Attached files
file | filename |
---|---|
EX-31.1 - ITEX CORP | v205402_ex31-1.htm |
EX-31.2 - ITEX CORP | v205402_ex31-2.htm |
EX-32.1 - ITEX CORP | v205402_ex32-1.htm |
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
WASHINGTON,
D. C. 20549
FORM
10-Q
Mark
One)
x
|
Quarterly
report pursuant to Section 13 or 15(d) of the Securities Exchange Act of
1934
|
For
the quarterly period ended October 31, 2010.
OR
¨
|
Transition
report pursuant to Section 13 or 15(d) of the Securities Exchange Act of
1934
|
For the
transition period from
to
Commission
File Number 0-18275
ITEX
CORPORATION
(Exact
name of registrant as specified in its charter)
Nevada
|
93-0922994
|
|
(State
or other jurisdiction of
incorporation or organization) |
(IRS
Employer
Identification
No.)
|
3326 160th Ave SE, Suite 100, Bellevue, WA
98008-6418
|
(Address
of principal executive offices)
(425)
463-4000
(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.
Yes x No ¨
Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this
chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such
files). Yes ¨ No ¨
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
the definitions of “large accelerated filer,” “accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
¨
|
Large
accelerated filer
|
¨
|
Accelerated
filer
|
||
¨
|
Non-accelerated
filer
|
x
|
Smaller
reporting company
|
||
(Do
not check if a smaller
reporting
company)
|
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange
Act).
Yes
¨ No
x
As of
October 31, 2010, we had 3,605,320 shares of common stock
outstanding.
ITEX
CORPORATION
FORM
10-Q
For the
Three-month Period Ended October 31, 2010
INDEX
Page(s)
|
||
PART I.
|
Financial
Information
|
|
ITEM
1.
|
Financial
Statements
|
|
Consolidated
Balance Sheets as of October 31, 2010 (unaudited) and July 31,
2010
|
1
|
|
Consolidated
Statements of Income for the Three-Months Ended October 31, 2010 and 2009
(unaudited)
|
2
|
|
Consolidated
Statement of Stockholders’ Equity for the Three-Months Ended October 31,
2010 (unaudited)
|
3
|
|
Consolidated
Statements of Cash Flows for the Three-Months Ended October 31, 2010 and
2009 (unaudited)
|
4
|
|
Notes
to Consolidated Financial Statements (unaudited)
|
5
|
|
ITEM
2.
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
|
18
|
ITEM
4T.
|
Controls
and Procedures
|
38
|
PART
II.
|
Other
Information
|
39
|
ITEM
1.
|
Legal
Proceedings
|
39
|
ITEM
6.
|
Exhibits
|
39
|
Signatures
|
39
|
PART
I. FINANCIAL INFORMATION
ITEM
1. FINANCIAL STATEMENTS
ITEX
CORPORATION
CONSOLIDATED
BALANCE SHEETS
(In
thousands, except par value)
October
31, 2010
|
July
31, 2010
|
|||||||
(unaudited)
|
||||||||
ASSETS
|
||||||||
Current
assets:
|
||||||||
Cash
and cash equivalents
|
$ | 5,399 | $ | 5,169 | ||||
Accounts
receivable, net of allowance of $421 and $349
|
773 | 859 | ||||||
Prepaid
expenses
|
102 | 118 | ||||||
Loans
and advances
|
39 | 55 | ||||||
Prepaid
advertising credits, net of long-term portion
|
157 | 157 | ||||||
Deferred
tax asset
|
1,018 | 1,018 | ||||||
Notes
receivable - corporate office sales
|
113 | 125 | ||||||
Other
current assets
|
19 | 24 | ||||||
Total
current assets
|
7,620 | 7,525 | ||||||
Property
and equipment, net of accumulated depreciation of $402 and
$380
|
148 | 169 | ||||||
Intangible
assets, net of accumulated amortization of $2,329 and
$2,205
|
941 | 994 | ||||||
Deferred
tax asset, net of current portion
|
4,880 | 5,000 | ||||||
Notes
receivable - corporate office sales, net of current
portion
|
531 | 480 | ||||||
Other
long-term assets
|
88 | 188 | ||||||
Goodwill
|
3,282 | 3,282 | ||||||
Total
assets
|
$ | 17,490 | $ | 17,638 | ||||
LIABILITIES
AND STOCKHOLDERS' EQUITY
|
||||||||
Current
liabilities:
|
||||||||
Accounts
and other expenses payable
|
$ | 206 | $ | 124 | ||||
Commissions
payable to brokers
|
316 | 661 | ||||||
Accrued
commissions to brokers
|
898 | 789 | ||||||
Accrued
expenses
|
652 | 705 | ||||||
Deferred
revenue
|
117 | 133 | ||||||
Advance
payments
|
135 | 167 | ||||||
Total
current liabilities
|
2,324 | 2,579 | ||||||
Long-term
liabilities:
|
||||||||
Other
long-term liabilities
|
173 | 190 | ||||||
Total
Liabilities
|
2,497 | 2,769 | ||||||
Commitments
and contingencies
|
||||||||
Stockholders’
equity:
|
||||||||
Common
stock, $0.01 par value; 9,000 shares authorized;
3,579
and 3,576 shares issued and outstanding, respectively
|
36 | 36 | ||||||
Additional
paid-in capital
|
29,149 | 29,138 | ||||||
Accumulated
deficit
|
(14,192 | ) | (14,305 | ) | ||||
Total
stockholders' equity
|
14,993 | 14,869 | ||||||
Total
liabilities and stockholders’ equity
|
$ | 17,490 | $ | 17,638 |
The
accompanying notes are an integral part of these consolidated financial
statements.
1
ITEX
CORPORATION
CONSOLIDATED
STATEMENTS OF INCOME
(In
thousands, except per share amounts)
Three-months ended October 31,
|
||||||||
2010
|
2009
|
|||||||
(unaudited)
|
||||||||
Revenue:
|
||||||||
Marketplace
revenue and other revenue
|
$ | 4,112 | $ | 3,924 | ||||
Costs
and expenses:
|
||||||||
Cost
of marketplace revenue
|
2,479 | 2,549 | ||||||
Corporate
salaries, wages and employee benefits
|
463 | 411 | ||||||
Selling,
general and administrative
|
724 | 454 | ||||||
Depreciation
and amortization
|
154 | 170 | ||||||
3,820 | 3,584 | |||||||
Income
from operations
|
292 | 340 | ||||||
Other
income/(expense):
|
||||||||
Interest,
net
|
10 | 11 | ||||||
Other
income/(expense), net
|
34 | 99 | ||||||
44 | 110 | |||||||
Income
before income taxes
|
336 | 450 | ||||||
Income
tax expense
|
133 | 173 | ||||||
Net
income
|
$ | 203 | $ | 277 | ||||
Net
income per common share:
|
||||||||
Basic
|
$ | 0.06 | $ | 0.08 | ||||
Diluted
|
$ | 0.06 | $ | 0.08 | ||||
Weighted
average shares outstanding
|
||||||||
Basic
|
3,578 | 3,571 | ||||||
Diluted
|
3,587 | 3,571 |
The
accompanying notes are an integral part of these consolidated financial
statements.
2
ITEX
CORPORATION
CONSOLIDATED
STATEMENT OF STOCKHOLDERS’ EQUITY
FOR
THE THREE-MONTHS ENDED OCTOBER 31, 2010
(In
thousands)
(Unaudited)
Common Stock
|
Additional
Paid-in
|
Accumulated
|
||||||||||||||||||
Shares
|
Amount
|
Capital
|
Deficit
|
Total
|
||||||||||||||||
Balance
at July 31, 2010
|
3,576 | $ | 36 | $ | 29,138 | $ | (14,305 | ) | $ | 14,869 | ||||||||||
Stock
based compensation expense
|
3 | - | 11 | - | 11 | |||||||||||||||
Dividend
Payment
|
$ | (90 | ) | (90 | ) | |||||||||||||||
Net
income
|
- | - | - | 203 | 203 | |||||||||||||||
Balance
at October 31, 2010
|
3,579 | $ | 36 | $ | 29,149 | $ | (14,192 | ) | $ | 14,993 |
The
accompanying notes are an integral part of these consolidated financial
statements.
3
ITEX
CORPORATION
CONSOLIDATED
STATEMENTS OF CASH FLOWS
(In
thousands)
(Unaudited)
Three-months ended October
31, |
||||||||
2010
|
2009
|
|||||||
(unaudited)
|
||||||||
CASH
FLOWS FROM OPERATING ACTIVITIES:
|
||||||||
Net
income
|
$ | 203 | $ | 277 | ||||
Items
to reconcile to net cash provided by operations:
|
||||||||
Depreciation
and amortization
|
154 | 170 | ||||||
Stock
based compensation
|
11 | 12 | ||||||
Increase
(decrease) in allowance for uncollectible receivables
|
72 | (11 | ) | |||||
Change
in deferred income taxes
|
119 | 157 | ||||||
Gain
on sale
|
(35 | ) | (99 | ) | ||||
Loss
on disposal of equipment
|
1 | - | ||||||
Changes
in operating assets and liabilities:
|
||||||||
Accounts
receivable, net
|
14 | 126 | ||||||
Prepaid
expenses
|
16 | (79 | ) | |||||
Prepaid
advertising credits
|
42 | 36 | ||||||
Loans
and advances
|
17 | (7 | ) | |||||
Other
assets
|
11 | 6 | ||||||
Accounts
payable
|
80 | (45 | ) | |||||
Commissions
payable to brokers
|
(345 | ) | (373 | ) | ||||
Accrued
commissions to brokers
|
110 | 145 | ||||||
Accrued
expenses
|
(53 | ) | 135 | |||||
Deferred
revenue
|
(33 | ) | (11 | ) | ||||
Long-term
liabilities
|
1 | - | ||||||
Advance
payments
|
(31 | ) | (6 | ) | ||||
Net
cash provided by operating activities
|
354 | 433 | ||||||
CASH
FLOWS FROM INVESTING ACTIVITIES:
|
||||||||
Membership
list purchase
|
(72 | ) | - | |||||
Business
sales
|
- | 50 | ||||||
Purchase
of property and equipment
|
(9 | ) | (4 | ) | ||||
Payments
received from notes receivable - corporate office sales
|
47 | 48 | ||||||
Payments
received from loans
|
- | 14 | ||||||
Net
cash provided by (used in) investing activities
|
(34 | ) | 108 | |||||
CASH
FLOWS FROM FINANCING ACTIVITIES:
|
||||||||
Cash
dividend paid to Common Shareholders
|
(90 | ) | - | |||||
Net
cash used in financing activities
|
(90 | ) | - | |||||
Net
increase in cash
|
230 | 541 | ||||||
Cash
and cash equivalents at beginning of period
|
5,169 | 2,557 | ||||||
Cash
and cash equivalents at end of period
|
$ | 5,399 | $ | 3,098 | ||||
Supplemental
cash flow information:
|
||||||||
Cash
paid for interest
|
$ | - | $ | - | ||||
Cash
paid for taxes
|
- | - | ||||||
Non-Cash
activities:
|
||||||||
Sale
of media credits
|
$ | 86 | $ | - |
The
accompanying notes are an integral part of these consolidated financial
statements.
4
ITEX
CORPORATION
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
NOTE 1
–SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Description
of the Company
ITEX, The
Membership Trading CommunitySM, is a
leading marketplace for cashless business transactions across North America
(“the Marketplace”). We service our member businesses through our
independent licensed brokers and franchise network (individually, “broker” and
together, the “Broker Network”) in the United States and Canada, as well as
through certain corporate-owned offices. Our business services and
payment systems enable member businesses (our “members”) to trade goods and
services without exchanging cash. These products and services are
instead exchanged for ITEX dollars which can only be redeemed in the Marketplace
(“ITEX dollars”). We administer the Marketplace and act as a
third-party record-keeper for our members’ transactions. We generate
revenue by charging members percentage-based transaction fees, association fees,
and other fees assessed in United States dollars and Canadian dollars where
applicable (collectively and as reported on our financial statements, “USD” or
“Cash”).
A summary
of significant accounting policies applied in the preparation of the
accompanying consolidated financial statements follows:
Principles
of Consolidation
The
consolidated financial statements include the accounts of ITEX and its
wholly-owned subsidiary, BXI Exchange, Inc (“BXI”). All inter-company
accounts and transactions have been eliminated in consolidation.
