SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTER ENDED COMMISSION
MARCH 31, 1998 FILE NO. 0-22405
INFORMATION ANALYSIS INCORPORATED
(Exact name of Registrant as specified in its charter)
VIRGINIA 54-1167364
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
11240 WAPLES MILL ROAD, SUITE 400, FAIRFAX, VA 22030
(Address of principal executive offices) (Zip Code)
(Registrant's telephone number,
including area code) (703) 383-3000
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 Registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes x No
---------- ----------
State the number of shares outstanding of each of the issuer's classes of
common stock, as of March 31, 1998:
Common Stock, par value $.01, 6,612,044 shares
Transitional small business disclosure format.
Yes No x .
---------- ----------
INFORMATION ANALYSIS INCORPORATED
FORM 10-QSB
Index
Page
PART I. FINANCIAL INFORMATION Number
Item 1. Financial Statements (Unaudited)
Condensed Consolidated Balance Sheets as of
March 31, 1998 and December 31, 1997 3
Condensed Consolidated Statements of Operations
for the three months and nine months ended
March 31, 1998 and March 31 1997 4
Condensed Consolidated Statements of Cash Flows
for the three months ended March 31, 1998 and
March 31, 1997 5
Notes to Unaudited Condensed Consolidated
Financial Statements 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 7
PART II OTHER INFORMATION
Item 2. Changes in Securities 10
Item 6. Exhibits and Reports on Form 8-K 11
SIGNATURES 11
2
INFORMATION ANALYSIS INCORPORATED AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
As Of
March 31, 1998 As Of
Unaudited December 31, 1997
-------------- -----------------
ASSETS
Current assets:
Cash and cash equivalents $3,355,913 $ 363,753
Accounts receivable, net 5,088,998 3,128,179
Employee advances 86,216 73,513
Refundable income taxes 33,119 33,119
Prepaid expenses 174,862 53,592
Other receivables 47,227 29,167
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Total current assets 8,786,335 3,681,323
Fixed assets, net 863,451 780,442
Equipment under capital leases, net 43,337 49,845
Capitalized software, net 5,206,725 4,431,372
Goodwill -- 12,450
Other receivables 41,656 41,656
Other assets 19,450 19,450
---------- ----------
Total assets $14,960,954 $9,016,538
=========== ==========
LIABILITIES & STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 1,331,047 $1,122,282
Accrued payroll 322,999 660,060
Other accrued liabilities 1,120,229 518,402
Revolving line of credit -- 599,600
Current portion of long-term debt 103,624 103,624
Current maturities of capital lease obligations 18,870 22,960
----------- ---------
Total current liabilities 2,896,769 3,026,928
Long-term debt --
Capital lease obligations, net of current portion 12,421 12,421
----------- ---------
Total liabilities 2,909,190 3,039,349
Common stock, par value $0.01, 15,000,000 shares authorized; 8,116,655 and
7,498,430 shares issued, 6,612,044 and 5,993,819 outstanding at March
31, 1998 and December 31, 1997, respectively 81,167 74,984
Additional paid in capital 12,526,544 6,517,655
Retained earnings 298,366 238,863
Less treasury stock; 1,504,611 shares at cost (854,313) (854,313)
----------- ----------
Total stockholders' equity 12,051,764 5,977,189
----------- ----------
Total liabilities and stockholders' equity $14,960,954 $9,016,538
=========== ==========
See accompanying notes.
3
INFORMATION ANALYSIS INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
For the three months ended
March 31,
--------------------------------
1998
Unaudited 1997
----------- ----------
Sales
Professional fees $2,037,040 $1,498,270
Software sales 2,131,966 63,773
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Total sales 4,169,006 1,562,043
Cost of sales
Cost of professional fees 1,592,662 1,200,507
Cost of software sales 574,921 50,863
---------- ----------
Total cost of sales 2,167,583 1,251,370
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Gross profit 2,001,423 310,673
Selling, general and administrative expenses 1,686,207 579,388
Research & Development 287,753 23,574
---------- ----------
Income (loss) from operations 27,463 (292,289)
Other income (expense) 32,040 (5,074)
---------- ----------
Gain (loss) before provision for income taxes 59,503 (297,363)
Provision (benefit) for income taxes 0 73,728
Net income (loss) $ 59,503 ($371,091)
========== ==========
Earnings per common share
Basic $0.01 ($0.07)
Diluted $0.01 ($0.07)
Weighted average common shares outstanding
Basic 6,497,215 5,007,349
Diluted 8,205,965 5,007,349
See accompanying notes.
