ACORN ENERGY, INC. - Quarter Report: 2006 September (Form 10-Q)
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
WASHINGTON,
D.C. 20549
FORM
10-Q
QUARTERLY
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
|
SECURITIES
EXCHANGE ACT OF 1934
|
For
the quarterly period ended September
30, 2006
|
Commission
file number: 0-19771
ACORN
FACTOR, INC.
(Exact
name of registrant as specified in its charter)
Delaware
|
22-2786081
|
|
(State
or other jurisdiction of
|
(I.R.S.
Employer
|
|
incorporation
or organization)
|
Identification
No.)
|
|
200
Route 17, Mahwah, New Jersey
|
07430
|
|
(Address
of principal executive offices)
|
(Zip
Code)
|
(201)
529-2026
(Registrant’s
telephone number, including area code)
Indicate
by check mark whether the registrant (1) has filed all reports required to
be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements
for
the past 90 days.
Yes
x
|
No
¨
|
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of “accelerated
filer and large accelerated filer” in Rule 12b-2 of the Exchange
Act.
Large
accelerated filer ¨
|
Accelerated
filer ¨
|
Non-accelerated
filer x
|
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act).
Yes
¨
|
No
x
|
Indicate
the number of shares outstanding of each of the issuer's classes of common
stock, as of the latest practicable date.
Class
|
Outstanding
at November 15, 2006
|
|
Common
Stock, $0.01 par value per share
|
9,453,659
|
ACORN
FACTOR, INC.
Quarterly
Report on Form 10-Q
for
the Quarterly Period Ended September 30, 2006
TABLE
OF CONTENTS
PART
I. Financial Information
|
|||
Item
1.
|
Financial
Statements
|
||
Unaudited
Consolidated Financial Statements:
|
|||
Consolidated
Balance Sheets
|
|||
as
of December 31, 2005 and September 30, 2006
|
1
|
||
Consolidated
Statements of Operations
|
|||
for
the nine and three month periods ended September 30, 2005 and
2006
|
2
|
||
Consolidated
Statement of Changes in Shareholders’ Equity
|
|||
for
the nine month period ended September 30, 2006
|
3
|
||
Consolidated
Statements of Cash Flows
|
|||
for
the nine month periods ended September 30, 2005 and 2006
|
4
|
||
Notes
to Consolidated Financial Statements
|
6
|
||
Item
2.
|
Management’s
Discussion and Analysis of Financial Condition
|
||
and
Results of Operations
|
19
|
||
Item
3.
|
Quantitative
and Qualitative Disclosures about Market Risk
|
26
|
|
Item
4.
|
Controls
and Procedures
|
26
|
|
PART
II. Other Information
|
|||
Item
1.
|
Legal
Proceedings
|
27
|
|
Item
4.
|
Submission
of Matters to a Vote of Security Holders
|
27
|
|
Item
5.
|
Other
Information
|
27
|
|
Item
6.
|
Exhibits
|
28
|
|
Signatures
|
29
|
Certain
statements contained in this report are forward-looking in nature. These
statements are generally identified by the inclusion of phrases such as “we
expect”, “we anticipate”, “we believe”, “we estimate” and other phrases of
similar meaning. Whether such statements ultimately prove to be accurate depends
upon a variety of factors that may affect our business and operations. Many
of
these factors are described in our most recent Annual Report on Form 10-K as
filed with Securities and Exchange Commission.
ACORN
FACTOR, INC. AND SUBSIDIARIES
Consolidated
Balance Sheets
(in
thousands, except share and per share data)
|
As
of December 31, 2005
|
As
of September 30, 2006
|
|||||
ASSETS
|
|||||||
Current
assets:
|
|||||||
Cash
and cash equivalents
|
$
|
913
|
$
|
1,830
|
|||
Restricted
cash
|
247
|
—
|
|||||
Restricted
cash (under agreement with a related party)
|
300
|
—
|
|||||
Accounts
receivable, net
|
4,096
|
867
|
|||||
Unbilled
work-in-process
|
348
|
630
|
|||||
Inventory
|
25
|
—
|
|||||
Other
current assets
|
709
|
264
|
|||||
Total
current assets
|
6,638
|
3,591
|
|||||
Property
and equipment, net
|
500
|
438
|
|||||
Investment
in Paketeria
|
—
|
811
|
|||||
Other
assets
|
334
|
314
|
|||||
Funds
in respect of employee termination benefits
|
1,441
|
1,489
|
|||||
Restricted
cash - non-current (under agreement with a related party)
|
1,050
|
—
|
|||||
Goodwill
|
129
|
135
|
|||||
Other
intangible assets, net
|
81
|
57
|
|||||
Total
assets
|
$
|
10,173
|
$
|
6,835
|
|||
LIABILITIES
AND SHAREHOLDERS’ EQUITY
(NET
OF SHAREHOLDERS’ DEFICIT)
|
|||||||
Current
liabilities:
|
|||||||
Short-term
bank credit
|
$
|
130
|
—
|
||||
Current
maturities of long-term debt
|
160
|
65
|
|||||
Trade
accounts payable
|
1,950
|
354
|
|||||
Accrued
payroll, payroll taxes and social benefits
|
740
|
443
|
|||||
Other
current liabilities
|
2,200
|
1,674
|
|||||
Total
current liabilities
|
5,180
|
2,536
|
|||||
Long-term
liabilities:
|
|||||||
Investment
in Comverge, net
|
1,824
|
1,824
|
|||||
Long-term
debt
|
75
|
—
|
|||||
Liability
for employee termination benefits
|
2,264
|
2,452
|
|||||
Other
liabilities
|
10
|
26
|
|||||
Total
long-term liabilities
|
4,173
|
4,302
|
|||||
Shareholders’
equity:
|
|||||||
Common
stock - $0.01 par value per share:
|
|||||||
Authorized
- 20,000,000 shares; Issued -8,966,195 shares at
December 31, 2005 and September 30, 2006
|
88
|
101
|
|||||
Additional
paid-in capital
|
40,011
|
43,493
|
|||||
Warrants
|
183
|
999
|
|||||
Deferred
stock-based compensation
|
(36
|
)
|
—
|
||||
Accumulated
deficit
|
(35,608
|
)
|
(41,021
|
)
|
|||
Treasury
stock, at cost - 820,704 and 777,371 shares for December 31, 2005
and
September 30, 2006, respectively
|
(3,791
|
)
|
(3,592
|
)
|
|||
Accumulated
other comprehensive income (loss)
|
(27
|
)
|
17
|
||||
Total
shareholders’ equity (net of shareholders’ deficit)
|
820
|
(3
|
)
|
||||
Total
liabilities and shareholders’ equity (net of shareholders’
deficit)
|
$
|
10,173
|
$
|
6,835
|
The
accompanying notes are an integral part of these consolidated financial
statements.
-1-
ACORN
FACTOR, INC. AND SUBSIDIARIES
Consolidated
Statements of Operations (unaudited)
(in
thousands, except per share data)
Nine
months ended
September
30,
|
Three
months ended
September
30,
|
||||||||||||
2005
|
2006
|
2005
|
2006
|
||||||||||
Sales:
|
|||||||||||||
Projects
|
$
|
2,243
|
$
|
2,203
|
$
|
586
|
$
|
682
|
|||||
Services
and other
|
747
|
683
|
196
|
241
|
|||||||||
Total
sales
|
2,990
|
2,886
|
782
|
923
|
|||||||||
Cost
of sales:
|
|||||||||||||
Projects
|
1,601
|
1,490
|
474
|
469
|
|||||||||
Services
and other
|
607
|
547
|
156
|
178
|
|||||||||
Total
cost of sales
|
2,208
|
2,037
|
630
|
647
|
|||||||||
Gross
profit
|
782
|
849
|
152
|
276
|
|||||||||
Operating
expenses:
|
|||||||||||||
Research
and development expenses
|
42
|
184
|
16
|
87
|
|||||||||
Selling,
marketing, general and administrative expenses
|
2,939
|
3,735
|
996
|
1,769
|
|||||||||
Total
operating expenses
|
2,981
|
3,919
|
1,012
|
1,856
|
|||||||||
Operating
loss
|
(2,199
|
)
|
(3,070
|
)
|
(860
|
)
|
(1,580
|
)
|
|||||
Finance
expense, net
|
(13
|
)
|
(23
|
)
|
(23
|
)
|
(17
|
)
|
|||||
Other
income
|
—
|
330
|
—
|
—
|
|||||||||
Loss
before taxes on income
|
(2,212
|
)
|
(2,763
|
)
|
(883
|
)
|
(1,597
|
)
|
|||||
Taxes
on income
|
49
|
8
|
43
|
2
|
|||||||||
Loss
from operations of the Company and its consolidated
subsidiaries
|
(2,163
|
)
|
(2,771
|
)
|
(840
|
)
|
(1,599
|
)
|
|||||
Share
of losses in Paketeria
|
—
|
(52
|
)
|
—
|
(52
|
)
|
|||||||
Share
of losses in Comverge
|
(380
|
)
|
(210
|
)
|
—
|
—
|
|||||||
Minority
interests
|
(73
|
)
|
—
|
(14
|
)
|
—
|
|||||||
Net
loss from continuing operations
|
(2,616
|
)
|
(3,033
|
)
|
(854
|
)
|
(1,651
|
)
|
|||||
Net
income from discontinued operations, net
of tax
|
936
|
78
|
185
|
—
|
|||||||||
Gain
on sale of dsIT Technologies, net of tax
|
542
|
—
|
542
|
—
|
|||||||||
Loss
on sale of discontinued operations and contract settlement, net of
tax
|
—
|
(2,298
|
)
|
—
|
—
|
||||||||
Net
loss
|
$
|
(1,138
|
)
|
$
|
(5,253
|
)
|
$
|
(127
|
)
|
$
|
(1,651
|
)
|
|
Basic
and diluted net income (loss) per share:
|
|||||||||||||
Loss
per share from continuing operations
|
$
|
(0.32
|
)
|
$
|
(0.37
|
)
|
$
|
(0.11
|
)
|
$
|
(0.20
|
)
|
|
Discontinued
operations
|
0.18
|
(0.27
|
)
|
0.09
|
—
|
||||||||
Net
loss per share - basic and diluted
|
$
|
(0.14
|
)
|
$
|
(0.64
|
)
|
$
|
(0.02
|
)
|
$
|
(0.20
|
)
|
|
Weighted
average number of shares outstanding -basic and diluted
|
8,117
|
8,163
|
8,117
|
8,164
|
The
accompanying notes are an integral part of these consolidated financial
statements.
