ITEM
1 - FINANCIAL STATEMENTS
DOCUMENT
SECURITY SYSTEMS, INC. AND SUBSIDIARIES
Consolidated
Balance Sheets
As
of
|
|
September
30, 2017
|
|
|
December
31, 2016
|
|
|
|
|
(Unaudited)
|
|
|
|
|
|
ASSETS
|
|
|
|
|
|
|
|
|
Current assets:
|
|
|
|
|
|
|
|
|
Cash
|
|
$
|
4,223,005
|
|
|
$
|
5,871,738
|
|
Restricted cash
|
|
|
336,172
|
|
|
|
177,609
|
|
Accounts receivable,
net of $50,000 allowance for uncollectible accounts
|
|
|
1,799,005
|
|
|
|
1,890,981
|
|
Inventory
|
|
|
1,913,111
|
|
|
|
1,206,377
|
|
Prepaid
expenses and other current assets
|
|
|
308,223
|
|
|
|
350,289
|
|
|
|
|
|
|
|
|
|
|
Total current assets
|
|
|
8,579,516
|
|
|
|
9,496,994
|
|
|
|
|
|
|
|
|
|
|
Property, plant and equipment, net
|
|
|
4,484,284
|
|
|
|
4,573,841
|
|
Investment
|
|
|
484,930
|
|
|
|
-
|
|
Other assets
|
|
|
45,821
|
|
|
|
45,821
|
|
Goodwill
|
|
|
2,453,597
|
|
|
|
2,453,349
|
|
Other intangible
assets, net
|
|
|
1,387,039
|
|
|
|
1,896,018
|
|
|
|
|
|
|
|
|
|
|
Total
assets
|
|
$
|
17,435,187
|
|
|
$
|
18,466,023
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES AND STOCKHOLDERS’
EQUITY
|
|
|
|
|
|
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|
|
|
|
|
|
Current liabilities:
|
|
|
|
|
|
|
|
|
Accounts payable
|
|
$
|
1,706,607
|
|
|
$
|
2,212,653
|
|
Accrued expenses
and deferred revenue
|
|
|
1,012,719
|
|
|
|
1,290,593
|
|
Other current liabilities
|
|
|
2,957,033
|
|
|
|
2,996,310
|
|
Short-term debt
|
|
|
3,611,560
|
|
|
|
-
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|
Current
portion of long-term debt, net
|
|
|
752,180
|
|
|
|
1,202,335
|
|
|
|
|
|
|
|
|
|
|
Total current liabilities
|
|
|
10,040,099
|
|
|
|
7,701,891
|
|
|
|
|
|
|
|
|
|
|
Long-term debt, net
|
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|
1,607,752
|
|
|
|
5,249,569
|
|
Other long-term liabilities
|
|
|
1,624,500
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|
|
|
2,184,843
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|
Deferred tax liability, net
|
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|
59,830
|
|
|
|
45,619
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|
|
|
|
|
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Commitments and contingencies
(Note 7)
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Stockholders’
equity
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Common stock, $.02 par value; 200,000,000
shares authorized, 15,939,327 shares issued and outstanding (13,502,653 on December 31, 2016)
|
|
|
318,787
|
|
|
|
270,053
|
|
Additional paid-in
capital
|
|
|
106,123,997
|
|
|
|
104,338,002
|
|
Subscriptions receivable
from related party
|
|
|
(300,000
|
)
|
|
|
-
|
|
Accumulated other
comprehensive loss
|
|
|
(35,551
|
)
|
|
|
(45,343
|
)
|
Accumulated
deficit
|
|
|
(102,004,227
|
)
|
|
|
(101,278,611
|
)
|
Total stockholders’
equity
|
|
|
4,103,006
|
|
|
|
3,284,101
|
|
|
|
|
|
|
|
|
|
|
Total
liabilities and stockholders’ equity
|
|
$
|
17,435,187
|
|
|
$
|
18,466,023
|
|
See
accompanying notes to the condensed consolidated financial statements.
DOCUMENT
SECURITY SYSTEMS, INC. AND SUBSIDIARIES
Consolidated
Statements of Operations and Comprehensive Loss
(Unaudited)
|
|
For
the Three Months Ended September 30,
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For
the Nine Months Ended September 30,
|
|
|
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2017
|
|
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2016
|
|
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2017
|
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2016
|
|
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Revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Printed
products
|
|
$
|
3,767,334
|
|
|
$
|
4,448,509
|
|
|
$
|
11,552,955
|
|
|
$
|
12,147,796
|
|
Technology
sales, services and licensing
|
|
|
431,356
|
|
|
|
530,979
|
|
|
|
1,276,489
|
|
|
|
1,243,158
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenue
|
|
|
4,198,690
|
|
|
|
4,979,488
|
|
|
|
12,829,444
|
|
|
|
13,390,954
|
|
|
|
|
|
|
|
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|
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Costs and expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of revenue,
exclusive of depreciation and amortization
|
|
|
2,400,883
|
|
|
|
2,874,508
|
|
|
|
7,380,134
|
|
|
|
7,815,658
|
|
Selling, general
and administrative (including stock based compensation)
|
|
|
1,619,066
|
|
|
|
1,710,099
|
|
|
|
4,835,079
|
|
|
|
5,262,618
|
|
Depreciation
and amortization
|
|
|
352,040
|
|
|
|
349,143
|
|
|
|
1,041,789
|
|
|
|
1,049,387
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
costs and expenses
|
|
|
4,371,989
|
|
|
|
4,933,750
|
|
|
|
13,257,002
|
|
|
|
14,127,663
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating (loss)
income
|
|
|
(173,299
|
)
|
|
|
45,738
|
|
|
|
(427,558
|
)
|
|
|
(736,709
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other expense:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense
|
|
|
(58,164
|
)
|
|
|
(67,739
|
)
|
|
|
(170,565
|
)
|
|
|
(217,665
|
)
|
Amortized
debt discount
|
|
|
(40,854
|
)
|
|
|
|
|
|
|
(113,286
|
)
|
|
|
|
|
Loss before income
taxes
|
|
|
(272,317
|
)
|
|
|
(22,001
|
)
|
|
|
(711,409
|
)
|
|
|
(954,374
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income tax expense
|
|
|
4,734
|
|
|
|
4,737
|
|
|
|
14,208
|
|
|
|
14,211
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
loss
|
|
$
|
(277,051
|
)
|
|
$
|
(26,738
|
)
|
|
$
|
(725,617
|
)
|
|
$
|
(968,585
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other comprehensive
loss:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
rate swap gain (loss)
|
|
|
3,943
|
|
|
|
11,843
|
|
|
|
9,792
|
|
|
|
(22,451
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive
loss:
|
|
$
|
(273,108
|
)
|
|
$
|
(14,895
|
)
|
|
$
|
(715,825
|
)
|
|
$
|
(991,036
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss per common share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
and diluted
|
|
$
|
(0.02
|
)
|
|
$
|
(0.00
|
)
|
|
$
|
(0.05
|
)
|
|
$
|
(0.07
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares used in computing
loss per common share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
and diluted
|
|
|
14,087,849
|
|
|
|
12,977,903
|
|
|
|
13,793,946
|
|
|
|
12,975,053
|
|
See
accompanying notes to condensed consolidated financial statements.
DOCUMENT
SECURITY SYSTEMS, INC. AND SUBSIDIARIES
Consolidated
Statements of Cash Flows
For
the Nine Months Ended September 30:
(Unaudited)
|
|
2017
|
|
|
2016
|
|
Cash flows from operating
activities:
|
|
|
|
|
|
|
|
|
Net
loss
|
|
$
|
(725,617
|
)
|
|
$
|
(968,585
|
)
|
Adjustments to reconcile
net loss to net cash from (used by) operating activities:
|
|
|
|
|
|
|
|
|
Depreciation and
amortization
|
|
|
1,041,789
|
|
|
|
1,049,387
|
|
Stock based compensation
|
|
|
203,111
|
|
|
|
87,738
|
|
Paid in-kind interest
|
|
|
54,000
|
|
|
|
58,000
|
|
Change in deferred
tax provision
|
|
|
14,211
|
|
|
|
14,211
|
|
Amortization of
deferred financing costs
|
|
|
113,286
|
|
|
|
15,863
|
|
Decrease (increase)
in assets:
|
|
|
|
|
|
|
|
|
Accounts receivable
|
|
|
91,976
|
|
|
|
19,501
|
|
Inventory
|
|
|
(706,735
|
)
|
|
|
(250,529
|
)
|
Prepaid expenses
and other current assets
|
|
|
70,838
|
|
|
|
(24,683
|
)
|
Restricted cash
|
|
|
(158,563
|
)
|
|
|
105,316
|
|
Increase (decrease)
in liabilities:
|
|
|
|
|
|
|
|
|
Accounts payable
|
|
|
(506,749
|
)
|
|
|
169,394
|
|
Accrued
expenses and other liabilities
|
|
|
(867,702
|
)
|
|
|
108,138
|
|
Net cash (used) provided by operating
activities
|
|
|
(1,376,155
|
)
|
|
|
383,751
|
|
|
|
|
|
|
|
|
|
|
Cash flows from investing
activities:
|
|
|
|
|
|
|
|
|
Purchase of property,
plant and equipment
|
|
|
(438,350
|
)
|
|
|
(192,614
|
)
|
Proceeds from sale
of intangibles
|
|
|
-
|
|
|
|
495,000
|
|
Purchase
of intangible assets
|
|
|
(4,903
|
)
|
|
|
(72,953
|
)
|
Net cash (used) provided by investing
activities
|
|
|
(443,253
|
)
|
|
|
229,433
|
|
|
|
|
|
|
|
|
|
|
Cash flows from financing
activities:
|
|
|
|
|
|
|
|
|
Payments of long-term
debt
|
|
|
(612,419
|
)
|
|
|
(1,229,902
|
)
|
Issuances
of common stock, net of issuance costs
|
|
|
783,094
|
|
|
|
(92
|
)
|
Net cash provided (used) by financing
activities
|
|
|
170,675
|
|
|
|
(1,229,994
|
)
|
|
|
|
|
|
|
|
|
|
Net decrease in cash
|
|
|
(1,648,733
|
)
|
|
|
(616,810
|
)
|
Cash at beginning of period
|
|
|
5,871,738
|
|
|
|
1,440,256
|
|
|
|
|
|
|
|
|
|
|
Cash at end
of period
|
|
$
|
4,223,005
|
|
|
$
|
823,446
|
|
See
accompanying notes to the condensed consolidated financial statements.
