Notes to Consolidated Financial Statements
(Unaudited)
Note 1. Basis of Presentation
The accompanying unaudited consolidated financial statements
have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”)
for interim financial information. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP
for complete financial statements. In the opinion of management, such statements include all adjustments (consisting only of normal
recurring items) which are considered necessary for fair presentation of the consolidated financial statements of JetPay Corporation
and its subsidiaries (collectively, the “Company” or “JetPay”) as of March 31, 2018. The results of operations
for the three months ended March 31, 2018 and 2017 are not necessarily indicative of the operating results for the full year. It
is recommended that these consolidated financial statements be read in conjunction with the consolidated financial statements and
related disclosures for the year ended December 31, 2017 included in the Company’s Annual Report on Form 10-K filed with
the Securities and Exchange Commission (the “SEC”) on March 28, 2018.
Note 2. Business Operations and Liquidity
The Company currently operates in two business segments: (i)
the Payment Services Segment and (ii) the HR & Payroll Services Segment. The Payment Services Segment is an end-to-end processor
of credit and debit card and automated clearing house payment transactions that focuses on processing omni-channel (internet, mobile,
and point-of-sale) transactions and recurring billings for traditional retailers, government and utility, and service providers.
The HR & Payroll Services Segment provides human capital management (“HCM”) services, including full-service payroll
and related payroll tax payment processing, time and attendance, HCM services, low-cost money management and payment services to
unbanked and underbanked employees through prepaid debit cards, and services under the Patient Protection and Affordable Care Act
(the “Affordable Care Act”).
The Company entered the payment processing and the payroll processing
businesses upon consummation of the acquisitions of JetPay Payment Services, TX, LLC (f/k/a JetPay, LLC) (“JetPay Payments,
TX”) and JetPay HR & Payroll Services, Inc. (f/k/a A. D. Computer Corporation) (“JetPay HR & Payroll Services”)
on December 28, 2012. Additionally, on November 7, 2014, the Company acquired JetPay Payment Services, PA, LLC (f/k/a ACI Merchant
Systems, LLC) (“JetPay Payments, PA”), an independent sales organization specializing in relationships with banks,
credit unions and other financial institutions.
On June 2, 2016, the Company acquired JetPay Payment Services,
FL, LLC (f/k/a CollectorSolutions, Inc.) (“JetPay Payments, FL”), a payment processor specializing in the processing
of payments in the government and utilities channels.
The Company expects to fund its operating cash needs for
the next fifteen months, including debt service requirements, capital expenditures and possible future acquisitions, with
cash flow from its operating activities, sales of equity securities, including the recent sale of preferred stock, and
current and future borrowings. The Company believes that the investments made in its technology, infrastructure, and sales
staff will help generate cash flows in the future sufficient to cover its working capital needs. As discussed below, the
Company is currently exploring a variety of options with respect to the potential redemption of up to $24.3 million of shares
of Series A and Series A-1 Preferred by Flexpoint and Wellington beginning on or after October 11, 2018.
In the past, the Company has been successful in obtaining loans
and selling its equity securities. To fund the Company’s current debt service needs, satisfy the potential redemption of
shares of preferred stock, expand its technology platforms for new business initiatives, and pursue possible future acquisitions,
the Company may need to raise additional capital through loans or additional sales of equity securities. The Company continues
to investigate the capital markets for sources of funding, which could take the form of additional debt, the restructuring of our
current debt, or additional equity financing. The Company cannot provide any assurance that it will be successful in securing new
financing or restructuring its current debt or that it will secure such future financing with commercially acceptable terms. If
the Company is unable to raise additional capital, it may need to delay certain technology capital improvements, limit its planned
level of capital expenditures and future growth plans, or explore other alternatives, including the possible disposal of operating
assets to generate cash to sustain operations and fund ongoing capital investments.
As disclosed in
Note 8. Redeemable Convertible Preferred
Stock
, between October 11, 2013 and August 9, 2016, the Company sold 99,666 shares of Series A Convertible Preferred Stock,
par value $0.001 per share (“Series A Preferred”), to Flexpoint Fund II, L.P. (“Flexpoint”) for an aggregate
of $29.9 million, less certain costs. Additionally, on October 18, 2016, the Company sold 33,667 shares of Series A Preferred to
Sundara Investment Partners, LLC (“Sundara”) for $10.1 million, less certain costs. In connection with the sale of
shares of Series A Preferred to Sundara, the Company also entered into a Loan and Security Agreement with LHLJ, Inc., an affiliate
of Sundara, for a term loan in the principal amount of $9.5 million, with $5.175 million of the proceeds used to simultaneously
satisfy the remaining balances of a term loan and a revolving credit note payable to First National Bank of Pennsylvania. See
Note
7. Long-Term Debt, Notes Payable and Capital Lease Obligations
. These transactions provided approximately $14.0 million of
net working capital, which the Company has used for general working capital purposes, the payment of debt and for future capital
needs, including a portion of the cost of potential future acquisitions. Finally, between May 5, 2014 and April 13, 2017, the Company
sold 9,000 shares of Series A-1 Convertible Preferred Stock, par value $0.001 per share (“Series A-1 Preferred”), to
an affiliate of Wellington Capital Management, LLP (“Wellington”) for an aggregate of $2.7 million.
The Company may from time to time determine that additional
investments are prudent to maintain and increase stockholder value. In addition to funding ongoing working capital needs, the Company’s
cash requirements for the next fifteen months ending June 30, 2019 include, but are not limited to, principal and interest payments
on long-term debt and capital lease obligations of approximately $5.2 million and estimated capital expenditures of $2.6 million
to $3.0 million, $1.3 million of which the Company expects to fund with existing available credit facilities.
Additionally, there are 133,333 shares of
the Company’s Series A Preferred and 9,000 shares of the Company’s Series A-1 Preferred outstanding, with
an aggregate redemption value of $85.4 million. On October 11, 2013, the Company issued the initial tranche of 33,333 shares
of Series A Preferred to Flexpoint for an aggregate value of $10.0 million. On April 14, 2014, the Company issued the
second tranche of 4,667 shares of Series A Preferred to Flexpoint for an aggregate value of $1.4 million and 2,565 shares of
Series A-1 Preferred to Wellington on April 14, 2014 for an aggregate value of $769,500. On or after October 11, 2018, the
fifth anniversary of the initial preferred shares issuance, the holders of the shares of Series A Preferred have the right to
require the Company to repurchase any or all of such shares of Series A Preferred at the contractual redemption price of $600
per share or up to approximately $20.0 million. Also, on or after April 14, 2019, the fifth anniversary of the second
preferred shares issuance, the holders of the Series A Preferred can require the Company to repurchase any or all of the
4,667 shares issued on April 11, 2014 at the contractual redemption price of $600 per share or up to approximately $2.8
million. Should the holders of the shares of the Series A Preferred exercise their redemption rights as described above, the
holders of the Series A-1 Preferred may also redeem a proportionate amount of their shares outstanding up to an aggregate
value of approximately $1.54 million. The Company is exploring alternative financing opportunities should the Series A
Preferred stockholders exercise their redemption rights, including exploring alternative equity or debt investors, or the
possible sale of operating assets to generate sufficient liquidity. The Company believes that certain of its assets have
sufficient value to meet this possible liquidity need and accordingly does not believe the potential liquidation event raises
substantial doubt about the Company’s ability to continue as a going concern.
Note 3. Business Acquisition
On June 2, 2016, JetPay completed its acquisition of CollectorSolutions,
Inc. pursuant to the terms of the Agreement and Plan of Merger, dated February 22, 2016 (the “Merger Agreement”), by
and among JetPay, CSI Acquisition Sub One, LLC, CSI Acquisition Sub Two, LLC, CollectorSolutions, Inc. and Gene M. Valentino, in
his capacity as representative of the shareholders of CollectorSolutions, Inc. On October 21, 2016, the surviving entity of the
merger changed its name to JetPay Payment Services, FL, LLC. The acquisition of JetPay Payments, FL provided the Company with additional
expertise in selling debit and credit card processing services in the government and utilities channels through JetPay Payments,
FL’s highly configurable payment gateway; added incremental debit, credit, and e-check processing volumes; and provided a
base operation to sell the Company’s payroll, HCM, processing and prepaid card services to JetPay Payments, FL’s customer
base. The consolidated financial statements include the accounts of JetPay Payments, FL since the acquisition date, June 2, 2016.
As consideration for the acquisition, the Company initially
issued 3.25 million shares of its common stock to the stockholders of CollectorSolutions, Inc. and assumed approximately $1.0 million
of CollectorSolutions, Inc.’s indebtedness. The 3.25 million shares of common stock issued in connection with closing, valued
at $8.3 million at the date of acquisition, included: (i) 587,500 shares placed in escrow at closing as partial security for the
indemnification obligations of the stockholders of CollectorSolutions, Inc. (the “Escrowed Shares”) and (ii) 500,000
shares placed in escrow at closing which would be released or cancelled if JetPay Payments, FL achieves certain gross profit performance
targets in 2016 and 2017 (the “Earn-Out Shares”). In addition to the shares of its common stock issued at the date
of acquisition, the Company issued an additional 54,601 shares on December 30, 2016 to the former stockholders of CollectorSolutions,
Inc. in connection with a post-closing purchase price adjustment for working capital and debt levels as of the acquisition date
pursuant to the Merger Agreement. JetPay Payments, FL’s former stockholders may also be entitled to receive warrants to purchase
up to 500,000 shares of the Company’s common stock, each with a strike price of $4.00 per share and a 10-year term from its
date of issuance, contingent upon JetPay Payments, FL achieving certain gross profit performance targets in 2018 and 2019. This
contingent stock and warrant consideration, recorded as a liability, was valued at $1,975,000 at the date of acquisition utilizing
a Monte Carlo simulation model. The fair value of the contingent consideration was $1.4 million at March 31, 2018 (recorded within
non-current other liabilities). See
Note 4. Summary of Significant Accounting Policies.
Based upon the level of gross profit performance of JetPay Payments,
FL in 2016, on June 28, 2017, the Company released 250,000 Earn-Out Shares from escrow to the former shareholders of CollectorSolutions,
Inc. Based upon the level of gross profit performance in 2017, the Company anticipates releasing an additional 250,000 Earn-Out
Shares from escrow related to the 2017 earn-out provisions as per the Merger Agreement. In addition, pursuant to the Merger Agreement,
on June 28, 2017, the Company released 587,500 Escrowed Shares held for indemnification purposes from escrow to the former shareholders
of CollectorSolutions, Inc.
In addition, the Company granted to each former
stockholder of CollectorSolutions, Inc. a right to require the Company to repurchase up to 50% of the shares of common stock
issued in connection with the acquisition and continuously held by such stockholder for $4.00 per share if Flexpoint
exercises its right to redeem all of its shares of Series A Preferred. The Company accounts for its common stock subject to
possible redemption in accordance with the guidance in ASC Topic 480
“Distinguishing Liabilities from
Equity.”
Conditionally redeemable common stock (including common stock that features redemption rights that
are either within the control of the holder or subject to redemption upon the occurrence of uncertain events not solely
within the Company’s control) is classified as temporary equity. At all other times, common stock is classified as
stockholders’ deficit. The common stock issued to JetPay Payments, FL’s former shareholders features certain
redemption rights that are considered to be outside of the Company’s control and subject to the occurrence of uncertain
future events. Accordingly, at March 31, 2018, 50% of the estimated fair value of the common stock issued in connection with
the acquisition, or $3.52 million, is presented as temporary equity, outside of the stockholders’ deficit section of
the Consolidated Balance Sheet.
Note 4. Summary of Significant Accounting
Policies
Significant accounting policies are defined as those that are
reflective of significant judgments and uncertainties, and potentially result in materially different results under different assumptions
and conditions. The Company’s significant accounting policies are described below.
