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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended April 30, 2001
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 000-19608
ARI Network Services, Inc.
--------------------------
(Exact name of registrant as specified in its charter.)
WISCONSIN 39- 1388360
------------------------------- ---------------------------------
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
330 E. Kilbourn Avenue, Milwaukee, Wisconsin 53202
--------------------------------------------------
(Address of principal executive office)
Registrant's telephone number, including area code (414) 278-7676
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 twelve 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 ninety days.
YES [X] NO [ ]
As of June 11, 2001 there were 6,184,281 shares of the registrant's shares
outstanding.
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ARI NETWORK SERVICES, INC.
FORM 10-Q
FOR THE THREE MONTHS ENDED APRIL 30, 2001
INDEX
PART I - FINANCIAL INFORMATION
Page
----
Item 1 Financial statements
Condensed balance sheets - April 30, 2001 and July 31, 2000 3-4
Condensed statements of operations for the three and nine
months ended April 30, 2001 and 2000 5
Condensed statements of cash flows for the nine months ended
April 30, 2001 and 2000 6
Notes to unaudited condensed financial statements 7-8
Item 2 Management's discussion and analysis of financial condition and results
of operations 8-16
Signatures
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ARI NETWORK SERVICES, INC.
BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
APRIL 30 JULY 31
ASSETS 2001 2000
---------- ----------
(Unaudited)
Current assets:
Cash and cash equivalents $ 216 $ 563
Trade receivables, less allowance for doubtful accounts of $632
at April 30, 2001 and $697 at July 31, 2000 2,551 3,282
Prepaid expenses and other 83 109
---------- ----------
Total current assets 2,850 3,954
Equipment and leasehold improvements:
Computer equipment 4,394 4,389
Leasehold improvements 239 239
Furniture and equipment 1,028 846
---------- ----------
5,661 5,474
Less accumulated depreciation and amortization 5,269 5,038
---------- ----------
Net equipment and leasehold improvements 392 436
Goodwill, less accumulated amortization of $1,906 at April 30,
2001 and $1,413 at July 31, 2000 1,383 1,876
Deferred financing costs, less accumulated amortization of $157 at
April 30, 2001 and $59 at July 31, 2000 262 321
Capitalized software development:
Network platform 11,467 11,467
Software products 30,813 29,317
---------- ----------
42,280 40,784
Less accumulated amortization 31,747 28,883
---------- ----------
Net capitalized software development 10,533 11,901
---------- ----------
TOTAL ASSETS $ 15,420 $ 18,488
========== ==========
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ARI NETWORK SERVICES, INC.
BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
APRIL 30 JULY 31
LIABILITIES AND SHAREHOLDERS' EQUITY 2001 2000
---------- ----------
(Unaudited)
Current liabilities:
Current portion of notes payable to shareholder $ 333 $ 361
Current portion of notes payable 335 461
Accounts payable 638 836
Unearned income 5,070 4,373
Accrued payroll and related liabilities 1,581 1,182
Other accrued liabilities 1,541 1,310
Current portion of capital lease obligations 165 111
---------- ----------
Total current liabilities 9,663 8,634
Long term liabilities:
Notes payable to shareholder (net of discount) 89 313
Notes payable (net of discount) 2,533 2,168
Capital lease obligations 202 214
---------- ----------
Total long term liabilities 2,824 2,695
Shareholders' equity:
Cumulative preferred stock, par value $.001 per share, 1,000,000 shares
authorized; 20,350 shares issued and outstanding at April 30, 2001 and July
31, 2000 -- --
Common stock, par value $.001 per share, 25,000,000 shares authorized;
6,184,281 and 6,168,270 shares issued and outstanding at April 30, 2001 and
July 31, 2000, respectively
6 6
Common stock warrants and options 2,459 2,459
Additional paid-in-capital 91,795 91,781
Accumulated deficit (91,327) (87,087)
---------- ----------
Total shareholders' equity 2,933 7,159
---------- ----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 15,420 $ 18,488
========== ==========
See notes to unaudited condensed financial statements.
Note: The balance sheet at July 31, 2000 has been derived from the audited
balance sheet at that date but does not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements.
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ARI NETWORK SERVICES, INC.
STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
THREE MONTHS ENDED NINE MONTHS ENDED
APRIL 30 APRIL 30
2001 2000 2001 2000
-------- -------- -------- --------
Net revenues:
Subscriptions, support and transaction fees $ 2,515 $ 2,247 $ 7,617 $ 7,226
Software licenses and renewals 823 375 2,424 682
Professional services 538 533 2,063 1,628
-------- -------- -------- --------
3,876 3,155 12,104 9,536
Operating expenses:
Cost of products and services sold:
Subscriptions, support and transaction fees 579 395 1,269 1,116
Software licenses and renewals * 529 933 2,403 2,826
Professional services 269 404 1,173 1,176
-------- -------- -------- --------
1,377 1,732 4,845 5,118
Depreciation and amortization (exclusive of amortization
of software products included in cost of sales) 382 442 1,152 1,298
Customer operations and support 423 515 1,236 1,540
Selling, general and administrative 2,407 1,957 6,840 5,877
Software development and support 955 761 2,630 2,239
-------- -------- -------- --------
Operating expenses before amounts capitalized 5,544 5,407 16,703 16,072
Less capitalized portion (556) (569) (1,496) (1,388)
-------- -------- -------- --------
Net operating expenses 4,988 4,838 15,207 14,684
-------- -------- -------- --------
Operating loss (1,112) (1,683) (3,103) (5,148)
Other expense:
Interest expense (366) (160) (1,133) (438)
Other, net (24) -- (4) (6)
-------- -------- -------- --------
Total other expense (390) (160) (1,137) (444)
-------- -------- -------- --------
Net loss $ (1,502) $ (1,843) $ (4,240) $ (5,592)
======== ======== ======== ========
Average common shares outstanding 6,184 6,159 6,174 5,968
Basic and diluted net loss per share $ (0.24) $ (0.30) $ (0.69) $ (0.94)
======== ======== ======== ========
See notes to unaudited condensed financial statements.
