U.S.SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
(Mark One)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended: February 29, 2004
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT
For the transition period from ____________ to ____________
Commission File Number 0-18250
TMS, Inc.
(Exact name of small business issuer as specified in its charter)
OKLAHOMA 91-1098155
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
206 West Sixth Street
Post Office Box 1358
Stillwater, Oklahoma 74076
(Address of principal executive offices)
(405) 377-0880
(Issuer's telephone number)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 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 [ ]
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date:
Title of Each Class Outstanding at April 13, 2004
Common stock, par value $.05 per share 13,112,659
Transitional Small Business Disclosure Format (check one):
Yes [] No [X]
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
TMS, Inc.
Condensed Balance Sheets
February 29, 2004 and August 31, 2003
February 29,
2004 August 31,
(unaudited) 2003*
------------ ------------
Cash $ 1,195,394 1,129,470
Trade accounts receivable, net 229,511 387,802
Due from related parties 123,112 29,779
Prepaid expenses and other current assets 85,419 33,295
Deferred income taxes 8,122 8,431
------------ ------------
Total current assets 1,641,558 1,588,777
------------ ------------
Property and equipment 566,652 2,449,567
Accumulated depreciation and amortization (454,552) (1,639,414)
------------ ------------
Net property and equipment 112,100 810,153
------------ ------------
Capitalized software development costs, net 483,108 469,319
Other assets 42,813 42,863
------------ ------------
Total assets $ 2,279,579 $ 2,911,112
============ ============
Current portion of long-term debt - 31,320
Accounts payable 165,109 109,204
Accrued payroll expenses 135,850 197,423
Deferred revenue 319,804 301,580
------------ ------------
Total current liabilities 620,763 639,527
Long-term debt, net of current installments - 166,950
Investment in limited liability company 163,540 38,392
Deferred income taxes 8,122 8,431
------------ ------------
Total liabilities 792,425 853,300
------------ ------------
Common stock 655,633 655,633
Additional paid-in capital 11,348,883 11,348,883
Accumulated deficit (10,517,362) (9,946,704)
------------ ------------
Total shareholders' equity 1,487,154 2,057,812
------------ ------------
Total liabilities and shareholders' equity $ 2,279,579 2,911,112
============ ============
*Condensed from audited financial statements.
See accompanying notes to condensed
financial statements.
TMS, Inc.
Condensed Statements of Operations(unaudited)
Three and Six Months Ended February
29, 2004 and February 28, 2003
Three Months Ended Six Months Ended
February 29, February 28, February 29, February 28,
2004 2003 2004 2003
----- ----- ----- -----
Licensing and royalties $ 449,390 490,925 791,684 1,159,785
Customer support and maintenance 159,120 150,631 328,156 294,585
Other revenue 85,012 - 85,012 885
------------ ------------ ------------ ------------
Total revenue 693,522 641,556 1,204,852 1,455,255
Cost of revenue 174,907 130,027 281,167 264,155
Selling, general and administrative
expense 425,031 462,850 858,468 979,645
Research and development expense 189,653 144,987 335,283 288,324
Loss in limited liability company (23,763) (23,221) (48,403) (48,657)
------------ ------------ ------------ ------------
Operating loss (119,832) (119,529) (318,469) (125,526)
Other (expense) income:
Sale of property 6,414 - (260,123) -
Sale of technology - 66,277 - 99,960
Other, net 5,892 1,117 7,934 1,404
------------ ------------ ------------ ------------
Loss before income taxes (107,526) (52,135) (570,658) (24,162)
Income tax expense - 473,938 - 484,500
------------ ------------ ------------ ------------
Net loss $ (107,526) (526,073) (570,658) (508,662)
============ ============ ============ ============
Basic loss per share $ (0.01) (0.04) (0.04) (0.04)
============ ============ ============ ============
Weighted average common shares 13,112,659 13,112,659 13,112,659 13,112,659
============ ============ ============ ============
Diluted loss per share $ (0.01) $ (0.04) $ (0.04) $ (0.04)
============ ============ ============ ============
Weighted average basic and diluted
shares 13,112,659 13,112,659 13,112,659 13,112,659
============ ============ ============ ============
See accompanying notes to condensed
financial statements.
TMS, Inc.
