Note 2. Management Plans - Capital Resources
The
Company reported net losses of $578,151 and $303,070 for the nine
months ended September 30, 2017 and 2016, respectively, and
stockholders’ deficiencies of $4,529,795 and $3,992,842 at
September 30, 2017 and December 31, 2016, respectively.
Accordingly, there is substantial doubt about the Company’s
ability to continue as a going concern.
Continue to Improve Operations and Capital Resources
The
Company's goal is to increase sales and generate cash flow from
operations on a consistent basis. The Company uses a formal
financial review and budgeting process as a tool for improvement
that has aided expense reduction and internal performance. The
Company’s business plans require improving the results of its
operations in future periods.
During
June and July 2017, the Company raised $32,000 of additional
working capital from related parties.
In July
2017, the Company completed a financing with an officer of the
Company to provide up to $100,000 of additional working capital. In
consideration for providing the financing, the Company granted the
officer a stock option for 400,000 shares of its common stock
exercisable at $.04 per share, which was the closing price of the
Company’s common stock on the grant date. Through September
30, 2017, the Company borrowed and has outstanding $60,000 under
this financing.
In
September 2017, the Company completed a financing with a related
party to provide up to $75,000 of additional working capital. See
Note 9. Financing Agreement.
On
September 30, 2016, the Company extended the scheduled maturity of
its $400,000 unsecured line of credit financing agreement (the
“LOC Agreement”) with a member of its board of
directors (“Board”) from December 31, 2017 to January
1, 2020. The Company also extended the maturity dates of notes
payable of $146,300 and $264,000 from January 1, 2017 to January 1,
2020.
In
August 2016, the Company amended its financing agreement with its
financial institution resulting in a reduction of its financing
rate and an increase in its advance rate. See Note 5
.
Sale of Certain Accounts
Receivable.
The
Company believes the capital resources available under its
factoring line of credit, cash from additional related party and
third-party loans and cash generated by improving the results of
its operations provide sources to fund its ongoing operations and
to support the internal growth of the Company. Although the Company
has no assurances, the Company believes that related parties, who
have previously provided working capital, and third parties will
continue to provide working capital loans on similar terms, as in
the past, as may be necessary to fund its on-going operations for
at least the next 12 months. If the Company experiences significant
growth in its sales, the Company believes that this may require it
to increase its financing line, finance additional accounts
receivable, or obtain additional working capital from other sources
to support its sales growth.
Note 3. Summary of Significant Accounting Policies
There
are several accounting policies that the Company believes are
significant to the presentation of its financial statements. These
policies require management to make complex or subjective judgments
about matters that are inherently uncertain. Note 3 to the
Company’s audited financial statements for the year ended
December 31, 2016 presents a summary of significant accounting
policies as included in the Company's Annual Report on Form 10-K as
filed with the SEC.
Reclassifications
- The Company reclassifies amounts in its
financial statements to comply with recently adopted accounting
pronouncements.
Fair Value of Financial Instruments
- The carrying amounts
reported in the balance sheets for cash, accounts receivable,
accounts payable, and accrued expenses approximate fair value
because of the immediate short-term maturity of these financial
instruments. The carrying value of notes payable and convertible
notes payable approximates the fair value based on rates currently
available from financial institutions and various
lenders.
Recent Accounting Pronouncements Not Yet Adopted -
In May
2014, the FASB issued Accounting Standards Update (ASU) No.
2014-09, Revenue from Contracts with Customers (Topic 606) which
provides new accounting guidance on revenue from contracts
with customers. The 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. The updated
guidance will replace most existing revenue recognition guidance in
U.S. GAAP when it becomes effective. This guidance is effective for
fiscal years and interim periods within those fiscal years
beginning after December 15, 2017 and will be required to be
applied retrospectively. Additional ASUs have been issued to amend
or clarify this ASU as follows:
●
ASU
No. 2016-12 “Revenue from Contracts with Customers (Topic
606): Narrow-Scope Improvements and Practical Expedients” was
issued in May 2016. ASU No. 2016-12 amends the new revenue
recognition standard to clarify the guidance on assessing
collectability, presenting sales taxes, measuring noncash
consideration, and certain transition matters.