* includes amortization of software products of $764, $916, $2,436 and $2,491
and excludes other depreciation and amortization shown separately
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ARI NETWORK SERVICES, INC.
STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
NINE MONTHS ENDED
APRIL 30
2001 2000
---------- ----------
OPERATING ACTIVITIES
Net loss $ (4,240) $ (5,592)
Adjustments to reconcile net loss to net cash provided by
(used in) operating activities:
Amortization of network platform 428 515
Amortization of software products 2,436 2,491
Amortization of goodwill 493 495
Amortization of deferred financing costs and debt discount 713 30
Depreciation and other amortization 231 287
Net change in receivables, prepaid expenses and other 757 (227)
Net change in accounts payable, unearned income and
accrued liabilities 1,129 1,333
---------- ----------
Net cash provided by (used in) operating activities 1,947 (668)
INVESTING ACTIVITIES
Purchase of equipment and leasehold improvements (33) (23)
Software products capitalized (1,496) (1,388)
---------- ----------
Net cash provided by (used in) investing activities (1,529) (1,411)
FINANCING ACTIVITIES
Net payments under line of credit -- (1,000)
Borrowings (repayments) under notes payable (628) 3,157
Deferred financing costs (39) (330)
Payments of capital lease obligations (112) (93)
Proceeds from issuance of common stock 14 1,363
---------- ----------
Net cash provided by (used in) financing activities (765) 3,097
---------- ----------
Net increase (decrease) in cash (347) 1,018
Cash at beginning of period 563 127
---------- ----------
Cash at end of period $ 216 $ 1,145
========== ==========
Cash paid for interest $ 420 $ 408
========== ==========
NONCASH INVESTING AND FINANCING ACTIVITIES
Capital lease obligations incurred for:
Furniture and equipment $ 154 $ --
Issuance of detachable common stock warrants and options in
connection with issuance of debt -- 2,459
Issuance of common stock as payment of line of credit -- 1,000
Conversion of line of credit to note payable -- 1,000
See notes to unaudited condensed financial statements.
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NOTES TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
APRIL 30, 2001
1. BASIS OF PRESENTATION
The accompanying unaudited financial statements have been prepared and reviewed
in accordance with accounting principles generally accepted in the United States
for interim financial information. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting principles
for fiscal year end financial statements. In the opinion of management, all
adjustments (consisting of normal recurring accruals) considered necessary for a
fair presentation have been included. Operating results for the three and nine
months ended April 30, 2001 are not necessarily indicative of the results that
may be expected for the fiscal year ending July 31, 2001. For further
information, refer to the financial statements and footnotes thereto included in
the Company's annual report on Form 10-K/A for the year ended July 31, 2000.
2. BASIC AND DILUTED NET LOSS PER SHARE
Dilutive earnings per share is not shown as the impact is antidilutive.
3. PREFERRED STOCK
The Series A preferred stock accrues dividends on a quarterly basis,
cumulatively, at a rate per annum equal to the product of the stated value
thereof and 2% above the prime rate (minimum dividend rate of 10% and maximum of
14%). All Series A preferred stock must be redeemed at $100 per share plus
accrued and unpaid dividends prior to any payment of dividends on, or
repurchases by the Company of, the Company's common stock. Prior to August 1,
2002, dividends, if declared by the Board of Directors, can be paid in either
cash or additional shares of Series A preferred stock. The total amount of
dividends in arrears on the Series A preferred stock is $970,000 at April 30,
2001.
4. NOTES PAYABLE
The convertible debentures, issued on April 27, 2000, and accrued interest
thereon are convertible into common stock at a rate of $4 per share, subject to
certain conditions and adjustments. Concurrent with the issuance of the
debentures, the Company issued the investors 600,000 common stock purchase
warrants expiring April 27, 2005 and 800,000 investment options expiring October
27, 2001. Each of the warrants and options are exercisable for one share of
common stock at a price of $6 per share. The warrants and options, which were
estimated to have a value of $2,354,000 at the time of issuance, less
accumulated amortization, reduce the carrying amount of the debt.
5. DERIVATIVES
Effective August 1, 2000, the Company adopted Statement of Financial Accounting
Standards ("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging
Activities," as amended by SFAS No. 138, "Accounting for Certain Derivative
Instruments and Certain Hedging Activities," which establishes accounting and
reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts, and for hedging activities. SFAS No.
133, as amended, requires the recognition of all derivative instruments as
either assets or liabilities in the statement of financial position measured at
fair value. The impact of the adoption of SFAS 133 was immaterial to the
Company's financial statements.
