UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
QUARTERLY REPORT UNDER SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
(Mark One)
[X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934.
For the quarterly period ended June 30, 2005.
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934.
For the transition period from _______ to _______
Commission File No: 000-30045
CATUITY INC.
(Exact Name of Registrant as specified in its charter)
Delaware 38-3518829
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
2711 E. Jefferson Avenue
Detroit, MI 48207
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code:
(313) 567-4348
Indicate by check mark whether the registrant (1) has filed all reports
required 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 is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes [ ] No [X]
Indicate the number of shares outstanding of each of the issuer's classes
of stock as of the latest practical date: Common stock outstanding - 779,000
shares as of July 31, 2005.
1
CATUITY INC.
FORM 10-QSB
INDEX
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated balance sheets - June 30, 2005 and December 31, 2004 3
Consolidated statements of operations - Three and six months ended June 30, 2005 and 2004 4
Consolidated statements of cash flows - Six months ended June 30, 2005 and 2004 5
Notes to Consolidated Financial Statements - June 30, 2005 6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 10
Item 3. Controls And Procedures 14
PART II. OTHER INFORMATION 15
Item 1. Legal Proceedings 15
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 15
Item 3. Defaults Upon Senior Securities 15
Item 4. Submission of Matters to a Vote of Security Holders 15
Item 5. Other Information 15
Item 6. Exhibits 15
SIGNATURES AND CERTIFICATIONS 16
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CATUITY INC.
CONSOLIDATED BALANCE SHEETS
-----------------------------------
JUNE 30, 2005 DECEMBER 31, 2004
(unaudited)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 1,003,717 $ 2,560,683
Accounts receivable, less allowance of $5,000 at 14,251 36,211
June 30, 2005 and December 31, 2004
Restricted cash 110,615 116,012
Prepaid expenses and other 64,954 127,429
------------ ------------
Total current assets 1,193,537 2,840,335
Property and equipment, net 121,131 162,780
Other assets 274,864 --
------------ ------------
395,995 162,780
------------ ------------
Total assets $ 1,589,532 $ 3,003,115
============ ============
LIABILITIES AND SHAREHOLDERS'
EQUITY
CURRENT LIABILITIES:
Accounts payable $ 212,254 $ 150,584
Accrued compensation 103,921 317,433
Other accrued expenses 126,638 87,474
Trust liability 86,782 91,722
------------ ------------
Total current liabilities 529,595 647,213
SHAREHOLDERS' EQUITY:
Common stock - $.001 par value; Authorized - 778 778
6,666,667 shares: issued and outstanding -
778,184 at June 30, 2005 and December 31, 2004 -- --
Preferred stock - $.001 par value Authorized -
666,667 shares
Additional paid-in capital 36,707,811 36,603,127
Shareholder loans (185,155) (79,533)
Foreign currency translation adjustment 68,709 96,656
Accumulated deficit (35,532,206) (34,265,126)
------------ ------------
Total shareholders' equity 1,059,937 2,355,902
------------ ------------
Total liabilities and shareholders' equity $ 1,589,532 $ 3,003,115
============ ============
See accompanying notes.
3
CATUITY INC.