Use of Estimates, Presentation and Consolidation
The accompanying consolidated financial statements have been
prepared in accordance with U.S. GAAP and pursuant to the accounting and disclosure rules and regulations of the SEC. The preparation
of these financial statements requires the Company to make estimates and judgments that affect the reported amounts of assets and
liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities at the date of the Company’s
financial statements. Such estimates include, but are not limited to, the value of purchase consideration of acquisitions; estimates
of allowances and reserves against accounts receivable; reserves for chargebacks; goodwill; intangible assets and other long-lived
assets; legal contingencies; the fair value of equity instruments classified as liabilities; and assumptions used in the calculation
of stock-based compensation and in the calculation of income taxes. Actual results may differ from these estimates under different
assumptions or conditions. These consolidated financial statements include our accounts and those of our wholly-owned subsidiaries
and all intercompany balances and transactions have been eliminated in consolidation.
Recently Adopted Accounting Standards
In May 2014, the Financial Accounting Standards Board (“FASB”)
issued ASU 2014-09,
Revenue from Contracts with Customers (Topic 606)
(“ASU 2014-09”), which requires revenue
recognized to represent the transfer of promised goods or services to customers at an amount that reflects the consideration which
is expected to be received in exchange for those goods or services. ASU 2014-09 also includes Subtopic 340-40, which provides
guidance on other assets and deferred costs relating to contracts with customers, specifically costs an entity incurs to obtain
and fulfill a contract. The FASB subsequently issued several amendments to ASU 2014-09, including clarification on accounting
for licenses, identifying performance obligations, and principal versus agent considerations (gross versus net presentation), as
well as enhanced disclosure requirements about revenue and contract assets and liabilities. ASU 2014-09 was codified as Accounting
Standard Codification (“ASC”) 606,
Revenue from Contracts with Customers
, and ASC 340-40,
Other Assets
and Deferred Costs – Contracts with Customers
, (collectively, “ASC Topic 606”).
The Company adopted the requirements of ASC Topic 606 on January
1, 2018 using the full retrospective method, which required both the current and prior reporting periods to be presented under
the same methodology. Under this method, the March 31, 2017 and December 31, 2017 financial statements and related disclosures,
included herein, have been presented on an “As Adjusted” basis under ASC Topic 606, as opposed to what was previously
reported under ASC Topic 605,
Revenue Recognition
. The adoption resulted in a decrease to accumulated deficit as of
December 31, 2017 of $647,000. Included in this adjustment was an increase to accumulated deficit as of January 1, 2017 of
$374,000 for the cumulative effect of applying ASC Topic 606, offset by a decrease in net loss and net loss applicable to common
stockholders for the year ended December 31, 2017 of $1.0 million. This decrease in net loss for the year ended December
31, 2017 included an increase to net income of $848,000 for the three months ended March 31, 2017.
Impact on Previously Reported Results
The provisions of ASC Topic 606 had a material impact on the
timing and amount of revenues recognized by the Company. The most significant impact of adopting ASC Topic 606 is the
result of gross versus net presentation of certain fees in the Payment Services Segment. Under ASC Topic 606, the Company reflects
revenues net of certain fees that the Company pays to third parties, including interchange, which is earned by the cardholder’s
issuing bank, and dues and assessments, which are earned by the credit card associations. The Company previously reported certain
of these items as revenues and cost of revenues under previous standards. This change in presentation will have no effect on the
reported amount of operating income; however, the Company’s total revenues and cost of revenues for the three months ended
March 31, 2017 is each lower by $5.2 million.
The most significant impact of adopting ASC Topic 606 in the
HR & Payroll Services Segment relates to the timing of revenue recognized within the annual Form W-2, quarterly tax filing
and annual tax filing revenue streams. To comply with the new standard, the timing of revenue recognized has changed from when
delivery has occurred or services have been rendered to when a customer takes control of the good or service. This change in the
timing of revenue recognition resulted in an increase in revenues of $744,000 for the three months ended at March 31, 2017.
Additionally, ASC Topic 606 had an impact on the manner in which
we account for certain costs to obtain new contracts (i.e. commissions), which we had previously expensed as incurred in both operating
segments. Under ASC Topic 606, incremental direct costs of obtaining a contract, which primarily consist of sales commissions paid
to inside sales professionals, are deferred and recognized ratably over the three-year and ten-year estimated terms of our customer
relationships in the Payment Services and HR & Payroll Services Segments, respectively. The average terms of our customer relationships
will be tested for impairment annually and whenever an indicator of impairment exists. We include deferred commissions within other
non-current assets since the average life of the Company’s customer relationships is greater than one year. This change in
the timing of commission recognition results in a reduction of commission expenses of $148,000 for the three months ended March
31, 2017.
The following table presents a recast of selected unaudited
consolidated balance sheet line items after giving effect to the adoption of ASC Topic 606 (in thousands):
|
|
Year Ended December 31, 2017
|
|
|
|
As Previously
Reported
|
|
|
Adoption
Adjustments
|
|
|
As Adjusted
|
|
Assets
|
|
|
|
|
|
|
|
|
|
Deferred commissions (Other assets)
|
|
$
|
260
|
|
|
$
|
1,188
|
|
|
$
|
1,448
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred revenue
|
|
$
|
492
|
|
|
$
|
541
|
|
|
$
|
1,033
|
|
Stockholder’s Deficit
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated deficit
|
|
$
|
(31,692
|
)
|
|
$
|
647
|
|
|
$
|
(31,045
|
)
|
The following table presents a recast of selected unaudited
consolidated statement of operations line items after giving effect to the adoption of ASC Topic 606 (in thousands, except per
share amounts):
|
|
Three Months Ended March 31, 2017
|
|
|
|
As Previously
Reported
|
|
|
Adoption
Adjustments
|
|
|
As Adjusted
|
|
Revenues
|
|
$
|
18,942
|
|
|
$
|
(4,445
|
)
|
|
$
|
14,497
|
|
Cost of revenues
|
|
$
|
12,585
|
|
|
$
|
(5,145
|
)
|
|
$
|
7,440
|
|
Gross profit
|
|
$
|
6,357
|
|
|
$
|
700
|
|
|
$
|
7,057
|
|
Selling, general and administrative expenses
|
|
$
|
4,956
|
|
|
$
|
(148
|
)
|
|
$
|
4,808
|
|
Operating income
|
|
$
|
222
|
|
|
$
|
848
|
|
|
$
|
1,070
|
|
(Loss) income before income taxes
|
|
$
|
(105
|
)
|
|
$
|
848
|
|
|
$
|
743
|
|
Net (loss) income
|
|
$
|
(167
|
)
|
|
$
|
848
|
|
|
$
|
681
|
|
Net loss applicable to common stockholders
|
|
$
|
(2,290
|
)
|
|
$
|
848
|
|
|
$
|
(1,442
|
)
|
Basic and diluted loss per share applicable to common stockholders
|
|
$
|
(0.14
|
)
|
|
$
|
0.05
|
|
|
$
|
(0.09
|
)
|
The following table presents a recast of selected unaudited
consolidated statement of cash flow line items after giving effect to the adoption of ASC Topic 606 (in thousands):
|
|
Three Months Ended March 31, 2017
|
|
|
|
As Previously
Reported
|
|
|
Adoption
Adjustments
|
|
|
As Adjusted
|
|
Operating activities
|
|
|
|
|
|
|
|
|
|
|
|
|
Net (loss) income
|
|
$
|
(167
|
)
|
|
$
|
848
|
|
|
$
|
681
|
|
Change in operating assets and liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Other assets – deferred commissions
|
|
$
|
(217
|
)
|
|
$
|
(148
|
)
|
|
$
|
(365
|
)
|
Deferred revenue
|
|
$
|
(190
|
)
|
|
$
|
(744
|
)
|
|
$
|
(934
|
)
|
Accounts payable, accrued expenses and other liabilities
|
|
$
|
172
|
|
|
$
|
44
|
|
|
$
|
216
|
|
In August 2016, the FASB issued ASU 2016-15,
Statement
of Cash Flows: Clarification of Certain Cash Receipts and Cash Payments
, which eliminates the diversity in practice related
to classification of certain cash receipts and payments in the statement of cash flows, by adding or clarifying guidance on eight
specific cash flow issues. This new guidance will be effective for annual reporting periods beginning after December 15, 2017,
and interim periods within those fiscal years and early adoption is permitted, including adoption in an interim period. The Company
adopted this standard as of January 1, 2018 and it did not have a material impact on the Company’s consolidated financial
statements and disclosures.
In November 2016, the FASB issued ASU 2016-18,
Statement
of Cash Flows (Topic 230): Restricted Cash
, which provides guidance that will require that a statement of cash flows explain
the change during the period in the total of cash, cash equivalents, and amounts generally described as restricted cash or restricted
cash equivalents. As a result, amounts generally described as restricted cash and restricted cash equivalents should be included
with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement
of cash flows. This new guidance will be effective for annual reporting periods beginning after December 15, 2017, and interim
periods within those fiscal years and early adoption is permitted, including adoption in an interim period. The Company adopted
this new standard as of January 1, 2018 and has modified the presentation of $1.9 million of restricted cash in the Company’s
Consolidated Statement of Cash Flows.
In January 2017, the FASB issued ASU 2017-01,
Business Combinations
(Topic 805): Clarifying the Definition of a Business.
This ASU clarifies the definition of a business when evaluating
whether transactions should be accounted for as acquisitions (or disposals) of assets or businesses. This new guidance will
be effective for annual reporting periods beginning after December 15, 2017, including interim periods within those periods. The
Company adopted of this standard as of January 1, 2018 and it did not have a material impact on the Company’s consolidated
financial statements and disclosures.
In May 2017, the FASB issued ASU 2017-09,
Compensation-Stock
Compensation (Topic 718): Scope of Modification Accounting.
This ASU clarifies an entity’s ability to modify the
terms or conditions of a share-based payment award presented. An entity should account for the effects of a modification unless
all the following are met: the fair value of the modified award has not changed from the fair value on the date of issuance; the
vesting conditions of the modified award are the same as the vesting conditions of the original award immediately before the original
award is modified; and, the classification of the modified award as an equity instrument or a liability instrument is the same
as the classification of the original award immediately before the original award is modified. This new guidance will be effective
for annual reporting periods beginning after December 15, 2017, including interim periods within those periods. The Company adopted
this new standard as of January 1, 2018 and it did not have a material impact on the Company’s consolidated financial statements
and disclosures.
In March 2018, the FASB issued ASU 2018-05,
Income Taxes
(Topic 740)
. The ASU presents amendments to income taxes and income tax accounting implications of the Tax Cuts and Jobs Act
ASC 740-10-S99-2A
. The guidance in ASU No. 2018-05 is effective for fiscal years beginning after December 22, 2017, when
the Act was signed into law, including interim periods within those fiscal years. The Company adopted this new standard as of January
1, 2018 and it did not have a material impact on the Company’s consolidated financial statements.
Recent Accounting Standards
In February 2016, the FASB issued ASU 2016-02,
Leases (Topic
842)
. This ASU requires that a lessee recognize the assets and liabilities that arise from operating leases. A lessee should
recognize in the statement of financial position a liability to make lease payments (the lease liability) and a right-of-use asset
representing its right to use the underlying asset for the lease term. For leases with a term of 12 months or less, a lessee is
permitted to make an accounting policy election by class of underlying asset not to recognize lease assets and lease liabilities.
This new guidance will be effective for annual reporting periods beginning after December 15, 2018, including interim periods within
those annual reporting periods, and early adoption is permitted. In transition, lessees and lessors are required to recognize and
measure leases at the beginning of the earliest period presented using a modified retrospective approach. JetPay has not yet determined
the effect of the adoption of this standard on JetPay’s consolidated financial position and results of operations.
In January 2017, the FASB issued ASU 2017-04,
Intangibles—Goodwill
and Other (Topic 350)
. This ASU simplifies the subsequent measurement of goodwill by eliminating the second step of the goodwill
impairment test, which required computing the implied fair value of goodwill. Under the amendments in this update, an entity should
perform its annual, or interim, goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount.
An impairment charge should be recognized for the amount by which the carrying amount exceeds the reporting unit’s fair value;
however, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. This new guidance
will be effective January 1, 2020. The Company is currently evaluating the provisions of this guidance and assessing its impact
on the Company’s consolidated financial statements and disclosures.
In July 2017, the FASB issued ASU 2017-11,
Earnings Per Share
(Topic 260); Distinguishing Liabilities from Equity (Topic 480); Derivatives and Hedging (Topic 815): (Part I) Accounting for Certain
Financial Instruments with Down Round Features, (Part II) Replacement of the Indefinite Deferral for Mandatorily Redeemable Financial
Instruments of Certain Nonpublic Entities and Certain Mandatorily Redeemable Noncontrolling Interests with a Scope Exception
.
