UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED DECEMBER 31, 2004
or
|_| TRANSITION REPORT UNDER SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
Commission file No. 0-12641
DALRADA FINANCIAL CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 33-0021693
(STATE OR OTHER JURISDICTION OF (IRS EMPLOYER ID NO.)
INCORPORATION OR ORGANIZATION)
9449 BALBOA AVENUE, SUITE 211
SAN DIEGO, CA 92123
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
Registrant's telephone number, including area code: (858) 277-5300
N/A
(FORMER NAME AND ADDRESS, IF CHANGED SINCE LAST REPORT)
Check whether the registrant (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past 12
months (or for such shorter period that the registrant was required to file such
reports), and (2) has been subject to such filing requirements for the past 90
days. Yes [X] No [ ]
The number of shares outstanding of the registrant's common stock as of February
18, 2005 was 682,395,987.
Transitional Small Business Disclosure Format (check one): Yes [ ] No [ X]
PART I - FINANCIAL INFORMATION
ITEM 1. Consolidated Financial Statements
Consolidated Balance Sheet - December 31, 2004 (unaudited) 3
Consolidated Statements of Operations - 3 and 6 months ended
December 31, 2004 and 2003 (unaudited) 4
Consolidated Statements of Cash Flows - 6 months ended
December 31, 2004 and 2003 (unaudited) 5
Notes to Consolidated Financial Statements (unaudited) 7
ITEM 2. Management's Discussion and Analysis or Plan of Operations 16
ITEM 3. Controls and Procedures 23
PART II - OTHER INFORMATION
ITEM 1. Legal Proceedings 24
ITEM 2. Unregistered Sale of Equity Securities and Use of Proceeds 24
ITEM 3. Defaults Upon Senior Securities 25
ITEM 4. Submission of Matters To A Vote of Security Holders 25
ITEM 5. Other Information 25
ITEM 6. Exhibits 25
SIGNATURES 25
CERTIFICATIONS 26
2
PART I. - FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
DALRADA FINANCIAL CORPORATION AND SUBSIDIARIES
(formerly Imaging Technologies Corporation)
Consolidated Balance Sheet
(in thousands, except per share data)
DECEMBER
31, 2004
-----------
(unaudited)
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 100
Accounts receivable, net of allowance of $65 1,975
Inventories, net of reserve of $15 17
Prepaid expenses and other current assets 469
----------
TOTAL CURRENT ASSETS 2,561
----------
PATENT, net of accumulated amortization of $240 1,378
CUSTOMER LIST, net of accumulated amortization of $30 692
PROPERTY AND EQUIPMENT, net of accumulated depreciation of $2,021 274
----------
TOTAL ASSETS $ 4,905
==========
LIABILITIES AND STOCKHOLDERS' DEFICIT
CURRENT LIABILITIES
Borrowings under bank notes payable $ 3,220
Lines of credit 789
Notes payable, current portion (including related party note of $1,561) 2,617
Convertible debentures, net of discount of $18 796
Accounts payable 1,857
Obligations under capital lease 10
PEO payroll taxes and other payroll deductions 6,593
Other accrued expenses 9,603
----------
TOTAL CURRENT LIABILITIES 25,485
----------
CONVERTIBLE DEBENTURES, net of current portion and net of discounts of $226 135
NOTES PAYABLE, net of current portion (including related party note of $282) 508
CAPITAL LEASE, net of current portion 49
----------
TOTAL LIABILITIES 26,177
----------
MINORITY INTEREST --
COMMITMENTS AND CONTINGENCIES --
STOCKHOLDERS' DEFICIT
Series A convertible, redeemable preferred stock, $1,000 par value,
7,500 shares authorized 420.5 shares issued and outstanding 420
Common stock; $0.005 par value; 1,000,000,000 shares
authorized; 682,395,987 shares issued and outstanding 3,412
Common stock warrants 475
Additional paid-in capital 82,823
Accumulated deficit (108,402)
----------
TOTAL STOCKHOLDERS' DEFICIT (21,272)
----------
TOTAL LIABILITIES AND STOCKHOLDERS' DEFICIT $ 4,905
==========
The accompanying notes are an integral part of these
consolidated financial statements.
3
DALRADA FINANCIAL CORPORATION AND SUBSIDIARIES
(FORMERLY IMAGING TECHNOLOGIES CORPORATION)
Consolidated Statements of Operations
(in thousands, except per share data)
THREE MONTHS ENDED SIX MONTHS ENDED
-------------------------- --------------------------
DECEMBER DECEMBER DECEMBER DECEMBER
31, 2004 31, 2003 31, 2004 31, 2003
---------- ---------- ---------- ----------
(unaudited) (unaudited) (unaudited) (unaudited)
REVENUES
Sales of products $ 688 $ 324 $ 813 $ 455
Software sales, licenses and royalties 13 -- 39 36
Temporary staffing services 3,749 2,669 7,654 3,436
PEO Services 478 643 850 2,070
---------- ---------- ---------- ----------
TOTAL REVENUES 4,928 3,636 9,356 5,997
---------- ---------- ---------- ----------
COST OF REVENUES
Cost of products sold 442 45 465 128
Cost of software sales, licenses and royalties -- -- 3 3
Cost of temporary staffing 3,400 2,301 6,948 2,994
Cost of PEO services 348 626 628 1,896
---------- ---------- ---------- ----------
TOTAL COST OF REVENUES 4,190 2,972 8,044 5,021
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
GROSS PROFIT 738 664 1,312 976
---------- ---------- ---------- ----------
OPERATING EXPENSES
Selling, general and administrative 996 2,173 2,005 4,077
Research and development -- -- --
---------- ---------- ---------- ----------
TOTAL OPERATING EXPENSES 996 2,173 2,005 4,077
---------- ---------- ---------- ----------
INCOME (LOSS) FROM OPERATIONS (258) (1,509) (693) (3,101)
---------- ---------- ---------- ----------
OTHER INCOME (EXPENSES):
Interest and financing costs, net (345) (601) (828) (929)
Gain on extinguishment of debt 260 625 260 625
Gain resulting from reconciliation of
payroll tax liabilities
to taxing authorities 536 -- 536 --
Other, net -- (22) -- (19)
---------- ---------- ---------- ----------
TOTAL OTHER INCOME (EXPENSE) 451 2 (32) (323)
---------- ---------- ---------- ----------
INCOME (LOSS) BEFORE PROVISION FOR INCOME TAXES
AND DISCONTINUED OPERATIONS 193 (1,507) (725) (3,424)
PROVISION FOR INCOME TAXES -- -- -- --
---------- ---------- ---------- ----------
NET INCOME (LOSS) FROM CONTINUING OPERATIONS 193 (1,507) (725) (3,424)
---------- ---------- ---------- ----------
DISCONTINUED OPERATON:
Loss from operations of discontinued operation -- (923) -- (1,359)
---------- ---------- ---------- ----------
-- (923) -- (1,359)
---------- ---------- ---------- ----------
NET INCOME (LOSS) 193 (2,430) (725) (4,783)
PREFERRED STOCK DIVIDENDS (5) (5) (10) (10)
---------- ---------- ---------- ----------
NET INCOME (LOSS) ATTRIBUTED TO COMMON
STOCKHOLDERS $ 188 $ (2,435) $ (735) $ (4,793)
========== ========== ========== ==========
NET INCOME (LOSS) PER SHARE - BASIC
Continuing operations $ 0.00 $ (0.01) $ (0.00) $ (0.01)
Discontinued operations -- (0.00) -- (0.01)
---------- ---------- ---------- ----------
$ 0.00 $ (0.01) $ (0.00) $ (0.02)
========== ========== ========== ==========
WEIGHTED AVERAGE COMMON EQUIVALENT
SHARES OUSTANDING - BASIC 640,378 288,935 613,178 264,745
========== ========== ========== ==========
The accompanying notes are an integral part of these
consolidated financial statements.
