Item 2. Management’s Discussion and Analysis of Financial
Condition and Results of Operations.
Cicero,
Inc. (the “Company”) provides desktop activity
intelligence and automation software that helps organizations
isolate issues and automates employee tasks in the contact center
and back office. The Company provides an innovative and unique
combination of application and process integration, automation, and
desktop analytics capabilities, all without changing the underlying
applications or requiring costly application development. The
Company’s software collects desktop activity and application
performance data and tracks business objects across time and
multiple users, as well as measures against defined expected
business process flows, for either analysis or to feed a
third-party application. In addition to software solutions, the
Company also provides technical support, training and consulting
services as part of its commitment to providing customers with
industry-leading solutions. The Company’s consulting team has
in-depth experience in developing successful enterprise-class
solutions as well as valuable insight into the business information
needs of customers in the largest Fortune 500 corporations
worldwide.
The
Company focuses on the activity intelligence and customer
experience management market with emphasis on desktop analytics and
automation with its Cicero Discovery™, Cicero Insight™
and Cicero Automation™ products.
Cicero
Discovery collects desktop activity leveraging a suite of sensors.
Cicero Discovery is a lightweight and configurable tool to collect
activity and application performance data and track business
objects across time and across multiple users as well as measure
against a defined "expected" business process flow, either for
analysis or to feed a third-party application.
Cicero
Insight is a measurement and analytics solution that collects and
presents high value information about quality, productivity,
compliance, and revenue from frontline activity to target areas for
improvement. Powered by Cicero Discovery sensors, Cicero Insight
collects activity data about the applications, when and how they
are used and makes it readily available for analysis and action to
the business community.
Cicero
Automation delivers all the features of the Cicero Discovery
product as well as desktop automation for enterprise contact center
and back office employees. Leveraging existing IT investments
Cicero Automation integrates applications, automates workflow, and
provides control and adaptability at the end user
desktop.
Cicero
Automation also provide Single Sign-On (SSO) and stay signed on
capability. The software maintains a secure credential store that
facilitates single sign-on. Passwords can be reset but are
non-retrievable. Stored interactions can be selectively encrypted
based on the needs of the enterprise. All network communications
are compressed and encrypted for transmission.
The
Company provides an intuitive configuration toolkit for each
product, which simplifies the process of deploying and managing the
solutions in the enterprise. The Company provides a unique way of
capturing untapped desktop activity data using sensors, combining
it with other data sources, and making it readily available for
analysis and action to the business community. The Company also
provides a unique approach that allows companies to organize
functionality of their existing applications to better align them
with tasks and operational processes. In addition, the
Company’s software solutions can streamline end-user tasks
and enable automatic information sharing among line-of-business
siloed applications and tools. It is ideal for deployment in
organizations that need to provide access to enterprise
applications on desktops to iteratively improve business
performance, the user experience, and customer satisfaction. By
leveraging desktop activity data, integrating disparate
applications, automating business processes and delivering a better
user experience, the Company’s products are ideal for the
financial services, insurance, healthcare, governmental and other
industries requiring a cost-effective, proven business performance
and user experience management solution for enterprise
desktops.
In
addition to software products, the Company also provides technical
support, training and consulting services as part of its commitment
to providing its customers industry-leading integration solutions.
The Company’s consulting team has in-depth experience in
developing successful enterprise-class solutions as well as
valuable insight into the business information needs of customers
in the Global 5000. We offer services around our integration
software products.
This
Quarterly Report on Form 10-Q contains forward-looking statements
relating to such matters as anticipated financial performance,
business prospects, technological developments, new products,
research and development activities, liquidity and capital
resources and similar matters. The Private Securities Litigation
Reform Act of 1995 provides a safe harbor for forward-looking
statements. In order to comply with the terms of the safe harbor,
the Company notes that a variety of factors could cause its actual
results to differ materially from the anticipated results or other
expectations expressed in the Company's forward-looking statements.
These risk and uncertainties include, among others, the
following:
●
An inability to
obtain sufficient capital either through internally generated cash
or through the use of equity or debt offerings could impair the
growth of our business;
●
Economic conditions
could adversely affect our revenue growth and cause us not to
achieve desired revenue;
●
The so-called
“penny stock rule” could make it cumbersome for brokers
and dealers to trade in our common stock, making the market for our
common stock less liquid which could cause the price of our stock
to decline;
●
Because we cannot
accurately predict the amount and timing of individual sales, our
quarterly operating results may vary significantly, which could
adversely impact our stock price;
●
A loss of key
personnel associated with Cicero Discovery and Cicero Discovery
Automation development could adversely affect our
business;
●
Different
competitive approaches or internally developed solutions to the
same business problem could delay or prevent adoption of Cicero
Discovery and Cicero Discovery Automation;
●
Our ability to
compete may be subject to factors outside our control;
●
The markets for our
products are characterized by rapidly changing technologies,
evolving industry standards, and frequent new product
introductions;
●
We may face damage
to the reputation of our software and a loss of revenue if our
software products fail to perform as intended or contain
significant defects;
●
We may be unable to
enforce or defend our ownership and use of proprietary and licensed
technology; and
●
Our business may be
adversely impacted if we do not provide professional services to
implement our solutions.
