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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2004 COMMISSION FILE NUMBER 0-19771
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DATA SYSTEMS & SOFTWARE INC.
(Exact name of registrant as specified in charter)
------------------------------
DELAWARE 22-2786081
(State or other jurisdiction of (I.R.S. employer
incorporation or organization) identification no.)
200 ROUTE 17, MAHWAH, NEW JERSEY 07430
(Address of principal executive offices) (Zip code)
(201) 529-2026
Registrant's telephone number, including area code
-----------------------
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.
|X| Yes |_| No
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).
| | Yes |X| No
Number of shares outstanding of the registrant's common stock, as of
August 10, 2004: 7,921,691
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DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION
Item 1. Unaudited Consolidated Financial Statements
Consolidated Balance Sheets
as of December 31, 2003 and June 30, 2004.............................. 1
Consolidated Statements of Operations and Comprehensive Loss
for the six and three month periods ended June 30, 2003 and 2004....... 2
Consolidated Statement of Changes in Shareholders' Equity
for the six month period ended June 30, 2004.......................... 3
Consolidated Statements of Cash Flows
for the six month periods ended June 30, 2003 and 2004................. 4
Notes to Consolidated Financial Statements..................................... 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations............................................. 14
Item 3. Quantitative and Qualitative Disclosures about Market Risk......................... 20
Item 4. Controls and Procedures............................................................ 20
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K................................................... 21
SIGNATURES ................................................................................ 22
Certain statements contained in this report are forward-looking in nature. These
statements are generally identified by the inclusion of phrases such as "we
expect", "we anticipate", "we believe", "we estimate" and other phrases of
similar meaning. Whether such statements ultimately prove to be accurate depends
upon a variety of factors that may affect our business and operations. Many of
these factors are described in our most recent Annual Report on Form 10-K as
filed with Securities and Exchange Commission.
DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share data)
AS OF
AS OF DECEMBER JUNE 30,
ASSETS 31, 2003 2004
---------------- ---------------
Current assets: (unaudited)
Cash and cash equivalents................................................. $1,213 $497
Restricted cash........................................................... 241 235
Accounts receivable, net.................................................. 7,053 6,197
Inventory................................................................. 88 130
Other current assets...................................................... 661 861
---------------- ---------------
Total current assets................................................. 9,256 7,920
---------------- ---------------
Investment in Comverge, net..................................................... 68 --
Property and equipment, net..................................................... 814 723
Other assets.................................................................... 613 627
Funds in respect of employee termination benefits............................... 2,379 2,581
Goodwill 4,430 4,355
Other intangible assets, net.................................................... 114 96
---------------- ---------------
Total assets......................................................... $17,674 $16,302
================ ===============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Short-term bank credit and current maturities of long-term debt........... $1,517 $1,417
Trade accounts payable.................................................... 2,586 1,947
Accrued payroll, payroll taxes and social benefits........................ 1,451 1,366
Other current liabilities................................................. 2,973 2,225
---------------- ---------------
Total current liabilities............................................ 8,527 6,955
---------------- ---------------
Investment in Comverge, net..................................................... -- 616
---------------- ---------------
Long-term liabilities:
Long-term debt............................................................ 632 304
Other liabilities......................................................... 227 199
Liability for employee termination benefits............................... 3,721 4,056
---------------- ---------------
Total long-term liabilities........................................ 4,580 4,559
---------------- ---------------
Minority interests.............................................................. 1,367 1,495
---------------- ---------------
Shareholders' equity:
Common stock - $0.01 par value per share:
Authorized - 20,000,000 shares; 87
Issued - 8,740,729 and 8,742,395 shares as of
December 31, 2003 and June 30, 2004, respectively.................. 87
Additional paid-in capital................................................ 39,595 39,547
Warrants.................................................................. 461 461
Accumulated deficit....................................................... (33,069) (33,457)
Treasury stock, at cost - 838,704 and 820,704 shares at December 31, 2003
and June 30, 2004, respectively...................................... (3,874) (3,791)
Accumulated other comprehensive loss...................................... -- (170)
---------------- ---------------
Total shareholders' equity........................................... 3,200 2,677
---------------- ---------------
Total liabilities and shareholders' equity........................... $17,674 $16,302
================ ===============
The accompanying notes are an integral part of these
consolidated financial statements.
