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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

ý QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
  SECURITIES EXCHANGE ACT OF 1934
   
  For the quarterly period ended June 30, 2014
   
  OR
   
o 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: 1-09228

 

COVER-ALL TECHNOLOGIES INC.

(Exact Name of Registrant as Specified in Its Charter)

Delaware   13-2698053
(State or other jurisdiction of   (IRS Employer
incorporation or organization)   Identification No.)
412 Mt. Kemble Avenue, Suite 110C,
Morristown, New Jersey
  07960
(Address of principal executive offices)   (Zip code)

  

973-461-5200

(Registrant’s telephone number, including area code)

None

(Former name, former address and former fiscal year, if changed since last report)

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 [    ] (Do not check if a smaller reporting company) Smaller reporting company [X]

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes [    ] No [X]

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Class   Outstanding at August 8, 2014
Common Stock, $.01 par value per share   26,638,477
 
 

COVER-ALL TECHNOLOGIES INC. AND SUBSIDIARY

 

INDEX TO FORM 10-Q FOR THE QUARTER ENDED JUNE 30, 2014

PART I: FINANCIAL INFORMATION  
Item 1. Financial Statements  
  Consolidated Balance Sheets as of June 30, 2014 (Unaudited)  
  and December 31, 2013 3
  Consolidated Statements of Operations for the three and six  
  months ended June 30, 2014 and 2013 (Unaudited) 5
  Consolidated Statements of Cash Flows for the six  
  months ended June 30, 2014 and 2013 (Unaudited) 6
  Notes to Consolidated Financial Statements (Unaudited) 7
Item 2. Management’s Discussion and Analysis of Financial  
  Condition and Results of Operations 14
Item 3. Quantitative and Qualitative Disclosures  
  About Market Risk 24
Item 4. Controls and Procedures 24
     
PART II: OTHER INFORMATION  
     
Item 1A. Risk Factors 25
     
Item 6. Exhibits 25
     
SIGNATURES 26

 

 

. . . . . . . . . .

2
 

PART I: FINANCIAL INFORMATION

Item 1. Financial Statements.

COVER-ALL TECHNOLOGIES INC. AND SUBSIDIARY

 

CONSOLIDATED BALANCE SHEETS

 

   June 30,
2014
  December 31,
2013
   (Unaudited)   
Assets:          
Current Assets:          
Cash and Cash Equivalents   $3,488,915   $1,848,571 
Accounts Receivable (Less Allowance for Doubtful Accounts
of $25,000)
   1,398,301    2,604,489 
Prepaid Expenses    591,567    491,905 
Deferred Tax Asset    850,500    850,500 
Total Current Assets    6,329,283    5,795,465 
Property and Equipment – Net    585,227    708,590 
Goodwill    1,039,114    1,039,114 
Capitalized Software (Less Accumulated Amortization of $23,050,467 and $22,305,191 in 2014 and 2013, Respectively)    7,219,307    7,964,583 
Customer Lists/Relationships (Less Accumulated Amortization of $371,667 and $341,333 in 2014 and 2013, Respectively)    30,333    60,667 
 
Deferred Tax Asset
   2,674,928    2,674,928 
Deferred Financing Costs (Net Amortization of $51,477 and $36,082 in 2014 and 2013, Respectively)    40,806    56,201 
Other Assets    253,312    424,522 
Total Assets   $18,172,310   $18,724,070 

 

The Accompanying Notes are an Integral Part of These Consolidated Financial Statements.

3
 

COVER-ALL TECHNOLOGIES INC. AND SUBSIDIARY

 

CONSOLIDATED BALANCE SHEETS

 

   June 30,
2014
  December 31,
2013
   (Unaudited)   
Liabilities and Stockholders’ Equity:          
Current Liabilities:          
   Accounts Payable   $945,333   $1,059,238 
   Accrued Expenses    680,123    1,412,400 
   Deferred Charges    208,308    231,051 
   Current Portion of Capital Lease    117,097    114,640 
   Unearned Revenue    2,338,722    2,997,455 
           
   Total Current Liabilities    4,289,583    5,814,784 
           
Long Term Liabilities:          
   Long-Term Debt    1,737,965    1,639,109 
   Long-Term Portion of Capital Lease    293,970    353,139 
           
   Total Long-Term Liabilities    2,031,935    1,992,248 
           
   Total Liabilities    6,321,518    7,807,032 
           
Commitments and Contingencies         
           
Stockholders’ Equity:          

    Common Stock, $.01 Par Value, Authorized 75,000,000 Shares; 26,638,477 and 26,402,227 Shares Issued and Outstanding in 2014 and 2013, Respectively

   266,385    264,022 
           
Additional Paid-In Capital    32,844,127    32,674,374 
           
Accumulated Deficit    (21,259,720)   (22,021,358)
           
Total Stockholders’ Equity    11,850,792    10,917,038 
           
Total Liabilities and Stockholders’ Equity   $18,172,310   $18,724,070 

 

The Accompanying Notes are an Integral Part of These Consolidated Financial Statements.

 

4
 

COVER-ALL TECHNOLOGIES INC. AND SUBSIDIARY

 

CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)

 

   Three months ended June 30,  Six months ended June 30,
   2014  2013  2014  2013
Revenues:                    
Licenses   $226,599   $696,599   $1,034,198   $4,319,848 
Support Services    2,121,187    1,981,215    4,250,850    4,004,178 
Professional Services    2,653,448    1,325,694    4,923,736    2,565,315 
Total Revenues    5,001,234    4,003,508    10,208,784    10,889,341 
Cost of Revenues:                    
Licenses        (310,000)       50,000 
Support Services    1,463,989    1,636,114    3,149,443    4,313,964 
Professional Services    1,210,405    765,485    2,321,062    1,442,766 
Total Cost of Revenues    2,674,394    2,091,599    5,470,505    5,806,730 
Direct Margin    2,326,840    1,911,909    4,738,279    5,082,611 
Operating Expenses:                    
Sales and Marketing    543,372    525,618    1,021,730    1,173,671 
General and Administrative    755,698    488,932    1,489,495    1,065,961 
Amortization of Capitalized Software    372,638    1,181,017    745,276    2,273,124 
Research and Development    228,152    774,745    523,589    825,755 
Total Operating Expenses    1,899,860    2,970,312    3,780,090    5,338,511 
Operating Income (Loss)    426,980    (1,058,403)   958,189    (255,900)
Other (Income) Expense:                    
Interest Expense    95,271    90,912    188,943    183,423 
Interest Income                 
Other Income        (3,821)       (3,821)
Total Other (Income) Expense    95,271    87,091    188,943    179,602 
Income (Loss) Before Income Taxes    331,709    (1,145,494)   769,246    (435,502)
Income Taxes    3,920    3,505    7,608    8,171 
Net Income (Loss)   $327,789   $(1,148,999)  $761,638   $(443,673)
Basic Earnings (Loss) Per Common Share   $0.01   $(0.04)  $0.03   $(0.02)
Diluted Earnings (Loss) Per Common Share   $0.01   $(0.04)  $0.03   $(0.02)
Weighted Average Number of Common Shares Outstanding for Basic Earnings (Loss) Per Common Share    26,638,000    26,082,000    26,591,000    26,026,000 
Weighted Average Number of Common Shares Outstanding for Diluted Earnings (Loss) Per Common Share    26,639,000    26,082,000    26,593,000    26,026,000 

 

The Accompanying Notes are an Integral Part of These Consolidated Financial Statements.

