The accompanying notes are an integral part of these consolidated financial statements.

5

PACIFIC WEBWORKS, INC. & SUBSIDIARIES

Notes to the Consolidated Financial Statements

March 31, 2012 and 2011

(Unaudited)

NOTE 1 – BASIS OF FINANCIAL STATEMENT PRESENTATION

The accompanying unaudited consolidated financial statements have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission.  Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted in accordance with such rules and regulations.  The information furnished in the interim condensed consolidated financial statements includes normal recurring adjustments and reflects all adjustments, which, in the opinion of management, are necessary for a fair presentation of such financial statements.  Although management believes the disclosures and information presented adequately ensure that the information is not misleading, it is suggested that these interim consolidated financial statements be read in conjunction with the Company’s audited financial statements and notes thereto included in its December 31, 2011 Annual Report on Form 10-K.  Operating results for the three month period ending March 31, 2012 are not necessarily indicative of the results to be expected for the year ending December 31, 2012.

NOTE 2 – NOTES PAYABLE

On January 27, 2010, the Company executed a Promissory Note Secured by a Deed of Trust with Assignment of Rents in the principal amount of $1,000,000 (the “Note”).  The Note holder is entitled to receive the entire principal amount with all accrued interest, at 7% interest per annum, payable on or before January 27, 2012.  On January 27, 2012, the maturity date of the Note was amended to January 27, 2015.  The Note is secured by a deed of trust with assignment of rents on commercial properties owned by the Company.  The Holder is entitled to collect rents and lease amounts, if any, from the buildings upon any default and may at its option elect to foreclose on the properties.  The Company may make payments prior to the due date and any payment will be applied first to the reduction of interest and the remaining balance to the outstanding principal.  In the event the Company fails to pay any amount when due, then the amount owing will become immediately due and a default interest rate of 15% shall apply to the principal amount.  

On December 2, 2011, the Company assumed a Promissory Note in the principal amount of $30,000 as part of its acquisition of Asher, LLC.  The holder of the note is entitled to receive the entire principal amount with all accrued interest, at 5% interest per annum, on or before January 1, 2014.  Management intends to use the $30,000 proceeds from this note for inventory purchases and operational expenses. During the period ended March 31, 2012 the Company made payments on the note totaling $2,389.

NOTE 3 – INVESTMENTS

On April 21, 2011, Pacific WebWorks invested $250,000 in common units of Middlebury Ventures II, LLC, a Delaware limited liability company formed for the purpose of participating in the Fisker Holdings, Inc. Series C-1 and subsequent rounds of financing.  On December 27, 2011, the Company invested an additional $93,280 in common units of Middlebury Ventures II, LLC.  On March 28, 2012, the Company invested an additional $25,000 in common units of Middlebury Ventures II, LLC.  The funds are to be used by Middlebury Ventures II, LLC for the acquisition of Fisker Holdings, Inc. Series C-1 Shares pursuant to the Fisker Series C-1 transaction documents.  Fisker Holdings, Inc. is an automotive company competing in the luxury hybrid-electric vehicle market.

6

PACIFIC WEBWORKS, INC. & SUBSIDIARIES

Notes to the Consolidated Financial Statements

March 31, 2012 and 2011

(Unaudited)

NOTE 3 – INVESTMENTS – CONTINUED

On November 11, 2011, the Company, through its Headlamp Ventures, LLC subsidiary, invested a total of $250,000 in Payroll Innovations, LLC and PickYourPayday.com, LLC, sister companies having common ownership and management and providing payroll debit card and online payroll advance service to small and mid-sized employers.  For value received, the Company holds a 25% ownership position in Payroll Innovations, LLC and PickYourPayday.com, LLC.  For the year ended December 31, 2011 the Company recognized a $21,186 loss on its equity investment and for the period ended March 31, 2012 the Company recognized a $27,530 loss on its equity investment.

At March 31, 2012 the Company held $250,000 in municipal bonds with a maturity date of July 1, 2031.

NOTE 4 – CONTINGENCIES

The Middlebury Ventures II, LLC operating agreement contains a 40% capital call provision specifically associated with the Fisker D-1 round of financing, which includes a 40% capital call component.  Members of Middlebury Ventures II, LLC are required to invest an amount up to 40% of their investment to date at the time of the capital call, based on the percentage of the total capital call. Those members failing to meet the capital call encounter an automatic conversion of their shares into common shares on a 2:1 basis.  Those members that meet the capital call will convert their shares into common shares on a 1:1 basis at such time when there is a market for Fisker securities.

The Payroll Innovations, LLC and PickYourPayday.com, LLC operating agreements provide for capital calls upon approval by 75% of the membership voting interest.  The total amount of each approved capital call is also subject to approval by 75% of the membership voting interest.  In a capital call each member is required to invest its proportionate share based on its membership interest.  No member’s interest in the companies can be diluted without unanimous approval by the members.