6. SUBSEQUENT EVENTS
On March 29, 2001, the Company received a letter from the Nasdaq National Market
(Nasdaq) stating that the Company's common stock failed to maintain a minimum
market value of public float of $5 million over 30 consecutive trading days. The
Company has until June 27, 2001 to become compliant with this Nasdaq listing
requirement. On May 15, 2001, the Company received a letter from Nasdaq stating
that the Company's common stock failed to maintain a minimum bid price of $1.00
over 30 consecutive trading days. The Company has until August 7, 2001 to become
compliant with this Nasdaq listing requirement. On June 4, 2001, the Company
received a letter from Nasdaq stating that the Company has failed to maintain a
net tangible asset value of $4 million. The Company has until June 18, 2001 to
submit a plan to become compliant with this and all other Nasdaq listing
requirements.
The Company plans to stay listed on the Nasdaq by executing on a five part plan:
(1) trim expenses to maintain or accelerate cash flow and profitability even if
the manufacturing sector of the economy, upon which the Company depends for new
sales, does not recover quickly; (2) complete one or more acquisitions to add
products and/or customers to the business and net assets to the balance sheet;
(3) convert a portion of its debt to equity; (4) continue to use investor
relations programs to try to increase demand for the stock so that the bid
price, and possibly the number of shares in the public float might be increased;
and (5) in conjunction with (1) - (4), if necessary and warranted, execute a
reverse stock split to enable the Company to meet the listing requirements for
Nasdaq-Small Cap if the requirements for Nasdaq-NMS are not able to be met.
There can be no assurance that Nasdaq will accept the Company's plan or that the
Company can execute the plan successfully. Unless the Company demonstrates
compliance with the requirements or appeals the decisions, the Company's common
stock will be delisted from Nasdaq and trading in the Company's common stock
would thereafter be conducted in the over-the-counter markets such as the OTC
Bulletin Board.
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NOTES TO CONDENSED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
APRIL 30, 2001
The RGC International Investors Debenture (see liquidity) requires the Company
to maintain the listing of its common stock on Nasdaq National Market System,
the Nasdaq Small Cap Market, the New York Stock Exchange or the American Stock
Exchange. Failure to cure a violation under the Debenture within 10 days is
considered a default, which would result in the subordinated debenture becoming
due and payable at 130% of the outstanding principal and accrued interest
balances, as well as, an increase in the stated interest rate from 7% to 17%.
The Company is in discussions with RGC to restructure the security to avoid this
problem should it arise, but there can be no assurance that the Company will be
successful in this effort.
The Company's loan agreement with a shareholder (see liquidity) requires
maintenance of a minimum net worth of $5.3 million at all times. As of January
31, 2001, the Company was in violation of this covenant, resulting in the note
payable to shareholder and line of credit payable to shareholder being due and
payable. The line of credit expires December 31, 2001. The Company is in
discussions with the shareholder to reduce the net worth requirement, though
there can be no assurance that the Company will be successful in this effort.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
Total revenue for the quarter ended April 30, 2001 increased 23% from $3,155,000
in fiscal 2000 to $3,876,000 in fiscal 2001, representing the twentieth of the
past twenty one consecutive quarters of year-over-year revenue improvement.
Earnings improved by 19%, from a net loss of $1,843,000, or $0.30 per share for
the quarter ended April 30, 2000 to a net loss of $1,502,000 or $0.24 per share
for the quarter ended April 30, 2001.
REVENUES
The Company is a leading provider of technology-enabled business solutions for
sales, service and life-cycle product support in the manufactured equipment
market. The Company currently serves over 100 manufacturers and 20,000 dealers
in more than 100 countries in 12 segments of the worldwide manufactured
equipment market including outdoor power, recreation vehicles, auto and truck
parts aftermarket, marine, construction, power sports, floor maintenance and
others. The Company builds and supports a full suite of multi-media electronic
catalog publishing and viewing software for the Web or CD. The Company's
communications systems provide a global electronic pathway for parts orders,
product registrations, warranty claims and other transactions between
manufacturers and their networks of sales and service points.
The Company also has a supplemental business that provides a variety of
information technology services to non-Equipment industries including
agribusiness and publishing. The non-Equipment industries generate positive cash
flows for the Company but are a declining percentage of total revenue as the
Company focuses on its core products in the Equipment Industry.
Management reviews the Company's recurring vs. non-recurring revenue in the
aggregate and within the U.S. and Canadian Equipment, International Equipment
and non-Equipment markets.
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The following table sets forth, for the periods indicated, certain revenue
information derived from the Company's unaudited financial statements.
REVENUE BY INDUSTRY SECTOR
(IN THOUSANDS)
THREE MONTHS ENDED NINE MONTHS ENDED
INDUSTRY SECTOR APRIL 30 PERCENT APRIL 30 PERCENT
2001 2000 CHANGE 2001 2000 CHANGE
-------- -------- -------- --------
EQUIPMENT INDUSTRY
U.S. and Canadian
Recurring $ 1,835 $ 1,145 60% $ 5,616 $ 3,734 50%
Non-recurring 1,002 613 63% 2,576 1,651 56%
-------- -------- -------- --------
Subtotal 2,837 1,758 61% 8,192 5,385 52%
International
Recurring 248 81 206% 795 263 202%
Non-recurring 48 162 (70)% 255 302 (16)%
-------- -------- -------- --------
Subtotal 296 243 22% 1,050 565 86%
Total Equipment Industry
Recurring 2,083 1,226 70% 6,411 3,997 60%
Non-recurring 1,050 775 36% 2,831 1,953 45%
-------- -------- -------- --------
Subtotal 3,133 2,001 57% 9,242 5,950 55%
NON-EQUIPMENT INDUSTRY
Recurring 743 1,082 (31)% 2,815 3,371 (16)%
Non-recurring -- 72 (100)% 47 215 (78)%
-------- -------- -------- --------
Subtotal 743 1,154 (36)% 2,862 3,586 (20)%
TOTAL REVENUE
Recurring 2,826 2,308 22% 9,226 7,368 25%
Non-recurring 1,050 847 24% 2,878 2,168 33%
-------- -------- -------- --------
Grand Total $ 3,876 $ 3,155 23% $ 12,104 $ 9,536 27%
======== ======== ======== ========
Recurring revenues are derived from catalog subscription fees, software
maintenance and support fees, software license renewals, network traffic and
support fees and other miscellaneous subscription fees. Non-recurring revenues
are derived from initial software license fees and professional services fees.
