United States 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 DECEMBER 31, 2004
OR
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15 (d) OF THE
EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 000-31779
SECURITY INTELLIGENCE TECHNOLOGIES, INC.
(Exact name of small business issuer as specified in its charter)
Florida 65-0928369
----------------------- ------------
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
145 Huguenot Street, New Rochelle, New York 10801
(Address of principal executive offices)
(914) 654-8700
(Issuer's telephone number)
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
The number of shares of common stock $.0001 par value, of the Registrant
issued and outstanding as of February 14, 2005 was 22,818,289.
SECURITY INTELLIGENCE TECHNOLOGIES, INC. AND SUBSIDIARIES
FORM 10QSB
PERIOD ENDED December 31, 2004
TABLE OF CONTENTS
PART I - FINANCIAL INFORMATION
ITEM 1. Consolidated Financial Statements:
Consolidated Balance Sheets as of December 31, 2004 (unaudited) and
June 30, 2004 3
Consolidated Statements of Operations (unaudited) for the three and six months
ended December 31, 2004 and December 31, 2003 4
Consolidated Statements of Cash Flow (unaudited) for the three and six months
ended December 31, 2004 and December 31, 2003 5
Condensed Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 14
Item 3. Controls and Procedures 19
PART II - OTHER INFORMATION
Item 1. Legal Proceedings 19
Item 2. Unregistered Sale of Equity Securities and Use of Proceeds 19
Item 6. Exhibits and Reports on Form 8-K 20
2
SECURITY INTELLIGENCE TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31,
2004 June 30,
(Unaudited) 2004
------------- --------------
ASSETS
Current Assets:
Cash $33,084 $172,621
Accounts receivable 422,039 $5,751
Inventory 795,087 959,825
Other current assets 176,848 218,121
------------- --------------
Total current
assets 1,427,058 1,356,318
Property and Equipment, at cost less accumulated depreciation
and amortization of $177,299 and $170,969 15,918 22,248
Other assets 32,125 35,071
------------- --------------
Total assets $1,475,101 $1,413,637
============= ==============
LIABILITIES AND STOCKHOLDERS' DEFICIT
Current liabilities:
Accounts payable and accrued expenses $4,682,900 $3,722,228
Note payable - CEO/stockholder 1,820,899 1,509,151
Convertible notes payable 494,000 200,000
Notes payable - officers 125,000 -
Note payable - other 20,000 -
Customer deposits 1,280,628 1,917,031
Deferred revenue 1,355,237 1,408,679
------------- --------------
Total current liabilities 9,778,664 8,757,089
------------- --------------
Commitments and contingencies - See Notes
Stockholders' deficit:
Preferred stock, $.0001 par value, 10,000,000 shares authorized:
Series A Convertible-$1.00 per share liquidation preference,
3,500,000 shares authorized, issued and outstanding 350 350
Series B Convertible-$1.00 per share liquidation preference,
1,500,000 shares authorized, issued and outstanding 150 150
Common stock, $.0001 par value, 100,000,000 shares authorized,
22,698,289 and 22,306,816 issued and outstanding at
December 31, 2004, and June 30, 2004 respectively 2,270 2,231
Additional paid in capital 6,335,253 3,808,283
Accumulated deficit (14,630,437) (11,136,871)
Accumulated other comprehensive loss (11,149) (17,595)
------------- --------------
Total stockholders' deficit (8,303,563) (7,343,452)
------------- --------------
Total liabilities and stockholders' deficit $1,475,101 $1,413,637
============= ==============
The accompanying notes are an integral part of these financial statements.
3
SECURITY INTELLIGENCE TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Three Months Ended Six Months Ended
------------------------ -------------------------
December 31, December 31,
------------------------ -------------------------
2004 2003 2004 2003
------------ ----------- ------------ ------------
Revenues $1,642,759 $764,676 $2,170,077 $1,701,362
------------ ----------- ------------ ------------
Costs and expenses:
Cost of sales 585,691 260,354 745,987 627,724
Compensation and benefits 540,918 552,413 1,091,413 1,175,023
Professional fees and legal matters 127,065 152,683 218,609 269,355
Stock based compensation 15,000 55,893 134,957 131,400
Selling, general and administrative expenses 332,690 340,592 686,759 754,984
Unrealized (gain) loss on financial guarantees 73,696 124,081 402,460 (130,359)
Depreciation and amortization 3,165 80,822 6,330 94,173
------------ ----------- ------------ ------------
1,678,225 1,566,838 3,286,515 2,922,300
------------ ----------- ------------ ------------
Operating loss (35,466) (802,162) (1,116,438) (1,220,938)
------------ ----------- ------------ ------------
Debt issuance and interest expense:
Debt issuance expense - - 2,304,455 -
Interest expense 42,291 23,263 72,673 42,944
------------ ----------- ------------ ------------
42,291 23,263 2,377,128 42,944
------------ ----------- ------------ ------------
Net loss $(77,757) $(825,425) $(3,493,566) $(1,263,882)
============ =========== ============ ============
Loss per share, basic and diluted $(0.00) $(0.04) $(0.16) $(0.07)
============ =========== ============ ============
Weighted average number of shares 22,508,733 19,376,856 22,431,369 19,052,117
============ =========== ============ ============
The accompanying notes are an integral part of these financial statements.
4
SECURITY INTELLIGENCE TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Six Months Ended
---------------------------------
December 31,
---------------------------------
2004 2003
---------------- ----------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $(3,493,566) $(1,263,882)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization 6,330 94,173
Unrealized loss (gain) on financial guarantees 402,460 (130,359)
Debt issuance expense 2,304,455 -
Amortization of deferred compensation 107,957 131,400
Stock issued to consultant and employee for services 37,000 -
Discount on common stock issued for services 27,000 -
Decrease in other comphrensive loss 6,446 -
Noncash compensation - CEO/stockholder 71,400 21,000
Noncash interest expense - CEO/stockholder 36,794 28,763
CHANGES IN OPERATING ASSETS AND LIABILITIES:
(Increase) in accounts receivable (416,288) (38,444)
Decrease in inventory 164,738 174,231
Decrease (increase) in other current assets 41,273 (75,166)
Decrease (increase) in other assets 2,946 (2,498)
Increase in accounts payable and accrued expenses 608,809 332,791
(Decrease) in customer deposits (636,403) (54,511)
(Decrease) increase in deferred revenue (53,442) 199,020
---------------- ----------------
Net cash used in operating activities (782,091) (583,482)
---------------- ----------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Borrowings under note payable - CEO/stockholder 203,554 21,061
Borrowings under convertible credit facility 294,000 -
Borrowings under note payable - officers 125,000 21,000
Borrowings under note payable - other 20,000 -
Proceeds from issuance of common stock - 525,000
---------------- ----------------
Net cash provided by financing activities 642,554 567,061
---------------- ----------------
Net (decrease) in cash (139,537) (16,421)
Cash, beginning of period 172,621 21,638
---------------- ----------------
Cash, end of period $33,084 $5,217
================ ================
Supplemental Disclosures of Cash Flow Information:
Interest paid $16,044 $14,181
================ ================
Taxes paid $4,573 $2,620
================ ================
Non-cash financing and investing activities:
Common stock issued to settle accounts payable $50,597 $12,277
================ ================
Accrued interest and deferred salary credited to note payable -
CEO/stockholder $108,194 $49,763
================ ================
The accompanying notes are an integral part of these financial statements.
