NOTES TO FINANCIAL STATEMENTS
1.
Summary
of Significant Accounting Policies
Organization and Business
Founded
in 1979, Information Analysis Incorporated (the
“Company”, “we”), to which we sometimes
refer as IAI, is in the business of developing and maintaining
information technology (IT) systems, modernizing client information
systems, and performing professional services to government and
commercial organizations. We presently concentrate our technology,
services and experience to developing web-based and mobile device
solutions (including electronic forms conversions), data analytics,
cyber security applications, and legacy software migration and
modernization for various agencies of the federal government. We
provide software and services to government and commercial
customers throughout the United States, with a concentration in the
Washington, D.C. metropolitan area.
Unaudited Interim Financial Statements
The
accompanying unaudited financial statements have been prepared in
conformity with U.S. generally accepted accounting principles
(“GAAP”) for interim financial information and with the
instructions for Form 10-Q and Article 8-03 of Regulation S-X.
Accordingly, certain information and footnote disclosures normally
included in financial statements prepared in accordance with GAAP
have been condensed or omitted pursuant to the rules and
regulations of the Securities and Exchange Commission
(“SEC”). In the opinion of management, the unaudited
financial statements include all adjustments necessary (which are
of a normal and recurring nature) for the fair and not misleading
presentation of the results of the interim periods presented. These
unaudited financial statements should be read in conjunction with
our audited financial statements for the year ended December 31,
2017 included in the Annual Report on Form 10-K filed by the
Company with the SEC on April 2, 2018 (the “Annual
Report”). The accompanying December 31, 2017 balance sheet
and financial information was derived from our audited financial
statements included in the Annual Report, adjusted for the effect
of newly-implemented revenue recognition policies described in Note
2. The results of operations for any interim periods are not
necessarily indicative of the results of operations for any other
interim period or for a full fiscal year.
There
have been no changes in the Company’s significant accounting
policies as of March 31, 2018 as compared to the significant
accounting policies disclosed in Note 1, "Summary of Significant
Accounting Policies" in the Company's Annual Report on Form 10-K
for the fiscal year ended December 31, 2017, that was filed with
the SEC on April 2, 2018, except as described in Note
2.
Use of Estimates and Assumptions
The
preparation of financial statements in accordance with GAAP
requires management to make estimates and assumptions that affect
certain reported amounts of assets and liabilities and disclosure
of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenue and expenses during
the reporting period. Actual results can, and in many cases will,
differ from those estimates.
Income Taxes
As of
March 31, 2018, there have been no material changes to the
Company’s uncertain tax position disclosures as provided in
Note 7 of the Annual Report. Through the filing of its 2016 federal
income tax return, the Company has net operating loss carryforwards
in the amount of $15,007,467, of which $7,798,231 will expire, if
unused, on December 31, 2018.
Reclassification of Financial Statement Line Items
Certain
financial statement line items presented in prior periods have been
reclassified for consistency between the periods presented.
Contract assets in the form of unbilled receivables has been
disaggregated from accounts receivable, net, and deferred revenue
has been reclassified as contract liabilities.
Revenue
from Contracts with Customers
Revenue
is recognized when all of the following steps have been taken and
criteria met for each contract:
●
Identification of the
contract, or contracts, with a customer
-
A contract with a customer exists when
(i) we enter into an enforceable contract with a customer that
defines each party’s rights regarding the goods or services
to be transferred and identifies the payment terms related to these
goods or services, (ii) the contract has commercial substance and
the parties are committed to perform and, (iii) we determine that
collection of substantially all consideration to which we will be
entitled in exchange for goods or services that will be transferred
is probable based on the customer’s intent and ability to pay
the promised consideration.
●
Identification of the
performance obligations in the contract
-
Performance obligations promised in a
contract are identified based on the goods or services that will be
transferred to the customer that are both capable of being
distinct, whereby the customer can benefit from the goods or
service either on its own or together with other resources that are
readily available from third parties or from us, and are distinct
in the context of the contract, whereby the transfer of the goods
or services is separately identifiable from other promises in the
contract. To the extent a contract includes multiple promised goods
or services, we apply judgment to determine whether promised goods
or services are capable of being distinct and distinct in the
context of the contract. If these criteria are not met the promised
goods or services are accounted for as a combined performance
obligation.
