Add
INS to Portfolio
Set Alert
Email to a
Friend
| |||
|
|
Quotes & Info
|
| INS > SEC Filings for INS > Form 10QSB on 14-Nov-2007 | All Recent SEC Filings |
14-Nov-2007
Quarterly Report
For purposes of this discussion and analysis, we are assuming and relying upon
the reader's familiarity with the information contained in Item 6. Management's
Discussion and Analysis or Plan of Operation, in the Form 10-KSB for the year
ended December 31, 2006 as filed with the Securities and Exchange Commission.
Overview
Our consolidated subsidiaries operate in two industry segments: Information
Technology Products and Services and Industrial Products. Included in the
Information Technology sector are VISaer, Inc. (software for maintenance, repair
and overhaul operations in the commercial aviation industry) and CoreCard
Software, Inc. (software for managing accounts receivables, prepaid, credit and
debit cards). The Industrial Products segment includes ChemFree Corporation
(bio-remediating parts washers).
We derive our product revenue from sales of software licenses in our Information
Technology sector and sales and leases of equipment and supplies in our
Industrial Products sector. Our service revenue consists of fees for
implementation, consulting, training, maintenance and support for software
products in our Information Technology sector. Our consolidated revenue is the
aggregate of the revenue generated at our three subsidiary companies. Our
revenue fluctuates from period to period and our results are not necessarily
indicative of the results to be expected in future periods. Period-to-period
comparisons may not be meaningful and it is difficult to predict the level of
consolidated revenue on a quarterly or annual basis for a number of reasons,
including the following:
• A change in revenue level at one of our subsidiaries may impact
consolidated revenue or be offset by an opposing change at another
subsidiary.
• Economic and marketplace trends may impact our subsidiaries differently or not at all depending upon their particular marketplaces.
• Our software subsidiaries, CoreCard Software and VISaer, have been involved in major new product development initiatives for the past six years and have limited experience delivering and installing their new products at customer sites, making it difficult to predict with certainty when they will complete the requirements to recognize license revenue on individual software contracts.
• Our subsidiaries are relatively small in revenue size and, in the Information Technology sector, license revenue at a subsidiary in a given period may consist of a relatively small number of contracts. Consequently, even small delays in a subsidiary's delivery under a software contract (which may be out of its control) could have a significant and unpredictable impact on consolidated revenue that is recognized in a given quarterly or annual period.
Frequently we recognize consolidated operating losses on a quarterly and annual
basis and are likely to do so in the future from time to time until our software
companies have larger installed bases of customers and recurring services
revenue to cover relatively fixed operating expenses. Our operating expenses
consist of the aggregate of our subsidiaries' expenses and the corporate office
expenses. Our ChemFree subsidiary usually generates an operating profit but our
early stage subsidiaries, VISaer and CoreCard, are not consistently profitable,
mainly due to significant research and development expense that is invested to
complete their new product offerings and the deferral of revenue recognition
until such products are delivered to customers. Depending upon the size and
number of software licenses recognized in a particular period and the level of
expenses incurred to support development and sales activities, our subsidiaries
may report operating profits on an irregular basis as they build their customer
base. A significant portion of our subsidiaries' expense is related to personnel
which is relatively fixed in the short-term. We continually evaluate and strive
to balance our financial resources with the resources required to complete
products under development and support our subsidiaries' customers. For these
and other reasons, our operating results vary from quarter to quarter and at the
present time are generally not predictable with any degree of certainty.
We also frequently generate income or losses from non-operating sources and we
may do so from time to time in the future. Occasionally we derive income from
sales of holdings in affiliate and other minority-owned companies or we record a
charge if we believe the value of a non-consolidated company is impaired. We
also recognize on a quarterly basis our pro rata share of the income or losses
of affiliate companies accounted for by the equity method. The timing and amount
of gain or loss recognized as a result of a sale or the amount of equity in the
income or losses of affiliates generally are not under our control and are not
necessarily indicative of future results, either on a quarterly or annual basis.
Results of Operations
The following discussion should be read in conjunction with the Consolidated
Financial Statements and the Notes to Consolidated Financial Statements
presented in this quarterly report. As explained in Note 3, the QS operations
have been accounted for as Discontinued Operations and are not included in the
following discussion of continuing operations for any period presented.