4
DALRADA FINANCIAL CORPORATION AND SUBSIDIARIES
(formerly Imaging Technologies Corporation)
Consolidated Statements of Cash Flows
(in thousands, except per share data)
THREE MONTHS ENDED
----------------------------
DECEMBER DECEMBER
31, 2004 31, 2003
------------- ------------
(unaudited) (unaudited)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss from continuing operations $ (725) $(3,424)
Adjustment to reconcile net loss to net cash
used in operating activities
Depreciation and amortization 117 97
Stock issued for services 42 141
Amortization of debt discounts 264 475
Gain resulting from reconciliation of payroll tax liabilities
to taxing authorities (536) --
Changes in operating assets and liabilities:
(Increase) decrease in:
Accounts receivable (861) (202)
Inventories 44 --
Prepaid expenses and other current assets (10) (50)
Other assets -- 38
Increase (decrease) in:
Accounts payable and accrued expenses (1,205) 966
PEO liabilities 1,978 424
-------- --------
Net cash provided by (used in) operating activities from
continuing operations (892) (1,535)
Net cash used in operating activities from discontinued operations -- 1,078
-------- --------
Net cash used in operating activities (892) (457)
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of furniture and equipment (137) (133)
-------- --------
Net cash used in investing activities from continuing operations (137) (133)
Net cash used in investing activities from discontinued operations -- (25)
-------- --------
Net cash used in investing activities (137) (158)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Change in cash overdraft, net -- (87)
Line of credit, net 206 --
Net borrowings under bank notes payable -- (25)
Proceeds from sale of common stock -- 155
Proceeds from convertible debentures -- 650
Proceeds from notes payable 724 --
Repayments of notes payable (15) (110)
Repayments of capital lease obligations (14) (2)
-------- --------
Net cash provided by (used in) financing activities from
continuing operations 901 581
Net cash used in financing activities from discontinued operations -- (78)
-------- --------
Net cash provided by (used in) investing activities 901 503
-------- --------
CASH OF DISCONTINUED OPERATION -- 72
NET DECREASE IN CASH AND
CASH EQUIVALENTS (128) (40)
CASH AND CASH EQUIVALENTS, Beginning of period 228 180
-------- --------
CASH AND CASH EQUIVALENTS, End of period $ 100 $ 140
======== ========
The accompanying notes are an integral part of these
consolidated financial statements.
5
DALRADA FINANCIAL CORPORATION AND SUBSIDIARIES
(formerly Imaging Technologies Corporation)
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
SIX MONTHS ENDED DECEMBER 31, 2004 AND 2003
(in thousands, except share data)
(unaudited)
NON-CASH INVESTING AND FINANCING ACTIVITIES
During the six months ended December 31, 2004, the Company issued: (1) 8,622,900
shares of its common stock for services valued at $42; (2) 20,880,130 shares of
its common stock for debt of $38; (3) 62,534,215 shares of its common stock for
penalties of $94; and (4) 38,000,000 shares of its common stock for the
conversion of convertible debentures in the amount of $175. In addition, on
December 1, 2004, the Company completed its acquisition of 70% of Info Services,
Inc. See Note for assets purchased and liabilities assumed.
During the six months ended December 31, 2003, the Company issued: (1) 6,470,000
shares of its common stock for services valued at $148; (2) 10,272,110 shares of
its common stock for compensation valued at $140; (3) 20,260,000 shares of its
common stock for debt of $405; and (4) 95,000,208 shares of its common stock for
the conversion of convertible debentures in the amount of $994.
6
DALRADA FINANCIAL CORPORATION AND SUBSIDIARIES
(formerly Imaging Technologies Corporation)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share data)
(unaudited)
NOTE 1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements of Dalrada
Financial Corporation and Subsidiaries (the "Company" or "DRDF") have been
prepared pursuant to the rules of the Securities and Exchange Commission (the
"SEC") for quarterly reports on Form 10-QSB and do not include all of the
information and note disclosures required by accounting principles generally
accepted in the United States of America. These financial statements and notes
herein are unaudited, but in the opinion of management, include all the
adjustments (consisting only of normal recurring adjustments) necessary for a
fair presentation of the Company's financial position, results of operations,
and cash flows for the periods presented. These financial statements should be
read in conjunction with the Company's audited financial statements and notes
thereto for the years ended June 30, 2004 included in the Company's annual
report on Form 10-KSB filed with the SEC. Interim operating results are not
necessarily indicative of operating results for any future interim period or for
the full year. The consolidated financial statements include the accounts of the
Company and its majority-owned subsidiaries. All inter-company transactions have
been eliminated.
Reclassifications
-----------------
Certain reclassifications have been made to the prior years' financial
statements to conform to the current year presentation. These reclassifications
had no effect on previously reported results of operations or retained earnings.
Comprehensive Income
--------------------
The Company has adopted SFAS No. 130, "Reporting Comprehensive Income." SFAS No.
130 establishes standards for reporting and presentation of comprehensive income
and its components in a full set of financial statements. During the six months
ended December 31, 2004 and 2003, the Company had no elements of comprehensive
income.
NOTE 2. GOING CONCERN CONSIDERATIONS
The accompanying unaudited consolidated financial statements have been prepared
assuming that the Company will continue as a going concern. For the six months
ended December 31, 2004, the Company had a net loss of $725. As of December 31,
2004, the Company had a negative working capital deficiency of $22,924 and had a
stockholders' deficit of $21,272. In addition, the Company is in default on
certain note payable obligations, is being sued by numerous trade creditors for
nonpayment of amounts due and is late on its filings of payroll tax returns in
certain of its PEO division. The Company is also deficient in its payments
relating to payroll tax liabilities. These conditions raise substantial doubt
about the Company's ability to continue as a going concern.
The Company must obtain additional funds to provide adequate working capital and
finance operations. However, there can be no assurance that the Company will be
able to complete any additional debt or equity financings on favorable terms or
at all, or that any such financings, if completed, will be adequate to meet the
Company's capital requirements including compliance with the Imperial Bank
settlement agreement. Any additional equity or convertible debt financings could
result in substantial dilution to the Company's stockholders. If adequate funds
are not available, the Company may be required to delay, reduce or eliminate
some or all of its planned activities, including any potential mergers or
acquisitions. The Company's inability to fund its capital requirements would
have a material adverse effect on the Company. The financial statements do not
include any adjustments that might result from the outcome of this uncertainty.
7
NOTE 3. STOCK BASED COMPENSATION
The Company accounts for employee stock options in accordance with Accounting
Principles Board Opinion ("APB") No. 25, "Accounting for Stock Issued to
Employees". Under APB 25, the Company does not recognize compensation expense
related to options issued under the Company's employee stock option plans,
unless the option is granted at a price below market price on the date of grant.
In 1996, SFAS No. 123 "Accounting for Stock-Based Compensation", became
effective for the Company. SFAS No. 123, which prescribes the recognition of
compensation expense based on the fair value of options on the grant date,
allows companies to continue applying APB 25 if certain pro forma disclosures
are made assuming hypothetical fair value method, for which the Company uses the
Black-Scholes option-pricing model.
For non-employee stock based compensation, the Company recognizes an expense in
accordance with SFAS No. 123 and values the equity securities based on the fair
value of the security on the date of grant. For stock-based awards, the value is
based on the market value for the stock on the date of grant and if the stock
has restrictions as to transferability, a discount is provided for lack of
tradability. Stock option awards are valued using the Black-Scholes
option-pricing model.
The Company applies Accounting Principles Board Opinion No. 25 and related
Interpretations in accounting for its stock option plans. The Company has opted
under SFAS No. 123 to disclose its stock-based compensation with no financial
effect. The pro forma effects of applying SFAS No. 123 in this initial phase-in
period are not necessarily representative of the effects on reported net income
or loss for future years. Had compensation expense for the Company's stock
option plans been determined based upon the fair value at the grant date for
awards under these plans consistent with the methodology prescribed under SFAS
No. 123, the Company's pro forma net loss and net loss per share would have been
as follows for the six months ended December 31,2004:
(In thousands, except share amounts) 2004 2003
---------- ----------
Net loss attributed to common stockholders
As reported $ (1,271) $ (4,793)
Compensation recognized under APB No. 25 -- --
Compensation recognized under SFAS No. 123 -- --
---------- ----------
Pro forma $ (1,271) $ (4,793)
========== ==========
Basic earnings (loss) per share
As reported $ (0.00) $ (0.02)
========== ==========
Pro forma $ (0.00) $ (0.02)
This option valuation model requires input of highly subjective assumptions.
Because the Company's employee stock options have characteristics significantly
different from those of traded options, and because changes in the subjective
input assumptions can materially affect the fair value estimate, in management's
opinion, the existing model does not necessarily provide a reliable single
measure of fair value of its employee stock options.
