The accompanying notes are an integral part of
these condensed consolidated financial statements.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS
1. |
Description of Business |
Intrusion, Inc. (together
with its consolidated subsidiaries, the “Company”, Intrusion”, “Intrusion Inc.”, “we”, “us”,
“our”, or similar terms) was organized in Texas in September 1983 and reincorporated in Delaware in October 1995. Our principal
executive offices are located at 101 East Park Boulevard, Suite 1200, Plano, Texas 75074, and our telephone number is (972) 234-6400.
Our website URL is www.intrusion.com.
We develop, sell and support
products that protect any-sized company or government organization by fusing advanced threat intelligence with real-time artificial intelligence
to kill cyberattacks as they occur – including Zero-Days. We market and distribute our solutions through a direct sales force and
value-added resellers. Our end-user customers include U.S. federal government entities, state and local government entities, and companies
ranging in size from mid-market to large enterprises.
TraceCop “(TraceCop™”)
and Savant (“Savant™”) are registered trademarks of Intrusion Inc. We have applied for trademark protection
for our new INTRUSION Shield cybersecurity solution.
The accompanying unaudited
condensed consolidated financial statements of the Company have been prepared in accordance with Generally Accepted Accounting Principles
in the United States of America (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Item
10-01 of Regulation S-X. Accordingly, they do not include all the information and disclosures required by GAAP for complete financial
statements. All adjustments that, in the opinion of management, are necessary for a fair presentation of the results of operations for
the interim periods have been made and are of a recurring nature unless otherwise disclosed herein. The results of operations for such
interim periods are not necessarily indicative of results of operations for a full year. These condensed consolidated financial statements
should be read in conjunction with the consolidated financial statements and accompanying notes included in our Annual Report on Form
10-K for the year ended December 31, 2021, filed with the U.S. Securities and Exchange Commission (the “SEC”) on March 18,
2022. All significant intercompany balances and transactions have been eliminated in consolidation.
The Company calculates the
fair value of its assets and liabilities which qualify as financial instruments and includes this additional information in the notes
to consolidated financial statements when the fair value is different from the carrying value of these financial instruments. The estimated
fair value of accounts receivable, accounts payable and accrued expenses approximate their carrying amounts due to the relatively short
maturity of these instruments. Financing leases and Notes Payable loan approximate fair value as they bear market rates of interest. None
of these instruments are held for trading purposes.
As of March 31, 2022, we had cash and cash equivalents
of approximately $6.1 million, compared to approximately $4.1 million as of December 31, 2021. We generated a net loss of $4.1 million
for the three-months ended March 31, 2022, compared to a net loss of $3.9 million for the three-months ended March 31, 2021. Under our
at-the-market offering, since January 1, 2022, we have received proceeds of approximately $0.95 million net of fees from the sale of our
common stock related to this program. On March 10, 2022, we entered into a debt securities agreement that provides $10,000,000 in funds
through two separate fundings throughout 2022 and have received net proceeds of $4.6 million under this agreement through March 31, 2022.
We will have the ability to draw the remaining funds in the second funding provided we have met certain conditions under a second promissory
note within 180 days of the execution of the loan agreement. Based on the current forecast for the year 2022, we believe that we will
have sufficient cash resources to finance our operations and expected capital expenditures through May 13, 2023. We will continue to
streamline our sales and marketing departments to better align expenses with revenue and build the customer base for our new INTRUSION
Shield product. If our operations do not generate positive cash flow in the upcoming year, or if we are not able to obtain
additional debt or equity financing on terms and conditions acceptable to us, if at all, we may be unable to implement our business plan,
fund our liquidity needs or even continue our operations.
3. |
Accounting for Stock-Based Compensation |
The Company accounts for
stock-based compensation in accordance with ASC 718, Compensation – Stock Compensation, which requires that compensation
related to all stock-based awards be recognized in the condensed consolidated financial statements. Stock-based compensation cost is valued
at fair value at the date of grant, and the grant date fair value is recognized as expense over each award’s requisite service period
with a corresponding increase to equity or liability based on the terms of each award and the appropriate accounting treatment under ASC
718.
