NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note
1 - Accounting Policies
Organization
and Business
Conversion
Services International, Inc. (“CSI” or the “Company”) was incorporated in the
State of Delaware and has been conducting business since 1990. CSI and its
subsidiaries (together the “Company”) are principally engaged in the information
technology services industry in the following areas: strategic consulting,
business intelligence/data warehousing and data management, on credit, to its
customers principally located in the northeastern United States.
CSI
was
formerly known as LCS Group, Inc. (“LCS”). In January 2004, CSI merged with and
into a wholly owned subsidiary of LCS. In connection with this transaction,
among other things, LCS changed its name to “Conversion Services International,
Inc.”
Basis
of Presentation
The
accompanying condensed consolidated financial statements have been prepared
by
the Company and are unaudited. The results of operations for the three and
nine
months ended September 30, 2007 are not necessarily indicative of the results
to
be expected for any future period or for the full fiscal year. In the opinion
of
management, all adjustments (consisting of normal recurring adjustments unless
otherwise indicated) necessary to present fairly the financial position, results
of operations and cash flows at September 30, 2007, and for all periods
presented, have been made. Footnote disclosure has been condensed or omitted
as
permitted by Securities and Exchange Commission rules over interim financial
statements.
These
condensed consolidated financial statements should be read in conjunction with
the annual audited consolidated financial statements and the notes thereto
included in the Company’s Annual Report on Form 10-K/A for the year ended
December 31, 2006 and other reports filed with the Securities and Exchange
Commission.
Principles
of Consolidation
The
accompanying condensed consolidated financial statements include the accounts
of
the Company and its subsidiaries, DeLeeuw Associates, Inc. and CSI Sub Corp.
(DE) (in December 2006, former subsidiary Integrated Strategies, Inc. was merged
with and into DeLeeuw Associates, Inc., former subsidiary McKnight Associates,
Inc. was merged with and into CSI Sub Corp. (DE), and CSI Sub Corp. II (DE)
was
dissolved). All intercompany transactions and balances have been eliminated
in the consolidation. Investments in business entities in which the Company
does
not have control, but has the ability to exercise significant influence
(generally 20-50% ownership), are accounted for by the equity
method.
Revenue
recognition
Revenue
from consulting and professional services is recognized at the time the services
are performed on a project by project basis. For projects charged on a time
and
materials basis, revenue is recognized based on the number of hours worked
by
consultants at an agreed-upon rate per hour. For large services projects where
costs to complete the contract could reasonably be estimated, the Company
undertakes projects on a fixed-fee basis and recognizes revenues on the
percentage of completion method of accounting based on the evaluation of actual
costs incurred to date compared to total estimated costs. Revenues recognized
in
excess of billings are recorded as costs in excess of billings. Billings in
excess of revenues recognized are recorded as deferred revenues until revenue
recognition criteria are met. Reimbursements, including those relating to travel
and other out-of-pocket expenses, are included in revenues, and the actual
cost
incurred for consultant expenses is included in cost of services.
Business
Combinations
Business
combinations are accounted for in accordance with SFAS No. 141, “
Business
Combinations
”
(“SFAS 141”), which requires the purchase method of accounting for business
combinations be followed and in accordance with EITF No. 99-12 “
Determination
of the Measurement Date for the Market Price of Acquirer Securities Issued
in a
Purchase Business Combination”
(“EITF
99-12”)
.
In
accordance with SFAS 141, the Company determines the recognition of
intangible assets based on the following criteria: (i) the intangible asset
arises from contractual or other rights; or (ii) the intangible is
separable or divisible from the acquired entity and capable of being sold,
transferred, licensed, returned or exchanged. In accordance with SFAS 141,
the Company allocates the purchase price of its business combinations to the
tangible assets, liabilities and intangible assets acquired based on their
estimated fair values. The excess purchase price over those fair values is
recorded as goodwill. Additionally, in accordance with EITF 99-12, the Company
values an acquisition based upon the market price of its common stock for a
reasonable period before and after the date the terms of the acquisition are
agreed upon and announced.
Accounts
receivable
The
Company carries its accounts receivable at cost less an allowance for doubtful
accounts. On a periodic basis, the Company evaluates its accounts receivable
and
adjusts the allowance for doubtful accounts, when deemed necessary, based upon
its history of past write-offs and collections, contractual terms and current
credit conditions.
Property
and equipment
Property
and equipment are stated at cost and includes equipment held under capital
lease
arrangements. Depreciation is computed principally by an accelerated method
and
is based on the estimated useful lives of the various assets ranging from three
to seven years. Leasehold improvements are amortized over the shorter of the
asset life or the remaining lease term on a straight-line basis. When assets
are
sold or retired, the cost and accumulated depreciation are removed from the
accounts and any gain or loss is included in operations.
Expenditures
for maintenance and repairs have been charged to operations. Major renewals
and
betterments have been capitalized.
Goodwill
and intangible assets
Goodwill
and intangible assets are accounted for in accordance with
SFAS No. 142 “
Goodwill
and Other Intangible Assets
”
(“SFAS 142”). Under SFAS 142, goodwill and indefinite lived intangible
assets are not amortized but instead are reviewed annually for impairment,
or
more frequently if impairment indicators arise. Separable intangible assets
that
are not deemed to have an indefinite life will continue to be amortized over
their estimated useful lives. The Company tests for impairment whenever events
or changes in circumstances indicate that the carrying amount of goodwill or
other intangible assets may not be recoverable, or at least annually at December
31 of each year. These tests are performed at the reporting unit level using
a
two-step, fair-value based approach. The first step compares the fair value
of
the reporting unit with its carrying amount, including goodwill. If the fair
value of the reporting unit is less than its carrying amount, a second step
is
performed to measure the amount of impairment loss. The second step allocates
the fair value of the reporting unit to the Company’s tangible and intangible
assets and liabilities. This derives an implied fair value for the reporting
unit’s goodwill. If the carrying amount of the reporting unit’s goodwill exceeds
the implied fair value of that goodwill, an impairment loss is recognized equal
to that excess. In the event that the Company determines that the value of
goodwill or other intangible assets have become impaired, the Company will
incur
a charge for the amount of the impairment during the fiscal quarter in which
the
determination is made.
Goodwill
represents the amounts paid in connection with the acquisitions of DeLeeuw
Associates, Inc., Integrated Strategies, McKnight Associates and the assets
of
Scosys, Inc. Additionally, as part of the DeLeeuw Associates, McKnight
Associates and Scosys acquisitions, the Company acquired identifiable intangible
assets.
Acquired
contracts are amortized over a period that approximates the estimated life
of
the contracts, based upon the estimated annual cash flows obtained from those
contracts, generally five years. The approved vendor status intangible asset
was
being amortized over an estimated life of forty months, which expired in June
2007. The proprietary presentation format intangible asset is being amortized
over an estimated life of three years. The customer relationship intangible
asset is being amortized over an estimated life of thirty months.
Deferred
financing costs
The
Company capitalizes costs associated with the issuance of debt instruments.
These costs are amortized on a straight-line basis over the term of the related
debt instruments, which is currently less than one year.
Discount
on debt
The
Company has allocated the proceeds received from conventionally convertible
debt
instruments between the underlying debt instrument and the freestanding
warrants, and has recorded the conversion feature as a discount on the debt
in
accordance with Emerging Issues Task Force No. 00-27 (“EITF 00-27)
“Application
of Issue No. 98-5 to Certain Convertible Instruments”
. The
Company is amortizing the discount using the effective interest rate method
over
the life of the debt instruments.
Financial
Instruments
The
carrying value of the Company’s financial instruments, including cash and cash
equivalents, accounts receivable, accounts payable and accrued liabilities
approximate fair value because of the short maturities of those instruments.
Based on borrowing rates currently available to the Company for loans with
similar terms, the carrying value of convertible notes and notes payable also
approximate fair value.
We
review
the terms of convertible debt and equity instruments we issue to determine
whether there are embedded derivative instruments, including the embedded
conversion option, that are required to be bifurcated and accounted for
separately as a derivative financial instrument. Generally, where the ability
to
physical or net-share settle the conversion option is deemed to be not within
the control of the company, the embedded conversion option is required to be
bifurcated and accounted for as a derivative financial instrument
liability.
