SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
|X| QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the quarterly period ended June 30, 2005
|_| TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
Commission file number 0-22196
INNODATA ISOGEN, INC.
(Exact name of registrant as specified in its charter)
Delaware 13-3475943
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
Three University Plaza
Hackensack, New Jersey 07601
(Address of principal executive offices) (Zip Code)
(201) 488-1200
(Registrant's telephone number)
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding twelve 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 Exchange Act Rule 12b-2). Yes |_| No |X|
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date.
23,163,638 shares of common stock, $.01 par value, as of July 31, 2005.
Page No.
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PART I. FINANCIAL INFORMATION
Condensed Consolidated Balance Sheets 2
Condensed Consolidated Statements of Operations for the Three
Months Ended June 30, 2005 and 2004 3
Condensed Consolidated Statements of Operations for the Six
Months Ended June 30, 2005 and 2004 4
Condensed Consolidated Statements of Cash Flows for the Six
Months Ended June 30, 2005 and 2004 5
Notes to Consolidated Financial Statements for the Six
Months Ended June 30, 2005 and 2004 6
Management's Discussion and Analysis of Financial Condition and
Results of Operations 15
Quantitative and Qualitative Disclosures about Market Risk 26
Controls and Procedures 27
PART II. OTHER INFORMATION 28
1
INNODATA ISOGEN, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Dollars in Thousands)
June 30, December 31,
2005 2004
---------- ----------
Unaudited Derived from
audited
financial
statements
ASSETS
CURRENT ASSETS:
Cash and equivalents $ 22,945 $ 20,663
Accounts receivable-net 5,979 8,019
Prepaid expenses and other current assets 2,009 1,757
Deferred income taxes 385 645
---------- ----------
Total current assets 31,318 31,084
PROPERTY AND EQUIPMENT - NET 4,511 4,559
OTHER ASSETS 1,609 893
GOODWILL 675 675
---------- ----------
TOTAL $ 38,113 $ 37,211
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued expenses $ 3,248 $ 3,412
Accrued salaries, wages and related benefits 3,363 3,979
Income and other taxes 810 1,304
Current portion of long-term obligations 980 180
---------- ----------
Total current liabilities 8,401 8,875
---------- ----------
DEFERRED INCOME TAXES 1,432 1,449
---------- ----------
LONG-TERM OBLIGATIONS 848 150
---------- ----------
STOCKHOLDERS' EQUITY:
Serial preferred stock; 5,000,000 shares authorized, none outstanding
Common stock, $.01 par value; 75,000,000 shares authorized;
23,157,000 and 22,679,000 shares issued and outstanding at
June 30, 2005 and December 31, 2004, respectively 232 227
Additional paid-in capital 15,822 14,914
Retained earnings 11,378 11,596
---------- ----------
Total stockholders' equity 27,432 26,737
---------- ----------
TOTAL $ 38,113 $ 37,211
========== ==========
See notes to unaudited condensed consolidated financial statements
2
INNODATA ISOGEN, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
THREE MONTHS ENDED JUNE 30, 2005 AND 2004
(In thousands, except per share amounts)
(Unaudited)
- --------------------------------------------------------------------------------
2005 2004
-------- --------
REVENUES $ 10,110 $ 12,354
-------- --------
OPERATING COSTS AND EXPENSES:
Direct operating expenses 7,497 7,859
Selling and administrative expenses 3,406 2,413
Interest (income) - net (114) --
-------- --------
Total 10,789 10,272
-------- --------
(LOSS) INCOME BEFORE (BENEFIT FROM)
PROVISION FOR INCOME TAXES (679) 2,082
(BENEFIT FROM) PROVISION FOR INCOME TAXES (162) 505
-------- --------
NET (LOSS) INCOME $ (517) $ 1,577
======== ========
BASIC (LOSS) INCOME PER SHARE $ (.02) $ .07
======== ========
WEIGHTED AVERAGE SHARES OUTSTANDING 22,903 22,145
======== ========
DILUTED (LOSS) INCOME PER SHARE $ (.02) $ .06
======== ========
DILUTIVE SHARES OUTSTANDING 22,903 24,433
======== ========
See notes to unaudited condensed consolidated financial statements
3
INNODATA ISOGEN, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
SIX MONTHS ENDED JUNE 30, 2005 AND 2004
(In thousands, except per share amounts)
(Unaudited)
- --------------------------------------------------------------------------------
2005 2004
-------- --------
REVENUES $ 21,300 $ 24,511
-------- --------
OPERATING COSTS AND EXPENSES:
Direct operating expenses 15,700 15,634
Selling and administrative expenses 6,090 4,667
Bad debt recovery - net -- (963)
Interest (income) expense - net (195) 1
-------- --------
Total 21,595 19,339
-------- --------
(LOSS) INCOME BEFORE (BENEFIT FROM)
PROVISION FOR INCOME TAXES (295) 5,172
(BENEFIT FROM) PROVISION FOR INCOME TAXES (77) 1,515
-------- --------
NET (LOSS) INCOME $ (218) $ 3,657
======== ========
BASIC (LOSS) INCOME PER SHARE $ (.01) $ .17
======== ========
WEIGHTED AVERAGE SHARES OUTSTANDING 22,798 22,049
======== ========
DILUTED (LOSS) INCOME PER SHARE $ (.01) $ .15
======== ========
DILUTIVE SHARES OUTSTANDING 22,798 24,480
======== ========
See notes to unaudited condensed consolidated financial statements
4
INNODATA ISOGEN, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
SIX MONTHS ENDED JUNE 30, 2005 and 2004
(In thousands)
(Unaudited)
- --------------------------------------------------------------------------------
2005 2004
---------- ----------
OPERATING ACTIVITIES:
Net (loss) income $ (218) $ 3,657
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 1,583 2,068
Non-cash compensation 12 39
Deferred income taxes 243 1,134
Changes in operating assets and liabilities:
Accounts receivable 2,040 823
Refundable income taxes -- 1,075
Prepaid expenses and other current assets (50) (692)
Other assets (141) (101)
Accounts payable and accrued expenses (164) 226
Accrued salaries and wages (616) 528
Income and other taxes (356) 219
---------- ----------
Net cash provided by operating activities 2,333 8,976
---------- ----------
INVESTING ACTIVITIES:
Capital expenditures (729) (924)
---------- ----------
FINANCING ACTIVITIES:
Payment of capital lease obligations (85) (73)
Proceeds from exercise of stock options 763 306
---------- ----------
Net cash provided by financing activities 678 233
---------- ----------
INCREASE IN CASH 2,282 8,285
CASH AND EQUIVALENTS, BEGINNING OF PERIOD 20,663 5,051
---------- ----------
CASH AND EQUIVALENTS, END OF PERIOD $ 22,945 $ 13,336
========== ==========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the period for:
Interest $ 10 $ 9
========== ==========
Income taxes $ 499 $ 120
========== ==========
See notes to unaudited condensed consolidated financial statements
5
INNODATA ISOGEN, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SIX MONTHS ENDED JUNE 30, 2005 AND 2004
(Unaudited)
- --------------------------------------------------------------------------------
1. Innodata Isogen, Inc. and subsidiaries (the "Company"), is a leading
provider of content supply chain services and solutions. The Company
manufactures content by providing digitization, imaging, data conversion,
XML and markup, metadata creation, advanced classification, editorial,
knowledge and related services. It also designs, implements, integrates
and deploys systems used to manage content. The consolidated financial
statements include the accounts of Innodata Isogen, Inc. and its
subsidiaries, all of which are wholly owned. All intercompany transactions
and balances have been eliminated in consolidation.
