UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For Quarter Ended June 30, 2003
Commission File Number 0-21177
NETSMART TECHNOLOGIES, INC.
(Exact name of registrant as specified in its charter)
Delaware 13-3680154
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
146 Nassau Avenue, Islip, NY 11751
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (631) 968-2000
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__
--
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes __ No X
--
Number of shares of common stock outstanding as of July 23, 2003: 4,218,298
=========
Netsmart Technologies, Inc. and Subsidiary
Index
Part I: - Financial Information:
Item 1. Financial Statements: Page
----
Condensed Consolidated Balance Sheets - June 30, 2003 (Unaudited)
and December 31, 2002 1-2
Condensed Consolidated Statements of Income - (Unaudited)
Six Months Ended June 30, 2003 and June 30, 2002 and Three
Months Ended June 30, 2003 and 2002 3
Condensed Consolidated Statements of Cash Flows - (Unaudited)
Six Months Ended June 30, 2003 and June 30, 2002 4-5
Condensed Consolidated Statement of Stockholders' Equity - (Unaudited)
Six Months Ended June 30, 2003 6-7
Notes to Condensed Consolidated Financial Statements 8-13
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 14-21
Item 3. Quantitative and Qualitative Disclosures About Market Risk 21
Item 4. Controls and Procedures 22
Part II Other Information
Item 6. Exhibits and Reports on Form 8-K 22
NETSMART TECHNOLOGIES, INC. AND SUBSIDIARY
- --------------------------------------------------------------------------------
CONDENSED CONSOLIDATED BALANCE SHEETS
- --------------------------------------------------------------------------------
June 30, December 31,
------- -----------
2003 2002
---- ----
Unaudited
---------
Assets:
Current Assets:
Cash and Cash Equivalents $ 9,013,653 $ 7,251,740
Accounts Receivable - Net 6,615,513 7,058,855
Costs and Estimated Profits in Excess
of Interim Billings 2,863,084 3,857,522
Deferred taxes 510,000 459,000
Other Current Assets 379,541 337,719
----------- ----------
Total Current Assets 19,381,791 18,964,836
----------- ----------
Property and Equipment - Net 643,083 364,306
----------- ----------
Other Assets:
Software Development Costs - Net 1,123,751 382,387
Customer Lists - Net 3,001,348 2,141,855
Deferred taxes less current portion 490,000 441,000
Other Assets 238,908 121,419
----------- ---------
Total Other Assets 4,854,007 3,086,661
----------- ---------
Total Assets $24,878,881 $22,415,803
=========== ===========
See Notes to Condensed Consolidated Financial Statements.
1
NETSMART TECHNOLOGIES, INC. AND SUBSIDIARY
- --------------------------------------------------------------------------------
CONDENSED CONSOLIDATED BALANCE SHEETS
- --------------------------------------------------------------------------------
June 30, December 31,
------- -----------
2003 2002
---- ----
Unaudited
---------
Liabilities and Stockholders' Equity:
Current Liabilities:
Current Portion - Long Term Debt $ 666,667 $ 500,000
Current Portion Capital Lease Obligations 64,206 9,886
Accounts Payable 600,422 1,166,145
Accrued Expenses 1,419,353 1,063,559
Interim Billings in Excess of Costs
and Estimated Profits 7,276,886 5,914,970
Deferred Revenue 520,007 1,095,412
---------- ----------
Total Current Liabilities 10,547,541 9,749,972
---------- ----------
Capital Lease Obligations - Less current portion 116,346 1,864
Long Term Debt - Less current portion 1,333,349 1,250,012
Interest Rate Swap at Fair Value 91,783 107,713
---------- ----------
Total Non Current Liabilities 1,541,478 1,359,589
---------- ----------
Commitments and Contingencies
Stockholders' Equity:
Preferred Stock - $.01 Par Value,
3,000,000 Shares Authorized;
None issued and outstanding -- --
Common Stock - $.01 Par Value; Authorized
15,000,000 Shares; Issued 4,277,933
shares at June 30, 2003 and 4,046,430
at December 31, 2002 42,779 40,464
Additional Paid in Capital 22,170,409 21,411,777
Unearned Compensation -- (14,400)
Accumulated Comprehensive loss - Interest
Rate Swap (91,783) (107,713)
Accumulated Deficit (8,583,262) (9,375,774)
---------- ----------
13,538,143 11,954,354
Less: cost of shares of Common Stock held
in treasury - 112,539 shares at June 30, 2003
and 89,797 at December 31, 2002 748,281 648,112
---------- ---------
Total Stockholders' Equity 12,789,862 11,306,242
---------- ----------
Total Liabilities and Stockholders' Equity $24,878,881 $22,415,803
========== ==========
See Notes to Condensed Consolidated Financial Statements.
2
NETSMART TECHNOLOGIES, INC. AND SUBSIDIARIES
- --------------------------------------------------------------------------------
CONDENSED CONSOLIDATED STATEMENTS OF INCOME - (Unaudited)
- --------------------------------------------------------------------------------
Six months ended Three months ended
June 30, June 30,
---------------------- ----------------------
2003 2002 2003 2002
---- ---- ---- ----
Revenues:
Software and Related
Systems and Services:
General $ 8,261,681 $ 6,299,687 $ 4,314,720 $ 3,447,798
Maintenance Contract
Services 3,487,205 3,022,288 1,773,651 1,513,798
----------- ----------- ----------- -----------
Total Software and Related
Systems and Services 11,748,886 9,321,975 6,088,371 4,961,596
Data Center Services 959,303 955,395 500,765 485,702
----------- ----------- ----------- -----------
Total Revenues 12,708,189 10,277,370 6,589,136 5,447,298
----------- ----------- ----------- -----------
Cost of Revenues:
Software and Related
Systems and Services:
General 5,332,140 4,450,324 2,780,532 2,441,743
Maintenance Contract
Services 1,739,901 1,771,212 873,775 896,137
----------- ----------- ----------- -----------
Total Software and Related
Systems and Services 7,072,041 6,221,536 3,654,307 3,337,880
Data Center Services 531,676 526,945 265,464 266,012
----------- ----------- ----------- -----------
Total Cost of Revenues 7,603,717 6,748,481 3,919,771 3,603,892
----------- ----------- ----------- -----------
Gross Profit 5,104,472 3,528,889 2,669,365 1,843,406
----------- ----------- ----------- -----------
Selling, General and
Administrative Expenses 3,279,724 2,484,522 1,689,141 1,281,327
Research and Development 943,027 684,460 432,590 355,531
----------- ----------- ----------- ----------
Total 4,222,751 3,168,982 2,121,731 1,636,858
----------- ----------- ----------- ----------
Income from Operations before Interest 881,721 359,907 547,634 206,548
Interest Income 30,628 20,453 18,325 11,274
Interest and Other Expense 101,837 108,661 59,632 57,287
----------- ----------- ----------- ---------
Income before Income Tax Expense (Benefit) 810,512 271,699 506,327 160,535
Income Tax Expense (Benefit) 18,000 26,000 (15,000) 18,000
----------- ----------- ----------- ---------
Net Income $ 792,512 $ 245,699 $ 521,327 $ 142,535
=========== =========== =========== =========
Earnings Per Share of Common Stock:
Basic:
Net Income $ .20 $ .07 $ .13 $ .04
=========== =========== =========== ===========
Weighted Average Number of Shares of
Common Stock Outstanding 4,008,390 3,695,923 4,077,399 3,696,709
=========== =========== =========== ===========
Diluted:
Net Income $ .18 $ .06 $ .12 $ .04
=========== =========== =========== ===========
Weighted Average Number of Shares of
Common Stock and Common Stock
Equivalents Outstanding 4,377,111 4,047,746 4,416,714 4,055,479
=========== ========== =========== ===========
See Notes to Consolidated Financial Statements.