During 2021, the Company
added a new incentive plan (the “2021 Omnibus Incentive Plan”). The 2021 Omnibus Incentive Plan provides a means through which
the Company may attract and retain key personnel and to provide a means whereby directors, officers, employees, consultants and advisors
of the Company can acquire and maintain an equity interest in the Company, or be paid incentive compensation, including incentive compensation
measured by reference to the value of common stock, thereby strengthening their commitment to the welfare of the Company and aligning
their interests with those of the Company’s stockholders.
The aggregate number of shares
of Common Stock that may be issued or used for reference purposes or with respect to which Awards may be granted under the 2021 Omnibus
Incentive Plan shall not exceed 2,500,000 shares and is subject to any increase or decrease, which shares may be either authorized and
unissued Common Stock or Common Stock held in or acquired for the treasury of the Company or both.
During the quarters ended
March 31, 2022 and 2021, the Company did not grant or issue any new Restricted Stock Awards (RSAs) under the 2021 Omnibus Incentive Plan.
The Company recognized $179,000 and $0 in compensation expense related to its RSAs during the three-month period ended March 31, 2022
and 2021, respectively. As of March 31, 2022, there was $371,278 unrecognized compensation cost related to unvested RSAs compared to no
unrecognized compensation costs related to unvested RSAs as of March 31, 2021.
During the quarter ended
March 31, 2022, the Company granted 167,500 stock options under its 2015 Stock Incentive Plan (“2015 Plan”). The Company granted
65,000 options under the 2015 Plan during the three months ended March 31, 2021. The Company issued no options under its 2005 Stock Incentive
Plan (the “2005 Plan”) during the three- month period ended March 31, 2022 and 2021, respectively.
During the quarter- ended
as of March 31, 2022, 91,000 stock options were exercised under the 2005 Plan. During the quarter- ended as of March 31, 2021, 197,227
stock options were exercised under the 2005 Plan.
The following table summarizes
the activities for the Company’s stock options for the three months ended March 31, 2022:
Schedule of stock option activities | |
| | | |
| | |
| |
March 31, 2022 | |
| |
Number of Options | | |
Weighted-Average Exercise Price | |
Outstanding at beginning of year | |
| 617,273 | | |
$ | 6.47 | |
Granted | |
| 167,500 | | |
| 3.64 | |
Exercised | |
| (91,000 | ) | |
| 0.68 | |
Forfeited | |
| (35,000 | ) | |
| 6.33 | |
Cancelled | |
| – | | |
| – | |
Expired | |
| (1,000 | ) | |
| 4.30 | |
Outstanding at March 31, 2022 | |
| 657,773 | | |
$ | 6.56 | |
Options exercisable at March 31, 2022 | |
| 234,613 | | |
$ | 2.82 | |
The Company recognized compensation
expense related to its stock option awards of $248,000 and $204,000, for the three months ended March 31, 2022, and 2021, respectively.
As of March 31, 2022, there was $898,544 unrecognized compensation cost related to unvested stock options compared to $1,757,856 in unrecognized
compensation costs related to unvested stock options as of March 31, 2021.
Valuation Assumptions
The fair values of employee
and director option awards were estimated at the date of grant using a Black-Scholes option-pricing model with the following assumptions:
Valuation assumptions for stock-based compensation | |
| | |
| |
| |
For Three Months Ended March
31, 2022 | | |
For Three Months Ended March
31, 2021 | |
| |
| | |
| |
Weighted average grant date fair value | |
$ | 3.34 | | |
$ | 13.88 | |
Weighted average assumptions used: | |
| | | |
| | |
Expected dividend yield | |
| 0.0% | | |
| 0.0% | |
Risk-free interest rate | |
| 0.88% | | |
| 0.67% | |
Expected volatility | |
| 133.0% | | |
| 73.00% | |
Expected life (in years) | |
| 6.6 | | |
| 5.0 | |
Expected volatility is based on historical volatility
and in part on implied volatility. The expected term considers the contractual term of the option as well as historical exercise and forfeiture
behavior. The risk-free interest rate is based on the rates in effect on the grant date for U.S. Treasury instruments with maturities
matching the relevant expected term of the award. Options granted to non-employees are valued using the fair market value on each measurement
date of the option.
We generally recognize product revenue upon shipment
or after meeting certain performance obligations. These products can include hardware, perpetual software licenses and data sets. Most
of our sales are data set updates. Warranty costs and sales returns have not been material.
