Note 1 – Significant Accounting Policies
Description of Business
TSS, Inc.
(‘‘TSS’’, the ‘‘Company’’, ‘‘we’’, ‘‘us’’
or ‘‘our’’) provides a comprehensive suite of services for the planning, design, deployment, maintenance,
refresh and take-back of end-user and enterprise systems, including the mission-critical facilities they are housed in. We provide
a single source solution for enabling technologies in data centers, operations centers, network facilities, server rooms, security
operations centers, communications facilities and the infrastructure systems that are critical to their function. Our services
consist of technology consulting, design and engineering, project management, systems integration, systems installation and facilities
management. Our corporate offices are in Round Rock, Texas, and we also have facilities in Dulles, Virginia, and Los Altos, California.
The accompanying consolidated balance sheet
as of December 31, 2016, which has been derived from audited consolidated financial statements, and the unaudited interim consolidated
financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“US GAAP”)
for interim financial statements and pursuant to the rules and regulations of the SEC for interim reporting, and include the accounts
of the Company and its consolidated subsidiaries. In the opinion of management, the accompanying unaudited consolidated financial
statements contain all adjustments (consisting only of normal recurring items) necessary to present fairly the consolidated financial
position of the Company and its consolidated results of operations, changes in stockholders’ equity (deficit) and cash flows.
These interim financial statements should be read in conjunction with the consolidated financial statements and accompanying notes
included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016.
The accompanying
consolidated financial statements have also been prepared on the basis that the Company will continue to operate as a going concern.
Accordingly, assets and liabilities are recorded on the basis that the Company will be able to realize its assets and discharge
its liabilities in the normal course of business. Our history of annual operating losses, declining current ratio, and total stockholders’
deficit cause substantial doubt about our ability to continue to operate our business as a going concern. We have reviewed our
current and prospective sources of liquidity, significant conditions and events as well as our forecasted financial results and
concluded that we have adequate resources to continue to operate as a going concern. Our operating results have improved since
the second half of 2016. In September 2016, we sold a portion of our facilities maintenance business for a purchase price of $950,000.
During the fourth quarter of 2016, we elected to outsource multiple services that we had previously performed internally, allowing
us to further reduce our level of operating expenses. During the first quarter of 2017, we sold certain identified assets and liabilities
used in a portion of our construction management business for $350,000. These actions, along with other cost reductions we made,
provided additional capital for our business, lowered our total operating costs, improved our operating profits, and allowed us
to focus our business activities on systems integration and modular data center build and maintenance activities. In July 2017,
we modified and extended the term of our long-term debt and we also borrowed an additional $650,000 in long-term debt to help us
improve our liquidity and manage our working capital. We believe that there are further adjustments that could be made to our business
if we were required to do so.
Our business plans and our
assumptions around the adequacy of our liquidity are based on estimates regarding expected revenues and future costs and our ability
to secure additional sources of funding if needed. However, our revenue may not meet our expectations or our costs may exceed our
estimates. Further, our estimates may change and future events or developments may also affect our estimates. Any of these factors
may change our expectation of cash usage in 2017 or significantly affect our level of liquidity, which may require us to take measures
to reduce our operating costs or obtain funding to continue operating. Any action to reduce operating costs may negatively affect
our range of products and services that we offer or our ability to deliver such products and services, which could materially impact
our financial results depending on the level of cost reductions taken. These consolidated financial statements do not include any
adjustments that might result from the Company not being able to continue as a going concern.
Revenue Recognition
We recognize revenue when pervasive evidence
of an arrangement exists, the contract price is fixed or determinable, services have been rendered or goods delivered, and collectability
is reasonably assured. Our revenue is derived from facility service and maintenance contracts, product shipments, time-and-materials
contracts, fixed price contracts, and cost-plus-fee contracts (including guaranteed maximum price contracts).
Revenue from facility service and maintenance
contracts are usually performed under master and other service agreements billed on a fixed fee basis. These services agreements
are recognized on the proportional performance method or ratably over the course of the service period and costs are recorded as
incurred in performance.
We recognize revenue from integration of
assembled products when the finished product is shipped and collection of the resulting receivable is reasonably assured. In arrangements
where a formal acceptance of products or services is required by the customer, revenue is recognized upon meeting such acceptance
criteria.
Revenue and related costs for master and
other service agreements billed on a time and materials basis are recognized as the services are rendered based on actual labor
hours performed at contracted billable rates, and costs incurred on behalf of the customer.