Basis
of Presentation
The
accompanying unaudited, condensed consolidated financial statements have been
prepared in accordance with generally accepted accounting principles in the
United States (“GAAP”) and, pursuant to rules and regulations of the
Securities and Exchange Commission, do not include all information and footnote
disclosures normally included in audited financial
statements. However, in the opinion of management, all adjustments
necessary to present fairly the results of operations, financial position and
cash flows have been made. For further information, these statements
should be read in conjunction with the financial statements included in the
Company’s Annual Report on Form 10-K for the year ended July 31,
2010.
Use
of Estimates
The
preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions affecting the amounts reported in the consolidated financial
statements and accompanying notes. Changes in these estimates and
assumptions may have a material impact on the Company’s financial statements and
notes. Examples of estimates and assumptions include
estimating:
|
·
|
certain
provisions such as allowances for accounts
receivable
|
|
·
|
any
impairment of long-lived assets
|
|
·
|
useful
lives of property and equipment
|
|
·
|
the
value and expected useful life of intangible
assets
|
5
|
·
|
the
value of assets and liabilities acquired through business
combinations
|
|
·
|
tax
provisions and valuation allowances
|
|
·
|
accrued
commissions and other accrual
expenses
|
|
·
|
litigation
matters described herein
|
|
·
|
stock
unit based payments
|
Actual
results may vary from estimates and assumptions that were used in preparing the
financial statements.
Operating
and Accounting Cycles
For each
calendar year, the Company divides its operations into 13 four-week billing and
commission cycles always ending on a Thursday (“operating
cycle”). For financial statement purposes, the Company’s fiscal year
is from August 1 to July 31 (“year”, “2011” for August 1, 2010 to July 31, 2011,
“2010” for August 1, 2009 to July 31, 2010). Our fiscal first quarter
is from August 1 to October 31 (“three-months ended October 31”). We
report our results as of the last day of each calendar month (“accounting
cycle”).
Business
Combinations
The
Company accounts for business combinations using the purchase method of
accounting. The total consideration paid in an acquisition is allocated to the
fair value of the acquired company’s identifiable assets and liabilities. Any
excess of the purchase price over the estimated fair values of the net assets
acquired is recorded as goodwill. The consolidated financial statements reflect
the results of operations of an acquired business from the completion date of an
acquisition. The costs to acquire a business, including transaction costs, are
allocated to the fair value of net assets acquired for any business combinations
occurring prior to August 1, 2009. Subsequent to August 1, 2009, all costs to
acquire a business will be expensed.
The
Company identifies and records separately the intangible assets acquired apart
from goodwill based on the specific criteria for separate recognition
established per the accounting standards codification, namely:
|
•
|
the
asset arises from contractual or other legal
rights; or
|
|
•
|
the
asset is capable of being separated from the acquired entity and sold,
transferred, licensed, rented or
exchanged.
|
Advertising
Credits
As a
result of a business acquisition in August 2008, the Company obtained
advertising credits, which represent prepaid credits for future media print and
broadcast placements it recorded a portion of these advertising credits that are
expected to be utilized in the next year as a current asset and the balance are
recorded as Other assets – long term. The Company originally recorded the cost
of the advertising credits at the fair value at the time of business combination
using a net realizable value approach. Under this approach, the value is
determined based on the estimated future selling price less reasonable costs of
disposal.
The
Company began using the advertising credits for resale to its customers,
primarily for ITEX dollars. In addition to ITEX dollars, the Company
also receives its cash transaction fee on sales of the advertising credits for
ITEX dollars. The asset is relieved and the expense is recorded as the
advertising credits are sold by the Company to its customers or as the Company
utilizes such credits in its marketing. During the three-months
ended October, 31 2010 and 2009, the Company recognized $26 and $7, expense on
sale of advertising credits, respectively. Additionally the Company used
approximately $20 and $28 of advertising credits in the three-months ending
October 31, 2010 and 2009 respectively for its own advertising
needs.
6
Goodwill
Goodwill
represents the excess of the purchase price over the fair value of identifiable
assets acquired, including domains and other definite-lived intangible assets,
and liabilities assumed in business combinations accounted for under the
purchase method.
Goodwill
acquired in a purchase business combination is determined to have an indefinite
useful life and is not amortized, but instead tested for impairment at least
annually. A two-phase approach is used for testing goodwill for impairment. The
first phase is a screen for potential impairment, while the second phase (if
necessary) measures the amount of impairment, if any. Goodwill is written down
and charged to operating results in any period in which the recorded value of
goodwill exceeds its fair value. We analyzed goodwill as of our last fiscal year
July 31, 2010 and we did not identify any impairment. The primary evaluation
measures of operational cash flow since that last analysis have continued in
this three-month period so we have not identified any indications of impairment
as of October 31, 2010.
Intangible
Assets with Definite Lives
Intangible
assets acquired in business combinations are estimated to have definite lives
and are comprised of membership lists, noncompetition agreements and trade
names. The Company amortizes costs of acquired intangible assets using the
straight-line method over the contractual life of one to three years for
noncompetition agreements, the estimated life of six to ten years for membership
lists and the estimated life of ten years for trade names.
The
carrying value of intangible assets with definite lives is reviewed on a regular
basis for the existence of facts that may indicate that the assets are impaired.
An asset is considered impaired when the estimated undiscounted future cash
flows expected to result from its use and disposition are less than the amount
of its carrying value. If the carrying value of an asset is deemed not
recoverable, it is adjusted downward to the estimated fair
value.
Revenue
Recognition
We
generate our revenue by charging members percentage-based transaction fees,
association fees, and other fees assessed in United States dollars and Canadian
dollars where applicable (collectively and as reported on our financial
statements “USD” or “Cash”). We recognize revenue when persuasive
evidence of an arrangement exists, the transaction has occurred or a cycle
period has ended, the charges are fixed and determinable and no major
uncertainty exists with respect to collectability.
Our
largest sources of revenue are transaction fees and association
fees. We charge members of the Marketplace an association fee every
operating cycle in accordance with our members’ individual
agreements. We also charge both the buyer and the seller a
transaction fee based on the ITEX dollar value of that Marketplace
transaction. Additionally, we may charge various auxiliary fees to
members, such as annual membership dues, late fees, and insufficient fund
fees. The total fees we charge to members are in USD and partially in
ITEX dollars (see below, “Accounting for ITEX Dollar
Activities”). We bill members for all fees at the end of each
operating cycle. We track all financial activity in our internally
developed database. Members have the option of paying USD fees
automatically by credit card, by electronic funds transfer or by
check. If paying through our Autopay System, generally, the USD
transaction fee is 6% of the ITEX dollar amount of the member’s purchases and
sales during the operating cycle. If paying by check, generally, the
USD transaction fee is 7.5% of the ITEX dollar amount of that member’s purchases
and sales during the operating cycle. Additionally, regardless of a
member’s transaction activity, each operating cycle we charge most members an
association fee of $20 USD ($260 USD annually) and $10 ITEX dollars ($130 ITEX
dollars annually).
7
In each
accounting cycle, the Company recognizes as revenue all USD transaction fees,
association fees and applicable other fees that occurred during that month
regardless of which operating cycle the fees occurred. Annual dues,
billed in advance of the applicable service periods, are deferred and recognized
into revenue on a straight-line basis over the term of one year.
For
transaction and association fees charged to members, the Company shares a
portion of its revenue with the brokers in its Broker Network in the form of
commissions based on a percentage of cash collections from
members. For those fees, revenues are recorded on a gross basis.
Commissions to brokers are recorded as cost of revenue in the period
corresponding to the revenue stream on which these commissions are
based.
The
Company records an allowance for uncollectible accounts based upon its
assessment of various factors. The Company considers historical experience, the
age of the accounts receivable balances, the credit quality of its customers,
current economic conditions and other factors that may affect customers’ ability
to pay to determine the level of allowance required.
On
February 12, 2009, the Company signed a Web services agreement
granting a media services company a limited, non-exclusive right to use ITEX’s
proprietary online broker and client relationship management platform, including
billing functionality, data analysis and other offerings, as well as ITEX’s
related hosting services. The agreement provides for a one-time consideration of
$350 paid to ITEX, as a platform subscription fee as well as periodic
transaction processing, support and consulting fees.
On May
8, 2009, the Company signed a Web services agreement
granting to ITEX Latin America, Inc. a limited, non-exclusive right
to use ITEX’s proprietary online broker and client relationship management
platform, including billing functionality, data analysis and other offerings, as
well as ITEX’s related hosting services, for a term of five years. The agreement
provides for a one-time platform subscription fee to be paid over a period of
five years and recurring transaction processing fees based on gross merchandise
volume (“GMV”) which is the total value of all transactional activity hosted by
the platform, as well as for certain other periodic service and consulting
fees.
Web
services contracts include multiple deliverable components. The Company
recognizes revenue from the platform subscription fee on a straight-line basis
over the contract term and recognizes revenue from recurring transaction
processing, support and consulting fees as delivery has occurred or services
have been rendered.
Income
(Loss) Per Share
We
prepare our financial statements on the face of the income statement for both
basic and diluted earnings per share. Basic earnings per share
excludes potential dilution and is computed by dividing income available to
common stockholders by the weighted-average number of common shares outstanding
for the period. Diluted earnings per share reflects the potential
dilution that could occur if securities or other contracts to issue common stock
were exercised or converted into common stock or resulted in the issuance of
common stock that then shared in the earnings of the entity. As of
October 31, 2010, we had no contracts to issue common stock, but we did have 20
warrants outstanding.
8
The
following table presents a reconciliation of the denominators used in the
computation of net income per common share basic and net income per common share
– diluted for the three-months ended October 31, 2010 and 2009 (in thousands,
except per share data) (unaudited):
Three-months Ended
October 31,
|
||||||||
2010
|
2009
|
|||||||
Net
income available for shareholders
|
$ | 203 | $ | 277 | ||||
Weighted
avg. outstanding shares of common stock
|
3,578 | 3,571 | ||||||
Dilutive
effect of warrants and restricted shares
|
9 | - | ||||||
Common
stock and equivalents
|
3,587 | 3,571 | ||||||
Earnings
per share:
|
||||||||
Basic
|
$ | 0.06 | $ | 0.08 | ||||
Diluted
|
$ | 0.06 | $ | 0.08 |
Accounting
for ITEX Dollar Activities
Primarily,
we receive ITEX dollars from members’ transaction and association fees, but we
also receive ITEX dollars, to a much lesser extent, from other member
fees. We expend ITEX dollars for revenue sharing transaction fees and
association fees with our Broker Network, and for general Marketplace
costs. Our policy is to record transactions at the fair value of
products or services received when those values are readily
determinable.
Our
accounting policy follows the accounting standards codification which indicates
that transactions in which non-monetary assets are exchanged for barter credits
should be recorded at fair value of the assets (or services)
involved. The fair value of the assets received (in this case ITEX
dollars) should be used to measure the cost if it is more clearly evident than
the fair value of the asset surrendered or service provided. Our
position is that the fair value of the non-monetary asset exchanged is more
clearly evident than the fair value of the ITEX dollar received. In
addition, there is no cost basis to us for ITEX dollars. Our
conclusion may change if we could convert ITEX dollars into USD in the near
term, as evidenced by a historical practice of converting ITEX dollars into USD
shortly after receipt, or if quoted market prices in USD existed for the ITEX
dollar.
We expend
ITEX dollars primarily on the following items:
|
·
|
Co-op
advertising with Marketplace
members;
|
|
·
|
Revenue
sharing with brokers for transaction fees and association
fees;
|
|
·
|
Incentives
to brokers for registering new members in the
Marketplace.
|
We
believe that fair value should not be regarded as determinable within reasonable
limits if major uncertainties exist about the realizability of the value that
would be assigned to the asset received in a non-monetary transaction at fair
value. If neither the fair value of the non-monetary asset (or
service) transferred or received in the exchange is determinable within
reasonable limits, the recorded amount of the non-monetary asset transferred
from the enterprise may be the only measure of the transaction. When our ITEX
dollar transactions during the periods presented in the accompanying financial
statements lacked readily determinable fair values they were recorded at the
cost basis of the trade dollars surrendered, which was zero. However,
we have reflected in our financial statements those items that meet non-monetary
recognition by having readily determinable fair values. Our
consolidated statements of income include ITEX dollar expenses for corporate
expenses for certain products or services we purchased at prices comparable to
what we would have expended had we paid in USD.
