Item
2.
Management’s
Discussion and Analysis or Plan of Operations
Our
Business
With
offices in Pittsford, New York, Vienna, Virginia and Jackson, Mississippi,
we
provide business, program management and information technology (IT) services
and systems support to federal, state and local government and commercial
clients through our IT Services Group. Our work includes leading edge operations
supporting complex programs in advanced computing environments (network
services), server and desktop virtualization technology, wireless technology,
human capital services, financial services, enterprise architecture, and earned
value management. We focus on aligning business processes with technology for
delivery of solutions meeting our clients’ exact needs.
In
December 2003, we were awarded a Federal Supply Schedule Contract by the U.S.
General Services Administration (GSA) for IT consulting services. As a GSA
contractor we can compete for and secure prime contracts with all executive
agencies of the U.S. Government, as well as state and local governments and
other national and international organizations. As of September 30, 2007, we
have one prime contract under our GSA schedule with the U.S. Department of
Homeland Security.
During
2007, we were approved as a VMware Authorized Consultant (VAC) by VMware, Inc.
(NYSE:VMW) a subsidiary of EMC Corporation (NYSE:EMC). VMware is recognized
as
the industry leader in virtualization technology. As a VAC, we are trained
and
certified to deliver consulting services and solutions leveraging VMware
technology. We are also certified as aVMware Enterprise VIP Reseller authorized
to resell VMware’s full product line. We are actively working with a number of
potential customers in that regard. These certifications are examples of our
concerted effort to grow and expand our server virtualization practice.
Server
virtualization involves the creation, allocation, and management of “virtual
machines,” which entails the virtual representation of hardware by a software
system. What this means is that traditional “physical servers,” which typically
run at only 5% to 15% of their capacity, can now be consolidated with the use
of
specialized software such as VMware to increase server utilization by a factor
of ten to one or even greater. Reducing the number of physical machines required
in a typical environment provides numerous and obvious benefits, including
equipment cost savings, reduced operational maintenance costs, easier backup,
improved availability, and better security. Due to the substantial energy
savings resulting from reduced infrastructure, virtualization is also a “green”
technology.
In
July
2007, we were accepted into the Hewlett Packard (NYSE:HPQ) Developer and
Solutions Partner Program (DSPP).
DSPP
provides us with a mechanism to work with HP and our joint customers and
prospects to provide solutions and services that complement HP's broad portfolio
of products and services. HP has many tools and resources to help us generate
new sales streams, and improve our mutual profitability, while at the same
time
adding unique value for our joint customers. The program comprises practical
tools and services that we hope will help us in the key areas of marketing
and
selling our solutions, optimizing the technology, and collaborating with other
organizations within our industry.
In
August
2007, we were notified that we were part of a team led by a large systems
integrator that was awarded a Government Wide Acquisition Contract (GWAC) under
GSA’s $50 billion Alliant program.
We
are a
member of a team led by CACI International Inc (
NYSE:CAI
)
that
was awarded a $36 million task order by the U.S. Navy in October 2007 to support
its Navy Enterprise Maintenance Automated Information System (NEMAIS) data
center operations. The task order, awarded under the Seaport II Enhanced
contract vehicle (Seaport-e), provides for one base year and three one-year
options. The CACI team will perform the work at the Naval Sea Systems Command
(NAVSEA) site in Norfolk, Virginia and the Puget Sound Naval Shipyard in
Washington State. As a result of the award CACI was able to maintain the same
level of support it has been providing to the Navy for the NEMAIS data center
which in turn enhances CACI’s and our core lines of business in engineering
services, network services and business systems integration.
The
acquisition of these contract vehicles allows us additional opportunities to
bid
on new projects.
Osley
& Whitney, Inc. Retirement Plan
Prior
to
December 30, 2002, we owned 100% of the common stock of Osley & Whitney,
Inc. (O&W). On December 30, 2002, we sold all of the O&W common stock to
a third party, but mistakenly continued to act as the sponsor of the O&W
Retirement Plan (O&W Plan), a defined benefit pension plan. In 2007 it was
determined that we had no legal obligations to continue as the O&W Plan
Sponsor. During the nine months ended September 30, 2007, we submitted
information advocating this position to the Department of Treasury to ascertain
whether they concur or disagree with this determination. The Department of
Treasury is presently reviewing this information. If they do not concur with
our
position, we intend to pursue all appropriate further avenues to prevail on
our
position. Depending upon the ultimate outcome regarding our obligations as
sponsor of the O&W Plan, adjustments to our financial statements may be
necessary. At September 30, 2007 we have accrued liabilities of $2,677,979
related to the O&W Plan and an accumulated other comprehensive loss of
$2,578,639 which we have recorded as a reduction of stockholders’ equity.
The
market value of plan assets decreased by $79,353 from $3,497,115 at December
31,
2006 to $3,417,763 at September 30, 2007. The decrease was comprised of
investment returns of $258,634 which were offset by benefit payments of $320,552
and expenses paid of $17,434.
