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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 September 30, 2003 (Third
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.)
ncorporation 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 November 7, 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
PART I. FINANCIAL INFORMATION Page No.
--------
Item 1. Financial Statements
Condensed Consolidated Balance Sheets as of September 30, 2003 (unaudited) and
December 31, 2002.................................................................. 1
Condensed Consolidated Statements of Operations for the three and nine months ended
September 30, 2003 and 2002 (unaudited)............................................ 2
Condensed Consolidated Statements of Cash Flows for the nine months ended September
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............................................................. 12
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................................................................... 13
Item 6. Exhibits and Reports on Form 8-K.................................................... 13
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)
September 30,
2003 December 31,
ASSETS (unaudited) 2002
------------ ----
Current assets:
Cash and cash equivalents $ 285 $ 653
Accounts receivable (net of allowance for doubtful
accounts of $357 in 2003 and $325 in 2002) 891 978
Other current assets 55 87
---------------- ----------------
Total current assets 1,231 1,718
Property and equipment, net 36 185
Intangible assets, net 3,347 3,347
Other assets 12 28
---------------- ----------------
Total assets $ 4,626 $ 5,278
================ ================
LIABILITIES & STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses $ 786 $ 930
Current maturities of long-term debt 611 808
Deferred revenue 21 21
---------------- ----------------
Total current liabilities 1,418 1,759
Interest payable - long term 27 86
Long-term debt, less current maturities 813 517
Pension obligation 280 280
---------------- ----------------
Total liabilities 2,538 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 (37,903) (37,340)
---------------- ----------------
Total stockholders' equity 2,088 2,636
---------------- ----------------
Total liabilities and stockholders' equity $ 4,626 $ 5,278
================ ================
The accompanying notes are an integral part of these condensed consolidated balance sheets.
1
DIGITAL FUSION, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002
(unaudited, in thousands, except per share amounts)
Three months ended September 30, Nine months ended September 30,
-------------------------------------------- ----------------------------------
2003 2002 2003 2002
------------- -------------- -------------- -------------
Revenues:
Consulting $ 1,484 $ 2,131 $ 4,672 $ 7,497
Product 174 - 232 -
---------------------- ------------------ ------------------ -------------
Total revenue 1,658 2,131 4,904 7,497
---------------------- ------------------ ------------------ -------------
Cost of services and goods sold:
Consulting 1,092 1,696 3,577 5,771
Product 165 - 220 -
---------------------- ------------------ ------------------ -------------
Total cost of services and goods sold 1,257 1,696 3,797 5,771
---------------------- ------------------ ------------------ -------------
Gross profit 401 435 1,107 1,726
---------------------- ------------------ ------------------ -------------
Operating expenses:
Selling, general and administrative 386 724 1,516 2,438
Severance and restructuring - - - (182)
Gain on forgiveness of debt - (46) - (1,585)
---------------------- ------------------ ------------------ ------------
Total operating expenses 386 678 1,516 671
---------------------- ------------------ ------------------ ------------
Operating income (loss) 16 (243) (408) 1,055
Interest expense, net 49 18 154 39
---------------------- ------------------ ------------------ ------------
Income (loss) before income taxes (34) (261) (563) 1,016
Income tax benefit - - - -
---------------------- ------------------ ------------------ ------------
Net income (loss) $ (34) $ (261) $ (563) $ 1,016
====================== ================== ================== ============
Basic earnings (loss) per share $ (0.00) $ (0.04) $ (0.08) $ 0.14
====================== ================== ================== ============
Basic weighted average common shares
outstanding 7,168 7,164 7,168 7,164
====================== ================== ================== =============
Diluted earnings (loss) per share $ (0.00) $ (0.04) $ (0.08) $ 0.13
====================== ================== ================== ============
Diluted weighted average common shares 7,168 7,164 7,168 7,693
outstanding ====================== ================== ================== ============
The accompanying notes are an integral part of these condensed consolidated statements.