NOTE 5 – SEGMENT REPORTING

Segment reporting by business unit follows:

           ^aAmounts include all intercompany receivables, payables, revenues and expenses prior to elimination

             for consolidation.

7

PACIFIC WEBWORKS, INC. & SUBSIDIARIES

Notes to the Consolidated Financial Statements

March 31, 2012 and 2011

(Unaudited)

NOTE 5 – SEGMENT REPORTING – CONTINUED

              ^aAmounts include all intercompany receivables, payables, revenues and expenses prior to elimination

               for consolidation.

NOTE 6 – CRITICAL ACCOUNTING POLICIES

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes.  Estimates of particular significance in our financial statements include trade receivables and collections, goodwill, contingent liabilities, and valuing stock option compensation.

Trade receivables and collections - We apply a range of collection techniques to manage delinquent accounts.  Management reviews accounts receivable monthly and records an estimate of receivables determined to be uncollectible due to allowance for doubtful accounts and bad debt.  Accounts receivable and the corresponding allowance for doubtful accounts are reviewed for collectability by management quarterly and uncollectible accounts receivable are written off.

Revenue Recognition -The Company recognizes revenue in accordance with the Securities and Exchange Commission, Staff Accounting Bulletin (SAB) No. 101, “Revenue Recognition in Financial Statements” and its revisions in SAB No. 104.  SAB 101 and 104 clarify application of generally accepted accounting principles related to revenue transactions.

We receive revenue for hosting, gateway, and maintenance fees, software access and licensing fees. Revenues from up-front fees are deferred and recognized over the period in which services are performed, ranging from one month to one year.  Fees for the set-up of merchant accounts are deferred and recognized as services are completed (which is generally two months).  Revenues from monthly hosting, maintenance, transaction and processing fees are recorded when earned. Operating lease revenues for merchant accounts and software are recorded as they become due from customers.

The Company recognizes revenues when all of the following criteria are met: (1) persuasive evidence of an arrangement exists, (2) delivery of products and services has occurred, (3) the fee is fixed or determinable and (4) collectibility is reasonably assured.

8

PACIFIC WEBWORKS, INC. & SUBSIDIARIES

Notes to the Consolidated Financial Statements

March 31, 2012 and 2011

(Unaudited)

NOTE 6 – CRITICAL ACCOUNTING POLICIES – CONTINUED

Goodwill - Goodwill related to Intellipay is assessed annually for impairment by comparing the fair value of Intellipay to its carrying amount, including goodwill.  In testing for a potential impairment of goodwill, the estimated fair value of Intellipay is compared with book value, including goodwill.  If the estimated fair value exceeds book value, goodwill is considered not to be impaired and no additional steps are necessary.  If, however, the fair value of Intellipay is less than book value, then an impairment loss is recognized equal to the excess of book value to estimated fair value. The estimate of implied fair value of goodwill may require independent valuations of certain internally generated and unrecognized intangible assets such as our paying monthly gateway portfolio, software and technology and trademarks.  If the carrying amount of our goodwill exceeds the implied fair value of that goodwill, an impairment loss would be recognized in an amount equal to the excess.  The fair value of Intellipay is estimated using both cash flow information from internal budgets and multiples of revenue.  In the event that an impairment indicator arises prior to our annual impairment test of goodwill, we will provide a full test relative to the indicator in the period that the indicator is present.

Valuing stock options - We measure and record compensation cost relative to performance stock option costs in accordance with FASB ASC 480-10, which requires the Company to use the Black-Scholes pricing model to estimate the fair value of options at the option date of grant.  The fair value of the option grant is established at the date of grant using the Black-Scholes option pricing model based on assumptions related to the five year risk free interest rate, dividend yield, volatility, and average expected term (years to exercise).

Fair Value Measurements - We adopted ASC Topic 820 (originally issued as SFAS 157, “Fair Value Measurements”) as of January 1, 2008 for financial instruments measured at fair value on a recurring basis.  ASC Topic 820 defines fair value, establishes a framework for measuring fair value in accordance with accounting principles generally accepted in the United States and expands disclosures about fair value measurements.

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.  ASC Topic 820 establishes a three-tier fair value hierarchy which prioritizes the inputs used in measuring fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements).  These tiers include:

·

Level 1, defined as observable inputs such as quoted prices for identical instruments in active markets;

9

PACIFIC WEBWORKS, INC. & SUBSIDIARIES

Notes to the Consolidated Financial Statements

March 31, 2012 and 2011

(Unaudited)

NOTE 6 – CRITICAL ACCOUNTING POLICIES – CONTINUED

·

Level 2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable such as quoted prices for similar instruments in active markets or quoted prices for identical or similar instruments in markets that are not active; and

·

Level 3, defined as unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own assumptions, such as valuations derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable.