In the opinion of the Company, the accompanying unaudited condensed
consolidated financial statements contain all adjustments (consisting of
only normal recurring accruals) necessary to present fairly the financial
position as of June 30, 2005, the results of operations for the three and
six months ended June 30, 2005 and 2004, and the cash flows for the six
months ended June 30, 2005 and 2004. The results of operations for the
three and six months ended June 30, 2005 and 2004 are not necessarily
indicative of results that may be expected for any other interim period or
for the full year.
These financial statements should be read in conjunction with the
financial statements and notes thereto for the year ended December 31,
2004 included in the Company's Annual Report on Form 10-K. The accounting
policies used in preparing these financial statements are the same as
those described in the December 31, 2004 financial statements.
6
2. An analysis of the changes in each caption of stockholders' equity for the
six months ended June 30, 2005 and 2004 (in thousands) is as follows.
Additional
Common Stock Paid-in Retained Treasury
Shares Amount Capital Earnings Stock Total
---------- ---------- ---------- ---------- ---------- ----------
January 1, 2005 22,679 $ 227 $ 14,914 $ 11,596 -- $ 26,737
Net loss -- -- -- (218) -- (218)
Issuance of common stock
upon exercise of stock options 478 5 758 -- -- 763
Tax benefit from exercise
of options -- -- 138 -- -- 138
Non-cash compensation -- -- 12 -- -- 12
---------- ---------- ---------- ---------- ---------- ----------
June 30, 2005 23,157 $ 232 $ 15,822 $ 11,378 -- $ 27,432
========== ========== ========== ========== ========== ==========
January 1, 2004 22,535 $ 226 $ 15,413 $ 3,739 $ (1,974) $ 17,404
Net income -- -- -- 3,657 -- 3,657
Issuance of common stock
upon exercise of stock options 362 4 302 -- -- 306
Tax benefit from exercise
of options -- -- 195 -- -- 195
Non-cash compensation -- -- 39 -- -- 39
---------- ---------- ---------- ---------- ---------- ----------
June 30, 2004 22,897 $ 230 $ 15,949 $ 7,396 $ (1,974) $ 21,601
========== ========== ========== ========== ========== ==========
3. Basic income per share is based on the weighted average number of common
shares outstanding without consideration of potential common stock.
Diluted income per share is based on the weighted average number of common
and potential common shares outstanding. The difference between weighted
average common shares outstanding and adjusted dilutive shares outstanding
represents the dilutive effect of outstanding options. Options to purchase
2.5 million shares of common stock in 2005 and 1.3 million shares of
common stock in 2004 were outstanding but not included in the computation
of diluted earnings per share because the options' exercise price was
greater than the average market price of the common shares and therefore,
the effect would have been antidilutive. In addition, for 2005, diluted
net loss per share does not include 1,700,000 and 2,103,000 potential
common shares derived from stock options for the three and six months
ended June 30, 2005, respectively, as a result of the Company incurring
losses for the respective periods.
7
The basis of the earnings per share computation for the three and six
months ended June 30, 2005 and 2004 (in thousands, except per share
amounts) is as follows:
Three Months Six Months
2005 2004 2005 2004
-------- ---------- -------- ----------
Net (loss) income $ (517) $ 1,577 $ (218) $ 3,657
======== ========== ======== ==========
Weighted average common shares outstanding 22,903 22,145 22,798 22,049
Dilutive effect of outstanding options -- 2,288 -- 2,431
-------- ---------- -------- ----------
Adjusted for dilutive computation 22,903 24,433 22,798 24,480
======== ========== ======== ==========
Basic (loss) income per share $ (.02) $ .07 $ (.01) $ .17
======== ========== ======== ==========
Diluted (loss) income per share $ (.02) $ .06 $ (.01) $ .15
======== ========== ======== ==========
4. The Company accounts for its stock options issued to employees and outside
directors pursuant to Accounting Principles Board Opinion ("APB") No. 25,
"Accounting for Stock Issued to Employees" and has adopted the disclosure
requirements of SFAS No. 123, "Accounting for Stock-Based Compensation,"
and SFAS No. 148, "Accounting for Stock-Based Compensation - Transition
and Disclosure - an Amendment of FASB Statement No. 123." Accordingly, no
compensation expense has been recognized in connection with the issuance
of stock options for the three and six months ended June 30, 2005 and
2004.
The following table illustrates the effect on net income and earnings per
share if the Company had applied the fair value recognition provisions of
SFAS No. 123 to stock-based employee compensation.
Three months ended Six months ended
June 30, June 30,
------------------------- --------------------------
2005 2004 2005 2004
---------- ---------- ----------- ----------
Net (loss) income as reported $ (517) $ 1,577 $ (218) $ 3,657
Deduct: Total stock-based employee
compensation determined under fair value
based method, net of related tax effects (2,519) (903) (2,785) (1,418)
---------- ---------- ----------- ----------
Pro forma net (loss) income $ (3,036) $ 674 $ (3,003) $ 2,239
---------- ---------- ----------- ----------
(Loss) income per share:
Basic - as reported $ (.02) $ .07 $ (.01) $ .17
========== ========== =========== ==========
Basic - pro forma $ (.13) $ .03 $ (.13) $ .10
========== ========== =========== ==========
Diluted - as reported $ (.02) $ .06 $ (.01) $ .15
========== ========== =========== ==========
Diluted - pro forma $ (.13) $ .03 $ (.13) $ .09
========== ========== =========== ==========
8
5. On May 16, 2005, the Company and certain of its officers and directors
agreed to change the initial exercise price and initial expiration date of
vested options to purchase 1,390,346 shares of the Company's common stock
held by such officers to a new price of $2.59, and to new expiration dates
as follows:
Quantity Initial Initial Expiration New Price New Expiration Date
Price Date
540,346 $1.56 May 31, 2005 $2.59 108,000 per year
commencing May 31, 2009,
remainder on May 31, 2013
810,000 $2.25 770,000 on October, $2.59 162,000 per year commencing
8, 2005 and 40,000 September 30, 2009 until
on October 18, 2005 September 30, 2012, 8,000
on September 30, 2013 and
154,000 on March 31, 2014
40,000 $2.50 October 3, 2005 $2.59 October 3, 2010
In connection with the extension, the option holders agreed not to sell,
pledge or otherwise dispose of any of the shares of common stock received
upon exercise of their respective option(s) referred to above until the
earlier to occur of (i) May 16, 2007; (ii) the first day on which the
closing market price for the Company's stock is at least $5.00 per share
for ten consecutive trading days; or (iii) the termination of employment
or directorship (as applicable) with the Company either (A) by the
Company, for reasons other than "for cause"; or (B) by the option holder,
upon mutual agreement between the option holder and the Company.