5
SECURITY INTELLIGENCE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2004 AND 2003
(Unaudited)
Note 1 - Interim Financial Statements
The accompanying unaudited financial statements of Security
Intelligence Technologies, Inc. and subsidiaries (the "Company") have been
prepared pursuant to generally accepted accounting principles for interim
financial statements and the rules and regulations of the Securities and
Exchange Commission. Accordingly, certain information and note disclosures
normally included in annual financial statements prepared in accordance with
generally accepted accounting principles have been condensed or omitted pursuant
to those rules and regulations. These financial statements should be read in
conjunction with the financial statements and the notes thereto included in the
Company's latest audited financial statements for the year ended June 30, 2004
filed on Form 10-KSB.
In the opinion of management, all adjustments (consisting of normal
recurring adjustments) necessary for a fair presentation of the Company's
financial condition, results of operations and cash flows for the periods
presented have been included. The Company's quarterly results presented herein
are not necessarily indicative of results for a full year.
Organization and Nature of Business
- -----------------------------------
Security Intelligence Technologies, Inc. ("SIT"), a Florida corporation
and its wholly owned subsidiaries (collectively the "Company") are engaged in
the design, assembly and sale of security and surveillance products and systems.
The Company purchases finished items for resale from independent manufacturers,
and also assembles off-the-shelf electronic devices and other components into
proprietary products and systems at its own facilities. The Company generally
sells to businesses, distributors, government agencies and consumers through
five sales offices located in Miami, Florida; Beverly Hills, California;
Washington, DC; Hong Kong, its executive offices located in New Rochelle, New
York and through its retail store/service center in London, England.
Principles of Consolidation
- ---------------------------
The consolidated financial statements include the accounts of SIT and
its wholly-owned subsidiaries, CCS, Spy Shop, Ltd. d/b/a Counter Spy Shop of
Delaware, a Delaware corporation (formerly a retail store closed on January 31,
2004); Security Design Group, Inc., a New York corporation (formerly a
manufacturing operation, currently inactive); Counter Spy Shop of Mayfair
London, Ltd., a District of Columbia corporation (formerly a retail store closed
on July 1, 2003); CCS Counter Spy Shop of Mayfair London, Ltd., a California
corporation (formerly a retail store closed on January 1, 2004); Counter Spy
Shop of Mayfair, Ltd., a Florida corporation (formerly a sales office/retail
store that ceased operations on March 31, 2004); and Homeland Security
Strategies (UK), Ltd. (formerly Counter Spy Shop of Mayfair Limited, a United
Kingdom corporation that operates a retail store/service center. The financial
statements for the six months ended December 31, 2004 include the operations of
Homeland Security Strategies, Inc., a New York corporation, that commenced
operations on August 20, 2003; Homeland Security Strategies of California, Inc.,
a California corporation, that operates a sales office that commenced operations
on December 26, 2003; and Homeland Security Strategies Inc of Florida, Inc., a
Florida corporation, that operates a sales office that commenced operations on
January 30, 2004. All significant inter-company balances and transactions have
been eliminated in consolidation.
Going Concern and Liquidity
- ---------------------------
The financial statements of the Company have been prepared assuming the
Company will continue as a going concern, which contemplates the realization of
assets and the satisfaction of liabilities in the normal course of business. As
more fully discussed in the Company's 2004 Form 10-KSB, the Company's June 30,
2004 audited financial statements included a "going concern" qualification from
its independent auditors due to the Company's lack of profitability and negative
working capital.
6
SECURITY INTELLIGENCE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2004 AND 2003
(Unaudited)
Going Concern and Liquidity - continued:
- ---------------------------------------
The Company incurred net losses of $3,493,566 and $4,992,072 for the
six months ended December 31, 2004 and the fiscal year ended June 30, 2004,
respectively. In addition, at December 31, 2004, the Company had a working
capital deficit of $8,351,606 and a deficiency in stockholders' equity of
$8,303,563. The Company is also a defendant in material and costly litigation,
which has significantly impacted liquidity. See Note 10. The Company requires
additional financing which may not be readily available. The Company's bank
facility has terminated, and the only source of funds other than operations has
been loans from the Company's chief executive officer, deposits from customers
and distributors and proceeds from notes. (See Notes 3, 4, 5 and 6). These
factors raise substantial doubt about the Company's ability to continue as a
going concern. To address the Company's immediate cash requirements which are
necessary for the Company to continue in business, management discontinued
substantially all of its retail operations during the fiscal year ended June 30,
2004 and re-focused its marketing efforts to focus on its sophisticated bomb
jamming and cellular monitoring systems. The sales increase of $468,715 during
the six months ended December 31, 2004 as compared to the six months ended
December 31, 2003 was directly attributable to these efforts. In addition
management has begun marketing its bomb jamming and cellular monitoring systems
to the United States Government and contractors of the United States Government.
Sales to these groups of these systems were $973,000 during the six months ended
December 31, 2004. The Company had no sales to the United States Government or
government contractors during the six month ended December 31, 2003. As part of
this effort, the Company has aggressively re-focused its staff, has reduced
expenses, and is actively pursuing additional equity and debt financing to
supplement cash flow from operations. The Company and its management believe
that its bomb jamming and cellular monitoring systems and the United States
Government marketplace are viable products and markets to compete, and
ultimately achieve profitability. The Company's ability to continue its
operations is dependent upon its ability to generate sufficient cash flow either
from operations or from financing, to meet its obligations on a timely basis and
to further develop and market its products. However, the Company's low stock
price and its continuing losses make it difficult to obtain equity and debt
funding, and, there can be no assurances that additional financing will be
available to the Company on acceptable terms, or at all, or that the Company
will generate the necessary cash flow from operations. The accompanying
financial statements do not include any adjustments that might result from the
outcome of these uncertainties.
