Item 1. Business.
Overview and History of Our Business
We are a global provider of proprietary mobile messaging and mobile web solutions to large enterprises and marketing agencies. Historically our core operations have been conducted in South Africa through our subsidiary Archer Mobile South Africa Pty Ltd (formerly Capital Supreme (Pty) Ltd. and referred to herein as “Archer South Africa”). In December 2011, we acquired iLoop Mobile Inc. (since renamed Archer USA Inc. and referred to herein as “Archer USA”), a U.S. based mobile marketing platform and services provider. Our strategy is to focus on selling our mobile solutions to large enterprises worldwide. We are an early stage business in a rapidly changing mobile messaging and mobile web industry, having been engaged in the mobile industry since early 2008.
We were incorporated in 1999 in Delaware under the name of Shochet Holdings Corporation. Prior to 2008, Shochet Holdings Corporation completed an initial public offering, underwent several changes of control and was engaged in several different businesses, which included discount brokerage, financial services, mortgage banking and apparel; ultimately we were operating as a shell company seeking a combination with another operating company. The shell company and its predecessors had generated losses of approximately $15.8 million which are reflected in our accumulated deficit.
From March 1, 2009 until September 2011, we managed our business in two operating segments: (i) mobile services and solutions and (ii) broadcast media and internet. In September 2011, we discontinued our broadcast media and internet segment and it is presented as discontinued operations. As a result, we do not separately disclose segment information. A segment is determined primarily by the method in which it delivers its products and services.
Products and Services
We provide proprietary technology, consulting, and services for mobile marketing and mobile customer engagement applications. We offer enterprises software as a service and services to design, manage, execute and track mobile-based messaging through a variety of technologies, including multimedia message services ("MMS") and short message services (“SMS”). An SMS message is commonly referred to as a “text message”; it is a text based protocol which enables transmission of messages via a wireless carrier. An MMS message is similar, but the message contains multimedia content, such as pictures, audio or video content which is sent via a wireless carrier to a subscriber’s mobile handset.
By using our proprietary platform and proprietary services, enterprises are able to access our proprietary technology to:
- use mobile messaging to build and strengthen relationships with their customers;
- improve business processes;
- simplify the development and distribution of mobile messaging;
- improve the return on their advertising expenditures; and
- measure the level of response for each campaign.
Our mobile messaging platform includes robust, high capacity SMS and MMS technology and allows integration of SMS, MMS and mobile website initiatives. Our MMS technology supports real-time message customization, which allows each message to be tailored to the individual recipient. To view an MMS message, a mobile phone subscriber simply clicks to open the MMS message as if it was an SMS message, and the MMS runs automatically. Our MMS messages are not streamed, but are compressed and delivered directly into the mobile handset, where they are available to be viewed repeatedly. The MMS message can be stored and retrieved at a later date, or forwarded to another mobile subscriber.
Our products and services include:
- Mobile Statements creation and delivery. We offer a Mobile Statement application, which delivers consumer statements, such as bank statements and utility bills, directly to mobile devices. The application includes a delivery report option, which reports receipt of the statement by the consumer.
- Mobile marketing campaign design and management. We offer a comprehensive SMS and MMS messaging campaign design and management system that provides enterprises and advertisers a simple and graphical user interface to crease construct quality MMS and SMS messages.
- Mobile web site creation. We design, build and manage high-traffic mobile websites. Mobile sites are internet sites that are designed for and accessed via a mobile phone. Mobile sites provide a full range of services, which can be used by consumers to access everything from bank accounts to mobile content sites.
- Service delivery platform. Our service delivery platform (formerly known as our signaling gateway solution) manages the compilation and distribution of MMS and SMS messages for carriers. We are able to compress rich data files by up to 80% and deliver them through the wireless carriers to mobile subscribers. Our technology allows our bulk MMS messaging server to deliver up to 1,000 MMS messages per second (and higher with multiple instances) and has the capacity to send over one million MMS messages per hour. Our service delivery platform includes location-based services, as well as MM7 and SS7 protocol technology.
Our Strategy
Our strategy is to focus on selling our mobile solutions to large enterprises worldwide and to increase the use of MMS messaging across existing and new customers in the US. There are approximately 6.8 billion mobile device subscribers globally. This represents almost 98% of the world’s population. Our business is based on our core belief that the most effective way for a business to communicate with its customers is through mobile devices. Thus, our mission is to combine unique technology and comprehensive services to enable our customers to use mobile solutions to build and strengthen relationships with their customers. Our technology includes messaging - simple and rich media messaging - and mobile web technology. We also provide technology that enables measurement and analysis of mobile initiatives and provide strategic and technical services.
Customers
Our customers are large enterprises, including wireless carriers, financial institutions, consumer brands, retailers and health care providers, as well as marketing agencies. A significant portion of our revenue is generated in South Africa. In 2012, 68% of our total revenue from continuing operations was generated in South Africa, compared with 100% of our revenue from continuing operations in 2011. In 2012 and 2011, three customers accounted for approximately 29% and 47% of our total revenue, respectively. Vodacom (Pty) Ltd., the largest wireless carrier in South Africa, accounted for approximately 10% and 26% of our revenue from continuing operations during 2012 and 2011, respectively. African Bank accounted for approximately 10% and 12% of revenues from continuing operations in 2012 and 2011, respectively. Multichoice (Pty) Ltd. accounted for approximately 9% and 8% of revenue from continuing operations in 2012 and 2011, respectively. We depend on a limited number of customers for a substantial portion of our revenue. The loss of a key customer or any significant adverse change in the size or terms of a contract with a key customer could significantly reduce our revenue. We have month-to-month purchase order agreements with these customers.
Vendors
Our principal vendors are wireless carriers and wireless carrier messaging aggregators which allow us to send mobile messages for our customers. Our vendors' ability to consistently and reliably deliver mobile messaging at competitive rates may affect our competitiveness and profitability. In the U.S., we have long term contracts structured on a per message fee with volume discounts. In South Africa, we purchase bulk message services from wireless carriers on which we depend for a significant portion of our messaging services on a purchase order basis.
We currently rely on two wireless carriers for delivery of substantially all of our South African MMS business: Vodacom (Pty.) Ltd. and MTN Group Ltd., both located in South Africa. We purchase bulk message services from Vodacom and MTN Group on a purchase order basis and do not have long-term contracts to protect our access to their networks or the prices we pay for network access. If the networks of either of these mobile operators should for any reason fail or become impaired, or if one or both of these wireless carriers were to apply protocols to block certain messages or increase prices, services to our customers and our business and financial condition could be materially adversely impacted.
In the United States and countries other than South Africa, we rely upon a number of messaging aggregators for both SMS and MMS messaging.
Sales and Marketing
We sell our technology and services directly through our global sales force and indirectly through our reseller partners. We reorganized and condensed our international sales teams in 2011. We currently maintain sales offices or personnel in a number of cities in the United States and in South Africa. Our 2012 sales efforts were staffed out of our South African and U.S. operations. As of December 31, 2012, our sales organization was comprised of 19 individuals: 10 in North America and 9 in South Africa. Our sales efforts are primarily in the countries in which the sales people reside.
Where we can identify a qualified reseller partner, we have entered into non-exclusive reseller relationships for certain U.S. markets pursuant to master license agreements. Under our agreements with five U.S. resellers, we provide technology and sales support to the reseller partner, who typically pays us an initial fee and a pre-agreed percentage of revenue for the support.
Seasonality
Our business is subject to seasonal fluctuations related to the advertising spend by our customers. Other factors such as the general economic climate and the addition or loss of large customers will also affect our business. In many cases, enterprises plan their advertising campaigns up to one year in advance and we are dependent on their budgets for a significant percentage of our revenue. We are continuing to develop product solutions, such as mobile statements, which will be less susceptible to seasonal fluctuations.
Technology and Operations
Our operations and related infrastructure are located at our facilities in Seattle, Washington, San Jose, California, Krakow, Poland, and Johannesburg, South Africa. We run our data center operations principally through third-party providers located in Dallas, Texas, and through data center operations in Singapore and Johannesburg, South Africa. We employ technical operations staff in all locations except Seattle. Our infrastructure is designed using load-balanced web server tools, redundant interconnected network switches and firewalls, replicated databases, and fault-tolerant storage devices. We safeguard against the potential for service interruptions at our third-party technology vendors by engineering fail-safe controls into our critical components. Scalability is achieved through use of advanced application partitioning to allow for horizontal scaling across multiple sets of applications. This enables individual applications and operating systems to scale independently as required by volume and usage. Production data is backed up on a daily basis and stored in multiple locations to ensure transactional integrity and restoration capability. Our applications are monitored 24 hours a day, 365 days a year by specialized monitoring systems that aggregate alarms. If a problem occurs, appropriate engineers are notified and corrective action is taken. Changes to our production environment are tracked and managed through a formal maintenance request process. Production baseline changes are handled much the same as software product releases and are first tested on a quality control system, then verified in a staging environment, and finally deployed to the production system.
Research and Development
We are committed to continuing to enhance our underlying technology and to innovate and incorporate new technologies and features into our platform and services. As of December 31, 2012, our research and development organization consisted of 38 employees, including 8 in South Africa, 25 in Poland and 5 in North America. We incurred approximately $5.4 million and $1.2 million in research and development costs for the years ended December 31, 2012 and 2011, respectively. We currently expect that our research and development costs in 2013 will be comparable to those in 2012.
Intellectual Property
We believe our technology includes valuable intellectual property and we rely on a combination of trademark, copyright, trade secret laws, pending patents and disclosure restrictions to protect these intellectual property rights. We license third-party technologies that are incorporated into our products and services. We also enter into confidentiality and proprietary rights agreements with our employees, consultants and other third parties and control access to software, documentation and other proprietary information. We have filed patent applications covering elements of our products and services offering. Issued patents include U.S. Patent No. 8,175,990, titled "Situational Decision Engine and Method for Contextual User Experience", and South Africa Patent No. 2009/01923, titled "System for Mobile Statements". A number of other U.S. and international patent applications remain pending.
Competition
The market for mobile messaging and mobile web solutions is rapidly evolving and intensely competitive. We compete with companies of all sizes in select geographies that offer solutions that compete with single elements of our product and service offerings, such as mobile advertising networks, mobile website and content creators, mobile payment providers, aggregators, providers of mobile publishing and application development and providers of mobile analytics. We also compete at times with interactive and traditional advertising agencies that perform mobile marketing and advertising as part of their services to their customers. Wireless carriers may also decide to develop and distribute their own mobile campaigns. If wireless carriers enter the mobile advertising market as publishers, they might refuse to distribute some or all of our messages or might deny us access to all of part of their networks.
Our approach to our market is to provide integrated technology and services that together offer a comprehensive solution for engaging customers through mobile. Although there are numerous point solution providers that offer varying individual or in some cases combinations of the various technology services similar to the services we offer, there are very few competitors that offer a comprehensive solution similar to ours. These competitors include Velti plc, Mogreet, Inc. and Augme Technologies, Inc. We compete based on a number of factors, including cost, geographic network coverage, multiple messaging type, device support, quality of service, platform functionality and features, ease of implementation, ease of use, ease of management and adaptability to changing demands and technology. Many of our competitors have longer operating histories, stronger brand and consumer recognition, and significantly greater financial, marketing and other resources than we do.
Although mobile applications ("apps") are expected to play a role in consumer marketing, we do not believe that mobile apps will supplant SMS, MMS and mobile web. Mobile apps themselves are inherently limited. In general, the market for mobile apps is dependent on connectivity with the mobile handset and operating systems they were built to support and requires a user to be proactive in downloading and opening the app as their need arises. Browser based connections and apps are accessed by subscribers on a "pull" basis, as opposed to SMS and MMS services, which are typically transmitted via the wireless carriers on a "push" when an outbound message is sent. Because we are able to deliver our mobile messaging products and services primarily through "push" channels to a large number of consumers across a wide range of operating systems, we believe that our technology platform supports more effective marketing and business process solutions, such as bill presentment and marketing campaigns, than mobile apps.
Government Regulation
Our operations, products and services are subject to regulation by federal, state and foreign governments and regulatory authorities in the jurisdictions where we operate. Laws and regulations that apply to internet communications, commerce and advertising are becoming more prevalent. These laws and regulations could affect the costs of communicating on the Web or via mobile devices and could adversely affect the demand for our mobile messaging solutions or otherwise harm our business, results of operations and financial condition.
For example, in the U.S., the Controlling the Assault of Non-Solicited Pornography and Marketing Act of 2003 (or the CAN-SPAM Act) establishes requirements for Web-based advertisements and imposes penalties of up to $16,000 for each advertisement that violates those requirements. The Telephone Consumer Protection Act prohibits text messages sent with an auto dialer without the prior express consent of the recipient. The Act provides for a penalty of $500 per violation. Our customers may be subject to the requirements of these laws, and/or other applicable state or foreign laws and regulations affecting electronic marketing. If our customers’ mobile campaigns are alleged to violate applicable laws or regulations and we are deemed to be responsible for such violations, or if we were deemed to be directly subject to and in violation of these laws and regulations, we could be exposed to liability.
In addition, the U.S. Federal Trade Commission in March 2012 issued its report, "Promoting Consumer Privacy in an Era of Rapid Change." The report calls for enactment of federal data privacy and security legislation, and calls on the industry to adopt "do not track" mechanisms through which consumers may opt out of receiving targeted advertisements. Industry groups like the Mobile Marketing Association and Direct Marketing Association have adopted or may adopt best practices or other guidelines that address issues such as user privacy, spy ware, “do not email” lists, pricing, intellectual property ownership and infringement, copyright, trademark, trade secret, export of encryption technology, click-fraud, acceptable content, search terms, lead generation, behavioral targeting, taxation, and quality of products and services. Such legislation, regulation, or best practices could hinder growth in the use of the Web or mobile messaging generally and adversely affect our business.
Consumer Protection and Privacy Rights
We do not facilitate the delivery of spam messages to mobile phone subscribers. Prior to the delivery of a mobile message we ensure that there is an existing relationship between us, the wireless carrier or the enterprise and the subscriber to whom the message is being delivered, in which the subscriber has agreed to receive messages.
We collect personally identifiable information from consumers with the consumer’s permission. The consumer provides this permission by opting into one of our programs. We store personally identifiable information securely and do not use the data without the explicit, knowing permission of the consumer which is gained at the time we collect the data.
Our customers retain the right to use data they have obtained through explicit permission from a consumer. We rely on our customers’ consumer privacy policies and practices, as well as the consumer privacy policies and practices of the publisher websites included in each advertising campaign. If our customers provide databases of their consumers, we can use this data on behalf of those customers, again pursuant to their consumer privacy policies. We rely on our customers to collect and maintain such data with the appropriate precaution and responsibility as stated in their privacy policies. The premise is that both the website providing the ad space and the advertiser (1) have an opt-in relationship with the customer, (2) have an opportunity to share their consumer privacy policies with their customer, and (3) provide an opportunity to opt-out.
We collect certain technical data (such as type of browser, operating system, domain type, date and time of viewer’s response) when serving internet advertisements. This type of information is defined by the Network Advertising Initiative as non-personally identifiable information. In addition, we use non-personally identifiable information that we receive from websites, pursuant to their consumer privacy policies, about their visitors’ general demographics and interests to target appropriate advertising to the websites
We use “cookies,” among other techniques, to measure and report non-personally identifiable information to advertisers, such as the number of people who see their advertisements or emails and the number of times people see the advertisement. A cookie is a small file that is stored in a web user’s hard drive. Cookies cannot read information from the web user’s hard drive; rather they allow websites and advertisers to track advertising effectiveness and to ensure that viewers do not receive the same advertisements repeatedly. Cookies, by themselves, cannot be used to identify any user if the user does not provide any personally identifiable information. They can be used, however, to record user preferences in order to allow personalization features such as stock portfolio tracking and targeted news stories.
We are compliant with the Platform for Privacy Protection Project, or P3P, compliance criteria. P3P is the most current privacy standard effort in our industry, providing simple and automated privacy controls for internet users.
Employees
As of December 31, 2012, we had a total of 89 employees, 32 in North America, 29 in South Africa and 28 in Poland. None of our employees are covered by a collective bargaining agreement. We consider our relations with employees to be good.
Available Information
Our corporate website is located at www.lencomobile.com. Information on or available through our website is not, and should not be considered, part of this annual report on Form 10-K. Through our website, we make available, free of charge, copies of our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), as soon as reasonably practicable after filing such information with, or furnishing it to, the SEC. In addition, you may read and copy any materials we file with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Washington, DC 20549. You can get further information about the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC also maintains an Internet site, www.sec.gov, which contains reports, proxy and information statements, and other information that we file electronically with the SEC.
Item1A. Risk Factors.
Investors should carefully consider the risks described below before deciding whether to invest in our securities. The risks described below are not the only ones we face. Additional risks not presently known to us or that we currently believe are immaterial may also impair our business operations and financial results. If any of the following risks actually occur, our business, financial condition or results of operations could be adversely affected. In such case, the trading price of our common stock could decline and you could lose all or part of your investment. This report as well as our other filings with the Securities and Exchange Commission also contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of certain factors, including the risks described below. See “Special Note Regarding Forward-Looking Statements” at the beginning of this report.
Risks Related to Our Business and Industry
We have a history of net operating losses and may continue to suffer losses in the future.
For the years ended December 31, 2012 and 2011, we had net losses from continuing operations of approximately $19.4 million and $9.0 million, respectively. For the year ended December 31, 2012, we had negative operating cash flows of $6.1 million. We anticipate that we will continue to incur significant losses for the foreseeable future. Our ability to generate positive cash flows from operations and net income is dependent, among other things, on the acceptance of our products in the marketplace, market and general economic conditions, cost control, and our ability to raise capital on acceptable terms. The consolidated financial statements contained elsewhere in this report do not include any adjustments that might result from the outcome of these uncertainties. Furthermore the development and expansion of our business will require significant additional capital and other expenditures. Accordingly, if we are not able to increase our revenue, we may never achieve or sustain profitability.
We will require substantial additional capital in order to fund our continuing operations and execute our business plan, and our future access to capital is uncertain and additional financings may have dilutive or adverse effects on our stockholders.
At December 31, 2012, we had cash and cash equivalents of approximately $0.6 million and working capital deficit of approximately $12.8 million. Net cash used in operations for the year ended December 31, 2012 was approximately $6.1 million. Our ability to fund our capital needs will depend on many factors, including our future operating performance, our ability to successfully realign our costs and strategic path, the effect of any strategic and financing alternatives we may pursue, and our ability to meet our obligations under current and any future indebtedness. In addition, we expect to continue to evaluate acquisition opportunities, which may require additional capital commitments.
We will require additional financing to support our working capital needs, pay our outstanding indebtedness and to fund our strategic growth. However, new debt or equity financing arrangements may not be available to us on a timely basis, on terms that ultimately prove favorable to us, or at all. Conditions in the capital markets and uncertainties about current global conditions may affect our potential financing sources and other opportunities. Financing, if available, may be on terms that are significantly dilutive to our stockholders, and the prices at which investors would be willing to purchase our securities may be lower than the current price of our common stock. The holders of new securities may also receive rights, preferences or privileges that are senior to those of existing holders of our common stock. If new sources of financing are required but are insufficient or unavailable, we would be required to modify our growth and operating plans to the extent of available funding. We presently are unable to identify any meaningful cost containment measures that would not jeopardize our business growth. Moreover, if we are unable to repay our outstanding indebtedness, we may default on the obligations, which could have a material adverse effect on our financial condition and results of operations.
The uncertainties relating to our ability to execute our 2013 operating plan, combined with our inability to implement further meaningful cost containment measures that do not jeopardize our growth plans and the difficult financing environment, raise substantial doubt about our ability to continue as a going concern. Our consolidated financial statements for the year ended December 31, 2012 contained in this report have been prepared assuming that we will continue as a going concern, which contemplates realization of assets and the satisfaction of liabilities in the normal course of business for a reasonable period following the date of such financial statements. These financial statements do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts and classifications of liabilities that could result should we be unable to continue as a going concern.
If we are unable to repay our current or any future indebtedness, our creditors may seek to foreclose on our assets or seek other remedies, which could have a material adverse affect on our business, financial condition and results of operations.
On August 21, 2012, we completed a debt financing in which we issued senior secured promissory notes (the “Senior Notes”) in an aggregate principal amount of $4.0 million and warrants to purchase shares of our common stock. The Senior Notes accrue interest on the unpaid principal amount at a rate of 12% per annum, compounded quarterly. The Senior Notes are secured by a first priority security interest in substantially all of the Company's assets and are due in July and August 2014.
On July 30, 2012, the Company issued a promissory note to Jorgen Larsen, a director of the Company, in the amount of $2.5 million (the "Larsen Note"). The Larsen Note provides for an initial payment of $550,000, which we paid on August 1, 2012, a second payment of $171,500 at any time on or before December 31, 2012, which was not paid, and quarterly payments of an amount equal to 15% of the total of our consolidated earnings before interest, taxes, depreciation, amortization and stock compensation. We do not plan on paying these obligations until such time as our resources permit. The Larsen Note is subordinate to all existing and future bank indebtedness, as well as to the Notes, but is senior in right of repayment to all outstanding debt and equity held by the Company as of the date of the Larsen Note. The Larsen Note matures on July 31, 2016 and accrues interest on the unpaid principal amount at a rate of 12% per annum, paid quarterly. Upon any failure to pay any amounts due under the Larsen Note, all amounts outstanding under the Larsen Note will bear interest at a rate of 14%. We may redeem the Larsen Note at any time for an amount equal to the outstanding principal amount under the Larsen Note plus any accrued interest. The Larsen Note was issued by the Company in connection with the repayment of the outstanding amount of the Company’s $2.4 million loan from Bridge Bank (the “Bank Loan”) on July 31, 2012.
In connection with the Archer USA acquisition, we also issued on December 27, 2011, $2.6 million of subordinated promissory notes to certain Archer USA debt holders. We are required to repay 30% of the outstanding principal amount of the subordinated notes on the each of the first and second anniversary of the date of issuance and the remainder of the principal amount on the third anniversary of the date of issuance. These notes are non-recourse and upon default the sole remedy is a default annual interest rate of 14%. We do not plan to repay these notes until such time as we have sufficient resources to satisfy these obligations. Additionally, retention bonus obligations of $2.9 million as of December 31, 2012, were issued to certain employees in conjunction with the acquisition of Archer USA. A portion of these obligations were due on July 1, 2012, December 27, 2012 and January 1, 2013. Upon default amounts owed for those obligations accrue interest at an annual rate of 6%. We do not plan to pay these obligations until such time as our resources permit.
If we are unable to generate sufficient cash from operations, or otherwise obtain sufficient cash by other means, such as a future debt or equity financing, to repay our outstanding indebtedness it could have a material adverse effect on our financial condition and results of operations.
The mobile messaging and mobile web market may deteriorate or develop more slowly than expected, either of which could harm our business.
If the market for mobile messaging and mobile web deteriorates, or develops more slowly than we expect, our business could suffer. Our future success is highly dependent on an increase in the use of mobile communications. The mobile messaging and mobile web market is relatively new and rapidly evolving. As a result, future demand and market acceptance for mobile messaging and mobile is uncertain. Additionally, we must compete with traditional marketing media, including television, print, radio and outdoor advertising, for a share of our clients’ total advertising budgets.
Businesses, including current and potential clients, may find mobile messaging and mobile web to be less effective than traditional communication methods or other technologies for promoting their products and services, and therefore the market for mobile messaging and mobile web may deteriorate or develop more slowly than expected, or may develop using technology or functionality that we did not anticipate and may be unable to timely develop. These challenges could significantly undermine the commercial viability of mobile messaging and harm our business, operating results and financial condition.
Our business is subject to risks generally associated with the advertising industry, any of which could significantly harm our operating results.
Our business is subject to risks that are generally associated with the advertising industry, many of which are beyond our control. These risks could negatively impact our operating results.
Potential marketing related risks include the following:
- the commercial success of our customers' brands;
- economic conditions that adversely affect discretionary consumer spending;
- changes in consumer demographics;
- the availability and popularity of other forms of media and entertainment; and
- critical reviews and public tastes and preferences, which may change rapidly and cannot necessarily be predicted.
We are an early stage company and face increased risks and uncertainties inherent to companies that are still developing their business.
Any evaluation of our business and our prospects must be considered in the light of our limited operating history and the risks and uncertainties encountered by companies in our stage of development. As an early-stage company in the rapidly changing mobile industry, we face increased risks, uncertainties, expenses and difficulties. To address these risks and uncertainties, we must do the following:
- expand our distribution channels, including wireless carrier networks;
- successfully establish direct and indirect sales channels, and develop effective value propositions to attract enterprises to our messaging platform;
- develop and deliver high-quality content for advertisements and promotions that achieve significant market acceptance;
- respond to market developments, including next-generation software and mobile messaging platforms, emerging technologies and pricing and distribution models;
- establish and implement integrated financial and accounting policies, procedures, systems and controls;
- enhance our information technology and processing systems;
- successfully integrate products or companies that we may acquire;
- execute our business and marketing strategies successfully; and
- attract, integrate, retain and motivate qualified personnel.
We may be unable to accomplish one or more of these objectives, which could cause our business to suffer. In addition, accomplishing many of these efforts might be very expensive, which could adversely impact our operating results and financial condition.
We became engaged in our current business in early 2008; however, the Company was incorporated in 1999. There may be risks and liabilities that are unknown to our management resulting from operations prior to our implementation of our current business plan.
The Company was incorporated in 1999. However, we became engaged in the mobile industry in early 2008. Between 1999 and 2008, the Company was engaged in different lines of business, including discount brokerage, financial services, mortgage banking and apparel. The Company also existed as a shell company for a period of time seeking a combination with another company. Our current management was not involved with the Company prior to early 2008. There may be risks and liabilities resulting from the conduct of the Company’s business prior to February 2008 that are unknown to our current management and therefore are not disclosed in this report.
Our limited operating history may not serve as an adequate basis to judge future prospects and results of operations.
As a result of our short operating history, we have limited financial data that can be used to evaluate our business. In addition, we have completed a number of acquisitions and dispositions of assets over the past three years, including, most recently as of the date of this report, the significant acquisition of Archer USA. As a result, our historical financial statements and results of operations may not provide meaningful guidance to form an assessment of the prospects or potential success of our future business operations.
Our financial results could vary significantly from quarter to quarter and are difficult to predict, particularly in light of the current economic environment, which in turn could cause volatility in our stock price.
Our revenues and operating results could vary significantly from quarter to quarter because of a variety of factors, many of which are outside of our control. Therefore, period-to-period comparisons may not provide meaningful guidance for investors to evaluate our prospective future operating results.