In addition, the Chief Executive Officer further agreed to pay to the
Company any pre-tax net profit earned from the sale of the shares of
common stock received upon exercise of his options set forth above if he
directly or indirectly competes with the Company or solicits Company
customers or clients during the period from May 16, 2005 until the first
anniversary of the termination of his employment for any reason.
No equity compensation expense has been recorded because the exercise
price of the modified options were equal to the price of the underlying
common stock on the date the grants were modified. In addition, pursuant
to EITF 00-23, the Company has determined that the modified grants
continue to qualify for fixed accounting treatment.
9
6. The Company's operations are classified into two reporting segments: (1)
outsourced content services and (2) IT professional services. The
outsourced content services segment focuses on fabrication services and
knowledge services. Fabrication services include digitization and data
conversion services, content creation and XML services. Knowledge services
include content enhancement, hyperlinking, indexing and general editorial
services. The IT professional services segment focuses on the design,
implementation, integration and deployment of systems used to author,
manage and distribute content. The Company's outsourced content services
revenues are generated principally from its production facilities located
in the Philippines, India and Sri Lanka. The Company does not depend on
revenues from sources internal to the countries in which the Company
operates; nevertheless, the Company is subject to certain adverse economic
and political risks relating to overseas economies in general, such as
inflation, currency fluctuations and regulatory burdens.
Three Months Ended Six Months Ended
June 30, June 30,
------------------------- -------------------------
2005 2004 2005 2004
---------- ---------- ---------- ----------
(in thousands) (in thousands)
Revenues:
Outsourced content services $ 8,293 $ 9,683 $ 18,300 $ 18,504
IT professional services 1,817 2,671 3,000 6,007
---------- ---------- ---------- ----------
Total consolidated $ 10,110 $ 12,354 $ 21,300 $ 24,511
========== ========== ========== ==========
Depreciation and amortization:
Outsourced client services $ 665 $ 930 $ 1,391 $ 1,888
IT professional services 20 20 47 40
Selling and corporate administration 74 73 145 140
---------- ---------- ---------- ----------
Total consolidated $ 759 $ 1,023 $ 1,583 $ 2,068
========== ========== ========== ==========
(Loss) income before income taxes:
Outsourced client services $ 1,699 $ 2,939 $ 4,525 $ 6,254
IT professional services 700 1,255 607 3,017
Selling and corporate administration (3,078) (2,112) (5,427) (4,099)
---------- ---------- ---------- ----------
Total consolidated $ (679) $ 2,082 $ (295) $ 5,172
========== ========== ========== ==========
June 30, December 31,
2005 2004
---------- ----------
(in thousands)
Total assets:
Outsourced content services $ 14,362 $ 15,937
IT professional services 1,449 2,033
Corporate (includes corporate cash) 22,302 19,241
---------- ----------
Total consolidated $ 38,113 $ 37,211
========== ==========
10
One client accounted for 25% and 24% of the Company's revenues for the
three months ended June 30, 2005 and 2004, respectively. A second client
accounted for 27% of the Company's revenues for the three months ended
June 30, 2004. No other client accounted for 10% or more of revenues
during these periods. Further, in the three months ended June 30, 2005 and
2004, revenues to non-US clients accounted for 35% and 30%, respectively,
of the Company's revenues.
One client accounted for 22% and 24% of the Company's revenues for the six
months ended June 30, 2005 and 2004, respectively. A second client
accounted for 20% and 25% of the Company's revenues for the six months
ended June 30, 2005 and 2004, respectively. No other client accounted for
10% or more of revenues during these periods. Further, in the six months
ended June 30, 2005 and 2004, revenues to non-US clients accounted for 31%
and 30%, respectively, of the Company's revenues.
A significant amount of the Company's revenues are derived from clients in
the publishing industry. Accordingly, the Company's accounts receivable
generally include significant amounts due from such clients. In addition,
as of June 30, 2005, approximately 28% of the Company's accounts
receivable was from foreign (principally European) clients and 31% of
accounts receivable was due from two clients.
7. In 2005, the Company entered into an agreement with a vendor to acquire
certain additional software licenses and to receive support and subsequent
software upgrades on this and other currently owned software licenses
through February 2008. Pursuant to the agreement, the Company will pay
approximately $263,000 in July 2005, and make 10 payments of approximately
$132,000 per quarter thereafter, commencing in September 2005. The total
cost was allocated to the following asset accounts:
Other current assets $ 487,000
Other assets (long-term) 608,000
Property and equipment 488,000
-----------
Total $ 1,583,000
===========
The current portion of the obligation totaling approximately $791,000 is
included on the balance sheet under current portion of long term
obligations. The remaining long-term portion is reflected as a long-term
obligation. Also included in long-term obligations are long-term capital
lease obligations totaling $56,000.
The total obligation and associated cost totaling $1,583,000 is a non-cash
investing and financing activity.
8. In the three and six months ended June 30, 2005, the benefit from income
taxes as a percentage of loss before income taxes was 24% and 26%,
respectively, which is lower than the U.S. Federal statutory tax rate,
principally due to losses attributable to certain overseas subsidiaries
not subject to income taxes. In the three and six months ended June 30,
2004, the provision for income taxes as a percentage of income before
income taxes was 24% and 29%, respectively, which is lower than the U.S.
Federal statutory tax rate, principally due to certain overseas income
which is neither subject to foreign income taxes because of tax holidays
granted to the Company, nor subject to tax in the U.S. unless repatriated.
11
9. The Company has a $5 million line of credit pursuant to which it may
borrow up to 80% of eligible accounts receivable at either the bank's
alternate base rate plus 1/2% or LIBOR plus 3%. The line, which expires
May 31, 2006, is secured by the company's accounts receivable. The Company
has not borrowed against its credit line in 2005.
10. In January 2004, the Company reached a settlement agreement and received
$1,000,000 cash from a former client as full satisfaction of a $2.6
million dollar remaining outstanding balance that the Company had fully
written off as a bad debt in 2001. The $1,000,000 receipt, net of $37,000
in recovery costs, is reflected as bad debt recovery income in the
statement of operations for the six months ended June 30, 2004.
11. In connection with the cessation of all operations at certain foreign
subsidiaries, certain former employees have filed various actions against
one of the Company's Philippine subsidiaries, and have purported to also
sue the Company and certain of its officers and directors, seeking to
require reinstatement of employment and to recover back wages for an
allegedly illegal facility closing on June 7, 2002 based on the terms of a
collective bargaining agreement with this subsidiary. If the complainants'
claims had merit, they could be entitled to back wages of up to $5.0
million for the period from June 7, 2002 to June 6, 2005, consistent with
prevailing jurisprudence. Based upon consultation with legal counsel,
management believes the claims are without merit and is defending against
them vigorously.
