UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-QSB
(Mark One)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the Quarter Ended June 30, 2005
[_] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT
Commission File Number: 000-1084047
INNOVATIVE SOFTWARE TECHNOLOGIES, INC.
--------------------------------------
(Exact name of small business issuer as specified in its charter)
California 95-4691878
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(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
100 North Tampa Street, Suite 2410, Tampa, FL 33602
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(Address of Principal Executive Offices) (Zip Code)
(813) 387-3310
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(Registrant's Telephone Number, Including Area Code)
Securities Registered Pursuant to Section 12(b) of the Act: None
Securities Registered Pursuant to Section 12(g) of the Act: Common Stock,
$.001 par value
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [_]
There were 50,651,183 shares of common stock, $0.001 par value, outstanding as
of August 25, 2005.
1
INNOVATIVE SOFTWARE TECHNOLOGIES, INC.
FORM 10-QSB
QUARTER ENDED JUNE 30, 2005
TABLE OF CONTENTS
Page
----
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheets as of June 30, 2005 (Unaudited)
and December 31, 2004.................................................................. 3
Condensed Consolidated Statements of Operations (Unaudited) for the Three and Six
Months Ended June 30, 2005 and 2004.................................................... 4
Condensed Consolidated Statements of Cash Flow (Unaudited) for the Six
Months Ended June 30, 2005 and 2004.................................................... 5
Notes to the Condensed Consolidated Financial Statements (Unaudited)..................... 6
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations.................................................................... 13
Item 3. Controls and Procedures.............................................................. 18
PART II - OTHER INFORMATION
Item 1. Legal Proceedings.................................................................... 19
Item 3. Defaults upon Senior Securities...................................................... 20
Item 6. Exhibits and Reports on Form 8-K..................................................... 20
Signatures.................................................................................... 21
Index to Exhibits............................................................................. 22
2
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
INNOVATIVE SOFTWARE TECHNOLOGIES, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
June 30, December 31,
2005 2004
------------ ------------
ASSETS
CURRENT ASSETS
Cash $ 32,909 $ 876,472
Accounts receivable
Merchant accounts receivable -- 87,417
Notes receivable, net of allowance for doubtful
accounts of $10,665 and $245,496, respectively 38,366 594,128
Inventory 5,250 5,471
Refundable income taxes 582,836 582,836
Prepaid expenses and other current assets 18,841 53,745
------------ ------------
Total current assets 678,202 2,200,069
PROPERTY AND EQUIPMENT, NET 43,965 104,424
GOODWILL -- 1,088,686
INVESTMENT 147,656 178,120
DEPOSITS 35,159 39,215
------------ ------------
Total assets $ 904,982 $ 3,610,514
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIENCY)
CURRENT LIABILITIES
Accounts payable and accrued expenses $ 911,414 $ 976,573
Deferred revenue -- 111,492
Notes payable and current maturities of capital lease obligations 19,417 79,300
------------ ------------
Total current liabilities 930,831 1,167,365
CAPITAL LEASE OBLIGATIONS -- 8,249
------------ ------------
Total liabilities 930,831 1,175,614
------------ ------------
COMMITMENTS AND CONTINGENCIES (NOTE 7) -- --
STOCKHOLDERS' EQUITY (DEFICIENCY)
Preferred stock, issued and outstanding, 450,000 shares 450,000 450,000
Common stock - authorized, 100,000,000 shares of $.001 par
value; issued and outstanding, 50,651,183 and 55,586,198
shares as of June 30, 2005 and December 31, 2004, respectively 50,650 55,586
Additional paid-in capital 18,327,206 18,398,495
Accumulated deficit (18,853,705) (16,469,181)
------------ ------------
Total stockholders' equity (deficiency) (25,849) 2,434,900
------------ ------------
Total liabilities and stockholders' equity (deficiency) $ 904,982 $ 3,610,514
============ ============
See accompanying notes.
3
INNOVATIVE SOFTWARE TECHNOLOGIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
For the Three Months For the Six Months
Ended June 30, Ended June 30,
---------------------------- ----------------------------
2005 2004 2005 2004
------------ ------------ ------------ ------------
REVENUE
Services revenue $ 2,254 $ 4,063,888 $ 157,454 $ 7,565,830
Product sales 5,662 3,200,204 118,881 8,953,324
Other revenue -- 354,001 8,600 748,329
------------ ------------ ------------ ------------
Total revenue 7,916 7,618,093 284,935 17,267,483
COST OF REVENUE
Cost of services revenue 1,471 1,995,586 8,326 3,492,050
Cost of product sales and other revenue 1,283 1,594,430 6,248 4,609,625
------------ ------------ ------------ ------------
Total cost of revenue 2,754 3,590,016 14,573 8,101,675
------------ ------------ ------------ ------------
GROSS PROFIT 5,162 4,028,077 270,362 9,165,808
------------ ------------ ------------ ------------
OPERATING EXPENSES
General and administrative 380,053 1,601,454 1,237,082 4,525,179
Commissions and other selling expenses 20,020 2,193,531 182,316 4,078,989
Writedown of goodwill 1,088,686 -- 1,088,686 --
------------ ------------ ------------ ------------
Total operating expenses 1,488,759 3,794,985 2,508,083 8,604,168
------------ ------------ ------------ ------------
INCOME (LOSS) FROM OPERATIONS (1,483,596) 233,092 (2,237,721) 561,640
------------ ------------ ------------ ------------
OTHER INCOME (EXPENSE) NET
Interest and penalties on late tax payments (10,000) (23,340) (10,000) (45,088)
Other income (expense) (149,320) 34,053 (147,829) 87,567
Interest income, deposits -- 5,485 -- 10,969
Interest income, financing arrangements 2,063 31,879 13,492 64,070
Interest expense -- (1,548) -- (5,075)
------------ ------------ ------------ ------------
OTHER INCOME (EXPENSE) NET (157,257) 46,529 (144,337) 112,443
------------ ------------ ------------ ------------
INCOME BEFORE INCOME TAXES (1,640,854) 279,620 (2,382,058) 674,083
INCOME TAXES (2,466) (110,449) (2,466) (266,262)
------------ ------------ ------------ ------------
NET INCOME (LOSS) (1,643,319) 169,171 (2,384,524) 407,821
UNDECLARED PREFERRED STOCK DIVIDENDS (4,500) (20,790) (9,000) (41,580)
------------ ------------ ------------ ------------
INCOME (LOSS) APPLICABLE TO COMMON STOCKHOLDERS $ (1,647,819) $ 148,381 $ (2,393,524) $ 366,241
============ ============ ============ ============
BASIC AND DILUTED INCOME (LOSS) PER COMMON SHARE $ (0.03) $ 0.00 $ (0.04) $ 0.01
============ ============ ============ ============
WEIGHTED AVERAGE NUMBER OF COMMON SHARES
USED IN BASIC AND DILUTED PER SHARE CALCULATION 51,681,571 52,897,186 53,623,098 52,897,186
============ ============ ============ ============
See accompanying notes.