-2-
ACORN
FACTOR, INC. AND SUBSIDIARIES
Consolidated
Statement of Changes in Shareholders’ Equity (unaudited)
(in
thousands)
Number
of Shares
|
Common
Stock
|
Additional
Paid-In
Capital
|
Warrants
|
Stock-Based
Deferred Compensation
|
Accumulated
Deficit
|
Treasury
Stock
|
Accumulated
Other Comprehensive Loss
|
Total
|
||||||||||||||||||||
Balances
as of December
31, 2005
|
8,937
|
$
|
88
|
$
|
40,011
|
$
|
183
|
$
|
(36
|
)
|
$
|
(35,608
|
)
|
$
|
(3,791
|
)
|
$
|
(27
|
)
|
$
|
820
|
|||||||
Net
loss
|
—
|
—
|
—
|
—
|
—
|
(5,253
|
)
|
—
|
—
|
(5,253
|
)
|
|||||||||||||||||
Differences
from translation of financial statements of subsidiaries
|
—
|
—
|
—
|
—
|
—
|
—
|
—
|
44
|
44
|
|||||||||||||||||||
Comprehensive
loss
|
(4,389
|
)
|
||||||||||||||||||||||||||
Reclassification
of stock-based deferred compensation
|
—
|
—
|
(36
|
)
|
—
|
36
|
—
|
—
|
—
|
—
|
||||||||||||||||||
Private
placement of common stock, net of issuance costs
|
26
|
12
|
1,858
|
695
|
—
|
—
|
—
|
—
|
2,565
|
|||||||||||||||||||
Warrants
issued with respect to financial advisory services
|
—
|
—
|
—
|
121
|
—
|
—
|
—
|
—
|
121
|
|||||||||||||||||||
Exercise
of options
|
3
|
1
|
120
|
—
|
—
|
(160
|
)
|
199
|
—
|
160
|
||||||||||||||||||
Stock
option compensation
|
—
|
—
|
1,540
|
—
|
—
|
—
|
—
|
—
|
1,540
|
|||||||||||||||||||
Balances
as of September
30, 2006
|
8,966
|
$
|
101
|
$
|
43,493
|
$
|
999
|
$
|
-
|
$
|
(41,021
|
)
|
$
|
(3,592
|
)
|
$
|
17
|
$
|
(3
|
)
|
The
accompanying notes are an integral part of these consolidated financial
statements.
-3-
ACORN
FACTOR, INC. AND SUBSIDIARIES
Consolidated
Statements of Cash Flows (unaudited)
(dollars
in thousands)
Nine
months ended September 30,
|
|||||||
2005
|
2006
|
||||||
Cash
flows provided by (used in) operating activities:
|
|||||||
Net
loss
|
$
|
(1,138
|
)
|
$
|
(5,253
|
)
|
|
Adjustments
to reconcile net loss to net cash provided
by (used in) operating activities:
|
|||||||
Depreciation
and amortization
|
$
|
198
|
165
|
||||
Change
in minority interests
|
73
|
—
|
|||||
Share
in losses of Comverge
|
380
|
210
|
|||||
Share
in losses of Paketeria
|
—
|
52
|
|||||
Change
in deferred taxes
|
311
|
—
|
|||||
Increase
in liability for employee termination benefits
|
49
|
188
|
|||||
Gain
on disposition of property and equipment
|
(33
|
)
|
—
|
||||
Amortization
of stock-based deferred compensation
|
17
|
1,346
|
|||||
Gain
on sale of dsIT Technologies
|
(915
|
)
|
—
|
||||
Loss
on sale of Databit and contract settlement
|
—
|
2,298
|
|||||
Other
|
(62
|
)
|
8
|
||||
Change
in operating assets and liabilities:
|
|||||||
Decrease
in accounts receivable, unbilled work-in process and other current
and
other assets
|
164
|
642
|
|||||
Increase
in inventory
|
(31
|
)
|
(18
|
)
|
|||
Increase
(decrease) in accounts payable and other liabilities
|
(350
|
)
|
(708
|
)
|
|||
Net
cash used in operating activities
|
(199
|
)
|
(1,070
|
)
|
|||
Cash
flows provided by (used in) investing activities:
|
|||||||
Release
of restricted cash
|
—
|
247
|
|||||
Release
of restricted cash (under agreement with a related party)
|
—
|
1,350
|
|||||
Change
in restricted cash
|
(1,426
|
)
|
—
|
||||
Investment
in Comverge
|
—
|
(210
|
)
|
||||
Investment
in Paketeria
|
—
|
(863
|
)
|
||||
Amounts
funded for employee termination benefits
|
(46
|
)
|
(48
|
)
|
|||
Maturity
of short-term deposits
|
72
|
—
|
|||||
Acquisitions
of property and equipment
|
(183
|
)
|
(119
|
)
|
|||
Proceeds
from sale of property and equipment
|
122
|
—
|
|||||
Sale
of dsIT Technologies - Appendix A
|
2,927
|
—
|
|||||
Sale
of Databit Inc. - Appendix B
|
—
|
(911
|
)
|
||||
Net
cash provided by investing activities
|
1,466
|
(554
|
)
|
||||
Cash
flows provided by (used in) financing activities:
|
|||||||
Short-term
debt borrowings (repayments), net
|
182
|
(130
|
)
|
||||
Proceeds
from note payable to related party
|
425
|
—
|
|||||
Repayment
of note payable to a related party
|
(425
|
)
|
— | ||||
Proceeds
from long-term debt
|
90
|
—
|
|||||
Repayments
of long-term debt
|
(412
|
)
|
(112
|
)
|
|||
Proceeds
from private placement of common stock, net of issuance costs
|
—
|
2,623
|
|||||
Proceeds
from employee stock option exercises
|
—
|
160
|
|||||
Net
cash provided by (used in) financing activities
|
(140
|
)
|
2,541
|
||||
Net increase
(decrease) in cash and cash equivalents
|
(11
|
)
|
917
|
||||
Cash
and cash equivalents at beginning of period
|
685
|
913
|
|||||
Cash
and cash equivalents at end of period
|
$
|
674
|
$
|
1,830
|
|||
Supplemental
cash flow information:
|
|||||||
Cash
paid during the period for:
|
|||||||
Interest
|
$
|
127
|
$
|
23
|
|||
Income
taxes
|
$
|
41
|
$
|
8
|
The
accompanying notes are an integral part of these consolidated financial
statements.
-4-
Non-cash
items:
|
||||
Accrued
expenses in respect of private placement of common stock
|
$
|
58
|
Appendix
A
|
Nine
months ended September 30, 2005
|
Nine
months ended September 30, 2006
|
|||||
Assets/liabilities
disposed of in sale of dsIT Technologies:
|
|||||||
Current
assets
|
$
|
679
|
|||||
Non-current
assets
|
1,134
|
||||||
Goodwill
|
4,301
|
||||||
Short-term
debt
|
(701
|
)
|
|||||
Current
liabilities
|
(327
|
)
|
|||||
Other
liabilities
|
(1,455
|
)
|
|||||
Minority
interests
|
(1,552
|
)
|
|||||
Unpaid
transaction costs in disposition of dsIT Technologies
|
(67
|
)
|
|||||
Gain
on the sale of dsIT Technologies
|
915
|
||||||
Net
cash provided by business disposition
|
$
|
2,927
|
Appendix
B
|
||||
Assets/liabilities
disposed of in disposition of Databit Inc. and contract
settlement:
|
||||
Current
assets
|
$
|
2,815
|
||
Non-current
assets
|
40
|
|||
Debt
|
(20
|
)
|
||
Current
liabilities
|
(1,816
|
)
|
||
Stock
compensation costs
|
315
|
|||
Unpaid
transaction costs in disposition of Databit and contract
settlement
|
63
|
|||
Other
|
(10
|
)
|
||
Loss
on the sale of Databit and contract settlement
|
$
|
(2,298
|
)
|
|
Net
cash used in business disposition
|
$
|
(911
|
)
|
-5-
ACORN
FACTOR, INC. AND SUBSIDIARIES
Notes
to Consolidated Financial Statements (unaudited)
(dollars
in thousands)
Note
1: Basis of Presentation
The
accompanying unaudited consolidated financial statements of Acorn Factor, Inc.
(“Acorn”) and subsidiaries (the “Company”) have been prepared in accordance with
accounting principles generally accepted in the United States of America for
interim financial information and with the instructions to Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by accounting principles generally accepted in the United
States of America for complete consolidated financial statements. In the opinion
of management, all adjustments considered necessary for a fair presentation
have
been included. Operating results for the nine-month period ended September
30,
2006 are not necessarily indicative of the results that may be expected for
the
year ending December 31, 2006. These unaudited consolidated financial statements
should be read in conjunction with the consolidated financial statements and
footnotes thereto included in the Company’s Annual Report on Form 10-K as
amended, for the year ended December 31, 2005. Certain
reclassifications have been made to the Company’s prior period’s consolidated
financial statements to conform to the current period’s consolidated financial
statement presentation.
As
further described in Note 4, in March 2006, the Company completed the sale
of
its subsidiary, Databit Inc. The transferred operation is reflected as a
discontinued operation for all periods presented in the Consolidated Statements
of Operations.
Note
2: Financing of Operations
In
July
2006, the Company completed a private placement of its Common Stock resulting
in
the issuance of 1,200,003 shares of Common Stock. In connection with the
placement, the Company entered into subscription agreements with certain
accredited investors for the purchase of the shares at a purchase price of
$2.65
per share, resulting in gross proceeds to the Company of $3,180 and net proceeds
of approximately $2,565 after deducting commissions and other transaction costs.
The
$1,055 of working capital at September 30, 2006, included approximately $560
of
working capital in the Company’s 80% owned dsIT Solutions Ltd. subsidiary
(“dsIT”). Due to Israeli tax and company law constraints, as well as dsIT’s own
cash flow requirements, such working capital and cash flows from dsIT’s
operations are not readily available to finance US based corporate
activities.
dsIT
was
not utilizing any of its $360 lines of credit as of September 30, 2006. dsIT's
lines of credit are denominated in NIS and bear a weighted average interest
rate
of the Israeli prime rate
plus
2.5% per
annum.
The Israeli prime rate fluctuates and as of September 30, 2006 was 7.0%.
As
of
September 30, 2006, dsIT is in technical violation of its covenant with one
of
its banks though the bank is continuing to provide funding to dsIT despite
the
technical violation. dsIT is working towards remedying the technical violation.
In addition, the Company has agreed to be supportive of dsIT’s liquidity
requirement over the next 12 months.
The
Company’s available cash is not expected to be sufficient to fund its US based
corporate activities for the next 12 months. The Company is exploring possible
financing transactions to raise additional funds to finance its US activities.
The
Company’s CEO has agreed to provide up to $300 of financing to the Company over
the next year to fund its US activities to the extent that it is not able to
raise that amount from other sources.
Note
3: Accounting Policies
(a)
Stock
Based Compensation
Prior
to
January 1, 2006, the Company accounted for share-based compensation in
accordance with Accounting Principles Board Opinion No. 25, (“APB 25”)
“Accounting for Stock Issued to Employees,” and related interpretations. The
Company also followed the disclosure requirements of SFAS No. 123, “Accounting
for Stock-Based Compensation”, as amended by SFAS 148, “Accounting for
Stock-Based Compensation - Transition and Disclosure”. As a result, no expense
was recognized for options to purchase the Company’s common stock that were
granted with an exercise price equal to fair market value at the day of the
grant. Effective January 1, 2006, the Company adopted the provisions of
Statement of Financial Accounting Standards No. 123 (revised 2004), “Share-Based
Payment,” (“SFAS 123R”) which establishes accounting for equity instruments
exchanged for services. Under the provisions of SFAS 123R, share-based
compensation cost is measured at the grant date, based on the fair value of
the
award, and is recognized as expense on a straight-line basis over the employee’s
requisite service period (generally the vesting period of the equity grant).