●
ASU
No. 2016-10 “Revenue from Contracts with Customers (Topic
606): Identifying Performance Obligations and Licensing” was
issued in April 2016. ASU No. 2016-10 addresses implementation
issues identified by the FASB-International Accounting Standards
Board Joint Transition Resource Group for Revenue
Recognition.
●
ASU
No. 2016-08 “Revenue from Contracts with Customers (Topic
606) - Principal versus Agent Considerations (Reporting Revenue
Gross versus Net)” was issued in March
2016. ASU No. 2016-08 requires an entity to
determine whether the nature of its promise to provide goods or
services to a customer is performed in a principal or agent
capacity and to recognize revenue in a gross or net manner based on
its principal/agent designation.
The
Company does not believe this guidance will have a material effect
on the Company’s financial statements when
adopted.
In
February 2016, the FASB issued amended guidance for lease
arrangements to increase transparency and comparability by
providing additional information to users of financial statements
regarding an entity's leasing activities. The revised guidance
seeks to achieve this objective by requiring reporting entities to
recognize lease assets and lease liabilities on the balance sheet
for substantially all lease arrangements. The guidance, which is
required to be adopted in the first quarter of 2019, will be
applied on a modified retrospective basis beginning with the
earliest period presented. Early adoption is permitted. The Company
is evaluating the effect that this standard will have on its
financial statements and related disclosures.
Note 4. Sales and Cost of Sales
For
sales of third party software and project credits where the Company
does not have the performance obligation to deliver the software or
credits to the end user, the Company acts as an agent rather than a
principal. Accordingly, cost of such sales is recorded as a
reduction of sales and only the gross profit is included in sales
in the accompanying statements of operations. The Company generated
gross agent sales of $169,625 and $803,903 for the three and nine
months ended September 30, 2017 and $124,490 for the three and nine
months ended September 30, 2016. The related accounts receivables
and accounts payable are recorded on a gross basis in the
accompanying balance sheet at September 30, 2017.
Note 5. Sale of Certain Accounts Receivable
The
Company has available a financing line with a financial institution
(the Purchaser), which enables the Company to sell accounts
receivable to the Purchaser with full recourse against the Company.
Pursuant to the provisions of FASB ASC 860, the Company reflects
the transactions as a sale of assets and establishes an accounts
receivable from the Purchaser for the retained amount less the
costs and fees of the transaction and less any anticipated future
loss in the value of the retained asset.
Through
August 28, 2016, the retained amount was equal to 15% of the total
accounts receivable invoice sold to the Purchaser. The fee was
charged at prime plus 4% against the average daily outstanding
balance of funds advanced. On August 29, 2016, the Company amended
its financing agreement with the Purchaser. The retained amount was
revised to 10% of the total accounts receivable invoice sold to the
Purchaser. The fee is charged at prime plus 3.6% (effective rate of
7.85% at September 30, 2017) against the average daily outstanding
balance of funds advanced. The estimated future loss reserve for
each receivable included in the estimated value of the retained
asset is based on the payment history of the accounts receivable
customer and is included in the allowance for doubtful accounts, if
any. As collateral, the Company granted the Purchaser a first
priority interest in accounts receivable and a blanket lien, which
may be junior to other creditors, on all other assets.
The
financing line provides the Company the ability to finance up to
$2,000,000 of selected accounts receivable invoices, which includes
a sublimit for one of the Company’s customers of $1,500,000.
During the nine months ended September 30, 2017, the Company sold
$3,694,713 ($4,524,246 – September 30, 2016) of its accounts
receivable to the Purchaser. As of September 30, 2017, $381,000
($328,000 - December 31, 2016) of these receivables remained
outstanding. Additionally, as of September 30, 2017, the Company
had approximately $104,000 available under the financing line with
the financial institution ($143,000 – December 31, 2016).
After deducting estimated fees, allowance for bad debts and
advances from the Purchaser, the net receivable from the Purchaser
amounted to $38,099, at September 30, 2017 ($31,462 –
December 31, 2016), and is included in accounts receivable in the
accompanying balance sheets.
There
were no gains or losses on the sale of the accounts receivable
because all were collected. The cost associated with the financing
line totaled $35,944 for the nine months ended September 30, 2017
($53,063 - September 30, 2016) and $12,196 for the three months
ended September 30, 2017 ($14,502 - September 30, 2016). These
financing line fees are classified on the statements of operations
as interest expense.
