms routinely used for employees.
Once the first version
of Ploinks™ is released with the Puddle™, there will be presentations made to selected NOW solutions’ customers
to jointly create an enterprise secure communication channel utilizing VCSY secure communication platform.
The revenue model of NOW
Solutions is based upon five components: licensing and renewable annual maintenance fees, cloud-based fees, professional consulting
services, and managed services. Under the cloud-based delivery model, NOW Solutions typically collects monthly fees.
For the 12 months ended
December 31, 2016, NOW Solutions had approximately $541,830 of total assets, revenues of approximately $3,768,420 and net income
of approximately $469,570.
Taladin, Inc.
Taladin, a Texas corporation,
is a wholly-owned subsidiary of the Company. Taladin is being positioned to become the parent company for NOW Solutions, Priority
Time and SnAPPnet in order to streamline and better coordinate the Company’s business administrative software product lines
and marketing efforts. It is anticipated that Taladin will also be responsible for an enterprise private communication channel
utilizing VCSY secure communication platform.
For the 12 months ended
December 31, 2016, Taladin had no material assets, no revenues and a net loss of approximately $14,095.
Ploinks, Inc.
Ploinks, Inc., a Texas
corporation (formerly OptVision Research, Inc.), is a 91% owned subsidiary of the Company.
Vertical has licensed its
secure communication platform to Ploinks, Inc. in the United States, for use by consumers as a personal secure communication channel.
The Ploinks™ application was launched in February 2017. Ploinks, Inc. is also developing the Puddle™, a complimentary
storage and backup solution to Ploinks™ for Windows-based PCs and storage devices, which is anticipated to be launched in
April 2017,
which will be synchronized with a user’s mobile device. Upon completion
of the synchronization of the user’s mobile device and the Puddle™, Ploinks™ will be marketed as a secure personal
cloud.
Ploinks™ is available
on
http://www.ploinks.com
for a monthly subscription fee.
For the 12 months ended
December 31, 2016, Ploinks, Inc. had no material assets, no revenues and a net loss of $1,705,446.
Vertical Healthcare
Solutions, Inc.
VHS, a Texas corporation,
is a wholly-owned subsidiary of the Company. VHS will market a new platform called the “Physicians Bridge”, which will
be the basis for marketing applications to physicians utilizing other Vertical technologies and products which were licensed for
the physician market by Vertical to VHS. Vertical will also license its secure communication platform to VHS to be utilized
in the development of a secure communication channel to be used between physicians and staff as well as between patients, staff,
and physicians.
For the 12 months ended
December 31, 2016, VHS had $230 of assets, no revenues, and a net loss of approximately $162,395.
Priority Time Systems,
Inc.
Priority Time, a Nevada
corporation, is an 70% owned subsidiary of the Company. We originally purchased 90% of the common stock of Priority Time from a
shareholder of Priority Time and under a shareholder agreement with the selling shareholder, we have the option to purchase 10%
of the common shares of Priority Time stock held by this shareholder. The shareholder agreement also provides for the licensing
terms of Priority Time products to our other subsidiaries.
Priority Time has been
developing PTS™, a time and attendance product that will be offered as both a standalone product and as an integrated module
within emPath®.
PTS™ is being developed
to meet the unique and complex requirements of NOW Solutions’ customers, particularly for the medical and government markets,
who provided us with specifications for an ideal time and attendance program. The most critical need of complex customers was robust
flexibility which led to the creation, from the ground up, of a rule-based time and attendance application, allowing users to make
for immediate changes within the application while also providing a state-of-the-art reporting ability to senior executives. The
result also led to a new development platform as well as another application called “dashboardlets
TM
.” PTS™
will be commercially available once a major emPath® update is completed and its integration with emPath® finalized.
We have been using our
new development platform, which has allowed us to create a cloud-based solution that utilizes a rule-based system, which will better
meet the needs of NOW Solutions’ most complex customers and more easily create a time and attendance product for vertical
markets (i.e. medical, government, casinos, and hospitality).
For the 12 months ended
December 31, 2016, Priority Time had no assets, no revenues and a net loss of approximately $1,235.
SnAPPnet, Inc.
SnAPPnet, Inc., a Texas
corporation, is an 80% owned subsidiary of the Company. On May 21, 2010, SnAPPnet, Inc. purchased substantially all the assets
of Pelican Applications, LLC (“
Pelican
”) in exchange for $5,335 cash, 100,000 shares of Series B Convertible
Preferred Stock of VHS, and other contingent consideration. The assets acquired included a software application product known as
SnAPPnet™ which is currently used for physician credentialing, as well as Pelican’s entire customer base. We intend
to utilize the SnAPPnet™ software to expand its offering to physicians, and to adapt the software to meet the needs of NOW
Solutions’ hospital clients who may need a credentialing product for nurses.
SnAPPnet™ core application
is being rewritten to utilize our new administrative development platform, including our proprietary dashboardlets™. The
revised and improved SnAPPnet™ application will open new possibilities in markets in need of automated fillable forms.
For the 12 months ended
December 31, 2016, SnAPPnet, Inc. had assets of approximately $7,675, revenues of approximately $59,255 and a net loss of approximately
$5,300.
Government Internet
Systems, Inc.
GIS, a Nevada corporation
is our 84.5% owned subsidiary. Vertical licensed ResponseFlash™ to GIS in order to market and distribute this technology
to government entities (excluding state universities and schools) in the United States. Marketing is currently on hold and the
business opportunities are being reviewed in conjunction with VCSY secure communication platform.
For the 12 months ended
December 31, 2016, GIS had no assets, no material revenue and net loss of approximately $9,929.
Vertical do Brasil
Our 100% owned subsidiary,
Vertical do Brasil, a Brasilian company, houses a software development team that performs services on behalf of the Company and
its subsidiaries.
For the 12 months ended
December 31, 2016, Vertical do Brasil had assets of approximately $4,013, no revenues and net loss of approximately $207,577.
The following corporations
are inactive:
Vertical Internet
Solutions, Inc.
VIS, a California corporation,
is a wholly-owned subsidiary of the Company. VIS is inactive and we currently have no plans regarding this subsidiary.
For the 12 months ended
December 31, 2016, VIS had no material assets, no material revenue and no expenses.
EnFacet, Inc.
EnFacet, a Texas corporation, is a wholly-owned
subsidiary of the Company. EnFacet is inactive and we currently have no plans regarding this subsidiary.
For the 12 months ended
December 31, 2016, EnFacet had no material assets and a net loss of $28.
Globalfare.com
Globalfare, a Nevada corporation,
is a wholly-owned subsidiary of the Company. Globalfare is inactive and we currently have no plans regarding this subsidiary.
For the 12 months ended
December 31, 2016, Globalfare had no assets and a net loss of $99.
Pointmail.com, Inc.
Pointmail, a California
corporation, is a wholly-owned subsidiary of the Company. Pointmail is inactive and we currently have no plans regarding this subsidiary.
For the 12 months ended
December 31, 2016, Pointmail had no assets, no revenues and no expenses.
Competition
We face substantial competition
from software and hardware vendors, system integrators, and multinational corporations focused upon information technology and
security.
In the realm of application
software, NOW Solutions’ competitors include Oracle, Lawson, Cyborg /Hewitt, Kronos, DLGL, Ultimate and SAP. Our cloud-based
emPath® competes with ADP, Ceridian, Ultimate Software and Quicken. However, while NOW Solutions competes with these companies,
our payroll product is utilized by our many of our customers in conjunction with many of these companies’ other modules.
Priority Time’s
competitors include Kronos, NOVAtime Technology, Asure Software, Insperity (formerly known as Administaff), and Qqest Software
Systems.
SnAPPnet, Inc. competes
with several small and mid-sized competitors in the healthcare credentialing business sector. SnAPPnet’s competitors include
EchoApps (Heathline Systems), Win/Staff PRO-FILE (Win/Staff), Medkinetics Pro (Medkinetics), IntelliAppsSE (Intellisoft Group,
Inc.), OneAPP (Sy.Med) and CACTUS Software.
Ploinks™ is an
all-in-one solution that we believe has no direct competition to our knowledge, but finds competitors in some of its areas, such
as Snapchat and Instagram for images, Whisper, WhatsApp, Facebook messenger in the area of secure messaging, as well as Dropbox,
GoDaddy, Amazon, Microsoft and Google for cloud services.
Our primary competitors
have longer operating histories, greater name recognition, larger customer bases and significantly greater financial, technical
and marketing resources than we do. However, we have a number of large complex clients including cities and counties in the United
States that have been users of our Payroll/HRMS software for many years (10 -25 years) and are highly referenceable. We cannot
guarantee that we will be able to compete successfully against current or future competitors or that competitive pressure will
not have a material and adverse effect on our financial position, results of operations and cash flows.
Our ability to compete
will also depend upon our ability to continually improve our products and services, the enhancements we develop, the quality of
our customer service, and the ease of use, performance, price and reliability of our products and services.
We believe, however,
that we possess certain competitive advantages for the following reasons:
|
|
1.
|
We have a number of proprietary patented and patent-pending
technologies that can be utilized in our offerings.
|
|
|
2.
|
NOW Solutions has an outstanding customer support department that has supported large complex entities
for a number of years, and many of these large entities are leaders in their respective industries.
|
|
|
3.
|
emPath®’s inherent strengths include its formula builder, the use of one single database
(where competing products may use two or more), and a strong, highly identifiable customer base it can reference.
|
|
|
4.
|
emPath® is built on a state-of-the-art Microsoft.net platform, allowing for rapid software
development and interoperability with other software packages.
|
|
|
5.
|
Our development platform (including the dashboardlets™ feature) will provide a consistent
business intelligence tool across our administrative software product line.
|
|
|
6.
|
We can cross-promote our administrative software applications between companies.
|
|
|
7.
|
emPath® supports a global platform with one database for both payroll and HR.
|
|
|
8.
|
Our new secure communication platform is based upon certain trade secrets and revolutionary technology
with patented and patent-pending technology.
|
Strategic Overview
The Company’s product
portfolio reflects a number of unique characteristics and advantages that have been developed or acquired over time. At present,
we are actively pursuing the strategy of (a) further developing the technologies owned by the Company and our subsidiaries and
(b) combining all the technologies owned by the Company and our subsidiaries into viable product offerings.
The key components of our
strategy are to:
|
|
1.
|
Leverage our strong, profitable subsidiary, NOW Solutions, that has a highly-referenceable client
base, including companies that are leaders in their industries and have been users of emPath® and its predecessor product for
over 25 years for their payroll and human resource needs.
|
|
|
2.
|
Develop a portfolio of patented technologies that can be licensed to third parties or utilized
internally to strengthen our existing and projected product offerings.
|
|
|
3.
|
Build a network of compatible partners and acquisition or licensing of products that complement
our existing offerings.
|
|
|
4.
|
Maximize the unique features of our new software development platform to launch our new PTS™
and SnAPPnet™ products as well as other products to NOW Solutions’ customer base and, at the same time, have those
customers assist us in development of product specifications for their own vertical markets.
|
|
|
5.
|
Build and integrate new commercially viable products utilizing our patented technology and other
administration software.
|
|
|
6.
|
Expand the reach of emPath® internationally beyond the U.S. and Canada utilizing non-competitive
local distributors in foreign countries.
|
|
|
7.
|
Develop proprietary applications on our secure communication platform and, with licensing agreements,
provide a structure whereby third-party applications can be developed upon that platform to be then distributed.
|
|
|
8.
|
Have third party verification as to the capability and comparison in the marketplace.
|
|
|
9.
|
Do joint partnerships with companies that benefit from our technology.
|
The software development
leg of our strategy is two-fold. The first is to further enhance our existing solutions and develop new products in order to better
compete with the large ERP providers like SAP and Oracle by providing complex best-of-breed alternative offerings that are more
cost effective solutions. The second is to continue developing our intellectual property internally for mass market, best-of-breed
solutions offered as cloud-based solutions that incorporate the advantages of our complex solutions. In each such instance, the
software development leg of our strategy will be augmented by exploring solutions that can be linked to federal and state government
programs for cost savings.
Our new mobile strategy
is intended to make us a dominant player in the mobile space for the private communication sector that also serves as a complement
to the social media market, as well as providing solutions in the healthcare and corporate markets. The goal is to become a provider
with an all-in-one solution incorporating technology between a mobile device and different data storage units.
One key to the success
of our strategies is to leverage our core capabilities, by entering into co-marketing agreements with other companies, particularly
those who offer best-of-breed products that complement our product offerings. Our objective is to enter into distinct co-marketing
agreements whereby each business unit will have a separate agreement with the co-marketing partner for its particular target market.
To supplement this approach, our business units will enter into agreements with each other where they can more successfully cross-promote
and market their respective products. We are also identifying complementary products from third parties which we can private label
and sell as part of our existing product offering or separately.
Proprietary Rights
We rely upon a combination
of patent, copyright, trademark, trade secret laws, and contract provisions and to protect our proprietary rights in our technologies,
products and services. We distribute our products and services under agreements that grant users or customers a license to
use our products and services and rely upon the protections afforded by the copyright laws to protect against the unauthorized
reproduction of our products. In addition, we protect our trade secrets and other proprietary information through confidentiality
agreements with employees, consultants and other business partners. emPath®, PTS™, SnAPPnet™, PASS™
and Ploinks™ are protected by copyright and trademark.
Our patent portfolio consists
of the following technologies and related products:
The USPTO granted us a
patent (No. 6,718,103) for an invention for “Transmission of Images over a Single Filament Fiber Optic Cable” in April
2004. This patent is in a theoretical stage only and is intended to be used for transmitting images on fiber optics that
might improve in orders of magnitude today’s capacity of fiber optics to transmit images and data.
The USPTO granted us a
patent (No. 6,826,744) for an invention for “System and Method for Generating Web Sites in an Arbitrary Object Framework”
on November 30, 2004. On May 11, 2010, we were granted a continuation patent (U.S. Patent No. 7,716,629) of U.S. Patent No. 6,826,744
by the USPTO. All pending new claims were granted in the continuation patent for U.S. Patent No. 7,716,629, which has increased
the scope of the original patent by adding 32 new claims to the original 53 claims. On February 3, 2015, we were granted
a continuation patent (U.S. Patent No. 8,949,780) of U.S. Patent No. 7,716,629. All pending new claims were granted in the continuation
patent for U.S. Patent No. 8,949,780, which has increased the scope of the continuation patent and the original patent by adding
24 new claims.
Together, these patents
are the foundation of our SiteFlash™ platform.
The USPTO granted us a
patent (No. 7,076,521) for an invention for a “Web-based collaborative data collection system” on July 11, 2006. This
patent covers various aspects of the Emily™ XML Enabler Agent and the Emily™ XML Broker.
The USPTO granted us a
patent (No. 8,578,266) for a “Method and Systems for Automatically Downloading and Storing Markup Language Documents into
a Folder Based Data Structure” (formerly, a “Method and System for Providing a Framework for Processing Markup Language
Documents”) on November 5, 2013. In August 2016, we were granted a continuation patent (U.S. Patent No. 9,405,736) of U.S.
Patent No. 8,578,266 which allowed Claims 1-19 and 21 and amended claims 1, 14, and 21. These patents cover the Emily™ scripting
language.
THE USPTO granted us a
patent (No. 9,112,832) for a “System and Method Running a Web Server on a Mobile Internet Device.” This patent is incorporated
into our secure communication platform and covers the Tiny Web Server, which is also a component of our secure communication platform.
We also have several patent-pending
software technologies and licensed software:
In 2011, we filed two provisional
applications for patents relating to our patent application filed in 2010 and these have been replaced with non-provisional patent
applications which were filed in 2012, which are still pending.
In 2013, we filed six patent applications (including provisional
patent applications).
In 2014, we filed two provisional
patent applications, which have been replaced with non-provisional patent applications and filed in 2015. These patent applications
are still pending.
The Company acquired rights
for U.S. Patent No. 8,903,371 (cellular telephone system and method), which was issued on December 2, 2014 under an assignment
from Luiz Valdetaro, a co-inventor who is also an employee and the Chief Technology Officer of the Company.
Although we intend to protect
our intellectual property rights as described above, there can be no assurance that these measures will be successful. Policing
unauthorized use of our products and services is difficult and the steps taken may not prevent the misappropriation of our technology
intellectual property rights. In addition, effective patent, trademark, trade secret and copyright protection may be unavailable
or limited in certain foreign countries. We seek to protect the source code of some of our products as trade secrets and
as unpublished copyright works. Source code for certain products has been or will be published in order to obtain patent
protection or to register copyright in such source code. We believe that our products, trademarks and other proprietary rights
do not infringe on the proprietary rights of third parties. There can be no assurance that third parties will not assert
infringement claims against us in the future with respect to current or future features or content of services or products or,
if so asserted that any such claims will not result in litigation or require us to enter into royalty arrangements.
Regulatory Environment; Public
Policy
In the United States and
most countries in which we conduct our operations, we are generally not regulated other than pursuant to laws applicable to businesses
in general and value-added services specifically. In some countries, we are subject to specific laws regulating the availability
of certain material related to, or to the obtaining of, personal information. Adverse developments in the legal or regulatory environment
relating to the interactive online services and Internet industry in the United States, Canada, Europe, Asia, Latin America or
elsewhere could have a material adverse effect on our business, financial condition and operating results. A number of legislative
and regulatory proposals from various international bodies and foreign and domestic governments in the areas of telecommunications
regulation, particularly related to the infrastructures on which the Internet rests, access charges, encryption standards and related
export controls, content regulation, consumer protection, advertising, intellectual property, privacy, electronic commerce, and
taxation, tariff and other trade barriers, among others, have been adopted or are now under consideration. We are unable at this
time to predict which, if any, of the proposals under consideration may be adopted and, with respect to proposals that have been
or will be adopted, whether they will have a beneficial or an adverse effect on our business, financial condition and operating
results.
Employees
As of April 24, 2017, we
had 23 full-time and 4 part-time employees (20 are employed in the United States and 7 in Canada), 2 full time consultants and
1 part time consultant. We are not a party to any collective bargaining agreements.
Item
1A. Risk Factors
Risk Factors Related
to Our Business, Operating Results and Financial Condition
We are subject to various
risks that may materially harm our business, financial condition and results of operations. You should carefully consider the risks
and uncertainties described below and the other information in this filing before deciding to purchase our common stock. If any
of these risks or uncertainties actually occurs, our business, financial condition or operating results could be materially harmed.
In that case, the trading price of our common stock could decline and you could lose all or part of your investment.
We Have Historically
Incurred Losses and May Continue to Do So in the Future.
We had a net loss of $5,466,230
and $2,495,612 for the years ended December 31, 2016 and 2015, respectively, and have historically incurred losses. Accordingly,
we have and may continue to experience significant liquidity and cash flow problems because our operations are not profitable.
No assurances can be given that we will be successful in reaching or maintaining profitable operations.
We Have Been Subject to a Going
Concern Opinion from Our Independent Auditors, Which Means That We May Not Be Able to Continue Operations Unless We Obtain Additional
Funding.
The report of our independent
registered public accounting firm included an explanatory paragraph in connection with our financial statements for the years ended
December 31, 2016 and 2015. This paragraph states that our recurring net losses, negative working capital and accumulated deficit,
the substantial funds used in our operations and the need to raise additional funds to accomplish our objectives raise substantial
doubt about our ability to continue as a going concern. Our ability to develop our business plan and to continue as a going concern
depends upon our ability to raise capital, to succeed in the licensing of our intellectual property and to achieve improved operating
results. Our financial statements do not include any adjustments that might result from the outcome of this uncertainty.
Our Ability to Continue as
a Going Concern Is Dependent on Our Ability to Raise Additional Funds and to Establish Profitable Operations.
The accompanying consolidated
financial statements for the years ended December 31, 2016 and 2015 have been prepared assuming that we will continue as a going
concern, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business.
The carrying amounts of
assets and liabilities presented in the financial statements do not purport to represent realizable or settlement values. We have
suffered significant recurring operating losses, used substantial funds in our operations, and need to raise additional funds to
accomplish our objectives. Stockholders’ deficit at December 31, 2016 was $31.0 million. Additionally, at December 31, 2016,
we had negative working capital of approximately $20.6 million (although it includes deferred revenue of approximately $1.8 million)
and have defaulted on substantially all of our debt obligations. These conditions raise substantial doubt about our ability to
continue as a going concern.