Recurring revenue, as a percentage of total revenue, remained 73% for the three
months ended April 30, 2000 and 2001, respectively. On a year to date basis,
recurring revenue is 76% of total revenue compared to 77% of total revenue for
the same period last year. Management believes that the remainder of the year
will continue to be in line with the Company's expected relationship of
approximately three quarters recurring revenue to one quarter non-recurring
revenue. Management believes that this ratio establishes an appropriate level of
base revenue while the Company continues to add new sales to drive future
increases in recurring revenue. If the manufacturing sector of the economy
improves in the future, the percentage of recurring revenue may be slightly
lower, indicating a higher amount of new business. This ratio is expected to
fluctuate from quarter to quarter and year to year, depending on the size and
timing of new business.
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Equipment Industry
The Equipment Industry comprises several vertical markets including outdoor
power, recreation vehicles, motorcycles, auto and truck parts after-market,
manufactured housing, farm equipment, marine, construction, power sports, floor
maintenance and others primarily in the U.S., Canada, Europe and Australia.
Management's strategy is to expand the Company's electronic parts catalog and
dealer communications software and services business with manufacturers and
distributors and their dealers in the existing vertical markets and to expand to
other similar markets in the future. Revenues in the Equipment Industry
increased, as a percentage of total revenues, from 62% for the nine months ended
April 30, 2000 to 76% for the nine months ended April 30, 2001. Management
expects revenues in the Equipment Industry to increase at a higher rate than
total revenues for the remainder of fiscal 2001, as management continues to
focus attention and resources in this industry.
U.S. and Canada
Recurring revenues in the U.S. and Canadian Equipment Industry
increased for the three and nine month periods ended April 30, 2001,
compared to the same periods last year, primarily due to increased
catalog license, maintenance and subscription renewals from the
Company's growing base of customers. Non-recurring revenues in the U.S.
and Canadian Equipment Industry increased for the three and nine month
periods ended April 30, 2001, compared to the same periods last year,
due to the proportional recognition of software licenses sold in fiscal
2000, new software licenses and professional services sold to dealers
and manufacturers in the first quarter of this fiscal year and the
renegotiation of prior agreements from a fixed price structure to the
Company's time and materials based business model. However, the
increase was lower than expected due to heavy turnover in the Company's
sales force, a "lag time" to hire new salespeople and the decline in
the manufacturing sector of the economy.
International (Europe and Australia)
Recurring revenues in the International Equipment Industry increased
for the three and nine month periods ended April 30, 2001, compared to
the same periods last year, primarily due to catalog license,
maintenance and subscription renewals from new business added last
year, although the increase was lower than expected due to the
Company's shift from the Equipment markets to other more lucrative
markets and the establishment of new sales leads. Non-recurring
revenues in the International Equipment Industry decreased for the
three and nine month periods ended April 30, 2001 compared to the same
periods last year, due to a lack of new software sales in fiscal 2001.
Non-Equipment Industry
The Company's business outside of the Equipment Industry includes sales of
database management services and electronic communications services to the
agricultural inputs industry, the on-line provision of information for
republication to the non-daily newspaper publishing industry and until December
31, 2000, database management services to the railroad industry. The
non-Equipment Industry business is characterized by a base of customers with
long-term relationships with the Company. Revenues in the non-Equipment Industry
decreased for the three and nine month periods ended April 30, 2001, compared to
the same periods last year, due to the Company's focus in the Equipment
Industry, continued consolidation in the agricultural inputs industry, and the
non-renewal of the railroad industry business. Management expects revenues in
the non-Equipment Industry will decline for the remainder of fiscal 2001 and
will continue to decrease in the future. The Company's five-year contract with
the Association of American Railroads expired on December 31, 2000. Per quarter,
the Association of American Railroads represented approximately $250,000 of
non-Equipment Industry recurring revenues. The Company's five year contract with
the Associated Press, on which its business in the non-daily newspaper
publishing industry depends, expired in December 2000 and was extended to
September 14, 2001. Management is currently negotiating with the Associated
Press to renew the contract, and, based on discussions we have had, management
believes that if the contract is renegotiated, margins are likely to decline,
although there is no assurance that the contract will be renewed.
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COST OF PRODUCTS AND SERVICES SOLD
The following table sets forth, for the periods indicated, certain revenue and
cost of products and services sold information derived from the Company's
unaudited financial statements.