We recognize sales of our data sets in accordance
with FASB ASC Topic 606 whereby revenue from contracts with customers is not recognized until all five of the following have been met:
|
i) |
identify the contract with a customer; |
|
ii) |
identify the performance obligations in the contract; |
|
iii) |
determine the transaction price; |
|
iv) |
allocate the transaction price to the separate performance obligations; and |
|
v) |
recognize revenue upon satisfaction of a performance obligation. |
Data updates are typically
done monthly, and revenue is matched accordingly. Product sales may include maintenance and customer support allocated revenue in an arrangement
using estimated selling prices of the delivered goods and services based on a selling price hierarchy using the relative selling price
method. All product offering and service offering market values are readily determined based on current and prior stand-alone sales. The
Company may defer and recognize maintenance, updates and support revenue over the term of the contract period, which is generally one
year.
Normal payment terms offered
to customers, distributors and resellers are net 30 days domestically and net 45 days internationally. The Company does not offer payment
terms that extend beyond one year and rarely does it extend payment terms beyond its normal terms. If certain customers do not meet the
Company’s credit standards, the Company typically requires payment in advance on some of its smaller sized customers to limit its
credit exposure.
Shipping and handling costs
are billed to the customer and included in revenue. Shipping and handling expenses are included in cost of revenue. The Company has elected
to account for shipping and handling costs as fulfillment costs after the customer obtains control of the goods.
With the Company’s
newest product, INTRUSION Shield, Intrusion began offering software on a subscription basis. INTRUSION Shield
is a hosted arrangement subject to software as a service (“SaaS”) guidance under ASC 606. SaaS arrangements are accounted
for as service obligations, not arrangements that transfer a license of IP.
The Company utilizes the
five-step process, mentioned above, per FASB ASC Topic 606 to recognize sales and will follow that directive, also, to define revenue
items as individual and distinct. INTRUSION Shield services provided to the Company’s customers for a fixed monthly
subscription fee include:
|
· |
Access to Intrusion’s proprietary software and database to detect and prevent unauthorized access to its clients’ information networks; |
|
· |
Use of all software, associated media, printed materials, data, files, online documentation, and any equipment that Intrusion provides for customers to access the INTRUSION Shield; and |
|
· |
Tech support, post contract customer support (PCS) includes daily program releases or corrections provided by Intrusion without additional charge. |
The contract provided for
no other services, and our customers have no rebates or return rights, nor are any such rights anticipated to be offered as part of this
service.
The Company satisfies its
performance obligation when the INTRUSION Shield solution is available to detect and prevent unauthorized access to a client’s
information networks. Revenue should be recognized monthly over the term of the contract. The Company’s standard initial contract
terms automatically renew unless notice is given 30 days before renewal. Upfront payment of fees is deferred and amortized into income
over the period covered by the contract.
Our accounts receivable represents unconditional
contract billings for sales per contracts with customers and are classified as current. As of March 31, 2022 and December 31, 2021, we
had accounts receivable balance of $1.2 million and $1.0 million, respectively. We did not recognize an allowance for doubtful accounts
as of March 31, 2022 and December 31, 2021, respectively.
We classify our contract assets as receivables
because we generally have an unconditional right to payment for our sales or services performed at the end of the reporting period. As
a result, we had no material contract assets as of March 31, 2022 and December 31, 2021.
Contract liabilities consist of cash payments
in advance of the Company satisfying performance obligations and recognizing revenue. The Company currently classifies deferred revenue
as a contract liability.
The following table presents
changes in the Company’s contract liability during the three months ended March 31, 2022, and the year ended December 31, 2021
(in thousands):
Schedule of contract liability | |
| | | |
| | |
| |
March 31, 2022 | | |
December 31, 2021 | |
Balance at beginning of period | |
$ | 560 | | |
$ | 177 | |
Additions | |
| 180 | | |
| 1,953 | |
Revenue recognized | |
| (403 | ) | |
| (1,570 | ) |
Balance at end of period | |
$ | 337 | | |
$ | 560 | |
We report two separate net loss per share numbers, basic and diluted.
