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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

Form 10-K

[X]
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the Fiscal Year Ended March 31, 2012

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: 0-13959
 
 
Logo
 
LML PAYMENT SYSTEMS INC.
(Exact name of registrant as specified in its charter)

Yukon Territory
 
###-##-####
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)
     
1680-1140 West Pender Street
Vancouver, British Columbia   Canada
 
V6E 4G1
(Address of principal executive offices)
 
(Zip Code)

Registrant’s Telephone Number, Including Area Code: (604) 689-4440

Securities registered pursuant to Section 12(b) of the Act:
 
Title of Each Class
 
Name of Each Exchange on Which Registered
Common Stock, without par value
 
The NASDAQ Capital Market

Securities registered pursuant to Section 12(g) of the Act:
None
(Title of each class)

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes [   ]   No [X]

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes [   ]   No [X]

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 during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).Yes [  ]   No [X] (not applicable to the registrant)

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X]

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”, “non-accelerated filer” and “smaller reporting company” in rule 12b-2 of the Exchange Act.

Large Accelerated Filed
[  ]
Accelerated Filer
[  ]
Non-Accelerated Filer
[   ]
 
Smaller Reporting Company
[X]
       
(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 September 30, 2011, the last business day of the registrant's most recently completed second fiscal quarter, the aggregate market value of the Common Stock of the registrant held by non-affiliates based upon the closing sale price of the Common Stock on such date as reported on the NASDAQ Capital Market was approximately $37.6 million.

As of June 15, 2012, the Registrant had 28,246,684 shares of Common Stock outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the registrant’s proxy statement for its 2012 Annual Meeting of Shareholders, which will be filed with the Commission within 120 days after the end of the registrant’s fiscal year ended March 31, 2012, are incorporated by reference into Part III of this Annual Report on Form 10-K.
 
 


 


LML PAYMENT SYSTEMS INC.
2012 FORM 10-K ANNUAL REPORT

TABLE OF CONTENTS

   
Page
PART I
   
Item 1.
1
Item 1A.
7
Item 1B.
18
Item 2.
18
Item 3.
18
Item 4.
20
     
PART II
   
Item 5.
21
Item 6.
24
Item 7.
25
Item 7A.
40
Item 8.
41
Item 9.
41
Item 9A.
41
Item 9B.
42
     
PART III
   
Item 10.
43
Item 11.
43
Item 12.
43
Item 13.
43
Item 14.
43
     
PART IV
   
Item 15.
44
     
 
48
     
     





ITEM 1.
Business

Unless the context otherwise requires, references in this report on Form 10-K to the “Company”,  “LML,” “we,” “us” or “our” refer to LML Payment Systems Inc. and its direct and indirect subsidiaries. LML Payment Systems Inc.’s subsidiaries are Beanstream Internet Commerce Inc.(“Beanstream”), LML Corp. and Legacy Promotions Inc..  LML Corp.’s subsidiaries are LML Patent Corp., LML Payment Systems Corp. and Beanstream Internet Commerce Corp.   Unless otherwise specified herein, all references herein to “$” are to United States (“U.S.”) Dollars.  From time to time the Company has made and may continue to make written or oral “forward-looking statements” including those contained in this Annual Report on Form 10-K. These forward-looking statements represent the Company’s present expectations or beliefs concerning future events.  The Company cautions that such statements are qualified by important factors that could cause actual results to differ materially from those in the forward-looking statements including those factors identified below in Item 1A – “Risk Factors”.

Overview

We are a leading provider of payment processing solutions including electronic payment processing, risk management and authentication services, primarily to businesses and organizations that use the Internet to receive or send payments.

We link merchants selling products or services to customers wanting to buy them and financial institutions who allow the transfer of payments to occur.  We have partnership arrangements and certified connections to financial institutions, payment processors and other payment service providers in order to enable our customers to safely and reliably accept or make payments electronically primarily using the Internet.  We provide electronic payment, authentication and risk management services to over 13,000 businesses and organizations in Canada and the United States.

We operate three separate lines of business: transaction payment processing, intellectual property licensing and check processing. Our transaction payment processing services consist predominantly of Internet-based services, while our check processing services involve predominantly traditional and electronic check processing and recovery services that do not utilize the Internet.  While we have historically generated significant amounts of non-recurring revenue associated with our intellectual property licensing initiatives, our transaction payment processing services are (and are expected to be for the foreseeable future) our principal line of business, while our other lines of business (including our electronic check processing services and intellectual property licensing initiatives) are less significant to the financial performance of our company. See “Item 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations -- Overview” and Note 17 to our Consolidated Financial Statements included in this report.

Our headquarters are located at Suite 1680, 1140 West Pender Street, Vancouver, British Columbia, Canada and we have office locations in Victoria, British Columbia in Canada and Wichita, Kansas in the United States.

Transaction Payment Processing (“TPP”) Operations

Products and Services

Our TPP services link merchants selling products or services to customers wanting to buy them and financial institutions who allow the transfer of payments to occur.  We have partnership arrangements and certified connections to financial institutions, payment processors and other payment service providers in order to enable our customers to safely and reliably accept or make payments electronically primarily using the Internet.  We provide our electronic payment, authentication and risk management services to over 13,000 businesses and organizations in Canada and the United States.

Our payment services allow our customers to accept or process a wide array of payments including credit cards, debit cards, electronic fund transfers and Automated Clearing House (“ACH”) transactions.  We process Mastercard, VISA, American Express, Diners, JCB, and Discover cards on behalf of the majority of Canadian and American merchant account acquirers.  We also offer leading risk management solutions to both online and brick and mortar customers who wish to use the Internet as a cost effective means of communicating with their own bank or credit reporting agency.



Our TPP customers range in size from small, sole proprietorships to large corporations.  However, most of our transaction payment processing business comes from services we provide to small to medium size firms.  We support this market in three separate ways: first by providing services that can be integrated to a customer’s website or financial platform through software plug-ins and application programming interfaces (API’s); second, by providing hosted services where we can provide a turn-key e-Commerce website for a merchant; and third, by having our transaction payment processing services integrated directly into third party software solutions.  In each instance, our products and services are designed to provide this market segment with bundled payment, risk management, authentication, shopping cart products, reporting forms and other value-added services that allow our customers to sell goods and services and receive payment in an efficient and secure manner.

Our customers include both online merchants and brick and mortar merchants, including government and financial institutions. We provide electronic payment and risk management solutions for brick and mortar retailers and mail-order and telephone-order call-centers (“MOTO”) that allow these businesses to streamline payment processing.  Our payment services can be integrated into a customer’s accounting or financial system, thereby reducing administrative costs and removing some of the complexity of a paper-based environment.

We provide solutions for e-merchants where we integrate our services to the website of the e-merchant and their shopping cart or application software provider, which allows e-merchants to accept credit card and debit card payments, electronic funds transfers (EFT) and ACH payments.  Our payment solutions have been integrated into many shopping cart and application service providers who integrate our payment services into their own products in order to provide their customers secure access to financial payment networks.  Our payment products support both Canadian and U.S. dollar settlement and are available in both French and English.

Our hosted solutions offered to customers include a connection between the merchant’s website and our host system that provides the merchant with a shopping cart with secure payment processing for credit cards and debit cards, EFT and ACH payments, a secure order management interface, multi-currency options, multiple shipping options and sophisticated reporting and reconciliation tools.  All required forms and images are hosted on our servers and are secured using secured socket layer (SSL) encryption.  We operate equipment in three separate data centers to provide greater reliability to our merchants and customers.

In addition, we provide a robust selection of authentication tools for merchants to reduce the risk inherent in card-not-present credit card transactions.  Our merchants are entitled to the fraud protection services offered by the card associations such as Mastercard’s Securecode and Verified by Visa in addition to our own risk-management tools and applications.  We also provide additional easy to use authentication services that provide our merchants with information that ranges from the validation of credit card orders to the fraud screening of applications by consumers.  Our authentication services allow certification of addresses and telephone numbers and can identify addresses that have been known to be used as mail drops, and high risk postal codes.  Our highest level of authentication involves the consumer providing answers to “out-of-wallet” questions as part of the transaction process (“out-of-wallet” questions, such as questions about places someone has lived, cars they have owned or people that they know, refer to questions based on information that cannot be found in a wallet or a purse making it difficult for anyone other than the actual person to know the answer).   Finally, we supply merchants with a variety of risk management tools that, when combined with our cardholder authentication services, provide leading class functionality in the battle against payments fraud.

e-Commerce Market

Statistics from both the United States Department of Commerce and Statistics Canada give clear indications of the steady increase in the growth of e-Commerce in both the U.S. and Canada since 2001.   In addition, market research in the payments industry is showing strong indications of continued growth in electronic commerce.

In September 2011, Statistics Canada released the results of the 2010 Canadian Internet Use Survey, reporting that Canadians purchased goods and services over the Internet valued at approximately $15.3 billion in 2010.  Statistics Canada also reported that 51% of Canadian Internet users used the Internet to place orders for goods or services.  Moreover, the number of orders they placed increased from 95 million in 2009 to over 113 million orders in 2010, clearly indicating that Canadian commerce is moving online.
 
 

 
On February 16, 2012, the United States Department of Commerce reported that online retail sales in the United States grew by an estimated 16.1% to $194.3 billion in 2011 compared to 2010, while total retail sales increased by just 7.9% over the same period.  In addition, estimates released by the Department of Commerce on May 17, 2012 for the first quarter of 2012 show online retail sales increased approximately 15.4% from the first quarter of 2011 while total retail sales increased 6.5% in the same period.   It was also reported that online retail sales now comprise approximately 4.9% of total retail sales.

According to Forrester Research, a leading global research and advisory firm, online shopping in the United States are expected to reach $327 billion in 2016, up 45% from the projected $226 billion in online spending in 2012.  Furthermore, online retail sales are expected to account for 9% of total retail sales in 2016, up from a projected 7% in 2012.  Forrester also forecasts steady growth in the number of online shoppers, reporting that approximately 192 million U.S. consumers are expected to shop online in 2016, up 15% from the expected 167 million online shoppers in 2012.   One of the key factors driving ecommerce growth is the average amount U.S. consumers will spend online which is expected to increase from an average of approximately $1,207 in 2012 to an average of approximately $1,738 in 2016 – a 44% increase.

We believe that the electronic payments and e-Commerce markets will continue to grow as more and more businesses decide to sell products or make payments electronically over the Internet.

Technology and Data Centers

We operate a transaction processing platform that is designed for reliability, scalability and security.  We operate equipment at three separate data centers, one in each of Victoria, B.C., Saanich, B.C. and Toronto, Ontario.  These secure data centers contain the technology necessary to provide our services to merchants over the Internet and to our financial institutions and payment processing partners.  Our data centers contain our enterprise servers, network firewalls, routers and other technology we use to provide services to our merchants and partners.  Our processing software is certified to process financial transactions with a majority of Canadian and US merchant acquirers, which allows us to act as a single point of integration and point of contact for our customers and the customers of our channel partners and the financial payments network.

Our systems are monitored 24 hours per day, 7 days per week, 365 days per year.  We are also certified as a level 1 service provider under the Payment Card Industry (PCI) Data Security Standard (DSS) which is a comprehensive set of requirements for enhancing payment account data security that was developed by the PCI Security Standards Council including American Express, Discover Financial Services, JCB International, Mastercard Worldwide and VISA Inc., to help facilitate the broad adoption of consistent data security measures.

Sales and Marketing

Our products and services are primarily sold indirectly through both channel and technology partners, directly through our website and directly by an internal sales staff of five people.

We obtain new business as a result of our relationships with channel partners and our own internal marketing efforts.  These channel partners can be payment processors, financial institutions, independent sales organizations or software application vendors who, in many cases, may provide a value-added service to our merchants.  We typically pay either a referral fee or commission or residual fee for each merchant referred to us by our channel partners.  We rely on the success of our more than 800 channel partners for new sales.

Competitive Strengths

We believe our competitive strengths in our TPP operations include:

·  
Single Proprietary and Payments Technology Platform

We operate a single proprietary, scalable payments technology platform that provides our merchant clients with differentiated multi-payment processing solutions while also providing us with significant operational leverage benefits.



·  
Comprehensive Suite of Services

We currently offer a broad suite of payment processing and value-added services that allow our merchant clients to address their payment needs using a single payments technology provider.  Our services include merchant account acquisition and a wide range of innovative gateway value-added services such as dynamic transaction reporting, security and authentication features such CAV, SafeScan, eID verifier, tokenization, risk scoring and multi-currency products allowing merchant clients to sell products safely and securely in over 200 countries world-wide.  We have also developed industry specific solutions that alone, or in combination with proprietary services, contain features and functionality to meet specific requirements of various industry verticals such as subscription based businesses, governments, e-commerce and mobile.

·  
Easy Merchant Client Access to Payment Platform

Small and mid-size merchants are able to easily access our payment platform.  Payment services can be integrated to a merchant customer’s website or financial platform through software plug-ins and API’s.  Hosted turnkey payment services where small merchants are provided with a complete e-commerce website and our transaction payment services can be integrated directly into third-party software solutions.

·  
Industry Leading Customer Service

Knowing that good customer service is the life blood of any business, we currently offer industry leading customer service levels.  We staff our own bilingual (French and English) customer support center and provide direct inbound access to highly qualified and trained customer service representatives who are fully capable of handling technical and non-technical inquiries.  Our customer service desk is staffed by 12 people. Emergency support is available 24 hours a day, 7 days a week. Over 95% of our incoming calls are answered within 30 seconds by a live operator who in most cases can address a question immediately.

·  
Diverse Distribution Channels

We sell our payment solutions and services to merchant clients of all types through diverse distribution channels.  Our direct channel includes an in-house sales force that targets regional and national merchants.  Our indirect channel is highly diverse and includes relationships with a broad range of technology/value-added resellers who target merchant clients with an integrated offering.  We have arrangements with financial institutions and other payment processors who we partner with and who then sell our integrated payment solutions.  We provide customized white label services and solutions that are hosted on our payment platform but are marketed and sold under our partners’ (usually financial institutions) brand.  We also integrate our payment services with other third-party software providers who include payment processing services with their core products.

Competition

The market for our TPP products and services is highly competitive and is characterized by rapidly changing technology, changing industry standards, merchant requirements, pricing competition and rapid rates of product obsolescence. Our competitors include other payment gateways, merchant acquirers, payment processors, technology service providers, Internet commerce providers and financial institutions.  In Canada, our primary competition is Moneris and Paymentech. In the U.S. market we compete against other third party processors and gateways such as Cybersource, Authorize.net, and Verisign/Paypal.

We believe we compete on certain factors including:

·  
Customer service
·  
Features and functionality
·  
Strategic partnerships and channel partners
·  
Ease of product integration for customers
·  
Broad range of certified connections to financial institutions and payment processors

 

 
We believe that we compete favorably with respect to these factors, however we believe that part of our success will be our ability to successfully market existing services.  We operate in a market that is rapidly changing and we may not be able to successfully compete against current or future competitors.  Many of our competitors have greater technical, financial and marketing resources than us and, as a result, may be able to respond more quickly to changes in technology, industry standards and merchant requirements or may be able to devote greater resources to product development and marketing than us.  There can be no assurance that our current services will not become obsolete or that we will have the financial, technical and marketing resources and support facilities to compete successfully in the future.  Our failure to compete favorably could materially and adversely affect our business, results of operations and financial condition.

