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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended: June 30, 2004
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number: 0-19301
COMMUNICATION INTELLIGENCE CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 94-2790442
------------------------------- -------------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
275 Shoreline Drive, Suite 500, Redwood Shores, CA 94065-1413
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (650) 802-7888
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
-------- --------
Number of shares outstanding of the issuer's Common Stock, as of August 11,
2004: 101,374,876.
INDEX
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements Page No.
Condensed Consolidated Balance Sheets at June 30, 2004 (unaudited) and
December 31, 2003...........................................................3
Condensed Consolidated Statements of Operations for the Three
and Six-Month Periods Ended June 30, 2004 and 2003 (unaudited)..............4
Condensed Consolidated Statements of Changes in Stockholders' Equity
for the Three and Six-Month Periods Ended June 30, 2004 (unaudited).........5
Condensed Consolidated Statements of Cash Flows for the
Six-Month Periods Ended June 30, 2004 and 2003 (unaudited)..................6
Notes to Unaudited Condensed Consolidated Financial Statements..............7
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations.............................................14
Item 3. Quantitative and Qualitative Disclosures About Market Risk........23
Item 4A. Controls and Procedures..........................................23
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.................................................23
Item 2. Change in Securities and Use of proceeds..........................24
Item 3. Defaults Upon Senior Securities...................................24
Item 4. Submission of Matters to a Vote of Security Holders...............24
Item 5. Other Information.................................................25
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits.................................................25
(b) Reports on Form 8-K......................................25
Signatures.................................................................26
-2-
Communication Intelligence Corporation
and Subsidiary
Condensed Consolidated Balance Sheets
(In thousands)
June 30, December 31,
2004 2003
----------- -------------
Unaudited
Assets
Current assets:
Cash and cash equivalents..................... $ 1,969 $ 1,039
Accounts receivable, net of allowances
of $304 and $256 atJune 30, 2004 and
December 31, 2003, respectively............... 499 742
Inventories................................... - 47
Prepaid expenses and other current assets..... 150 177
----------- -----------
Total current assets...................... 2,618 2,005
Property and equipment, net........................ 147 138
Patents and trademarks............................. 4,853 5,042
Deposits........................................... 30 30
----------- -----------
Total assets.............................. $ 7,648 $ 7,215
=========== ===========
Liabilities and Stockholders' equity
Current liabilities:
Short-term debt - related party............... $ 3,008 $ 3,008
Short-term debt - other....................... 37 750
Accounts payable.............................. 270 243
Accrued compensation.......................... 156 259
Other accrued liabilities..................... 341 475
Deferred revenue.............................. 342 165
----------- -----------
Total current liabilities................. 4,154 4,900
Long-term debt - related party..................... 8 13
Minority interest.................................. 107 115
Commitments and contingencies - -
Stockholders' equity:
Common stock.................................. 1,013 1,001
Additional paid-in capital.................... 84,216 83,528
Accumulated deficit........................... (81,675) (82,164)
Accumulated foreign currency translation
adjustment.................................... (175) (178)
----------- -----------
Total stockholders' equity................ 3,379 2,187
----------- -----------
Total liabilities and stockholders'
equity.................................... $ 7,648 $ 7,215
=========== ===========
The accompanying notes form an integral part of these Condensed Consolidated
Financial Statements
-3-
Communication Intelligence Corporation
and Subsidiary
Condensed Consolidated Statements of Operations
Unaudited
(In thousands, except per share amounts)
Three Months Ended Six Months Ended
June 30, June 30,
-------------------------------------
2004 2003 2004 2003
--------------- ---------------
Revenues:
Online/retail.......................... $ 47 $ 92 $ 88 $ 206
Corporate.............................. 468 288 2,820 955
China .............................. 115 192 151 519
------- ------- ------- -------
Total revenues................. 630 572 3,059 1,680
Operating costs and expenses:
Cost of sales:
Online/retail....................... - - - 1
Corporate........................... 4 11 11 23
China .............................. 7 111 33 331
Research and development............... 273 303 592 643
Sales and marketing .................. 305 180 637 463
General and administrative ........... 654 619 1,158 1,131
-------- ------- ------- -------
Total operating costs and expenses.. 1,243 1,224 2,431 2,592
-------- ------- ------- -------
Income (loss) from operations ......... (613) (652) 628 (912)
Other income (expense)
Interest and other income (expense),net (3) 10 6 9
Interest expense ..................... (62) (48) (145) (97)
--------- ------- -------- -------
Net Income (loss) ............ (678) (690) 489 (1,000)
========= ======== ======== =======
Basic and diluted income (loss)
per common share ...................... $(0.01) $(0.01) $ 0.01 $(0.01)
========= ======== ======== ========
Weighted average common shares
outstanding basic 100,776 97,514 100,439 94,726
======== ======== ======== ========
Weighted average common shares
outstanding diluted 100,776 97,514 100,842 94,726
======== ======== ======== ========
The accompanying notes form an integral part of these Condensed Consolidated
Financial Statements
-4-
Communication Intelligence Corporation
and Subsidiary
Consolidated Statements of Changes in Stockholders' Equity
Unaudited
(In thousands, except share amounts)
Accumulated
Additional Other
Shares Common Paid-In Accumulated Comprehensive
Outstanding Stock Capital Deficit Loss Total
Balances as of
December 31, 2003.. 100,102 $1,001 $ 83,528 $(82,164) $ (178) $ 2,187
-------------------------------------------------------------
Foreign currency
translation
adjustment....... - - - - 1 1
Net income for
the three months
ended March 31,
2004.............. - - - 1,167 - 1,167
-------------------------------------------------------------
Balances as of
March 31, 2004.... 100,102 $1,001 $ 83,528 $(80,997) $ (177) $ 3,355
-------------------------------------------------------------
Sale of Common
shares through
Cornell Capital
net of expenses.... 1,133 11 679 - - 690
Exercise of
options for
shares of Common
stock.............. 33 1 9 - - 10
Foreign currency
translation
adjustment......... - - - - 2 2
Net loss for the
three months
ended June 30,
2004............... - - - (678) - (678)
-------------------------------------------------------------
Balances as of
June 30, 2004.. 101,268 $1,013 $84,216 $(81,675) $(175) $ 3,379
==============================================================
The accompanying notes form an integral part of these Condensed Consolidated
Financial Statements
-5-
Communication Intelligence Corporation
and Subsidiary
Condensed Consolidated Statements of Cash Flows
Unaudited
(In thousands)
Six Months Ended
June 30,
-------------------------
2004 2003
--------- -----------
Cash flows from operating activities:
Net income (loss)..................................... $ 489 $ (1,000)
Adjustments to reconcile net income
(loss) to net cash provided.by/ (used for)
operating activities:
Depreciation.................................... 28 47
Patent and capitalized software amortization.... 189 190
Provision for doubtful accounts................. 48 -
Loss on disposal of fixed assets................ 3 8
Changes in operating assets and liabilities:
Accounts receivable, net..................... 195 (74)
Inventories.................................. 47 32
Prepaid expenses and other current assets.... (32) 77
Accounts payable............................. 27 27
Accrued compensation......................... (103) (19)
Other accrued liabilities.................... (146) (39)
Deferred revenue............................. 177 (86)
--------- ----------
Net cash provided by (used for)
operating activities.. 922 (837)
--------- ----------
Cash flows from investing activity:
Acquisition of property and equipment.............. (34) (36)
--------- ----------
Net cash used in investing activity............ (34) (36)
--------- ----------
Cash flows from financing activities:
Payments on long-term debt......................... (2) -
Proceeds from issuance of short-term debt.......... 37 -
Proceeds from the exercise of stock options........ 10 -
Proceeds from the issuance of common stock......... - 2,000
Offering costs..................................... - (410)
Principal payments on capital lease obligations.... (3) (4)
---------- ---------
Net cash provided by (used for)
financing activities........................... 42 1,586
---------- ---------
Effect of exchange rate changes on cash................. - -
---------- ---------
Net increase in cash and cash equivalents............... 930 713
Cash and cash equivalents at beginning of period........ 1,039 711
---------- ---------
Cash and cash equivalents at end of period..............$1,969 $ 1,424
========== =========
Supplemental Disclosure of Non Cash Financing Activities
Pay off of short-term debt through
issuance of common stock..... $ 750 $ -
---------- ---------
Offering cost related to short-debt $ 60 $ -
---------- ---------
The accompanying notes form an integral part of these Condensed Consolidated
Financial Statements
-6-
Communication Intelligence Corporation
And Subsidiary
Notes to Unaudited Condensed Consolidated Financial Statements
(In thousands, except per share amounts)
Form 10-Q
1. Interim financial statements and basis of presentation
The financial information contained herein should be read in conjunction with
the Company's consolidated audited financial statements and notes thereto
included in its Annual Report on Form 10-K for the year ended December 31, 2003.