9
While the
accounting policies described above are used for financial reporting purposes,
the Internal Revenue Service requires, for purposes of taxation, that we
recognize revenues, expenses, assets, and liabilities for all transactions in
which we either receive or spend ITEX dollars using the ratio of one U.S. dollar
per ITEX dollar. For this reason, we track our ITEX dollar activity
in statements to members and brokers and in other ways necessary for the
operation of the Marketplace and our overall business.
Share-based
Payments
The
Company accounts for share-based compensation to its employees and directors and
measures of the amount of compensation expense for all stock-based awards at
fair value on the date of grant and recognition of compensation expense over the
service period for awards expected to vest. Restricted stock awards issued to
employees and directors are measured based on the fair market values of the
underlying stock on the dates of grant.
Contingencies
In the
normal course of our business we are periodically involved in litigation or
claims. We record litigation or claim-related expenses upon
evaluation of among other factors, the degree of probability of an unfavorable
outcome and the ability to make a reasonable estimate of the amount of
loss. We accrue for settlements when the outcome is probable and the
amount or range of the settlement can be reasonably estimated. In
addition to our judgments and use of estimates, there are inherent uncertainties
surrounding litigation and claims that could result in actual settlement amounts
that differ materially from estimates. We expense our legal costs
associated with these matters when incurred.
Deferred
Revenue
We bill
annually for association dues to certain members. We defer this
revenue and recognize it over the annual period to which it
applies. During 2009, we signed two Web services agreements.
These agreements provide for a one-time platform subscription fee payable to
ITEX upon signing of the contract. We amortize the subscription fee portion of
the contract on a ratable basis over the life of the contract, typically five
years. As of October 31, 2010 we have a total of $233 of deferred revenue
derived from Web services reflected on our Balance Sheet, of which $64 is in
Current liabilities–Deferred revenue and $169 is reflected in other long-term
liabilities.
Recent
Accounting Pronouncements
There
have been no recent accounting pronouncements or changes in accounting
pronouncements during the three-months ended October 31, 2010, as compared
to the recent accounting pronouncements described in the Company’s Annual Report
on Form 10-K, that are of significance, or potential significance to the
Company.
10
NOTE 2 –
ITEX DOLLAR ACTIVITY
As
discussed in Note 1, the Company receives ITEX dollars from members’ transaction
and association fees, and, to a lesser extent, from other member
fees. ITEX dollars earned from members are later used by the Company
as a method of payment in revenue sharing and incentive arrangements with its
Broker Network, co-op advertising with Marketplace members, as well as for
certain general corporate expenses.
The
Company records transactions at the fair value of products or services received
when those values are readily determinable. Most of ITEX dollar
transactions during the periods presented in these financial statements lacked
readily determinable fair values and were recorded at the cost basis of the
trade dollars surrendered, determined to be zero.
During
three-months ending October 31, 2010 and 2009, the Company spent ITEX dollars on
certain products and services for corporate purposes such as legal, consulting
and marketing services with readily determinable fair market
values. Those ITEX dollar activities were included in the Company’s
consolidated statements of income as follows (in thousands):
Three-months ended October 31,
|
||||||||
2010
|
2009
|
|||||||
Revenue:
|
||||||||
Marketplace
and other revenue
|
$ | 73 | $ | 14 | ||||
Costs
and expenses:
|
||||||||
Cost
of marketplace revenue
|
- | - | ||||||
Corporate
salaries, wages and employee benefits
|
- | 1 | ||||||
Selling,
general and administrative
|
73 | 13 | ||||||
Depreciation
and amortization
|
- | - | ||||||
73 | 14 | |||||||
Income
from operations
|
- | - |
NOTE 3 –
CASH AND CASH EQUIVALENTS, ACCOUNTS RECEIVABLE, COMMISSIONS PAYABLE TO BROKERS
AND ACCRUED COMMISSIONS TO BROKERS
As
discussed in Note 1, the Company’s billing cycles occur in 13 four-week periods
(“operating cycle”) during each year. The billing cycles do not correspond to
the end of the calendar month, when the Company reports its results (“accounting
cycle”).
At the
end of each operating cycle, the Company records commissions payable to brokers
based on a percentage of USD collections of revenues from association fees and
transaction fees. The commissions are paid to brokers in two equal
installments with approximately one half paid one week after the end of the
operating cycle and the second half paid three weeks after the end of the
operating cycle.
In
addition to commissions payable on cash collected from members, the Company
records estimated accrued commissions on revenue recognized but not yet
collected, if subject to estimated future commission payouts.
The
payments for salaries and wages to the Company’s employees occur on the same
bi-weekly schedule as commission payments to brokers.
11
The
timing differences between the Company’s operating cycles and its accounting
cycles cause fluctuations in the comparative balances of cash and cash
equivalents, accounts receivable, commissions payable to brokers and accrued
commissions to brokers presented on the consolidated balance
sheets. Depending on the length of time between the end of the
operating cycle and the end of the accounting cycle, members’ payments on
accounts receivable balances may vary. The longer the time, the
greater amount of USD collections causes an increase in the reported cash and
cash equivalents balance and a decrease in the net accounts receivable
balance.
NOTE 4 -
INTANGIBLE ASSETS AND GOODWILL
The
Company recorded intangible assets, consisting of membership lists,
noncompetition agreements and a trade name, in connection with business
combinations and membership list purchases completed in fiscal years from 2005
to 2011. Changes in the carrying amount of the intangible assets in the
three-months ended October 31, 2010 are summarized as follows (in
thousands):
Membership
lists
|
Noncompetition
agreements
|
Trade name
|
Total
intagible
assets
|
|||||||||||||
Balance
as of July 31, 2010
|
$ | 962 | $ | 16 | $ | 16 | $ | 994 | ||||||||
Purchase
of Membership list
|
72 | - | - | 72 | ||||||||||||
Amortization
|
(117 | ) | (7 | ) | - | (124 | ) | |||||||||
Balance
as of October 31, 2010
|
$ | 917 | $ | 9 | $ | 16 | $ | 942 |
Based on
identified intangible assets recorded as of October 31, 2010 and assuming no
subsequent impairment of the underlying assets, amortization expense is expected
to be as follows (in thousands):
Year ending July 31,
|
Membership
list
Amortization
|
Noncompetition
agreement
Amortization
|
Trade name
Amortization
|
Total
Amortization
|
||||||||||||
2011
(1)
|
339 | 9 | 1 | 349 | ||||||||||||
2012
|
231 | - | 2 | 233 | ||||||||||||
2013
|
230 | - | 2 | 232 | ||||||||||||
2014
|
57 | - | 2 | 59 | ||||||||||||
Thereafter
|
60 | - | 9 | 69 | ||||||||||||
Total
|
$ | 917 | $ | 9 | $ | 16 | $ | 942 |
(1)
|
The
expected amortization for 2011 reflects amortization expense that the
Company anticipates to be recognized in the nine-month period from
November 1, 2010 to July 31,
2011.
|
The
Company recorded goodwill in connection with business combinations completed in
fiscal years from 2005 to 2009. The acquisitions made in 2005 and in 2008
included contingent consideration recorded as additions to goodwill in
subsequent periods, as the final settlement amounts became
determinable.
12
In
October 2009, ITEX sold assets originally acquired a 2007 acquisition. As part
of the sale, ITEX allocated a pro rata portion of Membership list and Goodwill
to the sale in the amount of $76 and $36, respectively. The pro rata percentage
amount for Goodwill was calculated using the relative fair value of a corporate
office sale to the estimated fair value of the ITEX network as a whole. The pro
rata percentage amount of unamortized Membership list was calculated using the
amount of the corporate office member transaction volume over the total
transaction volume of the retained members acquired in the 2007 Intagio
transaction.
In
October 2010, ITEX purchased barter membership lists from a third-party in the
amount of $72. This list will be amortized over a 60 month period.
There was
no change in the carrying amount of Goodwill in the three-months ended October
31, 2010. The balance of Goodwill was $3,282 at October 31, 2010.
NOTE 5 –
COMMITMENTS
The
Company leases office space under operating leases. Lease commitments include
leases for the Company’s corporate headquarters in Bellevue, Washington, and
branch offices in Chicago, Illinois and Solon, Ohio. These leases expire between
May 2011 and April 2015.
Future
minimum payments at October 31, 2010 under operating leases, for office
space were as follows (in thousands):
Year ending July 31,
|
U.S. dollars
|
|||
2011
(1)
|
205 | |||
2012
|
188 | |||
2013
|
163 | |||
2014
|
166 | |||
2015
|
126 | |||
Total
|
$ | 848 |
(1)
|
The
expected payments for 2011 reflect future minimum payments for the
nine-month period from November 1, 2010 to July 31,
2011.
|
Rent
expense, including utilities and common area charges, was $76 and $79,
respectively for the three-months ended October 31, 2010 and 2009.
In
addition to the foregoing lease commitments, the Company is a party to several
non-cancelable and non-refundable purchase commitments. Those purchase
obligations consist primarily of arrangements for telecommunications and
co-location services for the Company’s network operations.
Future
minimum payments at October 31, 2010 under the non-cancelable
commitment s were as follows (in thousands):
13
Year ending July 31,
|
U.S. dollars
|
|||
2011
(1)
|
13 | |||
2012
|
8 | |||
Total
|
$ | 21 |
(1)
|
The
expected payments for 2011 reflect future minimum payments for the
nine-month period from November 1, 2010 to July 31,
2011.
|
NOTE 6 –
NOTES PAYABLE AND LINE OF CREDIT
The
Company has a revolving credit agreement, with its primary banking institution,
US Bank, originally established in 2004. On November 23, 2010, the
maximum loan amount under the revolving credit facility increased from $2,500 to
$3,000 and its maturity date was extended to November 30, 2011.
There
were no borrowings made under this line of credit in the three-months ending
October 31, 2010 and there was no outstanding balance as of October 31,
2010. The Company may utilize this credit facility for short-term
needs in the future.
NOTE 7 –
LEGAL PROCEEDINGS
In June
2003, a former broker filed a complaint against us for wrongful termination of
his brokerage agreement and breach of contract in connection with the
termination of plaintiff's brokerage in 1999 (Bruce Kamm v. ITEX
Corporation, Supreme Court of the State of New York County of New York,
Index No.: 602031/2003). Plaintiff sought damages against us in the
amount of $5,000 and a preliminary injunction enjoining us from selling a New
York office, previously managed by plaintiff, to any person, company or
entity. In July 2003, the Court denied plaintiff's motion for a
preliminary injunction. Plaintiff failed to prosecute the action,
and, in May 2004, the Court administratively dismissed the
action. During September 2005, the Court granted a motion from
plaintiff to vacate the dismissal of his action and for leave to amend the
complaint. On or about October 12, 2005, we were served with an
amended complaint stating claims of breach of contract, wrongful termination of
the brokerage agreement and breach of covenant of good faith and fair dealing
and seeking damages in the amount of $30,000 plus attorneys' fees. In
November 2005, we filed a motion to dismiss the action for lack of subject
matter jurisdiction pursuant to a forum selection clause in the contract between
the parties requiring litigation be filed in Oregon. Our motion to
dismiss was granted on December 12, 2005. In June 2006, plaintiff
re-filed in the Circuit Court of the State of Oregon, (Bruce Kamm and Invision LTD v. ITEX
Corporation, Case No. 0606-05949), stating claims of breach of
contract and breach of covenant of good faith and fair dealing and seeking
damages in the amount of $30,000 plus attorneys’ fees. A trial date
has been set in April 2011. We believe the termination of plaintiff's
brokerage was for proper cause.
We will
vigorously defend against the lawsuit discussed above. While it is
not feasible to predict the exact outcome of the proceedings, in our opinion, it
is not likely that the foregoing proceeding would ultimately result in any
liability that would have a material adverse effect on our results of
operations, cash flows or financial position. We have not established
any reserves for any potential liability relating to the foregoing litigation
matter. However, litigation is subject to inherent uncertainties and
unfavorable rulings could occur. If so, it could have a material
adverse impact on our Consolidated Financial Statements in future
periods.