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------- --------------------------
2005 2004 2005 2004
----------- ----------- ----------- -----------
REVENUES:
Project related $ 0 $ 12,934 $ 0 $ 231,388
Service 1,560 74,803 23,020 289,942
License 12,600 47,542 23,400 92,485
----------- ----------- ----------- -----------
Total revenues 14,160 135,279 46,420 613,815
COST OF REVENUE AND OTHER OPERATING EXPENSES:
Cost of project related 0 8,871 0 90,544
Cost of service 68,615 45,386 86,881 158,303
Cost of license 1,565 21,035 2,754 65,266
Sales and marketing 142,709 244,090 287,068 478,438
Research and development 120,413 495,944 252,329 802,368
General and administrative 371,666 482,748 726,593 816,246
----------- ----------- ----------- -----------
Total costs and expenses 704,968 1,298,074 1,355,625 2,411,165
----------- ----------- ----------- -----------
Operating loss (690,808) (1,162,795) (1,309,205) (1,797,350)
Interest income
17,869 23,291 42,125 54,205
----------- ----------- ----------- -----------
Net loss $ (672,939) $(1,139,504) $(1,267,080) $(1,743,145)
=========== =========== =========== ===========
Net (loss) per share - basic and diluted $ (0.86) $ (1.47) $ (1.63) $ (2.24)
=========== =========== =========== ===========
Weighted average shares outstanding-basic & diluted 778,184 776,766 778,184 776,595
=========== =========== =========== ===========
See accompanying notes
4
CATUITY INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
Six months ended
June 30,
--------------------------
2005 2004
----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $(1,267,080) $(1,743,145)
Adjustments used to reconcile net income/(loss) to net cash used
in operating activities:
Depreciation and amortization 38,951 22,840
Changes in assets and liabilities:
Accounts receivable 21,960 368,377
Other assets, net 67,871 64,122
Deferred revenue 0 (51,033)
Accounts payable 61,670 (45,209)
Accrued expenses and other liabilities (179,287) (218,538)
----------- -----------
Net cash used in operating activities (1,255,915) (1,602,586)
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property and equipment (3,480) 3,603
Acquisition Related (274,864) --
----------- -----------
Net cash provided by/ (used in) investing activities (278,344) 3,603
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of fractional shares related to reverse stock split (938) --
Issuance of common stock, net of expenses -- 9,229
----------- -----------
Net cash provided by/(used in) financing activities (938) 9,229
----------- -----------
Foreign exchange effect on cash and cash equivalents (21,769) (96,878)
----------- -----------
Net decrease in cash and cash equivalents (1,556,966) (1,686,632)
Cash and cash equivalents, beginning of period 2,560,683 5,768,828
----------- -----------
Cash and cash equivalents, end of period $ 1,003,717 $ 4,082,196
=========== ===========
See accompanying notes.
5
CATUITY INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2005
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements of Catuity Inc.
(the "Company") have been prepared in accordance with accounting principles
generally accepted in the United States for interim financial information and
with the instructions to Form 10-QSB and Item 310 of Regulation S-B.
Accordingly, they do not include all of the information and footnotes required
by accounting principles generally accepted in the United States for annual
financial statements and notes. The balance sheet at December 31, 2004 has been
derived from the audited financial statements at that date but does not include
all of the information and footnotes required by accounting principles generally
accepted in the United States for complete financial statements. In the opinion
of management, all adjustments (consisting of normal recurring items) considered
necessary for a fair presentation have been included. Operating results for the
three and six month periods ended June 30, 2005 are not necessarily indicative
of the results that may be expected for any subsequent quarter or for the entire
year ended December 31, 2005. The accompanying interim, consolidated financial
statements should be read in conjunction with the consolidated financial
statements and footnotes included in the Company's Annual Report on Form 10-K
and 10-KA filed with the Securities and Exchange Commission for the year ended
December 31, 2004.
Certain prior year amounts have been reclassified to conform with the current
year presentation.
2. RECENT ACCOUNTING PRONOUNCEMENTS
In December 2004, the FASB issued Statement of Financial Accounting Standards
No. 123 (revised 2004), "Share-Based Payment" ("SFAS 123(R)") which requires the
measurement of all employee share-based payments to employees, including grants
of employee stock options, using a fair-value-based method and the recording of
such expense in the consolidated statement of operations. The accounting
provisions of SFAS 123(R) are effective for reporting periods beginning after
December 15, 2005. We will adopt SFAS 123(R) effective as of the first quarter
of 2006. The pro forma disclosures previously permitted under SFAS 123 no longer
will be an alternative to financial statement recognition. As a result, because
SFAS 123(R) requires the expensing of stock options, it will have an adverse
effect on our reported financial results. The level of impact on the Company's
financial statements will depend, in part, on future grant awards. We have not
yet assessed the level of impact to be able to quantify the adverse effect.
