CYNERGISTEK, INC - Quarter Report: 2014 June (Form 10-Q)

auxilio10q06302014.htm

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF

THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2014

[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF

THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from _______ to _______

Commission file number 000-27507

AUXILIO, INC.

(Exact name of registrant as specified in its charter)

Nevada	88-0350448
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)

26300 La Alameda, Suite 100

Mission Viejo, California 92691

(Address of principal executive offices, zip code)

(949) 614-0700

(Issuer’s telephone number)

N/A

(Former name, former address and former fiscal year, if changed since last report)

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 þ No o.

Indicated by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Date File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer o	Accelerated filer o
Non-accelerated filer o	Smaller reporting company þ

Indicate by check mark whether the registrant is a shell company (as defined by Section 12b-2 of the Exchange Act). Yes o No þ.

The number of shares of the issuer’s common stock, $0.001 par value, outstanding as of August 13, 2014 was 23,595,048.

AUXILIO, INC.

FORM 10-Q

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PART I - FINANCIAL INFORMATION
		Page
Item 1	Financial Statements:

	Condensed Consolidated Balance Sheets as of June 30, 2014 (unaudited) and December 31, 2013	3

	Condensed Consolidated Statements of Operations for the Three and Six Months Ended June 30, 2014 and 2013 (unaudited)	4

	Condensed Consolidated Statement of Stockholders’ (Deficit) Equity for the Three Months Ended June 30, 2014 (unaudited)	5

	Condensed Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2014 and 2013 (unaudited)	6

	Notes to Unaudited Condensed Consolidated Financial Statements	8

Item 2	Management's Discussion and Analysis of Financial Condition and Results of Operations	15

Item 3	Quantitative and Qualitative Disclosures about Market Risk	21

Item 4	Controls and Procedures	21

PART II - OTHER INFORMATION

Item 1A	Risk Factors	21

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	22

Item 6	Exhibits	22

Signatures		23

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PART I – FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS.

AUXILIO, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

	JUNE 30, 2014			DECEMBER 31, 2013
	(unaudited)
ASSETS
Current assets:
Cash and cash equivalents	$	4,946,549		$	4,668,624
Accounts receivable, net		4,496,662			3,856,791
Supplies		983,064			967,354
Prepaid and other current assets		293,543			332,759
Total current assets		10,719,818			9,825,528

Property and equipment, net		180,208			160,709
Deposits		34,413			34,413
Loan acquisition costs		7,309			51,162
Goodwill		1,517,017			1,517,017
Total assets	$	12,458,765		$	11,588,829

LIABILITIES AND STOCKHOLDERS’ EQUITY

Current liabilities:
Accounts payable and accrued expenses	$	5,960,161		$	5,057,339
Accrued compensation and benefits		1,452,074			1,556,513
Line of credit		200,000			400,000
Deferred revenue		835,931			868,186
Convertible notes payable, net of discount of $11,750 and $82,250 at June 30, 2014 and December 31, 2013, respectively		1,538,250			1,617,750
Current portion of capital lease obligations		71,258			71,933
Total current liabilities		10,057,674			9,571,721

Long-term liabilities:
Capital lease obligations less current portion		51,360			46,558
Total long-term liabilities		51,360			46,558

Commitments and contingencies

Stockholders’ (deficit) equity:
Common stock, par value at $0.001, 33,333,333 shares authorized, 21,114,642 and 20,643,966 shares issued and outstanding at June 30, 2014 and December 31, 2013, respectively		21,116			20,645
Additional paid-in capital		23,954,331			23,491,490
Accumulated deficit		(21,625,716	)		(21,541,585	)
Total stockholders’ (deficit) equity		2,349,731			1,970,550
Total liabilities and stockholders’ equity	$	12,458,765		$	11,588,829

The accompanying notes are an integral part of these condensed consolidated financial statements.

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AUXILIO, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(UNAUDITED)

	Three Months						Six Months
	Ended June 30,						Ended June 30,
	2014			2013			2014			2013
Revenues	$	10,377,272		$	9,801,029		$	20,621,844		$	19,893,182
Cost of revenues		8,658,202			8,157,963			17,163,142			16,673,902

Gross profit		1,719,070			1,643,066			3,458,702			3,219,280

Operating expenses:
Sales and marketing		582,503			504,168			1,090,714			1,174,063
General and administrative expenses		1,044,756			934,251			2,246,626			1,939,021

Total operating expenses		1,627,259			1,438,419			3,337,340			3,113,084

Income from operations		91,811			204,647			121,362			106,196

Other income (expense):
Interest expense		(105,070	)		(107,154	)		(203,893	)		(233,503	)

Total other income (expense)		(105,070	)		(107,154	)		(203,893	)		(233,503	)

Income (loss) before provision for income taxes		(13,259	)		97,493			(82,531	)		(127,307	)

Income tax expense		-			-			(1,600	)		(5,500	)

Net income (loss)	$	(13,259	)	$	97,493		$	(84,131	)	$	(132,807	)

Net income (loss) per share:
Basic	$	(.00	)	$	.00		$	(.00	)	$	(.01	)
Diluted	$	(.00	)	$	.00		$	(.00	)	$	(.01	)

Number of weighted average shares:
Basic		20,877,949			20,176,242			20,768,735			20,146,271
Diluted		20,877,949			20,987,647			20,768,735			20,146,271

The accompanying notes are an integral part of these condensed consolidated financial statements.

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AUXILIO, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY

SIX MONTHS ENDED JUNE 30, 2014

(UNAUDITED)

					Additional						Total
	Common Stock				Paid-in			Accumulated			Stockholders’
	Shares		Amount		Capital			Deficit			Equity
Balance at December 31, 2013		20,643,966	$	20,645	$	23,491,490		$	(21,541,585	)	$	1,970,550
Stock compensation expense for options and warrants granted to employees and directors		-		-		253,312			-			253,312
Stock options exercised		198,176		198		59,802			-			60,000
Warrants exercised		122,500		123		(123	)					-
Conversion of convertible note payable		150,000		150		149,850			-			150,000
Net loss		-		-		-			(84,131	)		(84,131	)
Balance at June 30 2014		21,114,642	$	21,116	$	23,954,331		$	(21,625,716	)	$	2,349,731

The accompanying notes are an integral part of these condensed consolidated financial statements.

