ITEM 1. BUSINESS
General
MobileSmith, Inc. (referred to herein as, “MobileSmith,” the “Company,” “us,” “we,” or “our”) was incorporated in Delaware in August 1993 and became a public company through a self-registration in February 2005. The Company’s common stock trades on the OTC Market (OTC.QB) under the symbol “MOST”.
Principal Products and Services
We develop and market a software-as-a-service (“SaaS”) platform that allows non-programmers to rapidly design and build native mobile applications for smartphones and tablets. Our flagship product is the MobileSmith® Platform (the “Platform”). Platform related services often include data integration, training and integration of third party services. We also provide consulting services, which include assistance with design and implementation of mobile strategy, implementation of mobile marketing strategy and the development of mobile apps.
Mode of Operations
In our business model - the customers acquire access to the Platform through user subscription agreements and are able to obtain control of mobile app production. We often refer to our business model as platform-as-a-service ("PaaS"), because we not only offer cloud software to create mobile apps, we offer infrastructure to host the newly created mobile apps and back-office tools to manage those apps. Out Platform is a truly comprehensive offering and thus more accurately described by the PaaS model. In the industry and this report terms SaaS and PaaS may be used interchangeably as common reference to cloud computing model.
Our business model allows for creation and management of any desired number of apps by our customers for a monthly subscription fee. The on-demand PaaS model developed using multi-tenant architecture enables end users to visit a website and use the PaaS applications, all via a web browser, with no installation, no special information technology knowledge and no maintenance. The PaaS application is transformed into a service that can be used anytime and anywhere by the end user. Multi-tenant PaaS applications also permit us to add needed functionality to our applications in one location for the benefit of all end users. This capability allows us to provide upgrades universally.
During 2014, for the first time we installed our Platform in a local or a private cloud configuration for one of our government clients. Our Platform was safely placed behind the firewalls of a government department which would allow the organization to create and manage multiple mobile apps with targeted functionality for targeted audiences without going outside of the secure setting.
Target Market and Sales Channels
We identified several trends that are affecting our target market:
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Mobile devices have transformed the way end-users interact with each other, and allow for new efficiencies for business to structure both customer and employee interactions;
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Technology departments cannot keep up with the demand for the business transforming apps required by both operational business units and marketing departments;
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Non-programmers have become accustomed to solving business problems with do-it-yourself (DIY) software technologies, such as website building, business process management, customer relationship management and others.
We believe that the do-it-yourself model for creation and management of apps will become a cost effective solution for enterprise clients who have an ever increasing need to interact with their customers and employees through mobile devices. Single apps may reach their limits of usability very quickly, if made complex. The Platform provides the subscriber with the capacity to create multiple, customized non-template apps with designated functionalities and specific designs without incurring additional costs.
Our market penetration strategy focuses on three distinct sectors:
Healthcare clients:
Healthcare organizations, such as hospitals and healthcare networks, follow departmental segmentation and focus on a specific territorial reach. Additionally, healthcare organizations are subject to increased regulation as a result of the Affordable Care Act (ACA) and may be subject to penalties for delivering inefficient care under new Medicare regulations. Regardless of whether under the new administration ACA is to stay, to be modified or to be repealed and replaced, the drive to deliver healthcare services cost effectively will remain. As such, hospitals increasingly turn to portfolios of apps to improve efficiency of care and communication and remain competitive. Outpatient care apps, wellness apps, physician referral apps, appointment apps, discharge apps, facility way-finding apps are just a few example areas where healthcare organizations are increasingly using app portfolios. We believe that the Platform has a significant competitive advantage in the healthcare space due to its ability to deliver a variety of targeted mobile solutions cost effectively.
Enterprise clients:
The second sector combines all other large and multi-national enterprise clients, where large-scale customization based on functionality or territory is of the highest value, and other contributors such as time to market, technology reach, and ease of use play important roles. These target clients may include large food chains, media and PR companies, software solutions providers, hardware manufacturers, mortgage brokers and real estate franchises.
Government:
We believe that the Platform has a unique capability to service various structures within federal, state and local governments, as government structure is highly segmented by function and territory. In addition, the Platform can be safely placed behind the firewalls of individual departments, where data security is a primary concern. Replicating the Platform and placing it behind a secure firewall would allow an organization to create and manage multiple mobile apps with targeted functionality for targeted audiences without going outside of the secure firewall.
Principal Customers
We had two customers in 2015 and one customer in 2016 that accounted for more than 10% of our revenues. Due to fact that revenue generated in both years is low in comparison to overall operating costs, we believe that the loss of any of those customers would not have a significant impact on results of operations.
Research and Development
In 2016 we continued to enhance the Platform with various functionalities sought by current and target customers. We continuously monitor such demand, rapidly develop the functionalities and make them available to all our customers, current and future.
During 2016, we introduced the following upgrades and functionalities to the Platform:
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Added capability for any app created on our Platform to feature a schedule of process milestones with in-app reminders and messages to improve process adherence. Our healthcare customers use this feature to transform preoperative and postoperative care instructions to improve patient experience, reduce cancellations and preventable readmissions.
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Implemented an App Blueprints ("Blueprints") feature. Blueprints are fully customizable pre-built apps that were designed to address well known pain points of healthcare industry, such as coordination of care and patient engagement. With an implementation of "clone app" feature Platform users will not need to build an app from scratch, but rather start with an existing app or one of the Blueprints and adapt the app to the tasks at hand, target specific patient experience concerns, patient care workflows and design needs.
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Introduced advanced analytics capabilities to determine client usage with the Platform and end app user engagement with apps built on the Platform.
We incurred research and development expenses of approximately $1.7 million and $1.4 million in 2016 and 2015, respectively.
Competition
Generally, three principal solutions exist for enterprises in need of a mobile native (non-HTML 5) application, (a native app is compiled in code that is designed to run specifically on a mobile device and take advantage of all technical aspects of a smart phone; HTML 5 app is a web-site with user interface of an app):
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A customer may hire an enterprise software application vendor and outsource the creation of a mobile app based on the defined specifications. A customer often does not have control over the creation of the final product and any subsequent modifications of the delivered product.
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A large company with existing in-staff development teams may acquire a subscription to a Mobile Application Development Platform (“MADP”). MADP space is represented by the following solutions: HP’s Anywhere Mobile Development Platform, SAP’s Sybase Unwired Platform, IBM’s Worklight, KONY Solutions, Appcelerator, and Xamarin(now part of Microsoft). Customers that use an MADP have full control over creation of the mobile apps, but are required to have developers on staff.
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A company may subscribe to one of several do-it-yourself platforms (“DIY platforms”). Customers that use a DIY platform have full control over the app creation process and developer knowledge is not required to produce those apps. Current DIY platforms predominantly have narrow specializations (e.g., event app creation platforms).
MobileSmith differentiates itself from its competition because:
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The Platform allows for creation of apps with sophisticated functionality;
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The Platform is designed for use by ordinary users who are not professional developers. The primary users of the Platform within our customers' organizations are marketing and designer teams - individuals who have the best understanding of the behavior and demands of the end users of the apps; and
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We developed significant expertise in application of mobile app technology in healthcare.
Intellectual Property
During 2014, we stopped pursuing the majority of our patent applications as we determined that the cost of pursuing them to be greater than the potential protection to be provided by them. Nevertheless, we do have several patent applications that were filed prior to our change of patent strategy.
We have several trademark applications pending with the U.S. Patent and Trademark Office. These trademarks, if granted, will cover certain names that identify specifics of the Platform user interface.
Employees
As of December 31, 2016, we had 35 full time employees and no part time employees. None of our employees are subject to collective bargaining agreements.
Available Information
Our corporate information is accessible through our main web portal at www.MobileSmith.com. We are not including the information contained on our website as a part of, or incorporating it by reference into, this Annual Report on Form 10-K. Although we endeavor to keep our website current and accurate, there can be no guarantees that the information on our website is up to date or correct. We make available, free of charge, access to all reports filed with the U.S. Securities and Exchange Commission (the “SEC”), including our Annual Reports on Form 10-K, our Quarterly Reports on Form 10-Q, our Current Reports on Form 8-K, and amendments to these reports, filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act, as soon as reasonably practicable after we electronically file such material with, or furnish it to, the SEC. The Company’s reports filed with, or furnished to, the SEC are also available on the SEC’s website www.sec.gov.
ITEM 1A.
ITEM 1A. RISK FACTORS
You should carefully consider the risks described below and elsewhere in this Annual Report on Form 10-K before making an investment decision. Our business, financial condition or results of operations could be materially adversely affected by any of these risks. Our common stock is considered speculative and the trading price of our common stock could decline due to any of these risks, and you may lose all or part of your investment. The following risk factors are not the only risk factors facing the Company. Additional risks and uncertainties not presently known to us or that we currently deem immaterial may also affect our business.
Historically, we have operated at a loss, and we continue to do so.
We have had recurring losses from operations and continue to have negative cash flows. If we do not become cash flow positive through additional financing or growth, we may have to cease operations and liquidate our business.
We are dependent on existing and other investors for the financing of our operations and their inability or unwillingness to fund our operations can have a material adverse effect on our operations.
We have not yet achieved positive cash flows from operations, and our main source of operating funds is the sale of notes under two convertible note facilities that we implemented. See Item 7, “Management’s Discussion and Analysis “Liquidity and Capital Resources”. Since November 2007 and through the date of this report, we have raised approximately $43 million through these note facilities and we have the ability to raise up to an additional $31 million under such facilities from existing note holders and others upon request. However, no assurance can be provided that we will in fact be able to raise needed amounts through the facilities or through any other sources on commercially reasonable terms. If financing through the note facilities becomes unavailable, we will need to seek other sources of funding. The inability to raise additional funds when needed, whether through the note facilities or otherwise, may have a material adverse effect on our operations.
A Default by us in respect of the amounts outstanding on the notes outstanding under the note facilities and the commercial bank loans when due in 2018 would enable these creditors to foreclose on our assets.
The Notes currently outstanding under the Convertible Note Facilities, which together with interest accrued as of the date of this report on Form 10-K aggregate approximately $43 million, come due in November 2018. In addition, we have an outstanding Loan and Security Agreement (the “LSA”) with Comerica Bank in the amount of $5,000,000, which matures in June of 2018 and is secured by an extended irrevocable letter of credit issued by UBS AG (Geneva, Switzerland) (“UBS AG”) with a renewed term expiring on May 31, 2017, which term is renewable for one year periods, unless notice of non-renewal is given by UBS AG at least 45 days prior to the then current expiration date. The provision of any such notice by UBS will constitute an event of default under the LSA, at which time all amounts outstanding under the LSA will become due and payable. As of the date of this report on Form 10-K, no such notice has been provided to us nor have we been provided with any indication that we are to receive notice of non-renewal of the letter of credit.
Unless we can defer payment on the notes or such notes are in fact converted into our common stock, of which no assurance can be provided, we will need to find other sources of funding to pay the amounts that are scheduled to come due in November 2018. We also have no commitment from any funding source should UBS elect to not renew the letter of credit.
Furthermore, the amounts under the LSA as well as approximately $31 million under the Notes, are secured by a lien on our assets. A default by us under these notes or the LSA would enable these creditors to foreclose on our assets. Additionally, the non-renewal of the letter of credit securing the UBS note, which is currently scheduled to expire on May 31, 2017, would also trigger an event of default under the LSA as well as the outstanding notes. Any foreclosure could force us to substantially curtail or cease our operations.
