UNITED STATES

SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549

 

FORM 10-Q

 

Mark One)

x

Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended January 31, 2013.

 

OR

 

¨

Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the transition period from                                          to                                         

 

Commission File Number 0-18275

 

ITEX CORPORATION

(Exact name of registrant as specified in its charter)

 

Nevada		93-0922994
(State or other jurisdiction of incorporation or organization)		(IRS Employer Identification No.)

 

3326 160th Ave SE, Suite 100, Bellevue, WA 98008-6418

 (Address of principal executive offices)

 

(425) 463-4000

(Registrant’s telephone number including area code)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x  No ¨

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x  No ¨

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

¨	Large accelerated filer		¨	Accelerated filer
¨	Non-accelerated filer		x	Smaller reporting company
(Do not check if a smaller reporting company)

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x

 

As of January 31, 2013, we had 2,942,675 shares of common stock outstanding (including unvested restricted stock).

 

 

ITEX CORPORATION

FORM 10-Q

 

INDEX 

 

		Page(s)
PART  I.	Financial Information
ITEM 1.	Financial Statements
	Consolidated Balance Sheets as of January 31, 2013 (unaudited) and July 31, 2012	1
	Consolidated Statements of Income for the Three and Six-Months Ended January 31, 2013 and 2012 (unaudited)	2
	Consolidated Statement of Stockholders’ Equity for the Six-Months Ended January 31, 2013 (unaudited)	3
	Consolidated Statements of Cash Flows for the Six-Months Ended January 31, 2013 and 2012 (unaudited)	4
	Notes to Consolidated Financial Statements (unaudited)	5
ITEM 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	10
ITEM 4T.	Controls and Procedures	33
PART II.	Other Information	33
ITEM 1.	Legal Proceedings	33
ITEM 2.	Unregistered Sales of Equity Securities	34
ITEM 6.	Exhibits	34
	Signatures	35

 

 

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

 

ITEX CORPORATION

CONSOLIDATED BALANCE SHEETS

(in thousands, except par value)

 

		January 31, 2013				July 31, 2012
		(unaudited)
ASSETS
Current assets:
Cash		$	2,461			$	1,942
Accounts receivable, net of allowance of $265 and $319			1,012				716
Prepaid expenses			120				98
Loans and advances			27				12
Prepaid advertising credits			-				3
Deferred tax asset, net of allowance of $23 and $23			603				603
Notes receivable			341				334
Other current assets			75				47
Total current assets			4,639				3,755
Property and equipment, net of accumulated depreciation of $419 and $425			43				43
Goodwill			3,191				3,191
Deferred tax asset, net of allowance of $163 and $163, and net of current portion			3,984				4,293
Intangible assets, net of accumulated amortization of $3,063 and $2,945			365				525
Notes receivable, net of current portion			1,173				1,285
Other long-term assets			17				19
Total assets			13,412				13,111
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts and other expenses payable			152				85
Commissions payable to brokers			-				654
Accrued commissions to brokers			1,305				842
Accrued expenses			357				412
Deferred revenue			22				32
Advance payments			97				136
Notes payable			7				-
Total current liabilities			1,940				2,161
Long-term liabilities:
Other long-term liabilities			8				10
Notes payable, net of current portion			6				-
Total long-term liabilities			14				10
Total Liabilities			1,954				2,171
Stockholders’ equity:
Common stock, $0.01 par value; 9,000 shares authorized; 2,616 shares and 2,614 shares issued and outstanding, respectively			26				26
Additional paid-in capital			25,278				25,183
Stockholder notes receivable			(437	)			(489	)
Accumulated deficit			(13,409	)			(13,780	)
Total stockholders' equity			11,458				10,940
Total liabilities and stockholders’ equity		$	13,412			$	13,111

 

The accompanying notes are an integral part of these consolidated financial statements.

 

 

ITEX CORPORATION

CONSOLIDATED STATEMENTS OF INCOME

(In thousands, except per share amounts) 

 

		Three-months Ended January 31,								Six-months Ended January 31,
		2013				2012				2013				2012
Revenue:
Marketplace revenue and other revenue		$	3,960			$	4,229			$	7,671			$	8,199
Costs and expenses:
Cost of Marketplace revenue			2,551				2,808				4,912				5,318
Corporate salaries, wages and employee benefits			477				503				961				972
Selling, general and administrative			368				558				836				1,221
Depreciation and amortization			65				77				131				165
			3,461				3,946				6,840				7,676
Income from operations			499				283				831				523
Other income/(expense)
Interest, net			30				31				61				51
Other income/(expense), net			(2	)			312				-				312
			28				343				61				363
Income before income taxes			527				626				892				886
Income tax expense			169				202				286				302
Net income		$	358			$	424			$	606			$	584
Net income per common share:
Basic		$	0.14			$	0.12			$	0.23			$	0.16
Diluted		$	0.14			$	0.12			$	0.23			$	0.16
Weighted average shares outstanding:
Basic			2,615				3,635				2,616				3,641
Diluted			2,616				3,636				2,617				3,642

 

The accompanying notes are an integral part of these consolidated financial statements.

 

 

ITEX CORPORATION

CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY

FOR THE SIX-MONTHS ENDED JANUARY 31, 2013

(In thousands)

(Unaudited)

 

		Common Stock								Additional Paid-in				Stockholder Notes				Accumulated
		Shares				Amount				Capital				Receivable				Deficit				Total
Balance at July 31, 2012			2,614			$	26			$	25,183			$	(489	)		$	(13,780	)		$	10,940
Payments on stockholder notes receivables															52								52
Stock based compensation expense			9								121												121
Common Stock repurchased and retired			(7	)							(26	)											(26	)
Dividend Payment																			(235	)			(235	)
Net income																			606				606
Balance at January 31, 2013			2,616			$	26			$	25,278			$	(437	)		$	(13,409	)		$	11,458

 

The accompanying notes are an integral part of these consolidated financial statements.

 

 

ITEX CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

 

(Unaudited)

		Six-months ended January 31,
		2013				2012
		(unaudited)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income		$	606			$	584
Items to reconcile to net cash provided by operations:
Depreciation and amortization			131				165
Stock based compensation			121				152
Decrease in allowance for uncollectible receivables			(54	)			(13	)
Change in deferred income taxes			309				307
Gain on sale of assets			(4	)			(318	)
Loss on disposal of equipment			4				6
Changes in operating assets and liabilities:
Accounts receivable			(242	)			(179	)
Prepaid expenses			(23	)			38
Loans and advances			(13	)			(51	)
Prepaid advertising credits			3				40
Other assets			(27	)			(10	)
Accounts payable			65				76
Commissions payable to brokers			(654	)			(276	)
Accrued commissions to brokers			464				502
Accrued expenses			(54	)			(42	)
Deferred revenue			(10	)			(15	)
Other long-term liabilities			(1	)			2
Advance payments			(39	)			(15	)
Net cash provided by operating activities			582				953
CASH FLOWS FROM INVESTING ACTIVITIES:
Membership list purchase			45				(175	)
Proceeds from note payable			15				-
Payments on note payable			(2	)
Purchase of property and equipment			(17	)			(13	)
Payments received from notes receivable			181				106
Advances on Loans			(76	)			(104	)
Net cash provided by (used in) investing activities			146				(186	)
CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments on Broker notes receivable			52				47
Repurchase of Common stock			(26	)			(69	)
Cash dividend paid to Common Shareholders			(235	)			(324	)
Net cash used in financing activities			(209	)			(346	)
Net increase in cash			519				421
Cash at beginning of period			1,942				5,386
Cash at end of period		$	2,461			$	5,807
Supplemental cash flow information:
Cash paid for taxes		$	5			$	42
Non-Cash activities:
Notes for asset sales			-				470

 

The accompanying notes are an integral part of these consolidated financial statements.

 

 

ITEX CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 

NOTE 1 –SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

(In thousands, except per share amounts)

 

Description of the Company

 

ITEX Corporation (“ITEX”, “Company”, “we” or “us”) was incorporated in October 1985 in the State of Nevada. Through our independent licensed broker and franchise network, corporate and corporate-owned offices (individually, “broker,” and together the “Broker Network”) in the United States and Canada, we operate a leading exchange for cashless business transactions (the “Marketplace”) where products and services are exchanged for “currency” only usable in the Marketplace (“ITEX dollars”). We administer the Marketplace and act as a third-party record-keeper for our members’ transactions.

 

Unaudited Interim Financial Information

 

We have prepared the accompanying consolidated financial statements pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”) for interim financial reporting. These consolidated financial statements are unaudited and, in our opinion, include all adjustments, consisting of normal recurring adjustments and accruals necessary for a fair presentation of our consolidated balance sheets, operating results, and cash flows for the periods presented. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) have been omitted in accordance with the rules and regulations of the SEC. The preparation of financial statements in conformity with GAAP requires management to make certain estimates and assumptions that affect the reported amount of assets and liabilities and the disclosure of contingent liabilities as the date of the financial statements and the reported amount of revenue and expenses during the reporting period. These consolidated financial statements should be read in conjunction with the audited consolidated financial statements and accompanying notes in Item 8 of Part II, “Financial Statements and Supplementary Data,” of our 2012 Annual Report on Form 10-K filed with the SEC on October 23, 2012.

 

Principles of Consolidation

 

The consolidated financial statements include the accounts of ITEX Corporation and its wholly owned subsidiary, BXI Exchange, Inc. All inter-company accounts and transactions have been eliminated in consolidation.

 

Use of Estimates

 

Management has made a number of estimates and assumptions relating to the reporting of revenues, expenses, assets and liabilities and the disclosure of contingent assets and liabilities to prepare these consolidated financial statements. Actual results could differ from these estimates.

 

 

Income per Share

 

We prepare our financial statements on the face of the income statement for both basic and diluted earnings per share. Basic earnings per share excludes potential dilution and is computed by dividing income available to common stockholders by the weighted-average number of common shares outstanding for the period. Diluted earnings per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the entity. As of January 31, 2013, we had no contracts to issue common stock, but we did have 20 warrants outstanding that were anti-dilutive. The Company also has 5 unvested shares of restricted stock that are dilutive and 328 unvested shares of restricted stock that are anti-dilutive as of January 31, 2013.