This ASU clarifies the recognition, measurement, and effect on earnings per share of certain freestanding equity-classified financial
instruments that include down round features affect entities that present earnings per share in accordance with the guidance in
Topic 260,
Earnings Per Share
. When determining whether certain financial instruments should be classified as liabilities
or equity instruments, a down round feature no longer precludes equity classification when assessing whether the instrument is
indexed to an entity’s own stock. The amendments also clarify existing disclosure requirements for equity-classified instruments.
This new guidance will be effective for annual reporting periods beginning after December 15, 2018, including interim periods within
those periods. The Company is currently evaluating the provisions of this guidance and assessing its impact on the Company’s
financial statements and disclosures.
Revenue Recognition and Contract Assets and Liabilities
The Company recognizes revenue when control
of the promised goods or services is transferred to its customers in an amount that reflects the consideration it expects to be
entitled for those goods or services. The Company currently operates and manages its business through two reportable segments,
the Payment Services Segment and the HR & Payroll Services Segment, which coincide with the types of services the Company provides
to its customers. The Company recognizes revenue for distinct performance obligations, wherein, a performance obligation is a promise
in a contract to transfer a distinct product or service to the customer and is the unit of account in ASC Topic 606.
Within each customer contract, transaction
prices are allocated to each distinct performance obligation based upon relative standalone selling price and then recognized as
revenue when, or as, the performance obligations are satisfied. The majority of the Company’s contracts have multiple performance
obligations primarily related to the various types of services the Company provides within its two reportable segments. For contracts
with multiple performance obligations, the Company allocates the contract’s transaction price to each performance obligation
using the best estimate of the standalone selling price for each distinct good or service in the contract.
Payment Services
Revenues from the Company’s credit and debit card processing
operations are recognized in the period services are rendered as the Company processes credit and debit card transactions for its
merchant customers or for merchant customers of its third party clients. Third party clients, or partners, include Independent
Sales Organizations (“ISOs”), Value Added Resellers (“VARs”), Independent Software Vendors (“ISVs”)
and financial institutions. The majority of the Company’s revenues within its credit and debit card processing business is
comprised of transaction-based fees, which typically constitute a percentage of dollar volume processed, and/or a fee per transaction
processed. In the case where the Company is only the processor of transactions, it charges transaction fees only and records these
fees as revenues. In the case of contracts pursuant to which the Company processes credit and debit card transactions for merchant
customers, revenues are primarily comprised of transaction fees charged to the merchant, as well as a percentage of the processed
sale transaction. The Company’s contracts in most instances involve three parties: the Company, the merchant, and the sponsoring
bank. With respect to many of the Company’s government and utility clients, as well as the Company’s JetX cash discount
product, the cardholder is charged either a convenience fee (government and utilities) or transaction fee (JetX), instead of the
merchant being charged for these fees. In all cases, the Company recognizes revenues net of interchange fees and assessments charged
by the credit card associations. Interchange fees and credit card association fees are not controlled by the Company. The Company
effectively functions as a clearing house collecting and remitting credit card association fees and interchange fee settlement
on behalf of issuing banks, debit networks, credit card associations and their processing customers.
The Company’s revenue streams within the Payment Services
Segment include Financial Institutions revenues, Government Agency & Utility revenues, and Partners & e-Commerce revenues.
Within the Payment Services Segment, the transaction price consists primarily of usage-based variable consideration, as the total
consideration to be received is based on the number of transactions and dollar volume that will be processed by the Company for
the merchant customer. The Company’s performance obligations in the Payment Services Segment are satisfied over time as customers
receive and obtain control of the payment processing service. The Company has elected to apply the practical expedient for measuring
progress towards the completion of a performance obligation and recognizes revenue as the Company has the right to invoice each
customer, which generally corresponds with the transactions processed on behalf of the merchant customers.
Additionally, the Company’s direct merchant customers
and certain third-party partners have the liability for any charges properly reversed by the cardholder. In the event, however,
the Company is not able to collect such amount from the merchants due to merchant fraud, insolvency, bankruptcy or any other reason,
it may be liable for any such reversed charges. The Company in some instances requires cash deposits, guarantees, letters of credit
and other types of collateral from certain merchants to minimize any such contingent liability, and it also utilizes a number of
systems and procedures to manage merchant risk.
HR & Payroll Services
Revenues from the Company’s JetPay HR & Payroll Services
operations are recognized in the period products or services are delivered under arrangements with clients where fees are fixed
or determinable and allocated to specific performance obligations. Certain processing services are provided under annual service
arrangements with revenue recognized when the service is delivered to the customer. All revenues are deferred until the allocated
performance obligation has been completed and control is transferred to the customer. The Company’s service revenues are
largely attributable to payroll-related processing services where the fees are based on a fixed amount per processing period or
a fixed amount per processing period plus a fee per employee or transaction processed. The revenues earned from delivery service
for the distribution of certain client payroll checks and reports is included in revenues, and the costs for delivery are included
in selling, general, and administrative expenses on the Consolidated Statements of Operations.
Within the HR & Payroll Services Segment,
the transaction price consists primarily of fixed consideration which is the price negotiated at contract inception for the services
to be provided. The Company’s performance obligations within the HR & Payroll Services Segment are satisfied at a point
in time or over time depending upon the delivery of the product or service and how control is transferred to the customer. Payroll
processing services are satisfied over time since the customer simultaneously receives and consumes the benefits as the Company
performs. The Company utilizes the as-invoiced practical expedient to recognize revenue as the Company is paid a fixed amount based
upon payroll processing frequency and the number of active employees paid during that payroll processing period. For all other
revenue streams within the HR & Payroll Services Segment, performance obligations are satisfied at a point in in time, which
is when the delivery of the service to the customer has occurred.
Interest on funds held for clients is earned primarily on funds
that are collected from clients before due dates for payroll tax administration services and for employee payment services, and
invested until remittance to the applicable tax or regulatory agencies or client employee. These collections from clients are typically
remitted between one (1) and thirty (30) days after receipt, with some items extending to ninety (90) days. The interest earned
on these funds is included in total revenues on the Consolidated Statements of Operations because the collecting, holding, and
remitting of these funds are critical components of providing these services.
Disaggregation of Revenues
The Company disaggregates revenue from contracts with customers
based upon the channel/industry of its customers. The Company determined that disaggregating revenues into these categories achieves
the disclosure objective to depict how the nature, amount, timing and uncertainty of revenue and cash flows are affected by economic
factors. A reconciliation of disaggregated revenues to segment revenues is provided in
Note 13. Segments.
Disaggregated Revenues
|
|
|
|
|
|
|
(in thousands):
|
|
March 31,
|
|
|
March 31,
|
|
|
|
2018
|
|
|
2017
|
|
HR & Payroll Revenues
|
|
$
|
5,441
|
|
|
$
|
5,382
|
|
Financial Institutions Revenues
|
|
|
1,695
|
|
|
|
1,765
|
|
Government Agency & Utility Revenues
|
|
|
2,906
|
|
|
|
2,504
|
|
Partners & e-Commerce Revenues
|
|
|
5,829
|
|
|
|
4,846
|
|
Total Revenues
|
|
$
|
15,871
|
|
|
$
|
14,497
|
|
Contract Assets and Liabilities
Deferred Revenue
The Company recognizes contract liabilities
in the form of deferred revenue in instances where a customer pays in advance of when they take control of the goods or services
to be performed by the Company. The Company receives payments from its customers based on standard terms and conditions.
Changes in deferred revenue were as follows (in thousands):
|
|
March 31,
|
|
|
March 31,
|
|
|
|
2018
|
|
|
2017
|
|
Balance, beginning of period
|
|
$
|
1,033
|
|
|
$
|
1,566
|
|
Deferral of revenue
|
|
|
707
|
|
|
|
632
|
|
Recognition of deferred revenue
|
|
|
(1,033
|
)
|
|
|
(1,566
|
)
|
Balance, end of period
|
|
$
|
707
|
|
|
$
|
632
|
|
Deferred Commissions
Our incremental direct costs of obtaining
a contract, which primarily consist of sales commissions paid to inside sales professionals, are deferred and recognized ratably
over the three-year and ten-year estimated terms of our customer relationships in the Payment Services and HR & Payroll Services
Segments, respectively. The average terms of our customer relationships will be tested for impairment annually and whenever an
indicator of impairment exists. We include deferred commissions within other non-current assets since the average life of the Company’s
customer relationships is greater than one year.
Changes in deferred commissions, presented in other non-current
assets, were as follows (in thousands):
|
|
March 31,
|
|
|
March 31,
|
|
|
|
2018
|
|
|
2017
|
|
Balance, beginning of period
|
|
$
|
1,188
|
|
|
$
|
647
|
|
Deferral of commissions
|
|
|
209
|
|
|
|
191
|
|
Amortization
|
|
|
(86
|
)
|
|
|
(43
|
)
|
Balance, end of period
|
|
$
|
1,311
|
|
|
$
|
795
|
|
Practical Expedients Elected
The Company has elected the following practical
expedients in applying ASC Topic 606 across all reportable segments:
As-Invoiced
Within the Payment Services Segment, the
Company bills a fixed fee and/or a percent of volume for each transaction processed. Within the HR & Payroll Services Segment,
the Company bills a fixed amount based on payroll processing frequency and the number of active employees paid during that payroll
processing period. In both segments, as the Company has a right to invoice the customer in the amount that corresponds directly
with the value of its performance completed to date, it will utilize the as invoiced practical expedient to recognize revenue.
Directly allocable variable consideration
to wholly unsatisfied performance obligations exemption
Within the Payment Services Segment, all
consideration in the contract is considered variable, and no amount is treated as fixed consideration. Furthermore, the Company
will recognize revenue over time using invoice as practical expedient. As such, it will not need to estimate and disclose the variable
consideration in the transaction price allocated to the performance obligation as stipulated under the exemption.
Reserve for Chargeback Losses
Disputes between a cardholder and a merchant periodically arise
as a result of, among other things, cardholder dissatisfaction with merchandise quality or merchant services. Such disputes may
not be resolved in the merchant’s favor. In these cases, the transaction is “charged back” to the merchant, which
means the purchase price is refunded to the customer through the merchant’s bank and charged to the merchant. If the merchant
has inadequate funds, the Company must bear the credit risk for the full amount of the transaction. The Company evaluates the risk
for such transactions and estimates the potential loss for chargebacks based primarily on historical experience and records a loss
reserve accordingly. The Company believes its reserve for chargeback losses is adequate to cover both the known probable losses
and the incurred but not yet reported losses at the balance sheet dates. Chargeback reserves totaling $292,000 and $413,000 were
recorded as of March 31, 2018 and December 31, 2017, respectively.
Fair Value of Financial Instruments
The carrying amounts of financial instruments, including cash,
restricted cash, settlement processing assets and liabilities, accounts receivable, funds held for clients, accounts payable and
client fund obligations, approximated fair value as of the balance sheet dates presented, because of the relatively short maturity
dates on these instruments. The carrying amounts of the financing arrangements approximate fair value as of the balance sheet dates
presented, because interest rates on these instruments approximate market interest rates after consideration of stated interest
rates, anti-dilution protection and associated warrants.
Concentration of Credit Risk
Financial instruments that potentially expose the Company to
concentration of credit risk consist primarily of cash, accounts receivable, settlement processing assets and funds held for clients.
The Company’s cash is deposited with major financial institutions. At times, such deposits may be in excess of the Federal
Deposit Insurance Corporation insurable amount.
Accounts Receivable
The Company’s accounts receivable are due from its merchant
credit card and its payroll customers. Credit is extended based on the evaluation of customers’ financial condition and,
generally, collateral is not required. Payment terms vary but are typically collected via automated clearing house payments originated
by us two (2) to three (3) days following month end. Amounts due from customers are stated in the financial statements net of an
allowance for doubtful accounts. Accounts which are outstanding longer than the payment terms are considered past due. The Company
determines its allowance by considering a number of factors, including the length of time trade accounts receivable are past due,
the Company’s previous loss history, the customer’s current ability to pay its obligation to the Company, and the condition
of the general economy and the industry as a whole. The Company writes off accounts receivable when they are deemed uncollectible.