The weighted average fair value of the options granted during fiscal years 2004
and 2003 is estimated on the date of grant using the Black-Scholes
option-pricing model. All options granted in fiscal years 2004 and 2003 vested
immediately. The weighted average fair values and weighted average assumptions
used in calculating the fair values were as follows for the years ended June 30:
2004 2003
---- ----
Fair Value of options granted N/A $ 0.015
Risk free interest rate N/A 3.5%
Expected life (years) N/A 3
Expected volatility N/A 421%
Expected dividends N/A 0%0-
No options have been issued during fiscal year 2005.
8
NOTE 4. EARNINGS (LOSS) PER COMMON SHARE
The Company reports earnings (loss) per share in accordance with SFAS No. 128,
"Earnings per Share." Basic earnings (loss) per share are computed by dividing
income (loss) available to common stockholders by the weighted average number of
common shares available. Diluted earnings (loss) per share is computed similar
to basic earnings (loss) per share except that the denominator is increased to
include the number of additional common shares that would have been outstanding
if the potential common shares had been issued and if the additional common
shares were dilutive. Diluted earnings (loss) per share have not been presented
since the effect of the assumed conversion of options and warrants to purchase
common shares would have an anti-dilutive effect. The following potential common
shares have been excluded from the computation of diluted net loss per share for
the six months ended December 31, 2004: warrants - 26,563,435 and stock options
- 39,150,000.
Below is a computation of earnings per share for the three months ended December
31, 2004. Basic and diluted loss per share are the same for the six months ended
December 31, 2004 and the three and six months ended December 31, 2003:
THREE MONTHS ENDED
----------------------------------------------
DECEMBER 31, 2004
----------------------------------------------
PER
INCOME SHARES SHARE
BASIC EARNINGS PER SHARE
Net income from continuing operations $ 193
Preferred stock dividends (5)
------------
188
Discontinued operations 0
------------
Net income attributed to common
stockholders $ 188
============
Weighed shares outstanding 640,378
Continuing operations $ 0.00
Discontinued operations $ 0.00
------------
$ 0.00
============
DILUTED EARNINGS PER SHARE
Net income from continuing operations $ 193
Preferred stock dividends (5)
Interest on convertible debentures 24
Amortization of discounts on convertible
debentures 41
------------
253
Discontinued operations 0
------------
Net income attributed to common
stockholders $ 253
============
Weighed shares outstanding 640,378
Conversion of convertible debentures into common stock 762,987
--------------
1,403,365
==============
Continuing operations $ 0.00
Discontinued operations $ 0.00
------------
$ 0.00
============
9
NOTE 5. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In January 2003, the FASB issued Interpretation No. 46, "Consolidation of
Variable Interest Entities" (an interpretation of Accounting Research Bulletin
(ARB) No. 51, Consolidated Financial Statements). Interpretation 46 addresses
consolidation by business enterprises of entities to which the usual condition
of consolidation described in ARB-51 does not apply. The Interpretation changes
the criteria by which one company includes another entity in its consolidated
financial statements. The general requirement to consolidate under ARB-51 is
based on the presumption that an enterprise's financial statement should include
all of the entities in which it has a controlling financial interest (i.e.,
majority voting interest). Interpretation 46 requires a variable interest entity
to be consolidated by a company that does not have a majority voting interest,
but nevertheless, is subject to a majority of the risk of loss from the variable
interest entity's activities or entitled to receive a majority of the entity's
residual returns or both. A company that consolidates a variable interest entity
is called the primary beneficiary of that entity. In December 2003, the FASB
concluded to revise certain elements of FIN 46, primarily to clarify the
required accounting for interests in variable interest entities. FIN-46R
replaces FIN-46 that was issued in January 2003. FIN-46R exempts certain
entities from its requirements and provides for special effective dates for
entities that have fully or partially applied FIN-46 as of December 24, 2003. In
certain situations, entities have the option of applying or continuing to apply
FIN-46 for a short period of time before applying FIN-46R. In general, for all
entities that were previously considered special purpose entities, FIN 46 should
be applied for registrants who file under Regulation SX in periods ending after
March 31, 2004, and for registrants who file under Regulation SB, in periods
ending after December 15, 2004. The Company does not expect the adoption to have
a material impact on the Company's financial position or results of operations.
During April 2003, the FASB issued SFAS 149 - "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities", effective for contracts entered
into or modified after September 30, 2003, except as stated below and for
hedging relationships designated after September 30, 2003. In addition, except
as stated below, all provisions of this Statement should be applied
prospectively. The provisions of this Statement that relate to Statement 133
Implementation Issues that have been effective for fiscal quarters that began
prior to June 15, 2003, should continue to be applied in accordance with their
respective effective dates. In addition, paragraphs 7(a) and 23(a), which relate
to forward purchases or sales of when-issued securities or other securities that
do not yet exist, should be applied to both existing contracts and new contracts
entered into after September 30, 2003. The adoption of this statement had no
impact on the Company's consolidated financial statements.
During May 2003, the FASB issued SFAS 150 - "Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity", effective for
financial instruments entered into or modified after May 31, 2003, and otherwise
is effective for public entities at the beginning of the first interim period
beginning after June 15, 2003. This Statement establishes standards for how an
issuer classifies and measures certain financial instruments with
characteristics of both liabilities and equity. It requires that an issuer
classify a freestanding financial instrument that is within its scope as a
liability (or an asset in some circumstances). Many of those instruments were
previously classified as equity. Some of the provisions of this Statement are
consistent with the current definition of liabilities in FASB Concepts Statement
No. 6, Elements of Consolidated Financial Statements. The adoption of this
statement had no impact on the Company's consolidated financial statements.
In December 2003, the FASB issued a revised SFAS No. 132, "Employers'
Disclosures about Pensions and Other Postretirement Benefits" which replaces the
previously issued Statement. The revised Statement increases the existing
disclosures for defined benefit pension plans and other defined benefit
postretirement plans. However, it does not change the measurement or recognition
of those plans as required under SFAS No. 87, "Employers' Accounting for
Pensions," SFAS No. 88, "Employers' Accounting for Settlements and Curtailments
of Defined Benefit Pension Plans and for Termination Benefits," and SFAS No.
106, "Employers' Accounting for Postretirement Benefits Other Than Pensions."
Specifically, the revised Statement requires companies to provide additional
disclosures about pension plan assets, benefit obligations, cash flows, and
benefit costs of defined benefit pension plans and other defined benefit
postretirement plans. Also, companies are required to provide a breakdown of
plan assets by category, such as debt, equity and real estate, and to provide
certain expected rates of return and target allocation percentages for these
asset categories. The Company has implemented this pronouncement and has
concluded that the adoption has no material impact to the consolidated financial
statements.
10
In December 2003, the Securities and Exchange Commission ("SEC") issued Staff
Accounting Bulletin ("SAB") No. 104, "Revenue Recognition." SAB 104 supersedes
SAB 101, "Revenue Recognition in Consolidated Financial Statements." SAB 104's
primary purpose is to rescind accounting guidance contained in SAB 101 related
to multiple element revenue arrangements, superseded as a result of the issuance
of EITF 00-21, "Accounting for Revenue Arrangements with Multiple Deliverables."
Additionally, SAB 104 rescinds the SEC's Revenue Recognition in Consolidated
Financial Statements Frequently Asked Questions and Answers ("the FAQ") issued
with SAB 101 that had been codified in SEC Topic 13, Revenue Recognition.
Selected portions of the FAQ have been incorporated into SAB 104. While the
wording of SAB 104 has changed to reflect the issuance of EITF 00-21, the
revenue recognition principles of SAB 101 remain largely unchanged by the
issuance of SAB 104, which was effective upon issuance. The adoption of SAB 104
did not impact the consolidated financial statements.
In March 2004, the FASB approved the consensus reached on the Emerging Issues
Task Force (EITF) Issue No. 03-1, "The Meaning of Other-Than-Temporary
Impairment and Its Application to Certain Investments." The objective of this
Issue is to provide guidance for identifying impaired investments. EITF 03-1
also provides new disclosure requirements for investments that are deemed to be
temporarily impaired. In September 2004, the FASB issued a FASB Staff Position
(FSP) EITF 03-1-1 that delays the effective date of the measurement and
recognition guidance in EITF 03-1 until after further deliberations by the FASB.