Condensed Statements of Cash Flows (unaudited)
Six Months Ended February 29, 2004 and
February 28, 2003
February 29, February 28,
2004 2003
----- -----
Net cash flows (used in) provided by
operating activities $ (63,102) 291,303
----------- -----------
Cash flows from investing activities:
Purchases of property and equipment (23,208) (17,572)
Capitalized software development costs (156,251) (166,224)
Proceeds from sale of technology - 250,000
Proceeds from sale of property 431,226 -
Investment in limited liability company (78,178) (119,024)
Distribution from limited liability company 154,922 200,000
Other, net (1,215) -
----------- -----------
Net cash provided by investing activities 327,296 147,180
----------- -----------
Cash flows from financing activities:
Repayments of long-term debt (198,270) (14,344)
----------- -----------
Net cash used in financing activities (198,270) (14,344)
----------- -----------
Net increase in cash 65,924 424,139
Cash at beginning of period 1,129,470 783,550
----------- -----------
Cash at end of period $1,195,394 1,207,689
=========== ===========
Non-cash investing and financing activities:
Investment in limited liability company
through contribution of technology $ - 94,939
----------- -----------
See accompanying notes to condensed
financial statements.
TMS, Inc.
Notes to Condensed Financial Statements (unaudited)
Unaudited Interim Condensed Financial Statements
- ------------------------------------------------
The unaudited interim condensed financial statements and related notes were
prepared by TMS, Inc. Certain information and disclosures normally included in
financial statements prepared in accordance with accounting principles generally
accepted in the United States of America have been condensed or omitted pursuant
to rules and regulations established by the Securities and Exchange Commission.
The accompanying unaudited interim condensed financial statements should be read
in conjunction with the audited financial statements and related notes included
in our Form 10-KSB Annual Report for the fiscal year ended August 31, 2003.
The unaudited interim financial statements reflect all adjustments that are, in
the opinion of management, necessary for a fair presentation of financial
position, results of operations and cash flows for the interim periods
presented. All adjustments are normal and recurring, except for the impairment
write-down discussed in "Sale of Property" footnote below.
Interim results are subject to year-end adjustments and audit by independent
auditors. The financial data for the interim periods may not necessarily be
indicative of the results expected for the year.
Sale of Property
- ----------------
On December 31, 2003 the Company sold its corporate headquarters' building
located in Stillwater, Oklahoma. The new owner of the building is an
individual, Jevon Nasalroad, who purchased the property for investment purposes.
The Company is now a tenant in the building and has leased approximately 5,500
square feet of space for a minimum of two years at an annual cost of
approximately $56,000. The contracted purchase price of the building was
$460,000. The net proceeds from the sale, after closing costs, were $431,226
and were used to pay off a $191,800 mortgage.
During the first quarter ended November 30, 2003, the Company's net loss
included a $266,537 write-down to reflect an impairment of the value of the
property sold. The amount of the impairment was based on the amount that the
net book value of the property exceeded the contracted purchase price plus
estimated costs incurred for the final sale. During the second quarter ended
February 29, 2004, the Company adjusted the impairment cost from $266,537 to
$260,123 to reflect the actual final loss on the building sale.
Net Loss Per Share
- ------------------
Options to purchase 413,974 shares of common stock at prices ranging from
$.125 to $.40 per share and 579,974 shares of common stock at prices ranging
from $.27 to $.40 per share were outstanding at February 29, 2004 and
February 28, 2003, respectively, but were not included in the computation
of diluted net loss per share because the options' exercise prices were
greater than the average market price of common shares. The
Company had total options outstanding to purchase 413,974 and 588,974
shares of common stock at February 29, 2004 and February 28, 2003,
respectively. All options expire during periods through the year 2008.
Related Party Transactions
- --------------------------
Included in "Due from related parties" at February 29, 2004, was $123,112 for
the sale of an image scanner and software to Measurement Incorporated, the
Company's partner in VSC Technologies, LLC.
The Company currently has an agreement with the LLC whereby its employees
provide software development services at a fixed rate per hour. For the three
and six month periods ended February 29, 2004 the Company billed the LLC $57,000
and $144,000, respectively, for software development services, and for the three
and six month periods ended February 28, 2003 the Company billed the LLC
$133,000 and $202,000, respectively, for software development services. Fifty
percent of such services related to Measurement Incorporated's obligation to
fund LLC software development and the remaining 50% increased the Company's
investment in the LLC. At February 29, 2004 "Due from related parties" included
approximately $12,183 from the LLC for software development services.