14
From time
to time we are subject to claims and litigation incurred in the ordinary course
of business. In our opinion, the outcome of other pending legal
proceedings, separately and in the aggregate, will not have a material adverse
effect on our business operations, results of operations, cash flows or
financial condition.
NOTE 8 –
INCOME TAXES
Deferred
tax assets primarily include federal and state net operating loss carryforwards
(collectively “NOLs”) which are expected to result in future tax
benefits. Realization of these NOLs assumes that the Company will be
able to generate sufficient future taxable income to realize these
assets. Deferred tax assets also include temporary differences
between the financial reporting basis and the income tax basis of the Company’s
assets and liabilities at enacted tax rates expected to be in effect when such
assets or liabilities are realized or settled.
Deferred
tax assets are recognized for deductible temporary differences, along with net
operating loss carryforwards, if it is more likely than not that the tax
benefits will be realized. The ultimate realization of deferred tax assets
is dependent upon the generation of future taxable income during the periods in
which those temporary differences are expected to be deductible.
The
reconciliation of the income tax provision (benefit) calculated using the
federal statutory rates to the recorded income tax provision is as follows
(dollars in thousands):
Three-months ended October 31
|
||||||||||||||||
2010
|
2009
|
|||||||||||||||
Amount
|
Rate
|
Amount
|
Rate
|
|||||||||||||
Expected
tax provison at federal statutory rate
|
$ | 120 | 35 | % | $ | 153 | 34 | % | ||||||||
State
income taxes
|
13 | 4 | % | 16 | 4 | % | ||||||||||
Research
and development credit
|
- | 0 | % | (1 | ) | 0 | % | |||||||||
Permanent
differences
|
- | 0 | % | 5 | 1 | % | ||||||||||
Provision
for income taxes
|
$ | 133 | 39 | % | $ | 173 | 38 | % |
The
Company recognizes the financial statement benefit of a tax position only after
determining that the relevant tax authority would more likely than not sustain
the position following an audit. For tax positions meeting the
more-likely-than-not threshold, the amount recognized in the financial
statements is the largest benefit that has a greater than 50 percent
likelihood of being realized upon ultimate settlement with the relevant tax
authority. A reconciliation of the Company’s unrecognized tax benefits as of
October 31, 2010 is as follows (in thousands):
15
Balance
at July 31, 2010
|
$ | 292 | ||
Additions
based on tax positions related to the current year
|
9 | |||
Balance
at October 31, 2010
|
$ | 301 |
The
Company is subject to income taxes in the U.S as well as various U.S. state
jurisdictions. Tax regulations within each jurisdiction are subject to the
interpretation of the related tax laws and regulations and require significant
judgment to apply. With few exceptions, the Company is subject to U.S. and
state income tax examinations by tax authorities for tax years 2005 through the
present. The Company does not anticipate any material changes to its recognized
tax benefits over the next 12 months.
NOTE 9 –
STOCKHOLDERS’ EQUITY (in thousands, except per share amounts)
On May 3,
2010, the Company completed a 1 for 5 reverse stock split of its outstanding
common stock, par value $0.01 per share, pursuant to an amendment to its
Articles of Incorporation. All common stock equity transactions have
been adjusted to reflect the reverse stock split for all periods
presented.
On March
9, 2010, the Company announced a $2,000 stock repurchase program, authorized by
the Board of Directors. The program authorizes the repurchase of
shares in open market purchases or privately negotiated transactions, has no
expiration date and may be modified or discontinued by the Board of Directors at
any time. No shares were purchased in the three-month period ended
October 31, 2010.
The
Company has 5,000 shares of preferred stock authorized at $0.01 par
value. No shares were issued or outstanding as of October 31,
2010.
NOTE 10 –
SHARE-BASED PAYMENTS
In March
2004 the Company adopted the ITEX Corporation 2004 Equity Incentive Plan (the
"2004 Plan"), for which 400 shares of common stock were authorized for issuance.
The 2004 Plan provides for the grant of incentive and nonqualified stock
options, restricted stock, and stock bonuses to the Company's employees,
directors, officers or consultants.
No shares
remained available for future grants under the 2004 Plan for both fiscal
quarters ended October 31, 2010 and 2009.
In
October 2009, the Company issued 39 restricted shares to the Company’s CEO,
valued at the grant date stock price of $3.40 per share, with a vesting period
of 3 years from the date of grant. The grant is to be amortized to compensation
expense over the respective requisite service period of three
years.
In
December 2008, 18 shares of restricted common stock, valued at the grant date
stock price of $2.125, were issued to the Company’s three directors as
compensation for their services for the calendar year ending December, 31, 2009.
Those shares vested over the calendar year ending December 31, 2009 in twelve
equal monthly installments. The fair value of these shares as of the grant date
was $38.
We
account for share-based compensation in accordance with the related
guidance. Under the fair value recognition provisions, we estimate
share-based compensation cost at the grant date based on the fair value of the
award. We recognize that expense ratably over the requisite service
period of the award.
16
The
stock-based compensation expense, including a warrant issued to a non-employee,
charged against the results of operations was as follows (in
thousands):
Three-months ended October 31,
|
||||||||
2010
|
2009
|
|||||||
Stock-based
compensation expense included in:
|
||||||||
Corporate
salaries, wages and employee benefits
|
$ | 11 | $ | 3 | ||||
Selling,
general and administrative
|
- | 9 | ||||||
Total
stock-based compensation expense
|
11 | 12 |
At
October 31, 2010, 26 shares of common stock granted under the 2004 Plan remained
unvested. At October 31, 2010, the Company had $86 of unrecognized compensation
expense, expected to be recognized over a weighted-average period of
approximately 24 months.
NOTE 11 –
SUBSEQUENT EVENTS
On
November 15, 2010, the Board of Directors of ITEX Corporation declared a cash
dividend in the amount of $0.04 per share, payable on December 20, 2010 to
stockholders of record as of the close of business on December 10,
2010.
On
November 24, 2010, ITEX Corporation and U.S. Bank entered into an Amendment to
Loan Agreement and Note, to increase the maximum loan amount under its revolving
credit facility from $2,500 to $3,000 and to extend the maturity date to
November 30, 2011. There is no current outstanding balance on the line of
credit.
17
ITEM
2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (in thousands, except per share amounts)
In
addition to current and historical information, this Quarterly Report on Form
10-Q contains forward-looking statements. These statements relate to our
future operations, prospects, potential products, services, developments,
business strategies or our future financial
performance. Forward-looking statements reflect our expectations and
assumptions only as of the date of this report and are subject to risks and
uncertainties. Actual events or results may differ
materially. We have included a detailed discussion of certain risks
and uncertainties that could cause actual results and events to differ
materially from our forward-looking statements in the section titled “Risk
Factors” below. We undertake no obligation to update or revise
publicly any forward-looking statement after the date of this report, whether as
a result of new information, future events or otherwise.
Overview
ITEX, The
Membership Trading CommunitySM, is a
leading marketplace for cashless business transactions across North America
(“the Marketplace”). We service our member businesses through our
independent licensed brokers and franchise network, (individually, “broker” and
together, the “Broker Network”) in the United States and Canada. Our
business services and payment systems enable member businesses (our “members”)
to trade goods and services without exchanging cash. These products
and services are instead exchanged for ITEX dollars which can only be redeemed
in the Marketplace (“ITEX dollars”). We administer the Marketplace
and act as a third-party record-keeper for our members’
transactions. We generate revenue by charging members
percentage-based transaction fees, association fees, and other fees assessed in
United States dollars and Canadian dollars where applicable (collectively and as
reported on our financial statements, “USD” or “Cash”).
For each
calendar year, we divide our operations into 13 four-week billing and commission
cycles always ending on a Thursday (“operating cycle”). For financial
statement purposes, our fiscal year is from August 1 to July 31 (“year”, “2011”
for August 1, 2010 to July 31, 2011, “2010” for August 1, 2009 to July 31,
2010). Our first quarter is the three-month period from August 1,
2010 to October 31, 2010 (“three-month period ended October 31”). We
report our results as of the last day of each calendar month (“accounting
cycle”). The timing of billing and collection activities after the end of the
billing cycle does not correspond with the end of the accounting period,
therefore this timing difference results in the fluctuations of the balances of
cash, accounts receivable, commissions payable and accrued commissions on the
consolidated balance sheet and consolidated statement of cash
flows.
Each
operating cycle we generally charge our members association fees of $20 USD
($260 USD annually) and $10 ITEX dollars ($130 ITEX dollars
annually). We also charge transaction fees in USD from both the buyer
and seller computed as a percentage of the ITEX dollar value of the
transaction.
The
following summarizes our operational and financial highlights for the quarter
and our outlook:
·
|
Comparative
Results. For the three-months ended October 31, 2010, as
compared to the three-months ended October 31, 2009, our revenue increased
by $188, or 5%, from $3,924 to $4,112. Our income from operations
decreased by $48, or 14%, from $340 to $292. Net income
decreased by $74, or 27%, from $277 to
$203.
|
18
·
|
Revenue
Sources. Our increase in revenues for the three-months
ended October 31, 2010 was primarily attributable to our media and web
services revenue streams. In August 2008, we acquired certain
assets of a media services company, and launched ITEX Media
Services. ITEX Media Services offers a variety of opportunities
to the ITEX Marketplace and provides an “in kind” payment option for
hospitality firms in funding their media campaigns. In 2009, we began
offering subscription-based rights to our proprietary online broker and
client relationship management platform. Under two web services
agreements, ITEX hosts the web interface, client relationship management
platform and is responsible for all transactional
processing. Revenues from web services represented 5% of our
total revenues for the quarter.
|
Revenue
from our core business remained steady for the three-month period ending October
31, 2010 when compared to the corresponding 2009 period. Our primary
customers are small businesses with less than ten employees. We
believe this segment of the business community is vulnerable in a difficult
economic environment, with strained or insufficient cash flow being a major
impediment to growth. As the economy gains momentum we believe our
member businesses will improve and expect modest increases in our Marketplace
transaction volume.
·
|
Corporate-owned
Stores. The ITEX system is currently approximately 96%
broker managed and 4% company-operated. As a general operating
philosophy, we depend on the ability of our brokers to enroll new members,
train them in the use of the Marketplace, grow our transactional volume by
facilitating business among members, manage member relationships, provide
members with information about ITEX products and services, and assure the
payment of our dues and fees. Our broker model requires less
capital investment and lower operating expenses than if we operated all of
the offices in our network directly. From time to time, we
complement our broker system with a few corporate-owned locations,
acquired either as a result of business acquisitions or as a result of
ensuring the orderly transition of broker
locations.
|
During
the three-month period ended October 31, 2010, we reflected a gain of $34 which
was comprised of a $35 gain due to the sale of advertising credits and a loss of
$1 from the disposition of fixed assets.
·
|
Revenue
Growth. Although we seek to increase revenues through
organic growth and the development of new revenue sources, the primary
driver of revenue growth in recent years has been through our business
acquisitions. However, acquisitions are intermittent and cannot
be relied upon as a future source of revenue growth, either because of the
absence of acquisition candidates, lack of financing, or unacceptable
terms. We have approximately 28% recurring revenues from
association fees and approximately 65% of our net revenues each quarter
come from transactions generated during a quarter. We continue
to seek to increase our revenue by:
|
|
·
|
marketing
the benefits of participation in the
Marketplace;
|
|
·
|
adding
new brokers;
|
|
·
|
enhancing
our internet applications and web
services;
|
|
·
|
supporting
the Broker Network.
|
19
In fiscal
2010, our national advertising campaign emphasized the benefits of participation
in the ITEX Marketplace. We were able to utilize advertising credits
obtained in a business acquisition in August 2008 for the ad
placements. We anticipate continuing our advertising efforts
throughout 2011.
Adding
new brokers is an important component of our overall growth plans, and we are
increasing our franchise recruiting efforts. One recruitment program
which has achieved some success is our Broker Mentor program, in which existing
brokers recruit prospective brokers and provide ongoing training to the
prospective broker until certain performance thresholds are met. Upon
meeting the performance thresholds, the prospective broker is offered a
franchise for a reduced fee of $5 from our standard franchise fee of
$20. The mentoring broker receives a 5% commission override on the
cash collected per cycle by the new broker. We added four new brokers
in the 2010 fiscal year and one new broker in the three-months ending October
31, 2010 as a result of this initiative.
