OXFORD GLOBAL RESOURCES, INC.
Notes to Financial Statements
December 31, 2006 and 2005
(1) Company Organization and Business
Oxford Global Resources, Inc. (the Company) provides high-end information technology consulting and outsourcing services to a wide variety of industries throughout the United States and Europe.
On December 31, 2005, the Company made a noncash distribution to its stockholders consisting of the common stock of its two wholly owned subsidiaries. After the distribution, the Company did not own any subsidiary companies.
As of December 31, 2005, the Company increased the number of issued shares from 1,000 to 13,150,000 and changed the maximum number of authorized shares to 20,000,000. The increase in the issued number of shares has been applied retroactively and the comparable information has been restated accordingly.
(2) Summary of Significant Accounting Policies
(a) Basis of Presentation
As discussed in note 1 above, on December 31, 2005, the Company made a distribution to its stockholders of the common stock of its two wholly owned subsidiaries. Operating results of these two subsidiaries for 2005 and 2004 have been presented as income (loss) from discontinued operations in the accompanying statements of operations. Transactions between the Company and its former subsidiaries have been presented on a gross basis within income from continuing operations and income (loss) from discontinued operations, respectively, in the statements of operations (see note 8).
(b) Use of Estimates
The preparation of the financial statements requires management of the Company to make a number of estimates and assumptions relating to the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the period. Significant items subject to such estimates and assumptions include intangibles and goodwill; valuation allowance for receivables; valuation of long-lived assets; and obligations related to employee benefits. Actual results could differ from those estimates.
(c) Fair Value of Financial Instruments
The carrying amount of cash and cash equivalents, accounts receivable and accounts payable approximates fair value because of the short maturity of these financial instruments. Fair value of the Company’s long-term instruments is estimated based on market values for similar instruments. The difference between the carrying value of long-term instruments and their estimated fair value was not material.
(d) Cash and Cash Equivalents
Cash and cash equivalents consists of highly liquid instruments with original maturities of three months or less.
(e) Property and Equipment
Property and equipment are stated at cost less accumulated depreciation. Costs associated with the development of the Company’s internal software have been capitalized and have been depreciated over a five-year period.
The Company provides for depreciation using the following estimated useful lives:
| | Number
of years | |
Computer hardware and software | | 3 — 5 | |
Office furniture and equipment | | 5 — 7 | |
Automobiles | | 5 | |
Airplane | | 10 | |
Leasehold improvements | | 10 | |
(f) Revenue Recognition
Revenues pursuant to time and material contracts are recognized as services are provided. Billings in advance of services performed are classified as deferred revenues within other current liabilities in the balance sheets.
(g) Income Taxes
The Company has elected to be taxed as an S corporation and, accordingly, no federal tax liability or expense is incurred by the Company. Federal income taxes which may be due on any corporate profits are the responsibility of the stockholders. Certain states and foreign jurisdictions, however, do not recognize the Company’s status as an S corporation and impose income or excise taxes on the Company.
(h) Comprehensive Income
The Company accounts for comprehensive income (loss) in accordance with the provisions of Statement of Financial Accounting Standards (SFAS) No. 130, Reporting Comprehensive Income. This Statement establishes standards for the reporting and display of comprehensive income (loss) and its components in a full set of the financial statements. The Company’s comprehensive income for the years ended December 31, 2006, 2005, and 2004 includes net income and foreign currency translation gains and losses. Detailed balances and period changes in accumulated comprehensive income or loss are presented in the statements of stockholders’ equity and comprehensive income.
(i) Foreign Currency Translation
Amounts recognized in the financial statements related to foreign currency translation are determined using the principles of SFAS No. 52, Foreign Currency Translation. Assets and liabilities denominated in foreign functional currencies are translated at the exchange rate as of the balance sheet date. Translation adjustments are recorded as a separate component of stockholders’ equity. Revenues, costs, and expenses denominated in foreign functional currencies are translated at the weighted average exchange rate for the period.
(j) Goodwill and Other Intangible Assets
Goodwill represents the excess of costs over fair value of assets of businesses acquired. Pursuant to SFAS No. 142, Goodwill and Other Intangible Assets, goodwill and other intangible assets acquired in a purchase business combination and determined to have an indefinite useful life are not amortized, but instead tested for impairment at least annually in accordance with the provisions of SFAS No. 142. SFAS No. 142 also requires that intangible assets with estimable useful lives be amortized over their respective estimated useful lives to their estimated residual values, and reviewed for impairment in accordance with SFAS No. 144, Accounting for Impairment or Disposal of Long-Lived Assets. The Company performs its annual impairment test as of December 31. The Company has concluded that there was no impairment of goodwill for the years ended December 31, 2006, 2005, and 2004.