The Company's agreement with the LLC includes a provision that allows the
Company to receive cash distributions at the end of each calendar year for
five years beginning December 31, 2002. Eligibility for such distributions,
which are subject to certain maximum amounts that graduate downward over the
five-year period, are based on whether the Company's financial return from the
LLC is at least equal to the amount of software development cost that the
Company has invested in the LLC. When and if the LLC becomes profitable, the
Company would be required to pay back such distributions by foregoing a portion
of future cash profits from the LLC. During the quarter ended February 29,
2004,the Company received a $150,000 cash distribution from the LLC which
decreased the Company's investment in the LLC.
Legal Proceedings
- -----------------
We are a party to a lawsuit involving the Virtual Scoring Center technology we
transferred to VSC Technologies, LLC. On October 23, 2002, we, along with VSC
Technologies, LLC and Measurement Incorporated, filed an action in the United
States District Court for the Eastern District of North Carolina against NCS
Pearson, Inc. In the complaint, we and the other plaintiffs seek a declaratory
judgment that the Virtual Scoring Center technology owned by VSC Technologies,
LLC and marketed by Measurement Incorporated and us does not infringe twenty
patents belonging to NCS Pearson. On June 3, 2003, NCS filed their answer to
our complaint, along with a set of counterclaims that assert infringement of
thirteen of their patents.
We believe that the Virtual Scoring Center technology does not infringe the NCS
Pearson patents and we designed that technology to carefully avoid infringement,
but we cannot assure you that we will be successful in our claims or our defense
against NCS Pearson's counterclaims.
If the court rules that the Virtual Scoring Center infringes the NCS Pearson
patents and NCS Pearson prevails in their counterclaims, this could result in a
monetary judgment against us. Because this action is at an early stage, we
cannot estimate the extent of any potential damages if there is a judgment
against us.
An injunction against us and VSC Technologies, LLC would be severely damaging to
our business growth opportunities and our plans to exploit the Virtual Scoring
Center technology. Measurement Incorporated has agreed to indemnify us against
our costs and any liability arising in connection with the action against NCS
Pearson. But that indemnification responsibility has certain dollar limitations
and other conditions. Consequently, we may have financial exposure if we do not
prevail in this action and the conditions for indemnification are not met or our
costs and liability exceed the indemnification coverage.
Item 2. Management's Discussion and Analysis or Plan of Operation
This Quarterly Report on Form 10-QSB contains forward-looking statements within
the meaning of Section 27A of the Securities Act and Section 21E of the Exchange
Act. Our actual results could differ materially from those set forth in the
forward-looking statements because of certain risks and uncertainties, such as
those inherent generally in the computer software industry and the impact of
competition, pricing and changing market conditions. As a result, you should not
rely on these forward-looking statements.
CRITICAL ACCOUNTING ESTIMATES
- -----------------------------
Our discussion and analysis of financial condition and operations are based on
our financial statements, prepared in accordance with accounting principles
generally accepted in the United States of America and included in this report
on Form 10-QSB. Certain amounts included in or affecting our financial
statements and related disclosure must be estimated, requiring us to make
certain assumptions with respect to values or conditions which cannot be known
with certainty at the time the financial statements are prepared. Therefore,
the reported amounts of our assets and liabilities, revenues and expenses and
associated disclosures with respect to contingent assets and obligations are
necessarily affected by these estimates. We evaluate these estimates on an
ongoing basis, utilizing historical experience, consultation with experts and
other methods we consider reasonable in the particular circumstances.
Nevertheless, actual results may differ significantly from our estimates. We
believe that certain accounting policies are of more significance in our
financial statement preparation process than others, as discussed below.
Computer Software Costs
- -----------------------
We capitalize our software development product costs after we have established
technological feasibility and prior to the release of our products for sale.
Such costs are primarily based on the salaries of our employees and contractors
that contribute to the development of our products, including a factor for
related overhead. Once a product is released for sale, we begin amortizing the
capitalized costs on a straight-line basis over the product's estimated economic
life. On a periodic basis, we compare the unamortized costs of our products to
their estimated net realizable values. If our estimates of net realizable value
fall below the unamortized product costs, the excess is charged directly to
operations to reflect impairment. For the three and six month periods ended
February 29, 2004 and February 28, 2003, we incurred approximately $4,000 and
$26,000, respectively, of charges for impairment of capitalized software
development.