Whether
or not we ultimately will be responsible to fund any O&W Plan deficiencies
is largely dependent upon the ultimate outcome regarding our obligations as
sponsor of the O&W Plan, as described above. If it is determined that we are
responsible for such deficiencies, then we will be required to make
contributions for deficiencies in 2004, 2005, 2006, 2007, and in future years
to
fund any O&W Plan deficiencies. We did not make any contributions in 2004,
2006 or 2007. During 2005, we made contributions of $6,439 and 500,000 shares
of
our common stock, which were valued on the contribution date at $175,000 using
that day’s closing market price. We currently do not have the funds available to
make the required contributions which currently approximate $1.6 million, which
includes the minimum required plan contributions. We recorded defined benefit
pension expense (including professional services, excise taxes and interest
costs) of $273,035 and $342,370 for the nine months ended September 30, 2007
and
2006, respectively. In 2006, we recorded excise taxes of $200,000. We may be
required to pay interest on these excise taxes and potentially could incur
additional excise taxes up to 100% of required plan contributions that were
not
made.
During
2006, the Pension Benefit Guarantee Corporation placed a lien on all of our
assets to secure the contributions due to the O&W Plan. This lien is
subordinate to liens that secure accounts receivable financing and certain
notes
payable.
Future
Trends
We
believe that our operations, as currently structured, together with our current
financial resources, will result in improved financial performance in future
years. Although our future prospects appear promising, the lengthy government
financing and procurement processes may result in operating losses until sales
increase to support our infrastructure and provide consistent cash flow to
support profitability.
In
the
future, we may issue additional debt or equity securities to satisfy our cash
needs. Any debt incurred or issued may be secured or unsecured, at fixed or
variable interest rates and may contain other terms and conditions that our
board of directors deems prudent. Any sales of equity securities may be at
or
below current market prices. We cannot assure you that we will be successful
in
generating sufficient capital to adequately fund our working capital
needs.
Results
of Operations
Comparison
of Three and Nine Month Periods ended September 30, 2007 and
2006
The
trends suggested by the following tables are not indicative of future operating
results due to the relatively short track record that we have in focusing on
providing IT consulting services.
The
following table compares our statements of operations data for the three months
ended September 30, 2007 and 2006.
|
|
Three
Months Ended September 30,
|
|
|
|
|
|
|
|
|
|
|
|
2007
vs. 2006
|
|
|
|
|
|
As
a % of
|
|
|
|
As
a % of
|
|
Amount
of
|
|
%
Increase
|
|
|
|
2007
|
|
Sales
|
|
2006
|
|
Sales
|
|
Change
|
|
(Decrease)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales
|
|
$
|
2,063,644
|
|
|
100.0
|
%
|
$
|
1,427,434
|
|
|
100.0
|
%
|
$
|
6
36,210
|
|
|
44.6
|
%
|
Cost
of services
|
|
|
1,570,556
|
|
|
76.1
|
|
|
1,085,785
|
|
|
76.1
|
|
|
484,771
|
|
|
44.6
|
|
Gross
profit
|
|
|
493,088
|
|
|
23.9
|
|
|
341,649
|
|
|
23.9
|
|
|
151,439
|
|
|
44.3
|
|
General
and administrative
|
|
|
238,890
|
|
|
11.6
|
|
|
184,559
|
|
|
12.9
|
|
|
54,331
|
|
|
29.4
|
|
Defined
benefit pension plan
|
|
|
84,017
|
|
|
4.1
|
|
|
250,587
|
|
|
17.6
|
|
|
(166,570
|
)
|
|
(66.5
|
)
|
Selling
|
|
|
415,325
|
|
|
20.1
|
|
|
427,178
|
|
|
29.9
|
|
|
(11,853
|
)
|
|
(2.8
|
)
|
Research
and development
|
|
|
1,553
|
|
|
|
|
|
62,009
|
|
|
|
|
|
|
|
|
|
|
Impairment
loss
|
|
|
-
|
|
|
.0
|
|
|
130,767
|
|
|
9.2
|
|
|
(130,767
|
)
|
|
|
|
Depreciation
and amortization
|
|
|
7,892
|
|
|
.4
|
|
|
30,361
|
|
|
2.1
|
|
|
(22,469
|
)
|
|
(74.0
|
)
|
Total
costs and expenses
|
|
|
747,677
|
|
|
36.2
|
|
|
1,085,461
|
|
|
76.0
|
|
|
(337,784
|
)
|
|
(31.1
|
)
|
Operating
loss
|
|
|
(254,589
|
)
|
|
(12.3
|
)
|
|
(743,812
|
)
|
|
(52.1
|
)
|
|
489,223
|
|
|
|
|
Interest
expense, net
|
|
|
(69,624
|
)
|
|
(3.4
|
)
|
|
(56,551
|
)
|
|
(4.0
|
)
|
|
(13,073
|
)
|
|
23.1
|
%
|
Other
(loss)
|
|
|
(1,634
|
)
|
|
(.1
|
)
|
|
-
|
|
|
.0
|
|
|
(1,634
|
)
|
|
|
|
Net
loss
|
|
$
|
(325,847
|
)
|
|
(15.8)
|
%
|
$
|
(800,363
|
)
|
|
(56.1)
|
%
|
$
|
474,516
|
|
|
|
|
Net
loss per share - basic and diluted
|
|
$
|
(.01
|
)
|
|
|
|
$
|
(.04
|
)
|
|
|
|
$
|
.03
|
|
|
|
|
The
following table compares our statements of operations data for the nine months
ended September 30, 2007 and 2006.