COST OF PRODUCTS AND SERVICES SOLD AS A PERCENT OF REVENUE BY REVENUE TYPE
(IN THOUSANDS)
THREE MONTHS ENDED NINE MONTHS ENDED
APRIL 30 PERCENT APRIL 30 PERCENT
2001 2000 CHANGE 2001 2000 CHANGE
-------- -------- -------- --------
Subscriptions, support and transaction fees
Revenue $ 2,515 $ 2,247 12% $ 7,617 $ 7,226 5%
Cost of revenue 579 395 47% 1,269 1,116 14%
Cost of revenue as a percent of revenue 23% 18% 17% 15%
Software licenses and renewals
Revenue 823 375 119% 2,424 682 255%
Cost of revenue 529 933 (43%) 2,403 2,826 (15%)
Cost of revenue as a percent of revenue 64% 249% 99% 414%
Professional services
Revenue 538 533 1% 2,063 1,628 27%
Cost of revenue 269 404 (33%) 1,173 1,176 0%
Cost of revenue as a percent of revenue 50% 76% 57% 72%
Total
Revenue $ 3,876 $ 3,155 23% $ 12,104 $ 9,536 27%
Cost of revenue 1,377 1,732 (20%) 4,845 5,118 (5%)
Cost of revenue as a percent of revenue 36% 55% 40% 54%
Cost of subscriptions, support and transaction fees consists primarily of
telecommunications and catalog replication and distribution costs and Associated
Press royalties. Cost of subscriptions, support and transaction fees as a
percentage of revenue increased for the three and nine month periods ended April
30, 2001, compared to the same periods last year, primarily due to Associated
Press royalties accrued in the third quarter of fiscal 2001 in connection with
contract negotiations. Management expects gross margins from subscriptions,
support and transaction fees to fluctuate somewhat from quarter to quarter based
on the mix of products and services sold.
Cost of software licenses and renewals consists primarily of amortization of
software products, royalties, and software distribution costs. Cost of software
licenses and renewals as a percentage of revenue varies significantly due to the
variability of new software license revenues and relatively fixed cost of sales,
which comprises primarily amortization of software costs. Cost of software
licenses and renewals as a percentage of revenue decreased for the three and
nine month periods ended April 30, 2001, compared to the same periods last year,
primarily due to the one time effect of successful renegotiation of contracts,
assumed by the Company in the NDI acquisition, which waived accrued royalties,
and to higher software license revenues in fiscal 2001, primarily as a result of
the proportional recognition of software licenses sold in fiscal 2000.
Management expects gross margins from software licenses and renewals to
fluctuate significantly from quarter to quarter based on the number of licenses
sold.
Cost of professional services consists of customization and catalog production
labor. Cost of professional services as a percentage of revenue decreased for
the three and nine month periods ended April 30, 2001, compared to the same
periods last year, because professional services revenue increased from the
conversion of old "fixed bid" contracts to time and materials contracts without
a corresponding increase in the cost needed to provide those services and a
decrease in communication software customization which has a lower margin.
Management expects cost of professional services to fluctuate from quarter to
quarter depending on the mix of services sold and on the Company's performance
towards the estimate given to customers for customization projects.
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OPERATING EXPENSES
The following table sets forth, for the periods indicated, certain operating
expense information derived from the Company's unaudited financial statements.
OPERATING EXPENSES
(IN THOUSANDS)
THREE MONTHS ENDED NINE MONTHS ENDED
APRIL 30 PERCENT APRIL 30 PERCENT
2001 2000 CHANGE 2001 2000 CHANGE
-------- -------- -------- --------
Cost of products and services sold $ 1,377 $ 1,732 (20%) $ 4,845 $ 5,118 (5%)
Customer operations and support 423 515 (18%) 1,236 1,540 (20%)
Selling, general and administrative 2,407 1,957 23% 6,840 5,877 16%
Software development and support 987 761 30% 2,662 2,239 19%
-------- -------- -------- --------
5,194 4,965 5% 15,583 14,774 5%
Depreciation and amortization 382 442 (14%) 1,152 1,298 (11%)
Less capitalized portion (588) (569) 3% (1,528) (1,388) 10%
-------- -------- -------- --------
Net operating expenses $ 4,988 $ 4,838 3% $ 15,207 $ 14,684 4%
======== ======== ======== ========
Customer operations and support consists primarily of data center operations,
software maintenance agreements for the Company's core network, catalog data
maintenance and customer support costs. Customer operations and support costs
decreased for the three and nine month periods ended April 30, 2001, compared to
the same periods last year, due to classifying direct labor costs, which were
not tracked prior to the integration of the NDI acquisition, to direct cost of
sales in the catalog production area of professional services.
The increase in selling, general and administrative expenses ("SG&A") for the
three and nine month periods ended April 30, 2001, compared to the same periods
last year, was primarily due to increased bonuses and commissions associated
with the increased sales and to the addition of a senior level financial
consultant. SG&A, as a percentage of revenue, decreased from 62% for the nine
month period ended April 30, 2000 to 57% for the nine month period ended April
30, 2001. Management expects costs in SG&A to remain relatively flat for the
remainder of fiscal 2001 due to cost containment efforts instituted by the
Company.
The Company's technical staff (in-house and contracted) performs both software
development and support and software customization services for customer
applications. Therefore, management expects fluctuations between software
customization services and development expenses quarter to quarter, as the mix
of development and customization activities will change based on customer
requirements. Software development and support costs increased for the nine
month period ended April 30, 2001, compared to the same period last year,
primarily due to an increase in resources focused on development of Web-based
communications and cataloging software. Management expects software development
and support costs to remain relatively flat for the remainder of fiscal 2001 due
to cost containment efforts instituted by the Company.