Revenue
- -------
Our revenue is primarily derived from the license of software toolkits and
applications, royalties from customers based on those licenses, and fees for
technical support and product maintenance. We recognize license and royalty
revenue only after we have delivered the software, fulfilled all of our
significant obligations, and resolved any significant uncertainties regarding
customer acceptance. Technical support and product maintenance fees are deferred
and recognized as revenue on a straight-line basis over the applicable contract
period. Occasionally, technical support and product maintenance is bundled with
a software license fee. In such cases, we estimate the fair value of our
technical support and product maintenance obligations using the established fees
that we charge to other customers. Such revenue is deferred as a separate
element of the contract and recognized ratably over the applicable contract
period. Any remaining revenue is then recorded as the software license fee.
Income Taxes
- ------------
We account for income taxes using the asset and liability method. Under the
asset and liability method, deferred tax assets and liabilities are recognized
at the enacted tax rates for the future tax consequences attributable to
differences between the financial statement carrying amounts of existing assets
and liabilities and their respective tax bases and operating loss and tax credit
carryforwards. The effect on deferred tax assets and liabilities of a change in
tax rates is recognized in income in the period that includes the enactment
date. Following is a summary of the significant items that comprise our
estimated deferred tax assets and liabilities:
February 29, 2004 August 31, 2003
-----------------------------------------------------------------------
Deferred tax assets:
Tax operating loss carryforwards $ 1,151,075 911,691
Other 36,572 34,731
- ------------------------------------------------------------------------
Total gross deferred tax assets 1,187,647 946,422
Less valuation allowance 923,894 716,668
- ------------------------------------------------------------------------
Net deferred tax assets 263,753 229,754
Deferred tax liabilities:
Property and equipment (25,217) (15,628)
Loss in limited liability (55,148) (35,973)
company
Capitalized software costs (183,388) (178,153)
- ------------------------------------------------------------------------
Net deferred tax $ - -
Deferred tax assets are recognized when it is more likely than not that benefits
from deferred tax assets will be realized. The ultimate realization of deferred
tax assets is dependent upon our ability to generate future taxable income
during the periods in which the temporary differences that create deferred tax
assets become deductible. We consider the scheduled reversal of deferred tax
liabilities, projected future taxable income, past earnings history, sales
backlog and tax operating loss carryforward expiration dates when determining
the amount of deferred tax assets to recognize.
During the six month period ended February 29, 2004, the Company increased its
valuation allowance for deferred tax assets and increased the deferred tax
asset, net of valuation allowance, from $229,754 at August 31, 2003 to $263,753
at February 29, 2004. In order to fully realize the net deferred tax assets
prior to the expiration of tax operating loss carryforwards, the Company will
have to generate approximately $698,000 in taxable income through increased
income from operations, the reversal of deferred tax liabilities, or both. At
February 29, 2004, we had approximately $3.0 million of tax operating loss
carryforwards, of which approximately 80% do not begin to expire until our
fiscal year 2019.
RESULTS OF OPERATIONS
- ---------------------
Following is selected financial information for each of our reportable segments
for the three and six month periods ended February 29, 2004 and February 28,
2003.
Component Product Technologies Segment
- --------------------------------------
Three Months Ended Six Months Ended
February February Dollar Percent February February Dollar Percent
29, 2004 28, 2003 (Decrease) (Decrease) 29, 2004 28, 2003 (Decrease) (Decrease)
- ---------------------------------------------------------------------------------------------------------
Revenue $ 593,228 618,306 (25,078) (4.06%) $1,082,475 1,406,816 (324,341) (23.05%)
---------- --------- --------- --------- ----------- ---------- --------- --------
Operating income $ 46,641 120,309 (73,668) (61.23%) $ 4,501 408,957 (404,456) (98.90%)
---------- --------- --------- --------- ----------- ---------- --------- --------
Operating income 7.86% 19.46% 0.42% 29.07%
as % of revenue ---------- --------- ----------- ----------
Revenue from the component product technologies segment is primarily derived
from licensing, royalties, and the customer support and maintenance of our
Prizm(R) web-based Viewer, ScanFix(R), Prizm(R) Image Processing, Prizm(R) Gray,
ViewDirector(TM) and FormFix(R) products. All revenue is derived from external
sources.