The
Company elected to adopt the modified prospective transition method as provided
by SFAS 123R and, accordingly, financial statement amounts for the prior periods
presented in this Form 10-Q have not been restated to reflect the fair value
method of expensing share-based compensation. The Company has applied the
provisions of SAB 107 in its adoption of SFAS 123R. See Note 7 to the condensed
consolidated interim financial statements for information on the impact of
the
Company’s adoption of SFAS 123R and the assumptions used to calculate the fair
value of share-based employee compensation.
-6-
The
Company recognizes no income tax benefit on its stock compensation expense
as it
is not “more likely than not” that it will be able to utilize them to offset
future income taxes.
The
following table illustrates the effect on net income and net income per share
if
the Company had applied the fair value recognition provisions of SFAS 123R
for
periods prior to January 1, 2006:
Nine
months ended September 30, 2005
|
Three
months ended September 30, 2005
|
||||||
Net
loss as reported
|
$
|
(1,138
|
)
|
$
|
(127
|
)
|
|
Plus:
Stock-based employee and director compensation expense included in
reported net loss
|
17
|
5
|
|||||
Less:
Total stock-based employee compensation expense determined under
fair
value based method for all awards
|
(242
|
) |
(80
|
) | |||
Pro
forma net loss
|
$
|
(1,363
|
)
|
$
|
(202
|
)
|
|
Net
loss per share:
|
|||||||
Basic
and diluted - as reported
|
|||||||
From
continuing operations
|
$
|
(0.32
|
)
|
$
|
(0.11
|
)
|
|
From
discontinued operations
|
0.18
|
0.09
|
|||||
Basic
and diluted loss per share as reported
|
$
|
(0.14
|
)
|
$
|
(0.02
|
)
|
|
Basic
and diluted - pro forma
|
|||||||
From
continuing operations
|
$
|
(0.33
|
)
|
$
|
(0.10
|
)
|
|
From
discontinued operations
|
0.16
|
0.08
|
|||||
Basic
and diluted loss per share - pro forma
|
$
|
(0.17
|
)
|
$
|
(0.02
|
)
|
The
historical pro forma impact of applying the fair value method prescribed by
SFAS
123R is not representative of the impact that may be expected in the future
due
to changes resulting from additional grants in future years and changes in
assumptions such as volatility, interest rates and expected life used to
estimate fair value of the grants in future years.
For
restricted common stock, we recognize compensation expense over the vesting
period for the difference between the exercise price or purchase price and
the
fair market value on the measurement date.
(b)
Recently Issued Accounting Pronouncements
In
February 2006, the Financial Accounting Standards Board (“FASB”) issued SFAS
No. 155, “Accounting for Certain Hybrid Financial Instruments — an
Amendment of FASB Statements No. 133 and 140” (“SFAS No. 155”). SFAS
No. 155 allows financial instruments that contain an embedded derivative
and that otherwise would require bifurcation to be accounted for as a whole
on a
fair value basis, at the holders’ election. SFAS No. 155 also clarifies and
amends certain other provisions of SFAS No. 133 and SFAS No. 140. This
statement is effective for all financial instruments acquired or issued in
fiscal years beginning after September 15, 2006 (January 1, 2007 for the
Company). The adoption of SFAS No. 155 is not expected to have a material
impact on the Company’s consolidated financial condition or results of
operations.
-7-
In
June
2006, the FASB issued FASB Interpretation No. 48 ( FIN 48), Accounting for
Uncertainty in Income Taxes, an Interpretation of SFAS No. 109. FIN 48 clarifies
the accounting for uncertainty in income taxes recognized in an enterprise’s
financial statements in accordance with SFAS No. 109, Accounting for Income
Taxes, by prescribing a recognition threshold and measurement attribute for
the
financial statement recognition and measurement of a tax position taken or
expected to be taken in a tax return. Under FIN 48, the financial statement
effects of a tax position should initially be recognized when it is more likely
than not, based on the technical merits, that the position will be sustained
upon examination. A tax position that meets the more-likely-than-not recognition
threshold should initially and subsequently be measured as the largest amount
of
tax benefit that has a greater than fifty percent likelihood of being realized
upon ultimate settlement with a taxing authority. FIN 48 is effective for fiscal
years beginning after December 15, 2006. The cumulative effect, if any, of
applying the provisions of FIN 48 will be reported as an adjustment to the
opening balance of retained earnings in the period adopted. The Company is
currently evaluating the impact that the adoption of FIN 48 will have on its
consolidated financial position, results of operations, and
liquidity.
In
September 2006, the U.S. Securities and Exchange Commission (SEC) issued Staff
Accounting Bulletin No. 108, “Considering the Effects of Prior Year
Misstatements when Quantifying Misstatements in Current Year Financial
Statements” (“SAB 108”). SAB 108 addresses the diversity in practice of
quantifying financial statement misstatements resulting in the potential build
up of improper amounts on the balance sheet. SAB 108 provides interpretive
guidance on how the effects of the carryover or reversal of prior year
misstatements should be considered in quantifying a current year misstatement.
The SEC staff believes that registrants should quantify errors using both a
balance sheet and an income statement approach and evaluate whether either
approach results in quantifying a misstatement that, when all relevant
quantitive and qualitative factors are considered, is material. SAB 108 is
effective for companies with fiscal years ending after November 15, 2006. SAB
108 allows a one-time transitional cumulative effect adjustment to beginning
retained earnings, in the first year of adoption, for errors that were not
previously deemed material, but are material under the guidance in SAB 108.
The
Company is currently assessing the impact of SAB 108 on its consolidated
financial statements and results of operations.
In
September 2006, the FASB issued SFAS No. 157 (“SFAS 157”), “Fair Value
Measurements”, which defines fair value, establishes a framework for measuring
fair value in generally accepted accounting principles (GAAP), and expands
disclosures about fair value measurements. This Statement applies in conjunction
with other accounting pronouncements that require or permit fair value
measurements. This Statement shall be effective for financial statements issued
for fiscal years beginning after November 15, 2007. The Company is currently
evaluating the impact that the adoption of SFAS 157 will have on its
consolidated financial position and results of operations.
Note
4: Sale of Databit and Contract Settlement
On
March
10, 2006 the Company entered into a Stock Purchase Agreement dated as of March
9, 2006 (the "SPA"), for the sale of all the outstanding capital stock of its
Databit Inc. subsidiary ("Databit") to Shlomie Morgenstern, President of Databit
and a Vice President of the Company. The transactions contemplated under the
SPA, and the related transactions to which the Company, Shlomie Morgenstern
and
the Company’s CEO, George Morgenstern, were party, were consummated on March 10,
2006 and included the following:
(a)
Termination of the Employment Agreement dated August 19, 2004 among Shlomie
Morgenstern, Databit and the Company and the release of the Company from any
and
all liability (other than under the related stock option and restricted stock
agreements which would be modified as described below) including the waiver
by
Shlomie Morgenstern of any and all severance or change of control payments
to
which he would have been entitled.
(b)
Amendment of the option and restricted stock agreements between the Company
and
Shlomie Morgenstern to provide for acceleration of any unvested grants on the
closing of the transactions and for all options to be exercisable through 18
months from the closing.
-8-
(c)
The
assignment to and assumption by Databit of the obligations of the Company to
George Morgenstern under the Employment Agreement between the Company and George
Morgenstern dated January 1, 1997, as amended (the "GM Employment Agreement")
upon the following terms:
(i)
Reduction of the amounts owed to George Morgenstern under the GM Employment
Agreement by the lump sum payment described below and the modifications to
options and restricted stock agreements described below.
(ii)
A
release by George Morgenstern of the Company from any and all liability and
obligations to him under the GM Employment Agreement, subject to a lump sum
payment of $600 (the “contract settlement”).
(d)
The
assumption by Databit of the Company's obligations under the Company's leases
for the premises in New York City and Mahwah, New Jersey, which provide for
aggregate rents of approximately $450 over the next three years.
(e)
The
amendment of the option agreement with George Morgenstern dated December 30,
2004 to provide for the acceleration of the 60,000 options that are not
currently vested and the extension of the exercise period for all options held
by George Morgenstern to the later of (i) September 2009 and (ii) 18 months
after the cessation of service under the new consulting agreement described
below.
(f)
The
amendment of the Restricted Stock Agreement dated August 31, 1998 between George
Morgenstern and the Company to provide for the removal of any vesting conditions
from the 20,000 shares still subject to such conditions.
(g)
Execution and delivery by George Morgenstern and the Company of a new consulting
agreement for a period of two years, pursuant to which George Morgenstern would
serve as a consultant to the Company, primarily to assist in the management
of
the Company's dsIT subsidiary, which agreement provides for de minimus
compensation per year plus a non-accountable expense allowance of $65 per year
to cover expected costs of travel and other expenses.
As
a
result of the transaction, the Company transferred the following assets and
liabilities:
Assets
|
||||
Cash
|
$
|
185
|
||
Accounts
receivable, net
|
2,696
|
|||
Inventory
and other current assets
|
119
|
|||
Property
and equipment, net
|
35
|
|||
Other
assets
|
5
|
|||
Reduction
in total assets
|
$
|
3,040
|
||
Liabilities
|
||||
Trade
payables, accrued payroll, payroll taxes and social benefits and
other
current liabilities
|
$
|
1,816
|
||
Long-term
debt
|
20
|
|||
Reduction
in total liabilities
|
$
|
1,836
|
||
Excess
of assets over liabilities
|
$
|
1,204
|
The
excess of assets over liabilities transferred was treated as part of the loss
on
the sale of Databit.
-9-
Profit
and loss of the discontinued operations of Databit were as follows:
Period
ended
March
9, 2006
|
Nine
months ended September 30, 2005
|
Three
months ended September 30, 2005
|
||||||||
Sales
|
$
|
2,949
|
$
|
13,637
|
$
|
4,491
|
||||
Cost
of sales
|
2,316
|
11,140
|
3,670
|
|||||||
Gross
profit
|
633
|
2,497
|
821
|
|||||||
Selling,
marketing, general and administrative expenses
|
558
|
2,358
|
785
|
|||||||
Income
from operations
|
75
|
139
|
(36
|
)
|
||||||
Other
income, net
|
3
|
—
|
—
|
|||||||
Finance
income (expense), net
|
—
|
(5
|
)
|
2
|
||||||
Net
income before income taxes
|
78
|
134
|
(34
|
)
|
||||||
Income
taxes
|
—
|
(16
|
)
|
1
|
||||||
Net
income (loss) from discontinued operations
|
$
|
78
|
$
|
118
|
$
|
(33
|
)
|
As
a
result of the transaction, the Company recorded a loss of $2,298. In addition,
cash, which had previously been restricted with respect to the GM Employment
Agreement, was no longer restricted. Subsequent to the first quarter of 2006,
the Company no longer has any activity in its Computer Hardware
segment.