Revenue recognition
- -------------------
The Company recognizes revenue from sales upon the delivery of
merchandise to a customer. Non-refundable advance payments received under
marketing and distribution arrangements are deferred and either applied as
payments towards customer purchases made pursuant to the terms of the respective
agreements, or recognized as income at the termination of the agreement if
specified purchase quotas have not been met by the customer. Customer deposits
are initially recorded as liabilities and recognized as revenue when the related
goods are shipped.
Financial Guarantees
- --------------------
Certain shares issued by the Company to settle debt obligations contain
a price guarantee that requires the Company to settle in cash any difference
between the original face amount of the debt and proceeds from the creditor's
subsequent sale of the shares. The Company accounts for these transactions by
recording the debt at fair value with periodic mark-to-market adjustments until
the guarantee is settled. Unrealized gains or losses resulting from changes in
fair value are included in earnings and accrued expenses.
7
SECURITY INTELLIGENCE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2004 AND 2003
(Unaudited)
Stock-based Compensation
- ------------------------
The Company periodically grants stock options to employees in
accordance with the provisions of its stock option plans, with the exercise
price of the stock options being set at the closing market price of the common
stock on the date of grant. The Company accounts for stock-based compensation
plans under Accounting Principles Board Opinion No. 25, "Accounting for Stock
Issued to Employees", and accordingly accounts for employee stock-based
compensation utilizing the intrinsic value method. FAS No. 123, "Accounting for
Stock-Based Compensation", establishes a fair value based method of accounting
for stock-based compensation plans. The Company has adopted the disclosure only
alternative under FAS No. 123, which requires disclosure of the pro forma
effects on earnings and earnings per share as if FAS No. 123 had been adopted as
well as certain other information.
Stock options granted to non-employees are recorded at their fair
value, as determined in accordance with SFAS No. 123 and Emerging Issues Task
Force Consensus No. 96-18, and recognized over the related service period.
Deferred charges for options granted to non-employees are periodically
re-measured until the options vest.
In December 2002, the FASB issued SFAS No. 148, Accounting for
Stock-Based Compensation - Transition and Disclosure. SFAS No. 148 amends SFAS
No. 123, Accounting for Stock-Based Compensation. Although it does not require
use of fair value method of accounting for stock-based employee compensation, it
does provide alternative methods of transition. It also amends the disclosure
provisions of SFAS No.123 and APB No. 28, Interim Financial Reporting, to
require disclosure in the summary of significant accounting policies of the
effects of an entity's accounting policy with respect to stock-based employee
compensation on reported net income and earnings per share in annual and interim
financial statements. SFAS No. 148's amendment of the transition and annual
disclosure requirements is effective for fiscal years ending after December 15,
2002. The amendment of disclosure requirements of APB No. 28 is effective for
interim periods beginning after December 15, 2002. We adopted SFAS No. 148 and
APB No.28 on January 1, 2003.
FASB Statement 123, "Accounting for Stock-Based Compensation," requires
the Company to provide pro forma information regarding net income (loss) and
income (loss) per share as if compensation cost for the Company's stock option
issuances had been determined in accordance with the fair value based method
prescribed in FASB Statement 123. 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 weighted-average assumptions used for grants in fiscal 2004,
2003 and 2002: dividend yield of 0%, risk-free interest rate of 3.38%, expected
lives of eight years, and expected volatility of 120%. Under the accounting
provisions of SFAS Statement 123, the Company's net loss and loss per share for
the three and six months ended December 31, 2004 and December 31, 2003 would
have been the pro forma amounts indicated below:
Three Months Ended Six Months Ended
December 31, December 31,
------------------------- -------------------------
Net loss: 2004 2003 2004 2003
------------ ------------ ------------ ------------
As reported $(77,757) $(825,425) $(3,493,566) $(1,263,882)
Add: Stock based employee compensation expense
included in reported net loss - - - -
Deduct: Total stock based employee compensation
expense determined under the fair value based
method for all awards (20,163) (13,777) (53,449) (35,759)
------------ ------------ ------------ ------------
$(97,920) $(839,202) $(3,547,015) $(1,299,641)
============ ============ ============ ============
Loss per share, basic and diluted:
As reported $(0.00) (0.04) $(0.16) $(0.07)
Proforma $(0.00) $(0.04) $(0.16) $(0.07)
8
SECURITY INTELLIGENCE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2004 AND 2003
(Unaudited)
Foreign Currency Translation
- ----------------------------
The functional currency of the Company's UK subsidiary is the local
currency. Accordingly, the Company translates all assets and liabilities into
U.S. dollars at current rates. Revenues, costs, and expenses are translated at
average rates during each reporting period. Gains and losses resulting from the
translation of the consolidated financial statements are excluded from results
of operations and are reflected as a translation adjustment and a separate
component of stockholders' deficit. Gains and losses resulting from foreign
currency transactions are recognized in the consolidated statement of operations
in the period they occur.
Warranties
The Company warrants the products and systems it sells to be free from
defects in materials and workmanship under normal use. Parts and labor costs to
repair defective products or systems are covered during the first ninety days
after delivery of the product or system. Thereafter the cost is billed to the
customer. A tabular reconciliation of the Company's aggregate product warranty
liability for the six months ended December 31, 2004 and December 31, 2003 is as
follows:
Six Months Ended
December 31,
--------------------------
2004 2003
------------ ------------
Balance July 1, $15,000 $15,000
Charges for warranty work - -
Accrual for product warranties issued
during the period 20,000 -
------------ ------------
Balance at December 31 $35,000 $15,000
============ ============
Reclassifications
- -----------------
Certain prior year balances have been reclassified to conform to the
current year presentation.
9
SECURITY INTELLIGENCE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2004 AND 2003
(Unaudited)
2. ACCOUNTS PAYABLE AND ACCRUED EXPENSES
Accounts payable and accrued expenses at December 31, 2004 consisted of the
following:
Accounts payable - trade $1,991,213
Professional fees and legal matters 1,372,194
Potential liability for guarantees of common stock
issued in settlement of claims 564,263
Payroll liabilities (includes delinquent payroll taxes with associated
interest and penalties of $218,182) 638,500
Deferred rent payable 49,798
Other accruals 66,932
----------
$4,682,900
==========
Outstanding lawsuits initiated by the Company's creditors for nonpayment of
accrued liabilities were approximately $849,000 as of December 31, 2004. In
addition, as of December 31, 2004, the Company was subject to outstanding
judgments of approximately $167,000 relating to claims against the Company for
non-payment of obligations and an additional amount relating to judgments from
lawsuits with distributors of approximately $344,000.
