CURRENT ASSETS:

Cash and cash equivalents

Investments

Accounts receivable, trade (net of allowance for doubtful accounts of $34,000 and $33,000)

Prepaid expenses

Other current assets

 

Total Current Assets

PROPERTY AND EQUIPMENT

Cost

Less accumulated depreciation

 

Property and Equipment (net)

OTHER ASSETS:

Software development costs (net of accumulated amortization of $2,748,444 and $2,245,268)

Pension assets

Intangibles, net

Goodwill

Deposits and other assets

 

 

Total Other Assets

 

TOTAL ASSETS

 

 

CURRENT LIABILITIES:

Accounts payable

Accrued compensation

Deferred revenue

Current portion of pension obligation

Contingent liability

Short term bank debt

Short term note payable

Other accrued liabilities

 

Total Current Liabilities

 

Long-Term debt

Long-Term portion of pension obligation

 

Total Liabilities

STOCKHOLDERS’ EQUITY:

Common Stock, par value $.10; shares authorized, 40,000,000; 10,334,604 shares and 10,190,595 shares issued

Additional paid-in capital

Accumulated deficit

Treasury stock (80,225 shares, at cost)

Accumulated other comprehensive income

 

 

Total Stockholders’ Equity

 

TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY

 

 

NET REVENUES

Product revenues

Service revenues

 

Total Net Revenues

 

 

COSTS AND OPERATING EXPENSES:

Cost of revenues

Engineering and software development

Selling, general and administrative

Litigation expenses & settlement costs

 

Total Costs and Operating Expenses

 

INCOME (LOSS) FROM OPERATIONS

 

NET INTEREST INCOME

 

 

INCOME (LOSS) BEFORE TAXES

 

INCOME TAXES

 

 

NET INCOME (LOSS)

 

 

NET INCOME (LOSS) PER SHARE

Basic

 

Diluted

 

OPERATING ACTIVITIES:

Net income (loss)

Adjustments to reconcile net income to net cash provided by operating activities:

Depreciation and amortization

Increase in bad debt reserve

Change in acquisition liabilities

Compensation expense — equity grants

Loss on disposal of fixed assets

Changes in assets and liabilities:

Accounts receivable

Prepaid expenses and other current assets

Pension assets

Deposits and other assets

Accounts payable

Accrued compensation

Deferred revenue

Other accrued liabilities

Note payable

Prepaid rent liability

Pension obligation

 

Net cash provided (used) by operating activities

 

INVESTING ACTIVITIES:

Acquisition — cash paid

Sale of investments

Additions to property and equipment

Capitalized software development costs

 

Net cash flows used by investing activities

 

FINANCING ACTIVITY:

Borrowing (repayment) — line of credit

Bank borrowing — repayment of term loan

Exercise of stock options

Employee stock purchase plan

 

Net cash provided by financing activities

 

 

Net change in cash and cash equivalents

Cash and cash equivalents, beginning of year

 

Cash and cash equivalents, end of quarter

 

Cash Transactions:

Income taxes paid

Interest paid

 

Machinery and equipment

Computer hardware and software

Furniture and fixtures

 

 

 

For the six months ended June 30, 2011 and 2010, the Company recorded depreciation expense of $103,329 and $100,523, respectively.

The Company’s share-based compensation consists of restricted stock and stock options, vesting over periods ranging from one to four years. For the six months ended June 30, 2011, the Company awarded 290,375 stock options vesting over four years, canceled 38,500 stock options, and cancelled 53,333 restricted shares granted in previous periods. During the first six months of 2010, the Company awarded 23,000 stock options vesting over four years, cancelled 41,775 stock options, and cancelled 120,000 shares of restricted stock previously granted.

A summary of the status of the Company’s stock option plan as of June 30, 2011, is presented below:

Outstanding as of December 31, 2010

Granted

Exercised

Canceled

 

 

Outstanding as of June 30, 2011

 

 

Options exercisable at June 30, 2011

 

 

Net income (loss)

Unrealized change — pension

Unrealized change — investments

 

Total comprehensive income

 

ASC 260-10 “Earnings Per Share” requires the Company to calculate net income (loss) per share based on basic and diluted net income (loss) per share, as defined. Basic EPS excludes dilution and is computed by dividing net income (loss) by the weighted average number of shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock. The dilutive effect of outstanding options issued by the Company are reflected in diluted EPS using the treasury stock method. Under the treasury stock method, options will only have a dilutive effect when the average market price of common stock during the period exceeds the exercise price of the options.