5
 

COVER-ALL TECHNOLOGIES INC. AND SUBSIDIARY

 

CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

   Six months ended June 30,
   2014  2013
Cash Flows Provided From Operating Activities:          
Net Income (Loss)   $761,638   $(443,673)
Adjustments to Reconcile Net Income (Loss) to          
Net Cash Provided From Operating Activities:          
Depreciation    131,259    128,236 
Amortization of Capitalized Software    745,276    2,273,124 
Amortization of Customer Lists/Relationships    30,334    50,907 
Amortization of Stock-Based Compensation    214,648    346,572 
Amortization of Deferred Financing Costs    15,395    13,693 
Stock Based Compensation Provided for Services    56,324    38,666 
Changes in Assets and Liabilities:          
(Increase) Decrease in:          
Accounts Receivable    1,206,188    1,023,423 
Prepaid Expenses    (99,662)   (251,768)
Other Assets    171,210    107,600 
Increase (Decrease) in:          
Accounts Payable    (113,905)   (181,621)
Accrued Liabilities    (732,278)   (788,107)
Taxes Payable    ––    16,159 
Deferred Charges    (22,743)   162,568 
Unearned Revenue    (658,733)   (49,844)
Net Cash Provided From Operating Activities    1,704,951    2,445,935 
           
Cash Flows Used For Investing Activities:          
Capital Expenditures    (7,895)   (18,314)
Capitalized Software Development Expenditures    ––    (1,430,289)
Net Cash Used For Investing Activities    (7,895)   (1,448,603)
           
Cash Flows Used For Financing Activities:          
Capital Lease – Principal Payments    (56,712)   (63,242)
Net Cash Used For Financing Activities    (56,712)   (63,242)
           
Net Increase in Cash and Cash Equivalents    1,640,344    934,090 
           
Cash and Cash Equivalents – Beginning of Periods    1,848,571    1,353,892 
 
Cash and Cash Equivalents – End of Periods
  $3,488,915   $2,287,982 
           
Supplemental Disclosures of Cash Flow Information          
Cash Paid During the Periods for:          
Interest   $136,483   $95,492 
Income Taxes   $7,608   $–– 
           


The Accompanying Notes are an Integral Part of These Consolidated Financial Statements.

6
 

COVER-ALL TECHNOLOGIES INC. AND SUBSIDIARY

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

[1] Description of Business

Cover-All Technologies Inc., through its wholly-owned subsidiary, Cover-All Systems, Inc. (collectively, the “Company”), licenses and maintains its software products for the property/casualty insurance industry throughout the United States and Puerto Rico. The subsidiary also provides professional consulting services to its customers interested in customizing their software.

[2] Basis of Presentation

The consolidated balance sheet as of December 31, 2013 has been derived from audited financial statements, and the unaudited interim financial statements have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles (“U.S. GAAP”) have been condensed or omitted pursuant to those rules and regulations, although the Company believes that the disclosures made are adequate to make the information not misleading. It is suggested that these consolidated financial statements be read in conjunction with the consolidated financial statements and the notes thereto included in the Company’s latest shareholders’ annual report on Form 10-K filed with the SEC on March 28, 2014 for the fiscal year ended December 31, 2013 (“Form 10-K”).

Amortization of capitalized software development costs in the amount of $1,181,000 and $2,273,000, as previously reflected in the Consolidated Statement of Operations for the three and six months ended June 30, 2013, respectively, have been reclassified from Cost of Revenues – Licenses to Operating Expenses – Amortization of Capitalized Software to conform to the current period presentation. This reclassification had no effect on the previously reported Net Income for the three and six month periods ended June 30, 2013.

The Company’s policy is to periodically review the estimated useful lives and value of its capitalized software costs. During the quarter ended March 31, 2014, this review indicated that the revised estimated life (5 years) for capitalized software differed from the useful lives (3 years) that had been previously used for amortization purposes in the Company’s financial statements. This revision in the estimated life is based upon the period over which the asset is expected to contribute directly or indirectly to the future cash flows of the Company. As a result, the Company revised the estimated useful lives of capitalized software, effective January 1, 2014. The effect of this change in estimate was to decrease amortization expense, increase operating income, and increase net income by $291,000 and $582,000 for the three and six month periods ended June 30, 2014, respectively.

In the opinion of management, all adjustments (which include normal and recurring nature adjustments) necessary to present a fair statement of the Company’s financial position as of June 30, 2014, and results of operations for the three and six month periods ended June 30, 2014 and 2013 and the cash flows for the six month periods ended June 30, 2014 and 2013, as applicable, have been made.

The results of operations for the three and six month periods ended June 30, 2014 and 2013 are not necessarily indicative of the operating results for the full fiscal year or any future periods.

[3] Capitalized Software Development Costs

Costs for the conceptual formulation and design of new software products are expensed as incurred until technological feasibility has been established. Once technological feasibility has been established, we capitalize costs to produce the finished software products. Capitalization ceases when the product is available for general release to customers. Costs associated with product enhancements that extend the original product’s life or significantly improve the original product’s marketability are also capitalized once technological feasibility has been established. Amortization is calculated on a product-by-product basis using the straight-line method over the remaining economic life of the product. The Company incurred capitalized software development costs of approximately $0 and $0, respectively, in the three and six months ended June 30, 2014 compared to approximately

7
 

COVER-ALL TECHNOLOGIES INC. AND SUBSIDIARY

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

$646,000 and $1,430,000, respectively, in the same periods in 2013. Amortization of capitalized software development costs was approximately $373,000 and $745,000, respectively, in the three and six months ended June 30, 2014 compared to approximately $1,181,000 and $2,273,000, respectively, in the same periods in 2013.

[4] Earnings Per Share

The following is a reconciliation of the numerators and denominators of the basic and diluted earnings per share (“EPS”) computations:

   For the three months ended
June 30, 2014
   Income
(Numerator)
  Shares
(Denominator)
  Per Share
Amount
Basic EPS:               
Income Available to Common Stockholders   $327,789    26,638,477   $0.01 
Effect of Dilutive Securities:               
  Options and Restricted Stock    ––    273    –– 
Diluted EPS:               
Income Available to Common Stockholders
  Plus Assumed Exercises
  $327,789    26,638,750   $0.01 

 

   For the three months ended
June 30, 2013
   Income
(Numerator)
  Shares
(Denominator)
  Per Share
Amount
Basic EPS:               
Income Available to Common Stockholders   $(1,148,999)   26,081,985   $(0.04)
Effect of Dilutive Securities:               
  Options and Restricted Stock    ––    ––    –– 
Diluted EPS:               
Income Available to Common Stockholders
  Plus Assumed Exercises
  $(1,148,999)   26,081,985   $(0.04)

 

   For the six months ended
June 30, 2014
   Income
(Numerator)
  Shares
(Denominator)
  Per Share
Amount
Basic EPS:               
Income Available to Common Stockholders   $761,638    26,590,825   $0.03 
Effect of Dilutive Securities:               
  Options and Restricted Stock    ––    2,630    –– 
Diluted EPS:               
Income Available to Common Stockholders
  Plus Assumed Exercises
  $761,638    26,593,455   $0.03 

 

8
 

COVER-ALL TECHNOLOGIES INC. AND SUBSIDIARY

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

   For the six months ended
June 30, 2013
   Income
(Numerator)
  Shares
(Denominator)
  Per Share
Amount
Basic EPS:               
Income Available to Common Stockholders   $(443,673)   26,026,092   $(0.02)
Effect of Dilutive Securities:               
  Options and Restricted Stock    ––    ––    –– 
Diluted EPS:               
Income Available to Common Stockholders
  Plus Assumed Exercises
  $(443,673)   26,026,092   $(0.02)

 

[5] Stock-Based Compensation and Stock Purchase Plans

Stock Options

In the three and six months ended June 30, 2014, we recognized approximately $101,770 and $172,116, respectively, of stock-based compensation expense in our consolidated financial statements.