We measure certain financial instruments at fair value on a recurring basis. Assets and liabilities measured at fair value on a recurring basis are as follows at March 31, 2012:

The table below presents our assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) at March 31, 2012.  We classify financial instruments in Level 3 of the fair value hierarchy when there is reliance on at least one significant unobservable input to the valuation model.

Fair Value of Other Financial Instruments - The carrying amounts of our accounts receivable, accounts payable and accrued liabilities approximate their fair values due to their immediate or short-term maturities.  The aggregate carrying amount of the notes payable approximates fair value as the

individual notes bear interest at market interest rates and there hasn’t been a significant change in our operations and risk profile.

10

PACIFIC WEBWORKS, INC. & SUBSIDIARIES

Notes to the Consolidated Financial Statements

March 31, 2012 and 2011

(Unaudited)

NOTE 7 – SUBSEQUENT EVENTS

On April 11, 2012, the Company sold the $250,000 in municipal bonds it held and moved the proceeds into a certain money trust account.

On April 16, 2012, the Promissory Note extended to Rsignia, Inc., went into default.  The Company subsequently provided Rsignia, Inc. with notice of default and a demand for repayment of all outstanding principal and accrued interest.  The Company is currently working with Rsignia, Inc. to collect payment in full.

On May 10, 2012, the Company invested an additional $30,000 into Payroll Innovations, LLC and PickYourPayday.com, LLC, two sister companies having common ownership and management, as part of a capital call requiring equitable participation from each owner.

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In this report references to “Pacific WebWorks,” “we,” “us,” “our” and “the Company” refer to Pacific WebWorks, Inc. and its subsidiaries.

FORWARD LOOKING STATEMENTS

The Securities and Exchange Commission (“SEC”) encourages reporting companies to disclose forward-looking information so that investors can better understand future prospects and make informed investment decisions.  This report contains these types of statements.  Words such as “may,” “expect,” “believe,” “anticipate,” “estimate,” “project,” or “continue” or comparable terminology used in connection with any discussion of future operating results or financial performance identify forward-looking statements.  You are cautioned not to place undue reliance on the forward-looking statements, which speak only as of the date of this report.  All forward-looking statements reflect our present expectation of future events and are subject to a number of important factors and uncertainties that could cause actual results to differ materially from those described in the forward-looking statements.

ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Executive Overview

Pacific WebWorks has utilized a variety of marketing approaches to communicate the viability of our software products as a revenue generating tool and the ability to use our tools in connection with the major retail sites.  The Company experienced success with its affiliate marketing program, however, due to abuses in our affiliate marketing system management has determined that it will no longer expose the Company to the risks associated with using that type of marketing. This has, and will continue to result in a significant decline in our revenues and consistent with this reduction in revenues, management has taken steps to reduce our overhead expense.  The Company has now shifted its focus to developing alternative marketing approaches and business opportunities primarily through acquisitions and investments in new businesses.

The first quarter of 2012 was primarily devoted to addressing items related to our ongoing legal issues as well as developing the Company’s investments and acquisitions. The Company continues to focus on developing alternative avenues through which its resources might be profitably employed.

During the first quarter of 2012 the Company continued to expend time and money to defend itself in the legal actions brought against the Company during the prior two years.  The legal actions have continued through 2012 and may possibly continue beyond.  In an effort to end the litigation, motions to dismiss the legal actions in the various jurisdictions have been filed.  Management has also accrued a liability of $400,000 in contemplation of settling the outstanding litigation matters.

As of the filing date of this report, we have trimmed our staffing significantly and identified and hired the personnel necessary to implement our new business model.  Our goal is to find synergistic opportunities, but we will not limit ourselves if other areas of interest develop.  We formed Headlamp Ventures, LLC and activated World Commerce Network, LLC and funded these subsidiaries for the purpose of seeking out investment opportunities in other businesses.  As of May 2012 the Company has invested an aggregate of $1,400,000 in other businesses directly or through our subsidiaries.

Liquidity and Capital Resources

During 2012 and 2011 we relied primarily on revenues to fund operations.  We expect to continue to generate positive cash flows through further development of our business and distribution channels and investments in other businesses.  We plan to address only the liabilities of our operating subsidiaries with our current cash balances and

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cash inflows.  Of course cash outflows can exceed monthly cash inflows based on timing differences between marketing campaigns and sales and returns on investment.

Our net revenues have continued to decline in 2012 as a result of the change in our marketing strategy.  Our cash and cash equivalents also decreased at March 31, 2012 due the deployment of cash into investments and acquisitions and our continued legal expense in defense against legal actions brought during the past two years.

