Symbolic Logic, Inc. - Quarter Report: 2021 March (Form 10-Q)





UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549



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FORM 10-Q



☒Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934



For the quarterly period ended  March  31, 2021



OR



☐Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934



For the transition period from               to               



Commission File Number: 001-34261



EVOLVING SYSTEMS, INC.

(Exact name of registrant as specified in its charter)





(303)  802-1000

(Registrant’s telephone number, including area code)



Securities registered pursuant to Section 12(b) of the Act.





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 every Interactive Data File required to be submitted 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 such files).  Yes ☒ No ☐



Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See definition of “large accelerated filer”, “accelerated filer”, “smaller reporting company” and “emerging growth 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 ☒



As of May 10, 2021, there were  12,226,577 shares outstanding of Registrant’s Common Stock (par value $0.001 per share).





 

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EVOLVING SYSTEMS, INC.







 

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NOTE 1 — ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES



Organization —  Evolving Systems, Inc. (the “Company”) is a provider of real-time digital engagement solutions and services of software solutions and services to the wireless carrier and consumer financial services markets. We maintain long-standing relationships with many of the largest wireless companies worldwide. The Company’s portfolio includes market-leading solutions and services for real-time analytics, customer acquisition and activation, customer value management and loyalty for the telecom industry promoting partnerships into retail and financial services.



Acquisitions of BLS Limited (“EVOL BLS”), four Lumata Holdings subsidiaries, Lumata France SAS, Lumata Spain S.L., Lumata UK Ltd and Lumata Deutschland GmbH (collectively, “Lumata Entities”) in 2017, along with the acquisition of RateIntegration d/b/a Sixth Sense Media (“SSM”) in 2015, expanded our footprint in the digital marketing space. Each of these acquisitions had their own platform which we still maintain today. Through the extensive work of our product development team, we have launched the Evolution platform featuring the best of these legacy platforms on cutting edge technology. Evolution is used to operate the most innovative large-scale loyalty programs, as well as providing unique mechanics enabling gamification, optimization and personalization across a variety of channels. It enables our clients to engage with their customers at all stage of their lifecycle, providing interactive dialogue and smart recommendations through all available traditional and digital channels. The platform seamlessly integrates within the service provider’s IT infrastructure, either on-premise or on a private cloud. It can be operated or managed as a service depending on the market needs.

 

As a supplier of real-time digital engagement solutions and services, we drive growth in customer acquisition and activation, extend customer lifetime and increase customer value and revenue in the converging mobile, entertainment, financial and retail services eco-system. Our platforms, together with our team of experienced industry experts, help service providers increase their customer lifetime value (“CLV”) over the course the customer lifecycle.



Evolving Systems provides software solutions and services throughout the world. The COVID-19 global outbreak has caused instability and volatility in multiple markets where our clients conduct business. We have leveraged our ability to provide support remotely resulting in limited effect on our day-to-day operations. The inability to travel has delayed interactions with our clients on projects and in the traditional modes of sales development. We continually work with existing and new clients exploring new ways of using our products and services to enhance their business. On-going travel restrictions has caused the business to interact with clients in new ways and reduced certain costs. The long-term effects on how we conduct business in the future is still undetermined but we continue to evolve to meet client needs.



We believe our current liquidity and funds from our ongoing operations will be sufficient to fund operations and meet the Company’s cash needs for future working capital and capital expenditure requirements for at least the next twelve months from the date of issuance of these condensed consolidated financial statements. In making this assessment, we considered our $4.3 million in cash and cash equivalents and our $5.1 million in working capital at March 31, 2021, along with our ability to generate positive cash flows from operations for the three months ended March 31, 2021 and year ended December 31, 2020.



Interim Condensed Consolidated Financial Statements — The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“US GAAP”) and in conformity with the instructions to Form 10-Q and Article 8 of Regulation S-X and the related rules and regulations of the Securities and Exchange Commission (“SEC”). Accordingly, certain information and note disclosures normally included in financial statements prepared in accordance with US GAAP have been condensed or omitted pursuant to such rules and regulations. However, we believe that the disclosures included in these condensed consolidated financial statements are adequate to make the information presented not misleading. The condensed consolidated financial statements included in this document have been prepared on the same basis as the annual consolidated financial statements, and in our opinion reflect all adjustments, which include normal recurring adjustments necessary for a fair presentation in accordance with US GAAP and SEC regulations for interim financial statements. The results for the three months ended March 31, 2021 are not necessarily indicative of the results that we will have for any subsequent period. These unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and the notes to those statements for the year ended December 31, 2020 included in our Annual Report on Form 10-K as filed with the SEC on March 17, 2021.



Use of Estimates — The preparation of condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States of America (US GAAP), requires us 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 condensed consolidated financial statements, as well as the reported amounts of revenue and expenses during the reporting period. We made estimates with respect to revenue recognition for progress toward completion and direct profit or loss on contracts, allowance for doubtful accounts, income tax valuation allowance, fair values of long-lived assets, valuation of intangible assets and goodwill, useful

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lives for property, equipment and intangible assets, business combinations, capitalization of internal software development costs and fair value of stock-based compensation amounts. Actual results could differ from these estimates.



Foreign Currency — Our reporting currency is the U.S. dollar. The functional currency of our foreign operations, generally, is the respective local currency for each foreign subsidiary. Assets and liabilities of foreign operations denominated in local currencies are translated at the spot rate in effect at the applicable reporting date. Our condensed consolidated statements of operations are translated at the weighted average rate of exchange during the applicable period. The resulting unrealized cumulative translation adjustment is recorded as a component of accumulated other comprehensive loss in stockholders’ equity. Realized and unrealized transaction gains and losses generated by transactions denominated in a currency different from the functional currency of the applicable entity are recorded in other income (expense) in the period in which they occur.