3
NETSMART TECHNOLOGIES, INC. AND SUBSIDIARY
- --------------------------------------------------------------------------------
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS - (Unaudited)
- --------------------------------------------------------------------------------
Six months ended
June 30,
----------------
2003 2002
---- ----
Operating Activities:
Net Income $ 792,512 $ 245,699
--------- ---------
Adjustments to Reconcile Net Income
to Net Cash Provided by Operating Activities:
Depreciation and Amortization 521,149 517,606
Bad Debt Expense 99,067 90,813
Amortization of Warrants Issued for Services
and Costs Related to Warrant Extension 15,525 24,873
Deferred Taxes (100,000) --
Changes in Assets and Liabilities:
[Increase] Decrease in:
Accounts Receivable 344,275 (210,828)
Costs and Estimated Profits in
Excess of Interim Billings 994,438 (384,305)
Other Current Assets (41,822) (39,413)
Other Assets 22,511 8,004
Increase [Decrease] in
Accounts Payable (565,723) (107,999)
Accrued Expenses 348,986 176,575
Interim Billings in Excess of
Costs and Estimated Profits 1,300,656 166,767
Deferred Revenue (575,405) (266,072)
--------- --------
Total Adjustments 2,363,657 (23,979)
--------- --------
Net Cash Provided by
Operating Activities 3,156,169 221,720
--------- --------
Investing Activities:
Acquisition of Property and Equipment (213,544) (121,811)
Net Cost of CareNet Acquisition (1,047,845) --
--------- -------
Net Cash Used In Investing Activities (1,261,389) (121,811)
--------- -------
See Notes to Condensed Consolidated Financial Statements.
4
NETSMART TECHNOLOGIES, INC. AND SUBSIDIARY
- --------------------------------------------------------------------------------
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS - (Unaudited)
- --------------------------------------------------------------------------------
Six months ended
June 30,
-----------------
2003 2002
---- ----
Financing Activities:
Payments on Capitalized Lease Obligations $ (14,524) $ (19,360)
Net Proceeds from Stock Options and Warrants Exercised 131,653 9,550
Payments on Term Loan (249,996) (249,996)
---------- -----------
Net Cash Used in Financing Activities (132,867) (259,806)
---------- -----------
Net Increase (Decrease) in Cash
and Cash Equivalents 1,761,913 (159,897)
Cash and Cash Equivalents -
Beginning of Period 7,251,740 3,837,226
---------- -----------
Cash and Cash Equivalents -
End of Period $ 9,013,653 $ 3,677,329
========== ===========
Supplemental Disclosure of Cash Flow Information:
Cash paid during the period for:
Interest $ 103,825 $ 110,703
Income Taxes $ 97,709 $ 14,727
Non Cash Investing and Financing Activities:
The fair value of the interest rate swap calculated at June 30, 2003 was
$91,783. The fair value of the interest rate swap calculated at June 30, 2002
was $80,691. The Company acquired equipment in the amount of $183,326 in
connection with a capital lease during the six months ended June 30, 2003.
During the six months ended June 30, 2003, stock options to purchase 81,503
shares of common stock were exercised and proceeds of $124,343 were received by
the Company in payment of the exercise prices of such options, including
$100,170 paid by delivery of shares of the Company's common stock valued at the
market price on the date of exercise in accordance with the cashless exercise
provisions of the Company's stock option plan.
During the six months ended June 30, 2003, the Company issued 100,000 shares of
common stock in connection with its acquisition of CareNet acquisition. See Note
13. These shares were valued at $528,000 which was based upon the average stock
price three days before and after the acquisition was agreed to and announced.
The Company also issued a $500,000 three-year promissory note and assumed
contract obligations and vacation liabilities totaling $68,068.
See Notes to Condensed Consolidated Financial Statements.
5
NETSMART TECHNOLOGIES, INC. AND SUBSIDIARY
- --------------------------------------------------------------------------------
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY - (Unaudited)
- --------------------------------------------------------------------------------
For the Six Months Ended June 30, 2003
Common Stock $.01 Par Value Authorized Shares Amount
------ ------
15,000,000 Shares
Beginning Balance - December 31, 2002 4,046,430 $ 40,464
Common Stock Issued - Exercise of Options 81,503 815
Common Stock Issued - Exercise of Warrants 50,000 500
Common Stock Issued - Acquisition 100,000 1,000
--------- ------
Ending Balance - June 30, 2003 4,277,933 $ 42,779
========= ======
See Notes to Condensed Consolidated Financial Statements.
6
NETSMART TECHNOLOGIES, INC. AND SUBSIDIARY
- --------------------------------------------------------------------------------
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY - (Unaudited)
- --------------------------------------------------------------------------------
For the Six Months Ended June 30, 2003
Additional Paid-In Capital Common Stock: Shares Amount
------ ------
Beginning Balance - December 31, 2002 $ 21,411,777
Common Stock Issued - Exercise of Options 123,527
Common Stock Issued - Exercise of Warrants 106,980
Common Stock Issued - Acquisition 527,000
Costs Related to Warrant Extension 1,125
----------
Ending Balance - June 30, 2003 $ 22,170,409
==========
Accumulated Deficit
Beginning Balance - December 31, 2002 $ (9,375,774)
Net Income 792,512
----------
Ending Balance - June 30, 2003 $ (8,583,262)
==========
Accumulated Comprehensive Loss - Interest Rate Swap:
Beginning Balance - December 31, 2002 $ (107,713)
Change in Fair Value of Interest Rate Swap 15,930
----------
Ending Balance - June 30, 2003 $ (91,783)
==========
Treasury Stock
Beginning Balance - December 31, 2002 89,797 $ (648,112)
Treasury Shares From Cashless
Exercise of Stock Options 22,742 (100,169)
------- ----------
Ending Balance - June 30, 2003 112,539 $ (748,281)
------- ----------
Total Stockholders' Equity $ 12,789,862
==========
Unearned Compensation
Beginning Balance - December 31, 2002 $ (14,400)
Amortization of Warrants Issued for Services 14,400
----------
Ending Balance - June 30, 2003 $ --
==========
See Notes to Condensed Consolidated Financial Statements.
7
NETSMART TECHNOLOGIES, INC. AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
(1) In the opinion of the Company, the accompanying unaudited financial
statements contain all adjustments (consisting of only normal recurring
accruals) necessary to present fairly the financial position of the Company as
of June 30, 2003 and the results of its operations for the three and six months
ended June 30, 2003 and 2002 and the changes in cash flows for the six months
ended June 30, 2003 and 2002. The results of operations for the three and six
months ended June 30, 2003 are not necessarily indicative of the results to be
expected for the full year.
(2) The accounting policies followed by the Company are set forth in Notes 1 and
2 to the Company's consolidated financial statements as filed in its Form 10-K/A
for the year ended December 31, 2002.