Maintaining sufficient merchant account processing capabilities continues to be a factor in our overall performance. We work diligently with our existing merchant account providers and continually search for new merchant account providers in order to manage this risk.

We believe that we will be able to sustain our operations with existing cash and assets and future cash flows during the next twelve to twenty-four months and possibly beyond.  Should we need to raise money in the future we believe funding may be obtained through additional debt arrangements in addition to our internally generated cash flows.  However, if we are unable to obtain additional funds on acceptable terms, then we might be forced to delay or abandon some or all of our product development, marketing or business plans, and growth could be slowed, which may result in declines in our operating results and common stock market price.  

Commitments and Contingencies

Current Liabilities:  Our total current liabilities at March 31, 2012 included accounts payable and accrued liabilities. Accounts payable of $113,452 was related to operating costs such as marketing and advertising expenses and professional fees.  Our accrued liabilities of $622,437 were primarily the result of payroll related liabilities, income tax payable and legal liabilities, offset by estimated refunds and receivables.   

The Company is involved in several legal actions and as of March 31, 2012 management has recorded a contingent liability of $400,000, included in accrued liabilities, in contemplation of the settlement of a number of litigation matters.  The Company was also required to pay $15,000 into the client trust account of Henninger Garrison Davis, LLC as part of the Settlement Agreement entered into on March 29, 2012 in the matter of Tompkins et al. v. Pacific WebWorks, Inc. et al..

Also included in current liabilities at March 31, 2012 is $23,571 in deferred revenue primarily related to hosting services and $154,681 in accrued interest payable related to the Company’s $1,000,000 promissory note.

Promissory Notes:  Our long term liabilities at March 31, 2012 included a promissory note in the amount of $1,000,000.  On January 27, 2010, Pacific WebWorks, executed a Promissory Note Secured by a Deed of Trust with Assignment of Rents in the principal amount of $1,000,000 (the “Note”).  The holder of the Note, Principal Development, LLC, a Nevada limited liability company (the “Holder”), is entitled to receive the entire principal amount with all accrued interest, at 7% interest per annum, payable on or before January 27, 2012.  On January 27, 2012, the maturity date of the Note was amended to January 27, 2015.  

The Note is secured by a deed of trust with assignment of rents on our principal office building and a second commercial building we own in Salt Lake City, Utah.  Also, the Holder is entitled to collect rents and lease amounts, if any, from the buildings upon any default and may at its option elect to foreclose on the properties.  The Note also provides that we may make payments prior to the due date and that any payment will be applied first to the reduction of interest and the remaining balance to the outstanding principal.  In the event we fail to pay any amount when due, then the amount owing will become immediately due and a default interest rate of 15% shall apply to the principal amount.  

On December 2, 2011, the Company assumed a Promissory Note in the principal amount of $30,000 as part of its acquisition of Asher, LLC.  The holder of the note is entitled to receive the entire principal amount with all accrued interest, at 5% interest per annum, on or before January 1, 2014.  During the period ended March 31, 2012 the Company made payments on the note totaling $2,389.

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Results of Operations

The following discussions are based on the consolidated financial statements of Pacific WebWorks and its subsidiaries for the three month periods ended March 31, 2012 and 2011.  The following charts are a summary of our financial statements for those periods and should be read in conjunction with the financial statements, and notes thereto, included in this report at Part I, Item 1, above.

Total assets decreased at March 31, 2012 as compared to December 31, 2011 primarily as a result of a reduction in receivables related to the Visual WebTools business and a decrease in cash and cash equivalents in support of the Company’s legal expense.  At March 31, 2012 total liabilities also decreased compared to the 2011 year end as a result of continued cost control measures.  Our accumulated deficit increased at March 31, 2012 as a result of posting a loss for the three month period ended March 31, 2012 (“2012 first quarter”).

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We recognize revenue from hosting, gateway, and maintenance fees, software, access and licensing fees, the sale of merchant accounts and custom website design work.  Revenues from up-front fees from customers are recorded on the balance sheets as deferred revenues and are recognized over the period services are performed, ranging from eight months to one year.  Revenues from monthly hosting, maintenance, transaction and processing fees are recorded when earned.

Our net revenues decreased significantly for the 2012 first quarter compared to the 2011 first quarter as a result of our shift in marketing approaches.  Formerly we relied upon an affiliate marketing approach, but due to abuses in that type of system we no longer expose our operations to the risks associated with affiliate marketing. Management anticipates that revenues will grow from the reduced 2012 first quarter levels as new business opportunities are developed.