Strategy

Growing our TPP business in the future requires us to continue to execute on the following key strategies:

·  
Increase Client Base

One of our key growth strategies is to increase our small to mid-size merchant client base.  Currently we have over 13,000 merchant clients who are predominantly small in nature as opposed to having a national presence.  We believe that leveraging cost efficient, value-added services is expected to lead to high merchant retention rates.  In addition, margin opportunities provided by this merchant client segment generally provide more profit on a per transaction basis than do larger merchants.

·  
Develop New Services

In addition to increasing the number of merchant clients we serve, our growth strategy also includes increasing the level of business we conduct with our existing clients.  We plan to implement this growth strategy by leveraging our single payments technology platform and industry knowledge, emerging payment trends and third-party partnerships that address evolving merchant customer demands in order to provide new products and services as has been recently the case with our new security, multi-currency and mobile applications and services.

·  
Broaden And Deepen Distribution Channels

We also plan to broaden and deepen both our direct and indirect distribution channels to reach new merchant clients and to introduce new services to existing merchant clients.  We plan to grow indirect channels through new partner and referral arrangements with third-party technology providers, payment processors and financial institutions.

·  
Expand Into High Growth Segments And Verticals

As part of our growth strategy, we plan to concentrate on expanding further into high growth payment segments such as online businesses, e-commerce, mobile, information provision solutions and industry verticals such as business-to-business, healthcare and government.

·  
Enter New Geographic  Markets

By leveraging our payments technology platform and our comprehensive suite of payment services, third-party technology partners and financial institutions, we plan to expand our direct and indirect distribution channels to additional geographic regions.

Intellectual Property Licensing (“IPL”) Operations

Our IPL segment operations involve licensing our intellectual property estate, which includes U.S. patent nos. 5,484,988, 6,164,528, 6,283,366, 6,354,491, and RE40,220, all of which describe methods and systems for processing checks electronically.  Moreover, our patent estate addresses, among other issues, the electronic submission and approval of transactions through a centralized database and authorization system, electronic debiting of consumer bank accounts and electronic crediting of designated merchant accounts in real-time or off-line modes using the facilities of the ACH Network or any competing network.
 
 

 
Licenses to our intellectual property estate are generally provided to clients based on usage of the technology embodied in the patent(s) being licensed.  Some licensees pay ‘running royalties,’ which is a pay-as-you-go model, and other licensees pay a ‘one-time,’ fully paid-up royalty amount, also based on usage.  Clients’ usage pertaining to these one-time, fully paid-up licenses is contractually determined and in some cases, in order to determine usage and to facilitate the negotiation of a license agreement, the commencement of litigation and the discovery process inherent therein (to determine usage), is employed.   These one-time, fully paid-up licenses are also non-exclusive, similar to the non-exclusive nature of many software licensing arrangements treated as product sales,  and the consideration is fixed and non-refundable with no trailing royalties or other variable consideration.  In addition, these licenses do not contain refund, return or cancellation rights, nor continuing performance obligations and no when-and-if available deliverables are required to be provided by us.  During the fiscal year ended March 31, 2012, we entered into six settlement and license agreements with respect to  litigation we brought against multiple defendants in 2008 and 2009 (see Item 3 – Legal Proceedings), all of which involved non-recurring, one-time payments for fully paid-up licenses.

We rely upon a combination of patent, trademark, copyright, trade secret law and contractual provisions to establish and protect our proprietary rights in our trademarks, software and inventions.  Our success will depend, in part, on our ability to protect and enforce intellectual property protection for the technology contained in our patents and trademarks.  To protect and maximize the value of our patent estate, we have in the past, and expect to in the future, filed patent litigation against third parties that we believe are infringing our patents.  In addition, we intend to continue to file additional patent applications to expand our intellectual property estate, seeking coverage of our developments in our business areas.  There can be no assurance that these protections will be adequate to deter misappropriation of our technologies or independent third-party development of similar technologies.

Although we do not believe that our technology, products or services infringe the patent rights of others, we have in the past been accused of infringing the patent rights of others.  There can be no assurance that infringement claims will not be made against us in the future or that the validity or enforceability of any patent issued to us will be sustained if judicially tested in a court of law or reexamined by the United States Patent and Trademark Office.  The cost of both prosecuting a claim of infringement against others and defending a patent infringement claim may be substantial and there can be no assurance that we will have the resources necessary to successfully prosecute or defend a patent infringement claim.  See “Item 3 – Legal Proceedings.”

Check Processing (“CP”) Operations

Our CP segment operations involve primary and secondary check collection services including electronic check re-presentment (RCK) and return check management such as traditional and electronic recovery services to retail clients.  When we provide return check management services, we typically receive revenue when we are successful at recovering the principal amount of the original transaction on behalf of the client.  In some instances we also earn a percentage of the principal amount and in other instances our secondary recovery services provide for us to earn additional fees when legal action is required.  Our check processing services are provided in the United States and are operated from our Wichita, Kansas location.

Regulatory Matters

Various aspects of our lines of business are either subject to or may be affected by current and future governmental and other regulations in many different jurisdictions.  The rules, regulations, policies and procedures affecting our business are constantly subject to change.  See Item 1A. “Risk Factors – We and our clients must comply with complex and changing laws and regulations.”

The products and services that we provide to clients are subject to privacy legislation (including the Gramm-Leach-Bliley Act and regulations thereunder and the Personal Information Protection and Electronic Documents Act in Canada) as well as provincial and state laws relating to our ability to collect, monitor and disseminate information subject to privacy protection.  In addition, certain of our services may be subject to the Dodd-Frank Wall Street Reform and Consumer Protection Act, and certain of our services in Canada may be subject to federal legislation called the Proceeds of Crime and Terrorist Financing Act.  We also comply on a voluntary basis with the Code of Conduct for the Credit and Debit Card Industry in Canada



Certain check collection and electronic check re-presentment services that we provide in the U.S. are governed by the Federal Fair Debt Collection Practices Act and the Federal Fair Credit Reporting Act and other similar state laws.  Electronic check re-presentment transactions are subject to applicable National Automated Clearing House Association (“NACHA”) Operating Rules, and applicable Uniform Commercial Code statutes.  Our electronic check re-presentment transactions currently utilize the facilities of the Automated Clearing House Network and therefore are governed by and subject to NACHA Operating Rules and Regulation E.  We use commercially reasonable efforts to oversee compliance with the requirements of these acts and regulations.

Corporate History

We were originally incorporated under the laws of the Province of British Columbia, Canada, as a “specially limited company” on January 24, 1974. In October 1997, after receipt of shareholder approval, our directors elected to change our governing corporate jurisdiction to the Yukon Territory, which change became effective in November 1997.  Under the Yukon Business Corporations Act, we are a corporation that enjoys limited liability for its shareholders, is governed by its Board of Directors and generally has the powers and capacity attributable to a corporation.

Employees

There exists competition for personnel in the financial payment processing industry.  We believe that our future success will depend in part on our continued ability to hire and retain qualified personnel.  There can be no assurance that we will be successful in attracting and retaining a sufficient number of qualified employees to conduct our business in the future.  As of March 31, 2012, we had 64 full-time employees including 5 employees in sales and marketing and 18 employees in administration and finance.  We also employ consultants to perform services for us from time to time.

Business Concentration

During the fiscal year ended March 31, 2012, we earned revenue from three licensees resulting from settlement and license agreements amounting to approximately 36% of total revenue.  Because this revenue is non-recurring, we do not believe that we are economically dependent on future revenue from these licensees.  See “Part I, Item 3 – Legal Proceedings” and “Part II, Item 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations”.

Available Information

We maintain investor relations pages on our Internet website at http://www.lmlpayment.com.  On these pages, we make available our annual, quarterly and other current reports filed or furnished with the SEC as soon as practicable.  These reports may be reviewed or downloaded free of charge.  Alternatively, if you would like a paper copy of any such SEC report (without exhibits) or document, write to the Corporate Secretary, LML Payment Systems Inc., Suite 1680, 1140 West Pender Street, Vancouver,  BC   V6E 4G1, and a copy of such requested document will be provided to you, free of charge.


Risk Factors

Introduction

In addition to the normal risks of business, we are subject to significant risks and uncertainties, including those listed below and others described elsewhere in this Annual Report on Form 10-K.  Any of the risks described herein could result in a significant adverse effect on our results of operations and financial condition and could cause our actual results of operations to differ materially from the results contemplated by the forward-looking statements contained in this report.


We could be subject to liability as a result of security breaches, service interruptions by cyber terrorists or fraudulent or illegal use of our services.

Because some of our operating activities involve the storage and transmission of confidential personal or proprietary information, such as credit card numbers and bank account numbers, and because we are a link in the chain of e-Commerce, we are vulnerable to internal and external security breaches, service interruptions and third-party and employee fraud schemes that could damage our reputation and expose us to a risk of loss or litigation and monetary damages. Our payment services may be susceptible to credit card and other payment fraud schemes, including unauthorized use of credit cards, debit cards or bank account information, identity theft or merchant fraud. We expect that technically sophisticated criminals will continue to attempt to circumvent our anti-fraud systems. If such fraud schemes are successful or otherwise cause merchants, customers or partners to lose confidence in our services in particular, or in Internet systems generally, our business could be materially adversely affected.

Although we generally require that our agreements with our service providers who have access to merchant and customer data include confidentiality obligations that restrict these parties from using or disclosing any customer or merchant data except as necessary to perform their services under the applicable agreements, there can be no assurance that these contractual measures will prevent the unauthorized use or disclosure of data.  In addition, our business may also be susceptible to potentially illegal or improper uses. These uses may include illegal online gambling, fraudulent sales of goods or services, illicit sales of prescription medications or controlled substances, software and other intellectual property piracy, money laundering, bank fraud, child pornography trafficking, prohibited sales of alcoholic beverages and tobacco products and online securities fraud. Despite measures we have taken to detect and lessen the risk of this kind of conduct, there can be no assurance that these measures will succeed.

We have been certified as and believe we are compliant with the Payment Card Industry’s (PCI) Security Standard which incorporates Visa’s Cardholder Information Security Program (CISP) and MasterCard’s Site Data Protection (SDP) standard. However, there is no guarantee that we will maintain such compliance or that compliance will prevent illegal or improper use of our payment system.

Our security measures may not prevent security breaches, service interruptions and fraud schemes and the failure to do so may disrupt our business, damage our reputation and expose us to risk of loss or litigation and possible monetary damages that could materially adversely affect our business, results of operation and financial condition.

Merchant fraud with respect to Internet-based bankcard and EFT transactions could cause us to incur significant losses.
 
We believe that we have significant experience in assessing the risks associated with providing payment processing services to small and medium-sized merchants. These risks include the limited operating history of many of the small and medium-sized merchants we serve and the risk that these merchants could be subject to a higher rate of insolvency, which could adversely affect us financially. We apply varying levels of scrutiny in our application evaluation and underwriting of prospective merchant accounts, ranging from basic due diligence for merchants with a low risk profile to a more thorough and detailed review for higher risk merchants.

As a result of our exposure to potential liability for merchant fraud, chargebacks, reject and other losses created by our merchant services business, we view our risk management and fraud avoidance practices as integral to our operations and overall success.
 
For our merchants conducting card-not-present transactions, which we view as having a higher risk profile, we employ an extended underwriting and due diligence period and special account monitoring procedures. The underwriting process for these merchants’ applications may take three to five days while we evaluate the applicants’ financials, previous processing history and credit reports.
 
Effective risk management helps us minimize merchant losses for the mutual benefit of our merchants and ourselves. Our risk management procedures also help protect us from fraud perpetrated by our merchants. We believe our knowledge and experience in dealing with attempted fraud has resulted in our development and implementation of effective risk management and fraud prevention systems and procedures for the types of fraud discussed in this section.
 
 

 
We have potential liability for fraudulent bankcard transactions initiated by merchants.  Merchant fraud occurs when a merchant knowingly uses a stolen or counterfeit bankcard or card number to record a false sales transaction, processes an invalid bankcard or intentionally fails to deliver the merchandise or services sold in an otherwise valid transaction.  We rely significantly on the processing revenue derived from bankcard and EFT transactions and, as a result,  if any merchant or customer were to submit or process unauthorized or fraudulent bankcard or EFT transactions, depending on the dollar amount, we could incur significant losses which could have a material adverse effect on our business and results of operations and liquidity. 

In addition, criminals are using increasingly sophisticated methods to engage in illegal activities such as counterfeit and fraud and, while we have systems and procedures designed to manage such risk and detect and reduce the impact of fraud, we cannot guarantee that our systems will prevent fraudulent transactions from being submitted and processed or that the funds set aside to address such activity will be adequate to cover all potential situations that might occur.  We do not have insurance to protect us from these losses.  There is no assurance that any chargeback or processing reserve will be adequate to offset against any unauthorized or fraudulent processing losses that we may incur.  Accordingly, should we experience such fraudulent activity and such losses, our results of operations could be immediately and materially adversely affected.

Excessive chargeback losses could significantly affect our results of operations and liquidity.

Our agreements with our sponsoring financial institutions and certain payment processors require us to assume and bear the risk of “chargeback” losses.  Under the rules of Visa and MasterCard, when a merchant processor acquires card transactions, it has certain contingent liabilities for the transactions processed.  This contingent liability arises in the event of a billing dispute between the merchant and a cardholder that is ultimately resolved in the cardholder’s favor.  In such a case, the disputed transaction is charged back to the merchant and the disputed amount is credited or otherwise refunded to the cardholder.  If we are unable to collect this amount from the merchant’s account, or if the merchant refuses or is unable to reimburse us for the chargeback due to merchant fraud, breach of contract, bankruptcy, insolvency or other reasons, we will bear the loss for the amount of the refund paid to the cardholders.  In addition, if we are unable to recover these chargeback amounts from merchants, the obligation to pay the aggregate of any such amounts could have a material adverse effect on our results of operations and liquidity.

Our business is highly dependent on the efficient and uninterrupted operation of our computer network systems and data centers, and any disruption or material breach of security of our systems could materially harm our business.

Our ability to provide reliable service largely depends on the efficient and uninterrupted operation of our computer network systems and data centers. Any significant interruptions or security or privacy breaches in our facilities, computer networks, firewalls and databases could harm our business and reputation, result in a loss of customers or cause inquiries and fines or penalties from regulatory or governmental authorities. Our systems and operations could be exposed to damage or interruption from fire, natural disaster, power loss, telecommunications failure, unauthorized entry or physical break-ins, computer viruses and hackers. The measures we have enacted, such as the implementation of security access and disaster recovery plans, may not be successful and we may experience problems other than system failures. We may also experience software defects, development delays and installation difficulties, which could harm our business and reputation and expose us to potential liability and increased operating expenses.
 
