UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-QSB/A
(Mark One)
(X) Quarterly report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the quarterly period ended March 31, 2005
( ) For the transition period from __________ to __________
Commission file number: 0-22773
NETSOL TECHNOLOGIES, INC.
(Exact name of small business issuer as specified in its charter)
NEVADA 95-4627685
(State or other Jurisdiction of (I.R.S. Employer NO.)
Incorporation or Organization)
23901 Calabasas Road, Suite 2072, Calabasas, CA 91302
(Address of principal executive offices) (Zip Code)
(818) 222-9195 / (818) 222-9197
(Issuer's telephone/facsimile numbers, including area code)
Check whether the issuer: (1) 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 issuer was required to file such
reports), and (2) has been subject to such filing requirements for the past 90
days.
Yes X No
---- ----
The issuer had 13,467,547 shares of its $.001 par value Common Stock issued and
outstanding as of May 6, 2005.
Transitional Small Business Disclosure Format (check one)
Yes No X
---- ----
1
NETSOL TECHNOLOGIES, INC.
INDEX
PART I. FINANCIAL INFORMATION Page No.
Item 1. Financial Statements
Consolidated Unaudited Balance Sheet as of March 31, 2005 (restated) 3
Comparative Unaudited Consolidated Statements of Operations
for the Three and Nine Months Ended March 31, 2005 (restated)
and 2004 (restated) 4
Comparative Unaudited Consolidated Statements of Cash Flow
for the Three and Nine Months Ended March 31, 2005 (restated)
and 2004 (restated) 5
Notes to the Unaudited Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis or Plan of Operation 16
Item 3. Controls and Procedures 23
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 24
Item 2. Changes in Securities 24
Item 3. Defaults Upon Senior Securities 24
Item 4. Submission of Matters to a Vote of Security Holders 24
Item 5. Other Information 24
Item 6. Exhibits and Reports on Form 8-K 24
(a) Exhibits
(b) Reports on Form 8-K
Signatures 25
2
NETSOL TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET -- MARCH 31, 2005
(UNAUDITED)
Current assets:
Cash and cash equivalents $ 1,596,031
Certificates of deposit 1,083,450
Accounts receivable, net of allowance for doubtful accounts of $80,000 3,699,180
Revenues in excess of billings 1,914,242
Other current assets (restated) 1,182,456
------------
Total current assets 9,475,359
Property and equipment, net of accumulated depreciation 4,809,751
Intangibles:
Product licenses, renewals, enhancedments, copyrights,
trademarks, and tradenames, net 4,658,299
Customer lists, net 1,699,752
Goodwill (restated) 1,166,611
------------
Total intangibles (restated) 7,524,662
------------
Total assets $ 21,809,772
============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses $ 2,729,778
Current portion of notes and obligations under capitalized leases (restated) 1,460,876
Billings in excess of revenues 218,200
Due to officers 40,136
Deferred liability 1,115,312
Loans payable, bank 463,241
------------
Total current liabilities 6,027,543
Obligations under capitalized leases, less current maturities 161,122
Convertible debenture (restated) 134,234
------------
Total liabilities 6,322,899
Minority interest 379,752
Contingencies --
Stockholders' equity:
Common stock, $.001 par value; 45,000,000 share authorized;
13,225,937 issued and outstanding 13,226
Additional paid-in-capital (restated) 46,769,779
Treasury stock (27,197)
Accumulated deficit (30,537,075)
Stock subscription receivable (restated) (1,187,150)
Common stock to be issued 533,760
Other comprehensive loss (458,222)
------------
Total stockholders' equity 15,107,121
------------
Total liabilities and stockholders' equity $ 21,809,772
============
See accompanying notes to consolidated financial statements.
3
NETSOL TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
Ended March 31, Ended March 31,
2005 2004 2005 2004
------------ ------------ ------------ ------------
(restated) (restated) (restated) (restated)
Net revenues $ 3,190,918 $ 1,700,774 $ 7,972,450 $ 3,881,731
Cost of revenues 1,342,216 694,823 2,943,871 1,645,536
------------ ------------ ------------ ------------
Gross profit 1,848,702 1,005,951 5,028,579 2,236,195
Operating expenses:
Selling and marketing 219,399 49,690 474,099 96,377
Depreciation and amortization (restated) 384,649 294,486 1,007,789 903,182
Settlement costs -- 22,500 43,200 122,500
Bad debt expense -- 59,821 -- 153,327
Salaries and wages 453,226 408,840 1,248,447 1,003,289
Professional services, including non-cash
compensation 112,830 70,701 368,135 310,403
General and adminstrative 462,421 490,936 1,011,653 1,239,420
------------ ------------ ------------ ------------
Total operating expenses 1,632,525 1,396,974 4,153,323 3,828,498
------------ ------------ ------------ ------------
Income (loss) from operations 216,177 (391,023) 875,256 (1,592,303)
Other income and (expenses)
Gain (Loss) on sale of assets -- 160 (620) (33,759)
Beneficial conversion feature (3,941) (3,323) (205,906) (99,350)
Fair market value of warrants issued -- -- (249,638) --
Gain on forgiveness of debt 49,865 99,146 239,506 203,234
Interest expense (47,356) (27,779) (177,356) (117,368)
Other income and (expenses) (57,893) (44,115) (20,269) (39,918)
------------ ------------ ------------ ------------
Total other expenses (59,325) 24,089 (414,283) (87,161)
------------ ------------ ------------ ------------
Net income (loss) before minority interest in sub subsidiary 156,852 (366,934) 460,973 (1,679,464)
Minority interest in subsidiary (29,994) 71,049 (15,735) 164,387
------------ ------------ ------------ ------------
Net income (loss) 126,858 (295,885) 445,238 (1,515,077)
Other comprehensive (loss)/gain:
Translation adjustment (11,252) (53,590) (219,660) (160,797)
------------ ------------ ------------ ------------
Comprehensive income (loss) $ 115,606 $ (349,475) $ 225,578 $ (1,675,874)
============ ============ ============ ============
Net income (loss) per share:
Basic $ 0.01 $ (0.04) $ 0.04 $ (0.18)
============ ============ ============ ============
Diluted $ 0.01 $ (0.04) $ 0.03 $ (0.18)
============ ============ ============ ============
Weighted average number of shares outstanding
Basic 12,704,226 7,475,148 10,937,910 8,255,680
Diluted 15,642,430 7,475,148 13,750,980 8,255,680
See accompanying notes to consolidated financial statements.
4
NETSOL TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
For the Nine Months
Ended March 31,
2005 2004
----------- -----------
(Restated) (Restated)
Cash flows from operating activities:
Net income (loss) from continuing operations $ 445,238 $(1,515,077)
Adjustments to reconcile net income (loss) to net cash
Used in operating activities:
Depreciation and amortization 1,258,891 903,182
Gain on settlement of debt (239,506) (203,234)
Loss on sale of assets 620 33,759
Minority interest in subsidiary 15,735 (164,387)
Stock issued for services 89,065 --
Stock issued for settlement costs 135,133
Fair market value of warrants granted 249,638 --
Beneficial conversion feature 205,906 99,350
Changes in operating assets and liabilities:
Increase in assets:
Accounts receivable (2,568,139) (356,198)
Other current assets (1,701,031) (1,829,243)
Increase in liabilities:
Accounts payable and accrued expenses 394,865 (428,800)
Deferred liability 1,115,312
----------- -----------
Net cash used in operating activities (733,406) (3,325,515)
Cash flows from investing activities:
Purchases of property and equipment (804,115) (372,594)
Sales of property and equipment 86,988 194,004
Purchases of certificates of deposit (550,000) (2,170,047)
Proceeds from sale of certificates of deposit 891,403 1,350,000
Increase in intangible assets - development costs (4,071,950) (66,855)
Capital investments in minority interest of subsidiary 537,803 10,000
Proceeeds from sale of minority interest of subsidiary -- 200,000
Cash brought in at acquisition 145,297 --
----------- -----------
Net cash used in investing activities (3,764,574) (855,492)
Cash flows from financing activities:
Proceeds from sale of common stock 1,512,000 1,102,049
Proceeds from the exercise of stock options 999,224 1,215,575
Capital contributed from sale of subsidary stock 1,589,974 --
Purchase of treasury shares (51,704) --
Proceeds from convertible debenture -- 1,200,000
Proceeds from loans 1,503,273 1,067,000
Payments on capital lease obligations & loans (366,092) (198,874)
----------- -----------
Net cash provided by financing activities 5,186,675 4,385,750
Effect of exchange rate changes in cash 36,175 29,814
----------- -----------
Net (decrease) increase in cash and cash equivalents 724,870 234,557
Cash and cash equivalents, beginning of period 871,161 214,490
----------- -----------
Cash and cash equivalents, end of period $ 1,596,031 $ 449,047
=========== ===========
See accompanying notes to consolidated financial statements.
5
NETSOL TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
(UNAUDITED)
For the Nine Months
Ended March 31,
2005 2004
SUPPLEMENTAL DISCLOSURES:
Cash paid during the period for:
Interest $ 92,631 $ 75,690
============ ============
Taxes $ 72,870 $ 54,644
============ ============
NON-CASH INVESTING AND FINANCING ACTIVITIES:
Common stock issued for services and compensation $ 141,010 $ --
============ ============
Common stock issued for accrued expenses and accounts payable $ 31,968 $ --
============ ============
Common stock issued for conversion of convertible debenture $ 1,050,000 $ --
============ ============
Common stock issued for settlement of debt $ 45,965 $ 209,200
============ ============
Common stock issued for legal settlement $ -- $ 135,133
============ ============
Common stock issued for conversion of note payable $ -- $ 850,000
============ ============
Common stock issued for acquisition of product license $ 91,600 $ 166,860
============ ============
Common stock issued for acquisition of subsidiary $ 1,676,795 $ --
============ ============
See accompanying notes to consolidated financial statements.
6
NETSOL TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - BASIS OF PRESENTATION AND PRINCIPLES OF CONSOLIDATION
The Company designs, develops, markets, and exports proprietary software
products to customers in the automobile finance and leasing, banking and
financial services industries worldwide. The Company also provides consulting
services in exchange for fees from customers.
The consolidated condensed interim financial statements included herein have
been prepared by the Company, without audit, pursuant to the rules and
regulations of the Securities and Exchange Commission. Certain information and
footnote disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles have been condensed or
omitted pursuant to such rules and regulations, although the Company believes
that the disclosures are adequate to make the information presented not
misleading.
These statements reflect all adjustments, consisting of normal recurring
adjustments, which, in the opinion of management, are necessary for fair
presentation of the information contained therein. It is suggested that these
consolidated condensed financial statements be read in conjunction with the
financial statements and notes thereto included in the Company's amended annual
report on Form 10-KSB/A for the year ended June 30, 2004. The Company follows
the same accounting policies in preparation of interim reports. Results of
operations for the interim periods are not indicative of annual results.
The accompanying consolidated financial statements include the accounts of the
Company and its wholly owned subsidiaries, NetSol Technologies (PVT), Ltd. ("PK
Tech"), NetSol (PVT), Limited ("PK Private"), NetSol Abraxas Australia Pty Ltd.