3. Note Payable - CEO/stockholder
This amount represents a note payable to the Company's chief executive
officer and includes deferred salary of $267,671 and accrued interest of
$175,536 based on an interest rate of 5% per annum. The Note is secured by
substantially all of the assets of the Company and is due on demand.
4. Notes Payable Convertible Credit Facility; Debt Issuance Expense
On June 10, 2004 the Company entered into a convertible credit
agreement with private investors, including Michael D. Farkas, Ostonian
Securities Limited, Kesef Equity Group, Inc., and GSM Communications, Inc. that
provides for the Company to borrow up to $500,000 upon the attainment of certain
performance criteria prior to September 15, 2004. At December 31, 2004 the
Company had borrowed $494,000 under this agreement. The notes bear interest at
the rate of 10% per annum, are convertible into the Company's common stock at
$.10 per share and mature on June 30, 2005. The conversion feature was valued at
$2,619,788 using the Black-Scholes option-pricing model. The Company expensed
$315,333 of this amount in the year ended June 30, 2004 and $2,304,455 during
the quarter ended September 30, 2004 as debt issuance expense.
5. Note Payable - Officers
This amount represents demand notes payable to two officers and
directors of the Company. The notes which bear interest at the rate of 5% per
annum, are unsecured and were paid in February 2005.
6. Note Payable - Other
This amount represents a note payable to a private investor. The note
is payable on demand, bear interest at the rate of 11% per annum, and is
unsecured.
10
SECURITY INTELLIGENCE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2004 AND 2003
(Unaudited)
7. Common Stock
During the six months ended December 31, 2004, the Company issued 87,500 shares
of common stock in payment of $10,000 of consulting services.
During the six months ended December 31, 2004, Company issued 167,473 shares of
common stock to an employee in payment of $27,000 of accrued wages.
During the six months ended December 31, 2004, the Company issued 136,500 shares
of common stock in full settlement, subject to certain terms, of $50,447 of
CCS's accrued professional fees. If the proceeds from the sale of the common
stock are less than $50,447 CCS will pay to the creditors the difference between
the $50,447 and the proceeds from the sale of the common stock. At December 31,
2004, the market value of the 136,500 shares of common stock was $30,030.
8. Loss Per Share
The Company calculates earnings per share in accordance with SFAS No. 128,
Earnings Per Share, and SEC Staff Accounting Bulletin No. 98. Accordingly, basic
and diluted loss per share is computed using the weighted average number of
shares of common stock outstanding and excludes all common stock equivalents
outstanding during the period. Common stock equivalents consist of shares
issuable upon the exercise of stock options and warrants using the treasury
stock method. Stock options and preferred stock that are convertible into common
stock based on the Company's attainment of performance goals are not includible
in the calculation of earnings per share until the specified targets are met.
The following securities have been excluded from the diluted computation for the
three and six months ended December 31, 2004 and December 31, 2003 because they
are contingently issuable and/or antidilutive:
Three and Six Months Ended
--------------------------
December 31,
---------------------
2004 2003
--------- ---------
Series A Convertible Preferred Stock 3,500,000 3,500,000
Series B Convertible Preferred Stock 1,500,000 1,500,000
Stock options 2,609,500 1,959,500
Warrants 400,000 400,000
9. Income taxes
The Company did not incur any income tax liabilities during the three
and six month periods ended December 31, 2004 and 2003 due to operating losses.
As of December 31, 2004, the Company has increased its tax valuation allowance
to offset the deferred tax benefits of net operating losses and other temporary
differences arising during the six months ended December 31, 2004 and December
31, 2003 because management is uncertain as to their ultimate realization.
11
SECURITY INTELLIGENCE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2004 AND 2003
(unaudited)
10. Legal Matters
Litigation
- ----------
Settled matters
- ---------------
On November 1, 2002, a former Company supplier filed suit in the United
States District Court for the District of Maryland, captioned Micronel Safety,
Inc. v. CCS International Ltd. seeking damages of $242,400 for breach of
contract to purchase certain products. In August 2004, Micronel Safety, Inc.
found another buyer for the products and on August 16, 2004 the case was
dismissed.
On or about March 13, 2003, an action was commenced against CCS and its
subsidiary in the Circuit Court of the 11th Judicial Circuit, Miami-Dade County,
Florida captioned Welcome Publishing Company, Inc. v. CCS International, Ltd.
and Counter Spy Shop of Mayfair Ltd., Inc. seeking damages of $140,430 for an
alleged breach of an advertising contract. On January 18, 2005 this case was
settled. The terms of the settlement agreement stipulate an immediate payment of
$25,000 which was made on January 19, 2005 and five equal monthly installments
of $5,888.34 each commencing on February 19, 2005.
Pending Matters
- ---------------
CCS is the defendant in three actions arising out of distributor agreements. On
or about May 11, 2000, an action was commenced against CCS in the Supreme Court,
New York County, and captioned Ergonomic Systems Philippines Inc. v. CCS
International Ltd. The plaintiff seeks to recover $81,000, which was paid to CCS
in connection with a distributorship agreement between the parties, plus costs
and interest. CCS has denied the material allegations of the claim and has
raised affirmative defenses thereto. On August 3, 2004, the Court granted the
plaintiff's claim which, together with accrued interest, totaled $120,223. The
Company believes that it has a valid basis for appeal of the court's verdict,
but it can give no assurance the court verdict will not be upheld. At December
31, 2004, the Company had expensed the entire award of $120,223.
On or about October 12, 2001, an action was commenced against CCS in the United
States District Court for the Southern District of New York, captioned China
Bohai Group Co., Ltd. and USA International Business Connections Corp. v. CCS
International, Ltd. The plaintiff seeks to recover $250,000 paid to CCS in
connection with a distributorship agreement between the parties, plus $5,000,000
of punitive damages and costs and interest. CCS has denied the material
allegations of the plaintiff's claim and has raised affirmative defenses
thereto. CCS has asserted a counterclaim seeking damages in the approximate
amount of $1,150,000 based upon the plaintiff's alleged breach of the parties'
distributorship agreement. The Company believes that it has valid defenses to
the claim and at December 31, 2004, has made no provision for any losses on this
claim
On December 3, 2002, EHS Elektronik Sistemleri submitted a demand for
arbitration to the American Arbitration Association in New York City claiming
CCS breached a joint venture agreement it had entered into with CCS in 1994 and
seeking a refund of the $200,000 it had paid to CCS. On March 4, 2004 the
arbitrator awarded the plaintiff's claim which, together with accrued interest,
totaled $223,620. The Company believes that it has a valid basis for appeal of
the arbitrator's award, but it can give no assurance the American Arbitration
Association will not uphold the award. At December 31, 2004, the Company had
expensed the entire award of $223,620.