The disclosure requirements are effective only for annual periods ending after
June 15, 2004. The Company has evaluated the impact of the adoption of the
disclosure requirements of EITF 03-1 and does not believe it will have an impact
to the Company's overall consolidated results of operations or consolidated
financial position. Once the FASB reaches a final decision on the measurement
and recognition provisions, the Company will evaluate the impact of the adoption
of EITF 03-1.
In November 2004, the FASB issued SFAS No. 151, entitled INVENTORY COSTS -- AN
AMENDMENT OF ARB NO. 43, CHAPTER 4. SFAS No. 151 amends the guidance in ARB No.
43, Chapter 4, entitled INVENTORY PRICING [June 1953], to clarify the accounting
for "abnormal amounts" of idle facility expense, freight, handling costs, and
wasted material [spoilage]. Before revision by SFAS No. 151, the guidance that
existed in ARB No. 43 stipulated that these type items may be "so abnormal" that
the appropriate accounting treatment would be to expense these costs as incurred
[i.e., these costs would be current-period charges]. SFAS No. 151 requires that
these type items be recognized as current-period charges WITHOUT REGARD to
whether the "so abnormal" criterion has been met. Additionally, SFAS No. 151
requires that allocation of fixed production overheads to the costs of
conversion be based on the normal capacity of the production facilities. The
adoption of SFAS 151 did not impact the consolidated financial statements.
In December 2004, the FASB issued SFAS No. 152, entitled ACCOUNTING FOR REAL
ESTATE TIME-SHARING TRANSACTIONS -- AN AMENDMENT OF FASB STATEMENTS NO. 66 AND
67. SFAS No. 152 amends SFAS No. 66 to reference the financial accounting and
reporting guidance for real estate time-sharing transactions that is provided in
AICPA Statement of Position 04-2. SFAS No. 152 also amends SFAS No. 67 to state
that the guidance for (a) incidental operations and (b) costs incurred to sell
real estate projects does not apply to real estate time-sharing transactions.
The accounting for those operations and costs is subject to the guidance of SOP
04-2. This statement is effective for financial statements for fiscal years
beginning after June 15, 2005. The adoption of SFAS 152 did not impact the
consolidated financial statements.
In December 2004, the FASB issued SFAS No. 153, entitled EXCHANGES OF
NONMONETARY ASSETS -- AN AMENDMENT OF APB OPINION NO.29. SFAS No. 153 amends
Opinion 29 to eliminate the exception for nonmonetary exchanges of nonmonetary
assets that do not have commercial substance. A nonmonetary exchange has
commercial substance if the future cash flows of the entity are expected to
change significantly as a result of the exchange. The adoption of SFAS 153 did
not impact the consolidated financial statements.
In December 2004, the FASB issued SFAS No. 123 (Revised), entitled SHARE-BASED
PAYMENT. This revised Statement eliminates the alternative to use APB Opinion
No. 25's intrinsic value method of accounting that was provided in SFAS No. 123
as originally issued. Under Opinion 25, issuing stock options to employees
generally resulted in recognition of no compensation cost. This Statement
requires entities to recognize the cost of employee services received in
exchange for awards of equity instruments based on the grant-date fair value of
those awards. For public companies that file as a small business issuer, this
Statement is effective as of the beginning of the first interim or annual
reporting period that begins after December 15, 2005. The adoption of SFAS 123
(Revised) will impact the consolidated financial statements as the Company in
the future if it continues to issue equity instruments to employees.
11
NOTE 6. FACTORING LINES OF CREDIT
The Company's temporary staffing division entered into a factoring agreement
that expires in January 2007 and in renewable for successive periods of 12
months assuming certain conditions are met. The agreement provides for the
Company to sell to the factor accounts receivables at a discount of
approximately 2% for each 30 day period the balances remain unpaid.
In connection with the acquisition of Info Services, Inc. (See Note 13), the
Company acquired a factoring line of credit in the amount of $1,000. As of
December 31, 2004, the Company had $580 due under this agreement.
NOTE 7. CONVERTIBLE NOTES PAYABLE
Listed below is a roll-forward schedule of the convertible debentures:
(In Thousands)
Balance at June 30, 2004 $ 871
Issuance of convertible debentures during the six months
ended December 31, 2004 -
Increase in debt discount and beneficial conversion feature -
Converted into common stock (175)
Amortization of value of warrants and preferential
conversion feature 235
---------
Balance at December 31, 2004 $ 931
=========
NOTE 8. NOTES PAYABLE
On July 1, 2004, the Company entered into two note payable obligations
aggregating $275,000 that bear interest at an annual rate of 40% and are due on
September 30, 2004. In addition, in connection with these two notes payable, the
Company issued to the holder a total of 5,000,000 warrants to purchase shares of
the Company's common stock for $0.005 per shares. The estimated value of the
warrants of $28,500 was determined using the Black-Scholes option pricing model
and the following assumptions: term of 5 years, a risk free interest rate of
3.5%, a dividend yield of 0% and volatility of 426%. As of September 30, 2004,
the entire $28,500 has been amortized to financings costs in the accompanying
consolidated statements of operations.
NOTE 9. STOCKHOLDERS' DEFICIENCY
Stock Issuances
---------------
During the six months ended December 31, 2004, DRDF issued the following:
o 8,622,900 shares of its common stock for legal, accounting and
consulting services valued at $42. The value of the services
was determined using the market value of DRDF's common stock
on the date of issuance;
o 20,880,130 shares of its common stock for debt of $38;
o 62,534,215 shares of its common stock for penalties of $94;
and
o 38,000,000 shares of its common stock for the conversion of
convertible debentures in the amount of $175.
12
NOTE 10. SEGMENT INFORMATION
The Company managed and internally reported the Company's business has four
reportable segments, principally, (1) products and accessories, (2) software,
(3) temporary staffing, and (4) PEO services.
Segment information for the six months ended December 31, 2004 is as follows:
(IN THOUSANDS)
TEMPORARY PEO
PRODUCTS SOFTWARE STAFFING SERVICES TOTAL
-------- -------- -------- -------- -----
6-months ended 12/31/04
-----------------------
Revenues $ 813 $ 39 $ 7,654 $ 850 $ 9,356
Operating income (loss) (437) (45) (116) (95) (693)
6-months ended 12/31/03
-----------------------
Revenues $ 455 $ 36 $ 3,436 $ 2,070 $ 5,997
Operating income (loss) (536) (2,080) (122) (363) (3,101)
NOTE 11. DISPOSITION OF GREENLAND CORPORATION
In January 2004, the Company determined to discontinue operations of Greenland
Corporation, its professional employment business division, and sold its shares
in Greenland, back to Greenland. Effective March 1, 2004, the Company completed
the sale of Greenland. Effective March 1, 2004, four new directors were elected
to serve on Greenland's Board of Directors due to the resignation of the four
directors nominated by DRDF. The operations of Greenland have been shown as
discontinued operations in the accompanying consolidated statements of
operations.
The operations of Greenland for the six month period ended December 31, 2003 are
shown as discontinued operations.
NOTE 12. RELATED PARTY TRANSACTIONS
Warning Management Services, Inc.
The Company CEO and Chairman, Mr. Brian Bonar, is also the CEO and Chairman of
Warning Management, Inc. Warning a public company, located in Southern
California. Warning's operations consist of a modeling agency and providing
temporary staffing services to government agencies and private companies.
GUARANTEE OF INDEBTEDNESS OF WARNING
------------------------------------
As of September 8, 2004, Warning Management Services, Inc. ("Warning") purchased
all of the issued and outstanding shares of Employment Systems, Inc. ("ESI") for
$1,500. The purchase was $750 cash paid at the closing and a $750 note payable.
In connection with this transaction, the Company agreed to be a guarantor of the
$750 note payable. As inducement to enter into this guarantee, the Company was
given a non-cancelable 2-year payroll processing contract with ESI. Management
has evaluated this contingent liability and has determined that no loss is
anticipated as a result of this guarantee.
WARNING HAS A MONTH-TO-MONTH LEASE WITH THE COMPANY
---------------------------------------------------
Warning leases offices for its ESI subsidiary, on a month-to-month basis from
the Company that started in October 2004. Monthly rental expense will be
approximately $3 per month.