In June 2005, we adopted the 2005 Stock Incentive Plan (as amended, the “2005 Plan”). Options and stock awards for the purchase of up to 5,000,000 shares may be granted by the Board of Directors to our employees and consultants at an exercise or grant price determined by the Board of Directors on the date of grant. Options may be granted as incentive or nonqualified stock options with a term of not more than ten years. The 2005 Plan allows the Board of Directors to grant restricted or unrestricted stock awards or awards denominated in stock equivalent units, securities or debentures convertible into common stock, or any combination of the foregoing, and may be paid in common stock or other securities, in cash, or in a combination of common stock or other securities and cash. At June 30, 2014, an aggregate of 1,593,684 shares were available for grant under the 2005 Plan.

The Company uses the Black-Scholes-Merton option pricing model (“Black-Scholes”) to measure fair value of the share-based awards. The Black-Scholes model requires us to make significant judgments regarding the assumptions used within the model, the most significant of which are the expected stock price volatility, the expected life of the option award, the risk-free interest rate of return and dividends during the expected term.

- Expected volatilities are based on historical volatility of the Company’s stock during the preceding periods.

- The Company uses historical data to estimate the expected life of option awards. The expected term of options granted represents the period of time that options granted are expected to be outstanding.

- The risk-free interest rate for periods within the contractual life of the option is based on the U.S. Treasury yields for an equivalent term at the time of grant.

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COVER-ALL TECHNOLOGIES INC. AND SUBSIDIARY

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

- The Company does not anticipate issuance of dividends during the expected term.

 

  2014 2013
     
Expected volatility 41%-50% 41%-50%
Weighted-average volatility 41% 41%
Expected dividends 0% 0%
Expected term (in years) 3-5 3-5
Risk-free interest rate 0.46% 3%

 

As of June 30, 2014, there was approximately $236,041 of total unrecognized compensation cost related to non-vested share-based compensation arrangements previously granted by the Company. That cost is expected to be recognized over a weighted-average period of 0.5 years.

A summary of the changes in our outstanding common stock options for all outstanding plans for the six months ended June 30, 2014 is as follows:

 

Shares

Exercise Price
Per Share

Weighted-Average
Remaining
Contractual Life

Weighted-Average
Exercise Price

Balance, January 1, 2014 1,787,500 $ 1.00 – 1.67 2.2 years $ 1.48
    Exercised (450,000) 1.04    1.04
    Cancelled

(270,000)

1.55 – 1.63

   1.62

Balance, June 30, 2014

1,067,500

$ 1.50 – 1.67

2.5 years

$ 1.62

 

Of the stock options outstanding, an aggregate of 555,500 are currently exercisable.

The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options, which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because our employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management’s opinion, the existing models do not necessarily provide a reliable single measure of the fair value of our employee stock options.

Warrants

As of June 30, 2014, there were 1,442,000 warrants outstanding. A summary of the changes in outstanding warrants is as follows:

 

Outstanding
and Exercisable
Warrants

Exercise Price
Per Warrant

Weighted-Average
Remaining
Contractual Life

Weighted-Average
Exercise Price

Balance, January 1, 2014 1,442,000 $ 1.48 3.7 $ 1.48
Balance, June 30, 2014 1,442,000 $ 1.48 3.2 $ 1.48

 

Time-Based Restricted Stock Units

A summary of the changes in our time-based restricted stock units, or RSUs, for the six months ended June 30, 2014 is as follows:

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COVER-ALL TECHNOLOGIES INC. AND SUBSIDIARY

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 

   Shares  Weighted-Average Grant
Date Fair Value Per Share
Balance, January 1, 2014     169,309   $1.65 
     Granted     123,218    1.39 
     Cancelled          
     Vested     (91,250)   1.65 
Balance, June 30, 2014     201,277   $1.49 

 

We follow Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 718, Accounting for Stock Options and Other Stock-Based Compensation. Among other items, ASC 718 requires companies to record compensation expense for share-based awards issued to employees and directors in exchange for services provided. The amount of the compensation expense is based on the estimated fair value of the awards on their grant dates and is recognized over the required service periods. Our share-based awards include stock options and restricted stock awards. For restricted stock awards, the calculation of compensation expense under ASC 718 is based on the intrinsic value of the grant.

[6] Income Taxes

The deferred tax asset from tax net operating loss carryforwards of approximately $4,673,000 represents approximately $11,800,000 of net operating loss carryforwards which are subject to expiration beginning in 2023. During the six months ended June 30, 2014, the deferred tax asset valuation allowance was decreased for the assumed utilization of prior period net operating loss carryforwards utilized to offset taxable income for the current period, subject to federal alternative minimum tax limitations. In assessing the realizability of deferred tax assets, management considers, within each taxing jurisdiction, whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The Company considers the scheduled reversal of deferred tax liabilities, projected future taxable income, and tax planning strategies in making this assessment. Factors that may affect the Company’s ability to achieve sufficient forecasted taxable income in future periods may include, but are not limited to, the following: increased competition; a decline in sales or margins; a loss of market share; and a decrease in demand for professional services. Based upon the levels of historical taxable income and projections for future taxable income over the years in which the deferred tax assets are deductible, at June 30, 2014, management believes that it is more likely than not that the Company will realize the benefits, net of the established valuation allowance, of these deferred tax assets in the future.

The Tax Reform Act of 1986 enacted a complex set of rules which limits a company’s ability to utilize net operating loss carryforwards and tax credit carryforwards in periods following an ownership change. These rules define an ownership change as a greater than 50 percent point change in stock ownership within a defined testing period which is generally a three-year period. As a result of stock which may be issued by us from time to time, and the conversion of outstanding warrants, or the result of other changes in ownership of our outstanding stock, the Company may experience an ownership change and consequently our utilization of net operating loss carryforwards could be significantly limited.

[7] Recently Issued Accounting Standards

From time to time, new accounting pronouncements are issued by the FASB or other standard setting bodies that are adopted by the Company as of the specified effective date. Unless otherwise discussed, the Company believes that the impact of recently issued standards that are not yet effective will not have a material impact on its financial position or consolidated results of operations upon adoption.

In July 2013, the FASB issued an accounting standard update, “Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or Tax Credit Carryforward Exists.” This

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COVER-ALL TECHNOLOGIES INC. AND SUBSIDIARY

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

standard requires netting of unrecognized tax benefits against a deferred tax asset for a loss or other carryforward that would apply in settlement of the uncertain tax positions. This standard is effective prospectively for annual and interim periods beginning December 16, 2013. The adoption of this guidance did not have a significant effect on the consolidated financial statements.

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606). The ASU is the result of a joint project by the FASB and the International Accounting Standards Board (“IASB”) to clarify the principles for recognizing revenue and to develop a common revenue standard for GAAP and International Financial Reporting Standards (“IFRS”) that would: remove inconsistencies and weaknesses; provide a more robust framework for addressing revenue issues; improve comparability of revenue recognition practices across entities, jurisdictions, industries, and capital markets; improve disclosure requirements and resulting financial statements; and simplify the presentation of financial statements. The core principle of the new guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The ASU is effective for annual reporting periods beginning after December 15, 2016. Early adoption is not permitted. We are currently evaluating the effect that the updated standard will have on our consolidated financial statements and related disclosures.