Our independent registered public accounting firm indicates that it has substantial doubt that we can continue as a going concern. Our independent registered public accounting firm’s opinion may negatively affect our ability to raise additional funds, among other things. If we fail to raise sufficient capital, we will not be able to implement our business plan, we may have to liquidate our business, and you may lose your investment.
Cherry Bekaert LLP, our independent registered public accounting firm, has expressed substantial doubt in its report included within this Annual Report on Form 10-K about our ability to continue as a going concern given our recurring losses from operations and deficiencies in working capital and equity, which are described in the first risk factor above. This report could materially limit our ability to raise additional funds by issuing new debt or equity securities or otherwise. If we fail to raise sufficient capital, we will not be able to implement our business plan, we may have to liquidate our business, and you may lose your investment. You should consider our independent registered public accounting firm’s report when determining if an investment in us is suitable.
The delivery of software via the SaaS business model is more vulnerable to cyber-crime than the sale of pre-packaged software.
Our service involves the storage and transmission of customers’ proprietary information. If our security measures are breached as a result of third-party action, employee error, malfeasance or otherwise and, as a result, unauthorized access is obtained to our customers’ data or our data, our reputation could be damaged, our business may suffer, and we could incur significant liability. In addition, third parties may attempt to fraudulently induce employees or customers to disclose sensitive information such as user names, passwords, or other information in order to gain access to our customers’ data or our data, which could result in significant legal and financial exposure and a loss of confidence in the security of our service that would harm our future business prospects. Because the techniques used to obtain unauthorized access, or to sabotage systems, change frequently and generally are not recognized until launched against a target, we may be unable to anticipate these techniques or to implement adequate preventative measures. If an actual or perceived breach of our security occurs, the market perception of the effectiveness of our security measures could be harmed and we could lose sales and customers.
Our business is currently dependent on the success of a single product, the Platform, and related services.
Our business model is dependent on the commercial success of the Platform. Our future financial performance and revenue growth will depend on acceptance by the market of our vision that mobile app development by a non-developer will become a mainstream solution for businesses of all sizes. Our growth is dependent on the introduction of new features to the Platform and innovation in the area of mobile app development solutions for a wide range of customers.
Government regulation may subject us to liability or require us to change the way we do business.
The laws and regulations that govern our business change rapidly. Evolving areas of law that are relevant to our business include privacy and security laws, proposed encryption laws, content regulation, information security accountability regulation, sales and use tax laws and regulations and attempts to regulate activities on the Internet. In addition to being directly subject to certain requirements of the HIPAA privacy and security regulations, we are required through contracts with our customers known as “business associate agreements” to protect the privacy and security of certain personal and health related information. We are required to comply with revised requirements under the HIPAA privacy and security regulations. The rapidly evolving and uncertain regulatory environment could require us to change how we do business or incur additional costs. Further, we cannot predict how changes to these laws and regulations might affect our business. Failure to comply with applicable laws and regulations could subject us to civil and criminal penalties, subject us to contractual penalties, including termination of our customer agreements, damage our reputation and have a detrimental impact on our business.
Our propriety rights may prove difficult to enforce.
Our Platform technology is not patent protected and is not exclusive to us, as there are various platforms in the market that allow for creation of mobile apps, ranging from “do it yourself” platforms for creation of template apps to platform tools designed for use by developers. Although we consider our Platform unique, that it allows for creation of sophisticated mobile apps by non-developers, there is no guarantee that another company will not build a similar platform.
Furthermore, many key aspects of networking technology are governed by industry wide standards, which are usable by all market entrants. Although we are not dependent on any individual patents or group of patents for particular segments of the business for which we compete, if we are unable to protect our proprietary rights to the totality of the features (including aspects of products protected other than by patent rights) in a market, we may find ourselves at a competitive disadvantage to others who need not incur the substantial expense, time, and effort required to create innovative products that have enabled us to be successful.
We may be found to infringe on intellectual property rights of others.
Third parties, including customers, may in the future assert claims or initiate litigation related to exclusive patent, copyright, trademark, and other intellectual property rights to technologies and related standards that are relevant to us. Because of the existence of a large number of patents in the mobile apps field, the secrecy of some pending patents, and the rapid rate of issuance of new patents, it is not economically practical or even possible to determine in advance whether a product or any of its components infringes or will infringe on the patent rights of others. The asserted claims and/or initiated litigation can include claims against us or our manufacturers, suppliers, or customers, alleging infringement of their proprietary rights with respect to our existing or future products or components of those products. Regardless of the merit of these claims, they can be time-consuming, result in costly litigation and diversion of technical and management personnel, or require us to develop a non-infringing technology or enter into license agreements. Where claims are made by customers, resistance even to unmeritorious claims could damage customer relationships. There can be no assurance that licenses will be available on acceptable terms and conditions, if at all, or that our indemnification by our suppliers will be adequate to cover our costs if a claim were brought directly against us or our customers. Furthermore, because of the potential for high court awards that are not necessarily predictable, it is not unusual to find even arguably unmeritorious claims settled for significant amounts. If any infringement or other intellectual property claim made against us by any third party is successful, if we are required to indemnify a customer with respect to a claim against the customer, or if we fail to develop non-infringing technology or license the proprietary rights on commercially reasonable terms and conditions, our business, operating results, and financial condition could be materially and adversely affected.
Our exposure to risks associated with the use of intellectual property may be increased as a result of acquisitions, as we have a lower level of visibility into the development process with respect to such technology or the care taken to safeguard against infringement risks.
Officers, directors, principal stockholders and other related parties control us. This might lead them to make decisions that do not align with interests of minority stockholders.
Our principal stockholders beneficially own or control a large percentage of our outstanding common stock. Certain of these principal stockholders hold Notes, which may be exercised or converted into additional shares of our common stock under certain conditions. The Noteholders have designated a bond representative to act as their agent. We have agreed that the bond representative shall be granted access to our facilities and personnel during normal business hours, shall have the right to attend all meetings of the Board of Directors and its committees, and shall receive all materials provided to the Board of Directors or any committee. In addition, so long as the Notes are outstanding, we have agreed that we will not take certain material corporate actions without approval of the bond representative.
Our principal stockholders, acting together, would have the ability to control substantially all matters submitted to our stockholders for approval (including the election and removal of directors and any merger, consolidation, or sale of all or substantially all of our assets) and to control our management and affairs. Accordingly, this concentration of ownership may have the effect of delaying, deferring, or preventing a change in control of us; impeding a merger, consolidation, takeover, or other business combination involving us; or discouraging a potential acquirer from making a tender offer or otherwise attempting to obtain control of us, which in turn could materially and adversely affect the market price of our common stock.
Mr. Avy Lugassy controls Grasford Investments Ltd. (“Grasford”). As of December 31, 2016, Grasford holds 8,830,269, or 45%, of the Company’s issued and outstanding common stock and approximately $13.83 million in aggregate principal amount of our promissory notes, which are currently convertible at the election of the holder into approximately an additional 9,668,729 shares of common stock. Being a significant owner of our company, Mr. Lugassy may exercise significant influence on our operations through his ability to vote his shares.
In addition, as of the date of this report, Union Bancaire Privée (“UBP”) holds $27,267,180 in aggregate principal amount of the Notes. Because UBP may convert its Notes upon request, if UBP so converts, it would acquire a significant percentage of our then outstanding shares of common stock and, like Grasford, would be able to exercise significant influence on the Company’s operations as a result.
Future utilization of net operating loss carryforwards may be limited.
In accordance with Section 382 of the Internal Revenue Code of 1986, as amended, a change in equity ownership of greater than 50% of the Company within a three-year period can result in an annual limitation on the Company’s ability to utilize its net operating loss carryforwards that were created during tax periods prior to the change in ownership. A change in ownership may result from the issuance of shares of the Company’s common stock pursuant to conversion of the Notes or any other event that would result in the issuance of common or preferred shares of the Company, among other events.
Any future issuance of our shares of common stock could have a dilutive effect on the value of our existing shares of common stock.
The conversion price on our outstanding convertible promissory notes is fixed at $1.43. As of the date of this report, we have $41,093,462 of Notes outstanding convertible into 28,736,687 shares of common stock. As we continue to issue more notes, the number of conversion shares will increase.
The ability of our Board of Directors to issue additional stock may prevent or make more difficult certain transactions, including a sale or merger of the Company.
Our Board of Directors will be authorized to issue up to 5,000,000 shares of preferred stock with powers, rights and preferences designated by it Shares of voting or convertible preferred stock could be issued, or rights to purchase such shares could be issued, to create voting impediments or to frustrate persons seeking to effect a takeover or otherwise gain control of the Company. The ability of the Board of Directors to issue such additional shares of preferred stock, with rights and preferences it deems advisable, could discourage an attempt by a party to acquire control of the Company by tender offer or other means. Such issuances could therefore deprive stockholders of benefits that could result from such an attempt, such as the realization of a premium over the market price for their shares in a tender offer or the temporary increase in market price that such an attempt could cause. Moreover, the issuance of such additional shares of preferred stock to persons friendly to the Board of Directors could make it more difficult to remove incumbent officers and directors from office even if such change were to be favorable to stockholders generally.
There currently is no active public market for our Common Stock and there can be no assurance that an active public market will ever develop. Failure to develop or maintain a trading market could negatively affect the value of our Common Stock and make it difficult or impossible for you to sell your shares.
There is currently no active public market for shares of our Common Stock and one may never develop. Our Common Stock is quoted on the OTC Markets, QB Tier. The OTC Markets is a thinly traded market and lacks the liquidity of certain other public markets with which some investors may have more experience. Our shares of common stock are traded infrequently and even an insignificant investment in our shares of common stock may be illiquid.
We may not ever be able to satisfy the listing requirements for our Common Stock to be listed on a national securities exchange, which is often a more widely-traded and liquid market. Some, but not all, of the factors which may delay or prevent the listing of our Common Stock on a more widely-traded and liquid market include the following: our stockholders’ equity may be insufficient; the market value of our outstanding securities may be too low; our net income from operations may be too low; our Common Stock may not be sufficiently widely held; we may not be able to secure market makers for our Common Stock; and we may fail to meet the rules and requirements mandated by the several exchanges and markets to have our Common Stock listed. Should we fail to satisfy the initial listing standards of the national exchanges, or our Common Stock is otherwise rejected for listing, and remains listed on the OTC Markets or is suspended from the OTC Markets, the trading price of our Common Stock could suffer and the trading market for our Common Stock may be less liquid and our Common Stock price may be subject to increased volatility, making it difficult or impossible to sell shares of our Common Stock.
Penny Stock Regulations are applicable to investment in shares of our Common Stock.