Revenue from fixed price contracts is recognized
on the percentage of completion method. We apply Financial Accounting Standards Board (“FASB”) Accounting Standards
Codification (“ASC”) 605-35,
Construction-Type and Production-Type Contracts
, recognizing revenue on the percentage-of-completion
method using costs incurred in relation to total estimated project costs. This method is used because management considers costs
incurred and estimated costs to complete to be the best available measure of progress in the contracts. Contract costs include
all direct materials, subcontract and labor costs and those indirect costs related to contract performance, such as indirect labor,
payroll taxes, employee benefits and supplies.
Revenue on cost-plus-fee contracts is recognized
to the extent of costs incurred, plus an estimate of the applicable fees earned. Fixed fees under cost-plus-fee contracts are recorded
as earned in proportion to the allowable costs incurred in performance of the contract.
Billings in excess of costs and estimated
earnings on uncompleted contracts are classified as current liabilities. Costs and estimated earnings in excess of billings, or
work in process, are classified as current assets for the majority of our projects. Work in process on contracts is based on work
performed but not yet billed to customers as per individual contract terms.
Certain of our contracts involve the delivery
of multiple elements including design management, system installation and facilities maintenance. Revenues from contracts with
multiple element arrangements are recognized as each element is earned based on the relative selling price of each element provided
the delivered elements have value to customers on a standalone basis. Amounts allocated to each element are based on its objectively
determined fair value, such as the sales price for the service when it is sold separately or competitor prices for similar services.
Allowance for Doubtful Accounts
We estimate an allowance for doubtful accounts
based on factors related to the specific credit risk of each customer. Historically our credit losses have been minimal. We perform
credit evaluations of new customers and may require prepayments or use of bank instruments such as trade letters of credit to mitigate
credit risk. We monitor outstanding amounts to limit our credit exposure to individual accounts. We continue to pursue collection
even if we have fully provided for an account balance.
Concentration of Credit Risk
We are currently economically dependent
upon our relationship with a large US-based IT Original Equipment Manufacturer (OEM). If this relationship is unsuccessful or discontinues,
our business and revenue would suffer. The loss of or a significant reduction in orders from this customer or the failure to provide
adequate products or services to it would significantly reduce our revenue. As our business evolves we are establishing relationships
with a number of additional IT OEM customers and resellers
The following customers accounted for a
significant percentage of our revenues for the periods shown:
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|
Three months ended June 30,
|
|
|
Six Months Ended June 30,
|
|
|
|
2017
|
|
|
2016
|
|
|
2017
|
|
|
2016
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
US-based IT OEM
|
|
|
63
|
%
|
|
|
49
|
%
|
|
|
63
|
%
|
|
|
35
|
%
|
US-based data center company
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|
|
-
|
|
|
|
6
|
%
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|
|
-
|
|
|
|
24
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%
|
Global IT services company
|
|
|
11
|
%
|
|
|
2
|
%
|
|
|
6
|
%
|
|
|
3
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
No other customers represented more than
10% of our revenues for any periods presented. Our US-based IT OEM customer represented 29% and 10% of our accounts receivable
at June 30, 2017 and December 31, 2016, respectively. A US-based data center services company represented 40% of our accounts receivable
at June 30, 2017. A US-based retail customer represented 25% of our accounts receivable at December 31, 2016. A US-based IT services
company represented 17% of our accounts receivable at December 31, 2016. No other customer represented more than 10% of our accounts
receivable at June 30, 2017 or at December 31, 2016.
Recently Issued Accounting Pronouncements
In May 2014, the FASB
issued Accounting Standards Update 2014-09,
Revenue from Contracts with Customers.
ASU 2014-09 supersedes the
revenue recognition requirements of FASB ASC Topic 605,
Revenue Recognition
and most industry-specific guidance
throughout the ASC, resulting in the creation of FASB ASC Topic 606,
Revenue from Contracts with Customers
. ASU 2014-09
requires entities to recognize revenue in a way that depicts the transfer of promised goods or services to customers in an amount
that reflects the consideration to which the entity expects to be entitled to in exchange for those goods or services. This
ASU provides alternative methods of adoption. In August 2015, the FASB issued ASU 2015-14,
Revenue from Contracts with
Customers, Deferral of the Effective Date
. ASU 2015-14 defers the effective date of ASU 2014-09 to annual reporting periods
beginning after December 15, 2017 and interim periods within those reporting periods beginning after that date, and permits early
adoption of the standard, but not before the original effective date for fiscal years beginning after December 15, 2016. In March
2016, the FASB issued ASU 2016-08,
Revenue from Contracts with Customers, Principal versus Agent Considerations (Reporting
Revenue Gross versus Net)
clarifying the implementation guidance on principal versus agent considerations. Specifically,
an entity is required to determine whether the nature of a promise is to provide the specified good or service itself (that is,
the entity is a principal) or to arrange for the good or service to be provided to the customer by the other party (that is, the
entity is an agent). The determination influences the timing and amount of revenue recognition. In April 2016, the FASB issued
ASU 2016-10,
Revenue from Contracts with Customers, Identifying Performance Obligations and Licensing
clarifying
the implementation guidance on identifying performance obligations and licensing. Specifically, the amendments reduce the cost
and complexity of identifying promised goods or services and improves the guidance for determining whether promises are separately
identifiable. The amendments also provide implementation guidance on determining whether an entity's promise to grant a license
provides a customer with either a right to use the entity's intellectual property (which is satisfied at a point in time) or a
right to access the entity's intellectual property (which is satisfied over time). The effective date and transition requirements
for ASU 2016-08 and ASU 2016-10 are the same as the effective date and transition requirements for ASU 2014-09. In May, 2016 the
FASB issued ASU No. 2016-12
Revenue from Contracts with Customers (Topic 606): Narrow-Scope Improvements and Practical
Expedients
, which clarifies guidance in certain narrow areas and adds a practical expedient for certain aspects of the guidance.
