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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 SEPTEMBER 30, 2004
COMMISSION FILE NUMBER 0-19771
------------------------------------------------------------
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 November 12, 2004: 8,021,691
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
September 30, 2004.................................................. 1
Consolidated Statements of Operations and Comprehensive Loss
for the nine and three month periods ended
September 30, 2003 and 2004......................................... 2
Consolidated Statement of Changes in Shareholders' Equity
for the nine month period ended September 30, 2004.................. 3
Consolidated Statements of Cash Flows for the nine month periods ended
September 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......................................... 11
Item 3. Quantitative and Qualitative Disclosures
about Market Risk................................................. 15
Item 4. Controls and Procedures........................................... 15
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K.................................. 16
SIGNATURES................................................................ 17
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 31, September 30,
ASSETS 2004 2003
-------- --------
Current assets: (unaudited)
Cash and cash equivalents $ 1,213 $ 896
Restricted cash 241 241
Accounts receivable, net 7,053 6,361
Inventory 88 87
Other current assets 661 768
-------- --------
Total current assets 9,256 8,353
-------- --------
Investment in Comverge, net 68 --
Property and equipment, net 814 677
Other assets 613 540
Funds in respect of employee termination benefits 2,379 2,636
Goodwill 4,430 4,236
Other intangible assets, net 114 85
-------- --------
Total assets $ 17,674 $ 16,527
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Short-term bank credit and current
maturities of long-term debt $ 1,517 $ 1,394
Trade accounts payable 2,586 2,315
Accrued payroll, payroll taxes and social benefits 1,451 1,431
Other current liabilities 2,973 2,064
-------- --------
Total current liabilities 8,527 7,204
-------- --------
Investment in Comverge, net -- 1,268
-------- --------
Long-term liabilities:
Long-term debt 632 241
Other liabilities 227 84
Liability for employee termination benefits 3,721 4,088
-------- --------
Total long-term liabilities 4,580 4,413
-------- --------
Minority interests 1,367 1,351
-------- --------
Shareholders' equity:
Common stock - $0.01 par value per share:
Authorized - 20,000,000 shares;
Issued - 8,740,729 and 8,842,395 shares as of
December 31, 2003 and September 30, 2004, respectively 87 88
Additional paid-in capital 39,595 39,685
Warrants 461 461
Stock-based deferred compensation -- (64)
Accumulated deficit (33,069) (33,929)
Treasury stock, at cost - 838,704 and 820,704
shares at December 31, 2003 and
September 30, 2004, respectively (3,874) (3,791)
Accumulated other comprehensive loss -- (159)
-------- --------
Total shareholders' equity 3,200 2,291
-------- --------
Total liabilities and shareholders' equity $ 17,674 $ 16,527
======== ========
The accompanying notes are an integral part of these
condensed 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)
Nine months ended Three months ended
September 30, September 30,
---------------------- ----------------------
2003 2004 2003 2004
-------- -------- -------- --------
Sales:
Products .......................................... $ 16,900 $ 13,157 $ 3,779 $ 4,764
Services .......................................... 7,306 6,831 2,327 2,141
Projects .......................................... 2,459 2,049 564 577
-------- -------- -------- --------
Total sales ................................. 26,665 22,037 6,670 7,482
-------- -------- -------- --------
Cost of sales:
Products .......................................... 13,951 10,801 3,202 3,887
Services .......................................... 5,082 5,049 1,665 1,670
Projects .......................................... 2,087 1,655 601 469
-------- -------- -------- --------
Total cost of sales ......................... 21,120 17,505 5,468 6,026
-------- -------- -------- --------
Gross profit ...................................... 5,545 4,532 1,202 1,456
Operating expenses:
Research and development ............................ 153 -- -- --
Selling, marketing, general and administrative ...... 8,345 5,496 1,982 2,168
-------- -------- -------- --------
Total operating expenses .................... 8,498 5,496 1,982 2,168
-------- -------- -------- --------
Operating loss ......................................... (2,953) (964) (780) (712)
Interest income ........................................ 42 79 15 2
Interest expense ....................................... (714) (125) (68) (39)
Other income (expense), net ............................ (408) 239 (243) 2
-------- -------- -------- --------
Loss before taxes on income ....................... (4,033) (771) (1,076) (747)
Taxes on income ........................................ 7 17 (27) 37
-------- -------- -------- --------
Loss from operations of the Company and its consolidated
subsidiaries ........................................ (4,040) (788) (1,049) (784)
Share of losses in Comverge ............................ (1,161) (1,066) (611) (382)
Gain on sale of shares in Comverge ..................... -- 705 -- 705