 

 

Net Income (loss)

 

Weighted average common shares outstanding

 

Net Income (loss) per common share

 

 

 

Net Income (loss)

 

Weighted average common shares outstanding

Additional dilutive effect of stock options and warrants after application of treasury stock method

 

Weighted average dilutive shares outstanding

 

 

Net Income (loss) per common share assuming full dilution

 

Our agreements with customers generally require us to indemnify the customer against claims that our software infringes third party patent, copyright, trademark or other proprietary rights. Such indemnification obligations are generally limited in a variety of industry-standard respects, including our right to replace an infringing product. As of June 30, 2011 we had not experienced any material losses related to these indemnification obligations and no material claims with respect thereto were outstanding. We do not expect significant claims related to these indemnification obligations, and consequently, we have not established any related reserves.

The Company sponsors an employee incentive savings plan under Section 401(k) for all eligible employees. The Company’s contributions to the plan are discretionary. During the first quarter of 2011 the Company contributed $26,589 to employee’s 401(k) accounts. During the first quarter of 2010 the Company’s contribution to employee 401(k) accounts totaled $24,644.

The Company also sponsors an unfunded Supplemental Executive Retirement Program (“SERP”), which is a non-qualified plan that provides certain key employees defined pension benefits. Periodic pension expense for the three and six months ended June 30, 2011 and 2010 consists of the following:

 

Interest Cost

Unrealized Actuarial Gain

 

 

Pension Expense

 

The Company paid pension obligations of $251,030 for both the six months ended June 30, 2011 and June 30, 2010.

The discount rate used in determining the actuarial present value of the projected benefit obligation was 5.0% for the six months ended June 30, 2011 and 5.5% for the six months ended June 30, 2010.

The Company maintains life insurance covering certain current and former employees under its Supplemental Executive Retirement Program with the Company named as beneficiary. The Company intends to use the death benefits of these policies, as well as loans against the accumulating cash surrender value of the policies, to fund future pension obligations. The total death benefit associated with these policies is $10.2 million, with an associated accumulated cash surrender value of approximately $3,160,000 at June 30, 2011. The accumulated cash surrender values of these policies at December 31, 2010 was approximately $3,108,000.

The projected pension benefits paid or expected to be paid under this plan are as follows, assuming retirement at 65 and a life expectancy of 80 years for all participants:

 

Q3 - Q4 2011

2012

2013

2014

2015

2016 - 2020

The Company has a contractual obligation to maintain certain health benefits for two of its former executive officers. These benefits are accounted for as Post Retirement Healthcare Benefits, (“PRHB”). Periodic PRHB expensed and paid for the three and six months ended June 30, 2011 and 2010 consists of the following:

 

Current Service Cost

Interest Cost

 

 

PRHB Expense

 

The projected PRHB paid or expected to be paid are as follows:

 

Q3 - Q4 2011

2012

2013

2014

2015

2016 - 2020

On June 18, 2010 we acquired the enterprise telecom expense management (TEM) consulting business of privately held Source Loop, LLC, based in Alpharetta, Georgia. The aggregate purchase price paid for those assets was up to $1.5 million, plus the issuance of up to 500,000 shares of Veramark’s common stock. At closing, $300,000 in cash was paid and 100,000 shares of Veramark common stock were issued to the principals of Source Loop. In addition, Source Loop retained $300,000 in accounts receivable and cash on hand prior to the acquisition date, leaving contingent consideration of $900,000 and 400,000 shares of Veramark common stock that could be earned, subject to attaining certain revenue and employee retention parameters through December 31, 2011. Through June 30, 2011 we have paid the Principals of Source Loop $300,000 and issued 100,000 shares of common stock reflecting the attainment of 100% of the performance targets for 2010.