In
connection with the sale of convertible debt and equity instruments, we may
also
issue freestanding options or warrants. Additionally, we may issue options
or
warrants to non-employees in connection with consulting or other services they
provide. Although the terms of the options and warrants may not provide for
net-cash settlement, in certain circumstances, physical or net-share settlement
is deemed to not be within the control of the company and, accordingly, we
are
required to account for these freestanding options and warrants as derivative
financial instrument liabilities, rather than as equity.
Derivative
financial instruments are initially measured at their fair value. For derivative
financial instruments that are accounted for as liabilities, the derivative
instrument is initially recorded at its fair value and is then re-valued at
each
reporting date, with changes in the fair value reported as charges or credits
to
income. For option-based derivative financial instruments, we use the
Black-Scholes option pricing model to value the derivative
instruments.
In
circumstances where the embedded conversion option in a convertible instrument
is required to be bifurcated and there are also other embedded derivative
instruments in the convertible instrument that are required to be bifurcated,
the bifurcated derivative instruments are accounted for as a single, compound
derivative instrument.
If
freestanding options or warrants were issued and will be accounted for as
derivative instrument liabilities (rather than as equity), the proceeds are
first allocated to the fair value of those instruments. When the embedded
derivative instrument is to be bifurcated and accounted for as a liability,
the
remaining proceeds received are then allocated to the fair value of the
bifurcated derivative instrument. The remaining proceeds, if any, are then
allocated to the convertible instrument, usually resulting in that instrument
being recorded at a discount from its face amount. In circumstances where a
freestanding derivative instrument is to be accounted for as an equity
instrument, the proceeds are allocated between the convertible instrument and
the derivative equity instrument, based on their relative fair
values.
The
discount from the face value of the convertible debt instrument resulting from
the allocation of part of the proceeds to embedded derivative instruments and/or
freestanding options or warrants is amortized over the life of the instrument
through periodic charges to income, using the effective interest
method.
The
classification of derivative instruments, including whether such instruments
should be recorded as liabilities or as equity, is re-assessed at the end of
each reporting period. Derivative instrument liabilities are classified in
the
balance sheet as current or non-current based on whether or not net-cash
settlement of the derivative instrument is expected within 12 months of the
balance sheet date.
Extinguishment
of debt
In
February 2006, the Company restructured its financing with Laurus Master Fund,
Ltd. (“Laurus”). As a result of this restructuring, the convertible notes which
existed under the prior transaction were replaced with non-convertible notes,
among other things. This transaction was recorded as an early extinguishment
of
debt and the Company included the unamortized portion of both the discount
on
debt and deferred financing costs related to the extinguished debt as a
component of the loss recorded on the early extinguishment of the
debt.
In
March
2007, the Company restructured its financing with both Laurus and three
affiliates of Laidlaw Ltd. (formerly known as Sands Brothers) (“Sands”). As a
result of these restructurings, the convertible notes which existed under the
prior Sands transaction were extinguished and replaced with a non-convertible
note and the Overadvance Side Letter with Laurus was also extinguished. A loss
on the Sands transaction was recorded as an early extinguishment of
debt.
Stock
compensation
SFAS
No. 123 (Revised 2004) (“SFAS No. 123R”), “
Share-Based
Payment
,”
issued in December 2004, is a revision of FASB Statement 123, “
Accounting
for Stock-Based Compensation
”
and
supersedes APB Opinion No. 25, “
Accounting
for Stock Issued to Employees
,” and
its related implementation guidance. The Statement focuses primarily on
accounting for transactions in which an entity obtains employee services in
share-based payment transactions. SFAS No. 123R requires a public entity to
measure the cost of employee services received in exchange for an award of
equity instruments based on the grant-date fair value of the award (with limited
exceptions). That cost will be recognized over the period during which an
employee is required to provide service in exchange for the award. On
March 29, 2005, the SEC issued Staff Accounting Bulletin No. 107 (“SAB
No. 107”), which provides the Staff’s views regarding interactions between
SFAS No. 123R and certain SEC rules and regulations and provides
interpretations of the valuation of share-based payments for public
companies.
SFAS
No. 123(R) permits public companies to adopt its requirements using one of
two methods:
(1)
A
“modified prospective” method in which compensation cost is recognized beginning
with the effective date (a) based on the requirements of SFAS
No. 123(R) for all share-based payments granted after the effective date
and (b) based on the requirements of SFAS No. 123 for all awards
granted to employees prior to the effective date of SFAS No. 123(R) that
remain unvested on the effective date.
(2)
A
“modified retrospective” method which includes the requirements of the modified
prospective method described above, but also permits entities to restate based
on the amounts previously recognized under SFAS No. 123 for purposes of pro
forma disclosures either (a) all prior periods presented or (b) prior
interim periods of the year of adoption.
The
Company is required to adopt this standard effective with the beginning of
the
first annual reporting period that begins after December 15, 2005, therefore,
we
adopted the standard in the first quarter of fiscal 2006 using the modified
prospective method. We previously accounted for share-based payments to
employees using the intrinsic value method prescribed in APB Opinion 25 and,
as
such, generally recognized no compensation cost for employee stock options.
SFAS
No. 123(R) also requires the benefits of tax deductions in excess of
recognized compensation cost to be reported as a financing cash flow, rather
than as an operating cash flow as required under current literature. This
requirement will reduce net operating cash flows and increase net financing
cash
flows in future periods.
The
Company follows EITF No. 96-18, “
Accounting
for Equity Instruments That Are Issued to Other Than Employees for Acquiring,
or
in Conjunction with Selling, Goods or Services
”
(“EITF
96-18”) in accounting for stock options issued to non-employees. Under EITF
96-18, the equity instruments should be measured at the fair value of the equity
instrument issued. During the fiscal years ended December 31, 2004 and 2005,
the
Company granted stock options to non-employee recipients. In compliance with
EITF 96-18, the fair value of these options was determined using the
Black-Scholes option pricing model. The Company is recognizing the fair value
of
these options as expense over the three year vesting period of the
options.
The
per
share weighted average fair value of stock options granted during the three
and
nine months ended September 30, 2006 was $0.61 and $0.51 per share,
respectively, on the date of grant using the Black-Scholes option-pricing model
with the following weighted average assumptions:
|
Expected
dividend yield
|
|
|
0.0
|
%
|
|
Risk-free
interest rate
|
|
|
4.97
|
%
|
|
Expected
volatility
|
|
|
171.68
|
%
|
|
Expected
option life (years)
|
|
|
3.0
|
|
The
per
share weighted average fair value of stock options granted during the three
and
nine months ended September 30, 2007 was $0.25 per share on the date of grant
using the Black-Scholes option-pricing model with the following weighted average
assumptions:
|
Expected
dividend yield
|
|
|
0.0
|
%
|
|
Risk-free
interest rate
|
|
|
4.95
|
%
|
|
Expected
volatility
|
|
|
155.6
|
%
|
|
Expected
option life (years)
|
|
|
3.0
|
|
The
Black-Scholes option pricing model used in this valuation was developed for
use
in estimating the fair value of traded options, which have no vesting
restrictions and are fully transferable. Option valuation models require the
input of highly subjective assumptions. The Company’s stock-based compensation
has characteristics significantly different from those of traded options, and
changes in the assumptions used can materially affect the fair value
estimate.
Concentrations
of credit risk
Financial
instruments which potentially subject the Company to concentrations of credit
risk are cash and accounts receivable arising from its normal business
activities. The Company routinely assesses the financial strength of its
customers, based upon factors surrounding their credit risk, establishes an
allowance for doubtful accounts, and as a consequence believes that its accounts
receivable credit risk exposure beyond such allowances is limited. At September
30, 2007, Bank of America accounted for approximately 20.1% of the Company’s
accounts receivable balance.
The
Company maintains its cash with a high credit quality financial institution.
Each account is secured by the Federal Deposit Insurance Corporation up to
$100,000.