Factors that may contribute to fluctuations in our quarterly results include:
- our current reliance on large-volume orders from only a few customers;
- fluctuations in the number of new mobile advertisements or levels of advertising expenditure by major enterprises;
- our competitors may take more significant market share for similar products offered by us to our major clients;
- the timing of release of new products and services by us and our competitors, particularly those that may represent a significant portion of revenues in a period;
- the popularity of new campaigns and promotions released in prior periods;
- the expiration of existing content licenses for particular promotions;
- changes in pricing policies by us, our competitors or wireless carriers and other distributors;
- changes in the mix of products and services we are able to sell which may have varying gross margins;
- fluctuations in the overall consumer demand for mobile devices, mobile campaigns and related content;
- strategic actions by us or our competitors, such as acquisitions, divestitures, spin-offs, joint ventures, strategic investments or changes in business strategy;
- general economic conditions in countries which are in our target markets;
- our success in entering new geographic markets;
- the timeliness and accuracy of reporting from wireless carriers and aggregators;
- the seasonality of our industry;
- the timing of compensation expenses associated with equity compensation grants;
- the timing of charges related to impairments of goodwill and intangible assets; and
- decisions by us to incur additional expenses, such as increases in marketing or research and development.
In addition, we may not be able to accurately predict our future revenues or results of operations. We base our current and future expense levels on our internal operating plans and sales forecasts, and our operating costs are, to a large extent, fixed. As a result, we may not be able to reduce our costs sufficiently to compensate for an unexpected shortfall in revenues, and even a small shortfall in revenues could disproportionately and adversely affect financial results for that quarter.
We are dependent upon relationships with wireless carriers and aggregators who control access to their networks and comprise a significant portion of our costs of sales. If we cannot secure access to the wireless carriers’ networks at reasonable rates, our ability to generate revenues and profits will be significantly impaired.
We typically charge enterprises a fee for sending out SMS or MMS messages to their customers. We contract with wireless carriers or aggregators to send the SMS or MMS messages over their networks. We generate gross profit on the difference between the price we charge the enterprise and the price we pay to the wireless carrier. Our principal vendors are wireless carriers and wireless carrier messaging aggregators which allow us to send mobile messages for our customers. Our vendors' ability to consistently and reliably deliver mobile messaging at competitive rates may affect our competitiveness and profitability. Those relationships do not grant us exclusive access to those networks and third parties are allowed similar access to the network. We currently have access for SMS messaging to the majority of wireless carriers in the world through aggregation agreements. If, for any reason, we are unable to secure or maintain relationships with wireless carriers or wireless aggregators we will not be able to generate additional revenues and our business will not develop.
Many of the wireless carriers throughout the world do not yet have fully operational new generation MMS messaging platforms installed. A major capital investment is required in order to deliver the infrastructure for high speed MMS messaging and data services. A wireless carrier’s decision to build in a territory, and the timing of these build outs, will impact our ability to offer more advanced services.
We currently rely on two wireless carrier vendors for delivery of substantially all of our MMS business in South Africa, and expect to be dependent on a limited number of wireless carrier vendors for the foreseeable future. The loss of or a change in any significant wireless carrier vendor, including their credit worthiness, could materially reduce our revenues and adversely impact our cash position.
We currently rely on two wireless carrier vendors for delivery of substantially all of our MMS business: Vodacom (Pty) Ltd. and MTN Group Ltd., both located in South Africa. While we are attempting to establish relationships with a number of wireless carriers, we expect that we will continue to generate a substantial majority of our revenues through distribution relationships with fewer than twenty wireless carriers for the foreseeable future. If we are unable to establish relationships with other wireless carriers, or if any of the wireless carriers with which we currently have a relationship denies us access to their MMS network infrastructure, or terminates or modifies the terms of its agreement with us, or if there is consolidation among wireless carriers, our operating results and financial position may be adversely affected.
We do not have long-term agreements with the wireless carriers on which we rely for delivery of a significant portion of our messages, and any limitations or increases in cost of network access could adversely affect our business and financial position.
We purchase bulk message services from Vodacom, MTN Group and other wireless carriers on which we depend for a significant portion of our message services on a purchase order basis. We do not have long-term contracts with these wireless carriers to protect our access to the network or the prices we pay for network access. Any inability to access wireless carrier networks at reasonable rates would have a substantial negative impact on our business.
If wireless carriers increase rates that they charge us for sending messages, we may be forced to increase our prices to enterprises. Higher prices to enterprises may cause enterprises to look for alternative forms of mobile messaging or otherwise decrease the amount of business that they do with us. If we incur rate increases from wireless carriers and cannot pass the increase on to the enterprises, we may experience declines in our gross margins and profitability. Wireless carriers also have control over billings and collections for our messages and services. If a wireless carrier or its third party service provider provides billing and collection services to us which are defective and inaccurate, our revenues may be less than anticipated or may be subject to refund at the discretion of the wireless carrier or our customers.
We currently rely on a limited number of customers for a substantially portion of our revenue. The loss of or a change in any significant customer, including its credit worthiness, could materially reduce our revenue and adversely impact our financial position.
In 2012 and 2011, three customers accounted for approximately 29% and 51% of our total revenue, respectively. Vodacom (Pty) Ltd., the largest wireless carrier in South Africa, accounted for approximately 10% and 26% of our revenue from continuing operations during 2012 and 2011, respectively. African Bank accounted for approximately 10% and 12% of revenue from continuing operations in 2012 and 2011, respectively. Multichoice (Pty) Ltd. accounted for approximately 9% and 8% of revenues from continuing operations in 2012 and 2011, respectively.
The loss of any key customer or any significant adverse change in the size or terms of a contract with a key customer could significantly reduce our revenues. Moreover, having our revenues concentrated among a limited number of customers creates a concentration of financial risk for us, and in the event that any significant customer is unable to fulfill its payment obligations to us, our operating results and cash position would suffer.
Our customer contracts lack uniformity and often are complex, which subjects us to business and other risks.
Our customers include large enterprises that have substantial purchasing power and negotiating leverage. As a result, we typically negotiate contracts on a customer-by-customer basis and sometimes accept contract terms not favorable to us to close a transaction, including indemnity, limitation of liability, refund, penalty or other terms that could expose us to significant financial or operating risk. If we are unable to effectively negotiate, enforce and accurately and timely account and bill for contracts with our key customers, our business and operating results may be adversely affected.
In addition, we have contractual indemnification obligations to some of our customers, most of which are unlimited in nature. If we are required to fulfill our indemnification obligations relating to third-party content or operating systems that we provide to our customers, we intend to seek indemnification from our suppliers, vendors, and content providers to the full extent of their responsibility. Even if the agreement with such supplier, vendor or content provider contains an indemnity provision, it may not cover a particular claim or type of claim or may be limited in amount or scope. As a result, we may or may not have sufficient indemnification from third parties to cover fully the amounts or types of claims that might be made against us. Any significant indemnification obligation to our customers could have a material adverse effect on our business, operating results and financial condition.
We may engage in acquisitions, investments or dispositions that could disrupt our business, cause dilution to our stockholders and harm our operating results or financial condition.
We have undertaken strategic acquisitions in the past. Our acquisitions of Archer USA and Archer South Africa form the core of our current business. However, acquisitions involve risks and uncertainties and do not always realize their potential. For example, in September 2010, we acquired our broadcast media business through the acquisition of Jetcast, Inc. However, a year after this acquisition, our broadcast media business had not generated any meaningful revenue and, in December 2011, we completed the divestiture of this business. In addition, certain acquisitions by us have not been fully integrated into our service and product offerings, due primarily to order of priority constraints and the costs and time necessary to effect such integration. We are unable to predict with certainty the costs required to complete the integration of acquired businesses, such as Archer USA, or what the market acceptance will be for the products and services we acquire.
We expect to continue to evaluate and consider a wide array of potential strategic transactions, including business combinations and acquisitions of, or investments in, technologies, services, products and other assets. At any given time, we may be engaged in discussions or negotiations with respect to one or more of these types of transactions. Any of these transactions could be material to our financial condition and results of operations. The process of integrating any acquired business may create unforeseen operating difficulties and expenditures and is itself risky. The areas where we may face difficulties include:
- diversion of management time and a shift of focus from operating the businesses to issues related to integration and administration;
- declining employee morale and retention issues resulting from changes in compensation, management, reporting relationships, future prospects or the direction of the business;
- the need to integrate each acquired company’s accounting, management, information, human resource and other administrative systems to permit effective management, and the lack of control if such integration is delayed or not implemented;
- the need to implement controls, procedures and policies that the acquired companies lacked prior to acquisition;
- in the case of foreign acquisitions, the need to integrate operations across different cultures and languages and to address the particular economic, currency, political and regulatory risks associated with specific countries; and
- liability for activities of the acquired companies before the acquisition, including violations of laws, rules and regulations, commercial disputes, tax liabilities and other known and unknown liabilities.
If the anticipated benefits of any future transactions do not materialize, or we experience difficulties integrating the business of Archer USA or any other businesses we may acquire in the future, or other unanticipated problems arise, our business, operating results and financial condition may be harmed.
In addition, a significant portion of the purchase price of companies we acquire may be allocated to acquired goodwill and other intangible assets, which must be assessed for impairment at least annually. If our acquisitions do not yield expected returns, we may be required to take charges to our earnings based on this impairment assessment process, which could harm our operating results. Moreover, the terms of acquisitions may require that we make future cash or stock payments to stockholders of the acquired company, which may strain our cash resources or cause substantial dilution to our existing stockholders at the time the payments are required to be made.
To the extent we elect to divest or discontinue any portion of our business, such as the disposition of our broadcast media and internet business in December 2011, such actions may have an adverse effect on our business. The discontinuance or divestiture of a product line, or business unit, could cause disruption in our operations and may be distracting to management or our workforce in general. In addition, although any such actions would be designed to improve our long-term results of operations, our near term results could suffer, and there can be no assurance that we would realize the benefits of any such actions. Moreover, in connection with any such disposition, we may be required to indemnify purchasers and other persons from certain liabilities of the business, which could have a material adverse impact on our retained business and results of operations if we incur liability under those provisions.
We face exchange rate and currency control risks as a result of our international operations.
We have staff or offices in the United States, Ireland, Poland, Singapore, Mauritius and South Africa. As such, we have revenues and expenses in multiple currencies. Consequently, we are exposed to currency fluctuations without a hedging structure in place for significant changes in currency values relative to the U.S. dollar. As we continue to expand internationally, we anticipate currency risk management becoming a more important aspect of our business. Conducting business in currencies other than U.S. dollars subjects us to fluctuations in currency exchange rates that could have a negative impact on our reported operating results. Fluctuations in the value of the U.S. dollar relative to other currencies impact our revenues, cost of revenues and operating margins and result in foreign currency exchange gains and losses. To date, we have not engaged in exchange rate hedging activities; however, we may from time to time selectively utilize forward exchange rate contracts, which we may or may not designate as cash flow hedges, to protect against the adverse effect exchange rate fluctuations may have on our foreign currency denominated accounts receivable, accounts payable and profits, if any. If we implement hedging strategies to mitigate this risk, these strategies might not eliminate our exposure to foreign exchange rate fluctuations and would involve costs and risks of their own, such as cash expenditures, ongoing management time and expertise, external costs to implement the strategies and potential accounting implications.
We anticipate earning a significant portion of our future revenue and profits in foreign jurisdictions. Certain countries, including South Africa, have various restrictions and controls on bringing currency into, or distributing currency out of, their country. If we are unable to effectively move and allocate capital among our operating entities it could have a material impact on our financial condition and cash position.
We face added business, political, regulatory, operational, financial and economic risks as a result of our international operations, any of which could increase our costs and hinder our growth.
International sales, generated primarily in South Africa, represented 68% of our revenues in 2012.
We plan to continue to expand internationally in other foreign jurisdictions. There are inherent risks in operating in developing countries and we might from time to time be exposed to risks outside of our core business. Risks affecting our international operations include:
- political, economic and social instability including military and terrorist attacks;
- compliance with multiple and conflicting laws and regulations;
- unexpected changes in regulatory requirements, tariffs, customs, duties and other trade barriers;
- potentially adverse tax consequences resulting from changes in tax laws;
- challenges caused by distance, language and cultural differences;
- difficulties in staffing and managing international operations;
- potential violations of the U.S. Foreign Corrupt Practices Act, particularly in certain emerging countries in East Asia, Eastern Europe and Latin America;
- longer payment cycles and greater difficulty collecting accounts receivable;
- restrictions on the repatriation of earnings;
- protectionist laws and business practices that favor local businesses in some countries;
- price increases due to fluctuations in currency exchange rates;
- price controls;
- the servicing of regions by many different wireless carriers;
- imposition of public sector controls;
- restrictions on the export or import of technology;
- trade and tariff restrictions and variations in tariffs, quotas, taxes and other market barriers; and
- difficulties in enforcing intellectual property rights in certain countries.
In addition, developing user interfaces that are compatible with other languages or cultures can be expensive. Our international expansion efforts may be more costly than we expect. These risks could harm our international operations, which, in turn, could materially and adversely affect our business, operating results and financial condition.
The wireless industry is intensely competitive. If we are unable to successfully compete, our ability to retain our customers and attract new customers could decline, as would our revenues.
The mobile messaging and mobile web market is rapidly evolving and intensely competitive. Competition in the wireless industry throughout the world continues to increase at a rapid pace as consumers, businesses and governments realize the market potential of wireless communications products and services. In addition, new competitors or strategic transactions among competitors could emerge and rapidly acquire significant market share, to our detriment. There may be additional competitive threats from companies introducing new and disruptive solutions.
We compete with companies of all sizes in select geographies that offer solutions that compete with single elements of our product and service offerings, such as mobile advertising networks, mobile website and content creators, mobile payment providers, aggregators, providers of mobile publishing and application development and providers of mobile analytics. We also compete at times with interactive and traditional advertising agencies that perform mobile marketing and advertising as part of their services to their customers. Wireless carriers may also decide to develop and distribute their own mobile campaigns. If wireless carriers enter the mobile advertising market as publishers, they might refuse to distribute some or all of our messages or might deny us access to all or part of their networks.
If current or potential customers prefer the products and services offered by competitors over those offered by us, we will not be able to generate or sustain sufficient revenues to develop our business. Many of our competitors’ and our potential competitors’ advantages over us, either globally or in particular geographic markets, include the following:
- longer operating histories;
- significantly greater revenues and financial resources;
- stronger brand and consumer recognition regionally or worldwide;
- the capacity to leverage their marketing expenditures across a broader portfolio of mobile and non-mobile products;
- superior intellectual property from which they can develop better technical solutions which might be attractive to wireless carriers and enterprises;
- relationships with wireless carriers or enterprises that afford them access to intellectual property while blocking the access of competitors to that same intellectual property;
- greater resources to make acquisitions;
- the ability or willingness to offer competing products at no charge or reduced rates to establish market share;
- lower labor and development costs; and
- broader global presence and distribution channels.
In addition, given the open nature of the development and distribution for certain next-generation platforms, we also compete with a vast number of small companies and individuals who are able to create and launch mobile campaigns and other content for mobile devices utilizing limited resources and with limited start-up time or expertise. Many of these smaller developers are able to offer their products at low cost or substantially reduce prices to levels at which we are unable to respond competitively and still achieve profitability given their low overheads.
Any delay by us in the development or introduction of products or services or updates would allow additional time for our competitors to improve their service or product offerings, and for new competitors to develop products and services for our customers and target markets. Increased competition could result in pricing pressures, reduced operating margins and loss of market share, any of which could cause our business to suffer.
Material weaknesses in our internal control over financial reporting have been identified.
A number of material weaknesses have been identified in our internal control over financial reporting as of December 31, 2012. Specifically, we have not completed the design and implementation of internal control policies and procedures necessary to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements in accordance with generally accepted accounting practices ("GAAP"). These material weaknesses are deficiencies that create a reasonable possibility of that a material misstatement of our financial statements will not be prevented or detected on a timely basis. We are in the process of remediating these material weaknesses, as more fully described under Part II, Item 9A - “Controls and Procedures” below, and may identify areas for further attention and improvement. We cannot be certain that any remedial measures we have begun to take, or intend to take, will adequately remediate these weaknesses. A failure to remediate weaknesses in our internal control over financial reporting may prevent us from accurately reporting our financial results, result in material misstatements in our financial statements or cause us to fail to meet our reporting obligations.
We cannot ensure that we will not in the future identify further material weaknesses in our internal control over financial reporting that we have not discovered to date, which may impact the reliability of our financial reporting and financial statements. Deficient internal controls could also cause investors to lose confidence in our reported financial information, which could lead to a decline in our stock price, limit our ability to access the capital markets in the future, and require us to incur additional costs to improve our internal control systems and procedures.
System or network failures or deficiencies could reduce our sales, increase costs or result in a loss of revenues or customers who use our services.
We rely on wireless carriers and other third-party data carriers to deliver MMS messages and advertising content to end users and to track and account for the downloading of our messages and advertising content. Some of our technologies for enhancing the performance of our platform are dependent on specific types of access to the wireless carrier’s network. If the wireless carrier is unable to provide us with the level of connectivity we require, the standard and functionality of our services will be negatively impacted, which will in turn negatively affect our ability to provide services and generate profitability. In certain circumstances, we also rely on our own servers to deliver messages to the wireless carriers and to deliver on demand content to end users through the wireless carrier’s networks. Any technical problem with wireless carriers, third party service providers or our billing, delivery or information systems or communications networks could result in the inability of the wireless carriers, or a mobile subscribers to download our content.
From time to time, wireless carriers may experience failures with their billing and delivery systems and communication networks, including gateway failures that reduce their ability to distribute MMS messages and advertising content. Any such technical problems could cause us to lose revenues or incur substantial repair costs and distract management from operating our business.
Our own computer systems are vulnerable to damage from a variety of sources, including telecommunications failures, power outages, malicious or accidental human acts and natural disasters. We lease data center space in Dallas, Texas, Singapore and Johannesburg, South Africa. Despite network security measures, our servers are potentially vulnerable to physical or electronic break-ins, computer viruses and similar disruptive problems in part because we cannot control the maintenance and operation of our third-party data centers. Despite the precautions taken, unanticipated problems affecting our systems could cause interruptions in the delivery of our solutions in the future and our ability to provide a record of past transactions. Our data centers and systems incorporate varying degrees of redundancy. In the event of failure, the various data centers and communications systems may not automatically switch over to their redundant counterpart. Our insurance policies may not adequately compensate us for any losses that may occur due to any failures in our systems.
The mobile marketing industry is, and likely will continue to be, characterized by rapid technological changes, which will require us to develop new products and service enhancements, and could render our existing services obsolete.
The market for mobile marketing services is emerging and is characterized by rapid technological change, evolving industry standards, frequent new product introductions and short product life cycles. To keep pace with technological developments, satisfy increasing customer requirements and achieve acceptance of our marketing and advertising campaigns, we will need to enhance our current mobile messaging solutions and continue to develop and introduce on a timely basis new, innovative mobile messaging services offering compatibility, enhanced features and functionality on a timely basis at competitive prices. We may not be able to successfully use new technologies or adapt our current and planned services to new customer requirements or emerging industry standards. The introduction of new products embodying new technologies or the emergence of new industry standards could render our existing services obsolete, unmarketable or uncompetitive from a pricing standpoint.
If the security of our customers’ confidential information stored in our systems is breached or otherwise subjected to unauthorized access, our reputation may be severely harmed, we may be exposed to liability and we may lose the ability to offer our customers a credit card payment option.
Our network system stores data about consumers who have previously interacted with us, customers’ proprietary mobile distribution lists, and other critical data. Any accidental or willful security breaches or other unauthorized access to consumer information stored on our systems could expose us to liability for the loss of such information, adverse regulatory action by federal and state governments, time-consuming and expensive litigation and other possible liabilities as well as negative publicity, which could severely damage our reputation. If security measures are breached because of third-party action, employee error, malfeasance or otherwise, or if design flaws in our software are exposed and exploited, and, as a result, a third party obtains unauthorized access to any of our customers’ data, our relationships with our customers will be severely damaged, and we could incur significant liability. Because techniques used to obtain unauthorized access or to sabotage systems change frequently and generally are not recognized until they are launched against a target, we and our third-party hosting facilities may be unable to anticipate these techniques or to implement adequate preventative measures.
Many jurisdictions have enacted laws requiring companies to notify individuals of data security breaches involving their personal data. These mandatory disclosures regarding a security breach often lead to widespread negative publicity, which may cause our customers to lose confidence in the effectiveness of our data security measures. Any security breach, whether actual or perceived, would harm our reputation, and we could lose customers and fail to acquire new customers.
If we fail to maintain our compliance with the data protection policy documentation standards adopted by the major credit card issuers, we could lose our ability to offer our customers a credit card payment option. Any loss of our ability to offer our customers a credit card payment option would make our products less attractive to many small organizations by negatively impacting our customer experience and significantly increasing our administrative costs related to current or planned customer payment processing.
Our existing general liability insurance may not cover any, or only a portion of any, potential claims to which we are exposed or may not be adequate to indemnify us for all or any portion of liabilities that may be imposed. Any imposition of liability that is not covered by insurance or is in excess of insurance coverage would result in significant expense and reduce our working capital.
Our relationships with our reseller partners may be terminated or may not continue to be beneficial in generating new customers, which could adversely affect our ability to increase our customer base.
If we are unable to maintain our contractual relationships with existing reseller partners or establish new contractual relationships with potential reseller partners, we may experience delays and increased costs in adding customers, which could have a material adverse effect on us. The number of customers we are able to add through these marketing relationships is dependent on the marketing efforts of our partners over which we exercise very little control. A significant decrease in the number of gross customer additions generated through these relationships could adversely affect the size of our customer base and revenue.
We may experience difficulty in attracting and retaining key personnel, which may negatively affect our ability to develop new products or services or retain and attract customers.
At this stage of our operations, we do not have an extensive management or employee base. Accordingly, we rely heavily on the actions of relatively few key personnel, including the Executive Chairman of our Board of Directors, Michael Levinsohn, the Chief Executive Officer, Matthew Harris, the Chief Operating Officer, Srini Kandikattu, and the Chief Financial Officer, Chris Dukelow. The loss of the services of any of these officers or any other key personnel may adversely affect our ability to achieve our business goals.
In addition, our ability to expand our business also depends on our ability to recruit, retain and motivate highly skilled sales and marketing, operational, technical and managerial personnel. Competition for these people is intense and we may not be able to successfully recruit, train or retain qualified personnel. If we fail to do so, we may be unable to develop new products or services or continue to provide a high level of customer service, which could result in the loss of customers and revenues. We do not maintain key person life insurance on our employees and have no plans to do so.
If we fail to manage future growth effectively, our business could be harmed.
We operate in an emerging technology market and, if we are able to execute successfully on our business plans, expect to experience significant growth in our business. Any such growth would place significant demands on our management, operational and financial infrastructure. If we are to be able to grow effectively in the future and to manage such growth, if achieved, we must succeed in the realignment of our strategic path and improve and continue to enhance our managerial, operational and financial controls, and train and manage our employees. We must also manage new and existing relationships with customers, suppliers, business partners and other third parties. These activities will require significant expenditures and allocation of valuable management resources. If we fail to maintain the efficiency of our organization during periods of growth, our results of operations may suffer, and we may be unable to achieve our business objectives.
If we are unable to protect our intellectual property and proprietary rights, our competitive position and our business could be harmed.
We rely on a combination of trademark, copyright, trade secret laws, pending patents and disclosure restrictions to protect these intellectual property rights. We license third-party technologies that are incorporated into our products and services. We also enter into confidentiality and proprietary rights agreements with our employees, consultants and other third parties and control access to software, documentation and other proprietary information. We have filed patent applications covering elements of our products and services offering, but no patents have been issued to date. Any future patents that may issue may not survive a legal challenge in their, scope, validity or enforceability, or provide significant protection for us. The failure of our patents, or our reliance upon copyright, trades secrets and proprietary rights agreements to adequately protect our technology may make it easier for our competitors to offer similar products or technologies. In addition, patents may not issue from any of our current or future applications.
Monitoring unauthorized use of our intellectual property is difficult and costly. Our efforts to protect our intellectual property may not be adequate to prevent misappropriation of our intellectual property. Further, we may not be able to detect unauthorized use of, or take appropriate steps to enforce, our intellectual property rights. Our competitors may also independently develop similar technology. In addition, the laws of many countries, including South Africa and other countries in which we may conduct business, do not protect our proprietary rights to as great an extent as do the laws of the U.S. Further, the laws of the U.S. and elsewhere change rapidly, and any future changes could adversely affect us and our intellectual property. Any failure by us to meaningfully protect our intellectual property could result in competitors offering products that incorporate our technologically advanced features, which could seriously reduce demand for our products and services. In addition, we may in the future to initiate infringement claims or litigation. Litigation, whether we are a plaintiff or a defendant, can be expensive, time-consuming and may divert the efforts of our technical staff and managerial personnel, which could harm our business whether or not such litigation results in a determination favorable to us. Further litigation is inherently uncertain, and thus we may not be able to stop our competitors from infringing our intellectual property rights.
Third parties may sue us for intellectual property infringement, which, if successful, may disrupt our business and could require us to pay significant damage awards.
We cannot be certain that our services do not and will not infringe the intellectual property rights of others. Third parties may sue us for intellectual property infringement or initiate proceedings to invalidate our intellectual property, either of which, if successful, could disrupt the conduct of our business, divert management's attention and resources and adversely affect our relationship with our customers or future customers. In addition to liability for monetary damages, which may be trebled and may include attorneys' fees, we may be prohibited from developing, commercializing or continuing to provide certain of our messaging services unless we obtain licenses from the holders of the patents or other intellectual property rights. We cannot assure shareholders that we will be able to obtain any such licenses on commercially favorable terms, or at all. If we do not obtain such licenses, our business, operating results and financial condition could be materially adversely affected and we could, for example, be required to cease offering or materially alter our mobile messaging services in some markets.
Our use of open source software could limit our ability to provide our platform to our customers.
We have incorporated open source software into our technology platform. Although we closely monitor our use of open source software, the terms of many open source licenses to which we are subject have not been interpreted by U.S. or foreign courts, and there is a risk that such licenses could be construed in a manner that imposes unanticipated conditions or restrictions on our ability to provide our platform to our customers. In that event, we could be required to seek licenses from third parties to continue offering our platform, to re-engineer our platform or discontinue use of portions of the functionality provided by our platform, any of which could have a material adverse effect on our business, operating results or financial condition.
Software and components that we incorporate into our mobile messaging solutions may contain errors or defects, which could have an adverse effect on our business.
Our mobile messaging solutions are highly technical and have contained and may contain undetected errors, defects or security vulnerabilities. Some errors in our solutions may only be discovered after it has been deployed. Any errors, defects or security vulnerabilities discovered in our solutions after commercial release could result in loss of revenue or delay in revenue recognition, loss of customers and increased service cost, any of which could adversely affect our business, operating results and financial condition.
Because a significant portion of our assets are located outside of the United States, it may be difficult for investors to use the United States federal securities laws to enforce their rights against us and some of our officers and directors in the United States.