Depreciation and amortization expense decreased slightly for the three and nine
month periods ended April 30, 2001, compared to the same periods last year.
Management expects depreciation and amortization to remain relatively consistent
for the remainder of fiscal 2001, providing there are no additional
acquisitions.
Capitalized software development costs represented 57% of software development
and support for the nine month period ended April 30, 2001, compared to 62% for
the same period last year. Management expects capitalized software development
to fluctuate from quarter to quarter depending on the deployment of the
Company's resources between early stage research, software development available
for capitalization, and customer customizations and support.
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OTHER ITEMS
Net loss decreased for the three and nine month periods ended April 30, 2001,
compared to the same periods last year, due to revenues increasing at a higher
rate than costs. As the Company continues its acquisition program, non-cash
amortization of goodwill and other intangible assets from the Company's
acquisitions may cause net losses to continue even if net cash provided by
operations and used in investing activities is positive.
Cash paid for interest increased for the three and nine month periods ended
April 30, 2001, compared to the same periods last year, primarily due to
increased utilization of the RFC Facility. Non-cash interest expense was
incurred for the three and nine month periods ended April 30, 2001 as the
Company accrued interest and amortized debt discount for the Debenture sold to
Rose Glen in April 2000. Management expects cash paid for interest to decrease
as the Company continues to pay off debt and non-cash interest expense to
increase, compared to the prior year, as the Company accrues and amortizes
non-cash interest expense associated with the Debenture. See "Liquidity and
Capital Resources."
LIQUIDITY AND CAPITAL RESOURCES
The following table sets forth, for the periods indicated, certain cash flow
information derived from the Company's unaudited financial statements.
CASH FLOW INFORMATION
(IN THOUSANDS)
THREE MONTHS ENDED NINE MONTHS ENDED
APRIL 30 PERCENT APRIL 30 PERCENT
2001 2000 CHANGE 2001 2000 CHANGE
-------- -------- -------- --------
Net cash provided by (used in) operating activities
before changes in working capital $ (119) $ (461) 74% $ 61 $ (1,779) 103%
Net cash provided by (used in) investing activities (579) (552) (5%) (1,529) (1,411) (8%)
-------- -------- -------- --------
Subtotal (698) (1,013) 31% (1,468) (3,190) 54%
Effect of net changes in working capital 343 43 698% 1,886 1,111 70%
-------- -------- -------- --------
Net cash provided by (used in) operating and
investing activities $ (355) $ (970) 63% $ 418 $ (2,079) 120%
======== ======== ======== ========
Net cash provided by operating activities before changes in working capital
increased for the three and nine months ended April 30, 2001, compared to the
same periods last year, due to revenues increasing at a higher rate than
expenses. Net cash used in investing activities increased slightly for the three
and nine months ended April 30, 2001, compared to the same periods last year,
primarily due to increased costs attributable to the development of the
Company's Web-based software. The effect of net changes in working capital is
dependent on the timing of payroll and other cash disbursements, accruals and
the timing of invoices and may vary significantly from quarter to quarter.
Management expects cash provided by operating activities to be positive for the
fiscal year ended July 31, 2001, however, there can be no assurance that this
result will be ultimately achieved.
The Company expects to continue to incur operating losses for the fiscal year
ending July 31, 2001 due to non-cash expenses. Although there can be no
assurance that profitability will be achieved thereafter, management expects to
achieve full quarterly profitability before the end of fiscal 2003, provided
there are no additional acquisitions.
At April 30, 2001, the Company had cash and cash equivalents of approximately
$216,000 compared to approximately $563,000 at July 31, 2000.
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The following table sets forth, for the periods indicated, certain information
related to the Company's debt derived from the Company's unaudited financial
statements.
DEBT SCHEDULE
(IN THOUSANDS)
APRIL 30 JULY 31
2001 2000 NET
(UNAUDITED) CHANGE
---------- ---------- ----------
Debt to Shareholder:
Current portion of notes payable $ 333 $ 361 $ (28)
Long-term portion of notes payable 139 389 (250)
Debt discount (common stock warrants) (50) (76) 26
---------- ---------- ----------
Total Debt to Shareholder 422 674 (252)
Subordinated Debenture:
Long-term notes payable other 4,000 4,000 --
Debt discount (common stock warrants and options) (1,569) (2,158) 589
---------- ---------- ----------
Total Subordinated Debenture 2,431 1,842 589
Other Debt:
Current portion of notes payable other 335 461 (126)
Long-term notes payable other 102 326 (224)
---------- ---------- ----------
Total Other Debt
437 787 (350)
---------- ---------- ----------
Total Debt $ 3,290 $ 3,303 $ (13)
========== ========== ==========
On April 27, 2000, the Company issued and sold pursuant to a Securities Purchase
Agreement, dated as of April 25, 2000, by and among the Company and RGC
International Investors, LDC (the "Investor"), (i) a convertible subordinated
debenture in the amount of Four Million Dollars ($4,000,000) due on April 27,
2003 (the "Debenture"), and convertible into shares of the Company's common
stock, $.001 par value per share (the "Common Stock"), (ii) warrants to purchase
Six Hundred Thousand (600,000) shares of Common Stock (the "Warrants"), and
(iii) an investment option to purchase Eight Hundred Thousand (800,000) shares
of Common Stock (the "Investment Option"). The Investment Option expires on
October 27, 2001 and the Warrants expire on April 27, 2005. The Debenture is
convertible into Common Stock at $4 per share and the Warrants and Investment
Option are exercisable at $6 per share. At any time after October 27, 2000, the
Company can require the Investor to convert the amount owed under the Debenture
into Common Stock at $4.00 per share provided that: (i) the closing bid price of
the Common Stock has been greater than $6.60 for twenty (20) consecutive trading
days and (ii) the Company's resale registration statement has been effective for
at least three (3) months. The resale registration became effective on September
1, 2000. The Company is required to maintain listing of its common stock on the
Nasdaq National Market, the Nasdaq Small Cap Market, the New York Stock Exchange
or the American Stock Exchange; failure to meet this requirement would result in
the Debenture becoming fully due at 130% of outstanding principal and accrued
interest and an increase in the stated interest rate from 7% to 17%. At any time
after April 27, 2001, the Company can require the Investor to exercise the
Investment Option if the closing bid price of the Common Stock is greater than
$9.90 for twenty (20) consecutive trading days and the Company's resale
registration statement has been effective for at least three (3) months. If
exercised, the Investment Option would contribute an additional Four Million
Eight Hundred Thousand Dollars ($4,800,000) of working capital to the Company.