4
INFORMATION ANALYSIS INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
For the Three Months Ended
March 31,
-------------------------------
1998
Unaudited 1997
----------- ----------
Net income (loss) $ 59,503 ($371,091)
Adjustments to reconcile net loss to
net cash provided by operating activities:
Depreciation 69,663 39,413
Amortization 26,877 21,584
Software amortization of capitalized software 201,400 3,805
Changes in operating assets and liabilities
Accounts receivable (1,960,819) (190,354)
Other receivables and prepaid expenses (152,033) 40,718
Refundable income taxes -- 2,086
Deferred income taxes -- 71,642
Accounts payable and accrued expenses 291,643 222,200
----------- ----------
Net cash (used) by operating activities ($1,463,766) ($159,997)
----------- ----------
Cash flows from investing activities
Acquisition of furniture and equipment (160,592) (245,564)
Increase in capitalized software (976,753) (483,422)
----------- ----------
Net cash used in investing activities (1,137,345) (728,986)
----------- ----------
Cash flows from financing activities
Net payments under bank revolving line of credit (599,600) --
Principal payments on capital leases (4,090) (3,920)
Net Proceeds from private placement 5,646,685 4,999,995
Proceeds from exercise of warrants 219,989 --
Proceeds from exercise of incentive stock options 148,399 103,686
----------- ----------
Net cash provided by financing activities 5,411,383 5,099,761
----------- ----------
Net increase in cash and cash equivalents 2,810,272 4,210,778
Cash and cash equivalents at beginning of the period 363,753 323,886
Cash and cash equivalents at end of the period $3,174,025 $4,534,664
=========== ==========
Supplemental cash flow Information Interest paid $ 6,092 $ 5,943
See accompanying notes.
5
PART I
ITEM 1. FINANCIAL STATEMENTS.
INFORMATION ANALYSIS, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
BASIS OF PRESENTATION
The accompanying consolidated financial statements have been prepared
by Information Analysis Incorporated ("IAI" or the "Company") pursuant to the
rules and regulations of the Securities and Exchange Commission. Financial
information included herein is unaudited, however, in the opinion of management,
all adjustments (which include normal recurring adjustments) considered
necessary for a fair presentation have been made. Certain information and
footnote disclosures normally included in annual financial statements prepared
in accordance with generally accepted accounting principles have been omitted
pursuant to such rules and regulations, but the Company believes that the
disclosures made are adequate to make the information presented not misleading.
For more complete financial information, these financial statements should be
read in conjunction with the audited financial statements and notes thereto for
the year ended December 31, 1997 included in the Company's annual report on Form
10-KSB. Results for interim periods are not necessarily indicative of the
results for any other interim period or for the full fiscal year.
In January, 1998, the Company, pursuant to Rule 506 of Regulation D
under the Securities Act of 1933, as amended, sold 545,155 shares of its Common
Stock at a price of $11 per share ("the Offering"). The sale of shares was
limited to only accredited investors within the meaning of Regulation D.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION OR PLAN OF OPERATION.
OVERVIEW
Prior to 1997, IAI was primarily dedicated to providing a range of
information technology services such as software applications development,
software conversions, information systems reengineering and systems integration.
In 1996, IAI acquired the rights to a software tool which IAI initially intended
to utilize for systems conversion services as companies seek to migrate from
mainframe legacy systems to more modern day platforms and environments. After
acquiring the rights to this tool, which IAI named UNICAST, IAI recognized that
the tool's functionality was capable of being extended to address the Year 2000
problem currently confronting many computer systems. This problem basically
prevents certain software applications from recognizing dates and executing
transactions involving years subsequent to 1999.
In 1997, IAI's efforts were primarily devoted towards transitioning to
a product and services focus centered around UNICAST. As part of this
transition, in 1997 (i) the Company developed, or commenced the development of,
a family of products to achieve Year 2000 compliancy for specific language
environments, (ii) implemented its own "solutions factory" to provide Year 2000
services on an outsourced basis, (iii) entered into strategic relationships
centered around UNICAST, including a marketing alliance with Computer Associates
International, Inc. ("CA") under which UNICAST is included as part of CA's suite
of Year 2000 tools and licensing and other arrangements with other solutions
providers offering to provide, on an outsourced basis, Year 2000 services and
(iv) expanded the Company's infrastructure to
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meet the anticipated growth which the Company was projecting for its Year 2000
products and services.