12
SECURITY INTELLIGENCE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2004 AND 2003
(unaudited)
Litigation - Continued:
- ----------------------
Pending Matters - Continued:
- ---------------------------
On July 1, 2002, the Company's London subsidiary, Homeland Security Strategies
(UK), Ltd. (formerly Counter Spy Shop of Mayfair Limited) ("HSS of UK"), entered
into an agreement to assume the business operations of another United Kingdom
corporation ("Predecessor") for nominal consideration. The Predecessor is a
defendant in ongoing litigation brought by a former customer, who has sued for
breach of a contract executed in 1998 and is seeking a refund of approximately
$293,000 in products and services purchased from the Predecessor. On December
20, 2004 the Court granted substantially the Plaintiff's entire claim which,
together with accrued interest, totaled $259,200. The Company, in consultation
with counsel, believes that the Predecessor has a valid basis for appeal of the
court's verdict, but it can give no assurance that the court verdict will not be
upheld. Due to the business transfer, there is a possibility that the plaintiff
could name HSS of UK as a defendant in the case. The Company, in consultation
with counsel, believes that HSS of UK has valid defenses against any action that
may be brought against it and at December 31, 2004, had made no provision for
any losses on this claim.
Because of our financial position, actions have been commenced or threatened by
creditors. As of December 31, 2004, in addition to the actions described above,
we are defending lawsuits for the collection of approximately $849,000 and have
been unable to satisfy approximately $167,000 of judgments previously rendered
in actions by creditors.
Given that litigation is subject to many uncertainties, it is not possible to
predict the outcome of the litigation pending against the Company. However, it
is possible that the Company's business, results of operations, cash flows or
financial position could be materially affected by an unfavorable outcome of
certain pending litigation in amounts in excess of those that the Company has
recognized. All such cases are being, and will continue to be vigorously
defended, and the Company believes that it has meritorious and valid defenses
against all such litigation, as well as a valid basis for appeal of any adverse
verdicts, should they result.
10. Subsequent Events
2005 Stock Incentive Plan
- -------------------------
As of February 7, 2005, our board of directors adopted the 2005 Stock
Incentive Plan, which provided for the grant of non-qualified stock options or
the issuance of stock grants for a maximum of 1,500,000 shares of common stock
to directors, employees, officers, agents, consultants and independent
contractors who perform services for the Company. As of the date of this
quarterly report on Form 10-QSB, stockholder approval of the 2005 stock plan has
not been obtained, and all options granted under the plan will be non-qualified
stock options.
13
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
GENERAL OVERVIEW.
The following discussion should be read in conjunction with the
financial statements and notes thereto of the Company for the fiscal year ended
June 30, 2004, which are included in our Annual Report on Form 10-KSB for such
fiscal year. Historical results and trends should not be taken as indicative of
future operations. Management's statements contained in this report include
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. Actual results may differ materially from those included in the
forward-looking statements. The Company intends such forward-looking statements
to be covered by the safe harbor provisions for forward-looking statements
contained in the Private Securities Litigation Reform Act of 1995, and is
including this statement for purposes of complying with those safe harbor
provisions. Forward-looking statements, which are based on certain assumptions
and describe future plans, strategies and expectations of the Company, are
generally identifiable by use of the words "believe," "expect," "intend,"
"anticipate," "estimate," "project," "prospects" or similar expressions. The
Company's ability to predict results or the actual effect of future plans or
strategies is inherently uncertain.
We are operating under a heavy financial burden as reflected in our
substantial working capital deficiency and our continuing losses and negative
cash flow from operations. We have sought to address these problems during
fiscal 2004 by closing three of our retail operations and converting two of them
to sales offices with lower operating costs, and entering into a credit
agreement with an investor group pursuant to which we had borrowed $494,000 at
December 31, 2004. We have no further availability under the credit agreement.
Our working capital deficiency has made it difficult for us to attract
new business and maintain relations with our customers and suppliers. Other than
our credit agreement and loans from our chief executive officer, our main source
of funds has been our customer deposits which we use for our operations.
If we are unable to increase our sales and pay our note holders and
other creditors, it may be necessary for us to cease business and seek
protection under the Bankruptcy Code.
During fiscal 2004, we changed the direction of our sales effort. We
substantially reduced our retail operations by closing our retail stores or
converting to them to sales offices, and we expanded our marketing efforts
directed at commercial and governmental users, particularly with respect to our
sales of our bomb jamming systems, which we did not offer during 2003, and our
cellular monitoring systems. As a result, we were able to both increase our
sales and reduce our overhead in the six months ended December 31, 2004 as
compared with the comparable period of 2003, although we continue to operate at
a loss. We do not anticipate that retail sales will account for a significant
portion of our sales on an ongoing basis.
Critical accounting policies
The Company prepares its financial statements in accordance with
accounting principles generally accepted in the United States of America.
Preparing financial statements in accordance with generally accepted accounting
principles requires the Company to make estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosure of contingent
assets and liabilities as of the date of the financial statements and the
reported amounts of revenues and expenses during the reporting period. The
following paragraphs include a discussion of some of the significant accounting
policies and methods applied to the preparation of the Company's consolidated
financial statements. See Note 1 of Notes to Consolidated Financial Statements
for further discussion of significant accounting policies.
Use of estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the combined financial statements, and the reported amounts of revenue and
expenses during the reporting periods. Actual results could differ from those
estimates.
14
Inventories
Inventories are valued at the lower of cost (first-in, first-out) or
market.
Revenue recognition
The Company recognizes revenue from sales upon the delivery of
merchandise to a customer. Non-refundable advance payments received under
marketing and distribution arrangements are deferred and either applied as
payments towards customer purchases made pursuant to the terms of the respective
agreements, or recognized as income at the termination of the agreement if
specified purchase quotas have not been met by the customer. Customer deposits
are initially recorded as liabilities and recognized as revenue when the related
goods are shipped.
Stock-based Compensation
We periodically grant stock options to employees in accordance with
the provisions of our stock option plans, with the exercise price of the stock
options being set at the closing market price of the common stock on the date of
grant. We account for stock-based compensation plans under Accounting Principles
Board Opinion No. 25, "Accounting for Stock Issued to Employees", and
accordingly account for employee stock-based compensation utilizing the
intrinsic value method. FAS No. 123, "Accounting for Stock-Based Compensation",
establishes a fair value based method of accounting for stock-based compensation
plans. We adopted the disclosure only alternative under FAS No. 123, which
requires us to disclose the proforma effects on earnings and earnings per share
as if FAS No. 123 had been adopted as well as certain other information. Stock
options granted to non-employees are recorded at their fair value, as determined
in accordance with SFAS No. 123 and Emerging Issues Task Force Consensus No.