The profitability of this segment has historically depended on our ability to
secure significant sales of multiple licenses and/or royalties to individual
customers. For the second quarter ended February 28, 2003 one customer accounted
for 11% of the total revenue for the segment. Another customer accounted for
17% of revenue for the six month period ended February 28, 2003. No one
customer accounted for greater than 10% of total segment revenue for the three
or six month periods ended February 29, 2004. The lack of significant multiple
license and/or royalty sales to individual customers contributed to the decline
in revenue and operating results during the current three and six month periods
compared to the same periods last year.
We believe that the lack of widespread adoption of color and gray image
processing technologies in the document management marketplace has impacted our
ability to not only improve revenue for this segment, but also replace revenue
from our more mature viewing and black and white image processing products.
Additionally, we believe that revenue from our viewing technology may continue
to be impacted by increased competition from low or no cost web-based viewing
technologies and the expected increase in demand for document images to be
created or converted to Adobe's PDF file format. The document management
marketplace is also expected to continue to migrate to more specialized
technology solutions applicable to niche markets or industries. Our products
have typically been applicable across many types of document imaging technology
solutions, and although we have development plans that include certain
specialized applications, there can be no assurance that we will be successful
in penetrating our targeted niche markets.
Because of the specific factors described above, our ability to predict the
timing and extent of revenue for this segment is difficult. Our inability to
secure additional significant revenue transactions with individual customers
and/or increase the volume through the release of new or enhanced products that
meet current market needs could have a material adverse affect on our business,
operating results and financial position.
Assessment Scoring Technologies Segment
- ----------------------------------------
<c> <c>
Three Months Ended Six Months Ended
February 29,2004 February 28, 2003 February 29, 2004 February 28, 2003
- --------------------------------------------------------------------------------------------
Revenue $ 100,294 23,250 122,377 48,439
--------- --------- ------------ -----------
Operating loss $ (44,326) (149,547) (85,844) (357,011)
--------- --------- ------------ -----------
The financial results for this segment reflect operating activities associated
with the license and support of our Digital Mark Recognition(TM) ("DMR(R)")
software product and our 50% equity interest in VSC Technologies, LLC, an entity
that we formed with Measurement Incorporated in October 2002. Revenue for the
three and six month period ended February 29, 2004 was derived from the license
of DMR and the resale of scanner equipment to Measurement Incorporated. Revenue
for the comparable prior periods was also derived from the license of DMR to
Measurement Incorporated.
We have an agreement with the LLC whereby we provide software development
services, at a fixed rate per hour. The segment's operating expenses were
reduced by approximately $57,000 and $133,000, for the three month periods ended
February 29, 2004 and February 28, 2003, respectively, and $144,000 and $202,000
for the six month periods ended February 29, 2004 and February 28, 2003,
respectively, for such software development services. Fifty percent of the
software development services were billed to the LLC and 50% were recorded as an
increase to our investment in the LLC. Additionally, during the prior year first
quarter and prior to the formation of the LLC we received approximately $23,000
from Measurement Incorporated for partial funding of the Virtual Scoring Center
software product. Of that amount, $21,000 was recorded as reduction to
capitalized software development costs and the remaining $2,000 reduced our
research and development expense.
The decrease in operating loss for the three and six months ended February 29,
2004 compared to the same periods last year primarily resulted from a reduction
in sales and marketing activities, lower DMR development costs, and lower
professional fees that were applicable in the prior period for closing the LLC
transaction. The operating loss for the current and prior second quarter
included approximately $24,000 and $23,000, respectively, for our 50% share of
the LLC net loss. For the current and prior six month periods, our 50% share of
the LLC net loss approximated $48,000 and $49,000, respectively.
Measurement Incorporated is currently using the Virtual Scoring Center software
product on a limited basis for its own scoring operation. Based on their use of
the software, we believe that additional investment in the design and
development of the product will be required to make it more viable for both
Measurement Incorporated's and other general commercial use. Accordingly, we are
not yet actively marketing the product for license to third parties.
Our agreement with the LLC includes a provision that allows us to receive cash
distributions at the end of each calendar year for five years beginning December
31, 2002. Eligibility for such distributions, which are subject to certain
maximum amounts that graduate downward over the five-year period, are based on
whether our financial return from the LLC is at least equal to the amount of
software development cost that we have invested in the LLC. When and if the LLC
becomes profitable, we would be required to pay back such distributions by
foregoing a portion of future cash profits from the LLC. The funds received
from the LLC pursuant to this cash distribution arrangement and our software
development services to the LLC, described above, help mitigate the financial
risk associated with the additional development and delay in marketing the
Virtual Scoring Center product to third parties. However, given the increased
unpredictability of financial results from our Component Product Technology
business segment, we can provide no assurance that it will be feasible for us to
continue to participate in the LLC at our current investment level.