Income
taxes
The
Company accounts for income taxes, in accordance with SFAS No. 109, “
Accounting
for Income Taxes
”
(“SFAS
109”) and related interpretations, under an asset and liability approach that
requires the recognition of deferred tax assets and liabilities for the expected
future tax consequences of events that have been recognized in the Company’s
financial statements or tax returns. In estimating future tax consequences,
the
Company generally considers all expected future events other than enactments
of
changes in the tax laws or rates.
The
Company records a valuation allowance to reduce the deferred tax assets to
the
amount that is more likely than not to be realized. The Company’s current
valuation allowance primarily relates to benefits from the Company’s net
operating losses.
At
December 31, 2006, the Company had net operating loss carryforwards for Federal
and State income tax purposes of approximately $25.8 million, which begin to
expire in 2023. The Tax Reform Act of 1986 contains provisions that limit the
utilization of net operating loss and tax credit carryforwards if there has
been
an ownership change, as defined by the tax law. An ownership change, as
described in Section 382 of the Internal Revenue Code, may limit the Company’s
ability to utilize its net operating loss and tax credit carryforwards on a
yearly basis. The Company has issued a substantial number of shares of common
stock during 2007, which may place limitations on the current net loss
carryforwards.
Derivatives
The
Company accounts for derivatives in accordance with SFAS No. 133,
“
Accounting
for Derivative Instruments and Hedging Activities
”
(“SFAS 133”) and related interpretations. SFAS 133, as amended,
requires companies to recognize all derivative instruments as either assets
or
liabilities in the balance sheet at fair value. The accounting for changes
in
the fair value of a derivative instrument depends on: (i) whether the
derivative has been designated and qualifies as part of a hedging relationship,
and (ii) the type of hedging relationship. For those derivative instruments
that are designated and qualify as hedging instruments, a company must designate
the hedging instrument based upon the exposure being hedged as either a fair
value hedge, cash flow hedge or hedge of a net investment in a foreign
operation. At September 30, 2007, the Company had not entered into any
transactions which were considered hedges under SFAS 133.
Reclassification
Certain
amounts in prior periods have been reclassified to conform to the 2007 financial
statement presentation.
Use
of estimates
The
preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that
affect the reported amounts of assets and liabilities and disclosures of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
Note
2: Going concern
The
Company has relied upon cash from its financing activities to fund its ongoing
operations as it has not been able to generate sufficient cash from its
operating activities in the past, and there is no assurance that it will be
able
to do so in the future. The Company has incurred net losses for the nine months
ended September 30, 2007 and the years ended December 31, 2006, 2005 and 2004,
negative cash flows from operating activities for the nine months ended
September 30, 2007 and the years ended December 31, 2006, 2005 and 2004, and
had
an accumulated deficit of ($58.4 million) at September 30, 2007. Due to this
history of losses and operating cash consumption, we cannot predict how long
we
will continue to incur further losses or whether we will become profitable
again, or if the Company’s business will improve. These factors raise
substantial doubt as to our ability to continue as a going concern. The
financial statements do not include any adjustments to reflect the possible
future effects on the recoverability and classification of assets or the amounts
and classification of liabilities that may result from the outcome of this
uncertainty.
As
of
September 30, 2007, the Company had a cash balance of approximately $29,000
and
a working capital deficiency of ($3.7 million).
The
Company has experienced continued losses that exceeded expectations from 2004
through September 30, 2007. The Company has addressed the resulting liquidity
issue by entering into various debt instruments between August 2004 and June
2007 and, as of September 30, 2007 had approximately $7.0 million of debt
outstanding in addition to an aggregate of $3.9 million of Series A and Series
B
Convertible Preferred Stock which was issued in 2006. Additionally, the Company
raised $4.9 million and $0.75 million through the sale of common stock of the
Company during the nine months ended September 30, 2007 and the year ended
December 31, 2006, respectively.
The
Company obtained $4.25 million in new financing in March 2007 and repaid both
the Laurus overadvance and the Laurus term note, in full, through a combination
of a $3.1 million cash payment and $0.5 million in a warrant to purchase common
stock. Additionally, a $0.5 million cash payment was paid to Sands. A final
cash
payment of $0.4 million and additional common stock and warrants is to be made
in the fourth calendar quarter of 2007 to satisfy the Sands obligation in
full.
The
$4.25
million of new financing was in the form of a promissory note bearing a 10%
annual interest rate and a maturity date of August 31, 2007. An additional
$0.25
million of new financing, in the form of a promissory note bearing a 10% annual
interest rate and a maturity date of August 31, 2007 was obtained in April
2007.
Both notes, totaling $4.5 million were to automatically convert to common stock
at such time as the Company has authorized shares sufficient to complete the
transaction. These promissory notes were converted to common equity and the
shares were issued in June 2007.
On
April
27, 2007, the Company issued a 10% Convertible Unsecured Note (the "Note")
to
certain investors represented by TAG Virgin Islands, Inc. for $250,000. In
June
2007, the Note automatically converted into 833,333 shares of common stock
upon
the effectiveness of the Information Statement on Schedule 14C, filed
preliminarily by the Company with the Securities and Exchange Commission on
March 8, 2007, amended on April 9, 2007 and filed definitively on May 1, 2007
.
The investor was also granted a warrant to purchase 833,333 shares of common
stock, exercisable at a price of $0.33 per share (subject to adjustment), and
is
exercisable for a period of five years.
On
June
6, 2007, the Company issued a 10% Convertible Unsecured Note (the "Note") to
certain investors represented by TAG Virgin Islands, Inc. for $250,000. This
note is due on demand and is convertible into 833,333 shares of common stock
at
the option of the holder. In the event that the Company obtains financing of
at
least $500,000, whether in the form of debt or equity, this Note is to be repaid
to the investor immediately upon closing. The investor was also granted a
warrant to purchase 833,333 shares of common stock, exercisable at a price
of
$0.33 per share (subject to adjustment), and is exercisable for a period of
five
years.
On
June
27, 2007, the Company issued a 10% Convertible Unsecured Note (the "Note")
to
certain investors represented by TAG Virgin Islands, Inc. for $400,000. This
note is due on demand and is convertible into 1,333,333 shares of common stock
at the option of the holder. In the event that the Company obtains financing
of
at least $500,000, whether in the form of debt or equity, this Note is to be
repaid to the investor immediately upon closing. The investor was also granted
a
warrant to purchase 1,333,333 shares of common stock, exercisable at a price
of
$0.33 per share (subject to adjustment), and is exercisable for a period of
five
years.
In
August
2007, this note and the related warrant was cancelled and four notes in the
amount of $100,000 each were executed between the Company and each of the
individual TAG Virgin Islands, Inc. investors, with the effective date of each
Note remaining at June 27, 2007. Each of the four investors were also granted
a
warrant to purchase 333,333 shares of common stock, exercisable at a price
of
$0.33 per share (subject to adjustment), and is exercisable for a period of
five
years. All other provisions of the June 27, 2007 Note and warrant remain the
same in the four new notes.
On
August
24, 2007, the Company executed a Stock Purchase Agreement (the “Agreement”) with
a certain investor represented by TAG Virgin Islands, Inc. Pursuant to this
Agreement, the Company sold 550,000 shares of $0.001 par value common stock
to
the investor at the purchase price of $0.21 per share for an aggregate purchase
price of $115,500. The investor was also granted a warrant to purchase 550,000
shares of Common Stock, exercisable at a price of $0.22 per share (subject
to
adjustment) and exercisable for a period of five years. Pursuant to a
Registration Rights Agreement, the Company agreed to file a registration
statement covering the shares of common stock underlying the Agreement and
the
warrant.
On
September 4, 2007, the Company executed a Stock Purchase Agreement (the
“Agreement”) with certain investors represented by TAG Virgin Islands, Inc.
Pursuant to this Agreement, the Company sold an aggregate of 1,140,000 shares
of
$0.001 par value common stock to the investors at the purchase price of $0.21
per share for an aggregate purchase price of $239,400. The investors were also
granted warrants to purchase an aggregate of 1,140,000 shares of Common Stock,
exercisable at a price of $0.22 per share (subject to adjustment) and
exercisable for a period of five years. Pursuant to a Registration Rights
Agreement, the Company agreed to file a registration statement covering the
shares of common stock underlying the Agreement and the warrant.