Reference
should be made to such factors and all forward-looking statements
are qualified in their entirety by the above cautionary statements.
Although we believe that these forward-looking statements are based
upon reasonable assumptions, we can give no assurance that our
goals will be achieved. Given these uncertainties, readers of this
Quarterly Report on Form 10-Q are cautioned not to place undue
reliance on these forward-looking statements. These forward-looking
statements are made as of the date of this quarterly report. We
assume no obligation to update or revise them or provide reasons
why actual results may differ.
RESULTS OF OPERATIONS
The
table below presents information for the three and nine months
ended September 30, 2017 and 2016 (in thousands):
|
Three months
ended
September
30,
|
Nine months
ended
September
30,
|
|
|
|
|
|
Total
revenue
|
$
232
|
$
217
|
$
1,066
|
$
970
|
Total cost of
revenue
|
140
|
142
|
413
|
481
|
Gross
margin
|
92
|
75
|
653
|
489
|
Total operating
expenses
|
582
|
550
|
1,893
|
1,919
|
Income/(loss) from
operations
|
$
(490
)
|
$
(475
)
|
$
(1,240
)
|
$
(1,430
)
|
Revenue.
The Company has three categories of revenue:
software products, maintenance, and services. Software products
revenue is comprised primarily of fees from licensing the Company's
proprietary software products. Maintenance revenue is comprised of
fees for maintaining, supporting, and providing periodic upgrades
to the Company's software products. Services revenue is comprised
of fees for consulting and training services related to the
Company's software products.
The
Company's revenues vary from quarter to quarter, due to market
conditions, the budgeting and purchasing cycles of customers and
the effectiveness of the Company’s sales force. The Company
typically does not have any material backlog of unfilled software
orders and product revenue in any quarter is substantially
dependent upon orders received in that quarter. Because the
Company's operating expenses are relatively fixed over the short
term, variations in the timing of the recognition of revenue can
cause significant variations in operating results from quarter to
quarter.
We
generally recognize revenue from software license fees when our
obligations to the customer are fulfilled, which is typically upon
delivery or installation. Revenue related to software maintenance
contracts is recognized ratably over the term of the contracts.
Revenues from services are recognized on a time and materials basis
as the services are performed and amounts due from customers are
deemed collectible and non-refundable. We apply the provisions of
Accounting Standards Codification, or ASC 985-605, Software Revenue
Recognition, to all transactions involving the licensing of
software products. In the event of a multiple element arrangement
for a license transaction, we evaluate the transaction as if each
element represents a separate unit of accounting taking into
account all factors following the accounting standards. When such
estimates are not available, the completed contract method is
utilized. Under the completed contract method, revenue is
recognized only when a contract is completed or substantially
complete. Within the revenue recognition rules pertaining to
software arrangements, certain assumptions are made in determining
whether the fee is fixed and determinable and whether
collectability is probable. Should our actual experience with
respect to collections differ from our initial assessment, there
could be adjustments to future results.
THREE MONTHS ENDED SEPTEMBER 30, 2017 COMPARED WITH THE THREE
MONTHS ENDED SEPTEMBER 30, 2016.
Total Revenues
. Total revenues increased $15,000, or 6.9%,
from $217,000 to $232,000, for the three months ended September 30,
2017 as compared with the three months ended September 30, 2016.
The increase is due primarily to an increase in software and
maintenance revenue partially offset by lower services
revenue.
Total Cost of Revenue
. Total cost of revenue decreased
$2,000, or 1.4%, from $142,000 to $140,000 for the three months
ended September 30, 2017, as compared with the three months ended
September 30, 2016. The decrease is primarily due to a decrease in
headcount partially offset by an increase in outside
consulting.
Total Gross Margin.
Gross margin was $92,000, or 39.7%, for
the three months ended September 30, 2017, as compared to the gross
margin of $75,000, or 34.6%, for the three months ended September
30, 2016. The increase in gross margin is primarily due to the
increase in sales.
