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U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
(Mark One)
|X| QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 For the quarterly period ended June 30, 2003 (Second
quarter of fiscal 2003)
OR
|_| TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT
For the transition period from_____________ to_______________
Commission File No. 0-24073
DIGITAL FUSION, INC.
(Exact Name of Small Business Issuer as Specified in Its Charter)
Delaware 13-3817344
(State or Other Jurisdiction of (I.R.S. Employer I.D. No.)
Incorporation or Organization)
4940-A Corporate Drive
Huntsville, AL 35805
(Address of Principal Executive Offices)
(256) 837-2620
(Issuer's Telephone Number, Including Area Code)
Check whether the issuer: (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days.
Yes |X| No |_|
As of July 31, 2003, 7,167,671 shares of the issuer's common stock, par
value $.01 per share, were outstanding.
Transitional Small Business Disclosure Format (check one): Yes |_| No |X|
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DIGITAL FUSION, INC.
INDEX
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PART I. FINANCIAL INFORMATION Page No.
--------
Item 1. Financial Statements
Condensed Consolidated Balance Sheets as of June 30, 2003
(unaudited) and December 31, 2002.......................... 1
Condensed Consolidated Statements of Operations for the
three and six months ended June 30, 2003 and 2002
(unaudited)................................................ 2
Condensed Consolidated Statements of Cash Flows for the
six months ended June 30, 2003 and 2002 (unaudited)........ 3
Notes to Condensed Consolidated Financial Statements....... 4
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations......................... 7
Item 3. Controls and Procedures..................................... 11
PART II. OTHER INFORMATION
Item 1. Legal Proceedings........................................... 12
Item 2. Changes in Securities....................................... 12
Item 3. Defaults Upon Senior Securities............................. 12
Item 4. Submission of Matters to a Vote of Security Holders......... 12
Item 5. Other Information........................................... 12
Item 6. Exhibits and Reports on Form 8-K............................ 12
SIGNATURES.......................................................... 13
Certification by Chief Executive Officer and Chief
Accounting Officer.................................................. 14
Exhibits............................................................ 15
PART I
FINANCIAL INFORMATION
Item 1. Financial Statements.
---------------------
DIGITAL FUSION, INC.
Condensed Consolidated Balance Sheets
(in thousands, except share data)
June 30,
2003 December 31,
ASSETS unaudited 2002
--------------- ---------------
Current assets:
Cash and cash equivalents $ 408 $ 653
Accounts receivable (net of allowance for doubtful
accounts of $307 in 2003 and $325 in 2002) 890 978
Other current assets 92 87
---------------- ----------------
Total current assets 1,390 1,718
Property and equipment, net 66 185
Intangible assets, net 3,347 3,347
Other assets 12 28
---------------- ----------------
Total assets $ 4,815 $ 5,278
================ ================
LIABILITIES & STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses $ 845 $ 930
Current maturities of long-term debt 610 808
Deferred revenue 21 21
---------------- ----------------
Total current liabilities 1,476 1,759
Interest payable - long term 15 86
Long-term debt, less current maturities 923 517
Pension obligation 280 280
---------------- ----------------
Total liabilities 2,694 2,642
---------------- ----------------
Stockholders' equity:
Common stock, $.01 par value, authorized 16,000,000 shares,
7,167,671 shares issued and outstanding 72 72
Additional paid in capital 39,919 39,904
Accumulated deficit (37,870) (37,340)
---------------- ----------------
Total stockholders' equity 2,121 2,636
---------------- ----------------
Total liabilities and stockholders' equity $ 4,815 $ 5,278
================ ================
See Accompanying Notes to Condensed Consolidated Financial Statements.
1
DIGITAL FUSION, INC.