The amendments do not change the core principle of the guidance in ASU 2014-09. In July 2015, the FASB issued ASU 2015-14,
which delayed the effective date of ASU 2014-09. As a result, this guidance will be effective for annual reporting periods beginning
after December 15, 2017, including interim periods within that reporting period. Earlier application is permitted only as
of annual reporting periods beginning after December 15, 2016, including interim reporting periods within that reporting period.
Management is still evaluating disclosure requirements under the new standard and will continue to evaluate the standard as well
as additional changes, modifications or interpretations which may impact current conclusions. We have engaged a third-party
to assist in the assessment and implementation of this standard. We are beginning to assess the impact that these standards will
have on our financial position and results of operations. Management expects to adopt the new standard using the modified retrospective
method.
In February 2016, the
FASB issued ASU No. 2016-02,
“Leases (Topic 842)”
. Under ASU 2016-02, an entity will be required to recognize
right-of-use assets and lease liabilities on its balance sheet and disclose key information about leasing arrangements. ASU 2016-02
offers specific accounting guidance for a lessee, a lessor and sale and leaseback transactions. Lessees and lessors are required
to disclose qualitative and quantitative information about leasing arrangements to enable a user of the financial statements to
assess the amount, timing and uncertainty of cash flows arising from leases. For public companies, ASU 2016-02 is effective for
annual reporting periods beginning after December 15, 2018, including interim periods within that reporting period, and requires
a modified retrospective adoption, with early adoption permitted. We are currently evaluating the future impact of ASU 2016-02
on our consolidated financial statements
Note 2 – Supplemental Balance
Sheet Information
Receivables
Contract and other receivables consisted
of the following (in ‘000’s):
|
|
June 30,
2017
|
|
|
December 31, 2016
|
|
Contract and other receivables
|
|
$
|
1,201
|
|
|
$
|
2,393
|
|
Allowance for doubtful accounts
|
|
|
(6
|
)
|
|
|
(4
|
)
|
|
|
$
|
1,195
|
|
|
$
|
2,389
|
|
Inventory
We state inventories
at the lower of cost or market, using the first-in-first-out-method (in ‘000’s):
|
|
June 30,
2017
|
|
|
December 31, 2016
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|
Raw materials
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|
$
|
124
|
|
|
$
|
61
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|
less: Reserve
|
|
|
(2
|
)
|
|
|
(2
|
)
|
Inventories, net
|
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$
|
122
|
|
|
$
|
59
|
|
Goodwill and Intangible Assets
Goodwill and Intangible Assets consisted
of the following (in ‘000’s):
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|
June 30, 2017
|
|
|
December 31, 2016
|
|
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|
Gross
|
|
|
|
|
|
Gross
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|
|
|
|
|
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Carrying
|
|
|
Accumulated
|
|
|
Carrying
|
|
|
Accumulated
|
|
|
|
Amount
|
|
|
Amortization
|
|
|
Amount
|
|
|
Amortization
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|
Intangible assets not subject to amortization:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Goodwill
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|
$
|
1,907
|
|
|
|
-
|
|
|
$
|
1,907
|
|
|
|
-
|
|
Intangible assets subject to amortization:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Customer relationships
|
|
$
|
906
|
|
|
$
|
(372
|
)
|
|
$
|
906
|
|
|
$
|
(327
|
)
|
Acquired software
|
|
$
|
234
|
|
|
$
|
(192
|
)
|
|
$
|
234
|
|
|
$
|
(169
|
)
|
Trade name
|
|
$
|
60
|
|
|
$
|
(3
|
)
|
|
$
|
60
|
|
|
|
-
|
|
We recognized amortization expense
related to intangibles of approximately $36,000 and $35,000 for the three-month periods ended June 30, 2017 and 2016, respectively.