Total Operating Expenses
. Total operating expenses increased
$32,000, or 5.8%, from $550,000 to $582,000 for the three months
ended September 30, 2017, as compared with the three months ended
September 30, 2016. The increase is primarily attributable to an
increase in headcount and legal fees.
Software Products:
Software Product Revenue.
The Company earned $49,000 in
software product revenue for the three months ended September 30,
2017 as compared to $11,000 in software revenue for the three
months ended September 30, 2016, an increase of $38,000. The
increase is primarily due to timing of software sales.
Software Product Gross Margin.
The gross margin on software
products for the three months ended September 30, 2017 and
September 30, 2016 was 91.8 and 100.0%, respectively. The decrease
is due to a new royalty expense on certain software
sales.
Maintenance:
Maintenance Revenue.
Maintenance revenue for the three
months ended September 30, 2017 increases by approximately $11,000,
or 8.9%, from $124,000 to $135,000 as compared to the three months
ended September 30, 2016. The increase in maintenance revenue is
primarily due to new software sales in 2017.
Maintenance Gross Margin.
Gross margin on maintenance
products for the three months ended September 30, 2017 was $101,000
or 74.8% compared with $78,000 or 62.9% for the three months ended
September 30, 2016. Cost of maintenance is comprised of personnel
costs and related overhead for the maintenance and support of the
Company’s software products. The increase in gross margin is
due to the increase in maintenance revenue and the decrease in cost
of revenue for maintenance services due to a decrease in
headcount.
Services:
Services Revenue.
Services revenue for the three months
ended September 30, 2017 decreased by approximately $34,000, or
41.5%, from $82,000 to $48,000 as compared with the three months
ended September 30, 2016. The decrease is primarily due to a
decrease in paid engagements.
Services Gross Margin Loss.
Services gross margin loss was
$54,000 or 112.5% for the three months ended September 30, 2017
compared with gross margin loss of $14,000 or 17.1% for the three
months ended June 30, 2016. The increase in gross margin loss was
primarily attributable to a decrease in services revenue and an
increase in cost of services from an increase in
headcount.
Operating Expenses:
Sales and Marketing.
Sales and marketing expenses primarily
include personnel costs for salespeople, marketing personnel,
travel and related overhead, as well as trade show participation
and promotional expenses. Sales and marketing expenses for the
three months ended September 30, 2017 increased by approximately
$11,000, or 13.1%, from $84,000 to $95,000 as compared with the
three months ended September 30, 2016. The increase is primarily
attributable to an increase in outside consulting
expenses.
Research and Development.
Research and product development
expenses primarily include personnel costs for product developers
and product documentation and related overhead. Research and
development expense decreased by approximately $8,000, or 3.0%,
from $269,000 to $261,000 for the three months ended September 30,
2017 as compared to the three months ended September 30, 2016. The
decrease in research and development costs for the quarter is
primarily due to a decrease in headcount and a decrease in outside
consulting expenses.
General and Administrative.
General and administrative
expenses consist of personnel costs for the legal, financial, human
resources, and administrative staff, related overhead, and all
non-allocable corporate costs of operating the Company. General and
administrative expenses for the three months ended September 30,
2017 increased by approximately $29,000, or 14.7%, from $197,000 to
$226,000 as compared to the three months ended September 30, 2016.
The increase is primarily due to an increase in legal fees and
corporate insurance partially offset by a decrease in rent
expense.
Provision for Taxes.
The Company’s effective income
tax rate differs from the statutory rate primarily because an
income tax expense/benefit was not recorded as a result of the
losses in the third quarter of 2017 and 2016. As a result of the
Company’s recurring losses, the deferred tax assets have been
fully offset by a valuation allowance.
Net Loss
. The Company recorded a net loss of $567,000 for
the three months ended September 30, 2017 as compared to a net loss
of $589,000 for the three months ended September 30, 2016. The
decrease in net loss is primarily due to the increase in total
revenue partially offset by the increase in operating
expenses.
NINE MONTHS ENDED SEPTEMBER 30, 2017 COMPARED WITH THE NINE MONTHS
ENDED SEPTEMBER 30, 2016.
Total Revenues
. Total revenues increased $96,000, or 9.9%,
from $970,000 to $1,066,000, for the nine months ended September
30, 2017 as compared with the nine months ended September 30, 2016.
The increase is due primarily to an increase in software revenue
partially offset by lower maintenance and services
revenue.
Total Cost of Revenue
. Total cost of revenue decreased
$68,000, or 14.1%, from $481,000 to $413,000 for the nine months
ended September 30, 2017, as compared with the nine months ended
September 30, 2016. The decrease is primarily due to a decrease in
headcount, rent and travel expenses partially offset by an increase
in outside consulting expenses.