The accompanying unaudited condensed consolidated financial statements of
Communication Intelligence Corporation and its subsidiary (the "Company" or
"CIC") have been prepared pursuant to the rules and regulations of the
Securities and Exchange Commission. Accordingly, they do not include all of the
information and footnotes required by accounting principles generally accepted
in the United States of America ("GAAP") for complete consolidated financial
statements. In the opinion of management, the unaudited condensed consolidated
financial statements included in this quarterly report reflect all adjustments
(consisting only of normal recurring adjustments) which the Company considers
necessary for a fair presentation of its financial position at the dates
presented and the Company's results of operations and cash flows for the periods
presented. The Company's interim results are not necessarily indicative of the
results to be expected for the entire year.
The Company develops and markets electronic signature software, biometric
verification software for handwritten signatures and handwritten data entry
software solutions aimed at emerging, large potential markets such as
e-commerce, workflow automation, corporate security, smart handheld devices such
as handheld computers & smartphones and the Palm OS aftermarket.
The Company's core software technologies include electronic signature, biometric
signature verification, cryptography, electronic ink recording tools
(SignatureOneTM), (InkTools(R)), (Sign-it(R)), (iSign(R)) and (Sign-On(R)),
operating systems extensions that enable pen input (PenX(TM)) and multilingual
handwriting recognition systems (Jot(R)) and the Handwriter(R) Recognition
System, referred to as HRS(TM).
Other consumer and original equipment manufacturer ("OEM") products include
electronic notetaking (QuickNotes(R) and InkSnap(R)) and predictive text input,
(WordComplete(R)). CIC's products are designed to increase the ease of use,
functionality and security of electronic devices with a primary focus on smart
handheld devices such as handheld computers and smartphones.
The Company offers a wide range of multi-platform software products that enable
or enhance pen-based computing. The Company's core technologies are classified
into two broad categories: "transaction and communication enabling technologies"
and "natural input technologies".
Transaction and communication enabling technologies have been fundamental to the
Company's development of software for electronic signatures, handwritten
biometric signature verification, data security, data compression, and
electronic ink capture. These technologies are designed to provide a
cost-effective means for securing electronic transactions, providing network and
device access control, and enabling workflow automation of traditional paper
form processing. CIC believes that these technologies offer more efficient
methods for conducting electronic transactions while providing more functional
user authentication, heightened data security, and increased user productivity.
Natural input technologies are designed to allow users to interact with handheld
devices, including PDA's and smartphones, by using an electronic pen or "stylus"
as the primary input device or in conjunction with a keyboard. CIC's natural
input offerings include multilingual handwriting recognition systems, software
keyboards, and predictive text entry technologies.
Going Concern
The accompanying condensed consolidated financial statements have been prepared
assuming that the Company will continue as a going concern. The Company has
suffered recurring losses from operations that raise a substantial doubt about
-7-
Communication Intelligence Corporation
And Subsidiary
Notes to Unaudited Condensed Consolidated Financial Statements
(In thousands, except per share amounts)
Form 10-Q
its ability to continue as a going concern. At June 30, 2004, the Company's
accumulated deficit was approximately $81,675 and has a working capital deficit
of $1,536. The Company filed a registration statement with the Securities and
Exchange Commission that was declared effective February 2003, pursuant to the
equity line of credit agreement with Cornell Capital Partners, LP ("Cornell").
However, there can be no assurance that the Company will have adequate capital
resources to fund planned operations or that additional funds will be available
to the Company when needed under the equity line of credit agreement or
otherwise, or if available, will be available on favorable terms or in amounts
required by the Company. If the Company is unable to obtain adequate capital
resources to fund operations, it may be required to delay, scale back or
eliminate some or all of its operations, which may have a material adverse
effect on the Company's business, results of operations and ability to operate
as a going concern. The accompanying condensed consolidated financial statements
do not include any adjustments that might result from the outcome of this
uncertainty.
2. Cash and cash equivalents
The Company considers all highly liquid investments with original
maturities of up to 90 days to be cash equivalents.
Cash and cash equivalents consist of the following:
June 30, December 31,
2004 2003
--------------------- -- -------------------
Cash in bank $ 148 $ 110
Money market 1,821 929
--------------------- -------------------
$ 1,969 $ 1,039
===================== ===================
3. Inventories
Inventories are stated at the lower of cost or market, cost being
determined using the first-in, first-out (FIFO) method. Inventories
consisted primarily of finished goods and are fully reserved at June 30,
2004.
4. Short-term debt - other
On April 20, 2004, the Company's 90% owned Joint Venture borrowed the
aggregate equivalent of $37, denominated in Chinese currency, from a
Chinese bank. The unsecured loan bears interest at 5.0% per annum and is
due April 20, 2005. The borrowing did not require the Joint Venture to
deposit a compensating balance. The note can be repaid at any time with out
penalty.
On December 19, 2003, the Company borrowed $750 from Cornell Capital
Partners, LP. The proceeds of the loan were used for working capital
purposes. The loan was secured by 4,621 shares of the Company's common
stock held in escrow. The promissory note was due and payable in seven
installments, commencing January 19, 2004 and ending on March 1, 2004, and
could have been paid in cash or shares of the Company's common stock. The
Company had the option to delay the commencement of the installment
payments for an unlimited number of 30 day periods upon payment of an
amount equal to 2% of the principal amount owed on or before the beginning
of the current option period. Any delay in the commencement date resulted
in an equal delay in the due date of the note.
The Company exercised its option to delay the commencement of the
installment payments by paying the 2% fee discussed above, which was $38 in
the aggregate for the six months ended June 30, 2004. The Company chose to
delay commencement of the installment payments in anticipation of an
increase in the price of the Company's stock based upon a projection of
profitable first quarter results. Under the equity line of credit, the
higher the market value of the Company's stock the fewer number of shares
are required to repay amounts drawn on the line. As of June 30, 2004, the
-8-
Communication Intelligence Corporation
And Subsidiary
Notes to Unaudited Condensed Consolidated Financial Statements
(In thousands, except per share amounts)
Form 10-Q
Company has repaid $750,000 of the loan through the issuance of 1,133
shares of common stock and, due to the delay in commencement of the due
date, it had issued approximately 21 fewer shares than it would have if it
had not exercised its option to defer the due date. The company wrote off
approximately $60 in unamortized deferred financing costs associated with
the $750 loan against equity.
5. Short-term debt - Related Party Transactions
On June 19, 2001, the Company consummated a three-year $3,000 financing
(the "Loan") with a charitable remainder annuity trust of which a former
director and officer of the Company is a trustee (the "Trust"). The
proceeds of the Loan were used to refinance $1,500 of indebtedness
outstanding to the Trust pursuant to a loan made by the Trust to the
Company in October 1999 and for working capital purposes. The Company has
received a sixty day extension to pay the $3,000 Loan to the Trust that was
due June 18, 2004. In exchange for this sixty day extension the Company
paid the Trust thirty days worth of interest ($15) calculated according to
the terms of the note. All other provisions of the Loan remain unchanged.
The Loan bears interest at the rate of 2% over the prime rate publicly
announced by Citibank N.A. from time to time, which was 6.00% per annum at
June 30, 2004, and, due to the extension granted, is due August 18, 2004.