4
INNOVATIVE SOFTWARE TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOW
(UNAUDITED)
For the Six Months
Ended June 30,
--------------------------
2005 2004
----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income (loss) $(2,384,524) $ 407,820
Adjustments to reconcile net income (loss) to
net cash provided (used) by operating activities
Depreciation and amortization 7,980 166,123
Bad debt expense 150,943 --
Write down of Goodwill 1,088,686 --
Write down of Investment 30,464 --
Net change in operating assets and liabilities
Merchant account receivables 84,670 (55,832)
Other receivables 10,000 86,373
Inventory (5,250) (311)
Prepaid expenses and other current assets 14,817 (457,845)
Accounts payable and accrued expenses 140,599 1,787,449
Deferred revenue 19,608 (551,810)
Accrued federal and state income tax -- 266,262
----------- -----------
Net cash flows from operating activities (842,007) 1,648,229
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES
Cash received on notes receivable from financed sales 312,655 (366,073)
Increase in notes receivable from new financed sales (221,523) --
Triad Media, Inc. cash balance at sale (11,064) --
Purchase of fixed assets (23,717) (174,574)
----------- -----------
Net cash flows from investing activities 56,351 (540,647)
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CASH FLOWS FROM FINANCING ACTIVITIES
Decrease in notes payable (56,018) --
Payments on capital lease obligations (1,889) (39,303)
----------- -----------
Net cash flows from financing activities (57,907) (39,303)
----------- -----------
NET INCREASE (DECREASE) IN CASH (843,562) 1,068,279
CASH AT BEGINNING OF PERIOD 876,472 3,890,929
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CASH AT END OF PERIOD $ 32,909 $ 4,959,209
=========== ===========
SUPPLEMENTAL CASH FLOW INFORMATION
Property and equipment acquired under capital leases $ -- $ 15,192
=========== ===========
See accompanying notes.
5
INNOVATIVE SOFTWARE TECHNOLOGIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(1) Organization, Basis of Presentation, and Certain Interim Accounting
Policies
(a) Organization and Description of Business:
Innovative Software Technologies, Inc. (the "Company") was
incorporated in the State of California in May 1998. Prior to the
Company's disposition of operating assets of its EPMG subsidiary and
the split-off of its Triad subsidiary, discussed in Note 3, the
Company was engaged in the development, marketing and delivery of
business-type educational programs, generally to individuals,
throughout the United States of America. The Company's educational
programs combined both self-training and coaching by Company
employees. Currently the Company has no operating business and is
actively seeking to acquire an operating entity.
(b) Basis of Presentation:
The accompanying unaudited condensed consolidated financial
statements have been prepared in accordance with generally accepted
accounting principles for interim financial information and with the
instructions to Form 10-QSB and Regulation S-B. Accordingly, they do
not contain all of the information and footnotes required by
generally accepted accounting principles for complete consolidated
financial statements. In the opinion of management, the accompanying
unaudited condensed consolidated financial statements reflect all
adjustments (consisting only of normal recurring adjustments)
considered necessary for a fair presentation of the Company's
financial condition as of June 30, 2005, and the results of its
operations for the three and six months ended June 30, 2005 and June
30, 2004, and the cash flows for the six months ended June 30, 2005
and June 30, 2004. These unaudited condensed consolidated financial
statements should be read in conjunction with the Company's audited
2004 consolidated financial statements, including the notes thereto,
and the other information set forth therein, included in the
Company's Annual Report on Form 10-KSB for the year ended December
31, 2004. Operating results for the three and six month periods
ended June 30, 2005 are not necessarily indicative of the operating
results that may be expected for the year ending December 31, 2005.
(c) Principles of Consolidation:
The consolidated financial statements include the accounts of the
Company and its wholly-owned subsidiaries, EPMG, Inc., SoftSale,
Inc., IST Medical Group, Inc., and IST Integrated Solutions, Inc.
All significant intercompany balances and transactions have been
eliminated in consolidation.
(d) Income Taxes in Interim Periods:
Income taxes are accounted for under the asset and liability method.
Deferred tax assets and liabilities are recognized for the future
tax consequences attributable to differences between the financial
statement carrying amounts of existing assets and liabilities and
their respective tax bases and operating loss and tax credit
carry-forwards. For purposes of interim financial reporting, the
Company projects its effective income tax rate for the entire fiscal
year, taking into account all taxing jurisdictions, and applies such
rate to
6
INNOVATIVE SOFTWARE TECHNOLOGIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(1) Organization, Basis of Presentation, and Certain Interim Accounting
Policies (continued)
interim pre-tax income. Changes in the projected effective tax rate
in future quarters, if any, are accounted for prospectively in the
period of change.