("NetSol Abraxas"), NetSol USA, NetSol Technologies UK, Ltd. ("NetSol UK"), and
CQ Systems Ltd.("CQ Systems"), as well as the subsidiaries in which the Company
owns a controlling percentage, NetSol CONNECT (PVT), Ltd. (now, NetSol Akhter
Pvt. Ltd.) ("Connect"), and TiG-NetSol (Pvt) Ltd. ("NetSol-TiG"). All material
inter-company accounts have been eliminated in consolidation.
For comparative purposes, prior year's consolidated financial statements have
been reclassified to conform to report classifications of the current year.
NOTE 2 - USE OF ESTIMATES:
The preparation of financial statements in conformity with generally accepted
accounting principles in the United States, requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
NOTE 3 - NEW ACCOUNTING PRONOUNCEMENTS:
In March 2004, the Emerging Issues Task Force ("EITF") reached a consensus on
Issue No. 03-1, "The Meaning of Other-Than-Temporary Impairment and its
Application to Certain Investments." The EITF reached a consensus about the
criteria that should be used to determine when an investment is considered
impaired, whether that impairment is other-than-temporary, and the measurement
of an impairment loss and how that criteria should be applied to investments
accounted for under SFAS No. 115, "ACCOUNTING IN CERTAIN INVESTMENTS IN DEBT AND
EQUITY SECURITIES." EITF 03-01 also included accounting considerations
subsequent to the recognition of other-than-temporary impairment and requires
certain disclosures about unrealized losses that have not been recognized as
other-than-temporary impairments. Additionally, EITF 03-01 includes new
disclosure requirements for investments that are deemed to be temporarily
impaired. In September 2004, the Financial Accounting Standards Board (FASB)
delayed the accounting provisions of EITF 03-01; however, the disclosure
requirements remain effective for annual reports ending after June 15, 2004. The
Company will evaluate the impact of EITF 03-01 once final guidance is issued.
In December 2004, the FASB issued FASB Statement No. 123R, "Share-Based Payment,
an Amendment of FASB Statement No. 123" ("FAS No. 123R"). FAS No. 123R requires
companies to recognize in the statement of operations the grant- date fair value
of stock options and other equity-based compensation issued to employees. FAS
No. 123R is effective beginning in the Company's second quarter of fiscal 2006.
The Company is evaluating the effects adoption of SFAS 123R will have on its
financial statements.
7
In December 2004, the FASB issued SFAS Statement No. 153, "Exchanges of
Non-monetary Assets." The Statement is an amendment of APB Opinion No. 29 to
eliminate the exception for non-monetary exchanges of similar productive assets
and replaces it with a general exception for exchanges of non-monetary assets
that do not have commercial substance. The Company believes that the adoption of
this standard will have no material impact on its financial statements.
NOTE 4 - NET LOSS PER SHARE:
Net loss per share is calculated in accordance with the Statement of financial
accounting standards No. 128 (SFAS No. 128), "Earnings per share". Basic net
loss per share is based upon the weighted average number of common shares
outstanding. Diluted net loss per share is based on the assumption that all
dilutive convertible shares and stock options were converted or exercised.
Dilution is computed by applying the treasury stock method. Under this method,
options and warrants are assumed to be exercised at the beginning of the period
(or at the time of issuance, if later), and as if funds obtained thereby were
used to purchase common stock at the average market price during the period.
The following is a reconciliation of the numerators and denominators of the
basic and diluted earnings per share computations:
----------------------------------------------------------------------------------------------------
For the three months ended March 31, 2005 Net Income Shares Per Share
----------------------------------------------------------------------------------------------------
Basic earnings per share: $ 126,858 12,704,226 $ 0.01
Net income available to common shareholders
Effect of dilutive securities
Stock options 1,880,175
Warrants 1,058,029
------------ ------------ ------------
Diluted earnings per share $ 126,858 15,642,430 $ 0.01
============ ============ ============
----------------------------------------------------------------------------------------------------
For the nine months ended March 31, 2005 Net Income Shares Per Share
----------------------------------------------------------------------------------------------------
Basic earnings per share: $ 445,238 10,937,910 $ 0.04
Net income available to common shareholders
Effect of dilutive securities
Stock options 1,981,309
Warrants 831,761
------------ ------------ ------------
Diluted earnings per share $ 445,238 13,750,980 $ 0.03
============ ============ ============
Weighted average number of shares used to compute basic and diluted loss per
share is the same in the financial statements for the period ended March 31,
2004, since the effect of dilutive securities is anti-dilutive.
NOTE 5 - FOREIGN CURRENCY:
The accounts of NetSol Technologies UK, Ltd., and CQ Systems use the British
Pound; NetSol Technologies, (PVT), Ltd, NetSol (Pvt), Limited, ,NetSol Connect
PVT, Ltd., and NetSol-TiG use Pakistan Rupees; and NetSol Abraxas Australia Pty,
Ltd. uses the Australian dollar as the functional currencies. NetSol
Technologies, Inc., and subsidiary NetSol USA, Inc., use the U.S. dollars as the
functional currencies. Assets and liabilities are translated at the exchange
rate on the balance sheet date, and operating results are translated at the
average exchange rate throughout the period. Accumulated translation losses of
$458,222 at March 31, 2005 are classified as an item of accumulated other
comprehensive loss in the stockholders' equity section of the consolidated
balance sheet. During the nine months ended March 31, 2005 and 2004,
comprehensive loss in the consolidated statements of operation included
translation loss of $219,660 and $160,797, respectively.
8
NOTE 6 - OTHER CURRENT ASSETS
Other current assets consist of the following at March 31, 2005:
Prepaid Expenses $ 673,888
Advance Income Tax 112,625
Employee Advances 72,497
Security Deposits 27,912
Other Receivables 295,534
-----------
Total $ 1,182,456
===========
In August 2004, the Company entered into a two-year consulting agreement with a
non-related third party whereby the Company agreed to pay the consultant a total
of 100,000 shares of its common stock valued at $111,920. This has been recorded
as a prepaid expense and is being amortized over the life of the service
agreement. During the nine months ended March 31, 2005, $34,975 was expensed.
NOTE 7 - DEBTS
NOTES PAYABLE
Notes payable as of March 31, 2005 consist of the following:
--------------------------------------------------------------------------
Balance at Current Long-Term
Name 3/31/05 Maturities Maturities
--------------------------------------------------------------------------
H. Smith Settlement $ 143,321 $ 143,321 --
A. Zaman Settlement 16,300 16,300 --
First Funding 1,415 1,415 --
D&O Insurance 86,326 86,326 --
Noon Group 506,351 506,351 --
Gulf Crown 253,176 253,176 --
Dr. Omar Atiq 304,195 304,195 --
Subsidiary Capital Leases 149,792 149,792 --
------------ ------------ ------------
$ 1,460,876 $ 1,460,876 --
============ ============ ============
In November 2002, the Company signed a settlement agreement with Herbert Smith
for (pound)171,733 or approximately $248,871, including interest, which the
Company has recorded as a note payable in the accompanying consolidated
financial statements. The Company agreed to pay $10,000 upon signing of the
agreement, $4,000 per month for twelve months, and then $6,000 per month until
paid. The balance owing at June 30, 2004 was $199,321. During the nine months
ended March 31, 2005, the Company paid $56,000. The balance owing at March 31,
2005 was $143,321. The entire balance has been classified as current and is
included in "Current maturities of notes and obligations under capitalized
leases" in the accompanying consolidated financial statements. In April 2005, an
agreement was reached with Herbert Smith whereby they accepted $135,000 as
payment in full, including the $25,000 paid in March 2005. The balance of
$110,000 is due by May 2, 2005.
In June 2002, the Company signed a settlement agreement with a former employee
for payment of past services rendered. The Company agreed to pay the employee a
total of $75,000. The agreement calls for monthly payments of $1,500 per month
until paid. The balance owing at June 30, 2004 was $26,300. During the nine
months ended March 31, 2005, the Company paid $10,000. The entire balance has
been classified as a current liability in the accompanying consolidated
financials statements.
In January 2005, the Company renewed its director's and officer liability
insurance for which the annual premium is $138,050. In February 2005, the
Company arranged financing with AFCO Credit Corporation with a down payment of
$27,610 with the balance to be paid in monthly installments. The balance owing
as of March 31, 2005 was $86,326.
9
In October 2004, the Company renewed its professional liability insurance for
which the annual premium is $5,944. The Company has arranged for financing with
the insurance company with a down payment of $1,853 and nine monthly payment of
$480 each. During the six months ended March 31, 2005, the Company paid $4,529.
The balance owing at March 31, 2005 was $1,415 and is classified as a current
liability in the accompanying consolidated financials statements.
In February 2005, the Company received a loan from a current shareholder Sir
Gulam Noon in the amount of $500,000. The note carries an interest rate of 9.75%
per annum and is due in one year. The maturity date of the loan may be extended
at the option of the holder for an additional year. During the three months
ended March 31, 2005, $6,351 of accrued interest was recorded for this loan.
In February 2005, the Company received a loan from Gulf Crown Investments in the
amount of $250,000. The note carries an interest rate of 9.75% per annum and is
due in one year. The maturity date of the loan may be extended at the option of
the holder for an additional year. During the three months ended March 31, 2005,
$6,351 of accrued interest was recorded for this loan.
In February 2005, the Company received a loan from a current shareholder Dr.
Omar Atiq in the amount of $300,000. The note carries an interest rate of 12%
per annum and is due on April 4, 2005. The maturity date of the loan may be
extended at the option of the holder. During the three months ended March 31,
2005, $4,195 of accrued interest was recorded for this loan.
In addition, the various subsidiaries had current maturities of capital leases
of $149,792 as of March 31, 2005.
BANK NOTE
The Company's Pakistan subsidiary, NetSol Technologies (Private) Ltd., has three
loans with a bank, secured by the Company's assets. These notes consist of the
following as of March 31, 2005:
TYPE OF MATURITY INTEREST BALANCE
LOAN DATE RATE USD
--------------------------------------------------------------------
Export Refinance Every 6 months 4% $ 243,697
Term Loan April 20, 2005 10% 4,202
Line of Credit On Demand 8% 215,342
---------
Total $ 463,241
=========
DUE TO OFFICERS
The officers of the Company from time to time loan funds to the Company. As of
June 30, 2004, the officers had a balance owing to them of $17,219. During the
nine months ended March 31, 2005, $25,000 of accrued wages was added to the
balance due to officers. In addition, one officer exercised options against the
balances owed totaling $2,083. The balance owing as of March 31, 2005 was
$40,136.
NOTE 8 - STOCKHOLDERS' EQUITY:
EQUITY TRANSACTIONS
Private Placements
In August 2004, the Company received $200,000 for the purchase of 190,476 shares
of the Company's common stock. In November 2004, the stock was issued to the
purchasing parties.
During the quarter ended December 31, 2004, the Company sold 1,217,143 shares of
its common stock for $1,268,000 in a private placement agreement.
10
In addition, the Company received $62,000 as payment on stock subscriptions
receivable during the nine months ended March 31, 2005.
Services, Accrued Expenses and Payables
In August 2004, the Company entered into a two-year consulting agreement with a
non-related third party whereby the Company issued 50,000 shares of its common
stock valued at $55,960 for the first year of service and has agreed to issue an
additional 50,000 shares at the beginning of the second year. The value of these
shares of $55,960 is included in the "Stock to be Issued" on the accompanying
consolidated financial statements.