The Loan may be pre-paid by the Company in whole or in part at any time
without penalty, subject to the right of the Trust to convert the
outstanding principal amount of the Loan into shares of common stock of the
Company at a conversion price of $2.00 per share, subject to adjustment
upon the occurrence of certain events. If, prior to maturity of the Loan,
the Company consummates one or more financings providing $5,000 or more in
gross proceeds, the Company is required to apply 50% of the proceeds in
excess of $5,000 to the then outstanding principal amount of the Loan. The
Loan is secured by a first priority security interest in and lien on all of
the Company's assets as now owned or hereafter acquired by the Company.
In the event the Company exceeds $5,000 in financing from its equity line
of credit with Cornell Capital, LP, 50% of the proceeds in excess of $5,000
would be required to be used to reduce the amount of the loan. As of June
30, 2004, the Company has borrowed $2,750 under the equity line of credit.
In connection with the Loan, the Company entered into a registration rights
agreement with the Trust which obligates the Company to file a registration
statement with the Securities and Exchange Commission covering the sale of
the shares of the Company's common stock issuable upon conversion of the
Loan if it receives a demand by the holder of the Loan to do so, and to use
its reasonable best efforts to cause such registration statement to become
effective. As of June 30, 2004, no demand had been made upon the Company to
file this registration statement.
Interest paid during the three and six months ended June 30, 2004 was $100,
and $184, respectively, and for the three and six months ended June 30,
2003, $48 and $98, respectively. Interest payments for the three and six
months ended June 30, 2004 include $84 paid to the Trust representing
interest accrued at March 31, 2004 and interest accrued through June 18,
2004 of $69, plus the $15 loan extension fee.
-9-
Communication Intelligence Corporation
And Subsidiary
Notes to Unaudited Condensed Consolidated Financial Statements
(In thousands, except per share amounts)
Form 10-Q
6. Net income (loss) per share
The Company calculates net income (loss) per share under the provisions of
Statement of Financial Accounting Standards No. 128, "Earnings Per Share"
("SFAS 128"). SFAS 128 requires the disclosure of both basic net income
(loss) per share, which is based on the weighted average number of shares
outstanding, and diluted income (loss) per share, which is based on the
weighted average number of shares and dilutive potential shares
outstanding. For the three month periods ended June 30, 2004 and 2003,
6,183 and 5,675, respectively, of shares of common stock subject to
outstanding options were excluded from the calculation of dilutive earnings
per share as the effect of these options is not dilutive.
For the six month periods ended June 30, 2004 and 2003, the computation for
basic and diluted weighted average shares outstanding is as follows:
Six Months Ended
June 30, 2004 June 30, 2003
------------------------------ -------------------------
Weighted Weighted
Average Average
Net Shares Per-Share Net Shares Per-Share
Income Outstanding Amount Loss Outstanding Amount
Basic income (loss)
per share:Income
available to $ 489 100,439 $ 0.01 $(1,000) 94,726 $ (0.01)
stockholders
Effect of dilutive
securitiesStock - 403 - - - -
options ------- --------- -------- -------- ------- --------
Diluted income
(loss) $ 489 100,842 $ 0.01 $(1,000) 94,726 $ (0.01)
======= ========= ======== ======== ======= ========
For the six months ended June 30, 2004, 5,392 shares of common stock
subject to outstanding options, , were excluded from the calculation of
dilutive earnings per share because the exercise price of such options was
greater than the average market price of the Company's common stock. For
the six months ended June 30, 2003, stock options of 5,675 were excluded
from the calculation of diluted earnings per share as the effect of these
options is not dilutive.
7. Common Stock Options
The Company has adopted Statement of Financial Accounting Standards No.
123, "Accounting for Stock-Based Compensation" ("SFAS 123") as amended by
Financial Accounting Standards Board Statement No. 148. The Company has
elected to continue to use the intrinsic value based method of Accounting
Principles Board Opinion No. 25, as allowed under SFAS 123, to account for
its employee stock-based compensation plans. No stock based employee
compensation expense is reflected in the consolidated statement of
operations as all options granted had an exercise price equal to the market
value of the Company's common stock on the date of grant. The Company
complies with the disclosure provisions of SFAS 123.
-10-
Communication Intelligence Corporation
And Subsidiary
Notes to Unaudited Condensed Consolidated Financial Statements
(In thousands, except per share amounts)
Form 10-Q
7. Common Stock Options (continued)
Had compensation cost for the Company's option plans been determined based
on the fair value of the options at the date of grant, as prescribed by
SFAS 123, the Company's net income (loss) available to common stockholders
and basic and diluted net income (loss) per share available to stockholders
would have been as follows:
Six Months Ended
-----------------------------
June 30, June 30,
2004 2003
-----------------------------
Net income (loss) available to
stockholders:
As reported.............................. $ 489 $ (1,000)
------------ ------------
Add: Stock-based employee compensation
expense included in reported results of
operations, net of related tax effect.... - -
Deduct: Total stock based employee
compensation expense determined under
fair value based method, net of tax...... (111) (190)
------------ -------------
Pro forma.......................... $ 378 $ (1,190)
============ =============
Basic and diluted net income (loss) per
share available to stockholders:
As reported............................. $ 0.01 $ (0.01)
============ =============
Pro forma............................... $ 0.01 $ (0.01)
============ =============
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option pricing model with the following weighted average
assumptions used for grants during the applicable periods:
o risk-free interest rate of 2.37% and 2.11% for 2004 and 2003;
o an expected life of 6.6 years for 2004, 6.4 years for 2003;
respectively;
o expected volatility of 100% for all periods; and
o dividend yield of 0% for all periods.
The Company expects to make additional option grants. The Company believes
the above pro forma disclosures may not be representative of the pro forma
effects on reported results of operations to be expected in future periods
due to changes in interest rates, expected lives of current and future
option grants and changes in the volatility of the price of the Company's
common stock in the market.
8. Comprehensive income (loss)
Total comprehensive income (loss) was as follows:
------------------ -----------------
Three Months Ended Six Months Ended
June 30, June 30,
-------- ------- ------- --------
2004 2003 2004 2003
-------- ------- ------- --------
Net income (loss) $ (678) $ ( 690) $ 489 $(1,000)
Other comprehensive income:
Cumulative translation adjustment 2 2 3 4
-------- -------- ------- --------
Total comprehensive income (loss) $ (676) $ (688) $ 492 $ (996)
======== ======== ======= ========
-11-
Communication Intelligence Corporation
And Subsidiary
Notes to Unaudited Condensed Consolidated Financial Statements
(In thousands, except per share amounts)
Form 10-Q
9. Segment Information
The Company identifies reportable segments by classifying revenues into two
categories: handwriting recognition and system integration. Handwriting
recognition software is an aggregate of three revenue categories;
online/retail, enterprise and original equipment manufacturers ("OEM"). All
handwriting recognition software is developed around the Company's core
technology. System integration represents the sale and installation of
third party computer equipment and systems that utilize the Company's
products. All sales represent sales to external customers.
The accounting policies followed by the segments are the same as those
described in the "Critical Accounting Policies." Segment data includes
revenues and allocated costs charged to each of the operating segments.
The table below presents information about reporting segments for the
periods indicated:
Six Months Ended June 30,
2004 2003
-------------------------------------------------------------------
Handwriting Systems Handwriting Systems
Recognition Integration Total Recognition Integration Total
----------- ----------- ------- ------------ ------------- --------
Revenues $ 3,022 $ 37 $ 3,059 $ 1,284 $ 396 $ 1,680
Income (loss)
from Operations $ 620 $ 8 $ 628 $ (888) $ (24) $ (912)
Significant
change in total
long lived assets
from year end $ - $ - $ - $ (36) $ - $ (36)
For the three months ended June 30, 2004, one customer accounted for 29% of
total handwriting recognition segment revenue. For the three months ended
June 30, 2003, no one customer accounted for more than 10% of total
handwriting recognition segment revenue. For the six months ended June 30,
2004 and 2003, one customer accounted for 66% and 36% of total handwriting
recognition segment revenue, respectively.
