Data Storage Corp - Quarter Report: 2018 June (Form 10-Q)

UNITED STATES 

SECURITIES AND EXCHANGE COMMISSION 

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)

For the quarterly period ended June 30, 2018

For the transition period from ___________ to ___________

Commission File No. 001-35384

DATA STORAGE CORPORATION 

(Exact name of registrant as specified in its charter)

Registrant’s telephone number, including area code: (212) 564-4922

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 ☒   No ☐

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data 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 ☒   No ☐

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

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). 

Yes ☐   No ☒

The number of shares of the registrant’s common stock outstanding as of June 30, 2018, was 128,139,418

DATA STORAGE CORPORATION 

FORM 10-Q 

June 30, 2018 

INDEX

PART I

DATA STORAGE CORPORATION AND SUBSIDIARY 

CONSOLIDATED BALANCE SHEETS

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

DATA STORAGE CORPORATION AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

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

DATA STORAGE CORPORATION AND SUBSIDIARY 

CONSOLIDATED STATEMENTS OF CASH FLOWS 

(UNAUDITED)

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

DATA STORAGE CORPORATION AND SUBSIDIARY 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 

SIX MONTHS ENDED JUNE 30, 2018 AND 2017

Note 1 - Basis of presentation, organization and other matters

Headquartered in Melville, NY, Data Storage Corporation (“DSC” or the “Company”) is a Managed Service Provider that specializes within the IBM community. Our IBM Power and Intel IaaS Cloud ensures enterprise level equipment and support focusing on iSeries, AIX, Power, AS400 and our high-processing power for Intel. Our Disaster Recovery services for both Intel and IBM has a guaranteed back-to-work window. DSC is a one-stop source for managed services from VoIP to providing the client with equipment and software, monitoring, help desk and a full array of business continuity solutions.

DSC maintains equipment for cloud storage and cloud computing in our data centers located in New York and Massachusetts. DSC delivers its solutions over highly reliable, redundant and secure fiber optic networks with separate and diverse routes to the Internet. DSC’s network and geographical diversity is important to clients seeking storage hosting and disaster recovery solutions, ensuring protection of data and continuity of business in the case of a network interruption.

Liquidity

The Company has concluded that the initial conditions which raised substantial doubt regarding the ability to continue as a going concern have been alleviated. As of June 30, 2018, we had cash of $81,976 and a working capital deficiency of $2,412,925. Included in current liabilities are accrued dividends that the Company is not obligated to pay at this point in time, and the Company is in compliance with its preferred shareholder agreement. Further, capitalized lease obligations for our enterprise level infrastructure in our data centers are related to long term contracts with clients, in which clients are represented in the accounts receivable as a month of billing in the current liabilities, whereas, the entire year of lease payments are recorded for future obligations.  Our Enterprise Bank obligation relates to the acquisition of Message Logic of $350,000 is structured so that DSC can be relieved of such obligation without impact. Additionally, deferred revenue, are obligations to perform services for clients, in which these clients have signed long term agreements with cancelation clauses obligating them to pay for such services, even if the client cancels within term.  Capital lease obligations are owed to a company owned by the President of DSC. The Company has on previous occasions been able to renegotiate the leases to relieve pressure on its capital position.

The Company recognized a net loss available to common shareholders of $41,037 for the six months ended June 30, 2018 and generated cash from operations of $123,546. Revenue growth for the quarter had a higher percentage of equipment and software sales and has a result of the mix of product and services overall margin have been impacted. Equipment and software normally have lower margin than subscription services such as IaaS and disaster recovery.

There is no assurance that the conditions that raise substantial doubt regarding the Company’s ability to continue as a going concern will be mitigated by the factors enumerated above. To further alleviate the concern, management has determined that related party capitalized leases can be refinanced. Further, senior management is committed to funding the Company’s operations for growth and expansion for the next 12 months.

The consolidated financial statements do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts and classification of liabilities that may result from the matters discussed herein. While we believe in the viability of management’s strategy to generate sufficient revenue, control costs and the ability to raise additional funds if necessary, there can be no assurances to that effect. The Company’s ability to continue as a going concern is dependent upon our continued sales efforts, the ability to further implement the business plan, generate sufficient revenues and to control operating expenses.

Note 2 - Summary of Significant Accounting Policies

Stock Based Compensation

The Company follows the requirements of FASB ASC 718-10-10, Share-Based Payments with regards to stock-based compensation issued to employees. The Company has stock-based incentives for consultants and employees that over achieve. This plan is discretionary. The expense for this stock-based compensation is equal to the fair value of the stock that was determined by using closing price on the day the stock was awarded multiplied by the number of shares awarded. The Company records its options at fair value using the Black-Scholes valuation model.