Condensed Consolidated Statements of Operations
For the three and six months ended June 30, 2003 and 2002
(unaudited, in thousands, except per share amounts)
Three months ended June 30, Six months ended June 30,
-------------------------------- -----------------------------
2003 2002 2003 2002
---------------- -------------- -------------- -------------
Revenues:
Consulting $ 1,576 $ 2,557 $ 3,188 $ 5,366
Product 58 - 58 -
---------------- ------------- ------------- -------------
Total revenue 1,634 2,557 3,246 5,366
---------------- ------------- ------------- -------------
Cost of services and goods sold:
Consulting 1,151 1,894 2,485 4,075
Product 55 - 55 -
---------------- ------------- ------------- -------------
Total cost of services and goods sold 1,206 1,894 2,540 4,075
---------------- ------------- ------------- -------------
Gross profit 428 663 706 1,291
---------------- ------------- ------------- -------------
Operating expenses:
Selling, general and administrative 539 884 1,131 1,714
Severance and restructuring - (62) - (182)
Gain on forgiveness of debt - - - (1,539)
---------------- ------------- ------------- -------------
Total operating expenses 539 822 1,131 (7)
---------------- ------------- ------------- -------------
Operating income (loss) (111) (159) (425) 1,298
Interest expense, net 53 11 105 21
---------------- ------------- ------------- -------------
Income (loss) before income taxes (164) (170) (530) 1,277
Income tax benefit - - - -
---------------- ------------- ------------- -------------
Net income (loss) $ (164) $ (170) $ (530) $ 1,277
================ ============= ============= =============
Basic earnings (loss) per share $ (0.02) $ (0.02) $ (0.07) $ 0.18
================ ============= ============= =============
Basic weighted average common shares outstanding 7,168 7,164 7,168 7,164
================ ============= ============= =============
Diluted earnings (loss) per share $ (0.02) $ (0.02) $ (0.07) $ 0.17
================ ============= ============= =============
Diluted weighted average common shares outstanding 7,168 7,164 7,168 7,727
================ ============= ============= =============
See Accompanying Notes to Condensed Consolidated Financial Statements.
2
DIGITAL FUSION, INC.
Condensed Consolidated Statements of Cash Flows
For the six months ended June 30, 2003 and 2002
(unaudited, in thousands)
2003 2002
-------------- ------------
Cash flows used in operating activities
Net income (loss) $ (530) $ 1,277
Adjustments to reconcile net income (loss) to net
cash used in operating activities:
Depreciation and amortization 121 164
Gain on forgiveness of debt - (1,539)
Changes in assets and liabilities 70 (566)
-------------- ------------
Net cash used in operating activities (339) (664)
-------------- ------------
Cash flows used in investing activities:
Capital expenditures - property and equipment (2) (23)
-------------- ------------
Net cash used in investing activities (2) (23)
-------------- ------------
Cash flows provided by (used in) financing activities:
Repayments of notes payable (160) (166)
Net proceeds from note payable 256 -
-------------- ------------
Net cash provided by
(used in) financing activities 96 (166)
-------------- ------------
Net decrease in cash and cash equivalents (245) (853)
Cash and cash equivalents, beginning of periods 653 1,350
-------------- ------------
Cash and cash equivalents, end of periods $ 408 $ 497
============== ============
See Accompanying Notes to Condensed Consolidated Financial Statements.
3
NOTES TO CONDENSED CONSOLIDATED
FINANCIAL STATEMENTS
1. Basis of Presentation
---------------------
The condensed consolidated interim financial statements of Digital Fusion,
Inc. ("DFI," the "Company," "we," or "us") have been prepared by the Company,
without audit, pursuant to the rules and regulations of the Securities and
Exchange Commission with respect to Form 10-QSB. Certain information and
footnote disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles have been condensed or
omitted pursuant to such rules and regulations, although the Company believes
that the disclosures made herein are adequate to make the information contained
herein not misleading. These condensed consolidated interim financial statements
should be read in conjunction with the Company's audited financial statements
for the year ended December 31, 2002 and the notes thereto included in the
Company's Annual Report on Form 10-KSB. In the Company's opinion, all
adjustments (consisting only of normal recurring adjustments and reclasses)
necessary for a fair presentation of the information shown herein have been
included.
The results of operations and cash flows for the six months ended June 30,
2003 are not necessarily indicative of the results of operations and cash flows
expected for the year ending December 31, 2003.