12. In August 2004, the Internal Revenue Service ("IRS") promulgated
regulations, effective August 12, 2004, that treated certain of the
Company's subsidiaries that are incorporated in foreign jurisdictions and
also domesticated as Delaware limited liability companies as U.S.
corporations for U.S. federal income tax purposes. In the preamble to such
regulations, the IRS expressed its view that dual registered companies
described in the preceding sentence are also treated as U.S. corporations
for U.S. federal income tax purposes for periods prior to August 12, 2004.
Notwithstanding this view, the Company believes that its historic
treatment of these subsidiaries as not having been required to pay taxes
in the United States for the period prior to August 12, 2004 is correct,
and intends to vigorously defend its treatment if challenged. As such, the
Company has made no provision for U.S. taxes in its financial statements
for these entities for the periods prior to August 12, 2004. However, if
challenges by the IRS were ultimately successful, the Company's potential
U.S. federal income tax liability could approximate $2.5 million,
excluding interest and potential penalties. Furthermore, the Company
cannot assure that the IRS will not assert other positions with respect to
the foregoing matters that, if successful, could increase materially the
Company's liability for U.S. federal income taxes. In December 2004, the
Company effected certain filings in Delaware to ensure that these
subsidiaries will not be treated as U.S. corporations for U.S. federal
income tax purposes as of the date of filing and as such, will not be
subject to U.S. federal income taxes commencing January 1, 2005.
12
In addition, the Company is subject to various legal proceedings and
claims which arise in the ordinary course of business.
While management currently believes that the ultimate outcome of all these
proceedings will not have a material adverse effect on the Company's
financial position or overall trends in results of operations, litigation
is subject to inherent uncertainties. Were an unfavorable ruling to occur,
there exists the possibility of a material adverse impact on the operating
results of the period in which the ruling occurs. In addition, the
estimate of potential impact on the Company's financial position or
overall results of operations for the above legal proceedings could change
in the future.
13. The Company's production facilities are located in the Philippines, India
and Sri Lanka. To the extent that the currencies of these countries
fluctuate, the Company is subject to risks of changing costs of production
after pricing is established for certain customer projects. However, most
significant contracts contain provisions for price renegotiation.
14. The Company is obligated under certain circumstances to indemnify
directors and certain officers against costs and liabilities incurred in
actions or threatened actions brought against such individual because such
individual acted in the capacity of director and/or officer of the
Company. In addition, the Company has contracts with certain clients
pursuant to which the Company has agreed to indemnify the client for
certain specified and limited claims. These indemnification obligations
are in the ordinary course of business and, in many cases, do not include
a limit on maximum potential future payments. As of June 30, 2005, the
Company has not recorded liability for any obligations arising as a result
of these indemnifications.
15. In December 2004, the FASB issued SFAS No. 123 (R), "Share-Based Payment",
which is a revision of SFAS No. 123 and supersedes Accounting Principles
Board ("APB") Opinion No. 25. SFAS No. 123 (R) requires all share-based
payments to employees, including grants of employee stock options, to be
valued at fair value on the date of grant, and to be expensed over the
applicable vesting period. Pro forma disclosure of the income statement
effects of share-based payments is no longer an alternative. SFAS No. 123
(R) is effective for all stock-based awards granted on or after January 1,
2006. In addition, companies must also recognize compensation expense
related to any awards that are not fully vested as of the effective date.
Compensation expense for the unvested awards will be measured based on the
fair value of the awards previously calculated in developing the pro forma
disclosures in accordance with the provisions of SFAS No. 123. The Company
is currently evaluating SFAS No. 123 (R), including the method of
adoption, and expects its adoption will result in increased compensation
expense in the future.
13
16. In December 2004, the FASB issued FASB Staff Position No. FAS 109-1 ("FAS
109-1"), "Application of FASB Statement No. 109, `Accounting for Income
Taxes,' to the Tax Deduction on Qualified Production Activities provided
by the American Jobs Creation Act of 2004." The American Jobs Creation
Act, or AJCA, creates a temporary incentive for U.S. corporations to
repatriate accumulated income earned abroad by providing an 85% dividend
received deduction for certain qualified dividends from controlled foreign
corporations. FAS 109-1 clarifies that this tax deduction should be
accounted for as a special tax deduction in accordance with FASB Statement
No. 109. Our evaluation of the AJCA with respect to the additional
deduction is still in process and we expect to complete the evaluation
process in 2005. As such, we cannot reasonably estimate the income tax
effect of any such repatriation at the present time.
17. In December 2004, the FASB issued SFAS No. 153, "Exchanges of Nonmonetary
Assets, an amendment of APB Opinion No. 29." The guidance in APB Opinion
No. 29, "Accounting for Nonmonetary Transactions", is based on the
principle that exchanges of nonmonetary assets should be measured based on
the fair value of assets exchanged. The guidance in that opinion, however,
included certain exceptions to that principle. This Statement amends APB
No. 29 to eliminate the exception for nonmonetary exchanges of similar
productive assets that do not have commercial substance. A nonmonetary
exchange has commercial substance if the future cash flows of the entity
are expected to change significantly as a result of the exchange. SFAS No.
153 is effective for nonmonetary exchanges occurring in fiscal periods
beginning after June 15, 2005. The adoption of SFAS No. 153 is not
expected to have a material impact on our financial position and results
of operations.
14
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Disclosures in this Form 10-Q contain certain forward-looking statements,
including without limitation, statements concerning our operations, economic
performance, and financial condition. These forward-looking statements are made
pursuant to the safe harbor provisions of the Private Securities Litigation
Reform Act of 1995. The words "estimate," "believe," "expect," and "anticipate"
and other similar expressions generally identify forward-looking statements,
which speak only as of their dates.
These forward-looking statements are based largely on our current
expectations, and are subject to a number of risks and uncertainties, including
without limitation, continuing revenue concentration in a limited number of
clients, continuing reliance on project-based work, worsening of market
conditions, changes in external market factors, the ability and willingness of
our clients and prospective clients to execute business plans which give rise to
requirements for digital content and professional services in knowledge
processing, difficulty in integrating and deriving synergies from acquisitions,
potential undiscovered liabilities of companies that we acquire, changes in our
business or growth strategy, the emergence of new or growing competitors,
various other competitive and technological factors, and other risks and
uncertainties indicated from time to time in our filings with the Securities and
Exchange Commission.
Our actual results could differ materially from the results referred to in
the forward-looking statements. In light of these risks and uncertainties, there
can be no assurance that the results referred to in the forward-looking
statements contained in this release will occur.
We undertake no obligation to update or review any guidance or other
forward-looking information, whether as a result of new information, future
developments or otherwise.
The Company
Innodata Isogen is a leading provider of business services that help
organizations create, manage, use and distribute information more effectively
and economically. We provide outsourced content services and content-related
information technology (IT) professional services. Our outsourced content
services focus on fabrication services and knowledge services. Fabrication
services include digitization, imaging, data conversion, XML and mark-up
services, as well as language translation and content creation services. XML, or
Extensible Markup Language, is a universally accepted notation for identifying
information elements in documents, and is designed to meet the challenges of
large-scale electronic publishing. Knowledge services include content
enhancement, taxonomy, controlled vocabulary development, hyperlinking, mark-up
indexing, abstracting and general editorial services. Our IT professional
services focus on the design, implementation, integration and deployment of
systems used to author, manage and distribute content.