(3) Income per share - The following table sets forth the components used in the
computation of basic and diluted earnings per share:
Six Months Ended June 30, Three Months Ended June 30,
------------------------ --------------------------
2003 2002 2003 2002
---- ---- ---- ----
Numerator:
Net income $ 792,512 $ 245,699 $ 521,327 $ 142,535
Denominator:
Weighted average shares 4,008,390 3,695,923 4,077,399 3,696,709
--------- ---------- --------- ---------
Effect of dilutive securities:
Employee stock options 354,722 351,359 337,527 358,307
Stock warrants 13,999 464 1,788 463
--------- ---------- --------- ---------
Dilutive potential common shares 368,721 351,823 339,315 358,770
--------- ---------- --------- ---------
Denominator for diluted earnings per
share-adjusted weighted average shares
after assumed conversions 4,377,111 4,047,746 4,416,714 4,055,479
========= ========= ========= =========
(4) Stock Options and Similar Equity Instruments - At June 30, 2003, the Company
had three stock-based employee compensation plans. As permitted under SFAS No.
148, "Accounting for Stock-Based Compensation--Transition and Disclosure", which
amended SFAS No. 123 ("SFAS 123"), "Accounting for Stock-Based Compensation",
the Company has elected to continue to follow the intrinsic value method in
accounting for its stock-based employee compensation arrangements, as defined by
Accounting Principles Board Opinion ("APB") No. 25, "Accounting for Stock Issued
to Employees", and related interpretations including Financial Accounting
Standards Board Interpretation No. 44, "Accounting for Certain Transactions
Involving Stock Compensation", an interpretation of APB No. 25. No stock-based
employee compensation cost is reflected in net income, as all options granted
under those plans had an exercise price equal to the market value of the
underlying common stock on the
8
date of grant. The following table illustrates the effect on net income and
earnings per share if the Company had applied the fair value recognition
provisions of SFAS 123 to stock-based employee compensation:
Six Months Ended June 30, Three Months Ended June 30,
------------------------ ---------------------------
2003 2002 2003 2002
---- ---- ---- ----
Net Income as Reported $ 792,512 $ 245,699 $ 521,327 $ 142,535
Deduct: Total stock-based employee compensation
expense determined under fair value-based method
for all awards, net of related tax effect 298,624 78,093 162,223 57,976
-------- -------- -------- --------
Pro Forma Net Income $ 493,888 $ 167,606 $ 359,104 $ 84,559
======== ======== ======== ========
Basic Net Income Per Share as Reported $ .20 $ .07 $ .13 $ .40
======== ======== ======== ========
Basic Pro Forma Net Income Per Share $ .12 $ .05 $ .09 $ .20
======== ======== ======== ========
Diluted Net Income Per Share as Reported $ .18 $ .06 $ .12 $ .40
======== ======== ======== ========
..04
Diluted Pro Forma Net Income Per Share $ .11 $ .04 $ .08 $ .20
======== ======== ======== ========
The fair value of options at date of grant was estimated using the Black-Scholes
fair value based method with the following weighted average assumptions:
Six Months Ended
----------------
June 30, June 30,
------- -------
2003 2002
---- ----
Expected Life (Years) 5 5
Interest Rate 4.00% 4.00%
Annual Rate of Dividends 0% 0%
Volatility 66% 63%
The weighted average fair value of options at date of grant using the fair value
based method during 2003 and 2002 is estimated at $2.34 and $1.41 respectively.
(5) Income Taxes - The provision for income taxes for the period ended June 30,
2003, reflects a deferred tax provision of approximately $368,000 offset by a
reduction in the deferred tax asset valuation allowance of the same amount.
During the June 2003 period, the Company recognized an additional $100,000
benefit from its net operating loss carry forward.
(6) On January 27, 2003, following stockholder approval of the amendment to the
2001 Plan to increase the number of shares of common stock available for
issuance pursuant to the 2001 Plan, the Company granted to employees options to
purchase 217,500 shares under the 2001 Plan at a price per share of $4.93, which
was the fair market value at the date of grant. On May 22, 2003, the Company
granted to employees additional options to purchase 152,500 shares under the
2001 Plan at a price per share of $4.37, which was the fair market value at the
date of grant. The majority of the options granted to date under the 2001 Plan
vest 50% after six months and 100% after one year.
(7) The Company currently classifies its operations into two business segments:
(1) Software and Related Systems and Services and (2) Data Center Services.
Software and Related Systems and Services is the design, installation,
implementation and maintenance of computer information systems that provide
comprehensive healthcare
9
information technology solutions including billing, patient tracking and
scheduling for inpatient and outpatient environments, as well as clinical
documentation and medical record generation and management. Data Center Services
involve Company personnel performing data entry and data processing services for
customers. Intersegment sales and sales outside the United States are not
material. Information concerning the Company's business segments are as follows:
Software and
------------
Related Systems Data Center
--------------- -----------
Six Months Ended June 30, and Services Services Consolidated
- ------------------------ ------------ -------- ------------
2003
- ----
Revenue $ 11,748,886 $ 959,303 $ 12,708,189
Income before income taxes 624,427 186,085 810,512
Total identifiable assets at June 30, 2003 22,841,438 1,822,884 24,664,322
Six Months Ended June 30,
- ------------------------
2002
- ----
Revenue $ 9,321,975 $ 955,395 $ 10,277,370
Income before income taxes 124,101 147,598 271,699
Total identifiable assets at June 30, 2002 16,292,536 1,618,337 17,910,873
Three Months Ended June 30,
- --------------------------
2003
- ----
Revenue $ 6,088,371 $ 500,765 $ 6,589,136
Income before income taxes 395,263 111,064 506,327
Three Months Ended June 30,
- --------------------------
2002
- ----
Revenue $ 4,961,596 $ 485,702 $ 5,447,298
Income before taxes 80,174 80,361 160,535
(8) On February 27, 2003, the Board of Directors authorized management to
purchase up to $100,000 of the Company's common stock at any time the market
price is less than $3.50 per share. Purchases of stock will be made from time to
time, depending on market conditions, in open market or in privately negotiated
transactions, at prices deemed appropriate by management. There is no set time
limit on the purchases. The Company expects to fund these stock repurchases from
its operating cash flow. As of June 30, 2003, the Company had not made any stock
repurchases.
(9) On April 7, 2003, warrants to purchase 50,000 shares were exercised and the
Company received gross proceeds of $134,500.
(10) New Accounting Pronouncements - In April 2002, the FASB issued SFAS No.
145, "Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB
Statement No. 13, and Technical Corrections". SFAS No. 145 requires that gains
and losses from extinguishment of debt be classified as extraordinary items only
if they meet the criteria in Accounting Principles Board Opinion No. 30
("Opinion No. 30"). Applying the provisions of Opinion No. 30 will distinguish
transactions that are part of an entity's recurring operations from those that
are unusual and infrequent that meet the criteria for classification as an
extraordinary item. The Company adopted SFAS No. 145 during the first quarter of
fiscal 2003. The adoption of this standard did not have a material effect on the
Company's consolidated financial position and results of operations.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." SFAS No. 146 addresses accounting and
10
reporting for costs associated with exit or disposal activities and nullifies
Emerging Issues Task Force Issue No. 94-3, "Liability Recognition for Certain
Employee Termination Benefits and Other Costs to Exit an Activity (Including
Certain Costs Incurred in a Restructuring)". SFAS No. 146 requires that a
liability for a cost associated with an exit or disposal activity be recognized
and measured initially at fair value when the liability is incurred. SFAS No.