The accompanying financial statements have been prepared on the assumption
that the Company will continue as a going concern. The Company has incurred
losses of $403,000 and $11,412,000 for the years ended 2002 and 2001,
respectively and cash flow deficiencies from operations of $1,026,000 and
$513,000 during 2002 and 2001, respectively. These factors raise substantial
doubt about the ability of the Company to continue as a going concern. The
ability of the Company to continue as a going concern is dependent upon
attaining positive cash flow from operations. The financial statements do not
include any adjustments that may result from the outcome of this uncertainty. On
April 29th, 2003, the Company restructured its outstanding note with Laurus. The
Company borrowed an additional $267,000 and all the principal owed to Laurus
will be repaid over 22 months. The first principal payment began July 30, 2003.
The Company believes that, as a result of the actions it has taken during
prior years to restructure and streamline the Company, the restructuring of its
debt outstanding to Laurus by extending the payment terms and if it can attain
positive cash flow from operations, it currently has sufficient cash to meet its
funding requirements over the next year; however, the Company has experienced
negative cash flows from operations and incurred large net losses in the past.
The Company's current growth has been funded through internally generated
funds and through a convertible note issued in July 2002 and restructured in
April 2003. In order for the Company to support substantial growth, the Company
may need to fund this growth through externally generated funds. The Company is
reviewing its options, which include a line of credit secured by receivables, an
equity raise or a combination of both. There can be no assurance as to the
availability or terms upon which such financing and capital might be available.
4
2. Loss Per Share Data
-------------------
Common stock equivalents in the three and six-month periods ended June 30,
2003 and the three-month period ended June 30, 2002, were anti-dilutive due to
the net losses sustained by the Company during these periods, thus the diluted
weighted average common shares outstanding in these periods are the same as the
basic weighted average common shares outstanding.
3. Income Taxes
------------
The Company has not recognized an income tax benefit for its operating
losses generated in the three and six-month periods ended June 30, 2003 and the
three-month period ended June 30, 2002 based on uncertainties concerning its
ability to generate taxable income in future periods. The tax benefit for the
three and six-month periods ended June 30, 2003 and three-month period ended
June 30, 2002 are offset by a valuation allowance established against deferred
tax assets arising from operating losses and other temporary differences, the
realization of which could not be considered more likely than not. In future
periods, tax benefits and related deferred tax assets will be recognized when
management considers realization of such amounts to be more likely than not.
The Company recognized an income tax expense for its operating income
generated in the six-month period ended June 30, 2002. This income tax expense
was offset by a reduction in the valuation allowance that had previously been
recorded as a result of prior operating losses.
4. Recently Issued Accounting Pronouncements
-----------------------------------------
In June 2001, the Financial Accounting Standards Board (FASB) issued the
Statement of Financial Accounting Standards (SFAS) No. 143 Accounting for Asset
Retirement Obligations. SFAS No. 143 addresses financial accounting and
reporting for retirement obligations associated with tangible long-lived assets,
including (1) the timing of the liability recognition, (2) initial measurement
of the liability, (3) allocation of asset retirement cost to expense, (4)
subsequent measurement of the liability and (5) financial statement disclosures.
SFAS No. 143 requires that an asset retirement cost should be capitalized as
part of the cost of the related long-lived asset and subsequently allocated to
expense using a systematic and rational method. The Company adopted SFAS No. 143
effective January 1, 2003 and it did not have a material effect on the Company's
financial position, results of operations, or cash flows.
In June 2002, the FASB issued SFAS 146, "Accounting for Costs Associated
with Exit or Disposal Activities", which is effective for the Company for exit
or disposal activities that are initiated after December 31, 2002. This
Statement addresses financial accounting and reporting for costs associated with
exit or disposal activities and nullifies Emerging Issues Task Force (EITF)
Issue No. 94-3, "Liability Recognition for Certain Employee Termination Benefits
and Other Costs to Exit an Activity (including Certain Costs Incurred in a
Restructuring)." This Statement requires that a liability for a cost associated
with an exit or disposal activity be recognized when the liability is incurred.
Under Issue 94-3 a liability for an exit cost as defined, was recognized at the
date of an entity's commitment to an exit plan. The Company adopted SFAS 146 on
January 1, 2003. There were no exit or disposal activities initiated during the
six-month period ended June 30, 2003.
