Innovaro, Inc. 10-Q

ITEM 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following discussion should be read in conjunction with our consolidated financial statements and the notes thereto included elsewhere in this Form 10-Q. This Form 10-Q contains forward-looking statements regarding the plans and objectives of management for future operations. These forward-looking statements may involve known and unknown risks, uncertainties and other factors which may cause our actual results, performance or achievements to be materially different from future results, performance or achievements expressed or implied by any forward-looking statements. Forward-looking statements, which involve assumptions and describe our future plans, strategies and expectations, are generally identifiable by use of the words “may,” “will,” “should,” “expect,” “anticipate,” “estimate,” “believe,” “intend” or “project” or the negative of these words or other variations on these words or comparable terminology. These forward-looking statements are based on assumptions that may be incorrect, and we cannot assure you that the projections included in these forward-looking statements will come to pass. Our actual results could differ materially from those expressed or implied by the forward-looking statements as a result of various factors. Innovaro is The Innovation Solutions Company focused on delivering innovation solutions to our clients through a combination of innovation management software and social media mining as well as information for strategic decision making. We offer a comprehensive set of software to ensure the success of any innovation project, regardless of the size or intent. Our unique combination of our innovation management software platform LaunchPad (an integrated innovation environment), and our trends and foresight services provide any business with the innovation support they need to drive success. Our offices are located in the United States. We currently have one business segment: Intelligence and Insights Services. We envision the continued evolution of our business to include a second segment: Innovation Software and Services, which is the ongoing development and sale of software products such as the our LaunchPad software platform to support the innovation services business. Our LaunchPad software platform is designed to be enhanced and complemented by innovation service offerings to clients. We have general release to market of LaunchPad Imagine, LaunchPad Design and LaunchPad Listen. Through LaunchPad we will provide software and associated services to enable our clients to become more efficient by finding new avenues to grow, fighting commoditization, improving return on investment, transforming the organization and removing barriers to innovation. We deliver business value to our clients via our team of seasoned and experienced professionals capable of unlocking an organization’s capacity by: • Identifying and developing new segments and markets; • Creating and acting on game-changing strategies; • Building an enterprise-wide capability for innovation; • Accelerating and improving new product development processes; and • Assessing a company’s innovation capability. Our Intelligence and Insights Services business provides insights about new market opportunities and gives organizations the long-range perspective required for strategy and planning activities. From current market research to predictive intelligence, we help our clients find insights at the intersections affecting their business. Our research identifies and explains key consumer trends, including emerging trends not covered by other sources, and delivers insights about how these trends will shape the future operating environment. In all of our work, our end goal is to focus on what the changing technology landscape will mean to our clients’ business. Innovaro LaunchPad Our LaunchPad software product provides an integrated innovation environment which embodies our Leading Edge Innovation Practices to offer a process that is repeatable, reliable and scalable. LaunchPad helps innovation teams by making their jobs better, faster and easier. We introduced LaunchPad Imagine to the market in 2011. We have continued to expand the capabilities of Imagine during 2013 to include a number of new data sources. We introduced LaunchPad Design to provide customers with support in developing and validating business models to continue their innovation journey. We also introduced LaunchPad Listen in 2012 to allow clients to monitor social media and analyze sentiment as key input to their business and to the innovation process. We are continuing to incur costs related to the refinement of LaunchPad Imagine, Design and Listen while proceeding with the design of the next components of LaunchPad Accelerate. Page 14 of 21 Discontinued Operations During 2012, we made the strategic decision to divest of our Strategic Services division and a large portion of our Intelligence and Insights services including the Pharmalicensing, Global Licensing, Pharma Transfer and Knowledge Express operating divisions. The sale allowed us to focus our investments on sales and marketing to promote the growth of our software and innovation solutions businesses, which we believe offer significant growth opportunities. Further, we expect the sale will strengthen our balance sheet and help provide us with the financial wherewithal to extend our software capabilities and deliver additional solutions. Except as explicitly described as discontinued operations, and unless otherwise noted, all discussions and amounts presented herein relate to our