(k) Impairment of Long-Lived Assets
In accordance with SFAS No. 144, Accounting for Impairment or Disposal of Long-Lived Assets, long-lived assets, such as property and equipment, and purchased intangibles subject to amortization, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to estimated undiscounted future cash flows expected to be generated by the asset. If the carrying amount of an asset exceeds its estimated future cash flows, an impairment charge is recognized by the amount by which the carrying amount of the asset exceeds the fair value of the asset. Assets to be disposed of would be separately presented in the balance sheet and reported at the lower of the carrying amount or fair value less costs to sell, and are no longer depreciated. The assets and liabilities of a disposed group classified as held for sale would be presented separately in the appropriate asset and liability sections of the balance sheet.
Goodwill and intangible assets not subject to amortization are tested annually for impairment and are tested for impairment more frequently if events and circumstances indicate that the asset might be impaired. An impairment loss is recognized to the extent that the carrying amount exceeds the asset’s fair value.
(l) Stock Option Plan
In December 2004, the Financial Accounting Standards Board (FASB) issued SFAS No. 123 (revised 2004), Share-Based Payment, which addresses the accounting for transactions in which an entity exchanges its equity instruments for goods or services. This Statement is a revision of SFAS No. 123 and supersedes APB No. 25. This Statement was implemented by the Company as of January 1, 2006.
Prior to January 1, 2006, the Company applied the intrinsic value-based method of accounting prescribed by Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations including FASB Interpretation No. 44, Accounting for Certain Transactions Involving Stock Compensation, an interpretation of APB Opinion No. 25, issued in March 2000, to account for its fixed plan stock options. Under this method, compensation expense was recorded on the date of grant only if the current market price of the underlying stock exceeded the exercise price. SFAS No. 123, Accounting for Stock-Based Compensation, and SFAS Statement No. 148, Accounting for Stock Based Compensation — Transition and Disclosure, an amendment of FASB Statement No. 123, established accounting and disclosure requirements using a fair value-based method of accounting for stock-based employee compensation plans.
Prior to 2006, as allowed by SFAS No. 123, the Company elected to continue to apply the intrinsic value-based method of accounting described above, and adopted the disclosure requirements of SFAS No. 123. Accordingly, no compensation cost was recognized for stock options in the Company’s results of operations prior to January 1, 2006.
Effective January 1, 2006, the Company adopted SFAS No. 123(R). SFAS 123(R) requires that all stock-based compensation be recognized as an expense in the financial statements and that such cost be measured at the fair value of the award. This Statement was adopted using the modified prospective basis. Therefore, prior years’ financial statements have not been restated. Under this method, the Company recorded stock-based compensation expense for awards granted prior to, but not yet vested as of January 1, 2006, using the fair value amounts determined by the Black-Scholes option-pricing method for pro forma disclosures under SFAS 123. For stock-based awards granted after January 1, 2006, the Company recognizes compensation expense based on estimated grant date fair value using the Black-Scholes option-pricing method.
(3) Discontinued Operations
On December 31, 2005, the Company made a distribution to its stockholders of the common stock of its two wholly owned subsidiaries.
Combined sales, gross profit, and net income (loss) of the former subsidiaries for the years ended December 31, 2005 and 2004 (classified as income (loss) from discontinued operations on the accompanying statements of operations) are as follows:
| | Years ended December 31 | |
| | 2005 | | 2004 | |
Sales | | $ | 10,041,767 | | $ | 6,484,937 | |
Gross profit | | 2,335,944 | | 1,381,532 | |
Net income (loss) | | 24,904 | | (796,876 | ) |
| | | | | | | |
Summary of combined balance sheet information of the former subsidiaries at December 31, 2005 follows:
Cash and cash equivalents | | $ | 437,042 | |
Accounts receivable, net | | 1,870,554 | |
Total assets | | 3,154,716 | |
Total liabilities | | 2,114,221 | |
(4) Accounts Receivable — Trade
The Company performs regular credit evaluations of its customers and does not require collateral on accounts receivable. The Company maintains reserves for potential credit losses and such losses have been within management’s expectations.
