UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
| [X] | QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
| For the quarterly period ended March 31, 2012 |
| [ ] | TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT |
For the transition period from ____________ to ______________
Commission file number: 333-139117
EPAZZ, Inc.
(Exact name of registrant as specified in its charter)
| Illinois | 36-4313571 |
(State or other jurisdiction of incorporation or organization) | (IRS Employer Identification No.) |
309 W. Washington St. Suite 1225
Chicago, IL 60606
(Address of principal executive offices)
(312) 955-8161
(Registrant's telephone number)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant 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 [X] No [ ]
Indicate by check mark whether the registrant is a large accelerated filer, and accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer [ ] Accelerated filer [ ]
Non-accelerated filer [ ] Smaller reporting company [X]
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act. Yes [ ] No [X]
The number of shares of the issuer’s Series A common stock outstanding as of May 18, 2012, was 31,975,550 shares, par value $0.001 per share.
EPAZZ, INC.
FORM 10-Q
Quarterly Period Ended March 31, 2012
| Page | ||
| SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS | ||
| PART I. FINANCIAL INFORMATION | ||
| Item 1. | Financial Statements | |
| Balance Sheets as of March 31, 2012 (Unaudited) and December 31, 2011 | 1 | |
| Statements of Operations for the Three Months ended March 31, 2012 and 2011 (Unaudited) | 2 | |
| Statements of Cash Flows for the Three Months ended March 31, 2012 and 2011 (Unaudited) | 3 | |
| Notes to the Condensed Financial Statements (Unaudited) | 4 | |
| Item 2. | Management’s Discussion and Analysis of Financial Condition and Results of Operations | 19 |
| Item 3. | Quantitative and Qualitative Disclosures About Market Risk | 31 |
| Item 4. | Controls and Procedures | 31 |
| PART II. OTHER INFORMATION | ||
| Item 1. | Legal Proceedings | 32 |
| Item 1A. | Risk Factors | 32 |
| Item 2. | Unregistered Sales of Equity Securities and Use of Proceeds | 32 |
| Item 3. | Defaults Upon Senior Securities | 32 |
| Item 4. | Mine Safety Disclosures | 32 |
| Item 5. | Other Information | 32 |
| Item 6. | Exhibits | 33 |
| SIGNATURES | 34 | |
ITEM 1. FINANCIAL STATEMENTS
| EPAZZ, INC. | ||||||||
| CONDENSED CONSOLIDATED BALANCE SHEETS | ||||||||
| March 31, | December 31, | |||||||
| 2012 | 2011 | |||||||
| Assets | (Unaudited) | |||||||
| Current assets: | ||||||||
| Cash | $ | 20,868 | $ | 12,668 | ||||
| Accounts receivable, net | 46,445 | 148,418 | ||||||
| Other current assets | 20,310 | 11,113 | ||||||
| Total current assets | 87,623 | 172,199 | ||||||
| Property and equipment, net | 129,429 | 145,593 | ||||||
| Intangible assets, net | 952,136 | 576,598 | ||||||
| Goodwill | 255,460 | 140,832 | ||||||
| Total assets | $ | 1,424,648 | $ | 1,035,222 | ||||
| Liabilities and Stockholders' Equity (Deficit) | ||||||||
| Current liabilities: | ||||||||
| Accounts payable | $ | 37,250 | $ | 41,430 | ||||
| Accrued expenses | 152,603 | 102,572 | ||||||
| Deferred revenue | 313,758 | 323,028 | ||||||
| Line of credit | 49,950 | - | ||||||
| Current maturities of capital lease obligations payable | 47,500 | 47,515 | ||||||
| Current maturities of notes payable, related parties | 420,981 | 404,401 | ||||||
| Convertible debt, net of discounts of $-0- of $14,978, respectively | 69,500 | 64,522 | ||||||
| Current maturities of long term debt | 90,050 | 75,565 | ||||||
| Total current liabilities | 1,181,592 | 1,059,033 | ||||||
| Capital lease obligations payable, net of current maturities | 12,866 | 13,816 | ||||||
| Long term debt, net of current maturities | 962,812 | 499,068 | ||||||
| Total liabilities | 2,157,270 | 1,571,917 | ||||||
| Stockholders' equity (deficit): | ||||||||
| Common stock, Series A, $0.01 par value, 60,000,000 shares authorized , | ||||||||
| 31,975,550 and 30,900,281 shares issued and outstanding, respectively | 319,756 | 309,003 | ||||||
| Common stock, Series B, $0.01 par value, 60,000,000 shares | ||||||||
| authorized, 2,500,000 shares issued and outstanding | 25,000 | 25,000 | ||||||
| Additional paid in capital | 2,336,616 | 2,337,369 | ||||||
| Stockholders' receivable, consisting of 25,000,000 shares | (1,000,000 | ) | (1,000,000 | ) | ||||
| Accumulated deficit | (2,413,994 | ) | (2,208,067 | ) | ||||
| Total stockholders' equity (deficit) | (732,622 | ) | (536,695 | ) | ||||
| Total liabilities and stockholders' equity (deficit) | $ | 1,424,648 | $ | 1,035,222 | ||||
| See accompanying notes to financial statements. | ||||||||
-1-
| EPAZZ, INC. | ||||||||
| CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS | ||||||||
| (Unaudited) | ||||||||
| For the Three Months | ||||||||
| Ended March 31, | ||||||||
| 2012 | 2011 | |||||||
| (Restated) | ||||||||
| Revenue | $ | 114,477 | $ | 206,183 | ||||
| Expenses: | ||||||||
| General and administrative | 224,265 | 145,675 | ||||||
| Depreciation and amortization | 47,474 | 27,039 | ||||||
| Bad debts | 7,775 | - | ||||||
| Total operating expenses | 279,514 | 172,714 | ||||||
| Net operating income (loss) | (165,037 | ) | 33,469 | |||||
| Other income (expense): | ||||||||
| Interest income | 5 | 15 | ||||||
| Other income | 180 | - | ||||||
| Interest expense | (41,075 | ) | (10,937 | ) | ||||
| Total other income (expense) | (40,890 | ) | (10,922 | ) | ||||
| Net income (loss) | $ | (205,927 | ) | $ | 22,547 | |||
| Weighted average number of common shares | �� | |||||||
| outstanding - basic and fully diluted | 31,112,972 | 30,448,294 | ||||||
| Net income (loss) per share - basic and fully diluted | $ | (0.01 | ) | $ | 0.00 | |||
| See accompanying notes to financial statements. | ||||||||
-2-
| EPAZZ, INC. | ||||||||
| CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS | ||||||||
| (Unaudited) | ||||||||
| For the Three Months | ||||||||
| Ended March 31, | ||||||||
| 2012 | 2011 | |||||||
| (Restated) | ||||||||
| Cash flows from operating activities | ||||||||
| Net income (loss) | $ | (205,927 | ) | $ | 22,547 | |||
| Adjustments to reconcile net income (loss) to | ||||||||
| net cash provided by (used in) operating activities: | ||||||||
| Bad debts expense | 7,775 | - | ||||||
| Depreciation and amortization | 22,547 | 27,043 | ||||||
| Amortization of intangible assets | 24,462 | - | ||||||
| Amortization of deferred financing costs | 465 | - | ||||||
| Amortization of discount on convertible notes payable | 14,978 | - | ||||||
| Decrease (increase) in assets: | ||||||||
| Accounts receivable | 94,198 | 160,018 | ||||||
| Other current assets | (2,295 | ) | - | |||||
| Increase (decrease) in liabilities: | ||||||||
| Accounts payable | (4,180 | ) | (24,498 | ) | ||||
| Accrued expenses | 25,333 | - | ||||||
| Deferred revenues | (9,270 | ) | (56,634 | ) | ||||
| Net cash provided by (used in) operating activities | (31,914 | ) | 128,476 | |||||
| Cash flows from investing activities | ||||||||
| Proceeds from the sale of equipment | 14,175 | - | ||||||
| Acquisition of subsidiaries | (39,200 | ) | - | |||||
| Net cash used in investing activities | (25,025 | ) | - | |||||
| Cash flows from financing activities | ||||||||
| Proceeds from long term debt, related parties | 16,580 | 37,265 | ||||||
| Repayment of long term debt, related parties | - | (51,294 | ) | |||||
| Payments on leases payable | (18,820 | ) | - | |||||
| Proceeds from long term debt | 110,603 | - | ||||||
| Repayment of long term debt | (43,224 | ) | (49,082 | ) | ||||
| Net cash provided by (used in) financing activities | 65,139 | (63,111 | ) | |||||
| Net increase (decrease) in cash | 8,200 | 65,365 | ||||||
| Cash - beginning | 12,668 | 40,013 | ||||||
| Cash - ending | $ | 20,868 | $ | 105,378 | ||||
| Supplemental disclosures: | ||||||||
| Interest paid | $ | 23,934 | $ | 10,937 | ||||
| Income taxes paid | $ | - | $ | - | ||||
| Non-cash investing and financing activities: | ||||||||
| Acquisition of subsidiary in exchange for debt | $ | 460,800 | $ | - | ||||
| Acquisition of leased assets for debt | $ | 17,855 | $ | - | ||||
| Value of shares issued for conversion of debt | $ | 10,000 | $ | - | ||||
| See accompanying notes to financial statements. | ||||||||
-3-
EPAZZ, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note 1 – Basis of Presentation and Consolidation
The interim condensed consolidated financial statements of Epazz, Inc. (“Epazz” or the “Company”), an Illinois corporation, included herein, presented in accordance with United States generally accepted accounting principles and stated in US dollars, have been prepared by the Company, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures are adequate to not make the information presented misleading.
These statements reflect all adjustments, which in the opinion of management, are necessary for fair presentation of the information contained therein. Except as otherwise disclosed, all such adjustments are of a normal recurring nature. It is suggested that these interim condensed financial statements be read in conjunction with the financial statements of the Company for the year ended December 31, 2011 and notes thereto included in the Company's 10-K annual report. The Company follows the same accounting policies in the preparation of interim reports.
Principles of Consolidation
The accompanying condensed consolidated financial statements include the accounts of the following entities, all of which are under common control and ownership:
| State of | Abbreviated | |||||
Name of Entity(2) | Incorporation | Relationship(1) | Reference | |||
| Epazz, Inc. | Illinois | Parent | Epazz | |||
| IntelliSys, Inc. | Wisconsin | Subsidiary | IntelliSys | |||
| Professional Resource Management, Inc. | Illinois | Subsidiary | PRMI | |||
| Desk Flex, Inc. | Illinois | Subsidiary | DFI | |||
| K9 Bytes, Inc. | Illinois | Subsidiary | K9 Bytes | |||
| MS Health, Inc. | Illinois | Subsidiary | MS Health |
(1)All subsidiaries are wholly-owned subsidiaries.
(2)All entities are in the form of Corporations.
The condensed consolidated financial statements herein contain the operations of the wholly-owned subsidiaries listed above. All significant inter-company transactions have been eliminated in the preparation of these financial statements. The parent company, Epazz and subsidiaries, IntelliSys, PRMI, DFI, K9 Bytes and MS Health will be collectively referred to herein as the “Company”, or “Epazz”. The Company's headquarters are located in Chicago, Illinois and substantially all of its customers are within the United States.
These statements reflect all adjustments, consisting of normal recurring adjustments, which in the opinion of management are necessary for fair presentation of the information contained therein.
Reclassifications
Certain amounts in the financial statements of the prior year have been reclassified to conform to the presentation of the current year for comparative purposes.
Use of Estimates
The preparation of financial statements in conformity with 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 amount of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Fair Value of Financial Instruments
Under FASB ASC 820-10-05, the Financial Accounting Standards Board establishes a framework for measuring fair value in generally accepted accounting principles and expands disclosures about fair value measurements. This Statement reaffirms that fair value is the relevant measurement attribute. The adoption of this standard did not have a material effect on the Company’s financial statements as reflected herein. The carrying amounts of cash, accounts payable and accrued expenses reported on the balance sheets are estimated by management to approximate fair value primarily due to the short term nature of the instruments. The Company had no other items that required fair value measurement on a recurring basis.
Intangible Assets
Intangible assets are amortized using the straight-line method over their estimated period of benefit of five to fifteen years. We evaluate the recoverability of intangible assets periodically and take into account events or circumstances that warrant revised estimates of useful lives or that indicate that impairment exists. All of our intangible assets are subject to amortization. No material impairments of intangible assets have been identified during any of the periods presented. Amortization expense on intangible assets totaled $24,462 and $10,733 for the three months ended March 31, 2012 and 2011, respectively.
-4-
Goodwill
The Company evaluates the carrying value of goodwill during the fourth quarter of each year and between annual evaluations if events occur or circumstances change that would more likely than not reduce the fair value of the reporting unit below its carrying amount. Such circumstances could include, but are not limited to (1) a significant adverse change in legal factors or in business climate, (2) unanticipated competition, or (3) an adverse action or assessment by a regulator. When evaluating whether goodwill is impaired, the Company compares the fair value of the reporting unit to which the goodwill is assigned to the reporting unit's carrying amount, including goodwill. The fair value of the reporting unit is estimated using a combination of the income, or discounted cash flows, approach and the market approach, which utilizes comparable companies' data. If the carrying amount of a reporting unit exceeds its fair value, then the amount of the impairment loss must be measured. The impairment loss would be calculated by comparing the implied fair value of reporting unit goodwill to its carrying amount. In calculating the implied fair value of reporting unit goodwill, the fair value of the reporting unit is allocated to all of the other assets and liabilities of that unit based on their fair values. The excess of the fair value of a reporting unit over the amount assigned to its other assets and liabilities is the implied fair value of goodwill. An impairment loss would be recognized when the carrying amount of goodwill exceeds its implied fair value. The Company's evaluation of goodwill completed during the year resulted in no impairment losses.