Revenue -Total revenue in the three month period ended September 30, 2007 was
$5.8 million, a 67% increase compared to the third quarter of 2006. In the nine
month period ended September 30, 2007, total revenue was $13.7 million, a 15%
increase compared to the same period in 2006. The increase in revenue in both
the three and nine month periods in 2007 is primarily related to a greater
volume of domestic sales of ChemFree's SmartWasher® products. The mix of product
and service revenue varied considerably in the three and nine month periods
ended September 30, 2007 compared to the same periods in 2006. For the three
months ended September 30, 2007, product revenue was 81% of total revenue
compared to 71% of total revenue in the same period last year. For the nine
months ended September 30, 2007, product sales accounted for 75% of total
revenue compared to 56% of total revenue in the same period in 2006. Changes in
revenue mix generally reflect a significant increase in ChemFree product sales
in both the three and nine month periods of 2007 compared to 2006.
• Revenue from products, which includes sales of equipment in our Industrial
Products segment as well as software license fees related to the
Information Technology segment, was $4.7 million in the three month period
ended September 30, 2007, an 89% increase compared to $2.5 million in the
three months ended September 30, 2006. In the nine month period ended
September 30, 2007, product revenue increased 55% to $10.3 million,
compared to $6.7 million in the year-to-date period in 2006. Product
revenue associated with the Industrial Products segment grew by 107% and
48% in the three and nine month periods ended September 30, 2007, compared
to the respective periods in 2006. The period-to-period growth in product
revenue in 2007 is attributed mainly to a higher volume of ChemFree
SmartWasher® products sold to domestic corporate customers in the second
and third quarter of 2007, as well as an increase in international sales
in the first quarter of this year. The higher volume of Smartwasher®sales
in the second and third quarters of 2007 is due to the successful rollout
of a national sales program by a new end-user customer. It is not likely
that the customer will maintain the same level of machine purchases once
the initial rollout is complete, although recurring revenue from
consumable supplies for the machines is expected to increase over time.
Product revenue associated with the Information Technology segment
increased by $770,000 in the nine months ended September 30, 2007 compared
to the same period last year, reflecting primarily a single software
license contract recognized by our CoreCard Software subsidiary in the
first quarter of 2007.
• Service revenue increased by 13% in the three month period ended September 30, 2007 but declined by 36% in the first nine months of 2007 compared to the same periods last year. The increase in third quarter revenue is attributed to greater professional services revenue at the VISaer subsidiary, while the decline in year-to-date service revenue is attributed mainly to the fact that in 2006, VISaer recognized $1.8 million in service revenue upon completion of a single multi-year contract. There was no such comparable contract in the first nine months of 2007.
Cost of Revenue -Total cost of revenue was 57% of total revenue in the three
month period ended September 30, 2007 compared to 46% of total revenue in the
same period in 2006. Total cost of revenue was 53% of total revenue in the nine
month period ended September 30, 2007 compared to 49% in the year-to-date period
in 2006.
• Cost of product revenue was 57% of product revenue in the third quarter of
2007 compared to 47% of product revenue in the same period in 2006. The
principal reason for the increase in product cost as a percent of product
revenue is mainly due to a change in product mix between periods. In 2007,
ChemFree sold a higher volume of parts washer machines during the rollout
of a new program with a large domestic corporate customer and also
experienced an increase in the cost of certain plastic components.
ChemFree expects that margins will improve in future periods with an
increase in sales of higher margin consumable supplies to an expanded base
of installed machines. Cost of product sales was 51% of product revenue in
the nine month periods ended September 30, 2007 and 2006. Although the
overall cost of product sales percentages were the same in both periods,
there was a year-to-date 2007 decline in ChemFree product margins (for the
reasons explained above) that was offset by a higher margin contribution
from software license revenue at our CoreCard Software subsidiary in the
same period.
• Cost of service revenue (which relates to the software subsidiaries only) was 57% and 44% of service revenue in the three months ended September 30, 2007 and 2006, respectively. Cost of service revenue was 59% and 46% of service revenue in the nine-month periods ended September 30, 2007 and 2006, respectively. The decline in gross margin percentage between periods reflects primarily the fact that the number of hours and the average standard cost allocated to CoreCard's customer support and professional services activities were higher in 2007 than in the same periods in 2006.