Principles of Consolidation

The consolidated financial statements include the accounts of the Company, its wholly-owned subsidiaries, jointly-owned subsidiaries over which it exercises control and entities for which it has been determined to be the primary beneficiary. Noncontrolling interest amounts relating to the Company’s less-than-wholly owned consolidated subsidiaries are included within the “Noncontrolling interest in consolidated subsidiaries” captions in its Consolidated Balance Sheets and within the “Noncontrolling interests” caption in its Consolidated Statements of Income. All intercompany balances and transactions have been eliminated in consolidation.

Use of Estimates

The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from these estimates.

Estimated Fair Value of Financial Instruments

The Company’s financial instruments include cash, accounts receivable, prepaid expenses and other current assets, accounts payable and accrued expenses and deferred revenue. Management believes the estimated fair value of these accounts at June 30, 2018 approximate their carrying value as reflected in the balance sheets due to the short-term nature of these instruments. The carrying values of certain of the Company’s notes payable and capital lease obligations approximate their fair values based upon a comparison of the interest rate and terms of such debt given the level of risk to the rates and terms of similar debt currently available to the Company in the marketplace.

Cash, Cash Equivalents and Short-Term Investments

The Company considers all highly liquid investments with an original maturity or remaining maturity at the time of purchase, of three months or less to be cash equivalents.

Recently Issued and Newly Adopted Accounting Pronouncements

During January 2016, the FASB issued ASU No. 2016-01, Financial Instruments — Overall: Recognition and Measurement of Financial Assets and Financial Liabilities, (“ASU 2016-01”). The standard addresses certain aspects of recognition, measurement, presentation, and disclosure of financial instruments. This ASU is effective for fiscal years, and interim periods within those years, beginning after December 15, 2017. Early adoption is not permitted with the exception of certain provisions related to the presentation of other comprehensive income. The adoption of ASU 2016-01 did not have a material impact on its consolidated financial statements.

In February 2016, the FASB issued ASU 2016-02, Leases, (“ASC 842”), which supersedes FASB ASC 840, Leases and provides principles for the recognition, measurement, presentation and disclosure of leases for both lessees and lessors. The new standard requires lessees to apply a dual approach, classifying leases as either finance or operating leases based on the principle of whether or not the lease is effectively a financed purchase by the lessee. This classification will determine whether lease expense is recognized based on an effective interest method or on a straight-line basis over the term of the lease. A lessee is also required to record a right-of-use asset and a lease liability for all leases with a term of greater than twelve months regardless of classification. Leases with a term of twelve months or less will be accounted for similar to existing guidance for operating leases. The standard is effective for annual and interim periods beginning after December 15, 2018, with early adoption permitted upon issuance. The Company is currently evaluating the method of adoption and the impact of adopting ASU 2016-02 on its results of operations, cash flows and financial position.

In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (“ASC 230”): Classification of Certain Cash Receipts and Cash Payments, (“ASU 2016-15”). ASU 2016-15 will make eight targeted changes to how cash receipts and cash payments are presented and classified in the statement of cash flows. ASU 2016-15 is effective for fiscal years beginning after December 15, 2017. The new standard will require adoption on a retrospective basis unless it is impracticable to apply, in which case it would be required to apply the amendments prospectively as of the earliest date practicable. The adoption of ASU 2016-15 did not have a material impact on its consolidated financial statements.

In October 2016, the FASB issued ASU 2016-16, Income Taxes (“ASC 740”): Intra-Entity Transfers of Assets Other than Inventory, which eliminates the exception that prohibits the recognition of current and deferred income tax effects for intra-entity transfers of assets other than inventory until the asset has been sold to an outside party. The updated guidance is effective for annual periods beginning after December 15, 2019, including interim periods within those fiscal years. Early adoption of the update is permitted. The Company is currently in the process of evaluating the impact of ASU 2016-16 on its consolidated financial statements.

In November 2016, the FASB issued ASU 2016-18, Statement of Cash Flows (“ASC 230”), requiring that the statement of cash flows explain the change in the total cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. This guidance is effective for fiscal years, and interim reporting periods therein, beginning after December 15, 2017 with early adoption permitted. The provisions of this guidance are to be applied using a retrospective approach which requires application of the guidance for all periods presented. The adoption of ASU 2016-18 did not have a material impact on its consolidated financial statements.

In January 2017, the FASB issued ASU No 2017-04 Intangibles-Goodwill and Other (“ASC 350”): Simplifying the Accounting for Goodwill Impairment (“ASU 2017-04”). ASU 2017-04 simplifies the subsequent measurement of goodwill by eliminating Step 2 from the goodwill impairment test. In computing the implied fair value of goodwill under Step 2, an entity had to perform procedures to determine the fair value at the impairment testing date of its assets and liabilities (including unrecognized assets and liabilities) following the procedure that would be required in determining the fair value of assets acquired and liabilities assumed in a business combination. Instead, under ASU 2017-04, an entity should perform its annual or interim goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount. An entity should recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value; however, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. Additionally, an entity should consider income tax effects from any tax-deductible goodwill on the carrying amount of the reporting unit when measuring the goodwill impairment loss, if applicable. ASU 2017-04 is effective for annual or any interim goodwill impairment tests for fiscal years beginning after December 15, 2019 and an entity should apply the amendments of ASU 2017-04 on a prospective basis. Early adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. The Company is currently evaluating the effects of ASU 2017-04 on its consolidated financial statements.