DOCUMENT
SECURITY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2017
(Unaudited)
1.
Basis of Presentation and Significant Accounting Policies
Document
Security Systems, Inc. (the “Company”), through two of its subsidiaries, Premier Packaging Corporation and Plastic
Printing Professionals, Inc., which operates under the assumed name of DSS Plastics Group, operates in the security and commercial
printing, packaging and plastic ID markets. The Company develops, markets, manufactures and sells paper and plastic products designed
to protect valuable information from unauthorized scanning, copying, and digital imaging. The Company’s subsidiary, DSS
Digital Inc., which operates under the assumed name of DSS Digital Group, develops, markets and sells digital information services,
including data hosting, disaster recovery and data back-up and security services. The Company’s subsidiary, DSS Technology
Management, Inc., acquires intellectual property (“IP”) assets and interests in companies owning intellectual property
assets, or assists others in managing their intellectual property monetization efforts, for the purpose of monetizing these assets
through a variety of value-enhancing initiatives, including, but not limited to, investments in the development and commercialization
of patented technologies, licensing, strategic partnerships and commercial litigation.
The
accompanying unaudited condensed consolidated financial statements have been prepared in accordance with United States generally
accepted accounting principles (“U.S. GAAP”) for interim financial information and with the instructions to Form 10-Q
and Rule 8.03 of Regulation S-X for smaller reporting companies. Accordingly, these statements do not include all of the information
and footnotes required by U.S. GAAP for complete financial statements. In the opinion of management, the accompanying balance
sheets and related interim statements of operations and comprehensive loss and cash flows include all adjustments considered necessary
for their fair presentation in accordance with U.S. GAAP. All significant intercompany transactions have been eliminated in consolidation.
Interim
results are not necessarily indicative of results expected for the full year. For further information regarding the Company’s
accounting policies, refer to the audited consolidated financial statements and footnotes thereto included in the Company’s
Form 10-K for the fiscal year ended December 31, 2016.
Principles
of Consolidation
- The consolidated financial statements include the accounts of Document Security Systems and its subsidiaries.
All intercompany balances and transactions have been eliminated in consolidation.
Use
of Estimates -
The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities
at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual
results could differ materially from those estimates and assumptions. In preparing these financial statements, the Company has
evaluated events and transactions for potential recognition or disclosure.
Restricted
Cash
– As of September 30, 2017, cash of $336,712 ($177,609 – December 31, 2016) is restricted for payments
of costs and expenses associated with one of the Company’s IP monetization programs.
Investment
– In accordance with ASC 325-20, the Company records its investment in common stock of Singapore eDevelopment Limited
at cost as the fair market value of the investment is not readily determinable. The Company evaluates investment for indications
of impairment at least annually.
Fair
Value of Financial Instruments
- Fair value is defined as the price that would be received to sell an asset or paid to
transfer a liability in an orderly transaction between market participants at the measurement date. The Fair Value Measurement
Topic of the FASB ASC establishes a three-tier fair value hierarchy which prioritizes the inputs used in measuring fair value.
The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level
1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). These tiers include:
●
|
Level
1, defined as observable inputs such as quoted prices for identical instruments in active markets;
|
|
|
●
|
Level
2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable such as
quoted prices for similar instruments in active markets or quoted prices for identical or similar instruments in markets that
are not active; and
|
|
|
●
|
Level
3, defined as unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own
assumptions, such as valuations derived from valuation techniques in which one or more significant inputs or significant value
drivers are unobservable.
|
The
carrying amounts reported in the balance sheet of cash, accounts receivable, prepaids, accounts payable and accrued expenses approximate
fair value because of the immediate or short-term maturity of these financial instruments. The fair value of revolving credit
lines, notes payable and long-term debt approximates their carrying value as the stated or discounted rates of the debt reflect
recent market conditions. Derivative instruments, as discussed below, are recorded as assets and liabilities at estimated fair
value based on available market information.
Derivative
Instruments -
The Company maintains an overall interest rate risk management strategy that incorporates the use of interest
rate swap contracts to minimize significant fluctuations in earnings that are caused by interest rate volatility. The Company
has two interest rate swaps that change variable rates into fixed rates on two term loans. These swaps qualify as Level 2 fair
value financial instruments. These swap agreements are not held for trading purposes and the Company does not intend to sell the
derivative swap financial instruments. The Company records the interest swap agreements on the balance sheet at fair value because
the agreements qualify as a cash flow hedges under accounting principles generally accepted in the United States of America. Gains
and losses on these instruments are recorded in other comprehensive loss until the underlying transaction is recorded in earnings.
When the hedged item is realized, gains or losses are reclassified from accumulated other comprehensive loss (“AOCI”)
to the consolidated statement of operations on the same line item as the underlying transaction. The valuations of the interest
rate swaps have been derived from proprietary models of Citizens Bank, N.A. based upon recognized financial principles and reasonable
estimates about relevant future market conditions and may reflect certain other financial factors such as anticipated profit or
hedging, transactional, and other costs. The notional amounts of the swaps decrease over the life of the agreements. The Company
is exposed to a credit loss in the event of nonperformance by the counter parties to the interest rate swap agreements. However,
the Company does not anticipate non-performance by the counter parties. The cumulative net loss attributable to this cash flow
hedge recorded in accumulated other comprehensive loss and other liabilities as of September 30, 2017 was approximately $36,000
($45,000 - December 31, 2016).
As
of September 30, 2017 the Company has an interest rate swap agreement for its debt with RBS Citizens, N.A. (“Citizens Bank”)
(see Note 4) which changes a variable rate into a fixed rate on a term loan as follows:
Notional
|
|
|
Variable
|
|
|
|
|
|
|
Amount
|
|
|
Rate
|
|
|
Fixed
Cost
|
|
|
Maturity
Date
|
$
|
927,753
|
|
|
|
4.38
|
%
|
|
|
5.87
|
%
|
|
August 30, 2021
|
Impairment
of Long Lived Assets and Goodwill
- Long-lived and intangible assets and goodwill are assessed for potential impairment
whenever events or changes in circumstances indicate that full recoverability of net asset balances through future cash flows
is in question. Goodwill and indefinite-lived intangible assets are assessed at least annually, but also whenever events or changes
in circumstances indicate the carrying values may not be recoverable. Factors that could trigger an impairment review, include
(a) significant underperformance relative to historical or projected future operating results; (b) significant changes in the
manner of or use of the acquired assets or the strategy for the Company’s overall business; (c) significant negative industry
or economic trends; (d) significant decline in the Company’s stock price for a sustained period; and (e) a decline in the
Company’s market capitalization below net book value.
Contingent
Legal Expenses
-
Contingent legal fees associated with our commercial litigation involving our IP are expensed
in the consolidated statements of operations in the period that the related revenues are recognized. In instances where there
are no recoveries from potential infringers, no contingent legal fees are paid; however, the Company may be liable for certain
out of pocket legal costs incurred pursuant to the underlying legal services agreement that will be paid out from the proceeds
from settlements or licenses that arise pursuant to an enforcement action, which will be expensed as legal fees in the period
in which the payment of such fees is probable. Any unamortized patent acquisition costs will be expensed in the period in which
a conclusion is reached in an enforcement action that does not yield future royalties potential.
Earnings
Per Common Share
- The Company presents basic and diluted earnings per share. Basic earnings per share reflect the actual
weighted average of shares issued and outstanding during the period. Diluted earnings per share are computed including the number
of additional shares that would have been outstanding if dilutive potential shares had been issued. In a loss period, the calculation
for basic and diluted earnings per share is considered to be the same, as the impact of potential common shares is anti-dilutive.
On
August 26, 2016, the Company affected a one-for-four reverse stock split of the Company’s common stock. No fractional shares
of the Company’s common stock were issued as a result of the reverse stock split. Instead, stockholders of record who otherwise
would have been entitled to receive fractional shares were entitled to a rounding up of their fractional share to the nearest
whole share, except in the case of any stockholder that owned less than four shares of the Company’s common stock immediately
preceding the reverse stock split. In such case, such stockholder received cash for such fractional share in an amount equal to
the product obtained by multiplying: (x) the closing sale price of the common stock on August 25, 2016 as reported on the NYSE
MKT, by (y) the amount of the fractional share. As a result, the Company issued 1,166 common shares for shares due as a result
of the rounding up feature and paid $92 to buy-out the fractional shares of holders with less than four shares immediately preceding
the reverse stock split.
As
of September 30, 2017 and 2016, there were 3,297,759 and 2,498,128 respectively, of common stock share equivalents potentially
issuable options, warrants, and restricted stock agreements, that could potentially dilute basic earnings per share in the future.
These shares are excluded from the calculation of diluted earnings per share in periods in which the Company had a net loss because
their inclusion would be anti-dilutive to the Company’s losses in the respective periods.
Concentration
of Credit Risk
-
The Company maintains its cash in bank deposit accounts, which at times may exceed federally insured
limits. The Company believes it is not exposed to any significant credit risk as a result of any non-performance by the financial
institutions.
During
the nine months ended September 30, 2017, two customers accounted for 25% and 15%, respectively, of the Company’s consolidated
revenue and accounted for 17% and 11%, respectively, of the Company’s accounts receivable balance as of September 30, 2017.
During the nine months ended September 30, 2016, one customer accounted for 25% of the Company’s consolidated revenue and
accounted for 7% of the Company’s accounts receivable balance as of September 30, 2016. The risk with respect to accounts
receivables is mitigated by credit evaluations the Company performs on its customers, the short duration of its payment terms
for the significant majority of its customer contracts and by the diversification of its customer base.
Reclassifications
- Certain prior year amounts have been reclassified to conform to the current year presentation. All common share and
per share figures are presented on a post one for four reverse stock split basis.