The
loss
of the sale of Databit and contract settlement is comprised of the
following:
Excess
of assets over liabilities transferred
|
$
|
1,204
|
||
Contract
settlement costs
|
600
|
|||
Stock
compensation expense
|
315
|
|||
Professional
fees and other transaction costs
|
179
|
|||
Total
loss on the sale of Databit and contract settlement
|
$
|
2,298
|
Note
5: Investment in Comverge
The
change in the Company’s Comverge investment, during the nine months ended
September 30, 2006 is as follows:
Common
stock
|
Preferred
stock
|
Provision
for unrecognized losses
|
Net
investment in Comverge
|
||||||||||
Balances
as of December 31, 2005
|
$
|
(1,824
|
)
|
$
|
(173
|
)
|
$
|
173
|
$
|
(1,824
|
)
|
||
Additional
investment in Preferred stock
|
—
|
210
|
—
|
210
|
|||||||||
Equity
loss in Comverge
|
—
|
(841
|
)
|
631
|
(210
|
)
|
|||||||
Balances
as of September 30, 2006
|
$
|
(1,824
|
)
|
$
|
(804
|
)
|
$
|
804
|
$
|
(1,824
|
)
|
In
the
first quarter of 2006, the Company recorded an additional $210 investment in
Comverge’s Series C Preferred Stock. As result of the investment, the Company
maintained its preferred stock holdings at approximately 7%. In addition, the
Company also owns approximately 76% of Comverge’s common shares. As a result of
the investment, the Company immediately recognized a loss equal to (i) its
provision for unrecognized losses in Comverge of $173 as
of
December 31, 2005 and (ii) an additional $37 representing its 7% equity share
of
Comverge’s losses for the first quarter of 2006.
-10-
As
of
September 30, 2006, the Company’s accumulated share of losses attributable to
its Comverge preferred stock was equal to its investment in Comverge’s preferred
stock. As a result, the Company has ceased recording losses against its
preferred stock investment. In the future, equity income will be recorded to
the
Company’s preferred stock investment only once Comverge’s equity reaches the
level it was when the Company ceased recording equity losses. As at September
30, 2006, the Company had a provision for unrecognized losses in Comverge of
$804 and the Company will record equity income from its preferred investment
in
Comverge, if and when Comverge’s records net income in excess of approximately
$11,950. Equity income from the Company’s preferred investment may be recorded
up to the Company’s original $3,854 preferred
share investment in Comverge, and thereafter to its investment in Comverge’s
common shares, of which the Company currently owns approximately
76%.
Note
6: Investment in Paketeria
On
August
7, 2006 the Company entered into a Common Stock Purchase Agrement with Paketeria
GmbH, a limited liability company incorporated under the laws of Germany, and
certain Paketeria shareholders, for the purchase by the Company of an
approximately 23% interest in Paketeria for a purchase price of approximately
€598 ($776) plus transaction fees of approximately $87. Paketeria is a Berlin
based store owner and franchisor whose stores provide eBay drop shop, post
and
parcels, office supplies, photo processing, photocopy and printer cartridge
refilling services in Germany.
In
addition to the Common Stock Purchase Agreement, the Company also entered into
a
Note Purchase Agreement with Paketeria’s founder and managing director. Under
the Note Purchase Agrement, the Company is obligated to purchase from the
founder and managing director all or a portion of the €210 Promissory Note
issued by Paketeria and payable to him. The Promissory Note is convertible
into
shares of Paketeria at a conversion price of €50.70 per share, accrues interest
at a rate of 8% per annum, matures on August 7, 2009 and may be redeemed by
the
Company in whole or in part at any time prior to its maturity or conversion.
Under the terms of the Note Purchase Agreement, the Company would be required
to
purchase one third of the principal amount of the Note upon Paketeria’s
achieving each of three franchise licensing milestones—the licensing of its
60th, 75th, and 115th franchises.
The
Company has allocated $31 of the purchase price to the fair market value of
the
call option to purchase and convert the Note in shares of Paketeria.
The
Company has allocated $30 of the purchase price to the fair value of the put
option which requires the Company to purchase the principal amount of the Note.
At September 30, 2006, the Company redetermined the fair value of the put option
and determined it to be $15 based upon Paketeria’s advancement on the milestones
noted above. The reduction in the fair value of the put option was recorded
as
part of the Company’s equity loss in Paketeria.
The
Company also entered into a Stock Purchase Agreement with two shareholders
of
Paketeria—one of whom is the Company’s President and Chief Executive Officer and
the other who is one of the Company’s new directors. Pursuant to that agreement,
the Company is entitled through August 2007 to purchase the shares of Paketeria
held by the two Paketeria shareholders for an aggregate purchase price of the
US
dollar equivalent on the date of purchase of €598 (approximately $758 at the
current exchange rate), payable in Company Common Stock and warrants on the
same
terms as the Company’s recently completed private placement. At the current
exchange rate this would result in the issuance of approximately 273,000 shares
of Common Stock and warrants exercisable for 68,000 shares of Common Stock.
The
warrants would have an exercise price of $2.78 per share and be exercisable
for
five years from their grant date. The Company has determined the fair value
of
the option to purchase the shares under the Stock Purchase Agreement to be
$68.
The
Company’s investment in Paketeria is accounted for using the equity method in
accordance with APB Opinion No. 18, “The Equity Method of Accounting for
Investments in Common Stock” and has been allocated to the underlying assets in
accordance with FAS No. 141 “Business Combinations”. Subject to confirmation
from an independent appraisal, the Company has allocated the entire remaining
balance of the investment in Paketeria of $794 to the non-compete agreement
given to Paketeria’s founder and managing director. The Company is awaiting the
completion of an independent assessment of its Purchase Price Allocation. The
non-compete agreement is to be amortized over four years and is subject to
periodic tests for impairment in accordance with FAS No. 142 “Goodwill and Other
Intangible Assets”. The non-compete ageement is not reported as such in the
consolidated balance sheet of the Company, but it is reported as a component
of
the equity investment. The Company’s share of losses in Paketeria for the period
from August 7, 2006 to September 30, 2006 of $52 is comprised of $34 reflecting
the Company’s equity loss in Paketeria’s earnings and $33 of amortization of the
non-compete agreement offset by the reduction in the fair value of the put
option of $15.
-11-
In
connection with its investment in Paketeria, the Company also entered into
an
Investors’ Rights Agreement with Paketeria and it shareholders, whereby it was
given certain rights including a right of first offer, with respect to any
future issuance of Paketeria securities, and tag-along rights, with respect
to
any future sale by an existing shareholder. The Company was also given certain
blocking rights with respect to decisions of the shareholders and management
of
Paketeria.
See
Note
9(c) with respect to the options granted to Paketeria’s founder and managing
director as part of the Company’s investment in Paketeria.
-12-
Note
7: Goodwill and Other Intangible Assets
There
were no acquisitions or impairments of goodwill recorded during the nine-month
period ended September 30, 2006.
The
Company’s amortizable intangible assets consisted of software licenses, with a
nominal gross carrying amount of $224 and nominal accumulated amortization
of
$143 and $169, as of December 31, 2005 and September 30, 2006, respectively.
All
intangibles assets are being amortized over their estimated useful lives, which
averaged five years and the nominal amortization
expense for each of the nine months ended September 30, 2005 and 2006 amounted
to $24 and $29, respectively. Nominal amortization expense of the remaining
balance of these assets, for the years ending September 30, 2007, 2008, 2009
and
2010, is estimated to be $29, $12 $7 and $7, respectively.
Note
8: Private Placement of Common Stock
In
July
2006, the Company completed a private placement of its Common Stock, par value
$.01 per share, resulting in the issuance of 1,200,003 shares of Common Stock.
In connection with the placement, the Company entered into subscription
agreements with certain accredited investors for the purchase of the shares
at a
purchase price of $2.65 per share, resulting in gross proceeds to the Company
of
$3,180. By the terms of the subscription agreements, each subscriber, in
addition to the Common Stock purchased, received a warrant exercisable for
the
purchase of 25% of the number of shares purchased, resulting in the issuance
of
warrants to purchase 300,005 shares. The warrants are exercisable for shares
of
the Company’s Common Stock for a period of five years at an exercise price of
$2.78 per share and are cancelable by the Company in certain circumstances.
The
Company used the Black-Scholes valuation method to estimate the fair value
of
the warrants to purchase 300,005 shares of common stock of the Company, using
a
risk free interest rate of 5.1%, its contractual life of five years, an annual
volatility of 102% and no expected dividends. The Company estimated the fair
value of the warrants to be approximately $493.
In
connection with the offering, the Company retained a registered broker-dealer
to
serve as placement agent. In accordance with the terms of the agreement, the
placement agent received a 7% selling commission, 3% management fee, and 1%
advisory fee of the gross proceeds of the offering. In addition, the placement
agent received warrants with the same terms as those issued to the subscribers
exercisable for the purchase of 10% of the number of shares purchased in the
offering.
Out
of
the gross proceeds received at the closings, the Company paid the placement
agent commissions and expenses of approximately $366 and incurred legal and
other costs of approximately $249. In addition, the Company issued to the
placement agent warrants to purchase 120,001 shares of Common Stock on the
same
terms as those issued to the subscribers.
The
Company used the Black-Scholes valuation method to estimate the fair value
of
the warrants to purchase 120,001 shares of common stock of the Company, using
a
risk free interest rate of 5.1%, its contractual life of five years, an annual
volatility of 102% and no expected dividends. The Company estimated the fair
value of the warrants to be approximately $202.
Note
9: Stock Based Compensation
(a) Stock
Option Plans
The
Company’s stock option plans provide for the grant to officers, directors and
other key employees of options to purchase shares of common stock at not less
than 85% of the market value of the Company’s common stock on the date of grant.
The purchase price must be paid in cash. Each option is exercisable for one
share of the Company’s common stock. All options expire within five to ten years
from the date of the grant, and generally vest over a three-year period from
the
date of the grant. At September 30, 2006, no options or other equity instruments
were available for grant under the various plans as the plans have expired,
other than 335,000 shares available for grant under the 1994 Outside Director
Stock plan.
-13-
A
summary
of stock option activity for the nine months ended September 30, 2006 is as
follows:
Number
of Options (in shares)
|
Weighted
Average Exercise Price
|
Weighted
Average Remaining Contractual Life
|
Aggregate
Intrinsic Value
|
||||||||||
Outstanding
at December 31, 2005
|
1,575,355
|
$
|
2.48
|
||||||||||
Granted
at market price
|
100,000
|
$
|
2.71
|
||||||||||
Granted
at discount to market price
|
650,000
|
$
|
2.14
|
||||||||||
Exercised
|
(72,133
|
)
|
$
|
1.70
|
$
|
72
|
|||||||
Forfeited
or expired
|
(154,167
|
)
|
$
|
4.98
|
|||||||||
Outstanding
at September 30, 2006
|
2,099,035
|
$
|
2.42
|
3.0
years
|
$
|
2,635
|
|||||||
Exercisable
at September 30, 2006
|
1,801,522
|
$
|
2.51
|
2.8
years
|
$
|
2,209
|
The
weighted average grant date fair value of 550,000 stock options granted to
employees and directors during the first nine months of 2006 was $2.28 per
share
based on the assumptions below.