Minority interests ..................................... 139 (59) 35 (11)
-------- -------- -------- --------
Net loss from continuing operations ............. (5,062) (1,208) (1,625) (472)
Net income (loss) from discontinued operations,
net of tax .......................................... (38) 348 (4) --
-------- -------- -------- --------
Net loss ........................................ (5,100) (860) (1,629) (472)
-------- -------- -------- --------
Differences from translation of financial statements of
subsidiaries ........................................ -- (159) -- 11
-------- -------- -------- --------
Comprehensive loss .............................. $ (5,100) $ (1,019) $ (1,629) $ (461)
======== ======== ======== ========
Basic and diluted net income (loss) per share:
Loss per share from continuing operations ............ $ (0.66) $ (0.15) $ (0.21) $ (0.06)
Discontinued operations .............................. (0.00) 0.04 (0.00) (0.00)
-------- -------- -------- --------
Basic and diluted net loss per share ................. $ (0.66) $ (0.11) $ (0.21) $ (0.06)
======== ======== ======== ========
Weighted average number of shares outstanding:
Basic and diluted .............................. 7,680 7,927 7,894 7,936
======== ======== ======== ========
The accompanying notes are an integral part of these
condensed consolidated financial statements.
- 2 -
DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY (UNAUDITED)
NINE MONTHS ENDED SEPTEMBER 30, 2004
(in thousands)
Accumulated
Additional Stock-Based Other
Number Common Paid-In Deferred Accumulated Treasury Comprehensive
of Shares Stock Capital Warrants Compensation 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
Shares issued as
compensation ...... 100 1 70 -- -- -- -- -- 71
Changes related
to stock-based
deferred
compensation ...... -- -- 68 -- (68) -- -- -- --
Amortization of
stock-based
deferred
compensation ...... -- -- -- -- 4 -- -- -- 4
Net loss ............ -- -- -- -- -- (860) -- -- (860)
Differences from
translation of
subsidiaries'
financial
statements ........ -- -- -- -- -- -- -- (159) (159)
-------- -------- -------- -------- -------- -------- -------- -------- --------
Balances as of
September 30, 2004 8,842 $ 88 $ 39,685 $ 461 $ (64) $(33,929) $ (3,791) $ (159) $ 2,291
======== ======== ======== ======== ======== ======== ======== ======== ========
* Less than $1
The accompanying notes are an integral part of these
condensed consolidated financial statements.
- 3 -
DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(dollars in thousands)
Nine months ended September 30,
------------------------------
2003 2004
------- -------
Cash flows used in operating activities:
Net loss ......................................................................... $(5,100) $ (860)
Adjustments to reconcile net loss to net cash provided by operating activities -
Schedule A: ..................................................................... 4,913 318
------- -------
Net cash used in operating activities ........................................ (187) (542)
------- -------
Cash flows provided by (used in) investing activities:
Restricted cash .................................................................. 4,200 --
Proceeds from sale of property and equipment ..................................... 11 52
Proceeds from sale of Comverge shares ............................................ -- 975
Acquisitions of property and equipment ........................................... (193) (99)
Funding of termination benefits .................................................. (243) (257)
Business disposition - see Schedule B ............................................ (3,527) --
------- -------
Net cash provided by investing activities .................................... 248 671
------- -------
Cash flows provided by (used in) financing activities:
Short-term debt, net ............................................................. (503) --
Borrowings of long-term debt ..................................................... 441 --
Repayments of long-term debt ..................................................... (479) (481)
Investment in subsidiary by minority interest .................................... 22 --
Exercise of options .............................................................. 17 35
Purchase of treasury stock ....................................................... (2) --
------- -------
Net cash used in financing activities ........................................ (504) (446)
------- -------
Net decrease in cash and cash equivalents ............................................. (443) (317)
Cash and cash equivalents at beginning of period ...................................... 1,150 1,213
------- -------
Cash and cash equivalents at end of period ............................................ $ 707 $ 896
======= =======
Supplemental cash flow information:
Cash paid during period for interest ............................................. $ 308 $ 113
======= =======
Cash paid during period for income taxes ......................................... $ 106 $ 35
======= =======
Non-cash investing and financing activities:
Issuance of common stock in lieu of debt repayment .............................. $ 803
Increase in investment in Comverge from issuance of common stock credited to
additional paid in capital ..................................................... $ 1,085
The accompanying notes are an integral part of these condensed
consolidated financial statements.
