Innovaro, Inc. 10-K

Item 1A. Risk Factors Investing in our common stock involves a high degree of risk. As a result, there can be no assurance that we will achieve our business objectives. You should consider carefully the risks described below. RISKS RELATED TO ECONOMIC CONDITIONS Current challenging economic conditions may adversely affect our business. Challenging economic conditions related to the protracted worldwide economic downturn that began in 2008 may affect our sales and renewals of our products and services, and could negatively affect our revenues and our ability to maintain or grow our business. Instability in the financial markets associated with the economic downturn has resulted in a tightening of credit markets, which could impair the ability of our customers to obtain credit to finance purchases of our products or impair our ability to obtain credit to finance our business. Our client base is diverse and each client or potential client faces a unique set of risks. These risks include, for example, the availability of public funds and the possibility of state and local budget cuts, or lower revenues, any of which could lead to a reduction in overall spending, including information technology spending, by our current and potential clients and a corresponding decline in demand for our products and services. A prolonged economic downturn may result in a reduction in overall demand for our products and services, which could cause a decline in both new sales and renewals of our existing products and difficulty in establishing a market for our new products and services. In addition, we have experienced some lengthening of payment cycles and, depending on the future economic climate, may see a continuation of this trend. Furthermore, our accounts receivable may increase and the relative aging of our receivables may deteriorate if our clients delay or are unable to make their payments due to the tightening of credit markets and the lack of available funding. RISKS RELATED TO OUR PRODUCTS AND SERVICES The consulting services business is highly competitive, and we may not be able to compete effectively. The consulting services business in which we operate includes a large number of participants and is intensely competitive. We face competition from business operations and financial consulting firms, general management consulting firms, the consulting practices of major accounting firms, technical and economic advisory firms, regional and specialty consulting firms and the internal professional resources of organizations. In addition, because there are relatively low barriers to entry, we expect to continue to face additional competition from new entrants into the business operations and financial consulting industries. Many of our competitors have a greater national and international presence, as well as have significantly greater personnel, financial, technical and marketing resources. In addition, these competitors may generate greater revenues and have greater name recognition than we do. Our ability to compete also depends in part on the ability of our competitors to hire, retain and motivate skilled professionals, the price at which others offer comparable services and our competitors’ responsiveness to their clients. If we are unable to compete successfully with our existing competitors or with any new competitors, it could negatively affect our operating results. 7 Table of Contents The profitability of our fixed-fee engagements with clients may not meet our expectations if we underestimate the cost of these engagements. When making proposals for fixed-fee engagements, we estimate the costs and timing for completing the engagements. These estimates reflect our best judgment regarding the efficiencies of our methodologies and consultants as we plan to deploy them on engagements. Any increased or unexpected costs or unanticipated delays in connection with the performance of fixed-fee engagements, including delays caused by factors outside our control, could make these contracts less profitable or unprofitable, which could negatively affect our operating results. The absence of long-term contracts with our clients reduces the predictability of our revenue. Our clients are generally able to reduce or cancel their use of our professional services without penalty and, in some circumstances, with little notice. As a result, we believe that the number of clients or the number and size of our existing projects are not reliable indicators or measures of future revenue. We will need to continuously acquire new clients and/or new projects to pay our expenses. When a client defers, modifies or cancels a project, there is no assurance that we will be able to rapidly redeploy our professionals to other projects in order to minimize the underutilization of employees and the resulting adverse impact on operating results. We may not be able to replace cancelled or reduced contracts with new business and because our expenses are generally longer term in nature, our revenue and profits may decline. It is important to our future success that we expand the breadth and depth of our service offerings to stay abreast of the competition and to enhance our potential for growth of revenues and profits. We are primarily a service business. It is important to our future success to expand the breadth and depth of our service offerings to stay abreast of the competition and to enhance our potential for growth of revenues and profits. Expansion of our service categories and service offerings in this manner will require significant additional expenditures and could strain our management, financial and operational resources. For