In December 2002, the FASB issued SFAS 148, "Accounting for Stock-Based
Compensation-Transition and Disclosure". This Statement amends FASB Statement
No. 123, "Accounting for Stock-Based Compensation", to provide alternative
methods of transition for a voluntary change to the fair value based method of
accounting for stock-based employee compensation. In addition, this Statement
amends the disclosure requirements of Statement 123 to require prominent
disclosures in both annual and interim financial statements about the method of
accounting for stock-based employee compensation and the effect of the method
used on reported results. The Company adopted SFAS 148 on January 1, 2003. The
Company continues to use the intrinsic value method of accounting under APB
Opinion No. 25, "Accounting for Stock Issued to Employees", to account for its
stock-based employee compensation. No stock-based employee compensation cost is
reflected in net income, as all options granted under those plans had an
exercise price equal to the market value of the underlying common stock on the
date of grant.
5
The following table illustrates the effect on net income (loss) and
earnings (loss) per share for the three- and six-month periods ending June 30,
2003 and 2002, if the Company had applied the fair value recognition provisions
of FASB No. 123, "Accounting for Stock-Based Compensation", to stock-based
employee compensation:
Three Months ended June 30, Six Months ended June 30,
--------------------------- -------------------------
2003 2002 2003 2002
---- ---- ---- ----
Net income (loss), as reported $ (164,000) $ (170,000) (530,000) $ 1,277,000
$
Deduct: Fair value of stock-based employee
compensation costs (79,000) (256,000) (158,000) (512,000)
------------ --------------- ------------ --------------
Pro forma net income (loss) $ (243,000) $ (426,000) (688,000) $ 765,000
$
============ =============== ============ ==============
Earnings (loss) per share:
Basic - as reported $ (0.02) $ (0.02) $ (0.07) $ 0.18
============ =============== ============ ==============
Basic - pro forma $ (0.03) $ (0.06) $ (0.10) $ 0.11
============ =============== ============ ==============
Diluted - as reported $ (0.02) $ (0.02) $ (0.07) $ 0.17
============ =============== ============ ==============
Diluted - proforma $ (0.03) $ (0.06) $ (0.10) $ 0.10
============ =============== ============ ==============
The Company estimates the fair value of each stock option at the grant date
by using the Black-Scholes option-pricing model with the following assumptions
for the six months ending June 30, 2003 and 2002:
2003 2002
---- ----
Dividend yield 0% 0%
Expected volatility 62% 60%
Risk-free interest rate 3.52% 4.52%
Expected life - years 10 10
Weighted average fair value of options granted $0.23 $0.51
5. Debt Restructuring
------------------
On April 29, 2003, the Company closed on a $266,667 10% convertible note
collateralized by the Company's accounts receivable with Laurus Master Fund, LTD
(Laurus). The Company pays interest immediately at each monthly anniversary and
the principal payments are paid over 22 months beginning July 30, 2003. This
note matures on April 30, 2005. At Laurus' election, this note can be converted
into DFI common stock at $0.35 a share after the DFI common stock price is at or
above $0.4375 a share for ten consecutive days. Additionally, a seven-year
warrant to purchase 25,000 shares of DFI common stock at $0.4375 per share was
issued. The Company paid a management fee of $16,000 to Laurus, which will be
amortized to interest expense over the 24-month life of the note. The initial
note issued by Laurus dated July 26, 2002, which had $533,333 remaining at April
30, 2003, was renegotiated and the remaining principal is due equally over 22
months beginning July 30, 2003 and ending April 30, 2005. The conversion feature
of this July 26, 2002 note was repriced and can be converted into DFI common
stock at $0.35 a share after the DFI common stock price is at or above $0.4375 a
share for ten consecutive days. The five-year warrant issued on July 26, 2002,
was also repriced to $0.4375.
6
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations.