3. COMPREHENSIVE INCOME/ (LOSS)
Comprehensive income/ (loss) is summarized as follows:
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------- --------------------------
2005 2004 2005 2004
----------- ----------- ----------- -----------
Net loss $ (672,939) $(1,139,504) $(1,267,080) $(1,743,145)
Foreign currency translation (9,241) (114,400) (21,769) (96,878)
----------- ----------- ----------- -----------
Total comprehensive loss $ (682,180) ($1,253,904) $(1,288,829) $(1,840,023)
=========== =========== =========== ===========
6
4. STOCK BASED COMPENSATION
The Company accounts for stock-based awards issued to employees under the
intrinsic value method in accordance with Accounting Principles Board Opinion
No. 25, "Accounting for Stock Issued to Employees" ("APB 25") and has adopted
the disclosure-only alternative of Statement of Financial Accounting Standards
No. 123, "Accounting for Stock-Based Compensation" ("SFAS No. 123").
Had compensation costs for stock-based awards issued to employees been
determined consistent with SFAS No.123, the Company's net income/(loss) and net
income/( loss) per share would have been reported as follows:
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, UNE 30,
------------------------- --------------------------
2005 2004 2005 2004
Net (loss) as reported $ (672,939) $ (1,139,504) $ (1,267,080) $ (1,743,145)
Deduct: Total stock-based employee (1,916) (16,374) (3,832) (33,331)
compensation expense determined under fair
value based method for all awards
---------- ------------ ------------ ------------
Pro forma net (loss) $ (674,855) $ (1,155,878) $ (1,270,912) $ (1,776,476)
========== ============ ============ ============
Net (loss) per share: basic & diluted - as
reported $ (0.86) $ (1.47) $ (1.63) $ (2.24)
---------- ------------ ------------ ------------
Pro forma basic & diluted (loss) per share $ (0.87) $ (1.49) $ (1.63) $ (2.29)
========== ============ ============ ============
5. COMMITMENTS AND CONTINGENCIES
During December 2004 the Company's R&D team, located in Sydney Australia,
vacated its existing office space and relocated to a new office building.
Although there has been no formal claim filed and no legal proceedings have been
instituted, the Company believes it is possible for the Company to have an
outstanding monetary obligation if the lease agreement related to the vacated
space that expired in December 2003, is determined to have been extended for an
additional 4 year period. The Company believes that at the time the office space
was vacated, there was only a month-to-month rental agreement in effect. If, in
the future a claim is filed, and a legal determination is subsequently made that
a long-term lease did in fact exist, then the Company could be obligated to pay
the landlord for some amount of rental losses, which can not be estimated at
this time.
In December 2004, the Company entered into employment agreements with 3
employees. Under each of the three agreements, in the event employment is
terminated (other than voluntarily by the employee or by the Company for cause),
the Company is committed to make a one-time severance payment equal to 30% of
annual salary or approximately $80,000 in total.
6. ACQUISITION
On March 17, 2005, the Company announced an agreement to purchase all of the
outstanding shares of Loyalty Magic Pty. Ltd., an Australian company located in
Melbourne for A$3.6 million in cash ($2.85 million USD based on the foreign
exchange rate in effect on the day before the signing of the agreement) and
372,550 shares of Catuity stock valued at A$1.9 million ($1.5 million USD) at
the date of the Agreement. The Agreement represented a significant, first step
in the Company's turnaround plan toward profitability. Loyalty Magic's
management team and A&B Venture Fund Company Pty Ltd. will hold the majority of
the shares. The combined company will have approximately a 40-person team
serving existing customers in Australia, New Zealand, and North America.
On July 18, 2005 Catuity's shareholders approved the acquisition and the
issuance of shares in order for the Company to raise up to A$7.0 million ($5.3
million USD). The proceeds from the capital raise will be used to pay the cash
portion of the acquisition and to provide additional working capital. Australian
shareholders as of the
7
record date, August 5, 2005, are being given a priority opportunity to purchase
shares as part of the placement pursuant to an exemption from the registration
requirements of the Securities Act found in Regulation S as promulgated
thereunder. Under Regulation S, U.S. non-accredited shareholders are not
eligible to participate in the offering. On August 5, 2005, the Company filed
its prospectus for the capital raise with the Australian Securities Investment
Commission and is in the process of receiving commitments from interested
investors. The Company expects to close on the capital raise at approximately
the end of August and complete the acquisition shortly thereafter.