●
Determination of the
transaction price
-
The transaction price is determined based on the consideration to
which we will be entitled in exchange for transferring goods or
services to the customer adjusted for estimated variable
consideration, if any. We typically estimate the transaction price
impact of discounts offered to the customers for early payments on
receivables or rebates based on sales target achievements.
Constraints are applied when estimating variable considerations
based on historical experience where applicable.
●
Allocation of the
transaction price to the performance obligations in the
contract
-
If the
contract contains a single performance obligation, the entire
transaction price is allocated to the single performance
obligation. Contracts that contain multiple performance obligations
require an allocation of the transaction price to each performance
obligation based on a relative standalone selling price basis.
Determination of the standalone selling price requires judgement.
We determine standalone selling price taking into account available
information such as historical selling prices of the performance
obligation, geographic location, overall strategic pricing
objective, market conditions and internally approved pricing
guidelines related to the performance obligations.
●
Recognition of revenue
when, or as, we satisfy performance obligations
-
We satisfy performance obligations
either over time or at a point in time as discussed in further
detail below. Revenue is recognized at or over the time the related
performance obligation is satisfied by transferring a promised good
or service to a customer.
Nature of products and services
We
generate revenue from the sales of information technology
professional services, sales of third-party software licenses and
implementation and training services, sales of third-party support
and maintenance contracts based on those software products, and
incentive payments received from third-party software suppliers for
facilitating sales directly between that supplier and a customer
introduced by us. We sell through our direct relationships with end
customers and under subcontractor arrangements. We account for our
performance obligations in accordance with the FASB issued ASU No.
2014-09, “
Revenue from
Contracts with Customers (Topic 606)”
(“ASC
606”), and all related interpretations.
Professional
services are offered through several arrangements – through
time and materials arrangements, fixed-price-per-unit arrangements,
fixed-price arrangements, or combinations of these arrangements
within individual contracts. Revenue under time and materials
arrangements is recognized over time in the period the hours are
worked or the expenses are incurred, as control of the benefits of
the work is deemed to have passed to the customer as the work is
performed. Revenue under fixed-price-per-unit arrangements is
recognized at a point in time when delivery of units have occurred
and units are accepted by the customer or are reasonably expected
to be accepted. Generally revenue under fixed-price arrangements
and mixed arrangements is recognized either over time or at a point
in time based on the allocation of transaction pricing to each
identified performance obligation as control of each is transferred
to the customer. For fixed-price arrangements for which we are paid
a fixed fee to make ourselves available to support a customer, with
no predetermined deliverables to which transaction prices can be
estimated or allocated, revenue is recognized ratably over
time.
Third-party
software licenses are classified as enterprise server-based
software licenses or desktop software licenses, and desktop
licenses are further classified by the type of customer and whether
the licenses are bulk licenses or individual licenses. Our
obligations as the seller for each class differ based on our
reseller agreements and whether our customers are government or
non-government customers. Revenue from enterprise server-based
sales to either government or non-government customers is usually
recognized in full at a point in time based on when the customer
gains use of the full benefit of the licenses, after the licenses
are implemented. If the transaction prices of the performance
obligations related to implementation and customer support for the
individual contract is material, these obligations are recognized
separately over time, as performed. Revenue for desktop software
licenses for government customers is usually recognized in full at
a point in time, based on when the customer’s administrative
contact gains training in and beneficial use of the administrative
portal. If the transaction prices of the performance obligations
related to implementing the government administrator’s use of
the administrative portal and administrator support for the
individual contract are material (rare), these obligations are
recognized separately over time, as performed. Revenue for bulk
desktop software licenses for non-government customers is usually
recognized in full at a point in time, based on when the
customer’s administrative contact gains training in and
beneficial use of the administrative portal. For desktop software
licenses sold on an individual license basis to non-government
customers, where we have no obligation to the customer after the
third party makes delivery of the licenses, we have determined we
are acting as an agent, and we recognize revenue upon delivery of
the licenses only for the net of the selling price and our contract
costs.
Third-party support
and maintenance contracts for enterprise server-based software
include a performance obligation under our reseller agreements for
us to be the first line of support (direct support) and second line
of support (intermediary between customer and manufacturer) to the
customer. Because of the support performance obligations, and
because the amount of support is not estimable, we recognize
revenue ratably over time as we make ourselves available to provide
the support.