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AUXILIO, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

	Six months ended June 30,
	2014			2013
Cash flows from operating activities:
Net loss	$	(84,131	)	$	(132,807	)
Adjustments to reconcile net loss to net cash provided by (used for) operating activities:
Depreciation		48,706			69,032
Stock compensation expense for warrants and options issued to employees and directors		253,312			315,662
Fair value of restricted stock granted for marketing services		-			190,484
Interest expense related to accretion of debt discount costs		70,500			70,500
Interest expense related to amortization of loan acquisition costs		43,853			64,020
Changes in operating assets and liabilities:
Accounts receivable		(639,871	)		(220,683	)
Supplies		(15,710	)		(157,609	)
Prepaid and other current assets		39,216			(210,438	)
Deposits		-			1,250
Accounts payable and accrued expenses		902,822			126,400
Accrued compensation and benefits		(104,439	)		(205,775	)
Deferred revenue		(32,255	)		20,331
Net cash provided by (used for) operating activities		482,003			(69,633	)
Cash flows from investing activities:
Purchases of property and equipment		(25,466	)		(10,278	)
Net cash used for investing activities		(25,466	)		(10,278	)
Cash flows from financing activities:
Net repayments on line of credit agreement		(200,000	)		(28,486	)
Net proceeds from issuance of common stock through employee stock options		60,000			1,175
Payments on capital leases		(38,612	)		(53,624	)
Net cash used for financing activities		(178,612	)		(80,935	)
Net increase (decrease) in cash and cash equivalents		277,925			(160,846	)
Cash and cash equivalents, beginning of period		4,668,624			2,190,972
Cash and cash equivalents, end of period	$	4,946,549		$	2,030,126

The accompanying notes are an integral part of these condensed consolidated financial statements.

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AUXILIO, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)

(UNAUDITED)

	Six months ended June 30,
	2014		2013
Supplemental disclosure of cash flow information:
Interest paid	$	89,472	$	98,981
Income taxes paid	$	56,460	$	5,655
Non-cash investing and financing activities:
Property and equipment acquired through capital leases	$	42,739	$	34,109
Conversion of convertible note payable	$	150,000	$	-

The accompanying notes are an integral part of these condensed consolidated financial statements.

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

SIX MONTHS ENDED JUNE 30, 2014 AND 2013

(UNAUDITED)

1. BASIS OF PRESENTATION

The accompanying unaudited condensed consolidated financial statements of Auxilio, Inc. and its subsidiaries (the “Company”, “we”, “us” or “Auxilio”) have been prepared in accordance with generally accepted accounting principles of the United States of America (“GAAP”) for interim financial statements pursuant to the rules and regulations of the Securities and Exchange Commission. Accordingly, these financial statements do not include all of the information and notes required by GAAP for complete financial statements. These condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2013, as filed with the Securities and Exchange Commission (“SEC”) on March 31, 2014.

The unaudited condensed consolidated financial statements included herein reflect all adjustments (which include only normal, recurring adjustments) that are, in the opinion of management, necessary to state fairly our financial position and results of operations as of and for the periods presented. The results for such periods are not necessarily indicative of the results to be expected for the full year.

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. As a result, actual results could differ from those estimates.

The accompanying financial statements include the accounts of Auxilio and its wholly owned subsidiaries. All intercompany balances and transactions have been eliminated.

We have performed an evaluation of subsequent events through the date of filing these financial statements with the SEC.

2. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

On May 28, 2014, the FASB issued ASU 2014-09 regarding ASC Topic 606, Revenue from Contracts with Customers. The standard provides principles for recognizing revenue for the transfer of promised goods or services to customers with the consideration to which the entity expects to be entitled in exchange for those goods or services. The guidance will be effective for our fiscal year 2017, subject to the issuance of guidance from the SEC. Early adoption is not permitted. We are evaluating the accounting, transition and disclosure requirements of the standard and cannot currently estimate the financial statement impact it will have upon adoption.

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3. OPTIONS AND WARRANTS

Below is a summary of Auxilio stock option and warrant activity during the six month period ended June 30, 2014:

Options	Shares			Weighted Average Exercise Price		Weighted Average Remaining Term in Years		Aggregate Intrinsic Value
Outstanding at December 31, 2013		5,256,349		$	1.03
Granted		200,000			1.25
Exercised		(198,176	)		0.95
Cancelled		(380,784	)		1.03
Outstanding at June 30, 2014		4,877,389		$	1.04		5.09	$	1,743,243
Exercisable at June 30, 2014		4,227,765		$	1.04		4.57	$	1,411,053

Warrants	Shares			Weighted Average Exercise Price		Weighted Average Remaining Term in Years		Aggregate Intrinsic Value
Outstanding at December 31, 2013		2,983,565		$	1.15
Granted		-			-
Exercised		(122,500	)		1.01
Cancelled		(252,500	)		1.01
Outstanding at June 30, 2014		2,608,565		$	1.17		3.03	$	580,417
Exercisable at June 30, 2014		1,908,565		$	1.23		3.03	$	356,417

During the six months ended June 30, 2014, we granted a total of 200,000 options to our employees and directors to purchase shares of our common stock at an exercise price of $1.25 per share. The exercise price equals the fair value of our stock on the grant date. The options have graded vesting annually over three years starting February 2014. The fair value of the options was determined using the Black-Scholes option-pricing model. The assumptions used to calculate the fair market value are as follows: (i) risk-free interest rate of 0.07%; (ii) estimated volatility of 64.00%; (iii) dividend yield of 0.0%; and (iv) expected life of the options of three years.

For the three and six months ended June 30, 2014 and 2013, stock-based compensation expense recognized in the statements of operations as follows:

	Three Months Ended June 30,				Six months Ended June 30,
	2014		2013		2014		2013
Cost of revenues	$	2,815	$	26,842	$	129,979	$	97,811
Sales and marketing		8,337		18,978		23,412		73,684
General and administrative expense		41,558		73,329		99,921		144,167
Total stock based compensation expense	$	52,710	$	119,149	$	253,312	$	315,662

4. RESTRICTED STOCK

In November 2008, we entered into a five year joint marketing agreement (the “Sodexo Agreement”) with Sodexo Operations, LLC, (“Sodexo”) to provide our document services to Sodexo’s healthcare customer base in the United States. On May 11, 2011, we amended the Sodexo Agreement (the “May 2011 Amendment”). Pursuant to the Sodexo Agreement, as amended by the May 2011 Amendment, Sodexo provided additional sales and marketing resources and expanded the marketing effort directed towards existing or potential Sodexo hospital clients. The term of the Sodexo Agreement was extended to December 31, 2014. Upon signing the May 2011 Amendment, we

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granted 200,000 shares of restricted stock to Sodexo. These shares vest as follows: 66,667 immediately, 66,667 on May 11, 2013 and 66,666 on May 11, 2014. The immediately vested shares resulted in a charge to marketing expense of $54,667 in 2011. The cost of the remaining shares was to be recognized over the vesting periods using the current market price of the stock at each periodic reporting date. On April 18, 2012, we granted 23,437 shares to Sodexo as a result of a new sale. These shares were to vest as follows: 7,812 on April 18, 2013, 7,812 on April 18, 2014 and 7,813 on April 18, 2015. On July 1, 2012, we granted another 31,765 shares to Sodexo as a result of another new sale. These shares were to vest as follows: 10,588 on July 1, 2013, 10,588 on July 1, 2014 and 10,588 on July 1, 2015.