On August 1, 2005 the Company announced that it had renegotiated the terms of
the acquisition agreement due to the significant increase in the trading price
of its stock since the acquisition agreement was signed in March. Under the
terms of the renegotiated agreement, the Company will pay Loyalty Magic
shareholders A$3.6 million in cash and 335,000 shares of Catuity stock valued at
A$10.00, the per share price for the capital raising.
7. SHAREHOLDERS' EQUITY
In 1995 and 1996, the Company issued non-recourse loans to a former Australian
director for the purpose of purchasing approximately 276,000 shares of the
Company's stock. The Company's recourse for repayment of the loans is limited to
after-tax dividends and proceeds from the disposal of the shares. In 1999,
$75,000 AUD of the loan was repaid related to the sale of 25,000 shares. In the
fourth quarter of 2003, approximately $60,750 AUD was repaid related to the sale
of 20,250 shares. The amount of the loan outstanding is re-valued at each
respective balance sheet date if the Company's period ending fair market price
per share is below the price per share at which the loan was made. The
offsetting entry is made to additional paid in capital.
8. NASDAQ LISTING
On April 4, 2005 the Company received notice from the Nasdaq stock market that,
as of December 31, 2004, its stockholders' equity was below $2,500,000, that it
was no longer in compliance with Marketplace Rule 4310(c)(2)(B), and needed to
submit a definitive plan stating how the Company intended to regain compliance
and sustain it over the long term. On April 19, 2005 the Company submitted its
plan of compliance and, on May 23, 2005 Nasdaq Staff granted the Company until
July 14, 2005 to complete its plan of compliance.
On June 27, 2005, Company received notice from the Nasdaq stock market that, as
of June 22, 2005, following the unexpected death of Board member Alan Gilman and
the resignation of Board member Duncan Mount, it had only two independent
directors on the Audit Committee of the Board of Directors and, as a result, was
no longer in compliance with Marketplace Rule 4350 which requires Nasdaq listed
companies to have three independent Directors on the Audit Committee. Both Mr.
Gilman and Mr. Mount were independent Directors and members of the Audit
Committee. Under Nasdaq Marketplace Rule 4350, a listed company has the lesser
of one year or until the company's next Annual Shareholder Meeting in order to
regain compliance. In as much as Catuity's next Annual Shareholder Meeting was
scheduled for July 18, 2005, the Company had only four weeks to conduct and
complete a search for at least one new, independent Director to serve on the
Audit Committee.
On July 21, 2005 the Company was notified by Nasdaq Staff that it had failed to
regain compliance with Marketplace Rules 4310(c)(2)(B) and 4350 and, unless it
appealed the Staff's determination to the Listing Qualifications Panel, would be
delisted on August 1, 2005. On July 28, 2005, Catuity filed an appeal for a
hearing with the Nasdaq Listing Qualifications Panel for an extension of time to
regain compliance with both of its listing compliance deficiencies. On August
11, 2005 Catuity presented its plan of compliance to the Listing Qualifications
Panel and requested that the Panel grant the Company until September 30, 2005 to
regain initial compliance and evidence it would sustain compliance with all of
Nasdaq's continuous listing requirements over the long term. A decision of the
Panel is expected within approximately thirty days of the hearing date.
8
ITEM 9. MANAGEMENT PLANS
In early 2004, management determined it was necessary to substantially revise
its corporate strategy away from the smart card market and began work on a new
strategic plan. Prior to the Target Corporation decision to discontinue issuing
smart cards, the Company had focused its efforts on licensing its smart card
based loyalty software to large retailers in North America. From its strategic
planning efforts, the Company determined that its business focus should be on
providing a hosted or customized software solution for tier two chain retailers
(and their partners) and on providing services to retailers, merchant service
providers, and POS equipment manufacturers for their needs at the point of sale.
As a result, the Company's market focus is on tier two retailers with
approximately $1 million to $1billion in sales, and in particular, pharmacy
chains, home improvement, auto services and other chain retailers looking to
improve customer retention, add new customers, and increase each customer's
average spend amount.