We
continually enhance our internet applications and web services to make our
online services more user friendly to our employees, members and web services
partners, and to create confidence in the ITEX
Marketplace. We are in the process of upgrading our
payment processing and team software with .NET technologies. We
reworked and launched in June 2010 a new interface for www.itex.com with
more tools and better search functionality for our members and
brokers. We have expanded our production and co-location facilities.
In addition, we provided the latest technology to our staff and the Broker
Network to interface with our internet applications with the goal of making the
Marketplace more efficient.
We seek
to support our Broker Network in various ways to add to its productivity and
efficiency, including encouraging the use of current technology products and
services. In a recent initiative, we provided new desktop computers,
software and monitors to brokers which meet established eligibility
requirements, as well as to our corporate and corporate-owned offices, replacing
models that were several years old. In 2010 we purchased
approximately 180 computer systems upon the launch of Office 2010, using Dell
desktops and notebooks as the standard models, with software that included
Microsoft Windows 7. We expensed $129 during fiscal 2010 for these
computer equipment and software upgrades.
·
|
Financial
Position. Our financial condition and balance sheet
remain strong at October 31, 2010, with cash and cash equivalents of
$5,399. We paid off our business acquisition debt during 2009,
and eliminated the associated interest expense. Our net cash
flows provided by operating activities were $354 for the three-month
period ended October 31, 2010, compared to $433 for the corresponding
period the previous year. The decrease is primarily due to a
decrease in net income. We intend to continue to strengthen our
business model, which has the ability to generate consistent cash flows
with low capital expenditure requirements. We seek to maintain
an ample liquidity cushion, while returning cash to our
stockholders. We initiated a stock repurchase plan during the
2010 year. In May, 2010, the board declared ITEX’s first ever
cash dividend in the amount of $0.025 per share, payable on June 30, 2010
and declared a subsequent $0.025 cash dividend payable on September 20,
2010. Each quarterly dividend to date entailed an expenditure
of about $90. We expect cash flows will be sufficient for
future dividends to be paid out on a quarterly
basis.
|
20
RESULTS
OF OPERATIONS
Condensed
Results (in thousands, except per share data):
Three Months Ended
October 31,
|
||||||||
2010
|
2009
|
|||||||
(unaudited)
|
||||||||
Revenue
|
$ | 4,112 | $ | 3,924 | ||||
Cost
of marketplace revenue
|
$ | 2,479 | $ | 2,549 | ||||
Operating
expenses
|
1,341 | 1,035 | ||||||
Income
from operations
|
292 | 340 | ||||||
Other
income, net
|
44 | 110 | ||||||
Income
before income taxes
|
336 | 450 | ||||||
Provision
for income taxes
|
133 | 173 | ||||||
Net
income
|
$ | 203 | $ | 277 | ||||
Net
income per common share:
|
||||||||
Basic
|
$ | 0.06 | $ | 0.08 | ||||
Diluted
|
$ | 0.06 | $ | 0.08 | ||||
Average
common and equivalent shares:
|
||||||||
Basic
|
3,578 | 3,571 | ||||||
Diluted
|
3,587 | 3,571 |
Revenue
for the three-months ended October 31, 2010, as compared to the corresponding
three-months of fiscal 2010, increased by $188, or 5%. The increase
in revenues came mostly from our web service and media initiatives which
increased by $143, generating $234 in the three-months ended October 31, 2010,
as compared to $91 for the corresponding three-months of fiscal
2010.
Cost of
marketplace revenue which includes association and transaction commissions paid
to brokers, corporate-owned office expense and other trade exchange related
expenses decreased by $70, or 3% for the three-month period ended October 31,
2010, compared to the corresponding period of fiscal 2010.
Operating
expenses which include corporate salaries, wages and employee benefits, selling,
general and administrative, depreciation and amortization increased by $306, or
30% for the three-months ended October 31, 2010, compared to the corresponding
period of fiscal 2010.
The $306
increase in operating expenses in the three-months ended October 31, 2010, as
compared to the corresponding period of fiscal 2010, resulted from a $270, or
59% increase in selling, general and administrative expenses and a $52, or 13%
increase in corporate salaries, wages and employee benefits. These increases
were offset somewhat by a $16, or 9% decrease in depreciation and
amortization. The most significant increase in the operating expenses
year over year is related to the $166 increase in legal fees for the
three-months ended October 31, 2010, compared to the corresponding period of
fiscal 2010.
21
Income
from operations for the three-months ended October 31, 2010, as compared to the
corresponding three-months of fiscal 2010, decreased by $48 or 14%. This net
decrease is primarily the result of an increase in operating
expenses.
Net
income for the three-months ended October 31, 2010, as compared to the
corresponding three-months of fiscal 2010, decreased by $74 or 27% as a result
of the decrease in the income from operations and a $66 decrease in other income
in the three-months ended October 31, 2010, as compared to the corresponding
three-months of fiscal 2010. In the three-months ended October 31, 2009, there
was a $99 gain on the sale of our San Francisco corporate owned
office.
Revenue,
Costs and Expenses
The
following table sets forth our selected consolidated financial information for
the three-months ended October 31, 2010 and 2009 with amounts expressed as a
percentage of total revenues (in thousands) (unaudited):
Three-months ended October 31,
|
||||||||||||||||
2010
|
2009
|
|||||||||||||||
Amount
|
Percent
|
Amount
|
Percent
|
|||||||||||||
Revenue:
|
||||||||||||||||
Marketplace
revenue and other revenue
|
$ | 4,112 | 100 | % | $ | 3,924 | 100 | % | ||||||||
Costs
and expenses:
|
||||||||||||||||
Cost
of marketplace revenue
|
2,479 | 60 | % | 2,549 | 65 | % | ||||||||||
Salaries,
wages and employee benefits
|
463 | 11 | % | 411 | 10 | % | ||||||||||
Selling,
general and administrative
|
724 | 18 | % | 454 | 12 | % | ||||||||||
Depreciation
and amortization
|
154 | 4 | % | 170 | 4 | % | ||||||||||
3,820 | 93 | % | 3,584 | 91 | % | |||||||||||
Income
from operations
|
292 | 7 | % | 340 | 9 | % | ||||||||||
Interest
income, net
|
10 | 0 | % | 11 | 0 | % | ||||||||||
Gain
on sale of assets, net
|
34 | 1 | % | 99 | 3 | % | ||||||||||
Income
before income taxes
|
336 | 8 | % | 450 | 11 | % | ||||||||||
Provision
(benefit) for income taxes
|
133 | 3 | % | 173 | 4 | % | ||||||||||
Net
income
|
$ | 203 | 5 | % | $ | 277 | 7 | % |
Marketplace
revenue
Marketplace
revenue consists of transaction fees, association fees and other revenues net.
Other revenue includes web services, media and ITEX dollar
revenue. The following are the components of Marketplace revenue that
are included in the consolidated statements of income (in thousands)
(unaudited):
22
Three-months ended October 31,
|
Percent
|
|||||||||||
increase
|
||||||||||||
2010
|
2009
|
(decrease)
|
||||||||||
(unaudited)
|
||||||||||||
Transaction
fees
|
$ | 2,551 | $ | 2,570 | -1 | % | ||||||
Association
fees
|
1,189 | 1,191 | 0 | % | ||||||||
Other
revenue
|
372 | 163 | 128 | % | ||||||||
$ | 4,112 | $ | 3,924 | 5 | % |
Marketplace
revenue for the three-months ended October 31, 2010 increased by $188, or 5% to
$4,112 as compared to $3,924 for the three-months ended October 31,
2009.
Transaction
fees for the three-months ended October 31, 2010 decreased by $19, or 1% from
$2,570 for the three-months ended October 31, 2009. The decrease in transaction
fees was due to slightly lower transaction volume for the three-months ended
October 31, 2010, as compared to the three-months ended October 31,
2009.
Association
fees for the three-months ended October 31, 2010 decreased by $2, or 0% from
$1,191 for the three-months ended October 31, 2009. The slight decrease in
association fees is due to a slight reduction in net active accounts for the
comparable periods.
Other
revenue for the three-months ended October 31, 2010 increased by $209, or 128%
to $372 as compared to $163 for the three-months ended October 31, 2009. The
increase in other revenues was largely from of our web services initiatives
which generated $202 in the three-months ended October 31, 2010, as compared to
$87 for the corresponding three-months ended October 31, 2009. In addition, ITEX
dollar revenue utilized in the marketplace during the three-months ended October
31, 2010 increased by $59 to $73 as compared to $14 for the three-months ended
October 31, 2009.
ITEX
Dollar Revenue
As
described in notes to our consolidated financial statements, we receive ITEX
dollars from members’ transaction and association fees, and, to a lesser extent,
from other member fees. ITEX dollars earned from members are later
used by us as a method of payment in revenue sharing and incentive arrangements
with our Broker Network, including co-op advertising, as well as for certain
general corporate expenses. ITEX dollars are only usable in our
Marketplace.
We take
extensive measures to maintain the integrity of our role in the Marketplace
economy, and to protect against the misuse or misappropriation of ITEX
dollars. For example:
|
·
|
All
ITEX dollar purchases for corporate purposes are approved by senior
management.
|
|
·
|
We
do not sell or purchase ITEX dollars for
USD.
|
We spend
ITEX dollars in the Marketplace for our corporate needs. As discussed in the
notes to our consolidated financial statements, we record ITEX dollar revenue in
the amounts equal to expenses we incurred and paid for in ITEX dollars. We
recorded $73 and $14 as ITEX dollar revenue for the three-months ended October
31, 2010 and 2009, respectively.
23
The
corresponding ITEX dollar expenses in the three-months of 2010 were for legal,
marketing, outside services and miscellaneous expenses. We will
continue to utilize ITEX dollars for our corporate purposes in future
periods.
Costs
of Marketplace Revenue
Cost of
marketplace revenue consists of commissions paid to brokers, salaries and
employee benefits of our corporate-owned offices, payment of processing fees and
other expenses directly correlated to marketplace revenue. The
following are the main components of cost of marketplace revenue that are
included in the consolidated statements of income (in thousands):
Three-months ended October 31,
|
Percent
|
|||||||||||
2010
|
2009
|
increase
(decrease)
|
||||||||||
(unaudited)
|
||||||||||||
Transaction
fee commissions
|
$ | 1,765 | $ | 1,802 | -2 | % | ||||||
Association
fee commissions
|
397 | 415 | -4 | % | ||||||||
Corporate
owned office costs
|
214 | 234 | -9 | % | ||||||||
Other
costs of revenue
|
103 | 98 | 5 | % | ||||||||
$ | 2,479 | $ | 2,549 | -3 | % | |||||||
Costs
of marketplace revenue as percentage of total revenue
|
60 | % | 65 | % |
Costs of
marketplace revenue for the three-months ended October 31, 2010 was $2,479 as
compared to $2,549 for the three-months ended October 31, 2009, a decrease of
$70, or 3%. The overall costs of marketplace revenue decreased from 65% to 60%
as a percentage of total revenue primarily due to the increase of other revenue
which has no commission component and has lower costs of marketplace revenue
expenses.
Transaction
fee commissions for the three-months ended October 31, 2010 decreased by $37 or
2% to $1,765 as compared to $1,802 for the three-months ended October 31, 2009.
The decrease in transaction fees was primarily due to the corresponding decrease
in transaction fee revenues for the comparable periods.
Association
fee commissions are paid to Brokers upon the collection of the association
revenue. Association fee commissions for the three-months ended October 31, 2010
decreased by $18, or 4% to $397 as compared to $415 for the three-months ended
October 31, 2009. This percentage decrease is greater than the slight decrease
in related association revenue, due to a higher reserve in the three-months
ending October 31, 2010 of uncollectible association fees.
Our
corporate owned office costs decreased by $20, or 9% to $214 for the
three-months ended October 31, 2010 as compared to $234 for the three-months
ended October 31, 2009. This decrease was primarily due to lower overall
staffing cost resulting from the sale of the San Francisco corporate-owned
office during the three-months ending October 31, 2009.
