https://biz.yahoo.com/e/091116/neom.ob10-q.html
16-Nov-2009
Quarterly Report
ITEM 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
Special Note About Forward-Looking Statements
Certain statements in Management's Discussion and Analysis, other than purely historical information, including estimates, projections, statements relating to our business plans, objectives, and expected operating results, and the assumptions upon which those statements are based, are "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933, as amended and Section 21E of the Securities Exchange Act of 1934 (the "Exchange Act"), as amended. These forward-looking statements generally are identified by the words "believe," "project," "expect," "anticipate," "estimate," "intend," "strategy," "plan," "may," "should," "will," "would," "will be," "will continue," "will likely result," and similar expressions. Forward-looking statements are based on current expectations and assumptions that are subject to risks and uncertainties, which may cause actual results to differ materially from the forward-looking statements. For a detailed discussion of risks and uncertainties that could cause actual results and events to differ materially from such forward looking statements, please refer to the section titled "Risk Factors" in the Company's 2008 Form 10-K filed on April 14, 2009 with the SEC. We undertake no obligation to update or revise publicly any forward-looking statements, whether as a result of new information, future events, or otherwise.
Overview
NeoMedia provides the infrastructure to make mobile barcode scanning and its associated commerce easy, universal, and reliable - worldwide. Our barcode ecosystem products including mobile barcode reading software, NeoReader, read and transmit data from 1D and 2D barcodes to its intended destination. Our Code Management (NeoSphere) and Code Clearinghouse (NeoRouter) platforms create, connect, record, and transmit the transactions embedded in the barcodes, like web-URLs, text messages (SMS), and telephone calls, ubiquitously and reliably.
In order to provide complete mobile marketing solutions, NeoMedia also offers barcode scanning hardware that reads barcodes displayed on mobile phone screens or printed media. NeoMedia provides infrastructure solutions to enable mobile ticketing and couponing programs - including scanner hardware and system support software for seamless implementation.
This technology is supported by our patents. In addition, NeoMedia has an open standards philosophy designed to make integration and use of the technology easy for handset manufacturers, mobile operators and advertisers; and the user experience safe, reliable and interoperable for consumers.
In 2006, we began divesting our non-core businesses in order to focus our efforts on the area that we believe will deliver the most value - our code-reading business and the related intellectual property. In the fourth quarter of 2006, we disposed of two subsidiaries, Mobot and Sponge. During April 2007, we sold the 12Snap business unit and in October 2007, we completed the sale of our Telecom Services business. In November 2007, we sold our Micro Paint Repair business unit. As a consequence of these divestitures, we evaluate our continuing business as one consolidated business. These divestitures were integral to our turnaround plan and the proceeds received from the sale of our non-core business units have been used to continue the development of our code-reading business. A major goal of ours is to provide the industrial and carrier-grade infrastructure to enable reliable, scalable and billable commerce that is customer-focused and drives revenue growth.
During 2008 and early 2009 we have made significant changes to strengthen our management team. In June 2008, Mr. Iain A. McCready became our Chief Executive Officer and Chairman of our Board of Directors; in September 2008, Mr. Michael W. Zima became our Chief Financial Officer and Secretary; in January 2009, Ms. Laura Marriott became a Member of our Board of Directors; and in March 2009, Mr. Dean Wood became our Vice President - Business Development.
During 2009, we have taken steps to build on the developing ecosystem based on the strengths of our patent portfolio. To accomplish this, we have entered into several licensing programs and resolved a significant outstanding legal matter.
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On July 28, 2009, we entered into a non-exclusive patent licensing agreement with Mobile Tag, Inc. for machine readable mobile codes under our patent portfolio. Under the terms of that agreement, we will receive a percentage of revenue generated by Mobile Tag, Inc. through the use and licensing of our patent portfolio.
On October 2, 2009, we entered into a four year agreement with NeuStar, Inc. in which we granted to NeuStar a non-exclusive license to a portion of the Company's patent portfolio primarily for the purpose of establishing and providing registry and clearinghouse services within the field of use and territory. The terms of the License Agreement also grant to NeuStar an exclusive right to grant royalty bearing sub-licenses to the same portion of the Company's patent portfolio within the field of use and territory to resolution authorities for a period of not less than one year, but up to four years depending on the achievement of certain milestones as set forth in the License Agreement. In addition, NeuStar will perform certain reservations, administration, billing & collection and other additional services for the benefit of the Company, NeuStar and the sub-licensees.