The Company also determined that it needed to become active in the mergers and
acquisitions market as a means to provide growth in as short a period of time as
possible. As a result, in the middle of 2004, the Company began an active effort
to identify companies that would represent an appropriate business fit with
Catuity's business, provide positive cash-flow, and profits from their
operations. (See Note 6 for information on the acquisition that is currently
pending.)
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW OF SIGNIFICANT ACTIVITIES
Catuity provides technology-based solutions to retailers that are designed to
increase the profit they receive from their customers at the Point of Sale
(POS). Today, the Company sells a hosted, ASP-based system that enables the
processing of member-based loyalty programs that can deliver customized
discounts, promotions, rewards and points-based programs designed to help
retailers find, keep and profit from their best customers. The Company also
enables gift card solutions. In late 2004, the Company introduced the first
version of its new loyalty software, the Catuity Advanced Loyalty System (CALS).
The system enables robust and highly customizable programs which work on a
retailer's payment terminals, Electronic Cash Registers and on their internal
store networks. Catuity also offers IT services to retailers to support their
POS systems maintenance and custom development needs for both the deployment of
our technology solution and those of third parties which also touch the point of
sale.
As previously disclosed, on March 17, 2005, the Company announced an agreement
to purchase all of the outstanding shares of Loyalty Magic Pty. Ltd., located in
Melbourne Australia for A$3.6 million ($2.85 million USD based on the foreign
exchange rate in effect on the day before the signing of the agreement) and
372,550 shares of Catuity stock valued at A$5.10 per share, subject to
shareholder approval. Due to the need to meet regulatory requirements in both
the United States and Australia, the preparation of the very lengthy proxy
statement describing the acquisition and capital raise required a protracted
amount of time and demanded a significant portion of management's limited time
and resources. The proxy statement received SEC approval in early June and was
mailed to shareholders on or about June 17, 2005. At the Company's Annual
Shareholder Meeting held on July 18, 2005, the Company received shareholder
approval to complete the acquisition and associated capital raise. On August 5,
2005 (U.S. Time), after an extended period of time and effort to meet the
regulatory requirements associated with the prospectus for the capital raise,
the Company filed its prospectus with the Australian Securities and Investment
Commission and expects to close the capital raise by approximately the end of
August 2005. The acquisition is expected to close shortly thereafter. The
Company believes the acquisition and capital raise will immediately bring it
into compliance, and sustain compliance, with Nasdaq's $2,500,000 shareholders'
equity continuous listing requirement. The combined company will have
approximately a 40-person team serving existing customers in Australia, New
Zealand, and North America.
On June 21, 2005, the Company announced that it had reached an agreement to host
a loyalty and gift card solution with the Company's first customer on an
Application Service Provider (ASP) basis. Catuity expects the application to be
implemented in the third quarter of 2005.
As previously disclosed, on June 22 Mr. Duncan Mount, the Company's Chairman,
resigned from the Board of Directors after selling the majority of his shares in
the open market. The combination of Mr. Mount's resignation and the June 9, 2005
unexpected death of Mr. Alan Gilman, another independent Board member, left the
Company with two independent Directors. Nasdaq Marketplace Rule 4350 requires
listed companies to maintain three independent Directors on the Audit Committee
of the Board. On June 22, the Board named Mr. Alexander (Sandy) Dawson as acting
Chairman and added Mr. Clifford Chapman to the Audit Committee. Under
Marketplace Rule 4350, the Company had the lesser of one year from the date of
non-compliance or until the Company's next Annual Shareholder Meeting to name a
third independent Director to the Audit Committee. In-as-much-as Catuity's next
Annual Shareholder Meeting was held on July 18, 2005, the Company had less than
four weeks to search, extend an offer, and receive an acceptance from a
qualified candidate to join the Board and serve on the Audit Committee. Although
the Board immediately began an active search for a new independent Director, it
was not possible to complete the search prior to the July 18 Annual Shareholders
Meeting. On July 21, 2005 the Company received notice from Nasdaq Staff that it
had determined the Company was out of compliance with Marketplace Rule 4310
(2)(c)(B) for having Shareholders Equity of less than $2.5 million and
Marketplace Rule 4350 for having fewer than three independent Directors on the
Audit Committee of the Board. The Company was notified it would be delisted on
August 1, 2005 unless it appealed the Staff's determination. On July 28, 2005,
Catuity filed an appeal for a hearing with the Nasdaq Listing Qualifications
Panel for an extension of time to regain compliance with both of its listing
compliance deficiencies. On August 11, 2005 Catuity presented its plan of
compliance to Nasdaq's Listing Qualifications Panel and requested that the Panel
grant the Company an extension of time, until September 30,
10
2005, to regain initial compliance and provide evidence it would sustain
compliance with all of Nasdaq's continuous listing requirements over the long
term. The decision of the Panel is expected within approximately thirty days of
the hearing date.