Principles of Consolidation — The unaudited condensed consolidated financial statements include the accounts of Evolving Systems, Inc. and subsidiaries, all of which are wholly owned. All significant intercompany transactions and balances have been eliminated in consolidation.



Revenue Recognition —  The majority of our license fees and services revenue is generated from fixed-price contracts, this provides for licenses to our software products and services that customize such software to meet our customers’ needs. In most instances, customization services are determined to be essential to the functionality of the delivered software. Under Financial Accounting Standards Board (“FASB”) Topic 606, Revenue from Contacts with Customers (“ASC 606”), revenue is recognized when our customer obtains control of promised goods or services in an amount that reflects the consideration we expect to receive in exchange for those goods or services. We measure revenue based on consideration specified in a contract with a customer and exclude any sales incentives. Furthermore, we recognize revenue when we satisfy a performance obligation by transferring control over the service to our customer.



A performance obligation is a promise in a contract to transfer a distinct service 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. Losses on fixed-price projects are recorded when identified. Taxes assessed by a governmental authority that are both imposed on and concurrent with a specific revenue-producing transaction, that are collected by us from a customer, are excluded from revenue.



Nature of goods and services



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



i. License Revenue



License fees represent the fees we receive from the licensing of our software products. In most instances, customization services are determined to be essential to the functionality of the delivered software. The license along with the customization services are transferred to our customers over time. In arrangements where the services are not essential to the functionality of the delivered software, we recognize license revenue when the license agreement has been approved and the software has been delivered. We can identify each party’s rights, payment terms, and commercial substance of the content. Where applicable, we identify multiple performance obligations and record as revenue as the performance obligations are fulfilled based on their estimated allocated standalone selling price. The selection of the method to measure progress towards completion requires judgment and is based on the extent of progress towards completion of the performance obligation. We recognize revenue using the input method of accounting based on labor hours.



ii. Customer Support Revenue



Customer support services includes annual support fees, recurring maintenance fees, and minor product upgrades generally as a single performance obligation. The warranty support fees represent a separate performance obligation that is provided for up to a year with initial license purchase. The Company allocates the contract transaction price related to warranty support fees based on pricing consistent with what we would offer to other market participants. Upon the conclusion of the warranty period, the customer can choose to continue to receive support and maintenance services via our customer support offerings. We recognize revenue from our support ratably over the service contract period.



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iii. Services Revenue



We recognize revenue from fixed-price service contracts using the input method of accounting based on labor hours. These contracts generally include a single performance obligation. Under the input method, revenue is recognized on the basis of an entity’s efforts or inputs toward satisfying a performance obligation. We recognize revenue from professional services provided pursuant to time-and-materials based contracts and training services as the services are performed, as that is when our performance obligation to our customers under such arrangements is fulfilled.



iv. Managed Services



We recognize revenue from our managed services contracts primarily over the service contract period generally as a single performance obligation. On occasion, our managed services contracts will contain a specified number of hours to work over the term of the contract or other services that would be separate performance obligations. Revenue for this type of managed service contract is recognized using the input method of accounting, as previously described.



Disaggregation of revenue



In the following table, revenue is disaggregated by primary geographical market, major products/service lines, and timing of revenue recognition (in thousands):







Contract balances



The following table provides information about receivables, assets, and liabilities from contracts with customers (in thousands):







Contract receivables are recorded at the invoiced amount and do not bear interest. Credit is extended based on the evaluation of a customer’s financial condition and collateral is not required. Unbilled work-in-progress is revenue which has been earned but not invoiced. The contract assets are transferred to the receivables when invoiced.

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Management expects that incremental commission fees paid to employees and intermediaries as a result of obtaining contracts are recoverable and therefore the Company capitalized them as contract costs in the amount of  $0.2 million at each of March  31, 2021 and December 31, 2020.



Capitalized commission fees are amortized based on the transfer of services to which the assets relate which may range from two to three years and are included in sales and marketing. In each of the three month periods ended March  31, 2021 and 2020, the amount of amortization was less than  $0.1 million and there was no impairment loss in relation to the costs capitalized. Applying the practical expedient in ASC 606 paragraph 340-40-25-4, the Company recognizes the incremental costs of obtaining contracts as an expense when incurred if the amortization period of the assets that the Company otherwise would have recognized is one year or less. These costs are included in sales and marketing.



The contract liabilities primarily relate to unearned revenue. Amounts billed in advance of performance obligations being satisfied are recognized as unearned revenue.



For the three months ended March  31, 2021 and 2020, we recognized revenue of $1.9 million and $2.2 million, respectively, which was included in the corresponding contract liability balance at the beginning of the period. 



Transaction price allocated to the remaining performance obligations



Remaining performance obligations represent the transaction price of firm orders for which work has not been completed as of the period end date and excludes unexercised contract options and potential orders under ordering-type contracts (e.g., indefinite-delivery, indefinite-quantity). As of March  31, 2021, the aggregate amount of the transaction price allocated to remaining performance obligations with lives greater than one-year totaled  $16.9 million. The Company expects approximately 62% of remaining performance obligations to be recognized into revenue within the next twelve months, with the remaining 38% recognized thereafter.



We apply the practical expedient in paragraph ASC 606-10-50-14 and do not disclose information about remaining performance obligations that have original expected durations of one-year or less. We apply the transition practical expedient in paragraph ASC 606-10-65-1(f)(3) and do not disclose the amount of the transaction price allocated to the remaining performance obligations and an explanation of when we expect to recognize that amount as revenue.