This Quarterly Report on Form 10-QSB contains forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange
Act"). In addition, from time to time, we or our representatives have made or
may make other forward-looking statements orally or in writing. Such statements
may include, without being limited to, statements concerning anticipated
financial performance, future revenues or earnings, business prospects,
projected ventures, new products, anticipated market performance and similar
matters. The words "plan," "budget, "intend," "anticipate," "project,"
"estimate," "expect," "may," "might," "believe," "potential," "could," "should,"
"would" and similar statements are intended to be among the statements that are
forward-looking statements. The Private Securities Litigation Reform Act of 1995
provides a safe harbor for forward-looking statements. In order to comply with
the terms of the safe harbor, we caution our readers that, because such
statements reflect the reality of risk and uncertainty that is inherent in doing
business, actual results may differ materially from those expressed or implied
by such forward-looking statements. These risks and uncertainties, many of which
are beyond our control, include, but are not limited to, those set forth in the
Company's Form 10-KSB for 2002 in the Management's Discussion and Analysis of
Financial Condition and Results of Operations under the heading "Certain Factors
Which May Affect the Company's Future Performance" which are incorporated herein
by reference. Readers are cautioned not to place undue reliance on these
forward-looking statements, which are made as of the date of this report. Except
as otherwise required to be disclosed in periodic reports required to be filed
by companies registered under the Exchange Act by the rules of the SEC, the
Company has no duty and undertakes no obligation to update such statements.
Overview
DFI is an information technology (IT) consulting company helping our
customers make the most of technology to access business information, enhance
the performance of their human resources, and meet their business needs. Our
success is based on a total approach, providing the people, processes, and
technology needed to translate business needs into sound IT strategies. We
provide our services to businesses, organizations and public sector institutions
in the Eastern United States. We are a Delaware corporation and our main
administrative office is located in Huntsville, Alabama along with regional
offices in Florida, New Jersey and Virginia.
7
Our revenues are derived principally from fees earned in connection with
the performance of services provided to customers. We typically bill on a time
and materials basis. The majority of our costs are associated with personnel.
Attracting and retaining billable personnel will be important for our Company
going forward. Our quarterly operating results are affected by the number of
billable days in the quarter, holiday seasons and vacations. During the second
quarter of 2003, DFI began reselling the Intuit product Track-it. All of the
second quarter 2003 Track-it product sales were sold to governmental entities
where our margin is lower. DFI expects to increase its sales of the Track-it
product during 2003.
In June 2001, the Financial Accounting Standards Board (FASB) issued the
Statement of Financial Accounting Standards (SFAS) No. 143 Accounting for Asset
Retirement Obligations. SFAS No. 143 addresses financial accounting and
reporting for retirement obligations associated with tangible long-lived assets,
including (1) the timing of the liability recognition, (2) initial measurement
of the liability, (3) allocation of asset retirement cost to expense, (4)
subsequent measurement of the liability and (5) financial statement disclosures.
SFAS No. 143 requires that an asset retirement cost should be capitalized as
part of the cost of the related long-lived asset and subsequently allocated to
expense using a systematic and rational method. The Company adopted SFAS No. 143
effective January 1, 2003 and it did not have a material effect on the Company's
financial position, results of operations, or cash flows.
In June 2002, the FASB issued SFAS 146, "Accounting for Costs Associated
with Exit or Disposal Activities", which is effective for the Company for exit
or disposal activities that are initiated after December 31, 2002. This
Statement addresses financial accounting and reporting for costs associated with
exit or disposal activities and nullifies Emerging Issues Task Force (EITF)
Issue No. 94-3, "Liability Recognition for Certain Employee Termination Benefits
and Other Costs to Exit an Activity (including Certain Costs Incurred in a
Restructuring)." This Statement requires that a liability for a cost associated
with an exit or disposal activity be recognized when the liability is incurred.
Under Issue 94-3 a liability for an exit cost as defined, was recognized at the
date of an entity's commitment to an exit plan. The Company adopted SFAS 146 on
January 1, 2003. There were no exit or disposal activities initiated during the
six-month period ended June 30, 2003.
In December 2002, the FASB issued SFAS 148, "Accounting for Stock-Based
Compensation-Transition and Disclosure". This Statement amends FASB Statement
No. 123, "Accounting for Stock-Based Compensation", to provide alternative
methods of transition for a voluntary change to the fair value based method of
accounting for stock-based employee compensation. In addition, this Statement
amends the disclosure requirements of Statement 123 to require prominent
disclosures in both annual and interim financial statements about the method of
accounting for stock-based employee compensation and the effect of the method
used on reported results. The Company adopted SFAS 148 on January 1, 2003. The
Company continues to use the intrinsic value method of accounting under APB
Opinion No. 25, "Accounting for Stock Issued to Employees", to account for its
stock-based employee compensation. No stock-based employee compensation cost is
reflected in net income, as all options granted under those plans had an
exercise price equal to the market value of the underlying common stock on the
date of grant.