The Sodexo Agreement was further amended in October 2012 (such amendment referred to herein as the “October 2012 Amendment”) in which we eliminated the additional sales and marketing resources that we added under the May 2011 Amendment. Under these terms we no longer paid the annual marketing fee, but continued to pay to Sodexo a quarterly commission based on actual revenues received by us from certain existing customers and any new customers Sodexo brought to us who signed an agreement for services by August 3, 2013. For the six months ended June 30, 2014 and 2013 these commissions totaled $22,597 and $20,342, respectively.

On January 11, 2013 we terminated the Sodexo Agreement. This resulted in the immediate vesting of 265,179 shares of restricted stock. The cost recognized for these shares totaled $165,181 for the six months ended June 30, 2013, and is included in sales and marketing expense in the accompanying Condensed Consolidated Statement of Operations.

5. NET INCOME (LOSS) PER SHARE

Basic net income (loss) per share is calculated using the weighted average number of shares of our common stock issued and outstanding during a certain period, and is calculated by dividing net income (loss) by the weighted average number of shares of the Company’s common stock issued and outstanding during such period. Diluted net income (loss) per share is calculated using the weighted average number of common and potentially dilutive common shares outstanding during the period, using the as-if converted method for secured convertible notes, and the treasury stock method for options and warrants.

For the three and six months ended June 30, 2014, potentially dilutive securities consist of options and warrants to purchase 7,488,954 shares of common stock at prices ranging from $0.30 to $2.15 per share, and convertible notes that could convert into 1,550,000 shares of common stock. For the three months and six months ended June 30, 2014, of these potentially dilutive securities, all of the shares to purchase commons stock from the options and warrants and the convertible notes are excluded from the computation of diluted earnings per share as their effect would be anti-dilutive.

For the three months ended June 30, 2013, potentially dilutive securities consist of options and warrants to purchase 9,377,460 shares of common stock at prices ranging from $0.30 to $2.15 per share and secured convertible notes that could convert into 1,800,000 shares of common stock. 8,566,415 of the options and warrants outstanding and the convertible notes have been excluded in the computation of diluted earnings per share as their effect would be anti-dilutive.

For the six months ended June 30, 2013, potentially dilutive securities consist of options and warrants to purchase 9,377,460 shares of common stock at prices ranging from $0.30 to $2.15 per share and secured convertible notes that could convert into 1,800,000 shares of common stock. All of the options and warrants outstanding and the convertible notes have been excluded in the computation of diluted earnings per share due as their effect would be anti-dilutive.

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The following table sets forth the computation of basic and diluted net income (loss) per share:

	Three Months Ended June 30,					Six Months Ended June 30,
	2014			2013		2014			2013
Numerator:
Net income (loss)	$	(13,259	)	$	97,493	$	(84,131	)	$	(132,807	)
Effects of dilutive securities:
Convertible notes payable		-			-		-			-
Income (loss) after effects of conversion of notes payable	$	(13,259	)	$	97,493	$	(84,131	)	$	(132,807	)
Denominator:
Denominator for basic calculation weighted average shares		20,877,949			20,176,242		20,768,735			20,146,271
Dilutive common stock equivalents:
Secured convertible notes		-			-		-			-
Options and warrants		-			811,405		-			-
Denominator for diluted calculation weighted average shares		20,877,949			20,987,647		20,768,735			20,146,271

Net income (loss) per share:
Basic net income (loss) per share	$	(.00	)	$	.00	$	(.00	)	$	(.01	)
Diluted net income (loss) per share	$	(.00	)	$	.00	$	(.00	)	$	(.01	)

6. ACCOUNTS RECEIVABLE

A summary of accounts receivable is as follows:

	June 30, 2014			December 31, 2013
Trade receivable	$	5,252,796		$	4,572,656
Unapplied advances and unbilled revenue		(756,134	)		(715,865	)
Allowance for doubtful accounts		-			-
Total accounts receivable	$	4,496,662		$	3,856,791

7. LINE OF CREDIT

On May 4, 2012, we entered into a Loan and Security Agreement (the “Loan and Security Agreement”) with Avidbank Corporate Finance, a Division of Avidbank (“Avidbank”). On April 26, 2013, we amended the Loan and Security Agreement with Avidbank (the “Avidbank Amendment”). On April 25, 2014, we again amended the Loan and Security Agreement with Avidbank (the “Second Avidbank Amendment”). Under the Second Avidbank Amendment, the term of the revolving line-of-credit of up to $2.0 million extends through April 25, 2015, at an interest rate of prime plus 1.0% per annum. As of June 30, 2014 the interest rate was 4.25%. There will be no minimum interest payable with respect to any calendar quarter. The amount available to us at any given time is the lesser of (a) $2.0 million, or (b) the amount available under our borrowing base (80% of our eligible accounts, minus (1) accrued client lease payables, and minus (2) accrued equipment pool liability). While there are outstanding credit extensions, our adjusted EBITDA may be an adjusted EBITDA loss of up to $200,000 for any single quarter so long as we achieve a positive adjusted EBITDA for the prior quarter and subsequent quarter. The foregoing description is qualified in its entirety by reference to the Second Amendment to the Loan and Security Agreement between Avidbank Corporate Finance and Auxilio, Inc. which is found as Exhibit 10.1 to Form 10-Q for the three months ended March 31, 2014, as filed with the Securities and Exchange Commission (“SEC”) on May 14, 2014. We believe we were in compliance with all of the Avidbank agreement covenants as of June 30, 2014 and December 31, 2013.

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In connection with our entry into the Loan and Security Agreement, as amended, we granted Avidbank (a) a general, first-priority security interest in all of our assets, equipment and inventory, and (b) a security interest in all of our intellectual property under an Intellectual Property Security Agreement. Each holder of convertible promissory notes issued in a private offering in July 2011 agreed to subordinate its right of payment and security interest in and to our assets to Avidbank throughout the term of the Loan and Security Agreement. As additional consideration for the Loan and Security Agreement, we issued Avidbank a 5-year warrant to purchase up to 72,098 shares of our common stock at an exercise price of $1.387 per share. The foregoing descriptions are qualified in their entirety by reference to the respective agreements. These agreements are found in our Form 8-K filed on May 9, 2012 as Exhibits 10.1, 10.2, 10.3 and 10.4.

Interest charges associated with the Avidbank line of credit, including amortization of the discounts and loan acquisition costs totaled $13,182 and $9,824, respectively, for the three months ended June 30, 2014 and 2013, respectively, and $18,432 and 38,953, respectively, for the six months ended June 30, 2014 and 2013.