In July 2017, the FASB issued ASU 2017-11, Earnings Per Share (“ASC 260”), Distinguishing Liabilities from Equity (“ASC 480”), and Derivatives and Hedging (“ASC 815”). ASU No. 2017-11 is intended to simplify the accounting for financial instruments with characteristics of liabilities and equity. Among the issues addressed are: (i) determining whether an instrument (or embedded feature) is indexed to an entity’s own stock; (ii) distinguishing liabilities from equity for mandatorily redeemable financial instruments of certain nonpublic entities; and (iii) identifying mandatorily redeemable non-controlling interests. ASU No. 2017-11 is effective for the Company on January 1, 2019. The Company is currently evaluating the potential impact of ASU No. 2017-11 on the Company’s consolidated financial statements.

Effective January 1, 2018, the Company adopted Financial Accounting Standards Board (“FASB”) Topic 606, Revenue from Contacts with Customers (“ASC 606”). The Company changed its revenue recognition policy regarding set-up fees. Beginning January 2018, the company accounts for set-up fees as separate performance obligation. Set-up services are performed one time and accordingly the revenue is recognized at the point in time that the service is performed, and the Company is entitled to the payment. In addition, Management enhanced disclosure regarding revenue recognition, including disclosures of revenue streams, performance obligations, variable consideration and the related judgments and estimates necessary to apply the new standard.

ASC 606 was applied using the modified retrospective method. The Company recorded a journal entry as of January 1, 2018 to record the effect of the recognition of the deferred set up fees. Accordingly, comparative periods have not been adjusted and continue to be reported under FASB ASC Topic 605, Revenue Recognition (“ASC” 605).

The Company generates revenue by offering Cloud Services, Infrastructure as Service (“IaaS”), Disaster Recovery as a Service, Email Archival and Compliance Solutions as subscription-based services. The Company also sells Equipment and Software to its customer and offers Management and Support Services. Subscription contracts allows for high level of customization of services to meet customers’ needs. In certain instances, combination of customized products and services are determined to be essential to the functionality of the delivered services. In others, customers can benefit from one of these services on its own.

Under ASC 606, revenue is recognized when a customer obtains control of promised goods or services in an amount that reflects the consideration the Company expect to receive in exchange for those goods or services. The Company measure revenue based on the consideration specified in the arrangement, and revenue is recognized when the performance obligations are satisfied. A performance obligation is a promise in a contract to transfer a distinct service or product to the customer. The transaction price of a contract is allocated to each distinct performance obligation and recognized as revenue when or as, the customer receives the benefit of the performance obligation. From subscription-based contracts, the customers continuously receive benefit of these services. With the sale of Equipment or Setup Services, the customers usually receive the benefit at the time the product or service is delivered or provided. Substantially, all of the contracts provide that the Company is compensated for services performed to date.

In July 2018, FASB issued ASU 2018-07 Improvement to Nonemployee Share-based Payment Accounting. Under the new standard, companies will no longer be required to value non-employee awards differently from employee awards. Meaning that companies will value all equity classified awards at their grant-date under ASC 718 and forgo revaluing the award after this date. Entities are required to value non-employee awards under ASC 718 but can still elect to use a different methodology for establishing the expected term or selecting the amortization method. Under ASC 718-10-30-10A, entities may elect to use the contractual term or the midpoint as the expected term when estimating the fair value of non-employee awards. Additionally, under ASC 718-10-25-2C, the guidance states that entities are required to recognized compensation cost for non-employee awards as if they had been paid in cash. As such, entities may still elect to apply a different amortization method to non-employee awards. All entities that have historically issued or are currently issuing share-based compensation to non-employee will be affected by the update. Public entities must adopt the new standard in the fiscal year beginning on December 15, 2018. All other entities must adopt the new standard in the fiscal year beginning on December 15, 2019. Companies can early adopt the new standard but are required to adopt ASC Topic 606 alongside their adoption of ASU 2018-07. For entities that have recorded historical expense for non-employee awards, the non-employee awards will need to be revalued on the date of adoption and a cumulative adjustment will be recorded to retained earnings. Companies will also need to disclose in their financial statements, the nature of and reason for the change in accounting principle, as well as any quantitative information about the cumulative adjustment's effect on retained earnings and other equity component.

Concentration of Credit Risk and Other Risks and Uncertainties

Financial instruments and assets subjecting the Company to concentration of credit risk consist primarily of cash and cash equivalents, and trade accounts receivable. The Company’s cash and cash equivalents are maintained at major U.S. financial institutions. Deposits in these institutions may exceed the amount of federal insurance provided on such deposits.

The Company’s customers are primarily concentrated in the United States.