Settlement Processing Assets and Funds and Obligations
Funds settlement refers to the process of transferring funds
for sales and credits between card issuers and merchants. Depending on the type of transaction, either the credit card interchange
system or the debit network is used to transfer the information and funds between the sponsoring bank and card issuing bank to
complete the link between merchants and card issuers. In certain of our processing arrangements, merchant funding primarily occurs
after the sponsoring bank receives the funds from the card issuer through the card networks, creating a net settlement obligation
on the Company’s Consolidated Balance Sheet. In a limited number of other arrangements, the sponsoring bank funds the merchants
before it receives the net settlement funds from the card networks, creating a net settlement asset on the Company’s Consolidated
Balance Sheet. Additionally, certain of the Company’s sponsoring banks collect the gross revenue from the merchants, pay
the interchange fees and assessments to the credit card associations, collect their fees for processing and pay the Company a net
residual payment representing the Company’s fees for the services. In these instances, the Company does not reflect the related
settlement processing assets and obligations in its Consolidated Balance Sheet.
Timing differences in processing credit and debit card and automated
clearing house transactions, as described above, interchange expense collection, merchant reserves, sponsoring bank reserves, and
exception items result in settlement processing assets and obligations. Settlement processing assets consist primarily of our portion
of settlement assets due from customers and receivable from merchants for the portion of the discount fee related to reimbursement
of the interchange expense, our receivable from the processing bank for transactions we have funded merchants in advance of receipt
of card association funding, merchant reserves held, sponsoring bank reserves and exception items, such as customer chargeback
amounts receivable from merchants. Settlement processing obligations consist primarily of merchant reserves, our liability to the
processing bank for transactions for which we have received funding from the members but have not funded merchants and exception
items.
Settlement assets, funds and obligations resulting from JetPay
Payments, FL’s processing services and associated settlement activities include settlement receivables due from credit card
associations and debit networks and certain cash accounts to which JetPay Payments, FL does not have legal ownership but has the
right to use the accounts to satisfy the related settlement obligations. JetPay Payments, FL’s corresponding settlement obligations
are for amounts payable to customers, net of processing fees earned by JetPay Payments, FL. Settlement receivables and payables
for credit and debit card transactions are recorded at the gross transaction amounts. The gross amounts are then processed through
JetPay Payments, FL’s settlement accounts, and JetPay Payments, FL retains its fees for the transactions upon settlement.
Settlement receivables for e-check transactions consist of only JetPay Payments, FL’s fees for the transactions. Settlement
receivables are generally collected within four (4) business days. Settlement obligations are generally paid within three (3) business
days, regardless of when the related settlement receivables are collected.
Property and Equipment and Depreciation
Property and equipment acquired in the Company’s business
acquisitions have been recorded at estimated fair value. The Company records all other property and equipment acquired in the normal
course of business at cost. Depreciation is recorded using the straight-line method over the estimated useful lives of the assets,
which are generally as follows: leasehold improvements – shorter of economic life or remaining term of the related lease;
machinery and equipment – five (5) to fifteen (15) years; and furniture and fixtures – five (5) to ten (10) years.
Significant additions or improvements extending assets’ useful lives are capitalized; normal maintenance and repair costs
are expensed as incurred.
Goodwill
Goodwill represents the premium paid over the fair value of
the net tangible and identifiable intangible assets acquired in the Company’s business combinations. The Company performs
a goodwill impairment test on at least an annual basis. Application of the goodwill impairment test requires significant judgments,
including estimation of future cash flows, which are dependent on internal forecasts, estimation of the long-term rate of growth
for the businesses, the useful life over which cash flows will occur and determination of the Company’s weighted average
cost of capital. Changes in these estimates and assumptions could materially affect the determination of fair value and/or conclusions
on goodwill impairment for each reporting unit. The Company conducts its annual goodwill impairment test as of December 31 of each
year or more frequently if indicators of impairment exist. The Company periodically analyzes whether any such indicators of impairment
exist. A significant amount of judgment is involved in determining if an indicator of impairment has occurred. Such indicators
may include a sustained significant decline in our stock price and market capitalization, a significant adverse change in legal
factors or in the business climate, unanticipated competition and/or slower expected growth rates, adverse actions or assessments
by a regulator, among others. The Company compares the fair value of its reporting unit to its respective carrying value, including
related goodwill. Future changes in the industry could impact the results of future annual impairment tests. The Company’s
annual quantitative goodwill impairment testing indicated there was no impairment as of December 31, 2017. Additionally, no indicators
of impairment occurred in the three months ended March 31, 2018. There can be no assurance that future tests of goodwill impairment
will not result in impairment charges.
Identifiable Intangible Assets
Identifiable intangible assets consist primarily of customer
relationships, software costs, and tradenames. Certain tradenames are considered to have indefinite lives, and as such, are not
subject to amortization. These assets are tested for impairment using undiscounted cash flow methodology annually and whenever
there is an impairment indicator. Estimating future cash flows requires significant judgment and projections may vary from cash
flows eventually realized. Several impairment indicators are beyond the Company’s control, and determining whether or not
they will occur cannot be predicted with any certainty. Identifiable intangible assets are amortized on a straight-line basis over
their respective assigned estimated lives; customer relationships use eight (8) to fifteen (15) years; tradenames use one (1) to
three (3) years; and software costs use one (1) to eight (8) years.
Impairment of Long–Lived Assets
The Company periodically reviews the carrying value of its long-lived
assets held and used at least annually or when events and circumstances warrant such a review. If significant events or changes
in circumstances indicate that the carrying value of an asset or asset group may not be recoverable, the Company performs a test
of recoverability by comparing the carrying value of the asset or asset group to its undiscounted expected future cash flows. Cash
flow projections are sometimes based on a group of assets, rather than a single asset. If cash flows cannot be separately and independently
identified for a single asset, the Company determines whether impairment has occurred for the group of assets for which it can
identify the projected cash flows. If the carrying values are in excess of undiscounted expected future cash flows, it measures
any impairment by comparing the fair value of the asset group to its carrying value. If the fair value of an asset or asset group
is determined to be less than the carrying amount of the asset or asset group, impairment in the amount of the difference is recorded.
The Company’s annual qualitative impairment testing indicated there was no impairment as of December 31, 2017. Additionally,
no indicators of impairment occurred in the three months ended March 31, 2018. There can be no assurance that future tests of impairment
will not result in impairment charges.
Convertible Preferred Stock
The Company accounts for the redemption premium, beneficial
conversion feature and issuance costs on or of its convertible preferred stock using the effective interest method, accreting such
amounts to its convertible preferred stock from the date of issuance to the earliest date of redemption.
Share-Based Compensation
The Company expenses employee share-based payments under ASC
Topic 718,
Compensation-Stock Compensation
, which requires compensation cost for the grant-date fair value of share-based
payments to be recognized over the requisite service period. The Company estimates the grant date fair value of the share-based
awards issued in the form of options using the Black-Scholes option pricing model.
Earnings (Loss) Per Share
Basic earnings (loss) per share is computed by dividing net
loss by the weighted-average number of shares of common stock outstanding during the period. The dilutive effect of the right of
our preferred stockholders to convert outstanding shares of Series A Preferred and Series A-1 Preferred into 16,949,152 and 1,102,041
shares of common stock, respectively, at March 31, 2018; the effect of 1,804,574 exercisable stock options granted under the Company’s
Amended and Restated 2013 Stock Incentive Plan (the “2013 Stock Incentive Plan”) at March 31, 2018; and the effect
of 266,667 exercisable warrants issued in connection with the Company’s purchase of treasury shares in February 2017 have
been excluded from the loss per share calculation for the three months ended March 31, 2018 in that the assumed conversion of these
options would be anti-dilutive. For the three months ended March 31, 2017, the dilutive effect of the right of our preferred stockholders
to convert outstanding shares of Series A Preferred and Series A-1 Preferred into 16,949,152 and 754,898 shares of common stock,
respectively; the effect of 1,227,909 exercisable stock options granted under the Company’s 2013 Stock Incentive Plan at
March 31, 2017; and the effect of 266,667 exercisable warrants issued in connection with the Company’s purchase of treasury
shares in February 2017 have been excluded from the loss per share calculation in that the assumed conversion of these options
would be anti-dilutive.
Derivative Financial Instruments
The Company does not use derivative instruments to hedge exposures
to cash flow, market or foreign currency risks. The Company does review the terms of debt instruments it enters into to determine
whether there are embedded derivative instruments, including embedded conversion options, which are required to be bifurcated and
accounted for separately as derivative financial instruments. In circumstances where the host instrument contains more than one
embedded derivative instrument, including the conversion option, that is required to be bifurcated, the bifurcated derivative instruments
are accounted for as a single compound derivative instrument.
Bifurcated embedded derivatives are initially recorded at fair
value and are then revalued at each reporting date with changes in the fair value reported as non-operating income or expense.
When the equity or convertible debt instruments contain embedded derivative instruments that are to be bifurcated and accounted
for as liabilities, the total proceeds received are first allocated to the fair value of all the bifurcated derivative instruments.
The remaining proceeds, if any, are then allocated to the host instruments themselves, usually resulting in those instruments being
recorded at a discount from their face value. The discount from the face value of the convertible debt, together with the stated
interest on the instrument, is amortized over the life of the instrument through periodic charges recorded within other expenses
(income), using the effective interest method.
Fair Value Measurements
The Company accounts for fair value measurements in accordance
with ASC Topic 820,
Fair Value Measurements and Disclosures
(“ASC Topic 820”), which defines fair
value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about
fair value measurements.
ASC Topic 820 establishes a fair value hierarchy that prioritizes
the inputs to valuation techniques used to measure 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). The three levels of the fair value hierarchy under ASC Topic 820 are described below:
|
Level 1
|
Unadjusted quoted prices in active markets that are accessible
at the measurement date for identical, unrestricted assets or liabilities.
|
|
Level 2
|
Applies to assets or liabilities for which there are inputs
other than quoted prices included within Level 1 that are observable for the asset or liability such as quoted prices for similar
assets or liabilities in active markets; quoted prices for identical assets or liabilities in markets with insufficient volume
or infrequent transactions (less active markets); or model-derived valuations in which significant inputs are observable or can
be derived principally from, or corroborated by, observable market data.
|
|
Level 3
|
Prices or valuation techniques that require inputs that
are both significant to the fair value measurement and unobservable (supported by little or no market activity).
|
The following table sets forth the Company’s financial
assets and liabilities measured at fair value by level within the fair value hierarchy. As required by ASC Topic 820, assets and
liabilities are classified in their entirety based on the level of input that is significant to the fair value measurement.
|
|
Fair Value at March 31, 2018
|
|
|
|
Total
|
|
|
Level 1
|
|
|
Level 2
|
|
|
Level 3
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Contingent consideration
|
|
$
|
2,227
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
2,227
|
|
|
|
Fair Value at December 31, 2017
|
|
|
|
Total
|
|
|
Level 1
|
|
|
Level 2
|
|
|
Level 3
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Contingent consideration
|
|
$
|
2,264
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
2,264
|
|
The following table sets forth a summary of the change in fair
value of the Company’s Level 3 financial liabilities that are measured at fair value on a recurring basis (in thousands):
|
|
For the Three Months Ended
March 31,
|
|
|
|
2018
|
|
|
2017
|
|
Beginning balance
|
|
$
|
2,264
|
|
|
$
|
2,982
|
|
Change in fair value of JetPay Payments, TX contingent consideration
|
|
|
-
|
|
|
|
(35
|
)
|
Change in fair value of JetPay Payments, FL contingent consideration
|
|
|
(37
|
)
|
|
|
109
|
|
Payment of JetPay Payments, PA contingent consideration
|
|
|
-
|
|
|
|
(314
|
)
|
Totals
|
|
$
|
2,227
|
|
|
$
|
2,742
|
|
Level 3 liabilities are valued using unobservable inputs to
the valuation methodology that are significant to the measurement of the fair value of the financial instrument. For fair value
measurements categorized within Level 3 of the fair value hierarchy, the Company’s accounting and finance department, which
reports to the Chief Financial Officer, determines its valuation policies and procedures. The development and determination of
the unobservable inputs for Level 3 fair value measurements and fair value calculations are the responsibility of the Company’s
accounting and finance department with support from the Company’s outside consultants which are approved by the Chief Financial
Officer. Level 3 financial liabilities for the relevant periods consist of contingent consideration related to the JetPay Payments,
TX, JetPay Payments, PA and JetPay Payments, FL acquisitions for which there are no current markets such that the determination
of fair value requires significant judgment or estimation. Changes in fair value measurements categorized within Level 3 of the
fair value hierarchy will be analyzed each period based on changes in estimates or assumptions and recorded as appropriate.