For the three months ended June 30, 2004 and 2003, one customer accounted
for 70% and 55% of system integration revenues, respectively. For the six
months ended June 30, 2004 and 2003, one customer accounted for 40% and 27%
of system integration revenues, respectively.
10. Commitments and contingencies
On June 7, 2004, (amended July 7, 2004) Topaz Systems, Inc. ("Topaz") filed
a complaint, against the Company, with the United States District Court
Northern District of California San Francisco Division alleging breach of
contract, breach of covenant of good faith and fair dealing and asking for
a declaratory judgment that it had not breached the September 29, 2000
License agreement between it and the Company (the "License"), that Topaz
had not infringed certain of the Company's patents and that such patents
were invalid and/or unenforceable. No monetary damages were specified. The
Company believes that the complaint is without merit and intends to
vigorously defend against the claims. On July 26, 2004, the Company
responded to the complaint and filed counterclaims against Topaz alleging
that Topaz had breached the License, had infringed certain of the Company's
patents and was engaging in unfair competition. On July, 22, 2004, Topaz
filed a complaint against the Company with the United States District Court
-12-
Communication Intelligence Corporation
And Subsidiary
Notes to Unaudited Condensed Consolidated Financial Statements
(In thousands, except per share amounts)
Form 10-Q
Central District of California Western Division requesting declaratory
judgment that it did not infringe certain of CIC's patents (not included in
the other complaint) and that such patents were invalid and/or
unenforceable. The Company believes that the complaint is without merit and
intends to vigorously defend against the claims. The ultimate outcome of
this litigation cannot presently be determined. However, in management's
opinion, the likelihood of a material adverse outcome is remote and any
liability that might be incurred would not have a material adverse effect
on the Company's financial position or its results of operations.
Accordingly, adjustments, if any, that might result from the resolution of
this matter have not been reflected in the financial statements.
11. Subsequent event: Retirement of $3 Million Debt
On August 5, 2004, CIC paid a $3 million note due August 18, 2004, to a
charitable remainder annuity trust ("the Trust") the trustee of which is
Mr. Philip Sassower, a former officer and director of the Company (See Note
5). The funds to retire the debt were obtained from Cornell Capital
Partners LP ("Cornell") pursuant to an unsecured $3.5 million promissory
note dated August 4, 2004 (the "Note"). The Note provides for a per annum
interest rate of 5% and is scheduled to be paid, in ten equal installments
with the first installment due November 29, 2004 and the last on February
7, 2005. The Company intends to pay the amounts due under the Note with
funds generated from operations, alternative financings or through a
combination of those sources. Payment of the $3 million debt released the
lien on the Company's intellectual property that has caused concern, and in
fact inhibited, certain licensing negotiations. The new debt does not
require such a lien.
-13-
Communication Intelligence Corporation
And Subsidiary
(In thousands, except per share amounts)
Form 10-Q
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
The following discussion and analysis should be read in conjunction with
the Company's unaudited condensed consolidated financial statements and notes
thereto included in Part 1, Item 1 of this quarterly report on Form 10-Q and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" set fourth in the Company's Annual report on Form 10-K for the
fiscal year ended December 31, 2003.
Overview
The Company was initially incorporated in Delaware in October 1986. In each
year since its inception, the Company has incurred losses. For the five-year
period ended December 31, 2003, operating losses aggregated approximately
$13,000 and at December 31, 2003, the Company's accumulated deficit was
approximately $82,000. At June 30, 2004, the Company's accumulative deficit was
approximately $82,000.
Total revenue of $630 for the quarter ended June 30, 2004 increased 10%
compared to revenues of $572 in the corresponding quarter of the prior year. The
first six months of 2004 was the most profitable in the history of the Company.
Total revenues of $3,059 for the six months ended June 30, 2004, increased 82%
compared to revenues of $1,680 in the corresponding six months of the prior
year. Total revenue for eSignature solutions of $2,493 for the six months ended
June 30, 2004, more than doubled compared to eSignature revenue of $ 1,059 in
the corresponding six months of the prior year, increasing 135%. This revenue
growth reflects increasing adoption of our eSignature solutions in target
markets and is primarily attributable to Wells Fargo, which chose CIC eSignature
technology for use in all of its full-service bank locations, and also revenues
from Charles Schwab, Duncan Management, IA Systems, Misys Healthcare,
PalmSource, Prudential, Saytek and TVA. The increasing focus on corporate
accountability, including a growing demand for auditable business approval
processes, is driving many enterprises to add eTransactions to their priority
deployments in 2004.
The net loss for the quarter ended June 30, 2004 was $678, on slightly
higher sales, compared with a net loss of $690 in the corresponding prior year
period. Operating expenses increased approximately 12% ($130) from $1,102 to
$1,232 for the three months ended June 30, 2004, compared to the prior year
period. The increase primarily reflects the required investment in selling
expenses to insure future revenue growth. The net income of $489 for the six
months ended June 30, 2004, represents an increase of $1,489 compared to the net
loss of $1,000 incurred in the corresponding six months of the prior year.
Key growth drivers have merged to accelerate the deployment of electronic
transactions worldwide, including both the increasing awareness and reality of
the significant benefits of the paperless environment, increasing competitive
and cost pressures on companies and government agencies, and most recently, the
emerging economic recovery increasing pent-up IT expenditures. The intuitively
obvious, non-intrusive nature of handwritten eSignatures has emerged as a key
factor in achieving the significant benefits that can be derived from secure,
signature dependent, legally binding eTransactions in the financial service
industry and is beginning to penetrate Healthcare, ePrescriptions and other
industry segments. The introduction of SignatureOne and updated Sign-it
products, in the first quarter of 2004, significantly expands CIC's market
coverage providing unique and patented technology that supports a wide range of
electronic signing methods including other biometric verification alternatives.
Deploying and maintaining the worldwide market presence and sales coverage
necessary to achieve sustained sales and earnings growth is the company's
primary challenge.
Critical Accounting Policies
The preparation of financial statements and related disclosures in
conformity with accounting principles generally accepted in the United States of
America requires management to make judgments, assumptions and estimates that
affect the amounts reported in our consolidated financial statements and the
accompanying notes. The amounts of assets and liabilities reported in our
balance sheets and the amounts of revenues and expenses reported for each period
presented are affected by these estimates and assumptions which are used for,
but not limited to, accounting for product returns, allowance for doubtful
-14-
Communication Intelligence Corporation
And Subsidiary
(In thousands, except per share amounts)
Form 10-Q
accounts, intangible asset impairments, and inventory. Actual results may differ
from these estimates. The following critical accounting policies are
significantly affected by judgments, assumptions and estimates used by our
management in the preparation of the consolidated financial statements.
Revenue is recognized when earned in accordance with applicable accounting
standards, including AICPA Statement of Position ("SOP") No. 97-2, Software
Revenue Recognition, as amended, Staff Accounting Bulletins 104 ("SAB 104") and
the interpretive guidance issued by the Securities and Exchange Commission and
EITF issue 00-21 of the FASB Emerging Issues Task Force. We recognize revenues
from sales of software products upon shipment, provided that persuasive evidence
of an arrangement exists, collection is determined to be probable and no
significant obligations remain. Revenue from service subscriptions is recognized
as costs are incurred or over the service period, which ever is longer.
In December 2003, the Securities and Exchange Commission ("SEC") issued
Staff Accounting Bulletin ("SAB") No. 104, "Revenue Recognition." The adoption
of SAB 104 did not impact the consolidated financial statements.
Revenue from software license agreements is recognized upon delivery of the
software provided that persuasive evidence of an arrangement exists, collection
is determined to be probable and no significant obligations remain. Deferred
revenue is recorded for post-contract support and is recognized as costs are
incurred or over the support period which ever is longer. Vendor specific
objective evidence of the fair value of the elements contained in these software
license agreements is based on the price determined by management having the
relevant authority when the element is not yet sold separately.