Our Success Depends On Our
Ability to Generate Sufficient Revenues to Pay for the Expenses of Our Operations.
We believe that our success
will depend upon our ability to generate revenues from our SiteFlash™ and Emily™ technology products through licensing
and development of commercially viable products
,
as well as increased revenues from NOW Solutions’ products and services
as well as the successful launch of our new products by our subsidiaries (such as SnAPPnet™, and PTS™, Emily™
and web server applications), none of which can be assured. Our ability to generate revenues is subject to substantial uncertainty
and our inability to generate sufficient revenues to support our operations and debt repayment could require us to curtail or suspend
operations. Such an event would likely result in a decline in our stock price.
Our Success Depends On Our
Ability to Obtain Additional Capital.
We have funding that is
expected to be sufficient to fund our present operations for three months. However, we will need significant additional funding
in order to complete our business plan objectives. Accordingly, we will have to rely upon additional external financing sources
to meet our cash requirements. Management will continue to seek additional funding in the form of equity or debt to meet our cash
requirements. Other than common or preferred stock in our subsidiaries, we do not have any common stock available to issue to raise
money. However, there is no guarantee we will raise sufficient capital to execute our business plan. In the event that we are unable
to raise sufficient capital, our business plan will have to be substantially modified and operations curtailed or suspended.
We Have a Working Capital Deficit,
Which Means That Our Current Assets on December 31, 2016 Were Not Sufficient to Satisfy Our Current Liabilities on That Date.
We had a working capital
deficit of approximately $20.6 million at December 31, 2016, which means that our current liabilities exceeded our current assets
by approximately $20.6 million (although it includes deferred revenue of approximately $1.8 million). Current assets are assets
that are expected to be converted into cash within one year and, therefore, may be used to pay current liabilities as they become
due. Our working capital deficit means that our current assets on December 31, 2016 were not sufficient to satisfy all of our current
liabilities on that date.
Our Operating Results May Fluctuate
Because of a Number of Factors, Many of Which Are Outside of Our Control.
Our operating results may
fluctuate significantly as a result of variety of factors, many of which are outside of our control. These factors include, among
others, the following:
|
|
·
|
the demand for our SiteFlash™, Emily™ and other proprietary technologies;
|
|
|
·
|
the demand for our administrative software products and services: emPath®, PTS™, and
SnAPPnet™;
|
|
|
·
|
the demand for our personal secure communication application Ploinks™;
|
|
|
·
|
introduction of new products and services by us and our competitors;
|
|
|
·
|
costs incurred with respect to acquisitions;
|
|
|
·
|
price competition or pricing changes in the industry;
|
|
|
·
|
technical difficulties or system failures;
|
|
|
·
|
general economic conditions and economic conditions specific to the Internet and Internet media
and communication platforms; and
|
|
|
·
|
the licensing of our intellectual property.
|
We Face Product Development
Risks Due to Rapid Changes in Our Industry. Failure to Keep Pace with These Changes Could Harm Our Business and Financial Results.
The markets for our products
are characterized by rapid technological developments, continually-evolving industry trends and standards and ongoing changes in
customer requirements. Our success depends on our ability to timely and effectively keep pace with these developments.
Keeping
Pace with Industry Changes.
We must enhance and expand
our product offerings to reflect industry trends, new technologies and new operating environments as they become increasingly important
to customer deployments. We must continue to expand our business models beyond traditional software licensing and subscription
models, including, by way of example, use of cloud based offering as an increasingly important method and business model for the
delivery of applications. We must also continuously work to ensure that our products meet changing industry certifications and
standards. Failure to keep pace with any changes that are important to our customers could cause us to lose customers and could
have a negative impact on our business and financial results.
Impact of Product Development
Delays or Competitive Announcements.
Our ability to adapt to
changes can be hampered by product development delays. We may experience delays in product development as we have at times in the
past. Complex products like ours may contain undetected errors or version compatibility problems, particularly when first released,
which could delay or adversely impact market acceptance. We may also experience delays or unforeseen costs associated with integrating
products we acquire with products we develop because we may be unfamiliar with errors or compatibility issues of products we did
not develop ourselves. We may choose not to deliver a partially-developed product, thereby increasing our development costs without
a corresponding benefit. This could negatively impact our business.
Our Failure to Maintain and
Increase Acceptance of Our Cloud-Offerings Would Inhibit Our Growth Or Cause a Significant Decline in Our Revenues.
Our future success depends
on maintaining and increasing acceptance of our Cloud-based offering, particularly, of emPath® and PTS™. Any decrease
in the demand for these products would have a material adverse effect on our business, operating results and financial condition
and would place a significant strain on our management and operations.
If We Are Unable to Make Periodic
Updates for Our Products Concerning Changes in Tax Laws and Other Regulations on a Timely Basis Acceptance of Our Products in the
Market could Be Adversely Affected And Our Revenues Would Decline.
Products like emPath®
are affected by changes in tax laws and regulations, and we must generally update such products on an annual or periodic basis
to maintain their accuracy and competitiveness. We cannot be certain we will be able to release these updates on a timely basis
in the future. Any failure to do so could have a material adverse effect on the acceptance of our products. Additionally, any significant
changes in tax laws or regulations applicable to such products could require us to make significant investments in modifications
of these products, leading to significant and unexpected costs.
Errors and Defects
in Our Software Could Affect Sales of Our Products.
The software products we
offer may contain undetected errors, defects, or failures when first introduced or as new versions are released. Testing of software
products presents many challenges since it is difficult to anticipate and simulate the wide range of software computing environments
in which our customers use these products. While we test our products extensively, from time-to- time, we have discovered errors
or defects in our products. These defects and errors may result in any of the following:
|
|
·
|
Delays in the release of our new products, versions and upgrades
|
|
|
·
|
Increased costs to fix such defects and errors, in turn leading to a strain on our software development
resources
|
|
|
·
|
Design modifications of the product
|
|
|
·
|
A decrease in customer satisfaction with, our products and a decrease in sales, and a loss of existing
and potential customers
|
Even after our products
are tested by us and by current and prospective customers, errors and defects may be discovered after the commercial release has
commenced, which may result in loss of or delay in market acceptance which could have a material adverse impact upon our business,
operating results and financial condition.
Our software products may be
vulnerable to break-ins and similar disruptive problems; addressing these issues may be expensive and require a significant amount
of our resources.
We have included security
features in our products that are intended to protect the privacy and integrity of customer data. Despite the existence of these
security features, our software products may be vulnerable to break-ins and similar disruptive problems. Addressing these evolving
security issues may be expensive and require a significant amount of our resources.
The Sale and Support of Software
Products and the Performance of Related Services by Us Entail the Risk of Product or Service Liability Claims, Which Could Significantly
Affect Our Financial Results.
Customers use our products
in connection with the preparation and filing of tax returns and other regulatory reports. If any of our products contain errors
that produce inaccurate results upon which users rely, or cause users to misfile or fail to file required information, we could
be subject to liability claims from users. Our Cloud-based usage licenses and maintenance renewal agreements with our customers
typically contain provisions intended to limit our liability to such claims, but such provisions may not be effective in doing
so. These contractual limitations may not be legally enforceable and may not afford us with adequate protection against product
liability claims in certain jurisdictions. If a successful claim for product or service liability was brought against us, this
could result in substantial cost to us and divert management’s attention from our operations.
International Operations of Our Business Subject
Us to Additional Risks in Those Foreign Countries.
Our international operations
are subject to additional risks, which increase our exposure to foreign laws and regulations. Over time, our international operations
may grow and increase their significance to our business. Sales to international customers subject our business to a
number of risks, including foreign currency fluctuations, unexpected changes in regulatory requirements related to software, international
political and economic instability, international tax laws, compliance with multiple, changing, and possibly conflicting governmental
laws and regulations, and difficulty in staffing and managing foreign operations,. In addition, there may be weaker protection
for our intellectual property abroad than in the United States, and we may have difficulties in enforcing such rights abroad. If
we are not able to comply with foreign laws and regulations, which are often complex and subject to variation and unexpected changes,
we could incur unexpected costs and potentially become involved in litigation. In addition, in the event sales to any of our customers
outside of the United States are delayed or canceled because of any of the risks described above, our revenues may be negatively
impacted.
Security and Privacy
Breaches Could Adversely Impact Our Business.
For services such as our
cloud-based offerings, we may electronically store personal information about our clients and their employees. We take security
measures to protect against the unauthorized access and disclosure of such information. However, there is no guarantee the
precautions we take will be successful in protecting against all security breaches that may result in unauthorized access to such
information. If our security measures are breached or if our services are subject to attacks that degrade or deny the ability
of our clients to access our services, we may incur significant financial, legal, and regulatory exposure.
Privacy Concerns
Could Result in Changes of Regulations or Laws That Affect Our Business.
Personal privacy is a significant
issue in the United States as well as in other countries where our customers operate. Consequently, we are subject to regulations
concerning the use of personal information we collect. Changes to regulations or laws affecting privacy that apply to our business
could impose additional costs and potential liability on us and could also limit our use and disclosure of such information.
If we are required to change our business activities or revise or eliminate services, our business could be adversely affected.
We May Have Difficulty Managing
Our Growth and Integrating Recently Acquired Companies.
Our recent growth through
acquisitions and licensing of new solutions, coupled with our development efforts to create new commercially viable products and
improve existing ones, has placed a significant strain on our managerial, operational, and financial resources. To manage our growth,
we must continue to implement and improve our operational and financial systems and to expand, train, and manage our employee base.
Any inability to manage growth effectively could have a material adverse effect on our business, operating results, and financial
condition. Further, acquisition transactions are accompanied by a number of risks, including the following:
|
|
·
|
the difficulty of assimilating the operations and personnel of the acquired companies;
|
|
|
·
|
the potential disruption of our ongoing business and distraction of management;
|
|
|
·
|
the difficulty of incorporating acquired technology or content and rights into our products and
media properties;
|
|
|
·
|
the correct assessment of the relative percentages of in-process research and development expense
which needs to be immediately written off as compared to the amount which must be amortized over the appropriate life of the asset;
|
|
|
·
|
the failure to successfully develop an acquired in-process technology resulting in the impairment
of amounts currently capitalized as intangible assets;
|
|
|
·
|
unanticipated expenses related to technology integration;
|
|
|
·
|
the maintenance of uniform standards, controls, procedures and policies;
|
|
|
·
|
the impairment of relationships with employees and customers as a result of any integration of
new personnel; and
|
|
|
·
|
the potential unknown liabilities associated with acquired businesses.
|
We may not be successful
in addressing these risks or any other problems encountered in connection with acquisitions. Our failure to address these risks
could negatively affect our business operations through lost opportunities, revenues or profits, any of which would likely result
in a lower stock price.
Our Success Depends On Our
Ability to Protect Our Proprietary Technology.
Our success is dependent,
in part, upon our ability to protect and leverage the value of proprietary technology, including our private communications platform
technology (which includes the Ploinks™ products), our patented SiteFlash™ and Emily™ technologies, our patent-pending
technologies and administrative software solutions like emPath®, PTS™, and SnAPPnet™, as well as our trade secrets,
trade names, trademarks, service marks, domain names and other proprietary rights we either currently have or may have in the future.
Given the uncertain application of existing trademark laws to the Internet and copyright laws to software development, there can
be no assurance that existing laws will provide adequate protection for our technologies, sites or domain names. Policing unauthorized
use of our technologies, content and other intellectual property rights entails significant expenses and could otherwise be difficult
or impossible to do given the global nature of the Internet and our potential markets.
If Demand for Our Products
Grow Quickly, We May Lack the Capacity Needed to Meet Demand or We May Be Required to Increase Our Capital Spending Significantly.
Our current plans may not
be sufficient to meet our capacity needs for the foreseeable future or may not be implemented quickly enough to meet growing demand.
Moreover, if we make significant capital expenditures to increase capacity and demand does not increase as we expect, these expenditures
would adversely affect our profitability and return on capital.
Our Stock Price Has Historically
Been Volatile, Which May Make It More Difficult for Shareholders to Resell Shares When They Choose To At Prices They Find Attractive.
The trading price of our
common stock has been and may continue to be subject to wide fluctuations. The stock price may fluctuate in response to a number
of events and factors, such as quarterly variations in operating results, announcements of technological innovations or new products
and media properties by us or our competitors, changes in financial estimates and recommendations by securities analysts, the operating
and stock price performance of other companies that investors may deem comparable, and news reports relating to trends in our markets.
In addition, the stock market in general, and the market prices for Internet-related and technology-related companies in particular,
have experienced extreme volatility that often has been unrelated to the operating performance of such companies. These broad market
and industry fluctuations may adversely affect the price of our stock, regardless of our operating performance.
Our Common Stock Is Deemed To
Be “Penny Stock,” Which May Make It More Difficult for Investors to Sell Their Shares Due To Suitability Requirements.
Our common stock is deemed
to be “penny stock” as that term is defined in Rule 3a51-1 promulgated under the Exchange Act. Penny stocks are
stocks:
|
|
1.
|
With a price of less than $5.00 per share;
|
|
|
2.
|
That are not traded on a recognized national exchange;
|
|
|
3.
|
Whose prices are not quoted on the NASDAQ automated quotation system (NASDAQ listed stock must
have a price of not less than $5.00 per share); or
|
|
|
4.
|
In issuers with net tangible assets less than $2 million (if the issuer has been in continuous
operation for at least three years) or $5 million (if in continuous operation for less than three years), or with average
revenues of less than $6 million for the last three years.
|
Broker/dealers dealing
in penny stocks are required to provide potential investors with a document disclosing the risks of penny stocks. Moreover, broker/dealers
are required to determine whether an investment in a penny stock is a suitable investment for a prospective investor. These requirements
may reduce the potential market for our common stock by reducing the number of potential investors. This may make it more difficult
for investors in our common stock to sell shares to third parties or to otherwise dispose of them. This could cause our stock price
to decline.
Item
2. Properties
The Company and NOW Solutions’
headquarters are currently located at 101 West Renner Road, Suite 300, Richardson, Texas, and comprise approximately 4,000 square
feet. NOW Solutions has other offices at 6205 Airport Road, Building B, Suite 214, Mississauga, Ontario, Canada, which
comprises 793 square feet. All of these locations are leased
fr
om
third parties and the premises are in good condition. We believe that our facilities are adequate for our present needs and near-term
growth, and that additional facilities will be available at acceptable rates as we need them. Our other subsidiaries may be reached
through our Richardson, Texas headquarters.
Item
3. Legal Proceedings
We are involved in the
following ongoing legal matters:
On December 31, 2011, the
Company and InfiniTek corporation (“InfiniTek”) entered into a settlement agreement to dismiss an action filed by the
Company against InfiniTek in the Texas State District Court in Fort Worth, Texas, for breach of contract and other claims, a counter
claim filed by InfiniTek against the Company for non-payment of amounts claimed the Company owed to InfiniTek, and an action filed
by InfiniTek against the Company in California Superior Court in Riverside, California seeking damages for breach of contract and
lost profit. Pursuant to the terms of the settlement agreement, Vertical agreed to pay InfiniTek $82,500 in three equal installments
with the last payment due by or before August 5, 2012. Upon full payment, InfiniTek shall transfer and assign ownership of the
NAVPath software developed by InfiniTek for use with NOW Solutions emPath® software application and Microsoft Dynamics NAV
(formerly Navision) business solution platform. The amounts in dispute were included in our accounts payable and accrued liabilities
and have been adjusted to the settlement amount of $82,500 at December 31, 2011. The Company has made $37,500 in payments due under
the settlement agreement as of the date of this Report and each party is alleging the other party is in breach of the settlement
agreement. We intend to resolve all disputes with InfiniTek.
On February 13,
2017, the Company was served with a complaint filed by Parker Mills in the Superior Court of the State of California, County of
Los Angeles, Central District, for failure to make payment on the outstanding balance due under a $100,000 convertible debenture
issued by the Company to Parker Mills. The plaintiff seeks payment of the principal balance due under the convertible debenture
of $100,000, interest at the rate of 12% per annum, attorney’s fees and court costs. We intend to resolve this matter
with Parker Mills. This case is styled Parker Mills, LLP v. Vertical Computer Systems, Inc., No.
BC649122
.
William Mills is a partner of Parker Mills and the Secretary and a Director of the Company.
On April 12, 2017, NOW Solutions, Inc. was served with a Notice of Motion for Summary Judgment in
Lieu of Complaint, which was filed by Derek Wolman in the Supreme Court of the State of New York in County of New York for
failure to make outstanding payments on the outstanding balance due under one promissory note in the principal amount of $150,000
(issued on November 17, 2009) and one promissory note in the principal amount of $50,000 (issued on August 28, 2014), both of which
were issued by NOW Solutions to Mr. Wolman. The plaintiff seeks a judgment totaling $282,299 (which includes principal and
accrued interest), plus additional accrued interest from the date the complaint was filed, attorney’s fees and expenses.
We intend to resolve this matter with Mr. Wolman. This case is styled Derek Wolman v. Now Solutions, Inc., No. 65/502/17.
Item
4. Mine Safety Disclosures
Not applicable.
PART II
Item
5. Market For Registrant’s Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities
Our common equity is traded
on the OTC Markets and quoted on the OTCQB under the symbol “VCSY.” The OTCQB may also be referred to as “OTCMKTS”
or “Other OTC”.
The following is the range
of high and low closing bid prices of our stock, for the periods indicated below.
|
|
|
High
|
|
|
Low
|
|
|
|
|
|
|
|
|
|
|
Quarter Ended December 31, 2016
|
|
$
|
0,0244
|
|
|
$
|
0.0178
|
|
|
Quarter Ended September 30, 2016
|
|
$
|
0.0262
|
|
|
$
|
0.0188
|
|
|
Quarter Ended June 30, 2016
|
|
$
|
0.0273
|
|
|
$
|
0.0169
|
|
|
Quarter Ended March 31, 2016
|
|
$
|
0.0233
|
|
|
$
|
0.0151
|
|
|
Quarter Ended December 31, 2015
|
|
$
|
0,0475
|
|
|
$
|
0.0121
|
|
|
Quarter Ended September 30, 2015
|
|
$
|
0.0480
|
|
|
$
|
0.0205
|
|
|
Quarter Ended June 30, 2015
|
|
$
|
0.0370
|
|
|
$
|
0.0226
|
|
|
Quarter Ended March 31, 2015
|
|
$
|
0.0300
|
|
|
$
|
0.0176
|
|
The above quotations reflect inter-dealer prices,
without retail mark-up, mark-down or commission and may not represent actual transactions.
Number of Holders
As of April 24, 2017, there
were 1,929 holders of record of VCSY common stock.