Basic net loss attributable to common stockholders per share is computed by dividing net loss attributable to common stockholders for
the year by the weighted average number of common shares outstanding for the year. Diluted net loss attributable to common stockholders
per share is computed by dividing the net loss attributable to common stockholders for the year by the weighted average number of common
shares and dilutive common stock equivalents outstanding for the year. Our common stock equivalents include all common stock issuable
upon exercise of outstanding options and vesting of restricted stock awards. The aggregate number of common stock equivalents excluded
from the diluted loss per share calculation for the quarter ended March 31, 2022 and 2021 totaled 969,127 and 925,711, respectively.
Since the Company is in a net loss position for the quarter ended March 31, 2022 and 2021, basic and dilutive net loss per share
are the same.
Our operations are concentrated in one area—security
software/entity identification. Sales to the U.S. Government through direct and indirect channels totaled 72.2% of total revenues for
the first quarter of 2022 compared to 73.9% of total revenues for the first quarter of 2021. During the first quarter of 2022, approximately
69.1% of total revenues were attributable to three government customers when compared to the first quarter of 2021, approximately 68.1%
of total revenues were attributable to three government customers. There was one individual commercial customer in the first quarter of
2022 attributable for 12.2% of total revenue compared to 19.8% of total revenue to one individual commercial customer for the same period
in 2021. Our similar product and service offerings are not viewed as individual segments, as our management analyzes the business as a
whole and expenses are not allocated to each product offering.
7. |
Commitments and Contingencies |
The Company is periodically
involved in claims asserted in the normal course of its business. We believe these actions are routine and incidental to the business.
While the outcome of these actions cannot be predicted with certainty, we do not believe that any will have a material adverse impact
on our business.
Class Action Litigation
On April 16, 2021, a purported
class action lawsuit was filed in the United States District Court, Eastern District of Texas, Sherman Division, captioned Celeste v.
Intrusion Inc. et al., Case No. 4:21-cv-00307 (E.D. Tex.) against the Company, the Company’s chief financial officer, and now-former
chief executive officer alleging, among other things, that the defendants made false and/or misleading statements or omissions about the
Company’s business, operations, and prospects in violation of Section 10(b) of the Securities Exchange Act of 1934, as amended (the
“Exchange Act”), and Rule 10b-5 promulgated thereunder, as well as Section 20(a) of the Exchange Act. The Celeste lawsuit
claims compensatory damages and legal fees.
On May 14, 2021, a related
purported class action lawsuit was filed in the United States District Court, Eastern District of Texas, Sherman Division, captioned Neely
v. Intrusion Inc., et al., Case No. 4:12-cv-00374 (E.D. Tex.) against the Company, the Company’s chief financial officer, and now-former
chief executive officer. The Neely lawsuit alleges the same violations under the federal securities laws as those alleged in the Celeste
lawsuit. The Neely lawsuit also seeks compensatory damages and legal fees.
On November 23, 2021, the
Court consolidated the Celeste and Neely actions, and appointed a lead plaintiff and lead plaintiff’s counsel. The lead plaintiff
filed his amended complaint on February 7, 2022. The amended complaint named the following additional parties as named defendants: Mr.
Michael Paxton, a former director and executive officer; Mr. Gary Davis, a former officer; Mr. Joe Head, our current chief technology
officer and a former director; and Mr. James Gero, a current director and chair of our compensation committee.
The parties to the consolidated
action held a mediation on April 5, 2022, at the conclusion of which the parties executed a settlement term sheet setting forth the material
terms associated with the resolution of the action. On April 13, 2022, the Court entered an order staying proceedings in the consolidated
action to allow the parties to negotiate the final stipulation and agreement of settlement. The terms and conditions of the settlement
will be set forth in the stipulation of settlement that will be filed with the Court in connection with a motion for approval of the settlement.
The finality of the settlement is subject to certain terms and conditions and is also subject to Court approval.
Securities Investigation
On August 8, 2021, the Company
received a notification from the Securities and Exchange Commission, Division of Enforcement, that it was conducting an investigation
captioned In the Matter of Intrusion Inc. and requesting the Company produce certain documents and information. On November 9, 2021, the
Securities and Exchange Commission served a subpoena on the Company in connection with this investigation which formally requested substantially
similar information as in the prior request. The Company is continuing to comply with the requests and is cooperating in the investigation.
The Company can offer no assurances as to the outcome of this investigation or its potential effect on the Company or its results of operations.