Cost of sales includes costs related to fulfillment, customer service, certain royalties and commissions, amortization of purchased customer portfolios, service personnel, telecommunications and data center costs.  Cost of sales increased in the 2012 first quarter as compared to the 2011 first quarter.  Cost of sales was 18.5% of net revenues for the 2012 first quarter as compared to 12.9% of net revenues for the 2011 first quarter largely due to a decline in sales against certain fixed costs.  Management anticipates that cost of sales will remain higher as a percentage of sales in the short term due to fixed costs as new revenue streams are developed.

Total operating expenses decreased for the 2012 first quarter compared to the 2011 first quarter primarily due to decreases in selling expenses, staff reduction and other cost control measures.  Selling expenses include advertising expenses, commissions and personnel expenses for sales and marketing and these expenses were higher in the 2012 first quarter due to the exploration of alternative marketing approaches.  

General and administrative expenses include personnel expenses for executive, finance, and internal support personnel.  In addition, general and administrative expenses include fees for bad debt costs, professional legal and accounting services, insurance, office space, banking and merchant fees, and other overhead-related costs.  General and administrative expenses decreased for the 2012 first quarter compared to the 2011 first quarter primarily due to a reduction in investor relations expense and executive payroll expense.

Our net income for the 2012 first quarter reflects the decline in revenues related to the Visual WebTools business as the Company pursued other business opportunities.

Off-balance Sheet Arrangements

We have not entered into any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources and would be considered material to investors.

Critical Accounting Policies

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes.  Estimates of particular significance in our financial statements include trade receivables and collections, goodwill, contingent liabilities, and valuing stock option compensation.

Trade receivables and collections - We apply a range of collection techniques to manage delinquent accounts. Management reviews accounts receivable monthly and records an estimate of receivables determined to be uncollectible due to allowance for doubtful accounts and bad debt.  Accounts receivable and the corresponding allowance for doubtful accounts are reviewed for collectability by management quarterly and uncollectible accounts receivable are written off.

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Revenue Recognition - The Company recognizes revenue in accordance with the Securities and Exchange Commission, Staff Accounting Bulletin (SAB) No. 101, “Revenue Recognition in Financial Statements” and its revisions in SAB No. 104.  SAB 101 and 104 clarify application of generally accepted accounting principles related to revenue transactions.

We receive revenue for hosting, gateway, and maintenance fees, software access and licensing fees. Revenues from up-front fees are deferred and recognized over the period in which services are performed, ranging from one month to one year.  Fees for the set-up of merchant accounts are deferred and recognized as services are completed (which is generally two months).  Revenues from monthly hosting, maintenance, transaction and processing fees are recorded when earned. Operating lease revenues for merchant accounts and software are recorded as they become due from customers.

The Company recognizes revenues when all of the following criteria are met: (1) persuasive evidence of an arrangement exists, (2) delivery of products and services has occurred, (3) the fee is fixed or determinable and (4) collectibility is reasonably assured.

Goodwill - Goodwill related to Intellipay is assessed annually for impairment by comparing the fair value of Intellipay to its carrying amount, including goodwill.  In testing for a potential impairment of goodwill, the estimated fair value of Intellipay is compared with book value, including goodwill.  If the estimated fair value exceeds book value, goodwill is considered not to be impaired and no additional steps are necessary.  If, however, the fair value of Intellipay is less than book value, then an impairment loss is recognized equal to the excess of book value to estimated fair value. The impairment test for 2011 resulted in an estimated fair value in excess of the book value of goodwill and no impairment was required.

The estimate of implied fair value of goodwill may require independent valuations of certain internally generated and unrecognized intangible assets such as our paying monthly gateway portfolio, software and technology and trademarks.  If the carrying amount of our goodwill exceeds the implied fair value of that goodwill, an impairment loss would be recognized in an amount equal to the excess.  The fair value of Intellipay is estimated using both cash flow information from internal budgets and multiples of revenue.  In the event that an impairment indicator arises prior to our annual impairment test of goodwill, we will provide a full test relative to the indicator in the period that the indicator is present.  

Contingent liabilities - Material estimates for contingent liabilities include approximately $400,000 for our operating companies in contemplation of the settlement of certain litigation matters.  From a liquidity standpoint, any settlement or judgment received by the Company from pending or threatened litigation may have a direct effect on our cash balances at March 31, 2012.  Management believes that all amounts estimated and recorded as contingent liabilities approximate the amount of liabilities that could be owed to parties in the form of settlement or in a judgment.  Any settlements that might occur below amounts accrued would result in a favorable impact to our earnings and working capital.

Fair Value Measurements - We adopted ASC Topic 820 (originally issued as SFAS 157, “Fair Value Measurements”) as of January 1, 2008 for financial instruments measured at fair value on a recurring basis.  ASC Topic 820 defines fair value, establishes a framework for measuring fair value in accordance with accounting principles generally accepted in the United States and expands disclosures about fair value measurements.