Archer South Africa is located in South Africa and is wholly owned by other subsidiaries located in Ireland and the British Virgin Islands. In addition, a significant and increasing portion of our operating assets are located outside of the United States. It may therefore be difficult for investors in the United States to enforce their legal rights based on the civil liability provisions of the United States federal securities laws against us in the courts of either the United States, Ireland, the British Virgin Islands, South Africa or another country outside of the United Stated and, even if civil judgments are obtained in courts of the United States, to enforce such judgments in South African or other international courts. Further, it is unclear if extradition treaties now in effect between the United States, Ireland, the British Virgin Islands, South Africa and/or other countries of operation would permit effective enforcement, against us or our officers and directors, of criminal penalties under the United States federal securities laws or otherwise.
There are legal proceedings against us involving claims for significant damages.
We currently are a party to the legal actions described under the heading "Legal Proceedings" in Item 3 below. If we are found to be liable for the claims asserted in these legal actions, our cash position may suffer. Even if we ultimately prevail in these lawsuits, we may incur significant legal fees and diversion of management’s time and attention from our core business, and our business and financial condition may be adversely affected. We believe that these actions likely will be dismissed or settled, but there is no assurance of any favorable outcome.
Risks Related to our Common Stock
Because our common stock is quoted on the over-the-counter (“OTC”) market, it is illiquid and subject to price volatility unrelated to our operations.
Our common stock is currently quoted on the OTCQB tier of the OTC market system maintained by OTC Markets, Inc. OTC Markets is a private company that provides services to the U.S. OTC securities market, including electronic quotations, trading, messaging, and information platforms. According to the SEC, the OTC Markets is not a stock exchange. Many institutional investors have investment policies which prohibit them from trading in stocks on the OTC Markets. As a result, stock quoted on this electronic quotation system generally have limited trading volume and exhibit a wider spread between the bid/ask quotations than stock traded on national stock exchanges. This thinner trading volume may result in increased price fluctuations.
The market price of our common stock has and in the future could fluctuate substantially due to a variety of factors, including market perception of our ability to achieve our planned growth, our quarterly operating results, operating results of our competitors, trading volume in our common stock, changes in general conditions in the economy and the financial markets or other developments affecting our competitors or us. Certain of these factors can have a significant effect on the market price for our stock for reasons that are unrelated to our operating performance. In the past, following periods of volatility in the market price of a particular company’s securities, securities class action litigation has often been brought against that company. Securities class action litigation against us could result in substantial costs and divert our management’s attention and resources.
Our common stock is considered a “penny stock.” The application of “penny stock” rules to our common stock could limit the trading and liquidity of our common stock, adversely affect the market price of our common stock and increase the transaction costs to sell those shares.
Our common stock is subject to Rule 15g-1 through 15g-9 under the Exchange Act, which imposes certain sales practice requirements on broker-dealers which sell our common stock to persons other than established customers and “accredited investors” (generally, an individual with net worth in excess of $1,000,000 (not including his/her principal residence) or annual income exceeding $200,000 (or $300,000 together with his/her spouse)). For transactions covered by this rule, a broker-dealer must make a special suitability determination for the purchaser and have received the purchaser’s written consent to the transaction prior to the sale. This rule adversely affects the ability of broker-dealers to sell our common stock and the ability of our stockholders to sell their shares of common stock.
Additionally, our common stock is subject to the SEC regulations for “penny stock.” Penny stock includes any equity security that is not listed on a national exchange and has a market price of less than $5.00 per share, subject to certain exceptions. The regulations require that prior to any non-exempt buy/sell transaction in a penny stock, a disclosure schedule set forth by the SEC relating to the penny stock market must be delivered to the purchaser of such penny stock. This disclosure must include the amount of commissions payable to both the broker-dealer and the registered representative and current price quotations for the common stock. The regulations also require that monthly statements be sent to holders of penny stock that disclose recent price information for the penny stock and information of the limited market for penny stocks. These requirements adversely affect the market liquidity of our common stock.
We have issued Series A, Series A1, Series B1 and Series B2 Convertible Preferred Stock with rights, preferences and privileges that are senior to those of our common stock. The exercise of some or all of these Series A, A1, B1 and B2 Convertible Preferred Stock rights may have a detrimental effect on the rights of the holders of our common stock.
As of March 15, 2013, we had outstanding 181,180 shares of Series A Convertible Preferred Stock, 7,000 shares of Series A1 Convertible Preferred Stock, 87,717 shares of Series B1 Convertible Preferred Stock and 58,131 shares of Series B2 Convertible Preferred Stock (together, the "Preferred Stock"). The Preferred Stock have a number of rights, preferences, and privileges that are superior to those of the common stock. The holders of the Preferred Stock are entitled to cumulative dividends at the rate per share of 6.0% per annum, in the case of the Series A and Series A1 Preferred Stock, and 3.0% per annum, in the cases of the Series B1 and Series B2 Preferred Stock. Dividends are payable quarterly and accrete to, and increase, the outstanding stated value ($100) of the Preferred Stock and compound quarterly, in the case of the Series A and Series A1 Preferred Stock, and annually, in the case of the Series B1 and Series B2 Preferred Stock.
The holders of the Series A and Series A1 Preferred Stock are entitled to a liquidation preference payment in an amount per share equal to the stated value of the Series A and Series A1 Preferred Stock ($100 per share, as increased for accreted dividends), plus such amount as may be necessary to make the aggregate of all amounts paid with respect to such share of Preferred Stock equal to an internal rate of return of 30% per annum from the original issuance date, prior and in preference to any payment to holders of the Series B1 and Series B2 Preferred Stock and the common stock. Any proceeds after payment of the liquidation preference payment to the Series A and Series A1 Preferred Stock are payable pro rata to the holders of the Series B1 and Series B2 Preferred Stock in an amount equal to the stated value of the Series B1 and Series B2 Preferred Stock (in each case, $100 per share, as increased for accreted dividends), prior and in preference to any payments to holders of the common stock.
The holders of the Preferred Stock also have substantial voting power over the Company in certain instances. The holders of the Series A and Series A1 Preferred Stock are entitled to vote, on an as-converted basis, together with the holders of the common stock as a single class, except with respect any increase or decrease in the authorized shares of the common stock, as to which they have no vote. Additionally, the Series A, Series A1, Series B1 and Series B2 Preferred Stock each have certain “protective provisions,” as set forth in their respective Certificates of Designation, requiring us to obtain their approval, each voting as a separate class, before we can carry out certain actions. For example, as long as any Series A Preferred Stock is outstanding, the Company may not, without the affirmative vote of the holders of the then outstanding shares of Series A Preferred Stock, including the affirmative vote of Pablo Enterprises LLC, declare any cash dividend or distribution on the common stock or the Series B1 or Series B2 Preferred Stock, or purchase or redeem the Series B1 or Series B2 Preferred Stock or other security not explicitly senior or equal to the Series A Preferred Stock in terms of dividend rights, redemption rights or liquidation preference. In addition, as long as any Series A1 Preferred Stock is outstanding, the Company may not do any of the foregoing without the affirmative vote of the holders of the then outstanding shares of Series A and Series A1 Preferred Stock voting as a single class.
We may issue additional shares of our common stock, including through conversion of currently outstanding preferred shares, or future issuances of convertible debt securities or preferred shares, to finance future operations or complete a business combination, which would be dilutive to our stockholders and may cause a change in control of our ownership.
We may issue a substantial number of additional shares of our common stock or preferred stock, or a combination of both, including through convertible debt securities and conversion of preferred shares to common, to finance future operations or complete a business combination. The issuance of additional shares of our common stock, including through conversion of our currently outstanding Preferred Stock, or the future issuance of any number of shares of preferred stock, including upon conversion of any debt securities:
- may significantly reduce the equity interest of our current stockholders;
- may cause a change in control if a substantial number of our shares of common stock or voting preferred stock are issued, which may affect, among other things, our ability to use our net operating loss carry forwards, if any, and could also result in a change in management; and
- may adversely affect prevailing market prices for our common stock.
As of March 15, 2013, we had 181,180 shares of outstanding Series A Convertible Preferred Stock. A holder of Series A Convertible Preferred Stock can elect to convert its Series A Convertible Preferred Stock into shares of our common stock at any time at a $0.25 conversion price. If that occurs, the holders of Series A Convertible Preferred Stock would have the right, exercisable from time to time in their discretion, to convert the outstanding Series A Convertible Preferred Stock into approximately 83,342,000 shares of common stock, which number of common shares will increase as dividends continue to accrete to and increase the stated value of the outstanding Series A Convertible Preferred shares.
We also have outstanding, as of March 15, 2013, 7,000 shares of Series A1 Convertible Preferred Stock. A holder of Series A1 Convertible Preferred Stock can elect to convert its Series A1 Convertible Preferred Stock into shares of our common stock at any time at a $0.20 conversion price. If that occurs, the holders of Series A1 Convertible Preferred Stock would have the right, exercisable from time to time in their discretion, to convert the outstanding Series A1 Convertible Preferred Stock into approximately 3,500,000 shares of common stock, which number of common shares will increase as dividends continue to accrete to and increase the stated value of the outstanding Series A1 Convertible Preferred shares.
In addition, we had outstanding as of March 15, 2013, 87,717 shares of Series B1 Convertible Preferred Stock and 58,131 shares of Series B2 Convertible Preferred Stock. A holder of Series B1 Convertible Preferred Stock or Series B2 Convertible Preferred Stock can elect to convert such stock into shares of our common stock. Each share of such preferred stock is convertible into that number of shares of our common stock determined by dividing the stated value of such share (as increased for accreted dividends) by the conversion price. The conversion price of the Series B1 Convertible Preferred Stock is initially $0.25, subject to adjustment for any stock dividends or if we subdivide, combine or reclassify our common stock. The conversion price of the Series B2 Convertible Preferred Stock is initially $0.40, subject to adjustment for any stock dividends or if we subdivide, combine or reclassify our common stock. As of the date of this report, our outstanding shares of Series B1 Convertible Preferred Stock and Series B2 Convertible Preferred Stock are convertible into approximately 51,108,000 shares of common stock. The number of common shares into which the Series B1 Convertible Preferred Stock and Series B2 Convertible Preferred Stock will convert increase as dividends continue to accrete to and increase the stated values of the outstanding Series B1 and Series B2 Convertible Preferred shares.
Concentration of ownership among our officers, directors, large stockholders and their affiliates may prevent new investors from influencing corporate decisions.
Our officers, directors, greater than 5% stockholders and their affiliates beneficially own or control, directly or indirectly, approximately 61% of our outstanding common stock including Preferred Stock currently held by them on an as-converted basis, as of March 15, 2013. As a result, if some of these persons or entities act together, they will have significant influence over the outcome of matters submitted to our stockholders for approval, including the election of directors and approval of significant corporate transactions, such as a merger or other sale of our company or its assets. This concentration of ownership could limit the ability of other stockholders to influence corporate matters and may have the effect of delaying an acquisition or cause the market price of our stock to decline. Our current officers, directors and 5% shareholders and their affiliates beneficially own approximately 86% of our outstanding Series A Preferred Stock, none of our outstanding Series A1 Preferred Stock, approximately 49.9% of our outstanding Series B1 Preferred Stock and approximately 52.9% of our Series B2 Preferred Stock as of March 15, 2013.
We are unlikely to pay cash dividends in the foreseeable future.
We have never declared or paid dividends on our common stock and currently do not expect to pay or declare any dividends on our common stock in the foreseeable future. Instead, we intend to retain any future earnings for use in our operations and expansion of our business. Any determination to pay dividends on our common stock in the future will be in the discretion of our board of directors. Should our board decide in the future to do so, our ability to pay dividends and meet other obligations depends upon the receipt of dividends or other payments from our operating subsidiaries. In addition, our operating subsidiaries, from time to time, may be subject to restrictions on their ability to make distributions to us, including as a result of restrictions on the conversion of local currency into U.S. dollars or other hard currency and other regulatory restrictions. The designation of rights of our Series A Convertible Preferred Stock prohibits us from declaring any dividend on our common stock without the consent of a majority of the then outstanding Series A Preferred Stock, including the consent of Pablo Enterprises LLC. The designation of rights of our Series A1 Convertible Preferred Stock prohibits us from declaring any dividend on our common stock without the consent of a majority of the then outstanding Series A and Series A1 Preferred Stock, voting as a single class. Our ability to pay dividends is similarly restricted by the terms of the purchase agreement for the Senior Notes issued in July and August, 2012 and may be similarly restricted from time to time by the terms of any future debt and preferred stock. Our ability to pay dividends is similarly restricted by the terms of the purchase agreement for the Senior Notes issued in July and August 2012 and may be similarly restricted from time to time by the terms of any future debt and preferred stock.
We are currently subject to the reporting requirements of the federal securities laws.
We are a reporting company and, accordingly, subject to the information and reporting requirements of the Exchange Act, and other federal securities laws, including compliance with the Sarbanes-Oxley Act of 2002 (the “Sarbanes-Oxley Act”). The costs of preparing and filing annual and quarterly reports, proxy statements and other information with the SEC and furnishing audited reports to stockholders cause business expenses to be higher than they would be if our company were privately-held.
The Sarbanes-Oxley Act and rules implemented by the SEC require us to maintain certain corporate governance practices as a public company. Furthermore, we must maintain sufficient internal accounting and disclosure controls under the Sarbanes-Oxley Act. If we are unable to comply with the corporate governance and internal controls requirements of the Sarbanes-Oxley Act, we may not be able to obtain the independent accountant certifications required by such Act, which may preclude us from keeping our filings current with the SEC.
We have issued securities in private placement transactions which are subject to restrictions on transfer. Because we have been a shell company, holders of unregistered stock are subject to additional transfer restrictions under Rule 144(i) of the Securities Act of 1933.
We have issued a significant number of shares of our common stock in private placements, including in connection with acquisition transactions to build our current business operations. The holders of these "restricted shares" may rely on the provisions of Rule 144 under the Securities Act to effect sales and may resell the shares of our common stock. Because we were previously a shell company, any sale of restricted common shares under Rule 144 must meet the conditions of Rule 144(i)(2), which requires that the Company has filed all reports required to be filed with the SEC by Section 13 or 15(d) of the Exchange Act, excluding current reports on Form 8-K, for a period of 12 months preceding such sale. Accordingly, if we fail to keep such filings current, holders of restricted common shares issued by us would be unable to rely on Rule 144 for the resale of such securities until such time as our SEC filings are current.
Some provisions in our certificate of incorporation and bylaws may deter third parties from seeking to acquire us.
Our certificate of incorporation and bylaws contain provisions that may make the acquisition of our company more difficult without the approval of our board of directors, including the following:
- only our chief executive officer or a majority of our board of directors is authorized to call a special meeting of stockholders;
- our certificate of incorporation authorizes undesignated preferred stock, the terms of which may be established and shares of which may be issued without stockholder approval; and
- advance notice procedures apply for stockholders to nominate candidates for election as directors or to bring matters before a meeting of stockholders.
Delaware law contains anti-takeover provisions that could deter takeover attempts that could be beneficial to our stockholders.
Provisions of Delaware law could make it more difficult for a third-party to acquire us, even if doing so would be beneficial to our stockholders. Section 203 of the Delaware General Corporation Law may make the acquisition of the Company and the removal of incumbent officers and directors more difficult by prohibiting stockholders holding 15% or more of our outstanding voting stock from acquiring the Company, without our board of directors’ consent, for at least three years from the date they first hold 15% or more of the voting stock.
Risks Related to Government Regulation
Our operations are subject to a number of laws and regulations. Our operating activities in South Africa are governed by the governmental and provincial commercial and labor statutes and regulations of that country, including regulations relating to employee rights, safety and health and environmental matters. In the U.S., the Department of Labor, the Occupational Safety and Health Administration, the Environmental Protection Agency, and other federal and state agencies have the authority to establish regulations that may have an impact on our operations.
Our business is subject to increasing regulation of content, consumer privacy, distribution and internet hosting and delivery in the key territories in which we conduct business. If we do not successfully respond to these regulations, our business may suffer.
Legislation is continually being introduced that may affect both the content of our products and their distribution. For example, data and consumer protection laws in the United States and Europe impose various restrictions on our websites, which will be increasingly important to our business as we continue to market our products directly to end users. Those rules vary by territory although the internet recognizes no geographical boundaries. In the United States, for example, numerous federal and state laws have been introduced which attempt to restrict the content or distribution of advertising. Legislation has been adopted in several states, and proposed at the federal level, that prohibits the sale of certain advertisements to minors. If such legislation is adopted and enforced, it could harm our business by limiting the campaigns we are able to offer to our customers or by limiting the size of the potential market for our campaigns. We may also be required to modify certain promotions or alter our marketing strategies to comply with new and possibly inconsistent regulations, which could be costly or delay the release of our campaigns. Any one or more of these factors could harm our business by limiting the products we are able to offer to our customers, by limiting the size of the potential market for our products, or by requiring costly additional differentiation between products for different territories to address varying regulations.
We could be subject to legal claims, government enforcement actions and damage to our reputation and held liable for our or our customers’ failure to comply with federal, state and foreign laws, regulations or policies governing consumer privacy, which could materially harm our business.
Recent growing public concern regarding privacy and the collection, distribution and use of information about internet users has led to increased federal, state and foreign scrutiny and legislative and regulatory activity concerning data collection and use practices. Any failure by us to comply with applicable federal, state and foreign laws and the requirements of regulatory authorities may result in, among other things, indemnification liability to our customers and the advertising agencies we work with, administrative enforcement actions and fines, class action lawsuits, cease and desist orders, and civil and criminal liability. Recently, class action lawsuits have been filed alleging violations of privacy laws by internet service providers. The European Union’s directive addressing data privacy limits our ability to collect and use information regarding internet users. These restrictions may limit our ability to target advertising in most European countries. Our failure to comply with these or other federal, state or foreign laws could result in liability and materially harm our business.
In addition to government activity, privacy advocacy groups and the technology and direct marketing industries are considering various new, additional or different self-regulatory standards. This focus, and any legislation, regulations or standards promulgated, may impact us adversely. Governments, trade associations and industry self-regulatory groups may enact more burdensome laws, regulations and guidelines, including consumer privacy laws, affecting our customers and us. Since many of the proposed laws or regulations are just being developed, and a consensus on privacy and data usage has not been reached, we cannot yet determine the impact these proposed laws or regulations might have on our business. However, if the gathering of profiling information were to be curtailed, internet advertising would be less effective, which would reduce demand for internet advertising and harm our business.
Third parties may bring class action lawsuits against us relating to internet privacy and data collection. We disclose our information collection and dissemination policies, and we may be subject to claims if we act or are perceived to act inconsistently with these published policies. Any claims or inquiries could be costly and divert management’s attention, and the outcome of such claims could harm our reputation and our business.
Our customers are also subject to various federal and state laws concerning the collection and use of information regarding individuals. These laws include the Children’s Internet Privacy Protection Act, the Federal Drivers Privacy Protection Act of 1994, the privacy provisions of the Gramm-Leach-Bliley Act, the Federal CAN-SPAM Act of 2003, as well as other laws that govern the collection and use of consumer credit information. We cannot ensure that our customers are currently in compliance, or will remain in compliance, with these laws and their own privacy policies. We may be held liable if our customers use our technologies in a manner that is not in compliance with these laws or their own stated privacy policies.
Item 1B.
Item 1B. Unresolved Staff Comments.
Not Applicable.
Item 2.
Item 2. Properties.
We lease approximately 2,700 square feet of office space in Seattle, Washington under a sublease agreement that expires August 31, 2013. This office space houses our corporate headquarters, which includes our principal administrative, marketing and sales organizations. Monthly rental payments are $5,400 and increased to $5,569 starting January 1, 2013.
We lease approximately 1,471 square feet of office space in San Jose, California pursuant to an office lease that expires on January 31, 2015. Monthly rental payments are $2,354.
In Johannesburg, South Africa, Archer South Africa leases approximately 921 square meters of office space pursuant to a lease that expires on September 30, 2017. Monthly rental payments under the lease are 95,000 South African Rand, or approximately US$11,000, per month and increase each year under the current lease by 8%.
In Krakow, Poland our research and development branch leases approximately 350 square meters of office space pursuant to a lease that expires on December 31, 2013. Monthly rental payments under the lease are approximately 9,300 Euro, or approximately US $12,200, per month.
Each of our facilities is covered by insurance and we believe them to be suitable for their respective uses and adequate for our present needs. Our leased facilities are comprised of general commercial office space and we believe that suitable additional or substitute space will be available to accommodate the foreseeable expansion of our operations.
Item 3.
Item 3. Legal Proceedings.
We are involved in a number of claims, proceedings and litigation arising from our operations. In accordance with applicable accounting principles and guidance, we establish a reserve for legal proceedings if and when those matters present loss contingencies that are both probable and reasonably estimable. As of the date of this report, we have not recorded a reserve related to any of the claims, proceedings or actions described below. We continue to monitor these matters for developments that would affect the likelihood of a loss and the reserved amount, if any, thereof, and adjusts the amount as appropriate. Moreover, although there is a reasonable possibility that a loss may be incurred in connection with these matters, at this time, based on the status of each matter, the possible loss or range of loss cannot in our view be reasonably estimated because, among other things, (a) the remedies sought are indeterminate or unspecified, (b) the legal and/or factual theories are not well developed; and/or (c) the matters involve complex or novel legal theories.
Archer USA is a party in a proceeding in Copenhagen, Denmark captioned Cirkelselskabet af 16. Juli 2008 in bankruptcy v. iLoop Mobile, Inc., Vedrorende sag 3, afd. B-1040-12: (Deres j.nr. 1013836). This matter was filed in the Copenhagen City Court by the trustee for Cirkelselskabet, formerly iLoop Mobile ApS (“ApS”). ApS was a Danish subsidiary of Archer USA that was declared bankrupt in July 2008. The trustee claims that Archer USA owes the bankruptcy estate a net amount of DKK 2,550,000 (approximately $430,000) plus costs and fees as a result of an asset purchase agreement in December 2007 between Archer USA and ApS. Under the agreement, Archer USA forgave $2,549,794 of debt owed by ApS to Archer USA in exchange for assets developed by ApS on behalf of Archer USA. The Copenhagen City Court entered a judgment against Archer USA on February 28, 2010 for the amount of trustee's claim plus expenses. Archer USA filed an appeal on March 26, 2012 with the High Court of Eastern Denmark (Østre Landsret). We believe these claims are without merit and intend to vigorously defend the action. If the first level appeal is denied, we intend to appeal to the higher court in Denmark.
We are a party to a wage action captioned James O’Brien v. iLoop Mobile, Inc., Lenco Mobile, Inc. and Matthew R. Harris, No. 12-2-12705-1 (King County Superior Court, filed 4/13/2012). Plaintiff claims breach of contract and failure to pay wages under a retention bonus agreement between Plaintiff and the Company, and seeks approximately $600,000 in wages, double damages, attorneys’ fees and costs. The parties commenced discovery in May 2012. We believe the claims are without merit and intend to vigorously defend against them.
We are a party to an action in Nigeria captioned Skynet Telecommunications Limited, Living the Brand Limited v. Capital Supreme (PTY) Limited, Lenco Mobile Inc. USA, Suit No: LD/117/2012 (In the High Court of Lagos State in the Lagos Judicial Division Holden at Lagos, filed March 26, 2012). Plaintiffs claim more than $100,000,000 in damages for breach of an alleged partnership agreement with Archer South Africa. We are preparing to file our Statement of Defense in accordance with applicable court procedures. We believe the claims are without merit and intend to vigorously defend against them.
We are party to an action captioned Rubin v. Lenco Mobile Inc., Lenco Mobile USA Inc. and Lenco Multimedia, Inc. (Los Angeles County Superior Court, filed July 2012). Plaintiff alleges breach of contract, failure to pay wages, fraud, defamation, unfair competition and unjust enrichment related to the acquisition of Plaintiff’s company (Simply Ideas, LLC) and his subsequent employment with and separation from Lenco Multimedia, Inc. (formerly AdMax). Plaintiff seeks compensatory damages and interest up to a total of $1.5 million. The parties commenced discovery in November 2012. We believe the claims are without merit and intend to vigorously defend against them.
Item 4.
Item 4. Mine Safety Disclosures.
Not applicable.
PART II
Item 5.
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.
Our common stock is quoted on the OTCQB tier of the OTC market system maintained by OTC Markets Inc., under the symbol “LNCM.” The following table sets forth, for the periods indicated, the high and low bid prices for our common stock as reported on the OTCQB. These quotations reflect inter-dealer prices without retail mark-up, mark-down or commission and may not necessarily represent actual transactions.
As of March 15, 2013, there were 80,478,648 shares of our common stock outstanding held by approximately 634 holders of record.
Dividends
We have never declared or paid dividends on our common stock and currently do not expect to pay or declare any dividends on our common stock in the foreseeable future. Instead, we intend to retain any future earnings for use in our operations and expansion of our business. Any determination to pay dividends on our common stock in the future will be in the discretion of our board of directors. Should our board decide in the future to do so, our ability to pay dividends and meet other obligations depends upon the receipt of dividends or other payments from our operating subsidiaries. In addition, our operating subsidiaries, from time to time, may be subject to restrictions on their ability to make distributions to us, including as a result of restrictions on the conversion of local currency into U.S. dollars or other hard currency and other regulatory restrictions. The designation of rights of our Series A Convertible Preferred Stock prohibits us from declaring any dividend on our common stock without the consent of a majority of the then outstanding Series A Preferred Stock, including the consent of Pablo Enterprises LLC (or its successor). The designation of rights of our Series A1 Convertible Preferred Stock prohibits us from declaring any dividend on our common stock without the consent of a majority of the then outstanding Series A and Series A1 Preferred Stock, voting as a single class. Our ability to pay dividends is similarly restricted by the terms of the purchase agreement for the Senior Notes issued in July and August of 2012 and may be similarly restricted from time to time by the terms of any future debt and preferred stock.
Item 6.
Item 6. Selected Financial Data
Not applicable.
Item 7.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Statements in this annual report on Form 10-K, including this Management's Discussion and Analysis of Financial Condition and Results of Operations, which are not historical are “forward-looking statements” and are based on management’s present expectations about future events. Although we believe the expectations reflected in these forward-looking statements are reasonable, such statements are inherently subject to risk and we can give no assurances that our expectations, estimates, forecasts and projections will prove to be correct. Actual results could differ from those described in this report because of numerous factors, many of which are beyond our control. These factors include, without limitation: our ability to obtain future financing or funds when needed; financial risk due to fluctuations in foreign currencies against the U.S. dollar; our ability to control operating costs and successfully implement our current business plan; our ability to successfully establish and maintain relationships with wireless carriers to deliver our mobile messaging solutions on a cost-effective basis; our ability to attract and retain new customers; our ability to respond to new developments in technology and new applications of existing technology in a timely and effective manner; and our ability to manage risks associated with acquisitions, business combinations, strategic partnerships, divestitures, and other significant transactions which may involve additional uncertainties. We undertake no obligation to update these forward-looking statements to reflect events or circumstances after the date of this report or to reflect actual outcomes. Please see “Special Note Regarding Forward Looking Statements” at the beginning of this report.