8. CONVERTIBLE NOTES PAYABLE

Effective July 29, 2011, we closed on a private offering of secured convertible promissory notes and warrants (“Units”) for gross proceeds of $1,850,000. Each of the Units consists of (i) a $5,000 secured convertible promissory note (each a “Note” and collectively “Notes”) and (ii) a warrant (each a “Warrant” and collectively “Warrants”) to purchase 1,000 shares of our common stock at an exercise price of $1.50 per share. The Notes mature July 29, 2014 and are secured by our tangible and intangible assets, subject to the senior security interest of Avidbank, as discussed in the immediately preceding note. The Notes accrue interest at a rate of eight percent (8%) per annum, compounded annually, and the interest on the outstanding balance of the Notes is payable no later than thirty (30) days following the close of each calendar quarter. The Notes are convertible into 1,850,000 shares of common stock. The Warrants expire April 29, 2016 and are exercisable to purchase up to 370,000 shares of our common stock. We additionally granted piggyback registration rights to the investors in this offering. Several members of our Board at the time, including John Pace, Michael Joyce, Mark St. Clare and Michael Vanderhoof, participated in the offering.

We may call the Notes for prepayment (“Call Option”) if (a) our common stock closes at or above $2.00 per share for 20 consecutive days; and (b) our common stock has had daily trading volume at or above 100,000 shares for the same 20 consecutive days. Investors shall have 60 days from the date on which we call the Notes to convert the Notes (thereafter we may prepay any outstanding Notes).

At any time prior to the maturity date, the holders of the Notes may elect to convert all or part of the unpaid principal amount of the Notes and any unpaid interest accrued thereon, into shares of our common stock. The conversion price will be $1.00 per share of common stock, subject to adjustment upon the occurrence of certain capital events. If (a) there is any transaction, or a series of transactions, that results, directly or indirectly, in the transfer of 100% of Auxilio including, without limitation, any sale of stock, sale of assets, sale of membership interests, merger or consolidation, reorganization, recapitalization or restructuring, tender or exchange offer, negotiated purchase or leveraged buyout, and (b) the per share price of our common stock in such transaction equals or exceeds $1.00, then the Notes will be automatically converted into our common stock.

Interest charges associated with the convertible notes payable, including amortization of the discounts and loan acquisition costs totaled $180,064 and $186,353 for the six months ended June 30, 2014 and 2013, respectively.

We also paid Cambria Capital, LLC a placement fee of $149,850 in sales commissions, reimbursement for costs associated with the placement of the Units and to issue a warrant to purchase up to 199,800 shares of common stock exercisable at a price of $1.50 per share. Cambria Capital, LLC is an affiliate of Michael Vanderhoof, a member of the Board. The engagement of Cambria Capital, LLC, the payment of the placement fee and the issuance of the warrant to Cambria Capital, LLC were approved by a majority of the disinterested members of the Board. We additionally granted piggyback registration rights to Cambria Capital, LLC that are the same as those afforded to the investors in the offering.

The holders of the Notes elected to convert all of the principal into 1,850,000 shares of common stock during the term of the agreement with 1,550,000 shares being converted in July, 2014. The warrants remain outstanding until their exercise or expiration.

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9. EMPLOYMENT AGREEMENTS

Effective January 1, 2012, we entered into an employment agreement with Joseph J. Flynn, our President and Chief Executive Officer (“CEO”) since 2009 (the “Flynn Agreement”). The Flynn Agreement provided that Mr. Flynn would continue his employment as our President and CEO. The Flynn Agreement had a term of two years, provided for an annual base salary of $269,087, and contained an auto renewal provision. Mr. Flynn also received the customary employee benefits available to our employees. Mr. Flynn is also received a bonus of $127,324 in 2013, the achievement of which was based on Company performance metrics. The foregoing summary of the Flynn Agreement is qualified in its entirety by reference to the full text of the employment agreement, which was filed as Exhibit 10.2 to our 8-K filing on December 23, 2011.

Effective January 1, 2014, we entered into a new employment agreement with Joseph J. Flynn (the “2014 Flynn Agreement”). The 2014 Flynn Agreement provides that Mr. Flynn will continue his employment as our President and CEO. The 2014 Flynn Agreement has a term of two years, provides for an annual base salary of $275,000, and will automatically renew for subsequent twelve (12) month terms unless either party provides advance written notice to the other that such party does not wish to renew the agreement for a subsequent twelve (12) months. Mr. Flynn also receives the customary employee benefits available to our employees. Mr. Flynn is also entitled to receive a bonus of up to $150,000 per year, the achievement of which is based on Company performance metrics. Further, the 2014 Flynn Agreement revised the vesting schedule of warrants granted to Mr. Flynn in January 2013. The revision spreads the vesting date of the remaining 300,000 unvested shares from 150,000 on January 1, 2015 and 150,000 on January 1, 2016 to 100,000 on January 1, 2015, 100,000 on January 1, 2016 and 100,000 on January 1, 2017. These warrants will vest contingent with the achievement of certain financial performance metrics of the Company in calendar years 2014, 2015 and 2016. We may terminate Mr. Flynn’s employment under the 2014 Flynn Agreement without cause at any time on thirty (30) days advance written notice, at which time Mr. Flynn would receive severance pay for twelve (12) months and be fully vested in all options and warrants granted to date. The foregoing summary of the 2014 Flynn Agreement is qualified in its entirety by reference to the full context of the employment agreement which is found as Exhibit 10.2 to our 10-Q filing on May 14, 2014.

Effective January 1, 2012, we entered into an employment agreement with Paul T. Anthony, our Chief Financial Officer (“CFO”) since 2004 (the “Anthony Agreement”). The Anthony Agreement provided that Mr. Anthony would continue to serve as our Executive Vice President (“EVP”) and CFO. The Anthony Agreement had a term of two years, and provided for an annual base salary of $219,037and contained an auto renewal provision. Mr. Anthony also received the customary employee benefits available to our employees. Mr. Anthony is also received a bonus of $93,280 in 2013, the achievement of which was based on Company performance metrics. The foregoing summary of the Anthony Agreement is qualified in its entirety by reference to the full text of the employment agreement, which was filed as Exhibit 10.1 to our 8-K filing on December 23, 2011.