The
fair
value options granted to employees during the nine months ended September 30,
2006 periods was estimated on the grant date using the Black-Scholes
option-pricing model with the following weighted average
assumptions:
Volatility
|
106
|
%
|
||
Expected
term (years)
|
3.6
years
|
|||
Risk
free interest rate
|
4.8
|
%
|
||
Expected
dividend yield
|
0.0
|
%
|
The
Company estimated volatility by considering historical stock volatility. The
expected term of options granted is based on management’s estimate since the
Company’s history of option exercises is too brief to have established
historical rates. The risk-free interest rates are based on the U.S. Treasury
yields for a period consistent with the expected term. Additionally, the Company
expects no dividends to be paid. The Company believes that the valuation
technique and the approach utilized to develop the underlying assumptions are
appropriate in determining the estimated fair value of the Company’s stock
options granted in the nine months ended September 30, 2006. Estimates of fair
value are not intended to predict actual future events or the value ultimately
realized by persons who receive equity awards.
In
connection with the stock option exercises during the nine months ended
September 30, 2006, the Company received proceeds of $120. Of the 72,133 shares
issued as a result of stock option exercises in the nine months ended September
30, 2006, 43,333 were issued from treasury stock and 28,800 were newly issued
shares. During the nine months ended September 30, 2006, the Company recorded
an
increase of $160 to its accumulated deficit with respect to the treasury shares
issued from option exercises.
-14-
Stock-based
compensation expense included in the Company’s statements of operations was:
Nine
months ended September 30, 2006
|
Three
months ended September 30, 2006
|
||||||
Cost
of sales
|
$
|
22
|
$
|
1
|
|||
Selling,
marketing, general and administrative expenses
|
1,203
|
763
|
|||||
Loss
on sale of discontinued operations and contract settlement
|
315
|
—
|
|||||
Total
stock based compensation expense
|
$
|
1,540
|
$
|
764
|
As
at
September 30, 2006, the Company had a total of approximately $335 of
compensation expense not yet recognized with respect to employee stock options
to be recognized over a period of approximately two years.
(b)
Restricted Stock
In
August
2004, the CEO of Databit received
a restricted stock grant of 95,000 shares of common stock of the Company, which
were to vest one third on each of the second, third and fourth anniversaries
of
the grant. The Company recognized deferred compensation of $68 with respect
to
the restricted stock grant which was to be amortized as
compensation expense on a straight-line basis over the vesting period of the
grant. At January 1, 2006, $36 of deferred compensation remained to be
amortized. As a result of the sale of Databit, all the restricted shares
immediately vested and all remaining deferred compensation was recognized as
expense. During the three months ended September 30, 2006, the Company
recognized $5 of deferred compensation expense in selling, marketing, general
and administrative expenses and $31 as part of the loss on the sale of
discontinued operations and contract settlement.
As
of
September 30, 2006, the Company had no remaining unrecognized compensation
costs
related to non-vested restricted stock.
(c)
Other
services
In
July
2006, the Company entered into an agreement with an investor relations firm
for
investor relation and strategic planning services. In exchange for these
services, the Company agreed to pay an annual fee of $138 for a period of one
year and to provide the investor relations firm an option for the purchase
of
120,000 shares of the Company’s Common Stock. The option vested with respect to
40,000 shares immediately upon the grant, with the balance vesting at a rate
of
5,000 per month. The options have an exercise price of $2.80 and expire after
five years.
The
Company used the Black-Scholes valuation method to estimate the fair value
of
the option to purchase the 40,000 shares immediately vesting and the 10,000
shares vesting over the period from the date of the agreement through September
30, 2006. The Company used a risk free interest rate of 5.0%, an expected life
of four years, an annual volatility of 109% and no expected dividends to
determine the value the options granted. The Company estimated the fair value
of
the options granted to be approximately $115 and recorded that amount to
selling, marketing, general and administrative expenses with respect to the
option granted to the investor relations firm in the nine months ended September
30, 2006. As each additional tranche of 5,000 options vests, the Company will
record additional selling, marketing, general and administrative expense based
on an updated calculated Black-Scholes calculation for each
tranche.
In
August
2006,
as
part of the Company’s acquisition of Paketeria (see Note 6), the Company granted
the founder and managing director of Paketeria an option to purchase 150,000
shares of the Company’s Common Stock. The option has an exercise price of $2.80,
a contractual life of five years and vests one-third upon the achievment of
each
of the milestones described above in Note 6.
-15-
The
Company used the Black-Scholes valuation method to estimate the fair value
of
the options to purchase the 150,000 shares of Common Stock of the Company,
using
a risk free interest rate of 5.0%, an expected life of four years, an annual
volatility of 109% and no expected dividends. At September 30, 2006, the Company
estimated the fair value of the options to be approximately $381. During the
nine months ended September 30, 2006, the Company recorded $199 to selling,
marketing, general and administrative expenses with respect to the option
granted to the founder and managing director of Paketeria based on performance
towards the milestones described above in Note 6.
In
September 2006, the Company agreed to provide a warrant to purchase 50,000
shares of the Company’s Common Stock to two individuals who provided and in the
future will provide financial advisory services. The warrants vest immediately
upon the grant, have an exercise price of $3.00 and expire after five
years.
The
Company used the Black-Scholes valuation method to estimate the fair value
of
the warrant to purchase the 50,000 shares of Common Stock of the Company, using
a risk free interest rate of 5.0%, an expected life of four years, an annual
volatility of 109% and no expected dividends. The Company estimated the fair
value of the option to be approximately $121. During the nine months ended
September 30, 2006, the Company recorded the $121 to selling, marketing, general
and administrative expenses with respect to the warrants granted to two the
individuals.
Note
10: Warranty Provision
The
Company grants its customers one-year product warranty. No provision was made
in
respect of warranties based on the Company’s previous history.
Note
11: Bank Settlement Agreement
In
March
2006, the Company reached a settlement agreement with an Israeli Bank (the
“Bank”) with respect to its claims against the Bank and the Bank’s
counterclaims. The Bank agreed to return to the Company attorney fees and court
costs, plus interest and CPI adjustments, of approximately $94. As a result
of
the settlement agreement, the accrued loss for contingent performance of bank
guarantees of $410 was reversed and the $247 collateralized portion of these
guarantees (shown as restricted cash at December 31, 2005) are no longer
classified as restricted cash. The Company recorded other income of $330 in
the
first quarter of 2006 as a result of the settlement agreement.
Note
12: Segment Information
As
a
result of the sale of Databit and the change in management of the Company,
the
Company has redefined its reported operating segments. The Company’s current
operations are based upon two operating segments, which operate in the Company’s
dsIT subsidiary:
· |
RT
Solutions whose activities are focused on two areas - naval solutions
and
other real-time and embedded hardware & software
development.
|
· |
IT
Solutions whose activities are comprised of the Company’s OncoPro™
solution state of the art chemotherapy package for oncology and hematology
departments and EasyBill™, an easy-to-use, end-to-end, modular customer
care and billing system designed especially for small and medium-sized
enterprises with large and expanding customer
bases.
|
-16-
Prior
year segment disclosures have been conformed to the new segment
presentation.
RT
Solutions
|
IT
Solutions
|
Other
(*)
|
Total
|
||||||||||
Nine
months ended September 30, 2006:
|
|||||||||||||
Revenues
from external customers
|
$
|
1,983
|
$
|
713
|
$
|
190
|
$
|
2,886
|
|||||
Intersegment
revenues
|
—
|
—
|
—
|
—
|
|||||||||
Segment
gross profit
|
718
|
75
|
56
|
849
|
|||||||||
Segment
income (loss)
|
(88
|
)
|
(281
|
)
|
18
|
(351
|
)
|
||||||
Nine
months ended September 30, 2005:
|
|||||||||||||
Revenues
from external customers
|
$
|
2,106
|
$
|
860
|
$
|
24
|
$
|
2,990
|
|||||
Intersegment
revenues
|
—
|
—
|
—
|
—
|
|||||||||
Segment
gross profit
|
619
|
139
|
24
|
782
|
|||||||||
Segment
income (loss)
|
(46
|
)
|
(146
|
)
|
17
|
(175
|
)
|
||||||
Three
months ended September 30, 2006:
|
|||||||||||||
Revenues
from external customers
|
$
|
649
|
$
|
198
|
$
|
76
|
$
|
923
|
|||||
Intersegment
revenues
|
—
|
—
|
—
|
—
|
|||||||||
Segment
gross profit
|
221
|
18
|
37
|
276
|
|||||||||
Segment
income (loss)
|
(43
|
)
|
(112
|
)
|
22
|
(133
|
)
|
||||||
Three
months ended September 30, 2005:
|
|||||||||||||
Revenues
from external customers
|
$
|
548
|
$
|
231
|
$
|
3
|
$
|
782
|
|||||
Intersegment
revenues
|
—
|
—
|
—
|
—
|
|||||||||
Segment
gross profit
|
118
|
31
|
3
|
152
|
|||||||||
Segment
income (loss)
|
(117
|
)
|
(52
|
)
|
1
|
(168
|
)
|
(*) Represents operations in Israel that did not meet the quantitative thresholds of SFAS No. 131.
Reconciliation
of Segment Income (Loss) to Consolidated Net Loss
Nine
months ended
September
30,
|
Three
months ended
September
30,
|
||||||||||||
2005
|
2006
|
2005
|
2006
|
||||||||||
Total
loss for reportable segments
|
$
|
(192
|
)
|
$
|
(369
|
)
|
$
|
(169
|
)
|
$
|
(155
|
)
|
|
Other
operational segment income
|
17
|
18
|
1
|
22
|
|||||||||
Total
operating loss
|
(175
|
)
|
(351
|
)
|
(168
|
)
|
(133
|
)
|
|||||
Minority
interests
|
(73
|
)
|
—
|
(14
|
)
|
—
|
|||||||
Share
of losses in Comverge
|
(380
|
)
|
(210
|
)
|
—
|
—
|
|||||||
Share
of losses in Paketeria
|
—
|
(52
|
)
|
—
|
(52
|
)
|
|||||||
Net
loss of corporate headquarters and other unallocated costs
|
(1,988
|
)
|
(2,420
|
)
|
(672
|
)
|
(1,466
|
)
|
|||||
Net
loss from continuing operations
|
(2,616
|
)
|
(3,033
|
)
|
(854
|
)
|
(1,651
|
)
|
|||||
Discontinued
operations
|
936
|
78
|
185
|
—
|
|||||||||
Gain
on sale of dsIT Technologies
|
542
|
—
|
542
|
—
|
|||||||||
Loss
on sale of discontinued operations and contract settlement
|
—
|
(2,298
|
)
|
—
|
—
|
||||||||
Total
consolidated net loss
|
$
|
(1,138
|
)
|
$
|
(5,253
|
)
|
$
|
(127
|
)
|
$
|
(1,651
|
)
|
-17-
Note
13: Subsequent Events
(a)
Additional investment in Paketeria
On
October 30, 2006 the Company increased its ownership in Paketeria from 23%
to
approximately 33%. The increase was accomplished through (i) the purchase and
conversion into 2,850 Paketeria shares pursuant to a Purchase Notice Conversion
and Accession Agreement of €326 ($419), representing two-thirds (plus accrued
interest) of a Promissory Note originally issued to Paketeria’s founder and
managing director and (ii) an additional investment by the Company of
approximately €183 ($235) for the purchase of an additional 3,000 Paketeria
shares.