Global economics, political and other conditions may adversely affect trends in consumer spending, which may adversely impact our revenue and profitability

The global electronic payments industry depends heavily upon the overall level of consumer, business and government spending. The industry also relies in part on the number and size of consumer transactions. Since the worldwide recession of 2008-2009, worldwide economic conditions have been adversely impacted by the global macroeconomic downturn, high unemployment rates, ongoing volatility and, most recently, concerns over the downgrade of U.S. sovereign debt and the continued sovereign debt uncertainties in Europe and other foreign countries.  A sustained deterioration or sluggish recovery in the general economic conditions in Canada, the United States or globally (including Europe) could adversely affect our financial performance by reducing the number of as well as the average purchase amount of transactions involving payment cards. If our merchants make fewer sales of their products and services, we will have fewer transactions to process, resulting in lower revenue.  In addition, we have a certain amount of fixed and semi-fixed costs, including rent and salaries, which could limit our ability to quickly adjust costs and respond to changes in our business and the economy.  As a result, a reduction in the amount of consumer spending could result in a decrease of our revenue and profits.
 
 
 
In addition, in a recessionary or sluggish economic environment, our merchants could also experience a higher rate of business closures.  In the event of a closure of a merchant, we are unlikely to receive our fees for any transactions processed by that merchant in its final month of operation, which could adversely affect our business and financial condition.  We cannot predict the recurrence of any economic slowdown or the strength or sustainability of any economic recovery, whether worldwide, in Canada or the United States, or in our industry.  The uncertainty of these economic factors makes it particularly difficult to predict demand for our services, makes it more likely that our actual results could differ materially from expectations and could have a material adverse effect on our financial condition and operating results.

We may not be able to attract, retain or integrate key personnel, including executive officers, which may prevent us from successfully operating our business.

We may not be able to retain our key personnel or attract other qualified personnel in the future. Our success will depend upon the continued service of key management personnel as well as the skills, experience and efforts of our executive officers. The loss of services of any of the key members of our management team or our failure to attract and retain other key personnel could disrupt operations and have a negative effect on employee productivity and morale and have a material adverse impact upon our financial results. The loss of any of our executive officers could impair our ability to successfully manage our current business or implement our planned business objectives and our future operations may be adversely affected.

If we do not continue to enhance our existing products and services and develop or acquire new ones, we will not be able to compete effectively.

As part of our business strategy, we are seeking to further penetrate into the transaction payment processing market and to expand our business into new markets or markets that are complementary to our existing transaction payment processing segment operations. If we are not able to successfully expand our penetration into the existing transaction payment processing market or into new or complementary markets, our financial results and future prospects may be harmed. Our ability to increase market penetration and enter new or complementary markets depends on a number of factors, including growth in our existing and targeted markets, our ability to provide products and services to address the needs of those markets and competition in those markets.

The industries in which we do business or intend to do business have been changing rapidly as a result of increasing competition, technological advances, changing consumer payment habits, regulatory changes and evolving industry practices and standards, and we expect these changes will continue.  Current and potential clients have also experienced significant changes as the result of competition and economic conditions. In addition, the business practices and technical requirements of our clients are subject to changes that may require modifications to our products and services. In order to remain competitive and successfully address the evolving needs of our clients, we must commit a significant portion of our resources to:

·  
identify and anticipate emerging technological and market trends affecting the markets in which we do business;
·  
enhance our current products and services in order to increase their functionality, features and cost-effectiveness to clients that are seeking to control costs and to meet regulatory requirements;
·  
develop or acquire new products and services that meet emerging client needs, such as products and services for the online market and the emerging mobile commerce market;
·  
modify our products and services in response to changing business practices and technical requirements of our clients, as well as to new regulatory requirements;
·  
integrate our current and future products with third-party products; and
·  
create and maintain interfaces to changing client and third party systems.

We must achieve these goals in a timely and cost-effective manner and successfully market our new and enhanced products and services to clients. There  is  no  assurance  that  our  current products and services  will stay competitive with those of our competitors or that we will be able  to  introduce  new  products  and  services to compete successfully in the future.   If we are unable to expand or appropriately enhance or modify our products and services quickly and efficiently, our business and operating results will be adversely affected.



We face competition from a broad and increasing range of vendors that could reduce or eliminate demand for our products and services.

The market for products and services offered to participants in online transactions is highly competitive and is characterized by rapid technological change, evolving industry standards, merchant requirements, pricing competition, rapid rates of product obsolescence, and rapid rates of new product introduction. This market is fragmented and a number of companies offer one or more products or services competitive with ours. We face competition from several providers of online payment processing services, including Moneris, CyberSource Corporation, Plug & Pay Technologies, Inc., Verisign/PayPal, Inc., Google, Inc. and LinkPoint International, Inc., a subsidiary of First Data Corporation, as well as financial services companies, credit card and payment processing companies.  We anticipate continued growth and the formation of new alliances in the market in which we compete, which could result in the entrance of new or the creation of bigger competitors in the future.

Many of our current and potential competitors have significantly greater financial, marketing, technical and other competitive resources than we do.  As a result, these competitors may be able to adapt more quickly to new or emerging technologies and changes in client requirements, or may be able to devote greater resources to the promotion and sale of their products and services.  In addition, in order to meet client requirements, we must often work cooperatively with companies that are, in other circumstances, competitors.  The need for us to work cooperatively with such companies may limit our ability to compete aggressively with those companies in other circumstances. If we lose customers, our business operations may be materially adversely affected, which could cause us to cease our business or curtail our business to a point where we are no longer able to generate sufficient revenue to fund operations.

If we are unable to protect our intellectual property rights or if others claim that we are infringing on their intellectual property, we could lose any competitive advantage we may have with respect to our intellectual property  or we may be required to incur significant costs with respect to the infringement of the intellectual property rights of others.

We may be unable to successfully assert patent infringement actions against others and could incur significant costs with respect to asserting such actions.  The failure to successfully assert our patent infringement actions could have a material adverse effect upon our business and our financial results.

We have in the past asserted patent infringement actions against others and could again in the future.  The cost of prosecuting a patent infringement action against others is complex, carries a high degree of uncertainly and is expensive.  While we believe our patents and claims therein to be valid, we face the risk that our patents could ultimately be determined to be invalid or otherwise not infringed by a court, jury or the United States Patent and Trademark Office (“USPTO”).  In addition, one of our patents and certain claims therein currently is, and others in the future could be, subject to a re-examination proceeding as a result of a request made by a third party with the USPTO, which could ultimately result in such patent or certain claims therein being determined to be invalid (see “Item 3 – Legal Proceedings”).   Furthermore, all patents have an expiration date and our patent nos. 5,484,988, 6,164,528, 6,283,366, 6,354,491 and RE40,220, regarding electronic check processing, expire on January 16, 2013.  Failure to prevail in a patent infringement action against others, or having any of our patents or certain claims therein, determined to be invalid prior to their expiration, could have a material adverse impact on our business and our financial results and our stock price.

We may also be unable to successfully defend patent infringement actions brought against us by others which could cause us to incur significant costs.  We have successfully defended patent infringement actions in the past, and may have to defend patent infringement actions in the future, brought against us by others regarding our technology, products or services.  An unfavorable resolution of these infringement actions could result in our being restricted from delivering the related product or service or result in an unfavorable monetary settlement or damage awards that could have a material adverse effect upon our business and our financial results.



We rely on partnerships with financial institutions and payment processors, which have substantial discretion with respect to certain elements of our business practices, in order to process bankcard transactions. If these partnerships are terminated and we are unable to secure new partnerships with financial institutions and payment processors, we will not be able to conduct certain aspects of our business.

Because we are not a bank, we are not eligible for membership in the Visa and MasterCard networks and are, therefore, unable to directly access the bankcard networks, which are required to process Visa and MasterCard transactions. Visa and MasterCard operating regulations require us to be sponsored by a member bank in order to process bankcard transactions. We are currently registered with Visa and MasterCard through certain financial institutions and payment processors in Canada and the United States. If our partnership agreements are terminated and we are unable to secure other bank partnership agreements, we may not be able to process Visa and MasterCard transactions. Furthermore, some agreements give the financial institutions or payment processors substantial discretion in approving certain aspects of our business practices, including our solicitation, application and qualification procedures for merchants, the terms of our agreements with merchants and our customer service levels. Discretionary actions by our financial institution or payment processor partners under these agreements could have a detrimental effect on our operations.

Changes to credit card association, debit networks and ACH rules or practices could adversely impact our business.

We do not belong to nor can we directly access the bank card associations. As a result, we must rely on banks and their processing providers to process our credit, debit, EFT and ACH transactions. However, we must comply with the operating rules of the credit card associations and other payment networks such as debit networks and ACH networks. The associations’ member banks and network owners set these rules and the associations and network owners interpret them.  Some of those member banks and network owners compete with us in certain situations.  Visa, MasterCard, American Express, Discover, Interac or the Automated Clearing House could adopt new operating rules or interpretations of existing rules which we might find difficult or even impossible to comply with, resulting in our inability to give customers the option of using credit cards, debit cards, EFT and ACH facilities to fund their payments. If we were unable to provide a gateway for these payment services, our business could be materially and adversely affected.

If we cannot pass increases in bankcard network interchange fees, assessments and transaction fees along to our merchants, our operating margins could be reduced.
 
In some instances, we pay interchange fees and other network fees set by the bankcard networks indirectly or directly to the card issuing bank, the bankcard networks and payment processors for transactions we process. From time to time, the bankcard networks increase the interchange fees and other network fees that they charge payment processors and the sponsor banks. At its sole discretion, our sponsor bank and/or payment processor, as the case may be, has the right to pass any increases in interchange and other fees on to us and they have consistently done so in the past.  Generally, we are allowed to, and in the past we have been able to, pass these fee increases along to our merchants through corresponding increases in our processing fees.  However, if we are unable to do so in the future, our operating margins could be reduced.

Our business depends on the services of skilled software engineers who can develop, maintain and enhance our products, consultants who can undertake complex client projects and sales and marketing personnel. In general, only highly qualified, highly educated personnel have the training and skills necessary to perform these tasks successfully. In order to maintain the competitiveness of our products and services and to meet client requirements, we need to attract, motivate and retain a significant number of software engineers, consultants and sales and marketing personnel. Qualified personnel such as these are in short supply and we face significant competition for these employees from, not only our competitors, but also clients and other enterprises. Other employers may offer software engineers, consultants and sales and marketing personnel significantly greater compensation and benefits or more attractive career paths than we are able to offer. Any failure on our part to hire, train and retain a sufficient number of qualified personnel could seriously damage our business.

If our internal controls over financial reporting are not effective, current and potential stockholders could lose confidence in our financial reporting.
 
Section 404 of the Sarbanes-Oxley Act of 2002 requires companies to conduct a comprehensive evaluation of their internal control over financial reporting. To comply with this statute, we are required to document and test our internal control over financial reporting and our management is required to assess and issue a report concerning our internal control over financial reporting. Any failure to maintain or implement required new or improved controls, any difficulties we encounter in implementation and any failure to maintain the adequacy of our internal controls on an ongoing basis could cause us to not be able to conclude on an ongoing basis that we have effective internal controls and could cause us to fail to meet our periodic reporting obligations or result in material misstatements in our financial statements, and substantial costs and resources may be required to rectify these or other internal control deficiencies.  If we cannot produce reliable financial reports, investors could lose confidence in our reported financial information, the market price of our common stock could decline significantly, and our business and financial condition could be harmed.
 
 
 
We and our clients must comply with complex and changing laws and regulations.

Government regulation influences our activities and the activities of our current and prospective clients, as well as our clients’ expectations and needs in relation to our products and services. Businesses that handle consumers’ funds, such as ours, are subject to numerous state, federal, provincial and international regulations, including those related to banking, credit cards, electronic transactions, communication, escrow, fair credit reporting, privacy of personal information and financial records, internet gambling and others. State, federal and provincial money transmitter regulations and federal and international anti-money laundering and money services business regulations can also apply under some circumstances. The application of many of these laws with regard to electronic commerce is unclear. In addition, it is possible that a number of laws and regulations may be applicable or may be adopted in the future with respect to conducting business over the Internet concerning matters such as taxes, pricing, content and distribution. If applied to us, any of the foregoing rules and regulations could require us to change the way we do business in a way that increases costs or makes our business more complex. In addition, violation of some statutes may result in severe penalties or restrictions on our ability to engage in e-Commerce, which could have a material adverse effect on our business.

In July 2010, Congress passed the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) which significantly changed financial regulation.  Changes included restricting amounts of debit card fees that certain issuer banks can charge merchants and allowing merchants to offer discounts for different payment methods. The impact which new requirements imposed by the Dodd-Frank Act or other new regulation will have on our operating results is difficult to determine, as their implementation could result in the need for us to modify our services and processing platforms. As new requirements are mandated, these regulations could adversely affect our operating results and financial condition.

The Dodd-Frank Act also created a new Consumer Financial Protection Bureau, which will assume responsibility for most federal consumer protection laws in the area of financial services, including consumer credit.  The creation of the bureau and its actions may make payment card transactions less attractive to card issuers, and thus negatively impact our business.

In addition to the Dodd-Frank Act, privacy legislation (including the Gramm-Leach-Bliley Act and regulations thereunder and the Personal Information Protection and Electronic Documents Act and the Code of Conduct for the Credit and Debit Card Industry in Canada), as well as provincial and state laws may also affect the nature and extent of the products or services that we can provide to clients as well as our ability to collect, monitor and disseminate information subject to privacy protection. Furthermore, certain of our services in Canada may be subject to federal legislation called the Proceeds of Crime and Terrorist Financing Act, while certain check collection and electronic check re-presentment services that we provide in the U.S. are governed by the Federal Fair Debt Collection Practices Act and the Federal Fair Credit Reporting Act and other similar state laws, and our electronic check re-presentment transactions are subject to applicable National Automated Clearing House Association (“NACHA”) Operating Rules and applicable Uniform Commercial Code statutes.

Consumer protection laws in the areas of privacy of personal information and credit and financial transactions have been evolving rapidly at the state, federal, provincial and international levels.  As the electronic transmission, processing and storage of financial information regarding consumers continues to grow and develop, it is likely that more stringent consumer protection laws may impose additional burdens on companies involved in such transactions including, without limitation, notification of unauthorized disclosure of personal information of individuals.  Uncertainty and new laws and regulations, as well as the application of existing laws, could limit our ability to operate in our markets, expose us to compliance costs, fines, penalties and substantial liability, and result in costly and time-consuming litigation.  Furthermore, the growth and development of the market for e-Commerce may prompt more stringent consumer protection laws that may impose additional regulatory burdens on companies that provide services to online businesses. The adoption of additional laws or regulations, or taxation requirements may affect the ability to offer, or cost effectiveness of offering, goods or services online, which could, in turn, decrease the demand for our products and services and increase our cost of doing business.
 

 
 
 
The Canadian Securities Administrators in Canada and the Securities and Exchange Commission and the National Association of Securities Dealers, Inc. in the United States have also enacted regulations affecting our corporate governance, securities disclosure and compliance practices. We expect these regulations to increase our compliance costs and require additional time and attention. If we fail to comply with any of these regulations, we could be subject to legal actions by regulatory authorities or private parties.

Our business may be harmed by errors in our software.