It was not until the fourth quarter of 1997 that the Company began to
realize escalating revenues associated with its Year 2000 products and services.
In this quarter, approximately $1.9 million of the $2.9 million of total revenue
was Year-2000-related activity. This revenue base continued to grow in the first
quarter of 1998. See, "Three Months Ended March 31, 1998 vs. Three Months Ended
March 31, 1997." The changes in the Company's business and operations, as above
described, substantially account for the differences in results of operations
between the first quarter of 1998 and the first quarter of 1997. Therefore,
these changes in the Company's business and operations should be noted when
comparing the results of operations between any respective period in 1998 with a
comparable period in 1997.
During the first quarter of FY1998, IAI continued its transition to
Year 2000 products and services. Of the Company's $4.2 million of revenue, $2.0
million was UNICAST/2000 software, and $1.0 million was professional services
for Year 2000 clients. Moreover, the Company had bookings of $5.8 million in the
first quarter and, at the end of the first quarter, is providing Year 2000
services for 17 clients. The Company's profit of $60,000, or $0.01 per share,
was the first since the first quarter of fiscal 1996.
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
This Form 10-QSB contains forward-looking statements regarding the
Company's business, customer prospects, or other factors that may affect future
earnings or financial results that are subject to the safe harbor created by the
Private Securities Litigation Reform Act of 1995. Such statements involve risks
and uncertainties which could cause actual results to vary materially from those
expressed in the forward-looking statements. Investors should read and
understand the risk factors detailed in the Company's 10-KSB for the fiscal year
ended December 31, 1997 and in other filings with the Securities and Exchange
Commission.
THREE MONTHS ENDED MARCH 31, 1998 VERSUS THREE MONTHS ENDED MARCH 31, 1997
Revenue
The Company has substantially changed its business since the first
quarter of 1997 (see "Overview", above). IAI's revenues in the first quarter of
fiscal 1998 were $4.2 million, compared to $1.6 million in the first quarter of
fiscal 1997, an increase of 167%. Professional services revenue was $2.0 million
versus $1.5 million, an increase of 33%, and product revenue was $2.1 million
versus $64,000. The increase in revenue in each of the Company's reporting
segments is attributable to Year 2000 programs in 1998 that were not materially
present in 1997. Product revenue in 1997 was for sale of software not related to
Year 2000 programs.
Going forward, IAI's revenues may be difficult to predict. Because the
Year 2000 market has little prior history, the sales cycle length is not
presently known. Moreover, IAI offers both products and services. Customers that
choose IAI may elect to license the Company's products, which would generate one
level of revenue recognizable in one time period; or utilize IAI's solutions
factory, which would generate a different level of revenue recognizable over a
longer time period. This revenue stream is largely dependent upon the actions of
third parties. As a small company, IAI cannot call on the numerous organizations
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with Year 2000 remediation needs. Instead, IAI has formed alliances, most
notably with CA, to sell IAI's products and services. The Company's internal
sales and marketing organization does make sales calls and does generate
revenue; but devotes the bulk of its resources to leveraging the activities of
third-party sales organizations.
Gross Margins
Gross margins were $2.0 million, or 48% of sales, in the first quarter
of fiscal 1998 versus $0.3 million, or 20% of sales, in the first quarter of
fiscal 1997. Of the $2.0 million in 1998, $1.6 million was attributable to
software and $0.4 million was due to professional services. Gross margins as a
percentage of sales were 73% for software and 22% for professional services. In
the first quarter of 1997, the Company reported gross margins of approximately
20% for both software and professional services. The improvement in overall
gross margin in the first quarter of 1998 was attributable to a higher
percentage of high-margin software product sales, augmented by higher-margin
Year 2000 consulting; businesses which now comprise most of the Company's
revenues. While professional services gross margins as a percentage of sales
were slightly higher than in the comparable period in 1997, the Company believes
its 1998 professional services gross margins were affected by
lower-than-commercial pricing given to customers working with pre-release
("beta") versions of IAI's software.
Going forward, IAI's gross margins for Year 2000 work may not be
consistent from quarter to quarter. IAI is in an extremely competitive market.
The Year 2000 remediation market has attracted a very large number of
participants. Some of these companies are quite large and have substantial
sales, marketing, and R&D resources. Most are small and are seeking to establish
a place in the industry. Certain companies market their solutions very
aggressively and may seek to cut prices as a means of gaining market share,
which could affect the Company's pricing strategy. Conversely, the Company
believes that, as the year 2000 approaches, available resources may be
insufficient to meet demand, which could drive up the cost and profitability of
such services.