Lease Abandonment
On February 16, 2021, Intrusion
Inc. instituted legal proceedings in the District Court of Dallas County, Texas, 14th Judicial District against Purple Plaza LLC, the
landlord for the facilities we previously occupied in Richardson, Texas. This lawsuit claims damages for breach of contract for, among
other things, failure to maintain and repair the leased facilities and to provide adequate heating, air conditioning and ventilation on
the premises, resulting in a constructive eviction. Intrusion is seeking damages in excess of $1,000,000 together with a declaratory judgment
that any of Intrusion’s remaining obligations under the lease have terminated. Purple Plaza, LLC has answered by filing a
general denial, and added a counterclaim seeking alleged past due rent in the amount of approximately $229,000 and future rent allegedly
exceeding $2,000,000 million without offsetting its duty to mitigate its damages. Discovery is continuing with the parties planning on
mediating the matter in mid-late May 2022. The case is set for jury trial on June 7, 2022.
In addition to this pending
litigation, we are subject to various other legal proceedings and claims that may arise in the ordinary course of business. We do not
believe that any claims exist where the outcome of such matters would have a material adverse effect on our consolidated financial position,
operating results or cash flows. However, there can be no assurance such legal proceedings will not have a material impact on our future
results.
8. |
Right-of-use Asset and Leasing Liabilities |
The Company has operating
and finance leases where it records the right-of-use assets and a related lease liability as required under ASC 842. The lease liabilities
are determined by the net present value of total lease payments and amortized over the life of the lease. All obligations under the Company’s
lease agreements are designed to terminate with the last scheduled payment. The Company’s leases are for the following types of
assets:
|
· |
Computer hardware and copy machines- The Company’s finance lease right-of-use assets consist of computer hardware and copy machines. These leases have a three-year life and are in various stages of completion. |
|
· |
Office space - The Company’s operating lease right-of-use assets include its rental agreements for its offices in Plano, TX, and a data service center in Allen, TX. The Plano offices operating lease liability was modified in 2021, to add an additional floor of office space and terminate the prior lease. The modified lease has a life of one year and eight months as of March 31, 2022. The data service center operating lease liability has a life of three years and eight months as of March 31, 2022. The Company also has an operating lease liability for its former corporate office in Richardson. The Richardson operating lease liability has a life of two years and nine months as of March 31, 2022; however, the related right-of-use asset was fully impaired due to the Company’s abandonment of the lease as of December 31, 2020. |
Additional qualitative and
quantitative disclosures regarding the Company's leasing arrangements are also required. The Company adopted ASC 842 prospectively and
elected the package of transition practical expedients that does not require reassessment of: (1) whether any existing or expired contracts
are or contain leases, (2) lease classification and (3) initial direct costs. In addition, the Company has elected other available practical
expedients to not separate lease and non-lease components, which consist principally of common area maintenance charges, for all classes
of underlying assets and to exclude leases with an initial term of 12 months or less.
As the implicit rate is not
readily determinable for the Company's lease agreements, the Company uses an estimated incremental borrowing rate to determine the initial
present value of lease payments. This discount rate for the lease approximates Silicon Valley Bank's prime rate.
Supplemental cash flow information
includes operating cash flows related to operating leases. For the three months ended March 21, 2022, and 2021, the Company had $75,000
and $69,000, respectively, in lease payments related to operating leases. For the three months ended March 21, 2022, and 2021, the Company
had $7,000 and $0, respectively, in lease payments related to financing leases.