The software that we develop and use in providing our transaction payment processing products and services is extremely complex and contains thousands of lines of computer code. Complex software systems such as ours are susceptible to errors. We believe our software design, development and testing processes are adequate to detect errors in our software prior to its release. Because of the complexity of our systems and the large volume of transactions we process on a daily basis, it is possible that we may not detect software errors until after they have affected a significant number of transactions. Software errors can have the effect of causing merchants, customers or partners who utilize our products and services to fail to comply with their intended business policies, or to fail to comply with legal, credit card, debit card and banking requirements, such as those under the Fair Credit Reporting Act, Gramm-Leach-Bliley Act, NACHA rules, MasterCard’s Site Data Protection (SDP) Standard, Visa’s Cardholder Information Security Program (CISP) and Payment Card Industry’s (PCI) Data Security Standard.

Our future revenues may be uncertain because of reliance on third parties for marketing and distribution.

We distribute our service offerings primarily through third party sales distribution partners and our revenues are derived predominantly through these relationships. We intend to continue to market and distribute our current and future products and services through existing and other relationships both in and outside of Canada and the U.S. There are no minimum purchase obligations applicable to any existing distributor or other sales and marketing partners and we do not expect to have any guarantees of continuing orders. Failure by our existing and future distributors or other sales and marketing partners to generate significant revenues, our failure to establish additional distribution or sales and marketing alliances, changes in the industry that render third party distribution networks obsolete, termination of relationships with significant distributors or marketing partners could have a material adverse effect on our business, operating results and financial condition. In addition, we may be required to pay higher commission rates in order to maintain loyalty among our third-party distribution partners, which may have a material adverse impact on our profitability.

Our ability to expand through acquisitions involves risks and may not be successful.

As part of our growth strategy, we have made business acquisitions in the past and we expect to be an active business acquirer in the future.  We will continue to evaluate and may, from time to time, seek to acquire complementary businesses, products and services in the future.  We cannot provide assurance that we will be able to consummate any such transactions or that any future acquisitions will be consummated at acceptable prices or terms.  In addition, the acquisition and integration of businesses involves a number of risks and challenges, including:
 
·  
Maintaining the acquired business’ customer relationships;
·  
Demonstrating to the customers of the acquired business that the acquisition has not resulted in changes that would adversely impact the ability of the acquired business to address the needs of its customers;
·  
The operations, technology and personnel of an acquired business may be difficult to integrate;
·  
An acquired business may not achieve anticipated revenues, earnings or cash flow;
·  
The allocation of management resources to complete a business acquisition may divert management resources from our business and disrupt our day-to-day operations.

There can be no assurance that we will be able to fully integrate all aspects of an acquired business successfully or fully realize the potential benefits of any business combination and our failure to successfully integrate acquired businesses may have a material adverse effect on our financial results and stock price.


We may require additional capital, which may not be available on commercially reasonable terms, or at all. Failure to obtain such additional capital could have a materially adverse impact on our business.

Our future business activities, the development or acquisition of new or enhanced products and services, the acquisition of additional computer and network equipment, the costs of compliance with government regulations and future expansions including acquisitions will require us to make significant capital expenditures.  We currently have no credit line or credit facility and rely solely on cash on hand, investments and cash from operations to fund our business.  If our available cash resources prove to be insufficient because of unanticipated expenses, previous acquisitions, revenue shortfalls or otherwise, we may need to obtain credit, bank loans, contractual lending agreements or other funding sources or seek additional equity or debt financing.  There can be no assurance that credit, bank loans, contractual lending agreements or other funding sources would be available on reasonable terms, or at all.   If we obtain equity financing for any reason, then the sale or issuance of equity securities to raise such capital may result in dilution to our shareholders.  If we obtain debt financing, our business could become subject to restrictions that affect our operations or increase the level of risk in our business. If we were not able to fund operations, then our level of services, staffing, resources or equipment might need to be reduced or eliminated and our expansion activities might need to be curtailed, which could negatively impact our revenue and results of operations.

Currency exchange rate fluctuations could adversely affect our financial results, which may have an adverse impact on our business, results of operations and financial condition as well as the value of our foreign assets.

Fluctuations in foreign currency exchange rates may have an adverse impact on our business, results of operations and financial condition, as well as the value of our foreign assets, which, in turn, may adversely affect reported earnings or losses and the comparability of period-to-period results of operations.  With the exception of our Canadian Beanstream subsidiary,  the U.S. dollar currently is, and has historically been, the functional and reporting currency of our operations.  As a result, when we are paying any obligation that is denominated in a foreign currency, we must generate the equivalent amount of cash in U.S dollars that, when exchanged at the then-prevailing applicable foreign currency exchange rate, will equal the amount of the obligation to be paid (which means that we may pay more U.S. dollars than initially anticipated if the foreign currency strengthens against the U.S. dollar between the time we incur the obligation and the time we are required to pay the obligation).  Changes in the U.S./Canadian currency exchange rate could have a significant adverse impact on our current liquidity and capital resources and could also have a material adverse impact on our profitability and results of operations.

Because a small number of customers have historically accounted for a substantial portion of our revenue, our financial results would be materially adversely affected if we are unable to retain customers.

We have had in the past, and may have in the future, a small number of customers that have accounted for a significant portion of our revenue.  During the fiscal year ended March 31, 2012, we earned revenue from three licensees pursuant to settlement and license agreements, resulting mostly from litigation, amounting to approximately 36% of total revenue.  Revenue from these licensees is non-recurring. We anticipate that, in future periods, revenue derived from the licensing of our intellectual property estate may fluctuate significantly.  Our revenue could materially decline because of a failure to enter into new licensing agreements.

We have historically experienced fluctuations in our operating results and expect these fluctuations to continue in future periods, which may result in volatility in our stock price.

Our operating results may fluctuate in the future based upon a number of factors, many of which are not within our control. Our revenue model for our TPP segment is based largely on recurring revenues, billed monthly, predominately derived from growth in customers and the numbers of transactions processed within a monthly billing period. The number of transactions processed is affected by many factors, several of which are beyond our control, including general consumer trends and holiday shopping in the fourth quarter of the calendar year.  Our revenue model in our IPL segment is based predominantly on fully paid-up or non-recurring revenues and we anticipate revenue amounts from this segment to fluctuate to a large degree in future periods.

Our operating results may also fluctuate in the future due to a variety of other factors, including the timing and extent of restructuring, impairment and other charges that may occur in a given fiscal year, the final disposition of any patent litigation and new changes in accounting rules. As a result of these factors, we believe that our fiscal year results are not predictable with any significant degree of certainty, and year-to-year comparisons of our results of operations are not necessarily meaningful. Our fiscal year results of operations should not be relied upon to predict our future performance.
 
 

 
If our operating results fall below the expectations of investors or public market analysts, the price of our common stock could fall dramatically. Our common stock price could also fall dramatically if investors or public market analysts reduce their estimates of our future quarterly operating results, whether as a result of information we disclose, or based on industry, market or economic trends, or other factors.

We have a general history of losses and may not operate profitably in the future.

We have incurred losses for two of the last five fiscal years. As of March 31, 2012, our accumulated deficit was approximately $12,835,486. We believe that our planned growth and profitability will depend in large part on our ability to expand our client base. Accordingly, we intend to invest in marketing, development of our client base and development of our marketing technology and operating infrastructure. If we are not successful in expanding our client base, it will have a material adverse effect on our financial condition and our ability to continue to operate our business.

We may be required to offset future deferred tax assets with a valuation allowance.

If we fail to achieve future taxable income assumed in the calculation of our deferred tax assets or if we fail to implement feasible and prudent tax planning strategies, we may be required to offset deferred tax assets with a valuation allowance, resulting in an additional tax expense. The change in the valuation could have a material adverse impact on our profitability and results of operations. If we do not achieve sufficient Canadian taxable income in future years to utilize all or some of our net operating loss carryforwards, they will expire.

If our goodwill, indefinite-life intangible assets or other long-term assets become impaired, we will be required to record additional impairment charges, which may be significant.
 
A significant portion of our long-term assets continues to consist of goodwill and other definite and indefinite-life intangible assets recorded as a result of our 2007 acquisition of Beanstream.  We do not amortize goodwill and indefinite-life intangible assets, but rather review them for impairment on an annual basis or more frequently whenever events or changes in circumstances indicate that their carrying value may not be recoverable.   We consider whether circumstances or conditions exist which suggest that the carrying value of our goodwill and other long-lived assets might be impaired. If such circumstances or conditions exist, further steps are required in order to determine whether the carrying value of each of the individual assets exceeds its fair market value. If analysis indicates that an individual asset’s carrying value does exceed its recoverable amount, the next step is to record a loss equal to the excess of the individual asset’s carrying value over its recoverable amount. The steps required by International Financial Reporting Standards (“IFRS”) entail significant amounts of judgment and subjectivity.  We complete our analysis of the carrying value of our goodwill and other intangible assets during the fourth quarter of each fiscal year, or more frequently whenever events or changes in circumstances indicate that their carrying value may not be recoverable.  Events and changes in circumstances that may indicate that there is impairment and which may indicate that interim impairment testing is necessary include, but are not limited to, strategic decisions to exit a business or dispose of an asset made in response to changes in economic, political and competitive conditions, the impact of the economic environment on our customer base and on broad market conditions that drive valuation considerations by market participants, our internal expectations with regard to future revenue growth and the assumptions we make when performing our impairment reviews, a significant decrease in the market price of our assets, a significant adverse change in the extent or manner in which our assets are used, a significant adverse change in legal factors or the business climate that could affect our assets, an accumulation of costs significantly in excess of the amount originally expected for the acquisition of an asset, and significant changes in the cash flows associated with an asset.  We analyze these assets at the individual asset, reporting unit and corporate levels. As a result of such events and changes in circumstances, we may be required to record a significant charge to earnings in our consolidated financial statements during the period in which any impairment of our goodwill, indefinite-life intangible assets or other long-term assets is determined.  Any such impairment charges could have a material adverse effect on our financial condition and operating results.


The demand for many of our products and services could be negatively affected by reduced growth of e-Commerce, delays in the development of the Internet infrastructure, a general economic slowdown or any other event causing a material slowing of consumer spending.

A significant portion of our revenue is derived from transaction processing fees. Any changes in economic factors that adversely affect consumer spending and related consumer debt, or a reduction in check writing or credit and debit card usage, could reduce the volume of transactions that we process, and have a materially adverse effect on our business, financial condition and results of operations. We depend on the growing use and acceptance of the Internet by merchants and customers in Canada and the United States as a means to grow our business. We cannot be certain that acceptance and use of the Internet will continue to grow or that a sufficiently broad base of merchants and consumers will adopt, and continue to use, the Internet as a medium of commerce. It is also possible that continued growth in the number of Internet users, and the use of the Internet generally, may overwhelm the existing Internet infrastructure. Delays in the development or adoption of new standards and protocols required to handle increased levels of Internet activity could also have a detrimental effect on the Internet and correspondingly on our business. These factors could adversely affect usage of the Internet and lower demand for our products and services.

We may become subject to additional federal, state, provincial or local taxes that cannot be passed through to our merchants, which could negatively affect our results of operations.
 
Companies in the payment processing industry, including us, may become subject to taxation in various tax jurisdictions on our net income or revenues. Application of these taxes is an emerging issue in our industry and taxing jurisdictions have not yet adopted uniform positions on this topic. If we are required to pay additional taxes and are unable to pass the tax expense through to our merchants, our costs would increase and our net income could be reduced.

Estimates of future financial results are inherently unreliable.

From time to time, we may make public estimates or forecasts regarding our future results, including estimates regarding future revenues, expense levels, tax rates, acquisition expenses, capital expenditures, earnings or earnings from operations. Any forecast regarding our future performance reflects various assumptions and judgments by management regarding the likelihood that certain possible future events will in fact occur. These assumptions and judgments are subject to significant uncertainties and shifting market dynamics, and, as a matter of course, many of them will prove to be incorrect. Further, events that may seem unlikely or relatively certain at the time a given estimate is made may, in fact, occur or fail to occur. Many of the factors that can influence the outcome of any estimate or projection are beyond our control. As a result, there can be no assurance that our performance will be consistent with any management forecasts or that the variation from such forecasts will not be material and adverse. Investors are cautioned that any estimate, projection or other forward looking statement made by us should be considered current only as of the date made. Investors are encouraged to utilize the entire available mix of historical and forward-looking information made available by us, and other information relating to our Corporation and our products and services, when evaluating our prospective results of operations.

Our common stock price is volatile.

The market price of our common stock has been volatile in the past and may change rapidly in the future.  The following factors, among others, may cause significant volatility in our stock price:

·  
Actual or anticipated fluctuations in our operating results;
·  
Financial or business announcements by us, our competitors or our customers;
·  
Announcements of the introduction of new or enhanced products and services by us or our competitors;
·  
Announcements of mergers, joint development efforts or corporate partnerships in the electronic commerce market;
·  
Market conditions in the banking, telecommunications, technology and emerging growth sectors;
·  
Rumors relating to our competitors or us;
·  
Rumors relating to our intellectual property generally and specifically surrounding enforcement and/or legal or administrative action pertaining to our intellectual property; and
·  
General market or economic conditions.

In addition, the U.S. stock markets have, in recent years, experienced significant price and volume fluctuations, which have particularly affected the trading price of equity securities of many technology companies.
 
 

 
Unresolved Staff Comments

None.

ITEM 2.
Properties

As of June 1, 2012, we leased office space containing approximately 15,302 square feet for our operations.  Our principal facilities include:

Location
 
Approximate Square Feet
 
Lease
Expiration Date
 
Description
             
Wichita, Kansas
 
5,785
 
November, 2013
 
CP Segment Operations
Vancouver, British Columbia
 
3,155
 
September, 2013
 
Administration
Victoria, British Columbia
 
5,962
 
January, 2014
 
Data Center/TPP Segment Operations

We consider our current facilities to be adequate for our current needs and believe that suitable additional space will be available, as needed, to accommodate further physical expansion of our operations.

Legal Proceedings

2008 Patent Litigation

On November 19, 2008, we filed a patent infringement lawsuit in the U.S. district court for the Eastern District of Texas against multiple financial institutions operating in the United States (the “2008 Patent Litigation”).  In the suit, we alleged that the defendants were infringing U.S. Patent No. RE40,220 (the “40,220 Patent”) and we sought damages and injunctive and other relief for the alleged infringement of this patent.  The 40,220 Patent covers 100 patent claims.  However, at the request of the trial court and for purposes of expediency, we limited the number of patent claims that we sought to enforce in the litigation to 16 patent claims, which we believed to be among the core claims described by the 40,220 Patent.  During the fiscal year ended March 31, 2012 we settled and entered into license agreements with Northern Trust Company, Wells Fargo, Capital One, JP Morgan Chase Bank N.A. and Deutsche Bank (the “2012 License Agreements”).    These licensees were all of the defendants that remained in the 2008 Patent Litigation.  The 2012 License Agreements provide each of the respective licensees with a fully paid-up license from us to use certain of our patents for electronic check conversion transactions including “ARC”, “WEB”, “POP”, “TEL” and “BOC”.   In connection with the 2012 License Agreements, we received compensation totaling $14,100,000 for the releases, licenses, covenants and all other rights granted under the 2012 License Agreements and, pursuant to the 2012 License Agreements, the lawsuit against each of the respective licensees was dismissed.  Pursuant to a retention agreement with our legal firm, we paid approximately $5,364,000 in legal fees for the firm’s services in connection with the 2012 License Agreements.   As a result of settlements being reached with all of the defendants, the 2008 Patent Litigation was closed on March 13, 2012.