(e) Earnings Per Common Share:
Basic net income per common share is computed by dividing (i) the
net income (loss), as adjusted for the effects of cumulative
dividends on the Series A and B Preferred Stock by (ii) the weighted
average common shares outstanding during the period. Diluted net
income (loss) per share is computed similarly but includes the
effects of dilutive securities in the denominator. Due to the Net
Losses in the current period, the calculation for diluted income per
common share in each period is anti-dilutive. Therefore, Basic and
Diluted Net Loss per common share are the same.
Three Months Ended Six Months Ended
June 30, June 30,
2005 2004 2005 2004
---------- ---------- ---------- ----------
Income applicable to common stockholders ($1,647,819) $148,381 ($2,393,524) $366,241
========== ========== ========== ==========
Weighted average common shares outstanding 51,681,571 52,897,186 53,623,098 52,897,186
========== ========== ========== ==========
Basic and diluted income per common share ($0.03) $0.00 ($0.04) $0.01
========== ========== ========== ==========
(2) Liquidity and Management's Plans
The accompanying condensed consolidated financial statements have been
prepared assuming that the Company will continue as a going concern for a
reasonable period. However, during July 2004, the Company sold certain
operating assets and liabilities of its EPMG subsidiary, which represented
a significant portion of its revenue producing operations to certain
shareholders of the Company (See Note 3). During April 2005, the Company
split-off its Triad Media, Inc. subsidiary, further curtailing future
operations (See Note 3). The remaining operations of the Company are
minimal. As a result of the EPMG asset transfer, the Company incurred a
loss of ($3,231,549) and used cash of ($3,189,958) in its operating
activities during the year ended December 31, 2004. The Company incurred a
loss of ($2,384,524) and used cash of ($842,007) in its operating
activities during the six months ended June 30, 2005. Finally, the Company
has a working capital deficiency of ($252,629). These conditions raise
substantial doubt about the Company's ability to continue as a going
concern.
Management is currently engaged in seeking merger and acquisition
candidates within the technologies and healthcare industries, which have
revenue producing and cash generating operations. As further discussed in
Note 3, on May 6, 2005, IST Integrated Solutions, Inc. (a wholly-owned
subsidiary) completed an acquisition of the assets and operations of Lietz
Development, Inc. and Saphire of Tampa Bay, Inc. (collectively "Data
Tech"), a Tampa, Florida based computer equipment reseller, and hosting
and network services provider. Subsequent to the closing of the
acquisition, the Company discovered certain facts that constituted
undisclosed liabilities and/or breaches of representation or warranty by
Data Tech and the Selling Stockholders under the Asset Purchase Agreement.
Therefore, the Company, Data Tech and the Selling Stockholders executed a
mutual rescission agreement on June 27, 2005 pursuant to which this
transaction was rescinded (see Part II, Item 6(b) Reports on Form 8-K).
While management has identified a number of other prospective acquisition
targets, there can be
7
INNOVATIVE SOFTWARE TECHNOLOGIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(2) Liquidity and Management's Plans (continued)
no assurance that any acquisition will be completed or that this strategy
would be successful. In addition, management is seeking to raise
additional capital to support its operations until a successful
acquisition or acquisitions can be completed. There can be no assurance
that management will be able to acquire additional capital at acceptable
terms, if at all.
As of June 30, 2005, the Company has cash and other reserves amounting to
$32,909, certain receivables that are expected to be collected during the
year ended December 31, 2005 amounting to $38,366, net of allowances,
investment in a private company of $147,656, and refundable income taxes,
net of interest and penalties due, of approximately $450,000. In the
absence of a strategic acquisition of funding, described in Note 2 to our
financial statements, management believes that it can curtail operating
expenses and defer trade payables sufficient to maintain our existence
through the fourth fiscal quarter of the year ended December 31, 2005.
There can be no assurances that we can acquire companies or curtail our
expenses sufficiently to maintain our operations.
The accompanying consolidated financial statements do not include any
adjustments that might become necessary should the Company be unable to
continue as a going concern.
(3) EPMG Asset Disposition, Split-off of Triad Media, and Acquisition of Data
Tech
(a) EPMG Asset Disposition
On July 2, 2004, the Company entered into a Settlement Agreement with
James R. Garn, Ethan W. Willis, and Ethan and Randy, LC (the "Settlement
Agreement") pursuant to which the parties agreed to settle all disputes
between them, including all disputes relating to the Company's 2001
acquisition from Garn and Willis of the outstanding stock of Energy
Professional Marketing Group, Inc. ("EPMG").
Under the terms of the Settlement Agreement, Garn and Willis (the
"Principals") surrendered to the Company all of their shares of capital
stock of the Company, comprising 6,784,762 shares of common stock,
1,200,500 shares of Series A Preferred Stock, and 80,000 shares of Series
B Preferred Stock, in exchange for certain assets of EPMG. These assets
include EPMG's rights under certain credit card processing contracts
(including receivables relating to reserves under those contracts in the
amount of approximately $1,000,000), substantially all of the tangible
fixed assets of EPMG's Utah facility, and certain intangible assets of
EPMG, such as specified website domain names, software, and customer lead
data.
Pursuant to the Settlement Agreement, the Company, the Principals, and
their respective affiliates entered into mutual waivers and releases
relating to any and all claims that they may have had against one another
other at any time through the date of the Settlement Agreement. Subsequent
to the settlement, EPMG remained a wholly owned subsidiary of the Company.