146 is effective for exit or disposal activities that are initiated after
December 31, 2002. The adoption of this standard did not have a material effect
on the Company's consolidated financial position or results of operations.
In November 2002, the FASB issued Interpretation No. 45, ("FIN 45") "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others." FIN 45 requires a company, at the time it
issues a guarantee, to recognize an initial liability for the fair value of
obligations assumed under the guarantee and elaborates on existing disclosure
requirements related to guarantees and warranties. The initial recognition
requirements of FIN 45 are effective for guarantees issued or modified after
December 31, 2002. The Company's adoption of the recognition requirements of FIN
45 did not have a material effect on its consolidated financial position or
results of operations.
In January 2003, the FASB issued Interpretation No. 46 ("FIN 46"),
"Consolidation of Variable Interest Entities, an Interpretation of ARB No. 51."
FIN 46 requires certain variable interest entities to be consolidated by the
primary beneficiary of the entity if the equity investors in the entity do not
have the characteristics of a controlling financial interest or do not have
sufficient equity at risk for the entity to finance its activities without
additional financial support from other parties. FIN 46 is effective for all new
variable interest entities created or acquired after January 31, 2003. For
variable interest entities created or acquired prior to February 1, 2003, the
provisions of FIN 46 must be applied for the first interim or annual period
beginning after June 15, 2003. The Company does not expect the adoption of FIN
46 to have a material effect on its consolidated financial position or results
of operations.
On April 30, the FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities." This Statement amends and
clarifies SFAS No. 133 "Accounting for Derivative Instruments and Hedging
Activities." This statement clarifies the accounting guidance on (1) derivative
instruments (including certain derivative instruments embedded in other
contracts) and (2) hedging activities that fall within the scope of the SFAS
133. SFAS 149 also amends certain other existing pronouncements, which will
result in more consistent reporting of contracts that are derivatives in their
entirety or that contain embedded derivatives that warrant separate accounting.
SFAS 149 is effective (1) for contracts entered into or modified after June 30,
2003, with certain exceptions, and (2) for hedging relationships designated
after June 30, 2003. The guidance is to be applied prospectively. The Company
does not expect the adoption of SFAS No. 149 to have a material impact on its
consolidated financial position or results of operations.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity." SFAS No. 150
addresses certain financial instruments that, under previous guidance, could be
accounted for as equity, but now must be classified as liabilities in statements
of financial position. These financial instruments include: 1) mandatorily
redeemable financial instruments, 2) obligations to repurchase the issuer's
equity shares by transferring assets, and 3) obligations to issue a variable
number of shares. SFAS No. 150 is effective for all financial instruments
entered into or modified after May 31, 2003, and otherwise effective at the
beginning of the first interim period beginning after June 15, 2003. The Company
is evaluating the impact that the adoption of SFAS No. 150 will have on its
consolidated financial position or results of operations.
(11) In January 2003, warrants to purchase 448,535 shares of common stock at
$12.00 per share were extended from January 31, 2003 to April 30, 2003. In April
2003, the Company agreed to extend these same warrants from April 30, 2003 to
July 31, 2003. The Company re-measured the fair value of the warrants at the
11
dates of extension. No financing costs were recorded associated with the warrant
extensions made in January 2003, as there was no material change in their fair
value. The Company charged $1,125 to operations related to the warrant extension
made in April 2003. In July 2003, the Company agreed to extend these same
warrants from July 31, 2003 to October 31, 2003. The Company re-measured the
fair value of the warrants at the date of extension and will charge $5,211 of
financing costs to operations in July 2003.
(12) Reclassifications - Certain accounts in the prior year financial statements
have been reclassified for comparative purposes to conform to the presentation
in the current year financial statements. These reclassifications have no effect
on previously reported income.
(13) On June 25, 2003, the Company acquired substantially all of the assets of
the CareNet segment ("CareNet") of Shuttle Data Systems Corporation, d/b/a Adia
Information Management Corp. ("Adia"), pursuant to an asset purchase agreement
dated June 25, 2003, among the Company, Adia and Steven Heintz, Jr., the
president and majority shareholder of Adia. The principal assets acquired were
the intellectual property and customer contracts of CareNet. The total purchase
price, including acquisition costs, was $2,003,913 which consisted of 100,000
shares of common stock of the Company valued at $528,000, $838,740 in cash and a
three-year promissory note in the principal amount of $500,000 payable in 36
equal monthly installments of principal plus interest at the average prime rate
plus 1% as defined in the note agreement. Adia has received certain piggyback
registration rights with respect to these 100,000 shares. The cash portion of
the purchase price was paid out of existing working capital. The Company also
assumed certain contractual obligations and liabilities totaling $68,068 and
incurred $69,105 in legal and accounting costs which are included in the
purchase price.
In addition, in connection with the acquisition, the Company entered into a
non-compete and non-solicitation agreement with Steven Heintz, Jr. and Jennifer
Lindbert for which they were paid a fee of an aggregate $140,000, which fee was
paid in cash out of existing working capital and is included in "other assets"
on the balance sheet.
The cost of the acquisition was allocated to purchased software in the amount of
$883,075, customer lists in the amount of $1,097,138, covenant not to compete in
the amount of $140,000 and computer hardware in the amount of $23,700. The
Company is amortizing the purchased software over an eight-year life and the
customer lists over a nine-year life. The covenant not to compete will be
amortized over a three-year life.
The Company accounted for this acquisition pursuant to the purchase method of
accounting. For accounting purposes the Company recorded the assets and related
liabilities of CareNet effective as of June 30, 2003. The Company incorporated
the operations of CareNet into its operations commencing July 1, 2003.
12
The following unaudited proforma condensed consolidated statements of operations
assumes the CareNet acquisition occurred on January 1, 2002. In the opinion of
management, all adjustments necessary to present fairly such unaudited proforma
statements have been made.
Six months ended June 30,
(in 000's except Per Share Data)
2003 2002
---- ----
Revenue $13,063 $10,538
Net Income $ 801 $ 193
Net Income Per Share - Basic $ 0.20 $ 0.05
Diluted $ 0.18 $ 0.05
(14) In July 2003, the Company's Board of Directors approved a cash dividend of
$0.10 per share of common stock. The estimated amount to be charged to surplus
based upon the shares outstanding is $421,830.
(15) In July 2003, each of the Company's President and its Chief Executive
Officer exercised options for 70,000 shares of the Company's common stock by
delivery of 17,096 shares of the Company's common stock valued at the market
price on the date of exercise in accordance with the cashless exercise
provisions of the Company's stock option plans.
13
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Overview
Our operations are grouped into two segments:
|X| Software and Related Systems and Services
|X| Data Center [service bureau services]
Results of Operations
Fixed price software development contracts and licenses accounted for 47% and
42% of consolidated revenue for the six months ended June 30, 2003 and 2002,
respectively. We recognize revenue for fixed price contracts using the
percentage of completion method. Since the billing schedules under the contracts
differ from the recognition of revenue, at the end of any period, these
contracts generally result in either costs and estimated profits in excess of
billing or billing in excess of cost and estimated profits. Revenue from fixed
price software development contracts is determined using the percentage of
completion method which is based upon the time spent by our technical personnel
on a project. As a result, during the third and fourth quarters, when many of
our employees are on vacation and holidays, our revenue could be affected. Our
time spent on projects during the second half of the year generally ranges from
1% to 3% less than time spent on projects during the first half of the year.