- 4 -
DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(dollars in thousands)
Nine months ended September 30,
------------------------------
2003 2004
----------- ----------
Schedule A:
Adjustments to reconcile net loss to net cash (used in) provided by operating
activities:
Depreciation and amortization..................................................... $447 $177
Stock and stock-based compensation................................................ 55 75
Accretion of discount on convertible note and amortization of
related costs and warrants............................................. 493 -
Minority interests................................................................ (139) 59
Share of losses in Comverge....................................................... 1,161 1,066
Loss on write-off of stockholder's note........................................... 298 -
Increase in liability for employee termination benefits........................... 283 367
Exchange adjustment on long-term debt............................................. 49 (33)
Loss (gain) on disposition of property and equipment.............................. 3 (4)
Gain on sale of Comverge shares................................................... - (705)
Change in deferred taxes.......................................................... (166) (9)
Change in operating assets and liabilities:
Decrease in accounts receivable and other assets.............................. 4,332 658
Increase in inventory......................................................... 326 1
Decrease in accounts payable and other liabilities............................ (2,229) (1,334)
----------- -----------
Total......................................................................... $4,913 $ 318
=========== ===========
Schedule B:
Assets and 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 condensed
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 nine-month
period ended September 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 September 30, 2004, the Company had working capital of $1,149,
including $896 in non-restricted cash and cash equivalents. Net cash used in the
nine months of 2004 was $317. Net cash of $542 was used in operating activities
during the first three quarters of 2004. The net loss for the nine-month period
ended September 30, 2004 of $860, was due primarily to the net loss from the
Company's investment in Comverge of $361 and expenses incurred in the
unsuccessful transaction with Kardan Communications Ltd. of $342. The Company's
use of cash in operating activities during the first nine months of 2004 was
primarily for payment of accounts payable and other liabilities in excess of
collections of trade accounts receivables of $676, net. Net cash of $671
provided by investing activities, was primarily from the net proceeds of $975
from the sale by the Company of preferred shares of its Comverge equity
investment, less amounts used to fund employee termination benefits in the
Company's majority-owned dsIT subsidiary of $257. Net cash of $446 used in
financing activities was primarily for payment of debt of $481.
Approximately $287 of the total working capital at September 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 was utilizing approximately $859 of its $1,100 lines of credit as of
September 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 September 30, 2004 was 5.6%.
The Company intends to fund its US activities with the cash available and
anticipated profits from its US operations. The Company is seeking and
considering various restructuring, merger or acquisition and/or financing
transactions. Should the Company need additional liquidity to finance its US
activities and should it be unsuccessful in completing a timely transaction
providing the necessary liquidity, it may not have sufficient funds to finance
its US activities. In such event, the Company might need to sell additional
Comverge shares.
- 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 and nine month
periods ended September 30, 2004 are as follows:
Nine months Three months
ended ended
September 30, September 30,
Results of Operations 2004 2004
------------- -------------
Sales $12,375 $ 3,774
Gross profit $ 5,057 $ 1,534
Net loss $(6,947) $(2,707)
The change in the Company's Comverge investment, during the nine months
ended September 30, 2004 is as follows:
Comverge Comverge Net investment
common stock preferred stock in Comverge
------------ --------------- -----------
Balances as of December 31, 2003 $(1,824) $ 1,892 $ 68
Shares sold -- (270) (270)
Equity loss in Comverge -- (1,066) (1,066)
------- ------- -------
Balances as of September 30, 2004 $(1,824) $ 556 $(1,268)
======= ======= =======
In September 2004, the Company signed an agreement with certain other
shareholders of Comverge's Series A Preferred Stock for the sale by the Company
to other shareholders of shares of Comverge Series A Preferred Stock for
approximately $1,000, resulting in a gain of $705. After giving effect to this
transaction, the Company held approximately 11% of Comverge's preferred equity
and approximately 34% of its total equity.