Revenue from system integration activities is recognized upon installation
provided that persuasive evidence of an arrangement exists, no significant
obligations remain and the collection of the resulting receivable is probable.
The allowance for doubtful accounts is based on our assessment of the
collectibility of specific customer accounts and an assessment of international,
political and economic risk as well as the aging of the accounts receivable. If
there is a change in actual defaults from our historical experience, our
estimates of recoverability of amounts due us could be affected and we will
adjust the allowance accordingly.
We perform intangible asset impairment analysis on a quarterly basis in
accordance with the guidance in Statement of Financial Accounting Standard No.
142, Goodwill and Other Intangible Assets ("SFAS No. 142") and Financial
Accounting Standard No. 144, Accounting for the Impairment or Disposal of Long
Lived Assets ("SFAS No. 144"). We use SFAS 144 in response to changes in
industry and market conditions that affect our patents, we then determine if an
impairment of our assets has occurred. Based on the impairment analysis of the
intangible assets, no impairment existed as of June 30, 2004.
Sources of Revenues. To date, the Company's revenues have been derived
principally from end-users, manufacturers, retailers and distributors of
computer products in North America, Europe and the Pacific Rim. The Company
performs periodic credit evaluations of its customers and does not require
collateral. The Company maintains reserves for potential credit losses.
Historically, such losses have been insignificant and within management's
expectations.
Software Development Costs. Software development costs are accounted for in
accordance with Statement of Financial Accounting Standards No. 86, "Accounting
for the Costs of Computer Software to be Sold, Leased or Otherwise Marketed"
("SFAS 86"). Under SFAS 86, capitalization of software development costs begins
upon the establishment of technological feasibility, subject to net realizable
value considerations. In the Company's case, capitalization commences upon the
completion of a working model and generally ends upon the release of the
product. The capitalized costs are amortized to cost of sales on a straight line
basis over the estimated life of the product, generally three years. As of June
30, 2004 and 2003, such costs were insignificant.
Research and Development. Research and development costs are charged to
expense as incurred.
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Communication Intelligence Corporation
And Subsidiary
(In thousands, except per share amounts)
Form 10-Q
Foreign Currency Translation. We consider the functional currency of the
Joint Venture to be the respective local currency and, accordingly, gains and
losses from the translation of the local foreign currency financial statements
are included as a component of "accumulated other comprehensive loss" in our
consolidated balance sheets. Foreign currency assets and liabilities are
translated into U.S. dollars at exchange rates prevailing at the end of the
period, except for non-monetary assets and liabilities that are translated at
historical exchange rates. Revenues and expenses are translated at the average
exchange rates in effect during each period, except for those expenses included
in balance sheet accounts, which are translated at historical exchange rates.
Net foreign currency transaction gains and losses are included as
components of "interest income and other income (expense), net" in the Company's
consolidated statements of operations. Due to the stability of the currency in
China, net foreign currency transaction gains and losses were not material for
the three and six months ended June 30, 2004 and 2003, respectively.
Net Operating Loss Carryforwards. Utilization of the Company's net
operating losses may be subject to an annual limitation due to the ownership
change limitations provided by the Internal Revenue Code of 1986 and similar
state provisions. As a result, a portion of the Company's net operating loss
carryforwards may not be available to offset future taxable income. The Company
has provided a full valuation allowance for deferred tax assets at June 30, 2004
based upon the Company's history of losses.
Segments
We report in two segments: handwriting recognition and systems integration.
Handwriting recognition includes online/retail revenues and corporate sales,
including enterprise and original equipment manufacturers ("OEM") revenues.
Handwriting recognition represents the sale of software for electronic
signatures, handwritten biometric signature verification, data security, data
compression, and electronic ink capture. It also includes the sale of natural
input technologies that are designed to allow users to interact with handheld
devices. All handwriting recognition software is developed around our core
technology. Handwriting recognition product revenues are generated through our
web site and a direct sales force to individual or enterprise end users. We also
license a version of our handwriting recognition software to OEM's. The
handwriting recognition software is included as part of the OEM's product
offering. From time to time, we are required to develop an interface (port) for
our software to run on a new customer's hardware platform or within the
customer's software operating system. The development contract revenues are
included in the handwriting recognition segment.
System integration represents the sale and installation of third party
computer equipment and systems that utilize our products. System integration
sales are derived through a direct sales force which then develops a system to
utilize our software based on the customers requirements. Systems integration
sales are accomplished solely through our Joint Venture.
-16-
Communication Intelligence Corporation
And Subsidiary
(In thousands, except per share amounts)
Form 10-Q
Results of Operations
The following table provides unaudited financial information for each of our two
segments.
Three Months Ended Six Months Ended
June 30, June 30,
2004 2003 2004 2003
--------- --------- ---------- ----------
Segment revenues:
Handwriting recognition
Online/retail $ 47 $ 92 $ 88 $ 206
Corporate 468 288 2,820 955
China 109 75 114 123
---------- --------- ---------- ----------
Total handwriting recognition $ 624 $ 455 $ 3,022 $ 1,284
Systems integration 6 117 37 396
---------- --------- ---------- ----------
Total revenues $ 630 $ 572 $ 3,059 $ 1,680
---------- --------- ---------- ----------
Cost of Sales
Handwriting recognition $ 8 $ 23 $ 15 $ 37
Systems integration 3 99 29 318
---------- --------- ---------- ----------
Total cost of sales $ 11 $ 122 $ 44 $ 355
--------- --------- ---------- ----------
Operating cost and expenses
Research and development $ 273 $ 303 $ 592 $ 643
Sales and Marketing 305 180 637 463
General and administrative 654 619 1,158 1,131
---------- --------- ---------- ----------
Total operating costs and
expenses $ 1,232 $ 1,102 $ 2,387 $ 2,237
---------- --------- ---------- ----------
Interest and other income
(expense), net $ (3) $ 10 $ 6 $ 9
Interest expense (62) (48) (145) (97)
---------- --------- ---------- ----------
Net income (loss) $ (678) $ (690) $ 489 $ (1,000)
========== ========= ========== =========
Amortization of intangible assets
Cost of sales $ - $ 4 $ - $ 7
General and administrative 94 94 189 189
---------- --------- ---------- ----------
Total amortization of
intangible assets $ 94 $ 98 $ 189 $ 196
========== ========== ========== ==========
Revenues
Handwriting recognition.
Handwriting recognition segment revenues include online/retail, corporate
and China software sales. Handwriting recognition segment revenues increased 37%
($169) and 135% ($1,738), from $455 and $1,284 to $624 and $3,022, respectively,
for the three and six months ended June 30, 2004, as compared to the same prior
year periods.
Online/retail revenues decreased 49% ($45) and 57% ($118), from $92 and
$206 to $47 and $88, for the three and six months ended June 30, 2004, as
compared to the same prior year periods. The Company expects that online/retail
sales from the internet will continue to decline as the shipments of the
PalmSource operating system embedded with the Company's Jot software increase.
The Company believes the increases in PalmSource OS shipments and the resulting
increased royalties, included in Corporate revenues, will offset the declines
experienced in online/retail internet sales.
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Communication Intelligence Corporation
And Subsidiary
(In thousands, except per share amounts)
Form 10-Q
Corporate revenues increased 63% ($180) and 195% ($1,865), from $288 and
$955 to $468 and $2,820 for the three and six months ended June 30, 2004, as
compared to the same prior year periods.