Recent
Accounting Pronouncements
–
In May 2014, the Financial Accounting Standards Board (FASB) issued Accounting Standard
Update (ASU) 2014-9 “Revenue from Contracts with Customers”. The new guidance requires an entity to recognize the
amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. Subsequently,
the FASB has issued the following standards related to ASU 2014-09: ASU No. 2016-08, “Revenue from Contracts with Customers
(Topic 606): Principal versus Agent Considerations” (“ASU 2016-08”); ASU No. 2016-10, “Revenue from Contracts
with Customers (Topic 606): Identifying Performance Obligations and Licensing” (“ASU 2016-10”); and ASU No.
2016-12, “Revenue from Contracts with Customers (Topic 606): Narrow-Scope Improvements and Practical Expedients” (“ASU
2016-12”). The Company must adopt ASU 2016-08, ASU 2016-10 and ASU 2016-12 with ASU 2014-09 (collectively, the “new
revenue standards”). The revenue standards will replace most existing revenue recognition guidance in U.S. GAAP when it
becomes effective and permits the use of either a retrospective or cumulative effect transition method. This guidance is effective
for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017. The Company has not yet selected
a transition method and is currently evaluating the effect that the revenue standards will have on its consolidated financial
statements and related disclosures.
In
January 2016, the FASB issued ASU No. 2016-01, “Recognition and Measurement of Financial Assets and Financial Liabilities.”
ASU 2016-01 requires that most equity investments be measured at fair value, with subsequent changes in fair value recognized
in net income. Entities will no longer be able to use the cost method of accounting for equity securities. However, for equity
investments without readily determinable fair values, entities may elect a measurement alternative that will allow those investments
to be recorded at cost, less impairment, and adjusted for subsequent observable price changes. Upon adoption, entities must record
a cumulative-effect adjustment to the balance sheet as of the beginning of the first reporting period in which the standard is
adopted. The guidance on equity securities without readily determinable fair values will be applied prospectively to all equity
investments that exist as of the date of the adoption of the standand. The pronouncement also impacts financial liabilities under
the fair value option and the presentation and disclosure requirements for financial instruments. This pronouncement is effective
for fiscal years, and interim periods within those years, beginning after December 15, 2017, and early adoption is not permitted.
The Company has not yet evaluated nor has it determined the effect the standard will have on its consolidated financial statements
and related disclosures.
In
February 2016, the FASB issued ASU 2016-02, “Leases”, which requires that lease arrangements longer than 12 months
result in an entity recognizing an asset and liability. ASU 2016-02 is effective for interim and annual periods beginning after
December 15, 2018, and early adoption is permitted. The Company has not yet evaluated nor has it determined the effect the standard
will have on its consolidated financial statements and related disclosures.
In
March 2016, the FASB issued ASU 2016-09, “Compensation — Stock Compensation: Improvements to Employee Share-Based
Payment Accounting.” The standard is intended to simplify several areas of accounting for share-based compensation arrangements,
including the income tax impact, classification on the statement of cash flows and forfeitures. ASU 2016-09 was effective for
the Company on January 1, 2017. The adoption of this standard did not have a material impact on our consolidated financial statements.
In
August 2016, the FASB issued ASU 2016-15, “Classification of Certain Cash Receipts and Cash Payments”, which clarifies
the treatment of several types of cash receipts and payments for which there was diversity in practice. This update is effective
for annual periods beginning after December 15, 2017, and interim periods within those fiscal years, with early adoption permitted,
including adoption in an interim period. We anticipate that the adoption of this guidance will not have a material impact on our
consolidated financial statements.
In
November 2016, the FASB issued ASU 2016-18, “Statement of Cash Flows”, regarding the presentation of restricted cash
on the statement of cash flows. The standards update requires that the reconciliation of the beginning and end of period cash
amounts shown in the statement of cash flows include restricted cash. When restricted cash is presented separately from cash and
cash equivalents on the balance sheet, a reconciliation is required between the amounts presented on the statement of cash flows
and the balance sheet. Also, the new guidance requires the disclosure of information about the nature of the restrictions. The
standards update is effective retrospectively for fiscal years and interim periods beginning after December 15, 2017, with early
adoption permitted. We anticipate that the adoption of this guidance will not have a material impact on our consolidated financial
statements.
2.
Inventory
Inventory
consisted of the following:
|
|
September
30, 2017
|
|
|
December
31, 2016
|
|
|
|
|
|
|
|
|
Finished Goods
|
|
$
|
1,315,421
|
|
|
$
|
736,987
|
|
WIP
|
|
|
385,998
|
|
|
|
314,353
|
|
Raw Materials
|
|
|
211,692
|
|
|
|
155,037
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
1,913,111
|
|
|
$
|
1,206,377
|
|
3.
Investment
On
September 12, 2017, the Company and Hengfai Business Development Pte Ltd. (“HBD”) entered into a Securities
Exchange Agreement whereby the Company agreed to issue and sell to HBD 683,000 shares of its common stock, which had a market
value on that date of $484,930, in exchange for 21,196,552 ordinary shares and an existing three-year warrant to purchase up
to 105,982,759 of common shares at an exercise price of SGD$0.040 per share of Singapore eDevelopment Limited
(“SED”), a company incorporated in Singapore and publicly-listed on the Singapore Exchange Limited. The SED
shares and warrants were owned by HBD. One of the directors of the Company, Mr. Heng Fai Ambrose Chan, is a related party
to each of HBD and SED. The cost of the investment was determined to be the fair value of the Company’s common
stock issued in the transaction, which was determined to have the most readily determinable fair value. As of September 30,
2017, the investment is carried at cost of approximately $485,000.
4.
Intangible Assets
Intangible
assets are comprised of the following:
|
|
September
30, 2017
|
|
|
December
31, 2016
|
|
|
|
Useful
Life
|
|
|
Gross
Carrying Amount
|
|
|
|
Accumulated
Amortization
|
|
|
|
Net
Carrying Amount
|
|
|
|
Gross
Carrying Amount
|
|
|
|
Accumulated
Amortization
|
|
|
|
Net
Carrying Amount
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Acquired
intangibles - customer lists and non-compete agreements
|
|
5-10 years
|
|
|
1,997,300
|
|
|
|
1,785,932
|
|
|
|
211,368
|
|
|
|
1,997,300
|
|
|
|
1,721,357
|
|
|
|
275,943
|
|
Acquired intangibles
- patents and patent rights
|
|
Varied (1)
|
|
|
3,155,000
|
|
|
|
2,476,149
|
|
|
|
678,851
|
|
|
|
3,155,000
|
|
|
|
2,092,767
|
|
|
|
1,062,233
|
|
Patent
application costs
|
|
Varied
(2)
|
|
|
1,141,368
|
|
|
|
644,548
|
|
|
|
496,820
|
|
|
|
1,136,465
|
|
|
|
578,623
|
|
|
|
557,842
|
|
|
|
|
|
$
|
6,293,668
|
|
|
$
|
4,906,629
|
|
|
$
|
1,387,039
|
|
|
$
|
6,288,765
|
|
|
$
|
4,392,747
|
|
|
$
|
1,896,018
|
|
|
(1)
|
Acquired
patents and patent rights are amortized over their expected useful life which is generally the remaining legal life of the
patent. As of September 30, 2017, the weighted average remaining useful life of these assets in service was approximately
1.84 years.
|
|
|
|
|
(2)
|
Patent
application costs are amortized over their expected useful life which is generally the remaining legal life of the patent.
As of September 30, 2017, the weighted average remaining useful life of these assets in service was approximately 6.3 years.
|
Intangible
asset amortization expense for the nine months ended September 30, 2017 amounted to $513,881 ($530,015 - September 30, 2016).
5.
Short-Term and Long-Term Debt
Revolving
Credit Lines
- The Company’s subsidiary Premier Packaging Corporation (“Premier Packaging”) has a revolving
credit line with Citizens Bank of up to $800,000 that bears interest at 1 Month LIBOR plus 3.75% (4.98% as of September 30, 2017)
and expires on July 26, 2018. As of September 30, 2017 and December 31, 2016, the revolving line had a balance of $0.
On
July 26, 2017, Premier Packaging entered into a Loan Agreement and accompanying Term Note Non-Revolving Line of Credit Agreement
with Citizens Bank pursuant to which Citizens agrees to lend up to $1,200,000 for the purpose of enabling Premier Packaging to
purchase equipment from time to time that it may need for use in its business. As of the date of this report, the revolving line
had a balance of $0.
Long-Term
Debt
- On December 30, 2011, the Company issued a $575,000 convertible note that was initially due on December 29, 2013,
and carries an interest rate of 10% per annum. The note is secured by the assets of Company’s wholly-owned subsidiary, Secuprint
Inc. Interest is payable quarterly, in arrears. In conjunction with the issuance of the convertible note, the Company determined
a beneficial conversion feature existed amounting to approximately $88,000, which was recorded as a debt discount to be amortized
over the term of the note. On May 24, 2013, the Company amended the convertible note to extend the maturity date of the note from
December 29, 2013 to December 29, 2015. The change in the fair value of the embedded conversion option exceeded 10% of the carrying
value of the original debt and, therefore, the Company accounted for this restructuring as an extinguishment in accordance with
FASB ASC 470-50 “Debt Modifications and Extinguishments”. The note was written up to its fair value on the date of
modification of approximately $650,000 and the premium recorded in excess of its face value was amortized over the remaining life
of the note. On February 23, 2015, the Company entered into Convertible Promissory Note Amendment No. 2 to extend the maturity
date to December 30, 2016, eliminate the conversion feature, and to institute principal payments in the amount of $15,000 per
month plus interest through the extended maturity date, and a balloon payment of $230,000 due on the extended maturity date. On
April 12, 2016, the Company entered into Convertible Promissory Note Amendment No. 3 to extend the maturity date to May 31, 2017
and change the balloon payment to $155,000 due on the extended maturity date. On May 31, 2017, the Company entered into Convertible
Promissory Note Amendment No. 4 to extend the maturity date to April 30, 2018 at which point the note is scheduled to be paid
in full. In exchange for the extension, the Company also issued the lender as additional consideration 18,000 shares of the Company’s
common stock which had a fair value of $17,640. As of September 30, 2017, the balance of the term loan was $95,000 ($230,000 at
December 31, 2016).