On October 7, 2009, we entered into a four year agreement with Brand Extension Mobile Solutions, S.A., a Madrid (Spain) corporation ("BEMS"), in which we granted to BEMS a royalty bearing, and non-exclusive license to use the Licensed Platform in an approved Field of Use within a certain geographical Territory. The Licensed Platform will support BEMS's performance of exclusive commercial operations under a particular cooperation agreement between BEMS and Telef?nica Internacional, S.A.U. ("Telef?nica"). BEMS intends to use the Company as its prime vendor in connection with such agreement with Telef?nica. The License Agreement grants to BEMS the right to distribute the Company's barcode reading software via download or through its inclusion in mobile devices. The License Agreement also requires BEMS to purchase twenty-five of the Company's hardware products to support testing and marketing of barcode and mobile barcode based ticketing and couponing activities.
On October 16, 2009, we entered into a ten year settlement and license agreement with Scanbuy, Inc., in which the Company and Scanbuy settled all of their pending litigation against each other and granted non-exclusive licenses and a sublicense to each other. Pursuant to the terms of the Agreement, the Company granted to Scanbuy a royalty bearing, non-exclusive license to use a portion of the Company's patent portfolio within the field of use and in the territory.
Comparison of the Three and Nine Months Ended September 30, 2009 and 2008
Results of Continuing Operations
Beginning in late 2008 and continuing in 2009, we have taken aggressive steps to control our costs. These efforts have resulted in reduced operating losses in the three months ended September 30, 2009 compared to the three months ended September 30, 2008, of $1.8 million and $2.4 million, respectively, and reduced operating losses in the nine months ended September 30, 2009, compared to the nine months ended September 30, 2008, of $4.9 million and $7.6 million, respectively. However, our loss from continuing operations was $42.1 million during the nine months ended September 30, 2009 compared to $15.2 million during the nine months ended September 30, 2008. The overall loss incurred in the nine months ended September 30, 2009 was primarily the result of net non-cash losses from the change in fair value of our hybrid financial instruments, warrants and debentures, totaling $32.4 million. The net non-cash losses for the three months ended September 30, 2009 totaled $10.7 million. We incurred these net non-cash losses principally as a result of the fluctuations in the market value of our common stock during the three and nine months ended September 30, 2009. During the nine months ended September 30, 2008 we reported net non-cash losses on our hybrid financial instruments, warrants and debentures, totaling $5.4 million. These net non-cash losses were principally the result of fluctuations in the market value of our common stock.
A summary of our net sales for the three and nine months ended September 30, 2009 and 2008 is presented below:
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Three Months Ended September 30, Increase (decrease)
2009 2008 $ %
(in thousands)
Hardware 21 $ 128 (107 ) -84 %
Lavasphere 93 38 55 146 %
Barcode ecosystem 1 - 1 -
Legacy product 67 82 (15 ) -18 %
Patent licensing 6 - 6 -
Other 1 82 (81 ) -99 %
Net Sales $ 189 $ 330 (141 ) -43 %
Nine Months Ended September 30, Increase (decrease)
2009 2008 $ %
(in thousands)
Hardware 449 $ 276 173 63 %
Lavasphere 123 77 46 60 %
Barcode ecosystem 6 - 6 -
Legacy product 212 251 (39 ) -15 %
Patent licensing 16 39 (23 ) -60 %
Other 9 158 (149 ) -95 %
Net Sales $ 815 $ 801 14 2 %
Net Sales - Total revenues decreased $141,000, or 43%, to $189,000 for the three months ended September 30, 2009 from $330,000 for the three months ended September 30, 2008. Total revenues increased $14,000, or 2%, to $815,000 for the nine months ended September 30, 2009 from $801,000 for the nine months ended September 30, 2008. Our net sales and product mix have changed as a result of fluctuations in our operations and as a result of changes in our business strategy. During the three months ended September 30, 2009, our hardware product sales decreased $107,000 or 84%. However, during the nine months ended September 30, 2009, sales of our hardware products increased $173,000 or 63%. During 2009 we introduced our newest model barcode scanners and sold remaining quantities of our older models. Our hardware products tend to be sold in large transactions and can fluctuate significantly among reporting periods. During the three months ended September 30, 2009 our Lavasphere product sales increased $55,000 or 146%, and during the nine months ended September 30, 2009, sales of our Lavasphere product sales increased $46,000 or 60%, both as a result of increased demand for these products and services. During 2009 we introduced our barcode ecosystem products and during the nine months ended September 30, 2009, we have recognized $6,000 of sales revenue for our barcode ecosystem products, as well as $16,000 of sales revenue for the related platform licensing and patent licensing agreements. In succeeding quarters we expect these revenues to increase as we shift the focus of our efforts toward the emerging barcode ecosystem. We believe this focus will deliver the most value in the future. During the three months ended September 30, 2009 we disposed of our legacy software products. However, we retained a share of those products' future revenues. Accordingly, we expect these revenues to continue at reduced levels.