OPERATING RESULTS FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2005 AND JUNE 30,
2004
REVENUE
Total revenues for the three month period ended June 30 ("second quarter")
decreased $121,000, to $14,000 in 2005 compared to $135,000 in 2004. Second
quarter 2005 revenues consisted of approximately $1,500 in service revenue
related to consulting for a client, and approximately $12,500 in license revenue
that consisted of software license and maintenance fees. Second quarter 2004
revenues consisted of approximately $13,000 in project revenue related to Visa
software development, approximately $75,000 in service revenue related to Visa
support services and approximately $47,000 in software license and maintenance
fees for clients.
Total revenues for the six month period ended June 30 decreased by $567,000, to
$47,000 in 2005, from $614,000 in 2004. The 2005 decline in project and service
revenues accounted for the majority of the decline. The Company recognized no
project revenue during the first six months of 2005, whereas in the
corresponding 2004 period $231,000 in project revenues were recognized for Visa
and another client. Service revenue decreased by $267,000 in 2005 due to
decreased customer support services compared to the same period in 2004. License
revenue decreased by $69,000 in 2005 compared to the same period in 2004 due to
the termination of the Target maintenance agreement.
COST OF SOFTWARE DEVELOPMENT REVENUE
Cost of project revenue primarily consists of salaries, employee benefits,
related expenses and overhead for the portion of time spent by our technical
staff located in Sydney, Australia who work on software development activities.
The Company did not engage in any software development activities on behalf of
customers in the first half of 2005 and therefore did not incur any costs
related to project revenue. Cost of project revenue was approximately $91,000
for the first half of 2004 and was related to Visa development projects.
COST OF SERVICE REVENUE
Cost of service revenue primarily consists of salaries, employee benefits,
related expenses and overhead for the client services and support staff, for the
portion of their time spent on service related activities. Cost of service
revenue increased from $45,000 in the second quarter of 2004 to $69,000 in the
second quarter of 2005 (+51%) while service revenue decreased by $73,000 or 98%
over the same period. The increase in expenses for the three month period is
primarily due to the fact that certain service department costs related to
supporting sales activities were allocated to the Sales and Marketing department
in the second quarter of 2004, while the service department focused its efforts
on establishing the Company's secure, co-location hosting facility in the second
quarter of 2005 and did not spend time in support of sales activities. Expenses
for the six months ended June 30, 2005, were $87,000 compared to $158,000 for
the first half of 2004. Service revenue for the first half of 2005 decreased
$267,000 or 92% compared to the first half of 2004. The decrease in expenses for
the six month period is primarily due to lower staffing and overhead costs in
2005.
COST OF LICENSE REVENUE
Cost of license revenue primarily consists of salaries, employee benefits,
related expenses and overhead for the client support staff and the technical
staff's time spent on maintenance activities related to licensed Catuity
11
software. Cost of license revenue decreased $19,000 or 93% in the second quarter
of 2005 compared to the second quarter of 2004, and license revenue decreased by
$35,000, or 73%, over the same period. The decrease in expenses for the
three-month period was due to a reduction in staff and also corresponded with
the decrease in license revenue. For the six month period ended June 30, 2005,
cost of license revenue decreased $63,000 or 96% over the same period in 2004.