The following is a summary of the activity affecting the allowance for doubtful accounts for the years ended December 31, 2006, 2005, and 2004:
| | 2006 | | 2005 | | 2004 | |
Balance, beginning of year | | $ | 625,256 | | $ | 729,616 | | $ | 586,893 | |
Increase (decrease) charged to expense | | (37,445 | ) | 344,865 | | 536,792 | |
Write-offs, net of recoveries | | (226,398 | ) | (334,225 | ) | (394,069 | ) |
Distribution of subsidiary (note 3) | | — | | (115,000 | ) | — | |
Balance, end of year | | $ | 361,413 | | $ | 625,256 | | $ | 729,616 | |
Increase (decrease) to the allowance for doubtful accounts of $(37,445), $130,497, and $273,880, for the years ended December 31, 2006, 2005, and 2004 respectively, are included in “Other, net” general and administrative expenses, and $0, $214,368, and $262,912, for the years ended December 31, 2006, 2005, and 2004, respectively, are included in income (loss) from discontinued operations in the accompanying statements of operations.
(5) Property and Equipment
Property and equipment, at cost, is summarized as follows:
| | 2006 | | 2005 | |
Computer hardware and software | | $ | 4,311,276 | | $ | 4,750,818 | |
Office furniture and equipment | | 3,601,483 | | 3,777,582 | |
Automobiles/Airplane | | 417,194 | | 771,533 | |
Leasehold improvements | | 640,330 | | 602,540 | |
| | $ | 8,970,283 | | $ | 9,902,473 | |
(6) Financing
(a) Note Payable — Bank
In December 2004, the Company renewed its revolving loan facility. The facility is collateralized by substantially all assets of the Company. The facility limits the total borrowing to an amount based on eligible accounts receivable balances, subject to a maximum borrowing limit of $20,000,000. Proceeds from the facility are to be used primarily for working capital needs. Borrowings under the facility bear interest at variable rates and can be in the form of loans or letters of credit. This facility expires on November 30, 2007 (see note 14).
The facility has various financial covenants. At December 31, 2006, the Company was in compliance with all such covenants.
Total interest expense, including amortization of deferred financing costs, for the facility was $402,084, $200,896, and $241,913, for the years ended December 31, 2006, 2005, and 2004, respectively. The average outstanding borrowing and average interest rate was approximately $6,284,000 and 6.31% for the year ended December 31, 2006. The average outstanding borrowing and average interest rate was approximately $4,075,000 and 4.86% for the year ended December 31, 2005. The average outstanding borrowing and average interest rate was approximately $4,220,000 and 5.65% for the year ended December 31, 2004.
(b) Note Payable — Stockholder
The Company had a note payable to its principal beneficial stockholder amounting to $700,000 at December 31, 2004. Funds advanced were used to provide working capital for the Company. The note was due on demand and was paid in full to the stockholder in January 2005.
Total interest expense for the stockholder note was $5,370 and $65,229, for the years ended December 31, 2005 and 2004, respectively. The average outstanding balance and average interest rate was approximately $53,700 and 10.0% for the year ended December 31, 2005. The average outstanding balance and average interest rate was approximately $700,000 and 9.32% for the year ended December 31, 2004.
(c) Long-Term Liabilities
At December 31, 2006 and 2005, the Company had an interest-bearing obligation of 905,394 and 1,083,292 Euros (approximately $1,203,000 and $1,283,000), respectively, relating to a 1994 acquisition. These amounts represent principal plus accrued interest at 8.0% per annum, of a portion of the original purchase price that is being paid over time. Total interest expense on this obligation was $95,266, $112,001, and $127,349 for the years ended December 31, 2006, 2005, and 2004, respectively. The obligation is payable at 253,940 Euros (approximately $335,556 at December 31, 2006) per year until the obligation is satisfied in the year 2010.
Of the total obligation above, $865,511 and $981,943, respectively, at December 31, 2006 and 2005 are included in long-term liabilities on the accompanying balance sheets.
(7) Commitments and Contingencies
At December 31, 2006, the Company occupied offices in 20 locations under noncancelable operating leases.
The following is a schedule of minimum future rental payments relating to these leases:
| | Future
minimum
rental
payments | |
Year ending December 31: | | | |
2007 | | $ | 2,167,951 | |
2008 | | 1,740,997 | |
2009 | | 1,629,198 | |
2010 | | 424,552 | |
2011 | | 223,522 | |
| | $ | 6,186,220 | |
Certain of the Company’s leases contain provisions for additional rent if the lessor’s operating costs increase during the lease term.
At December 31, 2006, the Company has issued the following letters of credit: (1) $1,285,000 to secure a long-term obligation related to a 1994 acquisition (note 6(c)); (2) $75,000 pursuant to a workers’ compensation insurance program; and (3) $75,000 to the Internal Revenue Service related to a former subsidiary’s federal income tax returns.