- 1 -
DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS (unaudited)
(in thousands, except net loss per share data)
SIX MONTHS ENDED THREE MONTHS ENDED
JUNE 30, JUNE 30,
------------------------------- -----------------------------------
2003 2004 2003 2004
------------- ------------- ------------- -------------
Restated Restated
Sales:
Products........................................... $13,121 $8,156 $4,145 $4,123
Services........................................... 4,979 4,927 2,247 2,467
Projects........................................... 1,895 1,472 832 710
------------- ------------- ------------- -------------
Total sales 19,995 14,555 7,224 7,300
------------- ------------- ------------- -------------
Cost of sales:
Products........................................... 10,749 6,914 3,449 3,549
Services........................................... 3,386 3,379 1, 686 1,684
Projects........................................... 1,517 1,186 805 541
------------- ------------- ------------- -------------
Total cost of sales 15,652 11,479 5,940 5,774
------------- ------------- ------------- -------------
Gross profit....................................... 4,343 3,076 1,284 1,526
Operating expenses:
Research and development expenses..................... .153 -- -- --
Selling, general and administrative expenses.......... 6,363 3,328 2,106 1,498
------------- ------------- ------------- -------------
Total operating expenses 6,516 3,328 2,106 1,498
------------- ------------- ------------- -------------
Operating income (loss).................................. (2,173) (252) (822) 28
Interest income.......................................... 27 77 5 75
Interest expense......................................... (646) (86) (294) (29)
Other income (expense), net.............................. (165) 237 (151) 136
------------- ------------- ------------- -------------
Income (loss) before taxes on income............... (2,957) (24) (1,262) 210
Taxes on income.......................................... 34 (20) 22 (13)
------------- ------------- ------------- -------------
Income (loss) from operations of the Company and its
consolidated subsidiaries............................. (2,991) (4) (1,284) 223
Share of losses in Comverge.............................. (550) (684) (550) (331)
Minority interests....................................... 104 (48) 121 (33)
------------- ------------- ------------- -------------
Net loss from continuing operations (3,437) (736) (1,713) (141)
Net income (loss) from discontinued operations,
net of tax............................................ (34) 348 3 348
------------- ------------- ------------- -------------
Net income (loss)................................. (3,471) (388) (1,710) 207
------------- ------------- ------------- -------------
Other comprehensive income (loss), net of tax:
Differences from translation of financial statements
of subsidiaries....................................... -- (170) -- 26
------------- ------------- ------------- -------------
Comprehensive income (loss)....................... $(3,471) $(558) $(1,710) $233
============= ============= ============= =============
Basic and diluted net income (loss) per share:
Loss per share from continuing operations.............. $(0.46) $(0.09) $(0.22) $(0.01)
Discontinued operations................................ (0.00) 0.04 0.00 0.04
------------- ------------- ------------- -------------
Basic and diluted net income (loss) per share.......... $(0.46) $(0.05) $(0.22) $0.03
============= ============= ============= =============
Weighted average number of shares outstanding:
Basic........................................... 7,570 7,918 7,792 7,922
============= ============= ============= =============
Diluted......................................... 7,570 7,918 7,792 7,964
============= ============= ============= =============
The accompanying notes are an integral part of these consolidated
financial statements.
- 2 -
DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY (unaudited)
Six months ended June 30, 2004
(in thousands)
Accumulated
Additional other
Number of Common Paid-In Accumulated Treasury comprehensive
Shares Stock Capital Warrants Deficit Stock loss Total
------------ -------- ---------- --------- ------------- --------- ------------- --------
Balances as of
December 31, 2003 8,741 $ 87 $39,595 $ 461 $(33,069) $(3,874) $ - $3,200
Exercise of options 1 * (48) - - 83 - 35
Net loss - - - - (388) - - (388)
Differences from translation
of subsidiaries' financial
statements - - - - - - (170) (170)
------------ -------- ---------- --------- ------------- --------- ------------- --------
Balances as of
June 30, 2004 8,742 $ 87 $39,547 $ 461 $(33,457) $(3,791) $ (170) $2,677
============ ======== ========== ========= ============= ========= ============= ========
* Less than $1
The accompanying notes are an integral part of these consolidated
financial statements.
- 3 -
DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)
(dollars in thousands)
SIX MONTHS ENDED JUNE 30,
------------------------------------
2003 2004
------------- -------------
Restated
Cash flows used in operating activities:
Net loss....................................................................... $(3,471) (388)
Adjustments to reconcile net loss to net cash provided by (used in)
operating activities - Appendix A: 4,241 251
------------- -------------
Net cash provided by (used in) operating activities...................... 770 (137)
------------- -------------
Cash flows provided by (used in) investing activities:
Restricted cash................................................................ 4,200 6
Proceeds from sale of property and equipment................................... 13 30
Acquisitions of property and equipment......................................... (131) (54)
Funding of termination benefits................................................ (249) (202)
Business disposition - see Schedule A.......................................... (3,527) --
------------- -------------
Net cash provided by (used in) investing activities....................... 306 (220)
------------- -------------
Cash flows provided by (used in) financing activities:
Short-term debt, net........................................................... (394) (71)
Borrowings of long-term debt................................................... 441 --
Repayments of long-term debt................................................... (403) (323)
Exercise of options............................................................ -- 35
Purchase of treasury stock..................................................... (2) --
------------- -------------
Net cash used in financing activities..................................... (358) (359)
------------- -------------
Net (decrease) increase in cash and cash equivalents................................. 718 (716)
Cash and cash equivalents at beginning of period..................................... 1,150 1,213
------------- -------------
Cash and cash equivalents at end of period........................................... $1,868 $497
============= =============
Supplemental cash flow information:
Cash paid during period for interest........................................... $247 $78
============= =============
Cash paid during period for income taxes....................................... $91 $23
============= =============
Non-cash investing and financing activities:
Issuance of common stock in lieu of debt repayment............................ $764
Increase in investment in Comverge from issuance of preferred and common
stock credited to additional paid in capital................................ $1,085
Accounts payable incurred in investment of Comverge........................... $43
Adjustment of treasury stock and additional paid-in-capital with respect
to options exercised........................................................ $83
The accompanying notes are an integral part of these consolidated
financial statements.