We recognized amortization expense related to intangibles of approximately $71,000 and $69,000 for the six-month periods ended
June 30, 2017 and 2016, respectively.
We have elected to use December
31 as our annual date to test goodwill and intangibles for impairment. As circumstances change that could affect the recoverability
of the carrying amount of the assets during an interim period, the Company will evaluate its indefinite lived intangible assets
for impairment. We performed a quantitative analysis of our goodwill and intangibles at December 31, 2016 as part of our annual
testing for impairment. We used a combination of valuation methodologies including income and market-based valuation methods, with
increased weighting on the income-based approaches and subject company stock-price methods as we felt these options more accurately
captured the operations of our reporting units. Although there were events and circumstances in existence at December 31, 2016
that suggest substantial doubt about our ability to continue as a going concern, the valuation results indicated that the fair
value of our reporting units was greater than the carrying value, including goodwill, for each of our reporting units. Thus, we
concluded that there was no impairment at December 31, 2016 for our goodwill and other long-lived intangible assets. There were
no identified triggering events or circumstances that occurred during the three or six-month periods ended June 30, 2017 that would
have required an interim impairment analysis of our goodwill and other long-lived intangible assets.
Property and Equipment
Property and equipment
consisted of the following (in $’000):
|
|
Estimated Useful
|
|
June 30,
|
|
|
December 31,
|
|
|
|
Lives
|
|
2017
|
|
|
2016
|
|
Vehicles
|
|
5 years
|
|
$
|
32
|
|
|
$
|
32
|
|
Trade equipment
|
|
5 years
|
|
|
162
|
|
|
|
162
|
|
Leasehold improvements
|
|
2 – 5 years
|
|
|
307
|
|
|
|
292
|
|
Furniture and fixtures
|
|
7 years
|
|
|
18
|
|
|
|
16
|
|
Computer equipment and software
|
|
3 years
|
|
|
1,387
|
|
|
|
1,324
|
|
|
|
|
|
|
1,906
|
|
|
|
1,826
|
|
Less accumulated depreciation
|
|
|
|
|
(1,470
|
)
|
|
|
(1,282
|
)
|
Property and equipment, net
|
|
|
|
$
|
436
|
|
|
$
|
544
|
|
Depreciation of property and equipment and
amortization of leasehold improvements and software totaled $87,000 and $109,000 the three-month periods ended June 30, 2017 and
2016, respectively , and $189,000 and $215,000 for the six-month periods ended June 30, 2017 and 2016, respectively.
Accounts Payable and Accrued Expenses
Accounts payable and accrued expenses
consisted of the following (in $’000):
|
|
June 30,
2017
|
|
|
December 31, 2016
|
|
Accounts payable
|
|
$
|
1,874
|
|
|
$
|
3,652
|
|
Accrued expenses
|
|
|
599
|
|
|
|
1,053
|
|
Compensation, benefits & related taxes
|
|
|
448
|
|
|
|
576
|
|
Other accrued expenses
|
|
|
19
|
|
|
|
38
|
|
Total accounts payable and accrued expenses
|
|
$
|
2,940
|
|
|
$
|
5,319
|
|
Note 3 – Long term borrowings
Long-term borrowings consisted of the following (in $’000):
|
|
June 30,
2017
|
|
|
December 31, 2016
|
|
Convertible notes payable
|
|
$
|
100
|
|
|
$
|
250
|
|
Less unamortized discount
|
|
|
-
|
|
|
|
(4
|
)
|
|
|
|
|
|
|
|
|
|
Notes Payable due Feb. 2020
|
|
|
945
|
|
|
|
945
|
|
Less unamortized discount and debt issuance costs
|
|
|
(100
|
)
|
|
|
(120
|
)
|
|
|
|
945
|
|
|
|
1,071
|
|
Current portion of long-term borrowing
|
|
|
(100
|
)
|
|
|
(246
|
)
|
Non-current portion of long-term borrowing
|
|
$
|
845
|
|
|
$
|
825
|
|
We currently
have an outstanding convertible note payable to Gerard J. Gallagher, a director , senior technical advisor and founder of the Company.
As of June 30, 2017, there was an aggregate principal balance outstanding under the note of $100,000.
In December
2015, we amended the terms of the convertible note payable to revise the future payment schedule and to extend the maturity date
of the promissory note from January 1, 2016 to July 1, 2017. Under the amended payment schedule, the Company made monthly principal
payments of $25,000 to Mr. Gallagher for a fourteen-month period beginning January 1, 2016 and ending on February 1, 2017. The
Company also made an additional principal payment of $100,000 on March 1, 2017. The remaining outstanding balance was due on July
1, 2017, and has been repaid. The interest rate was also increased to an annual rate of 5% per annum effective January 1, 2016.