As
of
October 19, 2007, the Company executed a Stock Purchase Agreement for a private
offering of between $4.3 million and $5.0 million of the Company’s common stock.
The private offering is to be consummated in multiple closings with the final
closing to be completed on or before December 28, 2007. As of November 9,
2007,
the Company has received $375,000 and issued 1,875,000 shares of Company
common
stock, based upon a $0.20 per share market price on the date the funds were
received. Additionally, warrants to purchase 1,875,000 shares of Company
common
stock were issued with an exercise price of $0.22 per share and they are
exercisable for five years. Upon completion of this transaction, the Company
anticipates that it will have adequate capital to fund its operations for
the
upcoming 12 month period. See Note 13, Subsequent Events, for further disclosure
of this transaction.
The
Company needs additional capital in order to survive. Additional capital will
be
needed to fund current working capital requirements, ongoing debt service and
to
repay the obligations that are maturing over the upcoming 12 month period.
Our
primary sources of liquidity are cash flows from operations, borrowings under
our revolving credit facility, and various short and long term financings.
We
plan to continue to strive to increase revenues and to continue to execute
on
our expense reduction program which began in 2006 in order to reduce, or
eliminate, the operating losses. Additionally, we will continue to seek equity
financing in order to enable us to continue to meet our financial obligations
until we achieve profitability. There can be no assurance that any such funding
will be available to us on favorable terms, or at all. Certain short term note
holders have agreed to extend their maturity dates of such notes on a
month-to-month basis until the Company raises sufficient funds to pay the notes
in full. Amounts outstanding under such notes at September 30, 2007 were $1.5
million. Failure to obtain sufficient equity financing would have substantial
negative ramifications to the Company.
Note
3:
Recently
Issued Accounting Pronouncements
ADOPTION
OF NEW ACCOUNTING POLICY
Effective
January 1, 2007, the Company adopted Financial Accounting Standards Board
Interpretation No. 48, “Accounting for Uncertainty in Income Taxes (“FIN 48
”).
—
an
interpretation of FASB Statement No. 109, Accounting for Income Taxes
.”
The
Interpretation addresses the determination of whether tax benefits claimed
or
expected to be claimed on a tax return should be recorded in the financial
statements. Under FIN 48, we may recognize the tax benefit from an uncertain
tax
position only if it is more likely than not that the tax position will be
sustained on examination by the taxing authorities, based on the technical
merits of the position. The tax benefits recognized in the financial statements
from such a position should be measured based on the largest benefit that has
a
greater than fifty percent likelihood of being realized upon ultimate
settlement. FIN 48 also provides guidance on derecognition, classification,
interest and penalties on income taxes, accounting in interim periods and
requires increased disclosures. At the date of adoption, and as of September
30,
2007, the Company does not have a liability for unrecognized tax
benefits.
The
Company’s policy is to record interest and penalties on uncertain tax provisions
as income tax expense. As of September 30, 2007, the Company has no accrued
interest or penalties related to uncertain tax positions.
RECENT
ACCOUNTING PRONOUNCEMENTS
In
February 2007, the Financial Accounting Standards Board (FASB) issued FASB
Statement No. 159, “The Fair Value Option for Financial Assets and
Financial Liabilities — Including an amendment of FASB Statement
No. 115” (FAS 159).
FAS 159, which becomes effective for the company on January 1, 2008,
permits companies to choose to measure many financial instruments and certain
other items at fair value and report unrealized gains and losses in earnings.
Such accounting is optional and is generally to be applied instrument by
instrument. The company does not anticipate that election, if any, of this
fair-value option will have a material effect on its consolidated financial
condition, results of operations, cash flows or disclosures.
In
September 2006, the FASB issued FAS No. 157 (“FAS 157”), “Fair
Value Measurements,” which establishes a framework for measuring fair value in
accordance with GAAP and expands disclosures about fair value measurements.
FAS
157 does not require any new fair value measurements but rather eliminates
inconsistencies in guidance found in various prior accounting pronouncements.
FAS 157 is effective for fiscal years beginning after November 15, 2007.
The Company is currently evaluating the impact this standard will have on its
consolidated
financial condition, results of operations, cash flows or
disclosures.
In
December 2006, the FASB issued a Staff Position (“FSP”) on EITF 00-19-2 ,
“Accounting for Registration Payment Arrangements (“FSP
00-19-2”).
This FSP specifies that the contingent obligation to make future payments or
otherwise transfer consideration under a registration payment arrangement,
whether issued as a separate agreement or included as a provision of a financial
instrument or other agreement, should be separately recognized and measured
in
accordance with SFAS No. 5, “Accounting for Contingencies.” If the transfer of
consideration under a registration payment arrangement is probable and can
be
reasonably estimated at inception, the contingent liability under the
registration payment arrangement is included in the allocation of proceeds
from
the related financing transaction (or recorded subsequent to the inception
of a
prior financing transaction) using the measurement guidance in SFAS No. 5.
This
FSP is effective immediately for registration payment arrangements and the
financial instruments subject to those arrangements that are entered into or
modified subsequent to the issuance of the FSP. For prior arrangements, the
FSP
is effective for financial statements issued for fiscal years beginning after
December 15, 2006 and interim periods within those years. The Company does
not
believe the adoption of this FSP will have a material impact on its consolidated
financial condition, results of operations, cash flows or disclosures
.
Note
4 - Goodwill
During
the nine months ended September 30, 2007, the Company learned that several
Integrated Strategies (“ISI”) consultants were to be ending their projects.
Additionally, the continued margin pressure exerted by the vendor management
organization structure utilized by ISI’s largest customer continues to
unfavorably impact the economics of this division. Statement of Financial
Accounting Standards No. 142 (“SFAS No. 142”), “
Goodwill
and Other Intangible Assets”,
instructs the Company to test intangible assets for impairment annually, or
more
frequently if events or changes in circumstances indicate that the asset might
be impaired. Due to the change in this business, the Company performed an
interim impairment analysis during the three month period ended June 30, 2007
and recorded a goodwill impairment of $0.6 million.
Note
5 - Line of credit
On
February 1, 2006, the Company restructured its financing with Laurus by entering
into financing agreements with Laurus which removed all conversion features
in
the originally issued notes, pursuant to which it, among other things, (a)
issued a secured non-convertible term note in the principal amount of $1 million
to Laurus (the “Term Note”), (b) issued a secured non-convertible revolving note
in the principal amount of $10 million to Laurus (the “Revolving Note”,
collectively with the Term Note, the “Notes”), and (c) issued an option to
purchase up to 3,080,000 shares of the Company’s common stock to Laurus (the
“Option”) at an exercise price of $0.001 per share. The Company had no
obligation to meet financial covenants under the notes. The proceeds from the
issuance of the Notes were used to refinance the Company’s outstanding
obligations under the existing facility with Laurus (originally entered into
in
August 2004 and subsequently amended in July and November 2005) at a 5% premium.
The Notes bore an annual interest rate of prime (as reported in the Wall Street
Journal, which was 7.75% as of September 30, 2007) plus 1%, with a floor of
5.0%. Payments and interest were to be made in monthly installments until
maturity of the Notes on December 31, 2007. In addition, payments of principal
on the Term Note were to be made in equal monthly amounts until maturity of
the
Notes on December 31, 2007. A common stock purchase warrant issued to Laurus
in
August 2004 provided Laurus with the right to purchase 800,000 shares of the
Company’s common stock. The exercise price for the first 400,000 shares acquired
under the warrant is $4.35 per share, the exercise price for the next 200,000
shares acquired under the warrant is $4.65 per share, and the exercise price
for
the final 200,000 shares acquired under the warrant is $5.25 per share. The
common stock purchase warrant expires on August 15, 2011. Laurus partially
exercised its option and purchased 1,580,000 shares of the Company’s common
stock effective July 6, 2006. In July 2007, Laurus partially exercised its
option and purchased 1,463,404 shares of the Company’s common
stock.