Broker-dealer practices in connection with transactions in "penny stocks" are regulated by certain penny stock rules adopted by the SEC. Penny stocks generally are equity securities with a price of less than $5.00 (other than securities registered on certain national securities exchanges, provided that current prices and volume information with respect to transactions in such securities are provided by the exchange or system). Penny stock rules require a broker-dealer, prior to a transaction in a penny stock not otherwise exempt from the rules, to deliver a standardized risk disclosure document that provides information about penny stocks and the risks in the penny stock market. The broker-dealer also must provide the customer with current bid and offer quotations for the penny stock, the compensation of the broker-dealer and its salesperson in the transaction, and monthly account statements showing the market value of each penny stock held in the customer's account. In addition, penny stock rules generally require that prior to a transaction in a penny stock, the broker-dealer make a special written determination that the penny stock is a suitable investment for the purchaser and receive the purchaser's written agreement to the transaction. These disclosure requirements may have the effect of reducing the level of trading activity in the secondary market for a stock that becomes subject to penny stock rules. Many brokers will not deal with penny stocks, restricting the market for our shares of common stock.
We do not intend to pay any cash dividends on our shares of Common Stock; thus our stockholders will not be able to receive a return on their shares unless they sell them.
We intend to retain any future earnings to finance the development and expansion of our business. We do not anticipate paying any cash dividends on our common stock in the foreseeable future. Unless we pay dividends, our stockholders will not be able to receive a return on their shares unless they sell them.
ITEM 1B.
ITEM 1B. UNRESOLVED STAFF COMMENTS
Not applicable.
ITEM 2.
ITEM 2. PROPERTIES
We do not own any real property. The Company's corporate office in Raleigh North Carolina consists of approximately 7,000 square feet. The lease term for the premises commenced in July 2013 and continues through December 2018. The lease contains an option to renew for two additional three-year terms.
Accounting principles generally accepted in the United States of America require that the total rent expense to be incurred over the term of the lease be recognized on a straight-line basis. Deferred rent represents the cumulative excess of the straight-line expense over the payments made. The average annual rent expense over the term of the lease is approximately $156,000.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
We are not involved in any pending legal proceedings that we anticipate would result in a material adverse effect on our business or operations.
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 currently quoted on the OTC Market (OTC.QB) under the symbol “MOST.” Although trading in our Common Stock has occurred on a relatively consistent basis, the volume of shares traded has been sporadic. There can be no assurance that an established trading market will develop, that the current market will be maintained or that a liquid market for our Common Stock will be available in the future. Investors should not rely on historical stock price performance as an indication of future price performance.
The following table shows the quarterly high and low bid prices for our Common Stock over the last two completed fiscal years as quoted on the OTC Market (OTC.QB). The prices represent quotations by dealers without adjustments for retail mark-ups, mark-downs or commission and may not represent actual transactions.
As of March 15, 2017 there were 158 holders of record of shares of our common stock.
Dividend Policy
We have never declared or paid any cash dividends on shares of our common stock and do not intend to declare or pay dividends for the foreseeable future. As long as the Notes are outstanding, we must receive approval from the bond representative designated by the Noteholders in order to pay any dividend on shares of our common stock.
Issuer Repurchases of Equity Securities
We do not have a stock repurchase program for our common stock and have not otherwise purchased any shares of our common stock.
Unregistered Sales of Equity Securities
The following paragraphs set forth certain information with respect to all securities sold by us during the three months ended December 31, 2016 without registration under the Securities Act.
Between October 1 and December 31, 2016, we issued two convertible promissory notes under the 2014 NPA in the aggregate principal amount of $1,700,000.
The financing was completed through a private placement and is exempt from registration pursuant to Section 4(a)(2) of the Securities Act of 1933, as amended. In claiming the exemption under Section 4(a)(2), we relied in part on the following facts: (1) the offer and sale involved one purchaser that holds other notes of our company; (2) the purchaser had access to information regarding MobileSmith; (3) the purchaser represented that it (a) had the requisite knowledge and experience in financial and business matters to evaluate the merits and risk of an investment in our company; (b) was able to bear the economic risk of an investment in our company; (c) will acquire the securities for its own account in a transaction not involving any general solicitation or general advertising, and not with a view to the distribution thereof; and (4) a restrictive legend will be placed on each certificate or other instrument evidencing the securities.
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
This discussion summarizes significant factors affecting the operating results, financial condition and liquidity of MobileSmith for the two-year period ended December 31, 2016. This discussion should be read in conjunction with the financial statements and notes thereto included in Part II, Item 8 “Financial Statements and Supplementary Data” of this Annual Report on Form 10-K and the more detailed discussion and analysis of our financial condition and results of operations in conjunction with the risks described in Part I, Item 1A, “Risk Factors” of this Annual Report on Form 10-K.
Overview
Mobile Apps Industry Developments
The mobile application industry continued to grow in 2016. Seventy-seven percent (77%) of U.S. adults now report owning a smartphone, according to Pew Research, a 5% increase from 2015 and a 72% increase from 2011 when the survey was first taken. The mobile health industry, a key focus industry for MobileSmith, has also grown considerably in the past two years with the revenue from mobile health (mHealth) apps reaching $13.5 billion in 2016 according to Research2Guidance and that figure is expected to double to $26.5 billion in 2017.
MobileSmith, as a major provider of mobile development tools to healthcare industry will continue to capitalize on its expert knowledge in patient user experience, user engagement and its ability to shorten the time of app delivery to market.
While hospital apps continue to be a primary growth target for MobileSmith, federal agencies and retail organizations are emerging as an area of strong focus. Federal government is intensifying citizen engagement programs and looking to Mobile App Development Platforms (MADPs) as a cost-effective way to deliver public-facing apps. Retail shopping apps are now the fastest growing app category in the U.S., and a necessary tool for ensuring competitive advantage in the marketplace.
Financing Activities and Sources of Cash
Since November 14, 2007 and through the present time, we have financed our working capital deficiency primarily through the issuance of our promissory notes under two convertible note facilities. The first, established in November 2007, is evidenced by the Convertible Secured Subordinated Note Purchase Agreement, dated November 14, 2007, as amended (as so amended, the “2007 NPA”) and the second, established in December 2014, is evidenced by the unsecured Convertible Subordinated Note Purchase Agreement (the “2014 NPA”; together with the 2007 NPA, the “Convertible Note Facilities”)) with Union Bancaire Privée, UBP SA ("UBP"). All references in this filing to “2007 NPA Notes” will mean notes issued under the 2007 NPA and all references to “2014 NPA Notes" will mean notes issued under the 2014 NPA. All references to the Notes will mean any convertible note or notes issued either under 2007 or 2014 NPAs.
Since November 14, 2007 and through December 10, 2014, we have financed our working capital deficiency primarily with the issuance of Notes under the 2007 NPA. On December 11, 2014 the Company entered into the 2014 NPA and issued its first 2014 NPA Note to UBP. We intend to primarily use our 2014 NPA for future issuance of convertible notes.
In June of 2016 we extended maturity of both 2007 and 2014 NPA Notes from November of 2016 to November of 2018.
During 2016, we borrowed a total of $5,450,000 under the 2014 NPA. The aggregate balance of the Notes as of December 31, 2016 was $40,336,219, net of discount of $1,218,781.
Amounts outstanding under the 2007 NPA are secured by a lien on all of our assets.
The table below summarizes convertible notes issued as of December 31, 2016 by NPA type:
Comerica LSA
We have an outstanding Loan and Security Agreement (LSA) with Comerica Bank pursuant to which approximately $5,000,000 are outstanding with an original maturity date of June 9, 2016. On May 24, 2016, the Company and Comerica Bank entered into First Amendment to the LSA, which extended the maturity of the LSA to June 6, 2018.
The LSA is secured by an extended irrevocable letter of credit issued by UBS AG (Geneva, Switzerland) with a renewed term expiring on May 31, 2017, which term is automatically renewable for one year periods, unless notice of non-renewal is given by UBS AG at least 45 days prior to the then current expiration date. The provision of any such notice by UBS will constitute an event of default under the LSA, at which time all amounts outstanding under the LSA will become due and payable. As of the date of this report on Form 10-K, no such notice has been provided to us nor have we been provided with any indication that we are to receive notice of non-renewal of the letter of credit.
COMPARISON OF THE YEAR ENDED DECEMBER 31, 2016 AND THE YEAR ENDED DECEMBER 31,
2016 Highlights
We continuously evaluate capabilities of our Platform and seek new industries where our Platform can deliver the greatest value. We also continuously evaluate needs of our current and potential customers, including healthcare customers, and seek to align our product offerings, new Platform features and customer service focus with those needs. During 2016 we concluded that in order to sustain our revenue growth, our Platform should be complemented by additional features that would produce for our customers accelerated return on investment by targeting specific challenging pain points in their operations. The newly adopted strategy was introduced during third quarter of 2016 and materialized in the creation of a suite of App Blueprints (or "Blueprints") - which are fully customizable apps that can be rapidly tailored by our customers to their own organization's structure and needs and quickly deployed to address their own specific variation of existing industry pain points. Our current suite of Blueprints targets customers in healthcare space. We have amassed over the past several years extensive experience in the mobile healthcare space and our new app Blueprints are designed to share that expertise with our Platform customers in a manner that is scalable and in line with our SaaS recurring revenue model.
Comparison of Operating Results
Results of Operations
Revenue increased by $44,807, or 2%. In the 2016 period, the Company experienced a decrease in sales growth mainly due to our re-evaluation of the Platform offerings, driven by changes in customer needs, and implementation of our new strategy which resulted in changes to sales and marketing operations. The implementation resulted in delayed sales execution and higher than expected customer churn. In addition, our revenues were impacted by one major contract for which revenue recognition has been deferred in compliance with United States Generally Accepted Accounting Principles ("US GAAP") revenue recognition requirements for sale of software products and services. Such deferred revenue totaled approximately $1,100,000 which comprised approximately 78% of the total deferred revenue balance. Once all revenue recognition criteria are met, the revenue will be recognized in accordance with our revenue recognition policy.
Cost of Revenue increased by $113,194, or 25%. Such increase is primarily attributable to the expansion of our Customer Success team, resulting from the reorganization of our existing workforce. Expansion of Customer Success team was necessary to support a major contract referenced in "Revenue" narrative above. The revenue on the contract is deferred in compliance with the US GAAP, when the cost of revenue is fully recognized when incurred.
Gross Profit decreased by $68,387, or 5%. The decrease is attributable to an increase in cost of revenue during the period, when revenue itself remained virtually flat.
Sales and Marketing expense decreased by $22,300, or 2%. Sales and marketing expenses are consistent year over year.
Research and Development increased by $273,445, or 19%. Such increase is attributable to an increase in base compensation expense, incentive compensation expense and workforce additions to support the growth of our development team. We believe that the current composition of our development team is sufficient for implementation of our research and development strategy and to support our growth.
General and Administrative expense increased by $147,593, or 12%. An increase of $61,500 is attributable to an increase in Chief Executive Officer's compensation upon promotion and addition of a fourth member to the Board. An increase of approximately $50,000 is attributable to employee stock based compensation as a result of issuances under the 2016 Equity Compensation plan and an increase of $34,000 is attributable to increase in bad debt expense.
Interest expense decreased by $508,624, or 10%. The cash part of interest expense increased by $401,035 due to an increase in the face value of our debt, which is offset by a decrease of $926,278 due to a reduction in the amortization of the debt discount as a result of extending the maturity date of the Notes by two years.