Beneficial Conversion Features
From time to time, the Company may issue convertible notes that may contain an imbedded beneficial conversion feature. A beneficial conversion feature exists on the date a convertible note is issued when the fair value of the underlying common stock to which the note is convertible into is in excess of the remaining unallocated proceeds of the note after first considering the allocation of a portion of the note proceeds to the fair value of warrants, if related warrants have been granted. The intrinsic value of the beneficial conversion feature is recorded as a debt discount with a corresponding amount to additional paid in capital. The debt discount is amortized to interest expense over the life of the note using the effective interest method.
Revenue Recognition
The Company designs and sells various software programs to business enterprises, hospitals and Government and post-secondary institutions. Prior to shipment, each software product is tested extensively to meet Company specifications. The software is shipped fully functional via electronic delivery, but some installation and setup is required. No other entities sell the same or largely interchangeable software.
Installation is a standard process, outlined in the owner's manual, consisting principally of setup, calibrating, and testing the software. A purchaser of the software could complete the process using the information in the owner's manual, although it would probably take significantly longer than it would take the Company’s technicians to perform the tasks. Although other vendors do not install the Company’s software, they do provide largely interchangeable installation services for a fee. Historically, the Company has never sold the software without installation. Most installations are performed by the Company within 7 to 24 days of shipment and are included in the overall sales price of the software. In addition, the customer must pay for support contracts and training packages, depending on their desired level of service. The Company is the only manufacturer of the software and it only sells software on a standalone basis directly to the end user.
The sales price of the arrangement consists of the software, installation, and training and support services, which the customer is obligated to pay in full upon delivery of the software. In addition, there are no general rights of return involved in these arrangements. Therefore, the software is accounted for as a separate unit of accounting.
The Company does not have vendor-specific objective evidence of selling price for the software because it does not sell the software separately (without installation services and support contracts). In addition, third-party evidence of selling price does not exist as no vendor separately sells the same or largely interchangeable software. Therefore, the Company uses its best estimate of selling price when allocating such arrangement consideration.
In estimating its selling price for the software, the Company considers the cost to produce the software, profit margin for similar arrangements, customer demand, effect of competitors on the Company’s software, and other market constraints. When applying the relative selling price method, the Company uses its best estimate of selling price for the software, and third-party evidence of selling price for the installation. Accordingly, without considering whether any portion of the amount allocable to the software is contingent upon delivery of the other items, the Company allocates the selling price to the software, support, and installation.
The Company doesn’t currently provide product warranties, but if it does in the future it will provide for specific product lines and accrue for estimated future warranty costs in the period in which the revenue is recognized.
-5-
Recent Accounting Pronouncements
In December 2011, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2011-12, “Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05. This update defers the requirement to present items that are reclassified from accumulated other comprehensive income to net income in both the statement of income where net income is presented and the statement where other comprehensive income is presented. The adoption of ASU 2011-12 is not expected to have a material impact on our financial position or results of operations.
Note 2 – Going Concern
As shown in the accompanying condensed consolidated financial statements, the Company has incurred recurring losses from operations resulting in an accumulated deficit of $(2,413,994), and as of March 31, 2012, the Company’s current liabilities exceeded its current assets by $1,077,988 and its total liabilities exceeded its total assets by $733,622. These factors raise substantial doubt about the Company’s ability to continue as a going concern.
The financial statements do not include any adjustments that might result from the outcome of any uncertainty as to the Company’s ability to continue as a going concern. These financial statements also do not include any adjustments relating to the recoverability and classification of recorded asset amounts, or amounts and classifications of liabilities that might be necessary should the Company be unable to continue as a going concern.
Note 3 – Correction of Errors
On April 13, 2012, Epazz, Inc. restated its Form 10-Q/A (the “First Amendment”) to its Interim Report for the Interim period ended March 31, 2011, which was filed with the Securities and Exchange Commission (“SEC”) on May 23, 2011 (the “Original Report”) in response to certain issues set forth in our Quarterly Report on Form 10-Q filed with the SEC on November 22, 2010 (the “Form 10-Q”). The consolidated financial statements contained in our Annual Report on Form 10-K for the year ended December 31, 2010 and the Quarterly Reports on Form 10-Q for the three months ended March 31, 2011, the six months ended June 30, 2011 and nine months ended September 30, 2011 required restatement in order to correct errors related to the following (which reports have previously been restated):
The Company determined that it had not properly recorded the September 30, 2010 acquisition of its subsidiary, IntelliSys. Subsequently, the balance sheet has been adjusted to properly reflect the Goodwill that should have been recognized when the acquisition was initially recorded. Intangible assets, retained earnings and the Consolidated Statement of Operations have also been adjusted to correct related recording errors originally recorded at the time of the acquisition. The Company also determined that it had omitted accrued expenses that should have been recorded on the balance sheet dated March 31, 2011. Accounts payable and accrued expenses have been adjusted to correct this omission.
The Company also determined that it did not properly record stock issued in exchange for services rendered. Accordingly, the stock transaction, which was originally recorded to prepaid expense, has been reclassified to the Company’s equity account.
-6-
The effect on the Company’s previously issued March 31, 2011 financial statements are summarized as follows:
Balance Sheet as of March 31, 2011:
| As Originally | ||||||||||||
| Reported | As Restated | |||||||||||
| March 31, | March 31, | |||||||||||
| 2011 | Adjustments | 2011 | ||||||||||
| Assets | (Restated) | |||||||||||
| Current assets: | ||||||||||||
| Cash | $ | 105,378 | $ | - | $ | 105,378 | ||||||
| Accounts receivable, net | 134,514 | 1 | 134,515 | |||||||||
| Deferred financing cost, current | 2,955 | - | 2,955 | |||||||||
| Other current assets | 8,852 | - | 8,252 | |||||||||
| Total current assets | 251,699 | 1 | 251,700 | |||||||||
| Property and equipment, net | 222,382 | 3,163 | 225,546 | |||||||||
| Intangible assets, net | 400,544 | 155,368 | 555,912 | |||||||||
| Goodwill | - | 53,588 | 53,588 | |||||||||
| Prepaid expense | 1,000,000 | (1,000,000 | ) | - | ||||||||
| Total assets | $ | 1,874,626 | $ | (787,880 | ) | $ | 1,086,746 | |||||
| Liabilities and Stockholders' Equity (Deficit) | ||||||||||||
| Current liabilities: | ||||||||||||
| Accounts payable and accrued liabilities | $ | 108,667 | $ | 20,776 | $ | 129,443 | ||||||
| Deferred revenue | 210,257 | - | 210,257 | |||||||||
| Current maturities of capital lease obligations payable | 54,224 | - | 54,224 | |||||||||
| Current maturities of long term debt | 81,607 | - | 81,607 | |||||||||
| Total current liabilities | 454,755 | 20,776 | 475,531 | |||||||||
| Capital lease obligations payable, net of current maturities | 52,295 | - | 52,295 | |||||||||
| Notes payable, related parties, net of current maturities | 552,060 | - | 552,060 | |||||||||
| Long term debt, net of current maturities | 257,675 | - | 257,675 | |||||||||
| Total liabilities | 1,316,785 | 20,776 | 1,337,561 | |||||||||
| Stockholders' equity (deficit): | ||||||||||||
| Common stock, Series A, $0.01 par value, 60,000,000 shares | ||||||||||||
| authorized, 30,448,294 shares issued and outstanding | 304,483 | - | 304,483 | |||||||||
| Common stock, Series B, $0.01 par value, 60,000,000 shares | ||||||||||||
| authorized, 2,500,000 shares issued and outstanding | 25,000 | - | 25,000 | |||||||||
| Additional paid in capital | 2,268,360 | - | 2,268,360 | |||||||||
| Stockholders’ receivable | - | (1,000,000 | ) | (1,000,000 | ) | |||||||
| Accumulated deficit | (2,040,002 | ) | 191,344 | (1,848,658 | ) | |||||||
| Total stockholders' equity (deficit) | 557,841 | (801,986 | ) | (250,815 | ) | |||||||
| Total liabilities and stockholders' equity (deficit) | $ | 1,874,626 | $ | (787,880 | ) | $ | 1,086,746 | |||||
-7-
When the acquisition of Intellisys was originally recorded, it erroneously included pre-acquisition activity. An adjustment was made to correct this error in the most recently restated reports. On the March 31, 2011 Amended Report the following adjustments were made:
Statement of Operations as of March 31, 2011:
| As Originally | ||||||||||||
| Reported | As Restated | |||||||||||
| March 31, | March 31, | |||||||||||
| 2011 | Adjustments | 2011 | ||||||||||
| (Restated) | ||||||||||||
| Revenue | $ | 206,183 | $ | - | $ | 206,183 | ||||||
| Expenses: | ||||||||||||
| General and administrative | 145,671 | 4 | 145,675 | |||||||||
| Depreciation and amortization | 23,706 | 3,333 | 27,039 | |||||||||
| Total operating expenses | 169,377 | 3,337 | 172,714 | |||||||||
| Net operating income | 36,806 | (3,337 | ) | 33,469 | ||||||||
| Other income (expense): | ||||||||||||
| Interest income | 15 | - | 15 | |||||||||
| Interest expense | (10,937 | ) | - | (10,937 | ) | |||||||
| Total other income (expense) | (10,922 | ) | - | (10,922 | ) | |||||||
| Net income | $ | 26,884 | $ | (3,337 | ) | $ | 22,547 | |||||
The following adjustments were made on the March 31, 2011 Restated Statement of Cash Flows:
| As Originally | ||||||||||||
| Reported | As Restated | |||||||||||
| March 31, | March 31, | |||||||||||
| 2011 | Adjustments | 2011 | ||||||||||
| (Restated) | ||||||||||||
| Cash flows from operating activities | ||||||||||||
| Net income (loss) | $ | 25,884 | $ | (3,337 | ) | $ | 22,547 | |||||
| Adjustments to reconcile net income (loss) to | ||||||||||||
| net cash provided by operating activities: | ||||||||||||
| Depreciation and amortization | 23,706 | 3,337 | 27,043 | |||||||||
| Decrease (increase) in assets: | ||||||||||||
| Accounts receivable | 160,018 | - | 160,018 | |||||||||
| Increase (decrease) in liabilities: | ||||||||||||
| Current liabilities and deferred revenues | (81,132 | ) | - | (81,132 | ) | |||||||
| Net cash provided by operating activities | 128,476 | - | 128,476 | |||||||||
| Cash flows from financing activities | ||||||||||||
| Proceeds from long term debt, related parties | 37,265 | - | 37,265 | |||||||||
| Repayment of long term debt, related parties | (51,294 | ) | - | (51,294 | ) | |||||||
| Repayment of long term debt and capital leases | (49,082 | ) | - | (49,082 | ) | |||||||
| Net cash used in financing activities | (63,111 | ) | - | (63,111 | ) | |||||||
| Net increase (decrease) in cash | 65,365 | - | 65,365 | |||||||||
| Cash - beginning | 40,013 | - | 40,013 | |||||||||
| Cash - ending | $ | 105,378 | $ | - | $ | 105,378 | ||||||
| Supplemental disclosures: | ||||||||||||
| Interest paid | $ | 10,937 | $ | - | $ | 10,937 | ||||||
| Income taxes paid | $ | - | $ | - | $ | - | ||||||
-8-
Note 4 – Asset Purchase Acquisitions
Asset Purchase Acquisition – K9 Bytes, Inc., October 26, 2011
On October 26, 2011, we, through a newly-formed wholly-owned Illinois subsidiary, K9 Bytes, Inc. (“K9 Bytes”), entered into an Asset Purchase Contract and Receipt Agreement with K9 Bytes, Inc., a Florida corporation (“K9 Florida” and the “Purchase Contract”). Pursuant to the Purchase Contract, we purchased all of K9 Florida’s assets, including all of its intellectual property, its business trade name, website (k9bytessoftware.com), furniture, fixtures, equipment and inventory, and goodwill in consideration for an aggregate of $205,000, of which $5,000 was paid in cash at the closing, $169,250 was financed using a small business loan and $30,750 was paid by way of a Balloon Installment Promissory Note (the “K9 Note”). We did not purchase and K9 Florida agreed to retain and be responsible for any and all liabilities of K9 Florida. We agreed to indemnify and hold K9 Florida harmless against, among other things, any claims and liability associated with the future operations of the assets purchased pursuant to the Purchase Contract and K9 Florida agreed to indemnify and hold us harmless against any misrepresentations made by K9 Florida in the Purchase Contract; any failure of K9 Florida to perform any required term or condition of the Purchase Contract and any debts or other obligations of K9 Florida not specifically assumed pursuant to the Purchase Contract in excess of $2,000.
K9 Bytes focuses on core application areas related to pet care: pet boarding, daycare, grooming, training, and other pet care services (including dog walking and pet sitting). K9 Bytes products also include retail inventory and point of sale capabilities; including credit and debit card processing, collar printers, digital signature tablets, and biometric/fingerprint identification hardware.