2009 Patent Litigation

On June 4, 2009, we filed another patent infringement lawsuit in the U.S. district court for the Eastern District of Texas against six financial institutions operating in the United States (the “2009 Patent Litigation”).  In the 2009 Patent Litigation, we alleged that the defendants were infringing the 40,220 Patent and we sought damages and injunctive and other relief for the alleged infringement of this patent.  On September 9, 2011, we entered into a Settlement and License Agreement with Comerica Incorporated (“Comerica”) (the “Comerica Agreement”), the last remaining defendant in the 2009 Patent Litigation. The Comerica Agreement provides Comerica with a fully paid-up license from us to use our patents for electronic check conversion transactions including “ARC”, “WEB”, “POP”, “TEL” and “BOC”.  In connection with the Comerica Agreement, we received compensation totaling $350,000 for the releases, licenses, covenants and all other rights granted under the Comerica Agreement and, pursuant to the Comerica Agreement, the lawsuit against Comerica was dismissed.  Pursuant to a retention agreement with our legal firm, we paid approximately $140,000 in legal fees for the firm’s services in connection with the Comerica Agreement. As a result of settlements reached with four of the defendants and the dismissal of claims against the remaining three defendants in the 2009 Patent Litigation, the 2009 Patent Litigation was closed on October 11, 2011.



Inter-partes Reexamination Proceeding relating to the 2008 Patent Litigation

On May 11, 2010, four of the defendants in the 2008 Patent Litigation submitted a request for an inter-partes reexamination to the United States Patent and Trademark Office (“USPTO”) regarding the 40,220 Patent.  Generally, an inter-partes reexamination is a USPTO administrative proceeding requested by a third party (in this case, the four defendants in the 2008 Patent Litigation, who are referred to as the “Third Party Requesters”) to challenge the validity of patents that have already been issued.  On July 26, 2010, the USPTO posted a non-final office action on its public Patent Application Information Retrieval (“PAIR”) website ordering an inter-partes reexamination proceeding with respect to the 40,220 Patent pursuant to which 16 of the 100 claims described by the 40,220 Patent were rejected (the “Rejected Claims”).  The Rejected Claims, which continue to be subject to re-examination and included all of the patent claims that we had asserted and sought to enforce in the 2008 Patent Litigation, remain valid and enforceable until the 40,220 Patent expires on January 16, 2013 unless they are cancelled prior to that date.

During the three months ended December 31, 2010, we filed a response to this non-final office action with the USPTO, following which the Third Party Requesters filed a response to our response with the USPTO.  The Examiner issued a non-final “Action Closing Prosecution” on March 14, 2011 pursuant to which the Rejected Claims continued to be subject to reexamination.  On April 14, 2011, we filed a response to the non-final Action Closing Prosecution and on May 16, 2011, the Third Party Requesters filed comments in response to our response to the non-final Action Closing Prosecution.  On August 8, 2011 the USPTO issued a “Right of Appeal Notice” which is a final but appealable office action, pursuant to which the Rejected Claims continued to be subject to reexamination.  On September 8, 2011, we filed a notice of appeal with respect to the decision to the Patent Office Board of Appeals and Interferences (“Board”).   On November 22, 2011, we filed our opening appeal brief and on December 22, 2011 the Third Party Requesters filed a response brief.  On January 13, 2012 the Examiner issued an Answer in response to our appeal pursuant to which the Rejected Claims continued to be subject to reexamination.   We filed a rebuttal brief to the Examiner’s Answer on February 13, 2012 and on March 13, 2012 we filed a Request for Oral Hearing with the Board with respect to the inter-partes reexamination.   As of the date of this Form 10-K, the Board has not yet responded to our Request for Oral Hearing.  Once the Board renders its final decision in the inter-partes reexamination proceeding, any further appeals by any of the parties involved in such proceeding would be made to the Court of Appeals for the Federal Circuit (“Federal Circuit) and, if such appeal were made, any decision by the Federal Circuit would then be final and binding on the parties and non-appealable.

The ultimate outcome of the inter-partes reexamination proceeding (including any appeals that have been or may be made) is indeterminable at this time.  A final, non-appealable decision in the inter-partes reexamination proceeding that is adverse to us could negatively impact our enforcement of the 40,220 Patent in the future.  However, such an outcome would not require the repayment of any of the consideration already received by us with respect to either the 2008 or the 2009 Patent Litigation  nor are there any forms of monetary penalties or fines that could occur upon cancellation of any of the 40,220 Patent’s claims pursuant to the inter-partes reexamination proceeding.  While there can be no assurances, we do not believe that the final result of the inter-partes reexamination proceeding will have a material adverse effect on us.

Ex-partes Reexamination Proceeding

In response (in part) to the inter-partes reexamination proceeding, on June 17, 2011, we filed a separate ex-parte reexamination request with the USPTO with respect to other claims described in the 40,220 Patent.  As part of this request, we requested amendments to certain claims and also requested the addition of new claims and the cancellation of certain claims described in the 40,220 Patent.  On September 13, 2011, the USPTO issued an order granting an ex-partes reexamination with respect to the 40,220 Patent.  On January 4, 2012, the USPTO issued a non-final office action in the ex-parte reexamination proceeding pursuant to which: (i) certain claims described by the 40,220 Patent were subject to reexamination; (ii) certain other claims were cancelled (as we requested); (iii) certain other claims were rejected, and (iv) new claims were added.  Following our February 1, 2012 response and an examiner interview, the USPTO issued a Notice of Intent to Issue a Reexam Certificate on March 20, 2012.  On May 2, 2012, subsequent to the fiscal year ended March 31, 2012, the USPTO issued an Ex-Parte Reexamination Certificate.  On the Certificate, certain amended and added claims were confirmed and other claims were cancelled, as we had requested in our originally filed ex-parte re-examination request.  As a result of the issuance of the Ex-Parte Reexamination Certificate, the ex-parte re-examination proceeding is closed.   The Third Party Requesters did not have the right to participate in the ex-parte reexamination proceeding.



Incidental Litigation

Other than as described herein, we are not currently involved in any material legal proceedings. However, we are party from time to time to additional ordinary litigation incidental to our business, none of which is expected to have a material adverse effect on the results of our operations, financial position or liquidity.

Mine Safety Disclosures

Not applicable.



PART II

Market For Registrant's Common Equity, Related Stockholder Security Matters and Issuer Purchases of Equity Securities

Our common stock is traded on The NASDAQ Stock Market’s Capital Market under the symbol "LMLP".   Our common stock is neither listed nor traded on any foreign trading market. The following table sets forth the range of high and low prices for our common stock during the fiscal periods indicated. The prices set forth below represent quotations between dealers and do not include retail markups, markdowns or commissions and may not represent actual transactions.


Fiscal Year Ended March 31:
 
High
 
Low
           
2012
1Q
 
$3.96
 
$2.11
 
2Q
 
4.18
 
1.45
 
3Q
 
2.46
 
1.49
 
4Q
 
3.33
 
1.77
           
2011
1Q
 
$2.55
 
$1.47
 
2Q
 
2.48
 
1.38
 
3Q
 
3.85
 
1.46
 
4Q
 
6.14
 
2.81

The prices set forth above are not necessarily indicative of liquidity of the trading market for our common stock. Trading in our common stock is limited and sporadic.

Holders of Common Stock

As of June 15, 2012, there were approximately 330 record holders of our common stock, with approximately 28,246,684 shares outstanding. The number of holders of record is based on the actual number of holders registered on the books of our transfer agent and does not reflect holders of shares in "street name" or persons, partnerships, associations, corporations or other entities identified in security position listings maintained by depository trust companies.

Dividend Policy

We have not paid any dividends on our common stock in the past and have no current plan to pay dividends in the future. We intend to devote all funds to the operation of our businesses.

Canadian Federal Tax Considerations

General

There are no foreign or currency controls in Canada, and there are no exchange restrictions on borrowing from abroad, on the repatriation of capital, or the ability to remit dividends, profits, interests, royalties, or other payments to non-resident holders of our common stock. However, any such remittance to a resident of the U.S. is subject to a reduced withholding tax pursuant to various Articles of the Canada-U.S. Income Tax Convention, 1980 (the “Treaty”) between Canada and the U.S.

Dividends

Generally, dividends that are paid or credited by Canadian corporations to non-resident shareholders are subject to a nonresident tax of 25%.  However, the Treaty provides that dividends paid by a Canadian corporation to a corporation resident of the U.S. with no permanent establishment in Canada, which owns at least 10% of our voting stock paying the dividend, are subject to the Canadian non-resident withholding tax of 5%.  In all other cases, when a dividend is paid by a Canadian corporation to the beneficial owner resident in the U.S., the Canadian non-resident withholding tax is 15% of the amount of the dividend.



The reduced withholding tax rates do not apply if the beneficial owner of the shares carries on business through a permanent establishment in Canada and the stock holding in respect of which the dividends are paid is effectively connected with such permanent establishment.  In such a case, the dividends are taxable in Canada as general business profits at rates that may exceed the 5% or 15% rates applicable to dividends that are not effectively connected with a Canadian permanent establishment.

The Treaty permits Canada to apply its domestic law rules for differentiating dividends from interest and other disbursements.  Stock dividends are subject to the normal Canadian non-resident withholding tax rules on the amount of the dividend.  The amount of a stock dividend is equal to the increase in our paid-up capital by virtue of the dividend.

Interest

Effective January 1, 2008, changes have been made to the Canadian Income Tax Act that eliminate withholding taxes on interest paid (excluding participating debt interest) to arm’s lengths residents of the U.S. by a Canadian corporation.

Historically, interest paid or credited to a non-resident is subject to a 25% Canadian withholding tax. If, at a time when interest has accrued but is not yet payable, the holder of the debt transfers it to a Canadian resident or, in certain circumstances, a non-resident who carries on business in Canada, part of the proceeds of the disposition may be considered to be interest for Canadian income tax purposes. Previously, under the Treaty, the rate of withholding tax on interest paid to a U.S. resident is 10%.

For Treaty purposes, interest includes interest as defined by domestic Canadian income tax rules in the jurisdiction in which interest arises.  The withholding tax applies to the gross amount of the interest payment.

Non-residents are subject to Canadian income tax on dispositions of “taxable Canadian property.” Taxable Canadian property includes shares of a publicly traded Canadian corporation if, at any time during the preceding five years, the non-resident and persons with whom the non-resident did not deal at arm’s length owned at least 25% of the issued and outstanding shares of any class of stock.

The applicable tax rate on capital gains realized by a non-resident is 30% for corporations and 21.85% for individuals.  Under the Treaty, capital gains realized by a U.S. resident on the disposition of shares of a Canadian corporation are exempt from Canadian income tax, unless (i) the value of the shares is derived principally from Canadian real property, or (ii) the shares are effectively connected with a permanent Canadian establishment of such non-resident, the capital gains are attributable to such permanent establishment, and the gains are realized not later than twelve months after the termination of such permanent establishment.



Securities Authorized for Issuance Under Equity Compensation Plans

The following table provides information as of March 31, 2012 about our common stock that may be issued upon the exercise of options, warrants and rights under all of our existing equity compensation plans, including the 1996 Stock Option Plan, the 1998 Stock Incentive Plan and the 2009 Stock Incentive Plan:

 
(A)
(B)
(C)
PLAN CATEGORY
Number of securities to be issued upon exercise of outstanding options, warrants and rights
Weighted-average exercise price of outstanding options, warrants and rights
Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (A))
       
Equity compensation plans approved by security holders(1)
5,082,800
$2.48
4,752,000 (2)
       
Equity compensation plans not approved by security holders(3)
70,000
$3.40
N/A

 
______________________________

(1)
These plans consist of: (i) the 1996 Stock Option Plan, (ii) the 1998 Stock Incentive Plan and (iii) the 2009 Stock Incentive Plan.

(2)
Represents the 389,500 shares that remain available for grant under the 1996 Stock Option Plan and 4,362,500 shares that remain available for grant under the 2009 Stock incentive Plan.  The 10-year term of the 1998 Stock Incentive Plan has expired and, accordingly, no additional options or other equity awards may be granted under that plan (however, outstanding awards under the 1998 Stock Incentive Plan are not affected by the expiration of the term and will continue to be governed by the provisions of the plan). 

(3)
These securities consist of warrants issued to Ladenburg Thalmann & Co., Inc. which acted as placement agent and financial advisor to us in connection with the private placement transaction with Millennium Partners LLP completed on March 31, 2008.  A total of 400,000 warrants were issued on March  26, 2008 (the “Issue Date”),  exercisable for 400,000 shares of our common stock for a period of five years from the Issue Date at an exercise price of $3.40 per share. Between February 11, 2011 and March 10, 2011, Ladenburg Thalmann & Co., Inc. exercised a total of 330,000 warrants and paid us an aggregate exercise price of $1,122,000, resulting in the issuance of 330,000 shares of our common stock (the shares were issued by us in reliance upon an exemption from registration provided by Section 4(2) of the Securities Act of 1933, as amended).

Stock Performance Graph

The graph set forth below compares the cumulative total shareholder return on our common stock between March 31, 2007 and March 31, 2012 with the cumulative return of (i) the NASDAQ Stock Market Index (US) and (ii) the NASDAQ Computer and Data Processing Index (US and Foreign), over the same period. This graph assumes the investment of $100 on March 31, 2007 in our common stock, the NASDAQ Stock Market Index (US) and the NASDAQ Computer and Data Processing Index (US and Foreign), and assumes the reinvestment of dividends, if any.

The comparisons shown in the graph below are based upon historical data. We caution that the share price performance shown in the graph below is not indicative of, nor intended to forecast, the potential future performance of our common stock.

Notwithstanding anything to the contrary set forth in any of our previous or future filings under the Securities Act of 1933 or the Securities Exchange Act of 1934 that might incorporate this Annual Report on Form 10-K or future filings made by us under those statutes, the stock price performance graph is not considered "soliciting material," is not deemed "filed" with the SEC and is not deemed to be incorporated by reference into any of those prior filings or into any future filings made by us under those statutes.

 

 
 
Note: Data complete through last fiscal year.
Note:  Index Data: calcuclated (or derived) based from CRSP NASDAQ  Stock Market (US Companies) and CRSP NASDAQ Computer and Data Processing.  Center for research in Security Prices (CRSP®). Graduate School of Business, The University of Chicago.  Copyright 2012. Used with permission.  All rights reserved.

Selected Financial Data

The selected financial data set forth below should be read together with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our financial statements and related notes.  We have derived the statement of earnings data for the fiscal years ended March 31, 2012 and 2011 and the statement of financial position data as at March 31, 2012 and 2011 from the audited financial statements included elsewhere in this report.  The statement of earnings data for the fiscal years ended March 31, 2010, 2009 and 2008 and the statement of financial position data as at March 31, 2010, 2009 and 2008 were derived from audited financial statements that are not included in this report.  Historical results are not necessarily indicative of results to be expected for future periods. The information presented below has been presented on the basis of IFRS1, as issued by the International Accounting Standards Board ("IASB"), or previous Canadian GAAP, as specified. These principles differ in certain significant respects from U.S. GAAP.