In October 2004, the Company issued 5,000 shares for services rendered valued at
$6,850. In addition, 1,339 shares were issued for accrued expenses valued at
$3,000.
In November 2004, the Company entered into an agreement with a vendor whereby
the Company issued the vendor 20,000 shares valued at $22,968 for the payment of
outstanding invoices in the amount of $16,052. As a result, the Company recorded
a beneficial conversion feature expense in the amount of $6,916.
During the quarter ended March 31, 2005, the Company issued 15,972 shares for
services rendered valued at $22,240. In addition, 3,762 shares were issued for
accrued expenses valued at $6,000.
Stock Options and Warrants Exercised
During the quarter ended December 31, 2004, the Company issued 742,777 shares of
its common stock for the exercise of options, valued at $1,138,240. The Company
received $343,900 in cash from the exercise of these options and recorded "Stock
Subscription Receivable" in the amount of $795,083.
During the quarter ended March 31, 2005, the Company issued 230,000 shares of
its common stock for the exercise of options valued at $317,500. The Company
received $42,500 in cash from the exercise of these options and recorded "Stock
Subscription Receivable" in the amount of $275,000.
During the quarter ended March 31, 2005, the Company issued 20,162 shares of its
common stock for the exercise of warrants valued at $40,324.
Issuance of Shares for Conversion of Debt
During the quarter ended September 30, 2004, three of the convertible debenture
holders elected to convert their notes into common stock. The total of the notes
converted was $150,000 and the Company issued 80,646 shares of its common stock
to the note holders.
During the quarter ended December 31, 2004, sixteen of the convertible debenture
holders elected to convert their notes into common stock. The total of the notes
converted was $900,000 and the Company issued 483,873 shares of its common stock
to the note holders.
Issuance of Shares for Purchase of Subsidiary and Product License
In January 2005, certain milestones, set forth in the purchase and sale
agreement by and between the Company and the former owners, were met in the
development of the Pearl Treasury system acquired in October 2003. As such, the
former owners of the product license were due an additional 40,000 shares of the
Company's common stock. 20,000 shares were issued valued at $45,800 and the
remaining 20,000 shares were recorded as "Shares to be issued". The Company
recorded an addition to the product licenses in the amount of $91,600.
In February 2005, the Company completed the acquisition of CQ Systems, (See Note
15). As part of this agreement, the Company issued 681,965 shares of its common
stock valued at $1,676,795 to the shareholders of CQ Systems.
STOCK SUBSCRIPTION RECEIVABLE
Stock subscription receivable represents stock options exercised and issued that
the Company has not yet received the payment from the purchaser as they were in
processing when the quarter ended.
11
During the quarter ended September 30, 2004, the Company received a payment of
$20,000 on the receivable. The balance at September 30, 2004 was $313,650.
During the quarter ended December 31, 2004, the Company recorded receivables
from options exercises of $803,000 and received payments of $110,000. The
Company also recorded receivables from purchase agreements $182,000 and received
payments of $24,000. Also during the quarter, a purchaser (consultant) decided
not to complete the agreed purchase and therefore 20,000 shares were cancelled
and the related value of $30,000 was reversed from the receivable account. The
balance at December 31, 2004 was $1,234,650.
During the quarter ended March 31, 2005, the Company recorded receivables from
options exercises of $275,000 and received payments of $322,500. The balance at
March 31, 2005 was $1,187,150.
Subsidiary Stock Issued on Foreign Exchange
During the quarter ended March 31, 2005, the Company's wholly-owned subsidiary,
NetSol Technologies (PVT), Ltd. ("PK Tech") began the process of listing its
stock in an Initial Public Offering ("IPO") on the Karachi Stock Exchange in
Pakistan. The process consisted of a private equity raise and will conclude with
an offering to the public in Pakistan. As a result of the private equity raise,
the Company has recorded as an additional paid-in capital of $1,589,974 the
accompanying consolidated financial statements.
COMMON STOCK PURCHASE WARRANTS AND OPTIONS
From time to time, the Company issues options and warrants as incentives to
employees, officers and directors, as well as to non-employees.
Common stock purchase options and warrants consisted of the following during the
nine months ended March 31, 2005:
Exercise Exercise
Options Price Warrants Price
--------------- --------------- ------------ ---------------
Outstanding and exercisable, June 30, 2004 1,862,277 $0.75 to $5.00 693,182 $0.50 to $5.00
Granted 714,000 $1.14 to $1.30 282,260 $3.30
Exercised (972,277) $0.75 to $2.21 (20,162) -
Expired (10,000) $1.00 -
-------------- -----------
Outstanding and exercisable, March 31, 2005 1,594,000 955,280
There were no options granted or exercised during the quarter ended September
30, 2004 and March 31, 2005.
During the quarter ended December 31, 2004, 714,000 options were granted to
employees of the company and are fully vested and expire ten years from the date
of grant unless the employee terminates employment, in which case the options
expire within 30 days of their termination. No expense was recorded for the
granting of these options.
In compliance with FAS No. 148, the Company has elected to continue to follow
the intrinsic value method in accounting for its stock-based employee
compensation plan as defined by APB No. 25 and has made the applicable
disclosures below.
Had the Company determined employee stock based compensation cost based on a
fair value model at the grant date for its stock options under SFAS 123, the
Company's net earnings per share would have been adjusted to the pro forma
amounts for year ended March 31, 2005 as follows:
12
Net income - as reported $ 445,238
Stock-based employee compensation expense,
included in reported net loss, net of tax --
Total stock-based employee compensation
expense determined under fair-value-based
method for all rewards, net of tax (313,195)
-----------
Pro forma net income $ 132,043
===========
Earnings per share:
Basic, as reported 0.04
Diluted, as reported 0.03
Basic, pro forma 0.01
Diluted, pro forma 0.01
During the quarter ended September 30, 2004, three debenture holders converted
their notes into common stock. As part of the conversion, warrants to purchase a
total of 40,323 common shares were issued to the note holders. The warrants
expire in five years and have an exercise price of $3.30 per share. The warrants
were valued using the fair value method at $28,024 or $0.69 per share and
recorded the expense in the accompanying consolidated financial statements. The
Black-Scholes option pricing model used the following assumptions:
Risk-free interest rate 3.25%
Expected life 5 years
Expected volatility 82%
Dividend yield 0%
During the quarter ended December 31, 2004, sixteen debenture holders converted
their notes into common stock. As part of the conversion, warrants to purchase a
total of 241,937 common shares were issued to the note holders. The warrants
expire in five years and have an exercise price of $3.30 per share. The warrants
were valued using the fair value method at $221,614 or $0.92 per share and
recorded the expense in the accompanying consolidated financial statements. The
Black-Scholes option pricing model used the following assumptions:
Risk-free interest rate 3.25%
Expected life 5 years
Expected volatility 82%
Dividend yield 0%
There were no conversions during the quarter ended March 31, 2005.
NOTE 9 - INTANGIBLE ASSETS:
Intangible assets consist of product licenses, renewals, enhancements,
copyrights, trademarks, trade names, customer lists and goodwill. The Company
evaluates intangible assets, goodwill and other long-lived assets for
impairment, at least on an annual basis and whenever events or changes in
circumstances indicate that the carrying value may not be recoverable from its
estimated future cash flows. Recoverability of intangible assets, other
long-lived assets and, goodwill is measured by comparing their net book value to
the related projected undiscounted cash flows from these assets, considering a
number of factors including past operating results, budgets, economic
projections, market trends and product development cycles. If the net book value
of the asset exceeds the related undiscounted cash flows, the asset is
considered impaired, and a second test is performed to measure the amount of
impairment loss. Potential impairment of goodwill after July 1, 2002 has been
evaluated in accordance with SFAS No. 142. The SFAS No. 142 is applicable to the
financial statements of the Company beginning July 1, 2002.
13
As part of intangible assets, the Company capitalizes certain computer software
development costs in accordance with SFAS No. 86, "Accounting for the Costs of
Computer Software to be Sold, Leased, or Otherwise Marketed." Costs incurred
internally to create a computer software product or to develop an enhancement to
an existing product are charged to expense when incurred as research and
development expense until technological feasibility for the respective product
is established. Thereafter, all software development costs are capitalized and
reported at the lower of unamortized cost or net realizable value.
Capitalization ceases when the product or enhancement is available for general
release to customers.
The Company makes on-going evaluations of the recoverability of its capitalized
software projects by comparing the amount capitalized for each product to the
estimated net realizable value of the product. If such evaluations indicate that
the unamortized software development costs exceed the net realizable value, the
Company writes off the amount by which the unamortized software development
costs exceed net realizable value. Capitalized and purchased computer software
development costs are being amortized ratably based on the projected revenue
associated with the related software or on a straight-line basis over three
years, whichever method results in a higher level of amortization.
Product licenses and customer lists were comprised of the following as of March
31, 2005:
Product Licenses Customer Lists Total
---------------- ---------------- ----------------
Intangible asset - June 30, 2004 $ 5,450,357 $ 1,977,877 $ 7,428,234
Additions 2,779,835 1 316,880 4,096,715
Effect of translation adjustment 2,023 -- 2,023
Accumulated amortization (3,573,916) (1,595,005) (5,168,921)
---------------- ---------------- ----------------
Net balance - March 31, 2005 $ 4,658,299 $ 1,699,752 $ 6,358,051
================ ================ ================
Amortization expense:
Nine months ended March 31, 2005 $ 645,942 $ 258,696 $ 904,638
Nine months ended March 31, 2004 $ 588,174 $ 236,748 $ 824,922
The above amortization expense includes amounts in Cost of Goods Sold for
capitalized software development costs.
Amortization expense of intangible assets over the next five years is as follows
----------------------------------------------------------------------------------------------
FISCAL YEAR ENDING
Asset 6/30/05 6/30/06 6/30/07 6/30/08 6/30/09 TOTAL
----------------------------------------------------------------------------------------------
Product Licences $ 292,533 $1,170,134 $ 490,008 $ 490,008 $ 482,572 $2,925,255
Customer Lists 144,761 539,702 307,452 268,876 263,376 1,524,167
-------------------------------------------------------------- ----------
$ 437,294 $1,709,836 $ 797,460 $ 758,884 $ 745,948 $4,449,422
============================================================== ==========
There were no impairments of the goodwill asset in the nine months ended March
31, 2005 and 2004.
NOTE 10 - LITIGATION:
To the best knowledge of Company's management and counsel, there is no material
litigation pending or threatened against the Company.
14
NOTE 11 - SEGMENT INFORMATION
The following table presents a summary of operating information and certain
year-end balance sheet information for the nine months ended March 31:
2005 2004
Revenues from unaffiliated customers: (restated)
North America $ 295,725 $ 481,868
International 7,676,725 3,399,863
------------ ------------
Consolidated $ 7,972,450 $ 3,881,731
============ ============
Operating income (loss):
North America $ (1,932,368) $ (2,249,802)
International 2,807,624 657,499
------------ ------------
Consolidated $ 875,256 $ (1,592,303)
============ ============
Identifiable assets:
North America $ 6,568,062 $ 5,285,747
International 15,241,710 5,819,100
------------ ------------
Consolidated $ 21,809,772 $ 11,104,847
============ ============
Depreciation and amortization:
North America $ 860,330 $ 796,791
International 147,460 106,391
------------ ------------
Consolidated $ 1,007,790 $ 903,182
============ ============
Capital expenditures:
North America $ -- $ 48,660
International 624,703 323,934
------------ ------------
Consolidated $ 624,703 $ 372,594
============ ============
NOTE 12 - MINORITY INTEREST IN SUBSIDIARY
NetSol Connect:
In August 2003, the Company entered into an agreement with United Kingdom based
Akhter Group PLC ("Akhter"). Under the terms of the agreement, Akhter Group
acquired 49.9 percent of the Company's subsidiary; Pakistan based NetSol Connect
PVT Ltd. ("Connect"), an Internet service provider ("ISP"), in Pakistan through
the issuance of additional Connect shares. As part of this Agreement, Connect
changed its name to NetSol Akhter. The partnership with Akhter Computers is
designed to rollout connectivity and wireless services to the Pakistani national
market. On signing of this Agreement, the Shareholders agreed to make the
following investment in the Company against issuance of shares of Connect.