The Company recorded the settlement on the effective date. No gain or loss
arose from the settlement pursuant to generally accepted accounting
principles which requires a company's receipt of its own securities in
such transactions to be treated as transactions affecting only
stockholders' equity.
8
INNOVATIVE SOFTWARE TECHNOLOGIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(3) EPMG Asset Disposition, Split-off of Triad Media, and Acquisition of Data
Tech (continued)
(b) Split-off of Triad Media, Inc.
Effective April 20, 2005, the Company entered into a stock purchase
agreement with Douglas Shane Hackett, the Company's former Chief Executive
Officer, for the sale to Mr. Hackett of all common shares of the Company's
subsidiary Triad Media, Inc. in exchange for 4,935,015 shares of
Innovative Software common stock from Mr. Hackett. Since the transaction
involved the Company's receipt of its own common stock in exchange for the
subsidiary common stock, the Company recorded this transaction as an
equity transaction on the basis that receipts of a company's own equity is
generally a capital transaction.
(c) Data Tech Rescission
On May 6, 2005, IST Integrated Solutions, Inc., a wholly-owed subsidiary
of the Company ("IST Integrated"), completed an acquisition of the assets
and operations of Lietz Development, Inc. and Saphire of Tampa Bay, Inc.
(collectively "Data Tech"), a Tampa, Florida based computer equipment
reseller and hosting and network services provider, and Christopher Lietz
and Todd Lietz, (collectively the "Selling Stockholders"). The original
purchase price amounted to approximately $358,000 of consideration,
comprising the assumption of $250,000 in debt and the issuance of
1,350,000 shares of the Company's common stock (valued at the closing
market price of the shares on May 6, 2005).
Subsequent to the acquisition the Company discovered certain facts that
constituted undisclosed liabilities and/or breaches of representation or
warranty by Data Tech and the Selling Stockholders under the Asset
Purchase Agreement. On June 27, 2005 the Company and IST Integrated
executed a mutual rescission agreement and release with Data Tech and the
Selling Stockholders the effect of which was to rescind the earlier
acquisition agreement between the parties. No portion of the Purchase
Price or Performance Consideration (as defined in Section 1.4 of the Asset
Purchase Agreement) had been paid by the Company in connection with the
Asset Purchase Transaction. There were no penalties to either party with
respect to the rescission. Expenditures relating to the failed acquisition
in the amount of approximately $83,000 were expensed in the second
quarter.
(4) Accounts Payable and Accrued Expenses
Accounts payable and accrued expenses consist of the following as of June
30, 2005 and December 31, 2004:
June 30, 2005 December 31, 2004
------------- -----------------
Accrued expenses $ 682,219 $ 710,133
Reserves for returns and refunds -- 88,212
Accounts payable 98,636 57,668
Interest and penalties on late tax payments 130,560 120,560
--------- ---------
$ 911,414 $ 976,573
========= =========
9
INNOVATIVE SOFTWARE TECHNOLOGIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(5) Other Stockholders' Equity
(a) Convertible Preferred Stock:
The Company has 25,000,000 shares of preferred stock authorized and
has designated 1,500,000 shares as $1.00 stated value Series A
Preferred and 3,000,000 shares as $1.00 stated value Series B
Preferred. Series A and Series B Preferred Stock (collectively
"Preferred Stock") have the same terms and conditions. The Preferred
Stock is (i) entitled to cumulative dividends at a rate of 4.0% of
the liquidation value ($1.00 per share), (ii) convertible at any
time into common stock at a rate of 95% of the average closing
market price of the common stock for five days preceding conversion
(6,232,687 common shares as of June 30, 2005), (iii) redeemable at
any time by the Company for $1.00 per share, (iv) entitled to one
vote per share. As of June 30, 2005, 450,000 shares of Series A
Preferred Stock were outstanding and no shares of Series B Preferred
Stock were outstanding.
(b) Stock-Based Compensation:
During the six-month periods ended June 30, 2005, and 2004, the
Company did not issue any of its common or preferred stock as
compensation. In addition, the Company has no stock options
outstanding from other periods. Accordingly, pro forma net income
(loss) and pro forma net income (loss) per common share, assuming
the fair value approach was used to value stock options or other
similar forms of stock-based compensation, are the same.
(6) Related Party Transaction
During the three-month period ended June 30, 2005, the Company split-off
its Triad Media, Inc., subsidiary to its former President (See Note 3).
10
INNOVATIVE SOFTWARE TECHNOLOGIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(7) Commitments and Contingencies
(a) Leases:
Future minimum lease payments under noncancelable operating leases
(with initial terms in excess of one year) and future minimum
capital lease payments are as follows:
Operating
Year ending December 31: Leases
--------
2005 $ 31,402
2006 36,635
2007 --
2008 --
After 2008 --
--------
Total noncancelable lease payments $ 68,037
--------
Rent expense under all operating leases for the six months ended
June 30, 2005 and 2004 was $39,738 and $160,976, respectively.
(b) SEC Investigation:
On June 24, 2004, the Securities and Exchange Commission issued a
formal order of investigation authorizing subpoenas for documents
and testimony in connection with the investigation of certain
securities matters. On April 8, 2005, the Independent Committee
appointed by the Board of Directors of the Company delivered to the
SEC its report based on its internal investigation. The Company has
and intends to continue to fully cooperate with the SEC in its
investigation.
(c) Litigation:
Prosper, Inc.
Subsequent to the transfer of certain operating assets and
liabilities of EPMG, as discussed above, the former principals of
EPMG, under the new name of Prosper, Inc. filed a complaint that
seeks a refund to the benefit of Prosper of certain reserve funds
amounting to approximately $580,000 that are due to former vendors.