13
PEO SERVICES AGREEMENT WITH WARNING PROVIDES FOR A FEE AT PREVAILING MARKET RATE
--------------------------------------------------------------------------------
In April 2004, the Company entered into an Agreement to provide PEO services for
Warning. The Company receives from Warning a monthly administrative fee. The
Company recorded revenue totaling approximately $36 during the six months ended
December 31, 2004
NOTE 13. ACQUISITION
On December 1, 2004, DRDF completed its acquisition of 70% of Info Services,
Inc. ("Info"). Info is a minority business enterprise (MBE) information
technology firm founded in October 1993 and headquartered in Madison Heights,
Michigan. Info offers a variety of information technology services and products
for automatic data collection/systems integration, wireless infrastructure,
local and wide area network design and implementation, hardware/software
staging, and inventory/material management. Info provides solutions to key
verticals such as manufacturing, logistics, distribution, and SMB. DRDF
purchased Info to broaden the services it offers. In order for Info to retain
its MBE status, DRDF was only able to acquire a 70% ownership interest. The
remaining 30% ownership interest was retained by Info's prior minority owner.
The purchase price was $1 plus the assumption of liabilities. This transaction
was accounted for by the purchase method of accounting, as required by SFAS No.
141, "Business Combinations," and accordingly, the purchase price has been
allocated to the assets acquired and the liabilities assumed based upon the
estimated fair values at the date of acquisition. The excess purchase has been
allocated to customer list that is being amortized over 24 months. The
allocation of the purchase price as shown below is preliminary, and may be
adjusted upon the completion of future analyses.
The operating results of Info beginning December 1, 2004 are included in the
accompanying consolidated statements of operations. During the period from
December 1, 2004 to December 31, 2004, Info incurred a net loss. As a result,
the Company has not reflected minority interest in the consolidated balance
sheet nor the consolidated statement of operations as this would have resulted
in a minority interest receivable and would have reduced the net loss reported
by the Company.
IN THOUSANDS
Receivables $ 532
Inventory 61
Other assets 15
Property and equipment 4
Customer list 722
Line of credit (583)
Accounts payable (696)
Accrued expenses (42)
Notes payable (13)
-------------
Purchase price $ -
=============
The operating results of Info is included in the Company's consolidated results
of operations from December 31, 2004. The following unaudited proforma summary
presents the consolidated results of operations as if the acquisitions had
occurred on July 1, 2003. These proforma results have been presented for
comparative purposes only and are not indicative of what would have occurred had
the acquisitions been made as of January 1, 2003, appropriately, or of any
potential results which may occur in the future.
Six Months Ended December 31,
2004 2003
---- ----
Revenue $ 10,543 $ 8,886
Gross profit $ 1,530 $ 1,953
Operating expenses $ 2,432 $ 5,049
Net loss attributed to
common stockholders $ (944) $ (4,778)
Basic and diluted loss per share $ (0.00) $ (0.02)
14
NOTE 14. GAIN RESULTING FROM RECONCILIATION OF PAYROLL TAX LIABILITES TO TAXING
AUTHORITIES
During the three months ended December 31, 2004, the Company recorded an
adjustment to earnings of $536 resulting from a reconciliation with the Internal
Revenue Service and certain State taxing authorities of the amounts due for
delinquent payment of payroll tax liabilities.
NOTE 15. SUBSEQUENT EVENT
In January 2005, the Company's Tustin, California office was destroyed by a
fire. As the Company only leased the office, it did not suffer any financial
loss. The records in this office were previously backed up and stored in other
locations. The Company has been able to relocate the employees of the Tustin
office to its office in San Diego and Buena Park. The Company has experienced
minimal disruption to its operations as a result of this fire.
15
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(IN THOUSANDS, EXCEPT SHARE DATA)
The following discussion and analysis should be read in conjunction with the
consolidated financial statements and notes thereto included in the Company
Annual Report on Form 10-KSB for the year ended June 30, 2004. The statements
contained in this Report on Form 10-QSB that are not purely historical are
forward-looking statements within the meaning of Section 27A of the Securities
Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934,
as amended, including statements regarding our expectations, hopes, intentions
or strategies regarding the future. Forward-looking statements include
statements regarding: future product or product development; future research and
development spending and our product development strategies, and are generally
identifiable by the use of the words "may", "should", "expect", "anticipate",
"estimates", "believe", "intend", or "project" or the negative thereof or other
variations thereon or comparable terminology. Forward-looking statements involve
known and unknown risks, uncertainties and other factors that may cause our
actual results, performance or achievements (or industry results, performance or
achievements) expressed or implied by these forward-looking statements to be
materially different from those predicted. The factors that could affect our
actual results include, but are not limited to, the following: general economic
and business conditions, both nationally and in the regions in which we operate;
competition; changes in business strategy or development plans; our inability to
retain key employees; our inability to obtain sufficient financing to continue
to expand operations; and changes in demand for products by our customers.
OVERVIEW
We provide a variety of financial services to small and medium-size businesses.
These services allow our customers to outsource many human resources tasks,
including payroll processing, workers' compensation insurance, health insurance,
employee benefits, 401k investment services, personal financial management, and
income tax consultation. In November 2001, we began to provide these services to
relieve some of the negative impact they have on the business operations of our
existing and potential customers. To this end, through strategic acquisitions,
we became a professional employer organization ("PEO").
We provide financial services principally through our wholly-owned SourceOne
Group, Inc. ("SOG") subsidiary. These units provide a broad range of financial
services, including: benefits and payroll administration, health and workers'
compensation insurance programs, personnel records management, and employer
liability management. Through our Jackson Staffing subsidiary (and MedicalHR and
CallCenterHR operating units), we provide temporary staffing services to small
and medium-sized businesses - primarily to call centers and medical facilities.
In January 2003, we completed the acquisition of controlling interest
(approximately 85%) in the shares of Greenland Corporation whose shares are
traded on the NASD Electronic Bulletin Board under the symbol GRLC.
Subsequently, in March 2004, we entered into an agreement with Greenland to
return most of our shares in Greenland in return for Greenland's forgiveness of
certain DRDF indebtedness and business opportunities.
In January 2003, we completed the acquisition of a controlling interest (85%) in
the shares of Quik Pix, Inc. ("QPI"). QPI shares are traded on the National
Quotation Bureau Pink Sheets under the symbol QPIX. QPI is a visual marketing
support firm located in Buena Park, California. Its principal service is to
provide photographic and digital images mounted for customer displays in
tradeshow and other displays .Its principal product, PhotoMotion is a patented
color medium of multi-image transparencies. The process uses existing originals
to create the illusion of movement, and allows for six to five distinct images
to be displayed with an existing lightbox.
In September 2003, we hired two key persons and acquired the operations of the
temporary staffing service then owned by Jackson Staffing, LLC. In order to
formalize this arrangement, we entered into an acquisition agreement with
Jackson Staffing effective September 1, 2003 and accordingly, the financial
statements of Jackson Staffing from September 1, 2003 are included in our
financial statements.
In April 2004, we transferred our ColorBlind software technology to QPI.
ColorBlind software provides color management to improve the accuracy of color
reproduction - especially as it relates to matching color between different
devices in a network, such as monitors and printers. ColorBlind software
products are marketed internationally through direct distribution, resellers,
and on the internet through our color.com website.
16
Our business continues to experience operational and liquidity challenges.
Accordingly, year-to-year financial comparisons may be of limited usefulness now
and for the next several periods due to anticipated changes in our business as
these changes relate to potential acquisitions of new businesses and changes in
products and services.
On June 28, 2004, we completed an acquisition of certain assets of M&M Nursing
(M&M"). The purchase price was 5,000,000 shares of our common stock valued at
$31 plus the assumption of $204 of liabilities. M&M is a temporary staffing
agency primarily for nurses.
On December 1, 2004, we completed our acquisition of 70% of Info Services, Inc.
("Info"). Info is a minority business enterprise (MBE) information technology
firm founded in October 1993 and headquartered in Madison Heights, Michigan.
Info offers a variety of information technology services and products for
automatic data collection/systems integration, wireless infrastructure, local
and wide area network design and implementation, hardware/software staging, and
inventory/material management. Info provides solutions to key verticals such as
manufacturing, logistics, distribution, and SMB.
Our current strategy is: to expand our financial services businesses, including
PEO services and temporary staffing, and to continue to commercialize imaging
technologies, including PhotoMotion Images and ColorBlind color management
software through our QPI subsidiary.