|
|
Nine
Months Ended September 30,
|
|
|
|
|
|
|
|
|
|
|
|
2007
vs. 2006
|
|
|
|
|
|
As
a % of
|
|
|
|
As
a % of
|
|
Amount
of
|
|
%
Increase
|
|
|
|
2007
|
|
Sales
|
|
2006
|
|
Sales
|
|
Change
|
|
(Decrease)
|
|
Sales
|
|
$
|
6,008,314
|
|
|
100.0
|
%
|
$
|
4,391,436
|
|
|
100.0
|
%
|
$
|
1
,616,878
|
|
|
36.8
|
%
|
Cost
of services
|
|
|
4,322,505
|
|
|
71.9
|
|
|
3,440,561
|
|
|
78.3
|
|
|
881,944
|
|
|
25.6
|
|
Gross
profit
|
|
|
1,685,809
|
|
|
28.1
|
|
|
950,875
|
|
|
21.7
|
|
|
734,934
|
|
|
77.3
|
|
General
and administrative
|
|
|
631,370
|
|
|
10.5
|
|
|
706,981
|
|
|
16.1
|
|
|
(75,611
|
)
|
|
(10.7
|
)
|
Defined
benefit pension plan
|
|
|
273,035
|
|
|
4.5
|
|
|
342,370
|
|
|
7.8
|
|
|
(69,335
|
)
|
|
(20.3
|
)
|
Selling
|
|
|
1,118,089
|
|
|
18.6
|
|
|
1,243,369
|
|
|
28.3
|
|
|
(125,280
|
)
|
|
(10.1
|
)
|
Research
and development
|
|
|
88,807
|
|
|
1.5
|
|
|
202,719
|
|
|
4.6
|
|
|
(113,912
|
)
|
|
(56.2
|
)
|
Impairment
loss
|
|
|
-
|
|
|
.0
|
|
|
130,767
|
|
|
3.0
|
|
|
(130,767
|
)
|
|
|
|
Depreciation
and amortization
|
|
|
26,009
|
|
|
.4
|
|
|
73,988
|
|
|
1.7
|
|
|
(47,979
|
)
|
|
(64.8
|
)
|
Total
costs and expenses
|
|
|
2,137,310
|
|
|
35.6
|
|
|
2,700,194
|
|
|
61.5
|
|
|
(562,884
|
)
|
|
(20.8
|
)
|
Operating
loss
|
|
|
(451,501
|
)
|
|
(7.5
|
)
|
|
(1,749,319
|
)
|
|
(39.8
|
)
|
|
1,297,818
|
|
|
|
|
Interest
expense, net
|
|
|
(199,413
|
)
|
|
(3.3
|
)
|
|
(143,241
|
)
|
|
(3.3
|
)
|
|
(56,172
|
)
|
|
39.2
|
|
Other
income
|
|
|
4,957
|
|
|
.1
|
|
|
498,088
|
|
|
11.3
|
|
|
(493,131
|
)
|
|
(99.0
|
)
|
Income
tax expense
|
|
|
(605
|
)
|
|
(.0
|
)
|
|
(7,300
|
)
|
|
(.2
|
)
|
|
6,695
|
|
|
(91.7
|
)%
|
Net
loss
|
|
$
|
(646,562
|
)
|
|
(10.8
|
)
|
$
|
(1,401,772
|
)
|
|
(31.9
|
)
|
$
|
755,210
|
|
|
|
|
Net
loss per share - basic and diluted
|
|
$
|
(.03
|
)
|
|
|
|
$
|
(.07
|
)
|
|
|
|
$
|
.04
|
|
|
|
|
Sales
Sales
for
the three months ended September 30, 2007 were $2,063,644, an increase of
$636,210 or 44.6% as compared to sales for the three months ended September
30,
2006 of $1,427,434. Sales for the nine months ended September 30, 2007 were
$6,008,314, an increase of $1,616,878 or 36.8% as compared to sales for the
nine
months ended September 30, 2006 of $4,391,436. A significant portion of this
increase was a result of sales from new projects including significant server
virtualization projects for a major establishment of the U.S. Government.
Server
virtualization involves the creation, allocation, and management of “virtual
machines,” which entails the virtual representation of hardware by a software
system. Traditional “physical servers,” which typically run at only 5% to 15% of
their capacity, can now be consolidated with the use of specialized software
such as VMware to increase server utilization by a factor of ten to one or
even
greater. Reducing the number of physical machines required in a typical
environment provides numerous and obvious benefits, including equipment cost
savings, reduced operational maintenance costs, easier backup, improved
availability, and better security. Due to the substantial energy savings
resulting from reduced infrastructure, virtualization is also a “green”
technology. We continue to devote substantial resources to support our expanding
server and desktop virtualization practice.