Cost of Sales - Cost of sales was $238,000 for the three months ended September 30, 2009 compared with $377,000 for the three months ended September 30, 2008, a decrease of $139,000, or 37%. Cost of sales was $1,046,000 for the nine months ended September 30, 2009 compared with $983,000 for the nine months ended September 30, 2008, an increase of $63,000, or 6%. Cost of sales for NeoMedia Europe, related to our hardware products, was $2,300 and $135,000 for the three months ended September 30, 2009 and 2008, respectively, and was $336,000 and $250,000 for the nine months ended September 30, 2009 and 2008, respectively. Amortization costs related to our patents, and the proprietary software was $236,000 and $243,000 for the three months ended September 30, 2009 and 2008, respectively, and was $710,000 and $733,000 for the nine months ended September 30, 2009 and 2008, respectively.
Sales and Marketing - Sales and marketing expenses were $149,000 and $711,000 for the three months ended September 30, 2009 and 2008, respectively, a decrease of $562,000 or 79%, and $613,000 and $2.0 million for the nine months ended September 30, 2009 and 2008, respectively, a decrease of $1.4 million or 69%. The decrease in sales and marketing expenses was the result of strict cost controls implemented in mid-late 2008 and further reductions in 2009 compared with 2008.
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General and Administrative - General and administrative expenses were $1.0 million and $1.2 million for the three months ended September 30, 2009 and 2008, respectively, a decrease of $232,000, or 19%, and $2.8 million and $3.8 million for the nine months ended September 30, 2009 and 2008, respectively, a decrease of $1.0 million, or 27%. The decrease in general and administrative expenses was the result of reductions in compensation and travel costs, as well as reductions in professional fees implemented in mid-late 2008 and further reductions in 2009 compared with 2008.
Research and Development - Research and development expenses were $330,000 and $406,000 for the three months ended September 30, 2009 and 2008, respectively, a decrease of $76,000, or 19%, and $1.0 million and $1.6 million for the nine months ended September 30, 2009 and 2008, respectively, a decrease of $619,000, or 38%. The decrease in research and development expenses was the result of reductions in compensation and costs associated with the development of our hardware products, which were completed and launched in late 2008. We have also implemented further cost controls in 2009 compared with 2008.
Impairment of investment - Impairment charges of $261,000 resulted from our review and adjustment in the carrying value of our investment in Sponge Limited. Our investment in Sponge Limited is now fully reserved.
Gain (Loss) from Change in Fair Value of Hybrid Financial Instruments - We carry certain of our convertible debentures at fair value, in accordance with FASB ASC 815-15-25, and do not separately account for the embedded conversion feature. The change in the fair value of these liabilities includes changes in the value of the interest due under these instruments, as well as changes in the fair value of the common stock underlying the instruments. The liability related to these hybrid instruments increased in the three months ended September 30, 2009 resulting in a loss of $7.8 million, and decreased in the three months ended September 30, 2008 resulting in a gain of $1.0 million. The liability related to these hybrid instruments increased in the nine months ended September 30, 2009, resulting in a loss of $7.5 million, and decreased in the nine months ended September 30, 2008 resulting in a gain of $3.7 million. These fair value changes were primarily as a result of the fluctuations in the value of our common stock during the period. Because our stock price has been volatile and because many of our hybrid financial instruments include relatively low fixed conversion prices, it is possible that further increases in the market price of our stock could cause the fair value of our hybrid financial instruments to increase significantly in future periods.