This acquisition was accounted for as a business combination under the purchase method of accounting, given that substantially all of the Company’s assets and ongoing operations were acquired. The purchase resulted in $87,244 of goodwill. According to the purchase method of accounting, the Company recognized the identifiable assets acquired and liabilities assumed as follows:
| October 26, | ||||
| 2011 | ||||
| Consideration: | ||||
| Cash paid at closing | $ | 5,000 | ||
Small business loan(1) | 169,250 | |||
Seller financed note payable(2) | 30,750 | |||
| Fair value of total consideration exchanged | $ | 205,000 | ||
| Fair value of identifiable assets acquired assumed: | ||||
| Accounts receivable | $ | 25,483 | ||
| Inventories supplies | 1,000 | |||
| Equipment | 1,273 | |||
| Technology-based intangible assets | 42,000 | |||
| Customer base | 11,000 | |||
| Trade name | 22,000 | |||
| Non-compete agreement | 15,000 | |||
| Total fair value of assets assumed | 117,756 | |||
Consideration paid in excess of fair value (Goodwill)(3) | $ | 87,244 | ||
(1)Consideration included partial proceeds obtained from a $235,000 Small Business Association (“SBA”) loan, carrying a term of ten (10) years; maturing on October 26, 2021, bearing interest at the prime rate plus 2.75% per annum, adjusted quarterly; and payable in monthly installments (beginning in December 2011) of $2,609 per month. The loan is guaranteed by the Company and personally guaranteed by Shaun Passley, the Company’s Chief Executive Officer; and is secured by all of the assets of K9 Bytes, Inc., the Illinois corporation and wholly-owned subsidiary formed to house the acquired assets and the Company, 100% of the outstanding capital of the K9 subsidiary, and a life insurance policy on Mr. Passley’s life in the amount of $235,000. | ||||
(2)Consideration included an unsecured $30,750 seller financed note payable, bearing 6% per annum and is payable in monthly installments of $333 per month starting in November 2011 and ending on October 26, 2014, at which time the then remaining balance of the K9 Note is due ($23,017, assuming no additional payments other than those scheduled). | ||||
(3)The consideration paid in excess of the net fair value of assets acquired and liabilities assumed has been recognized as goodwill. | ||||
The K9 Note accrues interest at 6% per annum and is payable in monthly installments of $333 per month starting in November 2011 and ending on October 26, 2014, at which time the then remaining balance of the K9 Note ($23,017, assuming no additional payments other than those scheduled) is due. The repayment of the K9 Note is secured by all of the securities of K9 Bytes, which owns all of the assets purchased as a result of the Purchase Contract, provided that Third Party Lender, as a result of the SBA Loan described below, has a first priority security interest to such securities. The K9 Note is also personally guaranteed by Shaun Passley, our Chief Executive Officer.
We raised the funds paid to K9 Florida in connection with the Purchase Contract through a $235,000 Small Business Association loan obtained by K9 Sub from a loan from a third party lender (the “Third Party Lender” and the “SBA Loan”). The SBA Loan has a term of ten (10) years; bears interest at the prime rate plus 2.75% per annum (currently 6%), adjusted quarterly; is payable in monthly installments (beginning in December 2011) of $2,609 per month; is guaranteed by the Company and personally guaranteed by Shaun Passley, the Company’s Chief Executive Officer; and is secured by all of the assets of K9 Sub and the Company, 100% of the outstanding capital of K9 Sub which is held by the Company, and a life insurance policy on Mr. Passley’s life in the amount of $235,000. A total of approximately $10,000 of the amount borrowed under the SBA Loan was used to pay closing fees in connection with the loan, $169,250 was used to pay K9 Florida the cash amount due pursuant to the terms of the Purchase Contract and the remainder of such loan amount was made available for working capital for the Company and K9 Bytes.
-9-
K9 Florida agreed to subordinate the K9 Note to Third Party Lender’s rights under the SBA Loan. Additionally, Mr. Passley agreed to subordinate the amount he is owed by the Company to the repayment of the SBA Loan.
In connection with the Purchase Contract, the owner of K9 Florida and the Company (through K9 Sub) entered into a Consulting Agreement, pursuant to which the owner of K9 Florida agreed to provide part-time consulting services to the Company for a period of four weeks following closing and provide additional consulting services as requested by the Company for up to an additional 30 days at the rate of $75 per hour. The owner of K9 Florida and the Company also entered into an Agreement Not to Compete, pursuant to which such owner agreed not to compete against the Company for three years and four weeks from the closing of the Purchase Contract.
Management believes the product line of K9 Bytes, customer base and other assets acquired will enable the Company to enhance their business model and enable the Company to take advantage of opportunities in the competitive software development industry.
Asset Purchase Acquisition – MS Health, Inc., March 28, 2012
On March 28, 2012, we, through a newly-formed wholly-owned Illinois subsidiary, MS Health, Inc. (“MS Health”), closed on an Asset Purchase Agreement (“APA”) with MS Health Software Corporation, a New Jersey corporation (“MSHSC”). Pursuant to the APA, we purchased all of MSHSC’s assets, including all of its intellectual property, its business trademarks and copyrights, furniture, fixtures, equipment and software in consideration for an aggregate of $500,000, of which $39,200 was paid in cash at the closing, $360,800 was financed using a small business loan and $100,000 was paid by way of a Promissory Note (the “MSHSC Note”). The terms of the MSHSC Note include interest at 6% per annum, a ten (10) year amortization, a right of offset, no payments of either principal or interest for two (2) years and equal payments of principal and interest commencing in year 3, no prepayment penalty, and full payment of all amounts due after five (5) years. The MSHSC Note is secured by a security interest over the assets of MS Health. We did not purchase and MSHSC agreed to retain and be responsible for any and all liabilities of MSHSC. The acquisition was financed in part with a $360,800 Small Business Administration (“SBA”) loan, bearing interest at fixed and variable rates. The initial interest rate is 5.5% per year for three (3) years, consisting of the Prime Rate in effect on the first business day of the month in which the SBA loan application was received, plus 2.25%. The loan terms then transition to a variable interest rate over the remaining seven (7) years of the ten (10) year maturity term, calculated at 2.25% above the Prime Rate, as adjusted quarterly. The Company must pay principal and interest payments of $3,916 monthly. The SBA Loan is guaranteed by PRMI, K9 Bytes, Desk Flex, Inc., MS Health and the Company, and secured by the assets of MS Health and the Company.
MSHSC developed and sells CHMCi, an enterprise wide solution that includes tools to effectively provide, manage, bill, and track behavioral healthcare and social services. With CMHCi, an organization will realize the benefits of increased efficiency, accountability, and productivity. CMHCi offers server-based, internet, and secure cloud computing enabling the user to access information as required. By maintaining a complete electronic client record, including data collection and reporting across multiple programs, locations, episodes of care, and service providers, CMHCi helps eliminate redundant record keeping. The scheduler component tracks client, staff, and group appointments. Easy to use, it interfaces seamlessly with service authorization tracking, service history, and billing. The integrated financial reporting component provides the basis for an efficient and comprehensive accounting system, including electronic claims and remittance, third party insurance, and client, municipality, and grantor billing.
In connection with the Asset Purchase, the shareholders of MSHSC and the Company (through MS Health) entered into a Covenant Not to Compete; Consulting Agreement, Non-Competition and Consulting Agreement, pursuant to which the shareholders of MSHSC agreed to provide consulting services to the Company for a period of six months following closing. Pursuant to the agreement, the shareholders of MSHSC agreed not to compete against the Company for two years from the closing of the acquisition.
-10-
This acquisition was accounted for as a business combination under the purchase method of accounting, given that substantially all of the Company’s assets and ongoing operations were acquired. The purchase resulted in $87,244 of goodwill. According to the purchase method of accounting, the Company recognized the identifiable assets acquired and liabilities assumed as follows:
| March 28, | ||||
| 2012 | ||||
| Consideration: | ||||
| Cash paid at closing | $ | 39,200 | ||
Small business loan(1) | 360,800 | |||
Seller financed note payable(2)(3) | 124,697 | |||
| Fair value of total consideration exchanged | $ | 524,697 | ||
| Fair value of identifiable assets acquired assumed: | ||||
| Other current assets | $ | 7,367 | ||
| Equipment | 2,703 | |||
| Contracts | 258,000 | |||
| Technology-based intangible assets | 124,000 | |||
| Non-compete agreement | 18,000 | |||
| Total fair value of assets assumed | 410,070 | |||
Consideration paid in excess of fair value (Goodwill)(4) | $ | 114,627 | ||
(1)Consideration included partial proceeds obtained from a $360,800 Small Business Association (“SBA”) loan, bearing interest at fixed and variable rates. The initial interest rate is 5.5% per year for three (3) years, consisting of the Prime Rate in effect on the first business day of the month in which the SBA loan application was received, plus 2.25%. The loan terms then transition to a variable interest rate over the remaining seven (7) years of the ten (10) year maturity term, calculated at 2.25% above the Prime Rate, as adjusted quarterly. The Company must pay principal and interest payments of $3,916 monthly. The SBA Loan is guaranteed by PRMI, K9 Bytes, Desk Flex, Inc., MS Health and the Company, and secured by the assets of MS Health and the Company. | ||||
(2)Consideration included an unsecured $100,000 seller financed note payable (“MSHSC Note”), bearing interest at 6% per annum, a ten (10) year amortization, a right of offset, no payments of either principal or interest for two (2) years and equal payments of principal and interest commencing in year 3, no prepayment penalty, and full payment of all amounts due after five (5) years. The MSHSC Note is secured by a security interest over the assets of MS Health. We did not purchase and MSHSC agreed to retain and be responsible for any and all liabilities of MSHSC. | ||||
(3)The fair value of the seller financed note in excess of the $100,000 principal balance attributable to the deferred payment terms will be amortized to interest expense over the deferred financing period. | ||||
(4)The consideration paid in excess of the net fair value of assets acquired and liabilities assumed has been recognized as goodwill. | ||||
Management believes the product line of MS Health, customer base and other assets acquired will enable the Company to enhance their business model and strengthen its future cash flows to fund operations and take advantage of additional growth opportunities.
-11-
The unaudited supplemental pro forma results of operations of the combined entities had the dates of the acquisitions been January 1, 2012 or January 1, 2011 are as follows:
| Combined Pro Forma: | ||||||||
| For the three months ended | ||||||||
| March 31, | ||||||||
| 2012 | 2011 | |||||||
| Revenue: | $ | 177,314 | $ | 373,523 | ||||
| Expenses: | ||||||||
| Operating expenses | 347,686 | 366,530 | ||||||
| Net operating income (loss) | (170,372 | ) | 6,993 | |||||
| Other income (expense) | (41,071 | ) | (4,509 | ) | ||||
| Net income (loss) | $ | (211,443 | ) | $ | 2,484 | |||
| Weighted average number of common shares | ||||||||
| Outstanding – basic and fully diluted | 31,112,972 | 30,448,294 | ||||||
| Net income (loss) per share – basic and fully diluted | $ | (0.01 | ) | $ | 0.00 | |||
Note 5 – Fair Value of Financial Instruments
Under FASB ASC 820-10-5, fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (an exit price). The standard outlines a valuation framework and creates a fair value hierarchy in order to increase the consistency and comparability of fair value measurements and the related disclosures. Under GAAP, certain assets and liabilities must be measured at fair value, and FASB ASC 820-10-50 details the disclosures that are required for items measured at fair value.
The Company does not have any financial instruments that must be measured under the new fair value standard. The Company’s financial assets and liabilities are measured using inputs from the three levels of the fair value hierarchy. The three levels are as follows:
Level 1 - Inputs are unadjusted quoted prices in active markets for identical assets or liabilities that the Company has the ability to access at the measurement date.
Level 2 - Inputs include quoted prices for similar assets and liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable for the asset or liability (e.g., interest rates, yield curves, etc.), and inputs that are derived principally from or corroborated by observable market data by correlation or other means (market corroborated inputs).
Level 3 - Unobservable inputs that reflect our assumptions about the assumptions that market participants would use in pricing the asset or liability.
-12-
The following schedule summarizes the valuation of financial instruments at fair value on a non-recurring basis in the balance sheets as of March 31, 2012 and December 31, 2011:
| Fair Value Measurements at March 31, 2012 | ||||||||||||
| Level 1 | Level 2 | Level 3 | ||||||||||
| Assets | ||||||||||||
| Intangible assets | $ | - | $ | - | $ | 952,136 | ||||||
| Goodwill | - | - | 255,459 | |||||||||
| Total assets | 1,207,595 | |||||||||||
| Liabilities | ||||||||||||
| Seller financed promissory note, MSHSC Note | - | - | 124,697 | |||||||||
| Convertible debt, net of discount of $-0- | - | 69,500 | - | |||||||||
| Total Liabilities | - | 69,500 | 124,697 | |||||||||
| $ | - | $ | (69,500 | ) | $ | 1,082,898 | ||||||
| Fair Value Measurements at December 31, 2011 | ||||||||||||
| Level 1 | Level 2 | Level 3 | ||||||||||
| Assets | ||||||||||||
| Intangible assets | $ | - | $ | - | $ | 576,598 | ||||||
| Goodwill | - | - | 140,833 | |||||||||
| Total assets | 717,431 | |||||||||||
| Liabilities | ||||||||||||
| Convertible debt, net of discount of $14,978 | - | 64,522 | - | |||||||||
| Total Liabilities | - | 64,522 | - | |||||||||
| $ | - | $ | (64,522 | ) | $ | 717,431 | ||||||
There were no transfers of financial assets or liabilities between Level 1 and Level 2 inputs for the three months ended March 31, 2012 or the year ended December 31, 2011.