example, we are developing an innovation software platform to create a new revenue stream. We cannot be certain that we will be able to do so in a cost-effective or timely manner or that we will be able to offer certain services in demand by our clients, or to do so in a quality manner. Furthermore, any new service offering that is not favorably received by our clients could damage our reputation. The lack of market acceptance of new services or our inability to generate satisfactory revenues from expanded service offerings to offset their costs could harm our business. If we do not successfully expand our operations, our revenues may fall below expectations. If we do not successfully expand our operations on an ongoing basis to accommodate increases in demand, we will not be able to fulfill our clients’ needs in a timely manner, which would harm our business. We may experience outages and disruptions in connection with our online licensing services if we fail to maintain an adequate operations infrastructure. We have spent and expect to continue to spend substantial amounts to maintain equipment and to upgrade our technology and network infrastructure relating to our online licensing services. However, any inefficiencies or operational failures could diminish the quality of our services, and client experience, resulting in damage to our reputation and loss of current and potential users, and subscribers, harming our operating results and financial condition. A significant portion of our revenue is derived from a limited number of clients, which may cause our operating results to be unpredictable. We have derived, and expect to continue to derive, a significant portion of our revenue from a limited number of clients. Our clients typically retain us on an engagement-by-engagement basis, rather than under fixed-term contracts; the volume of work performed for any particular client is likely to vary from year to year and a major client in one fiscal period may not require or decide not to use our services in any subsequent fiscal 8 Table of Contents period. Moreover, a large portion of our new engagements comes from existing clients. Accordingly, the failure to obtain new large engagements or multiple engagements from existing or new clients could have a material adverse effect on the amount of revenues we generate. In addition, if we fail to collect a large trade receivable or group of receivables, we could be subject to significant financial exposure. Our ability to maintain and attract new business depends upon our reputation, the professional reputation of our revenue-generating employees and the quality of our services. Our ability to secure new engagements depends heavily upon our corporate brand and reputation and the individual reputations of our professionals. Any factor that diminishes our reputation or that of our employees, including not meeting client expectations, misconduct by our employees, or dissemination of inappropriate information from outside sources, could make it substantially more difficult for us to attract new engagements and clients. Similarly, because we obtain many of our new engagements from former or current clients or from referrals by those clients or by law firms that we have worked with in the past, any client that questions the quality of our work or that of our consultants could impair our ability to secure additional new engagements and clients. We depend on successful technology development. We believe that it will be necessary for us to continue to incur significant research and development expenditures in order for us to remain competitive. While we believe our research and development expenditures will improve our product lines, because of the uncertainty of software development projects and risks posed by the current economic downturn, these expenditures will not necessarily result in successful product introductions or sustained revenue levels. Uncertainties affecting the success of software development project introductions include technical difficulties, delays in the introductions of new products, market conditions, competitive products, and customer acceptance of and demand for new products and the operating systems they run on. We also face certain challenges in integrating third-party technology embedded in our products. These challenges include the technological challenges of integration, which may result in development delays, and uncertainty regarding the economic terms of our relationship with our third-party technology providers, which may result in delays of the commercial release of new products. In addition, if we are required to adopt cost-conservation measures, we may be compelled to reduce the amounts of our investment in research and development activities, which could adversely affect our ability to maintain the competitiveness of our existing products, our ability to develop new products, and our future research and development capabilities. Failure to continue to timely develop technologies and products necessary for us to remain competitive is likely to have a material and adverse effect on our business. RISKS RELATED TO BUSINESS OPERATIONS Our quarterly and annual results fluctuate significantly. Our quarterly and annual operating results fluctuate significantly due to a number of factors. These factors include fluctuations in the amount of consulting services we provide, the degree to which we encounter competition in our markets, and general economic conditions. As a result of these factors, quarterly and annual results are not necessarily indicative of our performance in future quarters and years. We have grown, and may continue to grow, through