continuing operations. Significant Developments On January 1, 2013, we acquired 100% ownership of an entity as a result of an assignment and transfer of certain collateral shares held in the entity. We have consolidated this entity as of January 1, 2013. The entity has no operations, or any liabilities, and the only asset held by the entity relates to certain marketable securities, which we classified as trading securities. We sold all of these securities to generate profits during the nine months ended September 30, 2013. Our Board of Directors approved a reduction to the balance of our note receivable from IP Tech Ex in return for the acceleration of the payments on the note. IP Tech Ex agreed to make a $400,000 payment in May 2013 and a $300,000 in December 2014 in full satisfaction of the note. As a result, we recorded a loss of approximately $489,000 during the first quarter of 2013 related to the write-down of this note to its net realizable value of approximately $700,000. The outstanding balance will accrue interest at 5% per annum. On August 15, 2013, we entered into a securities purchase agreement with Asher Enterprises, Inc. (“Asher”) pursuant to which we sold to Asher an 8% convertible note in the aggregate principal amount of $78,500, convertible into shares of our common stock upon the terms and subject to the limitations and conditions set forth in the convertible note. I n October 2013, we entered into an additional securities purchase agreement with Asher pursuant to which we sold to Asher an 8% convertible note in the aggregate principal amount of $42,500, convertible into shares of our common stock upon the terms and subject to the limitations and conditions set forth in the convertible note. On August 21, 2013, we entered into a revolving credit and security agreement with JJJ Family LLLP (“JJJ Family”) pursuant to which we can borrow up to $400,000 from the JJJ Family. In connection with this transaction, we issued a revolving promissory note to JJJ Family in the principal amount of $400,000. Borrowings under the credit facility will be used for general corporate purposes. As additional consideration for this credit facility, we also entered into a warrant agreement with JJJ Family to allow them to purchase up to 400,000 shares of our common stock at an exercise price of $0.14 per share. These warrants become exercisable beginning six months after the issuance date and ending five years from that date. The exercise price is subject to certain conditions and adjustments. As additional consideration for extension of the credit facility, we agreed to amend the exercise price of all previously granted options and warrants to $0.14 per share. Financial Condition Our total assets were $6.5 million and $8.5 million as of September 30, 2013 and December 31, 2012, respectively. As of September 30, 2013, we had $17,000 in cash, $180,000 in accounts receivable, $1.5 million in accounts payable and accrued expenses, and $5.1 million in total debt outstanding. As of December 31, 2012, we had $76,000 in cash, $250,000 in accounts receivable, $1.2 million in accounts payable and accrued expenses, and $5.2 million in total debt outstanding. As of September 30, 2013, we had a working capital deficit of $(3.9) million and an accumulated deficit of $(88.9) million. Results of Continuing Operations Revenue Our revenue is derived from foresight and trend research revenue. Our revenue decreased by $22,000 for the three months ended September 30, 2013 in comparison to the three months ended September 30, 2012. The decreased revenue results from a decrease in the number of custom projects completed in three months ended September 30, 2013. Our revenue decreased by $3,000 for the nine months ended September 30, 2013 in comparison to the nine months ended September 30, 2012. We expect that our revenue will remain consistent with the first nine months of 2013 for the remainder of 2013. Direct Costs of Revenue Direct costs of revenue are comprised of certain salaries and related taxes, commissions, certain outside services and other direct costs related to our intelligence and insights services business. Direct costs of revenue decreased by $43,000 and $195,000 for the three and nine months ended September 30, 2013 in comparison to the three and nine months ended September 30, 2012, respectively, due to a reduction in sales staff and the elimination of the sales manager position. Page 15 of 21 We expect that our direct costs of revenue will remain consistent with the first nine months of 2013 for the remainder of 2013. Salaries and Wages Salaries and wages include non-sales employee and officer salaries and related benefits, including bonuses and stock-based compensation that are not otherwise allocated to direct costs of revenue. Salaries and wages decreased by $15,000 and $50,000 for the three and nine months ended September 30, 2013 in comparison to the three and nine months ended September 30, 2012, respectively. The decrease is primarily related to a decrease in officer salaries and a decrease in stock compensation expense. We expect that our salaries and wages will continue to decrease over the 2012 totals due to the resignation of our general counsel. Professional Fees Professional fees include accounting fees, legal fees and valuation expenses for our investments. Professional fees decreased by $46,000 and $134,000 for the three and nine months ended September 30, 2013 in comparison to the three and nine months ended September 30, 2012, respectively primarily as a result of a reduction in audit and legal fees due to our limited operations. We expect that our professional