In
connection with the Notes, the Company and Laurus entered into an Overadvance
Letter Agreement in the amount of $3,101,084, pursuant to which Laurus exercised
its discretion granted to it pursuant to the Security Agreement entered into
in
August 2004 to make a loan to the Company in excess of the “Formula Amount” (as
defined therein). The Company also entered into a Stock Pledge Agreement and
Security Agreement securing its obligations to Laurus, both prior to and
including the Notes, as well as a Registration Rights Agreement pursuant to
which the Company agreed to file a registration statement to register the shares
of the Company’s common stock underlying the Option, as well as the shares of
the Company’s common stock and the shares of the Company’s common stock
underlying the warrants held by Laurus, within 90 days.
Pursuant
to the Overadvance Letter Agreement (the "Letter") dated as of February 1,
2006
among the Company, its subsidiaries and Laurus, the Company was to pay Laurus
approximately $258,424 per month, starting February 1, 2007, until the aggregate
principal amount of $3,101,084 was paid in full (the Company made the first
two
payments in February 2007). In March 2007, the Company and Laurus agreed that
the Company would pay to Laurus $2,084,237 and issue a warrant to purchase
1,785,714 shares of common stock at an exercise price of $0.01 as final payment
to satisfy the Letter in full. Laurus purchased 1,767,857 of the shares relating
to this warrant in September 2007. Also in March 2007, the Company satisfied
the
outstanding amount on the outstanding term note issued to Laurus on February
1,
2006, with a cash payment to Laurus of $409,722.
Using
the
Black-Scholes option pricing model, the Company calculated the relative fair
value of the warrant to purchase 1,785,714 shares of Company common stock to
be
$535,714. This relative fair value has been recorded as a component of the
loss
on the extinguishment of this debt. The assumptions used in the relative fair
value calculation were as follows: Company stock price on March 7, 2007 of
$0.30
per share; exercise price of the warrants of $0.01 per share; five year term;
volatility of 147.32%; annual rate of dividends of 0%; and a risk free interest
rate of 4.90%.
As
of
September 30, 2007, Laurus owned approximately 5,441,099 shares of the Company’s
common stock, the option to purchase up to 36,596 shares of the Company's common
stock, a warrant to purchase 17,857 shares of common stock, the warrant to
purchase 400,000 shares of the Company’s common stock at an exercise price of
$4.35 per share, the warrant
to
purchase 200,000 shares of the Company’s common stock at an exercise price of
$4.65 per share
and the
warrant to purchase 200,000 shares of the Company’s common stock at an exercise
price of $5.25 per share.
As
of
September 30, 2007, $1,915,045 remained outstanding to Laurus under the line
of
credit.
Note
6 - Short term notes payable
On
September 22, 2005, upon maturity of the September 2004 notes, the Company
issued Amended and Restated Senior Subordinated Convertible Promissory Notes
(the "Sands Notes") to Sands Brothers Venture Capital LLC, Sands Brothers
Venture Capital III LLC, and Sands Brothers Venture Capital IV LLC
(collectively, the “Funds”) equaling $1.08 million in the aggregate, each with
an annual interest rate of 12% expiring on January 1, 2007. The Funds, in
exchange for an extension fee of $15,000, agreed to extend the maturity dates
of
the Sands Notes to February 1, 2007 and then, upon maturity and in exchange
for
a $150,000 payment to be applied against the principal balance outstanding
of
the Sands Notes, agreed to extend the maturity date to March 1, 2007. On March
1, 2007, the Company, and each of the Funds, agreed that the Company will pay
the Funds $900,000 cash during 2007, as well as issue shares of common stock
with an aggregate value of $257,937 and warrants to purchase common stock as
final payment, in four installments during 2007, to satisfy the Sands Notes
in
full. The Company estimated the total number of warrants to be issued to be
966,934 with 50%, or 483,467 shares, to have an exercise price at a 10% premium
to the market price and the remaining 50%, or 483,467 shares, to have an
exercise price of $0.50 per share. The Company made its first two installments
in the amount of $500,000 during March 2007 and the third installment in the
amount of $150,000 during October 2007. The final cash payment in the amount
of
$250,000 is due during December 2007.
Using
the
Black-Scholes option pricing model, the Company calculated the relative fair
value of the warrant to purchase 483,467 shares of Company common stock at
a
$0.33 per share exercise price to be $116,032. This relative fair value has
been
recorded as a component of the loss on the extinguishment of this debt. The
assumptions used in the relative fair value calculation were as follows: Company
stock price on March 7, 2007 of $0.30 per share; exercise price of the warrants
of $0.33 per share; three year term; volatility of 147.32%; annual rate of
dividends of 0%; and a risk free interest rate of 4.90%.
Using
the
Black-Scholes option pricing model, the Company calculated the relative fair
value of the warrant to purchase 483,467 shares of Company common stock at
a
$0.50 per share exercise price to be $111,197. This relative fair value has
been
recorded as a component of the loss on the extinguishment of this debt. The
assumptions used in the relative fair value calculation were as follows: Company
stock price on March 7, 2007 of $0.30 per share; exercise price of the warrants
of $0.50 per share; three year term; volatility of 147.32%; annual rate of
dividends of 0%; and a risk free interest rate of 4.90%.
On
February 1, 2007, the Company issued a 10% Unsecured Promissory Note to an
investor represented by TAG Virgin Islands, Inc. for $705,883, maturing on
March
1, 2007. This note was retired and included as part of the March 1, 2007 10%
Unsecured Promissory Note in the principal amount of $4,000,000.
On
March
1, 2007, the Company issued a 10% Convertible Unsecured Note (the "TAG Note")
to
an investor represented by TAG Virgin Islands, Inc. for $4.0 million. The TAG
Note was to automatically convert into 13,333,333 shares of the Company's common
stock upon the effectiveness of the Information Statement on Schedule 14C,
filed
preliminarily by the Company with the Securities and Exchange Commission on
March 8, 2007, amended on April 9, 2007 and filed definitively on May 1, 2007
(the "Information Statement"). The investor was also granted a warrant to
purchase 13,333,333 shares of the common stock, exercisable at a price of $0.33
per share (subject to adjustment) and exercisable for a period of five years.
Pursuant to a Registration Rights Agreement, the Company agreed to file a
registration statement covering the shares of common stock underlying the TAG
Note and the warrant. Such registration rights are more fully set forth in
the
Registration Rights Agreement. The TAG Note was subsequently amended in
March 2007 to $4.25 million and the number of shares of common stock that the
TAG Note will convert into was increased to 14,166,667 shares of common stock.
Additionally, the warrant was also amended to entitle the investor to purchase
14,166,667 shares of our common stock, exercisable at a price of $0.33 per
share
(subject to adjustment), and is exercisable for a period of five years. In
June
2007, the note automatically converted to equity and the 14,166,667 shares
were
issued to the investor.
Using
the
Black-Scholes option pricing model, the Company calculated the relative fair
value of the warrant to purchase 14,166,667 shares of Company common stock
to be
$3,825,000. This relative fair value is being accreted through interest expense
over the six month life of the Note. The assumptions used in the relative fair
value calculation were as follows: Company stock price on March 7, 2007 of
$0.30
per share; exercise price of the warrants of $0.33 per share; five year term;
volatility of 147.32%; annual rate of dividends of 0%; and a risk free interest
rate of 4.90%.
The
Information Statement related to a stockholder action which had been approved
by
written consent of stockholders of the Company who held approximately 53% (in
excess of a majority) of the voting power of the common stock. Such stockholder
action approved: (i) a Certificate of Amendment to the Certificate of
Incorporation of the Company (the "Certificate of Amendment") pursuant to which
the authorized common stock of the Company under the Certificate of
Incorporation, as amended, was increased from 100,000,000 shares up to
200,000,000 shares of such common stock, to be effective as of the filing of
the
Certificate of Amendment with the Delaware Secretary of State, and (ii) as
required by the rules of the American Stock Exchange, the issuance of the Note
that, upon exercise and conversion thereof, would result in the issuance in
an
aggregate amount greater than 20% of our outstanding shares of common stock.