Equity Securities Under
Compensation Plans
|
Equity Compensation Plan Information
|
|
Plan category
|
|
|
Number of securities
to be issued upon
exercise of
outstanding options,
warrants and rights
|
|
|
|
Weighted-average
exercise price of
outstanding options,
warrants and rights
|
|
|
|
Number of securities
remaining available for
future issuance under
equity compensation
plans (excluding
securities reflected in
column (a))
|
|
|
|
|
|
(a)
|
|
|
|
(b)
|
|
|
|
(c)
|
|
|
Equity compensation plans approved by security holders
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
Equity compensation plans not approved by security holders
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Equity Compensation Plan Information
|
|
Plan category
|
|
Number of securities
to be issued upon
exercise of
outstanding options,
warrants and rights
|
|
|
Weighted-average
exercise price of
outstanding options,
warrants and rights
|
|
|
Number of securities
remaining available for
future issuance under
equity compensation
plans (excluding
securities reflected in
column (a))
|
|
|
Stock Options
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
Warrants
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
Unvested Restricted Stock Awards
|
|
|
13,125,000
|
|
|
$
|
0.02
|
|
|
|
-
|
|
|
Total
|
|
|
13,125,000
|
|
|
$
|
0.02
|
|
|
|
-
|
|
|
|
(1)
|
Other than individual agreements with employees, directors
and third party consultants, we do not have any equity compensation plans (i.e., stock option plans or restricted stock plans)
that have been approved by security holders.
|
|
|
(2)
|
No stock options were issued to employees or consultants during the year ended December 31, 2016.
|
|
|
(3)
|
No warrants to purchase common stock were issued to employees or consultants during the year ended December 31, 2016.
|
|
|
(4)
|
Of the 13,125,000 common shares of restricted stock that had not vested at December 31, 2016 and were issued in connection with individual restricted stock agreements executed in 2015 and 2016 with employees of the Company and its subsidiaries, 550,000 have vested through April 24, 2017.
|
Dividends
We have outstanding shares of Series A and Series C 4% Convertible Cumulative Preferred stock that accrue
dividends (if such dividends are declared) at a rate of 4% on a semi-annual basis. The total dividends applicable to Series A and
Series C Preferred Stock were $592
,472 and $588,000 for
the years ended December 31, 2016 and 2015, respectively. Our Board of Directors did not declare any dividends on our outstanding
shares of Series A or Series C Preferred Stock during 2016 or 2015, nor has the Company paid any dividends on our outstanding shares
of Series A or Series C Preferred Stock since 2001. We intend to retain future earnings, if any, to provide funds for use in the
operation and expansion of our businesses. Accordingly, we do not anticipate paying cash dividends on any of our capital stock,
including preferred stock, in the near future. For additional information concerning dividends, please see “Management’s
Discussion and Analysis of Financial Condition and Results of Operations” in Item 7.
Unregistered Sales of
Securities
During the last two years,
we issued the following unregistered securities:
In February 2015, the Company
increased the number of its authorized shares of common stock to 2,000,000,000.
In March 2015, in connection
with a $100,000 loan to Taladin, Ploinks, Inc. agreed to issue 1,000,000 shares of its common stock to the third party lender.
The fair value of these subsidiary shares was determined to be nominal.
In March 2015, pursuant
to an indemnity and reimbursement agreement executed between Mr. Valdetaro and the Company, we issued 1,000,000 shares of our common
stock to reimburse Mr. Valdetaro for 1,000,000 shares of common stock with the Rule 144 restrictive legend transferred to Lakeshore
on the Company’s behalf in connection with an extension granted by Lakeshore in August 2013. The issuance of these shares
eliminated the derivative liability associated with the value of these shares. The fair market value of these shares on the date
of issuance was $38,000 and resulted in the resolution of derivative liabilities and a loss on derivative liabilities of $26,000.
In March 2015, pursuant
to two indemnity and reimbursement agreements executed between Mountain Reservoir Corporation (“MRC”) and the Company,
we issued a total of 2,809,983 shares of our common stock with the Rule 144 restrictive legend to reimburse MRC. Of these shares,
the Company was obligated to reimburse MRC with 1,309,983 shares of common stock that had been pledged by MRC and sold by a third
party lender in 2009, 500,000 shares of common stock that had been wrongfully converted by the same lender in 2014, and 1,000,000
shares of common stock that had been transferred to another third party lender in 2013 on the Company’s behalf for a loan
made by the lender. MRC has assigned its claim against the third party lender for the lender’s wrongful conversion of 500,000
common shares to the Company and we are pursuing the claim in the third party lender’s bankruptcy proceeding. The issuance
of these shares eliminated the derivative liability associated with the value of these shares. The fair market value of these shares
on the date of issuance was $112,399 of which $92,399 resulted in the resolution of derivative liabilities and a loss on derivative
liabilities of $64,680 and $20,000 was recognized as stock reimbursement expense during the twelve months ended December 31, 2015.
In June 2015, in connection
with an amendment concerning certain promissory notes issued by the Company and NOW Solutions to Mr. Weber in the aggregate principal
amount of $735,400, the Company issued 20,000,000 shares of its common stock with the Rule 144 restrictive legend to its subsidiary,
Taladin, Inc., which pledged these shares to secure payment of certain notes payable issued to Weber. The previous pledge agreements
between MRC and Mr. Weber were cancelled. These shares are held in treasury.
In June 2015, the Company
issued 10,000,000 common shares with the Rule 144 restrictive legend to its consolidated subsidiary NOW Solutions. These shares
are held in treasury.
During the year ended December
31, 2015, the Company granted 2,250,000 unregistered shares of its common stock to employees of the Company and its subsidiaries
pursuant to restricted stock agreements with the Company. These shares vest over 3 years in equal installments and the fair value
of the awards is being expensed over this vesting period. The aggregate fair market value of the awards was determined to be $54,750.
Stock compensation expense of $19,616 has been recorded for the year ended December 31, 2015 as additional paid-in capital.
During the year ended December
31, 2015, the Company issued 36,500,000 unregistered shares of its common stock as forbearance fees and late fees to lenders in
connection with loans made to the Company and its subsidiaries. The aggregate fair value of these shares was determined to be $1,050,900.
During the year ended December
31, 2015, the Company issued 35,556,522 unregistered shares of its common stock to lenders to pay off accrued principal and interest
debt in the aggregate amount of $482,612 and legal fees of $20,000 related to loans made by these lenders to the Company and its
subsidiaries. The aggregate fair value of these shares was determined to be $895,913. Accordingly, the Company recorded a loss
on debt extinguishment of $393,301.
As of December 31,
2015, there were 2,250,000 unvested stock compensation awards.
During the year ended December
31, 2015, the Company issued 9,000,000 unregistered shares of its common stock and 3-5 year warrants to purchase 6,800,000 shares
of common stock at a purchase price between $0.05-$0.10 per share (of which one warrant for 800,000 shares included a cashless
warrant exercise provision). These shares and warrants were granted to lenders in connection with loans made by these lenders to
the Company and its subsidiaries in the aggregate principal amount of $745,333. The aggregate relative fair value of these shares
was determined to be $211,783 (which includes $82,904 under the Black-Scholes formula), and was accounted for as a discount on
the loans. Amortization expense is $80,864 during the year ended December 31, 2015 and unamortized discounts are $130,919.
During the year ended December 31, 2015, Ploinks, Inc. granted 800,000 unregistered shares of the common
stock of Ploinks, Inc. to employees of the Company pursuant to restricted stock agreements with Ploinks, Inc. These shares typically
vest over 3 years in various installments.
In March 2016, the
Company cancelled 1,000,000 unregistered shares of its common stock issued during 2015 to a third party lender under an
agreement to amend certain promissory notes issued by the Company and NOW Solutions in the aggregate principal amount of
$715,000. Under the amendment, the Company agreed to make $22,000 monthly payments and an additional $10,000 penalty if such
monthly payment is not timely made.
In March 2016, the Company issued 10,000,000
shares of the Company’s common stock with the Rule 144 restrictive legend to its consolidated subsidiary Ploinks, Inc. These
shares are held in treasury. In exchange, Ploinks, Inc. issued 5,000,000 of its common shares to the Company.
In April 2016, the Company
and a third-party noteholder entered into an agreement under which the Company issued 5,000,000 shares of the Company’s common
stock with the Rule 144 restrictive legend in exchange for the cancellation of $130,000 in principal owed under a note payable
issued by NOW Solutions with a principal amount of $213,139. The fair market value of the shares was $92,500. A gain on debt extinguishment
of $37,500 was recorded for the year ended December 31, 2016.
In May 2016, the Company
and William Mills entered into an agreement under which the Company issued 5,000,000 shares of the Company’s common stock
with the Rule 144 restrictive legend to Mr. Mills in exchange for the cancellation of $100,000 in fees owed for services rendered
by Mr. Mills as a Director and Secretary of the Company. The fair market value of the shares was $100,000. Mr. Mills is a partner
of Parker Mills and the Secretary and a Director of the Company.
In May 2016, the Company
and a third party entered into an agreement under which the Company issued 1,500,000 shares of the Company’s common stock
with the Rule 144 restrictive legend to the third party in lieu of paying $35,969 in fees, expenses, and interest owed to the third
party for services rendered to the Company and its subsidiaries. The fair market value of the shares issued was $37,500.
A loss on debt extinguishment of $1,531 was recorded for the year ended December 31, 2016.
In June 2016, the Company
granted 3,500,000 unregistered shares of the Company’s common stock with the Rule 144 restrictive legend to employees and
a former employee of the Company and its subsidiaries pursuant to an amended agreement to defer payroll. For additional details,
please see “Related Party Transactions” in Item 13. The fair market value of the shares was $78,750.
During the year ended
December 31, 2016, the Company issued 3,000,000 shares of the Company’s common stock with the Rule 144 restrictive legend
to another third party for services rendered. The fair market value of the shares was $66,550 and was recorded as tax consulting
fees for the year ended December 31, 2016.
During the year ended
December 31, 2016, the Company issued convertible debentures in the aggregate principal amount of $715,000 to various third party
lenders for loans made to the Company in the same amount. The debts accrue interest at 10% per annum and are due one year from
the date of issuance. Beginning six months after issuance of the respective debentures and provided that the lowest closing price
of the common stock for each of the 5 trading days immediately preceding the conversion date has been $0.03 or higher, the holder
of the respective debenture may convert the debenture into shares of common stock at a price per share of 80% of the average per
share price of the Company’s common stock for the 5 trading days preceding the notice of conversion date using the 3 lowest
closing prices. In connection with the loans, the Company also issued a total of 7,150,000 shares of common stock of the Company
to the lenders with the Rule 144 restrictive legend and 3 year warrants under which each lender may purchase in aggregate a total
of 7,150,000 unregistered shares of common stock of the Company at a purchase price of $0.10 per share. In connection with the
issuance of shares of common stock and warrants, the Company recorded a discount of $186,967 against the face value of the loans
based on the relative fair market value of the common stock of $114,413 and the full fair market value of the warrants of $72,554.
The warrants are accounted for as derivative liabilities. The discount is being amortized over twelve months and amortization expense
was recognized for the year ended December 31, 2016.
During the year ended December 31, 2016
,
$82,001 of principal, interest and fees under a convertible note issued in the principal amount of $80,000 were converted into
5,914,783 unrestricted common shares of the Company.
During the year ended December 31, 2016, the Company entered into subscription agreements under which
third party subscribers purchased 3,000 shares of VCSY Series A Preferred Stock for $600,000. In connection with the purchase of
the VCSY Series A Preferred Stock, the subscribers also received a total of 6,000,000 shares of common stock of the Company with
the Rule 144 restrictive legend, 300,000 shares of common stock of Ploinks, Inc., 2-year warrants under which the subscribers may
purchase an aggregate total of 450,000 unregistered shares of common stock of the Company at a purchase price of $0.10 per share
and 2-year warrants under which the subscribers may purchase an aggregate total of 450,000 unregistered shares of common stock
of the Company at a purchase price of $0.20 per share. The allocated fair market value of the VCSY Series A Preferred Stock issued
to the subscribers was $366,499. Each share of VCSY Series A Preferred Stock is convertible into 500 shares of the Company’s
common stock. The allocated fair market value of all common shares of the Company issued to the subscribers was $229,496. The allocated
fair market value of all common shares of Ploinks, Inc. issued to the subscribers was $3,416. The fair market value of all warrants
issued to the subscribers was $4,005 (which was calculated using the Black-Sholes model). The warrants were accounted for as derivative
liabilities (see Note 4).
During the year ended December
31, 2016, the
Company cancelled 200,000 previously awarded but unvested unregistered shares of the Company’s common
stock issued to an employee of the Company when the employee resigned. This resulted in the reversal of previously recognized compensation
expense of $1,145 during the year ended December 31, 2016.
During the year ended December
31, 2016, the Company granted 18,250,000 unregistered shares of its common stock pursuant to restricted stock agreements. Shares
under restricted stock agreements typically vest over a period of 1-3 years in various installments and the fair value of the awards
is being expensed over the vesting periods. The aggregate fair market value of the awards was determined to be $361,365. Stock
compensation expense of $229,223 has been recorded for the year ended December 31, 2016 as additional paid-in capital.
Stock compensation
expense for the amortization of restricted stock awards for VCSY stock was $229,223 for the year ended December 31, 2016. As of
December 31, 2016, there were 13,125,000 shares of unvested VCSY common stock compensation awards to employees and consultants.
During the year ended
December 31, 2016, 7,175,000 VCSY common shares issued under restricted stock agreements to employees of the Company were vested.
During the year ended
December 31, 2016, the Company granted 150,000 shares of the common stock of Ploinks, Inc. to third party lenders in connection
with 6-month extensions of convertible debentures in the principal amount of $500,000 issued in 2015. The aggregate fair market
value of the awards was determined to be $16,200 and was recorded as debt discount, and amortized through the term of the note.
During the year ended
December 31, 2016, Ploinks, Inc. granted 1,000,000 unregistered shares of the common stock of Ploinks, Inc. to an employee of the
Company pursuant to a restricted stock agreement with Ploinks, Inc. These shares typically vest over 3 years in various installments
and the fair value of the awards is being expensed over this vesting period. The aggregate fair market value of the awards was
determined to be $108,000. Stock compensation expense of $70,800 has been recorded for the year ended December 31, 2016.
During the year ended
December 31, 2016, the Company granted 4,286,000 unregistered shares of the common stock of Ploinks, Inc. to employees and consultants
of the Company and its subsidiaries pursuant to restricted stock agreements with the Company. These shares typically vest over
3 years in various installments and the fair value of the awards is being expensed over this vesting period. The aggregate fair
market value of the awards was determined to be $462,888. Stock compensation expense of $264,227 has been recorded for the year
ended December 31, 2016. These shares were issued out of shares owned by VCSY.
During the year ended
December 31, 2016, 2,332,001 unregistered shares of the common stock of Ploinks, Inc. to employees and consultants of the Company
and its subsidiaries granted under restricted stock agreement vested.
During the year ended
December 31, 2016, 133,334 unregistered shares of the common stock of Ploinks, Inc. granted to an employee of the Company under
a restricted stock agreement were cancelled.
From January 1, 2017
to April 24, 2017, the Company granted 3,000,000 VCSY common shares pursuant to a stock award to an employee of the Company and
its subsidiaries.
From January 1, 2017
to April 24, 2017, $10,000 of principal and interest under a convertible note issued in the principal amount of $80,000 was converted
into 723,089 common shares.
From January 1, 2017
to April 24, 2017, 550,000 VCSY common shares issued under restricted stock agreements to employees and a consultant of the Company
vested.
From January 1, 2017 to April 24, 2017,
200,001 shares of the common stock of Ploinks, Inc. issued under restricted stock agreements to consultants and employees of the
Company vested.
Unless otherwise noted,
the offers, sales and issuances of our unregistered securities set forth above involved no underwriter’s discounts or commissions.
In engaging in the transactions described above which involved our unregistered securities, we relied upon the private offering
exemption provided under Section 4(2) of the Securities Act of 1933, as amended, in that the transactions involved private offerings
of our unregistered securities, we did not make a public offering or sale of our securities, the investors were either accredited
or unaccredited but sophisticated, and the investors represented to us that they were acquiring the securities for investment purposes
and for their own accounts, and not with an eye toward further distribution.
Item
6. Selected Financial Data
Not applicable.
Item
7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion
is a summary of the key factors management considers necessary or useful in reviewing our results of operations, liquidity and
capital resources. The following discussion and analysis should be read together with the Consolidated Financial Statements and
Notes of Vertical Computer Systems, Inc. and its subsidiaries included in Item 8 of this Report, and the cautionary statements
and risk factors included in Item 1A of this Report.
Critical Accounting Policies
Capitalized Software
Costs
Software costs incurred
internally in creating computer software products are expensed until technological feasibility has been established upon completion
of a detailed program design. Thereafter, all software development costs are capitalized until the point that the product is ready
for sale, and are subsequently reported at the lower of unamortized cost or net realizable value. The Company considers annual
amortization of capitalized software costs based on the ratio of current year revenues by product to the total estimated revenues
by the product, subject to an annual minimum based on straight-line amortization over the product’s estimated economic useful
life, not to exceed five years. The Company periodically reviews capitalized software costs for impairment where the fair value
is less than the carrying value. During the year ended December 31, 2016 and 2015, $246,184 and $541,300 of internal costs were
capitalized, respectively.
Revenue Recognition
Our revenue recognition
policies are in accordance with standards on software revenue recognition, which include guidance on revenue arrangements with
multiple deliverables and arrangements that include the right to use of software stored on another entity’s hardware.
In the case of non-software
arrangements, we apply the guidance on revenue arrangements with multiple deliverables and wherein multiple elements are allocated
to each element based on the element’s relative fair value. Revenue allocated to separate elements is recognized for each
element in accordance with our accounting policies described below. If we cannot account for items included in a multiple-element
arrangement as separate units of accounting, they are combined and accounted for as a single unit of accounting and generally recognized
as the undelivered items or services are provided to the customer.
Consulting.
We provide
consulting services, primarily implementation and training services, to our clients using a time and materials pricing methodology.
The Company prices its delivery of consulting services on a time and materials basis where the customer is either charged an agreed-upon
daily rate plus out-of-pocket expenses or an hourly rate plus out-of-pocket expenses. In this case, the Company is paid fees and
other amounts generally on a monthly basis or upon the completion of the deliverable service and recognizes revenue as the services
are performed.
Software License.
We sell concurrent perpetual software licenses to our customers. The license gives the customer the right to use the software without
regard to a specific term. We recognize the license revenue upon execution of a contract and delivery of the software, provided
the license fee is fixed and determinable, no significant production, modification or customization of the software is required
and collection is considered probable by management. When the software license arrangement requires the Company to provide consulting
services that are essential to the functionality of the software, the product license revenue is recognized upon the acceptance
by the customer and consulting fees are recognized as services are performed.
Software licenses are generally
sold as part of a multiple-element arrangement that may include maintenance and, under a separate agreement, consulting services.
The consulting services are generally performed by the Company, but the customer may use a third-party to perform the consulting
services. We consider these separate agreements as being negotiated as a package. The Company determines whether there is vendor
specific objective evidence of fair value (‘‘VSOEFV’’) for each element identified in the arrangement,
to determine whether the total arrangement fees can be allocated to each element. If VSOEFV exists for each element, the total
arrangement fee is allocated based on the relative fair value of each element. In cases where there is not VSOEFV for each element,
or if it is determined that services are essential to the functionality of the software being delivered, we initially defer revenue
recognition of the software license fees until VSOEFV is established or the services are performed. However, if VSOEFV is determinable
for all of the undelivered elements, and assuming the undelivered elements are not essential to the delivered elements, we will
defer recognition of the full fair value related to the undelivered elements and recognize the remaining portion of the arrangement
value through application of the residual method. Where VSOEFV has not been established for certain undelivered elements, revenue
for all elements is deferred until those elements have been delivered or their fair values have been determined. Evidence of VSOEFV
is determined for software products based on actual sales prices for the product sold to a similar class of customer and based
on pricing strategies set forth in the Company’s standard pricing list. Evidence of VSOEFV for consulting services is based
upon standard billing rates and the estimated level of effort for individuals expected to perform the related services. The Company
establishes VSOEFV for maintenance agreements using the percentage method such that VSOEFV for maintenance is a percentage of the
license fee charged annually for a specific software product, which in most instances is 18% of the portion of arrangement fees
allocated to the software license element.
Maintenance Revenue.
In connection with the sale of a software license, a customer may elect to purchase software maintenance services. Most of the
customers that purchase software licenses from us also purchase software maintenance services. These maintenance services are typically
renewed on an annual basis. We charge an annual maintenance fee, which is typically a percentage of the initial software license
fee and may be increased from the prior year amount based on inflation or other agreed upon percentage. The annual maintenance
fee generally is paid to the Company at the beginning of the maintenance period, and we recognize these revenues ratably over the
term of the related contract.
While most of our customers
pay for their annual maintenance at the beginning of the maintenance period, a few customers have payment terms that allow them
to pay for their annual maintenance on a quarterly or monthly basis. If the annual maintenance fee is not paid at the beginning
of the maintenance period (or at the beginning of the quarter or month for those few maintenance customers), we will ratably recognize
the maintenance revenue if management believes the collection of the maintenance fee is imminent. Otherwise, we will defer revenue
recognition until the time that the maintenance fee is paid by the customer. We normally continue to provide maintenance service
while awaiting payment from customers. When the payment is received, revenue is recognized for the period that revenue was previously
deferred. This may result in volatility in software maintenance revenue from period to period.