Effective January 1, 2014, we entered into a new employment agreement with Mr. Anthony, (the “2014 Anthony Agreement”). The 2014 Anthony Agreement provides that Mr. Anthony will continue to serve as our Executive Vice President (“EVP”) and CFO. The 2014 Anthony Agreement has a term of two years, and provides for an annual base salary of $225,000. The 2014 Anthony Agreement will automatically renew for subsequent twelve (12) month terms unless either party provides advance written notice to the other that such party does not wish to renew the agreement for a subsequent twelve (12) months. Mr. Anthony also receives the customary employee benefits available to our employees. Mr. Anthony is also entitled to receive a bonus of up to $108,000 per year, the achievement of which is based on Company performance metrics. Further, the 2014 Anthony Agreement revised the vesting schedule of warrants granted to Mr. Anthony in January 2013. The revision spreads the vesting date of the remaining 200,000 unvested shares from 100,000 on January 1, 2015 and 100,000 on January 1, 2016 to 66,667 on January 1, 2015, 66,667 on January 1, 2016 and 66,666 on January 1, 2017. These warrants will vest contingent upon the achievement of certain financial performance metrics of the Company in calendar years 2014, 2015 and 2016. We may terminate Mr. Anthony’s employment under the 2014 Anthony Agreement without cause at any time on thirty (30) days advance written notice, at which time Mr. Anthony would receive severance pay for twelve months and be fully vested in all options and warrants granted to date. The foregoing summary of the 2014 Anthony Agreement is qualified in its entirety by to the full context of the employment agreement which is found as Exhibit 10.3 to our 10-Q filing on May 14, 2014.

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10. CONCENTRATIONS

Cash Concentrations

At times, cash balances held in financial institutions are in excess of federally insured limits. Management performs periodic evaluations of the relative credit standing of financial institutions and limits the amount of risk by selecting financial institutions with a strong credit standing.

Major Customers

Our three largest customers accounted for approximately 41% of our revenues for the six months ended June 30, 2014 and our three largest customers accounted for approximately 42% of our revenues for the six months ended June 30, 2013. Our largest customers had net accounts receivable totaling approximately $1,400,000 and $1,516,000 as of June 30, 2014 and December 31, 2013 respectively.

11. SEGMENT REPORTING

We have adopted ASC 280, “Segment Reporting”. Because we operate in one business segment based on our integration and management strategies, segment disclosure has not been presented.

12. GOODWILL

We performed an impairment test of goodwill as of December 31, 2013, determining that its estimated fair value based on its market capitalization was greater than our carrying amount including goodwill. We did not perform step 2 since the fair value was greater than the carrying amount.

Although the Company has experienced a net loss for the six months ended June 30, 2014, the net cash provided by operating activities totaled $482,003. No other triggering events were noted during the six months ended June 30, 2014, therefore management did not feel it was necessary to perform an interim impairment test.

13. SUBSEQUENT EVENTS

Stock Purchase Agreement – Delphiis, Inc.; Issuance of Unregistered Securities

As previously disclosed in our Current Report on Form 8-K, filed with the Commission, on July 7, 2014, we entered into a Stock Purchase Agreement (the “Agreement”) with Delphiis, Inc., a California corporation (“Delphiis”), certain stockholders of Delphiis (the “Stockholders”), and Mike Gentile, as seller representative (“Gentile”). By agreement of the parties, the effective date of the Agreement was July 1, 2014.

Pursuant to the Agreement, we acquired 100% of the issued and outstanding shares of common stock (the “Shares”) of Delphiis from the Stockholders. The purchase price paid for the Shares consisted of three components: the Securities Consideration, the Cash Consideration, and the Debt Assumption.

The Securities Consideration consisted of 930,406 shares of our common stock, which was the number of shares having an aggregate value of $1,250,000, with the price per share equal to the average of the closing price of our common stock on the OTC Markets for the 20 most recent trading days prior to the closing date, rounded up to the nearest whole number of shares.

-	The Cash Consideration was equal to $1,000,000 minus any Transaction Payments (defined as certain expenses of the Stockholders and certain expenses of Delphiis) to the extent such Transaction Payments in the aggregate exceeded $12,000.

The Debt Assumption was equal to $463,722.96 which was owed by Delphiis to Gentile and two other parties. By way of background, of such amount, $363,722.96 is represented by certain amended and restated promissory notes (the “Notes”) dated of even date with the Agreement, which bear interest at the rate of 4% per annum, and pursuant to which Delphiis was to make quarterly interest-only payments on the total principal amount outstanding at the end of each calendar quarter. The Notes have a maturity date which is 24 months from the date of the Agreement and contain no prepayment penalty. Pursuant to the terms of the Notes, Delphiis will pay (i) fifty percent (50%) of the outstanding amount due under such Notes at such time as Delphiis achieves $1,500,000 of bookings measured from the date of the Agreement, and (ii) the remaining fifty percent (50%) will be paid at such time as Delphiis achieves $4,000,000 of bookings measured from the date of the Agreement, all as set forth in the Notes. Delphiis also agreed to pay the remaining $100,000 to Gentile and the other noteholders upon Delphiis’s collection of $100,000 from accounts receivable outstanding as of June 30, 2014. Pursuant to the Agreement, Auxilio, as the sole owner of Delphiis, agreed to assume the obligations of Delphiis and to make the payments pursuant to the terms of the Notes.

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Escrow Agreement

In connection with the Agreement, we entered into an escrow agreement with the Stockholders and Colonial Stock Transfer (the “Escrow Agent”), pursuant to which we deposited $100,000 of the Cash Consideration into an escrow to be held by the Escrow Agent to cover any indemnification claims made pursuant to the Agreement. If no indemnification claims have been made prior to July 7, 2015, the Escrow Agent will release the escrowed funds to the Stockholders.

Gentile Employment Agreement

In connection with the Agreement, we entered into an employment agreement with Mr. Gentile (the “Gentile Employment Agreement”), pursuant to which Gentile was employed to serve as our Executive Vice President of Innovation and Security. The initial term of the Gentile Employment Agreement is for three years (unless sooner terminated), and automatically renews for subsequent twelve-month periods unless either party determines to not renew. Gentile’s base annual salary will be $200,000, and Gentile will be eligible to receive incentive compensation. Pursuant to the Gentile Employment Agreement, Gentile will also receive 400,000 shares of our common stock, vesting as follows: 100,000 shares will vest 2 years from the date of the Gentile Employment Agreement; 100,000 shares will vest 3 years from the date of the Gentile Employment Agreement; 100,000 shares will vest 4 years from the date of the Gentile Employment Agreement; and 100,000 shares will vest 5 years from the date of the Gentile Employment Agreement.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

The following discussion of the financial condition and results of operations of the Company should be read in conjunction with the condensed consolidated financial statements and the related notes thereto included elsewhere in this Quarterly Report on Form 10-Q. This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and Section 27A of the Securities Act, and is subject to the safe harbors created by those sections. Words such as “anticipates,” “expects,” “intends,” “plans,” “believes,” “seeks,” “estimates,” “may,” “will” and variations of these words or similar expressions are intended to identify forward-looking statements. In addition, any statements that refer to expectations, projections or other characterizations of future events or circumstances, including any underlying assumptions, are forward-looking statements. These statements are not guarantees of future performance and are subject to risks, uncertainties and assumptions that are difficult to predict. Therefore, our actual results could differ materially and adversely from those expressed in any forward-looking statements as a result of various factors. We undertake no obligation to revise or publicly release the results of any revisions to these forward-looking statements.