- 4 -
DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS - APPENDIX A (unaudited)
(dollars in thousands)
SIX MONTHS ENDED JUNE 30,
----------------------------------
2003 2004
------------- -------------
Restated
Adjustments to reconcile net loss to net cash (used in) provided by operating
activities:
Depreciation and amortization....................................................... 357 122
Allowance for doubtful accounts..................................................... 61 (12)
Stock and stock option compensation................................................. 53 --
Accretion of discount on convertible note and amortization of
related costs and warrants................................................ 493 --
Minority interests.................................................................. (104) 48
Equity loss......................................................................... 550 684
Increase in liability for employee termination benefits............................. 321 335
Exchange adjustment on long-term debt............................................... 82 (34)
Loss (gain) on disposition of property and equipment................................ 4 (4)
Deferred taxes...................................................................... (96) (38)
Change in operating assets and liabilities:
Decrease in accounts receivable and other current assets....................... 3,988 687
(Decrease) increase in inventory............................................... 314 (42)
Increase (decrease) in other assets............................................ (102) (1)
Decrease in accounts payable and other liabilities............................. (1,680) (1,494)
------------- -------------
Total.......................................................................... $4,241 $251
------------- -------------
A. Assets/liabilities disposed of in disposition of Comverge:
Current assets..................................................................... $4,634
Property, equipment and other assets............................................... 1,190
Goodwill .......................................................................... 499
Intangibles........................................................................ 214
Short-term debt.................................................................... (3,880)
Current liabilities................................................................ (2,340)
Other liabilities.................................................................. (517)
Cash investment in Comverge........................................................ (3,327)
-------------
$(3,527)
=============
The accompanying notes are an integral part of these consolidated
financial statements.
- 5 -
DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(dollars in thousands)
NOTE 1: BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements of Data
Systems & Software Inc. ("DSSI") and subsidiaries (the "Company") have been
prepared in accordance with accounting principles generally accepted in the
United States of America for interim financial information and with the
instructions to Article 10 of Regulation S-X. Accordingly, they do not include
all of the information and footnotes required by accounting principles generally
accepted in the United States of America for complete consolidated financial
statements. In the opinion of management, all adjustments considered necessary
for a fair presentation have been included. Operating results for the six-month
period ended June 30, 2004 are not necessarily indicative of the results that
may be expected for the year ending December 31, 2004. These unaudited
consolidated financial statements should be read in conjunction with the
consolidated financial statements and footnotes thereto included in the
Company's Annual Report on Form 10-K for the year ended December 31, 2003.
Certain reclassifications have been made to the Company's prior period's
consolidated financial statements to conform to the current period's
consolidated financial statement presentation.
NOTE 2: FINANCING OF OPERATIONS
As of June 30, 2004, the Company had working capital of $965,
including $497 in non-restricted cash and cash equivalents. Net cash used in the
six months of 2004 was $716. Net cash of $137 was used in operating activities
during the first two quarters of 2004. The net loss for the six-month period
ended June 30, 2004 of $388 was primarily due to non-cash expenses, primarily
the Company's share of unconsolidated losses of Comverge of $684. The Company's
use of cash in operating activities during the first six months of 2004 was
primarily for payment of accounts payable and other liabilities in excess of
collections of trade accounts receivables of $807, net. Net cash of $220 used in
investing activities, was primarily to fund employee termination benefits in the
Company's majority owned dsIT subsidiary of $202. Net cash of $359 used in
financing activities was primarily for payment of debt of $394.
Approximately $309 of the total working capital at June 30, 2004, was
in dsIT. Due to Israeli tax and company law constraints, as well as the
significant minority interest in dsIT, such working capital and cash flows from
dsIT's operations are not readily available to finance U.S. activities.
dsIT is utilizing approximately $790 of its $1,100 lines of credit as
of June 30, 2004. dsIT's lines of credit are denominated in NIS and bear an
average interest rate of the Israeli prime rate plus 1.4% per annum. The Israeli
prime rate fluctuates and as of June 30, 2004 was 5.6%.
As of July 31, 2004 the Company's wholly owned US operations (i.e.,
excluding dsIT) had an aggregate of $502 in unrestricted cash and cash
equivalents, reflecting a $693 decrease from the balance as of December 31,
2003.
On April 19, 2004 the Company signed an agreement in principle with
Kardan for a strategic transaction in which, among other things, Kardan was to
invest $2,000 in exchange for common stock of the Company. The Company invested
significant effort and funds in order to complete that transaction. On July 26,
2004, Kardan informed the Company that they would not be proceeding with this
transaction. In light of this development, the Company is considering other
strategic alternatives, which could include possible restructuring, merger or
acquisition and/or financing transactions. Should the Company be unsuccessful in
completing a transaction providing the necessary liquidity, it may not have
sufficient funds to finance its US-based operating activities and corporate
activities for the 12 months following the date of this report.
- 6 -
DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except per share data)
NOTE 3: INVESTMENT IN COMVERGE
Comverge's summary results of operations for the three-months ended
June 30, 2004 is as follows:
Six months ended Three months ended
RESULTS OF OPERATIONS June 30, 2004 June 30, 2004
------------------- ------------------
Sales $8,601 $3,709
Gross profit $3,523 $1,669
Net loss $(4,240) $(2,156)
The change in the Company's Comverge investment, during the six
months ended June 30, 2004 is as follows:
Comverge common Comverge Net investment in
stock preferred stock Comverge
----------------- ------------------ --------------------
Balances as of December 31, 2003 $ (1,824) $ 1,892 $ 68
Equity loss in Comverge -- (684) (684)
----------------- ------------------ --------------------
Balances as of June 30, 2004 $ (1,824) $ 1,208 $ (616)
================= ================== ====================
In March 2004, Comverge closed on an additional agreement for private
equity financing in the amount of $3,000. This round of financing diluted the
Company's holdings in Comverge to 15% of its preferred equity and 37% of its
total equity.