Operating Expenses - In the three months ended September 30, 2007, total consolidated operating expenses were 23% higher than in the third quarter of 2006 on a 67% increase in revenue. Year-to-date consolidated operating expenses were 1% higher in 2007 than in the same period in 2006, on a 15% higher revenue level. Consolidated marketing expenses were 94% ($511,000) higher in the third quarter of 2007 as compared to the third quarter last year and 32% ($507,000) higher in the nine month period ended September 30, 2007 compared to the year-to-date period in 2006. The significant increase in marketing expenses reflects mainly higher sales commission expense at ChemFree related to the increased sales revenue.
Consolidated general and administrative expenses increased by 28% ($245,000) in
the three month period ended September 30, 2007 as compared to the corresponding
period in 2006 and increased by 6% ($178,000) in the nine month period ended
September 30, 2007 compared to the respective period in 2006. The
period-to-period increases reflect primarily higher legal fees at the ChemFree
subsidiary. Consolidated research and development expenses were lower by 8%
($115,000) and 13% ($576,000) in the three and nine month periods, respectively,
in 2007 compared to the same periods in 2006. The decrease is due principally to
reduced employee headcount allocated to R&D at VISaer's domestic operation,
offset in part by a greater number of technical employees at our subsidiary in
India. In addition, in 2007 a larger component of research and development
expenses was allocated to cost of service revenue at CoreCard or was classified
on the balance sheet as cost of in-process, deferred revenue contracts. Such
deferred costs will be recognized when the corresponding deferred revenue is
recognized.
Interest Income (Expense), Net - In the three and nine months ended
September 30, 2007, we recorded $33,000 and $130,000, respectively, in net
interest income, reflecting mainly interest earned on the note receivable from
the buyer of our QS business (as explained in Note 3 to the Consolidated
Financial Statements) and interest earned on cash deposits. In the three and
nine month periods ended September 30, 2006, we recorded $7,000 and $68,000,
respectively, in net interest expense which reflects utilization of our line of
credit during the first half of 2006.
Investment Income, Net - We recorded investment income of $81,000, in the nine
month period ended September 30, 2007. The income reflects primarily additional
cash distributions related to prior period sales of our investments in Horizon
Software and Aderis Pharmaceuticals, offset in part by a loss in the first
quarter of 2007 on the sale of a marketable security. In the three and nine
month periods ended September 30, 2006, we recorded investment income of
$2.6 million related to the sale of our investment in Horizon Software on
August 31, 2006, as explained in more detail in Note 3 to the Consolidated
Financial Statements in our Form 10-KSB for 2006.
Equity Earnings of Affiliate Companies - On a quarterly basis, we recognize our
pro rata share of the earnings or losses of affiliate companies that we record
on the equity method. We recorded $6,000 and $48,000 in net equity income of
affiliate companies in the three and nine month periods ended September 30, 2007
compared to $188,000 and $351,000 in net equity income of affiliate companies in
the same periods in 2006. The change between periods reflects the fact that we
sold our interest in our Horizon Software affiliate in 2006.
Other Income (Expense), Net - We recorded other expense of $31,000 and $38,000
in the three and nine month periods ended September 30, 2007 compared to other
expense of $45,000 and $8,000 in the three and nine months ended September 30,
2006. The amounts in 2007 reflect principally a write-down of the unamortized
value of certain leased equipment at ChemFree. The losses recorded in 2006
reflect principally currency exchange losses related to VISaer.
Income Taxes - We did not accrue for any income tax liability year-to-date in
2007 as we have estimated no taxable income and we believe our deferred tax
assets should be fully reserved given their character and our historical losses.
Discontinued Operations
Net Income from Discontinued Operations - The amounts recorded in 2006 reflect
the results of operations of our QS Technologies subsidiary which has been
classified as a discontinued operation as a result of the sale of the QS
business, as disclosed in more detail in Note 3 to the Consolidated Financial
Statements.
Gain on Sale of Discontinued Operations - In the first quarter of 2007, we
recorded an additional gain of $97,000 on the sale of the QS business as a
result of the QS buyer confirming that no post-closing adjustments would be
asserted. Accordingly, we reversed the balance of our transaction related
contingency accrual and recognized additional gain of $97,000 on the sale.