Liquidity and Capital Resources
We have not yet achieved positive cash flows from operations, and our main source of funds for our operations is the sale of our notes under the Convertible Note Facilities. We need to continue to rely on this source until we are able to generate sufficient cash from revenues to fund our operations or obtain alternate sources of financing. We believe that anticipated cash flows from operations, and additional issuances of Notes, of which no assurance can be provided, together with cash on hand, will provide sufficient funds to finance our operations at least for the next 12 months from the date of this report. Changes in our operating plans, lower than anticipated sales, increased expenses, or other events may cause us to seek additional equity or debt financing in future periods. There can be no guarantee that financing will be available to us under the Convertible Note Facilities or otherwise on acceptable terms or at all. Additional equity and convertible debt financing could be dilutive to the holders of shares of our common stock, and additional debt financing, if available, could impose greater cash payment obligations and more covenants and operating restrictions.
Nonetheless, there are factors that can impact our ability to continue to fund our operating the next twelve months. These include:
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Our ability to expand revenue volume;
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Our ability to maintain product pricing as expected, particularly in light of increased competition and its unknown effects on market dynamics;
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Our continued need to reduce our cost structure while simultaneously expanding the breadth of our business, enhancing our technical capabilities, and pursing new business opportunities.
In addition, if UBS were to elect to not renew the irrevocable letter of credit issued by it beyond May 31, 2017, the currently scheduled expiration date, then such non-renewal will result in an event of default under the LSA, at which time all amounts outstanding under the LSA of approximately $5 million will become due and payable. Currently, the letter of credit is automatically extended for one year periods, unless notice of non-renewal is given by UBS AG at least 45 days prior to the then current expiration date. As of the date of this report on Form 10-K, no such notice has been provided to us nor have we been provided with any indication that we are to receive notice of non-renewal of the letter of credit.
Additionally, all notes issued under the 2007 and 2014 NPAs mature on November 14, and Comerica LSA matures on June 6, 2018.
Uses of Cash
During the year ended December 31, 2016, we used in operating activities approximately $7.7 million, which was offset by $2.3 million in cash collected from our customers to arrive at approximately $5.4 million of net cash used in operating activities; of which approximately $3.2 million was used to pay interest payments on the Notes and bank debt; approximately $3.3 million was used for payroll, benefits and related costs; approximately $485,000 was used on non-payroll related sales and marketing efforts, such as tradeshows and marketing campaigns and approximately $722,000 was used for other non-payroll development and general and administrative expenses, which included among other things infrastructure costs, rent, insurance, legal, professional, compliance and other expenditures.
During the year ended December 31, 2015, we used in operating activities approximately $7.0 million, which was offset by $2.3 million in cash collected from our customers to arrive at approximately $4.7 million of net cash used in operating activities; of which approximately $3.0 million was used to pay interest payments on the Notes and bank debt; approximately $2.8 million was used for payroll, benefits and related costs; approximately $477,000 was used on non-payroll related sales and marketing efforts, such as tradeshows and marketing campaigns and approximately $675,000 was used for other non-payroll development and general and administrative expenses, which included among other things infrastructure costs, rent, insurance, legal, professional, compliance and other expenditures.
Capital Expenditures and Investing Activities
Our capital expenditures are limited to the purchase of new office equipment and new mobile devices that are used for testing. Cash used for investing activities was not significant and we do not plan any significant capital expenditures in the near future.
Going Concern
Our independent registered public accounting firm has issued an emphasis of matter paragraph in their report included in this Annual Report on Form 10-K in which they express substantial doubt as to our ability to continue as a going concern. The financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts or the amounts or classification of liabilities that might be necessary should we be unable to continue as a going concern. Our continuation as a going concern depends on our ability to generate sufficient cash flows to meet our obligations on a timely basis, to obtain additional financing that is currently required, and ultimately to attain profitable operations and positive cash flows. There can be no assurance that our efforts to raise capital or increase revenue will be successful. If our efforts are unsuccessful, we may have to cease operations and liquidate our business.
Critical accounting policies and estimates
The discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with generally accepted accounting principles in the United States. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate our estimates, including those related to revenue recognition, bad debts, intangible assets and income taxes. Our estimates are based on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. Actual results may differ from these estimates.
We have identified the accounting policies below as critical to our business operations and the understanding of our results of operations.
Revenue Recognition, Deferred Revenue and Multiple Element Arrangements
We follow U.S. GAAP principles of revenue recognition, which allows recognizing revenue only: (a) when an arrangement exists; (b) when the Company delivered its obligations under such arrangement; (c) when the fees are fixed or determinable; and (d) when collection of the fees billed is reasonably assured. Certain customers prepay the annual subscription fees at the beginning of the term. In such instances a deferred revenue liability is recorded on our balance sheet and the revenue is recognized as obligations under the agreement are fulfilled by us. Often Mobilesmith’s contracts combine various types of deliverables such as subscription fees and various professional services. Such Multiple-Element Arrangements are broken out into separate units of accounting aligned with various deliverables within the arrangement. The value of each deliverable within the arrangement is determined based on the best estimate of selling price (“BESP”) and the assigned value of each unit of accounting is recognized in revenue as individual obligations are delivered.
Sale of software takes place when the Company sells perpetual license to the Platform through installation in a private cloud. Revenue recognition begins when all elements of the agreement, besides post-contract customer support, are delivered (including installation). The software revenue is recognized ratably over the period of post-contract customer support.
We are planning to early adopt the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2014-9 Revenue from Contracts with Customers (Topic 606). The adoption of the standard will be effective January 1, 2017 and for the related interim periods. The new standard requires an entity to recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. We expect that the new standard will simplify our revenue recognition process and may result in acceleration of certain revenue that is currently included in our deferred revenue line item on the balance sheet. We expect to adopt a retrospective approach at the time of adoption, at which time cumulative effect of initially adopting the standard will be recognized in retained earnings as of the date of adoption and additional footnote disclosures will be included in the financial statements. Due to the complexity of certain of our subscription contracts, the actual revenue recognition treatment required under the standard will be dependent on contract specific terms.
Recoverability and Impairment of Long-Lived Assets
We evaluate the recoverability of our long-lived assets every reporting period or whenever events and circumstances indicate that the value may be impaired.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES 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
Stockholders of MobileSmith, Inc.
Raleigh, North Carolina
We have audited the accompanying consolidated balance sheets of MobileSmith, Inc. (the “Company”) as of December 31, 2016 and 2015, and the related consolidated statements of operations, stockholders’ deficit, and cash flows for each of the years in the two-year period ended December 31, 2016. The Company’s management is responsible for these consolidated financial statements. 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 audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. 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 also includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall consolidated 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 the Company as of December 31, 2016 and 2015, and the results of its operations and its cash flows for each of the years in the two-year period ended December 31, 2016, in conformity with accounting principles generally accepted in the United States of America.
The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 1 to the consolidated financial statements, the Company has suffered recurring losses from operations and has a working capital deficiency as of December 31, 2016. These conditions raise substantial doubt about the Company’s ability to continue as a going concern. Management’s plans concerning these matters are described in Note 1 to the consolidated financial statements. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.
/s/ CHERRY BEKAERT LLP
Raleigh, North Carolina
March 22, 2017
MOBILESMITH, INC.
CONSOLIDATED BALANCE SHEETS
MOBILESMITH, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
The accompanying notes are an integral part of these consolidated financial statements.
MOBILESMITH, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
The accompanying notes are an integral part of these consolidated financial statements.
MOBILESMITH, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ DEFICIT
FOR THE YEARS ENDED DECEMBER 31, 2016 AND 2015
The accompanying notes are an integral part of these consolidated financial statements.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2016 AND 2015
1.
SUMMARY OF BUSINESS AND DESCRIPTION OF GOING CONCERN
Description of Business and Going Concern
MobileSmith, Inc. (referred to herein as the “Company,” “us,” “we,” or “our”) was incorporated as Smart Online, Inc. in the State of Delaware in 1993. The Company changed its name to MobileSmith, Inc. effective July 1, 2013. The Company develops software products and services and targets businesses whose need is to connect with their stakeholders (customers, employees, broader public) through a variety of mobile devices and do so with the fastest time to market possible, while by-passing the need to write a single line of code. The Company’s flagship product is the MobileSmith® Platform (the “Platform”). The Platform is an innovative app development platform that enables organizations to rapidly create, deploy, and manage custom, native smartphone and tablet apps deliverable across iOS and Android mobile platforms without writing a single line of code.
These consolidated financial statements include accounts of the Company and its wholly-owned subsidiary, which was created to explore the concept of a consumer targeted mobile app development platform. From time to time, the Company may create additional wholly-owned subsidiaries in order to test various new services as a part of its research and development process. This subsidiary has not had material activity in 2015 or 2016.
The Company’s principal products and services include:
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Subscription to its Software as a Service (“SaaS”) cloud based mobile app development platform to customers who design and build their own apps;
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Dedicated internal and secure mobile development platform for the U.S. Department of Defense and related contractors;
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Custom mobile application design and development services;
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Mobile application marketing services; and
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Mobile strategy implementation consulting.
The accompanying consolidated financial statements have been prepared on a going concern basis, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. During the years ended December 31, 2016 and 2015, the Company incurred net losses, as well as negative cash flows from operations, and at December 31, 2016 and 2015, had deficiencies in working capital. These factors indicate that the Company may be unable to continue as a going concern. The financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts or the amounts or classification of liabilities that might be necessary should the Company be unable to continue as a going concern.
The Company’s continuation as a going concern depends upon its ability to generate sufficient cash flows to meet its obligations on a timely basis, to obtain additional financing as may be required, and ultimately to attain profitable operations and positive cash flows. Since November 2007, the Company has been funding its operations, in part, from the proceeds of the issuance of notes under a convertible secured subordinated note facility which was established in 2007, as well as, an unsecured convertible subordinated note facility established in 2014. As of December 31, 2016, the Company had $41,555,000 of face value outstanding under these facilities and the Company is entitled to sell to the investors additional notes under these facilities in an amount not exceeding $31,545,000, when requested to by the Company, subject to the terms and conditions specified in these facilities. There can be no assurance that the Company will in fact be able to raise additional capital through these facilities or even from other sources on commercially acceptable terms or at all.
In May 2016, Company management negotiated an extension of the Notes under the 2007 and 2014 NPA to mature in November of 2018, and refinanced the Comerica LSA by extending its maturity to June of 2018.
2.
SIGNIFICANT ACCOUNTING POLICIES
Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States (“US GAAP”) requires management to make estimates and assumptions in the Company’s financial statements and notes thereto. Significant estimates and assumptions made by management include the determination of the best estimate of selling price of the deliverables included in multiple-deliverable revenue arrangements, deferral of certain revenues, share-based compensation, allowance for accounts receivable, estimated useful lives of property and equipment, recoverability of capitalized software asset and other long lived assets. Actual results could differ from those estimates.
Fair Value of Financial Instruments
US GAAP requires disclosures of fair value information about financial instruments, whether or not recognized in the balance sheet, for which it is practicable to estimate that value. Due to the short period of time to maturity, the carrying amounts of cash equivalents, accounts receivable, accounts payable, accrued liabilities, and notes payable reported in the financial statements approximate the fair value.
Cash and Cash Equivalents
All highly liquid investments with an original maturity of three months or less are considered to be cash equivalents. The Federal Deposit Insurance Corporation (FDIC) covers $250,000 for substantially all depository accounts. The Company from time to time may have amounts on deposit in excess of the insured limits.