Gain (Loss) from Change in Fair Value of Derivative Liabilities - Warrants - We account for our outstanding common stock warrants that were issued in connection with the preferred stock and our debentures, at fair value. The liability related to warrants decreased in the three months ended September 30, 2009 resulting in a gain of $5.8 million, and increased in the three months ended September 30, 2008 resulting in a loss of $.3 million. The liability related to warrants increased in the nine months ended September 30, 2009, and decreased in the nine months ended September 30, 2008, resulting in a loss of $6.6 million, and a gain of $3.1 million, respectively. These fair value changes were primarily as a result of the fluctuations in the value of our common stock during the period. Because our stock price has been volatile and because many of our warrants include relatively low fixed exercise prices it is possible that further increases in the market price of our common stock could cause the fair value of our warrants to increase significantly in future periods.
Gain (Loss) from Change in Fair Value of Derivative Liabilities - Debentures
- For our Series C convertible preferred stock, and certain of our convertible debentures, we account for the embedded conversion feature separately as a derivative financial instrument. We carry these derivative financial instruments at fair value. The liability related to the derivative instruments embedded in these debentures increased in the three months ended September 30, 2009, and 2008, respectively, resulting in a loss of $8.7 million, and $7.6 million, respectively. The liability related to these derivative instruments and debentures increased in the nine months ended September 30, 2009, and 2008, respectively, resulting in a loss of $18.3 million, and $12.2 million, respectively. These fair value changes were primarily as a result of the fluctuations in the value of our common stock during the period. Because our stock price has been volatile and because many of our derivative financial instruments include relatively low fixed conversion prices, it is possible that further increases in the market price of our common stock could cause the fair value of our derivative financial instruments to increase significantly in future periods.
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Other Interest Expense, net - Other interest expense was $1.1 million, and $.5 million for the three months ended September 30, 2009 and 2008, respectively, a decrease of $.6 million or 120%, and $4.8 million and $2.2 million for the nine months ended September 30, 2009 and 2008, respectively, an increase of $2.6 million or 118% that results from increased financing activities from the second half of 2008 through September 30, 2009. Other interest expense consists of interest charges related to convertible debentures that are not carried at fair value under FASB ASC 815-15-25, interest accrued for creditors as part of financed purchases, past due balances and notes payable, net of interest earned on cash equivalent investments.
Results of Discontinued Operations - In 2007, we discontinued the operations of our Mobot, Sponge, 12Snap, Telecom Services and Micro Paint Repair business units. During the nine months ended September 30, 2008, we recognized a loss of $260,000, primarily attributable to wind-down expenses associated with Micro Paint Repair, 12Snap, and Telecom Services.
Liquidity and Capital Resources
As of September 30, 2009, we had $74,000 in cash and cash equivalents; a decrease of $1.2 million, or 94%, compared with a total of $1.3 million as of December 31, 2008.
Cash used in operating activities decreased to $3.8 million for the nine months ended September 30, 2009 compared with $5.0 million for the period ended September 30, 2008. The decrease in cash used in operations is primarily due to the cost control measures implemented in late 2008 and in 2009.
Cash used in investing activities was $65,000 for the nine months ended September 30, 2009, representing the purchase of equipment. Net cash provided by investing activities was $441,000 for the nine months ended September 30, 2008. This was primarily due to the sale of our remaining ownership of 12Snap, wind-down expenses from discontinued operations, a partial settlement of intercompany loans and cash retained by us from the shut-down of Micro Paint Repair-US which resulted in net proceeds to us of $751,000.
Cash provided by financing activities was $2.7 million for the nine months ended September 30, 2009, which resulted from $2.6 million in convertible debt instruments net of fees from Y.A. Global, and proceeds received upon exercise of stock options by two former employees totaling $116,000. Cash provided by financing activities during the nine months ended September 30, 2008 was $3.7 million, and was the result of additional borrowing activities through convertible debt instruments.
As of September 30, 2009, we had a working capital deficiency of $101.5 million, of which $76.4 million relates to the fair value of hybrid and derivative financial instruments, and $12.2 million relates to the carrying value of debentures carried at amortized cost. These values are significantly greater than the face amount of our debt that would be otherwise due in cash if the conversion feature of these instruments and the warrants did not exist.