As of June 30, 2011, based on management’s projections of actual performance against targets contained in the asset purchase agreement for 2011, the estimated remaining contingent liability is $447,000 in cash and common stock. Under the purchase method of accounting, the remaining contingent stock consideration (300,000 shares) is treated as a financial derivative, and recorded as a liability, as it does not have a fixed settlement provision. This liability will vary in a mark-to-market fashion with the value of the Company’s stock, until the settlement amount is known. Increases in the Company’s stock price will result in an accounting expense, and decreases in the Company’s stock price will be recorded as income.

The unaudited financial information in the table below summarizes the combined results of operations on a pro-forma basis, as if we had acquired Source Loop on January 1, 2010.

 

Revenue

 

Income (Loss)

 

Earnings Per Share

 

Under the purchase method of accounting, we allocated the fair value of the total consideration expected to be transferred, to the tangible and identifiable intangible assets acquired from Source Loop based on their estimated fair values on the date of acquisition. The fair values assigned to the identifiable intangible assets were based on estimates and assumptions determined by management. The table below summarizes the fair values assigned to the identifiable intangible assets by asset class at the time of acquisition, and the subsequent amortization through June 30, 2011 of those intangible assets.

Customer Contracts

Customer Relationships

Key Employee Agreements

Other

 

Sub-Total Intangibles Subject to Amoritization

 

Goodwill

 

Total Intangible Assets Acquired

 

Customer Contracts

Customer Relationships

Key Employee Agreements

Other

 

Sub-Total Intangibles Subject to Amoritization

 

Material terms of the agreement included:

Asentinel waived all claims for damages for prior infringement and agreed not to make claims for future infringement of its patents.

The Company agreed to pay Asentinel $500,000. Of that amount $250,000 was paid upon execution of the agreement, and $250,000 is payable without interest, on June 16, 2012, and is represented by the Company’s promissory note

The lawsuit was dismissed against the Company.

A copy of that settlement agreement is attached to this report on Form 10-Q as Exhibit 10.14. A copy of the promissory note is attached as exhibit 10.15.

On October 31, 2008, Veramark Technologies, Inc. entered into a Revolving Demand Note Agreement (the “Agreement”), effective as of October 31, 2008, with Manufacturers and Traders Trust Company (the “Bank”) to provide working capital in the ordinary course of business. This Agreement was amended in October 2010 increasing the amount available under the agreement from $400,000 to $750,000. At June 30, 2011, the Company did not have any outstanding balance under this Agreement.

The material terms of the Agreement include:

The maximum outstanding principal balance under the Agreement is Seven Hundred Fifty Thousand Dollars ($750,000).

Veramark may borrow under the Agreement, from time to time, an amount less than or equal to, but not greater than the available balance.

The outstanding principal balance will bear interest at a per annum rate equal to LIBOR rate plus 3.5% with a minimum rate of 4.0%.

The Bank may demand payment of the outstanding principal balance at any time.

On October 29, 2010, the Company entered into an agreement with Manufacturers and Traders Trust Company to provide a three year term loan in the amount of $200,000, the proceeds of which were used to purchase furnishings and fixtures for the Company’s new headquarters facility. The loan bears an interest rate of LIBOR plus 4.0%, with a minimum interest rate of 4.5%. At June 30, 2011, the remaining balance of the term loan was $155,556.

 

GAAP Net Income (Loss)

Legal Expenses

Settlement Amount

 

Adjusted Net Income (Non-GAAP)

 

 

Fully Diluted EPS (Non-GAAP)

 

 

GAAP Net Income

 

 

Fully Diluted EPS

 

 