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.  ASC Topic 820 establishes a three-tier fair value hierarchy which prioritizes the inputs used in measuring fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements).  These tiers include:

·

Level 1, defined as observable inputs such as quoted prices for identical instruments in active markets;

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·

Level 2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable such as quoted prices for similar instruments in active markets or quoted prices for identical or similar instruments in markets that are not active; and

·

Level 3, defined as unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own assumptions, such as valuations derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable.

Fair Value of Other Financial Instruments - The carrying amounts of our accounts receivable, accounts payable and accrued liabilities approximate their fair values due to their immediate or short-term maturities.  The aggregate carrying amount of the notes payable approximates fair value as the individual notes bear interest at market interest rates and there hasn’t been a significant change in our operations and risk profile.

ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Not applicable to smaller reporting companies.

ITEM 4.  CONTROLS AND PROCEDURES

Disclosure Controls and Procedures

We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our reports filed with the SEC pursuant to the Exchange Act is recorded, processed, summarized and reported within the periods specified in the rules and forms of the SEC.  This information is accumulated and communicated to our management to allow timely decisions regarding required disclosure.  Our Chief Executive Officer and Chief Financial Officer evaluated the effectiveness of our disclosure controls and procedures as of the end of the period covered by this report.  Based on that evaluation, they concluded that our disclosure controls and procedures were effective for the first quarter ended March 31, 2012.

Changes to Internal Control over Financial Reporting

Our management is responsible for establishing and maintaining adequate internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act).  Management conducted an evaluation of the effectiveness of our internal control over financial reporting and determined that there were no changes made in our internal control over financial reporting during the first quarter of our 2012 fiscal year that have materially affected, or are reasonably likely to materially affect our internal control over financial reporting.

PART II – OTHER INFORMATION

ITEM 1.  LEGAL PROCEEDINGS

On February 3, 2010, a suit was brought against Pacific WebWorks by Tommy Tompkins in the Circuit Court of Jefferson County, Alabama.  The complaint in that case alleged that Pacific WebWorks violated the Telephone Consumer Protection Act by calling Mr. Tompkins’ cellular telephone to make a sales solicitation.  Pacific WebWorks has denied that it ever improperly called Mr. Tompkins, or that it otherwise violated the Telephone Consumer Protection Act.  In response to this action, Pacific WebWorks retained the law firm of Snell & Wilmer as legal counsel to vigorously defend the Company.  The plaintiffs, along with other parties and the Company have come to resolution as to a settlement of this dispute with a Settlement Agreement being fully executed on March

17

29, 2012.  Under the terms of this Settlement Agreement, the Company paid $15,000 to the client trust account of Henninger Garrison Davis, LLC to be allocated and distributed at the discretion of the plaintiffs and their counsel.

On November 1, 2011, the Company was named in a suit brought by Adrian O. Alegria in the District Court of the Central District of California.  The complaint in that case alleged breach of contract and fraud.  Pacific WebWorks retained Hirschi, Steele & Baer, PLLC and Single Oak Law Offices, APC as legal counsel to defend the Company. On April 24, 2012 the Company’s motion to dismiss was granted by the Court and this matter is considered to be closed.

ITEM 1A.  RISK FACTORS

Factors Affecting Future Performance

We may experience difficulty maintaining sufficient credit card processing capabilities to keep up with our transaction volume.

We rely upon our credit card merchant accounts to collect our monthly hosting payments and many of the limitations imposed upon us by the credit card associations, in the opinion of management, are unreasonable and unnecessarily confining.  In the past, these merchant account limitations have forced management to restrict our business growth and this restriction of growth continues to impact our earnings in a negative manner.   

We may pursue investments in, or acquisitions of, complementary service product lines, technologies or business opportunity through our subsidiaries which may interfere with our operations and negatively affect our financial position.

We intend to expand our services and product offerings and anticipate evaluating potential acquisitions of or investments in businesses, services, products, or technologies.  These investments or acquisitions may result in the incurrence of debt and contingent liabilities, goodwill impairment charges and amortization of expenses related to other intangible assets.  In addition, acquisitions and investments involve numerous risks, including difficulties in the assimilation of the operations, technologies, services, and products of acquired companies; the diversion of management’s attention from other business concerns; risks of entering markets in which we have no or limited direct prior experience; and, the potential loss of key employees of an acquired company.  As of the date of this filing, other than those items detailed herein, we have no present commitment or agreement with respect to any material acquisition of other businesses, services, products, or technologies.

We may need additional external capital and may be unable to raise it.

Our success will depend upon our ability to generate future cash flows and, if needed in the future, the ability to access equity capital markets and borrow on terms that are financially advantageous to us.  Also, we may not be able to obtain additional funds on acceptable terms.  If we are unable to obtain additional capital, then we may not have sufficient working capital to develop products, finance acquisitions, or pursue business opportunities.  If we borrow funds, then we could be forced to use a large portion of our cash reserves to repay principal and interest on those funds.  If we issue our securities for capital, then the interests of investors and shareholders could be diluted.