2
DIGITAL FUSION, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002
(unaudited, in thousands)
2003 2002
Cash flows used in operating activities
Net income (loss) $ (563) $ 1,016
Adjustments to reconcile net income (loss) to net
cash
used in operating activities:
Depreciation and amortization 153 246
Gain on forgiveness of debt - (1,585)
Non-cash restructuring (136)
Changes in assets and liabilities 60 (632)
-------------- ------------
Net cash used in operating activities (350) (1,091)
-------------- ------------
Cash flows used in investing activities:
Capital expenditures - property and equipment (4) (23)
-------------- ------------
Net cash used in investing activities (4) (23)
-------------- ------------
Cash flows provided by (used in) financing activities:
Repayments of notes payable (270) (257)
Net proceeds from note payable 256 717
-------------- ------------
Net cash provided by (used in) financing
activities (14) 460
-------------- ------------
Net decrease in cash and cash equivalents (368) (654)
Cash and cash equivalents, beginning of periods 653 1,350
-------------- ------------
Cash and cash equivalents, end of periods $ 285 $ 696
============== ============
The accompanying notes are an integral part of these condensed consolidated statements.
3
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002
(Unaudited)
1. Basis of Presentation
Unaudited Interim Condensed Financial Statements
The condensed consolidated interim financial statements of
Digital Fusion, Inc. (the "Company") have been prepared, 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 nine months
ended September 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 $563,000, $403,000 and $11,412,000 for
the nine-month period ended September 30, 2003 and years ended December
31, 2002 and 2001, respectively and cash flow deficiencies from
operations of $ 350,000, $1,026,000 and $513,000 during the nine-month
period ended September 30, 2003 and years ended December 31, 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.
On April 29th, 2003, the Company restructured its outstanding
note with Laurus. The Company borrowed an additional $267,000 with the
entire principal owed to Laurus to be repaid over 22 months. The first
principal payment began July 30, 2003.
4
The Company's current growth has been funded through
internally generated funds and through the 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 restructuring its current debt, an equity raise
or a combination of both. There can be no assurance as to the
availability of such financing or capital or, if available, whether the
terms upon which such financing or capital might be available would be
acceptable to the company.
2. Loss Per Share Data
Common stock equivalents in the three and nine-month periods
ended September 30, 2003 and the three-month period ended September 30,
2002, were anti-dilutive due to the net losses sustained by the Company
during these periods. Therefore, 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 nine-month periods ended
September 30, 2003 and the three-month period ended September 30, 2002
based on uncertainties concerning its ability to generate taxable
income in future periods. The tax benefit for the three and nine-month
periods ended September 30, 2003 and three-month period ended September
30, 2002 is 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 nine-month period ended September 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 costs 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
5
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 nine-month period
ended September 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.
The following table illustrates the effect on net income
(loss) and earnings (loss) per share for the three- and nine-month
periods ending September 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 September Nine Months ended September
30, 30,
--- ---
2003 2002 2003 2002
---- ---- ---- ----
Net income (loss), as reported $ (34,000) $ (261,000) (563,000) $ 1,016,000
$
Deduct: Fair value of stock-based employee
compensation costs (78,000) (256,000) (236,000) (768,000)
------------ --------------- ------------ --------------
Pro forma net income (loss) $ (112,000) $ (517,000) $ (799,000) $ 248,000
============ =============== ============ ==============
Earnings (loss) per share:
Basic - as reported $ (0.00) $ (0.04) $ (0.08) $ 0.14
============ =============== ============ ==============
Basic - pro forma $ (0.02) $ (0.07) $ (0.11) $ 0.03
============ =============== ============ ==============
Diluted - as reported $ (0.00) $ (0.04) $ (0.08) $ 0.13
============ =============== ============ ==============
Diluted - proforma $ (0.02) $ (0.07) $ (0.11) $ 0.03
============ =============== ============ ==============
The Company estimates the fair value of each stock option at the grant
date by using the Black-Scholes option-pricing model.
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 common
stock in the Company at $0.35 a share after the 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 common stock in the
Company 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 re-priced and can be
converted into common stock in the Company at $0.35 a share after the
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 re-priced
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,
the Company or its 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
The Company is an information technology (IT) consulting firm
that helps its customers maximize the use of modern technology to
access business information, enhance the performance of their human
resources, and meet various business needs. The Company's success is
based on a total approach that provides the people, processes, and
technology needed to translate business needs into sound IT strategies.