Stock-based Compensation — We account for stock-based compensation by applying a fair-value-based measurement method to account for stock-based payment transactions with employees, non-employees and directors. We record compensation costs associated with the vesting of unvested options on a straight-line basis over the vesting period. Stock-based compensation is a non-cash expense because we settle these obligations by issuing shares of our common stock instead of settling such obligations with cash payments. We use the Black-Scholes model to estimate the fair value of each option grant on the date of grant. This model requires the use of estimates for expected term of the options and expected volatility of the price of our common stock. We recognize forfeitures as they occur rather than estimating them at the time of the grant.



Income Taxes — We record deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying condensed consolidated balance sheets, as well as operating losses and tax credit carry-forwards. We measure deferred tax assets and liabilities using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. We reduce deferred tax assets by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized.



We use a recognition threshold and a measurement attribute for financial statement recognition and measurement of tax positions taken or expected to be taken in a tax return. For those benefits to be recognized, a tax position must be more likely than not to be sustained upon examination by taxing authorities.



Segment Information —  We define operating segments as components of our enterprise for which separate financial information is reviewed regularly by the chief operating decision-makers to evaluate performance and to make operating decisions. We have identified our Chief Executive Officer and Senior Vice President of Finance as our chief operating decision-makers. These chief operating decision makers review revenues by segment and review overall results of operations.



We currently operate our business as one operating segment which includes two revenue types: license fees revenue and services revenue (as shown on the condensed consolidated statements of operations). License fees revenue represents the fees received from the license of software products. Services revenue includes services directly related to the delivery of the licensed products, such as fees for custom development, integration services, SaaS services, managed services, annual support fees, recurring maintenance

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fees, fees for maintenance upgrades and warranty services. Warranty services that are similar to software maintenance services are typically bundled with a license sale.



Recently Adopted Accounting Pronouncements —  In December 2019, the FASB issued Accounting Standards Update (“ASU”) ASU 2019-12, Income Taxes (ASC 740) — Simplifying the Accounting for Income Taxes (“ASU 2019-12”). ASU 2019-12 modifies ASC 740 to simplify the accounting for income taxes and eliminates certain exceptions to the general principles in ASC 740. The ASU removes certain exceptions for recognizing deferred taxes for investments, performing the incremental approach for intra-period allocation where there is a loss from continuing operations, and income or a gain from other items, and the general methodology for calculating income taxes in interim periods when a year-to-date loss exceeds the anticipated loss for the year. The ASU also adds guidance to reduce complexity in certain areas, including recognizing deferred taxes for tax goodwill, reporting the effect of an enacted change in tax laws or rates in the annual effective tax rate computation in the first interim period that includes the enactment date, and allocating taxes to members of a consolidated group. ASU 2019-12 is effective for annual periods, including interim periods within those annual periods, beginning after December 15, 2020. The amendments in this ASU did not have a material impact on our condensed consolidated financial statements.



Management has evaluated other recently issued accounting pronouncements and does not believe that any of these pronouncements will have a significant impact on our condensed consolidated financial statements and related disclosures.







NOTE 2 — INTANGIBLE ASSETS



We amortize identifiable intangible assets on a straight-line basis over their estimated useful lives. As of March 31, 2021, and December 31, 2020, identifiable intangibles were as follows (in thousands):















Amortization expense of identifiable intangible assets was $0.2 million for each of the three months ended  March  31, 2021 and 2020, respectively.  Expected future amortization expense related to identifiable intangibles based on our carrying amount as of March  31, 2021 for the following five years is as follows (in thousands):







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NOTE 3 — BALANCE SHEET COMPONENTS



The components of accounts payable and accrued liabilities are as follows (in thousands):







 



NOTE 4 — LOSS PER SHARE



Basic loss per share is computed by dividing loss or income available to common stockholders by the weighted average number of shares of common stock outstanding during the period, including common stock issuable under participating securities. Diluted loss per share is computed using the weighted average number of shares of common stock outstanding, plus all potentially dilutive common stock equivalents using the treasury stock method. Common stock equivalents consist of stock options and restricted stock.



The following is the reconciliation of the numerators and denominators of the basic and diluted loss per share computations (in thousands except per share data):





Weighted average options to purchase of approximately 0.3 million shares and 0.4 million shares of common stock equivalents were excluded from the computation of diluted weighted average shares outstanding for the three months ended March 31, 2021, and 2020, respectively, because the effect would have been anti-dilutive since their exercise prices were greater than the average market value of our common stock for the period.

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NOTE 5 — STOCK-BASED COMPENSATION



We recognized $0.2 million and less than $0.1 million of compensation expense in the condensed consolidated statements of operations, with respect to our stock-based compensation plans for each of the three months ended March  31, 2021 and 2020, respectively.



The following table summarizes stock-based compensation expenses recorded in the condensed consolidated statements of operations (in thousands):







Stock Incentive Plans



At March  31, 2021 and December 31, 2020,  no shares were available for grant under the 2007 Stock Plan, as amended. At March  31, 2021 and December 31, 2020,  0.2 million options and restricted shares were issued and outstanding under the 2007 Stock Plan as amended, respectively.



At March  31, 2021 and December 31, 2020, there were approximately 0.5 million shares available for grant under the 2016 Stock Plan, respectively. At March  31, 2021 and December 31, 2020, 0.2 million options and restricted shares were issued and outstanding under the 2016 Stock Plan, respectively.



The fair value of restricted shares for stock-based compensation expensing is equal to the closing price of our common stock on the date of grant. The restrictions for stock awards generally vest over four years for senior management and over one year for the board of directors.