To successfully execute our current strategy, we will need to improve our
working capital position. The report of our independent auditors accompanying
our June 30, 2004 financial statements included in our Annual Report on Form
10KSB includes an explanatory paragraph indicating there is a substantial doubt
about our ability to continue as a going concern, due primarily to our recent
loss from operations, the decreases in our working capital and net worth. In
addition, the Company is late in our filing of payroll tax returns for certain
of our PEO divisions. We plan to overcome the circumstances that impact our
ability to remain a going concern through a combination of achieving
profitability, raising additional debt and equity financing, and renegotiating
existing obligations. In addition, we will continue to work with the Internal
Revenue Service and State taxing Authorities to reconcile and resolve all open
accounts and issues.
In recent years, we have been working to reduce costs through the reduction in
staff and reorganizing our business activities. Additionally, we have sought to
reduce our debt through debt to equity conversions. We continue to pursue the
acquisition of businesses that will grow our business.
There can be no assurance that we will be able to complete any additional debt
or equity financings on favorable terms or at all, or that any such financings,
if completed, will be adequate to meet our capital requirements. Any additional
equity or convertible debt financings could result in substantial dilution to
our shareholders. If adequate funds are not available, we may be required to
delay, reduce or eliminate some or all of our planned activities, including any
potential mergers or acquisitions. Our inability to fund our capital
requirements would have a material adverse effect on the Company.
RESTRUCTURING AND NEW BUSINESS UNITS
In April 2004, we transferred our ColorBlind software products and technologies
to our QPI subsidiary in order to focus on financial services and enable QPI to
concentrate on imaging technology products and services.
ACQUISITIONS, DISPOSITIONS AND SALE OF BUSINESS UNITS
In August 2002, we entered into an agreement to acquire controlling interest in
Greenland Corporation. Greenland shares are traded on the Electronic Bulletin
Board under the symbol GRLC. On January 14, 2003, we completed the acquisition
of shares, representing controlling interest, of Greenland. The terms of the
acquisitions were disclosed on Form 8-K filed January 21, 2003.
Pursuant to a mutual agreement between the Board of Directors of both Greenland
Corporation and us, Greenland has been separated from us, effective February,
23, 2004. Under the separation agreement, Greenland forgave its note receivable
from us of $2,250 together with any accrued interest thereon in consideration
for our granting our acquisition rights to acquire ePEO Link to Greenland. In
addition, for returning 95,949,610 shares of Greenland common stock acquired by
17
us pursuant to our acquisition agreement with Greenland in January 2003,
Greenland forgave its inter-company account receivable from us, which amount
aggregated approximately $1,375. Further, the agreement provided for us to
effect the resignation of our Directors who also served on the Board of
Directors of Greenland, which was completed in March 2004.
In September 2003, we hired two key persons, and acquired the operations of the
temporary staffing service then owned by Jackson Staffing, LLC. In order to
formalize this arrangement, we entered into an acquisition agreement with
Jackson Staffing effective September 1, 2003 and accordingly, the financial
statements of Jackson Staffing from September 1, 2003 are included in our
financial statements. On June 28, 2004, we completed an acquisition of certain
assets of M&M Nursing (M&M"). The purchase price was 5,000,000 shares of our
common stock valued at $31 plus the assumption of $204 of liabilities. M&M is a
temporary staffing agency primarily for nurses. The financial statements of M&M
from July 1, 2004 are included in our financial statements.
SIGNIFICANT ACCOUNTING POLICIES AND ESTIMATES
Management's Discussion and Analysis of Financial Condition and Results of
Operations discuss our consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States of America. The preparation of these consolidated financial
statements requires us to make estimates and assumptions that affect the
reported amounts of assets and liabilities at the date of the consolidated
financial statements and the reported amounts of revenues and expenses during
the reporting period. On an on-going basis, we evaluate our estimates and
judgments, including those related to allowance for doubtful accounts, value of
intangible assets and valuation of non-cash compensation. We base our estimates
and judgments on historical experiences and on various other factors that we
believe to be reasonable under the circumstances, the results of which form the
basis for making judgments about the carrying value of assets and liabilities
that are not readily apparent from other sources. Actual results may differ from
these estimates under different assumptions or conditions. The most significant
accounting estimates inherent in the preparation of our consolidated financial
statements include estimates as to the appropriate carrying value of certain
assets and liabilities which are not readily apparent from other sources,
primarily allowance for doubtful accounts, estimated fair value of equity
instruments used for compensation, estimated tax liabilities fro PEO operations
and estimated liabilities associated with Worker's Compensation liabilities.
These accounting policies are described at relevant sections in this discussion
and analysis and in the notes to the consolidated financial statements included
in our Annual Report on Form l0-KSB for the fiscal year ended June 30, 2004.
REVENUE RECOGNITION
PEO SERVICE FEES AND WORKSITE EMPLOYEE PAYROLL COSTS
----------------------------------------------------
We recognize our revenues associated with our PEO business pursuant to EITF
99-19 "Reporting Revenue Gross as a Principal versus Net as an Agent." Our
revenues are reported net of worksite employee payroll cost (net method).
Pursuant to discussions with the Securities and Exchange Commission staff, we
changed our presentation of revenues from the gross method to an approach that
presents our revenues net of worksite employee payroll costs (net method)
primarily because we are not generally responsible for the output and quality of
work performed by the worksite employees.
In determining the pricing of the markup component of the gross billings, we
take into consideration our estimates of the costs directly associated with our
worksite employees, including payroll taxes, benefits and workers' compensation
costs, plus an acceptable gross profit margin. As a result, our operating
results are significantly impacted by our ability to accurately estimate,
control and manage our direct costs relative to the revenues derived from the
markup component of our gross billings.
Consistent with our revenue recognition policy, our direct costs do not include
the payroll cost of our worksite employees. Our direct costs associated with our
revenue generating activities are comprised of all other costs related to our
worksite employees, such as the employer portion of payroll-related taxes,
employee benefit plan premiums and workers' compensation insurance premiums.
18
SALES OF PRODUCTS
-----------------
Revenue is recognized when earned. Our revenue recognition policies are in
compliance with all applicable accounting regulations, including American
Institute of Certified Public Accountants (AICPA) Statement of Position (SOP)
97-2, Software Revenue Recognition, and SOP 98-9, Modification of SOP 97-2, With
Respect to Certain Transactions. Revenue from products licensed to original
equipment manufacturers is recorded when OEMs ship licensed products while
revenue from certain license programs is recorded when the software has been
delivered and the customer is invoiced. Revenue from packaged product sales to
and through distributors and resellers is recorded when related products are
shipped. Maintenance and subscription revenue is recognized ratably over the
contract period. When the revenue recognition criteria required for distributor
and reseller arrangements are not met, revenue is recognized as payments are
received. Provisions are recorded for returns and bad debts. Our software
arrangements do not contain multiple elements, and we do not offer post contract
support.
TEMPORARY STAFFING
------------------
We record gross revenue for temporary staffing. We have concluded that gross
reporting is appropriate because we (i) have the risk of identifying and hiring
qualified employees, (ii) have the discretion to select the employees and
establish their price and duties and (iii) bear the risk for services that are
not fully paid for by customers. Temporary staffing revenues are recognized when
the services are rendered by our temporary employees. Temporary employees placed
by us are our legal employees while they are working on assignments. We pay all
related costs of employment, including workers' compensation insurance, state
and federal unemployment taxes, social security and certain fringe benefits. We
assume the risk of acceptability of our employees to our customers.
RESULTS OF OPERATIONS (IN $000)
THREE MONTHS ENDED DECEMBER 31, 2004 COMPARED TO THREE MONTHS ENDED DECEMBER 31,
--------------------------------------------------------------------------------
2003
----
REVENUES
Total revenues were $4,928 and $3,636 for the three months ended December 31,
2004 and 2003, respectively; an increase of $1,292 (36%). The increase was due
primarily to the addition of temporary staffing services, which contributed
$3,749 of revenues for the three months ended December 31, 2004 compared to
$2,669 for the three months ended December 31, 2003.
PEO SERVICES
PEO revenues were $478 and $643 for the three months ended December 31, 2004 and
2003, respectively; a decrease of $165 (26%) due primarily to the decrease in
our PEO customer base.
TEMPORARY STAFFING
In September 2003, we entered into an agreement to purchase a temporary staffing
business through the organization of CallCenterHR and MedicalHR and the
acquisition of Jackson Staffing. In June 2004, we entered into an agreement to
purchase certain assets of M&M Nursing, a temporary staffing agency for nurses.
Temporary Staffing revenues were $3,749 and $2,669 for the three months ended
December 31, 2004 and 2003, respectively; an increase of $1,080 (40%). The
significant increase is due to the acquisition of Jackson Staffing and M&M
Nursing.