(b) Subsidiary
stock option plan
In
October 2006, the Company adopted a Key Employee Stock Option Plan (the “Plan”)
for its dsIT Solutions Ltd. subsidiary. Under the Plan, a committee of board
members of dsIT, to initially be comprised of the entire board of directors
of
dsIT, shall be created for its administration.
The
exercise price and the manner of exercise of the options to be granted under
the
Plan shall be determined by the committee on the date of grant. Unless otherwise
provided by the committee, the right to exercise all vested options shall
terminate (i) one year following the date of optionee’s termination, if such
termination was by optionee, (ii) eighteen months following the date or
optionee’s termination, if the termination was by dsIT, or (iii) immediately, if
optionee is terminated by dsIT for cause, as such term is defined in the
Plan.
If
all
options under the Plan were granted and exercised, Company holdings in dsIT
could be diluted from its current holdings of approximately 80% to approximately
50%.
-18-
ACORN
FACTOR, INC.
Management’s
Discussion and Analysis of
Financial
Condition and Results of Operations
Item
2. Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
The
following discussion includes statements that are forward-looking in nature.
Whether such statements ultimately prove to be accurate depends upon a variety
of factors that may affect our business and operations. Certain of these factors
are discussed in this report and in our Annual Report on Form 10-K as
amended, for the year ended December 31, 2005.
Overview
and Trend Information
In
October 2006, following our August 2006 investment in Paketeria in which we
purchased an approximately 23% interest in Paketeria GmbH for approximately
$863,000 (including transaction costs), we increased our holdings in Paketeria
from 23% to approximately 33% by making an additional investment of
approximately €326,000 ($419,000). Paketeria is a company registered in Germany
that owns and franchises stores which provide a variety of services, including
eBay drop shop, post and parcels, office supplies, photo processing, photocopy
and printer cartridge refilling services in Germany. We continue to maintain
the
right to acquire the remaining portion of a promissory note convertible into
Paketeria stock as well as an option to purchase other shareholders’ stock,
which, if exercised, together with our current holdings, would give us a
controlling interest in Paketeria.
In
July
2006, we completed a private placement of our Common Stock, par value $.01
per
share, resulting in the issuance of 1,200,003 shares of Common Stock. In
connection with the closing, we entered into subscription agreements with
certain accredited investors for the purchase of the shares at a purchase price
of $2.65 per share, resulting in gross proceeds $3,180,000. By the terms of
the
subscription agreements, each subscriber, in addition to the Common Stock
purchased, received a warrant exercisable for the purchase of 25% of the number
of shares purchased, resulting in the issuance of warrants to purchase 300,005
shares. The warrants are exercisable for shares of our Common Stock for a period
of five years at an exercise price of $2.78 per share and are redeemable by
us
in certain circumstances.
In
connection with the offering, we retained a registered broker-dealer to serve
as
placement agent. In accordance with the terms of the agreement, the placement
agent received a 7% selling commission, 3% management fee, and 1% advisory
fee
of the gross proceeds of the offering.
Out
of
the gross proceeds received at the closings, we paid the placement agent
commissions and expenses of approximately $366,000 and incurred legal and other
costs in connection with the registration of the shares of approximately
$249,000. In addition, we issued to the placement agent warrants to purchase
120,001 shares of Common Stock on the same terms as those issued to the
subscribers.
In
March
2006, we sold our Databit computer hardware sales company to Shlomie
Morgenstern, President of Databit and our former Vice President, in exchange
for
the release of the Company from obligations relating to our former CEO’s
consulting agreement and various lease obligations. As part of the agreement,
we
agreed to pay our former CEO $600,000 at closing and pay certain costs for
Databit. In addition, cash, which had previously been restricted with respect
to
our former CEO’s employment agreement, is no longer restricted. As a result of
the transaction, we recorded a loss of approximately $2.3 million. Subsequent
to
the first quarter of 2006, we no longer have any activity in our computer
hardware segment.
During
the periods included in this report, we operated in two reportable segments:
RT
Solutions and IT Solutions. The following analysis should be read together
with
the segment information provided in Note 10 to the interim unaudited
consolidated financial statements included in this quarterly report, which
information is hereby incorporated by reference into this Item 2.
-19-
RT
Solutions
Segment
revenues decreased slightly in the third quarter of 2006 as compared to the
second quarter of 2006. The decrease in revenues was combined with a decrease
in
our gross profit margin, which was the result of the near completion during
the
second quarter of a number of relatively high margin projects. We are uncertain
if we can maintain these high margins during the coming quarters as these
projects are completed. We are continuing our discussions for a possible
strategic investor or a strategic alliance for marketing our sonar solutions.
We
believe that sonar technology solutions, and our Port Security Solutions in
particular will be the primary source of this segment’s future growth and
profitability. We are awaiting a response for a number of significant proposals
for sonar solutions projects. We do not expect to see significant revenues
from
a new sonar technology solutions project prior to early 2007.
IT
Solutions
Both
segment revenues and gross profit margins continued to decreased in the third
quarter of 2006 as compared to the second quarter of 2006 continuing a trend
from the first quarter of 2006 as we continue to invest resources in adapting
our OncoPro™ product to the U.S. market. We expect to conclude an agreement for
an OncoPro™ beta-site in the US in the near future. In addition, we are
continuing our discussions to establish strategic alliances for marketing and
to
obtain additional investments for our OncoPro™ solutions. We believe that
OncoPro™ solutions will be the primary source of this segment’s future growth
and profitability.
Comverge
Although
we no longer control Comverge, we have invested in it significantly and it
continues to have a material effect on our strategic planning. During the first
quarter of 2006, Comverge completed an additional round of private equity
financing. As a result of the most recent financing round in which we
participated at a cost of $210,000, we currently own approximately 7% of
Comverge’s preferred shares and 76% of its common shares, representing
approximately 24% of its total equity.
In
October 2006, Comverge filed a registration statement on Form S-1 with the
Securities and Exchange Commission for an initial public offering of shares
of
its common stock. If and when offered in accordance with the registration
statement, the offered shares will be sold by Comverge and, if the underwriters
exercise their over-allotment option, by certain selling stockholders. Comverge
plans to use the net proceeds from the offering to finance current and future
capital requirements of its VPC™ contracts, to finance research and development,
to repay indebtedness, to fund any cash consideration for future acquisitions
and for other general corporate purposes. The registration statement relating
to
the offering has been filed with the Securities and Exchange Commission but
has
not yet become effective. The securities covered by the registration statement
may not be sold nor may offers to buy be accepted prior to the time the
registration statement becomes effective.
Also
in
October 2006, Comverge formed a strategic partnership with Itron Inc. (NASDAQ:
ITRI), to provide demand response and load control components to Itron's OpenWay
Advanced Metering Infrastructure (AMI) platform.
The
agreement, which has been in place for several months, establishes Comverge
as
the principal provider of demand response technology, such as “smart”
thermostats and load control switches, for use with Itron’s OpenWay AMI
solution.
Corporate
During
the first quarter of 2006, we sold our Databit computer hardware company,
settled our long-term employment contract with our former CEO by making a
one-time settlement payment and appointed a new CEO. As such, we have reduced
contractual corporate cash expenses in our current corporate structure.
In
July
2006, we concluded a private placement of our Common Stock, which raised
approximately $2.6 million, net of transaction costs. We expect to use the
remaining proceeds from our private placement to finance our corporate expenses
and to allow us to explore possible acquisitions or other strategic
transactions. We will need additional funds to finance our corporate expenses,
acquisitions and strategic transaction over the near and long term. We are
evaluating ways to raise such funds.
-20-
New
Accounting Standards
On
January 1, 2006, we adopted SFAS No.123 (revised 2004), Share-Based Payment
(“SFAS 123R”), which requires the measurement and recognition of compensation
expense for all share-based payment awards made to employees and directors,
including employee stock options and employee stock purchases under the Employee
Stock Purchase Plan, based on estimated fair values. We elected to use the
modified prospective transition method; therefore prior periods have not been
restated to reflect, and do not include, the impact of SFAS 123R. In March
2005,
the Securities and Exchange Commission issued Staff Accounting Bulletin
No. 107 (“SAB 107”), which provides supplemental implementation guidance
for SFAS 123R. The Company has applied the provisions of SAB 107 in its adoption
of SFAS 123R.
As
a
result of adopting SFAS 123R on January 1, 2006, our net loss for the nine
and
three month periods ended September 30, 2006, is $1,516,000 and $739,000,
respectively, greater than had we continued to account for stock-based
compensation under APB No. 25.
The
following table sets forth a comparison of the per share effect of our adoption
of SFAS 123R for the nine and three month periods ended September 30, 2005
and
2006.
Nine
months ended
September
30,
|
Three
months ended
September
30,
|
||||||||||||
2005
|
2006
|
2005
|
2006
|
||||||||||
Basic
and diluted net income (loss) per share as reported:
|
|||||||||||||
Loss
per share from continuing operations
|
$
|
(0.32
|
)
|
$
|
(0.37
|
)
|
$
|
(0.11
|
)
|
$
|
(0.20
|
)
|
|
Discontinued
operations
|
0.18
|
(0.27
|
)
|
0.09
|
—
|
||||||||
Net
income (loss) per share - basic and diluted
|
$
|
(0.14
|
)
|
$
|
(0.64
|
)
|
$
|
(0.02
|
)
|
$
|
(0.20
|
)
|
|
Basic
and diluted net income (loss) per share had we not adopted SFAS
123R:
|
|||||||||||||
Loss
per share from continuing operations
|
$
|
(0.32
|
)
|
$
|
(0.22
|
)
|
$
|
(0.11
|
)
|
$
|
(0.11
|
)
|
|
Discontinued
operations
|
0.18
|
(0.23
|
)
|
0.09
|
—
|
||||||||
Net
income (loss) per share - basic and diluted
|
$
|
(0.14
|
)
|
$
|
(0.45
|
)
|
$
|
(0.02
|
)
|
$
|
(0.11
|
)
|
In
February 2006, the Financial Accounting Standards Board (“FASB”) issued SFAS
No. 155, “Accounting for Certain Hybrid Financial Instruments — an
Amendment of FASB Statements No. 133 and 140” (“SFAS No. 155”). SFAS
No. 155 allows financial instruments that contain an embedded derivative
and that otherwise would require bifurcation to be accounted for as a whole
on a
fair value basis, at the holders’ election. SFAS No. 155 also clarifies and
amends certain other provisions of SFAS No. 133 and SFAS No. 140. This
statement is effective for all financial instruments acquired or issued in
fiscal years beginning after September 15, 2006 (January 1, 2007 for the
Company). The adoption of SFAS No. 155 is not expected to have a material
impact on our consolidated financial condition or results of
operations.