The following is a summary of restricted stock activity under the plans for the three months ended Mach 31, 2021:









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The following is a summary of stock option activity under the plans for the three months ended March 31, 2021:







There were no stock options granted during the three months ended March  31, 2021 or 2020. The total fair value of stock options and restricted stock vested during each of three months ended March 31, 2021 and 2020 was $0.2 million, respectively.

 



NOTE 6 — CONCENTRATION OF CREDIT RISK



For the three months ended March 31, 2021 and 2020, we had one significant customer that accounted for 10% of revenue from operations, this significant customer is a large telecommunications operator in Europe.



As of March 31, 2021 and December 31, 2020, no customers that accounted for 10% of contract receivables and unbilled work-in-progress.

 

NOTE 7 — LONG-TERM DEBT



On August 16, 2017, we entered into a Term Loan Facility Agreement with East West Bank as lender in the amount of $4.7 million (the “Lumata Facility”). The Lumata Facility requires the Company to make monthly principal payments of approximately $0.1 million that commenced on July 31, 2018 and interest at the greater of (a) 3.5% or (b) the variable rate of interest that appears in the Wall Street Journal on a monthly measurement date plus in either case 1.5%. We used the full amount of the Lumata Facility to fund the acquisition of the Lumata companies. The Lumata Facility is secured by all of the assets of EVOL Holdings and the Original Guarantors in accordance with the terms of a Debenture entered into by EVOL Holdings and the Original Guarantors in favor of East West Bank. EVOL Holdings, EVOL Inc. and the Original Guarantors also entered into a Subordination Deed whereby each of the parties agreed to subordinate all loans by and among each other to East West Bank. Lumata France SAS and Lumata UK Ltd are also bound to adhere to the finance documents as additional obligors.



The Lumata Facility required the Company to pay an Arrangement Fee (“Origination Fee”) of $23,650, payable in four equal installments, with the first payment due on the date of the Lumata Facility and the remaining three payments on the first, second and third anniversary thereof. The Company also agreed to pay East West Bank’s legal fees in connection with the transaction. The Company may prepay the Lumata Facility at any time, in a minimum amount of $250,000 and increments of $50,000, subject to a prepayment fee of 2% of the amount prepaid, on any prepayment made before the second anniversary date of the Agreement.



On September 24, 2019 the Company agreed in principle to the terms of a new amendment and on October 4, 2019, we entered into the First Amendment (“First Amendment”) to the Lumata Facility. The purpose of the First Amendment was to waive certain events of non-compliance with respect to covenants not achieved in prior periods and to amend future covenant requirements. The First Amendment also required Evolving Systems to make an advance payment of principal of $666,666.66. The remaining terms and conditions of the Lumata Facility and payment schedule remain unchanged. The Company also agreed to pay East West Bank’s legal fees in connection with the transaction. 



Financial covenants previously included in the credit facilities were amended and replaced by a minimum consolidated cash balance of no less than the total bank debt outstanding and a minimum trailing three month consolidated EBITDA fixed dollar amount mutually agreed to by the Company and East West Bank in the amendments.



On July 1, 2020, we entered into the Amendment and Waiver Letter (“Second Amendment”) to the Lumata Facility. The purpose of the Second Amendment was to waive certain events of non-compliance with respect to covenants not achieved in prior periods and to amend future covenant requirements. Financial covenants previously included in the amended credit facilities had been replaced by a monthly minimum consolidated cash balance of no less than $1.5 million and a fiscal quarter consolidated EBITDA

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fixed dollar amount mutually agreed to by the Company and East West Bank in the amendments. The Company also agreed to pay East West Bank’s legal fees in connection with the transaction. The Second Amendment adjusted the loan amortization accelerating the final payment date and fixed the interest rate at 5% on the remaining principal. The remaining terms and conditions of the Lumata Facility unchanged. Monthly payments were $0.1 million, and the Company also made an advance payment of $44,000 on June 1, 2020. The last payment was transacted on January 11, 2021.



Paycheck Protection Program Loan



On April 15, 2020, the Company received loan proceeds in the amount of $318,900 under the Paycheck Protection Program (“PPP”). The PPP, established as part of the Coronavirus Aid, Relief and Economic Security Act (“CARES Act”), provides for loans to qualifying businesses for amounts up to 2.5 times of the average monthly payroll expenses of the qualifying business. The loans and accrued interest are forgivable after a period of eight to twenty-four weeks as long as the borrower uses the loan proceeds for eligible purposes, including payroll, benefits, rent and utilities, and maintains its payroll levels. The amount of loan forgiveness will be reduced if the borrower terminates employees or reduces salaries during the eight-week period.



The unforgiven portion of the PPP loan is payable over two years at an interest rate of 1%, with a deferral of payments until the Small Business Association remits the loan forgiveness amount to the lender, however if the borrower does not apply for forgiveness the deferral shall be 10 months after the end of the loan forgiveness covered period. The Company intends to use the proceeds for purposes consistent with the PPP, Company wages. While the Company currently believes that its use of the loan proceeds will meet the conditions for forgiveness of the loan, we cannot assure you that we will not take actions that could cause the Company to be ineligible for forgiveness of the loan, in whole or in part. We have applied for forgiveness, but at this time there has not been any determination. Any such portion not forgiven can be prepaid in whole or part without penalty. We have recorded the PPP loan as a long term loan payable on our Condensed Consolidated Balance Sheet and will reduce the balance at the time loan is forgiven or we begin to make payments. This loan is due in one payment of principal of any unforgiven amount up to the full amount of $0.3 million, and accrued interest at maturity date in April of 2022.