Incentive payments
are received under reseller agreements with software manufacturers
and suppliers where we introduce and court a customer, but the sale
occurs directly between the customer and the supplier or between
the customer and the manufacturer. Since the transfer of control of
the licenses cannot be measured from outside of these transactions,
revenue is recognized when payment from the manufacturer or
supplier is received.
Disaggregation of Revenue from Contracts with
Customers
Contract
|
Three months ended 3/31/2018
|
Three months ended 3/31/2017
|
Type
|
|
|
|
|
|
|
|
|
|
Professional
Services
|
$
1,213,647
|
87.0
%
|
$
1,020,033
|
68.8
%
|
|
|
|
|
|
Support
& Maintenance
|
148,960
|
10.7
%
|
256,814
|
17.3
%
|
|
|
|
|
|
Third-Party
Software
|
27,414
|
2.0
%
|
199,942
|
13.5
%
|
|
|
|
|
|
Incentive
Payments
|
4,455
|
0.3
%
|
4,859
|
0.3
%
|
|
|
|
|
|
Total
Revenue
|
$
1,394,476
|
|
$
1,481,648
|
|
Revenue
|
Three months ended 3/31/2018
|
Three months ended 3/31/2017
|
Recognition Type
|
|
|
|
|
|
|
|
|
|
Time
& Materials
|
$
798,841
|
57.3
%
|
$
599,609
|
40.5
%
|
|
|
|
|
|
Fixed-Price
Ratably over Time
|
477,174
|
34.2
%
|
587,306
|
39.6
%
|
|
|
|
|
|
Mixed
|
83,092
|
6.0
%
|
83,732
|
5.7
%
|
|
|
|
|
|
Fixed-Price
per Unit
|
30,914
|
2.2
%
|
206,142
|
13.9
%
|
|
|
|
|
|
Incentive
Payments
|
4,455
|
0.3
%
|
4,859
|
0.3
%
|
|
|
|
|
|
Total
Revenue
|
$
1,394,476
|
|
$
1,481,648
|
|
|
|
|
|
|
Contract Balances
Accounts Receivable
Trade
accounts receivable are recorded at the billable amount where we
have the unconditional right to bill, net of allowances for
doubtful accounts. The allowance for doubtful accounts is based on
our assessment of the collectability of accounts. Management
regularly reviews the adequacy of the allowance for doubtful
accounts by considering the age of each outstanding invoice, each
customer's expected ability to pay and collection history, when
applicable, to determine whether a specific allowance is
appropriate. Accounts receivable deemed uncollectible are charged
against the allowance for doubtful accounts when
identified.
Contract Assets
Contract assets
consist of assets typically resulting when revenue recognized
exceeds the amount billed or billable to the customer due to
allocation of transaction price. Contract assets balances were
$32,626 and $5,532 as of March 31, 2018, and December 31, 2017,
respectively. The increase in contract assets from December 31,
2017, to March 31, 2018, is due primarily to one contract for which
the invoice is a fixed monthly amount but for which the quantity of
performance obligations satisfied varies each month.
Contract Liabilities
Contract
liabilities, to which we formerly referred as deferred revenue,
consist of amounts that have been invoiced and for which the
Company has the right to bill, but that have not been recognized as
revenue because the related goods or services have not been
transferred. Contract liabilities balances were $238,042 and
$387,002 at March 31, 2018, and December 31, 2017, respectively.
The decrease in contract liabilities from December 31, 2017, to
March 31, 2018, is due primarily to the recognition of revenue over
time from third-party support and maintenance contracts for
enterprise server-based software sales.
Costs to Obtain or Fulfill a Contract
When
applicable, we recognize an asset related to the costs incurred to
obtain a contract only if we expect to recover those costs and we
would not have incurred those costs if the contract had not been
obtained. We recognize an asset from the costs incurred to fulfill
a contract if the costs (i) are specifically identifiable to a
contract, (ii) enhance resources that will be used in satisfying
performance obligations in future and (iii) are expected to be
recovered. There were no such assets at March 31, 2018 and December
31, 2017.