In
accordance with Rule 14c-2 under the Securities Exchange Act of 1934, as
amended, the stockholder action was expected to become effective twenty (20)
calendar days following the mailing of the Information Statement, or as soon
thereafter as was reasonably practicable.
On
April
27, 2007, The Company issued a 10% Convertible Unsecured Note (the “Note”) to
certain investors represented by TAG Virgin Islands, Inc. for $250,000. The
Note
will automatically convert into 833,333 shares of common stock upon the
effectiveness of the Information Statement on Schedule 14C, filed preliminarily
by the Company with the Securities and Exchange Commission on March 8, 2007,
amended on April 9, 2007 and filed definitively on May 1, 2007. The investor
was
also granted a warrant to purchase 833,333 shares of common stock, exercisable
at a price of $0.33 per share (subject to adjustment), and is exercisable for
a
period of five years. In June 2007, the note automatically converted to equity
and the 833,333 shares were issued to the investor.
Using
the
Black-Scholes option pricing model, the Company calculated the relative fair
value of the warrant to purchase 833,333 shares of Company common stock to
be
$118,421. The note is due on August 31, 2007 and the relative fair value of
the
warrants was being charged to interest expense over the four month term. The
assumptions used in the relative fair value calculation were as follows: Company
stock price on April 27, 2007 of $0.29 per share; exercise price of the warrants
of $0.33 per share; five year term; volatility of 152.97%; annual rate of
dividends of 0%; and a risk free interest rate of 4.95%.
On
June
6, 2007, the Company issued a 10% Convertible Unsecured Note (the "Note") to
certain investors represented by TAG Virgin Islands, Inc. for $250,000. This
note is due on demand and is convertible into 833,333 shares of common stock
at
the option of the holder.
In
the
event that the Company obtains financing of at least $500,000, whether in the
form of debt or equity, this Note is to be repaid to the investor immediately
upon closing.
The
investor was also granted a warrant to purchase 833,333 shares of common stock,
exercisable at a price of $0.33 per share (subject to adjustment), and is
exercisable for a period of five years.
Using
the
Black-Scholes option pricing model, the Company calculated the relative fair
value of the warrant to purchase 833,333 shares of Company common stock to
be
$113,636. Since the note is due on demand, this relative fair value was
immediately charged to interest expense. The assumptions used in the relative
fair value calculation were as follows: Company stock price on June 6, 2007
of
$0.27 per share; exercise price of the warrants of $0.33 per share; five year
term; volatility of 159.89%; annual rate of dividends of 0%; and a risk free
interest rate of 4.95%.
On
June
27, 2007, the Company issued a 10% Convertible Unsecured Note (the "Note")
to
certain investors represented by TAG Virgin Islands, Inc. for $400,000. This
note is due on demand and is convertible into 1,333,333 shares of common stock
at the option of the holder. In the event that the Company obtains financing
of
at least $500,000, whether in the form of debt or equity, this Note is to be
repaid to the investor immediately upon closing.
The
investor was also granted a warrant to purchase 1,333,333 shares of common
stock, exercisable at a price of $0.33 per share (subject to adjustment), and
is
exercisable for a period of five years. In August 2007, this note and the
related warrant was cancelled and four notes in the amount of $100,000 each
were
executed between the Company and each of the individual TAG Virgin Islands,
Inc.
investors, with the effective date of each Note remaining at June 27, 2007.
Each
of the four investors were also granted a warrant to purchase 333,333 shares
of
common stock, exercisable at a price of $0.33 per share (subject to adjustment),
and is exercisable for a period of five years. All other provisions of the
June
27, 2007 Note and warrant remain the same in the four new notes.
Using
the
Black-Scholes option pricing model, the Company calculated the relative fair
value of the warrants to purchase 1,333,333 shares of Company common stock
to be
$164,706. Since the notes are due on demand, this relative fair value was
immediately charged to interest expense. The assumptions used in the relative
fair value calculation were as follows: Company stock price on June 27, 2007
of
$0.23 per share; exercise price of the warrants of $0.33 per share; five year
term; volatility of 158.58%; annual rate of dividends of 0%; and a risk free
interest rate of 4.95%.
Note
7 - Common Stock
On
August
24, 2007, we executed a Stock Purchase Agreement (the “Agreement”) with a
certain investor represented by TAG Virgin Islands, Inc. Pursuant to this
Agreement, the Company sold 550,000 shares of $0.001 par value common stock
to
the investor at the purchase price of $0.21 per share for an aggregate purchase
price of $115,500. The investor was also granted a warrant to purchase 550,000
shares of Common Stock, exercisable at a price of $0.22 per share (subject
to
adjustment) and exercisable for a period of five years. Pursuant to a
Registration Rights Agreement, the Company agreed to file a registration
statement covering the shares of common stock underlying the Agreement and
the
warrant.
On
September 4, 2007, we executed a Stock Purchase Agreement (the “Agreement”) with
certain investors represented by TAG Virgin Islands, Inc. Pursuant to this
Agreement, the Company sold an aggregate of 1,140,000 shares of $0.001 par
value
common stock to the investors at the purchase price of $0.21 per share for
an
aggregate purchase price of $239,400. The investors were also granted warrants
to purchase an aggregate of 1,140,000 shares of Common Stock, exercisable at
a
price of $0.22 per share (subject to adjustment) and exercisable for a period
of
five years. Pursuant to a Registration Rights Agreement, the Company agreed
to
file a registration statement covering the shares of common stock underlying
the
Agreement and the warrant.
Note
8 - Stock Based Compensation
The
2003
Incentive Plan (“2003 Plan”) authorizes the issuance of up to 20,000,000 shares
of common stock for issuance upon exercise of options. It also authorizes the
issuance of stock appreciation rights. The options granted may be a combination
of both incentive and nonstatutory options, generally vest over a three year
period from the date of grant, and expire ten years from the date of grant.
On
August 6, 2007, a majority of the Company’s shareholders voted to increase the
number of shares authorized under the 2003 Incentive Plan to 20,000,000 shares
from the previous authorized amount of 10,000,000 shares.
To
the
extent that CSI derives a tax benefit from options exercised by employees,
such
benefit will be credited to additional paid-in capital when realized on the
Company’s income tax return. There were no tax benefits realized by the Company
during the nine months ended September 30, 2007 or during the years ended
December 31, 2006, 2005 or 2004.
The
following summarizes the stock option transactions under the 2003 Plan during
2007:
|
|
|
Shares
|
|
Weighted
average exercise price
|
|
|
|
|
|
|
|
|
|
Options
outstanding at December 31, 2006
|
|
|
6,836,115
|
|
$
|
0.82
|
|
|
Options
granted
|
|
|
500,000
|
|
|
0.30
|
|
|
Options
exercised
|
|
|
-
|
|
|
-
|
|
|
Options
canceled
|
|
|
(1,229,500
|
)
|
|
0.97
|
|
|
Options
outstanding at September 30, 2007
|
|
|
6,106,615
|
|
$
|
0.74
|
|
The
following table summarizes information concerning outstanding and exercisable
Company common stock options at September 30, 2007 :
|
Range
of
Exercise
Prices
|
|
Number
Outstanding
As
of 09/30/07
|
|
Weighted
Average
Remaining
Contractual
|
|
Weighted
Average
Exercise
Price
|
|
Number
Exercisable
As
of 09/30/07
|
|
Weighted
Average
Exercise
Price
|
|
$0.2500
|
|
|
$0.2500
|
|
2,090,000
|
|
9.03
|
|
$0.2500
|
|
0
|
|
$0.0000
|
|
$0.3000
|
|
|
$0.3000
|
|
550,000
|
|
9.48
|
|
$0.3000
|
|
0
|
|
$0.0000
|
|
$0.4600
|
|
|
$0.4600
|
|
1,000,000
|
|
8.27
|
|
$0.4600
|
|
1,000,000
|
|
$0.4600
|
|
$0.6000
|
|
|
$0.6000
|
|
5,000
|
|
8.22
|
|
$0.6000
|
|
1,666
|
|
$0.6000
|
|
$0.7000
|
|
|
$0.7000
|
|
300,000
|
|
8.95
|
|
$0.7000
|
|
100,000
|
|
$0.7000
|
|
$0.8250
|
|
|
$0.8250
|
|
40,452
|
|
7.05
|
|
$0.8250
|
|
40,452
|
|
$0.8250
|
|
$0.8300
|
|
|
$0.8300
|
|
1,415,166
|
|
7.25
|
|
$0.8300
|
|
864,484
|
|
$0.8300
|
|
$2.4750
|
|
|
$2.4750
|
|
300,000
|
|
6.49
|
|
$2.4750
|
|
300,000
|
|
$2.4750
|
|
$3.0000
|
|
|
$3.0000
|
|
392,331
|
|
6.66
|
|
$3.0000
|
|
392,331
|
|
$3.0000
|
|
$3.4500
|
|
|
$3.4500
|
|
13,666
|
|
6.95
|
|
$3.4500
|
|
13,666
|
|
$3.4500
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$0.2500
|
|
|
$3.4500
|
|
6,106,615
|
|
8.23
|
|
$0.7427
|
|
2,712,599
|
|
$1.1976
|
In
accordance with SFAS 123(R), the Company recorded approximately $123,000 and
$310,000 and $405,000 and $1,200,000 of expense related to stock options which
vested during the three and nine months ended September 30, 2007 and 2006,
respectively.