 

The following table presents a reconciliation of the denominators used in the computation of net income per common share basic and net income per common share – diluted for the three and six-month periods ended January 31, 2013 and 2012 (in thousands, except per share data) (unaudited):

 

		Three-months Ended January 31,								Six-months Ended January 31,
		2013				2012				2013				2012
Net income available for shareholders		$	358			$	424			$	606			$	584
Weighted avg. outstanding shares of common stock			2,615				3,635				2,616				3,641
Dilutive effect of restricted shares			1				1				1				1
Common stock and equivalents			2,616				3,636				2,617				3,642
Earnings per share:
Basic		$	0.14			$	0.12			$	0.23			$	0.16
Diluted		$	0.14			$	0.12			$	0.23			$	0.16

 

Recent Accounting Pronouncements

 

There have been no recent accounting pronouncements or changes in accounting pronouncements during the six-months ended January 31, 2013, as compared to the recent accounting pronouncements described in the Company’s Annual Report on Form 10-K, that are of significance, or potential significance to the Company.

 

NOTE 2 – COMMITMENTS

 

The Company leases office space under operating leases. The lease commitment is for the Company’s corporate headquarters in Bellevue, Washington. The corporate headquarters lease expires on April 30, 2015.

 

 

Future minimum payments at January 31, 2013 under operating leases, for office space were as follows (in thousands):

 

		Executive office
Location:		Bellevue, WA
Expiration date:		April 30, 2015
Lease commitments for the year ending July 31,
2013(1)			82
2014			166
2015			127
Total		$	375

 

(1)

The expected payments for 2013 reflect future minimum payments for the six-month period from February 1, 2013 to July 31, 2013.

 

Rent expense, including utilities and common area charges, was $49 and $60, respectively for the three-month periods ended January 31, 2013 and 2012. Rent expense was $91 and $130 for the six-month periods ended January 31, 2013 and 2012.

 

In addition to the foregoing lease commitments, the Company is a party to several non-cancelable and non-refundable purchase commitments. Those purchase obligations consist primarily of arrangements for telecommunications and co-location services for the Company’s network operations.

 

Future minimum payments at January 31, 2013 under the non-cancelable commitments were as follows (in thousands):

 

Year ending July 31,
2013 (1)			10
2014			10
Total		$	20

 

 

(1)

The expected payments for 2013 reflect future minimum payments for the six-month period from February 1, 2013 to July 31, 2013.

 

NOTE 3 – LEGAL PROCEEDINGS AND LITIGATION CONTINGENCIES

 

In September 2011, a lawsuit was filed by one of the Company’s shareholders against our directors, and also ITEX as a nominal defendant, alleging shareholder derivative claims and seeking unspecified damages, costs and attorney’s fees (David Polonitza v. Steve White, Eric Best and John Wade and ITEX Corporation as a nominal defendant, King County Superior Court for the State of Washington, Case No. 11-2-30760-3). At a hearing held on December 28, 2012, the King County Superior Court approved a settlement agreement reached between the individual defendants, and the plaintiff, and dissolved the injunction that had delayed certification of the 2012 annual shareholders’ meeting election results. A judgment dismissing the lawsuit with prejudice and dissolving the injunction was entered on December 28, 2012. Under the terms of the settlement agreement approved by the Court, we will implement certain corporate governance measures and our insurer will pay a portion of the attorneys’ fees and costs of plaintiff’s counsel.

 

 

All parties to the litigation received a full and complete release of all claims asserted or that could have been asserted against them in the litigation. The judgment became final on January 28, 2013.

 

Management has regular litigation reviews, including updates from outside counsel, to assess the need for accounting recognition or disclosure of contingencies relating to pending lawsuits. The Company accrues an undiscounted liability for those contingencies where the incurrence of a loss is probable, and the amount can be reasonably estimated. The Company does not record liabilities when the likelihood that the liability has been incurred is probable but the amount cannot be reasonably estimated or when the liability is believed to be only reasonably possible or remote. For contingencies where an unfavorable outcome is reasonably possible and which are significant, the Company discloses the nature of the contingency and, where feasible, an estimate of the possible loss. For purposes of our litigation contingency disclosures, “significant” includes material matters as well as other items which management believes should be disclosed.

 

Management judgment is required related to contingent liabilities and the outcome of litigation because both are difficult to predict. Litigation is subject to inherent uncertainties and unfavorable rulings could occur. Although management currently believes resolving the foregoing proceeding will not have a material adverse impact on our financial statements, management’s view of these matters may change in the future. A material adverse impact on our financial statements could occur for the period in which the effect of an unfavorable final outcome becomes probable and reasonably estimable.

 

From time to time we are subject to a variety of claims and litigation incurred in the ordinary course of business. In our opinion, the outcome of other pending legal proceedings, individually or in the aggregate, will not have a material adverse effect on our business operations, results of operations, cash flows or financial condition.

 

NOTE 4 – INCOME TAXES

 

Income tax expense during interim periods is based on applying an estimated annual effective income tax rate to year-to-date income, plus any significant unusual or infrequently occurring items which are recorded in the interim period. The provision for income taxes for the three and six-months ended January 31, 2013 and 2012 differs from the amount that would be provided by applying the statutory U.S. federal income tax rate of 35% to pre-tax income primarily because of state income taxes, estimated permanent differences and change in valuation allowance.

 

The Federal effective tax rate related to our provision for income taxes in the three and six-months ended January 31, 2013 is similar to that used in the similar periods ending January 31, 2012. The State effective tax rate related to our provision for income taxes in the three and six-months ended January 31, 2013 is lower to that used in the three and six-month periods ending January 31, 2012, due to the resolution of certain state tax positions which led to a reduction in the accrued expenses on our consolidated balance sheet for uncertain tax positions related primarily to state jurisdictions.

 

The computation of the annual estimated effective tax rate at each interim period requires certain estimates and significant judgment including, but not limited to, the expected operating income for the year, projections of the proportion of income earned and taxed in various jurisdictions, permanent and temporary differences, and the likelihood of recovering deferred tax assets generated in the current year. The accounting estimates used to compute the provision for income taxes may change as new events occur, more experience is obtained, additional information becomes known or as the tax environment changes.

 

 

As of January 31, 2013 we have recognized a net income tax expense of $286 which is our estimated federal and state income tax liability for the six-months ended January 31, 2013 net of the impairment of certain state deferred tax assets recorded during 2011 and 2012. Realization of our deferred tax asset is dependent upon future earnings in specific tax jurisdictions, the timing and amount of which are uncertain.

 

We account for any uncertainty in income taxes by recognizing the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. We measure the tax benefits recognized in the financial statements from such a position based on the largest benefit that has a greater than 50% likelihood of being realized upon ultimate resolution. The application of income tax law is inherently complex. As such, we are required to make subjective assumptions and judgments regarding income tax exposures. The result of the reassessment of our tax positions did not have an impact on the consolidated financial statements.

 

		Three-Months ended January 31																Six-months ended January 31,
		2013								2012								2013								2012
		Amount				Rate				Amount				Rate				Amount				Rate				Amount				Rate
Expected tax provison at federal statutory rate		$	183				35	%		$	216				35	%		$	309				35	%		$	307				35	%
State income taxes			(14	)			-3	%			(14	)			-3	%			(23	)			-3	%			(5	)			-1	%
Provision for income taxes		$	169				32	%		$	202				32	%		$	286				32	%		$	302				34	%

 

NOTE 5 – STOCKHOLDERS’ EQUITY (in thousands, except per share amounts)

 

On March 16, 2012, the Company commenced a partial tender offer to purchase up to 1,000 shares of its common stock, at a price of $4.20 per share. The tender offer expired on April 13, 2012. Based on the final tabulation by OTR, Inc., the depositary for the tender offer, approximately 1,238 shares of ITEX common stock were properly tendered and not withdrawn and not excluded because tendered conditionally. ITEX accepted for purchase 1,073 shares of its common stock, including all “odd lots” properly tendered, at a purchase price of $4.20 per share, for an aggregate cost of $4,506, excluding fees and expenses relating to the tender offer. The total number of shares purchased in the tender offer included an additional 73 shares acquired pursuant to ITEX’s right to increase the number of shares purchased by no more than two percent of its outstanding shares, without amending or extending the tender offer. The shares purchased in the tender offer represented approximately 26.5% of ITEX’s outstanding common shares (including shares of unvested restricted stock).

 

The Company has 5,000 shares of preferred stock authorized at $0.01 par value. No shares were issued or outstanding as of January 31, 2013.

 

On March 9, 2010, the Company announced a $2,000 stock repurchase program, authorized by the Board of Directors. The program authorizes the repurchase of shares in open market purchases or privately negotiated transactions, has no expiration date and may be modified or discontinued by the Board of Directors at any time. During the six-month period ended January 31, 2013 and 2012, the Company repurchased 7 and 17 shares of common stock for $26 and $69, respectively.

 

 

NOTE 6 – STOCK-BASED PAYMENTS (in thousands, except per share amounts)

 

In February 2011, the Board of Directors of the Company approved an amendment to the 2004 Equity Incentive Plan, as amended and restated (the “Plan”), to authorize 400 shares of the Company’s common stock that may be delivered pursuant to awards granted under the Plan. 23 shares remained available for future grants under the 2004 Plan as of January 31, 2013.

 

We account for stock-based compensation in accordance with the related guidance. Under the fair value recognition provisions, we estimate stock-based compensation cost at the grant date based on the fair value of the award. We recognize that expense ratably over the requisite service period of the award.

 

In November 2012, the Company issued 5 restricted shares to a newly elected outside director, valued at the grant date stock price of $3.30 per share, with a vesting period of one year from the date of grant. The grant is to be amortized to compensation expense over a period of one year.