In
March
2006, one of our subcontracts for services to the U.S. Department of Homeland
Security ended when the project ended. Most of our government contracts have
a
lifecycle; there is a beginning, middle and an end. Contracts end naturally
when
projects are completed or when appropriations of funds have been fully depleted
and new appropriations have not been approved. Our ongoing business development
efforts entail the submission of numerous contract proposals and the
identification of opportunities for other new contracts to replace sales that
do
not continue in the ordinary course of business and to increase our sales.
We
are
actively pursuing opportunities to develop additional sales from new and
existing target markets. In March 2006, we opened a regional office in Jackson,
Mississippi, and hired a new business development employee and retained a
lobbying firm to pursue state and local government business opportunities within
the Gulf Coast region. We have made inroads within the state and local
government market in Mississippi, although the sales cycle has been longer
than
we anticipated. Nevertheless, we remain committed to developing the state and
local government market and are optimistic about our prospects in Mississippi
and several other states. Moreover, we are also channeling energies towards
forming alliances with large systems integrators, who are mandated by federal
policy to direct defined percentages of their work to small business
subcontractors. In addition, we are currently working on proposals for contract
awards that we believe will enhance our position as a government contractor.
Early
successes in our recent initiatives are evident in the preferred relationships
we have earned with several large systems integrators and one major product
house. In August 2007, we were notified that we were part of a team led by
a
large systems integrator that was awarded a Government Wide Acquisition Contract
(GWAC) under GSA’s $50 billion Alliant program. In addition, we are a member of
a team that won the U.S. State Department’s recent Hybrid Information Technology
Support Services (HITSS) contract and a member of a team that won a $36 million
contract
to
support the Navy’s Enterprise Maintenance Automated Information System (NEMAIS)
data center operations
in
Norfolk, Virginia and Puget Sound, Washington State. The acquisition of these
contract vehicles allows us additional opportunities to bid on new projects.
Although we believe our future prospects are robust, the lengthy government
financing and procurement processes may result in continuing operating losses
until sales increase to support our infrastructure.
Cost
of Services and Gross Profit
Cost
of
services represents the cost of employee services related to the IT Services
Group. Cost of services for the three months ended September 30, 2007 was
$1,570,556 or 76.1% of sales as compared to $1,085,785 or 76.1% of sales for
the
three months ended September 30, 2006. Gross profit was $493,088 or 23.9% of
sales for the three months ended September 30, 2007 compared to $341,649 or
23.9% of sales for the three months ended September 30, 2006. Cost of services
for the nine months ended September 30, 2007 was $4,322,505 or 71.9% of sales
as
compared to $3,440,561 or 78.3% of sales for the nine months ended September
30,
2006. Gross profit was $1,685,809 or 28.1% of sales for the nine months ended
September 30, 2007 compared to $950,875 or 21.7% of sales for the nine months
ended September 30, 2006.
The
increase in gross profit in 2007 is due to a change in the mix of our business
resulting from new projects at improved profit margins and a reduction in the
costs of employees who did not generate billable sales after contract
reductions.
Although
our objective is to maintain an overall gross margin of approximately 30%,
in
the future we may submit bids on new work with lower gross profit margins to
generate opportunities for long-term, larger volume contracts and more stable
sales.
General
and Administrative Expenses
General
and administrative expenses include corporate overhead such as compensation
and
benefits for administrative and finance personnel, rent, insurance, professional
fees, travel, and office expenses. General and administrative expenses for
the
three months ended September 30, 2007 were $238,890 which was an increase of
$54,331 or 29.4% as compared to $184,559 for the three months ended September
30, 2006 due to slight increases in a variety of general and administrative
expense categories and the reassignment of an independent consultant from
research and development when the TouchThru™ development activities ended. As a
percentage of sales, general and administrative expenses were 11.6% for the
three months ended September 30, 2007 as compared to 12.9% for the three months
ended September 30, 2006.
General
and administrative expenses for the nine months ended September 30, 2007
decreased by $75,611 or 10.7%. As a percentage of sales, general and
administrative expenses were 10.5% for the nine months ended September 30,
2007
and 16.1% for the nine months ended September 30, 2006. This change was due
in
part to an increase in sales for the nine months ended September 30, 2007
compared to 2006. In 2007, we experienced a decrease in compensation expense
of
$41,200 from consolidating certain administrative functions, which were offset
by the expenses associated with the reassignment of an independent consultant
from research and development when the TouchThru™ development activities ended.
In addition, we incurred certain non-recurring expenses in 2006 including legal
fees of $25,000 due to administering our contracts and annual stockholder
meeting proxy expenses of approximately $18,400.
We
anticipate that general and administrative expenses will increase as we continue
to grow our business and incur travel and other expenses associated with
managing a larger business, however, we anticipate that general and
administrative expenses will decline as a percentage of sales as our sales
increase.