Liquidity and Capital Resources
Our cash balance at September 30, 2007 was $2.6 million compared to a cash
balance of $2.1 million at December 31, 2006. During the nine months ended
September 30, 2007, our principal sources of cash were $3.3 million from payment
of principal and interest on notes receivable, consisting of payment in full of
the note from the sale of our Horizon Software investment in 2006 and scheduled
monthly payments from the buyer of our QS Technologies subsidiary. In the nine
month period ended September 30, 2007, we used approximately $2.9 million in the
aggregate to support our software subsidiaries' U.S. and international
operations, the majority of which is related to our CoreCard subsidiary. During
the nine month period ended September 30, 2007 we also used approximately
$385,000 to acquire an office facility for our software subsidiary in India and
$156,000 for partial payment on a new accounting system for the ChemFree
subsidiary. The increase in accounts receivable of $736,000 (37%) compared to
December 31, 2006 is mainly related to the increased sales generated by our
ChemFree subsidiary in the third quarter of 2007, as is the increase of $194,000
(22%) in inventory levels to support the higher sales levels. Accounts payable
increased by $718,000 compared to December 31, 2006, principally reflecting
increased purchases of raw materials in support of the SmartWasher® sales growth
at ChemFree as well as higher billings for legal expenses in September.
In recent years, most of our cash has been generated on an irregular basis from
sales of assets or from borrowings under our line of credit. We have used a
significant amount of the cash received from such sales to support the
operations of our CoreCard and VISaer subsidiaries. Their funding requirements
were greater than anticipated in the first nine months of 2007 due to slippage
in anticipated contract payments during that period. Looking ahead, we believe
our estimates on the timing of milestone payments on contracts should be more
reliable because the scope of the contracts is more certain and contracts are
closer to completion. However, there could be further unanticipated delays for a
number of reasons in completing the deliverables or customer acceptance under
these contracts which could make our current estimates unreliable. A significant
amount of our consolidated expenses are related to personnel, none of whom are
represented by a union or have employment contracts, but which are relatively
fixed in the near-term.
We currently project that we will have sufficient liquidity from cash on hand,
monthly payments on notes receivable, milestone payments on software contracts,
or borrowing under our line of credit to meet our operating needs in the
foreseeable future. We have a $2.0 million line of credit (with no current
borrowings) which will be used as necessary to support any short-term cash
needs. We presently project that we will have sufficient accounts receivable and
inventory balances to provide the required borrowing base for any required draws
under our bank line of credit. The bank line of credit expires December 1, 2007
and we expect it will be renewed on similar terms. However, if the bank does not
renew the line and we cannot find alternate bank financing, or if our cash
projections prove unreliable, we could experience a cash shortfall. Delays in
meeting project milestones or software delivery commitments could cause
customers to postpone payments and increase our need for cash during the next
six to twelve months. Presently, we do not believe there is a material risk to
successfully performing under these contracts but if customer payments are
delayed for any reason, if we do not control costs or if we encounter unforeseen
technical or quality problems, then we could require more cash than planned. We
anticipate a cash payment in the first quarter of 2008 of between $1.0 million
and $1.4 million related to an earn-out payment on the sale of our former QS
Business (refer to Note 3).
In the second quarter of 2007, our ChemFree subsidiary entered into a three year
term loan with a bank, guaranteed by Intelligent Systems, for up to $300,000 in
principal amount to finance the purchase of a new accounting system. As of
September 30, 2007, the amount drawn down was $156,000.
Beyond the next nine to twelve months, we currently expect that liquidity will
improve and consolidated operations will generate sufficient cash to fund their
requirements with use of our credit facility to accommodate short-term needs.
Other sources of liquidity include potential sales of investments, subsidiaries
or other assets although the timing and amount of any such transactions are
uncertain and, to the extent they involve non-consolidated companies, generally
not within our control.
Off-Balance Sheet Arrangements
We do not currently have any off balance sheet arrangements that are reasonably
likely to have a current or future material effect on our financial condition,
liquidity or results of operations.
Critical Accounting Policies and Estimates
The discussion and analysis of our financial condition and results of operations
is based upon our consolidated financial statements which have been prepared in
accordance with accounting principles generally accepted in the United States.