On
May 24, 2013, the Company entered into a promissory note in the principal sum of $850,000 to purchase three printing presses that
were previously leased by the Company’s wholly-owned subsidiary, Secuprint Inc., and carries an interest rate of 9% per
annum. The note is secured by the assets of Company’s wholly-owned subsidiary, Secuprint Inc. Interest is payable quarterly,
in arrears. The Company also issued the lender as additional consideration a five-year warrant to purchase up to 60,000 shares
of the Company’s common stock at an exercise price of $3.00 per share. The warrant was valued at approximately $69,000 using
the Black-Scholes-Merton option pricing model with a volatility of 60.0%, a risk free rate of return of 0.89% and zero dividend
and forfeiture estimates. In conjunction with the issuance of the warrants, the Company recorded a discount on debt of approximately
$69,000 that was amortized over the original term of the note. The note was set to mature on May 24, 2014, but its maturity date
was extended on May 2, 2014 to May 24, 2015 by the lender. In exchange for the extension, the Company also issued the lender as
additional consideration a five-year warrant to purchase up to 40,000 shares of the Company’s common stock at an exercise
price of $1.50 per share. The warrant was valued at approximately $29,000 using the Black-Scholes-Merton option pricing model
with a volatility of 70.0%, a risk free rate of return of 1.53% and zero dividend and forfeiture estimates. In conjunction with
the issuance of the warrants, the Company recorded expense for modification of debt of approximately $29,000. On February 23,
2015, the Company entered into Promissory Note Amendment No. 2 to extend the maturity date to May 31, 2016 and to institute principal
payments in the amount of $15,000 per month plus interest through the extended maturity date, and a balloon payment of $610,000
due on the extended maturity date. On April 12, 2016, the Company entered into Promissory Note Amendment No. 3 to extend the maturity
date to May 31, 2017 and change the balloon payment to $430,000 due on the extended maturity date. . On May 31, 2017, the Company
entered into Convertible Promissory Note Amendment No. 4 to extend the maturity date to December 31, 2018 at which point the note
is scheduled to be paid in full. In exchange for the extension, the Company also issued the lender as additional consideration
18,000 shares of the Company’s common stock which had a fair value of $17,640. As of September 30, 2017, the balance of
the term loan was $370,000 ($505,000 at December 31, 2016).
Term
Loan Debt
- On July 19, 2013, Premier Packaging entered into an equipment loan with People’s Capital and Leasing
Corp. (“People’s Capital”) for a printing press. The loan is secured by the printing press. The loan was for
$1,303,900, repayable over a 60-month period which commenced when the equipment was placed in service in January 2014. The loan
bears interest at 4.84% and is payable in equal monthly installments of $24,511. As of September 30, 2017, the loan had a balance
of $356,064 ($559,609 at December 31, 2016).
On
April 28, 2015, Premier Packaging entered into a term note with Citizens for $525,000, repayable over a 60-month period. The loan
bears interest at 3.61% and is payable in equal monthly installments of $9,591 until April 28, 2020. Premier Packaging used the
proceeds of the term note to acquire a HP Indigo 7800 Digital press. The loan is secured by the printing press. As of September
30, 2017, the loan had a balance of $283,271 ($360,611 at December 31, 2016).
Promissory
Notes -
On August 30, 2011, Premier Packaging purchased the packaging plant it occupies in Victor, New York, for $1,500,000,
which was partially financed with a $1,200,000 promissory note obtained from Citizens Bank (“Promissory Note”). The
Promissory Note calls for monthly payments of principal and interest in the amount of $7,658, with interest calculated as 1 Month
LIBOR plus 3.15% (4.38% at September 30, 2017). Concurrently with the transaction, the Company entered into an interest rate swap
agreement to lock into a 5.87% effective interest rate for the life of the loan. The Promissory Note matures in August 2021 at
which time a balloon payment of the remaining principal balance will be due. As of September 30, 2017, the Promissory Note had
a balance of $927,753 ($966,786 at December 31, 2016).
On
December 6, 2013, Premier Packaging entered into a Construction to Permanent Loan with Citizens Bank for up to $450,000 that was
converted into a promissory note upon the completion and acceptance of building improvements to the Company’s packaging
plant in Victor, New York. In May 2014, the Company converted the loan into a $450,000 note payable in monthly installments over
a 5 year period of $2,500 plus interest calculated at a variable rate of 1 Month LIBOR plus 3.15% (4.38% at September 30, 2017),
which payments commenced on July 1, 2014. The note matures in July 2019 at which time a balloon payment of the remaining principal
balance of $300,000 is due. As of September 30, 2017, the note had a balance of $352,500 ($375,000 – December 31, 2016).
Under
the Citizens Bank credit facilities, the Company’s subsidiary, Premier Packaging, is subject to various covenants including
fixed charge coverage ratio, tangible net worth and current ratio covenants. For the quarters ended March 31, June 30, 2017, and
September 30, 2017, Premier Packaging was in compliance with the covenants. The Citizens Bank obligations are secured by all of
the assets of Premier Packaging and are also secured through cross guarantees by the Company and its other wholly-owned subsidiaries,
Plastic Printing Professionals and Secuprint.
Other
Debt
- On February 13, 2014, the Company’s subsidiary, DSS Technology Management, Inc. (“DSSTM”), entered
into an Investment Agreement (the “Agreement”) dated February 13, 2014 (the “Effective Date”) with Fortress
Credit Co LLC, as collateral agent (the “Collateral Agent” or “Fortress”), and certain investors (the
“Investors”), pursuant to which DSSTM contracted to receive a series of advances up to $4,500,000 (collectively, the
“Advances”). Under the terms of the Agreement, on the Effective Date, DSSTM issued and sold a promissory note in the
amount of $1,791,000, fixed return equity interests in the amount of $199,000, and contingent equity interests in the amount of
$10,000, to each of the Investors, and in return received $2,000,000 in proceeds. To secure the Advances, DSSTM placed a lien
in favor of the Investors on ten semi-conductor patents (the “Patents”) and assigned to the Investors certain funds
recoverable from successful patent litigation involving these Patents, including settlement payments, license fees and royalties
on the Patents. DSSTM is a plaintiff in various ongoing patent infringement lawsuits involving certain of the Patents.
On
March 27, 2014, DSSTM received an additional $1,000,000 under the Agreement comprised of a promissory note for $900,000 and fixed
and contingent equity interests of $100,000. On September 5, 2014, DSSTM received the remaining $1,500,000 under the Agreement
comprised of a promissory note for $1,350,000 and fixed and contingent return interests of $150,000. On May 23, 2016, DSSTM remitted
$495,000 in proceeds received from the sale of patent assets (Note 5) to Fortress under the terms of the Agreement. On September
20, 2016, DSSTM remitted $125,250 in proceeds received from a settlement to Fortress as repayment of the note principal balance
under the terms of the Agreement.
The
Agreement defines certain events as Events of Default, one of which is the failure by DSSTM, on or before the second anniversary
of the Effective Date, to make payments to the Investors equal to the outstanding Advances. On February 13, 2016, being the second
anniversary date of the Effective Date, DSSTM had failed to make these payments and was therefore in default of the Agreement.
On December 2, 2016, the parties entered into a First Amendment to Investment Agreement and Certain Other Documents (the “Amendment”).
The purpose of the Amendment was to vacate DSSTM’s ongoing non-payment default under the Agreement, and to amend certain
provisions of the Agreement.
The
Agreement was amended to add expenses in the amount of $150,000 to DSSTM’s payment obligation, payable on the Maturity Date.
This amount was recorded as debt issuance costs and is being amortized on a straight line basis through the amended maturity date
of February 13, 2018. The Amendment added a provision whereby DSSTM is required to deposit $300,000 on or before March 2, 2017
and (ii) a further sum of $300,000 on or before March 2, 2018, into a deposit account (collectively, the “Deposit”).
The March 2, 2017 deposit was made in a timely manner. The Deposit funds will be restricted to pay certain expenses, consisting
of out-of-pocket expenses incurred in connection with certain existing patent litigation matters and other patent litigation matters
which may occur after the Amendment Effective Date (the “Qualified Expenses”). In the Event of Default, the Investors
may apply the then remaining Deposit to the then outstanding Obligations, if any.
Additionally
per the Amendment, DSSTM agrees to pay to the Investors an amount equal to 25% of any amounts received by DSSTM for any and all
types of monetization activities related to certain of its patents covering systems and methods of using low power wireless peripheral
devices (collectively, “BlueTooth Patents”), but only until the Investors have received payments under the Agreement
totaling the sum of (i) the Capitalized Expenses plus (ii) payments of principal and interest on the Notes totaling the sum of
(x) $4,500,000 (consisting of the previously made Advances) plus (y) additional amounts, if any, advanced by the Investors pursuant
to the Agreement. In addition to the monetization interest granted the Investors in the BlueTooth Patents, DSSTM also granted
the Collateral Agent and the Investors a security interest in certain of DSSTM’s unencumbered semiconductor patents to further
collateralize the amounts owed under the Agreement.
As
of September 30, 2017, DSSTM has made aggregate principal payments of $752,180 on the notes. As of September 30, 2017, $3,611,560
is recorded as a short-term debt under the arrangement, which includes $263,500 of accrued interest, less unamortized debt issuance
costs of $77,856. In addition, as of September 30, 2017, $459,000 of fixed and contingent equity interests is recorded in other
short-term liabilities. The Company will reduce the liability upon payment to the Investor from available proceeds from litigation,
or if none by the maturity date of February 13, 2018, then such amounts will be settled by the Company by the transfer and assignment
of certain of the Company’s patent assets.
6.
Other Liabilities
On
November 14, 2016, the Company entered into a Proceeds Investment Agreement (the “Agreement”) with Brickell Key Investments
LP (“BKI”). Pursuant to the Agreement, BKI financed an aggregate of $13,500,000 in a patent purchase and monetization
program to be implemented and managed by the Company (the “Financing”). Pursuant to Agreement, $3,000,000 of the Financing
was used to cover the Company’s purchase of a portfolio of U.S. and foreign LED patents and a license from Intellectual
Discovery Co., Ltd., a Korean company (collectively, the “LED Patent Portfolio”), resulting in a basis in these assets
of $0. A total of $6,000,000 of the Financing was directed by BKI to attorneys to cover anticipated attorneys’ fees and
out-of-pocket expenses for legal proceedings that may transpire relating to enforcement of the LED Patent Portfolio. This amount
is not included in the Company’s financial statements as the Company has no control over these funds, which are segregated
and escrowed in the attorneys’ trust account.