Cloud-based offering.
We have contracted with a third party to provide new and existing customers with a hosting facility providing all infrastructure
and allowing us to offer our currently sold software, emPath®, on a service basis. However, a contractual right to take possession
of the software license or run it on another party’s hardware is not granted to the customer. We refer to the delivery method
to give functionality to new customers utilizing this service as cloud-based. Since the customer is not given contractual right
to take possession of the software, the scope of ASC 350-40 does not apply. A customer using cloud-based software can enter into
an agreement to purchase a software license at any time. We generate revenue from cloud-based offering as the customer utilizes
the software over the Internet.
We will provide consulting
services to customers in conjunction with the cloud-based offering. The rate for such service is based on standard hourly or daily
billing rates. The consulting revenue is recognized as services are performed. Customers utilizing their own computer to access
cloud-based functionality are charged a fee equal to the number of employees paid each month multiplied by an agreed-upon rate
per employee. The revenue is recognized as the cloud-based services are rendered each month.
Allowances for Doubtful
Accounts
The Company maintains allowances
for doubtful accounts, for estimated losses resulting from the inability of its customers to make required payments. If the financial
condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances
may be required. We review delinquent accounts at least quarterly to identify potential doubtful accounts, and together with customer
follow-up, estimate the amounts of potential losses.
Deferred Taxes
The Company records a valuation
allowance to reduce the deferred tax assets to the amount that management believes is more likely than not to be realized in the
foreseeable future, based on estimates of foreseeable future taxable income and taking into consideration historical operating
information. In the event management estimates that the Company will not be able to realize all or part of its net deferred tax
assets in the foreseeable future, a valuation allowance is recorded through a charge to income in the period such determination
is made. Likewise, should management estimate that the Company will be able to realize its deferred tax assets in the future in
excess of its net recorded assets, an adjustment to reduce the valuation allowance would increase income in the period such determination
is made.
Stock-Based Compensation
Expense
We account for share-based
compensation in accordance with the provisions of share-based payments, which require measurement of compensation cost for all
stock-based awards at fair value on date of grant and recognition of compensation over the service period for awards expected to
vest. The fair value of restricted stock and restricted stock units is determined based on the number of shares issued and the
quoted price of our common stock. See Note 10 of the Consolidated Financial Statements for a further discussion of stock-based
compensation.
Valuation of the Embedded
and Warrant Derivatives
The valuation
of our embedded derivatives is determined by using the Black-Scholes Option Pricing Model. An embedded derivative is a derivative
instrument that is embedded within another contract, which under a convertible note (the host contract) includes the right to convert
the note by the holder, certain default redemption right premiums and a change of control premium (payable in cash if a fundamental
change occurs). In accordance with the guidance on derivative instruments, embedded derivatives are marked-to-market each reporting
period, with a corresponding non-cash gain or loss charged to the current period. The practical effect of this has been that when
our stock price increases so does our derivative liability, resulting in a non-cash loss that reduces our earnings and earnings
per share. When our stock price declines, we record a non-cash gain, increasing our earnings and earnings per share.
The fair value recorded
for the derivative liability varies from period to period. This variability may result in the actual derivative liability for a
period either above or below the estimates recorded on our consolidated financial statements, resulting in significant fluctuations
in other income (expense) because of the corresponding non-cash gain or loss recorded.
Recently Issued Accounting
Pronouncements
The Company does not expect
the adoption of any recently issued accounting pronouncements to have a significant impact on the Company’s consolidated
financial statements.
Results of Operations
Year ended December 31, 2016 Compared To
Year Ended December 31, 2015
Total Revenues.
We had total revenues of $3,827,675 and $4,263,635 for the years ended December 31, 2016 and 2015, respectively. The decrease in
total revenue was $435,960 for the year ended December 31, 2016, representing a 10.2% decrease compared to the total revenue for
the year ended December 31, 2015. The decrease in revenue was primarily due to a $338,341 decrease in software maintenance, a $42,102
decrease in cloud-based offering and a $11,049 decrease in consulting services. Of the $3,827,675 and $4,263,635 total revenues
for the years ended December 31, 2016 and 2015, respectively, $3,768,420 and $4,186,363 of such amounts were related to the business
operations of NOW Solutions, a 75% owned subsidiary of the Company.
The revenues from licenses
and software consist of fees we bill for NOW Solutions’ new payroll and human resources (“
PRHR
”) software
licenses. These fees decreased $3,210 for the year ended December 31, 2016 compared to the year ended December 31, 2015.
Software maintenance
revenue is generated from existing customers of our PRHR software who want the continued benefit of tax updates, customer support,
and software enhancements. Software maintenance revenue decreased by $338,341 or 9.5% from the year ended December 31, 2015 to
the same period in 2016. The decrease was due to the loss of customer contracts and the effect of unfavorable currency exchange
rates on our Canadian maintenance revenue.
Consulting revenue for
the year ended December 31, 2016 decreased by $11,049 from the same period in the prior year, representing a 3.8% decrease. This
decrease was due to a decline in US customer needs for software upgrade implementation and customization and the effect of unfavorable
currency exchange rates on our Canadian consulting revenue in 2015.
Cloud-based revenue decreased
$42,102 or 13.1% for the year ended December 31, 2016 compared to the same period in 2015. The decrease was primarily related to
customer user base adjustments and the effect of unfavorable currency exchange rates on our Canadian cloud-based revenue.
Other revenues, consisting
primarily of reimbursable travel expenses, decreased by $41,258 or 76.7% for the year ended December 31, 2016 compared to the same
period for 2015. The decrease was mainly attributable to lower reimbursable travel in 2016 due to decreased consultant travel.
Cost of Revenues.
We had direct costs associated with the above revenues of $1,524,853 for the year ended December 31, 2016 compared to $1,767,155
for the same period of 2015, representing a decrease of $242,302 or 13.7%. These direct costs are primarily related to costs providing
customer support, professional services, software upgrades and enhancements. The decrease in direct costs is primarily related
to decreased consulting fees and hosting fees for the year ended December 31, 2016 compared to the same period for 2015.
Selling, General
and Administrative Expenses.
We had selling, general and administrative expenses of $3,871,572 and $3,088,568 for the years
ended December 31, 2016 and 2015, respectively. The total selling, general and administrative expenses for the year ended December
31, 2016 increased by $783,004 compared to the selling, general and administrative expenses for the year ended December 31, 2015,
representing a 25.4% increase. The increase was primarily due to an increase in salaries and benefits (of which $602k related to
non-cash equity compensation), an increase in consulting fees (of which $44k related to non-cash equity compensation), and an increase
in late charges on notes payable in default. These increases were partially offset by decreased travel expenses, a decrease in
legal fees and decreased shareholder communication expense.
Depreciation and
Amortization
. We had depreciation and amortization of $1,083 for 2016 compared to $38,412 in 2015. The decrease is a result
of most equipment and intangible assets having reached the end of their useful lives.
Bad Debt Expense
.
We had bad debt expense of $98,896 for 2016 compared to $3,300 in 2015. The 2016 and 2015 expenses were related to a reserve for
several customer accounts greater than 90 days past due.
Impairment of Software
Costs.
For the year ended December 31, 2016 $1,421,155 of capitalized software development costs related to Ploinks development
was written off as impaired.
Operating Loss.
We had an operating loss of $3,089,884 for the year ended December 31, 2016 compared to operating loss of $633,800 for the year
ended December 31, 2015, a difference of $2,456,084. The increase in operating loss between 2016 and 2015 is primarily a result
of lower revenues and gross profit, higher selling, general and administrative expenses, higher bad debt expense and the impairment
of Ploinks development costs.
Gain/loss on
Derivative Liability.
Derivative liabilities are adjusted each quarter for changes in the market value of the Company’s
common stock. In general, as our stock price increases, the derivative liability increases, resulting in a loss. As our stock price
decreases, the derivative liability decreases, resulting in a gain. The loss on derivative liability was $268,728 for the year
ended December 31, 2016 compared to a loss on derivative liability of $78,680 for the year ended December 31, 2015.
Interest Expense
.
We had interest expense of $1,998,762 and $895,920 for the years ended December 31, 2016 and 2015, respectively. Interest expense
increased for the year ended December 31, 2016 by $1,102,845, representing a 130.2% increase compared to interest expense for the
year ended December 31, 2015. The increase was primarily due to interest and debt discounts related to the issuance of convertible
debentures in 2016 and an adjustment credit in 2015 on interest recorded in a prior year on the settlement of Canadian income taxes.
Interest Income.
Interest income for the year ended December 31, 2016 was $53 compared to $9 for the year ended December 31, 2015.
Forbearance Fees
.
Forbearance fees relate to fees charged by our lenders on loans in default. Forbearance fees for the year ended December 31, 2016
were $58,500 compared to $1,065,900 for the same period in 2015. Forbearance fees for 2016 related to lenders of VCSY and NOW Solutions.
Forbearance fees for 2015 related to the issuance of VCSY common shares on senior secured debt of NOW Solutions and other notes
in default for VCSY and NOW Solutions.
Gain/Loss on Extinguishment
of Debt.
We had a $35,969 gain on debt extinguishment for the year ended December 31, 2016. The gain relates to the fair
market value of 5 million shares of VCSY common stock issued to a NOW Solutions lender to settle a portion of debt principal. For
the year ended December 31, 2015 we had a loss of 393,301. The loss relates to the fair market value of VCSY common stock issued
to settle certain note payable and accrued interest balances.
Net Loss before
Income Tax Benefit.
We had a net loss of $5,379,852 for the year ended December 31, 2016 compared to a net loss of $3,067,592
for the year ended December 31, 2015. The net loss for 2016 was primarily due to an operating loss of $3,089,884 increased by $58,500
of forbearance fees, loss on derivative liabilities of $268,728 and interest expense of $1,998,762. The net loss for 2015 was primarily
due to an operating loss of $633,800 increased by $1,065,900 of forbearance fees, loss on debt extinguishment of $393,301, loss
on derivative liabilities of $78,680 and interest expense of $895,920.
Income Tax Expense/Benefit
.
We had an income tax expense of $86,378 and an income tax benefit of $571,980 for the year ended December 31, 2016 and 2015, respectively.
Income taxes expense for 2016 relates to NOW Solutions, a 75% owned subsidiary of the Company. The 2015 benefit is related to $9,642
of estimated foreign income tax expense offset by a benefit for settlement of foreign income taxes from previous years of $581,622.
Dividend Applicable
to Preferred Stock.
The Company has outstanding Series A 4% Convertible Cumulative Preferred Stock that accrues dividends
(if such dividends are declared) at a rate of 4% on a semi-annual basis. The Company also has outstanding Series C 4% Convertible
Cumulative Preferred Stock that accrues dividends (if such dividends are declared) at a rate of 4% on a quarterly basis. For the
years ended December 31, 2016 and 2015, the total dividends applicable to Series A and Series C Preferred Stock (from prior years)
were $592,472 each year. The Company did not declare or pay any dividends in 2016 or 2015.
Net Loss Applicable to Common Stockholders.
We
had net loss attributed to common stockholders of $5,870,223 and $3,153,367 for the years ended December 31, 2016 and 2015, respectively.
Net loss applicable to common stockholders for the year ended December 31, 2016 increased by $2,712,384 compared to December 31,
2015. The increase in the net loss applicable to common stockholders was due to the combination of factors described above.
Net Loss Per Share.
The Company had a net loss per share of $0.01 and $0.00 for the years ended December 31, 2016 and 2015, respectively.
Financial Condition, Liquidity, Capital
Resources and Recent Developments
At December 31, 2016, we
had non-restricted cash-on-hand of $190,448 compared to $37,141 at December 31, 2015.
Net cash used in operating
activities for the year ended December 31, 2016 was $486,755 compared to net cash used in operating activities of $526,012 for
the year ended December 31, 2015.
A large portion of our
cash and revenue comes from software maintenance. When we bill and collect for software maintenance, we record a liability in deferred
revenue and recognize income ratably over the maintenance period. During 2016, our deferred maintenance revenue (a liability) increased
slightly from $1,658,158 to $1,794,264. The increase was primarily due to an increase in currency exchange rates on Canadian deferred
revenue and an increase in deferred revenue for one US customers who renewed a three year maintenance contract in December 2016.
Our accounts receivable
decreased from $382,463 at December 31, 2015 to $367,278 at December 31, 2016 (net of allowance for bad debts). The decrease in
receivables of $15,185 was due to faster year-end collections of customer receivables in 2016.
Accounts payable and accrued
liabilities increased from $10,645,353 at December 31, 2015 to $12,214,844 at December 31, 2016. The increase of $1,569,491 was
primarily related to an increase in accrued taxes and accrued interest on notes payable. The balance in accounts payable and accrued
liabilities is approximately 33.2 times the balance in accounts receivable. This is one of the reasons we do not have sufficient
funds available to fund our operations and repay our debt obligations under their existing terms, as described below.
Net cash used in investing
activities for the year ended December 31, 2016 was $249,989 consisting of the development of software products and purchase of
computer equipment. Net cash used in investing activities for the year ended December 31, 2015 was $541,300 consisting of the development
of software products.
Net cash provided by financing
activities for the year ended December 31, 2016 was $1,076,249 consisting of borrowings on notes payable of $170,000, borrowings
on convertible debentures of $715,000 and issuance of stock subscriptions of $600,000 somewhat offset by repayments on notes payable
of $113,699, dividends paid to non-controlling subsidiary shareholders of $295,000 and a decrease in back overdrafts of $52. Net
cash provided by financing activities for the year ended December 31, 2015 was $959,413 consisting of borrowings on notes payable
of $555,333, borrowings of related party convertible debentures of $100,000, borrowings on convertible debentures of $580,000 somewhat
offset by repayments on notes payable of $132,848, payments on related party debt of $10,425, dividends paid to non-controlling
subsidiary shareholders of $125,000 and an increase in back overdrafts of $7,647.
The total change in cash
and cash equivalents for the year ended December 31, 2016 when compared to the year ended December 31, 2015 was an increase of
$153,307.
As of the date of the filing
of this Report, we do not have sufficient funds available to fund our operations and repay our debt obligations under their existing
terms. Therefore, we need to raise additional funds through selling securities, obtaining loans, renegotiating the terms of our
existing debt, increasing sales of our products and services and/or succeed in licensing our intellectual property. Our inability
to raise such funds or renegotiate the terms of our existing debt will significantly jeopardize our ability to continue operations.
Contractual Obligations and Commercial Commitments
As of December 31, 2016,
the following contractual obligations and commercial commitments were outstanding:
|
|
|
Balance at
|
|
|
Due in Next Five Years
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Contractual Obligations
|
|
12/31/16
|
|
|
2017
|
|
|
2018
|
|
|
2019
|
|
|
2020
|
|
|
2021+
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Notes payable
|
|
$
|
5,161,959
|
|
|
$
|
5,161,959
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
|
-
|
|
|
Convertible debts
|
|
|
1,354,213
|
|
|
|
1,354,213
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
Operating lease
|
|
|
143,676
|
|
|
|
82,649
|
|
|
|
61,027
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
Total
|
|
$
|
6,659,848
|
|
|
$
|
6,598,821
|
|
|
$
|
61,027
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
-
|
|
Of the above notes payable, the default
status is as follows:
|
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
|
|
|
|
In default
|
|
$
|
4,901,950
|
|
|
$
|
4,310,384
|
|
|
Not in default
|
|
|
1,614,222
|
|
|
|
1,635,050
|
|
|
Total Notes Payable
|
|
$
|
6,516,172
|
|
|
$
|
5,945,434
|
|
Going Concern Uncertainty
We had a net loss of $5,466,230
and $2,495,612 for the years ended December 31, 2016 and 2015, respectively, and have historically incurred losses. In addition,
we had a working capital deficit of approximately $20.6 million at December 31, 2016. The foregoing raises substantial doubt about
our ability to continue as a going concern.
Management is continuing
its efforts to attempt to secure funds through equity and/or debt instruments for our operations, expansion and possible acquisitions,
mergers, joint ventures, and/or other business combinations. We will require additional funds to pay down our liabilities, as well
as finance our expansion plans consistent with our anticipated changes in operations and infrastructure. However, there can be
no assurance that we will be able to secure additional funds and that if such funds are available, whether the terms or conditions
would be acceptable to us and whether we will be able to turn into a profitable position and generate positive operating cash flow.
The consolidated financial statements contain no adjustment for the outcome of this uncertainty.
Furthermore, we are exploring
certain opportunities with a number of companies to participate in co-marketing of each other’s products. We are proceeding
to license our intellectual property to third parties. The exact results of our opportunities to license our intellectual property
to other parties are unknown at this time.
Off-Balance Sheet Arrangements.
None.
Item
7A. Quantitative and Qualitative Disclosures About Market Risk
None.
Item
8. Financial Statements and Supplementary Data
Please refer to the Audited
Consolidated Financial Statements of the Company and its subsidiaries for the fiscal years ended December 31, 2016 and 2015, which
are attached to this Report.
Item
9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None
Item
9A. Controls and Procedures
Evaluation of Disclosure
Controls and Procedures
Our management, principally
our chief executive officer (who is also currently serving as our Principal Accounting Officer), evaluated the effectiveness of
our disclosure controls and procedures as of the end of the period covered by this report. Based on that evaluation, our management
concluded that our disclosure controls and procedures as of the end of the period covered by this report were not effective such
that the information required to be disclosed by us in reports filed under the Exchange Act is (i) recorded, processed, summarized
and reported within the time periods specified in the SEC’s rules and forms and (ii) accumulated and communicated to our
management, including our chief executive officer and chief financial officer, as appropriate to allow timely decisions regarding
disclosure. In particular, we have identified the material weaknesses described below.
Management’s
Annual Report on Internal Control over Financial Reporting
Our management is responsible
for establishing and maintaining disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange
Act for the Company.
In order to ensure whether
our internal control over financial reporting is effective, management has assessed such controls for its financial reporting as
of December 31, 2016. This assessment was based on criteria for effective internal control over financial reporting described in
Internal Control – Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”).
In performing this assessment,
management has identified the following material weaknesses as of December 31, 2016:
|
|
●
|
There is an over-reliance upon independent financial reporting consultants for review of critical
accounting areas and disclosures and material non-standard transactions.
|
|
|
●
|
There is a lack of sufficient accounting staff due to the size of the Company which results in
a lack of segregation of duties necessary for a good system of internal control.
|
|
|
●
|
There is a lack of control procedures that include multiple levels of supervision and review. Certain
parts of the work of our chief financial officer are not monitored or reviewed.
|
|
|
●
|
Consolidation and currency translations are performed manually.
|
The absence of adequate segregation
of duties may have an effect on the systems which we use in the evaluating and processing of certain accounts and areas and in
the posting and recording of journal entries into certain accounts, as described below:
|
|
○
|
Although we implemented a new accounting system effective January 1, 2009 that allows for the consolidation
of the various entities in Vertical Computer Systems along with the translation from local currency to reporting currency, the
system needs to be refined in order to perform currency translations accurately. As a result, we continue to performing our consolidation
and currency translations manually. This will be remediated once funds become available to effectively implement needed system
changes.
|
|
|
○
|
Improving the control and oversight of the duties relating to the systems we use in the evaluation
and processing of certain accounts and areas in the posting and recording of journal entries into certain accounts (in which material
weaknesses have been identified as described above). This improvement should include reviews by management of the accounting
processes as well as a reorganization of some of the accounting functions. In January 2010, we contracted with a consulting firm
to assess our internal controls over financial reporting and propose improvements that can be implemented given our size and number
of employees. The company has not yet implemented these improvements in their entirety as of the filing of this report due to employee
turnover and resource limitations.
|
|
|
○
|
Improving the segregation of duties relating to the processing of accounts and the recording of
journal entries into certain accounts. The company has recently increased the size of its accounting staff which will allow for
needed segregation of duties within the organization. As of the date of this report, the company is evaluating and reorganizing
the duties of its accounting staff in order to address this internal control weakness.
|
As a result of these material
weaknesses in our internal control over financial reporting, our management concluded that our internal control over financial
reporting as of December 31, 2016, was not effective based on the criteria set forth by COSO in Internal Control – Integrated
Framework. A material weakness in internal control over financial reporting is a deficiency, or a combination of deficiencies,
in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the Company’s
annual or interim financial statements will not be prevented or detected on a timely basis.