In addition to the consideration paid upon closing of the JetPay
Payments, TX acquisition, WLES, L.P. (“WLES”), through December 28, 2017, was entitled to receive 833,333 shares of
common stock if the trading price of the common stock is at least $8.00 per share for any 20 trading days out of a 30 trading day
period and $5.0 million in cash if the trading price of the common stock is at least $9.50 per share for any 20 trading days out
of a 30 trading day period. This contingent consideration was valued at $1.54 million at the date of acquisition based on utilization
of option pricing models and was recorded as a non-current other liability for $700,000 and as additional paid-in capital for $840,000
at December 31, 2012. The stock-based component value of $840,000 recorded at December 28, 2012 (the JetPay Payments, TX acquisition
date) remains unchanged at March 31, 2018 as a result of this component being recorded as equity. The fair value at March 31, 2018
and December 31, 2017 of the cash-based contingent consideration was $0 as a result of the contingent consideration requirements
not being met by December 28, 2017.
The fair value of the common stock was derived from the per
share price of the common stock at the valuation date. Management determined that the results of its valuation were reasonable.
The expected life represents the remaining contractual term of the derivative. The volatility rate was developed based on analysis
of the historical volatility rates of similarly situated companies (using a number of observations that was at least equal to or
exceeded the number of observations in the life of the derivative financial instrument at issue). The risk free interest rates
were obtained from publicly available U.S. Treasury yield curve rates. The dividend yield is zero because the Company has not paid
dividends and does not expect to pay dividends in the foreseeable future.
In addition to the consideration paid upon closing of the JetPay
Payments, PA acquisition, the previous unitholders were entitled to receive up to an additional $500,000 if certain net revenue
goals were achieved through October 31, 2016. This contingent consideration was valued at $400,000 at the date of acquisition,
with the final $314,000 earned and paid on January 17, 2017.
In addition to the consideration paid upon closing of the JetPay
Payments, FL acquisition, the former shareholders of JetPay Payments, FL were entitled to have released from escrow previously
issued shares up to an additional 500,000 shares of common stock upon JetPay Payments, FL achieving certain gross profit performance
targets in 2016 and 2017. The former shareholders are also able to receive up to 500,000 warrants to purchase shares of common
stock, each with a strike price of $4.00 per share and a 10-year term from its date of issuance, upon JetPay Payments, FL achieving
certain gross profit performance targets in 2018 and 2019. See
Note 3. Business Acquisition
. This contingent consideration
was valued at $1,975,000 at the date of acquisition, $1.4 million at December 31, 2017 (recorded within non-current other liabilities),
and $1.4 million at March 31, 2018 (recorded within non-current other liabilities), based on utilization of a Monte Carlo simulation
to estimate the variance and relative risk of achieving future gross profit performance targets. Contingent consideration liability
of $525,000 was reclassified to additional paid-in capital in June 2017 with 250,000 shares of common stock issued at the closing
of the acquisition released from escrow as a result of the 2016 gross profit performance targets being achieved. The key assumptions
in applying the Monte Carlo simulation included expected gross profit growth rates, the expected standard deviation and serial
correlation of expected net revenue growth rates as well as a normal distribution assumption.
The Company uses either a binomial option-pricing model with
a Monte Carlo simulation or the Black-Scholes option valuation model to value Level 3 financial liabilities at inception and on
subsequent valuation dates. These models incorporate transaction details such as the Company’s stock price, contractual terms,
maturity, risk free rates, as well as volatility. A significant decrease in the volatility or a significant decrease in the Company’s
stock price, in isolation, would result in a significantly lower fair value measurement.
As of March 31, 2018, there were no transfers in or out of Level
3 from other levels in the fair value hierarchy.
In accordance with the provisions of ASC Topic 815,
Derivatives
and Hedging Activities
, the Company presented its derivative liability at fair value on its Consolidated Balance Sheets, with
the corresponding change in fair value recorded in the Company’s Consolidated Statement of Operations for the applicable
reporting periods.
Income Taxes
The Company accounts for income taxes under ASC Topic 740,
Income
Taxes
(“ASC Topic 740”). ASC Topic 740 requires the recognition of deferred tax assets and liabilities for
both the expected impact of differences between the financial statements and tax basis of assets and liabilities and for the expected
future tax benefit to be derived from tax loss and tax credit carryovers. Deferred income tax expense (benefit) represents the
change during the period in the deferred income tax assets and deferred income tax liabilities. In establishing the provision for
income taxes and determining deferred income tax assets and liabilities, the Company makes judgments and interpretations based
on enacted laws, published tax guidance and estimates of future earnings. ASC Topic 740 additionally requires a valuation allowance
to be established when, based on available evidence, it is more likely than not that some portion or the entire deferred income
tax asset will not be realized.
ASC Topic 740 also clarifies the accounting for uncertainty
in income taxes recognized in an enterprise’s financial statements and prescribes a recognition threshold and measurement
process for financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. For
those benefits to be recognized, a tax position must be more-likely-than-not to be sustained upon examination by taxing authorities.
ASC Topic 740 also provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods,
disclosure and transition. The Company is required to file income tax returns in the United States (federal) and in various state
and local jurisdictions. Based on the Company’s evaluation, it has been concluded that there are no significant uncertain
tax positions requiring recognition in the Company’s financial statements. The Company believes that its income tax positions
and deductions would be sustained upon examination and does not anticipate any adjustments that would result in material changes
to its financial position.
The Company’s policy for recording interest and penalties
associated with unrecognized tax benefits is to record such interest and penalties as interest expense and as a component of selling,
general and administrative expense, respectively. There were no amounts accrued for penalties or interest as of or during the three
months ended March 31, 2018 and 2017. Management does not expect any significant changes in its unrecognized tax benefits in the
next year.
Subsequent Events
Management evaluates events that have occurred after the balance
sheet date and through the date the financial statements are issued. Based upon the review, management did not identify any recognized
or non-recognized subsequent events which would have required an adjustment or disclosure in the financial statements, except as
described in
Note 14. Subsequent Events
.
Note 5. Property and Equipment, net of Accumulated
Depreciation
|
|
March 31,
2018
|
|
|
December 31,
2017
|
|
|
|
(in thousands)
|
|
|
|
|
|
|
|
|
Leasehold improvements
|
|
$
|
65
|
|
|
$
|
433
|
|
Equipment
|
|
|
2,743
|
|
|
|
2,528
|
|
Furniture and fixtures
|
|
|
414
|
|
|
|
372
|
|
Computer software
|
|
|
2,867
|
|
|
|
1,272
|
|
Vehicles
|
|
|
245
|
|
|
|
245
|
|
Assets in progress
|
|
|
1,188
|
|
|
|
2,042
|
|
Total property and equipment
|
|
|
7,522
|
|
|
|
6,892
|
|
Less: accumulated depreciation
|
|
|
(2,556
|
)
|
|
|
(2,922
|
)
|
Property and equipment, net
|
|
$
|
4,966
|
|
|
$
|
3,970
|
|
Property and equipment included $1.7 million and $1.1 million
of computer equipment as of March 31, 2018 and December 31, 2017, respectively, net of accumulated depreciation of $598,500 and
$521,600 as of March 31, 2018 and December 31, 2017, respectively, that is subject to capital lease obligations.
Assets in progress consist primarily of computer software for internal use that will be placed into service
upon completion. Computer software of $1.5 million was placed into service during the three months ended March 31, 2018 and accordingly
reclassified from assets in progress to computer software.
Depreciation expense was $313,000 and $231,000 for the three
months ended March 31, 2018 and 2017.
Note 6. Accounts Payable and Accrued Expenses
Accounts payable and accrued expenses consist of the following:
|
|
March 31,
2018
|
|
|
December 31,
2017
|
|
|
|
(in thousands)
|
|
Trade accounts payable
|
|
$
|
3,267
|
|
|
$
|
3,381
|
|
ACH clearing liability
|
|
|
713
|
|
|
|
1,053
|
|
Accrued compensation
|
|
|
1,510
|
|
|
|
1,737
|
|
Accrued agent commissions
|
|
|
1,502
|
|
|
|
1,220
|
|
Related party payables
|
|
|
51
|
|
|
|
51
|
|
Other
|
|
|
4,579
|
|
|
|
4,127
|
|
Total
|
|
$
|
11,622
|
|
|
$
|
11,569
|
|
Note 7. Long-Term Debt, Notes Payable and
Capital Lease Obligations
Long-term debt, notes payable and capital lease obligations
consist of the following:
|
|
March 31,
2018
|
|
|
December 31,
2017
|
|
|
|
(in thousands)
|
|
Term loan payable to LHLJ, Inc., interest rate of 8.00% payable in monthly payments of $128,677, including principal and interest, beginning on October 18, 2016, maturing on October 31, 2021, collateralized by the assets and equity interests of JetPay HR & Payroll Services and JetPay Payments, FL. See
Note 12. Related Party Transactions.
|
|
$
|
8,341
|
|
|
$
|
8,557
|
|
|
|
|
|
|
|
|
|
|
Term loan payable to First National Bank of Pennsylvania, interest rate of 5.25% payable in monthly principal payments of $104,167 plus interest beginning on November 30, 2015, maturing November 6, 2021, collateralized by the assets and equity interests of JetPay Payments, PA.
|
|
|
4,479
|
|
|
|
4,792
|
|
|
|
|
|
|
|
|
|
|
Term note payable to Fifth Third Bank, interest rate of 4.00% payable in monthly payments of $27,317, including principal and interest, beginning on July 1, 2016, maturing November 30, 2019, collateralized by the assets and equity interests of JetPay Payments, FL.
|
|
|
553
|
|
|
|
630
|
|
|
|
|
|
|
|
|
|
|
Credit agreement payable to Fifth Third Bank providing for a 12-month draw period through June 22, 2018 for up to $1.6 million, converting into a 36 month amortizing term note maturing June 22, 2021. The credit agreement bears interest at LIBOR plus 3.00% (4.75% at March 31, 2018), collateralized by the assets and equity interests of JetPay Payments, FL.
|
|
|
1,187
|
|
|
|
1,085
|
|
|
|
|
|
|
|
|
|
|
Master equipment capital lease agreement payable to Fifth Third Bank for up to $1.5 million of lease financing to JetPay Payments, FL for a 12-month draw period through June30, 2018. Interim draws will have a term of up to 48 months and will bear interest at LIBOR plus 3.00% (4.75% at March 31, 2018), until termed at a fixed rate set forth in the lease agreement, collateralized by equipment.
|
|
|
592
|
|
|
|
303
|
|
|
|
|
|
|
|
|
|
|
Amended and restated revolving promissory note payable to Fifth Third Bank, interest rate of LIBOR plus 2.00% (3.75% at March 31, 2018), maturing on June 1, 2018.
|
|
|
-
|
|
|
|
360
|
|
|
|
|
|
|
|
|
|
|
Unsecured promissory note payable to stockholder, interest rate of 4.00% payable at maturity, note principal due September 30, 2017, as extended. See
Note 12. Related Party Transactions.
|
|
|
56
|
|
|
|
57
|
|
|
|
|
|
|
|
|
|
|
Capital lease obligations related to computer equipment and software at JetPay Payments, TX and JetPay HR & Payroll Services, interest rates of 5.91% to 8.30%, due in monthly lease payments of $44,521 in the aggregate maturing from August 2018 through March 2023 collateralized by equipment.
|
|
|
719
|
|
|
|
554
|
|
|
|
|
15,927
|
|
|
|
16,338
|
|
Less current portion
|
|
|
(3,214
|
)
|
|
|
(3,364
|
)
|
Less unamortized deferred financing costs
|
|
|
(240
|
)
|
|
|
(274
|
)
|
|
|
$
|
12,473
|
|
|
$
|
12,700
|
|
The First National Bank term loan agreement requires the Company
to provide First National Bank with annual financial statements within 120 days of the Company’s year-end and quarterly financial
statements within 60 days after the end of each quarter. The First National Bank agreement also contains certain financial covenants
with which the Company was in compliance as of March 31, 2018.