15
Our services encompass both outsourced content services that focus on
fabrication services and knowledge services, as well as information technology
(IT) professional services that focus on the design, implementation, integration
and deployment of systems used to author, manage and distribute content. We
define content as all forms of unstructured data, including text, formatted text
such as HTML, high-fidelity information such as XML, interactive and /or dynamic
Web pages, images, graphics animation, video and sound files.
Outsourced content services for business processes that we anticipate a
client will require for an indefinite period generate what we regard as
recurring revenues. Outsourced content services for a specific project generate
revenues that we regard as non-recurring. A substantial majority of our IT
professional services is provided on a project basis that generates
non-recurring revenues.
While we seek, wherever possible, to counterbalance periodic declines in
revenues on completion of large projects with new arrangements to provide
services to the same client or others, we may not be able to avoid declines in
revenues when large projects are completed. Our inability in any period to
obtain sufficient new projects to counterbalance any decreases in such work will
adversely affect our revenues and results of operations for the period.
We have historically relied on a very limited number of clients that have
accounted for a significant portion of our revenues. We may lose any of these or
any of our other major clients as a result of our failure to meet or satisfy our
clients' requirements; the completion or termination of a project or engagement;
or the selection of another service provider.
In addition, the revenues we generate from our major clients may decline
or grow at a slower rate in future periods than in the past. If we lose any of
our significant clients, our revenues and results of operations could be
adversely affected and we may incur a loss from operations. Our services are
typically subject to client requirements, and in most cases are terminable upon
30 to 90 days' notice.
The Company's production facilities are located in the Philippines, India
and Sri Lanka. To the extent that the currencies of these countries fluctuate,
the Company is subject to risks of changing costs of production after pricing is
established for certain customer projects. However, most significant contracts
contain provisions for price renegotiation.
We have experienced, and expect to continue to experience, significant
fluctuations in our quarterly revenues and results of operations. Numerous
factors, some of which are beyond our control, may affect our quarterly results
of operations, including completions, terminations, cancellations or deferrals
of projects or engagements; the size, mix, timing and terms and conditions of
client projects; variations in the duration, size and scope of our projects or
engagements; market acceptance of our clients' new products and services; our
ability to manage costs; local factors and events that affect our production
volume, such as local holidays; unforeseen events, such as earthquakes, storms
and civil unrest; currency exchange fluctuations; changes in pricing policies by
us or our competitors; the introduction of new services by us or our
competitors; and acquisition and integration costs related to possible
acquisitions of other businesses.
16
Direct operating costs for both our outsourced content services and IT
professional services consist of direct payroll, occupancy costs, depreciation,
telecommunications, computer services and supplies. We intend to reduce direct
operating costs of our IT professional services as a percentage of revenues from
our IT professional services by increasing our offshore IT professional services
staff.
Selling and administrative expenses for both our outsourced content
services and IT professional services consist of management and administrative
salaries, selling and marketing costs and administrative overhead. We anticipate
selling expenses will continue to increase in absolute terms as we continue to
build and enhance our business development infrastructure.
Results of Operations
Three Months Ended June 30, 2005 and 2004
Revenues
Revenues were $10.1 million for the three months ended June 30, 2005
compared to $12.4 million for the similar period in 2004, a decrease of 18%. Our
quarterly revenues for the three months ended June 30, 2005 decreased 10% from
first quarter revenues of approximately $11.2 million. The sequential decline in
quarterly revenues reflects the termination of a major outsourced content
services project that occurred late in the first quarter of 2005, which resulted
in a $2.2 million reduction to our second quarter 2005 revenues. The sequential
quarter decline was partially offset by a $600,000 increase in second quarter
2005 IT professional services segment revenues.
One client accounted for 25% and 24% of our total revenues for the three
months ended June 30, 2005 and 2004, respectively. A second client accounted for
27% of our revenues for the three months ended June 30, 2004. No other client
accounted for 10% or more of our total revenues for these periods. Further, for
the three months ended June 30, 2005 and 2004, revenues from clients located in
foreign countries (principally in Europe) accounted for 35% and 30% of our total
revenues, respectively.
Revenues from outsourced content services decreased 14%, to $8.3 million
for the three months ended June 30, 2005 from $9.7 million for the similar
period in 2004. The revenue decrease was primarily due to a $1.4 million decline
in revenues from the termination of the major outsourced content services
project referred to above.
Revenues from IT professional services decreased 32%, to $1.8 million for
the three months ended June 30, 2005 from $2.7 million for the similar period in
2004. The results in the 2004 period reflect approximately $1 million of
revenues from a project that was completed in the third quarter of 2004.
17
For the three months ended June 30, 2005, approximately 57% of our revenue
was recurring and the balance 43% was non-recurring, compared with 51% and 49%,
respectively, for the three months ended June 30, 2004.
Direct Operating Costs
Direct operating costs were $7.5 million and $7.9 million for the three
months ended June 30, 2005 and 2004, respectively, a decrease of 5%. Direct
operating costs as a percentage of revenues for the three months ended June 30,
2005 and 2004, were 74% and 64% respectively.
Direct operating costs for outsourced content services were $6.4 million
for each of the three months ended June 30, 2005 and 2004, respectively. Direct
operating costs of outsourced content services as a percentage of revenues from
outsourced content services were 77% and 67% for the three months ended June 30,
2005 and 2004, respectively. Although variable costs of production as a percent
of revenues remained constant, fixed overhead costs increased both in absolute
terms and as a percentage of revenues. The increase in fixed overhead costs
resulted principally from increases in facility rent and power costs, as well as
increases in labor costs attributable to growth in our engineering technology
department and to salary increases generally. The overall increase was in part
offset by a $263,000 reduction in depreciation and amortization.
Direct operating costs for IT professional services were $1.1 million and
$1.4 million for the three months ended June 30, 2005 and 2004, respectively, a
decrease of 21%. Direct operating costs of IT professional services as a
percentage of revenues from IT professional services were 61% and 53% for the
three months ended June 30, 2005 and 2004, respectively. The dollar decrease in
direct operating costs of IT professional services for the 2005 period was due
to a reduction in both labor and non-labor costs. The increase in direct
operating costs of IT professional services as a percentage of revenues from IT
professional services for the 2005 period was primarily attributable to
decreased revenues without a corresponding decrease in labor costs.
Selling and Administrative Expenses
Selling and administrative expenses were $3.4 million and $2.4 million for
the three months ended June 30, 2005 and 2004, respectively, an increase of 41%.
Selling and administrative expenses as a percentage of revenues were 34% and 20%
for the three months ended June 30, 2005 and 2004, respectively. Selling and
marketing expenses increased by more than $500,000, partly as a result of
increased costs from our continued efforts to enhance our business development
infrastructure. In addition, during the three months ended June 30, 2005, we
spent approximately $200,000 in new services research and development. The
balance of the increase from 2004 reflects general increases in administrative
costs.
18
Other
In the three months ended June 30, 2005, the benefit from income taxes as
a percentage of loss before income taxes was 24%, which is lower than the U.S.