In
June
2006, the FASB issued FASB Interpretation No. 48 ( FIN 48), Accounting for
Uncertainty in Income Taxes, an Interpretation of SFAS No. 109. FIN 48 clarifies
the accounting for uncertainty in income taxes recognized in an enterprise’s
financial statements in accordance with SFAS No. 109, Accounting for Income
Taxes, by prescribing a recognition threshold and measurement attribute for
the
financial statement recognition and measurement of a tax position taken or
expected to be taken in a tax return. Under FIN 48, the financial statement
effects of a tax position should initially be recognized when it is more likely
than not, based on the technical merits, that the position will be sustained
upon examination. A tax position that meets the more-likely-than-not recognition
threshold should initially and subsequently be measured as the largest amount
of
tax benefit that has a greater than fifty percent likelihood of being realized
upon ultimate settlement with a taxing authority. FIN 48 is effective for fiscal
years beginning after December 15, 2006. The cumulative effect, if any, of
applying the provisions of FIN 48 will be reported as an adjustment to the
opening balance of retained earnings in the period adopted. We are currently
evaluating the impact that the adoption of FIN 48 will have on the our
consolidated financial position, results of operations, and
liquidity.
-21-
In
September 2006, the U.S. Securities and Exchange Commission (SEC) issued Staff
Accounting Bulletin No. 108, “Considering the Effects of Prior Year
Misstatements when Quantifying Misstatements in Current Year Financial
Statements” (“SAB 108”). SAB 108 addresses the diversity in practice of
quantifying financial statement misstatements resulting in the potential build
up of improper amounts on the balance sheet. SAB 108 provides interpretive
guidance on how the effects of the carryover or reversal of prior year
misstatements should be considered in quantifying a current year misstatement.
The SEC staff believes that registrants should quantify errors using both a
balance sheet and an income statement approach and evaluate whether either
approach results in quantifying a misstatement that, when all relevant
quantitive and qualitative factors are considered, is material. SAB 108 is
effective for companies with fiscal years ending after November 15, 2006. SAB
108 allows a one-time transitional cumulative effect adjustment to beginning
retained earnings, in the first year of adoption, for errors that were not
previously deemed material, but are material under the guidance in SAB 108.
We
are currently assessing the impact of SAB 108 on our consolidated financial
statements and results of operations.
In
September 2006, the FASB issued SFAS No. 157 (“SFAS 157”), “Fair Value
Measurements”, which defines fair value, establishes a framework for measuring
fair value in generally accepted accounting principles (GAAP), and expands
disclosures about fair value measurements. This Statement applies in conjunction
with other accounting pronouncements that require or permit fair value
measurements. This Statement shall be effective for financial statements issued
for fiscal years beginning after November 15, 2007. We are currently evaluating
the impact that the adoption of SFAS 157 will have on the our consolidated
financial position and results of operations.
-22-
Results
of Operations
The
following table sets forth certain information with respect to the consolidated
results of operations of the Company for the three months ended September 30,
2005 and 2006, including the percentage of total revenues during each period
attributable to selected components of the operations statement data and for
the
period to period percentage changes in such components. Since we sold our
Databit business in March 2006, the activity in this business has been
reclassified and consolidated on one line as net income from discontinued
operations, after tax.
Nine
months ended September 30,
|
Three
months ended September 30,
|
||||||||||||||||||||||||||||||
2005
|
2006
|
Change
|
2005
|
2006
|
Change
|
||||||||||||||||||||||||||
($,000)
|
%
of
sales
|
($,000)
|
%
of
sales
|
%
of
2005
|
($,000)
|
%
of
sales
|
($,000)
|
%
of
sales
|
%
of
2005
|
||||||||||||||||||||||
Sales
|
$
|
2,990
|
100
|
%
|
$
|
2,886
|
100
|
%
|
(3
|
)%
|
$
|
782
|
100
|
%
|
$
|
923
|
100
|
%
|
18
|
%
|
|||||||||||
Cost
of sales
|
2,208
|
74
|
2,037
|
71
|
(8
|
)
|
630
|
81
|
647
|
70
|
3
|
||||||||||||||||||||
Gross
profit
|
782
|
26
|
849
|
29
|
9
|
152
|
19
|
276
|
30
|
82
|
|||||||||||||||||||||
R&D
expenses
|
42
|
1
|
184
|
6
|
338
|
16
|
2
|
87
|
9
|
444
|
|||||||||||||||||||||
SMG&A
expenses
|
2,939
|
98
|
3,735
|
129
|
27
|
996
|
127
|
1,769
|
192
|
78
|
|||||||||||||||||||||
Operating
income (loss)
|
(2,199
|
)
|
(74
|
)
|
(3,070
|
)
|
(106
|
)
|
40
|
(860
|
)
|
(110
|
)
|
(1,580
|
)
|
(171
|
)
|
84
|
|||||||||||||
Finance
expense, net
|
(13
|
)
|
0
|
(23
|
)
|
(1
|
)
|
77
|
(23
|
)
|
(3
|
)
|
(17
|
)
|
(2
|
)
|
(26
|
)
|
|||||||||||||
Other
income
|
—
|
—
|
330
|
11
|
—
|
—
|
—
|
—
|
—
|
||||||||||||||||||||||
Loss
before taxes on income
|
(2,212
|
)
|
(74
|
)
|
(2,763
|
)
|
(96
|
)
|
25
|
(883
|
)
|
(113
|
)
|
(1,597
|
)
|
(173
|
)
|
81
|
|||||||||||||
Taxes
on income
|
49
|
2
|
(8
|
)
|
0
|
(116
|
)
|
43
|
5
|
(2
|
)
|
0
|
(105
|
)
|
|||||||||||||||||
Income
(loss) from operations of the Company and its consolidated
subsidiaries
|
(2,163
|
)
|
(72
|
)
|
(2,771
|
)
|
(96
|
)
|
28
|
(840
|
)
|
(107
|
)
|
(1,599
|
)
|
(173
|
)
|
90
|
|||||||||||||
Share
in losses of Comverge
|
(380
|
)
|
(13
|
)
|
(210
|
)
|
(7
|
)
|
(45
|
)
|
—
|
—
|
—
|
—
|
|||||||||||||||||
Share
in losses of Paketeria
|
—
|
—
|
(52
|
)
|
(2
|
)
|
—
|
—
|
(52
|
)
|
(6
|
)
|
|||||||||||||||||||
Minority
interests
|
(73
|
)
|
(2
|
)
|
—
|
—
|
(100
|
)
|
(14
|
)
|
(2
|
)
|
—
|
—
|
(100
|
)
|
|||||||||||||||
Net
loss from continuing operations
|
(2,616
|
)
|
(87
|
)
|
(3,033
|
)
|
(105
|
)
|
16
|
(854
|
)
|
(109
|
)
|
(1,651
|
)
|
(179
|
)
|
93
|
|||||||||||||
Net
income from discontinued operations, net of tax
|
936
|
31
|
78
|
3
|
(95
|
)
|
185
|
24
|
—
|
—
|
(100
|
)
|
|||||||||||||||||||
Gain
on sale of dsIT Technologies, net of tax
|
542
|
18
|
—
|
—
|
(100
|
)
|
542
|
69
|
—
|
—
|
(100
|
)
|
|||||||||||||||||||
Loss
on sale of discontinued operations and contract settlement
|
—
|
—
|
(2,298
|
)
|
(80
|
)
|
—
|
—
|
—
|
—
|
—
|
||||||||||||||||||||
Net
income (loss)
|
$
|
(1,138
|
)
|
(38
|
)%
|
$
|
(5,253
|
)
|
(182
|
)
|
362
|
%
|
$
|
(127
|
)
|
(16
|
)%
|
$
|
(1,651
|
)
|
(179
|
)%
|
1,200
|
%
|
Sales.
Sales in
the first nine months of 2006 decreased by $0.1 million, from $3.0 million
in
the first nine months of 2005, to $2.9 million in 2006. This decrease was due
to
decreased sales in both our segments. Sales in the third quarter of 2006
increased by $0.1 million, in comparison to those in the third quarter of 2005.
The increase in sales in the third quarter reflects increased RT Solutions
sales
and other non-segment sales partially offset by a decrease in IT Solutions
sales.
Gross
profit. Gross
profit
in the
first nine months of 2006 increased slightly, compared to the first nine months
of 2005, due to increased gross profit in our RT Solutions segment, which more
than offset the decreased gross profit in our IT Solutions segment. The
increase in our RT Solutions segment gross profit was primarily attributable
to
specific projects with particularly high profit margins, which offset the
reduction in sales. The decrease in our IT Solutions segment gross profits
was
attributable to a combination of both reduced sales and reduced profit
margins. Gross
profit in the third quarter of 2006 increased as a result of increased gross
profit in our RT Solutions segment. The
decrease in IT Solutions gross profit during the quarter was offset by an almost
comparable increase in other non-segment gross profit.
Selling,
marketing, general and administrative expenses (“SMG&A). SMG&A
in the first nine months
of
2006 increased by $0.8 million compared to the first nine months of 2005 and
also increased by $0.8 million in the third quarter of 2006 as compared to
the
third quarter of 2005. SMG&A expenses have significantly decreased in our
dsIT subsidiary, however this decrease has been offset by increases in corporate
SMG&A expense, which arose from stock option compensation recorded in 2006.
Corporate SMG&A expense in 2006 includes $1.2 million of stock option
compensation expense ($0.8 million recorded in the third quarter) with respect
to SFAS 123R stock compensation expense. In 2005, we did not record any stock
option compensation expense with respect to SFAS 123R.
-23-
Other
income. In
the
first quarter of 2006, we reached a settlement agreement with an Israeli bank
with respect to our claims against the bank and the bank’s counterclaim against
us. As a result of the settlement agreement, we recorded income of $0.3 million,
net of legal expenses.
Share
of losses in Comverge. In
the
first quarter of 2006, the carrying value of our investment in Comverge's common
stock and preferred stock was reduced to zero. As such, Comverge had no effect
on our results in the second quarter of 2006. Our
share
of Comverge's net losses in the first nine months of 2006 was $0.2 million.
In
the future, when Comverge begins to show profit, after it has reached the level
of equity at which we ceased recording equity losses, we will record 7% of
that
income as equity income to our preferred investment up to our original $3.9
million preferred share investment in Comverge, and thereafter to our investment
in Comverge’s common shares, of which we currently own approximately
76%.
Share
of losses in Paketeria. In
the
third quarter of 2006, we acquired 23% of Paketeria. Our share of Paketeria’s
net losses plus amortization of the purchase price allocated to intangibles
during the period since our acquisition was $0.1 million.
Net
income from discontinued operations, net of tax. Under
applicable accounting principles, as a result of our sale of Databit in the
first quarter of 2006, the results of Databit have been reclassified in the
current period and for all prior periods as a discontinued operation. The
condensed results of this business are presented in each of the current and
comparative period as net income from discontinued operations.
The
results for the first nine months of 2005 include the condensed results of
Databit as well as the condensed results of the Company’s outsourcing consulting
services business in Israel, which was sold in August 2005. The decrease in
net
income from discontinued operations in the 2006 period as compared to the 2005
period was primarily due to the inclusion in the 2005 period of the results
of
the outsourcing consulting services business.
Loss
on sale of discontinued operations and contract settlement, net of tax.
This
loss
resulted from the sale of our Databit computer hardware company and contract
settlement with our former CEO during the first quarter of 2006.