Gross expenditures for engineering & software development

Less: Software development costs capitalized

Net expense for engineering and software development

In October 2009, the FASB issued Accounting Standards Update No. 2009-13, Multiple-Deliverable Revenue Arrangements, which amends existing revenue recognition accounting pronouncements that are currently within the scope of FASB Codification Subtopic 605-25 (previously included within EITF Issue No. 00-21, Revenue Arrangements with Multiple Deliverables, or EITF 00-21). The consensus to EITF Issue No. 08-01, Revenue Arrangements with Multiple Deliverables, or EITF 08-01, provides accounting principles and application guidance on whether multiple deliverables exist, how the arrangement should be separated, and the consideration allocated. This guidance eliminates the requirement to establish the fair value of undelivered products and services and instead provides for separate revenue recognition based upon management’s estimate of the selling price for an undelivered item when there is no other means to determine the fair value of that undelivered item. EITF 00-21 previously required that the fair value of the undelivered item be the price of the item either sold in a separate transaction between unrelated third parties or the price charged for each item when the item is sold separately by the vendor. This was difficult to determine when the product was not individually sold because of its unique features. Under EITF 00-21, if the fair value of all of the elements in the arrangement was not determinable, then revenue was deferred until all of the items were delivered or fair value was determined. This new approach is effective prospectively for revenue arrangements entered into or materially modified in fiscal years beginning on or after June 15, 2010. This update does not have a material effect on the Company’s financial statements.

In January 2010, the FASB issued Accounting Standards Update No. 2010-06, topic 820, Fair Value Measurements and Disclosures, which amends existing fair value disclosure pronouncements. This update provides amendments to Subtopic 820-10 that require new disclosures as follows:

Transfers in and out of Levels 1 and 2. A reporting entity should disclose separately the amounts of significant transfers in and out of Level 1 and Level 2 fair value measurements and describe the reasons for the transfers.

Activity in Level 3 fair value measurements. In the reconciliation for fair value measurements using significant unobservable inputs (Level 3), a reporting entity should present separately information about purchases, sales, issuances, and settlements (that is, on a gross basis rather than as one net number).

This update also provides amendments to Subtopic 820-10 that clarify existing disclosures as follows:

Level of disaggregation. A reporting entity should provide fair value measurement disclosures for each class of assets and liabilities. A class is often a subset of assets or liabilities within a line item in the statement of financial position. A reporting entity needs to use judgment in determining the appropriate classes of assets and liabilities.

Disclosures about inputs and valuation techniques. A reporting entity should provide disclosures about the valuation techniques and inputs used to measure fair value for both recurring and nonrecurring fair value measurements. Those disclosures are required for fair value measurements that fall in either Level 2 or Level 3.

This update also includes conforming amendments to the guidance on employers’ disclosures about postretirement benefit plan assets (Subtopic 715-20). The conforming amendments to Subtopic 715-20 change the terminology from major categories of assets to classes of assets and provide a cross reference to the guidance of Subtopic 820-10 on how to determine appropriate classes to present fair value disclosures.

This update is effective for interim and annual reporting periods beginning after December 15, 2009, except for the disclosures about purchases, sales, issuances, and settlements in the roll forward of activity in Level 3 fair value measurements. Those disclosures are effective for fiscal years beginning after December 15, 2010, and for interim periods within those fiscal years. This update does not have a material effect on the Company’s financial statements.

In April 2010, the FASB issued Accounting Standards Update No. 2010-13, topic 718, Compensation — Stock Compensation, which adds clarification that an employee share-based award with an exercise price denominated in the currency of a market in which a substantial portion of the entity’s equity securities trades should not be considered to contain a condition that is not a market, performance, or service condition. Therefore, an entity would not classify such an award as a liability if it otherwise qualifies as an equity. This update is effective for fiscal years, and interim periods within those fiscal years beginning on or after December 15, 2010. This update does not have a material effect on the Company’s financial statements.

In April 2010, the FASB issued Accounting Standards Update No. 2010-17, topic 605, Revenue Recognition — Milestone Method, which provides guidance on the criteria that should be met for determining whether the milestone method of revenue recognition is appropriate. A vendor can recognize consideration that is contingent upon achievement of a milestone in its entirety as revenue in the period in which the milestone is achieved only if the milestone meets all criteria to be considered substantive. This update is effective on a prospective basis for milestones achieved in fiscal years, and interim periods within those years, beginning on or after June 15, 2010. This update does not have a material effect on the Company’s financial statements.

In July 2010, the FASB issued Accounting Standards Update No. 2010-20, topic 310, Receivables, which requires disclosures about the credit quality of financing receivables and the allowance for credit losses. The disclosures as of the end of a reporting period are effective for interim and annual reporting periods ending on or after December 15, 2010. This update does not have a material effect on the Company’s financial statements.