Corporate
Salaries, Wages and Employee Benefits
Salaries,
wages and employee benefits include expenses for corporate employee salaries and
wages, payroll taxes, 401(k), payroll related insurance, healthcare benefits,
recruiting costs and other personnel related items. As discussed
above in “ITEX Dollar Revenue”, certain ITEX dollar expenses are also
included. Comparative results are as follows (in
thousands)(unaudited):
24
Three-months ended October 31,
|
Percent
|
|||||||||||
2010
|
2009
|
increase
|
||||||||||
(unaudited)
|
||||||||||||
Corporate
salaries, wages and employee benefits
|
$ | 463 | $ | 411 | 13 | % | ||||||
Corporate
salaries, wages and employee benefits as percentage of total
revenue
|
11 | % | 10 | % |
Corporate
salaries, wages and employee benefits expenses for the three-months ended
October 31, 2010, as compared to the three-months ended October 31, 2009,
increased by $52, or 13%. The increase is primarily due to additional headcount
required to manage the Web services revenue streams. In addition, annual pay
increases were provided to the majority of employees. The pay increases were
offset somewhat by the 2010 termination of the company’s 401(k)plan and
increased health premium copayments deducted from employees.
Selling,
General and Administrative Expenses
Selling,
general and administrative expenses include consulting, legal and professional
services, as well as expenses for rent and utilities, marketing, business
travel, insurance, bad debts, business taxes, and other expenses. As
discussed above in “ITEX Dollar Revenue”, certain ITEX dollar expenses are also
included. Comparative results are as follows (in thousands)
(unaudited):
Three-months
ended October 31,
|
Percent
|
|||||||||||
2010
|
2009
|
increase
|
||||||||||
Selling,
general and administrative expenses
|
$ | 724 | $ | 454 | 59 | % | ||||||
Selling,
general and administrative expenses as percentage of total
revenue
|
18 | % | 12 | % |
Selling,
general and administrative expenses for the three-months ended October 31, 2010,
as compared to the three-months ended October 31, 2009, increased by $270, or
59%. Our selling general and administrative expenses also increased as a
percentage of total revenues in the periods presented. The increase is due
primarily to an increase in legal fees, marketing and bad debt. Legal fees for
the three-months ended October 31, 2010 increased by $166, or 277% to $226 as
compared to $60 for the three-months ended October 31, 2009. The primary
increase in legal fees was due to the June 2003 initiated Kamm litigation, as
discussed in Note 7, elevated legal fees expensed on the proxy contest, and
increased fees for the 2010 failed computer offer from one of our brokers.
Additionally, we increased our national marketing campaign and advertising
expenditures during the quarter. Also, bad debt expense for the three-months
ended October 31, 2010 increased by $72, or 103% to $142 as compared to $70 for
the three-months ended October 31, 2009.
25
Depreciation
and Amortization
Depreciation
and amortization expenses include depreciation on our fixed assets and
amortization of our intangible assets, including intangible assets obtained in
business combinations. Comparative results are as follows (in
thousands) (unaudited):
Three-months
ended October 31,
|
Percent
|
|||||||||||
2010
|
2009
|
decrease
|
||||||||||
Depreciation
and amortization
|
$ | 154 | $ | 170 | -9 | % | ||||||
Depreciation
and amortization as percentage of total revenue
|
4 | % | 4 | % |
Depreciation
and amortization for the three-months ended October 31, 2010, as compared to the
three-months ended October 31, 2009, decreased by $16, or 9%. Depreciation and
amortization also decreased as a percentage of total revenues in the periods
presented. The decreases are primarily related to the completion of the
amortization of a non-compete agreement associated with acquisition of certain
assets.
Other
income
Other
income includes interest received on notes receivable and promissory notes, and
certain one-time gains.
Comparative
results are as follows (in thousands) (unaudited):
Three-months
ended
October
31,
|
Percent
|
|||||||||||
2010
|
2009
|
Percent
(decrease)
|
||||||||||
Interest
income
|
$ | 10 | $ | 11 | -9 | % | ||||||
Gain
on sale of assets
|
$ | 34 | $ | 99 | -66 | % | ||||||
Other
income
|
$ | 44 | $ | 110 | -60 | % | ||||||
Other
income, as percentage of total revenue
|
1 | % | 0 | % |
The
interest income is derived primarily from our notes receivable for corporate
office sales. During 2004, we sold five corporate-owned offices to our brokers.
During fiscal 2008, we sold to certain brokers three regional offices obtained
from Intagio in August 2007 and in October, 2009 we sold the San Francisco, CA
corporate-owned office. The notes receivable are repaid in installments. The
installment payments for the various notes receivable end between 2010 and 2017.
Interest income declines as the notes receivable are being repaid by the
borrowers.
26
Other
income for the three-month period ended October 31, 2010 includes a $35 gain on
the sale of advertising credits offset by a loss of $1 on the disposition of
fixed assets. Other income for the three-month period ended October 31, 2009
includes a gain on a sale of $99 due to the sale of the San Francisco
corporate-owned office in October 2009.
Income Taxes
Comparative
results are as follows (in thousands) (unaudited):
Three-months
ended October 31
|
||||||||||||||||
2010
|
2009
|
|||||||||||||||
Amount
|
Rate
|
Amount
|
Rate
|
|||||||||||||
Expected
tax provison at federal statutory rate
|
$ | 120 | 35 | % | $ | 153 | 34 | % | ||||||||
State
income taxes
|
13 | 4 | % | 16 | 4 | % | ||||||||||
Research
and development credit
|
- | 0 | % | (1 | ) | 0 | % | |||||||||
Permanent
differences
|
- | 0 | % | 5 | 1 | % | ||||||||||
Provision
for income taxes
|
$ | 133 | 39 | % | $ | 173 | 38 | % |
In the
three-months ended October 31, 2010, we recognized a $133 provision for income
taxes, compared to $173 in the three-months ended October 31, 2009, which
represents a $40 decrease in income taxes, due to the decrease in pre-tax
income.
LIQUIDITY
AND CAPITAL RESOURCES
We have
financed our ongoing operations over the last several years primarily with cash
provided by our operating activities. Our principal sources of
liquidity are our cash flows provided by operating activities, our existing cash
and cash equivalents, and a line of credit facility. As of July 31,
2010 and October 31, 2010, we had $5,169 and $5,399, respectively, in cash and
cash equivalents. Additionally, we have a revolving credit agreement to
establish a $3,000 line of credit facility from our primary banking institution,
U.S. Bank (“line of credit”). The current line of credit agreement expires in
November 2011. We have no outstanding balance on our line of credit as of
October 31, 2010.
The
following table presents a summary of our cash flows for the three-months ended
October 31, 2010 and 2009 (in thousands) (unaudited):
Three-months
ended October 31,
|
||||||||
2010
|
2009
|
|||||||
Cash
provided by operating activities
|
$ | 354 | $ | 433 | ||||
Cash
provided by (used) in investing activities
|
(34 | ) | 108 | |||||
Cash
used in financing activities
|
(90 | ) | - | |||||
Increase
(decrease) in cash
|
$ | 230 | $ | 541 |
27
Our
business model has historically proven to be successful in providing positive
cash flow from operating activities. This positive cash flow enabled
us, in large part, to complete acquisitions in fiscal 2008 and in the first
three-months of 2009. We feel that our cash flows from operating
activities will remain adequate to fund ongoing operating
requirements.
Our
balance sheet as of October 31, 2010, includes advertising
credits originally obtained in our business acquisition in August 2008
in the amount of $185, which represent unsold prepaid credits for future media
print and broadcast placements. We recorded the advertising credits at the fair
market value based on the estimated future selling price less reasonable costs
of disposal. The future operating cash flows may be negatively affected and our
original estimate of the net realizable value of the advertising credits will be
decreased if we are not able to resell the advertising credits to our
customers.
As part
of our future expansion activities or as part of our evaluation of strategic
alternatives and opportunities, we may seek to acquire certain competitors or
other business to business enterprises, or consider partnering or other
collaboration agreements, or a merger or other strategic transaction. We expect
that our current working capital would be adequate for this purpose. However, we
may seek external financing for a portion of any strategic transaction, subject
to the consent of any secured creditors. At this time, for the
company is focusing on organic growth of our core business and enhancement of
our web services offerings.
Inflation
has not had a material impact on our business. Inflation affecting the U.S.
dollar is not expected to have a material effect on our operations in the
foreseeable future.
Operating
Activities
For the
three-months ended October 31, 2010, net cash provided by operating activities
was $354 compared with $433 in the three-months ended October 31, 2009 a
decrease of $79, or 18%. The decrease in net cash provided by the
operating activities is the result of changes in operating assets and
liabilities and by the decrease in net income.
The
difference between our net income and our net cash provided by operating
activities was attributable to non-cash expenses included in net income, and
changes in the operating assets and liabilities, as presented below (in
thousands) (unaudited):
Three-months
ended October 31,
|
||||||||
2010
|
2009
|
|||||||
Net
income
|
$ | 203 | $ | 277 | ||||
Add:
non-cash expenses
|
322 | 229 | ||||||
Add:
changes in operating assets and liabilities
|
(171 | ) | (73 | ) | ||||
Net
cash provided by operating activities
|
$ | 354 | $ | 433 |
28
Changes
in operating assets and liabilities primarily reflect changes in working capital
components of the balance sheet apart from cash and cash equivalents. Net cash
provided by operating activities also reflects changes in some non-current
components of the balance sheet, such as long-term deferred rent and non-current
prepaid expenses and deposits.
As
discussed earlier in the overview section of our Management’s Discussion and
Analysis of Financial Condition and Results of Operations, for each calendar
year, we divide our operations into 13 four-week billing and commission cycles
always ending on a Thursday, while we report our financial results as of the
last day of each calendar month. The timing of billing and collection activities
after the end of the billing cycle does not correspond with the end of the
accounting period, therefore this timing difference results in the fluctuations
of the balances of cash, accounts receivable, commissions payable and accrued
commissions.
The total
cash we received exclusively from our members, net of credit card returns,
electronic fund transfer returns, and return checks is as follows (in thousands)
(unaudited):
Three-months
ended October 31,
|
||||||||||||||||
2010
|
2009
|
|||||||||||||||
Amount
|
Percent
of
total
|
Amount
|
Percent
of
total
|
|||||||||||||
Credit
cards
|
$ | 2,843 | 66 | % | $ | 2,855 | 65 | % | ||||||||
Electronic
funds transfer
|
1,137 | 26 | % | 1,177 | 27 | % | ||||||||||
Cash
and checks
|
321 | 7 | % | 357 | 8 | % | ||||||||||
Cash
received from marketplace members
|
$ | 4,301 | 100 | % | $ | 4,389 | 100 | % |
Investing
Activities
Net cash
used in investing activities was primarily the result of a business acquisition,
purchase of property and equipment and intangible assets and the collections on
notes receivable from corporate office sales.
For the
three-months ended October 31, 2010, net cash used by
investing activities was ($34) compared with $108 provided by investing
activities in the three-months ended October 31, 2009, a decrease of $142, or
131%. In the three-months ended October 31, 2010, the net cash used
in investing activities was primarily related to $72 cash consideration paid for
the acquisition of a Barter membership list and $9 in purchases of new
equipment, offset by $47 in payments received from notes during the period.
In the three-months ended October 31, 2009, the net cash provided by investing
activities was primarily related to the sale of a corporate-owned office which
included a $50 cash down payment and collection of existing notes
receivables.
Financing
Activities
Our net
cash used in financing activities consists of cash dividends to stockholders and
discretionary repurchases of our common stock.
For the
three-months ended October 31, 2010, net cash used in financing
activities was $90 compared with $0 used in financing activities in the
three-months ended October 31, 2009, an increase of cash used in financing
activities of $90. In the three-months ended October 31, 2010, we declared and
paid a $90 cash dividend to our stockholders.
29
Commitments
and Contingencies
We
lease office space under operating leases. Lease commitments include leases for
the Company’s corporate headquarters in Bellevue, Washington, and branch
offices in Chicago, Illinois, and Solon, Ohio. These leases expire between May
2011 and April 2015.