In
addition, on November 14, 2106, the Company received $4,500,000 of the Financing, which was required to be used by the Company
to pay for the defense of
Inter Partes Review
or other similar proceedings that may be filed from time to time by defendants
with the U.S. Patent & Trademark Office relating to the LED Patent Portfolio, with excess amounts available for general working
capital needs. As of September 30, 2017, an aggregate of approximately $3,687,000 is recorded as other liabilities by the Company,
of which approximately $2,062,500 is classified as short-term. Of this amount, the Company allocated $2,500,000 which it subsequently
adjusted to $1,500,000 for the payment of estimated future
Inter Partes Review
costs. The Company will reduce this liability
as it pays legal and other expenses related to the
Inter Partes Review
matters involving the LED Patent Portfolio as incurred.
The remaining $2,217,000 in other liabilities is allocated to working capital, which the Company is amortizing this amount on
a pro-rata basis over the expected remaining life of the monetization period of the LED Patent Portfolio through November 31,
2019. For this amount, the Company reduced the liability with an offset to selling, general and administrative costs by $47,500
per month from January 2017 through July 2017 and $80,000 per month in August and September of 2017. During the nine months ended
September 30, 2017, there was $30,000 of
Inter Partes Review
costs and an aggregate of $492,500 was recorded as a reduction
of the liability allocated to working capital.
On
July 8, 2013, the Company’s subsidiary, DSS Technology Management, purchased two patents for $500,000 covering certain methods
and processes related to Bluetooth devices. In conjunction with the patent purchases, DSS Technology Management entered into a
Proceed Right Agreement with certain investors pursuant to which DSS Technology Management initially received $250,000 of a total
of $750,000 which it will ultimately receive thereunder, subject to certain payment milestones, in exchange for 40% of the proceeds
which it receives, if any, from the use, sale or licensing of the two patents. As of September 30, 2017, the Company had received
an aggregate of $650,000 from the investors pursuant to the agreement of which approximately $435,000 was in current liabilities
in the consolidated balance sheets ($467,000 as December 31, 2016). The Company will reduce the liability as it pays legal and
other expenses related to its litigation involving the Bluetooth patents, for which the amount is available to be used for 50%
of all such expenses.
As
described in Note 5, On February 13, 2014, the Company’s subsidiary, DSSTM entered into an Investment Agreement with Fortress
pursuant to which DSSTM contracted to receive a series of advances up to $4,500,000. Under the terms of the Agreement, on the
Effective Date, DSSTM issued and sold a promissory note in the amount of $1,791,000, fixed return equity interests in the amount
of $199,000, and contingent equity interests in the amount of $10,000. On March 27, 2014, DSSTM received an additional $1,000,000
under the Agreement comprised of a promissory note for $900,000 and fixed and contingent equity interests of $100,000. On September
5, 2014, DSSTM received the remaining $1,500,000 under the Agreement comprised of a promissory note for $1,350,000 and fixed and
contingent return interests of $150,000. The $459,000 of aggregate fixed and contingent equity interests received are recorded
in current liabilities. The Company will reduce the liability upon payment to the Investor from available proceeds from litigation,
or if none by the maturity date of February 13, 2018, then such amounts will be reversed from other current liabilities and recorded
as other income as of the maturity date.
7.
Commitments and Contingencies
On
November 26, 2013, DSS Technology Management filed suit against Apple, Inc. (“Apple”) in the United States District
Court for the Eastern District of Texas, for patent infringement (the “Apple Litigation”). The complaint alleges infringement
by Apple of DSS Technology Management’s patents that relate to systems and methods of using low power wireless peripheral
devices DSS Technology Management is seeking a judgment for infringement, injunctive relief, and compensatory damages from Apple.
On October 28, 2014, the case was stayed by the District Court pending a determination of Apple’s motion to transfer the
case to the Northern District of California. On November 7, 2014, Apple’s motion to transfer the case to the Northern District
of California was granted. On December 30, 2014, Apple filed two
Inter Partes Review
(“IPR”) petitions with
the Patent Trial and Appeal Board (“PTAB”) for review of the patents at issue in the case. The PTAB instituted the
IPRs on June 25, 2015. The California District Court then stayed the case pending the outcome of those IPR proceedings. Oral arguments
of the IPRs took place on March 15, 2016, and on June 17, 2016, PTAB ruled in favor of Apple on both IPR petitions. DSS Technology
Management has filed an appeal with the U.S. Court of Appeals for the Federal Circuit (the “Federal Circuit”) seeking
reversal of the PTAB decisions. Oral arguments for the appeal were held on August 9, 2017, and the appeal is still pending as
of the date of this Report. The patent assets underlying this matter had no carrying value as of the date of the PTAB decision
and therefore, there were no impairment considerations as a result of the decision.
On
February 16, 2015, DSS Technology Management filed suit in the United States District Court, Eastern District of Texas, against
defendants Intel Corporation, Dell, Inc., GameStop Corp., Conn’s Inc., Conn Appliances, Inc., NEC Corporation of America,
Wal-Mart Stores, Inc., Wal-Mart Stores Texas, LLC, and AT&T, Inc. The complaint alleges patent infringement and seeks judgment
for infringement of two of DSSTM’s patents, injunctive relief and money damages. On December 9, 2015, Intel filed IPR petitions
with PTAB for review of the patents at issue in the case. Intel’s IPRs were instituted by PTAB on June 8, 2016. On June
1, 2017, the PTAB ruled in favor of Intel for all the challenged claims. On July 28, 2017, DSS Technology Management filed a notice
of appeal of the PTAB’s decision relating to U.S. Patent 6,784,552 with the Federal Circuit. The Intel litigation has been
stayed by the District Court pending final determination of the IPR proceedings.
On
July 16, 2015, DSS Technology Management filed three separate lawsuits in the United States District Court for the Eastern District
of Texas alleging infringement of certain of its semiconductor patents. The defendants are SK Hynix
et al.,
Samsung Electronics
et al.,
and Qualcomm Incorporated. Each respective complaint alleges patent infringement and seeks judgment for infringement,
injunctive relief and money damages. On November 12, 2015, SK Hynix filed an IPR petition with PTAB for review of the patent at
issue in their case. SK Hynix’s IPR was instituted by the PTAB on May 11, 2016. On August 16, 2016, DSS Technology Management
and SK Hynix entered into a confidential settlement agreement ending the litigation between them. The pending SK Hynix IPR was
then terminated by mutual agreement of the parties on August 31, 2016. On March 18, 2016, Samsung also filed an IPR petition,
which was instituted by the PTAB. On September 20, 2017, PTAB ruled in favor of Samsung for all the challenged claims relating
to U.S. Patent 6,784,552. DSS Technology Management intends to appeal this PTAB ruling to the Federal Circuit Qualcomm filed its
IPR proceeding on July 1, 2016, which was then later joined with Intel’s IPRs in August 2016 by PTAB. On June 1, 2017, the
PTAB ruled in favor of Intel/Qualcomm for all the challenged claims. On July 28, 2017, DSS Technology Management filed a notice
of appeal of the PTAB’s decision relating to U.S. Patent 6,784,552 with the Federal Circuit. The appeal is still pending
as of the date of this Report.
On
April 13, 2017, Document Security Systems, Inc. (“DSS”) filed a patent infringement lawsuit against Seoul Semiconductor
Co., Ltd. and Seoul Semiconductor, Inc. (collectively, “Seoul Semiconductor”) in the United States District Court
for the Eastern District of Texas, Marshall Division, alleging infringement of certain of DSS’s Light-Emitting Diode (“LED”)
patents. DSS is seeking a judgement for infringement of the patents along with other relief including, but not limited to, money
damages, costs and disbursements. On June 7, 2017, DSS refiled its patent infringement complaint against Seoul Semiconductor in
the United States District Court for the Central District of California, Southern Division. The case is currently pending.
On
April 13, 2017, DSS filed a patent infringement lawsuit against Everlight Electronics Co., Ltd. and Everlight Americas, Inc. (collectively,
“Everlight”) in the United States District Court for the Eastern District of Texas, Marshall Division, alleging infringement
of certain of DSS’s LED patents. DSS is seeking a judgement for infringement of the patents along with other relief including,
but not limited to, money damages, costs and disbursements. On June 8, 2017, DSS refiled its patent infringement complaint against
Everlight in the United States District Court for the Central District of California. The case is currently pending.
On
April 13, 2017, DSS filed a patent infringement lawsuit against Cree, Inc. (“Cree”) in the United States District
Court for the Eastern District of Texas, Marshall Division, alleging infringement of certain of DSS’s LED patents. DSS is
seeking a judgement for infringement of the patents along with other relief including, but not limited to, money damages, costs
and disbursements. On June 8, 2017, DSS refiled its patent infringement complaint against Cree in the United States District Court
for the Central District of California, and thereafter filed a first amended complaint for patent infringement against Cree in
that same court on July 14, 2017. The case is currently pending.
On
July 13, 2017, DSS filed a patent infringement lawsuit against Osram GMBH, Osram OPTO Semiconductors GMBH & Co., and Osram
Sylvania Inc. (collectively, “Osram”) in the United States District Court for the Central District of California,
alleging infringement of certain of DSS’s LED patents. DSS is seeking a judgment for infringement of the patents along with
other relief including, but not limited to, money damages, costs and disbursements. The case is currently pending.
On
August 15, 2017, DSS filed a patent infringement lawsuit against Lite-On, Inc., and Lite-On Technology Corporation in the United
States District Court for the Central District of California, alleging infringement of certain of DSS’s LED patents. DSS
is seeking a judgement for infringement of the patents along with other relief including, but not limited to, money damages, costs
and disbursements. The case is currently pending.
In
addition to the foregoing, we may become subject to other legal proceedings that arise in the ordinary course of business and
have not been finally adjudicated. Adverse decisions in any of the foregoing may have a material adverse effect on our results
of operations, cash flows or our financial condition. The Company accrues for potential litigation losses when a loss is probable
and estimable.