 

At January 31, 2013, 333 shares of common stock granted under the 2004 Plan remained unvested. At January 31, 2013, the Company had $1,155 of unrecognized compensation expense, expected to be recognized over a weighted-average period of approximately six and a quarter years.

 

NOTE 7 – SUBSEQUENT EVENTS

 

On February 26, 2013, the Board of Directors declared a cash dividend in the amount of $0.05 per share, payable on March 20, 2013 to stockholders of record as of the close of business on March 11, 2013.

 

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (in thousands, except per share amounts)

 

In addition to current and historical information, this Quarterly Report on Form 10-Q contains forward-looking statements. These statements relate to our future operations, prospects, potential products, services, developments, business strategies or our future financial performance. Forward-looking statements reflect our expectations and assumptions only as of the date of this report and are subject to risks and uncertainties. Actual events or results may differ materially. We have included a detailed discussion of certain risks and uncertainties that could cause actual results and events to differ materially from our forward-looking statements in the section titled “Risk Factors” below. We undertake no obligation to update or revise publicly any forward-looking statement after the date of this report, whether as a result of new information, future events or otherwise.

 

 

Overview

 

ITEX, The Membership Trading Community^SM, is a leading exchange for cashless business transactions across North America (the “Marketplace”). We service our member businesses through our independent licensed brokers and franchise network (individually, “broker” and together, the “Broker Network”) in the United States and Canada. Our business services and payment systems enable approximately twenty-three thousand five hundred member businesses (our “members”) to trade products and services without exchanging cash. These products and services are instead exchanged for ITEX dollars which can only be redeemed in the Marketplace (“ITEX dollars”). We administer the Marketplace and act as a third-party record-keeper for our members’ transactions. We generate revenue by charging members percentage-based transaction fees, association fees, and other fees assessed in United States dollars and Canadian dollars where applicable (collectively and as reported on our financial statements, “USD” or “Cash”).

 

For each calendar year, we divide our operations into 13 four-week billing and commission cycles always ending on a Thursday (“operating cycle”). For financial statement purposes, our fiscal year is from August 1 to July 31 (“year”, “2013” for August 1, 2012 to July 31, 2013, “2012” for August 1, 2011 to July 31, 2012). Our second quarter is the three-month period from November 1, 2012 to January 31, 2013 (“three-month period ended January 31”). The Company’s first six months is from August 1, 2012 to January, 31, 2013. We report our results as of the last day of each calendar month (“accounting cycle”). The timing of billing and collection activities after the end of the billing cycle does not correspond with the end of the accounting period, therefore this timing difference results in the fluctuations of the balances of cash, accounts receivable, commissions payable and accrued commissions on the consolidated balance sheet and consolidated statement of cash flows.

 

Each operating cycle we generally charge our members association fees of $20 USD ($260 USD annually) and $10 ITEX dollars ($130 ITEX dollars annually). We also charge transaction fees in USD from both the buyer and seller computed as a percentage of the ITEX dollar value of the transaction.

 

The following summarizes our operational and financial highlights for the quarter and our outlook (in thousands except per share data):

 

Comparative Results. For the three-months ended January 31, 2013, as compared to the three-months ended January 31, 2012, our revenue decreased by $269, or 6%, from $4,229 to $3,960, however our income from operations increased by $216, or 76%, from $283 to $499. For the six-month period ended January 31, 2013, as compared to the six-month period ended January 31, 2012, our revenue decreased by $528, or 6%, from $8,199 to $7,671 and our income from operations increased by $308, or 59%, from $523 to $831.

 

Revenue Sources. Our decrease in revenues for the three and six-months ended January 31, 2013 was attributable to a comparative reduction in our transaction volume and a reduction in our membership base. Our primary customers are small businesses with less than ten employees. We believe this segment of the business community is vulnerable in a difficult economic environment, with strained or insufficient cash flow being a major impediment to growth.

 

·

Corporate-owned Offices. As of October 31, 2012, the ITEX Marketplace was 100% broker managed with no corporate-owned locations. As a general operating philosophy, we depend on the ability of our brokers to enroll new members, train them in the use of the Marketplace, grow our transactional volume by facilitating business among members, manage member relationships, provide members with information about ITEX products and services, and assure the payment of our dues and fees. Our broker model requires less capital investment and lower operating expenses than if we operated the offices in our network directly. From time to time, we complement our Broker Network with corporate-owned locations, acquired either as a result of business acquisitions or as a result of ensuring the orderly transition of broker locations. Part of our strategy when we acquire exchange members is to incubate the asset with corporate direction and assistance, flush out non-performing members, synchronize fee plans, and then transfer certain management rights to these members to new or existing franchisees, with the contractual rights and revenues generated by these members remaining with ITEX. The result is a wider member base, managed by new franchisees, and a member list asset that continues to be owned by ITEX.

 

 

·

Revenue Trends and Growth. As discussed above, we experienced a downturn in revenue this quarter due to the reduction in transaction volume and the number of members. In addition to a difficult economic environment for our business members, we believe revenues were adversely affected, in part, by the distraction and disruption caused by a recently concluded proxy contest for control of the Company and related litigation (See Note 3 ― “Legal Proceedings and Litigation Contingencies” included in the “Notes to Consolidated Financial Statements”). Although we seek to increase revenues through organic growth and the development of new revenue sources, the primary driver of revenue growth in recent years has been through our business acquisitions. These acquisitions are intermittent and cannot be relied upon as a future source of revenue growth, because of the absence of acquisition candidates, lack of financing, or unacceptable terms. We have approximately 30% recurring revenues from fixed association fees. Approximately two-thirds of our net revenues each quarter come from variable transaction fees. We continue to work to expand our membership base which we expect will increase recurring and transactional revenues. We seek to increase our revenue by:

 

·

enhancing our internet applications;

·

marketing the benefits of participation in the Marketplace;

·

adding new brokers.

 

Adding new brokers is an important component of our overall growth plan, and we are increasing our broker recruiting efforts. One recruitment program which has achieved some success is our Broker Mentor program, in which existing brokers recruit prospective brokers and provide ongoing training to the prospective broker until certain performance thresholds are met. Upon meeting the performance thresholds, the prospective broker is offered a franchise for a reduced fee of $5 from our standard broker fee of $20. The mentoring broker receives a 5% commission override on the cash collected per cycle by the new broker. We added four new brokers during the six-month period ended January 31, 2013.

 

·

Supporting Members, Brokers and Employees. We continually enhance our internet applications and web services to make our online services more user friendly to our employees, brokers and members, and to create confidence in the Marketplace. We are in the process of upgrading our payment processing and team software with .NET technologies.

 

·

Geographical expansion. We have acquired eight trade exchange membership lists since 2005 and integrated them into the ITEX system. The acquisitions have contributed to our member counts and revenue and allowed us to expand the breadth of our network by opening offices in several geographic areas in which the ITEX presence was previously weak or nonexistent. In addition, we removed competitors from our industry, strengthening our brand. Part of our strategy when we acquire an exchange’s members has been to distribute members to existing franchisees or spin off to new franchisees. We continue to evaluate and consider other potential strategic transactions, if and when such opportunities arise.

 

 

·

Financial Position. At January 31, 2013, we had a cash balance of $2,461, compared to a balance of $1,942 at July 31, 2012. Our net cash flows provided by operating activities were $582 for the six-month period ended January 31, 2013, compared to $953 for the corresponding period the previous year. Our business model has demonstrated the ability to generate consistent cash flows, which have historically supplied us with our primary source of liquidity. We have sought to maintain a liquidity cushion sufficient to fund our business activities and cash commitments and handle contingencies, while preserving the ability to return cash to our stockholders through sustainable quarterly dividends and share buybacks. However, our Board of Directors may decide to use capital for acquisitions, revenue generating opportunities or other corporate purposes. See Risk Factor below “Our ability to pay dividends on our common stock is subject to the discretion of our Board of Directors and may be limited by our lack of liquidity or access to capital.”

 

RESULTS OF OPERATIONS

 

Condensed Results (in thousands, except per share data):

 

		Three-months ended January 31,								Six-months ended January 31,
		2013				2012				2013				2012
Revenue		$	3,960			$	4,229			$	7,671			$	8,199
Cost of marketplace revenue		$	2,551			$	2,808			$	4,912			$	5,318
Operating expenses			910				1,138				1,928				2,358
Income from operations			499				283				831				523
Other income,net			28				343				61				363
Income before income taxes			527				626				892				886
Income tax expense			169				202				286				302
Net income		$	358			$	424			$	606			$	584
Net income per common share:
Basic		$	0.14			$	0.12			$	0.23			$	0.16
Diluted		$	0.14			$	0.12			$	0.23			$	0.16
Average common and equivalent shares:
Basic			2,615				3,635				2,616				3,641
Diluted			2,616				3,636				2,617				3,642

 

Revenue for the three-months ended January 31, 2013, as compared to the corresponding period of fiscal 2012 decreased by $269, or 6%. Revenue for the six-month period ended January 31, 2013, as compared to the corresponding six-month period of fiscal 2012, decreased by $528, or 6%. The decrease in revenues for the three and six-months ended January 31, 2013 was from a reduction in transaction volume along with a reduction in the number of association members.

 

Cost of Marketplace revenue which includes association and transaction commissions paid to brokers, corporate-owned office expense and other Marketplace related expenses decreased by $257, or 9% for the three-month period ended January 31, 2013, compared to the corresponding period of fiscal 2012. Cost of Marketplace revenue decreased by $406, or 8% for the six-month period ended January 31, 2013, compared to the corresponding period of fiscal 2012. The cost of Marketplace revenue decreases were in line with the corresponding decrease in association and transaction revenues.

 

 

Operating expenses which include corporate salaries, wages and employee benefits, selling, general and administrative, depreciation and amortization decreased by $228, or 20% for the three-months ended January 31, 2013, compared to the corresponding period of fiscal 2012. Operating expenses decreased by $430, or 18% for the six-month period ended January 31, 2013, compared to the corresponding period of fiscal 2012.