Due to possible uncertainties and risks, readers are cautioned not to place undue reliance on the forward-looking statements contained in this Quarterly Report, which speak only as of the date of this Quarterly Report, or to make predictions about future performance based solely on historical financial performance. We disclaim any obligation to update forward-looking statements contained in this Quarterly Report.

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Readers should carefully review the risk factors described below under the heading “Risk Factors” and in other documents we file from time to time with the SEC, including our Form 10-K for the fiscal year ended December 31, 2013. Our filings with the SEC, including our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to those filings, pursuant to Sections 13(a) and 15(d) of the Exchange Act, are available free of charge at www.auxilioinc.com, when such reports are available via the EDGAR system maintained by the SEC at www.sec.gov.

OVERVIEW

We provide total outsourced document and image management services and related financial and business processes for major healthcare facilities. Our proprietary technologies and unique processes assist hospitals, health plans and health systems with strategic direction and services that reduce document image expenses, increase operational efficiencies and improve the productivity of their staff. Our analysts, consultants and resident hospital teams work with senior hospital financial management and department heads to determine the best possible long term strategy for managing the millions of document images produced by their facilities on an annual basis. Our document image management programs help our clients achieve measurable savings and a fully outsourced document image management process. Our target market includes medium to large hospitals, health plans and healthcare systems.

Our common stock currently trades on the OTCQB under the stock symbol “AUXO”.

Where appropriate, references to “Auxilio,” the “Company,” “we,” “us” or “our” include Auxilio, Inc. and its wholly-owned subsidiary, Auxilio Solutions, Inc., a California corporation.

APPLICATION OF CRITICAL ACCOUNTING POLICIES

Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and the related disclosure of contingent assets and liabilities. We evaluate these estimates on an on-going basis, including those estimates related to customer programs and incentives, product returns, bad debts, inventories, investments, intangible assets, income taxes, contingencies and litigation. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances. The results of these estimates form the basis for our judgments about the carrying values of assets and liabilities which are not readily apparent from other sources. As a result, actual results may differ from these estimates under different assumptions or conditions.

We consider the following accounting policies to be most important to the portrayal of our financial condition and those that require the most subjective judgment:

·	Revenue recognition and deferred revenue

Revenue is recognized pursuant to ASC Topic 605, “Revenue Recognition” (“ASC 605”). Monthly service and supply revenue is earned monthly during the term of the contract, as services and supplies are provided. Revenues from equipment sales transactions are earned when there is persuasive evidence of an arrangement, delivery has occurred, the sales price has been determined and collectability has been reasonably assured. For equipment that is to be placed at a customer’s location at a future date, revenue is deferred until the placement of such equipment.

We enter into arrangements that include multiple deliverables, which typically consist of the sale of Multi-Function Device (“MFD”) equipment and a support services contract. We account for each element within an arrangement with multiple deliverables as separate units of accounting. Revenue is allocated to each unit of accounting under the guidance of FASB ASC Topic 605-25, Multiple-Deliverable Revenue Arrangements, which provides criteria for separating consideration in multiple-deliverable arrangements by establishing a selling price hierarchy for

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determining the selling price of a deliverable. The selling price used for each deliverable is based on vendor-specific objective evidence (“VSOE”) if available, third-party evidence if VSOE is not available, or estimated selling price if neither VSOE nor third-party evidence is available. We are required to determine the best estimate of selling price in a manner that is consistent with that used to determine the price to sell the deliverable on a standalone basis. We generally do not separately sell MFD equipment or service on a standalone basis. Therefore, we do not have VSOE for the selling price of these units. As we purchase the equipment, we have third-party evidence of the cost of this element. We estimate the proceeds from the arrangement to allocate to the service unit based on historical cost experiences. Based on the relative costs of each unit to the overall cost of the arrangement, we utilize the same relative percentage to allocate the total arrangement proceeds.

·	Accounts receivable valuation and related reserves

We estimate the losses that may result from that portion of our accounts receivable that may not be collectible as a result of the inability of our customers to make required payments. Management specifically analyzes customer concentration, customer credit-worthiness, current economic trends and changes in customer payment terms when evaluating the adequacy of the allowance for doubtful accounts. We review past due accounts on a monthly basis and record an allowance for doubtful accounts where we deem appropriate.

·	New customer implementation costs

We ordinarily incur additional costs to implement our services for new customers. These costs are comprised primarily of additional labor and support. These costs are expensed as incurred, and have a negative impact on our statements of operations and cash flows during the implementation phase.

·	Impairment of intangible assets

The Company performs an impairment test of goodwill at least annually or on an interim basis if any triggering events occur that would merit another test. The impairment test compares our estimate of our fair value based on its market capitalization to the Company’s carrying amount including goodwill. We have not had to perform step 2 of the impairment test because the fair value has exceeded the carrying amount.

·	Stock-based compensation

Under the fair value recognition provisions of the authoritative guidance, stock-based compensation cost granted to employees is measured at the grant date based on the fair value of the award and is recognized as expense over the requisite service or performance period, which is the vesting period. Stock options and warrants issued to consultants and other non-employees as compensation for services to be provided to us are accounted for based upon the fair value of the services provided or the estimated fair value of the option or warrant, whichever can be more clearly determined. We currently use the Black-Scholes option pricing model to determine the fair value of stock options. The determination of the fair value of stock-based payment awards on the date of grant using an option-pricing model is affected by our stock price as well as assumptions regarding a number of complex and subjective variables. These variables include our expected stock price volatility over the term of the awards, the expected term of the award, the risk-free interest rate and any expected dividends. Compensation cost associated with grants of restricted stock units are also measured at fair value. We evaluate the assumptions used to value restricted stock units on a quarterly basis. When factors change, including the market price of the stock, stock-based compensation expense may differ significantly from what has been recorded in the past. If there are any modifications or cancellations of the underlying unvested securities, we may be required to accelerate, increase or cancel any remaining unearned stock-based compensation expense.

·	Income taxes

Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial reporting requirements and those imposed under federal and state tax laws. Deferred taxes are provided for timing differences in the recognition of revenue and expenses for income tax and financial reporting purposes and are measured using enacted tax rates expected to apply to taxable income in the years in which those

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temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Deferred income tax expense represents the change during the period in the deferred tax assets and liabilities. The components of the deferred tax assets and liabilities are individually classified as current and non-current based on their characteristics. Realization of the deferred tax asset is dependent on generating sufficient taxable income in future years. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion or all of the deferred tax assets will not be realized.

Reference is made to our Annual Report on Form 10-K for the fiscal year ended December 31, 2013 filed on March 31, 2014 for a discussion of our critical accounting policies.