The Company provides credit in the normal course of business. The Company performs ongoing credit evaluations of its customers and maintains allowances for doubtful accounts on factors surrounding the credit risk of specific customers, historical trends, and other information.

For the six months ended June 30, 2018 the Company had one customer that accounted for 17% of revenue. At June 30, 2018 the customer also accounted for 53% of accounts receivable. For the six months ended June 30, 2017 the Company did not have any customer concentrations.

Accounts Receivable/Allowance for Doubtful Accounts

The Company sells its services to customers on an open credit basis. Accounts receivable are uncollateralized, non-interest-bearing customer obligations. Accounts receivables are due within 30 days. The allowance for doubtful accounts reflects the estimated accounts receivable that will not be collected due to credit losses and allowances. Provisions for estimated uncollectible accounts receivable are made for individual accounts based upon specific facts and circumstances including criteria such as their age, amount, and customer standing. Provisions are also made for other accounts receivable not specifically reviewed based upon historical experience. Clients are invoiced in advance for services as reflected in deferred revenue on the Company’s balance sheet.

Property and Equipment

Property and equipment is recorded at cost and depreciated over their estimated useful lives or the term of the lease using the straight-line method for financial statement purposes. Estimated useful lives in years for depreciation are 5 to 7 years for property and equipment. Additions, betterments and replacements are capitalized, while expenditures for repairs and maintenance are charged to operations when incurred. As units of property are sold or retired, the related cost and accumulated depreciation are removed from the accounts, and any resulting gain or loss is recognized in income.

Income Taxes

Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those 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. At June 30, 2018, the Company had a full valuation allowance against its deferred tax assets.

In December 2017, the 2017 Tax Cuts and Jobs Act (Tax Act) was enacted into law and the new legislation contains several key tax provisions that affected us, including a reduction of the corporate income tax rate to 21% effective January 1, 2018, among others. We are required to recognize the effect of the tax law changes in the period of enactment, such as determining the transition tax, re-measuring our U.S. deferred tax assets and liabilities as well as reassessing the net realizability of our deferred tax assets and liabilities.

Per FASB ASC 740-10, disclosure is not required of an uncertain tax position unless it is considered probable that a claim will be asserted and there is a more-likely-than-not possibility that the outcome will be unfavorable. Using this guidance, as of June 30, 2018 and December 31, 2017, the Company has no uncertain tax positions that qualify for either recognition or disclosure in the financial statements. The Company’s 2016, 2015 and 2014 Federal and State tax returns remain subject to examination by their respective taxing authorities. Neither of the Company’s Federal or State tax returns are currently under examination.

Goodwill and Other Intangibles

In January 2017, FASB issued ASU No. 2017-04, “Intangibles—Goodwill and Other Simplifying the Accounting for Goodwill” (ASU 2017-04”) requires goodwill impairment loss to be measured as the excess of a reporting unit’s carrying amount over its fair value (not to exceed the total goodwill allocated to that reporting unit). The new guidance eliminates Step 2, which an entity used to measure goodwill impairment loss by comparing the implied fair value of a reporting unit’s goodwill with the carrying amount of that goodwill. “In computing the implied fair value of goodwill under Step 2, an entity had to perform procedures to determine the fair value at the impairment testing date of its assets and liabilities (including unrecognized assets and liabilities) following the procedure that would be required in determining the fair value of assets acquired and liabilities assumed in a business combination,” the ASU states. “Instead, under the amendments in this update, an entity should perform its annual, or interim, goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount.”

In accordance with GAAP, the Company tests goodwill and other intangible assets for impairment on at least an annual basis. Goodwill impairment exists if the net book value of a reporting unit exceeds its estimated fair value. The impairment testing is performed in two steps: (i) the Company determines impairment by comparing the fair value of a reporting unit with its carrying value, and (ii) if there is an impairment, the Company measures the amount of impairment loss by comparing the implied fair value of goodwill with the carrying amount of that goodwill. To determine the fair value of these intangible assets, the Company uses many assumptions and estimates using a market participant approach that directly impact the results of the testing. In making these assumptions and estimates, the Company uses industry accepted valuation models and set criteria that are reviewed and approved by various levels of management.

Revenue Recognition

Nature of goods and services

The following is a description of the products and services from which the Company generates revenue, as well as the nature, timing of satisfaction of performance obligations, and significant payment terms for each:

Subscription services such as IaaS/Hosting Disaster Recovery, High Availability, Vault Services, IaaS, Message Logic, and Internet allows customers to centralize and streamline their data protection services. Customer’s data can be backed up, replicated, archived and restored to meet their back to work objective in a disaster. Infrastructure as a Service (IaaS)helps customers to achieve reliable and cost-effective computing and high availability solutions. Message Logic service helps customers to keep message content secure and accessible. Internet services ensure companies have connectivity in the event of outages.

These services are performed at the inception of a contract for a fixed price. The Company offers professional assistance to its customers during the installation processes. On-boarding and set-up services ensure that the software is installed properly and function as designed to provide customers with the best solutions. In addition, clients that are managed service clients have a requirement for DSC to offer time and material billing.