In October 2004 Comverge completed the sale of preferred stock to
investors. For more detail see Note 9 - Subsequent Event.
Note 4: Goodwill
The entire balance of goodwill was in the software consulting and
development segment. There were no acquisitions or impairments of goodwill
recorded during the nine-month period ended September 30, 2004.
The Company's amortizable intangible assets consisted of software
licenses, with a gross carrying amount of $253, accumulated amortization of $163
and $139 and net balances of $90 and $114, as of September 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 nine months ended September 30, 2003 and 2004 amounted to $59 and $24,
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:
Nine months ended Three months ended
September 30, September 30,
------------- -------------
2003 2004 2003 2004
------- ------- ------- -------
Net loss as reported ........................ $(5,100) $ (860) $(1,629) $ (472)
Plus: Stock-based employee and director
compensation expense included in
reported net loss .................... 55 75 2 75
Less: Total stock-based employee compensation
expense determined under fair value
based method for all awards .......... 186 136 2 75
------- ------- ------- -------
Pro forma net loss .......................... $(5,231) $ (921) $(1,629) $ (472)
======= ======= ======= =======
Net loss per share:
Basic and diluted - as reported ....... $ (0.66) $ (0.11) $ (0.21) $ (0.06)
======= ======= ======= =======
Basic and diluted - pro forma ......... $ (0.68) $ (0.12) $ (0.21) $ (0.06)
======= ======= ======= =======
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
development solutions Computer
(*) (**) hardware Other (***) Total
-------- -------- -------- -------- --------
Nine months ended September 30, 2004:
Revenues from external customers $ 8,676 $ -- $ 13,335 $ 26 $ 22,037
Intersegment revenues -- -- -- -- --
Segment gross profit 2,056 -- 2,450 26 4,532
Segment income (loss) 208 (361) 231 6 84
Nine months ended September 30, 2003:
Revenues from external customers $ 8,966 $ 4,700 $ 12,974 $ 25 $ 26,665
Intersegment revenues -- 284 20 -- 304
Segment gross profit 1,931 1,313 2,276 25 5,545
Segment loss (455) (2,772) (247) (17) (3,491)
Three months ended September 30, 2004:
Revenues from external customers $ 2,675 $ -- $ 4,806 $ 1 $ 7,482
Intersegment revenues -- -- -- -- --
Segment gross profit 562 -- 893 1 1,456
Segment income (loss) 23 323 (60) (1) 285
Three months ended September 30, 2003:
Revenues from external customers $ 2,813 $ -- $ 3,856 $ 1 $ 6,670
Intersegment revenues -- -- -- -- --
Segment gross profit 548 -- 653 1 1,202
Segment loss (24) (909) (156) (11) (1,100)
- -----------
(*) Excludes the discontinued 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
Nine months ended Three months ended
September 30, September 30,
----------------------- -----------------------
2003 2004 2003 2004
------- ------- ------- -------
Total income (loss) for reportable segments $(3,474) $ 78 $(1,089) $ 286
Other operational segment income (loss) (17) 6 (11) (1)
------- ------- ------- -------
Total operating income (loss) (3,491) 84 (1,100) 285
Net loss of corporate headquarters (1,571) (1,292) (525) (757)
Discontinued operations income (loss) (38) 348 (4) --
------- ------- ------- -------
Total consolidated net loss $(5,100) $ (860) $(1,629) $ (472)
======= ======= ======= =======
-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, 2003 September 30, 2004
----------------- ------------------
Current assets ............................. $ 2 $ --
==== ====
Fixed assets ............................... $ 2 $ --
==== ====
Current liabilities ........................ $729 $ --
==== ====
Profit and loss of the discontinued operations within consulting segment
were as follows:
Nine months ended Three months ended
September 30, September 30,
------------- -------------
2003 2004 2003 2004
---- ---- ---- ----
Restated Restated
-------- --------
Sales ............................... $ 172 $ -- $ 14 $--
Cost of sales ....................... 154 -- 13 --
----- ----- ----- ---
Gross profit ........................ 18 -- 1 --
----- ----- ----- ---
Loss from operations ................ (31) (2) (1) --
Interest expense .................... 7 4 3 --
----- ----- ----- ---
Net income (loss) from discontinued
operations ...................... $ (38) $ 348 $ (4) $--
===== ===== ===== ===
Note 9: Subsequent Event
In October 2004, Comverge closed on the sale of additional preferred
equity financing in the amount of $13,600. The preferred equity is senior to the
preferred stock of Comverge owned by the Company. This round of financing
diluted the Company's holdings to approximately 7% of Comverge's preferred
equity and approximately 25% of its total equity.