PRODUCTS
Sales of products were generated principally from our QPI and Info Services
subsidiaries. Products revenues were $688 and $324 for the three months ended
December 31, 2004 and 2003, respectively; an increase of $364 (112%). The
increase is principally due to the acquisition of Info Services in December
2004.
SOFTWARE
Software revenues were $13 and $0 for the three months ended December 31, 2004
and 2003, respectively; a decrease of $13. Revenues from licenses and royalties
for the periods were insignificant.
19
Royalties and licensing fees vary from quarter to quarter and are dependent on
the sales of products sold by OEM customers using our technologies. These
revenues continue to decline as we have elected to transfer our ColorBlind
software to QPI, which has accelerated product development and begun to
implement a more aggressive product sales program.
COST OF PRODUCTS SOLD
Cost of PEO services for the three months ended December 31, 2004 and 2003 $348
(73% of PEO revenues) and $626 (97% of PEO revenues), respectively. The increase
in gross profit is due primarily to us being able to provide more profitable
services to our PEO customers.
Costs of temporary staffing for the three months ended December 31, 2004 was
$3,400 (91% of temporary staffing revenue) and $2,301 (86% of temporary staffing
revenue), respectively.
Cost of products sold for the three months ended December 31, 2004 and 2003 were
$442 (64% of product sales) and $45 (14% of product sales), respectively. The
increase is due to the product sales from Info Services.
Cost of software, licenses and royalties for the three months ended December 31,
2004 and 2003 were $0 (0% of software, license and royalties revenue) and $0 (0%
of software, license and royalties revenue), respectively.
OPERATING EXPENSES
Operating expenses have consisted primarily of salaries and commissions of sales
and marketing personnel, salaries and related costs for general corporate
functions, including finance, accounting, facilities and legal, advertising,
rent, depreciation and amortization, and other marketing related expenses, and
fees for professional services.
Operating expenses for the three months ended December 31, 2004 and 2003 were
$996 and $2,173, respectively; a decrease of $1,177 (54%). The significant
decrease is due to a reduction of payroll and related benefits due to a
significant reduction in our personnel. Also, as disclosed in "Significant
Accounting Policies and Estimates", we rely on estimates for such liabilities
related to, among other areas, worker's compensation and accrued payroll taxes.
During the three months ended December 31, 2004, we changed our estimate of
workers' compensation claims aggregating approximately $500 as circumstances
became known which would indicate that the likelihood of this claim being
successful is remote.
OTHER INCOME AND EXPENSE
Interest expense for the three months ended December 31, 2004 and 2003 was $345
and $601 respectively; a decrease of $256 (43%). The decrease is principally due
to the write off of the unamortized debt discounts associated with the
conversion of debentures into common stock for the three months ended December
31, 2003 (there were no conversion during the three months ended December 31,
2004) offset by an increase due to the amount of debt outstanding.
GAIN ON EXTINGUISHMENT OF DEBT
Gain on the extinguishment of debt was $260 and $625 for the three months ended
December 31, 2004 and 2003, respectively. The amounts related to accounts
payable, which had become stale and uncollectible under the Statute of
Limitations in the State of California and upon obtaining a legal opinion with
respect to the State of California Statute of Limitations.
GAIN FROM RECONCILIATION OF PAYROLL TAX LIABILITES TO TAXING AUTHORITIES
During the three months ended December 31, 2004, we recorded as other income an
adjustment of accrued PEO payroll taxes payable of $536 resulting from
reconciliations of certain liabilities with the Internal Revenue Service and
certain State taxing authorities of amounts due for delinquent payment of
payroll tax liabilities.
20
SIX MONTHS ENDED DECEMBER 31, 2004 COMPARED TO SIX MONTHS ENDED DECEMBER 31,
----------------------------------------------------------------------------
2003
----
REVENUES
Total revenues were $9,256 and $5,997 for the six months ended December 31, 2004
and 2003, respectively; an increase of $3,359 (56%). The principal reason for
the increase is due to a full six months of revenue from our temporary staffing
division for the six months ended December 31, 2004 as compared to only four
months for the same period in 2003.
PEO SERVICES
PEO revenues were $850 and $2,070 for the six months ended December 31, 2004 and
2003, respectively; a decrease of $1,220 (56%) due primarily to the decrease in
our PEO customer base.
TEMPORARY STAFFING
In September 2003, we entered into an agreement to purchase a temporary staffing
business through the organization of CallCenterHR and MedicalHR and the
acquisition of Jackson Staffing. In June 2004, we entered into an agreement to
purchase certain assets of M&M Nursing, a temporary staffing agency for nurses.
Temporary Staffing revenues were $7,654 and $3,436 for the six months ended
December 31, 2004 and 2003, respectively; an increase of $4,218 (123%). The
significant increase is due to the acquisition of Jackson Staffing and M&M
Nursing.
PRODUCTS
Sales of products were generated principally from our QPI and Info Services
subsidiaries. Products revenues were $813 and $455 for the six months ended
December 31, 2004 and 2003, respectively; a decrease of $358 (79%). The increase
is principally due to the acquisition of Info Services in December 2004.
SOFTWARE
Software revenues were $39 and $36 for the six months ended December 31, 2004
and 2003, respectively; an increase of $3 (8%). Revenues from licenses and
royalties for the periods were insignificant.
Royalties and licensing fees vary from quarter to quarter and are dependent on
the sales of products sold by OEM customers using our technologies. These
revenues continue to decline as we have elected to transfer our ColorBlind
software to QPI, which has accelerated product development and begun to
implement a more aggressive product sales program.
COST OF PRODUCTS SOLD
Cost of PEO services for the six months ended December 31, 2004 and 2003 $628
(74% of PEO revenues) and $1,896 (91% of PEO revenues), respectively. The
increase in gross profit is due primarily to us being able to provide more
profitable services to our PEO customers.
Costs of temporary staffing for the six months ended December 31, 2004 was
$6,948 (91% of temporary staffing revenue) and $2,994 (87% of temporary staffing
revenue), respectively. The significant increase is due to the increase in
temporary staffing revenue.
Cost of products sold for the six months ended December 31, 2004 and 2003 were
$465 (57% of product sales) and $128 (28% of product sales), respectively. The
increase is due to the product sales from Info Services.
Cost of software, licenses and royalties for the six months ended December 31,
2004 and 2003 were $3 (7% of software, license and royalties revenue) and $3 (8%
of software, license and royalties revenue), respectively.
21
OPERATING EXPENSES
Operating expenses for the six months ended December 31, 2004 and 2003 were
$2,005 and $4,077, respectively; a decrease of $2,072 (51%). The significant
decrease is due to a reduction of payroll and related benefits due to a
significant reduction in our personnel. Also, as disclosed in "Significant
Accounting Policies and Estimates", we rely on estimates for such liabilities
related to, among other areas, worker's compensation and accrued payroll taxes.
During the six months ended December 31, 2004, we changed our estimate of
workers' compensation claims aggregating approximately $700.
OTHER INCOME AND EXPENSE
Interest expense for the six months ended December 31, 2004 and 2003 was $828
and $929 respectively; a decrease of $101 (11%). The decrease is principally due
to the write off of the unamortized debt discounts associated with the
conversion of debentures into common stock for the six months ended December 31,
2003 (there were fewer conversions during the six months ended December 31,
2004) offset by an increase due to the amount of debt outstanding.
GAIN ON EXTINGUISHMENT OF DEBT
Gain on the extinguishment of debt was $260 and $625 for the six months ended
December 31, 2004 and 2003, respectively. The amounts related to accounts
payable, which had become stale and uncollectible under the Statute of
Limitations in the State of California and upon obtaining a legal opinion with
respect to the State of California Statute of Limitations.
GAIN FROM RECONCILIATION OF PAYROLL TAX LIABILITES TO TAXING AUTHORITIES
During the three months ended December 31, 2004, we recorded as other income an
adjustment of accrued PEO payroll taxes payable of $536 resulting from
reconciliations of certain liabilities with the Internal Revenue Service and
certain State taxing authorities of amounts due for delinquent payment of
payroll tax liabilities.
LIQUIDITY AND CAPITAL RESOURCES
Historically, we have financed our operations primarily through cash generated
from operations, debt financing, and the sale of equity securities.
Additionally, in order to facilitate our growth and future liquidity, we have
made some strategic acquisitions.