The following discussion of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and the related notes and other financial information appearing elsewhere in this report.
Overview
We are a global provider of proprietary mobile messaging and mobile web solutions to large enterprises and marketing agencies. Historically our core operations have been conducted in South Africa through our subsidiary Archer South Africa. In December 2011, we acquired Archer USA, a U.S. based mobile marketing platform and services provider. Our strategy is to focus on selling our mobile solutions to large enterprises worldwide. We are an early stage business in a rapidly changing mobile messaging and mobile web industry, having been engaged in the mobile industry since early 2008.
We were incorporated in 1999 in Delaware under the name of Shochet Holdings Corporation. Prior to 2008, Shochet Holdings Corporation completed an initial public offering, underwent several changes of control and was engaged in several different businesses, which included discount brokerage, financial services, mortgage banking and apparel; ultimately we were operating as a shell company seeking a combination with another operating company. The shell company and its predecessors had generated losses of approximately $15.8 million which are reflected in our accumulated deficit.
From March 1, 2009 until September 2011, we managed our business in two operating segments: (i) mobile services and solutions and (ii) broadcast media and internet. In September 2011, we discontinued our broadcast media and internet segment and it is presented as discontinued operations. As a result, we do not separately disclose segment information. A segment is determined primarily by the method in which it delivers its products and services.
On December 27, 2011, we acquired Archer USA for consideration consisting of 10,742,986 unregistered shares of common stock, 87,717 shares of Series B1 Preferred Stock, 58,131 shares of Series B2 Preferred Stock, the assumption of outstanding options to purchase 4,035,045 shares of common stock, and the assumption of approximately $12.9 million in liabilities. In connection with the acquisition, our board of directors appointed Matthew Harris, the former chief executive officer of Archer USA, to serve as our chief executive officer. Additionally, Matthew Harris and Jorgen Larsen, both former Archer USA directors, were appointed to our board of directors and two Lenco directors, Thomas Banks and Ronald Wagner, resigned from our board. Archer USA is a leading mobile marketing company in the United States, serving major multinational enterprises. The acquisition of Archer USA was a primary driver of revenue growth in 2012.
A significant driver for growth in 2011 was the expansion of our customers’ use of our Mobile Statement solution in South Africa, which allows businesses to send account statements to customers via their mobile phone. The solution is sold on a fee per message basis and has been well-received by enterprises, including financial institutions. Revenues from our Mobile Statement solution represented approximately 41% and 64% of our total revenues in 2012 and 2011, respectively.
Our strategy is to focus on selling our mobile solutions to large enterprises worldwide and to increase the use of MMS messaging across existing and new customers in the US. There are approximately 6.8 billion mobile device subscribers globally. This represents almost 98% of the world’s population. Our business is based on our core belief that the most effective way for a business to communicate with its customers is through mobile devices. Thus, our mission is to combine unique technology and comprehensive services to enable our customers to use mobile solutions to build and strengthen relationships with their customers. Our technology includes messaging - simple and rich media messaging - and mobile web technology. We also provide technology that enables measurement and analysis of mobile initiatives and provide strategic and technical services.
Matters Affecting Comparability
Our financial performance over the past few years has been affected by a variety of factors, principally acquisitions, the general economic conditions within our global markets, fluctuations in the relationship of foreign currencies to the U.S. dollar, the availability of capital, product and project mix and the impact of restructuring initiatives. These key factors have impacted the comparability of our results of operations in the past and are likely to affect them in the future.
Discontinued Operations
In September 2011, we refocused our resources on our core mobile business. We discontinued our internet business in its entirety as of September 30, 2011, and on December 1, 2011, we and two of our wholly-owned subsidiaries, Lenco Media and Lenco Multimedia, entered into an asset purchase and sale agreement with MDMD Ventures, LLC and its wholly-owned subsidiary, RadioLoyalty, Inc., pursuant to which we sold certain assets and assigned certain liabilities that comprised our broadcast media business to RadioLoyalty. The cash portion of the purchase price was payable in monthly installments on the basis of 3.5% of the revenue recognized by RadioLoyalty during the period commencing on November 1, 2011 and ending on November 1, 2014, subject to the maximum of $2.5 million. As of December 31, 2012, we had received no cash compensation from the sale.
With the discontinuance of our broadcast media and internet operations segment, our mobile services and solutions segment represents our sole continuing reportable segment.
Subsequent Events
On February 15, 2013, the Company issued a promissory note to Michael Durden, a director of the Company, in the amount of $100,000. On February 22, 2013, the Company issued a promissory note to James Liang, a director of the Company, in the amount of $100,000 and a promissory note to Pablo Enterprises in the amount of $200,000. On February 27, 2013, the Company issued a promissory Note to Derace Schaffer, a director of the Company, in the amount of $200,000 (collectively, the "Bridge Notes").
The Bridge Notes were issued in connection with loans made to the Company. The Bridge Notes mature on the earlier of (a) the date on which the Company closes a preferred stock financing of at least $1,000,000, and (b) the date that is 90 days after the note was issued. The Bridge Notes require the Company to pay the original principal amount of the Bridge Notes plus a 10% financing fee on the maturity date. The Bridge Notes are secured by a security interest in certain assets of the Company.
In March 2013, we entered into securities purchase agreements with accredited investors pursuant to which we sold an aggregate of 7,000 shares of newly created Series A1 Convertible Preferred Stock ("Series A1 Preferred Stock") at a purchase price of $100 per share.
The following is a summary of the terms of the Series A1 Preferred Stock:
Stated Value : The stated value per share of preferred stock is $100, subject to increase for accreted dividends.
Voting Rights : The holders of the preferred stock vote on an as-converted basis together with the holders of our common stock as a single class, except with respect to any increase or decrease in the authorized shares of our common stock, as to which the holders of the preferred stock have no right to vote.
Negative Covenants : As long as any preferred stock is outstanding, we are prohibited from taking any of the following actions without the consent of a majority of the then outstanding preferred stock voting as a single class with the holders of the Series A Convertible Preferred Stock:
·change adversely the rights given to the preferred stock;
·authorize or create any security ranking senior to or otherwise pari passu with the preferred stock;
·amend our charter documents in any manner that adversely affects any rights of the preferred stock;
·increase the number of authorized shares of preferred stock’
·declare or pay any cash dividend or distribution on or purchase or redeem any junior securities; and
·purchase or redeem any shares of preferred stock other than in accordance with the certificate of designation.
Dividends : The holders of the preferred stock are entitled to cumulative dividends at the rate per share (as a percentage of the stated value per share) of 6.0% per annum. Dividends accrete to, and increase the outstanding stated value of the preferred stock and compound (i) quarterly on March 31, June 30, September 30 and December 31 and (ii) when and to the extent shares of the preferred stock are converted into common stock.
Voluntary Conversion : A holder of preferred stock can elect to convert its preferred stock into shares of our common stock at any time. Each share of preferred stock is convertible into that number of shares of our common stock determined by dividing the stated value of such share of preferred stock (as increased for accreted dividends) by the conversion price.
Conversion Price : The conversion price is $0.20 per share.
Liquidation Preference : The holders of preferred stock are entitled to receive out of our assets, whether capital or surplus, before any distribution or payment shall be made to the holders of our common stock or other junior securities, an amount per share of preferred stock equal to the sum of (i) the stated value of the preferred stock (as increased for accreted dividends), plus (ii) any accrued dividends thereon that have not accreted to the stated value through the date of liquidation, plus (iii) such amount necessary to make the aggregate of all amounts paid with respect to such share of preferred stock equal to an internal rate of return of 30% per annum.
Redemption : We can redeem the preferred stock at any time after September 23, 2015 by paying cash in an amount equal to the sum of (i) the stated value of the preferred stock, plus (ii) any accrued dividends thereon that have not accreted to the stated value through the date of redemption, plus (iii) such amount necessary to make the aggregate of all amounts paid with respect to such share of preferred stock equal to an internal rate of return of 30% per annum. We must give the holders of the preferred stock at least 30 days advance notice of our intent to redeem the preferred stock and we must honor any conversion of the preferred stock before the redemption date.
Liquidity and Capital Resources
We have historically experienced recurring operating losses and negative cash flows from operations and have maintained our financial position through strategic management of our resources, including the sale of equity securities, borrowings and debt instruments. At December 31, 2012, we had total cash and cash equivalents of approximately $0.6 million and working capital deficit of $12.8 million.
In July and August 2012, we entered into a Note Purchase and Security Agreements with certain lenders pursuant to which the Lenders purchased from the Company the Senior Notes in an aggregate principal amount of $4.0 million and five-year warrants to purchase shares of Company common stock. The Senior Notes accrue interest on the unpaid principal amount at a rate of 12% per annum, compounded quarterly. The Senior Notes are secured by a first priority security interest in substantially all of the Company's assets and are due in July and August 2014.
On July 30, 2012, the Company issued the Larsen Note to Jorgen Larsen, a director of the Company, in the amount of $2.5 million. The Larsen Note was issued by the Company in connection with the repayment of the outstanding amount of the Company’s $2.4 million loan from Bridge Bank (the “Bank Loan”) on July 31, 2012. The Larsen Note provides for an initial payment of $550,000, which we paid on August 1, 2012, a second payment of $171,500 at any time on or before December 31, 2012, which was not paid, and quarterly payments of an amount equal to 15% of the total of our consolidated earnings before interest, taxes, depreciation, amortization and stock compensation. We do not plan on paying these obligations until such time as our resources permit. The Larsen Note is subordinate to all existing and future bank indebtedness, as well as to the Notes, but is senior in right of repayment to all outstanding debt and equity held by the Company as of the date of the Larsen Note. The Larsen Note matures on July 31, 2016 and accrues interest on the unpaid principal amount at a rate of 12% per annum, paid quarterly. Upon any failure to pay any amounts due under the Larsen Note, all amounts outstanding under the Larsen Note will bear interest at a rate of 14%. We may redeem the Larsen Note at any time for an amount equal to the outstanding principal amount under the Larsen Note plus any accrued interest.
For the years ended December 31, 2012 and 2011, net losses from continuing operations were approximately $19.4 million and $9.0 million, respectively. For the fiscal year ended December 31, 2012, we had negative operating cash flows of $6.1 million. We anticipate we will continue to incur significant losses for the foreseeable future. Our ability to generate positive cash flows from operations and net income is dependent, among other things, on the acceptance of our products in the marketplace, market conditions, cost control, and our ability to raise capital on acceptable terms.
In connection with the Archer USA acquisition, on December 27, 2011, we issued $2.6 million of subordinated promissory notes to certain Archer USA debt holders. We are required to repay 30% of the outstanding principal amount of the subordinated notes on the each of the first and second anniversary of the date of issuance and the remainder of the principal amount on the third anniversary of the date of issuance. These notes are non-recourse and upon default the sole remedy is a default annual interest rate of 14%. We plan on repaying these notes when we have sufficient resources to satisfy these obligations.
In addition to our working capital deficit, as of December 31, 2012, we had $2.9 million of retention bonus obligations. Upon default amounts owed for these obligations accrue interest at an annual rate of 6%. We do not plan on paying these obligations until such time as our resources permit.
We may need to raise additional capital to fund our working capital requirements, capital expenditures and operations. Our ability to fund our capital needs will depend on many factors, including our future operating performance, our ability to successfully realign our costs and strategic path, the effect of any strategic and financing alternatives we may pursue, and our ability to meet financial covenants under current and any future indebtedness. Financing, if available, may be on terms that are significantly dilutive to our stockholders, and the prices at which investors would be willing to purchase our securities may be lower than the current price of our common stock. The holders of new securities may also receive rights, preferences or privileges that are senior to those of existing holders of our common stock. If new sources of financing are required but are insufficient or unavailable, we would be required to modify our growth and operating plans accordingly.
The uncertainties relating to our ability to successfully execute our 2013 operating plan, combined with our inability to implement further meaningful cost containment measures that do not jeopardize our growth plans and the difficult financing environment, raise substantial doubt about our ability to continue as a going concern. Our consolidated financial statements for the years ended December 31, 2012 and 2011 have been prepared assuming that we will continue as a going concern, which contemplates realization of assets and the satisfaction of liabilities in the normal course of business for a reasonable period following the date of such financial statements. The consolidated financial statements do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts and classifications of liabilities that could result should we be unable to continue as a going concern.
Revenue Generation
We generate revenues through the licensing of our messaging platform and the performance of services. Our mobile messaging licenses operate under a number of different contractual relationships and generate revenue from a number of different sources, including the following:
Managed Service contracts: Many of our customers pay us fixed monthly fees for the right to use our technology and services. We typically enter into 12 month contracts to provide mobile access gateways, back-end connectivity, MMS and SMS messaging connectivity, monitoring, quality assurance and support in exchange for a monthly retainer. Revenues from these arrangements are generally recognized ratably over the term of the contract. These services are accounted for as a single unit of accounting as they do not meet the criteria for segregation into multiple deliverable units for purposes of revenue recognition.
Program contracts: We enter into certain program contracts with customers, under which we provide a defined service for a fixed fee per transaction. For example, our Mobile Statement products are used by some of our customer to deliver monthly statements to the mobile phones to their respective subscribers or consumers. We typically earn a fixed fee for each statement sent to a mobile phone. Revenues from these contracts are recognized upon provision of such services.
Transaction fees: In certain instances, we earn revenues on a transaction basis. For example, under the terms of our agreements with wireless carriers and enterprises, we earn transaction fees when a wireless subscriber downloads content into a mobile phone via one of our servers. Transaction fees are recognized as revenue in the period in which the transaction giving rise to the fee occurs.
Licenses of mobile platform: We earn royalties from the license of our platform to wireless carriers and enterprises. Our platform is connected to the wireless carriers’ data centers, and we earn fees ratably over the time period that services are provided to the wireless carrier or on a per message charge, depending on the individual agreement with the wireless carrier. With agreements that are based on a period of time in which the wireless carrier utilized the platform, revenues from the licenses are generally recognized ratably over the term of the contract in which the platform will be utilized. For those wireless carriers that pay on a per message basis, we recognize revenue in the period in which the transaction giving rise to the revenue occurs.
Advisory and service fees: We earn consulting and service fees when enterprises hire us to assist in the design and execution of a mobile advertising campaign. We provide services from the initial conceptualization through the creation of the content, mobile website development, database design/development, and other related services to successfully implement the mobile campaign, including final product dissemination to consumers and measurement of success rates. Fees for these services are recognized as revenue when the services have been performed. Each of these services are priced, billed and recorded as revenue separately in the period in which the service is performed.
Operating Results
The discussion below pertains only to our results of operations on a consolidated basis for the periods presented. The period-to-period comparison of financial results is not necessarily indicative of future results.
Revenues.
For the year ended December 31, 2012, revenues were approximately $15.9 million compared to $9.5 million in 2011. The increase in revenue of $6.6 million in 2012 was primarily attributed to the acquisition of Archer USA and expansion of services to existing customers.
Cost of Sales.
Cost of sales are fees that we pay to wireless carriers and various wireless aggregators for messaging services It also includes third-party data center costs where we host our messaging platform. Certain third-party creative services related to our customers’ campaigns are also included. As our revenues increase and thus message volumes increase, we generally can negotiate improved message costs.
For the year ended December 31, 2012, cost of sales was $6.3 million compared to $3.1 million for the year ended December 31, 2011. The increase in cost of sales was primarily related to the increase in revenue associated with the acquisition of Archer USA.
Gross Profit.
For the year ended December 31, 2012, gross profit as a percentage of revenues was 60% compared to 68% for the year ended December 31, 2011. Our revenue mix in 2012 consisted of more SMS messaging than in 2011 as a result of the acquisition of Archer USA, which impacted margins negatively. Further, we do not pay messaging fees when our largest customer, Vodacom (Pty.) Ltd., utilizes our messaging products and services for its own use, which results in 100% gross profit when Vodacom is a customer. Revenue from Vodacom, as a customer, as a percentage of total revenue continued to decrease in 2012, resulting in a decrease in our overall 2012 gross profit. Gross profit varies depending on the change in product mix between the type of messaging and the wireless carrier network over which the messages are sent. As a result, period to period comparisons of our gross profit may not provide meaningful information concerning expected future trends.
Sales and Marketing Expenses.
Our sales and marketing expenses are marketing and promotional expenditures and include direct costs attributable to our sales and marketing activities, such as conference and seminar hosting and attendance, travel, entertainment and advertising expenses. In order to continue to grow our business, we expect to continue to commit resources to our sales and marketing efforts.
Sales and marketing expenses for the year ended December 31, 2012 were approximately $4.3 million compared to $1.0 million in 2011. Sales and marketing costs increased in 2012 due to increased sales personnel in the US, travel and marketing costs.
General and Administrative Expenses.
Our general and administrative, or G&A, expenses primarily consist of personnel costs for all employees, except those engaged in research and development and sales and marketing. Additional G&A expenses include consulting and professional fees and other corporate and travel expenses. We expect that our future G&A expenses will be comparable to 2012 levels.
G&A expenses for the year ended December 31, 2012 were approximately $7.2 million compared to $11.1 million for 2011. Our G&A expenses for 2012 decreased from prior year as a result of aggressive expense management. In 2011, we incurred higher legal and professional fees in connection with the acquisition of Archer USA and the disposition of Lenco Media and Lenco Multimedia. Also, in 2011, we incurred over $400,000 in costs related to international expansion of our mobile business in countries such as Mexico, Columbia and Singapore, which efforts were later abandoned as we refocused the business.
Research and Development.
Research and development, or R&D, expenses consist primarily of personnel-related expenses, including payroll expenses and engineering costs related principally to the design of new products and services. R&D expenses increased from $1.2 million in 2011 to $5.4 million in 2012 due primarily to significant additional personnel related to the Archer USA acquisition. We currently expect that our research and development costs in 2013 will be comparable to those in 2012.
Impairment Loss.
In December 2012, we completed an impairment review of all our property and equipment, intangible assets and goodwill. Based on this review, we determined that approximately $9.5 million of goodwill and intangible assets related to the purchase of Archer USA do not provide substantial, foreseeable value to the Company and thus were impaired and included in “Impairment Loss” for the year ended December 31, 2012.
Based on our review of long-lived assets in September, 2011, we determined approximately $0.9 million of intangibles were impaired and accordingly wrote off this amount. In conjunction with the discontinuance of Lenco Media and Lenco Multimedia in 2011, we determined that $17.9 million in intangibles and $12.8 million in goodwill were impaired and accordingly wrote off these amounts which are included in loss from discontinued operations.
Other Income (Expense).
In 2012, other income was primarily a result of forfeiture of retention bonus agreements of approximately $0.5 million.
In connection with the purchase of Archer South Africa in 2008, approximately $1.3 million was recorded as contingent purchase price consideration related to achieving certain milestones. Based on the milestones achieved by Archer South Africa, only a portion of the contingent purchase price was paid. We recognized contingent consideration adjustments of $0 and $0.4 million for the years ended December 31, 2012 and 2011, respectively.
Provision for Income Taxes.
For the years ended December 31, 2012 and 2011, we did not record any tax benefit for the income before tax losses incurred in the U.S., as we recorded a 100% valuation allowance on the potential benefit. If our U.S. operations achieve consistent profitability from a tax-reporting perspective we will record the tax benefits of U.S. pre-tax losses including any allowable tax benefit from historical losses. The income tax provision showing in the table above in 2012 and 2011 stemmed primarily from our international tax positions.
Loss from discontinued operations and loss on sale of discontinued operations.
In September 2011, we refocused our resources on our core mobile business. We discontinued our internet business in its entirety as of September 30, 2011, and on December 1, 2011, we and two of our wholly-owned subsidiaries, Lenco Media and Lenco Multimedia, entered into an asset purchase and sale agreement with MDMD Ventures, LLC and its wholly-owned subsidiary, RadioLoyalty, Inc., pursuant to which we sold certain assets and assigned certain liabilities that comprised our broadcast media business to RadioLoyalty. Operating results for Lenco Media and Lenco Multimedia have been presented as “Loss from discontinued operations” for the year ended December 31, 2011.
Preferred stock dividend and accretion of beneficial conversion feature.
We determined that the Series A Preferred Stock issued in September 2010 contained an embedded beneficial conversion feature and we recorded a preferred stock discount of $10.0 million which will be treated as a deemed dividend and amortized over 24 months to accumulated deficit. In addition, the holders of the Series A Preferred Stock are entitled to cumulative dividends at the rate per share (as a percentage of the stated value per share) of 6.0% per annum. For the years ended December 31, 2012 and 2011, we amortized approximately $3.9 million and $5.3 million, respectively, as accretion of the beneficial conversion feature. In addition, for the years ended December 31, 2012 and 2011, we recorded dividends of approximately $1.1 and $0.7 million, respectively, for the dividends payable to holders of the Series A Preferred Stock.
Net loss attributable to the Company.
For the year ended December 31, 2012 and 2011, net loss attributable to the Company was $19.4 million and $30.0 million, respectively.
Off-Balance Sheet Arrangements
As of December 31, 2012, we did not have any off-balance sheet arrangements that have or are reasonably likely to have current or future effect on our financial condition, revenues or expenses, results of operations, liquidity or capital resources that are material to investors. In accordance with our normal business practices, we indemnify our officers and directors. We also have contractual indemnification obligations to our customers relating to third-party content and operating systems that we provide to our customers.
Recent Accounting Pronouncements
In September 2011, the Financial Accounting Standards Board (“FASB”) issued guidance that revises the requirements around how entities test goodwill for impairment. The guidance allows companies to perform a qualitative assessment before calculating the fair value of the reporting unit. If entities determine, on the basis of qualitative factors, that the fair value of the reporting unit is more likely than not greater than the carrying amount, a quantitative calculation would not be needed. We adopted this guidance effective for our 2012 annual goodwill impairment test. The adoption of this guidance changed how we performed our goodwill impairment assessment.
Critical Accounting Policies and Estimates
Our discussion and analysis of our financial condition and results of operations is based upon the consolidated financial statements accompanying this report, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these consolidated financial statements requires us to make certain assumptions and estimates about future events, and apply judgments that affect the reported amount of assets and liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities at the date of our consolidated financial statements. We base our assumptions, estimates, and judgment on historical experience, current trends and other factors which management believes to be relevant and appropriate at the time our consolidated financial statements are prepared. On a regular basis, management reviews its assumptions, estimates, and judgments to ensure that our consolidated financial statements are presented fairly. However, because future events cannot be determined with certainty, actual results may differ from our assumptions and estimates, and such differences could be material.
Our significant accounting policies are summarized in Note 1 - "Organization and Significant Accounting Policies" of the Notes to the Consolidated Financial Statements included in Item 8 of this report. Management identifies its most critical accounting policies as those that are the most pervasive and important to the portrayal of our financial position and results of operations, and that require the most difficult, subjective and/or complex judgments by management regarding estimates that are inherently uncertain.
Currency Conversion. The business of our mobile services and solutions segment has historically been conducted in the South African Rand. All assets and liabilities are translated from foreign currencies into U.S. dollars at the exchange rates prevailing at the balance sheet dates, and all income and expenditure items are translated at the average rates for each of the periods presented.
Revenue Recognition. We generate revenue from a variety of transactions, including retainers, program contracts, transaction fees, licenses of mobile platforms, and advisory and service fees. See the discussion under “Revenue Generation” above. Revenue recognition varies depending on the type of transaction, and may involve recognizing revenues over the term of a contract in the period in which services are performed or at the time a transaction occurs, to ensure revenue recognition for multiple deliverables is accounted for appropriately in our financial statements. Because a significant portion of our sales may be tied to large advertising campaigns ordered from time to time, the timing of when the revenue is recognized may have a significant impact on results of operations for any quarterly or annual period.
Accounts Receivable and Allowance for Doubtful Accounts. Management exercises its judgment in establishing allowances for doubtful accounts receivable. This judgment is based on historical write-off percentages and information collected from individual customers. We have traditionally experienced high customer concentration, resulting in large accounts receivable from individual customers. The determination of the creditworthiness of these customers and whether or not an allowance is appropriate could have a significant impact on our results of operations for any quarter.
Goodwill impairment. We review our goodwill for impairment annually in the fourth quarter at the reporting unit level. We also analyze whether any indicators of impairment exist each quarter. A significant amount of judgment is involved in determining if an indicator of impairment has occurred. Such indicators may include a sustained, significant decline in our share price and market capitalization, a decline in our expected future cash flows, a significant adverse change in legal factors or in the business climate, unanticipated competition, the testing for recoverability of our long-lived assets, and/or slower growth rates, among others
Contingencies. At any time, we may be involved in legal proceedings or other claims and assessments arising in the normal course of business. Our policy is to routinely assess the likelihood of any adverse judgments or outcomes related to these matters, as well as ranges of probable losses. A determination of the amount of the reserves required, if any, for these contingencies is based on historical experience and/or after analysis of each known issue. We record reserves related to those matters for which it is probable that a loss has been incurred and the range of such loss can be estimated. With respect to other matters, management has concluded that a loss is only reasonably possible or remote and, therefore, no liability is recorded. Management discloses the facts regarding material matters assessed as reasonably possible and potential exposure, if determinable. Costs incurred defending claims are expensed as incurred.
Item 7A.
Item 7A. Quantitative and Qualitative Disclosure About Market Risk.
Not applicable.
Item 8.
Item 8. Financial Statements and Supplementary Data.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders
Lenco Mobile Inc.
Seattle, Washington
We have audited the accompanying consolidated balance sheets of Lenco Mobile Inc. ("the Company") as of December 31, 2012 and 2011, and the related consolidated statements of operations, comprehensive loss, shareholders' equity, and cash flows for the years then ended. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. The Company has determined that it is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting as of December 31, 2012. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Lenco Mobile Inc. as of December 31, 2012 and 2011, and the results of its operations and its cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States.
The accompanying consolidated financial statements have been prepared assuming the Company will continue as a going concern. As discussed in Note 1 to the consolidated financial statements, the Company has experienced recurring losses from operations and negative cash flows from operating activities. These conditions raise substantial doubt about the Company's ability to continue as a going concern. Management's plans regarding these matters are also described in Note 1. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.
/S/ PETERSON SULLIVAN LLP
Seattle, Washington
April 2, 2013
Lenco Mobile Inc.
and its Subsidiaries
Consolidated Balance Sheets
The accompanying notes are an integral part of these consolidated financial statements.
Lenco Mobile Inc.
and its Subsidiaries
Consolidated Statements of Operations
The accompanying notes are an integral part of these consolidated financial statements.
Lenco Mobile Inc.
and its Subsidiaries
Statements of Comprehensive Loss
The accompanying notes are an integral part of these consolidated financial statements.
Lenco Mobile Inc.
and its Subsidiaries
Consolidated Statement of Shareholders Equity
For the Years Ended December 31, 2012 and 2011
The accompanying notes are an integral part of these consolidated financial statements
Lenco Mobile Inc. and its Subsidiaries
Consolidated Statements of Cash Flows
The accompanying notes are an integral part of these consolidated financial statements
Lenco Mobile Inc.