The Company is currently not in compliance with the Nasdaq National Market
requirements, including the dollar minimum bid price, the $5 million public
float and $4 million net tangible asset test. If the Company is delisted, and if
the Company is unable to obtain waivers from the Investor or renegotiate the
Debenture, shareholders could be materially and adversely affected.
ARI has a $1.0 million line of credit with WITECH (the "WITECH Line") that has
been in place since October 4, 1993. The WITECH Line expires on December 31,
2001. The WITECH Line bears interest at prime plus 2.0%. As of June 11, 2001
there was $250,000 outstanding under the WITECH Line and $444,000 outstanding
under the WITECH term loan. In conjunction with obtaining the WITECH Line, since
1993, ARI has issued to WITECH 350 shares of its non-voting cumulative preferred
stock and total warrants for the purchase of up to 280,000 shares of its common
stock, including (i) warrants for the purchase of 250,000 shares at $2.125 per
share and (ii) warrants for the purchase of 30,000 shares of its common stock at
$4.00 per share. The exercise price under the warrants is reduced if ARI issues
stock at less than the then current exercise price. WITECH also purchased 20,000
shares of non-voting cumulative preferred stock on July 15, 1997. Of the 280,000
warrants to purchase shares of Common Stock issued to WITECH; (i) warrants to
purchase 175,000 shares of Common Stock at $2.125 expired on October 1, 2000;
(ii) warrants to purchase 75,000 shares of Common Stock at $2.125 expire on
January 1, 2002; and (iii) warrants to purchase 30,000 shares of Common Stock at
$4.000 expire on October 1, 2006.
The only financial covenant in the WITECH Credit Facility is that ARI must
maintain a net worth (calculated in accordance with generally accepted
accounting principles) of at least $5.3 million. ARI was not in compliance with
the financial covenant in the Agreement on April 30, 2001 and is negotiating
with WITECH to obtain a waiver. If the Company is unable to obtain a waiver, the
Company would lose an essential source of liquidity.
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In connection with both the subordinated debenture and the WITECH Line, the
Company recognizes amortization of a debt discount, the gross amount of which is
the value of the warrants and options issued as partial consideration for the
terms of the debt instrument. The amortization of the debt discount appears as
non-cash interest expense on the statement of operations and the net value of
the debt discount reduces the carrying value of the debt on the balance sheet.
On September 28, 1999, ARI and RFC Capital Corporation ("RFC") executed a
Receivables Sales Agreement (the "Sale Agreement") establishing a $3.0 million
working capital facility (the "RFC Facility"). The three year Sale Agreement
allows RFC to purchase up to $3.0 million (the "Purchase Commitment") of ARI's
accounts receivable. The Purchase Commitment may be increased in increments of
$1.0 million upon mutual agreement and a payment by ARI of $10,000 for each $1.0
million increase. Under the Sale Agreement, RFC purchases 90% of eligible
receivables. ARI is obligated to pay a monthly program fee equal to the greater
of (a) $3,000 or (b) the amount of the purchased but uncollected receivables
times the prime rate plus 2%. ARI may terminate the Sale Agreement prior to
three years by paying: 3.0% of the Purchase Commitment during the first year;
2.0% of the Purchase Commitment during the second year; and 1.0% of the Purchase
Commitment during the third year. The balance of the RFC Facility at June 11,
2001 was $556,000.
The RFC Facility states that the Company must be in compliance with the
covenants under the WITECH facility, which it currently is not. If the Company
is unable to obtain a waiver from RFC, the Company would lose an essential
source of liquidity.
Management believes that funds generated from operations, the RFC Facility, the
Debenture and the WITECH Line will be adequate to fund the Company's operations
and investments through fiscal 2001 if the necessary waivers are obtained. If
management is unable to obtain the necessary waivers, the Company will be in
default and owe in excess of $6 million, which would have a material adverse
effect on the Company. On a long-term basis, management believes that cash for
operations as well as capital expenditures will come principally from cash
generated from operations. Management is working diligently to obtain the
necessary waivers, but there can be no assurance that these efforts will be
successful. Management is also analyzing its anticipated cash flows under a
variety of growth scenarios ranging from no growth to modest growth. Management
believes that, provided the defaults can be avoided, either (i) sufficient cash
can be generated from the business to fund operations and a modest level of
investment or (ii) that the cash profile of the business can be restructured to
be self-funding.