NOTE 4--GOODWILL AND OTHER INTANGIBLE ASSETS
The entire balance of goodwill was in the Software Consulting and
Development segment. There were no acquisitions or impairments of goodwill
recorded during the six-month period ended June 30, 2004.
The Company's amortizable intangible assets consisted of software
licenses, with a gross carrying amount of $260, accumulated amortization of $164
and $146 and net balances of $96 and $114, as of June 30, 2004 and December 31,
2003, respectively. All intangibles assets are being amortized over their
estimated useful lives, which averaged 5 years and the amortization expense for
the six months ended June 30, 2003 and 2004 amounted to $42 and $16,
respectively.
NOTE 5: WARRANTY PROVISION
The Company grants its customers one-year product warranty. No
provision was made in respect of warranties based on the Company's previous
history.
-7-
DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except per share data)
NOTE 6: STOCK-BASED COMPENSATION
The Company applies Accounting Principles Board Opinion ("APB") No.
25, "Accounting for Stock Issued to Employees" and the related interpretations
in accounting for its stock option grants to employees and directors, with the
disclosure provisions of SFAS No. 123, "Accounting for Stock-Based
Compensation". Under APB No. 25, compensation expense is computed under the
intrinsic value method of accounting to the extent that the fair value of the
underlying shares on the date of the grant exceed the exercise price of the
share option, and thereafter amortized on a straight-line basis against income
over the expected service period.
Had compensation cost for the Company's option plans been determined
based on the fair value at the grant dates of awards, consistent with the method
prescribed in SFAS No. 123, the Company's net loss and loss per share would have
been changed to the pro forma amounts indicated below:
Six months ended June 30, Three months ended June 30,
------------------------------ ----------------------------
2003 2004 2003 2004
------------- ------------ ------------ -----------
Restated Restated
------------- ------------
Net income (loss) as reported ............................... $(3,471) $(388) $(1,710) $207
Plus: Stock-based employee and director compensation
expense included in reported net loss ............... 53 - 1 -
Less: Total stock-based employee compensation expense
determined under fair value based method for
all awards .......................................... 186 61 77 46
------------- ------------ ------------ -----------
Pro forma net income (loss) ................................. $(3,604) $(449) $(1,786) $161
============= ============ ============ ===========
Net income (loss) per share:
Basic and diluted - as reported ....................... $(0.46) $(0.05) $(0.22) $0.03
============= ============ ============ ===========
Basic and diluted - pro forma ......................... $(0.48) $(0.06) $(0.23) $0.02
============= ============ ============ ===========
The pro forma information in the above table also gives effect to the
application of SFAS No. 123 on the share option plans of the Company's
subsidiaries.
The Company accounts for stock-based compensation issued to
non-employees on a fair value basis in accordance with SFAS No. 123 and EITF
Issue No. 96-18, "Accounting for Equity Instruments That Are Issued to Other
Than Employees for Acquiring, or in Conjunction with Selling, Goods or Services"
and related interpretations.
-8-
DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands except per share data)
NOTE 7: SEGMENT INFORMATION
SOFTWARE ENERGY
CONSULTING AND INTELLIGENCE COMPUTER
DEVELOPMENT(*) SOLUTIONS(**) HARDWARE OTHER (***) TOTAL
Six months ended June 30, 2004:
Revenues from external customers $5,764 $- $8,766 $25 $14,555
Intersegment revenues - - - - -
Segment gross profit 1,258 - 1,793 25 3,076
Segment income (loss) 185 (684) 291 7 (201)
Six months ended June 30, 2003 (Restated):
Revenues from external customers $6,153 $4,700 $9,118 $24 $19,995
Intersegment revenues - 284 20 0 304
Segment gross profit 1,383 1,313 1,623 24 4,343
Segment income (loss) (431) (1,675) (91) (6) (2,203)
Three months ended June 30, 2004:
Revenues from external customers $2,854 $- $4,427 $19 $7,300
Intersegment revenues - - - - -
Segment gross profit 664 - 843 19 1,526
Segment income (loss) 122 (331) 93 10 (106)
Three months ended June 30, 2003 (Restated):
Revenues from external customers $3,020 $- $4,188 $16 $7,224
Intersegment revenues - - - - -
Segment gross profit 530 - 738 16 1,284
Segment income (loss) (447) (550) (141) - (1,138)
- -----------
(*) Excludes the results of the US-based consulting activities. See Note 8.
(**) Operating results of Comverge (in the Energy Intelligence Solutions
segment) are no longer consolidated beginning the second quarter of 2003.
(***) Represents the operations of a VAR software operation in Israel that did
not meet the quantitative thresholds of SFAS No. 131.