On June 2, 2016, in connection with the closing of the Company’s
acquisition of JetPay Payments, FL, JetPay Payments, FL entered into a credit agreement with Fifth Third Bank to obtain a $1,068,960
term loan and a revolving line of credit facility of $500,000, in each case secured by all of JetPay Payments, FL’s assets.
The term note issued to Fifth Third Bank matures on November 30, 2019 and bears interest at 4.00%. The revolving note issued to
Fifth Third Bank matured on June 2, 2017 and was renewed to June 1, 2018 and bears interest at a rate of LIBOR plus 2.00% for the
applicable interest period. The term note and the revolving note are guaranteed by the Company. The underlying credit agreement
with Fifth Third Bank contains certain customary covenants, including a financial covenant related to JetPay Payments, FL’s
fixed charge coverage ratio, with which the Company was in compliance as of March 31, 2018. The credit agreement was amended on
June 22, 2017 as provided below.
On June 22, 2017, JetPay Payments, FL entered into a new Credit
Agreement with Fifth Third Bank, which provides a $1.6 million Draw/Term Note to finance software integration costs; an Amended
and Restated Revolving Promissory Note for $1.0 million (increasing the previous revolving promissory note for $500,000 and extending
maturity to June 1, 2018); and a Second Modification of Credit Agreement. The Draw/Term Note provides for a 12 month draw period
through June 22, 2018 (“the Conversion Date”), at which time the loan converts to a 36 month amortizing term loan which
matures on June 22, 2021. The Draw/Term Note bears interest at the applicable LIBOR plus 3.00%. The Draw/Term Note is payable in
monthly installments beginning on the Conversion Date and can be prepaid without penalty or premium at any time. At March 31, 2018,
$1.2 million was outstanding against the $1.6 million Draw/Term Note.
The Amended and Restated Revolving Promissory Note replaced
and superseded the prior $500,000 Revolving Promissory Note payable to Fifth Third Bank, extending its maturity to June 1, 2018.
It bears interest at a rate of LIBOR plus 2.00% for the applicable interest period and is expected to be used to extend temporary
credit to cover JetPay Payments, FL’s customers’ processing return items.
The Second Modification amended and restated an original term
loan to JetPay Payments, FL dated June 2, 2016 in the original amount of $1,068,960 to incorporate certain terms in the new Credit
Agreement, including incorporating revised debt covenants, financial reporting requirements, collateral requirements, modifications
to parent guarantees, and representations and warranties of JetPay Payments, FL.
Additionally, JetPay Payments, FL entered into a Master Equipment
Lease Agreement and related Interim Lease Funding Schedule with Fifth Third Bank to provide up to $1.5 million of lease financing
for point-of-sale equipment related to certain JetPay Payments, FL customer contracts and other computer equipment. The Interim
Lease Funding Schedule provides the details of the allowable equipment to finance and provides for an interim draw periods through
June 30, 2018. Upon completion of an interim draw, the leases under the Master Lease Agreement will have a term not exceeding 48
months at an interest rate of LIBOR plus 3.00% until termed out on a schedule, at which time such leases will amortize and bear
interest at a fixed rate set forth in the applicable schedule. At March 31, 2018, $592,000 was outstanding against the $1.5 million
lease facility.
On July 26, 2016, as part of its settlement of litigation with
Merrick, the Company issued two promissory notes in favor of Merrick in the amounts of $3,850,000 (the “$3.85MM Merrick Note”)
and $5,000,000 (the “$5MM Merrick Note” and, together with the $3.85MM Merrick Note, the “Merrick Notes”)
to settle legal proceedings involving Merrick Bank. The $3.85MM Merrick Note was paid in full on October 21, 2016 and the $5MM
Merrick Note was paid in full on January 11, 2017.
Maturities of long-term debt and capital lease obligations,
excluding unamortized financing costs, are as follows for the years ending March 31: 2019 – $3.2 million; 2020 – $3.2
million; 2021 – $3.0 million; 2022 – $6.4 million; 2023 – $0.1 million; and $0 thereafter.
Note 8. Redeemable Convertible Preferred
Stock
Under a Securities Purchase Agreement entered into on August
22, 2013 (as amended, the “Series A Purchase Agreement”), the Company agreed to sell to Flexpoint, and Flexpoint agreed
to purchase from the Company, upon satisfaction of certain conditions, up to 133,333 shares of Series A Preferred a purchase price
of $300 per share for an aggregate purchase price of up to $40.0 million in three tranches.
On October 11, 2013, the Company issued 33,333 shares of Series
A Preferred to Flexpoint for an aggregate of $10.0 million less certain agreed-upon reimbursable expenses of Flexpoint pursuant
to the Series A Purchase Agreement. Additionally, the Company issued 4,667 shares of Series A Preferred to Flexpoint on April 14,
2014 for an aggregate of $1.4 million; 20,000 shares on November 7, 2014 for $6.0 million; 33,333 shares on December 28, 2014 for
$10.0 million; and 8,333 shares on August 9, 2016 for $2.5 million.
On October 18, 2016, the Company amended and restated the Series
A Purchase Agreement in part to facilitate the Company’s issuance and sale to Sundara of the 33,667 shares of Series A Preferred
that had not yet been purchased by Flexpoint. Sundara purchased the remaining 33,667 shares of Series A Preferred in a single transaction
for a purchase price of $10,100,100 ($300 per share) on October 18, 2016.
The shares of Series A Preferred are convertible into
shares of common stock. Any holder of Series A Preferred may at any time convert such holder’s shares of Series A
Preferred into that number of shares of common stock equal to the number of shares of Series A Preferred being converted
multiplied by $300 and divided by the then-applicable conversion price, which was initially $3.00. Under the Series A
Purchase Agreement, Flexpoint and Sundara Investment Partners, LLC are provided with certain indemnification rights in the
event of the incurrence of certain losses and expenses by the Company. On March 23, 2017, the conversion price of Series A
Preferred was $2.36. Pursuant to an agreement by and among the Company, Flexpoint and Sundara, the Series A Preferred
conversion price may be adjusted upward with the successful recovery of funds by the Company in the Company’s
lawsuit against Valley National Bank. The conversion price of the Series A Preferred continues to be subject to downward
adjustment upon the occurrence of certain events.
Share of Series A Preferred have a liquidation value of $600
per share (subject to adjustment for any stock split, stock dividend or other similar proportionate reduction or increase of the
authorized number of shares of common stock) and will rank senior to the common stock with respect to distributions of assets upon
the Company’s liquidation, dissolution or winding up. Holders of Series A Preferred have the right to request redemption
of any shares of Series A Preferred issued at least five (5) years prior to the date of such request by delivering written notice
to the Company at the then applicable liquidation value per share, unless holders of a majority of the outstanding Series A Preferred
elect to waive such redemption request on behalf of all holders of Series A Preferred, subject to certain exceptions.
In addition to the foregoing, pursuant to a Securities Purchase
Agreement (the “Series A-1 Purchase Agreement”) with Wellington dated May 1, 2014, the Company agreed to sell to Wellington,
upon the satisfaction of certain conditions, up to 9,000 shares of Series A-1 Preferred at a purchase price of $300 per share for
an aggregate purchase price of up to $2.7 million. On May 5, 2014, the Company issued 2,565 shares of Series A-1 Preferred to Wellington
for an aggregate of $769,500, less certain agreed-upon reimbursable expenses of Wellington. Additionally, the Company issued to
Wellington 1,350 shares of Series A-1 Preferred on November 20, 2014 for $405,000; 2,250 shares of Series A-1 Preferred on December
31, 2014 for $675,000; and 2,835 shares of Series A-1 Preferred on April 13, 2017 for $850,500. The proceeds of the total
investment of $2.7 million by Wellington have been used for general corporate purposes.
Shares of Series A-1 Preferred are convertible into shares of
the Company’s common stock or, in certain circumstances, Series A-2 Convertible Preferred Stock, par value $0.001 per share
(the “Series A-2 Preferred”).
Shares of Series A-1 Preferred may be converted into that number of shares
of common stock equal to the number of shares of Series A-1 Preferred being converted multiplied by $300 and divided by the then-applicable
conversion price, which initially was $3.00 and subject to adjustment pursuant to the Series A-1 Purchase Agreement. As of March
31, 2018, the conversion price of Series A-1 Preferred was $2.45. Pursuant to an agreement by and among Wellington, the Series
A-1 Preferred conversion price may be adjusted upward with the successful recovery of funds in the Company’s lawsuit against
Valley National Bank. The conversion price of the Series A-1 Preferred is subject to further downward adjustment upon the occurrence
of certain events as defined in the Series A-1 Purchase Agreement.
Shares of Series A-1 Preferred have an initial liquidation value
of $600 per share (subject to adjustment for any stock split, stock dividend or other similar proportionate reduction or increase
of the authorized number of shares of common stock) and rank senior to the Company’s common stock and
pari passu
with
the Series A Preferred with respect to distributions of assets upon the Company’s liquidation, dissolution or winding up.
Notwithstanding the foregoing, no holder of the Series A-1 Preferred can convert if, as a result of such conversion, such holder
would beneficially own 9.9% or more of the Company’s common stock. If at any time, no shares of Series A Preferred remain
outstanding and shares of Series A-1 Preferred remain outstanding because of the limitation in the preceding sentence, all shares
of Series A-1 Preferred shall automatically convert into shares of Series A-2 Preferred at a 1:1 ratio. Upon the occurrence of
an Event of Noncompliance, as defined in the Series A-1 Purchase Agreement, the holders of a majority of the Series A-1 Preferred
may demand immediate redemption of all or a portion of the Series A-1 Preferred at the then-applicable liquidation value.
The Company considered the guidance of ASC Topic 480,
Distinguishing
Liabilities from Equity
, and ASC Topic 815,
Derivatives
, in determining the accounting treatment for its convertible
preferred stock instruments. The Company considered the economic characteristics and the risks of the host contract based on the
stated and implied substantive terms and features of the instruments; including, but not limited to, its redemption features, voting
rights, and conversions rights; and determined that the terms of the preferred stock were more akin to an equity instrument than
a debt instrument. Subject to certain exceptions applicable to Sundara, the shares of Series A Preferred and Series A-1 Preferred
are subject to redemption, at the option of the holder, on or after the fifth anniversary of their original purchase. Accordingly,
the convertible preferred stock has been classified as temporary equity in the Company’s Consolidated Balance Sheets.
Upon issuance of the 33,333 shares of the Series A Preferred,
the Company recorded as a reduction to the Series A Preferred and as Additional Paid-In Capital a beneficial conversion feature
of $1.5 million. The beneficial conversion feature represents the difference between the effective conversion price and the fair
value of the Series A Preferred as of the commitment date. An additional beneficial conversion feature of $396,600 was recorded
in August 2015 as a result of the change in conversion price per share of Series A Preferred from $3.00 to $2.90. Similarly, additional
beneficial conversion features of $2.7 million and $2.2 million were recorded in March 2017 with respect to the shares of Series
A Preferred issued and sold to Flexpoint in 2013 and the shares of Series A Preferred issued and sold to Sundara in 2016 as a result
of the further change in conversion price per share of Series A Preferred from $2.90 to $2.36. There was no beneficial conversion
feature related to the 2014, 2015 or the 2016 issuances and sales of shares of Series A Preferred to Flexpoint and shares of Series
A-1 Preferred to Wellington as a result of the price of the Company’s common stock at the dates of the closings being below
the effective adjusted conversion price of the preferred stock. The Company accounts for the beneficial conversion feature, the
liquidation preference, and the issuance costs related to the Series A Preferred and Series A-1 Preferred using the effective interest
method by accreting such amounts to its Series A Preferred and Series A-1 Preferred from the date of issuance to the earliest date
of redemption as a reduction to its total permanent equity within the Company’s Consolidated Statement of Changes in Stockholders’ Deficit as a charge to Additional Paid-In Capital. Any accretion recorded during the periods presented are also shown
as a reduction to the income available to common stockholders in the Company’s Consolidated Statements of Operations when
presenting basic and dilutive per share information. Accretion was $2.9 million and $2.1 million for the three months ended March
31, 2018 and 2017, respectively.