Services are provided to business organizations and public sector
institutions primarily in the Eastern United States. The Company is
incorporated in Delaware with its main administrative office located in
Huntsville, Alabama and regional offices in Florida, New Jersey, and
Virginia.
Revenues are derived primarily from fees earned in connection
with the performance of services provided to customers. The Company
typically invoices on a time and materials basis. The majority of costs
7
are associated with personnel. Attracting and retaining billable
employees is vital for the Company to move forward. Quarterly operating
results are affected by the number of billable days in the quarter,
holiday seasons, and vacations. During the second quarter of 2003, the
Company began reselling the Intuit product Track-it. All 2003 Track-it
product sales were to governmental entities where margins are lower.
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 costs 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 nine-month period
ended September 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 the 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 NINE MONTHS ENDED SEPTEMBER 30, 2003 COMPARED TO THE THREE AND
NINE MONTHS ENDED SEPTEMBER 30, 2002
REVENUES. Consulting revenues decreased $647,000 to $1,484,000
for the three months ended September 30, 2003 and decreased $2,825,000
to $4,672,000 for the nine months ended September 30, 2003 compared to
the same periods in 2002. The decrease in revenues during the three and
nine months ended September 30, 2003 compared to the same periods in
the prior year was primarily due to a softening in the IT consulting
market over the last year. Revenue from the Company's largest
consulting services customer was responsible for 26.5% of services
revenue in 2003 as compared to 24% in 2002.
During the second quarter of 2003, the Company began reselling
the Track-it software from Intuit. The sales for the third quarter 2003
and nine-month period ending September 30, 2003 were $174,000 and
$232,000 respectively.
COST OF SERVICES AND GOODS SOLD. Cost of services and goods
sold consists primarily of salaries and expenses of programming and
technical personnel, expenses related to applications sold to
customers, and fees paid to outside consultants engaged for customer
projects. Consulting cost of services decreased by $604,000 and $2.2
million for the three- and nine- month periods ended September 30,
2003, respectively, compared to the prior year. As revenues decreased
due to the softening of the IT consulting market over the last year,
the number of services personnel was reduced, which reduced the cost of
services. The product cost of goods sold is related to the reselling of
the Intuit product Track-it that began during second quarter 2003.
GROSS PROFIT. Gross profit for services during the three-month
period ended September 30, 2003 was $392,000, or 26.4% of revenues as
compared to $435,000, or 20.4% of revenues for the same period in 2002.
This increase in gross profit as a percent of revenues is due to
improved utilization rates of billable consultants during the third
quarter of 2003. Gross profit for services for the nine-month period
ended September 30, 2003 was $1.1 million, or 23.4% of revenues as
compared to $1.7 million, or 23% of revenues for the nine-month period
ending September 30, 2002. This slight increase in gross profit as a
percent of revenues is due to the flatness in the IT market during the
first part of 2003.
During the second quarter of 2003, the Company began reselling
the Intuit product Track-it to governmental organizations. Gross profit
for product sales during the three- and nine-month periods ending
September 30, 2003 was 5.2%. The low profit margin on product sales is
attributable to the low mark-up required on sales to governmental
entities.
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 related to being a public
company and the administration of the Company. Selling, general and
administrative expenses decreased by $338,000, or 47%, for the
three-month period ended September 30, 2003 compared to the same period
during 2002, and $922,000, or 38% for the nine-month period ended
September 30, 2003 compared to the same period during 2002. The
decrease in SG&A is due to the reduction of administrative personnel
and other costs in proportion to the lower level of revenues and, as a
result of the quarterly review, a reduction in the amount of certain
accrued liabilities that were deemed to be satisfied.
9
SEVERANCE AND RESTRUCTURING. The severance and restructuring
expense was $0 for the three-month period ended September 30, 2003 and
September 30, 2002. It was reduced by $182,000 for the nine-month
period ending September 30, 2002 based upon 2002 estimates of the
remaining liabilities associated with prior restructurings.