Akhter US$ 200,000
The Company US$ 50,000
During the quarter ended September 30, 2003, the funds were received by Connect
and a minority interest of $200,000 was recorded for Akhter's portion of the
subsidiary. During the quarter ended December 31, 2003, Akhter paid an
additional $10,000 to the Company for this purchase. Per the agreement, it was
envisaged that Connect would require a maximum $500,000 for expansion of its
business from each partner. Akhter was to meet the initial financial
requirements of the Connect until November 1, 2003. As of December 31, 2004,
both NetSol and Akhter had injected the majority of their committed cash to meet
the expansion requirement of the company. As of December 31, 2004, a total of
$751,356 had been transferred to Connect.
15
For the nine months ended March 31, 2004, the subsidiary had net losses of
$23,576, of which $11,764 was recorded against the minority interest. The
balance of the minority interest at March 31, 2005 was $379,752.
NetSol-TiG:
In December 2004, NetSol forged a new and a strategic relationship with a UK
based public company TIG Plc. A new Joint Venture was signed by the two
companies to create a new company, TiG NetSol Pvt Ltd. ("NetSol-TiG"), with
50.1% ownership by NetSol Technologies, Inc. and 49.9% ownership by TiG. The
agreement anticipates TiG's technology business to be outsourced to NetSol's
offshore development facility. Both companies, according to this agreement,
would invest a total of $1 million or $500,000 each in next few months for
infrastructure, dedicated personnel and systems in the NetSol IT campus in
Lahore.
During the quarter ended March 31, 2005, the Company invested $255,255 and TiG
invested $250,006 and the new subsidiary began operations.
For the three months ended March 31, 2005, the subsidiary had net income of
$55,110, of which $27,500 was recorded against the minority interest. The
balance of the minority interest at March 31, 2005 was $277,506.
NOTE 13 - CONVERTIBLE DEBENTURE
On March 24, 2004, the Company entered into an agreement with several investors
to acquire Series A Convertible Debentures (the "Bridge Loan") whereby a total
of $1,200,000 in debentures were procured through Maxim Group, LLC. The Company
received a net of $1,049,946 after placement expenses. In addition, the
beneficial conversion feature of the debenture was valued at $252,257. The
Company has recorded this as a contra-account against the loan balance and is
amortizing the beneficial conversion feature over the life of the loan. During
the nine months ended March 31, 2005, the Company amortized $198,991. The
unamortized balance at March 31, 2005 was $15,766.
During the nine months ended March 31, 2005, nineteen of the convertible
debenture holders elected to convert their notes into common stock. The total of
the notes converted was $1,050,000 and the Company issued 564,519 shares of its
common stock to the note holders. The net balance at March 31, 2005, was
$134,234.
Under the terms of the Bridge Loan agreements, and supplements thereto, the
debentures bear interest at the rate of 10% per annum, payable on a quarterly
basis in common stock or cash at the election of the Company. The maturity date
is 24 months from the date of signing, or March 26, 2006. Pursuant to the terms
of a supplemental agreement dated May 5, 2004 between NetSol and the debenture
holders, the conversion rate was set at one share for each $1.86 of principal.
The Company recorded interest expense on the debentures in the amount of
$84,726.
In addition, each debenture holder is entitled to receive at the time of
conversion warrants equal to one-half of the total number of shares issued. The
total number of warrants that may be granted is 322,582. The warrants expire in
five years and have an exercise price of $3.30 per share. The fair value of the
warrants will be calculated and recorded using the Black-Scholes method at the
time of granting, when the debenture is converted. During the nine months ended
March 31, 2005, nineteen debenture holders converted their notes into common
stock. As part of the conversion, warrants to purchase a total of 282,260 common
shares were issued to the note holders. (See note 8) The warrants were valued
using the fair value method at $249,638. The expense was recorded in the
accompanying consolidated financial statements.
NOTE 14 - GAIN ON SETTLEMENT OF DEBT
In September 2004, the Company transferred 24,004 of its treasury shares valued
at $45,965 to Brobeck Phleger & Harrison, Llp, in exchange of debt, as part of a
settlement agreement. The Company recorded a gain of $8,285 on the settlement.
During the quarter ended September 30, 2004, the Company evaluated the
liabilities of its discontinued operations and determined that $41,989 was no
longer payable. The Company recorded a gain of $41,989 as a result of the
write-off of these liabilities from its financial statements.
In October 2004, the Company reached an agreement with a vendor to settle the
amounts owing. The vendor agreed to accept $29,642 as payment in full. As a
result, the Company recorded a gain on forgiveness of debt of $11,029.
In December 2004, the Company reached an agreement with Cowler to pay the
balance owing on the loan in one lump-sum payment (see Note 7). Cowler agreed to
accept (pound)52,000 or $103,371 as payment in full. As a result, the Company
recorded a gain on forgiveness of debt of $21,148.
16
During the quarter ended December 31, 2004, a former officer of Abraxas, the
Company's Australian subsidiary, agreed to forgive amounts accrued to him for
long-term service leave prior to the Company's acquisition in 1999. The amounts
accrued were during the period of 1984 to 1999. As a result, the Company
recorded a gain on forgiveness of debt of $107,190.
In February 2005, the Company reached an agreement with a former vendor to
settle amounts owing. The vendor agreed to accept $27,580 as payment in full. As
a result, the Company recorded a gain on forgiveness of debt of $27,581.
During the quarter ended March 31, 2005, the Company wrote-off old invoices for
services under the statute of limitations. The vendor has not contacted the
Company in over four years and the original services were in dispute at the time
they were rendered. As a result, the Company recorded a gain on forgiveness of
debt of $22,562.
NOTE 15 - ACQUISITION OF CQ SYSTEMS
On January 19, 2005, the Company entered into an agreement to acquire 100% of
the issued and outstanding shares of common stock of CQ Systems Ltd., a company
organized under the laws of England and Wales. The acquisition closed on
February 22, 2005.
According to the terms of the Share Purchase Agreement, the Company acquired
100% of the issued and outstanding shares of CQ from CQ's current shareholders,
whose identity is set forth in the Share Purchase Agreement (the "CQ
Shareholders") at the completion date in exchange for a purchase price
consisting of: a) 50.1% of CQ's total gross revenue for the twelve month period
ending March 31, 2005 after an adjustment for any extraordinary revenue, i.e.
non-trading revenue ("LTM Revenue") multiplied by 1.3 payable: (i) 50% in shares
of restricted common stock of the Company at a per share cost basis of $2.313
and as adjusted by the exchange rate of U.S. Dollar to British Pound (at the
spot rate for the purchase of sterling with U.S. dollars certified by NatWest
Bank plc as prevailing at or about 11:00 a.m.) on January 19, 2005 and, (ii) 50%
in cash; and b) 49.9% of CQ's LTM Revenue for the period ending March 31, 2006
multiplied by 1.3 payable, at the Company's discretion: (i) wholly in cash; or
(ii) on the same basis and on the same terms as the initial payment provided,
however that the cost basis of the Company's common stock shall be based on the
20 day volume weighted average of the Company's shares of common stock as traded
on NASDAQ 20 days prior to March 31, 2005 and, provided that under no
circumstances shall the total number of shares of common stock issued to the CQ
Shareholders exceed 19% of the issued and outstanding shares of common stock,
less treasury shares, of the Company at January 19, 2005.
The initial purchase price was (pound)3,576,335 or $6,730,382, of which one-half
was due at closing payable in cash and stock and the other half is due when the
audited March 31, 2006 financial statements are completed. On the closing date,
$1.7 million was paid and 681,965 shares were issued to the shareholders of CQ,
valued at $1,676,795 at an average share price of $2.46 (see Note 8) was
recorded. In addition, the agreement called for the accumulated retained
earnings amounting to (pound)423,711 or $801,915 of CQ Systems as of the closing
date to be paid to the shareholders in cash and stock. In April 2005, the
additional cash of (pound)350,000 or $662,410 was paid and 77,503 shares of the
Company's common stock valued at $139,505 were issued. The total amount paid at
closing was $4,178,710.
In accordance with SFAS 141, the Company has recognized the lesser of the
maximum amount of the contingent consideration based on earnings or the excess
of the fair market value of assets acquired over the purchase price as a
deferred liability. The deferred liability balance at march 31, 2005 was
$1,115,312, which includes the $801,915 paid in April 2005. The purchase price
has been allocated as follows:
Purchase Price Allocation
-------------------------
Purchase Price $ 7,532,297
Less contingent consideration (3,353,587)
-----------
Net purchase price $ 4,178,710
===========
Net tangible assets $ 984,420
Intangible Assets:
Product License 2,190,807
Customer Lists 1,316,880
Deferred liability (313,397)
-----------
Net purchase price $ 4,178,710
===========
NOTE 16 - RESTATEMENT
Subsequent to the issuance of the Company's financial statements for the nine
months ended March 31, 2005 and 2004, the Company determined that certain
transactions and presentation in the financial statements had not been accounted
for properly in the Company's financial statements. Specifically, the amount of
impairment of goodwill was over-recorded and classified as amortization expense,
and the beneficial conversion feature of the convertible debenture was
overstated and loans to officers hadn't been properly reflected on the financial
statements and the exercise of options against these loans had been recorded as
receivables as of June 30, 2004. In addition for the period ended March 31,
2005, the amount of deferred liability in connection with the acquisition of CQ
Systems was over-stated.
17
The Company has restated its financial statements for these adjustments as of
March 31, 2005 and 2004.