RESULTS OF OPERATIONS

For the Three Months Ended June 30, 2014 Compared to the Three Months Ended June 30, 2013

Revenue

Revenues consist of equipment sales and ongoing service fees. Net revenue increased by $576,243 to $10,377,272 for the three months ended June 30, 2014, as compared to the same period in 2013.Recurring service revenues increased by approximately $700,000 for the three months ended June 30, 2014, as compared to the same period in 2013. Of this increase, we added approximately $1,000,000 in recurring service revenues from new contracts that started between December 2013 and May 2014. Another $800,000 of the increase was due to the expansion of services with existing customers. Partially offsetting these increases was a reduction of approximately $300,000 from a non-renewing contract. We also had a decrease in revenue of approximately $800,000 with existing customers, where there was a reduction in unit price and sales volume. We anticipate this trend to continue as we renew our customers’ contracts and the healthcare provider market continues to see the negative financial impact related to reduced Medicare and Medicaid reimbursement. We also saw an additional drop in sales volume with some of our existing customers due to the consolidation of operations and the impact from the severe storms that hit the east coast at the beginning of this year. We still anticipate overall revenue growth going forward as a result of the expansion of our customer base. Equipment sales for the three months ended June 30, 2014 were approximately $650,000 as compared to approximately $750,000 for the same period in 2013.

Cost of Revenue

Cost of revenue consists of document imaging equipment, parts, supplies and salaries and expenses of field services personnel. Cost of revenue was $8,658,202 for the three months ended June 30, 2014, as compared to $8,157,963 for the same period in 2013. The increase in the cost of revenue for the second quarter of 2014 is attributed to the increased recurring service revenue contracts that started between December 2013 and May 2014. We incurred approximately $50,000 in additional staffing and $450,000 in additional service and supply costs primarily as a result of our new customers. The gross margin remained steady at approximately 17% of revenue for both periods. We saw an improvement in our gross margin from newer accounts that came on board over the last couple years that was offset by the lower revenue from the drop in sales volume from the existing customers noted above.

We expect higher cost of revenues at the start of our engagements with most new customers. In addition to the costs associated with implementing our services, we pay our new customers’ legacy contracts with third-party vendors. As we implement our programs we strive to improve upon these legacy contracts and thus reduce costs over the term of the contract. Given the varying expiration dates of these vendor contracts and the fact that the amount of savings is specific to each arrangement, we cannot predict our anticipated profit margins as these legacy contracts come up for renewal. We anticipate these trends to continue but anticipate an overall increase in cost revenues sold as a result of the expansion of our customer base.

Sales and Marketing

Sales and marketing expenses include salaries, commissions and expenses for sales and marketing personnel, travel and entertainment, and other selling and marketing costs. Sales and marketing expenses were $582,503 for the three months ended June 30, 2014, as compared to $504,168 for the same period in 2013. Staffing costs, including commissions, increased approximately $60,000 in the second quarter of 2014 primarily because we increased sales staff headcount.

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General and Administrative

General and administrative expenses include personnel costs for finance, administration, information systems, and general management, as well as facilities expenses, professional fees, legal expenses and other administrative costs. General and administrative expenses increased by $110,505 to $1,044,756 for the three months ended June 30, 2014, as compared to $934,251 for the three months ended June 30, 2013. The increase is primarily due to the addition of an Executive Vice President, Consulting and Managed IT Services Group to the Company in February 2014.

Other Income (Expense)

Interest expense for the three months ended June 30, 2014 was $105,070, compared to $107,154 for the same period in 2013. The small decrease is a result of lower line of credit borrowings in the second quarter of 2014.

For the Six Months Ended June 30, 2014 Compared to the Six Months Ended June 30, 2013

Revenue

Revenue increased by approximately $700,000 to $20,621,844 for the six months ended June 30, 2014, as compared to the same period in 2013. Of this increase, approximately $1,700,000 is a result of the addition of new recurring service revenue contracts between December 2013 and May 2014. Another $2,000,000 of the increase was due to the expansion of services with existing customers. Partially offsetting these increases was a reduction of approximately $600,000 from a non-renewing contract. We also had a decrease in revenue of approximately $1,500,000 with existing customers, where there was a reduction in unit price and sales volume. We anticipate this trend to continue as we renew our customers’ contracts and the healthcare provider market continues to see the negative financial impact related to reduced Medicare and Medicaid reimbursement. We still anticipate overall revenue growth as a result of the expansion of our customer base. We also saw an additional drop in sales volume with some of our existing customers due to the consolidation of operations and the impact from the severe storms that hit the east coast at the beginning of this year. Equipment sales for the six months ended June 30, 2014 were approximately $1,000,000 as compared to approximately $1,900,000 for the same period in 2013. Equipment revenues in 2013 were primarily from copier fleet refresh activities at three customers which were not repeated in 2014 as these fleet refreshes are typically done every five years at any one customer facility.

Cost of Revenue

Cost of revenue consists of document imaging equipment, parts, supplies and salaries and expenses of field services personnel. Cost of revenue was $17,163,142 for the six months ended June 30, 2014, as compared to $16,673,902 for the same period in 2013. The increase in the cost of revenue for the first six months of 2013 is attributed primarily to the addition of new recurring service revenue contracts between December 2013 and May 2014. We incurred approximately $200,000 in additional staffing. Service and supply costs increased by approximately $900,000 primarily as a result of our new customers. Equipment costs, which includes equipment provided under the recurring service contracts and equipment sold, decreased by approximately $600,000 in 2014, primarily as a result of the decrease in equipment sales from the copier fleet refresh activities.

Gross margin increased slightly to 17% of revenue for the six months ended June 30, 2014 as compared to 16% for the same period of 2013. We saw an improvement in our gross margin from newer accounts that came on board over the last couple years that was partially offset by the lower revenue from the drop in sales volume from the existing customers noted above. We anticipate this trend to continue but anticipate overall increase in cost revenues sold as a result of the expansion of our customer base.

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Sales and Marketing

Sales and marketing expenses include salaries, commissions and expenses for sales and marketing personnel, travel and entertainment, and other selling and marketing costs. Sales and marketing expenses were $1,090,714 for the six months ended June 30, 2014, as compared to $1,174,063 for the same period in 2013. Staffing costs, including commissions, increased approximately $100,000 in the first six months of 2014 because we increased sales staff headcount.

General and Administrative

General and administrative expenses include personnel costs for finance, administration, information systems, and general management, as well as facilities expenses, professional fees, legal expenses and other administrative costs. General and administrative expenses increased by $307,605 to $2,246,626 for the six months ended June 30, 2014, as compared to $1,939,021 for the six months ended June 30, 2013. The increase is primarily due to the addition of an Executive Vice President, Consulting and Managed IT Services Group to the Company in February 2014 and executive severance compensation costs incurred in March 2014.

Other Income (Expense)

Interest expense for the six months ended June 30, 2014 was $203,893 compared to $233,503 for the same period in 2013. The decrease is a result of the lower line of credit borrowings in 2014 and a portion of the convertible debt was converted to common stock over the last nine months.