 

The decrease in operating expenses in the three-months ended January 31, 2013, as compared to the corresponding period of fiscal 2012, resulted from a $26 decrease in corporate salaries, wages and benefits, $190 decrease in selling, general and administrative expense and a decrease of $12 in depreciation and amortization.

 

The primary decrease in operating expenses in the six-month period ended January 31, 2013, as compared to the corresponding period of fiscal 2012, resulted from a $385 decrease in selling, general and administrative expenses. In addition, there was an $11 decrease in corporate salaries, wages and benefits and depreciation and amortization also decreased by $34.

 

Income from operations for the three-months ended January 31, 2013, as compared to the corresponding quarter of fiscal 2012, increased by $216, or 76%. Income from operations for the six-month period ended January 31, 2013, as compared to the corresponding period of fiscal 2012, increased by $308, or 59%.

 

Net income for the three-months ended January 31, 2013, as compared to the corresponding period of fiscal 2012, decreased by $66, or 16%. Net income for the six-month period ended January 31, 2013, as compared to the corresponding period of fiscal 2012, increased by $22, or 4%. Net income for the six-months ending January 31, 2012, included a $318 gain on the sale of corporate-owned offices.

 

Earnings per share, both basic and diluted, increased by $0.02, or 17% to $0.14 per share in the three-months ended January 31, 2013 compared to the three-months ended January 31, 2012. Earnings per share, both basic and diluted, increased $0.07, or 44% to $0.23 per share for the six-month period ended January 31, 2013 compared to the six-month period ended January 31, 2012.

 

Revenue, Costs and Expenses

 

The following table sets forth our selected consolidated financial information for the three and six-months ended January 31, 2013 and 2012 with amounts expressed as a percentage of total revenues (in thousands) (unaudited):

 

 

		Three-months ended January 31,																Six-months ended January 31,
		2013								2012								2013								2012
		Amount				Percent				Amount				Percent				Amount				Percent				Amount				Percent
Revenue:
Marketplace revenue and other revenue		$	3,960				100	%		$	4,229				100	%		$	7,671				100	%		$	8,199				100	%
Costs and expenses:
Cost of Marketplace revenue			2,551				64	%			2,808				66	%			4,912				64	%			5,318				65	%
Salaries, wages and employee benefits			477				12	%			503				12	%			961				13	%			972				12	%
Selling, general and administrative			368				9	%			558				13	%			836				11	%			1,221				15	%
Depreciation and amortization			65				2	%			77				2	%			131				2	%			165				2	%
			3,461				87	%			3,946				93	%			6,840				90	%			7,676				94	%
Income from operations			499				13	%			283				7	%			831				11	%			523				6	%
Interest income, net			30				1	%			31				1	%			61				1	%			51				1	%
Gain/(Loss) on sale of assets, net			(2	)			0	%			312				7	%			0				0	%			312				4	%
Income before income taxes			527				13	%			626				15	%			892				12	%			886				11	%
Provision for income taxes			169				4	%			202				5	%			286				4	%			302				4	%
Net income		$	358				9	%		$	424				10	%		$	606				8	%		$	584				7	%

 

Marketplace revenue

 

Marketplace revenue consists of transaction fees, association fees and other revenues net. Other revenue includes web services, media and ITEX dollar revenue. The following are the components of Marketplace revenue that are included in the consolidated statements of income (in thousands) (unaudited):

 

		Three-months ended  January 31,								Percent				Six-months ended  January 31,								Percent
		2013				2012				(decrease)				2013				2012				(decrease)
Transaction fees		$	2,704			$	2,900				-7	%		$	5,152			$	5,551				-7	%
Association fees			1,145				1,209				-5	%			2,309				2,425				-5	%
Other revenue			111				120				-8	%			210				223				-6	%
		$	3,960			$	4,229				-6	%		$	7,671			$	8,199				-6	%

 

 

Marketplace revenue decreased by $269, or 6%, for the three-months ended January 31, 2013, as compared to the corresponding period ended January 31, 2012. Marketplace revenue decreased by $528, or 6% for the six-month period ended January 31, 2013, as compared to the six-month period ended January 31, 2012.

 

Transaction fee revenue for the three-months ended January 31, 2013, as compared to the corresponding quarter of fiscal 2012, decreased by $196, or 7%. Transaction fee revenue for the six-month period ended January 31, 2013, as compared to the corresponding period of fiscal 2012, decreased by $399, or 7%. The decrease for both the three and the six-month periods is the result of lower volume of business being transacted in the ITEX Marketplace.

 

Association fee revenue for the three-months ended January 31, 2013, as compared to the corresponding quarter of fiscal 2012, decreased by $64, or 5%. Association fee revenue for the six-month period ended January 31, 2013, as compared to the corresponding period of fiscal 2012, decreased by $116, or 5%. The decrease for both the three and the six-month periods is the result of a decrease in the net members participating within the Marketplace.

 

Other revenue for the three-months ended January 31, 2013, as compared to the corresponding quarter of fiscal 2012, decreased by $9, or 8%. Other revenue for the six-months ended January 31, 2013, as compared to the corresponding quarter of fiscal 2012, decreased by $13, or 6%.

 

ITEX Dollar Revenue

 

As described in notes to our consolidated financial statements, we receive ITEX dollars from members’ transaction and association fees, and, to a lesser extent, from other member fees. ITEX dollars earned from members are later used by us as a method of payment in revenue sharing and incentive arrangements with our Broker Network, including co-op advertising, as well as for certain general corporate and Marketplace expenses. ITEX dollars are only usable in our Marketplace.

 

We have implemented measures to maintain the integrity of our role in the Marketplace economy, and to protect against the misuse or misappropriation of ITEX dollars. For example:

 

	·	All ITEX dollar purchases for corporate and Marketplace purposes are approved by senior management.

·

We do not sell or purchase ITEX dollars for USD.

 

We spend ITEX dollars in the Marketplace for our corporate needs. As discussed in the notes to our consolidated financial statements, we record ITEX dollar revenue in the amounts equal to expenses we incurred and paid for in ITEX dollars. We recorded $62 and $64 as ITEX dollar revenue for the three-months ended January 31, 2013 and 2012, respectively. We recorded $107 and $124 as ITEX dollar revenue for the six-months ended January 31, 2013 and 2012, respectively.

 

The corresponding ITEX dollar expenses in the three and six-month periods ending January 31, 2013 were for equipment, legal services, printing, outside services and miscellaneous expenses. We plan to continue to utilize ITEX dollars for our corporate purposes in future periods.

 

 

Cost of Marketplace Revenue

 

Cost of marketplace revenue consists of commissions paid to brokers, salaries and employee benefits of our corporate-owned offices, payment of processing fees and other expenses directly correlated to Marketplace revenue. The following are the main components of cost of marketplace revenue that are included in the consolidated statements of income (in thousands):

 

		Three-months ended January 31,								Percent				Six-months ended January 31,								Percent increase
		2013				2012				(decrease)				2013				2012				(decrease)
Transaction fee commissions		$	2,051			$	2,176				-6	%		$	3,901			$	4,007				-3	%
Association fee commissions			420				439				-4	%			844				843				0	%
Corporate-owned office costs			-				90				-100	%			7				275				-97	%
Other costs of revenue			80				103				-22	%			160				193				-17	%
		$	2,551			$	2,808				-9	%		$	4,912			$	5,318				-8	%
Costs of Marketplace revenue as percentage of total revenue			64	%			66	%							64	%			65	%

 

Costs of Marketplace revenue for the three-months ended January 31, 2013, as compared to the three-months ended January 31, 2012, decreased by $257, or 9%. Costs of Marketplace revenue for the six-month period ended January 31, 2013, as compared to six-month period ended January 31, 2012, decreased by $406, or 8%. The overall decrease in costs of Marketplace revenue corresponds to the decrease in total Marketplace revenue for the same periods. Costs of Marketplace revenue as a percentage of total revenue decreased slightly for both the three and six-month periods ended January 2013 primarily due to the sale of corporate-owned offices to new brokers which reduced corporate overhead.

 

Transaction fee commissions decreased by $125, or 6% for the three-months ended January 31, 2013, as compared to the corresponding period of fiscal 2012. The decrease in transaction fee commissions is due to a corresponding decrease in transaction volume. Transaction fee commissions decreased by $106, or 3% for the six-month period ended January 31, 2013 as compared to the corresponding period of fiscal 2012. The reduction was due to a corresponding decrease in transaction fee revenue for the comparable periods offset by an increase in commission payable due as a result of the sale of corporate-owned offices from the prior year. Corporate-owned offices have no commission payments due, however transaction and association fee commissions are paid out once a corporate-owned office is sold.

 

Association fee commissions increased by $1, or 0% for the six-month period ended January 31, 2013 as compared to the corresponding periods of fiscal 2012. The net slight increase in commissions was due to the corresponding decrease in association fee revenue for the same period, offset by an increase in commission payable due to the sale of corporate-owned offices from the prior year.

 

Corporate-owned office costs consist of compensation and operating expenses. Corporate-owned office costs decreased by $90 and $268, or 100% and 97%, respectively for the three and six-month periods ended January 31, 2013 as compared to the corresponding periods of fiscal 2012. The decrease is due to decreased expenses associated with the costs of managing our corporate-owned stores as a result of the sale of these offices in the prior period.

 

 

Other costs of revenue consist of miscellaneous Marketplace-related expenses such as broker computer upgrades, marketing and credit card processing fees along with other commissions not associated with association or transaction revenue. Other costs of revenue decreased by $23, or 22% for the three-month period ended January 31, 2013 as compared to the corresponding period of 2012. Other costs of revenue decreased by $33 or 17% for the six-month period ended January 31, 2013 as compared to the corresponding period of 2012.