Contingent
Litigation Payments
– The Company retains the services of professional service providers, including law firms that
specialize in intellectual property licensing, enforcement and patent law. These service providers are often retained on an hourly,
monthly, project, contingent or a blended fee basis. In contingency fee arrangements, a portion of the legal fee is based on predetermined
milestones or the Company’s actual collection of funds. The Company accrues contingent fees when it is probable that the
milestones will be achieved and the fees can be reasonably estimated. As of September 30, 2017, and December 31, 2016, the Company
had not accrued any contingent legal fees pursuant to these arrangements.
Contingent
Payments
– The Company is party to certain agreements with funding partners who have rights to portions of intellectual
property monetization proceeds that the Company receives. As of September 30, 2017 and December 31, 2016, there are no contingent
payments due.
8.
Shareholders’ Equity
On
August 26, 2016, the Company affected a one-for-four reverse stock split of the Company’s common stock. All references in
this report to the number of shares of our common stock and to related per-share prices (including references to periods prior
to the effective date of the reverse stock split) reflect this reverse stock split.
On
August 30, 2017, the Company sold 1,200,000 shares of unregistered common stock and five-year warrants to purchase up to an aggregate
of 240,000 additional shares of the Company’s common stock at an exercise price of $1.00 to a total of two related party
accredited investors for an aggregate purchase price of $900,000, of which $300,000 was receivable as of September 30, 2017. On
September 7, 2017, the Company sold 133,333 shares of unregistered common stock and five-year warrants to purchase up to an aggregate
of 26,667 additional shares of the Company’s common stock at an exercise price of $1.00 to two related party accredited
investors for an aggregate purchase price of $100,000. In conjunction with these transactions, the Company recorded $62,000 in
related costs for placement agent fees and stock listing fees. The warrants had an estimated aggregate fair value of approximately
$112,000 which was determined by utilizing the Black-Scholes-Merton option pricing model with a volatility of 89.3%, a risk free
rate of return of 1.7% and zero dividend and forfeiture estimates.
On
September 12, 2017, the Company and Hengfai Business Development Pte Ltd. (“HBD”) entered into a Securities Exchange
Agreement whereby the Company agreed to issue and sell to HBD 683,000 shares of its common stock, which had a market value on
that date of $484,930, in exchange for 21,196,552 ordinary shares and an existing three-year warrant to purchase up to 105,982,759
of common shares at an exercise price of SGD$0.040 per share of Singapore eDevelopment Limited (“SED”), a company
incorporated in Singapore and publicly-listed on the Singapore Exchange Limited. The SED shares and warrants were owned by HBD.
The cost of the investment was the fair value of the Company’s common stock issued in the transaction which was determined
to have the most readily determinable fair value. In conjunction with these transactions, the Company recorded $13,660 in stock
listing fees. As of September 30, 2017, and the investment is carried at cost of approximately $485,000.
During
September of 2017, the Company received an aggregate of approximately $176,000 in proceeds from the exercise of warrants for 234,091
shares of the Company’s common stock.
Restricted
Stock
- On January 12, 2017, the Company issued an aggregate of 200,000 shares of restricted stock to members of the Company’s
management team of which 150,000 vested on May 17, 2017 and had an aggregated grant date fair value of approximately $126,000.
The remaining 50,000 will vest if the Company achieves adjusted earnings before interest, taxes, depreciation and amortization
(EBITDA) of at least $500,000 and a stock trading price of at least $1.00 per share by the close of the fourth quarter of 2017.
In addition, during 2016 the Company issued an aggregate of 224,750 shares of restricted stock to members of the Company’s
management team which vested on May 17, 2017 and had an aggregated grant date fair value of approximately $124,000.
Stock-Based
Payments and Compensation -
The Company records stock-based payment expense related to options and warrants based on the
grant date fair value in accordance with FASB ASC 718. Stock-based compensation includes expense charges for all stock-based awards
to employees, directors and consultants. Such awards include option grants, warrant grants, and restricted stock awards. During
the nine months ended September 30, 2017, the Company had stock compensation expense of approximately $203,000 or $0.01 basic
and diluted earnings per share ($88,000; less than $0.01 basic and diluted earnings per share for the corresponding nine months
ended September 30, 2016).
9.
Supplemental Cash Flow Information
Supplemental
cash flow information for the nine months ended September 30, 2017 and 2016 is approximately as follows:
|
|
2017
|
|
|
2016
|
|
Cash
paid for interest
|
|
$
|
127,000
|
|
|
$
|
163,000
|
|
Non-cash
investing and financing activities:
|
|
|
|
|
|
|
|
|
Gain
(loss) from change in fair value of interest rate swap derivatives
|
|
|
10,000
|
|
|
$
|
(22,000
|
)
|
Common
Stock issued for investment
|
|
|
485,000
|
|
|
$
|
-
|
|
10.
Segment Information
The
Company’s businesses are organized, managed and internally reported as four operating segments. Two of these operating segments,
Packaging and Printing, and Plastics are engaged in the printing and production of paper, cardboard and plastic documents with
a wide range of features, including the Company’s patented technologies and trade secrets designed for the protection of
documents against unauthorized duplication and altering. The two other operating segments, DSS Digital Group and DSS Technology
Management, are engaged in various aspects of developing, acquiring, selling and licensing technology assets and are grouped into
one reportable segment called Technology.
Approximate
information concerning the Company’s operations by reportable segment for the three and nine months ended September 30,
2017 and 2016 is as follows. The Company relies on intersegment cooperation and management does not represent that these segments,
if operated independently, would report the results contained herein.
Three
Months Ended September 30, 2017
|
|
Packaging
and Printing
|
|
|
Plastics
|
|
|
Technology
|
|
|
Corporate
|
|
|
Total
|
|
Revenue
|
|
$
|
2,719,000
|
|
|
$
|
1,049,000
|
|
|
$
|
431,000
|
|
|
$
|
-
|
|
|
$
|
4,199,000
|
|
Depreciation
and amortization
|
|
|
169,000
|
|
|
|
30,000
|
|
|
|
152,000
|
|
|
|
1,000
|
|
|
|
352,000
|
|
Stock
based compensation
|
|
|
-
|
|
|
|
-
|
|
|
|
1,000
|
|
|
|
11,000
|
|
|
|
12,000
|
|
Net
Income (loss) to common shareholders
|
|
|
304,000
|
|
|
|
53,000
|
|
|
|
(397,000
|
)
|
|
|
(237,000
|
)
|
|
|
(277,000
|
)
|
Three
Months Ended September 30, 2016
|
|
Packaging
and Printing
|
|
|
Plastics
|
|
|
Technology
|
|
|
Corporate
|
|
|
Total
|
|
Revenue
|
|
$
|
3,287,000
|
|
|
$
|
1,162,000
|
|
|
$
|
531,000
|
|
|
$
|
-
|
|
|
$
|
4,980,000
|
|
Depreciation
and amortization
|
|
|
163,000
|
|
|
|
29,000
|
|
|
|
157,000
|
|
|
|
1,000
|
|
|
|
350,000
|
|
Stock
based compensation
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
1,000
|
|
|
|
1,000
|
|
Net
Income (loss) to common shareholders
|
|
|
415,000
|
|
|
|
134,000
|
|
|
|
(182,000
|
)
|
|
|
(394,000
|
)
|
|
|
(27,000
|
)
|
Nine
Months Ended September 30, 2017
|
|
Packaging
and Printing
|
|
|
Plastics
|
|
|
Technology
|
|
|
Corporate
|
|
|
Total
|
|
Revenue
|
|
$
|
8,122,000
|
|
|
$
|
3,431,000
|
|
|
$
|
1,276,000
|
|
|
$
|
-
|
|
|
$
|
12,829,000
|
|
Depreciation
and amortization
|
|
|
487,000
|
|
|
|
91,000
|
|
|
|
462,000
|
|
|
|
2,000
|
|
|
|
1,042,000
|
|
Stock
based compensation
|
|
|
-
|
|
|
|
-
|
|
|
|
38,000
|
|
|
|
165,000
|
|
|
|
203,000
|
|
Net
Income (loss) to common shareholders
|
|
|
812,000
|
|
|
|
372,000
|
|
|
|
(967,000
|
)
|
|
|
(943,000
|
)
|
|
|
(726,000
|
)
|
Identifiable
assets
|
|
|
9,143,000
|
|
|
|
2,450,000
|
|
|
|
1,642,000
|
|
|
|
4,200,000
|
|
|
|
17,435,000
|
|
Nine
Months Ended September 30, 2016
|
|
Packaging
and Printing
|
|
|
Plastics
|
|
|
Technology
|
|
|
Corporate
|
|
|
Total
|
|
Revenue
|
|
$
|
8,871,000
|
|
|
$
|
3,277,000
|
|
|
$
|
1,243,000
|
|
|
$
|
-
|
|
|
$
|
13,391,000
|
|
Depreciation
and amortization
|
|
|
469,000
|
|
|
|
86,000
|
|
|
|
492,000
|
|
|
|
2,000
|
|
|
|
1,049,000
|
|
Stock
based compensation
|
|
|
17,000
|
|
|
|
11,000
|
|
|
|
19,000
|
|
|
|
41,000
|
|
|
|
88,000
|
|
Net
Income (loss) to common shareholders
|
|
|
947,000
|
|
|
|
388,000
|
|
|
|
(1,242,000
|
)
|
|
|
(1,062,000
|
)
|
|
|
(969,000
|
)
|
Identifiable
assets
|
|
|
9,032,000
|
|
|
|
2,167,000
|
|
|
|
2,450,000
|
|
|
|
207,000
|
|
|
|
13,856,000
|
|
11.
Subsequent Events
On
November 1, 2017, the Company issued 500,000 shares of its common stock, and a three-year warrant to purchase up to 125,000 additional
shares of the Company’s common stock at an exercise price of $1.00 per share, along with a cash payment of $125,000, to
Nix, Patterson & Roach LLP (“NPR”), a law firm, for the purpose of settling all accrued and outstanding billed
and unbilled invoices for expenses owed by the Company to NPR in connection with various litigation matters handled by NPR on
behalf of the Company. The total amount owed to NPR for litigation related expenses was approximately $714,000.