Defined
Benefit Pension Plan Expenses
Defined
benefit pension plan expenses are expenses (including pension expense, excise
taxes, professional services, and interest costs) associated with the O&W
Plan. These expenses were $84,017 for the three months ended September 30,
2007
and $250,587 for the three months ended September 30, 2006, a decrease of
$166,570, and $273,035 for the nine months ended September 30, 2007 and $342,370
for the nine months ended September 30, 2006, a decrease of $69,335. The
decrease in expense is due to recording excise taxes of $200,000 during the
three months ended September 30, 2006 which are offset by accruing additional
interest on unfunded contributions and increases in legal and professional
fees
during 2007.
During
2006, the Pension Benefit Guarantee Corporation placed a lien on all of our
assets to secure pension payments due under the O&W Plan. This lien is
subordinate to liens that secure accounts receivable financing and certain
notes
payable.
Although
we have acted as the sponsor of the O&W Plan since we acquired O&W,
recently it was determined that we may not have had, or currently have, a legal
obligation to do so since December 30, 2002 when we sold all of the common
stock
of O&W to a third party. During the nine months ended September 30, 2007, we
incurred additional legal and professional fees in connection with advocating
this position with the appropriate regulatory authorities to ascertain whether
they concur or disagree with this determination. We are seeking the concurrence
of the Department of Treasury and have recently provided to them the information
related to our determination. They are presently reviewing this
information.
If
our
current efforts do not result in a concurrence with our position, we intend
to
pursue all appropriate further avenues to prevail in our position. Depending
upon the ultimate outcome regarding our obligations as sponsor of the O&W
Plan, adjustments to our financial statements may be necessary.
Selling
Expenses
For
the
three months ended September 30, 2007, we incurred selling expenses of $415,325
associated with growing the business in our IT Services Group as compared to
$427,178 for the three months ended September 30, 2006, a decrease of 11,853
or
2.8%. For the nine months ended September 30, 2007 we incurred selling expenses
of $1,118,089 associated with growing business in our IT Services Group compared
to $1,243,369 for the nine months ended September 30, 2006, a decrease of
$125,280 or 10.1%.
Selling
expenses consist of our business development staff including salaries, benefits,
sales consultants, travel expenses, and occupancy expenses. As a result of
the
completion of one subcontract during the first quarter of 2006, we reduced
certain salaried selling positions. During the second quarter of 2006, we hired
new business development personnel, including a new business development
director. In June 2007, we hired a new business development employee to focus
efforts toward increasing sales of
physical
to virtual server consolidation projects
.
In
August 2007, we hired two additional employees to focus more effort in
generating business opportunity leads and writing proposals for new
projects.
We
experienced a decrease in consulting expense of $9,525 and $103,982 for the
three and nine months ended September 30, 2007, respectively, as a result of
our
hiring of a consultant as an employee in the third quarter of 2006 and our
reduction of the use and rate of compensation to other independent consultants.
We
continued to incur expenses during the three and nine months ended September
30,
2007 associated with our business development efforts in the Gulf Coast
region.
Research
and Development Expenses and Impairment Loss
For
the
three months ended September 30, 2007, we recorded $1,553 of research and
development expenses, a decrease of $60,456 compared to $62,009 for the three
months ended September 30, 2006. For the nine months ended September 30, 2007,
we recorded $88,807 of research and development expenses compared to $202,719
for the nine months ended September 30, 2006, a decrease of $113,912. In 2007,
these expenses were principally related to the development of an access control
terminal and related software called TouchThru™. During the three months ended
September 30, 2007, we ended development activities and related expenses for
TouchThru™ and reassigned an independent consultant from these development
efforts to other business activities. TouchThru™ is a self-contained terminal
enabling physical access control using biometric identification. It incorporates
fingerprint matching technology licensed from Ultra-Scan Corporation, a private
technology company headquartered in Buffalo, New York.
During
the three months ended September 30, 2006, we recorded an impairment loss of
$130,767 related to the carrying costs of TouchThru™ capitalized software
development costs, tooling costs and inventory. Our TouchThru™ unit was designed
around Ultra-Scan’s unique ultrasonic scanner. We anticipate that Ultra-Scan
will improve the technology by designing a next generation scanner that will
be
smaller, lighter and less costly. We expect this will result in a substantial
reduction in the costs of components to build our TouchThru™ unit and
accordingly a substantial reduction in our sales price. As a result of the
evolution of our business strategy, during the three months ended September
30,
2006, we recorded an impairment loss for a portion of capitalized software
development costs, all of the capitalized tooling costs and the related
inventory.
We
believe that significant resources will be required to market and sell a newly
designed TouchThru™ product that is based on Ultra-Scan’s next generation
scanner. For example, we will be required to re-design our TouchThru™ unit based
on the next generation of this technology and offer for sale a newly designed
unit when it is completed. Given our limited financial resources at this time
and other business priorities, this will be deferred until the market is better
established and we have the necessary working capital to support this product.
We will continue to monitor the market and determine the appropriate time to
enter this market.