OEM and channel partner sales included in corporate revenues, increased 88%
($120) and 196% ($354), from $137 and $181 to $257 and $535, for the three and
six months ended June 30, 2004, as compared to the same prior year periods. The
increase in OEM and channel partner sales for the three and six months ended
June 30, 2004, is due primarily to increased royalties from the shipment by
PalmSource of its operating system containing the Company' Jot software. The
Company expects channel partner and OEM sales to increase in the future as new
channel partners and OEM customers are identified and new agreements are signed.
eSignature included in corporate sales increased 42% ($62) and 196% ($1,511),
from $149 and $774 to $211 and $2,285, for the three and six months ended June
30, 2004, as compared to the same prior year periods. The increase in sales for
the three months ended June 30, 2004 was due primarily to an increase in the
number of sales to individual customers and not dependent on any one customer
sale. The increase in sales for the six months ended June 30, 2004 was due
primarily to the sale of the Company's eSignature products to Wells Fargo Bank
in the first quarter ended March 31, 2004. The Company believes that the sales
of smaller pilot deployments to customers, of its products, will lead to greater
sales in future periods as the customers roll out their applications on a wider
scale. The Company believes that corporate eSignature revenues will increase in
the near term as the customers begin their roll out and corporate IT spending
increases as the economy strengthens. However the timing of customer product
roll out is difficult to project due to many factors beyond the Company's
control. The Company views eSignature as a high potential revenue market and
intends to continue to place increasing focus on this market.
Software sales in China increased 45% ($34), from $75 to $109, for the
three months ended June 30, 2004, as compared to the same prior year period.
This increase reflects the increases revenue generation through the Company's
channel strategy, which began in May of 2003. The Company's channel strategy is
aimed at achieving accelerated and sustained sales growth by leveraging channel
partners to gain China-wide market coverage. The channel strategy involves
training the partners' sales forces and CIC China's engineering efforts to embed
CIC eSignature software into the partners' total application solutions. For the
six months ended June 30, 2004, software sales in China declined 7% ($9)
compared to the same prior year period. The Company believes that the channel
partner strategy will deliver increasing and sustained sales growth through the
third quarter of 2004 and beyond. As of June, 2004, CIC China has approximately
$104 of channel partner related backlog which is forecasted to be recognized in
the third quarter of 2004.
Systems Integration.
System integration segment revenue declined 95% ($111) and 91% ($359), from
$117 and $396 to $6 and $37, for the three and six months ended June 30, 2004,
as compared to the same prior year periods. Over the prior two years, CIC China
has emerged as the leading supplier in Jiangsu Province to a fast-growing mobile
industry application for regulated goods, with an estimated 70% market share.
However the decision not to expand this business to other provinces, which would
require significant increases in base costs to provide turn-key capabilities,
but rather to focus on the emerging high potential eSignature/office automation
market in China, leveraging channel partners capabilities resulted in the
decline in system integration revenue. System integration revenues are expected
to continue to be below the prior year amounts in future quarters.
Cost of Sales
Handwriting recognition.
Handwriting recognition segment cost of sales includes online/retail,
corporate and China software sales costs. Such costs are comprised of royalty
and import tax payments, third party hardware costs, direct mail costs,
engineering direct costs and amortization of intangible assets excluding
patents. Cost of sales for the handwriting recognition segment decreased 65%
-18-
Communication Intelligence Corporation
And Subsidiary
(In thousands, except per share amounts)
Form 10-Q
($15) and 59% ($22), from $23 and $37 to $8 and $15, for the three and six
months ended June 30, 2004, as compared to the same prior year periods. The
decline is primarily due to the sale of less third party hardware along with the
Company's software products. Cost of sales may increase in the future depending
on the customers decision to purchase from the Company its software solution and
third party hardware as a complete package rather than buying individual
components from separate vendors.
Online/retail cost of sales remained flat during the three and six month
periods ended June 30, 2004 compared to the prior year period. The Company does
not anticipate a material increase is costs associated with the online/retail
sales.
Enterprise and OEM cost of sales decreased 64% ($7) and 52% ($12), from $11
and $23, to $4 and $11, for the three and six months ended June 30, 2004, as
compared to the same prior year periods. The decrease was due to the lower
volume of third party hardware sales and engineering development costs over the
comparable three month period of the prior year. Any increases in corporate cost
of sales in the future will be driven by the amount of third party hardware that
is sold with the Company's software solutions.
China handwriting recognition segment cost decreased 67% ($8) and 69% ($9)
during the three and six month periods ended June 30, 2004 compared to the prior
year period. The decrease is due to less third party hardware sold with the
Company's software products during the quarter and six months ended June 30,
2004. It is expected that cost of sales will remain low for the foreseeable
future as the current trend has been in the sale of software solutions through
channel partners with little third party hardware costs.
Systems Integration.
China Systems integration segment cost of sales decreased 97% ($96) and 91%
($289), from $99 and $318, to $3 and $29 for the three and six month period
ended June30, 2004, as compared to the same prior year periods. The decrease in
costs was due primarily to the reduction in sales during the three and six month
periods ended June 30, 2004 compared to the prior year periods. The Company
expects that system integration cost of sales will decrease over time as the
Company continues to increase its focus on the emerging high potential
eSignature/office automation market in China.
Operating expenses
Research and development expenses. Research and development expenses
decreased 10% ($30) and 8% ($51), from $303 and $643 to $273 and $592, for the
three and six months ended June 30, 2004, as compared to the same prior year
periods. Engineering expenses consist primarily of salaries and related costs,
outside engineering, maintenance items, and allocated facilities expenses. These
expenses are offset by the capitalization of software development costs and
direct costs associated with nonrecurring engineering contracts charged to cost
of sales. Salaries and related expenses increased 8% ($16) and 3% ($11), for the
three and six months ended June 30, 2004, as compared to the same prior year
periods. The increase is due primarily to the salary increases for the
engineering staff on US side. Other engineering administrative costs including
allocated facilities expenses declined 87% ($46) and 58% ($62), during the three
months and six months ended June 30, 2004, as compared to the same prior year
period. The reduction in other cost occurred primarily in the Joint venture in
China due to the curtailment of the SI segment. Currently the Company does not
anticipate reductions in personnel nor does it anticipate an increase in
personnel as the Company maintains its relationship with an outside engineering
group familiar with its products and, if required, can engage them on an as
needed basis to fill future engineering requirements. In addition the Company
draws on the engineering capabilities of the Joint Venture as required. This
reliance on the Joint Venture and outside parties allows the Company to maintain
lower base costs and to increase engineering cost on a temporary basis in
response to specific revenue opportunities.
Sales and marketing expenses. Sales and marketing expenses increased 69%
($125) and 38% ($174), from $180 and $463 to $305 and $637, for the three and
six months ended June 30, 2004, as compared to the same prior year periods.
Sales and marketing expenses consist of salaries, commissions and related
expenses, professional services, advertising and promotion, general office and
allocated facilities expenses. Salaries and related expenses increased 128%
($83) and 39% ($73), for the three and six month periods ended June 30, 2004,
compared to the prior year periods. The increase is salaries and related expense
is primarily due to the increase in the headcount in the Sales department after
the second quarter of 2003. Recruiting expense increased 100% ($14) and 100%
($34) in both the three and six months ended June 30, 2004, as compared to no
-19-
Communication Intelligence Corporation
And Subsidiary
(In thousands, except per share amounts)
Form 10-Q
recruiting expense in the same prior year periods. The increase is due to the
hiring of one sales person of executive level in the second fiscal quarter of
2004. Commissions expense increased 8% ($1) and 198% ($85) in the three and six
months ended June 30, 2004, as compared to the same prior year periods. The
increase in commission expense in comparable periods is due to the increase in
revenues. Other expenses including facilities and other office related expenses
increased 26% ($27) for the three months ended June 30, 2004 and decreased 8%
($18) in the six months ended June 30, 2004, as compared to the same prior year
periods. These increases in other expenses were realized in both the US and
China operations and were primarily related to travel expenses, depreciation and
allocated facility costs. The Company expects these costs may increase at such
time in the future as the sales force is expanded to respond to increasing
revenue opportunities. The Company believes that the current cost structure can
support significantly higher revenue without significant increases in base
costs.