Under the EPMG Settlement Agreement, we agreed to pay certain
reserves potentially owing to third-partyvendors upon specified
conditions. The lawsuit alleges that we have breached the obligation
to pay these reserves, but we believe that the conditions for these
payments have not been satisfied and/or contest the amounts and
payees of the payments that are alleged to be owed by us.
Although we believe that these allegations do not have any merit, if
Prosper, Inc. were to prevail in its complaint there would be
serious negative financial consequences resulting from utilization
of our cash reserves. Moreover, such an action could divert
management's time and efforts away from the business of the Company.
11
INNOVATIVE SOFTWARE TECHNOLOGIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(7) Commitments and Contingencies (continued)
Seema Ure, M.D.
On July 15, 2005 Seema Ure, M.D., a former employee of the Company's
IST Medical Group, Inc. subsidiary, filed a complaint against the
Company asserting breach of contract and breach of fiduciary duty
seeking damages in excess of $15,000. The Company believes it has
affirmative defenses and potential counterclaims against Ms. Ure and
intends to defend this action vigorously. However, there can be no
assurance of a successful outcome for the Company. The Company has
not yet filed an answer to this complaint.
(8) Corporate Lease Guarantee Obligation
In November 2004 the Company signed a corporate guarantee on behalf of
Triad Media, Inc, its wholly owned subsidiary, for an operating lease on
facilities in Kansas City, Missouri. Triad Media, Inc. was subsequently
split-off (see notes 3 and 6). The Triad Media lease has a term of 5 years
from February 2005 through January 2010. As of June 30, 2005 the remaining
total obligation on this lease was $193,071. The Company evaluated the
fair value of this guarantee according to FASB Interpretation No. 45,
"Guarantor's Accounting and Disclosure Requirements for Guarantees,
Including Indirect Guarantees of Indebtedness of Others", and recorded a
charge of $64,429 for this lease guarantee obligation. The Company will
periodically assess the adequacy of this lease guarantee obligation and
adjust the amount as necessary.
(9) Subsequent Event
In July 2005 the Company sold an investment in a private company for
$147,656. The original cost of this investment was $178,120 and,
accordingly, the Company recognized a write-down on investment of $30,464
in the second quarter of 2005.
12
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following discussion includes statements that are forward looking in nature.
The accuracy of such statements depends on a variety of factors that may affect
the business and operations of the Company. Certain of these factors are
discussed under "Business - Factors Influencing Future Results and Accuracy of
Forward-Looking Statements" included in Part 1 of this report. When used in this
discussion, the words "expect(s)", "feel(s)", "believe(s)", "will", "may",
"anticipate(s)" and similar expressions are intended to identify forward-looking
statements. Such statements are subject to certain risks and uncertainties, and
actual results could differ materially from those projected. Readers are
cautioned not to place undue reliance on these forward-looking statements, and
are urged to carefully review and consider the various disclosures elsewhere in
this Form 10-QSB.
Overview
Innovative Software Technologies, Inc. (the "Company") is a California
corporation that has historically been engaged in the business of development,
marketing and delivery of Internet websites, database management programs, and
business educational programs, generally to individuals. The following
discussion summarizes information about our accounting policies and practices
and information about our operations in a comparative manner for the three and
six months ended June 30, 2005 and 2004. Our management's discussion and
analysis of financial condition and results of operations should be read in
conjunction with our consolidated financial statements and related notes thereto
included elsewhere herein.
Discontinuance of Business
Historically, we have been engaged primarily in the development, marketing and
delivery of Internet websites, database management programs, and business
educational programs, generally to individuals, throughout the United States of
America through our EPMG and Triad subsidiaries. In July 2004, we transferred
certain operating assets and liabilities of EPMG to the former principals of
EPMG (from whom we acquired the stock of EPMG in December 2001) under a
settlement agreement with said former principals. However, the transfer of these
assets and liabilities did not result in a discontinuation of this business. In
April 2005, our board of directors determined to discontinue this business and
undertake a strategy of growth through acquisition of private companies and
internal product and services development focused on small and medium sized
businesses ("SMB") and the medical market, and accordingly we split-off our
Triad subsidiary (f/k/a Hackett Media, Inc.) in April 2005. As a result,
effective April 20, 2005, we are no longer engaged in this business and have no
continuing involvement with EPMG or Triad. These two former subsidiaries
represented substantially all of our operations during the 2004 fiscal year and
the six month period ended June 30, 2005.
Acquisition of Data Tech
On May 6, 2005, IST Integrated Solutions, Inc., a wholly-owed subsidiary, ("IST
Integrated") completed an acquisition of the assets and operations of Lietz
Development, Inc. and Saphire of Tampa Bay, Inc. (collectively "Data Tech"), a
Tampa, Florida based computer equipment reseller and hosting and network
services provider, and Christopher Lietz and Todd Lietz, (collectively the
"Selling Stockholders"). The purchase price amounted to approximately $358,000
of consideration, comprising the assumption of $250,000 in debt and the issuance
of 1,350,000 shares of our common stock (valued at the closing market price of
the shares on May 6, 2005).
13
Subsequent to closing the acquisition the Company discovered certain facts that
constituted undisclosed liabilities and/or breaches of representation or
warranty by Data Tech and the Selling Stockholders under the Asset Purchase
Agreement. On June 27, 2005 the Company and IST Integrated executed a mutual
rescission agreement and release with Data Tech and the Selling Stockholders the
effect of which was to rescind the earlier acquisition agreement between the
parties. No portion of the Purchase Price or Performance Consideration (as
defined in Section 1.4 of the Asset Purchase Agreement) had been paid by the
Company in connection with the Asset Purchase Transaction. There were no
penalties to either party with respect to the rescission. Expenditures relating
to the failed acquisition in the amount of approximately $83,000 were expensed
in the period ended June 30, 2005.