In
addition to the lease commitments, we are a party to several non-cancelable and
non-refundable purchase commitments. Those purchase obligations consist
primarily of arrangements for telecommunications and co-location services for
our network operations. Our contractual commitments at October 31,
2010 are presented below (in thousands) (unaudited):
Year ending July 31,
|
Operating
leases
|
Purchase
commitments
|
Total
|
|||||||||
2011(1)
|
205 | 13 | 218 | |||||||||
2012
|
188 | 8 | 196 | |||||||||
2013
|
163 | - | 163 | |||||||||
2014
|
166 | - | 166 | |||||||||
2015
|
126 | - | 126 | |||||||||
Total
|
$ | 848 | $ | 21 | $ | 869 |
(1)
|
The
expected payments for 2011 reflect future minimum payments for the
nine-month period from November 1, 2010 to July 31,
2011.
|
Critical
Accounting Policies and Estimates
Our
discussion and analysis of our financial condition and results of operations is
based on our consolidated financial statements, which have been prepared in
accordance with accounting principles generally accepted in the U.S. The
preparation of financial statements in conformity with accounting principles
generally accepted in the U.S. requires management to make estimates and
assumptions that affect the amounts reported in the consolidated financial
statements and accompanying notes. On an ongoing basis, we evaluate significant
estimates used in preparing our financial statements, including those related
to:
·
|
revenue
recognition, including allowances for uncollectible
accounts;
|
·
|
accounting
for ITEX dollar activities;
|
·
|
the
allocation of purchase price in business
combinations
|
|
·
|
accounting
for goodwill and other long-lived intangible
assets;
|
·
|
accounting
for income taxes
|
·
|
share-based
compensation; and
|
·
|
litigation
matters
|
We base
our estimates on historical experience and on various other assumptions that we
believe to be reasonable under the circumstances, the results of which form the
basis for making judgments about the carrying values of assets and liabilities
that are not readily apparent from other sources. Actual results may differ from
these estimates if our assumptions change or if actual circumstances differ from
those in our assumptions.
30
For a
summary of all of our significant accounting policies, including the critical
accounting policies discussed above, see Note 1, Summary of Significant
Accounting Policies, to our consolidated financial statements filed with our
2010 annual report on Form 10-K.
Recent
Accounting Pronouncements
For a
discussion of new accounting pronouncements and their impact on the Company, see
Note 1 of the Notes to Consolidated Financial Statements included in Item 1 of
this Form 10-Q.
FACTORS
THAT MAY AFFECT FORWARD-LOOKING STATEMENTS
The
issues and uncertainties listed below, among other, may adversely impact and
impair our business and should be considered in evaluating our financial outlook
and the forward-looking statements included in this report.
Our
revenue growth and success is tied to the operations of our independent Broker
Network, and as a result the loss of our brokers or the financial performance of
our brokers can negatively impact our business
We
service our member businesses primarily through our independent licensed broker
and franchise network (individually, “broker”, together, the “Broker
Network”), and our financial success depends on our brokers and the manner in
which they operate and develop their offices. We depend on the
ability of our brokers to enroll new members, train them in the use of the
Marketplace, grow our transactional volume by facilitating business among
members, manage member relationships, provide members with information about
ITEX products and services, and assure the payment of our dues and
fees. Brokers are independently owned and operated and have a
contractual relationship with ITEX, typically for a renewable five-year
term. Our inability to renew a significant portion of these
agreements on terms satisfactory to our broker and us could have a material
adverse effect on our business, financial condition and results of
operations. Further, our brokers may not be successful in increasing
the level of revenues generated compared to prior years, or even sustaining
their own business activities, which depends on many factors, including the
success of their marketing activities, control of expense levels, the employment
and management of personnel, and being able to secure adequate financing to
operate their businesses. There can be no assurance that our brokers
will be successful in adding members or increasing the volume of transactions
through the Marketplace, or that if they do not renew their agreements or
terminate operations we will be able to attract new brokers at rates sufficient
to maintain a stable or growing revenue base. If our brokers are
unsuccessful in generating revenue, enrolling new members to equalize the
attrition of members leaving the Marketplace, or if a significant number of
brokers become financially distressed and terminate operations, our revenues
could be reduced and our business operating results and financial condition may
be materially adversely affected.
31
Future
revenue growth remains uncertain and our operating results and profitability may
decline
Although
we seek to increase revenues through organic growth and the development of new
revenue streams, the primary driver of revenue growth in recent years has been
through business acquisitions. We cannot assure you that our revenues
will continue to increase in future quarters or future years. We may
be unable to continue to add revenue through acquisitions, either because of the
absence of acquisition candidates, lack of financing, or unacceptable
terms. Other than extrapolating from historical data based on the
size of the ITEX Marketplace, it is difficult for us to project the level of our
revenues or earnings accurately. We have approximately 28% recurring
revenues. We do not have an order backlog, and approximately 65% of
our net revenues each fiscal quarter come from transactions during that
three-month period. Our operating results in one or more future
quarters may fall below the expectations of investors.
We cannot
assure you that we can continue to be operated profitably, which depends on many
factors, including the success of our development and expansion efforts, the
control of expense levels and the success of our business
activities. We invest in marketing, broker and member support,
technology and further development of our operating infrastructure. Some of this
investment may entail long-term commitments. As a result, we may be unable to
adjust our spending rapidly enough to compensate for any unexpected revenue
shortfall, which may harm our profitability. Growth rates for the
barter industry are difficult to ascertain. Despite our efforts to
expand our revenues, we may not be successful. We experience a
certain amount of attrition from members leaving the Marketplace. If
we do not experience growth and new member enrollments do not continue or are
insufficient to offset attrition, we will increasingly need to focus on keeping
existing members active and increasing their activity level in order to maintain
or grow our business. We cannot assure you that this strategy would
be successful to offset declining revenues or profits.
Our
brokers could take actions that could harm our business, our reputation and
adversely affect the ITEX Marketplace
Our
agreements with our brokers require that they understand and comply with all
laws and regulations applicable to their businesses, and operate in compliance
with our Marketplace Rules. Brokers are independently owned and
operated and are not our employees, partners, or affiliates. We set
forth operational standards and guidelines; however, we have limited control
over how our broker businesses are run. Our brokers have individual
business strategies and objectives, and may not operate their offices in a
manner consistent with our philosophy and standards. We cannot assure
that our brokers will avoid actions that adversely affect the reputation of ITEX
or the ITEX Marketplace. Improper activity stemming from one broker
can generate negative publicity which could adversely affect our entire Broker
Network and the ITEX Marketplace. Our image and reputation and the
image and reputation of other brokers may suffer materially, and system-wide
sales could significantly decline if our brokers do not operate their businesses
according to our standards. While we ultimately can take action to
terminate brokers and franchisees that do not comply with the standards
contained in our agreements, and even though we may implement compliance and
monitoring functions, we may not be able to identify problems and take action
quickly enough and, as a result, our image and reputation may suffer, causing
our revenues or profitability to decline. Further, the success and
growth of our Broker Network depends on our maintaining a satisfactory working
relationship with our existing brokers and attracting new brokers to our
network. Lawsuits and other disputes with our brokers could
discourage our brokers from expanding their business or lead to negative
publicity, which could discourage new brokers from entering our network or
existing brokers from renewing their agreements, and could have a material
adverse effect on our business, financial condition and results of
operations.
32
We
may be held responsible by members, third parties, regulators or courts for the
actions of, or failures to act by, our brokers or their employees, which exposes
us to possible adverse judgments, other liabilities and negative
publicity
From time
to time we are subject to claims for the conduct of our brokers in situations
where a broker has caused injury to a member as a result of a transaction in the
ITEX Marketplace. Third parties, regulators or courts may seek to
hold us responsible for the actions or failures to act by our brokers or their
employees. Failure to comply with laws and regulations by our
brokers, or litigation involving potential liability for broker activities could
be costly and time consuming for us, divert management attention, result in
increased costs of doing business, lead to adverse judgments, expose us to
possible fines and negative publicity, or otherwise harm our
business.
Failure
to deal effectively with member disputes could result in costly litigation,
damage our reputation and harm our business
ITEX
faces risks with respect to transactional disputes between members of the ITEX
Marketplace. From time to time we receive complaints from
members who may not have received the goods or services that they had purchased,
concerning the quality of the goods or services, or who believe they have been
defrauded by other members or ITEX brokers. We also receive complaints from
sellers because a buyer has changed his or her mind and decided not to honor the
contract to purchase the item. While ITEX does, in some cases, as
part of its transaction dispute resolution process reverse transactions, reduce
or eliminate credit lines, suspend accounts, or take other measures with members
who fail to fulfill their payment or delivery obligations to other members, the
determination as to whether a transaction is reversed or how to resolve a
specific dispute is made by ITEX in its sole discretion. Measures we
may take to resolve transactional disputes or combat risks of fraud have the
potential to damage relations with our members or brokers or decrease
transactional activity in the ITEX Marketplace by restricting the activities of
certain members. Furthermore, negative publicity and member sentiment generated
as a result of member complaints or fraudulent or deceptive conduct by members
of our Marketplace could damage our reputation, or reduce our ability to attract
new members or retain our current members.
We
occasionally receive communications from members requesting reimbursement or
threatening or commencing legal action against us if no reimbursement is
made. In addition, because we service our member businesses through
our Broker Network, we are subject to claims and could potentially be found
liable for the conduct of our brokers in a situation where that broker has
caused injury to a member. Litigation involving disputes between
members and liability for broker actions could be costly and time consuming for
us, divert management attention, result in increased costs of doing business,
lead to adverse judgments, or otherwise harm our business. In addition, affected
members may complain to regulatory agencies that could take action against us,
including imposing fines or seeking injunctions.
33
Use
of our services for illegal purposes could damage our reputation and harm our
business
Our
members, typically small businesses, actively market products and services
through the ITEX Marketplace and our website. The law relating to the
liability of providers of online services for the activities of users or members
of their service is often the subject of litigation. We may be unable
to prevent our members from selling unlawful or stolen goods or unlawful
services, or selling goods or services in an unlawful manner, and we could be
subject to allegations of civil or criminal liability for unlawful activities
carried out by users through our services. It is possible that third
parties, including government regulators and law enforcement officials, could
allege that our services aid and abet certain violations of certain laws, for
example, laws regarding the sale of counterfeit items, the fencing of stolen
goods, selective distribution channel laws, and the sale of items outside of the
U.S. that are regulated by U.S. export controls.
Although
we have prohibited the listing of illegal goods and services and implemented
other protective measures, we may be required to spend substantial resources to
take additional protective measures or discontinue certain service offerings,
any of which could harm our business. Any costs incurred as a result
of potential liability relating to the alleged or actual sale of unlawful goods
or services could harm our business. In addition, negative media publicity
relating to the listing or sale of unlawful goods and stolen goods using our
services could damage our reputation, diminish the value of our brand names, and
make members reluctant to use our services.
ITEX’s
trade dollar currency is also susceptible to potentially illegal or improper
uses. Recent changes in law have increased the penalties for
intermediaries providing payment services for certain illegal
activities. Despite measures taken by ITEX as a third-party
record-keeper to detect and lessen the risk of this kind of conduct, illegal
activities could still be funded using ITEX dollars. Any resulting claims or
liabilities could harm our business.
Our
business is subject to online security risks, including security breaches and
identity theft
We host
confidential information as part of our client relationship management and
transactional processing platform. Our security measures may not
detect or prevent security breaches that could harm our
business. Currently, a significant number of our members authorize us
to bill their credit card accounts directly for fees charged by
us. We take a number of measures to ensure the security of our
hardware and software systems and member and client
information. Advances in computer capabilities, new discoveries in
the field of cryptography or other developments may result in the technology
used by us to protect transaction data being breached or
compromised. Other large Internet companies have been the subject of
sophisticated and highly targeted attacks on portions of their
sites. In addition, any party who is able to illicitly obtain a
members’ password could access the members’ transaction data. An
increasing number of websites have reported breaches of their
security. Any compromise of our security could harm our reputation
and, therefore, our business, and could result in a violation of applicable
privacy and other laws. In addition, a party that is able to
circumvent our security measures could misappropriate proprietary information,
cause interruption in our operations, damage our computers or those of our
users, or otherwise damage our reputation and business. Under credit card rules
and our contracts with our card processors, if there is a breach of credit card
information that we store, we could be liable to the credit card issuing banks
for their cost of issuing new cards and related expenses. In
addition, if we fail to follow credit card industry security standards, even if
there is no compromise of customer information, we could incur significant fines
or lose our ability to give customers the option of using credit cards to pay
their fees. If we were unable to accept credit cards, our business
would be seriously damaged.