Federal statutory tax rate, principally due to losses attributable to certain
overseas subsidiaries not subject to income taxes. In the three months ended
June 30, 2004, the provision for income taxes as a percentage of income before
income taxes was 24%, which is lower than the U.S. Federal statutory tax rate,
principally due to certain overseas income which is neither subject to foreign
income taxes because of tax holidays granted to the Company, nor subject to tax
in the U.S. unless repatriated.
Six Months Ended June 30, 2005 and 2004
Revenues
Revenues were $21.3 million for the six months ended June 30, 2005
compared to $24.5 million for the similar period in 2004, a decrease of 13%. One
client accounted for 22% and 24% of our total revenues for the six months ended
June 30, 2005 and 2004, respectively. A second client accounted for 20% and 25%
of our revenues for the six months ended June 30, 2005 and 2004 respectively. No
other client accounted for 10% or more of our total revenues for these periods.
Further, for the six months ended June 30, 2005 and 2004, revenues from clients
located in foreign countries (principally in Europe) accounted for 31% and 30%
of our total revenues, respectively.
Revenues from outsourced content services decreased slightly to $18.3
million for the six months ended June 30, 2005 from $18.5 million for the
similar period in 2004.
Revenues from IT professional services decreased 50% to $3.0 million for
the six months ended June 30, 2005 from $6.0 million for the similar period in
2004. The decline in revenues in 2005 was primarily due to the completion of two
large projects during the third quarter of 2004. The results in the 2004 period
reflect approximately $3.1 million of revenues from two projects that were
completed in 2004.
For the six months ended June 30, 2005, approximately 58% of our revenue
was recurring and 42% was non-recurring, compared with 52% and 48%,
respectively, for the six months ended June 30, 2004.
Direct Operating Costs
Direct operating costs were $15.7 million and $15.6 million for the six
months ended June 30, 2005 and 2004, respectively. Direct operating costs as a
percentage of revenues for the six months ended June 30, 2005 and 2004, were 74%
and 64% respectively.
Direct operating costs for outsourced content services were $13.3 million
and $12.6 million for the six months ended June 30, 2005 and 2004, respectively,
an increase of 5%. Direct operating costs of outsourced content services as a
percentage of revenues from outsourced content services were 73% and 68% for the
six months ended June 30, 2005 and 2004, respectively. Although variable costs
of production as a percent of revenues remained constant, fixed overhead costs
increased both in absolute terms and as a percentage of revenues. The increase
in fixed overhead costs resulted principally from increases in facility rent and
power costs, as well as increases in labor costs attributable to growth in our
engineering technology department and to salary increases generally. The overall
increase was in part offset by a $494,000 reduction in depreciation and
amortization.
19
Direct operating costs for IT professional services were $2.4 million and
$3.0 million for the six months ended June 30, 2005 and 2004, respectively, a
decrease of 19%. Direct operating costs of IT professional services as a
percentage of revenues from IT professional services were 80% and 49% for the
six months ended June 30, 2005 and 2004, respectively. The dollar decrease in
direct operating costs of IT professional services for the 2005 period was due
to a reduction in both labor and non-labor costs. The increase in direct
operating costs of IT professional services as a percentage of revenues from IT
professional services for the 2005 period was primarily attributable to
decreased revenues without a corresponding decrease in labor costs.
Selling and Administrative Expenses
Selling and administrative expenses were $6.1 million and $4.7 million for
the six months ended June 30, 2005 and 2004, respectively, an increase of 30%.
Selling and administrative expenses as a percentage of revenues were 29% and 19%
for the six months ended June 30, 2005 and 2004, respectively. Selling and
marketing expenses increased by approximately $750,000, partly as a result of
increased costs from our continued efforts to enhance our business development
infrastructure. In addition, during the six months ended June 30, 2005, we spent
approximately $200,000 in new services research and development. The balance of
the increase from 2004 reflects general increases in administrative costs.
Other
In January 2004, we reached a settlement agreement and received $1.0
million in cash from a former client in full satisfaction of a $2.6 million
outstanding balance that we had fully written off as a bad debt in 2001. The
$1.0 million receipt, net of $37,000 in recovery costs, is reflected as bad debt
recovery for the six months ended June 30, 2004.
In the six months ended June 30, 2005, the benefit from income taxes as a
percentage of loss before income taxes was 26%, which is lower than the U.S.
Federal statutory tax rate, principally due to certain overseas income which is
neither subject to foreign income taxes because of tax holidays granted to the
Company, nor subject to tax in the U.S. unless repatriated. In the six months
ended June 30, 2004, the provision for income taxes as a percentage of income
before income taxes was 29%, which is lower than the U.S. Federal statutory tax
rate, principally due to certain overseas income which is neither subject to
foreign income taxes because of tax holidays granted to the Company, nor subject
to tax in the U.S. unless repatriated.
20
Liquidity and Capital Resources
Selected measures of liquidity and capital resources, expressed in
thousands are as follows:
June 30, 2005 December 31, 2004
------------- -----------------
Cash and Cash Equivalents $ 22,945 $ 20,663
Working Capital 22,917 22,209
Net Cash Provided By Operating Activities
Net cash provided by operating activities was $2.3 million for the six
months ended June 30, 2005 compared to $9.0 million provided by operating
activities for the six months ended June 30, 2004, a decrease of approximately
$6.7 million. The $6.7 million decrease in net cash provided by operating
activities is principally due to a $3.9 million reduction in net income, a $1.4
million reduction in non-cash charges (of which approximately $900,000
represents a reduction in deferred tax assets and the remainder a reduction in
depreciation and amortization), and approximately $1.4 million represents an
overall net change in operating assets and liabilities.
Accounts receivable totaled approximately $6.0 million at June 30, 2005,
representing approximately 54 days of sales outstanding compared to $8.0
million, or 57 days, at December 31, 2004. The decrease in days outstanding
resulted from increased accounts receivable collections during 2005.
A significant amount of our revenues is derived from clients in the
publishing industry. Accordingly, our accounts receivable generally include
significant amounts due from such clients. In addition, as of June 30, 2005,
approximately 28% of our accounts receivable was from foreign (principally
European) clients, and 31% of accounts receivable was due from two clients.
Net Cash Used in Investing Activities
For the six months ended June 30, 2005, we spent cash approximating
$729,000 for capital expenditures, compared to approximately $924,000 for the
six months ended June 30, 2004. Furthermore, during the six months ended June
30, 2005, we financed the purchase of software licenses totaling approximately
$488,000. Capital spending in 2005 and 2004 related principally to normal
ongoing equipment upgrades, project requirement specific equipment, and
improvements in infrastructure. During the next twelve months, we anticipate
that capital expenditures for ongoing technology, hardware, equipment and
infrastructure upgrades will approximate $3 million. Furthermore, in the next
twelve months, we anticipate spending approximately $1.6 million on construction
and infrastructure related costs in connection with the relocation of two of our
Asian facilities, and for the renovation of our U.S. headquarters. Such
anticipated expenditures exclude potential capital expenditures for new service
offerings.