Current Strategy
Although the Company currently has no operating business, management is
currently engaged in seeking merger and acquisition candidates within the
technologies and healthcare industries, which have revenue producing and cash
generating operations. While certain acquisition candidates have been
investigated, there can be no assurance that the Company can identify and
acquire a merger candidate at acceptable terms, if at all. In addition, there
can be no assurance that the Company will be successful in its acquisition of
working capital.
The discussion and analysis of our financial condition and results of operations
are based upon the Company's consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States of America. The preparation of these financial statements requires
us to make estimates and judgments that affect the reported amounts of assets
and liabilities, revenues and expenses, and related disclosure of contingent
assets and liabilities at the date of the Company's financial statements. Actual
results may differ from these estimates under different assumptions or
conditions.
Critical accounting policies are defined as those that are reflective of
significant judgments and uncertainties, and potentially result in materially
different results under different assumptions and conditions. The Company
believes that its critical accounting policies include those described below.
Allowance for Doubtful Accounts
Our gross notes receivable amounted to $49,031 as of June 30, 2005 and relate to
product financing arrangements entered into with our clients. These notes are
unsecured, bear interest at 15% and have terms ranging between one and five
years. As of June 30, 2005, we have recorded reserves of $10,665 for estimated
uncollectible amounts.
The allowance for doubtful accounts is based upon our best estimate of the
amount of probable credit losses in the existing notes based upon our historical
loss rates experienced on such financing arrangements. A note is considered
impaired pursuant to Financial Accounting Standards Board Statement 114,
Accounting by Creditors for Impairment of a Loan. Pursuant to Statement 114, a
note is impaired if it is probable that we will not collect all principal and
interest contractually due. The impairment is measured based on the present
value of expected future cash flows discounted at the note's effective interest
rate. We do not accrue interest when a note is considered impaired. When
ultimate collectibility of the principal balance of the impaired note is in
doubt, all cash receipts on impaired notes are applied to reduce the principal
amount of such notes until the principal has been recovered and are recognized
as interest income thereafter. Impairment losses are charged against the
allowance when all possible means of collection have been exhausted and the
potential for recovery is considered remote.
Revenue Recognition and Returns and Allowances
We have evaluated our product offerings in the context SAB 101 Revenue
Recognition and EITF 00-21 Revenue Arrangements with Multiple Deliverables and
have determined that revenues associated with the multimedia educational
materials (product sales) require accounting separate from the educational and
coaching services (services revenue). The fair value of these offerings is
established through separate third party sales of each of these products and
services.
14
Product Sales: We recognize product sales upon delivery to our students, as
evidenced by third party shipping providers, which is the point where the
student assumes ownership and risk of loss. Shipping costs are billed to
students and are included as a component of revenue and cost of product sales.
Returns are provided for based upon the Company's historical return experience.
Services Revenues: The educational offering includes multiple sessions with a
Company-employed coach. We recognize services revenue pro rata as
coaching/training sessions are rendered. Deferred revenue, representing the fair
value of future coaching sessions that students have paid for but not yet
received, was $-0- as of June 30, 2005 as the Company has exited the educational
business with the split-off of its Triad Media, Inc. subsidiary.
Results of Operations
Three and six months ended June 30, 2005 compared to the three and six months
ended June 30, 2004.
Revenues
Revenues for the three months ended June 30, 2005 and 2004 were $7,916 and
$7,618,093, respectively, which represents a 100% decrease. Revenues for the six
months ended June 30, 2005 and 2004 were $284,935 and $17,267,483, respectively,
which represents a 98% decrease. Our principal source of revenue for these
periods consisted of business education and coaching services. Revenues
decreased substantially as a result of the transfer of EPMG assets in July 2004
pursuant to a Settlement Agreement with Randy Garn and Ethan Willis whereby
certain operating assets of our EPMG subsidiary, together with certain
liabilities, were transferred to Garn and Willis (see note 3 in the Notes to the
Condensed Consolidated Financial Statements herein). As a result of the
split-off of our Triad subsidiary in April 2005, we are no longer in the
business of education and coaching services. Our only source of revenues
prospectively will be those from businesses that we acquire in the future, if
any.
Cost of Sales and Margins
Cost of sales for the three months ended June 30, 2005 and 2004 were $2,754 and
$3,590,016, respectively, representing a decrease of 100%. Cost of sales for the
six months ended June 30, 2005 and 2004 were $14,573 and $8,101,675,
respectively, representing a decrease of 100%. Cost of sales included (i) the
cost of the multimedia educational materials that we ship to our students, (ii)
the wages paid to our coaches and (iii) the commissions that we pay to lead
sources. Cost of sales decreased substantially as a result of the
above-described disposition of EPMG operating assets in July 2005. Upon the
split-off of our Triad subsidiary in April 2005, we are no longer in the
business of education and coaching services.
General and Administrative Expenses
General and administrative expenses for the three months ended June 30, 2005 and
2004 were $380,053 and $1,601,454, respectively, representing a decrease of 76%.
General and administrative expenses for the six months ended June 30, 2005 and
2004 were $1,237,082 and $4,525,179, respectively, representing a decrease of
73%. General and administrative expenses as a percentage of sales rose to 434%
for the six months ended June 30, 2005 from 26% for the six months ended 2004.
Our general and administration expenses consisted primarily of salaries and
wages, professional fees, rent, travel expenses, payroll taxes, telephone
expenses and other general and administrative expenses necessary to support the
operations of the Company in the current period. The primary reason for the
increase in general and administrative expenses relative to sales was a result
of the dramatic decrease in sales following the sale of the EPMG assets, the
recognition of $150,000 in bad debt expense for the period, and the disposition
of the Triad subsidiary. In addition, even as management curtails activity
certain expenses relating to Company's infrastructure (including legal and
auditing expenses) will remain.