The Company is subject to various legal proceedings that arise in the ordinary course of business. These matters are subject to uncertainties and it is possible that some of these matters may be resolved unfavorably to the Company. Management believes that such legal proceedings will not have a material adverse effect on the financial position or the results of operations of the Company.
(8) Related-Party Transactions
The Company provides certain administrative and management services to one of its former subsidiaries (see note 3). The charge for these services is based on the time spent each month by the Company’s employees providing the services. Hourly rates for individuals performing the services are determined at the beginning of each year. The Company earned $540,458, $449,329, and $340,876, for the years ended December 31, 2006, 2005, and 2004, respectively, for these services. The Company believes that the fees charged are a reasonable approximation of the costs that the former subsidiary would have paid if they had contracted these services from another independent third party. The management fees earned by the Company have been reported within income from continuing operations and the corresponding management fee expense has been reported within income (loss) from discontinued operations in the statements of operations for 2005 and 2004.
Starting in January of 2005, the Company provided working capital funds to one of its former subsidiaries (see note 3). Working capital is provided through a $2,000,000 revolving note secured by all of the borrower’s accounts receivable. The note is due on demand and earns interest based on the prime interest rate plus 1.0%. The note had a balance of $900,000 and $1,300,000 at December 31, 2006 and 2005, respectively. The Company earned $99,499 and $65,998, respectively, of interest income from this note for the years ended December 31, 2006 and 2005. The average outstanding balance and average interest rate was approximately $1,120,000 and 8.88% for the year ended December 31, 2006. The average outstanding balance and average interest rate was approximately $900,000 and 7.34% for the year ended December 31, 2005. The interest income earned by the Company has been reported within income from continuing operations and the corresponding interest expense has been reported within income (loss) from discontinued operations in the statements of operations for 2005.
(9) Concentration of Credit Risk
During 2006, 2005, 2004, and 2003, no single customer constituted more than 3.5% of the Company’s net sales. The Company operates primarily in one industry with customers in North America and Europe (see note 11).
(10) Employee Benefit Plan
The Company has a 401(k) plan which allows participating employees and consultants to make pre-tax contributions of up to 19% of their compensation through salary deferral arrangements, subject to certain limits under Section 401(k) of the Internal Revenue Code of 1986. During the years ended December 31, 2006, 2005, and 2004, the Company made matching contributions of $448,304, $392,433, and $459,862, respectively.
(11) Foreign Branch Operations
The Company conducts a portion of its business through branches located in Europe. For the years ended December 31, 2006, 2005, and 2004, approximately 3.6%, 2.8%, and 3.6%, respectively, of the Company’s revenues were earned in Europe. As of December 31, 2006 and 2005, approximately 6.0% and 2.9%, respectively, of the Company’s assets were located in Europe.
(12) Stock Options
The Company has a stock option plan (the Plan) pursuant to which the Company’s Board of Directors may grant stock options to directors, officers, and other key employees. The Plan authorizes grants of options to purchase up to 3,850,000 shares of common stock. Options granted under the plan generally become exercisable either ratably over four years or upon grant, at the discretion of the Board of Directors, and expire ten years from the date of grant (see note 14).
The Company implemented SFAS No. 123(R) as of January 1, 2006. Compensation expense for 2006 of $513,881 is included in salaries and employee benefits on the accompanying statement of operations. Prior to January 1, 2006, the Company applied APB Opinion No. 25 and related interpretations in accounting for its stock options. Accordingly, no compensation cost was recognized for stock options in the Company’s 2005 and 2004 results of operations. Had the Company recorded a charge for the fair value of options granted consistent with SFAS No. 123(R), net income would have decreased by approximately $75,932 and $328,148 in the years ended December 31, 2005 and 2004, respectively.
The weighted average fair value of options granted during the years ended December 31, 2006, 2005, and 2004 was $5.57, $3.23, and $2.02, respectively, per option.