Schedule of Items Appearing on the Statement of Operations:
Lease cost table | |
| | | |
| | |
| |
Three Months Ended | |
| |
March 31, 2022 | | |
March 31, 2021 | |
Operating expense: | |
| | | |
| | |
Amortization Expense – Finance ROU | |
$ | 166 | | |
$ | 10 | |
Lease expense – Operating ROU | |
$ | 95 | | |
$ | 88 | |
Other expense: | |
| | | |
| | |
Interest Expense – Finance ROU | |
$ | 7 | | |
$ | 1 | |
Future minimum lease obligations consisted of the following at
March 31, 2022 (in thousands):
Future minimum lease obligations | |
| | |
| | |
| |
| |
Operating | | |
Finance | | |
| |
Period ending December 31, | |
ROU Leases | | |
ROU Leases | | |
Total | |
Remaining 2022 | |
$ | 954 | | |
$ | 678 | | |
$ | 1,632 | |
2023 | |
| 705 | | |
| 665 | | |
| 1,370 | |
2024 | |
| 486 | | |
| 3 | | |
| 489 | |
2025 | |
| 115 | | |
| 2 | | |
| 117 | |
Thereafter | |
| – | | |
| – | | |
| – | |
| |
$ | 2,260 | | |
$ | 1,348 | | |
$ | 3,608 | |
Less Interest* | |
| (138 | ) | |
| (38 | ) | |
| | |
| |
$ | 2,122 | | |
$ | 1,310 | | |
| | |
* |
Interest is imputed for operating ROU leases and classified
as lease expense and is included in operating expenses in the accompanying condensed consolidated statement of operations. |
On March 10, 2022, Intrusion Inc. entered into an unsecured loan agreement
with Streeterville Capital, LLC whereby the Company can draw up to $10,000,000 in two separate tranches of $5,000,000 through our issuance
of two separate promissory notes of $5,350,000 each, with an initial interest rate of 7%, subject to some increases in the case of, among
other things, an event of default. We received $4,682,500 in net funds from the first tranche (First Note) pursuant to a promissory note
executed contemporaneously with the execution of the loan agreement. We will have the ability to draw the remaining funds in the second
tranche provided we have met certain conditions under a second promissory note within 180 days of the execution of the loan agreement.
Each note has (or will have) an 18-month maturity, may be prepaid subject to varying prepayment premiums, and may be redeemed at any time
after six months into the term of such note in amounts up to $500,000 per calendar month upon the noteholder’s election. The Company
has the option, in its sole discretion, to satisfy any redemption demands in cash or shares of its common stock that will be issued in
an amount equal to the dollar amount of the redemption demand divided by the number that represents 85% of the average of the two lowest
daily volume weighted average prices of common stock over a fifteen-day trailing period.
The loan agreement and accompanying notes are subject to standard and
customary events of default, including, without limitation, the Company’s continued listing on the Nasdaq or New York Stock Exchange.
One of the prerequisites for our drawing on the second tranche is the approval by our stockholders of the issuance of stock to satisfy
any redemption demand, even if the shares issued in connection with all such redemptions exceeds 20% of our issued and outstanding shares
of common stock. While the notes remain outstanding, we will be subject to certain conditions and restrictions, including, without limitation
the following: the noteholder’s right to consent to any future variable rate transactions (excluding ATMs, equity offerings, or
private placements without market adjustable features) and any debt (excluding bank loans, lines of credit, mortgagees, leases, or asset
backed loans); the noteholder’s right to participate in any debt or equity financings, excluding (ATMs, loans, lines of credit,
mortgagees, leases, or asset backed loans); a prohibition on the Company’s ability to extend or enter into any agreement restricting
our ability to issue common stock under the notes; as well as a prohibition on our ability to permit any other lender to participate alongside
the noteholder via any debt financing structures.
The Company evaluated the First Note in accordance
with ASC 480 “Distinguishing Liabilities from Equity” because the promissory note (1) embodies an unconditional obligation,
(2) may require the Company to settle the unconditional obligation by issuing a variable number of its common shares, and (3) is based
solely on a fixed monetary amount known at inception.
The lender does not
benefit if the fair value of the Company’s Common Stock increases and does not bear the risk that the fair value of the
Company’s Common Stock might decrease. In accordance with ASC 480, the promissory note will be recorded as stock settled debt
on the note issue date and the company will record interest expense over the term of the promissory note, using the interest method
from ASC 835-30, to accrete the carrying amount of the promissory note up to the redemption common stock settlement amount.
On March 10, 2022, the Company recorded debt issue
costs of $744,448 as an offset to the promissory note to be amortized over the 18-month term. For the period from March 10, 2022 to March
31, 2022, the Company recorded $37,092 for amortization of the debt discounts to interest expense in the accompanying Statement of Operations.
For the period from March 10, 2022 to March 31,
2022, the Company recorded $22,933 of interest expense in the accompanying Statement of Operations and for the three- month period ended
March 31, 2022, the Company has recorded $22,933 of interest related to the unsecured promissory note as accrued interest in the accompanying
Balance Sheet.