We believe there is no additional new accounting guidance adopted, but not yet effective, that is relevant to the readers of our financial statements. However, there are numerous new proposals under development which may have a significant impact on the Company’s financial reporting, if and when enacted.

[8] Long-Term Debt

On September 11, 2012, the Company entered into a Loan and Security Agreement (“Loan Agreement”) between and among Imperium Commercial Finance Master Fund, LP, a Delaware limited partnership (“Imperium”), as lender, Cover-All Systems, Inc., a wholly-owned subsidiary of the Company (the “Subsidiary”), as borrower, and the Company, as a guarantor. The Loan Agreement provides for a three-year term loan to the Subsidiary of $2,000,000, evidenced by a Term Note in favor of Imperium, and a three-year revolving credit line to the Subsidiary of up to $250,000, evidenced by a Revolving Credit Note in favor of Imperium (together with the Term Note, the “Imperium Notes”). The amount available to be borrowed under the revolving credit line may not exceed 80% of Eligible Accounts (as defined in the Loan Agreement). All amounts borrowed under the term loan and the revolving credit line are secured by a security interest in all of the assets of the Subsidiary and guaranteed by the Company, which guarantee is secured by a pledge by the Company of all of the outstanding shares of capital stock of the Subsidiary. As of June 30, 2014, no balance was outstanding under the Revolving Credit Line. As of June 30, 2014 the Long-Term Debt balance consists of the following:

Principal Balance Outstanding  $2,000,000 
Discount   (262,035)
Long-Term Debt  $1,737,965 

 

Interest on the outstanding principal balance under the Imperium Notes accrues at a fixed rate equal to 8% per annum and is payable monthly. The $2,000,000 principal balance and any remaining interest under the Imperium Notes will be immediately due and payable on the earliest of (1) September 10, 2015, or (2) the date Imperium’s obligation to advance funds under the revolving credit line is terminated following an event of default pursuant to the terms and conditions of the Loan Agreement. Payments and prepayments received by Imperium will be applied against principal and interest as provided for in the Loan Agreement.

The Loan Agreement contains customary representations, warranties, affirmative and negative covenants, and events of default. If an event of default occurs and is continuing, Imperium has certain rights and remedies under the Loan Agreement. Additionally, the Loan Agreement requires the Company to maintain minimum

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

revenues and earnings before interest, taxes, depreciation and amortization (“EBITDA”), tested annually, commencing with the twelve months ending September 30, 2013.

In connection with the Loan Agreement, the Company issued to Imperium a five-year warrant (the “Stock Purchase Warrant”) to purchase 1,400,000 shares of the Company’s common stock at an exercise price of $1.48 per share. The Stock Purchase Warrant is not exercisable until the earliest of (i) the date when Current Market Value (as defined therein) exceeds the exercise price multiplied by two, (ii) the date of a Change of Control (as defined therein), and (iii) the third anniversary of the date of issuance of the Stock Purchase Warrant. The Stock Purchase Warrant provides for adjustments to the exercise price and the number of shares issuable upon exercise in certain events to protect against dilution and for cashless exercise. The Stock Purchase Warrant also required the Company to file a registration statement with the SEC with respect to the shares issuable upon exercise of the Stock Purchase Warrant within 45 days of the date of issuance of the Stock Purchase Warrant, and that the Company use its best efforts to obtain the effectiveness of such registration statement within 90 days (subject to extension to 120 days) of the date of issuance of the Stock Purchase Warrant. The Company filed the Registration Statement and it was effective in the required time frame. If the Company failed to comply with its obligations to file the registration statement and obtain its effectiveness within the specified periods, and in certain other events, the Company would have been required to pay Imperium, for each month such failure continued, the amount of $22,500. The Stock Purchase Warrant also provided for piggyback registration rights. The proceeds from the $2,000,000 Imperium Note were allocated using the relative fair value method, to both the notes payable balance and warrants issued.

The Company also issued five-year warrants (the “Monarch Warrants”) to purchase 42,000 shares, in the aggregate, of the Company’s common stock at an exercise price of $1.48 per share, to Monarch Capital Group, LLC (“Monarch”), which acted as the Company’s financial adviser in connection with the loan transaction, and an officer of Monarch. The Monarch Warrants are not exercisable until the earliest of (i) the date when the Current Exercise Price (as defined therein) exceeds the exercise price multiplied by two, (ii) the date of a Change of Control transaction (as defined therein), and (iii) the third anniversary of the date of issuance. The Monarch Warrants provide for adjustment to the exercise price and the number of shares issuable upon exercise in certain events to protect against dilution and for cashless exercise. The Monarch Warrants also provided for piggyback registration rights. On April 10, 2013, the Company amended and restated the terms of the Imperium Warrant and each of the Finder’s Warrants to provide that the aggregate number of shares issuable on exercise of the Imperium Warrant and the Finder’s Warrants shall not exceed 19.9% of the Company’s issued and outstanding shares of common stock at the date of original issuance (i.e., 5,171,145 shares of common stock based on 25,857,730 shares of common stock issued and outstanding at September 11, 2012) without first obtaining the approval of the Company’s stockholders.

In connection with the Imperium Loan Agreement financing, the Company incurred deferred financing costs of approximately $92,000, which will be amortized over the life of the loan (or earlier if the loan becomes due or is repaid before its fixed maturity).

[9] Commitments and Contingencies

Sales and Use Tax Audit

The New York State Department of Taxation and Finance (the “Department”) conducted an examination of the Company for state sales and use tax for audit periods March 1, 2009 through February 28, 2013. In February 2014, the Company received a Statement of Proposed Audit Change from the Department. The Change asserts proposed Sales and Use Tax due in the amount of approximately $191,600 together with interest of approximately $46,400. Interest will continue to accrue on the proposed outstanding balances until the date of payment. On March 11, 2014, the Company paid the Department an aggregate of approximately $238,000 in satisfaction in full of all amounts owed in connection with such examination.

 

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Item 2: Management’s Discussion and Analysis of Financial Condition and Results of Operations.

Certain of the matters discussed in this report, including, without limitation, matters discussed under this Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” may constitute forward-looking statements (as such term is defined in the Private Securities Litigation Reform Act) and are subject to the occurrence of certain risks, uncertainties and contingencies which may not occur in the time frames anticipated or otherwise, and, as a result, could cause actual results to differ materially from such statements. In addition to other factors and matters discussed elsewhere in this Quarterly Report on Form 10-Q and in our other filings with the Securities and Exchange Commission (“SEC”) over the last 12 months, including our Annual Report on Form 10-K filed with the SEC on March 28, 2014, these risks, uncertainties and contingencies include, but are not limited to, risks associated with increased competition, customer decisions, the successful completion of continuing development of new products, the successful negotiation, execution and implementation of anticipated new software contracts, the successful addition of personnel in the marketing and technical areas and our ability to complete development and sell and license our products at prices which result in sufficient revenues to realize profits, and other business factors beyond our control.

Overview

We are a supplier of software products for the property and casualty insurance industry, supplying a wide range of professional services that support product customization, conversion from existing systems and data integration with other software or reporting agencies. We also offer on-going support services including incorporating recent insurance rate and rule changes in our solutions. These support services also include analyzing the changes, developments, quality assurance, documentation and distribution of insurance rate and rule changes.

We earn revenue from software contract licenses, fees for servicing the product, which we call support services, and professional services. Total revenue for the three months ended June 30, 2014 increased to approximately $5,001,000 from approximately $4,004,000 for the three months ended June 30, 2013, mainly due to an increase in support and professional services revenues for the three months ended June 30, 2014. Total revenue for the six months ended June 30, 2014 decreased to approximately $10,209,000 from approximately $10,889,000 for the six months ended June 30, 2013, mainly due to a decrease in license revenue.