Financing Components
In
instances where the timing of revenue recognition differs from the
timing of invoicing, we have determined our contracts do not
include a significant financing component. The primary purpose of
our invoicing terms is to provide customers with simplified and
predictable ways of purchasing our products and services, not to
receive financing from our customers or to provide customers with
financing. Examples include invoicing at the beginning of a
software support and maintenance term with revenue recognized
ratably over the contract period.
Deferred Costs of Revenue
Deferred costs of
revenue consist of the costs of third-party support and maintenance
contracts for enterprise server-based software. These costs are
reported under the prepaid expenses caption on our balance sheet.
We recognize these direct costs ratably over time as we make
ourselves available to provide our performance obligation for
software support, commensurate with our recognition of revenue.
Deferred costs of revenue balances included in prepaid expenses
were $155,840 and $300,558 at March 31, 2018, and December 31,
2017, respectively.
ASC 606 Impact to Previously Reported Results
On
January 1, 2018, we adopted ASC 606 by applying the modified
retrospective transition method to all of our contracts.
Comparative information has not been restated and continues to be
reported under the accounting standards in effect for the periods
presented. Based on the results of our evaluation, the adoption of
ASC 606 did not have a material impact on our revenue recognition
policies. In addition, the adoption of ASC 606 did not have a
material impact on our financial statements for the three months
ended March 31, 2018 and 2017. Additionally, the cumulative effect
to the opening balance sheet on January 1, 2018, from the adoption
of ASC 606 was not material.
3.
Recent
Accounting Pronouncements
From
time to time, new accounting pronouncements are issued by the FASB,
or other standard setting bodies, that the Company adopts as of the
specified effective date.
In
February 2016, the FASB issued ASU 2016-02,
“Leases: Topic 842,”
which
provided updated guidance on lease accounting. ASU 2016-02 is
effective for annual reporting periods beginning after December 15,
2018, including interim periods within that annual period, with
early adoption permitted. The Company does not expect the adoption
of this new standard will have a material impact on its financial
statements. When adopted, the Company’s operating lease for
office space will be presented as a right-of-use asset and as an
offsetting liability for the present value of the contractual cash
flows. The Company does not currently have any other material lease
obligations.
In
August 2016, the FASB issued ASU 2016-15,
“Classification of Certain Cash Receipts
and Cash Payments,”
to provide additional guidance and
reduce diversity in practice in how certain cash receipts and cash
payments are presented and classified in the statement of cash
flows. We adopted this guidance effective January 1, 2018, and
there was no material impact on our financial
statements.
4.
Stock-Based
Compensation
The
Company has two shareholder–approved stock-based compensation
plans. The 2006 Stock Incentive Plan was adopted in 2006
(“2006 Plan”) and had options granted under it through
April 12, 2016. On June 1, 2016, the shareholders ratified the IAI
2016 Stock Incentive Plan (“2016 Plan”), which had been
approved by the Board of Directors on April 4, 2016.
The
Company recognizes compensation costs only for those shares
expected to vest on a straight-line basis over the requisite
service period of the awards. Generally such options vest over
periods of six months to two years. There were no options granted
during the three months ended March 31, 2017. The fair values of
option awards granted in the three months ended March 31, 2018,
were estimated using the Black-Sholes option pricing model under
the following assumptions:
|
|
2018
|
Risk-free interest rate
|
2.65% - 2.66%
|
Dividend yield
|
0%
|
Expected term
|
5 years
|
Expected volatility
|
49.0%
|
2016 Stock Incentive Plan
The
2016 Plan became effective June 1, 2016, and expires April 4, 2026.
The 2016 Plan provides for the granting of equity awards to key
employees, including officers and directors. The maximum number of
shares for which equity awards may be granted under the 2016 Plan
is 1,000,000. Options under the 2016 Plan expire no later than ten
years from the date of grant or when employment ceases, whichever
comes first, and vest over periods determined by the Board of
Directors. The minimum exercise price of each option is the quoted
market price of the Company’s stock on the date of grant. At
March 31, 2018, there were unexpired options for 352,000 shares
issued under the 2016 Plan, of which 116,000 were
exercisable.