Total Gross Margin.
Gross margin was $653,000, or 61.3%, for
the nine months ended September 30, 2017, as compared to the gross
margin of $489,000, or 50.4%, for the nine months ended September
30, 2016. The increase in gross margin is primarily due to the
increase in sales and decrease in cost of revenue.
Total Operating Expenses
. Total operating expenses decreased
$26,000, or 1.4%, from $1,919,000 to $1,893,000 for the nine months
ended September 30, 2017, as compared with the nine months ended
September 30, 2016. The decrease is primarily attributable to a
decrease in headcount, rent and trade show expenses partially
offset by an increase in outside consulting and legal
fees.
Software Products:
Software Product Revenue.
The Company earned $525,000 in
software product revenue for the nine months ended September 30,
2017 as compared to $34,000 in software revenue for the nine months
ended September 30, 2016, an increase of $491,000. The increase is
primarily due to additional licenses ordered from a current
customer.
Software Product Gross Margin.
The gross margin on software
products for the nine months ended September 30, 2017 and September
30, 2016 was 99.2% and 100.0%, respectively.
Maintenance:
Maintenance Revenue.
Maintenance revenue for the nine months
ended September 30, 2017 decreased by approximately $384,000, or
49.9%, from $769,000 to $385,000 as compared to the nine months
ended September 30, 2016. The decrease in maintenance revenue is
primarily due to the cancellation of a maintenance contract in
second quarter 2016.
Maintenance Gross Margin.
Gross margin on maintenance
products for the nine months ended September 30, 2017 was $271,000
or 70.4% compared with $625,000 or 81.3% for the nine months ended
September 30, 2016. Cost of maintenance is comprised of personnel
costs and related overhead for the maintenance and support of the
Company’s software products. The decrease in gross margin is
due to the decrease in maintenance revenue partially offset by the
decrease in cost of revenue for maintenance services.
Services:
Services Revenue.
Services revenue for the nine months ended
September 30, 2017 decreased by approximately $11,000, or 6.6%,
from $167,000 to $156,000 as compared with the nine months ended
September 30, 2016. The decrease is primarily due to a decrease in
paid engagements.
Services Gross Margin Loss.
Services gross margin loss was
$139,000 or 89.1% for the nine months ended September 30, 2017
compared with gross margin loss of $171,000 or 101.8% for the nine
months ended September 30, 2016. The decrease in gross margin loss
was primarily attributable to a decrease in cost of services from a
decrease in headcount partially offset by a decrease in services
revenue.
Operating Expenses:
Sales and Marketing.
Sales and marketing expenses primarily
include personnel costs for salespeople, marketing personnel,
travel and related overhead, as well as trade show participation
and promotional expenses. Sales and marketing expenses for the nine
months ended September 30, 2017 decreased by approximately
$112,000, or 27.0%, from $415,000 to $303,000 as compared with the
nine months ended September 30, 2016. The decrease is primarily
attributable to a decrease in headcount and trade show expenses
partially offset by higher outside consulting
expenses.
Research and Development.
Research and product development
expenses primarily include personnel costs for product developers
and product documentation and related overhead. Research and
development expense decreased by approximately $46,000, or 5.3%,
from $862,000 to $816,000 for the nine months ended September 30,
2017 as compared to the nine months ended September 30, 2016. The
decrease in research and development costs is primarily due to a
decrease in headcount partially offset by an increase in outside
consulting expenses.
General and Administrative.
General and administrative
expenses consist of personnel costs for the legal, financial, human
resources, and administrative staff, related overhead, and all
non-allocable corporate costs of operating the Company. General and
administrative expenses for the nine months ended September 30,
2017 increased by approximately $132,000, or 20.6%, from $642,000
to $774,000 as compared to the nine months ended September 30,
2016. The increase is primarily due to an increase in legal
fees.
Provision for Taxes.
The Company’s effective income
tax rate differs from the statutory rate primarily because an
income tax expense/benefit was not recorded as a result of the
losses in the first nine months of 2017 and 2016. As a result of
the Company’s recurring losses, the deferred tax assets have
been fully offset by a valuation allowance.
Net Loss
. The Company recorded a net loss of $1,557,000 for
the nine months ended September 30, 2017 as compared to a net loss
of $1,759,000 for the nine months ended September 30, 2016. The
decrease in net loss is primarily due to the increase in total
revenue and the decrease in operating expenses.
LIQUIDITY AND CAPITAL RESOURCES
Cash
Cash
and cash equivalents decreased to $68,000 at September 30, 2017
from $91,000 at December 31, 2016, a decrease of $23,000. The
decrease is primarily attributable to expenses in the first nine
months of 2017 partially offset by collections of accounts
receivable from year end, revenue generated in the first nine
months of 2017 and short term borrowings.