 

Corporate Salaries, Wages and Employee Benefits

 

Salaries, wages and employee benefits include expenses for corporate employee salaries and wages, payroll taxes, payroll related insurance, healthcare benefits, stock-based compensation, recruiting costs and other personnel related items. As discussed above in “ITEX Dollar Revenue,” certain ITEX dollar expenses are also included. Comparative results are as follows (in thousands) (unaudited):

 

		Three-months ended January 31,								Percent				Six-months ended January 31,								Percent
		2013				2012				decrease				2013				2012				decrease
Corporate salaries, wages and employee benefits		$	477			$	503				-5	%		$	961			$	972				-1	%
Corporate salaries, wages and employee benefits as percentage of total revenue			12	%			12	%							13	%			12	%

 

Salaries, wages, employee benefits decreased by $26 and $11, or 5% and 1%, respectively for the three and six-month periods ended January 31, 2013 as compared to the corresponding periods of fiscal 2012. The decrease in both periods is primarily related to a decrease in stock compensation costs for the comparable periods.

 

Selling, General and Administrative Expenses

 

Selling, general and administrative expenses include consulting, legal and professional services, as well as expenses for rent and utilities, marketing, business travel, insurance, bad debts, business taxes, and other expenses. As discussed above in “ITEX Dollar Revenue”, certain ITEX dollar expenses are also included. Comparative results are as follows (in thousands) (unaudited):

 

 

		Three-months ended January 31,								Percent				Six-months ended January 31,								Percent
		2013				2012				decrease				2013				2012				decrease
Selling, general and administrative expenses		$	368			$	558				-34	%		$	836			$	1,221				-32	%
Selling, general and administrative expenses as percentage of total revenue			9	%			13	%							11	%			15	%

 

Selling, general and administrative expenses decreased by $190 and by $385, or 34% and 32%, respectively, for the three and six-month periods ended January 31, 2013, as compared to the three and six-month periods ended January 31, 2012. Our selling, general and administrative expenses also decreased as a percentage of total revenues in the periods presented.

 

The decrease is due primarily to a decrease in legal fees. Legal fees for the three and six-month periods ended January 31, 2013 decreased by $131 and by $237, or 68% and 67%, respectively, compared to the three and six-months ended January 31, 2012. See Note 3 ― “Legal Proceedings and Litigation Contingencies” included in the “Notes to Consolidated Financial Statements” Additionally, marketing expense for the three and six-month periods ended January 31, 2013 decreased by $27 and $25, or 68% and 52%, respectively.

 

Depreciation and Amortization

 

Depreciation and amortization expenses include depreciation on our fixed assets and amortization of our intangible assets, including intangible assets obtained in business combinations. Comparative results are as follows (in thousands) (unaudited):

 

		Three-months ended January 31,								Percent				Six-months ended January 31,								Percent
		2013				2012				decrease				2013				2012				decrease
Depreciation and amortization		$	65			$	77				-16	%		$	131			$	165				-21	%
Depreciation and amortization as percentage of total revenue			2	%			2	%							2	%			2	%

 

Depreciation and amortization decreased by $12 and $34, or 16% and 21%, respectively, for the three and the six-month periods ended January 31, 2013, as compared to the three and six-month periods ended January 31, 2012. The decrease is primarily related to the completion of the amortization of a non-compete agreement and membership lists associated with acquisition of certain assets.

 

  

Other income

 

Other income includes interest received on notes receivable and promissory notes, and gains or losses on the sale of assets.

 

Comparative results are as follows (in thousands) (unaudited):

 

		Three-months ended January 31,								Percent				Six-months ended January 31,								Percent
		2013				2012				increase (decrease)				2013				2012				increase (decrease)
Interest income		$	30			$	31				-3	%		$	61			$	51				20	%
Gain/(Loss) on sale of assets		$	(2	)		$	312				-101	%		$	-			$	312				-100	%
Other income		$	28			$	343				-92	%		$	61			$	363				-83	%
Other income, as percentage of total revenue			1	%			8	%							1	%			4	%

  

Interest income is derived primarily from our notes receivable for corporate office sales and general loans to brokers. As part of our initiative to support brokers and as a way to generate return on capital, we periodically provide loans to our brokers. Each loan is primarily secured by the broker’s ITEX office. Other income for the three-month period ended January 31, 2013 includes a $2 loss on the disposition of fixed assets. Other income for the three and six-month period ended January 31, 2012 includes a $318 gain on the sale of corporate-owned offices offset by a loss of $6 on the disposition of fixed assets.

 

Income Taxes

 

Comparative results are as follows (in thousands) (unaudited):

 

		Three-Months ended January 31																Six-months ended January 31,
		2013								2012								2013								2012
		Amount				Rate				Amount				Rate				Amount				Rate				Amount				Rate
Expected tax provison at federal statutory rate		$	183				35	%		$	216				35	%		$	309				35	%		$	307				35	%
State income taxes			(14	)			-3	%			(14	)			-3	%			(23	)			-3	%			(5	)			-1	%
Provision for income taxes		$	169				32	%		$	202				32	%		$	286				32	%		$	302				34	%

  

We recognized a $169 and $286 provision for income taxes, in the three and six-month periods ended January 31, 2013, respectively, as compared to the $202 and $302 provision for income taxes in the three and six-month periods ended January 31, 2012. Provision for income taxes decreased by $33 and $16, respectively for the three and six-months ended January 31, 2013, as compared to the corresponding period of fiscal 2012. The decrease in income taxes in 2013 was primarily due to the reduction of taxable income in the comparable periods as the 2012 period had other income gains from the sale of corporate-owned offices of $318.

 

  

The Federal effective tax rate related to our provision for income taxes in the three and six-months ended January 31, 2013 is similar to that used in the period ending January 31, 2012. The State effective tax rate related to our provision for income taxes in the three and six-months ended January 31, 2013 is lower to that used in the three and six-month periods ending January 31, 2012, due to the resolution of certain state tax positions which led to a reduction in the accrued expenses on our consolidated balance sheet for uncertain tax positions related primarily to state jurisdictions.

 

LIQUIDITY AND CAPITAL RESOURCES

 

Cash flows provided by operating activities have historically supplied us with our primary source of liquidity. We generally use these cash flows to fund most, if not all, of our operations and expansion activities and dividends on our common stock. We may also use cash flows provided by operating activities, as well as proceeds from investing and financing activities, to fund growth and expansion opportunities, as well as other cash requirements such as the repurchase of our common stock. As of January 31, 2013, and July 31, 2012, we had $2,461 and $1,942, respectively, in cash. Additionally, we have a revolving credit agreement to establish a $1,000 line of credit facility from our primary banking institution, U.S. Bank (“line of credit”). The current line of credit agreement expires in November 2013. We had no outstanding balance on our line of credit as of January 31, 2013.

 

The following table presents a summary of our cash flows for the six-months ended January 31, 2013 and 2012 (in thousands) (unaudited):

 

		Six-months ended January 31,
		2013				2012
Cash provided by operating activities		$	582			$	953
Cash provided by (used) in investing activities			146				(186	)
Cash used in financing activities			(209	)			(346	)
Increase in cash		$	519			$	421

  

Our approach to liquidity management is to ensure that an adequate liquidity cushion is available to fund our business activities and handle contingencies without a material adverse impact to our earnings, daily operations or our financial condition. We also take into account our capital allocation and growth objectives, including investing in acquisitions and revenue generating opportunities, and returning cash to our stockholders through dividends and share buybacks. We generally seek to have sufficient cash on hand to at least meet our objectives and obligations over the next 12 to 24 months without the need to use debt. In 2012 we used a significant portion of cash reserves to fund a tender offer to repurchase a portion of our shares of $4,506. We also used funds for routine operating expenses, membership list purchases, loans to brokers, stock buybacks and quarterly dividend payments to common stockholders.

 

 

As part of our expansion activities and our evaluation of strategic alternatives and opportunities, we may seek to acquire certain competitors or other business to business enterprises, or consider partnering or other collaboration agreements, or a merger or other strategic transaction. Such alliances, mergers or acquisitions or dispositions could result in potentially dilutive issuances of our equity securities, the expenditure of our cash, the reduction or elimination of the dividends we pay to our stockholders, or the incurrence of debt or contingent liabilities. See Risk Factor below “Our ability to pay dividends on our common stock is subject to the discretion of our Board of Directors and may be limited by our lack of liquidity or access to capital.” Although we would seek to utilize available working capital for such a transaction, we may choose or be required to finance a portion of the acquisition cost through short-term borrowings or the issuance of long-term debt. We believe that our financial condition is stable and that our cash balances, other liquid assets, and cash flows from operating activities provide adequate resources to fund ongoing operating requirements.

 

Inflation has not had a material impact on our business. Inflation affecting the U.S. dollar is not expected to have a material effect on our operations in the foreseeable future.

 

Operating Activities

 

For the six-months ended January 31, 2013, net cash provided by operating activities was $582 compared with $953 in the six-months ended January 31, 2012 a decrease of $371 or 39%. The decrease in net cash provided by the operating activities is a result of the net change in operating assets and liabilities.

 

The difference between our net income and our net cash provided by operating activities was attributable to non-cash expenses included in net income, and changes in the operating assets and liabilities, as presented below (in thousands) (unaudited):

 

		Six-months ended January 31,
		2013				2012
Net income		$	606			$	584
Add: non-cash  expenses			507				299
Changes in operating assets and liabilities			(531	)			70
Net cash provided by operating activities		$	582			$	953

  

Non-cash expenses are primarily associated with the amortization of intangible assets, depreciation and amortization of property and equipment, stock-based compensation expense, the changes in the deferred portion of the provision (benefit) for income taxes and gain or loss on the sale of assets.  

 

Changes in operating assets and liabilities primarily reflect changes in working capital components of the balance sheet apart from cash and cash equivalents. Net cash provided by operating activities also reflects changes in some non-current components of the balance sheet, such as long-term deferred rent and non-current prepaid expenses and deposits.