Notes to Consolidated Financial Statements
For Years Ended December 31, 2012 and
NOTE 1 - ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES
Organization and Nature of Business
We are a global provider of proprietary mobile messaging and mobile web solutions to large enterprises and marketing agencies. Historically, our core operations have been conducted in South Africa through our subsidiary, Archer Mobile South Africa Ltd., (formerly Capital Supreme (Pty) Ltd.) (“Archer South Africa”). In December 2011, we acquired iLoop Mobile Inc. (since renamed Archer USA Inc.) (“Archer USA”), a U.S. based mobile marketing platform and services provider. Our strategy is to focus on selling our mobile solutions to large enterprises worldwide. We are an early stage business in a rapidly changing mobile messaging and mobile web industry, having been engaged in the mobile industry since early 2008.
We were incorporated in 1999 in Delaware under the name of Shochet Holdings Corporation. Prior to 2008, Shochet Holdings Corporation completed an initial public offering, underwent several changes of control and was engaged in several different businesses, which included discount brokerage, financial services, mortgage banking and apparel; ultimately we were operating as a shell company seeking a combination with another operating company. The shell company and its predecessors had generated losses of approximately $15.8 million which are reflected in our accumulated deficit.
From March 1, 2009 until September 2011, we managed our business in two operating segments: (i) mobile services and solutions and (ii) broadcast media and internet. In September 2011, we discontinued our broadcast media and internet segment and it is presented as discontinued operations. As a result, we do not separately disclose segment information. A segment is determined primarily by the method in which it delivers its products and services.
Basis of Presentation and Principals of Consolidation
The consolidated financial statements include the accounts of the Company and our wholly-owned subsidiaries. Intercompany balances and transactions have been eliminated upon consolidation.
Reclassifications
Certain amounts for prior periods have been reclassified in the consolidated financial statements to conform to the classification used in fiscal year 2012.
Liquidity
We have historically experienced recurring operating losses and negative cash flows from operations and have maintained our financial position through strategic management of our resources, including the sale of equity securities, borrowings and debt instruments. At December 31, 2012, we had total cash and cash equivalents of approximately $0.6 million and working capital deficit of $12.8 million. As further discussed in Note 9, we entered into a Note Purchase and Security Agreement in July and August 2012 by and among the Company and certain lenders pursuant to which the Lenders purchased from the Company Senior Secured Promissory Notes (the "Senior Notes") in an aggregate principal amount of $4.0 million and five-year warrants to purchase shares of Company common stock. On July 30, 2012, the Company issued a promissory note to Jorgen Larsen, a director of the Company, in the amount of $2.5 million (the "Larsen Note"). The Larsen Note was issued by the Company in connection with the repayment of the outstanding amount of the Company’s $2.4 million loan from Bridge Bank (the “Bank Loan”) on July 31, 2012.
The Larsen Note provides for an initial payment of $550,000, which we paid on August 1, 2012, a second payment of $171,500 at any time on or before December 31, 2012, which was not paid, and quarterly payments of an amount equal to 15% of the total of our consolidated earnings before interest, taxes, depreciation, amortization and stock compensation. We do not plan on paying these obligations until such time as our resources permit. The Larsen Note is subordinate to all existing and future bank indebtedness, as well as to the Notes, but is senior in right of repayment to all outstanding debt and equity held by the Company as of the date of the Larsen Note. The Larsen Note matures on July 31, 2016 and accrues interest on the unpaid principal amount at a rate of 12% per annum, paid quarterly. Upon any failure to pay any amounts due under the Larsen Note, all amounts outstanding under the Larsen Note will bear interest at a rate of 14%. We may redeem the Larsen Note at any time for an amount equal to the outstanding principal amount under the Larsen Note plus any accrued interest.
For the years ended December 31, 2012 and 2011, net losses from continuing operations were approximately $19.4 million, and $9.0 million, respectively. For the fiscal year ended December 31, 2012, we had negative operating cash flows of $6.1 million. We anticipate we will continue to incur significant losses for the foreseeable future. Our ability to generate positive cash flows from operations and net income is dependent, among other things, on the acceptance of our products in the marketplace, market conditions, cost control, and our ability to raise capital on acceptable terms.
In connection with the Archer USA acquisition, on December 27, 2011, we issued $2.6 million of subordinated promissory notes to certain Archer USA debt holders. We are required to repay 30% of the outstanding principal amount of the subordinated notes on the each of the first and second anniversary of the date of issuance and the remainder of the principal amount on the third anniversary of the date of issuance. We did not make the first payment due on December 27, 2012. These notes are non-recourse and upon default the sole remedy is a default annual interest rate of 14%. We plan on repaying these notes when we have sufficient resources to satisfy these obligations.
In addition to our working capital deficit, as of December 31, 2012, we had $2.9 million of retention bonus obligations. The agreements state that upon non-payment interest accrues at an annual rate of 6%. We do not plan on paying these obligations until such time as our resources permit.
We will need to raise additional capital to fund our working capital requirements, capital expenditures and operations. Our ability to fund our capital needs will depend on many factors, including our future operating performance, our ability to successfully realign our costs and strategic path, the effect of any strategic and financing alternatives we may pursue, and our ability to meet financial covenants under current and any future indebtedness. Financing, if available, may be on terms that are significantly dilutive to our stockholders, and the prices at which investors would be willing to purchase our securities may be lower than the current price of our common stock. The holders of new securities may also receive rights, preferences or privileges that are senior to those of existing holders of our common stock. If new sources of financing are required but are insufficient or unavailable, we would be required to modify our growth and operating plans accordingly.
The uncertainties relating to our ability to successfully execute our 2013 operating plan, combined with our inability to implement further meaningful cost containment measures that do not jeopardize our growth plans and the difficult financing environment, raise substantial doubt about our ability to continue as a going concern. Our consolidated financial statements for the years ended December 31, 2012 and 2011 have been prepared assuming that we will continue as a going concern, which contemplates realization of assets and the satisfaction of liabilities in the normal course of business for a reasonable period following the date of such financial statements. These financial statements do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts and classifications of liabilities that could result should we be unable to continue as a going concern.
Foreign Currency Translation
Our financial statements are presented in United States Dollars (“USD” or “$”). All subsidiary operations that utilize a functional currency other than USD are translated from local currencies used into USD. Accordingly, all assets and liabilities are translated at the exchange rates prevailing at the balance sheet dates and all income and expenditure items are translated at the average rates for each of the periods presented. To the extent that transactions occur regularly throughout the year, they are translated at the average rate of exchange for the year since this is deemed to provide a good approximation of the actual exchange rates at which those transactions occurred. The symbol “R” when used before all the amounts in these consolidated financial statements and related footnotes signifies a denomination of South African Rand.
Noncontrolling Interest
The Company follows ASC topic 810, “Consolidation,” which establishes standards governing the accounting for and reporting of noncontrolling interests (NCIs) in partially-owned consolidated subsidiaries and the loss of control of subsidiaries. Certain provisions of this topic indicate, among other things, that NCIs be treated as a separate component of equity, not as a liability, that increases and decreases in the parent’s ownership interest that leave control intact be treated as equity transactions rather than as step acquisitions or dilution gains or losses, and that losses of a partially owned consolidated subsidiary be allocated to the NCI even when such allocation might result in a deficit balance. This topic also required changes to certain presentation and disclosure requirements.
Net income (loss) attributed to the non-controlling interest (NCI) is separately designated in the accompanying consolidated statements of operations and comprehensive loss. Losses attributable to the NCI in a subsidiary may exceed the NCI’s interests in the subsidiary’s equity. The excess attributable to the NCI is attributed to those interests. The NCI shall continue to be attributed its share of losses even if that attribution results in a deficit NCI balance.
Discontinued Operations
We reclassify, from continuing operations to discontinued operations, for all periods presented, the results of operations for any component either held for sale or disposed of. We define a component as being distinguishable from the rest of our reportable segment, an operating segment, a reporting unit, a subsidiary, or an asset group. Such reclassifications had no effect on our net loss or shareholders equity.
Cash and Cash Equivalents
We consider all highly liquid instruments purchased with an original maturity of three months or less as cash equivalents.
Accounts Receivable
We extend credit based on an evaluation of a customer’s financial condition and payment history. Significant management judgment is required to determine the allowance for doubtful accounts. Management determines the adequacy of the allowance based on historical write-off percentages and information collected from individual customers. Accounts receivable are charged off against the allowance when collectability is determined to be permanently impaired. At December 31, 2012 and December 31, 2011, the allowance for doubtful accounts was approximately $230,000 and $99,000, respectively.
Property and Equipment
Property and equipment is stated at cost less accumulated depreciation. Repairs and maintenance are charged to operations as incurred. Property and equipment is depreciated on a straight-line basis over the estimated useful lives of the related assets, as follows:
Furniture and fixtures 5-6 years
IT equipment 3 years
Computer software 2-5 years
Leasehold improvements Shorter of useful life or life of the lease
Impairment of Long-Lived Assets
We apply the provisions of ASC Topic 360, “Property, Plant, and Equipment,” which addresses financial accounting and reporting for the impairment or disposal of long-lived assets. We evaluate the recoverability of long-lived assets if circumstances indicate impairment may have occurred. This analysis is performed by comparing the respective carrying values of the assets to the current and expected future cash flows, on an undiscounted basis, to be generated from such assets. ASC topic 360 requires impairment losses to be recorded on long-lived assets used in operations when indicators of impairment are present and the undiscounted cash flows estimated to be generated by those assets are less than the assets’ carrying amounts. In that event, a loss is recognized based on the amount by which the carrying amount exceeds the fair value of the long-lived assets. Loss on long-lived assets to be disposed of is determined in a similar manner, except that fair values are reduced for the cost of disposal.
The Company performed an annual impairment test for goodwill and intangible assets with indefinite lives. Qualitative factors were reviewed to determine whether it is was more likely than not that the fair value of a reporting unit is less than its carrying amount, including goodwill. Based on this qualitative review, the Company determined that it was more likely than not intangible assets exceeded the fair market value.
Goodwill and intangibles with a carrying amount of $31.9 million were written down to their implied fair value of $22.4 million resulting in an impairment charge of $9.5 million. The Company utilized the the income approach based upon a debt-free discounted net income /cashflow analysis approach to determine the fair market value of the reporting unit.
Based on our review of long-lived assets in September 2011, we determined approximately $0.9 million of intangibles were impaired and accordingly wrote off this amount. In conjunction with the discontinuance of Lenco Media and Lenco Multimedia in 2011, we determined that $17.9 million in intangibles and $12.8 million in goodwill were impaired and accordingly wrote off these amounts which are included in loss from discontinued operations.
Research and Development
Research and development expenses consist of direct expenses and are expensed as incurred. As of December 31, 2012, our research and development organization consisted of 38 employees, including 8 in South Africa, 25 in Poland and 5 in North America. We incurred $5.4 million and $1.2 million related to research and development for the years ended December 31, 2012 and 2011, respectively.
Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting periods. Our most significant estimates include forecasts supporting the going concern assumption and related disclosures, and the valuation of intangible assets and goodwill. Actual results could differ from these estimates.
Revenue Recognition
Revenue is recognized net of indirect taxes, rebates, chargebacks and trade discounts and consists primarily of the sale transactional marketing services and advisory services rendered. We generate revenue primarily from per transaction fees, retainers, advisory and service fees and to a lesser extent license fees. Revenue recognition varies depending on the type of transaction, and may involve recognizing revenues over the term of a contract, a period in which services are performed, at the time a transaction is performed or for licensing transactions.
Revenue is recognized when the following criteria are met:
- When persuasive evidence of an arrangement exists. Contracts and customer purchase orders are generally used to determine the existence of an arrangement.
- Delivery has occurred or services have been rendered and the significant risks and rewards of ownership have been transferred to the purchaser. Completion of services or delivery of messages to mobile phone subscribers on behalf of our customers are the general components of delivery in our business.
- The selling price is fixed or determinable. We assess whether the selling price is fixed or determinable based on the payment terms associated with the transaction and whether the sales price is subject to refund or adjustment.
- Collectability is reasonably assured. We assess collectability based primarily on the creditworthiness of the customer as determined by credit checks and analysis, as well as the customers’ payment history.
We generate revenues through the licensing of our messaging platform and the performance of services. Our mobile messaging licenses operate under a number of different contractual relationships and generate revenue from a number of different sources, including the following:
- Managed Service contracts: Many of our customers pay us fixed monthly fees for the right to use our technology and services. We typically enter into 12 month contracts to provide mobile access gateways, back-end connectivity, MMS and SMS messaging connectivity, monitoring, quality assurance and support in exchange for a monthly retainer. Revenues from these arrangements are generally recognized ratably over the term of the contract. These services are accounted for as a single unit of accounting as they do not meet the criteria for segregation into multiple deliverable units for purposes of revenue recognition.
- Program contracts: We enter into certain program contracts with customers, under which we provide a defined service for a fixed fee per transaction. For example, our Mobile Statement products are used by some of our customer to deliver monthly statements to the mobile phones to their respective subscribers or consumers. We earn a fixed fee for each statement sent to a mobile phone. Revenues from these contracts are recognized upon provision of such services.
- Transaction fees: In certain instances, we earn revenues on a transaction basis. For example, under the terms of our agreements with wireless carriers and enterprises, we earn transaction fees when a wireless subscriber downloads content into a mobile phone via one of our servers. Transaction fees are recognized as revenue in the period in which the transaction giving rise to the fee occurs.
- Licenses of mobile platform: We earn royalties from the license of our platform to wireless carriers and enterprises. Our platform is connected to the wireless carriers’ data centers, and we earn fees ratably over the time period that services are provided to the wireless carrier or on a per message charge, depending on the individual agreement with the wireless carrier. With agreements that are based on a period of time in which the wireless carrier utilized the platform, revenues from the licenses are generally recognized ratably over the term of the contract in which the platform will be utilized. For those wireless carriers that pay on a per message basis, we recognize revenue in the period in which the transaction giving rise to the revenue occurs.
- Advisory and service fees: We earn consulting and service fees when enterprises hire us to assist in the design and execution of a mobile advertising campaign. We provide services from the initial conceptualization through the creation of the content, mobile website development, database design/development, and other related services to successfully implement the mobile campaign, including final product dissemination to consumers and measurement of success rates. Each of these services are priced, billed and recorded as revenue separately in the period in which the service is performed.
Stock Based Compensation
We record stock-based compensation in accordance with ASC Topic 718, “Compensation - Stock Compensation” which requires companies to measure compensation cost for stock-based employee compensation at fair value at the grant date and recognize the expense over the employee’s requisite service period.
Fair Value Measurement
ASC Topic 820, “Fair Value Measurements and Disclosures,” requires disclosure of the fair value of financial instruments held by the Company. ASC 820 defines a three-tier value hierarchy that prioritizes the inputs used in the valuation methodologies in measuring fair-value.
- Level 1 - Include observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets.
- Level 2 - Include other inputs that are either directly or indirectly observable in the market place.
- Level 3 - Include unobservable inputs which are supported by little or no market activity.
Fair Value of Financial Instruments
The carrying values of our cash and cash equivalents, accounts receivable, accounts payable, accrued liabilities and short-term debt approximate their fair values due to their short maturities. The carrying values of our long-term liabilities approximate their fair values based on current rates of interest for instruments with similar characteristics.
Business Combinations
We apply ASC topic 805 to account for acquisitions of businesses. The cost of an acquisition is measured as the aggregate of the fair values at the date of the change of control, of the consideration transferred, liabilities incurred and equity instruments issued. Identifiable intangible assets, liabilities and contingent liabilities acquired or assumed are measured separately at their fair value as of the acquisition date. The excess of the cost of the acquisition over the fair value of the identifiable net assets acquired is recorded as goodwill.
The determination of fair values for the identifiable assets acquired and liabilities assumed is based on various assumptions and valuation methodologies requiring considerable management judgment. The most significant variables in these valuations are discount rates, terminal values, the number of years on which to base the cash flow projections, as well as the assumptions and estimates used to determine the cash inflows and outflows.
Concentration of Credit Risk
Financial instruments, which potentially subject us to concentrations of credit risk, consist of cash and cash equivalents and accounts receivable. We extend credit based on an evaluation of the customer’s financial condition, usually on an unsecured basis. Exposure to losses on receivables is principally dependent on each customer’s financial condition. We monitor our exposure for credit losses and maintain allowances for anticipated losses, as required.
Advertising Costs
Advertising costs are expensed as incurred and totaled approximately $0.1 million and $0.2 million for the years ended December 31, 2012 and 2011, respectively.
Income Taxes
We account for income taxes in accordance with ASC Topic 740, “Income Taxes.” Under ASC 740, deferred income taxes are recognized for the tax consequences in future years of differences between the tax basis of assets and liabilities and their financial statement reported amounts at each period end, based on enacted tax laws and statutory tax rates applicable to the periods in which the differences are expected to affect taxable income. Valuation allowances are established, when necessary, to reduce deferred tax assets to the amount expected to be realized. The provision for income taxes represents the tax expense for the period, if any, and the change during the period in deferred tax assets and liabilities.
Under ASC topic 740, a tax position is recognized as a benefit only if it is “more likely than not” that the tax position would be sustained in a tax examination, with a tax examination being presumed to occur. The evaluation of a tax position is a two-step process. The first step is to determine whether it is more-likely-than-not that a tax position will be sustained upon examination, including the resolution of any related appeals or litigation based on the technical merits of that position. The second step is to measure a tax position that meets the more-likely-than-not threshold to determine the amount of benefit to be recognized in the financial statements. A tax position is measured at the largest amount of benefit that is greater than 50 percent likely of being realized upon ultimate settlement. Tax positions that previously failed to meet the more-likely-than-not recognition threshold will be recognized in the first subsequent period in which the threshold is met. Previously recognized tax positions that no longer meet the more-likely-than-not criteria will be de-recognized in the first subsequent financial reporting period in which the threshold is no longer met. The Company does not believe that it has any uncertain tax positions. As of December 31, 2012, the open tax years of the Company were 2008 to 2012.
Earnings (loss) per Share
We calculate earnings per share in accordance with the ASC Topic 260-10, “Earnings Per Share.” Basic earnings (loss) per share is computed by dividing earnings (loss) available to common stockholders by the weighted-average number of common stock outstanding. Diluted earnings (loss) per share is computed similar to basic earnings (loss) per share except that the denominator is increased to include additional common stock available upon exercise of stock options and warrants using the treasury stock method, except for periods of operating loss for which no common share equivalents are included because their effect would be anti-dilutive. Dilution is computed by applying the treasury stock method. Under this method, warrants and options 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.
As of December 31, 2012 there were outstanding warrants to purchase up to 13,338,166 shares of common stock, stock options to purchase up to 43,535,000 shares of common stock, 174,229 shares of convertible Series A Preferred Stock which would convert to 80,701,218 shares of common stock, 87,717 shares of convertible Series B1 Preferred Stock which would convert to 35,892,209 shares of common stock and 58,131 shares of convertible Series B2 Preferred Stock which would convert to 14,968,733 shares of common stock. All potentially dilutive securities were excluded from the computation of earnings per share because the effect of including them would have been anti-dilutive due to the net losses incurred.
As of December 31, 2011 there were 1,394,166 warrants, 10,438, 200 stock options, 161,752 shares of convertible Series A Preferred Stock which would convert to 80,876,000 shares of common stock, 87,717 share of convertible Series B1 Preferred Stock which would convert to 35,086,800 shares of common stock and 58,131 shares of convertible Series B2 Preferred Stock which would convert to 14,532,750 shares of common stock. All potentially dilutive securities were excluded from the computation of earnings per share because the effect of including them would have been anti-dilutive due to the net losses incurred.
NOTE 2 - DISCONTINUED OPERATIONS
In September 2011, we refocused our resources on our core mobile business and began pursuing alternatives to divest our broadcast media and internet operations. We discontinued our internet business in its entirety as of September 30, 2011. On December 1, 2011, we and two of our wholly-owned subsidiaries, Lenco Media and Lenco Multimedia, entered into an asset purchase and sale agreement with MDMD Ventures, LLC and its wholly-owned subsidiary, RadioLoyalty, Inc., pursuant to which we sold certain assets and assigned certain liabilities that comprised our broadcast media business to RadioLoyalty. Michael Hill, our former chief strategy officer, is the principal beneficial owner of MDMD Ventures. RadioLoyalty assumed substantially all of our ongoing contracts and other obligations related to the business and agreed to pay up to $2.5 million in cash. The cash portion of the purchase price is payable in monthly installments on the basis of 3.5% of the revenue recognized by RadioLoyalty during the period commencing on November 1, 2011 and ending on November 1, 2014, subject to the maximum of $2.5 million. As of December 31, 2012 we had received no cash compensation for the sale. The asset purchase agreement includes representations, warranties and covenants by each of the parties to the agreement that are customary for an asset sale of this kind. We agreed to indemnify MDMD Ventures and RadioLoyalty for, among other things, any breach or inaccuracy of any the representations, warranties or covenants in the asset purchase agreement. Our maximum indemnification obligation under the asset purchase agreement is $3.0 million, expires 18 months from the purchase date and payment is conditional on the other party making a claim pursuant to the procedures specified in the purchase agreement. We have not recorded a liability for this indemnification. From our Internet business we had a loss from discontinued operations of $5.3 million in the year ended December 31, 2011. We recorded a loss on sale of discontinued operations of $28.0 million in 2011 which was comprised of impairment loss of $17.9 million in intangibles and $12.8 million in goodwill, a gain on the assumption by the purchaser of $0.8 million in accounts payable and accrued liabilities and a deferred tax benefit of $1.9 million.
We had calculated remaining contingent consideration obligation of approximately $12.3 million, related to the acquisition of Jetcast, Inc. in September 2010. In 2011, we remeasured this contingency in accordance with ASC Topic 805-10 “Business Combinations” and determined that the revenue targets would not be met by the measurement date of March 31, 2012. As such, it was determined that no further contingent liability was required. Accordingly, we recorded an adjustment to the contingent consideration and recorded a gain on contingent consideration of discontinued operations for $12.3 million in 2011.
With the discontinuance of our broadcast media and internet operations segment, our mobile services and solutions segment represents our sole continuing reportable segment. The corresponding items of segment information for earlier periods have not been restated. Instead, the financial position and results for the broadcast media and internet operations segment are presented as discontinued operations in the accompanying consolidated financial statements. Accordingly, operating results for Lenco Media and Lenco Multimedia have been presented in the accompanying consolidated statement of operations for 2011 as discontinued operations.
NOTE 3 - ACCOUNTS RECEIVABLE, NET AND CONCENTRATIONS
Accounts receivable, net consisted of the following:
One customer in 2012, First National Bank Ltd represents an account receivable balance of 16% of gross accounts receivable at December 31, 2012. Approximately 51% of gross accounts receivable at December 31, 2011 were from three customers.
Our customers are large enterprises, including financial institutions, consumer brands, retailers and health care providers, as well as marketing agencies. Historically, our core operations predominately have been conducted in South Africa. In 2012 and 2011, approximately 68% and 100% of our revenues from continuing operations were generated in South Africa. Three customers in South Africa accounted for approximately 29% of our revenue from continuing operations in 2012 and 47% of our revenue from continuing operations in 2011. We depend on a limited number of customers for a substantial portion of our revenues. The loss of a key customer or any significant adverse change in the size or terms of a contract with a key customer could significantly reduce our revenues. We have month-to-month purchase order agreements with these customers.
NOTE 4 - PROPERTY AND EQUIPMENT
Property and equipment, net consisted of the following:
Depreciation expense was $0.3 million and $0.1 million for the year ended December 31, 2012 and 2011, respectively.
NOTE 5 - BUSINESS ACQUISITIONS
On December 27, 2011, we acquired iLoop Mobile, Inc., subsequently renamed Archer USA Inc., a U.S. based mobile marketing platform and services provider. Consideration consisted of 10,742,986 unregistered shares of common stock, 87,717 shares of Series B1 convertible preferred stock, 58,131 shares of Series B2 convertible preferred stock, the assumption of outstanding options to purchase 4,035,045 shares of common stock, and the assumption of approximately $12.9 million in existing Archer USA liabilities. Total purchase consideration was valued at $28.2 million. The fair value of common stock of $0.5 million was valued after determining an appropriate discount for lack of marketability. The fair value of Series B1 and B2 preferred stock was determined to be $8.8 million and $5.8 million, respectively. The fair value of the options assumed of $0.3 million was calculated utilizing the Black-Scholes model.
No revenue related to Archer USA was included in our consolidated statements of operations for 2011. The 2011 net loss was approximately $0.1 million. We incurred approximately $0.8 million in legal and accounting-related costs related to the acquisition that were expensed as incurred in 2011.
The fair value of the intangible assets was estimated using a discounted cash flow approach with Level 3 inputs. Under this method, an intangible asset's fair value is equal to the present value of the incremental after-tax cash flows (excess earnings) attributable solely to the intangible asset over its remaining useful life. To calculate fair value, we used risk-adjusted cash flows discounted at rates considered appropriate given the inherent risks associated with each type of asset. We believe the level and timing of cash flows appropriately reflect market participant assumptions.
The goodwill recognized was attributable primarily to the expected synergies associated with leveraging our technologies into Archer USA’s customer base and market presence in the U.S. It is expected that goodwill will not be tax deductible.
The value of the major classes of assets and liabilities assumed in the December 27, 2011 acquisition were as follows as of the acquisition date and the measurement date of December 31, 2011 prior to recording any amortization:
Intangible assets including estimated amortization period:
NOTE 6 - GOODWILL
Goodwill represents the excess of the purchase price of businesses over the fair value of the identifiable net assets acquired. In accordance with ASC 350-20 “Intangibles - Goodwill and Other”, goodwill and other indefinite life intangible assets are tested for impairment at least annually. The impairment test for goodwill uses a two-step approach, which is performed at the reporting unit level. Step one compares the fair value of the reporting unit (calculated using a discounted cash flow method) to its carrying value. If the carrying value exceeds the fair value, there is a potential impairment and step two must be performed. Step two compares the carrying value of the reporting unit’s goodwill to its implied fair value (i.e., fair value of the reporting unit less the fair value of the unit’s assets and liabilities, including identifiable intangible assets). If the carrying value of goodwill exceeds its implied fair value, the excess is required to be recorded as an impairment charge.
We perform the goodwill impairment test annually in the fourth quarter or when indicators of impairment are present. Goodwill and intangibles with a carrying amount of $31.9 million was written down to its implied fair value of $22.4 million resulting in an impairment charge of $9.5 million. The Company utilized the the income approach based upon a debt-free discounted net income /cashflow analysis approach to determine the fair market value of the reporting unit. The net carrying value of goodwill was approximately $15.0 million and $24.0 million at December 31, 2012 and 2011, respectively, which was comprised of the following:
NOTE 7- INTANGIBLES - OTHER, NET
The changes in carrying amount of intangible assets for the years ended December 31, 2012 and December 31, 2011 were as follows:
Amortization expense for the years ended December 31, 2012 and December 31, 2011 was approximately $1,500,000 and $942,000, respectively.