Accordingly, we may be required to pursue other alternatives related to our
investment, including selling all or a portion of our ownership interest.
Total Company Operating Results
- --------------------------------
Following is a report of total company revenue and a reconciliation of
reportable segments' operating income (loss) to our total net loss for the three
and six month periods ending February 29, 2004 and February 28, 2003.
Three Months Ended Six Months Ended
February 29, February 28, February 29, February 28,
2004 2003 2004 2003
-------------------------------------------------------
Total company revenue $ 693,522 641,556 1,204,852 1,455,255
----------- ----------- ----------- ------------
Operating income (loss) for
reportable segments 2,315 (29,238) (81,343) 51,946
Unallocated corporate expenses (122,147) (90,291) (237,126) (177,472)
Interest income 4,730 5,183 8,841 10,455
Interest expense (1,161) (4,019) (4,811) (8,214)
Sale of property 6,414 - (260,123) -
Sale of technology - 66,277 - 99,960
Other, net 2,323 (47) 3,904 (837)
Income tax expense - 473,938 - 484,500
----------- ------------ ----------- ------------
Net loss $ (107,526) (526,073) (570,658) (508,662)
=========== =========== =========== ============
Loss per share:
Basic $ (0.01) (0.04) (0.04) (0.04)
Diluted (0.01) (0.04) (0.04) (0.04)
=========== =========== =========== ============
A decrease in revenue from our Component Product Technologies segment accounted
for the decline in total company revenue for the current six month period and
negatively impacted our segment operating and total company net results at
February 29, 2004 compared to the same six month period last year. Unallocated
corporate expenses increased for both the three and six month periods ended
February 29, 2004 compared to the same periods last year because of director's
and officer's insurance, board of directors' fees and professional fees
associated with strategic planning activities.
The net loss for the six month period ended February 29, 2004 was also impacted
by a loss on the sale of our Company's headquarters building (see "Sale of
Property" in the Notes to the Condensed Financial Statements for further
information).
Net loss for the three and six month periods ended February 28, 2003, included
recognition of a portion of the $155,000 gain realized upon our transfer of the
Virtual Scoring Center technology to the LLC. The unrecognized portion of the
gain was deferred and recognized in income during the prior year as we continued
to fulfill our ongoing commitment to fund our 50% share software development
costs.
The income tax provision for the six months ended February 28, 2003, included a
deferred tax benefit of $17,495 and an increase in the valuation allowance for
deferred tax assets of $501,995. During the second quarter of the prior fiscal
year we made the decision to increase our valuation allowance and reduce the
carrying amount of our net deferred tax assets because of our history of pre-tax
losses and because our ability to time the closing of significant revenue
opportunities was becoming more difficult.
During the six month period ended February 29, 2004, the Company increased its
valuation allowance for deferred tax assets and increased the deferred tax
asset, net of valuation allowance, from $229,754 at August 31, 2003 to $263,753
at February 29, 2004. In order to fully realize the net deferred tax assets
prior to the expiration of tax operating loss carryforwards, the Company will
have to generate approximately $698,000 in taxable income through increased
income from operations, the reversal of deferred tax liabilities, or both. At
February 29, 2004, we had approximately $3.0 million of tax operating loss
carryforwards, of which approximately 80% do not begin to expire until our
fiscal year 2019.
FINANCIAL CONDITION
- -------------------
Working capital at February 29, 2004 was $1,020,795 with a current ratio of
2.7:1, compared to $949,250 with a current ratio of 2.5:1 at August 31, 2003.
Net cash used in operations for the six months ended February 29, 2004 was
approximately $63,000. Our negative operating cash position primarily reflects
the impact of reduced revenue on our operating results during the current six
month period.
Net cash provided by investing activities for the six months ended February 29,
2004 approximated $327,000 which included approximately $431,000 in net proceeds
from the sale of our headquarters building and an approximate $155,000
distribution from VSC Technologies LLC. Pursuant to our agreement with the LLC,
for the first five years of LLC operations we are eligible to receive cash
distributions at the end of each calendar year beginning on December 31, 2002.