Liquidity
and Capital Resources
As
of
September 30, 2006, we had working capital of $1.1 million, including $1.8
million of cash and cash equivalents. Net cash provided in the first nine months
of 2006 was $0.9 million. Net cash of $1.1 million was used in operating
activities during the first nine months of 2006. Our net loss of $5.3 million
for the nine-month period ended September 30, 2006 was primarily due to the
$2.3
million loss on our sale of our Databit computer hardware company, the contract
settlement with our former CEO, and corporate expenses of $2.4 million, of
which
$1.2 million was related to stock option compensation. The primary use of cash
in operating activities was $0.2 million of cash used by Databit, prior to
its
sale, and net corporate general and administrative expenditures of $1.2 million.
Net cash of $0.6 million was used in investing activities. The use of cash
in
investing activities was primarily for the contract settlement with our former
CEO and associated sale of our Databit computer hardware company totaling $0.9
million, and our investments in Paketeria ($0.9 million) and Comverge ($0.2
million). These cash expenditures were partially offset by the release of
previously restricted cash balances of $1.6 million. Additional cash of $2.6
million was provided by financing activities, the private placement of our
Common Stock.
Of
our
$1.1 million working capital, on September 30, 2006, $0.6 million was in our
majority owned dsIT subsidiary. Due to Israeli tax and company law constraints
as well as dsIT’s own working capital requirements, such working capital and
cash flows from dsIT’s operations are not readily available to finance U.S.
corporate activities.
As
of
September 30, 2006, our dsIT subsidiary is in technical violation of its
covenant with one of its banks though the bank is continuing to provide funding
to dsIT despite the technical violation. dsIT is working towards remedying
the
technical violation.
In
July
2006, we concluded a private placement of our Common Stock, which raised
approximately $2.6 million, net of transaction costs. We have significantly
reduced our corporate overhead costs as a result of the sale of Databit and
the
contract settlement with our former CEO. However,
our available cash is not expected to be sufficient to fund our US based
corporate activities for the next 12 months as we continue to invest in
Paketeria and search for additional strategic investments. We are exploring
possible financing transactions to raise additional funds to finance our US
activities. Our
CEO
has agreed to provide to us up to $300 of financing over the next year to fund
our US activities to the extent that we are not able to raise that amount from
other sources.
-24-
As
of
November 1, 2006 our wholly owned US operations (i.e., excluding dsIT and
Comverge) had an aggregate of $1.7 million in cash and cash equivalents,
reflecting a $0.8 million increase from the balance as of December 31, 2005.
The
balance at November 1, 2006 does not include the transfer of $0.4 million made
with respect to our additional investment in Paketeria.
Contractual
Obligations and Commitments
Our
contractual obligations and commitments at September 30, 2006, excluding certain
severance arrangements described below, principally include obligations
associated with our outstanding indebtedness, future minimum operating lease
obligations and potential severance obligations to Israeli employees and are
set
forth in the table below.
Cash
Payments Due During Year Ending September 30,
|
||||||||||||||||
(amounts
in thousands)
|
||||||||||||||||
Contractual
Obligations
|
Total
|
2007
|
2008-2009
|
2010-2011
|
2012
and thereafter
|
|||||||||||
Long-term
debt
|
$
|
65
|
$
|
65
|
$
|
—
|
$
|
—
|
$
|
—
|
||||||
Operating
leases (1)
|
1,297
|
671
|
626
|
—
|
—
|
|||||||||||
Investor
relations
|
115
|
115
|
—
|
—
|
—
|
|||||||||||
Buy-out
of Paketeria loan (2)
|
266
|
266
|
—
|
—
|
—
|
|||||||||||
Potential
severance obligations to Israeli employees (3)
|
2,452
|
—
|
—
|
—
|
2,452
|
|||||||||||
Total
contractual cash obligations
|
$
|
4,195
|
$
|
1,117
|
$
|
626
|
$
|
—
|
$
|
2,452
|
We
expect
to finance these contractual commitments from cash on hand and cash generated
from operations.
(1)
As
part of the sale of our Databit computer hardware subsidiary, we assigned all
of
the US leases to Databit and after the first quarter of 2006 will no longer
have
rental expense for facilities in the US. However, the landlords of the
properties have not yet consented to the assignments and we therefore continue
to be contingently liable on these leases, which have an annual cost of
approximately $120,000 until November 2008. Such costs are included in the
table
above. Databit has agreed to indemnify us for any liability in connection with
these leases. Under the terms of the sale agreement with Databit, we continue
to
house certain corporate headquarter functions in Mahwah, New Jersey. Under
a
transition services arrangement, we have agreed to pay Databit $20,000 per
year
for the continued use of the Mahwah premises and various administrative
services.
(2)
As a
part of our agreement to purchase 23% of Paketeria, we agreed to the purchase
of
a €210,000 principal promissory note issued by Paketeria to its founder and
managing director. Under the terms of the agreement, we must purchase one-third
of the note from the founder for a cash payment equal to one-third of the
principal amount, plus accrued interest, upon Paketeria having achieved each
of
three franchise licensing milestones—the licensing of its 60th, 75th, and 115th
franchises. In
October 2006, we purchased €140,000 of the note (see Overview and Trend
Information). We expect to purchase the remaining €70,000 of the note within the
next year, upon the achievement of the third and final milestone.
(3)
Under
Israeli law and labor agreements, dsIT is required to make severance payments
to
dismissed employees and to employees leaving employment under certain other
circumstances. The obligation for severance pay benefits, as determined by
the
Israeli Severance Pay Law, is based upon length of service and ending salary.
These obligations are substantially covered by regular deposits with recognized
severance pay and pension funds and by the purchase of insurance policies.
As of
September 30, 2006, we accrued a total of $2.5 million for potential severance
obligations of which approximately $1.5 million was funded with cash to
insurance companies.
-25-
Item
3. Quantitative
and Qualitative Disclosures About Market Risk
In
the
normal course of business, we are exposed to fluctuations in interest rates
on
lines-of-credit incurred to finance our operations in Israel. Additionally,
our
monetary assets and liabilities (net liability of approximately $0.2 million)
in
Israel are exposed to fluctuations in exchange rates. We are also exposed to
fluctuations in exchange rates with respect to our investment our call and
put
options to acquire the €70,000 note in Paketeria as the note in denominated in
Euros. In addition, our share of equity income or loss in Paketeria is
translated from Euros. We do not employ specific strategies, such as the use
of
derivative instruments or hedging, to manage our interest rate or foreign
currency exchange rate exposures.
Item
4. Controls
and Procedures
Evaluation
of Controls and Procedures
As
of the
end of the period covered by this report, we carried out an evaluation, under
the supervision and with the participation of our management, including the
Chief Executive Officer and the Chief Financial Officer, of the design and
operation of our disclosure controls and procedures (as such term is defined
in
Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended (the
“Exchange Act’)). Based on this evaluation, our Chief Executive Officer and
Chief Financial Officer concluded that our disclosure controls and procedures
were effective at the reasonable assurance level at end of the period covered
by
this report to ensure that the information required to be disclosed by us in
the
reports we file or submit under the Exchange Act is (i) accumulated and
communicated to our management (including our Chief Executive Officer and Chief
Financial Officer) in a timely manner, and (ii) recorded, processed, summarized
and reported within the time periods specified in the SEC’s rules and
forms.
Changes
in Controls and Procedures
There
was
no change in our internal controls over financial reporting (as such term is
defined in Rule 13a-15(f) under the Exchange Act) during the period covered
by
this report that has materially affected, or is reasonably likely to materially
affect, internal controls over financial reporting.
-26-
PART
II - OTHER INFORMATION
Item
1. Legal
Proceedings
None.
Item
4. Submission
of Matters to a Vote of Security Holders
Our
Annual Meeting of Stockholders was held on September 15, 2006. The only item
on
the agenda at the Annual Meeting was the election of the Board of Directors.
The
holders of 8,242,806 shares of common stock out of 9,385,027 shares of common
stock were present either in person or by proxy and were entitled to vote for
the election of six members to the Board of Directors. Holders of our common
stock entitled to vote, voted as follows:
For
|
Withheld
|
||||||
John
A. Moore
|
8,151,015
|
91,791
|
|||||
George
Morgenstern
|
7,948,033
|
294,773
|
|||||
Richard
J. Giacco
|
8,229,715
|
13,091
|
|||||
Richard
Rimer
|
8,230,015
|
12,791
|
|||||
Kevin
P. Wren
|
8,229,715
|
13,091
|
|||||
Samuel
M. Zentman
|
8,184,215
|
58,591
|
Item
5. Other
Information
In
October 2006, we adopted a Key Employee Stock Option Plan (the “Plan”) for our
dsIT Solutions Ltd. subsidiary. Under the Plan, a committee of board members
of
dsIT, to initially be comprised of the entire board of directors of dsIT, shall
be created for its administration.
The
exercise price and the manner of exercise of the options to be granted under
the
Plan shall be determined by the committee on the date of grant. Unless otherwise
provided by the committee, the right to exercise all vested options shall
terminate (i) one year following the date of optionee’s termination, if such
termination was by optionee, (ii) eighteen months following the date or
optionee’s termination, if the termination was by dsIT, or (iii) immediately, if
optionee is terminated by dsIT for cause, as such term is defined in the
Plan.
If
all
options under the Plan were granted and exercised, our holdings in dsIT could
be
diluted from its current holdings of approximately 80% to approximately
50%.
-27-
Item
6. Exhibits
4.1
|
Form
of Warrant (incorporated herein by reference to Exhibit 4.1 to the
Company’s Quarterly Report on Form 10-Q for the period ended June 30,2006,
filed on August 11, 2006 (the “June 2006 10-Q”)).
|
10.1
|
Form
of Subscription Agreement (incorporated herein by reference to Exhibit
10.1 to the June 2006 10-Q).
|
10.2
|
Placement
Agent Agreement between the Company and First Montauk Securities
Corp.
dated June 13, 2006 (incorporated herein by reference to Exhibit
10.1 to
the June 2006 10-Q).
|
10.3
|
Form
of Common Stock Purchase Agreement (incorporated herein by reference
to
Exhibit 10.1 to the Registrants Current Report on Form 8-K dated
August
17, 2006 ( the “August 2006 8-K“)).
|
10.4
|
Form
of Note Purchase Agreement with Form of Convertible Promissory Note
attached (incorporated herein by reference to Exhibit 10.2 to the
August
2006 8-K).
|
10.5
|
Form
of Stock Purchase Agreement (incorporated herein by reference to
Exhibit
10.3 to the August 2006 8-K).
|
10.6
|
Form
of Investors’ Rights Agreement (incorporated herein by reference to
Exhibit 10.4 to the August 2006 8-K).
|
10.7
|
Form
of Non-Plan Option Agreement (incorporated herein by reference to
Exhibit
10.5 to the August 2006 8-K).
|
31.1
|
Certification
of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002.
|
31.2
|
Certification
of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002.
|
32.1
|
Certification
of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
|
32.2
|
Certification
of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
|
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SIGNATURES
Pursuant
to the requirements of the Securities Exchange Act of 1934, the Registrant
has
duly caused this report to be signed on its behalf by its Principal Financial
Officer thereunto duly authorized.
ACORN FACTOR INC. | ||
|
|
|
Dated: November 20, 2006 | By: | /s/ Michael Barth |
Michael Barth |
||
Chief Financial Officer |
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