fees will remain consistent with the first nine months of 2013 for the remainder of 2013. Research and Development Research and development expense includes outside services and other costs related to the continued development of our LaunchPad software platform, which is designed to enhance and complement our innovation services offerings to clients. Research and development costs decreased by $42,000 and $172,000 for the three and nine months ended September 30, 2013 in comparison to the three and nine months ended September 30, 2012, respectively. The decrease is related to scaling back the amount of resources allocated to the development of LaunchPad. We expect that our research and development expense will remain consistent with the first nine months of 2013 for the remainder of 2013. Sales and Marketing Sales and marketing expense includes advertising, marketing, commissions paid to outside service providers, certain travel and other business development expenses. Sales and marketing expense increased by $29,000 and $15,000 for the three and nine months ended September 30, 2013 in comparison to the three and nine months ended September 30, 2012, respectively, due to our recent marketing push related to our LaunchPad Listen application of the innovation management software . We expect that our sales and marketing expense will continue to increase over the 2012 totals due to continued market efforts. General and Administrative General and administrative expense decreased by $70,000 for the three months ended September 30, 2013 in comparison to the three months ended September 30, 2012. The decrease primarily relates to a $62,000 reduction in outside services and a $7,000 reduction in rent expense. General and administrative expense decreased by $393,000 for the nine months ended September 30, 2013 in comparison to the nine months ended September 30, 2012. The decrease primarily relates to a $282,000 reduction in outside services, a $17,000 reduction in bad debt, a $54,000 reduction in insurance and other employee related costs due to having fewer employees, and a $45,000 reduction in rent and building expenses. We expect that our general and administrative expense will remain consistent with the first nine months of 2013 for the remainder of 2013. Depreciation and Amortization Depreciation and amortization expense decreased by $183,000 and $559,000 for the three and nine months ended September 30, 2013 in comparison to the three and nine months ended September 30, 2012, respectively. Amortization expense decreased by $181,000 and $543,000 for the three and nine months ended September 30, 2013, respectively, as a result of the impairment charges related to our intangible assets that were incurred in 2012. Depreciation expense decreased by $2,000 and $16,000 for the three and nine months ended September 30, 2013, respectively. Page 16 of 21 We expect that our depreciation and amortization will remain consistent with the first nine months of 2013 for the remainder of 2013. Impairment Loss We recorded an impairment loss of $450,000 related to a decrease in the fair value of our corporate headquarters during the nine months ended September 30, 2013. Other (Income) Expense Other (income) expense includes rental income, gains and losses related to adjusting our derivative liabilities to fair value, investment gains and losses and other miscellaneous income and expenses. The net other income of $122,000 for the three months ended September 30, 2013 is comprised primarily of a gain on derivative liabilities of $13,000, rental income of $84,000, and miscellaneous income of $25,000. The net other expense of $78,000 for the nine months ended September 30, 2013 is comprised primarily of a loss on write down of a note receivable of $593,000, partially offset by rental income of $247,000, investment net income of $183,000, a gain of $36,000 related to adjusting our derivative liabilities and miscellaneous income of $49,000. Interest Expense, Net Interest expense, net increased by $14,000 for the three months ended September 30, 2013 in comparison to the three months ended September 30, 2012. The net interest expense of $115,000 for the three months ended September 30, 2013 is primarily comprised of interest expense on debt of $95,000 and amortization of our debt discount of $25,000, partially offset by interest income on our notes receivable of $5,000. The net interest expense of $101,000 for the three months ended September 30, 2012 is primarily comprised of interest expense on debt and other payables of $39,000 and amortization of our debt discount of $91,000, partially offset by interest income on our notes receivable of $29,000. Interest expense, net increased by $22,000 for the nine months ended September 30, 2013 in comparison to the nine months ended September 30, 2012. The net interest expense of $338,000 for the nine months ended September 30, 2013 is primarily comprised of interest expense on debt of $288,000 and amortization of our debt discount of $70,000, partially offset by interest income on our notes receivable of $20,000. The net interest expense of $315,000 for the nine months ended September 30, 2012 is primarily comprised of interest expense on debt and other payables of $298,000 and amortization of our debt discount of $99,000, partially offset by interest income on our notes receivable of $81,000. Liquidity and Capital Resources Cash Flows Cash flows from operating activities of ($713,000) for the nine months ended September 30, 2013 increased $448,000 from ($1,161,000) for the nine months ended September 30, 2012. Total cash flows from operations of ($713,000) in the current period are primarily attributable to: • $2.4 million net operating loss; • $253,000 realized gain on trading securities; • $43,000 decrease in deferred revenue; and • $36,000 gain on derivative liabilities. Partially offset by: • $270,000 in non-cash depreciation and amortization; • $593,000 in loss on write down of note receivable; • $70,000 loss on impairment of investment securities • $450,000 loss on impairment of fixed assets • $130,000 in non-cash stock-based compensation expense related to vesting options; • $71,000 decrease in accounts receivable; • $86,000 decrease in prepaid expense and other assets; and • $326,000 increase in accounts payable and accrued expenses. Page 17 of 21 Cash flows from investing activities of $738,000 for the nine months ended September 30, 2013 increased $120,000 from $618,000 for the nine months ended September 30, 2012. Total cash flows from investing activities of $738,000 for the nine months ended September 30, 2013 are primarily attributable to $475,000 in collection of notes receivable and $323,000 in proceeds from sale of securities, partially offset by capital expenditures of $60,000. Cash flows from financing activities of ($84,000) for the nine months ended September 30, 2013 decreased $(151,000) from $(235,000) the nine months ended September 30, 2012. Total cash flows from financing activities of $(84,000) for the nine months ended September 30, 2013 are related to principal payments on long-term debt of $399,000, partially offset by proceeds from additional debt of $315,000. Software Development Costs We are continuing the development of our LaunchPad software, which is designed to enhance and complement our innovation service offerings to clients. As of September 30, 2013, we had invested $2.8 million in this software platform. We expect to incur approximately $70,000 in additional expenditures for the development and refinement of the software platform for the remainder of 2013. Liquidity We incurred a net loss of $(2.4) million and $(10.0) million for the nine months ended September 30, 2013 and the year ended December 31, 2012, respectively. In addition, we have a working capital deficit of $(3.9) million and an accumulated deficit of $(88.9) million as of September 30, 2013. These factors raise doubt about the Company’s ability to continue as a going concern Our primary cash requirements include working capital, research and development expenditures, principal and interest payments on indebtedness, and employee salaries and bonuses. Our primary sources of funds are cash received from collections of notes receivable, customers in connection with operations and, to a lesser extent, proceeds from the sale from time to time of our investments. We currently intend to fund our liquidity needs, including our software development costs, with existing cash balances, cash generated from operations, collections of our existing receivables and the proceeds for the sales of our investments. Given our cash position, working capital deficit and expected revenues in the near term, we do not expect that we will be able to fund our scheduled debt service payments of $3.2 million and our operating requirements for the next twelve months. We are exploring opportunities for obtaining a credit facility, as well as selling equity securities and certain other assets. In addition, we have the capability to delay all cash intensive activities, including our software development costs, and will look to reduce costs further. However, if such measures prove inadequate, we could face liquidity problems and might be required to reduce or delay planned capital expenditures and other initiatives and sell assets, and we may be unable to take any of these actions on satisfactory terms or in a timely manner. Further, any of these actions may not be sufficient to allow us to service our debt obligations or may have an adverse impact on our business. Our failure to generate sufficient cash from our operations could have a material adverse effect on us. Our future success depends on our ability to raise capital and ultimately generate revenue and attain profitability. We cannot be certain that additional capital, whether through selling additional debt or equity securities or obtaining a line of credit or other loan, will be available to us or, if available, will be on terms acceptable to us. If we issue additional securities to raise funds, these securities may have rights, preferences, or privileges senior to those of our common stock, and our current shareholders may experience dilution. If we are unable to obtain funds when needed or on acceptable terms, we may be required to curtail our current development programs, cut operating costs and forego future development and other opportunities. Without sufficient capital to fund our operations, we will be unable to continue as a going concern. Critical Accounting Estimates The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make assessments, estimates and assumptions that affect the amounts reported in the financial statements. Critical accounting estimates are those that require management’s most difficult, complex, or subjective judgments and have the most potential to impact our financial position and operating results. For a detailed discussion of our critical accounting estimates, see our Annual Report on Form 10-K for the year ended December 31, 2012. There have been no material changes to our critical accounting estimates during the nine months ended September 30, 2013. Page 18 of 21 ITEM 3. Quantitative and Qualitative Disclosures about Market Risks Not applicable.