We are subject to intense competition from large and small companies that limits our ability to obtain market share and may force our prices down.

We face competition in the overall Internet software market, as well as in the business opportunity market.  Our ability to earn significant revenues from our Visual WebTools™ or IntelliPay payment system will depend in part on their acceptance by a substantial number of online businesses.  Broad acceptance of our products and services and their use in large numbers is critical to our success because a large portion of our revenues are derived from one-time and recurring fees we charge to customers buying our products and services.  Our success in obtaining market share will depend upon our ability to build name brand recognition and to provide cost-effective products and services to our customers.  We have developed our products to meet the needs of small businesses and we

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believe the generality of our competitors’ services may be inadequately addressing the small business owner’s needs. We expect competition to persist, increase, and intensify in the future as the markets for our products and services continue to develop and as additional competitors enter our market.  In addition, many of our current or potential competitors have broad distribution channels that they may use to bundle competing products directly to end-users or purchasers.  If these competitors were to bundle competing products for their customers, it could adversely affect our ability to obtain market share and may force our prices down.

We may be unable to achieve market acceptance because technological standards for payment processing are not established.

One obstacle to widespread market acceptance for the IntelliPay payment system is that widely adopted technological standards for accepting and processing payments over the Internet have not yet emerged.  As a result, merchants and financial institutions have been slow to select which service to use.  Until one or more dominant standards emerge, we must design, develop, test, introduce and support new services to meet changing customer needs and respond to other technological developments.  To be successful, we must obtain widespread acceptance of our technologies, or modify our products and services to meet whatever industry standards do ultimately develop. It is not certain that we will be able to do either.

We depend upon our proprietary rights, none of which can be completely safeguarded against infringement.

Our ability to compete effectively will depend, in part, upon our ability to protect our proprietary source codes for Visual WebTools™ and the IntelliPay payment system through a combination of licenses and trade secrets.  These agreements and procedures may not effectively prevent disclosure of our confidential information and may not provide us with an adequate remedy in the event of unauthorized disclosure of such information.  Intellectual property rights, by their nature, are uncertain and involve complex legal and factual questions.  We rely upon trade secrets with respect to our source code and functionalities and other unpatented proprietary information in our product development activities.  We seek to protect trade secrets and proprietary knowledge in part through confidentiality agreements with our employees, resellers, and collaborators.

If employees or collaborators develop products independently that may be applicable to our products under development, disputes may arise about ownership of proprietary rights to those products or services.  Protracted and costly litigation could be necessary to enforce and determine the scope of our proprietary rights and it would be impossible to predict whether litigation might be successful.

We rely in part on third party technology licenses which we cannot guarantee will be available to us in the future.

We rely on certain technology which we license from third parties, including software which is integrated with internally developed software and used in our software to perform key functions.  Our inability to maintain any of these technology licenses could result in delays in distribution of our services or increased costs of our products and services.  We cannot be assured that third party technology licenses will continue to be available to us on commercially reasonable terms, or at all.

We must update our products and services and may experience increased costs and delays which could reduce operating profit.

The electronic commerce, web hosting and merchant processing markets in which we compete are characterized by technological change, new product introductions, evolving industry standards and changing customer needs.  In order to remain competitive, we may be required to engage in a number of research and development projects, which carries the risks associated with any research and development effort, including cost overruns, delays in delivery and performance problems.  Any delay in the delivery of new products or services could render them less desirable by our customers, or possibly even obsolete.  Any performance problem with a new product or service may require significant funds to correct the problem.  As a result of these factors, our research and development efforts could result in increased costs that could reduce our operating profit, a loss of revenue if promised new

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products are not timely delivered to our customers, or a loss of revenue or possible claims for damages if new products and services do not perform as anticipated.

We may experience software defects which may damage customer relations.

Despite rigorous testing, our software may nevertheless contain undetected bugs, errors or experience failures when introduced, or when the volume of services provided increases.  Any material errors could damage the reputation of our service or software, as well as damage our customer relations. We have detected errors, defects, and bugs in the past and have corrected them as quickly as possible.  Correcting any defects or bugs we may discover in the future may require us to make significant expenditures of capital and other resources.  We believe that we follow industry-standard practices relating to the identification and resolution of errors, defects, or bugs encountered in the development of new software and in the enhancement of existing features in our products.  As of the date of this filing we have not experienced any material adverse effect by reason of an error, defect, or bug.

We may experience breakdowns in our hosting services, infrastructure or payment processing systems, which may expose us to liabilities and cause customers to abandon our products and services.