21
Net Cash Provided by Financing Activities
Proceeds from the exercise of stock options provided cash approximating
$763,000 and $306,000 for the six months ended June 30, 2005 and 2004,
respectively. In addition, payments of capital lease obligations approximated
$85,000 and $73,000 for the six months ended June 30, 2005 and 2004,
respectively.
During the six months ended June 30 2005, we entered into an agreement
with a vendor to acquire certain additional software licenses and to receive
support and subsequent software upgrades on this and other currently owned
software licenses through February 2008 for a total cost of approximately 1.6
million. This total obligation and associated cost totaling approximately $1.6
million is a non-cash investing and financing activity. Approximately $791,000
of the $1.6 million will be paid as a financing activity in the next 12 months.
Contractual Obligations
During the six months ended June 30, 2005, we incurred a contractual debt
obligation totaling $1.6 million (see above). Payment terms by period of this
obligation as of June 30, 2005 (in thousands) are as follows:
Payments due by period
-------------------------------------------------------------
Less than More than 5
Total 1 yr. 1-3 yrs. 3-5 yrs. yrs.
-------------------------------------------------------------
Long-term trade debt 1,583 791 792 -- --
Availability of Funds
We have a $5.0 million line of credit pursuant to which we may borrow up
to 80% of eligible accounts receivable at the bank's alternate base rate plus
1/2% or LIBOR plus 3%. The line is secured by our accounts receivable. There are
no amounts outstanding under this facility.
We believe that existing cash and internally generated funds will be
sufficient for our reasonably anticipated working capital and capital
expenditure requirements during the next 12 months. We fund our foreign
expenditures from our U.S. corporate headquarters on an as-needed basis.
Inflation, Seasonality and Prevailing Economic Conditions
To date, inflation has not had a significant impact on our operations. We
generally perform work for our clients under project-specific contracts,
requirements-based contracts or long-term contracts. Contracts are typically
subject to numerous termination provisions.
22
Our quarterly operating results are also subject to seasonal fluctuations.
Our fourth and first quarters include the months of December and January, when
billable services activity by professional staff, as well as engagement
decisions by clients, may be reduced due to client budget planning cycles. In
addition, demand for our services may be lower in the fourth quarter due to
reduced activity during the holiday season and fewer working days for our
Philippines based staff during this period.
Critical Accounting Policies and Estimates
Basis of Presentation and Use of Estimates
Management's discussion and analysis of its results of operations and
financial condition is based upon our consolidated financial statements, which
have been prepared in accordance with accounting principles generally accepted
in the United States. The preparation of these financial statements requires
management to make estimates and judgments that affect the reported amounts of
assets, liabilities, revenues and expenses, and related disclosure of contingent
assets and liabilities. On an on-going basis, we evaluate our estimates,
including those related to accounts receivable. Management bases its estimates
on historical experience and on various other assumptions that are believed to
be reasonable under the circumstances, the results of which form the basis for
making judgments about the carrying values of assets and liabilities that are
not readily apparent from other sources. Actual results may differ from these
estimates under different assumptions or conditions.
Allowance for Doubtful Accounts
We establish credit terms for new clients based upon management's review
of their credit information and project terms, and perform ongoing credit
evaluations of our customers, adjusting credit terms when management believes
appropriate based upon payment history and an assessment of their current credit
worthiness. We record an allowance for doubtful accounts for estimated losses
resulting from the inability of our clients to make required payments. We
determine this allowance by considering a number of factors, including the
length of time trade accounts receivable are past due, our previous loss
history, our estimate of the client's current ability to pay its obligation to
us, and the condition of the general economy and the industry as a whole. While
credit losses have generally been within expectations and the provisions
established, we cannot guarantee that credit loss rates in the future will be
consistent with those experienced in the past. In addition, we have credit
exposure if the financial condition of one of our major clients were to
deteriorate. In the event that the financial condition of our clients were to
deteriorate, resulting in an impairment of their ability to make payments,
additional allowances might be necessary.
Revenue Recognition
We recognize revenue for content manufacturing and outsourcing services in
the period in which we perform services and deliver in accordance with Staff
Accounting Bulletin 104.
23
We recognize IT professional services revenue from custom application and
systems integration development which requires significant production,
modification or customization of software in accordance with Statement of
Position ("SOP") No. 97-2 "Software Revenue Recognition" and in a manner similar
to SOP No. 81-1 "Accounting for Performance of Construction-Type and Certain
Production-Type Contracts". We recognize revenue for such services billed under
fixed fee arrangements in a manner similar to the percentage-of-completion
method under contract accounting as we perform services or reach output
milestones. We measure the percentage completed either by the percentage of
labor hours incurred to date in relation to estimated total labor hours or in
consideration of achievement of certain output milestones, depending on the
specific nature of each contract. For arrangements in which percentage-of
completion accounting is used, we record cash receipts from customers and billed
amounts due from customers in excess of recognized revenue as billings in excess
of revenues earned on contracts in progress (which is included in accounts
receivable). Revenues from fixed-fee projects accounted for less than 10% of our
total revenue for the three months ended June 30, 2005 and 2004, respectively.
We recognize revenue billed on a time and materials basis as we perform the
services.
Property and Equipment
Property and equipment is stated at cost and is depreciated on the
straight-line method over the estimated useful lives of the related assets,
which is generally two to five years. Leasehold improvements are amortized on a
straight-line basis over the shorter of their estimated useful lives or the
lives of the leases.
Long-lived Assets
We account for long lived assets under Statement of Financial Accounting
Standards ("SFAS") 144, Accounting for the Impairment or Disposal of Long Lived
Assets. We assess the recoverability of our long-lived assets, which consists
primarily of fixed assets and intangible assets with finite useful lives,
whenever events or changes in circumstance indicate that the carrying value may
not be recoverable. The following factors, if present, may trigger an impairment
review: (i) significant underperformance relative to expected historical or
projected future operating results; (ii) significant negative industry or
economic trends; (iii) significant decline in our stock price for a sustained
period; and (iv) a change in our market capitalization relative to net book
value. If the recoverability of these assets is unlikely because of the
existence of one or more of the above-mentioned factors, we perform an
impairment analysis using a projected discounted cash flow method. We must make
assumptions regarding estimated future cash flows and other factors to determine
the fair value of these respective assets. If these estimates or related
assumptions change in the future, we may be required to record an impairment
charge. Impairment charges would be included in general and administrative
expenses in our statements of operations, and would result in reduced carrying
amounts of the related assets on our balance sheets.
24
Income Taxes
We determine our deferred taxes based on the difference between the
financial statement and tax bases of assets and liabilities, using enacted tax
rates, as well as any net operating loss or tax credit carryforwards expected to
reduce taxes payable in future years. We provide a valuation allowance when it
is more likely than not that some or all of a deferred tax asset will not be
realized. Unremitted earnings of foreign subsidiaries have been included in the
consolidated financial statements without giving effect to the United States
taxes that may be payable on distribution to the United States to the extent
such earnings are not anticipated to be remitted to the United States.