Income Tax Expense

Income tax expense for each of the six months ended June 30, 2014 and June 30, 2013, was $1,600 and $5,500 respectively, which represents the minimum tax liability due for required state income taxes.

LIQUIDITY AND CAPITAL RESOURCES

At June 30, 2014, our cash and cash equivalents were $4,946,549 and our working capital was $662,144. Our principal cash requirements are for operating expenses, including equipment, supplies, employee costs, and capital expenditures and funding of the operations. Our primary sources of cash are service and equipment sale revenues, the exercise of options and warrants and the sale of common stock.

During the six months ended June 30, 2014, our cash provided by operating activities amounted to $482,003, as compared to $69,633 used for operating activities for the same period in 2013. The improvement in cash used by operating activities in 2014 is primarily a result of improved margins being generated from our recurring service revenue contracts at our legacy customers. The cash used for operating activities for 2013 was primarily due to the costs incurred to implement new recurring service revenue contracts.

We expect to close additional recurring service revenue contracts to new customers throughout 2014 but at a slower rate than during 2013. Because we expect higher cost of revenues at the start of our engagement with most new customers, we have entered into an accounts receivable line of credit with a commercial bank. Management believes that cash generated from the line of credit along with funds from operations will be sufficient to sustain our business operations over the next twelve months.

OFF-BALANCE SHEET ARRANGEMENTS

Our off-balance sheet arrangements consist primarily of conventional operating leases, purchase commitments and other commitments arising in the normal course of business, as further discussed below under “Contractual Obligations and Contingent Liabilities and Commitments.” As of June 30, 2014, we did not have any other relationships with unconsolidated entities or financial partners, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.

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CONTRACTUAL OBLIGATIONS AND CONTINGENT LIABILITIES AND COMMITMENTS

As of June 30, 2014, expected future cash payments related to contractual obligations and commercial commitments were as follows:

	Payments Due by Period
	Total		Less than 1 year		1-3 years		3-5 years		More than 5 years
Convertible notes	$	1,592,267	$	1,592,267	$	-	$	-	$	-
Capital leases		136,291		80,490		55,801		-		-
Operating leases		295,025		235,570		59,455		-		-
Total	$	2,023,583	$	1,908,327	$	115,256	$	-	$	-

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

As a “smaller reporting company” as defined by Rule 229.10(f)(1), we are not required to provide the information required by this Item 3.

ITEM 4. CONTROLS AND PROCEDURES.

We maintain disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) that are designed to ensure that information required to be disclosed in our reports under the Exchange Act, is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.

We carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act), as of the end of the period covered by this Quarterly Report. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this Quarterly Report to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities Exchange Commission’s rules and forms, and that such information is accumulated and communicated to our management, including each of such officers as appropriate to allow timely decisions regarding required disclosure.

No change in our internal control over financial reporting occurred during our last fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART –II - OTHER INFORMATION

ITEM 1A. RISK FACTORS.

As of the date of this filing, there have been no material changes to the Risk Factors included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2013, filed with the SEC on March 31, 2014. (the “2013 Form 10-K”). The Risk Factors set forth in the 2013 Form 10-K should be read carefully in connection with evaluating our business and in connection with the forward-looking statements contained in this Quarterly Report on Form 10-Q. Any of the risks described in the 2013 Form 10-K could materially adversely affect our business, financial condition or future results and the actual outcome of matters as to which forward-looking statements are made. These are not the only risks we face. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition and/or operating results.

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ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

Issuance of Auxilio Common Stock as Securities Consideration

Subsequent to the period covered by this Report, and in connection with and partial payment for the acquisition of Delphiis, Inc., as described above, we issued 930,406 shares of our restricted common stock (the “Auxilio Stock”), which was the number of shares having an aggregate value of $1,250,000, with the price per share equal to the average of the closing price of our common stock on the OTC Markets for the 20 most recent trading days prior to the closing date, rounded up to the nearest whole number of shares

The Auxilio Stock issued in connection with the Delphiis acquisition was issued in reliance upon the exemption from securities registration afforded by the provisions of Section 4(a)(2) of the Securities Act of 1933, as amended, (“Securities Act”), and/or Regulation D, as promulgated by the U.S. Securities and Exchange Commission under the Securities Act, based upon the following: (a) there was no public offering or general solicitation with respect to the offering of such shares, (b) each Delphiis stockholder was provided with certain disclosure materials and all other information requested with respect to Auxilio, (c) each Delphiis stockholder acknowledged that the Auxilio Stock was being acquired for investment intent and constitute “restricted securities” for purposes of the Securities Act, and agreed to transfer such securities only in a transaction registered under the Securities Act or exempt from registration under the Securities Act and (d) a legend has been, or will be, placed on the certificates representing each such security stating that it was restricted and could only be transferred if subsequently registered under the Securities Act or transferred in a transaction exempt from registration under the Securities Act.

ITEM 6. EXHIBITS.

No.	Item
31.1	Certification of the Chief Executive Officer pursuant to Rule 13a-14(a) and Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended. †
31.2	Certification of the Chief Financial Officer pursuant to Rule 13a-14(a) and Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended. †
32.1	Certification of the CEO and CFO pursuant to Rule 13a-14(b) and Rule 15d-14(b) of the Securities Exchange Act of 1934 and 18 U.S.C. Section 1350. +
101.INS	XBRL Instance Document*
101.SCH	XBRL Taxonomy Extension Schema Document*
101.CAL	XBRL Taxonomy Extension Calculation Linkbase Document*
101.DEF	XBRL Taxonomy Extension Definition Linkbase Document*
101.LAB	XBRL Taxonomy Extension Label Linkbase Document*
101.PRE	XBRL Taxonomy Extension Presentation Linkbase Document*

† Filed herewith.

+ Furnished herewith. In accordance with Item 601(b)(32)(ii) of Regulation S-K, this exhibit shall not be deemed “filed” for the purposes of Section 18 of the Securities and Exchange Act of 1934 or otherwise subject to the liability of that section, nor shall it be deemed incorporated by reference in any filing under the Securities Act of 1933 or the Securities Exchange Act of 1934

* Pursuant to Rule 406T of Regulation S-T, this XBRL information will not be deemed “filed” for the purpose of Section 18 of the Securities Exchange Act of 1934 or otherwise subject to the liability of that section, nor will it be deemed filed or made a part of a registration statement or prospectus for purposes of Sections 11 and 12 of the Securities Act of 1933, or otherwise subject to liability under those sections.

Table Of Contents

SIGNATURES

In accordance with the requirements of the Securities Exchange Act of 1934, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

AUXILIO, INC.

Date: August 14, 2014	By:	/s/ Joseph J. Flynn
		Joseph J. Flynn Chief Executive Officer (Principal Executive Officer)

Date: August 14, 2014	By:	/s/ Paul T. Anthony
		Paul T. Anthony Chief Financial Officer (Principal Accounting Officer)