The preparation of these financial statements requires us to make estimates and
judgments that affect the reported amount of assets, liabilities, revenues and
expenses. We consider certain accounting policies related to revenue
recognition, valuation of acquired intangibles and impairment of long-lived
assets, and valuation of investments to be critical policies due to the
estimation processes involved in each. Management discusses its estimates and
judgments with the Audit Committee of the Board of Directors. For a detailed
description on the application of these and other accounting policies, see Note
1 to the Consolidated Financial Statements contained in our Annual Report on
Form 10-KSB for the fiscal year ended December 31, 2006. Reference is also made
to the discussion of the application of these critical accounting policies and
estimates contained in Management's Discussion and Analysis in our Annual Report
on Form 10-KSB for 2006. During the nine months ended September 30, 2007, other
than the implementation of FIN 48 as noted in Note 12 to the Consolidated
Financial Statements contained herein, there were no significant or material
changes in the application of critical accounting policies that would require an
update to the information provided in the Form 10-KSB for 2006.
Factors That May Affect Future Operations
Future operations in both the Information Technology and Industrial Products
segments are subject to risks and uncertainties that may negatively impact our
future results of operations or projected cash requirements. It is difficult to
predict future quarterly and annual results with any certainty mainly because
our software subsidiaries are early stage companies with limited revenue and
experience in their respective markets, all are relatively small in size and, in
the Information Technology sector, revenue tends to be associated with fewer and
larger sales than in the Industrial Products segment. Thus any trend or delay
that affects even one of our subsidiaries could have a significant negative
impact on the company's consolidated results of operations or cash requirements
on a quarterly or annual basis. In addition, the carrying value of our
investments is impacted by a number of factors which are generally beyond our
control since we are typically a non-control shareholder in a private company
with limited liquidity.
Among the numerous factors that may affect our consolidated results of
operations or financial condition are the following:
• Delays in software development projects which could cause our customers to
delay implementations, delay payments or cancel contracts, which would
increase our costs and reduce our revenue.
• Failure of our CoreCard subsidiary to improve its ability to deliver software products which meet the business and technology requirements of specific target markets within a reasonable time frame and at a price point that supports a profitable, sustainable business model.
• In the Industrial Products market, failure by ChemFree to protect its intellectual property assets, which could increase competition in the marketplace and result in greater price pressure and lower margins, thus impacting sales, profits and projected cash flow.
• Increased operating expenses and diversion of resources related to compliance
with the internal control over financial reporting requirements of
Section 404 of the Sarbanes-Oxley Act of 2002.
• Software errors or poor quality control which may delay product releases, increase our costs, result in non-acceptance of our software by customers or delay revenue recognition.
• Water shortages in Georgia, ChemFree's operations base, which could impact availability or price of water that is used in the manufacture of one of its products, OzzyJuice fluid, resulting in reduced revenue and gross margins.
• Competitive pressures (including pricing, changes in customer requirements and preferences, and competitor product offerings) which may cause prospective customers to choose an alternative product solution, resulting in lower revenue and profits (or increased losses).
• The inability of our CoreCard or VISaer subsidiaries to establish a base of referenceable customers for their new product offerings, resulting in lower revenue and profits (or increased losses), increased cash needs and possibly leading to restructuring or cutting back of the subsidiary's operations.
• An insufficient number of potential CoreCard customers decide to purchase and run an in-house software system and instead choose to outsource their account transaction processing which could result in lower revenue and greater cash requirements or an unsuccessful business model
• Failure of our products' specifications and features to achieve market acceptance.
• The inability of our software subsidiaries to retain key software developers and managers who have accumulated years of know-how in our target markets and company products, or failure to attract and train a sufficient number of new software developers and testers to support our product development plans and customer requirements at projected cost levels.
• Further increases in the price of oil, which could increase ChemFree's product costs and which could affect VISaer's results if potential aviation customers delay or cancel purchases of software or services in the face of declining industry trends or poor financial condition.
• Delays in anticipated customer payments for any reason which would increase our cash requirements and possibly our losses.
• Declines in performance, financial condition or valuation of minority-owned companies which could cause us to write-down the carrying value of our investment or postpone an anticipated liquidity event, which could negatively impact our earnings and cash.
. . .
|
|