Goodwill and Other Intangible Assets
SFAS 142 requires that we test goodwill for impairment using a two-step
fair value based test. The first step of the goodwill impairment test annually,
used to identify potential impairment, compares the fair value of a reporting
unit with its carrying amount, including goodwill. If the carrying amount of the
reporting unit exceeds its fair value, the second step of the goodwill
impairment test must be performed to measure the amount of the impairment loss,
if any. If impairment is determined, we will recognize additional charges to
operating expenses in the period in which they are identified, which would
result in a reduction of operating results and a reduction in the amount of
goodwill.
Accounting for Stock-Based Compensation
We account for our stock options issued to employees and outside directors
pursuant to Accounting Principles Board Opinion ("APB") No. 25, "Accounting for
Stock Issued to Employees" and have adopted the disclosure requirements of SFAS
No. 123, "Accounting for Stock-Based Compensation", and SFAS No. 148,
"Accounting for Stock-Based Compensation - Transition and Disclosure - an
Amendment of FASB Statement No. 123". Accordingly, in 2005, we have not
recognized compensation expense in connection with the issuance of stock options
to employees and outside directors.
Significant New Accounting Pronouncements Not Yet Adopted
In December 2004, the FASB issued SFAS No. 123 (R), "Share-Based Payment",
which is a revision of SFAS No. 123 and supersedes Accounting Principles Board
("APB") Opinion No. 25. SFAS No. 123 (R) requires all share-based payments to
employees, including grants of employee stock options, to be valued at fair
value on the date of grant, and to be expensed over the applicable vesting
period. Pro forma disclosure of the income statement effects of share-based
payments is no longer an alternative. SFAS No. 123 (R) is effective for all
stock-based awards granted on or after January 1, 2006. In addition, companies
must also recognize compensation expense related to any awards that are not
fully vested as of the effective date. Compensation expense for the unvested
awards will be measured based on the fair value of the awards previously
calculated in developing the pro forma disclosures in accordance with the
provisions of SFAS No. 123. We are currently evaluating SFAS No. 123 (R),
including the method of adoption, and expect its adoption will result in
increased compensation expense in the future.
25
In December 2004, the FASB issued FASB Staff Position No. FAS 109-1 ("FAS
109-1"), "Application of FASB Statement No. 109, `Accounting for Income Taxes,'
to the Tax Deduction on Qualified Production Activities provided by the American
Jobs Creation Act of 2004." The American Jobs Creation Act, or AJCA, creates a
temporary incentive for U.S. corporations to repatriate accumulated income
earned abroad by providing an 85% dividend received deduction for certain
qualified dividends from controlled foreign corporations. FAS 109-1 clarifies
that this tax deduction should be accounted for as a special tax deduction in
accordance with FASB Statement No. 109. Our evaluation of the AJCA with respect
to the additional deduction is still in process and we expect to complete the
evaluation process in 2005. As such, we cannot reasonably estimate the income
tax effect of any such repatriation at the present time.
In December 2004, the FASB issued SFAS No. 153, "Exchanges of Nonmonetary
Assets, an amendment of APB Opinion No. 29." The guidance in APB Opinion No. 29,
"Accounting for Nonmonetary Transactions", is based on the principle that
exchanges of nonmonetary assets should be measured based on the fair value of
assets exchanged. The guidance in that opinion, however, included certain
exceptions to that principle. This Statement amends APB No. 29 to eliminate the
exception for nonmonetary exchanges of similar productive assets that do not
have commercial substance. A nonmonetary exchange has commercial substance if
the future cash flows of the entity are expected to change significantly as a
result of the exchange. SFAS No. 153 is effective for nonmonetary exchanges
occurring in fiscal periods beginning after June 15, 2005. The adoption of SFAS
No. 153 is not expected to have a material impact on our financial position and
results of operations.
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
We are exposed to interest rate change market risk with respect to our
credit line with a financial institution which is priced based on the bank's
alternate base rate (6.00% at June 30, 2005) plus 1/2% or LIBOR (3.375% at June
30, 2005) plus 3%. We have not borrowed under this line in 2005. To the extent
we utilize all or a portion of this line of credit, changes in the interest rate
will have a positive or negative effect on our interest expense.
We have operations in foreign countries. While we are exposed to foreign
currency fluctuations, we presently have no financial instruments in foreign
currency and do not maintain significant funds in foreign currency beyond those
necessary for operations.
26
Item 4. Controls and Procedures
An evaluation has been carried out under the supervision and with the
participation of our management, including our Chief Executive Officer and
Principal Financial Officer, of the effectiveness of the design and the
operation of our "disclosure controls and procedures" (as such term is defined
in Rules 13a-15(e) under the Securities Exchange Act of 1934) as of June 30,
2005 ("Evaluation Date"). Based on such evaluation, our Chief Executive Officer
and Principal Financial Officer have concluded that, as of the Evaluation Date,
the disclosure controls and procedures are reasonably designed and effective to
ensure that (i) information required to be disclosed by us in the reports we
file or submit under the Securities Exchange Act of 1934 is recorded, processed,
summarized and reported within the time periods specified in the SEC's rules and
forms, and (ii) such information is accumulated and communicated to our
management, including our Chief Executive Officer and Principal Financial
Officer, as appropriate to allow timely decisions regarding required disclosure.
There were no changes in our internal controls over financial reporting in
connection with the evaluation required by paragraph (d) of Rules 13a-15 or
15d-15 under the Exchange Act that occurred during our last fiscal quarter that
materially affected or are reasonably likely to materially affect the internal
controls over financial reporting.
27
PART II. OTHER INFORMATION
Item 1. Legal Proceedings. Not Applicable
Item 2. Changes in Securities. Not Applicable
Item 3. Defaults upon Senior Securities. Not Applicable
Item 4. Submission of Matters to a Vote of Security Holders.
The following matters were voted on at the June 7, 2005 Annual
Meeting of Stockholders. The total shares voted were 18,840,549.
Election of Directors:
Nominee For Withheld Against Abstain
------- --- -------- ------- -------
Jack Abuhoff 17,572,041 1,268,508 0 0
Todd Solomon 17,600,245 1,240,304 0 0
Haig Bagerdjian 18,637,381 203,168 0 0
Louise Forlenza 18,639,881 200,668 0 0
John Marozsan 18,639,981 200,568 0 0
To ratify the selection and appointment by the Company's Board of
Directors of Grant Thornton LLP, independent auditors, as auditors
for the Company for the year ending December 31, 2005:
Auditors 18,499,093 0 303,741 37,715
Item 5. Other Information. Not Applicable
Item 6. (a) Exhibits.
31.1 Certificate of Chief Executive Officer pursuant to Section 302
of the Sarbanes Oxley Act of 2002.
31.2 Certificate of Principal Financial Officer pursuant to Section
302 of the Sarbanes Oxley Act of 2002.
32.1 Certification Pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification Pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes Oxley Act of 2002.
28
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.
INNODATA ISOGEN, INC.
Date: August 11, 2005 /s/ Jack Abuhoff
---------------------------------------
Jack Abuhoff
Chairman of the Board of Directors,
Chief Executive Officer and President
Date: August 11, 2005 /s/ Stephen Agress
---------------------------------------
Stephen Agress
Vice President - Finance
Chief Accounting Officer
29