Selling, General and Administrative
Selling, general and administrative expenses (SG&A) were $1.7 million,
or 40.4% of revenues, in the first quarter of 1998 versus $0.6 million, or 37.1%
of revenues, in the first quarter of 1997, an increase of 191%. The increase is
attributable to the Company's increase in spending to support expected growth.
The Company believes that SG&A expense will decline as a percentage of revenue
as sales increase.
Research and Development
Research and Development (R&D) expenditures were $0.3 million in the
first quarter of fiscal 1998 versus $24,000 in the first quarter of fiscal 1997.
The increase is due to higher software maintenance expenses in 1998. The Company
had no Year 2000 software in general release in the first quarter of 1997. In
addition to reported R&D expenditures, IAI capitalized $0.7 million of software
development cost in the first quarter of 1998 and $0.5 million in the first
quarter of 1997. The increase was attributable to the Company developing
software for multiple languages in 1998 versus development on one language in
1997.
Profits
The Company generated an operating profit of $28,000 in the first
quarter of 1998 compared to a loss of $0.3 million in the first quarter of 1997.
In general, the profit reflected a substantial improvement in gross margins and
higher sales, which were offset in part by higher
8
spending for SG&A and R&D. Other income of $32,000 came from interest on
deposited funds, and was in contrast to an expense of $5,000 in the year-earlier
period based on borrowings against the Company's line of credit. Because of a
net operating loss carryforward, the Company did not accrue for income taxes in
the first quarter of 1998.
LIQUIDITY AND CAPITAL RESOURCES
In the first quarter of 1998, the Company financed its operations from
current collections and through proceeds obtained in a private placement, which
yielded net proceeds of $5.6 million. As of March 31, 1998 the Company had no
outstanding balance on its line of credit. Cash and cash equivalents at March
31, 1998 were $3,355,913, compared to $4,534,664 at March 31, 1997.
The Company's line of credit of $1,500,000 expires June 19, 1998 at
which time it is subject to renewal. The Company believes its line of credit,
coupled with funds generated from operations and proceeds from the private
placement, should be sufficient to meet IAI's operating cash requirements for
the foreseeable future. However, the Company may from time to time consider
raising additional equity.
The Company has no material commitments for capital expenditures.
PART II - OTHER INFORMATION
ITEM 2. CHANGE IN SECURITIES.
(a) In January, 1998, the Company, pursuant to Rule 506 of Regulation D under
the Securities Act of 1933, as amended, sold 545,155 shares of its Common Stock
at a price of $11 per share ("the Offering"). The sale of shares was limited to
only accredited investors within the meaning of Regulation D. Each purchaser in
the Offering was required to certify to their respective level of assets, net
worth or income to qualify as an accredited investor. Fifteen institutional
investors purchased 388,246 shares and 15 individuals purchased 156,909 shares
in the Offering.
For the Offering, the Company used the services of Newby & Company of
Rockville, Maryland ("Newby") and Cruttenden & Roth, Inc. of Irvine, California
("Cruttenden") to assist in the placement of shares. Commissions were paid to
Newby in the form of 12,886 shares of Common Stock and $350,020 to Cruttenden,
of which Cruttenden invested $100,001 to acquire 9,091 shares of Common Stock in
the Offering.
9
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) See the Index to Exhibits attached hereto.
(b) No reports on Form 8-K were filed for the quarter for which this report is
filed.
SIGNATURES
In accordance with the requirements of the Exchange Act of 1934, the registrant
caused this report to be signed on its behalf by the undersigned thereunto duly
authorized.
Information Analysis Incorporated
(Registrant)
Date: May 11, 1998 By: /s/ Sandor Rosenberg
____________ _________________________________
Sandor Rosenberg, Chairman of the
Board and President
By: /s/ Richard S. DeRose
_________________________________
Richard S. DeRose, Executive Vice
President and Treasurer
INDEX TO EXHIBITS
EXHIBIT NO. DESCRIPTION
10.1 Amended Royalty Agreement between James C.
Wester and the Company in exchange for
development expense advances.
10.2 Amended Software Purchase Agreement between
Kenneth K. Parsons and the Company for the
purchase of CAST software.
10.3 Office lease for 19,357 square feet at 3877
Fairfax Ridge Road, Fairfax, Virginia
27.1 Financial Data Schedule
11