Level 3 assets consist of intangible assets and goodwill. No fair value adjustment was necessary during the three months ended March 31, 2012 or the year ended December 31, 2011.
-13-
Note 6 – Property and Equipment
Property and Equipment consists of the following:
| March 31, | December 31, | |||||||
| 2012 | 2011 | |||||||
| Furniture and fixtures | $ | 2,187 | $ | 2,187 | ||||
| Computers and equipment | 167,283 | 181,459 | ||||||
| Software | 55,029 | 52,326 | ||||||
| Assets held under capital leases | 134,800 | 116,945 | ||||||
| 359,299 | 352,917 | |||||||
| Less accumulated depreciation and amortization | (229,870 | ) | (207,324 | ) | ||||
| $ | 129,429 | $ | 145,593 | |||||
Depreciation and amortization expense totaled $22,546 and $16,310 for the three months ended March 31, 2012 and 2011, respectively.
Note 7 – Intangible Assets
Intangible assets consisted of the following at March 31, 2012 and December 31, 2011, respectively:
| Useful | March 31, | December 31, | ||||||||
| Description | Life | 2012 | 2011 | |||||||
| Technology-based intangible assets - PRMI | 15 Years | $ | 480,720 | $ | 480,720 | |||||
| Technology-based intangible assets - IntelliSys | 5 Years | 200,000 | 200,000 | |||||||
| Technology-based intangible assets - K9 Bytes | 5 Years | 42,000 | 42,000 | |||||||
| Technology-based intangible assets – MS Health | 5 Years | 124,000 | - | |||||||
| Contracts – MS Health | 6 Years | 258,000 | - | |||||||
| Trade name - K9 Bytes | 5 Years | 22,000 | 22,000 | |||||||
| Other intangible assets – MS Health | 2 Years | 18,000 | - | |||||||
| Other intangible assets - K9 Bytes | 2 Years | 26,000 | 26,000 | |||||||
| Total intangible assets | 1,170,720 | 770,720 | ||||||||
| Less: accumulated amortization | (218,584 | ) | (194,122 | ) | ||||||
| Intangible assets, net | $ | 952,136 | $ | 576,598 | ||||||
Amortization expense on intangible assets totaled $24,462 and $10,733 for the three months ended March 31, 2012 and 2011, respectively.
Note 8 – Line of Credit
On February 16, 2012, Epazz obtained a line of credit of $50,000 from a bank. The outstanding balance on the line of credit bears interest at an introductory rate of 4.25% for the first year, subject to renewal thereafter. Payments of $739 are due monthly. At March 31, 2012 the balance due on this unsecured loan was $49,950.
Note 9 – Capital Lease Obligations Payable
The Company leases certain equipment under agreements that are classified as capital leases as follows:
Lease #1 - Commenced on March 12, 2010 with monthly lease payments of $2,238 and two months paid in advance, and the remaining payments paid over the next 43 months.
Lease #2 – Commenced on March 16, 2010 with monthly lease payments of $2,221 over 36 months.
Lease #3 – Commenced on January 12, 2012 with monthly lease payments of $480 over the next 48 months, and a bargain purchase price of $1 at the end of the lease.
-14-
The cost of equipment under capital leases is included in the Balance Sheets as property and equipment and was $134,800 and $116,945 at March 31, 2012 and December 31, 2011, respectively. Accumulated amortization of the leased equipment at March 31, 2012 and December 31, 2011 was $83,485 and $75,284, respectively. Amortization of assets under capital leases is included in depreciation and amortization expense.
The future minimum lease payments required under the capital leases and the present value of the net minimum lease payments as of March 31, 2012, are as follows:
| Twelve Months | |||
| Ending | |||
| March 31, | Amount | ||
| 2012 | 62,172 | ||
| 2013 | 62,172 | ||
| 2014 | 42,500 | ||
| 2015 | 5,500 | ||
| 2016 | 5,500 | ||
| Total minimum payments | $ | 177,844 | |
| Less: amount representing interest | (117,478) | ||
| Present value of net minimum lease payments | 60,366 | ||
| Less: Current maturities of capital lease obligations | (47,500) | ||
| Long-term capital lease obligations | $ | 12,866 | |
Note 10 – Notes Payable, Related Parties
Notes payable, related parties consist of the following at March 31, 2012 and December 31, 2011, respectively:
| March 31, | December 31, | |||||||
| 2012 | 2011 | |||||||
| Various unsecured promissory notes carrying a 15% interest rate, due on demand from the Company’s CEO. | $ | 78,092 | $ | 61,513 | ||||
| Unsecured promissory note payable owed to an immediate family member of the Company’s CEO carries a 15% interest rate, matured on July 31, 2007. Currently in default. | 34,700 | 34,700 | ||||||
| Unsecured promissory note payable owed to a Company owned by an immediate family member of the Company’s CEO carries a 15% interest rate, matured on July 31, 2007. Currently in default. | 12,085 | 12,085 | ||||||
| Secured promissory note originated on June 4, 2008 due to Star Financial Corporation, which is owned by Fay Passley, the mother of the Company’s CEO, Shaun Passley, which has since been amended. The loan bears interest at 10%. In April 2010, Star Financial, agreed to modify the repayment terms of the June 2008 Note (as defined above), to provide for $100,000 to be due on August 1, 2011, $100,000 to be due on August 1, 2012, and the remaining balance of the June 2008 Note to be due on August 1, 2013 in return for junior lien on the Company’s assets. Currently in default. | 296,103 | 296,103 | ||||||
| Total notes payable, related parties | 420,981 | 404,401 | ||||||
| Less: current portion | 420,981 | 404,401 | ||||||
| Notes payable, related parties, less current portion | $ | - | $ | - | ||||
The Company recorded interest expense on notes payable to related parties in the amounts of $13,449 and $10,500 during the three months ended March 31, 2012 and 2011, respectively.
-15-
Note 11 – Convertible Debt
Convertible debt consists of the following at March 31, 2012 and December 31, 2011, respectively:
| March 31, | December 31, | |||||||
| 2012 | 2011 | |||||||
| Unsecured $50,000 convertible promissory note carries an 8% interest rate (“First Asher Note”), matured on February 28, 2012. The principal is convertible into shares of common stock at the discretion of the note holder at a price equal to fifty-nine percent (59%) of the average of the five lowest trading bid prices of the Company’s common stock for the ten (10) trading days prior to the conversion date, or $0.00009 per share, whichever is greater. The note carries a twenty two percent (22%) interest rate in the event of default, and the debt holder is limited to owning 4.99% of the Company’s issued and outstanding shares. The note holder converted $10,000 and $8,000 of principal into 1,075,269 and 451,977 shares of common stock during the three months ended March 31, 2012 and the year ended December 31, 2011, respectively. Currently in default. | $ | 32,000 | $ | 42,000 | ||||
| Unsecured $37,500 convertible promissory note carries an 8% interest rate (“Second Asher Note”), matured on March 30, 2012. The principal is convertible into shares of common stock at the discretion of the note holder at a price equal to fifty-nine percent (59%) of the average of the five lowest bid prices of the Company’s common stock for the ten (10) trading days prior to the conversion date, or $0.00009 per share, whichever is greater. The note carries a twenty-two percent (22%) interest rate in the event of default, and the debt holder was limited to owning 4.99% of the Company’s issued and outstanding shares. Currently in default. | 37,500 | 37,500 | ||||||
| Total convertible debt | 69,500 | 79,500 | ||||||
| Less: unamortized discount on beneficial conversion feature | - | (14,978 | ) | |||||
| Convertible debt | $ | 69,500 | $ | 64,522 | ||||
In addition, the Company recognized and measured the embedded beneficial conversion feature present in the convertible debts by allocating a portion of the proceeds equal to the intrinsic value of the feature to additional paid-in-capital. The intrinsic value of the feature was calculated on the commitment date using the effective conversion price of the convertible debt. This intrinsic value is limited to the portion of the proceeds allocated to the convertible debt.
The aforementioned accounting treatment resulted in a total debt discount equal to $65,529. The discount is amortized from the dates of issuance until the stated redemption date of the debts, as noted above.
The convertible notes, totaling $87,500 that created the beneficial conversion feature carry default provisions that place a “maximum share amount” on the note holders. The maximum share amount that can be owned as a result of the conversions to common stock by the note holders is 4.99% of the issued and outstanding shares of Epazz.
According to the terms of the Convertible Promissory Notes, the number of shares that would be received upon conversion was 7,315,789 shares at March 31, 2012.
During the three months ended March 31, 2012 and 2011, the Company recorded debt amortization expense in the amount of $14,978 and $-0-, respectively, attributed to the aforementioned debt discount.
During the three months ended March 31, 2012, the Company issued a total of 1,075,269 shares pursuant to debt conversion in settlement of $10,000 of outstanding principal. The principal was converted in accordance with the conversion terms, therefore no gain or loss has been recognized.
On May 27, 2011, we entered into a Securities Purchase Agreement with Asher Enterprises, Inc., pursuant to which we sold to Asher an 8% Convertible Promissory Note in the original principal amount of $50,000. The First Asher Note had a maturity date of February 28, 2012, and is convertible into our common stock at the greater of (i) the Variable Conversion Price and (ii) the Fixed Conversion Price. The “Variable Conversion Price” shall mean 59% multiplied by the Market Price (representing a discount rate of 41%). “Market Price” means the average of the lowest five (5) Trading Prices for the Common Stock during the ten (10) Trading Day period ending on the latest complete Trading Day prior to the Conversion Date. “Fixed Conversion Price” shall mean $0.00009. The shares of common stock issuable upon conversion of the First Asher Note will be restricted securities as defined in Rule 144 promulgated under the Securities Act of 1933. The issuance of the First Asher Note was exempt from the registration requirements of the Securities Act of 1933 pursuant to Rule 506 of Regulation D promulgated thereunder. The purchaser was an accredited and sophisticated investor, familiar with our operations, and there was no solicitation.
-16-
The Company evaluated the First Asher Note and determined that the shares issuable pursuant to the conversion option were determinate due to the Fixed Conversion Price and, as such, does not constitute a derivative liability as the Company has obtained authorization from a majority of shareholders such that should conversion occur at the Fixed Conversion Price the appropriate number of shares will be available or issuable for settlement to occur. The beneficial conversion feature discount resulting from the conversion price of $0.02603 below the market price on May 27, 2011 of $0.056 provided a value of $43,421 of which $7,769 was amortized during the three months ended March 31, 2012.
On June 28, 2011, we entered into a Securities Purchase Agreement with Asher Enterprises, Inc., pursuant to which we sold to Asher an 8% Convertible Promissory Note in the original principal amount of $37,500. The Second Asher Note had a maturity date of March 30, 2012, and is convertible into our common stock at the greater of (i) the Variable Conversion Price and (ii) the Fixed Conversion Price. The “Variable Conversion Price” shall mean 59% multiplied by the Market Price (representing a discount rate of 41%). “Market Price” means the average of the lowest five (5) Trading Prices for the Common Stock during the ten (10) Trading Day period ending on the latest complete Trading Day prior to the Conversion Date. “Fixed Conversion Price” shall mean $0.00009. The shares of common stock issuable upon conversion of the Second Asher Note will be restricted securities as defined in Rule 144 promulgated under the Securities Act of 1933. The issuance of the Second Asher Note was exempt from the registration requirements of the Securities Act of 1933 pursuant to Rule 506 of Regulation D promulgated thereunder. The purchaser was an accredited and sophisticated investor, familiar with our operations, and there was no solicitation.
The Company evaluated the Second Asher Note and determined that the shares issuable pursuant to the conversion option were determinate due to the Fixed Conversion Price and, as such, does not constitute a derivative liability as the Company has obtained authorization from a majority of shareholders such that should conversion occur at the Fixed Conversion Price the appropriate number of shares will be available or issuable for settlement to occur. The beneficial conversion feature discount resulting from the conversion price of $0.01298 below the market price on June 28, 2011 of $0.035 provided a value of $22,108 of which $7,209 was amortized during the three months ended March 31, 2012.
The Company recorded interest expense in the amount of $1,542 and $-0- for the three months ended March 31, 2012 and 2011, respectively related to convertible debts.