 
______________________________


1
Since we adopted IFRS with effect from April 1, 2010, our financial information for the 2008 to 2010 fiscal years is presented on a previous Canadian GAAP basis. Accordingly, information for such prior fiscal years may not be comparable to financial information for the 2011 and 2012 fiscal years.



Table of Selected Financial Data1
Year Ended March 31
(Presented under IFRS and Canadian GAAP)
 (Amounts in thousands, except per share data)


   
2012
   
2011
   
2010
   
2009
   
2008
 
                               
Statement of operations data:
                             
Revenue
  $ 34,917     $ 47,160     $ 14,826     $ 12,379     $ 11,328  
Net  income (loss) 2
    6,728       9,999       (126 )     5,455       (2,221 )
Net income (loss) per share – basic
    0.24       0.37       -       0.20       (0.10 )
Net income (loss) per share – diluted
    0.23       0.36       -       0.20       (0.10 )
Weighted average number of common shares outstanding – basic
    28,214       27,343       27,116       26,834       21,869  
Weighted average number of common shares outstanding – diluted
    29,124       27,844       27,116       26,834       21,869  
Balance sheet data:
                                       
Current assets
  $ 42,042     $ 35,728     $ 14,619     $ 18,996     $ 16,826  
Total assets
    64,967       59,742       40,561       47,499       39,642  
Current liabilities
    13,490       15,477       9,019       16,234       13,185  
Long-term debt, less current portion
    5       7       10       -       2,613  

 
______________________________

1
The financial information set forth in this table for the fiscal years ended March 31, 2012, 2011, 2010, 2009 and 2008 includes our accounts on a consolidated basis. Since we adopted IFRS with effect from April 1, 2010, our financial information for the 2008 to 2010 fiscal years is presented on a previous Canadian GAAP basis. Accordingly, information for such prior fiscal years may not be comparable to financial information for the 2011 and 2012 fiscal years.

2
Net income (loss) for the fiscal years ended March 31, 2012, 2011, 2010, 2009 and 2008 includes share-based payment expenses of approximately $1,317,000,  $1,452,000, $1,238,000, $1,341,000 and $1,287,000, respectively, resulting from fair value accounting for all stock options issued during the year.

ITEM 7.
Management’s Discussion and Analysis of Financial Condition and results of Operations

The following discussion and analysis should be read in conjunction with the Consolidated Financial Statements and Notes thereto included in this Form 10-K. See Item 8. “Financial Statements.” This information is not necessarily indicative of future operating results. The Consolidated Financial Statements and Notes thereto have been prepared in accordance with IFRS.

Forward Looking Information

All statements other than statements of historical fact contained in this Annual Report on Form 10-K are forward-looking statements.  Forward-looking statements generally are accompanied by words such as “anticipate,” “believe,” “estimate,” “intend,”  “project,” “potential” or “expect” or similar statements.  The forward-looking statements were prepared on the basis of certain assumptions which relate, among other things, to the demand for and cost of marketing our services, the volume and total value of transactions processed by merchants utilizing our services, the renewal of material contracts in our business, our ability to anticipate and respond to technological changes, particularly with respect to financial payments and e-Commerce, in a highly competitive industry characterized by rapid technological change and rapid rates of product obsolescence, our ability to develop and market new product enhancements and new products and services that respond to technological change or evolving industry standards, no unanticipated developments relating to previously disclosed lawsuits against us, and the cost of protecting our intellectual property.  Even if the assumptions on which the forward-looking statements are based prove accurate and appropriate, the actual results of our operations in the future may vary widely due to technological changes, increased competition, new government regulation or intervention in the industry, general economic conditions and other risks described elsewhere in this Annual Report on Form 10-K.  See Part I, Item 1A – “Risk Factors”.  Accordingly, the actual results of our operations in the future may vary widely from the forward-looking statements included herein.  All forward-looking statements included herein are expressly qualified in their entirety by the cautionary statements in this paragraph.


Overview

We are a financial payment processor operating three separate lines of business:  transaction payment processing, intellectual property licensing and check processing. Our transaction payment processing services consist predominantly of Internet-based services, while our check processing services involve predominantly traditional and electronic check processing and recovery services that do not utilize the Internet.  While we have historically generated significant amounts of non-recurring revenue associated with our intellectual property licensing initiatives, our transaction payment processing services are (and are expected to be for the foreseeable future) our principal line of business, while our other lines of business (including our electronic check processing services and intellectual property licensing initiatives) are less significant to the financial performance of our company.

TPP Segment

Our TPP segment operations involve financial payment processing, authentication and risk management services. We provide a service that acts as a bank neutral interface between businesses and consumers processing financial or authentication transactions. Our transaction payment processing services are accessible via the Internet and are offered in an application service provider (ASP) model. We focus on product development, project management and third tier technical support of our products and services and rely primarily on strategic business partners to sell and market our products and services. In some instances, our transaction payment processing services and payment products are integrated into third party products in target vertical markets. Our revenues are derived from one-time set-up fees, monthly gateway fees, and transaction fees paid to us by merchants. Transaction fees are recognized in the period in which the transaction occurs. Gateway fees are monthly subscription fees charged to our merchant customers for the use of our payment gateway and are recognized in the period in which the service is provided. Set-up fees represent one-time charges for initiating our processing services. Although these fees are generally paid at the commencement of the agreement, they are recognized ratably over the estimated average life of the merchant relationship, which is determined through a series of analyses of active and deactivated merchants. We currently service a merchant base of over 13,000 customers primarily in Canada.

IPL Segment

Our IPL segment operations involve licensing our intellectual property estate, which includes five U.S. patents describing electronic check processing methods.  Licenses to our intellectual property estate are generally provided to clients based on usage of the technology embodied in the patent(s) being licensed.  Some licensees pay ‘running royalties,’ which is a pay-as-you-go model, and other licensees pay a ‘one-time,’ fully paid-up royalty amount, also based on usage.  Clients’ usage pertaining to these one-time, fully paid-up licenses is contractually determined and in some cases, in order to determine usage and to facilitate the negotiation of a license agreement, the commencement of litigation and the discovery process inherent therein (to determine usage), is employed.   These one-time, fully paid-up licenses are also non-exclusive, similar to the non-exclusive nature of many software licensing arrangements treated as product sales,  and the consideration is fixed and non-refundable with no trailing royalties or other variable consideration.  See “Item 1. – Business.”

CP Segment

Our CP segment operations involve primary and secondary check collection including electronic check re-presentment (RCK).  Our check processing services involve return check management such as traditional and electronic recovery services to retail clients wherein we typically receive revenue when we are successful at recovering the principal amount of the original transaction on behalf of the client.  In some instances we also earn a percentage of the principal amount and in other instances our secondary recovery services provide for us to earn additional fees when legal action is required.  Our check processing services are provided in the United States and are operated from our Wichita, Kansas location.

Within these segments, performance is measured based on revenue, factoring in interest income and expenses, amortization and depreciation, and earnings from operations before income taxes from each segment. There are no transactions between segments. We do not generally allocate corporate or centralized marketing and general and administrative expenses to our business unit segments because these activities are managed separately from the business units.



General Market Conditions

We operate in a highly competitive business environment that has many risks. Critical risk factors that affect or may affect us and the financial payment processing industry include changes in the level of spending by and transactions being processed for our customers and the ongoing credit worthiness and financial solvency of our customers.  We believe that a prolonged global recession or economic downturn could affect consumer confidence and spending patterns which we believe could have a negative impact on the business of our customers and ultimately have a material adverse effect on our results of operations and financial condition. A full discussion of each of these risk factors (in addition to several other risk factors) is disclosed in Item 1A.

Results of Operations

We qualify as a foreign private issuer in the U.S. for purposes of the Exchange Act.  As such, we file our consolidated financial statements with the Securities and Exchange Commission (“SEC”) under IFRS without a reconciliation to generally accepted accounting principles in the U.S. (“U.S. GAAP”).  It is possible that certain of our accounting policies under IFRS could be different from U.S. GAAP.

In addition, due to our conversion to IFRS, we are neither able nor required to present a three-year comparative analysis of our statements of earnings, equity and cash flows.  As a result, unlike our past Annual Reports on Form 10-K, the following discussion of our Results of Operations in this Form 10-K is limited to a discussion of our fiscal 2012 year compared to our fiscal 2011 year.

Fiscal year 2012 compared to Fiscal year 2011

   
Years ended March 31,
   
Variance
 
   
2012
   
2011
          %  
                           
Revenue
  $ 34,917,000     $ 47,160,000       (12,243,000 )     (26.0 )
Costs of revenue
    17,269,000       22,782,000       (5,513,000 )     (24.2 )
Gross profit
    17,648,000       24,378,000       (6,730,000 )     (27.6 )
                                 
Operating expenses
                               
General and administrative
    4,547,000       4,632,000       (85,000 )     (1.8 )
Sales and marketing
    1,080,000       1,161,000       (81,000 )     (7.0 )
Product development and enhancement
    1,169,000       723,000       446,000       61.7  
Income before other income (expenses) and income taxes
    10,852,000       17,862,000       (7,010,000 )     (39.2 )
                                 
Foreign exchange gain (loss)
    57,000       (205,000 )     262,000       -  
Other expense
    -       (5,000 )     5,000       -  
Interest income
    129,000       48,000       81,000       168.8  
Income before income taxes
    11,038,000       17,700,000       (6,662,000 )     (37.6 )
                                 
Income tax expense
                               
Current
    4,023,000       5,203,000       (1,180,000 )     (22.7 )
Deferred
    287,000       2,498,000       (2,211,000 )     (88.5 )
      4,310,000       7,701,000       (3,391,000 )     (44.0 )
                                 
Net income
  $ 6,728,000     $ 9,999,000       (3,271,000 )     (32.7 )




Revenue

The following table compares the revenue generated by all three of our business segments during the fiscal years ended March 31, 2012 and 2011:
 
 
   
Years ended March 31,
   
Variance
 
               
2012
   
2011
 
   
2012
   
2011
          $   %
Revenue
                         
TPP Segment:
                         
Transaction fees
  $ 13,454,000     $ 10,369,000       3,085,000       29.8  
One-time set-up fees recognized
    245,000       200,000       45,000       22.5  
Monthly fees including gateway
    2,195,000       1,589,000       606,000       38.1  
Software customization fees
    244,000       299,000       (55,000 )     (18.4 )
Other
    308,000       300,000       8,000       2.7  
      16,446,000       12,757,000       3,689,000       28.9  
                                 
IPL Segment:
                               
Non-recurring licensing
    14,450,000       30,299,000       (15,849,000 )     (52.3 )
Ongoing/Recognized deferred
    1,719,000       1,771,000       (52,000 )     (2.9 )
      16,169,000       32,070,000       (15,901,000 )     (49.6 )
                                 
CP Segment:
                               
Secondary check collections
    1,958,000       1,977,000       (19,000 )     (1.0 )
Primary check collections
    332,000       344,000       (12,000 )     (3.5 )
Other
    12,000       12,000       -       -  
      2,302,000       2,333,000       (31,000 )     (1.3 )
                                 
Total revenue
  $ 34,917,000     $ 47,160,000       (12,243,000 )     (26.0 )
 

The decrease is total revenue for fiscal 2012 is primarily attributable to the decrease in our non-recurring IPL segment revenue of approximately $15,849,000 offset by an increase in our TPP segment revenue of approximately $3,689,000.

TPP Segment

Revenue pertaining to our TPP segment consists of transaction fees, one-time set-up fees, monthly fees including gateway fees and software customization fees. Total revenue from our TPP segment increased by approximately $3,689,000, or approximately 28.9%. Transaction fees for fiscal year 2012 increased approximately $3,085,000 or approximately 29.8%; the amortized portion of one-time set-up fees recognized increased approximately $45,000 or approximately 22.5%; and monthly fees including gateway fees for fiscal year 2012 increased approximately $606,000 or approximately 38.1%. The increase in these components of TPP segment revenue was primarily attributable to a 28% increase in our merchant base during fiscal year 2012 as compared to fiscal year 2011.

IPL Segment

Revenue from licensing our patented intellectual property decreased by approximately $15,901,000 or approximately 49.6% primarily due to the recognition of approximately $14,450,000 in non-recurring revenue from the License Agreements entered into during our fiscal year 2012 as compared to approximately $30,299,000 in non-recurring revenue recognized from the License Agreements entered into during our fiscal year 2011.

CP Segment

CP segment revenue for fiscal year 2012 decreased approximately $31,000 or approximately 1.3% primarily due to a decrease in collections of the principal amount and related fees of returned checks assigned for primary and secondary recovery.



Costs of revenue

The following table compares the costs of revenue incurred by all three of our business segments during the fiscal years ended March 31, 2012 and 2011:

   
Years ended March 31,
   
Variance
 
   
2012
   
2011
          %  
                           
Costs of revenue
                         
TPP Segment
  $ 9,876,000     $ 7,706,000       2,170,000       28.2  
IPL Segment
    5,708,000       13,316,000       (7,608,000 )     (57.1 )
CP Segment
    1,454,000       1,561,000       (107,000 )     (6.9 )
Share-based payments
    180,000       139,000       41,000       29.5  
Depreciation of property and equipment
    51,000       60,000       (9,000 )     (15.0 )
Total
  $ 17,269,000     $ 22,782,000       (5,513,000 )     (24.2 )

Costs of revenue consists primarily of costs incurred by the TPP, IPL and CP operating segments. Within our TPP segment, these costs are incurred in the delivery of electronic payment transaction services and customer service support and include processing and interchange fees paid, other third-party fees, personnel costs and associated benefits. IPL segment costs of revenue are primarily legal retention fees and legal disbursement costs incurred in generating licensing revenue.  CP segment costs of revenue are primarily incurred in the delivery of check collection services and include third-party fees, personnel costs and associated benefits.

Costs of revenue decreased for fiscal year 2012 by approximately $5,513,000 or approximately 24.2%. This decrease was primarily attributable to a decrease of approximately $7,608,000 in IPL segment costs of revenue which was primarily due to a decrease of approximately $7,355,000 in the costs (primarily legal costs) incurred in connection with the License Agreements entered into during fiscal year 2012 as compared to fiscal year 2011.  TPP segment costs of revenue increased approximately $2,170,000 or approximately 28.2%, primarily due to an increase of approximately 21.9% in our transaction costs which include interchange, assessments and other transaction fees which coincided with increased transaction processing revenue.   CP segment costs of revenue decreased approximately $107,000 or approximately 6.9% which coincided with the decrease in CP segment revenue for fiscal year 2012.  In fiscal year 2012, costs of revenue was approximately $3,322,000, $5,611,000, $3,015,000 and $5,321,000 in each of the first, second, third and fourth quarters, respectively.