Depreciation
and Amortization Expenses
Depreciation
and amortization expense decreased by $22,649 to $7,892 for the three months
ended September 30, 2007 compared to $30,361 for the three months ended
September 30, 2006. For the nine months ended September 30, 2007, depreciation
and amortization expense decreased by $47,979 to $26,009 compared to $73,988
for
the nine months ended September 30, 2006. The decrease is due to less
depreciation and amortization of assets related to the TouchThru™ product, which
was considered impaired and written off during the last two quarters of
2006.
Operating
Loss
For
the
three months ended September 30, 2007 our operating loss was $(254,589) compared
to an operating loss of $(743,812) for the three months ended September 30,
2006; an improvement of $489,223. This is principally attributable to the
following factors:
first,
our sales increased by $636,210 from $1,427,434 in 2006 to $2,063,644 in 2007;
second, our gross profit increased by $151,439 from $341,649 in 2006 to $493,088
in 2007; and third, we realized a decrease in total operating expenses of
$337,784 from $1,085,461 in 2006 to $747,677 in 2007.
For
the
nine months ended September 30, 2007 our operating loss was $(451,501) compared
to an operating loss of $(1,749,319) for the nine months ended September 30,
2006; an improvement of $1,297,818. This is principally attributable to the
following factors:
first,
our sales increased by $1,616,878 from $4,391,436 in 2006 to $6,008,314 in
2007;
second, our gross profit increased by $734,934 from $950,875 in 2006 to
$1,685,809 in 2007; and third, we realized a decrease in total operating
expenses of $562,884 from $2,700,194 in 2006 to $2,137,310 in 2007.
Net
Interest Expense
Net
interest expense consists of interest income offset by interest expense on
indebtedness and fees for financing accounts receivable invoices. Net interest
expense was $69,624 for the three months ended September 30, 2007 compared
to
net interest expense of $56,551 for the three months ended September 30, 2006.
Net interest expense was $199,413 for the nine months ended September 30, 2007
compared to net interest expense of $143,241 for the nine months ended September
30, 2006. The increase in net interest expense of $13,073 and $56,172, for
the
three and nine months ended September 30, 2007, respectively, was principally
due to an increase in the length of term and volume of accounts receivable
invoices that were financed in 2007.
Other
Income (Loss)
For
the
three months ended September 30, 2007, we had a loss of $1,634 compared to
$0
for the three months ended September 30, 2006. For the nine months ended
September 30, 2007, we had other income of $4,957 compared to $498,088 for
the
nine months ended September 30, 2006.
We
received and recorded other income of $498,088, net of legal fees and expenses
of $164,412, in the first quarter of 2006. We were the plaintiff in a lawsuit
filed in the Superior Court, State of Rhode Island on August 13, 1999
captioned Infinite Group, Inc. vs. Spectra Science Corporation and Nabil
Lawandy. In the action, we asserted that by fraud and in breach of fiduciary
duties owed, Spectra and its president, Nabil Lawandy, caused us to sell to
Spectra shares of Spectra’s Series A Preferred stock at a substantial discount
to fair market value. We alleged that in entering into the transaction it relied
on various representations made by Spectra and Mr. Lawandy, which were untrue
at
the time they were made. The trial was completed in February 2005, and the
jury
returned a verdict in our favor in the amount of approximately $600,000. We
appealed the amount of the verdict and entered into a settlement with the
defendants in January 2006 and recorded other income of $498,088.
Income
Taxes
Income
tax expense was
$0
for
the three months ended September 30, 2007 and 2006, respectively. Income tax
expense was $605 and $7,300 for the nine months ended September 30, 2007 and
2006, respectively, consisting of state taxes.
Net
Loss
For
the
three months ended September 30, 2007,
we
recorded a net loss in the amount of $(325,847) or $(.01) per share compared
to
a net loss of $(800,363) or $(.04) per share for the three months ended
September 30, 2006
.
The
improvement in net loss of $474,516 is principally attributable to an increase
in gross profit of $151,439 and a decrease in operating costs and expenses
of
$337,784. For the three months ended September 30, 2007 and 2006, we recorded
expense of $97,009 and $77,853, respectively, for employee stock options expense
under SFAS 123R and $25,595 and $5,697, respectively, for equity instruments
issued to consultants.
For
the
nine months ended September 30, 2007,
we
recorded a net loss in the amount of $(646,562) or $(.03) per share compared
to
a net loss of $(1,401,772) or $(.07) per share for the nine months ended
September 30, 2006
.
The
improvement in net loss of $755,210 is principally attributable to an increase
in gross profit of $734,934 and a decrease in operating costs and expenses
of
$562,884, which were offset in part by an increase in net interest expense
of
$56,172, a decreases in other income of $493,131 and state income taxes of
$6,695.