In connection
with the amendment to the convertible notes payable to Mr. Gallagher in December 2015, the Company and Mr. Gallagher entered into
a warrant agreement granting Mr. Gallagher the right to purchase up to 100,000 shares of the Company’s common stock. The
warrant is exercisable for a period of up to five years from December 21, 2016 with an exercise price of $0.15 per share. The exercise
price and number of shares of common stock issuable upon exercise of the warrant will be subject to adjustment in the event of
any stock split, reverse stock split, recapitalization, reorganization or similar transactions. The fair value of the warrant has
been recorded as a discount against the balance of the convertible note payable, and will be amortized to interest expense over
the remaining term of the convertible note payable.
In February
2015, we entered into a multiple advance term loan agreement and related agreements with MHW SPV II, LLC (‘‘MHW’’),
an entity affiliated with the Chairman of our Board of Directors, for a loan in the maximum amount of $2 million. We borrowed $945,000
under this loan agreement on February 3, 2015 and executed a promissory note to evidence this loan and the terms of repayment.
The loan
requires interest-only payments made monthly, beginning March 1, 2015, and bears annual interest at a fixed rate of 12%. The loan
has a maturity date of February 3, 2020. We can prepay the loan at any time, subject to a prepayment fee of 1% of the amount prepaid
if the prepayment is made between February 4, 2017 and February 3, 2018.
The obligations
under the loan are secured by substantially all of our assets pursuant to the terms of a security agreement. In connection with
the receivables financing agreement described below, MHW executed a subordination agreement to evidence their agreement that their
security interest is subordinated to the security interest of RTS Financial Services, Inc. in all of the Company’s present
and future accounts receivable and all proceeds thereof.
In conjunction
with entering into the loan agreement, the Company and MHW also entered into a warrant granting MHW the right to purchase up to
1,115,827 shares of the Company’s common stock. The warrant is exercisable for a period of five years from February 3, 2015
at an exercise price of $0.50 for the first 472,500 shares, $1.00 for the next 425,250 shares and $1.30 for the final 218,077 shares.
The exercise price and number of shares of common stock issuable on exercise of the warrant will be subject to adjustment in the
event of any stock split, reverse stock split, recapitalization, reorganization or similar transaction. The fair value of the warrant
was determined to be approximately $204,000. Using the relative-fair value allocation method, the debt proceeds were allocated
between the debt value and the fair value of the warrant, resulting in a recognition of a discount on the loan of approximately
$168,000 with a corresponding increase to additional paid in capital. This discount will be amortized using the straight-line method
(which approximates the effective interest rate method) over the term of the loan. $8,000 was amortized during each of the three-month
periods ended June 30, 2017 and 2016, respectively, and $16,000 was amortized during each of the six-month periods ended June 30,
2017, respectively.
Peter H.
Woodward, the Chairman of our Board of Directors, is a principal of MHW Capital Management LLC, which is the investment manager
of MHW. MHW Capital Management LLC is entitled to a performance related fee tied to any appreciation in the valuation of the common
stock in excess of the applicable strike price under the warrant.
As described
below, we modified the terms of this loan and warrant in July 2017.
Note 4 – Receivables Factoring Agreement
In May 2016, we entered into
a receivables-factoring agreement with RTS Financial Service, Inc. (“RTS”). Under the terms of this agreement, we may
offer for sale, and RTS in its sole discretion may purchase our eligible receivables (the “Purchased Accounts”). Upon
purchase RTS becomes the absolute owner of the Purchased Accounts, which are payable directly to RTS, subject to certain repurchase
obligations by us.
RTS’s fee for each Purchased Account
is computed daily until the amount of the Purchased Account is paid to RTS, and such fee equals the amount of the Purchased Account
multiplied by the sum of the prime rate then in effect plus 7%, divided by 360. RTS will pay us 80% of the amount of the Purchased
Accounts upon purchase and the balance (less fees) is paid to us upon collection of the Purchased Account by RTS.
Our obligations under the receivables
factoring agreement are secured by all present and future accounts receivable (provided, however that accounts for one customer
are excluded) and all chattel paper, instruments, general intangibles, securities, contract rights, insurance, proceeds, property
rights and interests associated therewith, as well as all equipment, inventory and deposit accounts of the Company.
RTS may require us to repurchase a Purchased
Account if we breach any warranty or otherwise violate or default on any of our obligations under the factoring agreement or if
the Purchased Account is not paid in full on or before the payment due date of such Purchased Account or within 120 days after
the invoice date of such Purchased Account.