The Company sales servers and other hardware and actively participate in collaboration with IBM to provide innovative business solutions to customers.

To provide the best data protection, the Company manage backup data for customers enabling them to meet compliance regulation and improve recovery time objectives. The Company also derives revenues from providing support and management of its software to customers. The managed service includes help desk, remote access, annual recovery tests and on-gong monitoring of system performance.

Disaggregation of revenue

In the following table, revenue is disaggregated by major product line and timing of revenue recognition (in thousands of USD).

Deferred revenue from 2017 of $41,000 has been re-classified as retained earnings. During the second quarter of 2018 a total of $22,555 in onboarding fees related to the company’s cloud-based solutions has been recorded as revenue. The amount of onboarding fees for the second quarter 2018 sales for cloud-based solution for the company’s USA client base is immaterial when compared to second quarter revenue of $4,677,512 resulting in a total revenue including onboarding fees of $4,700,067. Future periods may have material onboarding fees and will be reported according to the revenue recognition standards for comparisons to previous periods.

Contract receivables are recorded at the invoiced amount and are uncollateralized, non-interest-bearing customer obligations. Provisions for estimated uncollectible accounts receivable are made for individual accounts based upon specific facts and circumstances including criteria such as their age, amount, and customer standing.

Sales are generally recorded in the month the service is provided. For customers who are billed on an annual basis, deferred revenue is recorded and amortized over the life of the contract.

Transaction price allocated to the remaining performance obligations

The Company has the following performance obligations:

Disaster Recovery with Stand-By Servers, High Availability, Data Vaulting, IaaS, Message Logic, Support and Maintenance, and Internet

Subscription services such as the above allows customers to access a set of data or receive services for a predetermined period of time. As the customer obtains access at a point in time but continues to have access for the remainder of the subscription period, the customer is considered to simultaneously receive and consume the benefits provided by the entity’s performance as the entity performs. Accordingly, the related performance obligation is considered to be satisfied ratably over the contract term. As the performance obligation is satisfied evenly across the term of the contract, revenue should be recognized on a straight-line basis over the contract term.

Initial Set-Up Fees

The Company accounts for set-up fees as separate performance obligation. Set-up services are performed one time and accordingly the revenue should be recognized at the point in time that the service is performed, and the Company is entitled to the payment.

Equipment sales

For the Equipment sales performance obligation, the control of the product transfers at a point in time (i.e., when the goods have been shipped or delivered to the customers location, depending on shipping terms). Noting that the satisfaction of the performance obligation, in this sense, does not occur over time as defined within ASC 606-10-25-27 through 29, the performance obligation is considered to be satisfied at a point in time (ASC 606-10-25-30) when the obligation to the customer has been fulfilled (i.e., when the goods have left the shipping facility or delivered to the customer, depending on shipping terms).

License – granting SSL certificates and other licenses

In the case of Licensing performance obligation, the control of the product transfers either at point in time or over time depending on the nature of the license. The revenue standard identifies two types of licenses of IP: a right to access IP and a right to use IP. To assist in determining whether a license provides a right to use or a right to access IP, ASC 606 defines two categories of IP: Functional and Symbolic. The Company’s license arrangements typically do not require the Company to make its proprietary content available to the customer either through a download or through a direct connection. Throughout the life of the contract the Company does not continue to provide updates or upgrades to the license granted. Based on the guidance, the Company considers its license offerings to be akin to functional IP and will recognize revenue at the point in time the license is granted and/or renewed for a new period.

Payment terms

The terms of the contracts are typically ranging from 12 months to 36 months with auto-renew options. The Company invoice customers one month in advance for the services plus any overages or additional services provided.

Warranties

The Company offers guaranteed service levels and performance and service guarantees on some of its contracts. These warrantees are not sold separately and according to ASC 606-10-50-12(a) are accounted as “assurance warranties”.

Significant judgement

In the instances that contract have multiple performance obligation, the Company uses judgment to establish stand -alone price for each performance obligation separately. The price for each performance obligation is determined by reviewing market data for similar services as well as the Company’s historical pricing of each individual service. The sum of each performance obligation was calculated to determine the aggregate price for the individual services. Next the proportion of each individual service to the aggregate price was determined. That ratio was applied to the total contract price in order to allocate the transaction price to each performance obligation.

Impairment of Long-Lived Assets

In accordance with FASB ASC 360-10-35, we review our long-lived assets for impairment whenever events and circumstances indicate that the carrying value of an asset might not be recoverable. An impairment loss, measured as the amount by which the carrying value exceeds the fair value, is recognized if the carrying amount exceeds estimated undiscounted future cash flows.

Advertising Costs

The Company expenses the costs associated with advertising as they are incurred. The Company incurred $106,109 and $83,751 for advertising costs for the six months ended June 30, 2018 and 2017, respectively.