NOTE 8 — INCOME TAXES



The income tax provision for the fiscal year ending December 31, 2021 interim periods is determined using an estimate of the annual effective tax rate, adjusted for discrete items, primarily related to the effects of foreign currency exchange realized transaction gains or losses and foreign taxes withheld. At March 31, 2021 the Company is currently estimating an annual effective tax rate of approximately 9.2%.  For the three months ended March 31, 2021 discrete items resulted in a net tax expense effect of approximately $0.1 million. The Company’s recorded effective income tax rate was (9.0%) including effect of discrete items for the three months ended March 31, 2021. The Company recorded an income tax expense of $0.1 million and $0.2 million for the three months ended March 31, 2021 and 2020, respectively. Each quarter, the estimate of the annual effective tax rate is updated, and if the estimated effective tax rate changes, a cumulative adjustment is made. There is a potential for volatility of the effective tax rate due to various factors.



The Company and its subsidiaries are subject to U.S. Federal income tax, as well as income tax of multiple state and foreign jurisdictions. As of March 31, 2021, the Company is subject to U.S. Federal income tax examinations for the years 2017 through 2019 and income tax examinations from various other jurisdictions for the years 2015 through 2019.



Transfer Pricing Adjustments, net



The Company’s tax positions include the Company’s intercompany transfer pricing policies and the associated taxable income and deductions arising from intercompany charges between subsidiaries within the consolidated group. During fiscal year 2018 and update each year subsequently, the Company finalized a transfer pricing plan with Evolving Systems and its subsidiaries. This transfer pricing plan determined the amount of income which is taxable in each respective jurisdiction. The Company applied this methodology in accordance with the transfer pricing plan and the adjustments necessary to reflect the reduction in U.S. pre-tax income resulted in an increase in domestic income before income tax expense of $1.1 million and a corresponding decrease in foreign income before income tax expense in the three months ended March 31, 2021.



NOTE 9 —GEOGRAPHICAL INFORMATION



We are headquartered in Englewood, a suburb of Denver, Colorado. We use customer locations as the basis for attributing revenue to individual countries. We provide products and services on a global basis through our U.K.-based subsidiaries. Additionally, personnel in Cluj -Napoca, Romania; Grenoble, France; and Bangalore and Kolkata, India; provide software development services and support to our global operations. Financial information relating to U.S. based companies and by international geographic region exceeding the threshold (defined as contributing at least 10%) of revenue from operations is as follows (in thousands):

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NOTE 10 — COMMITMENTS AND CONTINGENCIES



(a)Lease Commitments



Under Topic 842, operating lease expense is generally recognized evenly over the term of the lease. The Company has operating leases primarily consisting of facilities with remaining lease terms of one year to nine years. We lease office and operating facilities under non-cancelable operating leases. Current facility leases include our offices in Englewood, Colorado, New York, New York, London, England, Bangalore and Kolkata India, Johannesburg, South Africa, Kuala Lumpur, Malaysia, Échirolles, France, Cluj-Napoca, Romania and Madrid, Spain. The Company entered into one new nine year lease in Échirolles, France that contributed  $0.3 million to our right-of-use asset/operating lease liability in the three months ended March 31, 2021. Total rent expense consisted of operating lease expense of $0.1 million and short-term lease expense of less than $0.1 million for each of the three months ended March 31, 2021 and 2020. There was no sublease rental income for the three months ended March 31, 2021 and 2020. We paid $0.1 million against Lease obligations — operating leases for each of the three months ended March 31, 2021 and 2020, respectively.



Leases with an initial term of twelve months or less are not recorded on the condensed consolidated balance sheet. For lease agreements entered into or reassessed after the adoption of Topic 842, we combine the lease and non-lease components in determining the lease liabilities and right-of-use (“ROU”) assets.



Our lease agreements generally do not provide an implicit borrowing rate; therefore, an internal incremental borrowing rate is determined based on information available at lease commencement date for purposes of determining the present value of lease payments.



ROU lease assets and lease liabilities for our operating leases were recorded in the condensed consolidated balance sheet as follows (in thousands):





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Future lease payments included in the measurement of lease liabilities on the condensed consolidated balance sheet as of March  31, 2021, for the following five fiscal years and thereafter were as follows (in thousands):











(b)Other Commitments



As permitted under Delaware law, we have agreements with officers and directors under which we agree to indemnify them for certain events or occurrences while the officer or director is, or was, serving at our request in this capacity. The term of the indemnification period is indefinite. There is no limit on the amount of future payments we could be required to make under these indemnification agreements; however, we maintain Director and Officer insurance policies, as well as an Employment Practices Liability Insurance Policy, that may enable us to recover a portion of any amounts paid. As a result of our insurance policy coverage, we believe the estimated fair value of these indemnification agreements is minimal. Accordingly, there were no liabilities recorded for these agreements as of March 31, 2021 or December 31, 2020.



We enter into standard indemnification terms with customers and suppliers, in the ordinary course of business, for third party claims arising under our contracts. In addition, as we may subcontract the development of deliverables under customer contracts, we could be required to indemnify customers for work performed by subcontractors. Depending upon the nature of the indemnification, the potential amount of future payments we could be required to make under these indemnification agreements may be unlimited. We may be able to recover damages from a subcontractor or other supplier if the indemnification results from the subcontractor’s or supplier’s failure to perform. To the extent we are unable to recover damages from a subcontractor or other supplier, we could be required to reimburse the indemnified party for the full amount. We have never incurred costs to defend lawsuits or settle claims relating to an indemnification. As a result, we believe the estimated fair value of these agreements is minimal. Accordingly, there were no liabilities recorded for these agreements as of March  31, 2021 or December 31, 2020.