As a result of some of our financing activities, there has been a significant
increase in the number of issued and outstanding shares. During the six months
ended December 31, 2004 and the year ended June 30, 2004, we issued an
additional 130,037,245 and 371,126,679 shares, respectively. These shares of
common stock were issued primarily for corporate expenses in lieu of cash, for
acquisition of businesses, for the conversion of convertible debentures and
other debt, and for the exercise of warrants.
As of December 31, 2004, we had negative working capital of $22,924, a decrease
in working capital of $988 since June 30, 2004. This decrease was due primarily
to a $1,442 increase in current un-remitted PEO payroll tax liabilities.
Net cash used in operating activities was $892 for the six months ended December
31, 2004 as compared to net cash used in activities of $1,535 for the prior-year
period; a decrease of $643.
Cash provided by financing activities was $901 for the six months ended December
31, 2004, an increase of $320 from the prior-year period.
We have no material commitments for capital expenditures. Our 5% convertible
preferred stock (which ranks prior to our common stock), carries cumulative
dividends, when and as declared, at an annual rate of $50 per share. The
aggregate amount of such dividends in arrears at December 31, 2004, was
approximately $473.
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Our capital requirements depend on numerous factors, including market acceptance
of our products and services, the resources we devote to marketing and selling
our products and services, and other factors. The report of our independent
auditors accompanying our June 30, 2004 financial statements includes an
explanatory paragraph indicating there is a substantial doubt about our ability
to continue as a going concern, due primarily to the decreases in our working
capital and net worth.
CONTINGENT LIABILITY
--------------------
The Company accrues and discloses contingent liabilities in its consolidated
financial statements in accordance with Statement of Financial Accounting
Standards ("SFAS") No. 5, Accounting for Contingencies. SFAS No. 5 requires
accrual of contingent liabilities that are considered probable to occur and that
can be reasonably estimated. For contingent liabilities that are considered
reasonably possible to occur, financial statement disclosure is required,
including the range of possible loss if it can be reasonably determined. The
Company has disclosed in its audited financial statements several issues that it
believes are reasonably possible to occur, although it cannot determine the
range of possible loss in all cases. As these issues develop, the Company will
continue to evaluate the probability of future loss and the potential range of
such losses. If such evaluation were to determine that a loss was probable and
the loss could be reasonably estimated, the Company would be required to accrue
its estimated loss, which would reduce net income in the period that such
determination was made.
Off-Balance Sheet Arrangements
------------------------------
There are no off balance sheet arrangements that have or are reasonably likely
to have a current or future effect on our financial condition, changes in
financial condition, revenues or expenses, results of operations, liquidity,
capital expenditures or capital resources that are material to investors, except
for the following.. As of September 8, 2004, Warning Management Services, Inc.
("Warning") purchased all of the issued and outstanding shares of Employment
Systems, Inc. ("ESI") for $1,500. The purchase was $750 cash paid at the closing
and a $750 note payable. In connection with this transaction, the Company agreed
to be a guarantor of the $750 note payable. Our CEO, Brian Bonar, is also the
CEO of Warning. As inducement to enter into this guarantee, we were given a
non-cancelable 2-year payroll processing contract with ESI. Currently the $750
note payable is in dispute. Warning is claiming that certain representations
made by ESI were not correct and is proposing that the purchase price be
reduced, thus reducing the $750 note payable to $258. Management has evaluated
this contingent liability and has determined that no loss is anticipated as a
result of this guarantee.
ITEM 3. CONTROLS AND PROCEDURES
As required by SEC rules, we have evaluated the effectiveness of the design and
operation of our disclosure controls and procedures at the end of the period
covered by this report. This evaluation was carried out under the supervision
and with the participation of our management, including our principal executive
officer and principal financial officer. Based on this evaluation, we are adding
a new corporate general ledger system, have hired a new chief accounting officer
and are working to improve the design and operations of our disclosure controls.
There were no changes in our internal control over financial reporting or in
other factors that have materially affected, or are reasonably likely to
materially affect, our internal control over financial reporting.
Disclosure controls and procedures are our controls and other procedures that
are designed to ensure that information required to be disclosed by us in the
reports that we file or submit under the Exchange Act is recorded, processed,
summarized and reported, within the time periods specified in the SEC's rules
and forms. Disclosure controls and procedures include, without limitation,
controls and procedures designed to ensure that information required to be
disclosed by us in the reports that we file under the Exchange Act is
accumulated and communicated to our management, including principal executive
officer and principal financial officer, as appropriate, to allow timely
decisions regarding required disclosure.
This current quarterly report was not filed on a timely basis as a result of
additional research and confirmations required in establishing the basis for a
reasonable reliance on the disclosures of certain large liabilities. Steps have
been taken to ensure that this area will not be an issue in future reporting.
Additional steps will also be taken to put into place additional controls to
ensure the timely reporting of required information in the future.
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PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In October 1999, the law firms of Weiss & Yourman and Stull, Stull & Brody made
a public announcement that they had filed a lawsuit against the Company and
certain current and past officers and/or directors, alleging violation of
federal securities laws and, in November 1999, the lawsuit, filed in the name of
Nahid Nazarian Behfarin, on her own behalf and others purported to be similarly
situated, was served on the Company. In January 2003, the Company entered into a
Stipulation of Settlement with the plaintiffs. It agreed to pay the plaintiffs
5,000,000 shares of common stock and $200 in cash. The Parties have accepted the
settlement. DRDF has issued the shares, and its insurance carrier has paid the
$200 cash payment. Pursuant to a hearing in May 2003 the Court provided approval
to the settlement.
On August 22, 2002, the Company was sued by its former landlord, Carmel Mountain
#8 Associates, L.P. or past due rent on its former facilities at 15175
Innovation Drive, San Diego, CA 92127.
DRDF was a party to a lawsuit filed by Symphony Partners, L.P. related to its
acquisition of SourceOne Group, LLC. As reported on Form 8-K, dated July 22,
2003, the plaintiffs sought payment of $702. In June 2003, the Company entered
into a settlement with the plaintiffs for a cash payment of $274, which has been
paid.
DRDF is one of dozens of companies sued by The Massachusetts Institute of
Technology, et al., related to a patent held by the plaintiffs that may be
related to part of the Company's ColorBlind software. Subsequent to the period
reported in this filing, in June 2003, the Company entered into a settlement
with the plaintiffs who have agreed to dismiss their claims against DRDF with
prejudice in exchange for a settlement fee payment of $10, which has been paid.
The Company has been sued in Illinois state court along with AIA/Mirriman, its
insurance brokers by the Arena Football League-2 ("AFS"). Damages payable to
AF2, should they win the suit, could exceed $700. The Company expects to defend
its position and rely on representations of its insurance brokers.
Throughout fiscal 2003 and 2004, and through the date of this filing, trade
creditors have made claims and/or filed actions alleging the failure of the
Company to pay its obligations to them in a total amount exceeding $3,000. These
actions are in various stages of litigation, with many resulting in judgments
being entered against the Company. Several of those who have obtained judgments
have filed judgment liens on the Company's assets. These claims range in value
from less than one thousand dollars to just over one million dollars, with the
great majority being less than twenty thousand dollars.
In connection with the Company's acquisition of controlling interest of Quik
Pix, Inc., we are unaware of any pending litigation. From time to time, QPI may
be involved in litigation relating to claims arising out of its operations in
the normal course of business.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Common Stock
------------
During the three months ended December 31, 2004, DRDF issued the following:
o 6,672,900 shares of its common stock for legal, accounting and
consulting services valued at $32. The value of the services
was determined using the market value of DRDF's common stock
on the date of issuance;
o 10,771,454 shares of its common stock for debt of $17; and
o 62,534,215 shares of its common stock for penalties of $94.
24
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
The Company is currently in default on certain bank loans that have an aggregate
outstanding balance at December 31, 2004 of $3,220,000.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS
31.1 Rule 13a-14(a) Certification of CEO
31.2 Rule 13a-14(a) Certification of 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 of 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 of CFO
SIGNATURES
--------------------------------------------------------------------------------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Dated: February 28, 2005
DALRADA FINANCIAL CORPORATION
(Registrant)
By: /S/ Brian Bonar
_____________________________________
Brian Bonar
Chairman and Chief Executive Officer
By: /S/ Randall Jones
_____________________________________
Randall Jones
Chief Financial Officer
25