acquisitions and strategic investments, which could involve substantial risks. We have made and may continue to make acquisitions of or significant investments in, businesses that offer complementary products and services. The risks involved in each acquisition or investment include the possibility of paying more than the value we derive from the acquisition, dilution of the interests of our current stockholders or decreased working capital, increased indebtedness, the assumption of undisclosed liabilities and unknown and unforeseen risks, the ability to retain key personnel of the acquired company, the inability to integrate the business of the acquired company, the time to train the sales force to market and sell the products of 9 Table of Contents the acquired business, the potential disruption of our ongoing business and the distraction of management from our business. The realization of any of these risks could adversely affect our business. Additionally, we face competition in identifying acquisition targets and consummating acquisitions. The failure to integrate or negotiate successfully any future acquisitions could harm our business and operating results. If we acquire businesses in the future and are unable to integrate successfully these businesses, it could harm our business and operating results. In order to remain competitive or to expand our business, we may find it necessary or desirable to acquire other businesses, products or technologies. We may be unable to identify appropriate acquisition candidates. If we identify an appropriate acquisition candidate, we may not be able to negotiate the terms of the acquisition successfully, finance the acquisition or integrate the acquired businesses, products or technologies into our existing business and operations. Further, completing a potential acquisition and integrating an acquired business may strain our resources and require significant management time. In addition, we may revalue or write-down the value of goodwill and other intangible assets in connection with future acquisitions, which would negatively affect our operating results. Our inability to hire and retain talented people in an industry where there is great competition for talent could have a serious negative effect on our services and results of operations. Our consulting services business involves the delivery of professional services and is highly labor-intensive. Our success depends largely on our general ability to attract, develop, motivate and retain highly skilled professionals. The loss of a significant number of our professionals or the inability to attract, hire, develop, train and retain additional skilled personnel could have a serious negative effect on us, including our ability to manage, staff and successfully complete our existing engagements and obtain new engagements. Qualified professionals are constantly in demand, and we face significant competition for both senior and junior professionals with the requisite credentials and experience. Our principal competition for talent comes from other research and consulting firms, as well as from organizations seeking to staff their internal professional positions. Many of these competitors may be able to offer significantly greater compensation and benefits or more attractive lifestyle choices, career paths or geographic locations than we do. Therefore, we may not be successful in attracting and retaining the skilled consultants we require to conduct and expand our operations successfully. Increasing competition for these revenue-generating professionals may also significantly increase our labor costs, which could negatively affect our operating results. The failure to renew our employment contracts with certain with key consulting professionals could have a serious negative effect on our financial condition and results of operations. Our strategic services revenue in recent years has largely been dependent on the efforts of certain key consulting professionals, including Peter Skarzynski, the managing director of our Strategos Services division, whose employment contracts with us expire in April 2011. If we are not successful in retaining these consulting professionals or timely hiring similarly qualified and skilled consulting professionals to replacement them, then we may not be able to maintain the level of strategic services revenue we have generated in recent years and our financial condition and results of operations will likely be negatively impacted. We have a history of operating losses and may not achieve profitability on an annual basis in the future. For the years ended December 31, 2010 and December 31, 2009, we recorded net losses of $19.1 million and $15.3 million, respectively. As of December 31, 2010, our accumulated deficit was $71.8 million. We expect to continue to make significant expenditures related to the continued development of our business, including our innovation management software platform. We may therefore sustain significant operating losses and negative cash flows in the future. We will have to maintain significant increased revenue and product gross margins to achieve profitability on an annual basis. 