GAIN ON FORGIVENESS OF DEBT. During the three- and nine-month
period ended September 30, 2002, the Company reached settlement
agreements on debts associated with offices that were closed, business
units that were sold, and services not used, which resulted in
forgiveness of debt income of $46,000 and $1,539,000 respectively.
INTEREST EXPENSE (INCOME), NET. Interest expense increased by
$31,000 and $115,000 during the three- and nine-month periods ended
September 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
nine-month periods ended September 30, 2003 and the three-month period
ended September 30, 2002 based on uncertainties concerning its ability
to generate taxable income in future periods. The tax benefit for these
periods is 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 nine-month period ended September 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 $34,000
and $261,000 for the three months ended September 30, 2003 and 2002,
respectively, and a $563,000 net loss for the nine months ended
September 30, 2003 due to the Company's expenses exceeding its
revenues. The Company recorded net income of $1.0 million for the nine
months ended September 30, 2002. The net income for the nine months
ending September 30, 2002 included $1,585,000 of gain on forgiveness of
debt and $182,000 for the reduction of severance and restructuring
expense.
Liquidity and Capital Resources
The net cash used in operating activities in 2003 is $350,000.
This is primarily due to the Company's expenses exceeding its revenue
for the first quarter of 2003.
The Company purchased $4,000 of computer equipment during the
first nine 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 were restructured and the Company is
negotiating a final agreement.
10
At September 30, 2003 working capital deficiency was
$(187,000), net accounts receivable was $891,000, and cash and cash
equivalents were $285,000. The Company funds its cash needs through a
consistent collection of accounts receivable and the restructured debt
to Laurus which resulted in additional secured convertible debt of
$267,000 on April 29, 2003. Net proceeds from the restructuring were
$256,000 after the deduction of certain fees and costs.
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 $563,000, $403,000 and $11,412,000 for
the nine-month period ended September 30, 2003 and years ended December
31, 2002 and 2001, respectively and cash flow deficiencies from
operations of $ 350,000, $1,026,000 and $513,000 during the nine-month
period ended September 30, 2003 and years ended December 31, 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, it may need to fund its
growth through externally generated funds. The Company is reviewing its
options, which include restructuring its current debt, an equity raise,
or a combination of both. There can be no assurance as to the
availability of such financing or capital, or, if available, whether
the terms upon which such financing or capital is available would be
acceptable to the Company.
Critical Accounting Policies
The Securities and Exchange Commission has indicated that a
"critical accounting policy" is one which is both important to the
portrayal of a company's financial condition and results and requires
management's most difficult, subjective, or complex judgments, often as
a result of the need to make estimates about the effect of matters that
are inherently uncertain. The Company believes that the following
accounting policies fit this definition:
Allowance for doubtful accounts. Certain of the Company's trade
accounts receivable are subject to bad debt losses. A reserve has been
recorded to reflect expected bad debt losses based on past experience
with similar accounts receivable. The reserve is reviewed on a regular
basis and adjusted as necessary. Although management believes the
reserve is a reasonable approximation, there can be no assurance that
the Company can accurately estimate bad debt losses on its accounts
receivable.
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Valuation of Goodwill. The Company's goodwill is reviewed
annually for impairment or more frequently if impairment indicators
arise. The annual impairment test is performed 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
the comparison reflects impairment, then the loss is calculated as the
excess of recorded goodwill over its implied fair value. Although
management believes valuation is a reasonable approximation, actual
results could differ from those projected.
Item 3. Controls & Procedures
Within the 90 days prior to this report, the Company performed an
evaluation, under the supervision of its Chief Executive 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 concluded that the Company's disclosure controls and
procedures are effective in enabling the Company to timely 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.
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 common stock in the Company at $0.35 a share after
the 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 common stock in the Company
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 re-priced and can be converted into common stock
in the Company at $0.35 a share after the 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 re-priced to $0.4375.
Item 3. Defaults Upon Senior Securities
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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 pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002.
(b) Reports on Form 8-K.
None.
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: November 7, 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)
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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: November 7, 2003 By: /s/ Roy E. Crippen, III
------------------------------
Roy E. Crippen, III
Chief Executive Officer, President
and Chief Accounting Officer
14