Note 12 – Long Term Debt
Long term debt consists of the following at March 31, 2012 and December 31, 2011, respectively:
| March 31, | December 31, | |||||||
| 2012 | 2011 | |||||||
| Consideration for the MS Health acquisition included partial proceeds obtained from a $360,800 Small Business Association (“SBA”) loan, bearing interest at fixed and variable rates. The initial interest rate is 5.5% per year for three (3) years, consisting of the Prime Rate in effect on the first business day of the month in which the SBA loan application was received, plus 2.25%. The loan terms then transition to a variable interest rate over the remaining seven (7) years of the ten (10) year maturity term, calculated at 2.25% above the Prime Rate, as adjusted quarterly. The Company must pay principal and interest payments of $3,916 monthly. The SBA Loan is guaranteed by PRMI, K9 Bytes, Desk Flex, Inc., MS Health and the Company, and secured by the assets of MS Health and the Company. | $ | 360,800 | $ | - | ||||
| Consideration for the MS Health acquisition included an unsecured $100,000 seller financed note payable (“MSHSC Note”), bearing interest at 6% per annum, a ten (10) year amortization, a right of offset, no payments of either principal or interest for two (2) years and equal payments of principal and interest commencing in year 3, no prepayment penalty, and full payment of all amounts due after five (5) years. The MSHSC Note is secured by a security interest over the assets of MS Health. We did not purchase and MSHSC agreed to retain and be responsible for any and all liabilities of MSHSC. | 100,000 | - | ||||||
| On November 7, 2011, DeskFlex entered into a four month $20,000 note payable agreement with On Deck Capital. Payments of $183 are due daily on the loan. The Company paid total initial fees of $500 in connection with the loan, agreed to pay additional fees of $387 per month in servicing fees during the term of the loan and to repay the loan via daily payments of $183. The total payments due on the loan equate to an annual interest rate of 18%. On January 3, 2012, we amended our loan agreement to increase the loan balance by approximately $35,500. The proceeds were received with substantially the same terms as the original debt. | 32,959 | 14,627 | ||||||
| On March 20, 2012, DeskFlex entered into a $25,000 three year promissory note bearing interest at 11%. The promissory note is payable in monthly installments of $843 per month, maturing on March 20, 2015 (the “Maturity Date”). | 24,157 | - | ||||||
| On May 15, 2011 DeskFlex entered into an unsecured $33,478 promissory note with Art Goes which is payable in monthly installments of $2,322, carries a 6% interest rate, maturing on August 15, 2012. | 8,969 | 15,935 | ||||||
| Pursuant to an asset purchase agreement entered into on October 26, 2011, the Company granted K9 Bytes, Inc., a Florida corporation, a subordinated secured $30,750 promissory note carrying a 6% interest rate, payable in monthly installments of $333 per month starting in November 2011 and ending on October 26, 2014, at which time the then remaining balance of the promissory note ($23,017, assuming no additional payments other than those scheduled) is due. The promissory note is secured by a secondary lien on all of the assets of Epazz’s subsidiary, K9 Bytes, Inc., an Illinois corporation formed to house the purchased assets. The promissory note is also personally guaranteed by Shaun Passley, our Chief Executive Officer. | 29,634 | 29,634 | ||||||
-17-
| Unsecured $50,000 promissory note originated on September 15, 2010 between Intellisys and Paul Prahl, payable in monthly installments of $970 carries a 6% interest rate, maturing on September 18, 2015. The Company also agreed to provide Mr. Prahl earn-out rights, which provide that he will receive up to a maximum of $13,350 per year for the three calendar years following the Closing (with the first such calendar year beginning on January 1, 2011), based on the revenues generated by IntelliSys during such applicable year, whereas $6,675 is earned if revenues are between $350,000 and $380,000, $10,012 is earned if revenues are between $380,000 and $395,000, or $13,350 is earned if revenues are greater than $395,000 during each relevant year. | 18,270 | 20,210 | ||||||
| Unsecured term loan between Epazz and Bank of America, originating on June 15, 2011 bearing interest at 9.5% matures on June 17, 2016. Payments of $1,559 are due monthly. | 88,126 | 90,193 | ||||||
| Unsecured promissory note between Epazz and Newtek Finance for $185,000 originating on September 30, 2010 bearing interest at 6% matures on September 30, 2020. Payments of $2,054 are due monthly. | 161,846 | 168,106 | ||||||
| The Company raised funds paid pursuant to an asset purchase agreement with K9 Bytes, Inc., a Florida corporation, on October 26, 2011, through a $235,000 Small Business Association (“SBA”) loan from a third party lender (the “Third Party Lender” and the “SBA Loan”). The SBA Loan has a term of ten (10) years; maturing on October 26, 2021, bearing interest at the prime rate plus 2.75% per annum, adjusted quarterly; is payable in monthly installments (beginning in December 2011) of $2,609 per month; is guaranteed by the Company and personally guaranteed by Shaun Passley, the Company’s Chief Executive Officer; and is secured by all of the assets of K9 Bytes, Inc., the Illinois corporation and wholly-owned subsidiary formed to house the acquired assets and the Company, 100% of the outstanding capital of the K9 subsidiary, and a life insurance policy on Mr. Passley’s life in the amount of $235,000. A total of approximately $10,000 of the amount borrowed under the SBA Loan was used to pay closing fees in connection with the loan, $169,250 was used to pay K9 Bytes the cash amount due pursuant to the terms of the Purchase Contract and the remainder of such loan amount was made available for working capital for the Company and the wholly-owned subsidiary, K9 Bytes, Inc. | 228,101 | 235,928 | ||||||
| Total long term debt | 1,052,862 | 574,633 | ||||||
| Less: current portion | 90,050 | 75,565 | ||||||
| Long term debt, less current portion | $ | 962,812 | $ | 499,068 |
The Company recorded interest expense in the amount of $35,040 and $24,168 for the three months ended March 31, 2012 and 2011, respectively related to long term debt.
Note 13 – Changes in Stockholder’s Equity (Deficit)
Common Stock, Series A
The Company has 60,000,000 authorized shares of $0.01 par value series A common stock.
Common Stock, Series B
The Company has 60,000,000 authorized shares of $0.01 par value series B common stock.
Series A Common Stock Issuances
On March 13, 2012, the Company issued 1,075,269 shares of its $0.01 par value series A common stock pursuant to the partial conversion in the amount of $10,000 of a $50,000 convertible debt, which consisted entirely of principal. The note was converted in accordance with the conversion terms; therefore no gain or loss has been recognized.
Note 14 - Subsequent Events
There were no material subsequent events through the date the financial statements were issued.
-18-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS AND RESULTS OF OPERATIONS
ALL STATEMENTS IN THIS DISCUSSION THAT ARE NOT HISTORICAL ARE FORWARD-LOOKING STATEMENTS. STATEMENTS PRECEDED BY, FOLLOWED BY OR THAT OTHERWISE INCLUDE THE WORDS "BELIEVES", "EXPECTS", "ANTICIPATES", "INTENDS", "PROJECTS", "ESTIMATES", "PLANS", "MAY INCREASE", "MAY FLUCTUATE" AND SIMILAR EXPRESSIONS OR FUTURE OR CONDITIONAL VERBS SUCH AS "SHOULD", "WOULD", "MAY" AND "COULD" ARE GENERALLY FORWARD-LOOKING IN NATURE AND NOT HISTORICAL FACTS. THESE FORWARD-LOOKING STATEMENTS WERE BASED ON VARIOUS FACTORS AND WERE DERIVED UTILIZING NUMEROUS IMPORTANT ASSUMPTIONS AND OTHER IMPORTANT FACTORS THAT COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THOSE IN THE FORWARD-LOOKING STATEMENTS. FORWARD-LOOKING STATEMENTS INCLUDE THE INFORMATION CONCERNING OUR FUTURE FINANCIAL PERFORMANCE, BUSINESS STRATEGY, PROJECTED PLANS AND OBJECTIVES. THESE FACTORS INCLUDE, AMONG OTHERS, THE FACTORS SET FORTH BELOW UNDER THE HEADING "RISK FACTORS." 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. MOST OF THESE FACTORS ARE DIFFICULT TO PREDICT ACCURATELY AND ARE GENERALLY BEYOND OUR CONTROL. WE ARE UNDER NO OBLIGATION TO PUBLICLY UPDATE ANY OF THE FORWARD-LOOKING STATEMENTS TO REFLECT EVENTS OR CIRCUMSTANCES AFTER THE DATE HEREOF OR TO REFLECT THE OCCURRENCE OF UNANTICIPATED EVENTS, EXCEPT AS PROVIDED BY LAW. READERS ARE CAUTIONED NOT TO PLACE UNDUE RELIANCE ON THESE FORWARD-LOOKING STATEMENTS. REFERENCES IN THIS FORM 10-Q, UNLESS ANOTHER DATE IS STATED, ARE TO MARCH 31, 2012. AS USED HEREIN, THE “COMPANY,” “EPAZZ,” “WE,” “US,” “OUR” AND WORDS OF SIMILAR MEANING REFER TO EPAZZ, INC., AND INCLUDE EPAZZ’S WHOLLY OWNED SUBSIDIARIES, DESK FLEX, INC., AN ILLINOIS CORPORATION (“DFI”), PROFESSIONAL RESOURCE MANAGEMENT, INC., AN ILLINOIS CORPORATION, INTELLISYS, INC., A WISCONSIN CORPORATION ("INTELLISYS"), K9 BYTES, INC., AN ILLINOIS CORPORATION (“K9 BYTES”) AND MS HEALTH, INC., AN ILLINOIC CORPORATION (“MS HEALTH”), UNLESS OTHERWISE STATED, OR THE CONTEXT SUGGESTS OTHERWISE.
Business Overview
The Company was incorporated in the State of Illinois on March 23, 2000, to create software to help college students organize their college information and resources. The idea behind the Company was that if the information and resources provided by colleges and universities was better organized and targeted toward each individual, the students would encounter a personal experience with the college or university that could lead to a lifetime relationship with the institution. This concept is already used by business software designed to retain relationships with clients, employees, vendors and partners.
The Company developed a web portal infrastructure operating system product called BoxesOS v3.0. BoxesOS provides a web portal infrastructure operating system designed to increase the satisfaction of key stakeholders (students, faculty, alumni, employees, and clients) by enhancing the organizational experience through the use of enterprise web-based applications to organize their relationships and improve the lines of communication. BoxesOS decreases an organization’s operating expenses by providing development tools to create advanced web applications. The applications can be created by non-technical staff members of each institution. BoxesOS creates sources of revenue for Alumni Associations and Non-Profit organizations through utilizing a web platform to conduct e-commerce and provides e-commerce tools for small businesses to easily create "my accounts" for their customers. It further reduces administrative costs, by combining technology applications into one package, providing an alternative solution to enterprise resource planner (“ERP”) modules and showing a return on investment for institutions by reducing the need for 3rd party applications license fees. BoxesOS can also link a college or university’s resources with the business community by allowing businesses to better train their employees by utilizing courseware development from higher education institutions.
On or about June 18, 2008, the Company entered into a Stock Purchase Agreement (the “Purchase Agreement”) with Desk Flex, Inc., an Illinois corporation (“DFI”), Professional Resource Management, Inc., an Illinois corporation (“PRMI” and collectively with DFI, the “Target Companies”) and Arthur A. Goes, an individual and the sole stockholder of the Target Companies. The Purchase Agreement consummated the transactions contemplated by the February 25, 2008, non-binding letter of intent (the “Letter of Intent”) the Company entered into, to acquire 100% of the outstanding shares of the Target Companies. Pursuant to the Purchase Agreement, the Company agreed to purchase 100% of the outstanding shares of the Target Companies for an aggregate purchase price of $445,000 (the “Purchase Price”). The Purchase Price was payable as follows:
| (a) | Mr. Goes retained the $10,000 originally paid by the Company in connection with the parties’ entry into the Letter of Intent; | |
| (b) | The Company paid Mr. Goes $210,000 in cash (the “Cash Consideration”) at the Closing (as defined below) of the Purchase Agreement; and | |
| (c) | The Company provided Mr. Goes with a 7% Promissory Note in the amount of $225,000 (the “Note”), described in greater detail below. |
-19-
Additionally, the Company agreed to assume an aggregate of approximately $15,475 in outstanding liabilities of DFI and PRMI in connection with the Closing.
The Purchase Agreement closed on June 18, 2008 (“Closing”), at which time Mr. Goes delivered to the Company, 2,000 shares of DFI stock, representing 100% of the issued and outstanding shares of DFI, and 1,000 shares of PRMI stock, representing 100% of the issued and outstanding shares of PRMI. Also at Closing, the Company delivered the Cash Consideration and the Note to Mr. Goes. As a result of the Closing, DFI and PRMI became wholly-owned subsidiaries of the Company.
The Note accrued interest at the rate of seven percent (7%) per annum and was payable in monthly installments of $6,947.35 (each a “Monthly Payment”), with the first such Monthly Payment due on September 18, 2008, until such time as the Note was paid in full, which Note was paid in full during the three months ended March 31, 2012.
Professional Resource Management, Inc. and Desk Flex, Inc.
Professional Resource Management, Inc. was incorporated under the laws of Illinois in June 1985. On or around December 31, 1997, Professional Resource Management, Inc. established a wholly-owned subsidiary, PRM Transfer Corp. On or around December 31, 1997, Professional Resource Management, Inc., PRM Transfer Corp. and Arthur Goes entered into a Reorganization Agreement, whereby Professional Resource Management, Inc. transferred all of its assets and liabilities to PRM Transfer Corp., with the exception of those assets pertaining to its proprietary source code or software product, Desk/Flex. Also pursuant to the Reorganization Agreement, Professional Resource Management, Inc. amended its corporate charter to change its name to Desk Flex, Inc. (“DFI”), and PRM Transfer Corp. amended its charter to change its name to Professional Resources Management, Inc. (“PRMI”). The transfer was effected in an effort by Mr. Goes to better promote the Desk/Flex product.
PRMI and DFI are separate legal entities, but operate in conjunction. PRMI and DFI share office space and certain employees. DFI’s main source of revenue comes from the “Desk/Flex Software” product, which it owns, and PRMI’s main source of revenue comes from the “Agent Power” product line, which it owns. PRMI also acts as the general agent for DFI; however, there is no formal agency agreement between the two companies.