Revenue Recognition
The Company derives revenue primarily from subscription services charged to customers accessing the Platform and, to a much lesser degree, professional services provided in connection with subscription services.
The Company recognizes revenues when the following criteria have been met:
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persuasive evidence of an arrangement exists;
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delivery has occurred;
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the fees are fixed or determinable; and
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collection is considered reasonably assured.
Subscription Revenues
Subscription revenues are recognized ratably over the contract term of the arrangement beginning on the date that our service is made available to the customer. Amounts that have been invoiced are recorded in revenue or deferred revenue, depending on whether the revenue recognition criteria have been met.
Software Revenue
Sale of software takes place when the Company sells perpetual license to the Platform through installation in a private cloud. Revenue recognition begins when all elements of the agreement, besides post-contract customer support, are delivered (including installation). The software revenue is recognized ratably over the period of post-contract customer support in accordance with ASC 985-605.
Professional Services Revenues
Professional services revenues consist of fees for professional services, which relate to app design and development, training, system implementation and data integration, mobile application marketing services, and mobile strategy implementation consulting. These revenues are recognized as the services are rendered for time and material contracts and when the milestones are achieved and accepted by the customer for fixed-fee contracts.
Multiple-Element Arrangements
The Company evaluates each element in a multiple-element arrangement to determine whether it represents a separate unit of accounting. In order to account for deliverables in a multiple-deliverable arrangement as separate units of accounting, the deliverables must have standalone value upon delivery.
In determining whether professional service revenues have standalone value, the Company considers availability of professional services from other vendors, the nature of the Company’s professional services, and whether the Company sells professional services to customers without the subscription.
When multiple deliverables are included in an arrangement are separable into different units of accounting, the arrangement consideration is allocated to the identified separate units of accounting based on their relative selling price. Multiple-deliverable arrangements accounting guidance provides a hierarchy to use when determining the relative selling price for each unit of accounting.
Vendor-specific objective evidence (“VSOE”) of selling price, based on the price at which the item is regularly sold by the vendor on a standalone basis, should be used if it exists.
If VSOE of selling price is not available, third-party evidence (“TPE”) of selling price is used to establish the selling price if it exists. If VSOE of selling price and TPE of selling price are not available, then the best estimate of selling price (“BESP”) is to be used. VSOE and TPE do not currently exist for any of the Company’s deliverables. Accordingly, the Company uses its BESP to determine the relative selling price.
The Company determines its BESP for its deliverables based on its overall pricing objectives, taking into consideration market conditions and entity-specific factors. The Company evaluates its BESP by reviewing historical data related to sales of its deliverables. Total consideration under the contract is allocated to each of the separate units of accounting through application of the relative selling price method.
Deferred Revenue
Deferred revenue consists of billings or payments received prior to the date when revenue is recognized.
Cost of Revenues
Cost of revenues includes salaries of customer support teams, costs of infrastructure that supports the Platform, expenses for outsourced work to fulfill the contracted work, and amortization charges for the Platform.
Allowance for Doubtful Accounts
The Company maintains an allowance for doubtful accounts for estimated losses resulting from the inability or failure of its customers to make required payments. The need for an allowance for doubtful accounts is evaluated based on specifically identified amounts that management believes to be potentially uncollectible. If actual collections experience changes, revisions to the allowance may be required.
Property and Equipment
The Company records property and equipment at cost and provides for depreciation and amortization using the straight-line method for financial reporting purposes over the estimated useful lives. The estimated useful lives by asset classification are as follows:
Software Development Costs
The Company capitalized certain costs of development and subsequent enhancement of the Platform through the middle of 2013. The Company started capitalizing software development costs when technological feasibility of the Platform or its enhancements had been established. The Company expensed costs associated with preliminary project stage and research activities. The Company’s policy provided for the capitalization of certain payroll, benefits, and other payroll-related costs for employees who were directly associated with development.
During 2012, the Platform was substantially completed. During 2013, the Company’s development efforts became more driven by market requirements and rapidly changing customers’ needs. As a result, the Company’s development team adopted the Agile iterative approach to software development. Due to Agile’s short development cycles and focus on rapid production, the Company ceased capitalizing software development costs mid-way through 2013 as the documentation produced under the Agile method did not meet requirements necessary to establish technological feasibility. No development costs were capitalized in 2015 or 2016 and the Company does not expect to capitalize substantial development costs in the future.
Intangible Assets
Intangible assets consist of the perpetual license for critical Platform software, costs associated with the Company’s patent filings and other acquired intangible assets. The Company also owns several copyrights and trademarks related to products, names, and logos used throughout its non-acquired product lines.
Impairment of Long-Lived Assets
The Company evaluates the recoverability of its long-lived assets every reporting period or whenever events and circumstances indicate that the value may be impaired.
During 2016, the Company recorded a loss on impairment of intangible assets in the amount of $8,356, mostly related to impairment of previously capitalized software, which were replaced with new functionality in our Platform.
Advertising Costs
Advertising costs consist primarily of industry related tradeshows and marketing campaigns. Advertising costs are expensed as incurred, or the first time the advertising takes place, applied consistently based on the nature of the advertising activity. The amounts related to advertising during 2016 and 2015 were $382,932 and $342,718, respectively.
Share-Based Compensation
The Company measures share-based compensation cost at the grant date based on the fair value of the award. The Company recognizes compensation cost on a straight-line basis over the requisite service period. The requisite service period is generally three years. The compensation cost is recognized net of estimated forfeiture activity.
The fair value of option grants under the Company’s equity compensation plan during the year ended December 31, 2016 was estimated using the following weighted-average assumptions:
Net Loss Per Share
Basic net loss per share is computed by dividing net loss by the weighted average number of shares of common stock outstanding during the periods. Diluted net loss per share is computed using the weighted average number of common and dilutive common equivalent shares outstanding during the periods. Shares of common stock issuable upon conversion of Convertible Subordinated Promissory Notes (the “Notes”) and exercise of share-based awards are excluded from the calculation of the weighted average number, because the effect of the conversion and exercise would be anti-dilutive.
Recently Issued Accounting Pronouncements
The Company evaluates new significant accounting pronouncements at each reporting period. For the year ended December 31, 2016, the Company did not adopt any new pronouncement that had or is expected to have a material effect on the Company’s presentation of its consolidated financial statements.
In May 2014, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2014-9 Revenue from Contracts with Customers (Topic 606). This guidance requires an entity to recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. This guidance is effective for annual reporting periods beginning after December 15, 2017, and early adoption is permitted. The Company will adopt the standard early effective for annual reporting period beginning on January 1, 2017 and related interim reporting periods. The new standard requires an entity to recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. We expect that the new standard will simplify our revenue recognition process and may result in acceleration of certain revenue that is currently included in our deferred revenue line item on the balance sheet. We expect to adopt a retrospective approach at the time of adoption, at which time cumulative effect of initially adopting the standard will be recognized in retained earnings as of the date of adoption and additional footnote disclosures will be included in the financial statements. Due to the complexity of certain of our subscription contracts, the actual revenue recognition treatment required under the standard will be dependent on contract-specific terms.
The FASB's new leases standard ASU 2016-02 Leases (Topic 842) was issued on February 25, 2016. ASU 2016-02 is intended to improve financial reporting about leasing transactions. The ASU affects all companies and other organizations that lease assets such as real estate, airplanes, and manufacturing equipment. The ASU will require organizations that lease assets, referred to as "Lessees", to recognize on the balance sheet the assets and liabilities for the rights and obligations created by those leases. An organization is to provide disclosures designed to enable users of financial statements to understand the amount, timing, and uncertainty of cash flows arising from leases. These disclosures include qualitative and quantitative requirements concerning additional information about the amounts recorded in the financial statements. Under the new guidance, a lessee will be required to recognize assets and liabilities for leases with lease terms of more than 12 months. Consistent with current GAAP, the recognition, measurement, and presentation of expenses and cash flows arising from a lease by a lessee primarily will depend on its classification as a finance or operating lease. However, unlike current GAAP, which requires only capital leases to be recognized on the balance sheet, the new ASU will require both types of leases (i.e. operating and capital) to be recognized on the balance sheet. The FASB lessee accounting model will continue to account for both types of leases. The capital lease will be accounted for in substantially the same manner as capital leases are accounted for under existing GAAP. The operating lease will be accounted for in a manner similar to operating leases under existing GAAP, except that lessees will recognize a lease liability and a lease asset for all of those leases.
Public companies will be required to adopt the new leasing standard for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. Early adoption will be permitted for all companies and organizations upon issuance of the standard. For calendar year-end public companies, this means an adoption date of January 1, 2019 and retrospective application to previously issued annual and interim financial statements for 2018 and 2017. See Notes 5 and 6 for the Company's current lease commitments. The Company is currently in the process of evaluating the impact that this new leasing ASU will have on its financial statements.
Fair Value Measurements
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. The fair value hierarchy prescribed by the accounting literature contains three levels as follows:
Level 1 - Quoted prices in active markets for identical assets or liabilities.
Level 2 - Observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.
Level 3 - Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimations.
3.
PROPERTY AND EQUIPMENT AND CAPITALIZED SOFTWARE
Capitalized software consists of the following:
During the years ended December 31, 2016 and 2015, the Company recorded depreciation and amortization expense related to its property, equipment and capitalized software of $147,845 and $144,942, respectively.
The Company also recorded an impairment charge of $8,356 and $7,020 related to capitalized software during years ended December 31, 2016 and 2015, respectively.
4.
INTANGIBLE ASSETS
The following table summarizes information about the Company’s intangible assets:
During the years ended December 31, 2016 and 2015, the Company recorded amortization expense related to its intangible assets of $17,506 and $17,505, respectively.
The following table presents the estimated future amortization expense related to intangible assets held at December 31, 2016:
5.
DEBT
The table below summarizes the Company’s debt at December 31, 2016 and December 31, 2015:
Convertible Notes Overview
Since November 14, 2007 and through December 10, 2014, the Company financed its working capital deficiency primarily through the issuance of its notes (the “2007 NPA Notes”) under the Convertible Secured Subordinated Note Purchase Agreement, dated November 14, 2007, as amended (as so amended, the “2007 NPA”). On December 11, 2014 the Company entered into an unsecured Convertible Subordinated Note Purchase Agreement, amended (as so amended, the “2014 NPA”) with Union Bancaire Privée, UBP SA ("UBP") and has financed its operations through issuance of notes (the "2014 NPA Notes") through 2014 NPA.
During 2016, the Company raised gross proceeds of $5,450,000 from the private placement to UBP under 2014 NPA.
On May 17, 2016, the Company and the holders of the majority of the aggregate outstanding principal amount of 2014 NPA Notes and holders of the majority of the aggregate outstanding principal amount of the 2007 NPA Notes agreed to extend to November 14, 2018 the maturity date of the 2014 NPA Notes and the 2007 NPA Notes. Except as so extended, all of the terms relating to the outstanding 2007 Notes and the 2014 Notes continue in full force and effect. The Company is entitled to utilize the amounts available for future borrowing under each of the 2007 Note Purchase Agreement and the 2014 Note Purchase Agreement through November 14, 2018.
As a result of modification, any unamortized discount will be amortized into interest expense through the new maturity date of November 14, 2018.