The decrease over the prior year was also due to a reduction in staff. Total
license revenue for the first half of 2005 decreased $69,000 or 75% compared to
the same period in 2004.
SALES AND MARKETING
Sales and marketing expenses consist primarily of salaries, employee benefits,
travel, marketing, public relations and related overhead costs of the sales and
marketing department. Sales and marketing expenses decreased $101,000, or 42%,
in the second quarter of 2005 compared to the second quarter of 2004. Expenses
for the six months ended June 30, 2005, decreased $191,000, or 40%, compared
with the corresponding 2004 period. The decrease in cost for both the three and
six month periods was principally due to reductions in staff size, travel and
lower overhead allocations.
RESEARCH AND DEVELOPMENT
Research and Development expenses consist primarily of salaries, employee
benefits and overhead cost, incurred mainly by the technical staff in Sydney
Australia. Research and development costs decreased $376,000 or 76% in the
second quarter of 2005 compared to the second quarter of 2004. The decrease was
mainly due to the significant reduction in staffing that occurred in the fourth
quarter of 2004 which lowered salary and related costs. Also included in the
second quarter of 2004 was an overhead allocation and service department
allocation for the portion of service department time spent furthering Catuity's
software products. Expenses for the six month period ended June 30, 2005
decreased $550,000 or 69% over the same period in 2004. The decrease in cost was
primarily due to lower staffing levels and lower allocations for overhead and
service department costs.
GENERAL AND ADMINISTRATIVE
General and administrative expenses consist primarily of salaries, employee
benefits, related overhead costs and professional services fees. General and
administrative expenses decreased $111,000, or 23%, in the second quarter of
2005 over the second quarter of 2004. Expenses for the six months ended June 30,
2005, decreased $90,000, or 11%, compared with the corresponding 2004 period.
Costs were primarily lower in 2005 compared to 2004, for both the three and six
month periods, due to lower professional fees as well as lower rent and
depreciation expense in 2005.
LIQUIDITY AND CAPITAL RESOURCES
Historically, we have funded our operations with proceeds from the issuance of
common stock and cash collections from customers. As of June 30, 2005, the
Company had approximately $1,004,000 in cash and cash equivalents, a decrease of
$1,557,000 from December 31, 2004.
Net cash used in operating activities was $1,256,000 for the six-month period
ended June 30, 2005 compared with $1,603,000 for the six-month period ended June
30, 2004. The lower net loss in 2005 was the primary factor contributing to the
decrease in net cash used in operating activities in 2005, despite higher
accounts receivable collections in the first six months of 2004.
Cash used by investing activities was $278,000 for the six-month period ended
June 30, 2005 compared with a cash inflow of $4,000 for the six-month period
ended June 30, 2004. The cash used in investing activities in 2005 is
principally due to payments for professional services associated with the
Loyalty Magic acquisition and capital raise.
Net cash used in financing activities in the first six months of 2005 was $900
and related to payments to shareholders for fractional shares related to the
Company's November 2004 reverse stock split. Cash provided by
12
financing activities for the same period in 2004 was $9,000 and related to
shares of the Company's common stock purchased at fair market value under the
Company's Executive Director Stock Purchase Plan.
At the Company's July 18, 2005 (July 19, 2005 in Australia) Annual Meeting,
shareholders approved the Company's proposal to raise equity capital to fund the
cash portion of the Loyalty Magic Pty Ltd. acquisition and to provide additional
working capital to the Company. The total amount anticipated to be raised is
approximately A$7 million (or approximately $5.3 million USD). The capital raise
is expected to be completed during the third quarter of 2005. In the event the
Company's capital raising efforts do not result in raising sufficient monies to
enable the Company to acquire Loyalty Magic, the Company intends to raise up to
A$2 million as approved by shareholders at the July 18, 2005 annual meeting.
The Company must raise sufficient funds to meet its working capital needs. The
Company continues to work to close its Australian capital raise successfully. If
the Australian capital raise is not successful in raising sufficient funds to
meet its working capital needs, the Company will explore all available
alternative financing possibilities, including the possibility of undertaking a
private placement.