- 10 -
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 third 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 October 2004, Comverge completed its latest round of equity financing,
raising approximately $13.6 million. These funds will facilitate Comverge's
ability to enter into additional fourth Virtual Peaking Capacity TM ("VPC")
programs. DSSI did not participate in this round of finance, which included the
existing investors and new investors, and as a result our equity in Comverge was
diluted to approximately 7% of Comverge's preferred equity and approximately 25%
of its total equity.
COMPUTER HARDWARE
Sales in the third quarter of 2004 continued to increase and were higher
than the previous quarter and the third 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 of his employment agreement.
RECENT DEVELOPMENT
As of September 30, 2004 our shareholders equity was $2.3 million, $0.2
million short of the $2.5 million minimum required for continued listing on The
Nasdaq SmallCap Market. As a result, our securities may be delisted from The
Nasdaq Stock Market. We intend to present to Nasdaq our plan to regain and
maintain compliance with the minimum shareholders equity requirement. There can
be no assurance that we will be able to maintain the listing for our securities
on the Nasdaq Stock Market.
- 11 -
Results of Operations
The following table sets forth certain information with respect to the
unaudited consolidated results of operations of the Company for the three and
nine month periods ended September 30, 2003 and 2004, including the percentage
of total revenues during each period attributable to selected components of the
operations statement data and for the period to period percentage changes in
such components. Begining the second quarter of 2003 we do not fully consolidate
Comverge's results of operations, but include such results them on an equity
basis, the results of the nine month periods presented are therefore not fully
comparable.
Nine months ended September 30,
----------------------------------------------------------
2003 2004 Change
-------------------- -------------------- --------
% of % of % of
($,000) sales ($,000) sales 2003
-------- -------- -------- -------- --------
Sales $ 26,665 100% $ 22,037 100% -17%
Cost of sales 21,120 79 17,505 79 -17
-------- -------- -------- -------- --------
Gross profit 5,545 21 4,532 21 -18
R&D expenses 153 1 -- 0 -100
SMG&A expenses 8,345 31 5,496 25 -34
-------- -------- -------- -------- --------
Operating loss (2,953) (11) (964) (4) -67
Interest expense, net (672) (3) (46) 0 -93
Other income (loss), net (408) (2) 239 1 -159
-------- -------- -------- -------- --------
Loss before taxes on income (4,033) (15) (771) (3) -81
Taxes on income 7 0 17 0 143
-------- -------- -------- -------- --------
Loss from operations of the (4,040) (15) (788) (4) -80
Company and its
consolidated
subsidiaries
Share of losses in Comverge (1,161) (4) (1,066) (5) -8
Gain on sale of share in Comverge -- -- 705 3
Minority interests 139 1 (59) 0 -142
-------- -------- -------- -------- --------
Net loss from
continuing operations (5,062) (19) (1,208) (5) -76
Net income (loss) from
discontinued operations,
net of tax (38) 0 348 2 -1,016
-------- -------- -------- -------- --------
Net loss $ (5,100) (19%) $ (860) (4)% -83%
======== ======== ======== ======== ========
Three months ended September 30,
----------------------------------------------------------
2003 2004 Change
-------------------- -------------------- --------
% of % of % of
($,000) sales ($,000) sales 2003
-------- -------- -------- -------- --------
Sales $ 6,670 100% $ 7,482 100% 12%
Cost of sales 5,468 82 6,026 81 10
-------- -------- -------- -------- --------
Gross profit 1,202 18 1,456 19 21
R&D expenses -- -- -- 0
SMG&A expenses 1,982 30 2,168 29 9
-------- -------- -------- -------- --------
Operating loss (780) (12) (712) (10) -9
Interest expense, net (53) (1) (37) 0 -30
Other income (loss), net (243) (4) 2 0 -101
-------- -------- -------- -------- --------
Loss before taxes on income (1,076) (16) (747) (10) -31
Taxes on income (27) (0) 37 0 -237
-------- -------- -------- -------- --------
Loss from operations of the (1,049) (16) (784) (10) -25
Company and its
consolidated
subsidiaries
Share of losses in Comverge (611) (9) (382) (5) -37