Six Months Ended June 30, 2003 and 2002
Our total revenue for the six months ended June 30, 2003 (the "June 2003
period") was $12,708,000, an increase of $2,431,000, or 24%, from our revenue
for the six months ended June 30, 2002 (the June 2002 period"), which was
$10,277,000. Revenue from contracts from government agencies represented 61% of
revenue in the June 2003 period and 43% of revenue in the June 2002 period. This
reflects an increase in new government contracts, particularly relating to
contracts with two new county agencies.
Software and Related Systems and Services
- -----------------------------------------
Our Software and Related Systems and Services revenue for the June 2003 period
was $11,749,000, an increase of $2,427,000, or 26%, from our revenue for the
June 2002 period, which was $9,322,000. Software and related systems and
services revenue is comprised of turnkey systems labor revenue, revenue from
sales of third party hardware and software, license revenue, maintenance revenue
and revenue from small turnkey systems.
The largest component of revenue was turnkey systems labor revenue, which
increased to $4,500,000 in the June 2003 period, from $3,549,000 in the June
2002 period, reflecting a 27% increase. Turnkey systems labor revenue refers to
labor associated with turnkey installations and includes categories such as
training, installation, project management and development. This increase was
substantially the result of an increase in spending for information systems in
the human services marketplace and our ability to provide the staff necessary to
generate additional revenue. Labor rate price changes from June 2003 period to
the June 2002 period resulted in a 13% increase in the average daily billing
rate and accounted for approximately $330,000, or 35%, of the total turnkey
systems labor increase. Revenue from third party hardware and software increased
to $2,146,000 in the June 2003 period, from $1,378,000 in the June 2002 period,
which represents an increase of 56%. Sales of third party hardware and software
are made in connection with the sales of turnkey systems. These sales are
typically made at lower gross margins than our human services revenue. License
revenue increased to $1,245,000 in the June 2003 period, from $912,000 in the
June 2002 period, reflecting an increase of 37%. License revenue is generated as
part of a sale of a human services information system pursuant to a contract or
purchase order that includes delivery of the system and maintenance. This
increase in license revenue was the result of an increase in spending for
information systems in the human services marketplace. Maintenance revenue
increased to $3,487,000 in the June 2003 period, from $3,022,000 in the June
14
2002 period, reflecting an increase of 15%. As turnkey systems are completed,
they are transitioned to the maintenance division, thereby increasing our
installed base. Revenue from the sales of our small turnkey division decreased
to $371,000 in the June 2003 period, from $461,000 in the June 2002 period,
reflecting a decrease of 20%. This decrease is the result a redirection of our
sales efforts to larger turnkey sales. Small turnkey division sales relate to
turnkey contracts that are less than $50,000 and are usually completed within
one month.
Gross profit increased to $4,677,000 in the June 2003 period from $3,100,000 in
the June 2002 period, reflecting an increase of 51%. Our gross margin percentage
increased to 40% in the June 2003 period from 33% in the June 2002 period. Our
gross margins have increased primarily as a result of increased maintenance and
license revenue and, to a lesser extent, an increase in our labor revenue. Our
infrastructure costs with respect to our maintenance division are substantially
in place and as new maintenance revenue occurs, our gross profit margins are
improved accordingly.
Data Center
- -----------
Data center clients typically generate approximately the same amount of revenue
each year. We bill on a transaction basis or on a fixed fee arrangement.
Historically, each year, we increase the transaction or fixed fees by an amount
that approximates the New York urban consumer price index increase. The data
center revenue increased to $959,000 in the June 2003 period, from $955,000 in
the June 2002 period, representing an increase of $4,000, or less than 1%.
Gross profit remained constant at $428,000 for the June 2003 and 2002 periods.
Our gross margin percentage remained constant at 45% for the June 2003 and 2002
periods.
Operating Expenses
Selling, general and administrative expenses were $3,280,000 in the June 2003
period, reflecting an increase of $795,000, or 32%, from the $2,485,000 in the
June 2002 period. This increase was in the area of sales and marketing costs,
which increased by $269,000, primarily as a result of increases in salaries and
commissions by $250,000; an increase in general and administrative salaries,
which increased by $158,000; and provisions for bonuses, which increased by
$299,000.
We incurred product development expenses of $943,000 in the June 2003 period, an
increase of 38% from the $684,000 in June 2002 period. The increase in product
development expense is the result of continuing investment in product
enhancement and extensions. These extensions include the development of new
software modules including Minimum Data Set (MDS) reporting which is designed to
address Federal reporting requirements and a Computerized Physician Order Entry
(CPOE) module, as well as continued investment in core products including a new
version of our addictions management software products. These amounts have been
appropriately accounted for in accordance with SFAS No. 86, "Accounting for the
Cost of Computer Software to be Sold, Leased, or Otherwise Marketed."
Interest and other expense was $102,000 in the June 2003 period, a decrease of
$7,000, or 6%, from the $109,000 in the June 2002 period. This decrease is the
result of reduced borrowing during the June 2003 period.
Interest income was $31,000 in the June 2003 period, an increase of $11,000, or
55%, from $20,000 in the June 2002 period. Interest income is generated from
short-term investments made with a substantial portion of the proceeds received
from the term loan, as well as cash generated from operations.
We have a net operating loss tax carry forward of approximately $8.2 million. In
the June 2003 period, we recorded a current income tax expense of $118,000,
which related to various state and local taxes, as well as a provision for the
15
Federal alternative minimum tax. In addition, we recognized a partial deferred
tax benefit in the amount of $368,000, which was offset by a reduction in the
deferred tax valuation allowance of the same amount. We also re-evaluated the
deferred tax valuation allowance and further reduced the allowance by $100,000.
In the June 2002 period we provided for taxes in the amount of $26,000. This
provision was based upon certain state taxes.
As a result of the foregoing factors, in the June 2003 period, we had a net
income of $793,000, or $.20 per share (basic) and $.18 per share (diluted). For
the June 2002 period, we had net income of $246,000, or $.07 per share (basic)
and $.06 per share (diluted).
Three Months Ended June 30, 2003 and 2002
Results of Operations
Fixed price software development contracts and licenses accounted for 46% of
consolidated revenue for the three months ended June 30, 2003 (the "June 2003
quarter") and 42% of consolidated revenue for the three months ended June 30,
2002 (the "June 2002 quarter"). We recognize revenue for fixed price contracts
on the estimated percentage of completion basis. Since the billing schedules
under the contracts differ from the recognition of revenue, at the end of any
period, these contracts generally result in either costs and estimated profits
in excess of billing or billing in excess of cost and estimated profits. Revenue
from fixed price software development contracts is determined using the
percentage of completion method which is based upon the time spent by our
technical personnel on a project. As a result, during the third and fourth
quarters, when many of our employees are on vacation and holidays, our revenue
could be affected. Our time spent on projects during the second half of the year
generally ranges from 1% to 3% less than time spent on projects during the first
half of the year.
Our total revenue for the June 2003 quarter was $6,589,000, an increase of
$1,142,000, or 21%, from our revenue for the June 2002 quarter, which was
$5,447,000. Revenue from contracts from government agencies represented 61% of
revenue in the June 2003 quarter and 44% of revenue in the June 2002 quarter.