RECONCILIATION OF SEGMENT LOSS TO CONSOLIDATED NET LOSS
Six months ended Three months ended June 30,
June 30,
-------------------------------- ------------------------------
2003 2004 2003 2004
-------------- ------------- ------------- ------------
Restated Restated
-------------- -------------
Total income (loss) for reportable segments (2,197) (208) $(1,138) (116)
Other operational segment income (loss) (6) 7 - 10
-------------- ------------- ------------- ------------
Total operating income (loss) (2,203) (201) (1,138) (106)
Net loss of corporate headquarters (1,234) (535) (575) (35)
Discontinued operation income (loss) (34) 348 3 348
-------------- ------------- ------------- ------------
Total consolidated net income (loss) $(3,471) $(388) $(1,710) $207
-------------- ------------- ------------- ------------
-9-
DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(IN THOUSANDS EXCEPT PER SHARE DATA)
NOTE 8: DISCONTINUED OPERATIONS
Since the latter part of 2003, the Company has not recorded revenues
from its US-based consulting business. During the second quarter of 2004, the
Company decided to discontinue its efforts to reestablish this business as it
was previously conducted. As a result, the Company recorded a gain from
discontinued operations of $348, net of tax.
Assets and liabilities of the discontinued operation were as follows:
December 31, June 30,
2003 2004
---------- ----------
Current assets .......................... $ 2 $ --
========= ==========
Fixed assets ............................ $ 2 $ --
========= ==========
Current liabilities ..................... $ 729 $ --
========= ==========
Profit and loss of the discontinued operations within consulting
segment were as follows:
Six months ended June 30, Three months ended June 30,
-------------------------------- -------------------------------
2003 2004 2003 2004
------------- -------------- ----------- --------------
Restated Restated
------------- -----------
Sales ................................... $158 $ - $61 $ -
Cost of sales ........................... 141 - 54 -
------------- -------------- ----------- --------------
Gross profit ............................ 17 - 7 -
------------- -------------- ----------- --------------
Loss from operations .................... (30) (2) 5 (1)
Interest expense ........................ 4 4 2 2
------------- -------------- ----------- --------------
Net income (loss) from discontinued
operations ........................ $(34) $348 $3 $348
============= ============== =========== ==============
- 10 -
NOTE 9: RESTATEMENT
Results have been restated for the second quarter of 2003 following
the determination that no change of the Company's interest in Comverge occurred
following issuance of Comverge's preferred stock. In addition, the Company
utilized a final value based on a third party valuation of the 877,000 shares of
Comverge's common stock issued in connection with Comverge's purchase of 6D in
April 2003. As a result of these changes, the Company reduced the gain
previously recorded in its additional paid-in capital by $3,269, reducing the
investment and resulting equity in the losses of Comverge in second quarter of
2003. In addition, the Company determined that it is no longer committed to fund
Comverge and due to its negative common stock investment in Comverge, ceased
recording equity losses against its common investment and will continue to
record equity losses against its preferred investment in Comverge.
The effect of the restatement on the Company's net loss and basic and
diluted loss per share for the six and three month periods ended June 30, 2003
is shown below:
Six Three
months months
ended ended
----------------------------
June 30, 2003
----------------------------
Net loss as reported $(4,422) $(2,661)
Effect of restatement 951 951
------------- -----------
Net loss - as restated $(3,471) $(1,710)
============= ===========
Basic and diluted net loss per share - as reported $(0.58) $(0.34)
Effect of restatement 0.12 0.12
------------- -----------
Basic and diluted net loss per share - as restated $(0.46) $(0.22)
============= ===========
NOTE 10: SUBSEQUENT EVENT
On April 19, 2004, the Company signed an agreement in principle with
Kardan Communications Ltd. ("Kardan"), a subsidiary of Kardan N.V., for a
strategic transaction with Kardan or an affiliate thereof. The transaction
contemplated the purchase by the Company of certain interests in a portfolio of
communication and technologies companies owned by Kardan in exchange for the
issuance by the Company of common stock. The agreement in principle also
contemplated the issuance by the Company of additional shares of its common
stock to Kardan in exchange for the approximately 15% of the Company's dsIT
Technologies Ltd. subsidiary ("dsIT"), not currently owned by the Company and a
$2,000 cash investment. The agreement included an exclusivity provision
prohibiting DSSI from soliciting or engaging in discussions with respect to any
third party alternative transaction. Consummation of the transaction was subject
to completion of due diligence, negotiation and execution of definitive
agreements, and various other agreements, conditions and terms.
On July 26, 2004 Kardan Communications Ltd. informed the Company that
Kardan no longer intends to proceed with the transaction. In connection with the
transaction, the Company recorded approximately $82 in deferred costs, primarily
professional fees, to be included in its Comverge investment. The write-off of
these expenses will be included in the third quarter results.
- 11 -
DATA SYSTEMS & SOFTWARE INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion includes statements that are forward-looking
in nature. Whether such statements ultimately prove to be accurate depends upon
a variety of factors that may affect our business and operations. Certain of
these factors are discussed below under "Factors That May Influence Future
Results" and in "Item 1. Description of Business-Factors That May Influence
Future Results" in our Annual Report on Form 10-K for the year ended December
31, 2003 (the "2003 10-K").
OVERVIEW AND TREND INFORMATION
During the periods included in this report, we operated in three
reportable segments: software consulting and development, energy intelligence
solutions, and computer hardware. The following analysis should be read together
with the segment information provided in Note 7 to the interim unaudited
consolidated financial statements included in this quarterly report, which
information is hereby incorporated by reference into this Item 2.