Note 6. Earnings Per Share
Basic
earnings per share is based on the weighted average number of
common shares outstanding during the periods presented. Diluted
earnings per share is based on the weighted average number of
common shares outstanding, as well as dilutive potential common
shares which, in the Company’s case, comprise shares issuable
under convertible notes payable and stock options. The treasury
stock method is used to calculate dilutive shares, which reduces
the gross number of dilutive shares by the number of shares
purchasable from the proceeds of the options and warrants assumed
to be exercised. 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.
The following table sets forth the computation of basic and diluted
net loss per share.
|
|
Three
months ended September 30,
|
Nine
months ended September 30,
|
|
|
2017
|
2016
|
2017
|
2016
|
|
Numerator
for basic and diluted net loss per share:
|
|
|
|
|
|
Net
loss
|
$
(188,000
)
|
$
(83,342
)
|
$
(578,151
)
|
$
(303,070
)
|
|
Denominator
for basic and diluted net loss per share:
|
|
|
|
|
|
Weighted
average common shares outstanding
|
29,105,361
|
29,061,883
|
29,076,535
|
28,127,817
|
|
Basic
and diluted net loss per share
|
$
(.01
)
|
$
.00
|
$
(.02
)
|
$
(.01
)
|
|
|
|
|
|
|
|
Anti-dilutive
shares excluded from net loss per share
|
28,033,096
|
28,829,443
|
28,033,096
|
28,829,443
|
Certain common shares issuable under stock options and convertible
notes payable have been omitted from the diluted net loss per share
calculation because their inclusion is considered anti-dilutive
because the exercise prices were greater than the average market
price of the common shares or their inclusion would have been
anti-dilutive.
Note 7. Software Purchase
On
February 6, 2015, the Company purchased all rights to cyber
security network vulnerability assessment reporting software (the
“Software”). Under the purchase agreement, the Company
agreed to pay the Seller the base purchase price of $180,000, of
which $100,000 was paid in cash at the closing and the remaining
$80,000 of which was paid by delivery at the closing of the
Company’s secured promissory note. As security for its
obligations under the promissory note, the Company granted the
Seller a security interest in the Software. After April 7, 2015,
the note accrues interest at 10% per annum. The remaining balance
of $20,000 was payable on the note on September 30, 2016 but was
not paid then although the balance was subsequently reduced during
2016 by $7,500. To date, the Seller has not taken any action to
collect the amount past due on the note or to enforce the security
interest in the Software. At September 30, 2017, the total
principal amount payable under the note is $12,500 with accrued
interest payable of $8,150 ($7,215 at December 31, 2016). The asset
cost of $180,000 is amortized over its estimated useful life. The
remaining balance at September 30, 2017 is $26,250 ($105,000 at
December 31, 2016) which will be fully amortized by December 31,
2017.
Note 8. Notes Payable - Related Parties
The
balance of the note payable to a member of the Company’s
board of directors was $382,715 at September 30, 2017 ($386,065 at
December 31, 2016).
Principal and
interest are paid monthly using an amortization schedule requiring
annual principal payments of $8,000 with all remaining outstanding
amounts due on January 1, 2020. The current portion of $10,680 is
offset by the current portion of deferred financing costs of
$4,327. The effective rate of interest was 7.10% at September 30,
2017.
On June 29, 2017, the Company borrowed $20,000 under
the terms of a 6% unsecured demand note from this board
member.
During
June and July 2017, the Company borrowed $12,000 under the terms of
6% unsecured demand notes from an executive officer.
On July
18, 2017, the Company entered into an unsecured line of credit
financing agreement (the “Agreement”) with its Chief
Operating Officer. The Agreement provides for working capital of up
to $100,000 through July 31, 2022. Borrowings bear interest at 6%.
The interest rate is adjusted annually, on January 1st of each
year, to a rate equal to the prime rate in effect on December 31st
of the immediately preceding year, plus one and one quarter
percent, and in no event, is the interest rate less than 6% per
annum. Interest is payable quarterly. As payment of an origination
fee under the Agreement, the Company granted a stock option to
purchase a total of 400,000 shares of the Company's common stock,
par value $.001 per share at $.04 per share valued at $9,960. Such
option became fully vested and exercisable on July 31, 2017.