This reflects an increase in new government contracts, particularly relating to
contracts with two new county agencies.
Software and Related Systems and Services
- -----------------------------------------
Our Software and Related Systems and Services revenue for the June 2003 quarter
was $6,088,000, an increase of $1,127,000, or 23%, from our revenue for the June
2002 quarter, which was $4,961,000. Software and related systems and services
revenue is comprised of turnkey systems labor revenue, revenue from sales of
third party hardware and software, license revenue, maintenance revenue and
revenue from small turnkey systems.
The largest component of revenue was turnkey systems labor revenue, which
increased to $2,282,000 in the June 2003 quarter or 19%, from $1,913,000 in the
June 2002 quarter. Turnkey systems labor revenue refers to labor associated with
turnkey installations and includes categories such as training, installation,
project management and development. This increase was substantially the result
of an increase in spending for information systems in the human services
marketplace and our ability to provide the staff necessary to generate
additional revenue. Labor rate price changes from June 2003 quarter to the June
2002 quarter resulted in a 14% increase in the average daily billing rate and
accounted for approximately $160,000, or 43%, of the total turnkey systems labor
increase. Revenue from third party hardware and software increased to $1,167,000
in the June 2003 quarter, from $886,000 in the June 2002 quarter, which
represents an increase of 32%. Sales of third party hardware and software are
made in connection with the sales of turnkey systems. These sales are typically
made at lower gross margins than our human services revenue. License revenue
increased to $650,000 in the June 2003 quarter, from $378,000 in the June 2002
quarter, reflecting an increase of 72%. License revenue is generated as part of
a sale of a human services information system pursuant to a contract or purchase
order that includes delivery of the system and maintenance. This increase in
license revenue was the result of an increase in spending for information
systems in the human services marketplace. Maintenance revenue increased to
16
$1,774,000 in the June 2003 quarter or 17%, from $1,514,000 in the June 2002
quarter. As turnkey systems are completed, they are transitioned to the
maintenance division, thereby increasing our installed base. Revenue from the
sales of our small turnkey division decreased to $216,000 in the June 2003
quarter, from $271,000 in the June 2002 quarter, reflecting a decrease of 20%.
This decrease is the result a redirection of our sales efforts to larger turnkey
sales. Small turnkey division sales relate to turnkey contracts that are less
than $50,000 and are usually completed within one month.
Gross profit increased to $2,434,000 in the June 2003 quarter from $1,624,000 in
the June 2002 quarter, reflecting an increase of 50%. Our gross margin
percentage increased to 40% in the June 2003 quarter from 33% in the June 2002
quarter. Our gross margins have increased as a result of increased maintenance
and license revenue and to a lesser extent, an increase in our labor revenue.
Our infrastructure costs with respect to our maintenance division are
substantially in place and as new maintenance revenue occurs, our gross profit
margins are improved accordingly.
Data Center
- -----------
Data center clients typically generate approximately the same amount of revenue
each year. We bill on a transaction basis or on a fixed fee arrangement.
Historically, each year, we increase the transaction or fixed fees by an amount
that approximates the New York urban consumer price index increase. The data
center revenue increased to $501,000 in the June 2003 quarter, from $485,000 in
the June 2002 quarter, representing an increase of $15,000, or 3%. The increase
in revenue was due to an increase in the client base.
Gross profit increased to $235,000 in the June 2003 quarter from $220,000 in
June 2002 quarter. Our gross margin percentage increased to 47% in the June 2003
quarter from 45% in the June 2002 quarter. This increase was the result of an
increase in revenue with no corresponding increase in costs.
Operating Expenses
Selling, general and administrative expenses were $1,689,000 in the June 2003
quarter, reflecting an increase of $408,000, or 32%, from the $1,281,000 in the
June 2002 quarter. This increase was in the area of sales and marketing costs,
which increased by $120,000, primarily as a result of increases in salaries and
commissions, which increased by $116,000; an increase in general and
administrative salaries, which increased by $51,000; and provisions for bonuses
which increased by $177,000.
We incurred product development expenses of $433,000 in the June 2003 quarter,
an increase of 22% from the $356,000 in June 2002 quarter. The increase in
product development expense is the result of continuing investment in product
enhancement and extensions. These extensions include the development of new
software modules including Minimum Data Set (MDS) reporting which is designed to
address Federal reporting requirements and a Computerized Physician Order Entry
(CPOE) module as well as continued investment in core products including a new
version of our addictions management software products. These amounts have been
appropriately accounted for in accordance with SFAS No. 86, "Accounting for the
Cost of Computer Software to be Sold, Leased, or Otherwise Marketed."
Interest and other expense was $60,000 in the June 2003 quarter, an increase of
$3,000, or 5%, from the $57,000 in the June 2002 quarter. This increase was the
related to interest associated with a new capitalized lease arrangement.
Interest income was $18,000 in the June 2003 quarter, an increase of $7,000, or
64%, from the $11,000 in the June 2002 quarter. Interest income is generated
from short-term investments made with a substantial portion of the proceeds
received from the term loan, as well as cash generated from operations.
We have a net operating loss tax carry forward of approximately $8.2 million. In
the June 2003 quarter, we recorded a current income tax expense of $85,000,
17
which related to various state and local taxes as well as a provision for the
Federal alternative minimum tax. In addition, we recognized a partial deferred
tax benefit in the amount of $231,000, which was offset by a reduction in the
deferred tax valuation allowance of the same amount. We also reevaluated the
deferred tax valuation allowance and further reduced the allowance by $100,000.
In the June 2002 quarter we provided for taxes in the amount of $18,000. This
provision was based upon certain state taxes.
As a result of the foregoing factors, in the June 2003 quarter, we had a net
income of $521,000, or $.13 per share (basic) and $.12 per share (diluted). For
the June 2002 quarter, we had net income of $143,000, or $.04 per share basic
and diluted.
Liquidity and Capital Resources
We had working capital of approximately $8.8 million at June 30, 2003 as
compared to working capital of approximately $9.2 million at December 31, 2002.
This decrease was the result of the CareNet acquisition, which utilized
approximately $979,000 of our cash. Our working capital was further reduced by
the CareNet acquisition because of the current portion of the long-term debt
which we recorded in the amount of $166,000 and certain other contract
obligations totaling $68,000. This decrease in working capital was substantially
offset by approximately $813,000 as a result of our net income after adding back
depreciation and amortization and partially offset by the acquisition of
equipment. The remaining change in working capital was due to changes in other
current assets and liabilities.
In June 2001, we entered into a revolving credit and term loan agreement with
Fleet Bank ("Fleet"). This financing provides us with a five-year term loan of
$2.5 million, as well as a two year $1.5 million revolving line of credit. The
$1.5 million line of credit expired in June 2003. The Company did not utilize
this line of credit during its duration. The Company is currently exploring its
options with Fleet, relating to the possible renewal of the line of credit. The
term loan bears interest at LIBOR plus 2.5%. We have entered into an interest
rate swap agreement with Fleet whereby we converted our variable rate on the
term loan to a fixed rate of 7.95%. The proceeds of the term loan are designated
for acquisitions as well as for product enhancements specific to California
requirements. We have made principal payments on the $2.5 million term loan and
the amount outstanding at June 30, 2003 is $1.5 million.