ITEM
2 - MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FORWARD-LOOKING
STATEMENTS
Certain
statements contained herein constitute “forward-looking statements” within the meaning of the Private Securities Litigation
Reform Act of 1995 (the “1995 Reform Act”). Document Security Systems, Inc. desires to avail itself of certain “safe
harbor” provisions of the 1995 Reform Act and is therefore including this special note to enable us to do so. Except for
the historical information contained herein, this report contains forward-looking statements (identified by the words “estimate”,
“project”, “anticipate”, “plan”, “expect”, “intend”, “believe”,
“hope”, “strategy” and similar expressions), which are based on our current expectations and speak only
as of the date made. These forward-looking statements are subject to various risks, uncertainties and factors, as previously set
forth in the Risk Factors section of our Annual Report on Form 10-K for the year ended December 31, 2016 that could cause actual
results to differ materially from the results anticipated in the forward-looking statements.
Overview
Document
Security Systems, Inc. (referred to in this report as “Document Security Systems”, “DSS”, “we”,
“us”, “our” or “Company”) has strategically focused its core business efforts on developing
and selling anti-counterfeiting technologies and solutions. We emphasize fraud and counterfeit prevention for all forms of printed
documents and digital information. The Company holds numerous patents for optical deterrent technologies that provide protection
of printed information from unauthorized scanning and copying. We operate two production facilities, consisting of a combined
security printing and packaging facility and a plastic card facility where we produce secure and non-secure documents for our
customers. We license our anti-counterfeiting technologies to printers and brand-owners. In addition, we have a digital division
which provides cloud computing services for our customers, including disaster recovery, back-up and data security services. In
2013, the Company expanded its business focus by merging with DSS Technology Management, Inc., formerly known as Lexington Technology
Group, Inc., which acquires intellectual property assets and interests in companies owning intellectual property assets for the
purpose of monetizing these assets through a variety of value-enhancing initiatives, including, but not limited to, investments
in the development and commercialization of patented technologies, licensing, strategic partnerships and commercial litigation.
We
do business in four operating segments as follows:
DSS
Packaging and Printing Group
- Produces custom paperboard packaging serving clients in the pharmaceutical, beverage, photo
packaging, toy, specialty foods and direct marketing industries, among others. The group also provides secure and commercial printing
services for end-user customers along with technical support for our technology licensees. The division produces a wide array
of printed materials such as security paper, vital records, prescription paper, birth certificates, receipts, manuals, identification
materials, entertainment tickets, secure coupons, parts tracking forms, brochures, direct mailing pieces, catalogs, business cards,
etc. The division also provides resources and production equipment resources for our ongoing research and development of security
printing and related technologies.
DSS
Plastics Group
- Manufactures laminated and surface printed cards which can include magnetic stripes, bar codes, holograms,
signature panels, invisible ink, micro fine printing, guilloche patterns, biometric, radio frequency identification (RFID) and
watermarks for printed plastic documents such as ID cards, event badges, and driver’s licenses.
DSS
Digital Group
- Provides data center centric solutions to businesses and governments delivered via the “cloud”.
This division developed and markets AuthentiGuard, an iPhone based application system that integrates traditional printed optical
deterrent technologies with proprietary digital data security based solutions for brand protection and product diversion prevention.
DSS
Technology Management
- Acquires or internally develops patented technology or intellectual property assets (or interests
therein), with the purpose of monetizing these assets through a variety of value-enhancing initiatives, including, but not limited
to, investments in the development and commercialization of patented technologies, licensing, strategic partnerships and commercial
litigation. Since 2013, DSS Technology Management has been involved in several patent litigation lawsuits, and as of the date
of this filing, has active litigation against several companies, as summarized below.
On
November 26, 2013, DSS Technology Management filed suit against Apple, Inc. (“Apple”) in the United States District
Court for the Eastern District of Texas, for patent infringement (the “Apple Litigation”). The complaint alleges infringement
by Apple of DSS Technology Management’s patents that relate to systems and methods of using low power wireless peripheral
devices DSS Technology Management is seeking a judgment for infringement, injunctive relief, and compensatory damages from Apple.
On October 28, 2014, the case was stayed by the District Court pending a determination of Apple’s motion to transfer the
case to the Northern District of California. On November 7, 2014, Apple’s motion to transfer the case to the Northern District
of California was granted. On December 30, 2014, Apple filed two
Inter Partes Review
(“IPR”) petitions with
the Patent Trial and Appeal Board (“PTAB”) for review of the patents at issue in the case. The PTAB instituted the
IPRs on June 25, 2015. The California District Court then stayed the case pending the outcome of those IPR proceedings. Oral arguments
of the IPRs took place on March 15, 2016, and on June 17, 2016, PTAB ruled in favor of Apple on both IPR petitions. DSS Technology
Management has filed an appeal with the U.S. Court of Appeals for the Federal Circuit (the “Federal Circuit”) seeking
reversal of the PTAB decisions. Oral arguments for the appeal were held on August 9, 2017, and the appeal is still pending as
of the date of this Report. The patent assets underlying this matter had no carrying value as of the date of the PTAB decision
and therefore, there were no impairment considerations as a result of the decision.
On
February 16, 2015, DSS Technology Management filed suit in the United States District Court, Eastern District of Texas, against
defendants Intel Corporation, Dell, Inc., GameStop Corp., Conn’s Inc., Conn Appliances, Inc., NEC Corporation of America,
Wal-Mart Stores, Inc., Wal-Mart Stores Texas, LLC, and AT&T, Inc. The complaint alleges patent infringement and seeks judgment
for infringement of two of DSSTM’s patents, injunctive relief and money damages. On December 9, 2015, Intel filed IPR petitions
with PTAB for review of the patents at issue in the case. Intel’s IPRs were instituted by PTAB on June 8, 2016. On June
1, 2017, the PTAB ruled in favor of Intel for all the challenged claims. On July 28, 2017, DSS Technology Management filed a notice
of appeal of the PTAB’s decision relating to U.S. Patent 6,784,552 with the Federal Circuit. The Intel litigation has been
stayed by the District Court pending final determination of the IPR proceedings.
On
July 16, 2015, DSS Technology Management filed three separate lawsuits in the United States District Court for the Eastern District
of Texas alleging infringement of certain of its semiconductor patents. The defendants are SK Hynix
et al.,
Samsung Electronics
et al.,
and Qualcomm Incorporated. Each respective complaint alleges patent infringement and seeks judgment for infringement,
injunctive relief and money damages. On November 12, 2015, SK Hynix filed an IPR petition with PTAB for review of the patent at
issue in their case. SK Hynix’s IPR was instituted by the PTAB on May 11, 2016. On August 16, 2016, DSS Technology Management
and SK Hynix entered into a confidential settlement agreement ending the litigation between them. The pending SK Hynix IPR was
then terminated by mutual agreement of the parties on August 31, 2016. On March 18, 2016, Samsung also filed an IPR petition,
which was instituted by the PTAB. On September 20, 2017, PTAB ruled in favor of Samsung for all the challenged claims relating
to U.S. Patent 6,784,552. DSS Technology Management intends to appeal this PTAB ruling to the Federal Circuit. Qualcomm filed
its IPR proceeding on July 1, 2016, which was then later joined with Intel’s IPRs in August 2016 by PTAB. On June 1, 2017,
the PTAB ruled in favor of Intel/Qualcomm for all the challenged claims. On July 28, 2017, DSS Technology Management filed a notice
of appeal of the PTAB’s decision relating to U.S. Patent 6,784,552 with the Federal Circuit. The appeal is still pending
as of the date of this Report.
In
April and July of 2017, Document Security Systems filed patent infringement lawsuits against various defendants relating to DSS’s
Light-Emitting Diode patents. Those cases were previously disclosed in the Company’s second quarter Report on Form 10-Q
In August of 2017, Document Security Systems filed another patent infringement suit relating to its Light-Emitting Diode patents,
the specifics of which are disclosed in this Report in Part II, Item 1 Legal Proceedings.
Results
of Operations for the Three and Nine Months Ended September 30, 2017 as compared to the Three and Nine Months Ended September
30, 2016
This
discussion should be read in conjunction with the financial statements and footnotes contained in this quarterly report and in
our Annual Report on Form 10-K for the year ended December 31, 2016.
Revenue
|
|
Three
Months Ended September 30, 2017
|
|
|
Three
Months Ended September 30, 2016
|
|
|
%
change
|
|
|
Nine
Months Ended September 30, 2017
|
|
|
Nine
Months Ended September 30, 2016
|
|
|
%
change
|
|
Revenue
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Printed
products
|
|
$
|
3,767,000
|
|
|
$
|
4,449,000
|
|
|
|
-15
|
%
|
|
$
|
11,553,000
|
|
|
$
|
12,148,000
|
|
|
|
-5
|
%
|
Technology
sales, services and licensing
|
|
|
432,000
|
|
|
|
531,000
|
|
|
|
-19
|
%
|
|
|
1,276,000
|
|
|
|
1,243,000
|
|
|
|
3
|
%
|
Total
revenue
|
|
$
|
4,199,000
|
|
|
$
|
4,980,000
|
|
|
|
-16
|
%
|
|
$
|
12,829,000
|
|
|
$
|
13,391,000
|
|
|
|
-4
|
%
|
For
the three months ended September 30, 2017, total revenue was approximately $4.2 million, a decrease of 16% from the corresponding
three months ended September 30, 2016. Revenues from the sale of printed products decreased 15% during the three months ended
September 30, 2017, as compared to the same period in 2016, primarily due to a decrease in orders from the Company’s largest
packaging customer. Technology sales, services and licensing revenue decreased 19% during the three months ended September 30,
2017 as compared to the same period in 2016, which primarily reflected the impact of a $150,000 one-time license the Company realized
in the 2016 period that did not occur in the 2017 period. Absent this item, this revenue category would have increased approximately
13% during the three months ended September 30, 2107 primarily due to an increase in revenue generated by the Company’s
AuthentiGuard product line.
For
the nine months ended September 30, 2017, total revenue was approximately $12.8 million, a decrease of 4% from the corresponding
nine months ended September 30, 2016. Revenues from the sale of printed products decreased 5% during the nine months ended September
30, 2017, as compared to the same period in 2016, primarily due to a decrease in orders from the Company’s largest packaging
customer. Technology sales, services and licensing revenue increased 3% during the nine months ended September 30, 2017 as compared
to the same period in 2016, which primarily reflected an increase in revenue generated by the Company’s AuthentiGuard product
line.