Through September 30, 2017, the Company borrowed and has
outstanding $60,000 under the Agreement with proceeds used for
working capital.
A 7% note payable of $25,000 due to a related party matures on
March 31, 2018 and is classified as a current liability in the
accompanying balance sheet at September 30, 2017.
Note 9. Financing Agreement
On
September 21, 2017, the Company entered into an unsecured line of
credit financing agreement (the “LOC Note Agreement”)
with a related party. The LOC Note Agreement provides for working
capital of up to $75,000 through December 31, 2022. Borrowings bear
interest at 6%. In consideration for providing the financing, the
Company paid the lender a fee of 400,000 shares of its common stock
valued at $.04 per share valued or $16,000 in the aggregate, using
the closing price of the Company’s common stock on the date
the agreement was executed. No amount was borrowed through
September 30, 2017.
Note 10. Stock Option Plans and Agreements
The
Company has approved stock option plans and agreements covering up
to an aggregate of 8,209,000 shares of common stock. Plan options
may be designated at the time of grant as either incentive stock
options or nonqualified stock options. Stock based compensation
consists of charges for stock option awards to employees, directors
and consultants.
The
fair value of each option grant is estimated on the date of grant
using the Black-Scholes option-pricing model. The following
assumptions were used for the nine months ended September 30, 2017
and 2016.
|
|
2017
|
2016
|
|
|
|
|
|
Risk-free
interest rate
|
1.50% - 1.58%
|
.88% -
1.50%
|
|
Expected
dividend yield
|
0%
|
0%
|
|
Expected
stock price volatility
|
100%
|
100%
|
|
Expected
life of options
|
2.75 to 3.0 years
|
2.50 to
5.75 years
|
The
Company recorded expense for options issued to employees and
independent service providers of $15,294 and $23,364 for the three
months ended September 30, 2017 and 2016, respectively, and $25,198
and $31,301 for the nine months ended September 30, 2017 and 2016,
respectively.
At
September 30, 2017, there was approximately $7,300 of unrecognized
compensation cost related to non-vested options. This cost is
expected to be recognized over a weighted average period of
approximately two years. The total fair value of shares that vested
during the nine months ended September 30, 2017 was approximately
$29,000 ($233,000 during the nine months ended September 30, 2016).
The weighted average fair value of options granted during the nine
months ended September 30, 2017 was $.03 ($.02 during the nine
months ended September 30, 2016). No options were exercised during
the nine months ended September 30, 2017 and 2016.
A
summary of all stock option activity for the nine months ended
September 30, 2017 follows.
|
|
Number
of Options Outstanding
|
Weighted
Average Exercise Price
|
Remaining
Contractual Term
|
Aggregate
Intrinsic Value
|
|
Outstanding at
December 31, 2016
|
8,583,000
|
$
.12
|
|
|
|
Granted
|
680,000
|
$
.04
|
|
|
|
Expired
|
(169,500
)
|
$
.41
|
|
|
|
Forfeited
|
(1,462,500
)
|
$
.15
|
|
|
Outstanding at
September 30, 2017
|
7,631,000
|
$
.12
|
|
$
4,900
|
|
|
|
|
|
|
|
At September 30,
2017:
|
|
|
|
|
|
Vested or expected
to vest and exercisable
|
6,693,000
|
$
.08
|
|
$
4,900
|
Note 10. Related Party - Accrued Interest Payable
Included
in accrued interest payable is accrued interest payable to related
parties of $95,513 at September 30, 2017 ($81,347 - December 31,
2016).
************
Item
2.
Management’s Discussion and Analysis of
Financial Condition and Results of Operations
This
discussion contains forward-looking statements, the accuracy of
which involves risks and uncertainties. Our actual results could
differ materially from those anticipated in the forward-looking
statements for many reasons including, but not limited to, those
discussed under the heading “Forward Looking
Statements” above and elsewhere in this report. We disclaim
any obligation to update information contained in any
forward-looking statements.
The
following Management's Discussion and Analysis of Financial
Condition and Results of Operations should be read in conjunction
with our financial statements and the notes thereto appearing
elsewhere in this report.