Estimated aggregate amortization expense for each of the next six fiscal years is:
NOTE 8 - ACCOUNTS PAYABLE AND ACCRUED EXPENSES
Accounts payable and accrued expenses were comprised of the following:
Approximately 41% and 39% of accounts payable at December 31, 2012 and 2011, respectively, are due to two vendors. In 2012, two Vendors represented approximately 39% of our cost of sales.
NOTE 9 - DEBT
Our debt is comprised of the following:
Our future debt payments are $1,789, $4,360, $22 and $1,875 in 2013, 2014, 2015 and 2016, respectively.
Capital Lease Obligations
During 2012, we entered into two capital lease obligations that expire in 2015 and bear interest at 9.8% and 10.3%. During 2010, we entered into two capital lease obligations that expire in various years through 2013 and bear interest at 11.0% and 11.5%. The assets and liabilities under these capital leases are recorded at the lower of the present value of the minimum lease payments or the fair value of the asset. The assets are depreciated over the lower of their related lease terms or their estimated productive lives. Amortization (or depreciation) of assets under capital leases is included in depreciation expense for 2012 and 2011.
Depreciation on assets under capital leases charged to expense for the year ended December 31, 2012 and 2011 was approximately $22,000 and $68,000, respectively.
Following is a summary of property held under capital leases:
The following table summarizes our capital lease obligations:
The future minimum lease payments are summarized below:
Our future obligations under operating leases are $411, $172, $156, $166, and $134 for 2013, 2014, 2015, 2016 and 2017, respectively.
NOTE 10 - COMMITMENTS AND CONTINGENCIES
Retention Bonus Obligations
Retention bonus obligations of $2.9 million and $4.1 million as of December 31, 2012 and December 31, 2011, respectively, were issued to certain employees in conjunction with the acquisition of Archer USA. The agreements state that upon breach they shall accrue interest at an annual rate of 6%. We do not plan on paying these obligations until such time as our resources permit. In December 2012, pursuant to retention bonus agreements, certain officers and employees of the Company elected to convert a portion of their retention bonus agreements into Series A Preferred Stock. Based on their election, 2,817 shares of Series A Preferred stock were issued in exchange for reducing retention bonus amounts by an aggregate amount of approximately $0.5 million.
Contingencies Related to Historical Operations
We were incorporated in 1999 and became engaged in business in the mobile industry in early 2008. Between 1999 and 2008, we were engaged in different lines of business including discount brokerage and financial services, mortgage banking, and apparel. Current management was not involved with the Company prior to early 2008. There may be risks and liabilities resulting from the conduct of the Company’s business prior to February 2008 that are unknown to management and not disclosed in these consolidated financial statements. In the event that any liabilities, liens, judgments, warrants, options, or other claims against us arise, these will be recorded when discovered.
Legal Proceedings
We are involved in a number of claims, proceedings and litigation arising from our operations. In accordance with applicable accounting principles and guidance, we establish a reserve for legal proceedings if and when those matters present loss contingencies that are both probable and reasonably estimable. As of the date of this report, we have not recorded a reserve related to any of the claims, proceedings or actions described below. We continue to monitor these matters for developments that would affect the likelihood of a loss and the reserved amount, if any, thereof, and adjusts the amount as appropriate. Moreover, although there is a reasonable possibility that a loss may be incurred in connection with these matters, at this time, based on the status of each matter, the possible loss or range of loss cannot in our view be reasonably estimated because, among other things, (a) the remedies sought are indeterminate or unspecified, (b) the legal and/or factual theories are not well developed; and/or (c) the matters involve complex or novel legal theories.
Archer USA(formerly iLoop Mobile) is a party in a proceeding in Copenhagen, Denmark captioned Cirkelselskabet af 16. Juli 2008 in bankruptcy v.iLoop Mobile, Inc., Vedrorende sag 3, afd. B-1040-12: (Deres j.nr. 1013836). This matter was filed in the Copenhagen City Court by the trustee for Cirkelselskabet, formerly iLoop Mobile ApS (“ApS”). ApS was a Danish subsidiary of Archer USA that was declared bankrupt in July 2008. The trustee claims that Archer USA owes the bankruptcy estate a net amount of DKK 2,550,000 (approximately $430,000) plus costs and fees as a result of an asset purchase agreement in December 2007 between Archer USA and ApS. Under the agreement, Archer USA forgave $2,549,794 of debt owed by ApS to Archer USA in exchange for assets developed by ApS on behalf of Archer USA. The Copenhagen City Court entered a judgment against Archer USA on February 28, 2010 for the amount of trustee's claim plus expenses. Archer USA filed an appeal on March 26, 2012 with the High Court of Eastern Denmark (Østre Landsret). We believe these claims are without merit and intend to vigorously defend the action. If the first level appeal is denied, we intend to appeal to the higher court in Denmark.
We are a party to a wage action captioned James O’Brien v. ILoop Mobile, Inc., Lenco Mobile, Inc. and Matthew R. Harris, No. 12-2-12705-1 (King County Superior Court, filed 4/13/2012). Plaintiff claims breach of contract and failure to pay wages under a retention bonus agreement between Plaintiff and the Company, and seeks approximately $600,000 in wages, double damages, attorneys’ fees and costs. The parties commenced discovery in May 2012. We believe the claims are without merit and intend to vigorously defend against them.
We are a party to an action in Nigeria captioned Skynet Telecommunications Limited, Living the Brand Limited v. Capital Supreme Pty Ltd., Lenco Mobile Inc. USA, Suit No: LD/117/2012 (In the High Court of Lagos State in the Lagos Judicial Division Holden at Lagos, filed March 26, 2012). Plaintiffs claim more than $100,000,000 in damages for breach of an alleged partnership agreement with Archer South Africa. The Company is preparing to file its Statement of Defense in accordance with applicable court procedures. We believe the claims are without merit and intend to vigorously defend against them.
We are party to an action captioned Rubin v. Lenco Mobile Inc., Lenco Mobile USA Inc. and Lenco Multimedia, Inc. (Los Angeles County Superior Court, filed July 2012). Plaintiff alleges breach of contract, failure to pay wages, fraud, defamation, unfair competition and unjust enrichment related to the acquisition of Plaintiff’s company (Simply Ideas, LLC) and his subsequent employment with and separation from Lenco Multimedia, Inc. (formerly AdMax). Plaintiff seeks compensatory damages and interest up to a total of $1.5 million. The parties commenced discovery in November 2012. We believe the claims are without merit and intend to vigorously defend against them.
NOTE 11 - STOCK OPTIONS
As of December 31, 2012, there were 8.9 million shares of common stock available for issuance pursuant to our equity compensation plans. Awards of stock options, stock appreciation rights, stock, restricted stock, restricted stock units, performance units and performance shares may be granted under the 2012 Incentive Plan. The 2012 Incentive Plan initially authorizes the issuance of up to 53 million shares of our common stock. In conjunction with the adoption of the 2012 Incentive Plan, all prior plans were suspended and no further grants are to be made from those plans. Further, any shares subject to outstanding awards under the prior plans on the effective date of the 2012 Incentive Plan that subsequently cease to be subject to such awards (other than by reason of exercise or settlement of the awards in shares), will automatically become available for issuance under the 2012 Incentive Plan, up to an aggregate maximum of 20.5 million shares.
Changes to our outstanding stock options during the year ended December 31, 2012 were as follows:
The fair value of the stock options granted in 2012 at the date of grant was determined to be approximately $5.6 million, which will be amortized over the vesting period of three years. As of December 31, 2012, there was approximately $4.0 million of unamortized stock-based compensation cost related to non-vested stock options issued. That cost is expected to be recognized as an expense over a remaining vesting period of approximately 2.25 years. For the year ended December 31, 2012, we recorded approximately $1.9 million of stock-based compensation expense.
Stock based compensation is allocated as follows:
Of the 5,885,000 stock options issued in 2011, 1,885,000 were performance-based stock options issued to our employees in South Africa. In June 2011, 390,000 stock options were cancelled, none of which had vested or had a determinable fair value. As of December 31, 2011, the Company determined that our South African subsidiary met the performance targets associated with the vesting of the stock options. The fair value of these stock options at the date of grant was determined to be approximately $1.4 million, which will be amortized over the vesting period of 3 years. As of December 31, 2011, there was approximately $0.9 million of unamortized stock-based compensation cost related to non-vested stock options issued to the South African employees. That cost is expected to be recognized as an expense over a remaining vesting period of approximately two years. When options are exercised, new shares of common stock are issued.
On May 6, 2012, we modified the exercise price of all outstanding stock option awards issued under the Company’s 2009 Equity Incentive Plan. Based on the fair market value of the common stock as determined by the Compensation Committee of the Company’s Board of Directors as of that date the original exercise price of $2.15 per share was reduced to $0.12 per share. A total of 44 option grants relating to a total of 2.5 million shares of common stock underlying the option grants were repriced in connection with this modification. The total amount of additional incremental stock-based compensation cost resulting from the repricing of the awards was approximately $.02 million.
We used the Black-Scholes option pricing model to calculate the fair-value of all stock options granted. The expected volatility was based on historical volatility of our common stock, in addition to the volatility of comparable companies. We elected to use the simplified method of estimating the expected term. Under the simplified method, the expected term is equal to the approximate midpoint between the vesting period and contractual term of the stock option. The risk-free interest rate is based on US Treasury zero-coupon issues with a term equal to the expected term of the option assumed at the date of grant.
The weighted-average fair values of stock options granted have been estimated utilizing the following assumptions:
NOTE 12 - PREFERRED STOCK
Series A Preferred Stock Financing
During 2012, we sold an aggregate of 9,660 shares of our Series A Preferred Stock at an average purchase price of approximately $109 per share, raising aggregate gross proceeds of $1.1 million. All transactions were pursuant to the terms of securities purchase agreements between the company and certain accredited investors. At December 31, 2012 there is $2.5 million accrued for dividends payable related to Series A Preferred Stock.
In December 2012, pursuant to retention bonus agreements, certain officers and employees of the company elected to convert a portion of their retention bonus agreements into Series A Convertible Preferred Stock. Based on their election, 2,817 shares of Series A Preferred stock were issued in exchange for reducing retention bonus amounts by an aggregate amount of approximately $0.5 million.
During 2011, we sold an aggregate of 43,667 shares of our Series A Preferred Stock at a purchase price between $100.00 and $107.83 per share, raising gross proceeds of $4.4 million. The per share price of $107.83 include accrued dividends of $7.83 per share. There were no discounts, sales or underwriting commissions incurred in connection with the financing. The proceeds were used for general working capital purposes, including supporting the acquisition of Archer USA.
During 2011, we converted $1.45 million in short term notes payable into 18,085 shares of Series A Preferred Stock
The following is a summary the terms of the Series A Preferred Stock:
Stated Value: The stated value per share of preferred stock is $100, subject to increase for accreted dividends.
Voting Rights: The holders of the preferred stock vote on an as-converted basis together with the holders of our common stock as a single class, except with respect to any increase or decrease in the authorized shares of our common stock, as to which the holders of the preferred stock have no right to vote.
Dividends: The holders of the preferred stock are entitled to cumulative dividends at the rate per share (as a percentage of the stated value per share) of 6.0% per annum. Dividends are payable (i) quarterly on March 31, June 30, September 30 and December 31 and (ii) when and to the extent shares of the preferred stock are converted into common stock. Dividends accrete to, and increase, the outstanding stated value of the preferred stock and compound quarterly on March 31, June 30, September 30 and December 31.
Voluntary Conversion: A holder of preferred stock can elect to convert its preferred stock into shares of our common stock at any time from and after the earlier of: (i) the second anniversary of the original issue date of the preferred stock and (ii) the date that our company’s earnings before interest, taxes, depreciation and amortization (“EBITDA”) over the prior four fiscal quarters exceeds $15 million. Each share of preferred stock is convertible into that number of shares of our common stock determined by dividing the stated value of such share of preferred stock (as increased for accreted dividends) by the conversion price.
Conversion Price: The conversion price is initially $1.50, subject to adjustment if (i) we pay any stock dividends or if we subdivide, combine or reclassify our common stock or (ii) our company’s EBITDA for the 15 month period ended December 31, 2011 is less than $27.0 million and our company’s EBITDA for the 27 month period ended December 31, 2012 is less than $65.0 million. With respect to the adjustment effected pursuant to clause (ii), the conversion price is reduced by $0.03 per share if EBITDA for the 27 month period ended December 31, 2012 is less than $65.0 million, and the conversion price is reduced by an additional $0.03 per share for each $1.0 million difference between actual EBITDA for such 27 month period and $65.0 million, subject to a conversion price floor of $0.25 per share.
Automatic Conversion: The preferred stock automatically converts if: (i) our company’s EBITDA for the 15 month period ended December 31, 2011 is equal to or greater than $27.0 million, or (ii) our company’s EBITDA for the 27 month period ended December 31, 2012 is equal to or greater than $65.0 million. However, an automatic conversion may only occur if our common stock, including the shares issuable upon conversion of the preferred stock, is trading on a national securities exchange at the time of conversion.
Liquidation Preference: The holders of preferred stock are entitled to receive out of our assets, whether capital or surplus, before any distribution or payment shall be made to the holders of our common stock or other junior securities, an amount per share of preferred stock equal to the sum of (i) the stated value of the preferred stock (as increased for accreted dividends), plus (ii) any accrued dividends thereon that have not accreted to the stated value through the date of liquidation, plus (iii) such amount necessary to make the aggregate of all amounts paid with respect to such share of preferred stock equal to an internal rate of return of 30% per annum.
Redemption: We can redeem the preferred stock at any time after the five-year anniversary of the original issue date of the preferred stock by paying cash in an amount equal to the sum of (i) the stated value of the preferred stock, plus (ii) any accrued dividends thereon that have not accreted to the stated value through the date of redemption, plus (iii) such amount necessary to make the aggregate of all amounts paid with respect to such share of preferred stock equal to an internal rate of return of 30% per annum. We must give the holders of the preferred stock at least 30 days advance notice of our intent to redeem the preferred stock and we must honor any conversion of the preferred stock before the redemption date.
Series B1 Preferred Stock Financing
In conjunction with the acquisition of Archer USA, we issued 87,717 shares of Series B1 Preferred Stock with a value of $8.8 million
The following is a summary the terms of the Series B1 Preferred Stock issued on December 27, 2011:
Stated Value: The stated value per share of preferred stock is $100, subject to increase for accreted dividends.
Voting Rights: The holders of the preferred stock shall not have any right to vote on any matter presented to the stockholders of the company except with respect to: (i) alter or change adversely the powers, preferences or rights given to the Series B1 Preferred Stock ( ii) except for the Series B2 preferred stock, authorize or create any class of stock ranking, as to distribution of assets upon a liquidation or the payment of dividends or rights of redemption, senior to or otherwise pari passu with the Series B1 Preferred Stock, or reclassify, alter or amend any class of stock that would render such other security, as to distribution of assets upon a liquidation or the payment of dividends or rights of redemption, senior to or otherwise pari passu with the Series B1 Preferred Stock, or (iii) amend its Certificate of Incorporation or other charter documents in any manner that adversely affects any rights of the Holders.
Dividends: The holders of the preferred stock are entitled to cumulative dividends at the rate per share (as a percentage of the stated value per share) of 3.0% per annum. Dividends are payable quarterly on March 31, June 30, September 30 and December 31 and when and to the extent shares of the preferred stock are converted into common stock. Dividends accrete to, and increase, the outstanding stated value of the preferred stock and compound annually on December 31 each year.
Voluntary Conversion: A holder of the preferred stock can elect to convert its preferred stock into shares of our common stock at any time. Each share of preferred stock is convertible into that number of shares of our common stock determined by dividing the stated value of such share of preferred stock (as increased for accreted dividends) by the conversion price.
Conversion Price: The conversion price is initially $0.25 subject to adjustment if we pay any stock dividends or if we subdivide, combine or reclassify our common stock.
Automatic Conversion: The preferred stock automatically converts if: (i) we close a public offering of common stock or common stock equivalent raising aggregate proceeds of at least $20 million or (ii) the date specified and approved by the holders of a majority of the outstanding shares of Series B1 Preferred Stock.
Liquidation Preference: Upon any liquidation and after payment or provision for all of the company’s debts and the liquidation rights conferred upon the holders of the company’s Series A Preferred Stock and any other preferred stock having a liquidation preference higher than the Series B1 Preferred Stock, the holders shall be entitled to receive out of the remaining assets, whether capital or surplus, of the company an amount for each share of Series B1 Preferred Stock held by such holders equal to 100% of the stated value, plus any accrued dividends, before any distribution or payment shall be made to the holders of any junior securities.
Redemption: The company may redeem, at its sole and absolute discretion, all or any portion of the shares of the Series B1 preferred stock at the redemption price on a pro rata basis at any time following the earlier of: (i) the fifth anniversary of the original issue date,( ii) upon the occurrence of a Change of Control transaction, or (iii) upon the fair market value of the common stock equaling or exceeding 250 percent of the conversion price.
Series B2 Preferred Stock Financing
In conjunction with the acquisition of Archer USA, we issued 58,131 shares of Series B2 Preferred Stock valued at $5.8 million.
The following is a summary the terms of the Series B2 Preferred Stock issued on December 27, 2011:
Stated Value: The stated value per share of preferred stock is $100, subject to increase for accreted dividends.
Voting Rights: The holders of the preferred stock shall not have any right to vote on any matter presented to the stockholders of the company except with respect to: ( i) alter or change adversely the powers, preferences or rights given to the Series B2 Preferred Stock ( ii) except for the Series B1 Preferred Stock, authorize or create any class of stock ranking, as to distribution of assets upon a Liquidation or the payment of dividends or rights of redemption, senior to or otherwise pari passu with the Series B2 Preferred Stock, or reclassify, alter or amend any class of stock that would render such other security, as to distribution of assets upon a liquidation or the payment of dividends or rights of redemption, senior to or otherwise pari passu with the Series B2 Preferred Stock, or (iii) amend its certificate of incorporation or other charter documents in any manner that adversely affects any rights of the Holders.
Dividends: The holders of the preferred stock are entitled to cumulative dividends at the rate per share (as a percentage of the stated value per share) of 3.0% per annum. Dividends are payable quarterly on March 31, June 30, September 30 and December 31 and when and to the extent shares of the preferred stock are converted into common stock. Dividends accrete to, and increase, the outstanding stated value of the preferred stock and compound annually on December 31 each year.
Voluntary Conversion: A holder of the preferred stock can elect to convert its preferred stock into shares of our common stock at any time. Each share of preferred stock is convertible into that number of shares of our common stock determined by dividing the stated value of such share of preferred stock (as increased for accreted dividends) by the conversion price.
Conversion Price: The conversion price is initially $0.40 subject to adjustment if we pay any stock dividends or if we subdivide, combine or reclassify our common stock.
Automatic Conversion: The preferred stock automatically converts if: (i) we close a public offering of common stock or common stock equivalent raising aggregate proceeds of at least $20 million or (ii) the date specified and approved by the holders of a majority of the outstanding shares of Series B2 Preferred Stock.
Liquidation Preference: Upon any liquidation and after payment or provision for all of the Company’s debts and the liquidation rights conferred upon the holders of the Company’s Series A Preferred Stock and any other preferred stock having a liquidation preference higher than the Series B2 Preferred Stock, the holders shall be entitled to receive out of the remaining assets, whether capital or surplus, of the Company an amount for each share of Series B2 Preferred Stock held by such holders equal to 100% of the stated value, plus any accrued dividends, before any distribution or payment shall be made to the holders of any junior securities.
Redemption: The Company may redeem, at its sole and absolute discretion, all or any portion of the shares of the Series B2 preferred stock at the redemption price on a pro rata basis at any time following the earlier of: (i) the fifth anniversary of the original issue date, (ii) upon the occurrence of a Change of Control transaction, or (iii) upon the fair market value of the common stock equaling or exceeding 250 percent of the conversion price.
NOTE 13 - COMMON STOCK AND WARRANTS
During 2012, we purchased 1,143,300 shares of treasury stock for approximately $233.
During 2011, we issued 10,742,986 shares of common stock in connection with the acquisition of Archer USA.
During 2011, we purchased 266,667 shares of treasury stock for approximately $67.
In conjunction with the acquisition of Angelos Gateway Ltd. in December 2010, we issued 521,277 shares of restricted common stock to vest over a two year period. We recognized approximately $336,000 and $302,000 in related stock compensation all of which is attributable to research and development costs in 2012 and 2011 respectively.
During 2012, in conjunction with the issuance of the Senior Notes, we issued warrants to purchase up to 11,919,000 shares of common stock at an exercise price of $0.10 per share.
The following table summarizes outstanding warrants to purchase shares of our common stock:
NOTE 14 - RELATED PARTY TRANSACTIONS
As previously discussed in Note 9, in August 2012, we entered into Note Purchase Agreements in aggregate principal amount of $4.0 million. The debt financing was completed in three closings, the first on July 30, 2012, the second on August 3, 2012 and the third on August 21, 2012. The Lenders included James L. Liang, a director of the Company, Michael Levinsohn, the Executive Chairman of our Board of Directors and a director of the Company, Chris Dukelow, the Chief Financial Officer of the Company, a retirement account for the benefit of Matthew Harris, the Chief Executive Officer of the Company, Robert J. Chiumento, Managing Director of Healthcare and Srinivas Kandikattu, the Chief Operating Officer of the Company. The terms of the debt financing, were substantially the same for all lenders. The amount of borrowings from related parties included in the $4.0 million was $2.8 million.
As previously discussed in Note 9, on July 30, 2012, we issued the Larsen note to Jorgen Larsen, a director of the Company, in the amount of $2,546,500. The Larsen Note matures on July 31, 2016 and will accrue interest on the unpaid principal amount at a rate of 12% per annum, plus, if applicable, a default rate of an extra 2% per annum, to be paid quarterly. The Larsen Note was issued by the Company in connection with our repayment of the outstanding amount of the Bank Loan.
In March 2012, Mr. Liang loaned the Company $50,000 pursuant to a promissory note that accrues interest at 20%.
In March and June of 2012, we entered into purchase agreements with Matthew Harris, the Company’s Chief Executive Officer, pursuant to which we sold to Mr. Harris an aggregate of 1,502 shares of our Series A Preferred Stock at a purchase price of $165,000.
On January 31, 2012, we entered into a First Amendment to Retention Bonus Agreement with each of Matthew Harris, Srinivas Kandikattu and Richard Ballard (the “First Amendment”). Mr. Harris is chief executive officer and a director of the Company, Mr. Kandikattu is chief operating officer of the Company, Mr. Ballard is a former officer of the Company. Each of these individuals had previously entered into a Retention Bonus Agreement with the Company.
The First Amendment: (a) removed certain limitations on the remedies available to each of the individuals in the event amounts owed to them under the Retention Bonus Agreements were not paid when due, (b) contained an election by each of the individuals to receive Series A Preferred Stock in lieu of a certain portion of the amounts payable under their Retention Bonus Agreements, and (c) permitted each of the individuals to require the Company pay applicable United States income withholding taxes on the grant of Series A Preferred Stock by authorizing the Company to reduce their stock grant in an amount corresponding to the withheld amount.
Based on their elections and the fair market value of the Series A Preferred Stock as of the date of the election, Mr. Harris was eligible to receive 8,293 shares of Series A Preferred Stock in lieu of a contingent cash payment of $900,000 due on December 27, 2012, Mr. Kandikattu was eligible to receive 691 shares of Series A Preferred Stock in lieu of a contingent cash payment of $75,000 due on December 27, 2012 and Mr. Ballard was eligible to receive 415 shares of Series A Preferred Stock in lieu of a contingent cash payment of $45,000 due on December 27, 2012. Mr. Harris subsequently amended his election such that he was eligible to receive 2,764 shares of Series A Preferred Stock in lieu of $300,000 of the $900,000 contingent cash payment due on December 27, 2012.
The contingency applicable to the cash payments due on December 27, 2012 for all individuals was satisfied on December 27, 2012, on which date the cash payments became due and the Series A Preferred Stock was issued to the individuals net of taxes.
Sterling Capital Partners, Inc., of which Mr. Levinsohn is the Chief Executive Officer, loaned the Company $200,000 in October 2011 pursuant to a promissory note. The note included interest at 6% and was due on the earlier of a change of control of the Company (as defined in the note) or July 31, 2012. The debt was converted into 1,855 shares of our Series A Preferred Stock at a price of $108 per share on December 27, 2011.
Mr. Liang loaned the Company $250,000 in November 2011 pursuant to a promissory bridge note dated November 21, 2011. The promissory note included interest at 6% and was due on the earlier of a change of control of the Company (as defined in the note) or July 31, 2012. The debt was converted into 2,318 shares of our Series A Preferred Stock at a price of $108 per share on December 27, 2011.
BAJL Investments, LLC, a Delaware corporation in which Mr. Liang is a partner, was an investor in iLoop, having loaned iLoop $1.0 million pursuant to the terms of a promissory note dated August 11, 2011. The debt was converted into 13,912 shares of our Series A Preferred Stock at a price of $108 per share on December 27, 2011.
On December 1, 2011, we and two of our wholly-owned subsidiaries, Lenco Media Inc. and Lenco Multimedia Inc., entered into an asset purchase agreement with MDMD Ventures, LLC and its wholly-owned subsidiary, RadioLoyalty, Inc., pursuant to which we sold certain assets and assigned certain liabilities that comprised our broadcast media business to RadioLoyalty. Michael Hill, our former chief strategy officer, is the principal beneficial owner of MDMD Ventures, LLC. RadioLoyalty assumed substantially all of our ongoing contracts and other obligations related to the business and agreed to pay up to $2.5 million in cash. The cash portion of the purchase price is payable in monthly installments on the basis of 3.5% of the revenue recognized by RadioLoyalty during the period commencing on November 1, 2011 and ending on November 1, 2014, subject to the maximum of $2.5 million. The asset purchase agreement includes representations, warranties and covenants by each of the parties to the agreement that are customary for an asset sale of this kind. We agreed to indemnify MDMD Ventures, LLC and RadioLoyalty, Inc. for, among other things, any breach or inaccuracy of any the representations, warranties or covenants in the asset purchase agreement. We further agreed to indemnify MDMD Ventures, LLC and RadioLoyalty, Inc. against any claims made by John Williams, Jeff Pescatello and Todd Wooten arising out of the merger agreement that we entered into for the acquisition of Jetcast, Inc. Our maximum indemnification obligation under the asset purchase agreement is $3 million. Messrs. Williams, Pescatello and Wooten founded Jetcast, Inc., from which we acquired the assets in 2010, and managed our broadcast media business.