The table below summarizes convertible notes issued as of December 31, 2016 by type:
Convertible notes issued under 2014 NPA
The aggregate principal amount of 2014 NPA Notes that may be issued under the 2014 NPA is $40 million, of which $11,000,000 had been borrowed as of December 31, 2016. The 2014 NPA Notes are convertible into shares of the Company’s common stock, par value $0.001 per share, and are subordinated to the $5 million outstanding under the Company’s Loan and Security Agreement (the “LSA”) with Comerica Bank and to any promissory notes outstanding under the Company’s existing 2007 NPA program.
The 2014 NPA Notes have the following terms:
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a maturity date of the earlier of (i) November 14, 2018, (ii) a Change of Control (as defined in the 2014 NPA), or (iii) when, upon or after the occurrence of an Event of Default (as defined in the 2014 NPA), other than for a bankruptcy related, such amounts are declared due and payable by at least two-thirds of the aggregate outstanding principal amount of the 2014 NPA Notes;
●
an interest rate of 8% per year, with accrued interest payable in cash in quarterly installments commencing on the third month anniversary of the date of issuance of the 2014 NPA Note with the final installment payable on the maturity date of the note;
●
a conversion price per share that is fixed at $1.43;
●
optional conversion upon noteholder request; provided that, if at the time of any such request, the Company does not have a sufficient number of shares of common stock authorized to allow for such conversion, the noteholder may only convert that portion of their Notes outstanding for which the Company has a sufficient number of authorized shares of common stock. To the extent multiple noteholders under the 2014 NPA, the 2007 NPA, or both, request conversion of its notes on the same date, any limitations on conversion shall be applied on a pro rata basis. In such case, the noteholder may request that the Company call a special meeting of its stockholders specifically for the purpose of increasing the number of shares of common stock authorized to cover conversions of the remaining portion of the notes outstanding as well as the maximum issuances contemplated pursuant to the Company’s 2004 Equity Compensation Plan, within 90 calendar days after the Company’s receipt of such request; and
●
may not be prepaid without the consent of holders of at least two-thirds of the aggregate outstanding principal amount of 2014 NPA Notes.
Convertible notes issued under 2007 NPA
The aggregate principal amount of 2007 NPA Notes that may be issued under the 2014 NPA is $33,300,000, of which $30,755,000 had been borrowed as of December 31, 2016. The 2007 NPA Notes are convertible into shares of the Company’s common stock, par value $0.001 per share, and are subordinated to the $5 million outstanding under the LSA with Comerica Bank.
As amended, the 2007 NPA Notes have the following terms:
●
a maturity date of the earlier of (i) November 14, 2018, (ii) a Change of Control (as defined in the amended 2007 NPA), or (iii) when, upon or after the occurrence of an Event of Default (as defined in the amended 2007 NPA) such amounts are declared due and payable by a 2007 NPA Noteholder or made automatically due and payable in accordance with the terms of the 2007 NPA;
●
an interest rate of 8% per year;
●
a total borrowing commitment of $33.3 million;
●
a conversion price that is fixed at $1.43; and
●
optional conversion upon 2007 NPA Noteholder request, provided that, if at the time of any such request, the Company does not have a sufficient number of shares of common stock authorized to allow for such conversion, as well as the issuance of the maximum amount of common stock permitted under the Company’s 2004 Equity Compensation Plan, the 2007 NPA Noteholder may request that the Company call a special meeting of its stockholders specifically for the purpose of increasing the number of shares of common stock authorized to cover the remaining portion of the Notes outstanding as well as the maximum issuances permitted under the 2004 Equity Compensation Plan.
Related Party Convertible Notes under 2007 and 2014 NPAs
Grasford, the Company’s largest stockholder, owns $13,826,282 in face value amount of 2007 NPA Notes as of December 31, 2016. Grasford is controlled by Avy Lugassy, one of the Company’s principal shareholders.
UBP owns $26,267,180 in combined face value amount of 2007 and 2014 NPA Notes as of December 31, 2016 and is considered a significant beneficial owner.
Crystal Management owns $730,769 in face value amount of 2007 NPA Notes as of December 31, 2016. Crystal Management is controlled by Doron Rotler, the second largest shareholder of the Company.
Interest expense for 2016 for convertible notes was $4,494,905, including amortization of discount of $1,408,973.
Interest expense for 2015 for convertible notes was $5,020,148, including amortization of discount of $2,335,151.
Comerica LSA
The Company has an outstanding Loan and Security Agreement with Comerica Bank dated June 9, 2014 with original maturity of June 9, 2016. On May 24, 2016, the Company and Comerica Bank entered into First Amendment to the LSA, which extended the maturity of the LSA to June 6, 2018.
The LSA with Comerica has the following terms:
●
a maturity date of June 9, 2018;
●
a variable interest rate at prime plus 0.6% payable quarterly;
●
secured by substantially all of the assets of the Company, including the Company’s intellectual property;
●
secured by an extended irrevocable SBLC issued by UBS AG (Geneva, Switzerland) (“UBS AG”) with an initial term expiring on May 31, 2015, which term is automatically renewable for one year periods, unless notice of non-renewal is given by UBS AG at least 45 days prior to the then current expiration date (no such notice has been given and SBLC was extended to expire on May 31, 2017); and
●
acceleration of payment of all amounts due thereunder upon the occurrence and continuation of certain events of default, including but not limited to, failure by the Company to perform its obligations, observe the covenants made by it under the LSA, failure to renew the UBS AG SBLC, and insolvency of the Company.
Capital Leases
On September 4, 2009, the Company entered into a sale transaction whereby it sold its computer equipment, furniture, fixtures and certain personal property located at its former principal executive offices in Durham, North Carolina (collectively, the “Equipment”) on an “as-is, where-is” basis to the holders of the Company’s Notes, on a ratable basis in proportion to their respective holdings of Notes, for $200,000 (“Purchase Price”). The Purchase Price was paid through a $200,000 reduction, on a ratable basis, in the outstanding aggregate principal amount of the Notes. The Purchase Price represented the fair market value of the Equipment based on an independent appraisal.
The payments on the lease are made monthly. The balance of the lease as of December 31, 2016 was $69,717.
In September 2013 the Company purchased furniture for its new office by execution of a five-year non-cancellable lease, which is accounted for as a capital lease. The unpaid balance on the lease as of December 31, 2016 is $14,044.
In July 2016, the Company acquired a vehicle, that it had been previously leasing since July of 2013. The vehicle is financed through a 5 year auto loan. The payments are made monthly. The unpaid balance on the note payable is $17,023.
The table below details future payments under capital leases:
6.
COMMITMENTS AND CONTINGENCIES
Operating Leases
On July 29, 2013, the Company signed a 65-month lease for new office space in Raleigh, North Carolina, effective October 30, 2013. The landlord built the space to the Company’s specifications and provided the Company with five months free rent as an incentive. Rent expense is being recognized over the entire 65-month term of the lease on a straight-line basis. The lease contains an option to renew for two, three-year terms. Monthly rent is approximately $14,000 per month.
The table below summarizes the Company’s future obligations under the new office lease:
Rent expense for the years ended December 31, 2016 and 2015 was $155,603 and $155,116, respectively.
Legal Proceedings
From time to time, the Company may be subject to routine litigation, claims or disputes in the ordinary course of business. The Company defends itself vigorously in all such matters. In the opinion of management, no pending or known threatened claims, actions or proceedings against the Company are expected to have a material adverse effect on its financial position, results of operations or cash flows. However, the Company cannot predict with certainty the outcome or effect of any such litigation or investigatory matters or any other pending litigations or claims. There can be no assurance as to the ultimate outcome of any such lawsuits and investigations. The Company will record a liability when it believes that it is both probable that a loss has been incurred and the amount can be reasonably estimated. The Company periodically evaluates developments in its legal matters that could affect the amount of liability that it has previously accrued, if any, and makes adjustments as appropriate. Significant judgment is required to determine both the likelihood of there being, and the estimated amount of, a loss related to such matters, and the Company’s judgment may be incorrect. The outcome of any proceeding is not determinable in advance. Until the final resolution of any such matters that the Company may be required to accrue for, there may be an exposure to loss in excess of the amount accrued, and such amounts could be material.
7.
STOCKHOLDERS’ DEFICIT
Common Stock
The Company is authorized to issue 100,000,000 shares of common stock, $0.001 par value per share. As of December 31, 2016, the Company had 19,827,542 shares of common stock outstanding. Holders of the Company’s shares of common stock are entitled to one vote for each share held.
Preferred Stock
The Board of Directors is authorized, without further stockholder approval, to issue up to 5,000,000 shares of $0.001 par value preferred stock in one or more series and to fix the rights, preferences, privileges, and restrictions applicable to such shares, including dividend rights, conversion rights, terms of redemption, and liquidation preferences, and to fix the number of shares constituting any series and the designations of such series. There were no shares of preferred stock outstanding at December 31, 2016 and 2015.
Equity Compensation Plans
2004 Equity Compensation Plan
The Company adopted its 2004 Equity Compensation Plan (the “2004 Plan”) as of March 31, 2004. The 2004 Plan provides for the grant of incentive stock options, non-statutory stock options, restricted stock, and other direct stock awards to employees (including officers) and directors of the Company as well as to certain consultants and advisors. The total number of shares of common stock reserved for issuance under the 2004 Plan is 5,000,000 shares, subject to adjustment in the event of a stock split, stock dividend, recapitalization, or similar capital change. The Company can’t make any new grants under the plan.
2016 Equity Compensation Plan
In May 2016, the Company’s shareholders authorized adoption of the approved MobileSmith Inc. 2016 Equity Compensation Plan for officers, directors, employees and consultants, initially reserving for issuance thereunder 15,000,000 shares of Common Stock.
The exercise price for incentive stock options granted under the above plans is required to be no less than the fair market value of the common stock on the date the option is granted, except for options granted to 10% stockholders, which are required to have an exercise price of not less than 110% of the fair market value of the common stock on the date the option is granted. Incentive stock options typically have a maximum term of 10 years, except for option grants to 10% stockholders, which are subject to a maximum term of five years. Non-statutory stock options have a term determined by either the Board of Directors or the Compensation Committee of the Board of Directors. Options granted under the plans are not transferable, except by will and the laws of descent and distribution.
A summary of the status of the stock option issuances as of December 31, 2016 and 2015, and changes during the periods ended on these dates is as follows:
At December 31, 2016, $1,073,959 of unvested expense remains to be recorded related to all options outstanding.
Exercise prices for options outstanding as of December 31, 2016 ranged between $.90 and $1.95.
8.
INCOME TAXES
The Company accounts for income taxes under the asset and liability method in accordance with the requirements of US GAAP. Under the asset and liability method, deferred income taxes are recognized for the tax consequences of “temporary differences” by applying enacted statutory tax rates applicable to future years to differences between the financial statement carrying amounts and the tax bases of existing assets and liabilities.
The balances of deferred tax assets and liabilities are as follows:
Under US GAAP, a valuation allowance is provided when it is more likely than not that the deferred tax asset will not be realized.
Total income tax expense related to continuing operations differs from expected income tax expense (computed by applying the U.S. federal corporate income tax rate of 34% to profit (loss) before taxes) as follows:
As of December 31, 2016, the Company had U.S. federal net operating loss (“NOL”) carryforwards of approximately $93 million, which expire between 2018 and 2038. For state tax purposes, the NOL carryforwards expire between 2017 and 2032. In accordance with Section 382 of the Internal Revenue Code of 1986, as amended, a change in equity ownership of greater than 50% of the Company within a three-year period can result in an annual limitation on the Company’s ability to utilize its NOL carryforwards that were created during tax periods prior to the change in ownership.