96-18, and recognized over the related service period. Deferred charges for
options granted to non-employees are periodically re-measured until the options
vest.
In December 2002, the FASB issued SFAS No. 148, Accounting for
Stock-Based Compensation - Transition and Disclosure. SFAS No. 148 amends SFAS
No. 123, Accounting for Stock-Based Compensation. Although it does not require
use of the fair value method of accounting for stock-based employee
compensation, it does provide alternative methods of transition. It also amends
the disclosure provisions of SFAS No.123 and APB No. 28, Interim Financial
Reporting, to require disclosure in the summary of significant accounting
policies of the effects of an entity's accounting policy with respect to
stock-based employee compensation on reported net income and earnings per share
in annual and interim financial statements. SFAS No. 148's amendment of the
transition and annual disclosure requirements is effective for fiscal years
ending after December 15, 2002. The amendment of disclosure requirements of APB
No. 28 is effective for interim periods beginning after December 15, 2002. We
adopted SFAS No. 148 and APB No.28 on January 1, 2003.
Income taxes
We use the liability method to determine income tax expense. Under this
method, deferred tax assets and liabilities are computed based on differences
between financial reporting and tax basis of assets and liabilities and are
measured using the enacted rates and laws that will be in effect when the
differences are expected to reverse. Deferred tax assets are reduced by a
valuation allowance if, based on the weight of the available evidence, it is
more likely than not that all or some portion of the deferred tax assets will
not be realized. The ultimate realization of the deferred tax asset depends on
our ability to generate sufficient taxable income in the future. Because of our
losses we did not incur any income tax expense during the three or six months
ended December 31, 2004 or December 31, 2003.
Financial guarantees
Certain shares issued by the Company to settle debt obligations contain
a price guarantee that requires the Company to settle in cash any difference
between the original face amounts of the debt and proceeds from the creditor's
subsequent sale of the shares. The Company accounts for these transactions by
recording the debt at fair value with periodic mark-to-market adjustments until
the guarantee is settled. Unrealized gains or losses resulting from changes in
fair value are included in earnings and accrued expenses.
15
Fair Value of Financial Instruments
The fair values of financial instruments recorded on the balance sheet
are not significantly different from their carrying amounts due to the
short-term nature of those instruments, or because they are accounted for at
fair value.
Foreign Currency Translation
The functional currency of our United Kingdom subsidiary is the local
currency. Accordingly, we translate all assets and liabilities into U.S. dollars
at current rates. Revenues, costs, and expenses are translated at average rates
during each reporting period. Gains and losses resulting from the translation of
the consolidated financial statements are excluded from results of operations
and are reflected as a translation adjustment and a separate component of
stockholders' deficit. Translation adjustments were $11,149 as of December 31,
2004. Gains and losses resulting from foreign currency transactions are
recognized in the consolidated statement of operations in the period they occur.
RESULTS OF OPERATIONS - Three Months Ended December 31, 2004 and 2003
Revenues. Revenues for the three months ended December 31, 2004 (the "2004
Quarter") were $1,642,759 an increase of $878,083 or 114.8%, from revenues of
$764,676 for the three months ended December 31, 2003 (the "2003 Quarter").
Sales from our operations in New Rochelle, NY increased $1,245,429 or 1,447.8%
to $1,331,453 in the 2004 Quarter from $86,024 in the 2003 Quarter primarily as
a consequence of sales of our bomb jamming systems which we did not offer in the
2003 Quarter and increased revenues from our cellular monitoring systems. Our
London office also experienced an increase in sales of $55,973 or 58.1% to
$152,274 in the 2004 Quarter from of $96,301 in the 2003 Quarter. These
increases were partially offset by decreased sales from our other sales
locations. During fiscal 2004, we closed our retail stores in New York, Beverly
Hills, Miami, and Washington, DC and converted our operations in Beverly Hills,
Miami and Washington, DC from retail stores to sales offices. These closures
resulted in a decrease of $357,319 from these four locations, representing a
69.2% decline in sales to $159,032 in the 2004 quarter from $516,351 in the 2003
Quarter. Revenues from the termination of distribution agreements with non
refundable deposit balances were $66,000 in the 2003 Quarter. There was no
similar activity in the 2004 Quarter.
Cost of Sales. Cost of sales increased by $325,337, or 125.0%, to $585,691 in
the 2004 Quarter from $260,354 in the 2003 Quarter. Cost of sales as a
percentage of product sales decreased to 35.7% in the 2004 Quarter from 37.3% in
the 2003 Quarter reflecting an improvement in product mix.
Compensation and benefits. Compensation and benefits decreased by $11,495, or
2.1% to $540,918 in the 2004 Quarter from $552,413 in the 2003 Quarter primarily
due to (i) a reduction in expense in our New York retail store that we closed on
January 31, 2004 of $41,617, and (ii) decreases in our Beverly Hills and
Washington DC operations where we converted from retail stores to sales offices
and reduced these expenses by $70,319 both partially offset by an increase in
our New Rochelle operation resulting from an increase in our marketing and sales
staff.
Professional fees and legal matters. Professional fees and legal matters
decreased by $25,618, or 16.8% to $127,065 in the 2004 Quarter from $152,683 in
the 2003 Quarter. Based on a review of outstanding legal matters and unpaid
settlements, we have established, in consultation with outside counsel, reserves
for litigation costs that are probable and can be reasonable estimated. We can
provide no assurance, however, that such reserves will be sufficient to absorb
actual losses that may result from unfavorable outcomes. Moreover, it is
possible that the resolution of litigation contingencies will have a material
adverse impact on our consolidated financial condition, results of operations,
and cash flows. Because of our financial position, we are subject to claims,
which may result in litigation from our creditors. As a result we expect that we
will continue to incur attorney's fees and the use of management resources to
defend these claims and litigation.
Stock based compensation. Stock based compensation is attributable to the grant
of options and warrants to consultants and common stock which we issued to
employees in payment of accrued wages at a discount from the market price. Stock
based compensation decreased $40,893 to $15,000 in the 2004 Quarter from $55,893
in the 2003 Quarter.