Upon the occurrence of an Event of Noncompliance, the holders
of a majority of the Series A Preferred may demand immediate redemption of all or a portion of the shares of Series A Preferred
at the then-applicable liquidation value. Such holders may also exercise a right to have the holders of the Series A Preferred
elect a majority of the Board by increasing the size of the Board and filling such vacancies. Such right to control a minimum
majority of the Board would exist for so long as the Event of Noncompliance continues. An “Event of Noncompliance”
shall have occurred if: (i) the Company fails to make any required redemption payment with respect to the Series A Preferred; (ii)
the Company breaches the Series A Purchase Agreement and such breach has not been cured within thirty days after receipt of notice
thereof; (iii) the Company or any subsidiary makes an assignment for the benefit of creditors, admits its insolvency or is the
subject of an order, judgment or decree adjudicating such entity as insolvent, among other similar actions; (iv) a final judgment
in excess of $5.0 million is rendered against the Company or any subsidiary that is not discharged within 60 days thereafter; or
(v) an event of default has occurred under a former JetPay HR & Payroll Services credit facility, and such event of default
has not been cured within thirty days after receipt of notice thereof.
Note 9. Stockholders’ Equity (Deficit)
Common Stock
On August 3, 2017, the Company issued 44,240 shares of the Company’s
common stock with a fair market value of approximately $97,000, as bonus compensation to the Chief Executive Officer pursuant to
the Company’s 2013 Stock Incentive Plan.
On February 28, 2018, the Company cancelled 291,946 shares of
common stock that were being held in an escrow account at the Company’s transfer agent that were previously issued to certain
initial shareholders of the Company. The shares were cancelled pursuant to the Stock Escrow Agreement dated May 13, 2011 among
the Company, its transfer agent, and certain initial shareholders in that certain warrants related to the initial formation of
the Company were not exercised by December 28, 2017.
Treasury Stock
On February 15, 2017, the Company repurchased 2.2 million shares
of its common stock owned by WLES, which WLES had agreed to sell in connection with the now-settled Direct Air litigation matter
as part of a settlement agreement between the Company, Trent Voigt and WLES dated July 26, 2016 (the “WLES Settlement Agreement”).
JetPay had previously repaid the $5MM Merrick Note due to Merrick Bank in January 2017, for which WLES had agreed to indemnify
JetPay as part of the WLES Settlement Agreement by agreeing to sell the 2.2 million shares to satisfy JetPay’s obligations
in relation to the $5MM Merrick Note. Effective February 15, 2017, the 2.2 million shares of JetPay common stock were placed in
treasury at a cost of $4.95 million and are available for issuance.
Preferred Stock
The Company is authorized to issue 1,000,000 shares of preferred
stock with a par value of $0.001 per share with such designations, rights and preferences as may be determined from time to time
by the Company’s Board of Directors.
As of March 31, 2018 and December 31, 2017, there were no shares
of preferred stock issued or outstanding other than the Series A Preferred issued to Flexpoint and Sundara and the Series A-1 Preferred
issued to Wellington described above.
Stock-Based Compensation
ASC Topic 718,
Compensation-Stock Compensation
,
requires compensation expense for the grant-date fair value of share-based payments to be recognized over the requisite service
period.
On July 5, 2017, the Board approved, subject to stockholder
approval, the First Amendment to the 2013 Stock Incentive Plan, to issue up to an additional 1,000,000 shares of its common stock
as awards for a total of 4,000,000 shares of common stock available under the Plan. The First Amendment was subsequently approved
by the Company’s stockholders at the Company’s 2017 Annual Meeting of Stockholders held on August 15, 2017. The Company
had available 1,215,762 shares of common stock for the grant of awards under the 2013 Stock Incentive Plan as of March 31, 2018.
The Company granted 75,000 shares of common stock under the
2013 Stock Incentive Plan during the three months ended March 31, 2017, at an exercise price of $3.00 per share. There were no
options granted during the three months ended March 31, 2018. The grant date fair value of the options granted during the three
months ended March 31, 2017 were determined to be approximately $89,000 using the Black-Scholes option pricing model. Aggregated
stock-based compensation expense was $185,000 and $171,000 for the three months ended March 31, 2018 and 2017, respectively. Unrecognized
compensation expense as of March 31, 2018 relating to non-vested common stock options was approximately $928,000 and is expected
to be recognized through 2021. During the three months ended March 31, 2018 and 2017, no options were exercised or forfeited.
The fair values of the Company’s options were estimated
at the dates of grant using a Black-Scholes option pricing model with the following weighted average assumptions:
|
|
For the Three Months Ended March 31,
|
|
|
2018
|
|
2017
|
Expected term (years)
|
|
-
|
|
6.25
|
Risk-free interest rate
|
|
-
|
|
2.10%
|
Volatility
|
|
-
|
|
62.3%
|
Dividend yield
|
|
-
|
|
0%
|
Expected term: The Company’s expected term is based on
the period the options are expected to remain outstanding. The Company estimated this amount utilizing the “Simplified Method”
in that the Company does not have sufficient historical experience to provide a reasonable basis to estimate an expected term.
Risk-free interest rate: The Company uses the risk-free interest
rate of a U.S. Treasury Note with a similar term on the date of the grant.
Volatility: The Company calculates the volatility of the stock
price based on historical value and corresponding volatility using a weighted average of both the Company’s stock price and
the stock prices of comparable companies for a period consistent with the stock option expected term.
Dividend yield: The Company uses a 0% expected dividend yield
as the Company has not paid dividends to date and does not anticipate declaring dividends in the near future.
A summary of stock option activity for the three months ended
March 31, 2018 is presented below:
|
|
Number of
Options
|
|
|
Weighted
Average
Exercise Price
|
|
Outstanding at December 31, 2017
|
|
|
2,739,998
|
|
|
$
|
2.91
|
|
Granted
|
|
|
-
|
|
|
|
-
|
|
Forfeited
|
|
|
-
|
|
|
|
-
|
|
Exercised
|
|
|
-
|
|
|
|
-
|
|
Outstanding at March 31, 2018
|
|
|
2,739,998
|
|
|
$
|
2.91
|
|
Exercisable at March 31, 2018
|
|
|
1,804,574
|
|
|
$
|
2.89
|
|
The weighted average remaining life of options outstanding at
March 31, 2018 was 7.47 years. The aggregate intrinsic value of the exercisable options at March 31, 2018 was $0.
Employee Stock Purchase Plan
On June 29, 2015, the Board of Directors adopted the JetPay
Corporation Employee Stock Purchase Plan (the "Purchase Plan"), which was subsequently approved by the Company’s
stockholders at the Company’s 2015 Annual Meeting of Stockholders. The Purchase Plan allows employees to contribute a percentage
of their cash earnings, subject to certain maximum amounts, to be used to purchase shares of the Company’s common stock on
each of two (2) semi-annual purchase dates. The purchase price is equal to 90% of the market value per share on either: (a) the
date of grant of a purchase right under the Purchase Plan; or (b) the date on which such purchase right is deemed exercised, whichever
is lower.
As of March 31, 2018, an aggregate of 158,150 shares of common
stock remained reserved for issuance under the Purchase Plan, with 51,480 shares of common stock issued on January 5, 2017, 40,310
shares of common stock issued on July 12, 2017 and 27,184 shares of common stock issued on January 23, 2018.
Note 10. Income Taxes
The Company recorded income tax expense of $364,000 and $62,000 for the three months ended March 31, 2018
and 2017, respectively. Income tax expense reflects the recording of federal and state income taxes. The effective tax rate was
approximately 8.3% for the three months ended March 31, 2017 and greater than 100% for the three months ended March 31, 2018. The
effective rate differs from the federal statutory rate for each period, primarily due to state and local income taxes, changes
to the valuation allowance, and the recording of a deferred tax liability related to the uncertainty of the realization of the
benefit for financial reporting purposes of the amortization of certain Intangibles for tax purposes as more fully described below.
JetPay Payments, TX is subject to and pays the Texas Margin
Tax which is considered to be an income tax in accordance with the provisions of the Income Taxes Topic in FASB, ASC and the associated
interpretations. There are no significant temporary differences associated with the Texas Margin Tax.
As of December 31, 2017, the Company had U.S. federal net operating
loss carryovers (“NOLs”) of approximately $30.0 million and state NOLs of approximately $9.2 million available to offset
future taxable income. These NOLs, if not utilized, expire at various times through 2036. In accordance with Section 382 of the
Internal Revenue Code, deductibility of the Company’s NOLs may be subject to an annual limitation in the event of a change
in control. The Company has not conducted a Code Section 382 NOL study in 2017 or 2018.
In December 2017, the federal government enacted numerous amendments
to the Internal Revenue Code of 1986 pursuant to an act known by the Tax Cuts and Jobs Act (the “Tax Act”). The Tax
Act will impact the Company’s income tax (benefit) from continuing operations in future periods. The Tax Act resulted in
the following impacts to the Company: (i) the federal statutory income tax rate was reduced from 34% to 21% for 2018 and tax years
following; and (ii) a one-time net expense of $3.4 million was recorded in the three months ended December 31, 2017 as a result
of re-measuring our deferred tax balances at the new statutory rate. Upon completion of the Company’s 2017 U.S. income tax
return in 2018, additional re-measurement adjustments may be identified to the recorded deferred tax liabilities and the one-time
transition tax. Management will continue to assess the provision for income taxes as future guidance is issued, but do not currently
anticipate significant revisions will be necessary. Any such revisions will be treated in accordance with the measurement period
guidance outlined in Staff Accounting Bulletin No. 118.
In assessing the realization of deferred tax assets, management
considers whether it is more likely than not that some portion or all of the deferred tax assets will be realized. The ultimate
realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those
temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities, projected future
taxable income and tax planning strategies in making this assessment. After consideration of all of the information available,
management believes that a total valuation allowance of approximately $6.8 million at March 31, 2018 is appropriate, representing
the amount of its deferred income tax assets in excess of certain of the Company’s deferred income tax liabilities. The deferred
tax liability related to goodwill that is amortizable for tax purposes (“Intangibles”) will not reverse until such
time, if any, that the goodwill, which is considered to be an asset with an indefinite life for financial reporting purposes, becomes
impaired or sold. Due to the uncertain timing of this reversal, the temporary difference cannot be considered as future taxable
income for purposes of determining a valuation allowance. Therefore, the deferred tax liability related to tax deductible Intangibles cannot be considered when determining the ultimate realization of deferred tax assets.
Note 11. Commitments and Contingencies
At the time of the acquisition of JetPay, LLC, the Company entered
into an Amendment, Guarantee, and Waiver Agreement, dated December 28, 2012, between the Company, Ten Lords, Ltd. (“Ten Lords”)
and JetPay, LLC (n/k/a JetPay Payment Services, TX, LLC). Under the agreement, Ten Lords agreed to extend payment of a $6.0 million
note remaining outstanding at the date of acquisition for up to twelve months. The terms of the agreement required that the Company
provide the owners of Ten Lords and Providence Interactive Capital, LLC (together with Ten Lords, the “Plaintiffs”)
with a “true up” payment meant to put them in the same after-tax economic position as they would have been had the
note been paid in full on December 28, 2012. The Company calculated this true-up payment to be $222,310 and paid such amount in
August 2015. In addition to the $222,310 paid in 2015, the Company recorded an additional loss accrual of $125,500 relating to
this matter. Subsequent to the Company’s payment, the Company received notice on October 5, 2015 that Plaintiffs filed a
lawsuit against JetPay, LLC and the Company disputing the true up payment. Since 2015, the Company and JetPay, LLC have been defendants
in the lawsuit in the 429th Judicial District Court of Collin County, Texas (the “Court”) styled Ten Lords, Ltd. and
Providence Interactive Capital, LLC, Cause No. 429-04140-2015. The lawsuit was tried in the Court on May 2, 2017 and the Court
granted a judgment to Plaintiffs in the amount of $793,000 plus attorneys’ fees of $134,075, which judgment was entered by
the Court on May 15, 2017. On July 3, 2017, the Company and JetPay, LLC successfully settled the lawsuit by entering into a Compromise
Settlement Agreement and Mutual Release (the “Settlement Agreement”). Pursuant to the Settlement Agreement, the Company
paid to Plaintiffs the sum of $872,500 on July 3, 2017 and the parties released one another and their respective affiliates from
all claims arising out of the matters described in the Lawsuit and the Judgment. In connection with this settlement, the Company
recorded an additional loss of $747,000 during the year ended December 31, 2017.