There are no new litigation issues.
8
Results of Operations
---------------------
THREE AND SIX MONTHS ENDED JUNE 30, 2003 COMPARED TO THE THREE AND SIX MONTHS
ENDED JUNE 30, 2002
REVENUES. Consulting revenues decreased by $981,000 to $1,576,000 for the
three months ended June 30, 2003 and $2,178,000 to $3,188,000 for the six months
ended June 30, 2003. The decrease in revenues during the three and six months
ended June 30, 2003 compared to the same period in the prior year was primarily
due to the softening of the IT consulting market over the last year. Revenue
from our largest professional services customer was responsible for 29% of our
revenue in 2003 as compared to 23% in 2002.
During the second quarter of 2003, DFI began reselling the Track-it
software from Intuit. The sales for the second quarter 2003 and six month ended
June 30, 2003 were $58,000. DFI expects the sales for this product to increase
throughout the remainder of 2003.
COST OF SERVICES AND GOODS SOLD. Cost of services and goods sold consists
primarily of salaries and expenses of programming and technical personnel,
expenses relating to applications sold to customers and fees paid to outside
consultants engaged for customer projects. Consulting cost of services decreased
by $743,000 and $1,590,000 for the three- and six- month periods ended June 30,
2003, respectively, compared to the prior year. As our revenues decreased due to
the softening of the IT consulting market over the last year, we reduced our
services headcount, which reduced our cost of services. The product cost of
goods sold is related to the reselling of the Intuit product Track-it which
began during second quarter 2003.
GROSS PROFIT. Our gross profit for the three-month period ended June 30,
2003 was $428,000, or 26% of revenues as compared to $663,000, or 26% of
revenues for the same period of 2002. During the second quarter of 2003, DFI
began reselling the Intuit product Track-it which lowered the overall gross
profit as a percent of revenue by 1% due to the lower margin product sales to
governmental entities. Our gross profit for the six-month period ended June 30,
2003 was $706,000, or 22% of revenues as compared to $1,291,000, or 24% of
revenues for the same period during 2002. This decrease in gross profit as a
percent of revenues is due to the lower utilization rate of the billable
consultants for 2003 compared to the same period in 2002.
SELLING, GENERAL AND ADMINISTRATIVE. Selling, general and administrative
(SG&A) expenses consist primarily of salaries and expenses associated with
marketing literature, advertising, direct mailings, and accounting, finance,
sales and administrative personnel, as well as professional fees and other costs
associated with being a public company and the administration of the Company.
Selling, general and administrative expenses decreased by $345,000, or 39%, for
the three-month period ended June 30, 2003 compared to the same period during
2002 and $583,000, or 34% for the six-month period ended June 30, 2003 compared
to the same period during 2002. The decrease in SG&A is primarily due to the
reduction of administrative personnel and other costs to reduce our cash outflow
for SG&A costs since revenues were lower in 2003 compared to 2002.
SEVERANCE AND RESTRUCTURING. The Severance and Restructuring liability was
reduced by $62,000 and $182,000 for the three- and six-month periods ending June
30, 2002 based upon 2002 estimates of the remaining liabilities associated with
prior restructurings.
9
GAIN ON FORGIVENESS OF DEBT. During the six-month period ended June 30,
2002, the Company reached settlement agreements on some debts associated with
offices that were closed, business units that were sold and services not used,
which resulted in forgiveness of debt income of $1,539,000.
INTEREST EXPENSE (INCOME), NET. Interest expense increased by $42,000 and
$84,000 during the three- and six-month periods ended June 30, 2003 compared to
the same periods in 2002 due to the additional interest expense from the Laurus
note that was entered into in July 2002 and restructured during April 2003.