Net Income (Loss) Per Common Share

In accordance with FASB ASC 260-10-5 Earnings Per Share, basic income (loss) per share is computed by dividing net income (loss) by the weighted average number of shares of common stock outstanding during the period. Diluted earnings per share is computed by dividing net income (loss) adjusted for income or loss that would result from the assumed conversion of potential common shares from contracts that may be settled in stock or cash by the weighted average number of shares of common stock, common stock equivalents and potentially dilutive securities outstanding during each period. The inclusion of the potential common shares to be issued have an anti-dilutive effect on diluted loss per share and therefore they are not included in the calculation. Potentially dilutive securities at June 30, 2018 include 133,334 warrants and 2,017,447 options.

Note 3 - Property and Equipment

Property and equipment, at cost, consist of the following:

Depreciation expense for the six months ended June 30, 2018 and 2017 was $208,063 and $192,282, respectively.

Note 4 - Goodwill and Intangible Assets

Goodwill and intangible assets consisted of the following:

Scheduled amortization over the next three years as follows:

Amortization expense for the six months ended June 30, 2018 and 2017 was $98,667 and $16,984, respectively.

Note 5– Capital Lease Obligations – Related Party

On January 24, 2017, the Company entered into a lease with Systems Trading Inc. (“Systems Trading”), a company owned by DSC’s president, to refinance old leases and to add newly acquired data center equipment. The lease called for monthly payments of $59,940 and expired on February 1, 2020. It carried an interest rate of 6%.

On April 27, 2017, the Company entered into a lease with Systems Trading to add newly-acquired data center equipment. The lease called for monthly payments of $2,300 and expired on May 1, 2020. It carried an interest rate of 4%.

On March 7, 2018, the Company entered into a lease with Systems Trading, to refinance old leases and Notes payable – related party referenced above and in Note 7. The lease calls for bi monthly payments of $23,475 and expires on April 6, 2022. It carries an interest rate of 5%.

Future minimum lease payments under the capital leases are as follows:

Long-term obligations under the capital leases at June 30, 2018 mature as follows:

The assets held under the capital leases are included in property and equipment as follows:

Note 6 - Commitments and Contingencies

Operating Leases

The Company currently leases two office spaces in Melville, NY, and one in Warwick, RI.

Location one in Melville calls for monthly payments of $8,382 with a lease terminating in August 31, 2019. Location two in Melville calls for monthly payments of monthly payments of $7,189 starting April, 2018, escalating to $8,334. The term of the lease is 5 years and 3 months and will end on July 31, 2023.

The lease for office space in Warwick, RI calls for monthly payments of $2,324 beginning February 1, 2015 which escalates to $2,460 on February 1, 2017. This lease commenced on February 1, 2015 and continues through January 31, 2019.

Minimum obligations under these lease agreements are as follows:

Rent expense for the six months ended June 30, 2018 and 2017 was $91,163 and $104,703, respectively.

Note 7- Long Term Debt

Note Payable – Enterprise Bank

In connection with its acquisition of Message Logic, LLC, the Company assumed a loan with Enterprise Bank. The loan was due on April 30, 2016. There has been no default notice from Enterprise Bank. Enterprise Bank has requested that we move from an interest only payment to a self-amortized arrangement. The Company has requested that the bank consider all payments made to date as satisfaction of the assumed loan and the bank is in process of a response. Interest only payments have been paid with the last monthly payment made in June 2018. The interest rate on this note was 6.5%.

Notes Payable – Related Party

On March 7, 2018, the Company entered into a lease with Systems Trading, Inc. (“Systems Trading”), a company owned by DSC’s President, to refinance and consolidate notes payable – related party and existing leases referenced in Note 5. The lease calls for bi-monthly payments of $23,475 and expires on April 6, 2022. It carries an interest rate of 5%.

Future minimum payments under these note agreements are reflected in Note 5 above.

Note 8 - Stockholders’ Equity

The Company has 260,000,000 shares of capital stock authorized, consisting of 250,000,000 shares of Common Stock, par value $0.001, 10,000,000 shares of Preferred Stock, par value $0.001 per share.

Note 9 – Subsequent Events

None – Do we need to mention Broadsmart?

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

This Quarterly Report on Form 10-Q contains forward looking statements, including without limitation, statements related to our plans, strategies, objectives, expectations, intentions and adequacy of resources. Investors are cautioned that such forward-looking statements involve risks and uncertainties including without limitation the following: (i) our plans, strategies, objectives, expectations and intentions are subject to change at any time at our discretion; (ii) our plans and results of operations will be affected by our ability to manage growth; and (iii) other risks and uncertainties indicated from time to time in our filings with the Securities and Exchange Commission.

In some cases, you can identify forward-looking statements by terminology such as ‘may,’ ‘will,’ ‘should,’ ‘could,’ ‘expects,’ ‘plans,’ ‘intends,’ ‘anticipates,’ ‘believes,’ ‘estimates,’ ‘predicts,’ ‘potential,’ or ‘continue’ or the negative of such terms or other comparable terminology. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance, or achievements. Moreover, neither we nor any other person assumes responsibility for the accuracy and completeness of such statements. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. We are under no duty to update any of the forward-looking statements after the date of this report.