10 Table of Contents We may need additional capital, which may not be available on acceptable terms, if at all, and any additional financing may be on terms adverse to your interests. We may need additional cash to fund our operations. Our capital needs will depend on numerous factors, including market conditions and our profitability. We cannot be certain that we will be able to obtain additional financing on favorable terms, if at all. If additional financing is not available when required or is not available on acceptable terms, we may be unable to fund our innovation software business, successfully promote our brand name, develop or enhance our services, take advantage of business opportunities, or respond to competitive pressures or unanticipated requirements, any of which could seriously harm our business and reduce the value of your investment. If we are able to raise additional funds, if and when needed, by issuing additional equity securities, you may experience significant dilution of your ownership interest and holders of these new securities may have rights senior to yours as a holder of our common stock. Changes in the laws or regulations that govern us could have a material impact on our operations. Any change in the laws or regulations that govern our business could have a material impact on us or on our operations. Laws and regulations may be changed from time to time, and the interpretations of the relevant laws and regulations also are subject to change. We are subject to certain risks associated with our foreign operations. We have operations in the United Kingdom and may seek to expand our operations in other countries. Certain risks are inherent in foreign operations, including: • difficulties in enforcing agreements and collecting receivables through certain foreign legal systems; • foreign clients may have longer payment cycles than clients in the US; • tax rates in certain foreign countries may exceed those in the US and foreign earnings may be subject to withholding requirements, exchange controls or other restrictions; • general economic and political conditions in countries where we operate may have an adverse effect on our operations; • exposure to risks associated with changes in foreign exchange rates; • difficulties associated with managing a large organization spread throughout various countries; • difficulties in enforcing intellectual property rights; and • required compliance with a variety of foreign laws and regulations. Investing in foreign companies, including innovation services firms, may expose us to additional risks not typically associated with investing in US companies. These risks include changes in foreign exchange rates, exchange control regulations, political and social instability, expropriation, imposition of foreign taxes, less liquid markets and less available information than is generally the case in the US, higher transaction costs, less government supervision of exchanges, brokers and issuers, less developed bankruptcy laws, difficulty in enforcing contractual obligations, lack of uniform accounting and auditing standards and greater price volatility. As we continue to expand our business globally, our success will depend, in part, on our ability to anticipate and effectively manage these and other risks. We cannot assure you that these and other factors will not have a material adverse effect on our international operations or our business as a whole. We may incur additional impairments to goodwill and intangible assets. We are required to test goodwill and intangible assets for impairment annually or if a triggering event occurs in accordance with the provisions of ASC Topic 350 Intangibles—Goodwill and Other . Such impairment could be caused by internal factors as well as external factors beyond our control. 11 Table of Contents Significant negative industry or economic trends, including the lack of recovery in the market price of our common stock, reduced estimates of future cash flows, disruptions to our business, slower growth rates or lack of growth in the areas in which we generate revenues could lead to an impairment charge for any of our intangible assets or goodwill. If, in any period, our stock price decreases to the point where the fair value of the Company, as determined by our market capitalization, is less than our book value, this too could indicate a potential impairment and we may be required to record an impairment charge in our statement of operations in that period which would cause an increase in our net loss. Our valuation methodology for assessing impairment requires management to make judgments and assumptions based on historical experience and to rely heavily on projections of future operating performance. We operate in highly competitive environments and projections of future operating results and cash flows may vary significantly from actual results. Additionally, if a significant decline in our stock price and/or market capitalization result in impairment to our goodwill, we may be required to record a charge to earnings in our financial statements during a period in which such impairment is determined to exist, which may negatively impact our results of operations. RISKS RELATED TO OUR COMMON STOCK AND DEBT FINANCING ARRANGEMENTS The continued listing of our common stock on the NYSE Amex is subject to compliance with continued listing requirements. While we have not received any notice of intent to delist our common stock, if our common stock were delisted, the ability of investors in our common stock to make transactions in such stock would be limited. Our common stock is listed on the NYSE Amex. The continued listing of our common stock on the NYSE Amex requires us to meet continued listing requirements set forth in the NYSE Amex’s Company Guide. These requirements include both quantitative and qualitative standards. While we have not received any notice of intent to delist our common stock, investors should be aware that if the NYSE Amex were to delist our common stock from trading on its exchange, this would limit investors’ ability to make transactions in our common stock. We may issue shares of our