The following is an overview of the key components of our revenue and other important financial data for the three and six months ended June 30, 2014:

Software Licenses. Our license revenue in the three and six months ended June 30, 2014 of approximately $227,000 and $1,034,000, respectively, was from new and existing customers who chose to renew, add onto or extend their use of our software. For the three and six months ended June 30, 2013, we generated approximately $697,000 and $4,320,000, respectively, in license revenue. Our new software license revenue is affected by the strength of general economic and business conditions and the competitive position of our software products. New software license sales are characterized by long sales cycles and intense competition. Timing of new software license sales can substantially affect our quarterly results.

Support Services. Support services revenue was approximately $2,121,000 and $4,251,000, respectively, in the three and six months ended June 30, 2014 compared to approximately $1,981,000 and $4,004,000, respectively, in the same periods in 2013. Support services revenue is influenced primarily by the following factors: the renewal rate from our existing customer base; the amount of new maintenance associated with new license sales; and annual price increases.

Professional Services. Professional services revenue was approximately $2,653,000 and $4,924,000, respectively, in the three and six months ended June 30, 2014 compared to approximately $1,326,000 and $2,565,000, respectively, in the same periods of 2013, due to an increase in demand for customizations and implementations of Cover-All Policy in the three and six months ended June 30, 2014.

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Income (Loss) before Income Taxes. Income (loss) before income taxes was approximately $332,000 and $769,000, respectively, in the three and six months ended June 30, 2014 compared to approximately $(1,145,000) and $(436,000), respectively, in the same periods of 2013, primarily due to an increase in support and professional services revenue and our continuing and ongoing effort to maintain our expenses in line with our revenues for the six months ended June 30, 2014.

Net Income (Loss). Net income (loss) for the three and six months ended June 30, 2014 was approximately $328,000 and $762,000, respectively, compared to approximately $(1,149,000) and $(444,000), respectively, in the same periods of 2013. This was mainly a result of an increase in support and professional services revenue in the three months ended June 30, 2014.

EBITDA. Earnings before interest, taxes, depreciation and amortization (“EBITDA”), a non-GAAP metric, was approximately $872,000 and $1,880,000, respectively, for the three and six months ended June 30, 2014 compared to approximately $217,000 and $2,214,000, respectively, for the three and six months ended June 30, 2013.

Cash Flow. We generated approximately $1,705,000 in positive cash flow from operations in the first six months of 2014 and ended the period with approximately $3,489,000 in cash and cash equivalents and approximately $1,398,000 in accounts receivable.

We continue to face competition for growth in 2014 mainly in the marketing and selling of our products and services to new customers, caused by a number of factors, including long sales cycles and general economic and business conditions. In addition, there are risks related to customers’ acceptance and implementation delays, which could affect the timing and amount of license revenue we are able to recognize. However, given the positive response to our new software from existing customers and the introduction of additional software capabilities, we are expanding our sales and marketing efforts to both new and existing customers. Consequently, we are incurring additional sales and marketing expense in advance of generating the corresponding revenue.

As we shift over time from software development to deployment, from a financial perspective, the non-cash charges for amortization of developed software will increasingly impact our bottom line. Therefore, in order to provide more visibility to investors, we have decided to also report EBITDA to show what we believe is the Company’s earnings power without the impact of, among other items, amortization. In the first six months of 2014, the non-cash charge for amortization of capitalized software decreased to $745,000 from $2,273,000 in the same period in 2013, and we expect this amount to be approximately $1,500,000, or $0.06 per share, in 2014, depending on our sales success. Therefore, we believe that EBITDA will be a useful measure of the true earnings power of the Company while we complete the development and deployment cycle. As such, we expect to increasingly focus on EBITDA to evaluate our progress.

USE OF NON-GAAP FINANCIAL MEASURES

In evaluating our business, we consider and use EBITDA as a supplemental measure of our operating performance. The Company defines EBITDA as earnings before interest, taxes, depreciation and amortization. The Company presents EBITDA because it believes it is frequently used by securities analysts, investors and other interested parties as a measure of financial performance.

The term EBITDA is not defined under U.S. generally accepted accounting principles, or U.S. GAAP, and is not a measure of operating income, operating performance or liquidity presented in accordance with U.S. GAAP. EBITDA has limitations as an analytical tool, and when assessing the Company’s operating performance, investors should not consider EBITDA in isolation, or as a substitute for net income (loss) or other consolidated income statement data prepared in accordance with U.S. GAAP. Among other things, EBITDA does not reflect the Company’s actual cash expenditures. Other companies may calculate similar measures differently than we do, limiting their usefulness as comparative tools. We compensate for these limitations by relying on our U.S. GAAP results and using EBITDA only supplementally.

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The following is an unaudited reconciliation of U.S. GAAP net income to EBITDA for the three and six months ended June 30, 2014 and 2013:

   Three months ended June 30,  Six months ended June 30,
   2014  2013  2014  2013
Net Income (Loss)   $327,789   $(1,148,999)  $761,638   $(443,673)
                     
Interest Income (Expense), Net    95,270    90,912    188,942    183,423 
Income Tax Expense    3,920    3,505    7,608    8,171 
Depreciation    49,429    66,398    131,258    128,236 
Amortization:                    
Amortization of Capitalized Software    372,638    1,181,017    745,276    2,273,124 
Amortization of Customer Lists/Relationships    15,167    17,408    30,334    50,908 
Amortization of Deferred Financing Costs    7,810    6,947    15,395    13,693 
Total Amortization    395,615    1,205,372    791,005    2,337,725 
                     
EBITDA   $872,023   $217,188   $1,880,451   $2,213,882 
                     
EBITDA per Common Share:                    
Basic   $0.03   $0.01   $0.07   $0.09 
Diluted   $0.03   $0.01   $0.07   $0.09 

 

 

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Results of Operations

The following table sets forth, for the periods indicated, certain items from the consolidated statements of operations expressed as a percentage of total revenues:

   Three Months
Ended June 30,
  Six Months
Ended June 30,
   2014  2013  2014  2013
Revenues:                    
License   4.5%   17.4%   10.1%   39.7%
Support Services   42.4    49.5    41.6    36.8 
Professional Services   53.1    33.1    48.3    23.5 
Total Revenues   100.0    100.0    100.0    100.0 
                     
Cost of Revenues:                    
License   ––    (7.7)   ––    0.4 
Support Services   29.3    40.9    30.9    39.6 
Professional Services   24.2    19.1    22.7    13.3 
Total Cost of Revenues   53.5    52.3    53.6    53.3 
Direct Margin   46.5    47.7    46.4    46.7 
                     
Operating Expenses:                    
Sales and Marketing   10.9    13.1    10.0    10.8 
General and Administrative   15.1    12.2    14.6    9.8 
Amortization of Capitalized Software   7.5    29.4    7.3    20.9 
Research and Development   4.5    19.4    5.1    7.6 
Total Operating Expenses   38.0    74.1    37.0    49.1 
Operating (Loss) Income   8.5    (26.4)   9.4    (2.4)
                     
Other Expense (Income):                    
Interest Expense (Income)   1.9    2.3    1.9    1.7 
Other Income   ––    (0.1)   ––    (0.1)
Total Other Expense (Income)   1.9    2.2    1.9    1.6 
Income (Loss) Before Income Taxes   6.6    (28.6)   7.5    (4.0)
                     
Income Taxes   ––    0.1    ––    0.1 
                     
Net Income (Loss)   6.6%   (28.7)%   7.5%   (4.1)%

 

Three and Six Months Ended June 30, 2014 Compared to Three and Six Months Ended June 30, 2013

Total revenues for the three months ended June 30, 2014 were approximately $5,001,000 compared to approximately $4,004,000 for the same period in 2013. License fees were approximately $227,000 for the three months ended June 30, 2014 compared to approximately $697,000 in the same period in 2013 as a result of fewer sales to new and existing customers in 2014. For the three months ended June 30, 2014, support services revenues were approximately $2,121,000 compared to approximately $1,981,000 in the same period of the prior year primarily due to the annual renewals from existing customers and new customer contracts signed in 2013. Professional services revenue contributed approximately $2,653,000 in the three months ended June 30, 2014 compared to approximately $1,326,000 in the second quarter of 2013, as a result of an increase in demand for new software capabilities and customizations from our current customer base and implementation of Cover-All Policy for our new customers.