Management’s
Plan for Remediation of Material Weaknesses
In light of the conclusion
that our internal control over financial reporting was not effective, our management is in the process of implementing a plan intended
to remediate such ineffectiveness and to strengthen our internal controls over financial reporting through the implementation of
certain remedial measures, which include:
|
|
○
|
We have implemented a new accounting system effective January 1, 2009 that allows for the consolidation
of the various entities in Vertical Computer Systems along with the translation from local currency to reporting currency. Although
the system eliminates many of the manual steps in translation and consolidation, many of the steps continue to be manual. This
system also allows for some automation for recording software maintenance revenue and the recording of the deferred revenue liability
account. This automation improves the accuracy of these accounts and is no longer considered a material weakness.
|
|
|
○
|
Improving the control and oversight of the duties relating to the systems we use in the evaluation
and processing of certain accounts and areas in the posting and recording of journal entries into certain accounts (in which material
weaknesses have been identified as described above). This improvement should include reviews by management of the accounting processes
as well as a reorganization of some of the accounting functions. In January 2010, we contracted with a consulting firm to assess
our internal controls over financial reporting and propose improvements that can be implemented given our size and number of employees.
|
|
|
○
|
Improving the segregation of duties relating to the processing of accounts and the recording of
journal entries into certain accounts. This improvement is expected to come based on recommendations from the consulting firm assessing
our internal controls over financial reporting.
|
This annual report does
not include an attestation report of our public accounting firm regarding internal control over financial reporting. Management’s
report was not subject to attestation by our registered public accounting firm pursuant to temporary rules of the Securities and
Exchange Commission that permit us to provide only management’s report in this annual report.
Item
9B. Other Information
None.
NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
Note 1. Organization,
Basis of Presentation and Significant Accounting Policies
Nature of Business
Vertical Computer Systems, Inc. was incorporated
in Delaware in March 1992. We are a multinational provider of application software, software services, Internet core technologies,
and derivative software application products through our distribution network. Our business model combines complementary, integrated
software products, internet core technologies, and a multinational distribution system of partners, in order to create a distribution
matrix that is capable of penetrating multiple sectors through cross selling our products and services. We operate one business
segment.
Basis of Presentation
The consolidated financial statements include
the accounts of the Company and its subsidiaries (collectively, “our”, “we”, the “Company”
or “VCSY”, as applicable). Vertical’s subsidiaries which currently maintain daily business operations are NOW
Solutions, a 75% owned subsidiary, and SnAPPnet, Inc. (“SnAPPnet”), an 80% owned subsidiary of Vertical. Vertical’s
subsidiaries which have minimal operations are Vertical do Brasil, Taladin, Inc. (“Taladin"), and Vertical Healthcare
Solutions, Inc. (“VHS”), each of which a wholly-owned subsidiary of Vertical, as well as Priority Time Systems, Inc.
(“Priority Time”) a 70% owned subsidiary, Ploinks, Inc. (“Ploinks”), a 91% owned subsidiary and Government
Internet Systems, Inc. (“GIS”), an 84.5% owned subsidiary. Vertical’s subsidiaries which are inactive include
EnFacet, Inc. (“ENF”), Globalfare.com, Inc. (“GFI”), Pointmail.com, Inc. and Vertical Internet Solutions,
Inc. (“VIS”), each of which is a wholly-owned subsidiary of Vertical. To date, we have generated revenues primarily
from software licenses, software as a service, consulting fees and maintenance agreements from NOW Solutions and SnAPPnet and patent
licenses from Vertical Computer Systems, the parent company.
Principles of Consolidation
The consolidated financial statements include
the accounts of the Company and its subsidiaries. Equity investments in which we exercise significant influence, but do not control
and are not the primary beneficiary, are accounted for using the equity method of accounting. Investments in which we do not exercise
significant influence over the investee are accounted for using the cost method of accounting. All intercompany accounts and transactions
have been eliminated. We currently have no investments accounted for using the equity or cost methods of accounting.
Cash and Cash Equivalents
Cash equivalents are highly liquid investments
with an original maturity of three months or less.
Revenue Recognition
Our revenue recognition policies are in accordance
with standards on software revenue recognition, which includes guidance on revenue arrangements with multiple deliverables and
arrangements that include the right to use of software stored on another entity’s hardware.
In the case of non-software arrangements, we
apply the guidance on revenue arrangements with multiple deliverables and wherein multiple elements are allocated to each element
based on the element’s relative fair value. Revenue allocated to separate elements is recognized for each element in accordance
with our accounting policies described below. If we cannot account for items included in a multiple-element arrangement as separate
units of accounting, they are combined and accounted for as a single unit of accounting and generally recognized as the undelivered
items or services are provided to the customer.
Consulting.
We provide consulting services,
primarily implementation and training services, to our clients using a time and materials pricing methodology. The Company prices
its delivery of consulting services on a time and materials basis where the customer is either charged an agreed-upon daily rate
plus out-of-pocket expenses or an hourly rate plus out-of-pocket expenses. In this case, the Company is paid fees and other amounts
generally on a monthly basis or upon the completion of the deliverable service and recognizes revenue as the services are performed.
Software License.
We sell concurrent
perpetual software licenses to our customers. The license gives the customer the right to use the software without regard to a
specific term. We recognize the license revenue upon execution of a contract and delivery of the software, provided the license
fee is fixed and determinable, no significant production, modification or customization of the software is required and collection
is considered probable by management. When the software license arrangement requires the Company to provide consulting services
that are essential to the functionality of the software, the product license revenue is recognized upon the acceptance by the customer
and consulting fees are recognized as services are performed.
Software licenses are generally sold as part
of a multiple element arrangement that may include maintenance and, under a separate agreement, consulting services. The consulting
services are generally performed by the Company, but the customer may use a third party to perform those. We consider these separate
agreements as being negotiated as a package. The Company determines whether there is vendor specific objective evidence of fair
value (‘‘VSOEFV’’) for each element identified in the arrangement to determine whether the total arrangement
fees can be allocated to each element. If VSOEFV exists for each element, the total arrangement fee is allocated based on the relative
fair value of each element. In cases where there is not VSOEFV for each element, or if it is determined that services are essential
to the functionality of the software being delivered, we initially defer revenue recognition of the software license fees until
VSOEFV is established or the services are performed. However, if VSOEFV is determinable for all of the undelivered elements, and
assuming the undelivered elements are not essential to the delivered elements, we will defer recognition of the full fair value
related to the undelivered elements and recognize the remaining portion of the arrangement value through application of the residual
method. Where VSOEFV has not been established for certain undelivered elements, revenue for all elements is deferred until those
elements have been delivered or their fair values have been determined. Evidence of VSOEFV is determined for software products
based on actual sales prices for the product sold to a similar class of customer and based on pricing strategies set forth in the
Company’s standard pricing list. Evidence of VSOEFV for consulting services is based upon standard billing rates and the
estimated level of effort for individuals expected to perform the related services. The Company establishes VSOEFV for maintenance
agreements using the percentage method such that VSOEFV for maintenance is a percentage of the license fee charged annually for
a specific software product, which in most instances is 18% of the portion of arrangement fees allocated to the software license
element.
Maintenance Revenue.
In connection with
the sale of a software license, a customer may elect to purchase software maintenance services. Most of the customers that purchase
software licenses from us also purchase software maintenance services. These maintenance services are typically renewed on an annual
basis. We charge an annual maintenance fee, which is typically a percentage of the initial software license fee and may be increased
from the prior year amount based on inflation or other agreed upon percentage. The annual maintenance fee generally is paid to
the Company at the beginning of the maintenance period, and we recognize these revenues ratably over the term of the related contract.
While most of our customers pay for their annual
maintenance at the beginning of the maintenance period, a few customers have payment terms that allow them to pay for their annual
maintenance on a quarterly or monthly basis. If the annual maintenance fee is not paid at the beginning of the maintenance period
(or at the beginning of the quarter or month for those few maintenance customers), we will ratably recognize the maintenance revenue
if management believes the collection of the maintenance fee is imminent. Otherwise, we will defer revenue recognition until the
time that the maintenance fee is paid by the customer. We normally continue to provide maintenance service while awaiting payment
from customers. When the payment is received, revenue is recognized for the period that revenue was previously deferred. This may
result in volatility in software maintenance revenue from period to period.
Cloud-based offering.
We have contracted
with a third party to provide new and existing customers with a hosting facility providing all infrastructure and allowing us to
offer our currently sold software, emPath® and SnAPPnet™, on a service basis. However, a contractual right to take possession
of the software license or run it on another party’s hardware is not granted to the customer. We refer to the delivery method
to give functionality to new customers utilizing this service as a cloud-based offering. Since the customer is not given contractual
right to take possession of the software, the scope of ASC 350-40 does not apply. A customer using our cloud-based offering can
enter into an agreement to purchase a software license at any time. We generate revenue from our cloud-based offering as the customer
utilizes the software over the Internet.
We will provide consulting services to customers
in conjunction with our cloud-based offering. The rate for such service is based on standard hourly or daily billing rates. The
consulting revenue is recognized as services are performed. Customers, utilizing their own computer to access our cloud-based offering,
are charged a fee equal to the number of employees paid each month multiplied by an agreed-upon monthly rate per employee. The
revenue is recognized as the cloud-based offering services are rendered each month.
Concentration of Credit
Risk
We maintain our cash in bank deposit accounts,
which, at times, may exceed federally insured limits. We have not experienced any such losses in these accounts. Substantially
all of our revenue was derived from recurring maintenance fees related to our payroll processing software. The company’s
revenue consists of 60% in Canada and 40% in the US. Receivables arising from sales of the Company’s products are not collateralized.
As of December 31, 2016, two customers represented approximately 71% (40% and 31%) of accounts receivable. As of December 31, 2015,
four customers represented approximately 81.4% (31.7%, 25.2%, 12.7 and 11.8%) of accounts receivable.
Capitalized Software Costs
Software costs incurred internally in creating
computer software products are expensed until technological feasibility has been established upon completion of a detailed program
design. Thereafter, all software development costs are capitalized until the point that the product is ready for sale, and
are subsequently reported at the lower of unamortized cost or net realizable value. The Company considers annual amortization
of capitalized software costs based on the ratio of current year revenues by product to the total estimated revenues by the product,
subject to an annual minimum based on straight-line amortization over the product’s estimated economic useful life, not to
exceed five years. The Company periodically reviews capitalized software costs for impairment where the fair value is less than
the carrying value.
For the year ended December 31, 2016 and 2015,
the company capitalized $246,184 and $541,300, respectively of software development costs related to its Ploinks subsidiary. During
2016, the company recorded an impairment loss of $1,421,155 related to software development cost. During 2015, there was no impairment
of long-lived assets.
Property and Equipment
Property and equipment are stated at cost.
Depreciation is computed primarily utilizing the straight-line method over the estimated economic life of three to five years.
Maintenance, repairs and minor renewals are charged directly to expenses as incurred. Additions and betterment to property and
equipment are capitalized. When assets are disposed of, the related cost and accumulated depreciation thereon are removed from
the accounts and any resulting gain or loss is included in the statement of operations.
Impairment
of Long-Lived Assets
Long-lived assets are reviewed for impairment
whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable through the estimated
undiscounted cash flows expected to result from the use and eventual disposition of the assets. Whenever any such impairment exists,
an impairment loss will be recognized for the amount by which the carrying value exceeds the fair value. During 2016, the company
recorded an impairment loss of $1,421,155 related to software development cost. During 2015, there was no impairment of long-lived
assets.
Stock-based Compensation
We account for share-based compensation in
accordance with the provisions of share-based payments, which requires measurement of compensation cost for all stock-based awards
at fair value on date of grant and recognition of compensation over the service period for awards expected to vest. The fair value
of restricted stock and restricted stock units is determined based on the number of shares granted and the quoted price of our
common stock. Equity instruments issued to other than employees are valued at the earlier of a commitment date or upon completion
of the services, based on the fair value of the equity instruments, and are recognized as expense over the service period.
Allowance for Doubtful Accounts
We establish an allowance for bad debts through
a review of several factors including historical collection experience, current aging status of the customer accounts, and financial
condition of our customers. We do not generally require collateral for our accounts receivable. Our allowance for doubtful accounts
was $139,705 and $97,973 as of December 31, 2016 and 2015, respectively.
Income Taxes
We provide for income taxes in accordance with
the asset and liability method of accounting for income taxes.
Under the asset and liability method, deferred
income taxes are recognized for the tax consequences of “temporary differences” by applying enacted statutory tax rates
applicable to future years to differences between the financial statement carrying amounts and the tax basis of existing assets
and liabilities. A valuation allowance is provided when management cannot determine whether it is more likely than not the deferred
tax asset will be realized. The effect on deferred income taxes of a change in tax rates is recognized in income in the period
that includes the enactment date.
Since January 1, 2007, we account for uncertain
tax positions in accordance with the authoritative guidance issued by the Financial Accounting Standards Board (“FASB”)
on income taxes which addresses how we should recognize, measure and present in our financial statements uncertain tax positions
that have been taken or are expected to be taken in a tax return. Pursuant to this guidance, we can recognize a tax benefit only
if it is “more likely than not” that a particular tax position will be sustained upon examination or audit. To the
extent the “more likely than not” standard has been satisfied, the benefit associated with a tax position is measured
as the largest amount that is greater than 50% likely of being realized upon settlement. No liability for unrecognized tax benefits
was recorded as of December 31, 2016 and 2015.
Earnings per Share
Basic earnings per share is calculated by dividing
net income (loss) available to common stockholders by the weighted average number of shares of the Company’s common stock
outstanding during the period. “Diluted earnings per share” reflects the potential dilution that could occur if our
share-based awards and convertible securities were exercised or converted into common stock. The dilutive effect of our share-based
awards is computed using the treasury stock method, which assumes all share-based awards are exercised and the hypothetical proceeds
from exercise are used to purchase common stock at the average market price during the period. The incremental shares (difference
between shares assumed to be issued versus purchased), to the extent they would have been dilutive, are included in the denominator
of the diluted EPS calculation. The dilutive effect of our convertible preferred stock and convertible debentures is computed using
the if-converted method, which assumes conversion at the beginning of the year.
The following represents a reconciliation of
the numerators and denominators of the basic and diluted earnings per share computation:
|
|
|
Year Ended December 31, 2016
|
|
|
Year Ended December 31, 2015
|
|
|
|
|
Net Loss
Applicable to
Common
Stockholders
(Numerator)
|
|
|
Shares
(Denominator)
|
|
|
Per Share
Amount
|
|
|
Net Loss
Applicable to
Common
Stockholders
(Numerator)
|
|
|
Shares
(Denominator)
|
|
|
Per
Share
Amount
|
|
|
Basic and Diluted EPS
|
|
$
|
(5,870,223
|
)
|
|
|
1,106,272,758
|
|
|
$
|
(0.01
|
)
|
|
$
|
(3,153,367
|
)
|
|
|
1,036,597,308
|
|
|
$
|
(0.00
|
)
|
As of December 31, 2016, and 2015, common stock
equivalents related to the convertible debt, preferred stock and stock derivative liabilities were not included in the denominators
of the diluted earnings per share as their effect would be anti-dilutive.
Fair Value of Financial
Instruments
For certain of our financial instruments, including
cash, accounts receivable, short term debt and accrued expenses, the carrying amounts approximate fair value due to the short maturity
of these instruments. The carrying value of our long-term debt approximates its fair value based on the quoted market prices for
the same or similar issues or the current rates offered to us for debt of the same remaining maturities. For additional information,
please see Note 4 – Derivative Liabilities and Fair Value Measurements.
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 date of financial statements and the reported amounts of revenue and expenses during the reporting period. Among the more
significant estimates included in these financial statements are the estimated allowance for doubtful accounts receivable, valuation
allowance for deferred tax assets, impairment of long-lived assets and intangible and the valuation of warrants and restricted
stock grants. Actual results could materially differ from those estimates.
Cash
Reimbursements
We record reimbursement by our customers for
out-of-pocket expense as part of consulting services revenue in accordance with the guidance related to income statement characterization
of reimbursements received for out of pocket expense incurred.
Reclassifications
Certain reclassifications have been made to
the prior periods to conform to the current period presentation.
Recently Issued Accounting Pronouncements
The Company does not expect the adoption of
any recently issued accounting pronouncements to have a material impact on the Company’s financial position, operations or
cash flows.
Note 2. Going Concern
Uncertainty
The accompanying consolidated financial statements
for 2016 and 2015 have been prepared assuming that the Company will continue as a going concern, which contemplates the realization
of assets and the satisfaction of liabilities in the normal course of business.
The carrying amounts of assets and liabilities
presented in the consolidated financial statements do not purport to represent realizable or settlement values. As of December
31, 2016, the Company had negative working capital of approximately $20.6 million and defaulted on several of its debt obligations.
The company also incurred net losses in 2016 and 2015. These conditions raise substantial doubt about the Company’s ability
to continue as a going concern.
Management is continuing its efforts to attempt
to secure funds through equity and/or debt instruments for our operations, expansion and possible acquisitions, mergers, joint
ventures, and/or other business combinations. The Company will require additional funds to pay down its liabilities, as well as
finance its expansion plans consistent with anticipated changes in operations and infrastructure. However, there can be no assurance
that the Company will be able to secure additional funds and that if such funds are available, whether the terms or conditions
would be acceptable to the Company and whether the Company will be able to turn into a profitable position and generate positive
operating cash flow. The consolidated financial statements contain no adjustment for the outcome of this uncertainty.
Note 3. Related Party Transactions
In March 2015, pursuant to an indemnity and
reimbursement agreement executed between Mr. Valdetaro and the Company, we issued 1,000,000 shares of our common stock with the
Rule 144 restrictive legend to reimburse Mr. Valdetaro for 1,000,000 shares of common stock transferred to Lakeshore on the Company’s
behalf in connection with an extension granted by Lakeshore in August 2013. The issuance of these shares eliminated the derivative
liability associated with the value of these shares. The fair market value of these shares on the date of issuance was $38,000
and resulted in the resolution of derivative liabilities and a loss on derivative liabilities of $26,000.
In March 2015, pursuant to two indemnity and
reimbursement agreements executed between Mountain Reservoir Corporation (“MRC”) and the Company, we issued a total
of 2,809,983 shares of our common stock with the Rule 144 restrictive legend to reimburse MRC. Of these shares, the Company
was obligated to reimburse MRC with 1,309,983 shares of common stock that had been pledged by MRC and sold by a third-party lender
in 2009, 500,000 shares of common stock that had been wrongfully converted by the same lender in 2014, and 1,000,000 shares of
common stock that had been transferred to another third-party lender in 2013 on the Company’s behalf for a loan made by the
lender. MRC assigned its claim against the third-party lender for the lender’s wrongful conversion of 500,000 common
shares to the Company and we are pursuing the claim in the third-party lender’s bankruptcy proceeding. The issuance
of these shares eliminated the derivative liability associated with the value of these shares. The fair market value
of these shares on the date of issuance was $112,399 of which $92,399 resulted in the resolution of derivative liabilities and
a loss on derivative liabilities of $64,680 and $20,000 was recognized as stock reimbursement expense during the twelve months
ended December 31, 2015.
In May 2016, the Company and William Mills
entered into an agreement under which the Company issued 5,000,000 shares of the Company’s common stock with the Rule 144
restrictive legend to Mr. Mills in exchange for the cancellation of $100,000 in fees owed for services rendered by Mr. Mills as
a Director and Secretary of the Company. The fair market value of the shares was $100,000. Mr. Mills is a partner of Parker Mills
and the Secretary and a Director of the Company.
On June 30, 2016, the Company amended an agreement
(originally entered into in July 2010) with certain former and current employees of the Company, concerning the deferral of payroll
claims of approximately $883,190 for salary earned from 2012 to June 30, 2016 and $1,652,113 for salary earned from 2001 to 2012,
which remain unpaid and is reflected as a current liability on the Company’s consolidated financial statements.