Selling, general and administrative expenses. Selling, general and
administrative decreased by $7,902, or 2.3% to $332,690 in the 2004 Quarter from
$340,592 in the 2003 Quarter. The decrease was primarily due to (i) a decrease
in rent and utility expense of $48,000, or 35.3% to $87,842 in the 2004 Quarter
from $135,842 in the 2003 Quarter due to lower rents in relocated sales offices
and (ii) a decrease in advertising of $14,089, or 72.6% to $5,312 in the 2004
Quarter from $19,401 in the 2003 Quarter both partially offset by an increase in
travel and attendance at trade shows.
16
Unrealized loss (gain) on financial guarantees. Unrealized loss (gain) on
financial guarantees is attributable to the increase or decrease in market value
relating to our price guarantees on common stock which we have issued in payment
of trade payables. Unrealized loss (gain) on financial guarantees changed
$50,385 or 40.6%, to a loss of $73,696 in the 2004 Quarter from a loss of
$124,081 in the 2003 Quarter.
Depreciation and amortization. Depreciation and amortization decreased by
$77,657, or 96.1% to $3,165 in the 2004 Quarter from $80,822 in the 2003 Quarter
as a consequence of the write-off of the net book value of certain leaseholds in
the 2003 Quarter.
Interest expense. Interest expense increased by $19,028 or 81.8% to $42,291 in
the 2004 Quarter from $23,263 in the 2003 Quarter as a result of a continued
increase in the Company's interest bearing outstanding debt obligations.
As a result of the factors described above, our net loss decreased by $747,668,
or 90.6% to $77,757, $.00 per share, in the 2004 Quarter from $825,425, $.04 per
share, in the 2003 Quarter.
RESULTS OF OPERATIONS - Six Months Ended December 31, 2004 and 2003
Revenues. Revenues for the six months ended December 31, 2004 (the "2004
Period") were $2,170,077 an increase of $468,715 or 27.6%, from sales of
$1,701,362 for the six months ended December 31, 2003 (the "2003 Period"). Sales
from our operations in New Rochelle, NY increased $1,168,401 or 534.8% to
$1,386,867 in the 2004 Period from $218,466 in the 2003 Period primarily as a
consequence of sales of our bomb jamming systems which we did not offer in the
2003 Period and increased sales from our cellular monitoring systems. This
increase was partially offset by decreased sales from our other sales locations.
During fiscal 2004, we closed our retail stores in New York, Beverly Hills,
Miami, and Washington, DC and converted our operations in Beverly Hills, Miami
and Washington, DC from retail stores to sales offices. These closures resulted
in a decrease of $820,109 from these four locations, representing a 78.8%
decline in sales to $220,990 in the 2004 Period from $1,041,099 in the 2003
Period. Our London office also experienced a decrease in sales of $12,741 or
3.4% to $363,056 in the 2004 Period from of $375,797 in the 2003 Period.
Revenues from the termination of distribution agreements with non refundable
deposit balances increased $133,164, or 201.8%, to $199,164 in the 2004 Period
from $66,000 in the 2003 Period.
Cost of Sales. Cost of sales increased by $118,263 or 18.8%, to $745,987 in the
2004 Period from $627,724 in the 2003 Quarter. Cost of sales as a percentage of
product sales decreased to 37.9% in the 2004 Period from 38.4% in the 2003
Period reflecting an improvement in product mix.
Compensation and benefits. Compensation and benefits decreased by $83,610, or
7.1% to $1,091,413 in the 2004 Period from $1,175,023 in the 2003 Period
primarily due to (i) a reduction in expense in our New York retail store that we
closed on January 31, 2004 of $98,335, and (ii) decreases in our Beverly Hills
and Washington DC operations where we converted from retail stores to sales
offices and reduced these expenses by $120,751 both partially offset by an
increase in our New Rochelle operation resulting from an increase in our
marketing and sales staff.
Professional fees and legal matters. Professional fees and legal matters
decreased by $50,746, or 18.8% to $218,609 in the 2004 Period from $269,355 in
the 2003 Period. Based on a review of outstanding legal matters and unpaid
settlements, we have established, in consultation with outside counsel, reserves
for litigation costs that are probable and can be reasonable estimated. We can
provide no assurance, however, that such reserves will be sufficient to absorb
actual losses that may result from unfavorable outcomes. Moreover, it is
possible that the resolution of litigation contingencies will have a material
adverse impact on our consolidated financial condition, results of operations,
and cash flows. Because of our financial position, we are subject to claims,
which may result in litigation from our creditors. As a result we expect that we
will continue to incur attorney's fees and the use of management resources to
defend these claims and litigation.
Stock based compensation. Stock based compensation is attributable to the grant
of options and warrants to consultants and common stock which we issued to
employees in payment of accrued wages at a discount from the market price. These
items were valued at $134,957 using the Black-Scholes option-pricing model and
were expensed during the 2004 Period. Comparable expense in the 2003 Period was
$131,400.
17
Selling, general and administrative expenses. Selling, general and
administrative decreased by $68,225, or 9.0% to $686,759 in the 2004 Period from
$754,984 in the 2003 Period. The decrease was primarily due to a decrease in
rent and utility expense of $124,025, or 41.8% to $172,771 in the 2004 Period
from $296,796 in the 2003 Period due to lower rents in relocated sales offices
partially offset by an increase in travel and attendance at trade shows.
Unrealized loss (gain) on financial guarantees. Unrealized loss (gain) on
financial guarantees is attributable to the increase or decrease in market value
relating to our price guarantees on common stock which we have issued in payment
of trade payables. Unrealized loss (gain) on financial guarantees changed
$532,819 or 408.7%, to a loss of $402,460 in the 2004 Period from a gain of
$130,359 in the 2003 Period.
Depreciation and amortization. Depreciation and amortization decreased by
$87,843 or 93.3% to $6,330 in the 2004 Period from $94,173 in the 2003 Quarter
as a consequence of the write-off of the net book value of certain leaseholds in
the 2003 Period.
Debt issuance expense. Debt issuance expense is attributable to debt we incurred
during the quarter ended September 30, 2004 that is convertible into shares of
common stock at prices below the market price of our common stock on the date we
incurred the debt. The conversion feature was valued at $2,304,455 using the
Black-Scholes option-pricing model and was expensed during the 2004 Period.
There were no similar transactions in the 2003 Period.
Interest expense. Interest expense increased by $29,729 or 69.2% to $72,673 in
the 2004 Period from $42,944 in the 2003 Period as a result of a continued
increase in the Company's interest bearing outstanding debt obligations.
As a result of the factors described above, our net loss increased by
$2,229,684, or 176.4% to $3,493,566, $.16 per share, in the 2004 Period from
$1,263,882, $.07 per share, in the 2003 Period.