The Company has reviewed its tax positions and has determined that it has no significant uncertain tax positions at December 31, 2016.
9.
MAJOR CUSTOMERS AND CONCENTRATIONS
A customer that individually generates more than 10% of revenue is considered a major customer.
For the year ended December 31, 2016, one customer accounted for 15% of the Company’s revenue. Two customers accounted for 75% of net accounts receivable balance as of December 31, 2016. Two vendors accounted for 65% of accounts payable balance as of December 31, 2016.
For the year ended December 31, 2015, two customers accounted for 27% of the Company’s revenue. Three customers accounted for 72% of net accounts receivable balance as of December 31, 2015. Four vendors accounted for 93% of accounts payable balance as of December 31, 2015.
10.
EMPLOYEE BENEFIT PLAN
All full-time employees who meet certain age and length of service requirements are eligible to participate in the Company’s 401(k) Plan. The plan provides for contributions by the Company in such amounts as the Board of Directors may annually determine, as well as a 401(k) option under which eligible participants may defer a portion of their salaries. The Company contributed a total of approximately $37,000 and $28,000 to the plan during 2016 and 2015, respectively.
11.
SUBSEQUENT EVENTS
Subsequent to December 31, 2016, the Company sold one 2014 NPA Note to UBP in the total amount of $1,000,000 on the same terms as the currently outstanding 2014 NPA Notes. The note matures on November 14, 2018.
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
Our management, with the participation of our Chief Executive Officer and Chief Financial Officer has evaluated the effectiveness of our disclosure controls and procedures for the quarter ended December 31, 2016. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure. Management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, as ours are designed to do, and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on such evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of December 31, 2016, our disclosure controls and procedures were effective at the reasonable assurance level.
Management’s Report on Internal Control Over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rules 13a-15(f) and 15d-15(f). Our internal control system was designed to provide reasonable assurance to our management and the Board of Directors regarding the preparation and fair presentation of published financial statements.
Our internal control over financial reporting includes those policies and procedures that:
(i)
pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of our assets;
(ii)
provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors; and
(iii)
provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could have a material effect on the financial statements.
All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation.
In making the assessment of adequate internal control over financial reporting, our management used the criteria issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control-Integrated Framework (2013). Based on that assessment and those criteria, management believes that our internal control over financial reporting were effective as of December 31, 2016.
During our fourth quarter ended December 31, 2016, there were no changes made in our internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) of the Exchange Act) 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
None.
PART III
ITEM 10.
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE.
The following table sets forth certain information concerning the Company’s current executive officers and directors, their ages, their offices with the Company, if any, their principal occupations or employment for the past five years, their education and the names of other public companies in which such persons hold directorships as of March 19, 2017:
Name
Age
Position
Officer Since
EXECUTIVE OFFICERS:
Bob Dieterle
Chief Executive Officer
Gleb Mikhailov
Chief Financial Officer
Name
Age
Position
Director Since
DIRECTORS:
Randy J. Tomlin
Director, Chairman of the Board
Ronen Shviki
Director
Jon Campbell
Director
Amir Elbaz
Director
2010*
* Mr. Elbaz was Chief Executive Officer through January 17, 2017, a position he has held since May 2013.
Bob Dieterle, Chief Executive Officer
On January 17, 2017 the Board appointed Bob Dieterle, the Company's President, to serve as Chief Executive Officer of the Company.
Mr. Dieterle joined the Company in January of 2011 as a General Manager Mr. Dieterle is Chief Innovator of the Company’s flagship product, the MobileSmith™ Platform. Mr. Dieterle brings with him over 20 years of global technology experience from companies like IBM and Lenovo and is an accomplished thought leader in the adoption and commercialization of emerging technologies at the consumer and enterprise levels. Prior to joining the Company, Mr. Dieterle served as the Executive Director of World Wide Product Management and Marketing of Services at Lenovo from May 2006 to December 2009. Mr. Dieterle has a B.S. in Electrical Engineering from North Carolina State University, and an M.B.A. from Duke University’s Fuqua School of Business.
Gleb Mikhailov, Chief Financial Officer
Chief Financial Officer since April 2013. From January 2013 to March 2013, Mr. Mikhailov served as the Manager of Financial Reporting and SEC Consulting in the SEC Solutions Group of Citrin Cooperman, LLP, an accounting firm providing business solutions and accounting services to middle market companies. From January 2005 until December 2012, Mr. Mikhailov was employed by EisnerAmper LLP, a full-service advisory and public accounting firm, in its Private Business Services Group and Audit and Assurance Group. He was a Manager at EisnerAmper LLP since 2010. Mr. Mikhailov holds a B.A. in Accounting from Rutgers, The State University of New Jersey and an M.B.A. from Rutgers Business School. Mr. Mikhailov holds a CPA license issued by the State of New Jersey.
Amir Elbaz, Director
Until January of 2017 Mr. Elbaz held positions of Chief Executive Officer since May 2013 and Chairman of the Company’s Board of Directors since November of 2012. During his tenure as a member of the Board, and its Chairman and Company CEO, Mr. Elbaz has been actively involved in the Company operations and played significant role in ensuring that the Company's products and strategy had continued backing of investors and shareholders. Mr. Elbaz continues in the employ of the Company primarily focusing on investor and public relations and regulatory and operational compliance.
The Company believes Mr. Elbaz's significant experience in the technology sector, coupled with this extensive financial and economic background and his deep knowledge of our company provide invaluable insight with respect to the Company’s business and technologies.
Randy J Tomlin, Chairman of the Board
On January 17, 2017 the Board appointed current board member Randy J. Tomlin, age 57, to assume responsibilities of Chairman of the Board. Randy J. Tomlin was appointed to the Board on August 4, 2016.
Until his retirement in February 2016, Mr. Tomlin, served as a Senior Vice President ­U­Verse Field Operations for AT&T, a position he has held since March 2008. At U­Verse Field Operations for AT&T Mr. Tomlin was responsible for all field operations for AT&T U­verse, including service, installation at customer homes, repair and maintenance. From May 2006 to March 2008 Mr. Tomlin was a President of AT&T Network - California and Nevada, where he was in charge of teams that engineered, built and maintained the networks that carried all network traffic in two states. Mr. Tomlin began his career with Southwestern Bell in 1982, and has held various managerial positions in Customer Service, Network and External Affairs throughout his 34­year career at AT&T. During his career with AT&T he also served as Senior Vice President of Enterprise Operations Support, responsible for leading the Network Services Staff organization as well as the network standardization effort to move to common centers, best practices and a single suite of systems. Mr. Tomlin led many of SBC’s acquisitions integration activities, including AT&T, BellSouth, and Cingular. Mr. Tomlin received his bachelor’s degree in Finance from Texas A&M University in College Station, Texas.
Randy J. Tomlin’s contribution to the Board includes his experience in successfully running a complex division of a global technology company with simultaneous focus on customer service and operational efficiency. In addition, Mr. Tomlin’s vast recognition in the technology industry may benefit us in the form of product development insights from industry leaders, formation of valuable partnerships and other strategic opportunities.
Ronen Shviki, Director
Mr. Shviki has served on the Board since February 2013. Since January 2013, Mr. Shviki has served as the Vice President for Business Development of Mendelssohn Ltd., an Israeli distribution company. Prior to this, Mr. Shviki served in the Israel Defense Forces as a Colonel in the Army branch. Mr. Shviki holds a B.A. in Business Administration from Interdisciplinary Center Herzliya and an LLB from Interdisciplinary Center Herzliya.
The Company believes Mr. Shviki’s extensive marketing and management experience, in addition to his knowledge of the international marketplace, contributes to the strategic composition of the Board.
Jon Campbell, Director
Mr. Campbell has served on the Board since September 2013. Since April 2010 Mr. Campbell has been serving as President and Chief Executive Officer of Wilarah LLC, an international consulting firm focused on business development and change management both within the U.S. Government and private industry. Prior to this, Mr. Campbell served in the U.S. Army for over 26 years, retiring at the rank of Colonel.
The Company believes Mr. Campbell’s business development experience combined with his background in the U.S. Government will contribute to Company’s market penetration strategy of focusing on the government sector.
ADDITIONAL INFORMATION CONCERNING THE BOARD
Board Meetings
The Board met formally seven times during the year ended December 31, 2016. No director who served during 2016 attended fewer than 75% of the meetings of the Board or of the committees of the Board of which such director was a member.
The Board does not have a formal policy with respect to Board members’ attendance at annual stockholder meetings, although it encourages directors to attend such meetings.
Code of Ethics
The Company has adopted a Code of Ethics applicable to its executives, including the principal executive officer, principal financial officer, and principal accounting officer, as defined by applicable rules of the SEC. The Company will promptly deliver free of charge, upon request, a copy the Code of Ethics to any stockholder requesting a copy. Requests should be directed to the Company’s Chief Financial Officer at 5400 Trinity Rd., Suite 208, Raleigh, NC, 27607. If the Company makes any amendments to the Code of Ethics other than technical, administrative, or other non-substantive amendments, or grants any waivers, including implicit waivers, from a provision of the Code of Ethics to the Company’s Chief Executive Officer, Chief Financial Officer, Chief Operating Officer or certain other finance executives, the Company will disclose the nature of the amendment or waiver, its effective date, and to whom it applies in a Current Report on Form 8-K.
The Board
The size of the Board is currently fixed at four members. The Board believes that the current number of directors is appropriate at this time; however, the Board will consider adding members in the future with additional skills and professional connections that will be of benefit to the Company.
We do not have any defined policy or procedure requirements for stockholders to submit recommendations or nominations for directors. The board of directors believes that, given the stage of our development, a specific nominating policy would be premature and of little assistance until our business operations develop to a more advanced level. Our company does not currently have any specific or minimum criteria for the election of nominees to the board of directors and we do not have any specific process or procedure for evaluating such nominees. The board of directors will assess all candidates, whether submitted by management or stockholders, and make recommendations for election or appointment. A shareholder who wishes to communicate with our board of directors may do so by directing a written request addressed to our Chief Executive Officer, Bob Dieterle, at the address appearing on the first page of this report.
Audit Committee and Audit Committee Financial Expert
At present we do not have a separately designated standing audit committee. The entire board of directors is acting as our Audit Committee, as specified in section 3(a)(58)(b) of the Exchange Act. The board of directors has determined that at present we have no audit committee financial expert serving on the board. Our board of directors believes that retaining an independent director who would qualify as an “audit committee financial expert” would be overly costly and burdensome and is not warranted in our circumstances given the stage of our company. As we generate significant revenue in the future, we intend to form a standing audit committee and identify and appoint a financial expert to serve on the audit committee.