Significant Liquidity Events
Going Concern - We have historically incurred net losses and losses from operations and we expect that we will continue to have negative cash flows as we implement our business plan. There can be no assurance that our continuing efforts to execute our business plan will be successful and that we will be able to continue as a going concern. The accompanying consolidated financial statements have been prepared in conformity with US GAAP, which contemplate our continuation as a going concern. Net loss for the nine months ended September 30, 2009 was $42.1 million while net cash used by operations was $3.8 million. We also have an accumulated deficit of $254.7 million and a working capital deficit of $101.5 million as of September 30, 2009, much of which is related to the derivative value of our financing instruments. We also have a continuing obligation as of September 30, 2009 of $4.6 million relating to a purchase price guarantee associated with our prior acquisition of 12Snap (which we subsequently sold).
The items discussed above raise substantial doubts about our ability to continue as a going concern.
We currently do not have sufficient cash to sustain us for the next twelve months. We will require additional financing in order to execute our operating plan and continue as a going concern. Our management's plan is to attempt to secure adequate funding to bridge the commercialization of our barcode ecosystem business. We cannot predict whether this additional financing will be in the form of equity, debt, or another form and we may not be able to obtain the necessary additional capital on a timely basis, on acceptable terms, or at all. We believe that we can obtain additional financing, but in the event that these financing sources do not materialize, or that we are unsuccessful in increasing our revenues and profits, we may be unable to implement our current plans for expansion, repay our debt obligations as they become due or continue as a going concern, any of which circumstances would have a material adverse effect on our business, prospects, financial condition and results of operations.
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YA Global Investments, L.P. ("YA Global") has provided us with financing on a month-to-month basis, totaling $2.6 million, during 2009. YA Global has informed us that they intend to provide additional financing for our operations through the end of 2009. This additional financing has not yet been completed as of the date of this report. If cash received from our customers and licensees is not sufficient to fund our operations we will require additional capital financing from YA Global or from other sources in the future in order to continue as a going concern.
The financial statements in this Form 10-Q do not include any adjustments relating to the recoverability and reclassification of recorded asset amounts or the amounts and classification of liabilities that might be necessary, should we be unable to continue as a going concern.
Sources of Cash and Projected Cash Requirements - As of September 30, 2009, our cash balance was $74,000. NeoMedia's reliance on YA Global as our primary financing source has certain ramifications that could affect future liquidity and business operations. For example, pursuant to the terms of the convertible debenture agreements between us and YA Global, without YA Global's consent we cannot (i) issue or sell any shares of our common stock or our preferred stock without consideration or for consideration per share less than the closing bid price immediately prior to its issuance, (ii) issue or sell any preferred stock, warrant, option, right, contract, call, or other security or instrument granting the holder thereof the right to acquire our common stock for consideration per share less than the closing bid price immediately prior to its issuance, (iii) enter into any security instrument granting the holder a security interest in any of our assets or (iv) file any registration statements on Form S-8. In addition, pursuant to security agreements between us and YA Global, YA Global has a security interest in all of our assets. Such covenants could severely harm our ability to raise additional funds from sources other than YA Global, and would likely result in a higher cost of capital in the event we secured funding.
Additionally, pursuant to the terms of the Investment Agreement between us and YA Global in connection with our Series C convertible preferred stock sale, we cannot (i) enter into any debt arrangements in which we are the borrower, (ii) grant any security interest in any of our assets or (iii) grant any security below market price.
Subsequent Events
NeuStar, Inc., License Agreement - On October 2, 2009, we entered into a four year agreement with NeuStar, Inc., in which we granted to NeuStar a non-exclusive license to a portion of the Company's patent portfolio primarily for the purpose of establishing and providing registry and clearinghouse services within the field of use and territory. The terms of the License Agreement also grant to NeuStar an exclusive right to sub-license that same portion of the Company's patent portfolio within the field of use and territory to resolution authorities for a period of not less than one year, but up to four years depending on the achievement of certain milestones as set forth in the License Agreement. In addition, NeuStar will perform certain reservations, administration, billing & collection and other additional services for the benefit of the Company, NeuStar and the sub-licensees.
Brand Extension Mobile Solutions, S.A ("BEMS") License Agreement - On October 7, 2009, we entered into a four year agreement with Brand Extension Mobile Solutions, S.A., a Madrid (Spain) corporation ("BEMS"), in which we granted to BEMS a non-exclusive license to use the Licensed Platform in an approved field of use within a certain geographical territory. The Licensed Platform will . . .