FORWARD LOOKING INFORMATION
The Management Discussion and Analysis of Financial Condition and Results of
Operations includes "forward-looking" statements within the meaning of the
Private Securities Litigation Act of 1995. This Act provides a "safe harbor" for
forward-looking statements to encourage companies to provide prospective
information about themselves so long as they identify these statements as
forward-looking and provide meaningful cautionary statements identifying
important factors that could cause actual results to differ from the expected
results. All statements other than statements of historical fact made in this
Form 10-QSB are forward looking. In some cases, they can be identified by
terminology such as "may," "will," "should," "expect," " plan," "anticipate,"
"believe," "estimate," "predict," "potential," or "continue," the negative of
such terms or other comparable terminology. These statements are only
predictions. Actual events or results may differ materially. In evaluating these
statements, you should consider various factors that may cause our actual
results to differ materially from any forward-looking statements.
Although we believe that the expectations reflected in the forward-looking
statements are reasonable, we cannot guarantee our future results, levels of
activity, performance or achievement. Moreover, neither we nor any other person
assumes liability for the accuracy and completeness of the forward-looking
statements. Various factors may cause actual performance to differ from any of
the forward-looking statements contained in the Management Discussion and
Analysis of Financial Condition and Results of Operations. These include, but
are not limited to; changes in currency exchange rates from period to period,
inflation rates in the United States and Australia, recession, and other
external economic factors over which the Company has no control; the successful
completion of the Company's acquisition of Loyalty Magic and its associated
capital raise; the timing and speed with which our major customers and prospects
execute their plans for the use of our loyalty software; the demand for, timing
and market acceptance of smart cards by card issuing banks and major retailers;
continued development of the Company's software products; competitive product
and pricing pressures; use of internally developed software applications; patent
and other litigation risks; the risk of key staff leaving the Company; the risk
that major customers of the Company's products reduce their requirements or
terminate their arrangements with the Company; as well as other risks and
uncertainties, including but not limited to those detailed from time to time in
the Company's Securities and Exchange Commission filings. These forward-looking
statements are made only as of the date hereof, and the Company undertakes no
obligation to update or revise the forward-looking statements, whether as a
result of new information, future events or otherwise.
13
ITEM 3. CONTROLS AND PROCEDURES
Management, including the Company's Chief Executive Officer and Chief Financial
Officer, evaluated the effectiveness of the design and operation of the
Company's disclosure controls and procedures, pursuant to Rule 13a-15 of the
Securities and Exchange Act of 1934. The Company's disclosure controls and
procedures are designed to ensure that information required to be disclosed by
the Company in its periodic SEC filings is recorded, processed and reported
within the time periods specified in the SEC filings is recorded, processed and
reported within the time periods specified in the SEC's rules and forms. Based
upon that evaluation, the Chief Executive Officer and Chief Financial Officer
concluded that the Company's disclosure controls and procedures are effective in
all material respects, to ensure that information required to be disclosed in
the reports the Company files and submits under the Exchange Act is recorded,
processed, summarized and reported as and when required.
There have been no significant changes in the Company's internal controls or in
other factors that could significantly affect internal controls subsequent to
the date the Company carried out its evaluation. There were no significant
deficiencies or material weaknesses identified in the evaluation and, therefore,
no corrective actions were taken.
14
PART II OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS
(a) Exhibit Description
EX-31.1 Certification by Alfred H. Racine III,
President and Chief Executive Officer
pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
EX-31.2 Certification by John H. Lowry, Chief
Financial Officer
pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
EX-32 Certifications pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002
15
SIGNATURES AND CERTIFICATIONS
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
By: /s/ Alfred H. Racine III
-------------------------------------
Alfred H. Racine III
President and Chief Executive Officer
By: /s/ John H. Lowry
-------------------------------------
John H. Lowry
Chief Financial Officer
Date: August 15, 2005
16
Exhibit Index
Exhibit No. Description
- ------------ ----------------------------------------------------------
Exhibit 31.1 Certification by Alfred H. Racine III, President and Chief
Executive Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
Exhibit 31.2 Certification by John H. Lowry, Chief Financial Officer
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
Exhibit 32.2 Certifications pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002