Business
Headquartered
in Pittsford, New York, Infinite Group, Inc. is a provider of
managed IT and virtualization services and a developer and provider
of cybersecurity tools and solutions to private businesses and
government agencies. As part of these services we:
●
design, develop and
market solutions and products that solve and simplify network
cybersecurity needs of small and medium sized enterprises (SMEs),
government agencies, and certain large commercial enterprises. We
are a master distributor for Webroot, a cloud based security
platform solution, where we market to and provide support for over
350 reseller partners across North America;
●
provide level 2
Microsoft and Hewlett Packard server and software-based managed
services supporting enterprise customers through our partnership
with DXC Technology, formerly a unit of Hewlett Packard Enterprise
Company (HPE); and
●
are an Enterprise
Level sales and professional services partner with VMware selling
virtualization licenses and solutions, and providing virtualization
services support to commercial and government customers including
the New York State and Local Government and Education (SLED)
entities and the New York State Office of General Services (OGS).
These activities take place in our professional services
organization (PSO).
Business Strategy
Our
strategy is to build our business by designing, developing, and
marketing IT security based products and solutions that fill
technology gaps in cybersecurity. During 2016, we brought one
product, Nodeware™, to market. Nodeware™ is an
automated, continuous plug and play network vulnerability
management system that consists of hardware and software. It is
intended to fill a need in the SME market. It assesses
vulnerabilities in a computer network using scanning technology to
capture a comprehensive view of the security exposure of a network
and infrastructure. Nodeware™ is used to eliminate security
gaps for SMEs. We sell Nodeware™ in the commercial sector
through our current channel partners.
Our
cybersecurity services business provides services and technical
resources to support both our channel partners and end
customers.
Our goal is to
expand our VMware business in both the public and commercial sector
by building VMware license sales volume and services
concurrently.
We are working to
expand our managed services business with our current federal
enterprise customer. From time to time we are in various stages of
the proposal process with potential enterprise customers including
responding to requests for information, quotations, draft
statements of work, and pricing.
Results of Operations
Comparison of Three and Nine Month Periods ended September 30, 2017
and 2016
The
following tables compare our statements of operations data for the
three and nine months ended September 30, 2017 and 2016. The trends
suggested by this table are not indicative of future operating
results.
|
|
Three
Months Ended September 30,
|
|
|
|
|
|
|
2017
vs. 2016
|
|
|
|
As a
% of
|
|
As
a % of
|
Amount
of
|
%
Increase
|
|
|
2017
|
Sales
|
2016
|
Sales
|
Change
|
(Decrease)
|
|
|
|
|
|
|
|
|
|
Sales
|
$
1,586,278
|
100.0
%
|
$
1,727,750
|
100.0
%
|
$
(141,472
)
|
(8.2
)%
|
|
Cost of
sales
|
1,133,202
|
71.4
|
1,223,085
|
70.8
|
(89,883
)
|
(7.3
)
|
|
Gross
profit
|
453,076
|
28.6
|
504,665
|
29.2
|
(51,589
)
|
(10.2
)
|
|
General and
administrative
|
290,142
|
18.3
|
297,346
|
17.2
|
(7,204
)
|
(2.4
)
|
|
Selling
|
288,093
|
18.2
|
228,590
|
13.2
|
59,503
|
26.0
|
|
Total costs and
expenses
|
578,235
|
36.5
|
525,936
|
30.4
|
52,299
|
9.9
|
|
Operating
loss
|
(125,159
)
|
(7.9
)
|
(21,271
)
|
(1.2
)
|
103,888
|
488.4
|
|
Interest
expense
|
(62,841
)
|
(4.0
)
|
(62,071
)
|
(3.6
)
|
770
|
1.2
|
|
Net
loss
|
$
(188,000
)
|
(11.9
)%
|
$
(83,342
)
|
(4.8
)%
|
$
(104,658
)
|
125.6
%
|
|
Net loss per share
- basic and diluted
|
$
(.01
)
|
|
$
.00
|
|
$
(.01
)
|
|
|
|
Nine
Months Ended September 30,
|
|
|
|
|
|
|
2017
vs. 2016