The receivables factoring agreement has
an initial term of 12 months and automatically renews for successive 12-month renewal periods unless terminated pursuant to the
terms of the agreement. We may terminate the agreement at the end of the initial term upon 60 days’ notice and
payment of an early termination fee to RTS in the amount of $10,000. We may also terminate the agreement at any time during the
first 24 months upon 30 days’ notice and payment of an early termination fee based on the average monthly amount purchased
during the term of the agreement. RTS may terminate the agreement upon 90 days’ notice to us or immediately upon
the occurrence of certain events.
Note 5 – Sale of Business Component
On January 31, 2017, we completed the sale
of certain identified assets and liabilities associated with a specific customer contract from our project management business
for $350,000 pursuant to an Asset Purchase Agreement (“APA”) dated December 12, 2016 with Tech Site Services, LLC,
a privately held Maryland company. The sale price was subject to certain post-closing adjustments relating to working capital and
obtaining the consent of the customer as a condition of closing. Tech Site Services, LLC also must pay us an earn-out payment equal
to 10% of all revenue generated under the customer contract in excess of $2.5 million in each 12-month period during the two-year
period after the closing of this transaction.
The transaction closed on January 31, 2017.
The APA contains representations, warranties, covenants and indemnification provisions customary for a transaction of this type.
Many of the representations made by us are subject to, and qualified by materiality or similar concepts. Both parties have agreed
to indemnify the other party for certain losses arising from the breach of the APA and for certain other liabilities, subject to
specified limitations. In connection with the transaction both parties will provide transition services with respect to the business
activities that were sold.
The customer contract and intellectual
property sold had a net book value of $0. As a result of the sale, Tech Site Services LLC assumed liabilities of $7,000, resulting
in $343,000 of cash proceeds that was paid to us upon closing. Additionally, we incurred approximately $29,000 in legal, escrow
and other expenses that would not have been incurred otherwise. As a result, we recorded a net gain of approximately $321,000 in
our consolidated statement of operations for the three-month period ended March 31, 2017.
On July 1, 2016, we adopted ASU 2014-08
regarding discontinued operations. As a result, we evaluated the sale of a portion of our project maintenance business component
in light of this new standard. We concluded that the sale of a portion of our project management business component in January
2017 was not a “material shift” (as defined in ASU 2014-08) for us and therefore, is not considered a discontinued
operation. In accordance with ASU 2014-08, the following information is being provided:
|
|
Three Months Ended June 30,
|
|
|
Six Months Ended June 30,
|
|
|
|
2017
|
|
|
2016
|
|
|
2017
|
|
|
2016
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Pre-tax profit related to project management
business sold
|
|
$
|
23
|
|
|
$
|
5
|
|
|
$
|
70
|
|
|
$
|
111
|
|
Note 6 - Net Income (Loss) Per-Share
Basic and diluted income (loss) per share
are based on the weighted average number of shares of common stock and potential common stock outstanding during the period. Potential
common stock, for the purposes of determining diluted income per share, includes the effects of dilutive unvested restricted stock,
options to purchase common stock and convertible securities. The effect of such potential common stock is computed using the treasury
stock method or the if-converted method, as applicable.
The following table presents a reconciliation
of the numerators and denominators of the basic and diluted income (loss) per share computations for income (loss) from continuing
operations. The table below represents the numerator and shares represent the denominator (in thousands except per share amounts).
|
|
Three Months Ended June 30,
|
|
|
Six Months Ended June 30,
|
|
|
|
2017
|
|
|
2016
|
|
|
2017
|
|
|
2016
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic net income (loss) per share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Numerator:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss)
|
|
$
|
(24
|
)
|
|
$
|
(169
|
)
|
|
$
|
229
|
|
|
$
|
(1,336
|
)
|
Denominator:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted-average shares of common stock outstanding
|
|
|
15,497
|
|
|
|
15,665
|
|
|
|
15,512
|
|
|
|
15,662
|
|
Basic net income (loss) per share
|
|
$
|
0.00
|
|
|
$
|
(0.01
|
)
|
|
$
|
0.01
|
|
|
$
|
(0.09
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted net income (loss) per share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Numerator:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss)
|
|
$
|
(24
|
)
|
|
$
|
(169
|
)
|
|
$
|
229
|
|
|
$
|
(1,336
|
)
|
Plus interest expense on convertible debt
|
|
|
-
|
|
|
|
-
|
|
|
|
4
|
|
|
|
-
|
|
|
|
$
|
(24
|
)
|
|
$
|
(169
|
)
|
|
$
|
233
|
|
|
$
|
(1,336
|
)
|
Denominator:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted-average shares of common stock outstanding
|
|
|
15,497
|
|
|
|
15,665
|
|
|
|
15,512
|
|
|
|
15,662
|
|
Dilutive options and warrants outstanding
|
|
|
-
|
|
|
|
-
|
|
|
|
1,065
|
|
|
|
-
|
|
Effect of conversion of convertible notes
|
|
|
-
|
|
|
|
-
|
|
|
|
13
|
|
|
|
-
|
|
Number of shares used in diluted per-share computation
|
|
|
15,497
|
|
|
|
15,665
|
|
|
|
16,590
|
|
|
|
15,662
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted net income (loss) per share
|
|
$
|
(0.00
|
)
|
|
$
|
(0.01
|
)
|
|
$
|
0.01
|
|
|
$
|
(0.09
|
)
|
For the three-month
periods ended June 30, 2017 and 2016 potentially dilutive shares of 3,282,000 and 3,496,000, respectively, were excluded from the
calculation of dilutive shares because their effect would have been anti-dilutive to the net loss in those periods.