Autohire Software
Effective February 1, 2010, the Company entered into a Software Product Asset Purchase Agreement (the “Software Rights Agreement”) with Igenti, Inc., a Florida corporation (“Igenti”) to acquire the rights to Igenti’s AutoHire software, domain names, permits, customers, contracts, know-how, equipment, software programs, receivables totaling approximately $10,000 and the intellectual property of Igenti associated therewith (the “AutoHire Software”). The Company did not purchase or assume any of Igenti’s liabilities in connection with the Software Rights Agreement. The purchase price for the AutoHire Software was $170,000 payable as follows:
1) $120,000 in cash at the closing (which occurred February 1, 2010); and
2) $50,000 in the form of a promissory note (the “Igenti Note), which has been paid to date.
IntelliSys, Inc. Purchase
On or about September 2, 2010, the Company entered into a Stock Purchase Agreement (the “IntelliSys Purchase Agreement”) with IntelliSys, Inc., a Wisconsin corporation (“IntelliSys”) and Paul Prahl, an individual and the sole stockholder of IntelliSys. Pursuant to the IntelliSys Purchase Agreement, the Company purchased 100% of the outstanding shares of IntelliSys from Mr. Prahl, for an aggregate purchase price of $175,000 (the “Purchase Price”). The Purchase Price was payable as follows:
| (a) | The Company paid Mr. Prahl $125,000 in cash (the “Cash Consideration”) at the Closing (as defined below) of the IntelliSys Purchase Agreement; and | |
| (b) | The Company provided Mr. Prahl with a 6% Promissory Note in the amount of $30,816 (the “IntelliSys Note”), described in greater detail below. |
Additionally, the Company agreed to assume an aggregate of approximately $47,794 in outstanding liabilities of IntelliSys in connection with the Closing.
The IntelliSys Purchase Agreement closed on March 31, 2011 (“Closing”). As a result of the Closing, IntelliSys became a wholly-owned subsidiary of the Company.
-20-
The Company also agreed to provide Mr. Prahl earn-out rights in connection with the purchase, which provide that he will receive up to a maximum of $13,350 per year for the three calendar years following the Closing (with the first such calendar year beginning on January 1, 2011), based on the revenues generated by IntelliSys during such applicable year based on the following schedule (the “Earn-Out”):
| Revenue for the Relevant Year | Earn-Out | |||||
| $ | -0- to $350,000 | $ | - | |||
| $ | 350,000 to $380,000 | $ | 6,675 | |||
| $ | 380,000 to $395,000 | $ | 10,012 | |||
| $395,000 or more | $ | 13,350 | ||||
Provided that in no event shall the total amount payable to Mr. Prahl in connection with the Earn-Out exceed $13,350 per year or $40,050 in aggregate.
IntelliSys Note
The IntelliSys Note bears interest at the rate of six percent (6%) per annum, and all past-due principal and interest (which failure to pay such amounts after a fifteen (15) day cure period, shall be defined herein as an “Event of Default”) bear interest at the rate of ten percent (10%) per annum until paid in full. The IntelliSys Note, also provides that the Company shall have two additional fifteen (15) day cure periods during the term of the IntelliSys Note resulting in two thirty (30) day cure periods before an Event of Default occurs.
The principal amount of the IntelliSys Note is due on September 18, 2015. The IntelliSys Note is payable in 60 monthly installments of $555.10 (each a “Monthly Payment”), with the first such Monthly Payment due on September 15, 2010, and by way of a balloon payment of the remaining amount due on the due date of the IntelliSys Note, subject to the requirements of the Third Party Lender Note (described below). Provided, however, that if the total amount due under the IntelliSys Note is less than any Monthly Payment, the Company shall only be obligated to pay the remaining balance of the IntelliSys Note. The IntelliSys Note may be prepaid at any time without penalty.
Additionally, the Company agreed to secure the payment of the IntelliSys Note with a Uniform Commercial Code Security Interest filing, which the Company agreed to file, at Mr. Prahl’s request, at the Company’s expense, to grant Mr. Prahl a security interest over all of IntelliSys’ tangible and intangible assets, and the outstanding stock of IntelliSys until the IntelliSys Note is repaid, which security interest is junior to the Third Party Lender Note (described below).
Third Party Lender Note
On March 31, 2011, the Company obtained a $185,000 U.S. Small Business Association Loan from Third Party Lender (the “Third Party Lender Note” and “Third Party Lender”). The Third Party Lender Note bears interest at the rate of the Prime Rate in effect from time to time plus 2.75% (which has an initial interest rate of 6% per annum). The Company agreed to repay the Third Party Lender Note at the rate of $2,053.88 per month, beginning in November 2010. The Third Party Lender Note is due and payable on September 30, 2020. The repayment of the Third Party Lender Note is secured by a security interest over substantially all of the Company’s property, including, but not limited to the stock of IntelliSys which was purchased in connection with the IntelliSys Purchase Agreement. Additionally, the Third Party Lender Note is guaranteed by Shaun Passley, our Chief Executive Officer and Director, related parties, PRMI and DFI. The Third Party Lender Note is also secured by a mortgage on the properties of related parties and Shaun Passley. Mr. Prahl in connection with the IntelliSys Note and Shaun Passley in connection with amounts owed to him by the Company, agreed to accept no further payments on such debts until Third Party Lender is paid in full. Finally, Shaun Passley agreed to further secure the Third Party Lender Note with the proceeds of a personal insurance policy, equal at least to the amount of the Third Party Lender Note. An aggregate of $125,000 received in connection with the Third Party Lender Note was used to pay Mr. Prahl the Cash Consideration due under the IntelliSys Purchase Agreement, $50,000 was used for working capital, and $10,000 was paid in closing costs associated with the note.
MB Financial Note
On January 1, 2011, the Company entered into a three month $14,400 loan payable agreement with MB Financial. Payments and interest of 13% are due monthly until the note is paid in full. On March 31, 2012, the balance of this loan is $1,011.
Convertible Note Fundings
On May 27, 2011, the Company entered into a Securities Purchase Agreement with Asher Enterprises, Inc. (“Asher”), pursuant to which Asher agreed to purchase an 8% convertible promissory note in the amount of $50,000 (the “Convertible Note”) from the Company, which provides Asher the right to convert the outstanding balance (including accrued and unpaid interest) of such Convertible Note into shares of the Company’s common stock at a conversion price equal to 59% of the average of the five lowest trading prices of the Company’s common stock during the ten trading days prior to such conversion date, at any time after the expiration of 180 days from the date such Convertible Note was issued. The Convertible Note, which accrues interest at the rate of 8% per annum, is payable, along with interest thereon on February 28, 2012. In the event any principal or interest is not timely paid, such amount accrues interest at 22% per annum until paid in full. Asher is prohibited from converting the Convertible Note into shares of the Company’s common stock to the extent that such conversion would result in Asher beneficially owning more than 4.99% of the Company’s common stock, subject to 61 days prior written notice to the Company from Asher of Asher’s intention to waive or modify such provision. The Company can repay the Convertible Note prior to maturity (or conversion), provided that it pays 135% of such note (and accrued and unpaid interest thereon) if the note is repaid within the first 90 days after the issuance date; 140% of such note (and accrued and unpaid interest thereon) if the note is repaid during the period which is 91 and 120 days after the issuance date; 145% of such note (and accrued and unpaid interest thereon) if the note is repaid during the period which is 121 and 150 days after the issuance date; and 150% of such note (and accrued and unpaid interest thereon) if the note is repaid during the period which is 151 days and prior to 180 days after the issuance date. After 180 days have elapsed from the issuance date the Company has no right to repay the Convertible Note.
-21-
On June 28, 2011, the Company sold Asher an additional 8% Convertible Note in the amount of $37,500 on substantially similar terms as the Convertible Note described in the paragraph above (collectively the “Convertible Notes”), except that the maturity date of such note was March 30, 2012.
On Deck Capital Loan
On September 23, 2011, the Company entered into a six month $25,000 note payable agreement with On Deck Capital (the “On Deck Note”). The Company paid total initial fees of $3,322 in connection with the loan, agreed to pay additional fees of $387 per month in servicing fees during the term of the loan and to repay the loan via daily payments of $231. The total payments due on the loan equate to an annual interest rate of 38%. As of March 31, 2012, the balance of the loan was $23,450.
K9 Bytes Acquisition
On October 26, 2011, we, through a newly-formed wholly-owned Illinois subsidiary, K9 Bytes, Inc. (“K9 Sub”), entered into an Asset Purchase Contract and Receipt Agreement with K9 Bytes, Inc., a Florida corporation (“K9 Bytes” and the “Purchase Contract”). Pursuant to the Purchase Contract, we purchased all of K9 Bytes assets, including all of its intellectual property, its business trade name, website (k9bytessoftware.com), furniture, fixtures, equipment and inventory, accounts receivable and goodwill in consideration for an aggregate of $205,000, of which $175,000 was paid in cash at the closing and $30,000 was paid by way of a Balloon Installment Promissory Note (the “K9 Note”). We did not purchase and K9 Bytes agreed to retain and be responsible for any and all liabilities of K9 Bytes. We agreed to indemnify and hold K9 Bytes harmless against, among other things, any claims and liability associated with the future operations of the assets purchased pursuant to the Purchase Contract and K9 Bytes agreed to indemnify and hold us harmless against any misrepresentations made by K9 Bytes in the Purchase Contract; any failure of K9 Bytes to perform any required term or condition of the Purchase Contract and any debts or other obligations of K9 Bytes not specifically assumed pursuant to the Purchase Contract in excess of $2,000.
The K9 Note accrues interest at 6% per annum and is payable in monthly installments of $333 per month starting in November 2011 and ending on October 26, 2014, at which time the then remaining balance of the K9 Note ($23,017, assuming no additional payments other than those scheduled) is due. The repayment of the K9 Note is secured by all of the securities of K9 Sub, which owns all of the assets purchased as a result of the Purchase Contract, provided that Third Party Lender, as a result of the SBA Loan described below, has a first priority security interest to such securities. The K9 Note is also personally guaranteed by Shaun Passley, our Chief Executive Officer.
We raised the funds paid to K9 Bytes in connection with the Purchase Contract through a $235,000 Small Business Association loan obtained by K9 Sub from the Third Party Lender (the “SBA Loan”). The SBA Loan has a term of ten (10) years; bears interest at the prime rate plus 2.75% per annum (currently 6%), adjusted quarterly; is payable in monthly installments (beginning in December 2011) of $2,609 per month; is guaranteed by the Company and personally guaranteed by Shaun Passley, the Company’s Chief Executive Officer; and is secured by all of the assets of K9 Sub and the Company, 100% of the outstanding capital of K9 Sub which is held by the Company, and a life insurance policy on Mr. Passley’s life in the amount of $235,000. A total of approximately $10,000 of the amount borrowed under the SBA Loan was used to pay closing fees in connection with the loan, $175,000 was used to pay K9 Bytes the cash amount due pursuant to the terms of the Purchase Contract and $50,000 of such loan amount was made available for working capital for the Company and K9 Bytes Illinois.
K9 Bytes agreed to subordinate the K9 Note to Third Party Lender’s rights under the SBA Loan. Additionally, Mr. Passley agreed to subordinate the amount he is owed by the Company to the repayment of SBA Loan.
In connection with the Purchase Contract, the owner of K9 Bytes and the Company (through K9 Sub) entered into a Consulting Agreement, pursuant to which the owner of K9 Bytes agreed to provide part-time consulting services to the Company for a period of four weeks following closing and provide additional consulting services as requested by the Company for up to an additional 30 days at the rate of $75 per hour. The owner of K9 Bytes and the Company also entered into an Agreement Not to Compete, pursuant to which such owner agreed not to compete against the Company for three years and four weeks from the closing of the Purchase Contract.
-22-
MS Health Software Corporation, Asset Purchase Acquisition
On March 8, 2012, we, through a newly-formed wholly-owned Illinois subsidiary, MS Health, Inc. (“MS Health”), entered into an Asset Purchase Agreement with MS Health Software Corporation, a New Jersey corporation (“MSHSC”). Pursuant to the Purchase Agreement, we purchased all of MSHSC’s assets, including all of its intellectual property, its business trademarks and copyrights, furniture, fixtures, equipment and software in consideration for an aggregate of $500,000, of which $39,200 was paid in cash at the closing, $360,800 was financed using a small business loan and $100,000 was paid by way of a Promissory Note (the “MSHSC Note”). The terms of the MSHSC Note include interest at 6% per annum, a ten (10) year amortization, a right of offset, no payments of either principal or interest for two (2) years and equal payments of principal and interest commencing in year 3, no prepayment penalty, and full payment of all amounts due after five (5) years. The MSHSC Note is secured by a security interest over the assets of MS Health. We did not purchase and MSHSC agreed to retain and be responsible for any and all liabilities of MSHSC. The acquisition was financed in part with a $360,800 Small Business Administration (“SBA”) loan, bearing interest at fixed and variable rates. The initial interest rate is 5.5% per year for three (3) years, consisting of the Prime Rate in effect on the first business day of the month in which the SBA loan application was received, plus 2.25%. The loan terms then transition to a variable interest rate over the remaining seven (7) years of the ten (10) year maturity term, calculated at 2.25% above the Prime Rate, as adjusted quarterly. The Company must pay principal and interest payments of $3,916 monthly. The SBA Loan is guaranteed by PRMI, K9 Bytes, Desk Flex, Inc., MS Health and the Company, and secured by the assets of MS Health and the Company.