 

As discussed earlier in the overview section of our Management’s Discussion and Analysis of Financial Condition and Results of Operations, for each calendar year, we divide our operations into 13 four-week billing and commission cycles always ending on a Thursday, while we report our financial results as of the last day of each calendar month. The timing of billing and collection activities after the end of the billing cycle does not correspond with the end of the accounting period, therefore this timing difference results in the fluctuations of the balances of cash, accounts receivable, commissions payable and accrued commissions.

 

The total cash we received exclusively from our members, net of credit card returns, electronic fund transfer returns, and return checks is as follows (in thousands) (unaudited):

 

  

		Six-months ended January 31,
		2013								2012
		Amount				Percent of total				Amount				Percent of total
Credit cards		$	4,545				64	%		$	5,516				68	%
Electronic funds transfer			1,993				28	%			2,036				25	%
Cash and checks			523				7	%			605				7	%
Cash received from Marketplace members		$	7,061				100	%		$	8,157				100	%

  

Investing Activities

 

Net cash provided by (used in) investing activities was primarily the result of business acquisitions or sales, purchase of property and equipment and intangible assets, the collections on notes receivable from corporate office sales and broker loans.

 

For the six-months ended January 31, 2013, net cash provided by investing activities was $146 compared with $186 used in investing activities in the six-months ended January 31, 2012, an increase of $332, or 178%. In the six-months ended January 31, 2013, the net cash provided by investing activities was primarily related to $181 in note receivable principle collections offset by $76 in loans made to brokers. In the six-months ended January 31, 2012, the net cash used in investing activities was primarily related to a $175 membership list purchase, $104 in loans made to brokers, $13 in purchases of property and equipment offset by $106 of collections on existing notes receivables.

 

Financing Activities

 

Our net cash used in financing activities consists of cash dividends to stockholders, discretionary repurchases of our common stock and principal payments on stockholders’ notes receivable.

 

For the six-months ended January 31, 2013, net cash used in financing activities was $209 compared with $346 used in financing activities in the six-months ended January 31, 2012, a decrease of cash used in financing activities of $137, or 40%. The decrease is primarily due to the reduction of our dividend disbursement given the reduced amount of shares outstanding from the 2012 repurchases of our common stock.

 

In the six-months ended January 31, 2013, we declared and paid $235 in cash dividends to our stockholders.

 

Commitments

 

We lease office space under operating leases. Lease commitments include the lease for the Company’s corporate headquarters in Bellevue, Washington. The lease for the corporate headquarters expires on April 30, 2015.

 

In addition to the lease commitments, we are a party to several non-cancelable and non-refundable purchase commitments. Those purchase obligations consist primarily of arrangements for telecommunications and co-location services for our network operations. Our contractual commitments at January 31, 2013 are presented below (in thousands) (unaudited):

 

  

Year ending July 31,		Operating leases				Purchase commitments				Total
2013 (1)			82				10				92
2014			166				10				176
2015			127				-				127
Total		$	375			$	20			$	395

 

 

(1)

The expected payments for 2013 reflect future minimum payments for the six-month period from February 1, 2013 to July 31, 2013.

 

Critical Accounting Policies and Estimates

 

Our discussion and analysis of our financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the U.S. The preparation of financial statements in conformity with accounting principles generally accepted in the U.S. requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. On an ongoing basis, we evaluate significant estimates used in preparing our financial statements, including those related to:

 

·

revenue recognition, including allowances for uncollectible accounts;

·

accounting for ITEX dollar activities;

·

the allocation of purchase price in business combinations;

·

valuation of notes receivable;

·

accounting for goodwill and other long-lived intangible assets;

·

accounting for income taxes;

·

share-based compensation; and

·

litigation matters

 

We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates if our assumptions change or if actual circumstances differ from those in our assumptions.

 

For a summary of all of our significant accounting policies, including the critical accounting policies discussed above, see Note 1, Summary of Significant Accounting Policies, to our consolidated financial statements filed with our 2012 annual report on Form 10-K.

 

Recent Accounting Pronouncements

 

For a discussion of new accounting pronouncements and their impact on the Company, see Note 1 of the Notes to Consolidated Financial Statements included in Item 1 of this Form 10-Q.

 

 

FACTORS THAT MAY AFFECT FORWARD-LOOKING STATEMENTS

 

This Quarterly Report on Form 10-Q contains statements that are forward-looking such as estimates, projections, statements relating to our business plans, objectives and expected operating results. These statements are based on current expectations and assumptions that are subject to risks and uncertainties. All statements that express expectations and projections with respect to future matters may be affected by changes in our strategic direction, as well as developments beyond our control. We cannot assure you that our expectations will necessarily come to pass. Actual results could differ materially because of issues and uncertainties such as those listed below, in the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” Item 2 and elsewhere in this report. These factors, among others, may adversely impact and impair our business and should be considered in evaluating our financial outlook.

 

Our revenue growth and success is tied to the operations of our independent Broker Network, and as a result the loss of our brokers or the financial performance of our brokers can negatively impact our business

 

We service our member businesses primarily through our independent licensed broker and franchise network (individually, “broker”, together, the “Broker Network”) as well as through any corporate-owned offices we may operate from time to time. Our financial success primarily depends on our brokers and the manner in which they operate and develop their offices. We depend on the ability of our brokers to enroll new members, train them in the use of the Marketplace, grow our transactional volume by facilitating business among members, manage member relationships, provide members with information about ITEX products and services, and assure the payment of our fees. Brokers are independently owned and operated and have a contractual relationship with ITEX, typically for a renewable five-year term. Our inability to renew a significant portion of these agreements on terms satisfactory to our brokers and us could have a material adverse effect on our business, financial condition and results of operations. Further, our brokers may not be successful in increasing the level of revenues generated compared to prior years, or even sustaining their own business activities, which depends on many factors, including industry trends, the strength of the local economy, the success of their marketing activities, control of expense levels, the employment and management of personnel, and being able to secure adequate financing to operate their businesses. There can be no assurance that our brokers will be successful in adding members or increasing the volume of transactions through the Marketplace, or that if they do not renew their agreements or terminate operations we will be able to attract new brokers at rates sufficient to maintain a stable or growing revenue base. If our brokers are unsuccessful in generating revenue, enrolling new members to equalize the attrition of members leaving the Marketplace, or if a significant number of brokers become financially distressed and terminate operations, our revenues could be reduced and our business operating results and financial condition may be materially adversely affected.

 

Future revenue growth remains uncertain and our operating results and profitability may decline

 

For the year ended July 31, 2012, our revenue decreased 4% compared to the same period in 2011. Our revenue for both the three and six-months ended January 31, 2013 decreased 6% over the corresponding periods in fiscal 2012. Although we seek to increase revenues through organic growth and the development of new revenue streams, we cannot assure you that our revenues will increase in future quarters or future years. We may be unable to add revenue through acquisitions, either because of the absence of acquisition candidates, lack of financing, or unacceptable terms. We have approximately 30% recurring revenues. We do not have an order backlog, and approximately two-thirds of our net revenues each quarter come from transaction fees based on the GMV (gross merchandise value) of transactions occurring during that quarter. Our operating results in one or more future quarters may fall below the expectations of investors.

 

 

We cannot assure you that we can continue to be operated profitably, which will depend on many factors, including the success of our development and expansion efforts, the control of expense levels and the success of our business activities. We may make investments in marketing, broker and member support, technology and further development of our operating infrastructure which entail long-term commitments. We may be unable to adjust our spending rapidly enough to compensate for any unexpected revenue shortfall, which may harm our profitability. The barter industry as a whole may be adversely affected by industry trends and economic factors. Despite our efforts to expand our revenues, we may not be successful. We experience a certain amount of attrition from members leaving the Marketplace. If new member enrollments do not continue or are insufficient to offset attrition, we will increasingly need to focus on keeping existing members active and increasing their activity level in order to maintain or grow our business. We cannot assure you that this strategy would be successful to offset declining revenues or profits.

 

Our ability to pay dividends on our common stock is subject to the discretion of our Board of Directors and may be limited by our lack of liquidity or access to capital.

 

Our dividend policy is subject to the discretion of our Board of Directors and depends upon a number of factors, including our earnings, financial condition, cash and capital needs and general economic or business conditions. Although we are currently declaring cash dividends on our common stock as a way to return value to our stockholders, we are not required to do so and we cannot assure you that we will continue to pay dividends in the future. We have sought to maintain a liquidity cushion sufficient to fund our business activities and handle contingencies, while preserving the ability to return cash to our stockholders through dividends and share buybacks. However, our Board of Directors may decide to use capital for acquisitions, revenue generating opportunities or other corporate purposes. If liquidity from our cash flow is inadequate or unavailable, we may be required to scale back or eliminate the dividends we pay to our stockholders. Any reduction of, or the elimination of, our common stock dividend in the future could adversely affect the market price of our common stock.

 

Our brokers could take actions that could harm our business, our reputation and adversely affect the ITEX Marketplace

       

Our agreements with our brokers require that they understand and comply with all laws and regulations applicable to their businesses, and operate in compliance with our Marketplace Rules. Brokers are independently owned and operated and are not our employees, partners, or affiliates. We set forth operational standards and guidelines; however, we have limited control over how our broker businesses are run. Our brokers have individual business strategies and objectives, and may not operate their offices in a manner consistent with our philosophy and standards. We cannot assure that our brokers will avoid actions that adversely affect the reputation of ITEX or the Marketplace. Improper activity stemming from one broker can generate negative publicity which could adversely affect our entire Broker Network and the Marketplace. Our image and reputation and the image and reputation of other brokers may suffer materially, and system-wide sales could significantly decline if our brokers do not operate their businesses according to our standards. While we ultimately can take action to terminate brokers and franchisees that do not comply with the standards contained in our agreements, and even though we may implement compliance and monitoring functions, we may not be able to identify problems and take action quickly enough and, as a result, our image and reputation may suffer, causing our revenues or profitability to decline. Further, the success and growth of our Broker Network depends on our maintaining a satisfactory working relationship with our existing brokers and attracting new brokers to our network. Lawsuits and other disputes with our brokers could discourage our brokers from expanding their business or lead to negative publicity, which could discourage new brokers from entering our network or existing brokers from renewing their agreements, and could have a material adverse effect on our business, financial condition and results of operations.