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For the six months ended June 30, 2014, total revenues were approximately $10,209,000 compared to approximately $10,889,000 in the same period of the prior year as a result of an increase in support and professional services revenue offset by a decrease in license sales for the six months ended June 30, 2014.

Cost of sales was approximately $2,674,000 and $5,471,000, respectively, for the three and six months ended June 30, 2014 compared to approximately $2,092,000 and $5,807,000, respectively, for the same periods in 2013 due to an increase in personnel-related costs in the six months ended June 30, 2014. In the second quarter of 2013, we reversed the bonus accrual of $310,000 we had accrued in the first quarter of 2013. We are expanding our delivery bandwidth while maintaining our costs in line with our revenues through improved productivity and new technology in order to meet our increasing demand. Non-cash capitalized software amortization was approximately $373,000 and 745,000, respectively, for the three and six months ended June 30, 2014 as compared to approximately $1,181,000 and $2,273,000, respectively, for the same periods in 2013. We capitalized approximately $0 and $0, respectively, of software development costs in the three and six months ended June 30, 2014 as compared to approximately $646,000 and $1,430,000, respectively, in the same periods in 2013.

The direct margin during the three and six month periods ended June 30, 2014 was 46.5% and 46.4%, respectively, compared to 47.7% and 46.7%, respectively, in the same periods in 2013. Support services margin increased in the three and six months ended June 30, 2014 compared to the same periods in 2013 primarily due to several cost saving initiatives. Professional services direct margin increased for the three and six months ended June 30, 2014, compared to the same periods in 2013, primarily due to use of offshore resources to provide customizations to new and existing customers.

We expect our quarterly gross margin to vary in percentage terms in future periods as we experience changes in the mix between higher gross margin license revenues and lower gross margin services revenues.

Amortization of capitalized software was approximately $373,000 and $745,000, respectively, for the three and six months ended June 30, 2014, as compared to approximately $1,181,000 and $2,273,000, respectively, in the same periods of 2013. The Company revised the estimated useful life of its capitalized software, effective January 1, 2014, from three years to five years.

Research and development expenses decreased to approximately $228,000 and $524,000, respectively, for the three and six months ended June 30, 2014 as compared to approximately $775,000 and $826,000, respectively, for the same periods in 2013, primarily as a result of work on fewer new products and capabilities. We are continuing our ongoing efforts to enhance the functionality of our products and solutions and believe that investments in research and development are critical to our remaining competitive in the marketplace.

Sales and marketing expenses were approximately $543,000 and $1,022,000, respectively, for the three and six months ended June 30, 2014 was compared to approximately $526,000 and $1,174,000, respectively, in the same periods of 2013. This increase in the second quarter of 2014 was primarily due to an increase in our marketing and sales staff, resulting in an increase in personnel-related costs and in expenditures related to advertising and promotion.

General and administrative expenses increased to approximately $756,000 and $1,489,000, respectively, in the three and six months ended June 30, 2014 as compared to approximately $489,000 and $1,066,000, respectively, in the same periods in 2013. This increase in 2014 was mainly due to reclassing of all facilities costs to general and administrative expenses in 2014.

Liquidity and Capital Resources

Sources of Liquidity

We have funded our operations primarily from cash flow from operations and from debt facilities. Cash from operations results primarily from net income from the income statement plus non-cash expenses (depreciation and amortization) and is adjusted for changes in working capital from the balance sheet.

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Our largest source of operating cash flows is cash collections from our customers following the purchase or renewal of software licenses, product support agreements and other related services. Payments from customers for software licenses are generally received at the beginning of the contract term. Payments from customers for support services and ASP services are generally received in advance on a quarterly basis. Payments for professional services are generally received 30 days after the services are performed.

On September 11, 2012, we entered into a $2,250,000 credit facility with Imperium Commercial Finance Master Fund, LP, an affiliate of Imperium Partners (the “Loan Agreement”). The $2,250,000 credit facility, which will support our product/services expansion and growth initiatives, consists of a $2,000,000 three-year term loan, bearing interest at a fixed rate of 8% per annum, and a $250,000 revolving credit facility, also bearing interest at a fixed rate of 8% per annum. Imperium also received five-year warrants to purchase 1,400,000 shares of our common stock, with an exercise price of $1.48 per share.

In connection with the Imperium Loan Agreement financing, we incurred deferred financing costs of $92,283, which will be amortized over the life of the loan (or earlier if the loan becomes due or is repaid before its fixed maturity).

At June 30, 2014, we had cash and cash equivalents of approximately $3,489,000 compared to cash and cash equivalents of approximately $1,849,000 at December 31, 2013. The increase in cash and cash equivalents is primarily attributable to the increase in support and professional services revenue in the six months ended June 30, 2014.

Cash Flows

Our ability to generate cash has depended on a number of different factors, primarily our ability to continue to secure and retain existing customers and generate new license sales and related product support agreements. In order to attract new customers and maintain or grow existing revenue streams, we utilize our existing sources of capital to invest in sales and marketing, technology infrastructure and research and development.

Our ability to continue to control expenses, maintain existing revenue streams and anticipate new revenue will impact the amounts and certainty of cash flows. We intend to maintain our expenses in line with existing revenue streams from maintenance support, ASP services and professional services and to invest in our products consistent with our sales efforts.

Balance sheet items that should be considered in assessing our liquidity include cash and cash equivalents, accounts receivable, prepaid expenses, accounts payable and accrued liabilities. Statement of operations items that should be considered in assessing our liquidity include revenues, cost of revenues (net of depreciation and amortization), operating expenses (net of depreciation and amortization) and other expenses. Statement of cash flows items that should be considered in assessing our liquidity include net cash flows from operating activities, net cash flows from investing activities and net cash flows from financing activities.

At June 30, 2014, we had working capital of approximately $2,040,000 compared to working capital of approximately $(19,000) at December 31, 2013. For the six months ended June 30, 2014, net cash provided from operating activities totaled approximately $1,705,000 compared to approximately $2,446,000 for the six months ended June 30, 2013 due to a decrease in license revenue for the six months ended June 30, 2014. In 2014, cash flow from operating activities represented the Company’s principal source of cash and results primarily from net income (loss), less non-cash expense and changes in working capital.

For the six months ended June 30, 2014, net cash used for investing activities was approximately $8,000 compared to approximately $1,449,000 for the six months ended June 30, 2013. The Company expects capital expenditures and capital software expenditures to continue to be funded by cash generated from operations. For the six months ended June 30, 2014, net cash used for financing activities was approximately $57,000 compared to approximately $63,000 for the six months ended June 30, 2013. The cash used for financing activities in 2014 consisted of the principal payments on our capital lease.