Costs
and expenses
|
|
Three
Months
Ended September 30,
2017
|
|
|
Three
Months
Ended September 30, 2016
|
|
|
%
change
|
|
|
Nine
Months Ended
September 30, 2017
|
|
|
Nine
Months Ended
September 30, 2016
|
|
|
%
change
|
|
Costs
and expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Costs
of goods sold, exclusive of depreciation and amortization
|
|
$
|
2,401,000
|
|
|
$
|
2,875,000
|
|
|
|
-16
|
%
|
|
$
|
7,380,000
|
|
|
$
|
7,816,000
|
|
|
|
-6
|
%
|
Sales,
general and administrative compensation
|
|
|
920,000
|
|
|
|
1,081,000
|
|
|
|
-15
|
%
|
|
|
2,761,000
|
|
|
|
3,082,000
|
|
|
|
-10
|
%
|
Depreciation
and amortization
|
|
|
352,000
|
|
|
|
349,000
|
|
|
|
1
|
%
|
|
|
1,042,000
|
|
|
|
1,049,000
|
|
|
|
-1
|
%
|
Professional
fees
|
|
|
198,000
|
|
|
|
162,000
|
|
|
|
22
|
%
|
|
|
556,000
|
|
|
|
704,000
|
|
|
|
-21
|
%
|
Stock
based compensation
|
|
|
12,000
|
|
|
|
2,000
|
|
|
|
500
|
%
|
|
|
203,000
|
|
|
|
88,000
|
|
|
|
131
|
%
|
Sales
and marketing
|
|
|
117,000
|
|
|
|
79,000
|
|
|
|
48
|
%
|
|
|
292,000
|
|
|
|
245,000
|
|
|
|
19
|
%
|
Rent
and utilities
|
|
|
167,000
|
|
|
|
164,000
|
|
|
|
2
|
%
|
|
|
462,000
|
|
|
|
449,000
|
|
|
|
3
|
%
|
Other
operating expenses
|
|
|
205,000
|
|
|
|
222,000
|
|
|
|
-8
|
%
|
|
|
561,000
|
|
|
|
695,000
|
|
|
|
-19
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
costs and expenses
|
|
$
|
4,372,000
|
|
|
$
|
4,934,000
|
|
|
|
-11
|
%
|
|
$
|
13,257,000
|
|
|
$
|
14,128,000
|
|
|
|
-6
|
%
|
Costs
of goods sold, exclusive of depreciation and amortization
includes all direct costs of printed products revenues, including
materials, direct labor, transportation and manufacturing facility costs. In addition, this category includes all direct costs
associated with technology sales, services and licensing including hardware and software that are resold, and fees paid to inventors
or others as a result of technology licenses or settlements, if any. Costs of goods sold decreased by 16% during the three months
ended September 30, 2017 as compared to the same period in 2016. The decrease on a percentage basis was offset by a 16% decrease
in revenues over the same period. For the nine months ended September 30, 2017, costs of goods sold decreased by 6%, which was
greater than the decrease in revenue on a percentage basis, for the same period which reflected the improving gross margin of
the Company’s sales mix as it sees a higher percentage of its sales derived from technology based products.
Sales,
general and administrative compensation
costs, excluding stock-based compensation, decreased 15% and 10% during the three
and nine months ended September 30, 2017, as compared to the same periods in 2016, primarily due to the impact of $207,500 of
compensation cost sharing amounts received by the Company in conjunction with an intellectual property monetization program management
arrangement the Company entered into in November of 2016 for which the Company received funds to offset certain of its compensation
expenses associated with the monetization program.
Professional
fees
increased 22% during the three months ended September 30, 2017, as compared to the same period in 2016. The increase
is primarily due to the addition of investor relations and sales and marketing consultants. For the nine months ended September
30, 2017, professional fees decreased by 21% as compared to the same period in 2016 as a result of a significant reduction in
legal fees incurred by the Company.
Stock-based
compensation
includes expense charges for all stock-based awards to employees, directors and consultants. Such awards include
option grants, warrant grants, and restricted stock awards. Stock-based compensation increased 500% and 131%, respectively, during
the three and nine months ended September 30, 2017, as compared to the same periods in 2016, due to the costs of restricted stock
grants to certain management members during the fourth quarter of 2016 and the first quarter of 2017 that have vested during 2017.
Sales
and marketing
costs, which includes internet and trade publication advertising, travel and entertainment costs, sales-broker
commissions, and trade show participation expenses increased 48% and 19%, respectively, during the three and nine months ended
September 30, 2017 as compared to the three and nine months ended September 30, 2016, primarily due to increased travel and entertainment
costs related to the Company’s 2017 shareholders’ meeting.
Rent
and utilities
increased by 2% and 3%, respectively, during the three and nine months ended September 30, 2017, as compared
to the same periods in 2016, primarily due to increases in rent costs for the Company.
Other
operating expenses
consist primarily of equipment maintenance and repairs, office supplies, IT support, bad debt expense and
insurance costs. Other operating expenses decreased by 7% and 19%, respectively, during the three and nine months ended September
30, 2017, as compared to the same periods in 2016, primarily as the result of a decrease in insurance costs, office expenses and
the write-off of previously expensed customer related fees.
Other
Income and Expense
|
|
Three
Months
Ended September 30, 2017
|
|
|
Three
Months
Ended September 30, 2016
|
|
|
%
change
|
|
|
Nine
Months
Ended September 30, 2017
|
|
|
Nine
Months
Ended September 30,
2016
|
|
|
%
change
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
expense
|
|
$
|
(58,000
|
)
|
|
$
|
(68,000
|
)
|
|
|
-15
|
%
|
|
$
|
(171,000
|
)
|
|
$
|
(218,000
|
)
|
|
|
-22
|
%
|
Amortized
debt discount
|
|
|
(41,000
|
)
|
|
|
-
|
|
|
|
100
|
%
|
|
|
(113,000
|
)
|
|
|
-
|
|
|
|
100
|
%
|
Other
expense
|
|
$
|
(99,000
|
)
|
|
$
|
(68,000
|
)
|
|
|
46
|
%
|
|
$
|
(284,000
|
)
|
|
$
|
(218,000
|
)
|
|
|
30
|
%
|
Interest
expense
decreased 15% and 22%, respectively, during the three and nine months ended September 30, 2017, as compared to the
same periods in 2016, due to a decrease in the total debt carried by the Company in 2017 as compared to 2016. Amortized debt discount
amounts in 2017 are due to the commencement of debt discount amortization related to a funding agreement entered into by the Company
during the fourth quarter of 2016.
Net
Loss
|
|
Three
Months Ended September 30, 2017
|
|
|
Three
Months Ended September 30, 2016
|
|
|
%
change
|
|
|
Nine
Months Ended September 30, 2017
|
|
|
Nine
Months Ended September 30, 2016
|
|
|
%
change
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
loss
|
|
$
|
(277,000
|
)
|
|
$
|
(27,000
|
)
|
|
|
926
|
%
|
|
$
|
(726,000
|
)
|
|
$
|
(969,000
|
)
|
|
|
-25
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss
per common share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
and diluted
|
|
$
|
(0.02
|
)
|
|
$
|
(0.00
|
)
|
|
|
100
|
%
|
|
$
|
(0.05
|
)
|
|
$
|
(0.07
|
)
|
|
|
-29
|
%
|
For
the three months ended September 30, 2017, net loss was approximately $277,000, a 926% increase from a net loss of $27,000 during
the three months ended September 30, 2016. The increase in net loss is primarily due to the impact of significant decreases in
packaging sales. For the nine months ended September 30, 2017, net loss was approximately $726,000, a decrease of 25% from a net
loss of $969,000 in the nine months ended September 30, 2016. The decrease in net loss is primarily due to the combined impact
of increases in technology card sales and AuthentiGuard sales, in addition to an overall reduction in operating costs.
LIQUIDITY
AND CAPITAL RESOURCES
As
of September 30, 2017, the Company had cash of approximately $4,223,000 and restricted cash of approximately $336,000. In addition,
the Company had $800,000 available to its packaging division under a revolving credit line. While the Company has a negative net
working capital of approximately $1.5 million as of September 30, 2017, approximately $3,612,000 of short-term debt and
$450,000 of short term other liabilities which are due in February 2018 can be settled by the Company by the transfer and assignment
of certain of the Company’s patent assets and therefore, will not require the use of the Company’s cash or other current
assets to settle. As of September 30, 2017, the Company believes that it has sufficient cash to meet its cash requirements for
at least the next 12 months from the filing date of this Report. In addition, the Company believes that it will have access, if
needed, to sources of capital from the sale of its equity securities and debt financings.
Operating
Cash Flow
– During the first nine months of 2017, the Company used approximately $1.4 million of cash for operations
as compared to the generation of cash by operation during the first nine months of 2016 of approximately $384,000. The significant
increase in operating cash use in 2017 was primarily due to the use of cash to pay-down accounts payable and accrued expenses,
an increase in net restricted cash of approximately $159,000 during 2017, and the build-up of inventory by the Company’s
packaging division in anticipation of sales in the fourth quarter of 2017.
Investing
Cash Flow
– During the first nine months of 2017, the Company expended approximately $438,000 on equipment for its packaging
and plastic card operations and approximately $5,000 for the prosecution of several patent applications. During the first nine
months of 2016, the Company expended approximately $193,000 on equipment for its packaging and plastic card operations and approximately
$73,000 for the prosecution of several patent applications. The Company also received $495,000 for the sale of certain of its
patent assets in conjunction with a settlement with a former litigant in one of the Company’s patent infringement suits.
Financing
Cash Flows
- During the first nine months of 2017, the Company made aggregate principal payments for long-term debt of approximately
$612,000, and received proceeds of approximately $783,000 from the sale of the Company’s common stock.
Off-Balance
Sheet Arrangements
We
do not have any off-balance sheet arrangements that have, or are reasonably likely to have, an effect on our financial condition,
financial statements, revenues or expenses.
Critical
Accounting Policies and Estimates
As
of September 30, 2017, our critical accounting policies and estimates have not changed materially from those set forth in our
Annual Report on Form 10-K for the year ended December 31, 2016.