Software Consulting and Development
Segment revenues continued to decrease in the second quarter of 2004,
primarily as a result of the decreasing backlog of fixed price development
projects. We continue to invest significant marketing efforts to introduce and
increase the visibility our products and expertise, including our participation
in the MarketReach America program, introducing our diver detection and sonar
system (DDS) for protecting critical coastal and offshore sites to the US
Homeland Security market.
Energy Intelligence Solutions
In June 2004, Comverge announced its fourth Virtual Peaking Capacity
TM ("VPC") program. This new program, contracted with ISO New England to be
operated in Southwestern Connecticut, brings the VPC now under contract to more
than 190 megawatts. These programs have significant marketing, introduction and
installation costs. Comverge expects revenues from these programs to begin
showing their positive effect towards the end of the third quarter and in the
fourth quarter of this year.
Computer Hardware
Sales in the second quarter of 2004 increased, compared to the
previous quarter and the second quarter of 2003. However, this increase was from
our traditional computer hardware VAR activity. The sales in this area are very
competitive and difficult to forecast, Databit is making significant efforts in
order to increase its sales in other areas such as WiFi and other network,
integrated hardware and software areas.
Corporate
Starting the beginning of this year, our Chief Executive Officer
retired from full-time employment, although at the Board's request he continues
to act as CEO as a consultant, under the terms prescribed by his employment
agreement. In the context of our continuing evaluation of corporate strategic
alternatives, on April 19, 2004 we signed a letter agreement with Kardan
Communications Ltd. ("Kardan"), a subsidiary of Kardan N.V., for a strategic
transaction with Kardan or an affiliate thereof. The transaction contemplated us
purchasing certain interests in a portfolio of communication and technologies
companies owned by Kardan in exchange for our issuing approximately 3.7 million
shares of common stock and issuing additional stock in exchange for Kardan's 15%
interest in our dsIT subsidiary and a $2 million cash investment. The agreement
in principal and consummation of the transactions were subject to completion of
due diligence, negotiation and execution of definitive agreements, and various
other agreements, conditions and terms.
On July 26, 2004 Kardan informed the Company that Kardan no longer
intends to proceed with the transaction with the Company contemplated by the
aforementioned agreement in principle. In light of this recent development, we
intend to consider other strategic alternatives, which could include possible
restructuring, merger or acquisition and/or financing transactions.
- 12 -
RESULTS OF OPERATIONS
The following table sets forth certain information with respect to the
consolidated results of operations of the Company for the three months ended
June 30, 2003 and 2004, including the percentage of total revenues during each
period attributable to selected components of the operations statement data and
for the period to period percentage changes in such components. Being that
starting the second quarter of 2003 we do not fully consolidate Comverge's
results of operations, but rather include them on an equity basis, the results
of the periods presented are not fully comparable.
Six months ended June 30, Three months ended June 30,
-------------------------------------------------- ----------------------------------------------
2003 2004 Change 2003 2004 Change
------------------- ------------------- ------- ----------------- ----------------- --------
Restated Restated
---------- ------- ---------- -------- ------- --------- ------ ---------- ------- --------
($,000) % of ($,000) % of % of ($,000) % of ($,000) % of % of
sales sales 2003 sales sales 2003
---------- ------- ---------- -------- --------- ------ ---------- ------
Sales $ 19,995 100% $14,555 100% (27) $7,224 100% $7,300 100% 1%
Cost of sales 15,652 78 11,479 79 (27) 5,940 82 5,774 79 (3)
---------- ------- ---------- -------- --------- ------ ---------- ------
Gross profit 4,343 22 3,076 21 (29) 1,284 18 1,526 21 18
R&D expenses 153 1 - 0 (100) - - - 0
SG&A expenses 6,363 32 3,328 23 (48) 2,106 29 1,498 21 (29)
---------- ------- ---------- -------- --------- ------ ---------- ------
Operating income (loss) (2,173) (11) (252) (2) (88) (822) (11) 28 1 (103)
Interest expense, net (619) (3) (9) 0 (99) (289) (4) 46 1 (116)
Other income (loss), net (165) (1) 237 2 (244) (151) (2) 136 2 (190)
---------- ------- ---------- -------- --------- ------ ---------- ------
Income (loss) before taxes on (2,957) (15) (24) 0 (99) (1,262) (17) 210 3 (117)
income
Taxes on income 34 0 (20) 0 (159) 22 0 (13) 0 (159)
---------- ------- ---------- -------- --------- ------ ---------- ------
Income (loss) from operations (2,991) (15) (4) 0 (100) (1,284) (18) 223 3 (117)
of the Company and its
consolidated subsidiaries
Share in losses of Comverge (550) (3) (684) (5) 24 (550) (8) (331) (5) (40)
Minority interests 104 - (48) 0 (146) 121 2 (33) 0 (127)
---------- ------- ---------- -------- --------- ------ ---------- ------
Net loss from continuing (3,437) (17) (736) (5) (79) (1,713) (24) (141) (2) (92)
operations
Net income (loss) from
discontinued operations,
net of tax (34) (0) 348 2 -- 3 0 348 5 --
---------- ------- ---------- -------- --------- ------ ---------- ------
Net income (loss) $(3,471) (17%) $(388) (3) (89) $(1,710) (24) $207 3% (112)%
========== ======= ========== ======== ======== ========= ====== ========== ======= ========
Sales. Sales in the second quarter of 2004 were similar to those in
the second quarter of 2003, with a slight shift of revenues from projects and
products in favor of revenue from services. The decrease in sales in the first
six months of 2004, as compared to the same period in 2003, was primarily due
the inclusion of Comverge's sales in the first quarter of 2003 and our no longer
consolidating Comverge's operations starting the second quarter of 2003.