In December 2010, the FASB issued Accounting Standards Update No. 2010-28, topic 350, When to Perform Step 2 of the Goodwill Impairment Test for Reporting Units with Zero or Negative Carrying Amounts. For those reporting units with zero or negative carrying value, step 2 of the impairment test is required to be performed, even if step 1 indicates it is not necessary. This update does not have a material effect on the Company’s financial statements.

In December 2010, the FASB issued Accounting Standards Update No. 2010-29, topic 805, Disclosure of Supplementary Pro Forma Information for Business Combinations, to clarify diversity in practice of applying this topic. Paragraph 805-10-50-2(h) requires a public entity to disclose pro forma information for business combinations that occurred in the current reporting period. The disclosures include pro forma revenue and earnings of the combined entity for the current reporting period as though the acquisition date for all business combinations that occurred during the year had been as of the beginning of the annual reporting period. If comparative financial statements are presented, the pro forma revenue and earnings of the combined entity for the comparable prior reporting period should be reported as though the acquisition date for all business combinations that occurred during the current year had been as of the beginning of the comparable prior annual reporting period. The Company properly reports such supplementary information in its filings.

In May 2011, the FASB issued Accounting Standards Update No. 2011-04, topic 820, Fair Value Measurement, to improve the comparability of fair value measurements presented and disclosed in financial statements prepared in accordance with United States GAAP and International Financial Reporting Standards. Some of the amendments clarify the Board’s intent about the application of existing fair value measurement requirements. Other amendments change a particular principle or requirement for measuring fair value or for disclosing information about fair value measurements. Specifically, the guidance requires additional disclosures for fair value measurements that are based on significant unobservable inputs. The updated guidance is to be applied prospectively and is effective for the Company’s interim and annual periods beginning January 1, 2012. The adoption of this guidance is not expected to have a material impact on the Company’s consolidated financial statements.

In June 2011, the FASB issued Accounting Standards Update No. 2011-05, topic 220, Comprehensive Income. The objective of this Update is to improve the comparability, consistency, and transparency of financial reporting and to increase the prominence of items reported in other comprehensive income. To increase the prominence of items reported in other comprehensive income and to facilitate convergence of U.S. generally accepted accounting principles (GAAP) and International Financial Reporting Standards (IFRS), the FASB decided to eliminate the option to present components of other comprehensive income as part of the statement of changes in stockholders’ equity, among other amendments in this Update.

The amendments require that all non-owner changes in stockholders’ equity be presented either in a single continuous statement of comprehensive income or in two separate but consecutive statements. In the two-statement approach, the first statement should present total net income and its components followed consecutively by a second statement that should present total other comprehensive income, the components of other comprehensive income, and the total of comprehensive income. The amendments in this Update should be applied retrospectively, and are effective for the Company’s interim and annual periods beginning after December 15, 2011. The Company does not expect this update to have a material effect on the Company’s financial statements.

Vendor Specific Objective Evidence of the fair value (VSOE),

Third Party Evidence (TPE)

Best Estimate of the Selling Price (ESP)

Asentinel waived all claims for damages for prior infringement and agreed not to make claims for future infringement of its patents.

The Company agreed to pay Asentinel $500,000. Of that amount $250,000 was paid upon execution of the agreement and $250,000 is payable ,without interest on June 16, 2012 and is represented by the Company’s promissory note

The lawsuit was dismissed against the Company.

(a)

 

(b)

3.1

 

3.2

 

10.1

 

10.2*

 

10.3*

 

10.4*

 

10.5*

 

10.6*

 

10.7*

 

10.8*

 

10.9*

 

10.10*

10.11*

 

10.12*

 

10.13*

 

10.14

 

10.15

 

14

 

31.1

 

31.2

 

32.1

 

32.2

(c)

 

 

 

 

Date: August 12, 2011

 

/s/ Anthony C. Mazzullo

Anthony C. Mazzullo

President and CEO

 

Date: August 12, 2011

 

/s/ Ronald C. Lundy

Ronald C. Lundy

Vice President of Finance and CFO