The effect of the correction of the error is as follows:
AS AS
PREVIOUSLY AS PREVIOUSLY AS
REPORTED RESTATED REPORTED RESTATED
------------ ------------ ------------ ------------
BALANCE SHEET
As of March 31, 2005 As of March 31, 2004
Assets:
Other current assets $ 1,207,016 $ 1,182,456
Goodwill, net $ 3,404,886 $ 1,166,611 $ 1,046,926 $ 1,166,612
Total intangibles $ 9,762,937 $ 7,524,662 $ 4,037,658 $ 4,157,344
Total assets $ 24,072,607 $ 21,809,772 $ 11,104,848 $ 11,224,534
Liabilities:
Current portion of notes $ 4,814,463 $ 1,460,876
Due to officers $ -- $ 40,136
Deferred liability $ -- $ 1,115,312
Convertible debenture $ 120,000 $ 134,234
Total liabilities $ 8,506,805 $ 6,322,899
Stockholder's Equity:
Additional paid-in capital $ 46,817,522 $ 46,769,779 $ 43,350,274 $ 43,119,861
Accumulated deficit $(30,488,248) $(30,537,075) $(31,296,539) $(30,623,443)
Stock subscription receivable $ (1,328,142) $ (1,187,150)
Other Comprehensive loss $ (334,871) $ (458,222)
Total stockholder's deficit $ 15,186,050 $ 15,107,121 $ 10,594,331 $ 11,037,014
STATEMENT OF OPERATIONS:
For the nine months ended For the nine months ended
March 31, 2005 March 31, 2004
Depreciation and amortization $ 986,755 $ 1,007,789 $ 1,226,180 $ 903,182
General and administrative $ 1,032,687 $ 1,011,653
Total operating expenses $ 4,153,323 $ 4,153,323 $ 4,151,496 $ 3,828,498
Income (Loss) from operations $ 875,256 $ 875,256 $ (1,915,301) $ (1,592,303)
Beneficial conversion feature $ (239,416) $ (205,906)
Other income (expenses) $ (2,779) $ (20,269)
Net income (loss) $ 429,218 $ 445,238 $ (1,838,075) $ (1,515,077)
Net income (loss) per share:
Basic $ 0.04 $ 0.04 $ (0.22) $ (0.18)
Diluted $ 0.03 $ 0.03 $ (0.22) $ (0.18)
NOTE 17 - SUBSEQUENT EVENTS
In April 2005, the Company entered into a settlement agreement with Herbert
Smith whereby they agreed to accept a total of $135,000 as payment in full on
the loan outstanding. $25,000 of this amount was paid in March 2005 and the
remaining balance of $110,000 was paid on May 2, 2005. The Company will record a
gain on settlement of debt in the amount of $33,321.
18
In April 2005, the Company paid down 50% of $300,000 principal note balance to
an investor, Dr. Omar Atiq. The Company paid $150,000 in cash to Dr. Atiq
thereby reducing the principal note balance to $150,000 plus accrued interest.
In April 2005 the Company received payments from a few key customers for over
$800,000 in accounts receivables and over $500,000 in early May 2005
respectively, thereby reducing accounts receivable balances.
In April 2005, and as part of the acquisition agreement with CQ Systems Ltd.
("CQ Systems"), the Company finalized the CQ Systems completion accounts as of
the closing date. Finalization of the completion accounts required the Company
to remit the net working capital (accumulated retained earnings) to the former
CQ shareholders. The total net working capital was (pound)423,711, of this
(pound)350,000 or $662,410 was paid in cash and 77,503 shares of restricted
common stock of the Company, valued at $139,505 were issued.
19
Item 2. Management's Discussion and Analysis Or Plan Of Operation
The following discussion is intended to assist in an understanding of the
Company's financial position and results of operations for the quarter and nine
months ending March 31, 2005.
Forward-Looking Information.
This report contains certain forward-looking statements and information relating
to the Company that is based on the beliefs of its management as well as
assumptions made by and information currently available to its management. When
used in this report, the words "anticipate", "believe", "estimate", "expect",
"intend", "plan", and similar expressions as they relate to the Company or its
management, are intended to identify forward-looking statements. These
statements reflect management's current view of the Company with respect to
future events and are subject to certain risks, uncertainties and assumptions.
Should any of these risks or uncertainties materialize, or should underlying
assumptions prove incorrect, actual results may vary materially from those
described in this report as anticipated, estimated or expected. The Company's
realization of its business aims could be materially and adversely affected by
any technical or other problems in, or difficulties with, planned funding and
technologies, third party technologies which render the Company's technologies
obsolete, the unavailability of required third party technology licenses on
commercially reasonable terms, the loss of key research and development
personnel, the inability or failure to recruit and retain qualified research and
development personnel, or the adoption of technology standards which are
different from technologies around which the Company's business ultimately is
built. The Company does not intend to update these forward-looking statements.
INTRODUCTION
NetSol is an end-to-end information technology ("IT") and business consulting
services provider for the lease and finance, banking and financial services
industries. Operating on a global basis with locations in the U.S., Europe, East
Asia and Asia Pacific, the Company helps its clients identify, evaluate, and
implement technology solutions to meet their most critical business challenges
and maximize their bottom line. The Company's products include sophisticated
software applications for the asset-based lease and finance industry, and with
the acquisition of Pearl Treasury Systems, the "PTS System" designed to
seamlessly handle foreign exchange and money market trading for use by financial
institutions and customers.
The Company's IP backbone, located in Karachi, Pakistan at our subsidiary,
Network Technologies Pvt. Ltd., develops the majority of the Company's software
and has achieved the ISO 9001 and Software Engineering Institute Capability
Maturity Model Level 4 software development assessment. The economies of scale
presented by our Pakistani operations have permitted the Company to capitalize
on the upward trend in information technology outsourcing. Economic pressures
have driven more companies to outsource major elements of their IT operations,
particularly application development and technology consulting. NetSol has
capitalized on this market trend by providing an off-shore development model at
costs well below those of companies located in India, Europe and the United
States.
Together with this focus on providing an outsourcing, off-shore solution to
existing and new customers, NetSol has also adopted a dynamic growth strategy
through accretive acquisitions.
PLAN OF OPERATIONS
Management has set the following new goals for the Company's next 12 months.
Initiatives and Investment to Grow Revenues and Capabilities
o Achieve CMM Level 5 Accreditation in 2005.
o Enhance Software Design, Engineering and Service Delivery
Capabilities by increasing investment in training.
o Enhance and invest in R&D or between 5-7% of yearly budgets in
financial, banking and various other domains within NetSol's core
competencies.
o Continue recruiting additional senior level marketing and technical
professionals in Lahore, London, and Adelaide offices to be able to
support potential new customers from the North American and European
markets.
o Recruit senior marketing and sales executives to oversee the global
marketing operations.
o In June 2004, the Company relocated its entire staff in Lahore to
three floors of its newly built, fully dedicated and wholly owned
Technology Campus. The Company is in the process of expanding the
last two remaining floors to add new personnel.
20
o Increase Capex, to enhance Communications and Development
Infrastructure. Roll out a second phase of construction of
technology Campus in Lahore to respond to a growth of new orders and
customers.
o Launch new business development initiatives for various products and
services such as LeaseSoft in hyper growth economies such as China.
o Appoint a senior marketing executive from CQ systems to head up new
initiatives in China.
o Create new technology partnership with Oracle and strengthen our
relationship with Intel in Asia Pacific and in the USA.
o Aggressive marketing strategy in local government and private
sectors in Pakistan. Participate in biggest and largest value IT
projects in the public sectors of government of Pakistan.
o Ramping up the telecom sectors through its majority owned subsidiary
NetSol Akhter and injecting needed capital. The telecom sector is
one of the most untouched sectors in Pakistan. NetSol has seized
this opportunity to aggressively market its products and services
with its strong infrastructure, brand name and resources in this
region.
o Aggressive new business development activities in UK and European
markets through organic growth, new alliances and mergers and
acquisition.
o Explore new and diversify into Business Processing Outsourcing
("BPO") areas due to explosive outsourcing into offshore model.
Top Line Growth through Investment in Marketing Organically and by Mergers and
Acquisition ("M&A") activities:
o Launch LeaseSoft into new markets by assigning new, well established
companies as distributors in Europe, Asia Pacific including Japan.
o Expand relationships with key customers in the US, Europe and Asia
Pacific.
o Expand global sales opportunities with existing customers such as
DaimlerChrysler Group, Toyota Leasing and, Yamaha Motors.
o Enhance pricing of LeaseSoft products based on its demand and
growth.
o Product Positioning through alliances, joint ventures and
partnerships.
o Direct Marketing of Services.
o Embark on roll up strategy by broadening M&A activities broadly in
the software development domain.
o Aggressively pursue software companies in the US and in Europe to
launch a strong foothold in these markets.
o Effectively position and marketing campaign for InBanking system.
This is a potentially big revenue generator in the banking domain
for which NetSol has already invested significant time and resources
towards completing the development of this application. Seeking
major development partners to market this treasury system in the
global markets.
With these goals in mind, the Company entered in to the following significant
and new strategic alliances and relationships:
CQ Systems Ltd. On January 19, 2005, the Company entered into an agreement to
acquire 100% of the issued and outstanding shares of common stock of CQ Systems
Ltd., a company organized under the laws of England and Wales. The acquisition
closed in February 2005. CQ Systems' business model complements the Company's
growth strategy. CQ Systems' product offering is synergistic to that of the
Company, as it has an established and balanced mix of recurring revenue flow
form the European marketplace, and a strong foothold with a comparable target
audience. The Company believes the acquisition will facilitate considerable
growth within the European marketplace as we blend and expand our product
offering by leveraging our offshore technology infrastructure to contain costs
and improve margins.
TiG Joint Venture. In December 2004, NetSol forged a new and a strategic
relationship with a UK based public company TIG Plc. A new Joint Venture was
signed by the two companies to create a new company, TiG NetSol Pvt Ltd., with
50.1% ownership by NetSol Technologies, Inc. and 49.9% ownership by TiG. The
creation of this joint venture would provide new revenues for NetSol as TiG
plans to outsource the development load to NetSol through this joint venture.
According to recent figures of TiG, they have approximate revenue of over $120
million of which approximately $50 million of that revenue is generated from
technology business. Both companies anticipate much of TiG's technology business
to be outsourced to NetSol's offshore development facility in the next few
years. Both companies, according to this agreement, would invest a total of $1
million or $500, 000 each in next few months for infrastructure, dedicated
personnel and system in the NetSol IT campus in Lahore. At least two floors in
the campus are being dedicated for this partnership in Lahore. The joint-venture
began operations during the quarter ended March 31, 2005.
21
LeaseSoft Distributors. NetSol is also very active in appointing key
distributors in South East Asia and in Europe for its LeaseSoft products. As
soon we have signed these agreements, the shareholders will be notified through
press releases.
DaimlerChrysler. NetSol signed a global frame agreement with DaimlerChrysler,
Germany for LeaseSoft products and services that now expands the marketing reach
to over 60 countries. DaimlerChrysler as a group represent the largest customers
for NetSol. Since the signing of global frame agreement in summer 2004, NetSol
has sold a few new Leasesoft licenses to some new markets and new customers such
as Toyota Leasing Thailand and Mauritius Commercial Bank. The pipeline for new
sales of Lease soft is very healthy in all these markets
Intel Corporation. NetSol forged what management believes to be a very important
and strategic alliance with Intel Corporation to develop a blueprint that would
give broader exposure and introduction to NetSol's LeaseSoft products to a
global market. NetSol recently attended major events in China and in San
Francisco through its Intel relationship, which was designed to connect and
introduce the Company to Intel partners worldwide.
Funding and Investor Relations.
o The Company's current positive cash flow based primarily on the
addition of CQ Systems and continued organic growth. The Company's
aim is to continue to further strengthen the balance sheet and cash
reserves in order to attract large customers world wide.
o The Company continues to explore various means and most cost
efficient methods to inject new capital for the growth it is
experiencing. With this in mind, and pursuant to an agreement with
AKD Securities, the Company has proceeded with the IPO of the shares
of common stock of NetSol Technologies Ltd., its subsidiary located
in Lahore, Pakistan on the Karachi Stock Exchange (KSE). Over $1.5
million was raised in the pre-IPO private placement which will be
followed by the Initial Public Offering which is anticipated to
raise approximately $4.5 million.
o Infuse new capital from potential exercise of outstanding investor
warrants and employees options for business development and
enhancement of infrastructures.
o NetSol has engaged Westrock Advisors LLC, in New York for new
investor relations and company coverage
o NetSol's continued profitability has permitted the Company to
develop opportunities to introduce the Company to small cap funds
and institutions in the U.S. Market. This effort is assisted and
coordinated by its investment advisor, Maxim Group LLC, our investor
relations consultant, McCloud Communications and, newly hired
consultants, SGI International.