Company Overview

Headquartered in Melville, NY, with additional offices in Warwick, RI, Data Storage Corporation (“DSC” or the “Company”) is a Managed Service Provider that specializes within the IBM community. Our IBM Power and Intel IaaS Cloud ensures enterprise level equipment and support, focusing on iSeries, AIX, Power, AS400 and our high-processing power for Intel. Our Disaster Recovery services for both Intel and IBM has a guaranteed back-to-work window. DSC is a one-stop source for managed services from VoIP to providing the client with equipment and software, monitoring, help desk and a full array of business continuity solutions. 

The Company provides its solutions through its business development team and contracted distribution channels. DSC owns intellectual property in connection with our proprietary email archival and data analytics software, Message Logic. DSC is marketing Message Logic on the DSC website. DSC’s contracted approved distributors have the ability to provide our Recovery and IaaS solutions without capital investment thereby lowering their barrier of entry in providing these cloud solutions to their client base.

On October 19, 2017 DSC formed a new division, Nexxis Inc. (“Nexxis”), a new telecommunications company which provides VOIP services. DSC owns 80% of Nexxis. Nexxis is positioned to cross-sell our client base and provide new opportunities to our base. We believe there is an opportunity to increase the bandwidth of our clients for improved access to our cloud solutions, while at the same time continue to target new clients as businesses move to new telecommunications technologies for voice and data.

DSC derives its revenues from subscription services and solutions, managed services, software and maintenance, equipment and onboarding provisioning. DSC maintains infrastructure and storage equipment in several technical centers in New York and Massachusetts.

DSC services clients from its staffed technical offices in New York and Rhode Island, which consist of modern offices and a technology suite adapted to meet the needs of a technology-based business.

DSC varies its use of resources, technology and work processes to meet the changing opportunities and challenges presented by the market and the internal customer requirements. The Company supports clients twenty-four hours a day, 365 days a year. 

RESULTS OF OPERATIONS

For the three months ended June 30, 2018 as compared to the three months ended June 30, 2017

Net Sales. Net sales for the three months ended June 30, 2018 were $2,750,542, an increase of $723,257, or 36% compared to $2,027,285 for the three months ended June 30, 2017. The increase is attributable to non-recurring sales of equipment and software.

Cost of Sales. For the three months ended June 30, 2018, cost of sales were $1,752,948, an increase of $536,987, or 44%, compared to $1,215,961 for the three months ended June 30, 2017. The increase is attributable to the increase in equipment and software costs.

Operating Expenses. For the three months ended June 30, 2018, operating expenses were $974,336, an increase of $230,200, or 31%, as compared to $744,136 for the three months ended June 30, 2017. Commissions for the three months ended June 30, 2018 increased $140,145 to $214,339 from $74,194 for the three months ended June 30, 2017. Sales salaries for the three months ended June 30, 2018 increased $70,358 to $78,925 from $8,567 for the three months ended June 30, 2017.

Other Income (Expense). Interest expense for the three months ended June 30, 2017 decreased $12,206 to $26,266 from $38,472 for the three months ended June 30, 2017. This decrease is a result of the Company refinancing pre-existing leases into one new lease.

Net Profit (loss). Net profit (loss) for the three months ended June 30, 2018 was ($3,008) representing a decrease of $32,373, or 1.10%, as compared to a net profit of $29,365 for the three months ended June 30, 2017.

For the six months ended June 30, 2018 as compared to the six months ended June 30, 2017

Net Sales. Net sales for the six months ended June 30, 2018 were $4,700,067, an increase of $348,867, or 8% compared to $4,351,200 for the six months ended June 30, 2017. The increase is attributable to non-recurring sales of equipment and software $1,767,804 for the six months ended June 30, 2018 as compared to $1,100,544 for the six months ended June 30,2017.

Cost of Sales. For the six months ended June 30, 2018, cost of sales were $2,930,007 an increase of $389,988, or 15% compared to $2,540,019 for the six months ended June 30, 2017. The increase is attributable to the increase in equipment and software costs.

Operating Expenses. For the six months ended June 30, 2018, operating expenses were $1,717,495, an increase of $368,293, or 27%, as compared to $1,349,202 for the six months ended June 30, 2017. Commissions for the six months ended June 30, 2018 increased $152,827 to $320,914 from $168,087 for the six months ended June 30, 2017. Sales salaries for the six months ended June 30, 2018 increased $131,487 to $163,355 from $31,868 for the six months ended June 30, 2017.

Other Income (Expense). Interest expense for the six months ended June 30, 2018 decreased $25,760 to $40,142 from 65,902 for the six months ended June 30, 2017. This decrease is a result of the Company refinancing pre-existing leases into one new lease.