Gross profit. Both the gross profit and the gross profit margin
improved in the second quarter of 2004 as compared to the second quarter of
2003, due to improved results in both our segments. At dsIT, although sales
marginally decreased, gross profit increased due our improved cost structure,
with the gross profit margin increasing from 18% in the second quarter of 2003,
to 23% in the second quarter of 2004. At Databit, the increased gross profits
was due to a combination of an increase in sales and improved gross profit
margins of 19% in the second quarter of 2004, compared to 17% in the second
quarter of 2003. The decrease in gross profits in the first six months of 2004
as compared to the same period in 2003, was attributable to the inclusion of
Comverge's gross profit in the first quarter of 2003 and our no longer
consolidating Comverge's operations starting the second quarter of 2003.
Selling, general and administrative expenses ("SG&A"). SG&A decreased
by $0.6 million, or 29%, in the second quarter of 2004, compared to second
quarter of 2003. This reflected a decrease in SG&A expenses in all our
activities, particularly in corporate activities. This decrease was in addition
to the decrease already achieved in the first quarter of 2004, compared to the
first quarter of 2003, bringing the total decrease in SG&A in the first six
months of 2004, from our ongoing consolidated activities, as compared to the
same period in 2003, to $0.9 million, or 20%. In addition, SG&A in the first six
months of 2003, included $2.2 million of Comverge's SG&A; since the second
quarter of 2003, we no longer consolidate Comverge's operations.
- 13 -
In our attempt to close the deal with Kardan we will have invested
approximately $0.3 million in professional fees that were to be included in our
investment. As described above, we were recently informed that Kardan does not
wish to proceed with the transaction. As a result these expenses will be charged
to our third quarter results.
Interest income (expense). The decrease in net finance expenses is
attributable to completing the accretion of discounts and the amortization of
related costs in connection with convertible debt and warrants in the first few
months of 2003, which accounted for a significant portion of these expenses in
the second quarter and first six months of 2003.
Equity loss in unconsolidated subsidiary. The equity loss in the
second quarter and first six months of 2004 was attributable to Comverge, whose
results we account for on an equity basis as of the second quarter of 2003. Our
share of Comverge's $2.2 million and $4.2 million of net losses in the second
quarter and first six months of 2004, respectively, was $0.3 million and $0.7
million, for those periods, respectively. Comverge's increased losses during the
2004 periods was primarily due to increased SG&A expenses, primarily
attributable to the marketing expenses associated with its new VPC programs.
Other income. During the second quarter of 2004, we received a
decision from the Israeli Supreme Court in our dispute with an Israeli bank.. In
its decision. the Court reversed the district court's award for costs in favor
of the bank for which we had had previously accrued. The court also remanded to
the district court our claims against the bank for a determination as to the
amount of damages As a result of the decision we recorded other income of
approximately $0.2 million.
Discontinued operations. Since the latter part of 2003, we have not
recorded revenues from our US based consulting business. During the second
quarter of 2004, we decided to discontinue our efforts to reestablish this
business as it was previously conducted. As a result, we recorded a gain from
discontinued operations of $0.3 million.
LIQUIDITY AND CAPITAL RESOURCES
As of June 30, 2004, we had working capital of $1.0 million,
including $0.5 million in non-restricted cash and cash equivalents. Net cash
used in the first quarter of 2004 was $0.7 million. Net cash of $0.1 million was
used in operating activities during the first two quarters of 2004. The net loss
for the six-month period ended June 30, 2004 of $0.4 million included non-cash
expenses primarily including our share of unconsolidated losses of Comverge of
$0.7 million. We used cash in our operating activities during the first two
quarters of 2004 primarily for the payment of accounts payable and other
liabilities in excess of collections of trade accounts receivables of $0.8
million, net. The net cash of $0.2 million used in investing activities was
primarily for funding employee termination benefits and the net cash of $0.4
million used in financing activities was primarily for the net payments of debt.
Of the total working capital at June 30, 2004, $0.3 million was in
our majority-owned dsIT subsidiary. Due to Israeli tax and company law
constraints as well as the significant minority interest in dsIT, such working
capital and cash flows from dsIT's operations are not readily available to
finance U.S. activities.
As of July 31, 2004 our wholly owned US operations (i.e., excluding
dsIT and Comverge) had an aggregate of $0.5 million in unrestricted cash and
cash equivalents, reflecting a $0.7 million decrease from the balance as of
December 31, 2003.
On April 19, 2004 we signed an agreement with Kardan for a strategic
transaction in which, amongst other things, Kardan was to invest $2,000 in
exchange for DSSI's common stock. We invested significant effort and funds in
order to complete that transaction. On July 26, 2004, Kardan informed us they
would not be proceeding with this transaction. In light of this development we
are considering other strategic alternatives, which could include possible
restructuring, merger or acquisition and/or financing transactions. Should we be
unsuccessful in completing a transaction providing the necessary liquidity to
finance our US-based operating activities we may not have sufficient funds to
finance our US-based operating activities and our corporate activities for the
12 months following the date of this report.