Improving the Bottom Line.
o Continue to review costs at every level and take appropriate steps
to further reduce operating overheads.
o Discontinue any programs, projects or offices that are not producing
desirable and positive results.
o Consistently improving quality standards and work to achieve CMMi
Level 5 standard by sometime in 2006.
o Grow process automation.
o Profit Centric Management Incentives.
o More local empowerment and P&L Ownership in each Country Office.
o Improve productivity at the development facility and business
development activities.
o Cost efficient management of every operation and continue further
consolidation to improve bottom line.
o Improve prices of all our product offerings, yet maintain the
competitiveness. This will further improve gross margins across the
board.
o Further consolidating the subsidiaries by combining and integrating
operating units.
o Effectively and efficiently integrate both back end and front end
operations of CQ Systems with NetSol. This would improve margins,
reduce fixed costs of developments and simply introduce newer cost
efficiencies based on both companies strengths of processes and good
business practices
After streamlining key operations, Management believes that NetSol is in a
position to derive higher productivity based on current capital employed.
Nonetheless, as the business ramps up, management anticipates the need to hire
additional personnel.
22
Management continues to be focused on building its delivery capability and has
achieved key milestones in that respect. Key projects are being delivered on
time and on budget, quality initiatives are succeeding, especially in maturing
internal processes. Management believes that further leverage was provided by
the development `engine' of NetSol, which became CMM Level 2 in early 2002. In a
quest to continuously improve its quality standards, NetSol reached CMM Level 4
assessment in December 2004. According to the website of SEI of Carnegie Mellon
University, USA, only a few software companies in the world have announced their
assessment of level 4. Now, as a result of achieving CMM level 4, the Company is
experiencing a growing demand for its products and alliances from blue chip
companies worldwide. NetSol is now aiming for CMM level 5, the highest CMM
level, potentially as early as 2005. NetSol plans to further enhance its
capabilities by creating similar development engines in other Southeast Asian
countries with CMM levels quality standards. This would make NetSol much more
competitive in the industry and provide the capabilities for development in
multiple locations. Increases in the number of development locations with these
CMM levels of quality standards will provide customers with options and
flexibility based on costs and broader access to skills and technology.
MATERIAL TRENDS AFFECTING THE COMPANY
NetSol has identified the following material trends affecting the Company
Positive trends:
o Outsourcing of services and software development is growing
worldwide.
o The Global IT budgets are estimated to exceed $1.2 trillion in 2004,
according to the internal estimates of Intel Corporation. About 50%
of this IT budget would be consumed in the U.S. market alone
primarily on the people and processes.
o Burgeoning Chinese markets, Asian markets in general and economic
boom.
o Overall economic expansion worldwide and explosive growth in the
merging markets specifically. o Regional stability and improving
political environment between Pakistan and India.
o Economic turnaround in Pakistan including: a steady increase in
gross domestic product; much stronger dollar reserves, which is at
an all time high of over $13 billion; stabilizing reforms of
government and financial institutions; improved credit ratings in
the western markets, and strong stock markets.
o Pakistan's continuous fight against extremism and terrorism in the
region, boosting confidence of foreign investors and companies.
o Major turnarounds in the telecom sector as new opportunities are
arising due to privatization, new incentives, reduction of bandwidth
prices and tariffs.
o The stability in economic, political and business fronts in Pakistan
has opened numerous new opportunities particularly in the telecom
and private sectors. o Steady increase in foreign direct investments
in Pakistan and new entry of many large technology companies in
Pakistan.
Negative trends:
o The disturbance in Middle East and rising terrorist activities post
9/11 worldwide have resulted in issuance of travel advisories in
some of the most opportunistic markets. In addition, travel
advisories issued to U.S. Citizens for travel to Pakistan and other
regions, and new immigration laws provide delays and limitations on
business travel.
o The potential impact of higher U.S. interest rates including, but
not limited to, fear of inflation that may drive down IT budgets and
spending by U.S. companies.
o Higher oil prices worldwide may slow down the global economy causing
delays in new orders and reduction in budgets.
CRITICAL ACCOUNTING POLICIES
Our financial statements and related public financial information are based on
the application of accounting principles generally accepted in the United States
("GAAP"). GAAP requires the use of estimates; assumptions, judgments and
subjective interpretations of accounting principles that have an impact on the
assets, liabilities, and expense amounts reported. These estimates can also
affect supplemental information contained in the external disclosures of the
Company including information regarding contingencies, risk and financial
condition. Management believes our use of estimates and underlying accounting
assumptions adhere to GAAP and are consistently and conservatively applied.
Valuations based on estimates are reviewed for reasonableness and conservatism
on a consistent basis throughout the Company. Primary areas where our financial
information is subject to the use of estimates, assumptions and the application
of judgment include our evaluation of impairments of intangible assets, and the
recoverability of deferred tax assets, which must be assessed as to whether
these assets are likely to be recovered by us through future operations. We base
our estimates on historical experience and on various other assumptions that we
believe to be reasonable under the circumstances. Actual results may differ
materially from these estimates under different assumptions or conditions. We
continue to monitor significant estimates made during the preparation of our
financial statements.
23
VALUATION OF LONG-LIVED AND INTANGIBLE ASSETS
The recoverability of these assets requires considerable judgment and is
evaluated on an annual basis or more frequently if events or circumstances
indicate that the assets may be impaired. As it relates to definite life
intangible assets, we apply the impairment rules as required by SFAS No. 144,
"Accounting for the Impairment or Disposal of Long-Lived Assets" which requires
significant judgment and assumptions related to the expected future cash flows
attributable to the intangible asset. The impact of modifying any of these
assumptions can have a significant impact on the estimate of fair value and,
thus, the recoverability of the asset.
INCOME TAXES
We recognize deferred tax assets and liabilities based on the differences
between the financial statement carrying amounts and the tax bases of assets and
liabilities. We regularly review our deferred tax assets for recoverability and
establish a valuation allowance based upon historical losses, projected future
taxable income and the expected timing of the reversals of existing temporary
differences. During fiscal year 2004-2005, we estimated the allowance on net
deferred tax assets to be one hundred percent of the net deferred tax assets.
CHANGES IN FINANCIAL CONDITION
Quarter Ended March 31, 2005 as compared to the Quarter Ended March 31, 2004:
Net revenues for the quarters ended March 31, 2005 and 2004 were $3,190,918 and
$1,700,774, respectively. Net revenues are broken out among the subsidiaries as
follows:
2005 2004
---------- ----------
Netsol USA $ 21,606 0.68% $ 274,368 16.13%
Netsol Tech 1,623,307 50.87% 884,772 52.02%
Netsol Private 95,367 2.99% 176,969 10.41%
Netsol Connect 294,420 9.23% 202,130 11.88%
Netsol UK 125,782 3.94% 93,089 5.47%
Netsol-Abraxas Australia 76,629 2.40% 69,446 4.08%
CQ Systems 799,761 25.06% -- 0.00%
NetSol - TiG 154,046 4.83% -- 0.00%
-------------------- -------------------
Total Net Revenues $3,190,918 100.00% $1,700,774 100.00%
==================== ===================
This reflects an increase of $1,490,144 or 87.62% in the current quarter as
compared to the quarter ended March 31, 2004. The increase is attributable to
new orders of licenses, an increase in services business, including additional
maintenance work, and the addition of two new subsidiaries in the current
quarter. The Company's biggest revenue growth was achieved in all three of its
Pakistan based subsidiaries, which generated sales both domestically and
internationally. The Company has experienced solid and consistent demand for IT
services in the domestic sectors of Pakistan. The export licenses of LeaseSoft
and maintenance related services surged primarily due to the most recent
endorsement by our biggest customer DaimlerChrysler of Germany. NetSol and
DaimlerChrysler signed a global frame agreement that added new revenues and
assisted in acquiring new customers such as Toyota Leasing Thailand and
Mauritius Commercial Bank. The impressive growth in revenue is also attributed
to several domestic contracts won in the last nine months in Pakistan.
Specifically in the last quarter, NetSol's relationship with Toyota Leasing
Thailand has grown through sale of new licenses and services.
Our telecom company, NetSol Akhter, added its 50th new corporate customer in
Pakistan whose customers include, but are not limited to: AKD Securities,
Reuters and, Marriot Hotels. The subsidiary is now EBITDA positive and made a
net profit along with very strong and consistent bottom-line of the main
subsidiary NetSol Technologies, Ltd.
24
The U.S. subsidiary has been fully integrated with the parent company to reduce
costs. NetSol USA had been managing several projects with Seattle based Capital
Stream since November 2003. While the Capital Stream project generated strong
revenue since its inception, it was completed in January 2005. To control costs
and improve efficiency the NetSol USA office is being merged into the parent
office in California. The Company plans to launch Leasesoft and other services
in the US market by hiring senior sales executives in North America. It also
plans to explore new partnerships, such as but not limited to joint ventures
similar in structure to the TiG joint venture and through North American mergers
and acquisitions.
The successful completion of CQ Systems in February 2005 has positively aided
the topline and bottomline growth in the third quarter of 2005. Approximately
$750,000 of revenue of CQ was consolidated in this quarter.
The creation of TiG NetSol joint venture has already created a revenue of over
$150,000 with a profit of nearly $50,000. This joint venture required NetSol to
hire over 30 new programmers in Lahore to work on TiG projects from UK. This
relationship is expected to grow tremendously in next 12 months. TiG presently
generates over $40 million of business in technology of which the majority may
potentially be outsourced to the TiG-NetSol joint venture.
As a direct result of the successful implementations of some of our current
systems with DaimlerChrysler, we are noticing an increasing demand for
LeaseSoft. Although the sales cycle for LeaseSoft is rather long, we are
experiencing a 100% increase in product demonstration, evaluation and assessment
by blue chip companies in the UK, Australia, Japan, Europe and Pakistan. The
crown jewel of our product line "CMS' ("Contract Management System") which was
sold to three companies of DaimlerChrysler Asia Pacific Region in 2001 for a
combined value in excess of two million dollars was implemented and delivered to
customers in 2003. Based on ELA, (Equipment and Leasing Association of N.
America) the size of the world market for the leasing and financing industry is
in excess of $500 billion of which the software sector represents over a billion
dollars. A number of large leasing companies will be looking to renew legacy
applications. This places NetSol in a very strong position to capitalize on any
upturn in IT spending by these companies. NetSol is well positioned to sell
several new licenses in fiscal year 2005 that could potentially increase the
sales and bottom line. As the Company sells more of these licenses, management
believes it is possible that the margins could increase to upward of 70%. The
license prices of these products vary from $100,000 to $500,000 with additional
charges for customization and maintenance of between 20%-30% each year. The
Company, in parallel, has developed banking applications software to boost its
product line and these systems were sold to Citibank and Askari Banks in
Pakistan in 2002. New customers in the banking sector are also growing and the
Company expects substantial growth in this area in the coming year.