General and Administrative Expenses. General and administrative expenses
increased 6% ($35) and 2% (27), from $619 and $1,131 to $654 and $1,158, for the
three and six months ended June 30, 2004, as compared to the same prior year
periods. General and administrative expense consists of salaries, professional
fees, investor relations expenses, patent amortization and office and allocated
facilities costs. Salaries and wages increased 4% ($7) and 1% ($5), for the
three and six month periods ended June 30, 2004, compared to the same prior year
periods. These increases are due primarily to salary increases. Professional
service expenses which include consulting, legal and outside accounting fees
decreased 3% ($4) and 16% ($41) for the three and six months ended June 30, 2004
as compared to the same prior year periods. The decrease was primarily due to
lower legal and accounting fees associated with the Company's 2003 annual report
during the three months and six months ended June 30, 2004, as compared to the
same prior year periods. The Company anticipates that legal fees may increase in
future quarters due to pending contract litigation. Bad debt expenses increased
467% ($28), for the three and six months periods ended June 30, 2004, as
compared to the same prior year period. The increase in bad debt expense was
primarily due to provisions made to cover the aged receivable of the CIC Joint
Venture in China. The Company believes that its accounts receivable are
adequately reserved at June 30, 2004 and does not anticipate further provisions
in the future. Other administrative expenses increased 1% ($4) and 7% ($35), for
the three and six months ended June 30, 2004, as compared to the same prior year
periods. The increases are primarily due to an increase in shareholder related
expenses compared to the prior year periods. The Company believes that these
increase, recorded in the first quarter, will not continue into subsequent
quarters.
Interest and other income (expense), net
Interest and other income (expense), net decreased $13 and $3 for the three
and six months ended June 30, 2004, compared to the same prior year period. The
decrease was due to the change in minority interest resulting from an operating
profit by the Company's Joint Venture during the three months and an operating
loss for the six months ended June 30, 2004.
Interest expense
Interest expense increased 29% ($14) and 49% ($48), to $62 and $145 from
$48 to $97 for the three and six months ended June 30, 2004 compared to the same
prior year period. The increase in interest expense for the three months ended
June 30, 2004 is due to the fee paid to extend the $3,000 Loan until August 18,
2004. The increase in interest expense over the six months ended June 30, 2004
was primarily due to interest paid to Cornell Capital Partners, LC during the
first quarter ($38) associated with the $750 in short-term debt (See Note 4 of
the condensed consolidated financial statements).
Liquidity and Capital Resources
At June 30, 2004, cash and cash equivalents totaled $1,969 compared to cash
and cash equivalents of $1,039 at December 31, 2003. The increase in cash was
primarily due to cash provided by operating activities of $922, offset by the
-20-
Communication Intelligence Corporation
And Subsidiary
(In thousands, except per share amounts)
Form 10-Q
acquisition of property and equipment amounting to $34, and payments of long
term debt, $2, and capital lease obligations of $3. Total current assets were
$2,618 at June 30, 2004, compared to $2,005 at December 31, 2003. As of June 30,
2004, the Company's principal sources of funds included its cash and cash
equivalents aggregating $1,969, its accounts receivable and the Equity Line of
Credit through Cornell Capital Partners LP.
Accounts receivable decreased $195, net of $48 provided for potentially
uncollectable accounts, for the six months ended June 30, 2004 compared to
December 31, 2003, due primarily to the collections during the period. The
Company expects the development of the eSignature market will result in more
consistent revenue on a quarter to quarter basis and therefore, less fluctuation
in accounts receivable from quarter to quarter. For the six months ended June
30, 2004, one customer accounted for 31% of net accounts receivable.
Prepaid expenses and other current assets increased by $32 for the six
months ended June 30, 2004, compared to December 31, 2003. The increase is due
to the increase in prepaid D&O insurance premiums, to be charged to expense over
the subsequent twelve months, offset by the non cash reduction of approximately
$60 in prepaid financing costs associated with the $750 advanced against the
equity line of credit. Prepaid expenses generally fluctuate due to the timing of
annual insurance premiums and maintenance and support fees which are prepaid in
December and June of each year.
During the three months ended June 30, 2004, the Company received a sixty
day extension to pay the $3,000 note that was due June 18, 2004, to the
charitable remainder annuity trust of which a former director and officer of the
Company is a trustee (the "Trust"). In exchange for this sixty day extension the
Company paid the Trust thirty days worth of interest ($15) calculated according
to the terms of the note. All other provisions of the note remained unchanged.
On August 5, 2004, the Company paid all amounts due under the Loan with
proceeded from a loan from Cornell Capital Partners LP. The Company is currently
investigating and considering various methods to pay off the Cornel Capital
Partner's loan. Alternatives being considered include: paying the loan from cash
generated by operations, refinancing the loan with a different lender either as
straight debt or as convertible debt, refinancing the loan with a different
lender with terms that allow the Company, at its option, to repay the loan
through issuance of stock or with available cash, and of course, if necessary,
the Company's existing Equity Line of Credit could be used to pay the loan. Any
of the preceding alternatives may be used individually or in combination with
any other stated alternative. The Company continues to investigate various
methods of payment and other alternatives may become available which the Company
may determine are preferable to the above.
On April 20, 2004, the Joint Venture borrowed the aggregate equivalent of
$37, denominated in Chinese currency, from a Chinese bank. The proceeds of the
loan are to be used for working capital purposes until the channel sales
strategy is fully implemented and sales increase. The loan bears interest at
5.0% per annum and is due April 20, 2005. The borrowing did not require the
Joint Venture to deposit a compensating balance. The note can be repaid at any
time with out penalty.
During the three months ended June 30, 2004, the Company repaid $750 to
Cornell Capital Partners, LP through the issuance of approximately 1,133 shares
of its common stock. The Company may use the Equity line of Credit with Cornell
Capital Partners, LP in the future, until February 12, 2005 when the Equity Line
of Credit expires on its own terms, for working capital or other purposes.
Accounts payable decreased $27 for the six months ended June 30, 2004,
compared to December 31, 2003, due to fewer materials purchased and used by the
Joint Venture in cost of sales. Accounts payable balances typically increase in
the second and fourth quarters when the insurance and annual maintenance and
support fees are incurred. Materials used in cost of sales may impact accounts
payable depending on the amount of third party hardware sold as part of the
software solution. Accrued compensation decreased $103 due to the payment in the
second quarter ended June 30, 2004 of commissions accrued in the first quarter
and the early funding of the Company's July 5, 2004 payroll through its outside
service.
Current liabilities, which include deferred revenue, were $4,154 at June
30, 2004 compared to $4,900 at December 31, 2003. Deferred revenue, was $342 at
June 30, 2004, compared to $165 at December 31, 2003. This increase primarily
reflects advance payments for products and maintenance fees from the Company's
-21-
Communication Intelligence Corporation
And Subsidiary
(In thousands, except per share amounts)
Form 10-Q
licensees, which are generally recognized as revenue by the Company when all
obligations are met or over the term of the maintenance agreement.
The Company has suffered recurring losses from operations that raise a
substantial doubt about its ability to continue as a going concern. The
Company's accumulated deficit remained at approximately $82,000 at June 30, 2004
compared to approximately $82,000 at December 31, 2003. There can be no
assurance that the Company will continue to reduce the accumulated deficit or
have adequate capital resources to fund planned operations or that any
additional funds will be available to it when needed, or if available, will be
available on favorable terms or in amounts required by it. If the Company is
unable to obtain adequate capital resources to fund operations, it may be
required to delay, scale back or eliminate some or all of its operations, which
may have a material adverse effect on its business, results of operations and
ability to operate as a going concern. The financial statements do not include
any adjustments that might result from the outcome of this uncertainty.
CIC believes the proceeds from the Equity Line of Credit, and or other
potential sources of financing, when combined with cash provided from
operations, will be sufficient to meet its capital requirements for the
foreseeable future. If the Company is unable to secure sufficient funds through
financing, or is unable to sustain the increase in funds generated from
operations, the Company may not be able to continue its operations in their
current form and may not be a viable company on a going forward basis without
significant changes in its operations. Since February 2002, the Company has
raised, net of costs and expenses, approximately $2,300 from the Equity Line of
Credit. The Company believes it will be able to raise the necessary funds under
the Equity Line of Credit, through February 2005, and or other alternate
financing, and from operations. The Company has not formulated specific plans to
change its operations. Possible changes could include reduced personnel expenses
to better match its revenue streams.