 

  

We could be negatively affected as a result of proxy contests and related litigation

 

In July 2010, a member of a dissident shareholder group declared his intention to change the management structure of ITEX. In 2010 and 2012, he initiated proxy contests to replace the majority of our Board of Directors.  In 2011, the dissident filed a derivative lawsuit against the Board of Directors, and also the Company as a nominal defendant, which recently settled. See Note 3 ― “Legal Proceedings and Litigation Contingencies” included in the “Notes to Consolidated Financial Statements”. Further proxy contests and related litigation could harm the Company because:

 

·

Responding to proxy contests, litigation and other actions by dissident shareholders is costly and time-consuming, disrupting our operations and diverting the attention of management and our employees;

 

·

Perceived uncertainties as to our future direction diverts the attention of, damages morale and creates instability among members of our Broker Network as well as our management and employees, and adversely impacts our existing and potential strategic and operational relationships and opportunities;

 

·

We may experience difficulties in hiring, retaining and motivating personnel during the resulting uncertain and turbulent times;

 

·

If individuals are elected or appointed to our Board of Directors with a specific dissident agenda, it may adversely affect our ability to effectively and timely implement our current business plan which could have a material adverse effect on our results of operations and financial condition;

 

·

If certain corporate governance proposals are implemented that are not scaled to the size of our company or do not provide a benefit commensurate with their cost, our profitability as well as the value creation capabilities of our organization may be adversely affected;

 

·

Increases in legal fees, insurance, administrative and associated costs incurred in connection with responding to proxy contests and related litigation are substantial;

 

·

Proxy contests, or the threat of one, could cause our stock price to experience periods of volatility or stagnation; and

 

·

A successful election outcome by a dissident shareholder in replacing a majority of our directors would result in a change in control of the Company, which would trigger employee change in control agreements and immediate vesting of restricted stock awards, resulting in substantial compensation charges and other expenses. The effect of a change in control could have a material adverse effect upon the Company's operations, financial condition, and financial statements taken as a whole.

 

 

We may be held responsible by members, third parties, regulators or courts for the actions of, or failures to act by, our brokers or their employees, which exposes us to possible adverse judgments, other liabilities and negative publicity

 

From time to time we are subject to claims for the conduct of our brokers in situations where a broker has caused injury to a member as a result of a transaction in the Marketplace. Third parties, regulators or courts may seek to hold us responsible for the actions or failures to act by our brokers or their employees. Failure to comply with laws and regulations by our brokers, or litigation involving potential liability for broker activities could be costly and time consuming for us, divert management attention, result in increased costs of doing business, lead to adverse judgments, expose us to possible fines and negative publicity, or otherwise harm our business.

 

Failure to deal effectively with member disputes could result in costly litigation, damage our reputation and harm our business

 

ITEX faces risks with respect to transactional disputes between members of the Marketplace. From time to time we receive complaints from members who may not have received the products or services that they had purchased, concerning the quality of the products or services, or who believe they have been defrauded by other members or ITEX brokers. We also receive complaints from sellers because a buyer has changed his or her mind and decided not to honor the contract to purchase the item. While ITEX does, in some cases, as part of its transaction dispute resolution process reverse transactions, reduce or eliminate credit lines, suspend accounts, or take other measures with members who fail to fulfill their payment or delivery obligations to other members, the determination as to whether a transaction is reversed or how to resolve a specific dispute is made by ITEX in its sole discretion. Measures we may take to resolve transactional disputes or combat risks of fraud have the potential to damage relations with our members or brokers or decrease transactional activity in the Marketplace by restricting the activities of certain members. Furthermore, negative publicity and member sentiment generated as a result of member complaints or fraudulent or deceptive conduct by members of our Marketplace could damage our reputation, or reduce our ability to attract new members or retain our current members.

 

We occasionally receive communications from members requesting reimbursement or threatening or commencing legal action against us if no reimbursement is made. In addition, because we service our member businesses through our Broker Network, we are subject to claims and could potentially be found liable for the conduct of our brokers in a situation where that broker has caused injury to a member. Litigation involving disputes between members and liability for broker actions could be costly and time consuming for us, divert management attention, result in increased costs of doing business, lead to adverse judgments, or otherwise harm our business. In addition, affected members may complain to regulatory agencies that could take action against us, including imposing fines or seeking injunctions.

 

Use of our services for illegal purposes could damage our reputation and harm our business

 

Our members, typically small businesses, actively market products and services through the Marketplace and our website. The law relating to the liability of providers of online services for the activities of users or members of their service is often the subject of litigation. We may be unable to prevent our members from selling unlawful or stolen goods or unlawful services, or selling goods or services in an unlawful manner, and we could be subject to allegations of civil or criminal liability for unlawful activities carried out by users through our services. It is possible that third parties, including government regulators and law enforcement officials, could allege that our services aid and abet certain violations of certain laws, for example, laws regarding the sale of counterfeit items, the fencing of stolen goods, selective distribution channel laws, and the sale of items outside of the U.S. that are regulated by U.S. export controls.

 

Although we have prohibited the listing of illegal goods and services and implemented other protective measures, we may be required to spend substantial resources to take additional protective measures or discontinue certain service offerings, any of which could harm our business. Any costs incurred as a result of potential liability relating to the alleged or actual sale of unlawful goods or services could harm our business. In addition, negative media publicity relating to the listing or sale of unlawful goods and stolen goods using our services could damage our reputation, diminish the value of our brand, and make members reluctant to use our services.

 

 

ITEX’s trade dollar currency, ITEX dollars, is also susceptible to potentially illegal or improper uses. Recent changes in law have increased the penalties for intermediaries providing payment services for certain illegal activities. Despite measures taken by ITEX as administrator and as a third-party record-keeper to detect and lessen the risk of this kind of conduct, illegal activities could still be funded using ITEX dollars. Any resulting claims or liabilities could harm our business.

 

Our business is subject to online security risks, including security breaches and identity theft

 

We host confidential information as part of our client relationship management and transactional processing platform. Our security measures may not detect or prevent security breaches that could harm our business. Currently, a significant number of our members authorize us to bill their credit card accounts directly for fees charged by us. We take a number of measures to ensure the security of our hardware and software systems and member and client information. Advances in computer capabilities, new discoveries in the field of cryptography or other developments may result in the technology used by us to protect transaction data being breached or compromised. Other large Internet companies have been the subject of sophisticated and highly targeted attacks on portions of their sites. In addition, any party who is able to illicitly obtain a members’ password could access the members’ transaction data. An increasing number of websites have reported breaches of their security. Any compromise of our security could harm our reputation and, therefore, our business, and could result in a violation of applicable privacy and other laws. In addition, a party that is able to circumvent our security measures could misappropriate proprietary information, cause interruption in our operations, damage our computers or those of our users, or otherwise damage our reputation and business. Under credit card rules and our contracts with our card processors, if there is a breach of credit card information that we store, we could be liable to the credit card issuing banks for their cost of issuing new cards and related expenses. In addition, if we fail to follow credit card industry security standards, even if there is no compromise of customer information, we could incur significant fines or lose our ability to give customers the option of using credit cards to pay their fees. If we were unable to accept credit cards, our business would be seriously damaged.

 

We continue to enhance our systems for data management and protection, and intrusion detection and prevention. However, our servers may be vulnerable to computer viruses, physical or electronic break-ins, and similar disruptions. We may need to expend significant resources to protect against security breaches or to address problems caused by breaches. Security breaches, including any breach by us or by parties with which we have commercial relationships that result in the unauthorized release of our members’ personal information, could damage our reputation and expose us to a risk of loss or litigation and possible liability. Our insurance policies carry coverage limits which may not be adequate to reimburse us for losses caused by security breaches.

 

Unplanned system interruptions or system failures could harm our business and reputation

 

Any interruption in the availability of our transactional processing services due to hardware and operating system failures will reduce our revenues and profits. Our revenue depends on members using our processing services. Any unscheduled interruption in our services results in an immediate, and possibly substantial, loss of revenues. Frequent or persistent interruptions in our services could cause current or potential members to believe that our systems are unreliable, leading them to switch to our competitors or to avoid our websites or services, and could permanently harm our reputation. Furthermore, any system failures could result in damage to our members’ and brokers’ businesses. These persons could seek compensation from us for their losses. Even if unsuccessful, this type of claim likely would be time-consuming and costly for us to address.

 

 

Although our systems have been designed around industry-standard architectures to reduce downtime in the event of outages or catastrophic occurrences, they remain vulnerable to damage or interruption from earthquakes, floods, fires, power loss, telecommunication failures, terrorist attacks, computer viruses, computer denial-of-service attacks, and similar events or disruptions. Some of our systems are not fully redundant, and our disaster recovery planning may not be sufficient for all eventualities. Our systems are also subject to break-ins, sabotage, and intentional acts of vandalism. Despite any precautions we may take, the occurrence of a natural disaster, a decision by any of our third-party hosting providers to close a facility we use without adequate notice for financial or other reasons, or other unanticipated problems at our hosting facilities could cause system interruptions, delays, and loss of critical data, and result in lengthy interruptions in our services. Our business interruption insurance may not be sufficient to compensate us for losses that may result from interruptions in our service as a result of system failures.

 

Failure to comply with laws and regulations that protect our members’ and brokers’ personal and financial information could result in liability and harm our reputation

 

We store personal and financial information for members of the Marketplace and our brokers. Privacy concerns relating to the disclosure and safeguarding of personal and financial information have drawn increased attention from federal and state governments. Federal and state law requires us to safeguard our members’ and brokers’ financial information, including credit card information. Although we have established security procedures to protect against identity theft and the theft of this personal and financial information, breaches of our privacy may occur. To the extent the measures we have implemented are breached or if there is an inappropriate disclosure of confidential or personal information or data, we may become subject to litigation or administrative sanctions, which could result in significant fines, penalties or damages and harm to our brand and reputation. Even if we were not held liable, a security breach or inappropriate disclosure of confidential or personal information or data could harm our reputation. In addition, we may be required to invest additional resources to protect us against damages caused by these actual or perceived disruptions or security breaches in the future. Changes in these federal and state regulatory requirements could result in more stringent requirements and could result in a need to change our business practices. Establishing systems and processes to achieve compliance with these new requirements may increase our costs and could have a material adverse effect on our business, financial condition and results of operations.