Note
9 - Loss Per Share
Basic
loss per share is computed on the basis of the weighted average number of common
shares outstanding. Diluted loss per share is computed on the basis of the
weighted average number of common shares outstanding plus the effect of
outstanding stock options using the “treasury stock” method and the effect of
convertible debt instruments as if they had been converted at the beginning
of
each period presented.
Basic
and
diluted loss per share was determined as follows:
|
|
|
For
the three months ended
September
30,
|
|
For
the nine months ended
September
30,
|
|
|
|
|
2007
|
|
2006
|
|
2007
|
|
2006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
loss from continuing operations (A)
|
|
$
|
(793,046
|
)
|
$
|
(1,902,487
|
)
|
$
|
(7,417,878
|
)
|
$
|
(10,182,277
|
)
|
|
Net
income from discontinued operations (B)
|
|
$
|
-
|
|
$
|
-
|
|
$
|
-
|
|
$
|
2,050,000
|
|
|
Net
loss (C)
|
|
$
|
(793,046
|
)
|
$
|
(1,902,487
|
)
|
$
|
(7,417,878
|
)
|
$
|
(8,132,277
|
)
|
|
Net
loss attributable to common stockholders (D)
|
|
$
|
(958,426
|
)
|
$
|
(2,079,502
|
)
|
$
|
(8,015,053
|
)
|
$
|
(8,507,208
|
)
|
|
Weighted
average outstanding shares of common stock (E)
|
|
|
73,796,475
|
|
|
51,921,996
|
|
|
63,106,416
|
|
|
51,190,806
|
|
|
Common
stock and common stock equivalents (F)
|
|
|
73,796,475
|
|
|
51,921,996
|
|
|
63,106,416
|
|
|
51,190,806
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
income (loss) per common share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
From
continuing operations (A/E)
|
|
$
|
(0.01
|
)
|
$
|
(0.04
|
)
|
$
|
(0.12
|
)
|
$
|
(0.20
|
)
|
|
From
discontinued operations (B/E)
|
|
$
|
-
|
|
$
|
-
|
|
$
|
-
|
|
$
|
0.04
|
|
|
Net
loss per common share (C/E)
|
|
$
|
(0.01
|
)
|
$
|
(0.04
|
)
|
$
|
(0.12
|
)
|
$
|
(0.16
|
)
|
|
Net
loss per common share attributable to common stockholders
(D/E)
|
|
$
|
(0.01
|
)
|
$
|
(0.04
|
)
|
$
|
(0.13
|
)
|
$
|
(0.17
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted
income (loss) per common share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
From
continuing operations (A/F)
|
|
$
|
(0.01
|
)
|
$
|
(0.04
|
)
|
$
|
(0.12
|
)
|
$
|
(0.20
|
)
|
|
From
discontinued operations (B/F)
|
|
$
|
-
|
|
$
|
-
|
|
$
|
-
|
|
$
|
0.04
|
|
|
Net
loss per common share (C/F)
|
|
$
|
(0.01
|
)
|
$
|
(0.04
|
)
|
$
|
(0.12
|
)
|
$
|
(0.16
|
)
|
|
Diluted
loss per common share attributable to common stockholders
(D/F)
|
|
$
|
(0.01
|
)
|
$
|
(0.04
|
)
|
$
|
(0.13
|
)
|
$
|
(0.17
|
)
|
The
calculation of the diluted loss per share for the three and nine months ended
September 30, 2007 excluded 6,106,615 shares and the calculation of the diluted
loss per share for the three and nine months ended September 30, 2006 excluded
5,179,397 shares which were attributable to outstanding stock options because
the effect was antidilutive. Additionally, the effect of warrants to purchase
6,163,803 shares of common stock which were issued between June 7, 2004 and
September 30, 2006 were excluded from the calculation of diluted loss per share
for the three and nine months ended September 30, 2006 and the effect of
26,265,348 warrants which were issued between June 7, 2004 and September 30,
2007, and were outstanding as of September 30, 2007, were excluded from the
calculation of diluted loss per share for the three and nine months ended
September 30, 2007 because the effect was antidilutive. Also excluded from
the
calculation of loss per share because their effect was antidilutive were
1,269,841 shares of common stock underlying the $2,000,000 convertible line
of
credit note to Taurus dated June 7, 2004,
577,353
shares of common stock underlying the convertible promissory note to Sands
(only
with respect to the period ended September 30, 2006),
7,800,000
shares underlying the Series A and Series B convertible preferred
stock,
and
options to purchase 36,596 shares of common stock outstanding to
Laurus.
2,166,667
shares underlying the TAG Notes dated June 2007 were also excluded from the
calculation of loss per share for the three and nine months ended September
30,
2007 as their effect was antidilutive.
Note
10 - Major Customers
During
the three and nine months ended September 30, 2007, the Company had revenues
relating to two major customers, Bank of America (partially invoiced through
Sapphire Technologies) and ING comprising 17.0% and 17.4% and 10.2% and 10.5%
of
revenues, and totaling approximately $927,000 and $2,876,000 and $557,000 and
$1,742,000, respectively. Amounts due from services provided to these customers
included in accounts receivable was approximately $1,008,000 at September 30,
2007. As of September 30, 2007, Bank of America, Sapphire Technologies and
ING
accounted for approximately 5.3%, 14.9% and 8.3% of the Company’s accounts
receivable balance, respectively.
During
the three and nine months ended September 30, 2006, the Company had sales
relating to one major customer, Bank of America (partially invoiced through
Sapphire Technologies), comprising 27.1% and 25.1% of revenues, and totaling
approximately $1,642,000 and $4,905,000, respectively.
Amounts
due from services provided to this customer included in accounts receivable
was
approximately $1,304,000 at September 30, 2006.
As
of
September 30, 2006, Bank of America and Sapphire Technologies accounted for
approximately 34.0% of the Company’s accounts receivable balance.
Note
11 - Commitments and Contingencies
Legal
Proceedings
On
March
21, 2007, we filed a lawsuit in the Superior Court of New Jersey against our
former employees, Timothy Furey and Craig Cordasco. We are alleging that
Messrs. Furey and Cordasco misappropriated confidential information, broke
their
outstanding contractual obligations to us, unfairly competed, and tortuously
interfered with economic gain. We are seeking injunctive relief and
monetary damages. On April 16, 2007, the Superior Court granted a temporary
restraining order in our favor against Messrs. Furey and Cordasco from competing
with our existing clients or disclosing our confidential information, and
ordering them to return all Company equipment immediately. On May 9, 2007,
Messrs. Furey and Cordasco filed their answer and counterclaim for tortious
interference with economic advantage, abuse of process and breach of contract.
On July 10, 2007, the court vacated the temporary restraints against the
defendants since the restrictive covenant period in the applicable employment
agreements had expired. Management believes the countersuit against the Company
to be completely without merit and intends to vigorously defend the Company
against this countersuit.