INCOME TAX BENEFIT. The Company has not recognized an income tax benefit
for its operating losses generated in the three- and six-month periods ended
June 30, 2003 and the three-month period ended June 30, 2002 based on
uncertainties concerning its ability to generate taxable income in future
periods. The tax benefit for these periods are offset by a valuation allowance
established against deferred tax assets arising from operating losses and other
temporary differences, the realization of which could not be considered more
likely than not. In future periods, tax benefits and related deferred tax assets
will be recognized when management considers realization of such amounts to be
more likely than not.
The Company recognized an income tax expense for its operating income
generated during the six-month period ended June 30, 2002. This income tax
expense was offset by a reduction in the valuation allowance that had previously
been recorded as a result of prior operating losses.
NET INCOME (LOSS). The Company incurred a net loss of $164,000 and $170,000
for the three months ended June 30, 2003 and 2002, respectively and a $530,000
net loss for the six months ended June 30, 2003 due to the Company's expenses
exceeding its revenues. The Company recorded net income of $1,277,000 for the
six months ended June 30, 2002. The net income for the first quarter for 2002
included $1,539,000 of gain on forgiveness of debt and a $182,000 reduction of
severance and restructuring expense.
Liquidity and Capital Resources
The net cash used in operating activities was $339,000 in 2003. This is
primarily due to the Company's expenses exceeding its revenue for the first
quarter of 2003.
The Company purchased $2,000 of equipment during the first six months of
2003. The Company does not expect to have significant equipment purchases during
the remainder of 2003.
The net cash provided by financing activities was $256,000 from the net
proceeds of restructuring the Laurus debt offset by cash used of $160,000 during
the first six months of 2003 to service the Laurus debt. The debt payments of
$63,000 that were due on June 30, 2003 and September 30, 2003 to PowerCerv were
restructured and are now due by December 31, 2003.
Our working capital at June 30, 2003 is $(86,000). Our net accounts
receivable balance outstanding at June 30, 2003 is $890,000. Our cash and cash
equivalents is $408,000. Currently the Company is funding its cash needs through
consistent collections of accounts receivable and on April 29, 2003, the Company
completed the restructuring of its debt with Laurus which resulted in additional
secured convertible debt of $267,000 (net proceeds of $256,000 after certain
fees and costs were deducted).
10
The accompanying financial statements have been prepared on the assumption
that the Company will continue as a going concern. The Company has incurred
losses of $403,000 and $11,412,000 for the year ended 2002 and 2001,
respectively and cash flow deficiencies from operations of $1,026,000 and
$513,000 during 2002 and 2001, respectively. These factors raise substantial
doubt about the ability of the Company to continue as a going concern. The
ability of the Company to continue as a going concern is dependent upon
attaining positive cash flow from operations. The financial statements do not
include any adjustments that may result from the outcome of this uncertainty.
The Company believes that, as a result of the actions it has taken during
prior years to restructure and streamline the Company, the restructuring of its
debt outstanding to Laurus by extending the payment terms and if it can attain
positive cash flow from operations, it currently has sufficient cash to meet its
funding requirements over the next year; however, the Company has experienced
negative cash flows from operations and incurred large net losses in the past
and there is no assurance, absent an improvement in the Company's operations
that such negative cash flow and net losses will not continue.
The Company's current growth has been funded through internally generated
funds and through the Laurus convertible note issued in July 2002 and
restructured on April 29th, 2003. In order for the Company to support
substantial growth, the Company may need to fund this growth through externally
generated funds. The Company is reviewing its options, which include a line of
credit secured by receivables, an equity raise or a combination of both. There
can be no assurance as to the availability of such capital, or, if available,
whether the terms upon which such capital is available would be acceptable to
the Company.
Critical Accounting Policies
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that have a significant impact on
the results we report in our financial statements. Some of our accounting
policies require us to make difficult and subjective judgments, often as a
result of the need to make estimates of matters that are inherently uncertain.
Our most critical accounting policies include: accounts receivable reserves and
the valuation of goodwill. Actual results may differ from these estimates under
different assumptions or conditions. Below, we discuss these policies further,
as well as the estimates and judgments involved.
Accounts Receivable Reserve. Accounts receivable are reduced by an
allowance for amounts that may become uncollectible in the future. The estimated
allowance for uncollectible amounts is based primarily on a specific analysis of
accounts in the receivable portfolio and a general reserve based on the aging of
receivables and historical write-off experience. Management believes the
allowance to be reasonable.