We are eligible for such distributions, subject to certain maximum amounts which
graduate downward over the five year period, if our financial return from the
LLC is not at least equal to the amount of software development cost that we
have invested in the LLC. When and if the LLC becomes profitable, we will be
required to pay back such distributions by foregoing a portion of future cash
profits from the LLC. The $586,000 collectively received from the building sale
and the LLC cash distribution was offset by approximately $156,000 in software
development costs for investment in new and enhanced software products and the
approximate $78,000 cash investment for our share of LLC software development
and other operating costs.
Net cash flows used in financing activities during the six month period ended
February 29, 2004 approximated $198,000 and primarily represented the pay off of
our building mortgage upon final sale of the headquarters building.
In January 2004 we renewed our line of credit with a bank that provides for
borrowing based on a percentage of certain eligible trade accounts receivable.
The maximum borrowing under the line of credit is $500,000, of which
approximately $177,000 was available to us at February 29, 2004. The maximum
borrowing amount was reduced to $500,000 from the $1,000,000 provided in the
prior year based on our history of eligible accounts receivable. There was no
balance outstanding against our line of credit at February 29, 2004.
We anticipate that our existing working capital, which includes the $239,426 we
received upon final sale and mortgage pay off on the headquarters building and
the annual cash distribution that we received pursuant to our agreement with the
LLC, and our line of credit will be adequate to meet our current obligations and
current operating and capital requirements.
The funding of long-term needs (including funding for increased product
development and expanded marketing and promotion of our products) is dependent
upon increased revenue and profitability and may require obtaining funds through
outside sources. Although our management is currently exploring various options
for improving the overall financial position of the Company, we can give no
assurance that we will be successful in such endeavors or that we will be able
to become profitable and thus maintain the necessary level of working capital to
adequately fund the continued development and promotion of our products.
Continued losses or lack of revenue growth may require that we consider
strategic alternatives in order to maximize value to our shareholders.
Options available to us could be a "going private" transaction, sale of the
Company and other possibilities. We have made no plans at this time to make any
proposals to our shareholders to address this situation, but we may find it
necessary in the future to do so.
IMPACT OF RECENTLY ISSUED ACCOUNTING STANDARDS
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In December 2003, the Financial Accounting Standards Board ("FASB") issued a
revised version of FASB Interpretation No. 46 ("FIN 46"), "Consolidation of
Variable Interest Entities, an interpretation of ARB No. 51". FIN 46 sets forth
guidance to certain entities in which equity investors do not have the
characteristics of a controlling financial interest or do not have sufficient
equity at risk for the entity to finance its activities without additional
subordinated financial support from other parties.
We have a 50% equity interest in VSC Technologies, LLC. The LLC qualifies as a
variable interest entity. An equity investor is required to consolidate a
variable interest entity if it is deemed the "primary beneficiary". The primary
beneficiary is defined as the investor that is expected to either absorb the
majority of the entity's expected losses, receive a majority of the entity's
expected residual returns, or both. We are in the process of evaluating whether
we qualify as the primary beneficiary of the LLC. If we are required to
consolidate the LLC in accordance with this Interpretation, the financial
effects will be implemented in our second quarter of fiscal 2005. We have also
evaluated our exposure to economic loss as a result of our involvement with the
LLC, and estimate that from the inception of the LLC in October 2002 through
December 31, 2005, that our maximum exposure to economic loss approximates
$250,000.
Item 3. Controls and Procedures
As of the end of the period covered by this report, the Company carried out an
evaluation, under the supervision and with the participation of the Company's
management, including the Company's President and Chief Financial Officer, of
the effectiveness of the design and operation of the Company's disclosure
controls and procedures (as defined in Rule 13a-14 under the Securities Exchange
Act of 1934). Based upon that evaluation, the President and Chief Financial
Officer concluded that the Company's disclosure controls and procedures were
effective. There were no significant changes in the Company's internal controls
or in other factors that could significantly affect these controls subsequent to
the date of their evaluation.
PART II - Other Information
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
31 Certification of Principal Executive and Financial Officer Pursuant to SEC
Rule 13a-14
32 Certification of Principal Executive and Financial Officers Pursuant to 18
U.S.C. Section 1350
(b) Reports on Form 8-K
SIGNATURES
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.
Registrant: TMS, Inc.
Date: April 13, 2004 /s/ Deborah D. Mosier
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Deborah D. Mosier, President and Chief Financial Officer
Principal Executive and Financial Officer