The gross profit was $1,848,702 in the quarter ending March 31, 2005 as compared
with $1,005,951 for the same quarter of the previous year for an increase of
$842,751. The gross profit percentage has increased to approximately 58% in the
quarter ended March 31, 2005 compared to approximately 59% for the quarter ended
March 31, 2004. In comparison to the prior quarter ended December 31, 2004, the
cost of sales increased approximately $502,829, revenues increased $467,691, and
an overall increase of 6% in gross profit.
Operating expenses were $1,632,525 for the quarter ending March 31, 2005 as
compared to $1,396,974, for the corresponding period last year. The increase is
selling and marketing expenses and salaries is due to the expansion of our
selling efforts and the addition of our two new subsidiaries. The Company has
streamlined its operations by consolidation, divestment and enhanced operating
efficiencies. Depreciation and amortization expense amounted to $384,649 and
$294,486 for the quarter ended March 31, 2005 and, 2004, respectively. The
increase is due to the acquisition of CQ Systems. Combined salaries and wages
costs were $453,226 and $408,840 for the comparable periods, respectively, or an
increase of $5,242 from the corresponding period last year.
Selling and marketing expenses were $219,399 and $49,690, in the quarter ended
March 31, 2005 and 2004, respectively, reflecting the growing sales activity of
the Company. The Company wrote-off as uncollectible bad debts of $0 in the
current quarter compared to $59,821 for the comparable prior period in the prior
year. Professional services expense increased to $112,830 in the quarter ended
March 31, 2005, from $70,701 in the corresponding period last year.
Income from operations was $216,177 compared to a loss of $391,023 for the
quarters ended March 31, 2005 and 2004, respectively. This represents a decrease
of $607,200 for the quarter compared with the comparable period in the prior
year. This is directly due to reduction of operational expenses and improved
gross margins.
Net income was $126,858 compared to net losses of $295,885 for the quarters
ended March 31, 2005 and 2004, respectively. This is an increase of 145%
compared to the prior year. The add-back for the 49.9% minority interest in
NetSol Connect owned by another party was $(2,495) compared to $71,049 and the
add-back for the 49.9% minority interest in NetSol-TiG was $27,500 for a total
of $(29,994). During the current quarter, the Company also recognized an expense
of $3,941 for the beneficial conversion feature on convertible debentures and a
gain of $49,865 from the settlement of debts. Net income per share, basic and
diluted, was $0.01 for the quarter ended March 31, 2005 as compared with a loss
per share of $0.04 for the corresponding period last year.
25
The net EBITDA income was $511,507 compared to loss of $1,399 after amortization
and depreciation charges of $384,649 and $294,486 respectively. Although the net
EBITDA income is a non-GAAP measure of performance we are providing it for the
benefit of our investors and shareholders to assist them in their
decision-making process.
Nine Month Period Ended March 31, 2005 as compared to the Nine Month Period
Ended March 31, 2004:
Net revenues for the nine months ended March 31, 2005 and 2004 were $7,972,450
and $3,881,731, respectively. Net revenues are broken out among the subsidiaries
as follows:
2005 2004
---------- ----------
Netsol USA $ 295,725 3.71% $ 481,868 12.41%
Netsol Tech 4,564,167 57.25% 2,136,968 55.05%
Netsol Private 562,872 7.06% 272,650 7.02%
Netsol Connect 852,640 10.69% 503,530 12.97%
Netsol UK 574,849 7.21% 274,786 7.08%
Netsol-Abraxas Australia 168,390 2.11% 211,929 5.46%
CQ Systems 799,761 10.03% -- 0.00%
NetSol - TiG 154,046 1.93% -- 0.00%
-------------------- -------------------
Total Net Revenues $7,972,450 100.00% $3,881,731 100.00%
==================== ===================
This reflects an increase of $4,090,719 or 105.38% in the current nine months as
compared to the nine months ended March 31, 2004. The increase is attributable
to new orders of licenses and an increase in services business, including
additional maintenance work, and the addition of two new subsidiaries. The
Company's biggest revenue growth was achieved in all three of its Pakistan based
subsidiaries and its UK based subsidiary, which generated sales both
domestically and internationally. The Company has experienced solid and
consistent demand for IT services in the domestic sectors of Pakistan. The
export licenses of LeaseSoft and maintenance related services surged primarily
due to the most recent endorsement by our biggest customer DaimlerChrysler of
Germany. NetSol and DaimlerChrysler signed a global frame agreement that added
new revenues and assisted in acquiring new customers such as Toyota Leasing
Thailand and Mauritius Commercial Bank.
NetSol UK continues its business development activities and has seen good
traction in its sales pipeline. NetSol UK added a very strategic new customer
TiG ("The Innovation Group"), a publicly listed UK company. We believe our
relationship with TiG will yield significant new recurring revenues to the
subsidiary. The acquisition of CQ Systems is, thus far, proves to be a success,
and management anticipates that it will make a sizable contribution to NetSol
earnings going forward. NetSol has been experiencing a 100% increase in product
demonstration, evaluation and assessment by blue chip companies in the UK,
Australia, Japan, Europe and Pakistan. The crown jewel of our product line "CMS"
("Contract Management System") which was sold to three companies of
DaimlerChrysler Asia Pacific Region in 2001 for a combined value in excess of
two million dollars was implemented and delivered to customers in 2003.
The gross profit was $5,028,579 for the nine months ending March 31, 2005 as
compared with $2,236,195 for the same period of the previous year. The gross
profit percentage has increased 5.47% to 63.07% in the current fiscal year from
57.61% for the nine months ended March 31, 2004. The increase in gross profit
margins is due to repeat sales of some licenses to new customers and to existing
customers.
Operating expenses were $4,153,323 for the nine months ending March 31, 2005 as
compared to $3,828,498, for the corresponding period last fiscal year for an
increase of $324,825. The increase is mainly due to the increased sales
activities of the Company and the addition of two new subsidiaries. The Company
has streamlined its operations by consolidation, divestment and enhanced
operating efficiencies. Depreciation and amortization expense amounted to
$1,007,789 and $903,182 for the nine months ended March 31, 2005 and 2004,
respectively, the increase is due to the acquisition of CQ Systems. Combined
salaries and wage costs were $1,248,447 and $1,003,289 for the nine months ended
March 31, 2005 and 2004, respectively, or an increase of $245,158 from the
corresponding period last year.
26
Selling and marketing expenses were $474,099 and $96,377 for the nine months
ended March 31, 2005 and 2004, respectively. This reflects the Company's
expanding sales and marketing efforts. The Company wrote-off as uncollectible
bad debts of $0 and $153,327 for the nine months ended March 31, 2005 and 2004,
respectively. Professional services expense increased to $368,135 in the nine
months ended March 31, 2005, from $310,403 in the corresponding period last
year.
Income from continued operations was $875,256 compared to loss of $1,592,303 for
the nine months ended March 31, 2005 and 2004, respectively. This represents an
increase of $2,467,459 for the nine-month period compared to the prior year.
This is directly due to increased sales, reduction of operational expenses,
improved gross margins, and the addition of two new subsidiaries.
Net income was $445,238 for the nine months ended March 31, 2005 compared to net
loss of $1,515,077 for the nine months ended March 31, 2004. This is an increase
of 128% compared to the prior year. The add-back for the 49.9% minority interest
in NetSol Connect owned by another party was $11,764 compared to $164,387 and
the add-back for the 49.9% minority interest in NetSol-TiG was $27,500 for a
total of $(15,735). During the current nine months, the Company also recognized
an expense of $205,906 for the beneficial conversion feature on convertible
debentures, an expense of $249,638 for the fair market value of warrants issued
and a gain of $239,506 from the settlement of debts. Net income per share was
$0.04, basic and $0.03 diluted, for the nine months ended March 31, 2005 as
compared with a loss per share, basic and diluted, of $0.18 for the
corresponding period last year.
The net EBITDA income was $1,453,027 compared to loss of $611,895 after
amortization and depreciation charges of $957,524 and $903,182 respectively.
Although the net EBITDA income is a non-GAAP measure of performance we are
providing it for the benefit of our investors and shareholders to assist them in
their decision-making process.
LIQUIDITY AND CAPITAL RESOURCES
The Company's cash position was $1,596,031 at March 31, 2005 compared to
$449,047 at March 31, 2004. In addition the Company had $1,083,450 in
certificates of deposit. The total cash position, including the certificates of
deposits, was $2,679,481 as of March 31, 2005.
Net cash used for operating activities amounted to $733,409 for the nine months
ended March 31, 2005, as compared to $3,325,515 for the comparable period last
fiscal year. The decrease is mainly due to an increase in net income as well as
an increase in prepaid expenses and accounts receivable. In addition, the
Company experienced a decrease of $394,865 in its accounts payable and accrued
expenses.
Net cash used by investing activities amounted to $3,764,574 for the nine months
ended March 31, 2005, as compared to $855,492 for the comparable period last
fiscal year. The difference lies primarily in the purchase of subsidiary which
increased intangible assets and the purchase property and equipment during the
current fiscal year. The Company had net purchases of property and equipment of
$804,115 compared to $372,594 for the comparable period last fiscal year. During
the current fiscal year, an additional $287,797 and $250,006 was infused into
the Company's minority interest in the Company's subsidiaries NetSol Connect and
NetSol-TiG.
Net cash provided by financing activities amounted to $5,186,675 and $4,385,750
for the nine months ended March 31, 2005, and 2004, respectively. The current
fiscal period included the cash inflow of $1,512,000 compared to $1,102,049 from
issuance of equity and $999,224 compared to $1,215,575 from the exercising of
stock options and warrants. In the current fiscal period, the Company received
$1,589,974 of additional capital from the sale of NetSol PK Tech stock through
private placement leading to an IPO in Pakistan and had net proceeds on loans
and capital leases of $1,503,273 as compared to net proceeds of $868,126 in the
comparable period last year. The increase in loans is from new loans entered
into during the current period.
The management expects to continue to improve its cash position in the current
and future quarters due to the new business signed up in the last quarter. In
addition, the Company anticipates additional exercises of investor warrants and
employee stock options in the current and subsequent quarters. During the
current fiscal period, management reduced the current liabilities significantly
by paying down these obligations. Management anticipates receiving proceeds from
option exercises in the coming months and will continue to explore the best
possible means and terms to raise new capital. Management is confident of being
able to strengthen its cash position and further improve the liquidity position.
Management is committed to implementing the growth business strategy that was
ratified by the board of directors in December 2003. The Company would continue
to inject new capital towards expansion, growing sales and marketing and further
enhancement of delivery capabilities. However, management is committed to
ensuring the most efficient and cost effective means of raising capital and
utilization.