- 14 -
CONTRACTUAL OBLIGATIONS AND COMMITMENTS
Our contractual obligations and commitments at June 30, 2004,
excluding certain severance arrangements described below, principally include
obligations associated with our outstanding indebtedness, future minimum
operating lease obligations and contractual obligations to our CEO for payments
for his post-retirement consulting services to us, are as set forth in the table
below.
Cash Payments Due During Year Ending June 30,
---------------------------------------------------------------
(amounts in thousands)
----------------------
Contractual Obligations Total 2005 2006 2007 After 2007
- ----------------------- ----- ---- ---- ---- ----------
Long-term debt related to Israeli operations $934 $630 $202 $102 $--
Guarantees 410 410 -- -- --
Operating leases 2,877 1,212 595 435 635
Consulting agreement with CEO 1,304 -- 1,304 -- --
------ ------ ------ ---- ----
Total contractual cash obligations $5,525 $2,252 $2,101 $537 $635
====== ====== ====== ==== ====
We expect to finance these contractual commitments from cash on hand
and cash generated from operations.
Previously, we accrued a loss for contingent performance of bank
guarantees. Our remaining commitment under these guarantees is $0.4 million at
June 30 2004. We have collateralized a portion of these guarantees by means of a
deposit of $0.2 million as of June 30, 2004. The obligation is presented as a
current liability, though it is uncertain as to when actual payment may be made.
Under Israeli law and labor agreements, dsIT is required to make
severance payments to dismissed employees and to employees leaving employment in
certain other circumstances. The obligation for severance pay benefits, as
determined by the Israeli Severance Pay Law, is based upon length of service and
last salary. These obligations are substantially covered by regular deposits
with recognized severance pay and pension funds and by the purchase of insurance
policies. As of June 30, 2004, we had a total of $4.1 million in potential
severance obligations, of which approximately $2.6 million was funded with cash
to insurance companies and approximately $1.5 million was unfunded. The entire
$4.1 million was accrued for as of June 30, 2004.
Under the terms of his employment agreement with us, we have an
obligation to pay our Chief Executive Officer consulting fees over a seven-year
period starting January 1, 2004. During the first four years of the consulting
period, we have to pay our CEO $237,000 per year, equal to 50% of his salary in
effect as of December 31, 2003. During the last three years of the consulting
period, we must pay $119,000 per year, equal to 25% of that salary. In addition,
we must make contributions to a non-qualified defined contribution retirement
plan equal to 25% of the consulting fee. Under the terms of the employment
agreement, we are obliged to fund the amounts payable for the term of the
consulting period by the purchase of an annuity or similar investment product at
the beginning of the consulting period. The CEO has agreed to forgo the
commitment of immediate funding for the next 12 months or until we acquire
additional funding.
We also have obligations under various agreements and other
arrangements with officers and other employees with respect to severance
arrangements and multiyear employment agreements as described below.
- 15 -
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
In the normal course of business, we are exposed to fluctuations in
interest rates on lines-of-credit and long-term debt incurred to finance our
operations in Israel, currently $787,000 and $934,000, respectively.
Additionally, our monetary assets and liabilities (net liability of
approximately $726,000) in Israel are exposed to fluctuations in exchange rates.
We do not employ specific strategies, such as the use of derivative instruments
or hedging, to manage our interest rate or foreign currency exchange rate
exposures.
ITEM 4. CONTROLS AND PROCEDURES
EVALUATION OF CONTROLS AND PROCEDURES
Within 90 days prior to the date of filing of this report, we carried
out an evaluation, under the supervision and with the participation of our
management, including the Chief Executive Officer and the Chief Financial
Officer, of the design and operation of our disclosure controls and procedures.
Based on this evaluation, our Chief Executive Officer and Chief Financial
Officer concluded that our disclosure controls and procedures are effective for
gathering, analyzing and disclosing the information we are required to disclose
in the reports we file under the Securities Exchange Act of 1934, within the
time periods specified in the SEC's rules and forms.
CHANGES IN CONTROLS AND PROCEDURES
There have been no significant changes in our internal controls or in
other factors that could significantly affect internal controls subsequent to
the date of our most recent evaluation.
- 16 -
PART II - OTHER INFORMATION
ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
31.1 Rule 13a-14(a) Certification by Chief Executive Officer
31.2 Rule 13a-14(a) Certification by Chief Financial Officer
32.1 Section 1350 Certification by Chief Executive Officer *
32.2 Section 1350 Certification by Chief Financial Officer *
- ----------
* A signed original of this written statement required by Section 906 has been
provided to the Company and will be retained by the Company and furnished to the
Securities and Exchange Commission or its staff upon request.
(b) Reports on Form 8-K
(i) Report on Form 8-K, filed on April 5, 2004 (earliest event
reported March 31, 2004): Item 5 was reported.
(ii) Report on Form 8-K, filed on April 19, 2004 (earliest event
reported April 19, 2004): Item 5 was reported.
(iii) Report on Form 8-K, filed on May 17, 2004 (earliest event
reported May 17, 2004): Item 12 was reported.
(iv) Report on Form 8-K, filed on May 27, 2004 (earliest event
reported May 25, 2004): Item 5 was reported.
- 17 -
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 its
Principal Financial Officer thereunto duly authorized.
DATA SYSTEMS & SOFTWARE INC.
Dated: August 10, 2004
By: /s/ YACOV KAUFMAN
--------------------------------------
Yacov Kaufman
Vice President and Chief Financial
Officer
- 18 -