Net Income (loss). Net income for the six months ended June 30, 2018 was $13,139 representing a decrease of $385,149, or 97%, as compared to a net profit of $398,288 for the six months ended June 30, 2017. 

LIQUIDITY AND CAPITAL RESOURCES

The financial statements have been prepared using accounting principles generally accepted in the United States of America applicable for a going concern, which assumes that the Company will realize its assets and discharge its liabilities in the ordinary course of business. Furthermore, we believe that the Company will continue its trend of profitability throughout 2018 and the foreseeable future. Historically, the Company has been successful in raising money as needed. Accordingly, we may need to engage in equity or debt financings to secure additional funds. If we raise additional funds through future issuances of equity or convertible debt securities, our existing stockholders could be dilution, and any new equity securities we issue could have rights, preferences and privileges superior to those of holders of our common stock. Any debt financing that we secure in the future could involve restrictive covenants relating to our capital raising activities and other financial and operational matters, which may make it more difficult for us to obtain additional capital and to pursue business opportunities, including potential acquisitions. We may not be able to obtain additional financing on terms favorable to us, if at all. If we are unable to obtain adequate financing or financing on terms satisfactory to us when we require it, our ability to continue to support our business growth and to respond to business challenges could be impaired, and our business may be affected. Further it is the intention of management to continue to raise money through related party debt issuances to continue on their growth path in creating value.

To the extent we are successful in growing our business, identifying potential acquisition targets and negotiating the terms of such acquisition, and the purchase price includes a cash component, we plan to use our working capital and the proceeds of any financing to finance such acquisition costs. Our opinion concerning our liquidity is based on current information. If circumstances change, we may not be able to meet our liquidity needs.

During the six months ended June 30, 2018 the Company’s cash decreased $21,163 to $81,976 from $105,139 at December 31, 2017. Net cash of $113,546 was provided by the Company’s operating activities. Net cash of $136,709 was used in the Company’s investing and financing activities, primarily due to purchases of fixed assets and payments of capital lease obligations

DSC’s working capital deficit was $2,412,925 at June 30, 2018, decreasing $538,463 or 18% from $2,951,388 at December 31, 2017. The decrease is primarily attributable to the refinancing and consolidation of all previous related party leases and notes into one new lease increase in account receivable offset by increase in account payable.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Interest Rate Sensitivity

Interest due on the Company’s loans is based upon the applicable stated fixed contractual rate with the lender. Interest earned on DSC bank accounts is linked to the applicable base interest rate. For the six months ended June 30, 2018 and 2017, DSC had interest expense of $40,142 and $65,902 respectively. DSC believes that its results of operations are not materially affected by changes in interest rates.

DSC’s exposure to market risk is confined to its cash and cash equivalents, all of which have maturities of less than three months and bear and pay interest in U.S. dollars.

DSC does not hold any derivative instruments and does not engage in any hedging activities.

Item 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures.

As of the end of the period covered by this Report, under the supervision and with the participation of DSC’s management, including its principal executive officer and principal financial officer, DSC conducted an evaluation of its disclosure controls and procedures, as such term is defined under Rule 13a-15(e) and Rule 15d-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Based on this evaluation, DSC’s principal executive officer and principal financial officers have concluded that DSC’s disclosure controls and procedures are not effective to ensure that information required to be disclosed by DSC in the reports it files or submits under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the Securities and Exchange Commission’s (the “SEC”) rules based on the material weakness described below.

The material weaknesses identified during management’s assessment were (i) a lack of sufficient internal accounting expertise to provide reasonable assurance that our financial statements and notes thereto are prepared in accordance with GAAP and (ii) a lack of segregation of duties to ensure adequate review of financial statement preparation. In light of these material weaknesses, management has concluded that, as of June 30, 2018, DSC did not maintain effective internal control over financial reporting. As defined by the Public Company Accounting Oversight Board Auditing Standard No. 5, a material weakness is a deficiency or a combination of deficiencies, such that there is a reasonable possibility that a material misstatement of the annual or interim financial statements will not be prevented or detected. In order to ensure the effectiveness of DSC’s disclosure controls in the future DSC intends on adding financial staff resources to our internal accounting and finance department.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation.

Changes in Internal Control Over Financial Reporting.

There have been no changes in our internal control over financial reporting that occurred during the last fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. 

PART II - OTHER INFORMATION

We are currently not involved in any litigation. There is no action, suit, proceeding, inquiry or investigation before or by any court, public board, government agency, self-regulatory organization or body pending or, to the knowledge of the executive officers of our company or any of our subsidiaries, threatened against or affecting DSC, its common stock, any of its subsidiaries or of DSC’s or DSC’s subsidiaries’ officers or directors in their capacities as such, in which an adverse decision could have a material adverse effect.

As a smaller reporting company, we are not required to provide disclosure pursuant to this item.

None.

There were no defaults upon senior securities during the period ended June 30, 2018.

Not applicable.

None

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 the undersigned, thereunto duly authorized.