General and administrative expenses

The following table compares general and administrative expenses incurred by all three of our business segments as well as our corporate and support functions during the fiscal years ended March 31, 2012 and 2011:

   
Years ended March 31,
   
Variance
 
               
2012
   
2011
 
   
2012
   
2011
          %  
                           
General and administrative expenses
                         
TPP Segment
  $ 1,022,000     $ 1,085,000       (63,000 )     (5.8 )
IPL Segment
    38,000       76,000       (38,000 )     (50.0 )
CP Segment
    372,000       517,000       (145,000 )     (28.0 )
Share-based payments
    1,002,000       985,000       17,000       1.7  
Depreciation of property and equipment
    29,000       39,000       (10,000 )     (25.6 )
Amortization of patents
    167,000       167,000       -       -  
Other unallocated general and administrative expenses
    1,917,000       1,763,000       154,000       8.7  
Total
  $ 4,547,000     $ 4,632,000       (85,000 )     (1.8 )

General and administrative expenses consist primarily of personnel costs including associated share-based payments and employment benefits, office facilities, travel, public relations and professional service fees, which include legal fees, audit fees and SEC and related compliance costs. General and administrative expenses also include the costs of corporate and support functions including our executive leadership and administration groups, finance, information technology, legal, human resources and corporate communication costs.
 
 

 
General and administrative expenses decreased approximately $85,000 or approximately 1.8% for fiscal year 2012 compared to fiscal year 2011.   TPP segment general and administrative expenses decreased approximately $63,000 or 5.8% primarily as a result of a decrease in legal fees associated with the patent infringement complaint filed against our subsidiary, Beanstream Internet Commerce Inc. in April 2009 of approximately $157,000 or approximately 73.7%.  CP segment expenses decreased approximately $145,000 or approximately 28% primarily attributable to a decrease of approximately $132,000 in legal fees associated with the patent infringement complaint filed against our subsidiary, LML Payment Systems Corp. in April 2009.  This complaint was dismissed with prejudice during the second quarter of fiscal 2011.

Sales and Marketing

Sales and marketing expenses consist primarily of salaries paid to sales staff, sales commissions, sales operations and other personnel-related expenses, travel and related expenses, trade shows, costs of lead generation, consulting fees and costs of marketing programs, such as internet, print and direct mail advertising costs. Sales and marketing expenses also include the amortization expense for partner relationships and merchant contracts.

Sales and marketing expense decreased to approximately $1,080,000 from approximately $1,161,000 for fiscal year 2012 and 2011 respectively, a decrease of approximately $81,000 or approximately 7.0% which was primarily attributable to a decrease of approximately $172,000 in share-based payments offset by an increase of approximately $91,000 in our TPP segment sales and marketing expenses from approximately $557,000 for fiscal year 2011 to approximately $648,000 for fiscal year 2012. The increase in TPP segment sales and marketing expenses is primarily attributable to an increase in wages and commissions of approximately $77,000 or approximately 16.1%, resulting from an increase in staffing levels. Amortization expense for partner relationships and merchant contracts were approximately $389,000 for fiscal year 2012 and 2011 respectively.

Product Development and Enhancement

Product development and enhancement expenses consist primarily of compensation and related costs of employees engaged in the research, design and development of new services and in the improvement and enhancement of the existing product and service lines.  Product development and enhancement expenses also include the amortization expense for existing technology.

Product development and enhancement expenses were approximately $1,169,000 for fiscal year 2012 as compared to approximately $723,000 for fiscal year 2011, an increase of approximately $446,000 or approximately 61.7%. The increase is primarily attributable to an increase in our TPP segment product development and enhancement expenses of approximately $430,000 from approximately $498,000 for fiscal year 2011 to approximately $928,000 for fiscal year 2012. The increase in TPP product development and enhancement expenses is primarily attributable to an increase in wages and benefits of approximately $394,000 or approximately 85.7%, resulting from an increase in staffing levels for the fiscal year 2012 as compared to the fiscal year 2011.  The increase in staff was required to support the development of our software customization business as well as supporting new and existing product and service lines. Amortization expense for existing technology was approximately $106,000 for fiscal years 2012 and 2011, respectively.

Foreign exchange gain (loss)

Foreign exchange gain was approximately $57,000 for fiscal year 2012 compared to a foreign exchange loss of approximately $205,000 for fiscal year 2011. The current fiscal year foreign exchange gain was primarily attributable to a strengthening U.S. dollar in relation to the Canadian dollar. The U.S. dollar strengthened by approximately 2.9% from the prior fiscal year end date of March 31, 2011, to the current fiscal year end date of March 31, 2012.  As our TPP segment’s functional currency is the Canadian dollar, net assets originating in U.S. dollars have exposure with a strengthening U.S. dollar and resulted in foreign exchange gains of approximately $161,000. The foreign exchange gain for our TPP segment was offset by a foreign exchange loss of approximately $79,000 on short-term investments originating in Canadian dollars.

Interest income

Interest income for fiscal year 2012 increased to approximately $129,000 from approximately $48,000 for fiscal year 2011 primarily due to an increase in interest bearing cash and short-term investments.



Income Tax Expense

Income tax expense  consists of current income taxes of approximately $4,023,000 for the fiscal year 2012 compared to approximately $5,203,000 for the fiscal year 2011, a decrease of approximately $1,180,000 which is primarily attributable to the decrease of income before income taxes of approximately $6,662,000 from approximately $17,700,000 for fiscal year 2011 to approximately $11,038,000 for fiscal year 2012 resulting primarily from the decrease in income attributable to the licensing activity of our IPL segment during fiscal year 2012. Deferred income tax expense was approximately $287,000 for fiscal year 2012 compared to approximately $2,498,000 for fiscal year 2011, a decrease of approximately $2,211,000 or approximately 88.5%. This decrease was primarily attributable to a decrease in deferred income tax assets during fiscal year 2012 resulting from the utilization of prior years’ Canadian non-capital tax losses against current fiscal year taxable income of our TPP segment.
 
As of March 31, 2012, we had Canadian non-capital loss carry-forwards of approximately $154,000. If we are not able to use these loss carry-forwards, the Canadian loss carry-forwards will expire in 2022.

Net Income

Net income was approximately $6,728,000 for fiscal year 2012 compared to net income of approximately $9,999,000 for fiscal year 2011, a decrease of approximately $3,271,000.  This decrease is primarily attributable to the decrease in licensing activity of our IPL segment during fiscal year 2012.  Earnings per basic share were approximately $0.24 and per diluted share were approximately $0.23 for fiscal year 2012 as compared to earnings per basic share of approximately $0.37 and per diluted share of approximately $0.36 for fiscal year 2011, a decrease in earnings per both basic and diluted share of approximately $0.13.

Liquidity and Capital Resources

Our liquidity and financial position consisted of approximately $28,552,000 in working capital as of March 31, 2012 compared to approximately $20,251,000 in working capital as of March 31, 2011, an increase of approximately $8,301,000. The increase in working capital was primarily attributable to an increase in cash and cash equivalents and short-term investments of approximately $3,157,000 resulting primarily from compensation received from license agreements entered into during the fiscal year 2012 net of taxes paid of approximately $3,928,000. Cash provided by operating activities decreased by approximately $16,335,000 from approximately $19,458,000 for fiscal year 2011 to approximately $3,123,000 for fiscal year 2012. The decrease in cash provided by operating activities was primarily attributable to a decrease in cash received from license agreements of approximately $8,493,000 for fiscal year 2012 and primarily attributable to a decrease in corporate taxes payable of $9,032,000. Cash used in investing activities was approximately $3,360,000 for fiscal year 2012 as compared to approximately $63,000 for fiscal year 2011, an increase of approximately $3,297,000. This increase was primarily attributable to the acquisition of short-term investments totaling approximately $3,295,000 during fiscal year 2012.  Cash provided by financing activities was approximately $224,000 for fiscal year 2012 as compared to approximately $2,238,000 for fiscal year 2011, a decrease of approximately $2,014,000 which was primarily the result of a decrease in proceeds from the exercise of stock options and warrants from approximately $2,249,000 in fiscal year 2011 to approximately $227,000 in fiscal year 2012.

Management tracks projected cash collections and projected cash outflows to monitor short-term liquidity requirements and to make decisions about future resource allocations and take actions to adjust our expenses with the goal of remaining cash flow positive from operations on an annual basis.  We believe that, as of March 31, 2012, our cash resources will be sufficient to meet our operating requirements for the next twelve months.

In light of our strategic objective of acquiring electronic payment volume across all our financial payment processing services and strengthening our position as a financial payment processor, our long-term plans may include the strategic acquisition of complementary businesses, products or technologies and may also include instituting actions against other entities who we believe are infringing our intellectual property.  While we believe that existing cash and cash equivalent balances and potential cash flows from operations should satisfy our long-term cash requirements, we may nonetheless have to raise additional funds for these purposes, either through equity or debt financing, as appropriate.  There can be no assurance that such financing would be available on acceptable terms, if at all.


Contingencies

See Note 14. Commitments and Contingencies, Note 15. Subsequent Events, and Part I, Item 3. Legal Proceedings for a discussion of contingencies.

Contractual Obligations

In our fiscal year ended March 31, 2010, we entered into a lease agreement with Ikon Financial Services to finance an equipment purchase of $11,269. Lease payments are due monthly under the lease term of sixty (60) months. Title to the equipment will transfer to the Corporation at the expiration of the lease.

The following table summarizes our significant contractual obligations and commitments as of March 31, 2012:

   
Payments due by:
 
   
(in thousands)
 
       
         
Less than
   
1 to 3
   
4 to 5
   
More than
 
   
Total
   
1 year
   
years
   
years
   
5 years
 
                               
Long-Term Debt Obligations
  $ -     $ -     $ -     $ -     $ -  
Capital Lease Obligations
    7       2       5       -       -  
Operating Lease Obligations
    565       340       224       1       -  
Purchase Obligations
    22       22       -       -       -  
Total
  $ 594     $ 364     $ 229     $ 1     $ -  

Critical Accounting Policies and Estimates

Our financial statements have been prepared in accordance with IFRS and form the basis for the following discussion and analysis of critical accounting policies and estimates.  We make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosure of contingent assets and liabilities during the course of preparing these financial statements.  On a regular basis, we evaluate our estimates and assumptions including those related to the recognition of revenues, valuation of other long-lived assets and share-based payments.

We base our estimates on historical experience and on various other assumptions that we believe to be reasonable.  These estimates form the basis of our judgments about the carrying value of assets and liabilities that are not readily apparent from other sources.  Our actual results may differ from those estimates.

The following critical accounting policies reflect the more significant estimates and assumptions we have used in the preparation of our financial statements.

Revenue Recognition

TPP Segment

Our TPP segment revenues are derived from transaction fees paid to us by merchants, monthly gateway fees and one-time set-up fees. Transaction fees are recognized in the period in which the transaction occurs. Gateway fees are monthly subscription fees charged to our merchant customers for the use of our payment gateway. Gateway fees are recognized in the period in which the service is provided. Set-up fees represent one-time charges for initiating our processing services. Although these fees are generally paid at the commencement of the agreement, they are recognized ratably over the estimated average life of the merchant relationship, which is determined through a series of analyses of active and deactivated merchants.



IPL Segment

Our IPL segment revenues are derived from licensing fees paid by licensees of our intellectual property.  Licensing fees are based on usage of the technology embodied in the intellectual property being licensed.   In some instances, licensees pay licensing fees on a running royalty basis, which is a pay-as-you-go model, and in other instances, licensees pay a one-time, non-recurring license fee amount based upon usage (“Paid-up Licenses”).   Fees from Paid-up Licenses are fully due and payable up front at the inception of each licensing arrangement and are non- refundable.

Usage pertaining to Paid-up Licenses is contractually determined and in some cases, in order to determine usage and to facilitate the negotiation of a license agreement, the commencement of litigation and the discovery process inherent therein (to determine usage), is sometimes employed.    When we receive licensing payments on a one-time, fully paid-up basis, regardless of whether the licensees entered into license agreements with or without concurrent litigation, we follow the provisions of International Accounting Standard 18, Revenue Recognition (“IAS 18”).

CP Segment

Check recovery fees are recognized in the period when cash is received for the services performed.  These services typically consist of recovering the face amount of the original transaction and a service or collection fee.  We are typically paid the service fee only when we are successful in the recovery of the face amount of the original transaction on behalf of our client.

Goodwill, Purchased Intangible Assets and Other Long-Lived Assets — Impairment Assessments

We make judgments about the recoverability of purchased intangible assets and other long-lived assets whenever events or changes in circumstances indicate that an other-than-temporary impairment in the remaining value of the assets recorded on our balance sheet may exist. We test the impairment of goodwill and indefinite-life intangibles annually in our fourth fiscal quarter or more frequently if indicators of impairment arise. The timing of the formal annual test may result in charges to our statement of operations in our fourth fiscal quarter that could not have been reasonably foreseen in prior periods. In order to estimate the recoverable amount of long-lived assets, we typically make various assumptions about the future prospects for the business that the asset relates to, consider market factors specific to that business and estimate future cash flows to be generated by that business. Based on these assumptions and estimates, we determine whether we need to record an impairment charge to reduce the value of the asset stated on our balance sheet to reflect its estimated recoverable amount. Assumptions and estimates about future values and remaining useful lives are complex and often subjective. They can be affected by a variety of factors, including external factors such as industry and economic trends, and internal factors such as changes in our business strategy and our internal forecasts. Although we believe the assumptions and estimates we have made in the past have been reasonable and appropriate, different assumptions and estimates could materially impact our reported financial results. More conservative estimates of the anticipated future benefits from these businesses could result in impairment charges, which would decrease net income and result in lower asset values on our balance sheet. Conversely, less conservative estimates could result in smaller or no impairment charges, higher net income and higher asset values. As of March 31, 2012, we had recorded goodwill in connection with our acquisition in 2007 of Beanstream with a carrying value of approximately $17,874,000. Significant judgments could be required to evaluate goodwill for impairment in the future including the determination of reporting units, estimating future cash flows, determining appropriate discount rates and other assumptions. We evaluate the goodwill related to the Beanstream acquisition on an annual basis as of March 31 or when indicators of impairment may exist.

We also evaluate the other intangible assets related to the Beanstream acquisition on an annual basis as of March 31 or when indicators of impairment may exist. As of March 31, 2012, we had recorded other intangible assets in connection with our acquisition of Beanstream, with a carrying value of approximately $3,720,000, consisting of partner relationships, merchant contracts, existing technology and trade names. The value of the partner relationships as well as the merchant contracts were derived by considering, among other factors, the expected income and discounted cash flows to be generated from such contracts and relationships. The value of the existing technology was derived by considering, among other factors, the expected income and discounted cash flows to be generated, taking into account risks related to the characteristics and applications of the technology and assessments of the life cycle state of the technology. The value of the trade name was derived by considering, among other factors, expected income and discounted cash flows to be generated, also taking into account the expected period in which we intend to utilize the trade name.



Share-based payments

We issue stock options to our employees and directors under the terms of our 1996 Stock Option Plan and our 2009 Stock Incentive Plan.  We also have a 1998 Stock Incentive Plan, however, its 10-year term has expired and, accordingly, the shares that had remained available for grant pursuant to additional options or other equity awards may no longer be granted under that plan (although, outstanding awards under the 1998 Stock Incentive Plan are not affected by the expiration of the term and will continue to be governed by the provisions of the plan). 