The terms of our term loan agreement require compliance with certain covenants,
including maintaining a minimum net equity of $9 million, minimum cash reserves
of $500,000, maintenance of certain financial ratios, limitations on capital
expenditures and indebtedness and prohibition of the payment of cash dividends.
As of June 30, 2003, we were in compliance with the financial covenants of this
agreement.
On February 27, 2003, our Board of Directors authorized the purchase of up to
$100,000 of our common stock at any time the market price is less than $3.50 per
share. Purchases of stock will be made from time to time, depending on market
conditions, in open market or in privately negotiated transactions, at prices
deemed appropriate by management. There is no set time limit on the purchases.
We expect to fund these stock repurchases from our operating cash flow. As of
June 30, 2003, we have not made any stock repurchases.
We have entered into an interest rate swap agreement with Fleet Bank for the
amount outstanding under the term loan agreement at 7.95% in order to reduce the
interest rate risk associated with these borrowings.
On June 25, 2003, we acquired substantially all of the assets of the CareNet
segment ("CareNet") of Shuttle Data Systems Corporation, d/b/a Adia Information
Management Corp. ("Adia"), pursuant to an asset purchase agreement dated June
25, 2003, among the Netsmart, Adia and Steven Heintz, Jr., the president and
majority shareholder of Adia. The principal assets acquired were the
intellectual property and customer contracts of CareNet. The total purchase
price, including acquisition costs, was $2,003,913 which consisted of 100,000
18
shares of common stock valued at $528,000, $838,740 in cash, and a three-year
promissory note in the principal amount of $500,000. The cash portion of the
purchase price was paid for out of existing working capital. We also assumed
certain contractual obligations and liabilities totaling $68,068 and incurred
$69,105 in legal and accounting costs which are included in the purchase price.
In addition, in connection with the acquisition, we entered into a non-compete
and non-solicitation agreement with Steven Heintz, Jr. and Jennifer Lindbert for
which they were paid a fee of an aggregate $140,000, which fee was paid in cash
out of existing working capital and is included in "other assets" on the balance
sheet.
The cost of the acquisition was allocated to purchased software in the amount of
$883,075, customer lists in the amount of $1,097,138, the covenant not to
compete in the amount of $140,000 and computer hardware in the amount of
$23,700. We are amortizing the purchased software over an eight-year life and
the customer lists over a nine-year life. The covenant not to compete will be
amortized over a three-year life.
The Company accounted for this acquisition pursuant to the purchase method of
accounting. For accounting purposes the Company recorded the assets and related
liabilities of CareNet effective as of June 30, 2003. The Company incorporated
the operations of CareNet into its operations commencing July 1, 2003.
A part of our growth strategy is to acquire other businesses that are related to
our current business. Such acquisitions may be made with cash or our securities
or a combination of cash and securities. If we fail to make any acquisitions our
future growth will be limited to only internal growth. As of the date of this
Form 10-Q quarterly report, we did not have any agreements formal or informal or
understandings with respect to any material acquisitions, and we cannot give any
assurance that we will be able to complete any material acquisitions.
Based on our outstanding contracts and our continuing business, we believe that
our cash flow from operations, and our cash on hand will be sufficient to enable
us to fund our operations for at least the next twelve months. It is possible
that we may need additional funding if we go forward with certain acquisitions
or if our business does not develop as we anticipate or if our expenses,
including our software development costs relating to our expansion of our
product line and our marketing costs for seeking to expand the market for our
products and services to include smaller clinics and facilities and sole group
practitioners, exceed our expectation.
Critical Accounting Policies and Estimates
Our consolidated financial statements are prepared in accordance with accounting
principles generally accepted in the United States of America. These accounting
principles require us to make certain estimates, judgments and assumptions. We
believe that the estimates, judgments and assumptions upon which we rely are
reasonable based upon information available to us at the time that these
estimates, judgments and assumptions are made. These estimates, judgments and
assumptions can affect the reported amounts of assets and liabilities as of the
date of the financial statements, as well as the reported amounts of revenues
and expenses during the periods presented. Among other things estimates are used
in accounting for allowances for bad debts, deferred income taxes, expected
realizable values of assets (primarily capitalized software development costs
and customer lists) and revenue recognition. To the extent there are material
differences between these estimates, judgments or assumptions and actual
results, our financial statements will be affected. The significant accounting
policies that we believe are the most critical to aid in fully understanding and
evaluating our reported financial results include the following:
Revenue Recognition
Impairment of Capitalized Software Development Costs
Impairment of Customer Lists
Revenue Recognition: Revenue associated with fixed price turnkey sales consists
- -------------------
of the following components: licensing of software, labor associated with the
19
installation and implementation of the software; and maintenance services
rendered in connection with such licensing activities. Revenue from fixed price
software development contracts and revenue under license agreements, which
require significant modification of the software package to the customer's
specifications, are recognized on the estimated percentage-of-completion method.
Using the units-of-work-performed method to measure progress towards completion,
revisions in cost estimates and recognition of losses on these contracts are
reflected in the accounting period in which the facts become known. The
complexity of the estimation process and issues related to the assumptions,
risks and uncertainties inherent with the application of the percentage of
completion method of accounting affect the amounts of revenue and related
expenses reported in our Consolidated Financial Statements. A number of internal
and external factors can affect our estimates, including labor rates,
utilization and efficiency variances and specification and testing requirement
changes. Maintenance contract revenue is recognized on a straight-line basis
over the life of the respective contract. We also derive revenue from the sale
of third party hardware and software which is recognized based upon the terms of
each contract. Consulting revenue is recognized when the services are rendered.
Data Center revenue is recognized in the period in which the service is
provided. The above sources of revenue are recognized when, persuasive evidence
of an arrangement exists, delivery has occurred, the fee is fixed and
determinable and collectibility is probable.
Contract terms provide for billing schedules that differ from revenue
recognition and give rise to costs and estimated profits in excess of billings,
and billings in excess of costs and estimated profits.
Deferred revenue represents revenue billed and collected but not yet earned.
The cost of maintenance revenue, which consists solely of staff payroll and
applicable overhead, is expensed as incurred.
Capitalized Software Development Costs - Capitalization of computer software
- --------------------------------------
development costs begins upon the establishment of technological feasibility.
Technological feasibility for our computer software products is generally based
upon achievement of a detail program design free of high risk development
issues. The establishment of technological feasibility and the ongoing
assessment of recoverability of capitalized computer software development costs
requires considerable judgment by management with respect to certain external
factors, including, but not limited to, technological feasibility, anticipated
future gross revenue, estimated economic life and changes in software and
hardware technology. Prior to reaching technological feasibility these costs are
expensed as incurred and included in research and development. Amortization of
capitalized computer software development costs commences when the related
products become available for general release to customers. Amortization is
provided on a product by product basis. The annual amortization is the greater
of the amount computed using (a) the ratio that current gross revenue for a
product bear to the total of current and anticipated future gross revenue for
that product or (b) the straight-line method over the remaining estimated
economic life of the product. The estimated life of these products range from 3
to 8 years.
We periodically perform reviews of the recoverability of such capitalized
software costs. At the time a determination is made that capitalized amounts are
not recoverable based on the estimated cash flows to be generated from the
applicable software, any remaining capitalized amounts are written off.