Pursuant to the terms of the amended
agreement, each current and former employee who is a party to the agreement (the “Employee(s)”) agreed to defer
payment of salary from the date of the agreement (“Salary Deferral”) for a period of three months for salary
earned from July 1, 2012 to June 30, 2016 and for a period of six months for salary earned from 2001 to June 30, 2012. In
consideration for the Salary Deferral, the Company issued a total 3,500,000 shares of the Company’s common stock with
the Rule 144 restrictive legend (at a fair market value of $78,750) and agreed to pay each Employee a sum equal to the amount
of unpaid salary at December 31, 2003 plus the amount of unpaid salary at the end of any calendar year after 2003 in which
such salary was earned, plus a bonus (the “Bonus”) of nine percent interest, compounded annually until such time
as the unpaid salary has been paid in full. The Company and the Employees have agreed that the Bonus will be paid from
amounts anticipated to be paid to the Company in respect of specified intellectual property assets of the Company.
In order to effect the payments due under
this agreement, the Company assigned to the Employees a twenty percent interest in any net proceeds (gross proceeds less attorney’s
fees and direct costs) derived from infringement claims and any license fees paid by a subsidiary of the Company or third party
to the Company regarding (a) U.S. patent #6,826,744 and U.S. patent #7,716,629 (plus any continuation patents) on Adhesive Software’s
SiteFlash™ Technology, (b) U.S. patent #7,076,521 (plus any continuation patents) in respect of “Web-Based Collaborative
Data Collection System”, and (c) U.S. patent U.S. Patent No. #8,578,266 and #9,405,736 (plus any continuation patents) in
respect to “Method and System for Automatically Downloading and Storing Markup Language Documents into a Folder Based Data
Structure,” and (d) any license payments made (i) by a subsidiary of the Company to the Company in connection with a licensing
or distribution agreement between the Company and such subsidiary or (ii) by third party to the Company in connection with a licensing
or distribution agreement between the Company and a third party
Under the terms of this agreement, the
Bonus is contingent on payment of unpaid wages. In addition, the Bonus is contingent upon generating revenues from the sources
of the twenty percent interests in net proceeds assigned to the current and former employees. The interests that were assigned
under the agreement for net proceeds consist of the underlying patents of the SiteFlash™ and Emily™ technologies and
licensing under distribution and licensing agreements between the Company and subsidiaries and between the Company and third parties.
Currently, there is no foreseeable income to be generated from these sources to which a twenty percent interest can reasonably
be projected or otherwise applies to. There is no pending litigation regarding any of these patents. In addition, with respect
to any licenses from Vertical to its subsidiaries, the licenses of technology underlying these patents were for a three percent
royalty on gross revenues. If there were income, any payments under this agreement would likely be minimal. Currently, there is
no income being generated from licensing. No subsidiary is currently offering a product to the market using these licensed technologies
nor does Vertical have any agreement to license these technologies to a third party.
Since payment of the Bonus is contingent
upon first paying all unpaid salary and there are no foreseeable revenues to pay the twenty percent interest in these technologies,
it is doubtful at the present time that any Bonus will be paid and therefore the Bonus was not accrued as of December 31, 2016
as this contingent liability is considered remote. Cumulative bonus interest through December 31, 2016 is $3,816,659.
As of December 31, 2016, and 2015, the
Company had accounts payable to related parties in an aggregate amount of $139,546 and $108,379, respectively.
Related Party Notes Payable
|
|
|
December 31,
|
|
|
|
|
2016
|
|
|
2015
|
|
|
Notes payable bearing interest at 10% to 15% per annum. Of these notes payable $208,242 and $338,243 were in default at December 31, 2016 and 2015, respectively.
|
|
$
|
208,242
|
|
|
$
|
338,243
|
|
|
|
|
|
|
|
|
|
|
|
|
Convertible debenture bearing interest at 10% per annum, due one year from date of issuance. Net of unamortized discount of $20,798 for 2015.
|
|
$
|
100,000
|
|
|
$
|
79,202
|
|
|
Total notes payable to related parties
|
|
|
308,242
|
|
|
|
417,445
|
|
|
|
|
|
|
|
|
|
|
|
|
Current maturities
|
|
|
(308,242
|
)
|
|
|
(417,445
|
)
|
|
|
|
|
|
|
|
|
|
|
|
Long-term portion of notes payable to related parties
|
|
$
|
-
|
|
|
$
|
-
|
|
The following table reflects our related party
debt activity for the years ended December 31, 2016 and 2015:
|
December 31, 2014
|
|
$
|
348,666
|
|
|
Borrowings from related parties
|
|
|
100,000
|
|
|
Payments to related parties
|
|
|
(10,423
|
)
|
|
Debt discounts due to stock and warrants issued with debt
|
|
|
(20,798
|
)
|
|
December 31, 2015
|
|
|
417,445
|
|
|
Common shares issued for debt principal
|
|
|
(130,000
|
)
|
|
Amortization of debt discounts due to stock and warrants issued with debt
|
|
|
20,797
|
|
|
December 31, 2016
|
|
$
|
308,242
|
|
During the year ended December 31, 2015, the
Company issued a convertible debenture in the principal amount of $100,000 to Parker Mills, LLP (“Parker Mills”).
The debt accrues interest at 10% per annum and is due one year from the date of issuance. Beginning six months after issuance
of the debenture, the holder of the debenture may convert the debenture into shares of common stock at a price per share of 80%
of the average per share price of the Company’s common stock for the 5 trading days preceding the notice of conversion date
using the 3 lowest closing prices. In connection with the loan, the Company also issued a total of 1,000,000 shares of common stock
of the Company to the lender and 3-year warrants under which the lender may purchase in aggregate a total of 1,000,000 unregistered
shares of common stock of the Company at a purchase price of $0.10 per share. In connection with the issuance of common stock and
warrants, the Company recorded a discount of $20,798 against the face value of the loans based on the relative fair market value
of the common stock and warrants. William Mills is a partner of Parker Mills and the Secretary and a Director of the Company. This
convertible debenture is in default. For additional details on litigation concerning this convertible note, please see “Litigation”
in Note 12.
Note 4. Derivative Liabilities
and Fair Value Measurements
Derivative liabilities
During the year ended December 31, 2015, the
Company issued shares of our common stock pursuant to the terms of indemnity and reimbursement agreements between the Company and
Mr. Valdetaro, the CTO of the Company and MRC. For additional details on these transactions, please see the transactions in March
2015 under “Common and Preferred Stock in Note 10.
These contractual commitments to replace all
the pledged shares was evaluated under FASB ASC 815-40, Derivatives and Hedging and was determined to have characteristics of a
liability and therefore constituted a derivative liability under the above guidance. Each reporting period, this derivative liability
is marked-to-market with the non-cash gain or loss recorded in the period as a gain or loss on derivatives. At December 31, 2016
and 2015, the aggregate fair value of the derivative liabilities was $1,014,192 and $0, respectively.
During the years ended December 31, 2016 and
2015, the Company entered into several loan agreements with third party lenders and a related party lender under which certain
convertible debentures (which are convertible into shares of the Company’s common stock) and warrants to purchase shares
of the Company’s common stock were issued. During the year ended December 31, 2016, the Company entered into subscription
agreements with third parties to purchase shares of the Company’s Series A Preferred Stock (which are convertible the Company’s
common stock) and warrants to purchase shares of the Company’s common stock. For additional details regarding these transactions,
please see the 2015 and 2016 summaries for convertible debentures and subscription agreements under “Common and Preferred
Stock” in Note 10.
During 2016, certain notes issued by the Company
became convertible and qualified as derivative liabilities under ASC 815. In addition, the outstanding common stock warrants associated
with the notes became tainted and were required to be accounted for as derivative liabilities under ASC 815.
For the year ended December 31, 2016 and
2015, the aggregate change in the fair value of derivative liabilities was a loss of $268,728 and $78,680, respectively.
The valuation of our embedded derivatives
is determined by using the Black-Scholes Option Pricing Model. As such, our derivative liabilities have been classified as Level
3.
The Company estimated the fair value of the
derivative liabilities using the Black-Scholes option pricing model and the following key assumptions during 2016:
|
|
|
2016
|
|
|
Expected dividends
|
|
0
|
%
|
|
Expected terms (years)
|
|
0.16 – 3.04
|
|
|
Volatility
|
|
101% - 139
|
%
|
|
Risk-free rate
|
|
0.36% - 161
|
%
|
Fair value measurements
FASB ASC 820, Fair Value Measurements and Disclosures,
defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in
the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the
measurement date. FASB ASC 820 also establishes a fair value hierarchy which requires an entity to maximize the use of observable
inputs and minimize the use of unobservable inputs when measuring fair value. FASB ASC 820 describes three levels of inputs that
may be used to measure fair value:
Level 1
– Quoted prices
in active markets for identical assets or liabilities.
Level 2
– Observable
inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; or other inputs that are observable
or can be corroborated by observable market data for substantially the full term of the assets or liabilities.
Level 3
– Unobservable
inputs that are supported by little or no market activity and that are financial instruments whose values are determined using
pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of
fair value requires significant judgment or estimation.
If the inputs used to measure the financial
assets and liabilities fall within more than one level described above, the categorization is based on the lowest level of input
that is significant to the fair value measurement of the instrument.
The following table provides a summary of the fair value of our
derivative liabilities as of December 31, 2016 and December 31, 2015:
|
|
|
Fair value measurements on a recurring
basis
|
|
|
|
|
Level 1
|
|
|
Level 2
|
|
|
Level 3
|
|
|
As of December 31, 2016:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Derivatives
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
1,014,192
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of December 31, 2015:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Derivatives
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
-
|
|
The estimated fair value of short-term financial
instruments, including cash, accounts receivable, accounts payable and accrued liabilities and deferred revenue approximates their
carrying value due to their short-term nature. The estimated fair value of our long-term borrowings approximates carrying value
since the related rates of interest approximate current market rates.
The below table presents the change in
the fair value of the derivative liabilities during the year ended December 31, 2016:
|
Fair value as of December 31, 2015
|
|
|
-
|
|
|
Additions recognized as debt discounts
|
|
$
|
741,583
|
|
|
Additions reclassified from equity
|
|
|
50,557
|
|
|
Additions recognized in equity financing
|
|
|
4,005
|
|
|
Reduction due to settlement upon conversion
|
|
|
(50,681
|
)
|
|
Loss on change in fair value of derivatives
|
|
|
268,728
|
|
|
Fair value as of December 31, 2016
|
|
$
|
1,014,192
|
|
Note 5. Property and
Equipment
Property and equipment consist of the following
as of December 31, 2016 and 2015:
|
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
|
|
|
|
Equipment (3-5 year life)
|
|
$
|
915,280
|
|
|
$
|
908,086
|
|
|
Leasehold improvements (5 year life)
|
|
|
87,714
|
|
|
|
87,714
|
|
|
Furniture and fixtures (3-5 year life)
|
|
|
45,500
|
|
|
|
45,184
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
1,048,494
|
|
|
|
1,040,984
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated depreciation
|
|
|
(1,043,397
|
)
|
|
|
(1,038,609
|
)
|
|
|
|
$
|
5,097
|
|
|
$
|
2,375
|
|
Depreciation expense for 2016 and 2015 was
$1,083 and $20,795, respectively.
Note 6. Intangible Assets
Intangible assets consisted of the following
as of December 31, 2016 and 2015:
|
|
|
2016
|
|
|
2015
|
|
|
Capitalized software development
|
|
$
|
-
|
|
|
$
|
1,174,972
|
|
|
Acquired software (5 year life)
|
|
|
304,003
|
|
|
|
303,902
|
|
|
Customer list (5 year life)
|
|
|
2,200
|
|
|
|
2,200
|
|
|
Trademark
|
|
|
5,000
|
|
|
|
5,000
|
|
|
Website (5 year life)
|
|
|
15,000
|
|
|
|
15,000
|
|
|
Total
|
|
|
326,203
|
|
|
|
1,501,074
|
|
|
Accumulated amortization
|
|
|
(319,513
|
)
|
|
|
(319,413
|
)
|
|
|
|
$
|
6,690
|
|
|
$
|
1,181,661
|
|
Amortization expense for 2016 and 2015 was
$0 and $17,617, respectively.
During 2016, the Company capitalized an aggregate
of $246,184 related to software development and wrote off $1,421,155 of impaired software development costs related to its Ploinks™
software application, which included the $246,184.
During 2015, the Company capitalized $541,300
of software development costs related to its Ploinks™ software application.
Note 7. Accounts Payable
and Accrued Expenses
Accounts payable and accrued liabilities consist
of the following:
|
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
|
|
|
|
Accounts payable
|
|
$
|
2,613,942
|
|
|
$
|
2,709,381
|
|
|
Accrued payroll
|
|
|
2,734,024
|
|
|
|
2,703,165
|
|
|
Accrued payroll tax and penalties
|
|
|
2,309,970
|
|
|
|
1,928,822
|
|
|
Accrued interest
|
|
|
3,371,112
|
|
|
|
2,424,178
|
|
|
Accrued taxes
|
|
|
598,684
|
|
|
|
499,102
|
|
|
Accrued liabilities - other
|
|
|
447,566
|
|
|
|
272,326
|
|
|
|
|
$
|
12,075,298
|
|
|
$
|
10,536,974
|
|
Accrued payroll primarily consists of deferred
compensation for several executives who agreed to defer a portion of their salaries due to cash flow constraints. Accrued payroll
tax and penalties relate to unpaid payroll taxes, interest and penalties for NOW Solutions, Inc. and for certain non-functioning
subsidiaries, The Internal Revenue Service has made a claim for payroll taxes owed of approximately $1.2 million and has garnished
certain receivables from U.S. customers. Accrued taxes primarily consist of U.S. sales tax, Canadian GST, Canadian income tax and
U.S. income tax. Accrued liabilities – other primarily consists of accrued rent, board of director fees, unbilled professional
and consulting fees, and other accrued expenses.
Note 8. Notes Payable
and Convertible Debts
The following table reflects our third-party
debt activity, including our convertible debt, for the years ended December 31, 2016 and 2015:
|
December 31, 2014
|
|
$
|
4,575,239
|
|
|
Repayments of third party notes
|
|
|
(132,848
|
)
|
|
Borrowings from third parties
|
|
|
1,135,333
|
|
|
Stock issued for debt payments
|
|
|
(258,552
|
)
|
|
Debt discounts due to stock and warrants issued with debt
|
|
|
(190,985
|
)
|
|
Amortization of debt discounts
|
|
|
80,864
|
|
|
Conversion of accrued interest to debt principal
|
|
|
188,552
|
|
|
Currency translation
|
|
|
(583
|
)
|
|
December 31, 2015
|
|
|
5,397,020
|
|
|
Repayments of third party notes
|
|
|
(113,699
|
)
|
|
Borrowings from third parties
|
|
|
885,000
|
|
|
Conversion of convertible debt principal to common stock
|
|
|
(74,297
|
)
|
|
Debt discounts due to stock and warrants issued with debt
|
|
|
(872,196
|
)
|
|
Amortization of debt discounts
|
|
|
627,542
|
|
|
Attorney fees added to note principal
|
|
|
3,500
|
|
|
Currency translation
|
|
|
275
|
|
|
December 31, 2016
|
|
$
|
5,853,145
|
|
During the year ended December 31, 2015, the
Company and its subsidiaries borrowed an aggregate of $555,333 from various third party lenders and issued several unsecured notes
payable in the same amounts to the lenders, which bear interest at 10%-12% per annum. Of these notes, $132,848 was repaid at December
31, 2015.
During the year ended December 31, 2015, the
Company issued convertible promissory notes and debentures in the aggregate principal amount of $580,000 to various third party
lenders for loans made to the Company in the same amount. The debts accrue interest at 10% per annum and are due one year from
the date of issuance. Beginning six months after issuance of the respective debenture, the holder of the debenture may convert
the debenture into shares of common stock at a price per share of either (a) 80% of the average per share price of the Company’s
common stock for the 5 trading days preceding the notice of conversion date using the 3 lowest closing prices or (b) 75% of the
average per share closing bid price of the Company’s common stock during the 10 trading days prior to the notice of conversion
date using the lowest 5 closing bid prices per share (which shall not be lower than $0.03 per share). In connection with the loans,
the Company also issued a total of 6,500,000 shares of common stock of the Company to the lenders and 3-5 year warrants under which
each lender may purchase in aggregate a total of 5,800,000 unregistered shares of common stock of the Company at a purchase price
of between $0.05-$0.10 per share (of which one warrant for 800,000 shares included a cashless warrant exercise provision). These
warrants were issued to the lenders in connection with these loans made to the Company. In connection with the issuance of common
stock and warrants, the Company recorded a discount of $161,735 against the face value of the loans based on the relative fair
market value of the common stock and warrants. The discount is being amortized over twelve months and $51,614 of amortization expense
was recognized for the year ended December 31, 2015.
During the year ended December 31, 2016, the
Company issued convertible debentures in the aggregate principal amount of $715,000 to various third party lenders for loans made
to the Company in the same amount. The debts accrue interest at 10% per annum and are due one year from the date of issuance. Beginning
six months after issuance of the respective debentures and provided that the lowest closing price of the common stock for each
of the 5 trading days immediately preceding the conversion date has been $0.03 or higher, the holder of the respective debenture
may convert the debenture into shares of common stock at a price per share of 80% of the average per share price of the Company’s
common stock for the 5 trading days preceding the notice of conversion date using the 3 lowest closing prices. In connection with
the loans, the Company also issued a total of 7,150,000 shares of common stock of the Company to the lenders with the Rule 144
restrictive legend and 3 year warrants under which each lender may purchase in aggregate a total of 7,150,000 unregistered shares
of common stock of the Company at a purchase price of $0.10 per share. In connection with the issuance of shares of common stock
and warrants, the Company recorded a discount of $186,967 against the face value of the loans based on the relative fair market
value of the common stock and full fair market value of the warrants. The warrants are accounted for as derivative liabilities.
The discount is being amortized over twelve months and $105,597 of amortization expense was recognized for the year ended December
31, 2016.
During the year ended December 31, 2016,
$82,001 of principal, interest and fees under a convertible note were converted into 5,914,783 unrestricted common shares of the
Company.
Lakeshore Financing
On January 9, 2013, NOW Solutions completed
a financing transaction in the aggregate amount of $1,759,150, which amount was utilized to pay off existing indebtedness of the
Company and NOW Solutions to Tara Financial Services and Robert Farias, a former employee of the Company, and all security interests
granted to Tara Financial Services and Mr. Farias were cancelled.
In connection with this financing, the Company
and several of its subsidiaries entered into a loan agreement (the “
Loan Agreement
”), dated as of January 9,
2013 with Lakeshore Investment, LLC (“
Lakeshore
”) under which NOW Solutions issued a secured 10-year promissory
note (the “
Lakeshore Note
”) bearing interest at 11% per annum to Lakeshore in the amount of $1,759,150 payable
in equal monthly installments of $24,232 until January 31, 2022. Upon the payment of any prepayment principal amounts, the monthly
installment payments shall be proportionately adjusted proportionately on an amortized rata basis.
The Lakeshore Note is secured by the assets
of the Company’s subsidiaries, NOW Solutions, Priority Time, SnAPPnet, Inc. (“
SnAPPnet
”) and the Company’s
SiteFlash™ technology and cross-collateralized. Upon the aggregate principal payment of $290,000 toward the Lakeshore Note,
the Company has the option to have Lakeshore release either the Priority Time collateral or the SiteFlash™ collateral. Upon
payment of the aggregate principal of $590,000 toward the Lakeshore Note, Lakeshore shall release either the Priority Time collateral
or the SiteFlash™ collateral (whichever is remaining). Upon payment of the aggregate principal of $890,000 toward the Lakeshore
Note, Lakeshore shall release the SnAPPnet collateral and upon full payment of the Lakeshore Note, Lakeshore shall release the
NOW Solutions collateral.