Gain on sale of share in Comverge -- -- 705 9
Minority interests 35 1 (11) 0 -131
-------- -------- -------- -------- --------
Net loss from
continuing operations (1,625) (24) (472) (6) -71
Net income (loss) from
discontinued operations,
net of tax (4) 0 -- 0 -100
-------- -------- -------- -------- --------
Net loss $ (1,629) (24) $ (472) (6)% -71%
======== ======== ======== ======== ========
Sales. The decrease in sales in the first nine months of 2004, as compared
to the same period in 2003, was due the inclusion of Comverge's sales of $4.7
million in the first quarter of 2003; commencing the second quarter of 2003, we
no longer consolidated Comverge's operations. The increase in sales in the third
quarter of 2004 was due to a $1 million increase in computer hardware sales,
which was partially offset by a $0.1 million decrease in software consulting and
development sales. The increase in computer hardware sales was from Databit's
existing customers. The decrease in software consulting and development sales
was due a decrease in development project revenues.
Gross profit. The decrease in gross profits in the first nine months of
2004 as compared to the same period in 2003, was attributable to the inclusion
of Comverge's gross profit of $1.3 million in the first quarter of 2003. This
decrease was net of an increase in gross profit in both of our consolidated
segments. In the third quarter of 2004, gross profit and gross profit margins
increased in both operating segments, compared to the third quarter of 2003.
Selling, marketing, general and administrative expenses ("SMG&A"). The
decrease in SMG&A in the first nine months of 2004 as compared to SMG&A in the
first nine months of 2003, was attributable to the fact that SMG&A in the 2003
period included $2.2 million of Comverge's SMG&A and since the second quarter of
2003, we no longer consolidate Comverge's operations. The remaining decrease in
SMG&A was due to decreased corporate G&A and a decrease in SMG&A in our software
consulting and development segment. The increase in SMG&A in the third quarter
of 2004 as compared to third quarter of 2003, was primarily due to professional
fees incurred in connection with the contemplated transaction with Kardan, which
was discontinued by Kardan in the third quarter of 2004.
- 12 -
Share of losses in Comverge. The equity loss in the third quarter and
first nine months of 2004 was attributable to our investment in Comverge, whose
results we account for on an equity basis as of the second quarter of 2003. Our
share of Comverge's net loss of $2.7 million and $6.9 million, in the third
quarter and first nine months of 2004, was $0.4 million and $1.1 million,
respectively. Comverge's increased losses during the 2004 periods was primarily
due to increased SMG&A expenses, primarily attributable to the marketing
expenses associated with its new VPC programs and the deferral of revenues
pending the completion of certain test to be performed within these programs.
Gain on sale of shares in Comverge. During the third quarter of 2004, we
sold a portion of our investment in Comverge, as a result which we recorded
income of approximately $0.7 million.
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 courts 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 September 30, 2004, we had working capital of $1.1 million,
including $0.9 million in non-restricted cash and cash equivalents. Net cash
used in the first three quarters of 2004 was $0.3 million. Net cash of $0.5
million was used in operating activities during the first three quarters of
2004. The net loss for the nine-month period ended September 30, 2004 of $0.9
million, resulted primarily from the net loss from our investment in Comverge of
$0.4 million and expenses incurred in the unsuccessful transaction with Kardan
of $0.3 million. We used cash in our operating activities during the first three
quarters of 2004 primarily for the payment of accounts payable and other
liabilities in excess of collections of trade accounts receivables of $0.7
million, net. The net cash of $0.7 million provided by investing activities was
primarily related to the net proceeds received from the sale of Comverge shares
of $1.0 million less the funding employee termination benefits of $0.3 million.