27
As a growing company, we have on-going capital expenditure needs based on our
short term and long term business plans. Although our requirements for capital
expenses vary from time to time, for next 12 months, we have following capital
needs:
o Injection of additional new capital of up to $500,000 in a strategic
joint-venture of NetSol-TiG. This partnership serves to outsource
TiG's software development business to our offshore-based
development facility.
o The final payment to former CQ Systems shareholders of the remaining
consideration. The amount due is based on the earnings of CQ Systems
during the period of March 31, 2005 to March 31, 2006 and will be
paid in cash, equity or a combination of both. The initial
consideration, which was based on revenues for the period ending
March 31, 2005, total approximately $3.5 million and was paid in
cash and restricted shares of common stock. While the agreement
permits the final consideration to be paid, in part, in restricted
shares of common stock, management believes that improving net cash
position of CQ and Company strongly improves the potential of
meeting this obligation without raising new capital.
o New capital requirement for NetSol Akhter, the telecom division in
an amount up to $2.0 million as required by the agreement with
Akhter.
o Working capital of $1.0 million for debts payments, new business
development activities and infrastructure enhancements.
o Final note payments of $875,000 due in 12 months that was received
from three separate investors to close the CQ acquisition in
February 2005. These investors, who have long standing relationships
with the Company, permit the extension of the maturity date upon the
agreement of these investors.
While there is no guarantee that we will have sufficient funds to meet our
capital needs or that even if available that such funds will be on terms
acceptable to the Company. We may consider raising capital through the following
methods: equity based financing; warrant and option exercises.
The methods of raising funds for capital needs may differ based on the
following:
o Stock volatility due to market conditions in general and NetSol
stock performance in particular. This may cause a shift in our
approach to raise new capital through other sources such as secured
long term debt.
o Analysis of the cost of raising capital in the U.S., Europe or
emerging markets. By way of example only, if the cost of raising
capital is high in one market and it may negatively affect the
company's stock performance, we may explore options available in
other markets.
Should global or other general macro economic factors cause an adverse climate,
we would defer new financing and use internal cash flow for capital
expenditures.
Item 3. Controls and Procedures
Management, under the supervision and with the participation of the chief
executive officer and chief financial officer, conducted an evaluation of the
disclosure controls and procedures as defined in Rule 13a-15(e), as of the end
of the period covered by this interim report on Form 10-QSB.
In performing this evaulation, management considered that during 2005 the
Company had discussions with the Staff of the SEC regarding the accounting for
goodwill, the issuance of warrants relating to the PIPE financing, and, the
beneficial conversion feature of the convertible debenture and the exercise of
options by officers. As a result of these discussions, the Company concluded
that the amount of impairment of goodwill was over-recorded and classified as
amortization expense, the expense due to issuance of warrants in connection with
the PIPE financing was recorded as finance charges instead of charging it
against the gross proceeds of the private placement, the beneficial conversion
feature of the convertible debenture was overstated and the amount due by
officers on an exercise of options hadn't been properly reflected on the
financial statements and these exercise of options had been recorded as
receivables as of June 30, 2004. In addition for the period ended March 31,
2005, the amount of deferred liability in connection with the acquisition of CQ
Systems was over-stated. The Company restated its financial statements for the
fiscal year ended June 30, 2004, and the quarterly fiscal periods ended
September 30, 2004 and December 31, 2004 and March 31, 2005.
Management has concluded that the disclosure controls and procedures in place
relating to the accounting for goodwill, the issuance of warrants relating to
the PIPE financing, the beneficial conversion feature of the convertible
debenture and the exercise of options by officers were not effective as defined
in Rule 13a-15(e) of the Securities Exchange Act of 1934, and has disclosed this
to the Audit Committee and to the independent registered public accountants.
In response to the need to restate the financials for the periods ending June
30, 2004, September 30, 2004 and December 31, 2004, and commencing in the period
ending March 31, 2005, the controller, Chief Financial Officer and auditor have
agreed to meet each quarter to discuss any changes that may have occurred in
accounting policies and financial reporting which may have an impact on the
Company's reporting. Any material changes are reported to the audit committee.
The audit committee is charged with reviewing any new accounting policies with
the Company's auditor, as well as, with reviewing our periodic reports and other
public disclosures. Other than this change, there has been no change in our
internal control over financial reporting that occurred in the period covered by
this report that has materially affected or is reasonably likely to materially
affect our internal control over financial reporting.
28
PART II OTHER INFORMATION
Item 1. Legal Proceedings
On July 31, 2002, Herbert Smith, a law firm in England, which represented NetSol
in a separate matter filed a claim for the sum of approximately $248,871 USD
(which represents the original debt and the interest thereon) in the High Court
of Justice Queen's bench Division. ON November 28, 2002, a Consent Order was
filed with the Court agreeing to a payment plan, whereby the Company paid
$10,000 USD on execution, $4,000 USD a month for one year and $6,000 USD per
moth thereafter until the debt is paid. On April 18, 2005, the Company entered
into a settlement agreement with Herbert Smith whereby they agreed to accept a
total of $135,000 as payment in full on the loan outstanding. Of that amount,
$25,000 was paid in March 2005 and the remaining balance of $110,000 was paid on
May 2, 2005.
Item 2. Changes in Securities.
In the quarter ended March 31, 2005, 681,965 shares of the Company's common
stock valued at $1,676,795 was issued to ten individual United Kingdom based
shareholders to acquire CQ Systems, a UK company. The shares were issued to the
former CQ shareholders in reliance on an exemption from registration pursuant to
Regulation S of the Securities Act of 1933, as amended.
During the quarter ended March 31, 2005, the Company issued 20,162 shares of its
common stock for the exercise of warrants valued at $40,324. Such warrants were
acquired as part of a private placement conducted in May 2004.
Item 3. Defaults Upon Senior Securities
None.
Item 4. Submission Of Matters To A Vote Of Security Holders
NetSol conducted its annual meeting of shareholders on March 14, 2005. The
following are the items that were voted upon.
1. Election of Directors
The following persons were elected directors of the Company to hold office until
the next Annual General Meeting of the Shareholders. The following sets for the
voting tabulation for each director
Director Voted Withold Percent Total Shares Voted
-------------------------------------------------------------------------------
Najeeb Ghauri 10,406,275 66,330 84.84 10,472,605
Irfan Mustafa 10,407,201 65,404 84.85 10,472,605
Salim Ghauri 10,407,201 65,404 84.85 10,472,605
Naeem Ghauri 10,459,935 12,670 85.28 10,472,605
Eugen Beckert 10,459,401 13,204 85.27 10,472,605
Jim Moody 10,459,335 13,270 85.27 10,472,605
Shahid Burki 10,407,125 65,480 84.85 10,472,605
2. Ratification of Appointment of Auditors
Kabani & Company Inc. was appointed as Auditors for the Company to hold office
until the close of the next annual general meeting of the Company. The directors
were authorized to fix the remuneration to be paid to the auditors. The
following sets forth the tabulation of the shares voting for this matter.
Total Shares Voted For Against Abstain Percent
----------------------------------------------------------------------------
10,472,605 10,422,101 47,628 2,876 84.97%
3. Adoption of the 2004 Employee Stock Option Plan
The Board of Directors of the Company adopted the 2004 Stock Option Plan (the
"Stock Option Plan") subject to acceptance by the shareholders of the Company.
This plan offers restricted shares only.
29
The purpose of the Stock Option Plan is to allow the Company to grant options to
directors, officers, employees and service providers, as additional
compensation, and as an opportunity to participate in the profitability of the
Company. Options will be exercisable over periods of up to ten years as
determined by the board of directors of the Company and are required to have an
exercise price of no less than the fair market value on the day the option is
granted. The total number of shares available under the 2004 Stock Option Plan
is 5,000,000. If an award of options expires or is canceled without having been
fully exercised or vested, the unvested or canceled options generally will be
available again for grants under the awards.
The following sets forth the tabulation of the shares voting for this matter.
Total Shares Voted For Against Abstain Broker Non-Vote Percent
------------------------------------------------------------------------------------------------
10,472,605 6,226,838 93,420 33,902 4,118,445 50.77%
4. Amendment of Articles of Incorporation
The Board of Directors of the Company agreed to the amendment of the Articles of
Incorporation of the Company, subject to the approval of such amendment by the
shareholders, as follows:
"Article 10. The Company shall conduct any lawful business including the
business of telecommunications."
The inclusion of a specific allowance to conduct telecommunications business was
required by the terms of an agreement with the government of Pakistan to allow
the Company to provide voice, data and other integrated services to the retail
and corporate sectors in the five largest regions of Pakistan.
The following sets forth the tabulation of the shares voting for this matter.
Total Shares Voted For Against Abstain Percent
---------------------------------------------------------------------
10,472,605 10,428,480 11,726 32,397 85.02%
Item 5. Other Information
On April 27, 2005 the Company reported one of its directors, Mr. Irfan Mustafa,
has resigned from the board of directors effective the earlier of his
replacement or June 30, 2005. In addition, Mr. Derek Soper was appointed by the
Board of Directors to fill a vacancy which had occurred on the board of
directors as result of Mr. Shabir Randeree's decision not to run for
re-election.
Mr. Mustafa served on the audit committee of the Company. Mr. Burki, a current
board member, has agreed to take Mr. Mustafa's seat on that committee.
Item 6. Exhibits and Reports on Form 8-K
Exhibits:
3.0 Amendment to the Articles of Incorporation dated March 14, 2005.
31.1 Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
(CEO)
31.2 Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
(CFO)
32.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002 (CEO)
32.2 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002 (CFO)
30
Reports on Form 8-K.
a) On January 28, 2005, NetSol Technologies, Inc. filed a current report on Form
8-K announcing the entry into a material definitive agreement to acquire 100% of
the issued and outstanding shares of CQ Systems Ltd. in exchange for
consideration consisting of a combination of shares of common stock of the
Company and cash equal to 50.1% of the total gross revenue of CQ Systems for the
one year period ending March 31, 2005 multiplied by 1.3 to be paid at closing
and, 49.9% of the total gross revenue of CQ Systems for the one year period
ending March 31, 2006 multiplied by 1.3 to be paid after March 31, 2006. The
current report announced the Company's intention to close the transaction by no
later than March 31, 2005.
b) On February 8, 2005, NetSol Technologies, Inc. filed a current report
containing the contents of its press release announcing the results of
operations and financial conditions for the quarter ended December 31, 2004.
c) On March 31, 2005, NetSol Technologies, Inc. filed a current report on Form
8-K amending its current report filed on January 28, 2005 regarding the CQ
Systems Ltd. transactions to include required financial statements. As the
financial statements were inadvertently not attached to this amendment, this
Form 8-K/A was further amended on April 1, 2005 to include the required
financial statements.
d) On March 31, 2005, NetSol Technologies, Inc. filed a current report on Form
8-K reporting the restatement of its previously issued financial statements,
related audit report and completed internal review. The current report that in
response to comments received from the Securities Exchange Commission to the
annual report filed on Form 10-KSB for the period ending June 30, 2005 and the
quarterly reports on Form 10-QSB for the periods ended September 30, 2005,
December 31, 2005, management determined that the financial statements contained
errors which required a restatement of the financial statements for those
periods. The errors requiring a restatement resulted in an increase in Net
Shareholders' Equity during those periods and a decrease in net loss for the
period ending June 30, 2004 and an increase in net income for the periods ended
September 30, 2004 and December 31, 2004.
31
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused
this amended report to be signed on its behalf by the undersigned, thereunto
duly authorized.
NETSOL TECHNOLOGIES, INC.
Date: March 21, 2006 /s/ Naeem Ghauri
-----------------------------------------
NAEEM GHAURI
Chief Executive Officer
Date: March 21, 2006 /s/ Naeem Ghauri
-----------------------------------------
NAJEEB GHAURI
Chairman
32