As additional consideration for the loan, the
Company granted a 5% interest in Net Claim Proceeds (less any attorney’s fees and direct costs) from any litigation or settlement
proceeds related to the SiteFlash™ technology to Lakeshore which was increased to 8% under an amendment to the Loan Agreement
in 2013. In addition, until the Note is paid in full, NOW Solutions agreed to pay a Lakeshore royalty of 6% of its annual gross
revenues in excess of $5 million dollars up to a maximum of $1,759,150. Management has estimated the fair value of the royalty
to be nominal as of its issuance date and no royalty was owed as of September 30, 2015 or December 31, 2014.
In December 2014, the Company and Lakeshore
entered into an amendment of the Lakeshore Note and the Loan Agreement. Under the terms of the amendment, NOW Solutions agreed
to make $2,500 weekly advance payments to Lakeshore to be applied to the 25% dividend of NOW Solutions’ net income after
taxes in connection with Lakeshore’s 25% minority ownership interest in NOW Solutions. Within 10 business days after the
Company files its periodic reports with the SEC, NOW Solutions will also make quarterly payment advances to Lakeshore based on
60% of Lakeshore’s 25% share of NOW Solutions estimated quarterly net income after taxes, less any weekly payment advances
received by Lakeshore during the then-applicable quarter and the weekly $2,500 payments shall be increased or decreased based only
upon any increases or decreases of maintenance and cloud-based offering fees during the then-completed quarter (but will not decrease
below a minimum of $2,500 per week). NOW Solutions shall pay Lakeshore the balance of Lakeshore’s 25% of NOW’s yearly
net income after taxes (less any advances) within 10 business days after the Company files it annual 10-K report with the SEC and
any payments in excess of Lakeshore’s 25% of NOW yearly profit shall be credited towards future weekly advance payments.
The Company also agreed to pay attorney fees of $40,000 and paid fees of $80,000 to a former consultant and employee of the Company
who is a member of Lakeshore. In consideration of the extension to cure the default under the Lakeshore Note and the Loan Agreement,
the Company transferred a 20% ownership interest in two subsidiaries to Lakeshore: Priority Time Systems, Inc., and in SnAPPnet,
Inc.. This resulted in an additional non-controlling interest recognized in the equity of the Company of $391,920 and $99,210 for
Priority Time Systems, Inc. and SnAPPnet, Inc., respectively, during 2014. The Company had an option to buy back Lakeshore’s
ownership interest in NOW Solutions, Priority Time and SnAPPnet, Inc. (which expired on January 31, 2015).
In July 2015, we entered into an agreement
with Lakeshore to amend the terms of the Loan Agreement and the Lakeshore Note. Under the terms of the amendment, the Company issued
13,000,000 common shares with the Rule 144 restrictive legend, resulting in a forbearance loss of $455,000 and Ploinks agreed to
issue 3,000,000 common shares of its stock to Lakeshore. The fair value of the Ploinks shares was determined to be nominal. Also
in July 2015, the Company further amended the Lakeshore Note and the Loan Agreement with Lakeshore. Pursuant to this Agreement,
the Company issued 2,000,000 shares of its common stock with the Rule 144 restrictive legend resulting in a forbearance loss of
$54,200 and paid $15,000 to Lakeshore as forbearance fees.
In August 2015, we entered into an agreement
with Lakeshore to amend the terms of the Loan Agreement and the Lakeshore Note. Under the terms of the amendment, the Company issued
7,000,000 shares of its common stock with the Rule 144 restrictive legend resulting in a forbearance loss of $175,700 and Ploinks
agreed to issue 2,000,000 common shares of its stock to Lakeshore. The fair value of the Ploinks shares was determined to be nominal.
Under the August 2015 agreement, the Company
also agreed to make a $500,000 payment for amounts due to Lakeshore under the Lakeshore Note and the Loan Agreement. In the event
that the Company did not make the Lakeshore $500,000 payment on or before August 21, 2015, then Lakeshore in lieu of the $500,000
payment, would obtain a purchase option (the “2015 Purchase Option”) to purchase an additional 250 shares of NOW Solutions
common stock for a total purchase price of $950,000. In addition, since the Company did not make the $500,000 payment to Lakeshore
on or before August 21, 2015, no further payment on the Note was due until January 1, 2016 at which time the Note plus all accrued
interest were recalculated and the Note was re-amortized under the same interest rate and terms as the Note and the maturity date
of the Note was extended 10 years from January 1, 2016.
In October 2015, Lakeshore provided notice
to the Company of its intent to exercise the 2015 Purchase Option concerning the purchase of additional common shares of NOW Solutions.
Lakeshore did not make the payment due by December 31, 2015 to purchase an additional ownership interest in NOW Solutions and as
a consequence the 2015 Purchase Option expired.
During the year ended December 31, 2016 and
2015, the Company, through its subsidiary, paid Lakeshore $295,000 and $125,000, respectively, towards dividends owed.
The Lakeshore note is in default and the
Company is currently evaluating solutions to resolve all issues with Lakeshore.
|
|
|
December 31
|
|
|
December 31
|
|
|
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
|
|
|
|
Third Party Notes Payable
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unsecured notes payable issued to third party lenders bearing interest at rates between 10% and 15% per annum and are past due their original maturity dates. Of these notes, $1,570,368 and $1,560,103 were in default or non-performing as of December 31, 2016 and 2015, respectively.
|
|
$
|
1,830,377
|
|
|
$
|
1,770,103
|
|
|
|
|
|
|
|
|
|
|
|
|
Secured notes payable issued to third party lenders, bearing interest at 10% to 18% per annum. These notes are secured by stock pledges by MRC totaling 33,976,296 common shares. Of these notes $1,025,449 and $310,449 were in default or non-performing at December 31, 2016 and 2015, respectively.
|
|
|
1,025,449
|
|
|
|
1,025,449
|
|
|
|
|
|
|
|
|
|
|
|
|
Secured notes payable issued to third party lenders, bearing interest at 11% to 18% per annum. These notes are secured by certain technology owned by the Company, supporting its Emily product. Of these notes $470,860 were in default or non-performing at December 31, 2016 and 2015.
|
|
|
470,860
|
|
|
|
470,860
|
|
|
|
|
|
|
|
|
|
|
|
|
Secured note payable issued to Lakeshore, bearing interest at 11% per annum. The note is secured by all of the assets of NOW Solutions, Priority Time, and SnAPPnet, Inc. as well as the SiteFlash™ technology. This note was in default or non-performing at December 31, 2016 and 2015.
|
|
|
1,627,031
|
|
|
|
1,630,729
|
|
|
|
|
|
|
|
|
|
|
|
|
Total notes payable to third parties
|
|
|
4,953,717
|
|
|
|
4,897,141
|
|
|
Current maturities
|
|
|
4,953,717
|
|
|
|
4,897,141
|
|
|
Long-term portion of notes payable to third parties
|
|
$
|
-
|
|
|
$
|
-
|
|
Certain notes payable also contain provisions
requiring additional principal reductions in the event sales by NOW Solutions exceed certain financial thresholds or the Company
receives proceeds from infringement claims regarding U.S. Patent #6,826,744, U.S. Patent #7,716,629 and U.S. Patent #8,949,780.
Third Party Convertible
Promissory Notes and Debentures
Third
party convertible promissory notes and debentures consist of the following:
|
|
|
December 31,
2016
|
|
|
December 31,
2015
|
|
|
|
|
|
|
|
|
|
|
In December 2003, we issued a debenture in the amount of $30,000 to a third party. The debt accrues interest at 13% per annum and was due December 2005. The holder may convert the debenture into shares of common stock at 100% of the closing price.
|
|
$
|
30,000
|
|
|
$
|
30,000
|
|
|
|
|
|
|
|
|
|
|
|
|
Convertible debentures to various third party lenders for loans made to the Company in the aggregate amount of $1,224,213 net of unamortized discounts of $354,785. The debts accrue interest at 10% per annum and are due one year from the date of issuance. Beginning six months after issuance of the respective debenture, the holder of the debenture may convert the debenture into shares of common stock at a price per share of either (a) 80% of the average per share price of the Company’s common stock for the 5 trading days preceding the notice of conversion date using the 3 lowest closing prices or (b) 75% of the average per share closing bid price of the Company’s common stock during the 10 trading days prior to the notice of conversion date using the lowest 5 closing bid prices per share (which shall not be lower than $0.03 per share). At December 31, 2016, $70,787 of note principal (net of attorney fees) was converted into 5,914,783 shares of the company’s common stock.
|
|
|
869,428
|
|
|
|
469,879
|
|
|
|
|
|
|
|
|
|
|
|
|
Total convertible debentures
|
|
|
899,428
|
|
|
|
499,879
|
|
|
Current maturities
|
|
|
(899,428
|
)
|
|
|
(499,879
|
)
|
|
Long-term portion of convertible debentures
|
|
$
|
-
|
|
|
$
|
-
|
|
Future minimum payments for third party, related party, and convertible
debentures for the next five years are as follows:
|
Year
|
|
Amount
|
|
|
|
|
|
|
|
2017
|
|
$
|
6,516,172
|
|
|
2018
|
|
|
-
|
|
|
2019
|
|
|
-
|
|
|
2020
|
|
|
-
|
|
|
2021+
|
|
|
-
|
|
|
|
|
|
|
|
|
Total notes payable
|
|
|
6,516,172
|
|
|
Unamortized discounts
|
|
|
(354,785
|
)
|
|
|
|
|
|
|
|
Notes payable, net of discounts
|
|
$
|
6,161,387
|
|
For
additional transactions involving notes payable after December 31, 2016, please see “Subsequent Events” in Note 12.
Note 9. Income Taxes
We account for income taxes using the asset
and liability method of accounting for income taxes. Deferred income taxes are recognized for the tax consequences of “temporary
differences” by applying enacted statutory tax rate applicable to future years to differences between the financial statement
carrying amounts and the tax basis of existing assets and liabilities and result primarily form differences in methods used to
amortize intangible assets. A valuation allowance is provided when management cannot determine whether it is more likely than not
that the deferred tax asset will be realized. The effect on deferred income taxes of the change in tax rates is recognized in income
in the period that includes the enactment date. The difference between the statutory tax rate and the effective tax rate is the
valuation allowance.
The provision of income taxes consists of the
following for the years ended December 31, 2016 and 2015:
|
|
|
Years Ended December 31,
|
|
|
|
|
2016
|
|
|
2015
|
|
|
Current
|
|
|
|
|
|
|
|
|
|
Federal
|
|
|
73,016
|
|
|
|
-
|
|
|
State
|
|
|
-
|
|
|
|
-
|
|
|
Foreign
|
|
|
13,362
|
|
|
|
(571,980
|
)
|
|
|
|
|
86,378
|
|
|
|
(571,980
|
)
|
During 2016, the Company recorded an income
tax provision of $86,378 related to income taxes for NOW Solutions, a 75% owned subsidiary of the Company. During 2015, the Company
recorded an income tax benefit of $571,980 related to the settlement of previously recorded income taxes for the NOW Solutions
in Canada.
Temporary difference between the financial
statement carrying amount and tax bases of assets and liabilities that give rise to deferred tax assets relate to the following:
|
|
|
December 31,
2016
|
|
|
December 31,
2015
|
|
|
|
|
|
|
|
|
|
|
Net operating loss carry-forward
|
|
$
|
10,255,000
|
|
|
$
|
8,331,000
|
|
|
Reserves
|
|
|
512,000
|
|
|
|
537,000
|
|
|
Accrued vacation
|
|
|
38,000
|
|
|
|
37,000
|
|
|
Deferred compensation
|
|
|
892,000
|
|
|
|
882,000
|
|
|
Deferred revenue
|
|
|
610,000
|
|
|
|
-
|
|
|
|
|
|
12,307,000
|
|
|
|
9,787,000
|
|
|
Valuation allowance
|
|
|
(12,307,000
|
)
|
|
|
(9,787,000
|
)
|
|
|
|
$
|
-
|
|
|
$
|
-
|
|
At December 31, 2016 and December 31, 2015,
VCSY had available net operating loss carry-forwards of approximately $20.6 million and $24.0 million, respectively. At December
31, 2016 and 2015, NOW Solutions had available net operating loss carry-forwards of approximately $281,000. These net operating
loss carry-forwards expire in varying amounts through 2031.
The benefit for income taxes differs from the
amount computed by applying the U.S. federal income tax rate of 34% to loss before income taxes as follows for the years ended
December 31, 2016 and 2015:
|
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
|
|
|
|
U.S. federal income tax expense at statutory rates
|
|
|
(1,852,199
|
)
|
|
|
(1,113,702
|
)
|
|
Permanent differences
|
|
|
5,719
|
|
|
|
553,709
|
|
|
Settlement of foreign income tax
|
|
|
-
|
|
|
|
(581,622
|
)
|
|
Foreign income tax expense
|
|
|
13,362
|
|
|
|
9,642
|
|
|
Change in valuation allowance
|
|
|
1,919,496
|
|
|
|
559,993
|
|
|
|
|
|
86,378
|
|
|
|
(571,980
|
)
|
During 2015, Canada Revenue Agency began garnishing
NOW Solutions Canada customer receivables in order to pay down debts owed to them for income tax and goods and services tax (“GST”).
The customer accounts receivable payments were applied directly to the taxes owed. As of December 31, 2016, all garnishments were
removed and debts have been paid.
Open tax years for U.S. federal income
taxes for VCSY are 2012, 2013, 2014, 2015 and 2016. Open tax years for U.S. federal income taxes for NOW Solutions are 2013, 2014,
2015 and 2016.
Note 10. Common and
Preferred Stock
Terms of
Common and Preferred Stock
Common Stock
.
The authorized
capital stock of the Company consists of 2,000,000,000 shares of common stock, par value $0.00001 per share, of which 1,167,841,439
were issued and 1,127,841,439 were outstanding at December 31, 2016 and 1,114,601,656 were issued and 1,084,601,656 were outstanding
at December 31, 2015. Each share of our common stock entitles the holder to one vote on each matter submitted to a vote of our
stockholders, including the election of directors. There is no cumulative voting and there are no redemption or sinking fund provisions
related to the common stock. Stockholders of our common stock have no preemptive, conversion or other subscription rights.
Series A Cumulative Convertible Preferred
Stock
. We have authorized the issuance of 250,000 shares of Series A 4% Cumulative Convertible Preferred Stock (“Series
A Preferred Stock”), of which there are 51,500 shares issued and outstanding at December 31, 2016 and 48,500 shares issued
and outstanding at December 31, 2015. Holders of these shares of Series A Preferred Stock are entitled to vote on an as-converted
basis with the holders of common stock, except that the holders are entitled to vote as a separate class on any matters affecting
the Series A Preferred Stock stockholders, on the sale of the business, the increase in the number of directors, the payment of
a dividend on any junior stock, and the issuance of any stock that is on parity or senior to the Series A Preferred Stock. Each
share of Series A Preferred Stock is entitled to 500 votes per share. Dividends accrue at an annual rate of 4% of the liquidation
preference and are payable quarterly subject to the board’s discretion. Each share of Series A Preferred Stock is convertible
into 500 shares of common stock of the Company. In the event of liquidation, each share of Series A Preferred Stock will be entitled
to a preference of $200, plus accrued but unpaid dividends, prior to the holders of any junior class of stock.
Series B 10% Cumulative Convertible Preferred
Stock
. We have authorized the issuance of 375,000 shares of Series B 10% Cumulative Convertible Redeemable Preferred Stock
(“Series B Preferred Stock”), of which there are 7,200 shares outstanding at December 31, 2016 and December 31, 2015.
Holders of Series B Preferred Stock are not entitled to vote on matters presented to the stockholders, except as otherwise required
by law. Cash or stock dividends accrue cumulatively at an annual rate of 10% per annum on March 15 and September 15 of each year
and are payable subject to the board’s discretion. Each share of Series B Preferred Stock is convertible into 3.788 shares
of common stock of the Company. The shares of Series B Preferred Stock are redeemable at a rate of $6.25 per share, or $45,000
if all outstanding shares are redeemed. In the event of liquidation, each share will be entitled to a preference of all dividends
accrued and unpaid on each share up to the date fixed for distribution to any holders of any class of common stock.
Series C 4% Cumulative Convertible Preferred
Stock
. We have authorized the issuance of 200,000 shares of Series C 4% Cumulative Convertible Preferred Stock (“Series
C Preferred Stock”), of which there are 50,000 shares outstanding at December 31, 2016 and December 31, 2015. Holders of
Series C Preferred Stock are not entitled to vote on matters presented to the stockholders, except as otherwise required by law.
Cash dividends accrue at an annual rate of 4% of the liquidation preference and are payable quarterly subject to the board’s
discretion. Each share of Series C Preferred Stock is convertible into 400 shares of common stock of the Company; however, of the
50,000 shares of the Company’s Series “C” Cumulative Convertible Preferred Stock that are outstanding, the holder
of 37,500 shares waived the conversion rights associated with these shares pursuant to an agreement in 2010. In the event of liquidation,
each share will be entitled to a preference of all dividends accrued and unpaid on each share up to the date fixed for distribution
to any holder of any class of common stock. In the event of liquidation, each share of Series C Preferred Stock will be entitled
to a preference of $100, plus accrued but unpaid dividends, prior to the holders of any junior class of stock.
Series D 15% Cumulative Convertible Preferred
Stock
. We have authorized the issuance of 300,000 shares of Series D 15% Cumulative Convertible Redeemable Preferred Stock
(“Series D Preferred Stock”), of which there were 25,000 shares outstanding at December 31, 2016 and December 31, 2015.
Holders of these shares are not entitled to vote on matters presented to the stockholders, except as otherwise required by law.
Cash dividends accrue cumulatively at an annual rate of 15% per annum on March 15 and September 15 of each year and are payable
subject to the board’s discretion. Any aggregate deficiency shall be cumulative and shall be fully paid or set apart for
payment before any dividend shall be paid or set apart for payment of any class of common stock. Each share of Series D Preferred
Stock is convertible into 3.788 shares of common stock of the Company. The shares of Series D Preferred Stock are redeemable at
a rate of $6.25 per share, or $156,250 if all outstanding shares are redeemed. In the event of liquidation, each share will be
entitled to a preference of all dividends accrued and unpaid on each share up to the date fixed for distribution to any holders
of any class of common stock.
2016
Common Stock
In March 2016, the Company cancelled 1,000,000
unregistered shares of its common stock issued during 2015 to a third party lender under an agreement to amend certain promissory
notes issued by the Company and NOW Solutions in the aggregate principal amount of $715,000. Under the amendment, the Company agreed
to make $22,000 monthly payments and an additional $10,000 penalty if such monthly payment is not timely made.
In March 2016, the Company issued 10,000,000
shares of the Company’s common stock with the Rule 144 restrictive legend to its consolidated subsidiary Ploinks, Inc. These
shares are held in treasury. In exchange, Ploinks, Inc. issued 5,000,000 of its common shares to the Company.
In April 2016, the Company and a third-party
noteholder entered into an agreement under which the Company issued 5,000,000 shares of the Company’s common stock with the
Rule 144 restrictive legend in exchange for the cancellation of $130,000 in principal owed under a note payable issued by NOW Solutions
with a principal amount of $213,139. The fair market value of the shares was $92,500. A gain on debt extinguishment of $37,500
was recorded for the year ended December 31, 2016.
In May 2016, the Company and William Mills
entered into an agreement under which the Company issued 5,000,000 shares of the Company’s common stock with the Rule 144
restrictive legend to Mr. Mills in exchange for the cancellation of $100,000 in fees owed for services rendered by Mr. Mills as
a Director and Secretary of the Company. The fair market value of the shares was $100,000. Mr. Mills is a partner of Parker Mills
and the Secretary and a Director of the Company.
In May 2016, the Company and a third party
entered into an agreement under which the Company issued 1,500,000 shares of the Company’s common stock with the Rule 144
restrictive legend to the third party in lieu of paying $35,969 in fees, expenses, and interest owed to the third party for services
rendered to the Company and its subsidiaries. The fair market value of the shares issued was $37,500. A loss on debt
extinguishment of $1,531 was recorded for the year ended December 31, 2016.