For the six-month period
ended June 30, 2016, potentially dilutive shares of 3,496,000 were excluded from the calculation of dilutive shares because their
effect would have been anti-dilutive due to the net loss in that period.
Note 7 – Related Party Transactions
We had $100,000 principal outstanding at
June 30, 2017 in a convertible note payable to Mr. Gallagher, a director, and our senior technical advisor and founder. The convertible
note bear interest at 5% per annum and is subordinated to our borrowings to MHW and to RTS under our receivables financing agreement.
Per the terms of the notes, we paid interest of $1,000 and $5,000 during the three-month periods ended June 30, 2017 and 2016,
respectively, and we paid interest of $3,000 and $12,000 during the six-month periods ended June 30, 2017 and 2016, respectively.
We repaid principal against the convertible note of $0 and $75,000 in the three-month periods ended June 30, 2017 and 2016, respectively.
We repaid principal against the convertible note of $150,000 in each of the six -month periods ended June 30, 2017 and 2016, respectively.
We have $945,000 principal outstanding at
June 30, 2017 in promissory notes payable to MHW, net of remaining discount of $100,000. Per the terms of the notes, we paid interest
of $28,000 during each of the three-month periods ended June 30, 2017 and 2016, respectively, and we paid interest of $56,000 during
each of the six-month periods ended June 30, 2017 and 2016, respectively. Peter H. Woodward, the Chairman of our Board of Directors,
is a principal of MHW Capital Management, LLC which is the investment manager of MHW. MHW Capital Management LLC is entitled to
a performance-related fee equal to 10% of any appreciation in the valuation of the common stock in excess of the applicable strike
price under the warrant issued to MHW.
Note 8 – Segment
Reporting
Segment
information reported in the tables below represents the operating segments of the Company organized in a manner consistent with
which separate information is available and for which segment results are evaluated regularly by our chief operating decision-maker
in assessing performance and allocating resources. Our activities are organized into two major segments: facilities and systems
integration. Our facilities unit is involved in the design, project management and maintenance of data center and mission-critical
business operations. Our systems integration unit integrates IT equipment for OEM vendors and customers to be used inside data
center environments, including modular data centers. All of our revenues are derived from the U.S. market. Segment operating results
reflect earnings before stock-based compensation, acquisition related expenses, other expenses, net, and provision for income taxes.
Revenue and
operating results by reportable segment reconciled to reportable net income (loss) for the three and six-month periods ended June
30, 2017 and 2016 and other segment-related information is as follows (in thousands):
|
|
Three Month Periods
ended June 30,
|
|
|
Six Month Periods
ended June 30,
|
|
|
|
2017
|
|
|
2016
|
|
|
2017
|
|
|
2016
|
|
Revenues:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Facilities
|
|
$
|
2,729
|
|
|
$
|
5,269
|
|
|
$
|
5,217
|
|
|
$
|
12,002
|
|
System integration services
|
|
|
1,469
|
|
|
|
1,760
|
|
|
|
3,370
|
|
|
|
2,702
|
|
Total revenues
|
|
$
|
4,198
|
|
|
$
|
7,029
|
|
|
$
|
8,587
|
|
|
$
|
14,704
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) from operations:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Facilities
|
|
$
|
515
|
|
|
$
|
58
|
|
|
$
|
1,072
|
|
|
$
|
(493
|
)
|
System integration services
|
|
|
(441
|
)
|
|
|
(118
|
)
|
|
|
(699
|
)
|
|
|
(661
|
)
|
Total income (loss) from operations
|
|
$
|
74
|
|
|
$
|
(60
|
)
|
|
|
373
|
|
|
$
|
(1,154
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation expense:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Facilities
|
|
$
|
8
|
|
|
$
|
18
|
|
|
$
|
17
|
|
|
$
|
37
|
|
System integration services
|
|
|
79
|
|
|
|
91
|
|
|
|
172
|
|
|
|
178
|
|
Consolidated depreciation expense
|
|
$
|
87
|
|
|
$
|
109
|
|
|
$
|
189
|
|
|
$
|
215
|
|
Interest expense
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Facilities
|
|
$
|
42
|
|
|
$
|
87
|
|
|
$
|
85
|
|
|
$
|
154
|
|
System integration services
|
|
|
32
|
|
|
|
24
|
|
|
|
66
|
|
|
|
37
|
|
Consolidated interest expense
|
|
$
|
74
|
|
|
$
|
111
|
|
|
$
|
151
|
|
|
$
|
191
|
|
|
|
June
30,
2017
|
|
|
Dec.