|
|
|
|
As a
% of
|
|
As
a % of
|
Amount
of
|
%
Increase
|
|
|
2017
|
Sales
|
2016
|
Sales
|
Change
|
(Decrease)
|
|
|
|
|
|
|
|
|
|
Sales
|
$
4,799,434
|
100.0
%
|
$
5,391,001
|
100.0
%
|
$
(591,567
)
|
(11.0
)%
|
|
Cost of
sales
|
3,395,436
|
70.7
|
3,912,730
|
72.6
|
(517,294
)
|
(13.2
)
|
|
Gross
profit
|
1,403,998
|
29.3
|
1,478,271
|
27.4
|
(74,273
)
|
(5.0
)
|
|
General and
administrative
|
867,097
|
18.1
|
947,978
|
17.6
|
(80,881
)
|
(8.5
)
|
|
Selling
|
931,840
|
19.4
|
645,232
|
12.0
|
286,608
|
44.4
|
|
Total costs and
expenses
|
1,798,937
|
37.5
|
1,593,210
|
29.6
|
205,727
|
12.9
|
|
Operating
loss
|
(394,939
)
|
(8.2
)
|
(114,939
)
|
(2.1
)
|
280,000
|
243.6
|
|
Interest
expense
|
(183,212
)
|
(3.8
)
|
(188,131
)
|
(3.5
)
|
(4,919
)
|
(2.6
)
|
|
Net
loss
|
$
(578,151
)
|
(12.0
)%
|
$
(303,070
)
|
(5.6
)%
|
$
(275,081
)
|
90.8
%
|
|
Net loss per share
- basic and diluted
|
$
(.02
)
|
|
$
(.01
)
|
|
$
(.01
)
|
|
Sales
For the
three months ended September 30, 2017 and 2016, respectively,
our:
●
managed service and
virtualization project sales comprised approximately 77% and 86% of
our total sales; and
●
commercial sales to
small and medium sized enterprises (SMEs) have grown to
approximately 18% of our total sales from 13%.
For the
nine months ended September 30, 2017 and 2016, respectively,
our:
●
managed service and
virtualization project sales comprised approximately 78% and 87% of
our total sales; and
●
commercial sales to
SMEs have grown to approximately 17% from 11%.
In
addition, we generated gross agent sales of VMware licenses and
project credits of $169,625 and $803,903 for the three and nine
months ended September 30, 2017 compared to $124,490 for the three
and nine months ended September 30, 2016. Since we have determined
that we act as an agent and not as a principal in connection with
these sales, only the gross profit is included in
sales.
Sales
of virtualization subcontract projects have continued to decrease
since 2015 because VMware has continued to assign fewer projects to
us. Our virtualization subcontract project sales decrease of
approximately 68% from 2016 to 2017 was offset in part by sales
growth of approximately 39% from our commercial SME businesses
during the nine months ended September 30, 2017 as compared to
2016. Our goal is to expand our VMware business in both the public
and commercial sector by building VMware license sales volume and
services concurrently directly with customers rather than relying
on subcontract project services. Our commercial SME business
continues to establish new relationships with channel partners who
purchase IT solutions from us. We began to close sales of
Nodeware™ with our channel partners during 2017. In September
2017, we released a new and improved release of the Nodeware™
vulnerability management system with options for both virtual
machine and hardware deployment. We are focusing on increasing our
Nodeware™ sales through our network of channel
partners.
One of
our priorities is to increase sales. Since 2016, we have hired
additional commercial sales personnel to increase commercial sales
of Webroot in the SME market and Nodeware™ in the SME and
enterprise markets. Our investments in personnel began to generate
commercial SME operating income in 2016 continuing into
2017.
Cost
of Sales and Gross Profit
Cost of
sales principally represents the cost of employee services related
to our IT Services Group. We also incurred cost of sales for third
party software licenses for our commercial SME partners. As
virtualization project sales decreased, related personnel cost of
sales also decreased.
For the
three and nine months ended September 30, 2017, our gross profit
decreased by $51,589 and $74,273, respectively, as our sales
decreased during these periods. Our gross profit margin improved
from 27.4% to 29.3% for the nine month periods ended September 30,
2016 and 2017 principally due to the growth of our commercial SME
sales.