The following table sets forth, for the periods indicated, certain earnings
information derived from the Company's unaudited financial statements.
EARNINGS BEFORE INTEREST, TAXES, DEPRECIATION AND AMORTIZATION
(IN THOUSANDS)
THREE MONTHS ENDED NINE MONTHS ENDED
APRIL 30 PERCENT APRIL 30 PERCENT
2001 2000 CHANGE 2001 2000 CHANGE
-------- -------- -------- -------- -------- --------
Net loss $ (1,502) $ (1,843) 19% $ (4,240) $ (5,592) 24%
Interest (cash) 129 130 (1%) 420 408 3%
Interest (non-cash) 237 30 690% 713 30 2277%
Amortization of software products 764 916 (17%) 2,436 2,491 (2%)
Other depreciation and amortization 382 442 (14%) 1,152 1,298 (11%)
-------- -------- -------- --------
Earnings before interest, taxes,
depreciation and amortization $ 10 $ (325) 103% $ 481 $ (1,365) 135%
======== ======== ======== ========
Earnings before interest, taxes, depreciation and amortization (EBITDA)
increased for the three and nine month periods ended April 30, 2001, compared to
the same periods last year, due primarily to the Company's improvement in
earnings. Management expects EBITDA to continue to remain positive for the
remainder of fiscal 2001, although there can be no assurance that this result
will be ultimately achieved. As the Company continues its acquisition program,
non-cash amortization of goodwill and other intangible assets from the Company's
acquisitions may cause net losses to continue even if EBITDA is positive.
We have included data with respect to EBITDA because it is commonly used as a
measurement of financial performance and by investors to analyze and compare
companies on the basis of operating performance. EBITDA is not a measurement of
financial performance under generally accepted accounting principles and should
not be considered an alternative to operating income, as determined in
accordance with generally accepted accounting principles, as an indictor of our
operating performance, or to cash flows from operating activities, as determined
in accordance with generally accepted accounting principles, as a measure of our
liquidity. EBITDA is not necessarily comparable with similarly titled measures
for other companies.
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ACQUISITIONS
Since December 1995, the Company has had a formal and aggressive business
development program aimed at identifying, evaluating and closing acquisitions
that augment and strengthen the Company's market position, product offerings,
and personnel resources. Since the program's inception, approximately 300
acquisition candidates have been evaluated, resulting in four completed
acquisitions.
-----------------------------------------------------------------------------------------------------------------
ACQUISITION DATE ACQUIRED COMPANY AND LOCATION DESCRIPTION OF ACQUIRED COMPANY
-----------------------------------------------------------------------------------------------------------------
November 4, 1996 cd\*.IMG, Inc. ("CDI") CDI developed the Plus1(R) electronic parts
New Berlin, WI catalog, which featured parts information
from over 20 manufacturers in the outdoor
power, marine, motorcycle and power
sports industries.
-----------------------------------------------------------------------------------------------------------------
September 30, 1997 Empart Technologies, Inc. ("EMPART") EMPART provided us with the
Foster City, CA EMPARTpublisher and EMPARTviewer software.
-----------------------------------------------------------------------------------------------------------------
September 15, 1998 POWERCOM-2000 ("POWERCOM"), a subsidiary POWERCOM provided electronic catalog
of Briggs & Stratton Corporation and communication services to a number
Colorado Springs, CO of manufacturers in North America,
Europe, and Australia in the outdoor
power, power tools, and sports industries.
-----------------------------------------------------------------------------------------------------------------
May 13, 1999 Network Dynamics Incorporated ("NDI") NDI provided us with the PartSmart
Williamsburg, VA electronic catalog, which was used by
over 10,000 dealers to view catalogs from
50 different manufacturers in 6 sectors of
the Equipment Industry.
-----------------------------------------------------------------------------------------------------------------
FORWARD LOOKING STATEMENTS
Certain statements contained in the Management's Discussion and Analysis of
Results of Operations and Financial Condition are forward looking statements,
including, without limitation, statements with respect to growth plans,
projected sales, revenues, earnings, costs, product development schedules and
future cash requirements and sources of liquidity. Other forward looking
information includes (i) information included or incorporated by reference in
our future filings with the Commission including, without limitation, statements
with respect to growth plans, projected sales, revenues, earnings and costs, and
product development schedules and plans and (ii) information contained in
written material, releases and oral statements issued by us, or on our behalf,
including, without limitation, statements with respect to growth plans,
projected sales, revenues, earnings and costs, and product development schedules
and plans. Generally, the words "anticipates," "believes," "expects," "intends"
and similar expressions identify forward looking statements. The Company's
actual results may differ materially from those contained in the forward looking
statements identified above. Factors which may cause such a difference to occur,
include, but are not limited to, those factors set forth in the section entitled
"Risk Factors," in the Company's registration statement on Form S-3 filed on May
12, 2000, as amended.
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SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
ARI Network Services, Inc.
(Registrant)
Date: June 14, 2001 /s/ Brian E. Dearing
----------------------------
Brian E. Dearing, Chairman of the Board
17