31,
2016
|
|
Total Assets
|
|
|
|
|
|
|
|
|
Facilities
|
|
$
|
3,007
|
|
|
$
|
4,190
|
|
System integration services
|
|
|
1,590
|
|
|
|
1,938
|
|
Other consolidated activities
|
|
|
1,517
|
|
|
|
2,448
|
|
Total assets
|
|
$
|
6,114
|
|
|
$
|
8,576
|
|
Other consolidated
activities include assets not specifically attributable to each business segment including cash, prepaid and other assets that
are managed at a corporate level.
Note 9 – Subsequent Events
On July 19, 2017,
we amended and restated the terms of our multiple advance term loan agreement and related agreements (the “Loan
Agreements”) with MHW and MHW Partners, LP (“MHW Partners”), an entity affiliated with MHW, whereby we
increased the maximum principal amount of loans to $2.5 million for up to sixty days, and $2 million thereafter. The term of
the loan was modified to be five years from the date of modification, thereby extending the term of the $945,000 loan we
borrowed in February 2015 to July 19, 2022. As part of this modification, the interest rate remains at 12% per annum, however
it was changed so that 6% is paid in cash monthly, in arrears, and 6% is payable in kind, to be evidenced by additional
promissory notes having an aggregate principal amount equal to the accrued but unpaid interest. We also modified the warrant
that was issued with the 2015 loan to lower the exercise price of the warrants and extended the term of the warrant to July
19, 2022.
On July 19, 2017 we also borrowed an additional
$650,000 from MHW Partners. This loan ranks parri passu with the promissory notes held by MHW and is subject to the Loan Agreement.
Similar to the notes held by MHW, this note issued to MHW Partners bears interest at 12% per annum, payable in cash monthly in
arrears at a fixed rate of 6% per annum and payable in kind at a fixed rate of 6% per annum and has a maturity date of July 19,
2022.
We can repay the notes issued to MHW and
MHW Partners at any time, subject to a prepayment fee of (a) 4% if the prepayment is made prior to July 20, 2018, (b) 2% if the
prepayment is made between July 20, 2018 and July 19, 2019, and (c) 1% if the prepayment is made between July 20, 2019 and July
19, 2020.
The Loan Agreement and ancillary documents
include customary affirmative covenants for secured transactions of this type, including compliance with laws, maintenance of insurance,
maintenance of assets, timely payment of taxes and notice of adverse events. The Loan Agreement and ancillary documents include
customary negative covenants, including limitations on liens on assets of the Borrowers.
The Loan Agreement and ancillary documents
include customary events of default, including payment defaults, the making of false or misleading representations or warranties
included in the Loan Agreement and ancillary documents, failure to perform or observe terms, covenants or agreements included in
the Loan Agreement and ancillary documents, insolvency and bankruptcy defaults and dissolution and liquidation defaults.
The obligations under the Loan Agreement
and the promissory notes described above are secured by substantially all of the Borrower’s assets pursuant to the terms
of an amended and restated security agreement (the “Security Agreement”). The Security Agreement amends and restates
the security agreement from the Borrowers in favor of MHW SPV dated February 3, 2015.
In conjunction with entering into this new
loan, we entered into a warrant granting MHW Partners the right to purchase up to 767,500 shares of our common stock. This warrant
is exercisable for a period of 5 years from July 19, 2017, at an exercise price of $0.10 for the first 268,625 shares, $0.20 for
the next 268,625 shares and $0.30 for the final 230,250 shares. The exercise price and number of shares of common stock issuable
on exercise of this warrant will be subject to adjustment in the event of any stock split, reverse stock split, recapitalization,
reorganization or similar transaction.
Peter H. Woodward, the chairman of the board
of directors of the Company, is a principal of MHW Capital Management, LLC, which is the investment manager of MHW Partners. MHW
Capital Management, LLC is entitled to a performance related fee tied to appreciation in the valuation of the common stock of the
Company in excess of the applicable strike price under the warrants issued to MHW and MHW Partners.