We
continue to enhance our systems for data management and protection, and
intrusion detection and prevention. However, our servers may be vulnerable to
computer viruses, physical or electronic break-ins, and similar
disruptions. We may need to expend significant resources to protect
against security breaches or to address problems caused by
breaches. Security breaches, including any breach by us or by parties
with which we have commercial relationships that result in the unauthorized
release of our members’ personal information, could damage our reputation and
expose us to a risk of loss or litigation and possible liability. Our
insurance policies carry coverage limits which may not be adequate to reimburse
us for losses caused by security breaches.
34
Unplanned
system interruptions or system failures could harm our business and
reputation
Any
interruption in the availability of our transactional processing services due to
hardware and operating system failures will reduce our revenues and
profits. Our revenue depends on members using our processing
services. Any unscheduled interruption in our services results in an
immediate, and possibly substantial, loss of revenues. Frequent or
persistent interruptions in our services could cause current or potential
members and our subscription-based clients to believe that our systems are
unreliable, leading them to switch to our competitors or to avoid our websites
or services, and could permanently harm our reputation. In addition,
we have entered into an agreement with a subscription-based service client that
requires certain minimum performance standards, including standards regarding
the availability and response time of our services. If we fail to
meet these standards, our customers could terminate their relationships with us
and we could be subject to contractual monetary
penalties. Furthermore, any system failures could result in damage to
our members’, clients’ or brokers’ businesses. These persons could seek
compensation from us for their losses. Even if unsuccessful, this type of claim
likely would be time-consuming and costly for us to address.
Although
our systems have been designed around industry-standard architectures to reduce
downtime in the event of outages or catastrophic occurrences, they remain
vulnerable to damage or interruption from earthquakes, floods, fires, power
loss, telecommunication failures, terrorist attacks, computer viruses, computer
denial-of-service attacks, and similar events or disruptions. Some of
our systems are not fully redundant, and our disaster recovery planning may not
be sufficient for all eventualities. Our systems are also subject to break-ins,
sabotage, and intentional acts of vandalism. Despite any precautions
we may take, the occurrence of a natural disaster, a decision by any of our
third-party hosting providers to close a facility we use without adequate notice
for financial or other reasons, or other unanticipated problems at our hosting
facilities could cause system interruptions, delays, and loss of critical data,
and result in lengthy interruptions in our services. Our business
interruption insurance may not be sufficient to compensate us for losses that
may result from interruptions in our service as a result of system
failures.
Failure
to comply with laws and regulations that protect our members’ personal and
financial information could result in liability and harm our
reputation
We store
personal and financial information for members of the ITEX Marketplace and in
connection with our subscription-based client service
offerings. Privacy concerns relating to the disclosure and
safeguarding of personal and financial information have drawn increased
attention from federal and state governments. Federal and state law
requires us to safeguard our members’ and clients’ financial information,
including credit card information. Although we have established
security procedures to protect against identity theft and the theft of this
personal and financial information, breaches of our privacy may occur. To the
extent the measures we have implemented are breached or if there is an
inappropriate disclosure of confidential or personal information or data, we may
become subject to litigation or administrative sanctions, which could result in
significant fines, penalties or damages and harm to our brand and
reputation. Even if we were not held liable, a security breach or
inappropriate disclosure of confidential or personal information or data could
harm our reputation. In addition, we may be required to invest
additional resources to protect us against damages caused by these actual or
perceived disruptions or security breaches in the future. Changes in
these federal and state regulatory requirements could result in more stringent
requirements and could result in a need to change our business
practices. Establishing systems and processes to achieve compliance
with these new requirements may increase our costs and could have a material
adverse effect on our business, financial condition and results of
operations.
35
We
have claims and lawsuits against us that may result in adverse
outcomes
From time to time we are subject to a
variety of claims and lawsuits. Adverse outcomes in one or more of
these claims may result in significant monetary damages that could adversely
affect our ability to conduct our business. Although management currently believes
resolving all of these matters, individually or in the aggregate, will not have
a material adverse impact on our financial statements, the litigation and other
claims are subject to inherent uncertainties and management’s view of these
matters may change in the future. A material adverse impact on our
financial statements also could occur for the period in which the effect of an
unfavorable final outcome becomes probable and reasonably
estimable.
If
we lose the services of our chief executive officer, our business could
suffer
Our
performance depends substantially on the continued services of our Chief
Executive Officer, Steven White. Mr. White also currently fills the
executive positions of Interim Chief Financial Officer and Chief Accounting
Officer. Our board places heavy reliance on Mr. White’s experience
and management skills. We have not entered into a formal employment
agreement with Mr. White, other than an agreement to receive a payment in
connection with a “change of control,” as defined in the
agreement. We do not carry key man life insurance to insure the
business in the event of Mr. White’s death. If we were to lose the
services of Mr. White, we could face substantial difficulty in hiring a
qualified successor or successors, and could experience a loss in performance
while any successor obtains the necessary training and experience. In
addition, in connection with a management transition we may need to attract,
train, retain and motivate additional financial, technical, managerial,
marketing or support personnel. We face the risk that if we are
unable to attract and integrate new personnel, or retain and motivate existing
personnel, our business, financial condition and results of operations will be
adversely affected.
Alliances,
mergers and acquisitions could result in operating difficulties, dilution and
other harmful consequences
We have
acquired four businesses since 2005. We expect to continue to
evaluate and consider other potential strategic transactions, including business
combinations, acquisitions and dispositions of businesses, technologies,
services, products and other assets and strategic investments. At any
given time we may be engaged in discussions or negotiations with respect to one
or more of these types of transactions. Any of these transactions
could be material to our financial condition and results of
operations. The process of integrating an acquired company, business
or technology may create unforeseen operating difficulties and expenditures and
is risky. The areas where we may face difficulties
include:
|
•
|
Diversion
of management time, as well as a shift of focus from operating the
businesses to challenges related to integration and
administration;
|
|
•
|
Challenges
associated with integrating employees from the acquired company into the
acquiring organization. These may include declining employee morale and
retention issues resulting from changes in, or acceleration of,
compensation, or changes in management, reporting relationships, future
prospects, or the direction of the
business;
|
36
|
•
|
the
need to integrate each company’s accounting, management, information,
human resource and other administrative systems to permit effective
management, and the lack of control if such integration is delayed or not
implemented;
|
|
•
|
the
need to implement controls, procedures and policies appropriate for a
public company at companies that prior to acquisition had lacked such
controls, procedures and policies;
|
|
•
|
in
some cases, the need to transition operations, members, and customers onto
our existing platforms; and
|
|
•
|
liability
for activities of the acquired company before the acquisition, including
violations of laws, rules and regulations, commercial disputes, tax
liabilities and other known and unknown
liabilities.
|
The
expected benefit of any of these strategic relationships may not materialize and
the cost of these efforts may negatively impact our financial
results. Future alliances, mergers or acquisitions or dispositions
could result in potentially dilutive issuances of our equity securities, the
expenditure of our cash or the incurrence of debt, contingent liabilities or
amortization expenses, or write-offs of goodwill, any of which could adversely
affect our results of operations and dilute the economic and voting rights of
our stockholders. Future acquisitions may require us to obtain
additional equity or debt financing, which may not be available on favorable
terms or at all.
We
may need additional financing; current funds may be insufficient to finance our
plans for growth or our operations
Although
we believe that our financial condition is stable and that our cash balances and
operating cash flows provide adequate resources to fund our ongoing operating
requirements, we have limited funds and may have contractual obligations in the
future. Our existing working capital may not be sufficient to allow
us to execute our business plan as fast as we would like or may not be
sufficient to take full advantage of all available strategic
opportunities. We believe our current core operations reflect a
scalable business strategy, which will allow our business model to be executed
with limited outside financing. However, we also may expand our
operations, enter into a strategic transaction, or acquire competitors or other
business to business enterprises. We have a line of credit with our
primary banking institution, which will provide additional reserve capacity for
general corporate and working capital purposes, and if necessary, enable us to
make certain expenditures related to the growth and expansion of our business
model. However, if adequate capital were not available or were not
available on acceptable terms at a time when we needed it, our ability to
execute our business plans, develop or enhance our services, make acquisitions
or respond to competitive pressures would be significantly
impaired. Further, we cannot assure you that we will be able to
implement various financing alternatives or otherwise obtain required working
capital if needed or desired.
We
are dependent on the value of foreign currency.
We
transact business in Canadian dollars as well as U.S.
dollars. Revenues denominated in Canadian dollars comprised 7.0% and
6.6% in the years ended July 31, 2010 and 2009, respectively. While
foreign currency exchange fluctuations are not believed to materially adversely
affect our operations at this time, changes in the relation of the Canadian
dollar to the U.S. dollar could continue to affect our revenues, cost of sales,
operating margins and result in exchange losses.
37
If
we fail to maintain an effective system of internal controls, we may not be able
to detect fraud or report our financial results accurately, which could result
in a loss of investor confidence in our financial reports and have an adverse
effect on our stock price
Effective
internal controls are necessary for us to provide reliable financial reports and
to detect and prevent fraud. We periodically assess our system of
internal controls to review their effectiveness and identify potential areas of
improvement. These assessments may conclude that enhancements,
modifications or changes to our system of internal controls are
necessary. For example, in the third quarter of fiscal 2010, an ITEX
broker sold a large number of computers which he was unable to fulfill,
resulting in a number of transaction reversals. We determined that we
did not have an adequate process level control in place to prevent the recording
of serial orders that in the aggregate are large or unusual and which may not be
fulfilled. Performing assessments of internal controls, implementing
necessary changes, and maintaining an effective internal controls process is
expensive and requires considerable management attention. Internal
control systems are designed in part upon assumptions about the likelihood of
future events, and all such systems, however well designed and operated, can
provide only reasonable, and not absolute, assurance that the objectives of the
system are met. We face the risk that the design of our controls and
procedures may prove to be inadequate or that our controls and procedures may be
circumvented, thereby causing delays in detection of errors or inaccuracies in
data and information. It is possible that any lapses in the effective
operations of controls and procedures could materially affect earnings, that we
could suffer losses, that we could be subject to costly litigation, that
investors could lose confidence in our reported financial information and our
reputation, and that our operating results could be harmed, which could have a
negative effect on the trading price of our common stock.
Pursuant
to Section 404 of the Sarbanes-Oxley Act of 2002, we must certify the
effectiveness of our internal controls over financial reporting
annually. If we are unable to assert that our internal control over
financial reporting is effective for a particular year (or if our auditors are
unable to attest that we have maintained, in all material respects, effective
internal controls), we could lose investor confidence in the accuracy and
completeness of our financial reports. That could adversely affect
our competitive position in our business, and the market price for our common
stock.
ITEM
4T. CONTROLS AND PROCEDURES
(a)
Disclosure controls and procedures.
Under the
supervision and with the participation of our management, including the Chief
Executive Officer, who is also the Interim Chief Financial Officer, we have
evaluated the effectiveness of our disclosure controls and procedures as
required by Exchange Act Rule 13a-15(b) as of the end of the period covered by
this report. Based on that evaluation, our CEO and Interim CFO
concluded that our disclosure controls and procedures are effective as of the
end of the period covered by this report.
(b)
Changes in internal control over financial reporting.
There
have been no changes in our internal controls over financial reporting during
our most recent fiscal quarter that we believe have materially affected, or are
reasonably likely to materially affect, our internal controls over financial
reporting.
38
PART
II. OTHER INFORMATION
ITEM
1. LEGAL PROCEEDINGS
See Note
7 –
Legal Proceedings of the Notes to consolidated
financial statements (Item 1) for information regarding legal
proceedings.
ITEM
6. EXHIBITS
Exhibit
Number
|
Description
|
|
31.1
|
Certification
of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002
|
|
31.2
|
Certification
of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002
|
|
32.1
|
Certification
by Chief Executive Officer and Chief Financial Officer pursuant to Section
906 of the Sarbanes-Oxley Act of
2002
|
SIGNATURES
In accordance with the requirements of
the Exchange Act, the registrant caused this report to be signed on its behalf
by the undersigned, thereunto duly authorized.
ITEX
CORPORATION
|
||
(Registrant)
|
||
Date: December
14, 2010
|
By:
|
/s/ Steven White
|
Steven
White
|
||
Chief
Executive Officer
|
||
Interim
Chief Financial Officer
|
39