Pursuant to Statement of Financial Accounting Standards ("SFAS") No. 144,
"Accounting for the Impairment or Disposal of Long-Lived Assets", we evaluate
our long-lived assets for financial impairment, and continue to evaluate them as
events or changes in circumstances indicate that the carrying amount of such
assets may not be fully recoverable. We evaluate the recoverability of
long-lived assets by measuring the carrying amount of the assets against the
estimated undiscounted future cash flows associated with them. At the time such
evaluations indicate that the future undiscounted cash flows of certain
long-lived assets are not sufficient to recover the carrying value of such
assets, the assets are adjusted to their fair values.
Impairment of Customer Lists - Pursuant to SFAS No. 144, "Accounting for the
- ----------------------------
Impairment or Disposal of Long-Lived Assets", we evaluate our long-lived assets
for financial impairment, and continue to evaluate them as events or changes in
circumstances indicate that the carrying amount of such assets may not be fully
recoverable. We evaluate the recoverability of long-lived assets by measuring
20
the carrying amount of the assets against the estimated undiscounted future cash
flows associated with them. At the time such evaluations indicate that the
future undiscounted cash flows of certain long-lived assets are not sufficient
to recover the carrying amount of such assets, the assets are adjusted to their
fair values.
The following table summarizes, as of June 30, 2003, our obligations and
commitments to make future payments under debt, capital leases and operating
leases:
Contractual Obligations Payments Due by Period
Total Less than 1 - 3 years 4 - 5 years Over 5
1 year year
Long Term Debt 2,000,016 666,667 1,333,349 -- --
Capital Lease Obligations 180,552 64,206 116,346 -- --
Operating Leases 359,213 291,090 68,123 -- --
Total Contractual Cash Obligations 2,539,781 1,021,955 1,517,826 -- --
Forward-Looking Statements
Statements in this Form 10-Q quarterly report may be "forward-looking
statements" within the meaning of the Private Securities Litigation Reform Act
of 1995. Forward-looking statements include, but are not limited to, statements
that express our intentions, beliefs, expectations, strategies, predictions or
any other statements relating to our future activities or other future events or
conditions and may be identified by words such as "expect", "anticipate",
"believe" and similar expressions. These statements are based on current
expectations, estimates and projections about our business based, in part, on
assumptions made by management. These statements are not guarantees of future
performance and involve risks, uncertainties and assumptions that are difficult
to predict. Therefore, actual outcomes and results may, and probably will,
differ materially from what is expressed or forecasted in the forward-looking
statements due to numerous factors, including those described above and those
risks discussed from time to time in our Form 10-K/A for the year ended December
31, 2002 under "Risk Factors" and "Management's Discussion and Analysis of
Financial Condition and Results of Operations" and in this Form 10-Q quarterly
report and in other documents which we file with the Securities and Exchange
Commission. In addition, such statements could be affected by risks and
uncertainties related to product demand, market and customer acceptance,
competition, government regulations and requirements, pricing and development
difficulties, as well as general industry and market conditions and growth
rates, and general economic conditions. Any forward-looking statements speak
only as of the date on which they are made, and we do not undertake any
obligation to update any forward-looking statement to reflect events or
circumstances after the date of this Form 10-Q.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
We are exposed to market risk related to changes in interest rates. Most of our
debt is at fixed rates of interest after completing an interest rate swap
agreement, which effectively converted our variable rate debt into a fixed rate
debt of 7.95%. Therefore, if the LIBOR rate plus 2.5% increases above 7.95%, it
may have a positive effect on our net income.
Most of our invested cash and cash equivalents, which are invested in money
market accounts and commercial paper, are at variable rates of interest. If
21
market interest rates decrease by 10 percent from levels at June 30, 2003, the
effect on our net income would be a decrease of approximately $7,200 per year.
Item 4. Controls and Procedures
Within the 90-day period prior to the initial filing of this Form 10-Q, an
evaluation was performed under the supervision and with the participation of the
Company's management, including the Chief Executive Officer and Chief Financial
Officer, of the effectiveness of the Company's disclosure controls and
procedures as defined in Exchange Act Rule 13a-14. Based on that evaluation, the
Chief Executive Officer and Chief Financial Officer concluded that the Company's
disclosure controls and procedures were effective. There have been no
significant changes in the Company's internal controls or in other factors that
could significantly affect these controls subsequent to the date of their
evaluation.
Part II OTHER INFORMATION
Item 2. Changes in Securities
On June 25, 2003, the Company issued 100,000 shares of common stock in
connection with its acquisition of substantially all of the assets of the
CareNet segment of Shuttle Data Systems Corporation, d/b/a Adia Information
Management Corp. ("Adia"), pursuant to an asset purchase agreement dated June
25, 2003, among the Company, Adia and Steven Heintz, Jr., the president and
majority shareholder of Adia. The issuance of the foregoing securities was
issued in reliance upon the exemption from registration provided by Section 4(2)
of the Securities Act of 1933, as amended, as a transaction not involving a
public placement based on the fact that it was an issuance of securities to one
person and the shares were legended to prevent their transfer.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
Exhibit No. Description
---------- -----------
99.1 Certification of Chief Executive Officer pursuant to 8
U.S.C.ss.1350 as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
99.2 Certification of Chief Financial Officer pursuant to 8
U.S.C.ss.1350 as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
22
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.
NETSMART TECHNOLOGIES, INC.
/s/James L. Conway Chief Executive Officer August 4, 2003
- --------------------------- (Principal Executive Officer)
James L. Conway
/s/Anthony F. Grisanti Chief Financial Officer August 4, 2003
- --------------------------- (Principal Financial and
Anthony F. Grisanti Accounting Officer)
23
Index of Exhibits
-----------------
Exhibit No. Description
----------- -----------
99.1 Certification of Chief Executive Officer pursuant to
8 U.S.C.ss.1350 as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
99.2 Certification of Chief Executive Officer pursuant to
8 U.S.C.ss.1350 as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
24
CERTIFICATIONS PURSUANT TO
18 U.S.C. SECTION 1350
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
I, James L. Conway, Chief Executive Officer of Netsmart Technologies,
Inc., hereby certify that the Form 10-Q of Netsmart Technologies, Inc. for the
period ended June 30, 2003 fully complies with the requirements of Section 13(a)
or 15(d) of the Securities Exchange Act of 1934 and the information contained in
such report fairly presents, in all material respects, the financial condition
and results of operations of Netsmart Technologies, Inc.
/s/James L. Conway
------------------------
Name: James L. Conway
Date: August 4, 2003
I, Anthony F. Grisanti, Principal Financial and Accounting Officer of
Netsmart Technologies, Inc., hereby certify that the Form 10-Q of Netsmart
Technologies, Inc. for the period ended June 30, 2003 fully complies with the
requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934
and the information contained in such report fairly presents, in all material
respects, the financial condition and results of operations of Netsmart
Technologies, Inc.
/s/ Anthony F. Grisanti
-----------------------
Name: Anthony F. Grisanti
Date: August 4, 2003
These certifications are being furnished pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002 and, except to the extent required by the
Sarbanes-Oxley Act, shall not be deemed to be filed as part of the periodic
report described herein nor shall they be deemed filed by Netsmart Technologies,
Inc. for purposes of Section 18 of the Securities Exchange Act of 1934, as
amended.
A signed original of the written statements required by Section 906 has
been provided to Netsmart Technologies, Inc. and will be retained by Netsmart
Technologies, Inc. and furnished to the Securities and Exchange Commission or
its staff upon request.
25