General
and Administrative Expenses
General
and administrative expenses include corporate overhead such as
compensation and benefits for executive, administrative and finance
personnel, rent, insurance, professional fees, travel, and office
expenses. For the nine months ended September 30, 2017, general and
administrative expenses decreased consisting of various expense
items including reductions in occupancy expenses, stock option
expenses of approximately $8,900, and our accounts receivable
allowance of $30,000.
Selling
Expenses
The
increase in selling expenses in 2017 is principally due to the
addition of employee salaries, benefits and payroll taxes totaling
approximately $62,900 and $273,300 for the three and nine months
ended September 30, 2017, respectively, as we launched
Nodeware™ and expanded our commercial SME marketing
efforts.
Operating
Loss
The
increase in our operating loss for 2017 is principally attributable
to an increase in operating expenses of $52,299 and $205,727 for
the three and nine months ended September 30, 2017, respectively,
as compared to 2016 and a decrease in our gross
profit.
Interest
Expense
The
decrease in interest expense for the nine months ended September
30, 2017 is principally attributable to a net decrease in financing
of our accounts receivable since the volume of our financings
decreased. This was partially offset by increased interest expense
associated with proceeds from working capital notes payable that
originated in 2016 and 2017.
Net
Loss
The
increase is attributable to the items discussed above for the three
and nine months ended September 30, 2017 as compared to
2016.
Liquidity and Capital Resources
At
September 30, 2017, we had cash of $14,102 available for working
capital needs and planned capital asset expenditures. During 2017,
we financed our business activities principally through cash flows
provided by operations and sales with recourse of our accounts
receivable. Our primary source of liquidity is cash provided by
collections of accounts receivable and our factoring line of
credit.
We
maintain an accounts receivable financing line of credit with an
independent financial institution that allows us to sell selected
accounts receivable invoices to the financial institution with full
recourse against us in the amount of $2,000,000, including a
sublimit for one major client of $1,500,000. This provides us with
the cash needed to finance certain of our on-going costs and
expenses. At September 30, 2017, we had financing availability,
based on eligible accounts receivable, of approximately $104,000
under this line. We pay fees based on the length of time that the
invoices remain unpaid.
On
December 1, 2014, we entered into an unsecured line of credit
financing agreement (the “LOC Agreement”) with a member
of our board of directors. The LOC Agreement provides for working
capital of up to $400,000 through January 1, 2020. At September 30,
2017, we had $17,285 of availability under the LOC Agreement. On
June 29, 2017, we borrowed $20,000 under the terms of a demand note
from this board member.
In
addition, during June and July 2017, we borrowed $12,000 under the
terms of 6% unsecured demand notes from an executive
officer.
On July
18, 2017, we entered into an unsecured line of credit financing
agreement (the “Agreement”) with our Chief Operating
Officer. The Agreement provides for working capital of up to
$100,000 through July 31, 2022 with interest at 6%. Through
September 30, 2017, we borrowed and have outstanding $60,000 with
proceeds used for working capital.
In
September 2017, we completed a financing with a related party to
provide up to $75,000 of additional working capital. The agreement
provides for working capital of up to $75,000 through December 31,
2022. Borrowings bear interest at 6%. No amount was borrowed
through September 30, 2017.
At
September 30, 2017, we had a working capital deficit of
approximately $3,291,000 and a current ratio of .10. This increase
in the working capital deficit from $2,448,000 at December 31, 2016
is principally due to the scheduled maturities of notes payable due
to third parties of $440,000 in 2018, $25,000 due to a related
party on March 31, 2018 and increases in accrued expenses
payable.
At
September 30, 2017, we have current notes payable of $362,500 to
third parties, which includes convertible notes payable of
$290,000. Also included is $12,500 in principal amount of a note
payable due on September 30, 2016 but not paid. This note was
issued in payment of software we purchased in February 2015 and
secured by a security interest in the software. To date, the holder
has not taken any action to collect the amount past due on this
note or to enforce the security interest in the
software.