2006 Stock Incentive Plan
The
2006 Plan became effective May 18, 2006, and expired April 12,
2016. The 2006 Plan provides for the granting of equity awards to
key employees, including officers and directors. Options under the
2006 Plan were generally granted at-the-money or above, expire no
later than ten years from the date of grant or within three months
of when employment ceases, whichever comes first, and vest over
periods determined by the Board of Directors. The number of shares
subject to options available for issuance under the 2006 Plan could
not exceed 1,950,000. There were 1,066,000 unexpired options
remaining from the 2006 Plan at March 31, 2018, of which 1,056,000
were exercisable.
The
status of the options issued under the foregoing option plans as of
March 31, 2018, and changes during the three months ended March 31,
2018, were as follows:
|
|
|
|
|
|
|
Weighted average
|
|
|
|
|
remaining
|
|
Incentive Options
|
|
|
contractual term
|
|
Outstanding
at January 1, 2018
|
1,288,000
|
$
0.21
|
|
|
Options
granted
|
130,000
|
0.47
|
|
|
Options
exercised
|
-
|
-
|
|
|
Options
expired
|
-
|
-
|
|
|
Options
forfeited
|
-
|
-
|
|
|
Outstanding
at March 31, 2018
|
1,418,000
|
$
0.23
|
5
years, 3 months
|
$
320,178
|
Exercisable
at March 31, 2018
|
1,172,000
|
$
0.20
|
4
years, 9 months
|
$
304,818
|
No
options were granted during the three months ended March 31, 2017.
There were no options exercised during the three months ended March
31, 2018 and 2017. As of March 31, 2018, there was $28,115 of total
unrecognized compensation cost related to non-vested share-based
compensation arrangements granted under the stock incentive plans;
that cost is expected to be recognized over a weighted-average
period of six months.
Total
compensation expense related to these plans was $6,288 and $259 for
the quarters ended March 31, 2018 and 2017, respectively, none of
which related to options awarded to non-employees. Compensation
expense relating to prior periods in the amount of $612 was
reversed in the three months ended March 31, 2017, from options
that were forfeited prior to vesting, and are not included in the
total compensation expense above.
Nonvested option
awards as of March 31, 2018 and changes during the three months
ended March 31, 2018 were as follows:
|
|
|
|
|
|
|
|
|
|
|
Nonvested
at January 1, 2018
|
232,000
|
$
0.10
|
Granted
|
130,000
|
0.21
|
Vested
|
(116,000
)
|
0.10
|
Forfeited
|
-
|
-
|
Nonvested
at March 31, 2018
|
246,000
|
$
0.16
|
5.
Revolving
Line of Credit
The
Company has a revolving line of credit with a bank providing for
demand or short-term borrowings of up to $1,000,000. The line
expires on May 31, 2018, and is expected to be renewed under
similar terms for a period of one-to-two years. As of March 31,
2018, no amounts were outstanding under this line of credit. The
Company did not borrow against this line of credit in the last
twelve months.
Basic
loss per share excludes dilution and is computed by dividing loss
available to common shareholders by the weighted-average number of
shares outstanding for the period. Diluted loss per share reflects
the potential dilution that could occur if securities or other
contracts to issue common stock were exercised or converted into
common stock, except for periods when the Company reports a net
loss because the inclusion of such items would be antidilutive. The
antidilutive effect of 623,276 shares and 179,490 shares from stock
options were excluded from diluted shares for the three months
ended March 31, 2018 and 2017, respectively.
The
following is a reconciliation of the amounts used in calculating
basic and diluted net loss per common share:
|
|
|
|
|
|
|
|
Basic
net income per common share for the
|
|
|
|
three
months ended March 31, 2018:
|
|
|
|
Loss
available to common shareholders
|
$
(33,276
)
|
11,201,760
|
$
-
|
Effect
of dilutive stock options
|
-
|
-
|
-
|
Diluted
net loss per common share for the
|
|
|
|
three
months ended March 31, 2018:
|
$
(33,276
)
|
11,201,760
|
$
-
|
|
|
|
|
Basic
net loss per common share for the
|
|
|
|
three
months ended March 31, 2017:
|
|
|
|
Loss
available to common shareholders
|
$
(31,616
)
|
11,201,760
|
$
-
|
Effect
of dilutive stock options
|
-
|
-
|
-
|
Diluted
net loss per common share for the
|
|
|
|
three
months ended March 31, 2017:
|
$
(31,616
)
|
11,201,760
|
$
-
|