 

We have claims and lawsuits against us that may result in adverse outcomes

 

From time to time we are subject to a variety of claims and lawsuits. See Note 3 ― “Legal Proceedings and Litigation Contingencies” included in the “Notes to Consolidated Financial Statements.” Adverse outcomes in one or more of these claims may result in significant monetary damages that could adversely affect our ability to conduct our business. Although management currently believes resolving all of these matters, individually or in the aggregate, will not have a material adverse impact on our financial statements, the litigation and other claims are subject to inherent uncertainties and management’s view of these matters may change in the future. A material adverse impact on our financial statements also could occur for the period in which the effect of an unfavorable final outcome becomes probable and reasonably estimable.

 

 

If we lose the services of our chief executive officer, our business could suffer

 

We believe our performance depends substantially on the continued services of our Chief Executive Officer, Steven White. Our board places heavy reliance on Mr. White’s experience and management skills. We have not entered into a formal employment agreement with Mr. White, other than an agreement to receive a payment in connection with a “change of control,” as defined in the agreement. Mr. White has been awarded restricted stock grants as a long-term retention incentive. If we were to lose the services of Mr. White, we could face substantial difficulty in hiring a qualified successor or successors, and could experience a loss in performance while any successor obtains the necessary training and experience. Corporate staff and our franchisees and brokers could lose confidence in the direction and stability of the Company and choose to pursue other opportunities. In addition, in connection with a management transition we may need to attract, train, retain and motivate additional financial, technical, managerial, marketing or support personnel. We face the risk that if we are unable to attract and integrate new personnel, or retain and motivate existing personnel, our business, financial condition and results of operations will be adversely affected.

 

Alliances, mergers and acquisitions could result in operating difficulties, dilution and other harmful consequences

 

We have acquired eight trade exchange membership lists since 2005 and integrated them into the Marketplace. We expect to continue to evaluate and consider other potential strategic transactions, including business combinations, acquisitions and dispositions of businesses, technologies, services, products and other assets and strategic investments. At any given time we may be engaged in discussions or negotiations with respect to one or more of these types of transactions. Any of these transactions could be material to our financial condition and results of operations. The process of integrating an acquired company, business or technology may create unforeseen operating difficulties and expenditures and is risky. The areas where we may face difficulties include:

 

•

Diversion of management time, as well as a shift of focus from operating the businesses to challenges related to integration and administration;

 

•

Challenges associated with integrating employees from the acquired company into the acquiring organization.  These may include declining employee morale and retention issues resulting from changes in, or acceleration of, compensation, or changes in management, reporting relationships, future prospects, or the direction of the business;

 

•

The need to integrate each company’s accounting, management, information, human resource and other administrative systems to permit effective management, and the lack of control if such integration is delayed or not implemented;

 

•

The need to implement controls, procedures and policies appropriate for a public company at companies that prior to acquisition had lacked such controls, procedures and policies;

 

•

The need to transition operations, members, and customers onto our existing platforms; and

 

•

Liability for activities of the acquired company before the acquisition, including violations of laws, rules and regulations, commercial disputes, tax liabilities and other known and unknown liabilities.

 

 

The expected benefit of any of these strategic relationships may not materialize and the cost of these efforts may negatively impact our financial results. Future alliances, mergers or acquisitions or dispositions could result in potentially dilutive issuances of our equity securities, the expenditure of our cash or the incurrence of debt, contingent liabilities or amortization expenses, or write-offs of goodwill, any of which could adversely affect our results of operations and dilute the economic and voting rights of our stockholders. Future acquisitions may require us to obtain additional equity or debt financing, which may not be available on favorable terms or at all.

 

We may need additional financing; current funds may be insufficient to finance our plans for growth or our operations

 

Although we believe that our financial condition is stable and that our cash balances and operating cash flows provide adequate resources to fund our ongoing operating requirements, we have limited funds. Our existing working capital may not be sufficient to allow us to execute our business plan as fast as we would like or may not be sufficient to take full advantage of all available strategic opportunities. We believe our current core operations reflect a scalable business strategy, which will allow our business model to be executed with limited outside financing. However, we also may expand our operations, enter into a strategic transaction, or acquire competitors or other business to business enterprises. We have a line of credit with our primary banking institution, which will provide additional reserve capacity for general corporate and working capital purposes, and if necessary, enable us to make certain expenditures related to the growth and expansion of our business model. However, if adequate capital were not available or were not available on acceptable terms at a time when we needed it, our ability to execute our business plans, develop or enhance our services, return cash to stockholders through dividends and share buybacks, make acquisitions or respond to competitive pressures would be significantly impaired. Further, we cannot be certain that we will be able to implement various financing alternatives or otherwise obtain required working capital if needed or desired.

 

We are dependent on the value of foreign currency.

 

We transact business in Canadian dollars as well as USD. Revenues denominated in Canadian dollars comprised 7.2% and 7.8% in the years ended July 31, 2012 and 2011, respectively. While foreign currency exchange fluctuations are not believed to materially adversely affect our operations at this time, changes in the relation of the Canadian dollar to the USD could continue to affect our revenues, cost of sales, operating margins and result in exchange losses.

 

If we fail to maintain an effective system of internal controls, we may not be able to detect fraud or report our financial results accurately, which could result in a loss of investor confidence in our financial reports and have an adverse effect on our stock price

 

Effective internal controls are necessary for us to provide reliable financial reports and to detect and prevent fraud. We periodically assess our system of internal controls to review their effectiveness and identify potential areas of improvement. These assessments may conclude that enhancements, modifications or changes to our system of internal controls are necessary. Performing assessments of internal controls, implementing necessary changes, and maintaining an effective internal controls process is expensive and requires considerable management attention. Internal control systems are designed in part upon assumptions about the likelihood of future events, and all such systems, however well designed and operated, can provide only reasonable, and not absolute, assurance that the objectives of the system are met. We face the risk that the design of our controls and procedures may prove to be inadequate or that our controls and procedures may be circumvented, thereby causing delays in detection of errors or inaccuracies in data and information. It is possible that any lapses in the effective operations of controls and procedures could materially affect earnings, that we could suffer losses, that we could be subject to costly litigation, that investors could lose confidence in our reported financial information and our reputation, and that our operating results could be harmed, which could have a negative effect on the trading price of our common stock.

 

 

Pursuant to Section 404 of the Sarbanes-Oxley Act of 2002, we must certify the effectiveness of our internal controls over financial reporting annually. If we are unable to assert that our internal control over financial reporting is effective for a particular year we could lose investor confidence in the accuracy and completeness of our financial reports. That could adversely affect our competitive position in our business, and the market price for our common stock.

 

Our Brokers may default on their loans

 

From time to time we finance the operational and expansion activities of our brokers. We loan brokers funds for general operational purposes, to acquire the management rights to select member accounts, and for other reasons. These loans are repaid from regular deductions from broker commissions. We have increased the amount of our loans to brokers from $909 at July 31, 2011 to $1,514 at January 31, 2013. In the event one or more brokers default on their loans, it may adversely affect our financial condition.

 

ITEM 4. CONTROLS AND PROCEDURES

 

(a) Disclosure controls and procedures.

 

Under the supervision and with the participation of our management, including the Chief Executive Officer and Chief Financial Officer, we have evaluated the effectiveness of our disclosure controls and procedures as required by Exchange Act Rule 13a-15(b) as of the end of the period covered by this report. Based on that evaluation, our CEO and CFO concluded that our disclosure controls and procedures are effective as of the end of the period covered by this report.

 

(b) Changes in internal control over financial reporting.

 

There have been no changes in our internal controls over financial reporting during our most recent fiscal quarter that we believe have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting.

 

PART II. OTHER INFORMATION

 

ITEM 1. LEGAL PROCEEDINGS

 

See Note 3 ― “Legal Proceedings and Litigation Contingencies” included in the “Notes to Consolidated Financial Statements” legal proceedings.

 

 

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES

 

Purchases of Equity Securities by the Issuer and Affiliated Purchasers

 

The following table provides information about our purchases or any affiliated purchaser during the three-months ended January 31, 2013 of equity securities that are registered by us pursuant to Section 12 of the Exchange Act.

 

		(a)				(b)				(c)				(d)
Period		Total Number of Shares Purchased				Average Price Paid per Share				Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs (1)				Maximum Number (or Approximate Dollar Value) of Shares that May Yet Be Purchased Under the Plans or Programs (2)
11/01/12 - 11/30/12			-				-				-				-
12/01/12 – 12/31/12			-				-				-				-
01/01/13 - 01/31/13			6,914				3.65				6,914			$	1,534,772

 

(1)

Shares were repurchased under a $2.0 million stock repurchase program, authorized by the Board of Directors and announced on March 9, 2010. The program authorizes the repurchase of shares in open market purchases or privately negotiated transactions, has no expiration date and may be modified or discontinued by the Board of Directors at any time. No shares were purchased other than through publicly announced programs during the periods shown.

(2)

Amounts shown in this column reflect amounts remaining under the $2.0 million stock repurchase program referenced in Note 1 above.

  

Item 6. Exhibits

  

Exhibit Number		Description
31.1		Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2		Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1**		Certification by Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2**		Certification by Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
**		Furnished, not filed

  

 

SIGNATURES

 

In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

 

			ITEX CORPORATION
			(Registrant)
Date:  March 14, 2013		By:	/s/ Steven White
			Steven White
			Chief Executive Officer
			(Duly Authorized Officer)

 

Date:  March 14, 2013		By:	/s/ John Wade
			John Wade
			Chief Financial Officer