Valuation of Goodwill. Goodwill is reviewed annually for impairment or more
frequently if impairment indicators arise. We perform this annual impairment
test in the first quarter of each fiscal year. The goodwill impairment test
requires a comparison of the fair value of the Company to the amount of goodwill
recorded. If this comparison reflects impairment, then the loss would be
measured as the excess of recorded goodwill over its implied fair value.
Although we believe that the estimates and assumptions that we use are
reasonable, actual results could differ from those estimates and assumptions.
Item 3. Controls & Procedures
Within the 90 days prior to this report, the Company carried out an
evaluation, under the supervision of our Chief Executive Officer/Chief
Accounting Officer, of the effectiveness of the design and operation of the
Company's disclosure controls and procedures as defined in the Securities
Exchange Act Rule 15d-14(c). Based upon this evaluation, the Chief Executive
Officer/Chief Accouting Officer concluded that the Company's disclosure controls
and procedures are effective in timely enabling the Company to record, process,
summarize and report information required to be included in the Company's
periodic SEC filings. There have been no significant changes in the Company's
internal controls or in other factors that could significantly affect these
controls subsequent to the date of their evaluation.
11
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.
No legal proceedings against the Company are required to be disclosed
under this Item pursuant to the requirements of Form 10-QSB.
Item 2. Changes in Securities.
On April 29, 2003, the Company closed on a $266,667 10% convertible
note collateralized by the Company's accounts receivable with Laurus
Master Fund, LTD (Laurus). The Company pays interest immediately at
each monthly anniversary and the principal payments are paid over 22
months beginning July 30, 2003. This note matures on April 30, 2005.
At Laurus' election, this note can be converted into DFI common stock
at $0.35 a share after the DFI common stock price is at or above
$0.4375 a share for ten consecutive days. Additionally, a seven-year
warrant to purchase 25,000 shares of DFI common stock at $0.4375 per
share was issued. The Company paid a management fee of $16,000 to
Laurus, which will be amortized to interest expense over the 24-month
life of the note. The initial note issued by Laurus dated July 26,
2002, which had $533,333 remaining at April 30, 2003, was renegotiated
and the remaining principal is due equally over 22 months beginning
July 30, 2003 and ending April 30, 2005. The conversion feature of
this July 26, 2002 note was repriced and can be converted into DFI
common stock at $0.35 a share after the DFI common stock price is at
or above $0.4375 a share for ten consecutive days. The five-year
warrant issued on July 26, 2002, was also repriced to $0.4375.
Item 3. Defaults Upon Senior Securities
None.
Item 4. Submission of Matters to a Vote of Security Holders.
None.
Item 5. Other Information.
None.
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits
99.1 Written Statement of Chief Executive Officer and Chief
Accounting Officer pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
(b) Reports on Form 8-K.
None.
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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.
DIGITAL FUSION, INC.
Date: August 12, 2003
By: /s/ Roy E. Crippen, III
-----------------------------------------
Name: Roy E. Crippen, III
Title: Chief Executive Officer, President and Chief
Accounting Officer
(Principal Executive Officer and Accounting Officer)
13
CERTIFICATION OF CHIEF EXECUTIVE OFFICER AND CHIEF ACCOUNTING OFFICER
I, Roy E. Crippen, III certify that:
1. I have reviewed this quarterly report on Form 10-QSB of Digital Fusion, Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. I am responsible for establishing and maintaining disclosure controls and
procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the
registrant and have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the effectiveness
of the disclosure controls and procedures based on our evaluation as of the
Evaluation Date;
5. I have disclosed, based on our most recent evaluation, to the registrant's
auditors and the audit committee of registrant's board of directors (or persons
performing the equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. I have indicated in this quarterly report whether or not there were
significant changes in internal controls or in other factors that could
significantly affect internal controls subsequent to the date of my most recent
evaluation, including any corrective actions with regard to significant
deficiencies and material weaknesses.
Date: August 12, 2003 By: /s/ Roy E. Crippen, III
------------------------------
Roy E. Crippen, III
Chief Executive Officer, President and
Chief Accounting Officer
14