Stock-Based
Compensation
In
the
following table, we present adjustments and pro forma amounts to reflect the
impact that the adoption of SFAS 123R related to employee stock options had
on
our financial statements including net loss for the nine months ended September
30, 2007 and 2006. Such expenses are allocated in the same manner as employee
salary expense. We believe that these non-generally accepted accounting
principles (GAAP) financial measures provide investors useful information to
facilitate the comparison of current performance to prior performance. These
non-GAAP measures should not be considered in isolation or as a substitute
for
performance measures in accordance with GAAP.
|
|
Nine
Months Ended September 30,
|
|
|
|
2007
|
|
2007
|
|
2007
|
|
2006
|
|
2006
|
|
2006
|
|
|
|
As
Reported
|
|
Adjustments
|
|
Pro
Forma
|
|
As
Reported
|
|
Adjustments
|
|
Pro
Forma
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales
|
|
$
|
6,008,314
|
|
$
|
-
|
|
$
|
6,008,314
|
|
$
|
4,391,436
|
|
$
|
-
|
|
$
|
4,391,436
|
|
Cost
of services
|
|
|
4,322,505
|
|
|
(67,702
|
)
|
|
4,254,803
|
|
|
3,440,561
|
|
|
(20,372
|
)
|
|
3,420,189
|
|
Gross
profit
|
|
|
1,685,809
|
|
|
67,702
|
|
|
1,753,511
|
|
|
950,875
|
|
|
20,372
|
|
|
971,247
|
|
General
and administrative
|
|
|
631,370
|
|
|
(12,636
|
)
|
|
618,734
|
|
|
706,981
|
|
|
(8,485
|
)
|
|
698,496
|
|
Defined
benefit pension plan
|
|
|
273,035
|
|
|
-
|
|
|
273,035
|
|
|
342,370
|
|
|
-
|
|
|
342,370
|
|
Selling
|
|
|
1,118,089
|
|
|
(99,730
|
)
|
|
1,018,359
|
|
|
1,243,369
|
|
|
(145,523
|
)
|
|
1,097,846
|
|
Research
and development
|
|
|
88,807
|
|
|
-
|
|
|
88,807
|
|
|
202,719
|
|
|
-
|
|
|
202,719
|
|
Impairment
loss
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
130,767
|
|
|
-
|
|
|
130,767
|
|
Depreciation
and amortization
|
|
|
26,009
|
|
|
-
|
|
|
26,009
|
|
|
73,988
|
|
|
-
|
|
|
73,988
|
|
Total
costs and expenses
|
|
|
2,137,310
|
|
|
(112,366
|
)
|
|
2,024,944
|
|
|
2,700,194
|
|
|
(154,008
|
)
|
|
2,546,186
|
|
Operating
loss
|
|
|
(451,501
|
)
|
|
180,068
|
|
|
(271,433
|
)
|
|
(1,749,319
|
)
|
|
174,380
|
|
|
(1,574,939
|
)
|
Interest
expense, net
|
|
|
(199,413
|
)
|
|
-
|
|
|
(199,413
|
)
|
|
(143,241
|
)
|
|
-
|
|
|
(143,241
|
)
|
Other
income
|
|
|
4,957
|
|
|
-
|
|
|
4,957
|
|
|
498,088
|
|
|
-
|
|
|
498,088
|
|
Income
tax expense
|
|
|
(605
|
)
|
|
-
|
|
|
(605
|
)
|
|
(7,300
|
)
|
|
-
|
|
|
(7,300
|
)
|
Net
loss
|
|
$
|
(646,562
|
)
|
$
|
180,068
|
|
$
|
(466,494
|
)
|
$
|
(1,401,772
|
)
|
$
|
174,380
|
|
$
|
(1,227,392
|
)
|
Net
loss per share - basic
|
|
$
|
(.03
|
)
|
$
|
.01
|
|
$
|
(.02
|
)
|
$
|
(.07
|
)
|
$
|
.01
|
|
$
|
(.06
|
)
|
We
recorded expense of $74,488 and $17,091 for equity instruments issued to
consultants for the nine months ended September 30, 2007 and 2006, respectively.
Liquidity
and Capital Resources
At
September 30, 2007, we had cash of $8,643 available for our working capital
needs and planned capital asset expenditures, a working capital deficit of
approximately $2,445,000 and a current ratio of .22. The O&W Plan current
liabilities have a significant impact on our working capital. Without the
current liabilities of the O&W Plan of approximately $1,975,000, working
capital would be a deficit of approximately $470,000. Our objective is to
improve our working capital position from profitable operations. If we continue
to incur operating losses or net losses, we may continue to experience working
capital shortages that impair our business operations and growth strategy.
Presently, we have sufficient cash flow and short-term financing sources,
including sales with recourse of accounts receivable, to pay our payrolls and
recurring invoices on a timely basis.
We
have
financed the activity of our IT Services Group through the issuance of notes
payable to third parties, including related parties, private placements of
common stock and financing through sales with recourse of our accounts
receivable.
We
have
available a financing line of up to $800,000 with a financial institution that
allows us to sell selected accounts receivable invoices to the financial
institution with full recourse against us. We pay fees based on the length
of
time that the invoice remains unpaid. At September 30, 2007, we had
approximately $200,000 of availability under this line and could finance up
to
another approximately $200,000 based on eligible accounts receivable at
September 30, 2007.