Net cash of $0.5 million used in financing activities was primarily for the net
payment of debt. Of the total working capital at September 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 October 31, 2004 our wholly owned US operations (i.e., excluding
dsIT and Comverge) had an aggregate of $0.9 million in unrestricted cash and
cash equivalents, reflecting a $0.2 million decrease from the balance as of
December 31, 2003.
We intend to fund our US operations and corporate activities with the cash
available and anticipated profits from our US operations. Based on our operating
plans, we believe that we have sufficient liquidity to finance our US operations
and corporate activities for at least the 12 months following the date of this
report. There is, however, no assurance that we will be able to operate our
business and activities as planned. We continue to seek and consider various
restructuring, merger or acquisition and/or financing transactions which would
increase shareholders equity and provide additional liquidity. Should we require
additional liquidity and should we be unsuccessful in completing a timely
transaction providing the necessary liquidity, we may not have sufficient funds
to finance our US activities. In such event, we may need to sell additional
Comverge shares in order to finance our US activities.
- 13 -
Contractual Obligations and Commitments
Our contractual obligations and commitments at September 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 the Year Ending September 30,
--------------------------------------------------------------
(amounts in thousands)
Contractual Obligations Total 2005 2006 2007 After 2007
----------------------- ------ ------ ------ ------ ------
Long-term debt related to Israeli operations $ 777 $ 535 $ 179 $ 63 $--
Guarantees 410 410 -- -- --
Operating leases 2,825 1,084 606 422 713
Consulting agreement with CEO 1,127 -- 1,127 -- --
------ ------ ------ ------ ------
Total contractual cash obligations $5,139 $2,029 $1,912 $ 485 $ 713
====== ====== ====== ====== ======
We expect to finance these contractual commitments from cash on hand and
cash generated from operations.
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 and continue benefits as provided for under his
employment agreement. Under the terms of the employment agreement, we are
obligated 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.
Our Israeli subsidiaries provided various performance, advance and tender
guarantees as required in the normal course of its operations. As at September
30, 2004, such guarantees totaled approximately $422,000 and were due to expire
through October 2005.
- 14 -
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 $0.9 million and $0.5 million, respectively.
Additionally, our monetary assets and liabilities (net liability of
approximately $0.9 million) 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.
- 15 -
PART II - Other information
Item 6: Exhibits and Reports on Form 8-K
(a) Exhibits
10.1 Employment Agreement executed on August 19, 2004 and effective
as of January 1, 2004 between Databit Inc., Shlomie
Morgenstern and the Registrant.
10.2 Restricted Stock Award Agreement, dated as of August 19, 2004,
between the Registrant and Shlomie Morgenstern.
10.3 Stock Option Agreement dated as of August 19, 2004, between
the Registrant and Shlomie Morgenstern.
10.4 Second Amended and Restated Co-Sale And First Refusal
Agreement dated as of October 26, 2004, by and among Comverge,
Inc., the Registrant, and other persons party thereto.
31(a) Rule 13a-14(a) Certification by Chief Executive Officer
31(b) Rule 13a-14(a) Certification by Chief Financial Officer
32(a) Section 1350 Certification by Chief Executive Officer *
32(b) 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 July 28, 2004 (earliest event reported
July 26, 2004): Item 5 was reported.
(ii) Report on Form 8-K, filed on August 13, 2004 (earliest event reported
August 13, 2004): Item 2 was reported.
(iii) Report on Form 8-K, filed on August 17, 2004 (earliest event
reported August 13, 2004): Item 7 was reported.
(iv) Report on Form 8-K, filed on August 19, 2004 (earliest event reported
August 18, 2004): Item 5 was reported.
(v) Report on Form 8-K, filed on September 10, 2004 (earliest event
reported September 9, 2004): Item 1.01 was reported.
- 16 -
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: November 12, 2004
By: /s/ YACOV KAUFMAN
---------------------------------
Yacov Kaufman
Vice President and Chief Financial Officer
- 17 -