In December 2015, Harmony Press Inc. (“Harmony”),
a customer of ADC and Payroll Tax Filing Services, a wholly-owned subsidiary of JetPay HR & Payroll Service, Inc. (“PTFS”),
filed a suit against an employee of Harmony for theft by that employee of over $628,000. JetPay, ADC, and PTFS as well as several
financial institution service providers to Harmony were also named in that suit for alleged negligence. The Company believes that
the allegations in the suit regarding JetPay, ADC, and PTFS are groundless and has turned the matter over to the Company’s
insurance carrier who is defending the suit. The Company is subject to a $50,000 deductible under its insurance policy. The Company
has not recorded an accrual for any potential loss related to this matter as of March 31, 2018 and has incurred legal expense of
$50,000 applied against its deductible, through March 31, 2018.
On June 12, 2017, JetPay Payment Services, TX LLC (“JetPay Payments, TX”) filed suit against
J.T. Holdings, LTD (“J.T. Holdings”) and Trent Voigt with respect to a lease entered into by JetPay Payments, TX with
J.T. Holdings’ property in Sunnyvale, TX. JetPay Payments, TX retains a computer backup center in the Sunnyvale, Texas location
owned by J.T. Holdings, an entity controlled by Trent Voigt, the previous Chief Executive Officer of JetPay Payments, TX. The previous
lease expired on January 31, 2016. While a new lease Agreement had not been signed, a dispute arose regarding the amount of rent
to be paid, as well as the rights of the parties to access the property. Prior to filing the suit against J.T. Holdings, the Company’s
access to the property was restored through a writ of reentry obtained from the Justice Court on June 8, 2017. On June 26, 2017,
the Parties entered into an agreement whereby JetPay Payments, TX was granted an extension on the lease until June 30, 2018 at
a rate of $6,000 per month and agreed to place into an escrow account $230,000 until all claims between the parties were adjudicated.
On December 12, 2017, Trent Voigt and J.T. Holdings filed counterclaims against JetPay. The Company settled the matter with J.T.
Holdings and Trent Voigt for $450,000
, together with
a release of all claims, on May 7, 2018. A loss accrual of $450,000 was recorded at March 31, 2018 within accounts payable and
accrued expenses.
The Company is a party to various other legal proceedings related
to its ordinary business activities. In the opinion of the Company’s management, none of these proceedings are material in
relation to our results of operations, liquidity, cash flows, or financial condition.
At March 31, 2018, a letter of credit was outstanding for $100,000
as collateral with respect to a front-end processing relationship with a credit card company.
Note 12. Related Party Transactions
Until February 28, 2018, JetPay HR & Payroll Services’ headquarters were located in Center Valley,
Pennsylvania and consisted of approximately 22,500 square feet leased from C. Nicholas Antich, the former president of JetPay HR
& Payroll Services, and Carol A. Antich. The office lease, expired on February 28, 2018. Rent expense under this lease was
$135,500 for each of the three months ended March 31,
2018 and 2017.
JetPay Payments, TX retains a backup center in Sunnyvale, Texas
consisting of 1,600 square feet, rented from J.T. Holdings, an entity controlled by Trent Voigt, the previous Chief Executive Officer
of JetPay Payments, TX. The prior lease expired on January 31, 2016. Rent expense was $18,000 and $12,000 for the three months
ended March 31, 2018 and 2017, respectively. As a part of current negotiations with Mr. Voigt regarding the property and other
related matters, the Company and J.T. Holdings entered into an agreement to extend the lease for twelve months beginning on July
1, 2017 at a monthly rate of $6,000 plus utilities and certain other costs.
On August 22, 2013, JetPay Payments, TX entered into a Master
Service Agreement with JetPay Solutions, LTD, a United Kingdom based entity 75% owned by WLES, an entity owned by Trent Voigt.
The Company initiated transaction business under this agreement beginning in April 2014 with revenue earned from JetPay Solutions,
LTD of $1,000 and $25,000 for the three months ended March 31, 2018 and 2017, respectively.
On June 7, 2013, the Company issued an unsecured promissory
note to Trent Voigt, the then Chief Executive Officer of JetPay Payments, TX, in the amount of $491,693. The note matured on December
31, 2017, as extended by the WLES Settlement Agreement dated July 26, 2016, see
Note 11. Commitments and Contingencies
,
and bore interest at an annual rate of 4% with interest expense of $0 recorded in each of the three months ended March 31, 2018
and 2017, respectively. The transaction was approved upon resolution and review by the Company’s Audit Committee of the terms
of the note to ensure that such terms were no less favorable to the Company than those that would be available with respect to
such transactions from unaffiliated third parties. This unsecured promissory note was paid down to $57,000 on August 30, 2017.
See
Note 7. Long-Term Debt, Notes Payable and Capital Lease Obligations.
Finally, on October 18, 2016, the Company entered into a loan and security agreement with
JetPay
HR & Payroll Services and PTFS, as borrowers, the Company and JetPay Payments, FL, as guarantors, and LHLJ, Inc., an entity
controlled and majority-owned by Laurence L. Stone, as lender. Pursuant to the loan and security agreement, LHLJ, Inc., LHLJ, Inc.
provided JetPay HR & Payroll Services and PTFS a term loan of $9.5 million. The loan carries an interest rate of 8% and matures
on October 18, 2021. Interest expense related to this promissory note was $170,000 and $186,000 for the three months ended March
31, 2018 and 2017, respectively. Additionally, in March 2018, Mr. Stone was granted a special bonus of $75,000 for his extraordinary
efforts and involvement in assisting management with several strategic initiatives.
Note 13. Segments
The Company currently operates in two business segments, the
Payment Services Segment, which is an end-to-end processor of credit and debit card and automated clearing house payment transactions
to businesses with a focus on those processing internet transactions and recurring billings, and the HR & Payroll Services
Segment, which is a full-service payroll and related payroll tax payment processor. As noted in
Note 4. Summary of Significant
Accounting Policies,
revenues are presented on a disaggregated basis. Segment operating results are presented below (in thousands).
The results reflect revenues and expenses directly related to
each segment.
|
|
For the Three Months Ended March 31, 2018
|
|
|
|
Payment
Services
|
|
|
HR &
Payroll
Services
|
|
|
General/
Corporate
|
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
HR & Payroll Revenues
|
|
$
|
-
|
|
|
$
|
5,441
|
|
|
$
|
-
|
|
|
$
|
5,441
|
|
Financial Institutions Revenues
|
|
|
1,695
|
|
|
|
-
|
|
|
|
-
|
|
|
|
1,695
|
|
Government Agency & Utility Revenues
|
|
|
2,906
|
|
|
|
-
|
|
|
|
-
|
|
|
|
2,906
|
|
Partners & e-Commerce Revenues
|
|
|
5,829
|
|
|
|
-
|
|
|
|
-
|
|
|
|
5,829
|
|
Total Revenues
|
|
$
|
10,430
|
|
|
$
|
5,441
|
|
|
$
|
-
|
|
|
$
|
15,871
|
|
Cost of revenues
|
|
|
5,823
|
|
|
|
2,315
|
|
|
|
-
|
|
|
|
8,138
|
|
Selling, general and administrative expenses
|
|
|
2,864
|
|
|
|
1,604
|
|
|
|
1,403
|
|
|
|
5,871
|
|
Settlement of legal matter
|
|
|
450
|
|
|
|
-
|
|
|
|
-
|
|
|
|
450
|
|
Change in fair value of contingent consideration liability
|
|
|
-
|
|
|
|
-
|
|
|
|
(37
|
)
|
|
|
(37
|
)
|
Amortization of intangibles and depreciation
|
|
|
839
|
|
|
|
322
|
|
|
|
-
|
|
|
|
1,161
|
|
Other expenses
|
|
|
98
|
|
|
|
192
|
|
|
|
5
|
|
|
|
295
|
|
Income (loss) before income taxes
|
|
$
|
356
|
|
|
$
|
1,008
|
|
|
$
|
(1,371
|
)
|
|
$
|
(7
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total property and equipment, net
|
|
$
|
4,028
|
|
|
$
|
909
|
|
|
$
|
29
|
|
|
$
|
4,966
|
|
Property and equipment additions
|
|
$
|
761
|
|
|
$
|
556
|
|
|
$
|
-
|
|
|
$
|
1,317
|
|
Intangible assets and goodwill
|
|
$
|
55,330
|
|
|
$
|
15,398
|
|
|
$
|
-
|
|
|
$
|
70,728
|
|
Total segment assets
|
|
$
|
118,513
|
|
|
$
|
86,039
|
|
|
$
|
1,307
|
|
|
$
|
205,859
|
|
|
|
For the Three Months Ended March 31, 2017 (As Adjusted)
|
|
|
|
Payment
Services
|
|
|
HR &
Payroll
Services
|
|
|
General/
Corporate
|
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
HR & Payroll Revenues
|
|
$
|
-
|
|
|
$
|
5,382
|
|
|
$
|
-
|
|
|
$
|
5,382
|
|
Financial Institutions Revenues
|
|
|
1,765
|
|
|
|
-
|
|
|
|
-
|
|
|
|
1,765
|
|
Government Agency & Utility Revenues
|
|
|
2,504
|
|
|
|
-
|
|
|
|
-
|
|
|
|
2,504
|
|
Partners & e-Commerce Revenues
|
|
|
4,846
|
|
|
|
-
|
|
|
|
-
|
|
|
|
4,846
|
|
Total Revenues
|
|
$
|
9,115
|
|
|
$
|
5,382
|
|
|
$
|
-
|
|
|
$
|
14,497
|
|
Cost of revenues
|
|
|
5,154
|
|
|
|
2,286
|
|
|
|
-
|
|
|
|
7,440
|
|
Selling, general and administrative expenses
|
|
|
2,547
|
|
|
|
1,427
|
|
|
|
834
|
|
|
|
4,808
|
|
Change in fair value of contingent consideration liability
|
|
|
-
|
|
|
|
-
|
|
|
|
74
|
|
|
|
74
|
|
Amortization of intangibles and depreciation
|
|
|
783
|
|
|
|
321
|
|
|
|
1
|
|
|
|
1,105
|
|
Other expenses
|
|
|
91
|
|
|
|
214
|
|
|
|
22
|
|
|
|
327
|
|
Income (loss) before income taxes
|
|
$
|
540
|
|
|
$
|
1,134
|
|
|
$
|
(931
|
)
|
|
$
|
743
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total property and equipment, net
|
|
$
|
1,714
|
|
|
$
|
528
|
|
|
$
|
31
|
|
|
$
|
2,273
|
|
Property and equipment additions
|
|
$
|
323
|
|
|
$
|
53
|
|
|
$
|
3
|
|
|
$
|
379
|
|
Intangible assets and goodwill
|
|
$
|
57,758
|
|
|
$
|
16,436
|
|
|
$
|
-
|
|
|
$
|
74,194
|
|
Total segment assets
|
|
$
|
124,792
|
|
|
$
|
87,410
|
|
|
$
|
2,617
|
|
|
$
|
214,819
|
|
Note 14. Subsequent Events
On April 30, 2018, JetPay Payments, TX entered into a settlement
agreement with Valley National Bank, settling JetPay Payments, TX’s litigation against Valley National Bank before trial.
Pursuant to the settlement agreement, Valley National Bank paid JetPay Payments, TX $2,175,000, and the parties agreed to a mutual
release of claims with no admission of liability.
On May 7, 2018, JetPay Payments, TX settled its previously disclosed litigation, including a release of
all claims, with J.T. Holdings and Trent Voigt for $450,000.