LIQUIDITY AND CAPITAL RESOURCES
The Company incurred net losses of $3,493,566 and $4,992,072 for the six months
ended December 31, 2004 and the fiscal year ended June 30, 2004, respectively.
At December 31, 2004 we had cash of $33,084 and a working capital deficit of
$8,351,606. During the 2004 Period, we had a negative cash flow from operations
of $782,091. Our accounts payable and accrued expenses at December 31, 2004 were
$4,682,900. As a result of our continuing losses, our working capital deficiency
has increased. We funded our losses through loans from our chief executive
officer, other officers and the issuance of notes to private investors. We also
utilized vendor credit and customer deposits.
Because we have not been able to pay our trade creditors in a timely manner, we
have been subject to litigation and threats of litigation from our trade
creditors and we have used common stock to satisfy obligations to trade
creditors. In many instances when we issue common stock CCS has agreed that if
the stock does not reach a specified price level one year from issuance, CCS
will pay the difference between that price level and the actual price. As a
result, we have contingent obligations to our some of these creditors. With
respect to 1,356,459 shares of common stock issued during fiscal 2005, 2004,
2003 and 2002, the market value of the common stock on December 31, 2004 was
approximately $564,263 less than the guaranteed price.
Our accounts payable and accrued expenses increased from $3,722,228 at June 30,
2004 to $4,682,900 at December 31, 2004 an increase of $960,672. After a
decrease in the market value of our common stock held by trade creditors of
$402,460 and the value of common stock issued to trade creditors during the 2004
Period of $50,597 our other accounts payable and accrued expenses increased by
$608,809 reflecting our inability to pay creditors currently. We also had
customer deposits and deferred revenue of $2,635,865 which relate to payments on
orders which had not been filled at that date. We have used our advance payments
to fund our operations. If our vendors do not extend us necessary credit we may
not be able to fill current or new orders, which may affect the willingness of
our clients to continue to place orders with us.
18
During the past three years we have sought, and been unsuccessful, in our
efforts to obtain adequate funding for our business. Because of our losses, we
are not able to increase our borrowing. Our bank facility terminated on November
1, 2002 and to date, we do not have any agreements with any replacement bank. In
June 2004 we entered into a convertible credit agreement with private investors
that permits us to borrow up to $500,000 upon the attainment of certain
performance criteria. At December 31, 2004 we had borrowed $494,000 and no more
funds are available under this agreement. Our obligations to these lenders
become due in June 2005. We do not presently have the resources to pay the
lenders. Unless we are either able to raise equity or debt capital, which is
unlikely based on our financial condition and history of losses which are
continuing, or the lenders extend the maturity date or convert their debt into
equity, we are unlikely to be able to pay the notes. If the lenders seek to
enforce their notes, it may be necessary for us to seek protection under the
Bankruptcy Code. Our failure to obtain financing would materially impair our
ability to continue in business, and we cannot assure you that we will be able
to obtain the necessary financing. Our main source of funds other than the
private investors has been from loans from our chief executive officer, customer
deposits and vendor credit. During fiscal 2004 we raised $813,000 resulting from
the exercise of options to buy our common stock and the sale of our common
stock. Management cannot provide any assurance that we will be able to raise any
more money through the sale of our equity securities. We may not be able to
obtain any additional funding, and, if we are not able to raise funding, we may
be unable to continue in business. Furthermore, if we are able to raise funding
in the equity markets, our stockholders might suffer significant dilution and
the issuance of securities may result in a change of control. These factors
raise substantial doubt about our ability to continue as a going concern. Our
financial statements do not include any adjustments that might result from the
outcome of these uncertainties.
Item 3. Controls and Procedures
Our chief executive officer and chief financial officer have supervised and
participated in an evaluation of the effectiveness of our disclosure controls
and procedures as and, based on their evaluations, they believe that, as of
December 31, 2004, our disclosure controls and procedures (as defined in Rule
13a-14(c) of the Securities Exchange Act of 1934, as amended) are designed to
ensure that information required to be disclosed by us in the reports that we
file or submit under the Securities Exchange Act of 1934 is recorded, processed,
summarized and reported, within the time periods specified in the Commission's
rules and forms. As a result of the evaluation, there were no significant
changes in our 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.
On or about March 13, 2003, an action was commenced against CCS and its
subsidiary in the Circuit Court of the 11th Judicial Circuit, Miami-Dade County,
Florida captioned Welcome Publishing Company, Inc. v. CCS International, Ltd.
and Counter Spy Shop of Mayfair Ltd., Inc. seeking damages of $140,430 for an
alleged breach of an advertising contract. On January 18, 2005 this case was
settled. The terms of the settlement agreement stipulate an immediate payment of
$25,000 which was made on January 19, 2005 and five equal monthly installments
of $5,888.34 each commencing on February 19, 2005.
Item 2. Unregistered Sale of Equity Securities and Use of Proceeds.
On December 9, 2004, the Company issued 87,500 shares of common stock to a
consultant in payment of $10,000 of consulting services. None of the services
provided by the Consultant involved the raising of debt or equity capital or
the market of the Company's stock.
During the six months ended December 31, 2004, the Company issued 167,473 shares
of common stock to an employee in payment of $27,000 of accrued wages.
During the six months ended December 31, 2004, the Company issued 95,000 shares
of common stock in full settlement, subject to certain terms, of $34,800 of
CCS's accrued professional fees. If the proceeds from the sale of the common
stock are less than $34,800, CCS will pay to the creditors the difference
between the $34,800 and the proceeds from the sale of the common stock. At
December 31, 2004, the market value of the 95,000 shares of common stock was
$20,900.
None of the shares issued by the Company during the six months ended
December 31, 2004, were issued in transactions involving a public offering
pursuant to Section 4(2) of the Securities Act of 1933, as amended. No
underwriting or broker was involved in the stock issuances and the
Company did not pay any compensation to any person in connection with the
stock issuances.
19
Item 6. EXHIBITS AND REPORTS OF FORM 8K
(a) Exhibits
31.1 Certificate of Chief Executive Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.2 Certificate of Chief Financial Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
32.1 Certificate of Chief Executive Officer and Chief Financial Officer
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
(b) Reports on Form 8-K
None
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
SECURITY INTELLIGENCE TECHNOLOGIES, INC.
By: /s/ Ben Jamil
-----------------------------------
Ben Jamil, chief executive officer
By: /s/ Chris R. Decker
-----------------------------------
Chris R. Decker, chief financial officer
Date: February 22, 2004