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Funding Requirements

Our primary uses of cash are for operating expenses, including personnel-related expenditures, facilities and technology costs, and for interest only payments under our Loan Agreement.

We may need additional funding for any large capital expenditures and for continued product development. We lease computer equipment for terms of three years in order to have the latest available technology to serve our customers and develop new products.

Interest on the outstanding principal balance under the Imperium Notes accrues at a fixed rate equal to 8% per annum and is payable monthly, in arrears. The outstanding principal and any remaining interest under the Imperium Notes will be immediately due and payable to Imperium on the earlier of (1) September 10, 2015 and (2) the date Imperium’s obligation to advance funds under the revolving credit line is terminated following an event of default pursuant to the terms and conditions of the Loan Agreement. Payments and prepayments received by Imperium will be applied against principal and interest as provided for in the Loan Agreement.

On December 16, 2011, we announced that our board of directors authorized a share buyback plan of up to 1,000,000 shares of the Company’s common stock, in accordance with Rule 10b-18 under the Securities Exchange Act of 1934, as amended (the “Exchange Act”). The Imperium Loan Agreement prohibits buybacks of our common stock.

On December 30, 2011, the Company completed the acquisition of the PipelineClaims assets (excluding working capital) of Ho’ike Services, Inc. dba BlueWave Technology (“BlueWave”), a provider of enterprise claims management software to the property and casualty insurance industry based in Honolulu, Hawaii. The aggregate purchase price for the acquisition, in addition to the assumption by the Company of certain assumed liabilities, consisted of the following: (i) $1,100,000 in cash on the closing date, (x) $635,821 of which (net of adjustments for certain prepayments to BlueWave and other prorations) was paid in cash to BlueWave, and (y) $400,000 of which was deposited into an escrow account to be held and distributed by an escrow agent pursuant to the terms of an escrow agreement to secure possible future indemnification claims and certain other post-closing matters in favor of the Company; and (ii) up to an aggregate of $750,000 in an earnout, which earnout will be based upon the performance of the acquired business in the five years following the closing. More particularly, for each of the five years following the closing, BlueWave will be entitled to receive an amount equal to ten percent (10%) of the PipelineClaims Free Cash Flow (as such term is defined in the purchase agreement) but in no event will the Company be required to pay to BlueWave in excess of $750,000 in the aggregate for the 5-year period. For each of the first two years following the closing of the BlueWave transaction, BlueWave was not entitled to receive any earnout payment. In December 2012, we received a disbursement from the escrow account of $250,000 as a result of a contractual provision entitling us to such amount if PipelineClaims was not licensed by Island Insurance by December 31, 2012.

We prepare monthly cash flow projections on a rolling twelve-month basis based on a detailed review of anticipated receipts and revenue from licenses, support services and professional services. We also perform a detailed review of our disbursements, including fixed costs, variable costs, legal costs, payroll costs and other specific payments, on a rolling twelve-month basis.

We believe that our current cash balances and anticipated cash flows from operations will be sufficient to meet our normal operating needs for at least the next twelve months. These projections include anticipated sales of new licenses, the exact timing of which cannot be predicted with absolute certainty and can be influenced by factors outside the Company’s control. Our ability to fund our working capital needs and address planned capital expenditures will depend on our ability to generate cash in the future. We anticipate generating future working capital through sales to new customers and continued sales and services to our existing customers.

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Our future liquidity and capital resource requirements will depend on many factors, including, but not limited to, the following trends and uncertainties we face:

·Our ability to generate cash is subject to general economic, financial, competitive and other factors beyond our control.
·Our need to invest resources in product development in order to continue to enhance our current product, develop new products, attract and retain customers and keep pace with competitive product introductions and technological developments.
·We experience competition in our industry and continuing technological changes.
·Insurance companies typically are slow in making decisions and have numerous bureaucratic and institutional obstacles, which can make our efforts to attain new customers difficult.
·We compete with a number of larger companies who have greater resources than those of ours.
·We compete on the basis of insurance knowledge, products, services, price, technological advances and system functionality and performance.
·Our operations continue to depend upon the continuing business of our existing customers and our ability to attract new customers.
·A decline in software spending in the insurance industry could result in a decrease in our revenue.

Material risks to cash flow from operations include delayed or reduced cash payments accompanying sales of new licenses or a decline in our services business. There can be no assurance that changes in our plans or other events affecting our operations will not result in materially accelerated or unexpected expenditures.

We do not expect for there to be a need for a change in the mix or relative cost of our sources of capital.

The New York State Department of Taxation and Finance (the “Department”) conducted an examination of the Company for state sales and use tax for audit periods March 1, 2009 through February 28, 2013. In February 2014, the Company received a Statement of Proposed Audit Change from the Department. The Change asserts proposed Sales and Use Tax due in the amount of approximately $191,600 together with interest of approximately $46,400. Interest will continue to accrue on the proposed outstanding balances until the date of payment. On March 11, 2014, the Company paid the Department an aggregate of approximately $238,000 in satisfaction in full of all amounts owed in connection with such examination.

Net Operating Loss Carryforwards

The deferred tax asset from tax net operating loss carryforwards of approximately $4,673,000 represents approximately $11,800,000 of net operating loss carryforwards which are subject to expiration beginning in 2028. During the six months ended June 30, 2014, the deferred tax asset valuation allowance was decreased for the assumed utilization of prior period net operating loss carryforwards utilized to offset taxable income for the current period, subject to federal alternative minimum tax limitations. In assessing the realizability of deferred tax assets, management considers, within each taxing jurisdiction, whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The Company considers the scheduled reversal of deferred tax liabilities, projected future taxable income, and tax planning strategies in making this assessment. Factors that may affect the Company’s ability to achieve sufficient forecasted taxable income in future periods may include, but are not limited to, the following: increased competition, a decline in sales or margins, a loss of market share, and a decrease in demand for professional services. Based upon the levels of historical taxable income and projections for future taxable income over the years in which the deferred tax assets are deductible, at June 30, 2014, management believes that it is more likely than not that the Company will realize the benefits, net of the established valuation allowance, of these deferred tax assets in the future.

The Tax Reform Act of 1986 enacted a complex set of rules which limits a company’s ability to utilize net operating loss carryforwards and tax credit carryforwards in periods following an ownership change. These rules define an ownership change as a greater than 50 percent point change in stock ownership within a defined testing period which is generally a three-year period. As a result of stock which may be issued by us from time to time, and the conversion of outstanding warrants, or the result of other changes in ownership of our outstanding stock, the

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Company may experience an ownership change and consequently our utilization of net operating loss carryforwards could be significantly limited.

Off-Balance Sheet Transactions

We do not maintain any off-balance sheet transactions, arrangements, obligations or other relationships with unconsolidated entities or others that are reasonably likely to have a material current or future effect on our condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.

Critical Accounting Policies and Estimates

The SEC has issued cautionary advice to elicit more precise disclosure in this Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” about accounting policies that management believes are most critical in portraying our financial results and in requiring management’s most difficult subjective or complex judgments.

The preparation of financial documents in conformity with accounting principles generally accepted in the United States of America requires management to make judgments and estimates. On an on-going basis, we evaluate our estimates, the most significant of which include establishing allowances for doubtful accounts, a valuation allowance for our deferred tax assets and determining the recoverability of our long-lived assets. The basis for our estimates are historical experience and various assumptions that are believed to be reasonable under the circumstances, given the available information at the time of the estimate, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily available from other sources. Actual results may differ from the amounts estimated and recorded in our financial statements.