NOTE 15 - INCOME TAXES
The provision for deferred tax is calculated using enacted or substantively enacted tax rates at the reporting date that are expected to apply when the asset is realized or liability settled. A deferred tax asset is recognized to the extent that it is more likely than not that future taxable profits will be available against which the deferred tax asset can be realized.
Our income tax provision (benefit) is comprised of the following:
Significant components of our deferred tax assets and (liabilities) are set forth below:
U.S. and foreign income (loss) before income taxes are set forth below:
The reconciliation of income taxes calculated at the U.S. federal tax statutory rate to our effective tax rate is set forth below:
We have previously not provided deferred tax on the undistributed earnings of foreign investments. Management estimates that the total net undistributed earnings upon which deferred tax has not been provided total approximately $0.4 million at December 31, 2012. Such net undistributed earnings are held in the Multimedia Solutions subsidiary, which is a South Africa corporation.
As of December 31, 2012, we had NOL carryforwards for federal, state and foreign income tax purposes of $50.5 million, $27.9 million and $2.4 million, respectively. Such carryforwards may be used to reduce taxable income in those jurisdictions through 2031 subject to limitations of Section 382 of the Internal Revenue Code (“IRC”). The NOL carryforwards will begin expiring in 2028.
We identify certain unremitted earnings of foreign investments as being indefinitely reinvested and, consequently, the taxpayer does not provide deferred taxes on the outside basis difference related to those earnings (“outside basis differences”). We believe that their permanent reinvestment position is subject to a potential change in the U.S. tax rules.
NOTE 16 - EMPLOYEE BENEFIT PLANS
Employment Benefit Plans
We have two 401(k) defined contribution and profit sharing plans for eligible employees under the name of Lenco Mobile Inc. Retirement Plan and Trust and Archer USA 401K. Under the defined contribution plans, employees can make voluntary contributions not to exceed the limits established by the Internal Revenue Code. We did not make any matching contributions during 2012 and 2011.
NOTE 17 - SUBSEQUENT EVENTS
In January, 2013, Mathew Harris received the remaining portion of Series A Preferred shares related to his election to convert a portion of his Retention Bonus agreement into Series A Preferred Stock. This resulted in the issuance of 5,207 shares of Series A preferred stock and the reduction in Retention Bonus Agreements of $0.6 million.
On February 15, 2013, the Company issued a promissory note to Michael Durden, a director of the Company, in the amount of $100,000. On February 22, 2013, the Company issued a promissory note to James Liang, a director of the Company, in the amount of $100,000 and a promissory note to Pablo Enterprises in the amount of $200,000. On February 27, 2013, the Company issued a promissory note to Derace Schaffer, a director of the Company, in the amount of $200,000 (collectively, the "Bridge Notes").
The Bridge Notes were issued in connection with loans made to the Company. The Bridge Notes mature on the earlier of (a) the date on which the Company closes a preferred stock financing of at least $1,000,000, and (b) the date that is 90 days after the note was issued. The Bridge Notes require the Company to pay the original principal amount of the Bridge Notes plus a 10% financing fee on the maturity date in cash or Series A1 Preferred Stock at the option of the holder. The Bridge Notes are secured by a security interest in certain assets of the Company.
In conjunction with Senior Notes issued in July and August, 2012, we issued warrants to purchase up to 12,000,000 shares of common stock at an exercise price of $0.10 per share. The warrants contained protective provisions that provided for a one-time adjustment upon certain issuance of additional equity or the incurrence of certain indebtedness by the Company. Because the issuance of the Bridge Notes without the consent of the holders of a majority of the indebtedness represented by the Senior Notes would trigger the adjustment, the Company approved the adjustment in connection with obtaining the consent of the Senior Note holders to issuing the Bridge Notes. As a result of the adjustment, the number of shares of common stock issuable pursuant to the warrants increased to 24,000,000 and the exercise price was reduced to $0.05.
In March 2013, we entered into a securities purchase agreement with accredited investors pursuant to which we agreed to sell an aggregate of 7,000 shares of newly created Series A1 Convertible Preferred Stock ("Series A1 Shares") at a purchase price of $100 per share, raising aggregate gross proceeds of $0.7 million.
Item 9.
Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure
Not applicable.
Item 9A.
Item 9A. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
We maintain disclosure controls and procedures that are designed to ensure that information that we are required to file or submit under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission's rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed is accumulated and communicated to our management, including our principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure.
Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures as of December 31, 2012. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were not effective as of December 31, 2012 because of certain material weaknesses in our internal controls over financial reporting identified below.
Management’s Annual Report on Assessment of Internal Control over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting for the Company. Internal control over financial reporting is defined in Rule 13a-15(f) and 15d-15(f) promulgated under the Securities Exchange Act of 1934 as a process designed by, or under the supervision of, the Company’s principal executive and principal financial officers and effected by the Company’s Board of Directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with U.S. Generally Accepted Accounting Principles (GAAP) and includes those policies and procedures that:
- pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of the assets of the Company;
- provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with GAAP, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company; and
- provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the Company’s assets that could have a material effect on the financial statements.
We have identified the following material weaknesses in our internal control over financial reporting as of December 31, 2012.
- we have not completed the design and implementation of effective internal control policies and procedures necessary to provide reasonable assurance regarding the preparation of financial statements in accordance with GAAP;
- we did not maintain sufficient in-house personnel resources with the technical accounting knowledge, expertise and training in the selection, application and implementation of GAAP to certain complex or non-routine transactions;
- we did not maintain adequate segregation of duties for staff members responsible for certain financial accounting and reporting functions;
- we have not completed the design and implementation of effective internal control policies and procedures related to risk assessment and fraud prevention and detection activities;
- we have not completed the design and implementation of effective internal control policies and procedures necessary to provide reasonable assurance regarding the accuracy and integrity of spreadsheets and other “off system” work papers that are used in the financial accounting process; and
- we have not completed the design and implementation of internal control policies and procedures necessary to provide reasonable assurance with respect to the accuracy and completeness of assertions and disclosures related to significant financial statement accounts, and with respect to information technology general and application controls.
A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a more than remote likelihood that a material misstatement of the Company's annual or interim financial statements will not be prevented or detected on a timely basis.
Accordingly, management has concluded that we did not maintain effective internal control over financial reporting as of December 31, 2012, based on the “Internal Control - Integrated Framework” issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
Our management is in the process of remediating the material weaknesses described above, as follows:
(1) investing in additional enhancements to our information technology systems, including enhancements to uniform and universal financial reporting and fully-integrated operating platforms across all of the Company’s subsidiaries, and security over user access and administration;
(2) hiring additional accounting and operations personnel with adequate experience, skills and knowledge relating to complex, non-routine transactions are directly involved in the review and accounting evaluation of our complex, non-routine transactions and further segregating duties of financial personnel;
(3) documenting, to standards established by senior accounting personnel and the principal accounting officer, the review and analysis and related conclusions with respect to complex, non-routine transactions;
(4) creating policy and procedures manuals for the accounting, finance and information technology functions.
The Company is developing the remediation plans for the material weaknesses identified above. The Company's remediation efforts are expected to continue through fiscal 2013.
Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls or internal control over financial reporting will prevent all errors or all instances of fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the control system’s objectives will be met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Controls can also be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the controls. The design of any system of controls is based in part upon certain assumptions about the likelihood of future events, and any design may not succeed in achieving its stated goals under all potential future conditions. Over time, controls may become inadequate because of changes in conditions or deterioration in the degree of compliance with policies or procedures. Projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Because of the inherent limitation of a cost-effective control system, misstatements due to error or fraud may occur and not be detected on a timely basis.
Changes in Internal Control over Financial Reporting
Other than as described above, there have been no changes in the Company’s internal control over financial reporting during the fourth quarter ended December 31, 2012 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
Item 9B.
Item 9B. Other Information.
Not applicable.
PART III
Item 10.
Item 10. Directors, Executive Officers and Corporate Governance.
BOARD OF DIRECTORS
Michael Levinsohn has served as a director since 2008 and was our chief executive officer and president from 2008 to December 30, 2011, at which time he became Executive Chairman of our Board of Directors. Mr. Levinsohn was a co-founder of Digital Vouchers (Pty) Ltd., an internet and internet loyalty program platform that we acquired in February 2008. From 2003 to 2007, Mr. Levinsohn was the Managing Director of 121 Marketing, a leading CRM and loyalty program consultancy based in Johannesburg, South Africa. From 1998 to 2003, Mr. Levinsohn was a co-founder and sales and marketing director of Webworks, a company that developed and operated the Infinity CRM and loyalty program in South Africa. Clients of Infinity included many of the top retail and leisure brands in South Africa. From 1988 to 1997 Mr. Levinsohn was at various times the chief executive officer of Lanchem Limited, Ventel Limited and Integrated Consumer Products Limited. All three companies were listed on the Johannesburg Stock Exchange. Mr. Levinsohn has been the managing director of Sterling Trust (Pty) Ltd., a privately-owned investment banking company since March 1988.
As the former chief executive officer and president of our company, Mr. Levinsohn provides significant industry knowledge and key insight regarding our corporate strategy, business development and day to day operations. Mr. Levinsohn also has relationships with the majority of our current customers, including brand owners and wireless carriers. Mr. Levinsohn provides our Board of Directors with a comprehensive understanding of our services and technologies, as well as a perspective on corporate opportunities and industry trends. He is the key interface between the Board of Director’s oversight and strategic planning and its implementation at all levels of the Company around the world and instrumental in maintaining our strong relationships with investors and other key stakeholders.
Matthew Harris was appointed a director and Chief Executive Officer of the Company in December 2011. He served as the chief executive officer of Archer USA from 2007 until it was acquired by the Company. Prior to joining Archer USA, Mr. Harris served as chief executive officer of Volantis Systems, a UK-based mobile software company from 2005 to 2007. Mr. Harris joined Volantis from Metrowerks, where he was also chief executive officer. Prior to Metrowerks, Mr. Harris served as chief executive officer of Embedix, an embedded software company sold to Motorola Semiconductor. Mr. Harris is a 1982 graduate of the business school at the University of Washington and a 1991 graduate of the University of Michigan law school.
Mr. Harris serves a key leadership role on the Board, communicates management’s perspective on important matters to the Board, and provides the Board with in-depth knowledge of the Company's business, as well as industry and international challenges and opportunities. His executive experience, combined with his background as a systems engineer and technology lawyer, make him uniquely qualified to lead a high-growth technology company.
Jorgen Larsen served as chairman of the board at Archer USA until its acquisition by the company in December 2011 when he was appointed a director of the Company. Until June 2005, Mr. Larsen was chairman and chief executive officer of London-based Universal Music International, responsible for overseeing the activities of the Universal Music Group in 77 countries outside of North America. Prior he was as president of Sony Music Europe, where his responsibilities also included the company’s subsidiaries, licensees and business development in Asia, Africa, the Middle East and Eastern Europe. He spent 20 years of his career at CBS where he was managing director at CBS Sweden, Scandinavian area director, president at CBS Germany, president at CBS France and senior vice president at CBS Europe, before his appointment. Mr. Larsen holds an MBA from the University of Wisconsin and a graduate degree in marketing from the Business School of Copenhagen.
Mr. Larsen brings to our company strategy, media and international expertise gained from working with large, global companies in the media sector. He has significant experience in building strong management teams and offers a broad leadership perspective on strategic issues facing companies today and provides in-depth operational knowledge as a long-serving chief executive officer of various companies including international development and marketing expertise. He has served on other companies’ boards and, as a result, he offers the Company broad leadership experience.
James L. Liang has served on our Board of Directors since March 2011 and as the chairman of our Board of Directors from April 2011 until December 2011. From 2008 to 2011, Mr. Liang served as SVP of Strategy and Corporate Development at Amdocs, Ltd. (NYSE: DOX), a global provider of software and services for billing, customer relationship management and operations support systems. From 2005 to 2008, Mr. Liang served as the Chief Strategy Officer for IBM Corporation’s $30+ billion Global Technology Services (GTS) Division. Prior to joining IBM, Mr. Liang spent 21 years as an investment banker working exclusively with technology companies on a broad range of financing and strategic assignments including twelve years at Morgan Stanley, where he ultimately served as the Head of the Global Technology Banking Group. Mr. Liang is a graduate of Phillips Exeter Academy, Brown University (Sc.B. in Applied Mathematics/Economics) and The University of Chicago Graduate School of Business (MBA in Finance/Marketing).
Mr. Liang brings to our company strategy, finance and corporate development expertise gained from working with large, global companies, including companies engaged in offerings to the mobile sector. He has a strong knowledge of our business and industry, which he is able to leverage in strategic planning for the Company. Mr. Liang’s significant experience allows him to provide the Company guidance on achieving success in different economic conditions, geographies and competitive landscapes. The Board of Directors has determined that Mr. Liang qualifies as an “audit committee financial expert,” as defined by the rules of the SEC. His significant investment banking experience and key relationships developed from that role allow for Mr. Liang to be a critical participant in the Company’s mergers and acquisition strategy and provides the Board of Directors with a unique perspective on the Company’s strategic initiatives, financial outlook and investor markets.
Derace Schaffer, MD has served on our board of directors since September 2012. He is the founder and CEO of the Lan Group, a venture capital firm specializing in healthcare and technology investments. Dr. Schaffer has either founded or co-founded more than 20 companies, both public and private, and currently sits on the Board of Directors of PharmAthene, Inc. and American Caresource Holdings, Inc. in addition to the Company. He did his postgraduate medical training at the Harvard Medical School and Massachusetts General Hospital, where he was Chief Resident. Dr. Schaffer has been a Professor at both the University of Rochester School of Medicine as well as the Cornell School of Medicine. He is a member of Alpha Omega Alpha, the National Medical Honor Society.
Mr. Derace Schaffer, M.D. brings to our company strategy, business and health care expertise gained from working with startup companies in the health care industry. He has significant experience in building strong management teams and offers a broad leadership perspective on strategic issues facing companies today and provides in-depth operational knowledge. He has served on other companies’ boards and, as a result, he offers the Company broad leadership experience.
Michael Durden joined our Board of Directors in October 2012. From August 2008 until September 2012, he was the SVP Strategy and Corporate Development for Experian Marketing Services. In addition, Mr. Durden was also responsible for the Hitwise division, a provider of marketing intelligence products and services operating in nine countries. Prior to that, from 2003 until 2008, he was VP of Corporate Development for Experian Marketing Services. Currently, Mr. Durden is leading the boutique strategy consulting form, Barrington Advisory Group. He received an MBA from the A.B. Freeman School of Business at Tulane University where he also received his BS in Computer Information Systems.
Mr. Michael Durden brings to our company strategy, marketing and corporate development expertise gained from working at large advertising and marketing as an executive for over 20 years. He has significant experience in corporate development and strategic issues in the marketing industry.
EXECUTIVE OFFICERS
In addition to Mr. Levinsohn and Mr. Harris, the executive officers of the Company as of March 15, 2013, were as follows:
Christopher Dukelow, our Chief Financial Officer, joined the Company in February 2012. He was previously the Chief Financial Officer of Giant Campus, Inc., an education and learning experience company that delivers online technology educational programs, since July 2008. Prior to joining Giant Campus, Mr. Dukelow served as Chief Financial Officer of Scout Analytics (formerly Biopassword, Inc.), from 2006 to 2008, and as Chief Operating Officer of Escapia, from 2005 to 2006, both early stage technology companies. Previously he held a number of senior executive positions at venture capital backed technology companies. He holds a Bachelor of Arts in Business Administration, with a concentration in Accounting, from the University of Washington.
Srinivas Kandikattu, our Chief Operating Officer, joined the Company in December 2011 when we acquired Archer USA Mobile, where he had served as Vice President, Chief Technology Officer since 2006. Prior to his appointment as our Chief Operating Officer in March 2013, Mr. Kandikattu served as Chief Technology Officer of the Company. Mr. Kandikattu was senior development manager at IBM from 2005 to 2006. Prior to IBM, he held technical and management roles at Siebel Systems from 2001 to 2006. Mr. Kandikattu holds a BS degree from JNTU Hyderabad, India.
Christopher Stanton, our General Counsel and Secretary, joined the company in October 2012. Previously he was a principal at the Stanton Law Firm from 2009 to 2012. Prior to that, from 2004 to 2008, he was the Chief Legal Officer, General Counsel and Secretary of Captaris, Inc. a NASDAQ listed technology company based in Bellevue, Washington. Mr. Stanton also worked at the law firm of Perkins Coie LLP in both its Seattle and Hong Kong offices. He holds a JD from the University of Washington School of Law and received his undergraduate degree from the University of Virginia.
CORPORATE GOVERNANCE
Section 16(a) Beneficial Ownership Reporting Compliance
Section 16(a) of the Exchange Act requires the Company’s executive officers and directors, and persons who own more than 10% of a registered class of the Company’s equity securities, to file an initial report of ownership on Form 3 and changes in ownership on Forms 4 or 5 with the SEC. Such officers, directors and 10% shareholders are also required by SEC rules to furnish the Company with copies of all Section 16(a) forms they file.
Based solely on a review of reports on Forms 3, 4, and 5, and amendments to those reports, furnished to us during and with respect to fiscal year 2012 pursuant to Section 16 of the Exchange Act, the Company believes that no executive officers, directors or beneficial owners of more than ten percent of a registered class of our equity securities were late in filing such reports during 2012, with the following exceptions:
·Mr. Larsen has not filed a report on Form 3 and has not filed one report on Form 4 for one transaction.
·Mr. Liang has not filed four reports on Form 4 for six transactions.
·Mr. Harris filed a late report on Form 3 and has not filed six reports on Form 4 for six transactions.
·Mr. Levinsohn has not filed one report on Form 4 for one transaction,
·Mr. Dukelow has not filed one report on Form 4 for one transaction.
·Mr. Kandikattu has not filed a report on Form 3 and has not filed four reports on Form 4 for four transactions.
·Mr. Chiumento filed a late Form 3 and has not filed one report on Form 4 for one transaction.
·Mr. Ballard has not filed a report on Form 3 and has not filed one report on Form 4 for one transaction.
·Mr. Fox has not filed one report on Form 4 for one transaction.
·Pablo Enterprises LLC has not filed one report on Form 4 for one transaction.
DIRECTOR INDEPENDENCE
The Board of Directors has determined that Mr. Michael Durden and Messrs. Schaffer and Liang are “independent directors” and that Mr. Harris was an “independent director” as defined in Rule 5605 of the NASDAQ Stock Market (Nasdaq) listing rules. In making its independence determinations, the Board of Directors considered all relationships between its directors and the Company.
Board Meetings and Committees
The Board of Directors held five meetings during 2012. During the last year, no director attended fewer than 75% of the meetings of the Board of Directors and its committees on which he served that were held during the period in which he was a director. The Company encourages, but does not require, members of the Board of Directors to attend the annual meeting of shareholders.
The Board of Directors has an Audit Committee, a Compensation Committee and a Corporate Governance Committee. The current membership and leadership of each of the committees of the Board of Directors is set forth in the table below
Audit Committee. The Audit Committee currently consists of Mr. Liang and Mr. Schaffer, with Mr. Liang serving as chair. During 2012, the Audit Committee consisted of Messrs. Phil Harris and Liang, until Mr. Schaffer replaced Mr. Harris when Mr. Schaffer was appointed to the Board of Directors and to the Audit Committee on October 23, 2012. The Audit Committee held five meetings in 2012. The Audit Committee oversees the accounting and financial reporting processes of the Company as well as the audits of the Company’s financial statements. The Audit Committee appoints and approves the services performed by the Company’s independent registered public accounting firm and is responsible for reviewing and evaluating the Company’s accounting principles and its system of internal control over financial reporting. The Board of Directors has further determined that Mr. Liang is an “audit committee financial expert” as defined by Item 407(d)(5)(ii) of Regulation S-K of the Exchange Act.
The Audit Committee operates under a written charter that sets forth its functions and responsibilities. A copy of the charter is posted on the Company’s website at www.lencomobile.com.
Compensation Committee. The Compensation Committee currently consists of Messrs. Larsen and Liang, with Mr. Liang serving as chair. During 2012, Messrs. Larsen and Liang served on the Compensation Committee, with Mr. Liang serving as chair. The Compensation Committee held two meetings during 2012. The Compensation Committee administers granting of options to purchase stock of the Company pursuant to the Company’s stock plans and, in accordance with the terms of the respective stock plans, determines the terms and conditions of such issuances and grants. In addition, the Compensation Committee reviews and approves the Company’s executive compensation policy, conducts an annual review of the compensation of each senior executive and approves compensation for the executive management.
The Compensation Committee operates under a written charter that sets forth its functions and responsibilities. A copy of the charter is posted on the Company’s website at www.lencomobile.com.
Corporate Governance Committee (the “Governance Committee”). The Governance Committee currently consists of Mr. Michael Durden and Mr. Larsen. During 2012, Messrs. Phil Harris and Larsen served on the Governance Committee, with Mr. Larsen serving as chair, until Mr. Durden replaced Mr. Harris when Mr. Durden was appointed to the Board of Directors and to the Governance Committee on October 23, 2012. The Governance Committee held one meeting in 2012. The Governance Committee monitors the size and composition of the Board of Directors. Also, prior to the Company’s annual meeting of shareholders, the Governance Committee, pursuant to qualification guidelines, assists the Board of Directors in selecting the candidates that will be presented to the Company’s shareholders for election as directors at the next annual meeting. The Governance Committee considers and makes recommendations to the Board of Directors regarding any shareholder recommendations for candidates to serve on the Board of Directors. However, the Governance Committee has not adopted a formal process for that consideration because it believes that the informal consideration process has been adequate given the small number of shareholder recommendations in the past. Pursuant to our Bylaws, shareholders wishing to recommend candidates for consideration by the Governance Committee may do so by writing to Christopher Stanton, Corporate Secretary of the Company, at 2025 First Ave, Suite 320, Seattle, WA 98121, providing the candidate’s name, biographical data and qualifications, a document indicating the candidate’s willingness to act if elected, and evidence of the nominating shareholder’s ownership of common stock not less than 90 nor more than 120 days prior to the next annual meeting of shareholders to assure time for meaningful consideration by the Governance Committee. There is no difference in the manner in which the Governance Committee evaluates nominees for director based on whether the nominee is recommended by a shareholder, by management or by the Board of Directors.
In reviewing potential candidates to serve on the Board of Directors, the Governance Committee considers experience in the mobile industry, general business or other experience, the Company’s need for additional or replacement directors, the candidate’s interest in the business of the Company, and other subjective criteria. Of greatest importance are the individual’s integrity, willingness to be actively involved and ability to bring to the Company experience and knowledge in areas that are most beneficial to the Company. The Board of Directors intends to continue to evaluate candidates for election to the Board of Directors on the basis of the foregoing criteria.
The Governance Committee operates under a written charter that sets forth its functions and responsibilities. A copy of the charter is posted on the Company’s website at www.lencomobile.com.
Board Leadership Structure
The Board of Directors selects by consensus the chairman from the directors. The Board does not have a specific policy on whether the roles of chief executive officer and chairman of the Board should be separate, or if the roles are separate, whether the chairman of the Board should be selected from the nonemployee directors. The Board believes that it should have discretion to determine the most appropriate leadership structure at a given time.
The Board of Directors believes the current leadership structure, with a non-management independent lead director and an executive chairman of the Board who is not the chief executive officer, is appropriate at this time. The Board believes this structure ensures a greater role for the independent directors in the oversight of the Company, as well as their active participation in setting agendas and establishing priorities and procedures for the work of the Board. The Board also believes its administration of its risk oversight function, as discussed below, has not affected the Board’s leadership structure.
Mr. Liang, who is chair of the Audit Committee and the Compensation Committee, was selected by the Board of Directors to serve as the lead director for all meetings of the non-management directors held in executive session. The lead director has the responsibility of presiding at all executive sessions of the Board, consulting with the Chairman on Board and committee meeting agendas, acting as a liaison between management and the non-management directors, including maintaining frequent contact with the Chairman and advising him on various matters and facilitating communication between the non-management directors and management, as well as other responsibilities.
Risk Management
The entire Board of Directors is responsible for reviewing and overseeing the Company’s internal risk management processes and policies to help ensure that the Company’s corporate strategy is functioning as directed and that necessary steps are taken to foster a culture of risk aware and risk-adjusted decision making throughout the Company. The Board has an active role, both as a whole and also at the committee level, in overseeing management of the Company’s risks. The Board regularly reviews information regarding the Company’s credit, liquidity and operations, as well as the risks associated with each. The Compensation Committee is responsible for overseeing the management of risks relating to the Company’s executive compensation plans and arrangements. The Audit Committee oversees management of financial risks, financial reporting and tax. The Governance Committee manages risks associated with the independence of the Board and potential conflicts of interest. While each committee is responsible for evaluating certain risks and overseeing the management of such risks, the entire Board is regularly informed through committee reports about such risks.
Corporate Governance
The Company has adopted a set of Corporate Governance Guidelines. The Governance Committee is responsible for overseeing the Corporate Governance Guidelines and reporting and making recommendations to the Board of Directors concerning corporate governance matters. The Corporate Governance Guidelines are posted on the Company’s website at www.lencomobile.com.
Code of Business Conduct and Ethics
The Board of Directors has adopted a Code of Business Conduct and Ethics that applies to all directors, officers, and employees of the Company as required by applicable securities laws and rules of the SEC. The Code of Business Conduct and Ethics is posted on the Company’s website at www.lencomobile.com. The Company will post on its website any amendments to, or waivers from, any provision of its Code of Business Conduct and Ethics.
Communication between Shareholders and Directors
The Board of Directors does not currently have a formal process for shareholders to send communications to it. Nevertheless, every effort has been made to ensure that the views of shareholders are heard by the Board or by individual directors, as applicable, and that timely and appropriate responses are provided. The Board does not recommend that formal communication procedures be adopted at this time because it believes that informal communications are sufficient to communicate questions, comments and observations that could be useful to the Board. Shareholders wishing to formally communicate with the Board may send communications directly to James L. Liang, Lead Director, c/o Pablo Capital, LLC, 1102 A1A North -Suite 208, Ponte Vedra Beach, FL 32082.
Risk Assessment Related to the Company’s Compensation Programs
The Compensation Committee is primarily responsible for the design and oversight of our equity and executive compensation programs. The Compensation Committee also monitors the policies and practices of overall compensation programs and has reviewed and discussed the concept of risk as it relates to compensation programs. The Compensation Committee has concluded that none of compensation programs create risks that are reasonably likely to have a material adverse effect on the Company.
Item 11.
Item 11. Executive Compensation.
SUMMARY COMPENSATION TABLE
The following table contains information about compensation earned by our Chief Executive Officer and our other two most highly compensated executive officers (the “named executive officers”) for 2012 and 2011. Positions reported in the tables are those held by the named executive officers in 2012.
(1)Reflects the dollar amount recognized for financial statement reporting purposes with respect to the fiscal year in accordance with FASB ASC Topic 718. See Note 11, under the heading “Stock Options” in the Notes to Consolidated Financial Statements for assumptions made in determining these amounts.