We have the following material commitments as of June 30, 2004:
Payments due by periods
- -------------------------- -------------------------------------------------
Less One to Four to After
than three five five
Contractual obligations Total one year years years years
- -------------------------- ----- --------- -------- -------- --------
Short-term debt related
party (1) $ 3,008 $ 3,008 $ - $ - $ -
Short-term debt, other 37 37
Long-term debt 8 8 - -
Capital Lease Obligations 25 25 - - -
Operating lease commitments (2) 975 419 556 - -
-------- -------- ------- ------ ------
Total contractual cash
obligations $ 4,053 $ 3,489 $ 564 $ - $ -
======== ======== ======== ====== =======
1. The $3,000 Short-term debt related party was paid on August 5, 2004, and
replaced by a new note (See Note 11).
2. The operating lease commenced on November 1, 2001. The cost of the lease
will increase approximately 3% per annum over the term of the lease, which
expires on October 31, 2006.
Forward Looking Statements
Certain statements contained in this quarterly report on Form 10-Q,
including without limitation, statements containing the words "believes",
"anticipates", "hopes", "intends", "expects", and other words of similar import,
constitute "forward looking" statements within the meaning of the Private
Securities Litigation Reform Act of 1995. Such statements involve known and
unknown risks, uncertainties and other factors which may cause actual events to
differ materially from expectations. Such factors include those set forth in the
Company's Annual Report on Form 10-K for the year ended December 31, 2003 and
delineated as follows:
o Technological, engineering, manufacturing, quality control or other
circumstances which could delay the sale or shipment of products;
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Communication Intelligence Corporation
And Subsidiary
(In thousands, except per share amounts)
Form 10-Q
o Economic, business, market and competitive conditions in the software
industry and technological innovations which could affect the Company's
business;
o The Company's inability to protect its trade secrets or other proprietary
rights, operate without infringing upon the proprietary rights of others
and prevent others from infringing on the proprietary rights of the
Company; and
o General economic and business conditions and the availability of sufficient
financing.
The Company undertakes no obligation to publicly update or revise any
forward-looking statements, as a result of new information, future events or
otherwise.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Interest Rate Risk
The Company has an investment portfolio of fixed income securities that are
classified as cash equivalents. These securities, like all fixed income
instruments, are subject to interest rate risk and will fall in value if the
market interest rates increase. The Company attempts to limit this exposure by
investing primarily in short term securities. The Company did not enter into any
short-term security investments during the three and six months ended June 30,
2004.
Foreign Currency Risk
From time to time, the Company makes certain capital equipment or other
purchases denominated in foreign currencies. As a result, the Company's cash
flows and earnings are exposed to fluctuations in interest rates and foreign
currency exchange rates. The Company attempts to limit these exposures through
operational strategies and generally has not hedged currency exposures.
Future Results and Stock Price Risk
The Company's stock price may be subject to significant volatility. The
public stock markets have experienced significant volatility in stock prices in
recent years. The stock prices of technology companies have experienced
particularly high volatility, including, at times, severe price changes that are
unrelated or disproportionate to the operating performance of such companies.
The trading price of the Company's common stock could be subject to wide
fluctuations in response to, among other factors, quarter-to-quarter variations
in operating results, announcements of technological innovations or new products
by the Company or its competitors, announcements of new strategic relationships
by the Company or its competitors, general conditions in the computer industry
or the global economy in general, or market volatility unrelated to the
Company's business and operating results.
Item 4A. Controls and Procedures
Under the supervision and with the participation of the Company's
management, including the Company's Chief Executive Officer and Chief Financial
Officer, the Company has evaluated the effectiveness of the design and operation
of its disclosure controls and procedures pursuant to Exchange Act Rule 13a-15
within 90 days of the filing date of this quarterly report. Based on that
evaluation, the Chief Executive Officer and Chief Financial Officer have
concluded that these disclosure controls and procedures are effective. There
were no significant changes in the Company's internal controls or in other
factors that could significantly affect internal controls subsequent to the date
of their evaluation.
Part II-Other Information
Item 1. Legal Proceedings
On June 7, 2004, (amended July 7, 2004) Topaz Systems, Inc. ("Topaz") filed
a complaint, against the Company, with the United States District Court Northern
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Communication Intelligence Corporation
And Subsidiary
(In thousands, except per share amounts)
Form 10-Q
District of California San Francisco Division alleging breach of contract,
breach of covenant of good faith and fair dealing and asking for a declaratory
judgment that it had not breached the September 29, 2000 License agreement
between it and the Company (the "License"), that Topaz had not infringed certain
of the Company's patents and that such patents were invalid and/or
unenforceable. No monetary damages were specified. The Company believes that the
complaint is without merit and intends to vigorously defend against the claims.
On July 26, 2004, the Company responded to the complaint and filed counterclaims
against Topaz alleging that Topaz had breached the License, had infringed
certain of the Company's patents and was engaging in unfair competition. On
July, 22, 2004, Topaz filed a complaint against the Company with the United
States District Court Central District of California Western Division requesting
declaratory judgment that it did not infringe certain of the Company's patents
(not included in the other complaint) and that such patents were invalid and/or
unenforceable. The Company believes that the complaint is without merit and
intends to vigorously defend against the claims. The ultimate outcome of this
litigation cannot presently be determined. However, in management's opinion, the
likelihood of a material adverse outcome is remote and any liability that might
be incurred would not have a material adverse effect on the Company's financial
position or its results of operations. Accordingly, adjustments, if any, that
might result from the resolution of this matter have not been reflected in the
financial statements.
Item 2. Change in Securities and Use of Proceeds
None
Item 3. Defaults Upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
The Company held its Annual Meeting of Stockholders on June 21, 2004. The
number of shares of common stock with voting rights as of the record date
represented at the meeting either in person or by proxy was 100,205 shares or
99.7% of the eligible outstanding Common Stock of the Company. two proposals
were voted upon by the stockholders. The proposals and the voting results
follow:
Proposal 1
Each of the five persons listed below were elected as directors to serve
until the next Annual Meeting or until his successor is elected or appointed.
The number of votes for and withheld for each individual is listed next to his
name.
Broker
--------------------------
Name For Withheld Non-votes Abstain
- ------------------- ------------------ ------------- ----------- -------------
Guido DiGregorio 99,867 338 - -
Michael Farese 99,905 300 - -
Louis P. Panetta 99,904 301 - -
C. B. Sung 98,904 1,301 - -
David E. Welch 99,914 291 - -
Proposal 2
To ratify the appointment of Stonefield Josephson, Inc. as independent
accountants of the Company for the fiscal year ending December 31, 2004. The
number of votes for, against and abstaining on this proposal was as follows:
Broker
---------------------------
For Against Abstain Non-votes Abstain
----------- ------------ -------------- ------------ -------------
- -
All Classes 100,018 97 90 - -
-24-
Communication Intelligence Corporation
And Subsidiary
(In thousands, except per share amounts)
Form 10-Q
Item 5. Other Information
None
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
EXHIBIT 31 - Certification of Chief Executive Officer and Chief
Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of
2002.
EXHIBIT 32 - Certification of Chief Executive Officer and Chief
Financial Officer pursuant to Section 18 USC Section 1750, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
(b) Reports on Form 8-K
1.Current Report on Form 8-K, Items 12 and 7, dated April 22, 2004, with
respect to the Company's first quarter 2004 financial results.
2.Current Report on Form 8-K, Item 5, dated June 16, 2004, with respect
to a sixty day extension to pay a $3 million note due June 18, 2004.
-25-
Communication Intelligence Corporation
And Subsidiary
(In thousands, except per share amounts)
Form 10-Q
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.
COMMUNICATION INTELLIGENCE CORPORATION
----------------------------------------------
Registrant
August 11, 2004 /s/ Francis V. Dane
- ------------------------- ----------------------------------------------
Date Francis V. Dane
(Principal Financial Officer and Officer Duly
uthorized to Sign on Behalf of the Registrant)
-26-