We would be unable to deliver our payment processing services or hosting services if our system infrastructures break down or are otherwise interrupted.  Events that could cause system interruptions are:

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fire,

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earthquake,

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power loss,

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terrorist attacks,

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harmful software programs,

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telecommunications failure, and

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unauthorized entry or other events.

Although we regularly back up data from operations, and take other measures to protect against loss of data, there is still some risk of such losses.  Despite the security measures we maintain, our infrastructure may be vulnerable to computer viruses, hackers, rouge employees or similar sources of disruption.  Any problem of this nature could result in significant liability to customers or financial institutions and also may deter potential customers from using our services.  We attempt to limit this sort of liability through back-up systems, contractual provisions, insurance and other security measures.  However, we cannot be assured that these contractual limitations on liability would be enforceable, or that our insurance coverage would be adequate to cover any liabilities we might sustain.

Also, a breach of our e-commerce security measures could reduce demand for our services.  The e-commerce industry is intensely focused on the need for Internet security, particularly with respect to the transmission and storage of confidential personal and financial data.  Any compromise or elimination of our security could erode customer confidence in our systems and could result in lower demand for our services or possible litigation.

We are dependent upon license renewal which cannot be assured to occur.

We derive revenues from user licenses and license renewals on a month-to-month arrangement.  We also intend to increase the brand recognition of our products among users through these types of relationships.  If a substantial number of our customers were to decline to renew their contracts for any reason, then we could experience a substantial drop in revenues. Our success in establishing our products as a recognized brand name and achieving their acceptance in the market will depend in part on our ability to continually engineer and deliver new product technologies and superior customer service, so that customers renew their licenses month to month.

We may not be able to adapt as the Internet market changes, including changing marketing strategies and the associated risks.

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Our failure to respond in a timely manner to changing market conditions or client requirements could have a material adverse effect on our business, prospects, financial condition, and results of operations.  The Internet is characterized by:

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rapid technological change;

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changes in advertiser and user requirements and preferences;

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frequent new product and service introductions embodying new technologies; and

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the emergence of new industry standards and practices that could render our existing service offerings, technology, and hardware and software infrastructure obsolete.

In order to compete successfully in the future, we must:

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enhance our existing products and develop new services and technology that address the increasingly sophisticated and varied needs of our prospective or current customers;

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license, develop or acquire technologies useful in our business on a timely basis;

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respond to technological advances and emerging industry standards and practices on a cost-effective and timely basis; and

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continue to find acceptable means through which to market our products.

Our industry is experiencing increased legal actions related to Internet marketing strategies and our financial condition may be at risk due to such legal actions.

We experienced increased legal actions during 2009 and 2010 related to our marketing strategies and these legal actions required our cash flows to be directed to our legal defense.  Our marketing strategies had relied upon resellers and affiliate marketers and these third parties may lack sufficient knowledge regarding proper marketing activities.  As a result, we have been included in litigation alleging violations of consumer protection and federal RICO laws, fraud and use of deceptive trade practices.  These contingent liabilities may increase our cost of doing business.  

Regulation of the Internet and Internet-based services may decrease the demand for our services and/or increase our cost of doing business.

Due to the increasing popularity and use of the Internet and online services, federal, state, local, and foreign governments may adopt laws and regulations, or amend existing laws and regulations, with respect to the Internet and other online services.  These laws and regulations may affect issues such as user privacy, pricing, content, taxation, copyrights, distribution, and quality of products and services.  Any new legislation could hinder the growth in use of the Internet generally or in our industry and could impose additional burdens on companies conducting business online, which could, in turn, decrease the demand for our services and increase our cost of doing business. The laws governing the Internet remain largely unsettled, even in areas where legislation has been enacted.  It may take years to determine whether and how existing laws, such as those governing intellectual property, privacy, libel, and taxation, apply to the Internet.  In addition, the growth and development of the market for electronic commerce may prompt calls for more stringent consumer protection laws, both in the United States and abroad, that may impose additional burdens on companies conducting business via the Internet.

We cannot be assured that the subsidiaries will be able to identify only business opportunities which will ultimately prove to be beneficial to the Company and our stockholders.  

Our subsidiaries’ search for business opportunities to invest in and this search will not be limited to any particular geographical area or industry.  Our subsidiaries’ management has unrestricted discretion in seeking a business opportunity, subject to the availability of such opportunities, economic conditions and other factors.  Business opportunity participation is governed by the parent company management and board of directors.  In addition, the selection of a business opportunity in which to participate is complex and extremely risky and will be made by the subsidiary’s management in the exercise of its business judgment.  We cannot be assured that the subsidiaries will be able to identify only business opportunities which will ultimately prove to be beneficial to the Company and our stockholders.  

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ITEM 6.  EXHIBITS