(2)Reflects the value of Series A Preferred Stock issued on December 27, 2012 in connection with an election to convert certain amounts payable under the Retention Bonus Agreements, discussed below, to Series A Preferred Stock of the Company.
(3)Mr. Levinsohn’s employment agreement dated September 1, 2009 entitles him to receive a base salary in the amount of $25,000.00 per month.
2012 Elements of Compensation
The elements of our compensation for 2012 were base salary, bonus opportunity and equity awards. The compensation of our named executive officers is determined by the Compensation Committee in its discretion except to the extent specified in Mr. Levinsohn’s employment agreement.
Base Salary. Under the terms of an employment agreement entered with Mr. Levinsohn on September 1, 2009, Mr. Levinsohn is entitled to receive a monthly base salary of $25,000. Mr. Levinsohn agreed to accept less than that amount for 2012 and has agreed to accept a base salary of $275,000 for 2013. The Compensation Committee has the discretion to increase Mr. Levinsohn’s base salary, but has not done so.
Bonus. The Company established a bonus plan for 2012 that provided for a cash bonus opportunity for each of the named executive officers based on Company performance with respect to revenue and EBITDA targets. Target bonus opportunity and revenue and EBITDA targets were established by the Compensation Committee. Because 2012 performance targets were not met, none of the named executive officers received any bonus amounts for 2012.
Equity Awards. In March of 2012, the Company granted stock option awards to Mr. Harris and Mr. Kandiikattu under the Lenco Mobile Inc. 2011 Nonstatutory Stock Option Plan. These awards were made in connection with the acquisition of Archer USA and were fully vested at the time of grant. In April of 2012, the Company adopted the 2012 Incentive Plan, discussed below and granted stock options to the named executive officers under that plan. These options had vesting provisions that were based on Company achievement of certain revenue and EBITDA targets established by the Compensation Committee. The Compensation Committee retains discretion to make vesting determinations based on personal contributions of the named executive officers. For 2012, because performance targets were not met, no vesting of any shares occurred under the options granted under the 2012 Incentive Plan to Mr. Harris and Mr. Levinsohn. In March of 2013, the Compensation Committee determined that 1,000,000 of the shares subject to Mr. Kandikattu’s option would vest based on personal contributions of Mr. Kandikattu during 2012.
Employment Agreements
Levinsohn Employment Agreement. On September 1, 2009, the Company entered into an employment agreement with Mr. Levinsohn that provides for, among other things, a base salary of $25,000 per month, the opportunity to earn annual performance bonuses based on achievement of Company and personal objectives, and certain cash payments and benefits if Mr. Levinsohn is terminated without “cause” or resigns “for good reason” as those terms are defined in the employment agreement.
Retention Bonus Agreements. In connection with the acquisition of Archer USA, the Company entered into certain Retention Bonus Agreements with Mr. Harris and Mr. Kandikattu.
Pursuant to the agreement with Mr. Harris, Mr. Harris was entitled to receive a cash retention bonus of approximately $2.47 million and options to purchase 3.2 million shares of Company common stock. The stock option to purchase up to 3.2 million shares was issued in March of 2012 under the 2011 Nonstatutory Stock Option Plan. The retention bonus was payable in four installments: $87,500 by December 31, 2012, $580,000 on the earlier of a qualified financing of the Company of at least $10 million or July 1, 2012, $900,000 on December 27, 2012 and $900,000 on January 1, 2013. As of the December 31, 2012, all but the final $900,000 payment had been earned and issued or accrued. As permitted by his agreement, Mr. Harris elected to receive $300,000 of the $900,000 payment due on December 27, 2012 in the form of shares of Series A Preferred Stock. As a result of this election, the Company issued to Mr. Harris 1,681 shares of Series A Preferred Stock after withholding 1,083 shares from the gross total of 2,764 shares that was due to him.
Pursuant to the agreement with Mr. Kandikattu, Mr. Kandikattu was entitled to receive a cash retention bonus of approximately $287,505 and options to purchase 1.4 million shares of the Company common stock. The stock option to purchase up to 1.4 million shares was issued in March of 2012 under the 2011 Nonstatutory Stock Option Plan. The retention bonus was payable in four installments: $71,341 by December 31, 2012, $81,255 on the earlier of a qualified financing of the Company of at least $10 million or July 1, 2012, $75,000 on December 27, 2012 and $75,000 on January 1, 2013. As of the December 31, 2012, all but the final $75,000 payment had been earned and issued or accrued. As permitted by his agreement, Mr. Kandikattu elected to receive $75,000 payment due on December 27, 2012 in the form of Series A Preferred Stock. As a result of this election, the Company issued to Mr. Kandikattu 437 shares of Series A Preferred Stock after withholding 254 shares from the gross total of 691 shares that was due to him.
2012 Incentive Plan
Effective April 11, 2012, our Board of Directors approved the Lenco Mobile Inc. 2012 Incentive Plan. The purpose of the 2012 Incentive Plan is to attract, retain and motivate our employees, officers, directors, consultants, agents, advisors and independent contractors by providing them with the opportunity to acquire an equity interest in us and to align their interests and efforts to the long-term interests of our shareholders. The Board of Directors has delegated to the Compensation Committee the authority to administer the 2012 Incentive Plan. Awards may be granted under the 2012 Incentive Plan to our employees, officers, directors, consultants, agents, advisors and independent contractors and those of our subsidiaries and other related companies. The 2012 Incentive Plan initially authorizes the issuance of up to 53,000,000 shares of our common stock. In addition, any shares subject to outstanding awards under our 2009 Equity Incentive Plan and our 2011 Nonstatutory Stock Option Plan and subject to options assumed by the Company that were granted under the iLoop Mobile, Inc. Amended and Restated 2006 Equity Incentive Plan on the effective date of the 2012 Incentive Plan that subsequently cease to be subject to such awards (other than by reason of exercise or settlement of the awards in shares), will automatically become available for issuance under the 2012 Incentive Plan, up to an aggregate maximum of 20,510,405 shares. The 2012 Incentive Plan permits the grant of stock options, stock appreciation rights, stock awards, restricted stock, stock units, performance awards and other stock or cash-based awards.
Potential Payments on Termination or Change in Control
Mr. Levinsohn's Employment Agreement. Under the terms of his employment agreement, if we terminate Mr. Levinsohn’s employment without “cause” or Mr. Levinsohn terminates his employment for “good reason”, he is eligible to receive: (a) cash payments in an aggregate amount equal to 200% of his then annual base salary, with the first installment of cash severance being paid after a general release of claims has been executed and becomes effective (in an amount to account for the passage of time following his termination date in the event such first payment occurs more than one month after his termination date) and with the remaining amount of cash severance being paid in monthly pro-rata installments commencing thereafter; and (b) Company-paid medical insurance premiums after termination for up to 24 months. We will condition the payment of the severance benefits upon Mr. Levinsohn providing a release of claims against us, our affiliates and related parties. No severance benefit will be paid if Mr. Levinsohn resigns or if his employment is terminated for cause.
Further, pursuant to his employment agreement, in the event Mr. Levinsohn has received payments that are subject to golden parachute excise taxes, then such payments will be reduced to a level that would not subject him to golden parachute excise taxes unless, after comparing the value of the payments on an after-tax basis (including the golden parachute excise tax), he would be in a better economic position by receiving all payments.
Under the agreement, cause is defined as (i) any failure or refusal to fulfill his obligations under the agreement or material breach of the agreement, (ii) gross negligence, a material breach of his fiduciary duties or the commission of an act of fraud or embezzlement or misappropriation of any money or assets of the Company, (iii) engagement in conduct resulting in a material injury to the Company, or (iv) the conviction of or plea of guilty or nolo contendere of a felony or any crime or civil violation involving moral turpitude. Under the agreement, good reason is defined as a material diminution of his authority, duties or responsibilities, a reduction in his base salary or the Company's material breach of the agreement.
Mr. Harris' Retention Bonus Agreement. Under his retention bonus agreement, if Mr. Harris is terminated without cause or resigns for good reason, an aggregate amount of $1,567,500 will become immediately payable. Under the agreement, cause is defined as: (i) any willful breach or habitual neglect of his duties; (ii) any willful or intentional act that has the effect of injuring the reputation or business of the Company in any material respect; (iii) any continued or repeated absence from attending to the affairs of the Company, after receiving written notification from the Company of such absence, unless such absence is approved or excused by our Board of Directors; (iv) conviction of, or plea of nolo contendere to, any felony; or (v) personal dishonesty involving money or property of the Company that results in material harm to the Company. Under the agreement, good reasons is defined generally as a resignation within six months after any of the following events and conditions shall have occurred without Mr. Harris' express written consent and his timely notice to the Company: (i) the material breach of the agreement by Company; (ii) a material reduction in his then current salary and/or benefits, unless the salary and/or benefits of other executives are proportionately reduced; (iii) any other action by the Company that results in material diminution of his status, position, authority, duties or responsibilities; or (iv) the required relocation of his principal place of business by the Company more than 30 miles from its location as of the date of the agreement without his consent.
Mr. Kandikattu's Retention Bonus Agreement. Under his retention bonus agreement, if Mr. Kandikattu is terminated without cause or resigns for good reason, an aggregate amount of $212,000 will become immediately payable. Under the agreement, cause is defined as: (i) any willful breach or habitual neglect of his duties; (ii) any willful or intentional act that has the effect of injuring the reputation or business of the Company in any material respect; (iii) any continued or repeated absence from attending to the affairs of the Company, after receiving written notification from the Company of such absence, unless such absence is approved or excused by our Board of Directors; (iv) conviction of, or plea of nolo contendere to, any felony; or (v) personal dishonesty involving money or property of the Company that results in material harm to the Company. Under the agreement, good reasons is defined generally as a resignation within six months after any of the following events and conditions shall have occurred without Mr. Kandikattu’s express written consent and his timely notice to the Company: (i) the material breach of the agreement by Company; (ii) a material reduction in his then current salary and/or benefits, unless the salary and/or benefits of other executives are proportionately reduced; (iii) any other action by the Company that results in material diminution of his status, position, authority, duties or responsibilities; or (iv) the required relocation of his principal place of business by the Company more than 30 miles from its location as of the date of the agreement without his consent.
OUTSTANDING EQUITY AWARDS AT 2012 FISCAL YEAR END
The following table provides information regarding unexercised stock options held by each of the named executive officers as of December 31, 2012. There were no shares acquired pursuant to the exercise of options by each named executive officer during 2012.
(1) Stock options vest 1/12th of the shares of common stock underlying the options every quarter.
(2) On May 6, 2012, the Compensation Committee amended the 2/22/2011 options to reduce the exercise price to $0.12 per share, which it determined was the fair market value of our common stock on that date
(3) Michael Levinsohn’s initial grant, issued on February 22, 2011, was repriced from $2.15 to $0.12 on April 11, 2012.
(4) On March 11, 2013 the compensation committee vested 1,000,000 shares. He was granted an additional 1,000,000 shares as of March 11, 2013.
DIRECTOR COMPENSATION
(1)Reflects the dollar amount recognized for financial statement reporting purposes with respect to the fiscal year in accordance with FASB ASC Topic 178. See Note 11, under the heading “Stock Options” in the Notes to Consolidated Financial Statements for assumptions made in determining these amounts.
(2)Consists of amounts paid by the Company for health insurance premiums.
Director Compensation
We did not provide any cash compensation for any of our directors in 2012, other than the amounts paid on behalf of Mr. Liang for health insurance premiums.
In 2012, our Compensation Committee with the assistance of our chief executive officer undertook a review of compensation for non-employee directors in light of similarly situated companies and broader market trends. As a result of this review, the Compensation Committee recommended and the Board of Directors adopted an equity-based compensation program for 2012. Under this program, each nonemployee director in office since March 2011 received an option for the purchase of 500,000 shares that was fully vested on the date of grant. In addition, each nonemployee director received a grant of a stock option for the purchase of 1,200,000 shares, each such option having an exercise price equal to the then fair market value of the Company’s common stock and vesting in equal monthly installments over a three year period beginning on the date of the grant. This program continued during 2012, with each new director receiving a grant of a stock option for the purchase of 1,200,000 shares with similar terms, such option grant occurring on the date the new director is appointed to the Board of Directors.
Item 12.
Item 12. Security ownership of certain beneficial owners and management and related stockholder matters.
EQUITY COMPENSATION PLAN INFORMATION
As of December 31, 2012, we maintained four equity compensation plans that provide for the issuance of common stock to officers and other employees, directors and consultants. Two of these equity compensation plans, the Lenco Mobile Inc. 2009 Equity Incentive Plan and the iLoop Mobile Inc. Amended and Restated 2006 Equity Incentive Plan, have been approved by our stockholders or the stockholders of an acquired company. The Lenco Mobile, Inc. 2011 Nonstatutory Stock Option Plan and Lenco Mobile, Inc. 2012 Incentive Plan were not approved by our stockholders. The following table sets forth information regarding outstanding options and shares available for future issuance under these plans as of December 31, 2012:
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table presents information concerning the beneficial ownership of our stock as of March 15, 2013, by (i) each of our named executive officers and current directors, (ii) all of our current executive officers and directors as a group and (iii) each person we know to be the beneficial owner of 5% of more of our outstanding stock. Unless otherwise specified, the address of each beneficial owner listed in the table is c/o Lenco Mobile Inc., 2025 First Ave., Suite 320, Seattle, WA 98121.
The number of shares outstanding used in calculating the percentage of beneficial ownership for each person listed below includes the shares underlying options held by such persons that are exercisable within 60 days of March 15, 2013 and includes shares underlying warrants, preferred stock and any other convertible securities held by such persons, but excludes shares underlying options, warrants, preferred stock and any other convertible securities held by any other person.
Our Series A Preferred Stock generally votes on an as-converted basis together with the holders of common stock as a single class and is convertible into shares of common stock at the earlier of (i) the second anniversary of the original issue date of the stock and (ii) the date that our EBITDA over the prior four fiscal quarters exceeds $15 million. The earliest second anniversary date for the Series A Preferred Stock is September 23, 2012. Accordingly, the shares of common stock into which the Series A Preferred Stock is convertible are included in the number of shares of common stock beneficially held in the table below.
Our Series A1 Preferred Stock also votes on an as-converted basis together with the holders of common stock as a single class and is convertible into shares of common stock at any time. None of the persons listed in the table below are beneficial owners of shares of our Series A1 Preferred Stock.
Our Series B1 Preferred Stock and Series B2 Preferred Stock are convertible into shares of our common stock at any time. The holders of Series B1 Preferred Stock and Series B2 Preferred Stock do not have voting rights except for limited protective provisions. Accordingly, the shares of common stock into which the Series B1 Preferred Stock and Series B2 Preferred Stock are convertible are not included in the number of shares of our common stock beneficially held in the table below.
Except as indicated by the footnotes below, we believe, based on the information furnished to us, that the persons and entities named in the table below have sole voting and investment power with respect to all shares of common stock that they beneficially own, subject to applicable community property laws.
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(1)Common stock beneficially owned consists of (i) 2,450,000 shares held by Mr. Levinsohn, (ii) 333,333 shares underlying exercisable options, (iii) 250,000 shares underlying options that are exercisable within 60 days of March 15, 2013, (iv) 60,000 shares underlying warrants held by Sterling Capital Partners, Inc., (v) 2,570,453 shares underlying Series A Preferred Stock held by Sterling Capital Partners, Inc., and (vi) 9,700,000 shares held by Rendez-Vous Management Limited. Rendez-Vous Management Limited is wholly owned by a trust. Mr. Levinsohn is one of a class of beneficiaries of the trust that owns Rendez-Vous Management Limited. BasCorp Services Limited is the sole corporate director of Rendez-Vous Management Limited and has the power to control the voting and disposition of the shares held by Rendez-Vous Management Limited. BasCorp Services Limited has five directors. BasCorp Services Limited has voting and disposition power over the shares held by Rendez-Vous Management Limited through a vote by any two of BasCorp Services Limited’s directors. The directors of BasCorp Services Limited disclaim any beneficial interest in the shares. The warrants and Series A Preferred Stock are held by Sterling Capital Partners, Inc. Mr. Levinsohn is the chief executive officer of Sterling Capital Partners, Inc. Mr. Levinsohn disclaims beneficial ownership of the shares held by Rendez-Vous Management Limited and the warrants and shares held by Sterling Capital Partners, Inc.
(2)Common stock beneficially owned consists of (i) 3,200,000 fully vested options, (ii) 600,000 shares underlying warrants held by Mr. Harris, and (iii) 2,842,500 shares underlying 4,718 shares of Series A Preferred Stock held by Mr. Harris and 1,502 shares of Series A Preferred Stock held by CGM-IRA Custodian FBO Matthew Harris.
(3)Common stock beneficially owned consists of (i) 2,830,602 shares underlying fully vested options, (ii) 12,000 shares underlying warrants, and (iii) 200,408 shares underlying Series A Preferred Stock held by Mr. Kandikattu.
(4)Common stock beneficially owned consists of (i) 2,550,000 shares held by Mr. Liang, (ii) 800,000 shares underlying fully vested options, (iii) 100,000 shares underlying options that are exercisable within 60 days of March 15, 2013, (iv) 2,400,000 shares underlying warrants, and (v) 9,650,778 shares underlying 15,323 shares of Series A Preferred held by Mr. Liang, 4,275 shares of Series A Preferred Stock held by Paula L. Liang, 482 shares of Series A Preferred Stock held by a trust for the benefit of Benjamin Liang, 482 shares of Series A Preferred Stock held by a trust for the benefit of Margaret Liang and 482 shares of Series A Preferred Stock held by a trust for the benefit of Katherine Liang.
(5)Common stock beneficially owned consists of (i) 4,927,339 shares held by Mr. Larsen, (ii) 300,000 shares underlying fully vested options, (iii) 100,000 shares underlying options that are exercisable within 60 days of March 15, 2013, (iv) 18,041,480 shares underlying shares of Series B1 Preferred Stock held by Mr. Larsen, and (v) 7,918,125 shares underlying shares of Series B2 Preferred Stock held by Mr. Larsen.
(6)Common stock beneficially owned consists of (i) 100,000 shares underlying fully vested options, (ii) 100,000 shares underlying options that are exercisable within 60 days of March 15, 2013, (iii) 4,500,000 shares underlying warrants, and (iv) 4,253,056 shares underlying shares of Series A Preferred Stock held by Mr. Schaffer.
(7)Common stock beneficially owned consists of (i) 100,000 shares underlying fully vested options, and (ii) 100,000 shares underlying options that are exercisable within 60 days of March 15, 2013.
(8)BasCorp Services Limited is the sole corporate director of Rendez-Vous Management Limited and has the power to control the voting and disposition of the shares held by Rendez-Vous Management Limited. BasCorp Services Limited has five directors. BasCorp Services Limited has voting and disposition power over the shares held by Rendez-Vous Management Limited through a vote by any two of BasCorp Services Limited’s directors. The directors of BasCorp Services Limited disclaim any beneficial interest in the shares. The address for Rendez-Vous Management Limited is c/o BasCorp Services Limited, 24 Router des Acacias, 1227 Les Acacias, Geneva, Switzerland.
(11)Common stock beneficially owned consists of (i) 54,872,407 shares underlying shares of Series A Preferred Stock held by Pablo Enterprises LLC. and (ii) 9,000,000 shares underlying warrants.
Item 13.
Item 13. Certain Relationships and Related Transactions and Director Independence.
Related Person Transactions
We did not enter into any transactions with related persons during the year ended December 31, 2012 in which the amount involved exceeded the lesser of $120,000 or one percent of the average of our total assets at year-end for the last two completed fiscal years except for those transactions discussed below.
We have adopted a written policy in the Audit Committee Charter that our Audit Committee will review and approve all proposed related person transactions that would require disclosure pursuant to Item 404 of Regulation S-K or any other transaction involving the Company and any other person where the parties’ relationship is not arms’-length. The Audit Committee will review every transaction, or series of transactions, proposed or entered into by the Company, in which the amount exceeds $120,000, in which any of the following persons will have a direct or indirect material interest: (i) any director or executive officer of the Company; (ii) any nominee for election as a director; (iii) any holder of our securities owning more than 5% of any class of Company stock and (iv) any member of the immediate family of any of the foregoing.
In July and August 2012, we entered into Note Purchase Agreements and issued the Series Notes in the aggregate principal amount of $4.0 million. The debt financing was completed in three closings, the first on July 30, 2012, the second on August 3, 2012 and the third on August 21, 2012. The Lenders included James L. Liang, a director of the Company, Michael Levinsohn, the Executive Chairman of our Board of Directors and a director of the Company, Chris Dukelow, our Chief Financial Officer, a retirement account for the benefit of Matthew Harris, our Chief Executive Officer, Robert J. Chiumento, Managing Director of Healthcare and Srinivas Kandikattu, our Chief Operating Officer. The terms of the debt financing, were substantially the same for all lenders.
On July 30, 2012, we issued the Larsen Note to Jorgen Larsen, a director of the Company, in the amount of $2.5 million. The Senior Notes accrue interest on the unpaid principal amount at a rate of 12% per annum, compounded quarterly. The Senior Notes are secured by a first priority security interest in substantially all of the Company's assets and are due in July and August 2014. The Larsen Note was issued by the Company in connection with our repayment of the outstanding amount of the Bank Loan.
In March 2012, Mr. Liang loaned the Company $50,000 pursuant to a promissory note that accrues interest at 20%.
In March and June of 2012, we entered into purchase agreements with Matthew Harris, our Chief Executive Officer, pursuant to which we agreed to sell an aggregate of 1,502 shares of our Series A Convertible Preferred Stock at a purchase price of $165,000.
Sterling Capital Partners, Inc., of which Mr. Levinsohn is the Chief Executive Officer, loaned the Company $200,000 in October 2011 pursuant to a promissory bridge note dated November 3, 2011. The note included interest at 8% and was due on the earlier of a change of control of the Company (as defined in the note) or July 31, 2012. The debt was converted into 1,855 shares of our Series A Preferred Stock at a price of $108 per share on December 27, 2011.
Mr. Liang loaned the Company $250,000 in November 2011 pursuant to a promissory bridge note dated November 21, 2011. The promissory note included interest at 8% and was due on the earlier of a change of control of the Company (as defined in the note) or July 31, 2012. The debt was converted into 2,318 shares of our Series A Preferred Stock at a price of $108 per share on December 27, 2011.
BAJL Investments, LLC, a Delaware corporation in which Mr. Liang is a partner, was an investor in Archer USA, having loaned Archer USA $1.0 million pursuant to the terms of a promissory note dated August 11, 2011. This debt was converted into 13,912 shares of our Series A Preferred Stock at a price of $108 per share on December 27, 2011.
In January 2012, Messrs. Harris, Ballard, Kandikattu and Becker elected to receive Series A Preferred Stock in lieu of certain amounts owed under their respective Retention Bonus Agreements.
On December 1, 2011, we and two of our wholly-owned subsidiaries, Lenco Media Inc. and Lenco Multimedia Inc., entered into an asset purchase agreement with MDMD Ventures, LLC and its wholly-owned subsidiary, RadioLoyalty, Inc., pursuant to which we sold certain assets and assigned certain liabilities that comprised our broadcast media business to RadioLoyalty. Michael Hill, our former chief strategy officer, is the principal beneficial owner of MDMD Ventures, LLC. RadioLoyalty assumed substantially all of our ongoing contracts and other obligations related to the business and agreed to pay up to $2.5 million in cash. The cash portion of the purchase price is payable in monthly installments on the basis of 3.5% of the revenue recognized by RadioLoyalty during the period commencing on November 1, 2011 and ending on November 1, 2014, subject to the maximum of $2.5 million. The asset purchase agreement includes representations, warranties and covenants by each of the parties to the agreement that are customary for an asset sale of this kind. We agreed to indemnify MDMD Ventures and RadioLoyalty for, among other things, any breach or inaccuracy of any the representations, warranties or covenants in the asset purchase agreement. We further agreed to indemnify MDMD Ventures and RadioLoyalty against any claims made by John Williams, Jeff Pescatello and Todd Wooten arising out of the merger agreement that we entered into for the acquisition of Jetcast. Our maximum indemnification obligation under the asset purchase agreement is $3 million. Messrs. Williams, Pescatello and Wooten founded Jetcast, from which we acquired the assets in 2010, and managed our broadcast media business.
Item 14.
Item 14. Principal Accounting Fees and Services.
PRINCIPAL ACCOUNTANT AUDIT FEES AND SERVICES FEES
We selected Peterson Sullivan LLP as our independent registered public accounting firm in February 2012 for our fiscal year ended 2012 audit.
For purposes of the tables below:
The following table sets forth the aggregate fees billed or expected to be billed for services from January 1, 2012 to December 31, 2012 by Peterson Sullivan LLP:
Audit Committee Pre-Approval Policies and Procedures
The policy of the audit committee of our board of directors is to pre-approve all audit and permissible non-audit services provided by our independent auditors. These services may include audit services, audit-related services, tax services and other services. Pre-approval is generally provided for up to one year and any pre-approval is detailed as to the particular service or category of services. The independent auditor and management are required to periodically report to the audit committee regarding the extent of services provided by the independent auditor in accordance with this pre-approval.
PART IV
Item 15.
Item 15. Exhibits and Financial Statement Schedules.
The following documents are filed as part of this report:
(2) Financial Statement Schedules. The following financial statement schedules are included under Item 8 or required by Item 15(b) of this report: None.
(3) Exhibits. The exhibits listed in the accompanying Exhibit Index are filed or incorporated herein by reference.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, Lenco Mobile Inc., the registrant, has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below hereby severally constitutes and appoints Matthew Harris and Chris Dukelow, and each of them, his true and lawful attorney-in-fact and agent, with full power of substitution and re-substitution for him and in his name, place and stead, in any and all capacities to sign any and all amendments to this report, and to file the same, with all exhibits thereto, and other documents in connection therewith, with the Commission, granting unto said attorney-in-fact and agents, and each of them, full power and authority to do and perform each and every act and thing requisite or necessary fully to all intents and purposes as he might or could do in person, hereby ratifying and confirming all that each said attorneys-in-fact and agents or any of them or their or his substitute or substitutes, may lawfully do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of Lenco Mobile Inc., in the capacities and on the dates indicated.
April 2, 2013
/s/ Michael Levinsohn
Michael Levinsohn, Executive Chairman of the Board
April 2, 2013
/s/ Matthew Harris
Matthew Harris, Chief Executive Officer and Director (Principal Executive Officer)
April 2, 2013
/s/ Chris Dukelow
Chris Dukelow, Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer)
April 2, 2013
/s/ Derace Schaffer, M.D
Derace Schaffer, Director
April 2, 2013
/s/ Michael Durden
Michael Durden, Director
April 2, 2013
/s/ Jorgen Larsen
Jorgen Larsen, Director
April 2, 2013
/s/ James Liang
James Liang, Director
EXHIBIT INDEX
* Management contract or compensatory plan or arrangement