The fair value of each option grant is estimated on the date of grant using the Black-Scholes options pricing model, with the following weighted average assumptions used for grants issued in the years ended December 31, 2006, 2005 and 2004:
| | 2006 | | 2005 | | 2004 | |
Risk-free interest rate | | 4.95 | % | 4.39 | % | 3.28 | % |
Expected option lives | | 6.25 years | | 5.0 years | | 6.1 years | |
Expected volatility | | 54.59 | % | 51.91 | % | 62.74 | % |
Expected dividend yield | | — | % | — | % | — | % |
Data with respect to stock options is as follows:
| | Number
of shares | | Weighted
average
exercise price | |
Options outstanding at December 31, 2003 | | 1,955,450 | | $ | 8.07 | |
Granted | | 177,750 | | 3.38 | |
Forfeited | | — | | — | |
Canceled | | 103,700 | | 6.22 | |
Options outstanding at December 31, 2004 | | 2,029,500 | | $ | 7.76 | |
Granted | | 1,300 | | 6.46 | |
Forfeited | | — | | — | |
Canceled | | 43,200 | | 5.13 | |
Options outstanding at December 31, 2005 | | 1,987,600 | | $ | 7.81 | |
Granted | | 505,300 | | 9.60 | |
Forfeited | | 15,800 | | 9.60 | |
Canceled | | 27,600 | | 7.26 | |
Options outstanding at December 31, 2006 | | 2,449,500 | | $ | 8.18 | |
Options exercisable at December 31, 2006 | | 1,897,250 | | $ | 8.01 | |
The following table sets forth a summary of the stock options outstanding at December 31, 2006, 2005, and 2004:
| | Range of
exercise price | | Number
outstanding | | Weighted
average
remaining
years of
contractual
life | | Weighted
average
exercise price | | Number
exercisable | | Weighted
average
exercise price | |
2006 | | $ | 2.99 - 9.60 | | 2,449,500 | | 3.85 | | $ | 8.18 | | 1,897,250 | | $ | 8.01 | |
2005 | | 2.99 - 9.00 | | 1,987,600 | | 3.35 | | 7.81 | | 1,882,974 | | 8.08 | |
2004 | | 2.99 - 9.00 | | 2,029,500 | | 4.40 | | 7.76 | | 1,863,925 | | 8.16 | |
| | | | | | | | | | | | | | | | |
Nonvested shares | | Shares | | Weighted
average
grant date
fair value | |
Balance at January 1, 2006 | | 104,625 | | $ | 1.83 | |
Granted | | 505,300 | | 5.57 | |
Vested | | (34,875 | ) | (1.83 | ) |
Cancelled | | (7,000 | ) | (5.57 | ) |
Forfeited | | (15,800 | ) | (5.57 | ) |
Balance at December 31, 2006 | | 552,250 | | $ | 5.10 | |
At December 31, 2006, there was $2,308,755 of total unrecognized compensation cost related to nonvested share-based compensation arrangements granted under the Plan. Of the unvested options, 69,750 options became fully vested upon the termination of the Plan, and the remainders were cancelled (note 14).
(13) Other Balance Sheet Items
Prepaid expenses and other current assets are summarized as follows:
| | December 31 | |
| | 2006 | | 2005 | |
Nontrade accounts receivable | | $ | 163,401 | | $ | 25,624 | |
Prepaid insurance | | 153,742 | | 200,042 | |
Prepaid rent | | 275,581 | | 273,238 | |
Prepaid other | | 185,104 | | 356,098 | |
Due from former subsidiaries | | 127,299 | | 66,694 | |
Miscellaneous | | 1,073,251 | | 121,471 | |
Total prepaid expenses and other current assets | | $ | 1,978,378 | | $ | 1,043,167 | |
Other assets are summarized as follows:
| | December 31 | |
| | 2006 | | 2005 | |
Beneficial interest in Land Trust (note 14) | | $ | — | | $ | 633,540 | |
Split dollar life insurance asset | | 435,000 | | 451,000 | |
Prepaid rent | | 345,060 | | 437,076 | |
Security deposits | | 251,216 | | 371,957 | |
Miscellaneous assets | | 181,593 | | 127,635 | |
Total other assets | | $ | 1,212,869 | | $ | 2,021,208 | |
Other current liabilities are summarized as follows:
| | December 31 | |
| | 2006 | | 2005 | |
Accrued managers bonus | | $ | 4,845,988 | | $ | 2,284,140 | |
Accrued expenses | | 1,060,680 | | 1,105,654 | |
Current income taxes | | 439,671 | | 386,384 | |
Deferred income taxes | | 320,000 | | 340,000 | |
Due to stockholder | | 765,912 | | — | |
Miscellaneous current liabilities | | 849,384 | | 1,187,512 | |
Total other current liabilities | | $ | 8,281,635 | | $ | 5,303,690 | |
(14) Subsequent Events (unaudited)
On January 31, 2007, an unrelated third party acquired 100% of the outstanding common shares of the Company. As part of the acquisition, the Company retired the revolving credit agreement described in note 6(a), and the note receivable, described in note 8, was also retired by the related party. In addition, the Company’s stock option plan was terminated.
Also, in connection with the acquisition, the Company’s beneficial interest in the land trust was written off as compensation expense in December 2006. On January 29, 2007, the beneficial interest was transferred to an executive of the Company.