Our standard license agreements contain product warranties that the software will be free of material defects and will operate in accordance with the stated requirements for a limited period of time. The product warranty provisions require us to cure any defects through any reasonable means. We believe the estimated fair value of the product warranty provisions in the license agreements in place with our customers is minimal. Accordingly, there were no liabilities recorded for these product warranty provisions as of March  30, 2021 or December 31, 2020.



Our software arrangements generally include a product indemnification provision whereby we will indemnify and defend a customer in actions brought against the customer for claims that our products infringe upon a copyright, trade secret, or valid patent of a third party. We have not historically incurred any significant costs related to product indemnification claims. Accordingly, there were no liabilities recorded for these indemnification provisions as of March  31, 2021 or December 31, 2020.



(c)Litigation



From time to time, we are involved in various legal matters arising in the normal course of business. On October 15, 2019, the Company’s former Chief Executive Officer filed a lawsuit in the Superior Court of New Jersey against us. That suit seeks $3.5 million for claims of libel, harm of lost employment opportunities, severance payments and benefits that he would have been entitled to receive had he been terminated without cause. The Company has engaged legal counsel through its insurance carrier and has begun discovery. While no settlement has been finalized, ongoing discussions are progressing. As such, we have recorded a contingent liability in the amount of $0.3 million as of March 31, 2021, such amount is included in other expenses, in our unaudited statement of operations.

 

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SPECIAL NOTE ABOUT FORWARD-LOOKING STATEMENTS



This Quarterly Report on Form 10-Q contains forward-looking statements that have been made pursuant to the provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are based on current expectations, estimates, and projections about Evolving Systems’ industry, management’s beliefs, and certain assumptions made by management. Forward-looking statements include our expectations regarding product, services, and maintenance revenue, annual savings associated with the organizational changes effected in prior years, and short- and long-term cash needs. In some cases, words such as “anticipates,” “expects,” “intends,” “plans,” “believes,” “estimates,” variations of these words, and similar expressions are intended to identify forward-looking statements. In addition, statements about the potential effects of the COVID-19 pandemic on the Company’s businesses, results of operations and financial condition may constitute forward-looking statements. The statements are not guarantees of future performance and are subject to certain risks, uncertainties, and assumptions that are difficult to predict; therefore, actual results may differ materially from those expressed or forecasted in any forward-looking statements. Risks and uncertainties of our business include those set forth in our Annual Report on Form 10-K for the year ended December 31, 2020, as filed with the SEC on March 17, 2021, under “Item 1A. Risk Factors” as well as additional risks in our other filings with the SEC. The forward-looking statements are applicable only as of the date on which they are made, and we do not assume any obligation to update any forward-looking statements.



OVERVIEW



Evolving Systems Inc. is a supplier of real-time digital engagement solutions and services. We drive growth in customer acquisition and activation, extend customer lifetime and increase customer value and revenue through analytics and loyalty programs in the converging mobile, entertainment, financial and retail services eco-system. Our platforms, together with our team of experienced industry experts, help service providers increase their customer lifetime value (“CLV”) over the course the customer lifecycle.



In 2019, we released Evolution, the new platform that supersedes and provides an upgrade path to the former loyalty and CLV platforms from both Evolving and its acquired companies — BLS, Lumata and SSM. Evolution was built by combining, integrating, and improving upon the best components and features of those previous platforms. We believe that Evolution provides a unique capability, and we expect to continue our focus on selling and promoting this significant new product. Our experienced team and the new technology provide actionable insights and relevant offers based on customer data, all of which greatly complements our software portfolio and 25 years of expertise in customer acquisition, activation and retention. Enhancements to our technology further expands our managed services platform for delivering on-tap strategic and tactical solutions.



RECENT DEVELOPMENTS



COVID-19



Evolving Systems provides software solutions and services throughout the world. The COVID-19 global outbreak has caused instability and volatility in multiple markets where our clients conduct business. We have leveraged our ability to provide support remotely resulting in limited effect on our day to day operations. The inability to travel has delayed interactions with our clients on projects and in the traditional modes of sales development. We continue to work with existing and new clients exploring new ways of using our products and services to enhance their business. On-going travel restrictions has caused the business to interact with clients in new ways and reduced certain costs. The long-term effects on how we conduct business in the future is still undetermined but the company continues to evolve to meet client needs.



We believe our current liquidity and funds from our ongoing operations will be sufficient to fund operations and meet the Company’s cash needs for future working capital and capital expenditure requirements for at least the next twelve months from the date of issuance of these condensed consolidated financial statements. In making this assessment, we considered our $4.3  million in cash and cash equivalents and our $5.1 million in working capital at March 31, 2021, along with our ability to generate positive cash flows from operations for the three months ended March 31, 2021 and year ended December 31, 2020.



Consolidated revenue was $6.5 million and $6.3 million for the three months ended March  31, 2021 and 2020, respectively. The increases are primarily related to new projects and upgrades to existing and new clients partially offset by a  reduction in work hours as projects near or come to completion.



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RESULTS OF OPERATIONS



The following table presents the unaudited condensed consolidated statements of operations reflected as a percentage of total revenue:





 

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Revenue



Revenue is comprised of license fees and services. License fees represent the fees we receive from the licensing of our software products. Services revenue are directly related to the delivery of the licensed product as well as integration services, managed services, SaaS services, time and materials work and customer support services. Customer support services include annual support fees, recurring maintenance fees, minor product upgrades and warranty fees. Warranty fees are typically deferred and recognized over the warranty period.



License Fees



License fees revenue was $0.2 million for each of the three months ended March 31, 2021 and 2020, respectively. The revenue remained consistent during this three month period as compared to the corresponding three month period in the prior year as one time license fees from one client in the prior year was offset by new one time license fee with a different client.