In
July
2005, in conjunction with the acquisition of Integrated Strategies, Inc.
(“ISI”), the Company issued a subordinated promissory note in the principal
amount of $165,000 payable to Adam Hock and Larry Hock (the “Hocks”), the former
principal stockholders of ISI. This note, along with $35,000 cash, was to be
held in escrow for 15 months. This note matured on October 28, 2006. Pursuant
to
the indemnification provisions of the merger agreement among the Company and
the
Hocks, the $200,000 was to be held in escrow to cover any liabilities by any
failure of any representation or warranty of ISI or the Hocks to be true and
correct at or before the closing, and any act, omission or conduct of ISI and
the Hocks prior to the closing, whether asserted or claimed prior to, or at
or
after, the closing. After the note matured, the Hocks requested the entire
$200,000 from the Company, while the Company, after offsetting certain
undisclosed liabilities, responded that the actual amount owed is significantly
less. The Hocks then filed a lawsuit in the State of Florida on December 22,
2006 for recovery of the entire $200,000. On March 1, 2007, a circuit court
in
Hillsborough County, Florida denied the Company’s motion to dismiss the lawsuit
for lack of jurisdiction without explanation to its ruling. The Company filed
its answer to the Hocks complaint and its countersuit in July 2007. Management
believes the suit against the Company to be without merit and intends to
vigorously defend the Company against this action.
Lease
Commitments:
Year
ending September 30,
|
|
|
Office
|
|
Automobiles
|
|
Total
|
|
Subleases
|
|
Net
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
10/1/2007
9/30/2008
|
|
$
|
368,883
|
|
$
|
27,653
|
|
$
|
396,536
|
|
$
|
98,368
|
|
$
|
298,168
|
|
|
10/1/2008
9/30/2009
|
|
|
355,622
|
|
|
27,123
|
|
|
382,745
|
|
|
107,310
|
|
|
275,435
|
|
|
10/1/2009
9/30/2010
|
|
|
369,349
|
|
|
24,137
|
|
|
393,486
|
|
|
134,137
|
|
|
259,349
|
|
|
10/1/2010
9/30/2011
|
|
|
93,455
|
|
|
7,588
|
|
|
101,043
|
|
|
35,770
|
|
|
65,273
|
|
|
10/1/2011
9/30/2012
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
1,187,309
|
|
$
|
86,501
|
|
$
|
1,273,810
|
|
$
|
375,585
|
|
$
|
898,225
|
|
Effective
February 2007, the Company subleased a portion of its East Hanover, New Jersey
corporate office space for the remainder of the lease term. 7,154 square feet
of
the Company’s 16,604 square feet of rented office space were subleased from
February 15, 2007 to December 31, 2010. The sublease provides for three months
of free rent to the sublessee, monthly rent equal to $5,962 per month from
May
15, 2007 to December 31, 2007, $8,942 per month from January 1, 2008 to December
31, 2009, and $11,923 per month from January 1, 2010 to December 31, 2010.
Additionally, the Company will receive a fixed rental for electric of $10,731
per annum payable in equal monthly installments throughout the term of the
lease.
The
Company recorded a lease impairment resulting from this sublease in the amount
of $210,765. This impairment charge reflects the unreimbursed costs relating
to
the subleased space which will be incurred by the Company during the remaining
term of the lease. These costs include the differential between the Company’s
rental rate for the subleased space and the amount being paid by the sublessee,
and unreimbursed common area fees and real estate taxes.
Note
12 - Related Party Transactions
As
of
September 30, 2007, Scott Newman, our President and Chief Executive Officer,
had
no outstanding loan balance to the Company. The balance outstanding with respect
to the loan from Glenn Peipert, our Executive Vice President and Chief Operating
Officer, to the Company was approximately $0.1 million, which accrues interest
at a simple rate of 8% per annum.
Effective
August 6, 2007, the Company and Scott Newman, the Company’s Chairman, President,
and Chief Executive Officer, executed an amendment to Mr. Newman’s employment
agreement dated March 26, 2004. Under the original employment agreement, Mr.
Newman was entitled to receive an annual salary of $500,000. This amendment
reduces Mr. Newman’s annual salary to $375,000 per year. All other provisions in
the employment agreement remain in full force and effect.
Effective
August 6, 2007, the Company and Glenn Peipert, the Company’s Executive Vice
President and Chief Operating Officer, executed an amendment to Mr. Peipert’s
employment agreement dated March 26, 2004. Under the original employment
agreement, Mr. Peipert was entitled to receive an annual salary of $375,000.
This amendment reduces Mr. Peipert’s annual salary to $315,000 per year. All
other provisions in the employment agreement remain in full force and
effect.
Robert
C.
DeLeeuw, our former Senior Vice President and President of our wholly owned
subsidiary DeLeeuw Associates, Inc., and beneficial holder of approximately
10%
of our outstanding common stock, executed a management consulting agreement
with
the Company in December 2006. The agreement is for a period of one year,
and may be renewed or extended at any time by mutual written consent of both
parties. Mr. DeLeeuw shall receive payment equal to ten percent (10%) of
the monthly net profit for consulting services provided to the clients by the
DeLeeuw Associates division/subsidiary of CSI. In addition, Mr. DeLeeuw
shall receive payment equal to ninety five percent (95%) of the gross billings
invoiced to a certain client for billable services performed by Mr. DeLeeuw
at
that client. Mr. DeLeeuw is currently representing the Company as a
consultant at that client. During the three and nine months ended
September 30, 2007, the Company invoiced this client $102,177 and $279,492
for
services performed by Mr. DeLeeuw and paid him $107,300 and $313,488 related
to
both those services and to the 10% monthly net profit of the DeLeeuw Associates
division/subsidiary, respectively.
During
October 2007, the Company paid Sands Brothers Venture Capital LLC $150,000
pursuant to settlement agreement dated March 1, 2007 between the Company and
three funds affiliated with Sands Brothers Venture Capital LLC. This payment
represented the third of four payments totaling $900,000 that was to be paid
during 2007. The final payment in the amount of $250,000 is due December 31,
2007. The Company also issued 234,619 shares of common stock and warrants to
purchase a total of 208,400 shares of common stock during October 2007. A
warrant to purchase 104,200 shares of common stock is exercisable for three
years at a purchase price of $0.22 per share. A warrant to purchase 104,200
shares of common stock is exercisable for three years at a purchase price of
$0.50 per share.
As
of
October 19, 2007, the Company and TAG Virgin Islands, Inc., as agent for
the
purchasers (the “Purchasers”), executed a Stock Purchase Agreement (the
“Agreement”). Pursuant to this Agreement, the Purchasers will purchase from the
Company no less than $4.3 million and no more than $5.0 million in Company
common stock, par value $0.001, in multiple closings prior to December 28,
2007.
The purchase price of each share of common stock purchased will be the higher
of
$0.10 per share or the per share closing price on the day that each purchase
is
effected. The Purchasers will also be issued warrants (the “A Warrant”) to
purchase Company common stock, the number of which will be equal to the number
of shares of common stock purchased. The A Warrants will be exercisable at
a
price equal to 10% above the purchase price of the shares purchased and will
be
exercisable for five years. In the event that the Company does not have a
sufficient number of shares of common stock authorized and reserved for issuance
to permit it to deliver the shares of common stock issuable upon exercise
of the
A Warrants, the Company will issue a second class of warrant (the “B Warrant”)
which is not exercisable until such time as the Company has a sufficient
number
of shares of common stock authorized and reserved for issuance and shall
not
have a cash settlement. The B Warrants shall be exercisable to purchase 1.5
times the number of shares of common stock that the undelivered A Warrants
would
have been exercisable for. Pursuant to a Registration Rights Agreement, the
Company agreed to file a registration statement covering the shares of common
stock underlying the Agreement and the warrant.
As of
November 9, 2007, the Company has received $375,000 and issued 1,875,000
shares
of Company common stock, based upon a $0.20 per share market price on the
date
the funds were received. Additionally, A Warrants to purchase 1,875,000 shares
of Company common stock were issued with an exercise price of $0.22 per share
and they are exercisable for five years.