Section 16(a) Beneficial Ownership Reporting Compliance
The members of the Board, its executive officers, and persons who hold more than 10% of the Company’s outstanding shares of common stock, $0.001 par value per share, or common stock, are subject to the reporting requirements of Section 16(a) of the Securities Exchange Act of 1934, as amended, or the Exchange Act, which requires them to file reports with respect to their ownership of the Company’s common stock and their transactions in such common stock. Based upon the Company’s review of the Section 16(a) reports in its records for fiscal year 2014 transactions in the Company’s common stock, the Company believes that all reporting requirements under Section 16(a) for fiscal year 2016 were met in a timely manner by its directors, executive officers, and greater than 10% beneficial owners, except that Union Bancaire Privée, or UBP, has not filed a Form 3 or any subsequent reports in respect of its ownership of $26,267,180 in principal amount of the Company’s convertible Notes, as of December 31, 2016, which Notes may be converted into shares of the Company’s common stock by UBP at any time upon notice.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION.
The following table sets forth the total compensation received for services rendered in all capacities to our Company for the last two fiscal years, which was awarded to, earned by, or paid to our Chief Executive Officer, and Chief Operating Officer and our other most highly compensated (former) executive officers whose total compensation exceeded $100,000 during 2016, which we refer to collectively as our "Named Executive Officers."
SUMMARY COMPENSATION TABLE
(1)
Amounts in this column reflect the aggregate grant date fair value computed in accordance with FASB ASC 718 with respect to employee stock options granted under our Equity Incentive Plan. The assumptions used to calculate the fair value of stock option grant are set forth in Note 2 (Significant Accounting Policies) to our financial statements, which are included in the Annual Report on Form 10-K. The grant-date fair value does not necessarily reflect the value of shares which may be received in the future with respect to these awards. The fair value of the stock options will likely vary from the actual value the holder receives because the actual value depends on the number of options exercised and the market price of our Common Stock on the date of exercise.
(2)
Mr. Elbaz has served on the Board since January 2010, as Chairman of the Board since November 2012 and as Chief Executive Officer of the Company since May 1, 2013. Mr. Elbaz resigned from his positions of a Chairman and CEO in January of 2017.
(3)
Mr. Dieterle has served as Senior Vice President and General Manager of the Company since February 2011 and Chief Operating Officer since May 13, 2014 and as CEO since January 17, 2017. Mr. Dieterle receives monthly commissions tied to revenue realized from customers. Such commissions are included in "All Other Compensation" column in the table above.
Grants of Plan-­Based Awards for Year Ended December 31,
The following table sets forth information on grants of plan-based awards in 2016 to our Named Executive Officers.
Outstanding Equity Awards
The following table provides information about outstanding equity awards held by the named executive officers as of December 31, 2016:
OUTSTANDING EQUITY AWARDS AT 2016 FISCAL YEAR-END
Option Exercises and Stock Vested in 2016
None of our named executive officers acquired shares upon exercise of options during the year; 18,518 shares previously granted to the named executive officers vested during the year.
Employment Agreement
We and Bob Dieterle entered into an employment agreement dated as of February 1, 2010, pursuant to which Mr. Dieterle served as our General Manager, Senior Vice President of Operations, Chief Operating Officer through January 17, 2017, whereupon he was appointed as our Chief Executive Officer. Under the agreement, Mr. Dieterle was paid an annual salary at the per annum rate of $180,000 in the year 2016. The agreement contains certain provisions for early termination and change in control, which may result in a severance payment equal up to one year of base salary then in effect. These severance benefits are discussed in more detail below under “Potential Payments upon Change of Control or Termination following a Change of Control.” In addition, Mr. Dieterle received in 2016 approximately $21,000 as commissions in respect of revenues recorded by us for such year. The agreements includes certain confidentiality and non-compete provisions that prohibit the executive from competing with us, or soliciting our employees, for such period as he is receiving payments from our company following the termination of his employment.
We have not entered into employment agreement with any of the other named executive officers.
Potential Payments upon Change of Control or Termination following a Change of Control
Assuming the employment of Mr. Dieterle, our Chief Executive Officer, was terminated involuntarily and without cause, or that he resigned with good reason, prior to a change of control occurring on December 31, 2016, he would have been entitled to cash payments equal to the amounts set forth in the below table, subject to any deferrals required under Section 409A of the Internal Revenue Code of 1986, as amended (the “Code”). The following table summarizes the value of compensation and benefits as a result of a termination occurring prior to a change of control as of December 31, 2016.
Assuming the employment of Mr. Dieterle was terminated involuntarily and without cause, or that he resigned with good reason during the 12 months following a change of control occurring on December 31, 2016, in accordance with the terms of the employment agreements with him he would have been entitled to cash payments in the amounts below, subject to any deferrals required under the Code. The following table summarizes the value of compensation and benefits as a result of a termination occurring immediately following a change of control as of December 31, 2014:
Other than as specified above, we currently have no arrangements with any of the other named executive officers with respect to payments in connection with a termination of their employment or a change in control of the Company.
Compensation of Directors
The following table summarizes the compensation paid to the directors for the fiscal year ended December 31, 2016, not covered in the tables above.
DIRECTOR COMPENSATION
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.
Principal Stockholders and Share Ownership by Management
The following table sets forth information regarding beneficial ownership of the Company’s common stock as of March 21, 2017, by (i) each person who is known by the Company to beneficially own more than 5% of the Company’s common stock; (ii) each person who served as a named executive officer of the Company in fiscal year 2016, (iii) each person serving as a director or nominated for election as a director; and (iv) all current executive officers and directors as a group. Except as otherwise indicated by footnote, to the Company’s knowledge, the persons named in the table below have sole voting and investment power with respect to all shares of the Company’s common stock shown as beneficially owned by them.
* Less than 2%.
(1) Unless otherwise indicated, the address of such individual is c/o MobileSmith, Inc., 5400 Trinity Road, Suite 208, Raleigh, North Carolina 27607.
(2) In computing the number of shares beneficially owned by a person and the percentage ownership of a person, shares of our common stock subject to options held by that person that are currently exercisable or exercisable within 60 days of the Record Date are deemed outstanding. Such shares, however, are not deemed outstanding for purposes of computing the percentage ownership of each other person. Except as indicated in the footnotes to this table and pursuant to applicable community property laws, the persons named in the table have sole voting and investment power with respect to all shares of common stock.
(3) The record holder of the shares is Grasford Investments Ltd., or Grasford, which is controlled by Mr. Lugassy, as principal. Beneficial ownership is comprised of 8,830,269 shares of the Company’s common stock and 9,668,729 shares issuable upon conversion of the Company's Convertible Notes due November 2016 (the "Convertible Notes") held by Grasford.
(4) Comprised of shares of the Company’s common stock issuable upon conversion of the Convertible Notes.
(5) Comprised of 2,332,807 shares of Common Stock held as of record by Mountain Top LTD., a British Anguilla company (an entity controlled by Mr. Rotler), 85,900 shares held in the name of Mr. Rotler and 511,027 shares of the Company’s common stock issuable upon conversion of Convertible Notes held by Crystal Management Ltd., a company registered in Anguilla, (entity controlled by Mr. Rotler).
(6) Comprised of 20,000 shares of the Company’s common stock issuable upon exercise of vested plan options.
Equity Compensation Plans
The following table provides information, as of December 31, 2016, regarding the Company’s compensation plans (including individual compensation arrangements) under which the Company is authorized to issue equity securities.
EQUITY COMPENSATION PLAN INFORMATION
(1)
Consists of shares issuable upon exercise of outstanding options under the Company’s 2004 and 2016 Equity Compensation Plans.
(2)
All of the shares remaining for future issuance under the 2016 Equity Compensation Plan are available for issuance as options or restricted stock awards.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE.
Certain Relationships and Related Transactions
Sale Leaseback of Company Equipment with Noteholders. On September 4, 2009, the Company entered into a sale­-leaseback agreement with the current holders of the Notes. The noteholders paid a market rate cost of $200,000 through the reduction of current outstanding debt under such Notes in exchange for all of the Company’s office furniture, equipment and computers. The noteholders then leased all furniture, equipment and computers back to the Company over a 10­year period. The purchase price of $200,000 represented the fair market value of the equipment based on an independent appraisal of the equipment by Dynamic Office Services and Coastal Computers, which are not affiliated with the Company.
Sale of Convertible Notes to Certain Related Parties. As of March 21, 2017, the Company had $42.6 million of convertible Notes outstanding of which Grasford, an affiliated party, held $13.8 million and UBP, significant beneficial owner, held $27.3 million. During 2016, the Company paid approximately $1,106,000 and $1,811,000 in interest to Grasford and UBP, respectively, for the aggregate amount of Notes held by them.
Sale of 2014 NPA Notes to Certain Related Parties
During 2016 the Company issued Convertible Notes in aggregate principal amount of $5,450,000 to UBP under the following terms:
●
a maturity date of the earlier of (i) November 14, 2018, (ii) a Change of Control (as defined in the 2014 NPA), or (iii) when, upon or after the occurrence of an Event of Default (as defined in the 2014 NPA), such amounts are declared due and payable by a noteholder or made automatically due and payable in accordance with the terms of the Note.
●
an interest rate of 8% per year, with accrued interest payable in cash in quarterly installments commencing on the third month anniversary of the date of issuance of the Note with the final installment payable on the maturity date of the Convertible Note.
●
a conversion price per share that is fixed at $1.43.
●
may not be prepaid without the consent of holders of at least two ­thirds of the aggregate outstanding principal amount of Notes issued under the 2014 NPA.
Policy for Approval of Related Party Transactions
The Company requires that any related party transactions must be approved by the full Board of Directors.
ITEM 14.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES.
Audit and Non-Audit Fees
Aggregate fees for professional services rendered for the Company by Cherry Bekaert LLP, our independent registered public accounting firm, for the fiscal years ended December 31, 2016 and 2015 are set forth below.
Audit Fees were for professional services rendered for the audits of our consolidated financial statements, quarterly review of the financial statements included in Quarterly Reports on Form 10-Q, consents, and other assistance required to complete the year-end audit of the consolidated financial statements.
Our full Board pre-approves all audit and permissible non-audit services to be provided by our independent registered public accountants and the estimated fees for these services. None of the services provided by the independent registered public accountants that are described above were approved by the Audit Committee pursuant to a waiver of the pre-approval requirements of the SEC’s rules and regulations.
PART IV
ITEM 15.
ITEM 15. EXHIBITS
(b) Exhibits
Exhibit Description
No.
_________________
* Management contract or compensatory plan.
ITEM 16. SUMMARY
None.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
MOBILESMITH INC.
(Registrant)
/s/ Bob Dieterle
/s/ Gleb Mikhailov
Bob Dieterle
Gleb Mikhailov,
Chief Executive Officer (Principal Executive Officer)
Chief Financial Officer (Principal Financial Officer and Accounting Officer)
Date: March 22, 2017
Date: March 22, 2017
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
March 22, 2017
By:
/s/ Bob Dieterle
Bob Dieterle
Chief Executive Officer
(principal executive officer)
March 22, 2017
By:
/s/ Gleb Mikhailov
Gleb Mikhailov
Chief Financial Officer
(principal financial and accounting officer)
March 22, 2017
By:
/s/ Randy J. Tomlin
Randy J. Tomlin
Chairman of the Board of Directors
March 22, 2017
By:
/s/ Amir Elbaz
Amir Elbaz
Director
March 22, 2017
By:
/s/ Ronen Shviki
Ronen Shviki
Director
March , 22
By
/s/ Jon Campbell
Jon Campbell
Director
EXHIBIT INDEX
_________________
* Management contract or compensatory plan.