At
September 30, 2017, we have current maturities of long-term
obligations of $1,262,352 (which includes current portion long-term
debt – related parties of $6,353). Included in this balance
is approximately $816,000 due to the Pension Benefit Guaranty
Corporation (the PBGC) of which $570,000 is due to the PBGC in
accordance with the October 2011 Settlement Agreement. Payments are
contingent upon our earning free cash flow in excess of defined
amounts which vary by year. No amounts have been owed or paid on
this obligation through September 30, 2017. However, if no amounts
are obligated to be paid for 2017, we anticipate that we will write
off the balance when our agreement with the PBGC is satisfied and,
if so, realize a noncash gain at that time. If this occurs, this
will provide a contribution of $570,000 to our net income and
improve our working capital. Since we are not current with our
periodic payments to the PBGC, all principal on our note payable of
$246,000 was recorded as a current liability at September 30, 2017.
We have maturities of our long-term notes to third parties of
$265,000 due on January 1, 2018 and $175,000 due on August 31,
2018. We plan to renegotiate the terms of the notes payable, seek
funds to repay the notes or use a combination of both alternatives.
Previously, we have extended notes totaling $440,000 with these
lenders. We cannot provide assurance that we will be able to repay
current notes payable or obtain extensions of maturity dates for
long-term notes payable when they mature or that we will be able to
repay or otherwise refinance the notes at their scheduled
maturities.
Our
objective is to improve our working capital position through
profitable operations. We believe the capital resources available
under our factoring line of credit, cash from additional related
party loans and cash generated by improving the results of our
operations will be sufficient to fund our ongoing operations and to
support the internal growth we expect to achieve for at least the
next 12 months. However, if we do not improve the results of our
operations in future periods, we expect that additional working
capital will be required to fund our business. There is no
assurance that in the event we need additional funds that adequate
additional working capital will be available or, if available, will
be offered on acceptable terms.
We
anticipate financing growth from acquisitions of other businesses,
if any, and our longer-term internal growth through one or more of
the following sources: cash from collections of accounts
receivable; additional borrowing from third and related parties;
issuance of equity; use of our existing accounts receivable credit
facility; or a refinancing of our accounts receivable credit
facility.
The
following table sets forth our cash flow information for the
periods presented:
|
|
Nine
Months Ended September 30,
|
|
|
2017
|
2016
|
|
|
|
|
|
Net cash used by
operating activities
|
$
(105,597
)
|
$
(309,412
)
|
|
Net cash used by
investing activities
|
(5,608
)
|
(4,073
)
|
|
Net cash provided
by financing activities
|
82,871
|
331,855
|
|
Net (decrease)
increase in cash
|
$
(28,334
)
|
$
18,370
|
Cash
Flows Used by Operating Activities
Net
cash used by operations during the nine months ended September 30,
2017 was $105,597. Our operating cash flow is primarily affected by
the overall profitability of our contracts and sales, our ability
to invoice and collect from our clients in a timely manner, and our
ability to manage our vendor payments. We bill our clients weekly
or monthly after services are performed, depending on the contract
terms. Our cash used by operating activities in 2017 included our
net loss of $578,151 for the nine months ended September 30, 2017.
Our net loss was offset in part by non-cash expense items of
$132,107, an increase in accounts receivable of $62,138, and an
increase in accounts payable of $245,339. In addition, accrued
expenses payable increased by $177,138 due to increases in accrued
payroll due to the routine timing of payroll disbursements after
September 30, 2017 and accrued interest payable.
We
continue to employ sales personnel to increase commercial
Nodeware™ and commercial SME sales. Our investments in
personnel began to generate commercial SME operating income in 2016
continuing into 2017. Due to the lengthy lead times needed to
generate new Nodeware™ sales, we do not expect to realize a
return from new sales personnel for one or more quarters. As a
result, we may experience net losses from certain investments in
personnel until sufficient sales are generated. We expect to fund
the costs for sales personnel from our operating cash flows and
incremental borrowings, as needed.
Cash
Flows Used by Investing Activities
Cash
used by investing activities was $5,608 for computer hardware and
software during the nine months ended September 30, 2017. We expect
to continue to invest in computer hardware and software to update
our technology to support our business but do not anticipate
significant expenditures on an annual basis at our current level of
operations.
Cash
Flows Provided by Financing Activities
Cash
provided by financing activities was $82,871 for the nine months
ended September 30, 2017 consisting of new loans from related
parties of $92,000 offset by principal payments of $3,350 to
related parties and $5,779 on other notes payable.