15
Commissions and Other Selling Expenses
Selling expenses for the three months ended June 30, 2005 and 2004 were $20,020
and $2,193,531, respectively, representing a decrease of 99%. Selling expenses
for the six months ended June 30, 2005 and 2004 were $182,316 and $4,078,989,
respectively, representing a decrease of 96%. Selling expenses consisted
primarily of commissions paid to sales associates as well as marketing and
advertising expenses associated with key products and services. The decrease in
selling expenses is attributed to the disposal of EPMG assets and Triad Media.
Write-down of Goodwill
Following the split-off of its Triad Media, Inc. subsidiary, the Company
effectively exited the education and coaching services business. As such, all
remaining goodwill relating to its acquisition of EPMG, Inc. in the amount of
$1,088,686 was determined to be impaired.
Other Income (Expense)
Other income (expense) for the three months ended June 30, 2005 and 2004 were
($157,257) and $46,529, respectively, representing a decrease of 438%. Other
income (expense) for the six months ended June 30, 2005 and 2004 were ($144,337)
and $112,443, respectively, representing a decrease of 228%. The decrease is
primarily attributable to a decrease in interest income due to our declining
financing notes receivable balance as well as a charge of approximately $83,000
for our failed acquisition of Data-Tech (see note 3), a write-down on investment
of $30,464 (see note 9), and the charge of $64,429 for our corporate guarantee
for the Triad Media, Inc. lease (see note 8).
Income Taxes
Our provision for income taxes amounted to $2,466 for the six months ended June
30, 2005 compared to a provision of $266,262 for the six months ended June 30,
2004.
Net Loss
Our net loss for the three months ended June 30, 2005 amounted to ($1,643,319),
compared to a net income of $169,171 for the period ended June 30, 2004. Our net
loss for the six months ended June 30, 2005 amounted to ($2,384,524), compared
to a net income of $407,821 for the period ended June 30, 2004. This decrease
was attributable to the matters discussed above relating to the EPMG asset
disposition and our split off of Triad Media, which included decreased revenue
and markedly increased general and administrative expenses along with the
write-off of $1,088,686 of goodwill.
Liquidity and Capital Resources
Our consolidated financial statements have been prepared assuming that the
Company will continue as a going concern for a reasonable period. However,
during the six month period ended June 30, 2005, we incurred a loss of
$2,384,524 and used cash totaling $843,562. These conditions raise substantial
doubt about the Company's ability to continue as a going concern.
16
Management is currently seeking merger and acquisition candidates within the
technology and healthcare industries, which have revenue producing and cash
generating operations. While we have identified a number of prospective
acquisition targets, there can be no assurance that any acquisition will be
completed or that this strategy would be successful. In addition, we anticipate
that we will need to raise additional capital to support our operations until a
successful acquisition or acquisitions can be completed. There can be no
assurance we will be able to acquire additional capital at acceptable terms, if
at all.
As of June 30, 2005, the Company has cash and other reserves amounting to
$32,909, certain receivables that are expected to be collected during the year
ended December 31, 2005 amounting to $38,366, net of allowances, investment in a
private company of $147,656, and refundable income taxes, net of interest and
penalties due, of approximately $450,000. In the absence of a strategic
acquisition of funding, described in Note 2 to our financial statements,
management believes that it can curtail operating expenses and defer trade
payables sufficient to maintain our existence through the fourth fiscal quarter
of the year ended December 31, 2005. There can be no assurances that we can
acquire companies or curtail our expenses sufficiently to maintain our
operations.
Our financial statements do not include any adjustments that might become
necessary should the Company be unable to continue as a going concern.
At June 30, 2005 we had current assets of $678,202, which represents a decrease
of $1,521,867 over current assets as of December 31, 2004. Much of the decrease
is attributable to a decrease in cash. At June 30, 2005 we had cash on hand of
$32,909, which represents a decrease of $843,563 over the balances as of
December 31, 2004.
At June 30, 2005 we had current liabilities of $930,831, which represents a
decrease of $236,534 over current liabilities as of December 31, 2004.
As June 30, 2005 our working capital decreased to a negative $252,629 from a
positive $1,032,704 as of December 31, 2004. This decrease results primarily
from the use of cash in operations as noted above due to the lack of cash
generating revenue and the continued high rate of corporate expenses. With the
April 2005 split off of Triad, we currently have no operating business and no
cash is being generated from operations. Accordingly, our working capital will
likely decline as we address our new business development initiatives.
We have no material commitments for capital expenditures. Capital expenditures
for the six months ended June 30, 2005 amounted to $23,717. We do not expect
additional facilities or equipment expenditures in the absence of acquisitions.
We currently do not have a stock option or stock purchase plan. We also
currently do not have any employee benefit plans that would require the use of
our securities.
Off Balance-Sheet Arrangements
The Company has no material off-balance sheet arrangements as of June 30, 2005.
17
Item 3. Controls and Procedures
(a) As of June 30, 2005, the Chief Executive Officer and Chief Financial
Officer of the Company, with the participation of the Company's
management, carried out an evaluation of the effectiveness of the
Company's disclosure controls and procedures pursuant to Exchange Act Rule
13a-14. Based on that evaluation, the Chief Executive Officer and the
Chief Financial Officer believe that, as of the date of the evaluation,
the Company's disclosure controls and procedures are effective in making
known to them material information relating to the Company (including its
consolidated subsidiaries) required to be included in this report.
(b) There were no changes in the Company's internal controls or in other
factors that could significantly affect internal controls, known to the
Chief Executive Officer or the Chief Financial Officer, subsequent to the
date of the evaluation.