In June 2016, the Company granted 3,500,000
unregistered shares of the Company’s common stock with the Rule 144 restrictive legend to employees and a former employee
of the Company and its subsidiaries pursuant to an amended agreement to defer payroll. For additional details, please see “Related
Party Transactions” in Note 3. The fair market value of the shares was $78,750.
During the year ended December 31, 2016,
the Company issued 3,000,000 shares of the Company’s common stock with the Rule 144 restrictive legend to another third party
for services rendered. The fair market value of the shares was $66,550 and was recorded as tax consulting fees for the year ended
December 31, 2016.
During the year ended December 31, 2016,
the Company issued convertible debentures in the aggregate principal amount of $715,000 to various third party lenders for loans
made to the Company in the same amount. The debts accrue interest at 10% per annum and are due one year from the date of issuance.
Beginning six months after issuance of the respective debentures and provided that the lowest closing price of the common stock
for each of the 5 trading days immediately preceding the conversion date has been $0.03 or higher, the holder of the respective
debenture may convert the debenture into shares of common stock at a price per share of 80% of the average per share price of the
Company’s common stock for the 5 trading days preceding the notice of conversion date using the 3 lowest closing prices.
In connection with the loans, the Company also issued a total of 7,150,000 shares of common stock of the Company to the lenders
with the Rule 144 restrictive legend and 3 year warrants under which each lender may purchase in aggregate a total of 7,150,000
unregistered shares of common stock of the Company at a purchase price of $0.10 per share. In connection with the issuance of shares
of common stock and warrants, the Company recorded a discount of $186,967 against the face value of the loans based on the relative
fair market value of the common stock of $114,413 and the full fair market value of the warrants of $72,554. The warrants are accounted
for as derivative liabilities. The discount is being amortized over twelve months and amortization expense was recognized for the
year ended December 31, 2016.
During the year ended December 31, 2016,
$82,001 of principal, interest and fees under a convertible note issued in the principal amount of $80,000 were converted into
5,914,783 unrestricted common shares of the Company.
During the year ended December 31, 2016,
the Company entered into subscription agreements under which third party subscribers purchased 3,000 shares of VCSY Series A Preferred
Stock for $600,000. In connection with the purchase of the VCSY Series A Preferred Stock, the subscribers also received a total
of 6,000,000 shares of common stock of the Company with the Rule 144 restrictive legend, 300,000 shares of common stock of Ploinks,
Inc., 2-year warrants under which the subscribers may purchase an aggregate total of 450,000 unregistered shares of common stock
of the Company at a purchase price of $0.10 per share and 2-year warrants under which the subscribers may purchase an aggregate
total of 450,000 unregistered shares of common stock of the Company at a purchase price of $0.20 per share. The allocated fair
market value of the VCSY Series A Preferred Stock issued to the subscribers was $366,499. Each share of VCSY Series A Preferred
Stock is convertible into 500 shares of the Company’s common stock. The allocated fair market value of all common shares
of the Company issued to the subscribers was $229,496. The allocated fair market value of all common shares of Ploinks, Inc. issued
to the subscribers was $3,416. The fair market value of all warrants issued to the subscribers was $4,005 (which was calculated
using the Black-Sholes model). The warrants were accounted for as derivative liabilities (see Note 4).
During the year ended December 31, 2016, the
Company cancelled 200,000 previously awarded but unvested unregistered shares of the Company’s common stock issued to
an employee of the Company when the employee resigned. This resulted in the reversal of previously recognized compensation expense
of $1,145 during the year ended December 31, 2016.
During the year ended December 31, 2016, the
Company granted 18,250,000 unregistered shares of its common stock pursuant to restricted stock agreements. Shares under restricted
stock agreements typically vest over a period of 1-3 years in various installments and the fair value of the awards is being expensed
over the vesting periods. The aggregate fair market value of the awards was determined to be $361,365. Stock compensation expense
of $229,223 has been recorded for the year ended December 31, 2016 as additional paid-in capital.
Stock compensation expense for the amortization
of restricted stock awards for VCSY stock was $229,223 for the year ended December 31, 2016. As of December 31, 2016, there were
13,125,000 shares of unvested VCSY common stock compensation awards to employees and consultants.
During the year ended December 31, 2016, 7,175,000
VCSY common shares issued under restricted stock agreements to employees of the Company were vested.
During the year ended December 31, 2016,
the Company granted 150,000 shares of the common stock of Ploinks, Inc. to third party lenders in connection with 6-month extensions
of convertible debentures in the principal amount of $500,000 issued in 2015. The aggregate fair market value of the awards was
determined to be $16,200 and was recorded as debt discount, and amortized through the term of the note.
During the year ended December 31, 2016, Ploinks,
Inc. granted 1,000,000 unregistered shares of the common stock of Ploinks, Inc. to an employee of the Company pursuant to a restricted
stock agreement with Ploinks, Inc. These shares typically vest over 3 years in various installments and the fair value of the awards
is being expensed over this vesting period. The aggregate fair market value of the awards was determined to be $108,000. Stock
compensation expense of $70,800 has been recorded for the year ended December 31, 2016.
During the year ended December 31, 2016,
the Company granted 4,286,000 unregistered shares of the common stock of Ploinks, Inc. to employees and consultants of the Company
and its subsidiaries pursuant to restricted stock agreements with the Company. These shares typically vest over 3 years in various
installments and the fair value of the awards is being expensed over this vesting period. The aggregate fair market value of the
awards was determined to be $462,888. Stock compensation expense of $264,227 has been recorded for the year ended December 31,
2016. These shares were issued out of shares owned by VCSY.
During the year ended December 31, 2016, 2,332,001
unregistered shares of the common stock of Ploinks, Inc. to employees and consultants of the Company and its subsidiaries granted
under restricted stock agreement vested.
During the year ended December 31, 2016, 133,334
unregistered shares of the common stock of Ploinks, Inc. granted to an employee of the Company under a restricted stock agreement
were cancelled.
Preferred Stock
For the year ended December 31, 2016, total
dividends applicable to Series A and Series C Preferred Stock was $592,472. The Company did not declare or pay any dividends in
2016. Although no dividends have been declared, the cumulative total of preferred stock dividends due to these stockholders upon
declaration was $9,488,184 as of December 31, 2016.
2015
Common Stock
In February 2015, the Company increased the
number of its authorized shares of common stock to 2,000,000,000.
In March 2015, in connection with a $100,000
loan to Taladin, Ploinks, Inc. agreed to issue 1,000,000 shares of its common stock to the third-party lender. The fair value of
these subsidiary shares was determined to be nominal.
In March 2015, pursuant to an indemnity and
reimbursement agreement executed between Mr. Valdetaro and the Company, we issued 1,000,000 shares of our common stock to reimburse
Mr. Valdetaro for 1,000,000 shares of common stock with the Rule 144 restrictive legend transferred to Lakeshore on the Company’s
behalf in connection with an extension granted by Lakeshore in August 2013. The issuance of these shares eliminated the derivative
liability associated with the value of these shares. The fair market value of these shares on the date of issuance was $38,000
and resulted in the resolution of derivative liabilities and a loss on derivative liabilities of $26,000.
In March 2015, pursuant to two indemnity and
reimbursement agreements executed between Mountain Reservoir Corporation (“MRC”) and the Company, we issued a total
of 2,809,983 shares of our common stock with the Rule 144 restrictive legend to reimburse MRC. Of these shares, the Company was
obligated to reimburse MRC with 1,309,983 shares of common stock that had been pledged by MRC and sold by a third-party lender
in 2009, 500,000 shares of common stock that had been wrongfully converted by the same lender in 2014, and 1,000,000 shares of
common stock that had been transferred to another third-party lender in 2013 on the Company’s behalf for a loan made by the
lender. MRC has assigned its claim against the third-party lender for the lender’s wrongful conversion of 500,000 common
shares to the Company and we are pursuing the claim in the third-party lender’s bankruptcy proceeding. The issuance of these
shares eliminated the derivative liability associated with the value of these shares. The fair market value of these shares on
the date of issuance was $112,399 of which $92,399 resulted in the resolution of derivative liabilities and a loss on derivative
liabilities of $64,680 and $20,000 was recognized as stock reimbursement expense during the twelve months ended December 31, 2015.
In June 2015, in connection with an amendment
concerning certain promissory notes issued by the Company and NOW Solutions to Mr. Weber in the aggregate principal amount of $735,400,
the Company issued 20,000,000 shares of its common stock with the Rule 144 restrictive legend to its subsidiary, Taladin, Inc.,
which pledged these shares to secure payment of certain notes payable issued to Weber. The previous pledge agreements between MRC
and Mr. Weber were cancelled. These shares are held in treasury.
In June 2015, the Company issued 10,000,000
common shares with the Rule 144 restrictive legend to its consolidated subsidiary NOW Solutions. These shares are held in treasury.
During the year ended December 31, 2015, the
Company granted 2,250,000 unregistered shares of its common stock to employees of the Company and its subsidiaries pursuant to
restricted stock agreements with the Company. These shares typically vest over 3 years in equal installments and the fair value
of the awards is being expensed over this vesting period. The aggregate fair market value of the awards was determined to be $54,750.
Stock compensation expense of $19,616 has been recorded for the year ended December 31, 2015 as additional paid-in capital.
During the year ended December 31, 2015, the
Company issued 36,500,000 unregistered shares of its common stock as forbearance fees and late fees to lenders in connection with
loans made to the Company and its subsidiaries. The aggregate fair value of these shares was determined to be $1,050,900.
During the year ended December 31, 2015, the
Company issued 35,556,522 unregistered shares of its common stock to lenders to pay off accrued principal and interest debt in
the aggregate amount of $482,612 related to loan principal and interest made by these lenders to the Company and its subsidiaries
and $20,000 related to attorney fees. The aggregate fair value of these shares was determined to be $895,913. Accordingly, the
Company recorded a loss on debt extinguishment of $393,301.
As of December 31, 2015, there were 2,250,000
unvested stock compensation awards
During the year ended December 31, 2015, the
Company issued 9,000,000 unregistered shares of its common stock and 3-5 year warrants to purchase 6,800,000 shares of common stock
at a purchase price between $0.05-$0.10 per share (of which one warrant for 800,000 shares included a cashless warrant exercise
provision). These shares and warrants were granted to lenders in connection with loans made by these lenders to the Company and
its subsidiaries in the aggregate principal amount of $745,333. The aggregate relative fair value of these shares was determined
to be $211,783 (which includes $82,904 under the Black-Scholes formula), and was accounted for as a discount on the loans. Amortization
expense is $80,864 during the year ended December 31, 2015 and unamortized discounts are $130,919.
During the year ended December 31, 2015, Ploinks,
Inc. granted 800,000 unregistered shares of the common stock of Ploinks, Inc. to employees of the Company pursuant to restricted
stock agreements with Ploinks, Inc. These shares typically vest over 3 years in various installments.
Preferred Stock
For the year ended December 31, 2015, total
dividends applicable to Series A and Series C Preferred Stock was $588,000. The Company did not declare or pay any dividends in
2015. Although no dividends have been declared, the cumulative total of preferred stock dividends due to these stockholders upon
declaration was $8,895,712 as of December 31, 2015.
Note 11. Option and Warrant Activity
Option and warrant activity years ended December
31, 2016 and 2015 is summarized as follows:
|
|
|
Incentive Stock
Options
|
|
|
Non-Statutory
Stock Options
|
|
|
Warrants
|
|
|
Weighted
Average Exercise
Price
|
|
|
Outstanding at December 31, 2014
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
Options/Warrants granted
|
|
|
-
|
|
|
|
-
|
|
|
|
6,800,000
|
|
|
$
|
0.091
|
|
|
Options/Warrants exercised
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
Options/Warrants expired/cancelled
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
Outstanding at December 31, 2015
|
|
|
-
|
|
|
|
-
|
|
|
|
6,800,000
|
|
|
$
|
0.091
|
|
|
Options/Warrants granted
|
|
|
-
|
|
|
|
-
|
|
|
|
8,050,000
|
|
|
$
|
0.106
|
|
|
Options/Warrants exercised
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
Options/Warrants expired/cancelled
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
Outstanding at December 31, 2016
|
|
|
-
|
|
|
|
-
|
|
|
|
14,850,000
|
|
|
$
|
0.100
|
|
The weighted average remaining life of the
outstanding warrants as of December 31, 2016 and 2015 was 2.48 and 2.73, respectively. The intrinsic value of the exercisable warrants
as of December 31, 2016 and 2015 was $.0220 and $.0220.
Note 12. Commitments
and Contingencies
Commitments
We lease various office spaces which leases
run from July 2016 through September 2018. We have future minimum rental payments as follows:
|
Years ending December 31,
|
|
Amount
|
|
|
2017
|
|
|
82,649
|
|
|
2018
|
|
|
61,027
|
|
|
2019
|
|
|
-
|
|
|
2020
|
|
|
-
|
|
|
2021
|
|
|
-
|
|
|
Total
|
|
$
|
143,676
|
|
Rental expense for the years ended December
31, 2016 and 2015 was $106,208 and $97,917, respectively.
Contingencies
On June 30, 2016, the Company amended an
agreement (originally entered into in July 2010) with certain former and current employees of the Company, concerning the deferral
of payroll claims of approximately $883,190 for salary earned from 2012 to June 30, 2016 and $1,652,113 for salary earned from
2001 to 2012, which remain unpaid and is reflected as a current liability on the Company’s consolidated financial statement.
Pursuant to the terms of the amended
agreement, each current and former employee who is a party to the agreement (the “Employee(s)”) agreed to defer
payment of salary from the date of the agreement (“Salary Deferral”) for a period of three months for salary
earned from July 1, 2012 to June 30, 2016 and for a period of six months for salary earned from 2001 to June 30, 2012. In
consideration for the Salary Deferral, the Company issued a total 3,500,000 shares of the Company’s common stock with
the Rule 144 restrictive legend (at a fair market value of $78,750) and agreed to pay each Employee a sum equal to the amount
of unpaid salary at December 31, 2003 plus the amount of unpaid salary at the end of any calendar year after 2003 in which
such salary was earned, plus a Bonus of nine percent interest, compounded annually until such time as the unpaid salary has
been paid in full. The Company and the Employees have agreed that the Bonus will be paid from amounts anticipated to be paid
to the Company in respect of specified intellectual property assets of the Company.
In order to effect the payments due under
this agreement, the Company assigned to the Employees a twenty percent interest in any net proceeds (gross proceeds less attorney’s
fees and direct costs) derived from infringement claims and any license fees paid by a subsidiary of the Company or third party
to the Company regarding (a) U.S. patent #6,826,744 and U.S. patent #7,716,629 (plus any continuation patents) on Adhesive Software’s
SiteFlash™ Technology, (b) U.S. patent #7,076,521 (plus any continuation patents) in respect of “Web-Based Collaborative
Data Collection System”, and (c) U.S. patent U.S. Patent No. #8,578,266 and #9,405,736 (plus any continuation patents) in
respect to “Method and System for Automatically Downloading and Storing Markup Language Documents into a Folder Based Data
Structure,” and (d) any license payments made (i) by a subsidiary of the Company to the Company in connection with a licensing
or distribution agreement between the Company and such subsidiary or (ii) by third party to the Company in connection with a licensing
or distribution agreement between the Company and a third party.
Under the terms of this agreement, the Bonus is contingent on payment of unpaid wages. In addition, the
Bonus is contingent upon generating revenues from the sources of the twenty percent interests in net proceeds assigned to the current
and former employees. The interests that were assigned under the agreement for net proceeds consist of the underlying patents of
the SiteFlash™ and Emily™ technologies and licensing under distribution and licensing agreements between the Company
and subsidiaries and between the Company and third parties. Currently, there is no foreseeable income to be generated from these
sources to which a twenty percent interest can reasonably be projected or otherwise applies to. There is no pending litigation
regarding any of these patents. In addition, with respect to any licenses from Vertical to its subsidiaries, the licenses of technology
underlying these patents were for a three percent royalty on gross revenues. If there were income, any payments under this agreement
would likely be minimal. Currently, there is no income being generated from licensing. No subsidiary is currently offering a product
to the market using these licensed technologies nor does Vertical have any agreement to license these technologies to a third party.
Since payment of the Bonus is contingent
upon first paying all unpaid salary and there are no foreseeable revenues to pay the twenty percent interest in these technologies,
it is doubtful at the present time that any Bonus will be paid and therefore the Bonus was not accrued as of December 31, 2016
as this contingent liability is considered remote. Cumulative bonus interest through December 31, 2016 is $3,816,659.
Royalties
When we acquire rights to patents, licenses,
or other intellectual property, we generally agree to pay royalties on any net sales of any products utilizing these rights. There
were no sales of products requiring royalties in 2016 and 2015.
We also have royalty agreements associated
with certain notes payable that provide a royalty when revenues exceed certain thresholds in addition to royalty agreements on
subsidiary revenues pursuant to the terms of an acquisition agreement. For the years ended December 31, 2016 and 2015, we accrued
royalties of $7,405 and $9,659, respectively, on revenues from subsidiaries.
Litigation
We are involved in the following ongoing legal
matters:
On December 31, 2011, the Company and InfiniTek
corporation (“InfiniTek”) entered into a settlement agreement to dismiss an action filed by the Company against InfiniTek
in the Texas State District Court in Fort Worth, Texas, for breach of contract and other claims, a counter claim filed by InfiniTek
against the Company for non-payment of amounts claimed the Company owed to InfiniTek, and an action filed by InfiniTek against
the Company in California Superior Court in Riverside, California seeking damages for breach of contract and lost profit. Pursuant
to the terms of the settlement agreement, Vertical agreed to pay InfiniTek $82,500 in three equal installments with the last payment
due by or before August 5, 2012. Upon full payment, InfiniTek shall transfer and assign ownership of the NAVPath software developed
by InfiniTek for use with NOW Solutions emPath® software application and Microsoft Dynamics NAV (formerly Navision) business
solution platform. The amounts in dispute were included in our accounts payable and accrued liabilities and have been adjusted
to the settlement amount of $82,500 at December 31, 2011. The Company has made $37,500 in payments due under the settlement agreement
as of the date of this Report and each party is alleging the other party is in breach of the settlement agreement. We intend to
resolve all disputes with InfiniTek.
On February 13, 2017, the Company was served
with a complaint filed by Parker Mills in the Superior Court of the State of California, County of Los Angeles, Central District,
for failure to make payment on the outstanding balance due under a $100,000 convertible debenture issued by the Company to Parker
Mills. The plaintiff seeks payment of the principal balance due under the convertible debenture of $100,000, interest at the rate
of 12% per annum, attorney’s fees and court costs. We intend to resolve this matter with Parker Mills. This case is styled
Parker Mills, LLP v. Vertical Computer Systems, Inc., No.
BC649122
. William Mills is a partner
of Parker Mills and the Secretary and a Director of the Company.
On April 12, 2017, NOW Solutions, Inc.
was served with a Notice of Motion for Summary Judgment in Lieu of Complaint, which was filed by Derek Wolman in the Supreme
Court of the State of New York in County of New York for failure to make outstanding payments on the outstanding balance due under
one promissory note in the principal amount of $150,000 (issued on November 17, 2009) and one promissory note in the principal
amount of $50,000 (issued on August 28, 2014), both of which were issued by NOW Solutions to Mr. Wolman. The plaintiff seeks
a judgment totaling $282,299 (which includes principal and accrued interest), plus additional accrued interest from the date the
complaint was filed, attorney’s fees and expenses. We intend to resolve this matter with Mr. Wolman. This case is styled
Derek Wolman v. Now Solutions, Inc., No. 65/502/17.
Note 13. Subsequent Events
From January 1, 2017 to April 24, 2017,
the Company granted 3,000,000 VCSY common shares pursuant to a stock award to an employee of the Company and its subsidiaries.
From January 1, 2017 to April 24, 2017,
$10,000 of principal and interest under a convertible note issued in the principal amount of $80,000 was converted into 723,089
common shares.
From January 1, 2017 to April 24, 2017,
550,000 VCSY common shares issued under restricted stock agreements to employees and a consultant of the Company vested.
From January 1, 2017 to
April
24, 2017, 200,001 shares of the common stock of Ploinks, Inc. issued under restricted stock agreements to consultants and employees
of the Company vested.