MSHSC developed and sells CHMCi, an enterprise wide solution that includes tools to effectively provide, manage, bill, and track behavioral healthcare and social services. With CMHCi, an organization will realize the benefits of increased efficiency, accountability, and productivity. CMHCi offers server-based, internet, and secure cloud computing enabling the user to access information as required. By maintaining a complete electronic client record, including data collection and reporting across multiple programs, locations, episodes of care, and service providers, CMHCi helps eliminate redundant record keeping. The scheduler component tracks client, staff, and group appointments. Easy to use, it interfaces seamlessly with service authorization tracking, service history, and billing. The integrated financial reporting component provides the basis for an efficient and comprehensive accounting system, including electronic claims and remittance, third party insurance, and client, municipality, and grantor billing.
In connection with the Asset Purchase, the shareholders of MSHSC and the Company (through MS Health) entered into a Covenant Not to Compete; Consulting Agreement, Non-Competition and Consulting Agreement, pursuant to which the shareholders of MSHSC agreed to provide consulting services to the Company for a period of six months following closing. Pursuant to the agreement, the shareholders of MSHSC agreed not to compete against the Company for two years from the closing of the acquisition.
Our Products
The Company currently offers five primary product lines. The EPAZZ BoxesOS v3.0 product is offered through EPAZZ, Inc., the Desk/Flex Software product is offered through Desk Flex, Inc., the Agent Power product is offered through Professional Resource Management, Inc. and the Company also offers the AutoHire software described below. Additionally, as described above, subsequent to March 31, 2011, the Company offers products through IntelliSys, described below. As of October 2011, the Company also offers the K9 Koordinator Software described above, the rights to which the Company acquired as a result of the Purchase Contract.
Epazz BoxesOS v3.0
Epazz BoxesOS v3.0 (Web Infrastructure Operating System) is the Company's flagship product. It is the core package of Epazz, Inc.’s products and services. Epazz BoxesOS integrates with each organization's back-end systems and provides a customizable personal information system for each stakeholder.
Services include:
| · | Single sign-on: Provides a powerful single-sign-on with security procedure to protect users' information and identity. |
| · | Course Management System: Manage distance, traditional courses and Calendar. |
| · | Enterprise Web Site Content Management: Manage public sites with multi contributors. |
| · | Integration Management Services: Integrated into Enterprise Resource Planning (“ERP”) and Mainframes. |
| · | Email Management: Email server and web client. |
| · | Instant Messenger Services: Instant messaging and alerts. |
| · | Customer Relationship Management: Prospective students and alumni. |
| · | Calendar/Scheduler Management: Event directory, groupware, and personal calendar. |
| · | Administrative Support Services: Online payment services. |
| · | Business Services: Facility Management and Online Bookstore. |
-23-
BoxesOS software provides:
Web Portal Component
BoxesOS Web Portal Component is a gateway to all of an organization’s online services and information resources. The Web Portal Component provides a Personal Information System, which refers to the user's entire online environment - the user’s resources, information, graphics, color, layout, and organization. All resources are customizable. The Web Portal Component simplifies organizations’ ability to create and deploy custom web applications with a common graphic user interface and connectivity to the back-end systems.
Administrative Content Management
BoxesOS Content Management Component provides an organization with enterprise level tools for creating, managing, organizing, archiving and sharing content. Content can be delivered in many forms such as web pages, emails, polls, documents, web forms, rich site summaries (“RSS”), and “hot news.” The Content Management Component enables staff members with little technical skills to create web pages and processes without having any programming skills.
Work Hub
Work Hub provides a host of applications that can empower an organization to increase productivity while decreasing costs. Work Hub helps to manage work flow throughout an organization. Senior management is able to view a document for approval before it is sent out to a client. A company can view all projects of the enterprise in one page. Some of the applications in Work Hub are products/services management, project management, invoice management, time management, content management and sales management. Work Hub has clear graphic charts with detail reports on many areas.
Central Repository
BoxesOS Central Knowledge Repository is a collection and indexing of shareable content. Central Knowledge Repository installs a server index application on the Windows 2003 platform to identify an organization’s current knowledge assets. All knowledge assets will be imported into a storage device. The server index application will import the knowledge assets into a temporary folder before moving into a main folder. The server index application will prompt the organization’s administrators to add detailed information about the knowledge assets into the database by using a web form. These forms will allow the administrators to add custom fields; therefore, allowing the organization to add custom information to the database in the present and at a future date. The organization would be able to group their knowledge objects by program, course, subject, topic, users, content, or date.
ViewPoint
ViewPoint is BoxesOS central communication hub, calendaring, contact management and scheduling system. ViewPoint works with or can be used as an alternative to MS Outlook/MS Exchange Server. The web applications provide the institution with an extensive range of options including communication system email web client and an email server. Email applications provide features you would find on popular web-based e-mail providers. ViewPoint provides robust threaded discussion boards and a “chatting” environment. ViewPoint provides each user with a personal calendar, which notifies users of scheduling conflicts and appointments priorities. ViewPoint makes it easy to create group calendars and public calendars. With the ViewPoint scheduling system users are able to schedule group meetings together. The scheduling system will view each user's calendar to see the next available time and date the group can meet.
Learning Management System
BoxesOS My Courses is an extensive application for learning management, and e-learning. My Courses is an effective means for managing traditional courses, distance learning courses, and self-paced courses. My Courses is a powerful communication tool that can be effectively used by students, instructors, employees and corporate trainers to make information flow easily, clearly and faster. My Courses provides a robust grade book, powerful authoring content tools, easy to use drop box, sharable folders, wide-ranging course calendar and many more features all designed to provide customization to key stakeholders. Organizations will be able to train their employees on systems using My Courses self-paced settings, as well as test candidates on their skill sets before they are hired.
Single Sign-on
Single Sign-on provides organizations the ability to log into multiple systems with a single unique username and password. The username and password authenticates the user’s credentials to make sure the person who is accessing the data is authorized to. BoxesOS uses Microsoft Active Directory Identity Management to accomplish single sign on. Microsoft Active Directory allows institutions to centrally manage and share user information. Active Directory also acts as the single sign on point for bringing systems and applications together. BoxesOS user management integrates with Active Directory.
-24-
Pathways Real-time Integration
EPAZZ Pathways is an integration suite enabling real-time connectivity with ERP and Legacy systems. Pathways integration suite allows organizations to retrieve data from ERPs and write data back to ERPs in real-time.
AutoHire Software
The AutoHire system provides a tool to power career centers, post job ads to sites and job boards, and to collect resumes online. The online processes supported by the system provide the mechanism to comply with the record keeping requirements of Title VII of the Civil Rights Act of 1964, which apply to organizations employing 15 or more persons.
One of the most useful features of the AutoHire system is the interactive question and online screening and ranking system. The interactive question system provides a means for the client to maintain their own library of questions and to attach selected questions to job opportunities posted. Responses obtained can be used to screen and rank candidates to permit hiring managers to focus their attention on only the most suitable candidates. We believe that result can have a substantial impact on the cost of recruiting and the quality of candidates selected.
By attaching interactive questions to job opportunities posted clients can collect information not typically presented in a resume. The additional information can often replace the initial interview process. Questions can be multiple choice or narrative.
Desk Flex Software
DFI developed the Desk/Flex Software (“Desk/Flex”) to enhance the value of businesses’ real estate investments and modernize their office space. Desk/Flex lets businesses make better use of office space restrictions by enabling employees to instantly access their workstation tools from multiple areas in and outside of the office. Desk/Flex lets employees reserve space in advance or claim space instantly. It adjusts the telephone switch (Private Branch Exchange or “PBX”) so that calls ring at the 'desk du jour', or go directly to voice mail when a worker is not checked in.
Key Features of Desk/Flex include:
Quick and Easy Check-In - Check-in and Check-out to a workstation takes less than 8 seconds, and advance reservations take only a few seconds more.
Point-and-Click Floor Maps - Desks that are available are identified by green dots. Those that are in use are identified by red. An employee needs only to click or touch (using an optional touch-screen) a green dot to select his or her desk.
PBX Interaction - Desk/Flex connects to an employee’s Nortel, Avaya or Cisco PBX to ensure that the employee has phone access at his or her desk; the message waiting light becomes operational; outside calls can be made only after checking in; and an employee is automatically checked out overnight if he or she leaves a workstation without checking out.
Web Browser and Local "Kiosk" Access - On site, the Desk/Flex kiosk(s) makes it easy to select a vacant desk near a co-worker or centrally located at the office. Even before leaving home a worker with access to the company intranet can reserve a desk or locate a co-worker at any desk in the company’s office via a web browser.
Advance Reservations - Workers can easily choose and reserve workspaces ahead of time for a particular date or range of dates.
Occupancy Reports - Management reports allow accurate measures of occupancy in total or by type of desk so the total number or mix of desks can be adjusted to meet client demand and save more office space expense in future months.
Desk/Flex is responsive to office size and needs, servicing small to large businesses. Desk/Flex can be configured to administer a single site or multiple sites locally or remotely. Desk/Flex has full integration capabilities with both Nortel and Avaya, which combined represent the majority of the telecommunications and inbound automatic call distributor (“ACD”) market.
Agent Power Software
Agent Power Software (“Agent Power”) is PRMI’s proprietary software line. PRMI believes Agent Power provides vital information and tools for call centers to help improve their workforce management. Historical, real-time, and forecast information is available at the touch of a button to plan, control, and monitor a business’s call center. Coordinated stand-alone modules allow a company to develop employee schedules, track queue and agent performance, communicate this information with the company’s agents and improve workforce management.
-25-
Agent Power is a suite of six (6) applications. Each can operate on a stand-alone basis, or can work in conjunction with the other applications. The applications feature the following workforce management components:
| · | Planning and Scheduling; |
| · | Agent Adherence; |
| · | Agent Performance; |
| · | ACD Group Performance; |
| · | Real-Time Agent Status; and |
| · | Info Screen. |
All modules of Agent Power have full integration capabilities with Nortel, Avaya, and ROLM ACDs, and the Planning and Scheduling module works with any modern ACD system.
IntelliSys Software
IntelliSys developed the IPMC Software (“IPMC”)(Integrated Plant Management Control) which is a software system design for water and wastewater facility management. IPMC is the technology-based strategy for optimizing operations by automatically collecting, managing, organizing and disseminating information for the operations, management, laboratory, maintenance, and engineering functions.
SystemView
SystemView displays the system processes and lets users control the system in real time. It displays alarms, equipment status, summary accumulated and trend data.
Features
| · | The Alarm/Event Journal records all alarms and status changes and has the flexibility to query history based on tag names and time ranges. |
| · | Smart Server provides communication with process control and automatic collections of data. It is designed to normalize data, accumulate and summarize statistics for the plant management and maintenance systems. |
| · | Rapid application development tools dramatically reduce system development time. Development tools are included with all applications. |
MaintenanceView
MaintenanceView provides the traditional functional functionality of a comprehensive maintenance management system including:
| · | Fixed asset and rotating equipment. |
| · | Preventive scheduling and predictive reports and charts. |
| · | Work order management. |
| · | Inventory and purchasing. |
| · | Manufacture and vendor records. |
| · | Parts inventory. |
Features
| · | Ability to track maintenance costs by center, department, and location. |
| · | Ability to customize user interface sorting by location, equipment type, department, cost center, manufacturer or vendor. |
| · | Ability to customize reports using MS Excel compatible spreadsheets to accommodate users’ specific needs. |
Report View
Report View provides users with a historic picture of the operation of their plant through centralized storage of data. Realistic graphics can be constructed to assist the user in managing, accessing and analyzing real-time and manually entered process or laboratory data.
Features
• Stores real-time and laboratory data in a secure open database.
• Time-based compression stores process information and manually collected data.
• Flexible rapid application development tools allow creation of input displays, reports and charts and navigation menus.
• Using MS Excel compatible spreadsheet, ReportView combines the user-friendly features of familiar spreadsheet functions with the security of an expandable database.
• Reporting tools provide easy access to retrieve summarized or raw data for process-efficiency and compliance reports.
• Creates 2D and 3D presentations-quality charts in minutes.
• An efficient decision support system and dashboard development tools for operations, maintenance, management and engineering.
-26-
Energy View
Energy View is an automated energy management dashboard tool. EnergyView provides smart energy metering and power measurement technology to accurately measure, store, track and analyze energy data. The energy metering and submetering systems can link to SCADA (Supervisory Control and Data Acquisition) or any PC to collect crucial energy data. In addition manual data on other energy sources can be managed as part of the same energy management application. The combination of hardware and software is designed to provide an end-to-end solution from measurement to billing audits. The objective of the EnergyView application is to improve the speed and quality of energy measurement information, so that facility managers will be able to make better management decisions, conserve energy and reduce operating costs.
Features
• Collect usage data manually and automatically.
• Normalize energy variables creating benchmarking variables.
• Provide comparisons of hourly usage to previous days.
• Calculate operating cost and savings by day, month and year-to-date.
• Forecast and alarm peak demands.
• Send alarms via local annunciation, email or pagers.
• Benchmarking.
• Local Factor Analysis.
• Automate Energy Billing Audits.
• Determine Changes in Energy Usage Patterns.
• Setting Saving Targets and Tracking Progress.
K9 KoordinatorSoftware
Included in the assets acquired through the Purchase Contract was the K9 Koordinator software. The software was designed to focus on applications related to pet care: pet boarding, daycare, grooming, training, and other pet care services (including dog walking and pet sitting). Products can be used for most animal types such as dogs, cats, horses, birds, rodents, snakes and pigs.