Services



Services revenue increased $0.2 million, or 3%, to $6.3 million for the three months ended March 31, 2021 from $6.1 million for the three months ended March 31, 2020. The increase is related to upgrades and new project revenues with existing clients of $0.4 million, new client project of $0.2 million, and increase in hours worked on existing clients of $0.2 million partially offset by decease in hours as projects are completed or near completion $0.3 million, a reduction of orders from existing clients of $0.2 million, and one client termination of $0.1 million as compared to the corresponding three month period in the prior year.



Costs of Revenue, Excluding Depreciation and Amortization



Costs of revenue, excluding depreciation and amortization, consist primarily of personnel costs and other direct costs associated with these personnel, facilities costs, costs of third-party software and partner commissions. Costs of revenue includes product development expenses related to certain software features requested for deployment by the customer and are funded by customers as part of a managed service offering. Costs of revenue, excluding depreciation and amortization was $2.2 million and $2.1 million for the three months ended March 31, 2021 and 2020, respectively. The increase is related to additional resource costs of $0.2 million offset by a decrease in travel and entertainment costs of $0.1 million due to travel restrictions of the global pandemic.  As a percentage of revenue, costs of revenue, excluding depreciation and amortization, increased 1% to 35% for the three months ended March 31, 2021 from 34% for the three months ended March 31, 2020, as costs were approximately constant as revenue increased due to work on delivering the new projects and upgrades.  



Sales and Marketing



Sales and marketing expenses primarily consist of compensation costs, including incentive compensation and commissions, travel expenses, advertising, marketing and facilities expenses. Sales and marketing expenses decreased $0.3 million, or 14%, to $1.3 million for the three months ended March 31, 2021 from $1.6 million for the three months ended March 31, 2020. The decrease is related to the reduction of $0.1 million in lower travel and entertainment costs due to travel restrictions during the global pandemic and reduced marketing efforts, as well as reduction of $0.1 million in resource costs. As a percentage of total revenue, sales and marketing expenses decreased 4% to 21% for the three months ended March 31, 2021 from 25% for the three months ended March 31, 2020, this is primarily due to the aforementioned decreased expenses.



General and Administrative



General and administrative expenses consist principally of employee-related costs for the following departments: finance, human resources, and certain executive management; facilities costs; and professional and legal fees. General and administrative expenses increased less than $0.1 million, or 2%, to remain constant at $1.4 million for each of the three months ended March 31, 2021 and 2020, respectively. As a percentage of revenue, general and administrative expenses remained constant at 22% for each of the three months ended March 31, 2021 and 2020, respectively.



Product Development



Product development expenses consist primarily of employee-related costs and subcontractor expenses. Product development expenses increased $0.2 million, or 23%, to $1.3 million for the three months ended March 31, 2021 from $1.1 million for the three months ended March 31, 2020.  The increase is primarily related to the additional resource costs from additional resources and an increase in hours worked on product development projects by delivery staff. As a percentage of revenue, product development

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expenses increased 3% to 20% for the three months ended March 31, 2021 from 17% for the three months ended March 31, 2020. The increase in general and product development expense is primarily due to the aforementioned higher expenses.



Depreciation



Depreciation expense consists of depreciation of long-lived property and equipment. Depreciation expense was less than $0.1 million for each of the three months ended March 31, 2021 and 2020. As a percentage of total revenue, depreciation expense for each of the three months ended March 31, 2021 and 2020 was 1%.



Amortization



Amortization expense consists of amortization of identifiable intangibles related to our acquisitions of Evolving Systems Labs, Evolving Systems NC, EVOL BLS, and the Lumata Entities. Amortization expense was $0.2 million for each of the three months ended March 31, 2021 and 2020, respectively. As a percentage of total revenue, amortization expense was  4%  for each of three months ended March 31, 2021 and 2020, respectively.



Interest Expense



Interest expense includes the amortization of debt issuance costs and interest expense from our term loans. Interest expense for each of the three months ended March 31, 2021 and 2020  was less than $0.1 million. As a percentage of revenue, interest expense was less than 1% and 1% for the three months ended March 31, 2021 and 2020, respectively.



Foreign Currency Exchange (Loss) Income



Foreign currency exchange (loss) income resulted from transactions denominated in a currency other than the functional currency of the respective subsidiary and decreased $0.8 million or 199% to  a ($0.4) million loss for the three months ended March 31, 2021 from a foreign currency gain of $0.4 million for the three months ended March 31, 2020.  The decrease was a result of the re-measurement of certain non-functional currency denominated financial assets and liabilities of our foreign subsidiaries.  



Interest Income and Total Other (Expense) Income, Net



Other expense for the three months ended March 31, 2021 was $0.3 million compared to other income of less than $0.1 million for the three months ended March 31, 2020.  The increase in other expense is primarily due to the estimated litigation settlement costs recorded as a contingent liability in relation to the lawsuit filed by a former CEO of the Company.  See Note 10 to the financial statements for additional information.



Income Taxes



We recorded net income tax expense of $0.1 million and $0.2 million for the three months ended March 31, 2021 and 2020, respectively. For interim periods during fiscal year ending December 31, 2021, the expense is determined using an estimate of the annual effective tax rate, adjusted for discrete items, primarily related to the effects of foreign currency exchange realized transaction gains or losses and foreign taxes withheld. For the three months ended March 31, 2021 discrete items resulted in a net tax expense effect of approximately $0.1 million. The net expense during the three months ended March 31, 2020 consisted of income tax primarily from our U.K. subsidiary and Indian based operations as well as foreign taxes withheld. Our effective tax rate was (9%) and 119% for the three months ended March 31, 2021 and 2020, respectively.