Net cash used by Operating Activities.
Cash used by
operations for the nine months ended September 30, 2017 was
$1,376,000 compared to $1,442,000 for the nine months ended
September 30, 2016. Cash used by operations for the nine months
ended September 30, 2017 was primarily due to the loss from
operations of $1,557,000; an increase in prepaid expenses of
$60,000 and a decrease of deferred revenue of $418,000, partially
offset by depreciation expense of $5,000, stock option expense of
$3,000, a decrease in accounts receivable of $262,000, and an
increase in accounts payable and accrued expenses of
$389,000.
Net cash used in Investing Activities.
The Company had
$2,000 in purchases of equipment in the nine months ended September
30, 2017 as compared to $3,000 for the nine months ended September
30, 2016.
Net cash generated by Financing Activities.
Net cash
generated by financing activities for the nine months ended
September 30, 2017 was approximately $1,355,000, compared to
$829,000 for the nine months ended September 30, 2016. Cash
generated by financing activities for the nine months ended
September 30, 2017 was comprised primarily from short term
borrowings of $1,375,000 partially offset by repayments of
$20,000.
Liquidity
The
Company funded its cash needs during the nine months ended
September 30, 2017 with cash on hand from December 31, 2016; the
revenue generated in the first nine months of 2017 and short term
borrowings.
From
time to time during 2015 through 2017, the Company entered into
several short term notes payable with Mr. Steffens for various
working capital needs. The notes vary from non-interest bearing to
interest rate of 12% with a maturity date of December 31, 2015. The
Company is obligated to repay the notes with the collection of any
accounts receivables. The Company had repaid $170,000 in principal
as of December 31, 2015. In December 2015, the maturity dates were
extended to December 31, 2016. At December 31, 2016, the Company
was indebted to Mr. Steffens in the approximate amount of
$2,879,000 of principal and $1,380,000 of interest. In December
2016, the maturity dates were extended to June 30, 2017.
Additionally, notes totaling $2,269,000 that were previously
non-interest bearing were amended to an annual interest rate of
10%. In August 2017, the Company issued 5,083 shares of its Series
A preferred stock to convert its total obligation of $3,544,500 of
principal and $1,538,905 of interest. (See Note 4). At September
30, 2017, the Company was indebted to Mr. Steffens in the
approximate amount of $690,500 of principal and $51,000 of
interest.
In
October 2017, the Company entered into notes payable totaling
$210,000 with Mr. Steffens. The notes bear interest at 10% per
annum. The notes are unsecured and mature on June 30, 2018. The
Company is obligated to repay the note with the collection of any
accounts receivables.
The
Company incurred an operating loss of approximately $3,908,000 for
the year ended December 31, 2016, and has a history of operating
losses. For the nine months ended September 30, 2017, the Company
incurred a net loss of $1,557,000 and had a working capital
deficiency of $4,371,000 as of September 30, 2017. In August 2017,
the Company issued 5,083 shares of its Series A preferred stock and
a Warrant to purchase up to 20,333,620 shares of the
Company’s Common Stock at an exercise price of $0.07 per
share to its Chairman, John Steffens as part of a conversion of
debt and interest totaling $5,083,405 improving its working capital
deficiency. Management believes that its product’s
functionality resonates in the marketplace as both
“analytics” and “automation” are topics
often discussed and written about. Further, the Company believes
that its repositioned strategy of expanding the indirect channel
with more resale and OEM partners, will shorten the sales cycle and
allow for value based selling to our customers and prospects. The
Company anticipates success in this regard based upon current
discussions with active partners, customers and prospects. The
Company has borrowed $1,375,000 and $833,000 in 2017 and 2016,
respectively.
Should
the Company be unable to secure customer contracts that will drive
sufficient cash flow to sustain operations, the Company will be
forced to seek additional capital in the form of debt or equity
financing; however, there can be no assurance that such debt or
equity financing will be available on terms acceptable to the
Company or at all. These factors raise substantial doubt about the
Company’s ability to continue as a going concern. The
condensed consolidated financial statements do not include any
adjustments relating to the recoverability and classification of
recorded asset amounts or amounts and classification of liabilities
that might be necessary should the Company be unable to continue as
a going concern.
OFF-BALANCE SHEET ARRANGEMENTS
The
Company does not have any off-balance sheet arrangements. We have
no unconsolidated subsidiaries or other unconsolidated limited
purpose entities, and we have not guaranteed or otherwise supported
the obligations of any other entity.