We determine the assumptions used in computing the fair value of the stock options by estimating their expected useful lives, giving consideration to the vesting periods, contractual lives, actual employee forfeitures and the relationship between the exercise price and the historical market value of our common stock, among other factors.  The risk-free interest rate is the federal government zero-coupon bond rate for the relevant expected life.  The fair value of the stock options are estimated on the date of grant using the Black-Scholes option-pricing model.

Deferred Income Taxes and Valuation Allowance

Deferred income taxes reflect the net tax effects of temporary differences between the carrying amount of our assets and liabilities for financial reporting purposes and the amounts used for income tax purposes.  We assess the likelihood that our deferred tax assets will be recovered from our future taxable income and, to the extent we believe that recovery is not likely, we establish a valuation allowance.  We consider all available positive and negative evidence including our past operating results, the existence of cumulative losses and our forecast of future taxable income. In determining future taxable income, we are responsible for assumptions utilized including the amount of pre-tax operating income, the reversal of temporary differences and the implementation of feasible and prudent tax planning strategies. These assumptions require significant judgment about the forecasts of future taxable income and are consistent with the plans and estimates we use to manage our underlying businesses.  Based on various factors, including our taxable income for the past year and estimates of future profitability, we did not record a valuation allowance against our net deferred tax assets.  If we fail to achieve future taxable income assumed in the calculation of our deferred tax assets or if we fail to implement feasible and prudent tax planning strategies, we may be required to offset deferred tax assets with a valuation allowance, resulting in an additional tax expense. The change in the valuation could have a material adverse impact on our profitability and results of operations. If we do not achieve sufficient Canadian taxable income in future years to utilize all or some of our net operating loss carry-forwards, they will expire. See Note 13 to our Consolidated Financial Statements included elsewhere in this report.

Foreign Currency Translation

Except as described below, our functional and reporting currency is the United States dollar.  Monetary assets and liabilities denominated in foreign currencies are translated in accordance with IAS 21 “The Effect of Changes in Foreign Exchange Rates” (which is consistent with the FASB issued authoritative guidance regarding foreign currency translation) using the exchange rate prevailing at the balance sheet date.  Gains and losses arising on settlement of foreign currency denominated transactions or balances are included in the determination of income.

The functional currency of our Canadian Beanstream subsidiary is the Canadian dollar.  Beanstream’s financial statements are translated to United States dollars under the current rate method in accordance with IAS 21 (which is consistent with the FASB issued authoritative guidance regarding foreign currency translation).  Beanstream’s assets and liabilities are translated into U.S. dollars at rates of exchange in effect at the balance sheet date.  Average rates for the year are used to translate Beanstream’s revenues and expenses.  The cumulative translation adjustment is reported as a component of accumulated other comprehensive income.

Conversion to IFRS

We adopted IFRS on April 1, 2011 with an effective transition date of April 1, 2010.  IFRS 1 First Time Adoption of International Financial Reporting Standards sets forth guidance for the initial adoption of IFRS.  Under IFRS 1, the standards are applied retrospectively with all adjustments impacting earlier periods recorded as an adjustment to opening retained earnings on the date of transition to IFRS or, if appropriate, another category of equity unless certain optional exemptions are applied. We have applied the following exemptions to our opening consolidated statement of financial position dated April 1, 2010:
 
 

 
·  
Business Combinations – IFRS 1 indicates that a first-time adopter may elect not to apply IFRS 3 Business Combinations retrospectively to business combinations before the date of transition to IFRS. We have elected to use this election and will apply IFRS 3 to future business combinations.

·  
Consolidated and Separate Financial Statements – according to IFRS 1, if a company elects to apply IFRS 3 Business Combinations retrospectively, certain provisions of IAS 27 Consolidated and Separate Financial Statements must also be applied retrospectively. As we have elected to apply IFRS 3 prospectively, we have also elected to apply the provisions of IAS 27 prospectively.

·  
Share-Based Payment – IFRS 1 encourages, but does not require, first time adopters to apply IFRS 2 Share-based Payment to equity instruments that were granted on or before November 7, 2002, or equity instruments that were granted subsequent to November 7, 2002 and vested before the later of the date of transition to IFRS and January 1, 2005. We have elected to take advantage of the exemption and not apply IFRS 2 to awards that vested prior to April 1, 2010.

IFRS employs a conceptual framework that is similar to Canadian GAAP, however, significant differences exist in certain matters of recognition, measurement and disclosure. While adoption of IFRS has not changed our actual cash flows, it has resulted in changes to our reported financial position, statements of earnings and comprehensive income and statements of cash flows. In order to allow the users of the financial statements to better understand these changes, our Canadian GAAP consolidated statements of financial position as at April 1, 2010 and March 31, 2011, consolidated statements of earnings and comprehensive income for the year ended March 31, 2011 and consolidated statements of cash flows for the year ended March 31, 2011 have been reconciled to IFRS with the resulting differences as explained below:

·  
IFRS 2 “Share-based Payment.”  Canadian GAAP allows the preparer to choose from two methods, namely, (a) treating all options granted on a particular date and with the same terms and conditions as one pool (pooling method) and (b) treating options with different vesting dates as different grants (vesting method).  The cost of the share-based payment for both methods is calculated according to the Black-Scholes Option Pricing Model.  For the pooling method, the total expense is amortized on a straight line basis over the longest vesting period of all of the options in the pool resulting in equal charges to income over the period.  The vesting method looks at each vesting tranche and the expense associated with that particular tranche and amortizes the expense in a straight line fashion.  While the vesting method does not increase overall expense, it does result in our recognizing a greater portion of the expense earlier in the  option term and recognizing a lesser portion of the expense later in the option term  compared to the pooling method.  Under Canadian GAAP, we had been applying the pooling method. However, under IFRS, the vesting method is the only method available and as a result, we will be recognizing a greater portion of stock option expense earlier in the option terms than we had been recognizing under Canadian GAAP.

·  
Using the vesting method as required under IFRS, share-based payments for the year ended March 31, 2011 were approximately $1,452,000 as opposed to approximately $1,163,000 as recorded under Canadian GAAP, a difference of approximately $288,000.

·  
Deferred tax assets:  Under Canadian GAAP, deferred tax assets were presented as current (expected to be utilized within twelve months) and non-current.  Under IFRS, all deferred tax assets are presented as non-current.

·  
Warrants:  Under Canadian GAAP, warrants were included in contributed surplus, whereas, under IFRS, warrants are presented as a separate component of equity in the consolidated statements of financial position.

·  
Amortization and depreciation expense:  Under Canadian GAAP, depreciation of property and equipment and amortization of patents and intangible assets were separately presented in the consolidated statements of earnings and comprehensive income.  Under IFRS, amortization and depreciation expenses are included within the appropriate operating expense category and not separately presented.



The Canadian GAAP consolidated statement of financial position and equity reconciliation at April 1, 2010 has been reconciled to IFRS as follows:

   
Previously reported under Canadian GAAP
   
Reclassifications under IFRS
   
Share-based payments
   
Restated under IFRS
 
ASSETS
                       
                         
Current assets
                       
Cash and cash equivalents
  $ 5,069,763                 $ 5,069,763  
Funds held for merchants
    5,804,752                   5,804,752  
Restricted cash
    175,000                   175,000  
Accounts receivable, less allowance of $31,463
    799,584                   799,584  
Corporate taxes receivable
    1,072,930                   1,072,930  
Prepaid expenses
    416,507                   416,507  
Current  portion of deferred tax assets
    1,280,860     $ (1,280,860 )           -  
Total current assets
    14,619,396       (1,280,860 )     -       13,338,536  
                                 
Property and equipment, net
    219,580                       219,580  
Patents
    455,304                       455,304  
Restricted cash
    255,247                       255,247  
Deferred tax assets
    2,406,473       1,280,860               3,687,333  
Goodwill
    17,874,202                       17,874,202  
Other intangible assets
    4,710,337                       4,710,337  
Other assets
    20,641                       20,641  
Total assets
  $ 40,561,180     $ -     $ -     $ 40,561,180  
                                 
LIABILITIES
                               
                                 
Current liabilities
                               
Accounts payable
  $ 836,274                     $ 836,274  
Accrued liabilities
    1,040,443                       1,040,443  
Corporate taxes payable
    -                       -  
Funds due to merchants
    5,804,752                       5,804,752  
Current portion of obligations under finance lease
    11,195                       11,195  
Current portion of deferred revenue
    1,325,983                       1,325,983  
Total current liabilities
    9,018,647       -       -       9,018,647  
                                 
Obligations under finance lease
    9,840                       9,840  
                                 
Deferred revenue
    2,155,162                       2,155,162  
                                 
Total liabilities
    11,183,649       -       -       11,183,649  
                                 
EQUITY
                               
                                 
Capital stock
                               
Class A, preferred stock, $1.00 CDN par value, 150,000,000 shares authorized, issuable in series, none issued or outstanding
    -                       -  
Class B, preferred stock, $1.00 CDN par value, 150,000,000 shares authorized, issuable in series, none issued or outstanding
    -                       -  
Common shares, no par value, 100,000,000 shares authorized, 27,241,408 issued and outstanding
    50,152,385                       50,152,385  
                                 
Contributed surplus
    7,952,343     $ (649,500 )   $ 684,884       7,987,727  
Warrants
    -       649,500               649,500  
Deficit
    (28,877,282 )             (684,884 )     (29,562,166 )
Accumulated other comprehensive income
    150,085                       150,085  
Total equity
    29,377,531       -       -       29,377,531  
                                 
Total liabilities and equity
  $ 40,561,180     $ -     $ -     $ 40,561,180  


 
 
The Canadian GAAP consolidated statement of financial position and equity reconciliation at March 31, 2011 has been reconciled to IFRS as follows:


   
Previously reported under Canadian GAAP
   
Reclassifications under IFRS
   
Share-based payments
   
Restated under IFRS
 
ASSETS
                       
                         
Current assets
                       
Cash and cash equivalents
  $ 26,917,491                 $ 26,917,491  
Funds held for merchants
    7,164,420                   7,164,420  
Restricted cash
    175,000                   175,000  
Accounts receivable, less allowance of $28,152
    1,103,529                   1,103,529  
Corporate taxes receivable
    101,162                   101,162  
Prepaid expenses
    266,066                   266,066  
Current  portion of deferred tax assets
    428,240     $ (428,240 )           -  
Total current assets
    36,155,908       (428,240 )     -       35,727,668  
                                 
Property and equipment, net
    163,222                       163,222  
Patents
    287,877                       287,877  
Restricted cash
    262,644                       262,644  
Deferred tax assets
    761,507       428,240               1,189,747  
Goodwill
    17,874,202                       17,874,202  
Other intangible assets
    4,215,187                       4,215,187  
Other assets
    21,041                       21,041  
                                 
Total assets
  $ 59,741,588     $ -     $ -     $ 59,741,588  
                                 
LIABILITIES
                               
                                 
Current liabilities
                               
Accounts payable
  $ 702,820                     $ 702,820  
Accrued liabilities
    1,390,847                       1,390,847  
Corporate taxes payable
    4,796,157                       4,796,157  
Funds due to merchants
    7,164,420                       7,164,420  
Current portion of obligations under finance lease
    2,460                       2,460  
Current portion of deferred revenue
    1,420,228                       1,420,228  
Total current liabilities
    15,476,932       -       -       15,476,932  
                                 
Obligations under finance lease
    7,380                       7,380  
                                 
Deferred revenue
    935,979                       935,979  
Total liabilities
    16,420,291       -       -       16,420,291  
                                 
EQUITY
                               
                                 
Capital stock
                               
Class A, preferred stock, $1.00 CDN par value, 150,000,000 shares authorized, issuable in series, none issued or outstanding
    -                       -  
Class B, preferred stock, $1.00 CDN par value, 150,000,000 shares authorized, issuable in series, none issued or outstanding
    -                       -  
Common shares, no par value, 100,000,000 shares authorized, 28,127,184 issued and outstanding
    53,557,276                       53,557,276  
                                 
Contributed surplus
    7,959,595     $ (113,662 )   $ 973,072       8,819,006  
Warrants
    -       113,662               113,662  
Deficit
    (18,590,128 )             (973,072 )     (19,563,201 )
Accumulated other comprehensive income
    394,554                       394,554  
Total equity
    43,321,297       -       -       43,321,297  
                                 
Total liabilities and equity
  $ 59,741,588     $ -     $ -     $ 59,741,588  



The Canadian GAAP consolidated statement of earnings and comprehensive income for the fiscal year ended March 31, 2011 has been reconciled to IFRS as follows:

 
 
   
Previously reported under Canadian GAAP
   
Reclassification under IFRS
   
Share-based payments
   
Restated under IFRS
 
                         
REVENUE
  $ 47,160,490     $ -     $ -     $ 47,160,490  
COSTS OF REVENUE
    22,701,437       60,229       20,305       22,781,971  
GROSS PROFIT
    24,459,053       (60,229 )     (20,305 )     24,378,519  
                                 
OPERATING EXPENSES
                               
General and administrative
    4,337,980       206,685       87,401       4,632,066  
Sales and marketing
    624,930       402,670       133,556       1,161,156  
Product development and enhancement
    559,041       117,062       46,927       723,030  
Amortization of property and equipment
    124,070       (124,070 )             -  
Amortization of intangible assets
    662,576       (662,576 )             -  
INCOME BEFORE OTHER INCOME (EXPENSES) AND INCOME TAXES
    18,150,456       -       (288,189 )     17,862,267  
                                 
Foreign exchange loss
    (205,472 )                     (205,472 )
Other expenses
    (5,549 )                     (5,549 )
Interest income
    48,330                       48,330  
INCOME BEFORE INCOME TAXES
    17,987,765               (288,189 )     17,699,576  
                                 
Income tax expense
                               
Current
    5,203,025                       5,203,025  
Deferred
    2,497,586                       2,497,586  
      7,700,611                       7,700,611  
                                 
NET INCOME
  $ 10,287,154             $ (288,189 )   $ 9,998,965  
                                 
 OTHER COMPREHENSIVE INCOME
                               
Unrealized foreign exchange gain on translation of foreign operations
    244,469                       244,469  
                                 
TOTAL COMPREHENSIVE INCOME
  $ 10,531,623             $ (288,189 )   $ 10,243,434  
                                 
EARNINGS  PER SHARE, basic
  $ 0.38             $ (0.01 )   $ 0.37  
                                 
EARNINGS  PER SHARE, diluted
  $ 0.37             $ (0.01 )   $ 0.36  
                                 
WEIGHTED AVERAGE NUMBER OF SHARES OUTSTANDING
                               
Basic
    27,342,799                       27,342,799  
Diluted
    27,844,113                       27,844,113  
                                 

 
 

 


The Canadian GAAP consolidated statement of cash flows for the fiscal year ended March 31, 2011 has been reconciled to IFRS as follows:


   
Previously reported under Canadian GAAP
   
Share-based payments
   
Restated under IFRS
 
                   
Operating Activities:
                 
Net income
  $ 10,287,154