18
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
From time to time, we are involved in litigation concerning our business
operations. Management believes that the litigation in which we are currently
involved is not reasonably likely to be material to its financial condition,
results of its operations or its cash flows, other than the litigation noted
below.
SEC Investigation
On June 24, 2003 the Securities and Exchange Commission ("SEC") issued a formal
order of investigation, authorizing the investigation of certain securities
matters. The SEC staff has taken the testimony of certain officers and has
informed us that it intends to take additional testimony. The SEC staff has also
issued additional requests for the voluntary production of documents. Prior to
the issuance of the order, we had voluntarily provided documents and information
to the SEC staff in response to informal, non-public inquiries by the staff. On
April 8th, 2005 the Independent Committee of the Board of Directors turned over
the results of its investigation to the SEC and we intend to continue to fully
cooperate with the SEC in its investigation.
Prosper, Inc. Complaint
Subsequent to the EPMG asset disposition, as discussed above, the former
principals, under the new name of Prosper, Inc. filed a complaint that seeks a
refund to the benefit of Prosper of certain reserve funds amounting to
approximately $580,000 that are due to former vendors. Under the EPMG Settlement
Agreement, we agreed to pay certain reserves potentially owing to third-party
vendors upon specified conditions. The lawsuit alleges that we have breached the
obligation to pay these reserves, but we contest that the conditions for these
payments have been satisfied and/or contest the amounts and payees of the
payments that are alleged to be owed by us.
Although we believe that these allegations do not have any merit, if Prosper,
Inc. were to prevail in its complaint there would be serious negative financial
consequences resulting from utilization of our cash reserves. Moreover, such an
action could divert management's time and efforts away from the business of the
Company.
Seema Ure, M.D.
On July 15, 2005 Seema Ure, M.D., a former employee of the Company's IST Medical
Group, Inc. subsidiary, filed a complaint against the Company asserting breach
of contract and breach of fiduciary duty seeking damages in excess of $15,000.
The Company believes it has affirmative defenses and potential counterclaims
against Ms. Ure and intends to defend this action vigorously. However, there can
be no assurance of a successful outcome for the Company. The Company has not yet
filed an answer to this complaint.
19
Item 3. Defaults upon Senior Securities
(b) There has not been any material arrearage in the payment of
dividends on any preferred stock.
Item 6. Exhibits and Reports on Form 8-K.
a. Exhibits
The exhibits required by this item are listed in the Index to
Exhibits set forth at the end of this Form 10-QSB.
b. Reports on Form 8-K
During the period covered by this report, the Company filed the
following report on Form 8-K:
On April 8th, 2005 the Company filed a Current Report on Form 8-K
under Item 5.02 (Results of Operation and Financial Condition)
stating that effective April 7th, 2005, Douglas Shane Hackett
resigned as officer and director of Innovative Software
Technologies, Inc. and its subsidiaries.
On April 20, 2005 the Company filed a Current Report on Form 8-K
under Item 5 (Other Events and Regulation FD Disclosure) stating
that it had executed a Stock Purchase Agreement with Douglas Shane
Hackett whereby the Company split-off its wholly owned Triad Media,
Inc. subsidiary to Mr. Hackett. Mr. Hackett is a former director,
president, and chief executive officer of the Company.
On May 11, 2005 the Company filed a Current Report on Form 8-K under
Item 4 (Changes in Registrant's Certifying Accountant) stating that
on May 11, 2005, the Company approved the Company's dismissal of
Aidman, Piser & Company as independent auditors and the engagement
of Lougheed, Scalfaro & Company LLC as independent auditors.
On May 12, 2005 the Company filed a Current Report on Form 8-K under
Item 1.01 (Entry into a Material Definitive Agreement) stating that
on May 6, 2005, our IST Integrated Solutions, Inc. subsidiary
completed an acquisition of the assets and operations of Lietz
Development, Inc. and Saphire of Tampa Bay, Inc. (collectively "Data
Tech"), a Tampa, Florida based computer equipment reseller, and
hosting and network services provider.
On June 28, 2005 the Company filed a Current Report on Form 8-K
under Item 1.02 (Termination of a Material Definitive Agreement)
stating that on June 27, 2005 it had executed a mutual rescission
agreement effecting the rescission of the earlier acquisition of the
assets and operations of Lietz Development, Inc. and Saphire of
Tampa Bay, Inc. (collectively "Data Tech"), due to the discovery by
the Company of certain facts that, if the transaction were not
rescinded, would constitute a breach of certain representations and
warranties under the Asset Purchase Agreement.
20
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.
Innovative Software Technologies, Inc.
Date: August 25, 2005 /s/ Peter M. Peterson
--------------------------------------------
Peter M. Peterson
Chairman of the Board,
Chief Executive Officer, and President
Principal Executive Officer
/s/ Christopher J. Floyd
--------------------------------------------
Christopher J. Floyd
Chief Financial Officer,
Vice President of Finance, and Secretary
Principal Financial and Accounting Officer
21
INDEX TO EXHIBITS
Exhibit
Number Description
- ------ -----------
31.1 Certification of Chief Executive Officer of Innovative Software
Technologies, Inc. pursuant to Rule 13a-15(e) or 15d-15(e) of the
Securities Exchange Act of 1934, as amended.
31.2 Certification of Chief Financial Officer of Innovative Software
Technologies, Inc. pursuant to Rule 13a-15(e) or 15d-15(e) of the
Securities Exchange Act of 1934, as amended.
32.1 Certification of Chief Executive Officer of Innovative Software
Technologies, Inc. pursuant to 18 U.S.C. 1350.
32.2 Certification of Chief Financial Officer of Innovative Software
Technologies, Inc. pursuant to 18 U.S.C. 1350.
22