FINANCIAL CONDITION



Our working capital position decreased $0.4 million, or 6%, to $5.1 million at March 31, 2021, from $5.5 million at December 31, 2020.  The decrease in working capital is primarily related to a decrease in contract receivable and increase in unearned

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revenue partially offset by the increase in cash and cash equivalents and unbilled revenue in addition to the final payment of the current term loan.



CONTRACTUAL OBLIGATIONS



There have been no material changes to the contractual obligations as disclosed in our 2020 Annual Report on Form 10-K,



LIQUIDITY AND CAPITAL RESOURCES



We have historically financed operations through cash flows from operations and bank borrowings. At March 31, 2021, our principal source of liquidity was $4.3 million in cash and cash equivalents and $4.7 million in contract receivables, net of allowances. Our anticipated uses of cash in the future will be to fund the growth of our business both organically and by expanding our customer base internationally. Other uses of cash will include product development, technology expansion, and capital expenditures.



Net cash provided/used in operating activities for the three months ended March 31, 2021 and 2020 was $1.7 million and $(0.3) million, respectively. Cash provided by operating activities for the three months ended March 31, 2021 was primarily due to the increase in unearned revenue of $1.3 million and an increase in accounts payable and accrued liabilities of $0.2 million as well as a decrease in contract receivable of $0.9 million, partially offset by the increase in unbilled work in progress of $0.2 million and income taxes receivable of $0.5 million. Cash used in operating activities for the three months ended March 31, 2020 was primarily due to an increase of $0.8 million in unbilled work in progress, taxes receivable of $0.6 million which included a refund of AMT previously recorded as a deferred tax asset, and prepaids and other assets of $0.3 million. Partially offset by the decrease in accounts receivable of $1.3 million. 



Net cash used in investing activities during the three months ended March 31, 2021 of less than $0.1 million was due to the purchase of property and equipment. Net cash used in investing activities during the three months ended March 31, 2020 of less than $0.1 million was due to the purchase of property and equipment.  



Net cash used in financing activities was $0.1 million for the three months ended March 31, 2021 was related to the final principal payments on our term loan. Net cash used in financing activities $0.4 million during the three months ended March 21, 2020 was primarily related to principal payments on our term loan.



Evolving Systems provides software solutions and services throughout the world. The recent COVID-19 global outbreak has caused instability and volatility in multiple markets where our clients conduct business, or we have employees working. The pandemic has delayed certain projects or the closing of new orders as customer interactions have been altered or postponed. At this time, we have seen only limited disruptions to our ability to continue delivery to our clients.  



In January 2021, we made our last principal and interest payment on the term loan payable to East West Bank (“EWB”) that required us to maintain specified financial requirements that are defined in the loan agreements. We believe that our current cash and cash equivalents, together with anticipated cash flow from operations will be sufficient to meet our working capital and capital expenditure requirements for at least the next twelve months from the date of issuance of this Quarterly Report on Form 10-Q. In making this assessment we considered the following:



Our cash and cash equivalents balance at March 31, 2021 of $4.3 million;



Our working capital balance at March 31, 2021 of $5.1 million; and



Our ability to generate positive cash flows from operations of $1.7 million for the three months ended March 31, 2021, and $1.4 million and $1.1 million for the full years ended December 31, 2020 and 2019, respectively.



We are exposed to foreign currency rate risks which impact the carrying amount of our foreign subsidiaries and our consolidated equity, as well as our consolidated cash position due to translation adjustments. For the three months ended March  31, 2021 and 2020, the effect of exchange rate changes resulted in an increase in cash of less than $0.1 million and an increase of $0.2

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million, respectively. We do not currently hedge our foreign currency exposure, but we monitor rate changes and may hedge our exposures if we see significant negative trends in exchange rates.



OFF-BALANCE SHEET ARRANGEMENTS



We have no off-balance sheet arrangements that have a material current effect or that are reasonably likely to have a material future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.



ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK



Not required for smaller reporting companies.



ITEM 4. CONTROLS AND PROCEDURES



Evaluation of Disclosure Controls and Procedures



We maintain “disclosure controls and procedures,” as such term is defined in Rule 13a-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”), that are designed to provide reasonable assurance that information required to be disclosed by us in reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in Securities and Exchange Commission rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Senior Vice President of Finance, as appropriate, to allow timely decisions regarding required disclosure.



Our management, including our Chief Executive Officer and Senior Vice President of Finance, has evaluated the effectiveness of our disclosure controls and procedures as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on that evaluation, our Chief Executive Officer and Senior Vice President of Finance have concluded that our disclosure controls and procedures were effective as of March 31, 2021.



In designing and evaluating our disclosure controls and procedures, management recognized that disclosure controls and procedures, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the disclosure controls and procedures are met. Additionally, in designing disclosure controls and procedures, our management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible disclosure controls and procedures. The design of any disclosure controls and procedures also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions.



During the three months ended March 31, 2021, there were no changes in our internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) or in other factors that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

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PART II — OTHER INFORMATION



ITEM 1. LEGAL PROCEEDINGS



Information regarding reportable legal proceedings is contained in Part I, Item 3, “Legal Proceedings,” in our Annual Report on Form 10-K for the year ended December 31, 2020. There have been no material changes to the legal proceedings previously disclosed in the Annual Report on Form 10-K, which are incorporated by reference herein.



ITEM 1A. RISK FACTORS



Not required under Regulation S-K for smaller reporting companies



ITEM 6. EXHIBITS



*Filed herewith.

**Furnished herewith.