We believe the following critical accounting policies affect our more significant judgments and estimates used in the preparation of our consolidated financial statements:

·Revenue Recognition
·Valuation of Capitalized Software
·Valuation of Allowance for Doubtful Accounts Receivable
·Deferred Income Taxes

 

Revenue Recognition

Revenue recognition rules are very complex, and certain judgments affect the application of our revenue policy. The amount and timing of our revenues is difficult to predict, and any shortfall in revenue or delay in recognizing revenue could cause our operating results to vary significantly from quarter to quarter. In addition to determining our results of operations for a given period, our revenue recognition determines the timing of certain expenses, such as commissions, royalties and other variable expenses.

Our revenues are recognized in accordance with FASB ASC 986-605, “Software Revenue Recognition,” as amended. Revenue from the sale of software licenses is predominately related to the sale of standardized software and is recognized when these software modules are delivered and accepted by the customer, the license term has begun, the fee is fixed or determinable, and collectability is probable. Revenue from support services is recognized ratably over the life of the contract. Revenue from professional consulting services is recognized when the service is provided.

Amounts invoiced to our customers in excess of recognizable revenues are recorded as deferred revenues. The timing and amounts invoiced to customers can vary significantly depending on specific contract terms and can therefore have a significant impact on deferred revenues in any given period.

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Our revenues are derived from the licensing of our software products, professional services, and support services. We recognize revenue when persuasive evidence of an arrangement exists, we have delivered the product or performed the service, the fee is fixed or determinable, and collection is probable.

License Revenue. We recognize our license revenue upon delivery, provided that collection is determined to be probable and no significant obligations remain.

 

Services and Support Revenue. Our services and support revenue is composed of professional services (such as consulting services and training) and support services (maintenance, support and ASP services). Our professional services revenue is recognized when the services are performed. Our support services are recognized ratably over the term of the arrangement.

 

Valuation of Capitalized Software

 

Costs for the conceptual formulation and design of new software products are expensed as incurred until technological feasibility has been established. Once technological feasibility is established, we capitalize costs to produce the finished software products. Capitalization ceases when the product is available for general release to customers. Costs associated with product enhancements that extend the original product’s life or significantly improve the original product’s marketability are also capitalized once technological feasibility for that particular enhancement has been established. Amortization is calculated on a product-by-product basis as the greater of the amount computed using (a) the ratio that current gross revenues for a product bear to the total of current and anticipated future gross revenues for that product or (b) the straight-line method over the remaining economic life of the product. At each balance sheet date, the unamortized capitalized costs of each computer software product is compared to the net realizable value of that product. If an amount of unamortized capitalized costs of a computer software product is found to exceed the net realizable value of that asset, such amount will be written off. The net realizable value is the estimated future gross revenues from that product reduced by the estimated future costs of completing and deploying of that product, including the costs of performing maintenance and customer support required to satisfy our responsibility set forth at the time of sale.

Valuation of Allowance for Doubtful Accounts Receivable

Management’s estimate of the allowance for doubtful accounts is based on historical information, historical loss levels, and an analysis of the collectability of individual accounts. We routinely assess the financial strength of our customers and, based upon factors concerning credit risk, establish an allowance for uncollectible accounts. Management believes that accounts receivable credit risk exposure beyond such allowance is limited.

Deferred Income Taxes

Deferred income taxes are determined based on the estimated future tax effects of differences between the financial statement and tax bases of assets and liabilities given the provisions of enacted tax laws. Deferred income tax provisions and benefits are based on changes to the assets or liabilities from year to year. In providing for deferred taxes, we consider tax regulations of the jurisdictions in which we operate, estimates of future taxable income and available tax planning strategies. If tax regulations, operating results or the ability to implement tax planning and strategies vary, adjustments to the carrying value of deferred tax assets and liabilities may be required. We estimate our income tax valuation allowance by assessing which deferred tax assets are more-likely-than-not to be recovered in the future. The valuation allowance is based on our estimates of taxable income in each jurisdiction in which we operate and the period over which the deferred tax assets will be recoverable. If it appears that we will not generate such taxable income, we may need to increase the valuation allowance against the related deferred tax asset in a future period.

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Item 3. Quantitative and Qualitative Disclosures About Market Risk.

We are a smaller reporting company and this Item is not applicable to us.

Item 4. Controls and Procedures.

As of the end of the period covered by this Quarterly Report on Form 10-Q, we carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer and our Chief Financial Officer, of the effectiveness of the design and operation of the Company’s “disclosure controls and procedures” (as defined in Rule 13a-15(e) under the Exchange Act). Based upon that evaluation, our Chief Executive Officer and our Chief Financial Officer have concluded that our disclosure controls and procedures are effective to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is (1) recorded, processed, summarized and reported within the time periods specified in the SEC rules and forms, and (2) accumulated and communicated to our management, including our principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure.

There has been no change in our internal control over financial reporting during the quarter ended June 30, 2014 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

* * * * * * * * *

Statements in this Quarterly Report on Form 10-Q, other than statements of historical information, are forward-looking statements that are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements involve known and unknown risks which may cause the Company’s actual results in future periods to differ materially from expected results. Those risks include, among others, risks associated with increased competition, customer decisions, the successful completion of continuing development of new products, the successful negotiation, execution and implementation of anticipated new software contracts, the successful addition of personnel in the marketing and technical areas and our ability to complete development and sell and license our products at prices which result in sufficient revenues to realize profits, and other business factors beyond our control. Those and other risks are described in the Company’s filings with the SEC over the last 12 months, including our Annual Report on Form 10-K filed with the SEC on March 28, 2014, copies of which are available from the SEC or may be obtained upon request from the Company.

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PART II: OTHER INFORMATION

Item 1A. Risk Factors.

The risk factors included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2013, filed with the SEC on March 28, 2014, have not materially changed.

 

Item 6. Exhibits.

Exhibit    
No.   Description
     
10(c)(27)   Summary of Amended 2014 Non-Employee Director Compensation, dated June 12, 2014 [incorporated by reference to Exhibit 99.1 to the Registrant’s Current Report on Form 8-K (Commission File No. 1-09228) filed on June 13, 2014]
     
31.1   Certification of Chief Executive Officer pursuant to Securities Exchange Act Rules 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
     
31.2   Certification of Chief Financial Officer pursuant to Securities Exchange Act Rules 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
     
32.1   Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
     
32.2   Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
     
101.1*   The following materials from the Company’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2014 formatted in eXtensible Business Reporting Language (XBRL): (i) Consolidated Balance Sheets as of June 30, 2014 (Unaudited) and December 31, 2013; (ii) Consolidated Statements of Operations for the three and six months ended June 30, 2014 and 2013 (Unaudited); (iii) Consolidated Statements of Cash Flows for the six months ended June 30, 2014 and 2013 (Unaudited); and (iv) Notes to Consolidated Financial Statements (Unaudited).
 
*Furnished herewith. Pursuant to Rule 406T of Regulation S-T, the Interactive Data Files in Exhibit 101.1 hereto are not to be deemed “filed” or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, and are not to be deemed “filed” for purposes of Section 18 of the Exchange Act, and otherwise are not subject to liability under those sections, except as shall be expressly set forth by specific reference in such filing.

 

 

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SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

  COVER-ALL TECHNOLOGIES INC.
     
Date:  August 14, 2014 By: /s/ Manish D. Shah
    Manish D. Shah, President and Chief
    Executive Officer
     
     
Date:  August 14, 2014 By: /s/ Ann F. Massey
    Ann F. Massey, Chief Financial Officer

 

 

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