The K9 Koordinator is a complete management system for pet resorts (boarding kennels), pet daycare centers, pet sitters, dog walkers, grooming shops, and mobile groomers. The K9 Koordinator was designed to efficiently and easily manage scheduling, clients, pet information, services, and retail information.
Key components of the K9 Koordinator software include webcam integration, giftcard processing and management, and virtual kennel layout for run assignments.
The K9 Koordinator has over 20 years of development and usage in the pet care industry. K9 Koordinator users include pet resorts, boarding kennels, grooming shops, mobile groomers, trainers, dog walkers, pet sitters, animal hospitals, shelters, rescue organizations, and pet retailers.
MS Health Software
MSHSC developed and sells CHMCi, an enterprise wide solution that includes tools to effectively provide, manage, bill, and track behavioral healthcare and social services. With CMHCi, an organization will realize the benefits of increased efficiency, accountability, and productivity. CMHCi offers server-based, internet, and secure cloud computing enabling the user to access information as required. By maintaining a complete electronic client record, including data collection and reporting across multiple programs, locations, episodes of care, and service providers, CMHCi helps eliminate redundant record keeping. The scheduler component tracks client, staff, and group appointments. Easy to use, it interfaces seamlessly with service authorization tracking, service history, and billing. The integrated financial reporting component provides the basis for an efficient and comprehensive accounting system, including electronic claims and remittance, third party insurance, and client, municipality, and grantor billing.
PLAN OF OPERATION
During the next twelve months, we plan to further develop our BoxesOS software, and hope to expand our customer base for our Desk/Flex and Agent Power software packages, funding permitting. We believe we can satisfy our cash requirements for the next three months with our current cash on hand and revenues generated from our operations. As such, continuing operations and completion of our plan of operation, including making required payments on our outstanding promissory notes as described above, are subject to generating adequate revenue. We cannot assure investors that adequate revenues will be generated. In the absence of our projected revenues, we may be unable to proceed with our plan of operations. Even without significant revenues within the next several months, we still anticipate being able to continue with our present activities, but we may require financing to potentially achieve our goal of profit, revenue and growth.
-27-
RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED MARCH 31, 2012, AS COMPARED TO THE THREE MONTHS ENDED MARCH 31, 2011:
| For the Three Months Ended | ||||||||||||
| March 31, | Increase / | |||||||||||
| 2012 | 2011 | (Decrease) | ||||||||||
| Revenues | $ | 114,477 | $ | 206,183 | $ | ($91,706 | ) | |||||
| General and administrative | 232,040 | 145,675 | 86,365 | |||||||||
| Depreciation and amortization | 47,474 | 27,039 | 20,435 | |||||||||
| Total Operating Expenses | 279,514 | 172,714 | 106,800 | |||||||||
| Net Operating Income (Loss) | (165,037 | ) | 33,469 | (198,506 | ) | |||||||
| Total other income (expense) | (40,890 | ) | (10,922 | ) | (29,968 | ) | ||||||
| Net Income (Loss) | $ | (205,927 | ) | $ | 22,547 | $ | (228,474 | ) | ||||
Revenues:
For the three months ended March 31, 2012 we had revenue of $114,447 compared to revenue of $206,183 for the three months ended March 31, 2011, a decrease of $91,706 or 45% from the prior period. The decrease in revenues is mainly attributable to decreases in our existing customer base. We expect our recent acquisitions will replenish our customer base and restore our revenues.
General and Administrative:
General and administrative expenses increased by $86,365 or 59% to $232,040 for the three months ended March 31, 2012 compared to general and administrative expense of $145,675 for the three months ended March 31, 2011. The increase in general and administrative expense is due mainly to the increase in cost associated with the Company’s acquisitions as described above.
Depreciation and Amortization:
We had depreciation and amortization expense of $47,474 for the three months ended March 31, 2012 compared to $27,039 for the three months ended March 31, 2012, an increase of $20,435 or 76 % from the prior period. This increase is due the Company having a greater depreciable asset base as a result of the recent acquisitions.
Net Operating Loss:
Total operating expenses for the three months ended March 31, 2012 were $279,514, compared to $172,714 for the three months ended March 31, 2011, an increase of $106,800 or 62% from the prior period.
We had an operating loss of $165,037 for the three months ended March 31, 2012 compared to operating income of $33,469 for the three months ended March 31, 2011, a decrease in operating income of $198,506 or 593% from the prior period. The decrease in operating income is due to diminished revenues and increased operating expenses incurred in relation to our recent acquisitions.
Other Income (Expense):
Other income (expense) was ($40,890) for the three months ended March 31, 2012 compared to ($10,922) for the three months ended March 31, 2011, an increase of $29,968 or 274% from the comparative three months ended March 31, 2011. Interest expense increased for the three months ended March 31, 2012 due to the increase in loans payable at March 31, 2012 as compared to March 31, 2011, as described below under “Liquidity and Capital Resources”.
Net Loss:
We had net loss of $205,927 for the three months ended March 31, 2012 compared to net income of $22,547 for the three months ended March 31, 2011, a decrease in net income of $228,474, or 1,013%, from the prior period. The decreased net loss is due to diminished revenues and increased operating expenses incurred in relation to our recent acquisitions.
-28-
LIQUIDITY AND CAPITAL RESOURCES
The following table summarizes total assets, accumulated deficit, stockholders’ equity and working capital at March 31, 2012 compared to December 31, 2011.
| March 31, 2012 | December 31, 2011 | |||||||
| Total Assets | $ | 1,424,648 | $ | 1,035,222 | ||||
| Total Liabilities | $ | 2,157,270 | $ | 1,571,917 | ||||
| Accumulated (Deficit) | $ | (2,413,994 | ) | $ | (2,208,067 | ) | ||
| Stockholders’ Equity (Deficit) | $ | (732,622 | ) | $ | (536,695 | ) | ||
| Working Capital (Deficit) | $ | (1,077,988 | ) | $ | (886,834 | ) | ||
We had total current assets of $87,623 as of March 31, 2012, consisting of cash of $20,868, accounts receivable of $46,445, other current assets of $11,619 and current deferred financing costs of $8,691.
We had non-current assets of $1,337,025 as of March 31, 2012, consisting of property and equipment, net of accumulated depreciation of $129,429; intangible assets, net of accumulated amortization of $952,136, and goodwill of $255,460.
We had total current liabilities of $1,181,592 as of March 31, 2012, consisting of $189,853 of accounts payable and accrued liabilities, $313,758 of deferred revenues, $47,500 of the current portion of capitalized leases, and $630,481 of the current portion of notes payable.
We had negative working capital of $1,077,988 and a total accumulated deficit of $2,413,994 as of March 31, 2012.
We had total liabilities of $2,157,270 as of March 31, 2012, which included total current liabilities of $1,181,592 and long-term note payable, net of current portion of $962,812, which represented payments due on the notes.
We had net cash used in operating activities of $31,914 for the three months ended March 31, 2012, which primarily consisted of our net loss.
We had $25,025 of net cash used in investing activities during the three months ended March 31, 2012, which consisted of the $39,200 and proceeds of $14,175 received from the sale of computer equipment.
We had $65,139 of net cash provided by financing activities during the three months ended March 31, 2012, which consisted of $16,580 of short term loans from our CEO, proceeds of $110,603 from new debt financing, and a total of $62,044 of repayments on long term debt and capital leases.
The Company received additional funds drawn on a previously outstanding line of credit in the amount of $19,200, along with repayments on the line of credit totaling $13,904 during the three months ending March 31, 2012.
On January 3, 2012, Deskflex received additional financing of $30,672 as part of a refinancing with OnDeck Financial, in which we increased the remaining outstanding debt of $14,627 as of December 31, 2011, less principal payments of $299 paid prior to the amendment in 2012, by an additional $30,672 resulting in total indebtedness of $45,000. The revised loan terms include daily repayments of $289 over a 9 month term. The total payments due on the loan equate to an annual interest rate of 18%.
On February 13, 2012, Deskflex received $25,000 in association with a $25,750 loan from Accion Chicago. The loan carries an interest rate of 11% per annum, is due in 35 monthly installments of $843 ending on February 20, 2015 and was personally guaranteed by our CEO, Shaun Passley.
On February 23, 2012, the Company received a $50,000 line of credit from PNC Bank that carries a 4.25% annual interest rate.
On March 23, 2012, the Company executed a $100,000 promissory note as part of the purchase of MS Health, payable in monthly installments of $1,110 payable monthly beginning on the first day of the month two years after the effective date. The “MSHC Note” is described in greater detail above under “Asset Purchase Acquisition – MS Health Software Corporation, March 8, 2012”.
On March 28, 2012, MS Health and Epazz took out a Small Business Administration (“SBA”) loan in the amount of $360,800 Small Business Administration (“SBA Loan”) loan, bearing interest at fixed and variable rates to finance the acquisition of MS Health. The initial interest rate is 5.5% per year for three (3) years, consisting of the Prime Rate in effect on the first business day of the month in which the SBA loan application was received, plus 2.25%. The loan terms then transition to a variable interest rate over the remaining seven (7) years of the ten (10) year maturity term, calculated at 2.25% above the Prime Rate, as adjusted quarterly. The Company must pay principal and interest payments of $3,916 monthly. The “SBA Loan” referenced in the Asset Purchase Agreement disclosure above.
-29-
We have no current commitment from our officers and Directors or any of our shareholders to supplement our operations or provide us with financing in the future. If we are unable to raise additional capital from conventional sources and/or additional sales of stock in the future, we may be forced to curtail or cease our operations. Even if we are able to continue our operations, the failure to obtain financing could have a substantial adverse effect on our business and financial results.
In the future, we may be required to seek additional capital by selling debt or equity securities, selling assets, or otherwise be required to bring cash flows in balance when we approach a condition of cash insufficiency. The sale of additional equity or debt securities, if accomplished, may result in dilution to our then shareholders. We provide no assurance that financing will be available in amounts or on terms acceptable to us, or at all.
Critical Accounting Policies
Our discussion and analysis of our financial condition and results of operations is based upon our unaudited financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of any contingent assets and liabilities. On an on-going basis, we evaluate our estimates, including those related to uncollectible receivable, investment values, income taxes, the recapitalization and contingencies. We base our estimates on various assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.
Recent Accounting Pronouncements
In December 2011, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2011-12, “Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05. This update defers the requirement to present items that are reclassified from accumulated other comprehensive income to net income in both the statement of income where net income is presented and the statement where other comprehensive income is presented. The adoption of ASU 2011-12 is not expected to have a material impact on our financial position or results of operations.
The Company does not expect the adoption of any recently issued accounting pronouncements to have a significant impact on the Company’s results of operations, financial position or cash flows.
-30-
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Pursuant to Item 305(e) of Regulation S-K (§ 229.305(e)), the Company is not required to provide the information required by this Item as it is a “smaller reporting company,” as defined by Rule 229.10(f)(1).
ITEM 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
We carried out an evaluation, under the supervision and with the participation of our management, including our principal executive officer, of the effectiveness of our disclosure controls and procedures (as defined in Exchange Act Rules 13a – 15(c) and 15d – 15(e)). Based upon that evaluation, our principal executive officer concluded that, as of the end of the period covered in this report, our disclosure controls and procedures were not effective to ensure that information required to be disclosed in reports filed under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the required time periods and is accumulated and communicated to our management, including our principal executive officer, as appropriate to allow timely decisions regarding required disclosure.
Inherent Limitations of Internal Controls
Our Principal Executive Officer does not expect that our disclosure controls or internal controls will prevent all error and all fraud. Although our disclosure controls and procedures were designed to provide reasonable assurance of achieving their objectives, a control system, no matter how well conceived and operated, can provide only reasonable, not absolute assurance that the objectives of the system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented if there exists in an individual a desire to do so. There can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions.
Changes in Internal Control over Financial Reporting
There were no changes in our internal control over financial reporting, other than those stated above, during our most recent quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
-31-
ITEM 1. LEGAL PROCEEDINGS
From time to time, we may become party to litigation or other legal proceedings that we consider to be a part of the ordinary course of our business. We are not currently involved in legal proceedings that could reasonably be expected to have a material adverse effect on our business, prospects, financial condition or results of operations. We may become involved in material legal proceedings in the future.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
On March 13, 2012, the Company issued 1,075,269 shares of its $0.01 par value series A common stock pursuant to the partial conversion in the amount of $10,000 of a $50,000 convertible debt, which consisted entirely of principal. The note was converted in accordance with the conversion terms; therefore no gain or loss has been recognized.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
ITEM 4. MINE SAFETY DICLOSURES.
Not applicable.
ITEM 5. OTHER INFORMATION
None.
-32-
| 31.1 | Certifications pursuant to Rule 13a-14(a) or 15d-14(a) under the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.* |
| 32.1 | Certifications pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.* |
| 101.INS | XBRL Instance Document.* |
| 101.SCH | XBRL Schema Document.* |
| 101.CAL | XBRL Calculation Linkbase Document.* |
| 101.DEF | XBRL Definition Linkbase Document.* |
| 101.LAB | XBRL Labels Linkbase Document.* |
| 101.PRE | XBRL Presentation Linkbase Document.* |
* Filed herewith.
-33-
In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
| EPAZZ, INC. | |
| DATED: May 21, 2012 | By: /s/ Shaun Passley |
| Shaun Passley | |
| Chief Executive Officer (Principal Executive Officer), President, Chief Financial Officer (Principal Accounting Officer), and Director |
-34-