We
have
used our common stock to provide compensation to certain employees and
consultants and to fund liabilities. For the nine months ended September 30,
2007 we recorded expense of $37,800 related to a warrant issued to a consultant
who has met a portion of his performance criteria by assisting us with
increasing our sales in 2007. During this period we also recorded expense of
$37,188 related to a warrant for 100,000 shares of our common stock and 100,000
shares of our common stock issued to another consultant for services to be
performed over one year.
During
the nine months ended September 30, 2006, we issued non-qualified stock options
and warrants to other service providers and recorded $17,091 of expense related
to these issuances.
Successes
in our 2006 and 2007 initiatives are evident in the preferred relationships
we
have earned with several large systems integrators and one major product house.
In addition, we are a member of a team that won the U.S. State Department’s
recent Hybrid Information Technology Support Services (HITSS) contract and
a
member of a team that won a $36 million contract
in
October 2007 to support the U.S. Navy’s Enterprise Maintenance Automated
Information System (NEMAIS) data center operations
in
Norfolk, Virginia and Puget Sound, Washington. In June 2006, we were awarded
a
prime contract under the Department of the Navy’s SeaPort-Enhanced (SeaPort-e)
program. This contract allows us to compete for and perform service requirements
solicited by various Navy commands, the Marine Corps, other organizations within
the Department of Defense (DoD), non-DoD agencies, and certain joint agency
organizations for work that is integrally related to the scope and mission
of
the contract. This work involves professional services in
all
phases of naval ship and weapon systems acquisition and life-cycle support,
including
research and development support, prototyping, technology analysis, acquisition
logistics, project management support, modeling, test and evaluation trials,
crisis and consequence management, and engineering support. (The NEMAIS Data
Center contract referenced above was procured using the SeaPort-e contract
vehicle.)
During
2007, we were approved as a VMware Authorized Consultant (VAC) by VMware, Inc.
(NYSE:VMW), a subsidiary of EMC Corporation (NYSE:EMC). VMware is recognized
as
the industry leader in virtualization technology. As a VAC, we are trained
and
certified to deliver consulting services and solutions leveraging VMware
technology. We are also certified as aVMware Enterprise VIP Reseller authorized
to resell VMware’s full product line. We are actively working with a number of
potential customers in that regard. These certifications are examples of our
concerted effort to grow and expand our server virtualization practice.
Server
virtualization involves the creation, allocation, and management of “virtual
machines,” which entails the virtual representation of hardware by a software
system. What this means is that traditional “physical servers,” which typically
run at only 5% to 15% of their capacity, can now be consolidated with the use
of
specialized software such as VMware to increase server utilization by a factor
of ten to one or even greater. Reducing the number of physical machines required
in a typical environment provides numerous and obvious benefits, including
equipment cost savings, reduced operational maintenance costs, easier backup,
improved availability, and better security. Due to the substantial energy
savings resulting from reduced infrastructure, virtualization is also a “green”
technology.
In
July
2007, we were accepted into the Hewlett Packard (NYSE:HPQ) Developer and
Solutions Partner Program (DSPP).
DSPP
provides us with a mechanism to work with HP and our joint customers and
prospects to provide solutions and services that complement HP's broad portfolio
of products and services. HP has many tools and resources to help us generate
new revenue streams, and improve our mutual profitability, while at the same
time adding unique value for our joint customers. The program comprises
practical tools and services that we hope will help us in the key areas of
marketing and selling our solutions, optimizing the technology, and
collaborating with other organizations within our industry.
In
August
2007, we were notified that we were part of a team led by a large systems
integrator that was awarded a Government Wide Acquisition Contract (GWAC) under
GSA’s $50 billion Alliant program. The competitively awarded GSA Alliant
contract is a multiple-award, indefinite-delivery, indefinite-quantity (IDIQ)
contract with a ceiling value of $50 Billion. The GSA's Alliant Government-wide
Acquisition Contract is for ten years and can be utilized by all federal and
Department of Defense agencies. The lead systems integrator and its team was
one
of 29 companies to receive awards for the contract which will support national
security in areas such as infrastructure protection, anti-terrorism and emerging
technologies.
The
acquisition of these contract vehicles allows us additional opportunities to
bid
on new projects.
Although
our future prospects appear promising, the lengthy government financing and
procurement processes may result in continuing operating losses until sales
increase to support our infrastructure.
In
the
future, we may issue additional debt or equity securities to satisfy our cash
needs. Any debt incurred or issued may be secured or unsecured, at a fixed
or
variable interest rates and may contain other terms and conditions that our
board of directors deems prudent. Any sales of equity securities may be at
or
below current market prices. We cannot assure you that we will be successful
in
generating sufficient capital to adequately fund our working capital
needs.
Risk
Factors
You
should consider the risk factors included in our Annual Report on Form 10-KSB
for the year ended December 31, 2006 in evaluating our business and us.
Additional risks and uncertainties not presently known to us, which we currently
deem immaterial or that are similar to those faced by other companies in our
industry or business in general, such as competitive conditions, may also impair
our business operations. If any of the results of the risks occur, our business,
financial condition, or results of operations could be materially adversely
affected.