common stock and warrants to purchase shares of our common stock at a discount to the market price for such shares, which may put downward pressure on the market price for shares of our common stock. If we issue shares of our common stock at a discount to the market price for such shares or warrants to purchase shares of our common stock with an exercise price below the market price for such shares, it may put downward pressure on the market price for shares of our common stock. Such downward pressure could in turn encourage short sales or similar trading with respect to shares of our common stock, which could in itself, place further downward pressure on the market price for shares of our common stock. We may issue shares of our common stock in conjunction with the acquisition of other businesses, which may put downward pressure on the market price for shares of our common stock and create additional dilution of the current shares outstanding. Consistent with our current strategy, we may seek to acquire other businesses through the issuances of common stock and or cash. If common stock is used in these transactions, it would create additional dilution of the current shares outstanding. Further, such issuances may result in downward pressure on our share price as a result of these additional shares being issued. Also, there is the potential that the market may not respond favorably to potential new acquisitions, which could also negatively affect our share price. Our common stock price may be volatile. The trading price of our common stock has fluctuated significantly and may continue to fluctuate substantially, depending on many factors, many of which are beyond our control and may not be directly related to operating performance. These factors include the following: • price and volume fluctuations in the overall stock market from time to time; 12 Table of Contents • significant volatility in the market price and trading volume of securities of innovation services firms and technology transfer companies; • changes in regulatory policies, accounting or tax guidelines with respect to innovation services firms and technology transfer companies; • actual or anticipated changes in our sales or earnings or fluctuations in our operating results; • changes in financial reporting requirements; • general economic conditions and trends; • loss of a major funding source; • departures of key personnel; • changes to the market or shareholders’ acceptance of our unique technology transfer business; or • the consummation of mergers or acquisitions of related businesses. The agreements relating to our indebtedness may restrict our current and future operations. Our debt agreements contain, and any future agreements may include, a number of restrictive covenants that impose significant operating and financial restrictions on, among other things, our ability to: • incur additional debt, including guarantees; • incur liens; • sell or otherwise dispose of assets; • make investments, loans or advances; • make some acquisitions; • engage in mergers or consolidations; • make capital expenditures; and • pay dividends. Any future debt could contain financial and other covenants more restrictive than those that are currently applicable. Our failure to comply with the agreements relating to our outstanding indebtedness, including as a result of events beyond our control, could result in an event of default that could materially and adversely affect our operating results and our financial condition. If there were an event of default under any of the agreements relating to our outstanding indebtedness the holders of the defaulted debt could cause all amounts outstanding with respect to that debt to be due and payable immediately. We cannot assure you that our assets or cash flow would be sufficient to fully repay borrowings under our outstanding debt instrument, either upon maturity or if accelerated upon an event of default. Further, if we were unable to repay, refinance or restructure our indebtedness under our secured debt, the holders of such debt could proceed against the collateral securing that indebtedness. In addition, any event of default or declaration or acceleration under one debt instrument could also result in an event of default under one or more of our other debt instruments. We may not be able to generate sufficient cash flow to meet our debt service obligations. Our ability to generate sufficient cash flow from operations to make scheduled payments on our debt obligations will depend on our future financial performance, which will be affected by a range of economic, 13 Table of Contents competitive and business factors, many of which are outside our control. If we do not generate sufficient cash flow from operations to satisfy our debt obligations, we may have to undertake alternative financing plans, such as refinancing or restructuring our debt, selling assets, reducing or delaying capital investments or seeking to raise additional capital. We cannot assure you that any refinancing would be possible, that any assets could be sold, or, if sold, of the timing of the sales and the amount of proceeds realized from those sales, or that additional financing could be obtained on acceptable terms, if at all, or would be permitted under the terms of our various debt agreements then in effect. Our inability to generate sufficient cash flow to satisfy our debt obligations, or to refinance our obligations on commercially reasonable terms, would have an adverse effect on our business, financial condition and results of operations, as well as on our ability to satisfy our debt obligations. Item 1B. Unresolved Staff Comments None.